UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2005
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Commission file number 1-8966
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SJW Corp.
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(Exact name of registrant as specified in its charter)
California 77-0066628
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
374 West Santa Clara Street, San Jose, CA 95113
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(Address of principal executive offices) (Zip Code)
408-279-7800
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(Registrant's telephone number, including area code)
Not Applicable
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(Former name, former address and former fiscal year changed since last report)
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 by check mark whether the registrant is an accelerated filer.
Yes X No
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APPLICABLE ONLY TO CORPORATE ISSUERS:
Common shares outstanding as of August 1, 2005 are 9,136,172.
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
- -----------------------------
SJW CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
AND COMPREHENSIVE INCOME
(UNAUDITED)
(In thousands, except share and per share data)
THREE MONTHS SIX MONTHS
ENDED JUNE 30 ENDED JUNE 30
2005 2004 2005 2004
---- ---- ---- ----
OPERATING REVENUE $44,799 45,609 $78,106 76,672
OPERATING EXPENSES
Operation:
Purchased water 11,907 11,666 18,919 18,176
Power 849 1,597 1,520 2,411
Pump taxes 3,249 5,902 5,860 9,023
Administrative and general 5,038 4,484 9,587 8,794
Other 3,416 3,287 6,607 6,536
Maintenance 2,342 2,179 4,381 4,287
Property taxes and other nonincome taxes 1,351 1,325 2,762 2,654
Depreciation and amortization 4,863 4,707 9,886 9,100
Income taxes 3,948 3,352 5,868 4,596
------- ------- ------- -------
Total operating expenses 36,963 38,499 65,390 65,577
------- ------- ------- -------
OPERATING INCOME 7,836 7,110 12,716 11,095
Interest on long-term debt (2,383) (2,382) (4,773) (4,764)
Dividend income 313 310 627 621
Other, net (51) (231) (174) (371)
------- ------- ------- -------
NET INCOME $ 5,715 4,807 $ 8,396 6,581
======= ======= ======= =======
Other comprehensive income (loss):
Unrealized income (loss) on investment $ 4,587 (815) $ (121) 164
Income benefit (taxes) (1,881) 334 50 (67)
------- ------- ------- -------
Other comprehensive income (loss), net 2,706 (481) (71) 97
------- ------- ------- -------
COMPREHENSIVE INCOME $ 8,421 4,326 $ 8,325 6,678
======= ======= ======= =======
EARNINGS PER SHARE
Basic $ 0.63 0.53 $ 0.92 0.72
Diluted $ 0.62 0.53 $ 0.91 0.72
======= ======= ======= =======
COMPREHENSIVE INCOME PER SHARE
Basic $ 0.92 0.47 $ 0.91 0.73
Diluted $ 0.91 0.47 $ 0.90 0.73
======= ======= ======= =======
DIVIDENDS PER SHARE $ 0.26 0.26 $ 0.53 0.51
======= ======= ======= =======
WEIGHTED AVERAGE SHARES OUTSTANDING
Basic 9,136,172 9,138,841 9,135,843 9,136,758
Diluted 9,232,708 9,193,895 9,226,839 9,191,077
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
2
SJW CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(In thousands)
JUNE 30 DECEMBER 31
2005 2004
---- ----
ASSETS
Utility Plant:
Land $ 1,735 1,735
Depreciable plant and equipment 621,674 605,420
Construction in progress 9,340 4,595
Intangible assets 7,840 7,840
---------- ---------
Total utility plant 640,589 619,590
Less accumulated depreciation and amortization 199,736 189,221
---------- ---------
Net utility plant 440,853 430,369
---------- ---------
Nonutility property 32,929 35,154
Less accumulated depreciation 3,515 3,167
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Net nonutility property 29,414 31,987
---------- ---------
CURRENT ASSETS:
Cash and equivalents 9,670 10,899
Short-term investments 2,950 -
Accounts receivable:
Customers, net of allowances for uncollectible accounts 8,528 8,044
Other 803 611
Unbilled utility revenue 13,931 6,605
Long-lived assets held-for-sale 2,451 -
Materials and supplies 605 559
Prepaid expenses 1,292 1,652
---------- ---------
Total current assets 40,230 28,370
---------- ---------
OTHER ASSETS:
Investment in California Water Service Group 41,292 41,413
Unamortized debt issuance and reacquisition costs 3,216 3,300
Regulatory assets 7,227 8,064
Intangible pension asset 4,357 4,357
Other 4,526 4,292
---------- ---------
Total other assets 60,618 61,426
---------- ---------
$ 571,115 552,152
========== =========
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
3
SJW CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(In thousands)
JUNE 30 DECEMBER 31
2005 2004
---- ----
CAPITALIZATION AND LIABILITIES
CAPITALIZATION:
Common stock $ 9,521 9,516
Additional paid-in capital 14,815 14,306
Retained earnings 152,034 148,525
Accumulated other comprehensive income 12,272 12,344
--------- ---------
Total shareholders' equity 188,642 184,691
--------- ---------
Long-term debt, less current portion 145,557 143,604
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Total capitalization 334,199 328,295
--------- ---------
CURRENT LIABILITIES:
Current portion of long-term debt 141 275
Accrued pump taxes and purchased water 6,464 3,856
Purchased power 1,087 848
Accounts payable 3,735 870
Accrued interest 3,618 3,619
Accrued taxes 3,836 890
Accrued payroll 1,195 1,066
Work order deposit 764 773
Other current liabilities 2,967 3,154
--------- ---------
Total current liabilities 23,807 15,351
--------- ---------
DEFERRED INCOME TAXES 48,910 49,507
UNAMORTIZED INVESTMENT TAX CREDITS 1,885 1,915
ADVANCES FOR CONSTRUCTION 69,382 65,251
CONTRIBUTIONS IN AID OF CONSTRUCTION 79,899 78,655
DEFERRED REVENUE 1,298 1,282
POSTRETIREMENT BENEFIT PLANS 9,096 9,359
OTHER NONCURRENT LIABILITIES 2,639 2,537
--------- ---------
$ 571,115 552,152
========= =========
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
4
SJW CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(In thousands)
SIX MONTHS ENDED
JUNE 30
2005 2004
---- ----
OPERATING ACTIVITIES:
Net income $ 8,396 6,581
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization 9,886 9,100
Deferred income taxes (627) 2,560
Stock-based compensation 684 581
Changes in operating assets and liabilities:
Accounts receivable and accrued unbilled utility revenue (8,002) (7,449)
Accounts payable, purchased power and other current liabilities 2,915 4,337
Accrued pump taxes and purchased water 2,608 3,448
Accrued taxes 2,946 1,625
Accrued payroll 129 55
Work order deposits (8) (643)
Prepaid expenses and materials and supplies 314 101
Deferred revenue 17 (43)
Other noncurrent assets and noncurrent liabilities 804 (1,438)
Other changes, net 66 566
--------- --------
NET CASH PROVIDED BY OPERATING ACTIVITIES 20,128 19,381
INVESTING ACTIVITIES:
Additions to utility plant (21,429) (20,538)
Additions to nonutility property (231) (265)
Cost to retire utility plant, net of salvage 28 (158)
Purchases of short-term investments (2,950) -
--------- --------
NET CASH USED IN INVESTING ACTIVITIES (24,582) (20,961)
FINANCING ACTIVITIES:
Long-term borrowings 1,953 -
Repayments of long-term borrowings (135) (121)
Stock buyback (185) (28)
Dividends paid (4,888) (4,599)
Exercise of stock options 16 (5)
Receipts of advances and contributions in aid of construction 7,361 2,262
Refunds of advances for construction (897) (937)
--------- --------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 3,225 (3,428)
NET CHANGE IN CASH AND EQUIVALENTS (1,229) (5,008)
--------- --------
CASH AND EQUIVALENTS, BEGINNING OF PERIOD 10,899 10,278
CASH AND EQUIVALENTS, END OF PERIOD $ 9,670 5,270
========= ========
Cash paid during the period for:
Interest $ 5,248 5,084
Income taxes 2,951 (14)
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
5
SJW CORP. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
NOTE 1. GENERAL
- -------------------
In the opinion of SJW Corp., the accompanying unaudited condensed consolidated
financial statements contain all adjustments, consisting only of normal
recurring adjustments, necessary for the fair presentation of the results for
the interim periods.
