SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [FEE REQUIRED]
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from to
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COMMISSION FILE NUMBER 1-15995
UIL HOLDINGS CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
CONNECTICUT 06-1541045
(State or other jurisdiction of
incorporation or organization) (I.R.S. Employer Identification No.)
157 CHURCH STREET, NEW HAVEN, CONNECTICUT 06506
(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: 203-499-2000
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SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NAME OF EACH EXCHANGE ON
REGISTRANT TITLE OF EACH CLASS WHICH REGISTERED
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UIL Holdings Corporation Common Stock, no par value New York Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: NONE
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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
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Indicate by check mark whether the Registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act). Yes X No
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of the registrant's voting stock held by
non-affiliates on June 30, 2003 was $587,826,642 computed on the basis of the
average of the high and low sale prices of said stock reported in the listing of
composite transactions for New York Stock Exchange listed securities, published
in The Wall Street Journal on July 1, 2003.
The number of shares outstanding of the registrant's only class of common stock,
as of February 25, 2004 was 14,487,295.
DOCUMENTS INCORPORATED BY REFERENCE
Part of this Form 10-K into
Document which document is incorporated
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DEFINITIVE PROXY STATEMENT
FOR ANNUAL MEETING OF THE SHAREHOLDERS
TO BE HELD ON MAY 12, 2004 III
UIL HOLDINGS CORPORATION
FORM 10-K
DECEMBER 31, 2003
TABLE OF CONTENTS
PAGE
Glossary.............................................................3
PART I
Item 1. Business................................................6
General.......................................................6
Utility Business..............................................6
Franchises.................................................6
Regulation.................................................6
Rates......................................................7
Power Supply Arrangements..................................9
Arrangements with Other Industry Participants..............9
New England Power Pool and ISO-New England.............9
Hydro-Quebec..........................................10
Environmental Regulation..................................10
Non-Utility Businesses.......................................11
American Payment Systems, Inc.............................11
Xcelecom, Inc.............................................11
United Capital Investments, Inc...........................14
Cross-Sound Cable Company, LLC........................14
Zero Stage Capital....................................14
Ironbridge Mezzanine Fund.............................14
United Bridgeport Energy, Inc.............................14
Financing....................................................15
Employees....................................................15
Item 2. Properties.............................................15
Transmission and Distribution Plant..........................15
Administrative and Service Facilities........................15
Item 3. Legal Proceedings......................................16
Item 4. Submission of Matters to a Vote of Security Holders....16
Executive Officers...........................................16
PART II
Item 5. Market for UIL Holdings' Common Equity and Related
Stockholder Matters....................................17
Item 6. Selected Financial Data.................................19
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations....................20
Overview and Strategy........................................20
Major Influences on Financial Condition......................22
UIL Holdings Corporation..................................22
The United Illuminating Company...........................22
American Payment Systems, Inc.............................26
Xcelecom, Inc.............................................26
United Capital Investments, Inc...........................29
United Bridgeport Energy, Inc.............................31
Capital Expenditure Program..................................32
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TABLE OF CONTENTS (CONTINUED)
PAGE
PART II (CONTINUED)
Liquidity and Capital Resources....................................33
Financial Covenants.............................................36
Contractual and Contingent Obligations..........................39
Critical Accounting Practices......................................40
Results of Operations..............................................44
Looking Forward....................................................60
Item 7a. Quantitative and Qualitative Disclosures
About Market Risk.......................................... 63
Item 8. Financial Statements and Supplementary Data...................64
Consolidated Financial Statements..................................64
Statement of Income for the Years 2003, 2002 and 2001...........64
Statement of Comprehensive Income for
the Years 2003, 2002 and 2001..................................64
Statement of Cash Flows for the Years 2003, 2002 and 2001.......65
Balance Sheet as of December 31, 2003 and 2002..................66
Statement of Changes in Shareholders' Equity for
the Years 2003, 2002 and 2001..................................68
Notes to Consolidated Financial Statements.........................69
Statement of Accounting Policies................................69
Capitalization..................................................78
Regulatory Proceedings..........................................82
Short-Term Credit Arrangements..................................86
Income Taxes....................................................88
Supplementary Information.......................................91
Pension and Other Benefits......................................92
Unamortized Cancelled Nuclear Project...........................96
Lease Obligations...............................................96
Commitments and Contingencies...................................97
Other Commitments and Contingencies.........................97
Connecticut Yankee.......................................97
Hydro-Quebec.............................................98
Environmental Concerns...................................98
Site Decontamination, Demolition and Remediation Costs...99
Claim of Enron Power Marketing, Inc.....................100
Cross-Sound Cable Company, LLC..........................100
Fair Value of Financial Instruments............................101
Quarterly Financial Data (Unaudited)...........................102
Segment Information............................................103
Goodwill and Other Intangible Assets...........................104
Discontinued Operations........................................105
Report of Independent Auditors........................................106
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosures........................108
Item 9a. Controls and Procedures.....................................108
PART III
Item 10. Directors and Executive Officers............................108
Item 11. Executive Compensation......................................108
Item 12. Security Ownership of Certain Beneficial
Owners and Management......................................109
Item 13. Certain Relationships and Related Transactions..............109
Item 14. Principal Accounting Fees and Services......................109
PART IV
Item 15. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K........................................110
Signatures...............................................................115
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GLOSSARY OF TERMS AND ABBREVIATIONS
ABO (Accumulated Benefit Obligation) - the actuarial present value of benefits
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(whether vested or nonvested) attributed by the pension benefit formula to
employee service rendered before a specified date and based on employee service
and compensation prior to that date. The accumulated benefit obligation differs
from the projected benefit obligation in that the ABO excludes consideration of
future compensation levels.
AFUDC (Allowance for Funds Used During Construction) - the cost of utility
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equity and debt funds used to finance construction projects that is capitalized
as part of construction cost.
C&LM (ASSESSMENT/CHARGE) (Conservation and Load Management) - statutory
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assessment on utility retail customer bills placed in a State of Connecticut
fund used to support energy conservation and load management programs.
CTA (Competitive transition assessment) - the component of electric utility
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retail customer bills, in the state of Connecticut, to recover allowable
Stranded Costs as determined by the DPUC.
CDEP Connecticut Department of Environmental Protection.
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DISTRIBUTION DIVISION The operating division of the utility that provides
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distribution services to the utility's retail electric customers and manages all
components including the C&LM, CTA, GSC, REI. Excludes transmission operations.
DOE United States Department of Energy.
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DPUC (Connecticut Department of Public Utility Control) - state agency that
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regulates certain ratemaking, services, accounting, plant and operations of
Connecticut utilities.
EPA United States Environmental Protection Agency.
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EPS Earnings per share.
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ESOP Employee Stock Ownership Plan.
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FASB (Financial Accounting Standards Board) - a rulemaking organization that
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establishes financial accounting and reporting standards.
FERC (Federal Energy Regulatory Commission) - federal agency that regulates
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interstate transmission and wholesale sales of electricity and related matters.
FIN FASB Interpretation Number.
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GAAP Generally accepted accounting principles in the United States of America.
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GSC Generation services charge, as determined by the DPUC, represents the rate
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charged to retail customers for the generation service purchased at wholesale
and delivered by UI as part of fully bundled services.
ISO-NE (ISO-New England Inc.) - an independent entity contracting with NEPOOL as
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an independent system operator to operate the regional bulk power system
(generation and ancillary products, and transmission) in New England.
ITC Investment tax credit.
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KV (kilovolt) - 1000 volts. A volt is a unit of electromotive force.
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KVA (kilovoltampere) - 1,000 voltamperes. A voltampere is the basic unit of
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apparent power of a circuit.
KW (kilowatt) - 1,000 watts.
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KWH (kilowatthour) - the basic unit of electric energy equal to one kilowatt of
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power supplied to or taken from an electric circuit steadily for one hour.
KSOP 401(k)/Employee Stock Ownership Plan.
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LIBOR London Interbank Offered Rate.
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MVA (megavoltampere) - 1,000 kilovoltamperes.
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MW (Megawatt) - 1,000 kilowatts.
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NEPOOL (New England Power Pool) - entity operating in accordance with the New
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England Power Pool Agreement, as amended, as approved by the FERC, to provide
economic, reliable operation of the bulk power system in the New England region.
NRC (Nuclear Regulatory Commission) - federal agency that regulates operation of
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nuclear power facilities.
O&M (Operation and maintenance) - Costs incurred in running the daily business
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activities and maintaining the infrastructure.
OPEB (Other Post-employment benefits) - Benefits (other than pension) consisting
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principally of health care and life insurance paid to retired employees and
their dependents.
PCB (Polychlorinated Biphenyl) - additive to oil used in certain electrical
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equipment up to the late-1970s. Now classified as a hazardous chemical.
POSA (Point-Of-Sale-Activation) - technology to provide real-time processing of
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prepaid transactions such as cellular and long distance telephone cards.
PREPAID STORED VALUE CARDS Prepaid and re-loadable value cards that can be
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purchased and re-loaded at APS agent locations and used at retail locations
accepting credit cards and any ATM worldwide.
PREPAID TELEPHONY PRODUCTS Prepaid telecommunication products offering the
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services of nationally recognized providers, such as wireless, long distance,
home dial tone, internet and phone cards.
RCRA The federal Resource Conservation and Recovery Act.
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REI (Renewable Energy Investment) - statutory assessment on utility retail
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customer bills which is transferred to a State of Connecticut fund to support
renewable energy projects.
RTO (Regional Transmission Organization) - organization proposed to be created
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jointly by ISO-NE and the New England transmission owners to strengthen the
independent oversight of the region's bulk power system and wholesale
electricity marketplace.
SMD (Standard market design) - marketplace changes implemented by ISO-NE
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including the implementation of a transmission congestion management system and
a multi-settlement system.
SBC Systems benefits charge on utility retail customer bills representing public
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policy costs such as generation decommissioning and displaced worker protection
costs, as determined by the DPUC.
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SEC United States Securities and Exchange Commission.
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SFAS (Statement of Financial Accounting Standards) - accounting and financial
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reporting rules issued by the FASB.
STANDARD OFFER UI's obligation under Connecticut Public Act 98-28 (the
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Restructuring Act) to offer retail service to its customers under a regulated
"standard offer" to each customer who does not choose an alternate electricity
supplier.
STRANDED COSTS Costs, as determined by the DPUC, including above-market
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long-term purchased power obligations, regulatory assets, and above-market
investments in power plants, that are recoverable from retail customers.
TRANSMISSION DIVISION The operating division of the utility that provides
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transmission services and manages all related transmission operations.
TSO (Transitional Standard Offer) - UI's obligation under Connecticut Public Act
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03-135, subsequently amended in part by Public Act 03-221, to offer a regulated
"transitional standard offer" retail service to each customer who does not
choose an alternate electricity supplier.
VEBA (Voluntary Employee Benefit Association Trust) - trust accounts for health
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and welfare plans for future payments to employees, retirees or their
beneficiaries.
WATT - A unit of electrical power equal to one joule per second.
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PART I
ITEM 1. BUSINESS.
GENERAL
UIL Holdings Corporation (UIL Holdings) was formed in July 2000 and is an exempt
public utility holding company under the provisions of the Public Utility
Holding Company Act of 1935. Through its various subsidiaries, UIL Holdings
operates in two principal lines of business: utility and non-utility. The
utility business consists of the electric transmission and distribution
operations of The United Illuminating Company (UI), while the non-utility
businesses consist of the operations of American Payment Systems, Inc. (APS) and
Xcelecom, Inc. (Xcelecom), and passive investments in United Capital
Investments, Inc. (UCI), and United Bridgeport Energy, Inc. (UBE). UIL Holdings
is headquartered in New Haven, Connecticut, where its senior management
maintains offices and is responsible for overall planning, operating and
financial functions. Information regarding UIL Holdings may be requested,
viewed, or downloaded on-line at www.uil.com.
Due to financial information required by Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information," UIL Holdings has also divided its business into operating segments
for financial reporting purposes. Information about the operating segments is
incorporated by reference from Note (M), "Segment Information" of the Notes to
Consolidated Financial Statements of this document.
UTILITY BUSINESS
UI is a regulated operating electric public utility established in 1899. It is
engaged principally in the purchase, transmission, distribution and sale of
electricity for residential, commercial and industrial purposes in a service
area of about 335 square miles in the southwestern part of the State of
Connecticut. The population of this area is approximately 730,000, which
represents approximately 21% of the population of the State. The service area,
largely urban and suburban, includes the principal cities of Bridgeport
(population approximately 140,000) and New Haven (population approximately
124,000) and their surrounding areas. Situated in the service area are retail
trade and service centers, as well as large and small industries producing a
wide variety of products, including helicopters and other transportation
equipment, electrical equipment, chemicals and pharmaceuticals. Of UI's 2003
retail electric revenues, approximately 45% were derived from residential sales,
40% from commercial sales, 13% from industrial sales and 2% from street lighting
and other sales. UI's retail electric revenues are affected seasonally,
primarily dependent upon the weather, with highest revenues typically in the
third quarter of the year reflecting seasonal rates, hotter weather and air
conditioning use. In connection with the 1998 restructuring legislation relating
to the regulated electric utility industry in Connecticut, UI divested its
ownership interests in generation facilities, a process which was completed in
2002 with the sale of UI's interests in the Seabrook Station nuclear generating
plant.
FRANCHISES
UI has valid franchises to engage in the purchase, transmission, distribution
and sale of electricity in the area served by it, the right to erect and
maintain certain facilities over, on and under public highways and grounds, and
the power of eminent domain. These franchises are subject to alteration,
amendment or revocation by the Connecticut legislature, and revocation by the
Connecticut Department of Public Utility Control (DPUC) under circumstances
specified by statute, and subject to certain approvals, permits and consents of
public authorities and others prescribed by statute.
REGULATION
UI is subject to regulation by several regulatory bodies, including the DPUC,
which has jurisdiction with respect to, among other things, retail electric
service rates, accounting procedures, certain dispositions of property and
plant, mergers and consolidations, the issuance of securities, the condition of
plant, equipment and the manner of operation in relation to the safety, adequacy
and suitability to provide service to customers, including efficiency, and the
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location and construction of certain electric facilities. The Federal Energy
Regulatory Commission (FERC) approves UI's transmission revenue requirements,
which are collected through UI's transmission retail rates.
The location and construction of certain electric facilities, including electric
transmission lines and bulk substations, is subject to regulation by the
Connecticut Siting Council with respect to environmental compatibility and
public need.
UI is a "public utility" within the meaning of Part II of the Federal Power Act
and is subject to regulation by the FERC, which has jurisdiction with respect to
interconnection and coordination of facilities, wholesale electric service
rates, transmission tariffs and accounting procedures, among other things. See
"Arrangements with Other Industry Participants."
Connecticut Yankee Atomic Power Company, in which UI has a 9.5% common stock
ownership interest, is subject to the jurisdiction of the United States Nuclear
Regulatory Commission and the FERC. The Connecticut Yankee nuclear unit was
retired in 1996 and is currently being decommissioned. See PART II, Item 8,
"Financial Statements and Supplementary Data - Notes to Consolidated Financial
Statements - Note (J), Commitments and Contingencies - Other Commitments and
Contingencies - Connecticut Yankee."
RATES
UI's retail electric service rates are subject to regulation by the DPUC. UI's
present general retail rate structure consists of various rate and service
classifications covering residential, commercial, industrial and street lighting
services.
Utilities are entitled by Connecticut law to charge rates that are sufficient to
allow them an opportunity to cover their reasonable operating and capital costs,
to attract needed capital and maintain their financial integrity, while also
protecting relevant public interests.
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The primary revenue components of UI's retail customer bills as of January 1,
2004 are as follows:
Authorized Average
Return on Price Per
Unbundled Revenue Component Description Equity KWH (10)
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Distribution The process of delivering electricity through local 10.45% (1) $0.0355
lines to the customer's home or business.
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Transmission The process of delivering electricity over high voltage 10.75% (2) $0.0054
lines to local distribution lines.
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Competitive Transition Component of retail customer bills to recover Stranded 10.45% $0.0139
Assessment (CTA) (3) Costs as determined by the DPUC.
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Generation Services Charge (GSC) (4) The rate charged, as determined by the DPUC, to retail None $0.0482
customers for the generation services purchased at
wholesale by UI for transitional standard offer
customers.
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Bypassable Federally Mandated Federally mandated charge, as defined by Connecticut None $0.0095
Congestion Costs (BFMCC) (5) restructuring legislation, related to the supply of
electricity.
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Systems Benefits Charge (SBC) Charges on retail customer bills representing public 10.45% (6) $0.0005
policy costs such as generation decommissioning and
displaced worker protection costs, as determined by the
DPUC.
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Conservation & Load Management Statutory assessment on retail customer bills placed in None $0.0030
(C&LM) (7) a State of Connecticut fund used to support energy
conservation and load management programs.
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Non-Bypassable Federally Mandated Federally mandated charge, as defined by Connecticut None $0.0015
Congestion Costs (NBFMCC) (8) restructuring legislation, related to the reliability of
supply delivered by the electric system.
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Renewable Energy Investment (REI) Statutory assessment on retail customer bills which is None $0.0010
(9) transferred to a State of Connecticut fund to support
renewable energy projects.
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(1) DPUC authorized return on equity. As of the February 18, 2004 DPUC
decision regarding UI's recovery of pension and postretirement benefits
expenses, earnings above 10.45% will be shared 100% to customers in the
form of accelerated amortization of stranded costs.
(2) FERC authorized return on equity.
(3) UI earns the authorized distribution return on equity on CTA rate base. UI
defers or accrues additional amortization to achieve the authorized return
on equity on unamortized CTA rate base. The DPUC has approved a financing
order which, when the State of Connecticut issues rate reduction bonds,
will increase the CTA, and decrease the C&LM and REI by an offsetting
amount, with no impact on financial results.
(4) This rate also includes a procurement fee to UI for providing transitional
standard offer service and an opportunity to earn an additional incentive
procurement fee if UI meets certain pricing thresholds. Except for the
fees, GSC has no impact on financial results as revenue collected equals
expense incurred ("pass through").
(5) BFMCC has no impact on financial results as BFMCC billing is a "pass
through". It is "bypassable" because it may not be charged to customers if
they choose to buy their electricity from an alternate supplier.
(6) UI earns the authorized distribution return on equity on SBC rate base. UI
defers or accrues additional amortization to achieve the authorized return
on equity on unamortized SBC rate base.
(7) UI has the opportunity to earn a nominal "incentive" for managing the C&LM
programs. Except for the incentive, C&LM has no impact on financial
results, as C&LM billing is a "pass through".
(8) NBFMCC has no impact on financial results as NBFMCC billing is a "pass
through".
(9) REI has no impact on financial results as REI billing is a
"pass through".
(10) The total average price per KWH is $0.1185.
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For further information refer to PART II, Item 8, "Financial Statements and
Supplementary Data - Notes to Consolidated Financial Statements - Note (C),
Regulatory Proceedings," of this Form 10-K which is hereby incorporated by
reference.
POWER SUPPLY ARRANGEMENTS
Pursuant to Connecticut's 1998 electric industry restructuring legislation, UI's
retail electricity customers are able to choose their electricity supplier.
Through December 31, 2003, UI was required to offer fully bundled retail service
under a regulated "standard offer" rate to each customer who did not choose an
alternate electricity supplier, and to provide back-up power supply service to
customers whose alternate electricity supplier failed to provide generation
services for reasons other than the customers' failure to pay for such services.
Beginning January 1, 2004 and continuing through December 31, 2006, UI is
required to offer retail service under a regulated "transitional standard offer"
rate to each customer who does not choose an alternate electricity supplier.
On December 28, 2001, UI entered into an agreement with Virginia Electric and
Power Company, subsequently assigned to its affiliate Dominion Energy Marketing
(Dominion), for the supply of all of UI's standard offer generation service
needs from January 1, 2002 through December 31, 2003. Dominion is also
contracted to supply all of UI's generation service requirements through 2008
for certain customers who entered into long-term special contracts with UI prior
to the 1998 legislation.
On October 22, 2003, UI entered into an agreement with PSEG Energy Resources &
Trade LLC (PSEG) for the supply of all of UI's transitional standard offer (TSO)
generation service needs, excluding requirements for special contract customers,
from January 1, 2004 through December 31, 2006, the end of the transitional
standard offer period in Connecticut.
For further information regarding power supply arrangements, refer to PART II,
Item 7, "Management's Discussion and Analysis of Financial Condition and Results
of Operations," which information is hereby incorporated by reference.
ARRANGEMENTS WITH OTHER INDUSTRY PARTICIPANTS
NEW ENGLAND POWER POOL AND ISO-NEW ENGLAND
UI has been a member of the New England Power Pool (NEPOOL) since 1971. NEPOOL
was formed to assure reliable and economic operation of the bulk power system in
the New England region.
The NEPOOL membership includes entities engaged in the electricity business in
New England. NEPOOL has contracted with an independent entity, ISO New England
Inc. (ISO-NE), for the operation of the regional bulk power system, to assure
that the bulk power system will continue to be operated in accordance with the
NEPOOL, the North America Reliability Council (NERC), and the Northeast Power
Coordinating Council (NPCC) reliability objectives and also to assure that the
wholesale power markets will be workably competitive and non-discriminatory.
Various energy, capacity, and ancillary services products are purchased in the
NEPOOL market; in addition, participants may enter into bilateral contracts for
purchase/sale of these products.
On March 1, 2003, NEPOOL and ISO-NE implemented substantial marketplace changes,
referred to as standard market design (SMD), as approved by the FERC. These SMD
changes included the implementation of a transmission congestion management
system and a multi-settlement system. The SMD processes employed in New England
are based on systems that are currently operational in the Pennsylvania-New
Jersey-Maryland control area.
On October 31, 2003, ISO-NE filed a joint proposal with the New England
transmission owners at the FERC for the creation of a regional transmission
organization (RTO). ISO-NE expects that the creation of an RTO for New England
will strengthen the independent oversight of the region's bulk power system and
wholesale electricity marketplace. UI is a signatory to the filing and, if the
filing is approved by the FERC, UI would have the opportunity to join the New
England RTO and become eligible for the FERC's transmission return on equity
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joining incentive (50 basis points above the approved transmission return on
equity). If approved, the RTO could become operational in 2004.
HYDRO-QUEBEC
UI is a participant in the Hydro-Quebec transmission tie facility linking New
England and Quebec, Canada. UI has a 5.45% participating share in this facility,
which has a maximum 2000 megawatt equivalent generation capacity value.
ENVIRONMENTAL REGULATION
The National Environmental Policy Act requires that detailed statements of the
environmental effect of UI's facilities be prepared in connection with the
issuance of various federal permits and licenses. Federal agencies are required
by that Act to make an independent environmental evaluation of the facilities as
part of their actions during proceedings with respect to these permits and
licenses.
Under the federal Toxic Substances Control Act (TSCA), the Environmental
Protection Agency (EPA) has issued regulations that control the use and disposal
of polychlorinated biphenyls (PCBs). PCBs had been widely used as insulating
fluids in many electric utility transformers and capacitors manufactured before
TSCA prohibited any further manufacture of such PCB equipment. Fluids with a
concentration of PCBs higher than 500 parts per million and materials (such as
electrical capacitors) that contain such fluids must be disposed of through
burning in high temperature incinerators approved by the EPA. Presently, no
transformers having fluids with levels of PCBs higher than 500 parts per million
are known by UI to remain in service in its system.
Under the federal Resource Conservation and Recovery Act (RCRA), the generation,
transportation, treatment, storage and disposal of hazardous wastes are subject
to regulations adopted by the EPA. Connecticut has adopted state regulations
that parallel RCRA regulations but are more stringent in some respects. UI has
complied with the notification and application requirements of present
regulations, and the procedures by which UI handles, stores, treats and disposes
of hazardous waste products have been revised, where necessary, to comply with
these regulations.
RCRA also regulates underground tanks storing petroleum products or hazardous
substances, and Connecticut has adopted state regulations governing underground
tanks storing petroleum and petroleum products that, in some respects, are more
stringent than the federal requirements. UI currently owns eight underground
storage tanks, which are used primarily for gasoline and fuel oil, that are
subject to these regulations. A testing program has been installed to detect
leakage from any of these tanks, and substantial costs may be incurred for
future actions taken to prevent tanks from leaking, to remedy any contamination
of groundwater, and to modify, remove and/or replace older tanks in compliance
with federal and state regulations.
In accordance with applicable regulations, UI has disposed of residues from
operations at landfills. In recent years it has been determined that such
disposal practices, under certain circumstances, can cause groundwater
contamination. Although UI has no knowledge of the existence of any such
contamination, if UI or regulatory agencies determine that remedial actions must
be taken in relation to past disposal practices, UI may experience substantial
costs prior to seeking regulatory recovery.
In complying with existing environmental statutes and regulations and further
developments in these and other areas of environmental concern, including
legislation and studies in the fields of water and air quality, hazardous waste
handling and disposal, toxic substances, and electric and magnetic fields, UI
may incur substantial capital expenditures for equipment modifications and
additions, monitoring equipment and recording devices, and it may incur
additional operating expenses. Litigation expenditures may also increase as a
result of ongoing scientific investigations, and speculation and debate,
concerning the possibility of harmful health effects of electric and magnetic
fields. The total amount of these expenditures is not now determinable.
UI's January 2004 purchase of its Electric System Work Center property, located
in Shelton, Connecticut, initiated a review by the Connecticut Department of
Environmental Protection's (CDEP) Transfer Act Program. Under this review, the
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CDEP has an opportunity to examine the current environmental conditions at the
site and direct remediation, or further remediation, of any areas of concern.
Possible areas of concern include locations where previous oil spills had been
reported and remediated. The CDEP may investigate events that are currently
listed as "closed" (meaning that the CDEP had previously determined that no
further action was required). It is expected that the CDEP will complete its
review by the end of the first quarter of 2004.
UI sold property to Bridgeport Energy LLC (BE) on April 16, 1999. In connection
with the sale of the property, UI entered into an environmental indemnity
agreement with BE, in which UBE holds a minority interest, to provide
indemnification related to certain environmental conditions specific to the site
where BE's generation facilities were constructed. Because of soil management
and other environmental remediation activities that were performed during
construction of the generation facilities, UI does not regard its exposure
under the environmental indemnity agreement as material.
Additional discussion regarding environmental issues may be found in PART II,
Item 8 of this Form 10-K under the caption, "Financial Statements and
Supplementary Data" - Notes to Consolidated Financial Statements - Note (J),
Commitments and Contingencies - Site Decontamination, Demolition and Remediation
Costs", which information is hereby incorporated by reference.
NON-UTILITY BUSINESSES
UIL Holdings serves as the parent corporation for several non-utility
businesses, each of which is incorporated separately to participate in business
ventures that are intended to provide incremental earnings to UIL Holdings'
shareowners.
AMERICAN PAYMENT SYSTEMS, INC.
APS provides a variety of financial products and services throughout the United
States through its network of approximately 10,000 retailers (agents) in
locations in grocery stores, pharmacies, banks and check-cashing stores in 47
states. APS' products and services are targeted at persons who do not have
banking relationships or are infrequent users of non-cash methods of payment.
These products and services include: (1) walk-in bill payments; (2) prepaid
telephony products; and (3) prepaid stored value cards.
On December 16, 2003, UIL Holdings entered into an agreement to sell APS to
CheckFree Corporation (CheckFree), a leading provider of financial electronic
commerce services and products. Under the terms of the agreement, and pending
receipt of regulatory approvals and satisfaction of customary closing
conditions, CheckFree will pay approximately $110 million in cash for the
outstanding stock of APS. The transaction is expected to close during the second
quarter of 2004, with the resulting gain on the sale to be recognized at that
time.
CheckFree will not acquire APS' telephony assets, which include APS' 51%
ownership interest in CellCards of Illinois, LLC (CCI). Following execution of
the agreement to sell APS, management determined that the telephony business is
not part of UIL Holdings' overall strategic business focus, and therefore
developed a plan to pursue the sale of APS' telephony assets. As part of that
plan, CCI was sold for book value to an independent third party on February 13,
2004.
As a result of the events described above, APS has been categorized as "held for
sale" as of December 31, 2003 for financial accounting purposes, and as such,
its results are included in discontinued operations in the accompanying
consolidated statements of income included herein, for all periods presented.
XCELECOM, INC.
Xcelecom and its subsidiaries operate in two primary lines of business in
certain regional markets of the Eastern United States. The specialty
construction trade services line of business, which accounts for approximately
90% of Xcelecom's annual revenues, provides general and specialty electrical,
mechanical and voice-data-video design, construction, and related services. The
computer network system integration services line of business provides computer
- 11 -
system local and wide area network integration design, installation and
consulting services. Xcelecom's subsidiaries include Allan Electric Co., Inc.,
Brite-Way Electrical Contractors, Inc., JBL Electric, Inc. and The Datastore,
Incorporated, all in New Jersey, Orlando Diefenderfer Electrical Contractors,
Inc., in Pennsylvania, 4Front Systems, Inc., in North Carolina, J. E. Richards,
Inc. and Richards Electric, Inc., in Maryland, Terry's Electric, Inc., in
Florida, and Johnson Electric Co., Inc., M. J. Daly & Sons, Inc., McPhee
Electric Ltd., LLC and McPhee Utility Power and Signal, Ltd., all in
Connecticut. Xcelecom also owns and operates two heating and cooling energy
centers, through its Thermal Energies, Inc. subsidiary, providing service to two
of New Haven, Connecticut's largest office and government complexes.
Xcelecom is the eighth largest provider of electrical contracting services in
the United States according to Engineering News Record Magazine. Xcelecom
provides a broad range of services including designing, building, maintaining
and servicing electrical, data communications and utilities systems for
commercial, industrial and residential customers. Xcelecom's electrical
contracting services include design of the electrical distribution systems
within a building or complex, procurement and installation of wiring and
connection to power sources, end-use equipment and fixtures, as well as
long-term contract maintenance. Xcelecom's mechanical contracting services
include the design, procurement and installation systems for heating,
ventilation, air conditioning, refrigeration and clean room ventilation systems,
along with plumbing, process and fire protection piping systems. Xcelecom's
customer base is diverse and includes general contractors, property managers and
developers, corporations, government agencies and municipalities, utilities,
gaming facilities and homeowners. Xcelecom provides these specialty construction
trade services in most major markets along the U.S. eastern seaboard.
Demand for Xcelecom's specialty construction trade services is driven by
construction and renovation activity levels, as well as changes to local and
national electrical codes.
Xcelecom's service and maintenance revenues are derived from service calls and
routine maintenance contracts, which tend to be recurring and less sensitive to
economic fluctuations. Service and maintenance is supplied on a long-term and
per-call basis. Long-term service and maintenance is provided through contracts
that require the customer to pay an annual or semi-annual fee for periodic
diagnostic services at a specific discount from standard prices for repair and
replacement services. Per-call service and maintenance is initiated when a
customer requests emergency repair service.
The computer network systems integration business line is a full-service
provider of enterprise-wide network solutions. Specialties include design,
installation, management and support of a variety of network needs ranging from
point-to-point data and communications installations to complex Wide Area data
and communication networks. Xcelecom's clients include medium size local and
regional businesses, leading healthcare and educational facilities, and selected
Fortune 100 technology, financial services and pharmaceutical companies.
Xcelecom's computer network systems integration business operates primarily in
certain regional markets in the Eastern United States.
Xcelecom manages operations based on business lines. Within the specialty
construction trade services business line, the subsidiaries are managed by two
corporate-based senior operating officers reporting directly to Xcelecom's
President. The computer network system integration services business line
reports directly to a corporate-based senior operating officer, who in turn
reports directly to the President. This operating structure provides a platform
for strong operating and financial controls, allows for efficient management of
the business, and fosters implementation of best practices across the
organization. This structure also provides the ability to manage certain
customer and vendor relationships above the local level. Utilizing this
structure enables Xcelecom to continue to expand the services and expertise it
offers in each market by using specialized technical and marketing skills to
maintain and strengthen relationships with general contractors and other
customers; build positive relationships with engineers, architects and key
suppliers; and continuously improve project execution, sales, administrative,
safety, and training practices.
MARKET DATA
Using the most recently available data from F. W. Dodge, the largest provider of
project news, plans and analysis service for construction professionals in the
United States and Canada, it is estimated that the electrical contracting
- 12 -
industry, Xcelecom's primary source of revenues, will generate annual revenues
in excess of $80 billion in 2004. The electrical contracting industry is highly
fragmented, with more than 70,000 companies, most of which are small,
owner-operated businesses. The most recent ranking of U.S. electrical
contractors by the Engineering News Record magazine indicates that there are
only 12 U.S. electrical contractors with revenues in excess of $200 million. F.
W. Dodge data indicates total non-residential construction industry revenues in
the markets served by Xcelecom have grown at an average compound rate of
approximately two percent from 1997 through 2003. This includes a decline in the
market from 2001 to 2003 of over thirteen percent, where commercial and
industrial construction spending was down due to the slowdown in the U.S.
economy during that period.
Xcelecom had a backlog of contractually obligated work to be completed as of
December 31, 2003 of approximately $147 million, as compared with backlog of
approximately $108 million as of December 31, 2002. This increase in backlog is
predominantly due to a number of new contract awards in several local geographic
markets in the latter part of 2003. However, because of increased competition,
the overall expected gross margin related to the year end 2003 backlog is
slightly lower, in percentage terms, than the expected gross margin percentage
carried in the year end 2002 backlog balance. There has been a shift in the
composition of backlog from time to time, based on market demand and economic
trends in Xcelecom's geographic markets. During 2003, the backlog of work in
progress for commercial and industrial work declined in the areas of commercial
office buildings, hotels and condominiums, manufacturing facilities and
transportation industry work, while areas of backlog growth included
institutions, utility work and projects for state and local government.
COMPETITION
The specialty construction trade services and computer network systems
integration industries are highly fragmented and competitive. In the specialty
construction trade services business line, most of Xcelecom's competitors are
small, owner-operated companies that typically operate in a limited geographic
area. However, Xcelecom also faces competition from several larger regional and
national firms, some of which are publicly owned. Competition is based primarily
on price, technical capability, workforce size and ability, and experience and
reputation.
The computer network systems integration industry is intensely competitive.
Competition is based primarily on price, product availability, speed of
delivery, credit availability, the ability to tailor specific solutions to
customer needs, and quality and breadth of product lines. Within the business
line, there is also competition from numerous large publicly owned entities,
including technology and telecommunications companies, along with smaller
regional and local owner-operated entities. These marketers and resellers
include national direct marketers and national and regional resellers, including
value-added resellers and specialty retailers, aggregators, distributors,
national computer retailers, computer superstores, Internet-only computer
providers, consumer electronics and office supply superstores and mass
merchandisers. Product manufacturers, in particular, have increased their
efforts to sell directly to the business customer, particularly larger corporate
customers and, thus, have become more of a competitive threat than in the past.
Certain competitors have longer operating histories and greater financial,
technical, marketing and other resources than Xcelecom. In addition, some of
these competitors may be able to respond more quickly to new or changing
opportunities, technologies and customer requirements. Many current and
potential competitors also have greater name recognition and engage in more
extensive promotional activities, offer more attractive terms to customers and
adopt more aggressive pricing policies than Xcelecom does. Additionally, some of
Xcelecom's competitors have lower operating cost structures, allowing them to
profitably employ more aggressive pricing strategies. There can be no assurance
that Xcelecom will be able to compete effectively with current or future
competitors or that the competitive pressures will not have a material adverse
effect on Xcelecom's business, results of operations and financial condition.
Decreasing prices of Xcelecom's products and services offerings will require
Xcelecom to sell a greater number of products and services to achieve the same
level of net sales and gross profit, and to effectively manage its fixed and
variable overhead costs to maintain a similar level of earnings before interest
and taxes. In the future, competition may be encountered from new market
entrants.
- 13 -
Further discussion regarding Xcelecom's business may be found in PART II, Item
7, "Management's Discussion and Analysis of Financial Condition and Results of
Operations" of this Form 10-K, which information is hereby incorporated by
reference.
UNITED CAPITAL INVESTMENTS, INC.
UCI was established to make passive or minority interest investments, and its
investments include:
CROSS-SOUND CABLE COMPANY, LLC (CROSS-SOUND) - UCI has a 25% interest in
Cross-Sound, which owns and operates a 330-megawatt transmission line (cable)
connecting Connecticut and Long Island under Long Island Sound. The value of
UCI's share of the Cross-Sound cable project as of December 31, 2003 was $33
million. TransEnergieUS Ltd., the project developer and majority owner, is a
Delaware corporation and a subsidiary of TransEnergie HQ Inc., the transmission
affiliate of Hydro-Quebec (HQ). Cross-Sound has a twenty-year contract with the
Long Island Power Authority for the entire capacity of the transmission line for
its commercial operation. The cable has been installed and is operating under a
Department of Energy (DOE) Emergency Order, although it has yet to achieve
commercial operation status pending the resolution of permit issues. An interim
operating agreement, structured similarly to the twenty-year contract, has been
developed to cover operation until commercial status is achieved.
See PART II, Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Major Influences on Financial Condition,"
for further information regarding Cross-Sound.
ZERO STAGE CAPITAL - UCI has invested $3.2 million in Zero Stage VI, a Small
Business Investment Company (SBIC) fund targeting the Northeast region of the
United States. UCI has also funded $3.5 million of a $4 million commitment to
Zero Stage VII, a national technology venture capital fund. UCI expects to
invest the final $0.5 million in Zero Stage VII in 2004. Along with the
opportunity to earn returns, UIL Holdings views these funds as a means of
promoting local economic development. These funds have made no distributions to
date. Due to the nature of its investments and market conditions, the carrying
value of Zero Stage VI has decreased substantially over the past two years. The
value of UCI's investments in Zero Stage VI and VII as of December 31, 2003 were
$0.1 million and $2.9 million, respectively.
IRONBRIDGE MEZZANINE FUND - In 2001, UCI committed $1 million to Ironbridge
Mezzanine Fund, of which it has funded $0.5 million as of December 31, 2003. UCI
expects to fund the remaining capital commitment over the next several years.
Ironbridge is a regional SBIC fund committed to investing a portion of its
capital in women and minority-owned businesses and businesses located in low and
moderate income areas. The value of UCI's investment in Ironbridge Mezzanine
Fund as of December 31, 2003 was $0.4 million.
UCI has no current plans to make additional minority interest investments.
UNITED BRIDGEPORT ENERGY, INC.
UBE holds a 33 1/3% ownership interest, as a minority investor, in Bridgeport
Energy LLC (BE), the owner of a gas-fired 520 MW merchant wholesale electric
generating facility located in Bridgeport, Connecticut. The remainder of BE is
owned, and the facility is operated by, an affiliate of Duke Energy. BE began
commercial operation in 1999 and sells energy and generation capacity into the
wholesale market. The plant has an agreement through August 2018 with Duke
Energy Trading and Marketing (DETM), a joint venture between Duke Energy and
Exxon Mobil, which gives DETM the right to deliver natural gas to the facility
and market all of the electricity generated by the facility. DETM reimburses BE
under a formula based on the difference between gas costs and electric prices.
In January 2004, Duke Energy announced plans to wind down DETM as part of a plan
to restructure its merchant energy business. UBE does not anticipate these plans
to have a negative impact on the operations of BE. As of December 31, 2003,
UBE's investment in BE had a carrying value of $82.1 million.
- 14 -
FINANCING
Information regarding UIL Holdings' capital requirements and resources and its
financings and financial commitments may be found in PART II, Item 7 of this
Form 10-K under the caption, "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Liquidity and Capital Resources," which
information is hereby incorporated by reference.
EMPLOYEES
As of December 31, 2003, UIL Holdings and its subsidiaries had a total of 2,912
employees, consisting of 31 in UIL Holdings, 820 in UI and 2,061 in the
non-utility subsidiaries. Of the 820 UI employees, 363 were members of Local
470-1, Utility Workers Union of America, AFL-CIO. UI and its unionized employees
entered into a three-year agreement which expires on May 15, 2005. Of the 2,061
employees of the non-utility subsidiaries, 224 were employed by APS, 1,835 by
Xcelecom and its subsidiaries, and 2 by UCI. Certain of Xcelecom's subsidiaries
have collective bargaining agreements that cover, in the aggregate,
approximately 932 employees. Substantially all of these collective bargaining
agreements contain "no-strike" clauses. Xcelecom has not experienced any
significant strikes or work stoppages.
ITEM 2. PROPERTIES.
TRANSMISSION AND DISTRIBUTION PLANT
The transmission lines of UI consist of approximately 102 circuit miles of
overhead lines and approximately 15 circuit miles of underground lines, all
operated at 345 KV or 115 KV and located within or immediately adjacent to the
territory served by UI. These transmission lines are part of the New England
transmission grid. A major portion of UI's transmission lines is constructed on
railroad right-of-way pursuant to two Transmission Line Agreements. One of the
agreements expired in May 2000 and a new agreement was reached in June 2003 and
applied retroactively. The new agreement expires in May 2030 and will be
automatically extended for up to two successive renewal periods of fifteen years
each, unless UI provides timely written notice of its election to reject the
automatic extension. The other agreement will expire in May 2040.
UI owns and operates 25 bulk electric supply substations with a capacity of
1,784 MVA, and 26 distribution substations with a capacity of 132 MVA. UI has
3,233 pole-line miles of overhead distribution lines and 130 conduit-bank miles
of underground distribution lines.
See PART II, Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Capital Expenditure Program" concerning
the estimated cost of additions to UI's transmission and distribution
facilities, which information is hereby incorporated by reference.
ADMINISTRATIVE AND SERVICE FACILITIES
Both UIL Holdings' and UI's corporate headquarters are located in New Haven,
Connecticut. Additionally, UI occupies several facilities within its service
territory for administrative and operational purposes.
APS currently leases office space in Wallingford, Connecticut, which is the site
of its corporate headquarters.
