===============================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-------------------------
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarter Ended September 30, 1999
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from _____to_____
Commission Registrant, State of Incorporation, I.R.S. Employer
File Number Address and Telephone Number Identification No.
---------- ----------------------------------- ------------------
333-09033 Southern Investments UK plc None
(Registered in England & Wales)
800 Park Avenue
Aztec West
Almondsbury
Bristol
BS32 4SE, UK
(01144) 1454 201101
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 __
Description of Shares Outstanding
Registrant Common Stock at October 31, 1999
- ---------- -------------- -------------------
Southern Investments UK plc Par Value(pound)1 Per Share 902,128,735
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
This Quarterly Report on Form 10-Q includes forward-looking statements in
addition to historical information. The Company cautions that there are various
important factors that could cause actual results to differ materially from
those indicated in the forward-looking statements; accordingly, there can be no
assurance that such indicated results will be realized. These factors include
legislative and regulatory initiatives regarding the current review of
regulation, and the results of the distribution price review scheduled to take
effect April 1, 2000; challenges related to Year 2000 readiness; potential
business strategies, including acquisitions or dispositions of assets or
internal restructuring that may be pursued by the Company or its subsidiaries;
the potential introduction of the Euro; changes in or application of
environmental and other laws and regulations to which the Company and its
subsidiaries are subject; political, legal and economic conditions and
developments in which the Company and its subsidiaries operate; financial market
conditions and the results of financing efforts; changes in commodity prices and
interest rates; weather and other natural phenomena; the performance of projects
undertaken by the Company or its subsidiaries and the success of efforts to
invest in and develop new opportunities; and other factors discussed elsewhere
herein and in other reports (including Form 10-K) filed from time to time by the
Company with the SEC.
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(Stated in Millions)
For the Three Months Ended September 30,
----------------------------------------
1999 1998
---- ----
(Note A)
OPERATING REVENUES (pound) 70 $ 115 (pound) 58
COST OF SALES 6 10 2
------ ------ ------
GROSS MARGIN 64 105 56
------ ------ ------
OPERATING EXPENSES:
Maintenance 10 16 9
Depreciation and amortization 13 21 13
Selling, general, and administrative 11 18 8
Incremental expenses incurred as a direct consequence
of the disposal of the supply business (Note D) 1 2 -
------ ------ ------
Total operating expenses 35 57 30
------ ------ ------
OPERATING INCOME 29 48 26
------ ------ ------
OTHER INCOME (EXPENSE):
Interest income from affiliated company 5 8 -
Interest expense (13) (21) (14)
Other, net 3 5 1
------ ------ ------
Total other income (expense) (5) (8) (13)
------ ------ ------
INCOME FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES 24 40 13
INCOME TAXES:
Customary (7) (12) (3)
Effect of change in tax rate (Note K) - - 11
------ ------ ------
INCOME FROM CONTINUING OPERATIONS 17 28 21
DISCONTINUED OPERATIONS:
Income from operations of discontinued supply business
(less applicable income taxes of(pound)3 ($5), and(pound)1) 4 7 2
Gain on disposal of supply business (less applicable
income taxes of(pound)48 ($79)) (Note D) 124 204 -
------ ------ ------
NET INCOME (pound) 145 $ 239 (pound) 23
====== ====== ======
The accompanying notes form an integral part of these condensed consolidated statements
2
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(Stated in Millions)
For the Six Months Ended September 30,
--------------------------------------
1999 1998
---- ----
(Note A)
OPERATING REVENUES (pound) 129 $ 212 (pound) 120
COST OF SALES 9 15 6
------ ------ ------
GROSS MARGIN 120 197 114
------ ------ ------
OPERATING EXPENSES:
Maintenance 18 29 17
Depreciation and amortization 26 43 25
Selling, general, and administrative 19 31 18
Incremental expenses incurred as a direct consequence