The Notes to Consolidated Financial Statements in SJW Corp.'s 2004 Annual Report
on Form 10-K should be read with the accompanying condensed consolidated
financial statements.
Water sales are seasonal in nature. The demand for water, especially by
residential customers, is generally influenced by weather conditions. The timing
of precipitation and climactic conditions can cause seasonal water consumption
by residential customers to vary significantly. Due to the seasonal nature of
the water business, the operating results for interim periods are not indicative
of the operating results for a 12 month period. Revenue is generally higher in
the warm, dry summer months when water usage and sales are greater and lower in
the winter when cooler temperatures and increased rainfall curtail water usage
and sales.
Basic earnings per share and comprehensive income per share are calculated using
income available to common shareholders and comprehensive income, respectively,
divided by the weighted average number of shares outstanding during the period.
Diluted earnings per share and comprehensive earnings per share are calculated
using the weighted average number of common shares including both shares
outstanding and shares potentially issued in connection with stock options and
deferred restricted common stock awards granted under SJW Corp.'s Long-Term
Incentive Plan (the "Incentive Plan") and income available to common
shareholders and comprehensive income, respectively, adjusted for recognized
stock compensation expense.
For the three months ended June 30, 2005 and 2004, the basic weighted average
number of common shares was 9,136,172 and 9,138,841, respectively. For the six
months ended June 30, 2005 and 2004, the basic weighted average number of common
shares was 9,135,843 and 9,136,758, respectively. For the three and six month
periods ended June 30, 2005, the diluted weighted average number of common
shares outstanding was 9,232,708 and 9,226,839, respectively. The diluted
weighted average number of common shares was 9,193,895 and 9,191,077,
respectively, for the three and six month periods ending June 30, 2004.
6
NOTE 2. LONG-TERM INCENTIVE PLAN
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Common Shares
-------------
SJW Corp. has reserved 900,000 common shares for issuance under its Incentive
Plan (Defined in Note 1). As of June 30, 2005, 9,031 shares have been issued
pursuant to the Incentive Plan, and 179,191 shares are issuable upon the
exercise of outstanding options and deferred restricted stock. The remaining
shares available for issuance under the Incentive Plan are 711,778. The total
compensation cost charged to income under the Incentive Plan for the three and
six months ended June 30, 2005 was $277,000 and $617,000 and for the three and
six months ended June 30, 2004 was $290,000 and $581,000, respectively. The
total benefit, including non-employee directors' converted post-retirement
benefits, recorded in shareholders' equity under the Incentive Plan was
$229,000, and $684,000, respectively.
SJW Corp. has adopted Statement of Financial Accounting Standards (SFAS) No.
123, "Accounting for Stock-Based Compensation", utilizing the Black-Scholes
option-pricing model to compute the fair value of options at grant date as basis
for the stock-based compensation for financial reporting purposes. The
assumptions utilized include:
2005 2004 2003
---- ---- ----
Expected dividend yield 2.65% 3.3 % 3.4 %
Expected volatility 25.3 % 23.6 % 27.0 %
Risk-free interest rate 3.54% 3.22% 2.86%
Expected holding period in years 5.0 5.0 5.0
Stock Options
-------------
Awards in the form of stock option agreements under the Incentive Plan allow
optionees to purchase common shares at a specified price. In January 2005,
options to purchase in the aggregate amount of 21,742 shares were issued at an
exercise price of $35.26 per share, and the weighted average fair value was
$7.38, at the date of grant. For the six months ended June 30, 2005 and 2004,
796 and 266 common shares were issued upon exercise of options, respectively.
Shares subject to outstanding options under the Incentive Plan were 75,951 and
54,919 as of June 30, 2005 and 2004, respectively.
SJW Corp. has recognized stock compensation expense for the stock options
granted under the Incentive Plan of $38,000 and $98,000, respectively, for the
three and six months ended June 30, 2005, and $32,000 and $35,000, respectively,
for the three and six months ended June 30, 2004.
Deferred Restricted Stock Plans
-------------------------------
As of June 30, 2005 and 2004, deferred restricted stock awards for 41,670 shares
have been granted to a key employee of SJW Corp. SJW Corp. has recognized stock
compensation expense related to these deferred restricted stock units of
7
$119,000 and $257,000, respectively, for the three and six months ended June 30,
2005, and $128,000 and $256,000, respectively, for the three and six months
ended June 30, 2004.
As of June 30, 2005 and 2004, deferred restricted stock awards for an aggregate
of 55,524 shares have been granted to non-employee Board members who elected to
receive their existing and future cash pension benefits in deferred restricted
stock awards under the Deferred Restricted Stock Program. As of June 30, 2005,
4,206 shares were issued pursuant to deferred restricted stock awards to a
retired non-employee Board member. In accordance with SFAS No. 123, "Accounting
for Stock-Based Compensation", SJW Corp. has recognized stock compensation
expense of $91,000 and $202,000, respectively, for the three and six months
ended June 30, 2005 and $102,000 and $204,000, respectively, for the three and
six months ended June 30, 2004, related to deferred restricted stock awards
under the Deferred Restricted Stock Program.
In January 2005, deferred restricted stock awards covering 2,968 shares were
issued to the non-employee Board members who elected to convert their annual
retainer fee at a conversion price of $36.40 per share under the Deferred
Restricted Stock Program. As of June 30, 2005 and 2004, SJW Corp. has granted
deferred restricted stock awards for 7,888 and 4,920 shares in lieu of cash
retainer fees, respectively. For the three and six months ended June 30, 2005,
SJW Corp. has recognized stock compensation expense of $28,000 and $58,000,
respectively, related to deferred restricted stock awards granted to
non-employee Board members in connection with their annual retainers.
Dividend Equivalent Rights
--------------------------
Under the Incentive Plan, holders of options and deferred restricted stock
awards have the right to receive dividend rights each time a dividend is paid on
common shares after the grant date. Stock compensation expenses are measured and
recognized on dividend equivalent rights on the date they are granted. The stock
compensation expenses on stock options and deferred restricted stock awards
reported in this Note 2 include the stock compensation expenses recognized on
the dividend equivalent rights. As of June 30, 2005 and 2004, 6,393 and 1,908
dividend equivalent rights were converted to deferred restricted stock awards,
respectively, and $98,000 and $81,000 related to dividend equivalent rights were
accrued as a liability.
The stock options, deferred restricted stock programs, and dividend equivalent
rights are all offered through SJW Corp.'s Incentive Plan.
NOTE 3. NONREGULATED BUSINESS
- ---------------------------------
The business activities of SJW Corp. consist primarily of its subsidiary, San
Jose Water Company, a public utility regulated by the California Public
Utilities Commission (CPUC) that operates within a service area approved by the
CPUC. Included in the total operating revenue and operating expense are the
nonregulated business activities of SJW Corp. The nonregulated businesses of SJW
Corp. are comprised of operating the City of Cupertino Municipal Water Systems
(CMWS), parking and lease operations of several commercial buildings and
properties of SJW Land Company (SJW Land), and the sale and rental of water
conditioning and purification equipment of Crystal Choice Water Service, LLC
8
(CCWS). The following tables represent the distribution of the regulated and
nonregulated business activities for the three and six months ended June 30,
2005 and 2004:
Three Months Ended Three Months Ended
June 30 2005 June 30 2004
------------- -------------
(in thousands)
Non Non
Regulated Regulated Total Regulated Regulated Total
--------- --------- ----- --------- --------- -----
Revenue $ 42,761 $ 2,038 $ 44,799 $ 43,063 $ 2,546 $ 45,609
Expenses 35,282 1,681 36,963 36,426 2,073 38,499
------- ------ ------ ------ ----- ------
Operating Income $ 7,479 $ 357 $ 7,836 $ 6,637 $ 473 $ 7,110
======= ====== ====== ====== ===== ======
Six Months Ended Six Months Ended
June 30 2005 June 30 2004
------------- -------------
(in thousands)
Non Non
Regulated Regulated Total Regulated Regulated Total
--------- --------- ----- --------- --------- -----
Revenue $ 74,272 $ 3,834 $ 78,106 $ 72,114 $ 4,558 $ 76,672
Expenses 62,162 3,228 65,390 62,036 3,541 65,577
------ ----- ------ ------ ----- ------
Operating Income $ 12,110 $ 606 $ 12,716 $ 10,078 $ 1,017 $ 11,095
====== ===== ====== ====== ===== ======
NOTE 4. NONUTILITY PROPERTY
- -------------------------------
The major components of net nonutility property as of June 30, 2005 and December
31, 2004 are as follows:
June 30 2005 December 31 2004
------------- -----------------
(in thousands)
Land $ 7,246 $ 8,139
Buildings and improvements 25,452 26,784
Intangibles 231 231
------ ------
Less: accumulated depreciation and amortization 3,515 3,167
------ ------
Total $ 29,414 $ 31,987
====== ======
Depreciation of nonutility property is computed using the straight-line method
over the estimated service lives of the assets, ranging from 5 to 75 years.
