SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2002MARCH 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Transition period from ____________________ to _______________________
Commission File No. 0-994
[GRAPHIC[LOGO OMITTED][NW NATURALNATURAL]
NORTHWEST NATURAL GAS COMPANY
(Exact name of registrant as specified in its charter)
OREGON 93-0256722
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
220 N.W. SECOND AVENUE, PORTLAND, OREGON 97209
(Address of principal executive offices) (Zip Code)
Registrant's Telephone Number, including area code: (503) 226-4211
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [x] No [ ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [x] No [ ]
At November 6, 2002, 25,536,463May 8, 2003, 25,663,184 shares of the registrant's Common Stock, $3-1/6 par
value (the only class of Common Stock) were outstanding.
NORTHWEST NATURAL GAS COMPANY
September 30, 2002March 31, 2003
Summary of Information Reported
The registrant submits herewith the following information:
PART I. FINANCIAL INFORMATION
Page
Number
Item 1. Consolidated Financial Statements (1)Page
Number
Consolidated Statements of Income for the three-month
and nine-month periods ended Sept. 30,March 31, 2003 and 2002 and 2001 3
(2)
Consolidated Statements of Earnings Invested in the Business
for the nine-monththree-month periods ended Sept. 30,March 31, 2003 and 2002 and 2001 4
(3)
Consolidated Balance Sheets at Sept. 30,March 31, 2003 and 2002 and 2001
and Dec. 31, 20012002 5
(4)
Consolidated Statements of Cash Flows for the nine-monththree-month
periods ended Sept. 30,March 31, 2003 and 2002 and 2001 7
(5)
Consolidated Statements of Capitalization at Sept. 30,March 31, 2003
and 2002 and 2001 and Dec. 31, 20012002 8
(6)
Notes to Consolidated Financial Statements 9
Item 2. Management's Discussion and Analysis of Results of Operations
and Financial Condition 1314
Item 3. Quantitative and Qualitative Disclosures About Market Risk 2625
Item 4. Controls and Procedures 2625
PART II. OTHER INFORMATION
Item 5. Other Information 261. Legal Proceedings 25
Item 6. Exhibits and Reports on Form 8-K 2726
Signature 2726
Certifications 2827
2
NORTHWEST NATURAL GAS COMPANY
PART I. FINANCIAL INFORMATION
(1) Consolidated Statements of Income
(Unaudited)
Three Months Ended
Nine Months EndedMarch 31,
-----------------------
Thousands, except per share amounts Sept. 30, Sept. 30,2003 2002
- ---------------------------------------------------------------------------------------------------------------------
2002 2001 2002 2001
---- ---- ---- -----------------------------------------------------------------------------------------------------------
Operating revenues:
Gross operating revenues $ 78,717206,539 $ 78,359 $ 459,153 $ 413,850278,563
Cost of sales 40,658 41,292 253,864 230,404
---------- ----------107,951 167,897
--------- ---------
Net operating revenues 38,059 37,067 205,289 183,44698,588 110,666
Operating expenses:
Operations and maintenance 19,685 18,749 62,087 60,77824,071 22,169
Taxes other than income taxes 6,781 6,265 25,635 22,22410,817 12,002
Depreciation depletion and amortization 13,035 12,567 38,633 36,982
---------- ----------13,166 12,814
--------- ---------
Total operating expenses 39,501 37,581 126,355 119,984
---------- ----------48,054 46,985
--------- ---------
Income (loss) from operations (1,442) (514) 78,934 63,46250,534 63,681
Other income (expense) 248 240 (14,179) 837(584) (870)
Interest charges - net 8,652 8,306 25,378 24,492
---------- ----------8,946 8,149
--------- ---------
Income (loss) before income taxes (9,846) (8,580) 39,377 39,80741,004 54,662
Income tax expense (benefit) (3,838) (3,604) 13,930 14,011
---------- ----------taxes 14,600 20,215
--------- ---------
Net income (loss) (6,008) (4,976) 25,447 25,79626,404 34,447
Redeemable preferred and preference stock dividend requirements 582147 595 1,767 1,807
---------- ----------
--------- ---------
Earnings (loss) applicable to common stock $ (6,590)26,257 $ (5,571) $ 23,680 $ 23,989
========== ==========33,852
========= =========
Average common shares outstanding 25,492 25,133 25,389 25,14825,617 25,266
Basic earnings (loss) per share of common stock $ (0.26)1.03 $ (0.22) $ 0.93 $ 0.951.34
Diluted earnings (loss) per share of common stock $ (0.26)1.01 $ (0.22) $ 0.93 $ 0.951.32
Dividends per share of common stock $ 0.315 $ 0.31 $ 0.945 $ 0.930.315
--------------------------------------------------
See Notes to Consolidated Financial Statements
3
NORTHWEST NATURAL GAS COMPANY
PART I. FINANCIAL INFORMATION
(2) Consolidated Statements of Earnings Invested in the Business
(Unaudited)
NineThree Months Ended Sept. 30,
-------------------------------------------------March 31,
--------------------------------------------------------------
Thousands 2003 2002
2001
- ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Earnings invested in the business:
Balance at beginning of period $ 147,950157,136 $ 134,189147,950
Net income 25,44726,404 $ 25,447 25,79626,404 34,447 $ 25,79634,447
Cash dividends paid:
Redeemable preferred and preference stock (1,776) (1,816)(147) (594)
Common stock (23,980) (23,377)
Common stock repurchased - (2,688)(8,063) (7,953)
--------- ---------
Balance at end of period $ 147,641175,330 $ 132,104173,850
========= =========
Accumulated other comprehensive income (loss):
Balance at beginning of period $ (375)(3,084) $ -(375)
Other comprehensive income:income - net of tax:
Change in net unrealized gains (losses)gain from price risk
management activities - net of tax 291 291 - -
----------------------- ----------------------- -- 430 430
--------------------------- --------------------------
Comprehensive income $ 25,73826,404 $ 25,796
========== ========34,877
========= =========
Balance at end of period $ (84)(3,084) $ -55
========= =========
--------------------------------------------------
See Notes to Consolidated Financial Statements
4
NORTHWEST NATURAL GAS COMPANY
PART I. FINANCIAL INFORMATION
(3) Consolidated Balance Sheets
Sept. 30, Sept. 30,March 31, March 31,
2003 2002 2001 Dec. 31,
Thousands (Unaudited) (Unaudited) 20012002
- -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Assets:
Plant and property:
Utility plant $ 1,514,4891,563,162 $ 1,455,6951,478,725 $ 1,465,0791,539,965
Less accumulated depreciation 548,696 507,284 514,629
------------ ------------573,355 525,805 560,798
----------- ----------- -----------
Utility plant - net 965,793 948,411 950,450
------------ ------------989,807 952,920 979,167
----------- ----------- -----------
Non-utility property 20,831 8,653 18,20322,176 18,494 20,832
Less accumulated depreciation and depletion 3,976 3,523 3,677
------------ ------------amortization 4,518 3,774 4,404
----------- ----------- -----------
Non-utility property - net 16,855 5,130 14,526
------------ ------------17,658 14,720 16,428
----------- ----------- -----------
Total plant and property 982,648 953,541 964,976
------------ ------------1,007,465 967,640 995,595
----------- ----------- -----------
Other investments 13,174 15,207 23,233
------------ ------------12,462 25,074 12,703
----------- ----------- -----------
Current assets:
Cash and cash equivalents 19,701 8,074 10,44045,468 30,084 7,328
Accounts receivable 26,106 29,072 66,68460,396 81,503 48,751
Allowance for uncollectible accounts (1,636) (1,290) (1,962)(2,709) (3,648) (1,815)
Accrued unbilled revenue 15,193 10,152 57,74930,548 39,860 44,069
Inventories of gas, materials and supplies 55,367 54,492 49,33732,873 33,396 58,030
Prepayments and other current assets 30,793 33,289 28,086
------------ ------------24,610 24,100 37,645
----------- ----------- -----------
Total current assets 145,524 133,789 210,334
------------ ------------191,186 205,295 194,008
----------- ----------- -----------
Regulatory assets:
Income tax asset 47,975 48,469 49,515 48,469
Deferred gas costs receivable - 8,464 -47,975
Unrealized loss on non-trading derivatives 4,090 119,700 111,641-- 48,666 --
Unamortized losscosts on debt redemption 6,624 7,086 6,970redemptions 6,392 6,855 6,508
Other 5,782 5,824 5,302
------------ ------------4,665 4,232 7,040
----------- ----------- -----------
Total regulatory assets 64,965 190,589 172,382
------------ ------------59,032 108,222 61,523
----------- ----------- -----------
Other assets:
Investment in life insurance 54,155 51,281 53,03355,264 53,418 54,916
Fair value of non-trading derivatives 22,264 -- 12,426
Other 12,229 10,656 11,064
------------ ------------12,381 11,168 11,620
----------- ----------- -----------
Total other assets 66,384 61,937 64,097
------------ ------------89,909 64,586 78,962
----------- ----------- -----------
Total assets $ 1,272,6951,360,054 $ 1,355,0631,370,817 $ 1,435,022
============ ============1,342,791
=========== =========== ===========
--------------------------------------------------
See Notes toTo Consolidated Financial Statements
5
NORTHWEST NATURAL GAS COMPANY
PART I. FINANCIAL INFORMATION
(3) Consolidated Balance Sheets
Sept. 30, Sept. 30,March 31, March 31,
2003 2002 2001 Dec. 31,
Thousands (Unaudited) (Unaudited) 20012002
- --------------------------------------------------------------------------------------------------------------------
Capitalization and liabilities:
Capitalization:---------------------------------------------------------------------------------------------------------------
Capitalization and liabilities:
Common stock $ 80,83481,214 $ 79,67180,130 $ 79,88981,023
Premium on common stock 246,690 239,351 240,697249,340 242,245 248,028
Earnings invested in the business 147,641 132,104 147,950175,330 173,850 157,136
Accumulated other comprehensive income (loss) (84) - (375)
------------ ------------(3,084) 55 (3,084)
----------- ----------- -----------
Total common stock equity 475,081 451,126 468,161502,800 496,280 483,103
Redeemable preference stock -- 25,000 25,000 25,000--
Redeemable preferred stock 8,250 9,000 9,0008,250
Long-term debt 446,033 398,449 378,377
------------ ------------485,926 438,236 445,945
----------- ----------- -----------
Total capitalization 954,364 883,575 880,538
------------ ------------996,976 968,516 937,298
----------- ----------- -----------
Current liabilities:
Notes payable - 78,862 108,291-- 163 69,802
Accounts payable 45,400 39,900 70,69877,250 59,592 74,436
Long-term debt due within one year 20,000 40,000 20,000
40,000
Taxes accrued 8,514 8,113 22,5397,348 30,280 7,822
Interest accrued 10,655 9,690 3,65811,073 9,847 2,902
Other current and accrued liabilities 25,379 24,309 28,396
------------ ------------30,745 26,673 30,045
----------- ----------- -----------
Total current liabilities 129,948 180,874 273,582
------------ ------------146,416 166,555 205,007
----------- ----------- -----------
Regulatory liabilities:
Customer advances 1,818 1,956 1,9851,790 1,824 1,791
Deferred gas costs payable 15,957 - 10,089
------------ ------------12,908 30,262 10,635
Unrealized gain on non-trading derivatives 22,264 -- 12,426
----------- ----------- -----------
Total regulatory liabilities 17,775 1,956 12,074
------------ ------------36,962 32,086 24,852
----------- ----------- -----------
Other liabilities:
Deferred income taxes 138,130 142,485 130,424146,684 128,886 141,732
Deferred investment tax credits 7,286 8,138 7,824
Fair value of non-trading derivatives 4,026 119,700 111,868
Deferred investment tax credits 8,169 9,081 8,682-- 48,463 --
Other 20,283 17,392 17,854
------------ ------------25,730 18,173 26,078
----------- ----------- -----------
Total other liabilities 170,608 288,658 268,828
------------ ------------179,700 203,660 175,634
----------- ----------- -----------
Commitments and Contingencies (see Note 6) -- -- --
----------- ----------- -----------
Total capitalization and liabilities $ 1,272,6951,360,054 $ 1,355,0631,370,817 $ 1,435,022
============ ============1,342,791
=========== =========== ===========
--------------------------------------------------
See Notes toTo Consolidated Financial Statements
6
NORTHWEST NATURAL GAS COMPANY
PART I. FINANCIAL INFORMATION
(4) Consolidated Statements of Cash Flows
(Unaudited)
NineThree Months Ended
Sept. 30,
---------------------------March 31,
------------------------------
Thousands 2003 2002
2001
- -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Operating activities:
Net income from operations $ 25,44726,404 $ 25,79634,447
Adjustments to reconcile net income to cash provided by operations:
Depreciation depletion and amortization 38,633 36,98213,166 12,814
Gain on sale of assets -- (221) -
Loss reserve for PGE acquisition costs 13,699 -
Unrealized gain from price risk management activities 291 --- 430
Deferred income taxes and investment tax credits 7,193 3724,414 (2,082)
Equity in (earnings) losses of investments (1,220) 182260 (138)
Allowance for funds used during construction (406) (667)(189) (148)
Deferred gas costs - net 5,868 8,5092,273 20,173
Other (450) 2,489
----------- -----------1,033 424
------------------------------
Cash from operations before working capital changes 88,834 73,66347,361 65,699
Changes in operating assets and liabilities:
Accounts receivable - net of uncollectible accounts 40,252 32,971(10,751) (13,133)
Accrued unbilled revenue 42,556 35,46713,521 17,889
Inventories of gas, materials and supplies (6,030) (7,609)25,157 15,941
Accounts payable (25,298) (70,798)2,814 (11,106)
Accrued interest and taxes (7,028) 7,04116,949 13,930
Other current assets and liabilities (5,890) (9,784)
----------- -----------4,483 2,097
------------------------------
Cash provided by operating activities 127,396 60,951
----------- -----------99,534 91,317
------------------------------
Investing activities:
Acquisition and construction of utility plant assets (53,271) (55,822)(23,503) (15,039)
Investment in non-utility property (2,628) (4)(1,344) (291)