of the disposal of the supply business (Note D) 1 2 -
------ ------ ------
Total operating expenses 64 105 60
------ ------ ------
OPERATING INCOME 56 92 54
------ ------ ------
OTHER INCOME (EXPENSE):
Interest income from affiliated company 10 16 -
Interest expense (27) (44) (28)
Gain on sale of assets - - 7
Other, net 5 8 2
------ ------ ------
Total other income (expense) (12) (20) (19)
------ ------ ------
INCOME FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES 44 72 35
INCOME TAXES:
Customary (13) (21) (11)
Effect of change in tax rate (Note K) - - 11
------ ------ ------
INCOME FROM CONTINUING OPERATIONS 31 51 35
DISCONTINUED OPERATIONS:
Income from operations of discontinued supply business
(less applicable income taxes of(pound)3 ($7), and(pound)2) 4 7 4
Gain on disposal of supply business (less applicable income
taxes of(pound)48 ($79)) (Note D) 124 204 -
------ ------ ------
NET INCOME (pound) 159 $ 262 (pound) 39
====== ====== ======
The accompanying notes form an integral part of these condensed consolidated statements
3
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(Stated in Millions)
For the Six Months Ended September 30,
--------------------------------------
1999 1998
---- ----
(Note A)
OPERATING ACTIVITIES:
Net income (pound) 159 $ 262 (pound) 39
Adjustments to reconcile net income to net cash provided by
operating activities from continuing operations:
Income from operations of discontinued supply business (4) (7) (4)
Gain on disposal of supply business (Note D) (124) (204) -
Depreciation and amortization 26 43 25
Deferred income taxes 3 5 (9)
Gain on sale of assets - - (7)
Changes in certain current assets and liabilities:
Receivables, net (22) (36) 2
Accounts payable 35 57 20
Accrued income taxes 16 26 10
Other (8) (13) (5)
------ ------ ------
Net cash provided from operating activities of continuing
operations 81 133 71
------ ------ ------
INVESTING ACTIVITIES:
Capital expenditures (31) (51) (33)
Proceeds from sale of supply business (Note D) 160 263 -
Proceeds from sale of assets - - 10
Proceeds from sale of investments 4 7 -
------ ------ ------
Net cash provided from (used for) investing activities of
continuing operations 133 219 (23)
------ ------ ------
FINANCING ACTIVITIES:
Payments of common stock dividends (24) (39) (20)
Change in short-term borrowings (73) (120) (43)
------ ------ ------
Net cash used for financing activities of continuing operations (97) (159) (63)
------ ------ ------
CASH PROVIDED BY DISCONTINUED OPERATIONS 20 33 17
------ ------ ------
NET INCREASE IN CASH AND CASH EQUIVALENTS 137 226 2
CASH AND CASH EQUIVALENTS AT BEGINNING OF
PERIOD 5 8 5
------ ------ ------
CASH AND CASH EQUIVALENTS AT END OF PERIOD (pound) 142 $ 234 (pound) 7
====== ====== ======
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid (received) during the period for:
Interest (net of amount capitalized) (pound) 26 $ 43 (pound) 27
Income taxes (pound) (3) $ (5) (pound) -
The accompanying notes form an integral part of these condensed consolidated statements.
4
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Stated in Millions)
ASSETS
At September 30, 1999 At March
--------------------- --------
(Unaudited) 31, 1999
---------- --------
(Note A)
PROPERTY, PLANT, AND EQUIPMENT (pound) 1,439 $2,368 (pound) 1,452
Less accumulated depreciation 160 263 151
------ ------ ------
Total 1,279 2,105 1,301
------ ------ ------
OTHER ASSETS:
Investments 15 25 16
Prepaid pension cost 135 222 134
Goodwill, net of accumulated amortization of (pound)18 ($30) at
September 30, 1999 and(pound)16 at March 31, 1999 165 271 167
Loans to affiliated company 351 578 351
Premium in respect of loans to affiliated company and related
hedges, net of accumulated amortization of (pound)7 ($12) at September
30, 1999 and (pound)3 at March 31, 1999 35 58 39
------ ------ ------
Total 701 1,154 707
------ ------ ------
CURRENT ASSETS:
Cash and cash equivalents 142 234 5
Investments 14 23 15
Receivables:
Customer accounts, less provision for uncollectables of (pound)3 ($5) at
September 30, 1999 and(pound)10 at March 31, 1999 26 43 80
Other 16 26 17
Materials and supplies 2 3 3
Prepayments 17 28 11
------ ------ ------
Total 217 357 131
------ ------ ------
TOTAL ASSETS (pound) 2,197 $3,616 (pound) 2,139
====== ====== ======
The accompanying notes are an integral part of these condensed consolidated balance sheets.
