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: March 31, 2002
------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______ to ______
COMMISSION FILE NUMBER: 001-11590
CHESAPEAKE UTILITIES CORPORATION
--------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 51-0064146
-------- ----------
(State or other (I.R.S. Employer
jurisdiction of Identification No.)
incorporation
or organization)
909 SILVER LAKE BOULEVARD, DOVER, DELAWARE 19904
------------------------------------------------
(Address of principal executive offices, including Zip Code)
(302) 734-6799
--------------
(Registrant's Telephone Number, including Area Code)
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 [ ]
Common Stock, par value $.4867 - 5,456,947 shares
issued as of March 31, 2002.
TABLE OF CONTENTS
PART I - FINANCIAL INFORMATION. . . . . . . . . . . . . . . . . . . . . . 1
Item 1. Financial Statements. . . . . . . . . . . . . . . . . . . . . 1
Notes to Consolidated Financial Statements. . . . . . . . . . . . . . 5
1. Quarterly Financial Data . . . . . . . . . . . . . . . . . . . . 5
2. Calculation of Earnings Per Share. . . . . . . . . . . . . . . 5
3. Commitments and Contingencies. . . . . . . . . . . . . . . . . . 5
4. Recent Authoritative Pronouncements
on Financial Reporting and Accounting. . . . . . . . . . . . . 8
4. Goodwill and Other Intangible Assets . . . . . . . . . . . . . . . 8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations. . . . . . . . . . . . 9
Business Description . . . . . . . . . . . . . . . . . . . . . . . . . 9
Financial Position, Liquidity and Capital Resources . . . . . . . . . 9
Results of Operations for the Quarter
Ended March 31, 2002 . . . . . . . . . . . . . . . . . . . . . . . . .11
Consolidated Overview. . . . . . . . . . . . . . . . . . . . . . . . .11
Natural Gas Distribution and Transmission . . . . . . . . . . . . .12
Propane. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
Advanced Information Services. . . . . . . . . . . . . . . . . . . . 13
Other Operations. . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Operating Income Taxes . . . . . . . . . . . . . . . . . . . . . . . 14
Interest Expense. . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Environmental Matters . . . . . . . . . . . . . . . . . . . . . . . . 14
Other Matters . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Regulatory Matters. . . . . . . . . . . . . . . . . . . . . . . . . . 14
Competition. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
Inflation. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
Cautionary Statement. . . . . . . . . . . . . . . . . . . . . . . . . 16
Item 3. Quantitative and Qualitative Disclosures about Market Risk. . 16
PART II - OTHER INFORMATION. . . . . . . . . . . . . . . . . . . . . . . 18
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
ITEM 1. FINANCIAL STATEMENTS
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
- --------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED MARCH 31, 2002 2001
- --------------------------------------------------------------------------------
OPERATING REVENUES. . . . . . . . . . . . . . . . . $68,540,959 $134,039,485
COST OF SALES . . . . . . . . . . . . . . . . . . . 46,210,982 110,882,622
- ---------------------------------------------------- ------------ ------------
GROSS MARGIN. . . . . . . . . . . . . . . . . . . . 22,329,977 23,156,863
- ---------------------------------------------------- ------------ ------------
OPERATING EXPENSES
Operations. . . . . . . . . . . . . . . . . . . . . 9,319,706 9,321,749
Maintenance . . . . . . . . . . . . . . . . . . . . 464,576 495,036
Depreciation and amortization . . . . . . . . . . . 2,326,349 2,127,379
Other taxes . . . . . . . . . . . . . . . . . . . . 1,272,993 1,176,961
Income taxes. . . . . . . . . . . . . . . . . . . . 3,039,429 3,369,407
- ---------------------------------------------------- ------------ ------------
Total operating expenses. . . . . . . . . . . . . . 16,423,053 16,490,532
- ---------------------------------------------------- ------------ ------------
OPERATING INCOME. . . . . . . . . . . . . . . . . . 5,906,924 6,666,331
OTHER INCOME, NET . . . . . . . . . . . . . . . . . 211,050 134,872
- ---------------------------------------------------- ------------ ------------
INCOME BEFORE INTEREST CHARGES. . . . . . . . . . . 6,117,974 6,801,203
INTEREST CHARGES. . . . . . . . . . . . . . . . . . 1,234,496 1,435,734
- ---------------------------------------------------- ------------ ------------
INCOME BEFORE CUMULATIVE EFFECT OF
CHANGE IN ACCOUNTING PRINCIPLE . . . . . . . . . 4,883,478 5,365,469
CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE (1,916,000) 0
- ---------------------------------------------------- ------------ ------------
NET INCOME. . . . . . . . . . . . . . . . . . . . . $ 2,967,478 $ 5,365,469
==================================================== ============ ============
EARNINGS PER SHARE OF COMMON STOCK:
-----------------------------------
BASIC
BEFORE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE . $ 0.90 $ 1.01
EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE. . . . . (0.35) 0.00
- ---------------------------------------------------- ------------ ------------
NET INCOME. . . . . . . . . . . . . . . . . . . . . $ 0.55 $ 1.01
==================================================== ============ ============
DILUTED
BEFORE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE . $ 0.87 $ 0.98
EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE. . . . . (0.34) 0.00
- ---------------------------------------------------- ------------ ------------
NET INCOME. . . . . . . . . . . . . . . . . . . . . $ 0.53 $ 0.98
==================================================== ============ ============
<FN>
The accompanying notes are an integral part of these financial statements.
</FN>
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
- ----------------------------------------------------------------------------------------
MARCH 31, DECEMBER 31,
ASSETS 2002 2001
- ----------------------------------------------------------------------------------------
PROPERTY, PLANT AND EQUIPMENT
Natural gas distribution and transmission . . . . . . . $ 172,339,079 $ 170,254,892
Propane . . . . . . . . . . . . . . . . . . . . . . . . 32,980,942 32,877,317
Advanced information services . . . . . . . . . . . . . 1,549,204 1,521,144
Other plant . . . . . . . . . . . . . . . . . . . . . . 12,651,855 12,249,442
- -------------------------------------------------------- -------------- --------------
Total property, plant and equipment . . . . . . . . . . 219,521,080 216,902,795
Less: Accumulated depreciation and amortization. . . . (68,925,566) (66,646,944)
- -------------------------------------------------------- -------------- --------------
Net property, plant and equipment . . . . . . . . . . . 150,595,514 150,255,851
- -------------------------------------------------------- -------------- --------------
INVESTMENTS . . . . . . . . . . . . . . . . . . . . . . 513,982 517,901
- -------------------------------------------------------- -------------- --------------
CURRENT ASSETS
Cash and cash equivalents . . . . . . . . . . . . . . . 634,028 1,188,335
Accounts receivable, less allowance for uncollectibles. 21,430,019 21,266,309
Materials and supplies, at average cost . . . . . . . . 1,144,544 1,106,995
Merchandise inventory, at average cost. . . . . . . . . 1,505,455 1,610,786
Propane inventory, at average cost. . . . . . . . . . . 2,042,424 2,518,871
Storage gas prepayments . . . . . . . . . . . . . . . . 848,182 4,326,416
Underrecovered purchased gas costs. . . . . . . . . . . 3,689,045 6,519,754
Income taxes receivable . . . . . . . . . . . . . . . . 0 675,504
Prepaid expenses and other current assets . . . . . . . 1,815,031 1,932,246
- -------------------------------------------------------- -------------- --------------
Total current assets. . . . . . . . . . . . . . . . . . 33,108,728 41,145,216
- -------------------------------------------------------- -------------- --------------
DEFERRED CHARGES AND OTHER ASSETS
Environmental regulatory assets . . . . . . . . . . . . 2,664,877 2,677,010
Environmental expenditures. . . . . . . . . . . . . . . 2,816,491 3,189,156
Intangible assets, net. . . . . . . . . . . . . . . . . 4,464,513 7,724,283
Other deferred charges. . . . . . . . . . . . . . . . . 5,244,213 5,141,363
- -------------------------------------------------------- -------------- --------------
Total deferred charges and other assets . . . . . . . . 15,190,094 18,731,812
- -------------------------------------------------------- -------------- --------------
TOTAL ASSETS. . . . . . . . . . . . . . . . . . . . . . $ 199,408,318 $ 210,650,780
======================================================== ============== ==============
<FN>
The accompanying notes are an integral part of these financial statements.
