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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(Mark one)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________________ to __________________
Commission File Number 1-6364
SOUTH JERSEY INDUSTRIES, INC.
(Exact name of registrant as specified in its charter)
New Jersey 22-1901645
(State of incorporation) (IRS employer identification no.)
1 South Jersey Plaza, Folsom, NJ 08037
(Address of principal executive offices, including zip code)
(609) 561-9000
(Registrant's telephone number, including area code)
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 (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
As of November 3, 2003, there were 13,001,350 shares of the registrant's common
stock outstanding.
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SJI-1
PART I -- FINANCIAL INFORMATION
Item 1. Financial Statements-- See Pages 3 through 21
SJI-2
SOUTH JERSEY INDUSTRIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(In Thousands Except for Per Share Data)
Three Months Ended
September 30,
-------------------------
2003 2002
----------- -----------
Operating Revenues:
Utility $ 53,267 $ 48,939
Nonutility 36,868 20,127
----------- -----------
Total Operating Revenues 90,135 69,066
----------- -----------
Operating Expenses:
Cost of Gas Sold - Utility 34,910 31,584
Cost of Sales - Nonutility 30,332 18,202
Operations 12,914 11,004
Maintenance 1,391 1,537
Depreciation 6,459 5,650
Energy and Other Taxes 1,414 1,446
----------- -----------
Total Operating Expenses 87,420 69,423
----------- -----------
Operating Income (Loss) 2,715 (357)
Other Income and Expense:
Equity in Affiliated Companies 170 287
Other 6 (54)
----------- -----------
Total Other Income and Expense 176 233
----------- -----------
Interest Charges 5,836 5,161
----------- -----------
Loss Before Income Taxes (2,945) (5,285)
Income Tax Benefit (1,327) (2,063)
----------- -----------
Loss from Continuing Operations (1,618) (3,222)
Discontinued Operations - Net (426) (18)
----------- -----------
Net Loss Applicable to Common Stock $ (2,044) $ (3,240)
=========== ===========
Basic Loss Per Common Share:
Continuing Operations $ (0.13) $ (0.27)
Discontinued Operations - Net (0.03) -
----------- -----------
Basic Loss Per Common Share $ (0.16) $ (0.27)
=========== ===========
Average Shares of Common Stock Outstanding - Basic 12,604 12,084
Diluted Loss Per Common Share:
Continuing Operations $ (0.13) $ (0.27)
Discontinued Operations - Net (0.03) -
----------- -----------
Diluted Loss Per Common Share $ (0.16) $ (0.27)
=========== ===========
Average Shares of Common Stock Outstanding - Diluted 12,604 12,084
Dividends Declared per Common Share $ 0.385 $ 0.375
=========== ===========
The accompanying footnotes are an integral part of the financial statements.
SJI-3
SOUTH JERSEY INDUSTRIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(In Thousands Except for Per Share Data)
Nine Months Ended
September 30,
-------------------------
2003 2002
----------- -----------
Operating Revenues:
Utility $ 337,571 $ 253,897
Nonutility 138,605 76,400
----------- -----------
Total Operating Revenues 476,176 330,297
----------- -----------
Operating Expenses:
Cost of Gas Sold - Utility 231,943 157,902
Cost of Sales - Nonutility 121,231 66,896
Operations 37,581 32,675
Maintenance 4,331 4,627
Depreciation 18,225 16,731
Energy and Other Taxes 8,734 7,408
----------- -----------
Total Operating Expenses 422,045 286,239
----------- -----------
Operating Income 54,131 44,058
----------- -----------
Other Income and Expense:
Equity in Affiliated Companies 549 653
Other (45) 556
----------- -----------
Total Other Income and Expense 504 1,209
----------- -----------
Interest Charges 15,115 15,729
----------- -----------
Income Before Income Taxes 39,520 29,538
Income Taxes 16,345 12,321
----------- -----------
Income from Continuing Operations 23,175 17,217
Discontinued Operations - Net (728) (168)
Cumulative Effect of a Change in Accounting
Principle - Net (426) -
----------- -----------
Net Income Applicable to Common Stock $ 22,021 $ 17,049
=========== ===========
Basic Earnings Per Common Share:
Continuing Operations $ 1.87 $ 1.44
Discontinued Operations - Net (0.06) (0.02)
Cumulative Effect of a Change in Accounting
Principle - Net (0.04) -
----------- -----------
Basic Earnings Per Common Share $ 1.77 $ 1.42
=========== ===========
Average Shares of Common Stock Outstanding - Basic 12,412 11,996
Diluted Earnings Per Common Share:
Continuing Operations $ 1.85 $ 1.43
Discontinued Operations - Net (0.06) (0.02)
Cumulative Effect of a Change in Accounting
Principle - Net (0.03) -
----------- -----------
Diluted Earnings Per Common Share $ 1.76 $ 1.41
=========== ===========
Average Shares of Common Stock Outstanding - Diluted 12,508 12,068
Dividends Declared per Common Share $ 1.155 $ 1.125
=========== ===========
The accompanying footnotes are an integral part of the financial statements.
SJI-4
SOUTH JERSEY INDUSTRIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In Thousands)
(Unaudited)
September 30, December 31,
------------------------------- --------------
2003 2002 2002
-------------- -------------- --------------
Assets
Property, Plant and Equipment:
Utility Plant, at original cost $ 879,842 $ 833,060 $ 846,865
Accumulated Depreciation (250,659) (232,685) (236,813)
Nonutility Property and Equipment, at cost 64,381 50,834 57,950
Accumulated Depreciation (1,941) (1,120) (1,428)
-------------- -------------- --------------
Property, Plant and Equipment - Net 691,623 650,089 666,574
-------------- -------------- --------------
Investments:
Available-for-Sale Securities 4,105 3,475 3,462
Restricted 12,412 4,763 2,080
Investment in Affiliates 3,036 2,894 2,932
-------------- -------------- --------------
Total Investments 19,553 11,132 8,474
-------------- -------------- --------------
Current Assets:
Cash and Cash Equivalents 5,064 4,867 4,291
Accounts Receivable 68,916 50,623 94,105
Unbilled Revenues 6,794 7,504 33,537
Provision for Uncollectibles (3,351) (2,666) (3,574)
Natural Gas in Storage, average cost 84,605 53,739 41,490
Materials and Supplies, average cost 3,494 3,737 4,156
Energy Trading and Related Assets 17,052 25,286 29,089
Prepaid Taxes 8,831 13,938 2,440
Derivatives 2,352 - -
Other Prepayments and Current Assets 6,030 6,585 6,761
-------------- -------------- --------------
Total Current Assets 199,787 163,613 212,295
-------------- -------------- --------------
Regulatory and Other Non-Current Assets:
Deferred Fuel Costs - Net 14,221 47,366 31,594
Other Regulatory Assets 73,351 75,522 73,710
Energy Trading and Related Assets 3,043 4,356 2,767
Derivatives 19 - -
Unamortized Debt Discount and Expense 7,200 6,958 7,086
Other 14,949 6,258 9,939
-------------- -------------- --------------
Total Regulatory and Other Non-Current Assets 112,783 140,460 125,096
-------------- -------------- --------------
Total Assets $ 1,023,746 $ 965,294 $ 1,012,439
============== ============== ==============
The accompanying footnotes are an integral part of the financial statements.
SJI-5
SOUTH JERSEY INDUSTRIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In Thousands)
(Unaudited)
September 30, December 31,
------------------------------- --------------
2003 2002 2002
-------------- -------------- --------------
Capitalization and Liabilities
Common Equity:
Common Stock $ 15,885 $ 15,135 $ 15,258
Premium on Common Stock 167,221 147,513 150,434
Accumulated Other Comprehensive Loss (13,110) (1,581) (5,902)
Retained Earnings 85,621 70,752 78,002
-------------- -------------- --------------
Total Common Equity 255,617 231,819 237,792
-------------- -------------- --------------
Preferred Stock of Subsidiary 1,690 1,690 1,690
-------------- -------------- --------------
Long-Term Debt 328,560 289,446 274,098
-------------- -------------- --------------
Total Capitalization 585,867 522,955 513,580
-------------- -------------- --------------
Current Liabilities:
Notes Payable 96,400 133,550 166,500
Current Maturities of Long-Term Debt 8,423 12,884 10,696
Accounts Payable 64,316 42,535 76,657
Customer Deposits 7,340 6,575 6,924
Environmental Remediation Costs 5,066 11,261 5,104
Taxes Accrued 8,235 2,917 892
Energy Trading and Related Liabilities 20,323 16,353 15,565
Derivatives 436 238 142
Deferred Income Taxes - Net 12,095 27,443 24,818
Interest Accrued and Other Current Liabilities 19,226 12,830 9,334
-------------- -------------- --------------
Total Current Liabilities 241,860 266,586 316,632
-------------- -------------- --------------
Deferred Credits and Other Non-Current Liabilities:
Deferred Income Taxes - Net 106,498 93,518 97,890
Investment Tax Credits 3,558 3,905 3,819
Pension and Other Postretirement Benefits 19,869 17,405 15,828
Environmental Remediation Costs 47,043 41,423 47,051
Energy Trading and Related Liabilities 2,580 3,335 2,095
Derivatives 2,234 2,585 2,431
Other 14,237 13,582 13,113
-------------- -------------- --------------
Total Deferred Credits
and Other Non-Current Liabilities 196,019 175,753 182,227
-------------- -------------- --------------
Commitments and Contingencies (Note 9)
Total Capitalization and Liabilities $ 1,023,746 $ 965,294 $ 1,012,439
============== ============== ==============
The accompanying footnotes are an integral part of the financial statements.
