1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from ______________ to _______________
------------------------------
Commission file number 1-3187
HOUSTON INDUSTRIES INCORPORATED
(Exact name of registrant as specified in its charter)
Texas 74-0694415
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1111 Louisiana
Houston, Texas 77002
(Address of principal executive offices) (Zip Code)
(713) 207-3000
(Registrant's telephone number, including area code)
------------------------------
Commission file number 1-13265
NORAM ENERGY CORP.
(Exact name of registrant as specified in its charter)
Delaware 76-0511406
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1111 Louisiana
Houston, Texas 77002
(Address of principal executive offices) (Zip Code)
(713) 207-3000
(Registrant's telephone number, including area code)
-----------------------------
NORAM ENERGY CORP. MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION H(1)(a)
AND (b) OF FORM 10-Q AND IS THEREFORE FILING THIS FORM 10-Q WITH THE REDUCED
DISCLOSURE FORMAT.
Indicate by check mark whether the registrants: (1) have filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrants were required to file such reports), and (2) have been subject to
such filing requirements for the past 90 days. Yes [X] No [ ]
As of May 6, 1998, Houston Industries Incorporated had 296,039,637 shares of
common stock outstanding, including 11,984,708 ESOP shares not deemed
outstanding for financial statement purposes and excluding 98,866 shares held as
treasury stock. As of May 6, 1998, all 1,000 shares of NorAm Energy Corp.'s
common stock were held by Houston Industries Incorporated.
2
THIS COMBINED QUARTERLY REPORT ON FORM 10-Q IS SEPARATELY FILED BY
HOUSTON INDUSTRIES INCORPORATED (COMPANY) AND NORAM ENERGY CORP. (NORAM).
INFORMATION CONTAINED HEREIN RELATING TO NORAM IS FILED BY THE COMPANY AND
SEPARATELY BY NORAM ON ITS OWN BEHALF. NORAM MAKES NO REPRESENTATION AS TO
INFORMATION RELATING TO THE COMPANY (EXCEPT AS IT MAY RELATE TO NORAM AND ITS
SUBSIDIARIES), HOUSTON INDUSTRIES ENERGY, INC., HOUSTON INDUSTRIES POWER
GENERATION, INC. OR ANY OTHER AFFILIATE OR SUBSIDIARY OF THE COMPANY.
HOUSTON INDUSTRIES INCORPORATED
AND NORAM ENERGY CORP.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 1998
TABLE OF CONTENTS
Part I. Financial Information Page No.
- ------- --------------------- --------
COMPANY
Item 1. Financial Statements
Statements of Consolidated Income
Three Months Ended March 31, 1998 and 1997 1
Consolidated Balance Sheets
March 31, 1998 and December 31, 1997 2
Statements of Consolidated Cash Flows
Three Months Ended March 31, 1998 and 1997 4
Statements of Consolidated Retained Earnings
Three Months Ended March 31, 1998 and 1997 5
Notes to Unaudited Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of
Operations of the Company 16
Item 3. Quantitative and Qualitative Disclosure
About Market Risk of the Company 29
NORAM
Item 1. Financial Statements
Statements of Consolidated Income
Three Months Ended March 31, 1998 and 1997 30
Consolidated Balance Sheets
March 31, 1998 and December 31, 1997 31
Statements of Consolidated Cash Flows
Three Months Ended March 31, 1998 and 1997 33
(i)
3
Consolidated Statements of Stockholders' Equity
Three Months Ended March 31, 1998 and 1997 34
Notes to Unaudited Consolidated Financial Statements 36
Item 2. Management's Narrative Analysis of the
Results of Operations of NorAm Energy Corp.
And Consolidated Subsidiaries 39
Item 3. Quantitative and Qualitative Disclosure
About Market Risk of NorAm (omitted pursuant
to General Instruction H(2)(c))
Part II. Other Information
Item 1. Legal Proceedings 47
Item 2. Changes in Securities and Use of Proceeds 47
Item 6. Exhibits and Reports on Form 8-K 47
Signature(s) 48
(ii)
4
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED INCOME
(THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Three Months Ended
March 31,
----------------------------
1998 1997
----------- -----------
REVENUES:
Electric Operations ........................................ $ 846,562 $ 856,534
Natural Gas Distribution ................................... 716,896
Interstate Pipeline ........................................ 70,981
Energy Marketing ........................................... 1,045,619
International .............................................. 27,246 19,830
Other ...................................................... 24,106 1,737
Eliminations ............................................... (94,698)
----------- -----------
Total ................................................ 2,636,712 878,101
----------- -----------
EXPENSES:
Fuel and cost of gas sold .................................. 1,286,092 223,965
Purchased power ............................................ 412,652 100,992
Operation and maintenance .................................. 375,897 196,010
Taxes other than income taxes .............................. 88,777 62,454
Depreciation and amortization .............................. 175,599 130,990
Other operating expenses ................................... 16,726 7,474
----------- -----------
Total .............................................. 2,355,743 721,885
----------- -----------
OPERATING INCOME .............................................. 280,969 156,216
----------- -----------
OTHER INCOME (EXPENSE):
Unrealized loss on ACES .................................... (189,320)
Time Warner dividend income ................................ 10,313 10,403
Interest income - IRS refund ............................... 981
Other - net ................................................ 6,233 (1,762)
----------- -----------
Total .............................................. (171,793) 8,641
----------- -----------
INTEREST AND OTHER CHARGES:
Interest on long-term debt ................................. 106,029 62,801
Other interest ............................................. 24,359 16,410
Distributions on trust securities .......................... 7,410 4,519
Allowance for borrowed funds used during
construction ........................................... (957) (1,100)
Preferred dividends of subsidiary .......................... 2,125
----------- -----------
Total .............................................. 136,841 84,755
----------- -----------
INCOME (LOSS) BEFORE INCOME TAXES AND PREFERRED DIVIDENDS ..... (27,665) 80,102
INCOME TAXES .................................................. 3,575 20,482
PREFERRED DIVIDENDS ........................................... 97
----------- -----------
NET INCOME (LOSS) ............................................. $ (31,337) $ 59,620
=========== ===========
BASIC EARNINGS (LOSS) PER COMMON SHARE ........................ $ (.11) $ .26
DILUTED EARNINGS (LOSS) PER COMMON SHARE ...................... $ (.11) $ .26
See Notes to Consolidated Financial Statements.
1
5
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
ASSETS
March 31, December 31,
1998 1997
----------- -----------
PROPERTY, PLANT AND EQUIPMENT - AT COST:
Electric plant:
Plant in service .................................. $12,725,730 $12,614,000
Construction work in progress ..................... 172,893 224,959
Nuclear fuel ...................................... 256,423 255,567
Plant held for future use ......................... 48,631 48,631
Gas plant and pipelines:
Natural gas distribution .......................... 1,351,870 1,326,442
Interstate pipelines .............................. 1,259,530 1,258,087
Energy marketing .................................. 167,573 162,519
Other property ....................................... 164,580 149,019
----------- -----------
Total ....................................... 16,147,230 16,039,224
Less accumulated depreciation and amortization ....... 4,907,060 4,770,179
----------- -----------
Property, plant and equipment - net ......... 11,240,170 11,269,045
----------- -----------
CURRENT ASSETS:
Cash and cash equivalents ............................ 139,066 51,712
Accounts receivable - net ............................ 698,323 962,974
Accrued unbilled revenues ............................ 136,381 205,860
Time Warner dividends receivable ..................... 10,313 10,313
Fuel stock and petroleum products .................... 63,398 88,819
Materials and supplies, at average cost .............. 151,407 156,160
Restricted deposit for bond redemption ............... 290,000
Prepayments and other current assets ................. 25,485 42,169
----------- -----------
Total current assets ........................ 1,514,373 1,518,007
----------- -----------
OTHER ASSETS:
Goodwill--net ........................................ 2,013,907 2,026,395
Investment in Time Warner securities ................. 990,000 990,000
Equity investments in and advances to foreign and
non-rate regulated affiliates - net ............... 712,888 704,102
Deferred plant costs - net ........................... 555,124 561,569
Deferred debits ...................................... 503,904 510,686
Regulatory tax asset - net ........................... 355,065 356,509
Unamortized debt expense and premium on
reacquired debt ................................... 213,617 202,453
Fuel-related debits .................................. 184,604 197,304
Recoverable project costs - net ...................... 68,230 78,485
----------- -----------
Total other assets .......................... 5,597,339 5,627,503
----------- -----------
Total .................................... $18,351,882 $18,414,555
=========== ===========
See Notes to Consolidated Financial Statements.
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6
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
CAPITALIZATION AND LIABILITIES
March 31, December 31,
1998 1997
------------ ------------
CAPITALIZATION:
Common stock equity:
Common stock, no par value ..................................................... $ 3,122,071 $ 3,112,098
Treasury stock, at cost ........................................................ (2,207) (2,066)
Unearned ESOP shares ........................................................... (226,175) (229,827)
Retained earnings .............................................................. 1,875,213 2,013,055
Foreign currency loss .......................................................... (702) (821)
Unrealized loss on marketable equity securities ................................ (4,255) (5,634)
------------ ------------
Total common stock equity ............................................... 4,763,945 4,886,805
------------ ------------
Preference stock, none outstanding
Cumulative preferred stock, no par value,
not subject to mandatory redemption ............................................ 9,740 9,740
------------ ------------
Company/NorAm obligated mandatorily redeemable trust
preferred securities of subsidiary trusts holding solely subordinated debentures
of Company/NorAm ............................................................... 355,952 362,172
------------ ------------
Long-term debt:
Automatic common exchange securities (ACES) .................................... 1,363,106 1,173,786
Debentures ..................................................................... 969,002 669,291
First mortgage bonds ........................................................... 1,931,610 2,495,459
Notes payable .................................................................. 742,534 745,889
Pollution control revenue bonds ................................................ 512,685 118,000
Other .......................................................................... 15,364 15,590
------------ ------------
Total long-term debt .................................................... 5,534,301 5,218,015
------------ ------------
Total capitalization ................................................ 10,663,938 10,476,732
------------ ------------
CURRENT LIABILITIES:
Notes payable ............................................................... 1,738,004 2,124,956
Accounts payable ............................................................ 725,480 879,612
Taxes accrued ............................................................... 172,165 240,739
Interest accrued ............................................................ 102,781 109,901
Dividends declared .......................................................... 113,552 110,716
Customer deposits ........................................................... 82,064 82,437
Current portion of long-term debt ........................................... 708,421 251,169
Other ....................................................................... 158,328 193,384
------------ ------------
Total current liabilities ............................................. 3,800,795 3,992,914
------------ ------------
DEFERRED CREDITS:
Accumulated deferred income taxes ................................................. 2,737,976 2,792,781
Benefit liabilities ............................................................... 405,600 397,586
Unamortized investment tax credit ................................................. 344,041 349,072
Fuel-related credits .............................................................. 69,775 75,956
Other ............................................................................. 329,757 329,514
------------ ------------
Total deferred credits ................................................ 3,887,149 3,944,909
------------ ------------
COMMITMENTS AND CONTINGENCIES
Total ................................................................. $ 18,351,882 $ 18,414,555
============ ============
See Notes to Consolidated Financial Statements.
3
7
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
Three Months Ended
March 31,
------------------------
1998 1997
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) .......................................................................... $ (31,337) $ 59,620
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Depreciation and amortization ........................................................... 175,599 130,990
Amortization of nuclear fuel ............................................................ 6,714 6,657
Deferred income taxes ................................................................... (54,805) 6,191
Investment tax credit ................................................................... (5,031) (4,879)
Unrealized loss on ACES ................................................................. 189,320
Fuel surcharge .......................................................................... 21,966 31,239
Fuel cost (under) recovery .............................................................. (28,381) (39,828)
Changes in other assets and liabilities:
Accounts receivable - net ............................................................ 193,598 8,365
Accounts receivable - IRS ............................................................ 140,532
Inventory ............................................................................ 31,389 9,138
Other current assets ................................................................. 35,222 9,831
Accounts payable ..................................................................... (154,132) (55,588)
Interest and taxes accrued ........................................................... (75,694) (103,121)
Other current liabilities ............................................................ (51,188) (21,743)
Other - net .......................................................................... 30,297 1,822
--------- ---------
Net cash provided by operating activities ........................................ 424,069 38,694
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (including allowance for borrowed funds used during construction) ..... (108,497) (44,384)
Non-rate regulated electric power project expenditures (including capitalized interest) .... (4,926) (18,913)
Other - net ................................................................................ (9,225) (1,880)
--------- ---------
Net cash used in investing activities ............................................ (122,648) (65,177)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from sale of Company obligated mandatorily redeemable trust
preferred securities of subsidiary trusts holding solely subordinated
debentures of
Company - net ........................................................................... 340,810
Payment of matured bonds ................................................................... (1,000) (190,000)
Proceeds from issuance of debentures ....................................................... 300,000
Restricted deposit for bond redemption ..................................................... (290,000)
Proceeds from issuance of pollution control revenue bonds .................................. 386,757 115,795
Redemption of preferred stock .............................................................. (127,928)
Payment of common stock dividends .......................................................... (106,448) (87,567)
Increase (decrease) in notes payable - net ................................................. (390,307) 101,750
Extinguishment of long-term debt ........................................................... (107,263) (120,360)
Conversion of convertible securities ....................................................... (3,255)
Other - net ................................................................................ (2,551) 1,333
--------- ---------
Net cash provided by (used in) financing activities .............................. (214,067) 33,833
--------- ---------
NET INCREASE IN CASH AND CASH EQUIVALENTS ....................................................... 87,354 7,350
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD ................................................ 51,712 8,001
--------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD ...................................................... $ 139,066 $ 15,351
========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash Payments:
Interest (net of amounts capitalized) ................................................... $ 145,348 $ 80,721
Income taxes ............................................................................ 15,158 27,914
See Notes to Consolidated Financial Statements
4
8
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED RETAINED EARNINGS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
Three Months Ended
March 31,
----------------------------
1998 1997
----------- -----------
Balance at Beginning of Period ......... $ 2,013,055 $ 1,997,490
Net Income (Loss) for the Period ....... (31,337) 59,620
----------- -----------
Total ......................... 1,981,718 2,057,110
Common Stock Dividends ................. (106,505) (87,656)
----------- -----------
Balance at End of Period ............... $ 1,875,213 $ 1,969,454
=========== ===========
See Notes to Consolidated Financial Statements.
-5-
9
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(1) BASIS OF PRESENTATION
The interim financial statements and notes (Interim Financial
Statements) in this joint Form 10-Q (Form 10-Q) include the accounts of Houston
Industries Incorporated (Company) and its wholly owned and majority owned
subsidiaries including, effective as of August 6, 1997 (Acquisition Date), the
accounts of NorAm Energy Corp. (NorAm) and its wholly owned and majority owned
subsidiaries. For information regarding the Company's acquisition of NorAm, see
Note 1(b) to the joint Annual Report on Form 10-K of the Company (File No.
