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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 March 31, 2005
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
--------------------------------------------
CALIFORNIA WATER SERVICE GROUP
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 77-0448994
- --------------------------------------------------------------------------------
(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)
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
May 2, 2005 - 18,372,496.
TABLE OF CONTENTS
Page
----
PART I Financial Information
Item 1 Financial Statements............................................... 3
Condensed Consolidated Balance Sheets (unaudited)
March 31, 2005 and December 31, 2004............................. 4
Condensed Consolidated Statements of Income (unaudited)
For the Three Months Ended March 31, 2005 and 2004............... 5
Condensed Consolidated Statements of Cash Flows (unaudited)
For the Three Months Ended March 31, 2005 and 2004............... 6
Notes to Condensed Consolidated Financial Statements............... 7
Item 2 Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................ 13
Item 3 Quantitative and Qualitative Disclosure about Market Risk.......... 25
Item 4 Controls and Procedures............................................ 25
PART II Other Information
Item 1 Legal Proceedings.................................................. 26
Item 4 Submission of Matters to a Vote of Security Holders................ 26
Item 6 Exhibits........................................................... 27
Signatures......................................................... 28
Index to Exhibits.................................................. 29
2
PART I FINANCIAL INFORMATION
Item 1.
FINANCIAL STATEMENTS
The condensed consolidated financial statements presented in this
filing on Form 10-Q have been prepared by management and are unaudited.
3
CALIFORNIA WATER SERVICE GROUP
CONDENSED CONSOLIDATED BALANCE SHEETS
Unaudited
(In thousands, except per share data)
March 31, December 31,
2005 2004
----------- -----------
ASSETS
Utility plant:
Utility plant $ 1,160,399 $ 1,144,074
Less accumulated depreciation and amortization 350,884 343,769
----------- -----------
Net utility plant 809,515 800,305
----------- -----------
Current assets:
Cash and cash equivalents 28,298 18,820
Receivables:
Customers 13,626 15,867
Income taxes -- 7,298
Other 3,422 3,147
Unbilled revenue 8,391 9,307
Materials and supplies at average cost 3,396 3,161
Prepaid pension expense 1,976 3,671
Taxes and other prepaid expenses 7,866 9,122
----------- -----------
Total current assets 66,975 70,393
----------- -----------
Regulatory assets
54,325 53,477
Other assets 19,575 18,678
----------- -----------
$ 950,390 $ 942,853
=========== ===========
CAPITALIZATION AND LIABILITIES
Capitalization:
Common stock, $.01 par value $ 184 $ 184
Additional paid-in capital 131,418 131,271
Retained earnings 152,257 156,851
Accumulated other comprehensive loss (701) (701)
----------- -----------
Total common stockholders' equity 283,158 287,605
Preferred stock 3,475 3,475
Long-term debt, less current maturities 274,414 274,821
----------- -----------
Total capitalization 561,047 565,901
----------- -----------
Current liabilities:
Current maturities of long-term debt 1,100 1,100
Short-term borrowings -- --
Accounts payable 23,134 19,745
Accrued expenses and other liabilities 42,545 36,367
----------- -----------
Total current liabilities 66,779 57,212
Unamortized investment tax credits 2,721 2,721
Deferred income taxes 54,555 54,826
Regulatory and other liabilities 36,072 35,986
Advances for construction 133,906 131,292
Contributions in aid of construction 95,310 94,915
Commitments and contingencies -- --
----------- -----------
$ 950,390 $ 942,853
=========== ===========
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements
4
CALIFORNIA WATER SERVICE GROUP
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
Unaudited
(In thousands, except per share data)
For the three months ended: March 31, March 31,
2005 2004
-------- --------
Operating revenue $ 60,303 $ 60,240
-------- --------
Operating expenses:
Water production costs 19,821 21,161
Other operations 21,943 20,337
Maintenance 3,658 3,181
Depreciation and amortization 6,996 6,518
Income taxes 455 958
Property and other taxes 2,965 2,694
-------- --------
Total operating expenses 55,838 54,849
-------- --------
Net operating income 4,465 5,391
-------- --------
Other income and expenses:
Non-regulated income, net 638 550
Gain (loss) on sale of non-utility property (2) 1
-------- --------
Total other income and expenses 636 551
-------- --------
Interest expense:
Interest expense 4,646 4,646
Less: capitalized interest 225 150
-------- --------
Total interest expense 4,421 4,496
-------- --------
Net income $ 680 $ 1,446
======== ========
Earnings per share
Basic $ 0.03 $ 0.08
======== ========
Diluted $ 0.03 $ 0.08
======== ========
Weighted average shares outstanding
Basic 18,371 16,932
======== ========
Diluted 18,403 16,953
======== ========
Dividends per share of common stock $ 0.2850 $ 0.2825
======== ========
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements
5
CALIFORNIA WATER SERVICE GROUP
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Unaudited
(In thousands)
For the three months ended: March 31, March 31,
2005 2004
-------- --------
Operating activities
Net income $ 680 $ 1,446
-------- --------
Adjustments to reconcile net income to net cash
Provided by operating activities:
Depreciation and amortization 6,996 6,518
Deferred income taxes, investment tax credits
regulatory assets and liabilities, net (1,061) (175)
Gain (loss) on sale of non-utility property 2 (1)
Changes in operating assets and liabilities:
Receivables 9,264 4,353
Unbilled revenue 916 407
Taxes and other prepaid expenses 2,951 (649)
Accounts payable 3,389 (5,512)
Other current assets (235) 82
Other current liabilities 6,177 4,176
Other changes, net (527) (1,107)
-------- --------
Net adjustments 27,872 8,092
