================================================================================
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
Quarterly Report under section 13 or 15(d)
of the Securities Exchange Act of 1934
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2001
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 0-14183
ENERGY WEST INCORPORATED
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Montana 81-0141785
- ------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1 First Avenue South, Great Falls, Mt. 59401
---------------------------------------- ---------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (406)-791-7500
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at February 11, 2002
(Common stock, $.15 par value) 2,568,580
================================================================================
ENERGY WEST INCORPORATED
INDEX TO FORM 10-Q
Page No.
--------
Part I - Financial Information
Item 1 - Financial Statements
Condensed Consolidated Balance Sheets as of
December 31, 2001 and 2000 and June 30, 2001 1
Condensed Consolidated Statements of Income -
three months and six months ended December 31, 2001 and 2000 2
Condensed Consolidated Statements of cash flows -
six months ended December 31, 2001 and 2000 3
Notes to Condensed Consolidated Financial Statements 4-9
Item 2 - Management's discussion and analysis of
financial condition and results of operations 10-17
Item 3 - Quantitative and Qualitative Disclosures about Market Risk 18
Part II Other Information
Item 1 - Legal Proceedings 19
Item 2 - Changes in Securities 20
Item 3 - Defaults upon Senior Securities 20
Item 4 - Submission of Matters to a Vote of Security Holders 20
Item 5 - Other Information 20
Item 6 - Exhibits and Reports on Form 8-K 20
Signatures
I. FINANCIAL INFORMATION
Item 1. Financial Statements
FORM 10Q
ENERGY WEST INCORPORATED
CONDENSED CONSOLIDATED BALANCE SHEETS
ASSETS
December 31 December 31 June 30
2001 2000 2001
(Unaudited) (Unaudited) (Unaudited)
--------------------------------------------------
Current Assets:
Cash and Cash Equivalents $ 562,592 $ 214,352 $ 220,667
Accounts Receivable (net) 14,010,028 16,920,223 10,331,403
Derivative Assets 5,862,665 18,162,248 3,444,861
Natural Gas and Propane Inventory 7,502,315 3,302,923 4,767,546
Materials and Supplies 654,337 655,484 631,574
Prepayments and other 600,709 513,423 401,142
Refundable Income Tax Payments 241,416 942,233 0
Recoverable Cost of Gas Purchases 3,776,358 6,754,684 6,824,220
--------------------------------------------------
Total Current Assets 33,210,420 47,465,570 26,621,413
--------------------------------------------------
Notes Receivable Due After One Year 3,300 148,769 137,927
Property, Plant and Equipment-Net 34,648,397 32,669,205 32,999,158
Deferred Charges 2,460,170 2,695,535 2,519,137
--------------------------------------------------
Total Assets $70,322,287 $82,979,079 $62,277,635
==================================================
CAPITALIZATION AND LIABILITIES
Current Liabilities:
Note payable to bank $14,220,869 $12,441,429 $3,785,989
Long-term debt due within one year 470,000 445,000 465,000
Accounts Payable - Gas and Electric Purchases 7,331,601 9,609,487 8,229,601
Accounts Payable - Other 707,643 807,095 1,075,519
Derivative Liabilities 6,057,940 18,520,084 3,921,354
Deferred Income Taxes 233,631 2,407,178 631,305
Other Current and Accrued Liabilities 3,489,248 1,989,867 6,307,217
--------------------------------------------------
Total Current Liabilities 32,510,932 46,220,140 24,415,985
--------------------------------------------------
Deferred Income Taxes 3,937,944 3,803,093 3,835,513
Other Deferred Credits 2,548,639 2,534,856 2,531,863
Long-term obligations 15,776,000 16,304,000 15,881,000
Stockholders' Equity
Preferred Stock --$.15 par value:
Authorized -- 1,500,000 shares
Outstanding -- none
Common Stock -- $.15 par value Authorized --
3,500,000 shares Outstanding -- 2,565,590
shares at December 31, 2001; 2,513,383
at June 30, 2001 384,855 375,548 377,015
Capital in Excess of Par Value 4,791,890 4,111,803 4,248,310
Retained Earnings 10,372,027 9,629,639 10,987,949
--------------------------------------------------
Total Stockholders' Equity 15,548,772 14,116,990 15,613,274
--------------------------------------------------
Total Capitalization and Liabilities $70,322,287 $82,979,079 $62,277,635
==================================================
The accompanying notes are an integral part of these
condensed consolidated financial statements.
1
FORM 10Q
ENERGY WEST INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended Six Months Ended
December 31 December 31
-------------------------------- ----------------------------
2001 2000 2001 2000
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
(Restated) (Restated)
-------------------------------- -----------------------------
Operating Revenue:
Natural Gas Operations $12,158,063 $12,861,778 $17,029,622 $16,253,585
Propane Operations 2,763,711 4,620,260 3,879,790 6,325,092
Energy Marketing and Wholesale 9,881,940 $11,229,701 21,476,540 22,552,491
------------------------------------------------------------------
Total Revenue 24,803,714 28,711,739 42,385,952 45,131,168
------------------------------------------------------------------
Operating Expenses
Gas and Propane Purchased 10,933,322 13,069,591 14,976,267 16,204,299
Cost of Gas, Electric and Propane Trading 9,312,913 9,529,078 20,874,973 19,745,666
Distribution, General and Administrative 2,510,269 2,973,509 4,794,841 5,092,156
Maintenance 102,726 92,871 197,967 190,933
Depreciation and Amortization 515,287 513,908 1,029,481 1,028,233
Other Taxes 229,918 159,992 406,316 312,863
------------------------------------------------------------------
Total Operating Expenses 23,604,435 26,338,949 42,279,845 42,574,150
------------------------------------------------------------------
Operating Income 1,199,279 2,372,790 106,107 2,557,018
Other Income (Loss) -- Net 235,618 290,917 1,043,306 (270,983)
------------------------------------------------------------------
Income Before Interest and IncomeTaxes 1,434,897 2,663,707 1,149,413 2,286,035
------------------------------------------------------------------
Interest Charges:
Long-Term Debt 299,096 306,168 599,252 613,367
Other 204,243 288,218 280,921 504,388
------------------------------------------------------------------
Total Interest Charges 503,339 594,386 880,173 1,117,755
------------------------------------------------------------------
Net Income Before Income Taxes 931,558 2,069,321 269,240 1,168,280
Provision for Income Taxes 309,014 747,264 80,042 439,557
------------------------------------------------------------------
Net Income $622,544 $1,322,057 $189,198 $728,723
==================================================================
Basic and Diluted Income Per Common Share $0.25 $0.20 $0.07 $0.29
------------------------------------------------------------------
Dividends Per Common Share $0.1250 $0.1200 $0.2500 $0.2400
------------------------------------------------------------------
Basic Weighted Average Shares 2,486,139 2,442,516 2,528,572 2,486,139
Diluted Weighted Average Shares 2,491,674 2,442,516 2,538,707 2,486,139
The accompanying notes are an integral part of these condensed
consolidated financial statements.