1-3187) (Company's Form 10-K) and NorAm (File No. 1-13265) (NorAm's Form 10-K)
for the fiscal year ended December 31, 1997. The Interim Financial Statements
are unaudited, omit certain information included in financial statements
prepared in accordance with generally accepted accounting principles and should
be read in combination with the Company's Form 10-K and NorAm's Form 10-K . For
additional information regarding the presentation of interim period results, see
Note 11 below.
The following notes to the financial statements in the Company's Form
10-K and NorAm's Form 10-K relate to material contingencies. These notes, as
updated by the notes contained in the Interim Financial Statements, are
incorporated herein by reference:
Company: Note 1(c) (Regulatory Assets and Other Long-Lived Assets), Note
1(n) (Investments in Time Warner Securities), Note 2 (Derivative Financial
Instruments (Risk Management)), Note 3 (Rate Matters), Note 4 (Jointly
Owned Electric Utility Plant), Note 5 (Equity Investments in Foreign
Affiliates) and Note 12 (Commitments and Contingencies).
NorAm: Note 1(c) (Regulatory Assets and Regulation), Note 2 (Derivative
Financial Instruments (Risk Management)) and Note 8 (Commitments and
Contingencies).
(2) PRO FORMA COMBINED RESULTS OF OPERATIONS DATA
The Company's results of operations incorporate NorAm's results of
operations only for the period beginning on the Acquisition Date. The following
table presents certain unaudited pro forma information for the quarter ended
March 31, 1997, as if the acquisition of NorAm had occurred on January 1, 1997.
6
10
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
COMBINED RESULTS OF OPERATIONS
(IN MILLIONS, EXCEPT PER SHARE DATA)
QUARTER ENDED MARCH 31,
--------------------------
1998 1997
----------- ----------
ACTUAL PRO FORMA
(UNAUDITED)
Revenues .................................... $ 2,637 $ 2,802
Net Income (Loss)(1) ........................ $ (31) $ 110
Basic Earnings Per Share (1) ................ $ (0.11) $ 0.39
Diluted Earnings Per Share (1) .............. $ (0.11) $ 0.39
- ---------------
(1) Includes a $123 million or .43 per share (after-tax) non-cash unrealized
accounting loss recorded in the first quarter of 1998 relating to the
Company's Automatic Common Exchange Securities (ACES). For additional
information, see Note 5.
These and other pro forma results appearing in this Form 10-Q are based
on assumptions deemed appropriate by the Company's management, have been
prepared for informational purposes only and are not necessarily indicative of
the combined results that would have resulted had the acquisition of NorAm
occurred at the beginning of 1997. Purchase related adjustments to results of
operations include amortization of goodwill and the effects on depreciation,
amortization, interest expense and deferred income taxes of the revaluation, on
a preliminary basis, of the fair value of certain NorAm assets and liabilities.
For information regarding the recording of the NorAm acquisition under the
purchase method of accounting, see Note 1(b) to the Company's Form 10-K.
(3) COMPREHENSIVE INCOME
Effective January 1, 1998, the Company adopted Statement of Financial
Accounting Standards (SFAS) No. 130, "Reporting Comprehensive Income" (SFAS No.
130). SFAS No. 130 requires that all items that meet the definition of a
component of comprehensive income (as defined below) be reported in a financial
statement for the fiscal period in which they are recognized and the total
amount of comprehensive income be prominently displayed in that same financial
statement. Comprehensive income is defined to include not only net income
(loss), but also the change in equity of a business enterprise during a period
from transactions and other events and circumstances from non-owner sources. The
Company's total comprehensive loss of $30 million for the first quarter of 1998
reflects the Company's $31 million net loss for the quarter offset by a foreign
currency gain and an unrealized gain on the Company's investment in shares of
Itron, Inc., a marketable equity security. For the first quarter of 1997, total
comprehensive income was $63 million reflecting the Company's $60 million net
income in the quarter and the unrealized gain on the Company's investment in
Time Warner common stock offset by a foreign currency loss.
7
11
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(4) DEPRECIATION
The Company calculates depreciation using the straight-line method. The
Company's depreciation expense for the first quarter of 1998 was $127 million,
compared to $90 million for the same period in 1997.
(5) INVESTMENT IN TIME WARNER SECURITIES
The Company owns 11 million shares of non-publicly traded Time Warner,
Inc. (Time Warner) convertible preferred stock (TW Preferred). The TW Preferred
is convertible into approximately 22.9 million shares of Time Warner common
stock. For additional information regarding TW Preferred (including its dividend
rate, liquidation preference and voting rights), see Note 1(n) to the Company's
Form 10-K.
The Company has recorded its $990 million investment in the TW
Preferred under the cost method. Dividends on these securities are recognized as
income at the time they are earned. The Company recorded pre-tax dividend income
with respect to these securities of $10.3 million in the first quarters of 1998
and 1997.
To monetize its investment in the TW Preferred, the Company sold in
July 1997, 22.9 million of its unsecured 7% ACES. As a result of the issuance of
the ACES, a portion of the increase in the market value above $55.5844 per share
of Time Warner common stock (the security into which the TW Preferred is
convertible) results in unrealized accounting losses to the Company for the
ACES, pending the conversion of the Company's TW Preferred into Time Warner
common stock. For example, prior to the conversion of the TW Preferred into Time
Warner common stock, when the market price of Time Warner common stock increases
above $55.5844, the Company records in Other Income (Expense) an accounting loss
for the ACES equal to (i) the aggregate amount of such increase as applicable to
all ACES multiplied by (ii) 0.8264. In accordance with generally accepted
accounting principles, this accounting loss (which reflects the unrealized
increase in the Company's indebtedness with respect to the ACES) may not be
offset by accounting recognition of the increase in the market value of the Time
Warner common stock that underlies the TW Preferred. Upon conversion of the TW
Preferred, the Company will begin recording unrealized net changes in the market
prices of the Time Warner common stock and the ACES as a component of common
stock equity and other comprehensive income.
As of March 31, 1998, the market price of Time Warner common stock was
$72.00 per share. Accordingly, the Company recognized an increase of $189
million during the first quarter of 1998 in the unrealized liability relating to
its ACES indebtedness (which resulted in an after-tax earnings reduction of $123
million or $.43 per share). The Company believes that the cumulative unrealized
loss for the ACES of $311 million is more than economically offset by the
approximately $659 million unrecorded unrealized gain at March 31, 1998 relating
to the increase in the fair value of the Time Warner common stock underlying the
investment in TW Preferred since the date of its acquisition. For the quarter
ended March 31, 1998, there was an increase in the unrecorded unrealized gain in
the fair value of Time Warner common stock underlying the investment in TW
Preferred of $229 million. Any gain related to the increase in the fair value of
Time Warner common stock would be recognized upon the sale of the TW Preferred
or the shares of common
8
12
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
stock into which such TW Preferred is converted.
(6) CAPITAL STOCK
(a) Common Stock.
At March 31, 1998, the Company had 283,719,977 shares of common stock
issued and outstanding (out of a total of 700,000,000 authorized shares). At
December 31, 1997, the Company had 282,875,266 shares of common stock issued and
outstanding. Outstanding common shares excluded (i) shares pledged to secure a
loan to the Company's Employee Stock Ownership Plan (11,984,708 and 12,388,551
at March 31, 1998 and December 31, 1997, respectively) and (ii) treasury shares
(98,866 and 93,459 at March 31, 1998 and December 31, 1997, respectively).
(b) Earnings Per Share.
Effective December 31, 1997, the Company adopted SFAS No. 128,
"Earnings per Share" (SFAS No. 128). This statement requires restatement of all
prior period earnings per share (EPS) data presented herein. SFAS No. 128
requires dual presentation of basic and diluted EPS on the face of the
Statements of Consolidated Income and requires a reconciliation of the
numerators and denominators used in the basic and diluted earnings per share
calculations.
The following table presents a reconciliation of the Company's
numerators and denominators of basic and diluted earnings per share
calculations:
9
13
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
FOR THE QUARTER ENDED
MARCH 31,
-------------------------
1998 1997
----------- ---------
(In thousands, except per
share amounts)
Basic EPS Calculation:
Income (loss) before preferred dividends ................. $ (31,240) $ 59,620
Less: Preferred dividends ................................ 97
--------- ---------
Net income (loss) attributable to common stock ........... $ (31,337) $ 59,620
========= =========
Weighted average shares outstanding ...................... 283,528 233,689
Basic EPS:
Income (loss) before preferred dividends ................. $ (0.11) $ 0.26
Less: Preferred dividends
--------- ---------
Net income (loss) attributable to common stock ........... $ (0.11) $ 0.26
========= =========
Diluted EPS Calculation:
Income (loss) before preferred dividends ................. $ (31,240) $ 59,620
Plus: Income impact of assumed conversions:
Interest on 6 1/4% convertible debentures ............. 118
--------- ---------
Income (loss) before preferred dividends assuming
dilution .............................................. $ (31,122) $ 59,620
Less: Preferred dividends ................................ 97
--------- ---------
Net income (loss) attributable to common stock ........... $ (31,219) $ 59,620
========= =========
Weighted average shares outstanding ...................... 283,528 233,689
Plus: Incremental shares from assumed conversions:
Stock options ......................................... 235 32
Restricted stock ...................................... 492 369
6 1/4% convertible debentures ......................... 359
--------- ---------
Weighted average shares assuming dilution ................ 284,614 234,090
========= =========
Diluted EPS:
Income (loss) before preferred dividends ................. $ (0.11) $ 0.26
Less: Preferred dividends
--------- ---------
Net income (loss) attributable to common stock ........... $ (0.11) $ 0.26
========= =========
10
14
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Options to purchase 85,837 shares of common stock at prices ranging
from $29.13 to $35.18 per share were outstanding at March 31, 1998 but were not
included in the computation of diluted EPS because, during the reporting period,
the options' exercise prices were greater than the average market price of the
common shares of $26.375 and would thus be anti-dilutive if conversion were
assumed.
(c) Preferred Stock.
At March 31, 1998 and December 31, 1997, the Company had 10,000,000
authorized shares of preferred stock, of which 97,397 shares of $4.00 Preferred
Stock were outstanding. The $4.00 Preferred Stock pays an annual dividend of
$4.00 per share, is redeemable at $105 per share and has a liquidation price of
$100 per share.
(d) Preference Stock.
At March 31, 1998 and December 31, 1997, the Company had 10,000,000
authorized shares of preference stock, of which 700,000 shares are designated as
Series A Preference Stock and 27,000 shares are designated as Series B
Preference Stock. On March 27, 1998, the Company designated 1,575 shares of its
preference stock as Series C Preference Stock. As of March 31, 1998, there were
no shares of Series A Preference Stock issued and outstanding (such shares being
issuable in accordance with the Company's Shareholder Rights Agreement upon the
occurrence of certain events). The number of shares of Series B Preference Stock
and Series C Preference Stock issued as of March 31, 1998 was 17,000 and 1,575,
respectively. The Series B and Series C Preference Stock are not deemed
outstanding for financial reporting purposes, because the sole holders of such
series are wholly owned financing subsidiaries of the Company.
(7) COMPANY/NORAM OBLIGATED MANDATORILY REDEEMABLE TRUST PREFERRED SECURITIES
OF SUBSIDIARY TRUSTS HOLDING SOLELY SUBORDINATED DEBENTURES OF THE COMPANY
AND NORAM
For information regarding (i) $250 million of preferred securities and
$100 million of capital securities issued by two statutory business trusts
formed by the Company and (ii) $177.8 million of convertible preferred
securities issued by a statutory business trust formed by NorAm, of which $11.6
million were outstanding at March 31, 1998, see Note 9 to the Company's Form
10-K. The sole asset of each trust consists of junior subordinated debentures of
the Company or NorAm (as the case may be) having interest rates and maturity
dates corresponding to each issue of preferred or capital securities, and the
principal amounts corresponding to the common and preferred or capital
securities issued by such trust.
(8) LONG-TERM DEBT AND SHORT-TERM FINANCING
(a) Consolidated Debt.
The Company's consolidated long-term and short-term debt outstanding is
summarized in the following table. Of the amount of long-term and short-term
debt outstanding as of March 31, 1998, $1.8
11
15
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
billion represents debt of NorAm. The Company adjusted the recorded value of
NorAm debt to fair market value as of the Acquisition Date.
CONSOLIDATED LONG-TERM DEBT AND SHORT-TERM BORROWINGS
(IN MILLIONS)
MARCH 31, 1998 DECEMBER 31, 1997
---------------------------------- ------------------------------------
Long-Term Current Long-Term Current
------------- --------------- --------------- ---------------
Short-Term Borrowings:
Commercial Paper......................... $ 1,286 $ 1,435
Lines of Credit.......................... 150 390
NorAm Receivables Facility............... 300 300
Notes Payable............................ 2
------------- --------------- --------------- ---------------
Total Short-Term Borrowings................ 1,738 2,125
------------- --------------- --------------- ---------------
Long-Term Debt - net:
ACES..................................... $ 1,363 $ 1,174
Debentures(1)(2)......................... 969 669
First Mortgage Bonds(1).................. 1,931 460 2,495
Pollution Control Bonds.................. 513 5 118 5
NorAm Medium-Term Notes(2)............... 182 78 182 79
Notes Payable(2)......................... 561 164 565 166
Capital Leases........................... 15 1 15 1
------------- --------------- --------------- ---------------
Total Long-Term Debt....................... 5,534 708 5,218 251
------------- --------------- --------------- ---------------
Total Long-Term and Short-Term Debt...... $ 5,534 $ 2,446 $ 5,218 $ 2,376
------------- --------------- --------------- ---------------
- ----------
(1) Includes unamortized discount related to debentures of approximately $1
million at March 31, 1998 and December 31, 1997 and unamortized discount
related to first mortgage bonds of approximately $14 million at March 31,
1998 and December 31, 1997, respectively.
(2) Includes unamortized premium related to fair value adjustments of
approximately $15.5 million and $15.8 million for debentures at March 31,
1998 and December 31, 1997, respectively. The unamortized premium for NorAm
long-term and current medium-term notes at March 31, 1998 was approximately
$15.6 million and $2.6 million, respectively, and $16.7 million and $2.8
million at December 31, 1997, respectively. The unamortized premium for
long-term and current notes payable was approximately $10.6 million and
$2.4 million, respectively, at March 31, 1998 and $13.7 million and $3.3
million at December 31, 1997.
Consolidated maturities of long-term debt and sinking fund requirements
for the Company (including NorAm) are approximately $242 million for the
remainder of 1998, not including funds that were on deposit in trust accounts at
March 31, 1998 of $290 million.
