Exhibit 99.1
Independent Auditors Report
---------------------------
The Board of Directors
SEMCO Energy Inc.:
We have audited the accompanying combined statements of financial position of
ENSTAR Natural Gas Company (a division of SEMCO Energy Inc.) and Alaska Pipeline
Company (a subsidiary of SEMCO Energy Inc.) as of December 31, 1999 and 1998,
and the related combined statements of income and cash flows for the 2 months
ended December 31, 1999, the 10 months ended October 31, 1999 and the years
ended December 31, 1998 and 1997. These combined financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these combined financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the combined financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the combined financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the combined financial statements referred to above present
fairly, in all material respects, the financial position of ENSTAR Natural Gas
Company (a division of SEMCO Energy Inc.) and Alaska Pipeline Company (a
subsidiary of SEMCO Energy Inc.) as of December 31, 1999 and 1998, and the
results of their operations and their cash flows for the 2 months ended December
31, 1999, the 10 months ended October 31, 1999 and the years ended December 31,
1998 and 1997 in conformity with generally accepted accounting principles.
KPMG LLP
Anchorage, Alaska
January 21, 2000
- 1 -
ENSTAR NATURAL GAS COMPANY
(a division of SEMCO Energy Inc.) and
ALASKA PIPELINE COMPANY
(a subsidiary of SEMCO Energy Inc.)
COMBINED STATEMENTS OF FINANCIAL POSITION
POST SEMCO PRIOR TO SEMCO
ACQUISITION (NOTE 1) ACQUISITION (NOTE 1)
----------------------- ---------------------
DECEMBER 31,
1999 1998
----------------------- ---------------------
ASSETS (Dollars in Thousands)
Current assets:
Cash and cash equivalents . . . . . . . . . . . . . . . . . $ 724 $ 2,246
Accounts receivable - customers and other . . . . . . . . . 15,231 14,981
Accounts receivable - SEMCO Energy, Inc.. . . . . . . . . . 2,363 -
Gas charges recoverable from customers. . . . . . . . . . . - 6,541
Materials and supplies. . . . . . . . . . . . . . . . . . . 3,921 2,881
Deferred income taxes . . . . . . . . . . . . . . . . . . . 884 2,163
Prepaid pension costs . . . . . . . . . . . . . . . . . . . 4,779 -
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . 409 370
----------------------- ---------------------
$ 28,311 $ 29,182
----------------------- ---------------------
Property, plant, and equipment. . . . . . . . . . . . . . . . $ 166,920 $ 254,699
Accumulated depreciation. . . . . . . . . . . . . . . . . . . 1,567 93,991
----------------------- ---------------------
$ 165,353 $ 160,708
----------------------- ---------------------
Goodwill, net of amortization of $560 . . . . . . . . . . . . 133,824 -
Other assets. . . . . . . . . . . . . . . . . . . . . . . . . 3,045 1,134
----------------------- ---------------------
Total assets. . . . . . . . . . . . . . . . . . . . . . . . . $ 330,533 $ 191,024
======================= =====================
LIABILITIES AND CAPITALIZATION
Current liabilities:
Accounts payable. . . . . . . . . . . . . . . . . . . . . . $ 9,171 $ 9,227
Royalties and taxes . . . . . . . . . . . . . . . . . . . . - 9,716
Amounts payable to customers. . . . . . . . . . . . . . . . 3,416 -
Accrued expenses:
Income taxes. . . . . . . . . . . . . . . . . . . . . . . 2,961 1,768
Interest. . . . . . . . . . . . . . . . . . . . . . . . . - 1,957
Other . . . . . . . . . . . . . . . . . . . . . . . . . . 2,978 3,448
Refundable customer advances for construction and deposits. 3,192 2,821
Short-term bank notes payable . . . . . . . . . . . . . . . - 2,700
Current maturities of long-term debt. . . . . . . . . . . . 8,000 7,147
SEMCO Energy, Inc. bridge loan. . . . . . . . . . . . . . . 231,300 -
----------------------- ---------------------
$ 261,018 $ 38,784
----------------------- ---------------------
Deferred credits and other:
Refundable customer advances for construction and deposits. $ 12,573 $ 13,115
Post-retirement medical obligations . . . . . . . . . . . . 2,171 2,446
Deferred income taxes . . . . . . . . . . . . . . . . . . . 393 31,751
Long-term debt. . . . . . . . . . . . . . . . . . . . . . . . 50,700 45,452
Division equity . . . . . . . . . . . . . . . . . . . . . . . 3,678 59,476
----------------------- ---------------------
Total liabilities and capitalization. . . . . . . . . . . . . $ 330,533 $ 191,024
======================= =====================
<FN>
See accompanying notes to combined financial statements.
- 2 -
ENSTAR NATURAL GAS COMPANY
(a division of SEMCO Energy Inc.) and
ALASKA PIPELINE COMPANY
(a subsidiary of SEMCO Energy Inc.)