PGE acquisition costs (4,142) (1,229)-- (2,334)
Proceeds from sale of assets and other 2,109 366
----------- ------------- 500
Other investments (19) 518
------------------------------
Cash used in investing activities (57,932) (56,689)
----------- -----------(24,866) (16,646)
Financing activities:
Common stock issued 5,094 3,665
Common stock repurchased - (5,792)
Redeemable preferred stock retired (750) (750)1,484 1,648
Long-term debt issued 90,000 18,000
Long-term debt retired (20,500) (20,000)40,000 60,000
Change in short-term debt (108,291) 22,599(69,802) (108,128)
Cash dividend payments:
Redeemable preferred and preference stock (1,776) (1,816)(147) (594)
Common stock (23,980) (23,377)
----------- -----------(8,063) (7,953)
------------------------------
Cash used in financing activities (60,203) (7,471)
----------- -----------(36,528) (55,027)
Increase (decrease) in cash and cash equivalents 9,261 (3,209)38,140 19,644
Cash and cash equivalents - beginning of period 7,328 10,440
11,283
----------- -----------------------------------------
Cash and cash equivalents - end of period $ 19,70145,468 $ 8,074
=========== ===========30,084
==============================
- --------------------------------------------------------------------------------------------------------------
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest $ 18,177737 $ 17,5821,923
Income taxes $ 27,912-- $ 25,20214,111
- --------------------------------------------------------------------------------------------------------------
Supplemental disclosure of non-cash financing activities:
Conversion to common stock:
7-1/4 % Series of Convertible Debentures $ 1,84419 $ 341141
--------------------------------------------------
See Notes to Consolidated Financial Statements
7
NORTHWEST NATURAL GAS COMPANY
PART I. FINANCIAL INFORMATION
(5) Consolidated Statements of Capitalization
Sept. 30,March 31, 2003 March 31, 2002 Sept.30, 2001
Thousands, except share amounts (Unaudited) (Unaudited) Dec. 31, 20012002
- ----------------------------------------------------------------------------------------------------------------------
Common Stock Equity:---------------------------------------------------------------------------------------------------------------------------------
Common Stock Equity:
Common stock - par value $3-1/6 per share $ 80,83481,214 $ 79,67180,130 $ 79,88981,023
Premium on common stock 246,690 239,351 240,697249,340 242,245 248,028
Earnings invested in the business 147,641 132,104 147,950175,330 173,850 157,136
Accumulated other comprehensive income (loss) (84) - (375)
-------------- -------------- -------------(3,084) 55 (3,084)
--------- --------- ---------
Total common stock equity 475,081502,800 50% 451,126496,280 51% 468,161 53%483,103 51%
Redeemable Preference Stock:
$6.95 Series, stated value $100 per share 25,000 2%-- -- 25,000 3% 25,000 3%-- --
Redeemable Preferred Stock:
$7.125 Series, stated value $100 per share 8,250 1% 9,000 1% 9,0008,250 1%
Long-Term Debt:
Medium-Term Notes
-----------------
First Mortgage Bonds:Debt:
8.050% Series A due 2002 --- 10,000 10,000--
6.750% Series B due 2002 --- 10,000 10,000--
5.550% Series B due 2002 -- 20,000 20,000 20,000--
6.400% Series B due 2003 20,000 20,000 20,000
6.340% Series B due 2005 5,000 5,000 5,000
6.380% Series B due 2005 5,000 5,000 5,000
6.450% Series B due 2005 5,000 5,000 5,000
6.050% Series B due 2006 8,000 8,000 8,000
6.310% Series B due 2007 20,000 - -20,000 20,000
6.800% Series B due 2007 9,500 10,000 10,0009,500
6.500% Series B due 2008 5,000 5,000 5,000
7.450% Series B due 2010 25,000 25,000 25,000
6.665% Series B due 2011 10,000 10,000 10,000
7.130% Series B due 2012 40,000 - -40,000 40,000
8.260% Series B due 2014 10,000 10,000 10,000
7.000% Series B due 2017 40,000 40,000 40,000
6.600% Series B due 2018 22,000 22,000 22,000
8.310% Series B due 2019 10,000 10,000 10,000
7.630% Series B due 2019 20,000 20,000 20,000
9.050% Series A due 2021 10,000 10,000 10,000
7.250% Series B due 2023 20,000 20,000 20,000
7.500% Series B due 2023 4,000 4,000 4,000
7.520% Series B due 2023 11,000 11,000 11,000
7.720% Series B due 2025 20,000 20,000 20,000
6.520% Series B due 2025 10,000 10,000 10,000
7.050% Series B due 2026 20,000 20,000 20,000
7.000% Series B due 2027 20,000 20,000 20,000
6.650% Series B due 2027 20,000 20,000 20,000
6.650% Series B due 2028 10,000 10,000 10,000
7.740% Series B due 2030 20,000 20,000 20,000
7.850% Series B due 2030 10,000 10,000 10,000
5.820% Series B due 2032 30,000 - --- 30,000
5.660% Series B due 2033 40,000 -- --
Convertible Debentures
----------------------
7-1/4% Series due 2012 6,533 8,449 8,377
---------- ---------- ----------
486,033 418,449 418,3776,426 8,236 ` 6,445
--------- --------- ---------
505,926 478,236 465,945
Less long-term debt due within one year 20,000 40,000 20,000
40,000
---------- ---------- ------------------- --------- ---------
Total long-term debt 446,033 47% 398,449485,926 49% 438,236 45% 378,377 43%
---------- ---- ---------- ---- ---------- ----445,945 48%
--------- --- --------- --- --------- ---
Total Capitalization $ 954,364996,976 100% $ 883,575968,516 100% $ 880,538937,298 100%
========== ==== ========== ==== ========== ============= === ========= === ========= ===
-----------------------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements
8
NORTHWEST NATURAL GAS COMPANY
PART I. FINANCIAL INFORMATION
(6)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Financial Statements
The information presented in the consolidated financial
statements is unaudited, but includes all material adjustments, including normal
recurring accruals, that the management of the Company considers necessary for a
fair presentation of the results of such periods. These consolidated financial
statements should be read in conjunction with the financial statements and
related notes included in the Company's 20012002 Annual Report on Form 10-K (2001(2002
Form 10-K). A significant part of the business of the Company is of a seasonal
nature; therefore, results of operations for interim periods are not necessarily
indicative of the results for a full year.
As referred to herein, the "Company" consists of Northwest
Natural Gas Company (NW Natural), a regulated utility, and non-regulated
wholly-owned subsidiary businesses NNG Financial Corporation (Financial
Corporation), a wholly-owned
subsidiary, and Northwest Energy Corporation (Northwest Energy), which. Northwest
Energy was formed in 2001 to serve as the holding company for NW Natural and
Portland General Electric Company (PGE) if the acquisition of PGE had been
completed (see
Note 7).
Certain amounts from prior periods have been reclassified to
conform with the 2002 presentation. These reclassifications had no impact on
prior year results of operations.completed.
2. Use of Financial Derivatives
NW Natural utilizes derivative instruments to manage commodity
price risks related to natural gas purchases, foreign currency exchange rate
risks related to gas purchase commitments from Canada, oil or propane commodity
price risks related to gas sales and transportation services under rate
schedules pegged to these commodities, and interest rate risks related to
long-term debt maturing or expected to be issued in less than five years. NW
Natural does not enter into derivative instruments for trading purposes. See
Part II, Item 7., "Accounting for Derivative Instruments and Hedging
Activities," and Part II, Item 8., Notes 1 and 11, "Notes to Consolidated
Financial Statements," in the 2001 Form 10-K.
At Sept. 30, 2002, NW Natural had the following derivatives
outstanding covering its exposures to natural gas commodity prices and foreign
currency exchange rates: a series of 23 natural gas price swap contracts, three
natural gas call option contracts, and 69 foreign currency forward contracts.
Each of these contracts was designated as a cash flow hedge. NW Natural also had
one physical natural gas supply contract with an embedded derivative, which did
not qualify as a normal sales or purchase contract. The estimated fair values
and the notional amounts of derivative instruments outstanding were as follows:
Jan. 1, 2002 Sept. 30,2002
------------------------------------------------------
Fair Value Notional Fair Value Notional
Thousands Gain (Loss) Amount Gain (Loss) Amount
---------------------------------------------------------------------------------------------------------------------
Fixed-price natural gas commodity swaps $ (110,935) $ 254,209 $ (6,105) $ 208,050
Fixed-price natural gas call options (832) 6,390 1,906 30,341
Physical natural gas supply contract with embedded option - - 213 4,621
Foreign currency forward purchase contracts (101) 10,223 (40) 6,536
------------------------- ------------------------
Total $ (111,868) $ 270,822 $ (4,026) $ 249,548
========================= ========================
9
3. Recent Accounting Pronouncements
In August 2001, the FinancialNew Accounting Standards
Board (FASB)
issuedEffective Jan. 1, 2003, the Company adopted Statement of
Financial Accounting Standards (SFAS) No. 143, "Accounting for Asset Retirement
Obligations." SFAS No. 143 which is effectiverequires the recognition of an Asset Retirement
Obligation (ARO) for fiscal
years beginning after June 15, 2002, requires thatlegal obligations associated with the retirement of
a tangible long-lived asset be recorded as a liability when
those obligations are incurred, withassets, including the amountrecording of fair value of the
liability initially
measured atfor an ARO in the period in which it is incurred if a reasonable
estimate of fair value.value can be made. The ARO liability for the asset retirement obligation is recorded as a
capitalized cost increasing the carrying amount of the related long-lived asset.
Over time, the liability is accreted to its present value each period and the
capitalized cost is depreciated over the useful life of the related asset. In
the Company's judgment, it does not have any material legal obligations
associated with the retirement of its tangible long-lived assets, except for
certain assets with indefinite system lives for which the Company could not
estimate the ARO because the settlement date was indeterminable. In addition, NW
Natural's accounting records conform to certain regulatory requirements in
accordance with SFAS No. 71, "Accounting for the Effects of Certain Types of
Regulation," and accordingly NW Natural has been recognizing asset retirement
costs (removal costs) on many regulated, long-lived assets through a charge to
depreciation expense allowed in rates, with a corresponding accrual to
accumulated depreciation. These estimated removal costs meet the requirements of
SFAS No. 71 and are included in accumulated depreciation. As of Dec. 31, 2002,
the Company had approximately $125 million of estimated removal costs in excess
of normal depreciation costs included in accumulated depreciation in the
consolidated balance sheets. The Company's adoption of SFAS No. 143 effective Jan. 1, 2003,
isdid not expected to have a
material impact on itsthe Company's financial condition or results of operations.
In April 2002,Effective Jan. 1, 2003, the FASB issuedCompany also adopted SFAS No. 145,
"Rescission of FASB Statement Nos. 4, 44 and 64, Amendment of FASB Statement No.
13 and Technical Corrections," effective for financial statements issued for fiscal years
beginning after May 15, 2002. SFAS No. 145, which updates, clarifies and
simplifies existing accounting pronouncements, addresses the reporting of debt
extinguishments and accounting for certain lease modifications that have
economic effects that are similar to sale-leaseback transactions.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities," which replaces Emerging Issues
Task Force Issue No. 94-3, "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring)." SFAS No. 145, which updates, clarifies and
simplifies existing accounting pronouncements, addresses the reporting of debt
extinguishments and accounting for certain lease modifications that have
economic effects that are similar to sale-leaseback transactions. SFAS No. 146
requires companies to recognize costs associated with exit or disposal
activities, such as lease termination costs and certain employee severance
costs, when they are incurred rather than at the date of a commitment to an exit
or disposal plan. The primary effect of applying SFAS No. 146, which iswas
effective for all exit or disposal activities initiated after Dec. 31, 2002, will beis
9
on the timing of recognition of costs associated with exit or disposal
activities. The Company is currently evaluating the impact of the adoption of SFAS No.Nos. 145 and SFAS No. 146 upon its financial condition and results of
operations.
4. Adoption of New Accounting Standards
Effective Jan. 1, 2002, the Company adopted SFAS No. 141,
"Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 141 requires business combinations initiated after June 30,
2001 to be accounted for using the purchase method of accounting. It also
specifies the types of acquired intangible assets that are required to be
recognized and reported separately from goodwill. SFAS No. 142 requires
goodwill, of which the Company had none as of Sept. 30, 2002, and other
intangibles with indefinite lives to be tested for impairment at least annually
rather than being amortized as previously required. The adoption of SFAS No. 141
and SFAS No. 142 did not have a material impact
on the Company's financial condition or results of operations.
The Company also adopted SFASIn November 2002, the Financial Accounting Standards Board
(FASB) issued FASB Interpretation No. 144,45 (FIN 45), "Guarantor's Accounting and
Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others." FIN 45 clarifies the requirements of FASB Statement No.
