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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
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2004
Commission File Number 1-14161
KEYSPAN CORPORATION
(Exact name of registrant as specified in its charter)
NEW YORK 11-3431358
(State or other jurisdiction of (I.R.S. employer identification no.)
incorporation or organization)
One MetroTech Center, Brooklyn, New York 11201
175 East Old Country Road, Hicksville, New York 11801
(Address of principal executive offices) (Zip code)
(718) 403-1000 (Brooklyn)
(516) 755-6650 (Hicksville)
(Registrant's telephone number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
Title of each class Name of each exchange on which registered
------------------- -----------------------------------------
Common Stock, $.01 par value New York Stock Exchange
Pacific Stock Exchange
Series AA Preferred Stock, $25 par value New York Stock Exchange
Pacific Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: None (Title of
class) 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. X Yes __No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. X
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act) X Yes __No
As of June 30, 2004, the aggregate market value of the common stock held by
non-affiliates (160,169,624 shares) of the registrant was $5,878,225,201 based
on the closing price of the New York Stock Exchange on such date, of $36.10 per
share. For purposes of this computation, all officers and directors of the
registrant are deemed to be affiliates.
As of February 15, 2005, there were 160,818,311 shares of common stock,
$.01 par value, outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Proxy Statement dated on or about March 29, 2005 is incorporated by
reference into Part III hereof.
KEYSPAN CORPORATION
INDEX TO FORM 10-K
Page
----
PART I
Item 1. Business...............................................................................................1
Item 2. Properties........................................................................................... 33
Item 3. Legal Proceedings.....................................................................................33
Item 4. Submission of Matters to a Vote of Security Holders...................................................33
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of
Equity Securities....................................................................................34
Item 6. Selected Financial Data...............................................................................36
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.................................................................................37
Item 7A. Quantitative and Qualitative Disclosures About Mark Risk..............................................90
Item 8. Financial Statements and Supplementary Data...........................................................93
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure................................................................................172
Item 9A. Controls and Procedures..............................................................................172
Item 9B. Other Information....................................................................................173
PART III
Item 10. Directors and Executive Officers of the Registrant...................................................175
Item 11. Executive Compensation...............................................................................175
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.......175
Item 13. Certain Relationships and Related Transactions.......................................................175
Item 14. Principal Accountant Fees and Services...............................................................175
Item 15. Exhibits and Financial Statement Schedules ..........................................................176
PART I
Item 1. Business
Corporate Overview
KeySpan Corporation ("KeySpan"), a New York corporation, is a member of the
Standard and Poor's 500 Index and a registered holding company under the Public
Utility Holding Company Act of 1935, as amended ("PUHCA"). KeySpan was formed in
May 1998, as a result of the business combination of KeySpan Energy Corporation,
the parent of The Brooklyn Union Gas Company, and certain businesses of the Long
Island Lighting Company ("LILCO"). On November 8, 2000, we acquired Eastern
Enterprises ("Eastern"), now known as KeySpan New England, LLC ("KNE"), a
Massachusetts limited liability company, which primarily owns Boston Gas Company
("Boston Gas"), Colonial Gas Company ("Colonial Gas") and Essex Gas Company
("Essex Gas"), gas utilities operating in Massachusetts, as well as EnergyNorth
Natural Gas, Inc. ("EnergyNorth"), a gas utility operating principally in
central New Hampshire. As used herein, "KeySpan," "we," "us" and "our" refers to
KeySpan, its six principal gas distribution subsidiaries, and its other
regulated and unregulated subsidiaries, individually and in the aggregate.
Under our holding company structure, we have no independent operations and
conduct substantially all of our operations through our subsidiaries. Our
subsidiaries operate in the following four businesses: Gas Distribution,
Electric Services, Energy Services and Energy Investments.
The Gas Distribution segment consists of our six regulated gas distribution
subsidiaries, which operate in New York, Massachusetts and New Hampshire and
serve approximately 2.6 million customers.
The Electric Services segment consists of subsidiaries that manage the electric
transmission and distribution ("T&D") system owned by the Long Island Power
Authority ("LIPA"); provide generating capacity and, to the extent required,
energy conversion services for LIPA from our approximately 4,200 megawatts of
generating facilities located on Long Island; and manage fuel supplies for LIPA
to fuel our Long Island generating facilities. The Electric Services segment
also includes subsidiaries that own, lease and operate the 2,450 megawatt
Ravenswood electric generation facility (the "Ravenswood Facility"), located in
Queens County in New York City, which includes the 250 megawatt combined cycle
generating unit which began full commercial operation in May 2004, as well as
market generating capacity and energy to commercial retail customers.
The Energy Services segment provides energy-related and fiber optic services to
customers primarily located within the Northeastern United States, with
concentrations in the New York City and Boston metropolitan areas through
various subsidiaries that operate under the following principal two lines of
business: (i) Home Energy Services; and (ii) Business Solutions. Management has
been reviewing the operating performance of this segment, which has experienced
significantly lower operating profits than originally projected. In January and
February of 2005, we disposed of our ownership interests in the companies
engaged in mechanical contracting activities.
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The Energy Investments segment includes: (i) gas exploration and production
activities; (ii) domestic pipelines and gas storage facilities; and (iii)
natural gas pipeline activities in the United Kingdom.
KeySpan's strategic vision is to be the premier energy company in the
Northeastern United States. KeySpan is the largest gas distribution company in
the Northeast and the fifth largest in the United States. KeySpan's size and
scope enables us to provide enhanced cost-effective customer service; to offer
our existing customers other services and products by building upon our existing
customer relationships; and to capitalize on growth opportunities for natural
gas expansion in the Northeast by expanding our infrastructure, primarily on
Long Island and in New England.
Certain statements contained in this Annual Report on Form 10-K concerning
expectations, beliefs, plans, objectives, goals, strategies, future events or
performance and underlying assumptions and other statements that are other than
statements of historical facts, are "forward-looking statements" within the
meaning of Section 21E of the Securities Exchange Act of 1934, as amended.
Without limiting the foregoing, all statements under the captions "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Item 7A. Quantitative and Qualitative Disclosures About Market
Risk" relating to our future outlook, anticipated capital expenditures, future
cash flows and borrowings, pursuit of potential acquisition opportunities and
sources of funding, are forward-looking statements. Such forward-looking
statements reflect numerous assumptions and involve a number of risks and
uncertainties, and actual results may differ materially from those discussed in
such statements.
The risks, uncertainties and factors that could cause actual results to differ
materially include but are not limited to:
- - volatility of fuel prices used to generate electricity;
- - fluctuations in weather and in gas and electric prices;
- - general economic conditions, especially in the Northeast United States;
- - our ability to successfully manage our cost structure and operate
efficiently;
- - our ability to successfully contract for natural gas supplies required to
meet the needs of our customers;
- - implementation of new accounting standards or changes in accounting
standards or GAAP which may require adjustment to financial statements;
- - inflationary trends and interest rates;
- - the ability of KeySpan to identify and make complementary acquisitions, as
well as the successful integration of such acquisitions;
- - available sources and cost of fuel;
- - creditworthiness of counter-parties to derivative instruments and commodity
contracts;
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- - the resolution of certain disputes with LIPA concerning each party's rights
and obligations under various agreements;
- - retention of key personnel;
- - federal, state and local regulatory initiatives that threaten cost and
investment recovery, and place limits on the type and manner in which we
invest in new businesses and conduct operations;
- - the impact of federal, state and local utility regulatory policies and
orders on our regulated and unregulated businesses;
- - potential write-down of our investment in natural gas properties when
natural gas prices are depressed or if we have significant downward
revisions in our estimated proved gas reserves;
- - competition facing our unregulated Energy Services businesses;
- - the degree to which we develop unregulated business ventures, as well as
federal and state regulatory policies affecting our ability to retain and
operate such business ventures profitably;
- - change in political conditions, acts of war or terrorism;
- - a change in the fair market value of our investments that could cause a
significant change in the carrying value of such investments or the
carrying value of related goodwill;
- - timely receipts of payments from LIPA and the New York Independent System
Operator ("NYISO"), our two largest customers;
- - the outcome of LIPA's strategic business options study, pertaining to its
long-term future which include, as stated by LIPA, whether or not LIPA will
continue its operations as they presently exist, fully municipalize or
privatize, sell some, but not all of its assets and/or become a regulator
of rates and services, or merge with one or more utilities. In addition,
LIPA must make a determination by May 28, 2005, as to whether it will
purchase our interest in KeySpan Generation LLC, the owner of our Long
Island (excluding the Glenwood and Port Jefferson Energy Center units)
generating assets, pursuant to the terms of the Generation Purchase Rights
Agreement; and
- - other risks detailed from time to time in other reports and other documents
filed by KeySpan with the Securities and Exchange Commission ("SEC").
For any of these statements, KeySpan claims the protection of the safe harbor
for forward-looking information contained in the Private Securities Litigation
Reform Act of 1995, as amended. For additional discussion on these risks,
uncertainties and assumptions, see Item 1. "Description of the Business," Item
2. "Properties," Item 7. "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and Item 7A. "Quantitative and Qualitative
Disclosures About Market Risk" contained herein.
3
KeySpan's principal executive offices are located at One MetroTech Center,
Brooklyn, New York 11201 and 175 East Old Country Road, Hicksville, New York
11801, and its telephone numbers are (718) 403-1000 (Brooklyn) and (516)
755-6650 (Hicksville). KeySpan makes available free of charge on or through its
website, http://www.keyspanenergy.com (Investor Relations section), its annual
report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form
8-K, and all amendments to those reports as soon as reasonably practicable after
such material is electronically filed with or furnished to the SEC.
KeySpan has adopted a Code of Ethics applicable to its Chief Executive Officer
and Senior Financial Officers, and has an Ethical Business Conduct Statement
applicable to all directors, officers and employees of the Company as required
by securities rules and regulations.
KeySpan's Code of Ethics, Ethical Business Conduct Statement, Corporate
Governance Guidelines, the Corporate Governance and Nominating Committee
Charter, the Compensation and Management Development Committee Charter, the
Audit Committee Charter and the Executive Committee Charter (collectively,
"Committee Charters") can each be found on the Investor Relations section of
KeySpan's website (http://www.keyspanenergy.com) and provide information on the
framework and high standards set by the Company relating to its corporate
governance and business practices. Additionally, these documents are available
in print to any shareholder requesting a copy. The Code of Ethics, Ethical
Business Conduct Statement, Corporate Governance Guidelines and Committee
Charters have all been approved by the Board of Directors and are vital to
securing the confidence of KeySpan's shareholders, customers, employees,
governmental authorities and the investment community.