</FN>
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
- ----------------------------------------------------------------------------------------
MARCH 31, DECEMBER 31,
ASSETS 2002 2001
- ----------------------------------------------------------------------------------------
CAPITALIZATION
Stockholders' equity
Common Stock, par value $.4867 per share;
(authorized 12,000,000 shares; issued 5,456,947
and 5,424,962 shares, respectively) . . . . . . . . . . $ 2,655,628 $ 2,640,060
Additional paid-in capital. . . . . . . . . . . . . . . 30,258,031 29,653,992
Retained earnings . . . . . . . . . . . . . . . . . . . 36,022,490 34,555,560
- -------------------------------------------------------- -------------- --------------
Total stockholders' equity. . . . . . . . . . . . . . . 68,936,149 66,849,612
Long-term debt, net of current maturities . . . . . . . 46,393,048 48,408,596
- -------------------------------------------------------- -------------- --------------
Total capitalization. . . . . . . . . . . . . . . . . . 115,329,197 115,258,208
- -------------------------------------------------------- -------------- --------------
CURRENT LIABILITIES
Current portion of long-term debt . . . . . . . . . . . 3,686,596 2,686,145
Short-term borrowing. . . . . . . . . . . . . . . . . . 31,600,000 42,100,000
Accounts payable. . . . . . . . . . . . . . . . . . . . 13,260,565 14,551,621
Refunds payable to customers. . . . . . . . . . . . . . 546,397 971,575
Income taxes payable. . . . . . . . . . . . . . . . . . 3,355,283 0
Accrued interest. . . . . . . . . . . . . . . . . . . . 870,060 1,758,401
Dividends payable . . . . . . . . . . . . . . . . . . . 1,500,547 1,491,832
Deferred income taxes payable . . . . . . . . . . . . . 846,956 848,271
Other accrued liabilities . . . . . . . . . . . . . . . 5,249,524 5,327,457
- -------------------------------------------------------- -------------- --------------
Total current liabilities . . . . . . . . . . . . . . . 60,915,928 69,735,302
- -------------------------------------------------------- -------------- --------------
DEFERRED CREDITS AND OTHER LIABILITIES
Deferred income taxes . . . . . . . . . . . . . . . . . 13,206,089 15,732,842
Deferred investment tax credits . . . . . . . . . . . . 588,653 602,357
Environmental liability . . . . . . . . . . . . . . . . 3,147,713 3,199,733
Accrued pension costs . . . . . . . . . . . . . . . . . 1,621,114 1,595,650
Other liabilities . . . . . . . . . . . . . . . . . . . 4,599,624 4,526,688
- -------------------------------------------------------- -------------- --------------
Total deferred credits and other liabilities. . . . . . 23,163,193 25,657,270
- -------------------------------------------------------- -------------- --------------
TOTAL CAPITALIZATION AND LIABILITIES. . . . . . . . . . $ 199,408,318 $ 210,650,780
======================================================== ============== ==============
<FN>
The accompanying notes are an integral part of these financial statements.
</FN>
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
- ------------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED MARCH 31, 2002 2001
- ------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net Income . . . . . . . . . . . . . . . . . . . . . . . . $ 2,967,478 $ 5,365,469
Adjustments to reconcile net income to net operating cash:
Goodwill impairment. . . . . . . . . . . . . . . . . . . 3,200,000 0
Depreciation and amortization. . . . . . . . . . . . . . 2,775,058 2,582,501
Deferred income taxes, net . . . . . . . . . . . . . . . (2,524,149) 266
Investment tax credit adjustments. . . . . . . . . . . . (13,704) (8,266)
Mark-to-market adjustments . . . . . . . . . . . . . . . (78,350) 919,460
Other, net . . . . . . . . . . . . . . . . . . . . . . . 98,400 146,816
Changes in assets and liabilities:
Accounts receivable, net . . . . . . . . . . . . . . . . (163,710) 8,992,865
Inventory, materials, supplies and storage gas . . . . . 4,022,463 5,388,184
Other current assets . . . . . . . . . . . . . . . . . . 195,564 (937,756)
Other deferred charges . . . . . . . . . . . . . . . . . (165,087) (174,063)
Accounts payable, net. . . . . . . . . . . . . . . . . . (1,291,052) (16,128,762)
Refunds payable to customers . . . . . . . . . . . . . . (425,178) (242,784)
Over (under) recovered purchased gas costs . . . . . . . 2,830,709 (1,423,768)
Other current liabilities. . . . . . . . . . . . . . . . 3,173,535 4,378,745
- ------------------------------------------------------------ ------------- -------------
Net cash provided by operating activities. . . . . . . . . . 14,601,977 8,858,907
- ------------------------------------------------------------ ------------- -------------
INVESTING ACTIVITIES
Property, plant and equipment expenditures, net. . . . . . (2,659,937) (4,594,355)
- ------------------------------------------------------------ ------------- -------------
Net cash used by investing activities. . . . . . . . . . . . (2,659,937) (4,594,355)
- ------------------------------------------------------------ ------------- -------------
FINANCING ACTIVITIES
Common stock dividends, net of amounts reinvested. . . . . (1,325,828) (1,285,256)
Issuance of stock:
Dividend Reinvestment Plan optional cash . . . . . . . . 74,314 50,839
Retirement Savings Plan. . . . . . . . . . . . . . . . . 260,281 280,170
Net repayment under line of credit agreements. . . . . . . (10,500,000) (3,900,000)
Repayment of long-term debt. . . . . . . . . . . . . . . . (1,005,114) (1,004,041)
- ------------------------------------------------------------ ------------- -------------
Net cash used by financing activities. . . . . . . . . . . . (12,496,347) (5,858,288)
- ------------------------------------------------------------ ------------- -------------
NET DECREASE IN CASH AND CASH EQUIVALENTS. . . . . . . . . . (554,307) (1,593,736)
CASH AND CASH EQUIVALENTS - BEGINNING OF PERIOD. . . . . . . 1,188,335 4,606,316
- ------------------------------------------------------------ ------------- -------------
CASH AND CASH EQUIVALENTS - END OF PERIOD. . . . . . . . . . $ 634,028 $ 3,012,580
============================================================ ============= =============
<FN>
The accompanying notes are an integral part of these financial statements.
