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 September 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 (IRS 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
--- ---
APPLICABLE ONLY TO CORPORATE ISSUERS:
Common shares outstanding as of November 1, 2005 are 9,135,441.
1
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 NINE MONTHS
ENDED SEPTEMBER 30 ENDED SEPTEMBER 30
2005 2004 2005 2004
-------- ------- --------- ---------
OPERATING REVENUE $ 58,469 52,297 $ 136,575 128,969
OPERATING EXPENSES
Operation:
Purchased water 15,512 14,396 34,431 32,572
Power 1,872 2,108 3,392 4,519
Pump taxes 7,285 8,266 13,145 17,289
Administrative and general 5,311 4,462 14,899 13,256
Other 3,701 3,108 10,308 9,644
Maintenance 2,252 2,216 6,633 6,503
Property taxes and other nonincome taxes 1,476 1,352 4,238 4,006
Depreciation and amortization 5,042 4,689 14,928 13,789
Income taxes 5,755 3,960 11,622 8,556
-------- ------- --------- ---------
Total operating expenses 48,206 44,557 113,596 110,134
-------- ------- --------- ---------
OPERATING INCOME 10,263 7,740 22,979 18,835
Interest on long-term debt (2,382) (2,372) (7,155) (7,136)
Dividend income 313 311 940 932
Sale of nonutility property, net of taxes of $761 1,095 - 1,095 -
Other, net (62) (149) (236) (520)
-------- ------- --------- ---------
NET INCOME $ 9,227 5,530 $ 17,623 12,111
======== ======= ========= =========
Other comprehensive income:
Unrealized income on investment $ 4,026 2,002 $ 3,905 2,166
Income taxes (1,651) (821) (1,601) (888)
-------- ------- --------- ---------
Other comprehensive income, net 2,375 1,181 2,304 1,278
-------- ------- --------- ---------
COMPREHENSIVE INCOME $ 11,602 6,711 $ 19,927 13,389
======== ======= ========= =========
EARNINGS PER SHARE
Basic $ 1.01 0.61 $ 1.93 1.33
Diluted $ 1.00 0.60 $ 1.91 1.32
======== ======= ========= =========
COMPREHENSIVE INCOME PER SHARE
Basic $ 1.27 0.74 $ 2.18 1.47
Diluted $ 1.25 0.73 $ 2.16 1.46
======== ======= ========= =========
DIVIDENDS PER SHARE $ 0.26 0.25 $ 0.79 0.76
======== ======= ========= =========
WEIGHTED AVERAGE SHARES OUTSTANDING
Basic 9,135,441 9,137,433 9,135,710 9,136,986
Diluted 9,250,491 9,198,718 9,234,724 9,193,627
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
2
SJW CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN THOUSANDS)
SEPTEMBER 30 DECEMBER 31
2005 2004
---------- ---------
ASSETS
UTILITY PLANT:
Land $ 1,735 1,735
Depreciable plant and equipment 631,947 605,420
Construction in progress 10,722 4,595
Intangible assets 7,840 7,840
----------- ---------
Total utility plant 652,244 619,590
Less accumulated depreciation and amortization 204,484 189,221
----------- ---------
Net utility plant 447,760 430,369
----------- ---------
NONUTILITY PROPERTY 33,526 35,154
Less accumulated depreciation 3,590 3,167
----------- ---------
Net nonutility property 29,936 31,987
----------- ---------
CURRENT ASSETS:
Cash and equivalents 11,152 10,899
Accounts receivable:
Customers, net of allowances for uncollectible accounts 11,801 8,044
Other 4,907 611
Unbilled utility revenue 15,249 6,605
Long-lived assets held-for-sale 282 -
Materials and supplies 635 559
Prepaid expenses 2,388 1,652
----------- ---------
Total current assets 46,414 28,370
----------- ---------
OTHER ASSETS:
Investment in California Water Service Group 45,318 41,413
Unamortized debt issuance and reacquisition costs 3,174 3,300
Regulatory assets, net 7,227 8,064
Intangible pension asset 4,357 4,357
Other 3,967 4,292
----------- ---------
Total other assets 64,043 61,426
----------- ---------
$ 588,153 552,152
=========== =========
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
3
SJW CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN THOUSANDS)
SEPTEMBER 30 DECEMBER 31
2005 2004
--------- -------
CAPITALIZATION AND LIABILITIES
CAPITALIZATION:
Common stock $ 9,521 9,516
Additional paid-in capital 15,094 14,306