Xcelecom leases office space in Hamden, Connecticut, which is the site of its
corporate headquarters. Xcelecom's operating subsidiaries own or lease real
property, buildings and equipment in Connecticut, Florida, Maryland, New Jersey,
North Carolina and Pennsylvania necessary for the management and operation of
their general and specialty electrical, mechanical and voice-data-video design,
construction, systems integration and related services.
- 15 -
ITEM 3. LEGAL PROCEEDINGS.
UCI has a 25% interest in Cross-Sound Cable Company, LLC (Cross-Sound), whose
cable operation may be affected by the outcome of a request by the Connecticut
Attorney General and the Connecticut Department of Environmental Protection to
the United States Department of Energy (DOE) for stay or rehearing of the August
28 DOE Emergency Order that directed the Cross-Sound cable to operate. Neither
UIL Holdings nor any of its subsidiaries is a party to the DOE proceeding.
See Part II, Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Major Influences," for further discussion,
which information is hereby incorporated by reference.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There were no matters submitted to a vote of security holders, through the
solicitation of proxies or otherwise, during the fourth quarter of the fiscal
year ended December 31, 2003.
EXECUTIVE OFFICERS
The names and ages of all executive officers of UIL Holdings and all such
persons chosen to become executive officers, all positions and offices with UIL
Holdings held by each such person, and the period during which he or she has
served as an officer in the office indicated, are as follows:
NAME AGE* POSITION EFFECTIVE DATE
- ---- --- -------- --------------
Nathaniel D. Woodson 62 Chairman of the Board of Directors, President and March 22, 1999
Chief Executive Officer
Louis J. Paglia 46 Executive Vice President and Chief Financial July 1, 2002
Officer
Susan E. Allen 44 Vice President Investor Relations, Corporate August 28, 2000
Secretary and Assistant Treasurer
Charles J. Pepe 55 Treasurer and Assistant Secretary August 28, 2000
Gregory W. Buckis 43 Controller June 30, 2003
- -----------------------
*As of December 31, 2003
There is no family relationship between any director, executive officer, or
person nominated or chosen to become a director or executive officer of UIL
Holdings. All executive officers of UIL Holdings hold office at the pleasure of
UIL Holdings' Board of Directors. All of the above executive officers have
entered into employment agreements. There is no arrangement or understanding
between any executive officer of UIL Holdings and any other person pursuant to
which such officer was selected as an officer.
A brief account of the business experience during the past five years of each
executive officer of UIL Holdings is as follows:
NATHANIEL D. WOODSON. Mr. Woodson served as Chairman of the Board of Directors,
President and Chief Executive Officer of The United Illuminating Company during
the period January 1, 1999 to January 31, 2001. He has served as Chairman of the
Board of Directors and Chief Executive Officer of The United Illuminating
Company since February 1, 2001 and Chairman of the Board of Directors, President
and Chief Executive Officer of UIL Holdings Corporation since its inception on
March 22, 1999.
LOUIS J. PAGLIA. Mr. Paglia served as Executive Vice President and Chief
Financial Officer of ECredit.com, Inc. from 1999 to 2001. Mr. Paglia joined UIL
Holdings Corporation in April 2002 and has served as Executive Vice President
and Chief Financial Officer since July 1, 2002.
- 16 -
SUSAN E. ALLEN. Ms. Allen served as Manager of Financing and Corporate Secretary
Administration of The United Illuminating Company during the period January 1,
1999 to June 30, 1999 and Director Finance and Corporate Secretary
Administration of The United Illuminating Company from July 1, 1999 to June 25,
2000. She has served as Vice President Investor Relations, Corporate Secretary
and Assistant Treasurer of The United Illuminating Company since June 26, 2000
and of UIL Holdings Corporation since August 28, 2000.
CHARLES J. PEPE. Mr. Pepe served as Assistant Treasurer and Assistant Secretary
of The United Illuminating Company during the period January 1, 1999 to June 25,
2000. He has served as Treasurer and Assistant Secretary of The United
Illuminating Company since June 26, 2000 and of UIL Holdings Corporation since
August 28, 2000.
GREGORY W. BUCKIS. Mr. Buckis served as Vice President of Administration and
Group Controller for Science Applications International Corporation from January
1, 1999 to September 11, 2000. He served as Vice President and Controller for
the NASDAQ Stock Market Inc. from September 12, 2000 to June 29, 2003. He has
served as Controller of UIL Holdings Corporation since June 30, 2003.
PART II
ITEM 5. MARKET FOR UIL HOLDINGS' COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
UIL Holdings' Common Stock is traded on the New York Stock Exchange, where the
high and low closing sale prices during 2003 and 2002 were as follows:
2003 SALE PRICE 2002 SALE PRICE
--------------- ---------------
HIGH LOW HIGH LOW
---- --- ---- ---
First Quarter $37.70 $31.01 $58.10 $51.65
Second Quarter 45.65 34.67 58.53 52.75
Third Quarter 40.77 34.98 56.35 35.35
Fourth Quarter 46.07 36.12 35.50 29.06
Quarterly dividends on the Common Stock have been paid since 1900. The quarterly
cash dividends declared in 2003 and 2002 were at a rate of $0.72 per share.
UIL Holdings expects to continue its policy of paying regular cash dividends,
although there is no assurance as to the amount of future dividends because they
depend on future earnings, capital requirements, and financial condition.
Further information regarding payment of dividends is provided in Part II, Item
7, "Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources."
As of December 31, 2003, there were 10,760 Common Stock shareowners of record.
- 17 -
EQUITY COMPENSATION PLAN INFORMATION
NUMBER OF SECURITIES
REMAINING AVAILABLE FOR
NUMBER OF SECURITIES TO FUTURE ISSUANCE UNDER
BE ISSUED UPON EXERCISE WEIGHTED AVERAGE EQUITY COMPENSATION PLANS
OF OUTSTANDING OPTIONS, EXERCISE PRICE OF (EXCLUDING SECURITIES
WARRANTS AND RIGHTS OUTSTANDING OPTIONS, REFLECTED IN COLUMN (A))
(A) WARRANTS AND RIGHTS (C)
PLAN CATEGORY (B)
-------------------------- --------------------------- ------------------------- ----------------------------
Equity Compensation
Plans Approved by
Security Holders 884,535 $45.17 358,492 (1)
Equity Compensation
Plans Not Approved by
Security Holders None - -
Total 884,535 $45.17 358,492 (1)
(1) Includes 40,086 shares authorized for issuance under the UIL Holdings
Deferred Compensation Plan, which is a non-qualified benefit plan.
- 18 -
ITEM 6. SELECTED FINANCIAL DATA
2003 2002 2001 2000 1999
===================================================================================================================================
FINANCIAL RESULTS OF OPERATION ($000'S)
Sales of electricity
Utility
Retail
Residential $ 273,230 $ 281,307 $ 266,585 $ 252,730 $ 271,605
Commercial 248,257 256,077 254,842 242,075 256,246
Industrial 82,087 91,129 95,250 96,955 100,437
Other 10,311 10,512 10,501 10,587 11,308
------------ ------------- ------------ ------------- -------------
Total Retail 613,885 639,025 627,178 602,347 639,596
Wholesale 24,591 58,249 61,570 67,990 24,334
Other operating revenues 31,144 30,259 26,070 34,354 16,045
Non-utility businesses 294,057 310,063 312,642 138,491 35,510
------------ ------------- ------------ ------------- -------------
Total operating revenues 963,677 1,037,596 1,027,460 843,182 715,485
------------ ------------- ------------ ------------- -------------
Operating income 88,957 124,702 144,594 146,673 154,167
------------ ------------- ------------ ------------- -------------
Income from Continuing Operations, net of tax 29,537 45,751 59,563 58,723 50,677
Discontinued Operations, net of tax (Note O) (6,251) (1,804) (200) 2,034 1,547
------------ ------------- ------------ ------------- -------------
Net income 23,286 43,947 59,363 60,757 52,224
Premium (Discount) on preferred stock redemption - - - - 53
Preferred and preference stock dividends - - - - 66
------------ ------------- ------------ ------------- -------------
Income applicable to common stock $ 23,286 $ 43,947 $ 59,363 $ 60,757 $ 52,105
===================================================================================================================================
FINANCIAL CONDITION ($000'S)
Property, Plant and Equipment in service - net (1) $ 512,327 $ 471,670 $ 499,470 $ 503,340 $ 488,675
Deferred charges and regulatory assets 895,640 813,299 839,161 897,504 924,807 (2)
Assets of discontinued operations 120,261 123,005 123,610 110,329 69,888
Total Assets (3) 1,879,074 1,793,759 1,876,264 1,880,076 1,808,717
Current portion of long-term debt - 100,000 100,000 - 25,000
Net long-term debt excluding current portion 495,460 395,432 498,557 522,221 518,228
Preferred stock & company-obligated mandatorily redeemable
securities of subsidiaries holding solely parent debentures - - - - 50,000
Net common stock equity 492,774 482,352 499,995 479,045 458,298
===================================================================================================================================
COMMON STOCK DATA
Average number of shares outstanding - basic (000's) 14,291 14,239 14,097 14,073 14,052
Number of shares outstanding at year-end (000's) 14,315 14,272 14,116 14,077 14,063
Earnings per share - basic:
Continuing Operations $ 2.07 $ 3.22 $ 4.22 $ 4.18 $ 3.60
Discontinued Operations (Note O) $ (0.44) $ (0.13) $ (0.01) $ 0.14 $ 0.11
------------ ------------- ------------ ------------- -------------
Net Earnings $ 1.63 $ 3.09 $ 4.21 $ 4.32 $ 3.71
Earnings per share - diluted
Continuing Operations $ 2.07 $ 3.21 $ 4.20 $ 4.17 $ 3.60
Discontinued Operations (Note O) $ (0.44) $ (0.13) $ (0.01) $ 0.14 $ 0.11
------------ ------------- ------------ ------------- -------------
Net Earnings $ 1.63 $ 3.08 $ 4.19 $ 4.31 $ 3.71
Book value per share $ 34.44 $ 33.80 $ 35.42 $ 34.03 $ 32.59
Dividends declared per share $ 2.88 $ 2.88 $ 2.88 $ 2.88 $ 2.88
Market Price:
High $ 46.07 $ 58.53 $ 52.42 $ 55.13 $ 53.19
Low $ 31.01 $ 29.06 $ 44.25 $ 38.13 $ 39.31
Year-end $ 45.10 $ 34.87 $ 51.30 $ 49.75 $ 51.38
===================================================================================================================================
OTHER FINANCIAL AND STATISTICAL DATA (UTILITY ONLY) (UNAUDITED)
Sales by class (millions of kWh's)
Residential 2,262 2,247 2,120 2,057 2,054
Commercial 2,502 2,466 2,476 2,403 2,388
Industrial 952 1,022 1,082 1,146 1,162
Other 47 46 46 48 48
------------ ------------- ------------ ------------- -------------
Total 5,763 5,781 5,724 5,654 5,652
------------ ------------- ------------ ------------- -------------
Number of retail customers by class (average)
Residential 288,405 287,632 286,331 284,955 282,986
Commercial 29,687 29,757 29,889 29,776 29,757
Industrial 1,595 1,630 1,707 1,725 1,746
Other 1,306 1,267 1,250 1,207 1,185
------------ ------------ ------------- ------------- -------------
Total 320,993 320,286 319,177 317,663 315,674
------------ ------------- ------------- ------------- -------------
Average price per kilowatt hour by class (cents)
Residential 12.08 12.52 12.57 12.29 13.22
Commercial 9.92 10.39 10.29 10.07 10.73
Industrial 8.62 8.92 8.80 8.46 8.64
Revenues - retail sales per kWh 10.65 11.05 10.96 10.65 11.31
===================================================================================================================================
(1) Reflects 1999 reclassification of $518.3 million of nuclear assets from
plant in-service to regulatory asset, as well as reclassification of asset
removal costs from accumulated depreciation to regulatory liabilities for
all years presented.
(2) Reflects reclassification of $518.3 million of nuclear assets from plant
in-service to regulatory asset.
(3) Reflects reclassification of asset removal costs from accumulated
depreciation to regulatory liabilities for all years presented.
- 19 -
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
CERTAIN STATEMENTS CONTAINED HEREIN, REGARDING MATTERS THAT ARE NOT HISTORICAL
FACTS, ARE FORWARD-LOOKING STATEMENTS (AS DEFINED IN THE PRIVATE SECURITIES
LITIGATION REFORM ACT OF 1995). SUCH FORWARD-LOOKING STATEMENTS INCLUDE RISKS
AND UNCERTAINTIES; CONSEQUENTLY, ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE
EXPRESSED OR IMPLIED THEREBY, DUE TO IMPORTANT FACTORS INCLUDING, BUT NOT
LIMITED TO, GENERAL ECONOMIC CONDITIONS, LEGISLATIVE AND REGULATORY CHANGES,
DEMAND FOR ELECTRICITY AND OTHER PRODUCTS AND SERVICES, CHANGES IN ACCOUNTING
PRINCIPLES, POLICIES OR GUIDELINES, AND OTHER ECONOMIC, COMPETITIVE,
GOVERNMENTAL, AND TECHNOLOGICAL FACTORS AFFECTING THE OPERATIONS, MARKETS,
PRODUCTS, SERVICES AND PRICES OF THE SUBSIDIARIES OF UIL HOLDINGS CORPORATION
(UIL HOLDINGS). MOST OF THESE FACTORS ARE DIFFICULT TO PREDICT ACCURATELY AND
ARE GENERALLY BEYOND OUR CONTROL. YOU SHOULD CONSIDER THE AREAS OF RISK
DESCRIBED IN CONNECTION WITH ANY FORWARD-LOOKING STATEMENTS THAT MAY BE MADE
HEREIN. READERS ARE CAUTIONED NOT TO PLACE UNDUE RELIANCE ON THESE
FORWARD-LOOKING STATEMENTS, WHICH SPEAK ONLY AS OF THE DATE HEREOF.
OVERVIEW AND STRATEGY
UIL Holdings Corporation (UIL Holdings) operates in two principal lines of
business: utility and non-utility. The utility business consists of the
operations of The United Illuminating Company (UI), while the non-utility
business consists of the direct operations of Xcelecom, Inc. (Xcelecom) and
American Payment Systems, Inc. (APS; Discontinued Operations). The non-utility
business also includes United Capital Investments, Inc. (UCI), and United
Bridgeport Energy, Inc. (UBE), entities which indirectly support the operations
of their respective passive investments.
As a result of Connecticut's 1998 electric industry restructuring legislation,
UI divested its ownership interests in generation facilities. Over the past four
years UIL Holdings invested the proceeds of the sale of UI's generation
facilities in non-utility businesses to offset the expected reduction in utility
earnings resulting from this restructuring. Some of these investments have not
generated expected results due to a number of factors including the following: a
slow economy resulting in less construction business with lower margins for
Xcelecom, poor investment market conditions offsetting the value of UCI's
passive investments, high natural gas prices affecting the value of UBE, and
contract issues related to certain Xcelecom projects. UIL Holdings' overall
corporate strategy is to create shareholder value by actively managing the UI
and Xcelecom operating businesses to maximize earnings and cash flow, while
providing superior reliability and customer satisfaction within its service
territory. UIL Holdings plans to improve the value of both the utility and
non-utility businesses and investments through operating initiatives designed to
improve results and strategic objectives designed to increase value. In
particular, UIL Holdings plans to actively manage its costs, capitalize on
synergies within the Xcelecom operating segment to improve performance, and
evaluate the possible restructuring or refinancing of certain of the passive
investments.
THE UNITED ILLUMINATING COMPANY
UI, the largest business unit of UIL Holdings, is a transmission and
distribution electric utility whose primary objective is to provide reliable,
cost-effective service to the customers in the seventeen towns or cities in
which it operates. To provide reliable service, management will prudently invest
in, and maintain, its transmission and distribution infrastructure. As such, UI,
together with The Connecticut Light and Power Company (which also provides
electric transmission and distribution service in Connecticut) has applied for
siting approval to construct a major transmission upgrade in southwest
Connecticut. UI plans to manage operating and maintenance costs to optimize
return on equity, earnings and cash flow. While revenues are expected to remain
level, earnings from UI's CTA component are expected to decline over time due to
the planned amortization and resulting reduction in the stranded cost rate base.
UI's investment in infrastructure may not offset the decline of the stranded
cost rate base, as the opportunity to invest in transmission infrastructure is
limited by the size of its service territory.
XCELECOM, INC.
Xcelecom, the second largest business unit of UIL Holdings, is an electrical and
mechanical contractor and voice-data-video design company that operates in the
eastern portion of the United States. Xcelecom was built through a series of
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acquisitions over the past four years. Xcelecom's primary objective is to
continue to improve its operating performance in the markets that it serves.
Xcelecom expects to improve performance, in part, by capitalizing on synergies
throughout its network of subsidiaries, including best practices for safety and
risk management, project management and estimation, information systems,
cross-sales development and cash management and banking. Through these and other
initiatives, Xcelecom plans to manage operating costs to maximize earnings and
cash flow that will be used to meet substantially all of the operating and most
contractual commitments of its business.
Over the last several years, Xcelecom has expanded its business by pursuing an
aggressive acquisition program. Due to the effects of the economic downturn on
Xcelecom's business, in addition to the lack of available and potentially
desirable acquisitions, Xcelecom has curtailed its acquisition program. Xcelecom
currently does not intend to grow materially through acquisitions in the
foreseeable future; however, it will continually evaluate acquisition prospects
that could complement and expand its existing business platforms.
UNITED CAPITAL INVESTMENTS, INC.
As a minority partner in Cross-Sound Cable Company, LLC (Cross-Sound), UCI will
continue to work to maximize the value of its investment in Cross-Sound. To
achieve this objective, UCI will support the majority owner and project
developer, TransEnergieUS Ltd., in the efforts to get the interim operating
contract between Cross-Sound and the Long Island Power Authority (LIPA) approved
by all required authorities, as this contract provides Cross-Sound's
compensation for operation of the cable under the Department of Energy Emergency
Order enacted on August 28, 2003. UCI will also focus on resolving all permit
issues so the cable can achieve commercial operation.
UCI is a limited partner in three investment funds; its equity participation in
such funds ranges from 3%-7%. Two funds are venture capital funds that invest in
emerging growth companies, of which one is also licensed by the U.S. Small
Business Administration (SBA) as a Small Business Investment Company (SBIC). The
third fund is also a SBIC that focuses on mezzanine financing while also
investing a portion of its capital in women and minority-owned small businesses
and businesses located in low and moderate income areas. As a mezzanine fund, it
provides growth and acquisition capital to privately held businesses committed
to sustainable long-term growth; its focus on more mature companies means that
UCI's investment is subject to less risk, and also smaller potential returns, in
comparison to the venture capital funds.
UNITED BRIDGEPORT ENERGY, INC.
As a minority owner of Bridgeport Energy, LLC, (BE), UBE will continue to work
to maximize the commercial value of the plant. To achieve this objective, UBE
will work with the majority owner and project manager, a Duke Energy affiliate,
to optimize factors affecting the plant. Two major factors of focus are the
procurement of natural gas to be used by BE and maximizing the installed
capacity market revenues.
AMERICAN PAYMENT SYSTEMS, INC.
APS is a walk-in bill payment and financial services company that operates in 47
states. Through UIL Holdings' investment, APS became a nationwide leader in the
walk-in bill payment business. While APS was successful under UIL Holdings'
ownership, management believes that a company specializing in payment processing
or financial services, such as CheckFree Corporation (CheckFree), could
accelerate the future success of APS. Accordingly, on December 16, 2003, UIL
Holdings entered into an agreement to sell APS to CheckFree, a leading provider
of financial electronic commerce services and products. Under the terms of the
agreement, and pending receipt of regulatory approvals and satisfaction of
customary closing conditions, CheckFree will pay approximately $110 million in
cash for the outstanding stock of APS. The transaction is expected to close
during the second quarter of 2004, with the resulting gain on sale to be
recognized at that time. UIL Holdings currently plans to use the proceeds from
the sale to pay down short-term debt and for general corporate purposes.
CheckFree will not be acquiring APS' telephony assets, which includes APS' 51%
ownership interest in CellCards of Illinois, LLC (CCI). Following execution of
the agreement to sell APS, management determined that the telephony business is
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not part of UIL Holdings' overall strategic business focus, and therefore
developed a plan to pursue the sale of APS' telephony assets. As part of that
plan, on February 13, 2004, CCI was sold for book value to an independent third
party.
The effects of the decision to dispose of APS' telephony assets, along with the
agreements to sell APS and CCI, will eliminate the APS reporting segment.
Accordingly, APS has been categorized as "held for sale" for financial
accounting purposes as of December 31, 2003, and as such, its results are
included in discontinued operations in the accompanying consolidated statements
of operations for all periods presented.
MAJOR INFLUENCES ON FINANCIAL CONDITION
UIL HOLDINGS CORPORATION
UIL Holdings' financial condition and financing capability will be dependent on
many factors, including the level of income and cash flow of UIL Holdings'
subsidiaries, conditions in the securities markets, economic conditions,
interest rates, legislative and regulatory developments, and the ability to
retain key personnel.
The loss of key personnel or the inability to hire and retain qualified
employees could have an adverse effect on the business, financial condition and
results of operations for UIL Holdings' operating subsidiaries: UI, Xcelecom and
APS. These operations depend on the continued efforts of their respective
current and future executive officers, senior management and management
personnel. Xcelecom has acquired a number of companies in the past. The success
of these acquisitions is dependent on the continued involvement of the operating
management of these entities. UIL Holdings cannot guarantee that any member of
management at the corporate or subsidiary level will continue to serve in any
capacity for any particular period of time. If UIL Holdings were to lose a
number of key personnel, its operations could be adversely affected.
THE UNITED ILLUMINATING COMPANY
UI is an electric transmission and distribution utility whose structure and
operations are significantly affected by legislation and regulation. UI's rates
and authorized return on equity are regulated by the Federal Energy Regulation
Commission (FERC) and the Connecticut Department of Public Utility Control
(DPUC). Legislation and regulatory decisions implementing the legislation
establish a framework for UI's operations. Primary factors affecting UI's
financial results, in addition to legislation and regulation, are operational
matters such as sales volume, major weather disturbances, ability to control
expenses, and capital expenditures. UI expects significant growth in its capital
investment in transmission, and has applied for siting approval to construct a
major transmission project in southwest Connecticut.
LEGISLATION
State legislation has significantly restructured the electric utility industry
in Connecticut. The primary restructuring legislation includes Public Act 98-28
(the 1998 Restructuring Legislation) and Public Act 03-135, as amended in part
by Public Act 03-221 (the 2003 Restructuring Legislation). As a result of the
1998 Restructuring Legislation, UI divested its non-nuclear generation assets in
1999, and divested its nuclear generation assets in 2001 and 2002. Since 2000,
UI's retail customers have been able to choose their electricity suppliers.
During 2000-2003, the 1998 Restructuring Legislation required UI to offer retail
service to its customers under a regulated "standard offer" rate to retail
customers who did not choose an alternate electricity supplier. The 2003
Restructuring Legislation requires that UI offer a "transitional standard offer"
rate during the period January 1, 2004 - December 31, 2006 to retail customers
who do not choose an alternate electric supplier. The 2003 Restructuring
Legislation provides for UI to recover its costs of acquiring and providing
generation services, and directed the DPUC to establish each electric
distribution company's transitional standard offer rates.
As part of the restructuring pursuant to the 1998 Restructuring Legislation,
UI's distribution and transmission rates were "unbundled" on customers' bills,
which also included separate charges as of January 1, 2000 for a competitive
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transition assessment (CTA), generation services charge (GSC), conservation and
load management (C&LM) charge, renewable energy investment (REI) charge, and
systems benefits charge (SBC). As of January 1, 2004, federally-mandated
congestion costs, defined by the 2003 Restructuring Legislation to include the
costs of regional standard market design, are also identified separately on
customers' bills in accordance with the legislation. The 2003 Restructuring
Legislation makes other changes to the 1998 Restructuring Legislation, such as
the imposition of renewable portfolio standards, the support of the development
of renewable energy resources, and supplier of last resort service after the
transitional standard offer period ends, and a requirement that any new rate
case filings include a four-year rate plan proposal.
The 2003 Restructuring Legislation provides for UI to collect a fee of
$0.0005/kilowatt-hour from transitional standard offer service customers,
beginning January 1, 2004, as compensation for providing transitional standard
offer service. This fee is included in the amounts charged to transitional
standard offer customers, and is excluded by the legislation from determinations
of whether UI's rates are just and reasonable. For 2004, this fee is expected to
generate approximately $2.5 million to $3.0 million in revenue. The 2003
Restructuring Legislation also provides for the DPUC to establish an incentive
plan for the procurement of long-term contracts for transitional standard offer
service that compares UI's actual average contract price to a regional average
price for electricity, making adjustments as deemed appropriate by the DPUC. If
UI's price is lower than the average, the legislation provides for the plan to
allocate $0.00025/kilowatt-hour of transitional standard offer service to the
distribution company. The DPUC has not yet established an incentive plan or made
any determination with respect to the incentive fee.
REGULATION
In December 2003, the DPUC established UI's transitional standard offer rates to
be effective January 1, 2004, in accordance with the 2003 Restructuring
Legislation. During 2004, it is expected that the DPUC will continue its
implementation of other provisions of the 2003 Restructuring Legislation.
The DPUC's decision establishing the transitional standard offer rates
determined that UI's rates complied in all respects with the 2003 Restructuring
Legislation. The transitional standard offer rates increase the GSC charged to
customers for generation services compared to the standard offer GSC, modify the
CTA (for some retail rates), and provide for the collection of
federally-mandated congestion costs. The GSC rate changes reflect an increase,
compared to the 2003 GSC, in the cost of generation services and related market
costs, as well as a reduction in the "adder" included in the GSC (expected
charge in excess of expected cost). The GSC for the transitional standard offer
is designed to collect all of the costs of procuring and providing transitional
standard offer service. Distribution and transmission rates remain unchanged
from the levels established in September 2002.
On September 26, 2002, the DPUC had reduced UI's customer rates in UI's retail
customer ratemaking (Rate Case) proceeding. The DPUC's decision provided for a
$30.9 million reduction in UI's annual revenue requirements, including (1) a
$20.3 million reduction to UI's customer rates (a 3% reduction), (2) $2 million
to be applied annually for additional funding of conservation programs, (3) $8.3
million to be applied annually for accelerated amortization to reduce stranded
costs, and (4) $0.3 million to be applied to a combination of uncollectibles,
taxes and rate base changes. The final Rate Case decision established rates on
the basis of an authorized return on equity of 10.45%, excluding UI's investment
in transmission rate base. The decision further provided that earnings above the
authorized return would be shared 50% to customers and 50% to net income, with
the customers' share divided equally between bill reductions and an accelerated
amortization of stranded costs. The Rate Case decision recognizes that the
revenue requirements determination for transmission, including the applicable
return on equity, is within the jurisdiction of the FERC. UI's authorized return
on equity for transmission is 10.75%.
On March 26, 2003, the DPUC issued a decision granting UI's request to reopen
the September 2002 Rate Case decision, to examine increased pension and
postretirement benefits expenses of UI for 2003. On June 25, 2003, the DPUC
issued a decision denying, without prejudice, UI's request for recovery of $15.5
million in increased pension and postretirement benefits expenses. On September
10, 2003, the DPUC granted UI's request to reopen the June 25, 2003 decision. On
November 24, 2003, UI and the Prosecutorial Division of the DPUC (PRO) reached a
settlement agreement, which was filed with the DPUC providing for the annual
recovery by UI of an additional $10.5 million of expenses effective with final
DPUC approval of the agreement.
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The settlement also would have modified the earnings sharing mechanism from 50%
to shareholders and 50% to customers, to 25% to shareholders and 75% to
customers, with the entire customer portion being utilized to reduce stranded
costs. The settlement agreement also stipulated that UI will not file a rate
case before January 1, 2005. On February 9, 2004, the DPUC issued a draft
decision that accepted the settlement agreement provided that UI and PRO agreed
to reduce the $10.5 million annual recovery to $5.2 million and to increase the
customer portion of shared earnings in excess of the authorized return to 100%
from 75%. While UI believes $5.2 million is not sufficient to offset the
increased costs, it will offer some level of relief above what is currently
included in rates. As such, UI accepted the changes required by the draft
decision. On February 18, 2004, the DPUC issued a final decision approving the
settlement with the specified modifications.
OPERATIONS
In implementing the 1998 Restructuring Legislation, UI established a
Distribution Division and other "unbundled" components for accounting purposes,
to reflect other unbundled components on customer bills. Initially, the
Distribution Division included both transmission and distribution. UI has now
separated transmission from distribution into separate divisions for accounting
purposes. Changes to income and expense items related to transmission and
distribution have an immediate net income and earnings per share impact, while
changes to items in "other unbundled utility components" do not. The other
components are the CTA, the SBC, the GSC, the C&LM charge, and REI charge. The
CTA and SBC both earned an 11.5% return on the equity portion of their
respective rate bases until the September 26, 2002 effective date of the Rate
Case decision, and 10.45% thereafter in accordance with that decision. Those
returns were achieved either by accruing additional amortization expenses, or by
deferring such expenses, as required to achieve the authorized return.
Amortization expenses in the CTA and SBC components impact earnings indirectly
through changes to rate base. The GSC, C&LM and REI are essentially pass-through
components (revenues are matched to recover costs). Except for the procurement
fee in GSC previously discussed, and a small management fee earned in the C&LM
component, expenses are either accrued or deferred or revenues are transferred
such that there is no net income associated with these three unbundled
components.
UI's CTA collection recovers costs that have been reasonably incurred, or will
be incurred, to meet its public service obligations and that will likely not
otherwise be recoverable in a competitive market. These "stranded costs" include
above-market long-term purchased power contract obligations, regulatory asset
recovery and above-market investments in power plants. Subject to future
regulatory changes to the CTA rate or to the level of amortization, CTA revenues
are expected to remain relatively constant, with amortization increasing over
time as the allowed earnings trend downward due to the decreasing rate base. A
significant amount of UI's earnings is generated by the authorized return on the
equity portion of as yet unamortized stranded costs in the CTA rate base. The
CTA rate base earns exactly that return, no more and no less, by adjustments
made to amortization expense in each period. UI's earnings per share
attributable to CTA for the years ended December 31, 2003, 2002 and 2001 were
$1.00, $1.27, and $1.38, respectively. A significant portion of UI's cash flow
from operations is also generated from those earnings and from the recovery of
the CTA rate base. Cash flow from operations related to CTA for the years ended
December 31, 2003, 2002 and 2001 amounted to $36 million, $45 million and $32
million, respectively. CTA rate base has declined from year to year for a number
of reasons, including: amortization of stranded costs, the sale of the nuclear
units, and any adjustments made through the annual DPUC review process. The
original rate base component of stranded costs, as of January 1, 2000, was $433
million. It has since declined to $413 million at year-end 2000, $373 million at
year-end 2001, $303 million at year-end 2002, and $279 million at year-end 2003.
The 2003 result is subject to DPUC review, pursuant to an annual review of UI's
CTA revenues and expenses, and may be adjusted in accordance with that review.
During July 2003, the DPUC issued an order requiring that the reduction of CTA
rate base utilizing excess GSC revenues be discontinued pursuant to the 2003
Restructuring Legislation. UI's CTA earnings will decrease while, based on UI's
current projections, cash flow will remain fairly constant until stranded costs
are fully amortized between 2014 and 2016, depending upon the DPUC's future
decisions which could affect future rates of stranded cost amortization.
The primary Distribution Division operational factors affecting UI's financial
results are sales volume, ability to control expenses and capital expenditures.
Retail electric sales volume can be significantly affected by economic growth
and weather. The weather can also have an impact on expenses, dependent on the
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level of work required as a result of storms or other extreme conditions. UI's
major expense components are (1) purchased power, (2) amortization of stranded
costs; (3) wages and benefits; (4) depreciation; and (5) regional network
service (RNS) transmission costs.
Purchased power expenses are a pass-through expense, collected from customers in
the GSC and as federally mandated congestion costs. On October 22, 2003, UI
entered into an agreement with PSEG Energy Resources & Trade LLC (PSEG) for the
supply of all of UI's transitional standard offer generation service needs,
excluding requirements for special contract customers, from January 1, 2004
through December 31, 2006, the end of the transitional standard offer period. UI
continues to purchase generation services pursuant to a December 28, 2001
agreement with Dominion Energy Marketing (Dominion) to supply special contract
customers through December 31, 2008. The contract with PSEG contains numerous
financial assurances including a guaranty from PSEG's parent company, PSEG
Power, various credit requirements including maintaining a minimum Moody's
credit rating of Baa3 or equivalent, and a letter of credit to secure
performance through the initial stages of the contract. UI is also required to
maintain a minimum credit rating of Baa3 or equivalent. UI's current Moody's
credit rating is A3, which is three levels above the required minimum.
Prior to January 1, 2004, UI purchased generation services to supply standard
offer service pursuant to the agreement with Dominion. UI's agreement with
Dominion replaced an earlier wholesale power agreement and other related
agreements with Enron Power Marketing, Inc. (EPMI). Refer to Note (J),
"Commitments and Contingencies," of the Notes to Consolidated Financial
Statements for further information.
In order to maintain and improve its electricity delivery system and to provide
quality customer service, UI is required to spend a significant amount each year
on capital projects in the Distribution and Transmission Divisions. A large
portion of the funds required for capital projects is provided internally
through the recovery of depreciation and from amortization of stranded costs.
The remainder must be financed externally. For more information, see "Capital
Expenditure Program" and "Liquidity and Capital Resources" included later in
this item of this Form 10-K.
UI, together with The Connecticut Light and Power Company, has filed with the
Connecticut Siting Council an application for a Certificate of Environmental
Compatibility and Public Need to construct a 345-kiloVolt transmission line from
Middletown, Connecticut to Norwalk, Connecticut. This approximately $600 million
project is necessary to improve the reliability of the transmission system in
southwest Connecticut. The two companies are working together for permitting,
and will each construct, own and operate its respective portion of the
transmission line and related facilities. UI will construct, own, and operate
transmission and substation facilities comprising approximately 20% of the total
project. A decision by the Connecticut Siting Council is presently expected in
October 2004. Other governmental permitting, together with approvals from
ISO-New England, will be required for the project, and the total project cost
could change depending on final permit requirements and final specifications.
UI's costs for the project are expected to be included in and recovered through
transmission rates under FERC jurisdiction.
RISK MANAGEMENT AND INSURANCE
UI's primary risk management and insurance exposures include bodily injury,
property damage, fiduciary responsibility, and injured workers' compensation. UI
is insured for general liability, automobile liability, property loss, fiduciary
liability and workers' compensation liability. UI's general liability and
automobile liability programs provide insurance coverage for third party
liability claims for bodily injury (including "pain and suffering") and property
damage, subject to a deductible. Losses up to the deductible amounts are accrued
based upon our estimates of the liability for claims incurred and an estimate of
claims incurred but not reported. UI reviews the general liability reserves
quarterly to ensure that UI is adequately reserved. The reserve is based on
historical claims, business events, industry averages and actuarial studies.
Insurance liabilities are difficult to assess and estimate due to unknown
factors such as incidents incurred but not reported and awards greater than
expected, therefore reserve adjustments may become necessary as cases unfold. UI
insures its own property subject to deductibles depending on the type of
property. UI's fiduciary liability program and workers' compensation program
provides insurance coverage, subject to deductibles as well.
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AMERICAN PAYMENT SYSTEMS, INC.
As a result of the pending sale of APS to CheckFree, and management's decision
to dispose of APS' telephony assets, there are now two principal risks affecting
the financial condition of APS and UIL Holdings: operating risk and disposition
risk. Operating risk relates to the risk factors inherent in APS' business
operations, whereas disposition risk relates to the risk factors that could
impact the outcome of the potential sale of APS, and separately the sale of APS'
remaining telephony assets.
The four primary operating risk factors affecting the financial results of APS
and its subsidiaries are (1) the ability to recruit and retain agents, (2) the
ability to manage and control agent fraud to ensure that the agents are
depositing the funds collected from the consumers in a timely fashion (3) the
maintenance of internal control systems and procedures to account for the
movement of significant amounts of cash from the agents to APS and on to the
biller, on whose behalf the funds are collected, and (4) compliance with
increasingly complex regulatory requirements applicable to its business. APS has
programs and procedures in place to mitigate the operating risk factors
described above. These include a formal program to recruit and train agents, as
well as processes to monitor cash movements and reconcile high dollar volume
accounts on a daily basis. In addition, APS reviews its internal control systems
and procedures to ensure that these controls are maintained in an effective
manner and regularly evaluates, and when deemed appropriate implements new
technologies to improve the existing internal control systems and procedures.
These operating risks will no longer affect UIL Holdings upon closing of the
sale of APS to CheckFree.
There are significant disposition risks relating to the potential sale of APS to
CheckFree. UIL Holdings and CheckFree made the required filings under the
federal Hart-Scott-Rodino Antitrust Improvements Act, and as of January 30,
2004, the mandatory waiting periods thereunder expired. In addition, the parties
have made notice filings or submitted applications for approval of the
transaction to state regulatory authorities in more than thirty states in which
APS holds licenses in connection with its money transmittal business. The sale
of APS to CheckFree will not close until certain of those state regulatory
authorities have approved the transaction.
APS' telephony assets primarily consist of its 51% ownership interest in CCI,
and point of sale activation (POSA) technology. CCI sells prepaid long distance
telephone service, prepaid telephone calling cards and prepaid wireless
telephone service in check cashing and convenience store locations nationwide,
as well as through APS' network of agents. As part of management's plan to
divest APS' telephony assets, CCI was sold for book value to an independent
third party on February 13, 2004. As a result of the sale, neither APS, nor UIL
Holdings will be subject to the put option previously in place with respect to
CCI pursuant to which the other owners of CCI had a put option to require APS to
purchase the remaining 49% of CCI beginning in May 2004.
Separately, in connection with the acquisition of the POSA technology in 2002,
APS loaned money to the vendor from which the technology was acquired.
Subsequently the vendor defaulted under the loan and as part of the foreclosure
procedures the remaining loan balance was restructured. As consideration for an
accelerated payment schedule, APS agreed to forgive a portion of the outstanding
loan balance, bringing the restructured amount due to $1 million. The
accelerated payment schedule calls for three principal payments, all to be
received within the first quarter of 2004. If any of the payments are
delinquent, interest will be charged daily at graduated rates, beginning on the
day after the payment was due. Any interest payments are due weekly, with full
settlement of any delinquent principal due before the end of the second quarter
of 2004. In January 2004, all POSA assets, including the aforementioned loan
receivable, were transferred from APS to one of UIL Holdings' non-utility
subsidiaries.
XCELECOM, INC.
The principal factors affecting the financial results of Xcelecom and its
subsidiaries are (1) construction and technology spending; (2) competition; (3)
fixed-priced contract estimation and bidding; (4) work-related hazards and
insurance; (5) attracting and retaining management expertise; (6) overall
liquidity and ability to obtain surety bonding, and (7) risks of attaining
required labor productivity levels to meet or exceed contract estimates.
Additional risk factors include general economic conditions, the pace of
technological changes, recoverability and potential for impairment of goodwill,
and collectibility of receivables.
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More than half of Xcelecom's business involves the installation of electrical,
mechanical and integrated network information systems in newly constructed and
renovated buildings and plants. Downturns in levels of construction starts and
business spending can have a material adverse effect on Xcelecom's business,
financial condition and results of operations. In addition, Xcelecom's business
is subject to seasonal variations in operations and demand that affect the
construction business, particularly in new construction. Quarterly results may
also be affected by regional economic conditions. Accordingly, Xcelecom's
performance in any particular quarter may not be indicative of the results that
can be expected for any other quarter or for the entire year. The competitive
bidding process for new business contracts normally intensifies during economic
downturns, leading to lower profit margins and an increased potential for
project cost overruns or losses.
Xcelecom's contracts are entered into principally on the basis of competitive
bids. The final terms and prices of those contracts are frequently negotiated
with the customer. Although contract terms vary considerably, most are made on
either a fixed price or unit price basis in which Xcelecom agrees to do the work
for a fixed amount for the entire project (fixed price) or for units of work
performed (unit price), although services are sometimes performed on a cost-plus
or time and materials basis. Xcelecom's most significant cost drivers are the
cost of labor, including employee benefits, the cost of products and materials,
and the cost of casualty insurance. These costs may vary from the costs
originally estimated. Variations from estimated contract costs along with other
risks inherent in performing fixed price and unit price contracts may result in
actual revenue and gross profits for a project differing from those originally
estimated and could result in losses on projects. Depending on the size of a
particular project, variations from estimated project costs could have a
significant impact on operating results for any fiscal quarter or year.
Hazards related to Xcelecom's industry include, but are not limited to,
electrocutions, fires, mechanical failures, and transportation accidents. These
hazards can cause personal injury and loss of life, severe damage to or
destruction of property and equipment, and may result in suspension of
operations. Xcelecom's third-party insurance is subject to large deductibles for
which reserves are established. Accordingly, Xcelecom self-insures for this
exposure. Xcelecom believes its insurance and provisions for self-insurance of
deductibles are adequate to cover reasonably foreseeable losses and liabilities.
Losses impacting self-insurance provisions or exceeding insurance limits could
impact Xcelecom's operating results.
The loss of key personnel or the inability to hire and retain qualified
employees could have an adverse effect on Xcelecom's business, financial
condition and results of operations. Xcelecom's operations depend on the
continued efforts of current and future executive officers, senior management
and management personnel at the companies which have been acquired. Certain
steps taken to mitigate the risk of loss of key personnel of acquired companies
were the use of earn-out payments, promissory notes, and covenant not to compete
agreements. A criterion used in evaluating acquisition candidates was the
quality of their management. There is no guarantee that any member of management
at the corporate or subsidiary level will continue in their capacity for any
particular period of time. The loss of a group of key personnel could adversely
affect Xcelecom's operations.