9
NOTE 5. EMPLOYEE BENEFIT PLANS
- ----------------------------------
The components of net periodic benefit costs for SJW Corp.'s pension plan and
Supplemental Executive Retirement Plan for the three and six months ended June
30, 2005 and 2004 are as follows:
Three Months Ended Six Months Ended
June 30 June 30
2005 2004 2005 2004
---- ---- ---- ----
(in thousands)
Service cost $ 513 438 $ 1,027 876
Interest cost 889 762 1,777 1,524
Other cost 341 238 681 476
Expected return on assets (706) (639) (1,411) (1,278)
----- ---- ----- -----
$ 1,037 799 $ 2,074 1,598
===== ==== ===== =====
As of June 30, 2005, the SJW Corp. has contributed $1,900,000 to the pension
plan and expects to contribute an additional $1,000,000 to the pension plan and
$343,000 to its other post-retirement plan in 2005.
NOTE 6. SEGMENT REPORTING
- -----------------------------
SJW Corp. is a holding company with three subsidiaries: San Jose Water Company
(SJWC), a water utility operation with both regulated and nonregulated
businesses, SJW Land Company and its consolidated variable interest entity - 444
West Santa Clara Street, L.P., which operates parking facilities and commercial
building rentals, and Crystal Choice Water Service LLC (CCWS), a business
providing the sale and rental of water conditioning and purification equipment.
In accordance with Statement of Financial Accounting Standards No. 131,
Disclosures about Segments of an Enterprise and Related Information, SJW Corp.
has determined that it has two reportable business segments. The first is that
of providing water utility and utility-related services to its customers,
provided through SJW Corp.'s subsidiary, SJWC. The second segment is property
management and development activity conducted by SJW Land Company.
SJW Corp.'s reportable segments have been determined based on information used
by the chief operating decision-maker. SJW Corp.'s chief operating
decision-maker is its President and Chief Executive Officer (CEO). The CEO
reviews financial information presented on a consolidated basis that is
accompanied by disaggregated information about operating revenue, net income and
total assets.
The tables below set forth information relating to SJW Corp.'s reportable
segments. Certain allocated assets, revenue and expenses have been included in
the reportable segment amounts. Other business activity of SJW Corp. not
included in the reportable segments is included in the "All Other" category.
10
Three Months Ended June 30 2005
(in thousands)
SJW Land All SJW
SJWC Company Other* Corp.
---------------------------------------------------------
Operating revenue $ 43,717 $ 770 $ 312 $ 44,799
Operating expense 35,978 450 535 36,963
Net income 5,482 178 55 5,715
Depreciation and amortization 4,688 156 19 4,863
Interest expense 2,384 223 - 2,607
Income tax expense 3,916 131 (99) 3,948
Assets $ 490,604 $ 36,736 $ 43,775 $ 571,115
Three Months Ended June 30 2004
(in thousands)
SJW Land All SJW
SJWC Company Other* Corp.
---------------------------------------------------------
Operating revenue $ 44,181 $ 990 $ 438 $ 45,609
Operating expense 37,457 435 607 38,499
Net income 4,460 223 124 4,807
Depreciation and amortization 4,513 175 19 4,707
Interest expense 2,382 314 - 2,696
Income tax expense 3,260 164 (71) 3,352
Assets $ 463,908 $ 32,658 $ 32,912 $ 529,478
Six Months Ended June 30 2005
(in thousands)
SJW Land All SJW
SJWC Company Other* Corp.
---------------------------------------------------------
Operating revenue $ 75,893 $ 1,564 $ 649 $ 78,106
Operating expense 63,364 947 1,079 65,390
Net income 7,974 277 145 8,396
Depreciation and amortization 9,535 312 39 9,886
Interest expense 4,774 449 - 5,223
Income tax expense 5,773 266 (171) 5,868
Assets $ 490,604 $ 36,736 $ 43,775 $ 571,115
11
Six Months Ended June 30 2004
(in thousands)
SJW Land All SJW
SJWC Company Other* Corp.
---------------------------------------------------------
Operating revenue $ 73,840 $ 1,927 $ 905 $ 76,672
Operating expense 63,385 977 1,215 65,577
Net income 5,877 431 273 6,581
Depreciation and amortization 8,758 303 39 9,100
Interest expense 4,764 460 - 5,224
Income tax expense 4,376 343 (122) 4,596
Assets $ 463,908 $ 32,658 $ 32,912 $529,478
*The "All Other" category includes CCWS, and without regard to its subsidiaries,
SJW Corp. Please refer to Notes to Consolidated Financial Statements in SJW
Corp.'s 2004 Annual Report on Form 10-K.
NOTE 7. STOCK REPURCHASE
- ----------------------------
On April 29, 2004, SJW Corp.'s Board of Directors authorized a stock repurchase
program to repurchase up to 100,000 shares of its outstanding common stock over
the next 36 months.
In 2004, SJW Corp. repurchased a total of 4,295 shares of its outstanding common
stock at the prevailing price in the open market at an aggregate cost of
$144,000. No shares were repurchased in the first three months of 2005. During
the second quarter of 2005, SJW Corp. repurchased a total of 4,736 shares of its
outstanding common stock at the prevailing price in the open market at an
aggregate cost of $185,000. All repurchased shares have been cancelled and are
considered authorized and unissued.
NOTE 8. COMMITMENTS
- -----------------------
SJW Corp.'s contractual obligations and commitments include senior notes,
mortgages and other obligations. San Jose Water Company, a subsidiary of SJW
Corp., has received advance deposit payments from its customers on construction
projects. Refunds of the advance deposit payments constitute an obligation of
San Jose Water Company.
NOTE 9. SHORT-TERM INVESTMENTS
- ----------------------------------
As of June 30, 2005, SJW Corp. held approximately $2,950,000 in short-term
municipal and other investments. The fair market value of the investments
approximates the original cost of the investments.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
This report contains forward-looking statements within the meaning of the
federal securities laws relating to future events and future results of SJW
Corp. and its subsidiaries that are based on current expectations, estimates,
forecasts, and projections about SJW Corp. and the industries in which SJW Corp.
operates and the beliefs and assumptions of the management of SJW Corp. Such
forward-looking statements are identified by words including "expect",
"estimate", "anticipate" and similar expressions. These forward-looking
statements are only predictions and are subject to risks, uncertainties, and
assumptions that are difficult to predict. Therefore, actual results may differ
materially and adversely from those expressed in any forward-looking statements.
Important factors that could cause or contribute to such differences include,
but are not limited to, those discussed in this report under the section
entitled "Factors that May Affect Future Results" under this Item 2 and
elsewhere, and in other reports SJW Corp. files with the Securities and Exchange
Commission (SEC), specifically the most recent reports on Form 10-K, Form 10-Q
and Form 8-K, each as it may be amended from time to time. SJW Corp. undertakes
no obligation to update the information contained in this report, including the
forward-looking statements to reflect any event or circumstance that may arise
after the date of this report.
GENERAL:
- -------
SJW Corp. is a holding company with three subsidiaries.
San Jose Water Company, a wholly owned subsidiary of SJW Corp., is a public
utility in the business of providing water service to a population of
approximately one million people in an area comprising about 138 square miles in
the metropolitan San Jose area.
The principal business of San Jose Water Company consists of the production,
purchase, storage, purification, distribution and retail sale of water. San Jose
Water Company provides water service to customers in portions of the cities of
Cupertino and San Jose and in the cities of Campbell, Monte Sereno, Saratoga and
the Town of Los Gatos, and adjacent unincorporated territory, all in the County
of Santa Clara in the State of California. San Jose Water Company distributes
water to customers in accordance with accepted water utility methods, which
include pumping from storage and gravity feed from high elevation reservoirs.
San Jose Water Company also provides nonregulated water related services under
agreements with municipalities. These nonregulated services include full water
system operations, billings and cash remittance services.
