EXHIBIT 13
----------
Management's Discussion and Analysis
Results of Operations
Earnings and Dividends
Earnings for 1997 were $23.4 million or $1.31 per share, compared to
$22.9 million or $1.28 per share for 1996. Earnings per share for 1996
included $.09 related to a one-time gain from proceeds pertaining to
the Cornerstone refinancing transactions. The earnings increase was
primarily due to propane acquisitions, improved electric and natural
gas returns and increased investment income.
Earnings in 1996 were $1.28 per share compared to $1.11 in 1995. The
increase was primarily due to slightly colder weather, propane
acquisitions, improved natural gas returns, the one-time gain referred
to above and increased investment income. Earnings for 1995 included
propane operations since August 1995.
In November 1996, the Company's Board of Directors elected to increase
annual dividends per share from $.88 to $.92. Subsequently, in
November 1997, the board approved a five cent per share increase in
annual dividends from $.92 to $.97. The Company's financial strength,
operating performance, the success of its growth strategies and
competitive changes in the industry will be factors considered by the
Company's Board of Directors when evaluating future dividend payments.
41
Business Segment Summary
------------------------
Years Ended December 31,
(In Thousands of Dollars)
Increase Increase
1997 1996 (Decrease) 1995 (Decrease)
---- ---- --------------------- ---- -------------------
REVENUES:
Propane $743,038 $175,102 $567,936 324.3% $ 38,883 $136,219 350.3%
Electric 76,727 73,417 3,310 4.5% 74,857 (1,440) (1.9%)
Natural gas 77,561 72,269 5,292 7.3% 64,483 7,786 12.1%
Manufacturing 20,744 23,221 (2,477) (10.7%) 26,747 (3,526) (13.2%)
OPERATING INCOME:
Propane $ 23,605 $ 18,947 $ 4,658 24.6% $ 5,604 $13,343 238.1%
Electric 27,177 24,475 2,702 11.0% 26,003 (1,528) (5.9%)
Natural gas 7,231 5,684 1,547 27.2% 3,862 1,822 47.2%
Manufacturing 984 1,312 (328) (25.0%) 2,628 (1,316) (50.1%)
OPERATING DATA:
Propane sales-retail
(000 gallons) 220,833 141,388 79,445 56.2% 37,805 103,583 274.0%
Propane sales-
wholesale
(000 gallons) 479,055 18,617 460,438 2,473.2% - 18,617 -
Electric sales-retail
(000 mwh) 1,114 1,083 31 2.9% 1,071 12 1.1%
Natural gas throughput
(000 mmbtu) 16,411 16,321 90 .6% 15,204 1,117 7.3%
Propane
-------
Propane for 1997 includes a full year of operations from Cornerstone
Propane Partners, L.P. Propane for 1996 includes revenues from
Cornerstone since December 18, 1996, Empire Energy Corporation since
October 7, 1996, and Synergy Group Incorporated for all of 1996. As of
December 31, 1997, the Company owned a combined 38.5% interest in
Cornerstone, which changed to a combined 34.8% interest after
considering the secondary offering at Cornerstone in January 1998.
Because of the heavy use of propane for heating, propane sales are
extremely weather sensitive. The majority of propane revenues occur in
the first and fourth quarters when propane is heavily sold for
residential and commercial heating. In the first quarter of 1997,
weather averaged 13% warmer than normal in Cornerstone's market areas.
During the last quarter of 1997, weather averaged slightly colder than
normal in Cornerstone's retail propane service areas. While weather
factors generally measure the directional impact of temperatures on
the business, other factors such as geographic mix, magnitude and
duration of temperature and weather conditions can also impact sales.
In 1996, weather throughout Synergy's propane service area was
approximately 5% colder than normal, while weather throughout Empire
42
Energy's area was approximately 3% colder than normal since
acquisition.
Operating revenue from propane sales increased in 1997 to $743.0
million from $175.1 million in 1996. The large increase in sales is
primarily due to a full year of the retail and significant wholesale
operations of Cornerstone and acquisitions during 1997. Operating
income increased in 1997 to $23.6 million from $18.9 million in 1996.
The increase in operating income is primarily attributable to a full
year of operations of Cornerstone partially offset by warmer than
normal temperatures in 1997 combined with higher product costs.
Operating revenue from propane sales increased in 1996 to $175.1
million from $38.9 million in 1995. Operating income increased in 1996
to $18.9 million from $5.6 million in 1995. The increase in sales and
operating income are primarily due to a full year of operations from
Synergy, which was acquired in August 1995, the acquisition of Empire
Energy in October 1996 and the formation of Cornerstone in December
1996. The increases are also partly due to slightly colder than normal
weather in the Company's propane market areas.
Electric
--------
In 1997, retail electric mwh sales grew by 3% reflecting weather,
which was slightly warmer than the previous year. Electric revenues
increased due to the increased retail mwh sales and an increase in
wholesale sales. Operating income increased primarily due to the
increase in sales volumes combined with decreases in maintenance and
operating expenses.
In 1996, retail electric mwh sales grew by 1% even though weather
during the summer was approximately 20% cooler than the previous year.
Electric revenues decreased slightly due to a decline in wholesale
sales. Operating income decreased due to the slight decrease in
revenues combined with increases in growth-related costs in expanded
customer services, marketing functions and property taxes. Property
taxes increased significantly in 1996 due primarily to changes in
South Dakota's tax regulations.
Natural Gas
-----------
One of the predominant factors affecting the Company's natural gas
operations is weather patterns during the winter heating season.
Because natural gas is heavily used for residential and commercial
heating, the demand for this product depends upon weather conditions.
In 1997, the 7.3% increase in natural gas revenues over 1996 primarily
reflects higher market prices for natural gas supply, which were
passed on to customers through the purchased gas adjustment, a 1.5%
increase in gas customers and differing weather patterns during the
year. During the first quarter of 1997, weather was approximately 7%
colder than 1996, while weather during the last quarter of 1997 was
approximately 15% warmer than the prior year. The increase in
operating income reflects the increased revenues resulting from the
43
expanding customer base and colder first quarter weather combined with
decreased operating and maintenance expenses.
In 1996, the increase in natural gas revenues over 1995 reflects the
effects of cooler weather, higher market prices for natural gas supply
and a slight increase in customers. The increase in gas operating
income reflected a 7.3% increase in throughput, offset by slightly
higher operating expenses. The increase in other operating expenses
was primarily due to growth-related costs in the expanded energy
services and marketing functions. Maintenance expense decreased
slightly while property taxes increased due to changes in South
Dakota's tax regulations.
Manufacturing
-------------
Manufacturing revenues and operating income are related to the
Company's ownership interest in Lucht Inc., a company that
manufactures photographic processing and imaging equipment used by
high-volume photo processing laboratories. Operating income in 1997
decreased when compared to 1996 due to softness in photographic
processing and imaging equipment sales within the photo finishing
industry. Operating income in 1996 decreased when compared to 1995 due
to delays in product development.
Other Income Statement Items
----------------------------
Other income increased in 1997 over 1996 due to increased investment
income resulting from the investment of cash proceeds received from
the prepayment and redemption transactions from the Cornerstone
formation and the gain on the sale of a portion of a common stock
investment. Investment income also increased as a result of the
Company's preferred stock investment in an unconsolidated affiliate
company, ServiCenter USA. ServiCenter USA was founded by Northwestern
Growth Corporation, a wholly owned subsidiary of Northwestern, and
provides heating, ventilating, air conditioning, plumbing and related
services for residential and business customers in the U.S. Other
income increased in 1996 over 1995 primarily due to a one-time gain
realized by the Company related to the Cornerstone transaction. The
gain is attributed to redemption premiums related to the financing
transactions of the propane operations. Other income also includes the
gain on the sale of a portion of a common stock investment.
Liquidity and Capital Resources
-------------------------------
During 1997, cash flow from operations, net of dividends paid,
together with proceeds from the 1996 Cornerstone equity and debt
offerings and other external financing activities, provided the funds
for propane and other acquisition activities, construction
expenditures and other requirements.
44
Operating Activities
--------------------
Cash flow from operating activities in 1997 increased 3% from 1996
primarily due to growth in the Company's earnings. Liquidity is also
provided from the availability of substantial cash and investment
balances. Cash equivalents and marketable securities totaled $108.6
million, $179.9 million and $44.7 million at December 31, 1997, 1996
and 1995.
Investment Activities - Financing Activities
--------------------------------------------
The Company's principal investment and financing activities in 1997
were related to increased corporate development investments including
the development of the preferred stock investment in ServiCenter USA
and the redemption of $7.5 million of 8.9% series general mortgage
bonds and $15 million of 8.824% series general mortgage bonds.
