SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

ý     ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

CASCADE NATURAL GAS CORPORATION

(Exact name of Registrant as specified in its charter)

 

 

 

Securities registered pursuant to section 12(g) of the Act:   None

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.          Yes    ý    No    o

 

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. o

 

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

 

The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant as of the close of business on November 26, 2003, was $224,046,051

 

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.

 

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of the Registrant’s definitive proxy statement for its 2004 Annual Meeting of Shareholders are incorporated by reference into Part III, Items 10, 11, 12, 13 and 14.

 

 

CASCADE NATURAL GAS CORPORATION

Annual Report to the Securities and Exchange Commission on Form 10-K

For the Fiscal Year Ended September 30, 2003

 

Table of Contents

 

		Page Number
Part I
	Item  1 - Business	3
	Item  2 - Properties	7
	Item  3 - Legal Proceedings	7
	Item  4 - Submission of Matters to a Vote of Security Holders	7
	Executive Officers of the Registrant	8
Part II
	Item  5 - Market for Registrant’s Common Equity and Related Stockholder Matters	8
	Item  6 - Selected Financial Data	9
	Item  7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations	11
	Item  7A- Quantitative and Qualitative Disclosures about Market Risk	19
	Item  8 - Financial Statements and Supplementary Data	20
	Item  9 - Changes in and Disagreements With Accountants on Accounting and Financial Disclosure	41
	Item 9A – Controls and Procedures	41
Part III
	Item 10 - Directors and Executive Officers of the Registrant	41
	Item 11 - Executive Compensation	41
	Item 12 - Security Ownership of Certain Beneficial Owners and Management	41
	Item 13 - Certain Relationships and Related Transactions	42
	Item 14 – Principal Accountant Fees and Services	42
Part IV
	Item 15 - Exhibits, Financial Statement Schedules and Reports on Form 8-K	42
Signatures		44

 

2

 

PART I

 

Item 1. Business

 

Available Information

 

The Company makes available free of charge, on or through its website, http://www.cngc.com, its annual, quarterly and current reports, and any amendments to those reports, as soon as reasonably practicable after electronically filing such reports with the Securities and Exchange Commission. In addition, copies of these documents may be requested, at no cost, from the Company’s corporate headquarters. Requests should be directed to Shareholder Relations, Cascade Natural Gas Corporation, 222 Fairview Avenue North, Seattle WA 98109, or by phone at 206-624-3900.

 

To contact any independent board member you may write to Larry L. Pinnt, Board of Directors Chair, P.O. Box 87, Redmond, WA 98073-0087, fax to 425-895-1349, or e-mail to lpinnt@cngc.com.

 

General

 

Cascade Natural Gas Corporation (Cascade or the Company) was incorporated under the laws of the state of Washington on January 2, 1953.  Its principal business is the distribution of natural gas to customers in the states of Washington and Oregon.  Approximately 81% of its gas distribution revenues are from customers in the state of Washington.

 

As of September 30, 2003, the Company had approximately 177,300 residential customers, 28,900 commercial customers, and 800 industrial and other customers. Residential, commercial, and most small industrial customers are generally core customers, who take traditional “bundled” natural gas service, which includes supply, peaking service, and upstream interstate pipeline transportation. Sales to core customers in fiscal 2003 accounted for approximately 21% of gas deliveries and 68% of operating margin. The Company’s sales to its core residential and commercial customers are influenced by fluctuations in temperature, particularly during the winter season.  A warm winter season will tend to reduce gas consumption.  Over the longer term, these fluctuations tend to offset each other, as rates charged to customers are developed based on the assumption of normal weather.

 

Non-core customers are generally large industrial and institutional customers who have chosen “unbundled” service, meaning that they select from among several upstream supply, pipeline transportation, and gas management service options independent of the Company’s distribution service. The Company’s margin from non-core customers is derived primarily from distribution service and to a lesser extent from gas management service revenue. Gas management service revenue primarily includes fees charged to non-core customers in consideration of securing gas supplies and pipeline capacity for the customers.