2
FORM 10Q
ENERGY WEST INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Six Months Ended
December 31
2001 2000
(Unaudited) (Unaudited)
----------------------------------
Operating Activities:
Net Income $189,198 $728,723
Adjustments to Reconcile Net Income to Cash Used in Operating Activities
Depreciation and Amortization 1,029,481 1,028,233
(Gain) Loss on Sale of Property, Plant & Equipment (25,420) 0
Deferred Gain on Sale of Assets (11,814) (11,814)
Investment Tax Credit (10,532) (10,532)
Deferred Income Taxes (295,243) 859,864
Changes in Operating Assets and Liabilities
Accounts Receivable - Net (3,678,624) (7,510,641)
Derivative Assets (2,417,804) (18,123,358)
Natural Gas and Propane Inventory (2,734,769) (1,389,222)
Prepayments and Other (199,567) (152,595)
Recoverable Cost of Gas Purchases 3,047,862 (2,041,289)
Accounts Payable - Gas and Electric Purchases (898,000) 3,840,002
Accounts Payable - Other (367,876) 217,288
Derivative Liabilities 2,136,586 18,520,084
Changes in Other Operating Assets and Liabilities (2,742,174) (995,638)
---------------------------------
Net Cash Used In Operating Activities (6,978,696) (5,040,895)
Investing Activities:
Construction Expenditures (2,684,962) (1,856,014)
Collection of Long-Term Notes Receivable 134,627 13,616
Contributions in Aid of Construction (1,854) 25,030
Proceeds from Sale of Property, Plant & Equipment 41,468 0
Customer Advances for Construction 0 (26,400)
---------------------------------
Net Cash Used In Investing Activities (2,510,721) (1,843,768)
Financing Activities:
Proceeds from Notes Payable 30,761,025 46,509,505
Repayment of Long-Term Debt (100,000) (91,000)
Sale of Common Stock 91,575 20,700
Repayment of Notes Payable (20,326,145) (38,923,076)
Dividends paid (595,113) (529,288)
---------------------------------
Net Cash Provided by Financing Activities 9,831,342 6,986,841
---------------------------------
Net Increase in Cash and Cash Equivalents 341,925 102,178
Cash and Cash Equivalents at Beginning of Year 220,667 112,174
---------------------------------
Cash and Cash Equivalents at Beginning of Year $562,592 $214,352
=================================
The accompanying notes are an integral part of these condensed
consolidated financial statements.
3
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
DECEMBER 31, 2001
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do
not include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements. In the opinion of
management, all adjustments (consisting only of normal recurring accruals)
considered necessary for a fair presentation have been included. Operating
results for the six month period ended December 31, 2001 are not necessarily
indicative of the results that may be expected for the year ended June 30, 2002
due to seasonal factors. For further information, refer to the consolidated
financial statements and footnotes thereto included in the Energy West
Incorporated (the Company) annual report on Form 10-K for the year ended June
30, 2001.
Due to the Company's implementation of Statement of Financial Accounting
Standards 133 (SFAS 133) "Accounting for Derivative Instruments and Hedging
Activities," net income and loss amounts, including the per share amounts, for
the first, second and third quarters of fiscal 2001 differ from those previously
reported by the Company. Revenues and operating results do not differ from what
was previously reported. SFAS 133 requires that all derivative instruments be
recorded at fair value on the balance sheet. In order for the year-end amounts
at June 30, 2001 to be comparative to those of the quarters, adjustments were
made to certain accounts in the respective quarters to reflect the proper
mark-to-market adjustments. Please see the Company's most recently filed Form
10-K for the fiscal year ended June 30, 2001 for further information.
NOTE 2 - DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITY
The Company is exposed to risks relating to changes in certain commodity prices
and counter-party performance. In order to manage the various risks relating to
these exposures, the Company utilizes natural gas derivatives and has
established risk management oversight for these risks. The Company has policies
and procedures to manage such risks and has established a risk management
committee, overseen by the Audit Committee of the Company's Board of Directors,
to monitor compliance with the Company's risk management policies and
procedures.
Effective July 1, 2000, the Company adopted SFAS 133 which requires that all
derivative instruments be reported on the balance sheet at fair value and
establishes criteria for designation and effectiveness of hedging relationships.
The marketing operations of the Company's wholly owned subsidiary, Energy West
Resources (EWR), uses exchange traded futures and options contracts to manage
the volatility related to firm commitments to purchase and sell natural gas. In
other words, in order to lock in a margin on a particular sales contract or
group of contracts, EWR may use a derivative instrument. Though certain of the
firm commitments to purchase and sell could potentially qualify for the "normal
purchases and sales" exemption under SFAS 133, the Company treats these
commitments as derivatives, and records them in the consolidated balance sheet
at fair value in derivative assets and derivative liabilities in order to
properly match the contracts. Quarterly mark-to-market adjustments to the fair
values of these instruments are recorded in other income.
The majority of the Company's contracts for the purchase, sale, transportation
and storage of natural gas and propane in the Company's regulated natural gas
and propane operations constitute normal purchases and sales" under SFAS 133,
and as such, are exempt from SFAS 133. In the case of the Company's regulated
divisions, gains or losses resulting from the eventual settlement of derivative
contracts are subject to deferral under the Company's tariffs with the Montana,
Wyoming and Arizona Commissions. Therefore related derivative assets and
liabilities are offset with corresponding regulatory
4
NOTE 2 - DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITY (CONTINUED)
liability and asset amounts included in "Recoverable Cost of Gas Purchases",
pursuant to SFAS 71, "Accounting for Certain Types of Regulation." Thus, in
these divisions, SFAS 133 has no impact on earnings.
When possible, the Company will hedge certain transactions. The Company formally
documents its hedge relationships, including identification of the hedging
instruments and the hedged items, as well as its risk management objectives and
strategies for undertaking the hedge transaction. This process includes linking
derivatives that are designated as hedges of specific assets, liabilities, firm
commitments or forecasted transactions. The Company also formally assesses both
at inception and at least quarterly thereafter, whether the derivatives that are
used in hedging transactions are highly effective in offsetting changes in
either the fair value or cash flows of the hedged item.