SJW Land Company, a wholly owned subsidiary of SJW Corp., owns and operates
parking facilities, which are located adjacent to San Jose Water Company's
headquarters and the HP Pavilion in San Jose, California. SJW Land Company also
owns commercial buildings, other undeveloped land primarily in the San Jose
Metropolitan area, some properties in the states of Florida and Connecticut, and
a 70% limited partnership interest in 444 West Santa Clara Street, L.P. The
limited partnership has been determined to be a Variable Interest Entity within
the scope of FIN 46R, and as a result, it has been consolidated with SJW Land
Company.
13
Crystal Choice Water Service LLC, a subsidiary 75% owned by SJW Corp., engages
in the sale and rental of water conditioning and purification equipment.
SJW Corp. also owns 1,099,952 shares of California Water Service Group, which
represents approximately 6% of its outstanding shares as of June 30, 2005.
BUSINESS STRATEGY:
- -----------------
SJW Corp. focuses its business initiatives in four strategic areas:
(1) Regional regulated utility operations in the San Jose metropolitan
area.
(2) Regional nonregulated water and utility-related services provided
in accordance with the guidelines established by the California
Public Utilities Commission (CPUC).
(3) Real estate development and investment activities in SJW Land
Company.
(4) Out-of-region water and utility-related services, primarily in the
Western United States.
Regional Regulated Activities
-----------------------------
SJW Corp.'s regulated utility operation is conducted through San Jose Water
Company, a wholly owned water utility subsidiary. SJW Corp. effectively plans
and applies a diligent and disciplined approach to improving and maintaining its
water system infrastructure. It also seeks to acquire regulated water systems
adjacent to or near its existing service territory.
Regional Nonregulated Activities
--------------------------------
San Jose Water Company also seeks appropriate nonregulated business
opportunities that fit its existing operations or that allow it to extend its
core competencies beyond existing operations. San Jose Water Company seeks
opportunities to fully utilize its capability and existing capacity by providing
services to other regional water systems, benefiting its existing regional
customers through increased efficiencies and revenue sharing.
Operating in accordance with guidelines established by the CPUC, San Jose Water
Company provides nonregulated water services under agreements with
municipalities and other utilities. Nonregulated services include water system
operations, billings and cash remittance processing, maintenance services, and
telecommunication antenna leasing.
Real Estate Development and Investment
--------------------------------------
SJW Land Company's real estate investments diversifies SJW Corp.'s asset base
and balances SJW Corp.'s concentration in regulated assets. SJW Corp.
14
anticipates that its real estate development program will increase its overall
financial strength, flexibility, and shareholder value.
SJW Land Company implements its strategy by exchanging selected real estate
assets for high quality, relatively low risk investments with a capital
structure and risk and return profile that is consistent with SJW Corp.'s
consolidated capital structure and risk and return profile.
Out-of-Region Opportunities
---------------------------
SJW Corp. is also pursuing opportunities to participate in out-of-region water
and utility-related services, particularly regulated water businesses, in the
Western United States. SJW Corp. systematically evaluates out-of-region and
out-of-state opportunities primarily in regulated water businesses that meet SJW
Corp.'s risk and return profile.
The factors SJW Corp. considers in evaluating such opportunities include:
o regulatory environment;
o synergy potential;
o general economic conditions;
o additional growth opportunities within the region;
o water quality and environmental issues; and
o capital requirements.
SJW Corp. cannot be certain it will be successful in locating appropriate
opportunities in all of the above business activities and initiatives in our
region and out-of-region and if it does, in consummating any transactions
relating to such opportunities. In addition, any transaction will involve
numerous risks. These include the possibility of paying more than the value
derived from the acquisition, the assumption of certain known and unknown
liabilities of the acquired assets, the risk of diverting management's attention
from normal daily operations of the business, negative impact to our financial
condition and operating results, the risks of entering markets in which we have
no or limited direct prior experience and the potential loss of key employees of
any acquired company. SJW Corp. cannot be certain that any transaction will be
successful and will not materially harm its operating results or financial
condition.
CRITICAL ACCOUNTING POLICIES:
- ----------------------------
SJW Corp. has identified the accounting policies below as the policies critical
to its business operations and the understanding of the results of operations.
The preparation of financial statements requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities at
the date of the financial statements, and revenues and expenses during the
reporting period. SJW Corp. bases its estimates on historical experience and on
various other assumptions that are believed to be reasonable under the
circumstances. The impact and any associated risks related to these policies on
15
SJW Corp.'s business operations is discussed throughout "Management's Discussion
and Analysis of Financial Condition and Results of Operations" where such
policies affect SJW Corp.'s reported and expected financial results. SJW Corp.'s
critical accounting policies are as follows:
Balancing Account
-----------------
The CPUC establishes the balancing account mechanism to track the
under-collection and over-collection of CPUC authorized revenue associated with
expense changes for purchased water, purchased power and pump tax. Since
balances are tracked and subject to approval by the CPUC before they can be
incorporated into rates, San Jose Water Company has not recognized the balancing
account in its financial statements. The balance of the balancing account varies
with the seasonality of the water utility business such that during the summer
months when the demand for water is at its peak, the balancing account tends to
reflect an under-collection, while during the winter months when demand for
water is relatively lower, the balancing account tends to reflect an
over-collection. Had the balancing account been recognized in San Jose Water
Company's financial statements, San Jose Water Company's retained earnings would
be increased by the amount of balancing account over-collection, as the case may
be, or decreased by the amount of balancing account under-collection, less
applicable taxes.
The balancing account under-collection balance accrued prior to November 29,
2001 is now being recovered by way of a 12-month Quantity Rate surcharge
authorized by the CPUC. There have not been any changes in purchased water,
power and pump taxes since August 19, 2004 when the CPUC issued the final
decision (D.04-08-054) in San Jose Water Company's General Rate Case
Application. As of June 30, 2005 and December 31, 2004, the balancing account
net under-collection balance was, including interest on approved amounts,
$604,000 and $610,000, respectively.
Revenue Recognition
-------------------
San Jose Water Company's revenue from metered customers includes billing to
customers based on meter readings plus an estimate of water used between the
customers' last meter reading and the end of the accounting period. San Jose
Water Company reads the majority of its customers' meters on a bi-monthly basis
and records its revenue based on its meter reading results. Revenue from the
meter reading date to the end of the accounting period is estimated based on
historical usage patterns, production records and the effective tariff rates.
The estimate of the unbilled revenue is a management estimate utilizing certain
sets of assumptions and conditions which include the number of days between
meter reads for each billing cycle, the customers' consumption changes, and the
San Jose Water Company's experiences in unaccounted-for water. Actual results
could differ from those estimates, which would result in adjusting the operating
revenue in the period which the revision to San Jose Water Company's estimates
are determined. As of June 30, 2005 and December 31, 2004, accrued unbilled
revenue was $13,931,000 and $6,605,000, respectively.
SJW Corp. recognizes its nonregulated revenue based on the nature of the
nonregulated business activities. Revenue from San Jose Water Company's
16
nonregulated utility operations and billing or maintenance agreements are
recognized when services have been rendered. Revenue from SJW Land Company is
recognized ratably over the term of the lease or when parking services have been
rendered. Revenue from Crystal Choice Water Service LLC is recognized at the
time of the delivery of water conditioning and purification equipment or ratably
over the term of the lease of the water conditioning and purification equipment.
Recognition of Regulatory Assets and Liabilities
------------------------------------------------
Generally accepted accounting principles for water utilities include the
recognition of regulatory assets and liabilities as permitted by SFAS No. 71,
"Accounting for the Effects of Certain Types of Regulation". In accordance with
SFAS No. 71, San Jose Water Company records deferred costs and credits on the
balance sheet as regulatory assets and liabilities when it is probable that
these costs and credits will be recovered in the ratemaking process in a period
different from when the costs and credits were incurred. Accounting for such
costs and credits is based on management's judgment that it is probable that the
costs will be recoverable in the future revenue of San Jose Water Company
through the ratemaking process. The regulatory assets and liabilities recorded
by San Jose Water Company primarily relate to the recognition of deferred income
taxes for ratemaking versus tax accounting purposes. The disallowance of any
asset in the future for ratemaking purposes, including the deferred regulatory
assets, would require San Jose Water Company to immediately recognize the impact
of the costs for financial reporting purposes. No disallowance had to be
recognized as of June 30, 2005 and December 31, 2004. The net regulatory assets
recorded by San Jose Water Company as of June 30, 2005 and December 31, 2004 was
$7,227,000 and $8,064,000, respectively.