COMBINED STATEMENTS OF INCOME
POST SEMCO
ACQUISITION (NOTE 1) PRIOR TO SEMCO ACQUISITION (NOTE 1)
--------------------- -------------------------------------------
2 MONTHS ENDED 10 MONTHS ENDED YEARS ENDED DECEMBER 31,
DECEMBER 31, 1999 OCTOBER 31, 1999 1998 1997
- -------------------------------------- --------------------- ---------------- ------- -------
(Dollars in Thousands)
Operating revenues . . . . . . . . . . $ 25,393 $ 76,942 $93,592 $95,719
Operating expenses:
Cost of gas sold . . . . . . . . . . $ 10,841 $ 33,115 $41,232 $43,684
Operations and maintenance . . . . . 3,917 17,480 20,688 21,079
Depreciation and amortization. . . . 2,060 9,154 8,529 8,368
--------------------- ---------------- ------- -------
Total operating expenses . . . . $ 16,818 $ 59,749 $70,449 $73,131
--------------------- ---------------- ------- -------
Operating income . . . . . . . . . . . $ 8,575 $ 17,193 $23,143 $22,588
Other income (expense):
Interest expense . . . . . . . . . . $ (4,225) $ (5,100) $(4,763) $(5,120)
Interest income and other. . . . . . 33 358 559 564
--------------------- ---------------- ------- -------
Total other expense. . . . . . . $ (4,192) $ (4,742) $(4,204) $(4,556)
Income before income taxes . . . . . . 4,383 12,451 18,939 18,032
Income taxes . . . . . . . . . . . . . 1,790 6,211 7,555 7,276
--------------------- ---------------- ------- -------
Net income . . . . . . . . . . . $ 2,593 $ 6,240 $11,384 $10,756
===================== ================ ======= =======
<FN>
See accompanying notes to combined financial statements
- 3 -
ENSTAR NATURAL GAS COMPANY
(a division of SEMCO Energy Inc.) and
ALASKA PIPELINE COMPANY
(a subsidiary of SEMCO Energy Inc.)
COMBINED STATEMENTS OF CASH FLOWS
POST SEMCO
ACQUISITION (NOTE 1) PRIOR TO SEMCO ACQUISITION (NOTE 1)
------------------- -----------------------------------
2 MONTHS ENDED 10 MONTHS ENDED YEARS ENDED DECEMBER 31,
DECEMBER 31, 1999 OCTOBER 31, 1999 1998 1997
------------------- ------------------ --------- ---------
(Dollars in Thousands)
Operating activities:
Net income . . . . . . . . . . . . . . . . . . $ 2,593 $ 6,240 $ 11,384 $ 10,756
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation and amortization. . . . . . . . 2,850 10,329 9,473 9,277
Interest expense on SEMCO Energy, Inc.
bridge loan, net of tax. . . . . . . . . . 1,085 - - -
Deferred income taxes. . . . . . . . . . . . (491) (115) (1,171) (334)
Changes in operating assets and liabilities:
Decrease (increase) in accounts receivable (4,743) 4,493 669 651
Increase in accounts receivable -
SEMCO Energy, Inc. . . . . . . . . . . . (2,363) - - -
Increase in materials
and supplies and other . . . . . . . . . 673 (343) (352) (229)
Increase in non-current assets . . . . . . (3,947) - - -
Decrease (increase) in gas charges
recoverable from customers . . . . . . . 2,156 (1,915) 602 (184)
Increase (decrease) in accounts payable. . (662) 606 (650) (104)
Increase (decrease) in accrued
expenses and other . . . . . . . . . . . 3,449 (2,520) 576 22
------------------ ----------------- --------- ---------
Net cash provided (used) by
operating activities . . . . . . . . . $ 600 $ 16,775 $ 20,531 $ 19,855
------------------ ----------------- --------- ---------
Investing activities:
Capital expenditures . . . . . . . . . . . . . $ (1,098) $ (8,044) $ (9,430) $ (9,518)
------------------ ----------------- --------- ---------
Financing activities:
Debt issuance costs paid to parent . . . . . . $ (2,850) $ - $ - $ -
Proceeds from issuance of
long-term debt and other borrowings. . . . . - 19,700 14,900 6,000
Principal payments on long-term
debt and other borrowings. . . . . . . . . . - (17,061) (14,799) (10,727)
Dividends paid to Parent . . . . . . . . . . . - (9,600) (12,400) (12,000)
Refundable customer advances
for construction and deposits. . . . . . . . 95 (39) 1,021 770
------------------ ----------------- --------- ---------
Net cash provided (used) by
financing activities . . . . . . . . . $ (2,755) $ (7,000) $ (11,278) $ (15,957)
------------------ ----------------- --------- ---------
Increase (decrease) in
cash and cash equivalents. . . . . . . $ (3,253) $ 1,731 $ (177) $ (5,620)
Cash and cash equivalents at
beginning of period. . . . . . . . . . . . . . 3,977 2,246 2,423 8,043
------------------ ----------------- --------- ---------
Cash and cash equivalents at end of period . . . $ 724 $ 3,977 $ 2,246 $ 2,423
================== ================= ========= =========
Supplemental cash flow information:
Interest paid. . . . . . . . . . . . . . . . . $ 1,670 $ 4,479 $ 4,670 $ 5,042
Income taxes paid. . . . . . . . . . . . . . . $ - $ 8,094 $ 8,654 $ 7,378
<FN>
See accompanying notes to combined financial statements.
- 4 -
ENSTAR NATURAL GAS COMPANY
(a division of SEMCO Energy Inc.)
AND ALASKA PIPELINE COMPANY
(a subsidiary of SEMCO Energy Inc.)
NOTES TO THE COMBINED FINANCIAL STATEMENTS
(1) Corporate Structure
--------------------
From January 1, 1997 to March 30, 1999, ENSTAR Natural Gas Company was a
division of Seagull Energy Corporation (Seagull) and Alaska Pipeline Company
(APC) was a subsidiary of Seagull.