(b) FinanceCo and FinanceCo II Credit Facilities.
In August 1997, a limited partnership special purpose subsidiary of the
Company (FinanceCo), established a five-year, $1.644 billion revolving credit
facility with a consortium of commercial banks (FinanceCo Facility). The
FinanceCo Facility supported $1.167 billion in commercial paper borrowings by
FinanceCo at March 31, 1998 recorded as notes payable in the Consolidated
Balance Sheet. The weighted average interest rate of these borrowings at March
31, 1998 was 5.85%. For more information regarding the FinanceCo Facility, see
Note 8(c) to the Company's Form 10-K. In the first quarter of 1998, the
FinanceCo
12
16
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Facility was amended to, among other things, release certain collateral
previously pledged under the agreement (including the shares of common stock of
NorAm held by the Company and the capital stock of Houston Industries Energy,
Inc. (HI Energy)) and to ease restrictions on repurchases of common stock and
certain types of investments in subsidiaries.
In March 1998, another limited partnership special purpose subsidiary
of the Company (FinanceCo II), entered into a $150 million credit agreement with
a bank (FinanceCo II Facility). The FinanceCo II Facility terminates September
30, 1998, but may be extended. Borrowings under the FinanceCo II Facility were
used to fund a portion of four electric generation plants acquired by Houston
Industries Power Generation, Inc. (HIPG), a wholly owned subsidiary of the
Company, in April 1998. Borrowings under the FinanceCo II Facility bear interest
at a rate based upon either LIBOR plus a margin or a base rate. At March 31,
1998, FinanceCo II had $150 million of borrowings under this facility at an
interest rate of 5.94%. For additional information regarding HIPG's acquisition
of the generation plants, see Note 10(b) below.
The FinanceCo II Facility requires the Company to maintain a ratio of
consolidated indebtedness for borrowed money to consolidated capitalization, as
defined, that does not exceed 0.62:1.00 through December 31, 1998, and 0.60:1.00
from January 1, 1999 until termination of the FinanceCo II Facility. Similar to
the FinanceCo facility, the FinanceCo II Facility also contains restrictions
applicable to the Company and certain of its subsidiaries with respect to, among
other things, (i) liens, (ii) consolidations, mergers and dispositions of
assets, (iii) dividends and repurchases of common stock, (iv) certain types of
investments and (v) certain changes in its business. The FinanceCo II Facility
contains customary covenants and default provisions applicable to FinanceCo II
and its subsidiaries, including limitations on, among other things, additional
indebtedness (other than certain permitted indebtedness), liens and certain
investments or loans.
Subject to certain conditions and limitations, the Company is required,
pursuant to a support agreement entered into in connection with the FinanceCo II
Facility, to make cash payments from time to time to FinanceCo II from the
Company's excess cash flow (as defined) to the extent necessary to enable
FinanceCo II to meet its obligations. Borrowings under the FinanceCo II Facility
are secured by pledges of 1,575 shares of Series C Preference Stock of the
Company, which have an aggregate liquidation amount of $157.5 million, and all
rights of FinanceCo II under the support agreement. The obligations under the
FinanceCo II Facility are not secured by the utility assets of the Company or
NorAm or by the Company's investment in TW Preferred.
(c) Pollution Control Revenue Bonds.
In January 1998, the Matagorda County Navigation District Number One
(MCND) issued on behalf of the Company $104.7 million aggregate principal amount
of pollution control revenue refunding bonds with $29.7 million at 5.25% and $75
million at 5.15%. The MCND bonds will mature in 2029. The Company used the
proceeds from the sale of these securities to redeem during the quarter ended
March 31, 1998 all outstanding 7 7/8% MCND Series 1989A pollution control
revenue bonds ($29.7 million) and 7.70% MCND Series 1989B pollution control
revenue bonds ($75 million) at a redemption price of 102% of the aggregate
principal amount of each series.
In February 1998, the Brazos River Authority (BRA) issued on behalf of
the Company $290 million aggregate principal amount of pollution control revenue
refunding bonds. The BRA bonds will mature in May 2019 ($200 million at 5 1/8%)
and November 2020 ($90 million at 5 1/8%). In May of 1998, the Company used the
proceeds from the sale of these securities to redeem all outstanding 8.25% BRA
Series 1988A pollution control revenue bonds ($100 million), 8.25% BRA Series
1988B pollution control revenue
13
17
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
bonds ($90 million), and 8.10% BRA Series 1988C pollution control revenue bonds
($100 million) at a redemption price of 102% of the aggregate principal amount
of each series. Although the proceeds of the bond offerings were deposited into
trust accounts for the redemption in May 1998 of $290 million principal amount
of bonds (as reflected on the Consolidated Balance Sheets and Statements of
Consolidated Cash Flows), such bonds were deemed for financial reporting
purposes to be outstanding at March 31, 1998.
(d) NorAm Short-Term and Long-Term Debt.
In March 1998, NorAm replaced its $400 million revolving credit
facility with a five-year $350 million revolving credit facility (NorAm Credit
Facility). Borrowings under the NorAm Credit Facility are unsecured and bear
interest at a rate based upon either LIBOR plus a margin, a base rate or a rate
determined through a bidding process. The NorAm Credit Facility is expected to
be used to support NorAm's issuance of up to $350 million of commercial paper.
There were no loans outstanding under the NorAm Credit Facility at March 31,
1998.
In February 1998, NorAm issued $300 million principal amount of 6 1/2%
debentures due February 1, 2008. The 6 1/2% debentures are not redeemable prior
to maturity and are not subject to any sinking fund requirements. The proceeds
from the sale of the 6 1/2% debentures were used to repay short-term
indebtedness of NorAm, including the indebtedness incurred in connection with
the 1997 purchase of $101 million aggregate principal amount of NorAm's 10%
debentures and the repayment of $53 million aggregate principal amount of NorAm
debt that matured in December 1997 and January 1998.
In the first quarter of 1998, NorAm repaid at maturity $1 million of
its 9.30% medium-term notes and satisfied the $6.5 million sinking fund
requirement for its 6% convertible subordinated debentures due 2012 using
debentures purchased in 1996 and 1997.
(9) RATE MATTERS
In May 1998, the Public Utility Commission of Texas (Texas Utility
Commission) issued an order approving the transition to competition plan filed
by Electric Operations in December 1997 (Transition Plan). The order establishes
the Company's tariffs to be in effect through 1999, subject to certain force
majeure and other events. The order provides final approval for the base rate
credits to residential customers of 4% in 1998 and an additional 2% in 1999.
Commercial customers whose monthly billing kva is 1000 kva or less will receive
base rate credits of 2% in 1998 which remains in effect for 1999. The Company
implemented the terms of the Transition Plan effective January 1, 1998.
In addition, in order to reduce the Company's exposure to potential
stranded costs, the order permits the Company to redirect depreciation expenses
normally taken from transmission, distribution and general assets to generation
assets. The Texas Utility Commission made one modification to the original
Transition Plan related to the earnings cap. The Transition Plan originally
contemplated that all earnings by Electric Operations above a 9.95% overall rate
of return would be calculated pursuant to a return cap formula to be used to
write-down Electric Operation's investment in generation assets. The Texas
Utility Commission modified the percentage to 9.84% to reflect the impact of $11
million of imputed revenues from the discount rates offered by the Company. It
is not expected that the change in the Transition Plan ordered by the Texas
Utility Commission will have a material adverse impact on the Company's
financial statements.
For additional information regarding the Transition Plan, see Note 3(b)
to the Company's Form 10-K.
14
18
HOUSTON INDUSTRIES INCORPORATED AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(10) SUBSEQUENT EVENTS
(a) International Operations -- Privatization of Brazilian Electric Utility.
In April 1998, Light Servicos de Eletricidade S.A. (Light), a Brazilian
corporation in which HI Energy owns an 11.57% common stock interest, purchased
74.88% of the common stock of Metropolitana Electricidade de Sao Paulo S.A.
(Metropolitana), the utility that provides electric transmission and
distribution services to the metropolitan area of Sao Paulo, Brazil. The
purchase price for the shares was approximately $1.8 billion. Light financed the
purchase of the shares of Metropolitana with proceeds from bank borrowings made
on a non-recourse basis by Light's shareholders (including HI Energy).
For additional information regarding HI Energy's investment in Light,
see Note 5 to the Company's Form 10-K.
(b) HIPG Purchase of Generating Assets
In April 1998, HIPG completed its $230 million acquisition of four
California gas-fired generating plants totaling 2,276 megawatts of capacity from
Southern California Edison Company (SCE). The acquisition was financed with the
proceeds from borrowings made by subsidiaries of the Company. In addition HIPG
has contracted to purchase SCE's Ormond Beach Generating Station for $43
million. The Ormond Beach facility has two natural gas-fired units totaling
1,500 megawatts of capacity. HIPG expects to close the acquisition of the Ormand
Beach Generating Station in June 1998.
(11) INTERIM PERIOD RESULTS: RECLASSIFICATIONS
The Interim Financial Statements reflect all normal recurring
adjustments that are, in the opinion of management, necessary to present fairly
the financial position and results of operations for the respective periods.
Amounts reported in the Consolidated Statements of Income are not necessarily
indicative of amounts expected for a full year period due to the effects of,
among other things, (i) the acquisition of NorAm, (ii) seasonal temperature
variations in energy consumption and (iii) the timing of maintenance and other
expenditures. In addition, certain amounts from the prior year have been
reclassified to conform to the Company's presentation of financial statements in
the current year. Such reclassifications do not affect earnings.
15
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS OF THE COMPANY.
The following discussion and analysis should be read in combination
with Management's Discussion and Analysis of Financial Condition and Results of
Operations of the Company in Item 7 of the Company's Form 10-K, Management's
Narrative Analysis of the Results of Operations of NorAm and Consolidated
Subsidiaries in Item 7 of NorAm's Form 10-K, the consolidated financial
statements and notes contained in Item 8 of the Company's Form 10-K and NorAm's
Form 10-K and the Interim Financial Statements and the NorAm Interim Financial
Statements contained in this joint Form 10-Q.
Statements contained in this joint Form 10-Q that are not historical
facts are forward-looking statements as defined in the Private Securities
Litigation Reform Act of 1995. Forward-looking statements are based on
management's beliefs as well as assumptions made by and information currently
available to management. Because such statements are based on expectations as to
future economic performance and are not statements of fact, actual results may
differ materially from those projected. Important factors that could cause
future results to differ include (i) the effects of competition in the electric
power and natural gas industries, (ii) legislative and regulatory changes, (iii)
fluctuations in the weather, (iv) fluctuations in energy commodity prices, (v)
environmental liabilities, (vi) changes in the economy and (vii) other factors
discussed in this and other filings by the Company and NorAm with the Securities
and Exchange Commission. When used in the Company's or NorAm's documents or oral
presentations, the words "anticipate," "estimate," "expect," "objective,"
"projection," "forecast," "goal" or similar words are intended to identify
forward- looking statements. The sections of Management's Discussion and
Analysis of Financial Condition and Results of Operations of the Company
captioned "Results of Operations by Business Segment" and "Certain Factors
Affecting Future Earnings of the Company and its Subsidiaries" contain or
incorporate by reference forward-looking statements.
HOUSTON INDUSTRIES INCORPORATED
Houston Industries Incorporated (Company) is a diversified
international energy services company. It operates the nation's tenth largest
electric utility in terms of kilowatt-hour (KWH) sales, and NorAm's three
natural gas distribution divisions together form the nation's third largest
natural gas distribution operation in terms of customers served. The Company
also invests in international electric utility privatizations, gas distribution
projects and the development of non-rate regulated power generation projects.
The Company, through NorAm, is also a major interstate natural gas pipeline and
energy services company, providing gas transportation, supply, gathering and
storage, and wholesale natural gas and electric power marketing services.
The Company is exempt from regulation as a public utility holding
company based upon an order granted in July 1997 by the Securities and Exchange
Commission under Section 3(a)(2) of the Public Utility Holding Company Act of
1935, as amended (1935 Act), except with respect to the acquisition of certain
voting securities of other domestic public utility companies and utility holding
companies.
CONSOLIDATED RESULTS OF OPERATIONS
In 1997, the Company acquired NorAm, a natural gas gathering,
transmission, marketing and distribution company. Because the acquisition was
accounted for as a purchase, the Company's results of operations include NorAm's
results of operations only for the period beginning on August 6, 1997
16
20
(Acquisition Date). To enhance comparability between reporting periods, certain
consolidated and business segment information in Management's Discussion and
Analysis of Financial Condition and Results of Operations of the Company is
presented on a pro forma basis as if the acquisition of NorAm had occurred as of
January 1, 1997. The Company believes that the presentation of pro forma data
provides a more meaningful basis for comparing revenues and earnings trends. The
pro forma information is not necessarily indicative of the results of operations
of the Company and its business segments that would have occurred had these
events occurred at the beginning of such period.
The Company's first quarter of 1998 results of operations and first
quarter of 1997 pro forma results of operations reflect the effects of the
acquisition of NorAm, which include (i) significant increases in amortization
attributable to purchase accounting, (ii) increases in shares outstanding and
interest expense, and (iii) the impact of additional revenues and operating
expenses from the newly acquired NorAm businesses.
CONSOLIDATED RESULTS OF OPERATIONS
QUARTER ENDED QUARTER ENDED
MARCH 31, MARCH 31,
------------------ --------------------
1998 1997 1998 1997 % Change
------- ------- ------- --------- --------
(Actual) (Actual) (Pro Forma)
(in millions, except per share data)
Revenues ...................................................... $ 2,637 $ 878 $ 2,637 $ 2,802 (6%)
Operating Expenses ............................................ 2,356 722 2,356 2,509 (6%)
Operating Income .............................................. 281 156 281 293 (4%)
Other Expenses, Net (1) ....................................... 309 76 309 123 251%
Income Taxes .................................................. 3 20 3 60 (95%)
Net Income (1) ................................................ (31) 60 (31) 110 --
Basic Earnings Per Share (1) .................................. (0.11) 0.26 (0.11) 0.39 --
Diluted Earnings Per Share (1) ................................ (0.11) 0.26 (0.11) 0.39 --
- ---------------
(1) Includes a $189 million ($123 million after-tax) or $.43 per share
non-cash unrealized accounting loss recorded in the first quarter of 1998
relating to the Company's 7% Automatic Common Exchange Securities (ACES). See
Note 5 to the Company's Form 10-Q.