Working capital and other financial resources are also provided by
unused lines of credit, which are generally used to support commercial
paper borrowings, a primary source of short-term financing. At
December 31, 1997, the Company had no outstanding borrowings under its
lines of credit or commercial paper borrowings. Unused short-term
lines of credit totaled $32 million at December 31, 1997. Cornerstone
maintains a Bank Credit Facility, which provides for up to $50 million
in working capital borrowings and $75 million for acquisition
borrowings subject to certain loan covenants and other limitations. At
December 31, 1997 and 1996, Cornerstone had outstanding working
capital borrowings of $23.5 million and $12.5 million. At December 31,
1997, Cornerstone had outstanding acquisition borrowings of $10.4
million and no outstanding acquisition borrowings at December 31,
1996. In addition, the Company's other nonregulated businesses
maintain credit agreements with various banks for revolving and term
loans.
The Company will continue to review the economics of retiring or
refunding remaining long-term debt and preferred stock to minimize
long-term financing costs. The Company will continue to make
investments in the unconsolidated affiliates, ServiCenter USA and
Communication Systems USA. Also, the Company may make other
significant acquisition investments in related industries that would
require the Company to raise additional equity and incur debt
financing, which are therefore subject to certain risks and
uncertainties. The Company's financial coverages are at levels in
excess of those required for the issuance of additional debt and
preferred stock.
Capital Requirements
--------------------
The Company's primary capital requirements include the funding of its
energy business construction, maintenance and expansion programs, the
funding of debt and preferred stock retirements, sinking fund
45
requirements and the funding of its corporate development and
investment activities.
The emphasis of the Company's construction activities is to undertake
those projects that most efficiently serve the expanding needs of its
customer base, enhance energy delivery and reliability capabilities
through system replacement and provide for the reliability of energy
supply. Capital expenditure plans are subject to continual review and
may be revised as a result of changing economic conditions, variations
in sales, environmental requirements, investment opportunities and
other ongoing considerations. Expenditures for maintenance and
construction activities for 1997, 1996 and 1995 were $22.4 million,
$35.2 million and $29.6 million. Capital expenditures during 1997
included maintenance expenditures related to Cornerstone propane
operations. Construction expenditures during 1996 and 1995 included
expenditures related to an operations center expected to provide
enhanced customer service capability, cost savings and operating
efficiencies through consolidation of activities and the expansion of
the Company's natural gas system in eastern South Dakota. In addition,
1997, 1996 and 1995 included $4.1 million, $7.3 million and $4.7
million of maintenance capital expenditures related to propane
operations. Total capital expenditures for 1998, excluding propane
operations, are estimated to be $13.8 million. The majority of the
projected expenditures will be spent on enhancements of the electric
and gas distribution systems. Estimated electric and natural gas
related expenditures for the years 1998 through 2002 are expected to
be $61.5 million. Nonregulated maintenance capital expenditures for
1998 are estimated to be $3.8 million. Estimated nonregulated
maintenance capital expenditures for the years 1998 through 2002 are
expected to be $19.0 million. Capital requirements for the mandatory
retirement of long-term debt and mandatory preferred stock sinking
fund redemption totaled $1,244,000, $400,000, and $600,000 for the
years ended 1997, 1996 and 1995, respectively. It is expected that
such mandatory retirements will be $7.8 million in 1998, $7.8 million
in 1999, $8.9 million in 2000, $8.5 million in 2001 and $8.3 million
in 2002. The Cornerstone working capital facility was paid in January,
1998 using the proceeds of a secondary offering of 1,960,000 units
which were sold to the public at a price of $22.125 per unit,
resulting in net proceeds of $40.7 million. The Company anticipates
that future capital requirements will be met by existing investments
and marketable securities, internally generated cash flows and
available external financing.
COMPETITION AND BUSINESS RISK
Northwestern's strategy centers upon the development, acquisition and
expansions of operations offering integrated energy,
telecommunications and related products and services within the
Northwestern companies. In addition to maintaining a strong
competitive position in electric, natural gas and propane distribution
businesses, the Company intends to pursue development and acquisitions
that have long-term growth potential. While such investments and
acquisitions can involve increased risk in comparison to the Company's
energy distribution businesses, they offer the potential for enhanced
investment returns.
46
Propane
-------
Weather conditions have a significant impact on propane demand for
both heating and agricultural purposes. The majority of Cornerstone's
customers rely heavily on propane as a heating fuel. Actual weather
conditions can vary substantially from year to year, significantly
affecting Cornerstone's financial performance. Furthermore, variations
in weather in one or more regions in which Cornerstone operates can
significantly affect the total volumes sold by Cornerstone and the
margins realized on such sales and, consequently, Cornerstone's
results of operations. These conditions may also impact Cornerstone's
ability to meet various debt covenant requirements and affect
Cornerstone's ability to pay common and subordinated unit
distributions.
The retail propane business is a margin-based business in which gross
profits depend on the excess of sales prices over propane supply
costs. Consequently, Cornerstone's profitability will be sensitive to
changes in wholesale propane prices. Propane is a commodity, the
market price of which can be subject to volatile changes in response
to changes in supply or other market conditions. As it may not be
possible to immediately pass on to customers rapid increases in the
wholesale cost of propane, such increases could reduce Cornerstone's
gross profits.
Cornerstone's profitability is affected by the competition for
customers among all participants in the retail propane business. Some
of Cornerstone's competitors are larger or have greater financial
resources than Cornerstone. Should a competitor attempt to increase
market share by reducing prices, Cornerstone's financial condition and
results of operations could be materially adversely affected. In
addition, propane competes with other sources of energy, some of which
may be less costly per equivalent energy value.
Electric and Natural Gas
------------------------
The electric and natural gas industries continue to undergo numerous
transformations and the Company is operating in an increasingly
competitive marketplace. The FERC, which regulates interstate and
wholesale electric transmissions, opened up transmission grids and
mandated that utilities must allow others equal access to utility
transmission systems. Various state regulatory bodies are supporting
initiatives to redefine the electric energy market and are
experimenting with retail wheeling, which gives some retail customers
the ability to choose their supplier of electricity. Traditionally,
utilities have been vertically integrated, providing bundled energy
services to customers. The potential for continued unbundling of
customer services exists, allowing customers to buy their own
electricity and natural gas on the open market and having it delivered
by the local utility.
The growing pace of competition in the energy industry has been a
primary focus of management over the last few years. The Company's
47
future financial performance will be dependent on the effective
execution of operating strategies to address a more competitive and
changing energy marketplace. Business strategies focus on enhancing
the Company's competitive position, on expanding energy sales and
markets with new products and services for customers and increasing
shareholder value. The Company has realigned various areas of its
business to support customer services and marketing functions. A new
marketing plan, an expanded line of integrated customer products and
services, additional staff and new technologies are part of the
Company's strategy for providing responsive and superior customer
service. To strengthen the Company's competitive position, new
technologies have and will be added that enable employees to better
serve customers. The Company is centralizing activities to improve
efficiency and customer responsiveness and business processes are
being reengineered to apply best-practices methodologies. Long-term
supply contracts have been renegotiated to lower customers' energy
costs and new alliances help reduce expenses and add innovative work
approaches.
As described in Note 1 to the consolidated financial statements, the
Company complies with the provisions of Statement of Financial
Accounting Standards No. 71 (SFAS 71), Accounting for the Effects of
Certain Types of Regulation . SFAS 71 provides for the financial
reporting requirements of the Company's regulated electric and natural
gas operations which requires specific accounting treatment of certain
costs and expenses that are related to the Company's regulated
operations. Criteria that could give rise to the discontinuance of
SFAS 71 include 1) increasing competition that restricts the Company's
ability to establish prices to recover specific costs and 2) a
significant change in the manner in which rates are set by regulators
from cost-based regulation to another form of regulation. The Company
periodically reviews these criteria to ensure the continuing
application of SFAS 71 is appropriate. Based on a current evaluation
of the various factors and conditions that are expected to impact
future cost recovery, the Company believes that its regulatory assets,
including those related to generation, are probable of future
recovery. This evaluation of recovery must be updated for any change
which might occur in the Company's current regulatory environment.
HVAC, Telecommunications and Related Services
---------------------------------------------
The markets served by ServiCenter USA for residential and commercial
heating, ventilating, air conditioning, plumbing and other related
services are highly competitive. The principal competitive factors in
these segments of the industry are 1) timeliness, reliability and
quality of services provided, 2) range of products and services
provided, 3) name recognition and market share and 4) pricing. Many of
ServiCenter's competitors in the HVAC business are small, owner-
operated companies typically located and operated in a single
geographic area. There are only a small number of national companies
engaged in providing residential and commercial services in the
service lines, which the Company intends to focus. Future competition
in both the residential and commercial service lines may be
encountered from other newly formed or existing public or private
48
service companies with aggressive acquisition programs, the
unregulated business segments of regulated gas and electric utilities
or from newly deregulated utilities in those industries entering into
various service areas.
The market served by Communication Systems USA in the
telecommunications and data services industry is also a highly
competitive market. The Company believes that 1) market acceptance of
the Company's products and services, 2) pending and future legislation
affecting the telecommunications and data industry, 3) name
recognition and market share, 4) larger competitors and 5) the
Company's ability to provide integrated communication and data
solutions for customers in a dynamic industry are all factors that
could affect the Company's future operating results.