5, "Accounting for Contingencies," relating to the Impairmentguarantor's accounting for,
and disclosure of, the issuance of certain types of guarantees. A guarantor must
recognize a liability for the fair value of an obligation assumed under a
guarantee. FIN 45 also provides for additional disclosures by a guarantor in its
interim and annual financial statements about the obligations associated with
guarantees issued. The recognition provisions of FIN 45 are effective for any
guarantees issued or Disposalmodified after Dec. 31, 2002. The application of Long-Lived Assets," effectiveFIN 45 as
of Jan. 1, 2002. SFAS No.
144 establishes a single accounting model for recognition and measurement of the
impairment of long-lived assets to be held and used, the measurement of
long-lived assets to be disposed of by sale and for segments of a business to be
disposed of. SFAS No. 144 also expands the scope of discontinued operations to
include all components of an entity that can be distinguished from the rest of
10
the entity and will be eliminated from the ongoing operations of the entity in a
disposal transaction. The adoption of SFAS No. 1442003 did not have a material impact on the Company's financial
condition or results of operations.
In January 2003, the FASB issued FIN 46, "Consolidation of
Variable Interest Entities." FIN 46 provides guidance on the identification of,
and the financial reporting for, entities over which control is achieved through
means other than voting rights, known as variable-interest entities. FIN 46
provides guidance for determining whether consolidation is required under the
"controlling financial interest" model of Accounting Bulletin No. 51. Certain
variable interest entities must be consolidated by the primary beneficiary if
the equity investors in the entity do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk for the
entity to finance its activities without additional subordinated financial
support from other parties. FIN 46 was effective immediately for all new
variable interest entities created or acquired after Jan. 31, 2003. For variable
interest entities created or acquired prior to Feb. 1, 2003, the provisions of
FIN 46 must be applied for the first interim or annual period beginning after
June 15, 2003. The Company did not have interests in any variable-interest
entities during any of the current reporting periods, such that the application
of FIN 46 as of Jan. 1, 2003 did not have a material impact on the Company's
financial condition or results of operations.
3. Stock-Based Compensation
NW Natural has stock-based compensation plans including the
Long-Term Incentive Plan (LTIP), the Restated Stock Option Plan (Restated SOP),
the Employee Stock Purchase Plan and the Non-Employee Directors Stock
Compensation Plan (see Part II, Item 8., Note 4, in the 2002 Form 10-K). These
plans are designed to promote stock ownership in NW Natural by employees,
officers and directors.
During the first quarter of 2003, NW Natural granted LTIP
awards covering a new three-year performance period (2003-05). The aggregate
target award and maximum award were 28,000 and 56,000 shares, respectively.
Following the end of the performance period, actual awards are distributed based
on the attainment of certain return on equity performance goals. During the
performance period, the Company recognizes compensation expense and liability
for the LTIP awards based on performance levels achieved or expected to be
achieved and the estimated market value of common stock as of the distribution
date. At March 31, 2003, no compensation expense or liability had been accrued
for the new LTIP grant.
In December 2002, the FASB issued SFAS No. 148, "Accounting
for Stock-Based Compensation -- Transition and Disclosure -- an amendment of
FASB Statement No. 123," which amends FASB Statement No. 123, "Accounting for
Stock-Based Compensation," to provide alternative methods of transition for a
voluntary change to the fair-value-based method of accounting for stock-based
employee compensation. In addition, SFAS No. 148 amends the disclosure
requirements of SFAS No. 123 to require prominent disclosures in annual and
interim financial statements about the method of accounting for stock-based
employee compensation and the effect of the method used on reported results.
SFAS No. 123 encourages, but does not require, companies to record compensation
expense for stock-based compensation plans at fair value.
The Company adopted the SFAS No. 148 disclosure requirements
but has continued to account for stock-based compensation using the intrinsic
value method prescribed in Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," for its stock-based employee
compensation. Under the Restated SOP, NW Natural grants employee stock options
10
for a fixed number of shares to officers and certain key employees with an
exercise price equal to or greater than the market value of the shares at the
date of grant. Inasmuch as NW Natural grants stock options at market value, no
compensation expense was recognized in the results of operations for the three
months ended March 31, 2003.
As of March 31, 2003, options on 1,429,500 shares were
available for grant and options to purchase 454,014 shares were outstanding.
Options granted generally have 10-year terms and vest ratably over a three-year
period following date of grant.
If compensation expense for these plans had been determined
consistent with the method prescribed by SFAS No. 123, the Company's net income
and earnings per share would have been reduced to the pro forma amounts shown
below:
Three Months Ended
March 31,
---------------------
Thousands, except per share amounts 2003 2002
- ------------------------------------------------------------------------------------------------------------
Earnings applicable to common stock:
- ------------------------------------
As reported $ 26,257 $ 33,852
Deduct: total stock-based compensation expense determined
under fair value based method for all awards - net of tax (61) (113)
-------- --------
Pro forma $ 26,196 $ 33,739
======== ========
Basic earnings per share:
- -------------------------
As reported $ 1.03 $ 1.34
Pro forma $ 1.02 $ 1.34
Diluted earnings per share:
- ---------------------------
As reported $ 1.01 $ 1.32
Pro forma $ 1.01 $ 1.31
The effects of applying SFAS No. 123 to pro forma disclosures
may not be representative of the effects on reported net income for future
periods until all options outstanding are included in the pro forma disclosures.
For purposes of pro forma disclosures, the estimated market value of stock-based
compensation plans for stock options is amortized to expense primarily over the
vesting period.
4. Use of Financial Derivatives
NW Natural utilizes derivative instruments to manage commodity
prices related to natural gas purchases, foreign currency prices related to gas
purchase commitments from Canada and interest rate risks related to long-term
debt maturing in less than five years or expected to be issued in future
periods. Use of derivatives is permitted only after the commodity price,
exchange rate, and interest rate exposures have been identified, are determined
to exceed defined tolerance levels and are considered to be unavoidable because
they are necessary to support normal business activities. NW Natural does not
enter into derivative instruments for trading purposes and believes that any
increase in market risk created by holding derivatives should be offset by the
exposures they modify. See Part II, Item 7., "Accounting for Derivative
Instruments and Hedging Activities," and Part II, Item 8., Notes 1 and 11, in
the 2002 Form 10-K.
At March 31, 2003, NW Natural had the following derivatives
outstanding covering its exposures to natural gas commodity and foreign currency
exchange rates: a series of 15 natural gas price swap contracts and 88 foreign
currency forward contracts. Each of these contracts was designated as a cash
flow hedge. The estimated fair values and the notional amounts of derivative
instruments outstanding were as follows:
11
March 31, 2003 Dec. 31, 2002
----------------------- -------------------------
Fair Value Notional Fair Value Notional
Thousands Gain (Loss) Amount Gain (Loss) Amount
- ------------------------------------------------------------------------------------------------------------------------------
Fixed-price natural gas commodity swap contracts $ 22,001 $ 162,080 $ 11,422 $ 159,724
Fixed-price natural gas call option contracts -- -- 717 18,084
Physical natural gas supply contract with embedded derivative -- -- 448 2,754
Foreign currency forward purchase contracts 263 25,576 (161) 15,525
----------------------- ------------------------
Total $ 22,264 $ 187,656 $ 12,426 $ 196,087
======================= ========================
5. Segment Information
The Company principally operates in a segment of business,
"Utility","Utility," consisting of the distribution of natural gas. Another segment, "Gas
Storage",Storage," represents natural gas storage services provided to upstream interstate
customers using storage capacity that has been developed in advance of core
utility customers' requirements.requirements, and results from a contract with an independent
energy trading company that seeks to optimize the use of NW Natural's assets by
trading temporarily unused portions of its gas storage capacity and upstream
pipeline transportation capacity. The remaining segment, "Other","Other," primarily
consists of non-regulated investments in alternative energy projects in
California and a Boeing 737-300 aircraft leased to Continental Airlines, and
deferred costs relating to the now-terminated acquisition of PGE (see Note 7).PGE.
The following table presents information about the reportable
segments for the three and nine months ended Sept. 30, 2002March 31, 2003 and 2001.2002. Inter-segment
transactions are insignificant.
Three Months Ended Sept. 30, Nine Months Ended Sept. 30,
------------------------------------------------- -----------------------------------------------March 31,
-------------------------------------------------------
Thousands Utility Gas Storage Other Total
Utility Gas Storage Other Total
- ---------------------------------------------------------------------------------------------------------------------------------
2002
- ------------------------------------------------------------------------------------------------------------------
Net operating revenues $ 36,519 $ 1,504 $ 36 $ 38,059 $ 199,434 $ 5,722 $ 133 $ 205,289
Depreciation, depletion
and amortization 12,926 109 - 13,035 38,334 299 - 38,633
Other operating expenses 26,248 187 31 26,466 86,933 684 105 87,722
Income (loss) from
operations (2,655) 1,208 5 (1,442) 74,167 4,739 28 78,934
Income from financial
investments - - 605 605 - - 1,220 1,220
Net income (loss) (6,958) 424 526 (6,008) 30,147 2,402 (7,102) 25,447
Assets 1,238,215 16,500 17,980 1,272,695 1,238,215 16,500 17,980 1,272,695
20012003
- ----
Net operating revenues $ 36,35196,005 $ 6622,544 $ 5439 $ 37,067 $ 180,671 $ 2,654 $ 121 $ 183,44698,588
Depreciation depletion and amortization 12,543 2413,052 114 - 12,567 36,910 72 - 36,98213,166
Other operating expenses 24,891 130 (7) 25,014 82,863 216 (77) 83,00234,683 183 22 34,888
Income (loss) from operations (1,083) 508 61 (514) 60,898 2,366 198 63,46248,270 2,247 17 50,534
Income (loss) from financial investments - - 51 51 - - (182) (182)(260) (260)
Net income (loss) (5,543) 280 287 (4,976) 23,762 1,365 669 25,796
Assets 1,330,281 4,847 19,935 1,355,063 1,330,281 4,847 19,935 1,355,06325,172 1,275 (43) 26,404
Total assets at March 31, 2003 1,324,698 17,634 17,722 1,360,054
2002
- ----
Net operating revenues $ 108,838 $ 1,774 $ 54 $ 110,666
Depreciation and amortization 12,723 91 - 12,814
Other operating expenses 33,900 249 22 34,171
Income from operations 62,221 1,428 32 63,681
Income from financial investments - - 138 138
Net income 33,453 786 208 34,447
Total assets at March 31, 2002 1,326,968 14,453 29,396 1,370,817
6. Restated Stock Option Plan
At the Company's Annual Meeting in May 2002, the shareholders
approved an amendment to the Restated Stock Option Plan that increased the total
number of shares authorized for option grants from 1,200,000 to 2,400,000
shares. At Sept. 30, 2002, options on 1,432,400 shares were available for grant
and options to purchase 462,314 shares were outstanding.
1112
7.6. Commitments and Contingencies
Acquisition of Portland General Electric Company
NW Natural recorded a loss contingency of $13.7 million at June
30, 2002 relating to transaction costs incurred in connection with its efforts
to acquire PGE (see Part I, Item 2., "Application of Critical Accounting
Policies - Contingencies" and "Acquisition of Portland General Electric
Company," in the Company's Quarterly Report on Form 10-Q for the quarter ended
June 30, 2002). This non-recurring charge, equivalent to $8.3 million after tax,
or 32 cents a diluted share, was based on the Company's judgment that the
acquisition was no longer considered probable. The amount of the loss reserve
outstanding at Sept. 30, 2002 is $13.7 million, which is equivalent to NW
Natural's deferred costs relating to the acquisition effort. NW Natural will
re-evaluate the loss reserve if it resumes its acquisition efforts.
Environmental Matters
---------------------
NW Natural has accrued all material loss contingencies
relating to environmental matters whichthat it believes to be probable of assertion
and reasonably estimable. See Part II, Item 8., Note 12, "Notes to Consolidated
Financial Statements," in the 20012002 Form 10-K.
Due to the preliminary nature of these environmental investigations, the range
of any additional possible loss contingency cannot be currently estimated.
The City of Portland has notified NW Natural that it is planning a
sewer improvement project that would include excavation within the former site
of a gas manufacturing plant (the Front Street site) that was owned and operated
by a predecessor of the Company between 1860 and 1913. The preliminary
assessment of this site performed by a consultant for NW Natural in 1987
indicated that it could be assumed that by-product tars may have been disposed
of on the site. The report concluded, however, that it is likely that waste
residues from the plant, if present on the site, were covered by deep fill
during construction of the nearby seawall and probably have stabilized due to
physical and chemical processes. Neither the City of Portland nor the Oregon
Department of Environmental Quality has notified NW Natural whether a further
investigation or potential remediation might be required on the site in
connection with the sewer excavation. Available information is insufficient to
determine either the total amount of liability, if any, or a range of any
potential liability.
NW Natural expects that itsthe costs of further investigation and
remediation for which it may be responsible with respect to the LinntonGasco site, the
Wacker site, the Portland Harbor Superfund site and the Front StreetPortland Gas site, if any, should
be recoverable, in large part, from insurance. In the event these costs are not
recovered from insurance, NW Natural will seek recovery through future rates.