-------- --------
Net cash provided by operating activities
28,552 9,538
-------- --------
Investing activities:
Utility plant expenditures:
Company funded (14,743) (8,168)
Developer funded (2,540) (3,444)
Proceeds from sale of non-utility property -- 6
-------- --------
Net cash used by investing activities (17,283) (11,606)
-------- --------
Financing activities:
Net short-term borrowings -- 3,346
Payment of long-term debt (407) (183)
Advances for construction 3,688 2,652
Refunds of advances for construction (1,074) (1,223)
Contributions in aid of construction 1,129 1,528
Issuance of common stock 147 --
Dividends paid (5,274) (4,822)
-------- --------
Net cash (used in) provided by financing activities (1,791) 1,298
-------- --------
Change in cash and cash equivalents 9,478 (770)
Cash and cash equivalents at beginning of period 18,820 2,856
-------- --------
Cash and cash equivalents at end of period $ 28,298 $ 2,086
======== ========
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements
6
CALIFORNIA WATER SERVICE GROUP
Notes to Condensed Consolidated Financial Statements
March 31, 2005
Note 1. Organization and Operations
California Water Service Group (the Company) is a holding company with five
wholly owned subsidiaries that provide water utility and other related
services in California, Washington, New Mexico and Hawaii. 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 covered. 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,
2004, included in its Form 10-K as filed with the Securities and Exchange
Commission on March 15, 2005.
Note 3. Stock-based Compensation
The Company had a stockholder-approved Long-Term Incentive Plan (which was
replaced on April 27, 2005, by a stockholder-approved Equity Incentive
Plan) that allows granting of non-qualified 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 SFAS No. 123, applies Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees," to its plan. All
outstanding options had an exercise price equal to the market price on the
date they were granted. No compensation expense was recorded for either of
the three-month periods ended March 31, 2005 and 2004 related to stock
options. No options were granted during either period.
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.
7
(In thousands, except per share data)
Three Months
Ended
March 31
-----------------
2005 2004
------ --------
Net income, as reported $ 680 $ 1,446
Less preferred dividends 38 38
------ --------
Net income available to common stockholders 642 1,408
Deduct: Total stock-based employee compensation
expense determined under fair value
method for all awards, net of related tax effects 12 17
------ --------
Pro forma net income available to
common stockholders $ 630 $ 1,391
====== ========
Earnings per share
Basic - as reported $0.03 $0.08
Basic - pro forma $0.03 $0.08
Diluted - as reported $0.03 $0.08
Diluted - pro forma $0.03 $0.08
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 rainfall curtail water usage and
sales.
Note 5. Earnings Per Share Calculations
The computations of basic and diluted earnings per share are noted below.
Common stock options to purchase 116,250 and 149,250 shares for the three
months ended March 31, 2005 and 2004, respectively, were outstanding.
8
(In thousands, except per share data)
Three Months
Ended March 31
-------------------
2005 2004
------- -------
Net income $ 680 $ 1,446
Less preferred dividends 38 38
------- -------
Net income available to common stockholders $ 642 $ 1,408
======= =======
Weighted average common shares, basic 18,371 16,932
Dilutive common stock options (treasury method) 32 21
------- -------
Shares used for dilutive computation 18,403 16,953
======= =======
Net income per share - basic $ 0.03 $ 0.08
------- -------
Net income per share - diluted $ 0.03 $ 0.08
------- -------
Note 6. Pension Plan and Other Postretirement Benefits
The Company provides a qualified, defined-benefit, non-contributory pension
plan for substantially all employees. The Company makes annual
contributions to fund the amounts accrued for the qualified pension plan.
The Company also maintains an unfunded, non-qualified, supplemental
executive retirement plan. The costs of the plans are charged to expense
and utility plant.
The Company offers medical, dental, vision, and life insurance benefits for
retirees and their spouses and dependents. Participants are required to pay
a premium, which offsets a portion of the cost.
Payments by the Company related to pension plan and other postretirement
benefits were $74,000 for the three months ended March 31, 2005. The
estimated funding for 2005 is $7,100,000.
The following table lists components of the pension plans and other
postretirement benefits. The data listed under "pension plan" includes the
qualified pension plan and the non-qualified executive supplemental
retirement plan. The data listed under "other benefits" is for all other
post retirement benefits.
9
(In thousands)
Three Months Ended March 31
Pension Plan Other Benefits
------------------ ------------------
2005 2004 2005 2004
------- ------- ------- -------
Service cost $ 1,194 $ 1,137 $ 443 $ 305
Interest cost 1,499 1,364 448 342
Expected return on plan assets (1,378) (1,219) (97) (86)
Recognized net initial APBO N/A N/A 69 69
Amortization of prior service cost 487 424 19 19
Recognized net actuarial (gain) loss 54 34 195 84
------- ------- ------- -------
Net periodic benefit cost $ 1,856 $ 1,740 $ 1,077 $ 733
======= ======= ======= =======
APBO - Accumulated postretirement benefit obligation
The "other benefits" amount of $1,077,000 for the quarter ended March 31,
2005, includes a reduction of $182,000 representing the estimated reduction
for Medicare subsidies to comply with FASB Staff Position (FSP) No. 106-2,
"Accounting and Disclosure Requirements Related to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003," which was
implemented by the Company in the third quarter of 2004. Therefore, no such
reduction was estimated for the amounts as shown for the quarter ended
March 31, 2004.
