SOUTHERN CALIFORNIA GAS CO - 10-K Annual Report

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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K

(Mark One)
[X] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the fiscal year ended December 31, 2004
OR
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 For the transition period from to
------- -------

Exact Name of
Commission Registrant IRS Employer
File as specified State of Identification
Number in its charter Incorporation Number
- ---------- -------------- -------------- -------------
1-40 PACIFIC ENTERPRISES California 94-0743670

1-1402 SOUTHERN CALIFORNIA GAS COMPANY California 95-1240705

555 WEST FIFTH STREET, LOS ANGELES, CALIFORNIA 90013
- ---------------------------------------------- ----------
(Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code (213)244-1200
--------------

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
Name of each exchange
Title of each class on which registered
- ------------------- ---------------------
Pacific Enterprises Preferred Stock: American and Pacific
$4.75 dividend; $4.50 dividend;
$4.40 dividend; $4.36 dividend

Southern California Gas Co. Preferred Stock Pacific

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
Pacific Enterprises None
Southern California Gas Company None

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 and (2) has been subject to such filing
requirements for the past 90 days. Yes [ X ] No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K. [ X ]

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [ X ]

Exhibit Index on page 94. Glossary on page 99.

Aggregate market value of the voting stock held by non-affiliates of the
registrant as of January 31, 2005:
Pacific Enterprises $68.8 Million
Southern California Gas Company $20.1 Million

Common Stock outstanding without par value as of January 31, 2005:
Pacific Enterprises Wholly owned by Sempra Energy
Southern California Gas Company Wholly owned by Pacific Enterprises

DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the Information Statement prepared for the May 2005 annual meeting
of shareholders are incorporated by reference into Part III.

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TABLE OF CONTENTS

PART I
Item 1. Business . . . . . . . . . . . . . . . . . . . . . . . 4
Item 2. Properties . . . . . . . . . . . . . . . . . . . . . . 12
Item 3. Legal Proceedings. . . . . . . . . . . . . . . . . . . 12
Item 4. Submission of Matters to a Vote of Security Holders. . 12

PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters . . . . . . . . . . . . . . . . 12
Item 6. Selected Financial Data. . . . . . . . . . . . . . . . 13
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations . . . . . . . . 13
Item 7A. Quantitative and Qualitative Disclosures
About Market Risk . . . . . . . . . . . . . . . . . 26
Item 8. Financial Statements and Supplementary Data. . . . . . 27
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure . . . . . . . . 82
Item 9A. Controls and Procedures . . . . . . . . . . . . . . . 82
Item 9B. Other Information . . . . . . . . . . . . . . . . . . 83

PART III
Item 10. Directors and Executive Officers of the Registrant . . 85
Item 11. Executive Compensation . . . . . . . . . . . . . . . . 86
Item 12. Security Ownership of Certain Beneficial Owners
and Management and Related Stockholder Matters. . . 86
Item 13. Certain Relationships and Related Transactions . . . . 86
Item 14 Principal Accountant Fees and Services . . . . . . . . 86

PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports
on Form 8-K . . . . . . . . . . . . . . . . . . . . 87

Consents of Independent Registered Public Accounting Firm and
Report on Schedule. . . . . . . . . . . . . . . . . 89

Signatures. . . . . . . . . . . . . . . . . . . . . . . . . . . 92

Exhibit Index . . . . . . . . . . . . . . . . . . . . . . . . . 94

Glossary. . . . . . . . . . . . . . . . . . . . . . . . . . . . 99

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INFORMATION REGARDING FORWARD-LOOKING STATEMENTS

This Annual Report contains statements that are not historical fact and
constitute forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. The words "estimates,"
"believes," "expects," "anticipates," "plans," "intends," "may,"
"could," "would" and "should" or similar expressions, or discussions of
strategy or of plans are intended to identify forward-looking
statements. Forward-looking statements are not guarantees of
performance. They involve risks, uncertainties and assumptions. Future
results may differ materially from those expressed in these forward-
looking statements.

Forward-looking statements are necessarily based upon various
assumptions involving judgments with respect to the future and other
risks, including, among others, local, regional and national economic,
competitive, political, legislative and regulatory conditions and
developments; actions by the California Public Utilities Commission,
the California State Legislature, and the Federal Energy Regulatory
Commission and other regulatory bodies in the United States; capital
markets conditions, inflation rates, interest rates and exchange rates;
energy and trading markets, including the timing and extent of changes
in commodity prices; the availability of natural gas; weather
conditions and conservation efforts; war and terrorist attacks;
business, regulatory, environmental and legal decisions and
requirements; the status of deregulation of retail natural gas and
electricity delivery; the timing and success of business development
efforts; and other uncertainties, all of which are difficult to predict
and many of which are beyond the control of the companies. Readers are
cautioned not to rely unduly on any forward-looking statements and are
urged to review and consider carefully the risks, uncertainties and
other factors which affect the companies' business described in this
report and other reports filed by the companies from time to time with
the Securities and Exchange Commission.

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PART I
ITEM 1. BUSINESS

Description of Business

Pacific Enterprises (PE or the company) is an energy services company
whose only significant subsidiary is Southern California Gas Company
(SoCalGas), the nation's largest natural gas distribution utility. PE's
common stock is wholly owned by Sempra Energy, a California-based
Fortune 500 holding company, and PE owns all of the common stock of
SoCalGas. The financial statements herein are, in one case, the
Consolidated Financial Statements of PE and its subsidiary, SoCalGas,
and, in the second case, the Consolidated Financial Statements of
SoCalGas and its subsidiaries, which comprise less than one percent of
SoCalGas' consolidated financial position and results of operations.
Sempra Energy also indirectly owns all of the common stock of San Diego
Gas & Electric (SDG&E). SoCalGas and SDG&E are collectively referred to
herein as "the California Utilities." A description of SoCalGas is
given in "Management's Discussion and Analysis of Financial Condition
and Results of Operations" herein.

As PE itself has no operations, PE's financial position and operations
consist of those of SoCalGas and some additional items attributable to
PE's position as a holding company (e.g. cash, intercompany accounts,
debt and equity).

Company Website

The company's website address is http://www.socalgas.com/ and Sempra
Energy's website address is http://www.sempra.com/investor.htm. The
company makes available free of charge via a hyperlink on its website
its annual report on Form 10-K, quarterly reports on Form 10-Q, current
reports on Form 8-K, and any amendments to those reports as soon as
reasonably practicable after such material is electronically filed with
or furnished to the Securities and Exchange Commission.

RISK FACTORS

The following risk factors and all other information contained in this
report should be considered carefully when evaluating the company.
These risk factors could affect the actual results of the company and
cause such results to differ materially from those expressed in any
forward-looking statements of, or made by or on behalf of, the company.
Other risks and uncertainties, in addition to those that are described
below, may also impair its business operations. If any of the following
risks occurs, the company's business, cash flows, results of operations
and financial condition could be seriously harmed. These risk factors
should be read in conjunction with the other detailed information
concerning the company set forth in the notes to Consolidated Financial
Statements and in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" herein.

SoCalGas is subject to extensive regulation by state, federal and local
legislation and regulatory authorities, which may adversely affect the
operations, performance and growth of its business.

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The California Public Utilities Commission (CPUC), which consists of
five commissioners appointed by the Governor of California for
staggered six-year terms, regulates SoCalGas' rates and conditions of
service, sales of securities, rates of return, rates of depreciation,
uniform systems of accounts, examination of records and long-term
resource procurement. The CPUC conducts various reviews of utility
performance (including reasonableness and prudency reviews) and
affiliate relationships and conducts audits and investigations into
various matters which may, from time to time, result in disallowances
and penalties adversely affecting earnings and cash flows. Various
proceedings involving the CPUC and relating to SoCalGas' rates, costs,
incentive mechanisms, performance-based regulation and compliance with
affiliate and holding company rules are discussed in the notes to
Consolidated Financial Statements and in "Management's Discussion and
Analysis of Financial Condition and Results of Operations" herein.

Periodically, SoCalGas' rates are approved by the CPUC based on
forecasts of capital and operating costs. If SoCalGas' actual capital
and operating costs were to exceed the amount included in its base
rates approved by the CPUC, it would adversely affect earnings and cash
flows.

To promote efficient operations and improved productivity and to move
away from reasonableness reviews and disallowances, the CPUC adopted
Performance-Based Regulation (PBR) for the California Utilities. Under
PBR, regulators require future income potential to be tied to achieving
or exceeding specific performance and productivity goals, rather than
relying solely on expanding utility plant to increase earnings. The
three areas that are eligible for PBR rewards are: operational
incentives based on measurements of safety, reliability and customer
satisfaction; energy efficiency rewards based on the effectiveness of
the programs; and natural gas procurement rewards. Although SoCalGas
has received significant PBR rewards in the past, there can be no
assurance that SoCalGas will receive rewards at similar levels in the
future, or at all. Additionally, if SoCalGas fails to achieve certain
minimum performance levels established under the PBR mechanisms, it may
be assessed financial disallowances or penalties which could adversely
affect their earnings and cash flows.

