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, 1999 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number 0-5464 (LOGO) MASSACHUSETTS ELECTRIC COMPANY (Exact name of registrant as specified in charter) MASSACHUSETTS 04-1988940 (State or other (I.R.S. Employer jurisdiction of Identification No.) incorporation or organization) 25 Research Drive, Westborough, Massachusetts 01582 (Address of principal executive offices) Registrant's telephone number, including area code (508-389-2000) 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 $25 per share, authorized and outstanding: 2,398,111 shares at September 30, 1999. PART I FINANCIAL INFORMATION Item 1. Financial Statements - ---------------------------- MASSACHUSETTS ELECTRIC COMPANY Statements of Income Periods Ended September 30 (Unaudited) Quarter Nine Months ------- ----------- 1999 1998 1999 1998 ---- ---- ---- ---- (In Thousands) Operating revenue $353,732 $380,409 $1,021,948 $1,139,012 -------- -------- ---------- ---------- Operating expenses: Purchased electric energy: Non-affiliates 144,140 42,647 420,147 42,821 New England Power Company, an affiliate - 95,920 - 465,237 Contract termination charges from New England Power Company 60,342 100,026 171,145 241,800 Other operation 73,202 74,818 227,786 201,816 Maintenance 10,530 7,867 25,753 25,215 Depreciation 16,613 16,171 49,838 46,865 Taxes, other than income taxes 8,795 13,444 27,064 30,382 Income taxes 12,276 9,166 28,648 23,195 -------- -------- ---------- ---------- Total operating expenses 325,898 360,059 950,381 1,077,331 -------- -------- ---------- ---------- Operating income 27,834 20,350 71,567 61,681 Other income (expense), net 2,537 (91) (19) (3,418) -------- -------- ---------- ---------- Operating and other income 30,371 20,259 71,548 58,263 -------- -------- ---------- ---------- Interest: Interest on long-term debt 6,718 6,673 20,428 20,214 Other interest 5,063 1,848 8,692 5,179 Allowance for borrowed funds used during construction (163) (182) (537) (473) -------- -------- ---------- ---------- Total interest 11,618 8,339 28,583 24,920 -------- -------- ---------- ---------- Net income $ 18,753 $ 11,920 $ 42,965 $ 33,343 ======== ======== ========== ========== Statements of Retained Earnings (In Thousands) Retained earnings at beginning of period $172,487 $196,918 $208,537 $201,156 Net income 18,753 11,920 42,965 33,343 Dividends declared on cumulative preferred stock (155) (240) (464) (720) Dividends declared on common stock - (11,990) (59,953) (37,171) Premium on redemption of preferred stock - (29) - (29) -------- -------- -------- -------- Retained earnings at end of period $191,085 $196,579 $191,085 $196,579 ======== ======== ======== ======== The accompanying notes are an integral part of these financial statements. Per share data is not relevant because the Company's common stock is wholly owned by New England Electric System. MASSACHUSETTS ELECTRIC COMPANY Statements of Income Twelve Months Ended September 30 (Unaudited) 1999 1998 ---- ---- (In Thousands) Operating revenue $1,373,353 $1,583,047 ---------- ---------- Operating expenses: Purchased electric energy: Non-affiliates 552,416 42,882 New England Power Company, an affiliate (217) 747,935 Contract termination charges from New England Power Company 229,975 241,800 Other operation 318,479 269,488 Maintenance 34,060 37,632 Depreciation 64,673 58,845 Taxes, other than income taxes 34,665 36,991 Income taxes 41,772 45,661 ---------- ---------- Total operating expenses 1,275,823 1,481,234 ---------- ---------- Operating income 97,530 101,813 Other income (expense), net (111) (2,649) ---------- ---------- Operating and other income 97,419 99,164 ---------- ---------- Interest: Interest on long-term debt 27,287 27,051 Other interest 10,881 5,632 Allowance for borrowed funds used during construction (757) (590) ---------- ---------- Total interest 37,411 32,093 ---------- ---------- Net income $ 60,008 $ 67,071 ========== ========== Statements of Retained Earnings (In Thousands) Retained earnings at beginning of period $196,579 $176,445 Net income 60,008 67,071 Dividends declared on cumulative preferred stock (617) (1,205) Dividends declared on common stock (64,749) (41,967) Premium on redemption of preferred stock (136) (3,765) -------- -------- Retained earnings at end of period $191,085 $196,579 ======== ======== The accompanying notes are an integral part of these financial statements. Per share data is not relevant because the Company's common stock is wholly owned by New England Electric System. MASSACHUSETTS ELECTRIC COMPANY Balance Sheets (Unaudited) September 30, December 31, ASSETS 1999 1998 - ------ ---- ---- (In Thousands) Utility plant, at original cost $1,665,238 $1,626,569 Less accumulated provisions for depreciation 533,333 499,975 ---------- ---------- 1,131,905 1,126,594 Construction work in progress 21,216 16,575 ---------- ---------- Net utility plant 1,153,121 1,143,169 ---------- ---------- Current assets: Cash 7,490 6,994 Accounts receivable: From electric energy services 150,285 188,956 Other (including $14,028,000 