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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended June 30, 2002
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 0-14183
ENERGY WEST INCORPORATED
(Exact name of registrant as specified in its charter)
Montana 81-0141785
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1 First Avenue South, Great Falls, Mt. 59401
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (406)-791-7500
Securities to be registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Title of each class
Common Stock - Par Value $.15
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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (229.45 of this chapter) is not contained herein, and will not
be contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K [X].
The aggregate market value of the voting stock held by non-affiliates of the
registrant as of September 25, 2002: Common Stock, $.15 Par Value -
$20,222,060
The number of shares outstanding of the issuer's classes of common stock as of
September 25, 2002: Common Stock, $.15 Par Value - 2,573,734 shares.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the proxy statement for the annual shareholders meeting to be held
November 21, 2002 are incorporated by reference into Part III.
2
TABLE OF CONTENTS
Page
Part I
Item 1 Business 4
Item 2 Properties 14
Item 3 Legal Proceedings 15
Item 4 Submission of Matters to a Vote of Security Holders 16
Part II
Item 5 Market for Registrant's Common Stock and Related Stockholder Matters 16
Item 6 Selected Financial Data 19
Item 7 Management's Discussion and Analysis of Financial Condition and
Results of Operation 20
Item 7A Quantitative and Qualitative Disclosures about Market Risk 38
Item 8 Financial Statements 40
Item 9 Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 69
Part III
Item 10 Directors and Executive Officers of the Registrant 70
Item 11 Executive Compensation 70
Item 12 Security Ownership of Certain Beneficial Owners and Management 70
Item 13 Certain Relationships and Related Transactions 70
Item 14 Controls and Procedures 71
Part IV
Item 15 Exhibits, Financial Statement Schedules and Reports on form 8-K 72
3
PART I
Item 1. - Business
General
Energy West Incorporated ("the Company") is a regulated public utility,
with certain non-utility operations conducted through its subsidiaries. The
Company was incorporated in Montana in 1909. The Company's regulated utility
operations involve the distribution and sale of natural gas to the public in and
around Great Falls and West Yellowstone, Montana and Cody, Wyoming, and the
distribution and sale of propane to the public through underground propane vapor
systems in and around Payson, Arizona and Cascade, Montana. The Company's West
Yellowstone, Montana operation is supplied by liquefied natural gas ("LNG").
Certain non-regulated, non-utility operations are conducted by three
wholly-owned subsidiaries of the Company: Energy West Propane, Inc. ("EWP");
Energy West Resources, Inc. ("EWR"); and Energy West Development, Inc. ("EWD").
EWP is engaged in wholesale distribution of bulk propane in Wyoming, Arizona and
Montana, and is engaged in retail distribution of bulk propane in Arizona. EWR
markets gas and electricity in Montana and Wyoming. EWD owns one parcel of real
estate property and conducts a gas appliance retail business in Great Falls,
Montana.
The Company reports financial results for three business segments:
Natural Gas Operations, Propane Operations, and Marketing and Wholesale
Operations. The results of all three of these segments are seasonal in nature.
Summarized financial information for these three segments is set forth in Note
11 to the Company's Consolidated Financial Statements included in this Report.
Natural Gas Operations
The Company's primary business is the distribution and sale of natural
gas to residential, commercial and industrial customers. The Company's natural
gas operations consist of two divisions. The Energy West - Montana Division
serves customers in and around Great Falls and West Yellowstone, Montana. The
Energy West - Wyoming Division serves customers in and around Cody, Meeteetsee
and Ralston, Wyoming. Generally, residential customers use natural gas for space
heating and water heating, commercial customers use natural gas for space
heating and cooking, and industrial customers use natural gas as a fuel in
industrial processing and space heating. The Company's revenues from natural gas
operations are generated under tariffs regulated by the state utility
commissions of Montana and Wyoming, respectively.
EWD's operations are reported as part of the Company's natural gas
operations.
Energy West - Montana ("EWM") Division
4
The EWM division provides natural gas service to customers in and
around Great Falls and West Yellowstone, Montana. The division's service area
has a population of approximately 79,000 in the Great Falls area and 1,200 in
the West Yellowstone area.
The division has a franchise to distribute natural gas within the city
of Great Falls that expires in 2021. The division also provides natural gas
transportation service to certain customers who purchase natural gas from other
suppliers.
The following table shows the EWM division's revenues by customer class
for the fiscal year ended June 30, 2002 and the two preceding fiscal years:
Gas Revenues
(in thousands)
Years Ended June 30,
--------------------
2002 2001 2000
------- ------- -------
Residential $17,328 $16,974 $ 9,921
Commercial 10,326 9,878 5,495
Transportation 1,958 2,045 2,090
------- ------- -------
Total $29,612 $28,897 $17,506
======= ======= =======
The following table shows the volumes of natural gas, expressed in
millions of cubic feet ("MMcf") (measured at standard operating pressure) sold
or transported by the division for the fiscal year ended June 30, 2002 and the
two preceding fiscal years:
Gas Volumes
(MMcf)
Years Ended June 30,
--------------------
2002 2001 2000
------- ------- -------
Residential 2,350 2,442 2,062
Commercial 1,406 1,409 1,106
------- ------- -------
Total Gas Sales 3,756 3,851 3,168
======= ======= =======
Transportation 1,522 1,615 1,632
======= ======= =======
5
The EWM division has 855 transportation customers. No customer of the
EWM division accounted for more than 1% of the consolidated revenues of the
Company in fiscal 2002.
The operations of the EWM division are subject to regulation by the
Montana Public Service Commission ("MPSC"). The MPSC regulates rates, adequacy
of service, issuance of securities, compliance with U.S. Department of
Transportation Safety Regulations and other matters.
In December, 1998, the MPSC approved a proposed plan filed by the
Company ("Plan") to allow customers to choose a natural gas supplier other than
the EWM division. Under the Plan, the EWM division continues to provide delivery
service to customers who purchase from other suppliers. Customers who do not
wish to choose another supplier are free to continue purchasing natural gas from
the EWM division.
The EWM division uses the NorthWestern Energy (NWE) pipeline
transmission system to transport supplies of natural gas for its core load. The
division also uses this pipeline system to provide transportation, distribution
and balancing services to customers who have chosen to obtain natural gas from
other suppliers. The Company has a 10-year transportation agreement with NWE
that fixes the cost of pipeline and storage capacity for the EWM division at
rates which are currently lower than the rates applicable to most other pipeline
customers of NWE.
In October 2000, the Company filed its annual gas cost recovery
application for the EWM division with the MPSC. The MPSC granted interim rate
relief in December 2000. During late 2000, however, the EWM division's costs of
gas rose due to very high index prices, and as a result the Company amended its
application in February 2001. In response, the MPSC issued a second interim
order in March, 2001 (which the MPSC made final in August 2001). This order
established a monthly cost tracking process under which the Company was required
to file for an increase or decrease in rates if natural gas costs changed more
than $.10 per thousand cubic feet (Mcf) in any month, subject to an audit of the
unrecovered balance by the MPSC and Montana Consumer Counsel once a year.
In May 2002, after fully recovering the previous increase in gas costs
experienced by the EWM division, the Company filed for a reduction in the rates
as required by the MPSC's order. In June 2002, the Company received approval
from the MPSC to reduce the rates charged by the EWM division effective July 1,
2002.
In September 2002, the Company filed an application for the EWM
division with the MPSC seeking a general increase in rates, related primarily to
increases in costs of operations. The application is presently pending.
Energy West - Wyoming ("EWW") Division
The EWW division provides natural gas service to customers in and
around Cody, Meeteetsee and Ralston, Wyoming. This service area has a population
of approximately 12,000. The EWW division has a certificate of public
convenience and necessity granted by the Wyoming Public Service Commission (the
"WPSC") for transportation and distribution covering
6
the west side of the Big Horn Basin, which stretches approximately 70 miles
north and south and 40 miles east and west from Cody. As of June 30, 2002, the
EWW division provided service to approximately 5,700 customers, including one
industrial customer. The division also offers transportation service for natural
gas producers and other parties.
The following table shows the EWW division's revenues by customer class
for the fiscal year ended June 30, 2002 and the two preceding fiscal years:
Gas Revenues
(in thousands)
Years Ended June 30,
2002 2001 2000
------ ------- ------
Residential $3,434 $ 4,409 $2,334
Commercial 3,035 3,512 1,927
Industrial 3,044 3,481 1,852
Transportation 346 447 304
------ ------- ------
Total $9,859 $11,849 $6,417
====== ======= ======
The following table shows the volumes of natural gas, expressed in
millions of cubic feet ("MMcf") (measured at standard operating pressure), sold
by the EWW division for the fiscal year ended June 30, 2002 and the two
preceding fiscal years:
Gas Volumes
(MMcf)
Years Ended June 30,
2002 2001 2000
----- ----- -----
Residential 564 529 461
Commercial 539 488 482
Industrial 610 571 625
----- ----- -----
Total Gas Sales 1,713 1,588 1,568
===== ===== =====
Transportation 235 380 261
===== ===== =====
The EWW division's industrial customer, BPB America, (dba "Celotex"), a
manufacturer of gypsum wallboard, purchases gas pursuant to a special industrial
tariff, which fluctuates with the cost of gas. In fiscal 2002 Celotex accounted
for approximately 31% of the revenues of the EWW division and approximately 3%
of the consolidated revenues of the Company. Celotex's business is cyclical and
dependent on the level of national housing starts. The division's sales to
Celotex in FY 2002 were approximately 7% greater than in FY 2001. No assurance
can be given that Celotex will continue to be a significant customer of the EWW
division.
7
EWR is the EWW division's primary supplier of natural gas, pursuant to
a three-year agreement entered into in May of 2000. In addition, the division
has a backup contract to purchase natural gas from Coastal Gas Marketing, but
has purchased only immaterial amounts of gas under this backup agreement.
The EWW division transports gas for third parties pursuant to a tariff
filed with and approved by the WPSC. The terms of the transportation tariff
(currently between $.08 and $.30 per Mcf) are established by the WPSC.
During fiscal 2002, the Company was a party to financial swap
agreements for natural gas for its regulated operations in the EWW division.
These agreements expired on March 31, 2002. The net cash payments and receipts
under these agreements did not have a material effect on the Company's income or
financial condition.