Gas Distribution Overview
Our gas distribution activities are conducted by our six regulated gas
distribution subsidiaries, which operate in three states in the Northeast: New
York, Massachusetts and New Hampshire. We are the fifth largest gas distribution
company in the United States and the largest in the Northeast, with
approximately 2.6 million customers served within an aggregate service area
covering 4,273 square miles. In New York, The Brooklyn Union Gas Company, doing
business as KeySpan Energy Delivery New York ("KEDNY") provides gas distribution
services to customers in the New York City Boroughs of Brooklyn, Queens and
Staten Island; and KeySpan Gas East Corporation doing business as KeySpan Energy
Delivery Long Island ("KEDLI") provides gas distribution services to customers
in the Long Island Counties of Nassau and Suffolk and the Rockaway Peninsula of
Queens County. In Massachusetts, Boston Gas provides gas distribution services
in eastern and central Massachusetts; Colonial Gas provides gas distribution
services on Cape Cod and in eastern Massachusetts; and Essex Gas provides gas
distribution services in eastern Massachusetts. In New Hampshire, EnergyNorth
provides gas distribution services to customers principally located in central
New Hampshire. Our New England gas companies all do business as KeySpan Energy
Delivery New England ("KEDNE").
In New York, there are two separate, but contiguous service territories served
by KEDNY and KEDLI, comprising approximately 1,417 square miles, and 1.68
million customers. In Massachusetts, Boston Gas, Colonial Gas and Essex Gas
serve three contiguous service territories consisting of 1,934 square miles and
approximately 792,000 customers. In New Hampshire, EnergyNorth has a service
territory that is contiguous to Colonial Gas' and ranges from within 30 to 85
miles of the greater Boston area. EnergyNorth provides service to approximately
80,000 customers over a service area of approximately 922 square miles.
Collectively, KeySpan owns and operates gas distribution, transmission and
storage systems that consist of approximately 23,336 miles of gas mains and
distribution pipelines.
4
Natural gas is offered for sale to residential and small commercial customers on
a "firm" basis, and to most large commercial and industrial customers on either
a "firm" or "interruptible" basis. "Firm" service is offered to customers under
tariffed schedules or contracts that anticipate no interruptions, whereas
"interruptible" service is offered to customers under tariffed schedules or
contracts that anticipate and permit interruption on short notice, generally in
peak-load seasons or for system reliability reasons. We maintain a diverse
portfolio of firm gas supply, storage and pipeline transportation capacity
contracts to adequately serve the requirements of our gas sales customers, to
maintain system reliability and system operations, and to meet our obligation to
serve. We also engage in the use of derivative financial instruments from time
to time to reduce the cash flow volatility associated with the purchase price
for a portion of future natural gas purchases.
KeySpan actively promotes a competitive retail gas market by offering tariff
firm transportation services to firm gas customers who elect to purchase their
gas supplies from natural gas marketers rather than from the utility. KeySpan
further facilitates competition by releasing its pipeline transportation
capacity and offering bundled gas supply to natural gas marketers that would
otherwise not be able to obtain their own capacity, and are not participants of
mandatory capacity assignment programs in Massachusetts and New Hampshire.
KeySpan also participates in interstate markets by releasing pipeline capacity
and by selling bundled gas services to customers located outside of our service
territory ("off-system" customers).
KeySpan purchases natural gas for firm gas customers under both long and
short-term supply contracts, as well as on the spot market, and utilizes its
firm pipeline transportation contracts to transport the gas from the point of
purchase to the market. KeySpan also contracts for firm capacity in natural gas
underground storage facilities to store gas during the summer for later
withdrawal during the winter heating season when gas customer demand is higher.
KeySpan also contracts for firm winter peaking supplies to meet firm gas
customer demand on the coldest days of the year.
KeySpan sells gas to firm gas customers at its cost for such gas, plus a charge
designed to recover the costs of distribution (including a return of and a
return on capital invested in our distribution facilities). We share with our
firm gas customers net revenues (operating revenues less the cost of gas and
associated revenue taxes) from off-system sales and capacity release
transactions. Further, net revenues from tariff gas balancing services and
certain interruptible on-system sales are refunded, for most of our
subsidiaries, to firm customers subject to certain sharing provisions.
Our gas operations can be significantly affected by seasonal weather conditions.
Annual revenues are substantially realized during the heating season as a result
of higher sales of gas due to cold weather. Accordingly, operating results
historically are most favorable in the first and fourth calendar quarters. KEDNY
and KEDLI each operate under utility tariffs that contain a weather
5
normalization adjustment that significantly offsets variations in firm net
revenues due to fluctuations in weather. However, the tariffs for our four KEDNE
gas distribution companies do not contain such a weather normalization
adjustment and, therefore, fluctuations in seasonal weather conditions between
years may have a significant effect on results of operations and cash flows for
these four subsidiaries. We utilize weather derivatives for KEDNE to mitigate
variations in firm net revenues due to fluctuations in weather.
For further information and statistics regarding our Gas Distribution segment,
see Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations, "Gas Distribution."
New York Gas Distribution System - KEDNY and KEDLI Supply and Storage
KEDNY and KEDLI have firm long-term contracts for the purchase of transportation
and underground storage services. Gas supplies are purchased under long- and
short-term firm contracts, as well as on the spot market. Gas supplies are
transported by interstate pipelines from domestic and Canadian supply basins.
Peaking supplies are available to meet system requirements on the coldest days
of the winter season.
Peak-Day Capability. The design criteria for the New York gas system assumes an
average temperature of 0(0)F for peak-day demand. Under such criteria, we
estimate that the requirements to supply our firm gas customers would amount to
approximately 2,115 MDTH (one MDTH equals 1,000 DTH or 1 billion British Thermal
Units) of gas for a peak-day during the 2004/05 winter season and that the gas
available to us on such a peak-day amounts to approximately 2,190 MDTH. The
highest sendout day most recently experienced occurred on January 18, 2005 in
which the demand of the firm New York customers was 1839 MDTH, and the average
temperature was 13(0)F. Our New York firm gas peak-day capability is summarized
in the following table:
MDTH per
Source day % of Total
- ---------------------------------- ------------------------- ------------------------
Pipeline 822 38%
Underground Storage 798 36%
Peaking Supplies 570 26%
--- ---
Total 2,190 100%
========================= ========================
Pipelines. Our New York-based gas distribution utilities purchase natural gas
for sale under contracts with suppliers with natural gas located in domestic and
Canadian supply basins and arrange for its transportation to our facilities
under firm long-term contracts with interstate pipeline companies. For the
2004/05 winter, approximately 80% of our New York natural gas supply was
available from domestic sources and 20% from Canadian sources. We have available
under firm contract 822 MDTH per day of year-round and seasonal pipeline
transportation capacity. Major providers of interstate pipeline capacity and
related services to us include: Transcontinental Gas Pipe Line Corporation
("Transco"), Texas Eastern Transmission Corporation ("Tetco"), Iroquois Gas
Transmission System, L.P. ("Iroquois"), Tennessee Gas Pipeline Company
("Tennessee"), Dominion Transmission Incorporated ("Dominion"), and Texas Gas
Transmission Company.
6
Underground Storage. In order to meet winter demand in our New York service
territories, we also have long-term contracts with Transco, Tetco, Tennessee,
Dominion, Equitrans, Inc., National Fuel and Honeoye Storage Corporation
("Honeoye") for underground storage capacity of 60,456 MDTH and 798 MDTH per day
of maximum deliverability.
Peaking Supplies. In addition to the pipeline and underground storage supply, we
supplement our winter supply portfolio with peaking supplies that are available
on the coldest days of the year to economically meet the increased requirements
of our heating customers. Our peaking supplies include: (i) two liquefied
natural gas ("LNG") plants; (ii) peaking supply contracts with five dual-fuel
power producers located in our franchise areas; and (iii) three peaking supply
contracts with suppliers located outside our franchise area. For the 2004/05
winter season, we have the capability to provide a maximum peaking supplies of
570 MDTH on excessively cold days. The LNG plants provide us with peak-day
capacity of 394 MDTH and winter season availability of 2,053 MDTH. The peaking
supply contracts with the five dual fuel power producers provide us with
peak-day capacity of 176 MDTH and winter season availability of 4,146 MDTH.
Gas Supply Management. We have an agreement with Coral Resources, L.P.
("Coral"), a subsidiary of Shell Oil Company, under which Coral assists in the
origination, structuring, valuation and execution of energy-related transactions
on behalf of KEDNY and KEDLI which expires on March 31, 2005. Upon expiration of
the agreement with Coral, we will perform these services with our own staff.
Gas Costs. The current gas rate structure of each of these companies includes a
gas adjustment clause pursuant to which variations between actual gas costs
incurred and gas costs billed are deferred and subsequently refunded to or
collected from firm customers.
Deregulation. Regulatory actions, economic factors and changes in customers and
their preferences continue to reshape our gas operations. A number of customers
currently purchase their gas supplies from natural gas marketers and then
contract with us for local transportation, balancing and other unbundled
services. In addition, our New York gas distribution companies release firm
capacity on our interstate pipeline transportation contracts to natural gas
marketers to ensure the marketers' gas supply is delivered on a firm basis and
in a reliable manner. As of January 1, 2005, approximately 105,334 gas customers
on the New York gas distribution system are purchasing their gas from marketers.
However, net gas revenues are not significantly affected by customers opting to
purchase their gas supply from other sources since delivery rates charged to
transportation customers generally are the same as delivery rates charged to
sales service customers.
7
New England Gas Distribution Systems - Supply and Storage
KEDNE has firm long-term contracts for the purchase of transportation and
underground storage services. Gas supplies are purchased under long and
short-term firm contracts, as well as on the spot market. Gas supplies are
transported by interstate pipelines from domestic and Canadian supply basins. In
addition, peaking supplies, principally liquefied natural gas, are available to
meet system requirements during the winter season.
Peak-Day Capability. The design criteria for our New England gas systems assumes
a level of 78 effective degree days in Massachusetts and 80 effective degree
days in New Hampshire for peak-day demand. Under such criteria, KEDNE estimates
that the requirements to supply their firm gas customers would amount to
approximately 1,351 MDTH of gas for a peak-day during the 2004/2005 winter
season. The gas available to KEDNE on such a peak-day amounts to 1,420 MDTH.
KEDNE estimates an additional 105 MDTH of on-system throughput on behalf of its
transportation-only customers for a total peak-day throughput estimate of 1,456
MDTH.
The highest daily throughput, which includes both firm sales and firm
transportation, to our New England customers was 1,420 MDTH, which occurred on
January 15, 2004 at a level of 80 effective degree days. The total throughput of
1,420 MDTH exceeded the design day throughput estimate by two and one-half
percent (2.5%). KEDNE has sufficient gas supply available to meet the
requirements of their firm gas customers for the 2004/2005 winter season. The
firm gas supply peak-day capability of KEDNE for its firm customers is
summarized in the following table:
MDTH per
Source day % of Total
- ------------------------------------- ------------------------- -------------------------
Pipeline 500 35%
Underground Storage 248 18%
Peaking Supplies 672 47%
----- ----
Total 1,420 100%
========================= =========================
Pipelines. Our New England based gas distribution utilities purchase natural gas
for sale under contracts with suppliers with natural gas located in domestic and
Canadian supply basins and arrange for transportation to their facilities under
firm long-term contracts with interstate pipeline companies. We have available
under firm contract 500 MDTH per day of year-round and seasonal transportation
capacity. Major providers of interstate pipeline capacity and related services
to the KEDNE companies include: Tetco, Iroquois, Maritimes and Northeast
Pipelines, Tennessee, Algonquin Gas Transmission Company and Portland Natural
Gas Transmission System.