and $6,629,000 from affiliates) 14,641 7,358 Less reserves for doubtful accounts 13,537 12,450 ---------- ---------- 151,389 183,864 Unbilled revenues 55,643 56,133 Materials and supplies, at average cost 8,895 9,281 Prepaid and other current assets 1,691 13,886 ---------- ---------- Total current assets 225,108 270,158 ---------- ---------- Deferred charges and other assets 34,699 41,235 ---------- ---------- $1,412,928 $1,454,562 ========== ========== CAPITALIZATION AND LIABILITIES - ------------------------------ Capitalization: Common stock, par value $25 per share, authorized and outstanding 2,398,111 shares $ 59,953 $ 59,953 Premium on capital stock 45,942 45,942 Other paid-in capital 193,498 193,498 Retained earnings 191,085 208,537 Unrealized gain on securities, net 259 273 ---------- ---------- Total common equity 490,737 508,203 Cumulative preferred stock 10,674 10,674 Long-term debt 332,458 353,329 ---------- ---------- Total capitalization 833,869 872,206 ---------- ---------- Current liabilities: Long-term debt due within one year 21,000 15,000 Short-term debt to affiliates 54,700 80,725 Accounts payable (including $55,393,000 and $34,506,000 to affiliates) 149,666 127,621 Accrued liabilities: Taxes 11,028 - Interest 7,853 8,509 Other accrued expenses 61,554 40,626 Customer deposits 3,638 4,456 Dividends payable 155 4,951 ---------- ---------- Total current liabilities 309,594 281,888 ---------- ---------- Deferred federal and state income taxes 177,531 200,965 Unamortized investment tax credits 13,574 14,377 Other reserves and deferred credits 78,360 85,126 ---------- ---------- $1,412,928 $1,454,562 ========== ========== The accompanying notes are an integral part of these financial statements. MASSACHUSETTS ELECTRIC COMPANY Statements of Cash Flows Nine Months Ended September 30 (Unaudited) 1999 1998 ---- ---- (In Thousands) Operating Activities: Net income $ 42,965 $ 33,343 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 49,838 46,865 Deferred income taxes and investment tax credit, net (22,650) 6,010 Allowance for borrowed funds used during construction (537) (473) Decrease (increase) in accounts receivable, net and unbilled revenues 32,965 (50,308) Decrease (increase) in materials and supplies 386 325 Decrease (increase) in prepaid and other current assets 12,195 7,158 Increase (decrease) in accounts payable 22,045 2,169 Increase (decrease) in other current liabilities 30,482 35,214 Other, net (1,379) 7,755 --------- -------- Net cash provided by operating activities $ 166,310 $ 88,058 --------- -------- Investing Activities: Plant expenditures, excluding allowance for funds used during construction $ (59,236) $(54,805) Other investing activities (340) (3,539) --------- -------- Net cash used in investing activities $ (59,576) $(58,344) --------- -------- Financing Activities: Capital contributions from parent $ - $ 274 Dividends paid on common stock (64,749) (41,967) Dividends paid on preferred stock (464) (720) Long-term debt - issues - 25,000 Long-term debt - retirements (15,000) (30,000) Changes in short-term debt (26,025) 18,250 Premium on reacquisition of preferred stock - (29) --------- -------- Net cash used in financing activities $(106,238) $(29,192) --------- -------- Net increase (decrease) in cash and cash equivalents $ 496 $ 522 Cash and cash equivalents at beginning of period 6,994 6,743 --------- -------- Cash and cash equivalents at end of period $ 7,490 $ 7,265 ========= ======== The accompanying notes are an integral part of these financial statements. MASSACHUSETTS ELECTRIC COMPANY Notes to Unaudited Financial Statements Note A - Hazardous Waste - ------------------------ The Federal Comprehensive Environmental Response, Compensation and Liability Act, more commonly known as the "Superfund" law, imposes strict, joint and several liability, regardless of fault, for remediation of property contaminated with hazardous substances. A number of states, including Massachusetts, have enacted similar laws. The electric utility industry typically utilizes and/or generates in its operations a range of potentially hazardous products and by-products. Massachusetts Electric Company (the Company) currently has in place an internal environmental audit program and an external waste disposal vendor audit and qualification program intended to enhance compliance with existing federal, state, and local requirements regarding the handling of potentially hazardous products and by-products. The Company has been named as a potentially responsible party (PRP) by either the United States Environmental Protection Agency or the Massachusetts Department of Environmental Protection for a number of sites at which hazardous waste is alleged to have been disposed. Private parties have also contacted or initiated legal proceedings against the Company regarding hazardous waste cleanup. The most prevalent types of hazardous waste sites with which the Company has been associated are manufactured gas locations. (Until the early 1970s, New England Electric System (NEES) was a combined electric and gas holding company