Retained earnings 158,816 148,525
Accumulated other comprehensive income 14,648 12,344
--------- -------
Total shareholders' equity 198,079 184,691
--------- -------
Long-term debt, less current portion 145,557 143,604
--------- -------
Total capitalization 343,636 328,295
--------- -------
CURRENT LIABILITIES:
Current portion of long-term debt 72 275
Accrued pump taxes and purchased water 7,017 3,856
Purchased power 1,472 848
Accounts payable 6,018 870
Accrued interest 2,203 3,619
Accrued taxes 4,658 890
Accrued payroll 1,323 1,066
Work order deposit 472 773
Other current liabilities 3,535 3,154
--------- -------
Total current liabilities 26,770 15,351
--------- -------
DEFERRED INCOME TAXES 50,810 49,507
UNAMORTIZED INVESTMENT TAX CREDITS 1,869 1,915
ADVANCES FOR CONSTRUCTION 69,578 65,251
CONTRIBUTIONS IN AID OF CONSTRUCTION 81,500 78,655
DEFERRED REVENUE 1,286 1,282
POSTRETIREMENT BENEFIT PLANS 9,936 9,359
OTHER NONCURRENT LIABILITIES 2,768 2,537
--------- -------
$ 588,153 552,152
========= =======
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
4
SJW CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
NINE MONTHS ENDED
SEPTEMBER 30
2005 2004
---------- --------
OPERATING ACTIVITIES:
Net income $ 17,623 12,111
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization 14,928 13,789
Deferred income taxes 497 4,508
Stock-based compensation 963 819
Gain on sale of nonutility property, net of taxes (1,095) -
Changes in operating assets and liabilities:
Accounts receivable and accrued unbilled utility revenue (16,697) (9,053)
Accounts payable, purchased power and other current liabilities 6,152 6,426
Accrued pump taxes and purchased water 3,161 4,065
Accrued taxes 3,767 4,587
Accrued interest (1,416) (1,415)
Accrued payroll 257 999
Work order deposits (301) (672)
Prepaid expenses and materials and supplies (812) (570)
Deferred revenue 4 (52)
Other noncurrent assets and noncurrent liabilities 164 (1,357)
Other changes, net 777 (24)
---------- --------
NET CASH PROVIDED BY OPERATING ACTIVITIES 27,972 34,161
INVESTING ACTIVITIES:
Additions to utility plant (33,845) (33,175)
Additions to nonutility property (322) (280)
Cost to retire utility plant, net of salvage (89) (278)
Proceeds from sale of nonutility property 3,414 -
---------- --------
NET CASH USED IN INVESTING ACTIVITIES (30,842) (33,733)
FINANCING ACTIVITIES:
Long-term borrowings 1,953 -
Repayments of long-term borrowings (204) (186)
Stock buyback (185) (149)
Dividends paid (7,332) (6,990)
Exercise of stock options 16 12
Receipts of advances and contributions in aid of construction 10,364 4,645
Refunds of advances for construction (1,489) (1,549)
---------- --------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 3,123 (4,217)
NET CHANGE IN CASH AND EQUIVALENTS 253 (3,789)
---------- --------
CASH AND EQUIVALENTS, BEGINNING OF PERIOD 10,899 10,278
CASH AND EQUIVALENTS, END OF PERIOD $ 11,152 6,489
======== =========
Cash paid during the period for:
Interest $ 9,284 9,125
Income taxes 9,551 1,550
See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements.
5
SJW CORP. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 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 issuable 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.
For the three months ended September 30, 2005 and 2004, the basic weighted
average number of common shares was 9,135,441 and 9,137,433, respectively. For
the nine months ended September 30, 2005 and 2004, the basic weighted average
number of common shares was 9,135,710 and 9,136,986, respectively. For the three
months ended September 30, 2005 and 2004, the diluted weighted average number of
common shares outstanding was 9,250,491 and 9,198,718, respectively. For the
nine months ended September 30, 2005 and 2004, the diluted weighted average
number of common shares outstanding was 9,234,724 and 9,193,627, respectively.