Postretirement benefit expense for "other benefits" recorded in the first
quarter of 2005 and 2004 was $257,000 and $388,000, respectively. As of
March 31, 2005, the Company had a regulatory asset of $9,814,000 related to
postretirement benefits, which is expected to be recovered through future
customer rates.
Note 7. Gains on Sale of Property
In 1995, the California Legislature enacted the Water Utility
Infrastructure Improvement Act of 1995 (Infrastructure Act) to encourage
water utilities to sell surplus properties and reinvest in needed water
utility facilities. In September 2003, the California Public Utilities
Commission (CPUC) issued decision D.03-09-021 in Cal Water's 2001 GRC
filing. In this decision, the CPUC ordered Cal Water to file an application
setting up an Infrastructure Act memorandum account with an up-to-date
accounting of all real property that was at any time in rate base and that
Cal Water had sold since the effective date of the Infrastructure Act.
Additionally, the decision directed the CPUC staff to file a detailed
report on its review of Cal Water's application. On January 11, 2005, the
Office of Ratepayers Advocates (ORA) issued a report expressing its opinion
that Cal Water had not proven that surplus properties sold since 1996 were
no longer used and useful. The ORA recommended that Cal Water be fined
$160,000 and that gains from property sales should generally benefit
ratepayers.
10
During the period under review, Cal Water's cumulative gains from surplus
property sales were $19.2 million, which included an inter-company gain
related to a transaction with Utility Services and a like-kind exchange
with a third party. If the CPUC finds any surplus property sale or transfer
was recorded inappropriately, Cal Water's rate base could be reduced, which
would lower future revenues, net income, and cash flows. In early April,
the parties submitted testimony and briefs and the Administrative Law Judge
held an evidentiary hearing. The Company expects to receive a proposed
decision sometime within the second or third quarter. Management believes
it has fully complied with the Infrastructure Act and that ORA's
conclusions and recommendations are without merit. Cal Water intends to
vigorously oppose ORA's findings. Accordingly, Cal Water has not accrued a
liability in the financial statements for ORA's recommendations. At this
time, Cal Water does not know how the CPUC will rule in this matter.
Note 8. Recent Accounting Standards
In November 2004, the Financial Accounting Standards Board (FASB) issued
Statements of Financial Accounting Standards (SFAS) No. 151, "Inventory
Costs - an Amendment to ARB no. 43, Chapter 4." The statement clarifies the
accounting for abnormal amounts of idle facility expense, freight, handling
costs, and wasted material. The statement is effective for fiscal years
beginning after June 15, 2005. The adoption of this statement is not
expected to impact the Company's financial position, results of operations
or cash flows.
In December 2004, the FASB issued SFAS No. 153, "Exchange of Nonmonetary
Assets." The statement amends Opinion 29 to eliminate the exception for
nonmonetary exchanges of similar productive assets and replaces it with the
general exception for exchanges of nonmonetary assets that do not have
commercial substance. The statement is effective for fiscal years beginning
after June 15, 2005. The adoption of this statement is not expected to
impact the Company's financial position, results of operations, or cash
flows.
In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based
Payment," which revised FAS 123, "Accounting for Stock-Based Compensation."
The statement requires a public entity to measure the cost of employee
services received in exchange for an award of equity instruments based on
the grant-date fair value of the award (with limited exceptions). On April
14, 2005, the SEC revised the effective date to fiscal years beginning
after June 15, 2005. The adoption of this statement is not expected to
materially impact the Company's financial position, results of operations,
or cash flows for the equity instruments previously granted.
In December 2004, the FASB issued FASB Staff Position (FSP) No. 109-1,
"Application of FASB Statement No. 109, Accounting for Income Tax, to the
Tax Deduction on Qualified Production Activities Provided by the American
Jobs Creation Act of 2004." FSP No. 109-1 provides guidance on the
application of SFAS No. 109 to the provision within the American Jobs
Creation Act of 2004 (the Act) that allows a tax deduction on qualified
11
production activities. The guidance states that the deduction should be
accounted for as a special deduction in accordance with SFAS No. 109. The
adoption of this guidance is not expected to materially impact the
Company's financial position, results of operations or cash flows.
In March 2005, the FASB issued Interpretation No. 46R-5, "Implicit Variable
Interests under FASB Interpretation No. 46 (revised December 2003), which
amend Interpretation No.46, "Consolidation of Variable Interest Entities."
The revision relates to issues commonly arising in leasing arrangements
among related parties and other types of arrangements involving related and
unrelated parties. The original guidance under Interpretation No. 46 in
January 2003 is still applicable. Interpretation Nos. 46 and 46R-5 provide
guidance for determining when a primary beneficiary should consolidate a
variable interest entity or equivalent structure that functions to support
the activities of a primary beneficiary. Interpretation No. 46R-5 is
effective for the first reporting period beginning after March 3, 2005. The
adoption of Interpretation No. 46R-5 did not impact the Company's financial
position, results of operations, or cash flows.