system.) The Company is aware of approximately 35 such manufactured gas locations in Massachusetts, including some for which the Company has been identified as a PRP. The Company has reported the existence of all manufactured gas locations of which it is aware to state environmental regulatory agencies. The Company is engaged in various phases of investigation and remediation work at 17 of the manufactured gas locations. The Company is currently aware of other possible hazardous waste sites, and may in the future become aware of additional sites, that it may be held responsible for remediating. In 1993, the Massachusetts Department of Public Utilities approved a settlement agreement that provides for rate recovery of remediation costs of former manufactured gas sites and certain other hazardous waste sites located in Massachusetts. Under that agreement, qualified costs related to these sites are paid out of a special fund established on the Company's books. Rate-recoverable contributions of $3 million, adjusted since 1993 for inflation, are added annually to the fund along with interest, lease payments, and any recoveries from insurance carriers and other third parties. At September 30, 1999, the fund had a balance of $49 million. Predicting the potential costs to investigate and remediate hazardous waste sites continues to be difficult. There are also significant uncertainties as to the portion, if any, of the investigation and remediation costs of any particular hazardous waste site that may ultimately be borne by the Company. The NEES companies have recovered amounts from certain insurers, and, where appropriate, the Company intends to seek recovery from other insurers and from other PRPs, but it is uncertain whether, and to what extent, such efforts will be successful. At September 30, 1999, the Company had total reserves for environmental response costs of $47 million which includes reserves established in connection with the Company's hazardous waste fund referred to above. The Company believes that hazardous waste liabilities for all sites of which it is aware, and which are not covered by a rate agreement, are not material to its financial position. Note B - Derivative Instruments - ------------------------------- Under the provisions of industry restructuring settlement agreements approved by state and federal regulators implemented on March 1, 1998, the Company is required to offer a default service option on a fully recoverable basis to those customers who, for a variety of reasons, are not purchasing power from a competitive supplier. The Company is required to procure this power supply through competitive bidding. In March 1999, the Company entered into a six month power supply contract with a third party to provide the physical supply of this power at a variable market rate. This contract was replaced with a similar contract upon its expiration in September 1999. In May 1999, the Company entered into an eight month financial contract with another third party to convert this variable rate into a fixed rate for the majority, if not for all, of the physical supply. This contract was entered into to provide price protection for customers and is therefore fully recoverable. Purchases under these contracts related to default service and other services are expected to be less than $7 million per month based on September 1999 service requirements. Note C - ------ In the opinion of the Company, these financial statements reflect all adjustments (which include normal recurring adjustments) necessary for a fair statement of the results of its operations for the periods presented and should be considered in conjunction with the notes to the financial statements in the Company's 1998 Annual Report. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations - ----------------------------------------------------------------- This section contains management's assessment of Massachusetts Electric Company's (the Company) financial condition and the principal factors having an impact on the results of operations. This discussion should be read in conjunction with the Company's financial statements and footnotes and the 1998 Annual Report on Form 10-K. Merger Agreements - ----------------- For a full discussion of New England Electric System's (NEES) merger agreem ents with The National Grid Group plc (National Grid) and Eastern Utilities Associates (EUA), see the Merger Agreements sections of the Company's Form 10-K for 1998 and the Company's 1998 Annual Report. Update of Merger Agreements with National Grid and EUA The NEES/National Grid merger has received approval or clearance from shareholders of both National Grid and NEES, the Federal Trade Commission (FTC), the Committee on Foreign Investment in the United States, the Federal Energy Regulatory Commission (FERC), the Vermont Public Service Board (VPSB), the Connecticut Department of Public Utility Control (CDPUC), and the New Hampshire Public Utilities Commission (NHPUC). On November 3, 1999, the Office of the Consumer Advocate for New Hampshire filed a motion seeking