 

State Regulation

 

The Company’s rates and practices are regulated by the Washington Utilities and Transportation Commission (WUTC) and the Oregon Public Utility Commission (OPUC).

 

Cascade’s gas supply contracts contain pricing provisions for fixed periods of time. To the extent that prices are changed with respect to supplies purchased for core customers, Cascade is able to pass the effect of such changes, subject to regulatory review, to its customers by means of a periodic purchased gas cost adjustment (PGA) in each state.  Gas price changes occurring between times when PGA rate changes become effective are deferred for pass through in the next PGA.

 

With respect to such gas supplies delivered to Oregon customers, 67% of the incremental change in the actual cost of gas supplies, as compared to the forecasted cost reflected in the PGA, is deferred. The remaining 33% (increase or decrease) is absorbed by the Company. This mechanism is intended to encourage the Company to seek opportunities to lower its cost of supplies and to be innovative in its management of the supply portfolio to avoid price spikes. Cascade’s gas supply portfolio for Oregon core customers is comprised mostly of gas supplies that have a fixed commodity price, therefore management believes the  risk or opportunity for the Company is not significant under the 67% / 33% sharing arrangement during the coming year.

 

3

 

Cascade has an earnings sharing mechanism with respect to its Oregon jurisdictional operations as required by the Oregon Public Utilities Commission. The mechanism was designed as an incentive to pursue operational efficiencies and new revenue opportunities, and to share the success of such pursuits with ratepayers if the Company’s earnings exceed a calculated ceiling. Under that arrangement, the Company is authorized to retain all of its earnings up to a threshold level equal to the average of the annual yields, reported monthly, for five-, seven-, and ten-year US Treasury debt securities for the test period plus 710 basis points.  If the adjusted Oregon earnings are below the threshold, there is no rate adjustment. If the adjusted earnings are above the threshold, one-third of the earnings exceeding the threshold will be refunded to customers through future rate reductions.

 

The Company is also subject to state regulation with respect to integrated resource planning, and its most recent update of its Integrated Resource Plan (IRP) was filed in 2002 with both the WUTC and the OPUC.  The IRP shows the Company’s optimum set of supply and demand side resources that minimizes costs and risk over the twenty-year planning horizon.  The IRP also sets forth possible core customer growth scenarios for a twenty-year period.  In addition, the IRP sets forth the Company’s demand side management goals of achieving certain conservation levels in customer usage.

 

The IRP also sets forth the Company’s supply side management plans regarding transportation capacity and gas supply acquisition over a twenty-year period.  The Company develops updates of the IRP every two years. These updated documents take into account input solicited from the public and the WUTC and OPUC staffs.  While the filing of the IRP with both commissions gives the Company no advance assurance that its acquisitions of pipeline transportation capacity and gas supplies will be recognized in rates, management believes that the integrated resource planning process benefits the Company by giving it the opportunity to obtain input from regulators and the public concurrently with making these important strategic decisions. Until the Company receives final regulatory approval of these decisions in the context of the rate-making process, the Company cannot predict with certainty the extent to which the integrated resource planning process will affect its rates.

 

Natural Gas Supply

 

The majority of Cascade’s supply of natural gas is transported via Williams Gas Pipelines - West (Williams).  Williams owns and operates a transmission system extending from points of interconnection with El Paso Natural Gas Company and Transwestern Pipeline Company near Blanco, New Mexico through the states of New Mexico, Colorado, Utah, Wyoming, Idaho, Oregon and Washington to the Canadian border near Sumas, Washington.  Natural gas is transported north from the Colorado and New Mexico area, and south from British Columbia, Canada.  The Company is also a shipper on the transmission system of Gas Transmission Northwest Corporation (GTN).  GTN owns and operates a gas transmission line that connects with the facilities of the TransCanada Pipeline at the international border near Kingsgate, British Columbia and extends through Washington and central Oregon into California. Cascade also receives natural gas directly from Duke Energy Gas Transmission at the Canadian border near Sumas, Washington.