Billings under fixed price contracts are generally based upon achieving certain
benchmarks and will be accepted by the customer once it is demonstrated that
those benchmarks have been met. If Xcelecom is unable to show the compliance
with billing requests, or fails to issue a project billing, the likelihood of
collection could be delayed or impaired, which could have a materially adverse
effect on operations. An allowance for doubtful accounts for unknown collection
issues is maintained, in addition to reserves for specific accounts receivable
where collection is considered doubtful. Inherent in the assessment of the
allowance for doubtful accounts are certain judgments and estimates including,
among others, customers' access to capital, customers' willingness to pay,
general economic conditions and the ongoing relationships with customers.
Surety market conditions are currently difficult as a result of significant
losses incurred by many sureties in recent periods, both in the construction
industry as well as in certain larger corporate bankruptcies. As a result, less
bonding capacity is available in the market and terms have become more
restrictive. Further, under standard terms in the surety market, sureties issue
bonds on a project by project basis, and can decline to issue bonds at any time.
Historically, approximately one third of Xcelecom's construction related
business has required bonds. While Xcelecom has enjoyed a longstanding
relationship with its surety, current market conditions as well as changes in
the surety's assessment of Xcelecom's operating and financial risk could cause
- 27 -
the surety to decline to issue bonds for work. If that were to occur,
alternatives include doing more business that does not require bonds, posting
other forms of collateral for project performance such as letters of credit or
cash, and seeking bonding capacity from other sureties. There can be no
assurance that such alternatives could be easily achieved. Accordingly, if
Xcelecom were to experience an interruption in the availability of bonding
capacity, its operating results could be adversely impacted.
Xcelecom's business is primarily driven by labor. The ability to perform
contracts at acceptable margins depends on the ability to deliver substantial
labor productivity. It cannot be guaranteed that productivity will continue at
acceptable levels for a particular period of time. The loss of productivity
could adversely affect the margins on existing contracts or the ability to
obtain new contracts.
Historically, a significant amount of Xcelecom's growth has come through
acquisitions. From July of 1999 to Xcelecom's last significant acquisition in
April of 2002, Xcelecom made 12 acquisitions. Xcelecom currently does not intend
to grow materially through acquisitions in the foreseeable future; however, it
will continually evaluate acquisition prospects to complement and expand its
existing business platforms. The timing, size or success of any acquisition
effort and the associated potential capital commitments cannot be predicted.
Each acquisition involves a number of risks. These risks include the diversion
of management's attention from existing businesses to integrating the operations
and personnel of the acquired business; possible adverse effects on operating
results during the integration process; and possible inability to achieve the
intended objectives of the combination. If future acquisitions do not perform as
expected, Xcelecom may be required to write-off some or all of the value of any
goodwill and intangible assets associated with the acquisitions. Financial
results may also be impacted by the degree of integration of acquisitions,
including the ability to achieve synergies over the network of subsidiaries.
Xcelecom's revenue growth over the past several years has been generated
principally through acquisitions. In the absence of economic improvement in the
regional markets in which Xcelecom operates, Xcelecom does not expect any
material revenue growth in 2004.
The computer industry in general has felt the effects of the slowdown in the
United States economy, and Xcelecom has specifically seen a decrease in demand
for the products and services it sells. Sales can be dependent on specific
product categories, and any change in demand for or supply of such products
could have a material adverse effect on Xcelecom's sales if they failed to react
in a timely manner to such changes. Operating results are also highly dependent
upon the level of gross profit as a percentage of net sales which fluctuates due
to numerous factors, including changes in prices from suppliers, reductions in
the amount of supplier reimbursements that are made available, changes in
customer mix, the relative mix of products sold during the period, general
competitive conditions, the availability of opportunistic purchases and
opportunities to increase market share. In addition, expense levels, including
the costs and salaries incurred in connection with the hiring of sales and
technical services personnel, are based, in part, on anticipated sales.
Therefore, Xcelecom may not be able to reduce spending in a timely manner to
compensate for any unexpected sales or margin shortfalls. As a result,
comparisons of Xcelecom's quarterly financial results should not be relied upon
as an indication of future performance.
COST DRIVERS
As a service business, Xcelecom's cost structure is highly variable. Primary
costs include labor, materials and insurance. Approximately 40% of costs are
derived from labor and related expenses. For the years ended December 31, 2001,
2002 and 2003, labor-related expenses totaled $105.9 million, $122.6 million and
$122.7 million, respectively.
Approximately 50% of Xcelecom's costs incurred are for materials installed on
projects and equipment and other products sold to customers. This component of
the expense structure is variable based on the demand for services. Costs are
generally incurred for materials once work begins on a project or a customer
order is received. Materials are ordered when needed, shipped directly to the
jobsite or customer facility, and installed within 30 days. Materials consist of
commodity-based items such as conduit, pipe, data cabling, wire and fuses as
well as specialty items such as fixtures, switchgear, switches and routers,
servers and control panels. For the years ended December 31, 2001, 2002 and
2003, material and equipment expenses totaled $177.7 million, $165.0 million and
$149.7 million, respectively.
- 28 -
REGULATIONS
Xcelecom's operations are subject to various federal, state and local laws and
regulations, including:
- - licensing requirements applicable to electricians, steamfitters and plumbers;
- - building, mechanical and electrical codes;
- - regulations relating to consumer protection, including those governing
residential service agreements; and
- - regulations relating to worker safety and protection of the environment.
Xcelecom believes they have all licenses required to conduct operations and are
in substantial compliance with applicable regulatory requirements. Failure to
comply with applicable regulations could result in substantial fines or
revocation of operating licenses or an inability to perform government work.
Many state and local regulations governing electricians, steamfitters and
plumbers require permits and licenses to be held by individuals. In some cases,
a required permit or license held by a single individual may be sufficient to
authorize specified activities for all employees who work in the state or county
that issued the permit or license. It is Xcelecom's policy to ensure that, where
possible, any permits or licenses that may be material to its operations in a
particular geographic area are held by multiple Xcelecom employees within that
area.
RISK MANAGEMENT AND INSURANCE
The primary risks in Xcelecom's operations include health, bodily injury,
property damage and injured workers' compensation. Xcelecom is insured for
workers' compensation, automobile liability, general liability and
employee-related health care claims, subject to large deductibles. A general
liability program provides coverage for bodily injury and property damage
neither expected nor intended. Losses up to the deductible amounts are accrued
based upon our estimates of the liability for claims incurred and an estimate of
claims incurred but not reported. The accruals are derived from actuarial
studies, known facts, historical trends and industry averages utilizing the
assistance of an actuary to determine the best estimate of the ultimate expected
loss. Xcelecom believes such accruals to be adequate. However, insurance
liabilities are difficult to assess and estimate due to unknown factors,
including the severity of an injury, the determination of liability in
proportion to other parties, the number of incidents not reported and the
effectiveness of Xcelecom's safety programs. Therefore, if actual experience
differs from the assumptions used in the actuarial valuation, adjustments to the
reserve may be required and would be recorded in the period that the experience
becomes known.
UNITED CAPITAL INVESTMENTS, INC.
UCI's investments in the venture funds described at "Overview and Strategy" were
viewed as an opportunity to earn reasonable returns and promote local economic
development. Due to the nature of its investments and market conditions, the
value of the Zero Stage VI fund has decreased substantially since the end of
2000. The other two funds have been established more recently and are not yet
fully invested. Excluding the effects of fund management fees and syndication
costs, these funds have retained their market value.
The Cross-Sound project has been opposed on environmental, safety, and economic
concerns by a number of public officials and private groups who have
participated actively in governmental permitting proceedings relative to the
project. In January 2002, the Connecticut Siting Council (CSC) granted a
certificate of environmental compatibility and public need to construct the
cable. The Connecticut Attorney General appealed the CSC's decision without
success to the Connecticut Superior Court. He also appealed the Superior
Court's decision to the Connecticut Supreme Court, but in September 2003
withdrew the appeal, leaving intact the Superior Court's decision upholding the
CSC approval.
The project received all necessary permits prior to the cable being installed
in the spring of 2002. After installation, it was determined that several
sections of the cable in New Haven Harbor were not buried to the depths
required by the permits. The authorized depth was not achieved due to the
obstruction of rock ledge, sediment and other more movable types of
obstruction, such as tree stumps and metal plate debris. The Connecticut
- 29 -
Department of Environmental Protection (CDEP) and United States Army Corp of
Engineers have raised no environmental or navigational concerns related to
operation of the cable as currently buried; however, the CDEP has indicated
that under the current permit, the permit depth must be reached before
commercial operation can begin. Cross-Sound is developing proposals for
achieving the required burial depth. On June 12, 2003 Cross-Sound submitted a
new Permit Application to the CDEP requesting that the CDEP issue a permit to
allow Cross-Sound to operate the cable as installed in its current location
through December 31, 2007.
A Connecticut legislative moratorium on installing new gas and utility lines
across Long Island Sound through early June 2004 has been enacted. This
moratorium has impacted the permitting process. Cross-Sound expects the CDEP to
act on Cross-Sound's new permit application no later than when the moratorium
expires.
On August 14, 2003, the day of the blackout that affected the Northeast and the
Upper Midwest areas of the United States as well as portions of Canada, the
Department of Energy (DOE) declared a federal emergency and issued an Emergency
Order to allow immediate operation of the Cross-Sound cable through September
1, 2003. On August 28, 2003 the DOE issued a new Order for the cable to operate
until all of the appropriate actions that should be taken to prevent future
power outages in the region have been identified and implemented. On August 29,
2003, the Connecticut Attorney General and the CDEP filed a request for stay or
rehearing to the DOE of the August 28 DOE Emergency Order. Briefs were filed in
October and November 2003 and a decision by the DOE is expected sometime in the
first half of 2004. On September 23, 2003, the Connecticut Attorney General
also filed an appeal to the Federal Circuit Court of Appeals in New York of the
August 28 DOE Emergency Order. This appeal cannot proceed before the DOE issues
its decision on stay or rehearing. The range of outcomes from the DOE decision
and future court, agency and legislative actions that may affect the operation
of the cable, includes: (1) the DOE order continues in effect, and the cable
continues to operate; (2) the DOE order is revoked, and Connecticut's
moratorium is extended and not struck down on legal grounds, thus preventing
operation; (3) the DOE order is revoked, and the CDEP grants a permit
modification or approves remediation, enabling the cable to operate; and (4)
federal legislation requires that the cable be permitted to continue to
operate.
On October 31, 2003, the CDEP issued a request for proposal to hire an
independent consultant to compare the environmental impacts of cable operation
in the current location with the impacts that would result from reburying the
cable to the permitted depth. The study results are due by June 25, 2004. UCI
expects the study results will show that the cable, operating in its current
location, poses no harm to the environment. Such conclusion could potentially
help Cross-Sound achieve commercial operation at a faster pace.
UCI's 25% share of the estimated total final cost of the project is $34.4
million. As of December 31, 2003, UCI's 25% share of the actual project cost
for the Cross-Sound cable was $33 million. UCI has provided an equity infusion
of $10 million to Cross-Sound and UIL Holdings loaned $23.5 million to
Cross-Sound. In addition, a guarantee of $3.8 million, in support of
Hydro-Quebec's guarantees to third parties in connection with the construction
of the project has been provided. It is expected that any obligations of
Cross-Sound that are supported by the guarantee would be funded by capital
contributions from the owners, who are affiliates of the guarantors, in amounts
in proportion of their respective ownership shares of Cross-Sound. No liability
was recorded related to the guarantee, as the likelihood of UIL Holdings having
to perform under the guarantee is remote. Upon commercial operation, the loan
from UIL Holdings is expected to be refinanced with external project financing.
UCI will be responsible for 25% of any additional cost of project completion
over the estimated amount.
UCI has recorded $0.1 million in income for the project in 2003 under the
provisions of an interim operating contract that covers Cross-Sound's
compensation for the operation of the cable under the Emergency Order. Although
the terms of the interim contract have been approved by the Long Island Power
Authority's (LIPA) board of trustees, approval by the New York State
Comptroller's office is still required. In addition, FERC approval is required
for the interim operating contract. Resolution of permit issues for commercial
operation of the cable is still pending.
- 30 -
UNITED BRIDGEPORT ENERGY, INC.
The principal factors which affect the financial condition of UBE are natural
gas prices, maintenance costs, installed capability (ICAP) revenues, and
intercompany financing costs. As UBE holds a minority interest in BE, there are
additional risk factors associated with the activities of the majority owner, an
affiliate of Duke Energy.
Results at UBE continue to be hampered by high natural gas prices that drive
down both margins and sales volumes at BE. Although natural gas prices have
remained at elevated levels in recent years, DOE Annual Energy Outlook
projections show improving conditions in the future. Based on these projections
no conditions were noted to give rise to an impairment with respect to the
current $82.1 million carrying value of the investment in BE. UBE will continue
to monitor its investment in BE for recoverability, as changes in the
assumptions noted could have a negative impact on the carrying value of the
investment in the future.
Although routine maintenance is performed on the plant on a regular basis, from
time to time the plant must be brought offline for a major overhaul. The 2003
results did not include any significant major overhaul expenses. The next major
overhaul is planned for 2005. Under the current contract, the plant has begun
incurring some of these costs, and they are being accrued until the outage
occurs. BE has sufficient cash to fund these costs in 2004, however, based on
the current 2004 earnings estimate, BE will require additional capital calls
from the owners to cover the additional costs in 2005 when the outage occurs.
Based on current projections, UBE's additional capital call could be as great as
$7 million.
The ICAP market is designed to offer an incentive to developers to build
adequate generating capacity. BE receives ICAP revenues based on the plant's
installed capacity. The plant began initial operation with a multi-year contract
for ICAP. Since the contract ended in 2002, BE has only been able to sell its
ICAP in the forward month market at a much lower price, reducing ICAP revenues
by approximately 75% to 85%. FERC has directed ISO-NE to develop a Locational
Installed Capacity Market, with the intent to provide higher capacity payments
to generators within designated congestion areas; this is scheduled to enter the
market in June 2004. The full impact that Locational ICAP will have is not known
at this time, although it is expected to have a positive effect on BE.
Through the end of 2003, any capital requirements, including amounts which were
invested in BE, that exceeded UBE's available cash were provided by UIL Holdings
in the form of capital contributions and intercompany loans. Any amounts loaned
to UBE by UIL Holdings were interest bearing. Due to the relatively low amounts
of cash available at UBE to pay interest, the intercompany loans have been
restructured to 100% equity in 2004.
The majority owner of BE, an affiliate of Duke Energy, has a 60% interest in
Duke Energy Trading and Marketing (DETM) which is a joint venture with Exxon
Mobil Corporation. BE has an agreement through August 2018 with DETM that gives
DETM the right to deliver natural gas to the facility and market all the
electricity generated by the facility. DETM reimburses BE under a formula based
on the difference between gas costs and electric prices. In early January 2004,
Duke Energy announced it plans to wind down DETM as part of a plan to
restructure its merchant energy business. UBE does not anticipate these plans to
have a negative impact on the operations of BE at this time.
- 31 -
CAPITAL EXPENDITURE PROGRAM
UIL Holdings' 2004-2008 estimated capital expenditure program is budgeted as
follows:
2004 2005 2006 2007 2008 TOTAL
---- ---- ---- ---- ---- -----
(In Millions)
UI
Distribution $25.7 $18.9 $26.8 $26.3 $30.7 $128.4
Transmission 4.9 7.7 5.4 3.0 7.4 28.4
Southwest Connecticut Reliability Project (1) 8.9 31.9 40.2 27.6 - 108.6
Information Technology 9.7 3.0 1.2 6.9 3.1 23.9
Real Estate (2) 19.8 5.0 - 2.2 14.8 41.8
Other 3.7 1.9 5.5 3.3 1.7 16.1
---------- ---------- ---------- ---------- --------- ----------
Total UI 72.7 68.4 79.1 69.3 57.7 347.2
Non-Utility
Xcelecom
Capital Expenditures 2.2 2.3 2.4 2.5 2.5 11.9
Earn-Out Payments (3) 1.4 3.8 1.3 2.3 - 8.8
Promissory Note Payments (4) 3.3 3.3 - 0.2 - 6.8
Non-Compete Payments (5) 1.1 1.1 0.2 0.1 - 2.5
---------- ---------- ---------- ---------- --------- ----------
Xcelecom Subtotal 8.0 10.5 3.9 5.1 2.5 30.0
UBE
Capital Call - net (6) - 3.1 - - 1.2 4.3
UCI
Other 0.8 0.2 - - - 1.0
---------- ---------- ---------- ---------- --------- ----------
Subtotal Continuing Operations 81.5 82.2 83.0 74.4 61.4 382.5
Discontinued Operations
Capital Expenditures (7) 2.1 - - - - 2.1
---------- ---------- ---------- ---------- --------- ----------
Total UIL Holdings $83.6 $82.2 $83.0 $74.4 $61.4 $384.6
========== ========== ========== ========== ========= ==========
(1) These amounts represent UI's current estimates based upon the proposed
configuration of the transmission lines. There has been opposition to the
planned configuration as proposed, particularly the overhead portions, and
it has yet to be approved by the Connecticut Siting Council. If the project
is approved in a form different than proposed, these estimates will change
accordingly.
(2) In January 2004, UI exercised the $16 million purchase option in connection
with its capital lease for the Electric System Work Center property located
in Shelton, Connecticut. UI is considering the replacement of this property
in 2008, but the potential sale of the existing property is not included in
the above amounts.
(3) Xcelecom's earn-out payments are payable to the former owners of certain
acquired companies and are contingent on various future financial results
of each company. The actual payments may vary widely from these estimated
amounts.
(4) Xcelecom's promissory note payments are amounts payable to the former
owners of certain acquired companies. Several of the promissory notes have
indemnification provisions that may cause the principal balance to change.
(5) Xcelecom's non-compete payments are amounts payable to the former owners of
certain acquired companies.
(6) The net capital calls at UBE are payable in the years when the plant is
scheduled for major overhaul work.
(7) Represents required capital expenditures of APS, primarily computer related
equipment, through the first half of 2004. The APS sale transaction is
expected to close by the end of the second quarter of 2004, at which time
any future capital expenditure obligations would transfer to the new owner.
- 32 -
LIQUIDITY AND CAPITAL RESOURCES
UIL Holdings' capital requirements are presently projected as follows:
2004 2005 2006 2007 2008
---- ---- ---- ---- ----
(In Millions)
Unrestricted Cash and Temporary Cash Investments on
Hand-Beginning of Year (1) $35.3 $9.0 $ - $ - $ -
Short Term Debt - Beginning of Year (2) 64.5 - 17.4 48.9 76.5
Funds from Operations before Dividends (3)
UI 96.3 75.9 97.9 90.6 96.8
Xcelecom 2.8 6.4 3.9 6.4 3.4
Minority Interest Investment & Other 1.2 0.5 1.0 1.1 0.3
UIL Corporate (unallocated) (3.8) (5.4) (5.6) (5.5) (5.6)
--------- -------- -------- --------- ---------
Subtotal from Operating 96.5 77.4 97.2 92.6 94.9
Discontinued Operations (2.5) - - - -
-------- -------- --------- --------- ---------
Total Funds from Operations before Dividends 94.0 77.4 97.2 92.6 94.9
--------- -------- -------- --------- ---------
Less: Capital Expenditures and Investing Activities (3)
UI 72.7 68.4 79.1 69.3 57.7
Xcelecom 8.0 10.5 3.9 5.1 2.5
Minority Interest Investment & Other - - - - -
UIL Corporate (unallocated) 0.8 3.3 - - 1.2
--------- -------- -------- --------- ---------
Subtotal from Operating 81.5 82.2 83.0 74.4 61.4
Discontinued Operations 2.1 - - - -
--------- -------- -------- --------- ---------
Total Capital Expenditures 83.6 82.2 83.0 74.4 61.4
Proceeds from Cross-Sound Cable Project Loan - (24.0) - - -
--------- -------- --------- --------- -------
Total Capital Expenditures and Investing Activities 83.6 58.2 83.0 74.4 61.4
--------- -------- -------- --------- ---------
Plus: Intercompany Dividends
UI (4) (41.3) (41.3) (41.4) (41.5) (41.6)
UCI (1.1) (0.6) (0.7) (0.7) (0.1)
UIL Corporate (unallocated) 42.4 41.9 42.1 42.2 42.2
--------- -------- -------- --------- ---------
Total Intercompany Dividends - - - - 0.5
Less Common Dividends to Shareowners 41.3 41.3 41.4 41.5 41.6
Plus Net Cash (after-tax) from APS Sale and Telephony Assets Sale 69.1 - - - -
--------- -------- -------- --------- ---------
Cash Available (Required) to pay Debt Maturities and Redemptions 73.5 (13.1) (27.2) (23.3) (7.6)
Less:
Maturities and Mandatory Redemptions - UIL - 4.3 4.3 4.3 4.3
Maturities and Mandatory Redemptions - UI - - - 74.0 100.0
--------- -------- -------- --------- ---------
External Financing Requirements (Surplus) (3) (73.5) 17.4 31.5 101.6 111.9
--------- -------- -------- --------- ---------
Plus:
Issuance of Long-term Debt - - - 74.0 100.0
--------- -------- -------- --------- ---------
Increase (Decrease) in Short-Term Borrowings (73.5) 17.4 31.5 27.6 11.9
--------- -------- -------- --------- ---------
Short Term Borrowings/(Temp Cash Investments)
UI End of Year (5) (15.6) 17.9 40.5 59.9 62.3
UIL Corporate and Other End of Year (2) 6.6 (0.5) 8.4 16.6 26.1
--------- -------- -------- --------- ---------
Total End of Year Balance ($9.0) $17.4 $48.9 $76.5 $88.4
========= ======== ======== ========= =========
(1) Excludes restricted cash in UI of $1.1 million, Xcelecom of $0.3 million
and APS (Discontinued Operations) of $25.4 million. The Unrestricted Cash
and Temporary Cash Investments on Hand at the beginning of 2004 include
$0.1 million at UIL Corporate, $24.5 at UI, $6.7 million at APS and $4.0
million at Xcelecom.
- 33 -
(2) The short-term borrowing balance at December 31, 2003 was $64.5 million,
all of it borrowings by UIL Corporate.
(3) "Funds from Operations before Dividends", "Capital Expenditures and
Investing Activities" and "External Financing Requirements (Surplus)" are
estimates based on current earnings, dividend levels and cash flow
projections. All of these estimates are subject to continual review by the
UIL Holdings' Board of Directors and change due to future events and
conditions that may be substantially different from those used in
developing the projections.
(4) The ability of UI to maintain the shareholder level of dividends to UIL
Holdings, while maintaining its service and reliability levels to its
customers, depends on UI's free cash flow (cash flow from operation
activities less capital expenditures), and, to some extent, UI's net
income level. If UI continues to pay dividends to UIL Holdings that are in
excess of UI's net income, then UI's equity capitalization ratio,
ultimately used to determine the equity portion of UI's regulated rate
base and, therefore, UI's regulated earnings for common stock, will
continue to decline. Under that circumstance, UI can avoid a decrease in
its equity ratio only if it generates enough cash to pay the dividend and
to reduce long term debt by a proportionate amount. The ability of UI to
achieve such results cannot be assured. See the "Major Influences on
Financial Condition" section for more information.
(5) UI will issue short term debt to finance a portion of its SWCT Reliability
project. During the construction period, UI would earn AFUDC on the
construction work-in-process balance for this project. When the project is
completed and placed in service, currently anticipated in 2008, UI would
likely procure permanent financing for the asset.
In 2005 and beyond, UI is currently expected to continue to pay dividends to UIL
Holdings in the amount necessary for UIL Holdings to pay a dividend to
shareholders, approximately $41-$42 million ($2.88 per share). This amount is
not as much as the $80 million and $51 million UI provided in 2002 and 2003,
respectively. In those years, UI was generating more cash than it needed,
primarily through the CTA, and UI was able to dividend extra amounts to UIL
Holdings while maintaining an appropriate equity capitalization ratio because UI
eliminated approximately $128 million of long-term debt through the termination
of the Seabrook Sale/Leaseback agreement at the time of the sale of the plant.
Primarily due to UI's projected capital expenditure program, particularly for
transmission projects, UI may have to borrow additional funds in 2005 and
beyond. Also, the currently expected future dividend amounts from UI to UIL
Holdings, at the rate of UIL Holdings' external dividend payments, could be in
excess of UI's expected earnings for those years. This could reduce UI's equity
capitalization ratio from the current 47%. These factors could impact UI's
ability to continue providing, through dividends from earnings to UIL Holdings,
the amount of UIL Holdings' dividends to shareholders. Additionally, UIL
Corporate will continue to be entirely dependent on dividends from its
subsidiaries and from external borrowings to provide the cash necessary for debt
service, to pay administrative costs, to meet other contractual obligations that
cannot be met by the non-utility subsidiaries, and to pay common dividends to
UIL Holdings' shareholders.
The amount of UIL Holdings' cash dividends in 2005 and beyond is expected to be
equal to the current dividend of $2.88 per share, with the number of shares
growing slightly, through the issuance of ESOP shares, from the 14.3 million
shares outstanding at year-end 2003. Maintenance of the dividend beyond 2004,
both from a payout ratio perspective and from a cash flow perspective, will be
dependent on the ability of UI and/or UIL Holdings' non-utility businesses to
generate cash and pay dividends to UIL Holdings at an appropriate level, and to
improve earnings to a level above the dividend, as well as UIL Holdings' ability
to borrow for capital needs.
UIL Holdings' current strategy for Xcelecom and its minority interest
investments calls for those entities to be largely cash self-sufficient going
forward. However, the ability of these entities, particularly the minority
interest investments, to improve earnings, cash flow, and their ability to
dividend cash to UIL Holdings without causing harm to their own operations or
financial conditions cannot be assured. See the "Major Influences on Financial
Condition" section of this item for more information.
UIL Holdings and its subsidiaries will continue their efforts to improve the
earnings and cash flow position of UIL Holdings, to strengthen its financial
position, and improve its dividend to earnings payout ratio to a more robust
level.
- 34 -
All capital requirements that exceed available cash will have to be provided by
external financing. Although there is no commitment to provide such financing
from any source of funds, other than a $100 million revolving credit agreement
that UIL Holdings has with a group of banks, and a $25 million revolving credit
agreement that Xcelecom has with two banks, future external financing needs are
expected to be satisfied by the issuance of additional short-term and long-term
debt. The continued availability of these methods of financing will be dependent
on many factors, including conditions in the securities markets, economic
conditions, and future income and cash flow. See Item 8, "Financial Statements
and Supplementary Data - Notes to Consolidated Financial Statements - Note (B),
Capitalization and Note (D), Short-Term Credit Arrangements" for a discussion of
UIL Holdings' credit arrangements.
At December 31, 2003, UIL Holdings had $28.6 million of unrestricted cash and
temporary cash investments, excluding $6.7 million of cash held by APS which has
been categorized as current assets of discontinued operations held for sale in
the accompanying Consolidated Balance Sheet. This represents an increase of $9.7
million from the corresponding balance at December 31, 2002. The components of
this increase, which are detailed in the Consolidated Statement of Cash Flows,
are summarized as follows:
(In Millions)
Balance, December 31, 2002 $18.9
--------------
Net cash provided by operating activities
of continuing operations 88.5
Net cash provided by (used in) investing
activities of continuing operations:
- - Loan to Cross-Sound Cable Project (24.0)
- - Cash invested in plant (52.3)
- - Proceeds from sale of pollution control
refunding revenue bonds 25.0
- - Changes in restricted cash (1) 4.6
- - Deferred payments in prior acquisitions (2.8)
--------------
(49.5)
--------------
Net cash provided by (used in) financing activities
of continuing operations:
- - Financing activities, excluding dividend payments 12.0
- - Dividend payments (41.1)
--------------
(29.1)
Net cash provided by (used in) discontinued operations:
- - Net cash provided by discontinued operations 4.8
- - Change in unrestricted cash balance of discontinued
operations (5.0)
--------------
(0.2)
Net Change in Cash 9.7
--------------
Balance, December 31, 2003 $28.6
==============
(1) As of December 31, 2003, UIL Holdings had $1.4 million in restricted cash,
representing $1.1 million held in escrow to cover operating expenses
accrued at the time of the sale of Seabrook Station, and $0.3 million
related to future debt payments of Xcelecom.
XCELECOM
The primary source of liquidity for Xcelecom has been, and is expected to
continue to be, cash generated by operating activities. Xcelecom maintains a
revolving credit facility that may be utilized, among other things, to meet
short-term liquidity needs in the event cash generated by operating activities
is insufficient. Xcelecom may also increase liquidity through additional
- 35 -
infusions of equity or inter-company debt from UIL Holdings. In general,
Xcelecom is not expected to dividend funds to UIL Holdings.
Short-term changes in macroeconomic trends may have an effect, positively or
negatively, on liquidity. Short-term liquidity is also impacted by the type and
length of construction contracts in place. During economic downturns, such as
the 2001 through 2003 period, construction contracts trend away from short-cycle
contracts toward larger long-term infrastructure and public sector contracts.
Performance of long duration contracts typically require working capital until
initial billing milestones are achieved. While Xcelecom strives to maintain a
net over-billed position with its customers, there can be no assurance that a
net over-billed position can be maintained. Xcelecom's net over-billings,
defined as the balance sheet accounts billings in excess of costs and estimated
earnings on uncompleted contracts less cost and estimated earnings in excess of
billings on uncompleted contracts, was $7.0 million and $12.9 million as of
December 31, 2003 and December 31, 2002, respectively.
Xcelecom believes that current cash balances and borrowing capacity available
under lines of credit, combined with cash expected to be generated from
operations, will be sufficient to provide short-term and foreseeable long-term
liquidity and meet expected capital expenditure requirements. However,
Xcelecom's ability to generate positive cash flow at its historical levels in
the future could be adversely impacted by numerous risks, including economic
cycles, competition, cost overruns on fixed price projects, and reductions in
collections. Such reductions in cash flow, together with the financial and other
covenants in Xcelecom's credit facility agreements, could limit its ability to
borrow additional funds. Additionally, failing to comply with those covenants
could result in an event of default, which, if not cured or waived, could have a
material adverse affect on Xcelecom.
Long-term liquidity requirements can be expected to be met through cash
generated from operating activities, the revolving credit facility, and if
necessary long term capitalization efforts of UIL Holdings. Over the long term,
Xcelecom's primary revenue risk factor continues to be the level of demand for
non-residential construction services, which is in turn influenced by
macroeconomic trends including interest rates and governmental economic policy.
In order to provide protection against negative demand cycles in private sector
construction services, Xcelecom has increased its participation, and its backlog
of contracts, in the public sector, and continues efforts to expand its computer
systems network integration business line and the service content of all
business lines.
Many customers require subcontractors to post performance and payment bonds
issued by a surety. These bonds provide a guarantee to the customer that
Xcelecom will perform under the terms of a contract and that it will pay
subcontractors and vendors. If Xcelecom fails to perform under a contract or to
pay subcontractors and vendors, the customer may demand that the surety make
payments or provide services under the bond. Xcelecom must reimburse the surety
for any expenses or outlays it incurs. Xcelecom has maintained a relationship
with the same surety since inception in 1999. To date, Xcelecom has not had any
situation in which its surety has been required to incur expenses on Xcelecom's
behalf. As of December 31, 2003, the expected cost to complete projects covered
by surety bonds was approximately $67.2 million.
Some of the underwriters of our casualty insurance programs require Xcelecom to
post letters of credit as collateral. This is common in the insurance industry.
To date, Xcelecom has not had a situation where an underwriter has had
reasonable cause to effect payment under a letter of credit. At December 31,
2003, letters of credit in place to collateralize insurance programs amounted to
$4.6 million.
FINANCIAL COVENANTS
UIL Holdings and its subsidiaries are required to comply with certain covenants
in connection with their respective loan agreements. The covenants are normal
and customary in bank and loan agreements. The covenants below describe only the
financial covenants in the agreements.
- 36 -
UIL HOLDINGS
Under the Note Purchase Agreement in connection with the 7.23% Senior Notes,
Series A, due February 15, 2011, in the principal amount of $30 million, and
7.38% Senior Notes, Series B, due February 15, 2011, in the principal amount of
$45 million, issued by UIL Holdings, UIL Holdings is required to (i) maintain a
ratio of consolidated debt to consolidated capital of not greater than 65% (debt
ratio); (ii) maintain a ratio of consolidated earnings available for interest
charges to consolidated interest charges for any period of four consecutive
fiscal quarters of at least 2.00 to 1.00 (interest coverage ratio); and (iii)
maintain consolidated net worth of at least $345 million plus 25% of
consolidated net income on a cumulative basis for each fiscal quarter for which
consolidated net income is positive. At December 31, 2003, UIL Holdings' debt
ratio was 55%; its interest coverage ratio was 2.72 to 1.00; and it had
consolidated net worth in excess of the requirement in the amount of $116.1
million.
Under the terms of the Note Purchase Agreement, an event of default shall occur
if UIL Holdings, UI, APS, Xcelecom, or the direct parent of the non-utility
subsidiaries defaults on indebtedness in the aggregate principal amount of at
least $10 million due to (i) a default in payment or payments due on the
indebtedness, or (ii) default in the performance of or compliance with any term
or condition of the indebtedness, which could result in the requirement that
such indebtedness be repaid, or (iii) the occurrence of any event or condition
that could require the purchase or repayment of the indebtedness prior to
maturity.
The revolving credit agreement described in Part II, Item 8, "Financial
Statements and Supplementary Data - Notes to Consolidated Financial Statements -
Note (D), Short-Term Credit Arrangements," requires that UIL Holdings (i)
maintain a ratio of consolidated debt to consolidated capital, as of the last
day of each March, June, September and December, of not greater than 0.65 to
1.00; and (ii) shall not cause the debt of UIL Holdings (excluding debt of its
subsidiaries) to exceed $200 million in the aggregate principal amount
outstanding at any time. At December 31, 2003, UIL Holdings' consolidated debt
to consolidated capital ratio was 0.55 to 1.00; and its aggregate principal debt
outstanding (excluding debt of its subsidiaries) was $152.8 million (including
an inter-company loan from UI to UIL Holdings).
Under the terms of the Revolving Credit Agreement, an event of default shall
occur if UIL Holdings, UI or the direct parent of the non-utility subsidiaries
defaults on indebtedness in the aggregate principal amount of at least $10
million due to (i) a default in payment or payments due on the indebtedness, or
(ii) default in the performance of or compliance with any term or condition of
the indebtedness, which could result in the requirement that such indebtedness
be repaid, or (iii) the occurrence of any event or condition that could require
the purchase or repayment of the indebtedness prior to maturity.
There are no dividend restrictions or ratings triggers in connection with the
above agreements.
UI
Under the Note Purchase Agreement in connection with the 4.42% Senior Notes,
Series A, due December 12, 2007, in the principal amount of $74 million, and
4.89% Senior Notes, Series B, due December 12, 2009, in the principal amount of
$51 million, and the Note Purchase Agreement in connection with the 3.95% Senior
Notes, due December 9, 2008, in the principal amount of $100 million, UI is
required to (i) maintain a ratio of consolidated debt to consolidated capital of
not greater than 65% (debt ratio); and (ii) maintain a ratio of consolidated
earnings available for interest charges to consolidated interest charges for any
period of four consecutive fiscal quarters of at least 2.00 to 1.00 (interest
coverage ratio). As of December 31, 2003, UI's debt ratio was 54%; and its
interest coverage ratio was 4.36 to 1.00.
Under the terms of the Note Purchase Agreement, an event of default shall occur
if UI defaults on indebtedness in the aggregate principal amount of at least $10
million due to (i) a default in payment or payments due on the indebtedness, or
(ii) default in the performance of or compliance with any term or condition of
the indebtedness, which could result in the requirement that such indebtedness
be repaid, or (iii) the occurrence of any event or condition that could require
the purchase or repayment of the indebtedness prior to maturity.
There are no ratings triggers in connection with the above agreements.
- 37 -
XCELECOM
The revolving credit agreement Xcelecom has described in Part II, Item 8,
"Financial Statements and Supplementary Data - Notes to Consolidated Financial
Statements - Note (D), Short-Term Credit Arrangements," was renegotiated to
amend certain financial covenant requirements for the quarters ending December
31, 2003, March 31, 2004, and June 30, 2004, respectively. The new covenants
require that Xcelecom maintain the following financial coverage ratios: (1) the
ratio of consolidated earnings before interest, taxes, depreciation and
amortization (EBITDA) to consolidated fixed charges (fixed charge coverage
ratio) of at least 3.00 to 1.00; (2) the ratio of consolidated liabilities to
consolidated net worth (liabilities to net worth ratio) of 1.00 to 1.00 or less;
(3) the ratio of consolidated debt, including inter-company debt, to
consolidated EBITDA (leverage ratio) of 3.00 to 1.00 or less; and (4) the ratio
of consolidated debt to consolidated EBITDA (senior leverage ratio) of 1.75 to
1.00 or less. At December 31, 2003, Xcelecom's fixed charge coverage ratio was
3.30 to 1.00; liabilities to net worth ratio was 0.32 to 1.00; leverage ratio
was 2.10 to 1.00; and senior leverage ratio was 1.16 to 1.00. All borrowings
outstanding under this agreement are secured solely by assets of Xcelecom and
its subsidiaries.
There are no ratings triggers in connection with the above agreement.
DISCONTINUED OPERATIONS
APS had a revolving credit agreement that expired on April 11, 2003, at which
time APS repaid all borrowings outstanding under the agreement. The funds for
the repayment were provided by UIL Holdings. All short-term capital requirements
that exceed available cash from operations are currently provided by UIL
Holdings, under a short-term loan arrangement. Any outstanding balance under
this short-term loan arrangement will be paid to UIL Holdings in connection with
the closing of the APS sale transaction. As of December 31, 2003, the
outstanding balance under this arrangement was $3.5 million.
- 38 -
CONTRACTUAL AND CONTINGENT OBLIGATIONS
The following are contractual and contingent obligations of UIL Holdings and its
subsidiaries as of December 31, 2003.
(IN MILLIONS)
2004 2005 2006 2007 2008 THEREAFTER TOTAL
---- ---- ---- ---- ---- ---------- -----
Debt Maturities:
UIL Holdings $ - $4.3 $4.3 $ 4.3 $ 4.3 $ 57.8 $ 75.0
UI - - - 74.0 100.0 246.5 420.5
-------- --------- -------- -------- -------- ------------- ---------
Total $ - $4.3 $4.3 $78.3 $104.3 $304.3 $495.5
======== ========= ======== ======== ======== ============= =========
Contractual Obligations:
UI
Lease Payments (1) $25.4 $10.4 $10.5 $11.3 $11.4 $41.6 $110.6
Pension Contribution (2) 11.2 11.2
UCI
Zero Stage 0.5 - - - - - 0.5
Ironbridge 0.3 0.2 - - - - 0.5
Xcelecom
Earn-Out Payments (3) 1.4 3.8 1.3 2.3 - - 8.8
Promissory Note Payments (4) 3.3 3.3 - 0.2 - - 6.8
Non-Compete Payments (5) 1.1 1.1 0.2 0.1 - - 2.5
Notes Payable 1.0 0.8 0.5 0.3 0.3 0.7 3.6
Lease Payments 2.2 2.0 1.2 0.8 0.8 0.4 7.4
Discontinued Operations
Lease Payments (6) 0.7 - - - - - 0.7
-------- --------- -------- -------- -------- ------------- ---------
Total $47.1 $21.6 $13.7 $15.0 $12.5 $42.7 $152.6
======== ========= ======== ======== ======== ============= =========
As of December 31, 2003
-----------------------
(In Millions)
Guarantees:
UI-Hydro-Quebec $3.8
UCI-Hydro-Quebec (7) $3.8
Letters of Credit:
Xcelecom (8) $4.6
Cross-Sound (9) $0.3
(1) Includes purchase option payment of $16 million in 2004 in connection with
the Electric System Work Center property.
(2) The pension contribution for 2004 is estimated at $11.2 million depending
on the allowed maximum contribution for tax purposes and fluctuations in
the discount rate and return on plan assets. Contribution projections
beyond 2004 are not provided due to the volatility of the factors
mentioned.
(3) Xcelecom's earn-out payments are payable to the former owners of certain
acquired companies and are contingent on various future financial results
of each company. The actual payments may vary from these estimated amounts.
(4) Xcelecom's promissory note payments are amounts payable to the former
owners of certain acquired companies. Several of the promissory notes have
indemnification provisions that may cause the principal balance to change.
(5) Xcelecom's non-compete payments are amounts payable to the former owners of
certain acquired companies.
(6) Reflects lease payments through the second quarter of 2004, as future lease
obligations will not be retained by UIL Holdings subsequent to the closing
of the APS sale transaction.
(7) This amount represents UCI's and UIL Holdings' collective guarantee to
Hydro-Quebec in support of Hydro-Quebec's guarantees to third parties in
connection with the construction of the project.
- 39 -
(8) This amount represents Xcelecom's letters of credit that support certain
insurance and acquisition related obligations, $2.0 million of which is
recorded on the Consolidated Balance Sheet and included in Promissory Note
Payments above, $1.4 million of which is included in the Consolidated
Balance Sheet under the caption Accrued Liabilities, and $1.7 million of
which supports contingent obligations for potential growth in insurance
claim reserves for which Xcelecom is obligated and certain potential
deferred performance based payments, included in the Earn-out Payments
above, for one of Xcelecom's acquisitions. See Item 8, "Financial
Statements and Supplementary Data - Notes to Consolidated Financial
Statements - Note (D), Short-Term Credit Arrangements," which information
is hereby incorporated by reference.
(9) This amount represents UCI's participating share of Cross-Sound's letter of
credit to regulatory agencies.