The EWW division's revenues are generated under regulated tariffs that
are designed to recover a base cost of gas, administrative and operating
expenses and provide sufficient return to cover interest and profit. The
division also serves some customers under separate contract rates that were
individually approved by the WPSC. The division's tariffs include a purchased
gas adjustment clause which allows the division to adjust its rates to recover
changes in gas costs from base gas costs.
The EWW division's last general rate order was effective in 1989. The
Company anticipates filing an application for a general rate increase for the
division during fiscal year 2003.
Propane Operations
For financial reporting purposes, the Company reports as a separate
business segment the distribution of propane by the Company and the Company's
wholly-owned subsidiary, Energy West Propane, Inc. ("EWP"). The Company is
engaged in the regulated distribution of propane through two divisions, Energy
West Arizona ("EWA") and Energy West Montana - Cascade ("EWM - Cascade"). EWP is
engaged in the unregulated distribution of propane in Montana, Wyoming and
Arizona.
Regulated Propane Operations
The EWA division distributes propane in the Payson, Arizona area. The
service area of the EWA division has a population of approximately 30,000. The
operations of the EWA division are subject to regulation by the Arizona
Corporation Commission (the "ACC"), which regulates rates, adequacy of service,
and other matters. The EWA division's properties include approximately 190 miles
of underground distribution pipeline and an office building leased from a third
party. The division purchases its propane supplies from EWP under terms reviewed
periodically by the ACC. The EWA division has approximately 7,100 customers. The
division's principal
8
competition comes from bulk propane retailers who sell to customers who draw
propane for use from storage tanks located at their homes or businesses, rather
than using propane from the division's underground distribution system.
The following tables show the EWA division's revenues and propane
volumes by customer class for the fiscal year ended June 30, 2002 and the two
preceding fiscal years:
Propane Revenue
(in thousands)
Years Ended June 30,
--------------------
2002 2001 2000
------ ------ ------
Residential $3,384 $3,530 $2,334
Commercial 1,520 1,459 1,098
------ ------ ------
Total $4,904 $4,989 $3,432
====== ====== ======
Propane Volumes
(in gallons)
Years Ended June 30,
--------------------
2002 2001 2000
--------- --------- ---------
Residential 2,678,000 2,835,000 2,296,000
Commercial 1,012,000 1,063,000 875,000
--------- --------- ---------
Total 3,690,000 3,898,000 3,171,000
========= ========= =========
The EWM - Cascade division distributes propane in the Cascade, Montana
area. The service area of the EWM - Cascade division has a population of
approximately 1,000. The operations of the EWM - Cascade division are subject to
regulation by the Montana Public Service Commission, which regulates rates,
adequacy of service, issuance of securities and other matters. The EWM Cascade
division's properties include approximately 10 miles of underground distribution
pipeline. The division purchases its propane supplies from EWP under terms
reviewed periodically by the MPSC.
Unregulated Propane Operations
The Company's subsidiary Energy West Propane, Inc. ("EWP") is engaged
in the bulk sale of propane through its three divisions: Energy West
Propane-Arizona, which serves the Payson, Arizona area; Energy West
Propane-Montana, which sells bulk propane in the Cascade County area,
surrounding Great Falls, Montana; and Rocky Mountain Fuels Wholesale which has
9
wholesale operations primarily in Montana, Wyoming and Arizona. EWP had 4,530
customers as of June 30, 2002.
Energy West Propane - Arizona sells propane to residential and
commercial customers in the Payson, Arizona area.
EWP's wholesale division, Rocky Mountain Fuels Wholesale, supplies
propane for the Company's underground propane-vapor systems serving the cities
of Payson, Arizona and Cascade, Montana and surrounding areas.
In March and June of 2002, as a result of a decision to shift its
strategic emphasis to wholesale propane operations, EWP sold its retail
operations in Montana and Wyoming. The before tax gain on the sale of these two
operations was approximately $338,000. EWP has entered into long-term agreements
to supply wholesale propane, through Rocky Mountain Fuels Wholesale, to the
purchaser of these assets.
EWP faces competition from other propane distributors and suppliers of
alternative fuels that compete with natural gas. Competition is based primarily
on price and there is a high degree of competition with other propane
distributors in each of EWP's service areas.
Energy Marketing and Wholesale Operations
The Company's wholly owned subsidiary, EWR, conducts certain marketing
and trading activities and wholesale distribution activities involving the sale
of natural gas and electricity in Montana and Wyoming.
Montana legislation enacted in 1997, and subsequent MPSC orders,
permitting open access on the Montana Power Company gas transportation and
electricity transmission system and other systems in Montana have presented
opportunities for EWR to do business as a broker of natural gas and electricity,
using these systems. Although EWR has concentrated its efforts on industrial and
large commercial customers, EWR began to market gas and electricity to small
commercial and residential customers in fiscal 2000. EWR has from time to time
entered into certain financial agreements to hedge against the risks of
fluctuation in prices of natural gas and electricity. If the price obtained
through such instruments is favorable or unfavorable compared to subsequent
market conditions, net earnings or losses can result from such arrangements. See
Item 7, "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF CONSOLIDATED OPERATIONS -- Derivatives and Risk Management," in this Report.
In order to provide a stable source of natural gas to provide for a
portion of its requirements, in May 2002, EWR purchased a 56% interest in a
group of producing natural gas reserves located in northern Montana. EWR's
portion of the estimated daily gas production from the reserves is approximately
600,000 cubic feet (600 Mcf), or approximately 5% of EWR's present volume
requirements. This production gives EWR a natural hedge, due to fixed production
expenses when market prices of natural gas are above the costs of production.
One of the other owners of a partial interest in these reserves is serving as
the operator of the wells. As part of the transaction, EWR received a $300,000
discount on the purchase price as a settlement
10
of certain claims. The $300,000 was recorded in "nonoperating income" during the
fourth quarter of fiscal year 2002.
In order to take advantage of certain natural synergies resulting from
the location of the Company's operations in Cody, Wyoming, and to expand its
options in procuring natural gas supplies, in August 2000, EWR purchased two
pipelines in northern Wyoming. One of the pipelines is classified as a gathering
system, and has been placed into service. The other pipeline is presently being
renovated. This other pipeline is expected to become operational during fiscal
2003. This pipeline will serve as a transmission pipeline. An application is
being filed with the Federal Energy Regulatory Commission (FERC) to obtain FERC
approval for the pipeline to be operated as a transmission pipeline. Both of the
pipelines will be sold to, and operated by, the Company's wholly-owned
subsidiary, EWD.
Capital Expenditures
The Company conducts ongoing construction activities, in all of its
utility service areas, in order to support expansion, maintenance and
enhancement of its gas and propane pipeline systems. The Company also continues
to experience growth in its unregulated retail and wholesale propane operations,
requiring additional capital expenditures. In fiscal years 2002, 2001 and 2000,
total capital expenditures for the Company were approximately $6,442,000,
$3,276,000 and $4,757,000 respectively. The increase in capital expenditures by
approximately $3,166,000 from fiscal year 2001 to fiscal year 2002 was the
result of the purchase of production properties (described in "Energy Marketing
and Wholesale Operations", above) and renovations of the pipelines in Wyoming
(described in "Energy Marketing and Wholesale Operations", above) and
construction of a gas transmission pipeline around the City of Cody, Wyoming.
Competition
The principal competition faced by the Company in its distribution and
sale of natural gas is from suppliers of alternative fuels, including
electricity, oil, propane and coal. The principal considerations affecting a
customer's selection of utility gas service over competing energy sources
include service, price, equipment costs, reliability and ease of delivery. In
addition, the type of equipment already installed in businesses and residences
significantly affects the customer's choice of energy. However, where previously
installed equipment is not an issue, households in recent years have generally
preferred the installation of gas heat. The Company's statistics indicate that
approximately 95% of the houses and businesses in the Great Falls service area
use natural gas for space heating fuel, approximately 91% use gas for water
heating and approximately 99% of the new homes built on or near the Company's
Great Falls service mains in recent years have selected natural gas as their
energy source.
The EWW division believes that approximately 95% of the houses and
businesses in the division's service area use natural gas for space heating
fuel, approximately 90% use gas for water heating, and approximately 99% of the
new homes built on or near the division's service mains in recent years have
selected gas as their energy source.
The EWA division believes that approximately 59% of the houses and
businesses adjacent to the division's distribution pipeline use the division's
propane for space heating or water heating.
11
The principal competition faced by the Company and its subsidiaries in
the distribution and sales of propane is from other propane distributors and
suppliers of the alternate fuels and sources that compete with natural gas and
electricity. Competition is based primarily on price and there is a high degree
of competition with other propane distributors in the service areas.
EWR's principal competition is from other gas and electricity marketing
firms doing business in the State of Montana. As of June 30, 2002, EWR had 163
customers for natural gas services and 709 for electricity services. EWR
believes that the recent changes in applicable law, which allow its customers to
choose a natural gas supplier other than their local utility company, will
continue to provide future opportunities for gas marketing operations.
Employees
The Company and its subsidiaries had an aggregate total of 131
employees as of June 30, 2002. Six of these were employed by EWR, 27 by the
propane operations, 85 were employed by the Company's natural gas operations and
the remaining 13 individuals are employed at the corporate office. The Company's
natural gas operations include 19 employees represented by two labor unions.
Contracts with each of these unions are in place until June 30, 2003. The
Company believes that its relationship with its employees is good.
Executive Officers
The following table sets forth the names and ages of, and the positions
and offices within the Company presently held by, the executive officers of the
Company:
Name Age Position
Edward J. Bernica 53 President and Chief
Executive Officer
Sheila M. Rice 55 Vice President and
Corporate Administrator
John C. Allen 51 General Counsel, Vice-
President and Secretary
Tim A. Good 57 Vice-President and Manager
of Natural Gas Operations
Douglas R. Mann 55 Vice-President and Manager
of Energy West Propane Operations
JoAnn S. Hogan 36 Assistant Vice-President and
Treasurer
12
Robert B. Mease 55 Assistant Vice-President and
Controller
Edward J. Bernica was appointed President and Chief Executive Officer on
September 17, 2001. From March 1999 until September 17, 2001, he was Executive
Vice-President, Chief Operating Officer and Chief Financial Officer of the
Company. He joined the Company in November 1994, as Vice-President and Chief
Financial Officer.