NOTE 3 - INCOME TAXES
Income tax expense from operations differs from the amount computed by applying
the federal statutory rate to pre-tax income for the following reasons:
Tax expense at statutory rates - 34%................................. $ 91,542
State tax expense, net of federal tax expense........................ 871
Amortization of deferred investment tax credits...................... (10,532)
Other................................................................ (1,839)
--------
Total income tax expense............................................. $ 80,042
========
NOTE 4 - CONTINGENCIES
ENVIRONMENTAL CONTINGENCY
The Company owns property on which it operated a manufactured gas plant from
1909 to 1928. The site is currently used as a service center where certain
equipment and materials are stored. The coal gasification process utilized in
the plant resulted in the production of certain by-products, which have been
classified by the federal government and the State of Montana as hazardous to
the environment. Several years ago the Company initiated an assessment of the
site to determine if remediation of the site was required. That assessment
resulted in a submission to the Montana Department of Environmental Quality
(MDEQ) in 1994. The Company has worked with the MDEQ since that time to obtain
the data that would lead to a remediation action acceptable to the MDEQ. In the
summer of 1999 the Company received final approval from the MDEQ for its plan
for remediation of soil contaminants. The Company is in the process of
implementing that plan. The Company and its consultants continue their work with
the MDEQ relating to the remediation plan for water contaminants.
The Costs incurred in evaluating and making remediation to the site totaled
approximately $2,064,000 as of December 31, 2001. On May 30, 1995 the Company
received an order from the Montana Public Service Commission (MPSC) allowing for
recovery of the costs associated with evaluation and remediation of the site
through a surcharge on customer bills. As of December 31, 2001, that recovery
mechanism had generated approximately $1,020,000. The Company expects to recover
the full amount expended through the surcharge. The MPSC's decision calls for
ongoing review by the Commission of the costs incurred for this matter. The
Company will submit an application for review by the MPSC when the remediation
plan is approved by the MDEQ for its water remediation.
PROPERTY TAXES
In October of 2001, the Company's property tax returns for fiscal years 1996
through 2000 were audited by the State of Montana. The Company was informed at
the conclusion of the audit that it was not in compliance with the methodology
recommended by the State of Montana, and that it would probably receive an
assessment for back property tax owed to the State of Montana. At the time of
this filing, no assessment had been received from the State of Montana, and the
Company is unable to estimate the potential liability at this time.
5
NOTE 4 - CONTINGENCIES (CONTINUED)
LEGAL PROCEEDINGS
From time to time the Company is involved in litigation relating to claims
arising from its operations in the normal course of business. The Company
utilizes various risk management strategies, including maintaining liability
insurance against certain risks, employee education and safety programs and
other processes intended to reduce liability risk.
On September 4, 1998, the Company received correspondence from the Department of
Justice that a claim was being considered by the United States of America (U.S.)
against Energy West Incorporated. The correspondence indicated that a complaint
has been prepared by Jack Grynberg, acting as Relater on behalf of the U.S.,
alleging that the Company had utilized improper measurement procedures in the
measurement of gas which was produced from wells owned by it, by its
subsidiaries, or from which the Company may have acted as operator. The alleged
improper measurement procedure purportedly understated the amount of royalty
revenue, which would have been paid to the U.S. The complaint is substantially
identical to the complaint being made against seventy-seven other parties. The
Company is alleged to have been responsible for the measurement of over 150
wells during a five-year period. The Company has investigated this allegation
and believes it had measurement responsibility for one well. The quantity of
production from that well is small enough that the Company does not expect its
potential liability to be material from any adverse decision. Furthermore, the
Company believes that the allegations made by Mr. Grynberg are not sustainable.
In the spring of 1999 the United States declined to intervene in the action. Mr.
Grynberg has served the Company with the complaint, and the matter is currently
the subject of preliminary motions in Federal Court. The Company intends to
vigorously contest the claims made in the complaint.
The Company's wholly-owned subsidiary Energy West Resources, Inc. (EWR) is
presently in litigation against PPL Montana, LLC (PPLM) in the United States
District Court for the District of Montana. The lawsuit related to a wholesale
electricity supply contract between EWR and PPLM dated March 17, 2000 and a
confirmation letter thereunder dated June 13, 2000 (together, the "Contract").
The Contract calls for PPLM to sell wholesale electric energy to EWR for a
two-year period commencing July 1, 2000.
EWR has received substantial imbalance payments as a result of the amount of
power that it scheduled and purchased from PPLM. The imbalance payments were
made to EWR by its transmission provider, The Montana Power Company (MPC),
pursuant to the imbalance provisions in MPC's transmission tariff on file with
the Federal Energy Regulatory Commission (FERC). PPLM has alleged that EWR was
not entitled to retain such payments. PPLM alleges that EWR is liable to PPLM
for approximately $12.2 million relating to purchases under the contract during
the twelve months ended June 30, 2001 plus unspecified additional amounts for
the period after June 30, 2001. PPLM also has taken the position that it has the
right to terminate deliveries of energy under the Contract. Any recovery of
damages by PPLM, as well as the resulting costs to EWR of securing alternative
supplies in the event of termination of the Contract could be material to the
Company and its financial condition.
EWR intends to vigorously advocate and defend its position in the ongoing
litigation with PPLM. The Company believes that it has established adequate
reserves with respect to the litigation with PPLM; however, there can be no
assurance that any liability will not exceed the amounts provided.