In general, UI purchases all of the electric power it sells to customers from
two fixed price (per KWH) sources, PSEG and Dominion. UI expects that these
suppliers will be adequate to meet the requirements of its customers. The power
to be purchased from 2004 to 2008 is estimated to cost approximately $1.1
billion. UI will be obligated to pay only for power actually delivered by its
suppliers. UI recovers prudently incurred purchase power costs pursuant to rate
provisions approved by the DPUC. UI does not foresee any material risks from the
terms of the contract and rate structure to recover costs. Refer to Part I, Item
1, "Business - Power Supply Arrangements," for further information.
CRITICAL ACCOUNTING POLICIES
The discussion of Results of Operations and financial condition relies on UIL
Holdings' Consolidated Financial Statements that are prepared based on certain
critical accounting policies that require management to make judgments and
estimates that are subject to varying degrees of uncertainty. UIL Holdings
believes that investors need to be aware of these policies and how they impact
UIL Holdings' financial reporting to gain a more complete understanding of UIL
Holdings' Consolidated Financial Statements as a whole, as well as management's
related discussion and analysis presented herein. While UIL Holdings believes
that these accounting policies are grounded on sound measurement criteria,
actual future events can and often do result in outcomes that can be materially
different from these estimates or forecasts.
ACCOUNTING FOR REGULATED PUBLIC UTILITIES - SFAS NO. 71
Generally accepted accounting principles for regulated entities in the United
States of America allow UI to give accounting recognition to the actions of
regulatory authorities in accordance with the provisions of Statement of
Financial Accounting Standards (SFAS) No. 71, "Accounting for the Effects of
Certain Types of Regulation." In accordance with SFAS No. 71, UI has deferred
recognition of costs (a regulatory asset) or has recognized obligations (a
regulatory liability) if it is probable that such costs will be recovered or
obligations relieved in the future through the ratemaking process. In addition
to the Regulatory Assets and Liabilities separately identified on the
Consolidated Balance Sheet, there are other regulatory assets and liabilities
such as certain deferred tax assets and liabilities. UI also has obligations
under long-term power contracts, the recovery of which is subject to regulation.
If UI, or a portion of its assets or operations, were to cease meeting the
criteria for application of these accounting rules, accounting standards for
businesses in general would become applicable and immediate recognition of any
previously deferred costs, or a portion of deferred costs, would be required in
the year in which the criteria are no longer met, if such deferred costs are not
recoverable in the portion of the business that continues to meet the criteria
for application of SFAS No. 71.
ACCOUNTING FOR PENSIONS AND OTHER POSTRETIREMENT BENEFITS
UIL Holdings accounts for its pension and postretirement benefit plans in
accordance with SFAS No. 87, "Employers' Accounting for Pensions" and SFAS No.
106, "Employers' Accounting for Postretirement Benefits other than Pensions." In
applying these accounting practices, assumptions are made regarding the
valuation of benefit obligations and the performance of plan assets. Delayed
recognition of differences between actual results and those assumed allows for a
smoothed recognition of changes in benefit obligations and plan performance over
the working lives of the employees who benefit under the plans. The primary
assumptions are as follows:
- 40 -
o Discount rate - this rate is used to determine the current value of
future benefits. This rate is adjusted based on movement of long-term
interest rates.
o Expected return on plan assets - the expected return is based upon a
combination of historical performance and anticipated future returns
for a portfolio reflecting the mix of equity, debt and other
investments included in plan assets.
o Average wage increase - projected annual pay increases, which are used
to determine the wage base used to project employees' pension benefits
at retirement.
o Health care cost trend rate - projections of expected increases in
health care costs.
These assumptions are the responsibility of management, in consultation with its
outside actuarial and investment advisors. A variance in the discount rate,
expected return on assets or average wage increase could have a significant
impact on pension costs, assets and obligations recorded under SFAS No. 87. A
variance in the health care cost trend assumption could have a significant
impact on postretirement medical expense recorded under SFAS 106.
As of December 31, 2003, UIL Holdings changed its discount rate from 6.75% to
6.00% to reflect the reduction in the rate of return for long-term fixed-income
securities, which serves as the basis for this assumption. UIL Holdings plans to
monitor the expected return on plan assets of 8.0% for 2004, based on
projections of future expected performance developed in conjunction with UIL
Holdings actuaries and investment advisors.
There is a significant possibility that the assumptions listed above will be
revised over time as economic and market conditions change. Changes in those
assumptions could have a material impact on pension and postretirement expenses.
For example, if there is a plus or minus 1/4% change in the discount rate
assumed at 6%, the pension expense would change by minus or plus $0.8 million,
respectively. If there were a 1% change in the expected return on assets, the
pension expense would change by plus or minus $2.5 million.
The projected, long-term average wage increase is being maintained at 4.5% in
2004. Due to increases in projected health care costs, UIL Holdings increased
its health care cost trend rate to 13%, declining by 1.0% annually to a
steady-state growth rate of 5.0%. For 2002, the health care cost trend rate
assumption was a 7% growth rate, declining by 0.5% annually to a long-term rate
of 4.5%.
UIL Holdings' 2003 pension and postretirement benefits expenses were $17.5
million and $5.2 million, respectively.
The assumptions are used to predict the net periodic expense on a look-forward
basis. To the extent actual investment earnings, actual wage increases and other
items differ from the assumptions, a gain or loss is created, and subsequently
amortized into expense.
GOODWILL AND OTHER INTANGIBLE ASSETS
Effective January 1, 2002, UIL Holdings adopted SFAS No. 142, "Goodwill and
Other Intangible Assets." This statement modified the accounting and reporting
of goodwill and intangible assets. Under this new standard, UIL Holdings is no
longer amortizing its existing goodwill. In addition, UIL Holdings is required
to measure goodwill for impairment annually or more frequently if circumstances
indicate possible impairment.
SFAS No. 142 requires goodwill to be allocated to reporting units (Xcelecom and
APS) and measured for impairment under a two-step test at least annually unless
another event triggers an earlier assessment. Goodwill attributable to each of
UIL Holdings' reporting units was tested for impairment by comparing the fair
value of each reporting unit with its carrying value. Fair value was determined
by applying discounted cash flows to revenue and profit forecasts and comparing
those estimated fair values with carrying values which includes the allocated
goodwill. If the estimated fair value is less than the carrying value, a second
step is performed to compute the amount of impairment by determining an "implied
fair value" of goodwill. Implied fair value is determined by allocating the
- 41 -
assets and liabilities with anything left unallocated being goodwill. As of
December 31, 2003, such testing indicated that there was no impairment related
to the Xcelecom reporting unit.
A 1% change in the discount rate impacts the implied fair value of goodwill at
December 31, 2003 for Xcelecom by approximately $2 million. This level of change
in valuation would not trigger an impairment charge. Significant estimates used
in the methodologies include estimates of future cash flows, future short-term
and long-term growth rates, weighted average cost of capital and estimates of
market multiples for each of the reportable units. UIL Holdings subjected the
testing analysis to a broad range of possible outcomes and scenarios, and in
each case the determinations noted above were confirmed.
A goodwill impairment charge of $7.2 million was recorded during the fourth
quarter of 2003 to bring the carrying value of goodwill associated with APS'
telephony assets in line with estimated fair value. This charge is included in
the results of discontinued operations in the accompanying consolidated
statement of income.
Under SFAS No. 142, entities are also required to determine the useful life of
other intangible assets and amortize the value over the useful life. Such
intangible assets are required to be tested for impairment in a manner similar
to goodwill. In accordance with SFAS No. 142, UIL Holdings has determined the
useful life of other intangible assets and is amortizing the value over the
useful life. In 2003, other intangible assets were tested and no impairment was
found.
UNBILLED REVENUE
At the end of each accounting period, UI accrues an estimated amount for
services rendered but not billed. The calculation is primarily based upon UI's
system requirements or kilowatt-hour usage less distribution losses and company
use for a given period, reduced by kilowatt-hours already billed to customers.
Certain factors are taken into account in the calculation of unbilled revenue,
any of which can have a significant impact, such as changes in or problems with
metering, the number of days in a billing cycle, seasonality, price changes and
billing adjustments.
ACCOUNTING FOR RECEIVABLES DUE FROM APS' AGENTS
Given the substantial amounts of cash transferred in APS' bill payment business,
agent losses is a significant risk. While APS maintains controls to monitor and
manage the risk of agent losses, the possibility of such losses exists.
Insurance coverage for such risks is prohibitively expensive or unavailable.
Therefore, APS self-insures this risk. A loss reserve equal to the estimate of
expected annual loss due to agent losses is developed based on past history and
APS management's expectation of future results. Receivables due from APS' agents
are included in the assets of discontinued operations held for sale.
PERCENT-OF-COMPLETION ACCOUNTING
Xcelecom believes its most critical accounting policy is revenue recognition
from long-term contracts for which Xcelecom uses the percentage-of-completion
method of accounting. Percentage-of-completion accounting is one of the
prescribed methods of accounting for long-term contracts in accordance with
accounting principles generally accepted in the United States of America and,
accordingly, the primary method used for revenue recognition within Xcelecom's
industry. Percentage-of-completion is measured principally by the percentage of
costs incurred to date for each contract to the estimated total costs for each
contract at completion. Provisions for estimated losses on uncompleted contracts
are made in the period in which such losses become known. Application of
percentage-of-completion accounting results in the recognition of costs and
estimated earnings in excess of billings on uncompleted contracts within the
balance sheet. Costs and estimated earnings in excess of billings on uncompleted
contracts reflected on the balance sheet arise when revenues have been
recognized but the amounts cannot be billed under the terms of the contracts.
Such amounts are recoverable from customers based on various measures of
performance, including achievement of certain milestones, completion of
specified units, or completion of the contract. Due to uncertainties inherent
within estimates employed to apply percentage-of-completion accounting, it is
possible that estimates will be revised as project work progresses. Application
- 42 -
of percentage-of-completion accounting requires that the impact of those revised
estimates be reported in the financial statements prospectively.
Xcelecom completes most projects within one year. Service and maintenance work
is frequently provided under agreements which are renewable annually. Revenues
are recognized on service and time and material work when services are
performed. Work performed under a construction contract generally provides that
the customers accept completion of progress to date and provide compensation for
services rendered measured in terms of units installed, hours expended or some
other measure of progress. Revenues from construction contracts are recognized
on the percentage-of-completion method as described above.
In general contracts are considered to be substantially complete upon departure
from the work site and acceptance by the customer. Contract costs include all
direct material and labor costs and those indirect costs related to specific
contract performance, such as indirect labor, supplies, and tools. Changes in
job performance, job conditions, estimated contract costs and profitability and
final contract settlements may result in revisions to costs and income and the
effects of these revisions are recognized in the period in which the revisions
are determined. Provisions for total estimated losses on uncompleted contracts
are made in the period in which such losses are determined.
IMPAIRMENT OF LONG-LIVED ASSETS
Based on the significant amount of assets recorded for both the utility and
non-utility businesses, monitoring of these assets for impairment losses is
critical. SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets," requires the recognition of impairment losses on long-lived assets when
the book value of an asset exceeds the sum of the expected future undiscounted
cash flows that result from the use of the asset and its eventual disposition.
This standard also requires that rate-regulated companies recognize an
impairment loss when a regulator excludes all or part of a cost from rates, even
if the regulator allows the company to earn a return on the remaining costs
allowed. Under this standard, the probability of recovery and the recognition of
regulatory assets under the criteria of SFAS No. 71 must be assessed on an
ongoing basis. As described in "Accounting for Regulated Public Utilities - SFAS
No. 71" earlier in this section, determination that certain regulatory assets no
longer qualify for accounting as such could have a material impact on both UI's
and UIL Holdings' financial condition. At December 31, 2003 and December 31,
2002, UI did not have any assets that were impaired under this standard.
With respect to long-lived assets of the non-utility businesses, certain
assumptions must be made to project the future undiscounted cash flows resulting
from the use and eventual disposition of such long-lived assets. Examples of
such assumptions include the estimated useful life of the asset, projections of
future revenues and costs associated with the asset, projections of certain
market conditions, estimates of future commodity prices, and assumptions
regarding the outcome of certain legislative and regulatory processes. Although
management believes the assumptions made measuring the recoverability of assets
were reasonable based on the most currently available data at the time, no
guarantee can be made that actual results will equal estimates. Differences in
the actual outcome of events, as compared to the assumptions made, could have a
material effect on financial condition.
The most significant long-lived assets of the non-utility businesses are UBE's
$82.1 million investment in BE, and UCI's $33 million share of the Cross-Sound
cable project. Both assets were reviewed for impairment as of December 31, 2003.
With respect to UBE, based on natural gas and electricity forward price
projections derived from the most recent DOE Annual Energy Outlook report, no
conditions were noted to give rise to an impairment. UCI's share of the
Cross-Sound cable project was evaluated for impairment under the assumption that
all pending permit issues surrounding the cable would be resolved, thus allowing
for commercial operation of the cable. Cross-Sound has a twenty year contract in
place for the entire capacity of the cable once commercial operation is
achieved, the expected cash flows from which are in excess of the carrying value
of the asset. For further discussion regarding BE and Cross-Sound, refer to
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Major Influences".
- 43 -
RESULTS OF OPERATIONS
UIL HOLDINGS CORPORATION RESULTS OF OPERATIONS: 2003 ACTUAL EARNINGS VS.
- -------------------------------------------------------------------------
ORIGINAL ESTIMATE
- -----------------
Net income for UIL Holdings was $23.3 million in 2003, or $1.63 per share. This
was lower than the $2.45-$2.65 per share range originally estimated in UIL
Holdings' Form 10-K for the year ended December 31, 2002. As indicated in
revised earnings guidance projections throughout 2003, the primary reason for
the decline from the original earnings estimate was performance related to UIL
Holdings' non-utility businesses. Results at Xcelecom were lower than originally
forecast due to a large project loss, executive severance costs and the effects
of an economic downturn in Xcelecom's markets. One-time charges incurred by APS,
primarily the revaluing of the telephony assets, was another major factor for
the shortfall from the original earnings guidance. These declines were partially
offset by slightly better than expected results at UI, as UI was able to
mitigate the effects of increased pension and postretirement benefits costs due
to the positive impact of weather and other short-term actions taken by UI.
2003 VS. 2002
- -------------
UIL HOLDINGS CORPORATION RESULTS OF OPERATIONS: 2003 VS. 2002
- --------------------------------------------------------------
UIL Holdings' earnings from continuing operations for 2003 decreased by $16.2
million, or $1.15 per share, compared to 2002. The net loss from discontinued
operations increased by $4.4 million, or $0.31 per share, from the 2002 net loss
of $1.8 million, or $0.13 per share. Total earnings for 2003, including
discontinued operations, decreased by $20.6 million, or $1.46 per share.
Several major factors contributed to the decline in earnings from continuing
operations, including the absence of income from the nuclear division due to the
sale of the Seabrook nuclear generating station (Seabrook) in November 2002,
effects of the DPUC's 2002 Rate Case decision for UI, increased pension and
postretirement benefits costs, and a slow economic recovery affecting the
non-utility businesses. Results of discontinued operations were affected by an
impairment charge of $4.9 million, after-tax, taken in the fourth quarter of
2003. This impairment charge was mainly a result of UIL Holdings' reassessment
of the value of APS' telephony assets as a stand-alone operation after
announcing the pending sale of APS, excluding the telephony assets.
- 44 -
The table below presents a comparison of UIL Holdings' Net Income and Earnings
Per Share (EPS) for 2003 and 2002.
Twelve Months Twelve Months 2003 more (less) than 2002
Ended Ended --------------------------
Dec. 31, 2003 Dec. 31, 2002 Amount Percent
------------------ ------------------ ---------------- ------------
NET INCOME (IN MILLIONS EXCEPT PERCENTS)
UI $38.7 $48.1 ($9.4) (20)%
Nuclear Division - 5.8 (5.8) (100)%
Non-Utility (9.2) (8.2) (1.0) (12)%
-------- -------- -----
TOTAL NET INCOME FROM CONTINUING
OPERATIONS $29.5 $45.7 $(16.2) (35)%
Discontinued Operations (6.2) (1.8) (4.4) (244)%
-------- -------- -----
TOTAL NET INCOME $23.3 $43.9 $20.6 (47)%
EPS
UI $2.71 $3.38 $(0.67) (20)%
Nuclear Division - 0.41 (0.41) (100)%
Non-Utility (0.64) (0.57) (0.07) (12)%
------ ------ ------
TOTAL EPS FROM CONTINUING
OPERATIONS - BASIC $2.07 $3.22 $(1.15) (35)%
Discontinued Operations (0.44) (0.13) (0.31) (238)%
------ ------ ------
TOTAL EPS - BASIC $1.63 $3.09 $(1.46) (47)%
==== ==== ======
TOTAL EPS - DILUTED (NOTE A) $1.63 $3.08 $(1.45) (47)%
==== ==== ======
Note A: Reflecting the effect of unexercised dilutive stock options.
- 45 -
The following table presents a line-by-line breakdown of revenue and expenses
from UIL Holdings' Consolidated Statement of Income by subsidiary, including
comparisons between 2003 and 2002. Significant variances are explained in the
discussion and analysis of individual subsidiary results that follow.
YEAR ENDED DECEMBER 31, 2003 MORE
(IN MILLIONS) 2003 2002 (LESS) THAN 2002
- ------------- ---- ---- ----------------
OPERATING REVENUE
UI from operations, before sharing $669.6 $691.3 $(21.7)
UI sharing from operations - (6.6) 6.6
Nuclear - 42.8 (42.8)
Xcelecom 294.0 310.0 (16.0)
Minority Interest Investment & Other 0.1 0.1 -
------------ ------------- -------------------
TOTAL OPERATING REVENUE $963.7 $1,037.6 $(73.9)
============ ============= ===================
FUEL AND ENERGY EXPENSE
UI $272.7 $263.1 $9.6
Nuclear - 6.1 (6.1)
------------ ------------- -------------------
TOTAL FUEL AND ENERGY EXPENSE $272.7 $269.2 $3.5
============ ============= ===================
OPERATION AND MAINTENANCE EXPENSE
UI $185.5 $176.7 $8.8
Nuclear - 23.8 (23.8)
Xcelecom 290.0 301.1 (11.1)
Minority Interest Investment & Other 3.2 3.6 (0.4)
------------ ------------- -------------------
TOTAL OPERATION AND MAINTENANCE EXPENSE $478.7 $505.2 $(26.5)
============ ============= ===================
DEPRECIATION AND AMORTIZATION
UI $28.3 $27.4 $0.9
Nuclear - 1.2 (1.2)
Xcelecom 3.5 3.2 0.3
Minority Interest Investment & Other 0.1 - 0.1
------------ ------------- -------------------
Subtotal depreciation 31.9 31.8 0.1
Amortization of regulatory assets (UI) 49.2 59.5 (10.3)
Amortization Xcelecom 1.2 1.3 (0.1)
------------ ------------- -------------------
TOTAL DEPRECIATION AND AMORTIZATION $82.3 $92.6 $(10.3)
============ ============= ===================
TAXES - OTHER THAN INCOME TAXES
UI - State gross earnings tax $25.8 $28.3 $(2.5)
UI - other 13.5 15.8 (2.3)
Nuclear - other - 0.4 (0.4)
Xcelecom 1.8 1.5 0.3
------------- ------------ --------------------
TOTAL TAXES - OTHER THAN INCOME TAXES $41.1 $46.0 $(4.9)
============= ============ ====================
- 46 -
YEAR ENDED DECEMBER 31, 2003 MORE
(IN MILLIONS) 2003 2002 (LESS) THAN 2002
- ------------- ---- ---- ----------------
OTHER INCOME AND (DEDUCTIONS)
UI $5.6 $3.7 $1.9
Xcelecom 0.5 0.7 (0.2)
Minority Interest Investment & Other (2.8) (6.7) 3.9
------------ ------------- ------------------
TOTAL OTHER INCOME AND (DEDUCTIONS) $3.3 ($2.3) $5.6
============ ============= ==================
EARNINGS BEFORE INTEREST AND TAXES (EBIT)
UI $100.2 $117.6 $(17.4)
Nuclear - 11.3 (11.3)
Xcelecom (2.0) 3.6 (5.6)
Minority Interest Investments & Other (6.0) (10.2) 4.2
------------ ------------- -------------------
TOTAL EBIT FROM CONTINUING OPERATIONS $92.2 $122.3 $(30.1)
============ ============= ===================
INTEREST CHARGES
UI $20.7 $33.8 $(13.1)
UI - Interest on Seabrook obligation bonds owned by UI - (5.1) 5.1
UI - Amortization: debt expense, redemption premiums 1.3 1.9 (0.6)
Nuclear - 1.5 (1.5)
Xcelecom 0.6 1.3 (0.7)
Minority Interest Investment & Other 6.6 5.7 0.9
------------ ------------- ------------------
TOTAL INTEREST CHARGES $29.2 $39.1 $(9.9)
============ ============= ==================
INCOME TAXES
UI $39.5 $38.9 $0.6
Nuclear - 4.0 (4.0)
Xcelecom (0.9) 0.9 (1.8)
Minority Interest Investment & Other (5.1) (6.3) 1.2
------------ ------------- ------------------
TOTAL INCOME TAXES $33.5 $37.5 $(4.0)
============ ============= ==================
NET INCOME
UI $38.7 $48.1 $(9.4)
Nuclear - 5.8 (5.8)
Xcelecom (1.7) 1.4 (3.1)
Minority Interest Investment & Other (7.5) (9.6) 2.1
------------ ------------- ------------------
SUBTOTAL NET INCOME FROM CONTINUING OPERATIONS 29.5 45.7 (16.2)
Discontinued Operations (6.2) (1.8) (4.4)
------------ ------------- ------------------
TOTAL NET INCOME $23.3 $43.9 $(20.6)
============ ============= ==================
- 47 -
THE UNITED ILLUMINATING COMPANY RESULTS OF OPERATIONS: 2003 VS. 2002
- ---------------------------------------------------------------------
Twelve Months Twelve Months 2003 more (less) than 2002
Ended Ended --------------------------
Dec. 31, 2003 Dec. 31, 2002 Amount Percent
----------------- ------------------ ---------------- ------------
EPS FROM OPERATIONS
UI before Nuclear Division and Sharing $2.71 $3.90 $(1.19) (31)%
Sharing 0.00 (0.52) 0.52 100%
------ ---- ----
Subtotal UI excluding Nuclear 2.71 3.38 (0.67) (20)%
Nuclear Division 0.00 0.41 (0.41) (100)%
---- ---- ------
Total UI EPS from operations - basic $2.71 $3.79 $(1.08) (29)%
===== ==== ======
Total UI EPS from operations -
diluted (Note A) $2.71 $3.78 $(1.07) (28)%
===== ==== ======
RETAIL SALES (MILLIONS OF KWH) 5,763 5,781 (18) -
Note A: Reflecting the effect of unexercised dilutive stock options.
UI EXCLUDING THE NUCLEAR DIVISION
Excluding the Nuclear Division, UI's net income was $38.7 million, or $2.71 per
share, in 2003, compared to $48.1 million, or $3.38 per share, in 2002. The 2002
earnings of $3.38 per share included an adjustment of $0.78 per share for
earnings which were in excess of the allowed 11.50% return on equity. In
accordance with the DPUC earnings sharing mechanism, the $0.78 per share was
allocated, or "shared", equally between shareowners, customers, and to reduce
stranded costs, resulting in a reduction of 2002 net income by $0.52 per share.
On a pre-sharing basis, earnings per share decreased by $1.19 per share,
primarily due to effects of the DPUC's 2002 Rate Case decision, which reduced
authorized return on utility common stock equity by the DPUC from 11.50% to
10.45%, effective September 26, 2002, reduced overall rates by 3%, and increased
stranded cost amortization. UI has also been affected by increased pension and
postretirement benefit costs that have not to date been included for recovery in
rates. The effect of these additional costs on earnings was mitigated by the
positive impact of weather on revenues and by short-term actions taken by UI.
See discussion included in Item 7, "Major Influences On Financial Condition -
The United Illuminating Company," for further information regarding recovery of
increased pension and postretirement benefit costs.
- 48 -
Overall, UI's total revenue decreased by $15.1 million, from $684.7 million in
2002 to $669.6 million in 2003. Details of this change in revenue are as
follows:
From
In Millions Operations
- --------------------------------------------------------------------------------
2003 Revenues more (less) than 2002 Revenues
- --------------------------------------------------------------------------------
REVENUE FROM DISTRIBUTION DIVISION:
Estimate of operating Distribution Division component of
"weather normalized" retail sales growth $(0.3)
Estimate of operating Distribution Division component of
weather effect on retail sales (20.2)
Sharing (2002) 6.6
Impact of rate decrease, mix of sales on average price and
other (2.8)
-----
TOTAL RETAIL REVENUE FROM DISTRIBUTION DIVISION (16.7)
RETAIL REVENUE FROM OTHER UTILITY DIVISIONS (8.5)
-----
TOTAL UI RETAIL REVENUE (25.2)
OTHER OPERATING REVENUE INCREASE (DECREASE)
NEPOOL transmission revenues 0.7
Other 0.2
---
TOTAL UI OTHER OPERATING REVENUES 0.9
UI WHOLESALE REVENUE 9.2
-----
TOTAL UI REVENUES $(15.1)
======
Retail fuel and energy expense increased by $9.2 million in 2003, compared to
2002. UI received electricity to satisfy its standard offer retail customer
service requirements through a fixed-price purchased power agreement. These
costs are recovered through the GSC portion of UI's unbundled retail customer
rates. UI's financial results are not materially affected by its customers'
selection of alternate suppliers to provide generation service. UI's wholesale
energy expense increased by $0.4 million, but these costs are recovered from
customers through the CTA.
UI's O&M expenses increased by $8.8 million, from $176.7 million in 2002 to
$185.5 million in 2003. The increase was due primarily to increased pension and
postretirement expenses of $13.0 million, offset by decreased environmental
remediation costs of $3.2 million and a decrease in other expenses of $1.0
million.
Amortization of regulatory assets decreased by $10.3 million in 2003 compared to
2002. The primary reasons for the reduction were due to the DPUC order in July
2003 requiring that the amortization of CTA rate base utilizing excess GSC
revenues be discontinued until further determination and the absence of 2002
sharing amortization.
Other taxes (excluding State gross earnings tax) decreased by $2.3 million, from
$15.8 million in 2002 to $13.5 million in 2003. The decrease was due to lower
property taxes in 2003 as a result of the sale of Seabrook Station in November
2002.
Other income increased by $1.9 million in 2003, compared to 2002, primarily due
to interest income due to a higher level of short-term investments throughout
2003.
Interest charges decreased by $8.6 million, from $30.6 million in 2002 to $22
million in 2003. Overall, the decrease was due to the refinancing of certain UI
debt issues and the termination of the Seabrook Lease Obligation Bonds in
connection with the sale of UI's interest in Seabrook Station on November 1,
2002.
- 49 -
NUCLEAR DIVISION
The remaining operation assets of the Nuclear Division (Seabrook Station) were
sold on November 1, 2002. The Nuclear Division contributed net income of $5.8
million, or $0.41 per share, in 2002.
NON-UTILITY BUSINESSES RESULTS OF OPERATIONS: 2003 VS. 2002
- ------------------------------------------------------------
Twelve Months Twelve Months 2003 more (less) than 2002
Ended Ended --------------------------
Dec. 31, 2003 Dec. 31,2002 Amount Percent
----------------- ---------------- ----------------- -----------
EPS
Operating Business
Xcelecom $(0.12) $0.10 $(0.22) (220)%
Minority Interest Investments
UBE (0.15) (0.07) (0.08) (114)%
UCI (0.05) (0.31) 0.26 84%
---- ---- ----
Subtotal Minority Interest
Investments (0.20) (0.38) 0.18 47%
UIL Corporate (Note A) (0.32) (0.29) (0.03) (10)%
---- ---- ----
TOTAL NON-UTILITY EPS FROM CONTINUING
OPERATIONS (0.64) (0.57) (0.07) (12)%
Discontinued Operations (0.44) (0.13) (0.31) (238)%
------ ------ ----
TOTAL NON-UTILITY EPS - BASIC $(1.08) $(0.70) $(0.38) (54)%
====== ====== ====
TOTAL NON-UTILITY EPS - DILUTED (NOTE B) $(1.08) $(0.70) $(0.38) (54)%
====== ====== ====
Note A: Includes interest charges on intercompany debt and strategic and
administrative costs of the non-utility holding company.
Note B: Reflecting the effect of unexercised dilutive stock options.
The consolidated non-utility businesses reported a loss from continuing
operations, including unallocated holding company costs, of $9.2 million, or
$0.64 per share, in 2003, an increased loss of $1.0 million, or $0.07 per share,
compared to a loss of about $8.2 million, or $0.57 per share, in 2002. The slow
economic recovery in the east coast region continued to have a negative impact
on the results of Xcelecom, which was the primary driver for the decrease in
earnings from continuing operations as compared to 2002. Results at UBE were
hampered by the effects of high natural gas prices, and lower installed
capability revenues. The decreases at Xcelecom and UBE were partially offset by
lower losses from continuing operations at UCI for 2003, due to the absence of
an impairment charge which affected 2002, and improved valuations of minority
interest investments. Results from discontinued operations for 2003 amounted to
a loss of $6.2 million, or $0.44 per share, compared to a loss of $1.8 million,
or $0.13 per share in 2002. The increased loss from discontinued operations was
mainly due to an impairment charge recognized in the fourth quarter of 2003
related to APS' telephony assets.
Operating revenue for the non-utility businesses decreased by $16 million, or
5%. All of the decrease in revenues came from Xcelecom. Total operating expenses
for the non-utility businesses decreased by $10.9 million, or 3%, due to the
decrease in business at Xcelecom. Other deductions of $2.3 million in 2003
decreased from 2002 by $3.7 million, or 61%, due to lower valuation losses on
minority interest investments and the absence of an impairment charge recognized
in 2002.
The results of each of the non-utility subsidiaries for 2003 and 2002, as
presented below, reflect the allocation of debt costs from the parent based on a
capital structure, including an equity component, and an interest rate deemed
appropriate for that type of business. The targeted capital structures for each
of the non-utility subsidiaries are: 100% equity for APS and UCI, 65% equity and
- 50 -
35% debt for Xcelecom for all periods prior to the second quarter of 2002 and
100% equity beginning in the second quarter of 2002, and 30% equity and 70% debt
for UBE through the end of 2003 and 100% equity beginning in 2004. UIL Holdings
absorbs interest charges on the equity portion of its investments in its
subsidiaries to the extent those investments are financed with debt. UIL
Holdings may incur other corporate level expenses necessary to manage its
investments from time to time.
The following is a detailed explanation of the change in results between 2002
and 2003 for each of UIL Holdings' non-utility businesses.
NON-UTILITY BUSINESSES
XCELECOM, INC.
Xcelecom lost $1.7 million, or $0.12 per share, in 2003, compared to earnings of
$1.4 million, or $0.10 per share in 2002. A slow economic recovery in the east
coast region has been the primary driver for the lower results in 2003. This has
caused contract postponements and cancellations, increased competition for fewer
jobs, and decreasing project margins. Executive severance costs also affected
performance at Xcelecom in 2003 (by approximately $0.03 per share).
Additionally, the completion of several large, profitable non-recurring
contracts in 2002 that have not been replaced with comparable contracts in 2003
has contributed to the earnings decline. The negative earnings impact of these
items was partly offset by improved performance in the systems integration
division in 2003 compared to 2002.
MINORITY INTEREST INVESTMENTS
UNITED BRIDGEPORT ENERGY, INC.
UBE owns a 33 1/3% interest in Bridgeport Energy, LLC (BE). UBE lost $2.2
million, or $0.15 per share in 2003, compared to losses of $1.0 million, or
$0.07 per share in 2002. UBE results were hampered by high natural gas prices
which kept both margins and sales levels low in 2003, resulting in a $0.06 per
share decline in earnings from energy revenues as compared to 2002. Installed
capability (ICAP) revenues reduced 2003 earnings by $0.21 per share compared to
2002. A non-recurring insurance benefit of $0.05 per share recognized in 2002
also contributed to the decline in earnings from the prior year. These decreases
were partially offset by the absence of major overhaul expenses in 2003, which
amounted to $0.25 per share in 2002.
UNITED CAPITAL INVESTMENTS, INC.
UCI lost $0.6 million, or $0.05 per share in 2003, compared to a loss of $4.4
million, or $0.31 per share in 2002. An impairment of UCI's investment in Gemini
Networks, Inc., (Gemini) a broadband fiber-optic business, caused a one-time
charge of $0.16 per share in 2002. The remaining improvement in earnings from
2002 of $0.15 per share was due to better performance of minority interest
investments and reduced administrative costs. UCI recorded $0.1 million in
income from the Cross-Sound Cable project in 2003 based on the terms of an
interim operating agreement. The cable will achieve commercial operation when
all pending permit issues are resolved. See PART II, Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of Operations," for
further discussion regarding Cross-Sound.
UIL CORPORATE
UIL Holdings retains certain costs at the holding company level which are not
allocated to the various non-utility subsidiaries. These costs generally include
interest charges and strategic and other administrative costs. UIL Holdings'
unallocated costs amounted to $4.7 million, after-tax, or $0.32 per share, in
2003, compared to $4.2 million, or $0.29 per share, in 2002. The increase in
expenses was due to increased administrative costs in 2003.
- 51 -
DISCONTINUED OPERATIONS
On December 16, 2003, UIL Holdings entered into an agreement to sell APS to
CheckFree Corporation (CheckFree), a leading provider of financial electronic
commerce services and products. Under the terms of the agreement, and pending
receipt of regulatory approvals and satisfaction of customary closing
conditions, CheckFree will pay approximately $110 million in cash for the
outstanding stock of APS. The transaction is expected to close during the second
quarter of 2004, with the resulting gain on the sale, net of transaction costs,
to be recognized at that time.
CheckFree will not acquire APS' telephony assets, which include APS' 51%
ownership interest in CellCards of Illinois, LLC (CCI). Following execution of
the agreement to sell APS, management determined that the telephony business is
not part of UIL Holdings' overall strategic business focus, and therefore
authorized the sale of APS' telephony assets. Accordingly, APS, inclusive of the
telephony business, has been categorized as "held for sale" as of December 31,
2003 for financial accounting purposes, and as such, its results are included in
discontinued operations for all periods presented.
Net loss from discontinued operations amounted to $6.2 million, or $0.44 per
share in 2003, compared to a net loss of $1.8 million, or $0.13 per share in
2002. The results of 2003 were affected by an after-tax impairment charge of
$4.9 million, or $0.34 per share. This impairment charge was a result of UIL
Holdings' reassessment of the value of APS' telephony assets as a stand-alone
operation after announcing the pending sale of the remainder of APS. In addition
to the impairment charge, transaction costs incurred in 2003 associated with the
sale of APS amounted to $0.2 million, after-tax, or $0.01 per share. The results
of 2003 were also affected by other non-recurring charges totaling $1.0 million,
after-tax, or $0.07 per share. These charges were comprised of a write-down of
equipment values, a liability associated with vacated leased property, and a
loss on the sale of the investment in Bill Matrix. In accordance with SFAS No.
144, depreciation of assets classified as "held for sale" was ceased as of
December 16, 2003. As such, 2003 depreciation and amortization expense was $0.1
million, after-tax, lower than it would have been if the assets of APS had been
depreciated through the end of 2003.
- 52 -
2002 VS. 2001
- -------------
UIL HOLDINGS CORPORATION RESULTS OF OPERATIONS: 2002 VS. 2001
- --------------------------------------------------------------
UIL Holdings' earnings from continuing operations for 2002 decreased by $13.9
million, or $1.00 per share, compared to 2001. The net loss from discontinued
operations for 2002 was $1.8 million, or $0.13 per share, an increased loss of
$1.6 million, or $0.12 per share, from 2001. The decrease in earnings from
continuing operations was due to a $0.74 per share decrease in the non-utility
businesses, a $0.03 per share decrease at UI, excluding the Nuclear Division,
and a $0.23 per share decrease in Nuclear Division earnings.
The table below presents a comparison of UIL Holdings' Net Income and Earnings
Per Share (EPS) for 2002 and 2001.
Twelve Months Twelve Months 2002 more (less) than 2001
Ended Ended --------------------------
Dec. 31, 2002 Dec. 31, 2001 Amount Percent
------------------ ------------------ ---------------- ------------
NET INCOME (IN MILLIONS EXCEPT PERCENTS)
UI $48.1 $48.0 $ 0.1 --
Nuclear Division 5.8 9.1 (3.3) (36)%
Non-Utility (8.2) 2.5 (10.7) (428)%
-------- ------ ------
TOTAL NET INCOME FROM CONTINUING
OPERATIONS $45.7 $59.6 $(13.9) (23)%
Discontinued Operations (1.8) (0.2) (1.6) (800)%
-------- -------- -----
TOTAL NET INCOME $43.9 $59.4 $(15.5) (26)%
EPS
UI $3.38 $3.41 $(0.03) (1)%
Nuclear Division 0.41 0.64 (0.23) (36)%
Non-Utility (0.57) 0.17 (0.74) (435)%
------ ---- ------
TOTAL EPS FROM CONTINUING
OPERATIONS - BASIC $3.22 $4.22 $(1.00) (24)%
Discontinued Operations (0.13) (0.01) (0.12) (1,200)%
------ ------ ------
TOTAL EPS - BASIC $3.09 $4.21 $(1.12) (27)%
==== ==== ======
TOTAL EPS - DILUTED (NOTE A) $3.08 $4.19 $(1.11) (26)%
==== ==== ======
Note A: Reflecting the effect of unexercised dilutive stock options.
- 53 -
The following table presents a line-by-line breakdown of certain line items from
UIL Holdings' Consolidated Statement of Income by subsidiary, including
comparisons between 2002 and 2001. Significant variances are explained in the
discussion and analysis of individual subsidiary results that follow.
YEAR ENDED DECEMBER 31, 2002 MORE
(IN MILLIONS) 2002 2001 (LESS) THAN 2001
- ------------- ---- ---- ----------------
OPERATING REVENUE
UI from operations, before sharing $691.3 $669.5 $21.8
UI sharing from operations (6.6) (3.9) (2.7)
Nuclear 42.8 49.2 (6.4)
Xcelecom 310.0 312.6 (2.6)
Minority Interest Investment & Other 0.1 0.1 0.0
-----------------------------------------------
TOTAL OPERATING REVENUE $1,037.6 $1,027.5 $10.1
===============================================
FUEL AND ENERGY EXPENSE
UI $263.1 $265.0 ($1.9)
Nuclear 6.1 6.9 (0.8)
------------------------------------------------
TOTAL FUEL AND ENERGY EXPENSE $269.2 $271.9 ($2.7)
================================================
OPERATION AND MAINTENANCE EXPENSE
UI $176.7 $154.5 $22.2
Nuclear 23.8 22.7 1.1
Xcelecom 301.1 292.2 8.9
Minority Interest Investment & Other 3.6 3.7 (0.1)
-----------------------------------------------
TOTAL OPERATION AND MAINTENANCE EXPENSE $505.2 $473.1 $32.1
===============================================
DEPRECIATION AND AMORTIZATION
UI $27.4 $27.4 $0.0
Nuclear 1.2 1.5 (0.3)
Xcelecom 3.2 1.7 1.5
Minority Interest Investment & Other 0.0 1.0 (1.0)
----------------------------------------------
Subtotal depreciation 31.8 31.6 0.2
Amortization of regulatory assets (UI) 59.5 58.9 0.6
Amortization Xcelecom 1.3 3.7 (2.4)
Amortization Minority Interest Investment & Other 0.0 (0.9) 0.9
----------------------------------------------
TOTAL DEPRECIATION AND AMORTIZATION $92.6 $93.3 $(0.7)
==============================================
TAXES - OTHER THAN INCOME TAXES
UI - State gross earnings tax $28.3 $26.7 $1.6
UI - other 15.8 15.4 0.4
Nuclear - other 0.4 1.2 (0.8)
Xcelecom 1.5 1.5 0.0
Minority Interest Investment & Other 0.0 (0.2) 0.2
-----------------------------------------------
TOTAL TAXES - OTHER THAN INCOME TAXES $46.0 $44.6 $1.4
===============================================
- 54 -
YEAR ENDED DECEMBER 31, 2002 MORE
(IN MILLIONS) 2002 2001 (LESS) THAN 2001
- ------------- ---- ---- ----------------
OTHER INCOME AND (DEDUCTIONS)
UI $ 3.7 $3.5 $0.2
Nuclear 0.0 0.2 (0.2)
Xcelecom 0.7 0.7 0.0
Minority Interest Investment & Other (6.7) 2.3 (9.0)
---------------------------------------------
TOTAL OTHER INCOME AND (DEDUCTIONS) ($2.3) $6.7 ($9.0)
=============================================
EARNINGS BEFORE INTEREST AND TAXES (EBIT)
UI $117.6 $121.3 ($3.7)
Nuclear 11.3 17.0 (5.7)
Xcelecom 3.6 14.2 (10.6)
Minority Interest Investments & Other (10.2) (1.2) (9.0)
---------------------------------------------
TOTAL EBIT FROM CONTINUING OPERATIONS $122.3 $151.3 ($29.0)
=============================================
INTEREST CHARGES
UI $33.8 $37.5 ($3.7)
UI - Interest on Seabrook obligation bonds owned by UI (5.1) (6.3) 1.2
UI - Amortization: debt expense, redemption premiums 1.9 2.2 (0.3)
Nuclear 1.5 1.9 (0.4)
Xcelecom 1.3 3.3 (2.0)
Minority Interest Investment & Other 5.7 4.9 0.8
---------------------------------------------
TOTAL INTEREST CHARGES $39.1 $43.5 ($4.4)
=============================================
INCOME TAXES
UI $38.9 $39.8 ($0.9)
Nuclear 4.0 6.1 (2.1)
Xcelecom 0.9 4.7 (3.8)
Minority Interest Investment & Other (6.3) (2.4) (3.9)
---------------------------------------------
TOTAL INCOME TAXES $37.5 $48.2 ($10.7)
=============================================
NET INCOME
UI $48.1 $48.0 $0.1
Nuclear 5.8 9.1 (3.3)
Xcelecom 1.4 6.2 (4.8)
Minority Interest Investment & Other (9.6) (3.7) (5.9)
---------------------------------------------
SUBTOTAL NET INCOME FROM CONTINUING OPERATIONS 45.7 59.6 (13.9)
Discontinued Operations (1.8) (0.2) (1.6)
---------------------------------------------
TOTAL NET INCOME $43.9 $59.4 ($15.5)
=============================================
- 55 -
THE UNITED ILLUMINATING COMPANY RESULTS OF OPERATIONS: 2002 VS. 2001
- ---------------------------------------------------------------------
Twelve Months Twelve Months 2002 more (less) than 2001
Ended Ended --------------------------
Dec. 31, 2002 Dec. 31, 2001 Amount Percent
----------------- ------------------ ---------------- ------------
EPS FROM OPERATIONS
UI before Nuclear Division and Sharing $3.90 $3.72 $0.18 5%
Sharing (0.52) (0.31) (0.21) (68)%
---- ---- ----
Subtotal UI excluding Nuclear 3.38 3.41 (0.03) (1)%
Nuclear Division 0.41 0.64 (0.23) (36)%
---- ---- ------
Total UI EPS from operations - basic $3.79 $4.05 $(0.26) (6)%
==== ==== ======
Total UI EPS from operations - diluted $3.78 $4.03 $(0.25) (6)%
==== ==== ======
RETAIL SALES (MILLIONS OF KWH) 5,781 5,724 57 1%
UI EXCLUDING THE NUCLEAR DIVISION
Excluding the Nuclear Division, UI's net income was $48.1 million, or $3.38 per
share, in 2002, compared to $48.0 million, or $3.41 per share, in 2001. The
decrease of $0.03 per share was due to the increase in the average number of
shares outstanding. On a pre-sharing basis, earnings per share increased by
$0.18 per share, reflecting higher revenues and lower amortization expense,
partially offset by higher expenses. Higher sharing, reflected in a revenue
reduction and increased accelerated amortization reduced earnings by $0.21 per
share.