SJI-6
SOUTH JERSEY INDUSTRIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In Thousands)
Nine Months Ended
September 30,
--------------------------------
2003 2002
-------------- --------------
Cash Flows from Operating Activities:
Net Income Applicable to Common Stock $ 22,021 $ 17,049
Adjustments to Reconcile Net Income to Cash Flows
Provided by Operating Activities:
Depreciation and Amortization 20,639 18,470
Unrealized Gain on Energy Trading and Related Contracts (1,902) 71
Provision for Losses on Accounts Receivable 1,226 1,469
Revenues and Fuel Costs Deferred - Net 17,373 (8,169)
Deferred and Non-Current Income Taxes and Credits - Net 1,570 9,881
Environmental Remediation Costs - Net 3,366 5,882
Changes in:
Accounts Receivable 50,843 40,237
Inventories (42,453) 6,120
Prepayments and Other Current Assets (731) (2,968)
Prepaid and Accrued Taxes - Net 952 (9,114)
Accounts Payable and Other Accrued Liabilities (2,033) (6,428)
Other - Net 1,084 18
-------------- --------------
Net Cash Provided by Operating Activities 71,955 72,518
-------------- --------------
Cash Flows from Investing Activities:
Investment in Affiliate (104) (443)
Affiliate Repayment of Loan 495 130
Purchase of Available-For-Sale Securities (238) (440)
(Purchase of) Proceeds from Sale of Restricted Investments (10,332) 18,199
Capital Expenditures, Cost of Removal and Salvage (44,422) (61,787)
-------------- --------------
Net Cash Used in Investing Activities (54,601) (44,341)
-------------- --------------
Cash Flows from Financing Activities:
Net Repayments of Lines of Credit (115,100) (18,810)
Proceeds from Issuance of Long-Term Debt 116,000 10,000
Principal Repayments of Long-Term Debt (18,811) (12,733)
Dividends on Common Stock (14,402) (13,515)
Proceeds from Sale of Common Stock 17,361 7,842
Payments for Issuance of Long-Term Debt (1,629) (59)
-------------- --------------
Net Cash Used in Financing Activities (16,581) (27,275)
-------------- --------------
Net Increase in Cash and Cash Equivalents 773 902
Cash and Cash Equivalents at Beginning of Period 4,291 3,965
-------------- --------------
Cash and Cash Equivalents at End of Period $ 5,064 $ 4,867
============== ==============
The accompanying footnotes are an integral part of the financial statements.
SJI-7
Notes to Condensed Consolidated Financial Statements (Unaudited)
Note 1. Summary of Significant Accounting Policies:
Consolidation - The condensed consolidated financial statements include
the accounts of South Jersey Industries, Inc. (SJI) and its subsidiaries. We
eliminated all significant intercompany accounts and transactions. SJI
reclassified some previously reported amounts to conform with current year
classifications. In our opinion, the condensed consolidated financial statements
reflect all adjustments needed to fairly present SJI's financial position and
operating results at the dates and for the periods presented. Our businesses are
subject to seasonal fluctuations and, accordingly, this interim financial
information should not be the basis for estimating the full year's operating
results. These financial statements should be read in conjunction with SJI's
Form 10-K and annual report for the fiscal year ended December 31, 2002.
Equity Investments - We classify equity investments purchased as
long-term investments as Available-for-Sale Securities on our condensed
consolidated balance sheets and carry them at their estimated fair value with
any changes in unrealized gains or losses included in Other Comprehensive
Income. SJI, either directly or through its wholly owned subsidiaries, currently
holds a 50% non-controlling interest in two affiliated companies and accounts
for these investments under the equity method. We include the operations of
these affiliated companies in the statements of condensed consolidated income
under the caption Equity in Affiliated Companies.
Estimates and Assumptions - We prepare our financial statements to
conform with generally accepted accounting principles. Management makes
estimates and assumptions that affect the amounts reported in the financial
statements and related disclosures. Therefore, actual results could differ from
those estimates.
Energy Trading Activities & Derivative Instruments - South Jersey
Resources Group, LLC (SJRG) manages its portfolio of purchases and sales, as
well as natural gas in storage, using a variety of instruments that include
forward contracts, swap agreements, option contracts and futures contracts.
Because SJRG's transactions will not necessarily settle physically, SJRG
accounted for these contracts at fair value under Emerging Issues Task Force
(EITF) Issue No. 98-10, "Accounting for Contracts Involved in Energy Trading and
Risk Management Activities" or FASB Statement No. 133, "Accounting for
Derivative Instruments and Hedging Activities," as amended. Under this method of
accounting, SJRG measures the difference between the contract price and the fair
value of the contracts and records these as Energy Trading and Related Assets or
Energy Trading and Related Liabilities on our condensed consolidated balance
sheets. For the three months ended September 30, 2003 and 2002, we recorded a
net unrealized pre-tax gain (loss) of $1.1 million and $(0.9) million,
respectively. For the nine months ended September 30, 2003 and 2002, we recorded
a net unrealized pre-tax gain (loss) of $1.9 million and $(0.1) million,
respectively. These unrealized gains and losses on energy trading and related
contracts determined under the mark-to-market method are included in Operating
Revenues - Nonutility.
SJI-8
Beginning with the third quarter of 2002, SJI began presenting revenues
and expenses related to SJRG's physical power contracts and energy-related
derivative contracts on a net basis in our condensed consolidated statements of
income consistent with EITF Issue No. 02-03, "Issues Involved in Accounting for
Derivative Contracts Held for Trading Purposes and Contracts Involved in Energy
Trading and Risk Management Activities." Because of the difficulty in obtaining
certain information, we determined this presentation by netting the energy
contract related revenue and expense transactions of SJRG. As a result, we based
certain nonutility costs of sales on the transfer prices between SJRG and South
Jersey Energy Company (SJE). These transfer prices are generally at market.
There is no effect on operating income or net income from the above changes in
presentation.
On October 25, 2002, the EITF rescinded its consensus in Issue No.
98-10 effective for transactions entered into after that date, with a cumulative
effect adjustment for previously existing transactions being recognized in the
quarter beginning January 1, 2003. As a result of the rescission, SJI only
marks-to-market those energy-related contracts that meet the definition of a
derivative in FASB Statement No. 133. Energy-related contracts that do not meet
the definition of a derivative are accounted for using the accrual basis of
accounting. The effect of this change in accounting resulted in a net charge of
$426,338 in the first quarter of 2003 shown as a Cumulative Effect of a Change
in Accounting Principle - Net. Furthermore, management has designated any
contract entered into after December 31, 2002 to hedge physical gas in storage
as a cash flow hedge and accounts for them accordingly. We include these
balances on the condensed consolidated balance sheets under the caption
Derivatives. As of September 30, 2003, we calculated these hedges to be highly
effective; therefore, we record the offset, net of taxes, in Accumulated Other
Comprehensive Loss.
In November 2001, we entered into two interest rate swap contracts. The
first swap effectively provides us with a fixed interest rate of 4.08% on Marina
Energy LLC's (Marina) tax-exempt Series A variable rate bonds for a 10-year
period. The second swap effectively fixed the interest rate of Marina's taxable
Series B variable rate bonds at 4.55% for a 6-year period. The notional amount
of this second swap decreases by $3.0 million per year beginning in December
2005.
In January 2002, Marina issued an additional $10.0 million of taxable
Series B variable rate bonds. In April 2002, we entered into an interest rate
swap contract that effectively fixed the interest rate on these bonds at 4.62%
for a 4-year period. The notional amount of this swap decreases to $8.0 million
in December 2003, then to $3.9 million in December 2004, and terminates in
December 2005.
In May 2003, SJG entered into an interest rate swap contract that
effectively fixed the interest rate at 2.24% through May 20, 2004 on $20.0
million of SJG's debt outstanding under its bank credit agreements.
We entered into interest rate swap agreements to hedge the exposure to
increasing rates with respect to our variable rate debt. The differential to be
paid or received as a result of these swap agreements is accrued as interest
rates change and is recognized as an adjustment to interest expense. We account
for these interest rate swaps as cash flow hedges. As of September 30, 2003 and
2002, the market value of these swaps was $(2.3) and $(2.7) million,
SJI-9
respectively, which represents the amount we would have to pay the counterparty
to terminate these contracts as of those dates. We include these balances on the
condensed consolidated balance sheets under the caption Derivatives. As of
September 30, 2003 and 2002, we calculated the swaps to be highly effective;
therefore, we record the offset to the hedge, net of taxes, in Accumulated Other
Comprehensive Loss.
We determined the fair value of derivative instruments by reference to
quoted market prices of listed contracts, published quotations or quotations
from independent parties.
Stock Compensation - Prior to 2003, SJI valued stock options to
employees using the intrinsic value method. Effective in 2003, SJI adopted the
policy of accounting for this compensation using the fair value based method on
a prospective basis. At this time, SJI has no stock options outstanding.
New Accounting Pronouncements - In January 2003, SJI adopted FASB
Statement No. 143, "Accounting for Asset Retirement Obligations," which
establishes accounting and reporting standards for legal obligations associated
with the retirement of tangible long-lived assets and the associated asset
retirement costs. SJG has certain easements and right-of-way agreements that
qualify as legal obligations under Statement No. 143. However, it is our intent
to maintain these agreements in perpetuity; therefore, no change in SJG's
current accounting practices is required at this time.
SJG recovers certain asset retirement costs through rates charged to
customers as an approved component of depreciation expense. When we retire
depreciable properties, we charge the original cost thereof, plus cost of
removal less salvage, to accumulated depreciation. As of September 30, 2003, SJG
had accrued amounts in excess of actual removal costs incurred totaling $44.4
million which is included in Utility Plant Accumulated Depreciation. The
adoption of this statement did not materially affect SJI's financial condition
or results of operations.
In December 2002, the FASB issued Statement No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure," which was effective for
SJI's 2002 annual financial statements and subsequent interim financial
reporting. This statement provides alternate methods of transitioning for a
voluntary change to the fair value based method of accounting for stock-based
employee compensation. In addition, it requires prominent disclosures about the
method of accounting for stock-based employee compensation and the effect of the
method used on reported results. Effective April 1, 2003, SJI adopted the policy
of accounting for this compensation using the fair value based method on a
prospective basis. This method calls for the expensing of the estimated fair
value of a stock option. The provisions of this statement currently have no
impact on SJI's financial statements.