</FN>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. QUARTERLY FINANCIAL DATA
The financial information for Chesapeake Utilities Corporation (the "Company")
included herein is unaudited and should be read in conjunction with the
Company's Annual Report on Form 10-K. In the opinion of management, this
financial information reflects normal recurring adjustments, including the
cumulative effect of change in accounting principles, which are necessary for a
fair presentation of the Company's interim results. Due to the seasonal nature
of the Company's business, there are substantial variations in the results of
operations reported on a quarterly basis and, accordingly, results for any
particular quarter may not give a true indication of results for the year.
Certain amounts in 2001 have been reclassified to conform to the presentation
for the current year.
2. CALCULATION OF EARNINGS PER SHARE
- -----------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED MARCH 31, 2002 2001
- -----------------------------------------------------------------------------
CALCULATION OF BASIC EARNINGS PER SHARE BEFORE
CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE:
Net Income before cumulative effect of change
in accounting principle. . . . . . . . . . . . . . $4,883,478 $5,365,469
Weighted average shares outstanding. . . . . . . . . 5,443,980 5,317,760
- ----------------------------------------------------- ---------- ----------
BASIC EARNINGS PER SHARE BEFORE CUMULATIVE
EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE . . . . . . $ 0.90 $ 1.01
===================================================== ========== ==========
CALCULATION OF DILUTED EARNINGS PER SHARE BEFORE
CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE:
RECONCILIATION OF NUMERATOR:
Net Income before cumulative effect of change
in accounting principle - Basic. . . . . . . . . . $4,883,478 $5,365,469
Effect of 8.25% Convertible debentures . . . . . . . 41,541 42,821
- ----------------------------------------------------- ---------- ----------
Adjusted numerator - Diluted . . . . . . . . . . . . $4,925,019 $5,408,290
- ----------------------------------------------------- ---------- ----------
RECONCILIATION OF DENOMINATOR:
Weighted shares outstanding - Basic. . . . . . . . . 5,443,980 5,317,760
Effect of dilutive securities
Stock options. . . . . . . . . . . . . . . . . . . 0 12,782
Warrants . . . . . . . . . . . . . . . . . . . . . 1,832 335
8.25% Convertible debentures . . . . . . . . . . . 197,314 203,395
- ----------------------------------------------------- ---------- ----------
Adjusted denominator - Diluted . . . . . . . . . . . 5,643,126 5,534,272
- ----------------------------------------------------- ---------- ----------
DILUTED EARNINGS PER SHARE BEFORE CUMULATIVE
EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE . . . . . . $ 0.87 $ 0.98
===================================================== ========== ==========
3. COMMITMENTS AND CONTINGENCIES
ENVIRONMENTAL MATTERS
The Company is currently participating in the investigation, assessment or
remediation of three former gas manufacturing plant sites located in different
jurisdictions, including the exploration of corrective action options to remove
environmental contaminants. The Company has accrued liabilities for the Dover
Gas Light, Salisbury Town Gas Light and the Winter Haven Coal Gas sites. During
the first quarter of 2002, the Company received a letter from the Maryland
Department of the Environment requesting that the Company and two other parties
enter into an Administrative Consent Order for cleanup of contamination at a
fourth site located in Cambridge, Maryland.
The Dover Gas Light site is located in Dover, Delaware. In May 2001, the
Company, General Public Utilities Corporation, Inc. ("GPU"), the State of
Delaware and the United States Environmental Protection Agency ("EPA") signed a
settlement term sheet reflecting the agreement in principle to settle a lawsuit
with respect to the site. The parties are in the process of memorializing the
terms of the final agreement in two consent decrees. The consent decrees will
then be published for public comment and submitted to a federal judge for
approval.
If the agreement in principle receives final approval, the Company will:
- - Design and construct a parking lot on the site and dismantle the soil
vapor extraction system that had been erected at the site.
- - Receive a net payment of $1.15 million from other parties to the
agreement. These proceeds will be passed on to the Company's firm customers, in
accordance with the environmental rate rider.
- - Receive a release from liability and covenant not to sue from the EPA and
the State of Delaware. This will relieve the Company from liability for future
remediation at the site, unless previously unknown conditions are discovered at
the site, or information previously unknown to EPA is received that indicates
the remedial action related to the prior manufactured gas plant is not
sufficiently protective. These contingencies are standard, and are required by
the United States in all liability settlements.
At March 31, 2002, the Company had accrued $2.1 million (discounted) of costs
associated with the remediation of the Dover site and had recorded an associated
regulatory asset for the same amount. Of that amount, $1.5 million was for
estimated ground-water remediation and $600,000 was for remaining soil
remediation. The $1.5 million represented the low end of the ground-water
remediation estimates prepared by an independent consultant and was used because
the Company could not, at that time, predict the remedy the EPA might require.
Through March 31, 2002, the Company has incurred approximately $8.9 million in
costs relating to environmental testing and remedial action studies at the Dover
site. Approximately $6.4 million has been recovered through March 31, 2002 from
other parties or through rates.
Upon receiving final court approval of the consent decrees, the Company will
reduce both the accrued environmental liability and the associated environmental
regulatory asset to the amount required to complete its obligations (primarily
the final demobilization of the remedial system and final design and
construction of the parking lot).
The Salisbury Town Gas Light site is located in Salisbury, Maryland. In
cooperation with the Maryland Department of the Environment ("MDE"), the Company
is engaged in remediation that primarily includes the following: (1) operation
of an air sparging/soil vapor extraction ("AS/SVE") remedial system; (2)
monitoring and recovery of product from recovery wells; and (3) monitoring of
ground-water quality. In February 2002, the MDE granted permission to
permanently decommission the AS/SVE system and abandon nearly all of the
monitoring wells on-site and off-site. The Company is currently seeking a No
Further Action ("NFA") for the site. The NFA would be conditional upon the
Company performing continued product monitoring and recovery at one well
location and implementing land use controls. Evaluation of historical sampling
results is currently being performed to determine the level of land use controls
that will be required by the MDE for the site. A plan for decommissioning the
AS/SVE system and monitoring well network is currently being prepared for
approval from the MDE. The final decommissioning and well abandonment is
anticipated to occur the second quarter in 2002.
The Company has adjusted the liability with respect to the Salisbury site to
$88,000 at March 31, 2002. This amount is based on the estimated costs to
perform limited product monitoring and recovery efforts, abandon the monitoring
well network, decommission the remedial system and fulfill ongoing reporting
requirements. A corresponding regulatory asset has been recorded, reflecting the
Company's belief that costs incurred will be recoverable in base rates.
Through March 31, 2002, the Company has incurred approximately $2.8 million for
remedial actions and environmental studies at the Salisbury site. Of this
amount, approximately $1.8 million has been recovered through insurance proceeds
or ratemaking treatment.