rehearing or reconsideration of the merger approval by the NHPUC with respect to the treatment of the acquisition premium and stranded costs. NEES and National Grid have opposed the motion for rehearing. NEES and National Grid have also filed for merger approval with the Securities and Exchange Commission (SEC), under the Public Utility Holding Company Act of 1935 (1935 Act). In connection with the SEC application, the Massachusetts Department of Telecommunications and Energy (MDTE) and the Rhode Island Public Utilities Commission (RIPUC) certified to the SEC that the merger would not interfere with their authority or ability to protect customers of NEES' distribution subsidiaries in Massachusetts and Rhode Island, respectively. In addition, NEES and National Grid have also filed for merger approval with the Nuclear Regulatory Commission (NRC) to transfer ownership licenses for its minority ownership interests in regional nuclear plants. In July 1999, three subsidiaries of Northeast Utilities (NU) filed a request for hearing with the NRC with respect to financial qualifications and issues of foreign ownership. In October 1999, the NRC issued an order granting the request for hearing and directed NEES, National Grid, and the NU subsidiaries to promptly determine whether the proceeding could be settled without a hearing. In November 1999, NEES, National Grid, and the NU subsidiaries executed an agreement with respect to these issues. As part of this agreement, the NU subsidiaries agreed to withdraw their intervention and request for hearing. Assuming the NRC grants the motion to withdraw, NEES and National Grid anticipate that the remaining required regulatory approvals from the SEC, under the 1935 Act, and the NRC will be obtained in a time frame that will allow the merger to be completed by early 2000. The NEES acquisition of EUA has received approval or clearance from EUA shareholders, the FTC, the CDPUC, and the FERC. NEES and EUA have also made appropriate filings with the SEC, under the 1935 Act, NRC, MDTE, VPSB, and the RIPUC. The acquisition of EUA is expected to be completed by early 2000. Impact of Mergers on Distribution Rates - --------------------------------------- In April 1999, the Company and Eastern Edison Associates (Eastern Edison), a wholly owned subsidiary of EUA, filed a rate consolidation plan with the MDTE, reflecting the acquisition of EUA by NEES and the merger of Eastern Edison into the Company. In the filing, the companies proposed that effective January 1, 2001, Eastern Edison's customers would pay the same delivery rates as customers of the Company. The filing calls for an extension of the Company's distribution rate freeze through December 31, 2002. The freeze would be extended an additional two years upon completion of the NEES/National Grid merger. Industry Restructuring - ---------------------- For a full discussion of industry restructuring activities in Massachusetts, the NEES companies' divestiture of its nonnuclear generating business, stranded cost recovery, and the impact of restructuring on the distribution business, see the "Industry Restructuring" and "Impact of Restructuring on Distribution Business" sections of the Company's Form 10-K for 1998 and the Company's 1998 Annual Report. Regulatory Asset Recovery - ------------------------- Historically, electric utility rates have been based on a utility's costs. As a result, electric utilities are subject to certain accounting standards that are not applicable to other business enterprises in general. Statement of Financial Accounting Standards No. 71, Accounting for the Effects of Certain Types of Regulation (FAS 71), requires regulated entities, in appropriate circumstances, to establish regulatory assets or liabilities, and thereby defer the income statement impact of these charges because they are expected to be included in future customer charges. At September 30, 1999, the Company had net regulatory liabilities of approximately $13 million. Under existing ratemaking practices and provisions of industry restructuring settlement agreements approved by state and federal regulators (Massachusetts Settlement), the Company has the ability to recover through rates its specific costs of providing ongoing distribution services and stranded costs billed to it by New England Power Company (NEP). To date, the Company believes these factors allow it to continue to apply FAS 71. Currently, there is much regulatory and other movement toward establishing performance-based rates. It is possible that the adoption of performance-based rates, future regulatory rules, or other circumstances could cause the application of FAS 71 to be discontinued. Absent the circumstances described in the next paragraph, this discontinuation would result in a noncash write-off of previously established regulatory assets or liabilities. In addition, reserves for depreciation may also have to be increased to comply with unregulated accounting practices. In April 1999, the Company filed a rate plan which, if approved, may cause the application of FAS 71 to be discontinued