Overall, UI's total revenue increased by $19.1 million, from $665.6 million in
2001 to $684.7 million in 2002. Details of this change in revenue are as
follows:
From
In Millions Operations
- --------------------------------------------------------------------------------
2002 Revenues more (less) than 2001 Revenues
- --------------------------------------------------------------------------------
REVENUE FROM DISTRIBUTION DIVISION:
Estimate of operating Distribution Division component of
"weather normalized" retail sales growth, 0.6% $1.3
Estimate of operating Distribution Division component of
weather effect on retail sales, 1.1% 3.0
Impact of mix of sales on average price and other 6.1
Sharing (2.7)
---
TOTAL RETAIL REVENUE FROM DISTRIBUTION DIVISION 7.7
RETAIL REVENUE FROM OTHER UTILITY DIVISIONS (NOTE A) 4.1
----
TOTAL UI RETAIL REVENUE 11.8
OTHER OPERATING REVENUE INCREASE (DECREASE)
NEPOOL transmission revenues 4.0
Other 0.2
---
TOTAL UI OTHER OPERATING REVENUES 4.2
UI WHOLESALE REVENUE 3.1
----
TOTAL UI REVENUES $19.1
====
Note A: The impact of increased retail sales on the retail revenues of the
other utility divisions was partially offset by a 0.7% reduction in
electricity sales and a corresponding $2.4 million revenue reduction
resulting from the resolution of a station service dispute with a
generating plant owner.
- 56 -
Retail fuel and energy expense decreased by $4.1 million in 2002, compared to
2001. UI received through 2003, electricity to satisfy its standard offer retail
customer service requirements through a fixed-price purchased power agreement.
These costs are recovered through the GSC portion of UI's unbundled retail
customer rates. It should be noted that a small number of customers had selected
alternate suppliers to provide generation services, but this had no effect on
UI's financial results. UI's wholesale energy expense increased by $2.2 million,
but these costs are recovered from customers through the CTA.
UI's O&M expenses increased by $22.2 million, from $154.5 million in 2001 to
$176.7 million in 2002. The principal components of these expense changes
included:
Increase/
In Millions (Decrease)
- -------------------------------------------------------------------------
Operating Division:
- -------------------------------------------------------------------------
Net pension expense and post retirement benefits (Note A) $6.6
Environmental remediation 3.2
NEPOOL transmission expense 2.4
Other 5.9
---
TOTAL OPERATING DISTRIBUTION DIVISION $18.1
NON-DISTRIBUTION O&M 4.1
---
TOTAL O&M EXPENSE $22.2
====
Note A: The increase in pension expense reflected the lower returns being
generated since approximately the beginning of 2000 by the equity
investments held by the UI pension plan, a portion of which must be
recognized immediately with the remainder deferred and amortized
over time. These returns, when combined with the lower market value
of the assets in the pension fund and the increase in projected
liabilities caused by lower discount rates, may, depending on the
actual performance of the fund, require increased cash contributions
to the pension fund in the future.
Amortization of regulatory assets, as booked, increased by $0.6 million in 2002
compared to 2001. The principal components of these changes were:
Increase (Decrease) In Millions As Booked After-tax
- --------------------------------------------------------------------------------
AMORTIZATION OF REGULATORY ASSETS:
- --------------------------------------------------------------------------------
Accelerated amortization in Distribution Division $(9.5) $(8.3)
Sharing amortization in Distribution Division 1.9 1.5
Amortization in CTA and SBC 8.2 4.7
--- ---
TOTAL AMORTIZATION OF REGULATORY ASSETS $0.6 $(2.1)
=== ====
Note: "As booked" presents amounts as they appear on the income
statement. After-tax amounts are provided because only part of the as
booked amounts are tax deductible.
Other pre-tax income increased by $0.3 million in 2002 compared to 2001.
Interest charges decreased by $2.7 million in 2002 compared to 2001. About $1.5
million of this decrease was due to the net redemption of the Seabrook lease
obligation bonds resulting from the sale of Seabrook Station on November 1,
2002.
- 57 -
NUCLEAR DIVISION
The Nuclear Division contributed net income of $5.8 million, or $0.41 per share,
in 2002 compared to $9.1 million, or $0.64 per share, in 2001. The overall
earnings decline was $0.23 per share. The Seabrook nuclear generating unit was
sold on November 1, 2002. The absence of two months of earnings (post sale)
reduced earnings by $0.14 per share compared to 2001. The combination of the
accounting treatment of certain nuclear disposition expenses, improved unit
performance and lower general O&M expense in October of 2002 compared to October
2001 reduced earnings by $0.09 per share.
NON-UTILITY BUSINESSES RESULTS OF OPERATIONS: 2002 VS. 2001
- ------------------------------------------------------------
Twelve Months Twelve Months 2002 more (less) than 2001
Ended Ended --------------------------
Dec. 31, 2002 Dec. 31,2001 Amount Percent
----------------- ---------------- ----------------- -----------
EPS
Operating Business
Xcelecom $0.10 $0.44 $(0.34) (77)%
Minority Interest Investments
UBE (0.07) 0.26 (0.33) (127)%
UCI (0.31) (0.28) (0.03) (11)%
---- ---- ------
Subtotal Minority Interest
Investments (0.38) (0.02) (0.36) (1,800)%
UIL Corporate (Note A) (0.29) (0.25) (0.04) (16)%
---- ----
TOTAL NON-UTILITY EPS FROM CONTINUING
OPERATIONS (0.57) 0.17 (0.74) (435)%
Discontinued Operations (0.13) (0.01) (0.12) (1,200)%
------ ------
TOTAL NON-UTILITY EPS - BASIC $(0.70) $0.16 $(0.86) (538)%
====== ==== ======
TOTAL NON-UTILITY EPS - DILUTED (Note B) $(0.70) $0.16 $(0.86) (538)%
====== ==== ======
Note A: Includes interest charges on intercompany debt and strategic and
administrative costs of the non-utility holding company.
Note B: Reflecting the effect of unexercised dilutive stock options.
Overall, the consolidated non-utility businesses had losses from continuing
operations of approximately $8.2 million, or $0.57 per share, in 2002, compared
to earnings of about $2.5 million, or $0.17 per share, in 2001. Operating
revenue for the non-utility businesses decreased by $2.6 million, or 1%. All of
the decrease in revenues came from Xcelecom. Expenses for the non-utility
businesses, including losses on minority interest investments, but excluding
income taxes, increased by $15.9 million, and income taxes decreased by $7.7
million.
The results of each of the non-utility subsidiaries for 2002 and 2001, as
presented below, reflect the allocation of debt costs from the parent based on a
capital structure, including an equity component, and an interest rate deemed
appropriate for that type of business. The targeted capital structures for each
of the non-utility subsidiaries are: 100% equity for APS and UCI, 65% equity and
35% debt for Xcelecom for all periods prior to the second quarter of 2002 and
100% equity beginning in the second quarter of 2002, and 30% equity and 70% debt
for UBE. See the Xcelecom section for an explanation on the change to Xcelecom's
capital structure. UIL Holdings absorbs interest charges on the equity portion
of its investments in its subsidiaries to the extent those investments are
financed with debt. URI may incur other expenses necessary to manage its
investments from time to time.
The following is a detailed explanation of the change in results between 2001
and 2002 for UIL Holdings' non-utility businesses.
- 58 -
NON-UTILITY BUSINESSES
XCELECOM, INC.
Xcelecom earned $1.4 million, or $0.10 per share, in 2002, compared to $6.2
million, or $0.44 per share in 2001. Higher loss reserve charges relating to
projects at several Xcelecom subsidiaries reduced earnings by about $0.05 per
share in 2002 compared to 2001. Also, as with other companies in the
construction and systems integration industries, there was a very evident
decline in economic activity in Xcelecom's markets. Xcelecom also experienced
customer postponements and cancellations of projects, reductions in new project
orders, a continued slowdown in spending for technology by its customers, and
increased competition for fewer jobs, resulting in both lower demand and lower
margins. Additionally, the completion of several large, non-recurring contracts
in 2001 that were not replaced contributed to the earnings decline. The negative
earnings impact of these items, about $0.57 per share in 2002 compared to 2001,
was partly offset by an increase of about $0.06 per share from acquisitions made
during 2001 and 2002, and an increase of $0.15 per share due to the change in
accounting for goodwill mandated by SFAS No. 142, "Goodwill and Other Intangible
Assets." The negative impact was also partly offset by the conversion, in the
second quarter of 2002, to a 100% equity capital structure from the 65% equity
and 35% intercompany debt structure used previously. This conversion contributed
$0.07 per share to Xcelecom in 2002, but was offset by an earnings decrease in
URI Headquarters, which received less interest income from Xcelecom.
MINORITY INTEREST INVESTMENTS
UNITED BRIDGEPORT ENERGY, INC.
UBE owns a 33 1/3% interest in Bridgeport Energy, LLC (BE). UBE lost $1.0
million, or $0.07 per share in 2002, compared to earnings of $3.7 million, or
$0.26 per share in 2001. Of the $0.33 per share decrease, $0.13 was due to lower
energy sales revenues, $0.04 was due to lower installed capability (ICAP)
revenues, about $0.25 was due to overhaul costs in 2002, and $0.04 was due to
higher operating expenses. Offsetting the negative earnings impact of these
items was an improvement of $0.08 per share due to lower interest and
administrative charges, and a non-recurring benefit of $0.05 per share due to an
insurance credit. In 2001, UBE had an agreement with Duke Energy Trading and
Marketing (an affiliate of the majority owner) that effectively eliminated UBE's
operating and margin risks. There was no such agreement in 2002.
UNITED CAPITAL INVESTMENTS, INC.
UCI lost $4.4 million, or $0.31 per share in 2002, compared to a loss of $3.9
million, or $0.28 per share in 2001. An impairment of UCI's investment in Gemini
Networks, Inc., (Gemini) a broadband fiber-optic business, caused a $0.16 per
share loss. That write-off reflected the generally depressed economic conditions
in the telecommunications industry that worsened in the second quarter of 2002,
and an associated inability of Gemini to access capital markets to continue its
network build-out. The offsetting variance was due to lower losses on other
minority ownership interest investments.
UIL CORPORATE
UIL Holdings incurred unallocated costs of $4.2 million, after-tax, or $0.29 per
share, in 2002, compared to unallocated costs of $3.4 million, after-tax, or
$0.25 per share, in 2001. The results of each of the non-utility subsidiaries,
as presented above, reflect interest expense on allocated debt from UIL
Holdings, based on a capital structure, including an equity component, and an
interest rate deemed appropriate for that type of business. Some unallocated
interest charges and strategic and administrative costs for the non-utility
subsidiaries are retained UIL Holdings. The increase in unallocated costs at UIL
Holdings reflects additional administrative expenses incurred for managing
investments. Lower interest income from the reclassification of Xcelecom's
intercompany debt to equity, beginning in the second quarter of 2002, was mostly
offset by lower interest charges from reduced interest rates.
- 59 -
DISCONTINUED OPERATIONS
APS lost $1.8 million, or $0.13 per share, in 2002, compared to a loss of $0.2
million, or $0.01 per share, in 2001. The increased loss of $0.12 per share was
due to expenses that were incurred to expand the infrastructure of the
organization in order to enhance the bill payment business and introduce and
sell new products and services, such as prepaid stored value cards and prepaid
telephony products, partly offset by an increase of $0.02 per share due to the
change in accounting for goodwill mandated by Statement of Financial Accounting
Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets." In addition,
APS incurred infrastructure and installation costs associated with a multi-year
contract with BellSouth, and a $0.05 per share loss recorded in the fourth
quarter of 2002 to write down a portion of an outstanding loan APS had made to
the entities from which APS acquired the point of sale activation technology.
LOOKING FORWARD
UIL HOLDINGS' CONSOLIDATED EARNINGS ESTIMATES FOR 2004 AND CASH FLOW DISCUSSION
UIL Holdings estimates that earnings per share from continuing operations for
2004 will be $2.40-$2.60 per share, compared to 2003 results of $2.07 per share.
UIL Holdings' previous earnings estimate of $2.20-$2.40 was provided in UIL
Holdings' earnings release of January 26, 2004. The increase is due to the
increase in the C&LM incentive approved by the DPUC in February 2004 and the
effect of the DPUC's decision regarding UI's pension and postretirement expenses
described below. These amounts exclude the impact of discontinued operations,
based on the expected closing of the sale of APS by the end of June 2004. The
primary reasons for the expected increase in earnings from operations is an
expected improvement at UIL Holdings' non-utility subsidiary, Xcelecom and
reduced interest charges resulting from the application of the proceeds from the
APS sale to reduce UIL Holdings' short-term debt.
On February 18, 2004, the DPUC issued a decision approving a modified settlement
regarding UI's request for recovery of increased pension and postretirement
expenses. The DPUC approved recovery of an annualized $5.2 million, as opposed
to the original proposed settlement amount of $10.5 million, and increased from
75% to 100% the customers' share of any Distribution Division earnings in excess
of UI's allowed return on utility common equity of 10.45%.
UIL Holdings' current earnings range estimate for 2004 is less than its current
dividend rate of $2.88 per common share. However, UIL Holdings continues to have
sufficient positive cash flow to pay the dividend from operating activities, and
generated $89 million of cash from operating activities in 2003, after making a
pension fund contribution of $45 million. This cash flow for the dividend comes
from UI, and includes, in addition to positive cash flow from the Distribution
Division, the recovery of stranded costs in the CTA rate base. See the sections
below for more information on funding the dividend and other UIL Corporate
expenses.
Approximately $26.8 million of the 2003 cash flow from operating activities for
UIL Holdings was due to the use of net operating losses, which reduced cash tax
payments, and the receipt of tax refunds. At the end of 2003, there were net
operating loss carryforwards of $51 million, the taxes on which are expected to
be recovered in 2004.
THE UNITED ILLUMINATING COMPANY
UI is expected to earn $2.75-$2.85 per share in 2004, as compared to $2.71 per
share earned in 2003. The 2004 estimate includes the effect of recent decisions
from the DPUC regarding the increase to the 2003 C&LM incentive program, and the
recovery of a portion of increased pension and postretirement expenses. Absent
other actions or abnormal weather, UI is not expected to achieve the authorized
return on the equity portion of its Distribution Division rate base.
Implementation of the February 18, 2004 DPUC decision will reduce accelerated
amortization in the Distribution Division in 2004. It will not have an impact on
UI's cash flow, or on prices charged to UI's retail customers.
- 60 -
The major sources of UI's earnings in 2003 were the Distribution and
Transmission Divisions and the CTA. In 2003, the CTA earned $1.00 per share on
the equity portion of UI's average rate base of approximately $290 million. The
remaining $1.71 per share, except for immaterial amounts earned for CL&M and
SBC, was earned by the Distribution and Transmission Divisions. The CTA is
expected to earn approximately $0.95 per share in 2004, the Distribution and
Transmission Divisions combined are expected to earn $1.68-$1.78 per share, and
the GSC is expected to earn $0.12 per share from the $0.0005 per kilowatt-hour
procurement fee provided for in Public Act 03-135. Earnings from the
Distribution Division are expected to increase in 2004 compared to 2003
primarily due to the regulatory relief supplied by the DPUC, and an expected
decrease in interest charges. Those improvements will be partly offset by
increases in other expenses. Depreciation expenses are increasing due to
increases in plant-in-service balances, particularly UI's new customer
information system. O&M expenses are expected to increase due to higher internal
and external labor costs, partly as a result of shifting internal workload from
temporary assignment on capital projects back to expense activities, and
increases in general expenses. Retail sales were enhanced in 2003 due to
abnormal weather. Sales estimated for 2004 are weather normalized.
Earnings from the CTA are expected to continue to decline beyond 2004 as the CTA
rate base is amortized. Currently, it is estimated that the CTA rate base will
be fully amortized between 2014 and 2016, at which time revenues and earnings
from the CTA will be eliminated. This estimate is predicated on the DPUC
maintaining the current CTA retail rate charged to customers until the CTA rate
base is fully amortized, and assumptions about a number of other factors that
could impact the rate of amortization. Therefore, no assurance can be given that
revenues and earnings from the CTA will continue as expected.
The CTA produces significant cash flow for UI. Funds collected for the CTA from
retail customers cover the amortization of CTA rate base, the return earned on
the equity portion of that rate base, and other mostly cash stranded cost
expenses. In 2001, 2002 and 2003, the CTA produced approximately $32 million,
$45 million, and $36 million respectively of funds from operations, and it is
expected to produce approximately $20 million in 2004. Beginning in 2000 and
continuing through December 2003, UI collected GSC revenues from customers, as
approved by the DPUC, that were greater than the cost of purchased power costs
for standard offer service. The DPUC provided this higher pricing and additional
revenues to provide customers with an incentive to switch from standard offer
service to independent suppliers. These revenues did not result in earnings for
UI. Through June of 2003, the excess GSC revenue amounts were transferred to the
CTA for accounting purposes, allowing for faster amortization of CTA stranded
cost rate base balances, and contributing to CTA cash flow. The DPUC required UI
to defer such transfers beginning in July 2003. In 2004, and through the TSO
period, purchased power costs will be higher under UI's contract with PSEG than
they were previously, and the GSC retail rates charged to customers will more
closely match those costs and the procurement fees that UI will earn,
eliminating most of that source of cash. CTA should continue to produce cash
flow at the 2004 level in future years, if the pricing factors in the CTA and
GSC, and other factors beyond UI's control do not change. Once the CTA rate base
is fully amortized, the CTA will cease to generate cash flow.
UI is currently expected to dividend to UIL Holdings, in 2004, the cash
necessary for UIL Holdings to pay a dividend to shareholders equal to that paid
in 2003, approximately $41-$42 million ($2.88 per share). This amount is not
currently expected to require UI to borrow additional funds in 2004, primarily
because UI had about $24 million of cash on hand at the end of 2003. Since UI's
earnings range estimate for 2004 is expected to be only slightly less than the
external dividend amount, UI's equity ratio is expected to be close, at the end
of 2004, to the 47% ratio used for ratemaking. This ratio was 47% at year-end
2003. For additional information, see the "Liquidity and Capital Resources"
section of this item.
XCELECOM
Xcelecom is expected to earn $0.05-$0.15 per share in 2004, compared to a loss
of $0.12 per share in 2003, reflecting anticipated improvement in certain of
Xcelecom's markets in 2004. As with other companies in the construction and
systems-integration industries, Xcelecom has experienced contract postponements
and cancellations of projects, a slowdown in spending for technology by its
customers, and increased competition for fewer jobs, resulting in both lower
demand and lower margins. Xcelecom has taken actions to reduce the negative
impact of these items by working to reduce operating and overhead related costs.
Generally, the economic activity of the non-residential construction markets in
- 61 -
which Xcelecom participates lags the general economy by six to eighteen months,
both in economic downturns and recoveries. Activity levels in Xcelecom
operations in the southeast and mid-Atlantic states are improving, but Xcelecom
continues to observe depressed levels of activity in the northeast, and
increased competition for less work. Xcelecom's backlog of contractually
obligated work to be completed at the end of December 2003 was $147 million,
compared to a December 2002 backlog of $108 million, an increase of 36%. This
backlog is expected to have some positive effect on results for 2004, even
though, due to increased competition, the overall expected gross margin related
to the backlog at the end of 2003 is slightly lower, in percentage terms, than
the expected gross margin percentage carried in the year end 2002 backlog
balance.
Xcelecom is expected to generate enough cash from operations in 2004 to fund its
operating activity, pay for capital expenditures, and fund some of its
contractual obligations, but is not expected to pay dividends to UIL Holdings.
Certain other contractual obligations, related to acquisitions made by Xcelecom
in previous years, are paid for by UIL Holdings. Xcelecom maintains a revolving
credit facility that may be utilized, among other things, to meet short-term
liquidity needs in the event cash generated by operating activities is
insufficient. UIL Holdings may also make infusions of capital to enhance
Xcelecom's liquidity.
MINORITY INTEREST INVESTMENT & OTHER
UNITED BRIDGEPORT ENERGY, INC.
The earnings estimate for UBE for 2004 is a loss of $0.05-$0.15 per share,
compared to a loss of $0.15 per share in 2003. The expected improvement relates
to the 2004 restructuring of UIL Holdings' intercompany loan to UBE to 100%
equity. The improvements recognized at UBE will be offset by reduced
intercompany interest income at UIL Corporate; thus, this restructuring will
have no effect on UIL Holdings' consolidated results. Results at UBE continue to
be hampered by high natural gas prices, keeping both margins and sales levels
low. The 2004 estimate also reflects low installed capability (ICAP) revenues,
and the absence of any major overhaul expenses. Although natural gas prices have
remained at elevated levels in recent years, DOE Annual Energy Outlook
projections show improving conditions in the future. Based on this information,
UBE expects its $82.1 million investment in Bridgeport Energy to be fully
recoverable, but will continue to monitor the investment. UBE is expected to be
cash neutral in 2004.
UNITED CAPITAL INVESTMENTS, INC.
UCI is expected to breakeven in 2004, compared to a loss of $0.05 per share in
2003. Part of the expected improvement relates to the expectation of a minor
amount of income from the Cross-Sound investment which will offset
administrative costs. Cross-Sound continues to operate under federal emergency
orders and is producing some income for UIL Holdings based on a LIPA approved
interim operating agreement. UCI's $33 million share of the Cross-Sound cable
project would be negatively impacted if the Cross-Sound cable does not achieve
commercial operation. Refer to the "Major Influences on Financial Condition -
United Capital Investments, Inc." section of this item for additional
information regarding the Cross-Sound cable permit issues. Income from UCI's
other passive investments is not expected at this time. UCI, including
Cross-Sound, is expected to be cash neutral in 2004.
UIL CORPORATE
UIL Corporate will report unallocated corporate administrative costs and
unallocated interest charges. UIL Corporate is expected to lose $0.25-$0.35 per
share in 2004, compared to a loss of $0.32 per share in 2003. Administrative
costs are expected to be similar in 2004 as in 2003. Interest charges are
expected to decrease in the second half of 2004 when UIL Holdings expects to pay
down a portion of its short-term borrowings with the proceeds from the APS sale,
which is currently planned in the second quarter of 2004.
UIL Corporate has, and will continue to have, negative cash flow from operating
activities. UIL Corporate is entirely dependent on dividends from its
subsidiaries and from external borrowings to provide the cash necessary to
service debt, to pay administrative costs, to meet other contractual obligations
not funded by UIL Holdings' subsidiaries, and to pay cash dividends to UIL
Holdings' shareholders. In 2004, UI is expected to dividend to UIL Holdings the
- 62 -
amount necessary to pay a cash dividend to UIL Holdings' shareholders equal to
that paid in 2003, approximately $41-$42 million ($2.88 per share). This amount
is not enough to cover UIL Corporate's other expenses. The remaining funding
requirements for UIL Corporate are expected to come from external borrowings,
under UIL Holdings' short-term revolving credit agreement and from the proceeds
of the sale of APS. See the "Liquidity and Capital Resources" section of this
Item for more information, including UIL Holdings' debt retirement schedule.
Based on current cash projections for 2004, including the net proceeds from the
pending sale of APS of $65-$70 million, UIL Holdings expects that, at its
quarterly reviews of the dividend, maintenance of the annual dividend of $2.88
per share will be justified, absent adverse events that materially affect
projected results.
EARNINGS FROM DISCONTINUED OPERATIONS
UIL Holdings expects the sale of APS to close in the second quarter of 2004,
subject to the receipt of regulatory approvals. Discontinued operations,
including the gain on the sale, are expected to contribute $3.00-$3.10 per share
in 2004. Exclusive of the proceeds from the pending sale of APS and the sale of
CCI, Discontinued Operations are expected to be cash neutral in 2004. The sale
of APS is expected to produce pre-tax proceeds, net of sale transaction costs,
of $95-$100 million for UIL Holdings. The pre-tax gain from the sale of APS is
expected to be $70-$75 million, and will be treated as a capital gain for income
tax purposes. Capital losses, if any, incurred by UIL Holdings either in 2004 or
the following three years could be utilized as an offset to the APS capital
gain.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK.
UIL Holdings and UI's primary market risk is the interest rate risk that occurs
in the refinancing of fixed rate debt at maturity and in the remarketing of
multi-annual tax-exempt bonds. The weighted average remaining fixed rate period
of outstanding long-term debt obligations of UIL Holdings and UI is 4.2 years at
an average interest rate of 4.0%. Given the term of the fixed rate debt, UIL
Holdings believes that it has no material quantitative or qualitative exposure
to market risk. In addition, historically, UI has been able to include its
interest costs in revenue requirements for recovery through rates.
UIL Holdings and Xcelecom have short-term revolving credit agreements that
permit borrowings for fixed periods of time at fixed interest rates determined
by the London Interbank Offered Rate (LIBOR), and also borrowings at fluctuating
interest rates determined by the prime lending market. Changes in LIBOR or the
prime lending market will have an impact on interest expense, but due to the
relatively low level of short-term borrowings under these credit facilities, the
impact of changes in short-term interest rates is not expected to be material.
Market risk also represents the risks of changes in the value of a financial
instrument, derivative or non-derivative, caused by fluctuation in interest
rates, and equity prices. UIL Holdings does not have any derivative instruments
or any material investments in financial instruments at this time.
- 63 -
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
UIL HOLDINGS CORPORATION
CONSOLIDATED STATEMENT OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(THOUSANDS EXCEPT PER SHARE AMOUNTS)
2003 2002 2001
---- ---- ----
OPERATING REVENUES (NOTE F)
Utility $ 669,620 $ 727,533 $ 714,818
Non-utility businesses 294,057 310,063 312,642
---------- ----------- -----------
Total Operating Revenues 963,677 1,037,596 1,027,460
---------- ----------- -----------
OPERATING EXPENSES
Operation
Fuel and energy (Note F) 272,673 269,195 271,907
Operation and maintenance 478,720 505,162 473,080
Depreciation and amortization (Note F) 82,239 92,567 93,306
Taxes - other than income taxes (Note F) 41,088 45,970 44,573
---------- ----------- -----------
Total Operating Expenses 874,720 912,894 882,866
---------- ----------- -----------
OPERATING INCOME FROM CONTINUING OPERATIONS 88,957 124,702 144,594
---------- ----------- -----------
OTHER INCOME AND (DEDUCTIONS), NET (NOTE F) 3,290 (2,327) 6,700
---------- ----------- -----------
INCOME FROM CONTINUING OPERATIONS BEFORE INTEREST CHARGES AND INCOME TAXES 92,247 122,375 151,294
---------- ----------- -----------
INTEREST CHARGES, NET
Interest on long-term debt 25,590 40,582 42,848
Interest on Seabrook Lease Obligation Bonds owned by UI - (5,122) (6,319)
Other interest, net (Note F) 2,403 1,717 4,831
---------- ----------- -----------
27,993 37,177 41,360
Amortization of debt expense and redemption premiums 1,267 1,969 2,156
---------- ----------- -----------
Interest Charges, net 29,260 39,146 43,516
---------- ----------- -----------
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES 62,987 83,229 107,778
---------- ----------- -----------
INCOME TAXES (NOTE E) 33,450 37,478 48,215
---------- ----------- -----------
NET INCOME FROM CONTINUING OPERATIONS 29,537 45,751 59,563
DISCONTINUED OPERATIONS, NET OF TAX (NOTE O) (6,251) (1,804) (200)
---------- ----------- -----------
NET INCOME AND INCOME APPLICABLE TO COMMON STOCK $ 23,286 $ 43,947 $ 59,363
========== =========== ===========
AVERAGE NUMBER OF COMMON SHARES OUTSTANDING - BASIC 14,291 14,239 14,097
AVERAGE NUMBER OF COMMON SHARES OUTSTANDING - DILUTED 14,304 14,282 14,159
EARNINGS PER SHARE OF COMMON STOCK - BASIC:
CONTINUING OPERATIONS $ 2.07 $ 3.22 $ 4.22
DISCONTINUED OPERATIONS $(0.44) $(0.13) $(0.01)
---------- ----------- -----------
NET EARNINGS $ 1.63 $ 3.09 $ 4.21
EARNINGS PER SHARE OF COMMON STOCK - DILUTED:
CONTINUING OPERATIONS $ 2.07 $ 3.21 $ 4.20
DISCONTINUED OPERATIONS $(0.44) $(0.13) $(0.01)
---------- ----------- -----------
NET EARNINGS $ 1.63 $ 3.08 $ 4.19
CASH DIVIDENDS DECLARED PER SHARE OF COMMON STOCK $ 2.88 $ 2.88 $ 2.88
- ----------------------------------------------------------------------------------------------------------------
UIL HOLDINGS CORPORATION
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
FOR THE YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(THOUSANDS OF DOLLARS)
2003 2002 2001
---- ---- ----
NET INCOME $ 23,286 $ 43,947 $ 59,363
OTHER COMPREHENSIVE INCOME (LOSS), NET OF TAX:
Unrealized gain (loss) on marketable securities
(net of tax benefit (expense) of $344) (519) 519
Minimum pension liability (net of tax deferred
benefit (expense) of $(18,802) and $17,703) 26,198 (26,694) -
---------- ----------- -----------
OTHER COMPREHENSIVE INCOME (LOSS) 26,198 (27,213) 519
---------- ----------- -----------
COMPREHENSIVE INCOME (NOTE A) $ 49,484 $ 16,734 $ 59,882
========== =========== ===========
The accompanying Notes to the Consolidated Financial Statements are an
integral part of the financial statements.
- 64 -
UIL HOLDINGS CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(THOUSANDS OF DOLLARS)
2003 2002 2001
---- ---- ----
CASH FLOWS FROM OPERATING ACTIVITIES
Income from continuing operations $ 29,537 $ 45,751 $ 59,563
------------ ------------ ------------
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization 59,472 65,972 63,851
Purchase power contract amortization (Note F) 24,034 24,014 26,114
Purchase Power above market fuel expense credit (Note F) (24,034) (24,014) (26,114)
Deferred income taxes 17,715 67,716 (18,053)
Future tax benefits (Note E) 36,976 (45,192) -
Deferred investment tax credits - net (387) (564) (658)
Amortization of nuclear fuel - 4,640 5,497
Allowance for funds used during construction (2,491) (2,220) (1,913)
Changes in:
Accounts receivable - net 8,529 14,307 (23,336)
Materials and supplies (425) 100 (2,722)
Prepayments 521 998 (187)
Accounts payable (7,492) 1,878 (13,335)
Interest accrued (1,098) 3,139 2,591
Taxes accrued (14,100) 1,767 1,755
Prepaid Pension (45,000) - -
Other assets and liabilities 6,781 (18,916) 18,360
------------ ------------ ------------
Total Adjustments 59,001 93,625 31,850
------------ ------------ ------------
Cash provided by Continuing Operations 88,538 139,376 91,413
Cash provided by (used in) Discontinued Operations (403) 8,249 10,533
----------- ------------ ------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 88,135 147,625 101,946
----------- ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisition of businesses, net of cash acquired - (7,691) (15,532)
Non-utility passive investments - (5,126) (3,773)
Net proceeds from sale of generation facilities - 79,214 32,314
Loan to Cross-Sound Cable Project (23,986) - -
Deferred payments in prior acquisitions (2,757) (4,967) (1,475)
Plant expenditures, including nuclear fuel (52,309) (52,909) (43,615)
Purchase / sale of pollution control refunding revenue bonds 25,000 (25,000) -
Redemption of investment in Seabrook Lease Obligation Bonds - 80,794 1,928
Investment (retirement) in debt securities, net - 5,043 (3,090)
Changes in restricted cash 4,595 (2,348) (365)
------------ ------------ ------------
Cash provided by (used in) Continuing Operations (49,457) 67,010 (33,608)
Cash (used in) Discontinued Operations (119) (10,824) (11,218)
------------ ------------ ------------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES (49,576) 56,186 (44,826)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES
Issuances of:
Common stock 2,099 6,132 2,536
Long-term debt 98,711 125,000 75,000
Notes payable 14,411 7,195 (78,741)
Long-term debt securities redeemed and retired (100,000) (100,000) (665)
Termination of Seabrook Lease Obligation - (208,900) -
Expenses of issuances (2,765) (526) (825)
Lease obligations (473) (509) (405)
Payment of common stock dividend (41,137) (40,917) (40,576)
------------ ------------ ------------
Cash (used in) Continuing Operation (29,154) (212,525) (43,676)
Cash provided by Discontinued Operations 299 2,575 685
------------ ------------ ------------
NET CASH (USED IN) FINANCING ACTIVITIES (28,855) (209,950) (42,991)
------------ ------------ ------------
CASH AND TEMPORARY CASH INVESTMENTS:
NET CHANGE FOR THE PERIOD 9,704 (6,139) 14,129
BALANCE AT BEGINNING OF PERIOD 18,910 25,049 10,920
------------ ------------ ------------
BALANCE AT END OF PERIOD $ 28,614 $ 18,910 $ 25,049
============ ============ ============
CASH PAID DURING THE PERIOD FOR:
Interest (net of amount capitalized) $ 28,079 $ 36,782 $ 37,980
============ ============ ============
Income taxes $ 3,000 $ 12,800 $ 64,300
============ ============ ============
The accompanying Notes to the Consolidated
Financial Statements are an integral part of the financial statements.
- 65 -
UIL HOLDINGS CORPORATION
CONSOLIDATED BALANCE SHEET
DECEMBER 31, 2003 AND 2002
ASSETS
(Thousands of Dollars)
2003 2002
---- ----
Current Assets
Unrestricted cash and temporary cash investments $ 28,614 $ 18,910
Restricted cash 1,384 5,979
Utility accounts receivable less allowance of $1,654 and $1,654 54,780 58,171
Other accounts receivable less allowance of $1,648 and $1,530 80,532 85,683
Unbilled revenues 32,246 38,403
Materials and supplies, at average cost 4,458 4,033
Prepayments 8,669 1,973
Current assets of discontinued operations held for sale 102,331 97,912
Other 1,323 1,095
----------------- ----------------
Total Current Assets 314,337 312,159
----------------- ----------------
Other Property and Investments
Investment in United Bridgeport Energy facility 82,090 83,677
Investment in debt securities - 25,000
Other 20,283 13,450
----------------- ----------------
Total Other Property and Investments 102,373 122,127
----------------- ----------------
Property, Plant and Equipment at original cost
In service 784,409 727,867
Less, accumulated depreciation 272,082 256,197
----------------- ----------------
512,327 471,670
Construction work in progress 36,467 49,411
----------------- ----------------
Net Property, Plant and Equipment 548,794 521,081
----------------- ----------------
Regulatory Assets (FUTURE AMOUNTS DUE FROM CUSTOMERS
THROUGH THE RATEMAKING PROCESS)
Nuclear plant investments-above market 436,505 456,950
Income taxes due principally to book-tax differences 98,116 69,115
Long-term purchase power contracts-above market 88,024 100,379
Connecticut Yankee 51,579 33,821
Unamortized redemption costs 19,325 18,245
Other 43,259 40,804
----------------- ----------------
Total Regulatory Assets 736,808 719,314
----------------- ----------------
Deferred Charges
Goodwill 68,554 66,957
Unamortized debt issuance expenses 6,670 4,509
Prepaid Pension 43,927 -
Long-term receivable - Cross-Sound Cable Project 23,986 -
Other long-term receivable 13,575 10,766
Other 2,120 11,753
----------------- ----------------
Total Deferred Charges 158,832 93,985
----------------- ----------------
Long-term assets of discontinued operations held for sale 17,930 25,093
----------------- ----------------
Total Assets $ 1,879,074 $ 1,793,759
================= ================
The accompanying Notes to the Consolidated Financial Statements are an
integral part of the financial statements.
- 66 -
UIL HOLDINGS CORPORATION
CONSOLIDATED BALANCE SHEET
DECEMBER 31, 2003 AND 2002
LIABILITIES AND CAPITALIZATION
(Thousands of Dollars)
2003 2002
---- ----
Current Liabilities
Notes payable $ 65,161 $ 43,055
Current portion of long-term debt - 100,000
Accounts payable 36,729 44,007
Dividends payable 10,299 10,275
Accrued liabilities 62,639 62,524
Deferred revenues - non-utility businesses 14,957 25,553
Taxes accrued 1,214 8,096
Interest accrued 6,358 7,457
Obligations under capital leases 14,815 473
Current liabilities of discontinued operations held for sale 92,901 95,336
--------------- ---------------
Total Current Liabilities 305,073 396,776
--------------- ---------------
Noncurrent Liabilities
Purchase power contract obligation 88,024 100,379
Pension accrued 8,166 44,857
Connecticut Yankee contract obligation 47,213 28,442
Long-term notes payable 10,478 14,408
Obligations under capital leases - 14,815
Other 17,574 13,596
--------------- ---------------
Total Noncurrent Liabilities 171,455 216,497
--------------- ---------------
Deferred Income Taxes, Net (FUTURE TAX LIABILITIES OWED
TO TAXING AUTHORITIES) 333,239 225,928
--------------- ---------------
Regulatory Liabilities (FUTURE AMOUNTS OWED TO CUSTOMERS
THROUGH THE RATEMAKING PROCESS)
Accumulated deferred investment tax credits 12,813 13,201
Deferred gains on sale of property 33,679 33,130
Customer refund 5 6,820
Asset removal cost 14,071 12,948
Other 19,584 10,615
--------------- ---------------
Total Regulatory Liabilities 80,152 76,714
--------------- ---------------
Long-term liabilities of discontinued operations held for sale 921 60
--------------- ---------------
Commitments and Contingencies (Note L)
Capitalization (Note B)
Net long-term debt 495,460 395,432
Common Stock Equity
Common stock (no par value, 14,314,599 and 14,272,080
shares outstanding at December 31, 2003 and 2002) 297,321 296,501
Paid-in capital 4,413 3,749
Capital stock expense (2,170) (2,170)
Unearned employee stock ownership plan equity (5,461) (6,411)
Unearned compensation (335) -
Accumulated other comprehensive loss (496) (26,694)
Retained earnings 199,502 217,377
--------------- ---------------
Net Common Stock Equity 492,774 482,352
Total Capitalization 988,234 877,784
--------------- ---------------
Total Liabilities and Capitalization $ 1,879,074 $ 1,793,759
=============== ===============
The accompanying Notes to the Consolidated Financial Statements are an
integral part of the financial statements.
- 67 -
UIL HOLDINGS CORPORATION
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
DECEMBER 31, 2003, 2002 AND 2001
(THOUSANDS OF DOLLARS)
ACCUMULATED
CAPITAL UNEARNED OTHER
COMMON STOCK PAID-IN STOCK ESOP UNEARNED COMPREHENSIVE RETAINED
SHARES (A) AMOUNT CAPITAL EXPENSE EQUITY COMPENSATION INCOME (LOSS) EARNINGS TOTAL
- ------------------------------------------------------------------------------------------------------------------------------------
Balance as of December 31, 2000 14,076,697 $291,342 $2,483 ($2,170) ($8,310) $ - $ - $195,700 $479,045
- ------------------------------------------------------------------------------------------------------------------------------------
Net income for 2001 59,363 59,363
Cash dividends on common stock
- $2.88 per share (40,604) (40,604)
Issuance of 11,144 shares common
stock - no par value 11,144 446 40 486
Unrealized gain on investment
(net of tax expense of $344) 519 519
Allocation of benefits - ESOP 27,940 237 949 1,186
- ------------------------------------------------------------------------------------------------------------------------------------
Balance as of December 31, 2001 14,115,781 291,788 2,760 (2,170) (7,361) - 519 214,459 499,995
- ------------------------------------------------------------------------------------------------------------------------------------
Net income for 2002 43,947 43,947
Cash dividends on common stock
- $2.88 per share (41,029) (41,029)
Issuance of 128,359 shares common
stock - no par value 128,359 4,713 764 5,477
Unrealized loss on investment
(net of tax benefit of $344) (519) (519)
Minimum pension liability adjustment
(net of deferred tax benefit of $17,703) (26,694) (26,694)
Allocation of benefits - ESOP 27,940 225 950 1,175
- ------------------------------------------------------------------------------------------------------------------------------------
Balance as of December 31, 2002 14,272,080 296,501 3,749 (2,170) (6,411) - (26,694) 217,377 482,352
- ------------------------------------------------------------------------------------------------------------------------------------
Net income for 2003 23,286 23,286
Cash dividends on common stock
- $2.88 per share (41,161) (41,161)
Issuance of 14,579 shares common
stock - no par value 14,579 820 24 844
Stock compensation earned 611 611
Unearned stock compensation (335) (335)
Minimum pension liability adjustment
(net of deferred tax expense of $18,802) 26,198 26,198
Allocation of benefits - ESOP 27,940 29 950 979
- ------------------------------------------------------------------------------------------------------------------------------------
Balance as of December 31, 2003 14,314,599 $297,321 $4,413 ($2,170) ($5,461) ($335) ($496) $199,502 $492,774
- ------------------------------------------------------------------------------------------------------------------------------------
(a) There were 30,000,000 shares authorized in 2003, 2002 and 2001.
