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 June 30, 1995 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number 1-7471 (LOGO) THE NARRAGANSETT ELECTRIC COMPANY (Exact name of registrant as specified in charter) Rhode Island 05-0187805 (State or other (I.R.S. Employer jurisdiction of Identification No.) incorporation or organization) 280 Melrose Street, Providence, R.I. 02901 (Address of principal executive offices) Registrant's telephone number, including area code (401-784-7000) 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 $50 per share, authorized and outstanding: 1,132,487 shares at June 30, 1995. PART I FINANCIAL INFORMATION Item 1. Financial Statements ---------------------------- THE NARRAGANSETT ELECTRIC COMPANY Statements of Income (Loss) Periods Ended June 30 (Unaudited) Quarter Six Months -------- ---------- 1995 1994 1995 1994 ---- ---- ---- ---- (In Thousands) Operating revenue $116,426 $103,800 $241,446 $229,261 -------- -------- -------- -------- Operating expenses: Purchased electric energy, principally from New England Power Company, an affiliate71,713 65,370 144,515 143,577 Other operation 17,649 17,355 33,918 33,328 Maintenance 2,383 2,828 5,052 6,227 Depreciation 7,506 8,655 15,013 13,330 Taxes, other than federal income taxes 9,219 8,530 18,886 18,439 Federal income taxes 655 (1,652) 4,116 1,239 -------- -------- -------- -------- Total operating expenses 109,125 101,086 221,500 216,140 -------- -------- -------- -------- Operating income 7,301 2,714 19,946 13,121 Other income: Allowance for equity funds used during construction 219 340 428 618 Other income (expense) - net (145) (265) (466) (1,052) -------- -------- -------- -------- Operating and other income 7,375 2,789 19,908 12,687 -------- -------- -------- -------- Interest: Interest on long-term debt 4,088 3,489 8,070 6,814 Other interest 561 674 1,662 1,228 Allowance for borrowed funds used during construction - credit (332) (361) (648) (656) -------- -------- -------- -------- Total interest 4,317 3,802 9,084 7,386 -------- -------- -------- -------- Net income (loss) $ 3,058 $ (1,013) $ 10,824 $ 5,301 ======== ======== ======== ======== Statements of Retained Earnings Retained earnings at beginning of period$ 98,220 $ 86,871 $ 91,556 $ 81,659 Net income (loss) 3,058 (1,013) 10,824 5,301 Dividends declared on cumulative preferred stock (536) (536) (1,072) (1,072) Dividends declared on common stock (3,397) (567) (3,963) (1,133) -------- -------- -------- -------- Retained earnings at end of period $ 97,345 $ 84,755 $ 97,345 $ 84,755 ======== ======== ======== ======== 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. THE NARRAGANSETT ELECTRIC COMPANY Statements of Income Twelve Months Ended June 30 (Unaudited) 1995 1994 ---- ---- (In Thousands) Operating revenue $493,854 $480,613 -------- -------- Operating expenses: Purchased electric energy, principally from New England Power Company, an affiliate 301,616 306,474 Other operation 73,672 71,070 Maintenance 11,106 11,584 Depreciation 26,496 21,900 Taxes, other than federal income taxes 36,265 36,031 Federal income taxes 7,760 4,025 -------- -------- Total operating expenses 456,915 451,084 -------- -------- Operating income 36,939 29,529 Other income: Allowance for equity funds used during construction 838 1,005 Other income (expense) - net (270) (646) -------- -------- Operating and other income 37,507 29,888 -------- -------- Interest: Interest on long-term debt 15,590 13,336 Other interest 3,331 2,325 Allowance for borrowed funds used during construction - credit (1,526) (1,054) -------- -------- Total interest 17,395 14,607 -------- -------- Net income $ 20,112 $ 15,281 ======== ======== Statements of Retained Earnings Retained earnings at beginning of period $ 84,755 $ 74,326 Net income 20,112 15,281 Dividends declared on cumulative preferred stock (2,143) (2,226) Dividends declared on common stock (5,379) (2,265) Premium on redemption of preferred stock (361) -------- -------- Retained earnings at end of period $ 97,345 $ 84,755 ======== ======== 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. THE NARRAGANSETT ELECTRIC COMPANY Balance Sheets (Unaudited) June 30, December 31, ASSETS 1995 1994 ------ ---- ---- (In Thousands) Utility plant, at original cost $640,456 $617,498 Less accumulated provisions for depreciation 168,083 161,557 -------- -------- 472,373 455,941 Construction work in progress 44,472 35,974 -------- -------- Net utility plant 516,845 491,915 -------- -------- Current assets: Cash 1,106 713 Accounts receivable: From sales of electric energy 55,407 51,278 Other (including $4,871,000 and $9,306,000 from affiliates) 13,063 17,953 Less reserves for doubtful accounts 5,440 4,472 -------- -------- 63,030 64,759 Unbilled revenues 12,200 13,100 Fuel, materials and supplies, at average cost 6,448 5,170 Prepaid and other current assets 16,007 13,993 -------- -------- Total current assets 98,791 97,735 -------- -------- Deferred charges and other assets 57,204 57,727 -------- -------- $672,840 $647,377 ======== ======== CAPITALIZATION