SoCalGas may be impacted by new regulations, decisions, orders or
interpretations of the CPUC or other regulatory bodies. New
legislation, regulations, decisions, orders or interpretations could
change how SoCalGas operates, could affect its ability to recover their
various costs through rates or adjustment mechanisms, or could require
SoCalGas to incur additional expenses.

The California Utilities' future results of operations and financial
condition may be materially adversely affected by the outcome of
pending litigation against them.

The California energy crisis of 2000 and 2001 has generated numerous
lawsuits, governmental investigations and regulatory proceedings
involving many energy companies, including Sempra Energy and the
California Utilities. They are the remaining defendants in class action
and individual antitrust and unfair competition lawsuits scheduled for
a jury trial to begin in September 2005 in which the plaintiffs have
asserted that they are entitled to recover $24 billion in damages.

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Additional lawsuits have been filed by the Attorney General of Nevada
and by others. They are also responding to an ongoing investigation
being conducted by the California Attorney General and an ongoing CPUC
proceeding related to the increase in natural gas prices at the
California-Arizona border in 2000-2001. The California Utilities have
expended and continue to expend substantial amounts defending these
lawsuits and in connection with related investigations and regulatory
proceedings. If these matters are ultimately resolved unfavorably to
the California Utilities, their results of operations and financial
condition and those of Sempra Energy may be materially adversely
affected.

These proceedings are discussed in the notes to Consolidated Financial
Statements and in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" herein.

SoCalGas' cash flows, ability to pay dividends and ability to meet its
debt obligations largely depend on the performance of its utility
operations.

SoCalGas' utility operations are its major source of liquidity.
SoCalGas' cash flows, ability to meet its obligations to creditors and
its ability to pay dividends on its common stock are largely dependent
upon the sufficiency of utility earnings and cash flows in excess of
utility needs.

Natural disasters, catastrophic accidents or acts of terrorism could
materially adversely affect SoCalGas' business, earnings and cash
flows.

Like other major industrial facilities, SoCalGas' natural gas pipelines
and storage facilities may be damaged by natural disasters,
catastrophic accidents or acts of terrorism. Any such incidents could
result in severe business disruptions, significant decreases in
revenues or significant additional costs to the company, which could
have a material adverse effect on SoCalGas' earnings and cash flows.
Given the nature and location of these facilities, any such incidents
also could cause fires, leaks, explosions, spills or other significant
damage to natural resources or property belonging to third parties, or
personal injuries, which could lead to significant claims against the
company and its subsidiaries. Insurance coverage may become unavailable
for certain of these risks and the insurance proceeds received for any
loss of or damage to any of its facilities, or for any loss of or
damage to natural resources or property or personal injuries caused by
its operations, may be insufficient to cover the company's losses or
liabilities without materially adversely affecting the company's
financial condition, earnings and cash flows.

GOVERNMENT REGULATION

California Utility Regulation

The CPUC, which consists of five commissioners appointed by the
Governor of California for staggered six-year terms, regulates
SoCalGas' rates and conditions of service, sales of securities, rate of
return, rates of depreciation, uniform systems of accounts, examination

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of records, and long-term resource procurement. The CPUC conducts
various reviews of utility performance and conducts investigations into
various matters, such as deregulation, competition and the environment,
to determine its future policies. The CPUC also regulates the
relationship of utilities with their holding companies and is currently
conducting an investigation into this relationship. This investigation
is discussed further in Note 9 of the notes to Consolidated Financial
Statements herein.

United States Utility Regulation

The Federal Energy Regulatory Commission (FERC) regulates the
interstate sale and transportation of natural gas, the uniform systems
of accounts and rates of depreciation. Both the FERC and the CPUC are
currently investigating prices charged to the California investor-owned
utilities (IOUs) by various suppliers of natural gas and electricity.
Further discussion is provided in Note 9 of the notes to Consolidated
Financial Statements herein.

Local Regulation

SoCalGas has natural gas franchises with the 240 legal jurisdictions in
its service territory. These franchises allow SoCalGas to locate,
operate and maintain facilities for the transmission and distribution
of natural gas in streets and other public places. Some franchises have
fixed terms, such as that for the city of Los Angeles, which expires in
2012. The range of expiration dates for the franchises with definite
terms is 2005 to 2048. Most of the franchises do not have fixed terms
and continue indefinitely.

Licenses and Permits

SoCalGas obtains numerous permits, authorizations and licenses in
connection with the transmission and distribution of natural gas. They
require periodic renewal, which results in continuing regulation by the
granting agency.

Other regulatory matters are described in Note 9 of the notes to
Consolidated Financial Statements herein.

NATURAL GAS UTILITY OPERATIONS

Resource Planning and Natural Gas Procurement and Transportation

SoCalGas is engaged in the purchase, sale, distribution, storage and
transportation of natural gas. The company's resource planning, power
procurement, contractual commitments and related regulatory matters are
discussed below and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and in Notes 9 and 10 of
the notes to Consolidated Financial Statements herein.

Customers

For regulatory purposes, customers are separated into core and noncore
customers. Core customers are primarily residential and small
commercial and industrial customers, without alternative fuel

8

capability. Noncore customers consist primarily of electric generation,
wholesale, large commercial, industrial and enhanced oil recovery
customers.

Most core customers purchase natural gas directly from SoCalGas. Core
customers are permitted to aggregate their natural gas requirement and
purchase directly from brokers or producers. SoCalGas continues to be
obligated to purchase reliable supplies of natural gas to serve the
requirements of the core customers.

Natural Gas Procurement and Transportation

Most of the natural gas purchased and delivered by SoCalGas is produced
outside of California, primarily in the southwestern U.S. and Canada.
SoCalGas purchases natural gas under short-term and long-term
contracts. Short-term purchases are primarily based on monthly spot-
market prices.

To ensure the delivery of the natural gas supplies to the distribution
system and to meet the seasonal and annual needs of customers, SoCalGas
is committed to firm pipeline capacity contracts that require the
payment of fixed reservation charges to reserve firm transportation
entitlements. SoCalGas sells excess capacity, if any, on a short-term
basis. Interstate pipeline companies, primarily El Paso Natural Gas
Company and Transwestern Pipeline Company, provide transportation
services into SoCalGas' intrastate transmission system for supplies
purchased by SoCalGas or its transportation customers from outside of
California. All of these contracts will have expired by 2007. The rates
that interstate pipeline companies may charge for natural gas and
transportation services are regulated by the FERC.

According to "Btu's Daily Gas Wire", the annual average spot price of
natural gas at the California/Arizona border was $5.53 per million
British thermal unit (mmbtu) in 2004 ($6.35 in December 2004), compared
with $5.10 per mmbtu in 2003 and $3.14 per mmbtu in 2002. Prices for
natural gas increased toward the end of 2002, 2003 and in 2004.
SoCalGas's weighted average cost (including transportation charges) per
mmbtu of natural gas was $5.92 in 2004, $5.05 in 2003 and $3.03 in 2002.

With improved delivery capacity to California, SoCalGas expects
adequate resources to be available at prices that generally will follow
national natural gas pricing trends and volatility.

Natural Gas Storage

SoCalGas provides natural gas storage services for use by the core,
noncore and off-system customers. Core customers are allocated a
portion of SoCalGas' storage capacity. Remaining customers, including
SDG&E, can bid and negotiate the desired amount of storage on a
contract basis. The storage service program provides opportunities for
customers to store natural gas, usually during the summer to reduce
winter purchases when natural gas costs are generally higher. This
allows customers to select the level of service they desire to assist
them in managing their fuel procurement and transportation needs.

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Demand for Natural Gas

SoCalGas faces competition in the residential and commercial customer
markets based on the customers' preferences for natural gas compared
with other energy products. The demand for natural gas by electric
generators is influenced by a number of factors. In the short-term,
natural gas use by electric generators is impacted by the availability
of alternative sources of generation. The availability of
hydroelectricity is highly dependent on precipitation in the western
United States. In addition, natural gas use is impacted by the
performance of other generation sources in the western United States,
including nuclear and coal, and other natural gas facilities outside
the service area. Natural gas use is also impacted by changes in end-
use electricity demand. For example, natural gas use generally
increases during summer heat waves. Over the long-term, natural gas use
will be greatly influenced by additional factors such as the location
of new power plant construction. More generation capacity currently is
being constructed outside Southern California than within the utility
service area. This new generation will likely displace the output of
older, less efficient local generation, reducing the use of natural gas
for electric generation.