In January 2003, the FASB issued FASB Interpretation No. ("FIN") 46,
"Consolidation of Variable Interest Entities." The Interpretation clarifies the
application of Accounting Research Bulletin No. 51, "Consolidated Financial
Statements," to certain entities in which equity investors do not have the
characteristics of controlling financial interest or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties. Management has evaluated the
impact of the adoption of FIN 46 and has determined that SJG Capital Trust,
which was established for the sole purpose of issuing $35 million of mandatorily
SJI-10
redeemable preferred securities, will no longer be consolidated into the
financial statements of SJI effective July 1, 2003. As a result, SJI now reports
the original equity investment amount in SJG Capital Trust as a separate $1.1
million investment in an affiliate. SJI is also required to report the $36.1
million subordinated debenture to SJG Capital Trust as debt on its condensed
consolidated balance sheet rather than the $35 million of mandatorily redeemable
preferred securities that it had previously reported. Previously reported
amounts have been restated to conform with current reporting requirements. The
adoption of FIN 46 did not have an impact on SJI's net income or retained
earnings for the periods reported.
In April 2003, the FASB issued Statement No. 149, "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities," which is
effective for certain contracts entered into or modified and for hedging
relationships designated after June 30, 2003. The amendments set forth in
Statement No. 149 require that certain contracts with comparable characteristics
be accounted for similarly. We have determined there is no impact on our
financial statements from the provisions of this statement.
In May 2003, the FASB issued Statement No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity."
Statement No. 150 requires that certain types of financial instruments be
reported as liabilities by their issuers. With the adoption of FIN 46, we expect
Statement No. 150 to have no impact on our financial statements.
In August 2003, the EITF reached a consensus on Issue No. 03-11, which
provides guidance on whether to report realized gains or losses on physically
settled derivative contracts not held for trading purposes on a gross basis, and
realized gains or losses on derivative contracts that net settle on a net basis.
The new guidance is applicable for financial statement periods after September
30, 2003. Management believes the portion of SJRG's operations that are not
currently being presented on a gross basis meet the definition of "trading" in
accordance with EITF No. 02-03, and are, therefore, reported net. We expect no
impact to our financial statements related to EITF No. 03-11.
Other Regulatory Assets - Other Regulatory Assets consisted of the
following items (in thousands):
Years September 30 December 31
Remaining 2003 2002 2002
________________________________________________________________________________
Environmental Remediation Costs:
Expended - Net 7 $ 3,058 $ 6,891 $ 6,470
Liability for Future Expenditures - 48,211 48,790 48,211
Income Taxes - Flowthrough
Depreciation 8.0 7,864 8,841 8,597
Postretirement Benefit Costs 9.3 3,496 3,875 3,780
Gross Receipts and Franchise Taxes 3.3 1,478 1,922 1,811
Other - 9,244 5,203 4,841
_________________________________
Total Other Regulatory Assets $ 73,351 $ 75,522 $ 73,710
=================================
SJI-11
Each item separately identified is being recovered through utility rate
charges without a return on investment over the period indicated. The majority
of the assets reflected under the caption "Other Regulatory Assets" are
currently subject to recovery through SJG's Societal Benefits Clause (SBC) as
described in Note 7, Regulatory Actions. As of September 30, 2003, SJG has $7.8
million of deferred costs subject to recovery from ratepayers through its SBC,
excluding environmental remediation costs. All other assets reflected within
this balance sheet caption are currently subject to filings with the New Jersey
Board of Public Utilities (BPU) requesting recovery. Management believes that
all such deferred costs are probable of recovery from ratepayers through future
utility rates.
In addition, we had one significant regulatory liability for
overcollected taxes totaling $3.9 million and $2.4 million, including interest,
as of September 30, 2003 and 2002, respectively. We included these amounts in
the caption "Other" under the heading Deferred Credits and Other Non-Current
Liabilities and they are subject to being returned to ratepayers in future rate
proceedings.
Note 2. Divestitures and Affiliations:
Divestitures - In 1996, Energy & Minerals, Inc. (EMI), an SJI
subsidiary, sold the common stock of The Morie Company, Inc. (Morie), its sand
mining and processing subsidiary.
In 1997, R&T Group, Inc., SJI's construction subsidiary, sold all its
operating assets, except some real estate.
SJI conducts tests annually to estimate the environmental remediation
costs for properties owned by South Jersey Fuel, Inc. (SJF), an EMI subsidiary,
from its previously operated fuel oil business. SJI reports the environmental
remediation activity related to these properties as discontinued operations.
This reporting is consistent with previous years.
SJG operated two retail stores which sold natural gas appliances. The
stores were intended to provide gas customers with access to and choice among
natural gas appliances. In 2001, SJG formally discontinued this merchandising
segment of its operations as those appliances are readily available from other
retailers.
Summarized operating results of the discontinued operations for the
three and nine months ending September 30 are as follows (in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
2003 2002 2003 2002
________________________________________
Loss before Income Taxes:
Sand Mining $ (211) $ (16) $ (640) $ (222)
Construction (8) (2) (24) (14)
Fuel Oil (478) (12) (499) (43)
Income Taxes 271 12 435 111
________________________________________
Loss from Discontinued Operations - Net $ (426) $ (18) $ (728) $ (168)
========================================
Loss Per Common Share from
Discontinued Operations - Net $(0.03) $(0.00) $ (0.06) $ (0.02)
========================================
SJI-12
Losses from sand mining are mainly comprised of product liability
litigation associated with Morie's prior activities. Losses from fuel oil are
mainly attributable to a property sale in August 2003.
Affiliations - In January 1999, SJI and Conectiv Solutions, LLC formed
Millennium Account Services, LLC to provide meter reading services in southern
New Jersey.
In June 1999, SJE and Energy East Solutions, Inc. (EES) formed South
Jersey Energy Solutions, LLC (SJES) to market retail electricity and energy
management services. SJES began supplying retail electric during 2000, and
ceased active operations in May 2002. In January 2003, SJES became a wholly
owned subsidiary of SJE when EES redeemed its 50% interest in SJES for the book
value of its investment of $54,686.
In April 2000, SJE and GZA GeoEnvironmental, Inc. formed AirLogics, LLC
to market a jointly developed air monitoring system designed to assist companies
involved in environmental cleanup activities.
In October 2000, SJI formed Marina, a wholly owned subsidiary, to
develop, construct and operate a $56.6 million thermal energy plant. In December
2000, Marina entered into a 20-year contract with Marina District Development
Corporation to supply heat, hot water and cooling to The Borgata Resort in
Atlantic City. The plant began commercial operations in July 2003.
Note 3. Common Stock:
SJI has 20,000,000 shares of authorized Common Stock. The following
shares were issued and outstanding:
2003 2002
_____________________________
Beginning Balance, January 1 12,206,474 11,860,990
New Issues During Year:
Dividend Reinvestment Plan 468,151 243,544
Employees' Stock Ownership Plan 1,511 2,530
Stock Option, Stock Appreciation Rights
and Restricted Stock Award Plan 32,005 590
_____________________________
Ending Balance, September 30 12,708,141 12,107,654
=============================
We credited the par value ($1.25 per share) of stock issued in 2003 and
2002 to Common Stock. We credited the net excess over par value of approximately
$16.8 million and $7.6 million, respectively, to Premium on Common Stock.
SJI-13
Earnings Per Common Share - We present basic EPS based on the
weighted-average number of common shares outstanding. EPS is presented in
accordance with FASB Statement No. 128, "Earnings Per Share," which establishes
standards for computing and presenting basic and diluted EPS. The incremental
shares required for inclusion in the denominator for the diluted EPS calculation
were 96,555 and 71,861 shares for the nine months ended September 30, 2003 and
2002, respectively. Because they would have an antidilutive effect on EPS,
incremental shares of 105,783 and 98,277 for the three months ended September
30, 2003 and 2002, respectively, were not included in the denominator for a
diluted EPS calculation. These shares relate to restricted stock and were
calculated using the treasury stock method.
Stock Option, Stock Appreciation Rights and Restricted Stock Award Plan
- - Under this plan, up to an aggregate of 306,000 shares may be issued to SJI's
officers and other key employees. No options or stock appreciation rights may be
granted under the Plan after November 22, 2006. At September 30, 2003 and 2002,
SJI had no options outstanding. No options were granted in 2003 or 2002. No
stock appreciation rights were issued under the Plan. In 1999, we amended the
Plan to include restricted stock awards. In 2003 and 2002, we granted 30,810 and
23,839 restricted shares, respectively. These restricted shares vest over a
3-year period and are subject to SJI's achieving certain performance targets.
Dividend Reinvestment Plan (DRP) and Employees' Stock Ownership Plan
(ESOP) - Newly issued shares of common stock offered through the DRP are issued
directly by SJI. All shares offered through the ESOP are also issued directly by
SJI. As of September 30, 2003, 697,556 and 14,055 shares of authorized, but
unissued, common stock were registered for future issuance to the DRP and ESOP,
respectively.
Note 4. Financial Instruments:
Restricted Investments - In accordance with the terms of Marina's bond
agreements, we are required to invest unused proceeds in high-quality, highly
liquid investments pending approved construction expenditures. As of September
30, 2003 and 2002, these residual proceeds totaled $-0- and $4.8 million,
respectively.
Margin Account - SJRG maintains a margin account with a national
investment firm to support its energy trading activities. As of September 30,
2003 and 2002, the account reflected a $12.4 million and $0.5 million balance
due to changes in the market value of outstanding contracts.