Sale of Seagull to Ocean Energy, Inc.
- -------------------------------------------
Effective March 30, 1999, pursuant to the Agreement and Plan of Merger (the
"Merger") dated November 24, 1998, as amended, Ocean Energy, Inc. (Ocean) was
merged with and into Seagull. As a result of the Merger, each outstanding share
of Ocean common stock was exchanged for one share of Seagull common stock, and
as of March 30, 1999, the stockholders of Ocean owned approximately 61.5% of the
outstanding common stock of the merged company with the shareholders of Seagull
owning the remaining 38.5%. The resulting company assumed the name Ocean
Energy, Inc. The Merger was accounted for as a purchase. A portion of the
purchase price, $290,200,000, was allocated to ENSTAR Natural Gas Company and
APC.
The following acquisition adjustments were recorded at March 30, 1999 (dollars
in thousands):
Decrease in carrying value of
property, plant and equipment . . . . $(96,033)
Increase in goodwill . . . . . . . . . 127,521
Decrease in accumulated depreciation. 96,033
Adjustments to other liabilities . . . 6,988
--------
Increase in division equity. . . . . . $134,509
========
Concurrent with the Merger, Ocean acquired senior unsecured notes which had been
issued by APC, Series I, J and K (described in note 5) from the lenders.
Repayment terms remained unchanged. Ocean Energy, Inc. also assumed Seagull's
obligations under the revolving line of credit described in note 5.
SEMCO Energy, Inc. Acquisition
- ---------------------------------
Effective November 1, 1999, ENSTAR Natural Gas Company and APC were acquired by
SEMCO Energy, Inc. (SEMCO). The purchase price was approximately $290,000,000
including a working capital adjustment and the purchase of $58,700,000 of ENSTAR
Natural Gas Company and APC debt held by Ocean, plus the accrued interest
thereon. ENSTAR Natural Gas Company is a division of SEMCO, and APC is a wholly
owned subsidiary of SEMCO. The acquisition has been accounted for as a
purchase. The following acquisition adjustments were recorded at November 1,
1999 (dollars in thousands):
- 5 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
Decrease in carrying value of property,
plant and equipment. . . . . . . . . . $ (4,999)
Increase in goodwill . . . . . . . . . . 4,973
Decrease in accumulated depreciation
and amortization . . . . . . . . . . . 4,999
Debt issuance and other costs. . . . . . 6,568
Adjustments to other liabilities . . . . (1,303)
Elimination of deferred income taxes . . 30,594
Decrease in division equity. . . . . . . 190,468
--------
Increase in bridge loan (note 5) . . . . $231,300
========
The preliminary allocation of the purchase price is subject to adjustment based
upon the results of an independent study being conducted to determine actual
fair values. However, SEMCO believes that the final determination of fair
values will not differ materially from the preliminary determination.
(2) Summary of Significant Accounting Policies
----------------------------------------------
Description of Business
- -------------------------
The combined financial statements include the accounts of ENSTAR Natural Gas
Company (a division of SEMCO Energy Inc.) and APC (a wholly-owned subsidiary of
SEMCO Energy Inc.). APC engages in the intrastate transmission of natural gas in
South-Central Alaska. ENSTAR Natural Gas Company engages in the distribution of
natural gas in Anchorage and other nearby communities.
Basis of Presentation
- -----------------------
The accompanying combined financial statements are presented as if APC were a
wholly owned subsidiary of ENSTAR Natural Gas Company. Intercompany transactions
between ENSTAR Natural Gas Company and APC have been eliminated in combination.
The accompanying financial statements as of December 31, 1999 and 1998 and for
each of the years in the three year period then ended reflect the basis of
accounting established at the date of the acquisitions described in note 1. As
a result, the 1999 financial statements are not comparable to previous periods.
Regulation
- ----------
ENSTAR Natural Gas Company and APC are subject to regulation by Regulatory
Commission of Alaska (RCA) which has jurisdiction over, among other things,
rates, accounting procedures and standards of service. ENSTAR Natural Gas
Company and APC meet the criteria and accordingly, follow the reporting and
accounting requirements of Statement of Financial Accounting Standards No. 71
(SFAS No. 71), Accounting for the Effects of Certain Types of Regulation.
Cash Equivalents
- -----------------
Cash equivalents include all highly liquid investments with a maturity of three
months or less when purchased.
Materials and Supplies
- ------------------------
Materials and supplies are valued at the lower of average cost or market value
(net realizable value).
- 6 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
Property, Plant and Equipment
- --------------------------------
Utility plant is reflected at cost, net of contributions in aid of construction.
Capitalized costs include costs of funds, payroll costs and certain general and
administrative costs. Depreciation of the utility plant and other property is
computed using the straight-line method over their estimated useful lives, which
vary from four to thirty-three years.
Property, plant and equipment facilities are subject to RCA regulation. When
utility properties are disposed of or otherwise retired, the original cost of
the property, plus cost of retirement, less salvage value, is charged to
accumulated depreciation. Maintenance, repairs and renewals are charged to
operations and maintenance expense except that renewals which extend the life of
the property are capitalized.
Goodwill
- --------
Goodwill is being amortized on a straight line basis over 40 years.