First Quarter of 1998 Compared to First Quarter of 1997 (Actual). The
Company had a consolidated net loss for the first quarter of 1998 of $31 million
($0.11 per share) compared to net income of $60 million ($0.26 per share) in the
same period in 1997. The Company's results of operations for the first quarter
of 1998 reflect a $123 million (after-tax) non-cash, unrealized accounting loss
on the ACES. For a discussion of the accounting loss in connection with the
ACES, see Note 5 to the Company's Form 10-Q. Excluding the ACES accounting loss,
the Company would have had consolidated earnings of $92 million ($0.32 per
share). The increase in earnings is primarily a result of additional earnings
from the business segments acquired in the NorAm acquisition and improved
results from HI Energy. These earnings were partially offset by milder weather,
base rate credits implemented by Electric Operations pursuant to its Transition
Plan (as described below) and increased interest expense primarily related to
the NorAm acquisition.
The consolidated tax expense in the first quarter of 1998 takes into
account the impact of non-deductible goodwill expense, higher state tax expense
arising from the NorAm acquisition, and the loss of the dividends received
deduction on the TW Preferred.
17
21
First Quarter of 1998 Actual Compared to First Quarter of 1997 Pro
Forma. The Company's consolidated net loss for the first quarter of 1998 was $31
million ($0.11 per share) compared with pro forma consolidated earnings of $110
million ($0.39 per share) in the first quarter of 1997.
Excluding the ACES accounting loss described above, the Company's first
quarter of 1998 adjusted net income would have been $92 million ($0.32 per
share) compared to $110 million ($0.39 per share) in the first quarter of 1997.
The decrease in adjusted earnings is primarily the result of: (i) decreased
operating income at Electric Operations due to milder weather and the
implementation of base rate credits; (ii) decreased operating income at Natural
Gas Distribution due to warmer weather; and (iii) increased operating expenses
at the Company's Corporate segment.
Partially offsetting the decrease in earnings is increased operating
income from International due to increased equity earnings. In addition, pro
forma net income in the first quarter of 1997 reflects non-recurring hedging
losses and losses from sale of gas at Energy Marketing in that quarter.
RESULTS OF OPERATIONS BY BUSINESS SEGMENT
The Company's operating activities include the following segments:
Electric Operations, Natural Gas Distribution, Interstate Pipeline, Energy
Marketing, International and Corporate.
The following table presents operating income on (i) an actual basis
for the quarters ended March 31, 1998 and 1997 and (ii) a pro forma basis for
the quarter ended March 31, 1997 (assuming the NorAm acquisition had occurred on
January 1, 1997) for each of the Company's business segments (other than
Electric Operations):
OPERATING INCOME (LOSS) BY BUSINESS SEGMENT
QUARTER ENDED
MARCH 31, (1)
----------------------------------
1998 1997 1997
-------- --------- ---------
(ACTUAL) (ACTUAL) (PRO FORMA)
(in millions)
Electric Operations .......... $ 143 $ 160 $ 160
Natural Gas Distribution ..... 102 107
Interstate Pipeline .......... 32 35
Energy Marketing ............. 10 (1)
International ................ 11 3 2
Corporate .................... (17) (7) (10)
----- ----- -----
Total Consolidated ..... $ 281 $ 156 $ 293
===== ===== =====
- ---------------
(1) PRO FORMA ADJUSTMENTS GIVE RETROACTIVE EFFECT TO PURCHASE-RELATED
ADJUSTMENTS, INCLUDING AMORTIZATION OF GOODWILL AND THE REVALUATION ON A
PRELIMINARY BASIS OF THE FAIR MARKET VALUE OF CERTAIN NORAM ASSETS AND
LIABILITIES.
18
22
ELECTRIC OPERATIONS
Electric Operations are conducted under the name "Houston Lighting &
Power Company" or "HL&P" (HL&P), an unincorporated division of the Company.
Electric Operations provides electric generation, transmission, distribution and
sales to approximately 1.6 million customers in a 5,000 square mile area on the
Texas Gulf Coast, including Houston (the nation's fourth largest city).
The following table provides summary data regarding the actual results
of operations of Electric Operations, including operating statistics, for the
quarters ended March 31, 1998 and 1997.
QUARTER ENDED
MARCH 31,
--------------------------- PERCENT
1998 1997 CHANGE
------------ ---------- ------------
(in millions)
Base Revenues (1) ...................... $ 534 $ 553 (3%)
Transmission Revenues .................. 21
Reconcilable Fuel Revenues (2) ......... 292 304 (4%)
Operating Expenses:
Fuel and Purchased Power .......... 305 320 (5%)
Operation and Maintenance ......... 214 184 16%
Depreciation and Amortization ..... 130 130
Other Taxes ............................ 55 63 (14%)
----------- -----------
Operating Income ....................... $ 143 $ 160 (11%)
=========== ===========
Electric Sales (MWH):
Residential .............. 3,597,021 3,955,258 (9%)
Commercial ............... 3,424,350 3,398,796 1%
Industrial - Firm ........ 6,367,979 6,456,671 (1%)
Total Firm Sales .............. 14,298,521 14,202,623 1%
Average Cost of Fuel
(Cents/MMBtu) ........ 172.6 187.5 (8%)
- -----------
(1) Includes miscellaneous revenues, certain non-reconcilable fuel revenues and
certain purchased power-related revenues.
(2) Includes revenues collected through a fixed fuel factor and surcharge, net
of the over/under recovery of fuel. See "-- Operating Revenues - Electric
Operations."
Operating Income - Electric Operations. In the first quarter of 1998,
Electric Operations' operating income decreased by $17 million from operating
income for the first quarter of 1997. The decrease in operating income was due
to decreases in base revenues primarily due to milder weather and the
implementation of the base rate credits pursuant to Electric Operations'
Transition Plan (Transition Plan).
Operating Revenues - Electric Operations. Electric Operations' decrease
in base revenue for the first
19
23
quarter of 1998 compared to the first quarter of 1997 is primarily the result of
milder weather and the implementation of the Transition Plan. These factors were
partially offset by customer growth. Beginning in January 1998, Electric
Operations implemented base rate credits under the Transition Plan, which
resulted in lower base revenues of $11 million for the quarter. For information
regarding the Transition Plan, see Note 9 to the Company's Form 10-Q.
Electric Operations' transmission revenues (which are considered
miscellaneous revenues) in the first quarter of 1998 were $21 million but were
offset by transmission expenses of $22 million. Electric Operations began
recording transmission revenues and expenses in the second quarter of 1997 as a
result of the implementation of wholesale transmission tariffs within the
Electric Reliability Council of Texas (ERCOT). For information regarding these
tariffs, see "Management's Discussion and Analysis of Financial Condition and
Results of Operations of the Company--Results of Operations by Business--Certain
Factors Affecting Future Earnings of the Company and its Subsidiaries--
Competition--Electric Operations--Competition in Wholesale Market"
in the Company's Form 10-K.
Electric Operation's first quarter of 1998 firm KWH sales decreased 3%
compared to the same period in 1997 due to milder weather, partially offset by
steady growth in the number of customers.
Electric Operations' 4% decrease in reconcilable fuel revenue resulted
primarily from decreased natural gas prices. The Texas Utility Commission
provides for recovery of certain fuel and purchased power costs through a fixed
fuel factor included in electric rates. The fixed fuel factor is established
during either a utility's general rate proceeding or its fuel factor proceeding
and is generally effective for a minimum of six months. Revenues collected
through such factor are adjusted monthly to equal expenses; therefore, such
revenues and expenses have no effect on earnings unless fuel costs are
determined not to be recoverable. The adjusted over/under recovery of fuel costs
is recorded on the Company's Consolidated Balance Sheets as fuel- related
credits or fuel-related debits, respectively. Fuel costs are reviewed during
periodic fuel reconciliation proceedings, which are required at least every
three years. Electric Operations filed a fuel reconciliation proceeding with the
Texas Utility Commission on January 30, 1998 for the three year period ending
July 31, 1997.
In January 1998, Electric Operations implemented (i) a $102 million
temporary fuel surcharge (inclusive of interest) for under recoveries that
occurred from March 1997 through August 1998, with recovery extending from 8
months to 16 months depending on the customer class. Electric Operations
requested the surcharge in order to recover its under-recovery of fuel expenses
for the period March 1997 through August 1997. In April 1998, Electric
Operations filed a petition to revise the fuel factor and implement a surcharge
for under-collected fuel costs of $128 million, (inclusive of the previously
existing fuel surcharge balance) to be collected over a 24 to 30 month period.
This surcharge will replace the one implemented in January and will recover its
remaining uncollected balance, as well as, the under-recovery balance from
September 1997 through February 1998. As of March 31, 1998, Electric Operations
cumulative under-recovery of fuel costs was $165 million, including interest.
For information regarding the recovery of fuel costs, see "Business Electric
Operations - Fuel - Recovery of Fuel Costs" in Item 1 of the Company's Form
10-K.
Fuel and Purchased Power Expenses - Electric Operations. Fuel and purchased
power expenses in the first quarter of 1998 decreased by $15 million compared to
the same period in 1997. The decrease was driven by decreases in the average
unit cost of natural gas, which declined to $2.43 per MMBtu in 1998 from $3.09
per MMBtu in 1997 and the cost of purchased power (see Note 12(c) to the
Company's Form 10-K for information on Electric Operations' joint dispatching
agreement with the City of San Antonio for purchased power).
20
24
Operation and Maintenance Expenses - Electric Operations. Operation and
Maintenance expenses increased $31 million in the first quarter of 1998,
including $22 million due to transmission tariffs within ERCOT. These
transmission tariff expenses are largely offset by $21 million of revenue
associated with wholesale transmission services discussed above.
Maintenance expense increased by $2 million in the first quarter of
1998 compared to the same period of 1997 primarily due to the scheduling of
routine plant and line maintenance and inspection outages.
NATURAL GAS DISTRIBUTION
NorAm's domestic natural gas distribution operations (Natural Gas
Distribution) are conducted through its Arkla, Entex and Minnegasco divisions.
These operations consist of natural gas sales to, and natural gas transportation
for, residential, commercial and certain industrial customers in six states:
Arkansas, Louisiana, Minnesota, Mississippi, Oklahoma and Texas.
The following table provides summary data regarding the results of
operations of Natural Gas Distribution, including operating statistics, for the
quarters ended March 31, 1998 and 1997 on an actual basis for the first quarter
of 1998 and on a pro forma basis for the first quarter of 1997 (as if the
acquisition of NorAm had occurred as of January 1, 1997).
QUARTER ENDED MARCH 31, PERCENT
1998 1997 CHANGE
-------- ------------ -------
(ACTUAL) (PRO FORMA)
(in millions)
Operating Revenues ................................................... $717 $881 (19%)
Operating Expenses:
Natural Gas ..................................................... 458 616 (26%)
Operation and Maintenance ....................................... 98 97 1%
Depreciation and Amortization ................................... 32 30 7%
Other Operating Expenses ........................................ 27 31 (10%)
---- ----
Total Operating Expenses .................................... 615 774 (20%)
---- ----
Operating Income ..................................................... $102 $107 (5%)
==== ====
Throughput Data (in Bcf):
Residential and Commercial Sales ................................ 126 137 (8%)
Industrial Sales ................................................ 15 15
Transportation .................................................. 13 12 8%
---- ----
Total Throughput ............................................. 154 164 (6%)
==== ====
Natural Gas Distribution operating income decreased $5 million in the
first quarter of 1998 compared to pro forma operating income in the first
quarter of 1997 due primarily to weather-related factors. This decrease in
operating income is partially offset by the favorable impact of Arkla's charges
associated with the applicable state regulatory commission's methodology of
calculating the price of gas charged to customers (the purchased gas adjustment)
in the first quarter of 1998 as compared to the first quarter of 1997.
Natural Gas Distribution operating revenue decreased $164 million for
the first quarter of 1998 compared to pro forma operating revenue for the
corresponding period of 1997 due principally to the warmer weather, which
resulted in lower customer usage at Entex and Minnegasco, and a decrease in gas
prices.
21
25
Operating expenses decreased $159 million in the first quarter of 1998
compared to pro forma operating expenses in the same period of 1997 due to the
same factors that affected operating revenues as discussed above.
INTERSTATE PIPELINE
NorAm's interstate natural gas pipeline operations (Interstate
Pipeline) are conducted through NorAm Gas Transmission Company (NGT) and
Mississippi River Transmission Corporation (MRT), two wholly owned subsidiaries
of NorAm. The NGT system consists of approximately 6,200 miles of natural gas
transmission lines located in portions of Arkansas, Kansas, Louisiana,
Mississippi, Missouri, Oklahoma, Tennessee and Texas. The MRT system consists of
approximately 2,000 miles of pipeline serving principally the greater St. Louis
area in Missouri and Illinois.
The following table provides summary data regarding the results of
operations of Interstate Pipeline, including operating statistics, on an actual
basis for the first quarter of 1998 and on a pro forma basis for the first
quarter of 1997 (as if the acquisition of NorAm had occurred as of January 1,
1997).
QUARTER ENDED MARCH 31,
---------------------- PERCENT
1998 1997 CHANGE
-------- ------------ --------
(ACTUAL) (PRO FORMA)
(in millions)
Operating Revenues ................................................ $ 71 $ 84 (15%)
Operating Expenses:
Natural Gas .................................................. 8 11 (27%)
Operation and Maintenance .................................... 17 22 (23%)
Depreciation and Amortization ................................ 9 13 (31%)
Other Operating Expenses ..................................... 5 3 67%
----- -----
Total Operating Expenses ................................ 39 49 (20%)
----- -----
Operating Income .................................................. $ 32 $ 35 (8%)
===== =====
Throughput Data (in million MMBtu):
Natural Gas Sales .............................................. 4 5 (20%)
Transportation ................................................. 237 250 (5%)
Elimination (1) ........................................... (4) (4) --
----- -----
Total Throughput .................................................. 237 251 (5%)
===== =====
- ---------------
(1) Elimination refers to volumes of natural gas both transported and sold by
Interstate Pipeline and, therefore, excluded from total throughput.
Interstate Pipeline operating income decreased $3 million in the first
quarter of 1998 compared to pro forma operating income in the first quarter of
1997 due primarily to non-recurring items occurring in the first quarter of 1997
and milder weather in the first quarter of 1998. These factors were partially
offset by lower operating expenses in the first quarter of 1998.
Operating revenues for Interstate Pipeline decreased by $13 million for
the first quarter of 1998
22
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compared to pro forma operating revenues for the same period in 1997. The
decrease in revenues is primarily due to $7 million of non-recurring
transportation revenues recognized in the first quarter of 1997 upon completion
of settlement negotiations with Arkla related to service provided in several of
its operating jurisdictions. In addition, the decrease in revenues is also
attributable to a reduction in natural gas volumes and decreased gas prices.
Operation and maintenance expenses decreased $5 million in the first
quarter of 1998 compared to pro forma operation and maintenance expenses for the
same period of 1997 primarily due to decreased maintenance due to milder weather
and lower costs resulting from cost control initiatives.