Underground Storage. In order to meet our winter demand in the New England
service territories, KEDNE has long-term contracts with Tetco, Tennessee,
Dominion, National Fuel Gas Supply Corporation and Honeoye for underground
storage capacity of 23,280 MDTH and 248 MDTH per day of maximum deliverability.
8
Peaking Supplies. The KEDNE gas supply portfolio is supplemented with peaking
supplies that are available on the coldest days throughout the winter season in
order to economically meet the increased requirements of our heating customers.
Peaking supplies include gas provided by both LNG and propane air plants located
within the distribution system, as well as four leased facilities located in
Providence, Rhode Island, and Lynn, Salem and Everett, Massachusetts. For the
2004/2005 winter season, on a peak-day, KEDNE has access to 672 MDTH of peaking
supplies, 47% of peak-day supply.
Gas Supply Management. The New England based gas distribution subsidiaries
operate under portfolio management contracts with Merrill Lynch Commodities,
formerly Entergy Koch Trading, LP, ("Merrill Lynch") that will expire on March
31, 2006. Merrill Lynch provides the majority of the city gate supply
requirements to the four New England gas distribution companies (Boston Gas,
Colonial Gas, Essex Gas and EnergyNorth) at market prices and manages upstream
capacity, underground storage and supply contracts.
Gas Costs. Fluctuations in gas costs have little impact on the operating results
of the KEDNE companies since the current gas rate structure for each of the
companies include gas adjustment clauses pursuant to which variations between
actual gas costs incurred and gas costs billed are deferred and subsequently
refunded to or collected from customers.
For additional information concerning the gas distribution segment, see the
discussion in Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations - "Gas Distribution" contained herein.
Electric Services Overview
We are the largest electric generator in New York State. Our subsidiaries own
and operate 5 large generating plants and 10 smaller facilities which are
comprised of 57 generating units in Nassau and Suffolk Counties on Long Island
and the Rockaway Peninsula in Queens. In addition, we own, lease and operate the
Ravenswood Generating Station located in Queens County, which is the largest
generating facility in New York City. Ravenswood is comprised of 3 large
steam-generating units, a recently completed 250 MW combined cycle generating
unit and 17 gas turbine generators. We also operate and maintain a 55 MW gas
turbine unit in Greenport, Long Island under an agreement with Hawkeye Energy
Greenport, LLC.
As more fully described below, we: (i) provide to LIPA all operation,
maintenance and construction services and significant administrative services
relating to the Long Island electric transmission and distribution ("T&D")
system pursuant to a management services agreement (the "MSA"); (ii) supply LIPA
with electric generating capacity, energy conversion and ancillary services from
our Long Island generating units pursuant to a power supply agreement (the
"PSA") and other long-term agreements through which we provide LIPA with
approximately two-thirds of its customers energy needs; and (iii) manage all
aspects of the fuel supply for our Long Island generating facilities, as well as
all aspects of the capacity and energy owned by or under contract to LIPA
pursuant to an energy management agreement (the "EMA"). We also purchase energy,
capacity and ancillary services in the open market on LIPA's behalf under the
EMA. Each of the MSA, PSA and EMA became effective on May 28, 1998 and are
collectively referred to herein as the "LIPA Agreements." In addition, pursuant
9
to power purchase agreements with LIPA, we supply electric capacity and energy
from four gas turbine units installed in 2002 at our Glenwood and Port Jefferson
sites. See Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operation - "Electric Services - Revenue Mechanisms" for a
further discussion of these matters.
Generating Facility Operations
In June 1999, we acquired the 2,200 MW Ravenswood Facility located in New York
City from Consolidated Edison Company of New York, Inc. ("Consolidated Edison")
for approximately $597 million. In order to reduce our initial cash requirements
to finance this acquisition, we entered into an arrangement with an unaffiliated
variable interest entity through which we lease a portion of the Ravenswood
Facility. Under the arrangement, the variable interest entity acquired a portion
of the facility directly from Consolidated Edison and leased it to our wholly
owned subsidiary, KeySpan-Ravenswood, LLC ("KSR"). For more information
concerning this lease arrangement, see discussion concerning the Financial
Accounting Standards Board issued Interpretation No. 46 in Note 7 to the
Consolidated Financial Statements, "Contractual Obligations, Financial
Guarantees and Contingencies."
In 2004, we completed the construction of a 250 MW combined cycle generating
unit at the Ravenswood Facility (the "Ravenswood Expansion"), thereby increasing
the total electric capacity of the Ravenswood Facility to 2,450 MW. In mid-May
2004, the Ravenswood Expansion began full commercial operations. To finance the
Ravenswood Expansion, we entered into a leveraged lease financing arrangement
pursuant to which the Ravenswood Expansion was acquired by an unaffiliated
lessor from KSR and simultaneously leased back to it. This lease transaction
qualifies as an operating lease under SFAS 98. See Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operation -
"Electric Services Revenue Mechanisms" for a further discussion of these
matters.
The Ravenswood Facility, including the Ravenswood Expansion, sells capacity,
energy and ancillary services into the NYISO electricity market at market-based
rates, subject to mitigation. The Ravenswood Facility has the ability to provide
approximately 25% of New York City's capacity requirements and is a strategic
asset that is available to serve residents and businesses in New York City.
The New York State competitive wholesale market for capacity, energy and
ancillary services administered by the NYISO is still evolving and the Federal
Energy Regulatory Commission ("FERC") has adopted several price mitigation
measures which are subject to rehearing and possible judicial review. See Item
7. Management's Discussion and Analysis of Financial Condition and Results of
Operation - "Regulatory Issues and Competitive Environment" for a further
discussion of these matters.
Forty-six of our seventy-eight generating units are dual fuel units. In recent
years, we have reconfigured several of our facilities to enable them to burn
either natural gas or oil, thus enabling us to switch periodically between fuel
alternatives based upon cost and seasonal environmental requirements. Through
other innovative technological approaches, we instituted a program to reduce
nitrogen oxides for improved environmental performance while recovering 80 MW of
energy output.
10
The following table indicates the 2004 summer capacity of all of our steam
generation facilities and gas turbine ("GT") units as reported to the NYISO:
- ----------------------------------------------------------------------------------------------------------------------------
Location of Units Description Fuel Units MW
- ----------------------------------------------------------------------------------------------------------------------------
Long Island City Steam Turbine Dual* 3 1711
Long Island City Combined Cycle Dual* 1 222
Northport, L.I. Steam Turbine Dual* 4 1549
Port Jefferson, L.I. Steam Turbine Dual* 2 384
Glenwood, L.I. Steam Turbine Gas 2 239
Island Park, L.I. Steam Turbine Dual* 2 398
Far Rockaway, L.I. Steam Turbine Dual* 1 111
Long Island City GT Units Dual* 17 452
Glenwood and Port Jefferson Energy GT Units Dual 4 160
Center, L.I.
Throughout L.I. GT Units Dual* 12 311
Throughout L.I. GT Units Oil 30 1074
--
TOTAL 78 6611
----
============================================================================================================================
*Dual - Oil (#2 oil, #6 residual oil) or kerosene, and natural gas.
LIPA Agreements
LIPA is a corporate municipal instrumentality and a political subdivision of the
State of New York. On May 28, 1998, certain of LILCO's business units were
merged with KeySpan and LILCO's common stock and remaining assets were acquired
by LIPA. At the time of this transaction, three major long-term service
agreements were also executed between KeySpan and LIPA (collectively, the "LIPA
Agreements"). Under the LIPA Agreements and subsequent Power Purchase
Agreements, during 2004, KeySpan provided: 4,226 MW of summer generation
capacity and energy conversion services; operation, maintenance and capital
improvement services for LIPA's T&D system; and energy management services.
Power Supply Agreement. A KeySpan subsidiary sells to LIPA all of the capacity
and, to the extent requested, energy conversion services from our existing Long
Island-based oil and gas-fired generating plants. Sales of capacity and energy
conversion services are made under rates approved by the FERC in accordance with
the terms of the PSA. The prior FERC approved rates, which had been in effect
since May 1998, expired on December 31, 2003. On October 1, 2004, the FERC
approved a settlement reached between KeySpan and LIPA with respect to new rates
and certain other costs and expenses. Pursuant to the FERC approved settlement,
KeySpan's rates reflect a cost of equity of 9.5% with no revenue increase. The
FERC also approved updated operating and maintenance expense levels and
KeySpan's recovery of certain other costs as agreed to by the parties. Rates
charged to LIPA include a fixed and variable component. The variable component
is billed to LIPA on a monthly basis and is dependent on the number of megawatt
hours dispatched. LIPA has no obligation to purchase energy conversion services
from us and is able to purchase energy or energy conversion services on a
11
least-cost basis from all available sources consistent with existing
interconnection limitations of the T&D system. The PSA provides incentives and
penalties that can total $4 million annually for the maintenance of the output
capability and the efficiency of the generating facilities. In 2004, we earned
$4 million in incentives under the PSA.
The PSA runs for an original term of 15 years, expiring in 2013. The PSA is
renewable for an additional 15 years on similar terms at LIPA's option. However,
the PSA provides LIPA the option of electing to reduce or "ramp-down" the
capacity it purchases from us in accordance with agreed-upon schedules. In years
7 through 10 of the PSA, if LIPA elects to ramp-down, we are entitled to receive
payment for 100% of the present value of the capacity charges otherwise payable
over the remaining term of the PSA. If LIPA ramps-down the generation capacity
in years 11 through 15 of the PSA, the capacity charges otherwise payable by
LIPA will be reduced in accordance with a formula established in the PSA. If
LIPA exercises its ramp-down option, KeySpan may use any capacity released by
LIPA to bid on new LIPA capacity requirements or to replace other ramped-down
capacity. If we continue to operate the ramped-down capacity, the PSA requires
us to use reasonable efforts to market the capacity and energy from the
ramped-down capacity and to share any profits with LIPA. The PSA will be
terminated in the event that LIPA purchases, at fair market value, all of
KeySpan's interest in KeySpan Generation LLC pursuant to the Generation Purchase
Rights Agreement discussed in greater detail below.
We also have an inventory of sulfur dioxide ("SO2") and nitrogen oxide ("NOx")
emission allowances that may be sold to third party purchasers. The amount of
allowances varies from year to year relative to the level of emissions from the
Long Island generating facilities, which is greatly dependent on the mix of
natural gas and fuel oil used for generation and the amount of purchased power
that is imported onto Long Island. In accordance with the PSA, 33% of emission
allowance sales revenues attributable to the Long Island generating facilities
is retained by KeySpan and the other 67% is credited to LIPA. LIPA also has a
right of first refusal on any potential emission allowance sales of the Long
Island generating facilities. Additionally, KeySpan voluntarily entered into a
memorandum of understanding with the New York State Department of Environmental
Conservation ("DEC"), which memorandum prohibits the sale of SO2 allowances into
certain states and requires the purchaser to be bound by the same restriction,
which may marginally affect the market value of the allowances.