5
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Stated in Millions)
STOCKHOLDER'S EQUITY AND LIABILITIES
At September 30, 1999 At March
--------------------- --------
(Unaudited) 31, 1999
----------- --------
(Note A)
STOCKHOLDER'S EQUITY:
Common stock, par value(pound)1 per share, 902,128,735 shares
authorized, issued and outstanding (pound) 902 $1,484 (pound) 902
Retained deficit (Note E) (11) (18) (146)
------ ------ ------
Total 891 1,466 756
------ ------ ------
COMPANY OBLIGATED MANDATORILY REDEEMABLE
PREFERRED SECURITIES OF SOUTHERN INVESTMENTS
UK CAPITAL TRUST I HOLDING COMPANY JUNIOR
SUBORDINATED DEBENTURES 50 82 50
NON-CURRENT LIABILITIES:
Long-term debt 301 495 301
Accumulated deferred income taxes 411 677 363
Provision for loss contracts (Note F) - - 69
Miscellaneous 41 68 36
------ ------ ------
Total 753 1,240 769
------ ------ ------
CURRENT LIABILITIES:
Commercial paper - - 94
Notes payable to banks 276 454 273
Notes payable to affiliated company 43 71 25
Other notes payable 7 12 7
Accounts payable 7 12 44
Accrued income taxes 67 110 48
Interest accrued 10 16 9
Miscellaneous 93 153 64
------ ------ ------
Total 503 828 564
------ ------ ------
TOTAL STOCKHOLDER'S EQUITY AND LIABILITIES (pound) 2,197 $3,616 (pound) 2,139
====== ====== ======
The accompanying notes are an integral part of these condensed consolidated balance sheets.
6
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1999
(Unaudited)
(A) Solely for the convenience of the reader, certain pounds sterling amounts
included in the condensed consolidated financial statements have been
translated into US dollars at the exchange rate of $1.6457 = (pound)1.00,
the noon buying rate in New York City for cable transfers in pounds
sterling as certified for customs purposes by the Federal Reserve Bank of
New York on September 30, 1999.
(B) The condensed consolidated financial statements included herein have been
prepared pursuant to the rules and regulations of the SEC and in
conformity with accounting principles generally accepted in the United
States. In the opinion of the Company's management, the information
furnished herein reflects all adjustments necessary to present fairly the
results of the three-month and six-month periods ended September 30,
1999 and 1998. All such adjustments are of a normal recurring nature.
The Company's fiscal year-end is March 31. Certain information and
footnote disclosures normally included in consolidated financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations, although the Company believes that the disclosures are
adequate to make the information presented not misleading. It is
suggested that these condensed consolidated financial statements be read
in conjunction with the financial statements and the notes thereto
included in the Company's latest annual report on Form 10-K.
The condensed consolidated financial statements included herein have been
reviewed by the Company's independent public accountants as set forth in
their report included herein as Exhibit 15.
(C) The Company has adopted Financial Accounting Standards Board ("FASB")
Statement No. 130, "Reporting Comprehensive Income". This statement
establishes rules for the reporting and display of comprehensive income
and its components. The objective of the statement is to report a measure
of all changes in common stock equity of an enterprise that result from
transactions and other economic events of the period other than
transactions with owners. There were no items for inclusion in a
consolidated statement of comprehensive income other than net income as
shown on the condensed consolidated statements of income. Consequently,
a consolidated statement of comprehensive income has not been included.
(D) The Company holds the entire share capital of South Western Electricity
plc ("SWE").
On September 30, 1999, SWE completed the sale of its supply business (and
certain related activities) to London Electricity plc ("LE"). Under the
terms of the agreement, SWE received cash consideration of (pound)160
million, and transferred certain liabilities to LE.