Revenue Recognition
- --------------------
Operating revenues are based on rates authorized by the RCA which are applied to
customers' consumption of natural gas. ENSTAR Natural Gas Company records
unbilled revenue at the end of each month. Unbilled revenue included in
customer receivables approximated $6,861,000 and $6,779,000 at December 31, 1999
and 1998, respectively.
Gas Charges Recoverable From Customers (Amounts Payable to Customers)
- -----------------------------------------------------------------------------
Gas charges recoverable from customers include amounts to be billed under an
automatic purchase gas adjustment (PGA) mechanism which is adjusted annually to
reflect changes in the operation's cost of purchased gas based on estimated
costs for the upcoming 12-month period. The PGA may be adjusted quarterly if it
is determined that there are significant variances from the estimates used in
the annual determination. Any difference between actual cost of gas purchased
and the RCA's approved rate adjustment is deferred and included with applicable
carrying charges in the next PGA. Gas charges recoverable from customers
(amounts payable to customers) represent regulatory assets (liabilities)
established in accordance with SFAS No. 71.
Income Taxes
- -------------
ENSTAR Natural Gas Company and APC use the liability method of accounting for
income taxes (notes 3 and 9). Under this method deferred tax assets and
liabilities are recognized for the estimated future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases. Deferred tax
assets and liabilities are measured using enacted tax rates in effect for the
year in which those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a change in tax
rates is recognized as part of the provision for income taxes in the period that
includes the enactment date.
Other Assets
- -------------
Unamortized debt expense and deferred charges are being amortized over the life
of the related debt or charge.
Accounting Estimates
- ---------------------
In preparing the combined financial statements, management is required to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities as of the date
of the balance sheet, and revenue and expenses for the period. Actual results
could differ from those estimates.
- 7 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
(3) Related Party Activities
--------------------------
Management Fees
- ----------------
Seagull and Ocean have provided certain services to ENSTAR Natural Gas Company
and APC pursuant to written management agreements (Management Agreement)
including management, financial reporting, legal, human resources, treasury,
investor relations and administrative services. In consideration for similar
services, ENSTAR Natural Gas Company and APC have also agreed to pay SEMCO the
sum of the direct cost of providing such services and the allocable portion of
SEMCO's general and administrative expenses associated with providing such
services. Fees paid by ENSTAR Natural Gas Company and APC were as follows
(dollars in thousands):
POST SEMCO
ACQUISITION (NOTE 1) PRIOR TO SEMCO ACQUISITION (NOTE 1)
-------------------- -------------------------------------------
2 MONTHS ENDED 10 MONTHS ENDED YEARS ENDED DECEMBER 31,
DECEMBER 31, 1999 OCTOBER 31, 1999 1998 1997
-------------------- ----------------- ------ ------
Seagull/Ocean . . . . . . . . $ - $ 1,604 $1,925 $1,925
SEMCO . . . . . . . . . . . . 501 - - -
Income Taxes
- -------------
Pursuant to Tax Sharing Agreements with Seagull and Ocean, ENSTAR Natural Gas
Company and APC generally pay an amount equal to the amount of income taxes that
would be payable by ENSTAR Natural Gas Company and APC on a stand-alone basis
excluding the effects of historical purchase accounting adjustments. The Tax
Sharing Agreement with SEMCO provides that ENSTAR Natural Gas Company and APC
generally pay an amount equal to the amount of income taxes that would be paid
on a stand-alone basis, including consideration of the purchase accounting
adjustments described in note 1 for the SEMCO acquisition. Amounts paid were as
follows (dollars in thousands):
POST SEMCO
ACQUISITION (NOTE 1) PRIOR TO SEMCO ACQUISITION (NOTE 1)
-------------------- -------------------------------------------
2 MONTHS ENDED 10 MONTHS ENDED YEARS ENDED DECEMBER 31,
DECEMBER 31, 1999 OCTOBER 31, 1999 1998 1997
-------------------- ----------------- ------ ------
Seagull/Ocean . . . . . . . . $ - $ 8,094 $8,654 $7,378
SEMCO . . . . . . . . . . . . - - - -
(4) Property, Plant and Equipment
--------------------------------
A summary of property, plant and equipment at December 31 follows (dollars in
thousands):
COST ANNUAL
------------------ DEPRECIATION
1999 1998 RATE
-------- -------- ------------
Land and buildings . . . $ 9,826 $ 9,819 3%-7%
Gas plant. . . . . . . . 144,305 232,859 3%-8%
General plant. . . . . . 12,358 11,898 10%-25%
Construction in progress 431 123 --
-------- --------
$166,920 $254,699
======== ========
- 8 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
(5) Long-Term Debt
---------------
A summary of long-term debt at December 31 follows (dollars in thousands):
1999 1998
------- -------
APC senior unsecured notes purchased by
SEMCO with final due dates:
8.15% due in 2001. . . . . . . . . . . . . . $12,000 $ -
8.64% due in 2004. . . . . . . . . . . . . . 10,000 -
8.81% due in 2009. . . . . . . . . . . . . . 10,000 -
ENSTAR Natural Gas Company unsecured
$30,000 line of credit from SEMCO, interest
at indexed rate determined on date of advance,
rates ranging from 5.5-6.7%, due in 2003 . . . 26,700 -
APC unsecured industrial development bonds
with final due dates:
7.75%, due in 2003 . . . . . . . . . . . . . - 1,670
8%, due in 2008. . . . . . . . . . . . . . . - 2,600
7.75%, due in 2004 . . . . . . . . . . . . . - 4,090
APC senior unsecured notes with final due dates:
Series I, 8.15% note, due in 2001. . . . . . . - 18,000
Series J, 8.64% note, due in 2004. . . . . . . - 10,000
Series K, 8.81% note, due in 2009. . . . . . . - 10,000
ENSTAR Natural Gas Company unsecured
$30,000 line of credit from Seagull, interest
at indexed rate determined on date of advance
(6.22%), due in 2003 . . . . . . . . . . . . . - 7,000
Other. . . . . . . . . . . . . . . . . . . . . . - 4
------- -------
Total debt . . . . . . . . . . . . . . . . $58,700 $53,364
Less current installments. . . . . . . . . . . . 8,000 7,147
Less unamortized discount. . . . . . . . . . . . - 765
------- -------
Long-term debt . . . . . . . . . . . . . . $50,700 $45,452
======= =======
The aggregate annual installments of debt are as follows (dollars in thousands):
YEAR ENDING
DECEMBER 31 AMOUNT
- ----------- -------
2000. . . . . . . . $ 8,000
2001. . . . . . . . $ 8,000
2002. . . . . . . . $ 2,000
2003. . . . . . . . $28,700
2004. . . . . . . . $ 2,000
Thereafter $10,000
During February 1999, APC's Series I, J and K senior unsecured notes were
acquired by a wholly owned subsidiary of Seagull. These senior unsecured notes
were subsequently acquired by Ocean effective March 30, 1999. The notes were
acquired by SEMCO on November 1, 1999.