Effective March 31, 1998, electric industry restructuring provided out-
of-state producers the option to purchase energy for California utility
customers. As a result, natural gas demand for electric generation
within Southern California competes with electric power generated
throughout the western United States. Although electric industry
restructuring has no direct impact on SoCalGas' natural gas operations,
future volumes of natural gas transported for electric generating plant
customers may be significantly affected to the extent that regulatory
changes divert electric generation from SoCalGas' service area.

Growth in the natural gas markets is largely dependent upon the health
and expansion of the Southern California economy and prices of other
energy products. External factors such as weather, the price of
electricity, electric deregulation, the use of hydroelectric power,
competing pipelines and general economic conditions can result in
significant shifts in demand and market price. SoCalGas added 75,000
new customer meters in 2004 and 72,000 in 2003, representing growth
rates of 1.4 percent and 1.3 percent, respectively. SoCalGas expects
that its growth rate for 2005 will approximate that for 2004.

In the interruptible industrial market, customers are capable of
burning a fuel other than natural gas. Fuel oil is the most significant
competing energy alternative. The company's ability to maintain its
industrial market share is largely dependent on price. The relationship
between natural gas supply and demand has the greatest impact on the
price of the company's product. With the reduction of natural gas
production from domestic sources, the cost of natural gas from non-
domestic sources may play a greater role in the company's competitive
position in the future. The price of oil depends upon a number of
factors, including the relationship between world-wide supply and
demand, and the policies of foreign and domestic governments.

The natural gas distribution business is seasonal in nature as
variations in weather conditions generally result in greater revenues
during the winter months when temperatures are colder. As is prevalent

10

in the industry, the company injects natural gas into storage during
the summer months (usually April through October) for withdrawal
storage during the winter months (usually November through March) when
customer demand is higher.

RATES AND REGULATION

Information concerning rates and regulations applicable to SoCalGas is
provided in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and in Notes 1 and 9 of the notes
to Consolidated Financial Statements herein.

ENVIRONMENTAL MATTERS

Discussions about environmental issues affecting the company are
included in Note 10 of the notes to Consolidated Financial Statements
herein. The following additional information should be read in
conjunction with those discussions.

Hazardous Substances

In 1994, the CPUC approved the Hazardous Waste Collaborative Memorandum
account, allowing California's IOUs to recover their hazardous waste
cleanup costs, including those related to Superfund sites or similar
sites requiring cleanup. Recovery of 90 percent of hazardous waste
cleanup costs and related third-party litigation costs, and 70 percent
of the related insurance-litigation expenses is permitted. In addition,
the company has the opportunity to retain a percentage of any insurance
recoveries to offset the 10 percent of costs not recovered in rates.

During the early 1900s, SoCalGas and its predecessors manufactured gas
from coal or oil. The manufactured-gas plants (MGPs) often have become
contaminated with the hazardous residual by-products of the process.
SoCalGas has identified 42 such sites at which it (together with other
users as to 21 of these sites) may have cleanup obligations. At a
minimum, preliminary investigations have been completed on 41 of the
sites. As of December 31, 2004, 27 of these sites have been remediated,
of which 22 have received certification from the California
Environmental Protection Agency. At December 31, 2004, SoCalGas'
estimated remaining investigation and remediation liability for the
MGPs is $40.5 million.

SoCalGas lawfully disposes of wastes at permitted facilities owned and
operated by other entities. Operations at these facilities may result
in actual or threatened risks to the environment or public health.
Under California law, businesses that arrange for legal disposal of
wastes at a permitted facility from which wastes are later released, or
threaten to be released, can be held financially responsible for
corrective actions at the facility.

SoCalGas has been named as a potentially responsible party (PRP) for
one landfill site and one industrial waste disposal site, from which
releases have occurred.

Remedial actions and negotiations with other PRPs and the United States
Environmental Protection Agency have been in progress since 1993 for

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the Casmalia landfill site. The company's share of costs to remediate
this site is estimated to be $1.3, of which $0.9 million has been
spent.

In December 1999, SoCalGas was notified that it is a PRP at a waste
treatment facility in Bakersfield, California. SoCalGas is working with
other PRPs in order to remove from the site certain liquid wastes that
threaten to be released. SoCalGas' share of total site cleanup costs is
estimated at $0.7 million, of which $0.2 million has been spent.

At December 31, 2004, the company's estimated remaining investigation
and remediation liability related to hazardous waste sites, including
the MGPs, was $41.9 million, of which 90 percent is authorized to be
recovered through the Hazardous Waste Collaborative mechanism. The
company believes that any costs not ultimately recovered through rates,
insurance or other means will not have a material adverse effect on the
company's consolidated results of operations or financial position.

Estimated liabilities for environmental remediation are recorded when
amounts are probable and estimable. Amounts authorized to be recovered
in rates under the Hazardous Waste Collaborative mechanism are recorded
as a regulatory asset.

Air and Water Quality

California's air quality standards are more restrictive than federal
standards. The transmission and distribution of natural gas require the
operation of compressor stations, which are subject to increasingly
stringent air-quality standards. Costs to comply with these standards
are recovered in rates.

OTHER MATTERS

Research, Development and Demonstration (RD&D)

The SoCalGas RD&D portfolio is focused in five major areas: operations,
utilization systems, power generation, public interest and
transportation. Each of these activities provides benefits to customers
and society by providing more cost-effective, efficient natural gas
equipment with lower emissions, increased safety and reduced operating
costs. The CPUC has authorized SoCalGas to recover its operating costs
associated with RD&D. SoCalGas' annual RD&D costs have averaged $8.2
million over the past three years.

Employees of Registrant

As of December 31, 2004, SoCalGas had 6,448 employees, compared to
6,570 at December 31, 2003.

Labor Relations

Field, technical and most clerical employees at SoCalGas are
represented by the Utility Workers' Union of America (UWUA) or the
International Chemical Workers' Union Council (ICWUC). The collective
bargaining agreement for field, technical and most clerical employees
at SoCalGas covering wages, hours, working conditions, medical and

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various benefit plans was in effect through December 31, 2004. SoCalGas
has signed with UWUA and ICWUC, a new collective bargaining agreement
that will be in effect from January 1, 2005 through September 30, 2008.

ITEM 2. PROPERTIES

Natural Gas Properties

At December 31, 2004, SoCalGas' natural gas facilities included 2,830
miles of transmission and storage pipeline, 47,307 miles of
distribution pipeline and 45,954 miles of service piping. They also
included 11 transmission compressor stations and 4 underground storage
reservoirs, with a combined working capacity of 122 billion cubic feet.

Other Properties

SoCalGas leases approximately half of a 52-story office building in
downtown Los Angeles through 2011. The lease has six separate five-year
renewal options.

The company owns or leases other offices, operating and maintenance
centers, shops, service facilities and equipment necessary in the
conduct of its business.

ITEM 3. LEGAL PROCEEDINGS

Except for the matters described in Note 10 of the notes to
Consolidated Financial Statements or referred to elsewhere in this
Annual Report, neither the companies nor their subsidiaries are party
to, nor is their property the subject of, any material pending legal
proceedings other than routine litigation incidental to their
businesses.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS

All of the issued and outstanding common stock of PE is owned by Sempra
Energy. The information required by Item 5 concerning dividends
declared is included in the "Statements of Consolidated Changes in
Shareholders' Equity" set forth in Item 8 of this Annual Report herein.

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ITEM 6. SELECTED FINANCIAL DATA

Since Pacific Enterprises is a wholly owned subsidiary of Sempra Energy
and SoCalGas is a wholly owned subsidiary of Pacific Enterprises, per
share data is not provided.

This data should be read in conjunction with the Consolidated Financial
Statements and the notes to Consolidated Financial Statements contained
herein.

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

INTRODUCTION

This section of the 2004 Annual Report includes management's discussion
and analysis of operating results from 2002 through 2004, and provides
information about the capital resources, liquidity and financial
performance of Pacific Enterprises (PE) and Southern California Gas
Company (SoCalGas). SoCalGas, PE or the two together are referred to as
"the company" herein, the distinction being indicated by the context.
This section also focuses on the major factors expected to influence
future operating results and discusses investment and financing

14

activities and plans. It should be read in conjunction with the
Consolidated Financial Statements included in this Annual Report.

PE is the holding company for SoCalGas, the nation's largest natural
gas distribution utility. SoCalGas owns and operates a natural gas
distribution, transmission and storage system supplying natural gas
throughout approximately 20,000 square miles of service territory. Its
service territory extends from San Luis Obispo on the north to the
Mexican border in the south, excluding San Diego County, the City of
Long Beach and the desert area of San Bernardino County. SoCalGas
provides natural gas service to residential, commercial, industrial,
utility electric generation and wholesale customers, through 5.5
million meters in a service area with a population of 19.5 million.
SoCalGas and its sister utility, San Diego Gas & Electric (SDG&E), are
collectively referred to herein as "the California Utilities."