 

Presently, baseload requirements for Cascade’s core market are provided by six major gas supply contracts with various expiration dates from 2003 through 2008 and averaging 527,000 therms per day of Canadian supply and 180,000 therms per day of domestic supply.  These contracts are supplemented by various service agreements to cover periods of peak demand including three storage agreements.  One such agreement, with Williams, extends to October 31, 2014 and provides for 167,890 therms per day and a maximum, renewable inventory of 6,043,510 therms.  The second storage agreement is with Avista Energy, and has a primary term ending April 30, 2004 and entitles Cascade to receive up to 150,000 therms per day and a maximum, renewable inventory of 4,800,000 therms.  A third contract, also with Williams, for liquefied natural gas (LNG) storage is effective through October 31, 2014.  Under this LNG agreement, Cascade is entitled to receive up to 600,000 therms per day to a maximum inventory of 5,622,000 therms.  In addition to withdrawal and inventory capacity, Cascade maintains a corresponding amount of firm transportation from the storage facility to the city gate for each of these agreements.

 

During 2003, Cascade purchased approximately 92% of its gas supplies from firm gas supply contracts and 8% from 30-day spot market contracts.  In addition, 543,301,000 therms of customer purchased supplies were transported through Cascade facilities.

 

4

 

Cascade’s total cost of gas depends primarily on the prices negotiated with producers and brokers, coupled with the cost of interstate and Canadian pipeline transportation.  Substantially all gas supplies for Oregon core customers and the majority of gas supplies for Washington core customers are currently purchased on contracts with supplies and prices fixed through 2004. Management believes that this, together with use of storage volumes, provides Cascade with the ability to mitigate the effects on Cascade and its customers of spikes in the market price of natural gas.

 

Federal Energy Regulatory Commission (FERC) Matters

 

Cascade is not subject to regulation by the FERC, however FERC actions can affect the amounts Cascade pays to interstate pipeline companies for interstate deliveries of natural gas supplies. Several issues are pending before FERC, or are on appeal before the U.S. Court of Appeals. The final outcome may affect prices Cascade pays. Since the policies of the WUTC and OPUC provide for 100% pass through of costs subject to FERC regulation, the Company expects that the final resolution of pending issues will not significantly affect net income.

 

Curtailment Procedures

 

In previous heating seasons, cold weather has required Cascade to significantly curtail deliveries to its interruptible customers. Cascade has not curtailed any firm customers, except under force majeure conditions. Cascade’s tariffs effective in Washington and Oregon allow for curtailment of interruptible services, which are provided at rates lower than for firm services.  In the event of curtailment by Cascade of firm service due to force majeure, Cascade’s tariffs provide that it will not be liable for damages to any customer for failure to deliver gas curtailed in accordance with the provisions of the tariffs.  The tariffs provide for appropriate adjustment of the monthly charges to firm customers curtailed by reason of an insufficient supply of gas.

 

Territory Served and Franchises

 

The population of communities served by Cascade totals approximately 1,009,000. At the end of September 2003, Cascade had the franchises necessary for the distribution of natural gas in all but two of the communities it serves in Washington and Oregon. Those franchises expired during fiscal 2003. Negotiations for those franchises are expected to be completed within fiscal year 2004. Under the laws of those states, incorporated municipalities and counties may grant non-exclusive franchises for a fixed term of years conferring upon the grantee certain rights with respect to public streets and highways in the location, construction, operation, maintenance and removal of gas distribution facilities.

 

In the opinion of Cascade’s management, none of its franchises contain any restrictions or requirements that are of a materially burdensome nature, and such franchises are adequate for the conduct of Cascade’s present business. Franchises expire on various dates from fiscal 2004 to 2065. Management has not incurred significant difficulties in renewing franchises when they expire and does not expect any significant problems in the future.

