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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

 

FORM 10-Q

 

ý QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2004

 

OR

 

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                to               

 

Commission File Number  1-2385

 

THE DAYTON POWER AND LIGHT COMPANY

(Exact name of registrant as specified in its charter)

 

OHIO

 

31-0258470

(State or other jurisdiction of
incorporation or organization)

 

(I.R.S. Employer Identification No.)

 

 

 

1065 Woodman Drive, Dayton, Ohio

 

45432

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code:  937-224-6000

 

 

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      o         NO      ý

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2).

YES      o         NO      ý

 

Number of shares of registrant’s common stock outstanding as of October 31, 2004, all of which were held by DPL Inc., was 41,172,173.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

 



 

THE DAYTON POWER AND LIGHT COMPANY

INDEX

 

 

Page No.

Part I. Financial Information

 

 

Item 1.

Financial Statements

 

 

 

 

 

 

 

Consolidated Statement of Results of Operations

3

 

 

 

 

 

 

Consolidated Statement of Cash Flows

4

 

 

 

 

 

 

Consolidated Balance Sheet

5

 

 

 

 

 

 

Notes to Consolidated Financial Statements

7

 

 

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

19

 

 

 

 

 

 

Operating Statistics

28

 

 

 

 

 

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

28

 

 

 

 

 

Item 4.

Controls and Procedures

28

 

 

 

 

Part II. Other Information

 

 

Item 1.

Legal Proceedings

31

 

 

 

 

 

Item 4.

Submission of Matters to a Vote of Security Holders

31

 

 

 

 

 

Item 5.

Other Information

31

 

 

 

 

 

Item 6.

Exhibits and Reports on Form 8-K

31

 

 

 

 

Other

 

 

Signatures

 

32

 

 

 

 

 

Certifications

 

 

Available Information:

The Dayton Power and Light Company (DP&L or the Company) files current, annual and quarterly reports and other information required by the Securities Exchange Act of 1934, as amended, with the Securities and Exchange Commission (SEC).  You may read and copy any document the Company files at the SEC’s public reference room located at 450 Fifth Street, NW, Washington, DC  20549, USA.  Please call the SEC at (800) SEC-0330 for further information on the public reference rooms.  The Company’s SEC filings are also available to the public from the SEC’s web site at http://www.sec.gov.

 

The Company’s public internet site is http://www.dplinc.com.  The Company makes available through its internet site, its annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and Forms 3, 4 and 5 filed on behalf of directors and executive officers and amendments to those reports filed or furnished pursuant to the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after it electronically files such material with, or furnishes it to, the SEC.

 

In addition, the Company’s public internet site includes other items related to corporate governance matters, including, among other things, the Company’s governance guidelines, charters of various committees of the Board of Directors and the Company’s code of business conduct and ethics applicable to all employees, officers and directors.  You may obtain copies of these documents, free of charge, by sending a request, in writing, to DP&L Investor Relations, 1065 Woodman Drive, Dayton, Ohio 45432.

 

2



 

Part I.  Financial Information

 

Item 1.  Financial Statements

 

THE DAYTON POWER AND LIGHT COMPANY

CONSOLIDATED STATEMENT OF RESULTS OF OPERATIONS

($ in millions)

 

 

 

Three Months Ended
March 31,

 

 

 

2004

 

2003

 

 

 

 

 

(as restated)

 

Revenues

 

 

 

 

 

Electric revenues

 

$

300.4

 

$

295.7

 

 

 

 

 

 

 

 

 

Operating Expenses

 

 

 

 

 

Fuel

 

62.7

 

55.6

 

Purchased power

 

28.5

 

20.0

 

Operation and maintenance

 

46.8

 

35.8

 

Depreciation and amortization

 

28.3

 

29.1

 

Amortization of regulatory assets, net

 

0.1

 

12.1

 

General taxes

 

27.1

 

28.3

 

Total operating expenses

 

193.5

 

180.9

 

 

 

 

 

 

 

Operating Income

 

106.9

 

114.8

 

 

 

 

 

 

 

Interest expense

 

(11.8

)

(12.8

)

Other income

 

4.2

 

1.0

 

 

 

 

 

 

 

Income Before Income Taxes and Cumulative Effect of Accounting Change

 

99.3

 

103.0

 

 

 

 

 

 

 

Income tax expense

 

37.3

 

39.2

 

 

 

 

 

 

 

Income Before Cumulative Effect of Accounting Change

 

62.0

 

63.8

 

 

 

 

 

 

 

Cumulative effect of accounting change, net of tax

 

 

17.0

 

 

 

 

 

 

 

Net Income

 

62.0

 

80.8

 

 

 

 

 

 

 

Preferred dividends

 

0.2

 

0.2

 

 

 

 

 

 

 

Earnings on Common Stock

 

$

61.8

 

$

80.6

 

 

See Notes to Consolidated Financial Statements.

These interim statements are unaudited.

 

3



 

THE DAYTON POWER AND LIGHT COMPANY

CONSOLIDATED STATEMENT OF CASH FLOWS

($ in millions)

 

 

 

Three Months Ended
March 31,

 

 

 

2004

 

2003

 

 

 

 

 

(restated)

 

Operating Activities

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

62.0

 

$

80.8

 

Adjustments:

 

 

 

 

 

Depreciation and amortization

 

28.3

 

29.1

 

Amortization of regulatory assets, net

 

0.1

 

12.1

 

Deferred income taxes

 

12.4

 

23.6

 

Cumulative effect of accounting change, net of tax

 

 

(17.0

)

Changes in working capital:

 

 

 

 

 

Accounts receivable

 

10.0

 

11.8

 

Accounts payable

 

1.7

 

8.4

 

Accrued taxes payable

 

14.6

 

11.2

 

Accrued interest payable

 

4.3

 

(10.8

)

Prepayments

 

7.9

 

(2.6

)

Inventories

 

(7.7

)

2.2

 

Deferred compensation assets

 

8.8

 

30.5

 

Deferred compensation obligations

 

(6.7

)

(31.2

)

Other (Note 3)

 

(15.4

)

0.5

 

 

 

 

 

 

 

Net cash provided by operating activities

 

120.3

 

148.6

 

 

 

 

 

 

 

Investing Activities

 

 

 

 

 

 

 

 

 

 

 

Capital expenditures

 

(25.7

)

(35.0

)

 

 

 

 

 

 

Net cash used for investing activities

 

(25.7

)

(35.0

)

 

 

 

 

 

 

Financing Activities

 

 

 

 

 

 

 

 

 

 

 

Dividends paid on common stock

 

(75.0

)

(82.5

)

Dividends paid on preferred stock

 

(0.2

)

(0.2

)

 

 

 

 

 

 

Net cash used for financing activities

 

(75.2

)

(82.7

)

 

 

 

 

 

 

Cash and temporary cash investments

 

 

 

 

 

 

 

 

 

 

 

Net change

 

19.4

 

30.9

 

Balance at beginning of period

 

17.2

 

17.1

 

Balance at end of period

 

$

36.6

 

$

48.0

 

 

 

 

 

 

 

Cash Paid During the Period for:

 

 

 

 

 

Interest

 

$

6.0

 

$

22.6

 

Income taxes

 

$

0.4

 

$

(5.0

)

 

See Notes to Consolidated Financial Statements.

These interim statements are unaudited.

 

4



 

THE DAYTON POWER AND LIGHT COMPANY

CONSOLIDATED BALANCE SHEET

($ in millions)

 

 

 

At
March 31,
2004

 

At
December 31,
2003

 

 

 

 

 

 

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Property

 

 

 

 

 

Property, plant and equipment

 

$

3,899.7

 

$

3,875.4

 

Less: Accumulated depreciation and amortization

 

(1,795.9

)

(1,769.1

)

Net property

 

2,103.8

 

2,106.3

 

 

 

 

 

 

 

Current Assets

 

 

 

 

 

Cash and temporary cash investments (Note 3)

 

36.6

 

17.2

 

Accounts receivable, less provision for uncollectible accounts of $3.6 and $3.6, respectively

 

150.4

 

160.4

 

Inventories, at average cost (Note 3)

 

57.3

 

49.6

 

Prepaid taxes

 

34.8

 

46.4

 

Other (Note 3)

 

17.2

 

24.4

 

Total current assets

 

296.3

 

298.0

 

 

 

 

 

 

 

Other Assets

 

 

 

 

 

Income taxes recoverable through future revenues

 

41.9

 

43.3

 

Other regulatory assets

 

37.1

 

36.1

 

Other (Note 3)

 

159.5

 

176.4

 

Total other assets

 

238.5

 

255.8

 

 

 

 

 

 

 

Total Assets

 

$

2,638.6

 

$

2,660.1

 

 

See Notes to Consolidated Financial Statements.

These interim statements are unaudited.

 

5



 

THE DAYTON POWER AND LIGHT COMPANY

CONSOLIDATED BALANCE SHEET

($ in millions)

(continued)

 

 

 

At
March 31,
2004

 

At
December 31,
2003

 

 

 

 

 

 

 

CAPITALIZATION AND LIABILITIES

 

 

 

 

 

 

 

 

 

 

 

Capitalization

 

 

 

 

 

Common shareholders’ equity

 

 

 

 

 

Common stock

 

$

0.4

 

$

0.4

 

Other paid-in capital

 

781.1

 

780.5

 

Accumulated other comprehensive income

 

34.3

 

38.2

 

Earnings reinvested in the business

 

308.5

 

321.7

 

Total common shareholders’ equity

 

1,124.3

 

1,140.8

 

 

 

 

 

 

 

Preferred stock

 

22.9

 

22.9

 

 

 

 

 

 

 

Long-term debt (Note 6)

 

687.1

 

687.3

 

Total capitalization

 

1,834.3

 

1,851.0

 

 

 

 

 

 

 

Current Liabilities

 

 

 

 

 

Accounts payable

 

89.4

 

88.9

 

Accrued taxes

 

69.5

 

66.4

 

Accrued interest

 

14.6

 

10.2

 

Other (Note 3)

 

21.4

 

24.6

 

Total current liabilities

 

194.9

 

190.1

 

 

 

 

 

 

 

Deferred Credits and Other

 

 

 

 

 

Deferred taxes

 

379.9

 

381.7

 

Unamortized investment tax credit

 

51.5

 

52.2

 

Other (Note 3)

 

178.0

 

185.1

 

Total deferred credits and other

 

609.4

 

619.0

 

 

 

 

 

 

 

Contingencies (Note 8)

 

 

 

 

 

 

 

 

 

 

 

Total Capitalization and Liabilities

 

$

2,638.6

 

$

2,660.1

 

 

See Notes to Consolidated Financial Statements.