6
NOTE 5 - OPERATING REVENUES AND EXPENSES
Regulated natural gas operations, regulated and non-regulated propane
operations, and energy marketing and wholesale operating revenues and expenses
were as follows:
Three Months Ended Six Months Ended
December 31, December 31,
----------------------------------------- ---------------------------------
2001 2000 2001 2000
---- ---- ---- ----
(Restated) (Restated)
(in thousands) (in thousands)
Operating Revenues:
Natural Gas Operations $12,158 $12,862 $17,030 $16,254
Propane Operations 2,764 4,620 3,880 6,325
Energy Marketing & Wholesale 9,882 11,230 21,476 22,552
--------------------- ------------------ --------------- ----------------
$24,804 $28,712 $42,386 $45,131
===================== ================== =============== ================
Gas and Power Purchases:
Natural Gas Operations $9,342 $9,779 $12,728 $11,679
Propane Operations 1,591 3,291 2,248 4,525
Energy Marketing & Wholesale 9,313 9,529 20,875 19,746
--------------------- ------------------ --------------- ----------------
$20,246 $22,599 $35,851 $35,950
===================== ================== =============== ================
Gross Margin (Operating Revenues Less Gas and
Power Purchases)
Natural Gas Operations $2,816 $3,083 $4,302 $4,575
Propane Operations 1,173 1,329 1,632 1,800
Energy Marketing & Wholesale 569 1,701 601 2,806
--------------------- ------------------ --------------- ----------------
$4,558 $6,113 $6,535 $9,181
===================== ================== =============== ================
Distribution, General and Administrative:
Natural Gas Operations $1,481 $1,689 $2,775 $3,021
Propane Operations 702 681 1,308 1,256
Energy Marketing & Wholesale 327 604 712 815
--------------------- ------------------ --------------- ----------------
$2,510 $2,974 $4,795 $5,092
===================== ================== =============== ================
Maintenance:
Natural Gas Operations $88 $75 $168 $159
Propane Operations 15 18 29 32
Energy Marketing & Wholesale 0 0 0 0
--------------------- ------------------ --------------- ----------------
$103 $93 $197 $191
===================== ================== =============== ================
Depreciation and Amortization:
Natural Gas Operations $330 $324 $658 $649
Propane Operations 165 185 331 370
Energy Marketing & Wholesale 20 5 40 9
--------------------- ------------------ --------------- ----------------
$515 $514 $1,029 $1,028
===================== ================== =============== ================
Taxes Other than Income:
Natural Gas Operations $162 $117 $278 $218
Propane Operations 51 36 100 75
Energy Marketing & Wholesale 17 7 28 20
--------------------- ------------------ --------------- ----------------
$230 $160 $406 $313
===================== ================== =============== ================
7
NOTE 5 - OPERATING REVENUES AND EXPENSES (CONTINUED)
Three Months Ended Six Months Ended
December 31, December 31,
----------------------------------------- ---------------------------------
2001 2000 2001 2000
---- ---- ---- ----
(Restated) (Restated)
(in thousands) (in thousands)
Other Income (Loss):
Natural Gas Operations $56 ($9) $105 $29
Propane Operations 35 34 66 67
Energy Marketing & Wholesale 145 266 872 (367)
-------------------- ----------------- ---------------- ---------------
$236 $291 $1,043 ($271)
==================== ================= ================ ===============
Interest Charges:
Natural Gas Operations $337 $336 $566 $655
Propane Operations 131 153 228 286
Energy Marketing & Wholesale 35 105 86 177
-------------------- ----------------- ---------------- ---------------
$503 $594 $880 $1,118
==================== ================= ================ ===============
Income Taxes (Benefits):
Natural Gas Operations $139 $186 ($42) ($35)
Propane Operations 50 110 (114) (52)
Energy Marketing & Wholesale 120 451 236 527
-------------------- ----------------- ---------------- ---------------
$309 $747 $80 $440
==================== ================= ================ ===============
NOTE 6 - NEW ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS 141,
Business Combinations, and SFAS 142, Goodwill and Other Intangible Assets. SFAS
141 establishes accounting and reporting standards for business combinations.
SFAS 141 is effective for business combinations initiated after June 30, 2001.
SFAS 142 establishes accounting and reporting standards for goodwill and
intangible assets, requiring impairment testing for goodwill and intangible
assets, and the elimination of periodic amortization of goodwill and certain
intangibles. The Company intends to adopt the provisions of SFAS 142 effective
for the fiscal year ending June 30, 2003. Management is currently evaluating the
impact of these pronouncements on the financial statements.
In June 2001, the FASB issued SFAS 143, Accounting for Asset Retirement
Obligations, which requires asset retirement obligations to be recognized when
they are incurred and displayed as liabilities. SFAS 143 is effective for the
fiscal year ending June 30, 2003. Management is currently evaluating the impact
of this pronouncement on the financial statements.
In August 2001, the FASB issued SFAS 144, Accounting for the Impairment or
Disposal of Long-Lived Assets. SFAS 144 addresses accounting and reporting for
the impairment or disposal of long-lived assets, including the disposal of a
segment of business. SFAS 144 is effective for the fiscal year ending June 30,
2003. Management is currently evaluating the impact of this pronouncement on the
financial statements.
8
NOTE 7 - SUBSEQUENT EVENTS
In January of 2002, Energy West Resources (EWR), the Company's wholly owned
subsidiary, terminated existing contracts with Enron Canada Corporation (ECC), a
subsidiary of Enron, Incorporated. Most of these contracts were commodity swaps
in place in order to protect EWR against fluctuations in the market price of
natural gas. The contracts were entered into at various points in time in order
to protect margins on certain sales contracts. The contracts with ECC were
structured so that EWR would pay funds to ECC when market prices were lower than
the prices in place at the time the contracts were executed, and would receive
funds from ECC when natural gas market prices were higher than those in place at
the time the contracts were executed. Due to the timing of the contracts (i.e.
contracts were initiated earlier in the year when market prices were higher),
EWR was settling monthly with ECC. However, due to ECC's precarious financial
condition, EWR no longer felt that potential increases in the market prices
would be protected by these same contracts, so it paid ECC the remaining market
value of the contracts in order to terminate the agreements. EWR then secured
new contracts to protect its positions at prices much lower than those in place
with ECC. The treatment of this expenditure is as follows: EWR will record the
payment to ECC as a cost of commodity, but in marking to market its new
purchase, the future earnings will be captured through increased margins on the
current sales contracts. Therefore, EWR believes that this transaction will not
have a material impact on the Company's earnings.
9
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF INTERIM FINANCIAL STATEMENTS
The following discussion reflects results of operations of the Company and its
consolidated subsidiaries for the periods indicated. On July 1, 2000, the
Company underwent a change in its reporting and management structure.
Previously, operations were organized and managed according to geographic
location and the regulated or non-regulated nature of the business. After July
1, operations were organized according to similarities in the business-regulated
natural gas operations, regulated and non-regulated propane operations and
marketing and wholesale operations.
The Company's natural gas operations involve the distribution of regulated
natural gas to the public in the Great Falls and West Yellowstone, Montana and
the Cody, Wyoming areas. Also included in the natural gas operations for
reporting purposes is Energy West Development, Inc. (EWD), a wholly owned
subsidiary. Earnings from EWD represents less than 1% of the Company's overall
earnings.
The Company's propane operations include the distribution of regulated propane
to the public through underground propane vapor systems in the Payson, Arizona
and Cascade, Montana areas as well as non-utility retail and wholesale propane
operations, operated by its wholly owned subsidiary Energy West Propane, Inc.
(EWP), in Wyoming, Montana, Arizona, Colorado, South Dakota, North Dakota and
Nebraska.
The Company's wholly owned subsidiary, Energy West Resources, Inc. (EWR)
conducts wholesale distribution activities involving the sale of natural gas and
electricity mainly in Montana and Wyoming.