 

Customers

 

Residential and commercial customers principally use natural gas for space heating and water heating. This market is very weather-sensitive. See “Seasonality” below.

 

Agreements with Cascade’s principal industrial customers are for fixed terms of not less than one year and provide for automatic extension from year to year unless terminated by either party on at least 30-days’ notice.

 

The principal industrial activities in Cascade’s service area include the production of pulp, paper and converted paper products, plywood, industrial chemicals; refining of crude oil; the processing, flash freezing and canning of many types of vegetable, fruit and fish products; processing of milk products; meat processing; drying and curing of wood and agricultural products; and electric power generation. Electric generation customers represent a significant portion of industrial revenues. The demand for gas-fired generation tends to decrease as the availability of hydroelectric generation increases.

 

5

 

Seasonality

 

Weather is an important factor affecting gas revenues because of the large number of customers using gas for space heating.  For the fiscal year ended September 30, 2003, 69% of operating revenues and 105% of income from operations were derived from the first two quarters (October 2002 through March 2003). Because of the seasonality of space heating revenues, financial results for interim periods are not indicative of results to be expected for an entire year. To mitigate the seasonality of space heating revenues, the Company pursues a marketing strategy of encouraging the installation of gas water heaters by customers, since they are not as influenced by weather conditions.

 

Competitive Conditions

 

Cascade operates in a competitive market for natural gas service.  Cascade competes with residual fuel oil and other alternative energy sources for industrial boiler uses, and oil, propane, and electricity for residential and commercial space heating, and electricity for water heating.

 

Competition is primarily based on price.  Though wholesale natural gas prices have increased significantly beginning in the 2000 - - 2001 heating season, Cascade’s residential and commercial rate schedules  continue to maintain a price advantage over oil in its entire service territory and has an advantage over electricity in the vast majority of its territory.  In the remaining areas of its service territory served by public electric utilities with their own hydro power supply, Cascade is almost equal in cost with respect to electricity furnished by those utilities for space heating and water heating uses. In addition, natural gas enjoys the advantage of being the preferred energy choice by builders for new home construction.

 

The large volume industrial market has always been very  sensitive to price fluctuations between the comparable cost of natural gas and alternate fuels, principally residual fuel oil used in boiler applications.  However, the advent of open access transportation in the late 1980’s and early 1990’s and the subsequent restructuring of gas supply and contractual provisions with these customers have improved the Company’s competitive position. With the escalation of wholesale natural gas prices that began in the 2000 - 2001 heating season, the Company has experienced some movement of its gas load to alternative fuels and some plant curtailments by industrial customers.

 

In addition to multiple alternative fuels, the Company is subject to bypass.  Bypass refers to actual or prospective customers who install their own facilities and connect directly to an upstream pipeline and thereby “bypass” the company’s distribution service.  The Company has in the past experienced bypass, but has also experienced success in offering competitive rates to reduce economic incentives to bypass.

 

The Company competes with others in acquiring gas supplies for resale to governmental and industrial customers.  Further opportunities in this area will be dependent upon market conditions that can change over time, credit worthiness of customers and the increase or decrease in the number of competing providers that are available.

 

The Bonneville Power Administration (BPA) is a major supplier of hydroelectric power in the Pacific Northwest including Cascade’s service area.  BPA significantly influences the electric rates of all classes of customers including those applications in direct competition with natural gas marketed by Cascade.

 

Environmental

 

The Company is subject to federal and state environmental regulation of its operations and properties through the United States Environmental Protection Agency, the Washington Department of Ecology and the Oregon Department of Environmental Quality.  Such regulation may, at times, result in the imposition of liability or responsibility for the clean up or treatment of existing environmental problems or for the prevention of future environmental problems. For detailed descriptions of specific environmental issues, see “Environmental Matters” under Item 7.