Generation Purchase Rights Agreement. Under an amended Generation Purchase
Rights Agreement ("GPRA"), LIPA has the right for a 6-month period, beginning
November 29, 2004, to acquire KeySpan's interest in KeySpan Generation LLC,
which includes all of our Long Island-based generating assets formerly owned by
LILCO, at fair market value at the time of the exercise of such right. We are
unable to predict whether LIPA will exercise its purchase option during this
period, what the purchase price would be or the effect of such purchase on our
financial condition, results of operations or cash flow.
Management Services Agreement. Under the MSA, we perform day-to-day operation
and maintenance services and capital improvements on LIPA's T&D system,
including, among other functions, T&D facility operations, customer service,
billing and collection, meter reading, planning, engineering, and construction,
all in accordance with policies and procedures adopted by LIPA. KeySpan
furnishes such services as an independent contractor and does not have any
ownership or leasehold interest in the T&D system.
12
In exchange for providing these services, we (i) are reimbursed for our budgeted
costs; (ii) are entitled to earn an annual management fee of $10 million; and
(iii) may also earn certain cost-based incentives, or be responsible for certain
cost-based penalties. The incentives provide for us to retain 100% of the first
$5 million of budget underruns and 50% of any additional budget underruns up to
15% of the total cost budget. Thereafter, all savings accrue to LIPA. The
penalties require us to absorb any total cost budget overruns up to a maximum of
$15 million in any contract year.
In addition to the foregoing cost-based incentives and penalties, we are
eligible for performance-based incentives for performance above certain
threshold target levels and subject to disincentives for performance below
certain other threshold levels, with an intermediate band of performance in
which neither incentives nor disincentives will apply, for system reliability,
worker safety, and customer satisfaction. In 2004, we earned $7.4 million in
non-cost performance incentives. The MSA expires on December 31, 2008.
Energy Management Agreement. Pursuant to the EMA, KeySpan (i) procures and
manages fuel supplies for LIPA to fuel our Long Island generating facilities
acquired from LILCO in 1998; (ii) performs off-system capacity and energy
purchases on a least-cost basis to meet LIPA's needs; and (iii) makes off-system
sales of output from the Long Island generating facilities and other power
supplies either owned or under contract to LIPA. LIPA is entitled to two-thirds
of the profit from any off-system electricity sales arranged by us. The original
term for the fuel supply service described in (i) above is fifteen years,
expiring May 28, 2013, and the original term for the off-system purchases and
sales services described in (ii) and (iii) above is eight years, expiring May
28, 2006.
In exchange for these services, we earn an annual fee of $1.5 million, plus an
allowance for certain costs incurred in performing services under the EMA. The
EMA further provides incentives and disincentives up to $5 million annually for
control of the cost of fuel purchased on behalf of LIPA. In 2004, we earned EMA
incentives in an aggregate of $5 million.
On December 9, 2004, LIPA issued a Request for Proposal ("RFP") for a new energy
manager to provide system power supply services (commencing on May 29, 2006),
fuel procurement for Long Island generating facilities not acquired from LILCO
in 1998 and strategic fuel management services, commencing on January 1, 2006.
KeySpan intends to submit a bid to LIPA on or before March 1, 2005.
Power Purchase Agreements. KeySpan Glenwood Energy Center LLC and KeySpan Port
Jefferson Energy Center LLC each have 25 year Power Purchase Agreements with
LIPA (the "PPAs"). Under the terms of the PPAs, these subsidiaries sell
capacity, energy conversion services and ancillary services to LIPA. Each plant
is designed to produce 79.9 MW. Under the PPAs, LIPA pays a monthly capacity
fee, which guarantees full recovery of each plant's construction costs, as well
as an appropriate rate of return on investment.
Other Contingencies. LIPA is in the process of performing a strategic review
initiative regarding its future direction. It has engaged a team of advisors and
consultants and is conducting public hearings to develop recommendations to be
submitted to the LIPA Trustees. Some of the strategic options that LIPA is
considering include whether LIPA should continue its operations as they
13
presently exist, fully municipalize or fully privatize, sell some, but not all
of its assets and become a regulator of rates and services, or merge with one or
more utilities. In the near term, LIPA must make a determination by May 28, 2005
as to whether it will exercise its option to purchase our interest in KeySpan
Generation LLC pursuant to the terms of the GPRA. Until LIPA makes a
determination on its future direction, we are unable to determine what the
impact will be on our financial condition, results of operations or cash flows.
Other Rights. Pursuant to other agreements between LIPA and KeySpan, certain
future rights have been granted to LIPA. Subject to certain conditions, these
rights include the right for 99 years to lease or purchase, at fair market
value, parcels of land and to acquire unlimited access to, as well as
appropriate easements at, the Long Island generating facilities for the purpose
of constructing new electric generating facilities to be owned by LIPA or its
designee. Subject to this right granted to LIPA, KeySpan has the right to sell
or lease property on or adjoining the Long Island generating facilities to third
parties.
We own common plant assets (such as administrative office buildings and computer
systems) formerly owned by LILCO and recover an allocable share of the carrying
costs of such plant assets through the MSA. KeySpan has agreed to provide LIPA,
for a period of 99 years, the right to enter into leases at fair market value
for common plant assets or sub-contract for common services which it may assign
to a subsequent manager of the transmission and distribution system. We have
also agreed: (i) for a period of 99 years not to compete with LIPA as a provider
of transmission or distribution service on Long Island; (ii) that LIPA will
share in synergy (i.e., efficiency) savings over a 10-year period attributed to
the May 28, 1998 transaction which resulted in the formation of KeySpan
(estimated to be approximately $1 billion), which savings are incorporated into
the cost structure under the LIPA Agreements; and (iii) generally not to
commence any tax certiorari case (during the pendency of the PSA) challenging
certain property tax assessments relating to the former LILCO Long Island
generating facilities.
Guarantees and Indemnities. We have entered into agreements with LIPA to provide
for the guarantee of certain obligations, indemnification against certain
liabilities and allocation of responsibility and liability for certain
pre-existing obligations and liabilities. In general, liabilities associated
with the LILCO assets transferred to KeySpan, have been assumed by KeySpan; and
liabilities associated with the assets acquired by LIPA, are borne by LIPA,
subject to certain specified exceptions. We have assumed all liabilities arising
from all manufactured gas plant ("MGP") operations of LILCO and its
predecessors, and LIPA has assumed certain liabilities relating to the former
LILCO Long Island generating facilities and all liabilities traceable to the
business and operations conducted by LIPA after completion of the 1998
KeySpan/LILCO transaction. An agreement also provides for an allocation of
liabilities which relates to the assets that were common to the operations of
LILCO and/or shared services or liabilities which are not traceable directly to
either the business or operations conducted by LIPA or KeySpan. In addition,
costs incurred by KeySpan for liabilities for asbestos exposure arising from the
activities of the generating facilities previously owned by LILCO are
recoverable from LIPA through the PSA.
For additional information concerning the Electric Services segment, see the
discussion in Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations - "Electric Services" contained herein.
14
Energy Services Overview
The Energy Services segment includes companies that provide energy-related
services to customers primarily located within the northeastern United States,
with concentrations in the New York City and Boston metropolitan areas through
the following two lines of business: (i) Home Energy Services, which provides
residential customers and small commercial customers with installation, service
and maintenance of energy systems and appliances; and (ii) Business Solutions,
which provides energy-related operation and maintenance, design, engineering and
consulting services to commercial and industrial customers.
The Energy Services segment has more than 1,000 employees and approximately
200,000 service contracts, and is the number one oil to gas conversion
contractor in New York and New England. KeySpan's Energy Services subsidiaries
compete with local, regional and national HVAC, engineering, and independent
energy companies, in addition to electric utilities, independent power producers
and local distribution companies.
Competition is based largely upon pricing, availability and reliability of
supply, technical and financial capabilities, regional presence, experience and
customer service.
As a result of an extremely competitive market and sluggish economic conditions
within the construction industry in the Northeastern United States, the Energy
Services segment has experienced significantly lower operating profits and cash
flows than originally projected. As previously reported, management has been
reviewing the operating performance of this segment. In November 2004, KeySpan's
Board of Directors authorized management to begin the process of disposing of a
significant portion of its ownership interests in certain companies within the
Energy Services segment - specifically those companies engaged in mechanical
contracting activities. In the first quarter of 2005, the Company divested all
of its mechanical contracting subsidiaries.
For additional information concerning the Energy Services segment, see the
discussion in Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations - "Energy Services" contained herein.
Energy Investments Overview
We are also engaged in Energy Investments which include: (i) gas exploration and
production activities; (ii) domestic pipelines and gas storage facilities; (iii)
natural gas pipeline activities in the United Kingdom; and (iv) certain other
domestic energy-related investments, such as the transportation by truck of
liquid natural gas.
Gas Exploration and Production
KeySpan is engaged in the exploration for and production of domestic natural gas
and oil through wholly-owned subsidiaries Seneca-Upshur Petroleum, Inc., d/b/a
KeySpan Production & Development Company ("Seneca-Upshur") and KeySpan
Exploration and Production, LLC ("KeySpan Exploration and Production"). KeySpan
Exploration and Production is involved in a joint venture with The Houston
Exploration Company ("Houston Exploration") a former subsidiary of the Company.
15
In June 2004, KeySpan reduced its ownership in Houston Exploration from 55% to
23.5%, through an exchange of 10.8 million shares of its Houston Exploration
common stock for 100% of the stock of Seneca-Upshur, previously a wholly owned
subsidiary of Houston Exploration. Seneca-Upshur's assets consist of 50 billion
cubic feet of low risk, mature, onshore gas producing properties located
predominantly in West Virginia and Pennsylvania. In November 2004, KeySpan
decided to sell its remaining ownership interest (approximately 6.6 million
shares of common stock) in Houston Exploration. See Item 7. Management's
Discussion and Analysis of Financial Conditions and Results of Operations -
"Energy Investments" for a further discussion of these matters.
As indicated above, as a result of the transactions with Houston Exploration,
Seneca-Upshur, headquartered in Buckhannon, West Virginia, owns and operates
onshore gas producing properties, and operates approximately 1,300 wells in
north central West Virginia and southern Pennsylvania. To manage the inherent
volatility in commodity prices, Seneca-Upshur entered into a three-year hedge
for a majority of its production at favorable prices.