Prior to the sale, SWE was primarily engaged in two distinct electricity
businesses, distribution, which involves the transfer of electricity from
the high voltage transmission system, and its delivery, across lower
voltage distribution systems, to consumers; and supply, which involves a
wholesale energy procurement function and a retail energy sales, service
and billing function.
Proceeds from the sale were utilized to reduce short-term debt ((pound)
20 million) and the remainder ((pound)140 million) temporarily
placed on deposit.
SWE's operating income is predominantly from the distribution business
and this will continue now that the sale of the supply business has been
completed.
SWE will brand its distribution business as Western Power Distribution as
the SWEB name has transferred to LE.
7
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The supply business segment has been accounted for as a discontinued
operation, and accordingly, amounts in the financial statements and
related notes for all periods shown have been restated.
There are certain incremental costs relating to the ongoing business
which are a direct consequence of the sale of the supply business and
related activities to LE. These costs principally involve the
establishment of a new computer environment and data migration and will
be charged to operating expenses. These costs are estimated at (pound)
11 million in total and will be substantially incurred in the third
quarter.
(E) The Company shows a retained earnings deficit primarily due to dividends
in the amount of (pound)191 million being declared and paid by the
Company during the fiscal year 1996 as proceeds from the sale of SWE's
shares in The National Grid Group plc provided cash in addition to that
provided from operations. In addition, the first budget of the Labour
government included a "one-off windfall levy on the excess profits of the
privatized utilities"; SWE's liability was assessed at (pound)90 million
during fiscal year 1998.
(F) SWE entered into a contract relating to the purchase of 200 megawatts of
capacity from a 7.69% owned related party, Teesside Power Limited
("Teesside"), for a period of 15 years beginning April 1993. The contract
sets escalating electricity purchase prices at predetermined levels. The
Company recognized an accrual at the acquisition date for the excess of
these Teesside power purchase costs in each year over an estimate of the
equivalent Pool costs in that respective year. Under the terms of the
supply sale agreement, LE has assumed SWE's obligations under the
contract and therefore the accrual was released and is included within
the gain on sale.
(G) The Company engages in price risk management activities. Reference is
made to MANAGEMENT'S DISCUSSION AND ANALYSIS "Derivative Financial
Instruments" and Note 7 to the financial statements of the Company in
Item 8 of Form 10-K for a discussion of these activities. Activities for
non-trading purposes consist of transactions employed to mitigate the
Company's risk related to interest rates and foreign currency exchange
rate fluctuations. At September 30, 1999, the status of outstanding
non-trading related derivative contracts was as follows:
(i) Interest rate swaps expiring between 2001 and 2012 with notional
amounts totaling(pound)600 million, resulted in an unrealized
loss of(pound)29 million.
(ii) Currency swaps expiring between 2001 and 2007 with notional amounts
totaling(pound)350 million, resulted in an unrealized gain of
(pound)3 million.
The above excluded swap agreements between the Company and an affiliated
company Holdings UK.
(H) The principal business segment is the distribution business. This
involves the transfer of electricity from the high voltage transmission
system, and its delivery, across lower voltage distribution systems, to
consumers.
8
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Financial data for business segments for the periods covered in the Form
10-Q are as follows:
Distribution Other Eliminations Consolidated
------------ ----- ------------ ------------
(in millions)
Three Months Ended September 30, 1999:
-------------------------------------
Operating revenues (pound) 54 (pound) 22 (pound) (6) (pound) 70
Segment operating income 18 11 - 29
Six Months Ended September 30, 1999:
------------------------------------
Operating revenues (pound) 107 (pound) 35 (pound) (13) (pound) 129
Segment operating income 38 18 - 56
Total assets at September 30, 1999 (pound)1,585 (pound) 612 (pound) - (pound) 2,197
Three Months Ended September 30, 1998:
--------------------------------------
Operating revenues (pound) 55 (pound) 14 (pound) (11) (pound) 58
Segment operating income 23 3 - 26
Six Months Ended September 30, 1998:
------------------------------------
Operating revenues (pound) 110 (pound) 28 (pound) (18) (pound) 120
Segment operating income 46 8 - 54
Total assets at March 31, 1999 (pound)1,599 (pound)540 (pound) - (pound) 2,139
The "Other" category includes ancillary business activities that
generally support SWE's distribution business, including electricity
generation for standby purposes, property and telecommunications, as well
as corporate items and assets not allocated to specific segments and
energy purchasing. Interest expense and taxes are wholly allocated to
"Other" and are disclosed in the Condensed Consolidated Statements of
Income. With the exception of total assets at March 31, 1999, the values
above exclude discontinued operations.