Litigation
----------
In April 2003, NW Natural settled and agreed with Cascade
Resources Corporation and Al Curry (collectively, Cascade) to dismiss their
respective claims in Northwest Natural Gas Company v. Cascade Resources
Corporation and Curry, et al. (United States District Court for the District of
Oregon, Case No. CV 01-1620 HU) (the Action). See Part I, Item 3., "Legal
Proceedings," in the 2002 Form 10-K. In the settlement, Cascade transferred all
of its records, rights and interests in certain leases, including gas storage
leases, in Columbia County, Oregon to NW Natural and agreed to refrain from
certain competitive activities in the area. The counterclaims against NW Natural
described in the 2002 Form 10-K will be dismissed and Enerfin Resources
Northwest Limited Partnership (Enerfin) will be the remaining defendant in the
Action. NW Natural paid Cascade $0.5 million and agreed to defend and indemnify
Cascade against claims by Enerfin relating to the validity and enforceability of
the transferred leases. However, NW Natural will have no obligation to defend or
indemnify Cascade from any claims for recovery of punitive or other exemplary
damages.
Enerfin recently filed a motion seeking to allow it to make
cross-claims against Cascade. Enerfin's cross-claims allege misconduct by
Cascade in obtaining oil and gas production rights in some of the leases subject
to the settlement agreement. Enerfin's cross-claims seek to obtain the ownership
of oil and gas production (but not gas storage) rights in the leases subject to
the settlement. In the alternative, Enerfin seeks damages from Cascade of $12
million together with a demand for $24 million in punitive damages.
From time to time the Company is partysubject to certainother claims and
litigation arising in the ordinary course of business. Although the final
outcome of any legal actions in which claimants
seek material amounts. Although it is impossible to predict the outcomeproceeding cannot be predicted with certainty, based upon the opinions of legal counsel, managementCompany
does not expect disposition of these matters to have a materially adverse effect
on the Company's financial position, results of operationsoperation or cash flows.
1213
NORTHWEST NATURAL GAS COMPANY
PART I. FINANCIAL INFORMATION
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
AND FINANCIAL CONDITION
The following is management's assessment of Northwest Natural
Gas Company's financial condition including the principal factors that affect
results of operations. The discussion refers to the consolidated activities of
the Company for the three months ended March 31, 2003 and 2002. References in
the discussion to "Notes" are to the notes to the consolidated financial
statements in the Company's 2002 Annual Report on Form 10-K (2002 Form 10-K).
The consolidated financial statements include:
Regulated utility:
Northwest Natural Gas Company (NW Natural)
Non-regulated wholly-owned subsidiary businesses:
NNG Financial Corporation (Financial Corporation),
and its wholly-owned subsidiaries
Northwest Energy Corporation (Northwest Energy),
and its wholly-owned subsidiary
Together these businesses are referred to herein as the
"Company" (see "Non-utility Operations," below, and Part II, Item 8., Note 2, "Notes to
Consolidated Financial Statements," in
the Company's 2001 Annual Report on2002 Form 10-K (2001 Form 10-K)).
The following is management's assessment of the Company's
financial condition including the principal factors that affect results of
operations. The discussion refers to the consolidated activities of the Company
for the three and nine months ended Sept. 30, 2002 and 2001.
Application of Critical Accounting Policies
In preparing- -------------------------------------------
Management's discussion and analysis of the Company's results
of operations and financial condition are based upon the consolidated financial
statements, usingwhich have been prepared in accordance with generally accepted
accounting principles in the United States of America,America. The preparation of these
financial statements requires management exercises judgment in the selection and application of accounting
principles, including makingto make estimates and assumptions.judgments that
affect the reported amounts of assets, liabilities, revenues and expenses, and
related disclosures.
Management considers its critical accounting policies to be
those which are most important to the representation of the Company's financial
condition and results of operations and which require management's most
difficult and subjective or complex judgments, including those whichthat could result
in materially different amounts if the Company reported under different
conditions or using different assumptions. Management considers its currentThese critical accounting policies
to beare described in the areas
of regulatory accounting, revenue recognition, derivative and hedging activities2002 Form 10-K (see "Part II, Item 7., "Critical"Application of
Critical Accounting Policies - Regulatory Accounting, Revenue Recognition,
and Accounting for Derivative Instruments and Hedging Activities, Accounting for
Pensions, and Contingencies," in the Company's 20012002 Form 10-K), and loss contingencies.
Contingencies
The Company records loss contingencies when it is probable that a
loss has been incurred and the amount. Because of the lossuncertainty
inherent in these matters, actual results could differ materially from the
estimates developed from applying these critical accounting policies.
Within the context of these critical accounting policies,
management is not currently aware of any reasonably estimable.
Estimating probable losses requires analysis of uncertaintieslikely events or
circumstances that often depend
upon judgments about potential actions by third parties. In the normal course of
business, NW Natural's accruals for loss contingencies include allowances for
uncollectible accounts, environmental claims and property damage claims. In
addition, NW Natural records receivables for anticipated recoveries under
existing insurance contracts when recovery is probable.
NW Natural recorded a loss contingency of $13.7 million at
June 30, 2002 relating to transaction costs incurredwould result in connection with its
efforts to acquire Portland General Electric Company from Enron Corp. (Enron)
(see Part I, Item 6., "Application of Critical Accounting Policies -
Contingencies" and "Acquisition of Portland General Electric Company" in the
Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2002).
This non-recurring charge, equivalent to $8.3 million after tax or 32 cents a
diluted share, was based on the Company's judgment that the acquisition was no
longer considered probable. The amount of the loss reserve outstanding at Sept.
30, 2002 is $13.7 million, which is equivalent to NW Natural's deferred costs
relating to the acquisition effort. NW Natural will re-evaluate the loss reserve
if it resumes its acquisition efforts.
13materially different amounts being reported.
14
Earnings and Dividends
- ----------------------
The Company incurred lossesCompany's earnings applicable to common stock of $6.6were $26.3
million and $5.6in the quarter ended March 31, 2003, down from $33.9 million forin the
quartersquarter ended Sept. 30, 2002 and 2001,
respectively. The loss applicable to common stock forMarch 31, 2002. Diluted earnings per share from consolidated
operations were $1.01 a share in the thirdfirst quarter of 2002
was equivalent to 26 cents a diluted share, compared to a loss of 22 cents2003, down from $1.32 a
share forin last year's first quarter.
Warm weather depressed sales and operating margin in the thirdfirst
quarter of 2001. A third quarter loss is customary for2003. NW Natural reflecting low summertime use of natural gas.
NW Natural lost 29 centsearned $0.97 a diluted share from gas utility
operations in the thirdfirst quarter, of 2002, compared to a loss of 24 cents$1.28 a share in the same period in
2001. Operating margin from gas utility operations was
$0.2 million, or 1 percent, higher2002. Weather conditions in the third quarter of 2002, but this
improvement was more than offset by higher utility operating expenses.
The Company reported consolidated earnings applicable to common
stock of $23.7 million, or 93 cents a diluted share, for the nine months ended
Sept. 30, 2002, compared to earnings of $24.0 million, or 95 cents a share, for
the nine months ended Sept. 30, 2001. Results before non-recurring charges for
the first nine months of 2002 were earnings applicable to common stock of $32.0
million, or $1.25 a diluted share. The reported results for the first nine
months of 2002 include a non-recurring charge to a loss reserve for NW Natural's transaction costs incurred in its efforts to acquire PGE from Enron. The amount
of the charge was $13.7 million, or $8.3 million after tax, equivalent to 32
cents a diluted share. The charge represents NW Natural's deferred costs
including financial advisory and legal fees, loan arrangement fees and other
costs relating to the acquisition effort. (See Note 7, "Commitments and
Contingencies - Acquisition of Portland General Electric Company.")
For the year-to-date, NW Natural earned $1.11 a diluted share from
utility operations compared to earnings of 87 cents a share in the same period
in 2001. Weatherservice territory in the first nine monthsquarter
of the year was 42003 were 8 percent colderwarmer than the 20-year average but 2and 12 percent warmer
than in 2001. Residential and
commercial customers' consumptions per heating degree day were an estimated 11
percent and 16 percent lower, respectively, during the first nine monthsquarter of 2002
than average consumptions prior to the significant increases in gas commodity
prices experienced and tracked into rates during 2000 and 2001.2002. The Company estimates that the lower average consumptions per degree daywarmer weather and
related factors reduced residential and commercial sales in the first nine monthsquarter of
20022003 by about 3732 million therms and margin revenues (gross operating revenues
minus cost of gas) by about $10.7$11.7 million, equivalent to 25 cents a share (see
"Results of Operations - Regulatory Developments," below). NW Natural's share of
the savings and margins realized from the gas commodity and upstream gas sales
programs under its Purchased Gas Adjustment (PGA) tariff (see "Results of
Operations - Cost of Gas," below) contributed $12.0 million of margin in the
first nine months of 2002, equivalent to 28 cents a share of earnings. The
equivalent result in the first nine months of 2001 was a negative $0.6 million,
equivalent to a loss of 1 cent a share, primarily representing the absorption of
$1.1 million in excess gas costs.share.
Non-utility operating results for the quarter ended March 31,
2003 were earnings of 34 cents a share, compared to earnings of 2 cents a sharethe same as the result from these
operations in 2001. Excluding the non-recurring charge taken in the second quartersame period of 2002,
non-utility operating results year-to-date were earnings of 14 cents a share
compared to earnings of 8 cents a share from these operations during the
comparable period in 2001.2002. See "Non-utility Operations," below.
Dividends paid on common stock were 31.5 cents and 31 cents a share respectively, for
each of the three-month periods ended Sept. 30, 2002March 31, 2003 and 2001.2002. In October 2002,April 2003,
the Company's Board of Directors declared a quarterly dividend of 31.5 cents a
share on the common stock, payable Nov.May 15, 2002,2003, to shareholders of record on
Oct. 31, 2002.April 30, 2003. The current indicated annual dividend rate is $1.26 a share.
14
Results of Operations
- ---------------------
Regulatory Developments
On Sept. 12,-----------------------
In November 2002, NW Natural filed a general rate case with
the Oregon Public Utility Commission (OPUC)
approved, proposing a settlement thatrevenue increase of $38
million per year from Oregon operations through rate increases averaging 6.8
percent (see Part II, Item 7., "Results of Operations - Regulatory Matters," in
the 2002 Form 10-K). The proposed rates were designed to recover NW Natural's
forecasted cost of service for a prospective test year beginning Oct. 1, 2003.
The filing proposed a return on equity (ROE) of 11.3 percent on a capital
structure including 50 percent common equity and 50 percent long-term debt and
preferred stock.
On April 28, 2003, NW Natural entered intofiled a stipulation in the case
representing a partial settlement between the Company and the OPUC Staff
(Staff). The stipulation includes agreements with the Staff with respect to a
conservation tariff filed in 2001. The new regulatory mechanisms implemented
under the settlement are intended to help stabilize margin revenues to assuremany
elements of NW Natural of fixed cost recovery and more predictable earnings in the face of
above or below normal consumption patterns.
The approved settlement includes an elasticity adjustment
which became effective on Oct. 1, 2002. This elasticity adjustment is intended
to mitigate the impact of changes in customer consumption due to rate changes.
NW Natural believes that reductions in recent years in its customers' gas
consumptions per degree day were caused by the higherNatural's cost of purchased gas,
which was passed on to customers asservice, including all operations and
maintenance expenses and rate increases, and to efforts throughoutbase investments for the region to conserve energy.prospective test year.
The partial settlement does not include the issues of ROE, capital structure,
the revenue forecast, NW Natural estimates that lower average
consumptions per degree day reduced margin from residential and commercial sales
by $11 million, equivalent to 26 centsNatural's proposal for a share, in 2001, and by $10.7 million,
equivalent to 25 cents a share, inweather normalization
mechanism, rate design, or the first nine monthsallocation of 2002. Underany revenue increase among customer
classes (rate spread). If the elasticity adjustment, NW Natural has increased rates by 2.6 cents a therm to
residential customers and 1.3 cents a therm to commercial customers, effective
Oct. 1, 2002.
Also, under the settlementstipulation is approved by the OPUC, and if the
OPUC adopts NW Natural's positions on the remaining contested issues, the effect
would be to reduce NW Natural's proposed revenue increase from $38 million to
about $26 million.
Also on April 28, 2003, the Staff and other parties filed
their testimony in the case. The Staff presented its litigation positions on
issues not settled by the stipulation, proposing an overall revenue reduction of
$0.6 million, or about 0.1 percent. The Staff's positions include a revenue
forecast $10 million higher than NW Natural's forecast for the prospective test
period; a proposed ROE of 9.5 percent; and a proposed capital structure
including 48 percent common equity and 52 percent long-term debt and preferred
stock.
The schedule for the case provides for the filing of rebuttal
testimony by NW Natural implementedin June, hearings in August and a partial decoupling mechanism, effectivedecision by the OPUC
determining new rates by Oct. 1, 2002. Decoupling
mechanisms are used1. The Company is unable to breakdetermine the linkextent
to which the stipulation between a utility's earningsNW Natural and the energy consumed by its customers so that the utility does not have an incentive
to discourage customers' conservation efforts. The decoupling mechanism works by
adding margin revenues during periods when customer consumptions are lower than
baseline consumptionStaff, or by deducting margin revenues when higher than the
baseline. Under the partial decoupling mechanism, a balancing account is
established whereby NW Natural will defer and subsequently amortize 90 percent
of the margin revenue differentials between baseline usage by its residential
and commercial customers and weather-normalized actual usage by these customers.
The deferred amounts are treated as adjustments to be refunded or collected in
future periods. Baseline consumption is based on current customer consumption
patterns, adjusted for consumptions resulting from new customers. NW Natural
will continue to bear the risk of weather-related variations in customer usage.
The partial decoupling mechanism will expire at the end of September 2005 unless
the OPUC approves an extension basedNatural's
proposals on the results of an independent study to
measure the mechanism's effectiveness.