As previously indicated, KeySpan Exploration and Production is engaged in a
joint venture with Houston Exploration to explore for and produce natural gas
and oil. Houston Exploration contributed all of its undeveloped offshore leases
to the joint venture for a 55% working interest, and KeySpan Exploration and
Production acquired a 45% working interest in all prospects to be drilled by the
joint venture. Effective 2001, the joint venture was modified to reflect that
KeySpan Exploration and Production would only participate in the development of
wells that had previously been drilled and not participate in future exploration
prospects. In line with our stated strategy of exploring the monetization or
divestiture of certain non-core assets, in October 2002, KeySpan Exploration and
Production sold its interest in the gas-producing assets in the joint venture
drilling program to Houston Exploration. KeySpan Exploration and Production's
remaining joint venture assets are primarily proved undeveloped oil reserves
located off the Gulf of Mexico in the South Timbalier and Mustang Island areas.
Domestic Pipelines and Gas Storage Facilities
We own a 20.4% interest in Iroquois Gas Transmission System LP, the partnership
that owns a 411-mile pipeline that can bring up to 1,176,000 DTH per day of
Canadian gas supply from the New York-Canadian border to markets in the
Northeastern United States. KeySpan is also a shipper on Iroquois and currently
transports up to 312,000 DTH of gas per day.
In order to serve the anticipated market requirements in our New York service
territories, KeySpan and Duke Energy Corporation formed Islander East Pipeline
Company, LLC ("Islander East") in 2000. Islander East is owned 50% by KeySpan
and 50% by Duke Energy, and was created to pursue the authorization and
construction of an interstate pipeline from Connecticut, under Long Island
Sound, to a terminus near Shoreham, Long Island. Applications for all necessary
regulatory authorizations were filed in 2000 and 2001. Islander East has
received a final certificate from the FERC and all necessary permits from the
State of New York. The State of Connecticut denied Islander East's applications
for coastal zone management and Section 401 of the Clean Water Act
authorizations. Islander East appealed the State of Connecticut's determination
on the coastal zone management issue to the United States Department of
Commerce. On May 6, 2004, the Department of Commerce overrode Connecticut's
denial and granted the coastal zone management authorization. Islander East's
petition for a declaratory order challenging the denial of the Section 401
16
authorization is pending with Connecticut's State Superior Court. Once in
service, the pipeline is expected to transport up to 285,000 DTH daily to the
Long Island and New York City energy markets, enough natural gas to heat 600,000
homes. The pipeline will also allow KeySpan to diversify the geographic sources
of its gas supply. Various options for the financing of this pipeline
construction are currently being evaluated. As of December 31, 2004, KeySpan's
total capitalized costs associated with the siting and permitting of the
Islander East pipeline were approximately $20 million.
In August 2004, KeySpan acquired a 21% interest in the Millennium Pipeline
development project is anticipated to transport up to 500,000 DTH of natural gas
a day from Corning to Ramapo, New York, where it will connect to the Algonquin
pipeline. The other partners in the Millennium Pipeline are DTE Energy, Columbia
Gas Transmission Corp., a unit of NiSource Incorporated. The project has been
approved by the FERC and, pending an amendment to the project's FERC
certificate, construction could begin as early as the third quarter of 2005,
with service beginning as early as November 2006. The Millennium Pipeline will
provide KeySpan with new, competitively priced supplies of natural gas from
Canada. Further, the project will increase KeySpan's access to gas storage in
the Great Lakes region, adding critical flexibility to KeySpan's gas supply,
while helping to control price volatility based on weather conditions. Once
constructed, KeySpan plans to purchase 150,000 DTH per day from the Millennium
Pipeline system, which represents approximately 12.5% of New York City's
peak-day requirements. As of December 31, 2004, total capitalized costs
associated with the Millennium Pipeline project were $6 million.
We also have equity investments in two gas storage facilities in the State of
New York: Honeoye Storage Corporation and Steuben Gas Storage Company. We own a
52% interest in Honeoye, an underground gas storage facility which provides up
to 4.8 billion cubic feet of storage service to New York and New England.
Additionally, we own 34% of a partnership that has a 50% interest in the Steuben
facility that provides up to 6.2 billion cubic feet of storage service to New
Jersey and Massachusetts.
On December 12, 2002, we acquired Algonquin LNG, LP, the owner and operator of a
600,000 barrel liquefied natural gas ("LNG") storage and receiving facility
located in Providence, Rhode Island, from Duke Energy. Boston Gas Company is the
facility's largest customer and contracts for more than half of its storage. The
facility, renamed KeySpan LNG, LP ("KLNG"), is regulated by FERC. In a joint
initiative with BG LNG Services, KeySpan plans to upgrade the KLNG facility to
accept marine deliveries and to triple vaporization (or regasification)
capacity.
On February 25, 2005, KLNG filed a lawsuit in federal court to clarify the
appropriate process to be used by the Rhode Island Coastal Resources Management
Council for its review of the proposed upgrade of KLNG's energy storage
facility. Pending regulatory approvals, the facility should be ready to accept
marine deliveries in the 2006 or 2007 timeframe.
Our investments in domestic pipelines and gas storage facilities are
complimentary to our Gas Distribution and Electric Services businesses in that
they provide energy infrastructure to support the growth of these businesses
and, therefore, we will continue to pursue these opportunities.
17
Natural Gas Distribution and Pipeline Activities in the United Kingdom
In December, 2003, the Company sold its interest in Phoenix Natural Gas Limited,
the gas distribution system serving the City of Belfast, Northern Ireland.
KeySpan continues to own a 50% interest in Premier Transmission Limited
("Premier"), an 84-mile pipeline to Northern Ireland from southwest Scotland
that has planned transportation capacity of approximately 300 MDTH of gas supply
daily to markets in Northern Ireland. In January of 2005, KeySpan decided to
proceed with the disposition of our 50% ownership interest in Premier. In view
of the likely disposition on the terms currently contemplated, a determination
was also made that a material reduction in the carrying value of our investment
in this entity was required. Accordingly, in the fourth quarter of 2004, the
Company recorded a pre-tax impairment charge of $26.5 million for its investment
in Premier.
On February 25, 2005, subsidiaries of KeySpan entered into a Share Sale and
Purchase Agreement with BG Energy Holdings Limited and Premier Transmission
Financing plc ("PTF"), pursuant to which all of the outstanding shares of
Premier are to be purchased by PTF. It is expected that the sale of our 50%
interest in Premier will result in net proceeds before taxes of approximately
$42.5 million. It is anticipated that the closing of this transaction will occur
before the end of the second quarter.
For additional information concerning the Energy Investments segment, see the
discussion on "Energy Investments" in Item 7 Management's Discussion and
Analysis of Financial Condition and Results of Operations contained herein.
Environmental Matters Overview
KeySpan's ordinary business operations subject it to regulation in accordance
with various federal, state and local laws, rules and regulations dealing with
the environment, including air, water, and hazardous substances. These
requirements govern both our normal, ongoing operations and the remediation of
impacted properties historically used in utility operations. Potential liability
associated with our historical operations may be imposed without regard to
fault, even if the activities were lawful at the time they occurred.
Except as set forth below, or in Note 7 to the Consolidated Financial Statements
"Contractual Obligations and Contingencies - Environmental Matters," no material
proceedings relating to environmental matters have been commenced or, to our
knowledge, are contemplated by any federal, state or local agency against
KeySpan, and we are not a defendant in any material litigation with respect to
any matter relating to the protection of the environment. We believe that our
operations are in substantial compliance with environmental laws and that
requirements imposed by existing environmental laws are not likely to have a
material adverse impact upon us. We are also pursuing claims against insurance
carriers and potentially responsible parties which seek the recovery of certain
environmental costs associated with the investigation and remediation of
contaminated properties. We believe that investigation and remediation costs
prudently incurred at facilities associated with utility operations, not
recoverable through insurance or some other means, will be recoverable from our
customers in accordance with the terms of our rate recovery agreements for each
regulated subsidiary.
18
Air. The Federal Clean Air Act ("CAA") provides for the regulation of a variety
of air emissions from new and existing electric generating plants. Final permits
in accordance with the requirements of Title V of the 1990 amendments to the CAA
have been issued for all of our electric generating facilities, with the
exception of two 79 MW simple cycle gas turbine facilities which were
constructed in 2002. These units currently are permitted under New York State
Facility permits and Title V permits have been timely applied for and are
pending issuance by the NYSDEC. Renewal applications have been submitted in a
timely manner for 13 existing facilities whose initial permits were to expire in
2004. To date, five of the permits were renewed and the remaining renewal
applications, although in various stages of the regulatory process, are deemed
completed by DEC. In addition, three permit modifications were also submitted
and approved. The permits and timely renewal applications allow our electric
generating plants to continue to operate without any additional significant
expenditures, except as described below.
Our generating facilities are located within a CAA severe ozone non-attainment
area, and are subject to Phase I, II and III NOX reduction requirements
established under the Ozone Transport Commission ("OTC") memorandum of
understanding. Our investments in low NOX boiler combustion modifications and
the use of natural gas firing systems at our steam electric generating stations
have enabled us to achieve the emission reductions required under Phase I, II
and III of the OTC memorandum in a cost-effective manner. We have achieved and
expect to continue to achieve such emission reductions in a cost-effective
manner through the use of low NOX combustion control systems, the use of natural
gas fuel and/or the purchases of emission allowances when necessary. Capital
expenditures were incurred between $10 million and $15 million for combustion
control systems and natural gas fuel capability additions over the last several
years to enhance compliance options.
In 2003, New York State promulgated regulations which establish separate NOX and
SO2 emission reduction requirements on electric generating facilities in New
York State beginning in late 2004 for NOX emissions and in 2005 for SO2
emissions. KeySpan's facilities are expected to comply with the NOX requirements
without material additional capital expenditures because of previously installed
emissions control equipment and gas combustion capability. SO2 compliance is
expected to require a reduction in the sulfur content of the fuel oil used in
our Northport and Port Jefferson facilities.
In December 2003, the United States Environmental Protection Agency ("USEPA")
issued draft regulations that would require reductions of mercury and nickel as
well as further reductions of NOX and SO2 from electric generating facilities on
a national basis. The proposed mercury regulations would have no impact on
KeySpan facilities since their application is limited to coal-fired plants. The
proposed nickel, NOX and SO2 reduction requirements, if finalized as drafted,
could require additional expenditures for emission control systems or greater
use of natural gas in order to facilitate compliance. Until these regulations
are finalized, the nature and extent of the financial impact on KeySpan, if any,
cannot be determined.
In 2003, the Governor of New York initiated a Regional Greenhouse Gas Initiative
that seeks to establish a coordinated multistate plan to reduce greenhouse gas
emissions (primarily carbon dioxide ("CO2")) from electric generating emission
sources in the Northeast. Several congressional initiatives are also under
consideration that may also require greenhouse gas reductions from electric
generating facilities nationwide. At the present time, it is not possible to
predict the nature of the requirements which ultimately will be imposed on
KeySpan, nor what, if any, financial impact such requirements would have on
KeySpan facilities. However, our investments in additional natural gas firing
capability have resulted in approximately a 15% reduction in carbon dioxide
19
emissions since 1990, while the electric generation industry as a whole
increased carbon dioxide emissions by more than 25%. The addition of the
efficient, combined cycle unit which began operation at Ravenswood in 2004 will
further reduce average KeySpan CO2 emission rates.