AND LIABILITIES ------------------------------ Capitalization: Common stock, par value $50 per share, authorized and outstanding 1,132,487 shares $ 56,624 $ 56,624 Premiums on preferred stocks 170 170 Other paid-in capital 60,000 60,000 Retained earnings 97,345 91,556 -------- -------- Total common equity 214,139 208,350 Cumulative preferred stock 36,500 36,500 Long-term debt 203,827 188,862 -------- -------- Total capitalization 454,466 433,712 -------- -------- Current liabilities: Short-term debt (including $17,750,000 to affiliates in 1995) 27,850 29,800 Accounts payable (including $44,518,000 and $47,900,000 to affiliates) 50,453 56,139 Accrued liabilities: Taxes 711 143 Interest 6,018 5,615 Other accrued expenses 23,288 25,346 Customer deposits 5,396 5,261 Dividends payable 3,933 819 -------- -------- Total current liabilities 117,649 123,123 -------- -------- Deferred federal income taxes 73,509 70,253 Unamortized investment tax credits 8,267 8,518 Other reserves and deferred credits 18,949 11,771 -------- -------- $672,840 $647,377 ======== ======== The accompanying notes are an integral part of these financial statements. THE NARRAGANSETT ELECTRIC COMPANY Statements of Cash Flows Six Months Ended June 30 (Unaudited) 1995 1994 ---- ---- (In Thousands) Operating Activities: Net income $ 10,824 $ 5,301 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 15,013 13,330 Deferred federal income taxes and investment tax credit, net 1,793 (2,599) Amortization of unbilled revenues (4,104) Allowance for funds used during construction (1,076) (1,274) Decrease (increase) in accounts receivable, net and unbilled revenues 2,629 5,824 Decrease (increase) in fuel, materials, and supplies (1,278) (2,609) Decrease (increase) in prepaid and other current assets (2,014) 1,455 Increase (decrease) in accounts payable (5,686) 1,904 Increase (decrease) in other current liabilities 3,152 5,885 Other, net 8,880 1,929 -------- -------- Net cash provided by operating activities $ 28,133 $ 29,146 -------- -------- Investing Activities: Plant expenditures, excluding allowance for funds used during construction $(38,868) $(40,079) -------- -------- Net cash used in investing activities $(38,868) $(40,079) -------- -------- Financing Activities: Dividends paid on common stock $ (850) $ (1,133) Dividends paid on preferred stock (1,072) (1,072) Long-term debt - issues 15,000 18,000 Changes in short-term debt (1,950) (4,275) -------- -------- Net cash provided by financing activities $ 11,128 $ 11,520 -------- -------- Net increase in cash and cash equivalents $ 393 $ 587 Cash and cash equivalents at beginning of period 713 838 -------- -------- Cash and cash equivalents at end of period $ 1,106 $ 1,425 ======== ======== Supplementary Information: Interest paid less amounts capitalized $ 8,389 $ 6,603 -------- -------- Federal income taxes (refunded) paid $ (285) $ 700 -------- -------- The accompanying notes are an integral part of these financial statements. Note A ------ A 1986 Rhode Island Supreme Court decision held that the Rhode Island Public Utilities Commission's (RIPUC) rate-making powers include the authority to order refunds of amounts earned in excess of an allowed return. As a result, the RIPUC monitors the Company's earnings on a regular basis. Note B - 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. The electric utility industry typically utilizes and/or generates in its operations a range of potentially hazardous products and by-products. New England Electric System (NEES) subsidiaries currently have in place an environmental audit 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 U.S. Environmental Protection Agency or the Massachusetts Department of Environmental Protection for two sites (one of which is located in Massachusetts) at which hazardous waste is alleged to have been disposed. The Company is currently aware of other sites, and may in the future become aware of additional sites, that it may be held responsible for remediating. Gas was manufactured from coal in Rhode Island in the past. The Company is aware of five sites on which gas was manufactured or manufactured gas was stored that were owned either by the Company or by its predecessor companies. It is not known to what extent the Company would be held liable for hazardous wastes, if any, left at these manufactured gas locations. 