upon consummation of the NEES/National Grid merger. Because the discontinuation of FAS 71 would be coincident with the completion of the NEES/National Grid merger, the NEES companies believe the appropriate accounting treatment would be that the regulatory assets or liabilities would not be written off but instead reclassified to either an intangible asset account or a goodwill account. Year 2000 Readiness Disclosure - ------------------------------ Over the course of this year, most companies have faced and will continue to face a potentially serious information systems (computer) problem because many software applications and operational programs written in the past may not properly recognize calendar dates associated with the year 2000 (Y2K). This could cause computers to either shut down or lead to incorrect calculations. The NEES companies believe that their mission critical systems used to deliver electricity are ready for date changes associated with Y2K, in accordance with the criteria specified by the North American Electric Reliability Council (NERC). Recognizing that neither the NEES companies nor any other organization can make guarantees about something as complex as Y2K, the NEES companies have also developed and implemented the contingency plans described below (including contingency plans in the event of temporary disruptions of electric service) to address potential problems caused by Y2K. In the event that a short-term disruption in service occurs, NEES does not expect that such a disruption would have a material impact on its financial position or results of operation. During 1996, the NEES companies began the process of identifying the changes required to their computer software and hardware to mitigate Y2K issues. The NEES companies established a Y2K Project team to manage these issues, which consisted of as many as 70 full-time equivalent staff at some points in time, primarily external consultants being overseen by an internal Y2K management team. To facilitate the Y2K Project, NEES entered into contracts with Keane, Inc. and IBM to provide personnel support to the Y2K Project. Through September 30, 1999, the NEES companies have spent approximately $18 million with these vendors, which is included in the cost figures disclosed below. The Y2K Project team reports project progress to a Y2K Executive Oversight Committee each month. The team also makes regular reports to NEES' Board of Directors and its Audit Committee. The NEES companies separated their Y2K Project into four parts as shown on the following page. Substantial Contingency Testing, Completion Documentation, of Critical and Clean Category Specific Example Systems Management - -------- ---------------- ----------- ------------------- Mainframe/Midrange Accounting/Customer Completed Throughout 1999 systems service integrated systems Desktop systems Personal computers/ Completed Throughout 1999 Department software/ Networks Operational/ Dispatching systems/ Completed Throughout 1999 Embedded Transmission and systems Distribution systems/ Telephone systems External issues Electronic Data Completed Throughout 1999 Interchange/Vendor communications The NEES companies used a three-phase approach in coordinating their Y2K Project for system-related issues: (I) Assessment and Inventory, (II) Pilot Testing, and (III) Renovation, Conversion, or Replacement of Application and Operating Software Packages and Testing. Phase I, which was an initial assessment of all systems and devices for potential Y2K defects, was completed in mid-1997. These assessments included, but were not limited to, the review of program code for mainframe and midrange systems, analysis of personal computer hardware and network equipment for desktop systems, reaching consensus with key "data exchange" partners regarding the approach and execution of plans to address Y2K- related issues, and coordination with other New England Power Pool (NEPOOL) member utilities related to operational systems, such as transmission systems. Phase II, which consisted of renovation pilots for a cross-section of systems in order to facilitate the establishment of templates for Phase III work, was completed in late 1997. Phase III, which was completed on June 30, 1999, required the renovation, conversion, or replacement of the remaining applications and operating software packages. Critical systems include major operational and informational systems such as the NEES companies' financial-related and customer information systems. These mission critical systems were first addressed at an individual component level, and then, upon satisfactory completion of that testing, reviewed at an integrated level, during which the Y2K Project team tested for Y2K problems which could be caused by various system interfaces. Additionally, contingency plans have been implemented for mission critical systems, as described below. The overall Y2K Project was designed such that Y2K-related work performed by external consultants was reviewed by NEES employees, and vice-versa. The Y2K Project team management continuously benchmarked