Other
-----
The Company utilizes software and various technologies throughout its
business that will be affected by the date change in the year 2000.
The Company has assessed and is continuing to assess the impact of the
year 2000 issue on its reporting systems and operations. The majority
of the Company's financial reporting and operational systems are year
2000 compliant. The cost of the modifications of the remaining systems
is not expected to be material.
This Annual Report contains forward looking statements within the
meaning of the securities laws. The Company cautions that, while it
believes such statements to be based on reasonable assumptions and
makes such statements in good faith, there can be no assurance that
the actual results will not differ materially from such assumptions or
that the expectations set forth in the forward looking statements
derived from such assumptions will be realized. Investors should be
aware of important factors that could have a material impact on future
results. These factors include, but are not limited to, weather, the
federal and state regulatory environment, the economic climate,
regional, commercial, industrial and residential growth in the service
territories served by the Company and its subsidiaries, customers'
usage patterns and preferences, the speed and degree to which
competition enters the Company's industries, the timing and extent of
changes in commodity prices, changing conditions in the capital and
equity markets and other uncertainties, all of which are difficult to
predict and many of which are beyond the control of the Company.
Report of Management
The management of Northwestern Public Service Company is responsible
for the integrity and objectivity of the financial information
contained in this annual report. The consolidated financial
statements, which necessarily include some amounts which are based on
informed judgments and estimates of management, have been prepared in
conformity with generally accepted accounting principles.
49
In meeting this responsibility, management maintains a system of
internal accounting controls, which is designed to provide reasonable
assurance that the assets of the Company are safeguarded and that
transactions are executed in accordance with management's
authorization and are recorded properly for the preparation of
financial statements. This system is supported by written policies,
selection and training of qualified personnel, an appropriate
segregation of responsibilities within the organization and a program
of internal auditing. The Board of Directors, through its Audit
committee which is comprised entirely of outside directors, oversees
management's responsibilities for financial reporting. The Audit
committee meets regularly with management and the independent public
accountants to make inquiries as to the manner in which each is
performing its responsibilities. The independent public accountants
and the internal audit staff have unrestricted access to the Audit
committee, without management's presence, to discuss auditing,
internal accounting control and financial reporting matters.
Arthur Andersen LLP, an independent public accounting firm, has been
engaged annually to perform an audit of the Company's financial
statements. Their audit is conducted in accordance with generally
accepted auditing standards and includes examining, on a test basis,
supporting evidence, assessing the Company's accounting principles and
significant estimates made by management, and evaluating the overall
financial statement presentation to the extent necessary to allow them
to report on the fairness, in all material respects, of the operating
results and financial condition of the Company.
Merle D. Lewis Richard R. Hylland
Chairman, President and Executive Vice President
Chief Executive Officer
Report of Independent Public Accountants
To the Stockholders and Board of Directors of Northwestern Public
Service Company:
We have audited the accompanying consolidated balance sheets of
NORTHWESTERN PUBLIC SERVICE COMPANY (a Delaware corporation) AND
SUBSIDIARIES as of December 31, 1997 and 1996, and the related
consolidated statements of income and retained earnings and cash flows
for each of the three years in the period ended December 31, 1997.
These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these
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 financial statements
are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well
50
as evaluating the overall financial statement presentation. We believe
that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the financial position of
Northwestern Public Service Company and Subsidiaries as of December
31, 1997 and 1996, and the results of their operations and their cash
flows for each of the three years in the period ended December 31,
1997, in conformity with generally accepted accounting principles.
Minneapolis, Minnesota
January 30, 1998
51
Consolidated Statements of Income and Retained Earnings
Years Ended December 31,
(In Thousands Except
Per Share Amounts) 1997 1996 1995
---- ---- ----
Operating Revenues:
Electric $ 76,727 $ 73,417 $ 74,857
Propane 743,038 175,102 38,883
Natural gas 77,561 72,269 64,483
Manufacturing 20,744 23,221 26,747
-------- -------- --------
918,070 344,009 204,970
-------- -------- --------
Operating Expenses:
Fuel and purchased power 14,560 13,347 14,305
Propane gas sold 612,305 101,360 18,527
Purchased natural gas sold 55,035 51,171 46,430
Manufacturing cost of goods sold 13,145 14,548 17,163
Other operating expenses 119,919 80,556 43,190
Maintenance 5,881 5,919 6,020
Depreciation and amortization 31,235 19,414 14,633
Property and other taxes 6,993 7,276 6,605
-------- -------- --------
859,073 293,591 166,873
-------- -------- --------
Operating Income:
Electric 27,177 24,475 26,003
Propane 23,605 18,947 5,604
Natural gas 7,231 5,684 3,862
Manufacturing 984 1,312 2,628
-------- -------- --------
58,997 50,418 38,097
-------- -------- --------
Interest Expense, net (31,476) (18,668) (11,694)
Investment Income and Other 11,564 9,719 3,029
-------- -------- --------
Income Before Income Taxes and
Minority Interest 39,085 41,469 29,432
Income Taxes (11,111) (15,415) (10,126)
-------- -------- --------
Income Before Minority Interest 27,974 26,054 19,306
Minority Interest (1,710) - -
-------- -------- --------
52
Consolidated Statements of Income and Retained Earnings (continued)
Years Ended December 31,
(In Thousands Except
Per Share Amounts) 1997 1996 1995
---- ---- ----
Net Income 26,264 26,054 19,306
Minority Interest on Preferred
Securities of Subsidiary Trust (2,641) (2,641) (1,057)
Dividends on Cumulative
Preferred Stock (212) (550) (259)
-------- -------- --------
Earnings on Common Stock 23,411 22,863 17,990
Retained Earnings, beginning of year 66,144 59,159 55,373
Dividends on Common Stock (16,640) (15,878) (14,204)
-------- -------- --------
Retained Earnings, end of year $ 72,915 $ 66,144 $ 59,159
-------- -------- --------
Average Shares Outstanding 17,843 17,840 16,261
Earnings Per Average Common Share $ 1.31 $ 1.28 $ 1.11
-------- -------- --------
Dividends Declared Per Average
Common Share $ .933 $ .890 $ .873
-------- -------- --------
53
Consolidated Statements of Cash Flows
Years Ended December 31,
(In Thousands Except
Per Share Amounts) 1997 1996 1995
---- ---- ----
Operating Activities:
Net Income $ 26,264 $ 26,054 $ 19,306
Items not affecting cash:
Depreciation and amortization 31,235 19,414
14,633
Deferred income taxes 4,439 5,830 2,540
Minority interest in net income of
consolidated subsidiaries 1,710 - -
Investment tax credits (559) (561) (563)
Changes in current assets and
liabilities, net of effects
from acquisitions:
Trade accounts receivable (363) (333) (3,898)
Inventories 8,325 (4,374) (327)
Other current assets - (4,308) (2,641)
Accounts payable (11,364) 15,712 (1,719)
Accrued expenses (4,793) 4,644 2,678
Other current liabilities 11,738 (143) 3,329
Other, net (3,965) (1,032) 2,029
-------- -------- --------
Cash flows from operating activities 62,667 60,903 35,367
-------- -------- --------
Investment Activities:
Property additions (22,400) (35,170) (29,637)
Sale (purchase) of noncurrent
investments, net 36,621 (107,426) (5,669)
Purchase of net assets, net of
cash acquired (16,697) (24,481) (109,528)
Purchase working capital
adjustments, net - - (10,607)
Subsidiary acquisitions and
formation (42,239) (2,040) (5,405)
-------- -------- --------
Cash flows for investment
activities (44,715) (169,117) (160,846)
-------- -------- --------
Financing Activities:
Dividends on common and
preferred stock (16,852) (16,428) (14,463)
Issuance of nonrecourse
subsidiary debt 29,499 - -
Repayment of nonrecourse
subsidiary debt (7,544) - -
Minority interest on preferred
securities of subsidiary trust (2,641) (2,641) (1,057)
Issuance of long-term debt - 21,654 86,600
54
Consolidated Statements of Cash Flows (Continued)
Years Ended December 31,
(In Thousands Except
Per Share Amounts) 1997 1996 1995
---- ---- ----
Repayment of long-term debt (22,500) (340) (3,157)
Issuance of preferred securities
of subsidiary trust - - 31,213
Issuance of preferred stock - - 3,650
Retirement of preferred stock (2,687) (10) (30)
Subsidiary payment of common unit
distributions (17,708) - -
Issuance of common stock - - 31,022
Short-term borrowings (repayments) - 35,500 (6,300)
-------- -------- -------
Cash flows from (for) financing
activities (40,433) 37,735 127,478
-------- -------- --------
Cornerstone Propane Partners
Formation Transactions:
Acquisition of CGI Holdings, net
of $2,568,000 of cash acquired - (68,962) -
Issuance of Cornerstone Propane
Partners common units - 191,804 -
Issuance of long-term debt - 220,000 -
Repayment of long-term debt and
short-term borrowings - (229,571) -
Other fees and expenses - (10,554) -