RESULTS OF OPERATIONS

The following table shows net income for each of the last five years.

(Dollars in millions)
- -----------------------------------------
PE SoCalGas
---------- ----------
2004 $ 236 $ 233
2003 $ 221 $ 210
2002 $ 213 $ 213
2001 $ 206 $ 208
2000 $ 211 $ 207

- -----------------------------------------

To understand the operations and financial results of the company, it
is important to understand the ratemaking procedures to which the
company is subject.

SoCalGas is subject to various regulatory bodies and rules at national,
state and local levels. The primary regulatory body is the California
Public Utilities Commission (CPUC), which regulates utility rates and
operations. The Federal Energy Regulatory Commission (FERC) regulates
interstate transportation of natural gas and various related matters.
Municipalities and other local authorities regulate the location of
utility assets, including natural gas pipelines.

The natural gas industry experienced an initial phase of restructuring
during the 1980s by deregulating natural gas sales to noncore
customers. Further restructuring continues to be considered, as
discussed in Note 9 of the notes to Consolidated Financial Statements.

Natural Gas Revenue and Cost of Natural Gas. Natural gas revenues
increased to $4.0 billion in 2004 from $3.5 billion in 2003, and the
cost of natural gas increased to $2.3 billion in 2004 from $1.8 billion
in 2003. The increases were primarily attributable to natural gas cost
increases, which are passed on to customers. For natural gas revenues,
this increase was offset by $48 million of Gas Cost Incentive Mechanism
(GCIM) awards and $1 million of Performance-Based Regulation (PBR)
awards recognized during 2003. Performance awards are discussed in Note

15

9 of the notes to Consolidated Financial Statements. SoCalGas' weighted
average cost per million British thermal units (mmbtu) of natural gas
was $5.92 in 2004, $5.05 in 2003 and $3.03 in 2002.

Under the current regulatory framework, the cost of natural gas
purchased for customers and the variations in that cost are passed
through to the customers on a substantially concurrent basis. However,
SoCalGas' GCIM allows SoCalGas to share in the savings or costs from
buying natural gas for customers below or above market-based monthly
benchmarks. The mechanism permits full recovery of all costs within a
tolerance band above the benchmark price and refunds all savings within
a tolerance band below the benchmark price. The costs or savings
outside the tolerance band are shared between customers and
shareholders. Further discussion is provided in Notes 1 and 9 of the
notes to Consolidated Financial Statements.

Natural gas revenues increased to $3.5 billion in 2003 from $2.9
billion in 2002, and the cost of natural gas increased to $1.8 billion
in 2003 from $1.2 billion in 2002. The change was primarily
attributable to natural gas price increases, partially offset by
reduced volumes. Revenues also increased due to the performance awards
recognized during 2003.

16

The table below summarizes SoCalGas' natural gas volumes and revenues
by customer class for the years ended December 31, 2004, 2003 and 2002.

NATURAL GAS SALES, TRANSPORTATION AND EXCHANGE
(Dollars in millions, volumes in billion cubic feet)

Other Operating Expenses. Other operating expenses at SoCalGas were
$950 million, $954 million and $872 million in 2004, 2003 and 2002,
respectively. The decrease in 2004 was due primarily to the favorable
resolution of regulatory issues offset by litigation costs.
Additionally, operating expenses in 2003 include charges for litigation
costs and for losses associated with a sublease of portions of the
SoCalGas headquarters building. The increase in 2003 compared to 2002
was primarily the result of these charges, as well as higher labor and
employee benefits costs. During 2002, the company recorded $13 million
in litigation costs related to the California energy crisis.

Other Income. Other income and deductions consist primarily of interest
income from short-term investments, interest income/expense from
regulatory balancing accounts and allowance for equity funds used
during construction. Excluding the impact of income taxes on non-
operating income, other income at SoCalGas was $31 million, $40
million, and $10 million in 2004, 2003 and 2002, respectively. The

17

decrease in 2004 was due to higher interest income in 2003 resulting
from the favorable $30 million before-tax resolution of income-tax
issues with the Internal Revenue Service (IRS), offset by the $15
million before-tax gain from the sale of partnership property in 2004.
The increase in 2003 compared to 2002 was due to higher interest income
as discussed above.

Income Taxes. Income tax expense at SoCalGas was $154 million, $150
million and $178 million in 2004, 2003 and 2002, respectively. The
corresponding effective income tax rates were 39.8 percent, 41.7
percent and 45.5 percent. The decreases in 2003 compared to 2002 were
due to the $12 million favorable resolution of income-tax issues in the
fourth quarter of 2003. In addition, income before taxes in 2003
included $30 million in interest income arising from the income tax
settlement, resulting in an offsetting $13 million income tax expense.

Net Income. SoCalGas recorded net income of $233 million, $210 million
and $213 million in 2004, 2003 and 2002, respectively. The increase in
2004 was due to higher margins, the resolution of the 2004 cost of
service proceedings, which favorably impacted net income by $34
million, and the $9 million after-tax gain on the sale of partnership
property, offset by $24 million of litigation costs. Additionally, 2003
net income was affected by the $32 million after-tax charge for
litigation costs and for losses associated with a long-term sublease of
portions of its headquarters building, offset by the favorable
resolution of income tax issues and by higher GCIM awards.

The decrease for 2003 compared to 2002 was due primarily to the
litigation charges and sublease losses in 2003 and the end of sharing
of merger savings (which favorably impacted earnings by $17 million for
the year ended December 31, 2002), offset by the resolution of income
tax issues and higher GCIM awards in 2003.

CAPITAL RESOURCES AND LIQUIDITY

SoCalGas' operations are the major source of liquidity. In addition,
working capital requirements can be met through the issuance of short-
term and long-term debt. Cash requirements primarily consist of capital
expenditures for utility plant.

At December 31, 2004, the company had $34 million in unrestricted cash
and $770 million in available unused, committed lines of credit, of
which PE had $500 million for the sole purpose of providing loans to
Sempra Global, another subsidiary of Sempra Energy, and SoCalGas had
$270 million.

Management believes that these amounts and cash flows from operations
and debt issuances will be adequate to finance capital expenditures and
meet liquidity requirements and other commitments. Forecasted capital
expenditures for the next five years are discussed in "Future Capital
Expenditures for Utility Plant". Management continues to regularly
monitor SoCalGas' ability to finance the needs of its operating,
financing and investing activities in a manner consistent with its
intention to maintain strong, investment-quality credit ratings. Rating
agencies and others that evaluate a company's liquidity generally
consider a company's capital expenditures and working capital

18

requirements in comparison to cash from operations, available credit
lines and other sources available to meet liquidity requirements.

CASH FLOWS FROM OPERATING ACTIVITIES

Net cash provided by PE's consolidated operating activities totaled
$544 million, $375 million and $521 million for 2004, 2003 and 2002,
respectively. Net cash provided by SoCalGas' operating activities
totaled $501 million, $385 million and $527 million for 2004, 2003 and
2002, respectively.

The increase in net cash provided by operating activities was due to
changes in regulatory balancing accounts in 2004, offset by a higher
increase in accounts receivable in 2004.

The decrease in 2003 compared to 2002 was primarily attributable to
SoCalGas' decrease in overcollected regulatory balancing accounts in
2003 resulting from higher natural gas prices and lower usage and the
refunding of customer deposits, offset by lower tax payments in 2003.

During 2004, the company contributed $42 million to other postretirement
benefit plans but made no contribution to the pension plan.

CASH FLOWS FROM INVESTING ACTIVITIES

Net cash used in PE's consolidated investing activities totaled $293
million, $216 million and $508 million for 2004, 2003 and 2002,
respectively. Net cash used in SoCalGas' investing activities totaled
$253 million, $279 million and $417 million for 2004, 2003 and 2002,
respectively. The increase in cash used in investing activities was due
to lower affiliate loan repayments received in 2004. For SoCalGas, the
decrease in cash used in investing activities was due to higher
repayments received from Sempra Energy in 2004.

PE's decrease in 2003 compared to 2002 was primarily due to the $97
million repayment from Sempra Energy in 2003 compared to $177 million
of advances to Sempra Energy in 2002. For SoCalGas, the change in 2003
compared to 2002 was the same as PE except that SoCalGas received $34
million of the $97 million repayment in 2003 and made $86 million of
the $177 million in advances to Sempra Energy in 2002. Advances to
Sempra Energy are payable on demand.

Future Capital Expenditures for Utility Plant

Significant capital expenditures in 2005 are expected to include $350
million for improvements to the distribution and transmission systems.
These expenditures are expected to be financed by cash flows from
operations and debt issuances.

Over the next five years, the company expects to make capital
expenditures of $1.8 billion, including $350 million in each of the
next five years.

Construction programs are periodically reviewed and revised by the
company in response to changes in economic conditions, competition,

19

customer growth, inflation, customer rates, the cost of capital, and
environmental and regulatory requirements.