For the three and nine months ended September 30, 2005, 7,000 option share
equivalents were excluded from the diluted calculation because they were
anti-dilutive.
6
Note 2. Long-Term Incentive Plan
- ---------------------------------
Common Shares
-------------
SJW Corp. has reserved 900,000 common shares for issuance under its Incentive
Plan (Defined in Note 1). As of September 30, 2005, 9,031 shares have been
issued pursuant to the Incentive Plan, and 186,191 shares are issuable upon the
exercise of outstanding options and deferred restricted stock. The remaining
shares available for issuance under the Incentive Plan are 704,778. The total
compensation cost charged to income under the Incentive Plan for the three and
nine months ended September 30, 2005 was $313,000 and $930,000, inclusive of
dividend equivalent rights and for the three and nine months ended September 30,
2004 was $290,000 and $871,000, inclusive of dividend equivalent rights,
respectively. The total benefit, including non-employee directors' converted
post-retirement benefits, recorded in shareholders' equity under the Incentive
Plan for the three and nine months ended September 30, 2005, was $263,000, and
$963,000 and for the three and nine months ended September 30, 2004 was $250,000
and $819,000, 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 the
basis for the stock-based compensation for financial reporting purposes. The
weighted average assumptions utilized include:
2005 2004 2003
---- ---- ----
Expected dividend yield 2.6% 3.3% 3.4%
Expected volatility 24.3% 23.6% 27.0%
Risk-free interest rate 3.67% 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 2005, 21,742 and
7,000 options were issued at exercise prices of $35.26 and $55.38, respectively,
in January and July to employees. The weighted average exercise price was $40.16
and the weighted-average grant-date fair value of the options was $8.17. For the
nine months ended September 30, 2005 and 2004, 796 and 266 common shares were
issued upon exercise of options, respectively. No exercise of options occurred
in the three month period ending September 30, 2005. Shares subject to
outstanding options under the Incentive Plan were 82,951 and 54,739 as of
September 30, 2005 and 2004, respectively.
SJW Corp. has recognized stock compensation expense for the stock options
granted under the Incentive Plan of $54,000 and $152,000, respectively, for the
three and nine months ended September 30, 2005, and $32,000 and $97,000,
respectively, for the three and nine months ended September 30, 2004.
7
Deferred Restricted Stock Plans
-------------------------------
As of September 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
$129,000 and $386,000, respectively, for the three and nine months ended
September 30, 2005, and $128,000 and $384,000, respectively, for the three and
nine months ended September 30, 2004.
As of September 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
September 30, 2005 and 2004, 4,206 and 4,029 shares, respectively, 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 $101,000
and $303,000, respectively, for the three and nine months ended September 30,
2005 and $102,000 and $306,000, respectively, for the three and nine months
ended September 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 September 30, 2005 and 2004, SJW Corp. granted
deferred restricted stock awards for 7,888 and 4,920 shares in lieu of cash
retainer fees, respectively. SJW Corp. has recognized stock compensation expense
for the three and nine months ended September 30, 2005, of $29,000 and $87,000
and for the three and nine months ended September 30, 2004, of $28,000 and
$85,000, 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 September 30, 2005 and 2004, 6,393 and
1,908 dividend equivalent rights were converted to deferred restricted stock
awards, respectively, and $147,000 and $121,000 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.