Note 5. Segments of Business:
Information about SJI's operations in different industry segments for
the three and nine months ended September 30 is presented below (in thousands):
SJI-14
Three Months Ended Nine Months Ended
September 30, September 30,
2003 2002 2003 2002
Operating Revenues:
Gas Utility Operations $ 58,490 $ 51,765 $ 373,973 $270,954
Wholesale Gas Operations 2,322 561 8,320 4,061
Retail Gas and Other Operations 30,145 19,761 124,802 72,816
On-Site Energy Production 5,447 294 7,447 365
____________________________________________________
Subtotal 96,404 72,381 514,542 348,196
Intersegment Sales (6,269) (3,315) (38,366) (17,899)
____________________________________________________
Total Operating Revenues $ 90,135 $ 69,066 $ 476,176 $ 330,297
====================================================
Operating Income:
Gas Utility Operations $ (1,047) $ (992) $ 43,169 $ 37,643
Wholesale Gas Operations 2,055 323 5,326 3,663
Retail Gas and Other Operations 70 348 3,951 2,931
On-Site Energy Production 1,844 117 2,323 138
General Corporate (207) (153) (638) (317)
___________________________________________________
Total Operating Income $ 2,715 $ (357) $ 54,131 $ 44,058
===================================================
Depreciation and Amortization:
Gas Utility Operations $ 7,192 $ 6,162 $ 20,008 $ 18,366
Wholesale Gas Operations 3 3 9 9
Retail Gas and Other Operations 28 21 77 63
On-Site Energy Production 467 5 524 5
Discontinued Operations 7 10 21 27
___________________________________________________
Total Depreciation and Amortization $ 7,697 $ 6,201 $ 20,639 $ 18,470
===================================================
Property Additions:
Gas Utility Operations $ 13,296 $ 12,947 $ 36,956 $ 34,314
Wholesale Gas Operations 2 - 2 -
Retail Gas and Other Operations 36 8 192 63
On-Site Energy Production 1,520 8,416 6,806 26,714
__________________________________________________
Total Property Additions $ 14,854 $ 21,371 $ 43,956 $ 61,091
==================================================
Identifiable Assets:
Gas Utility Operations $ 863,078 $ 851,288
Wholesale Gas Operations 63,013 42,436
Retail Gas and Other Operations 31,669 26,970
On-Site Energy Production 71,437 55,690
Discontinued Operations 2,354 2,350
___________________________
Subtotal 1,031,551 978,734
Corporate Assets 41,437 34,214
Intersegment Assets (49,242) (47,654)
___________________________
Total Identifiable Assets $ 1,023,746 $ 965,294
===========================
SJI-15
Gas Utility Operations consists primarily of natural gas distribution
to residential, commercial and industrial customers. Wholesale Gas Operations
include SJRG's activities. Retail Gas and Other Operations include natural gas
and electricity acquisition and transportation service companies. On-Site Energy
Production consists of Marina's construction and related financing activities.
SJI's interest expense relates primarily to SJG's and Marina's
borrowing and financing activities. Interest income is essentially derived from
borrowings between the subsidiaries and is eliminated during consolidation.
Note 6. Comprehensive Income:
The components of comprehensive income for the three and nine months
ended September 30 are as follows (in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
2003 2002 2003 2002
_______________________________________
Net (Loss) Income Applicable to
Common Stock $ (2,044) $ (3,240) $ 22,021 $ 17,049
Other Comprehensive Income (Loss):
Change in Fair Value of Investments - Net* 83 - 236 -
Change in Fair Value of Energy Trading
and Related Assets / Liabilities - Net* (7,436) 1,212 (7,622) 2,077
Change in Fair Value of Interest Rate
Swaps - Net * 396 (1,161) 177 (1,970)
______________________________________
Total Other Comprehensive (Loss) Income (6,957) 51 (7,209) 107
______________________________________
Comprehensive (Loss) Income $ (9,001) $ (3,189) $ 14,812 $17,156
======================================
* Determined using a combined statutory tax rate of 40.85%.
Note 7. Regulatory Actions:
In January 1997, the BPU granted SJG rate relief, which was predicated
in part, upon a 9.62% rate of return on rate base, which included an 11.25%
return on common equity. Additionally, our threshold for sharing pre-tax margins
generated by interruptible and off-system sales and transportation increased.
Currently, SJG keeps 100% of pre-tax margins up to the threshold level of $7.8
million. The next $750,000 is credited to customers through the Basic Gas Supply
Service ("BGSS") clause. Thereafter, SJG keeps 20% of the pre-tax margins as we
have historically.
Effective January 10, 2000, the BPU approved full unbundling of SJG's
system. This allows all natural gas consumers to select their natural gas
commodity supplier. As of September 30, 2003, 98,149 of SJG's residential
customers were purchasing their gas commodity from someone other than SJG.
SJI-16
Customers choosing to purchase natural gas from providers other than the utility
are charged for the cost of gas by the marketer, not the utility. The resulting
decrease in SJG's revenues is offset by a corresponding decrease in gas costs.
While customer choice can reduce utility revenues, it does not negatively affect
SJG's net income or financial condition. The BPU continues to allow for full
recovery of natural gas costs through the BGSS. Other costs of service,
including deferred costs, are recovered through base rates.
In November 2001, SJG filed for a $2.7 million rate increase to recover
the cash related to a 3-year net deficiency in the Temperature Adjustment Clause
(TAC). Additionally, in September 2002, SJG filed for an $8.6 million rate
increase to recover the cash related to a TAC deficiency resulting from
warmer-than-normal weather for the 2001-2002 winter. As a result of the
colder-than-normal 2002-2003 winter, the cumulative TAC deficiency decreased to
$5.7 million. In August 2003, the BPU approved the recovery of the $5.7 million
TAC deficiency, effective September 1, 2003.
In December 2001, the BPU approved recovery of SJG's October 31, 2001
underrecovered gas cost balance of $48.9 million plus accrued interest since
April 1, 2001 at a rate of 5.75%. As of September 30, 2003, the remaining
deferred underrecovered balance totaled $20.2 million.
During 2002, the BPU convened a gas policy group to address BGSS, which
is the gas supply service being provided by the natural gas utility. In December
2002, the BPU approved the proposed BGSS price structure. The BGSS approved
price structure replaced the Levelized Gas Adjustment Clause (LGAC) pricing
structure. The LGAC was structured to reset gas charges to consumers once per
year. The BGSS resets gas prices monthly for larger customers, and for smaller
customers permits multiple resets each year, if certain conditions are met. With
the implementation of BGSS in March 2003, customers are able to make more
informed decisions about choosing an alternate supplier by having a utility
pricing structure that more currently reflects market conditions. Further, BGSS
provides SJG with more pricing flexibility, through self-implementing rate
changes under certain conditions and limitations, resulting in the reduction of
over/under-recoveries. LGAC related mechanisms, such as deferred accounting
treatment, the sharing of pre-tax margins generated by interruptible and
off-system sales and transportation, and the allowance for full recovery of
natural gas costs, remain in place under BGSS.
In August 2002, SJG filed for a SBC rate increase. The SBC recovers
costs related to BPU mandated programs and environmental remediation costs that
are recovered through SJG's Remediation Adjustment Clause (RAC); energy
efficiency and renewable energy program costs that are recovered through SJG's
New Jersey Clean Energy Programs; consumer education program costs; and the
interim low income program costs. In August 2003, the BPU approved a $6.7
million increase to SJG's SBC, effective September 1, 2003. This approval
increases the current annual recovery level of $6.7 million to $13.4 million.
Also in August 2002, SJG filed a petition with the BPU to transfer its
appliance service business from the regulated utility into a newly created
unregulated company. As filed, the newly created company would have the
flexibility to be more responsive to competition and customer needs by expanding
and modifying its service offerings in an unregulated environment.
SJI-17
In September 2002, SJG filed with the BPU to maintain its current BGSS
rate through October 2003. However, due to price increases in the wholesale
market, in February 2003 SJG filed an amendment to the September 2002 filing. In
April 2003, the BPU approved a $16.6 million increase to SJG's annual gas costs
revenues.
In March 2003, the BPU approved a statewide Universal Service Fund
(USF) program on a permanent basis. In June 2003, the BPU established a
statewide program through which funds for the USF and Lifeline Credit and
Tenants Assistance (Lifeline) Programs would be collected from customers of all
electric and gas utilities in the state. The BPU ordered that utility rates be
set to recover a total statewide USF budget of $33 million, and a total Lifeline
budget of $72 million. Recovery rates for both programs were implemented on
August 1, 2003.
In July 2003, SJG made its annual BGSS filing, as amended, with the
BPU. Due to further price increases in the wholesale market, SJG filed for a
$24.0 million increase to its annual gas cost revenues. In August 2003, the BPU
approved SJG's proposed $24.0 million price increase on a provisional basis,
subject to refund with interest, effective September 1, 2003.
In August 2003, SJG filed a base rate case with the BPU to increase its
base rate in an effort to obtain a certain level of return on its investment of
capital. SJG expects the rate case to be concluded some time during 2004. SJG
has not sought a base rate increase from the BPU since the implementation of its
base rate case approval in January 1997.
Filings and petitions described above are still pending unless
otherwise indicated.
Note 8. Retained Earnings:
Restrictions exist under various loan agreements regarding the amount
of cash dividends or other distributions that SJG may pay on its common stock.
As of September 30, 2003, SJG's restrictions do not affect the amount that may
be distributed from SJI's retained earnings.
Note 9. Commitments and Contingencies:
Construction and Environmental - SJI's estimated net cost of
construction and environmental remediation programs for 2003 totals $57.8
million. Commitments were made regarding some of these programs.
Pending Litigation - SJI is subject to claims arising in the ordinary
course of business and other legal proceedings. We accrue liabilities related to
these claims when we can determine the amount or range of amounts of likely
settlement costs for those claims. Among other actions, SJI has been named in
certain product liability claims related to our former sand mining subsidiary.
Management does not currently anticipate the disposition of any known claims to
have a material adverse effect on SJI's financial position, results of
operations or liquidity.