These interim statements are unaudited.

 

6



 

Notes to Consolidated Financial Statements

 

1.              Basis of Presentation

 

Basis of Consolidation

The Dayton Power and Light Company (DP&L or the Company) prepares its consolidated financial statements in accordance with accounting principles generally accepted in the United States of America (GAAP).  The consolidated financial statements include the accounts of DP&L and its majority-owned subsidiaries.  Investments that are not majority owned are accounted for using the equity method when DP&L’s investment allows it the ability to exert significant influence, as defined by GAAP.  Undivided interests in jointly-owned generation facilities are consolidated on a pro rata basis.  All material intercompany accounts and transactions are eliminated in consolidation.

 

DP&L has prepared the unaudited consolidated financial statements in this report, pursuant to the rules and regulations of the Securities and Exchange Commission (SEC).  Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations.  These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto in DP&L’s 2003 Annual Report on Form 10-K.

 

Estimates, Judgments and Reclassifications

The preparation of financial statements in conformity with GAAP requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the revenues and expenses of the period reported.  Significant items subject to such estimates and judgments include the carrying value of property, plant and equipment; the valuation of derivative instruments; valuation allowances for receivables and deferred income taxes; and assets and liabilities related to employee benefits.  Actual results may differ from those estimates.  Reclassifications have been made in certain prior years’ amounts to conform to the current reporting presentation.

 

Recently Issued Accounting Standards

 

Staff Position No. 106-1

In December 2003, the FASB issued Staff Position No. 106-1 (FSP 106-1), “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003” (the Act).  The Act provides for drug benefits for retirees over the age of 65 under a new Medicare Part D program.  For employers like DP&L, who currently provide retiree medical programs for certain former employees over the age of 65, there are subsidies available which are inherent in the Act.  The Act entitles these employers to a direct tax-exempt federal subsidy.  However, since the effective date of the Act was December 2003 and because most employers have not had time to consider the accounting considerations and there is no appropriate accounting guidance for the federal subsidy, the FASB issued this FSP 106-1 to allow employers a one-time election to defer recognition of the impact of the Act in the employer’s accounting until formal guidance is issued.  DP&L elected to defer recognition of the provisions of this Act until further accounting guidance is issued.

 

Staff Position No. 106-2

In May 2004, the FASB issued FASB Staff Position No. 106-2 (FSP 106-2), “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003”, which supersedes FSP 106-1.  FSP 106-2 provides guidance on the accounting for the effects of the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the Act) for employers that sponsor postretirement health care plans that provide prescription drug benefits. It also requires certain disclosures regarding the effect of the federal subsidy provided by the Act.  FSP 106-2 is effective for the first interim or annual period beginning after June 15, 2004.  The effect is not expected to be material to the Company’s results of operations, cash flow or financial position.

 

2. Restatement of Financial Statements

 

As part of DP&L’s Audit Committee’s response to a report prepared by Taft, Stettinius & Hollister LLP and during the 2003 year-end financial closing process, the Company identified certain adjustments to prior period financial statements.  As a result, the Company has restated its consolidated financial statements for the quarter ended

 

7



 

March 31, 2003 and prior periods.  This adjustment decreased net income by $0.2 million to $80.8 million for the first quarter of 2003.  All applicable financial information contained in this Quarterly Report on Form 10-Q gives effect to these restatements.  Accordingly, the financial statements for this fiscal period described above that have been in the Company’s prior SEC filings should not be relied upon.

 

Certain captions in the March 31, 2003 Consolidated Balance Sheet were also adjusted due to the prior periods’ restatements. Please refer to the Company’s 2003 Annual Report on Form 10-K for a more complete description of the prior period adjustments.

 

The accompanying consolidated financial data set forth below presents the Company’s Consolidated Statement of Results of Operations for the quarter ended March 31, 2003 and Consolidated Balance Sheet as of March 31, 2003 on a comparative basis showing the amounts as originally reported and as restated.

 

Effects of Restatement on Net Income

 

The following table identifies the adjustments made to the consolidated financial statements for the quarter ended March 31, 2003:

 

($ in millions)

 

Net Income
Increase
(Decrease)

 

 

 

 

 

 

 

2003

 

 

 

First

 

Description of Adjustment

 

Quarter

 

Supplemental Executive Retirement Plan (1)

 

(0.2

)

Stock incentive units (2)

 

(0.2

)

Sub-total pre-tax impact

 

(0.4

)

 

 

 

 

Income taxes (3)

 

0.2

 

Total Net Income Impact

 

(0.2

)

 


(1) Reflects adjustment to record a settlement of the Company’s Supplemental Executive Retirement Plan for certain executives in 1997 and 2000 which had not been previously recorded, in addition to an adjustment to record the proper treatment for Company assets previously thought to be segregated and restricted solely for purposes of funding this plan.

 

Consolidated Statement of Results of Operations: For the first quarter of 2003, the adjustment increased Operation and Maintenance expense by approximately $0.2 million.

 

Consolidated Balance Sheet: At March 31, 2003, adjustment decreased Other Assets – Other by $0.2 million.

 

(2) Reflects adjustment to record outstanding stock incentive units at fair value following a change in the operation of the Management Stock Incentive Plan made as of January 1, 2002 that allowed certain retirees to diversify stock incentive awards to investments other than DPL common stock.

 

Consolidated Statement of Results of Operations: For the first quarter of 2003, the adjustment increased Operation and Maintenance expense by $0.2 million.

 

Consolidated Balance Sheet: At March 31, 2003, the adjustment increased Other Paid-in Capital, net of Treasury Stock by $0.2 million.

 

(3)          Reflects income taxes related to the above non-tax adjustments.

 

Consolidated Statement of Results of Operations: For the first quarter of 2003, the above adjustments decreased income tax expense by the amount set forth in this table.

 

Consolidated Balance Sheet: At March 31, 2003, the above adjustments decreased Accrued taxes payable by the amounts set forth in this table.

 

8



 

THE DAYTON POWER AND LIGHT COMPANY

Consolidated Statement of Results of Operations

(unaudited)

 

in millions except per share amounts

 

Three Months Ended
March 31, 2003

 

 

 

(as
previously
reported)

 

(as
restated)

 

 

 

 

 

 

 

Revenues

 

 

 

 

 

Electric revenues

 

$

295.7

 

$

295.7

 

 

 

 

 

 

 

Operating Expenses

 

 

 

 

 

Fuel

 

55.6

 

55.6

 

Purchased power

 

20.0

 

20.0

 

Operation and maintenance

 

35.4

 

35.8

 

Depreciation and amortization

 

29.1

 

29.1

 

Amortization of regulatory assets, net

 

12.1

 

12.1

 

General taxes

 

28.3

 

28.3

 

Total operating expenses

 

180.5

 

180.9

 

 

 

 

 

 

 

Operating income

 

115.2

 

114.8

 

 

 

 

 

 

 

Interest expense

 

(12.8

)

(12.8

)

Other income

 

1.0

 

1.0

 

 

 

 

 

 

 

Income Before Income Taxes and Cumulative Effect of Accounting Change

 

103.4

 

103.0

 

 

 

 

 

 

 

Income tax expense

 

39.4

 

39.2

 

 

 

 

 

 

 

Income Before Cumulative Effect of Accounting Change

 

64.0

 

63.8

 

 

 

 

 

 

 

Cumulative effect of accounting change, net of tax

 

17.0

 

17.0

 

 

 

 

 

 

 

Net Income

 

81.0

 

80.8

 

 

 

 

 

 

 

Preferred dividends

 

0.2

 

0.2

 

 

 

 

 

 

 

Earnings on Common Stock

 

$

80.8

 

$

80.6

 

 

9



 

THE DAYTON POWER AND LIGHT COMPANY

Consolidated Statement of Cash Flows

(unaudited)

 

in millions

 

Three Months Ended March 31,
2003

 

 

 

(as previously
reported)

 

(as restated)

 

 

 

 

 

 

 

Operating Activities

 

 

 

 

 

Net income

 

$

81.0

 

$

80.8

 

Adjustments:

 

 

 

 

 

Depreciation and amortization

 

29.1

 

29.1

 

Amortization of regulatory assets, net

 

12.1

 

12.1

 

Deferred income taxes

 

23.7

 

23.6

 

Cumulative effect of accounting change, net of tax

 

(17.0

)

(17.0

)

Changes in working capital:

 

 

 

 

 

Accounts receivable

 

11.8

 

11.8

 

Accounts payable

 

8.5

 

8.4

 

Accrued taxes payable

 

11.2

 

11.2

 

Accrued interest payable

 

(10.8

)

(10.8

)

Prepayments

 

(2.6

)

(2.6

)

Inventories

 

2.2

 

2.2

 

Deferred compensation assets

 

30.5

 

30.5

 

Deferred compensation obligations

 

(31.2

)

(31.2

)

Other

 

0.1

 

0.5

 

Net cash provided by operating activities

 

148.6

 

148.6

 

 

 

 

 

 

 

Investing Activities

 

 

 

 

 

Capital expenditures

 

(35.0

)

(35.0

)

 

 

 

 

 

 

Net cash used for investing activities

 

(35.0

)

(35.0

)

 

 

 

 

 

 

Financing Activities

 

 

 

 

 

Dividends paid on common stock

 

(82.5

)

(82.5

)

Dividends paid on preferred stock

 

(0.2

)

(0.2

)

 

 

 

 

 

 

Net cash used for financing activities

 

(82.7

)

(82.7

)

 

 

 

 

 

 

Cash and Temporary Cash Investments

 

 

 

 

 

Net change

 

30.9

 

30.9

 

Balance at beginning of period

 

17.1

 

17.1

 

 

 

 

 

 

 

Balance at end of period

 

$

48.0

 

$

48.0

 

 

 

 

 

 

 

Cash Paid During the Period For:

 

 

 

 

 

Interest

 

$

22.6

 

$

22.6

 

Income taxes

 

$

(5.0

)

$

(5.0

)

 

10



 

THE DAYTON POWER AND LIGHT COMPANY

Consolidated Balance Sheet

(unaudited)

 

$ in millions

 

At March 31, 2003

 

 

 

(as previously
reported)

 

(as restated)

 

 

 

 

 

 

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Property

 

 

 

 

 

Property, plant and equipment

 

$

3,803.2

 

$

3,803.2

 

Less: Accumulated depreciation and amortization

 

(1,696.1

)

(1,696.1

)

Net property

 

2,107.1

 

2,107.1

 

 

 

 

 

 

 

Current Assets

 

 

 

 

 

Cash and temporary cash investments

 

48.0

 

48.0

 

Accounts receivable, less provision for uncollectible accounts of $5.0 as reported and restated

 

147.5

 

147.5

 

Intercompany receivables, net

 

36.3

 

36.3

 

Inventories, at average cost

 

51.9

 

51.9

 

Prepaid taxes

 

35.2

 

35.1

 

Other

 

16.8

 

16.6

 

Total current assets

 

335.7

 

335.4

 

 

 

 

 

 

 

Other Assets

 

 

 

 

 

Income taxes recoverable through future revenues

 

43.5

 

43.5

 

Other regulatory assets

 

68.8

 

68.8

 

Other

 

159.5

 

158.9

 

Total other assets

 

271.8

 

271.2

 

 

 

 

 

 

 

Total Assets

 

$

2,714.6

 

$

2,713.7

 

 

Note- Reflects adoption of FAS 143 in 2003.