Sheila M. Rice has been Vice-President of Energy West Incorporated and Corporate
Administrator since October of 2001. She was Vice President of Marketing from
1998 to 2001 and was Vice President and Division Manager of Energy West Montana
from 1993 until 1998.
John C. Allen has been General Counsel, Vice-President and Secretary of the
Company since 1992.
Tim A. Good has been Vice-President of the Company and Manager of the Company's
Natural Gas Operations since July 1, 2000. He served as Vice President and
Division Manager of the EWW Division from 1988 to July 1, 2000.
Douglas R. Mann has been Vice-President and Manager of Energy West Propane, Inc.
since July 1, 2000. From February, 1999 until July 1, 2000, he served as
Vice-President and Manager of the EWA Division. From 1995 until July 1, 1999, he
served as Assistant Vice-President and Manager of the Arizona Division.
JoAnn S. Hogan has been Assistant Vice-President and Treasurer of the Company
since January 2002. She served as Controller from 2000 to 2002. From 1995 to
2000, she served in various financial capacities for the Company including
assistant controller and tax manager.
Robert B. Mease has been Assistant Vice-President and Controller of the Company
since joining the Company in February 2002. From October 2000 to February 2002,
he served as a business consultant with Junkermier, Clark, Campanella & Stevens,
a public accounting firm. From 1998 to 2000 he was Vice-President and CFO of TMC
Sales, a steel manufacturer and wholesale distributor located in Seattle,
Washington. From 1994 to 1998, he was Vice-President of Finance for American
Agri-Technology, located in Great Falls, Montana.
13
PART I
Item 2. - Properties
The Company owns and leases properties located in the following states:
MONTANA: In Great Falls, Montana, the Company owns a 9,000 square foot office
building, which serves as the Company's headquarters, and a 3,000 square foot
service and operating center (with various outbuildings) which supports
day-to-day maintenance and construction operations. The Company owns
approximately 400 miles of underground distribution lines ("mains"), and related
metering and regulating equipment in and around Great Falls, Montana. In West
Yellowstone, Montana, the Company owns an office building, and a liquefied
natural gas plant that provides natural gas through approximately 13 miles of
underground mains owned by the Company. The Company owns approximately 10 miles
of underground mains in the town of Cascade.
EWP owns several large bulk propane tanks to serve the areas in and around the
towns of Cascade and Superior, Montana.
During fiscal year 2002, EWR purchased a 56% ownership interest in natural gas
production properties that provide approximately 600 Mcf of natural gas daily
for resale.
During fiscal 2002, as part of its strategic emphasis on wholesale propane
operations, EWP sold its retail propane operations located in Wyoming and
Montana. The assets sold represented approximately 7% of EWP's total assets and
less than 2% of the Company's consolidated assets.
WYOMING: In Cody, Wyoming, the Company leases office and service buildings for
the EWW division under long-term lease agreements. The Company owns
approximately 300 miles of mains, and related metering and regulating equipment,
all of which are located in or around Cody.
EWP owns two large bulk propane tanks, located in Cody, to serve its customers
in northern Wyoming.
EWR owns two pipelines in Wyoming. One pipeline is currently being operated as a
gathering system, and the other will upon receipt of the necessary FERC
approvals operate as an interstate pipeline transmission system. The pipelines
are located north of Cody, Wyoming.
ARIZONA: The Company owns approximately 190 miles of distribution mains located
in and around the community of Payson. The Company owns five acres of land in
Payson, on which the Company maintains and operates a propane vapor system for
its operations in Payson. The Company leases an office building in Payson under
an agreement that expires in 2006. The Company has the right to extend the lease
for two successive five (5) year periods.
EWP owns several large bulk propane tanks located in Pine, Strawberry, Payson
and Starr Valley, Arizona which are utilized to serve customers in these and
other surrounding areas.
14
Item 3. - Legal Proceedings
From time to time the Company is involved in litigation relating to
claims arising from its operations in the normal course of business. The Company
utilizes various risk management strategies, including maintaining liability
insurance against certain risks, employee education and safety programs and
other processes intended to reduce liability risk.
In addition to other litigation referred to above, the Company or its
subsidiaries are currently involved in the following described litigation.
EWR is currently involved in a lawsuit with PPL Montana, LLC (PPLM)
which is pending in the United States District Court for the District of
Montana. The lawsuit was filed on July 2, 2001, and involves a wholesale
electricity supply contract between EWR and PPL dated March 17, 2000 and a
confirmation letter thereunder dated June 13, 2000 (together, the "Contract").
EWR has received substantial imbalance payments as a result of the amount of
power that it has scheduled and purchased from PPLM under the Contract. PPLM
claims that, as a result of EWR's scheduling under the Contract, PPLM was
deprived of the fair market value of energy which PPLM contends it could have
subsequently sold. PPLM estimates the fair market value of the excess energy
scheduled by EWR to be approximately $18.0 million. Any recovery of damages by
PPLM could have a material adverse effect on the Company and its financial
condition. EWR denies liability to PPLM. EWR believes that its scheduling
practices were reasonable under the circumstances, and that in any event PPLM
did not sustain any damages. The Company believes that it has established
adequate reserves with respect to the litigation with PPLM; however, there can
be no assurance that any liability will not exceed such reserves. A liability in
excess of the recorded reserves could a have material adverse effect on the
Company and its financial condition.
The Montana Department of Revenue ("DOR"), by letter dated August 30,
2002, has advised the Company that based on property tax audit of the Company
for the period January 1, 1997 through December 31, 2001, DOR is assessing the
Company for willfully under-reporting its personal property and that a two and
one-half times penalty should be assessed. The Company estimates that if the
proposed assessment stands, it would owe approximately $3.9 million in property
taxes and penalties. The Company believes it has valid defenses to the
assessment of tax and penalties and intends to vigorously oppose the DOR's
position. The Company also believes that any tax deficiency that may be imposed
on the Company would (to the extent the deficiency relates to regulated
property, which is substantially all of the deficiency) be properly classified
as a regulatory asset (i.e., an amount that can be recovered through increased
rates to utility customers). Assuming authorization for such treatment is
received from regulatory authorities the assessment of taxes would not have a
material affect on the Company. However, if the DOR prevails in its imposition
of penalties, the Company anticipates that such penalties would not be
recoverable through rates. The Company believes that any interest associated
with the property tax assessment also should be classified as a regulatory
asset. An adverse outcome in this matter (including imposition of penalties on
the Company, or failure of the Company to obtain classification of any tax
liability or interest as a regulatory asset) could have a material adverse
effect on the Company and its financial condition.
15
Item 4. - Submission of Matters to a Vote of Security Holders
None
PART II
Item 5. - Market for registrant's common equity and related stockholder matters
Common Stock Prices and Dividend Comparison - Fiscal 2002 and 2001
Shares of the Company's Class "A" Common Stock are traded on the Nasdaq National
Market under the symbol: "EWST." The following table sets forth the high and low
bid prices for the Company's common stock. These prices reflect inter-dealer
prices, without retail mark-up, markdown or commission, and may not necessarily
represent the actual transactions.
Price Range - Fiscal 2002 High Low
- ------------------------- ---- ---
First Quarter 14.100 9.050
Second Quarter 12.520 10.400
Third Quarter 11.500 9.510
Fourth Quarter 10.510 9.000
Year 14.100 9.000
Price Range - Fiscal 2001 High Low
- ------------------------- ---- ---
First Quarter 9.125 7.563
Second Quarter 9.750 8.500
Third Quarter 10.563 9.313
Fourth Quarter 16.500 9.500
Year 16.500 7.563
At September 25, 2002, there were 493 holders of record of the Company's common
stock. The Board of Directors normally considers approving common stock
dividends for payments in March, June, September and January. Quarterly dividend
payments per common share for Fiscal Years 2002 and 2001 were:
Fiscal 2002 Fiscal 2001
----------- -----------
September $ .1300 $ .1250
January $ .1300 $ .1250
March $ .1300 $ .1250
June $ .1350 $ .1300
The following chart sets forth information concerning the number of shares of
common stock to be issued upon exercise of outstanding options, warrants and
rights, the weighted average exercise price, and the number of shares remaining
available for issuance under such plans.
16
EQUITY COMPENSATION PLAN INFORMATION
Number of securities
Weighted-average remaining available for
Number of securities to be exercise future issuance under
issued upon exercise of price of outstanding equity compensation plans
outstanding options, options, warrants (excluding securities
Plan Category warrants and rights. and rights. reflected in column (a))
- ------------- -------------------- ----------- ------------------------
(a) (b) (c)
Equity compensation plans 62,276 shares $9.25 per share 82,564 shares
approved by security holders
------------- --------------- -------------
Equity compensation plan not None Not Applicable Not Applicable
approved by security holders
------------- --------------- -------------
TOTAL 62,276 shares $9.25 per share 82,564 shares
17
Unregistered Issuances of Securities
During the last 3 years, the Company has issued certain securities that
have not been covered by a registration statement filed with the Securities and
Exchange Commission. These issuances are as follows:
On October 12, 2001, the Company issued a total of 4,332.751 shares of
common stock of the Company to four members of the board of directors of the
Company. The shares were issued at the request of the directors in lieu of cash
payments due under the Company's long term incentive plan. The shares were
issued at a price of $11.45 per share, or an aggregate of $49,610. With respect
to this issuance of shares, the Company claims an exemption from registration
under Section 4(2) of the Securities Act of 1933 ("Section 4(2)") because of the
limited number of individuals to whom shares were issued, and the fact that the
individuals who received the shares were well informed about the Company and its
affairs and in general are sophisticated investors.