The accompanying Notes to Consolidated Financial Statements are an integral
part of the financial statements.
- 68 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(A) STATEMENT OF ACCOUNTING POLICIES
UIL Holdings Corporation (UIL Holdings) was formed in July 2000 and is an exempt
public utility holding company under the provisions of the Public Utility
Holding Company Act of 1935. Through its various subsidiaries, UIL Holdings
operates in two principal lines of business: utility and non-utility. The
utility business consists of the electric transmission and distribution
operations of The United Illuminating Company (UI), while the non-utility
businesses consist of the operations of American Payment Systems, Inc. (APS) and
Xcelecom, Inc. (Xcelecom), and passive investments in United Capital
Investments, Inc. (UCI) and United Bridgeport Energy, Inc. (UBE). UIL Holdings
is headquartered in New Haven, Connecticut, where its senior management
maintains offices and is responsible for overall planning, operating and
financial functions.
ACCOUNTING RECORDS
The accounting records for UI are maintained in accordance with the uniform
systems of accounts prescribed by the Federal Energy Regulatory Commission
(FERC) and the Connecticut Department of Public Utility Control (DPUC).
The accounting records of UIL Holdings' non-utility subsidiaries are maintained
in conformity with accounting principles generally accepted in the United States
of America.
BASIS OF PRESENTATION
The Consolidated Financial Statements include the accounts of UIL Holdings and
its subsidiaries. Intercompany accounts and transactions have been eliminated in
consolidation.
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to use
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Certain amounts previously reported have been reclassified to conform to the
current year presentation.
REGULATORY ACCOUNTING
Generally accepted accounting principles for regulated entities in the United
States of America allow UI to give accounting recognition to the actions of
regulatory authorities in accordance with the provisions of Statement of
Financial Accounting Standards (SFAS) No. 71, "Accounting for the Effects of
Certain Types of Regulation." In accordance with SFAS No. 71, UI has deferred
recognition of costs (a regulatory asset) or has recognized obligations (a
regulatory liability) if it is probable that such costs will be recovered or
obligations relieved in the future through the ratemaking process. The
Restructuring Act enacted in Connecticut in 1998 provides for UI to recover
previously deferred costs through ongoing assessments to be included in future
regulated service rates. See Note (C), "Regulatory Proceedings" for a discussion
of the recovery of UI's stranded costs associated with the generation portion of
its assets and operations, as well as a discussion of the regulatory decisions
that provide for such recovery. In addition to the Regulatory Assets and
Liabilities separately identified on the Consolidated Balance Sheet, there are
other regulatory assets and liabilities such as certain deferred tax
liabilities. UI also has obligations under long-term power contracts, the
recovery of which is subject to regulation. If UI, or a portion of its assets or
operations, were to cease meeting the criteria for application of these
accounting rules, accounting standards for businesses in general would become
applicable and immediate recognition of any previously deferred costs, or a
portion of deferred costs, would be required in the year in which the criteria
are no longer met, if such deferred costs are not recoverable in the
- 69 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
portion of the business that continues to meet the criteria for application of
SFAS No. 71. UI expects to continue to meet the criteria for application of SFAS
No. 71 for the foreseeable future. If a change in accounting were to occur, it
could have a material adverse effect on UI's earnings and retained earnings in
that year and could have a material adverse effect on UI's ongoing financial
condition as well.
PROPERTY, PLANT AND EQUIPMENT
The cost of additions to property, plant and equipment and the cost of renewals
and betterments are capitalized. Cost consists of labor, materials, services and
certain indirect construction costs, including an allowance for funds used
during construction in the case of utility plant. The cost of current repairs
and minor replacements is charged to appropriate operating expense accounts. The
original cost of utility property, plant and equipment retired or otherwise
disposed of and the cost of removal, less salvage, are charged to the
accumulated provision for depreciation. Upon disposal or retirement of
depreciable non-utility businesses' property, the appropriate plant accounts and
accumulated depreciation are reduced by the related costs. Any resulting gain or
loss is recognized in the income statement.
UIL Holdings' property, plant and equipment as of December 31, 2003 and 2002 was
comprised as follows:
2003 2002
---- ----
(In Thousands)
Utility:
Transmission plant $141,870 $151,674
Distribution plant 497,233 460,590
General plant 59,662 52,605
Software 51,147 30,271
Other plant 1,847 1,841
------------ -------------
Subtotal 751,759 696,981
Non-utility business units 32,650 30,886
------------ -------------
$784,409 $727,867
============ =============
DEPRECIATION
Provisions for depreciation on utility plant for book purposes are computed on a
straight-line basis, using estimated service lives determined by independent
engineers and subject to review and approval by the DPUC. One-half year's
depreciation is taken in the year of addition and disposition of utility plant,
except in the case of major operating units on which depreciation commences in
the month they are placed in service and ceases in the month they are removed
from service. The aggregate annual provisions for depreciation for the years
2003, 2002 and 2001 were approximately 4.5%, 3.8%, and 3.1%, respectively, of
the original cost of depreciable property.
Depreciation on non-utility businesses' plant for book purposes is recorded on a
straight-line basis over the estimated useful lives of the assets, which range
from three to seven years.
Depreciation of assets classified as "held for sale" ceases on the date the
assets meet the criteria to be classified as such (see Discontinued Operations
section of this footnote, and Note (O)).
INCOME TAXES
In accordance with SFAS No. 109, "Accounting for Income Taxes," UIL Holdings has
provided deferred taxes for all temporary book-tax differences using the
liability method. The liability method requires that deferred tax balances be
adjusted to reflect enacted future tax rates that are anticipated to be in
effect when the temporary differences reverse. In accordance with generally
- 70 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
accepted accounting principles for regulated industries, UI has established a
regulatory asset for the net revenue requirements to be recovered from customers
for the related future tax expense associated with certain of these temporary
differences.
For ratemaking purposes, UI normalizes all investment tax credits (ITC) related
to recoverable plant investments except for the ITC related to Seabrook Unit 1,
which was taken into income in accordance with provisions of a 1990 DPUC retail
rate decision.
REVENUES
Regulated utility revenues for UI are based on authorized rates applied to each
customer's use of electricity. These retail rates are approved by the DPUC and
can be changed only through formal proceedings. Transmission revenues are
federally regulated by the FERC. At the end of each accounting period, the
estimated amount of revenues for services rendered but not billed is accrued.
Revenues from construction contracts entered into by Xcelecom are recognized on
a percentage-of-completion method. Under this method, revenue is recognized
based on the percentage of costs incurred and accrued to date to the estimated
total cost to complete these contracts. Provisions for estimated losses on
uncompleted contracts are made in the period in which such losses are
determined.
Revenues generated by other business units are recognized when earned, generally
when the earnings process is complete and an exchange has taken place.
CASH AND TEMPORARY CASH INVESTMENTS
For cash flow purposes, UIL Holdings considers all highly liquid debt
instruments with a maturity of three months or less at the date of purchase to
be cash and temporary cash investments.
RESTRICTED CASH
Prior to the sale of its 17.5% ownership interest in Seabrook Station, UI was
required to maintain an operating deposit with the project disbursing agent for
operating expenses. With the sale, these funds were placed in escrow to cover
operating expenses accrued at the time of sale. Such funds are restricted for
use and totaled $1.1 million and $5.6 million at December 31, 2003 and 2002,
respectively.
Xcelecom maintained restricted cash, related to future debt payments, of $0.3
million and $0.4 million at December 31, 2003 and 2002, respectively.
INVESTMENTS
UI's investment in the Connecticut Yankee Atomic Power Company, a retired
nuclear generating company in which UI has a 9.5% stock interest, is accounted
for on an equity basis. This net investment amounted to $4.4 million and $5.4
million at December 31, 2003 and 2002, respectively, and is included on the
Consolidated Balance Sheet as a regulatory asset. The Connecticut Yankee nuclear
unit was retired in 1996 and is currently being decommissioned. See Note (J),
"Commitments and Contingencies - Other Commitments and Contingencies -
Connecticut Yankee."
UIL Holdings (through UCI and UBE) accounts for certain minority interest
investments, such as Cross-Sound Cable Company, LLC, Bridgeport Energy, LLC
(BE), Zero Stage and Ironbridge, using the equity accounting method. The results
of operations of these investments are reflected in Other Income and
(Deductions) on the Consolidated Statement of Income.
- 71 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
On December 2, 2002, UI purchased the $25 million principal amount of Pollution
Control Revenue Refunding Bonds, 1999 Series, due December 1, 2029, issued by
the Business Finance Authority of the State of New Hampshire. See Note (B),
"Capitalization" for further discussion.
MARKETABLE SECURITIES
UIL Holdings accounts for its investment securities in accordance with SFAS No.
115, "Accounting for Certain Investments in Debt and Equity Securities." This
statement requires the classification of debt and equity securities into one of
three categories: held to maturity, available for sale, or trading. The
statement also provides guidelines on accounting for debt and equity securities
in accordance with their classifications.
During 2001, Anthem Insurance Companies, Inc. (Anthem) completed a conversion
from a mutual company, owned by policyholders, to a publicly traded company,
owned by shareholders. As a result of this conversion, UIL Holdings received
62,435 shares of Anthem common stock, a portion of which was allocated to
employees based on the employees' share of the premiums paid to Anthem during
the period used to determine the number of shares issued to UIL Holdings. At
December 31, 2001, the closing price for Anthem common stock was $49.50 per
share. UIL Holdings recorded an investment and realized a gain of
approximately $3.1 million, which represented the value of the shares at
December 31, 2001. In January 2002, UIL Holdings sold the 62,435 shares of
Anthem common stock at a price of $50.66 and recorded a realized gain of
approximately $72,000.
On August 9, 2001, APS entered into a secured convertible note agreement with Q
Comm International, Inc. (Q Comm), in the amount of $0.2 million. As of December
31, 2001, APS recorded an investment and unrealized gain of approximately $0.9
million in comprehensive income, which represented the difference between the
market price of the shares as of December 31, 2001 and the conversion price. The
secured convertible note was repaid in May 2002.
GOODWILL AND OTHER INTANGIBLE ASSETS
Effective January 1, 2002, UIL Holdings adopted SFAS No. 142, "Goodwill and
Other Intangible Assets." This statement modifies the accounting and reporting
of goodwill and intangible assets. Under this standard, UIL Holdings is no
longer amortizing its existing goodwill. In addition, UIL Holdings is required
to measure goodwill for impairment annually or more frequently if circumstances
indicate a possible impairment. SFAS No. 142 requires goodwill to be allocated
to reporting units (Xcelecom and APS) and measured for impairment under a
two-step test.
UIL Holdings has completed the necessary tests to determine if impairment
existed under the prescribed standard and has determined that there was no
goodwill impairment related to Xcelecom. A goodwill impairment charge of $7.2
million was recorded during the fourth quarter of 2003 to bring the carrying
value of goodwill associated with APS' telephony assets in line with estimated
fair value. This impairment charge is included in the results of discontinued
operations.
Under SFAS No. 142, UIL Holdings has determined the useful life of other
intangible assets and is amortizing the value over the useful life. Other
intangible assets are required to be tested for impairment in a manner similar
to goodwill. In 2003 and 2002, other intangible assets were not impaired.
For further information regarding this standard, see Note (N), "Goodwill and
Other Intangible Assets," to the consolidated financial statements.
- 72 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
RESEARCH AND DEVELOPMENT COSTS
Research and development costs, including environmental studies, are charged to
expense as incurred.
PENSION AND OTHER POSTRETIREMENT BENEFITS
UIL Holdings accounts for pension plan costs in accordance with the provisions
of SFAS No. 87, "Employers' Accounting for Pensions."
UIL Holdings accounts for other postretirement benefits, consisting principally
of health and life insurance, under the provisions of SFAS No. 106, "Employers'
Accounting for Postretirement Benefits Other Than Pensions."
URANIUM ENRICHMENT OBLIGATION
Under the Energy Policy Act of 1992 (Energy Act), UI was assessed for its
proportionate share of the costs of the decontamination and decommissioning of
uranium enrichment facilities operated by the Department of Energy (DOE). The
Energy Act imposes an overall cap of $2.25 billion on the obligation assessed to
the nuclear utility industry and limits the annual assessment to $150 million
each year over a 15-year period. UI recovered these assessments in rates as a
component of fuel expense. Accordingly, UIL Holdings recognized the unrecovered
costs as a regulatory asset on its Consolidated Balance Sheet.
As a result of the sale of UI's ownership and leasehold interest in Seabrook
Station on November 1, 2002, the buyer is obligated to pay such decontamination
and decommissioning fund fees, including but not limited to all annual special
invoices issued on and after the closing date by the DOE, as contemplated by its
regulation at 10 C.F.R. part 766 implementing sections 1801, 1802, and 1803 of
the Atomic Energy Act.
NUCLEAR DECOMMISSIONING TRUSTS
External trust funds were maintained to fund the estimated future
decommissioning costs of the nuclear generating units in which UI had an
ownership interest. These costs were accrued as a charge to depreciation expense
over the estimated service lives of the units and were recovered in rates on a
current basis. UI paid $2.2 million and $3.3 million into the decommissioning
trust fund for Seabrook Unit 1 in 2002 and 2001, respectively.
The sale of UI's interest in Seabrook Station was consummated on November 1,
2002. UI's share of the Seabrook decommissioning trust funds was transferred to
the buyer, along with UI's decommissioning and decommissioning fund obligation,
at the closing of the sale. UI made payments totaling $18.7 million to
extinguish its decommissioning obligations in 2002.
- 73 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
IMPAIRMENT OF LONG-LIVED ASSETS
SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets,"
requires the recognition of impairment losses on long-lived assets when the book
value of an asset exceeds the sum of the expected future undiscounted cash flows
that result from the use of the asset and its eventual disposition. If an
impairment arises, then the amount of any impairment is measured based on
discounted cash flows. This standard also requires that rate-regulated
companies recognize an impairment loss when a regulator excludes all or part of
a cost from rates, even if the regulator allows the company to earn a return on
the remaining costs allowed. Under this standard, the probability of recovery
and the recognition of regulatory assets under the criteria of SFAS No. 71 must
be assessed on an ongoing basis. At December 31, 2003 and December 31, 2002, UI
did not have any assets that were impaired under this standard.
Based on natural gas and electricity forward price projections derived from the
most recent Department of Energy Annual Outlook report, no conditions were noted
to give rise to an impairment of UBE's $82.1 million investment in BE.
As of December 31, 2003, UCI had $33 million invested in Cross-Sound. There was
no impairment related to this investment as of December 31, 2003 or 2002 as
there is a twenty-year contract in place for the entire capacity of the cable
once commercial operation is achieved. Cash flow projections based on this
contract exceed the carrying value of the investment. These projections are
based on the assumption that all permit issues regarding the Cross-Sound cable
will be resolved and the cable will achieve commercial operation.
A pre-tax impairment loss of $1.0 million was recorded during the fourth quarter
of 2003 to bring the carrying value of APS' telephony assets in line with their
estimated fair value. In accordance with the provisions of SFAS No. 144, this
impairment charge excludes goodwill, which is accounted for under the
requirements of SFAS No. 142 (see "Goodwill and Other Intangible Assets" section
of Note (A) and Note (N)). This impairment loss is included in the results of
discontinued operations.
DISCONTINUED OPERATIONS
SFAS No. 144 also addresses the accounting for and disclosure of long-lived
assets to be disposed of by sale. Under SFAS No. 144, when a long-lived asset or
group of assets (disposal group) meets certain criteria set forth in the
statement, including a commitment by the company to a plan to sell the
long-lived asset (disposal group) within one year:
o the long lived-asset (disposal group) will be measured at the lower of
its carrying value or fair value less costs to sell, and will be
classified as held for sale on the Consolidated Balance Sheet;
o the long-lived asset (disposal group) shall not be depreciated
(amortized) while it is classified as held for sale; and
o the related operations of the long-lived asset (disposal group) will be
reported as discontinued operations in the consolidated statement of
operations, with all comparable periods restated.
At December 31, 2003, APS met the criteria set forth in SFAS No. 144 to be
classified as held for sale (see Note (O)).
- 74 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
EARNINGS PER SHARE
The following table presents a reconciliation of the basic and diluted earnings
per share calculations for the years 2003, 2002 and 2001:
INCOME APPLICABLE TO AVERAGE NUMBER OF EARNINGS
COMMON STOCK SHARES OUTSTANDING PER SHARE
------------ ------------------ ---------
(In Thousands, except per share amounts)
2003
- ----
Basic earnings from continuing operations $29,537 14,291 $2.07
Basic earnings from discontinued operations (6,251) 14,291 (0.44)
------------------------ ---------------------- -------------
Basic earnings 23,286 14,291 1.63
Effect of dilutive stock options (1) - 13 -
------------------------ ---------------------- -------------
Diluted earnings $23,286 14,304 $1.63
======================== ====================== =============
2002
- ----
Basic earnings from continuing operations $45,751 14,239 $3.22
Basic earnings from discontinued operations (1,804) 14,239 (0.13)
------------------------ ---------------------- -------------
Basic earnings 43,947 14,239 3.09
Effect of dilutive stock options (1) - 43 (0.01)
------------------------ ---------------------- -------------
Diluted earnings $43,947 14,282 $3.08
======================== ====================== =============
2001
- ----
Basic earnings from continuing operations $59,563 14,097 $4.22
Basic earnings from discontinued operations (200) 14,097 (0.01)
------------------------ ---------------------- -------------
Basic earnings 59,363 14,097 4.21
Effect of dilutive stock options (1) - 62 (0.02)
------------------------ ---------------------- -------------
Diluted earnings $59,363 14,159 $4.19
======================== ====================== =============
(1) Dilutive stock options only impact the earnings from continuing operations.
STOCK-BASED COMPENSATION
Effective January 1, 2003, UIL Holdings adopted the fair value recognition
provisions, under the prospective method, of SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure," an amendment of SFAS No.
123, "Accounting for Stock-Based Compensation." Under this statement, UIL
Holdings has recorded compensation expense prospectively for stock options
granted after January 1, 2003. There were 310,964 stock options granted during
2003 at an average exercise price of $36.26, and, as a result, compensation
expense was recorded in the determination of net income for the year ended
December 31, 2003. Of the total 310,964 stock options granted during 2003, 3,104
were "reloaded" options, as allowed by the plan. According to SFAS No. 123,
options granted using a reload feature should be accounted for as new options
granted on the reload date at the current market price. No compensation expense
was recorded prior to 2003, as UIL Holdings accounted for employee stock-based
compensation in accordance with Accounting Principles Board (APB) No. 25,
"Accounting for Stock Issued to Employees," as permitted by SFAS No. 123. The
following table illustrates the effect on net income and earnings per share as
if the fair-value-based method had been applied to all outstanding and unvested
awards in each period.
- 75 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
STOCK-BASED COMPENSATION
YEAR ENDED DECEMBER 31,
2003 2002 2001
--------------- ----------------- --------------------
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
Net Income, as reported $23,286 $43,947 $59,363
Add: Stock-based compensation expense included
in reported net income, net of related tax effects 362 - -
Deduct: Total stock-based compensation determined
under fair value based method for all stock option
grants, net of related tax effect (930) (1,764) (631)
--------------- ----------------- --------------------
Pro forma net income $22,718 $42,183 $58,732
--------------- ----------------- --------------------
Earnings per share:
Basic - as reported $1.63 $3.09 $4.21
--------------- ----------------- --------------------
Basic - proforma $1.59 $2.96 $4.17
--------------- ----------------- --------------------
Diluted - as reported $1.63 $3.08 $4.19
--------------- ----------------- --------------------
Diluted - proforma $1.59 $2.95 $4.15
--------------- ----------------- --------------------
The board of directors of UIL Holdings granted 13,200 shares of restricted stock
to directors on March 25, 2003. Such shares were granted pursuant to the
amendment to the 1999 Stock Option Plan that was approved by shareowners at the
UIL Holdings Annual Meeting on May 14, 2003 (details of this amendment are
discussed in Note (B), "Capitalization"). The average market price on the date
of grant was $34.11, resulting in expense of $0.1 million recognized during
2003.
COMPREHENSIVE INCOME
Comprehensive income for 2003 included the reversal of approximately $26.2
million, after-tax, of a minimum pension liability adjustment recorded in 2002.
UIL Holdings was able to reverse this adjustment as the market value of the UI
Pension Plan assets exceeded the accumulated benefit obligation of the plan at
the end of 2003, primarily due to a $45 million contribution made to the pension
plan on December 31, 2003. The remaining $0.5 million other comprehensive loss
was unable to be reversed, as it relates to the non-qualified pension plan which
cannot be funded due to personal tax consequences to its participants.
Comprehensive income in 2002 included a pre-tax loss of $44.4 million (after-tax
$26.7 million) representing the minimum pension liability regarding the UI
pension plans, calculated in accordance with the requirements of SFAS No. 87. In
addition, UIL Holdings reversed an unrealized pre-tax gain of $0.9 million
(after-tax $0.5 million) recorded in 2001 on a convertible note receivable that
was repaid in May 2002.
Comprehensive income for 2001 included an unrealized pre-tax gain of $0.9
million (after-tax $0.5 million) on APS' convertible note receivable (see
"Marketable Securities").
- 76 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NEW ACCOUNTING STANDARDS
The FASB has issued interpretation No. 46 (FIN 46), "Consolidation of Variable
Interest Entities," an interpretation of Accounting Research Bulletin (ARB) 51
which is effective immediately for variable interest entities as defined in ARB
51, or interests therein, established after January 31, 2003. Additionally,
variable interest entities or interests therein established prior to February 1,
2003 will be subject to the provisions of FIN 46 at a future point in time to be
determined by the FASB upon issuance of final guidance. The primary objectives
of FIN 46 are to provide guidance on the identification of entities for which
control is achieved through means other than through voting rights (variable
interest entities or VIEs) and how to determine when and which business
enterprise should consolidate the VIE (the primary beneficiary). UIL Holdings
does not have any VIEs, and therefore the adoption of this standard has not, and
is not expected to, have any impact on UIL Holdings' consolidated financial
position, results of operations or liquidity.
UIL Holdings adopted the provisions of SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of Both Liabilities and Equity" which
became effective as of July 2003. This accounting standard requires accounting
for minority interests in limited-life subsidiaries to be reclassified to
liabilities and measured at settlement value. Many of the characteristics
include financial instruments in the form of shares that are mandatorily
redeemable, share repurchase agreements and required share issuances. The
adoption of this standard has not had any impact on UIL Holdings' consolidated
financial position, results of operations or liquidity, as no such instruments
are currently held by UIL Holdings or its subsidiaries.
The FASB has issued a new staff position FAS 106-1, "Accounting and Disclosure
Requirements Related to the Medicare Prescription Drug, Improvement and
Modernization Act of 2003," which permits a sponsor of a postretirement health
care plan that provides a prescription drug benefit to make a one-time election
to defer accounting for the effects of the Medicare Prescription Drug,
Improvement and Modernization Act of 2003 (the Act). The Act introduces
prescription drug benefits under Medicare (Medicare Part D), as well as a
federal subsidy to sponsors of retiree health care benefit plans that provide a
benefit that is at least actuarially equivalent to Medicare Part D. The Act
introduces a subsidy of 28 percent of an individual beneficiary's annual
prescription drug cost between $250 and $5,000 subject to allowable retiree
Medicare costs. The Act is effective for claims on or after January 15, 2006.
However, UI's Periodic Postretirement benefits costs in the financial statements
or accompanying notes do not reflect the effect of the Act on the plan because
the authoritative guidance on the accounting for the federal subsidy is pending
and that guidance, when issued, could require UI to change previously reported
information. This will not have any material financial impact because UI does
not cover prescriptions for Medicare eligible employees in its postretirement
healthcare plans.
The FASB issued SFAS No. 132 (Revised), "Employer's Disclosure about Pensions
and Other Postretirement Benefits," which replaces the previously issued SFAS
No. 132. The statement retains the disclosures required under the original SFAS
No. 132, but also requires additional disclosures about the assets, obligations,
cash flows, and net periodic benefit cost of defined benefit pension plans and
other defined benefit postretirement plans. Specifically, companies are required
to include information describing the types of plan assets, investment strategy,
measurement date(s), plan obligations, and components of net periodic benefit
cost recognized during interim periods. This statement is effective for fiscal
years ending after December 15, 2003. UIL Holdings has adopted the provisions of
this standard and the required disclosures are included in Note (G), "Pension
and Other Benefits."
SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal
Activities," requires companies to recognize costs associated with exit or
disposal activities when they are incurred rather than at the date of commitment
to an exit or disposal plan. Costs covered by the standard include lease
termination costs and certain employee severance costs that are associated with
a restructuring, discontinued operation, plant closing, or other exit or
disposal activity. SFAS No. 146 is to be applied prospectively to exit or
disposal activities initiated after December 31, 2002. UIL Holdings has adopted
this standard effective January 1, 2003. A charge of approximately $0.5 million
- 77 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
was recognized in the results of discontinued operations under this standard in
2003 due to relocation of APS' headquarters.
The FASB has issued SFAS No. 143, "Accounting for Asset Retirement Obligations"
(SFAS 143). This statement, which is effective for fiscal years beginning after
June 15, 2002, requires that an asset retirement obligation be recognized at the
time when an entity faces a legal obligation to retire an asset. UI accrues for
estimated costs of removal for certain of its plant-in-service. Such removal
costs are included in the approved rates used to depreciate these assets. At the
end of the service life of the applicable assets, the accumulated depreciation
in excess of the historical cost of the asset provides for the estimated cost of
removal. In accordance with SFAS No. 143, UI's accrued costs of removal have
been reclassified to a regulatory liability. This reclassification is based upon
UI's best estimate developed from previous depreciation studies. In 2004, UI
will contract for a new independent study to update its cost of removal accrual
and amounts to be accrued in future years.
In December 2003, the Staff of the Securities and Exchange Commission issued
Staff Accounting Bulletin (SAB) No. 104, "Revenue Recognition," which supercedes
SAB No. 101, "Revenue Recognition in Financial Statements." SAB No. 104's
primary purpose is to rescind accounting guidance contained in SAB No. 101
related to multiple element revenue arrangements. UIL Holdings does not
generally enter into multiple element revenue arrangements, and as such, has
determined SAB No. 104 does not have a material impact on UIL Holdings'
consolidated statement of financial position, results of operations or
liquidity.
(B) CAPITALIZATION
COMMON STOCK
UIL Holdings had 14,475,259 shares of its common stock, no par value,
outstanding at December 31, 2003 and 14,460,680 shares of its common stock, no
par value, outstanding at December 31, 2002, of which 160,660 shares and 188,600
shares were unallocated shares held by UI's 401(k)/Employee Stock Ownership Plan
(KSOP) and not recognized as outstanding for accounting purposes as of December
31, 2003 and 2002, respectively.
UI has an arrangement under which it loaned $11.5 million to the KSOP. Prior to
the formation of UIL Holdings, the trustee for the KSOP used the funds to
purchase 328,300 shares of UI common stock in open market transactions. On July
20, 2000, effective with the formation of a holding company structure,
unallocated shares held by the KSOP were converted into shares of UIL Holdings'
common stock. The shares will be allocated to employees' KSOP accounts, as the
loan is repaid, to cover a portion of the required KSOP contributions. The loan
will be repaid by the KSOP over a twelve-year period ending October 1, 2009,
using employer contributions and UIL Holdings' dividends paid on the unallocated
shares of the stock held by the KSOP. As of December 31, 2003, 160,660 shares,
with a fair market value of $7.2 million, had been purchased by the KSOP and had
not been committed to be released or allocated to KSOP participants.
On June 28, 1999, UI's shareowners approved a stock option plan for directors,
officers and key employees of UI, providing for the awarding of options to
purchase up to 650,000 shares of common stock over periods from one to ten years
following the dates when the options are granted. The exercise price of each
option cannot be less than the market value of the stock on the date of the
grant. Effective with the formation of the holding company structure on July 20,
2000, all options were converted into options to purchase shares of UIL
Holdings' common stock. On March 25, 2002, the Board of Directors recommended to
the shareowners that the plan be amended to increase the maximum number of
shares of UIL Holdings' common stock for which stock options may be granted from
650,000 to 1,350,000, and to increase the limit on the number of shares that may
be covered by options granted in any one year to any employee from 50,000 to
- 78 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
150,000. The shareowners approved this amendment at the UIL Holdings Annual
Meeting on May 15, 2002. On March 24, 2003, the Board of Directors recommended
to the shareowners that the 1999 Stock Option Plan be amended and restated as
the UIL Holdings Corporation 1999 Amended and Restated Stock Plan (Stock Plan).
Under the Stock Plan, a maximum of 1,350,000 shares of UIL Holdings' common
stock is authorized for issuance upon exercise or granting of stock options,
stock appreciation rights (SARS), restricted stock, restricted stock units,
performance shares and other awards (collectively, Awards). No more than 200,000
shares of stock may be issued pursuant to Awards of restricted stock, restricted
stock units and performance share awards. Shareowners approved the Stock Plan at
the UIL Holdings Annual Meeting on May 14, 2003.
Stock option transactions for 2003, 2002 and 2001 are as follows:
WEIGHTED
AVERAGE
NUMBER OPTION PRICE EXERCISE
OF OPTIONS PER SHARE PRICE
---------- ------------ ----------
Balance - December 31, 2000 332,730 $30.00-$53.13 $41.00
Granted 176,633 (1) $43.22-$49.84 $45.30
Forfeited (5,333) $39.41-$43.22 $40.48
Exercised (12,023) $39.41-$43.22 $41.00
--------------
Balance - December 31, 2001 492,007 $30.00-$53.13 $42.55
Granted 302,017 (1) $52.16-$57.99 $56.30
Forfeited (21,633) $39.41-$56.61 $50.66
Exercised (185,937) $30.00-$45.18 $41.18
--------------
Balance - December 31, 2002 586,454 $39.41-$57.99 $49.77
Granted 310,964 (1) $36.13-$44.65 $36.26
Forfeited - - -
Exercised (12,883) $39.41 $39.41
--------------
Balance - December 31, 2003 884,535 $36.13-$57.99 $45.17
==============
Exercisable at December 31, 2001 186,822 $30.00-$53.13 $41.38
Exercisable at December 31, 2002 223,698 $39.41-$57.99 $46.37
Exercisable at December 31, 2003 374,249 $39.41-$57.99 $47.84
(1) One-third of the options granted became exercisable on each of the first
three anniversaries of the grant date.
The fair value of stock options granted has been estimated on the date of grant
using the binomial option-pricing model for 2003 and 2002 and the Black-Scholes
option-pricing model for 2001 using the assumptions below. The binomial
option-pricing model is more appropriate for valuing options on stocks with high
dividend yields, such as UIL Holdings. In 2002, UIL Holdings changed its method
of option valuation. The Black-Scholes option-pricing model, if used for 2002,
would have produced a lower option value.
2003 2002 2001
---- ---- ----
Risk-free interest rate 4.31% 5.40% 5.75%
Expected volatility 24.65% 22.53% 21.92%
Expected lives 7.20 years 6.80 years 7.59 years
Expected dividend yield 6.37% 6.01% 6.11%
- 79 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The weighted average fair value of options granted during 2003, 2002 and 2001
were $6.25, $9.71, and $6.09 per share, respectively. As of December 31, 2003,
2002 and 2001, the weighted average remaining contractual lives for those
options outstanding were 7.2 years, 6.8 years, and 7.6 years, respectively.
On February 23, 1998, UI's Board of Directors granted 80,000 "phantom" stock
options to Nathaniel D. Woodson upon his appointment as President of UI.
Effective with the formation of the holding company structure on July 20, 2000,
all outstanding phantom stock options were converted to UIL Holdings' phantom
stock options. At December 31, 2003, 80,000 phantom stock options were
exercisable and can be exercised at any time within Mr. Woodson's period of
employment with UI by means of UI paying him the difference between the
prevailing market price for each share of UIL Holdings' common stock and the
phantom stock option price of $45.16 per share. On February 23, 2008 any
unexercised phantom stock options will expire. During 2002 $448,000 was
recognized as income with regard to phantom stock options due to a decrease in
the stock price during 2002, which resulted in a reduction in previously
recognized cumulative expense. There was no income or expense recognized in 2003
related to these phantom stock options.
LONG-TERM DEBT
DECEMBER 31,
2003 2002
---- ----
(In Thousands)
Pollution Control Revenue Refunding Bonds:
4.35%, 1996 Series, due June 1, 2026 (1) $ 7,500 $ 7,500
5 7/8%, 1993 Series, due October 1, 2033 - 64,460
3.75%, 1997 Series, due July 1, 2027 (2) 27,500 27,500
4.55%, 1997 Series, due July 1, 2027 (1) 71,000 71,000
3.25%, 1999 Series, due December 1, 2029 (3) 25,000 25,000
Auction Rate, 2003 Series, due October 1, 2033 (4) 64,460 -
Notes:
6.00%, 1998 Series J, due December 15, 2003 - 100,000
4.42% Senior Notes, Series A, due December 12, 2007 74,000 74,000
3.95% Senior Notes, due December 9, 2008 100,000 -
4.89% Senior Notes, Series B, due December 12, 2009 51,000 51,000
7.23% Senior Notes, Series A, due February 15, 2011 30,000 30,000
7.38% Senior Notes, Series B, due February 15, 2011 45,000 45,000
--------------- ---------------
Long-Term Debt 495,460 495,460
Unamortized debt discount less premium - (28)
--------------- ---------------
495,460 495,432
Less:
Current portion of long-term debt - 100,000
--------------- ---------------
Net Long-Term Debt $495,460 $395,432
=============== ===============
- 80 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(1) The interest rate on these Bonds was fixed on February 1, 1999 for the
five-year period ending February 1, 2004. On February 2, 2004, the interest
rate was reset for a five-year period ending February 1, 2009.
(2) The interest rate on these Bonds was fixed on February 1, 2002 for the
two-year period ending February 1, 2004. On February 2, 2004, the interest
rate was reset for a one-year period ending February 1, 2005.
(3) The interest rate on these Bonds was fixed on February 5, 2003 for a
four-year, ten-month period ending December 3, 2007.
(4) The interest rate on these Bonds will be reset through an auction held
every 35 days. On December 31, 2003, the interest rate on the Bonds was
1.1%.
On December 2, 2002, UI purchased $25 million principal amount of Pollution
Control Revenue Refunding Bonds, 1999 Series, due December 1, 2029 (the 1999
Series Bonds), issued by the Business Finance Authority of the State of New
Hampshire (BFA). The 1999 Series Bonds were held by UI as an investment while
the borrowing agreement with the BFA was amended to provide more remarketing
flexibility. On February 5, 2003, the 1999 Series Bonds were sold to investors
and the interest rate was fixed at 3.25%. The new interest rate will remain in
effect for a four-year ten-month period to December 3, 2007. UI is obligated,
under its borrowing agreement with the BFA, to pay the interest on the Bonds.
Interest is payable semi-annually on June 1st and December 1st.
On September 4, 2003, $64.5 million principal amount of Pollution Control
Revenue Refunding Bonds, 2003 Series, due October 1, 2033 (the 2003 Bonds), were
issued by the BFA. The 2003 Bonds were issued to refinance $64.5 million
principal amount of 5 7/8%, Pollution Control Revenue Refunding Bonds, 1993
Series, due October 1, 2033, which were redeemed on October 6, 2003. The 2003
Bonds were issued in an "Auction Rate Mode," and the interest rate will be reset
through an auction held every 35 days. The interest rate on the 2003 Bonds, as
of December 31, 2003, was 1.1%. UI is obligated, under its borrowing agreement
with the BFA, to pay interest on the 2003 Bonds.
On December 9, 2003, UI issued and sold $100 million of Senior Notes to several
institutional investors in a private sale. The Senior Notes must be repaid on
December 9, 2008. Interest due under the Senior Notes is payable semi-annually
on June 9th and December 9th. The net proceeds of the sale were used to repay
the maturing 6% Notes, 1998 Series J, due December 15, 2003.
On February 2, 2004, the interest rate on $7.5 million principal amount of
Pollution Control Revenue Refunding Bonds, 1996 Series, due June 1, 2026, issued
by the Connecticut Development Authority (CDA), was reset from 4.35% to 3.00%.
The new interest rate will remain in effect for a five-year period to February
1, 2009. UI is obligated, under its borrowing agreement with the CDA, to pay the
interest on the Bonds. Interest is payable semi-annually on August 1st and
February 1st.
On February 2, 2004, the interest rate on $98.5 million principal amount of
Pollution Control Revenue Refunding Bonds, 1997 Series, due July 1, 2027, issued
by the BFA, was reset. The interest rate on $27.5 million principal amount of
the Bonds was reset from 3.75% to 2.05% for a one-year period to February 1,
2005. The interest rate on $71 million principal amount of the Bonds was reset
from 4.55% to 3.50% for a five-year period to February 1, 2009. UI is obligated,
under its borrowing agreement with the BFA, to pay the interest on the Bonds.
Interest is payable semi-annually on August 1st and February 1st.
The expenses to issue long-term debt are deferred and amortized over the life of
the respective debt issue.
Maturities and mandatory redemptions/repayments are set forth below:
2004 2005 2006 2007 2008
---- ---- ---- ---- ----
(In Thousands)
Maturities $ - $4,286 $4,286 $78,286 $104,286
- 81 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(C) REGULATORY PROCEEDINGS
RATE CASE
On September 26, 2002, the DPUC issued a final decision in UI's retail customer
ratemaking (Rate Case) proceeding. The decision provides for a $30.9 million
reduction in UI's annual revenue requirements, including (1) a $20.3 million
reduction to UI's customer rates, (2) $2.0 million to be applied annually for
additional funding of conservation programs, (3) $8.3 million to be applied
annually to reduce stranded costs, and (4) $0.3 million to be applied to a
combination of uncollectibles, taxes and rate base changes. In accordance with
the decision, and after converting from a revenue requirements basis to stranded
cost treatment, UI recorded accelerated amortization of stranded costs of $5.6
million before-tax ($4.7 million after-tax) in the fourth quarter of 2002, and
reduced customer rates by 3% overall and is continuing accelerated amortization
at $1.4 million before-tax ($1.2 million after-tax) per quarter as of January 1,
2003. The rate reductions, approved by the DPUC, are applied with no significant
rate design changes, although the generation services charge (GSC) component of
customers' rates was increased and the competitive transition assessment (CTA)
component was decreased in a dollar amount equal to the GSC increase. The final
Rate Case decision established rates on the basis of an authorized return on
equity of 10.45% for non-transmission rate base. Earnings above the authorized
return are to be shared 50% to customers and 50% to net income, with the
customers' share divided equally between bill reductions and an accelerated
amortization of stranded costs. The Rate Case decision recognizes that the
revenue requirements determination for transmission, including the applicable
return on equity, is within the jurisdiction of the FERC. UI's authorized return
on equity for transmission is 10.75%.
On January 8, 2003, in a reopened proceeding requested by UI, the DPUC issued a
decision making a technical change to the Rate Case decision, approving UI's
proposed revenue transfer of $3.9 million annually from CTA to the delivery
component of rates beginning with the September 26, 2002 effective date and
continuing until the decision in UI's next rate case proceeding.
On March 26, 2003, the DPUC issued a decision granting UI's request to reopen
the September 2002 Rate Case decision, to examine increased pension and
postretirement benefits expenses of UI for 2003. On June 25, 2003, the DPUC
issued a decision denying, without prejudice, UI's request for recovery of $15.5
million in increased pension and postretirement benefits expenses. On September
10, 2003, the DPUC granted UI's request to reopen the June 25, 2003 decision. On
November 24, 2003, UI and the Prosecutorial Division of the DPUC (PRO) reached a
settlement agreement, which was filed with the DPUC providing for the annual
recovery by UI of an additional $10.5 million of expenses effective with final
DPUC approval of the agreement.
The settlement also would have modified the earnings sharing mechanism from 50%
to shareholders and 50% to customers, to 25% to shareholders and 75% to
customers, with the entire customer portion being utilized to reduce stranded
costs. The settlement agreement also stipulated that UI will not file a rate
case before January 1, 2005. On February 9, 2004, the DPUC issued a draft
decision that accepted the settlement agreement provided that UI and PRO agreed
to reduce the $10.5 million annual recovery to $5.2 million and to increase the
customer portion of shared earnings in excess of the authorized return to 100%
from 75%. While UI believes $5.2 million is not sufficient to offset the
increased costs, it will offer some level of relief above what is currently
included in rates. As such, UI accepted the changes required by the draft
decision. On February 18, 2004, the DPUC issued a final decision approving the
settlement with the specified modifications.
PUBLIC ACT 98-28
In April 1998, the Connecticut legislature enacted Public Act 98-28 (the
Restructuring Act), a statute designed to restructure the regulated electric
utility industry. As a result of the Restructuring Act, the business of selling
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
electricity directly to consumers has been opened to competition since January
2000. The business of delivering electricity remains with the incumbent
franchised utility companies (including UI).