LIQUIDITY AND CAPITAL RESOURCES
Long and Short Term Borrowing
The Company's operating capital needs, as well as dividend payments and capital
expenditures are generally funded through cash flow from operating activities
and short-term borrowing. Historically, to the extent cash flow has not been
sufficient to fund capital expenditures, the Company has borrowed short-term
funds. If the Company's short-term debt balance significantly exceeds working
capital requirements, the Company issues long-term debt or equity securities to
pay down short-term debt.
The Company's short-term borrowing requirements vary due to the seasonal nature
of its sales and expenses The Company has greater need for short-term borrowing
during periods when internally generated funds are not sufficient to cover all
capital and operating requirements, including costs of gas purchases and capital
expenditures. In general, the Company's short-term borrowing needs for purchases
of gas inventory and capital expenditures are greatest during the summer months
and the Company's short-term borrowing needs for financing of customer accounts
receivable are greatest during the winter months. Short-term borrowing utilized
for construction or property acquisitions generally has been made on an interim
basis and converted to long-term debt and equity when it becomes economical and
feasible to do so.
At December 31, 2001, the Company had $26,000,000 in bank lines of credit, of
which $14,221,000 had been borrowed under the applicable credit agreements. The
Company had outstanding letters of credit totaling $7,700,000 related to
electric and gas purchase contracts. These letters of credit, when combined with
borrowings against the line of credit, result in a total remaining borrowing
capacity of $4,079,000.
An adverse outcome in the litigation with PPL Montana, LLC (PPLM) could have a
material adverse effect on the Company's liquidity and capital resources. See
"Part II, Item 1 - Legal Proceedings."
10
LIQUIDITY AND CAPITAL RESOURCES (CONTINUED)
Cash Flow Analysis
The Company used net cash in operating activities for the six months ended
December 31, 2001 in the amount of approximately $6,979,000 as compared to
approximately $5,041,000 for the six months ended December 31, 2000. This
increase in cash used in operating activities of $1,938,000 was primarily due to
the following: lower net income of approximately $540,000 compared to the same
period in fiscal 2001; a reduction in gas and electric accounts payable of
$4,738,000 and other accounts payable of $585,000 which were generally timing
related, though the reduced costs of commodities compared to one year ago also
had an impact; $1,346,000 related to increased inventory balances (the Company
generally injects storage during the summer months in preparation for the
heating season, but it did not do this in fiscal 2001, due to unusually high
commodity prices); $2,200,000 in estimated income taxes were paid in September
related to the record earning experienced in the previous fiscal year; and other
miscellaneous reductions of $1,450,000. Offsetting these decreases were
collections against accounts receivable and recoverable gas costs in the amounts
of $3,832,000 and $5,089,000 respectively. The gas cost recoveries were a result
of a rate increase intended to bring these balances down by March of 2002. The
accounts receivable balances decreased mainly due to reduced commodity prices.
Cash used in investing activities was approximately $2,511,000 for the six
months ended December 31, 2001, as compared to approximately $1,844,000 for the
six months ended December 31, 2000. This increase in cash used of $667,000 was
primarily due to expenditures incurred for the renovation of certain pipelines,
as well as system expansion in the natural gas segment.
Cash provided by financing activities was approximately $9,831,000 for the six
months ended December 31, 2001, as compared to approximately $6,987,000 for the
six months ended December 31, 2000. This increase in cash provided by financing
activities of $2,844,000 is primarily due to a decrease in net short-term
borrowing.
Capital expenditures of the Company are primarily for expansion and improvement
of its gas utility properties. To a lesser extent, funds are also expended to
meet the equipment needs of the Company's operating subsidiaries and to meet the
Company's administrative needs. During fiscal year 2002, the Company is
undergoing two significant capital projects. One project will involve looping an
8 inch main around Cody Wyoming to enhance the safety and security of the gas
supply to this community. The Company expects to spend approximately $800,000 on
this project. The other project is the renovation of a pipeline in Wyoming
strategically located in relation to both the Company's existing line near Cody,
Wyoming, as well as a major transport line located near the Montana border. This
project is expected to cost the Company approximately $750,000. The rest of the
Company's expected capital expenditures of $3,550,000 are routine expenditures
for system expansion and operating needs, though the Company continues to
evaluate opportunities to expand its existing businesses from time to time.
11
COMPARISON OF SECOND QUARTER AND SIX MONTHS OF FISCAL 2002 ENDED DECEMBER 31,
2001 AND FISCAL 2001 ENDED DECEMBER 31, 2000
QUARTERLY RESULTS OF CONSOLIDATED OPERATIONS
The Company's net income for the second quarter of fiscal 2002, ended December
31, 2001 was approximately $623,000 compared to approximately $1,322,000 for the
second quarter of fiscal 2001, ended December 31, 2000. The decrease in earnings
of approximately $699,000 occurred mainly from the reduction in margins related
to the remarketing of electricity in the Company's marketing and wholesale
operation as market prices have continued to stabilize. This decrease has been
offset somewhat by lower distribution, general and administrative expenses, as
well as lower interest charges, due in part to the drop in short-term interest
rates.
Gross margin, which is defined as operating revenue less gas purchased,
decreased $1,555,000 going from approximately $6,113,000 in fiscal 2001 to
$4,558,000 in fiscal 2002 primarily due to decreased margin from the Company's
marketing and wholesale operations. During fiscal 2001, these operations
experienced higher margins from remarketing of electricity at unusually high
market prices. Market prices have continued to stabilize in fiscal 2002,
resulting in lower margins.
Distribution, general and administrative expenses decreased $464,000 in the
second quarter of fiscal 2002 primarily due to the reduction of certain expenses
including incentives and commissions paid or accrued in the same quarter of
fiscal 2001. In addition, in fiscal 2001, the Company incurred expenses related
to strategic development which were not incurred in the current fiscal year.
Offsetting some of these decreases in expenses has been an increase in legal
costs related to the litigation with PPLM (See "Part II, Item 1 - Legal
Proceedings."
Interest expenses were lower by $91,000 during the second quarter of fiscal
2002, moving from $594,000 in fiscal 2001 down to $503,000 in the same period
this year. This reduction was mainly due to lower short-term interest rates
during the quarter.
SIX MONTH RESULTS FOR CONSOLIDATED OPERATIONS
The Company's net income for the six months ended December 31, 2001 was
approximately $189,000 compared to approximately $729,000 for the six months
ended December 31, 2000. The decrease in earnings was mainly due to the
reduction in margins associated with the remarketing of electricity. However,
other income increased as a result of the mark-to-market valuation of derivative
contracts which offset some of this reduction in margin.
Margins decreased from approximately $9,181,000 for the first six months of
fiscal 2001 to $6,535,000 for the first six months of fiscal 2002, a decrease of
$2,646,000. This was primarily due to the reduction of margins in the marketing
and wholesale operations. During fiscal 2001, these operations experienced
higher margins from remarketing of electricity at unusually high market prices.