 

11



 

THE DAYTON POWER AND LIGHT COMPANY

Consolidated Balance Sheet

(unaudited)

 

$ in millions

 

At March 31, 2003

 

 

 

(as previously
reported)

 

(as restated)

 

 

 

 

 

 

 

CAPITALIZATION AND LIABILITIES

 

 

 

 

 

 

 

 

 

 

 

Capitalization

 

 

 

 

 

Common shareholders’ equity

 

 

 

 

 

Common stock

 

$

0.4

 

$

0.4

 

Other paid-in capital

 

771.8

 

780.4

 

Accumulated other comprehensive income

 

(3.3

)

(5.6

)

Earnings reinvested in the business

 

393.5

 

379.9

 

Total common shareholders’ equity

 

1,162.4

 

1,155.1

 

 

 

 

 

 

 

Preferred stock

 

22.9

 

22.9

 

 

 

 

 

 

 

Long-term debt

 

665.4

 

665.4

 

 

 

 

 

 

 

Total capitalization

 

1,850.7

 

1,843.4

 

 

 

 

 

 

 

Current Liabilities

 

 

 

 

 

Accounts payable

 

90.6

 

91.7

 

Accrued taxes

 

98.6

 

101.1

 

Accrued interest

 

8.2

 

8.3

 

Other

 

26.5

 

26.2

 

Total current liabilities

 

223.9

 

227.3

 

 

 

 

 

 

 

Deferred Credits and Other

 

 

 

 

 

Deferred taxes

 

400.5

 

392.8

 

Unamortized investment tax credit

 

54.7

 

54.7

 

Other

 

184.8

 

195.5

 

Total deferred credits and other

 

640.0

 

643.0

 

 

 

 

 

 

 

Contingencies

 

 

 

 

 

 

 

 

 

 

 

Total Capitalization and Liabilities

 

$

2,714.6

 

$

2,713.7

 

 

Note - Reflects adoption of FAS 143 in 2003.

 

12



 

3.              Supplemental Financial Information

 

$ in millions

 

At
March 31,
2004

 

At
December 31,
2003

 

Cash and temporary cash investments

 

 

 

 

 

Cash and cash equivalents

 

$

36.6

 

$

17.2

 

Short-term investments

 

 

 

Total cash and temporary cash investments

 

$

36.6

 

$

17.2

 

 

 

 

 

 

 

Inventories, at average cost

 

 

 

 

 

Plant materials and supplies

 

$

28.9

 

$

29.3

 

Fuel

 

25.8

 

19.5

 

Other

 

2.6

 

0.8

 

Total inventories, at average cost

 

$

57.3

 

$

49.6

 

 

 

 

 

 

 

Other current assets

 

 

 

 

 

Prepayments

 

$

4.1

 

$

10.8

 

Deposits and other advances

 

9.1

 

5.2

 

Current deferred income taxes

 

1.1

 

4.3

 

Miscellaneous work in progress

 

1.8

 

3.1

 

Other

 

1.1

 

1.0

 

Total other current assets

 

$

17.2

 

$

24.4

 

 

 

 

 

 

 

Other deferred assets

 

 

 

 

 

Trust assets

 

$

88.4

 

$

102.9

 

Prepaid pension

 

38.4

 

39.7

 

Unamortized loss on reacquired debt

 

25.4

 

26.6

 

Unamortized debt expense

 

5.9

 

5.9

 

Other

 

1.4

 

1.3

 

Total other deferred assets

 

$

159.5

 

$

176.4

 

 

 

 

 

 

 

Other current liabilities

 

 

 

 

 

Customer security deposits and other advances

 

$

11.9

 

$

10.6

 

Payroll taxes payable

 

 

10.1

 

Unearned revenues

 

0.7

 

1.2

 

Current deferred income taxes

 

7.6

 

 

Current portion - long-term debt

 

1.1

 

1.1

 

Other

 

0.1

 

1.6

 

Total other current liabilities

 

$

21.4

 

$

24.6

 

 

 

 

 

 

 

Other deferred credits

 

 

 

 

 

Asset retirement obligations – regulated property

 

$

73.3

 

$

72.0

 

Trust obligations

 

58.1

 

65.3

 

Retirees health and life benefits

 

32.7

 

33.7

 

Environmental reserves

 

0.1

 

0.2

 

Legal claims reserves

 

2.5

 

2.1

 

Asset retirement obligations-generation

 

5.0

 

4.9

 

Other

 

6.3

 

6.9

 

Total other deferred credits

 

$

178.0

 

$

185.1

 

 

13



 

 

 

Three Months Ended March 31,

 

Cash Flows

 

2004

 

2003

 

$ in millions

 

 

 

(as restated)

 

Cash flows – Other

 

 

 

 

 

Payroll taxes payable

 

$

(11.2

)

$

 

Deposits and other advances

 

(3.9

)

(0.7

)

Other

 

(0.3

)

1.2

 

Total cash flows – Other

 

$

(15.4

)

$

0.5

 

 

 

 

Three Months Ended March 31,

 

Results of Operations

 

2004

 

2003

 

$ in millions

 

 

 

(as restated)

 

Comprehensive income

 

 

 

 

 

Net income

 

$

62.0

 

$

80.8

 

Net change in unrealized gains (losses) on financial instruments, net of reclassification adjustments

 

(5.6

)

(8.1

)

Net change in deferred gains on cash flow hedges

 

(0.7

)

(0.3

)

Deferred income taxes related to unrealized gains (losses)

 

2.4

 

3.6

 

Comprehensive income

 

$

58.1

 

$

76.0

 

 

4.              Pension and Postretirement Benefits

 

DP&L sponsors a defined benefit plan for substantially all its employees.  For collective bargaining employees, the defined benefits are based on a specific dollar amount per year of service.  For all other employees, the defined benefit plan is based primarily on compensation and years of service. The Company funds pension plan benefits as accrued in accordance with the minimum funding requirements of the Employee Retirement Income Security Act of 1974 (ERISA).

 

Qualified employees who retired prior to 1987 and their dependents are eligible for health care and life insurance benefits.  DP&L has funded the union-eligible health benefit using a Voluntary Employee Beneficiary Association Trust.

 

The net periodic benefit (income) cost of the pension and postretirement benefit plans for the three months ended March 31 were:

 

 

 

Pension

 

Postretirement

 

Net periodic benefit (income) cost

 

2004

 

2003

 

2004

 

2003

 

$ in millions

 

 

 

(as
restated)

 

 

 

 

 

Service cost

 

$

0.9

 

$

0.8

 

$

 

$

 

Interest cost

 

4.0

 

4.1

 

0.5

 

0.5

 

Expected return on assets

 

(5.4

)

(6.3

)

(0.2

)

(0.1

)

Amortization of unrecognized:

 

 

 

 

 

 

 

 

 

Actuarial (gain) loss

 

0.5

 

0.1

 

(0.2

)

(0.3

)

Prior service cost

 

0.6

 

0.7

 

 

 

Transition obligation

 

 

 

 

0.1

 

Net periodic benefit (income) cost

 

$

0.6

 

$

(0.6

)

$

0.1

 

$

0.2

 

 

5.              Stock-Based Compensation

 

DP&L accounts for DPL Inc. stock options granted on or after January 1, 2003 under the fair value method set forth in FASB Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (SFAS 123).  This standard requires the recognition of compensation expense for stock-based awards to reflect the fair value of the award on the date of grant.  DP&L follows Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (APB 25) and related Accounting Principles Board and FASB interpretations in accounting for stock-based compensation granted before January 1, 2003.  If DP&L had used the fair value method of accounting for stock options granted prior to 2003, earnings on common stock would have been reported as follows:

 

14



 

 

 

Three Months Ended March 31,

 

$ in millions

 

2004

 

2003

 

 

 

 

 

(as restated)

 

Earnings on common stock, as reported

 

$

61.8

 

$

80.6

 

Add: Total stock-based compensation expense determined under APB 25, net of related tax effects

 

 

 

Deduct: Total stock-based compensation expense determined under FAS 123, net of related tax effects

 

(0.7

)

(0.7

)

Pro-forma earnings on common stock

 

$

61.1

 

$

79.9

 

 

6.   Long-term Debt, Notes Payable and Compensating Balances

 

$ in millions

 

At
March 31,
2004

 

At
December 31,
2003

 

First mortgage bonds maturing:

 

 

 

 

 

2013 - 5.125%

 

$

470.0

 

$

470.0

 

Pollution control series maturing through 2027 - 6.43% (a)

 

104.8

 

104.8

 

 

 

574.8

 

574.8

 

 

 

 

 

 

 

Guarantee of Air Quality Development Obligations - 6.10% Series due 2030

 

110.0

 

110.0

 

Obligation for capital lease

 

4.1

 

4.3

 

Unamortized debt discount and premium (net)

 

(1.8

)

(1.8

)

Total

 

$

687.1

 

$

687.3

 

 


(a)       Weighted average interest rates for 2004 and 2003.

 

The amounts of maturities and mandatory redemptions for First Mortgage Bonds, notes, and the capital lease obligation are $0.9 million for the remainder of 2004, $1.1 million in 2005, $1.1 million in 2006, $9.3 million in 2007 and $0.7 million in 2008.  Substantially all property of DP&L is subject to the mortgage lien securing the First Mortgage Bonds.