its progress against the recommended progress schedule documented by NERC, and has met all recommended schedules, including the issuance of its Year 2000 Readiness Letter to NERC on June 30, 1999. The NEES companies also implemented a formalized communication process with third parties to give and receive information related to their progress in remediating their own Y2K issues, and to communicate the NEES companies' progress in addressing the Y2K issue. These third parties include major customers, suppliers, and significant businesses with which the NEES companies have data links (such as banks). The NEES companies have identified standard offer (transition service) generation service providers, telecommunications companies, and the Independent System Operator-New England (ISO New England) as critical to business operations. The NEES companies have been in contact with all of these parties regarding the progress of their Y2K remediation efforts, and will continue to monitor their ongoing remediation efforts through continued communications. The NEES companies cannot predict the outcome of other companies' remediation efforts. Therefore, contingency plans have been implemented, as described below. The NEES companies believe total costs associated with making the necessary modifications to all centralized and noncentralized systems will be approximately $28 million, including the replacement of approximately one thousand desktop computers. In addition, the NEES companies have spent $7 million (of which approximately $6 million has been capitalized) related to the replacement of the human resources and payroll system, in part due to the Y2K issue. As of September 30, 1999, substantially all Y2K-related costs have been incurred. The NEES companies continually review their cost estimates based upon the overall Y2K Project status, and update these estimates as warranted. The NEES companies developed and implemented Y2K contingency plans to allow for critical information and operating systems to function from January 1, 2000, forward. These plans are intended to address both internal risks as well as potential external risks related to suppliers and customers. Part of the contingency plan implementation for accounting and desktop systems will include taking extensive data back-ups prior to year-end closing. For operational systems, the NEES companies have in place an overall disaster recovery program, which already includes periodic disaster simulation training (for outages due to severe weather, for instance). As part of the Y2K contingency plan implementation, the NEES companies have reviewed their disaster recovery plans and modified them for Y2K-specific issues, such as a potential loss of telecommunication services. The NEES companies conducted contingency plan drills on September 8, and 9, 1999. Interregional and regional contingency plans have been finalized for utility systems throughout the United States. At a regional level, the NEES companies have participated and cooperated with NEPOOL and ISO New England. Overall regional activities, including those of NEPOOL and ISO New England, are being coordinated by the Northeast Power Coordinating Council, whose activities have been incorporated into the interregional coordinating effort by NERC. Drills of these interregional and regional contingency plans were also conducted on September 8 and 9, 1999. Earnings - -------- Net income for the third quarter and first nine months of 1999 increased $7 million and $10 million, respectively, compared with the corresponding periods in 1998. The increase is due primarily to increased kilowatthour (kWh) deliveries and reduced property tax expense, partially offset by increased operation and maintenance expenses on a combined basis. Earnings for the year- to-date period are also positively affected by a $41 million distribution rate increase implemented in March 1998 in accordance with the Massachusetts Settlement, partially offset by increased depreciation expense. Operating Revenue - ----------------- Operating revenue decreased $27 million and $117 million in the third quarter and first nine months of 1999, respectively, compared with the corresponding periods in 1998, reflecting the net rate reductions required in 1998 and 1999 by legislation enacted in Massachusetts in 1997 and the Massachusetts Settlement. Partially offsetting these decreases are increased kWh deliveries of 4.5 percent in both the third quarter and year-to-date period as a result of significantly warmer weather and the effect of a strong economy. The Massachusetts Settlement also put into place fully reconciling rate adjustment mechanisms covering purchased power costs, transmission costs, demand-side management costs, and NEP contract termination charge costs. In the third quarter of 1999, certain corrections were recorded of amounts calculated under these rate adjustment mechanisms which increased revenues by $2 million. Operating Expenses - ------------------ Operating expenses for the third quarter and first nine months of 1999 decreased $34 million and $127 