Market prices have continued to stabilize in fiscal 2002, resulting in lower
margins.
Distribution, general and administrative expenses also decreased $297,000 in the
first six months of fiscal 2002 as compared to the same period last year, as
expenses related to incentives and commissions decreased. In addition, in fiscal
2001, the Company incurred expenses related to strategic development which were
not incurred in the current fiscal year. Offsetting some of these decreases in
expenses has been an increase in legal costs related to the litigation with PPLM
(See "Part II, Item 1 - Legal Proceedings."
Other income increased $1,314,000 from a loss of $271,000 during the first half
of fiscal 2001 to an income of $1,043,000, associated with unrealized gain from
mark-to-market valuation of derivative contracts. These valuations represent the
net market value of contracts in place for EWR, the Company's wholly owned
subsidiary, to purchase and sell natural gas during future periods. As EWR
realizes the value of these contracts monthly, the amounts move from other
income into the gross margin from operations.
Interest costs for the Company decreased by $238,000 due to reductions in
short-term borrowing rates.
12
OPERATING RESULTS OF THE COMPANY'S NATURAL GAS OPERATIONS
QUARTERLY RESULTS FOR NATURAL GAS OPERATIONS
The natural gas segment saw a 4% decrease in net income in the second quarter of
fiscal 2002 or $11,000. The income in the second quarter of fiscal 2001 was
approximately $346,000 compared to $334,000 in the same period this year. This
decrease is mainly due to warmer weather experienced in both Montana and
Wyoming.
GROSS MARGIN --
Gross margin, defined as operating revenues less purchased gas costs, decreased
by $267,000 due mainly to lower gas throughput from customers related to warmer
weather, as compared to the same quarter last year.
OPERATING EXPENSES -
Natural gas operating expenses, excluding the cost of gas purchased and federal
and state income tax, were approximately $2,061,000 for the second quarter of
fiscal 2002 as compared to $2,205,000 for the same period in fiscal 2001. The 7%
decrease in the period was generally due to the timing of certain expenses, and
to reduced expenses in the current year related to strategic development. These
were costs the Company incurred in fiscal year 2001, but have not incurred in
fiscal year 2002.
INTEREST CHARGES -
Interest charges allocable to the Company's natural gas operations were
approximately the same as last year. Although short-term borrowing rates are
lower than those experienced one year ago, capital employed for these divisions
has increased slightly over one year ago due to increased gas inventory and
capital expenditures.
INCOME TAXES -
State and federal income taxes of the Company's natural gas operations were
approximately $139,000 for the second quarter of fiscal 2002, a decrease of
$47,000 due to slightly decreased earnings.
SIX MONTH RESULTS FOR NATURAL GAS OPERATIONS
Net income from natural gas operations was up approximately $66,000 in the first
six months of fiscal 2002 compared to the same period one year ago. Though gross
margin, which is defined as operating revenues less gas purchased, was down
approximately $275,000, distribution, general and administrative expenses were
also down by $246,000 reflecting non-recurring expenditures made in the prior
year related to strategic development.
GROSS MARGIN
The Company experienced a decrease in gross margin of $275,000 due to slightly
warmer than normal temperatures. Gross margin totaled $4,302,000 in the first
six months of fiscal year 2002 compared to $4,575,000 during the same period one
year ago.
OPERATING EXPENSES -
Natural gas operating expenses, excluding the cost of gas purchased and federal
and state income tax, were approximately $3,879,000 for the first six months of
fiscal 2002 as compared to $4,047,000 for the same period in fiscal 2001. The 4%
decrease in the period was due mainly to the timing of certain expenses, and
non-recurring expenditures related to strategic development.
13
OPERATING RESULTS OF THE COMPANY'S NATURAL GAS OPERATIONS (CONTINUED)
OTHER INCOME--
Other income for the natural gas operations was higher by $76,000 during the
first six months of fiscal 2002 compared to the same period last year. This is
mainly due to timing issues, and the Company does not expect to maintain this
increase throughout the year.
INTEREST CHARGES -
Interest charges allocable to the Company's natural gas operations were
approximately $566,000 for the six months of fiscal 2002, as compared to
$655,000 in the comparable period in fiscal 2001 due mainly to decreased
short-term borrowing rates.
INCOME TAXES -
State and federal income tax benefits of the Company's natural gas divisions
were approximately $42,000 for the first six months of fiscal 2002 as compared
to approximately $35,000 in fiscal 2001. This was due to certain timing
differences related to taxable income.
OPERATING RESULTS OF THE COMPANY'S PROPANE OPERATIONS
QUARTERLY RESULTS FOR PROPANE OPERATIONS
Propane revenues in the second quarter of fiscal 2002 were approximately
$2,764,000 compared to approximately $4,620,000 for the second quarter of fiscal
2001. This $1,856,000 drop in revenues was due mainly to a low spot market for
propane sold during the second quarter of fiscal 2002. However, the propane
operations were able to utilize the low spot market advantageously to purchase
lower priced propane for some of its operations, and propane purchases decreased
$1,700,000 in the second quarter of fiscal 2002 for this reason. Overall gross
margins, defined as operating revenues less propane purchases, are still lower
than one year ago by approximately $156,000.
OPERATING EXPENSES -
Propane operating expenses, excluding the cost of propane purchased and federal
and state income tax, were approximately $933,000 for the second quarter of
fiscal 2002 as compared to $920,000 during the same period in fiscal 2001. The
$13,000 increase in the period was due to additional personnel.
INTEREST CHARGES -
Interest charges allocable to the Company's propane operations were
approximately $131,000 for the second quarter of fiscal 2002, as compared to
$153,000 in the comparable period in fiscal 2001. This is due mainly to the
decrease in short-term borrowing rates during the second quarter of fiscal 2002.
INCOME TAXES -
State and federal income taxes of the Company's propane operations were
approximately $50,000 for the second quarter of fiscal 2002, as compared to
approximately $110,000 for the second quarter of fiscal year 2001. This decrease
in taxes was due to the decrease in pre-tax income from the propane operations.
SIX MONTH RESULTS FOR PROPANE OPERATIONS
Propane revenues in the first six months of fiscal 2002 were approximately
$3,880,000 compared to approximately $6,325,000 for the first six months of
fiscal 2001, a decrease of $2,445,000. The decrease was due mainly to lower spot
market prices for propane sold compared to one year ago. The costs for propane
also decreased from $4,525,000 in the first six months of fiscal 2001 to
$2,248,000 in the first six months of fiscal 2002. This decrease of $2,277,000
was also due to the lower spot market, providing
14
OPERATING RESULTS OF THE COMPANY'S PROPANE OPERATIONS (CONTINUED)
the propane operations the opportunity to acquire lower cost propane. However,
gross margins, defined as operating revenues less costs of propane, decreased a
total of $168,000 due to the combination of lower spot prices, and slightly
warmer than normal weather in all three states in which the propane operations
are located.