8
Note 3. Regulated and 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, and the sale and rental of water conditioning
and purification equipment of Crystal Choice Water Service, LLC (CCWS). The
following tables represent the distribution of the regulated and nonregulated
business activities for the three and nine months ended September 30, 2005 and
2004:
Three Months Ended Three Months Ended
September 30 2005 September 30 2004
----------------- -----------------
(in thousands)
Non Non
Regulated Regulated Total Regulated Regulated Total
--------- --------- -------- --------- --------- --------
Revenue $ 56,038 $ 2,431 $ 58,469 $ 49,884 $ 2,413 $ 52,297
Expenses 46,133 2,073 48,206 42,537 2,020 44,557
--------- --------- -------- --------- --------- --------
Operating Income $ 9,905 $ 358 $ 10,263 $ 7,347 $ 393 $ 7,740
========= ========= ======== ========= ========= ========
Nine Months Ended Nine Months Ended
September 30 2005 September 30 2004
----------------- -----------------
(in thousands)
Non Non
Regulated Regulated Total Regulated Regulated Total
--------- --------- -------- --------- --------- --------
Revenue $ 130,310 $ 6,265 $136,575 $ 121,998 $ 6,971 $128,969
Expenses 108,296 5,300 113,596 104,573 5,561 110,134
--------- --------- -------- --------- --------- --------
Operating Income $ 22,014 $ 965 $ 22,979 $ 17,425 $ 1,410 $ 18,835
========= ========= ======== ========= ========= ========
Note 4. Nonutility Property
- ----------------------------
The major components of net nonutility property as of September 30, 2005 and
December 31, 2004 are as follows:
9
September 30 2005 December 31 2004
----------------- ----------------
(in thousands)
Land $ 7,810 $ 8,139
Buildings and improvements 25,485 26,784
Intangibles 231 231
------- -------
Sub-total 33,526 35,154
Less: accumulated depreciation and amortization 3,590 3,167
------- -------
Total $29,936 $31,987
======= =======
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 nine months ended
September 30, 2005 and 2004 are as follows:
Three Months Ended Nine Months Ended
September 30 September 30
2005 2004 2005 2004
---- ---- ---- ----
(in thousands)
Service cost $ 513 438 $1,540 1,314
Interest cost 889 762 2,665 2,286
Other cost 341 238 1,022 714
Expected return on Assets (706) (639) (2,117) (1,917)
-------- ----- ------- --------
$ 1,037 799 $3,110 2,397
======== ===== ======= ========
As of September 30, 2005, SJW Corp. has contributed $1,900,000 to the pension
plan and has not made a contribution to its other post-retirement plan. SJW
Corp. expects to contribute an additional $1,000,000 to the pension plan and
$343,000 to its other post-retirement plan in the fourth quarter of 2005.
Note 6. Segment Reporting
- --------------------------
SJW Corp. is a holding company with four 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 addition, in the third quarter of 2005, SJW Corp. formed a Texas corporation,
SJWTX Water, Inc. (SJWTX Water). SJWTX Water has entered into an agreement to
10
purchase Canyon Lake Water Supply Corporation, as discussed in note 10. 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 segment 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.
THREE MONTHS ENDED SEPTEMBER 30 2005
(in thousands)
SJW Land All SJW
SJWC Company Other* Corp.
-----------------------------------------------------------
Operating revenue $ 57,387 $ 751 $ 331 $ 58,469
Operating expense 47,202 416 588 48,206
Net income 9,074 122 31 9,227
Depreciation and amortization 4,865 157 20 5,042
Interest expense 2,382 - - 2,382
Income tax expense 5,796 77 (118) 5,755
Assets $500,869 $39,247 $ 48,037 $588,153
THREE MONTHS ENDED SEPTEMBER 30 2004
(in thousands)
SJW Land All SJW
SJWC Company Other* Corp.
-----------------------------------------------------------
Operating revenue $ 51,086 $ 786 $ 425 $ 52,297
Operating expense 43,504 435 618 44,557
Net income 5,335 99 96 5,530
Depreciation and amortization 4,513 156 20 4,689
Interest expense 2,372 - - 2,372
Income tax expense 3,858 90 12 3,960
Assets $475,147 $32,785 $ 34,964 $542,896
11
NINE MONTHS ENDED SEPTEMBER 30 2005
(in thousands)
SJW Land All SJW
SJWC Company Other* Corp.
-----------------------------------------------------------
Operating revenue $133,280 $ 2,315 $ 980 $136,575
Operating expense 110,566 1,363 1,667 113,596
Net income 17,048 399 176 17,623
Depreciation and amortization 14,400 469 59 14,928
Interest expense 7,155 - - 7,155
Income tax expense 11,568 343 (289) 11,622
Assets $500,869 $39,247 $48,037 $588,153
NINE MONTHS ENDED SEPTEMBER 30 2004
(in thousands)
SJW Land All SJW
SJWC Company Other* Corp.