-------- -------- --------
Cash flows from Cornerstone
Propane Partners formation
transactions - 102,717 -
-------- -------- --------
Increase (Decrease) in Cash and
Cash Equivalents (22,481) 32,238 1,999
Cash and Cash Equivalents,
beginning of year 36,790 4,552 2,553
-------- -------- --------
Cash and Cash Equivalents,
end of year $ 14,309 $ 36,790 $ 4,552
-------- -------- --------
Supplemental Cash Flow Information:
Cash paid during the year for:
Income taxes $ 8,940 $ 6,271 $ 5,972
Interest $ 30,909 $ 18,645 $ 8,381
Noncash transactions during
the year for:
Assumption of debt as part of
acquisitions $ 1,551 $149,516 $ 2,345
55
Consolidated Balance Sheets
December 31. (In Thousands) 1997 1996
---- ----
Assets
Property:
Electric $ 356,836 $ 350,419
Natural gas 85,874 80,905
Propane 275,911 248,556
Manufacturing 2,270 2,142
----------- -----------
720,891 682,022
Less-Accumulated depreciation (175,269) (162,909)
----------- -----------
545,622 519,113
----------- -----------
Current Assets:
Cash and cash equivalents 14,309 36,790
Trade accounts receivable, net 90,749 89,259
Inventories 36,015 43,826
Other 15,335 27,814
----------- -----------
156,408 197,689
Other Assets:
Investments 121,587 159,333
Deferred charges and other 58,435 40,260
Goodwill and other
intangibles, net 224,071 197,321
----------- -----------
404,093 396,914
----------- -----------
$1,106,123 $1,113,716
----------- -----------
CAPITALIZATION AND LIABILITIES
Capitalization:
Common stock equity $ 166,596 $ 163,805
Nonredeemable cumulative
preferred stock 2,600 2,600
Redeemable cumulative
preferred stock 1,150 1,150
Company obligated mandatorily
redeemable security of trust
holding solely parent debentures 32,500 32,500
Long-term debt 156,350 183,850
----------- -----------
359,196 383,905
Preferred stock of subsidiary - 2,500
Minority interest in subsidiaries 199,722 186,714
Long-term debt of subsidiaries 268,931 240,563
----------- -----------
827,849 813,682
----------- -----------
56
Consolidated Balance Sheets (Continued)
December 31. (In Thousands) 1997 1996
---- ----
Commitments and Contingencies (Notes 8, 9, 10)
Current Liabilities:
Long-term debt due within one year 7,814 1,244
Accounts payable 89,064 99,394
Accrued expenses 12,899 16,596
Other 34,787 35,533
----------- -----------
144,564 152,767
Deferred Credits:
Accumulated deferred income taxes 72,884 70,894
Unamortized investment tax credits 8,901 9,460
Other 51,925 66,913
----------- -----------
133,710 147,267
----------- -----------
$1,106,123 $1,113,716
----------- -----------
57
Notes to Consolidated Financial Statements
1. SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations:
--------------------
Northwestern Public Service Company is a nationwide diversified
energy, telecommunications and related services provider. The Company
is engaged in the regulated energy business of production, purchase,
transmission, distribution and sale of electricity and the delivery of
natural gas. The Company serves 55,805 electric customers in eastern
South Dakota and 78,531 natural gas customers in eastern South Dakota
and central Nebraska. To provide baseload electric power, the Company
jointly owns three coal-fired generating plants with other utilities.
Through the acquisitions of Synergy Group Incorporated (Synergy) and
Myers Propane Gas Company (Myers) in 1995 and Empire Energy
Corporation (Energy) in 1996, the Company engaged in retail propane
distribution business located throughout the United States. In
December 1996, a wholly owned subsidiary acquired CGI Holdings, Inc.
(Coast) and combined the propane distribution businesses of Coast,
Energy, Myers and Synergy (the Partnership Formation) into Cornerstone
Propane, L.P. (the Operating Partnership), a Delaware limited
partnership, and a subsidiary of Cornerstone Propane Partners, L.P.
(Cornerstone), a Delaware limited partnership, formed to acquire and
operate these propane businesses and assets. Cornerstone and the
Operating Partnership are collectively referred to herein as the
Partnership. In December 1996, as part of an initial public offering
(IPO), Cornerstone sold a total of 9,821,000 common units (Common
Units) representing limited partner interests. The Company through its
majority owned subsidiaries retained an initial effective 2% general
partner interest and a 39% limited partnership interest in the
Partnership. A wholly owned subsidiary of the Company serves as the
general partner (General Partner) of the Partnership and manages and
operates the Partnership's business. (For a detailed description of
the Partnership Formation and related transactions, see Note 2). As
part of a secondary offering in January 1998, Cornerstone sold an
additional 1,960,000 common units. Subsequent to the second offering,
the Company owns a combined 34.8% interest in the Partnership. The
Company's manufacturing operations are comprised of Lucht Inc., a
wholly owned subsidiary that develops, manufactures and markets multi-
image photographic printers and other related equipment. In 1997,
Northwestern formed ServiCenter USA to acquire heating, ventilating,
air conditioning, plumbing and related services companies in the U.S.
Also in late 1997, Northwestern formed Communication Systems USA to
acquire and consolidate companies providing telecommunications and
data services to business customers.
Basis of Consolidation:
----------------------
The accompanying consolidated financial statements include the
accounts of Northwestern Public Service Company and all wholly and
majority owned or controlled subsidiaries, including the Partnership.
All significant intercompany balances and transactions have been
58
eliminated from the consolidated financial statements. The Company's
regulated businesses are subject to various state and federal agency
regulation. The public unitholders' interest in Cornerstone's net
assets subsequent to the Partnership Formation is reflected as a
minority interest in the consolidated balance sheets. For purposes of
determining the minority interest in Cornerstone, Common Units held by
the public and considered to be outstanding as of December 31, 1997
and 1996 are 11,127,000 and 9,821,000.
Use of Estimates:
----------------
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ
from those estimates.
Revenue Recognition and Gas Costs:
---------------------------------
Electric and natural gas revenues are based on billings rendered to
customers rather than on meters read or energy delivered. Customers
are billed monthly on a cycle basis. Revenues from propane sales are
recognized principally when fuel products are shipped or delivered to
customers. Manufacturing revenue is recognized as equipment is shipped
or delivered to customers.
The commodity cost portion of natural gas purchased from wholesale
suppliers but not yet billed to customers is charged to deferred gas
costs. This account is subsequently credited in future periods as
customers are billed for natural gas used in prior periods. This
method has the approximate effect of matching costs with revenues in
any financial reporting period. The demand cost portion of natural
gas costs, which is comprised of numerous components, is expensed as
incurred. The Company and its subsidiaries have propane and natural
gas supply agreements with various suppliers for the purchase of
these products in the normal course of their operations.
Cash Equivalents:
----------------
The Company generally considers all highly liquid investments
purchased with a maturity of three months or less to be cash
equivalents.
Depreciation and Maintenance:
----------------------------
Depreciation is computed using the straight-line method based on the
estimated useful lives of the various classes of property.
Depreciation provisions, as a percentage of the average balance of
depreciable property, were 4.7% in 1997, 4.2% in 1996 and 3.6% in
59
1995. The percentages include propane related depreciation provision
and depreciable property whose estimated useful lives principally
range from 5 to 40 years.
Depreciation rates include a provision for the Company's share of the
estimated costs to decommission three coal-fired generating plants at
the end of the useful life of each plant. The annual provision for
such costs is included in depreciation expense, while the accumulated
provisions are included in other deferred credits.
The costs of maintenance, repairs and replacements of minor property
items are charged to maintenance expense accounts. Costs of renewals
and betterments of electric and natural gas property units are charged
to property accounts. The costs of units of electric and natural gas
property removed from service, net of removal costs and salvage, are
charged to accumulated depreciation. No profit or loss is recognized
in connection with ordinary retirements of depreciable electric and
natural gas property.
Goodwill and Other Intangibles:
------------------------------
The excess of the cost of businesses acquired over the fair market
value of all tangible and intangible assets acquired, net of
liabilities assumed, has been recorded as goodwill, which is being
amortized on a straight-line basis over 40 years. Other intangibles,
consisting principally of costs of covenants not to compete, are being
amortized over the estimated periods benefited, which do not exceed 10
years. Goodwill and other intangibles are reflected net of accumulated
amortization at December 31, 1997 and 1996 of $6,214,000 and
$1,199,000.
The Company's policy is to review property, goodwill and other
intangible assets for possible impairment whenever events or changes
in circumstances indicate that the carrying amount of such assets may
not be recoverable. If such review indicates that the carrying amount
is not recoverable, the Company's policy is to reduce the carrying
amount of these assets to fair value.