Depreciation and amortization expenses decreased $4 million in the
first quarter of 1998 in comparison to pro forma depreciation and amortization
expenses for the same period of 1997 due to a $4.8 million rate settlement
recorded in the first quarter of 1998. The rate settlement, effective January
1998, provided for a reduction of MRT's depreciation rates retroactive to July
1996.
ENERGY MARKETING
NorAm's energy marketing and gathering business (Energy Marketing)
includes the operations of NorAm's wholesale and retail energy marketing
businesses and natural gas gathering activities (conducted, respectively, by
NorAm Energy Services, Inc. (NES), NorAm Energy Management, Inc. and NorAm Field
Services Corp., three wholly owned subsidiaries of NorAm).
The following table provides summary data regarding the unaudited pro
forma results of operations of Energy Marketing, including operating statistics,
on an actual basis for the first quarter of 1998 and on a pro forma basis for
the first quarter of 1997 (as if the acquisition of NorAm had occurred as of
January 1, 1997).
QUARTER ENDED MARCH 31,
----------------------- PERCENT
1998 1997 CHANGE
--------- ----------- -------
(ACTUAL) (PRO FORMA)
(in millions )
Operating Revenues ................................. $ 1,046 $ 1,045 --
Operating Expenses:
Natural Gas and Purchased Power, net .......... 1,009 1,023 (1%)
Operation and Maintenance ..................... 22 19 16%
Depreciation and Amortization ................. 3 3 --
Other Operating Expenses ...................... 2 1 --
------- -------
Total Operating Expenses ................. 1,036 1,046 (1%)
------- -------
Operating Income (loss) ............................ $ 10 $ (1)
======= =======
Operations Data:
Natural Gas (in Bcf):
Sales ....................................... 337 320 5%
Transportation .............................. 7 7 --
Gathering ................................... 58 60 (3%)
------- -------
Total .................................. 402 387 4%
------- -------
Electricity:
Wholesale Power Sales (in thousand MWH) ..... 13,770 4,584 200%
======= =======
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Energy Marketing operating income increased $11 million in the first
quarter of 1998 in comparison to pro forma operating income for the same period
in 1997. This increase is primarily attributed to hedging losses and losses from
the sale of gas in 1997 partially offset by increased operating expenses in 1998
as discussed below. After adjusting for these prior losses, operating income
decreased for the first quarter of 1998 by approximately $6 million compared to
the same period in 1997, as explained below.
Operating Revenues. Operating revenues for Energy Marketing remained
substantially unchanged because: (i) increases in natural gas volumes at NES
were more than offset by decreases in the price of natural gas and (ii)
substantial increases in wholesale power volumes (200%) offset gas sales
declines at NES.
Operating Expenses. Operation and maintenance expenses increased $3
million when compared to pro forma operation expenses for the first quarter of
1997 largely due to increased staffing and marketing activities made in support
of the increased sales and expanded marketing efforts at NES. The Company
believes that NES' energy marketing and risk management services have the
potential of complementing the Company's strategy of developing and/or acquiring
unregulated generation assets in other markets. As a result, the Company has
made, and expects to continue to make, significant investments in developing
NES' internal software, trading and personnel resources.
Natural gas and purchased power expense decreased $14 million in the
first quarter of 1998 when compared to the first quarter of 1997 primarily due
to the nonrecurrence of 1997 losses related to: (i) hedging losses associated
with anticipated first quarter 1997 sales under peaking contracts and (ii)
losses from the sale of natural gas held in storage and unhedged in the first
quarter of 1997 totaling $17 million. Partially offsetting these losses were
increased gas and electricity marketing activities. Excluding the 1997 hedging
losses described above, natural gas and purchased power expenses increased $3
million, primarily attributable to approximately $2 million in losses on
wholesale power sales.
To minimize fluctuations in the price of natural gas and
transportation, the Company, primarily through NES, enters into futures
transactions, swaps and options in order to hedge against market price changes
affecting (i) certain commitments to buy, sell and transport natural gas, (ii)
existing gas storage inventory and (iii) certain anticipated transactions, some
of which carry off-balance sheet risk. NES also enters into natural gas
derivatives for trading purposes and electricity derivatives for hedging and
trading purposes. For a discussion about the Company's accounting treatment of
derivative instruments, see Note 2 to the Company's Form 10-K and Item 7A
(Quantitative and Qualitative Disclosure About Market Risk) in the Company's
Form 10-K.
INTERNATIONAL
The Company's international business segment (International) includes
the results of operations of HI Energy, a wholly owned subsidiary of the Company
that participates in the development and acquisition of foreign independent
power projects and the privatization of foreign generation and distribution
facilities, and the international operations of NorAm. Substantially all of
International's operations to date have been in Central and South America.
Results of operations data for International are presented in the
following table on an actual basis for the quarter ended March 31, 1998 and on a
pro forma basis for the quarter ended March 31, 1997 as if
24
28
the NorAm acquisition had occurred as of January 1, 1997. The primary pro forma
adjustment gives effect to project development costs and other expenditures
incurred by NorAm prior to the Acquisition Date. The adjustment had no effect on
operating revenues.
QUARTER ENDED
MARCH 31,
-------------------- PERCENT
1998 1997 CHANGE
-------- ---------- ------
(ACTUAL) (PRO FORMA)
(in millions)
Operating Revenues ..................... $27 $20 35%
Operating Expenses:
Fuel ................................. 5 4 25%
Operation and Maintenance ............ 10 13 (23%)
Depreciation and Amortization ........ 1 1 --
--- ---
Total Operating Expenses ..... 16 18 (11%)
--- ---
Operating Income ....................... $11 $ 2 --
=== ===
International operating income increased $9 million in the first
quarter of 1998 compared to pro forma operating income in the first quarter of
1997. Operating revenues increased $7 million in the first quarter of 1998 due
primarily to increased equity earnings from HI Energy's investment in Light, the
electric utility serving Rio de Janeiro, Brazil and HI Energy's interest in
EPSA, a Colombian electric utility acquired in June 1997. Operation and
maintenance expenses decreased $3 million when compared to proforma operating
and maintenance expenses as a result of the timing of development costs.
In April 1998, a bidding consortium comprised of HI Energy and a
Mexican co-investor submitted bids for two natural gas distribution concessions
in and around Mexico City. If successful, the consortium would be required to
purchase the existing natural gas distribution assets of one of the concessions
($79.7 million or $104.9 million, depending on the concession) and undertake to
construct and operate an expanded natural gas distribution network.
For additional information regarding International's foreign
investments and investment strategies, see Note 10(a) to the Company's Form
10-Q, Note 5 to the Company's Form 10-K and "Management's Discussion and
Analysis of Financial Condition and Results of Operations of the
Company--Results of Operations by Business Segment--International," "--Certain
Factors Affecting Future Earnings of the Company and its Subsidiaries," and
"--Liquidity and Capital Resources--Company's Consolidated Capital Resources" in
the Company's Form 10-K.
CORPORATE
Corporate. The Company's corporate and other business segment
(Corporate) includes the operations of HIPG, which is engaged in the
acquisition, development and operation of domestic non-rate regulated power
generation facilities, the Company's unregulated retail services business,
certain real estate holdings of the Company, corporate costs and inter-unit
eliminations.
In the first quarter of 1998, Corporate's operating loss of $17 million
reflects an increase of $7
25
29
million when compared to pro forma results for the first quarter of 1997.
The increase in pro forma operating loss was primarily due to (i) losses
associated with the Company consumer services business; (ii) start-up costs
associated with the Company's non-rate regulated retail electric services
business; and (iii) expenses related to the development of domestic power
generation projects.
HIPG. HIPG was formed in March 1997 to pursue the acquisition of
domestic electric generation assets as well as the development of new domestic
non-rate regulated power generation facilities. For the quarter ended March 31,
1998, HIPG had an operating loss of $3.4 million primarily as a result of
business development activities.
HIPG expect to spend approximately $339 million in 1998 pursuant to
commitments entered into with respect to bids previously awarded to HIPG and
existing development construction activities by HIPG. This amount includes $230
million for the acquisition of four gas-fired generating plants which was
completed on April 7, 1998. For additional information, see Note 10(b) to the
Company's Form 10-Q.
HIPG expects to finance its acquisitions and construction projects
primarily by borrowings obtained by one or more subsidiaries of the Company.
CERTAIN FACTORS AFFECTING FUTURE EARNINGS
OF THE COMPANY AND ITS SUBSIDIARIES
For information on developments, factors and trends that may have an
impact on the Company's future earnings, reference is made to Item 7 of the
Company's Form 10-K, "Management's Discussion and Analysis of Financial
Condition and Results of Operations of the Company--Certain Factors Affecting
Future Earnings of the Company and its Subsidiaries."
RATE PROCEEDINGS -- ELECTRIC OPERATIONS
The Texas Utility Commission has jurisdiction (or, in some cases,
appellate jurisdiction) over the electric rates of Electric Operations and, as
such, monitors Electric Operations' earnings to ensure that Electric Operations
is not earning in excess of a reasonable rate of return.
For information regarding the Transition Plan, see Note 8 of the
Interim Financial Statements.
ACCOUNTING TREATMENT OF ACES
The Company accounts for its investment in TW Preferred under the cost
method. As a result of the Company's issuance of the ACES, certain increases in
the market value of Time Warner common stock (the security into which the TW
Preferred is convertible) could result in an accounting loss to the Company,
pending the conversion of the Company's TW Preferred into Time Warner common
stock.
For additional information regarding the accounting treatment of the TW
Preferred, see Note 5 to the Company's Form 10-Q.
26
30
LIQUIDITY AND CAPITAL RESOURCES
The Company and its subsidiaries generated $424 million in cash flow
from operations in the first quarter of 1998. Overall, the Company's cash flow
from operating activities for the first quarter 1998 exceeded its cash flow used
in investing activities by $301 million. Investing activities were primarily due
to capital expenditures of $70 million and $39 million at the electric
operations and gas distribution segments, respectively.
COMPANY CONSOLIDATED SOURCES OF CAPITAL RESOURCES AND LIQUIDITY
Company. In January 1998, pollution control revenue refunding bonds
aggregating $104.7 million with $29.7 million bearing an interest rate of 5.25%
and $75 million bearing an interest rate of 5.15%, were issued on behalf of the
Company by the MCND. The bonds will mature in 2029. Proceeds from the issuances
were used in February 1998 to redeem, at 102% of the aggregate principal amount,
pollution control revenue bonds aggregating $104.7 million.
In February 1998, pollution control revenue bonds aggregating $290
million were issued on behalf of the Company by the BRA. The BRA bonds bear an
interest rate of 5 1/8% and mature in May 2019 ($200 million) and November 2020
($90 million). Proceeds from the issuances were used in May 1998 to redeem, at
102% of the aggregate principal amount, pollution control revenue bonds
aggregating $290 million.
At March 31, 1998, the Company, exclusive of subsidiaries, had a
revolving credit facility of $200 million which supported $131 million of
commercial paper having a weighted average interest rate of 5.92%. In addition,
at March 31, 1998, the Company had shelf registration statements providing for
the future issuance, subject to market and other conditions, of $230 million
aggregate liquidation value of its preferred stock and $580 million aggregate
principal amount of its debt securities.
NorAm. In February 1998, NorAm issued $300 million principal amount of
6.5% debentures due February 1, 2008. The proceeds from the sale of the
debentures were used to repay short-term indebtedness of NorAm, including the
indebtedness incurred in connection with the purchase of $101.4 million
aggregate principal amount of its 10% debentures and the repayment of $53
million aggregate principal amount of NorAm debt that matured in December 1997
and January 1998.
In the first quarter of 1998, NorAm repaid at maturity $1 million of
its 9.3% medium-term notes and satisfied the $6.5 million sinking fund
requirement for its 6% convertible subordinated debentures due March 2012 using
debentures purchased in 1996 and 1997.
In March 1998, NorAm replaced its $400 million revolving credit
facility with a five-year $350 million revolving credit facility. Borrowings
under the NorAm Credit Facility are unsecured. There were no loans outstanding
under the NorAm Credit Facility at March 31, 1998. The NorAm Credit Facility is
expected to be used to support NorAm's issuance of up to $350 million of
commercial paper. At March 31, 1998, NorAm also had a trade receivables facility
of $300 million under which receivables of $300 million had been sold and a
shelf registration statement providing for the future issuance of debt
securities of up to $200 million aggregate principal amount.
Financing Subsidiaries. At March 31, 1998, Houston Industries FinanceCo
LP's (FinanceCo) $1.6 billion revolving credit facility supported $1.2 billion
in commercial paper borrowings having a
27
31
weighted average interest rate of 5.85%. Proceeds from the initial issuances of
commercial paper by FinanceCo in 1997 were used to fund the cash portion of the
consideration paid to stockholders of the Former NorAm Energy Corp. For
additional information regarding the FinanceCo Facility, see Note 8(c) to the
Company's Form 10-K.
In March 1998, FinanceCo II, a limited partnership subsidiary of the
Company, entered into the FinanceCo II Facility, a six-month $150 million credit
facility. At March 31, 1998, borrowings from the FinanceCo II Facility totaled
$150 million. Proceeds from borrowings under the FinanceCo II Facility were used
to fund a portion of HIPG's April 1998 purchase of four electric generation
plants. For additional information regarding the FinanceCo II Facility, see Note
7(b) to the Interim Financial Statements.
General. The Company has established a "money fund" through which its
subsidiaries can borrow or invest on a short-term basis. The funding
requirements of individual subsidiaries are aggregated ,and borrowing or
investing is based on the net cash position. At March 31, 1998, NorAm had
invested $110 million in the money fund at 6.375%. The money fund's net funding
requirements are met with commercial paper. At March 31, 1998, temporary
external investments aggregated $54 million and had a rate of 6%.
The Company believes that its current level of cash and borrowing
capability along with future cash flows from operations are sufficient to meet
the needs of its existing businesses. However, to achieve its objectives, the
Company may, when necessary, supplement its available cash resources by seeking
funds in the equity or debt markets.
NEW ACCOUNTING ISSUES
The FASB issued SFAS No. 130, "Reporting Comprehensive Income" (SFAS
No. 130), which is required to be implemented for financial statements issued
for fiscal periods beginning after December 15, 1997. For further discussion,
see Note 3 to the Interim Financial Statements.
The FASB recently issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information" (SFAS No. 131) and SFAS No. 132,
"Employers' Disclosures about Pensions and Other Postretirement Benefits" (SFAS
No. 132) effective for financial statements issued for fiscal periods beginning
after December 15, 1997. SFAS No. 131 requires that companies report financial
and descriptive information about reportable operating segments in financial
statements. Segments are to be defined based upon the way in which management
reviews its operations in order to assess performance and allocate its
resources. SFAS No. 132 revises employers' disclosures about pension and other
postretirement benefit plans. The Company and NorAm will adopt SFAS No. 131 and
SFAS No. 132 for the 1998 fiscal year.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK OF THE
COMPANY
The Company and its subsidiaries have financial instruments that
involve various market risks and uncertainties. For information regarding the
Company's exposure to risks associated with interest rates, equity market prices
and energy commodity prices see Item 7A of the Company's Form 10-K.