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. A preliminary review by a consultant hired by the NEES companies of the potential cost of investigating and, if necessary, remediating Note B - Hazardous Waste - Continued ------------------------ Rhode Island manufactured gas sites resulted in costs per site ranging from less than $1 million to $8 million. An informal survey of other utilities conducted on behalf of NEES and its subsidiaries indicated costs in a similar range. Where appropriate, the Company intends to seek recovery from its insurers and from other PRPs, but it is uncertain whether and to what extent such efforts would be successful. The Company believes that hazardous waste liabilities for all sites of which it is aware will not be material to its financial position. Note C - New Accounting Standard -------------------------------- In March 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of (FAS 121), effective for fiscal year 1996. This standard clarifies when and how to recognize an impairment of long- lived assets. In addition, FAS 121 requires that all regulatory assets, which must have a high probability of recovery to be initially established, must continue to meet that high probability standard to avoid being written off. However, if written off, a regulatory asset can be restored if it again has a high probability of recovery. The impact of this standard will be driven by the facts and circumstances that exist when the standard is adopted and thereafter. Note D ------ In the opinion of the Company, these 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 1994 Annual Report. Item 2. Management's Discussion and Analysis of Financial --------------------------------------------------------- Condition and Results of Operations ----------------------------------- This section contains management's assessment of The Narragansett Electric Company's 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 1994 Annual Report on Form 10-K. Earnings -------- Net income for the second quarter and first six months of 1995 increased $4 million and $6 million, respectively, from the corresponding periods in 1994. These increases in income reflect the recovery that commenced in 1995 of the Company's investment in new transmission facilities which went into service in September 1994 and the recognition of unbilled revenues over a 21 month period in accordance with a 1994 rate agreement. These increases were partially offset by a decrease in kilowatthour (KWH) sales in the first quarter of 1995 (see Operating Revenue section). Rate Activity ------------- On March 1, 1995, the Company filed a request with the Rhode Island Public Utilities Commission (RIPUC) to increase its base rates by $30.5 million. In this filing, the Company proposed a $3 million discount for manufacturers which would have been recoverable from other customers. In connection with the Rhode Island Governor's veto of legislation that would have allowed certain customers to buy power from alternative suppliers, the Company has modified its proposal by providing a two year rate discount to manufacturers amounting to $2 million per year, which will not be recovered from customers (see Competitive Conditions section). A decision on the Company's filing will be issued by December 1, 1995. In June 1995, the RIPUC opened a proceeding to reassess whether fuel adjustment and purchased power cost adjustment (PPCA) mechanisms should be continued after 1995 or whether such costs should be included in base rates. These adjustment mechanisms currently allow the Company to pass through the costs of fuel and purchased power and do not require the Company to take risk regarding recovery of such costs. The RIPUC has not yet scheduled hearings in this proceeding. In February 1995, the Federal Energy Regulatory Commission (FERC) approved a rate agreement, effective in January 1995, for the Company's affiliated power supplier, New England Power Company (NEP). This rate agreement, among other things, increased the credits the Company receives from NEP for the costs of owning and operating its generation and transmission facilities by $14 million on an annual basis. The Company supplies all of the output of its generating facilities to NEP. The increase in the credits reflects the Company's 10 percent investment in the Manchester Street generating station, which is expected to enter commercial operation before the end of 1995, and the transmission facilities associated with the station, which were placed in service in September 1994. Operating Revenue ----------------- The following table summarizes the changes in operating revenue: Increase (Decrease) in Operating Revenue Second Quarter Six Months -------------- ------------ 1995 vs 1994 1995 vs 1994 -------------- ------------ (In Millions) Sales billed to ultimate customers $ 1 $(2) Seasonal change in unbilled revenues 1 (1) Unbilled revenues recognized under rate agreement 2 4 Fuel recovery 7 8 Other 2 3 --- --- $13 $12 === === KWH sales billed to ultimate customers decreased by 1 percent for the six months ending June 30, 1995. This reduction in KWH sales reflects a 3 percent decrease in the first quarter of 1995, primarily in the residential sector, due to unusually mild winter weather conditions when heating degree days were approximately 12 percent below normal. This decrease was partially offset by a 1 percent increase in KWH sales in the second quarter of 1995, primarily in the commercial and industrial sectors. The amount shown for unbilled revenues recognized under rate agreement reflects the recognition of $14 million over a 21 month period to end December 31, 1995 in accordance with the Company's 1994 rate agreement. The amount applicable to the second quarter of 1994 was not