In connection with the settlement, NW Natural agreed to adopt
certain service quality measures that establish the Company's performance goal
for minimizing at-fault complaints. If the Company exceeds the prescribed level
of at-fault complaints, itremaining contested issues, will be subject to penalties.
Under the settlement, NW Natural agreed to file a general rate
caseaccepted by the end of November 2002, enabling a full review of NW Natural's cost
and rate structures, including an assessment of the costs related to the
extension of the Company's South Mist Pipeline, with new rates expected to be
implemented in the third or fourth quarter of 2003. The amount of the general
rate increase to be requested has not been determined.
On Sept. 26, 2002, the OPUC approved rate decreases effective Oct.
1, 2002 averaging 14 percent for NW Natural's Oregon sales customers, and on
Sept. 25, 2002, the Washington Utilities and Transportation Commission (WUTC)
approved rate decreases effective Oct. 1, 2002 averaging 25 percent for NW
Natural's Washington sales customers. These rate decreases reflect changes in NW
Natural's purchased gas costs, the application of temporary rate adjustments to
amortize regulatory balancing accounts, and the removal of temporary rateOPUC.
15
adjustments effective the previous year. These changes are all part of NW
Natural's annual PGA tariff filing (see "ComparisonComparison of Gas Operations
- Cost of
Gas," below).
Comparison of Gas Operations----------------------------
The following table summarizes the composition of gas utility
volumes and revenues for the three and nine months ended Sept. 30, 2002 and
2001:March 31:
Three Months Ended Nine Months Ended
Sept. 30, Sept. 30,
--------------------------------------------------------
(Thousands, except customers and degree days) 2003 2002
2001 2002 2001
- ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Utility Gas Sales and Transportation Volumes - Therms:
- ------------------------------------------------------
Residential and commercial sales 53,100 54,505 446,392 440,483236,323 262,937
Unbilled volumes 1,940 (485) (44,589) (45,386)(16,562) (18,622)
---------- ----------- ------------ ----------
Weather-sensitive volumes 55,040 54,020 401,803 395,097219,761 64% 244,315 62%
Industrial firm sales 10,544 17,962 49,974 60,25614,554 4% 23,755 6%
Industrial interruptible sales 2,444 18,969 22,724 47,5283,685 1% 14,375 4%
---------- ----------- --------------- ---------- ----
Total gas sales 68,028 90,951 474,501 502,881238,000 69% 282,445 72%
Transportation deliveries 107,927 85,328 325,275 289,667109,160 31% 110,732 28%
---------- ----------- --------------- ---------- ----
Total volumes sold and delivered 175,955 176,279 799,776 792,548347,160 100% 393,177 100%
========== =========== =============== ========== ====
Utility Operating Revenues - Dollars:
- -------------------------------------
Residential and commercial sales $ 58,954200,513 $ 50,830 $ 423,509 $ 369,117259,491
Unbilled revenues 2,062 (179) (42,564) (34,163)(13,940) (17,895)
---------- ----------- ------------ ----------
Weather-sensitive revenues 61,016 50,651 380,945 334,954186,573 91% 241,596 88%
Industrial firm sales 8,198 10,451 35,089 35,1178,666 4% 17,865 6%
Industrial interruptible sales 1,595 9,347 14,166 23,8451,844 1% 9,896 4%
---------- ----------- --------------- ---------- ----
Total gas sales 70,809 70,449 430,200 393,916197,083 96% 269,357 98%
Transportation revenues 5,984 5,777 19,867 14,4955,805 3% 6,452 2%
Other revenues 363 (41) 2,442 (2,289)1,051 1% 173 -
---------- ----------- --------------- ---------- ---
Total utility operating revenues $ 77,156203,939 100% $ 76,185 $ 452,509 $ 406,122275,982 100%
========== =========== =============== ========== ===
Cost of gas sold $ 40,637107,934 $ 39,834 $ 253,075 $ 225,451167,144
========== =========== ============ ==========
Net operating revenues (utility margin) $ 36,51996,005 $ 36,351 $ 199,434 $ 180,671108,838
========== =========== ============ ==========
Total number of customers (end of period) 546,644 527,719 546,644 527,719565,892 546,806
========== =========== ============ ==========
Actual degree days 75 82 2,724 2,7681,683 1,920
========== =========== ============ ==========
20-year average degree days 97 98 2,607 2,5951,838 1,836
========== =========== ============ ==========
16
NW Natural refunded deferred gas cost savings to its Oregon
customers through billing credits in June 2002. The refunds were the customers'
67 percent portion of gas cost savings realized between October 2001 and March
2002, which had been deferred, with interest, pursuant to NW Natural's PGA
tariff in Oregon (see "Cost of Gas," below). The refunds reduced gross operating
revenues for the first nine months of 2002 by $30.4 million, cost of gas by
$29.5 million and deferred gas costs payable by $29.5 million. The refunds also
reduced margin revenues by about $0.9 million, but this amount was largely
offset by corresponding reductions in franchise tax expense and uncollectible
expense with the result that the effect of the refunds on net income was
negligible.
Residential and Commercial
--------------------------
NW Natural continues to experience rapid customer growth, with
18,92519,086 customers added since Sept. 30, 2001,March 31, 2002 for a growth rate of 3.63.5 percent. In
the three years ended Dec. 31, 2001,2002, more than 63,00058,000 customers were added to
the system, representing an average annual growth rate of 4.43.9 percent.
Typically, 80 percent or more of NW Natural's annual operating
revenues are derived from gas sales to weather-sensitive residential and
commercial customers. Accordingly, variations in temperatures between periods
will affect volumes of gas sold to these customers. Weather conditions in the
first quarter of 2003 were 8 percent warmer than average and 12 percent warmer
than the first quarter of 2002. Average weather conditions are calculated from
the most recent 20 years of temperature data measured by heating degree-days.
Weather conditions in the third quarter of 2002 were 23 percent
warmer than average and 9 percent warmer than in the third quarter of 2001. For
the first nine months of 2002, weather was 4 percent colder than average, but 2
percent warmer than in the first nine months of 2001.
Volumes of gas sold to residential and commercial customers were
1.0 million therms, or 1.9 percent, higher in the third quarter of 2002 than in
the third quarter of 2001. Related revenues increased $10.4 million, or 20.5
percent. Year-to-date,The volumes of gas sold to residential and commercial
customers were 6.724.6 million therms, or 1.710 percent, higherlower in the first quarter of
2003 than in the same
periodfirst quarter of 2001. Excluding the impact of the refunds in the nine months ended
Sept. 30, 2002, relatedprimarily reflecting warmer weather
partially offset by customer growth. Related revenues increased $71.9decreased $55 million, or
21.523 percent, primarily due to PGA tariffthe lower sales volumes and net rate increasesdecreases
effective Oct. 1, 2001. (See Part II,
Item 7., "Results of Operations - Regulatory Matters," in the 2001 Form 10-K.)2002. Customer growth in the residential and commercial
segments since Sept. 30, 2001March 31, 2002, contributed an estimated 11.27 million therms in
16
sales volumes and $4.8$2.7 million in additional margin during the first nine monthsquarter of
2002.
In order2003. Effective Oct. 1, 2002, the Company implemented small rate increases
designed to match revenues with related purchased gas costs, NW
Natural records unbilled revenues for gasrecover the margin lost due to changes in consumption patterns.
These rate changes contributed an estimated $4 million of margin during the
first quarter of 2003, equivalent to about 10 cents a share.
Industrial Sales and Transportation Revenues
--------------------------------------------
The following table summarizes the delivered volumes and
sold to customers, but
not yet billed, through the end of the period. Amounts reported as unbilled
revenues reflect the increase or decreasemargin in the balance of unbilled revenues
over the prior year-end. End of period balances are affected by weather
conditions, rate changesindustrial and customer billing dates from one period to the next.
Industrial, Transportation and Other Revenueselectric generation markets:
(Thousands) 2003 2002
-----------------------------------------------------------------------------------------------
Delivered volumes - therms:
---------------------------
Industrial sales and transportation 125,732 145,636
Electric generation 1,667 3,226
------- -------
Total volumes 127,399 148,862
======= =======
Margin - dollars:
-----------------
Industrial sales and transportation $ 9,746 $ 12,407
Electric generation 6 2,334
------- --------
Total margin $ 9,752 $ 14,741
======= ========
Total volumes delivered to industrial and electric generation
customers in the third quarter of 2002 decreased 1.3were 21 million therms, or 114 percent, from 122 million thermslower in the thirdfirst quarter of
2001. However, combined2003 than in the same period of 2002. Combined margins from these customers decreased $3.3were
$5.0 million, or 2734 percent, from $12.4
million in the third quarter of 2001. Year-to-date, volumes of gas delivered to
industrial and electric generation customers were 398 million therms compared to
397 million thermslower in the first nine monthsquarter of 2001. Related margins increased 3
percent, from $34.5 million in 20012003 compared to $35.5 million inthe
same period of 2002.
17
Excluding volumes delivered to electric generation customers,
volumesVolumes delivered to end-use industrial sales and
transportation customers, in
the third quarter of 2002 totaled 121 million therms. This was 4.8 million
therms, or 4 percent, higher than in the third quarter of 2001. Related margins
decreased, however, from $10.3 million to $9.1 million, due to migrations of
some industrial customers from higher margin firm service to lower margin
interruptible service. Volumes delivered to industrial sales and transportationexcluding electric generation customers, in the first
nine monthsquarter of 2002 increased 112003 were 14 percent from 353 million
thermslower than in 2001 to 393 million thermsthe same period in 2002. Margins toMargin
from these customers decreased $1.0 million reflectingin the migrationfirst quarter of industrial2003 was 21 percent lower than in
the same period in 2002. The decline in volumes was due to a combination of
warmer weather and weaker economic conditions, while the greater percentage
decline in margin was due to shifts by some customers during 2002 from
higher-margin sales or transportation schedules to lower
margin ratelower-margin transportation
schedules.
In the electric generation segment of the industrial market, volumes deliveredmargin in the thirdfirst
quarter of 2002 totaled 0.12003 was negligible, compared to $2.3 million therms. This
was 6.0 million therms, or 99 percent, lower thanfrom this market in the
third quartersame period of 2001.
Margin from the electric generation market was lower by $2.2 million, or2002. The difference is equivalent to an earnings reduction of 5
cents a share, in the third quarter of 2002. Contractsshare. One-year contracts for service to two customers in this market
were for one-year terms, goingwent into effect in the second half of 20012001. These customers did not extend the
contracts beyond their expiration dates on June 30, 2002; spot market
electricity prices by then had gone down and expiring at the end of the second quarter of 2002. Year-to-date,
volumes delivered to electric generation customers decreased from 45.9wholesale power supplies were more
readily available.
Other Revenues
--------------
Other revenues increased utility operating revenues by $1.1
million
therms in 2001 to 3.4 million therms in 2002. The related margin increased from
$2.6 million in 2001 to $4.6 million in 2002, an increase of 79 percent. One
customer served under a contract with low fixed and relatively high volumetric
charges used 36.8 million therms in the first nine monthsquarter of 2001 and 3.02003, compared to $0.4 million therms in the first nine monthssame
period of 2002. On the other hand, the two
electric generation customers added in mid-2001 used only 0.4 million therms in
the first six months of 2002, but generated $4.5 million in margin as compared
to $2.2 million in 2001 because they were served on contracts with high fixed
and low volumetric charges. Other revenues include amortizations fromof regulatory accounts and
miscellaneous fee income. Other revenues increased $0.4 million duringincome (see Part II, Item 8., Note 1, in the third2002 Form 10-K).
In the first quarter of 2002 compared to the third quarter of 2001. Year-to-date,2003, other revenues increased $4.7included customer late payment and
collection fees of $1.0 million, compared to the first nine monthsmiscellaneous revenues of 2001.
Factors contributing to the increase in the first nine months$0.6 million and
amortizations of 2002 were
reducedregulatory accounts covering customer consumption under NW
Natural's decoupling mechanism of $0.5 million, partially offset by
amortizations from regulatory accounts related tocovering conservation programs ($2.8 million), refunds due to sharing of income from interstate gas storage
service ($1.2 million), reduced property tax amortizations ($0.2 million),
higher$0.9
million and Year 2000 costs of $0.2 million. In the first quarter of 2002, other
revenues fromincluded customer late payment and reconnectioncollection fees ($0.1 million)of $1.1 million and increased
miscellaneous revenues ($0.3 million).of $0.4 million, partially offset by amortizations from
regulatory accounts covering conservation programs of $0.8 million and Year 2000
costs of $0.5 million.
17
Cost of Gas
-----------
Natural gas commodity prices have fluctuated dramatically in
recent years. NW Natural has sought to mitigate the effect of price volatility
on core utility customers through the use of its underground storage facilities,
by entering into gas commodity-based financial hedge contracts, and by crediting
gas costs with margin revenues derived from sales of commodity and released
transportation capacity to on-system or off-system customers through negotiated
short-term transactions (upstream sales) in periods when core utility customers
do not fully utilize firm pipeline capacity and gas supplies.
The cost per therm of gas sold was 3623 percent higherlower during the
thirdfirst quarter of 2003 than in the first quarter of 2002, than in the third quarter of 2001. Year-to-date, theprimarily due to lower
natural gas commodity prices. The cost per therm of gas sold was 19 percent higher than the first nine months of 2001.
The cost of gas sold includes current
gas purchases, gas drawn from storage inventory, gains or losses from commodity
hedges, margin from upstream gas sales, demand cost equalization, regulatory
deferrals and company use.