A major component of the Restructuring Act is the collection, by distribution
companies, of a "competitive transition assessment," a "systems benefits
charge," an "energy conservation and load management program charge" and a
"renewable energy investment charge." The competitive transition assessment
represents costs that have been reasonably incurred, or will be incurred, by
distribution companies to meet their public service obligations, and that will
likely not otherwise be recoverable in a competitive generation and supply
market. These costs include above-market long-term purchased power contract
obligations, regulatory asset recovery and above-market investments in power
plants (stranded costs). The systems benefits charge represents public policy
costs, such as generation decommissioning and displaced worker protection costs.
Beginning in 2000, UI has collected the competitive transition assessment, the
systems benefits charge, the energy conservation and load management program
charge and the renewable energy investment charge from customers. The DPUC has
an annual proceeding to review UI's collection of the competitive transition
assessment and systems benefits charge for the prior year, and to establish the
applicable competitive transition assessment charge and systems benefits charge
for the next year. Because of overcollection of systems benefits charge revenues
in 2002, and an expectation that such revenues will exceed systems benefits
charge costs in 2003 and 2004, the DPUC has ordered that UI's systems benefits
charge on customers' bills be reduced for 2004.
Under the Restructuring Act, all Connecticut electricity customers are able to
choose their electricity suppliers. Through December 31, 2003, UI was required
to offer retail service to its customers under a regulated "standard offer" rate
to each customer who did not choose an alternate electricity supplier, even
though UI is no longer in the business of power generation. UI was also required
under the Restructuring Act to provide back-up power supply service to customers
whose alternate electricity supplier failed to provide power supply services for
reasons other than the customers' failure to pay for such services. On December
28, 2001, UI entered into an agreement with Virginia Electric and Power Company,
which was subsequently assigned to its affiliate Dominion Energy Marketing, for
the supply of all of UI's standard offer generation service needs from January
1, 2002 through December 31, 2003, and for the supply of all of UI's generation
service requirements for special contract customers through 2008.
In June 2003, the Connecticut General Assembly enacted Public Act 03-135,
subsequently amended in part by Public Act 03-221, to provide for electric
distribution companies to provide "transitional standard offer service,"
beginning January 1, 2004 and continuing through December 31, 2006, to each
customer who does not choose an alternate energy supplier. On October 22, 2003,
UI entered into an agreement with PSEG Energy Resources & Trade LLC (PSEG) for
the supply of all of UI's transitional standard offer generation service needs,
excluding requirements for special contract customers, from January 1, 2004
through December 31, 2006, the end of the transitional standard offer period in
Connecticut. The 2003 legislation also makes other changes to restructuring on a
going forward basis, including a provision for information on "federally
mandated congestion costs" to be on customer bills. In addition, the legislation
requires that any new rate case filings include a four-year rate plan. The
legislation also provides for the electric distribution companies to recover
their costs of procuring and providing transitional standard offer service.
Public Act 03-135 provides for a fee of $0.0005 per kilowatt-hour to be
collected by the electric distribution company as further compensation for the
procurement of transitional standard offer supply. Renewable energy portfolio
standards will be in effect as of January 1, 2004, pursuant to the legislation,
for generation services provided to retail customers. UI has included the
requirement to meet these standards for transitional standard offer customers in
its power supply agreement, consistent with statutory requirements. The
legislation is being implemented through several DPUC proceedings. In December
2003, the DPUC established UI's transitional standard offer rates to be
effective January 1, 2004, in accordance with the 2003 Restructuring
Legislation.
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
SALE OF NUCLEAR GENERATION
The Restructuring Act required that, in order for UI to recover any stranded
costs, it must attempt to divest its ownership interests in two nuclear-fueled
power plants prior to 2004. On October 1, 1998, in its "unbundling plan" filing
with the DPUC under the Restructuring Act, and in other regulatory dockets, UI
stated that it planned to divest its nuclear generation ownership and leasehold
interests (17.5% of Seabrook Station in New Hampshire and 3.685% of Millstone
Unit 3 in Connecticut) by the end of 2003, in accordance with the Restructuring
Act.
The sale of UI's ownership in Millstone Unit 3 was consummated on March 31,
2001. UI's share of the proceeds from the sale, including nuclear fuel, was
$34.4 million, before settlement of its decommissioning obligation. On February
27, 2003, the DPUC issued a final decision on the Millstone Divestiture Plan
Disposition of Proceeds authorizing UI to reduce its stranded cost balances by
$15.4 million.
The sale of UI's investment in Seabrook Station and the termination of the
sale/leaseback of a portion of its interest in Seabrook Unit 1 was consummated
on November 1, 2002. In compliance with the Connecticut electric industry
restructuring legislation, the net-of-tax gain on these transactions, after
adjusting for transaction costs and sale-related costs, was used to reduce UI's
stranded costs. In UI's compliance filing with the DPUC on April 30, 2003, UI
reported a net-of-tax gain of approximately $5.0 million. A draft decision was
issued on February 3, 2004, approving UI's calculation without modification. A
final decision is scheduled for the beginning of March 2004.
OTHER REGULATORY MATTERS
DEPARTMENT OF PUBLIC UTILITY CONTROL
UI generally has several regulatory proceedings open and pending at the DPUC at
any given time. Examples of such proceedings include an annual DPUC review and
reconciliation of UI's competitive transition assessment and systems benefits
charge revenues and expenses, dockets to consider specific restructuring or
electricity market issues, consideration of specific rate or customer issues,
and review of conservation programs.
Public Act 03-6 of the June 30, 2003 special session and Public Act 03-1 of the
September 8, 2003 special session of the Connecticut General Assembly provides
for the period February 1, 2003 through July 31, 2005, for certain of the funds
collected by electric distribution companies from retail customers in the
Conservation and Load Management (C&LM) charge to be transferred to the general
funds of the state. The legislation provides that the transfer of funds would
not occur provided that the C&LM and Renewable Energy Investment (REI) funds are
securitized for two fiscal years beginning July 1, 2003, through the state's
issuance of rate reduction bonds secured by customer revenue streams. On October
28, 2003, the DPUC issued a financing order providing for the issuance of rate
reduction bonds, adjustment of the C&LM and REI charges, and an increase in the
corresponding CTA charge on customers' bills.
The rate reduction bonds are expected to be issued by the state by the end of
the first quarter of 2004. The amounts collected through the CTA for servicing
of the rate reduction bonds will not be revenue to UI. As a result, the
securitization will have the effect of reducing UI's revenue by approximately
$6.5 million annually. Absent securitization, these amounts would otherwise have
been utilized for C&LM or REI and recorded as expense. UI's management does not
expect there to be any material effect on UI's earnings or financial conditions
as a result of such securitization.
TAX CREDITS RELATED TO THE SALE OF GENERATION
On March 3, 2003, the Internal Revenue Service (IRS) issued proposed regulations
that would allow electric utilities to return certain tax benefits pertaining to
divested generation assets to customers. Specifically, these regulations deal
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
with accumulated deferred investment tax credits (ADITC) and excess deferred
federal income taxes (EDFIT) associated with generation assets.
UI had been previously ordered by the DPUC to seek a Private Letter Ruling (PLR)
from the IRS requesting permission to immediately flow-through to customers $3.2
million of ADITC and $0.2 million of EDFIT relating to its formerly owned
fossil-fueled generating stations. In addition to the sale of its fossil-fueled
generating stations, UI also had ADITC in the amount of $4.7 million relating to
the sale of its ownership interest in the Millstone Unit 3 nuclear generating
facility.
While the proposed regulations, as written, do allow electric utilities to
return ADITC and EDFIT to customers, the utility may do so only at the same rate
that would have been permitted if the generation assets remained public utility
property, not immediately, as had been sought in UI's PLR request.
Although the IRS has not officially responded to UI's PLR request, these
proposed regulations provide authoritative guidance with respect to the IRS'
position as to the treatment of these tax benefits. The IRS allowed for the
submission of written comments during a public comment period ended June 2,
2003, as well as at a public hearing that was held at the IRS National Office on
June 25, 2003. To date, the IRS has not issued final regulations with respect to
this matter. In the event the final regulations remain in their current form,
there would be no resulting material impact on UI's earnings or cash flow.
BRIDGEPORT RESCO GENERATING FACILITY
Effective January 1, 2003, UI began selling its energy entitlement from its
long-term purchase power contract with the Bridgeport RESCO generating facility
into the New England wholesale market at market prices. To the extent that UI
receives revenue from these sales that exceed the amount it pays to Bridgeport
RESCO for this energy on a cumulative basis, the difference is used to adjust
the above market portion of purchase power expense recovered through UI's CTA.
This methodology has been approved by the DPUC, with all relevant data and
calculations subject to review in the annual CTA reconciliation docket. To the
extent that expenses paid for this energy exceed revenues on a cumulative basis,
UI would advise the DPUC and propose an alternative recovery mechanism.
EXCESS GSC
Public Act 03-135 requires the DPUC to allocate the proceeds of the electric
distribution company's retail adder (excess GSC revenues over GSC costs) to the
utility's cost of procuring power, then to mitigate the increase in cost
relative to the existing standard offer that would be recovered from the
customer and then to stranded cost recovery. As a result, the DPUC ordered UI to
cease any further application of the retail adder toward accelerated stranded
cost reduction, pending DPUC determination of the use of the funds in future
proceedings. Until such review, UI was to "bank" such excess GSC amounts in a
liability account. As of December 31, 2003, $7.5 million was recorded as a
liability for excess GSC. On December 18, 2003, the DPUC issued a final decision
on the Transitional Standard Offer docket which, among other things, ordered UI
to amortize $3.6 million of the banked amount over the next three years, with
the remainder to be used to offset temporary cash flow shortfalls resulting from
the difference between the GSC collected from customers through rates and the
monthly cost for transitional standard offer supply.
FEDERAL ENERGY REGULATORY COMMISSION
UI has constructed transmission facilities to connect the 330-megawatt
transmission cable, connecting Connecticut and Long Island under Long Island
Sound, owned by Cross Sound Cable Company, LLC (Cross-Sound) to the New England
Power Pool (NEPOOL) transmission grid. Cross-Sound has paid UI $2 million for
the construction costs. The FERC has clarified its recent order directing UI to
reclassify a portion of this construction as transmission network upgrades
noting UI will not be required to reimburse Cross-Sound for any of the
construction monies received. Cross-Sound has requested the FERC for a rehearing
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
of the Commission's latest order. A FERC response to Cross-Sound's rehearing
request is expected soon. The annual facilities charge will continue to be
reviewed by the FERC.
UI is required to file information regarding Regional Network Service
transmission on an annual basis with the FERC.
REGIONAL TRANSMISSION ORGANIZATION FOR NEW ENGLAND
On October 31, 2003, ISO New England Inc. (ISO-NE) filed a joint proposal with
the New England Transmission Owners at the FERC for the creation of a Regional
Transmission Organization (RTO). ISO-NE expects that the creation of an RTO for
New England will strengthen the independent oversight of the region's bulk power
system and wholesale electricity marketplace. UI is a signatory to the filing
and, if approved by the FERC, would have the opportunity to join the New England
RTO and become eligible for the FERC's transmission return on equity joining
incentive (50 basis points above the approved transmission return on equity). If
approved, the RTO could become operational in 2004.
(D) SHORT-TERM CREDIT ARRANGEMENTS
UIL Holdings has a money market loan arrangement with JPMorgan Chase Bank. This
is an uncommitted short-term borrowing arrangement under which JPMorgan Chase
Bank may make loans to UIL Holdings for fixed maturities from one day up to six
months. JPMorgan Securities, Inc. acts as an agent and sells the loans to
investors. The fixed interest rates on the loans are determined based on
conditions in the financial markets at the time of each loan. As of December 31,
2003, UIL Holdings had $24.5 million outstanding under this arrangement.
UIL Holdings has a revolving credit agreement with a group of banks that was
amended July 31, 2003 and extended to July 29, 2004. The borrowing limit of this
facility is $100 million. The facility permits UIL Holdings to borrow funds at a
fluctuating interest rate determined by the prime lending market in New York,
and also permits UIL Holdings to borrow money for fixed periods of time
specified by UIL Holdings at fixed interest rates determined by the Eurodollar
interbank market in London (LIBOR). If a material adverse change in the
business, operations, affairs, assets or condition, financial or otherwise, or
prospects of UIL Holdings and its subsidiaries, on a consolidated basis, should
occur, the banks may decline to lend additional money to UIL Holdings under this
revolving credit agreement, although borrowings outstanding at the time of such
an occurrence would not then become due and payable. As of December 31, 2003,
UIL Holdings had $40.0 million in short-term borrowings outstanding under this
facility.
Xcelecom has a revolving credit agreement with two banks that expires on June
30, 2004. This agreement provides for a $25 million revolving loan facility,
available to meet working capital needs and up to $5 million in capital
equipment needs, and to support standby letters of credit issued by Xcelecom in
the normal course of its business. Capital equipment loans under this facility
can be converted to amortizing term loans with a maturity of up to four years.
This agreement also provides for the payment of interest at a rate, at the
option of Xcelecom, based on the agent bank's prime interest rate or LIBOR. As
of December 31, 2003, there were no borrowings outstanding on the revolving
working capital balance of this facility. Xcelecom had $1.4 million of capital
equipment funding that had been converted to term notes outstanding and standby
letters of credit of $4.6 million outstanding at December 31, 2003. All
borrowings outstanding under this agreement are secured solely by assets of
Xcelecom and its subsidiaries.
APS had a revolving credit agreement with a bank that expired on April 11, 2003,
at which time APS repaid all borrowings outstanding under the agreement. The
funds for the repayment were provided by UIL Holdings. All short-term capital
requirements that exceed available cash from operations are currently provided
by UIL Holdings, under a short-term loan arrangement. In connection with the
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
close of the APS sale transaction, UIL Holdings will be paid any amounts due
under this short-term loan arrangement. As of December 31, 2003, the outstanding
balance under this arrangement was $3.5 million.
Information with respect to short-term borrowings of UIL Holdings and Xcelecom
are as follows:
2003 2002 2001
---- ---- ----
(In Thousands)
UIL HOLDINGS
- ------------
Maximum aggregate principal amount of short-term borrowings
outstanding at any month-end $64,500 $50,000 $129,000
Average aggregate short-term borrowings outstanding during the year* $32,471 $19,771 $43,421
Weighted average interest rate* 1.8% 2.3% 5.8%
Principal amounts outstanding at year-end $64,500 $39,000 $18,000
Annualized interest rate on principal amounts outstanding at year-end 1.9% 2.1% 2.9%
Fees* $462 $365 $297
XCELECOM
- --------
Maximum aggregate principal amount of short-term borrowings
outstanding at any month-end $4,740 $13,965 $13,800
Average aggregate short-term borrowings outstanding during the year* $2,175 $6,804 $7,746
Weighted average interest rate* 2.5% 2.6% 3.3%
Principal amounts outstanding at year-end - $3,050 $12,930
Annualized interest rate on principal amounts outstanding at year-end - 3.1% 2.7%
Fees* $157 $119 $25
* Average short-term borrowings represent the sum of daily borrowings
outstanding, weighted for the number of days outstanding and divided by the
number of days in the period. The weighted average interest rate is determined
by dividing interest expense by the amount of average borrowings. Fees are
excluded from the calculation of the weighted average interest rate.
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(E) INCOME TAXES
2003 2002 2001
---- ---- ----
(In Thousands)
Income tax expense for continuing operations consists of:
Income tax provisions:
Current
Federal $ 11,151 $ (24,524) $ 55,814
State 4,971 (5,150) 11,112
-------------- -------------- --------------
Total current 16,122 (29,674) 66,926
-------------- -------------- --------------
Deferred
Federal 16,401 56,363 (14,083)
State 1,314 11,353 (3,970)
-------------- -------------- --------------
Total deferred 17,715 67,716 (18,053)
-------------- -------------- --------------
Investment tax credits (387) (564) (658)
-------------- -------------- --------------
Total income tax expense for continuing operations $ 33,450 $ 37,478 $ 48,215
============== ============== ==============
Income tax components charged as follows:
Operating tax expense $ 36,130 $ 39,455 $ 52,392
Nonoperating tax expense (2,680) (1,976) (4,177)
-------------- -------------- --------------
Total income tax expense $ 33,450 $ 37,479 $ 48,215
============== ============== ==============
The following table details the components
of the deferred income taxes:
Gain on sale of utility property (51) (280) (9,680)
Seabrook sale/leaseback transaction - 8,525 (2,546)
Seabrook lease buyout - 28,156 -
Seabrook II Sale - (1,885) -
Pension benefits 11,238 2,189 729
Accelerated depreciation 6,646 (335) (2,891)
Tax depreciation on unrecoverable plant investment - 34,805 202
Unit overhaul and replacement power costs - - 939
Conservation and load management (107) (107) (107)
Displaced worker protection costs (353) (956) (333)
Bond redemption costs (1,026) (1,026) (1,026)
Cancelled nuclear project (300) (467) (467)
Restructuring costs (538) (538) (538)
Regulatory deferrals 2,345 1,570 804
Other - net (139) (1,935) (3,139)
-------------- -------------- --------------
Deferred income taxes - net $ 17,715 $ 67,716 $ (18,053)
============== ============== ==============
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Total income taxes differ from the amounts computed by applying the federal
statutory tax rate to income before taxes. The reasons for the differences are
as follows:
2003 2002 2001
---- ---- ----
(In Thousands)
Computed tax at federal statutory rate $22,046 $29,130 $37,733
Increases (reductions) resulting from:
ITC taken into income (387) (564) (658)
Allowance for equity funds used during construction (531) (433) (393)
Amortization of regulatory asset 7,925 11,345 14,000
Book depreciation in excess of non-normalized tax depreciation (150) (3,000) (3,445)
State income taxes, net of federal income tax benefits 4,085 4,033 4,642
Other items - net 462 (3,033) (3,664)
---------------- ---------------- ----------------
Total income tax expense $33,450 $37,478 $48,215
================ ================ ================
Book income before income taxes $62,987 $83,229 $107,778
================ ================ ================
Effective income tax rates 53.1% 45.0% 44.7%
================ ================ ================
As a result of the sale of UI's interests in Seabrook Station and the
termination of the associated Seabrook Lease Obligation on November 1, 2002, UIL
Holdings incurred a net operating loss for federal income tax purposes for the
year 2002 of approximately $78 million that was carried forward to the year
2003. On December 31, 2003, UIL Holdings made a $45 million contribution to the
pension plan. This contribution will be claimed as a current income tax
deduction for the year 2003 and thereby takes the place of $45 million of the
2002 net operating loss carry forward which otherwise would have been utilized
in 2003. Therefore, during the year 2003 only approximately $27 million of the
net operating loss carry forward was utilized, leaving a balance of $51 million
of unutilized net operating losses to be carried forward and utilized against
future taxable income.
Legislation enacted in Connecticut on February 28, 2003 imposed a 20% surcharge
on the corporation business tax for the year 2003 only. This surcharge, which
was made retroactive to January 1, 2003, effectively increased the statutory
rate of Connecticut corporation business tax from 7.5% to 9.0% for the year
2003. Due to this change, the combined effective statutory federal and state
income tax rate for UIL Holdings' Connecticut-based entities will increase
slightly from 39.875% to 40.85% for the year 2003.
In addition, legislation was also enacted in Connecticut on August 16, 2003
which imposes a 25% surcharge on the corporation business tax for the year 2004,
which will increase the statutory rate of Connecticut corporation business tax
from 7.5% to 9.375% for the year 2004 only. Due to this change, the combined
effective statutory federal and state income tax rate for UIL Holdings'
Connecticut based entities will increase slightly from 40.85% to 41.094% for the
year 2004.
The effective income tax rate for the year ended December 31, 2003 was 53.1% as
compared to 45.0% for the year ended December 31, 2002. The increase in the 2003
rates is due primarily to: (1) the imposition of a 20% surcharge on the
Connecticut corporation business tax for the year 2003, (2) one-time adjustments
to deferred income tax reserves associated with CTA, and (3) differences in the
amounts of book depreciation in excess of non-normalized tax depreciation.
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
At December 31, 2003, UIL Holdings had deferred tax liabilities for taxable
temporary differences of $359 million and deferred tax assets for deductible
temporary differences of $26 million, resulting in a net deferred tax liability
of $333 million. Significant components of deferred tax liabilities and assets
were as follows: tax liabilities on book/tax plant basis differences and on the
cumulative amount of income taxes on temporary differences previously flowed
through to ratepayers, $198 million, tax liabilities on accelerated depreciation
timing differences, $113 million, and tax assets on 2002 net operating loss
carryforward, $8 million.
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(F) SUPPLEMENTARY INFORMATION - CONTINUING OPERATIONS
2003 2002 2001
---- ---- ----
(In Thousands)
OPERATING REVENUES
- ------------------
Utility
Retail $ 613,885 $ 639,025 $ 627,178
Wholesale 24,591 58,249 61,570
Other 31,144 30,259 26,070
Non-utility business unit revenues
Xcelecom 294,036 310,044 312,556
Other 21 19 86
----------- ----------- -----------
Total Operating Revenues $ 963,677 $1,037,596 $1,027,460
=========== =========== ===========
SALES BY CLASS (MEGAWATT-HOURS) - UNAUDITED
- -------------------------------------------
Retail
Residential 2,261,954 2,247,196 2,119,976
Commercial 2,501,996 2,465,711 2,476,027
Industrial 951,746 1,021,586 1,082,394
Other 47,356 46,517 46,073
----------- ----------- -----------
5,763,052 5,781,010 5,724,470
Wholesale 478,185 1,812,540 2,030,365
----------- ----------- -----------
Total Sales by Class 6,241,237 7,593,550 7,754,835
=========== =========== ===========
FUEL AND ENERGY
- ---------------
Fuel and Energy Expense (1) $ 296,707 $ 293,209 $ 298,021
Purchase Power above market fuel expense credit (24,034) (24,014) (26,114)
----------- ----------- -----------
Total Fuel and Energy Expense $ 272,673 $ 269,195 $ 271,907
=========== =========== ===========
DEPRECIATION AND AMORTIZATION
- -----------------------------
Utility property, plant, and equipment $ 28,274 $ 26,336 $ 25,549
Non-utility business property, plant and equipment 3,540 3,155 1,696
Nuclear Decommissioning - 2,241 3,384
----------- ----------- -----------
Total Depreciation 31,814 31,732 30,629
----------- ----------- -----------
Amortization of nuclear plant regulatory assets 20,197 30,690 15,657
Amortization of purchase power contracts (1) 24,034 24,014 26,114
Amortization of other CTA regulatory assets 1,109 1,336 1,196
Amortization of cancelled plant 850 1,172 1,172
----------- ----------- -----------
Subtotal CTA Amortization 46,190 57,212 44,139
Amortization of intangibles 1,236 1,297 3,816
Amortization of other regulatory assets 2,999 2,326 14,722
----------- ----------- -----------
Total Amortization 50,425 60,835 62,677
----------- ----------- -----------
Total Depreciation and Amortization $ 82,239 $ 92,567 $ 93,306
=========== =========== ===========
TAXES - OTHER THAN INCOME TAXES
- -------------------------------
Operating:
Connecticut gross earnings $ 25,842 $ 28,293 $ 26,661
Local real estate and personal property 9,027 11,726 12,278
Payroll taxes 6,219 5,951 5,634
----------- ----------- -----------
Total Taxes - Other than Income Taxes $ 41,088 $ 45,970 $ 44,573
=========== =========== ===========
OTHER INCOME AND (DEDUCTIONS), NET
- ----------------------------------
Interest income $ 1,197 $ 679 $ 1,249
Allowance for funds used during construction 2,491 2,220 1,913
Equity earnings from Connecticut Yankee 317 818 288
Non-utility business passive income (expense) (2,385) (5,299) 4,734
Non-utility business opportunities - - (403)
Miscellaneous other income and (deductions) - net 1,670 (745) (1,081)
----------- ----------- -----------
Total Other Income and (Deductions), net $ 3,290 $ (2,327) $ 6,700
=========== =========== ===========
OTHER INTEREST, NET
- -------------------
Notes Payable $ 612 $ 459 $ 2,507
Other 1,791 1,258 2,324
----------- ----------- -----------
Total Other Interest, net $ 2,403 $ 1,717 $ 4,831
=========== =========== ===========
(1) The amortization of this regulatory asset is a cash neutral item, as there
is an offsetting liability which is relieved through a credit to fuel and
energy expense.
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UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(G) PENSION AND OTHER BENEFITS
UI's qualified pension plan covers substantially all of its employees, the
employees of UIL Holdings and APS, and certain management employees of Xcelecom
and UCI. APS and Xcelecom employees no longer benefit from contributions under
the plan, but any benefits accrued to them, through April 2003 for APS, and
December 2003 for Xcelecom, remain in the plan. UI also has a non-qualified
supplemental plan for certain executives and a non-qualified retiree-only plan
for certain early retirement benefits. The net pension expense for these plans
for 2003, 2002 and 2001 was $17.5 million, $6.7 million, and $0.8 million,
respectively.
According to SFAS No. 132 (Revised), "Employer's Disclosure about Pensions and
Other Postretirement Benefits" disclosures have been increased to include
investment strategy, asset allocation mix, contributions, the assumptions for
the expected rate of return on assets, measurement dates and accumulated benefit
obligation levels for all pension plans. The below discussion pertains to The
United Illuminating Company Pension Plan (the "Plan"). UI set forth an
investment policy to delegate the oversight and management of pension assets and
procedures for monitoring and control. UI has engaged Frank Russell Trust
Company as the trustee and investment manager to assist in areas of asset
allocation and rebalancing, portfolio strategy implementation, and performance
monitoring and evaluation.
The goals of the asset investment strategy are to:
o Achieve long-term capital growth while maintaining sufficient liquidity
to provide for current benefit payments and Plan operating expenses.
o Provide a total return that, over the long-term, provides sufficient
assets to fund its liabilities subject to an appropriate level of risk,
contributions and pension expense.
o Maximize the return on assets, over the long-term, by investing
primarily in equities. The inclusion of additional asset classes with
differing rates of return, volatility and correlation are utilized to
reduce risk by providing diversification relative to equities.
o Diversify investments within asset classes to maximize preservation of
principal and minimize over-exposure to any one investment, thereby
minimizing the impact of losses in single investments.
The Plan will maintain compliance with the Employee Retirement Income Security
Act 1974 (ERISA) as amended, and any applicable regulations and laws.
The Pension Committee of the board of directors that oversees the investment of
Plan assets in conjunction with management has conducted a review of the
Investment Strategies and Policies of Plan in the fourth quarter of 2003. This
included a review of the strategic asset allocation, including the relationship
of Plan assets to Plan liabilities and portfolio structure. The Pension
Committee has adopted a target asset allocation with ranges as follows for both
pension and other postretirement employee benefit funds:
Low Target High
--- ------ ----
Equity securities 68% 70% 72%
Debt securities 28% 30% 32%
The above allocations may be revised by the Pension Committee of the board of
directors. The Pension Committee of the board of directors recently approved an
asset allocation change to shift 5% from equity and debt to alternative
strategies which would include hedge funds. This change will become effective
during the first quarter of 2004.
- 92 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Funding policy for the qualified plan is to make annual contributions that
satisfy the minimum funding requirements of ERISA but that do not exceed the
maximum deductible limits of the Internal Revenue Code. These amounts are
determined each year as a result of an actuarial valuation of the plan. In 2001,
$2.6 million was contributed for 2000 funding requirements. Due to IRS
limitations regarding tax deductibility, UI did not make a contribution for the
2001 plan year. In 2002, $12.2 million was contributed for the 2002 funding
requirements. In 2003, a $45 million contribution was made to the plan which
increased the total plan assets to a level which exceeded the accumulated
benefit obligations and thereby reduced the Other Comprehensive Loss of $26.5
million, after-tax, recorded in 2002.
UI has established a supplemental retirement benefit trust and through this
trust purchased life insurance policies on officers of UI to fund the future
liability under the non-qualified supplemental plan. The cash surrender value of
these policies is included in Other Property and Investments on the Consolidated
Balance Sheet.
The contribution to the pension plan for 2004 is expected to be $11.2 million,
assuming that the amount will be equal to, or less than, the maximum
contribution allowable per the Internal Revenue Code. The Accumulated Benefit
Obligation for the qualified and nonqualified plans is $254.6 million and $6.6
million, respectively. UIL Holdings has the option to contribute an additional
amount to the plan for the 2003 tax year, prior to filing its 2003 federal
income tax return.
If there is a plus or minus 1/4% change in the discount rate assumed at 6%, the
pension expense would change by minus or plus $0.8 million, respectively. If
there were a 1% change in the expected return on assets, the pension expense
would change by plus or minus $2.5 million.
In addition to providing pension benefits, UI also provides other postretirement
benefits (OPEB), consisting principally of health care and life insurance
benefits, for retired employees and their dependents. Employees whose sum of age
and years of service at time of retirement is equal to or greater than 85 (or
who are 62 with at least 20 years of service) are eligible for benefits
partially subsidized by UI. The amount of benefits subsidized by UI is
determined by age and years of service at retirement.
For funding purposes, UI established a Voluntary Employees' Benefit Association
Trust (VEBA) to fund OPEB for UI's union employees. The funding strategy for the
VEBA is to select funds that most clearly mirror the pension allocation
strategy. Approximately 43% of UI's employees are represented by Local 470-1,
Utility Workers Union of America, AFL-CIO, for collective bargaining purposes.
UI established a 401(h) account in connection with the qualified pension plan to
fund OPEB for UI's non-union employees who retire on or after January 1, 1994.
In accordance with this policy, UI did not make contributions to the union VEBA
in 2003, 2002, or 2001. In 2002, UI contributed $0.8 million to the 401(h)
account. UI did not make a contribution to the 401(h) account in 2001 or 2003.
Plan assets for the union VEBA consist primarily of equity and fixed-income
securities. If there is a plus or minus 1/4% change in the discount rate
assumed, the OPEB plans expenses would change by plus or minus $0.1 million. If
there were a 1% change in the expected return on VEBA assets, the OPEB plans
expenses would change by plus or minus $0.2 million. The 401(h) account was
closed at the end of 2003, as the contribution payouts became so frequent that
the account effectively became a revolving account.
To develop the expected long-term rate of return on assets assumption, UI
considered the current level of expected returns on risk free investments
(primarily government bonds), the historical level of the risk premium
associated with the other asset classes in which the portfolio is invested and
the expectations for future returns of each asset class. The expected return for
each asset class was then weighted based on the target asset allocation to
develop the expected long-term rate of return on assets assumption for the
portfolio. This resulted in the selection of the 8.0% return on plan assets.
- 93 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The following table represents the change in benefit obligation, change in plan
assets and the respective funded status of UI's pension and postretirement plans
as of December 31, 2003 and 2002.
AT DECEMBER 31,
PENSION BENEFITS OTHER POSTRETIREMENT BENEFITS
2003 2002 2003 2002
---- ---- ---- ----
(In Thousands)
CHANGE IN BENEFIT OBLIGATION
Benefit obligation at beginning of year $272,938 $247,992 $48,341 $34,187
Service cost 6,214 5,043 777 528
Interest cost 17,820 17,768 3,154 2,811
Amendments (1,333) 1,312 - (2,118)
Actuarial (gain) loss 30,318 19,836 4,124 16,154
Settlements, curtailments and other (98) (1,146) - -
Benefits paid (including expenses) (16,686) (17,867) (3,884) (3,221)
-------------- -------------- ---------------- -----------------
Benefit obligation at end of year $309,173 $272,938 $52,512 $48,341
============== ============== ================ =================
CHANGE IN PLAN ASSETS
Fair value of plan assets at beginning of year $186,613 $212,000 $16,388 $19,327
Actual return on plan assets 44,251 (19,957) 3,085 (1,342)
Employer contributions 45,233 12,437 1,373 1,624
Benefits paid (including expenses) (16,687) (17,867) (3,883) (3,221)
-------------- -------------- ---------------- -----------------
Fair value of plan assets at end of year $259,410 $186,613 $16,963 $16,388
============== ============== ================ =================
Funded Status at December 31:
Projected benefits (less than) greater than
plan assets $49,763 $86,325 $(35,549) $31,953
Unrecognized prior service cost (7,701) (10,213) (1,557) 1,737
Unrecognized transition asset 1,578 2,632 8,819 (9,878)
Unrecognized net gain (loss) from past
experience (81,318) (88,684) 16,927 (16,308)
-------------- -------------- ---------------- -----------------
(Prepaid)/accrued benefit obligation $(37,678) $(9,940) $(11,360) $7,504
============== ============== ================ =================
Amounts recognized in the Consolidated Balance
Sheet consist of:
Prepaid benefit cost $(43,927) $ - $ - $ -
Accrued benefit liability 8,166 44,857 (11,360) 7,504
Intangible asset (1,093) (10,400) - -
Accumulated other comprehensive income (824) (44,397) - -
-------------- -------------- ---------------- -----------------
Net amount recognized $(37,678) $(9,940) $(11,360) $7,504
============== ============== ================ =================
The following actuarial weighted average
assumptions were used in calculating
the benefit obligations at December 31:
Discount rate 6.00% 6.75% 6.00% 6.75%
Average wage increase 4.50% 4.50% N/A N/A
- 94 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The components of net periodic benefit cost are:
FOR THE YEAR ENDED DECEMBER 31,
PENSION BENEFITS OTHER POSTRETIREMENT BENEFITS
2003 2002 2003 2002
---- ---- ---- ----
(In Thousands)
Components of net periodic benefit cost:
Service cost $ 6,214 $5,043 $ 777 $ 528
Interest cost 17,820 17,768 3,154 2,811
Expected return on plan assets (14,180) (19,311) (1,211) (1,810)
Amortization of:
Prior service costs 1,179 1,125 (180) (122)
Transition obligation (asset) (1,054) (1,054) 1,058 1,058
Actuarial (gain) loss 7,514 2,527 1,631 493
Settlements and curtailments 1 653 - -
-------------- -------------- ---------------- -----------------
Net periodic benefit cost $17,494 $6,751 $5,229 $2,958
============== ============== ================ =================
The following actuarial weighted average
assumptions were used in calculating
net periodic benefit cost:
Discount rate 6.75% 6.75% 6.75% 6.75%
Average wage increase 4.50% 4.50% N/A N/A
Return on plan assets 8.00% 9.50% 8.00% 9.50%
A one percentage point change in the assumed health care cost trend rate would
have the following effects:
1% INCREASE 1% DECREASE
----------- -----------
(In Thousands)
Aggregate service and interest cost components $583 $(465)
Accumulated postretirement benefit obligation $6,639 $(5,372)
UI has a 401(k)/Employee Stock Ownership Plan (KSOP) in which substantially all
of its employees and the employees of UIL Holdings, APS and UCI, are eligible to
participate. The KSOP enables employees to defer receipt of a portion of their
compensation, up to statutory limits, and to invest such funds in a number of
investment alternatives. Matching contributions are made to the KSOP, in the
form of UIL Holdings' common stock, based on each employee's salary deferrals in
the KSOP. Through December 31, 2002, the matching contribution equaled fifty
cents for each dollar of the employee's compensation deferred, but not more than
3 3/8% of the employee's annual salary. As of January 1, 2003, the matching
contribution to the KSOP is 100% of the first 3% of employee compensation
deferred and 50% of the next 2% deferred. The maximum match is 4% of annual
salary and all matching contributions continue to be made in the form of UIL
Holdings' common stock. Matching contributions to the KSOP during 2003, 2002 and
2001 were $2.1 million, $1.7 million and $1.6 million, respectively.
UIL Holdings pays dividends on the shares of stock in the KSOP to the
participant and UIL Holdings receives a tax deduction for the dividends paid.
Prior to 2003, to distribute this tax benefit to participants, contributions
made to the KSOP were equal to 25% of the dividends paid to each participant.
These contributions amounted to $0.3 million in 2002 and 2001. Commencing in
2003, UIL Holdings ceased making such contributions and does not plan to make
such contributions in the future.
- 95 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Certain of Xcelecom's subsidiaries make contributions to union-administered
benefit funds, which cover the majority of the subsidiaries' union employees.
Governmental regulations require that, in the event of plan termination or
employer withdrawal, an employer may be liable for a portion of the plan's
unfunded vested benefits, if any. Xcelecom is not aware of any liabilities
resulting from unfunded vested benefits related to union-administered benefit
plans. Xcelecom does not anticipate withdrawal from the plans, nor is Xcelecom
aware of any expected plan terminations.
In December of 2001, Xcelecom established the Xcelecom, Inc. 401(k) Plan. Upon
establishment, Xcelecom merged each of the separate subsidiary non-union
retirement plans into this single company-wide plan in a staged manner.
Beginning on January 1, 2002, Xcelecom non-union employees in subsidiaries
merged into this plan are eligible to participate upon completing six months of
service and attaining age twenty-one. Participants become vested in matching
contributions immediately upon entry into the plan. Xcelecom makes matching
contributions equal to 100% of the first 3% of employee salary deferred and 50%
of any salary deferrals that exceed 3% but do not exceed 5% of the participant's
compensation.
Certain of Xcelecom's subsidiaries maintained separate defined contribution
employee retirement plans for part or all of 2002, pending merger into
Xcelecom's 401(k) Plan. These plans are open to certain employees after various
lengths of service. Employee contributions and employer matching contributions
occur at different rates, and the matched portions of the funds vest over a
period of years. Contributions for the profit sharing portion of the Plans are
generally at the discretion of the individual subsidiary.
(H) UNAMORTIZED CANCELLED NUCLEAR PROJECT
From December 1984 through December 1992, UI had been recovering its investment
in Seabrook Unit 2, a partially constructed nuclear generating unit that was
cancelled in 1984, over a regulatory approved ten-year period without a return
on its unamortized investment. In a 1992 rate decision, the DPUC adopted a
proposal by UI to write off its remaining investment in Seabrook Unit 2,
beginning January 1, 1993, over a 24-year period, corresponding with the
flowback of certain Connecticut Corporation Business Tax (CCBT) credits. This
decision allows UI to retain the Seabrook Unit 2/CCBT amounts for ratemaking
purposes, with the accumulated CCBT credits not deducted from rate base during
the 24-year period of amortization in recognition of a longer period of time for
amortization of the Seabrook Unit 2 balance. Unit 2 was sold on November 1,
2002. As a result of reducing its remaining unamortized investment in Seabrook
Unit 2 with related proceeds from the sale, UI's investment has been fully
amortized. A draft decision was issued on February 3, 2004, approving UI's
calculation without modification. A final decision is scheduled for the
beginning of March 2004.
(I) LEASE OBLIGATIONS
UIL Holdings and its wholly-owned direct and indirect subsidiaries have lease
arrangements for data processing equipment, office equipment, vehicles and
office space, including the lease of the Electric System Work Center (ESWC)
facility that is recognized as a capital lease. On January 20, 2004, UI
exercised the $16 million purchase option in connection with the capital lease
for the ESWC facility.
The gross amount of assets recorded under the capital lease and the related
obligation of this lease as of December 31, 2003 are recorded on the
Consolidated Balance Sheet.
Capitalization of leases on UI's books has no impact on income, since the sum of
the amortization of a leased asset and the interest on the lease obligation
equals the rental expense allowed for ratemaking purposes.
Operating leases, which are charged to operating expense, consist principally of
leases of office space and facilities and a wide variety of equipment. The most
significant operating lease is that of UI and UIL Holdings' corporate
- 96 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
headquarters. Operating leases of discontinued operations have been excluded
from the following table. The future minimum lease payments under these
operating leases is estimated to be as follows:
(In Thousands)
2004 $ 11,639
2005 12,311
2006 11,712
2007 12,010
2008 - after 54,294
----------------
Total $101,966
================
Rental payments charged to operating expenses in 2003, 2002 and 2001, including
rental payments for its corporate headquarters, were $13.8 million, $13.0
million, and $12.4 million, respectively.
(J) COMMITMENTS AND CONTINGENCIES
OTHER COMMITMENTS AND CONTINGENCIES
CONNECTICUT YANKEE
On December 4, 1996, the Board of Directors of the Connecticut Yankee Atomic
Power Company (Connecticut Yankee) voted unanimously to retire the Connecticut
Yankee nuclear plant (the Connecticut Yankee Unit) from commercial operation. UI
has a 9.5% stock ownership share in Connecticut Yankee. The power purchase
contract under which UI had purchased its 9.5% entitlement to the Connecticut
Yankee Unit's power output permits Connecticut Yankee to recover 9.5% of all of
its costs from UI. A decision by the FERC that became effective on August 1,
2000 allows Connecticut Yankee to collect through the power contracts with the
unit's owners the FERC-approved decommissioning costs, other costs associated
with the permanent shutdown of the Connecticut Yankee Unit, the unrecovered
investment in the Connecticut Yankee Unit, and a return on equity of 6%.
As part of an ongoing review process, management of Connecticut Yankee has
prepared an updated estimate of the cost of decommissioning its nuclear unit, as
part of its transition to self performance of decommissioning. Connecticut
Yankee's updated cost estimate includes an increase of approximately $273
million over the cost estimate reported in November 2002.
The $273 million increase in the decommissioning cost estimate primarily
reflects the impacts of the termination of the turnkey decommissioning
contractor, Bechtel Power Corporation, (Bechtel) in July 2003. Connecticut
Yankee terminated its decommissioning contract with Bechtel in July 2003 due to
Bechtel's history of incomplete and untimely performance and refusal to perform
remaining decommissioning work. In June 2003, Bechtel filed a complaint against
Connecticut Yankee in Connecticut Superior Court asserting a number of claims,
including wrongful termination. In August, 2003, Connecticut Yankee filed a
counterclaim, including counts for breach of contract, negligent
misrepresentation and breach of duty of good faith and fair dealing. Bechtel has
departed the site and the decommissioning responsibility has been transitioned
to Connecticut Yankee, which has recommenced the decommissioning process.