The Winter Haven Coal Gas site is located in Winter Haven, Florida. In January
2001, the Company filed a remedial action plan ("RAP") with the Florida
Department of the Environment ("FDEP"). The RAP was approved by the FDEP on May
4, 2001. The current estimate of costs to complete the RAP is approximately $1
million (discounted). Accordingly, at March 31, 2002, the Company has accrued a
liability of $1 million. Through March 31, 2002, the Company has incurred
approximately $947,000 of environmental costs associated with the Florida site.
At March 31, 2002, the Company had collected $523,000 in excess of costs
incurred. A regulatory asset of $477,000 representing the uncollected portion of
the estimated cleanup costs has also been recorded. Once the FDEP approves the
RAP, the Company will commence with the remediation procedures per the RAP.
It is management's opinion that any unrecovered current costs and any other
future costs associated with each of the three sites incurred will be
recoverable through future rates or sharing arrangements with other responsible
parties.
The Maryland Department of the Environment submitted a letter to Chesapeake and
two other parties requesting that the parties enter into an Administrative
Consent Order for cleanup of contamination at the Todd Seafood property located
in Cambridge, Maryland. It has been alleged that contamination at the Todd
Seafood property is a result of manufactured gas plant operations. Neither
Chesapeake nor any of its affiliates have ever owned or operated a manufactured
gas plant in Cambridge, Maryland. A company acquired by Chesapeake did, at one
time, own a piece of land where a manufactured gas plant had once stood. The
plant was removed before they purchased the land and the land was sold prior to
the company's acquisition by Chesapeake. Chesapeake's environmental consultants
have examined some of the MDE's records under the Public Information Act
("PIA"). Key documents were not available during the PIA review. Chesapeake's
attorneys have been in discussions with the MDE to obtain access to these files.
Upon receipt of these files, a response to the MDE's letter will be prepared and
discussed with the MDE. The outcome of this matter cannot be determined at this
time.
OTHER COMMITMENTS AND CONTINGENCIES
The Company's natural gas distribution operations have entered into contractual
commitments for daily entitlements of natural gas from various suppliers. The
contracts have various expiration dates. In 2000, the Company entered into a
long-term contract with an energy marketing and risk management company to
manage a portion of the Company's natural gas transportation and storage
capacity. That contract remains in effect.
The Company is involved in certain legal actions and claims arising in the
normal course of business. The Company is also involved in certain legal and
administrative proceedings before various governmental agencies concerning
rates. In the opinion of management, the ultimate disposition of these
proceedings will not have a material effect on the consolidated financial
position of the Company.
Certain assets and liabilities of the Company are accounted for in accordance
with Statement of Financial Accounting Standards ("SFAS") No. 71, which, among
other matters, provides standards for regulated enterprises for the deferral of
costs that will be recovered through future rate increases. If the Company were
required to terminate the application of these standards to its regulated
operations, all such deferred amounts would be recognized in the income
statement at that time. This would result in a charge to earnings, net of
applicable income taxes, which could be material.
4. RECENT AUTHORITATIVE PRONOUNCEMENTS ON FINANCIAL REPORTING AND ACCOUNTING
On June 30, 2001, the FASB issued SFAS Nos. 142 and 143. SFAS No. 142, "Goodwill
and Other Intangible Assets," eliminates the amortization of goodwill and other
acquired intangible assets with indefinite economic useful lives. SFAS No. 142
requires an annual impairment test of goodwill and other intangible assets that
are not subject to amortization. SFAS No. 142 is effective for fiscal years
beginning after December 15, 2001; however, amortization of goodwill for
acquisitions completed after June 30, 2001 was prohibited. This pronouncement
was adopted in the current quarter. See Note 5 to the Consolidated Financial
Statements for a description of its impact on the financial statements and
additional disclosures required by the pronouncement.
SFAS No. 143, "Accounting for Asset Retirement Obligations," provides guidance
on the accounting for obligations associated with the retirement of long-lived
assets. SFAS No. 143 requires a liability to be recognized in the financial
statements for retirement obligations meeting specific criteria. Measurement of
the initial obligation is to approximate fair value with an equivalent amount
recorded as an increase in the value of the capitalized asset. The asset will be
depreciable in accordance with normal depreciation policy and the liability will
be increased, with a charge to the income statement, until the obligation is
settled. SFAS No. 143 is effective for fiscal years beginning after June 15,
2002. The potential impact of adopting SFAS No. 143 has not yet been determined.
SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets,"
replaces SFAS No. 121. The statement develops one accounting model for
long-lived assets to be disposed of by sale and addresses significant
implementation issues. SFAS No. 144 was adopted in the current quarter, as
required. Its adoption did not have a material impact on the Company's financial
position or results of operations.
5. GOODWILL AND OTHER INTANGIBLE ASSETS
The Company has adopted SFAS No. 142 in the first quarter of 2002. Application
of the non-amortization provisions resulted in $34,000 of additional income
($0.006 per share), after tax, for the first quarter of 2002 compared to 2001.
The Company performed a test for goodwill impairment, using the two-step process
prescribed in SFAS No. 142. The first step was a screen for potential
impairment, using January 1, 2002 as the measurement date. The second step was a
measurement of the amount of the goodwill determined to be impaired. The results
of the tests indicate that the goodwill associated with the Company's water
business, which is included in the reportable segment entitled "Other," has been
impaired and that the amount of the impairment loss is $3.2 million. This has
been recorded in the first quarter as the cumulative effect of a change in
accounting principle. The fair value of the water business was determined using
several methods, including discounted cash flow projections and market
valuations for recent purchase and sales of similar businesses. These were
weighted based on their expected probability. The previous test for impairment
of goodwill, prescribed under SFAS No. 121, looked at undiscounted cash flows.
The determination that the goodwill associated with the Company's water business
was impaired was the result of the more stringent tests required by the new
pronouncement. The performance of the Company's water unit in Michigan is the
primary cause of the impairment.
The change in the carrying value of goodwill for the quarter ended March 31,
2002 is as follows:
WATER
BUSINESSES PROPANE TOTAL
------------ -------- ------------
Balance at January 1, 2002 $ 4,869,068 $674,451 $ 5,543,519
Impairment charge. . . . . (3,200,000) 0 (3,200,000)
- --------------------------- ------------ -------- ------------
Balance at March 31, 2002. $ 1,669,068 $674,451 $ 2,343,519
- --------------------------- ------------ -------- ------------
The impact of the non-amortization provision of SFAS No. 142 was as follows:
- -----------------------------------------------------------------------------
BASIC DILUTED
NET EARNINGS EARNINGS
FOR THE THREE MONTHS ENDED MARCH 31, 2001 INCOME PER SHARE PER SHARE
- -----------------------------------------------------------------------------
Net Income . . . . . . . . . . . . . . . $5,365,469 $ 1.01 $ 0.98
Amortization of goodwill, after tax. . . 33,844 0.01 0.00
- ----------------------------------------- ---------- ---------- ----------
Net Income, exclusive of amortization. . $5,399,313 $ 1.02 $ 0.98
- ----------------------------------------- ---------- ---------- ----------
Intangible assets subject to amortization are as follows:
MARCH 31, 2002 DECEMBER 31, 2001
-------------------------- -------------------------
Gross Gross
Carrying Accumulated Carrying Accumulated
Amount Amortization Amount Amortization
---------- -------------- ---------- -------------
Customer Lists . . . . $1,111,651 $ 108,852 $1,111,651 $ 82,141
Non-compete agreements 1,000,000 169,917 1,000,000 140,417
Acquisition costs. . . 379,541 91,429 379,541 87,870
- ----------------------- ---------- -------------- ---------- -------------
Total. . . . . . . . . $2,491,192 $ 370,198 $2,491,192 $ 310,428
- ----------------------- ---------- -------------- ---------- -------------
Amortization of intangible assets was $60,000 for the three months ended March
31, 2002. For the year ended December 31, 2001, amortization of intangibles,
excluding goodwill, was $132,000. The estimated annual amortization of
intangibles for the next five years is: $230,000 for 2002; $224,000 for 2003;
$224,000 for 2004; $213,000 for 2005; and $213,000 for 2006.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
BUSINESS DESCRIPTION
Chesapeake Utilities Corporation (the "Company") is a diversified utility
company engaged in natural gas distribution and transmission, propane
distribution and marketing, advanced information services and other related
businesses.