Investments and Fair Value of Financial Instruments:
---------------------------------------------------
The Company's investments consist primarily of short maturity fixed
income securities and corporate preferred and common stocks. In
addition, the Company has investments in privately held entities and
ventures, safe harbor leases and various money market and tax exempt
investment programs. These investments are accounted for in accordance
with Statement of Financial Accounting Standards No. 115 (SFAS 115),
"Accounting for Certain Investments in Debt and Equity Securities."
SFAS 115 requires that certain investments in debt and equity
securities be reported at fair value.
The Company's securities are classified under the provisions of SFAS
115. As of December 31, 1997, the fair value, cost and the gross
unrealized gain of the Company's available for sale investments were
60
$64,849,000, $62,197,000 and $2,652,000 for preferred stock
investments and $29,470,000, $23,094,000 and $6,376,000 for marketable
securities. As of December 31, 1996, the fair value, cost and the
gross unrealized gain of the Company's available for sale investments
were $31,742,000, $31,740,000 and $2,000 for preferred stock
investments and $16,264,000, $1,118,000 and $15,146,000 for marketable
equity securities. The unrealized gain, net of tax, at December 31,
1997 and 1996, was $5,862,000 and $9,846,000, respectively. Held to
maturity securities are reported at cost, which approximated fair
value and at December 31, 1997 and 1996, was $27,268,000 and
$111,327,000.
The Company uses the specific identification method for determining
the cost basis of its investments in available for sale securities.
Gross proceeds and realized gains and losses on sales of its available
for sale securities were not material in 1997, 1996 and 1995.
Based on current market rates for debt of similar credit quality and
remaining maturities or quoted market prices for certain issues, the
face value of the Company's long-term debt approximates its market
value.
Income Taxes:
------------
Deferred income taxes relate primarily to the difference between book
and tax methods of depreciating property, taxable income derived from
safe harbor leases, the difference in the recognition of revenues for
book and tax purposes and natural gas costs, which are deferred for
book purposes but expensed currently for tax purposes.
For book purposes, investment tax credits were deferred and are being
amortized as a reduction of income tax expense over the useful lives
of the property which generated the credits.
Regulatory Assets and Liabilities:
---------------------------------
The Company is subject to the provisions of Statement of Financial
Accounting Standards No. 71 (SFAS 71), "Accounting for the Effects of
Certain Types of Regulations." Regulatory assets represent probable
future revenue to the Company associated with certain costs, which
will be recovered from customers through the ratemaking process.
Regulatory liabilities represent probable future reductions in
revenues associated with amounts that are to be credited to customers
through the ratemaking process.
If all or a separable portion of the Company's operations becomes no
longer subject to the provisions of SFAS 71, an evaluation of future
recovery from related regulatory assets and liabilities would be
necessary. In addition, the Company would determine any impairment to
the carrying costs of deregulated plant and inventory assets.
61
New Accounting Standards:
------------------------
Financial Accounting Standards Board Statement No. 128, "Earnings per
Share" (Statement No. 128), issued in February 1997 and effective for
fiscal years ending after December 15, 1997, established and
simplified standards for computing and presenting earnings per share.
Implementation of Statement No. 128 did not have a material impact on
the Company's computation or presentation of earnings per share.
Reclassifications:
-----------------
Certain 1996 and 1995 amounts have been reclassified to conform to the
1997 presentation. Such reclassifications had no impact on net income
or common stock equity as previously reported. Shares outstanding and
earnings per share amounts have been adjusted to reflect the May 1997
stock split.
2. MASTER LIMITED PARTNERSHIP OFFERING AND BUSINESS ACQUISITIONS
Master Limited Partnership Offering:
-----------------------------------
On December 17, 1996, a wholly owned subsidiary of Northwestern Growth
Corporation acquired Coast. Immediately after the acquisition the
Company combined the propane distribution businesses of Coast, Energy,
Myers and Synergy into Cornerstone. As part of an IPO on the same
date, Cornerstone sold a total of 9,821,000 Common Units at a price to
the public of $21 a unit. At December 31, 1997, Cornerstone's capital
consisted of 11,127,000 Common Units, 6,597,619 subordinated units
(Subordinated Units) representing limited partner interests and a 2%
aggregate general partner interest. At December 31, 1997, the
Company's majority owned subsidiaries owned all 6,597,619 Subordinated
Units and an aggregate 2% general partner interest in the Partnership,
or a combined 38.5% effective interest in the Partnership. In January
1998, Cornerstone sold an additional 1,960,000 units at a price to the
public of $22.125 per unit. After the secondary offering the Company,
through its subsidiary, owns a combined 34.8% effective interest in
the partnership.
The net proceeds of $191.8 million from the sale of 9,821,000 Common
Units of Cornerstone and the net proceeds from the issuance of $220
million face value of Cornerstone Senior Notes were used to repay term
and revolving debt of Coast, Energy and Synergy, including accrued
interest and any prepayment premiums which were assumed by the
Partnership. In addition, the preferred stock of Synergy was redeemed
at a premium. As a result of these repayments, the Company recorded a
one-time after tax gain of $.09 per share from the prepayment of the
term debt and redemption of preferred stock investment in Synergy.
The Partnership makes distributions to its partners with respect to
each fiscal quarter of the Partnership in an aggregate amount equal to
its Available Cash for such quarter. Available Cash generally means,
with respect to any fiscal quarter of the Partnership, all cash on
62
hand at the end of such quarter plus all additional cash on hand as of
the date of determination resulting from borrowings subsequent to the
end of such quarter, less the amount of cash reserves established by
the General Partner in its reasonable discretion for future cash
requirements. These reserves are retained for the proper conduct of
the Partnership's business, for the payment of debt principal and
interest and for distributions during the next four quarters.
Distributions by the Partnership, in an amount equal to 100% of its
Available Cash, will generally be made 98% to the Common and
Subordinated unitholders and 2% to the General Partners. Distributions
are subject to the payment of incentive distributions in the event
Available Cash exceeds the Quarterly Distribution of $.594 on all
units. To the extent there is sufficient Available Cash, the holders
of Common Units have the right to receive the Minimum Quarterly
Distribution, plus any arrearages, prior to the distribution of
Available Cash to holders of Subordinated Units. Common Units will not
accrue arrearages for any quarter after the Subordination Period (as
defined below), and Subordinated Units will not accrue any arrearages
with respect to distributions for any quarter.
The Subordination Period will generally extend until the first day of
any quarter beginning on or after December 31, 2001, in respect of
which a) distributions of Available Cash from operating surplus equal
or exceed the Minimum Quarterly Distribution on each of the
outstanding Common and Subordinated units for each of the three
consecutive four-quarter periods immediately preceding such date, b)
the adjusted operating surplus generated during each of the three
consecutive four-quarter periods immediately preceding such date
equals or exceeds the Minimum Quarterly Distribution on each of the
Common and Subordinated units and the related distribution on the
general partner interests in the Partnership during such periods and
c) there are no outstanding Common Unit arrearages.
In addition, 1,649,405 Subordinated Units will convert into Common
Units for any quarter ending on or after December 31, 1999, and an
additional 1,649,405 Subordinated Units will convert into Common Units
for any quarter ending on or after December 31, 2000, if a)
distributions of Available Cash from operating surplus on each of the
outstanding Common and Subordinated units equal or exceed the Minimum
Quarterly Distribution for each of the three consecutive four-quarter
periods immediately preceding such date, b) the adjusted operating
surplus generated during the immediately preceding two consecutive
four-quarter periods equals or exceeds the Minimum Quarterly
Distribution on all of the Common and Subordinated units outstanding
during that period and c) there are no arrearages on the Common Units.
The Partnership will make distributions of its Available Cash
approximately 45 days after the end of each quarter ending March,
June, September and December to holders of record on the applicable
record dates. For the quarter ended December 31, 1997, Cornerstone
elected not to make the subordinated unit distributions.
63
Business Acquisitions:
---------------------
On August 15, 1995, the Company completed the acquisition of Synergy,
a retail distributor of propane. Synergy maintained 152 retail
branches serving approximately 200,000 customers in 23 states,
primarily in suburban and rural areas of the eastern and south-central
regions of the United States. In conjunction with the acquisition, the
Company sold certain retail property outlets to Energy, which was
later acquired in October 1996.
The Synergy transaction represented an initial cash investment by the
Company of approximately $137.5 million, but after the sale of certain
retail property outlets, the total net cash acquisition investment by
the Company was $105.6 million. The Company made debt and preferred
stock investments in SYN Inc., the entity created to acquire Synergy.
Northwestern Growth Corporation, one of the Company's wholly owned
subsidiaries, owned control of SYN Inc. common stock. The acquisition
was accounted for under the purchase method of accounting. The total
net purchase price was comprised of consideration paid of $105.6
million cash, issuance of $1.25 million in long-term debt and the
assumption of certain liabilities and other long-term debt. The cost
in excess of the fair value of the net tangible and intangible assets
acquired and the costs related to arranging the debt financing for the
acquisition of $31.7 million was recorded as an intangible asset and
was amortized on a straight-line method over 40 years. The allocation
of the purchase price to the acquired assets and liabilities of
Synergy was based on fair value of the related assets and liabilities.