Results for the nine months ended Sept. 30, 2002 include an
adjustment reducing cost of gas by $29.5 million (see "Comparison of Gas
Operations," above). Excluding the impact of this adjustment, cost per therm of
gas sold was 33 percent higher in the first nine months of 2002 compared to the
same period in 2001, primarily due to higher prices in the natural gas commodity
market. Results for the nine months ended Sept. 30, 2002 also include
adjustments reducing cost of gas by $2.9 million to correct the amount of
deferred expenses related to the recovery of pipeline demand charges under NW
Natural's PGA mechanism. These adjustments contributed 7 cents a share to
earnings in the second quarter. The corrected methodology will continue to be
applied in the future.
NW Natural uses a natural gas commoditycommodity-price hedge program
under the terms of its Derivatives Policy to help manage its variable price gas
commodity contracts (see Part II, Item 7., "Management's Discussion"Critical Accounting Policies -
Accounting for Derivative Instruments and Analysis of Results of Operations and Financial Condition," and Item 8.,
Note 11, "Notes to Consolidated Financial Statements,Hedging Activities," in the Company's 20012002 Form
10-K) to help manage its variable
18
price gas commodity contracts.. NW Natural recorded net lossesgains of $23 million from commodity swap and call
option contracts of $24.9 million induring the thirdfirst quarter of 2002,2003, compared to net losses of $8.7$28
million in the thirdfirst quarter of 2001.
Year-to-date, NW Natural realized net2002. Gains and losses of $70.3 million, compared to net
gains of $78.2 million during the first nine months of 2001. Gains (losses) from commodity hedges are
recorded as reductions (increases) to theincluded in cost of gas, and the majority of these hedge contractssuch gains and losses are includedreflected
in annual PGAPurchased Gas Adjustment (PGA) rate adjustments.
Under NW Natural's PGA tariff in Oregon, net income from
Oregon operations is affected within defined limits by changes in purchased gas
costs. NW Natural absorbs 33 percent of the higher cost of gas sold, or retains
33 percent of the lower cost, in either case as compared to projected costs
built into rates. The remaining 67 percent of the higher or lower gas costs is
recorded as deferred debits or credits (regulatoryregulatory assets or liabilities)liabilities for recovery from or
refund to customers in future rates. Net savings realized fromNW Natural's gas commodity purchasescosts in the thirdfirst quarter
of 2002 contributed $1.6 million of
margin, equivalent to 4 cents a2003 were slightly lower than the gas costs embedded in rates, despite rising
gas prices in the spot market, with the effect that NW Natural's share of earnings. The equivalent result in the
third quarter of 2001 was shared savings and margins of $0.2increased margin by $0.6 million, equivalent to less thanabout 1 cent a share of
earnings. Year-to-date, netFor the first quarter of 2002, NW Natural's gas costs were much lower
than the projected costs built into rates and the Company's share of the savings
realized from gas commodity purchases contributed $12.0$8.7 million of margin,
equivalent to 2821 cents a share of earnings.
Due to the warm weather and the reduced gas requirements of
its industrial sales customers during the first quarter, NW Natural was able to
use gas supplies that were under contract for the winter season, but were not
required for delivery to core market customers, to make upstream gas sales. The
purchase prices for this gas had been locked-in through commodity swap and call
option agreements entered into last year at levels much lower than current
market prices, so the gas could be sold in the interstate market at a gain.
Under the PGA tariff, the margin from these sales is treated as a reduction to
the cost of gas, with the effect that 67 percent is deferred for refund to NW
Natural's customers and the remaining 33 percent is retained by the Company. NW
Natural's share of the margin from upstream gas sales in the first quarter of
2003 was $4.0 million, equivalent to 9 cents a share of earnings, and $24.4compared to
$0.2 million of deferred gas costs credits to be
refunded to customers. The equivalent results in the first nine months of 2001
were a negative $0.6 million of margin, equivalent to a loss ofor less than 1 cent a share in the first quarter of 2002.
Non-utility Operations
----------------------
At March 31, 2003 and $1.1 million of deferred gas cost charges to be collected from customers.
Under an agreement with2002, the OPUC, revenues from off-system gas
sales are treated as a reductionCompany's non-utility
operations consisted of gas costs. These sales reduced the cost of
gas sold by $2.3 millionstorage operations and $1.6 million for the first nine months of 2002 and
2001, respectively.
Non-utility Operations
At Sept. 30, 2002 and 2001, the Company had two direct wholly-owned
subsidiaries, Financial Corporation and Northwest Energy.
Northwest
Energy was formed in 2001 to serve as the holding company for NW Natural and PGE
if the acquisition of PGE had been completed. A loss reserve for costs relating
to the acquisition of PGE ($13.7 million, before tax) was recorded by Northwest
Energy in the second quarter of 2002.
Financial Corporation
Financial Corporation's operating results for the three months
ended Sept. 30, 2002 and 2001, were net income of $0.5 million and $0.3 million,
respectively, equivalent to 1 cent a share in both periods. Year-to-date,
operating results in 2002 were net income of $1.2 million compared to net income
of $0.6 million for the comparable period in 2001. The increase in year-to-date
net income from 2001 to 2002 was due to a $0.6 million improvement in the
operating results of Financial Corporation's investments in solar and wind-power
electric projects in California. Financial Corporation's net assets at Sept. 30,
2002 were $9.1 million, compared to $7.8 million at Sept. 30, 2001.
Gas Storage
Services-----------
NW Natural realized net income from its non-utility gas
storage services,business segment, after regulatory sharing and income taxes, of $0.4$1.3
million or 25 cents a share in the three months ended Sept. 30, 2002,March 31, 2003, up from
$0.3$0.8 million or 1 cent3 cents a share in the three months ended Sept. 30, 2001. Year-to-date operating results were net
income of $2.4 million, compared to net income of $1.4 million for the same
period in 2001.March 31, 2002. Gas
storage services are provided to upstream interstate customers using storage
capacity that has been developed in advance of core utility customers'
requirements. NW Natural retains 80 percent of the income before tax from gas
storage services and
19
credits the remaining 20 percent to a deferred regulatory
account for sharing
withdistribution to its core utility customers.
18
Results for the gas storage business segment also include
revenues, net of amounts shared with core utility customers, from a contract
with an independent energy trading company that seeks to optimize the use of NW
Natural's assets by trading temporarily unused portions of its gas storage
capacity and upstream pipeline transportation capacity. NW Natural retains 80
percent of the pre-tax income from the optimization of storage and pipeline
transportation capacity when the costs of such capacity have not been included
in core utility rates, or 33 percent of the pre-tax income from such capacity
when the costs have been included in core utility rates. The remaining 20
percent and 67 percent, respectively, are credited to a deferred regulatory
account for distribution to NW Natural's core utility customers.
Financial Corporation
---------------------
Financial Corporation's operating results for the three months
ended March 31, 2003 were a net loss of less than $0.1 million, compared to net
income of $0.2 million for the first quarter of 2002. The negligible loss in the
first quarter of 2003 compares to earnings of 1 cent a share for the same period
in 2002. The lower net income was primarily due to a net decrease in operating
results from Financial Corporation's investments in limited partnerships in wind
and solar electric generation projects in California. These investments generate
the majority of their operating revenues during the second and third quarters;
therefore, results of operations from the first quarter are not necessarily
indicative of the results for a full year. The Company's investment balances in
Financial Corporation at March 31, 2003 and 2002 were $9.0 million and $8.1
million, respectively.
Northwest Energy
----------------
Northwest Energy was formed in 2001 to serve as the holding
company for NW Natural and Portland General Electric Company (PGE) if the
acquisition of PGE had been completed. Northwest Energy recorded nominal
expenses for corporate development activities in the first quarter of 2003.
Operating Expenses
------------------
Operations and Maintenance
--------------------------
Consolidated operations and maintenance expenses increased
$0.9were $1.9
million, or 59 percent, and $1.3 million, or 2 percent,higher in the three- and
nine- month periods ended Sept. 30, 2002, respectively,first quarter of 2003 compared to the same
periodsperiod in 2001. In the three-month period, the2002. The increase was primarily due to higher expenses for pensions ($0.4 million), health benefits ($0.4 million), and
customer service ($0.3 million),payroll costs, which
were partially offset by lower
information technology costs ($0.4 million). In the nine-month period, the
increase wasincreased $2.7 million due to higher expenses for pensions ($2.0 million), customer
service ($0.7 million)wages and health benefits ($0.6 million), partially offset bysalaries, higher bonus accruals
and higher pension costs. Pension costs increased $0.8 million due to lower
expenses for information technology ($1.7 million) and market services
($0.4 million). The Company expects to incur continued increases inreturns on pension
costs, reflecting changes in the market values of its retirement plan assets and health care costs.changes in actuarial assumptions. Partially
offsetting these increases was a reduction in uncollectible accounts expense,
which decreased by $0.9 million due to lower gas bills and improved collection
results.
Taxes Other than Income Taxes
-----------------------------
Taxes other than income taxes, which are principally comprised
of franchise, property franchise and payroll taxes, were $3.4$1.2 million, or 1510 percent,
higherlower in the first nine monthsquarter of 20022003 compared to the same period in 2001. Property
taxes increased $1.5 million, or 18 percent, due to higher property tax rates
and utility plant additions.2002.
Franchise taxes, which are based on gross revenues, increaseddecreased $1.4 million, or
1623 percent, reflecting higherlower gross revenues due to NW
Natural's growing customer baselower rates, warmer weather
and rate increases effective in late 2001.
Regulatory fees and payroll tax expenses alsoother factors. Property taxes increased slightly.
Depreciation, Depletion and Amortization
The Company's depreciation, depletion and amortization expense in
the nine months ended Sept. 30, 2002, increased $1.7$0.2 million, or 47 percent,
compared to the first nine months of 2001. The increase was primarily due to
a 5
percentan increase in utility plant in service.additions.
19
Depreciation depletionand Amortization
-----------------------------
Depreciation and amortization expense was approximatelyincreased $0.4 million,
or 3 percent, of average plant and property
for both of the nine-month periods ended Sept. 30, 2002 and 2001.
Other Income (Expense)
The Company's other income (expense) decreased $15.0 million in
the nine months ended Sept. 30, 2002, compared to the same period in 2001,
primarily due2002. Total depreciable plant and
property in service at March 31, 2003 increased 6 percent from a year earlier,
compared to an increase of 9 percent over the 12-month period ended March 31,
2002. As a $13.7 million charge to a loss reservepercentage of average plant and property, depreciation and
amortization expense was approximately 1 percent for costs incurred ineach of the effort to acquire PGE. Excluding the charge for PGE acquisition costs, otherthree months
ended March 31, 2003 and 2002.
Other Income (Expense)
----------------------
Other income (expense) decreased $1.3improved by $0.3 million in the nine-month period ended Sept. 30,
2002first
quarter of 2003 compared to the same period in 2001. This decrease was2002, primarily due to an increasea
reduction in interest expense on deferred regulatory account balances. The first
quarter of 2003 included net interest expense of $0.4 million on regulatory
account balances, ($2.5 million),
partially offset byreflecting lower credit balances outstanding in regulatory
liability accounts, compared to net interest expense of $0.9 million on such
balances in the first quarter of 2002. Other income (expense) in the first
quarter of 2003 also included an increase in earningsgains from investments ($1.4 million). The
first nine monthsCompany-owned life
insurance of 2002 included interest expense of $2.3$0.1 million, on deferred
regulatory account balances, compared to interestoffset by a $0.4 million decrease in income of $0.2 million in the
first nine months of 2001.from
partnership investments.
Interest Charges - net
----------------------
The Company's net interest expense increased by $0.9$0.8 million, or
410 percent, in the nine months ended Sept. 30, 2002,first quarter of 2003 compared to the same period in
2001, primarilyfirst quarter of 2002.
Interest expense on long-term debt was $0.9 million higher due to higher
average balances of long-term debt outstanding.
20
outstanding during the period.
Income Taxes
------------
The effective corporate income tax rates for the three months
ended Sept. 30, 2002 and 2001, were 39.0 percent and 42.0 percent, respectively.
Year-to-date, the effective corporate income tax rate from operations was
35.4 percent, compared
to 35.235.6 percent for the first nine months of 2001.three-month period ended March 31, 2003, compared to 37.0
percent for the three-month period ended March 31, 2002. The decrease was
primarily due to a $13.7 million decrease in income before income taxes.
Financial Condition
- -------------------
Capital Structure
-----------------
The Company's goal is to maintain a capital structure
comprised of 45 to 50 percent common stock equity, 5up to 10 percent preferred and preference
stock and 45 to 50 percent short-term and long-term debt. When additional
capital is required, debt or equity securities are issued depending upon both
the target capital structure and market conditions. These sources also are used
to meet long-term debt and preferred and preference stock redemption requirements (see
"Liquidity and Capital Resources," below, and Part II, Item 8., Notes 3 and 5,
"Notes to Consolidated Financial Statements," in the 20012002 Form 10-K).
Liquidity and Capital Resources
-------------------------------
At Sept. 30, 2002,March 31, 2003, the Company had $19.7$45.5 million in cash and
cash equivalents compared to $8.1$30.1 million at Sept. 30, 2001.March 31, 2002. Short-term
liquidity is provided by cash from operations and from the sale of the Company's
commercial paper notes, which are supported by commercial bank lines of credit
(see "Lines of Credit," below, and Part II, Item 8., Note 6, "Notes to Consolidated Financial Statements," in the Company's 20012002 Form
10-K). The Company has available through Sept. 30, 2004,
committed lines of credit with four commercial banks (see "Lines of Credit,"
below). On Dec. 31, 2002, NW Natural will redeem all 250,000 outstanding shares
of its $6.95 Series of Redeemable Preference Stock at $100 per share plus
accrued dividends. NW Natural expects to use its short-term cash or to borrow
through its commercial paper program to fund this redemption.