The Company's strategy is to grow earnings from a stable utility foundation by
investing in related businesses and services that provide opportunities for
higher, unregulated returns. This growth strategy includes acquisitions and
investments in unregulated businesses as well as the continued investment and
expansion of the Company's utility operations that provide the stable base of
earnings. The Company continually reevaluates its investments to ensure that
they are consistent with its strategy and the goal of enhancing shareholder
value. The Company's unregulated businesses and services currently include
propane distribution and marketing, advanced information services and water
conditioning and treatment. By investing in these related business and services,
the Company has created opportunities to earn higher returns than those
typically earned by a traditional utility.
FINANCIAL POSITION, LIQUIDITY AND CAPITAL RESOURCES
The Company's capital requirements reflect the capital-intensive nature of its
business and are principally attributable to the construction program and the
retirement of outstanding debt. The Company relies on cash generated by
operations and short-term borrowing to meet normal working capital requirements
and to temporarily finance capital expenditures. During the first three months
of 2002, net cash provided by operating activities, net cash used by investing
activities and net cash used by financing activities were approximately $14.6
million, $2.7 million and. $12.5 million, respectively. Cash provided by
operations was up $5.7 million in the current quarter compared to the first
quarter of 2001. The cash flow increased due to a reduction in working capital
requirements associated with lower energy prices. The first quarter of 2001
required the use of funds to reduce the outstanding payables balance. In 2002,
the underrecovered purchased gas cost balance was reduced by $2.8 million,
generating positive cash flow.
Based upon the Company's current level of short-term borrowing and the
anticipated cash requirements in 2002, the Company has engaged a placement agent
and is in the process of filing for regulatory approval to issue $30 million of
long-term debt. The placement is expected to be completed and the funds
available by the end of October 2002. The funds will be used to refinance
short-term borrowing and fund capital expenditures.
The Board of Directors has authorized the Company to borrow up to $55.0 million
of short-term debt from various banks and trust companies. As of March 31, 2002,
Chesapeake had three unsecured bank lines of credit with two financial
institutions, totaling $65.0 million, for short-term cash needs to meet seasonal
working capital requirements and to temporarily fund portions of its capital
expenditures. One of the bank lines is committed. The other two lines are
subject to the banks' availability of funds. In the first quarter, cash provided
by operations and cash on hand was adequate to fund capital expenditures and the
reduction in short-term debt outstanding. At March 31, 2002, the debt
outstanding under these lines was $31.6 million.
During the three-month periods ended March 31, 2002 and 2001, capital
expenditures were approximately $2.7 million and $4.6 million, respectively.
Chesapeake has budgeted $16.8 million for capital expenditures during 2002. This
amount includes $11.8 million for natural gas distribution and transmission,
$2.3 million for propane distribution and marketing, $200,000 for advanced
information services and $2.5 million for other operations. The natural gas
distribution and transmission expenditures are for expansion and improvement of
facilities. The propane expenditures are to support customer growth and for the
replacement of equipment. The advanced information services expenditures are for
computer hardware, software and related equipment. Expenditures for other
operations include expenditures to support customer growth and replace equipment
for water operations and general plant, computer software and hardware.
Financing for the 2002 capital expenditure program is expected to be provided
from short-term borrowing, cash provided by operating activities and the
expected issuance of long-term debt. The capital expenditure program is subject
to continuous review and modification. Actual capital requirements may vary from
the above estimates due to a number of factors including acquisition
opportunities, changing economic conditions, customer growth in existing areas,
regulation, availability of capital and new growth opportunities.
The Company has budgeted $846,000 for capital expenditures in 2002 related to
environmental remediation projects, and expects to make additional expenditures
in future years, a portion of which may need to be financed through external
sources. Management does not expect any such expenditures or financing to have a
material adverse effect on the financial position or capital resources of the
Company (see Note 3 to the Consolidated Financial Statements).
As of March 31, 2002, common equity represented 59.8 percent of total
capitalization, compared to 58.0 percent as of December 31, 2001. Combining
short-term financing with total capitalization, the equity component would have
been 45.8 percent and 41.8 percent, respectively. The Company remains committed
to maintaining a sound capital structure and strong credit ratings in order to
provide the financial flexibility needed to access the capital markets when
required. This commitment, along with adequate and timely rate relief for the
Company's regulated operations, is intended to ensure that the Company will be
able to attract capital from outside sources at a reasonable cost.
Interest expense for the first three months of 2002 decreased approximately
$201,000, or 14%, over the same period in 2001. The decrease was due primarily
to a reduction in the average interest rate for short-term borrowing from
6.17%for the first quarter of 2001 to 2.36% for the same period in 2002. A
reduction in the average long-term debt balance of $2.5 million due to scheduled
repayments also contributed to this reduction. These factors were partially
offset by an increase in the average short-term debt balance from $24.4 million
in 2001 to $37.7 million in 2002.
RESULTS OF OPERATIONS FOR THE QUARTER ENDED MARCH 31, 2002
CONSOLIDATED OVERVIEW
The Company recognized net income before cumulative effect of change in
accounting principle of $4.9 million, or $0.90 per share, for the first quarter
of 2002, a decrease of $486,000, or $0.11 per share, compared to the
corresponding period in 2001. As indicated in the following table, the decline
in income is primarily attributable to lower profitability of propane and the
advanced information services segments, as well as increased cost to add a
corporate infrastructure to the water business, partially offset by lower taxes
and interest expenses.
Chesapeake adopted Financial Accounting Standards Board ("FASB") Statement of
Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets,"
in the first quarter of 2002. As a result of the change in the goodwill
impairment testing methods prescribed by SFAS No. 142, a non-cash charge for
goodwill impairment of $1.9 million, after tax, was recorded as the cumulative
effect of a change in accounting principle. The charge was necessitated
primarily by the performance of the Michigan water business. After giving effect
to this charge, earnings per share for the first quarter were $0.55. In
accordance with the pronouncement, Chesapeake also ceased regular amortization
of goodwill. In 2001, amortization of goodwill amounted to $142,000 per year,
after tax, or approximately $0.026 per share. The Company's remaining goodwill
balance was $2.3 million as of March 31, 2002.
The Company is continuing the implementation of its water business strategy.