In the first quarter of 1998, the Company recorded an additional $123
million unrealized loss (net of tax) related to the ACES. For further discussion
of this loss see Note 5 to the Company's Form 10-Q. The Company believes that
this additional unrealized loss for the ACES is more than economically hedged by
the unrecorded unrealized gain relating to the increase in the fair value of the
Time Warner common stock underlying the investment in TW Preferred since the
date of its acquisition. An increase of 15% in the price of the Time Warner
common stock above its March 31, 1998 market value of $72.00 per share would
result in the recognition of an additional unrealized accounting loss (net of
tax) of approximately $133 million.
The Company's risk associated with interest rates, equity market prices
(other than those related to ACES) and energy commodity prices have not
materially changed from the market risks faced by the Company at December 31,
1997.
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33
ITEM 1. FINANCIAL STATEMENTS.
NORAM ENERGY CORP. AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED INCOME
(THOUSANDS OF DOLLARS)
(UNAUDITED)
CURRENT FORMER
NORAM NORAM
------------ ------------
THREE MONTHS THREE MONTHS
ENDED ENDED
MARCH 31, MARCH 31,
1998 1997
------------ -----------
Revenues: ..................................................... $ 1,759,931 $ 1,924,182
----------- -----------
Expenses:
Natural gas and purchased power, net ........................ 1,388,349 1,579,178
Operation and maintenance ................................... 151,609 127,640
Depreciation and amortization ............................... 44,730 35,988
Taxes other than income taxes ............................... 33,672 36,155
----------- -----------
1,618,360 1,778,961
----------- -----------
Operating Income .............................................. 141,571 145,221
Other Income (Expense):
Interest expense, net ....................................... (26,900) (35,472)
Distributions on trust securities ........................... (268) (2,705)
Other - net ................................................. 2,556 6,309
----------- -----------
(24,612) (31,868)
----------- -----------
Income Before Income Taxes .................................... 116,959 113,353
Income Taxes .................................................. 56,353 44,943
----------- -----------
Income Before Extraordinary Item .............................. 60,606 68,410
Extraordinary gain on early retirement of debt, less taxes .... 237
----------- -----------
Net Income .................................................... $ 60,606 $ 68,647
=========== ===========
See Notes To NorAm's Consolidated Financial Statements.
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34
NORAM ENERGY CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
ASSETS
MARCH 31, DECEMBER 31,
1998 1997
---------- ------------
Property, Plant and Equipment
Natural gas distribution ................................. $1,351,870 $1,326,442
Interstate pipeline ...................................... 1,259,530 1,258,087
Energy marketing ......................................... 167,573 162,519
Other .................................................... 13,367 14,972
---------- ----------
Total ............................................ 2,792,340 2,762,020
Less accumulated depreciation and amortization ........... 85,852 59,531
---------- ----------
Property, plant and equipment-- net ...................... 2,706,488 2,702,489
---------- ----------
Current Assets
Cash and cash equivalents ................................ 51,665 35,682
Accounts and notes receivable, principally customer ...... 774,140 969,248
Accounts receivable - affiliated companies ............... 116,809 10,161
Gas in underground storage ............................... 31,423 63,702
Materials and supplies ................................... 31,271 29,611
Gas purchased in advance of delivery ..................... 6,200 6,200
Other current assets ..................................... 8,001 24,386
---------- ----------
Total current assets ............................. 1,019,509 1,138,990
---------- ----------
Other Assets
Goodwill, net ............................................ 2,013,907 2,026,395
Prepaid pension asset .................................... 91,478 92,064
Investment in marketable equity securities ............... 29,206 27,046
Regulatory asset for environmental costs ................. 21,248 21,745
Gas purchased in advance of delivery ..................... 22,765 29,048
Deferred debits, net ..................................... 71,479 93,010
---------- ----------
Total other assets ............................... 2,250,083 2,289,308
---------- ----------
Total Assets ............................................... $5,976,080 $6,130,787
========== ==========
See Notes to NorAm's Consolidated Financial Statements
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35
NORAM ENERGY CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
LIABILITIES AND STOCKHOLDER'S EQUITY
MARCH 31, DECEMBER 31,
1998 1997
----------- -----------
Stockholder's Equity:
Common stock ........................................................ $ 1 $ 1
Paid-in capital ..................................................... 2,463,831 2,463,831
Retained earnings ................................................... 81,453 20,847
Unrealized loss on marketable equity securities, net of tax ......... (4,255) (5,634)
----------- -----------
Total ....................................................... 2,541,030 2,479,045
----------- -----------
NorAm-Obligated Mandatorily Redeemable Convertible Trust Preferred
Securities of Subsidiary Trust Holding Solely
Subordinated Debentures of NorAm, net ............................... 15,021 21,290
Long-Term Debt, less Current Maturities ............................... 1,211,440 916,703
Current Liabilities:
Current maturities of long-term debt ................................ 230,590 232,145
Notes payable to banks .............................................. 390,000
Notes payable to parent ............................................. 22,100
Receivables facility ................................................ 300,000 300,000
Accounts payable, principally trade ................................. 532,617 668,269
Accounts payable - affiliated companies ............................. 2,578
Income taxes payable ................................................ 47,505
Interest payable .................................................... 20,402 27,273
General taxes ....................................................... 41,936 41,315
Customer deposits ................................................... 36,985 36,626
Other current liabilities ........................................... 117,702 133,278
----------- -----------
Total current liabilities ................................... 1,330,315 1,851,006
----------- -----------
Deferred Credits and Other Liabilities:
Accumulated deferred income taxes ................................... 503,084 488,299
Estimated environmental remediation costs ........................... 21,248 21,745
Payable under capacity lease agreement .............................. 41,000 41,000
Benefit liabilities ................................................. 173,623 182,687
Estimated obligations under indemnification provisions of sale
agreements ....................................................... 9,919 11,391
Other ............................................................... 129,400 117,621
----------- -----------
Total ....................................................... 878,274 862,743
----------- -----------
Commitments and Contingencies
Total Liabilities and Stockholder's Equity ............................ $ 5,976,080 $ 6,130,787
=========== ===========
See Notes to NorAm's Consolidated Financial Statements
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36
NORAM ENERGY CORP. AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
CURRENT FORMER
NORAM NORAM
------------ ------------
THREE MONTHS THREE MONTHS
ENDED ENDED
MARCH 31, MARCH 31,
1998 1997
------------ ------------
Cash Flows from Operating Activities:
Net income ............................................................... $ 60,606 $ 68,647
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Depreciation and amortization ......................................... 44,730 35,988
Deferred income taxes ................................................. 14,785 7,360
Extraordinary (gain), less taxes ...................................... (237)
Changes in other assets and liabilities, net of the effects of the
acquisition:
Accounts and notes receivable-net ................................... 198,560 179,133
Accounts receivable - affiliated companies .......................... (110,100)
Inventories ......................................................... 29,930 45,500
Other current assets ................................................ 16,238 6,529
Accounts payable .................................................... (133,074) (249,848)
Interest and taxes accrued .......................................... 41,255 30,776
Other current liabilities ........................................... (15,216) (37,204)
Other - net ......................................................... 29,724 10,956
--------- ---------
Net cash provided by operating activities ........................ 177,438 97,600
--------- ---------
Cash Flows from Investing Activities:
Capital expenditures ..................................................... (38,639) (26,700)
Other - net .............................................................. 2,371 4,987
--------- ---------
Net cash used in investing activities ............................ (36,268) (21,713)
--------- ---------
Cash Flows from Financing Activities:
Retirements and reacquisitions of long-term debt ........................ (1,000) (5,515)
Proceeds from sale of debentures ........................................ 300,000
Decrease in notes payable ............................................... (417,027) (28,000)
Decrease in receivables facility ........................................ (10,000)
Common and preferred stock dividends .................................... (9,631)
Conversion of convertible securities .................................... (3,255)
Other-net ............................................................... (3,905) (16,123)
--------- ---------
Net cash used in financing activities ............................. (125,187) (69,269)
--------- ---------
Net Increase In Cash And Cash Equivalents .................................. 15,983 6,618
Cash and Cash Equivalents at Beginning of the Period ....................... 35,682 27,981
--------- ---------
Cash and Cash Equivalents at End of the Period ............................. $ 51,665 $ 34,599
========= =========
Supplemental Disclosure of Cash Flow Information:
Interest (net of amounts capitalized) .................................... $ 39,194 $ 36,120
Income taxes, net ........................................................ (13,792) 3,770
See Notes To NorAm's Consolidated Financial Statements
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NORAM ENERGY CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(THOUSANDS OF DOLLARS)
(UNAUDITED)
UNREALIZED
COMMON STOCK(1) RETAINED INVESTMENT
-------------------------- PAID-IN EARNINGS GAIN (LOSS)
SHARES AMOUNT CAPITAL (DEFICIT) NET OF TAX TOTAL
------------ ---------- ----------- ---------- ----------- ----------
FORMER NORAM:
Balance at January 1, 1997....... 137,908,173 $ 86,193 $ 1,001,053 $ (286,703) $ 5 $ 800,548
Net income....................... 68,647 68,647
Cash dividends:
Common stock -- $0.07
per share.................... (9,631) (9,631)
Change in Market Value of
Marketable Equity
Securities, net of tax......... 1,199 1,199
Other Issuances.................. 321,152 200 3,757 3,957
----------- ---------- ----------- ---------- ---------- -----------
Balance at March 31, 1997........ 138,229,325 86,393 1,004,810 (227,687) 1,204 864,720
----------- ---------- ----------- ---------- ---------- ----------
Net Income....................... (22,535) (22,535)
Cash Dividends:
Common Stock -- $0.07
per share.................... (9,650) (9,650)
Change in Market Value of
Marketable Equity
Securities, Net of Tax......... 4,675 4,675
Conversion of
NorAm-Obligated
Mandatorily Redeemable
Convertible Trust Preferred
Securities of Subsidiary
Trust Holding Solely
Subordinated Debentures
of Noram to Common
Stock.......................... 11,428,262 7,143 131,425 138,568
Other Issuances.................. 26,375 16 2,039 2,055
----------- ---------- ----------- ---------- ---------- ----------
Balance at July 31, 1997....... 149,683,962 93,552 1,138,274 (259,872) 5,879 977,833
----------- ---------- ----------- ---------- ---------- ----------
CURRENT NORAM (POST
MERGER):
Adjustments due to Merger:
Eliminate Former NorAm
Balances..................... (149,683,962) (93,552) (1,138,274) 259,872 (5,879) (977,833)
Capital Contribution from
Parent......................... 1,000 1 2,463,831 2,463,832
Net Income....................... 20,847 20,847
Change in Market Value of
Marketable Equity
Securities, Net of Tax......... (5,634) (5,634)
----------- ---------- ----------- ---------- ---------- ----------
Balance at December 31, 1997..... 1,000 $ 1 $ 2,463,831 $ 20,847 $ (5,634) $2,479,045
----------- ---------- ----------- ---------- ---------- ----------
(continued on next page)
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NORAM ENERGY CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY - (CONTINUED)
(THOUSANDS OF DOLLARS)
(UNAUDITED)
UNREALIZED
COMMON STOCK(1) RETAINED INVESTMENT
--------------- PAID-IN EARNINGS GAIN(LOSS)
SHARES AMOUNT CAPITAL (DEFICIT) NET OF TAX TOTAL
------ ------ --------- --------- ------------ -------------
Net Income....................... 60,606 60,606
Change in Market
Value of Marketable Equity
Securities, net of tax..... 1,379 1,379
Balance at March 31,
1998.......................... 1,000 $ 1 $2,463,831 $ 81,453 $ (4,255) $ 2,541,030
====== ==== ========== ========= ========= ============
- -------------
(1) $.625 par, authorized 250,000,000 shares. On the Acquisition Date, NorAm's
pre-merger common stock was canceled and replaced with 1,000 shares of common
stock (all of which are owned by Houston Industries).
See Notes to NorAm's Consolidated Financial Statements.
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39
NORAM ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(1) BASIS OF PRESENTATION
On August 6, 1997 (Acquisition Date), Houston Industries Incorporated
(Former HI) merged with and into Houston Lighting & Power Company, which was
renamed "Houston Industries Incorporated" (Houston Industries), and NorAm
Energy Corp. (Former NorAm) merged with and into a subsidiary of Houston
Industries, HI Merger, Inc., which was renamed "NorAm Energy Corp." (NorAm).
Effective upon the mergers (collectively, the Merger), each outstanding share
of common stock of Former NorAm was converted into the right to receive
$16.3051 cash or 0.74963 shares of common stock of Houston Industries. For more
information regarding the Merger, see Note 2 below.
The interim financial statements and notes (NorAm's Interim Financial
Statements) in this Form 10-Q (NorAm's Form 10-Q) include the accounts of NorAm
and its wholly owned subsidiaries. NorAm's Interim Financial Statements are
unaudited, omit certain information included in financial statements prepared in
accordance with generally accepted accounting principles and should be read in
combination with the joint Annual Report on Form 10-K (NorAm's Form 10-K) for
the year ended December 31, 1997 (File No. 1-13265) and Houston Industries
Annual Report on Form 10-K (Houston Industries Form 10-K) for the year ended
December 31, 1997 (File No. 1-3187). For additional information regarding the
presentation of interim period results, see Note 6 below.
The following notes to the financial statements in NorAm's Form 10-K
relate to material contingencies. These notes, as updated by the notes contained
in the NorAm Form 10-Q, are incorporated herein by reference and include the
following:
NorAm: Note 1(c) (Regulatory Assets and Regulation), Note 2 (Derivative
Financial Instruments (Risk Management)) and Note 8 (Commitments and
Contingencies).
(2) ACQUISITION OF NORAM
The aggregate consideration paid to Former NorAm stockholders in
connection with the Merger consisted of $1.4 billion in cash and 47.8 million
shares of Houston Industries common stock valued at approximately $1.0 billion.
The overall transaction was valued at $4.0 billion consisting of $2.4 billion
paid for Former NorAm's common stock and common stock equivalents and $1.6
billion of Former NorAm's debt ($1.3 billion of which was long-term debt).
The Merger was recorded under the purchase method of accounting with
assets and liabilities of NorAm reflected at their estimated fair values as of
the Acquisition Date, resulting in a "new basis" of accounting. In NorAm's
Interim Financial Statements, periods which reflect the new basis of accounting
are labeled as "Current NorAm" and periods which do not reflect the new basis of
accounting are labeled as "Former NorAm."