Parental Guarantees - In 2002, the FASB released Interpretation No. 45
(FIN 45) "Guarantor's Accounting and Disclosure Requirements for Guarantees,
SJI-18
Including Indirect Guarantees of Indebtedness of Others." FIN 45 requires
companies to disclose the nature of its guarantees or indemnification agreements
for interim and year-end financial statements ending after December 15, 2002. As
of September 30, 2003, SJI had issued $131.8 million of parental guarantees on
behalf of its subsidiaries. Of this total, $89.0 million expire within one year,
$106.0 million expire within two years and $25.8 million presently have no
expiration date. The vast majority of these guarantees were issued as guarantees
of payment to third parties with whom our subsidiaries have commodity supply
contracts. As of September 30, 2003, these guarantees support $20.2 million of
the Accounts Payable recorded on our condensed consolidated balance sheet. As
part of our risk management policy, we also require parental guarantees from
trading counterparties as applicable. These arrangements are typical in our
industry. SJI has also guaranteed $7.3 million related to Marina's construction
activity.
Standby Letters of Credit - SJI provided a $17 million standby letter
of credit to Marina District Development Corporation in support of Marina's
contractual obligations to construct the thermal energy plant and to supply
heat, hot water and cooling to The Borgata Resort. This letter of credit was
reduced to $6.4 million as of September 30, 2003.
As of September 30, 2003, SJI also provided $46 million of standby
letters of credit from commercial banks supporting the variable rate demand
bonds issued through the New Jersey Economic Development Authority used to
finance Marina's thermal plant project.
Also as of September 30, 2003, SJI has issued two letters of credit
totaling $800,000 to two different utilities. These letters were posted to
enable SJE to market retail electricity within the respective utilities' service
territories.
Environmental Remediation Costs - SJI incurred and recorded costs for
environmental clean up of sites where SJG or its predecessors operated gas
manufacturing plants. SJG stopped manufacturing gas in the 1950s. SJI and some
of its nonutility subsidiaries also recorded costs for environmental clean up of
sites where SJF previously operated a fuel oil business and Morie maintained
equipment, fueling stations and storage.
SJI successfully entered into settlements with all of its historic
comprehensive general liability carriers regarding the environmental remediation
expenditures at the SJG sites. Also, SJG purchased a Cleanup Cost Cap Insurance
Policy limiting the amount of remediation expenditures that SJG will be required
to make at 11 of its sites. This Policy will be in force until 2024 at 10 sites
and until 2029 at one site. The minimum future cost estimate discussed below is
not reduced by projected insurance recoveries from the Cleanup Cost Cap
Insurance Policy.
Since the early 1980s, SJI accrued environmental remediation costs of
$140.0 million, of which $87.8 million has been spent as of September 30, 2003.
With the assistance of a consulting firm, we estimate that future costs to clean
up SJG's sites will range from $48.2 million to $143.9 million. We recorded the
lower end of this range as a liability. It is reflected on the 2003 condensed
consolidated balance sheet under the captions Current Liabilities and Deferred
Credits and Other Non-Current Liabilities. Recorded amounts include estimated
costs based on projected investigation and remediation work plans using existing
technologies. Actual costs could differ from the estimates due to the long-term
SJI-19
nature of the projects, changing technology, government regulations and
site-specific requirements. The major portion of accrued environmental costs
relate to the clean up of SJG's former gas manufacturing sites.
SJG has two regulatory assets associated with environmental costs. The
first asset is titled Environmental Remediation Cost: Expended - Net. These
expenditures represent what was actually spent to clean up former gas
manufacturing plant sites. These costs meet the requirements of Statement No.
71. The BPU allows SJG to recover expenditures through the RAC.
The other asset titled Environmental Remediation Cost: Liability for
Future Expenditures relates to estimated future expenditures determined under
the guidance of FASB Statement No. 5, "Accounting for Contingencies." We
recorded this amount, which relates to former manufactured gas plant sites, as a
deferred debit with the corresponding amount reflected on the condensed
consolidated balance sheets under the captions Current Liabilities and Deferred
Credits and Other Non-Current Liabilities. The deferred debit is a regulatory
asset under Statement No. 71. The BPU's intent, evidenced by current practice,
is to allow SJG to recover the deferred costs over 7-year periods after they are
spent.
As of September 30, 2003, we reflected SJG's unamortized remediation
costs of $3.1 million on the condensed consolidated balance sheet under the
caption Regulatory Assets. Since implementing the RAC in 1992, SJG has recovered
$39.4 million through rates.
With Morie's sale, EMI assumed responsibility for environmental
liabilities estimated between $2.7 million and $8.8 million. The information
available on these sites is sufficient only to establish a range of probable
liability and no point within the range is more likely than any other.
Therefore, EMI continues to accrue the lower end of the range. Changes in the
accrual are included in the statements of condensed consolidated income under
the caption Loss from Discontinued Operations - Net.
SJI and SJF estimated their potential exposure for the future
remediation of four sites where fuel oil operations existed years ago. Estimates
for SJI's site range between $0.1 million and $0.3 million, while SJF's
estimated liability ranges from $1.1 million to $4.9 million for its three
sites. We recorded the lower ends of these ranges on the condensed consolidated
balance sheet under Current Liabilities and Deferred Credits and Other
Non-Current Liabilities as of September 30, 2003.
Note 10. Long-Term Debt:
On July 16, 2003, SJG issued $85.5 million of debt under its Medium
Term Note program established in 2002. On September 17, 2003, SJG issued an
additional $24.5 million of Medium Term Notes. A remainder of $40.0 million is
authorized to be issued under this program through July 31, 2005. The debt
issued has maturities of 10, 11, 13, 14 and 30 years, with a weighted average
maturity of 17 years at a weighted average interest rate of 4.97%. Proceeds were
used to refinance short-term borrowings under commercial bank credit facilities.
SJI-20
Note 11. Subsequent Events:
On October 3, 2003, SJG called for the redemption of its $36.1 million
subordinated debentures issued to its affiliate, SJG Capital Trust. This
redemption was effective November 5, 2003, at which time SJG Capital Trust
redeemed all of its $35 million of mandatorily redeemable preferred securities.
On October 14, 2003, SJG redeemed its 6.95% First Mortgage Bonds in
their entirety. The principal amount of the redemption totaled $31.9 million.
SJG paid a premium of $1.0 million in conjunction with the early redemption.
SJI-21
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
Overview
South Jersey Industries, Inc. (SJI) is an energy services holding
company that provides a variety of products and services through the following
wholly owned subsidiaries:
1) South Jersey Gas Company (SJG) is a regulated natural gas utility.
SJG distributes natural gas in the seven southernmost counties of New Jersey to
299,609 customers at September 30, 2003 compared with 291,733 customers at
September 30, 2002. SJG also:
o sells natural gas and pipeline transportation capacity (off-system
sales) on a wholesale basis to various customers on the interstate
pipeline system;
o transports natural gas purchased directly from producers or suppliers
for its own sales and for some of its customers; and
o services appliances via the sale of appliance warranty programs, as
well as on a time and materials basis.
2) South Jersey Energy Company (SJE) acquires and markets natural gas
and electricity to retail end users and provides total energy management
services to commercial and industrial customers. SJE has one subsidiary, SJ
EnerTrade (EnerTrade), that formerly provided services for natural gas sales to
the casino industry in Atlantic City, N.J. and is now inactive. SJE also markets
an air quality monitoring system through AirLogics, LLC. SJE and GZA
GeoEnvironmental, Inc., an environmental consulting firm, each have a 50% equity
interest in AirLogics.
3) South Jersey Resources Group, LLC (SJRG) markets wholesale natural
gas storage, commodity and transportation in the mid-Atlantic and southern
states. SJRG also conducts price-risk management activities.
4) Marina Energy LLC (Marina) develops and operates energy-related
projects in southern New Jersey. Marina's largest project, the development of a
facility to provide cooling, heating and hot water to The Borgata Resort in
Atlantic City, began commercial operations in July 2003.
SJI also has a joint venture investment with Conectiv Solutions, LLC in
Millennium Account Services, LLC (Millennium). Millennium provides meter reading
services to SJG and Conectiv Power Delivery in southern New Jersey.
Forward-Looking Statements - This report contains certain
forward-looking statements concerning projected financial and operating
performance, future plans and courses of action and future economic conditions.
All statements in this report other than statements of historical fact are
forward-looking statements. These forward-looking statements are made based upon
SJI-22
management's expectations and beliefs concerning future events impacting the
company and involve a number of risks and uncertainties. We caution that
forward-looking statements are not guarantees and actual results could differ
materially from those expressed or implied in the forward-looking statements.
Also, in making forward-looking statements, we assume no duty to update these
statements should expectations change or actual results and events differ from
current expectations.
A number of factors could cause our actual results to differ materially
from those anticipated including, but not limited to, the following: general
economic conditions on an international, national, state and local level;
weather conditions in our marketing areas; changes in commodity costs; changes
in the availability of natural gas; regulatory and court decisions; competition
in our utility and nonutility activities; the availability and cost of capital;
our ability to maintain existing joint ventures to take advantage of marketing
opportunities; costs and effects of legal proceedings and environmental
liabilities; the failure of customers or suppliers to fulfill their contractual
obligations; and changes in business strategies.
Estimates and Assumptions - As described in the footnotes to our
condensed consolidated financial statements, management must make estimates and
assumptions that affect the amounts reported in the financial statements and
related disclosures. Actual results could differ from those estimates. Three
types of transactions presented in our condensed consolidated financial
statements require a significant amount of judgment and estimation. These relate
to regulatory assets, energy trading activities and environmental remediation
costs.
The New Jersey Board of Public Utilities (BPU) has reviewed and
approved, through specific orders, most of the items shown as regulatory assets.
Other items represent costs that were not yet approved by the BPU for recovery,
but are the subject of current or future filings. In recording these costs as
regulatory assets, management believes the costs are probable of recovery under
existing rate-making concepts that are embodied in current rate orders received
by SJG. However, ultimate recovery is subject to BPU approval.
SJI recognizes assets or liabilities for the energy-related contracts
entered into by its non-regulated subsidiary, SJRG, when the contracts are
executed. We record contracts at their fair value in accordance with FASB
Statement No. 133. We adjust the fair value of the contracts each reporting
period for changes in the market. We derive the fair value for most of the
energy-related contracts from markets where the contracts are actively traded
and quoted. For other contracts, SJI uses published market surveys and in
certain cases, independent parties to obtain quotes concerning the contracts'
current value. Market quotes tend to be more plentiful for contracts maturing in
two years or less. Very few of our contracts extend beyond two years.