Management changes have been implemented during the last six months, which are
designed to improve the performance of the water business. The investments in
the water business are a part of Chesapeake's strategy to diversify its earnings
into unregulated, non-weather sensitive businesses, thereby providing
opportunities for the Company to achieve higher earnings and earnings growth.
The impact of the change in accounting principle is discussed further in Note 5
to the Consolidated Financial Statements.
- ------------------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED MARCH 31, 2002 2001 CHANGE
- ------------------------------------------------------------------------------------------------
Pre-tax Operating Income (Loss)
Natural Gas Distribution & Transmission. . . . . . $ 6,355,270 $ 6,267,995 $ 87,275
Propane. . . . . . . . . . . . . . . . . . . . . . 2,778,555 3,695,473 (916,918)
Advanced Information Services. . . . . . . . . . . (72,016) 103,613 (175,629)
Other & Eliminations . . . . . . . . . . . . . . . (115,456) (31,343) (84,113)
- ----------------------------------------------------- ------------ ------------ -------------
Pre-tax Operating Income . . . . . . . . . . . . . . 8,946,353 10,035,738 (1,089,385)
Operating Income Taxes . . . . . . . . . . . . . . . 3,039,429 3,369,407 (329,978)
Interest . . . . . . . . . . . . . . . . . . . . . . 1,234,496 1,435,734 (201,238)
Non-Operating Income, net. . . . . . . . . . . . . . 211,050 134,872 76,178
- ----------------------------------------------------- ------------ ------------ -------------
Net Income before cumulative effect of
change in accounting principle . . . . . . . . . . . 4,883,478 5,365,469 (481,991)
Cumulative effect of change in accounting principle. (1,916,000) 0 (1,916,000)
- ----------------------------------------------------- ------------ ------------ -------------
Net Income . . . . . . . . . . . . . . . . . . . . . $ 2,967,478 $ 5,365,469 $ (2,397,991)
===================================================== ============ ============ =============
NATURAL GAS DISTRIBUTION AND TRANSMISSION
The natural gas distribution and transmission segment earned pre-tax operating
income of $6.36 million for the first quarter of 2002 compared to $6.27 million
for the corresponding period last year, an increase of $87,000.
- ------------------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED MARCH 31, 2002 2001 CHANGE
- ------------------------------------------------------------------------------------------------
Revenue. . . . . . . . . . . . . . . . . . . . . . . $31,788,059 $44,240,049 $(12,451,990)
Cost of gas. . . . . . . . . . . . . . . . . . . . . 18,902,773 31,674,622 (12,771,849)
- ----------------------------------------------------- ------------ ------------ -------------
Gross margin . . . . . . . . . . . . . . . . . . . . 12,885,286 12,565,427 319,859
Operations & maintenance . . . . . . . . . . . . . . 4,180,231 4,111,494 68,737
Depreciation & amortization. . . . . . . . . . . . . 1,631,584 1,479,368 152,216
Other taxes. . . . . . . . . . . . . . . . . . . . . 718,201 706,570 11,631
- ----------------------------------------------------- ------------ ------------ -------------
Pre-tax operating expenses . . . . . . . . . . . . . 6,530,016 6,297,432 232,584
- ----------------------------------------------------- ------------ ------------ -------------
Total Pre-tax Operating Income . . . . . . . . . . . $ 6,355,270 $ 6,267,995 $ 87,275
===================================================== ============ ============ =============
Revenues and cost of gas decreased due to lower natural gas commodity costs for
the first quarter of 2002 compared to 2001. Commodity cost changes are passed on
to the ratepayers through a Gas Cost Recovery ("GSR") or Purchased Gas Cost
("PGA") adjustment in all jurisdictions; therefore, they have no impact on the
Company's profitability. Revenues and cost of gas were also down because the
Florida division went "open access" for all non-residential customers in 2001.
As a result, some customers switched from sales service, where they purchase the
commodity and transportation from the Company, to transportation only.
Gross margins increased $320,000 over the same period in 2001 due to increases
in the margins for Florida and the transmission operations. Florida experienced
an increase in transportation volumes of 36%. Transmission margins were up due
to the completion of a major system expansion in November of 2001. Margins in
Delaware and Maryland were adversely impacted by temperatures that were 18%
warmer than 2001. Management estimates that the warmer weather reduced margins
by $888,000 compared to 2001 when weather was colder than normal. If the
temperatures had been normal, management estimates that margins would have been
$497,000 higher. This decline was partially offset by customer growth of 5.0%
and a rate increase in Delaware. The margin increases were partially offset by
higher operating expenses, primarily depreciation. The increase in depreciation
reflects completion of recent capital projects that increased the transmission
capacity by 25% and various expansion projects in Florida.
PROPANE
For the first quarter of 2002, the propane segment contributed pre-tax operating
income of $2.8 million compared to $3.7 million for the first quarter of 2001.
Gross margin decreased $1.5 million, but was partially offset by reductions in
operating expenses of $632,000.
- ------------------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED MARCH 31, 2002 2001 CHANGE
- ------------------------------------------------------------------------------------------------
Revenue. . . . . . . . . . . . . . . . . . . . . . . $30,919,500 $84,595,907 $(53,676,407)
Cost of sales. . . . . . . . . . . . . . . . . . . . 24,564,513 76,691,822 (52,127,309)
- ----------------------------------------------------- ------------ ------------ -------------
Gross margin . . . . . . . . . . . . . . . . . . . . 6,354,987 7,904,085 (1,549,098)
Operations & maintenance . . . . . . . . . . . . . . 2,934,776 3,598,616 (663,840)
Depreciation & amortization. . . . . . . . . . . . . 385,749 386,823 (1,074)
Other taxes. . . . . . . . . . . . . . . . . . . . . 255,907 223,173 32,734
- ----------------------------------------------------- ------------ ------------ -------------
Pre-tax operating expenses . . . . . . . . . . . . . 3,576,432 4,208,612 (632,180)
- ----------------------------------------------------- ------------ ------------ -------------
Total Pre-tax Operating Income . . . . . . . . . . . $ 2,778,555 $ 3,695,473 $ (916,918)
===================================================== ============ ============ =============
Both the revenues and cost of sales declined significantly for the propane
segment. Propane wholesale marketing accounted for $46.4 million of the revenue
decrease and $45.8 million of the cost of sales decrease. The drop primarily
reflects the decrease in the wholesale prices for propane from the first quarter
of 2001 to the first quarter of 2002. Additionally, the volume of activity was
also down, due to the lower price volatility in 2002. Propane distribution
revenues and costs were also lower by $8.3 million and $7.4 million,
respectively due to the drop in propane commodity prices. Commodity cost
changes, both increases and decreases are generally passed on to the
distribution customers contingent upon competitive market conditions.
The Delmarva distribution operations experienced a drop of $1.0 million in gross
margin. Volumes sold for the first quarter were down 22.6%. Volumes were
negatively impacted by temperatures that were 18% warmer than 2001, increased
competition and lower sales to the poultry industry. Management estimates that
$500,000 in additional margin would have been earned of the temperatures had
been normal. The reduction in sales to poultry customers resulted in a drop in
margins of $150,000 compared to 2001. A decrease in operating expenses of
$525,000 partially offset the decline in margins. Cost containment efforts that
began in April 2001 remain in effect and have reduced customer accounting and
sales and marketing costs. Other costs, such as delivery expenses, decreased due
to the lower volumes sold. The Florida propane start-ups increased their pre-tax
operating income by $37,000 for the first quarter.