Income Taxes
------------
SJW Corp. estimates its federal and state income taxes as part of the process of
preparing the financial statements. The process involves estimating the actual
current tax exposure together with assessing temporary differences resulting
from different treatment of items for tax and accounting purposes, including the
evaluation of the treatment acceptable in the water utility industry and its
regulatory agency. These differences result in deferred tax assets and
liabilities, which are included in the balance sheet. If actual results, due to
changes in regulatory treatment, or significant changes in tax-related estimates
or assumptions or changes in law, differ materially from these estimates, the
provision for income taxes will be materially impacted. The effect on deferred
tax assets and liabilities of a change in tax rates is recognized in the period
that includes the enactment date.
Pension Accounting
------------------
San Jose Water Company offers a defined benefit plan, Supplemental Executive
Retirement Plan and certain post-retirement benefits other than pensions to
employees retiring with a minimum level of service. Accounting for pensions and
other post-retirement benefits requires an extensive use of assumptions about
the discount rate, expected return on plan assets, the rate of future
compensation increases received by the employees, mortality, turnover and
medical cost increases.
17
San Jose Water Company, through its Retirement Plan Administrative Committee
(the Committee) managed by the representatives from the unions and management,
establishes investment guidelines which specify that at least 30% of the
investments are in bonds or cash. As of December 31, 2004, the plan assets
consisted of approximately 30% bonds, 2% cash and 68% equities. The committee
requires that equities be diversified by industry groups to balance for capital
appreciation and income. In addition, all investments are publicly traded. San
Jose Water Company uses an expected rate of return on plan assets of 8% in its
actuarial computation. The distribution of assets is not considered highly
volatile and sensitive to changes in market rates and prices. Furthermore,
foreign assets are not included in the investment profile and thus risk related
to foreign exchange fluctuation has been eliminated.
The plan assets are marked to market at the measurement date. The investment
trust assets incurred unrealized market losses in the years prior to 2004.
Unrealized market losses on pension assets are amortized over 14 years for
actuarial expense calculation purposes.
San Jose Water Company utilizes Moody's 'A' and 'Aa' rated bonds in industrial,
utility and financial sectors with outstanding amount of $1,000,000 or more in
determining the discount rate used in calculating the pension and other
postretirement benefit liabilities at the measurement date. For the year ending
December 31, 2004, the composite discount rate used was 6.00%.
Stock-Based Compensation Plans
------------------------------
SJW Corp. has a stockholder-approved long-term incentive plan that allows
granting of nonqualified stock options, performance shares, deferred restricted
stock awards and dividend awards. Under the plan, a total of 900,000 common
shares have been authorized for awards and grants. SJW Corp. has adopted
Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for
Stock-Based Compensation", utilizing the Black-Scholes option-pricing model to
compute the fair value of options at grant date as basis for the stock-based
compensation for financial reporting purposes. The weighted-average assumptions
utilized for 2005 include: expected dividend yield of 2.65%, expected volatility
of 25.3%, risk-free interest rate of 3.54%, expected holding period of five
years.
In addition to option grants, SJW Corp. has granted deferred restricted stock
awards to a key employee of SJW Corp., which were valued at market price at the
date of grant. SJW Corp. is recognizing the fair market value of the deferred
restricted stock awards granted as compensation expense, over the vesting period
of three years as services are rendered.
Additionally, deferred restricted stock awards granted to non-employee board
members from the conversion of cash pension benefits were valued at market price
at the date of grant. SJW Corp. is correspondingly recognizing the fair market
value of the unvested deferred restricted stock granted as compensation expense,
over the vesting period of three years as services are rendered.
Consolidation Policy of Majority-Owned Enterprises
--------------------------------------------------
SJW Corp. consolidates its 75% controlling interest at Crystal Choice Water
Service LLC in its Financial Statement with the 25% minority interest included
18
as "other" in the Consolidated Statements of Income and Comprehensive Income and
in "other non-current liabilities" in the Balance Sheet. Effective January 1,
2004, SJW Corp. adopted FASB Interpretation No. 46R, (FIN46R) "Consolidation of
Variable Interest Entities". As a result of the adoption of FIN46R, SJW Corp.
has identified its investment in 444 West Santa Clara Street, L.P. as a
variable interest entity and that SJW Land Company as the primary beneficiary.
SJW Corp. has consolidated 444 West Santa Clara Street, L.P. in its consolidated
financial statements as of January 1, 2004.
Recognition of Gain/Loss on Nonutility Property
-----------------------------------------------
In compliance with the Uniform Systems of Accounts (USOA) prescribed by the CPUC
and conforming to generally accepted accounting principles for rate-regulated
public utilities, the cost of retired utility plant, including retirement costs
(less salvage), is charged to accumulated depreciation and no gain or loss is
recognized for utility plant used and useful in providing water utility services
to customers.
Nonutility property in San Jose Water Company is property that is neither used
nor useful in providing water utility services to customers and is excluded from
the rate base for rate-setting purposes. San Jose Water Company recognizes
gain/loss on disposition of nonutility property in accordance with CPUC Code
Section 790. Nonutility property in SJW Land Company and Crystal Choice Water
Service LLC consists primarily of land, buildings, parking facilities and water
conditioning equipment. Net gains or losses from the sale of nonutility property
are recorded as a component of other income (expense) in the consolidated
statement of income and comprehensive income.
RECENT ACCOUNTING PRONOUNCEMENTS:
- --------------------------------
In December 2004, the Financial Accounting Standards Board issued a revised
Statement No. 123, Share-Based Payment (Statement 123(R)), which addresses the
accounting for share-based payment transactions in which an enterprise receives
employee services in exchange for (a) equity instruments of the enterprise or
(b) liabilities that are based on the fair value of the enterprise's equity
instruments or that may be settled by the issuance of such equity instruments.
Statement 123(R) requires an entity to recognize the grant-date fair-value of
stock options and other equity-based compensation issued to employees in the
income statement. Statement 123(R) generally requires that an entity account for
those transactions using the fair-value-based method. Statement 123(R) is
effective for SJW Corp. on January 1, 2006. SJW Corp. is utilizing a fair value
option pricing model in calculating its options expense, which is an acceptable
method under Statement 123(R), therefore, the adoption of Statement 123(R) is
not expected to have a material impact on SJW Corp.'s financial position,
results of operations or cash flows.
In December 2004, the Financial Accounting Standards Board issued FASB Statement
No. 153 (Statement 153), Exchanges of Productive Assets: an Amendment of Opinion
No. 29. As part of its short-term international convergence project with the
19
International Accounting Standard Board (IASB), on December 16, 2004, the FASB
issued Statement 153 to address the accounting for non-monetary exchanges of
productive assets. Statement 153 amends APB No. 29, Accounting for Non-monetary
Exchanges, which established a narrow exception for non-monetary exchanges of
similar productive assets from fair value measurement. Statement 153 eliminates
that exception and replaces it with an exception for exchanges that do not have
commercial substance. Under Statement 153, non-monetary exchanges are required
to be accounted for at fair value, recognizing any gains or losses, if the fair
value is determinable within reasonable limits and the transaction has
commercial substance. Statement 153 specifies that a non-monetary exchange has
commercial substance if the future cash flows of the entity are expected to
change significantly as a result of the exchange. An entity should apply the
provisions of Statement 153 prospectively for non-monetary asset exchange
transactions in fiscal periods beginning after June 15, 2005. The adoption of
Statement 153 is not expected to have a material impact on SJW Corp.'s financial
position, results of operations or cash flows.
In March 2005, the Financial Accounting Standards Board issued Interpretation
No. 47 (Interpretation 47), Accounting for Conditional Asset Retirement
Obligations. Interpretation 47 clarifies that the term "conditional asset
retirement obligation" used in FASB Statement No. 143, Accounting for Asset
Retirement Obligations, refers to a legal obligation to perform an asset
retirement activity in which the timing and/or method of settlement are
conditional on a future event that may or may not be within the control of the
entity. This interpretation is effective no later than the end of fiscal years
ending after December 15, 2005. The adoption of Interpretation 47 is not
expected to have a material impact on SJW Corp.'s financial position, results of
operations or cash flows.