recorded until the third quarter of 1994 when the rate agreement was approved. For a discussion of fuel recovery see the fuel costs discussion in the Operating Expenses section. Operating Expenses ------------------ The following table summarizes the changes in operating expenses discussed below: Increase (Decrease) in Operating Expenses Second Quarter Six Months -------------- ------------ 1995 vs 1994 1995 vs 1994 ------------- ------------ (In Millions) Purchased electric energy: Fuel costs $ 7 $ 8 Integrated facilities credits from NEP (1) (7) Other operation and maintenance (1) Depreciation (1) 2 Taxes 3 3 --- --- $ 8 $ 5 === === The increase in fuel costs from NEP in the second quarter and six months reflects increased short-term purchases and alternate energy purchases which flow through NEP's fuel clause. This was the result of decreased generation from NEP's nuclear power suppliers, decreased hydro production due to low water levels, and overhauls of NEP's thermal generating facilities. The Company owns a 10 percent share of the Manchester Street Station and also owns the entire seven mile underground transmission line associated with the facility as well as other transmission facilities in Rhode Island. The Company's share of the electricity generated by this plant is made available to NEP which owns the remaining 90 percent of the station. The Company receives a credit on its purchased power bill from NEP reflecting rate recovery of its investment in the station and the transmission line, and for its fuel costs and other generation and transmission costs. The increase in the integrated facilities credits from NEP shown in the table above is primarily due to the recovery of the Company's investment in this new transmission line which was placed in service in September 1994, as well as increased credits for dismantlement costs being incurred on the Company's previously retired South Street generating station. The fluctuations in depreciation expense are primarily due to fluctuations in the level of dismantlement costs for the previously retired South Street generating station. The increase in taxes is primarily due to increased income. Interest Expense ----------------- The increase in interest expense is due to increased long-term debt balances and higher interest rates in the first six months of 1995. Competitive Conditions ---------------------- The electric utility business is being subjected to rapidly increasing competitive pressures, stemming from a combination of trends, including surplus generating capacity, increasing electric rates, improved technologies, increasing demand for customer choice, and new regulations and legislation intended to foster competition. See the Company's Annual Report on Form 10-K for the year ended December 31, 1994. The state of Rhode Island has been considering various proposals for allowing electric customers greater choice over their electricity supplier. The RIPUC convened a task force of utilities, commercial and industrial customers, and other interested parties to prepare a report on restructuring the industry. In this proceeding, the Company has filed with the RIPUC a set of interdependent principles for industry restructuring. These principles, which were agreed to by groups representing environmental protection advocates, governmental agencies, non- utility generators, investor-owned utilities, and large and small customer interests, include provisions for increased customer choice while allowing utilities the opportunity to recover the cost of their past commitments, as well as provisions for protecting residential customers, encouraging renewable resources and energy conservation, and honoring contracts with independent power producers. The parties agreeing to the principles suggested to the RIPUC that they be permitted a six month period for discussions and negotiations leading to the development of detailed, company- specific plans. The RIPUC is expected to issue a decision this summer. In July 1995, the Governor of Rhode Island vetoed two bills that would have allowed certain industrial customers to buy power from alternative suppliers, rather than through the local electric utility. The Rhode Island Legislature may still override the vetoes and it has indicated that it will consider alternative legislation in September 1995. Narragansett cannot predict whether any such legislation will be enacted. Because the Company believed that the proposed legislation would result in piecemeal deregulation that would not be fair to customers or shareholders and would circumvent the comprehensive proceedings mentioned above, the Company urged the Governor to exercise his veto. The Company committed that, if the measures were not enacted into law, the Company would provide a two year rate discount to manufacturing customers (see Rate Activity section). In addition, the Company committed, if the measure were not enacted, to submit by July 1, 1996, a specific and detailed proposal to the RIPUC addressing the issues associated with providing open access to the