An outside consulting firm assists us in estimating future costs for
environmental remediation activities. We estimate future costs based on
projected investigation and work plans using existing technologies. Developing a
single reliable estimation point is not feasible because of the amount of
uncertainty involved in the nature of projected remediation efforts and the long
period over which remediation efforts will continue. Therefore, we estimate the
range of future costs at $52.1 million to $157.9 million. In preparing financial
statements, SJI records liabilities for future costs using the lower end of the
range. We update estimates each year to take into account past efforts, changes
in work plans and remediation technologies.
SJI-23
Revenue Recognition - SJG, SJE and SJRG bill customers monthly for gas
delivered and recognize those revenues during the month. For SJG and SJE retail
customers we do not bill at the end of each month; we make an accrual to
recognize revenues for gas delivered from the date of the last meter reading to
the end of the month. We bill SJG customers at rates approved by the BPU. SJE
and SJRG customers are billed at rates negotiated between the parties.
We defer and recognize revenues related to SJG's appliance warranty
contracts over the full 12-month term of the contract as earned.
The BPU allows SJG to recover the excess cost of gas sold over the cost
included in rates through the Basic Gas Supply Service (BGSS) price structure
(formerly known as the Levelized Gas Adjustment Clause). SJG defers
over/under-recoveries of gas costs and includes them in subsequent adjustments
to the BGSS rate or other similar rate recovery mechanism. These adjustments
result in over/under-recoveries of gas costs being included in rates during
future periods. As a result of these deferrals, utility revenue recognition does
not directly translate to profitability. While we realize profits on gas sales
during the month of providing the utility service, significant shifts in revenue
recognition may result from the various recovery clauses approved by the BPU
(See Regulatory Matters) without shifting profits between periods, as these
clauses provide for recovery of costs on a dollar-for-dollar basis.
New Accounting Pronouncements - In January 2003, SJI adopted Statement
No. 143, "Accounting for Asset Retirement Obligations," which establishes
accounting and reporting standards for legal obligations associated with the
retirement of tangible long-lived assets and the associated asset retirement
costs. SJG has certain easements and right-of-way agreements that qualify as
legal obligations under Statement No. 143. However, SJG intends to maintain
these agreements in perpetuity; therefore, no change in its current accounting
practices is required at this time.
SJG recovers certain asset retirement costs through rates charged to
customers as an approved component of depreciation expense. When SJG retires
depreciable properties, we charge the original cost thereof, plus cost of
removal less salvage, to accumulated depreciation. As of September 30, 2003, SJG
had accrued amounts in excess of actual removal costs incurred totaling $44.4
million which is included in utility plant accumulated depreciation. We do not
expect the adoption of this statement to materially affect SJI's financial
condition or results of operations.
In December 2002, the FASB issued Statement No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure," which is effective for
SJI's 2002 annual financial statements and subsequent interim financial
reporting. This statement provides alternate methods of transitioning for a
voluntary change to the fair value based method of accounting for stock-based
employee compensation. In addition, it requires prominent disclosures about the
method of accounting for stock-based employee compensation and the effect of the
method used on reported results. Effective April 1, 2003, SJI adopted the policy
of accounting for this compensation using the fair value based method on a
prospective basis. This method calls for the expensing of the estimated fair
value of a stock option. The provisions of this statement currently have no
impact on SJI's financial statements.
SJI-24
In January 2003, the FASB issued FASB Interpretation No. ("FIN") 46,
"Consolidation of Variable Interest Entities." The Interpretation clarifies the
application of Accounting Research Bulletin No. 51, "Consolidated Financial
Statements," to certain entities in which equity investors do not have the
characteristics of controlling financial interest or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties. Management has evaluated the
impact of the adoption of FIN 46 and has determined that SJG Capital Trust,
which was established for the sole purpose of issuing $35 million of mandatorily
redeemable preferred securities, will no longer be consolidated into the
financial statements of SJI effective July 1, 2003. As a result, SJI now reports
the investment in SJG's Capital Trust as a separate $1.1 million investment in
an affiliate, the original equity investment amount in SJG Capital Trust. SJI is
also required to report the $36.1 million subordinated debenture to SJG Capital
Trust as debt on its condensed consolidated balance sheet rather than the $35
million of mandatorily redeemable preferred securities that it had previously
reported. Previously reported amounts have been restated to conform with current
reporting requirements. The adoption of FIN 46 did not have an impact on SJI's
net income or retained earnings for the periods reported.
In April 2003, the FASB issued Statement No. 149, "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities," which is
effective for certain contracts entered into or modified and for hedging
relationships designated after June 30, 2003. The amendments set forth in
Statement No. 149 require that certain contracts with comparable characteristics
be accounted for similarly. We have determined there is no impact on our
financial statements from the provisions of this statement.
In May 2003, the FASB issued Statement No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity."
Statement No. 150 requires that certain types of financial instruments be
reported as liabilities by their issuers. With the adoption of FIN 46, we expect
Statement No. 150 to have no impact on our financial statements.
In August 2003, the EITF reached a consensus on Issue No. 03-11, which
provides guidance on whether to report realized gains or losses on physically
settled derivative contracts not held for trading purposes on a gross basis, and
realized gains or losses on derivative contracts that net settle on a net basis.
The new guidance is applicable for financial statement periods after September
30, 2003. Management believes the portion of SJRG's operations that are not
currently being presented on a gross basis meet the definition of "trading" in
accordance with EITF No. 02-03, and are, therefore, reported net. We expect no
impact to our financial statements related to EITF No. 03-11.
Mandatorily Redeemable Preferred Securities - SJG's statutory trust
affiliate, SJG Capital Trust, currently has $35 million of 8.35% SJG-Guaranteed
Mandatorily Redeemable Preferred Securities outstanding. The securities
currently trade on the New York Stock Exchange under the symbol SJI.T. In
conjunction with the issuance of the Preferred Securities, SJG issued $36.1
million of subordinated debentures to SJG Capital Trust. The $36.1 million
subordinated debentures issued to SJG Capital Trust are reflected as liabilities
effective July 1, 2003.
On October 3, 2003, SJG called for the redemption of its $36.1 million
subordinated debentures issued to its affiliate, SJG Capital Trust. This
redemption was effective November 5, 2003, at which time SJG Capital Trust
SJI-25
redeemed all of its $35 million of mandatorily redeemable preferred securities.
Customer Choice Legislation - All residential natural gas customers in
New Jersey can choose their gas supplier under the terms of the Electric
Discount and Energy Competition Act of 1999. As of September 30, 2003, 98,149
SJG residential customers chose a natural gas commodity supplier other than the
utility. This number increased from 79,969 at September 30, 2002 as marketers
were able to offer natural gas at prices competitive with those available under
regulated utility tariffs. Customers purchasing natural gas from providers other
than SJG are charged for gas costs by the marketer, not SJG. The resulting
decrease in SJG's revenues is offset by a corresponding decrease in SJG's gas
costs. While customer choice can reduce utility revenues, it does not negatively
affect SJG's net income or financial condition. The BPU continues to allow for
full recovery of natural gas costs through the Basic Gas Supply Service Clause
as well as other costs of service including deferred costs, through tariffs. SJI
has benefited from customer choice legislation as SJE has successfully competed
for and profited from its gas commodity customers.
Temperature Adjustment Clause - SJG's Board of Public Utilities
approved Temperature Adjustment Clause (TAC) had the following impacts on 2003
and 2002 third quarter and nine months net earnings:
2003 2002
______________ _____________
TAC Adjustment (Decrease) Increase to
Net Income (in thousands)
Quarter Ended September 30 $ (38) $ -
Nine Months Ended September 30 $ (2,415) $ 3,249
The clause is designed to mitigate the effect of variations in heating
season temperatures from historical norms for both SJG and its customers. While
the revenue and income impacts of TAC adjustments are recorded as incurred, cash
inflows or outflows directly attributable to TAC adjustments generally do not
begin until the next TAC year. Each TAC year begins October 1.
Operating Revenues - Utility - Revenues increased $4.3 million and $83.7 million
in the third quarter and for the nine months ended September 30, 2003,
respectively, compared with the prior year periods. These increases were
primarily due to three factors. First, weather for the nine months ended
September 30, 2003 was 30.8% colder than the respective prior year period.
Weather was not a material factor on third quarter revenues. Second, off-system
sales revenues increased due to higher prices for natural gas sold in 2003 than
in the prior year. Third, SJG's total customers increased from 291,733 as of
September 30, 2002 to 299,609 as of September 30, 2003. Partially offsetting the
effect of these factors was a 23% increase in the number of residential
customers purchasing their gas from a source other than SJG. The decline in
customers who purchased their natural gas from SJG directly impacted utility
revenues. However, since gas costs are passed on directly to customers without
any profit margin added by SJG, the increased customer usage of gas marketers
did not impact SJG's profitability.
SJI-26
As a result of SJG's Temperature Adjustment Clause, revenues from
utility ratepayers are closely tied to 20-year normal temperatures calculated
under the clause and not actual temperatures. While the clause significantly
reduces fluctuations in revenues related to temperature, as a general rule,
revenues continue to be positively impacted by colder weather and negatively
impacted by warmer weather. During the nine months ended September 30, 2003,
weather was 30.8% colder than in 2002 and 9.2% colder than the 20-year TAC
average.
The following is a comparison of operating revenue and throughput for
the three and nine month periods ended September 30, 2003 vs. the same periods
ended September 30, 2002.