In May 2005, the Financial Accounting Standards Board issued Statement No. 154
(Statement 154), Accounting Changes and Error Corrections: a replacement of APB
Opinion No. 20 and FASB Statement No. 3. Under Statement No. 54, if the
cumulative effect of the change in accounting principle can be determined, but
it is impracticable to determine the specific effects of an accounting change on
one or more prior periods presented, the change in accounting principle will
have to be applied to the balances of assets and liabilities as of the beginning
of the earliest period for which retrospective application is practicable, with
a corresponding adjustment made to the opening balance of retained earnings or
other components of equity for that period. If it is impracticable to determine
the cumulative effect of applying a change in accounting principle, the new
accounting principle is to be applied prospectively from the earliest date
practicable. If retrospective application for all prior periods is
impracticable, the method used to report the change and the reason that
retrospective application is impracticable are to be disclosed. The requirements
for Statement 154 are effective for accounting changes made in fiscal years
beginning after December 15, 2005. The adoption of Statement 154 is not expected
to have a material impact on SJW Corp.'s financial position, results of
operations or cash flows.
LIQUIDITY AND CAPITAL RESOURCES:
- -------------------------------
San Jose Water Company's budgeted capital expenditures for 2005, exclusive of
capital expenditures financed by customer contributions and advances, are
20
$33,761,000 with capital expenditures concentrated in water main replacements.
Approximately $23,000,000 will be spent to replace San Jose Water Company's
mains in 2005. Out of the total budgeted capital expenditures of $33,761,000,
$13,619,000 has been spent as of June 30, 2005.
Starting in 1997, San Jose Water Company began a four-phased Infrastructure
Study establishing a systematic approach to replace its utility infrastructure.
Phases I and II of the Infrastructure Study analyzed San Jose Water Company's
pipes and mains. Phases III and IV examined all other utility facilities. The
Infrastructure Study was completed in July 2002 and is being used as a guide for
future capital improvement programs. It will also serve as the master plan for
San Jose Water Company's future improvements.
San Jose Water Company's capital expenditures are incurred in connection with
normal upgrading and expansion of existing facilities and to comply with
environmental regulations. San Jose Water Company expects to incur approximately
$187,000,000 in capital expenditures, which includes replacement of pipes and
mains, and maintaining existing water systems, over the next five years,
exclusive of customer contributions and advances. San Jose Water Company's
actual capital expenditures may vary from its projections due to changes in the
expected demand for services, weather patterns, actions by governmental agencies
and general economic conditions. Total additions to utility plant normally
exceed company-financed additions by several million dollars as a result of new
facilities construction funded with advances from developers and contributions
in aid of construction.
A substantial portion of San Jose Water Company's distribution system was
constructed during the period from 1945 to 1980. Expenditure levels for renewal
and modernization of this part of the system will grow at an increasing rate as
these components reach the end of their useful lives. In most cases, replacement
cost will significantly exceed the original installation cost of the retired
assets due to increases in the costs of goods and services.
As of June 30, 2005, SJW Corp.'s share of capital investment in Crystal Choice
Water Service LLC approximated 75%. SJW Corp. does not expect to make
significant cash contributions to Crystal Choice Water Service LLC in 2005.
Historically, San Jose Water Company's write-offs for uncollectible accounts
represent less than 1% of its total revenue. Management believes it can continue
to collect its accounts receivable balances at its historical collection rate.
SOURCES OF CAPITAL:
- ------------------
San Jose Water Company's ability to finance future construction programs and
sustain dividend payments depends on its ability to attract external financing
and maintain or increase internally generated funds. The level of future
earnings and the related cash flow from operations is dependent, in large part,
upon the timing and outcome of regulatory proceedings.
San Jose Water Company's financing activity is designed to achieve a capital
structure consistent with regulatory guidelines of approximately 50% debt and
21
50% equity. As of June 30, 2005, San Jose Water Company's funded debt and equity
were 47.3% and 52.7%, respectively.
San Jose Water Company's internally generated funds, which include allowances
for depreciation and deferred income taxes, have provided approximately 50% of
the future cash requirements for San Jose Water Company's capital expenditure.
Due to its strong cash position and low financial leverage condition, funding
for its future capital expenditure program will be provided primarily through
long-term debt. San Jose Water Company and its parent, SJW Corp., do not
anticipate the issuance of any common equity to finance future capital
expenditures.
The availability of the cash proceeds from the condemnation gain in the fourth
quarter of 2004 provided additional cash flow to SJW Corp. SJW Corp. and its
subsidiaries are not expected to obtain any long-term financing in 2005. In
accordance with the requirement of the Internal Revenue Code Section 1033, SJW
Corp. will identify replacement property and reinvest the proceeds by November
2006.
San Jose Water Company has outstanding $130,000,000 of unsecured senior notes as
of June 30, 2005. The senior note agreements of San Jose Water Company generally
have terms and conditions that restrict San Jose Water Company from issuing
additional funded debt if (1) the funded debt would exceed 66-2/3% of total
capitalization, and (2) net income available for interest charges for the
trailing 12 calendar month period would be less than 175% of interest charges.
As of June 30, 2005, San Jose Water Company's funded debt was 47.3% of total
capitalization and the net income for the preceding 12 months was 425% of
interest charges.
In 2002, the California Department of Water Resources approved San Jose Water
Company's application for an approximately $2,500,000 Safe Drinking Water State
Revolving Fund (SDWSRF) 20-year loan at an interest rate of 2.39%. The funds in
the above amount were obtained for modifications made to San Jose Water
Company's Saratoga Water Treatment Plant. On June 15, 2005, $1,953,000 was
funded. San Jose Water Company expects to receive funding for the remaining
qualified amount in the third quarter of 2005.
In 2004, the California Department of Water Resources approved San Jose Water
Company's application for a second loan under the SDWSRF program. The loan is
for approximately $1,660,000 over a term of 20-years at an interest rate of
2.60%. These funds will be used for water treatment plant improvements to meet
increasing filtration standards. San Jose Water Company expects to receive the
funding of this loan in 2005 when all documentation has been completed.
In connection with the acquisition of two properties in the states of
Connecticut and Florida in April 2003, SJW Land Company executed mortgages in
the aggregate amount of $9,900,000 in April 2003. The mortgage loans are due in
10 years and amortized over 25 years with a fixed interest rate of 5.96% and are
secured by the two properties in the states of Connecticut and Florida. The loan
agreements generally restrict San Jose Water Company from prepayment in the
first five years and require submission of periodic financial reports as part of
the loan covenants. The properties were leased to a multinational organization
for a term of 20-years.
22
The 444 West Santa Clara Street, L.P., in which SJW Land Company owns a 70%
limited partnership interest, has a mortgage loan in the outstanding amount of
$4,185,000 as of June 30, 2005. The mortgage loan is due in April 2011 and
amortized over 25 years with a fixed interest rate of 7.80%. The mortgage loan
is secured by the partnership's real property and is non-recourse to SJW Land
Company.
SJW Corp. and its subsidiaries have unsecured lines of credit available allowing
aggregate short-term borrowings of up to $30,000,000 at rates that approximate
the bank's prime or reference rate. As of June 30, 2005, SJW Corp. and its
subsidiaries had available unused short-term bank lines of credit of
$30,000,000. The lines of credit expire on July 1, 2006.
RESULTS OF OPERATIONS:
- ---------------------
Overview
--------
SJW Corp.'s consolidated net income for the three months ended June 30, 2005 was
$5,715,000, an increase of $908,000 or 19% from $4,807,000 in the second quarter
of 2004. For the six months ended June 30, 2005, earnings was $8,396,000, an
increase of $1,815,000 or 28% from $6,580,000 for the same period in 2004.