OPERATING EXPENSES -
Propane operating expenses, excluding the cost of propane purchased and federal
and state income tax were approximately $1,768,000 for the first six months of
fiscal 2002 as compared to $1,733,000 for the same period in fiscal 2001. The
increase of $35,000 was due to the addition of personnel.
INTEREST CHARGES -
Interest charges allocable to the Company's propane operations were
approximately $228,000 for the first six months of fiscal 2002 as compared to
$286,000 in the comparable period in fiscal 2001. This decrease of $58,000 was
related to decreases in short term borrowing rates compared to the same period
one year ago.
INCOME TAXES -
State and federal income tax benefits of the Company's propane operations were
approximately $114,000 for the first six months of fiscal 2002 as compared to
approximately $52,000 for the first six months of fiscal 2001 due to a lower
pre-tax loss from the propane operations.
OPERATING RESULTS OF THE COMPANY'S ENERGY MARKETING AND WHOLESALE OPERATIONS
QUARTERLY RESULTS FOR ENERGY MARKETING AND WHOLESALE OPERATIONS
OPERATING REVENUES --
Revenues from energy marketing and wholesale operations in the second quarter of
fiscal 2002 were approximately $9,882,000 compared to approximately $11,230,000
for the second quarter of fiscal 2001. The decrease in revenues of $1,348,000
for the quarter resulted mainly from a reduction in the market prices of natural
gas.
GROSS MARGIN --
The Company's energy marketing and wholesale operations experienced a reduction
in gross margin, defined as operating revenues less cost of energy, of
$1,132,000 during the second quarter of fiscal 2002 compared to the same period
last year. This decrease was due to the reduction in margins associated with the
remarketing of electricity at unusually high market prices during the first six
months of fiscal 2001. Those same market conditions have not been present during
the current fiscal year, nor are they expected to occur during the remainder of
the year.
OPERATING EXPENSES -
Operating expenses for energy marketing and wholesale operations, excluding the
cost of gas and electricity purchased and federal and state income tax, were
approximately $364,000 for the second quarter of fiscal 2002 as compared to
$616,000 for the same period in fiscal 2001. Though the energy marketing and
wholesale operations have experienced increased legal costs due to ongoing
litigation with PPL, Montana (described in Part II, Item 1, Legal Proceedings),
overall costs are down due to the decrease in margins, and the associated
decrease in incentives and commissions.
15
OPERATING RESULTS OF THE COMPANY'S ENERGY MARKETING AND WHOLESALE OPERATIONS
(CONTINUED)
OTHER INCOME -
Other income decreased by $121,000 from $266,000 for the second quarter of
fiscal 2001 compared to $145,000 for the second quarter of fiscal 2002 due to
mark to market valuations of derivative contracts. These valuations represent
the net market value of contracts in place to purchase and sell natural gas
during future periods. As the value of these contracts is recognized monthly,
the amounts move from other income into the gross margin from operations. The
increases and decreases from period to period will vary depending on the margins
associated with each group of contracts, and the length of time remaining in the
contracts. In addition, these valuations are not necessarily measuring the same
contracts from period to period as contract terms expire new contracts with new
terms are added throughout the course of business.
INTEREST CHARGES -
Interest charges for the second quarter of fiscal 2002 dropped $70,000 from
$105,000 in the second quarter of 2001 to $35,000 in the second quarter of 2002
due mainly to decreases in short-term borrowing rates.
INCOME TAXES -
State and federal income tax expense of the Company's energy marketing and
wholesale operations dropped from approximately $451,000 for the second quarter
of fiscal 2001 to approximately $120,000 in fiscal 2002, due to a reduction in
pre-tax income from the energy marketing and wholesale operations.
SIX MONTHS RESULTS FOR ENERGY MARKETING AND WHOLESALE OPERATIONS
OPERATING REVENUES -
Revenues from energy marketing and wholesale operations in the first six months
of fiscal 2002 were approximately $21,476,000 compared to approximately
$22,552,000 for the first six months of fiscal 2001. The decrease in revenues
for the six-month period resulted mainly from the reduction in natural gas
market prices during the second quarter of fiscal 2002.
GROSS MARGIN --
The Company's energy marketing and wholesale operations experienced gross margin
during the first six months of fiscal year 2002 of $601,000 compared to
$2,806,000 in fiscal year 2001, a decrease of $2,205,000. This decrease was due
to the reduction in margins associated with the remarketing of electricity at
unusually high market prices during the first six months of fiscal 2001. Those
same market conditions have not been present during the current fiscal year, nor
are they expected to occur during the remainder of the year.
OPERATING EXPENSES -
Operating expenses for energy marketing and wholesale operations, excluding the
cost of gas and electricity purchased and federal and state income tax, were
approximately $780,000 for the first six months of fiscal 2002 as compared to
$844,000 for the same period in fiscal 2001. The decrease in the period was
mainly due to reductions in incentives and commissions. However, the wholesale
operations have increased legal expenses versus those experienced one year ago
due to the ongoing litigation with PPL, Montana (discussed at Part II, Item 1,
Legal Proceedings), which have prevented operating expenses from dropping even
further.
16
ENERGY MARKETING AND WHOLESALE OPERATIONS - (CONTINUED)
OTHER INCOME -
Other income increased by $1,239,000 from a loss of $367,000 for the first six
months of fiscal 2001 compared to income of $872,000 for the first six months of
fiscal 2002. Other income and expense for the first six months of both fiscal
years is mainly a result of mark-to-market valuations. These valuations
represent the net market value of contracts to purchase and sell natural gas
during future periods. As the value of these contracts is recognized monthly,
the amounts move from other income into the gross margin from operations. The
increases and decreases from period to period will vary depending on the margins
associated with each group of contracts, and the length of time remaining in the
contracts. In addition, these valuations are not necessarily measuring the same
contracts from period to period as contract terms expire new contracts with new
terms are added throughout the course of business.
INTEREST CHARGES -
Interest charges dropped down to $86,000 during the first six months of fiscal
2002 from $177,000 during the first six months of fiscal 2001, a decrease of
$91,000. This was due to the decrease in short-term borrowing rates experienced
during the current year.
INCOME TAXES -
State and federal income tax expense of the Company energy marketing and
wholesale operations were approximately $236,000 for the first six months of
fiscal 2002 as compared to approximately $527,000 in fiscal 2001, due to the
reduction in pre-tax income from the energy marketing and wholesale operations.