In March 2005, the FASB issued Interpretation No. 47, "Accounting for
Conditional Asset Retirement Obligations - an interpretation of FASB
Statement No. 143." Interpretation No. 47 provides guidelines as to when a
company is required to record a conditional asset retirement obligation. In
general, an entity is required to recognize a liability for the fair value
of a conditional asset retirement obligation if the fair value of the
liability can be reasonably estimated. The fair value of a liability for
the conditional asset retirement obligation should be recognized when
incurred - generally upon acquisition, construction, or development and
(or) through the normal operation of the asset. The Interpretation is
effective no later than the end of fiscal years ending after December 15,
2005 (December 31, 2005, for calendar-year enterprises). The implementation
of this Interpretation is not expected to have a material impact on the
Company's financial position, results of operations, or cash flows.
12
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,
contains forward-looking statements within the meaning established by the
Private Securities Litigation Reform Act of 1995 (Act). The forward-looking
statements are intended to qualify under provisions of the federal
securities laws for "safe harbor" treatment established by the Act.
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. Such words as expects, intends, plans, believes,
estimates, assumes, anticipates, projects, predicts, forecasts or
variations of such words or similar expressions are intended to identify
forward-looking statements. The forward-looking statements are not
guarantees of future performance. They are subject to uncertainty and
changes in circumstances. Actual results may vary materially from what is
contained in a forward-looking statement.
Factors that may cause a result different than expected or anticipated
include: governmental and regulatory commissions' decisions, including
decisions on proper disposition of property; changes in regulatory
commissions' policies and procedures; the timeliness of regulatory
commissions' actions concerning rate relief; new legislation; the ability
to satisfy requirements related to the Sarbanes-Oxley Act and other
regulations on internal controls; 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; acquisitions and the ability to
successfully integrate acquired companies; 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 the 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
current or future debt that could increase financing costs or affect the
ability to borrow, make payments on debt, or pay dividends; and other risks
and unforeseen events. When considering forward-looking statements, the
reader should keep in mind the cautionary statements included in this
paragraph. For additional information relating to the risks of the
Company's business, see "Risk Factors" in the Company's Annual Report on
Form 10-K. The Company assumes no obligation to provide public updates on
forward-looking statements.
CRITICAL ACCOUNTING POLICIES
The Company maintains its 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
13
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 judgment, and can
have a material impact on our results of operations and financial
condition.
Revenue Recognition
- -------------------
Revenue consists of monthly cycle customer billings for regulated water and
wastewater services at rates authorized by the governmental and regulatory
commissions (Commissions) and billings to certain non-regulated customers.
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. At
March 31, 2005, the unbilled revenue amount was $8,391,000 and at December
31, 2004, the amount was $9,307,000. 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 $2,229,000
at March 31, 2005 and $2,193,000 at December 31, 2004. This liability is
included in "accrued expenses and other liabilities" on the balance sheet.
Expense-Balancing and Memorandum Accounts
- -----------------------------------------
Expense-balancing accounts and memorandum accounts are used to track
suppliers' rate changes for purchased water, purchased power, and pump
taxes that are not included in customer water rates. The cost changes are
referred to as "offsetable expenses," because under certain circumstances,
they are refundable from customers (or refunded to customers) in future
rates designed to offset cost changes from suppliers. The Company does not
record the balancing and memorandum accounts until the commission has
authorized a change in customer rates and the customer has been billed. The
cumulative net amount in the expense balancing accounts and memorandum
accounts as of March 31, 2005, was approximately $6,784,000. This amount
includes certain amounts that have been filed for recovery but have not yet
been authorized, or amounts that have not yet been filed for recovery. See
Regulatory Matters for cumulative net balances of expense balancing and
memorandum accounts that have been authorized for recovery.
14
Regulated Utility Accounting
- ----------------------------
Because the Company operates extensively in a regulated business, we are
subject to the provisions of 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 the Company's operations were no longer subject
to the provisions of SFAS No. 71, it 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 the Company's assets were not recoverable in
customer rates, it would be required to determine if the Company had
suffered an asset impairment that would require a write-down in the assets'
valuation. There have been no such asset impairments as of March 31, 2005.
Income Taxes
- ------------
The Company accounts for income taxes using the asset and liability method.
Deferred taxes assets and liabilities are recognized for future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective
tax bases. Measurement of the deferred tax assets and liabilities is at
enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or settled. The
effect on the deferred tax assets and liabilities of a change in tax rate
is recognized in the period that includes the enactment date. The Company
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 at March 31, 2005.
The Company anticipates that future rate action by the Commissions will
reflect revenue requirements for the tax effects of temporary differences
recognized, which have previously been passed through to customers. The
commissions have granted the Company rate increases to reflect the
normalization of the tax benefits of the federal accelerated methods and
available Investment Tax Credits (ITC) for all assets placed in service
after 1980. ITC are deferred and amortized over the lives of the related
properties for book purposes.