Company's distribution system for its large commercial and industrial customers. Among other things, that filing would address the proper means for recovering past costs incurred to serve exiting customers through a compensatory access charge. If the charges are approved by the RIPUC, the appropriate access tariffs would then be filed with the FERC. In March 1995, the FERC issued a notice of proposed rule-making in which it stated that recovery in rates of legitimate and verifiable stranded costs from departing customers is the appropriate method for recovery of costs stranded as the result of wholesale competition. Under the FERC policy proposal, costs stranded as a result of retail competition would be subject to state commission review if the state commission has the necessary statutory authority, and subject to FERC review if the state commission does not have such authority. A final decision is expected in mid-1996. Electric utility rates have historically 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. Financial Accounting Standard No. 71, Accounting for the Effects of Certain Types of Regulation (FAS 71), requires regulated entities, in appropriate circumstances, to establish regulatory assets and liabilities, and thereby defer the income statement impact of certain costs that are expected to be recovered in future rates. The Company believes that its operations currently meet the criteria established in FAS 71. However, the effects of regulatory and/or legislative initiatives could, in the near future, cause all or a portion of the Company's operations to cease meeting the criteria of FAS 71. In that event, the application of FAS 71 to such operations would be discontinued and a non-cash write-off of previously established regulatory assets and liabilities related to such operations would be required. At June 30, 1995, the Company had pre-tax regulatory assets (net of regulatory liabilities) of approximately $50 million. In addition, if the Company's revenues are insufficient to recover its costs, a write-down of plant assets could be required pursuant to Financial Accounting Standard No. 121, Accounting for the Impairment of Long-Lived Assets and for Long- Lived Assets to Be Disposed Of (FAS 121). This standard, effective for fiscal year 1996, clarifies when and how to recognize an impairment of long-lived assets. For further discussion of FAS 121 see Note C. Utility Plant Expenditures and Financings ----------------------------------------- Cash expenditures for utility plant totaled $39 million in the first six months of 1995, including $8 million related to the Company's 10 percent share of the Manchester Street Station repowering project in Providence, Rhode Island. The repowering of the Manchester Street generating station, scheduled to commence commercial operation in late 1995, is estimated to cost approximately $510 million, excluding transmission facilities. The funds necessary for utility plant expenditures were primarily provided by net cash from operating activities, after the payment of dividends, and from proceeds of long-term debt issues. During the first six months of 1995 the Company issued $15 million of bonds at interest rates ranging from 7.75 to 7.81 percent. The Company plans to issue an additional $10 million of long-term debt during 1995. At June 30, 1995, the Company had $28 million of short-term debt outstanding of which $10 million represents commercial paper borrowings. The Company currently has lines of credit with banks totaling $41 million. There were no outstanding borrowings under these lines of credit at June 30, 1995. For the twelve-month period ending June 30, 1995, the ratio of earnings to fixed charges was 2.45. PART II. OTHER INFORMATION Item 1. Legal Proceedings -------------------------- Information concerning the Company's request to increase rates filed with the Rhode Island Public Utilities Commission, 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 4. Submission of Matters to a Vote of Security-Holders ------------------------------------------------------------ On June 9, 1995, a Special Meeting of Stockholders was held. The following actions were taken by the unanimous vote of the 1,132,487 shares having general voting rights represented at the meeting: A new series of first mortgage bonds was authorized. Regulatory filings and the execution of documents in connection with the new series were authorized. The issuance of $50 million of the new first mortgage bonds was authorized. Item 6. Exhibits and Reports on Form 8-K ----------------------------------------- The Company is filing the following revised exhibit for incorporation by reference into its registration statements on Form S-3, Commission File Nos. 33-49455, 33-50015, and 33-61131: 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 June 30, 1995 to be signed on its behalf by the undersigned thereunto duly authorized. THE NARRAGANSETT ELECTRIC COMPANY s/ Howard W. McDowell Howard W. McDowell Controller, Authorized Officer, and Principal Accounting Officer Date: August 10, 1995