 

On September 29, 2003, DP&L issued $470 million principal amount of First Mortgage Bonds, 5.125% Series due 2013.  The net proceeds from the sale of the bonds, after expenses, were used to (i) redeem $226 million principal amount of DP&L’s First Mortgage Bonds, 8.15% Series due 2026, at a redemption price of 104.075% of the principal amount plus accrued interest to the redemption date, and (ii) redeem $220 million principal amount of DP&L’s First Mortgage Bonds, 7.875% Series due 2024, at a redemption price of 103.765% of the principal amount plus accrued interest to the redemption date.  The $446 million of First Mortgage Bonds were called by DP&L on September 30, 2003, for redemption on October 30, 2003.  The 5.125% Series due 2013 have not been registered under the Securities Act of 1933, but were offered and sold through a private placement in compliance with Rule 144A under the Securities Act of 1933.  The bonds include step-up interest provisions requiring DP&L to pay additional interest if the securities remain unregistered after 180 days from issuance.  The sale of the bonds was not registered and, as a result, the Company is required to pay additional interest of 0.50% until an exchange offer for these securities is registered with the SEC.

 

Issuance of additional amounts of First Mortgage Bonds by DP&L is limited by provisions of its mortgage; however, DP&L continues to have sufficient capacity to issue First Mortgage Bonds to satisfy its requirements in connection with its refinancing and construction programs through 2008.  The amounts and timing of future financings will depend upon market and other conditions, rate increases, levels of sales and construction plans.

 

In December 2003, DP&L had $150 million available through a revolving credit agreement with a consortium of banks.  The agreement, which was scheduled to expire on December 10, 2004, was terminated on June 1, 2004.  The facility was to be used to support the Company’s business requirements and DP&L’s commercial paper program.  The facility contained two financial covenants, including maximum debt to total capitalization and minimum earnings before interest and taxes (EBIT) to interest coverage.  Fees associated with this credit facility

 

15



 

were approximately $0.8 million per year.  DP&L had no outstanding borrowings under the revolving credit facility and no outstanding commercial paper balances at March 31, 2004 and 2003.

 

In February 2004, DP&L entered into a $20 million Master Letter of Credit Agreement with a financial lending institution.  This agreement, which expires in February 2005, supports performance assurance needs in the ordinary course of business.  DP&L had two outstanding letters of credit totaling $1.4 million as of March 31, 2004 and no outstanding letters of credit as of March 31, 2003.

 

In June 2004, DP&L obtained a $100 million unsecured revolving credit agreement that extended and replaced DP&L’s revolving credit agreement of $150 million.  The new agreement, which expires on May 31, 2005, provides credit support for the Company’s business requirements and commercial paper program during this period and may be increased to up to $150 million.  The facility contains two financial covenants including maximum debt to total capitalization, and minimum earnings before interest and taxes (EBIT) to total interest expense.  These covenants are currently met.  DP&L currently has no outstanding borrowings under this credit facility and no outstanding commercial paper balances.  Fees associated with this credit facility are approximately $0.6 million per year.  Changes in debt ratings, however, may affect the applicable interest rate for DP&L’s revolving credit agreement.  DP&L’s ability to use this revolving credit agreement is subject to the PUCO’s annual approval which is set to expire on November 5, 2004.  DP&L has filed an application to secure the PUCO’s continued authorization and that application is pending.

 

The delay in filing audited financial statements for the year ending December 31, 2003, constituted an event of default with DP&L’s previous revolving credit facility; however, DP&L obtained waivers from its lenders regarding this event.  The Company incurred fees of approximately $0.2 million to obtain these waivers. The delay in audited certified financial statements also resulted in noncompliance under the Company’s other debt agreements although the non-compliance did not result in an immediate event of default.  The Company has not received any default notifications from any of its lenders.  The Company’s debt agreements allow a grace period to cure a default after notification.  Management, after consultation with legal counsel, believes all non-compliance conditions have been remedied.

 

There are no inter-company debt collateralizations or debt guarantees between DP&L and its parent or subsidiaries.  None of the debt obligations of DP&L or DPL Inc. are guaranteed or secured by affiliates and no cross-collateralization exists between any subsidiaries.

 

7.  Business Segment Reporting

 

DP&L is a regional energy company providing electric services to over 500,000 retail customers in West Central Ohio.  Assets and related costs associated with DP&L’s transmission and distribution and base load and peaking generation operations are managed and evaluated as a single operating segment captioned Electric.

 

$ in millions

 

At
March 31,
2004

 

At
March 31,
2003

 

 

 

 

 

(as restated)

 

Revenues:

 

 

 

 

 

Electric

 

$

300.4

 

$

295.7

 

 

 

 

 

 

 

Operating income:

 

 

 

 

 

Electric

 

$

112.6

 

$

119.3

 

Other (a)

 

(5.7

)

(4.5

)

Total operating income

 

$

106.9

 

$

114.8

 

 

 

 

 

 

 

Depreciation and amortization:

 

 

 

 

 

Electric

 

$

28.3

 

$

29.1

 

 

 

 

 

 

 

Expenditures - construction additions:

 

 

 

 

 

Electric

 

$

22.9

 

$

20.5

 

 

 

 

 

 

 

Assets:

 

 

 

 

 

Electric

 

$

2,535.9

 

$

2,575.5

 

Unallocated corporate assets

 

102.7

 

138.2

 

Total assets

 

$

2,638.6

 

$

2,713.7

 

 

16



 


(a) Includes unallocated corporate items.

 

8.     Commitments and Contingencies

 

Contingencies

In the normal course of business, DP&L is subject to various lawsuits, actions, proceedings, claims and other matters asserted under laws and regulations.  DP&L believes the amounts provided in its consolidated financial statements, as prescribed by GAAP, are adequate in light of the probable and estimable contingencies.  However, there can be no assurances that the actual amounts required to satisfy alleged liabilities from various legal proceedings, claims, and other matters discussed below, and to comply with applicable laws and regulations, will not exceed the amounts reflected in DP&L’s Consolidated Financial Statements.  As such, costs, if any, that may be incurred in excess of those amounts provided as of March 31, 2004 cannot be reasonably determined.

 

Environmental Matters

DP&L’s facilities and operations are subject to a wide range of environmental regulations and law.  In the normal course of business, DP&L has investigatory and remedial activities underway at these facilities to comply, or to determine compliance, with such regulations.  DP&L has been identified, either by a government agency or by a private party seeking contribution to site clean-up costs, as a potentially responsible party (PRP) at a number of sites pursuant to state and federal laws.  DP&L records liabilities for probable estimated loss in accordance with Statement of Financial Accounting Standards No. 5 (SFAS 5), “Accounting for Contingencies.”  To the extent a probable loss can only be estimated by reference to a range of equally probable outcomes, and no amount within the range appears to be a better estimate than any other amount, DP&L accrues for the low end of the range.  Because of uncertainties related to these matters, accruals are based on the best information available at the time.  DP&L evaluates the potential liability related to probable losses quarterly and may revise its estimates.  Such revisions in the estimates of the potential liabilities could have a material effect on the Company’s results of operations and financial position.

 

Legal Matters

On July 9, 2004, Mr. Forster and Ms. Muhlenkamp filed a lawsuit against the Company, DPL and MVE, Inc. (MVE) in the Circuit Court, Fourth Judicial Circuit, in and for Duval County, Florida.  The complaint asserts that the Company, DPL and MVE (i) wrongfully terminated Mr. Forster and Ms. Muhlenkamp by undermining their authority and responsibility to manage the companies and excluding them from discussions on corporate financial issues and strategic planning after the Thobe Memorandum was distributed and (ii) breached Mr. Forster’s consulting contract and Ms. Muhlenkamp’s employment agreement by denying them compensation and benefits allegedly provided by the terms of such contract and agreement upon their termination from the Company and DPL.  Mr. Forster and Ms. Muhlenkamp seek damages of an undetermined amount.  On August 9, 2004, the defendants removed the case to the U.S. District Court for the Middle District of Florida, Jacksonville Division.  On August 16, 2004, the defendants moved to dismiss the litigation based on the Florida federal court’s lack of jurisdiction over the Company, DPL and MVE, all of whom are companies based in Dayton, Ohio.  In the alternative, the defendants requested that the court transfer the case to the U.S. District Court for the Southern District of Ohio, which has jurisdiction in Dayton, Ohio.  On September 17, 2004, Mr. Forster and Ms. Muhlenkamp opposed these motions.  The court has not yet ruled on the defendants’ motions.

 

On August 24, 2004, the Company, DPL and MVE filed a Complaint against Mr. Forster, Ms. Muhlenkamp and Mr. Koziar in the Court of Common Pleas of Montgomery County, Ohio asserting legal claims against them relating to the termination of the Valley Partners Agreements, challenging the validity of the amendments and the propriety of the distributions and alleging that Messrs. Forster and Koziar and Ms. Muhlenkamp breached their fiduciary duties and breached their consulting and employment contracts.  The Company, DPL and MVE seek, among other things, damages in excess of $25,000, disgorgement of all amounts improperly withdrawn by Messrs. Forster and Koziar and Ms. Muhlenkamp from the deferred compensation plans and a court order declaring that the Company, DPL and MVE have no further obligations under the consulting and employment contracts due to those breaches.  At this time, defendants Forster, Koziar and Muhlenkamp have not yet responded to the Complaint.  The Company continues to evaluate all of these matters and is considering other claims against Mr. Forster, Mr. Koziar and/or Ms. Muhlenkamp that include, but are not limited to, breach of fiduciary duty or other claims relating to personal and Company investments, the calculation of benefits under the SERP and financial reporting with respect to such benefits, and, with respect to Mr. Koziar, the fulfillment of duties owed to the Company as its legal counsel.

 

17



 

On or about June 24, 2004, the SEC commenced a formal investigation into the issues raised by the Thobe Memorandum.  The Company is cooperating with the investigation.

 

On April 7, 2004, the Company received notice that the staff of the PUCO is conducting an investigation into the financial condition of DP&L as a result of the issues raised by the Thobe Memorandum.  On May 27, 2004, the PUCO ordered DP&L to file a plan of utility financial integrity that outlines the actions DPL Inc. has taken or will take to insulate DP&L utility operations and customers from its unregulated activities.  DP&L must file this plan within 120 days of the filing of its Form 10-K with the SEC.  The Company intends to comply with this order and to cooperate with the PUCO’s continuing investigation.