Water. The Federal Clean Water Act provides for effluent limitations, to be
implemented by a permit system, to regulate the discharge of pollutants into
United States waters. We possess permits for our generating units which
authorize discharges from cooling water circulating systems and chemical
treatment systems. These permits are renewed from time to time, as required by
regulation. Additional capital expenditures associated with the renewal of the
surface water discharge permits for our power plants will likely be required by
the DEC. We are currently conducting studies as directed by the DEC to determine
the impacts of our discharges on aquatic resources. It is not possible at this
time to predict the extent of such capital investments since they will depend
upon the outcome of the ongoing studies and the subsequent determination by the
DEC to apply the standards set forth in recently promulgated federal regulations
under Section 316 of the Clean Water Act designed to mitigate such impacts.
Land. The Federal Comprehensive Environmental Response, Compensation and
Liability Act of 1980 and certain similar state laws (collectively "Superfund")
impose liability, regardless of fault, upon generators of hazardous substances
even before Superfund was enacted for costs associated with remediating
contaminated property. In the course of our business operations, we generate
materials which, after disposal, may become subject to Superfund. From time to
time, we have received notices under Superfund concerning possible claims with
respect to sites where hazardous substances generated by KeySpan or its
predecessors and other potentially responsible parties were allegedly disposed.
Normally, the costs associated with such claims are allocated among the
potentially responsible parties on a pro rata basis. The cost of these claims is
not presently determinable. Superfund does, however, provide for joint and
several liability against a single potentially responsible party. In the
unlikely event that Superfund claims were pursued against us on that basis, the
costs may be material to our financial condition, results of operations or cash
flows.
KeySpan has identified certain manufactured gas plant ("MGP") sites which were
historically owned or operated by its subsidiaries (or such companies'
predecessors). Operations at these sites between the mid-1800s to mid-1900s may
have resulted in the release of hazardous substances. For a discussion on our
MGP sites and further information concerning environmental matters, see Note 7
to the Consolidated Financial Statements, "Contractual Obligations and
Contingencies - Environmental Matters."
Competition, Regulation and Rate Matters
Competition. Over the last several years, the natural gas and electric
industries have undergone significant change as market forces moved towards
replacing or supplementing rate regulation through the introduction of
competition. A significant number of natural gas and electric utilities reacted
to the changing structure of the energy industry by entering into business
combinations, with the goal of reducing common costs, gaining size to better
withstand competitive pressures and business cycles, and attaining synergies
from the combination of operations. We engaged in two such combinations, the
KeySpan/LILCO transaction in 1998 and our November 2000 acquisition of Eastern
and EnergyNorth. For further information regarding the gas and electric
industry, see Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operation - "Regulatory Issues and Competitive
Environment."
20
Ravenswood, the merchant plant in our Electric Services segment, is subject to
competitive and other risks that could adversely impact the market price for the
plant's output. Such risks include, but are not limited to, the construction of
new generation or transmission capacity serving the New York City market.
However, we cannot predict when or if new generation or transmission capacity
will be built.
Additionally, our non-utility subsidiaries engaged in the Energy Services
business compete with other HVAC and engineering companies, and in New Jersey
are faced with competition from the regulated utilities that are still able to
offer appliance repair and protection services.
Regulation. Public utility holding companies, like KeySpan, are regulated by the
SEC under PUHCA and to some extent by state utility commissions through the
regulation of corporate, financial and affiliate activities of public utilities.
Our utility subsidiaries are subject to extensive federal and state regulation
by state utility commissions, FERC and the SEC. Our gas and electric public
utility companies are subject to either or both state and federal regulation. In
general, state public utility commissions, such as the New York Public Service
Commission ("NYPSC"), the Massachusetts Department of Telecommunications and
Energy ("DTE") and the New Hampshire Public Utilities Commission ("NHPUC")
regulate the provision of retail services, including the distribution and sale
of natural gas and electricity to consumers. Each of the federal and state
regulators also regulates certain transactions among our affiliates. FERC
regulates interstate natural gas transportation and electric transmission, and
has jurisdiction over certain wholesale natural gas sales and wholesale electric
sales.
In addition, our non-utility subsidiaries are subject to a wide variety of
federal, state and local laws, rules and regulations with respect to their
business activities, including but not limited to those affecting public sector
projects, environmental and labor laws and regulations, state licensing
requirements, as well as state laws and regulations concerning the competitive
retail commodity supply.
State Utility Commissions. Our regulated gas distribution utility subsidiaries
are subject to regulation by the NYPSC, DTE and NHPUC. The NYPSC regulates KEDNY
and KEDLI. Although KeySpan Corporation is not regulated by the NYPSC, it is
impacted by conditions that were included in the NYPSC order authorizing the
1998 KeySpan/LILCO transaction. Those conditions address, among other things,
the manner in which KeySpan, its service company subsidiaries and its
unregulated subsidiaries may interact with KEDNY and KEDLI. The NYPSC also
regulates the safety, reliability and certain financial transactions of our Long
Island generating facilities and our Ravenswood generating facility under a
lightened regulatory standard. Our KEDNE subsidiaries are subject to regulation
by the DTE and NHPUC. Our Energy Services subsidiary which engages in the retail
sale of electricity is subject to certain regulations of the NYPSC. For further
information regarding the state regulatory commissions, see the discussion in
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations - "Regulation and Rate Matters."
Federal Energy Regulatory Commission. FERC regulates the sale of electricity at
wholesale and the transmission of electricity in interstate commerce as well as
certain corporate and financial activities of companies that are engaged in such
activities. The Long Island generating facilities and the Ravenswood Facility
are subject to FERC regulation based on their wholesale energy transactions. In
1998, LIPA, KeySpan and the Staff of FERC stipulated to a five-year rate plan
21
for the Long Island generating facilities with agreed-upon yearly adjustments,
which have been approved by FERC. These FERC approved rates expired on December
31, 2003. A rate filing reflecting a recalculated revenue requirement was
submitted to FERC on October 31, 2003. On October 1, 2004 FERC approved a
settlement reached between KeySpan and LIPA with respect to new rates and
certain other costs and expenses. Pursuant to the FERC approved settlement,
KeySpan rates reflect a cost of equity of 9.5% with no revenue increase. FERC
also approved updated operating and maintenance expense levels and KeySpan's
recovery of certain other costs as agreed to by the parties.
Our Ravenswood Facility's rates are based on a market-based rate application
approved by FERC. The rates that our Ravenswood Facility may charge are subject
to mitigation measures due to market power concerns of FERC. The mitigation
measures are administered by the NYISO. FERC retains the ability in future
proceedings, either on its own motion or upon a complaint filed with FERC, to
modify the Ravenswood Facility's rates, as well as the mitigation measures, if
FERC concludes that it is in the public interest to do so.
KeySpan currently offers and sells the energy, capacity and ancillary services
from the Ravenswood Facility through the energy market operated by the NYISO.
For information concerning the NYISO, see Item 7. Management's Discussion and
Analysis of Financial Condition and Results of Operation - "Regulatory Issues
and Competitive Environment."
FERC also has jurisdiction to regulate certain natural gas sales for resale in
interstate commerce, the transportation of natural gas in interstate commerce
and, unless an exemption applies, companies engaged in such activities. The
natural gas distribution activities of KEDNY, KEDLI, KEDNE and certain related
intrastate gas transportation functions are not subject to FERC jurisdiction.
However, to the extent that KEDNY, KEDLI or KEDNE purchase or sell gas for
resale in interstate commerce, such transactions are subject to FERC
jurisdiction and have been authorized by FERC. Our interests in Iroquois,
Honeoye, Steuben and KeySpan LNG are also fully regulated by FERC as natural gas
companies.
Securities and Exchange Commission. As a result of the acquisition of Eastern
and EnergyNorth, we became a registered holding company under PUHCA. Therefore,
our corporate and financial activities and those of our subsidiaries, including
their ability to pay dividends to us, are subject to regulation by the SEC.
Under our holding company structure, we have no independent operations or source
of income of our own and conduct substantially all of our operations through our
subsidiaries and, as a result, we depend on the earnings and cash flow of, and
dividends or distributions from, our subsidiaries to provide the funds necessary
to meet our debt and contractual obligations and to pay dividends to our
shareholders. Furthermore, a substantial portion of our consolidated assets,
earnings and cash flow is derived from the operations of our regulated utility
subsidiaries, whose legal authority to pay dividends or make other distributions
to us is subject to regulation by state regulatory authorities. For additional
information concerning regulation by the SEC under PUHCA, see the discussion
under the heading "Securities and Exchange Commission Regulation" contained in
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations contained herein.
22
In addition, in November 2000, KeySpan received authorization from the SEC to
operate three mutual service companies. Under this order, the SEC determined
that, in accordance with PUHCA, KeySpan Corporate Services LLC ("KCS"), KeySpan
Utility Services LLC ("KUS") and KeySpan Engineering & Survey, Inc. ("KENG") may
operate to provide various services to KeySpan subsidiaries, including regulated
utility companies and LIPA, at cost fairly and equitably allocated among them.
Risks Related To Our Business
We are a Holding Company, and We and Our Subsidiaries are Subject to Federal
and/or State Regulation Which Limits Our Financial Activities, Including the
Ability of Our Subsidiaries to Pay Dividends and Make Distributions to Us
We are a holding company registered under PUHCA with no business operations
or sources of income of our own. We conduct all of our operations through
our subsidiaries and depend on the earnings and cash flow of, and dividends
or distributions from, our subsidiaries to provide the funds necessary to
meet our debt and contractual obligations and to pay dividends on our
common stock. Because we are a registered holding company, our corporate
and financial activities and those of our subsidiaries, including their
ability to pay dividends to us from unearned surplus, are subject to PUHCA
and regulation by the SEC.
In addition, a substantial portion of our consolidated assets, earnings and
cash flow is derived from the operation of our regulated utility
subsidiaries, whose legal authority to pay dividends or make other
distributions to us is subject to regulation by the utility regulatory
commissions of New York, Massachusetts and New Hampshire. Pursuant to NYPSC
orders, the ability of KEDNY and KEDLI to pay dividends to us is
conditioned upon their maintenance of a utility capital structure with debt
not exceeding 55% and 58%, respectively, of total utility capitalization.
In addition, the level of dividends paid by both utilities may not be
increased from current levels if a 40 basis point penalty is incurred under
a customer service performance program. At the end of KEDNY's and KEDLI's
rate years (September 30, 2004 and November 30, 2004, respectively), their
ratios of debt to total utility capitalization were well in compliance with
the ratios set forth above and we have incurred no penalties under the
outstanding customer service performance program.
PUHCA Also Limits Our Business Operations and Our Ability to Affiliate with
Other Utilities
In addition to limiting our financial activities, PUHCA also limits our
operations to a single integrated utility system, plus additional energy
related businesses, regulates transactions between us and our subsidiaries
and requires SEC approval for specified utility mergers and acquisitions.