-----------------------------------------------------------
Operating revenue $124,926 $ 2,712 $ 1,331 $128,969
Operating expense 106,889 1,412 1,833 110,134
Net income 11,212 530 369 12,111
Depreciation and amortization 13,271 459 59 13,789
Interest expense 7,136 - 7,136
Income tax expense 8,234 433 (111) 8,556
Assets $475,147 $32,785 $34,964 $542,896
*The "All Other" category includes CCWS, and without regard to its subsidiaries,
SJW Corp. The assets of SJW Corp. include the investment in California Water
Service Group. 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. No shares were repurchased in the third quarter of
2005. All repurchased shares have been cancelled and are considered authorized
and unissued.
12
Note 8. Long-term Liabilities
- ------------------------------
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. Sale of Nonutility Property
- ------------------------------------
On September 30, 2005, SJW Land Company sold 2.6 acres of property located at
Reservoir Road, Los Gatos, California for $4,200,000. SJW Corp. recognized a
gain on the sale of nonutility property of $1,095,000, net of tax of $761,000.
Note 10. Subsequent Event
- -------------------------
On October 4, 2005, SJWTX Water, Inc. (SJWTX Water), a newly formed Texas
corporation and wholly owned subsidiary of SJW Corp., entered into an agreement
to purchase substantially all of the assets of Canyon Lake Water Supply
Corporation (CLWSC), a Texas nonprofit water supply corporation. CLWSC is a
member-owned nonprofit water utility headquartered in Canyon Lake, Texas. CLWSC
serves a population of approximately 20,000 with more than 6,700 connections in
western Comal County and southern Blanco County. The purchase price of CLWSC
consists of $3.2 million in cash payable to CLWSC at closing, SJWTX Water's
assumption, retirement or recapitalization of all of CLWSC's outstanding debt
and bond obligations of approximately $20 million and SJWTX Water's payment of
certain CLWSC transaction expenses. The acquisition will be subject to the
satisfaction of various conditions set forth in the agreement, including the
approval by the members of CLWSC and the Texas Commission on Environmental
Quality and other approvals required under the parties' governing documents and
applicable laws and regulations. Members of CLWSC will vote on the purchase on
November 5, 2005. If approved, SJWTX Water and CLWSC will file applications with
the regulatory agencies for governmental approval and would expect resolution of
such filings in the fall of 2006.
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", "intends", "plans", "may", "should", "will" and
13
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 four 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.
Crystal Choice Water Service LLC, a subsidiary 75% owned by SJW Corp., engages
in the sale and rental of water conditioning and purification equipment.
In the third quarter of 2005, SJW Corp. formed a Texas corporation, SJWTX Water,
Inc. (SJWTX Water). SJWTX Water has entered into an agreement to purchase Canyon
Lake Water Supply Corporation, as discussed in note 10.
14
SJW Corp. also owns 1,099,952 shares of California Water Service Group, which
represents approximately 6% of its outstanding shares as of September 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 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
--------------------------------
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.
San Jose Water Company also seeks appropriate nonregulated business
opportunities that complement 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.
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 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.
15
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:
* regulatory environment;
* synergy potential;
* general economic conditions;
* additional growth opportunities within the region;
* water quality and environmental issues; and
* 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 the
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
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:
16
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 decreased by the amount of balancing account over-collection, as the case may
be, or increased by the amount of balancing account under-collection, less
applicable taxes.
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 September 30, 2005 and December 31, 2004, accrued unbilled
revenue was $15,249,000 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
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
17
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 September 30, 2005 and December 31, 2004. The net regulatory
assets recorded by San Jose Water Company as of September 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.
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.
18
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 2.6%, expected volatility
of 24.3%, risk-free interest rate of 3.67%, 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 of Crystal Choice Water
Service LLC in its Financial Statement with the 25% minority interest included
as "other" in the Consolidated Statements of Income and Comprehensive Income and
in "other noncurrent liabilities" on 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 SJW Land Company as the primary beneficiary. SJW Corp.
consolidates its 70% limited partnership interest in 444 West Santa Clara
Street, L.P. with the 30% minority interest included as "other" in the
Consolidated Statements of Income and Comprehensive Income and in "other
noncurrent liabilities" on the Balance Sheet.
19
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
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
20
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. 154, 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
$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,
$21,853,000 has been spent as of September 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.
21
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. San Jose Water Company expects
that 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 September 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
50% equity. As of September 30, 2005, San Jose Water Company's funded debt and
equity were 46.2% and 53.8%, respectively.