NorAm's Consolidated Balance Sheets for periods after the Acquisition
Date reflect adjustments associated with Houston Industries' assignment of the
purchase price, principally consisting of (1) the
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40
revaluation of certain property, plant and equipment and long-term debt to their
estimated fair market value, (2) the recognition of certain pension and
postretirement benefit obligations previously being recognized through
amortization, (3) the recognition of goodwill as described above, (4) the
elimination of NorAm's historical goodwill, (5) the elimination of NorAm's
historical stockholders' equity balances and accumulated depreciation and
amortization as of the Acquisition Date and (6) the recognition of the
associated deferred income tax effects. In addition, NorAm's pre-merger common
stock was canceled and replaced with 1,000 shares of common stock (all of which
are owned by Houston Industries), rendering presentation of per share data no
longer meaningful. Houston Industries' debt to fund the cash portion of the
purchase consideration has not been allocated or "pushed down" to NorAm and is
not reflected on NorAm's Interim Financial Statements.
NorAm's Statements of Consolidated Income for periods after the
Acquisition Date are principally affected by (1) the amortization (over 40
years) of the newly-recognized goodwill, partially offset by the elimination of
the amortization of NorAm's historical goodwill, (2) the amortization (to
interest expense) of the revaluation of long-term debt, (3) the removal of the
amortization (to operating expense) previously associated with the pension and
postretirement obligations as described above and (4) the deferred income tax
expense associated with these adjustments. Interest expense on Houston
Industries' debt which was used to fund the cash portion of the acquisition has
not been allocated or "pushed down" to NorAm and is not reflected on NorAm's
Interim Financial Statements. For these reasons, among others, certain financial
information for periods before and after the Acquisition Date is not comparable.
Assuming the Merger occurred on January 1, 1997, NorAm's unaudited pro
forma net income for the first quarter of 1997 is $63.1 million. Pro forma
results are based on assumptions deemed appropriate by NorAm's management, have
been prepared for informational purposes only and are not necessarily indicative
of the results which would have resulted had the Merger actually taken place on
the date indicated.
(3) COMPREHENSIVE INCOME
Effective January 1, 1998, NorAm adopted Statement of Financial
Accounting Standards (SFAS) No. 130, "Reporting Comprehensive Income" (SFAS No.
130). SFAS No. 130 requires that all items that meet the definition of a
component of comprehensive income (as defined below) be reported in a financial
statement for the fiscal period in which they are recognized and the total
amount of comprehensive income be prominently displayed in that same financial
statement. Comprehensive income is defined to include not only net income but
also the change in equity of a business enterprise during a period from
transactions and other events and circumstances from non-owner sources. NorAm's
total comprehensive income which includes unrealized gain on marketable equity
securities for the quarters ended March 31, 1998 and 1997 is $62 million and $70
million, respectively. Adoption of SFAS No.130 has no impact on NorAm's net
income or stockholders' equity.
(4) DEPRECIATION
NorAm calculates depreciation using the straight-line method. NorAm's
depreciation expense for the first quarter of 1998 was $34 million.
(5) LONG-TERM DEBT AND SHORT-TERM FINANCINGS
In March 1998, NorAm replaced its $400 million revolving credit
facility with a five-year $350 million revolving credit facility (NorAm Credit
Facility). Borrowings under the NorAm Credit Facility are unsecured and bear
interest at a rate based upon either the London interbank offered rate (LIBOR)
plus a margin, a base rate or a rate determined through a bidding process. The
NorAm Credit Facility is expected to be used to support NorAm's issuance of up
to $350 million of commercial paper. There were no loans
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41
outstanding under the NorAm Credit Facility at March 31, 1998.
In February 1998, NorAm issued $300 million principal amount of its
6 1/2% Debentures due February 1, 2008 (6 1/2% Debentures). The 6 1/2%
Debentures are not redeemable prior to maturity and are not subject to any
sinking fund requirements. The proceeds from the sale of the 6 1/2% Debentures
were used to repay short-term indebtedness of NorAm, including the indebtedness
incurred in connection with the 1997 purchase of $101 million aggregate
principal amount of its 10% Debentures and the repayment of $53 million
aggregate principal amount of NorAm debt that matured in December 1997 and
January 1998.
In the first quarter of 1998, NorAm repaid at maturity $1 million of
its 9.30% medium-term notes and satisfied the $6.5 million sinking fund
requirement for its 6% Debentures due 2012 using debentures purchased in 1996
and 1997.
(6) NORAM OBLIGATED MANDATORILY REDEEMABLE TRUST SECURITIES OF SUBSIDIARY TRUSTS
HOLDING SOLELY SUBORDINATED DEBENTURES OF NORAM.
For information regarding $177.8 million of convertible preferred
securities issued by a statutory business trust formed by Former NorAm, of which
$11.6 million were outstanding at March 31, 1998, see Note 5 to NorAm's Form
10-K. The sole asset of the trust consists of junior subordinated debentures of
NorAm having interest rates and maturity dates corresponding to the preferred
securities, and the principal amount corresponding to the common and preferred
securities issued by the trust.
(7) INTERIM PERIOD RESULTS: RECLASSIFICATIONS
NorAm's Interim Financial Statements reflect all normal recurring
adjustments that are, in the opinion of management, necessary to present fairly
the financial position and results of operations for the respective periods.
Amounts reported in the Consolidated Statements of Income are not necessarily
indicative of amounts expected for a full year period due to the effects of,
among other things, (i) the Merger, (ii) seasonal temperature variations in
energy consumption and (iii) the timing of maintenance and other expenditures.
In addition, certain amounts from the prior year have been reclassified to
conform to NorAm's presentation of financial statements in the current year.
Such reclassifications do not affect earnings.
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ITEM 2. MANAGEMENT'S NARRATIVE ANALYSIS OF THE RESULTS OF OPERATIONS OF NORAM
ENERGY CORP. AND CONSOLIDATED SUBSIDIARIES.
NorAm meets the conditions specified in General Instruction H to Form
10-Q and is thereby permitted to use the reduced disclosure format for wholly
owned subsidiaries of reporting companies specified therein. Accordingly, NorAm
has omitted from this Form 10-Q the information called for by Item 3 of Part I
and the following Part II items of Form 10-Q: Item 2 (changes in securities and
use of proceeds), Item 3 (defaults upon senior securities), and Item 4
(submission of matters to a vote of security holders). In lieu of the
information called for by Item 2 (management's discussion and analysis of
financial condition and results of operations) of Form 10-Q, NorAm has included
the following Management's Narrative Analysis of the Results of Operations of
NorAm Energy Corp. and Consolidated Subsidiaries to explain material changes in
the amount of revenue and expense items of NorAm between the first quarter of
1998 and the first quarter of 1997. Reference is made to Management's Narrative
Analysis of the Results of Operations in Item 7 of NorAm's Form 10-K, NorAm's
consolidated financial statements and notes contained in Item 8 of NorAm's Form
10-K and NorAm's Interim Financial Statements contained in this Form 10-Q.
Statements contained in this Form 10-Q that are not historical facts
are forward-looking statements as defined in the Private Securities Litigation
Reform Act of 1995. Forward-looking statements are based on management's beliefs
as well as assumptions made by and information currently available to
management. Because such statements are based on expectations as to future
economic performance and are not statements of fact, actual results may differ
materially from those projected. Important factors that could cause future
results to differ include (i) the effects of competition in the natural gas
industry, (ii) legislative and regulatory changes, (iii) fluctuations in the
weather, (iv) fluctuations in energy commodity prices, (v) environmental
liabilities, (vi) changes in the economy and (vii) other factors discussed in
this and other filings by NorAm with the Securities and Exchange Commission.
When used in NorAm's documents or oral presentations, the words "anticipate,"
"estimate," "expect," "objective," "projection," "forecast," "goal" or similar
words are intended to identify forward-looking statements. The section of
Management's Narrative Analysis of the Results of Operations of NorAm Energy
Corp. and Consolidated Subsidiaries captioned "Results of Operations By Business
Unit" contains or incorporates by reference forward-looking statements.
NORAM ENERGY CORP.
NorAm conducts operations primarily in the natural gas industry,
including gathering, transmission, marketing, storage and distribution.
Collectively, these operations accounted for in excess of 90% of NorAm's total
revenues, income or loss and identifiable assets in the first quarter of 1998.
Accordingly, NorAm is not required to report on a "segment" basis, although
NorAm is organized into, and the following business description focuses on, the
operating units described below. NorAm also makes sales of electricity,
non-energy sales and provides certain non-energy services, primarily to retail
gas distribution customers. In recognition of the manner in which NorAm manages
its portfolio of businesses, NorAm has segregated its results of operations
into: Natural Gas Distribution, Interstate Pipeline, Energy Marketing and
Corporate.
On August 6, 1997 (Acquisition Date), NorAm became a wholly owned
subsidiary of Houston Industries Incorporated (Houston Industries) in a
transaction involving the merger (Merger) of NorAm Energy Corp. (Former NorAm)
with and into a subsidiary of Houston Industries. For additional information
regarding Houston Industries' acquisition of NorAm, see Note 2 to NorAm's
Interim Financial Statements.
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CONSOLIDATED RESULTS OF OPERATIONS
Seasonality and Other Factors. NorAm's results of operations are
seasonal due to seasonal fluctuations in the demand for and, to a lesser extent,
the price of natural gas. NorAm's results of operations are also affected by,
among other things, the actions of various federal and state governmental
authorities having jurisdiction over rates charged by NorAm and its
subsidiaries, competition in NorAm's various business operations, debt service
costs and income tax expense. For a discussion of certain other factors that may
affect NorAm's future earnings see "Management's Discussion and Analysis of
Financial Condition and Results of Operations of the Company--Certain Factors
affecting Future Earnings of the Company and its Subsidiaries" in the Company's
Form 10-K.
Accounting Impact of the Merger. The Merger created a new basis of
accounting for NorAm, resulting in new carrying values for certain of NorAm's
assets, liabilities and equity commencing upon the Acquisition Date. NorAm's
Statements of Consolidated Income for periods after the Acquisition Date are
principally affected by (1) the amortization (over 40 years) of the
newly-recognized goodwill, partially offset by the elimination of the
amortization of NorAm's historical goodwill, (2) the amortization (to interest
expense) of the revaluation of long-term debt, (3) the removal of the
amortization (to operating expense) previously associated with the pension and
post-retirement obligations and (4) the deferred income tax expense associated
with these adjustments. Interest expense on Houston Industries' debt which was
used to fund the cash portion of the acquisition has not been allocated or
"pushed down" to NorAm and is not reflected on NorAm's Interim Financial
Statements. For these reasons, among others, certain financial information for
periods before and after the Acquisition Date is not comparable.
Because results of operations and other financial information for
periods before and after the Acquisition Date are not comparable, NorAm is
presenting certain financial data on an actual basis and on a pro forma basis as
if the Merger had taken place at the beginning of the period presented. These
results do not necessarily reflect the results which would have been obtained if
the Merger had actually occurred on the dates indicated or the results that may
be expected in the future.
The following table sets forth selected financial and operating data on
an actual basis for the quarters ended March 31, 1998 and 1997 and on a pro
forma basis for the quarter ended March 31, 1997, followed by a discussion of
significant variances in period-to-period results:
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SELECTED FINANCIAL RESULTS:
ACTUAL
QUARTER ENDED MARCH 31, QUARTER ENDED MARCH 31,
----------------------------- -------------------------------------------
1998 1997 1998 1997 PERCENT
(ACTUAL) (ACTUAL) (ACTUAL) (PRO FORMA)(1) CHANGE
------------- ----------- ----------- -------------- ------
(THOUSANDS OF DOLLARS)
Operating Revenues:
Natural Gas Distribution............ $ 716,896 $ 881,251 $ 716,896 $ 881,251 (19%)
Interstate Pipeline ................ 70,981 84,284 70,981 84,284 (16%)
Energy Marketing ................... 1,045,619 1,045,466 1,045,619 1,045,466
Corporate and Other ................ 21,116 16,759 21,116 16,759 26%
Elimination of Intersegment
Revenues (2) .................... (94,681) (103,578) (94,681) (103,578) (9%)
----------- ----------- ----------- ----------
$ 1,759,931 $ 1,924,182 $ 1,759,931 $1,924,182 (9%)
=========== =========== =========== ==========
Operating Income (Loss):
Natural Gas Distribution ........... 101,604 112,652 101,604 106,751 (5%)
Interstate Pipelines ............... 32,073 38,851 32,073 34,915 (8%)
Energy Marketing ................... 9,581 682 9,581 (1,042)
Corporate and Other ................ (1,687) (6,964) (1,687) (4,012) (58%)
----------- ----------- ----------- ----------
Consolidated ......................... 141,571 145,221 141,571 136,612 4%
Interest Expense, Net ................ 26,900 35,472 26,900 30,564 (12%)
Distributions on Subsidiary Trust
Securities ......................... 268 2,705 268 514 (48%)
Other (Income) and Deductions ........ (2,556) (6,309) (2,556) (6,309) (59%)
Income Tax Expense ................... 56,353 44,943 56,353 48,712 16%
----------- ----------- ----------- ----------
Net Income.......................... $ 60,606 $ 68,410 $ 60,606 $ 63,131 (4%)
=========== =========== =========== ==========
- ----------
(1) Pro forma results reflect purchase accounting adjustments as if the Merger
had occurred on January 1, 1997. Adjustments for goodwill have been
allocated to the respective business units.
(2) Elimination of operating revenues derived from sales to affiliated business
units.
First Quarter of 1998 Compared to First Quarter of 1997 (Pro Forma).
Noram's operating income increased $5 million in the first quarter of 1998
compared to pro forma operating income for the first quarter of 1997. This
increase is primarily attributed to hedging losses and losses from the sale of
gas in the first quarter of 1997, partially offset by increased operating
expenses in 1998 as discussed below. After adjusting for these prior losses,
operating income in the first quarter of 1998 decreased by approximately $12
million compared to the same period of 1997 as explained below.
Operating revenues decreased $164 million in the first quarter of 1998
compared to pro forma operating revenues for the first quarter of 1997.
Operating expenses for the first quarter of 1998 were $1,618 million compared to
pro forma operating expenses of $1,788 million for the same period of 1997
resulting in a decrease of $170 million. This decrease in operating income
(adjusted, as explained above) is principally the result of (i) a
weather-related decline in sales volumes of approximately $10 million on an
operating income basis from natural gas distribution, (ii) increased
administrative and general expense of approximately $3 million associated with
increased staffing and marketing in connection with increasing the scope of
energy marketing activities and (iii) non-recurring transportation revenues
recognized in the first quarter of 1997 of $7 million. These factors were
partially offset by decreases in depreciation and amortization expenses due to a
$4.8 Million rate settlement recorded in the first quarter of 1998 by Interstate
Pipeline and lower natural gas costs at Arkla of $4 million attributable to the
purchase gas adjustments
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recorded in the first quarter of 1998 as discussed below. For a more detailed
comparative discussion regarding pro forma operating revenue and expense items,
see "Results of Operations by Business Unit" below.