The Company has issued shares of its common stock to certain Company
executives upon the exercise by such executives of options previously granted
pursuant to the Company's 1992 Incentive Stock Option Plan. With respect to
these issuances of shares, the Company claims an exemption from registration
under Section 4(2) because of the limited number of individuals to whom shares
were issued, the fact that each of the individuals who received the shares was
either a current senior Company executive, or had recently retired from a
position as a senior executive of the Company, and that each of such individuals
was well informed about the Company and its affairs. The issuances upon stock
option exercise were as follows:
Executive's
Name and Title Number of Total
at Date of Date of Option Shares Exercise Price Consideration
Option Exercise Exercise Purchased Per Share Paid
- -------------- -------------- --------- -------------- -------------
Larry Geske, December 27, 10,000 $8.375 $83,750
Retired 2001
President and
CEO (retired in
September 2001)
John Allen, Vice December 19, 5,000 $8.375 $41,875
President and 2001
General Counsel
Edward Bernica, November 21, 5,000 $8.50 $42,500
President and 2001
CEO
William Quast, December 19, 2,300 $9.00 $20,700
Treasurer 2000
18
Item 6. - Selected Financial Data
Selected Financial Data on a Consolidated Basis (2002-1998)
(dollar amounts in thousands, except per share data)
2002 2001 2000 1999 1998
---------- ---------- ---------- ---------- ----------
Operating results
Operating revenue 99,635 $ 120,161 $ 72,386 $ 53,815 $ 43,064
Operating expenses
Gas and electric purchases 84,052 98,722 58,788 39,687 28,757
General and administrative 8,790 12,095 7,649 8,018 7,697
Maintenance 466 428 400 469 497
Depreciation and amortization 2,059 1,970 1,856 1,695 1,732
Taxes other than income 946 723 639 708 628
---------- ---------- ---------- ---------- ----------
Total operating expenses 96,313 113,938 69,332 50,577 39,311
---------- ---------- ---------- ---------- ----------
Operating income 3,322 6,223 3,054 3,238 3,753
Other income - net 658 282 450 909 209
Total interest charges (1,705) (2,097) (1,674) (1,493) (1,583)
---------- ---------- ---------- ---------- ----------
Income before taxes 2,275 4,408 1,830 2,654 2,379
Income taxes (874) (1,643) (709) (1,067) (859)
---------- ---------- ---------- ---------- ----------
Net Income $ 1,401 $ 2,765 $ 1,121 $ 1,587 $ 1,520
---------- ---------- ---------- ---------- ----------
Basic earnings per common share .55 1.11 .46 .66 .64
Diluted earnings per common share .55 1.10 .46 .66 .64
Dividends per common share .53 .51 .49 .47 .45
Weighted average common shares
Outstanding - diluted 2,558,782 2,509,738 2,456,555 2,418,910 2,390,814
At year end:
Current assets $ 19,090 $ 26,621 $ 16,387 $ 11,429 $ 12,326
Total assets 57,869 62,278 51,194 43,710 42,808
Current liabilities 19,899 24,416 14,831 7,230 7,272
Total long-term obligations 15,367 15,881 16,395 16,840 17,278
Total stockholders' equity 16,272 15,613 13,786 13,532 12,811
---------- ---------- ---------- ---------- ----------
Total capitalization $ 31,639 $ 31,494 $ 30,181 $ 30,372 $ 30,089
========== ========== ========== ========== ==========
19
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF CONSOLIDATED OPERATIONS
CRITICAL ACCOUNTING POLICIES
Note 1 to the Company's Consolidated Financial Statements contains a
summary of the Company's significant accounting policies. The Company believes
that its critical accounting policies are as follows:
EFFECTS OF REGULATION -- The Company follows SFAS No. 71, Accounting
for the Effects of Certain Types of Regulation, and its financial statements
reflect the effects of the different rate making principles followed by the
various jurisdictions regulating the Company. The economic effects of regulation
can result in regulated companies recording costs that have been or are expected
to be allowed in the ratemaking process in a period different from the period in
which the costs would be charged to expense by an unregulated enterprise. When
this occurs, costs are deferred as assets in the balance sheet (regulatory
assets) and recorded as expenses in the periods when those same amounts are
reflected in rates. Additionally, regulators can impose liabilities upon a
regulated company for amounts previously collected from customers and for
amounts that are expected to be refunded to customers (regulatory liabilities).
RECOVERABLE/ REFUNDABLE COSTS OF GAS AND PROPANE PURCHASES -- The
Company accounts for purchased-gas costs in accordance with procedures
authorized by the MPSC, the WPSC and the ACC under which purchased-gas and
propane costs that are different from those provided for in present rates are
accumulated and recovered or credited through future rate changes.
DERIVATIVES -- The Company accounts for certain derivative contracts
that are used to manage risk in accordance with Statement of Financial
Accounting Standard (SFAS) 133, Accounting for Derivative Instruments and
Hedging Activities, as amended by SFAS 138, Accounting for Certain Derivative
Instruments and Certain Hedging Activities, which the Company adopted July 1,
2000.
RESULTS OF CONSOLIDATED OPERATIONS
FISCAL YEAR ENDED JUNE 30, 2002 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2001
NET INCOME
The Company's net income for fiscal 2002 was $1,401,000 compared to $2,765,000
in fiscal 2001, a decrease of $1,364,000. The Company's subsidiary, Energy West
Resources, Inc. ("EWR"), had an earnings decrease of $1,946,000 primarily due to
reductions in revenues from the remarketing of power. EWR's unusually high
margins in fiscal year 2001 resulted from a combination of unusual factors,
including historically high market prices and remarketing of uncommitted power.
The reduction in EWR's net income from fiscal 2001 to fiscal 2002 was partially
offset by an increase in net income in the natural gas operations of $300,000
and the propane operations of $282,000. The increase in natural gas net income
was due primarily to record cold temperatures experienced during the months of
April, May and June, 2002. In addition, the natural gas operations implemented
reductions in discretionary expenses due to warmer-than-normal weather
conditions experienced during the first nine months of the year. The increase in
net income from propane operations is due to the sale of EWP's retail propane
business in Montana and Wyoming.
20
REVENUE
Operating revenues of the Company decreased by 17% from approximately
$120,161,000 in fiscal 2001 to $99,635,000 in fiscal 2002. This decrease was due
primarily to a reduction in EWR's power remarketing revenues of $16,122,000, a
reduction of revenues from the propane operations of $3,123,000, and a reduction
in revenues from the natural gas operations of $1,281,000 due to lower prices of
natural gas.
GROSS MARGIN
Gross margins (operating revenues less cost of goods sold) decreased
approximately $5,856,000 from fiscal 2001 to fiscal 2002. EWR's gross margins
decreased by $5,990,000 due mainly to a decline in revenue from remarketing of
power. The unusually high margins from EWR's operations in fiscal 2001 resulted
from a combination of unusual factors, including historically high market prices
and remarketing of uncommitted power. The Company does not expect the
combination of unusual factors that resulted in the unusually high gross margins
in fiscal 2001 to be repeated in future years. The gross margins from the
natural gas operations increased by $170,000 due to an increase in volumes of
gas sold while the gross margin in the propane operations decreased by $36,000
due to higher propane costs.
OPERATING INCOME
The Company's operating income decreased by approximately $2,902,000
from fiscal 2001 to fiscal 2002. Operating income from EWR's operations
decreased by $3,589,000 due to lower gross margins from the remarketing of
power. This lower margin was partially offset by a reduction in EWR's other
operating expenses of $2,401,000.
Operating income from the regulated natural gas operations increased by
approximately $411,000 due to increased gross margins of $170,000 and reductions
in other operating expenses of $241,000.
Propane operations experienced an increase of $275,000 in operating
income primarily due to the gain from the sale of the retail propane assets
reducing general and administrative expenses by $338,000 offset by an increase
in other expenses of $27,000 and gross margin reductions of $36,000.
The Company's total operating expenses decreased by approximately
$2,955,000 from fiscal 2001 to fiscal 2002. This reduction was due primarily to
reduced incentive payments made during fiscal year 2002 compared to fiscal year
2001, and a reduction in corporate overhead and the reduction attributable to
the sale of the propane assets. Also, the Company implemented cutbacks in
non-essential operating and maintenance expenses in fiscal 2002. The cutbacks
were implemented primarily in reaction to the expectation that warmer than
normal temperatures in Montana, Wyoming and Arizona during the first nine months
of fiscal year 2002 would cause reduced earnings.
INTEREST EXPENSE
Interest expense decreased by $392,000 from fiscal 2001 to fiscal 2002
due to a reduction in short term borrowings and a decrease in short term average
interest rates from 8.4% during fiscal 2001 to approximately 4.6% during fiscal
2002.
21
NONOPERATING INCOME
Nonoperating income increased by $376,000 from fiscal 2001 to fiscal
2002 due in part to a $300,000 settlement received by EWR in connection with its
purchase a group of certain producing natural gas reserves. EWR received the
$300,000 discount on the portion of its purchase price from the seller as a
settlement on certain claims.
FISCAL YEAR ENDED JUNE 30, 2001 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2000
NET INCOME
The Company's net income for fiscal 2001 was $2,765,000 compared to
$1,121,000 in fiscal 2000, an increase of $1,644,000. Net income from natural
gas operations decreased by $198,000, primarily due to increases in
distribution, general and administrative costs over the prior year. In fiscal
year 2000, the Company implemented a planned reduction in certain discretionary
expenses due to the warmer-than-normal weather conditions the Company was
experiencing. In addition, increased corporate overheads from non-recurring
costs increased distribution, general and administrative costs. In fiscal 2001,
the propane operations experienced a decrease in net income of $118,000 also due
to the spending restrictions imposed in the year 2000 that were not repeated in
2001. EWR had an earnings increase of $1,960,000 due to remarketing of
electricity at unusually high market prices. The Company believes that such
remarketing margins are unlikely to continue into the future at the higher
levels experienced during fiscal 2001. The margins resulted from a combination
of unusual factors, including historically high market prices and remarketing of
uncommitted power. The Company does not expect the combination of unusual
factors that resulted in the unusually high income for energy marketing and
wholesale operations to be repeated in the future.
REVENUE
Operating revenues increased by $47,775,000, or 66% from fiscal 2000 to
fiscal 2001. This was due to colder temperatures in all the Company's
operations, higher costs of natural gas which are passed directly to the
customers, and remarketing of electricity at unusually high market prices. The
Company does not expect the combination of unusual factors that resulted in the
unusually high income for energy marketing and wholesale operations to be
repeated in the future.
GROSS MARGIN
Gross margins (operating revenues less cost of gas and electric
trading) increased approximately $7,841,000, or 58% from fiscal 2000 to fiscal
2001. The Company's natural gas operations contributed $709,000 of this increase
due to colder temperatures in both the Montana and Wyoming markets served by
this operation. The propane operations contributed $568,000 due to significantly
colder temperatures in all three markets served - Arizona, Wyoming and Montana.