As part of the Connecticut Yankee April 2000 rate case settlement with the FERC,
remaining decommissioning costs were originally estimated at $410 million. The
original estimate was updated in November 2002 to increase the estimated
decommissioning costs by approximately $140 million. The $140 million increase
stemmed primarily from additional security costs, as well as the corollary
economic impacts of increased insurance costs and other factors. Consequently,
the total current cost estimate of approximately $823 million represents an
- 97 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
aggregate increase of approximately $413 million over the April 2000 FERC rate
case settlement. Connecticut Yankee is required to update its decommissioning
cost estimate through a filing with the FERC by no later than July 1, 2004.
UI's share of the estimated increased cost of $273 million over the estimate
reported in November 2002 would be approximately $25.9 million. This increase
will not impact current period earnings as the amounts will be deferred on the
balance sheet pending resolution of the litigation and regulatory proceedings
described herein. Ultimately, if this issue is resolved favorably, the costs
will be recovered and therefore would not likely have a financial impact on the
results of operations.
Connecticut Yankee is seeking recovery of additional decommissioning costs and
other damages from Bechtel and, if necessary, its surety. In addition to
pursuing this recovery through pending litigation, Connecticut Yankee is also
preparing a rate application with the FERC, with any resulting Connecticut
Yankee rate increase being charged to its wholesale power customers (including
UI, which is responsible for 9.5% of the costs of the Connecticut Yankee nuclear
unit). In turn, UI would seek to recover any FERC-allowed rate increase from its
retail customers through appropriate regulatory proceedings. The timing, amount
and outcome of such regulatory proceedings cannot be predicted at this time.
To the extent that the new estimates described above are related to spent fuel
storage, they could be affected by the outcome of an ongoing dispute between the
federal Department of Energy (DOE) and several utilities and states. Under the
Nuclear Waste Policy Act of 1982 (the Act), the DOE is required to design,
license, construct and operate a permanent repository for high-level radioactive
waste and spent nuclear fuel. The Act requires the DOE to provide for the
disposal of spent nuclear fuel and high-level waste from commercial nuclear
plants through contracts with the owners. In return for payment of established
disposal fees, the federal government was required to take title to and dispose
of the utilities' high-level waste and spent nuclear fuel beginning no later
than January 1998. After the DOE announced that its first high-level waste
repository will not be in operation earlier than 2010, several utilities and
states obtained a judicial declaration that the DOE has a statutory
responsibility to take title to and dispose of high-level waste and spent
nuclear fuel beginning in January 1998. Although the federal government now
concedes that its failure to begin disposing of high-level waste and spent
nuclear fuel in January 1998 constituted a breach of contract, it continues to
dispute that the entities with which it had contracts are entitled to damages.
HYDRO-QUEBEC
UI is a participant in the Hydro-Quebec transmission tie facility linking New
England and Quebec, Canada. UI has a 5.45% participating share in this facility,
which in aggregate have a maximum 2000 megawatt equivalent generation capacity
value. UI is obligated to furnish a guarantee for its participating share of the
debt financing for one phase of this facility. As of December 31, 2003, UI's
guarantee liability for this debt was approximately $3.8 million.
ENVIRONMENTAL CONCERNS
In complying with existing environmental statutes and regulations and further
developments in areas of environmental concern, including legislation and
studies in the fields of water quality, hazardous waste handling and disposal,
toxic substances, and electric and magnetic fields, UIL Holdings and its
wholly-owned direct and indirect subsidiaries may incur substantial capital
expenditures for equipment modifications and additions, monitoring equipment and
recording devices, and it may incur additional operating expenses. The total
amount of these expenditures is not now determinable. Environmental damage
claims may also arise from the operations of UIL Holdings' subsidiaries.
Significant environmental issues known to UIL Holdings at this time are
described below.
- 98 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
SITE DECONTAMINATION, DEMOLITION AND REMEDIATION COSTS
As a result of a 1992 DPUC retail rate decision, since January 1, 1993, UI had
been recovering through retail rates $1.1 million per year of environmental
remediation costs for the demolition and decontaminating of its Steel Point
Station property in Bridgeport. As a result of the Rate Case decision dated
September 26, 2002, UI will recover the remaining $3 million of these costs
ratably during the 2002 through 2004 time period. This amount reflects the
remaining cost of cleaning up the property, assuming a zero sales value. Final
costs will be offset by any sale price realized, and will be subject to
regulatory true-up upon disposition of the property. UI is also replacing
portions of the bulkhead at the Steel Point Station property. The work is
expected to cost approximately $6.4 million and is currently expected to be
completed in 2004. UI is entitled to reimbursement of these costs from the City
of Bridgeport pursuant to UI's contract with the City.
Subsequent to the demolition of Steel Point Station, the adjacent East Main
Street Substation was removed at the request of the City of Bridgeport. UI will
undertake an environmental subsurface investigation of the former substation
site, but potential environmental remediation costs, if any, cannot be estimated
at this time. Concurrent with the removal of the East Main Street Substation in
2000, the Congress Street Substation was expanded to replace it. As of December
31, 2003, $9.2 million of the total cost is reimbursable from the City of
Bridgeport. An additional $1.4 million of costs related to the Substation are
transmission assets recoverable through regional transmission rates. UI is
currently negotiating with the City of Bridgeport to settle all outstanding
issues between the parties. In the event that an agreement cannot be reached, UI
will move forward with previously initiated arbitration proceedings to collect
these funds from the City of Bridgeport.
UI has completed the replacement of the bulkhead surrounding a site, bordering
the Mill River in New Haven, that contains transmission facilities and
deactivated generation facilities, at a cost of $13.5 million. Of this amount,
$4.2 million represents the portion of the costs to protect UI's transmission
facilities and has been capitalized as plant in service; the remaining estimated
cost of $9.3 million has been expensed. UI has conveyed to an unaffiliated
entity, Quinnipiac Energy LLC (QE), this entire site, reserving to UI permanent
easements for the operation of its transmission facilities on the site. UI has
also funded 61% (approximately $1.2 million) of the estimated environmental
remediation costs that will be incurred by QE to bring the site into compliance
with applicable minimum Connecticut environmental standards. The City of New
Haven is currently considering foreclosing on the property, as QE is not current
with property tax payments. If the City of New Haven forecloses on the property
and it is determined that QE has not performed appropriate environmental
remediation at the site, UI could be required by applicable environmental laws
to finish remediating any contamination at the site. The scope of any required
remediation efforts by UI is not now determinable.
On April 16, 1999, UI closed on the sale of its Bridgeport Harbor Station and
New Haven Harbor Station generating plants in compliance with Connecticut's
electric utility industry restructuring legislation. Environmental assessments
performed in connection with the marketing of these plants indicate that
substantial remediation expenditures will be required in order to bring the
plant sites into compliance with applicable minimum Connecticut environmental
standards. The purchaser of the plants has agreed to undertake and pay for the
remediation of the purchased properties. With respect to the portion of the New
Haven Harbor Station site that UI has retained, UI has performed an additional
environmental analysis and estimates that approximately $3.2 million in
remediation expenses will be incurred. The required remediation is virtually all
on transmission-related property; and UI accrued these estimated expenses during
the third quarter of 2002.
From 1961 to 1976, UI owned a parcel of property in Derby, Connecticut, on which
it operated an oil-fired electric generating unit. For several years, the
Connecticut Department of Environmental Protection has been remediating a
migration of fuel oil contamination from a neighboring parcel of property into
the adjacent Housatonic River. Although, based on its own investigation to date,
UI believes it has no responsibility for this contamination, if regulatory
- 99 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
agencies determine that UI is responsible for the cost of these remediation
activities, UI may experience substantial costs, no estimate of which is
currently available.
CLAIM OF ENRON POWER MARKETING, INC.
UI has an agreement for standard offer generating service with Dominion Energy
Marketing (Dominion), assignee of Virginia Electric and Power Company (VEPCO).
The Dominion/VEPCO agreement replaced an earlier wholesale power agreement and
other related agreements with Enron Power Marketing, Inc. (EPMI), originally
intended to supply all of the power needed to meet UI's standard offer
obligations until the end of the standard offer period (the Agreements).
Following EPMI's bankruptcy filing on December 2, 2001, UI terminated the
Agreements in accordance with their terms, effective January 1, 2002, in
reliance upon provisions of the Bankruptcy Code that permit termination of such
contracts. The Agreements permitted UI to calculate its gains and losses
resulting from the termination, and globally to net these gains and losses
against one another, and against any other amounts that UI owed to EPMI under
the Agreements, to arrive at a single sum. EPMI, however, commenced on January
31, 2003 an adversary proceeding against UI and UIL Holdings in the EPMI
bankruptcy. UIL Holdings was sued as the guarantor of UI's financial obligations
under the Agreements. EPMI contends that UI was not entitled to offset, against
any losses UI suffered from the termination of the Agreements, any amounts owing
to EPMI for power delivered to UI after the date EPMI filed for bankruptcy. The
amount of the allegedly improper setoff that EPMI seeks to recover in the
adversary proceeding is approximately $8.2 million, plus interest and attorneys'
fees. The bankruptcy court has referred this and other similar cases to
mediation and stayed the cases while mediation is conducted. Following the
initial mediation session, EPMI indicated it is considering theories for
increasing the amount it claimed from UI. In the event that UI is determined to
owe EPMI a portion or all of the amount claimed, UI will seek recovery of such
amount through the regulatory process.
CROSS-SOUND CABLE COMPANY, LLC
UCI's 25% share of the estimated total final cost of the Cross-Sound project is
$34.4 million. As of December 31, 2003, UCI's 25% share of the actual project
cost for the Cross-Sound cable was $33 million. UCI has provided an equity
infusion of $10 million to Cross-Sound and UIL Holdings loaned $23.5 million to
Cross-Sound. In addition, a guarantee of $3.8 million, in support of
Hydro-Quebec's guarantees to third parties in connection with the construction
of the project has been provided. It is expected that any obligations of
Cross-Sound that are supported by the guarantee would be funded by capital
contributions from the owners, who are affiliates of the guarantors, in amounts
in proportion to their respective ownership shares of Cross-Sound. No liability
was recorded related to the guarantee, as the likelihood of UIL Holdings having
to perform under the guarantee is remote. Although commercial operation has not
yet been achieved, the cable has been operating under a DOE Emergency Order
since the August 14, 2003 blackout and is expected to remain operational under
this order until such time as the Emergency identified in the Order ceases to
exist. Upon commercial operation, the loan from UIL Holdings is expected to be
refinanced with external project financing. UCI will be responsible for 25% of
any additional cost of project completion over the estimated amount.
- 100 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(K) FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of UIL Holdings' financial instruments are as follows:
2003 2002
---- ----
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
-------- ----- ------ -----
(In Thousands) (In Thousands)
Unrestricted cash and temporary cash investments $28,614 $28,614 $18,910 $18,910
Long-term debt (1)(2) $495,460 $511,184 $495,432 $512,297
(1) The fair value of UIL Holdings' long-term debt is estimated by investment
bankers based on market conditions at December 31, 2003 and 2002,
respectively.
(2) See Note (B), "Capitalization - Long-Term Debt."
- 101 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(L) QUARTERLY FINANCIAL DATA (UNAUDITED)
Selected quarterly financial data for 2003 and 2002 are set forth below:
1ST 2ND 3RD 4TH
QUARTER QUARTER QUARTER QUARTER
--------------------------------------------------
(In Thousands Except Per Share Amounts)
2003
- ----
Operating Revenues $234,239 $230,621 $269,703 $229,114
Operating Income from Continuing Operations 19,030 16,694 36,277 16,956
Income from Continuing Operations 5,518 5,005 16,601 2,413
Income from Discontinued Operations (252) (703) 351 (5,647)
Net Income 5,266 4,302 16,952 (3,234)
Earnings Per Share on Common Stock - Basic: (1)
Continued Operations $ 0.39 $ 0.35 $ 1.16 $ 0.17
Discontinued Operations (0.02) (0.05) 0.03 (0.40)
Net Earnings $ 0.37 $ 0.30 $ 1.19 $ (0.23)
Earnings Per Share on Common Stock - Diluted: (1)
Continued Operations $ 0.39 $ 0.35 $ 1.16 $ 0.17
Discontinued Operations (0.02) (0.05) 0.03 (0.40)
Net Earnings $ 0.37 $ 0.30 $ 1.19 $ (0.23)
2002
- ----
Operating Revenues $236,645 $260,628 $298,392 $241,931
Operating Income from Continuing Operations 28,092 32,232 47,172 17,206
Income from Continuing Operations 9,571 9,439 21,959 4,782
Income from Discontinued Operations (2) (299) (152) (1,351)
Net Income 9,569 9,140 21,807 3,431
Earnings Per Share on Common Stock - Basic: (1)
Continued Operations $ 0.68 $ 0.66 $ 1.54 $ 0.34
Discontinued Operations - (0.02) (0.01) (0.10)
Net Earnings $ 0.68 $ 0.64 $ 1.53 $ 0.24
Earnings Per Share on Common Stock - Diluted: (1)
Continued Operations $ 0.67 $ 0.66 $ 1.54 $ 0.34
Discontinued Operations - (0.02) (0.01) (0.10)
Net Earnings $ 0.67 $ 0.64 $ 1.53 $ 0.24
(1) Based on weighted average number of shares outstanding each quarter.
- 102 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(M) SEGMENT INFORMATION
As described in Note (O), "Discontinued Operations," to the consolidated
financial statements, APS has been classified as "held for sale" and its results
of operations are reported as discontinued operations. Accordingly, UIL Holdings
now has two segments, UI, its regulated electric utility business engaged in the
purchase, transmission, distribution and sale of electricity, and Xcelecom, its
non-utility, indirect, wholly-owned subsidiary, which provides specialized
contracting services in the electrical, mechanical, communications and data
network infrastructure industries. Revenues from inter-segment transactions are
not material. All of UIL Holdings' revenues are derived in the United States.
The following table reconciles certain segment information with that provided in
UIL Holdings' Consolidated Financial Statements. In the table, Other includes
the information for the remainder of UIL Holdings' non-utility businesses and
inter-segment eliminations.
2003 2002
---- ----
Total Assets (In Thousands)
- ------------
UI $1,465,859 $1,403,283
Xcelecom 176,759 195,721
Assets of discontinued operations held for sale 120,261 123,005
Other 102,124 58,802
---------------------------
Total UIL Holdings $1,865,003 $1,780,811
===========================
2003 2002 2001
---- ---- ----
Revenues from External Customers (In Thousands)
- --------------------------------
UI $669,620 $727,533 $714,818
Xcelecom 294,036 310,044 312,556
Other 21 19 86
---------------------------------------------
Total UIL Holdings $963,677 $1,037,596 $1,027,460
=============================================
2003 2002 2001
---- ---- ----
Income (Loss) from Continuing Operations (In Thousands)
- ----------------------------------------
before Income Taxes
- ------------------
UI $78,188 $96,865 $102,971
Xcelecom (2,618) 2,387 10,869
Other (12,583) (16,023) (6,062)
---------------------------------------
Total UIL Holdings $62,987 $83,229 $107,778
=======================================
- 103 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(N) GOODWILL AND OTHER INTANGIBLE ASSETS
As of December 31, 2003, and 2002, UIL Holdings maintains $68.6 million and $67
million, respectively, of goodwill related to Xcelecom that is no longer being
amortized, and $2.7 million and $1.7 million, at December 31, 2003 and 2002,
respectively, of identifiable intangible assets that continue to be amortized.
A summary of UIL Holdings' goodwill as of December 31, 2003 is as follows:
(Thousands of Dollars) Total
--------------
Balance, January 1, 2002 $56,974
Goodwill acquired during the year ended December 31, 2002 9,983
--------------
Balance, December 31, 2002 66,957
Goodwill acquired during the year ended December 31, 2003 1,597
--------------
Balance, December 31, 2003 $68,554
==============
An impairment charge of $7.2 million was recognized during the fourth quarter of
2003 to bring the goodwill balance associated with APS' telephony assets in line
with the estimated fair value. This impairment loss is included in the results
of discontinued operations. The remaining APS goodwill balance of $2.1 million
is reported as long-term assets of discontinued operations held for sale in the
accompanying Consolidated Balance Sheet. There were no other impairments to the
goodwill balances recognized during the year ended December 31, 2003.
As of December 31, 2003 and 2002, UIL Holdings' intangible assets and related
accumulated amortization consisted of the following:
As of December 31, 2003
------------------------------------------
Accumulated Net
(Thousands of Dollars) Gross Amortization Balance
------------------------------------------
Intangible assets subject to
amortization:
Non-compete agreements $2,485 $2,178 $307
Backlog 256 256 -
------------------------------------------
Total $2,741 $2,434 $307
==========================================
As of December 31, 2002
------------------------------------------
Accumulated Net
(Thousands of Dollars) Gross Amortization Balance
------------------------------------------
Intangible assets subject to
amortization:
Non-compete agreements $1,485 $1,057 $428
Backlog 256 214 42
------------------------------------------
Total $1,741 $1,271 $470
==========================================
The intangible asset balance is included in Other Deferred Charges on the
Consolidated Balance Sheet.
- 104 -
UIL HOLDINGS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
UIL Holdings recorded amortization expense of $1.2 million for 2003 related to
these intangible assets. Assuming there are no acquisitions or dispositions that
occur in the future, the estimated amortization expense for the years 2004
through 2008 is as follows:
2004 2005 2006 2007 2008
---- ---- ---- ---- ----
(In Thousands)
$307 - - - -
For 2001, UIL Holdings' net income, adjusted to exclude the effect of
amortization of goodwill during those periods, was $61.6 million. Basic and
diluted earnings per share for UIL Holdings, adjusted to exclude the effect of
amortization of goodwill during 2001, were $4.37 and $4.35 per share,
respectively.
(O) DISCONTINUED OPERATIONS
On December 16, 2003, UIL Holdings entered into an agreement to sell APS to
CheckFree Corporation (CheckFree), a leading provider of financial electronic
commerce services and products. Under the terms of the agreement, and pending
receipt of regulatory approvals and satisfaction of customary closing
conditions, CheckFree will pay approximately $110 million in cash for the
outstanding stock of APS. The transaction is expected to close during the second
quarter of 2004, with any resulting gain on sale, net of transaction costs, to
be recognized at that time.
CheckFree will not acquire APS' telephony assets, which include APS' 51%
ownership interest in CellCards of Illinois, LLC (CCI). Following execution of
the agreement to sell APS, management determined that the telephony business is
not part of UIL Holdings' overall strategic business focus, and therefore
authorized the sale of APS' telephony assets. On February 13, 2004, CCI was sold
for book value to an independent third party.
As a result of the aforementioned events, the APS segment is considered to be a
"disposal group" held for sale as defined in SFAS No. 144. Accordingly, the
assets and liabilities of APS have been categorized as "held for sale" in the
accompanying Consolidated Balance Sheet and the assets of APS are no longer
being depreciated. The related asset carrying values were adjusted, if
appropriate, to reflect the lower of either the carrying amounts or the current
estimated fair values less costs to sell. The results of operations of APS for
all periods presented, as well as the write-downs to estimated fair values less
costs to sell, have been reported as discontinued operations in the accompanying
Consolidated Statements of Income and Consolidated Statements of Cash Flows.
A summary of the discontinued operations of APS for the years ended December 31
follows (in thousands):
2003 2002 2001
---- ---- ----
Net operating revenues $109,570 $93,426 $58,386
=====================================
Impairment loss $ (8,220) $ - $ -
=====================================
Operating income (loss) $ 1,082 $(3,376) $ 111
=====================================
Loss before income taxes $(10,249) $(3,019) $ (224)
Income tax benefit 3,998 1,215 24
-------------------------------------
Net loss from discontinued operations $ (6,251) $(1,804) $ (200)
=====================================
- 105 -
PRICEWATERHOUSE COOPERS
- -------------------------------------------------------------------------------
PricewaterhouseCoopers LLP
1301 Avenue of the Americas
New York, NY 10019-6013
Telephone (646) 471 4000
Facsimile (646) 394 5324
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Shareholders
of UIL Holdings Corporation:
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of income, comprehensive income, changes in
shareholders' equity and cash flows present fairly, in all material respects,
the financial position of UIL Holdings Corporation and its subsidiaries (the
"Company") at December 31, 2003 and 2002, and the results of their operations
and their cash flows for each of the three years in the period ended December
31, 2003 in conformity with accounting principles generally accepted in the
United States of America. These financial statements are the responsibility of
the Company's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
statements in accordance with auditing standards generally accepted in the
United States of America, which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
As discussed in Note A to the financial statements, the Company changed its
accounting for goodwill and other intangible assets as of January 1, 2002.
/s/ PricewaterhouseCoopers LLP
January 26, 2004
- 106 -
PRICEWATERHOUSE COOPER
- -------------------------------------------------------------------------------
PricewaterhouseCoopers LLP
1301 Avenue of the Americas
New York, NY 10019-6013
Telephone (646) 471 4000
Facsimile (646) 394 5324
REPORT OF INDEPENDENT AUDITORS ON
FINANCIAL STATEMENT SCHEDULES
To the Board of Directors and Shareholders
of UIL Holdings Corporation:
Our audits of the consolidated financial statements referred to in our report
dated January 26, 2004 appearing in the 2003 Annual Report on Form 10-K also
included an audit of the financial statement schedules listed in Item 15(a)(2)
of this Form 10-K. In our opinion, these financial statement schedules present
fairly, in all material respects, the information set forth therein when read
in conjunction with the related consolidated financial statements.
/s/ PricewaterhouseCoopers LLP
January 26, 2004
- 107 -
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES.
Not Applicable
ITEM 9A. CONTROLS AND PROCEDURES.
UIL Holdings Corporation (UIL Holdings) maintains disclosure controls and
procedures that are designed to ensure that information required to be disclosed
in its periodic reports to the Securities and Exchange Commission (SEC) is
recorded, processed, summarized and reported within the time periods specified
in the SEC's rules and forms, and that such information is accumulated and
communicated to UIL Holdings' management, including its Chief Executive Officer
and Chief Financial Officer, as appropriate, to allow timely decisions regarding
required disclosure based closely on the definition of "disclosure controls and
procedures" in Rule 13a-14(c). In designing and evaluating the disclosure
controls and procedures, management recognized that any controls and procedures,
no matter how well designed and operated, can provide only reasonable assurance
of achieving the desired control objectives, and management necessarily was
required to apply its judgment in evaluating the cost-benefit relationship of
possible controls and procedures. Also, through United Capital Investments, Inc.
and United Bridgeport Energy, Inc., UIL Holdings has minority investments in
certain other entities. As UIL Holdings does not control or manage these
entities, its disclosure controls and procedures with respect to such entities
are necessarily substantially more limited than those it maintains with respect
to its subsidiaries.
UIL Holdings carried out an evaluation, under the supervision and with the
participation of its management, including its Chief Executive Officer and its
Chief Financial Officer, of the effectiveness of the design and operation of UIL
Holdings' disclosure controls and procedures as of December 31, 2003. Based on
the foregoing, UIL Holdings' Chief Executive Officer and Chief Financial Officer
concluded that its disclosure controls and procedures were effective.
There have been no changes in UIL Holdings' internal control over financial
reporting during the quarter ended December 31, 2003 that have materially
affected, or are reasonably likely to materially affect UIL Holdings' internal
control over financial reporting.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS.
The information appearing under the captions "NOMINEES FOR ELECTION AS
DIRECTORS" AND "SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE" in UIL
Holdings Corporation's (UIL Holdings') definitive Proxy Statement for the Annual
Meeting of the Shareowners to be held on May 12, 2004, which Proxy Statement
will be filed with the Securities and Exchange Commission on or about April 9,
2004, is incorporated by reference in partial answer to this item. See also
"EXECUTIVE OFFICERS", following Part I, Item 4 herein. The UIL Holdings Code of
Ethics for the Chief Executive Officer, Presidents, and Senior Financial
Officers is available on UIL Holdings' website (www.uil.com), and a copy has
also been filed as Exhibit 14 to this filing on Form 10-K.
ITEM 11. EXECUTIVE COMPENSATION.
The information appearing under the captions "EXECUTIVE COMPENSATION,"
"OPTIONS/SAR GRANTS IN LAST FISCAL YEAR," "STOCK OPTION EXERCISES IN 2003 AND
YEAR-END OPTION VALUES," "RETIREMENT PLANS," "BOARD OF DIRECTORS COMPENSATION
AND EXECUTIVE DEVELOPMENT COMMITTEE REPORT ON EXECUTIVE COMPENSATION,"
"COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION," "DIRECTOR
COMPENSATION" and "SHAREOWNER RETURN PRESENTATION" in UIL Holdings' definitive
Proxy Statement for the Annual Meeting of the Shareowners to be held on May 12,
2004, which Proxy Statement will be filed with the Securities and Exchange
Commission on or about April 9, 2004, is incorporated by reference in answer to
this item.
- 108 -
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information appearing under the captions "PRINCIPAL SHAREOWNERS" and "STOCK
OWNERSHIP OF DIRECTORS AND OFFICERS" in UIL Holdings' definitive Proxy Statement
for the Annual Meeting of the Shareowners to be held on May 12, 2004, which
Proxy Statement will be filed with the Securities and Exchange Commission on or
about April 9, 2004, is incorporated by reference in answer to this item.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Under a lease agreement dated May 7, 1991, The United Illuminating Company (UI)
leased its corporate headquarters offices in New Haven from Connecticut
Financial Center Associates Limited Partnership (CFCALP). CFCALP is a limited
partnership controlled by the David T. Chase family, including Arnold L. Chase,
a Director of UIL Holdings since June 28, 1999, and members of his immediate
family. During 2003, UI's lease payments to CFCALP totaled $8.7 million.
A subsidiary of UIL Holdings, Inc., United Capital Investments, Inc. (UCI),
invested $3.9 million in 2000 and 2001 to purchase a minority ownership interest
in Gemini Networks, Inc. (Gemini). Gemini proposes to develop, build, and
operate an open-access, hybrid fiber coaxial communications network serving
business and residential customers in the northeastern United States. Gemini is
a corporation controlled by the David T. Chase family, and Arnold L. Chase is
the President and a Director of Gemini. In June 2002, UCI wrote its investment
in Gemini down to one dollar, because the telecommunications sector had suffered
substantial losses in value, and because UCI concluded that Gemini was unlikely
to continue its network development in the absence of additional financing. In
December 2003, Gemini completed a restructuring transaction in connection with
which the Chase family came to own 100% of the equity of Gemini. In connection
with that transaction, UCI is entitled to a cash payment of approximately
$17,500 in exchange for its ownership interest in Gemini, and expects to receive
that amount in the first quarter of 2004.
Since January 1, 2002, there has been no other transaction, relationship or
indebtedness of the kinds described in Item 404 of Regulation S-K.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.
The information appearing under the captions "BOARD OF DIRECTORS REPORT OF THE
AUDIT COMMITTEE" in UIL Holdings' definitive Proxy Statement for the Annual
Meeting of the Shareowners to be held on May 12, 2004, which Proxy Statement
will be filed with the Securities and Exchange Commission on or about April 9,
2004, is incorporated by reference in answer to this item.
- 109 -
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) The following documents are filed as a part of this report:
Financial Statements (see Item 8):
Consolidated statement of income for the years ended December 31, 2003,
2002 and 2001
Consolidated statement of comprehensive income for the years ended
December 31, 2003, 2002 and 2001
Consolidated statement of cash flows for the years ended December 31,
2003, 2002 and 2001
Consolidated Balance Sheet, December 31, 2003 and 2002
Consolidated statement of changes in shareholders' equity for the years
ended December 31, 2003, 2002 and 2001
Notes to consolidated financial statements
Report of independent auditors
Financial Statement Schedule (see S-1)
Schedule II - Valuation and qualifying accounts for the years ended
December 31, 2003, 2002 and 2001.
- 110 -
Exhibits:
Pursuant to Rule 12b-32 under the Securities Exchange Act of 1934, certain of
the following listed exhibits, which are annexed as exhibits to previous
statements and reports filed by UIL Holdings Corporation (Commission File Number
1-5995) (UIL) and/or The United Illuminating Company (Commission File Number
1-6788) (UI), are hereby incorporated by reference as exhibits to this report.
Such statements and reports are identified by reference numbers as follows:
(1) Filed with UI and UIL Quarterly Report (Form 10-Q) for fiscal quarter ended
September 30, 2000.
(2) Filed with UIL Quarterly Report (Form 10-Q) for fiscal quarter ended June
30, 2002.
(3) Filed with UI Registration Statement No. 33-40169, effective August 12,
1991.
(4) Filed with UI Registration Statement No. 2-57275, effective October 19,
1976.
(5) Filed with UI Annual Report (Form 10-K) for fiscal year ended December 31,
1995.
(6) Filed with UI Annual Report (Form 10-K) for fiscal year ended December 31,
1996.
(7) Filed with UI Registration Statement No. 2-60849, effective July 24, 1978.
(8) Filed with UI Annual Report (Form 10-K) for fiscal year ended December 31,
1991.
(9) Filed with UI Quarterly Report (Form 10-Q) for fiscal quarter ended June
30, 1997.
(10) Filed with UIL Quarterly Report (Form 10-Q) for fiscal quarter ended
September 30, 2002.
(11) Filed with UI Quarterly Report (Form 10-Q) for fiscal quarter ended
September 30, 1997.
(12) Filed with UI Annual Report (Form 10-K) for fiscal year ended December 31,
1999.
(13) Filed with UI Quarterly Report (Form 10-Q) for fiscal quarter ended June
30, 2001.
(14) Filed with UI Quarterly Report (Form 10-Q) for fiscal quarter ended March
31, 1998.
(15) Filed with UI Quarterly Report (Form 10-Q) for fiscal quarter ended June
30, 1999.
(16) Filed with UIL Quarterly Report (Form 10-Q) for fiscal quarter ended
September 30, 2001.
(17) Filed with UI Annual Report (Form 10-K) for fiscal year ended December 31,
2000.
(18) Filed with UIL Quarterly Report (Form 10-Q) for fiscal quarter ended March
31, 2003.
- 111 -
The exhibit number in the statement or report referenced is set forth in the
parenthesis following the description of the exhibit. Those of the following
exhibits not so identified are filed herewith.
Exhibit
Table Exhibit Reference
Item No. No. No. Description
- ------- ------- --------- -----------
(2) 2** Copy of Stock Purchase Agreement by and among UIL Holdings Corporation,
United Resources, Inc. and CheckFree Corporation, dated December 16,
2003.
(3) 3.1 (1) Copy of Certificate of Incorporation of UIL Holdings Corporation, as
amended through July 20, 2000. (Exhibit 3.3)
(3) 3.2 (2) Copy of Bylaws of UIL Holdings Corporation, as amended through July 22,
2002. (Exhibit 3.2a)
(4) 4.1 (3) Copy of Indenture, dated as of August 1, 1991, from The United
Illuminating Company to The Bank of New York, Trustee. (Exhibit 4)
(10) 10.1 (4) Copy of Stockholder Agreement, dated as of July 1, 1964, among the
various stockholders of Connecticut Yankee Atomic Power Company,
including The United Illuminating Company. (Exhibit 5.1-1)
(10) 10.2a (4) Copy of Power Contract, dated as of July 1, 1964, between Connecticut
Yankee Atomic Power Company and The United Illuminating Company.
(Exhibit 5.1-2)
(10) 10.2b (5) Copy of Additional Power Contract, dated as of April 30, 1984, between
Connecticut Yankee Atomic Power Company and The United Illuminating
Company. (Exhibit 10.2f)
(10) 10.2c (6) Copy of 1987 Supplementary Power Contract, dated as of April 1, 1987,
supplementing Exhibits 10.2a and 10.2b. (Exhibit 10.2c)
(10) 10.2d (6) Copy of 1996 Amendatory Agreement, dated as of December 4, 1996, amending
Exhibits 10.2b and 10.2c. (Exhibit 10.2d)
(10) 10.2e (6) Copy of First Supplement to 1996 Amendatory Agreement, dated as of
February 10, 1997, supplementing Exhibit 10.2d. (Exhibit 10.2e)
(10) 10.3 (4) Copy of Capital Funds Agreement, dated as of September 1, 1964, between
Connecticut Yankee Atomic Power Company and The United Illuminating
Company. (Exhibit 5.1-3)
(10) 10.4 (7) Copy of Capital Contributions Agreement, dated October 16, 1967, between
The United Illuminating Company and Connecticut Yankee Atomic Power
Company. (Exhibit 5.1-5)
(10) 10.5a (7) Copy of Transmission Line Agreement, dated January 13, 1966, between the
Trustees of the Property of The New York, New Haven and Hartford
Railroad Company and The United Illuminating Company. (Exhibit 5.4)
(10) 10.5b (8) Notice, dated April 24, 1978, of The United Illuminating Company's
intention to extend term of Transmission Line Agreement dated January
13, 1966, Exhibit 10.5a. (Exhibit 10.9b)
(10) 10.5c (8) Copy of Letter Agreement, dated March 28, 1985, between The United
Illuminating Company and National Railroad Passenger Corporation,
supplementing and modifying Exhibit 10.5a. (Exhibit 10.9c)
(10) 10.5d (9) Copy of Notice, dated April 22, 1997, of The United Illuminating
Company's intention to extend term of Transmission Line Agreement,
Exhibit 10.5a, as supplemented and modified by Exhibit 10.5c.
(Exhibit 10.9d)
(10) 10.5e Copy of Transmission Line Agreement, dated May 15, 2003, between the
State of Connecticut Department of Transportation and The United
Illuminating Company, amending and restating Exhibit 10.5a.
- 112 -
Exhibit
Table Exhibit Reference
Item No. No. No. Description
- ------- ------- --------- -----------
(10) 10.6a (10) Copy of Agreement and Supplemental Agreement, effective June 9, 2002,
between The United Illuminating Company and Local 470-1, Utility
Workers Union of America, AFL-CIO. (Exhibit 10.7d)
(10) 10.7a* (11) Copy of Employment Agreement, dated as of March 1, 1997, between The
United Illuminating Company and Charles J. Pepe. (Exhibit 10.31)
(10) 10.7b* (12) Copy of First Amendment to Employment Agreement between The United
Illuminating Company and Charles J. Pepe, dated as of December 13,
1999. (Exhibit 10.19b*)
(10) 10.7c* (13) Copy of Third Amendment to Employment Agreement between The United
Illuminating Company and Charles J. Pepe, dated as of June 1, 2001.
(Exhibit 10.11c*)
(10) 10.8a* (14) Copy of Employment Agreement, dated as of February 23, 1998, between The
United Illuminating Company and Nathaniel D. Woodson. (Exhibit 10.28)
(10) 10.8b* (12) Copy of First Amendment to Employment Agreement between The United
Illuminating Company and Nathaniel D. Woodson, dated as of December 13,
1999. (Exhibit 10.20b*)
(10) 10.9a* (14) Copy of The United Illuminating Company Phantom Stock Option Agreement,
dated as of February 23, 1998, between The United Illuminating Company
and Nathaniel D. Woodson. (Exhibit 10.29)
(10) 10.9b* (1) Copy of First Amendment, made as of the close of business on July 20,
2000, to The United Illuminating Company Phantom Stock Option
Agreement, dated as of February 28, 1998, between The United
Illuminating Company and Nathaniel D. Woodson. (Exhibit 10.21b+)
(10) 10.10* (1) Copy of Employment Agreement, made as of June 26, 2000, between The
United Illuminating Company and Susan E. Allen. (Exhibit 10.29+)
(10) 10.11* (1) Copy of Resolution adopted by the Board of Directors of The United
Illuminating Company on June 26, 2000, and effective at the close of
business on July 20, 2000, amending Section 7 of each of the Employment
Exhibits 10.7a*, 10.8a* and 10.10*. (Exhibit 10.30+)
(10) 10.12* (2) Copy of Employment Agreement, dated as of April 22, 2002, between UIL
Holdings Corporation and Louis J. Paglia. (Exhibit 10.22+)
(10) 10.13a* (6) Copy of The United Illuminating Company 1990 Stock Option Plan, as
amended on December 20, 1993, January 24, 1994 and August 22, 1994.
(Exhibit 10.18*)
(10) 10.13b* (1) Copy of First Amendment to The United Illuminating Company 1990 Stock
Option Plan, as previously amended through August 22, 1994, effective
immediately prior to the close of business on July 20, 2000. (Exhibit
10.23b+)
(10) 10.13c* (1) Copy of Instrument of Assumption of Stock Option Plans, made as of
July 21, 2000, between UIL Holdings Corporation and The United
Illuminating Company, with respect to Exhibits 10.13a* and 10.13b*.
(Exhibit 10.23c+ and 10.24a+)
(10) 10.14* (18) Copy of UIL Holdings Corporation 1999 Amended and Restated Stock Plan, as
Amended and Restated effective March 24, 2003. (Exhibit 10.16c*)
(10) 10.15* (16) Copy of UIL Holdings Corporation Change In Control Severance Plan (As
Amended and Restated Effective September 24, 2001). (Exhibit 10.21+)
(10) 10.16* (17) Copy of Non-Employee Directors' Common Stock and Deferred Compensation
Plan of UIL Holdings Corporation, as amended through December 31,
2000. (Exhibit 10.19*)
(10) 10.17* (1) Copy of UIL Holdings Corporation Non-Employee Directors Change in Control
Severance Plan. (Exhibit 10.32+)
- 113 -
Exhibit
Table Exhibit Reference
Item No. No. No. Description
- ------- ------- --------- -----------
(10) 10.18* (18) Copy of UIL Holdings Corporation Deferred Compensation Plan, as
originally adopted effective January 27, 2003, reflecting amendments
through March 24, 2003. (Exhibit 10.20*)
(14) 14 Copy of UIL Holdings Corporation Code of Ethics for the Chief Executive
Officer, Presidents, and Senior Financial Officers.
(21) 21 (2) List of subsidiaries of UIL Holdings Corporation. (Exhibit 21a)
(23) 23 Consent of Independent Accountants.
(31) 31.1 Certification of Periodic Financial Report.
(31) 31.2 Certification of Periodic Financial Report.
(32) 32 Certification of Periodic Financial Report.
- ----------------------
* Management contract or compensatory plan or arrangement.
** UIL Holdings agrees to furnish supplementary a copy of any omitted schedules
to this Agreement to the Securities and Exchange Commission upon request.
The foregoing list of exhibits does not include instruments defining the rights
of the holders of certain long-term debt of UIL Holdings Corporation and its
subsidiaries where the total amount of securities authorized to be issued under
the instrument does not exceed ten (10%) of the total assets of UIL Holdings
Corporation and its subsidiaries on a consolidated basis; and UIL Holdings
Corporation hereby agrees to furnish a copy of each such instrument to the
Securities and Exchange Commission on request.
(b) Reports on Form 8-K.
Item Financial
Reported Statements Date of Report
-------- ---------- --------------
7,9 None October 24, 2003
5,7,9 None November 24, 2003
(Amended November 26, 2003)
5 None December 5, 2003
5,7 None December 16, 2003
- 114 -
SIGNATURES
Pursuant to the requirements of Section 13 of the Securities Exchange Act of
1934, UIL Holdings has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
UIL HOLDINGS CORPORATION
By /s/ Nathaniel D. Woodson
----------------------------------------------
Nathaniel D. Woodson
Chairman of the Board of Directors,
President and Chief Executive Officer
DATE: MARCH 1, 2004
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
Director, Chairman of the
Board of Directors, President
/s/ Nathaniel D. Woodson and Chief Executive Officer March 1, 2004
- ------------------------------
(Nathaniel D. Woodson)
(Principal Executive Officer)
Executive Vice President and
/s/ Louis J. Paglia Chief Financial Officer March 1, 2004
- ------------------------------
(Louis J. Paglia)
(Principal Financial and
Accounting Officer)
/s/ John F. Croweak Director March 1, 2004
- -------------------------------
(John F. Croweak)
/s/ F. Patrick McFadden, Jr. Director March 1, 2004
- -------------------------------
(F. Patrick McFadden, Jr.)
/s/ Betsy Henley-Cohn Director March 1, 2004
- -------------------------------
(Betsy Henley-Cohn)
/s/ James A. Thomas Director March 1, 2004
- -------------------------------
(James A. Thomas)
/s/ David E.A. Carson Director March 1, 2004
- -------------------------------
(David E.A. Carson)
/s/ John L. Lahey Director March 1, 2004
- -------------------------------
(John L. Lahey)
/s/ Marc C. Breslawsky Director March 1, 2004
- -------------------------------
(Marc C. Breslawsky)
- 115 -
SIGNATURE TITLE DATE
--------- ----- ----
/s/ Thelma R. Albright Director March 1, 2004
- -------------------------------
(Thelma R. Albright)
/s/ Arnold L. Chase Director March 1, 2004
- -------------------------------
(Arnold L. Chase)
/s/ Daniel J. Miglio Director March 1, 2004
- -------------------------------
(Daniel J. Miglio)
/s/ William F. Murdy Director March 1, 2004
- -------------------------------
(William F. Murdy)
- 116 -
UIL HOLDINGS CORPORATION
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEAR ENDED DECEMBER 31, 2003 AND 2002
(Thousands of Dollars)
COL. A. COL. B. COL. C COL. D. COL. E.
------- ------- ------ ------- -------
Additions
-------------------------------
Balance at Charged to Charged to Balance at
Beginning Costs and Other End
Classification of Period Expenses Accounts Deductions of Period
- ---------------------------------- --------- -------- -------- ---------- ---------
RESERVE DEDUCTION FROM
ASSETS TO WHICH IT APPLIES:
Reserve for uncollectible
accounts (consolidated):
2003 $ 3,184 $ 6,253 $ - $ 6,135 $ 3,302
2002 $ 2,669 $ 6,320 $ - $ 5,805 (A) $ 3,184
NOTE:
(A) Accounts written off, less recoveries.
S-1