NW Natural's capital expenditures are primarily related to
utility construction resulting from customer growth and system improvements (see
"Cash Flows - Investing Activities," below). In addition, NW Natural has certain
long-term contractual obligations, such ascommitments under capital lease obligations,leases, operating leases and
long-term gas supply purchase obligationscontracts that require an adequate source of
funding. NW Natural also has a purchase commitment to purchase $8.1 million in
gas transmission pipe for use in constructing an extension of the pipeline from
its Mist gas storage field. These capital and contractual expenditures are
financed through cash from operations and from the issuance of short-term debt,
20
which is periodically refinanced through the sale of long-term debt or equity
securities.
21
Neither NW Natural's Mortgage and Deed of Trust nor the
indentures under which other long-term debt is issued contain credit rating
triggers or stock price provisions that require the acceleration of debt
repayment. Also, there are no rating triggers or stock price provisions
contained in contracts or other agreements with third parties, except for
agreements with certain counter-parties under NW Natural's Derivatives Policy
which require the affected party to provide substitute collateral such as cash,
guaranty or letter of credit if credit ratings are lowered to non-investment
grade, or in some cases if the mark-to-market value exceeds a certain threshold.
At March 31, 2003, the Company had four commodity-price swap agreements
outstanding with one counter-party which was subject to a below investment grade
ratings trigger. Except for certain lease and purchase commitments, the Company
has no other material off-balance sheet obligations.
The following table shows NW Natural's contractual obligations
(in
thousands) by maturity and type of obligation:
Commercial
Paper Preferred Total(Thousands) Long-term Gas Other
Payments Due in Years Supported andCommercial Preferred Long-term Capital Long-term Gas Contractual
by Lines Preference Long-term Lease Operating Supply Purchase
Cash
Ending Sept. 30, of CreditMarch 31, Paper Stock Debt Obligations Leases Obligations ObligationsLeases Commitments Commitments Total
- -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
20032004 $ - $ 25,750750 $ 50,00020,000 $ 328103 $ 2,7602,946 $ 81,91568,076 $ 160,753
2004 - 750 - 43 2,672 50,189 53,6548,085 $ 99,960
2005 - 750 - 4 2,671 48,258 - 2,602 45,442 48,79451,683
2006 - 750 15,000 1 2,597 45,377 - 1,582 42,287 59,61963,725
2007 - 750 38,00028,000 1 1,003 41,631 - 156 41,912 80,818
------------------------------------------------------------------------------------------------71,385
2008 - 750 9,500 - 301 39,867 - 50,418
-------------------------------------------------------------------------------------------------------
Total 20032004 - 20072008 - 28,750 103,000 371 9,772 261,745 403,6383,750 72,500 109 9,518 243,209 8,085 337,171
Thereafter - 4,500 383,033413,426 - 3,371 219,321 610,2254,266 170,658 - 592,850
Less: imputed interest - - - (17)(4) - (84,893) (84,910)
------------------------------------------------------------------------------------------------(101,116) - (101,120)
-------------------------------------------------------------------------------------------------------
Total $ - $ 33,2508,250 $ 486,033485,926 $ 354105 $ 13,14313,784 $ 396,173312,751 $ 928,953
================================================================================================8,085 $ 828,901
=======================================================================================================
Commercial Paper
----------------
The Company's primary source of short-term funds is commercial
paper notes payable. Both NW Natural and Financial Corporation issue commercial
paper under agency agreements with a commercial bank. NW Natural's commercial
paper is supported by its committed bank lines of credit (see "Lines of Credit,"
below), while Financial Corporation's commercial paper is supported by committed
bank lines of credit and the guaranty of NW Natural (see Part II, Item 8., Note
6, "Notes to Consolidated Financial Statements," in the 20012002 Form 10-K). NW Natural had no commercial paper notes outstanding
at Sept. 30, 2002,March 31, 2003, compared to $78.9$0.2 million and $108.3$69.8 million at Sept. 30, 2001March 31, 2002
and Dec. 31, 2001,2002, respectively. Financial Corporation had no commercial paper
notes outstanding at Sept. 30,March 31, 2003 or 2002, or 2001, or at Dec. 31, 2001.2002.
Lines of Credit
---------------
NW Natural has renewed its lines of credit effective Oct. 1, 2002, with four commercial banks
totaling $150 million. Half of the credit facility with each bank, totaling $75
million, is committed and available through Sept. 30, 2003, and the other $75
million is committed and available through Sept. 30, 2004. In addition,
Financial Corporation has available through Sept. 30, 2003, committed lines of
credit with two commercial banks totaling $20 million. Financial Corporation's
lines are supported by the guaranty of NW Natural.
Under the terms of these lines of credit, NW Natural and
Financial Corporation pay commitment fees but are not required to maintain
compensating bank balances. The interest rates on borrowings under these lines
of credit, if any, are based on current market rates. There were no outstanding
balances on either the NW Natural or Financial Corporation lines of credit as of
March 31, 2003 or 2002, or at Dec. 31, 2001, or Sept. 30, 2002 or 2001.2002.
21
NW Natural's lines of credit require that credit ratings be
maintained in effect at all times and that notice be given of any change in its
senior unsecured debt ratings. A change in NW Natural's credit rating is not an
event of default, nor is the maintenance of a specific minimum level of credit
rating a condition to drawing upon the lines of credit. However, interest rates
on any loans outstanding under NW Natural's bank lines are tied to credit
ratings, which would increase or decrease the cost of bank debt, if any, when
ratings are changed.
The lines of credit require that NW Naturalthe Company to maintain an
indebtedness to total capitalization ratio as defined in the credit agreements,
of 65 percent or less. Also, effective Oct. 1, 2002, the lines of credit require
NW Naturalless and to maintain
a consolidated net worth at least equal to 80 percent of its net worth at Sept.
30, 2002, plus 50 percent
22
of the Company's net income for each subsequent fiscal
quarter. Failure to comply with either of these covenants would entitle the
banks to terminate their lending commitments and to accelerate the maturity of
all amounts outstanding. At Sept. 30,March 31, 2003 and Dec. 31, 2002, NW Naturalthe Company was in
compliance with both of these covenants. The banks have waived through Sept. 30,
2003, a requirement that NW Natural represent that the debtassets dedicated to total capital
covenantits
qualified pension plans exceed the unfunded liabilities of the plans before it
may draw upon the lines of credit.
NW Natural may be unable to draw upon the two-year portions of
the credit lines, totaling $75 million, until its notes relating to the two-year
commitments are approved by the OPUC or the Washington Utilities and
hadTransportation Commission (WUTC), or both. NW Natural expects that it been in effect, would have been in compliance with the
minimum net worth covenant.will be
able to secure such approvals, if required.
Cash Flows
----------
Operating Activities
Cash--------------------
Operations provided by operating activities was $127.4net cash of $99.5 million in the ninethree
months ended Sept. 30, 2002,March 31, 2003, compared to $61.0$91.3 million in the first ninethree months
of 2001.2002. The 109$8.2 million, or 9 percent, increase was due to a $15.2 million
increase inlower working
capital requirements ($26.5 million) and decreased cash from operations before
working capital changes and a $51.3
million decrease in working capital requirements. The increase in cash from
operations before working capital changes was primarily due to higher net income
excluding the non-cash loss reserve for PGE acquisition costs ($13.7 million),
combined with an increase in deferred income taxes and investment tax credits
($6.8 million) and an increase in depreciation, depletion and amortization ($1.7
million), partially offset by a decrease in deferred gas costs ($2.6 million)
and an increase in earnings of investments accounted for on an equity basis
($1.418.3 million). The decrease in working capital
requirements was primarily due to a smaller reductionan increase in accounts payable in the first
quarter of 2003 compared to a decrease in the first quarter of 2002 ($45.513.9
million), a larger reductiondecrease in inventories ($9.2 million), a larger increase in
accrued interest and taxes ($3.0 million), and smaller decreases in other
current assets and liabilities ($2.4 million) and accounts receivable ($7.3 million) and a larger reduction in accrued unbilled
revenue ($7.12.4
million), partially offset by a smaller decrease in accrued interestunbilled revenue
($4.4 million). The decrease in cash from operations before working capital
changes was due to a smaller increase in deferred gas costs ($17.9 million) and
taxes in 2002 compared tolower net income ($8.0 million), partially offset by an increase in these items in 2001 ($14.1 million).
NW Natural's refunds to customers of approximately $30.4 million
of deferred
gas cost savings in the nine months ended Sept. 30, 2002 (see
"Results of Operations - Comparison of Gas Operations," above) reduced cash
flows from operations by that amount, but the reduction was more than offset by
the other factors affecting cash flows cited above.
The Job Creationincome taxes and Worker Assistance Act of 2002 (the Act),
enacted on March 9, 2002, allows an additional first-yearinvestment tax deduction for
depreciation equal to 30 percent of the adjusted basis of "qualified property."
The extra 30 percent depreciation deductioncredits in the first year is an accelerationquarter of depreciation deductions that otherwise would have been taken2003 compared to
a decrease in the later
yearsfirst quarter of an asset's recovery period. Special rules apply as to the application
of this new provision. However,2002 ($6.5 million), and decreases in general, the extra 30 percent depreciation
deduction is available for most personal property acquired after Sept. 10, 2001,
andincome
from equity investments before Sept. 11, 2004. The Company elected to apply the first-year 30
percent depreciation deduction effective with the filing of its 2001 federal
income tax return in September 2002. The Company anticipates enhanced cash flow
from reduced income taxes totaling an estimated $25 million to $30 million,
during the effective period of the Act, based on actual or projected plant
investments between Sept. 11, 2001($0.4 million) and Sept. 10, 2004.
The Company has leasedepreciation and
purchase commitments relating to its operating
activities that are financed with cash flows from operations (see "Liquidity and
Capital Resources," above, and Part II, Item 8., Note 12, "Notes to Consolidated
Financial Statements," in the 2001 Form 10-K)amortization ($0.4 million).
Investing Activities
--------------------
Cash requirements for investing activities in the first
nine
monthsquarter of 20022003 totaled $57.9$24.9 million, up from $56.7$16.6 million in the same period
of 2001. The increase was primarily due to $4.1 million in such costs relating
to the proposed acquisition of PGE, compared to $1.2 million in such costs
during the first nine months of 2001.2002. Cash requirements for utility construction totaled $53.3$23.5 million, down $2.6up
$8.5 million from $55.8 millionthe first quarter of 2002. The increase in cash requirements
for utility construction in the first nine
monthsquarter of 2001.
23
2003 was primarily the result
of capital expenditures related to NW Natural's extension of the pipeline from
its Mist gas storage field ($4.4 million) and special projects expanding service
into new service areas ($3.8 million).
Investments in non-utility property during the first quarter
of 2003 totaled $1.3 million, up from $0.3 million during the first quarter of
2002. The increase was due to investment in facilities in support of the
Company's interstate gas storage operations.
NW Natural's utility construction expenditures in 2003 are
estimated to total $84$153 million, up from $85 million in 2002. Projected utility
construction in 2003 includes $31 million for customer growth, up from $29
million in 2002; $41 million for system improvement and support, up from $25
million in 2002; $55 million for the extension of the Mist pipeline and related
22
gas storage, up from $9 million in 2002; and $6 million for the construction of
a gas distribution system in Coos County, Oregon, up from $1 million in 2002.
OverDuring the five-year period 20022003 through 2006, these2007, utility
construction expenditures are estimated at between $500 million and $600
million. The level of capital expenditures over the next five years reflects
projected customer growth, system replacementimprovement projects resulting in part from
requirements under the Pipeline Safety Improvement Act of 2002, and reinforcement projects, anda project
estimated to cost $93 million to extend the development of
additional gas storage facilities including the extension of a pipeline that moves gas from NW
Natural's Mist Storage Fieldgas storage field into growing portions of its service area. See
Part II, Item 8., "Financial Condition - Cash Flows - Investing Activities," in
the 2002 Form 10-K. An estimated 60 percent of the required funds isare expected
to be internally generated over the five-year period, withperiod; the remainder will be
funded through a combination of long-term debt and equity securities with
short-term debt providing liquidity and bridge financing.
The Company entered into a stipulation with the OPUC in 2001 for
an enhanced pipeline safety program that includes an accelerated bare steel
replacement program and a geo-hazard safety program. The bare steel replacement
program accelerates the replacement of the Company's bare steel piping over 20
years instead of 40 years. The geo-hazard safety program includes the
identification, assessment and remediation of risks to the Company's piping
infrastructure created by landslides, washouts, earthquakes or similar
occurrences. The stipulation allowed the Company to receive deferred accounting
rate treatment commencing Oct. 1, 2002, for costs associated with the programs.
Investments in non-utility property during the first nine months
of 2002 totaled $2.6 million, up from a negligible amount in the same period of
2001. The increase was due to greater investments in facilities used for
underground gas storage, a business segment treated for accounting purposes as
separate from the Company's utility operations (see Note 5, "Notes to
Consolidated Financial Statements," above, and Part II, Item 8., Note 2, "Notes
to Consolidated Financial Statements," in the 2001 Form 10-K).