EWR's operations contributed $6,564,000 in increased margins due to remarketing
of electricity at unusually high market prices. The Company does not expect the
combination of unusual factors that resulted in the unusually high income for
energy marketing and wholesale operations to be repeated in the future.
22
OPERATING INCOME
Operating income increased by approximately $3,169,000 from fiscal 2000
to fiscal 2001. EWR's operating income increased by $3,349,000, due mainly to
the remarketing of power at unusually high market prices. Operating income for
the natural gas and propane operations decreased by $175,000 and $4,000
respectively. Gross margin for natural gas operations increased by $709,000;
however, increased operating expenses of nearly $884,000 caused a net reduction
in operating income. The Company had implemented cutbacks in non-essential
operating and maintenance expenses in fiscal 2000, but had not done so during
fiscal 2001. In addition, the Company incurred approximately $473,000 in
corporate overhead costs related to non-recurring strategic expenses, of which
$179,000 was allocated to the natural gas operation.
The breakout of the decrease in operating income from the propane
operations was as follows: gross margins increased by $568,000, but were offset
by an increase in operating expenses of $572,000. The increase in operating
expenses was due to a reduction in non-essential expenses during year 2000,
which were not in place during 2001.
EWR's operating income increased by $3,349,000 due almost entirely to
the remarketing of electricity at unusually high market prices. Gross margin
increased by $6,564,000, which was offset by increased incentives and
commissions of $2,293,000, equating to approximately 3% of the operation's
revenue, an allocation of $224,000 related non-recurring fiscal 2001 strategic
expenses allocated to EWR, and other cost increases resulting from EWR's
expanded operations.
INTEREST EXPENSE
Interest expense increased by $423,000 or 25% from $1,674,000 in fiscal
2000 to $2,097,000 in fiscal 2001, due to higher short-term borrowing, as a
result of higher gas and propane inventories and a higher level of gas costs in
Montana (which were recoverable eventually through the regulatory cost tracking
system.).
NONOPERATING INCOME
Nonoperating income decreased approximately $168,000 or 37% from
$450,000 in fiscal 2000 to $282,000 in fiscal 2001. The primary reason for this
decrease was due to a one-time gain in fiscal 2000 on the sale of various assets
of EWD, which is included with the results of the natural gas operations.
23
OPERATING RESULTS OF THE COMPANY'S NATURAL GAS OPERATIONS
Years Ended June 30
2002 2001 2000
(In thousands)
Operating revenues $39,709 $40,991 $24,301
Gas purchased 29,751 31,203 15,222
------- ------- -------
Gross Margin 9,958 9,788 9,079
Operating expenses 7,540 7,781 6,897
------- ------- -------
Operating Income 2,418 2,007 2,182
Other utility (income) - net (169) (110) (252)
Interest charges 1,161 1,239 1,186
Income taxes 565 317 489
------- ------- -------
Net natural gas income $ 861 $ 561 $ 759
======= ======= =======
FISCAL YEAR ENDED JUNE 30, 2002 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2001
REVENUES AND GROSS MARGINS
Natural gas operating revenues in fiscal 2002 decreased to $39,709,000
from $40,991,000 in fiscal 2001. This was primarily due to warmer temperatures
in the two states served by these operations, and lower cost of gas. In March
2001, the MPSC approved recovery of approximately $6,500,000 over one year for
increased gas costs the Company had incurred prior to that period. As of June
2002 the EWM division had recovered all of the increased costs, and therefore
the surcharge previously approved by the MPSC was eliminated. Going forward, the
MPSC requires a monthly filing to adjust customer rates if natural gas prices
increase or decrease by $.10 per Mcf.
Gross margin, which is defined as operating revenues less gas
purchased, was approximately $9,958,000 for fiscal 2002 compared to
approximately $9,788,000 in fiscal 2001 primarily due to lower cost of gas.
Gas purchases in the natural gas operations decreased by $1,452,000
from $31,203,000 in fiscal 2001 to $29,751,000 in fiscal 2002. The decrease in
gas costs are reflective of the lower volumes sold due to the warmer
temperatures, the lower cost of gas and the new gas cost recovery mechanism in
Montana, which allowed for a more responsive treatment of the regulated gas
costs to reflect market prices.
OPERATING EXPENSES
Natural gas operating expenses, exclusive of the cost of gas purchased
and federal and state income taxes were approximately $7,540,000 for fiscal
2002, as compared to $7,781,000 for fiscal 2001. The reduction of $241,000 is
due to the reduction in non-essential operating expenses and reductions in the
amount of overhead allocated to the natural gas operations.
24
NONOPERATING INCOME
Nonoperating income increased by $59,000 from $110,000 in fiscal 2001
to $169,000 in fiscal 2002. The increase was due primarily to miscellaneous
fixed asset sales during the current fiscal year.
INTEREST CHARGES
Interest charges allocable to the Company's natural gas divisions
reduced by $78,000 from $1,239,000 in fiscal 2001 compared to $1,161,000 during
fiscal 2002. The reduction is the result of lower annual interest rates
experienced in fiscal 2002 and lower short term borrowings by the Company.
INCOME TAXES
State and federal income taxes allocated to the Company's natural gas
divisions increased by $248,000 from $317,000 in fiscal 2001 to $565,000 during
fiscal 2002. The increase was the result of an increase in taxable income of the
natural gas operations.
FISCAL YEAR ENDED JUNE 30, 2001 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2000
REVENUES AND GROSS MARGINS
Natural gas operating revenues in fiscal 2001 increased to $40,991,000
from approximately $24,301,000 in fiscal 2000, or 69%. This was primarily due to
colder temperatures in the two states served by these operations, and higher
rates recovered from customers for the additional costs of gas. The majority of
this increase was in the EWM division. In March 2001, the Montana Public Service
Commission (MPSC) approved recovery of approximately $6,500,000 over one year
for gas costs the Company had incurred prior to that period. Going forward from
that date, the MPSC requires a monthly filing to adjust customer rates if
commodity prices increase or decrease by $.10 per Mcf.
Gross margin, which is defined as operating revenues less gas
purchased, was approximately $9,788,000 for fiscal 2001 compared to
approximately $9,079,000 in fiscal 2000. This increase resulted from colder
temperatures in fiscal 2001. Weather in the Company's Montana operations was 16%
colder than fiscal 2000, and 5% colder than normal. In the Company's Wyoming
operations, weather was 25% colder in fiscal 2001 than fiscal 2000, and 2%
warmer than normal.
Gas purchases in the natural gas operations increased by $15,981,000
from $15,222,000 in fiscal 2000 to $31,203,000 in fiscal 2001, an increase of
nearly 105%. These increased costs are reflective of the additional volumes sold
due to the colder temperatures, and the new gas cost recovery mechanism in
Montana, which allowed for a more responsive treatment of the regulated gas
costs to reflect market prices. The market price of natural gas hit historic
highs during the winter months of fiscal 2001.
25
OPERATING EXPENSES
Natural gas operating expenses, exclusive of the cost of gas purchased
and federal and state income taxes were approximately $7,781,000 for fiscal
2001, as compared to approximately $6,897,000 for fiscal 2000. In fiscal 2000,
the Company reduced non-essential discretionary expenses in response to the
warmer temperatures. The 13% increase in fiscal 2001 is representative of a
return to budgeted expenditures.
OTHER INCOME
Other income declined from $252,000 in fiscal year 2000 to $110,000 in
fiscal year 2001. In fiscal 2000, EWD realized a one-time capital gain of
approximately $95,000 from the sale of property.
INTEREST CHARGES
Interest charges allocable to the Company's natural gas divisions were
approximately $1,239,000 in fiscal 2001, as compared to approximately $1,186,000
in fiscal 2000, primarily due to higher short-term borrowing, as a result of
higher costs of gas, and increased gas costs in Montana that were not recovered
until following the MPSC's ruling in March 2001.
INCOME TAXES
State and federal income taxes allocated to the Company's natural gas
divisions were approximately $317,000 in fiscal 2001, as compared to
approximately $489,000 in fiscal 2000 primarily due to the decrease in pre-tax
earnings.
OPERATING RESULTS OF THE COMPANY'S PROPANE OPERATIONS
Years Ended June 30
(In thousands)
2002 2001 2000
PROPANE OPERATIONS
Operating revenues $11,007 $14,130 $8,481
Cost of propane 6,624 9,711 4,630
------- ------- ------
Gross Margin 4,383 4,419 3,851
Operating expenses 3,129 3,440 2,868
------- ------- ------
Operating income 1,254 979 983
Other (income) expense - net (196) (128) (145)
Interest expense 450 518 366
Income taxes 362 231 287
------- ------- ------
Net propane income $ 639 $ 358 $ 475
======= ======= ======
26
FISCAL YEAR ENDED JUNE 30, 2002 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2001
REVENUES AND GROSS MARGINS
Propane revenues decreased from $14,130,000 in fiscal 2001 to
$11,007,000 in fiscal 2002, a reduction of $3,123,000 or 22%. This decrease in
revenues was due mainly to lower spot market prices for propane sold during
fiscal year 2002 as well as a 10% reduction in volumes sold from fiscal 2001
compared to fiscal 2002. In addition, the sale of EWP's retail propane
operations in Montana and Wyoming caused a reduction in total revenues of
approximately $383,000. The propane operations were able to utilize the lower
market prices advantageously to purchase lower priced propane. The cost of
propane sold decreased from $9,711,000 during fiscal 2001 to $6,624,000 in
fiscal 2000, a reduction of approximately 32%. Gross margins decreased by
$36,000, or less than 1%.
OPERATING EXPENSES
Operating expenses were $3,129,000 for fiscal 2002 compared to
$3,440,000 for fiscal 2001, a decrease of $311,000. The operating expenses
decreased due to a reduction in general and administrative expenses of $338,000
resulting from the sale of EWP's retail propane assets in Montana and Wyoming.
This was offset by costs incurred for propane pipeline safety maintenance in the
EWA division.
NONOPERATING INCOME
Other income increased by $68,000 from $128,000 in fiscal 2001 to
$196,000 in fiscal year 2002.
INTEREST EXPENSE AND INCOME TAXES
Interest expense was reduced from $518,000 in fiscal 2001 to $450,000
in fiscal 2002. The reduction of $68,000 is due to lower interest costs
allocated to the propane operations resulting from lower overall borrowings by
the Company and the lower average interest rates on short term borrowings.