Operating Revenue
-----------------
Operating Revenue by Subsidiary
Three Months Ended Six Months Ended
June 30 June 30
2005 2004 2005 2004
---- ---- ---- ----
(in thousands)
San Jose Water Company $43,717 44,181 $75,893 73,840
SJW Land Company 770 990 1,564 1,927
Crystal Choice Water Service 312 438 649 905
------ ------ ------ ------
$44,799 45,609 $78,106 76,672
====== ====== ====== ======
23
The change in consolidated operating revenue was due to the following factors:
Three Months Ended Six Months Ended
June 30 2005 vs. 2004 June 30 2005 vs. 2004
Increase/(decrease) Increase/(decrease)
------------------ ------------------
Utility: (in thousands)
Consumption changes $ (6,580) (15%) $ (8,111) (11%)
New customers increase 252 - 387 -
Rate increases 5,866 13% 9,777 13%
Parking and rental (221) - (363) -
Crystal Choice Water Service LLC (127) - (256) -
------- ---- ------- ----
$ (810) (2%) $ 1,434 2%
======= ==== ======= ====
Operating Expenses
------------------
Operating Expenses by Subsidiary
Three Months Ended Six Months Ended
June 30 June 30
2005 2004 2005 2004
---- ---- ---- ----
(in thousands)
San Jose Water Company $35,978 37,434 $63,364 63,385
SJW Land Company 450 459 947 977
Crystal Choice Water Service LLC 341 439 771 881
SJW Corp. 194 167 308 334
------ ------ ------ ------
$36,963 38,499 $65,390 65,577
====== ====== ====== ======
The change in operating expenses from the same period in 2004 was due to the
following factors:
24
Three Months Ended Six Months Ended
June 30 2005 vs. 2004 June 30 2005 vs. 2004
Increase/(decrease) Increase/(decrease)
------------------ ------------------
(in thousands)
Water production costs:
Increased surface water supply $ (676) (2%) $ (102) -
Usage and new customers (3,939) (10%) (5,455) (8%)
Pump tax and purchased water price increase 1,364 4% 2,116 4%
Other 91 - 130 -
------- --- ------- ---
Total water production costs (3,160) (8%) (3,311) (4%)
------- --- ------- ---
Nonwater production costs:
Administrative and general 554 2% 793 1%
Other operating expense 129 - 71 -
Maintenance 163 - 94 -
Property taxes and other nonincome taxes 26 - 108 -
Depreciation and amortization 156 - 786 1%
------- --- ------- ---
Total nonwater production costs 1,028 2% 1,852 2%
------- --- ------- ---
Income taxes 596 2% 1,272 2%
------- --- ------- ---
Total operating expenses $ (1,536) (4%) $ (187) -
======= === ======= ===
San Jose Water Company's water supply consists of groundwater from wells,
surface water from watershed run-off and diversion, and imported water purchased
from the SCVWD. Surface water is the least expensive source of water and its
availability will significantly impact the water production costs of San Jose
Water Company.
Water production for the three months and six months ended June 30, 2005
decreased 2,592 million gallons and 3,581 million gallons from the same period
in 2004. During these periods, more surface water was used when compared to the
same period in 2004.
The change in San Jose Water Company's source of supply mix was as follows:
Three Months Ended Six Months Ended
June 30 2005 vs. 2004 June 30 2005 vs. 2004
Increase/(decrease) Increase/(decrease)
------------------ ------------------
(in million gallons)
Purchased water (450) (3%) (444) (2%)
Surface water 445 3% 67 -
Ground water (2,515) (17%) (3,125) (13%)
Reclaimed water (72) - (79) -
------ ------ ------ -----
(2,592) (17) (3,581) (15%)
====== ====== ====== =====
25
The changes in the source of supply mix were consistent with the changes in the
water production costs.
Nonwater production costs include administrative costs which contains costs for
employee benefits and salaries and wages. In 2004, SJW Corp. has incurred
approximately $1,200,000 in direct and indirect fees and costs in compliance
with Sarbanes Oxley Section 404 internal control requirements. Such costs are
primarily included in general and administrative expenses and are expected to be
recurring in 2005. In addition, depreciation expense increased $156,000 on added
utility plant.
Income tax expense for the second quarter and six months ended June 30, 2005
increased by $596,000 and $1,272,000, respectively, over the same periods in
2004 due to higher earnings in 2005. The effective income tax rates for the
periods ended June 30, 2005 and 2004 approximated 41%.
The changes in comprehensive income for the three and six months ended June 30,
2005 and 2004 were due to the changes in market value of the investment in
California Water Service Group.
FACTORS THAT MAY AFFECT FUTURE RESULTS:
- --------------------------------------
Water Supply and Energy Resources
---------------------------------
San Jose Water Company's water supply is obtained from wells, groundwater,
watershed run-off and diversion, surface water and by import water purchases
from the SCVWD under the terms of a master contract with SCVWD expiring in 2051.
Groundwater level in 2005 remains comparable to the 30-year normal level.
On June 27, 2005, the SCVWD's 10 reservoirs were 84.9% full with 143,440
acre-feet of water in storage. The rainfall in the first six months of 2005 was
approximately 149% of historical season average.
Rainfall at San Jose Water Company's Lake Elsman was measured at 59.84 inches
for the season of July 1, 2004 through June 30, 2005, which is 148.5% of the
five-year average. Local surface water is a less costly source of water and its
availability significantly impacts San Jose Water Company's results of
operations.
Based on information provided by SCVWD in its Water Utility Enterprise Report,
San Jose Water Company believes that its various sources of water supply are
sufficient to meet customer demand for the remainder of the year.
26
To the extent that San Jose Water Company has to pump water during peak periods
to satisfy customer demand when imported water is not available, higher energy
costs will be incurred. Currently, the CPUC has no established procedure for
water utilities to recover the additional costs incurred due to such
unanticipated changes in water supply mix. There can be no assurance that such
costs will be recovered in full or in part.
Security Issues
---------------
San Jose Water Company has taken steps to increase security at its water utility
facilities and continues to implement a comprehensive security upgrade program
for production and storage facilities, booster pump stations and company
buildings. San Jose Water Company also coordinates security and planning
information with eight other large regional water utilities within the San
Francisco Bay area, as well as various governmental and law enforcement
agencies.
San Jose Water Company conducted a system-wide vulnerability assessment in
compliance with federal regulations Public Law 107-188 imposed on all water
utilities. The assessment report was filed with the government on March 31,
2003. The vulnerability assessment identified system security enhancements that
impact water quality, health, safety and continuity of service totaling
approximately $2,300,000, exclusive of the years 2001 to 2002 expenditures.
These improvements have been incorporated into the capital budgets for 2005. San
Jose Water Company is continuing implementation of security related to capital
improvements in 2005 and $765,000 is expected to be incurred in 2005. Once
completed, San Jose Water Company believes it will have substantially reduced
its vulnerability to hostile aggression. San Jose Water Company has and will
continue to bear costs associated with additional security precautions to
protect its water utility business and other operations. San Jose Water Company
actively participated in the security vulnerability assessment training offered
by the American Water Works Association Research Foundation and the
Environmental Protection Agency.
Regulatory Affairs
------------------
Almost all of the operating revenue of San Jose Water Company results from the
sale of water at rates authorized by the California Public Utilities Commission
(CPUC). The CPUC sets rates that are intended to provide revenue sufficient to
recover operating expenses and produce a reasonable return on common equity. The
timing of the rate decision could have an impact on the result of operations.
On August 19, 2004, the CPUC issued the final decision (D.04-08-054) in San Jose
Water Company's General Rate Case Application. The decision granted San Jose
Water Company authority to increase rates by $11,773,000 or 8% in 2004,
$4,283,000 or 2.69% in 2005 and $4,245,000 or 2.59% in 2006. The authorized
return on common equity in 2004, 2005 and 2006 is 9.9%, which is within the
range of recent rates of return authorized by the CPUC for water utilities. San
Jose Water Company was also authorized to recover the current balance of $71,000
in its Water Contamination Memorandum Account, as well as recovery of an
under-collection of $382,000 accrued in its pre-November 29, 2001 Balancing
Account. The new authorized rates became effective August 24, 2004.
27
Pursuant to Public Utilities Code Section 455.2, San Jose Water Company is
allowed to recover, via a 12-month Quantity Rate surcharge authorized by the
CPUC effective January 1, 2005, $4,968,000 of under-collected revenue due to
regulatory delay in implementation of new rates in 2004. Additionally, the
scheduled rate increase of $4,283,000 described above was also authorized by the
CPUC effective January 1, 2005.
Pursuant to the CPUC's general rate case decision (D.04-08-054), on January 25,
2005, San Jose Water Company filed an advice letter requesting authorization to
increase rates by $785,000 via a rate base offset for plant additions completed
at San Jose Water Company's Saratoga Water Treatment Plant and their Montevina
Water Treatment Plant. This rate increase became effective May 13, 2005.