Our Gas Distribution and Electric Services Businesses May Be Adversely Affected
by Changes in Federal and State Regulation
The regulatory environment applicable to our gas distribution and our
electric services businesses has undergone substantial changes in recent
years, on both the federal and state levels. These changes have
significantly affected the nature of the gas and electric utility and power
23
industries and the manner in which their participants conduct their
businesses. Moreover, existing statutes and regulations may be revised or
reinterpreted, new laws and regulations may be adopted or become applicable
to us or our facilities and future changes in laws and regulations may
affect our gas distribution and our electric services businesses in ways
that we cannot predict.
In addition, our operations are subject to extensive government regulation
and require numerous permits, approvals and certificates from various
federal, state and local governmental agencies. A significant portion of
our revenues in our Gas Distribution and Electric Services segments are
directly dependent on rates established by federal or state regulatory
authorities, and any change in these rates and regulatory structure could
significantly impact our financial results. Increases in utility costs
other than gas, not otherwise offset by increases in revenues or reductions
in other expenses, could have an adverse effect on earnings due to the time
lag associated with obtaining regulatory approval to recover such increased
costs and expenses in rates.
Various rulemaking proposals and market design revisions related to the
wholesale power market are being reviewed at the federal level. These
proposals, as well as legislative and other attention to the electric power
industry could have a material adverse effect on our strategies and results
of operations for our electric services business and our financial
condition. In particular, we sell power and energy from our Ravenswood
generating facility into the New York Independent System Operator, or
NYISO, energy market at market- based rates, subject to mitigation measures
approved by the FERC. The pricing for both energy sales and services to the
NYISO energy market is still evolving and some of the FERC's price
mitigation measures are subject to rehearing and possible judicial review.
Our Risk Mitigation Techniques Such as Hedging and Purchase of Insurance May Not
Adequately Provide Protection
To mitigate our financial exposure related to commodity price fluctuations,
KeySpan routinely enters into contracts to hedge a portion of our purchase
and sale commitments, weather fluctuations, electricity sales, natural gas
supply and other commodities. However, we do not always cover the entire
exposure of our assets or our positions to market price volatility and the
coverage will vary over time. To the extent we have unhedged positions or
our hedging procedures do not work as planned, fluctuating commodity prices
could cause our sales and net income to be volatile.
In addition, our business is subject to many hazards from which our
insurance may not adequately provide coverage. An unexpected outage of
Ravenswood, especially in the significant summer period, could materially
impact our financial results. Damage to pipelines, equipment, properties
and people caused by natural disasters, accidents, terrorism or other
damage by third parties could exceed our insurance coverage. Although we do
have insurance to protect against many of these contingent liabilities,
this insurance is capped at certain levels, has self-insured retentions and
does not provide coverage for all liabilities.
24
SEC Rules for Exploration and Production Companies May Require Us to Recognize a
Non-Cash Impairment Charge at the End of Our Reporting Periods
Our investments in natural gas and oil consist of our ownership of KeySpan
Exploration and Production and Seneca-Upshur. We use the full cost method
for KeySpan Exploration and Production and Seneca-Upshur. Under the full
cost method, all costs of acquisition, exploration and development of
natural gas and oil reserves are capitalized into a full cost pool as
incurred, and properties in the pool are depleted and charged to operations
using the unit-of-production method based on production and proved reserve
quantities. To the extent that these capitalized costs, net of accumulated
depletion, less deferred taxes exceed the present value (using a 10%
discount rate) of estimated future net cash flows from proved natural gas
and oil reserves and the lower of cost or fair value of unproved
properties, those excess costs are charged to operations. If a write-down
is required, it would result in a charge to earnings but would not have an
impact on cash flows. Once incurred, an impairment of gas properties is not
reversible at a later date, even if gas prices increase.
Our Operating Results May Fluctuate on a Seasonal and Quarterly Basis
Our gas distribution business is a seasonal business and is subject to
weather conditions. We receive most of our gas distribution revenues in the
first and fourth quarters, when demand for natural gas increases due to
colder weather conditions. As a result, we are subject to seasonal
variations in working capital because we purchase natural gas supplies for
storage in the second and third quarters and must finance these purchases.
Accordingly, our results of operations fluctuate substantially on a
seasonal basis. In addition, our New England-based gas distribution
subsidiaries do not have weather normalization tariffs, as we do in New
York, and results from our Ravenswood generating facility are directly
correlated to the weather as the demand and price for the electricity it
generates increases during extreme temperature conditions. As a result,
fluctuations in weather between years may have a significant effect on our
results of operations for these subsidiaries.
We Cannot Predict Whether LIPA will Exercise its Option to Purchase Our Long
Island Generating Assets and the Effect of that Purchase on Us
Under the GPRA, LIPA has the right to purchase, at fair market value,
during the six-month period beginning November 29, 2004, our interest in
KeySpan Generation LLC. LIPA is in the process of performing a long-term
strategic review initiative regarding its future direction. It has engaged
a team of advisors and consultants and is conducting public hearings to
develop recommendations to be submitted to the LIPA Trustees. Some of the
strategic options that LIPA is considering is whether it should continue
its operations as they presently exist, fully municipalize or fully
privatize, sell some, but not all of its assets and become a regulator of
rates and services, or merge with one or more utilities. Until LIPA makes a
determination on its future direction, we are unable to determine what the
impact will be on our financial condition, results of operations or cash
flows.
A Substantial Portion of Our Revenues are Derived from Our Agreements with LIPA,
and No Assurance Can Be Made that These Arrangements Will Be Renewed at the End
of Their Terms or that the Resolution of Certain Disputes Will Not Materially
Impact Our Financial Condition
25
We derive a substantial portion of our revenues in our electric services
segment from a number of agreements with LIPA pursuant to which we manage
LIPA's transmission and distribution system and supply the majority of
LIPA's customers' electricity needs. The agreements terminate at various
dates between May 28, 2006 and May 28, 2013, and at this time, we can
provide no assurance that any of the agreements will be renewed or
extended, or if they were to be renewed or extended, the terms and
conditions thereof. In addition, given the complexity of these
arrangements, disputes arise from time to time between KeySpan and LIPA
concerning the rights and obligations of each party to make and receive
payments as required pursuant to the terms of these agreements. As a
result, we are unable to determine what effect, if any, the ultimate
resolution of these disputes will have on our financial condition, results
of operations, or cash flow.
A Decline or an Otherwise Negative Change in the Ratings or Outlook on Our
Securities Could Have a Materially Adverse Impact on Our Ability to Secure
Additional Financing on Favorable Terms
The credit rating agencies that rate our debt securities regularly review
our financial condition and results of operations. We can provide no
assurances that the ratings or outlook on our debt securities will not be
reduced or otherwise negatively changed. A negative change in the ratings
or outlook on our debt securities could have a materially adverse impact on
our ability to secure additional financing on favorable terms.
Our Costs of Compliance with Environmental Laws are Significant, and the Cost of
Compliance with Future Environmental Laws Could Adversely Affect Us
Our operations are subject to extensive federal, state and local
environmental laws and regulations relating to air quality, water quality,
waste management, natural resources and the health and safety of our
employees. These environmental laws and regulations expose us to costs and
liabilities relating to our operations and our current and formerly owned
properties. Compliance with these legal requirements requires us to commit
significant capital toward environmental monitoring, installation of
pollution control equipment and permits at our facilities. Costs of
compliance with environmental regulations, and in particular emission
regulations, could have a material impact on our Electric Services segment
and our results of operations and financial position, especially if
emission limits are tightened, more extensive permitting requirements are
imposed, additional substances become regulated or the number and type of
electric generating plants we operate increase.
In addition, we are responsible for the clean-up of contamination at
certain manufactured gas plant ("MGP") sites and at other sites and are
aware of additional MGP sites where we may have responsibility for clean-up
costs. While our gas utility subsidiaries' rate plans generally allow for
the full recovery of the costs of investigation and remediation of most of
our MGP sites, these rate recovery mechanisms may change in the future. To
the extent rate recovery mechanisms change in the future, or if additional
environmental matters arise in the future at our currently or historically
owned facilities, at sites we may acquire in the future or at third-party
waste disposal sites, costs associated with investigating and remediating
these sites could have a material adverse effect on our results of
operations and financial condition.
26
Our Businesses are Subject to Competition and General Economic Conditions
Impacting Demand for Services
We recently expanded the Ravenswood Facility, our merchant generation
plant, in our Electric Services segment with the Ravenswood Expansion, a
250 MW combined cycle generating unit. However, the Ravenswood Facility and
Ravenswood Expansion continue to be subject to competition that could
adversely impact the market price for the electricity they produce. If new
generation and/or transmission facilities are constructed, and/or the
availability of our Ravenswood Facility deteriorates, then the capacity and
energy sales quantities could be adversely affected. We cannot predict,
however, when or if new power plants or transmission facilities will be
built or the nature of the future New York City energy requirements.
Competition facing our unregulated Energy Services businesses, including
but not limited to competition from other heating, ventilation and air
conditioning, and engineering companies, as well as, other utilities and
utility holding companies that are permitted to engage in such activities,
could adversely impact our financial results and the value of those
businesses, resulting in decreased earnings as well as write-downs of the
carrying value of those businesses.
Our Gas Distribution segment faces competition with distributors of
alternative fuels and forms of energy, including fuel oil and propane. Our
ability to continue to add new gas distribution customers may significantly
impact financial results. The gas distribution industry has experienced a
decrease in consumption per customer over time, partially due to increased
efficiency of customers' appliances, economic factors and price elasticity.
In addition, our Gas Distribution segment's future growth is dependent upon
the ability to add new customers to our system in a cost-effective manner.
While our Long Island and New England utilities have significant growth
potential, we cannot be sure new customers will continue to offset the
decrease in consumption of our existing customer base. There are a number
of factors outside of our control that impact customer conversions from an
alternative fuel to gas, including general economic factors impacting
customers' willingness to invest in new gas equipment.
27
Employee Matters
As of December 31, 2004, KeySpan and its wholly-owned subsidiaries had
approximately 10,000 employees. Of that total, approximately 5,800 employees are
covered under collective bargaining agreements. KeySpan has not experienced any
work stoppage during the past five years and considers its relationship with
employees, including those covered by collective bargaining agreements, to be
good.
Prior to their expiration in February 2004, KeySpan reached tentative agreements
with IBEW Locals 1049 and 1381 on new collective bargaining agreements. These
unions represent KeySpan employees in physical and clerical positions
respectively, and serve our Long Island customers. The new four-year agreements
were ratified by each respective union before the end of March 2004.