Advances for Construction and Contributions in Aid of Construction received
from developers subsequent to 1986 were taxable for federal income tax
purposes, and those received subsequent to 1991 were subject to California
income tax. In 1996, the federal law, and in 1997, the California law,
changed and only deposits for new services were taxable. In late 2000,
federal regulations were further modified to exclude fire services from
tax.
Pension Benefits
- ----------------
The Company incurs 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 from
15
independent advisors and actuaries. The Company uses an investment advisor
to provide advice in managing the plan's investments. The Company
anticipates any increase in funding for the pension and postretirement
health care benefits plans will be recovered in future customer rates.
16
RESULTS OF FIRST QUARTER 2005 OPERATIONS COMPARED TO FIRST QUARTER 2004
OPERATIONS
Summary
- -------
First quarter net income was $680,000, equivalent to $0.03 per common share
on a diluted basis, compared to net income of $1,446,000 or $0.08 common
per share on a diluted basis in the first quarter of 2004.
Operating Revenue
- -----------------
Operating revenue increased $63,000 or .1% to $60,303,000. As disclosed in
the following table, most of the increase was due to increases in rates
offset by a decrease in usage by existing customers. Weather impacted
revenues during the quarter as all three months had lower temperatures and
higher rainfall than in the same time period last year. The Company
experienced a 13% decrease in water usage for the quarter compared to the
prior year, with the largest decrease, 20%, in March.
The factors that impacted the operating revenue for the first quarter of
2005 are presented in the following table:
Rate increases $ 2,032,000
Usage by new customers 844,000
Decrease in usage by existing customers (2,813,000)
-----------
Net operating revenue increase $ 63,000
===========
The components of the rate increases are listed in the following table:
2002 General Rate Case (GRC) $ 927,000
Purchased water offset 182,000
2001 GRC catch-up (890,000)
Step rates 940,000
Balancing accounts 715,000
2003 GRC 74,000
Hawthorne 84,000
-----------
Total increase in rates $ 2,032,000
===========
Incorporating all the approved filings to date as listed in "Regulatory
Matters," management estimates the impact to revenues for the full year of
2005 as compared to 2004 to be approximately $7 million increase, assuming
similar usage. This estimate does not include filings which are expected
during 2005.
17
Total Operating Expenses
- ------------------------
Total operating expenses were $55,838,000 for the three months ended March
31, 2005, versus $54,849,000 for the same period in 2004, a 2% increase.
Water production expense consists of purchased water, purchased power, and
pump taxes. It represents the largest component of total operating
expenses, accounting for approximately 36% of total operating expenses.
Water production expenses decreased 6% compared to last year.
For California operations, sources of water as a percent of total water
production are listed on the following table:
Three Months Ended March 31
---------------------------
2005 2004
---- ----
Well production 42% 40%
Purchased 53% 56%
Surface 5% 4%
--- ---
Total 100% 100%
=== ===
Washington Water, New Mexico Water and Hawaii Water obtain all of their
water supply from wells. The components of water production costs are shown
in the table below:
Three Months Ended March 31
-----------------------------------------
2005 2004 Change
----------- ----------- -----------
Purchased water $15,744,000 $16,361,000 ($ 617,000)
Purchased power 2,937,000 3,595,000 (658,000)
Pump taxes 1,140,000 1,205,000 (65,000)
----------- ----------- -----------
Total $19,821,000 $21,161,000 ($1,340,000)
=========== =========== ===========
Purchased water, purchased power, and pump tax costs decreased due to lower
customer water usage because of higher than normal rainfall throughout
California during the quarter. Total water production measured in millions
of gallons decreased by 13% during the first quarter of 2005 as compared
with the first quarter of 2004 due to the weather. There were 33 days of
rainfall during the first quarter of 2005, compared to 22 for the same
quarter of the prior year. Included in the purchased water cost for the
quarter ended March 31, 2004, was a credit of $1,381,000 received from
certain wholesale suppliers for the Company's Southern California
districts. Also included in the last year's purchased water cost was an
additional expense of $840,000 for a settlement related to a reported meter
malfunction at the wholesale supplier in the Stockton district.
Operations expenses excluding water production costs were $21,943,000,
increasing $1,606,000 or 8%. Payroll charged to operations expense
increased $432,000 or 4%. Wages for union employees increased 2.5%
effective January 1, 2005. Overall, payroll costs (expensed and
capitalized) increased 4% due to increases in the number of employees and
18
higher wage rates. Employee and retiree medical costs increased $422,000 or
21%. Pension costs increased $305,000 or 17%. Outside services, including
legal and auditing fees increased by $ 724,000 or 186%. At March 31, 2005,
there were 826 employees and at March 31, 2004, there were 816 employees.
Maintenance expenses increased by $477,000, or 15%, in the first quarter of
2005 compared to the first quarter of 2004 due to the repair of mains and
pumping equipment. Depreciation and amortization expense increased
$478,000, or 7%, because of 2004 capital additions.
Federal and state income taxes decreased $503,000 due to the reduction of
taxable income compared to the same quarter as last year. The effective tax
rate was 40% in the current quarter and 40% for the prior year's quarter.
Other Income and Expense
- ------------------------
Other income was $636,000 for the quarter ended March 31, 2005 compared to
$551,000 in the same period last year, which is an increase of $85,000.
Gains (losses) from property sales for the quarter were minimal for both
the current and the prior quarters.