Historically, San Jose Water Company's internally generated funds, which include
allowances for depreciation and deferred income taxes, have provided
approximately 50% of the cash requirements for San Jose Water Company's capital
expenditure. Due to its strong cash position and low financial leverage
22
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 currently anticipate the issuance of any common equity to finance
future capital expenditures.
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 September 30, 2005, San Jose Water Company's funded debt was 46.2% of
total capitalization and the net income for the preceding 12 months was 474% 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 fourth 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 have an
original maturity of 10 years and are being 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 SJW Land 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.
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 September 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.
In connection with the nonutility property condemnation in the fourth quarter of
2004 and the nonutility property sale in the third quarter of 2005, SJW Land
23
Company intends to identify replacement property and reinvest the proceeds in
order to qualify the transactions under Internal Revenue Code sections 1033 and
1031, by November 2006 and December 2005, respectively.
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 September 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 September 30,
2005 was $9,227,000, an increase of $3,697,000 or 67% from $5,530,000 for the
three months ending September 30, 2004. For the nine months ended September 30,
2005, earnings was $17,623,000, an increase of $5,512,000 or 46% from
$12,111,000 for the same period in 2004. On September 30, 2005, SJW Land Company
sold nonutility property for $4,200,000. SJW Corp. recognized a gain on the sale
of nonutility property of $1,095,000, net of tax of $761,000.
Operating Revenue
-----------------
Operating Revenue by Subsidiary
Three Months Ended Nine Months Ended
September 30, September 30,
2005 2004 2005 2004
---- ---- ---- ----
(in thousands)
San Jose Water Company $57,387 51,086 $133,280 124,926
SJW Land Company 751 786 2,315 2,713
Crystal Choice Water Service LLC 331 425 980 1,330
------- ------ -------- -------
$58,469 52,297 $136,575 128,969
======= ====== ======== =======
The change in consolidated operating revenue was due to the following factors:
Three Months Ended Nine Months Ended
September 30, 2005 vs 2004 September 30, 2005 vs 2004
Increase/(decrease) Increase/(decrease)
------------------- -------------------
Utility: (in thousands)
Consumption changes $ (319) (1%) $(8,430) (7%)
New customers increase 292 1% 679 -
Rate increases 6,328 12% 16,105 13%
Parking and rental (35) - (398) -
Crystal Choice Water Service LLC (94) - (350) -
------ --- ------- ---
$6,172 12% $ 7,606 6%
====== === ======= ===
24
Operating Expenses
------------------
Operating Expenses by Subsidiary
Three Months Ended Nine Months Ended
September 30, September 30,
2005 2004 2005 2004
---- ---- ---- ----
(in thousands)
San Jose Water Company $47,202 43,504 $110,566 106,889
SJW Land Company 416 435 1,363 1,412
Crystal Choice Water Service LLC 471 437 1,242 1,318
SJW Corp. 117 181 425 515
------- ------ -------- -------
$48,206 44,557 $113,596 110,134
======= ====== ======== =======
The change in operating expenses from the same period in 2004 was due to the
following factors:
Three Months Ended Nine Months Ended
September 30, 2005 vs 2004 September 30, 2005 vs 2004
Increase/(decrease) Increase/(decrease)
------------------- -------------------
(in thousands)
Water production costs:
Increased surface water supply $ (594) (1%) $ (696) (1%)
Usage decrease (333) (1%) (5,788) (5%)
Pump tax and purchased water price increase 742 2% 2,859 3%
Other 84 - 213 -
------- -- ------- --
Total water production costs (101) - (3,412) (3%)
------- -- ------- --
Nonwater production costs:
Administrative and general 849 2% 1,643 1%
Other operating expense 593 1% 664 1%
Maintenance 36 - 130 -
Property taxes and other nonincome taxes 124 - 232 -
Depreciation and amortization 353 1% 1,139 1%
------- -- ------- --
Total nonwater production costs 1,955 4% 3,808 3%
------- -- ------- --
Income taxes 1,795 4% 3,066 3%
------- -- ------- --
Total operating expenses $ 3,649 8% $ 3,462 3%
======= == ======= ==
San Jose Water Company's water supply consists of groundwater from wells,
surface water from watershed run-off and diversion, and water purchased from the
SCVWD. Surface water is the least expensive source of water and its availability
significantly impacts the water production costs of San Jose Water Company.