Balancing Account Recovery Procedures
-------------------------------------
On March 16, 2004, the CPUC affirmed its June 19, 2003 decision (D.03-06-072),
in which the CPUC revised the existing procedures for recovery of
under-collections and over-collections in balancing accounts existing on or
after November 29, 2001 as follows: (1) If a utility is within its rate case
cycle and is not over-earning, the utility shall recover its balancing account
subject to reasonableness review; and (2) If a utility is either within or
outside of its rate case cycle and is over-earning, the over-earnings will be
used as a measure by which recovery of offset expenses in the balancing account
will be reduced. For example, if the amount of the over-earning is equal to or
exceeds the amount of offset expenses to be recovered in the balancing account,
those expenses shall be reduced to zero. Any offset expenses accumulated in the
balancing account would be amortized below the line and any offset revenues
collected in the balancing account would be returned to ratepayers. Utilities
shall use the recorded rate of return means test to evaluate earnings for all
years. The expenses used in this earnings test shall be adjusted for any
"extraordinary" expenses and revenue shall be adjusted for any "extraordinary"
revenue. The earnings test will use recorded rate base. Utilities must file for
recovery of the balancing account balances before March 31 of every year.
On August 19, 2004, the CPUC issued the final decision (D.04-08-054) granting
recovery of the under-collection of the pre-November 29, 2001 Balancing Account
by way of a 12-month Quantity Rate Surcharge. The surcharge became effective
August 24, 2004.
On September 9, 2003 and March 30, 2004, San Jose Water Company filed two
compliance filings requesting CPUC review of the balancing account
over-collected balance of approximately $382,000, accrued between November 29,
2001 and December 31, 2003. On June 15, 2004, the CPUC notified San Jose Water
Company that the over-collected balances had been verified and should be carried
forward to the next review period. As of June 30, 2005 and December 31, 2004,
the approved balance is an over-collection of $395,000 and $389,000,
respectively, including interest on approved amounts.
On March 30, 2005, San Jose Water Company filed a compliance filing requesting
the CPUC review of the balancing account under-collected balance of
approximately $999,000, accrued between January 1, 2004 and December 31, 2004.
28
The CPUC has not completed its review of the balance and the final amount that
San Jose Water Company is allowed to carry over could change.
There have not been any changes in purchased water and pump taxes since August
19, 2004 when the CPUC issued the final decision (D.04-08-054) in San Jose Water
Company's General Rate Case Application. There have been changes in the
purchased power costs in 2004 that affects the balancing account in 2005. San
Jose Water Company is currently computing the over/under-collected balance in
2005. San Jose Water Company does not anticipate the changes in the balancing
account to be material.
The following is a summary of the balancing account:
June 30 2005 December 31 2004
------------- -----------------
Over-collected balancing account
11/29/01 to 12/31/03 $ (382) $ (382)
Under-collected balancing account
1/1/2004 to 12/31/2004
(currently under review by CPUC) 999 999
------ ---
Subtotal 617 617
Interest on approved amounts (13) (7)
------ ------
Net under-collected balancing account $ 604 $ 610
====== ======
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
SJW Corp. is subject to market risks in the normal course of business, including
changes in interest rates and equity prices. The exposure to changes in interest
rates is a result of financings through the issuance of fixed-rate, long-term
debt and short-term funds obtained through the variable rate line of credit. SJW
Corp. also owns 1,099,952 shares of California Water Service Group and is
exposed to the risk of changes in equity prices.
SJW Corp. has no derivative financial instruments, financial instruments with
significant off-balance sheet risks, or financial instruments with
concentrations of credit risk. There is no material sensitivity to change in
market rates and prices.
ITEM 4. CONTROLS AND PROCEDURES
(a) SJW Corp.'s management, with the participation of the SJW Corp.'s
Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness
of SJW Corp.'s disclosure controls and procedures as of the end of the period
covered by this report. Based on that evaluation, the Chief Executive Officer
and Chief Financial Officer concluded that SJW Corp.'s disclosure controls and
29
procedures (as defined in Rule 13(a)-15(e) under the Securities Exchange Act of
1934) as of the end of the period covered by this report have been designed and
are functioning effectively to provide reasonable assurance that the information
required to be disclosed by SJW Corp. in reports filed under the Securities
Exchange Act of 1934 is recorded, processed, summarized and reported within the
time periods specified in the Securities and Exchange Commission's rules and
forms. SJW Corp. believes that a control system, no matter how well designed and
operated, cannot provide absolute assurance that the objectives of the control
system are met, and no evaluation of controls can provide absolute assurance
that all control issues and instances of fraud, if any, within a company have
been detected.
(b) There has been no change in internal control over financial
reporting during the second fiscal quarter of 2005 that has materially affected,
or is reasonably likely to materially affect the internal controls over
financial reporting of SJW Corp.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
SJW Corp. is subject to ordinary routine litigation incidental to its business.
There are no pending legal proceedings to which SJW Corp. or any of its
subsidiaries is a party, or to which any of its properties is the subject, that
are expected to have a material effect on SJW Corp.'s financial position,
results of operations or cash flows.
ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER
PURCHASES OF EQUITY SECURITIES
On April 29, 2004, SJW Corp. announced that its board of directors authorized a
stock repurchase program to repurchase up to 100,000 shares of its outstanding
common stock over the 36-months period following its announcement. Below is the
transaction carried out in 2005.
Maximum
Total Number Number of
of Shares Shares That
Total Number Purchased as May Yet
of Shares Average Price Part of Publicly Be Purchased
Period Purchased Paid per Share Announced Plan Under the Plan
------ --------- -------------- -------------- --------------
May 1, 2005-
May 31, 2005 4,736 $39.05 4,736 90,969
Total 4,736 $39.05 4,736 90,969
===== ====== ===== ======
30
There were no shares repurchased during the months of April and June 2005. In
addition, there were no shares purchased during the first three months of 2005.
As of June 30, 2005, the total shares repurchased since inception of the plan
were 9,031.
ITEM 3. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the 2005 Annual Meeting of Shareholders of the SJW Corp. held on April 28,
2005, an Employee Stock Purchase Plan, which was adopted by the Board of
Directors of SJW Corp. on January 27, 2005, was approved, eight individuals
listed below were re-elected to the Board of Directors and the appointment of
KPMG LLP as independent auditors for 2005 was ratified by the following votes:
Proposal 1: Election of Directors.
Name of Director In Favor Withheld
- ---------------- -------- --------
Mark L. Cali 8,590,955 68,328
J. Philip DiNapoli 8,593,823 65,460
Drew Gibson 8,596,823 62,460
Douglas King 8,595,196 64,087
George E. Moss 8,585,863 73,420
W. Richard Roth 8,595,191 64,092
Charles J. Toeniskoetter 8,556,912 102,371
Frederick R. Ulrich, Jr. 8,217,665 441,618
Proposal 2: Employee stock purchase plan:
In Favor Against Abstain Broker Non-votes
- -------- ------- ------- ----------------
6,811,307 120,193 238,618 1,489,165
Proposal 3: Ratification of appointment of independent auditors for 2005:
In Favor Against Abstain Broker Non-votes
- -------- ------- ------- ----------------
8,579,957 47,851 31,474 1
ITEM 4. OTHER INFORMATION
On July 28, 2005, the Board of Directors of SJW Corp. declared the regular
quarterly dividend of $0.2675 per common share. The dividend will be paid
September 1, 2005, to shareholders of record as of the close of business on
August 8, 2005.
31
ITEM 5. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits required to be filed by Item 601 of Regulation S-K.
See Exhibit Index located immediately following the Certification
of this document, which is incorporated herein by reference as
required to be filed by Item 601 of Regulation S-K for the quarter
ended on June 30, 2005.
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.
SJW CORP.
DATE: AUGUST 5, 2005 BY /S/ ANGELA YIP
-----------------
ANGELA YIP
CHIEF FINANCIAL OFFICER AND TREASURER
32
EXHIBIT INDEX
-------------
Exhibit No. Description of Document
- ---------- -----------------------
31.1 Certification Pursuant to Rule 13a-14(a)/15d-14(a) by President
and Chief Executive Officer. (1)
31.2 Certification Pursuant to Rule 13a-14(a)/15d-14(a) by Chief
Financial Officer and Treasurer. (1)
32.1 Certification Pursuant to 18 U.S.C. Section 1350 by President and
Chief Executive Officer, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002. (1)
32.2 Certification Pursuant to 18 U.S.C. Section 1350 by Chief
Financial Officer and Treasurer, as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002. (1)
(1) Filed currently herewith.
33