Interest Expense
- ----------------
Total interest expense decreased $75,000 or 2%. This decrease of interest
expense was due to an increase in capitalized interest, as construction
work in progress amounts were higher in the first quarter of 2005 compared
to the first quarter of 2004
REGULATORY MATTERS
Rate Case Proceedings
- ---------------------
In January 2005, Cal Water received approval from the California Public
Utilities Commission (CPUC) for step rate increases of $4.4 million on an
annual basis, which were effective in January 2005.
Pending approval are Cal Water's 2004 General Rate Case (GRC) filings for
an increase of $26.5 million in eight districts. Typically, the CPUC
authorizes substantially less than the requested amount. At this time, the
Company is unable to predict the timing and final amount of these filings.
Approval of an advice letter filing increasing rates by $822,000 on an
annual basis to offset purchased water and pump tax expenses in Cal Water's
Stockton district is expected in the second quarter of 2005. Additionally,
Cal Water has pending memorandum account filings for 2004 offsettable
expense to refund customers $544,000 over 12 months. Approval is expected
by the CPUC by the third quarter of 2005.
In April 2005, the New Mexico Public Regulation Commission approved New
Mexico Water Service Company's GRC for its wastewater operations. The
approval was for a rate increase of $329,000 on an annual basis. Sixty-five
percent of the amount is effective immediately and the full amount will be
effective on January 1, 2006.
19
In February 2005, the Hawaii Public Utilities Commission issued a general
rate order that decreased rates for Hawaii Water Service Company's (HWSC)
Kaanapali water system by approximately $68,000 annually. Additionally,
HWSC was authorized to establish a tracking mechanism for recovering
certain water treatment plant costs, approximately $50,000 annually,
pending the outcome of litigation seeking recovery for treatment costs from
the potentially responsible parties. These filings are not expected to
materially affect the total Company financial results. Finally, Washington
Water Service Company anticipates filing for a GRC in 2005.
Below is a list of rate filings approved by the CPUC in 2004 that will
impact 2005 due to the fact that revenues are recorded based upon customer
billings, which typically reflect rate changes over a 12-month period from
the effective date. (See Results of First Quarter Operations Compared to
First Quarter 2004 Operations - Operating Revenue). There were no rate
filings approved during 2004 for Washington Water Service Company, New
Mexico Water Service Company, and Hawaii Water Service Company.
February 2004 - increase of $700,000 annually for purchased
water costs
April 2004 - step rate increases of $500,000 annually.
April 2004 - increase of $3,600,000 annually for the 2002 GRCs
in four districts.
May 2004 - refund of $1,500,000 for balancing account
over-collections related to offsettable expenses incurred over
multiple years in the King City and Dominguez districts.
Except for a minor amount refunded over 36-months, surcredits
will be effective for 12-months.
June 2004 - surcharge to recover $400,000 in offsettable
expenses for 2001 in the Salinas district.
July 2004 - increase of $1,100,000, annually, for the 2001 GRC
in the Salinas district
August 2004 - step rate increases of $500,000, annually, for
four districts
September 2004 - increase of $400,000, annually, for the 2003
GRC in the South San Francisco and Bakersfield districts
September 2004 - increase of $500,000, annually, for purchased
water and pump taxes in the Los Altos district
October - December 2004 - surcharges to recover $9,200,000 in
offsettable expenses for 2002 and 2003 in multiple districts.
Surcharges vary by district and are effective from 12 to 36
months.
20
Other Regulatory Matters
- ------------------------
Cal Water recovered certain amounts being tracked in off-balance sheet
expense balancing and memorandum account. Approvals to recover these
amounts were received in 2004. (See "Expense Balancing and Memorandum
Accounts" section in Critical Accounting Policies.) The amounts remaining
to be recovered from these approved filings as of March 31, 2005 and
December 31, 2004, were $7,328,000 and $8,588,000, respectively.
Surplus Property Sales
----------------------
In 1995, the California Legislature enacted the Water Utility
Infrastructure Improvement Act of 1995 (Infrastructure Act) to encourage
water utilities to sell surplus properties and reinvest in needed water
utility facilities. In September 2003, the California Public Utilities
Commission (CPUC) issued decision D.03-09-021 in Cal Water's 2001 GRC
filing. In this decision, the CPUC ordered Cal Water to file an application
setting up an Infrastructure Act memorandum account with an up-to-date
accounting of all real property that was at any time in rate base and that
Cal Water had sold since the effective date of the Infrastructure Act.
Additionally, the decision directed the CPUC staff to file a detailed
report on its review of Cal Water's application. On January 11, 2005, the
Office of Ratepayers Advocates (ORA) issued a report expressing its opinion
that Cal Water had not proven that surplus properties sold since 1996 were
no longer used and useful. The ORA recommended that Cal Water be fined
$160,000 and that gains from property sales should generally benefit
ratepayers.
During the period under review, Cal Water's cumulative gains from surplus
property sales were $19.2 million, which included an inter-company gain
related to a transaction with Utility Services and a like-kind exchange
with a third party. If the CPUC finds any surplus property sale or transfer
was recorded inappropriately, Cal Water's rate base could be reduced, which
would lower future revenues, net income, and cash flows. In early April,
the parties submitted testimony and briefs and the Administrative Law Judge
held an evidentiary hearing. The Company expects to receive a proposed
decision sometime within the second or third quarter. Management believes
it has fully complied with the Infrastructure Act and that ORA's
conclusions and recommendations are without merit. Cal Water intends to
vigorously oppose ORA's findings. Accordingly, Cal Water has not accrued a
liability in the financial statements for ORA's recommendations. At this
time, Cal Water does not know how the CPUC will rule in this matter.