25
Water production for the three months and nine months ended September 30, 2005
decreased 178 million gallons and 3,759 million gallons from the same periods in
2004. During these periods, more surface water was used when compared to the
same periods in 2004.
The change in San Jose Water Company's source of supply mix was as follows:
Three Months Ended Nine Months Ended
September 30, 2005 vs. 2004 September 30, 2005 vs. 2004
Increase/(decrease) Increase/(decrease)
------------------- -------------------
(in million gallons)
Purchased water 443 3% (1) -
Surface water 391 2% 458 1%
Ground water (999) (6%) (4,124) (10%)
Reclaimed water (13) - (92) -
------- ---- ------- -----
(178) (1%) (3,759) (9%)
======= ==== ======= =====
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. The increase of nonwater production
costs for the third quarter of 2005 from the third quarter of 2004 consisted
principally of $849,000 in general and administrative costs, which includes a
$356,000 increase in employee benefits' costs, $265,000 in professional services
and $228,000 in salaries and other expenses. In addition, other operating
expenses increased $593,000, taxes other than income increased $124,000 and
depreciation expense increased $353,000 as a result of growth in utility plant.
Income tax expense for the third quarter and nine months ended September 30,
2005 increased by $1,795,000 and $3,066,000, respectively, over the same periods
in 2004 due to higher earnings in 2005. The effective income tax rates for the
periods ended September 30, 2005 and 2004 approximated 41%.
The changes in comprehensive income for the three and nine months ended
September 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
26
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 October 3, 2005, the SCVWD's 10 reservoirs were 68.2% full with 115,223
acre-feet of water in storage. The rainfall in the first nine months of 2005 was
approximately 151% 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 September 30, 2005, which is 148.5% of
the five-year average. No rainfall was recorded at Lake Elsman during the period
from July 1, 2005 to September 30, 2005, which is consistent with the 5-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.
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 that 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. 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. As of September 30, 2005, $564,000 has been incurred. 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.
27
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 results 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.
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.
Effective July 1, 2005, the CPUC approved a request for a revenue increase of
$2.1 million to recover the increased cost of purchased water and higher pump
tax charged to San Jose Water Company by the SCVWD.
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
28
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 as other expenses 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 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 September 30, 2005 and December 31,
2004, the approved balance is an over-collection of $394,000 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.
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.
Effective July 1, 2005, the CPUC approved a request for a revenue increase of
$2.1 million to recover the increased cost of purchased water and higher pump
tax charged to San Jose Water Company by the SCVWD. The increased costs and
associated rate revenue is now being tracked in the Memorandum Type Balancing
Account, subject to review by the CPUC. There have also been changes in the
purchased power costs in 2005 that affect the balancing account for 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:
September 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 999 999
Under-collected Memorandum Type
Balancing Account 7/1/2005 to 9/30/2005 73 -
------- -------
Subtotal 690 617
Interest on approved amounts (12) (7)
------- -------
Net under-collected balancing account $ 678 $ 610
======= =======
29
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
procedures (as defined in Rule 13a-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 third 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.
30
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
information regarding shares repurchased by SJW Corp. during 2005.
Total Number of Maximum Number of
Total Number Shares Purchased as Shares That May
of Shares Average Price Part of Publicly Yet 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
===== ====== ===== ======
There were no shares repurchased during the months of April and June 2005. In
addition, there were no shares purchased during the first quarter and third
quarter of 2005. As of September 30, 2005, the total shares repurchased since
inception of the plan were 9,031.
ITEM 5. OTHER INFORMATION
-----------------
On October 27, 2005, the Board of Directors of SJW Corp. declared the regular
quarterly dividend of $0.2675 per common share. The dividend will be paid
December 1, 2005, to shareholders of record as of the close of business on
November 7, 2005.
ITEM 6. EXHIBITS
--------
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 September 30, 2005.
31
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: November 4, 2005 By /s/ Angela Yip
-----------------
ANGELA YIP
Chief Financial Officer and Treasurer
32
EXHIBIT INDEX
-------------
Exhibit No. Description of Document
- --------------------------------------------------------------------------------
10.1 Asset Purchase Agreement between SJWTX Water, Inc. and Canyon Lake
Water Supply Corporation as of October 4, 2005. (1)
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