Propane wholesale marketing margins declined by $572,000 and were partially
offset by a reduction of $146,000 in operating expenses. The 2001 results
reflected increased opportunities due to the extreme price volatility in the
propane wholesale market. The same level of price fluctuations have not been
experienced in 2002. The 2002 results reflect increased margins of approximately
$650,000 that resulted from a bankrupt vendor defaulting on supply contracts
during the first quarter of 2002. The supply was replaced by purchasing from
different vendors at a lower cost than the original contract. Although the
propane wholesale marketing business has not been as profitable as in 2001, it
is still performing above the earnings targets established by the Company.
ADVANCED INFORMATION SERVICES
The advanced information services business experienced a pre-tax operating loss
of $72,000 for the first quarter of 2002 compared to income of $104,000 for the
first quarter of last year. The decrease is the result of decreased revenues
partially offset by decreased operating expenses.
- ------------------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED MARCH 31, 2002 2001 CHANGE
- ------------------------------------------------------------------------------------------------
Revenue. . . . . . . . . . . . . . . . . . . . . . . $ 3,059,256 $ 3,490,786 $ (431,530)
Cost of sales. . . . . . . . . . . . . . . . . . . . 1,618,812 1,767,615 (148,803)
- ----------------------------------------------------- ------------ ------------ -------------
Gross margin . . . . . . . . . . . . . . . . . . . . 1,440,444 1,723,171 (282,727)
Operations & maintenance . . . . . . . . . . . . . . 1,277,601 1,398,056 (120,455)
Depreciation & amortization. . . . . . . . . . . . . 56,370 62,272 (5,902)
Other taxes. . . . . . . . . . . . . . . . . . . . . 178,489 159,230 19,259
- ----------------------------------------------------- ------------ ------------ -------------
Pre-tax operating expenses . . . . . . . . . . . . . 1,512,460 1,619,558 (107,098)
- ----------------------------------------------------- ------------ ------------ -------------
Total Pre-tax Operating (Loss) Income. . . . . . . . $ (72,016) $ 103,613 $ (175,629)
===================================================== ============ ============ =============
This segment was adversely affected by the nation's economic slowdown as
discretionary consulting projects have been postponed or cancelled.
Additionally, training revenues have declined significantly due to a reluctance
on the part of students to travel in the aftermath of September 11.
OTHER OPERATIONS
Other operations experienced a pre-tax operating loss of $115,000 for the first
quarter of 2002 compared to a loss of $31,000 for the first quarter of last
year. The results for 2002 include the operations of five water businesses that
were purchased after the first quarter of 2001.
- ------------------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED MARCH 31, 2002 2001 CHANGE
- ------------------------------------------------------------------------------------------------
Revenue. . . . . . . . . . . . . . . . . . . . . . . $ 2,774,144 $ 1,712,743 $ 1,061,401
Cost of sales. . . . . . . . . . . . . . . . . . . . 1,124,885 748,563 376,322
- ----------------------------------------------------- ------------ ------------ -------------
Gross margin . . . . . . . . . . . . . . . . . . . . 1,649,259 964,180 685,079
Operations & maintenance . . . . . . . . . . . . . . 1,391,673 708,620 683,053
Depreciation & amortization. . . . . . . . . . . . . 252,646 198,916 53,730
Other taxes. . . . . . . . . . . . . . . . . . . . . 120,396 87,987 32,409
- ----------------------------------------------------- ------------ ------------ -------------
Pre-tax operating expenses . . . . . . . . . . . . . 1,764,715 995,523 769,192
- ----------------------------------------------------- ------------ ------------ -------------
Total Pre-tax Operating Loss . . . . . . . . . . . . $ (115,456) $ (31,343) $ (84,113)
===================================================== ============ ============ =============
The increases in all categories reflect the addition of new water businesses.
Pre-tax operating income dropped $84,000 due to increased expenses associated
with building a corporate infrastructure and developing and implementing uniform
operating controls and procedures for the group. There have also been some
relocations and additions of operating locations for the businesses.
OPERATING INCOME TAXES
Operating income taxes were lower due to the decrease in operating income for
the current quarter.
INTEREST EXPENSE
Interest expense for the first three months of 2002 decreased approximately
$201,000, or 14%, over the same period in 2001. The decrease was due primarily
to a reduction in the average interest rate for short-term borrowing from
6.17%for the first quarter of 2001 to 2.36% for the same period in 2002. A
reduction in the average long-term debt balance of $2.5 million due to scheduled
repayments also contributed to this reduction. These factors were partially
offset by an increase in the average short-term debt balance from $24.4 million
in 2001 to $37.7 million in 2002.
ENVIRONMENTAL MATTERS
The Company continues to work with federal and state environmental agencies to
assess the environmental impact and explore options for corrective action at
three former gas manufacturing plant sites (see Note 3 to the Consolidated
Financial Statements). The Company believes that future costs associated with
these sites will be recoverable in rates or through sharing arrangements with,
or contributions by, other responsible parties. The Maryland Department of the
Environment ("MDE") submitted a letter to Chesapeake and two other parties
requesting that the parties enter into an Administrative Consent Order for
cleanup of contamination at the Todd Seafood property located in Cambridge,
Maryland. The outcome of this matter cannot be determined at this time. See Note
3 to the Consolidated Financial Statements for further information.
OTHER MATTERS
REGULATORY MATTERS
The Company's natural gas distribution operations are subject to regulation by
the Delaware, Maryland and Florida Public Service Commissions, while the natural
gas transmission operation is subject to regulation by the Federal Energy
Regulatory Commission ("FERC").
On August 2, 2001, the Delaware Division filed a general rate increase
application. Interim rates, subject to refund went into effect on October 1,
2001. A settlement agreement was approved in April 2002 by the Delaware Public
Service Commission that should result in an increase in rates of approximately
$380,000 per year.
On October 31, 2001, Eastern Shore, the Company's natural gas transmission
subsidiary, filed a rate change with the FERC pursuant to the requirements of
Article XII of the Stipulation and Agreement dated August 1, 1997. Eastern
Shore's filing proposed a change in base rates for firm transportation services.
On November 30, 2001, the Commission issued an Order, which accepted and
suspended the effectiveness of the rates until May 1, 2002 subject to refund and
the outcome of a hearing. A pre-hearing conference was held on December 18, 2001
and the hearing was scheduled for September 24, 2002. Discovery related to the
rate proceeding began in January 2002 with FERC Staff data requests. The outcome
of the proceedings is uncertain.
The Florida Division filed tariff revisions on March 29, 2002 to complete the
unbundling process by requiring all customers, including residential, to migrate
to transportation service and authorize the Florida Division to exit the
merchant function. Transportation services are currently available to all
non-residential customers. The Florida Public Service Commission has requested
that the Company hold customer meetings to allow for an opportunity for comments
by our customers. These meetings are scheduled for June 25 and 26 at four
locations in our service territory. At this time, the outcome of the petition
cannot be determined.