LIQUIDITY
Short-term and Long-term Debt
- -----------------------------
There were no outstanding short-term bank borrowings at March 31, 2005 and
December 31, 2004 on either the Company's or Cal Water's credit facility.
California Water Service Group has a $10,000,000 credit facility, which
includes Washington Water, New Mexico Water, Hawaii Water, and CWS Utility
Services. Cal Water has a $45,000,000 credit facility. Both agreements have
a requirement for balances to be below certain thresholds for 30
consecutive days each calendar year. The Company met this requirement in
21
the first quarter of 2005 for both agreements. At March 31, 2005, the
Company was in compliance with the covenants of both facilities.
There were no additions to long-term debt in the three-month period ended
March 31, 2005 and the Company made principal payments of $407,000 during
the three-month period ended March 31, 2005.
In September 2004, Cal Water received authorization from the CPUC on its
financing filing related to $250,000,000 of additional debt or equity
available for issuance through the year 2009. No amounts have been utilized
to date. This amount will be utilized on an as-needed basis. The balance
remaining from the previous authorization does not carry over.
Debt Credit Ratings
- -------------------
Cal Water's debt is rated A2 by Moody's Investors Service (Moody's) and A+
by Standard & Poor's (S&P). The rating from Moody's was downgraded in
February 2004 from A1 to A2. The ratings from both Moody's and S&P were
unchanged during the quarter and the last rating change from Moody's was in
the first quarter of 2004, while the last change from S&P was in the fourth
quarter of 2002.
Shelf Registration
- ------------------
The Company has $35,648,175 in securities under the shelf registration
filed with the SEC in 2003, which are available for future issuance.
Dividends, Book Value and Shareholders
- --------------------------------------
The first quarter common stock dividend of $0.2850 per share was paid on
February 18, 2005, compared to a quarterly dividend in the first quarter of
2004 of $0.2825. This was the Company's 241st consecutive quarterly
dividend. Annualized, the 2005 dividend rate is $1.14 per common share,
compared to $1.13 in 2004. Based on the 12-month earnings per share at
March 31, 2005, the dividend payout ratio is 82% of net income. For the
full year 2004, the payout ratio was 77% of net income. On a long-term
basis, the Company's goal is to achieve a dividend payout ratio of 60% of
net income accomplished through future earnings growth.
At its April 27, 2005 meeting, the Board declared the second quarter
dividend of $0.2850 per share payable on May 20, 2005, to stockholders of
record on May 9, 2005. This will be the Company's 242nd consecutive
quarterly dividend.
Dividend Reinvestment and Stock Purchase Plan
- ---------------------------------------------
The Company's transfer agent has a Dividend Reinvestment and Stock Purchase
Plan (Plan). Under the Plan, stockholders may reinvest dividends to
purchase additional Company common stock without commission fees. The Plan
also allows existing stockholders and other interested investors to
purchase Company common stock through the transfer agent up to certain
limits. The Company's transfer agent operates the Plan and purchases shares
on the open market to provide shares for the Plan.
22
2005 Financing Plan
- -------------------
The Company's 2005 financing plan includes raising approximately
$20,000,000 to $40,000,000 of new capital. The plan includes issuance of
long-term debt to meet funding needs. Currently, the Company does not plan
to issue additional equity in 2005, although this may change depending on a
variety of factors. Beyond 2005, management intends to fund capital needs
through a relatively balanced approach between long-term debt and equity.
Book Value and Stockholders of Record
- -------------------------------------
Book value per common share was $15.41 at March 31, 2005 compared to $15.66
at December 31, 2004.
There are approximately 4,000 stockholders of record for our common stock
at March 31, 2005.
Utility Plant Expenditures
- --------------------------
During the three months ended March 31, 2005, capital expenditures totaled
$17,283,000; $14,743,000 was from company-funded projects and $2,540,000
was from third-party-funded projects. The 2005 company-funded capital
expenditure budget is $85,000,000. The actual amount may vary from the
budget number due to timing of actual payments related to current year
projects and prior year projects. The Company does not control
third-party-funded capital expenditures and therefore is unable to estimate
the amount of such projects for 2005.
At March 31, 2005, construction work in progress was $24,727,000 compared
to $13,248,000 at December 31, 2004. Work in progress includes projects
that are under construction but not yet complete and in service.
WATER SUPPLY
Based on information from water management agencies and internally
developed data, the Company believes that its various sources of water
supply are sufficient to meet customer demand for the remainder of the
year. Historically, about half of the water is purchased from wholesale
suppliers with the other half pumped from underground wells. A small
portion is developed through three local surface treatment plants.
On April 12, 2005, the Company announced that it had requested its
customers in the Salinas district to cut down on peak hour water usage for
a three-month period due to six wells that were shut off temporarily
because of contamination. The Company also asked large commercial users to
reduce water usage during peak hours, and to store water during non-peak
hours for later use. It is expected that treatment systems for four of the
wells removed from service will be in service by summer and normal peak
demands can be met at that time. The Salinas district accounted for 4.4% of
the Company's revenues for the first quarter ended March 31, 2005. The
shut-down of these wells is not expected to materially impact the financial
results or cash flows of the Company.