Income taxes increased from $231,000 in fiscal 2002 to $362,000 in fiscal 2002
due to higher taxable income for the year.
FISCAL YEAR ENDED JUNE 30, 2001 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2000
REVENUES AND GROSS MARGINS
Propane revenues increased approximately $5,649,000 or 67% from
$8,481,000 in fiscal 2000 to $14,130,000 in fiscal 2001. These increases
occurred primarily because of significantly colder temperatures in EWP's market
areas in Arizona, Wyoming and Montana, and higher propane prices during the
winter months of fiscal 2001. Gross margin increased by approximately $568,000,
again due to the weather related increases. Weather in 2001 was closer to normal
versus much warmer than normal temperatures in fiscal year 2000.
EXPENSES FOR OPERATIONS, INTEREST AND INCOME TAXES
Operating expenses for propane operations increased from approximately
$2,868,000 in fiscal 2000 to approximately $3,440,000 in fiscal 2001, an
increase of $572,000. The increase in operating expenses was primarily due to
the fact that the Company had imposed certain spending reductions during fiscal
2000 in response to the unusually warm temperatures. In fiscal year 2001, the
Company returned to more normal spending patterns. Interest charges allocable to
the Company's propane divisions were approximately $518,000 in fiscal 2001
compared to approximately $366,000 in fiscal 2000. The increased interest costs
were primarily due to increased average capital employed in fiscal year 2001.
State and federal income taxes decreased to approximately $231,000 for fiscal
2001 from $287,000 for fiscal 2000 due to lower pre-tax income in the propane
operations in fiscal 2001.
27
OPERATING RESULTS OF ENERGY WEST RESOURCES, INC.
Years Ended June 30
2002 2001 2000
(In thousands)
ENERGY WEST RESOURCES, INC (EWR)
Gas & electric trading revenue $48,917 $65,039 $39,604
Cost of gas & electric trading 47,676 57,808 38,937
------- ------- -------
Gross margin 1,241 7,231 667
Operating expenses 1,593 3,994 779
------- ------- -------
Operating income (loss) (352) 3,237 (112)
Other (income) (293) (43) (54)
Interest expense 94 338 122
Income tax expense (benefit) (54) 1,095 (67)
------- ------- -------
Net marketing income (loss) $ (99) $ 1,847 $ (113)
======= ======= =======
FISCAL YEAR ENDED JUNE 30, 2002 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2001
REVENUES
EWR's revenues decreased $16,122,000 from fiscal 2001 to fiscal 2002.
The 25% decrease was attributable to the reduction in revenues associated with
the remarketing of power. Additionally, lower commodity prices in fiscal 2002
were reflected in revenue.
GROSS MARGINS
EWR experienced a reduction in gross margin from fiscal 2001 to fiscal
2002 of $5,990,000. The majority of this 83% decrease in gross margin was
attributable to the reduction in margins associated with the remarketing of
electricity. EWR benefited from unusually high market prices during fiscal year
2001. The same market conditions were not present during fiscal year 2002.
OPERATING EXPENSES
Operating expenses for EWR were $1,593,000 during fiscal 2002 compared
to $3,994,000 during fiscal 2001. The $2,401,000 decrease was due mainly to a
reduction in incentives and commissions related to the decrease in gross
margins. These reductions were offset in part by approximately $535,000 in legal
expenses incurred by EWR in fiscal 2002 related to its ongoing litigation with
PPL, Montana (described in Part II, Item 1, Legal Proceedings).
28
NONOPERATING INCOME
EWR's nonoperating income was $250,000 higher in fiscal year 2002
compared to fiscal year 2001. The majority of this increase was due to a
$300,000 settlement received by EWR as in connection with its purchase of a
group of producing natural gas reserves located in northern Montana. EWR
received the $300,000 discount on its purchase price from the seller as a
settlement on certain claims against the seller. This transaction took place
during the fourth quarter of fiscal 2002.
INTEREST EXPENSE
Interest expense decreased during fiscal year 2002 by $244,000 due
mainly to a decrease in short-term borrowing rates, as well as an overall
reduction in borrowing.
INCOME TAXES
The EWR operations realized an income tax benefit of $54,000 during
fiscal 2002 compared to an expense of $1,095,000 in fiscal year 2001 due to the
reduction in taxable income from its operations.
FISCAL YEAR ENDED JUNE 30, 2001 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2000
REVENUE
EWR's revenue increased by $25,435,000 from fiscal 2000 to fiscal 2001.
The 69% increase was a result of the remarketing of power at unusually high
market prices. Additionally, the commodity price of gas in fiscal 2001 was
higher than in fiscal 2000 which is also reflected in increased revenue.
GROSS MARGINS
EWR's gross margins increased by $6,564,000 from fiscal 2000 to fiscal
2001 mainly as result of a combination of unusual factors, including
historically high market prices and remarketing of uncommitted power. The
Company does not expect these unusual conditions to continue in future periods.
EXPENSES FOR OPERATIONS, INTEREST AND INCOME TAXES
EWR's operating expenses related to energy marketing and wholesale
activities increased from approximately $779,000 in fiscal 2000 to approximately
$3,994,000 in fiscal 2001. The increase of $3,215,000 (or 5% of EWR's revenue)
was mainly due to higher incentive and commissions related to higher margins in
fiscal 2001, and costs related to non-recurring strategic expenses. Interest
charges increased approximately $216,000 from fiscal 2000 to fiscal 2001 due to
increased working capital requirements in fiscal 2001. State and federal income
taxes increased in fiscal 2001 to approximately $1,095,000 from a benefit of
$67,000 in fiscal 2000, due to the increase in pre-tax earnings.
CASH FLOW ANALYSIS
The primary cash flows during the last three years are summarized below:
2002 2001 2000
--------------- ---------------- ----------------
Provided by Operating activities $7,114,030 $6,008,065 $ 616,282
Used in investing activities (5,149,890) (3,287,843) (4,133,615)
Provided by (used in) financing
activities (1,817,150) (2,611,729) 3,403,537
----------- ----------- ------------
Net increase (decrease) in cash
and cash equivalents $ 146,990 $ 108,493 $ (113,796)
=========== =========== ============
Cash provided by operating activities consists of net income and noncash items
including depreciation, depletion, amortization and deferred income taxes.
Additionally, changes in working capital are also included in cash provided by
operating activities. The Company expects that internally generated cash,
coupled with short-term borrowings, will be sufficient to satisfy its operating,
normal capital expenditure and dividend requirements.
29
LIQUIDITY AND CAPITAL RESOURCES
The Company's utility operations are subject to regulation by the MPC,
the WYPSC, and the ACC. This factor plays a significant role in determining the
Company's return on equity. The various commissions approve rates that are
intended to permit a specified rate of return on
30
investment. The Company's tariffs allow the cost of gas to be passed through to
customers. The pass-through causes some delay, however, between the time that
the gas cost are incurred by the Company and the time that the Company recovers
such costs from customers.
The business of the Company and its subsidiaries in all segments is
temperature-sensitive. In any given period, sales volumes reflect the impact of
weather, in addition to other factors, with colder temperatures generally
resulting in increased sales by the Company. The Company anticipates that this
sensitivity to seasonal and other weather conditions will continue to be
reflected in the Company's sales volumes in future periods.
Because of the seasonal nature of the Company's sales, cash generated
from operations during the warmer months (when sales volumes decrease
considerably) is significantly lower than during colder months. Additionally,
most of the Company's construction activity takes place during the non-heating
season because of more favorable weather conditions. During these warmer,
non-heating months, cash needs for operations and construction are primarily met
through short-term borrowings.
Capital expenditures for the Company and its subsidiaries for fiscal
2003 are expected to be $3.3 million. The capital expenditures will be made for
system extensions as well as the replacement and improvement of existing
transmission, distribution, gathering and general facilities.
At June 30, 2002, the Company had $26,000,000 in bank lines of credit,
of which $3,500,000 had been borrowed the application at June 30, 2002. The
Company's short-term borrowings under these lines of credit during fiscal 2001
had a daily weighted average interest rate of 4.60% per annum. At the June 30,
2002, the Company had outstanding letters of credit totaling $4,150,000 related
to electricity and gas purchase contracts. These letters of credit are netted
against the Company's bank lines of credit, resulting in net availability of
$18,350,000 under the lines of credit at June 30, 2002.
In addition to its bank lines of credit, the Company has outstanding
certain notes and industrial development revenue obligations (collectively "Long
Term Debt"). The Company's Long Term Debt is made up of three separate
obligations: $8.0 million of Series 1997 unsecured notes bearing interest at the
rate of 7.5%; $7.8 million of Series 1993 unsecured notes bearing interest at
rates ranging from 6.20% to 7.60%; and Cascade County, Montana Series 1992B
Industrial Development Revenue Obligations in the amount of $1.8 million.
The total amount of such obligations was $15,856,000 and $16,346,000,
at June 30, 2002 and June 30, 2001, respectively. The portion of such
obligations due within one year was $500,000 and $465,000, at June 30, 2001, and
June 30, 2002, respectively. Under the terms of such Long-Term Debt obligations,
additional principal payments of $530,000 will be due during fiscal 2004,
$570,000 during fiscal 2005, $610,000 during fiscal 2006, $655,000 during fiscal
2007, and $12,991,000 during periods after fiscal 2007.
A table of the Company's long-term debt, as well as other long-term
commitments and contingencies, and the corresponding maturity dates are listed
below. The "Less than 1 year" amount listed below for "Unconditional Purchase
Obligations" represents purchase obligations of natural gas under take or pay
agreements and obligations due within one year related to operating lease
commitments.
31
Payments Due by Period
Less
Contractual than 1 - 3 4 - 5 After 5
Obligations Total 1 year years years years
- ----------- ----- ------ ----- ----- -----
Long-Term Debt 15,856,000 500,000 1,100,000 1,265,000 12,991,000
---------- --------- --------- --------- -------
Capital Lease
Obligations 13,496 2,072 5,093 6,331 --
---------- --------- --------- --------- -------
Unconditional
Purchase Obligations 10,077,613 3,281,802 4,215,871 1,647,789 932,151
---------- --------- --------- --------- -------
Under the terms of the Long Term Debt obligations, the Company is
subject to certain restrictions, including restrictions on total dividends and
distributions, senior indebtedness, and asset sales, and the Company is required
to maintain certain financial debt and interest ratios.