First Quarter of 1998 Compared to First Quarter of 1997 (Actual). Noram had
actual operating revenues of $1.8 Billion in the first quarter of 1998 compared
to $1.9 Million in the first quarter of 1997. Actual operating expenses for the
first quarter of 1998 were $1.6 Billion compared to operating expenses of $1.8
Billion in the first quarter of 1997. Noram's operating income decreased $4
million in the first quarter of 1998 compared to operating income for the first
quarter of 1997. Noram's operating income for the first quarter of 1998 includes
expenses associated with purchase accounting of approximately $9 million.
Adjusting for these purchase accounting expenses, the change in operating income
was caused by the same factors referenced in the discussion of pro forma
operating income.
RESULTS OF OPERATIONS BY BUSINESS UNIT
NATURAL GAS DISTRIBUTION
NorAm's domestic natural gas distribution operations (Natural Gas
Distribution) are conducted through its Arkla, Entex and Minnegasco divisions.
These operations consist of natural gas sales to, and natural gas transportation
for, residential, commercial and certain industrial customers in six states:
Arkansas, Louisiana, Minnesota, Mississippi, Oklahoma and Texas.
The following table provides summary data regarding the results of
operations of Natural Gas Distribution, including operating statistics, for the
quarters ended March 31, 1998 and 1997 on an actual basis for the first quarter
of 1998 and on a pro forma basis for the first quarter of 1997 (as if the
acquisition of NorAm had occurred as of January 1, 1997).
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Quarter Ended MARCH 31, PERCENT
1998 1997 CHANGE
-------- ------------ -------
(ACTUAL) (PRO FORMA)
(in millions)
Operating Revenues ....................... $717 $881 (19%)
Operating Expenses:
Natural Gas ......................... 458 616 (26%)
Operation and Maintenance ........... 98 97 1%
Depreciation and Amortization ....... 32 30 7%
Other Operating Expenses ............ 27 31 (10%)
---- ----
Total Operating Expenses ........ 615 774 (20%)
---- ----
Operating Income ......................... $102 $107 (5%)
==== ====
Throughput Data (in Bcf):
Residential and Commercial Sales .... 126 137 (8%)
Industrial Sales .................... 15 15
Transportation ...................... 13 12 8%
---- ----
Total Throughput ................. 154 164 (6%)
==== ====
Natural Gas Distribution operating income decreased $5 million in the
first quarter of 1998 compared to pro forma operating income in the first
quarter of 1997 due primarily to weather-related factors. This decrease in
operating income is partially offset by the favorable impact of Arkla's charges
associated with the applicable state regulatory commission's methodology of
calculating the price of gas charged to customers (the purchased gas adjustment)
in the first quarter of 1998 as compared to the first quarter of 1997.
Natural Gas Distribution operating revenue decreased $164 million for
the first quarter of 1998 compared to pro forma operating revenue for the
corresponding period of 1997 due principally to the warmer weather, which
resulted in lower customer usage at Entex and Minnegasco, and a decrease in gas
prices.
Operating expenses decreased $159 million in the first quarter of 1998
compared to pro forma operating expenses in the same period of 1997 due to the
same factors that affected operating revenues as discussed above.
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INTERSTATE PIPELINE
NorAm's interstate natural gas pipeline operations (Interstate
Pipeline) are conducted through NorAm Gas Transmission Company (NGT) and
Mississippi River Transmission Corporation (MRT), two wholly owned subsidiaries
of NorAm. The NGT system consists of approximately 6,200 miles of natural gas
transmission lines located in portions of Arkansas, Kansas, Louisiana,
Mississippi, Missouri, Oklahoma, Tennessee and Texas. The MRT system consists of
approximately 2,000 miles of pipeline serving principally the greater St. Louis
area in Missouri and Illinois.
The following table provides summary data regarding the results of
operations of Interstate Pipeline, including operating statistics, on an actual
basis for the first quarter of 1998 and on a pro forma basis for the first
quarter of 1997 (as if the acquisition of NorAm had occurred as of January 1,
1997).
QUARTER ENDED MARCH 31,
----------------------- PERCENT
1998 1997 CHANGE
-------- ----------- --------
(ACTUAL) (PRO FORMA)
(in millions)
Operating Revenues ..................... $ 71 $ 84 (15%)
Operating Expenses:
Natural Gas ....................... 8 11 (27%)
Operation and Maintenance ......... 17 22 (23%)
Depreciation and Amortization ..... 9 13 (31%)
Other Operating Expenses .......... 5 3 67%
----- -----
Total Operating Expenses ..... 39 49 (20%)
----- -----
Operating Income ....................... $ 32 $ 35 (8%)
===== =====
Throughput Data (in million MMBtu):
Natural Gas Sales ................... 4 5 (20%)
Transportation ...................... 237 250 (5%)
Elimination (1) ................ (4) (4) --
----- -----
Total Throughput ....................... 237 251 (5%)
===== =====
- ----------
(1) Elimination refers to volumes of natural gas both transported and sold by
Interstate Pipeline and, therefore, excluded from total throughput.
Interstate Pipeline operating income decreased $3 million in the first
quarter of 1998 compared to pro forma operating income in the first quarter of
1997 due primarily to non-recurring items occurring in the first quarter of 1997
and milder weather in the first quarter of 1998. These factors were partially
offset by lower operating expenses in the first quarter of 1998.
Operating revenues for Interstate Pipeline decreased by $13 million for
the first quarter of 1998 compared to pro forma operating revenues for the same
period in 1997. The decrease in revenues is primarily due to $7 million of
non-recurring transportation revenues recognized in the first quarter of 1997
upon completion of settlement negotiations with Arkla related to service
provided in several of their operating jurisdictions. In addition, the decrease
in revenues is also attributable to a reduction in natural gas volumes and
decreased gas prices.
Operation and maintenance expenses decreased $5 million in the first
quarter of 1998 compared to pro forma operation and maintenance expenses for the
same period of 1997 primarily due to decreased maintenance due to milder weather
and lower costs resulting from cost control initiatives.
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48
Depreciation and amortization expenses decreased $4 million in the
first quarter of 1998 in comparison to pro forma depreciation and amortization
expenses for the same period of 1997 due to a $4.8 million rate settlement
recorded in the first quarter of 1998. The rate settlement, effective January
1998, provided for a reduction of MRT's depreciation rates retroactive to July
1996.
ENERGY MARKETING
NorAm's energy marketing and gathering business (Energy Marketing)
includes the operations of NorAm's wholesale and retail energy marketing
businesses and natural gas gathering activities (conducted, respectively, by
NorAm Energy Services, Inc. (NES), NorAm Energy Management, Inc. and NorAm Field
Services Corp., three wholly owned subsidiaries of NorAm).
The following table provides summary data regarding the unaudited pro
forma results of operations of Energy Marketing, including operating statistics,
on an actual basis for the first quarter of 1998 and on a pro forma basis for
the first quarter of 1997 (as if the acquisition of NorAm had occurred as of
January 1, 1997).
QUARTER ENDED MARCH 31, PERCENT
1998 1997 CHANGE
------- ----------- -------
(ACTUAL) (PRO FORMA)
(in millions )
Operating Revenues ................................ $ 1,046 $ 1,045 --
Operating Expenses:
Natural Gas and Purchased Power, net ......... 1,009 1,023 (1%)
Operation and Maintenance .................... 22 19 16%
Depreciation and Amortization ................ 3 3 --
Other Operating Expenses ..................... 2 1 --
------- -------
Total Operating Expenses ................ 1,036 1,046 (1%)
------- -------
Operating Income (loss) ........................... $ 10 $ (1)
======= =======
Operations Data:
Natural Gas (in Bcf):
Sales ...................................... 337 320 5%
Transportation ............................. 7 7 --
Gathering .................................. 58 60 (3%)
------- -------
Total ................................. 402 387 4%
------- -------
Electricity:
Wholesale Power Sales (in thousand MWH) .... 13,770 4,584 200%
======= =======
Energy Marketing operating income increased $11 million in the first
quarter of 1998 in comparison to pro forma operating income for the same period
in 1997. This increase is primarily attributed to hedging losses and losses from
the sale of gas in 1997 partially offset by increased operating expenses in 1998
as discussed below. After adjusting for these prior losses, operating income
decreased for the first quarter of 1998 by approximately $6 million compared to
the same period in 1997, as explained below.
Operating Revenues. Operating revenues for Energy Marketing remained
substantially unchanged because: (i) increases in natural gas volumes at NES
were more than offset by decreases in the price of natural gas and (ii)
substantial increases in wholesale power volumes (200%) offset gas sales
declines at NES.
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Operating Expenses. Operation and maintenance expenses increased $3
million when compared to pro forma operation expenses for the first quarter of
1997 largely due to increased staffing and marketing activities made in support
of the increased sales and expanded marketing efforts at NES. Houston Industries
believes that NES' energy marketing and risk management services have the
potential of complementing Houston Industries' strategy of developing and/or
acquiring unregulated generation assets in other markets. As a result, Houston
Industries has made, and expects to continue to make, significant investments in
developing NES' internal software, trading and personnel resources.
Natural gas and purchased power expense decreased $14 million in the
first quarter of 1998 when compared to the first quarter of 1997 primarily due
to the nonrecurrence of 1997 losses related to: (i) hedging losses associated
with anticipated first quarter 1997 sales under peaking contracts and (ii)
losses from the sale of natural gas held in storage and unhedged in the first
quarter of 1997 totaling $17 million. Partially offsetting these losses were
increased gas and electricity marketing activities. Excluding the 1997 hedging
losses described above, natural gas and purchased power expenses increased $3
million, primarily attributable to approximately $2 million in losses on
wholesale power sales.
To minimize fluctuations in the price of natural gas and
transportation, NorAm, primarily through NES, enters into futures transactions,
swaps and options in order to hedge against market price changes affecting (i)
certain commitments to buy, sell and transport natural gas, (ii) existing gas
storage inventory and (iii) certain anticipated transactions, some of which
carry off-balance sheet risk. NES also enters into natural gas derivatives for
trading purposes and electricity derivatives for hedging and trading purposes.
For a discussion about NorAm's accounting treatment of derivative instruments,
see Note 2 to NorAm's Form 10-K and Item 7A (Quantitative and Qualitative
Disclosure About Market Risk) in Houston Industries' Form 10-K.
CORPORATE
NorAm's corporate and other business (Corporate) includes the
operations of NorAm's unregulated retail services business, international
operations, certain real estate investments, corporate costs and elimination of
transactions between affiliated business units.
Corporate operating revenues increased $4 million and operating loss
decreased $2 million in the first quarter of 1998 when compared to pro forma
operating revenues and operating loss for the same period in 1997. The increased
revenues and reduced operations loss were due to increased activities associated
with NorAm's utility services and consumer services businesses and reduced
corporate expenses.
NON-OPERATING INCOME AND EXPENSE
The increase of $7.6 million in income tax expense in comparison to pro
forma income tax expense for the first quarter of 1997 is primarily due to the
impact of higher state tax expense and miscellaneous other non-deductible items.
Reference is made to Note 5 of NorAm's Interim Financial Statements for
a discussion of NorAm's short- and long-term debt.
NEW ACCOUNTING ISSUES
Reference is made to "Management's Discussion and Analysis of Financial
Condition and Results of Operations of the Company -- New Accounting Issues" in
Item 2 of Houston Industries' Form 10-Q, which has been jointly filed with the
NorAm Form 10-Q, for a discussion of certain new accounting issues.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
For a description of legal proceedings affecting the Company
and its subsidiaries, including NorAm, reference is made to
Item 3 of the Company's Form 10-K, Notes 3 and 5 to the
Company's Form 10-K and Note 8 to NorAm's Form 10-K, which
information is incorporated herein by reference. For
information regarding a franchise fee lawsuit pending against
the Company, see Note 12(h) to the financial statements in the
Company's Form 10-K. In December 1997, a similar lawsuit
(pending in the 239th District Court, Brazoria County, Texas)
was filed against NorAm by the City of Pearland, Texas, and
similarly situated cities in Entex's service areas.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
On March 31, 1998, the Company sold 1,575 shares of its Series
C Preference Stock, without par value, to Houston Industries
FinanceCo II, LP, a limited partnership financing subsidiary
of the Company, for $150,000,000. The transaction was exempt
from registration under the Securities act of 1933, as
amended, pursuant to Section 4(2) thereunder. For additional
information regarding this transaction, see Note 6(d) to the
Company's Form 10-Q.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits.
Houston Industries Incorporated:
Exhibit 3 - Statement of Resolution Establishing Series of Shares
designated Series C Preference Stock.
Exhibit 27 - Financial Data Schedule. (Houston Industries)
Exhibit 99(a) - Notes 1(c), 1(n), 2, 3, 4, 5 and 12 to the Company's
Interim Financial Statements included on pages 64,
68, pages 69 through 77, and pages 92 through 94 of
the Company's Form 10-K.
NorAm Energy Corp.:
Exhibit 27 - Financial Data Schedule (NorAm Energy).
Exhibit 99(a) - Notes 1(c), 2 and 8 to NorAm's Interim Financial
Statements included on pages 116, 117 and pages 118
through 121, and pages 132 through 135 of NorAm's
Form 10-K. (NorAm)
(b) Reports on Form 8-K.
Form 8-K of NorAm dated February 5, 1998. (Items 5 and 7)
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HOUSTON INDUSTRIES INCORPORATED
(Registrant)
/s/ Mary P. Ricciardello
-----------------------------------
Mary P. Ricciardello
Vice President and Comptroller
(Principal Accounting Officer)
Date: May 14, 1998
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
NORAM ENERGY CORP.
(Registrant)
/s/ Mary P. Ricciardello
-------------------------------------
Mary P. Ricciardello
Vice President and Comptroller
(Principal Accounting Officer)
Date: May 14, 1998
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(a) Exhibits.
Houston Industries Incorporated:
Exhibit 3 - Statement of Resolution Establishing Series of Shares
designated Series C Preference Stock.
Exhibit 27 - Financial Data Schedule (Houston Industries)
Exhibit 99(a) - Notes 1(c), 1(n), 2, 3, 4, 5 and 12 to the Company's
Interim Financial Statements included on pages 64, 68,
pages 69 through 77, and pages 92 through 94 of the
Company's Form 10-K.
NorAm Energy Corp.:
Exhibit 27 - Financial Data Schedule. (NorAm Energy)
Exhibit 99(a) - Notes 1(c), 2 and 8 to NorAm's Interim Financial
Statements included on pages 116, 117 and pages 118
through 121, and pages 132 through 135 of NorAm's Form
10-K.
(b) Reports on Form 8-K.