Executive Officers of the Company. Certain information regarding executive
officers of KeySpan and certain of its subsidiaries is set forth below:
Robert B. Catell
Mr. Catell, age 68, has been a Director of KeySpan since its creation in May
1998. He was elected Chairman of the Board and Chief Executive Officer in July
1998. He served as its President and Chief Operating Officer from May 1998
through July 1998. Mr. Catell joined KEDNY in 1958 and became an officer in
1974. He was elected Vice President in 1977, Senior Vice President in 1981 and
Executive Vice President in 1984. He was elected Chief Operating Officer in 1986
and President in 1990. Mr. Catell continued to serve as President and Chief
Executive Officer of KEDNY from 1991 through 1996, when he was elected Chairman
and Chief Executive Officer. In 1997, Mr. Catell was elected Chairman, President
and Chief Executive Officer of KEDNY and its parent KeySpan Energy Corporation.
Mr. Catell also serves on the Board of Directors for Houston Exploration, Keyera
Energy Management Ltd. and J & W Seligman & Co.
Robert J. Fani
Mr. Fani, age 51, was elected to serve on the Board of Directors of KeySpan in
January 2005 and was elected its President and Chief Operating Officer in
October 2003. Mr. Fani joined KEDNY in 1976, and held a variety of management
positions in distribution, engineering, planning, marketing and business
development. After being elected Vice President in 1992, he was promoted to
Senior Vice President of Marketing and Sales for KEDNY in 1997. In 1998, he
assumed the position of Senior Vice President of Marketing and Sales for
KeySpan. In September 1999, he became Senior Vice President for Gas Operations
and was promoted to Executive Vice President for Strategic Services in February
2000 and then to President of the KeySpan Energy Services and Supply Group in
2001. In January 2003, he was named President of KeySpan's Energy Assets and
Supply Group until assuming his current position in October 2003.
28
Wallace P. Parker Jr.
Mr. Parker, age 55, was elected President of the KeySpan Energy Delivery and
Customer Relations Group in January 2003. He also serves as Vice Chairman and
Chief Executive Officer of KeySpan Services, Inc. since January 2003. He had
previously served as President, KeySpan Energy Delivery, since June 2001, and
from February 2000 served as Executive Vice President of Gas Operations. He
joined KEDNY in 1971 and served in a wide variety of management positions. In
1987, he was named Assistant Vice President for marketing and advertising and
was elected Vice President in 1990. In 1994, Mr. Parker was promoted to Senior
Vice President of Human Resources for KEDNY and in August 1998 was promoted to
Senior Vice President of Human Resources of KeySpan.
Steven L. Zelkowitz
Mr. Zelkowitz, age 55, was elected President of KeySpan's Energy Assets and
Supply Group in October 2003. Prior to that, he served as Executive Vice
President and Chief Administrative Officer since January 2003. He joined KeySpan
as Senior Vice President and Deputy General Counsel in October 1998, and was
elected Senior Vice President and General Counsel in February 2000. In July
2001, Mr. Zelkowitz was promoted to Executive Vice President and General
Counsel, and in November 2002, he was named Executive Vice President,
Administration and Compliance, with responsibility for the offices of General
Counsel, Human Resources, Regulatory Affairs, Enterprise Risk Management and
administratively for Internal Auditing. Before joining the Company, Mr.
Zelkowitz practiced law with Cullen and Dykman LLP in Brooklyn, New York,
specializing in energy and utility law and had been a partner since 1984. He
served on the firm's Executive Committee and was head of its Corporate/Energy
Department.
John J. Bishar, Jr.
Mr. Bishar, age 55, was elected Executive Vice President, General Counsel, Chief
Governance Officer and Secretary effective March 1, 2005. He became Senior Vice
President, General Counsel and Secretary in May 2003, with responsibility for
the Company's Legal Department and the Corporate Secretary's Office. Prior to
that, he joined KeySpan as Senior Vice President and General Counsel in November
2002. Before joining KeySpan, Mr. Bishar practiced law with Cullen and Dykman
LLP since 1987. He was the Managing Partner from 1993 through 2002 and was a
member of the firm's Executive Committee. From 1980 to 1987, Mr. Bishar was Vice
President, General Counsel and Corporate Secretary of LITCO Bancorporation of
New York, Inc.
29
John A. Caroselli
Mr. Caroselli, age 50, was elected Executive Vice President and Chief Strategy
Officer in January 2003. Mr. Caroselli is responsible for Brand Management,
Strategic Marketing, Strategic Planning, Strategic Performance, Human Resources,
and Information Technology Strategy and. Mr. Caroselli came to KeySpan in 2001
and at that time served as Executive Vice President of Strategic Development.
Before joining KeySpan, Mr. Caroselli held the position of Executive Vice
President of Corporate Development at AXA Financial. Prior to that, he held
senior officer positions with Chase Manhattan, Chemical Bank and Manufacturers
Hanover Trust. He has extensive experience in strategic planning brand
management, marketing, communications, human resources, facilities management,
e-business, change management and strategic execution.
Gerald Luterman
Mr. Luterman, age 61, was elected Executive Vice President and Chief Financial
Officer in February 2002. He previously served as Senior Vice President and
Chief Financial Officer since joining KeySpan in July 1999. He formerly served
as Chief Financial Officer of barnesandnoble.com and Senior Vice President and
Chief Financial Officer of Arrow Electronics, Inc. Prior to that, from 1985
through 1996, he held executive positions with American Express. Mr. Luterman
also serves on the Board of Directors for IKON Office Solutions Inc., and
Technology Solutions Company.
David J. Manning
Mr. Manning, age 54, was elected Executive Vice President Corporate Affairs and
Chief Environmental Officer effective March 1, 2005. He became Senior Vice
President for Corporate Affairs in April 1999. Before joining KeySpan, Mr.
Manning had been President of the Canadian Association of Petroleum Producers
since 1995. From 1993 to 1995, he was Deputy Minister of Energy for the Province
of Alberta, Canada. From 1988 to 1993, he was Senior International Trade Counsel
for the Government of Alberta, based in New York City. Previously, he was in the
private practice of law in Canada as Queens Council.
Anthony Nozzolillo
Mr. Nozzolillo, age 56, was elected Executive Vice President of Electric
Operations in February 2000. He previously served as Senior Vice President of
KeySpan's Electric Business Unit from December 1998 to January 2000. He joined
LILCO in 1972 and held various positions, including Manager of Financial
Planning and Manager of Systems Planning. Mr. Nozzolillo served as LILCO's
Treasurer from 1992 to 1994 and as Senior Vice President of Finance and Chief
Financial Officer from 1994 to 1998.
30
Lenore F. Puleo
Ms. Puleo, age 51, was elected Executive Vice President of Shared Services in
March 2004. She previously served as Executive Vice President of Client Services
since February 2000. Prior to that, she served as Senior Vice President of
Customer Relations for KEDNY from May 1994 to May 1998, and for KeySpan from May
1998 to January 2000. She joined KEDNY in 1974 and worked in management
positions in KEDNY's Accounting, Treasury, Corporate Planning and Human
Resources areas. She was given responsibility for the Human Resources Department
in 1987 and was named a Vice President in 1990. Ms. Puleo was promoted to Senior
Vice President of KEDNY's Customer Relations in 1994.
Nickolas Stavropoulos
Mr. Stavropoulos, age 46, was elected President, KeySpan Energy Delivery, in
June, 2004 and Executive Vice President in April 2002. He previously served as
President of KeySpan Energy New England since April 2002, and Senior Vice
President of sales and marketing in New England since 2000. Prior to joining
KeySpan, Mr. Stavropoulos was Senior Vice President of marketing and gas
resources for Boston Gas Company. Before joining Boston Gas, he was Executive
Vice President and Chief Financial Officer for Colonial Gas Company. In 1995,
Mr. Stavropoulos was elected Executive Vice President - Finance, Marketing and
CFO, and assumed responsibility for all of Colonial's financial, marketing,
information technology and customer service functions. Mr. Stavropoulos was a
director of Colonial Gas Company and currently serves on the Board of Directors
for Enterprise Bank and Trust Company.
Joseph F. Bodanza
Mr. Bodanza, age 57, was elected Senior Vice President Regulatory Affairs and
Asset Optimization effective March 1, 2005. He became Senior Vice President,
Regulatory Affairs and Chief Accounting Officer in April 2003. Prior to that, he
served as Senior Vice President of Finance Operations and Regulatory Affairs
since August 2001 and was Senior Vice President and Chief Financial Officer of
KEDNE. Mr. Bodanza previously served as Senior Vice President of Finance and
Management Information Systems and Treasurer of Eastern Enterprise's Gas
Distribution Operations. Mr. Bodanza joined Boston Gas Company in 1972, and held
a variety of positions in the financial and regulatory areas before becoming
Treasurer in 1984. He was elected Vice President and Treasurer in 1988.
Coleen A. Ceriello
Ms. Ceriello, age 46, was named Senior Vice President of Shared Services of
KeySpan Corporate Services, LLC, effective March 1, 2005. She had been KeySpan's
Vice President - Property, Security and Employee Related Services since January
2005. Prior to that time, she served as Vice President of Property and Security
since June 2004 and Vice President of Strategic Planning since August 1999. She
joined KEDNY in 1980 and over the years held a succession of positions in
Corporate Planning, Regulatory Relations, Information Technology and Strategic
Planning and Performance.
31
John F. Haran
Mr. Haran, age 54, was elected Senior Vice President of KeySpan Energy Delivery
and Chief Gas Engineer in March 2004. He had been Senior Vice President of gas
operations for KEDNY and KEDLI in April 2002. Mr. Haran joined KEDNY in 1972,
and has held management positions in operations, engineering and marketing and
sales. He was named Vice President of KEDNY gas operations in 1996 and in 2000
moved to the position of Vice President of KEDLI gas operations.
Michael J. Taunton
Mr. Taunton, age 49, was elected Senior Vice President, Treasurer and Chief Risk
Officer effective March 1, 2005. He became Senior Vice President and Treasurer
in March 2004, and had been KeySpan's Vice President and Treasurer since June
2000. Prior to that time, he served as Vice President of Investor Relations
since September 1998. He joined KEDNY in 1975 and held a succession of positions
in Accounting, Customer Service, Corporate Planning, Budgeting and Forecasting,
Marketing and Sales, and Business Process Improvement. During the KeySpan/LILCO
merger, Mr. Taunton co-managed the day-to-day transition process of the merger
and then served on the Transition Team during the acquisition of Eastern
Enterprises.
Elaine Weinstein
Ms. Weinstein, age 58, was named Senior Vice President for Human Resources and
Chief Diversity Officer in March 2004. She previously served as Senior Vice
President of KeySpan's Human Resources division since November 2000, and as Vice
President of Staffing and Organizational Development from September 1998, to her
election as Senior Vice President. Prior to that time, Ms. Weinstein was General
Manager of Employee Development since joining KEDNY in June of 1995. Prior to
1995, Ms. Weinstein was Vice President of Training and Organizational
Development at Merrill Lynch.
Lawrence S. Dryer
Mr. Dryer, 45, was elected Vice President and General Auditor in June 2003. He
previously served in this position from September 1998 to August 2001. In August
2001, he was named Senior Vice President and Chief Financial Officer of KeySpan
Services, Inc. Prior to such positions, Mr. Dryer had been with LILCO from 1992
to 1998 as