During March 1999, APC's unsecured industrial development bonds were paid in
full using proceeds from ENSTAR Natural Gas Company's unsecured line of credit
from Seagull. The notes outstanding under this line of credit were subsequently
acquired by Ocean effective March 30, 1999, and acquired by SEMCO effective
November 1, 1999.
- 9 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
SEMCO obtained a $290,000,000 unsecured bridge loan to finance the ENSTAR
Natural Gas Company and APC acquisition. The bridge loan bears interest at a
rate ranging from 100 to 150 basis points above LIBOR and matures on October 30,
2000. Payments of $56,000,000 will be required on the six and nine month
anniversaries of the funding date (November 1, 1999) if the bridge loan is not
prepaid. Of the $290,000,000 in proceeds, $58,700,000 was used to acquire the
senior unsecured notes and notes payable outstanding under the line of credit
held by Ocean and the remaining amount of $231,300,000 has been recorded in the
accompanying financial statements. Interest expense of $2,700,000 related to
this portion of the bridge loan, and debt issuance costs of $2,850,000 incurred
by SEMCO, have also been reflected in the accompanying financial statements.
Interest expense associated with related parties in 1999 is as follows (dollars
in thousands):
Seagull . . . . . $ 159
Ocean . . . . . . $2,819
SEMCO . . . . . . $3,370
APC has a $10,000,000 unsecured line of credit which expires March 31, 2000. It
provides for interest at the bank's base rate. There were no balances
outstanding at December 31, 1999 or 1998.
At December 31, 1998, the debt capital requirements of ENSTAR Natural Gas
Company were met by loans from APC pursuant to intercompany notes secured by a
mortgage on the properties, rights and franchises (other than certain exempted
properties) of ENSTAR Natural Gas Company. The senior unsecured notes of APC
provided for restrictions on dividends, additional borrowings and purchase
redemptions, or retirements of shares of capital stock, other than in stock of
APC.
(6) Fair Value of Financial Instruments
---------------------------------------
The estimated fair values of the financial instruments included in the combined
financial statements are as follows at December 31 (dollars in thousands):
1999 1998
-------------------- --------------------
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
-------- ---------- -------- ----------
Assets:
Cash and cash equivalents $ 724 $ 724 $ 2,247 $ 2,247
Liabilities:
Customer deposits . . . . $ 1,686 $ 1,351 $ 1,440 $ 1,330
Customer advances for
construction. . . . . . $ 14,079 $ 12,825 $ 14,305 $ 13,375
Debt. . . . . . . . . . . $ 58,703 $ 58,721 $ 53,365 $ 52,629
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate that
value:
- 10 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
Cash and Cash Equivalents - The carrying amount approximates fair value because
of the short maturity of these instruments.
Customer Deposits and Advances for Construction - The fair value of customer
deposits is based on a discounted cash flow analysis utilizing discount rates of
8.50% and 7.75% at December 31, 1999 and 1998, respectively, over the estimated
period of deposit or advance refunding.
Long-term Debt - The fair value of long-term debt is estimated based on the
quoted market price for the same or similar issues.
Fair value estimates are dependent upon subjective assumptions and involve
significant uncertainties resulting in variability in estimates with changes in
assumptions. Also potential taxes and other expenses that would be incurred in
an actual sale or settlement are not reflected in amounts disclosed.