COMPETITION
The Company's natural gas operations compete with other forms of energy
including electricity, oil and propane. The principal competitive factors are
price, and to a lesser extent, accessibility. The Company's natural gas
distribution operations have several large volume industrial customers that have
the capacity to use fuel oil as an alternative to natural gas. When oil prices
decline, these interruptible customers convert to oil to satisfy their fuel
requirements. Lower levels in interruptible sales occur when oil prices are
lower relative to the price of natural gas. Oil prices, as well as the prices of
electricity and other fuels are subject to fluctuation for a variety of reasons;
therefore, future competitive conditions are not predictable. To address this
uncertainty, the Company uses flexible pricing arrangements on both the supply
and sales side of its business to maximize sales volumes. As a result of the
transmission business' conversion to open access, this business has shifted from
providing competitive sales service to providing transportation and contract
storage services.
The Company's natural gas distribution operations located in Maryland, Delaware
and Florida began offering transportation services to certain industrial
customers during 1998, 1997 and 1994, respectively. In 2001, the Florida
operation extended transportation service to commercial customers. With
transportation services now available on the Company's distribution systems, the
Company is competing with third party suppliers to sell gas to industrial
customers. The Company's competitors include the interstate transmission company
if the distribution customer is located close enough to the transmission
company's pipeline to make a connection economically feasible. The customers at
risk are usually large volume commercial and industrial customers with the
financial resources and capability to bypass the distribution operations in this
manner. In certain situations, the distribution operations may adjust services
and rates for these customers to retain their business. The Company expects to
continue to expand the availability of transportation services to additional
classes of distribution customers in the future. The Company established a
natural gas brokering and supply operation in Florida in 1994 to compete for
customers eligible for transportation services.
The Company's propane distribution operations compete with several other propane
distributors in their service territories, primarily on the basis of service and
price. Competitors include several large national propane distribution
companies, as well as an increasing number of local suppliers. Some of these
competitors have pricing strategies designed to acquire market share.
The Company's advanced information services segment faces competition from a
number of competitors, many of which have greater resources available to them
than those of the Company. This segment competes on the basis of technological
expertise, reputation and price.
The water businesses face competition from a variety of national and local
suppliers of water conditioning and treatment services and bottled water.
INFLATION
Inflation affects the cost of labor, products and services required for
operation, maintenance and capital improvements. While the impact of inflation
has remained low in recent years, natural gas and propane prices are subject to
rapid fluctuations. Fluctuations in natural gas prices are passed on to
customers through the gas cost recovery mechanism in the Company's tariffs. To
help cope with the effects of inflation on its capital investments and returns,
the Company seeks rate relief from regulatory commissions for regulated
operations while monitoring the returns of its unregulated business operations.
To compensate for fluctuations in propane gas prices, the Company adjusts its
propane selling prices to the extent allowed by the market.
CAUTIONARY STATEMENT
Chesapeake has made statements in this report that are considered to be
forward-looking statements. These statements are not matters of historical fact.
Sometimes they contain words such as "believes," "expects," "intends," "plans,"
"will," or "may," and other similar words of a predictive nature. These
statements relate to matters such as customer growth, changes in revenues or
margins, capital expenditures, environmental remediation costs, regulatory
approvals, market risks associated with the Company's propane marketing
operation, competition and other matters. It is important to understand that
these forward-looking statements are not guarantees, but are subject to certain
risks and uncertainties and other important factors that could cause actual
results to differ materially from those in the forward-looking statements. These
factors include, among other things:
- - the temperature sensitivity of the natural gas and propane businesses;
- - the wholesale prices of natural gas and propane and market movements in
these prices;
- - the effects of competition on the Company's unregulated and regulated
businesses;
- - the effect of changes in federal, state or local regulatory requirements,
including deregulation;
- - the ability of the Company's new and planned facilities and acquisitions
to generate expected revenues; and
- - the Company's ability to obtain the rate relief and cost recovery
requested from utility regulators and the timing of the requested regulatory
actions.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk represents the potential loss arising from adverse changes in market
rates and prices. The Company's long-term debt consists of first mortgage bonds,
senior notes and convertible debentures with fixed interest rates, none of which
was entered into for trading purposes. The carrying value of this long-term debt
at March 31, 2002 was $50.1 million, with a fair value of $54.7 million, based
mainly on current market prices or discounted cash flows using current rates for
similar issues with similar terms and remaining maturities. The Company is
exposed to changes in interest rates due to the use of fixed rate long-term debt
to finance the business. Management continually monitors fluctuations in
interest rates and debt markets to assess the benefits of changing the mix of
long and short-term debt or refinancing existing debt.
The Company's propane distribution business is exposed to market risk as a
result of propane storage activities and entering into fixed price contracts for
supply. The Company can store up to approximately 4 million gallons of propane
during the winter season to meet its customers' peak requirements and to serve
metered customers. Decreases in the wholesale price of propane may cause the
value of stored propane to decline.
The Company's propane marketing operation is a party to natural gas liquids
("NGL") forward contracts, primarily propane contracts, with various third
parties. These contracts require that the propane marketing operation purchase
or sell NGL at a fixed price at fixed future dates. At expiration, the contracts
are settled by the delivery of NGL to the Company or the counter party. The
propane wholesale marketing operation also enters into futures contracts that
are traded on the New York Mercantile Exchange. In certain cases, the futures
contracts are settled by the payment of a net amount equal to the difference
between the current market price of the futures contract and the original
contract price.
The forward and futures contracts are entered into for trading and wholesale
marketing purposes. The propane marketing business is subject to commodity price
risk on its open positions to the extent that market prices for NGL deviate from
fixed contract settlement prices. Market risk associated with the trading of
futures and forward contracts are monitored daily for compliance with the
Company's Risk Management Policy, which includes volumetric limits for open
positions. To manage exposures to changing market prices, open positions are
marked up or down to market prices and reviewed by oversight officials on a
daily basis. Additionally, the Risk Management Committee reviews periodic
reports on market and credit risk, approves any exceptions to the Risk
Management Policy (within limits established by the Board of Directors) and
authorizes the use of any new types of contracts. Quantitative information on
forward and futures contracts at March 31, 2002 is presented in the following
table. All of the contracts mature within twelve months.
- ------------------------------------------------------------------
QUANTITY ESTIMATED WEIGHTED AVERAGE
AT MARCH 31, 2002 IN GALLONS MARKET PRICES CONTRACT PRICES
- ------------------------------------------------------------------
FORWARD CONTRACTS
Sale. . . . . . . 7,946,400 $0.4050 - $0.4200 $ 0.3645
Purchase. . . . . 5,418,000 $0.4050 - $0.4200 $ 0.3895
FUTURES CONTRACTS
Sale. . . . . . . 210,000 $0.4050 - $0.4200 $ 0.3985
Purchase. . . . . 1,092,000 $0.4050 - $0.4200 $ 0.3439
- ------------------------------------------------------------------
<FN>
Estimated market prices and weighted average contract
prices are in dollars per gallon.
</FN>
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Note 3 to the Consolidated Financial Statements
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Chesapeake Utilities Corporation
/s/ Michael P. McMasters
- ---------------------------
Michael P. McMasters
Vice President, Treasurer and Chief Financial Officer
Date: May 15, 2002