The Company has asserted claims under the acquisition agreement for
post-closing adjustments related to the acquisition of Synergy.
The Company's investments in SYN Inc. were funded primarily by
financings undertaken in 1995. During the third quarter of 1995, the
Company issued $60 million of 7.10% general mortgage bonds due August
1, 2005, 1.3 million shares of 8 1/8% preferred securities of
subsidiary trust and 1.2 million shares of common stock.
On December 7, 1995, the Company acquired majority control of Myers
through the issuance of 42,890 shares of common stock and 11,500
shares of 6 1/2% redeemable cumulative preferred stock. Myers is a
retail distributor of propane serving approximately 4,500 customers in
and around Sandusky, Ohio. The total purchase price of $4.8 million
was comprised of the securities issued by the Company and seller
financing. The acquisition was accounted for under the purchase method
of accounting. The cost in excess of fair value of the net assets
acquired of $1.9 million was classified as goodwill and was amortized
on a straight-line method over 40 years.
On October 7, 1996, the Company completed the acquisition of Energy, a
retail distributor of propane. Energy maintained 168 retail branches
serving approximately 130,000 customers in 10 states, primarily in
southeast and midwest regions of the United States. The total purchase
price of $120 million was comprised of cash, assumption of certain
liabilities including long-term debt of $94 million and transaction
related costs. The cost in excess of the fair value of the net
64
tangible assets acquired was classified as goodwill and was amortized
on a straight-line method over 40 years. The allocation of the
purchase price to the acquired assets and liabilities of Energy was
based on fair value of the related assets and liabilities.
Had the acquisitions of Coast, Energy, Myers and Synergy and the
Partnership Formation occurred on January 1, 1995, combined unaudited
pro forma results for the year ended December 31, 1996, as prescribed
under Accounting Principles Board Opinion No. 16 (APB 16), "Business
Combinations," would have been: revenues $770,031,000, net income
$18,771,000 and earnings per share $1.05. The pro forma disclosures
required under APB 16 are not indicative of past or future operating
results. Since the acquisitions and Partnership Formation, the Company
has implemented significant cost reduction measures principally
related to elimination of certain employee positions, corporate
administrative expenses and other specifically identified operating
expenses that have not been reflected in the pro forma information
under the provisions of APB 16.
3. SHORT-TERM BORROWINGS
The Company may issue short-term debt in the form of bank loans and
commercial paper as interim financing for general corporate purposes.
The bank loans may be obtained under short-term lines of credit. The
Company's aggregate lines of credit available are $32 million at
December 31, 1997. The Company pays an annual fee generally equivalent
to 1/4% of the unused lines. There were no line of credit borrowings
or commercial paper outstanding at December 31, 1997 and 1996.
4. LONG-TERM DEBT
Substantially all of the Company's electric and gas utility plant is
subject to the lien of the indentures securing its general mortgage
bonds and pollution control obligations. General mortgage bonds of the
Company may be issued in amounts limited by property, earnings and
other provisions of the mortgage indenture. In March 1997, the Company
retired early the $7.5 million outstanding of the 8.9% series general
mortgage bonds. In July 1997, the Company retired early the $15
million outstanding of the 8.824% series general mortgage bonds. The
following table summarizes the Company's general mortgage bonds and
pollution control obligations at December 31 (in thousands):
65
Series Due 1997 1996
------ --- ---- ----
General mortgage bonds -
8.824% 1998 $ - $ 15,000
8.9% 1999 - 7,500
6.99% 2002 25,000 25,000
7.10% 2005 60,000 60,000
7% 2023 55,000 55,000
Pollution control obligations -
5.85%, Mercer Co., ND 2023 7,550 7,550
5.90%, Salix, IA 2023 4,000 4,000
5.90%, Grant Co., SD 2023 9,800 9,800
Less current maturities (5,000) -
------- --------
$156,350 $183,850
In conjunction with the Partnership Formation in December 1996, the
Partnership issued $220 million in First Mortgage Notes (Notes). These
Notes are collateralized by substantially all of the assets of the
Partnership and ranks pari passu with the Bank Credit Facility. The
Notes bear interest at a fixed rate of 7.53% payable semi-annually and
mature in the year 2010 with eight equal annual installments beginning
in the year 2003. The Partnership may, at its options and under
certain circumstances following the disposition of assets, be required
to offer to prepay the Notes in whole or in part. The Note agreement
contains restrictive covenants applicable to the Partnership including
a) restrictions on the incurrence of additional indebtedness, b)
restrictions on the ratio of consolidated cash flow to consolidated
interest expense of the Partnership, as defined, and c) restrictions
on certain liens, loans and investments, payments, mergers,
consolidations, sales of assets and other transactions. Generally, as
long as no default exists or would result, the Partnership is
permitted to make cash distributions not more frequently than
quarterly in an amount not to exceed available cash, as defined, for
the immediately preceding calendar quarter.
The Partnership also entered into a Bank Credit Facility in December
1996 with a group of commercial banks. The Bank Credit Facility
consists of a $50 million Working Capital Credit Facility and a $75
million Acquisition Facility to finance propane business acquisitions.
There were $23,500,000 and $12,500,000 of borrowings outstanding under
the Working Capital Facility and the Acquisition Facility at December
31, 1997. There were $10,445,000 of borrowings outstanding under the
Working Capital Facility at December 31,1996. There were no
outstanding borrowings on the Acquisition Facility at December 31,
1996. The Bank Credit Facility bears interest at a variable rate tied
to a certain Eurodollar index or prime rate, plus a variable margin
for either rate which depends upon the Partnership's ratio of
consolidated debt to consolidated cash flow. The Bank Credit Facility
matures in December 1999. The Bank Credit Facility is collateralized
by substantially all the assets of the Partnership and ranks pari
passu with the First Mortgage Notes. The Bank Credit Facility contains
66
restrictive covenants applicable to the Partnership including a)
restrictions on the incurrence of additional indebtedness, b)
restrictions on the ratio of consolidated cash flow to consolidated
interest expense of the Partnership, as defined, and c) restrictions
on certain liens, loans and investments, payments, mergers,
consolidations, sales of assets and other transactions. They also
require that the Partnership maintain a ratio of total funded
indebtedness to consolidated cash flow, as defined. Generally, as long
as no default exists or would result, the Partnership is permitted to
make cash quarterly distributions in an amount not to exceed Available
Cash, as defined.
Lucht Inc. has a credit agreement with a bank whereby it may borrow up
to $8 million in revolving and term loans. Balances of $3,070,000 and
$3,290,000 were outstanding under the revolving and term loan as of
December 31, 1997 and 1996, at a weighted average interest rate of 8%.
Borrowings under the agreement are collateralized by all receivables,
inventories, property and other assets of Lucht and are nonrecourse to
the Company.
SYN Inc. had a credit agreement with a bank whereby it could borrow up
to $30 million in revolving loans. The facility was repaid in
conjunction with the Partnership Formation.
The balance of other nonrecourse debt is comprised of the debt assumed
and issued in conjunction with acquisitions of retail propane
distribution centers of $10,524,000 and $8,072,000 at December 31,
1997 and 1996.
Annual scheduled consolidated retirements of long-term debt during the
next five years are $7,814,000 in 1998, $7,770,000 in 1999, $8,870,000
in 2000, $8,452,000 in 2001 and $8,300,000 in 2002.
5. CAPITAL STOCK TRANSACTIONS AND RETAINED EARNINGS AVAILABILITY
As part of financing the Synergy acquisition, the Company issued 1.2
million shares of common stock in 1995. The Company also issued 1.3
million shares of 8 1/8% preferred securities of subsidiary trust,
which mature in September 2025. In financing the Myers acquisition,
the Company issued 42,890 shares of common stock and 11,500 shares of
redeemable cumulative preferred stock. Preferred stock transactions
for the three years ended December 31, 1997, have also included
redemptions to satisfy mandatory sinking fund requirements. The
following table summarizes the capital stock transactions that
occurred during the year (in thousands):
67
Preferred Common Additional
Stock Stock Paid in Capital
--------- ------ ---------------
Balance 12-31-95 $3,760 $31,220 $56,595
Mandatory sinking
fund redemption (10) - -
------ ------- -------
Balance 12-31-96 3,750 31,220 56,595
Common stock - 4 -
------ ------- -------
Balance 12-31-97 $3,750 $31,224 $56,595
====== ======= =======
There were 2,500 shares of subsidiary preferred stock outstanding at
December 31, 1996 and 1995. The subsidiary preferred stock was
redeemed in January 1997.