(7) Division Equity
----------------
The sources of changes in division equity are as follows (dollars in thousands):
POST SEMCO
ACQUISITION (NOTE 1) PRIOR TO SEMCO ACQUISITION (NOTE 1)
-------------------- -------------------------------------------
2 MONTHS ENDED 10 MONTHS ENDED YEARS ENDED DECEMBER 31,
DECEMBER 31, 1999 OCTOBER 31, 1999 1998 1997
-------------------- ---------------- -------- --------
Division equity,
beginning of period . . . . . $ 190,468 $ 59,476 $ 62,081 $ 64,738
Ocean/SEMCO acquisition
adjustment (note 1). . . . . (190,468) 134,509 - -
Net earnings. . . . . . . . . . 2,593 6,240 11,384 10,756
Interest on SEMCO bridge
loan, net of tax effect . . . 1,085 - - -
Dividends paid to parent. . . . - (9,600) (12,400) (12,000)
Net equity transactions
with parent . . . . . . . . . - (157) (1,589) (1,413)
--------------------- ---------------- --------- --------
Division equity, end of period. $ 3,678 $ 190,468 $ 59,476 $ 62,081
===================== ================ ========= ========
The acquisition of ENSTAR Natural Gas Company and APC by SEMCO was financed
entirely with a bridge loan as described in note 5. As a result, all division
equity at the date of the acquisition was eliminated.
(8) Employee Benefit Plans
------------------------
Retirement Plans
- -----------------
ENSTAR Natural Gas Company has two defined benefit retirement plans which cover
salaried employees (Salaried Retirement Plan) and classified employees
(Operating and Clerical Units' Plan). Determination of benefits for the
salaried employees is based upon a combination of years of service and final
monthly compensation. Benefits for classified employees are based solely on
years of service. The policy of ENSTAR Natural Gas Company is to fund the
minimum contributions required by applicable regulations. The net pension costs
are included in operations and maintenance expenses.
- 11 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
The following table provides reconciliations of the changes in the plans'
benefit obligations and fair value of assets for the years ended December 31,
1999 and 1998, and statements of the plans' funded status as of December 31
(dollars in thousands):
1999 1998
----------------------- -----------------------
OPERATING OPERATING
SALARIED AND CLERICAL SALARIED AND CLERICAL
PLAN UNITS' PLAN PLAN UNITS' PLAN
-------- ------------ -------- ------------
Reconciliation of benefit obligations:
Benefit obligation at beginning of year . . . . $ 10,008 $ 5,149 $ 9,069 $ 4,554
Service cost. . . . . . . . . . . . . . . . . 310 257 297 238
Interest cost . . . . . . . . . . . . . . . . 666 346 622 311
Actuarial (gain)/loss . . . . . . . . . . . . (1,020) (577) 321 132
Benefit payments. . . . . . . . . . . . . . . (334) (113) (301) (86)
-------- ------------ -------- ------------
Benefit obligation at end of year . . . . . . . $ 9,630 $ 5,062 $ 10,008 $ 5,149
-------- ------------ -------- ------------
Reconciliation of fair value of plan assets:
Fair value of plan assets at beginning of year. $ 10,238 $ 6,474 $ 8,548 $ 5,310
Actual return on plan assets. . . . . . . . . 2,761 1,758 1,991 1,250
Benefit payments. . . . . . . . . . . . . . . (334) (113) (301) (86)
-------- ------------ -------- ------------
Fair value of plan assets at end of year. . . . $ 12,665 $ 8,119 $ 10,238 $ 6,474
-------- ------------ -------- ------------
Funded status:
Funded status at December 31. . . . . . . . . . $ 3,035 $ 3,057 $ 230 $ 1,325
Unrecognized transition obligation (asset). . . - - 281 (56)
Unamortized prior service cost. . . . . . . . . - - 58 11
Unrecognized gain . . . . . . . . . . . . . . . (801) (512) (1,669) (1,061)
-------- ------------ -------- ------------
Prepaid (accrued) pension cost. . . . . . . . . $ 2,234 $ 2,545 $ (1,100) $ 219
======== ============ ======== ============
As a result of the transactions discussed in note 1, an acquisition adjustment
was recorded in 1999 to decrease the pension obligation and create a pension
asset for the excess of plan assets over the projected benefit obligation,
thereby eliminating effective March 30 1999 the previously existing unrecognized
net gain, unrecognized prior service cost and unrecognized transition asset or
obligation.
- 12 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
The following table provides the components of net periodic pension cost for the
plans' for the years ended December 31 (dollars in thousands):
POST SEMCO
ACQUISITION (NOTE 1) PRIOR TO SEMCO ACQUISITION (NOTE 1)
---------------------- ----------------------------------------------------------------------
2 MONTHS ENDED 10 MONTHS ENDED YEARS ENDED DECEMBER 31,
DECEMBER 31, 1999 OCTOBER 31, 1999 1998 1997
---------------------- ---------------------- ---------------------- ----------------------
OPERATING OPERATING OPERATING OPERATING
SALARIED AND CLERICAL SALARIED AND CLERICAL SALARIED AND CLERICAL SALARIED AND CLERICAL
PLAN UNITS' PLAN PLAN UNITS' PLAN PLAN UNITS' PLAN PLAN UNITS' PLAN
-------- ------------ -------- ------------ -------- ------------ -------- ------------
Service cost. . . . . $ 42 $ 35 $ 268 $ 222 $ 297 $ 238 $ 291 $ 223
Interest cost . . . . 118 63 548 283 622 311 582 284
Expected return on
plan assets . . . . (156) (100) (691) (440) (678) (426) (515) (322)
Amortization of
unrecognized gain . - - (25) (12) - - - -
Amortization of
transition (asset). - - 23 (2) 93 (9) 93 (9)
obligation
Amortization of
prior service cost. - - 3 1 10 2 10 2
------- ----------- ------- ----------- ------- ----------- ------- -----------
Net periodic pension
cost (benefit) . . $ 4 $ (2) $ 126 $ 52 $ 344 $ 116 $ 461 $ 178
======= =========== ======= =========== ======= =========== ======= ===========
The assumed weighted average discount rate for both plans was 7.50%, 6.75%, and
7.00% for December 31, 1999, 1998, and 1997, respectively. The rate of increase
in future compensation for the salaried retirement plan used in determining the
projected benefit obligation was 5% for 1999, 1998, and 1997. The expected
long-term rate of return on plan assets for both plans was 9.5% for 1999 and 8%
for 1998 and 1997.