(I) The Company and SWE are routinely party to legal proceedings arising in
the ordinary course of business which are not material, either
individually or in aggregate. Neither the Company nor SWE is a party to
any material legal proceedings nor are they currently aware of any
threatened material legal proceedings.
Reference is made to Note 2 to the financial statements of the Company in
Item 8 of the Form 10-K for information regarding complaints made by
members of the Electricity Supply Pension Scheme ("ESPS") relating to the
use by another employer, The National Grid Company plc ("NGC"), of ESPS
surplus to offset that employer's costs of providing early pensions on
redundancies and certain other items. NGC, together with National Power
PLC, have now initiated appeals in the House of Lords. NGC and National
Power PLC have executed deeds of amendment which purport to cancel their
accrued contribution obligations arising from the Court of Appeal's
judgment. The House of Lords is unlikely to rule whether such amendments
are effective before December 2000. SWE is considering whether to execute
similar amendments.
9
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(J) The condensed consolidated financial statements included herein have not
been prepared in accordance with the policies of Statement of Financial
Accounting Standards No. 71 "Accounting for the Effects of Certain
Types of Regulation" ("SFAS No. 71"). This pronouncement, under which
most US electric utilities report financial statements, applies to
entities which are subject to cost-based rate regulation. By contrast,
SWE is not subject to rate regulation, but rather, is subject to price
cap regulation and therefore the provisions of SFAS No. 71 do not
apply. Financial statements presented in accordance with SFAS No. 71
often contain certain deferred items which have not been included in
rates charged to customers in compliance with the respective regulatory
authority rulings, but which would have been included in the income
statement of enterprises in general under US GAAP. The accompanying
consolidated financial statements of the Company do not contain such
deferrals.
(K) The UK government's 1998 Finance Act included a reduction in the rate of
UK corporation tax from 31% to 30% effective April 1999. The decrease
resulted in a reduction to SWE's provision for deferred income taxes and
a corresponding decrease in income tax expense of approximately (pound)11
million.
10
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
SECOND QUARTER OF FISCAL YEAR 2000 vs. SECOND QUARTER OF FISCAL YEAR 1999
AND
FISCAL YEAR-TO-DATE 2000 vs. FISCAL YEAR-TO-DATE 1999
RESULTS OF OPERATIONS
Earnings
On September 30, 1999, SWE completed the sale of its supply business (and
certain related activities) to LE. Reference is made to Note D in the "Notes to
the Consolidated Financial Statements" herein. The Consolidated Statements of
Income for all periods shown have been restated to reflect discontinued
operations accounting for this business segment. Net income from discontinued
operations for fiscal year 2000 includes an anticipated gain on the sale of
(pound)124 million; certain items are subject to finalization including the
value of working capital and pension asset to be transferred.
The Company's net income from continuing operations for the second
quarter and year-to-date of fiscal year 2000 was (pound)17 million and (pound)31
million, respectively, compared to (pound)21 million and (pound)35 million for
the corresponding period of fiscal year 1999.
Excluding the effect of a change in the tax rate on deferred income
taxes (Note K), significant income statement items from continuing operations
appropriate for discussion include the following:
Increase (Decrease)
----------------------------------------------------
Second Quarter Year-To-Date
(in millions) % (in millions) %
Operating revenues................................... (pound) 12 21 (pound) 9 8
Interest income from affiliated Company.............. 5 - 10 -
Gain on sale of assets............................... - - (7) (100)
Income taxes - customary ............................ 4 133 2 18
Operating revenues. Within operating revenues, the distribution business
decreased by (pound)1 million for the quarter and by (pound)3 million
year-to-date when compared to the same period of fiscal year 1999. Revenues
from ancillary businesses (net of eliminations) for the second quarter and
year-to-date of fiscal year 2000 increased by (pound)13 million and
(pound)12 million respectively, compared to the same period of fiscal year 1999.