 

On May 28, 2004, the U.S. Attorney’s Office for the Southern District of Ohio, assisted by the Federal Bureau of Investigation, notified the Company and DPL that it has initiated an inquiry involving the subject matters covered by the Company’s and DPL’s internal investigation.  The Company and DPL are cooperating with this investigation.

 

Commencing on or about June 24, 2004, the Internal Revenue Service (IRS) has issued a series of data requests to the Company and DPL regarding issues raised in the Thobe Memorandum.  The staff of the IRS has requested that the Company and DPL provide certain documents, including but not limited to, matters concerning executive/director deferred compensation plans, management stock incentive plans and MVE financial statements.  The Company and DPL are cooperating with these requests.

 

On December 12, 2003, the Office of Federal Contract Compliance Programs (OFCCP) notified DP&L by letter alleging it had discriminated in the hiring of meter readers during 2000-2001 by utilizing credit checks to determine if applicants had paid their electric bills.  On February 12, 2004, DP&L and the OFCCP entered into a Conciliation Agreement whereby DP&L agreed to distribute approximately $0.2 million in compensation to certain affected applicants.  DP&L has completed these payments to the affected applicants.

 

In June 2002, a contractor’s employee received a verdict against DP&L for injuries he sustained while working at a DP&L power station.  The Court awarded the contractor’s employee compensatory damages of approximately $0.8 million and prejudgment interest of approximately $0.6 million.  On April 28, 2004, the appellate court upheld this verdict except the award for prejudgment interest.  On September 1, 2004, the Ohio Supreme Court refused to hear the case, so the matter has been remanded to the trial court for a re-determination of whether prejudgment interest should be awarded.  The trial court heard this matter on October 15, 2004 and the decision is pending.

 

Long-Term Obligations and Commercial Commitments

DP&L enters into various contractual and other long-term obligations that may affect the liquidity of its operations. The following table outlines DP&L’s obligations at March 31, 2004:

 

 

 

Payment Year

 

Long-term Obligations ($ in millions)

 

2004

 

2005 &
2006

 

2007 &
2008

 

Thereafter

 

Total

 

Long-term debt

 

$

0.4

 

$

0.8

 

$

8.6

 

$

673.6

 

$

683.4

 

Capital lease

 

0.5

 

1.4

 

1.4

 

1.5

 

4.8

 

Operating leases

 

0.8

 

0.4

 

 

 

1.2

 

Coal contracts

 

270.2

 

211.2

 

84.6

 

127.7

 

693.7

 

Other long-term obligations

 

9.9

 

14.8

 

1.0

 

 

25.7

 

Total long-term Obligations

 

$

281.8

 

$

228.6

 

$

95.6

 

$

802.8

 

$

1,408.8

 

 

Long-term debt:

Long-term debt as of March 31, 2004 consists of first mortgage bonds and guaranteed air quality development obligations, including current maturities.

 

Capital lease:

As of March 31, 2004, the Company had one capital lease that expires September 2010.

 

Operating leases:

As of March 31, 2004, the Company had several operating leases with various terms and expiration dates.

 

18



 

Coal contracts:

DP&L has entered into various long-term coal contracts to supply portions of its coal requirements for its generating plants.  Contract prices are subject to adjustment in accordance with various indices, and have features that will limit price escalation in any given year.

 

Other long-term obligations:

As of March 31, 2004, DP&L had various other long-term obligations including non-cancelable contracts to purchase goods and services with various terms and expiration dates.

 

DP&L enters into various commercial commitments which may affect the liquidity of its operations.

 

 

 

Expiring Year

 

Commercial Commitments ($ in millions)

 

2004

 

2005 &
2006

 

2007 &
2008

 

Thereafter

 

Total

 

Credit facilities

 

$

150.0

 

$

 

$

 

$

 

$

150.0

 

Guarantees

 

 

17.8

 

 

 

17.8

 

Total commercial commitments

 

$

150.0

 

$

17.8

 

$

 

$

 

$

167.8

 

 

Credit facilities:

DP&L had $150 million available through a revolving credit agreement with a consortium of banks that was scheduled to expire on December 10, 2004.  At March 31, 2004, there were no borrowings outstanding under this credit agreement.  In June 2004, the Company replaced this facility with a $100 million, 364 day unsecured credit facility that expires on May 31, 2005.  The new facility may be increased to up to $150 million.

 

Guarantees:

DP&L owns a 4.9% equity ownership interest in an electric generation company.  As of March 31, 2004, DP&L could be responsible for the repayment of 4.9%, or $14.9 million, of a $305 million debt obligation and also 4.9%, or $2.9 million, of a separate $60.0 million debt obligation.  Both obligations mature in 2006.

 

Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

Certain statements contained in this discussion are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995.  Matters discussed in this report which relate to events or developments that are expected to occur in the future, including management’s expectations, strategic objectives, business prospects, anticipated economic performance and financial condition and other similar matters constitute forward-looking statements.  Forward-looking statements are based on management’s beliefs, assumptions and expectations of the Company’s future economic performance, taking into account the information currently available to management.  These statements are not statements of historical fact.  Such forward-looking statements are subject to risks and uncertainties and investors are cautioned that outcomes and results may vary materially from those projected due to various factors beyond the control of The Dayton Power and Light Company (DP&L or the Company), including but not limited to: abnormal or severe weather; unusual maintenance or repair requirements; changes in fuel costs; changes in electricity, coal, environmental emissions, gas and other commodity prices; increased competition; regulatory changes and decisions; changes in accounting rules; financial market conditions; and general economic conditions.

 

Forward-looking statements speak only as of the date of the document in which they are made.  The Company disclaims any obligation or undertaking to provide any updates or revisions to any forward-looking statement to reflect any change in its expectations or any change in events, conditions or circumstances on which the forward-looking statement is based. (See FACTORS THAT MAY AFFECT FUTURE RESULTS.)

 

OVERVIEW AND FUTURE EXPECTATIONS

 

In the first quarter of 2004, DP&L’s operating income and cash flow from operations decreased $7.9 million and $28.3 million, respectively, from the first quarter of 2003.  Total revenue of $300.4 million exceeded the prior year by $4.7 million resulting from an increase in wholesale revenue.  Operating expenses of $193.5 million in the first quarter of 2004 increased by $12.6 million or 7% compared to the same period in the prior year. This increase was the result of higher fuel and purchased power costs as well as higher

operation and maintenance expenses.

 

19



 

DP&L’s earnings on common stock of $61.8 million in the first quarter of 2004 decreased $18.8 million compared to the same period in the prior year.

 

RESULTS OF OPERATIONS

 

Income Statement Highlights

 

 

 

Three Months Ended March 31,

 

$ in millions

 

2004

 

2003

 

 

 

 

 

(restated)

 

Electric revenues

 

$

300.4

 

$

295.7

 

Less:

Fuel

 

62.7

 

55.6

 

 

Purchased power

 

28.5

 

20.0

 

Net electric margin (a)

 

$

209.2

 

$

220.1

 

 

 

 

 

 

 

Operating income

 

$

106.9

 

$

114.8

 

 


(a)  For purposes of discussing operating results DPL presents and discusses net electric margin. This format is useful to investors because it allows analysis and comparability of operating trends and includes the same information that is used by management to make decisions regarding the Company’s financial performance.

 

Revenues

Electric revenues increased to $300.4 million in the first quarter of 2004 from $295.7 million in the first quarter of 2003 reflecting higher wholesale revenues offset by a decline in retail revenues.  Wholesale revenues increased $18.3 million or 41% as a result of increased resale transactions and higher power sales.  Retail revenues declined $13.6 million or 5% primarily reflecting industrial and commercial customers moving to a power supplier who is a subsidiary of DPL Inc.  Retail sales were up slightly as a result of increased usage despite an 8% drop in heating degree-days to 2,949 for the first quarter of 2004 compared to 3,193 for the same period in 2003.

 

Operating Expenses

Net electric margin of $209.2 million in the first quarter of 2004 decreased by $10.9 million from $220.1 million in the first quarter of 2003.  As a percentage of total electric revenues, net electric margin decreased by 4.8 percentage points to 69.6% from 74.4%.  This decline is primarily the result of increased fuel and purchased power costs.  Fuel costs increased by $7.1 million or 13% for the three months ended March 31, 2004 compared to the same period in 2003 primarily resulting from higher average fuel costs relating to both retail and wholesale sales.  Purchased power costs increased by $8.5 million or 43% in the first quarter of 2004 compared to the same period in 2003 primarily resulting from a higher volume of purchased power as retail and wholesale capacity needs were not entirely met by internal generation.  Average market prices for purchased power decreased in the first quarter of 2004 compared to the first quarter of 2003, helping to buffer the impact of increased power purchases.

 

Operation and maintenance expense increased $11.0 million or 31% for the three months ended March 31, 2004 compared to the same period in 2003, primarily as a result of higher corporate costs and increased electric production expenses.  Corporate costs increased primarily from higher premiums for Directors and Officers liability insurance of $3.5 million, the settlement of an outstanding jointly-held facility receivable in 2003 of $3.8 million and increased pension expense of $1.2 million offset by lower deferred compensation expense of $1.2 million.  Electric production expenses increased $3.0 million over the prior year primarily related to maintenance and repair expenses incurred for scheduled outages and ash disposal.

 

Amortization of regulatory assets decreased $12.0 million in the first quarter of 2004 compared to the first quarter of 2003 reflecting the conclusion of the three-year regulatory transition cost recovery period granted by the Public Utilities Commission of Ohio in 2000 and ended December 31, 2003.

 

Interest Expense

Interest expense decreased by $1.0 million or 8% in the first quarter of 2004 compared to the first quarter of 2003.  Lower bond interest expense of $3.3 million resulting from the issuance of the $470 million First Mortgage Bonds 5.125% Series due 2013 was partially offset by a $2.3 million decrease in capitalized interest reflecting the completion of pollution control construction projects.  (See Note 6 of Notes to Consolidated Financial Statements.)

 

20



 

Other Income

Other income for the first three months ended March 31, 2004 increased $3.2 million compared to the first three months ended March 31, 2003 primarily resulting from $5.5 million realized from the sale of 2004 NOx pollution allowances, partially offset by miscellaneous deductions of $2.0 million for deferred compensation.

 

Income Tax Expense

Income tax expense decreased $1.9 million or 5% in the first quarter of 2004 compared to the first quarter of 2003 primarily resulting from lower income.

 

Cumulative Effect of Accounting Change

The cumulative effect of accounting change of $17.0 million in the first quarter of 2003 reflects the adoption of the provisions of FASB Statement of Financial Accounting Standards No. 143, “Accounting for Asset Retirement Obligations” (SFAS 143).