SAFE HARBOR FORWARD LOOKING STATEMENT
The Company is including the following cautionary statement in this Form 10-Q to
make applicable and to take advantage of the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995 for any forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Sections 21E of the Securities Exchange Act of 1934, as amended,
which represent the Company's expectations or beliefs concerning future events,
including the outcome of pending litigation, particularly the litigation with
PPLM discussed in "Part II - Other Information, Item 1. Legal Proceedings". In
addition, statements containing expressions such as "believes", "anticipates",
"estimates", "expects", "intends", "plans", or "predicts", used in the Company's
periodic reports on Forms 10-K and 10-Q filed with the SEC are intended to
identify forward-looking statements. The Company cautions that these and similar
statements included in this report and in previously filed periodic reports
including reports filed on Forms 10-K and 10-Q are further qualified by
important factors that could cause actual results to differ materially from
those in the forward looking statement.
17
ITEM 3 - THE QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is subject to certain market risks, including commodity price risk
(i.e., natural gas and propane prices) and interest rate risk. The adverse
effects of potential changes in these market risks are discussed below.
Commodity Price Risk
The Company protects itself against price fluctuations on natural gas by
limiting the aggregate level of net open positions exposed to market price
changes through the use of natural gas derivative instruments. The net open
position is actively managed with strict policies designed to limit the exposure
to market risk and which require at least weekly reporting to management of
potential financial exposure. The risk management committee has limited the
types of financial instruments the company may enter into to those related to
natural gas commodities. The Company's results of operations are significantly
impacted by changes in the price of natural gas. In order to provide short-term
protection against a sharp increase in natural gas prices, the Company from time
to time enters into natural gas call and put options, swap contracts and
purchase commitments. The Company's gas hedging strategy could result in the
Company not fully benefiting from certain gas price declines.
Interest Rate Risk
The Company's results of operations are affected by fluctuations in interest
rates (e.g. interest expense on debt). The Company mitigates this risk by
entering into long-term debt agreements with fixed interest rates. The Company's
notes payable, however, are subject to variable interest rates. A hypothetical
10% change in market rates applied to the balance of the notes payable would not
have a material effect on the Company's earnings.
Credit Risk
Credit risk relates to the risk of loss that the Company would incur as a result
of non-performance by counterparties of their contractual obligations under the
various instruments with the Company. Credit risk may be concentrated to the
extent that one or more groups of counterparties have similar economic, industry
or other characteristics that would cause their ability to meet contractual
obligations to be similarly affected by changing market or other conditions. In
addition, credit risk includes not only the risk that a counterparty may default
due to circumstances relating directly to it, but also the risk that a
counterparty may default due to circumstances which relate to other market
participants which have a direct or indirect relationship with such
counterparty. The Company seeks to mitigate credit risk by evaluating the
financial strength of potential counterparties. However, despite mitigation
efforts, defaults by counterparties occur from time to time. To date, any such
defaults have not had a material effect on the Company's earnings.
18
FORM 10-Q
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time the Company is involved in litigation relating to claims
arising from its operations in the normal course of business. The Company
utilizes various risk management strategies, including maintaining liability
insurance against certain risks, employee education and safety programs and
other processes intended to reduce liability risk.
On September 4, 1998, the Company received correspondence from the Department of
Justice that a claim was being considered by the United States of America (U.S.)
against Energy West Incorporated. The correspondence indicated that a complaint
has been prepared by Jack Grynberg, acting as Relater on behalf of the U.S.,
alleging that the Company had utilized improper measurement procedures in the
measurement of gas which was produced from wells owned by it, by its
subsidiaries, or from which the Company may have acted as operator. The alleged
improper measurement procedure purportedly understated the amount of royalty
revenue, which would have been paid to the U.S. The complaint is substantially
identical to the complaint being made against seventy-seven other parties. The
Company is alleged to have been responsible for the measurement of over 150
wells during a five-year period. The Company has investigated this allegation
and believes it had measurement responsibility for one well. The quantity of
production from that well is small enough that the Company does not expect its
potential liability to be material from any adverse decision. Furthermore, the
Company believes that the allegations made by Mr. Grynberg are not sustainable.
In the spring of 1999 the United States declined to intervene in the action. Mr.
Grynberg has served the Company with the complaint, and the matter is currently
the subject of preliminary motions in Federal Court. The Company intends to
vigorously contest the claims made in the complaint.
The Company's wholly-owned subsidiary Energy West Resources, Inc. (EWR) is
presently in litigation against PPL Montana, LLC (PPLM) in the United States
District Court for the District of Montana. The lawsuit related to a wholesale
electricity supply contract between EWR and PPLM dated March 17, 2000 and a
confirmation letter thereunder dated June 13, 2000 (together, the "Contract").
The Contract calls for PPLM to sell wholesale electric energy to EWR for a
two-year period commencing July 1, 2000.
EWR has received substantial imbalance payments as a result of the amount of
power that it scheduled and purchased from PPLM. The imbalance payments were
made to EWR by its transmission provider, The Montana Power Company (MPC),
pursuant to the imbalance provisions in MPC's transmission tariff on file with
the Federal Energy Regulatory Commission (FERC). PPLM has alleged that EWR was
not entitled to retain such payments. PPLM alleges that EWR is liable to PPLM
for approximately $12.2 million relating to purchases under the contract during
the twelve months ended June 30, 2001 plus unspecified additional amounts for
the period after June 30, 2001. PPLM also has taken the position that it has the
right to terminate deliveries of energy under the Contract. Any recovery of
damages by PPLM, as well as the resulting costs to EWR of securing alternative
supplies in the event of termination of the Contract could be material to the
Company and its financial condition.
EWR intends to vigorously advocate and defend its position in the ongoing
litigation with PPLM. The Company believes that it has established adequate
reserves with respect to the litigation with PPLM; however, there can be no
assurance that any liability will not exceed the amounts provided.
19
FORM 10-Q
PART II - OTHER INFORMATION (CONTINUED)
Item 2. Changes in Securities - Not Applicable
Item 3. Defaults upon Senior Securities - Not Applicable
Item 4. Submission of Matters to a Vote of Security Holders - Not Applicable
Item 5. Other Information - Not Applicable
Item 6. Exhibits and Reports on Form 8-K
A. No exhibits are being filed for the quarter ended December 31, 2001.
B. No reports on Form 8-K have been filed since the last filing made
by the company.
20
SIGNATURES
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.
/s/Edward J. Bernica
-----------------------------------------
Edward J. Bernica, President and Chief
Executive Officer (Principal Executive
Financial and Accounting Officer)
Dated February 14, 2002