Interest income from affiliated company. The second quarter and year-to-date
increase is due to interest receivable on three long-term loans (totaling
(pound)351 million) made to an affiliated company in December 1998. Reference is
made to Note 9 to the financial statements of the Company in Item 8 of the Form
10-K for information relating to capital restructuring.
Gain on sale of assets. The year-to-date decrease is attributed to the gain on
the disposition of certain non-core assets in the corresponding period of fiscal
year 1999.
Income taxes. The second quarter and year-to-date increase is primarily
attributed to higher income before tax, partly offset by a reduction in the UK
corporation tax rate from 31% in fiscal year 1999 to 30% in fiscal year 2000.
11
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
Future Earnings Potential
The results of operations discussed above are not necessarily indicative
of future earnings potential. The level of future earnings depends on numerous
factors including review of regulation and the outcome of current and future
distribution price reviews.
The largest portion of SWE's operating income is derived from its
distribution business - the operation and maintenance of the electricity
distribution network in its Authorized Area in the southwest of England. SWE is
the only distributor of electricity in this area, and management believes that
economic, environmental and regulatory factors are likely to prevent competitors
from entering this business in SWE's Authorized Area.
Distribution revenues are subject to price cap regulation. The Regulator
applies a price control formula ("DPCF"), P + RPI -X, where P is the price level
at the beginning of each new regulatory period, RPI is the change in the Retail
Price Index and X is an adjustment factor determined by the Regulator. X is
currently 3% for SWE. The DPCF is usually set for a five-year period, subject to
more frequent adjustments as determined necessary by the Regulator. At each
review, the Regulator can require a one-time price adjustment.
In August 1999, the Regulator published draft price proposals following
his current review of the DPCF for the 14 regional electricity distribution
businesses. These proposals stated that SWE should reduce its distribution
prices from April 1, 2000 by a percentage within the range 21% to 26% followed
by a reduction in real terms of 3% each year from April 1, 2001. This price
control will operate until March 2005. In October, the Regulator proposed that
the range be revised to 19% to 24%, which includes an allowance to reflect SWE's
improved quality of supply performance. Discussions continue and the Regulator's
final decision is expected in November. Management is in the process of
identifying opportunities to reduce ongoing operating costs.
Reference is made to MANAGEMENT'S DISCUSSION AND ANALYSIS - "Future
Earnings Potential" of Form 10-K for details of the Regulator's proposals and
consultation on the regulation of the water, electricity, gas and
telecommunications utilities within the UK. As these papers are only
consultative at this time, it is not possible for the Company to determine the
impact, if any, on the distribution and generation businesses, until after such
issues have been finalized by the government, and firm proposals are made by the
Regulator.
The FASB issued Statement No. 133, "Accounting for Derivative Instruments
and Hedging Activities", which was originally to be adopted by the Year 2000.
This statement establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. In June 1999, the FASB issued Statement
No. 137, "Accounting for Derivative Instruments and Hedging Activities -
Deferral of the Effective Date of FASB Statement No. 133", which amends FASB
Statement No. 133 to be effective for all fiscal years beginning after June 15,
2000. The Company has not yet quantified the impact of adopting this statement
on its financial statements; however, the adoption could increase volatility in
earnings and other comprehensive income.
12
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
In January 1999, eleven European Union countries formed an economic and
monetary union and started using a single currency the Euro. The UK did not join
at this time, but the UK government has indicated that it might in the future.
SWE is currently assessing the changes to financial systems that would be
required if the Euro is introduced to the UK. The cost of conversion to Euro
compatible systems could have a significant impact on future earnings.