An adverse outcome in the litigation with PPLM or the tax dispute with
the DOR could have a material adverse effect on the Company's liquidity and
capital resources. See "Item 3-Legal Proceedings."
RISK FACTORS
The major factors which will affect the Company's future results
include general and regional economic conditions, weather, customer retention
and growth, the ability to meet competitive pressures and to contain costs, the
adequacy and timeliness of rate relief, cost recovery and necessary regulatory
approvals, and continued access to capital markets. In addition, changes in the
competitive environment particularly related to the Company's propane and energy
marketing segments could have a significant impact on the performance of the
Company.
The regulatory structure is in transition. Legislative and regulatory
initiatives, at both the federal and state levels, have been designed to promote
competition. The changes in the gas industry have allowed certain customers to
negotiate their own gas purchases directly with producers or brokers. To date,
the changes in the gas industry have not had a negative impact on earnings or
cash flow of the Company's regulated segment.
The Company's regulated natural gas and propane vapor operations follow
Statement of Accounting Standards No. 71 "Accounting for the Effects of Certain
Types of Regulation," ("SFAS 71"), and its financial statements reflect the
effects of the different rate making principles followed by the various
jurisdictions regulating the Company. The economic effects of regulation can
result in regulated companies recording costs that have been or are expected to
be allowed in the ratemaking process in a period different from the period in
which the costs would be charged to expense by an unregulated enterprise. When
this occurs, costs are deferred as assets in the balance sheet (regulatory
assets) and recorded as expenses in the periods when those same amounts are
reflected in rates. Additionally, regulators can impose liabilities upon a
regulated company for amounts previously collected from customers and for
amounts that are expected to be refunded to customers (regulatory liabilities).
If the Company's natural gas and
32
propane vapor operations were to discontinue the application of SFAS 71, the
accounting impact would be an extraordinary, non-cash charge to operations that
could be material to the financial position and results of operation of the
Company. However, the Company is unaware of any circumstances or events in the
foreseeable future that would cause it to discontinue the application of SFAS
71.
In addition to the factors discussed above, the following are important
factors that could cause actual results to differ materially from any results
projected, forecasted, estimated or budgeted:
- - Fluctuating energy commodity prices, including prices for fuel and purchased
power;
- - The possibility that regulators may not permit the Company to pass through
all such increased costs to customers;
- - Fluctuations in wholesale margins due to uncertainty in the wholesale
propane and power markets;
- - Changes in general economic conditions in the United States and changes in
the industries in which the Company conducts business;
- - Changes in federal or state laws and regulations to which the Company is
subject, including tax, environmental and employment laws and regulations;
- - The impact of FERC and state public service commission statutes and
regulation, including allowed rates of return, the pace of deregulation in
retail natural gas and electricity markets, and the resolution of other
regulatory matters;
- - The ability of the Company and its subsidiaries to obtain governmental and
regulatory approval of various expansion or other projects;
- - The costs and effects (including the possibility of adverse outcomes) of
legal and administrative claims and proceedings against the Company or its
subsidiaries, particularly the litigation with PPLM and the property tax
dispute with the DOR;
- - Conditions of the capital markets the Company utilizes to access capital to
finance operations;
- - The ability to raise capital in a cost-effective way;
- - The effect of changes in accounting policies, if any;
- - The ability to manage growth of the Company;
- - The ability to control costs;
- - The ability of each business unit to successfully implement key systems,
such as service delivery systems;
- - The ability of the Company and its subsidiaries to develop expanded markets
and product offerings as well as their ability to maintain existing markets;
- - The ability of customers of the energy marketing and trading business to
obtain financing for various projects;
- - The ability of customers of the energy marketing and trading business to
obtain governmental and regulatory approval of various projects;
- - Future utilization of pipeline capacity, which can depend on energy prices,
competition from alternative fuels, the general level of natural gas and
propane demand, decisions by customers not to renew expiring natural gas or
propane contracts, and weather conditions; and
- - Global and domestic economic repercussions from terrorist activities and the
government's response thereto.
33
RATIO OF EARNINGS TO FIXED CHARGES
For the twelve months ended June 30, 2002, 2001 and 2000, the Company's
ratio of earnings to fixed charges was 2.20, 2.95 and 1.95 times, respectively.
Fixed charges include interest related to long-term debt, short-term borrowing,
certain lease obligations and other current liabilities.
INFLATION
Capital intensive businesses, such as the Company's natural gas and
propane vapor operations, are significantly affected by long-term inflation.
Neither depreciation charges against earnings nor the ratemaking process reflect
the replacement cost of utility plant. However, based on past practices of
regulators, the Company anticipates that it will be permitted to recover and
earn a rate of return on the actual cost of its investment in the replacement or
upgrade of plant assets. Although prices for natural gas and propane vapor may
fluctuate, earnings are not impacted by such fluctuation because gas and propane
vapor cost tracking procedures approved by the various public service
commissions balance gas and propane vapor costs collected from customers with
the costs of supplying natural gas and propane vapor. The Company believes that
the effects of inflation, at currently anticipated levels, will not materially
affect results of operations.
ENVIRONMENTAL ISSUES
The Company owns property on which it operated a manufactured gas plant
from 1909 to 1928. The site is currently used as a service center by the
Company. The coal gasification process utilized in the manufactured gas plant
resulted in the production of certain by-products that have been classified by
the federal government and the State of Montana as hazardous to the environment.
In 1999, the Company received approval from the Montana Department of
Environmental Quality ("MDEQ") for a plan proposed by the Company for
remediation of soil contaminants at the site. To date, all contaminated soil has
been removed, and an asphalt cap has been placed over the site. The Company and
its consultants continue their work with the MDEQ relating to a remediation plan
proposed by the Company for water contaminants.
At June 30, 2002, the Company had incurred cumulative costs of
approximately $1,950,000 in connection with its evaluation and remediation of
the site. On May 30, 1995, the Company received an order from the MPSC allowing
for recovery of the costs associated with the evaluation and remediation of the
site through a surcharge on customer bills. As of June 30, 2002, the Company had
recovered approximately $1,276,000 through such surcharges. The Company expects
to recover the full amount expended through the surcharge. The Commission's
decision calls for ongoing review by the Commission of any costs incurred. The
Company will submit an application for review by the Commission when the
remediation plan for water contaminants is approved by the MDEQ.
34
DERIVATIVES AND RISK MANAGEMENT
The Company and its subsidiaries are subject to certain risks related
to changes in certain commodity prices and risks of counter-party performance.
The Company and its subsidiaries have established certain policies and
procedures to manage such risks. The Company has a Risk Management Committee
("RMC"), comprised of Company officers to oversee the Company's risk management
program as defined in its risk management policy. The purpose of the risk
management program is to minimize adverse impacts on earnings resulting from
volatility of energy prices, counter-party credit risks, and other risks related
to the energy commodity business. The RMC is overseen by the Audit Committee of
the Company's Board of Directors.
GENERAL - From time to time the Company or its subsidiaries may use
derivative financial contracts to mitigate the risk of commodity price
volatility related to firm commitments to purchase and sell natural gas or
electricity. The Company or a subsidiary may use such arrangements to protect
its profit margin on future obligations to deliver quantities of a commodity at
a fixed price. Conversely, such arrangements may be used to hedge against future
market price declines where the Company or a subsidiary enters into an
obligation to purchase a commodity at a fixed price in the future. The Company
accounts for such financial instruments in accordance with Statement of
Financial Accounting Standard (SFAS) 133, "Accounting for Derivative Instruments
and Hedging Activities" as amended by SFAS 138 "Accounting for Certain
Derivative Instruments and Certain Hedging Activities," which the Company
adopted July 1, 2000.
In accordance with SFAS 133, such financial instruments are reflected
in the Company's financial statements at "fair value", determined as of the date
of the balance sheet. This accounting treatment is also referred to as
"mark-to-market" accounting. Mark-to-market accounting treatment can result in a
disparity between reported earnings and realized cash flow, because changes in
the value of the financial instrument are reported as income or loss even though
no cash payment may have been made between the parties to the contract. If such
contracts are held to maturity, the cash flow from the contracts, and their
hedges, are realized over the life of the contracts.
Quoted market prices for natural gas derivative contracts of the
Company or its subsidiaries generally are not available. Therefore, to determine
the fair value of natural gas derivative contracts, the Company uses internally
developed valuation models that incorporate available current and historical
independent pricing information. The use of such models is inherently less
reliable than reference to an active market or exchange in determining fair
value.
The Company classifies contracts under which the Company or a
subsidiary agrees to future purchases or sales of physical volumes of natural
gas as normal purchase or sale arrangements, and therefore is not required to
use mark-to-market valuation for such contracts under SFAS 133.
WHOLESALE OPERATIONS - During fiscal year 2001 and part of fiscal year
2002, EWR was party to a number of contracts, which were valued on a
mark-to-market basis under SFAS 133. Although certain firm commitments to
purchase and sell could potentially have been classified as
35
normal purchases and sales, and excluded from the valuation requirements of SFAS
133, EWR elected to classify these commitments as derivatives subject to the
mark-to-market valuation under SFAS 133 in order to properly match commitments
to purchase and sell for financial reporting purposes. Therefore, such
commitments were recorded in the Company's consolidated balance sheet at fair
value. Quarterly mark-to-market adjustments to the fair values of these
commitments were recorded in gross margin.
In January 2002, EWR terminated its derivative contracts with Enron
Canada Corporation (ECC), a subsidiary of Enron, Inc. Most of these contracts
were commodity swaps that EWR had obtained to protect against fluctuations in
the market price of natural gas. The derivative contracts with ECC were entered
into at various times in order to lock in margins on certain agreements under
which EWR had agreed to sell natural gas to customers for future delivery at
fixed prices (the "Future Supply Agreements"). EWR made the decision to
terminate these ECC contracts because of concerns relating to the bankruptcy of
Enron, Inc. At the time of termination, the prevailing price of natural gas was
substantially lower than such price had been at the times when EWR entered into
the ECC contracts, resulting in a net amount due from EWR to ECC of
approximately $5,400,000. EWR paid this amount to ECC upon the termination of
the ECC contracts, and thereby discharged the liability related to the
contracts. The net effect of the termination on the Company's consolidated net
income was immaterial. The costs related to such termination are reflected in
the Company's Consolidated Income Statement as Gas Purchases.