CASH FLOWS FROM FINANCING ACTIVITIES

Net cash used in PE's consolidated financing activities totaled $249
million, $149 million and $4 million for 2004, 2003 and 2002,
respectively. Net cash used in SoCalGas' financing activities totaled
$246 million, $96 million and $101 million for 2004, 2003 and 2002,
respectively.

The cash used in financing activities for 2004 increased due to lower
issuances of long-term debt, offset by lower payments on long-term
debt. The increase in PE's cash used in financing activities in 2003
was attributable to higher repayments on long-term debt and an increase
of $150 million in dividends paid to Sempra Energy in 2003, offset by
an increase in the issuances of long-term debt. The change in SoCalGas'
net cash used in financing activities is the same as PE, except for
dividends paid to PE, which are unchanged from 2002 to 2003.

Long-Term and Short-Term Debt

In December 2004, SoCalGas issued $100 million of floating-rate first
mortgage bonds maturing in December 2009. The interest rate is based on
the 3-month LIBOR rate plus 0.17%.

Repayments on long-term debt in 2004 included $175 million of SoCalGas'
first mortgage bonds.

In 2003, SoCalGas issued $500 million of first mortgage bonds.

Repayments on long-term debt in 2003 included $325 million of SoCalGas'
first mortgage bonds. In addition, $70 million of SoCalGas' $75
million medium-term notes were put back to the company.

In October 2002, SoCalGas publicly offered and sold $250 million of
4.80% first mortgage bonds, maturing in October 2012.

Repayments on long-term debt in 2002 included $100 million of first
mortgage bonds.

In May 2004, the California Utilities obtained a combined $500 million
three-year syndicated revolving credit facility to replace their
expiring 364-day facility of a like amount. No amounts were outstanding
under this facility at December 31, 2004. SoCalGas had $30 million of
commercial paper outstanding at December 31, 2004.

In September 2004, PE extended the termination date of its revolving
credit agreement to September 30, 2005 and increased the revolving
credit commitment from $250 million to $500 million. No amounts were
outstanding under this facility at December 31, 2004.

Notes 2 and 3 of the notes to Consolidated Financial Statements provide
further discussion of debt activity and lines of credit.

20

Dividends

Common dividends paid to Sempra Energy were $200 million in 2004,
compared to $250 million in 2003 and $100 million in 2002. Dividends
paid by SoCalGas to PE amounted to $200 million in each of 2004, 2003
and 2002.

The payment and amount of future dividends are within the discretion of
the companies' boards of directors. The CPUC's regulation of SoCalGas'
capital structure limits the amounts that are available for loans and
dividends to Sempra Energy from SoCalGas. At December 31, 2004, the
company could have provided a total (combined loans and dividends) of
$200 million to Sempra Energy.

Capitalization

Total capitalization, including short-term debt and the current portion
of long-term debt, at December 31, 2004 was $2.7 billion, of which $2.3
billion applied to SoCalGas. The debt-to-capitalization ratios were 33
percent and 39 percent at December 31, 2004 for PE and SoCalGas,
respectively.

Commitments

The following is a summary of the company's principal contractual
commitments at December 31, 2004. Liabilities related to fixed-price
contracts and other derivatives are excluded as they are primarily
offset against regulatory assets and will be recovered from customers
through the ratemaking process. Additional information concerning
commitments is provided above and in Notes 3, 5 and 10 of the notes to
Consolidated Financial Statements.

21

Credit Ratings

Credit ratings of the company remained at investment grade levels in
2004. As of January 31, 2005, company credit ratings were as follows:

Standard Moody's Investor
& Poor's Services, Inc. Fitch
- ----------------------------------------------------------------
SOCALGAS
Secured debt A+ A1 AA
Unsecured debt A- A2 AA-
Preferred stock BBB+ Baa1 A+
Commercial paper A-1 P-1 F1+
------------------------------------
PE - preferred stock BBB+ - A
- ----------------------------------------------------------------

As of January 31, 2005, SoCalGas has a stable outlook rating from all
three credit rating agencies.

FACTORS INFLUENCING FUTURE PERFORMANCE

Performance of the companies will depend primarily on the ratemaking
and regulatory process, natural gas industry restructuring, and the
changing energy marketplace. These factors are discussed in Note 9 of
the notes to Consolidated Financial Statements.

Market Risk

Market risk is the risk of erosion of the company's cash flows, net
income, asset values and equity due to adverse changes in prices for
various commodities, and in interest rates.

Sempra Energy has adopted corporate-wide policies governing its market
risk management activities. Assisted by Sempra Energy's Energy Risk

22

Management Group (ERMG), Sempra Energy's Energy Risk Management
Oversight Committee (ERMOC), consisting of senior officers, oversees
company-wide energy risk management activities and monitors the results
of activities to ensure compliance with the company's stated energy
risk management policies. Utility management receives daily information
on positions and the ERMG receives information detailing positions
creating market and credit risk for the company, consistent with
affiliate rules. The ERMG independently measures and reports the market
and credit risk associated with these positions. In addition, the ERMOC
monitors energy price risk management activities independently from the
groups responsible for creating or actively managing these risks.

Along with other tools, the company uses Value at Risk (VaR) to measure
its exposure to market risk. VaR is an estimate of the potential loss
on a position or portfolio of positions over a specified holding
period, based on normal market conditions and within a given
statistical confidence interval. The company has adopted the
variance/covariance methodology in its calculation of VaR, and uses
both the 95-percent and 99-percent confidence intervals. VaR is
calculated independently by the ERMG for the company. Historical
volatilities and correlations between instruments and positions are
used in the calculation. As of December 31, 2004, the total VaR of the
company's natural gas positions was not material.

The company uses energy and natural gas derivatives to manage natural
gas price risk associated with servicing its load requirements. The use
of derivative financial instruments is subject to certain limitations
imposed by company policy and regulatory requirements.

Revenue recognition is discussed in Note 1 and the additional market
risk information regarding derivative instruments is discussed in Note
7 of the notes to Consolidated Financial Statements.

The following discussion of the company's primary market risk exposures
as of December 31, 2004 includes a discussion of how these exposures
are managed.

Commodity Price Risk

Market risk related to physical commodities is created by volatility in
the prices and basis of natural gas. The company's market risk is
impacted by changes in volatility and liquidity in the markets in which
these commodities or related financial instruments are traded. The
company is exposed, in varying degrees, to price risk primarily in the
natural gas markets. The company's policy is to manage this risk within
a framework that considers the unique markets, and operating and
regulatory environments.

The company's market risk exposure is limited due to CPUC-authorized
rate recovery of natural gas purchase, sale, intrastate transportation
and storage activity. However, the company may, at times, be exposed to
market risk as a result of SoCalGas' GCIM, which is discussed in Note 9
of the notes to Consolidated Financial Statements. If commodity prices
were to rise too rapidly, it is likely that volumes would decline. This
would increase the per-unit fixed costs, which could lead to further
volume declines. The company manages its risk within the parameters of

23

the company's market risk management framework. As of December 31,
2004, the company's exposure to market risk was not material.

Interest Rate Risk

The company is exposed to fluctuations in interest rates primarily as a
result of its long-term debt. The company historically has funded
operations through long-term debt issues with fixed interest rates and
these interest rates are recovered in utility rates. Some recent debt
offerings have used a combination of fixed-rate and floating-rate debt.
Subject to regulatory constraints, interest-rate swaps may be used to
adjust interest-rate exposures.

At December 31, 2004, the company had $613 million of fixed-rate debt
and $252 million of variable-rate debt. Interest on fixed-rate utility
debt is fully recovered in rates on a historical cost basis and
interest on variable-rate debt is provided for in rates on a forecasted
basis. At December 31, 2004, SoCalGas' fixed-rate debt had a one-year
VaR of $76 million and its variable-rate debt had a one-year VaR of $11
million.

At December 31, 2004, the notional amount of interest-rate swap
transactions totaled $150 million. Note 3 of the notes to Consolidated
Financial Statements provides further information regarding interest
rate swap transactions.

In addition, the company is ultimately subject to the effect of
interest-rate fluctuation on the assets of its pension plan and other
postretirement plans.

Credit Risk

Credit risk is the risk of loss that would be incurred as a result of
nonperformance by counterparties of their contractual obligations. As
with market risk, the company has adopted corporate-wide policies
governing the management of credit risk. Credit risk management is
performed by the ERMG and the company's credit department and overseen
by the ERMOC. Using rigorous models, the ERMG and the company calculate
current and potential credit risk to counterparties on a daily basis
and monitor actual balances in comparison to approved limits. The
company avoids concentration of counterparties whenever possible, and
management believes its credit policies associated with counterparties
significantly reduce overall credit risk. These policies include an
evaluation of prospective counterparties' financial condition
(including credit ratings), collateral requirements under certain
circumstances, the use of standardized agreements that allow for the
netting of positive and negative exposures associated with a single
counterparty and other security such as lock-box liens and downgrade
triggers.