million, respectively, compared with the corresponding periods in 1998, primarily due to reduced purchased electric energy and property tax expense. These decreases are partially offset by increased operation and maintenance expenses on a combined basis, increased depreciation expense, and increased income taxes. The decrease in purchased electric energy for the third quarter and first nine months of 1999 reflects reduced transition access charge billings from NEP, partially offset by increased costs associated with contracts established to meet continuing transition service obligations to customers. In addition, on a year- to-date basis, the decrease in purchased electric energy is also due to the termination of the Company's former all-requirements contract with NEP. The increase in other operation and maintenance expenses is primarily due to increased transmission wheeling costs of $3 million and $24 million for the third quarter and first nine months of 1999, respectively, reflecting increased billings from ISO New England and, for the year-to-date period, the fact that these costs were a component of purchased power expense prior to March 1, 1998. In addition, the increase in other operation and maintenance expenses is due to transition costs incurred in connection with NEES' proposed acquisition of EUA, increased regulatory assessments, and the allocation of additional New England Power Service Company costs after NEP's divestiture of its nonnuclear generating business. For the third quarter of 1999, the increase also reflects increased distribution maintenance costs as a result of severe weather. These increases are partially offset by reduced Y2K-related costs and reduced charge-offs related to uncollectible accounts. The increase in depreciation expense for the first nine months of 1999 is primarily due to the $11 million increase in annual depreciation expense provided for in the Massachusetts Settlement, which went into effect on March 1, 1998, and depreciation expense on new utility plant expenditures. The decrease in property tax expense for the third quarter and year-to-date period reflects the impact of one-time property tax payments made during the third quarter of 1998 to certain municipalities to reflect corrections identified by the Company related to plant valuation amounts used in the calculation of property taxes by those municipalities. The decrease is partially offset by the continuing impact of those revised valuation amounts. Interest Expense and Other Income - --------------------------------- The increase in interest expense and other income for the third quarter and first nine months of 1999 is due principally to increased interest expense and interest income associated with rate adjustment mechanisms, as well as the effect of costs incurred in 1998 in connection with the Massachusetts industry restructuring legislation. For the year-to-date period, the increase in other income also reflects a premium on the reacquisition of debt incurred in 1998. Utility Plant Expenditures and Financing - ---------------------------------------- Cash expenditures for utility plant totaled $59 million for the first nine months of 1999. The funds necessary for utility plant expenditures during the period were provided by net cash from operating activities, after the payment of dividends. In the first nine months of 1999, the Company retired $15 million of mortgage bonds. At September 30, 1999, the Company had $55 million of short-term debt outstanding to affiliates. The Company has received regulatory approval from the SEC, under the 1935 Act, to issue up to $150 million of short-term debt. At September 30, 1999, the Company had lines of credit with banks totaling $55 million which are available to provide liquidity support for commercial paper borrowings and other corporate purposes. There were no borrowings under these lines of credit at September 30, 1999. For the twelve-month period ending September 30, 1999, the ratio of earnings to fixed charges was 3.64. PART II. OTHER INFORMATION Item 1. Legal Proceedings - -------------------------- Information concerning a rate filing by the Company with the Massachusetts Department of Telecommunications and Energy on April 30, 1999, discussed in Part I of this report in Management's Discussion and Analysis of Financial Condition and Results of Operations, is incorporated herein by reference and made a part hereof. Item 6. Exhibits and Reports on Form 8-K - ----------------------------------------- The Company is filing the following revised exhibit for incorporation by reference into its registration statement on Form S-3, Commission File No. 33-59145. 12 Statement re computation of ratios The Company is filing Financial Data Schedules. SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report on Form 10-Q for the quarter ended September 30, 1999 to be signed on its behalf by the undersigned thereunto duly authorized. MASSACHUSETTS ELECTRIC COMPANY s/John G. Cochrane John G. Cochrane, Treasurer, Authorized Officer, and Principal Financial Officer Date: November 10, 1999