Three Months Ended Nine Months Ended
September 30, September 30,
2003 2002 2003 2002
_________________________________________
Operating Revenues (Thousands):
Firm
Residential $ 16,523 $ 13,612 $ 131,529 $ 114,844
Commercial 5,595 5,560 40,311 34,215
Industrial 661 535 4,002 3,082
Cogeneration & Electric Generation 2,384 4,136 5,675 7,715
Firm Transportation 8,933 7,274 50,135 29,932
_________________________________________
Total Firm Operating Revenues 34,096 31,117 231,652 189,788
_________________________________________
Interruptible 268 207 1,317 753
Interruptible Transportation 252 298 747 1,100
Off-System 21,532 18,131 133,247 72,792
Capacity Release & Storage 1,559 1,213 4,372 4,043
Other 783 798 2,638 2,478
Intercompany Sales (5,223) (2,825) (36,402) (17,057)
_________________________________________
Total Operating Revenues $ 53,267 $ 48,939 $ 337,571 $ 253,897
=========================================
Throughput (MMcf):
Firm
Residential 912 891 11,416 10,262
Commercial 395 478 3,917 3,496
Industrial 13 17 161 132
Cogeneration & Electric Generation 341 1,000 689 1,722
Firm Transportation 5,541 5,138 23,031 17,932
_________________________________________
Total Firm Throughput 7,202 7,524 39,214 33,544
_________________________________________
Interruptible 38 37 170 140
Interruptible Transportation 511 619 1,469 2,259
Off-System 3,945 5,227 19,419 21,470
Capacity Release & Storage 12,613 12,640 29,008 29,784
_________________________________________
Total Throughput 24,309 26,047 89,280 87,197
=========================================
Total gas throughput decreased 6.7% to 24.3 billion cubic feet (Bcf)
in the third quarter and increased 2.4% to 89.3 Bcf for the nine months ended
SJI-27
September 30, 2003 compared with the respective prior year periods. The higher
throughput year-to-date was primarily due to the addition of 7,876 customers and
colder temperatures experienced in 2003. The increase in year-to-date firm
transportation throughput reflected the increasing number of households
purchasing their gas from suppliers other than SJG.
Operating Revenues - Nonutility - Nonutility operating revenues increased by
$16.7 million and $62.2 million for the third quarter and first nine months of
2003, respectively, compared to the same periods of 2002. Most of the increase
was due to the significant customer growth experienced by SJE, evidenced by the
addition of over 21,200 residential and 2,600 commercial natural gas customers
over the last twelve months. Higher natural gas prices and significantly colder
weather primarily in the first quarter also contributed to this increase.
Cost of Gas Sold - Utility - Gas purchased for resale increased $3.3 million and
$74.0 million for the third quarter and for the nine months ended September 30,
2003, respectively, compared with the same periods in 2002 due principally to an
increase in firm gas sales volume and higher gas costs for off-system sales.
Colder weather was the main cause of the increase in firm gas sales volume;
however, this was partially offset by the migration of firm gas sales customers
to transportation service. SJG's gas cost during the third quarter of 2003
averaged $6.83 per decatherm (dt) compared with $4.59/dt in 2002. During the
nine months ended September 30, 2003, gas costs averaged $6.67/dt compared with
$4.59/dt in 2002. Unlike gas costs associated with off-system sales, changes in
the unit cost of gas sold to utility ratepayers do not directly affect cost of
gas sold. We defer fluctuations in gas costs to ratepayers not reflected in
current rates in future periods under a BPU-approved Basic Gas Supply Service
price structure, formerly known as the Levelized Gas Adjustment Clause. Gas
supply sources include contract and open-market purchases. SJG secures and
maintains its own gas supplies to serve its sales customers. We do not
anticipate any difficulty renewing or replacing expiring contracts under
substantially similar terms and conditions.
Cost of Sales - Nonutility - Cost of sales - nonutility increased $12.1 million
and $54.3 million for the third quarter and nine months ended September 30, 2003
compared to the same periods of 2002 due mainly to SJE's customer growth, colder
temperatures and higher gas prices as described in the Operating Revenues -
Nonutility section.
Operations - A summary of net changes in operations (in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
2003 vs. 2002 2003 vs. 2002
______________________________________
Utility:
Other Production Expense $ 12 $ 44
Transmission 2 46
Distribution (224) 70
Customer Accounts and Services 110 (76)
Sales 19 104
Administration and General 693 1,642
Nonutility 1,298 3,076
________________________________
Total Operations $ 1,910 $ 4,906
================================
SJI-28
Distribution expenses decreased in the third quarter of 2003 as labor
costs have been directed more toward capital improvement activities as compared
to the same period last year.
Administrative and General expenses increased in both the three and
nine months ended September 30, 2003 compared with the same periods in 2002
primarily because of increasing healthcare and pension costs, consulting costs
related to SJG's implementation of the Sarbanes-Oxley Act of 2002, and costs
associated with the establishment of committed bank facilities.
Nonutility expenses in 2003 rose primarily due to higher customer
acquisition costs resulting from substantial growth in SJE's customer base and
activity associated with Marina's energy projects.
Other Operating Expenses - A summary of principal changes in other consolidated
operating expenses (in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
2003 vs. 2002 2003 vs. 2002
__________________ _________________
Maintenance $ (146) $ (296)
Depreciation 809 1,494
Energy and Other Taxes (32) 1,326
Depreciation was higher due to SJG's and Marina's increased investment
in property, plant and equipment. The increase in Energy and Other Taxes relate
primarily to increases in volumes of gas sold and transported by SJG as
reflected under the caption, "Operating Revenues - Utility".
Interest Charges - Interest charges were higher in the third quarter of 2003
compared with the same period of 2002 due primarily to Marina Energy incurring
interest that was previously permitted to be capitalized during the construction
phase of their thermal energy plant. Interest charges were lower for the first
nine months of 2003 compared with the same period of 2002 due primarily to
reduction in short-term rates on line of credit borrowings and the refunding of
higher priced, fixed rate, long-term debt with lower cost, floating rate, and
short-term debt. These refundings were refinanced in July and September 2003
with long-term debt issuances under our Medium Term Note program at
significantly lower interest rates compared to the previous long-term interest
rates.
Discontinued Operations - Loss from discontinued operations increased in 2003
due mainly to product liability litigation associated with previously disposed
of businesses, coupled with the sale of property in August 2003.
Cumulative Effect of a Change in Accounting Principle - Net - In October 2002,
the EITF rescinded its consensus in Issue No. 98-10 effective for transactions
entered into after that date, with a cumulative effect adjustment for previously
existing transactions to be recognized in the quarter beginning January 1, 2003.
As a result of the rescission, SJI only marks-to-market those energy-related
contracts that meet the definition of a derivative in Statement No. 133.
SJI-29
Energy-related contracts that do not meet the definition of a derivative are
accounted for using the accrual basis of accounting. The effect of this change
in accounting resulted in a net charge of $426,338 shown as a Cumulative Effect
of a Change in Accounting Principle - Net. Furthermore, management has
designated any contract entered into after December 31, 2002 to hedge physical
gas in storage as a cash flow hedge and accounts for them accordingly. As of
September 30, 2003, we calculated these hedges to be highly effective;
therefore, we record the offset, net of taxes, in Accumulated Other
Comprehensive Loss.
Net Income Applicable to Common Stock - Net income (in thousands) and earnings
per common share reflect the following changes:
Three Months Ended Nine Months Ended
September 30, September 30,
2003 vs. 2002 2003 vs. 2002
_____________________________________
Income from Continuing Operations $ 1,604 $ 5,958
Loss from Discontinued Operations - Net (408) (560)
Cumulative Effect of Accounting Change - Net - (426)
___________________________
Net Income Increase $ 1,196 $ 4,972
===========================
Earnings per Common Share:
Continuing Operations $ 0.14 $ 0.43
Discontinued Operations - Net (0.03) (0.04)
Cumulative Effect of Accounting Change - Net - (0.04)
___________________________
Earnings per Share Increase $ 0.11 $ 0.35
===========================
Regulatory Matters - In January 1997, the BPU granted SJG rate relief, which was
predicated in part, upon a 9.62% rate of return on rate base, which included an
11.25% return on common equity. Additionally, our threshold for sharing pre-tax
margins generated by interruptible and off-system sales and transportation
increased. Currently, SJG keeps 100% of pre-tax margins up to the threshold
level of $7.8 million. The next $750,000 is credited to customers through the
Basic Gas Supply Service ("BGSS") clause. Thereafter, SJG keeps 20% of the
pre-tax margins as we have historically.
Effective January 10, 2000, the BPU approved full unbundling of SJG's
system. This allows all natural gas consumers to select their natural gas
commodity supplier. As of September 30, 2003, 98,149 of SJG's residential
customers were purchasing their gas commodity from someone other than SJG.
Customers choosing to purchase natural gas from providers other than the utility
are charged for the cost of gas by the marketer, not the utility. The resulting
decrease in SJG's revenues is offset by a corresponding decrease in gas costs.
While customer choice can reduce utility revenues, it does not negatively affect
SJG's net income or financial condition. The BPU continues to allow for full
recovery of natural gas costs through the BGSS. Other costs of service,
including deferred costs, are recovered through base rates.
In November 2001, SJG filed for a $2.7 million rate increase to recover
the cash related to a 3-year net deficiency in the Temperature Adjustment Clause
(TAC). Additionally, in September 2002, SJG filed for an $8.6 million rate
increase to recover the cash related to a TAC deficiency resulting from
warmer-than-normal weather for the 2001-2002 winter. As a result of the
SJI-30
colder-than-normal 2002-2003 winter, the cumulative TAC deficiency decreased to
$5.7 million. In August 2003, the BPU approved the recovery of the $5.7 million
TAC deficiency, effective September 1, 2003.
In December 2001, the BPU approved recovery of SJG's October 31, 2001
underrecovered gas cost balance of $48.9 million plus accrued interest since
April 1, 2001 at a rate of 5.75%. As of September 30, 2003, the remaining
deferred underrecovered balance totaled $20.2 million.