The company monitors credit risk through a credit approval process and
the assignment and monitoring of credit limits. These credit limits are
established based on risk and return considerations under terms
customarily available in the industry.

The company periodically enters into interest-rate swap agreements to
moderate exposure to interest-rate changes and to lower the overall

24

cost of borrowing. The company would be exposed to interest-rate
fluctuations on the underlying debt should counterparties to the
agreement not perform. Additional information regarding the company's
use of interest-rate swap agreements is provided under "Interest Rate
Risk".

CRITICAL ACCOUNTING POLICIES AND KEY NON-CASH PERFORMANCE INDICATORS

Certain accounting policies are viewed by management as critical
because their application is the most relevant, judgmental and/or
material to the company's financial position and results of operations,
and/or because they require the use of material judgments and
estimates.

The company's significant accounting policies are described in Note 1
of the notes to Consolidated Financial Statements. The most critical
policies, all of which are mandatory under generally accepted
accounting principles and the regulations of the Securities and
Exchange Commission, are the following:

Statement of Financial Accounting Standards (SFAS) 5, "Accounting
for Contingencies," establishes the amounts and timing of when
the company provides for contingent losses. Details of the
company's issues in this area are discussed in Note 10 of the
notes to Consolidated Financial Statements.

SFAS 71, "Accounting for the Effects of Certain Types of
Regulation," has a significant effect on the way the California
Utilities record assets and liabilities, and the related revenues
and expenses that would not be recorded absent the principles
contained in SFAS 71.

SFAS 109, "Accounting for Income Taxes," governs the way the
company provides for income taxes. Details of the company's
issues in this area are discussed in Note 4 of the notes to
Consolidated Financial Statements.

SFAS 123, "Accounting for Stock-Based Compensation" and SFAS 148
"Accounting for Stock-Based Compensation - Transition and
Disclosure," give companies the choice of recognizing a cost at
the time of issuance of stock options or merely disclosing what
that cost would have been and not recognizing it in its financial
statements. Sempra Energy has elected the disclosure option for
all options that are so eligible. The effect of this is discussed
in Note 1 of the notes to Consolidated Financial Statements.

SFAS 123R, "Share-Based Payment" requires public companies to
measure and record the cost of employee services received in
exchange for an award of equity instruments based on the grant-
date fair value of the awards and gives companies three methods
to do so. This statement is effective for Sempra Energy on July
1, 2005. Further discussion is provided in Note 1 of the notes to
Consolidated Financial Statements.

SFAS 133, "Accounting for Derivative Instruments and Hedging
Activities," SFAS 138 "Accounting for Certain Derivative
Instruments and Certain Hedging Activities" and SFAS 149

25

"Amendment of Statement 133 on Derivative Instruments and Hedging
Activities," have a significant effect on the balance sheets of
the company but have no significant effect on its income
statements because of the principles contained in SFAS 71.

In connection with the application of these and other accounting
policies, the company makes estimates and judgments about various
matters. The most significant of these involve:

The calculation of fair or realizable values.

The collectibility of receivables, regulatory assets, deferred
tax assets and other assets.

The resolution of various income-tax issues between the company
and the various taxing authorities.

The various assumptions used in actuarial calculations for
pension and other postretirement benefit plans.

The probable costs to be incurred in the resolution of litigation.

Differences between estimates and actual amounts have had significant
impacts in the past and are likely to have significant impacts in the
future.

As discussed elsewhere herein, the company uses exchange quotations or
other third-party pricing to estimate fair values. The assumed
collectibility of receivables considers the aging of the receivables,
the creditworthiness of customers and the enforceability of contracts,
where applicable. The assumed collectibility of regulatory assets
considers legal and regulatory decisions involving the specific items
or similar items. The assumed collectibility of other assets considers
the nature of the item, the enforceability of contracts where
applicable, the creditworthiness of the other parties and other
factors. The anticipated resolution of income-tax issues considers past
resolution of the same or similar issue, the status of any income-tax
examination in progress and positions taken by taxing authorities with
other taxpayers with similar issues. Actuarial assumptions are based on
the advice of the company's independent actuaries. The likelihood of
deferred tax recovery is based on analyses of the deferred tax assets
and the company's expectation of future financial and/or taxable
income, based on its strategic planning.

Choices among alternative accounting policies that are material to the
company's financial statements and information concerning significant
estimates have been discussed with the audit committee of the board of
directors.

Key non-cash performance indicators for the company include numbers of
customers and quantities of natural gas sold. The information is
provided in "Introduction" and "Results of Operations."

26

NEW ACCOUNTING STANDARDS

Relevant pronouncements that have recently become effective and have
had a significant effect on the company's financial statements are SFAS
132 (revised 2003) and 143. They are described in Note 1 of the notes
to Consolidated Financial Statements. Pronouncements of particular
importance to the company's financial statements are described below.

SFAS 143, "Accounting for Asset Retirement Obligations": SFAS 143
requires entities to record the fair value of liabilities for legal
obligations related to asset retirements in the period in which they
are incurred. It also requires the company to reclassify amounts
recovered in rates for future removal costs not covered by a legal
obligation from accumulated depreciation to a regulatory liability.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The information required by Item 7A is set forth under "Item 7.
Management's Discussion and Analysis of Financial Condition and Results
of Operations - Market Risk."

27

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA -
Pacific Enterprises

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Shareholders of Pacific Enterprises:

We have audited the accompanying consolidated balance sheets of Pacific
Enterprises and subsidiaries (the "Company") as of December 31, 2004
and 2003, and the related consolidated statements of income,
shareholders' equity and cash flows for each of the three years in the
period ended December 31, 2004. These financial statements are the
responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly,
in all material respects, the financial position of the Company as of
December 31, 2004 and 2003, and the results of its operations and its
cash flows for each of the three years in the period ended December 31,
2004, in conformity with accounting principles generally accepted in
the United States of America.

We have also audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the effectiveness
of the Company's internal control over financial reporting as of
December 31, 2004, based on the criteria established in Internal
Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission and our report dated February
22, 2005 expressed an unqualified opinion on management's assessment of
the effectiveness of the Company's internal control over financial
reporting and an unqualified opinion on the effectiveness of the
Company's internal control over financial reporting.

/S/ DELOITTE & TOUCHE LLP

San Diego, California
February 22, 2005

28

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Shareholders of Pacific Enterprises:

We have audited management's assessment, included in the accompanying
Management's Report on Internal Control over Financial Reporting, that
Pacific Enterprises and subsidiaries (the "Company") maintained
effective internal control over financial reporting as of December 31,
2004, based on criteria established in Internal Control-Integrated
Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission. The Company's management is responsible for
maintaining effective internal control over financial reporting and for
its assessment of the effectiveness of internal control over financial
reporting. Our responsibility is to express an opinion on management's
assessment and an opinion on the effectiveness of the Company's
internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable
assurance about whether effective internal control over financial
reporting was maintained in all material respects. Our audit included
obtaining an understanding of internal control over financial
reporting, evaluating management's assessment, testing and evaluating
the design and operating effectiveness of internal control, and
performing such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable basis
for our opinions.

A company's internal control over financial reporting is a process
designed by, or under the supervision of, the company's principal
executive and principal financial officers, or persons performing
similar functions, and effected by the company's board of directors,
management, and other personnel to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with generally
accepted accounting principles. A company's internal control over
financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect the transactions and dispositions of the
assets of the company; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of
financial statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the company are being
made only in accordance with authorizations of management and directors
of the company; and (3) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use, or
disposition of the company's assets that could have a material effect
on the financial statements.

Because of the inherent limitations of internal control over financial
reporting, including the possibility of collusion or improper
management override of controls, material misstatements due to error or
fraud may not be prevented or detected on a timely basis. Also,

29

projections of any evaluation of the effectiveness of the internal
control over financial reporting to future periods are subject to the
risk that the controls may become inadequate because of changes in
conditions, or that the degree of compliance with the policies or
procedures may deteriorate.

In our opinion, management's assessment that the Company maintained
effective internal control over financial reporting as of December 31,
2004, is fairly stated, in all material respects, based on the criteria
established in Internal Control-Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission. Also
in our opinion, the Company maintained, in all material respects,
effective internal control over financial reporting as of December 31,
2004, based on the criteria established in Internal Control-Integrated
Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission.

We have also audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated
financial statements as of and for the year ended December 31, 2004 of
the Company and our report dated February 22, 2005 expressed an
unqualified opinion on those financial statements.