The $4.1 million in costs relating to the proposed acquisition of
PGE included financial advisory and legal fees, loan arrangement fees and other
costs. In June 2002, the Company recorded a non-recurring charge to a loss
reserve ($13.7 million) for all of NW Natural's costs incurred and deferred
through June 30, 2002 in its efforts to acquire PGE from Enron. (See
"Application of Critical Accounting Policies - Contingencies," above.)
Financing Activities
--------------------
Cash used in financing activities in the first nine monthsquarter of 20022003
totaled $60.2$36.5 million, an increase of $52.7compared to $55.0 million fromin the first nine monthsquarter of 2001. The increase was primarily due2002.
Factors contributing to the $18.5 million difference were a smaller reduction in
short-term debt in the first quarter of 2003 ($69.8 million) compared to a
larger usereduction in the first quarter of funds to pay down
long-term and short-term debt,2002 ($108.1 million), partially offset
by a larger amount of new$20 million decrease in long-term debt issued.
In February 2003, NW Natural sold $40 million of its secured
5.66% Series B Medium-Term Notes (MTNs) due 2033, and used the proceeds,
together with internally generated cash, to reduce short-term debt by $69.8
million in the first quarter of 2003.
NW Natural sold $60 million of its secured Medium-Term Notes,MTNs, Series B (MTNs), in
March 2002 and another $30 million in September 2002 and used the proceeds, together with internally generated cash, in the first nine
months of 2002, to
reduce short-term debt ($108.3 million), retire long-term
debt ($10 million) and provide cash for investments in utility plant. Proceeds
from the sale of $18by $108.1 million of Medium-Term Notes, Series B, in June 2001,
together with a $22.6 million increase in short-term borrowings in the first nine monthsquarter of 2001, were used to reduce2002.
NW Natural may exercise call options in the third of quarter
of 2003 on certain of its long-term debt, ($20 million)including $20 million of the 7.25%
Series B MTNs due 2023, $4 million of the 7.50% Series B MTNs due 2023 and provide cash for investments$11
million of the 7.52% Series B MTNs due 2023, that are each callable in utility plant.the third
quarter at 103.65%, 103.75% and 103.76% of their respective principal amounts.
In May 2000, the CompanyNW Natural commenced a program to repurchase up to 2
million shares, or up to $35 million in value, of NW Natural's common stock
through a repurchase program whichthat has been extended through May 2003.2004. The
purchases are made in the open market or through privately negotiated
transactions. The Company used $5.8 million for the repurchase of 246,700 shares
under the program during the first six months ofin 2001. No shares were repurchased duringin 2002 or in the six months ended Dec. 31, 2001, while the Company was
negotiating the purchasefirst
quarter of PGE, or during the nine months ended Sept. 30, 2002.2003. Since the program's inception, in 2000, the Company has repurchased
355,400 shares of common stock at a total cost of $8.2 million.
24
Ratios of Earnings to Fixed Charges
-----------------------------------
For the ninethree months and 12 months ended Sept. 30, 2002,March 31, 2003 and
the 12 months ended Dec. 31, 2001,2002, the Company's ratios of earnings to fixed
charges, computed using the Securities and Exchange Commission method, were
2.46, 3.095.31, 2.44 and 3.14,2.85, respectively. For this purpose, earnings consist of net
income before taxes plus fixed charges, and fixed charges consist of interest on
all indebtedness, the amortization of debt expense and discount or premium and
the estimated interest portion of rentals charged to income. A significant part
of the business of the Company is of a seasonal nature; therefore, the ratio of
earnings to fixed charges for the interim period is not necessarily indicative
of the results for a full year.
23
Forward-Looking Statements
- --------------------------
This report and other presentations made by the Company from
time to time may contain forward-looking statements within the meaning of
Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking
statements include statements concerning plans, objectives, goals, strategies,
future events or performance, and other statements that are other than
statements of historical facts. The Company's expectations, beliefs and
projections are expressed in good faith and are believed to have a reasonable
basis. However, each such forward-looking statement involves uncertainties and
is qualified in its entirety by reference to the following important factors,
among others, that could cause the actual results of the Company to differ
materially from those projected in such forward-looking statements: (i)
prevailing state and federal governmental policies and regulatory actions,
including those of the OPUC and the WUTC, with respect to allowed rates of
return, industry and rate structure, purchased gas and investment recovery,
acquisitions and dispositions of assets and facilities, operation and
construction of plant facilities, the maintenance of pipeline integrity, present
or prospective wholesale and retail competition, changes in tax laws and
policies and changes in and compliance with environmental and safety laws,
regulations and policies; (ii) weather conditions and other natural phenomena;
(iii) unanticipated population growth or decline, and changes in market demand
and demographic patterns; (iv) competition for retail and wholesale customers;
(v) pricing of natural gas relative to other energy sources; (vi) risks
resulting from uninsured property damage to Company property, intentional or
otherwise; (vii) unanticipated changes in interest or foreign currency exchange
rates or in rates of inflation; (viii) economic factors that could cause a
severe downturn in certain key industries, thus affecting demand for natural
gas; (ix) unanticipated changes in operating expenses and capital expenditures;
(x) unanticipated changes in future liabilities relating to employee benefit
plans; (xi) capital market conditions, including itstheir effect on pension costs;
(xii) competition for new energy development opportunities; (xiii) potential
inability to obtain permits, rights of way, easements or other necessary
authority to construct pipelines or other system expansions; and (xiv) legal and
administrative proceedings and settlements; and (xiv) risks relating to the
potential negotiation of a new agreement for the acquisition of PGE, including
risks and uncertainties relating to the impact of Enron's bankruptcy on PGE,
obtaining regulatory approvals, securing financing at reasonable interest rates
and realizing expected synergies and other benefits from the acquisition, if
completed.settlements. All subsequent forward-looking
statements, whether written or oral and whether made by or on behalf of the
Company, also are expressly qualified by these cautionary statements.
25Any forward-looking statement speaks only as of the date on
which such statement is made, and the Company undertakes no obligation to update
any forward-looking statement to reflect events or circumstances after the date
on which such statement is made or to reflect the occurrence of unanticipated
events. New factors emerge from time to time and it is not possible for the
Company to predict all such factors, nor can it assess the impact of each such
factor or the extent to which any factor, or combination of factors, may cause
results to differ materially from those contained in any forward-looking
statement.
24
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes to the information
provided in Part II, Item 7A., "Quantitative and Qualitative Disclosures About
Market Risk," in the 20012002 Form 10-K.
Item 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures.
Within the 90 days prior to the date of the filing of this
report, the Company evaluated, under the supervision and with the participation
of the Company's management, including the Company's ChairmanPresident and Chief
Executive Officer, and the Company's Senior Vice President, Finance, and Chief
Financial Officer, the effectiveness of the design and operation of the
Company's disclosure controls and procedures pursuant to Rules 13a-14 and 15d-14Rule 13a-14(c) under
the Securities Exchange Act of 1934. Based upon that evaluation, the Company's
ChairmanPresident and Chief Executive Officer, together with the Company's Senior Vice
President, Finance, and Chief Financial Officer, concluded that the Company's
disclosure controls and procedures are effective in timely alerting them to
material information relating to the Company (including its consolidated
subsidiaries) required to be included in the Company's periodic filings with the
Securities and Exchange Commission.
(b) Changes in Internal Controls.
There have been no significant changes in the Company's
internal controls or in other factors that could significantly affect internal
controls subsequent to the date the Company carried out its evaluation.
PART II. OTHER INFORMATION
Item 5. OTHER INFORMATION
On Sept. 24, 2002, the Audit Committee of the Board of Directors
pre-approved certain ongoing non-audit related services performed by the
Company's independent auditor, PricewaterhouseCoopers LLP,1. LEGAL PROCEEDINGS
Litigation
In April 2003, NW Natural settled and established a
procedureagreed with Cascade
Resources Corporation and Al Curry (collectively, Cascade) to dismiss their
respective claims in Northwest Natural Gas Company v. Cascade Resources
Corporation and Curry, et al. (United States District Court for the pre-approvalDistrict of
any future non-audit related services
performedOregon, Case No. CV 01-1620 HU) (the Action). See Part I, Item 3., "Legal
Proceedings," in the 2002 Form 10-K. In the settlement, Cascade transferred all
of its records, rights and interests in certain leases, including gas storage
leases, in Columbia County, Oregon to NW Natural and agreed to refrain from
certain competitive activities in the area. The counterclaims against NW Natural
described in the 2002 Form 10-K will be dismissed and Enerfin Resources
Northwest Limited Partnership (Enerfin) will be the remaining defendant in the
Action. NW Natural paid Cascade $0.5 million and agreed to defend and indemnify
Cascade against claims by its auditor. The non-audit services approved included:
o Audits of the Company's Retirement Plans, its Retirement K Savings
Plan and its Cafeteria Plan (Plan No. 507) that are required under
provisions of the Employee Retirement Income Security Act of 1974, as
amended, and audits of the Company's transfer agent and registrar
functions that are required by the New York Stock Exchange;
o Tax compliance and other tax services, including technical tax
guidance, assistance and technical support, in an amount not to exceed
$25,000 in any calendar year; and
o Services related to the Company's issuance of securities, including
the issuance of comfort letters and consentsEnerfin relating to the issuance
of its Medium-Term Notes;validity and o Such other non-audit services, in an amount not to exceed $5,000 for
each such service, as may be deemed necessary by management to support
normal business operations.
The Committee determined that the ongoing non-audit services would
be reviewed annually concurrently with the engagementenforceability of
the auditor.
26transferred leases. However, NW Natural will have no obligation to defend or
indemnify Cascade from any claims for recovery of punitive or other exemplary
damages.
Enerfin recently filed a motion seeking to allow it to make
cross-claims against Cascade. Enerfin's cross-claims allege misconduct by
Cascade in obtaining oil and gas production rights in some of the leases subject
to the settlement agreement. Enerfin's cross-claims seek to obtain the ownership
of oil and gas production (but not gas storage) rights in the leases subject to
the settlement. In the alternative, Enerfin seeks damages from Cascade of $12
million together with a demand for $24 million in punitive damages.
25
From time to time the Company is subject to other claims and
litigation arising in the ordinary course of business. Although the final
outcome of any legal proceeding cannot be predicted with certainty, the Company
does not expect disposition of these matters to have a materially adverse effect
on the Company's financial position, results of operation or cash flows.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 10(a)(10) - Northwest Natural GasFirm Service Agreement between the Company Restated Stock Option
Plan,and
Westcoast Energy Inc. dated as amended May 23, 2002of April 1, 2003
Exhibit 10(b) - Northwest Natural Gas Company Non-Employee Directors
Stock Compensation Plan, as amended September 26,
2002, effective October 1, 2002
Exhibit 11(11) - Statement re: Computation of Per Share Earnings
Exhibit 12(12) - Computation of Ratio of Earnings to Fixed Charges
Exhibit 99(99) - CertificateCertifications Pursuant to Section 906 of Sarbanes - Oxleythe
Sarbanes-Oxley Act of 2002
(b) Reports on Form 8-K
NoOn February 5, 2003, April 2, 2003 and May 1, 2003, the
Company filed or furnished its Current Reports on Form 8-K were filed during the third quarter
of 2002. However, on Oct. 9, 2002, the Company filed its Current Report on Form
8-K, dated Sept. 12, 2002, relating,
to (1) the appointment of a new chief
executive officer and election of a director, (2) the renewal of lines of credit
and (3) the approval by the Oregon Public Utility Commission of a settlement inrespectively, to: (a) the Company's conservation tariff proceeding.2002 earnings (unaudited); (b) the lowering
of its earnings guidance for the quarter ended March 31, 2003; and (c) earnings
for the quarter ended March 31, 2003 (unaudited) and the status of the Company's
Oregon general rate case.
SIGNATURE
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.
NORTHWEST NATURAL GAS COMPANY
(Registrant)
Dated: November 12, 2002May 13, 2003 /s/ Stephen P. Feltz
------------------------------------------------------------------------
Stephen P. Feltz
Principal Accounting Officer
Treasurer and Controller
2726
CERTIFICATIONS
I, Richard G. Reiten,Mark S. Dodson, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Northwest Natural
Gas Company;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officersofficer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing
date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officersofficer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability
to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officersofficer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 12, 2002May 13, 2003
/s/ Richard G. ReitenMark S. Dodson
-------------------------------------
Richard G. Reiten
Chairman of the BoardMark S. Dodson
President and Chief Executive Officer
2827
I, Bruce R. DeBolt, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Northwest Natural
Gas Company;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officersofficer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing
date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officersofficer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability
to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officersofficer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 12, 2002May 13, 2003
/s/ Bruce R. DeBolt
------------------------------------------------------------------
Bruce R. DeBolt
Senior Vice President, Finance,
and Chief Financial Officer
2928
NORTHWEST NATURAL GAS COMPANY
EXHIBIT INDEX
To
Quarterly Report on Form 10-Q
For Quarter Ended
September 30, 2002March 31, 2003
Exhibit
Document Number
Northwest Natural Gas- -------- ------
Firm Service Agreement between the Company Restated Stock Option Plan,and Westcoast Energy Inc. (10)
dated as amended
May 23, 2002 10(a)
Northwest Natural Gas Company Non-Employee Directors Stock Compensation
Plan, as amended September 26, 2002, effective Octoberof April 1, 2002 10(b)2003
Statement re: Computation of Per Share Earnings 11(11)
Computation of Ratios of Earnings to Fixed Charges 12(12)
Certificate Pursuant to Section 906 of the Sarbanes -
Oxley Act of 2002 99(99)