 

LIQUIDITY, CAPITAL RESOURCES AND REQUIREMENTS

 

DP&L’s cash and temporary cash investments totaled $36.6 million at March 31, 2004 compared to $48.0 million at March 31, 2003.  This decrease was primarily attributed to lower profitability relating to higher fuel and purchased power costs.  DP&L’s cash and temporary cash investments totaled $17.2 million at December 31, 2003.

 

The Company generated net cash from operating activities of $120.3 million in the first quarter of 2004 compared to $148.6 million in the first quarter of 2003.  The net cash from operating activities for the three months ended March 31, 2004 was primarily the result of operating profitability and working capital. Operating profitability primarily drove net cash provided from operating activities for the three months ended March 31, 2003.  The decline in operating cash flow in the first quarter of 2004 compared to the first quarter of 2003 is primarily the result of lower operating profitability relating to higher fuel and purchased power costs.  The tariff-based revenue from DP&L’s energy business continues to be the principal source of cash from operating activities.  Management believes that the diversified retail customer mix of residential, commercial, and industrial classes provides DP&L with a reasonably predictable gross cash flow.

 

Net cash flows used for investing activities was $25.7 million in the first quarter of 2004 and $35.0 million in the first quarter of 2003 to provide funding for capital expenditures.

 

Net cash flows used for financing activities was $75.2 million in the first quarter of 2004 and $82.7 million in the first quarter of 2003.  Net cash flows used for financing activities for each of these periods were to pay dividends on common stock to the parent and for dividends paid on preferred stock.

 

Capital Requirements

Construction additions were $22.9 million for the first three months of 2004 and are expected to approximate $88 million for the year ended 2004 compared to $20.5 million in the first three months of 2003 and $98 million for the year ended 2003.  Planned construction additions for 2004 relate to DP&L’s environmental compliance program, power plant equipment, and its transmission and distribution system.

 

Capital projects are subject to continuing review and are revised in light of changes in financial and economic conditions, load forecasts, legislative and regulatory developments and changing environmental standards, among other factors.  Over the next four years, DP&L is projecting to spend $800 million in capital projects, approximately half of which is to meet changing environmental standards.  DP&L’s ability to complete its capital projects and the reliability of future service will be affected by its financial condition, the availability of internal and external funds at reasonable cost, and adequate and timely return on these capital investments.  DP&L expects to finance its construction additions over the next few years with internally-generated funds.

 

Debt Obligations and Maturities

The amounts of maturities and mandatory redemptions for First Mortgage Bonds, notes, and the capital lease obligation are $0.9 million remaining in 2004, $1.1 million in 2005, $1.1 million in 2006, $9.3 million in 2007 and $0.7 million in 2008.  Substantially all property of DP&L is subject to the mortgage lien securing the First Mortgage Bonds.

 

On September 29, 2003, DP&L issued $470 million principal amount of First Mortgage Bonds, 5.125% Series due 2013.  The net proceeds from the sale of the bonds, after expenses, were used to (i) redeem $226 million principal amount of DP&L’s First Mortgage Bonds, 8.15% Series due 2026, at a redemption price of 104.075% of the

 

21



 

principal amount plus accrued interest to the redemption date, and (ii) redeem $220 million principal amount of DP&L’s First Mortgage Bonds, 7.875% Series due 2024, at a redemption price of 103.765% of the principal amount plus accrued interest to the redemption date.  The $446 million of First Mortgage Bonds were called by DP&L on September 30, 2003, for redemption on October 30, 2003.  The 5.125% Series due 2013 have not been registered under the Securities Act of 1933, but were offered and sold through a private placement in compliance with Rule 144A under the Securities Act of 1933.  The bonds include step-up interest provisions requiring DP&L to pay additional interest if the securities remain unregistered after 180 days from issuance.  The sale of the bonds was not registered and, as a result, the Company is required to pay additional interest of 0.50% until an exchange offer for these securities is registered with the SEC.

 

Issuance of additional amounts of First Mortgage Bonds by DP&L is limited by the provisions of its mortgage; however, DP&L continues to have sufficient capacity to issue First Mortgage Bonds to satisfy its requirements in connection with its current refinancing and construction programs.  The amounts and timing of future financings will depend upon market and other conditions, rate increases, levels of sales and construction plans.

 

In December 2003, DP&L had $150 million available through a revolving credit agreement with a consortium of banks.  The agreement, which was scheduled to expire on December 10, 2004, was terminated on June 1, 2004.  The facility was to be used to support the Company’s business requirements and DP&L’s commercial paper program.  The facility contained two financial covenants, including maximum debt to total capitalization and minimum earnings before interest and taxes (EBIT) to interest coverage.  Fees associated with this credit facility were approximately $0.8 million per year, but a two-step increase in DP&L’s credit rating would have reduced the facility’s interest rate by 0.38%.  A lower credit rating would not have increased an applicable interest rate.  DP&L had no outstanding borrowings under the revolving credit facility and no outstanding commercial paper balances at March 31, 2004 and 2003.

 

In February 2004, DP&L entered into a $20 million Master Letter of Credit Agreement with a financial lending institution.  This agreement, which expires in February 2005, supports performance assurance needs in the ordinary course of business.  DP&L has certain contractual agreements for the sale and purchase of power, fuel and related energy services that contain credit rating clauses allowing the counterparties to seek additional surety under certain conditions.  DP&L had two outstanding letters of credit totaling $1.4 million as of March 31, 2004 and no outstanding letters of credit as of March 31, 2003.

 

In June 2004, DP&L obtained a $100 million unsecured revolving credit agreement that extended and replaced DP&L’s revolving credit agreement of $150 million.  The new agreement, which expires on May 31, 2005, provides credit support for the Company’s business requirements and commercial paper program during this period and may be increased to up to $150 million.  The facility contains two financial covenants including maximum debt to total capitalization, and minimum earnings before interest and taxes (EBIT) to total interest expense.  These covenants are currently met.  DP&L currently has no outstanding borrowings under this credit facility and no outstanding commercial paper balances.  Fees associated with this credit facility are approximately $0.6 million per year.  Changes in debt ratings, however, may affect the applicable interest rate for DP&L’s revolving credit agreement.  A one-step increase in DP&L’s credit rating reduces the facility’s interest rate by 0.38% and a one-step decrease in credit rating increases the facility’s interest rate by 0.38%.  DP&L’s ability to use this revolving credit agreement is subject to the PUCO’s annual approval which is set to expire on November 5, 2004.  DP&L has filed an application to secure the PUCO’s continued authorization and that application is pending.

 

Subsequent to the December 31, 2003 balance sheet, the Company received multiple credit rating downgrades.  Currently, DP&L’s senior secured debt credit ratings are as follows:

 

 

 

Rating

 

Outlook

 

Effective

Fitch Ratings

 

BBB

 

Negative

 

April 2004

Moody’s Investors Service

 

Baa3

 

Negative

 

April 2004

Standard & Poor’s Corp.

 

BBB-

 

Negative

 

March 2004

 

As reflected above, DP&L’s secured debt credit ratings are considered investment grade.

 

The delay in filing audited financial statements for the year ending December 31, 2003 constituted an event of default with DP&L’s previous revolving credit facility; however, DP&L obtained waivers from its lenders regarding this event.  The Company incurred fees of approximately $0.2 million to obtain these waivers. The delay in audited certified financial statements also resulted in noncompliance under the Company’s other debt agreements although the non-compliance did not result in an immediate event of default.  The Company has not received any default notifications

 

22



 

from any of its lenders.  The Company’s debt agreements allow a grace period to cure a default after notification.  Management, after consultation with legal counsel, believes all non-compliance conditions have been remedied.

 

There are no inter-company debt collateralizations or debt guarantees between DP&L and its subsidiaries or parent.  None of the debt obligations of DP&L or DPL Inc. are guaranteed or secured by affiliates and no cross-collateralization exists between any subsidiaries.

 

Off-Balance Sheet Arrangements

DP&L does not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on DP&L’s financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.

 

Long-Term Obligations and Commercial Commitments

DP&L enters into various contractual and other long-term obligations that may affect the liquidity of its operations. The following table outlines DP&L’s obligations at March 31, 2004:

 

 

 

Payment Year

 

Long-term Obligations ($ in millions)

 

2004

 

2005 &
2006

 

2007 &
2008

 

Thereafter

 

Total

 

Long-term debt

 

$

0.4

 

$

0.8

 

$

8.6

 

$

673.6

 

$

683.4

 

Capital lease

 

0.5

 

1.4

 

1.4

 

1.5

 

4.8

 

Operating leases

 

0.8

 

0.4

 

 

 

1.2

 

Coal contracts

 

270.2

 

211.2

 

84.6

 

127.7

 

693.7

 

Other long-term obligations

 

9.9

 

14.8

 

1.0

 

 

25.7

 

Total long-term Obligations

 

$

281.8

 

$

228.6

 

$

95.6

 

$

802.8

 

$

1,408.8

 

 

Long-term debt:

Long-term debt as of March 31, 2004 consists of first mortgage bonds and guaranteed air quality development obligations, including current maturities.

 

Capital lease:

As of March 31, 2004, the Company had one capital lease that expires September 2010.

 

Operating leases:

As of March 31, 2004, the Company had several operating leases with various terms and expiration dates.

 

Coal contracts:

DP&L has entered into various long-term coal contracts to supply portions of its coal requirements for its generating plants.  Contract prices are subject to adjustment in accordance with various indices, and have features that will limit price escalation in any given year.

 

Other long-term obligations:

As of March 31, 2004, DP&L had various other long-term obligations including non-cancelable contracts to purchase goods and services with various terms and expiration dates.

 

DP&L enters into various commercial commitments which may affect the liquidity of its operations.

 

 

 

Expiring Year

 

Commercial Commitments ($ in millions)

 

2004

 

2005 &
2006

 

2007 &
2008

 

Thereafter

 

Total

 

Credit facilities

 

$

150.0

 

$

 

$

 

$

 

$

150.0

 

Guarantees

 

 

17.8

 

 

 

17.8

 

Total commercial commitments

 

$

150.0

 

$

17.8

 

$

 

$

 

$

167.8

 

 

Credit facilities:

DP&L had $150 million available through a revolving credit agreement with a consortium of banks that was scheduled to expire on December 10, 2004.  At March 31, 2004, there were no borrowings outstanding under this credit agreement.  In June 2004, the Company replaced this facility with a $100 million, 364 day unsecured credit facility that expires on May 31, 2005.  The new facility may be increased to up to $150 million.