/s/ DELOITTE & TOUCHE LLP

San Diego, California
February 22, 2005

30

PACIFIC ENTERPRISES AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED INCOME
(Dollars in millions)

31

PACIFIC ENTERPRISES AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in millions)

32

PACIFIC ENTERPRISES AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in millions)

33

PACIFIC ENTERPRISES AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
(Dollars in millions)

34

PACIFIC ENTERPRISES AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CHANGES IN SHAREHOLDERS' EQUITY
Years ended December 31, 2004, 2003 and 2002
(Dollars in millions)

35

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1. SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation

The Consolidated Financial Statements include the accounts of Pacific
Enterprises (PE or the company) and its subsidiary, Southern California
Gas Company (SoCalGas or the company). The financial statements herein
are, in one case, the Consolidated Financial Statements of PE and its
subsidiary, SoCalGas, and, in the second case, the Consolidated
Financial Statements of SoCalGas and its subsidiaries, which comprise
less than one percent of SoCalGas' consolidated financial position and
results of operations. All material intercompany accounts and
transactions have been eliminated.

As a subsidiary of Sempra Energy, the company receives certain services
therefrom, for which it is charged its allocable share of the cost of
such services. Management believes that cost is reasonable, but
probably less than if the company had to provide those services itself.

Quasi-Reorganization

In 1993, PE effected a quasi-reorganization for financial reporting
purposes as of December 31, 1992. Certain of the liabilities
established in connection with the quasi-reorganization were favorably
resolved in 2003 and 2004, resulting in adjustments to common stock in
these years. The remaining liabilities will be resolved in future years
and management believes the provisions established for these matters
are adequate.

Use of Estimates in the Preparation of the Financial Statements

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of revenues and
expenses during the reporting period, and the reported amounts of
assets and liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements. Actual amounts can
differ significantly from those estimates.

Basis of Presentation

Certain prior-year amounts have been reclassified to conform to the
current year's presentation.

Regulatory Matters

Effects of Regulation

The accounting policies of the company conform with generally accepted
accounting principles for regulated enterprises and reflect the
policies of the California Public Utilities Commission (CPUC) and the
Federal Energy Regulatory Commission (FERC). SoCalGas and its
affiliate, San Diego Gas & Electric (SDG&E), are collectively referred
to herein as "the California Utilities."

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The company prepares its financial statements in accordance with the
provisions of SFAS 71, Accounting for the Effects of Certain Types of
Regulation, under which a regulated utility records a regulatory asset
if it is probable that, through the ratemaking process, the utility
will recover that asset from customers. To the extent that recovery is
no longer probable as a result of changes in regulation or the
utility's competitive position, the related regulatory assets would be
written off. In addition, SFAS 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, requires that a loss be recognized
whenever a regulator excludes all or part of utility plant or
regulatory assets from ratebase. Regulatory liabilities represent
reductions in future rates for amounts due to customers. Information
concerning regulatory assets and liabilities is provided below in
"Revenues," "Regulatory Balancing Accounts" and "Regulatory Assets and
Liabilities."

Regulatory Balancing Accounts

The amounts included in regulatory balancing accounts at December 31,
2004, represent net payables (payables net of receivables) that are
returned by reducing future rates.

Except for certain costs subject to balancing account treatment,
fluctuations in most operating and maintenance accounts affect utility
earnings. Balancing accounts provide a mechanism for charging utility
customers the amount actually incurred for certain costs, primarily
commodity costs. The CPUC has also approved balancing account treatment
for variances between forecast and actual for SoCalGas' commodity costs
and volumes, eliminating the impact on earnings from any throughput and
revenue variances from adopted forecast levels. Additional information
on regulatory matters is included in Note 9.

Regulatory Assets and Liabilities

In accordance with the accounting principles of SFAS 71, the company
records regulatory assets and regulatory liabilities as discussed
above.

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Regulatory assets (liabilities) as of December 31 relate to the
following matters:

(Dollars in millions) 2004 2003
- ---------------------------------------------------------------------
SoCalGas
- ---------
Fixed-price contracts and other derivatives $ 148 $ 233
Environmental remediation 42 44
Unamortized loss on retirement of debt, net 44 45
Cost of removal obligation** (1,446) (1,392)
Deferred taxes refundable in rates (199) (194)
Employee benefit costs 65 (77)
Other 7 9
---------------------
Total (1,339) (1,332)

PE - Employee benefit costs (transferred to
SoCalGas in 2004) -- 72
---------------------
Total PE consolidated $(1,339) $(1,260)
- ---------------------------------------------------------------------

** This is related to SFAS 143, Accounting for Asset Retirement
Obligations, which is discussed below in "New Accounting Standards."

Net regulatory assets (liabilities) are recorded on the Consolidated
Balance Sheets at December 31 as follows:

(Dollars in millions) 2004 2003
- ---------------------------------------------------------------------
SoCalGas
- --------
Current regulatory assets $ 123 $ 93
Noncurrent regulatory assets 52 148
Current regulatory liabilities* (1) --
Noncurrent regulatory liabilities (1,513) (1,573)
---------------------
Total (1,339) (1,332)

PE - Noncurrent regulatory liabilities -- 72
---------------------
Total PE consolidated $(1,339) $(1,260)
- ---------------------------------------------------------------------

* Included in Other Current Liabilities.

All of these assets either earn a return, generally at short-term
rates, or the cash has not yet been expended and the assets are offset
by liabilities that do not incur a carrying cost.

Cash and Cash Equivalents

Cash equivalents are highly liquid investments with maturities of three
months or less at the date of purchase.

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Collection Allowances

The allowance for doubtful accounts was $5 million, $4 million and $4
million at December 31, 2004, 2003 and 2002, respectively. The company
recorded a provision (reduction thereof) for doubtful accounts of $9
million, $3 million and $(5) million in 2004, 2003 and 2002,
respectively.

Inventories

At December 31, 2004, inventory shown on the Consolidated Balance
Sheets included natural gas of $61 million and materials and supplies
of $11 million. The corresponding balances at December 31, 2003 were
$63 million and $11 million, respectively. Natural gas is valued by the
last-in first-out (LIFO) method. When the inventory is consumed,
differences between the LIFO valuation and replacement cost are
reflected in customer rates. Materials and supplies at SoCalGas are
generally valued at the lower of average cost or market.

Income Taxes

Income tax expense includes current and deferred income taxes from
operations during the year. In accordance with SFAS 109, Accounting for
Income Taxes, the company records deferred income taxes for temporary
differences between the book and tax bases of assets and liabilities.
Investment tax credits from prior years are being amortized to income
over the estimated service lives of the properties. Other credits are
recognized in income as earned. The company follows certain provisions
of SFAS 109 that permit regulated enterprises to recognize deferred
taxes as regulatory assets or liabilities if it is probable that such
amounts will be recovered from, or returned to, customers.

Property, Plant and Equipment

Utility plant primarily represents the buildings, equipment and other
facilities used by SoCalGas to provide natural gas services.

The cost of plant includes labor, materials, contract services and
certain expenditures, including refurbishments, replacement of major
component parts and labor and overheads incurred to install the parts,
incurred during a major maintenance outage of a generating plant.
Maintenance costs are expensed as incurred. In addition, the cost of
plant includes an allowance for funds used during construction (AFUDC).
The cost of most retired depreciable utility plant minus salvage value
is charged to accumulated depreciation.

Accumulated depreciation for natural gas utility plant at SoCalGas was
$2.9 billion and $2.7 billion at December 31, 2004 and 2003,
respectively. A discussion of SFAS 143 is provided below under "New
Accounting Standards." Depreciation expense is based on the straight-
line method over the useful lives of the assets, an average of 23 years
in each of 2004, 2003 and 2002, or a shorter period prescribed by the
CPUC. The provision for depreciation as a percentage of average
depreciable utility plant was 3.68, 4.36 and 4.34 in 2004, 2003 and
2002, respectively. Note 9 includes a discussion of industry
restructuring, which affected recorded depreciation.

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AFUDC, which represents the cost of debt and equity funds used to
finance the construction of utility plant, is added to the cost of
utility plant. Although it is not a current source of cash, AFUDC
increases income and is recorded partly as an offset to interest
charges and partly as a component of Other Income and Deductions in the
Statements of Consolidated Income. AFUDC amounted to $6 million, $12
million and $13 million for 2004, 2003 and 2002, respectively.

Legal Fees

Legal fees that are associated with a past event and not expected to be
recovered in the future are accrued when it is probable that they will
be incurred.

Comprehensive Income

Comprehensive income includes all changes, except those resulting from
investments by owners and distributions to owners, in the equity of a
business enterprise from transactions and other events, including
foreign-currency translation adjustments minimum pension liability
adjustments, and certain hedging activities. The components of Other
Comprehensive Income, which consists of all these changes other than
net income as shown on the Statement of Consolidated Income, are shown
in the Statements of Consolidated Changes in Shareholders' Equity. At
December 31, 2004, Accumulated Other Comprehensive Income consisted
entirely of minimum pension liability adjustments, net of income tax.