Profit-Sharing Plans
- ---------------------
ENSTAR Natural Gas Company has trusteed profit-sharing plans for salaried
employees and for union employees. Annual contributions to each plan are
determined by Seagull's Board of Directors pursuant to formulae which contain
minimum contribution requirements. Profit-sharing expense approximated
$424,000, $383,000, and $339,000 for 1999, 1998, and 1997, respectively, and is
included in operations and maintenance expense.
Thrift Plan
- ------------
ENSTAR Natural Gas Company has a thrift plan (Thrift Plan) that is a qualified
employee savings plan in accordance with the provisions of Section 401(k) of the
Internal Revenue Code of 1986, as amended. The ENSTAR Natural Gas Company
contributions to the Thrift Plan approximated $396,000, $370,000 and $300,000
for 1999, 1998, and 1997, respectively. The Thrift Plan's costs are included in
operations and maintenance expense.
Postretirement Medical Benefits
- ---------------------------------
ENSTAR Natural Gas Company has a postretirement medical plan which covers all of
its salaried employees. Determination of benefits is based on a combination of
the retiree's age and years of service at retirement.
- 13 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
The following table provides reconciliations of the changes in the plans'
benefit obligations and fair value of assets for the years ended December 31,
1999 and 1998, and statements of the plans' funded status as of December 31
(dollars in thousands):
1999 1998
-------- --------
Reconciliation of benefit obligations:
Benefit obligation at beginning of year. . . . . $ 2,290 $ 2,107
Service cost . . . . . . . . . . . . . . . . . 94 96
Interest cost. . . . . . . . . . . . . . . . . 149 145
Recognized gain (amortization of unrecognized. (336) (37)
gain in 1998)
Benefit payments and other . . . . . . . . . . (35) (21)
-------- --------
Benefit obligation at end of year. . . . . . . . $ 2,162 $ 2,290
-------- --------
Reconciliation of fair value of plan assets:
Fair value of plan assets at beginning of year . $ - $ -
Employer contributions . . . . . . . . . . . . 28 15
Plan participants' contributions . . . . . . . 13 11
Benefit payments . . . . . . . . . . . . . . . (41) (26)
-------- --------
Fair value of plan assets at end of year . . . . $ - $ -
-------- --------
Funded status:
Funded status at December 31 . . . . . . . . . . $(2,162) $(2,290)
Unrecognized gain. . . . . . . . . . . . . . . . (9) (156)
-------- --------
Accrued benefit cost . . . . . . . . . . . . . . $(2,171) $(2,446)
======== ========
As a result of the transactions discussed in note 1, an acquisition adjustment
was recorded in 1999 to decrease the postretirement medical obligation to the
excess of the benefit obligation over plan assets, thereby eliminating effective
March 30, 1999, the previously existing unrecognized net gain. An assumed
weighted average discount rate of 7.50%, 6.75% and 7.00% for December 31, 1999,
1998 and 1997, respectively, was used in the measurement of the benefit
obligation.
The following table provides the components of net periodic benefit cost for the
plans' for the years ended December 31 (dollars in thousands):
POST SEMCO
ACQUISITION (NOTE 1) PRIOR TO SEMCO ACQUISITION (NOTE 1)
-------------------- -------------------------------------------
2 MONTHS ENDED 10 MONTHS ENDED YEARS ENDED DECEMBER 31,
DECEMBER 31, 1999 OCTOBER 31, 1999 1998 1997
-------------------- ---------------- -------- --------
Service cost. . . . . . . . . . $ 16 $ 78 $ 96 $ 89
Interest cost . . . . . . . . . 25 124 145 157
--------------------- ---------------- -------- --------
Net periodic benefit cost . . . $ 41 $ 202 $ 241 $ 246
===================== ================ ======== ========
For measurement purposes, a 7% annual rate of increase in the per capita cost of
covered health care benefits was assumed for 2000. The rate was assumed to
decrease gradually each year to a rate of 6% for 2002 and remain at that level
thereafter.