In December 1996, the Company's Board of Directors declared, pursuant
to a stockholders' rights plan, a dividend distribution of one Right
on each outstanding share of the Company's common stock. Each Right
becomes exercisable, upon the occurrence of certain events, at an
exercise price of $50 per share, subject to adjustment. The Rights are
currently not exercisable and will be exercisable only if a person or
group of affiliated or associated persons (Acquiring Person) either
acquires ownership of 15% or more of the Company's common stock or
commences a tender or exchange offer that would result in ownership of
15% or more. In the event the Company is acquired in a merger or
other business combination transaction or 50% or more of its
consolidated assets or earnings power are sold, each Right entitles
the holder to receive such number of shares of common stock of the
Acquiring Person having a market value of two times the then current
exercise price of the Right. The Rights, which expire in December
2006, are redeemable in whole, but not in part, at a price of $.005
per Right, at the Company's option at any time until any Acquiring
Person has acquired 15% or more of the Company's common stock.
68
6. COMMON AND PREFERRED STOCK EQUITY
The following table summarizes the Company's common and preferred
stock equity at December 31(dollars in thousands, except par value):
1997 1996
---- ----
COMMON STOCK EQUITY:
Common stock, $1.75 par value,
50,000,000 and 40,000,000 shares authorized
at December 31, 1997 and 1996;
17,842,524 and 17,840,244 shares outstanding
at December 31, 1997 and 1996 $ 31,224 $ 31,220
Additional paid-in capital 56,595 56,595
Retained earnings 72,915 66,144
Unrealized gain on investments, net 5,862 9,846
--------- ---------
$ 166,596 $ 163,805
========= =========
CUMULATIVE PREFERRED STOCK:
$100 par value, 1,000,000 shares authorized;
37,500 shares outstanding
Nonredeemable
4 1/2% Series $ 2,600 $ 2,600
Redeemable
6 1/2% Series 1,150 1,150
--------- ----------
$ 3,750 $ 3,750
========= ==========
7. INCOME TAXES
Income tax expense is comprised of the following (in thousands):
1997 1996 1995
---- ---- ----
Federal income -
Current tax expense $ 4,620 $ 9,174 $ 7,849
Deferred tax expense 6,512 5,830 2,540
Investment tax credit (559) (561) (563)
State income 538 972 300
-------- -------- --------
$ 11,111 $ 15,415 $ 10,126
======== ======== ========
69
The following table reconciles the Company's effective income tax rate
to the federal statutory rate:
1997 1996 1995
---- ---- ----
Federal statutory rate 35% 35% 35%
State income, net of federal benefit 1 2 -
Amortization of investment tax credit (2) (1) (2)
Dividends received deduction (2) (1) (5)
Other, net 1 2 6
----- ----- -----
33% 37% 34%
===== ===== =====
The components of the net deferred federal income tax liability
recognized in the Company's Consolidated Balance Sheet are related to
the following temporary differences at December 31 (in thousands):
1997 1996
---- ----
Excess tax depreciation $(79,366) $(77,032)
Safe harbor leases (4,514) (5,630)
Property basis and life differences (12,902) (6,480)
Asset sales (4,273) (3,967)
Regulatory assets (3,057) (3,489)
Regulatory liabilities 4,512 4,189
Unbilled revenue 5,746 3,596
Unamortized investment tax credit 3,491 3,491
Unrealized gain on investments (3,399) (5,302)
Other, net 20,878 19,730
-------- --------
$(72,884) $(70,894)
======== ========
8. JOINTLY OWNED PLANTS
The Company has an ownership interest in three major electric
generating plants, all of which are operated by other utility
companies. The Company has an undivided interest in these facilities
and is responsible for its proportionate share of the capital and
operating costs while being entitled to its proportionate share of the
power generated. The Company's interest in each plant is reflected in
the Consolidated Balance Sheet on a pro rate basis and its share of
operating expenses is reflected in the Consolidated Statement of
Income and Retained Earnings. The participants each finance their own
investment.
The Company has long-term coal contracts for delivery of lignite coal
to Coyote I and sub-bituminous coal to Neal #4. The lignite coal
contract for Big Stone expired in mid-1995 and the plant owners
negotiated a contract for minimum annual purchases of 1.2 million tons
of Montana sub-bituminous coal for the period of mid-1995 through
1999. The lignite contract for Coyote I is a total requirements
contract with a minimum obligation of 30,000 tons per week except
during scheduled or forced outages. Neal #4 has a contract for
70
delivery of sub-bituminous coal with an annual minimum purchase
requirement of 1.8 million tons. Information relating to the Company's
ownership interest in these facilities at December 31, 1997, is as
follows (dollars in thousands):
Big Stone Neal #4 Coyote I
-----------------------------------
Utility plant in service $46,585 $34,993 $46,610
Accumulated depreciation $24,740 $17,889 $20,124
Construction work in progress $ 323 $ 333 $ 396
Total plant capacity - mw $ 449 $ 624 $ 427
Company's share 23.4% 8.7% 10.0%
In-service date 1975 1979 1981
Coal contract expiration date 1999 1998 2016
9. EMPLOYEE RETIREMENT BENEFIT
The Company maintains a noncontributory defined benefit pension plan
covering substantially all employees. The benefits to which an
employee is entitled under the plan are derived using a formula based
on the number of years of service and compensation levels as defined.
The Company determines the annual funding for its plan using the
frozen initial liability cost method. The Company's annual
contribution is funded in accordance with the requirements of ERISA.
Assets of the plan consist primarily of debt and equity securities.
The components of net periodic pension cost for the years ended
December 31, 1997, 1996 and 1995 were as follows (in thousands):
1997 1996 1995
---- ---- ----
Service cost $ 981 $ 958 $ 755
Interest cost on projected benefit obligation 3,500 3,506 3,144
Actual return on assets (10,024) (5,745) (10,082)
Net amortization and deferral 5,669 1,608 6,475
--------- -------- ---------
Net periodic pension cost $ 126 $ 327 $ 292
========= ======== =========
71
The following table reflects the funded status of the Company's
pension plan as of December 31, 1997, 1996 and 1995 (in thousands):
1997 1996 1995
---- ---- ----
Actuarial present value of:
Accumulated benefit obligation
Vested $ 48,244 $ 43,950 $ 39,946
Nonvested 1,674 1,577 1,417
--------- -------- ---------
49,918 45,527 41,363
Provision for future pay increases 4,738 4,531 5,488
--------- -------- ---------
Projected benefit obligation 54,656 50,058 46,851
Plan assets at fair value 64,390 56,507 52,762
--------- -------- ---------
Projected benefit obligation less than plan assets (9,734) (6,449) (5,911)
Unrecognized transition obligation (1,237) (1,392) (1,547)
Unrecognized net gain 6,845 4,821 5,381
--------- -------- ---------
Prepaid pension cost $ (4,126) $ (3,020) $ (2,077)
========= ======== =========
The assumptions used in calculating the projected benefit obligation
for 1997, 1996 and 1995 were as follows:
1997 1996 1995
---- ---- ----
Discount rate 7.00% 7.25% 7.75%
Expected rate of return on assets 8.50% 8.50% 8.50%
Long-term rate of increase in
compensation levels 3% 3% 3%
The Company provides an employee savings plan which permits all
employees to defer receipt of compensation as provided in Section
401(k) of the Internal Revenue Code. Under the plan, any employee may
elect to direct up to 12 percent of their gross compensation be
contributed to the plan. The Company contributes 50 cents for every
one dollar contributed by the employee, up to a maximum Company
contribution of three percent of the employee's gross compensation.
Costs incurred under the plan were $575,000, $594,000 and $479,000 in
1997, 1996 and 1995. The Company also provides an Employee Stock
Ownership Plan (ESOP) for full-time employees. The ESOP is funded
primarily with federal income tax savings, which arise from tax laws
applicable to such employee benefit plans. Certain Company
contributions and shares of stock acquired by the ESOP are allocated
to participants' accounts in proportion to the compensation of
employees during the particular year for which allocation is made.
Costs incurred under the plan were $901,000, $849,000 and $810,000 in
1997, 1996 and 1995.
The Company also has various supplemental retirement plans for outside
directors and selected management employees. The plans are
nonqualified defined benefit plans that provide for certain amounts of
salary continuation in the event of death before or after retirement
72
or certain supplemental retirement benefits in lieu of any death
benefits. In addition, the Company provides life insurance benefits to
beneficiaries of all eligible employees who represent a reasonable
insurable risk. To minimize the overall cost of plans providing life
insurance benefits, the Company has obtained life insurance coverage
that is sufficient to fund benefit obligations. Costs incurred under
the plans were $1,159,000, $1,291,000 and $648,000 in 1997, 1996 and
1995.
Cornerstone provides employee savings plans, which permits all
employees to defer receipt of compensation as provided in Section
401(k) of the Internal Revenue Code. Under the plans, any employee may
elect to direct a percentage of their gross compensation be
contributed to the plans. Cornerstone, at its discretion, may match a
portion of the employee contribution.
Lucht has a 401(k) retirement plan, whereby it matches participant
contributions in an amount equal to 50% of each participant's
contribution. Company contributions to the plan were not material.