 

23



 

Guarantees:

DP&L owns a 4.9% equity ownership interest in an electric generation company.  As of March 31, 2004, DP&L could be responsible for the repayment of 4.9%, or $14.9 million, of a $305 million debt obligation and also 4.9%, or $2.9 million, of a separate $60.0 million debt obligation.  Both obligations mature in 2006.

 

MARKET RISK

 

DP&L’s financial results are subject to certain market risks, including changes in electricity, coal, environmental emissions, gas and other commodity prices; the effect of weather, increased competition and economic conditions in the sales area on retail sales volume; and adverse economic conditions.

 

Approximately 21 percent of DP&L’s first quarter 2004 revenues were from sales of energy and capacity in the wholesale market.  Energy and capacity in excess of the needs of existing retail customers is sold in the wholesale market when DP&L can identify opportunities with positive margins.  In the first quarter of 2004, sales of

excess wholesale energy and capacity contributed $5.8 million in net electric margins.  This compares to net electric margins from wholesale energy and capacity sales of $10.2 million in 2003.  This decrease in net electric margins resulted from lower average market prices for wholesale sales and increased average market prices for fuel and purchased power.   Wholesale sales per megawatt hour in the first quarter of 2004 and 2003 were $33.69 and $34.76, respectively.  Wholesale fuel costs per megawatt hour for the first quarter of 2004 and 2003 were $15.07 and $12.30, respectively and wholesale purchased power costs per megawatt hour for the first quarter of 2004 and 2003 were $33.82 and $32.34, respectively.

 

Fuel and purchased power costs represented 47% of total operating costs in the first quarter of 2004.  DP&L has contracted for all of its projected coal needs for 2004, at an estimated cost per Btu increase of approximately 15% over average 2003 levels.  Purchased power costs depend, in part, upon the timing and extent of planned and unplanned outages of its generating capacity.  DP&L will purchase power on a discretionary basis when wholesale market conditions provide opportunities to obtain power at a cost below the Company’s internal production costs.

 

The carrying value of DP&L’s debt was $688.2 million at March 31, 2004, consisting of DP&L’s First Mortgage Bonds, DP&L’s Guaranteed Air Quality Development Obligations and Capital Lease. The fair value of this debt was $619.1 million, based on current market prices or discounted cash flows using current rates for similar issues with similar terms and remaining maturities.  The principal cash repayments and related weighted average interest rates by maturity date for long-term, fixed rate debt at March 31, 2004 are as follows:

 

Expected Maturity

 

Long-term Debt

 

Date

 

Amount

 

Average Rate

 

 

 

($ in millions)

 

 

 

2004

 

$

0.9

 

4.2

%

2005

 

1.1

 

3.9

%

2006

 

1.1

 

3.9

%

2007

 

9.3

 

6.1

%

2008

 

0.7

 

2.6

%

Thereafter

 

675.1

 

5.5

%

Total

 

$

688.2

 

5.5

%

 

 

 

 

 

 

Fair Value

 

$

619.1

 

 

 

 

The fair value of financial instruments held was $89 million and $103.5 million at March 31, 2004 and December 31, 2003 respectively.  The market risk related to these financial instruments were estimated as the potential increase/decrease in fair value of approximately $9 million at March 31, 2004, resulting from a hypothetical 10% increase/decrease in the value of the underlying securities.

 

FACTORS THAT MAY AFFECT FUTURE RESULTS

 

This quarterly report and other documents that DP&L files with the Securities and Exchange Commission (SEC) and other regulatory agencies, as well as other oral or written statements the Company may make from time to time,

 

24



 

contain information based on management’s beliefs and include forward-looking statements (within the meaning of the Private Securities Litigation Reform Act of 1995) that involve a number of known and unknown risks, uncertainties and assumptions. These forward-looking statements are not guarantees of future performance, and there are a number of factors including, but not limited to, those listed below, which could cause actual outcomes and results to differ materially from the results contemplated by such forward-looking statements. DP&L does not undertake any obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. These forward-looking statements are identified by terms and phrases such as “anticipate”, “believe”, “intend”, “estimate”, “expect”, “continue”, “should”, “could”, “may”, “plan”, “project”, “predict”, “will”, and similar expressions.

 

Regulation/Competition

DP&L operates in a rapidly changing industry with evolving industry standards and regulations. In recent years, a number of federal and state developments aimed at promoting competition triggered industry restructuring.  Regulatory factors, such as changes in the policies or procedures that set rates; changes in tax laws, tax rates, and environmental laws and regulations; changes in DP&L’s ability to recover expenditures for environmental compliance, fuel costs and purchased power costs and investments made under traditional regulation through rates; and changes to the frequency and timing of rate increases, can affect the Company’s results of operations and financial condition.  Additionally, financial or regulatory accounting principles or policies imposed by governing bodies can increase DP&L’s operational and monitoring costs affecting its results of operations and financial condition.

 

Changes in DP&L’s customer base, including aggregation, could lead to the entrance of competitors in the Company’s marketplace affecting its results of operations and financial condition.

 

Economic Conditions

Economic pressures, as well as changing market conditions and other factors related to physical energy and financial trading activities, which include price, basis, credit, liquidity, volatility, capacity, transmission, and interest rates can have a significant effect on DP&L’s operations and the operations of its retail, industrial and commercial customers.

 

Reliance on Third Parties

DP&L relies on many suppliers for the purchase and delivery of inventory and components to operate its energy production and transmission functions.  Unanticipated changes in DP&L’s purchase processes may affect the Company’s business and operating results. In addition, the Company relies on others to provide professional services, such as, but not limited to investment management, actuarial calculations, internal audit services, payroll processing and various consulting services.

 

Operating Results Fluctuations

Future operating results could be affected and are subject to fluctuations based on a variety of factors, including but not limited to: unusual weather conditions; catastrophic weather-related damage; unscheduled generation outages; unusual maintenance or repairs; changes in coal costs, gas supply costs, or availability constraints; environmental compliance, including costs of compliance with existing and future environmental requirements; and electric transmission system constraints.

 

Employees

A majority of the Company’s employees are under a collective bargaining agreement.  If the Company is unable to negotiate future collective bargaining agreements, the Company could experience work stoppages, which may affect its business and operating results.

 

Regulatory Uncertainties and Litigation

In the normal course of business, the Company is subject to various lawsuits, actions, proceedings, claims and other matters asserted under laws and regulations.  Additionally, the Company is subject to diverse and complex laws and regulations, including those relating to corporate governance, public disclosure and reporting and taxation, which are rapidly changing and subject to changes in the future. As described under Item 3 – Legal Proceedings, in the Company’s Form 10-K for the year ended December 31, 2003, the Company is also currently involved in various litigation in which the outcome is uncertain.  Compliance with these rapid changes may substantially increase costs to DP&L’s organizations and could affect its future operating results.

 

Internal Controls

As described under Item 1 – Business - Recent Developments, in the Company’s Form 10-K for the year ended December 31, 2003, a review by independent counsel to DP&L’s Audit Committee of the Board of Directors of the

 

25



 

Company has identified recommendations for improvement relating to some of the concerns raised by the Company’s Controller including, among other things, internal controls.  In addition, as further described under Item 9A - Controls and Procedures, during their year-end review, the Company’s independent auditors identified and reported to management and the Audit Committee of the Board of Directors two material weaknesses and certain other matters involving internal control deficiencies considered to be reportable conditions under standards established by the Public Company Accounting Oversight Board (PCAOB).  The material weaknesses include conditions related to (1) the Company’s process for recognizing an adjustment to the Company’s income tax provision to reflect a deductibility limitation under Section 162(m) with respect to executive deferred compensation distributions made during 2003 and (2) lack of effective communication in internal reporting of certain investment income that may lead to improper accounting of such transactions in accordance with generally accepted accounting principles.

 

The reportable conditions that are not believed to be a material weakness include conditions related to payroll processing, the quality and change control process for the preparation of SEC filings, management’s assessment of the Company’s internal controls, executive travel and entertainment expense reporting, the lack of a comprehensive controller function and segregation of duties for certain accounting transactions and activities.

 

The Company’s failure to timely improve any deficiencies in its internal controls and procedures could result in errors in its consolidated financial statements, adversely affect its ability to operate its business and hamper management’s ability to report on the effectiveness of its internal controls.  The Company has taken steps to correct the internal control deficiencies identified and will further develop and enhance the Company’s internal control policies, procedures, systems and staff to allow it to mitigate the risk that material accounting errors might go undetected and be included in its consolidated financial statements.  The Company cannot assure that any new policies or procedures that the Company implements to remedy the material weaknesses and/or reportable conditions will be successful in the near term.

 

The Company is currently undertaking a thorough review of its internal controls as part of the Company’s preparation for compliance with the requirements under Section 404 of the Sarbanes-Oxley Act of 2002 and the Company is using this review to further assist in identifying and correcting any control deficiencies.  As expected, this review has revealed some control weaknesses, which the Company has reported to the Audit Committee. The Company has since taken steps to strengthen its internal controls in these areas, including increasing segregation of duties, writing policies where necessary, adding checks at key decision points and increasing supervisor review of transactions.  These actions have been successful in eliminating a large percentage of the deficiencies noted, but additional remediation activities continue.  Corrected control deficiencies are being retested by management to assure that remediation efforts were successful, and the Company’s auditors will perform independent testing of the Company’s internal controls as part of their year-end review.  At this time, the Company has not completed its review of the existing controls and their effectiveness.  Unless the material weaknesses described above, or any identified during this review, are remedied, there can be no assurances that the Company will be able to assert that its internal control over financial reporting is effective, pursuant to the rules adopted by the SEC under Section 404, when those rules take effect.

 

 

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

 

DP&L’s consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States (GAAP). In connection with the preparation of these financial statements, DP&L’s management is required to make assumptions, estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses and the related disclosure of contingent liabilities. These assumptions, estimates and judgments are based on management’s historical experience and assumptions that are believed to be reasonable at the time. However, because future events and their effects cannot be determined with certainty, the determination of estimates requires the exercise of judgment. DP&L’s critical accounting policies are those which require assumptions to be made about matters that are highly uncertain.

 

Different estimates could have a material effect on its financial results. Judgments and uncertainties affecting the application of these policies and estimates may result in materially different amounts being reported under different conditions or circumstances.  Significant items subject to such judgments include the carrying value of property, plant and equipment; the valuation of derivative instruments; valuation allowance for receivables and deferred income taxes; the valuation of reserves related to current litigation; and assets and liabilities related to employee benefits.