During 2002, the BPU convened a gas policy group to address Basic Gas
Supply Service (BGSS), which is the gas supply service being provided by the
natural gas utility. In December 2002, the BPU approved the proposed BGSS price
structure. The BGSS approved price structure replaced the Levelized Gas
Adjustment Clause (LGAC) pricing structure. The LGAC was structured to reset gas
charges to consumers once per year. The BGSS resets gas prices monthly for
larger customers, and for smaller customers permits multiple resets each year,
if certain conditions are met. With the implementation of BGSS in March 2003,
customers are able to make more informed decisions about choosing an alternate
supplier by having a utility pricing structure that more currently reflects
market conditions. Further, BGSS provides SJG with more pricing flexibility,
through self-implementing rate changes under certain conditions and limitations,
resulting in the reduction of over/under-recoveries. LGAC related mechanisms,
such as deferred accounting treatment, the sharing of pre-tax margins generated
by interruptible and off-system sales and transportation, and the allowance for
full recovery of natural gas costs, remain in place under BGSS.
In August 2002, SJG filed for a Societal Benefits Clause (SBC) rate
increase. The SBC recovers costs related to BPU mandated programs and
environmental remediation costs that are recovered through SJG's Remediation
Adjustment Clause (RAC); energy efficiency and renewable energy program costs
that are recovered through SJG's New Jersey Clean Energy Programs; consumer
education program costs; and the interim low income program costs. In August
2003, the BPU approved a $6.7 million increase to SJG's SBC, effective September
1, 2003. This approval increases the current annual recovery level of $6.7
million to $13.4 million.
Also in August 2002, SJG filed a petition with the BPU to transfer its
appliance service business from the regulated utility into a newly created
unregulated company. As filed, the newly created company would have the
flexibility to be more responsive to competition and customer needs by expanding
and modifying its service offerings in an unregulated environment.
In September 2002, SJG filed with the BPU to maintain its current BGSS
rate through October 2003. However, due to price increases in the wholesale
market, in February 2003 SJG filed an amendment to the September 2002 filing. In
April 2003, the BPU approved a $16.6 million increase to SJG's annual gas costs
revenues.
In March 2003, the BPU approved a statewide Universal Service Fund
(USF) program on a permanent basis. In June 2003, the BPU established a
statewide program through which funds for the USF and Lifeline Credit and
Tenants Assistance (Lifeline) Programs would be collected from customers of all
electric and gas utilities in the state. The BPU ordered that utility rates be
SJI-31
set to recover a total statewide USF budget of $33 million, and a total Lifeline
budget of $72 million. Recovery rates for both programs were implemented on
August 1, 2003.
In July 2003, SJG made its annual BGSS filing, as amended, with the
BPU. Due to further price increases in the wholesale market, SJG filed for a
$24.0 million increase to its annual gas cost revenues. In August 2003, the BPU
approved SJG's proposed $24.0 million price increase on a provisional basis,
subject to refund with interest effective September 1, 2003.
In August 2003, SJG filed a base rate case with the BPU to increase its
base rate in an effort to obtain a certain level of return on its investment of
capital. SJG expects the rate case to be concluded some time during 2004. SJG
has not sought a base rate increase from the BPU since the implementation of its
base rate case approval in January 1997.
Filings and petitions described above are still pending unless
otherwise indicated.
Liquidity and Capital Resources - Liquidity needs at SJI are driven by factors
that include natural gas commodity prices; the impact of weather on customer
bills; lags in fully collecting gas costs from customers under the Basic Gas
Supply Service charge; working capital needs of our energy trading and marketing
activities; the timing of construction and remediation expenditures and related
permanent financings; mandated tax payment dates; and both discretionary and
required repayments of long-term debt.
Bank credit available to SJI totaled $226.0 million at September 30,
2003, of which $51.4 million was used. Those bank facilities consist of a $100
million, three-year revolving credit and $76 million of uncommitted bank lines
available to SJG and a $40 million, 364-day revolving credit and $10 million of
uncommitted bank lines available to SJI. The revolving credits were established
in August 2003 with a syndicate of banks for the purpose of enhancing the
liquidity positions of both companies. Based upon the existing credit facilities
and a regular dialog with our banks, we believe that there will continue to be
sufficient credit available to meet our business' future liquidity needs.
SJI supplements its operating cash flow and credit lines with both debt
and equity capital. Over the years, SJG has used long-term debt, primarily in
the form of First Mortgage Bonds, to finance its long-term needs. These needs
are primarily capital expenditures for property, plant and equipment. Since
1998, SJG has financed these needs via a Medium Term Note (MTN) program, secured
by the First Mortgage Bonds. SJG's registration of a new $150 million MTN
program with the Securities and Exchange Commission became effective in December
2002. This program replaces a previous $100 million, 3-year MTN program that was
fully used in 2001. In July 2003, SJG issued $85.5 million of long-term debt
under the program. In September, SJG issued an additional $24.5 million of
MTN's. Consequently, $40.0 million of the MTN program remains available for
future debt issuances. Proceeds of the July and September issues were used to
refinance short-term debt outstanding under commercial bank lines and for the
redemption of certain high-rate First Mortgage Bonds. Current maturities on
long-term debt over the next five years are as follows, $8.4 million per year in
2003 through 2007 and $6.1 million in 2008.
SJI-32
Between September 2001 and January 2003, Marina issued $20 million of
tax-exempt and $25 million of taxable variable rate demand bonds (VRDB's)
through the New Jersey Economic Development Authority. The tax-exempt and
taxable bonds mature in 2031 and 2021, respectively. Investors in the bonds
receive liquidity and credit support via a letter of credit provided by a
syndicate of commercial banks. While the ultimate maturity of these bonds is no
less than 18 years, the underlying letter of credit that provides liquidity
support for the weekly remarketing of the VRDB's extends to September 2004.
Consequently, we have reclassified the VRDB's from Long-Term Debt to Notes
Payable on SJI's balance sheet. Going forward, it is our intent to extend the
letter of credit to a maturity of more than one year and reflect the VRDB's on
SJI's balance sheet as long-term debt. Management does not anticipate any
difficulty obtaining an extension of the letter of credit maturity date. We used
the proceeds of these bond issuances to fund project development and
construction costs for the thermal energy plant constructed by Marina to serve
The Borgata Resort which opened in July 2003.
SJI has raised equity capital over the past three years through its
Dividend Reinvestment Plan (DRP). Participants in SJI's DRP receive newly issued
shares. We offer a 2% discount on DRP investments because it is the most
cost-effective way for us to raise equity capital in the quantities we are
seeking. Through the DRP, SJI raised $16.4 million of equity capital by issuing
632,249 shares for the nine months ended September 30, 2003 and $7.9 million of
equity capital by issuing 468,151 shares for the nine months ended September 30,
2002.
Capital Expenditures, Commitments and Contingencies
Capital Expenditures - SJI has a continuing need for cash resources and
capital, primarily to invest in new and replacement facilities and equipment and
for environmental remediation costs. We estimate the net costs for 2003, 2004
and 2005 at approximately $63.1 million, $75.3 million and $55.7 million,
respectively.
Commitments and Contingencies - SJG has certain commitments for both
pipeline capacity and gas supply for which it pays fees regardless of usage.
Those commitments as of September 30, 2003 average $44.5 million annually and
total $261.0 million over the contracts' lives. Approximately 15% of the
financial commitment under these contracts expires during the next five years.
We expect to renew each of these contracts under renewal provisions provided in
each contract. SJG recovers all prudently incurred fees through rates via the
BGSS.
SJI-33
Item 3. Quantitative and Qualitative Disclosures About
Market Risks of the Company
Commodity Market Risks
Certain regulated and unregulated SJI subsidiaries are involved in
buying, selling, transporting and storing natural gas for their own accounts as
well as managing these activities for others. These subsidiaries are subject to
market risk due to price fluctuations. To hedge against this risk, we enter into
a variety of physical and financial transactions including forward contracts,
swaps, futures and options agreements. To manage these transactions, SJI has a
well-defined risk management policy approved by our board of directors that
includes volumetric and monetary limits. Management reviews reports detailing
activity daily. Generally, we enter into derivative activities described above
for risk management, not trading, purposes.
SJG and SJE transact commodities on a physical basis only and do not
enter into financial derivative positions directly. SJRG manages risk for these
entities as well as for its own portfolio by entering into the types of
transactions noted above. It is management's policy, to the extent practical,
within predetermined risk management policy guidelines, to have limited
unmatched positions on a deal or portfolio basis while conducting these
activities. As a result of holding open positions to a minimal level, the
financial impact to SJRG of changes in value of a particular transaction is
substantially offset by an opposite change in the related hedge transaction. As
of September 30, 2003, SJRG had $8.7 million of accounts receivable under sales
contracts. Of that total, 92% were with companies rated investment-grade, or
were guaranteed by an investment-grade-rated parent or were with companies where
we have a collateral arrangement.
SJRG and SJE entered into certain contracts to purchase, sell, and
transport natural gas. For the quarters ended September 30, 2003 and 2002, we
recorded a net unrealized pre-tax gain (loss) on these energy trading and
related contracts of $1.1 million and $(0.9) million, respectively. For the nine
months ended September 30, 2003 and 2002, we recorded a net unrealized pre-tax
gain (loss) on these energy and related contracts of $1.9 million and $(0.1)
million, respectively. These unrealized gains and losses were derived primarily
from contracts entered into during 2003 and 2002 and it is included as a
component of Revenues - Nonutility. SJRG's and SJE's contracts are typically
less than 12 months long. The fair value of these contracts determined under the
mark-to-market method as of September 30, 2003 is as follows (in thousands):
Assets
Maturity Maturity
Source of Fair Value < 1 Year 1-3 Years Total
____________________ _________ _________ _________
Prices Actively Quoted NYMEX $ 7,829 $ 1,620 $ 9,449
Other External Sources Basis 9,223 1,423 10,646
_________ _________ _________
Total $ 17,052 $ 3,043 $ 20,095
========= ========= =========
SJI-34
Liabilities
Maturity Maturity
Source of Fair Value < 1 Year 1-3 Years Total
____________________ _________ _________ _________