10. ENVIRONMENTAL MATTERS
The Company is subject to environmental regulations from numerous
entities. The Clean Air Act Amendments of 1990 (the Act) stipulate
limitations on sulfur dioxide and nitrogen oxide emissions from coal-
fired power plants. The Company believes it can economically meet such
sulfur dioxide emission requirements at its generating plants by the
required compliance dates and that it is in compliance with all
presently applicable environmental protection requirements and
regulations. The Company is also subject to other environmental
regulations including matters related to former manufactured gas plant
sites. In 1995, the Company remediated a site located at Huron, South
Dakota through thermal desorption of residues in the soil. Adjustments
of the Company's natural gas rates to reflect the costs associated
with the remediation were approved through the regulatory process. The
Company is pursuing recovery from insurance carriers. No
administrative or judicial proceedings involving the Company are now
pending or known by the Company to be contemplated under present
environmental protection requirements.
11. CUMULATIVE PREFERRED STOCK AND PREFERENCE STOCK
The provisions of the 6 1/2% Series stock contain a five-year put
option exercisable by the holders of the securities and a 10-year
redemption option exercisable by the Company. In any event,
redemption will occur at par value. The cumulative preferred stock, 4
1/2% Series, may be redeemed in whole or in part at the option of the
Board of Directors at any time upon at least 30 days notice at $110.00
per share, plus accrued dividends.
In the event of involuntary dissolution, all Company preferred stock
outstanding would have a preferential interest of $100 per share, plus
accumulated dividends, before any distribution to common stockholders.
The Company is also authorized to issue a maximum of 1,000,000 shares
of preference stock at a par value of $50 per share. No preference
shares have ever been issued.
73
12. SEGMENTS OF BUSINESS
The four primary segments of the Company's business are its electric,
natural gas distribution, propane and manufacturing operations. The
following table summarizes certain information specifically
identifiable with each segment as of or for the years ended December
31 (in thousands):
1997 1996 1995
---- ---- ----
Depreciation and Amortization Expense:
Electric $ 11,317 $ 10,620 $ 10,503
Natural Gas 2,584 2,492 2,185
Propane 16,784 5,730 1,562
Manufacturing 550 572 383
------------ ----------- ---------
$ 31,235 $ 19,414 $ 14,633
------------ ----------- ---------
Maintenance Capital Expenditures:
Electric $ 12,334 $ 19,598 $ 17,868
Natural Gas 5,876 8,172 6,521
Propane 4,056 7,349 4,726
Manufacturing 134 51 522
------------ ----------- ---------
$ 22,400 $ 35,170 $ 29,637
------------ ----------- ---------
Assets:
Identifiable
Electric $ 228,011 $ 223,262 $ 218,006
Natural Gas 78,919 66,213 59,384
Propane 622,077 611,707 173,665
Manufacturing 14,641 14,946 16,409
Corporate assets 162,475 197,588 91,257
----------- ----------- ---------
$ 1,106,123 $ 1,113,716 $ 558,721
----------- ----------- ---------
Identifiable assets include all assets that are used directly in each
business segment. Corporate assets consist of assets not directly
assignable to a business segment, i.e., cash, investments, certain
accounts receivable, prepayments and other miscellaneous current and
deferred assets.
74
13. QUARTERLY FINANCIAL DATA (UNAUDITED)
(In Thousands Except
Per Share Amounts) First Second Third Fourth
----------------------------------------------------------------------------------------------------
1997:
Operating revenues $284,406 $165,451 $185,084 $283,129
Operating income 27,932 4,497 4,033 22,535
Net income 10,523 3,158 3,722 8,861
Average shares 17,842 17,843 17,843 17,843
Earnings per average
common share $ .55 $ .14 $ .17 $ .45
-------- -------- -------- --------
1996:
Operating revenues $ 97,219 $ 56,681 $ 49,705 $140,404
Operating income 23,813 6,436 4,652 15,517
Net income 13,309 3,353 1,301 8,091
Average shares 17,840 17,840 17,840 17,840
Earnings per average
common share $ .70 $ .14 $ .03 $ .41
-------- -------- -------- --------
75
FINANCIAL AND OPERATING STATISTICS
1997 1996 1995 1994 1993 1992
---- ---- ---- ---- ---- ----
INCOME STATEMENT DATA (000)
Operating revenues $ 918,070 $ 344,009 $ 204,970 $ 157,266 $ 153,257 $ 119,197
Operating income 58,997 50,418 38,097 30,536 27,273 24,809
Net income 26,264 26,054 19,306 15,440 15,191 13,721
Earnings per share $ 1.31 $ 1.28 $ 1.11 $ 1.00 $ 0.98 $ 0.88
-------------------------------------------------------------------------------------------------------------------------
COMMON STOCK DATA
Average share outstanding
at year end(000) 17,843 17,840 16,261 15,354 15,354 15,354
Dividends paid per
common share $ .933 $ .890 $ .873 $ .835 $ .815 $ .795
Annual dividend rate
at year end $ .97 $ .92 $ .88 $ .85 $ .83 $ .81
Book value per share
at year end $ 9.34 $ 9.18 $ 8.56 $ 7.47 $ 7.14 $ 6.98
Market price per
common at year end $ 23.00 $ 17.13 $ 14.00 $ 13.38 $ 14.38 $ 14.00
Price earnings ratio 17.6x 13.4x 12.7x 13.4x 14.7x 15.8x
Dividend payout ratio
(from ongoing operations) 71.2% 74.8% 79.0% 83.5% 83.2% 89.8%
Return on average
common equity 14.1% 14.4% 13.7% 13.1% 13.7% 12.8%
Common shareholders at
year end 8,845 8,750 8,738 8,132 8,231 8,279
-------------------------------------------------------------------------------------------------------------------------
RATIOS
Interest coverage 5.4* 4.3* 4.3* 5.1* 5.1* 4.1
Ratio of earnings to
fixed charges 3.0 3.2 3.4 3.4 3.5 3.4
Ratio of earnings to fixed
charges, including dividends
and minority interest on
preferred securities 2.6 2.7 3.1 3.4 3.5 3.3
-------------------------------------------------------------------------------------------------------------------------
BALANCE SHEET
Total assets (000) $1,106,123 $1,113,716 $ 558,721 $ 359,066 $ 343,574 $ 308,194
Long-term debt (000) 161,350 183,850 183,850 123,850 123,850 105,350
Redeemable preferred
stock (000) 1,150 1,150 1,160 40 70 100
Capitalization ratios**:
Common Stock equity 45.7% 42.7% 41.0% 47.6% 46.4% 49.8%
Preferred securities of
subsidiary trust 8.9% 8.4% 8.7% - - -
Preferred stock 1.0% 1.0% 1.0% 1.1% 1.1% 1.2%
Long-term debt 44.4% 47.9% 49.3% 51.3% 52.5% 49.0%
-------------------------------------------------------------------------------------------------------------------------
76
FINANCIAL AND OPERATING STATISTICS (continued)
1997 1996 1995 1994 1993 1992
---- ---- ---- ---- ---- ----
ELECTRIC OPERATIONS
Total customers 55,805 55,600 55,310 54,863 54,288 53,773
Retail sales (000 kwh) 1,114,192 1,082,704 1,071,328 1,018,509 964,477 894,077
Sales for resale
(000 kwh) 212,848 75,334 127,172 182,032 191,170 159,785
Electricity generated
(000 kwh) 1,364,680 1,101,211 1,232,054 1,235,640 1,179,716 1,088,783
Electricity purchased
(000 kwh)*** 54,171 171,615 75,777 67,440 80,937 60,323
Total system capability at
peak (kw) 325,259 321,522 326,162 309,480 307,442 290,045
Total system peak
load (kw) 270,099 260,159 272,722 229,922 237,188 191,591
Residential revenue per
kwh sold (cents) 7.35 7.35 7.43 7.57 7.60 7.81
-------------------------------------------------------------------------------------------------------------------------
PROPANE OPERATIONS
Total Customers 380,000 360,000 156,000 - - -
Retail sales
(000 gallons) 220,833 141,388 37,805 - - -
Wholesale Sales
(000 gallons) 479,055 18,617 - - - -
Percent colder (warmer)
than previous year (3.9) 8.1 18.7 - - -
-------------------------------------------------------------------------------------------------------------------------
NATURAL GAS OPERATIONS
Total Customers 78,531 77,478 76,464 74,982 73,228 70,934
Total sales
(000 mmbtu) 14,017 15,340 14,353 13,770 14,478 12,044
Transported volumes
(000 mmbtu) 2,394 981 851 980 333 296
Percent colder (warmer)
than previous year- SD (1.4) 7.5 (1.2) (4.2) 16.4 (9.4)
Percent colder (warmer)
than previous year-NE (0.7) (2.2) 8.1 (9.7) 22.6 (16.2)
-------------------------------------------------------------------------------------------------------------------------
EMPLOYEES
Electric and natural gas 444 436 441 452 473 463
Propane (includes
seasonal workers) 2,206 1,995 858 - - -
Manufacturing 145 150 174 163 168 185
* New General Mortgage Indenture executed in August 1993.
** Reflects capitalization of the Company excluding nonrecourse
capitalization of subsidiaries.
*** Includes short-term power pool purchases.