 

26



 

There have been no significant changes to the critical accounting policies as disclosed in DP&L’s Form 10-K as of December 31, 2003.

 

Recently Issued Accounting Pronouncements

A discussion of recently issued accounting pronouncements is described in Note 1 of Notes to Consolidated Financial Statements and such discussion is incorporated by reference in this Management’s Discussion and Analysis of Financial Condition and Results of Operations and make it a part hereof.

 

27



 

THE DAYTON POWER AND LIGHT COMPANY

OPERATING STATISTICS

 

 

 

Three Months Ended
March 31,

 

 

 

2004

 

2003

 

Electric

 

 

 

 

 

 

 

 

 

 

 

Sales (millions of kWh)

 

 

 

 

 

Residential

 

1,531

 

1,546

 

Commercial

 

904

 

886

 

Industrial

 

1,038

 

1,023

 

Other retail

 

333

 

333

 

Total retail

 

3,806

 

3,788

 

Wholesale

 

982

 

832

 

 

 

 

 

 

 

Total

 

4,788

 

4,620

 

 

 

 

 

 

 

Revenues ($ in thousands)

 

 

 

 

 

Residential

 

$

125,992

 

$

126,193

 

Commercial

 

57,597

 

60,130

 

Industrial

 

30,830

 

41,619

 

Other retail

 

22,808

 

22,870

 

Total retail

 

237,227

 

250,812

 

Wholesale

 

63,174

 

44,853

 

 

 

 

 

 

 

Total

 

$

300,401

 

$

295,665

 

 

 

 

 

 

 

Electric customers at end of period

 

507,659

 

505,568

 

 

Item 3.  Quantitative and Qualitative Disclosures about Market Risk

 

See the “Market Risk” section of Item 2.

 

Item 4.  Controls and Procedures

 

For the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and interim Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures.  Based on that evaluation, the Chief Executive Officer and the interim Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures.  Even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives.

 

Attached as Exhibits 31.1 and 31.2 to this quarterly report are certifications of the Chief Executive Officer and the interim Chief Financial Officer required in accordance with Rule 13a-14 of the Exchange Act.  This portion of the Company’s quarterly report includes the information concerning the controls evaluation referred to in the certifications and should be read in conjunction with the certifications for a more complete understanding of the topics presented.

 

There were no changes in the Company’s internal control over financial reporting that occurred during the last quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.  However, during their year-end review, KPMG LLP (KPMG), the Company’s independent accountants, identified and reported to management and the Audit Committee of DPL’s Board of Directors two material weaknesses and certain other matters involving internal control deficiencies considered to be reportable

 

28



 

conditions under standards established by the Public Company Accounting Oversight Board (PCAOB).  Reportable conditions are matters coming to the attention of the auditors that, in their judgment, relate to significant deficiencies in the design or operation of internal control and could adversely affect the organization’s ability to record, process, summarize and report financial data consistent with the assertions of management in the financial statements.  A material weakness is a reportable condition in which the design or operation of one or more internal control components does not reduce to a relatively low level the risk that errors or fraud in amounts that would be material in relation to the financial statements being audited may occur and not be detected within a timely period by employees in the normal course of performing their assigned functions.

 

The two material weaknesses identified are:

 

(1)           An ineffective process for recognizing an adjustment to the Company’s income tax provision to reflect a deductibility limitation under Section 162(m) for executive deferred compensation distributions made during 2003, including, without limitation, insufficient supporting documentation submitted to the Company’s tax department for purposes of calculating the income tax provision and the lack of effective communication between and among senior management, counsel and the Company’s tax and compensation experts.  Absent review of specific deferred compensation records by the Company’s outside auditors, income tax balances for 2003 may have been improperly stated at December 31, 2003.  Management concurred with KPMG’s observations relating to income tax reporting of executive compensation.  The Company further evaluated its internal processes relating to executive compensation and has implemented internal control improvements in this area; and

 

(2)           A complex and manual process for accounting and reporting transactions in DPL’s financial asset portfolio, including, (i) separate reporting structures for MVE accounting and corporate accounting that do not allow for a review of the entire process, (ii) the lack of a complete accounting manual for financial asset portfolio accounting that contemplates all investment transactions that occur on a regular basis and (iii) ineffective communication between the MVE and corporate accounting groups that does not ensure that all investment portfolio transactions are identified, accumulated and reported in accordance with generally accepted accounting principles.  Specifically, in 2003 private equity fund distributions in the form of stock of underlying investments were initially accounted for by management entirely as return of capital transactions.  A large element of each distribution should have been accounted for as income rather than a return of capital.  As a result, results for the third quarter 2003 were required to be revised.  Similar transactions in prior years were also accounted for inappropriately and were revised.  Management concurred with KPMG’s observations relating to investment portfolio accounting and acknowledged the need for improvement.  DPL further evaluated its accounting processes relating to its investment portfolio and has implemented internal control improvements in this area.

 

The reportable conditions that are not believed to be material weaknesses are conditions related to:  (i) payroll processing and the fact that the Company has two separate payroll processes, one for the majority of personnel and one for the Company’s senior executives, (ii) the lack of a quality and change control process for the preparation and submission of SEC filings on Form 10-K and Form 10-Q, (iii) the lack of significant progress made by management in assessing the Company’s internal controls in preparation for Sarbanes-Oxley Section 404 implementation and KMPG’s belief that the Company will identify control weaknesses requiring remediation, (iv) the Company’s process for executive travel and entertainment expense reporting and reimbursement and the lack of sufficient supporting documentation for reported business expenses of certain executives to support deductibility for tax purposes, (v) the lack of a comprehensive controller function to monitor the accounting function in the Company and (vi) inadequate segregation of duties for certain accounting transactions and activities processed at the executive level, including payroll, benefit plans, other compensation plans, time and expense reporting by senior management and preparation and submission of SEC filings.

 

The material weaknesses and reportable conditions identified above, if unaddressed, could result in errors in the Company’s consolidated financial statements.

 

Management concurred with KPMG’s observations relating to payroll processing (particularly those relating to executive compensation), external reporting processes, and executive travel and entertainment expense reporting.  The Company further evaluated these areas and implemented appropriate internal control improvements.

 

Management acknowledged KPMG’s observations relating to Sarbanes-Oxley Section 404 implementation and increased resources dedicated to this effort.  Additionally, the Company has improved its communications both within the organization and with KPMG regarding the status of the implementation process, project scope, preliminary results and remediation efforts.  Management also acknowledged the need for a more comprehensive

 

29



 

controller function.  The Company reviewed the accounting processes performed outside the corporate controller’s area and reassigned responsibility for these processes as deemed appropriate for improved internal controls.  Finally, management concurred with KPMG’s observations regarding segregation of duties related to specific activities performed by the prior interim chief financial officer and acknowledged that improvements were needed in this area.  The Company plans to use the Sarbanes-Oxley Section 404 implementation process to further assist in identifying and reassigning responsibility for activities that require additional segregation of duties.

 

The Company will continue to evaluate the material weaknesses and reportable conditions and will take all necessary action to correct the internal control deficiencies identified. The Company will also further develop and enhance its internal control policies, procedures, systems and staff to allow it to mitigate the risk that material accounting errors might go undetected and be included in its consolidated financial statements.  The Company is currently undertaking a thorough review of its internal controls as part of the Company’s preparation for compliance with the requirements under Section 404 of the Sarbanes-Oxley Act of 2002 and the Company is using this review to further assist in identifying and correcting any control deficiencies.  As expected, this review has revealed control weaknesses, which the Company has reported to the Audit Committee.  The Company has since taken steps to strengthen its internal controls in these areas, including increasing segregation of duties, writing policies where necessary, adding checks at key decision points and increasing supervisor review of transactions.  These actions have been successful in eliminating a large percentage of the deficiencies noted, but additional remediation activities continue.  Corrected control deficiencies are being retested by management to assure that remediation efforts were successful, and the Company’s auditors will perform independent testing of the Company’s internal controls as part of their year-end review.  At this time, the Company has not completed its review of the existing controls and their effectiveness.  Unless the material weaknesses described above, and any identified during this review, are remedied, there can be no assurances that the Company will be able to assert that its internal control over financial reporting is effective in the management report to be included in the Annual Report for the year ended December 31, 2004, pursuant to the rules adopted by the SEC under Section 404.

 

30



 

Part II.  Other Information

 

Item 1.  Legal Proceedings

 

There were no significant changes to the Legal Proceedings reported in DP&L’s Form 10-K as of December 31, 2003.  A discussion of legal proceedings is described in Item 3-Legal Proceedings and Note 16 of Notes to Consolidated Financial Statements of DP&L’s Form 10-K for the year ended December 31, 2003 and such discussions are incorporated by reference and made a part hereof.

 

Item 4.  Submission of Matters to a Vote of Security Holders

 

There were no submissions to the security holders in the first quarter.

 

Item 5.  Other Information

 

There were no significant changes to the Recent Developments reported in Item 1-Business or to the Subsequent Events discussed in Note 18 of Notes to Consolidated Financial Statements in DP&L’s Form 10-K as of December 31, 2003 and such discussions are incorporated by reference and made a part hereof.

 

Item 6.  Exhibits and Reports on Form 8-K

 

(a)                                  The following exhibit is filed herewith:

 

Exhibits 31.1 and 31.2 – Officer’s Certifications pursuant to Section 302 of the Sarbanes Oxley Act of 2002

 

Exhibit 32 – Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

(b)                                 Reports on Form 8-K.

 

No reports on Form 8-K were filed by the Company during the quarter ended March 31, 2004.

 

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SIGNATURES

 

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

 

 

 THE DAYTON POWER AND LIGHT COMPANY

 

 

 

 

 (Registrant)

 

 

 

 

 

 

 

 

Date:

November 5, 2004

 

 /s/ James V. Mahoney

 

 

 

 

 James V. Mahoney

 

 

 

 President and Chief Executive Officer
 (principal executive officer)

 

 

 

 

 

 

 

 

 

November 5, 2004

 

 /s/ Pamela Holdren

 

 

 

 

 Pamela Holdren

 

 

 

 Treasurer and Interim Chief Financial Officer (principal financial
 and principal accounting officer)

 

 

 

 

 

November 5, 2004

 

 /s/ Daniel L. Thobe

 

 

 

 

 Daniel L. Thobe

 

 

 

 Corporate Controller

 

32