At the time it terminated the ECC derivative contracts, EWR secured new
gas purchase contracts (the "Future Purchase Agreements") at prices much lower
than those provided for under the ECC contracts. The Future Supply Agreements
continue to be valued on a mark-to market basis. Therefore, the value of such
agreements has been reflected in the Company's consolidated net income.
As of June 30, 2002, the Future Supply Agreements were reflected on the
Company's Consolidated Balance Sheet at an approximate aggregate fair value as
follows:
Contracts maturing in one year or less: $1,252,000
Contracts maturing in two to three years: $1,027,000
Contracts maturing in four to five years: $ 489,000
Contracts maturing in five years or more: $ 100,000
The Company does not expect the values of such Future Supply Agreements
to fluctuate significantly because the values are a function of the fixed prices
under both the Future Supply Agreements and the Future Purchase Agreements.
Therefore, EWR expects that the present value of future cash collections (net of
the cost of the commodity supplied) under such agreements will be approximately
equal to the amounts set forth above. Factors that could negatively affect the
ability of EWR to realize on such net cash collections include credit risk
associated with individual customers, and possible volume demands in excess of
the amount for which EWR has contracted at a fixed price under the Future
Purchase Agreements. The Company does not expect such factors to have a material
effect, although no assurance can be given that such factors will not negatively
and materially affect such expected cash collections.
36
Failure to realize the full amount of expected net cash collections would
negatively affect the Company's future income.
Since January 2002, EWR has not entered into any new contracts that
have required mark-to-market valuation under SFAS 133.
NATURAL GAS OPERATIONS - In the case of the Company's regulated
divisions, gains or losses resulting from the eventual settlement of derivative
contracts are subject to deferral under regulatory procedures approved by the
public service regulatory commissions of Montana, Wyoming and Arizona.
Therefore, related derivative assets and liabilities are offset with
corresponding regulatory liability and asset amounts included in "Recoverable
Cost of Gas Purchases", pursuant to SFAS 71, "Accounting for Certain Types of
Regulation." Thus, SFAS 133 has no effect on earnings from the Company's
regulated operations.
SUPPLEMENTAL QUARTERLY FINANCIAL INFORMATION
Supplemental quarterly financial information is set forth in Note 15 to
the Company's Consolidated Financial Statements.
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
The foregoing Management's Discussion and Analysis and other portions
of this annual report on Form 10-K contain various "forward looking statements"
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Sections 21E of the Securities Exchange Act of 1934, as amended, which represent
the Company's expectations or beliefs concerning future events. Forward-looking
statements can be identified by words such as "anticipates," "believes,"
"expects," "planned," "scheduled" or similar expressions. Although the Company
believes these forward-looking statements are based on reasonable assumptions,
statements made regarding future results are subject to a number of assumptions,
uncertainties and risks that could cause future results to be materially
different from the results stated or implied in this document.
Such forward-looking statements, as well as other oral and written
forward-looking statements made by or on behalf of the Company from time to
time, including statements contained in the Company's filings with the
Securities and Exchange Commission and its reports to shareholders, involve
known and unknown risks and other factors which may cause the Company's actual
results in future periods to differ materially from those expressed in any
forward-looking statements. Factors that could cause or contribute to such
differences included, but are not limited to: (i) fluctuations in energy
commodity prices, including prices for fuel and purchased power, (ii) the impact
of state and federal laws and regulations, (iii) the possibility that regulators
may not permit the Company to pass through all costs to customers, (iv)
fluctuations in wholesale margins due to uncertainty in the wholesale gas,
propane and power markets, (iv) costs and expenses of, and uncertainties
relating to, pending litigation and other disputes, particularly the litigation
with PPLM and the property tax dispute with the DOR, and (v) other factors
discussed above, including items under the heading "Risk Factors."
37
Any such forward-looking statement is qualified by reference to these
risks and factors. The Company cautions that these risks and factors are not
exclusive. The Company does not undertake to update any forward-looking
statement that may be made from time to time by or on behalf of the Company
except as required by law.
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company and its subsidiaries are subject to certain market risks,
including commodity price risk (i.e., natural gas, electric and propane prices)
and interest rate risk. The adverse effects of potential changes in these market
risks are discussed below. The sensitivity analyses presented do not consider
the effects that such adverse changes may have on overall economic activity nor
do they consider additional actions management may take to mitigate the
Company's exposure to such changes. Actual results may differ. See the notes to
the financial statements for a description of the Company's accounting policies
and other information related to these financial instruments.
COMMODITY PRICE RISK
The Company protects itself against price fluctuations on natural gas
and electricity by limiting the aggregate level of net open positions, which are
exposed to market price changes and through the use of natural gas derivative
instruments. The net open position is actively managed with strict policies
designed to limit the exposure to market risk, and which require at least weekly
reporting to management of potential financial exposure. The risk management
committee has limited the types of financial instruments the Company or its
subsidiaries may trade to those related to natural gas commodities. The
Company's results of operations are significantly impacted by changes in the
price of natural gas. During 2002 and 2001, natural gas accounted for 66% and
77% respectively, of the Company's operating expenses. The Company's regulated
operations are allowed recovery of costs associated with the purchase of natural
gas. In most cases, these costs are recovered within one year which mitigates
the risk associated with changes in the market price of the commodity.
INTEREST RATE RISK
The Company's results of operations are affected by fluctuations in
interest rates (e.g. interest expense on debt). The Company mitigates this risk
by entering into long-term debt agreements with fixed interest rates. The
Company's notes payable are subject to variable interest rates. Based on the
amount of the outstanding notes payable on June 30, 2002, a one percent increase
(decrease) in average interest rates would result in a decrease (increase) in
annual pre-tax net income of approximately $35,000. See Note 7 to the Company's
Consolidated Financial Statements.
CREDIT RISK
Credit risk relates to the risk of loss that the Company would incur as
a result of non-performance by counterparties of their contractual obligations
under the various instruments with the Company. Credit risk may be concentrated
to the extent that one or more groups of counterparties have similar economic,
industry or other characteristics that would cause their ability to meet
contractual obligations to be similarly affected by changes in market or other
conditions. In addition, credit risk includes not only the risk that a
counterparty may default due to circumstances relating directly to it, but also
the risk that a counterparty may default due to circumstances which relate to
other market participants which have a direct or indirect
38
relationship with such counterparty. The Company seeks to mitigate credit risk
by evaluating the financial strength of potential counterparties. However,
despite mitigation efforts, defaults by counterparties may occur from time to
time. To date, no material default has occurred.
39
Item 8. Financial Statements and Supplementary Data
Report of Independent Auditors
To the Board of Directors and Stockholders of
Energy West Incorporated
Great Falls, Montana
We have audited the accompanying consolidated balance sheet of Energy West
Incorporated and subsidiaries as of June 30, 2002, and the related consolidated
statements of income, stockholders' equity, and cash flows for the year then
ended. Our audit also included the information for the year ended June 30, 2002
in the financial statement schedule listed in the Index at Item 14. These
financial statements and financial statement schedule are the responsibility of
the Company's management. Our responsibility is to express an opinion on the
financial statements and financial statement schedule based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Energy West Incorporated and
subsidiaries at June 30, 2002, and the results of their operations and their
cash flows for the year then ended, in conformity with accounting principles
generally accepted in the United States of America. Also, in our opinion, the
information for the year ended June 30, 2002, in the financial statement
schedule, when considered in relation to the basic consolidated financial
statements taken as a whole, presents fairly in all material respects the
information set forth therein.
DELOITTE & TOUCHE LLP
Salt Lake City, Utah
September 25, 2002
40
Report of Independent Auditors
The Board of Directors
Energy West Incorporated
We have audited the accompanying consolidated balance sheet of Energy West
Incorporated and subsidiaries as of June 30, 2001, and the related consolidated
statements of income, stockholders' equity, and cash flows for each of the two
years in the period ended June 30, 2001. Our audits also included the
information for each of the two years in the period ended June 30, 2001 in the
financial statement schedule listed in the index at item 14(a). These financial
statements and schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Energy West
Incorporated and subsidiaries at June 30, 2001, and the consolidated results of
their operations and their cash flows for each of the two years in the period
ended June 30, 2001, in conformity with accounting principles generally accepted
in the United States. Also, in our opinion, the related financial statement
schedule for each of the two years in the period ended June 30, 2001, when
considered in relation to the basic financial statements taken as a whole,
presents fairly in all material respects, the information set forth therein.
ERNST & YOUNG LLP
Salt Lake City, Utah
August 31, 2001
41
ENERGY WEST INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS, JUNE 30, 2002 AND 2001
- --------------------------------------------------------------------------------
ASSETS 2002 2001
CURRENT ASSETS:
Cash and cash equivalents $ 367,657 $ 220,667
Accounts receivable (net of allowance of $154,251
and $204,570 at June 30, 2002 and 2001, respectively) 8,244,239 10,331,403
Derivative assets 2,867,717 3,444,861
Natural gas and propane inventories 5,640,660 4,767,546
Materials and supplies 593,674 631,574
Prepayments and other 445,652 401,142
Deferred tax assets 931,147 --
Recoverable cost of gas purchases -- 6,824,220
----------- -----------
Total current assets 19,090,746 26,621,413
NOTES RECEIVABLE 3,300 137,927
PROPERTY, PLANT, AND EQUIPMENT, Net 36,518,908 32,999,158
DEFERRED CHARGES 1,935,263 2,314,671
OTHER ASSETS 320,830 204,466
----------- -----------
TOTAL ASSETS $57,869,047 $62,277,635
=========== ===========
See notes to consolidated financial statements. (Continued)
42
ENERGY WEST INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS, JUNE 30, 2002 AND 2001
- --------------------------------------------------------------------------------
CAPITALIZATION AND LIABILITIES 2002 2001
CURRENT LIABILITIES:
Current portion of long-term debt $ 502,072 $ 465,000
Lines of credit 3,500,000 3,785,989
Accounts payable 7,413,693 7,305,120
Derivative liabilities -- 3,921,354
Income taxes payable 1,005,975 1,840,591
Deferred income taxes -- 631,305
Refundable cost of gas purchases 2,024,159 --
Accrued and other current liabilities 5,453,304 6,466,626
---------- ----------
Total current liabilities 19,899,203 24,415,985