23
To safeguard its water supply and facilities, the Company has heightened
security at its facilities and have taken added safety precautions for the
Company's employees and the water it delivers to its customers. While the
Company does not make public comments on its security programs, it has been
in contact with federal, state, and local law enforcement agencies to
coordinate and improve water delivery systems security. The Company has
assigned a high priority to completing work necessary to comply with new
Environmental Protection Agency (EPA) requirements concerning security of
water facilities. In 2002, federal legislation was enacted which resulted
in new regulations concerning security of water facilities, including
submitting vulnerability assessment studies to the federal government. The
timing of submission of these studies was based on size of operations. The
Company has submitted the studies that are required and completed this
program in 2004.
24
Item 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company does not hold, trade in or issue derivative financial
instruments and therefore is not exposed to risks these instruments
present. Its 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. The Company does not have foreign operations; therefore, it
does not have a foreign currency exchange risk. The Company's business is
sensitive to commodity prices and is most affected by changes in purchased
water and purchased power costs.
Historically, the CPUC's balancing account or offsetable expense procedures
allowed for increases in purchased water and purchased power costs to be
passed on to consumers. Traditionally, a significant percentage of our net
income and cash flows comes from California regulated operations; therefore
the CPUC's actions have a significant impact on our business. See Item 2,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Critical Accounting Policies --Expense Balancing and
Memorandum Accounts" and "Regulatory Matters".
Item 4.
CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures
The Company carried out an evaluation, under the supervision of and with
the participation of its management, including its principal executive
officer 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 covered by this report, pursuant to Rule 13a-15(e) under the
Securities Exchange Act of 1934. Based on their review of the Company's
disclosure controls and procedures, the principal executive officer and
principal financial officer have concluded that its disclosure controls and
procedures are functioning effectively to provide reasonable assurance that
the information required to be disclosed in periodic SEC filings is
reported within the time periods specified by the SEC rules and
regulations.
(b) Changes to Internal Controls Over Financial Reporting
There was no change in the Company's internal control over financial
reporting that occurred during the last fiscal quarter that has materially
affected, or are reasonably likely to materially affect, the Company's.
internal controls over financial reporting.
25
PART II OTHER INFORMATION
Item 1.
LEGAL PROCEEDINGS
(a) From time to time, the Company has been involved in a variety of
legal proceedings. For a complete description, see the Company's
annual report on Form 10-K for the year ended December 31, 2004.
During the quarter ended March 31, 2005, there were no material
developments with respect to previously disclosed existing
procedures and no material proceeding not previously disclosed.
(b) The discussion under Part I, Financial Information, Item 2,
"Managements Discussion and Analysis of Financial Condition and
Results of Operations - Regulatory Matters: Surplus Property
Sales" is incorporated by reference.
Item 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The annual meeting of stockholders of California Water Service
Group was held on April 27, 2005 at the headquarters office in San
Jose, California.
(a) At the annual stockholders meeting, a Board of Directors to serve
for the ensuing year was elected. The following directors were
elected as nominated:
Douglas M. Brown Robert W. Foy
Edward D. Harris, Jr. M.D. Richard P. Magnuson
Linda R. Meier Peter C. Nelson
George A. Vera David N. Kennedy
Bonnie G. Hill
(b) Two other proposals were voted on at the meeting; the ratification
of the selection of KPMG LLP as independent auditors for 2005 and
the approval of the Equity Incentive Plan. Both proposals were
approved by the Company's stockholders.
26
(1) Tabulation of the votes for the election of directors was:
For Abstain
--- -------
Douglas M. Brown 18,358,489 517,509
Robert W. Foy 18,330,583 545,415
Edward D. Harris, Jr. M.D. 17,960,481 915,517
Bonnie G. Hill 17,919,738 956,261
David N. Kennedy 17,984,029 891,969
Richard P. Magnuson 17,989,461 886,537
Linda R. Meier 17,926,278 949,721
Peter C. Nelson 18,321,562 554,436
George A. Vera 18,356,144 519,854
(2) The stockholders ratified the Audit Committee's selection of KPMG
LLP to serve as independent auditors for 2005. There were
18,584,494 votes in favor, 172,195 against and 119,307
abstentions.
(3) The stockholders approved the Equity Incentive Plan. There were
9,248,987 in favor, 2,618,525 against, 352,064 abstentions.
Item 6.
EXHIBITS
The exhibit list required by this Item is incorporated by reference to the
Exhibit Index attached to this report.
27
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
May 5, 2005
By: /s/ Richard D. Nye
----------------------------------------------
Richard D. Nye
Vice President, Chief Financial Officer
and Treasurer
28
Exhibit Index
Exhibit Description
------- -----------
31.1 Chief Executive Officer certification of financial
statements pursuant to Section 302 of the Sarbanes-
Oxley Act of 2002
31.2 Chief Financial Officer certification of financial
statements pursuant to Section 302 of the Sarbanes-
Oxley Act of 2002
32 Chief Executive Officer and Chief Financial Officer
Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002
29