- 14 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
Assumed health care cost trend rates significantly impact reported amounts. A
one-percentage-point change in assumed rates would alter the amounts of the
benefit obligation and the sum of the service cost and interest cost components
of postretirement benefit expense as follows for 1999 (dollars in thousands):
ONE-PERCENTAGE-POINT
----------------------
INCREASE DECREASE
---------- ----------
Effect on the postretirement benefit obligation. . $ 320 $ (279)
Effect on the sum of the service cost and interest
cost components. . . . . . . . . . . . . . . . . $ 44 $ (38)
(9) Income Taxes
-------------
Income tax expense consisted of the following at December 31:
POST SEMCO
ACQUISITION (NOTE 1) PRIOR TO SEMCO ACQUISITION (NOTE 1)
-------------------- -------------------------------------------
2 MONTHS ENDED 10 MONTHS ENDED YEARS ENDED DECEMBER 31,
DECEMBER 31, 1999 OCTOBER 31, 1999 1998 1997
-------------------- ---------------- -------- --------
Intercompany tax allocation:
Federal . . . . . . . . . . $ 1,815 $ 5,003 $ 6,867 $ 5,958
State . . . . . . . . . . . 466 1,323 1,859 1,652
--------------------- ---------------- -------- --------
Total intercompany
tax allocation. . . . . $ 2,281 $ 6,326 $ 8,726 $ 7,610
Deferred:
Federal . . . . . . . . . . $ (419) $ (209) $ (1,049) $ (324)
State . . . . . . . . . . . (72) 94 (122) (10)
--------------------- ---------------- -------- --------
Total deferred. . . . . . $ (491) $ (115) $ (1,171) $ (334)
--------------------- ---------------- -------- --------
Total income tax expense. $ 1,790 $ 6,211 $ 7,555 $ 7,276
===================== ================ ======== ========
The actual income tax expense differs from the amounts computed by applying the
U.S. Federal statutory rate of 35% to pretax earnings as a result of the
following (dollars in thousands):
POST SEMCO
ACQUISITION (NOTE 1) PRIOR TO SEMCO ACQUISITION (NOTE 1)
-------------------- -------------------------------------------
2 MONTHS ENDED 10 MONTHS ENDED YEARS ENDED DECEMBER 31,
DECEMBER 31, 1999 OCTOBER 31, 1999 1998 1997
-------------------- ---------------- -------- --------
Federal income taxes at
statutory rate . . . . . . . . $ 1,534 $ 4,358 $ 6,629 $ 6,311
State income tax, net of federal
income tax benefit . . . . . . 256 921 1,157 1,068
Non-deductible expenses. . . . . - 763 - -
Other. . . . . . . . . . . . . . - 169 (231) (103)
-------------------- ---------------- -------- --------
$ 1,790 $ 6,211 $ 7,555 $ 7,276
==================== ================ ======== ========
- 15 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
Deferred income taxes have been provided for all temporary differences between
the carrying amounts of assets and liabilities for financial accounting and tax
purposes.
The tax effects of temporary differences that gave rise to significant portions
of the deferred tax assets and liabilities at December 31 are presented below
(dollars in thousands):
1999
----------------------------------
CURRENT NONCURRENT TOTAL
----------- ---------- --------
Deferred tax assets:
Purchased gas cost adjustments . . . $ 884 $ - $ 884
----------- ---------- --------
Total deferred tax assets. . . . . $ 884 $ - $ 884
----------- ---------- --------
Deferred tax liabilities:
Deductible goodwill. . . . . . . . . $ - $ (393) $ (393)
----------- ---------- --------
Total deferred tax liabilities . . $ - $ (393) $ (393)
----------- ---------- --------
Net deferred tax asset (liability) $ 884 $ (393) $ 491
=========== ========== ========
1998
----------------------------------
CURRENT NONCURRENT TOTAL
----------- ---------- --------
Deferred tax assets:
Customer advances and contributions
in aid of construction. . . . . . . $ - $ 1,597 $ 1,597
Postretirement medical benefits . . . - 1,006 1,006
Purchased gas cost adjustments. . . . 1,305 - 1,305
Various accrued expenses not
deductible for tax purposes . . . . 743 - 743
Allowance for doubtful accounts . . . 115 - 115
----------- ---------- --------
Total deferred tax assets . . . . . $ 2,163 $ 2,603 $ 4,766
----------- ---------- --------
Deferred tax liabilities:
Plant and equipment, principally due
to differences in depreciation. . . $ - $ (34,299) $(34,299)
Premium on retirement of long-term
debt and related amortization . . . - (55) (55)
----------- ---------- --------
Total deferred tax liabilities. . . $ - $ (34,354) $(34,354)
----------- ---------- --------
Net deferred tax asset (liability). $ 2,163 $ (31,751) $(29,588)
=========== ========== ========
A valuation allowance on a deferred tax asset is provided when it is more likely
than not that some portion of the deferred tax asset will not be realized.
ENSTAR Natural Gas Company and APC historically have had taxable income;
accordingly, a valuation allowance was not established in 1999 and 1998.
- 16 -
ENSTAR NATURAL GAS COMPANY AND ALASKA PIPELINE COMPANY
NOTES TO THE COMBINED FINANCIAL STATEMENTS (CONT.)
(10) Gas Supply Contracts
----------------------
ENSTAR Natural Gas Company purchases all of its natural gas under two long-term
contracts - the Marathon and Beluga contracts. Gas reserves committed to ENSTAR
Natural Gas Company under these contracts are sufficient to supply all of ENSTAR
Natural Gas Company's expected gas supply requirements through the year 2001.
After that time, supplies will still be available under the Marathon and Beluga
contracts in accordance with their terms, but at least a portion of ENSTAR
Natural Gas Company's requirements are expected to be satisfied outside the
terms of these contracts.
(11) Contingencies
-------------
Litigation
- ----------
ENSTAR Natural Gas Company is party to various legal actions, both for and
against its interests. Management believes that the outcome of any litigation
not provided for in the accompanying combined financial statements will not be
material to its financial condition, results of operations or cash flows.
Labor Agreements
- -----------------
Approximately 75% of ENSTAR Natural Gas Company's workforce is covered under
collective bargaining agreements that expire April 1, 2000. Negotiations are
ongoing and management expects that contracts will be renewed at terms
consistent with current arrangements and that no work stoppage will result.
- 17 -