Reference is made to Note (I) in the "Notes to the Condensed Financial
Statements" herein for discussion of various contingencies and other matters
which may affect future earnings potential. Reference is also made to Part II -
Item 1 - "Legal Proceedings" herein.
YEAR 2000 READINESS
Year 2000 Challenge
In order to save storage space, computer programmers in the 1960s and
1970s shortened the year portion of date entries to two digits. Computers
assumed, in effect, that all years began with "19". This practice was widely
adopted and hard-coded into computer chips and processors found in some
equipment. This approach, intended to save processing time and storage space
within computers, was used until the mid-1990s. Unless corrected before the Year
2000, affected software systems and devices containing a chip or microprocessor
with date and time functions could incorrectly process dates or the systems may
cease to function.
SWE depends on complex computer systems for many aspects of its
operations, which is primarily the distribution of electricity, as well as other
business support activities. SWE has met its goal to have critical devices or
software that are required to maintain operations Year 2000 ready by June 1999.
Year 2000 ready means that a system or application is determined suitable for
continued use through the Year 2000 and beyond. Critical systems include, but
are not limited to, control center computer systems, customer service systems,
and telephone switches and equipment.
Year 2000 Program and Status
SWE's executive management recognizes the seriousness of the Year 2000
challenge and has dedicated what it believes to be adequate resources to address
the issue. An executive steering committee reviews Millennium Project progress
on a regular basis, and Southern receives periodic updates and progress reports.
SWE's Millennium Project is divided into two phases. Phase one began in
1996 and consisted of identifying and assessing corporate assets related to
software systems and devices that contain a computer chip or clock. The first
phase was completed in July 1997. Phase two consisted of testing and remediating
high priority systems and devices. Also, contingency planning is included in
this phase. The end of June 1999 target for phase two was met with the exception
of the remediation of a very small number of systems where SWE has third party
dependencies; implementation of these was complete by the end of October 1999.
The Millennium Project will continue to monitor the affected computer systems,
devices, and applications into the Year 2000.
13
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
Year 2000 Costs
Current projected costs of SWE's Year 2000 readiness are approximately
(pound)13 million. These costs include labor necessary to identify, test and
renovate affected devices and systems. From its inception through September 30,
1999, the Year 2000 program costs amounted to (pound)13 million.
Year 2000 Risks
SWE has followed a proven methodology for identifying and assessing
software and devices containing potential Year 2000 challenges. SWE believes,
based on current tests, that the system can provide customers with electricity.
These tests increase confidence, but do not guarantee error-free operations. SWE
is taking what it believes to be prudent steps to prepare for the Year 2000, and
it expects any interruptions in service that may occur to be isolated and short
in duration.
The industry's Regulator, in liaison with independent assessors, has
stated that he has not identified any risks of material disruption to the
infrastructure process for SWE, and has rated the Company 100% compliant, as
measured by the Regulator.
SWE has reviewed the Year 2000 readiness of material third parties which
provide goods and services crucial to SWE's operations. Among such critical
third parties are the NGG, telecommunications, water, and other suppliers. There
is some risk associated with representations by third parties regarding their
readiness and completion of their own Year 2000 related work. Contingency plans
based on the assessment of each third party's ability to continue supplying
critical goods and services to SWE are being developed.
There is a potential for some earnings erosion caused by reduced
electrical demand by customers because of their Year 2000 issues.
Year 2000 Contingency Plans
SWE is skilled at using contingency plans in unusual circumstances
because of experience with storms. As part of Year 2000 business continuity and
contingency planning, SWE is drawing on that experience to make risk assessments
and is developing additional plans to deal specifically with situations that
could arise relative to Year 2000 challenges. SWE is identifying critical
operational locations, and key employees will be on duty at those locations
during the Year 2000 transition. In September 1999, drills were successfully
conducted to test contingency plans. Because of the level of detail of the
contingency planning process, management feels that the contingency plans will
keep any service interruptions that may occur isolated and short in duration.
SWE is participating with the rest of the UK Electricity Industry and
also with other utilities (water, telecommunications and gas) through the Year
2000 Utilities Interest Group where the focus now is very much on contingency
planning.