Revenues

Revenues of SoCalGas are primarily derived from deliveries of natural
gas to customers and changes in related regulatory balancing accounts.
Revenues from natural gas sales and services are generally recorded
under the accrual method and recognized upon delivery. Natural gas
storage contract revenues are accrued on a monthly basis and reflect
reservation, storage and injection charges in accordance with
negotiated agreements, which have terms of up to three years. Operating
revenue includes amounts for services rendered but unbilled
(approximately one-half month's deliveries) at the end of each year.

Additional information concerning utility revenue recognition is
discussed above under "Regulatory Matters."

Transactions with Affiliates

On a daily basis, SoCalGas and SDG&E share numerous functions with each
other and they also receive various services from and provide various
services to Sempra Energy.

At December 31, 2004, PE has intercompany receivables from Sempra
Energy and other affiliates of $4 million and $3 million, respectively.
The corresponding amounts at December 31, 2003 were $73 million and $3
million, respectively. Of the total balances, $22 million was recorded
at SoCalGas at December 31, 2003 but no balance was recorded at
SoCalGas at December 31, 2004. Such amounts are included in current
assets as Due from Unconsolidated Affiliates. PE has a promissory note
due from Sempra Energy which bears a variable interest rate based on

40

short-term commercial paper rates. The balances of the note were $394
million and $354 million at December 31, 2004 and 2003, respectively,
and are included in noncurrent assets as Due from Unconsolidated
Affiliates. PE also had $2 million due from other affiliates at both
December 31, 2004 and 2003.

In addition, PE had intercompany payables due to various affiliates of
$127 million and $121 million at December 31, 2004 and 2003,
respectively, which are reported as a current liability. These balances
are due on demand. Of the total balances, $55 million was recorded at
SoCalGas at both December 31, 2004 and 2003.

New Accounting Standards

SFAS 123 (revised 2004), "Share-Based Payment" (SFAS 123R): In December
2004, the Financial Accounting Standards Board (FASB) issued SFAS 123R,
a revision of SFAS 123, Accounting for Stock-Based Compensation (SFAS
123), which establishes the accounting for transactions in which an
entity exchanges its equity instruments for goods or services received.
This statement requires companies to measure and record the cost of
employee services received in exchange for an award of equity
instruments based on the grant-date fair value of the award and gives
companies three alternative transition methods. The modified
prospective method requires companies to recognize compensation cost
for unvested awards that are outstanding on the effective date based on
the fair value that the company had originally estimated for purposes
of preparing its SFAS 123 pro forma disclosures. For all new awards
that are granted or modified after the effective date, a company would
use SFAS 123R's measurement model. The second alternative is a
variation of the modified prospective method, allowing companies to
restate earlier interim periods in the year that SFAS 123R is adopted
using applicable SFAS 123 pro forma amounts. Under the third
alternative, the modified retrospective method, companies would apply
the modified prospective method, but also restate their prior financial
statements to include the amounts that were previously reported in
their pro forma disclosures under the original provisions of SFAS 123.
The company has not determined the transition method it will use. The
effective date of this statement is July 1, 2005 for Sempra Energy.

SFAS 132 (revised 2003), "Employers' Disclosures about Pensions and
Other Postretirement Benefits": This statement revised employers'
disclosures about pension plans and other postretirement benefit plans.
It requires disclosures beyond those in the original SFAS 132 about the
assets, obligations, cash flows and net periodic benefit cost of
defined benefit pension plans and other defined postretirement plans.
It does not change the measurement or recognition of those plans. Note
5 provides additional information on employee benefit plans.

SFAS 143, "Accounting for Asset Retirement Obligations": Beginning in
2003, SFAS 143 requires entities to record liabilities for future costs
expected to be incurred when assets are retired from service, if the
retirement process is legally required. It requires recording of the
estimated retirement cost over the life of the related asset by
depreciating the present value of the obligation (measured at the time
of the asset's acquisition) and by accreting the present value of the
estimated future obligation over the asset's estimated useful life. The
adoption of SFAS 143 on January 1, 2003 resulted in the recording of

41

asset retirement obligations of $10 million associated with the future
retirement of three storage facilities. It also requires the
reclassification of estimated removal costs, which had historically
been recorded in accumulated depreciation, to a regulatory liability.
At both December 31, 2004 and 2003, these costs were $1.4 billion.
Implementation of SFAS 143 has had no effect on results of operations
and is not expected to have a significant effect in the future.

The changes in the asset retirement obligations for the years ended
December 31, 2004 and 2003 are as follows (dollars in millions):

2004 2003
- ------------------------------------------------------------------
Balance as of January 1 $ 11* $ --
Adoption of SFAS 143 -- 10
Accretion expense 1 1
Revision of estimated cash flows (3) --
------ ------
Balance as of December 31 $ 9* $ 11*
- ------------------------------------------------------------------

* The current portion of the obligation is included in Other Current
Liabilities on the Consolidated Balance Sheets.

In June 2004, the FASB issued a proposed interpretation, Accounting for
Conditional Asset Retirement Obligations, an interpretation of FASB
Statement No. 143. The interpretation would clarify that a legal
obligation to perform an asset retirement activity that is conditional
on a future event is within the scope of SFAS 143. Accordingly, the
interpretation would require an entity to recognize a liability for a
conditional asset retirement obligation if the liability's fair value
can be reasonably estimated. A final interpretation is expected to be
issued by the FASB in the first quarter of 2005 and would be effective
for the company on December 31, 2005. The company has not determined
the effect the proposed interpretation would have on its financial
statements if the proposed interpretation is adopted.

SFAS 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities": Effective July 1, 2003, SFAS 149 amended and
clarified accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging
activities under SFAS 133. Under SFAS 149, natural gas forward
contracts that are subject to unplanned netting generally do not
qualify for the normal purchases and normal sales exception. ("Unplanned
netting" refers to situations whereby contracts are settled by paying or
receiving money for the difference between the contract price and the
market price at the date on which physical delivery would have
occurred. The "normal purchases and normal sales exception" provides
for not marking to market contracts that are very rarely settled by
means other than physical delivery of the commodity involved in the
transaction.) In addition, effective January 1, 2004, power contracts
that are subject to unplanned netting and that do not meet the normal
purchases and normal sales exception under SFAS 149 will continue to be
marked to market. Implementation of SFAS 149 did not have a material
impact on reported net income.

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SFAS 151, "Inventory Costs, an amendment of ARB No. 43, Chapter 4":
This statement amends the guidance in Accounting Research Bulletin
(ARB) No. 43, Chapter 4, Inventory Pricing, to clarify the accounting
for abnormal amounts of idle facility expense, freight, handling cost
and wasted material. This statement requires that those items be
recognized as current-period charges regardless of whether they meet
the criteria of "abnormal". The statement is effective for inventory
costs incurred during fiscal years beginning after June 15, 2005. The
company does not expect that this statement will have a material impact
on the company's financial statements.

FASB Staff Position (FSP) 106-2, "Accounting and Disclosure
Requirements Related to the Medicare Prescription Drug, Improvement and
Modernization Act of 2003": The Medicare Prescription Drug, Improvement
and Modernization Act of 2003 (the "Act") was enacted in December of
2003. The Act establishes a prescription drug benefit under Medicare,
known as "Medicare Part D," and a tax-exempt federal subsidy to
sponsors of retiree health care benefit plans that provide a benefit
that actuarially is at least equivalent to Medicare Part D. At December
31, 2003, the company elected a one-time deferral of the accounting for
the Act, as permitted by FSP 106-1, Accounting and Disclosure
Requirements Related to the Medicare Prescription Drug, Improvement and
Modernization Act of 2003.

In May 2004, the FASB issued FSP 106-2, which supersedes FSP 106-1 and
provides guidance on the accounting, disclosure, effective date and
transition requirements related to the Medicare Prescription Drug Act.
During 2004, the company adopted FSP 106-2 retroactive to the beginning
of the year.

The company and its actuarial advisors determined that benefits
provided to certain participants will actuarially be at least
equivalent to Medicare Part D, and, accordingly, the company will be
entitled to an expected tax-exempt subsidy that reduces the company's
accumulated postretirement benefit obligation under the plan at January
1, 2004 by $94 million and the net postretirement benefit cost for 2004
by $12 million. Employee benefit plans are discussed further in Note 5.

NOTE 2. SHORT-TERM BORROWINGS

Committed Lines of Credit

SoCalGas and its affiliate, SDG&E, have a combined $500 million three-year
syndicated revolving credit facility under which each utility individually
may borrow up to $300 million, subject to a combined borrowing limit for
both utilities of $500 million. Borrowings under the agreement bear
interest at rates varying with market rates and SoCalGas' credit rating.
The agreement requires SoCalGas to maintain, at the end of each quarter, a
ratio of total indebtedness to total capitalization (a