The material in this section constitutes forward looking statements made
pursuant to the Private Securities Litigation Reform Act of 1995. There can be
no assurance that the actual results of the Company, its suppliers, or other
third party dependencies will not materially differ from expectations.
14
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
FINANCIAL CONDITION
Overview
The major change in the Company's financial condition during the six
months to September 30, 1999 related to the sale of the supply business as
discussed elsewhere in this document. In addition SWE expended approximately
(pound)31 million in property, plant, and equipment, largely in respect of the
distribution network. The funds required for such additions were derived
primarily from operations. It is expected that SWE's capital requirements in the
foreseeable future for its investment in property, plant, and equipment will be
generated from operating activities.
Demand for electricity in Great Britain, in general, and in SWE's
Authorized Area, in particular, is seasonal, with demand being higher in the
winter months and lower in the summer months. SWE balances the effect of this
and other cyclical influences on its working capital needs with drawings under
its available credit facilities.
The Company holds the entire share capital of SWE. The Company is
primarily dependent upon dividends from SWE for its cash flow. SWE can make
distribution of dividends to the Company under English law to the extent that it
has distributable reserves, subject to the retention of sufficient financial
resources to conduct its distribution business as required by its regulatory
license. The Company believes that currently sufficient distributable reserves
will continue to exist at SWE to allow for reasonable and necessary dividends
from SWE, through operations, to be distributed to the Company. In the UK, the
Accounting Standards Board is currently reviewing the treatment of deferred
income tax accounting. If full provision for deferred tax were required, SWE's
distributable reserves could be eliminated. In addition, in September 1999, the
Regulator varied the licenses under which all RECs (including SWE) operate such
that the directors of a REC must certify to the Regulator that it is reasonably
foreseeable that the REC will not breach any of its license conditions if it
declares a dividend. SWE has no reason to believe that a breach of its license
would flow from declaring a reasonable dividend.
Financing Activities
The Company has a US commercial paper program, which is fully supported
by a swingline and revolving credit facility provided by a syndicate of banks,
under which the maximum available is $520 million. At September 30, 1999 the
amount unutilized under these facilities was $191 million. SWE enters into
foreign currency contracts to hedge the currency risk associated with the
interest and principal of each utilization under this program.
SWE actively manages its short-term debt, which includes a number of bank
lines of credit in addition to the commercial paper program. At September 30,
1999 the Company and SWE together had short-term debt of (pound)326 million
($537 million) outstanding ($329 million from a swingline and revolving credit
facility, and $208 million in other short-term loans).
To meet short-term cash needs and contingencies, the Company and SWE
together had at September 30, 1999 approximately (pound)2 million of cash and
(pound)55 million of unutilized committed lines of credit with banks. Also
available was $191 million of the swingline and revolving credit facility
mentioned above. It also had (pound)140 million on short term cash deposit being
part of the proceeds from the sale of the supply business.
15
SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
Excluding swap agreements between the Company and Holdings UK, at
September 30, 1999, the Company and SWE have sterling interest rate swaps
expiring between 2001 and 2012, with notional amounts totaling (pound)600
million, and have cross currency swaps expiring between 2001 and 2007, with
notional amounts totaling (pound)350 million.
16
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.
(1) Reference is made to the Notes to the Consolidated Financial Statements
herein for information regarding certain legal and administrative
proceedings in which the Company is involved.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits.
--------
Exhibit 10 - SWEB Public Electricity Supply License dated September
30, 1999, which supersedes Exhibits 10.1 and 10.2, as
designated in Form 10-K for the year ended March 31, 1999.
Exhibit 15 - Report of Independent Public Accountants
Exhibit 27 - Financial Data Schedule
(b) Reports on Form 8-K.
-------------------
The Company filed a Current Report on Form 8-K dated September 30, 1999:
Items reported: Item 2
Item 7
Financial statements filed: Yes
17
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.
SOUTHERN INVESTMENTS UK plc
/s/W. P. Bowers
By W. P. Bowers
Director
/s/ D. C. S. Oosthuizen
By D. C. S. Oosthuizen
Director, Chief Financial and Accounting Officer
Date: November 12, 1999