 

6

 

Capital Expenditures

 

Capital expenditures are primarily used to expand the Company’s distribution system to serve its expanding customer base, as well as to increase deliverability on its existing system to accommodate increased customer utilization. Capital expenditures for the five fiscal years ended September 30, 2003 totaled approximately $103.3 million, and the budget for fiscal 2004 is $35.0 million.

 

The Company is currently forecasting that capital expenditures will total approximately $135 million over the next five years,  including an estimated total of $10 to $12 million in 2004 and 2005 for a project to automate the reading of customer meters.  The overall objective is to invest limited capital to generate the highest possible returns within the shortest possible time, while assuming prudent risk, anticipating customer needs and complying with the requirements of regulators.

 

Non-Utility Subsidiaries

 

Cascade has four non-utility subsidiaries, only two of which are actively engaged in business at present. Cascade Land Leasing is engaged in the servicing of loans that were made to Cascade’s gas customers to finance their purchases of energy-efficient appliances. The subsidiary ceased making new loans in September 1997. Beginning in November 1998, CGC Resources began serving as an entity engaged in pipeline capacity management, with the objective of mitigating gas costs for Cascade.  The subsidiaries, which in the aggregate account for less than 1% of the consolidated assets of the Company, do not currently have a significant impact on Cascade’s financial statements.

 

Personnel

 

At September 30, 2003, Cascade had 437 employees.  Of the total employees, 194 are represented by the International Chemical Workers Union. The present contract with the union extends to April 1, 2006, and remains in force thereafter from year to year unless terminated by either party by written notice sixty days prior to the expiration date.

 

Item 2. Properties

 

At September 30, 2003, Cascade’s utility plant investments included approximately 4,917 miles of distribution mains ranging in diameter from two inches to twenty inches, 215 miles of transmission mains ranging in diameter from two inches to sixteen inches, and 3,420 miles of service lines.

 

The distribution and transmission mains are located under public property such as streets and highways or on private property with the permission or consent of the individual owner.

 

Cascade owns 21 buildings used for operations, office space and warehousing in Washington and six such buildings in Oregon. It leases five commercial offices and warehouse buildings. Cascade considers its properties well maintained and in good operating condition, and adequate for Cascade’s present and anticipated needs. All facilities are substantially utilized. In addition, the Company owns two buildings currently for sale due to operational consolidation.

 

Item 3.  Legal Proceedings

 

Litigation: In the fourth quarter of fiscal 2002 a fatal accident occurred involving facilities owned by the Company, located on the property of one of the Company’s commercial customers. In fiscal 2003 a settlement of all plaintiffs’ claims was agreed to in consideration of a $750,000 payment. The Company and its co-defendant have each paid $375,000, and have agreed to resolve the allocation of the total settlement payment between them in future negotiations or proceedings.

 

Other: Incorporated herein by reference is the information under “Environmental Matters” in Item 7.

 

Item 4.  Submission of Matters to a Vote of Security Holders

 

No matters were submitted during the fourth quarter of fiscal year 2003.

 

7

 

Executive Officers of the Registrant

 

The executive officers of the Company, as of December 1, 2003, are as follows:

 

Name		Office		Age		Year Became Officer
W. Brian Matsuyama		President and Chief Executive Officer		57		1987
J. D. Wessling		Chief Financial Officer		60		1995
William H. Odell		Chief Operating Officer		41		2000
Jon T. Stoltz		Senior Vice President - Gas Supply and Regulatory Affairs		56		1981
Larry C. Rosok		Vice President - Human Resources and Corporate Secretary		47		1995
James E. Haug		Controller		54		1981

 

None of the above officers is related by blood, marriage or adoption to any other of the above named officers. Each of the above named officers has been employed by the Company in a management capacity for at least the past five years.  None of the above officers hold directorships in other public corporations.  All officers serve at the pleasure of the Board of Directors.

 

PART II

 

Item 5.  Market for Registrant’s Common Equity and Related Stockholder Matters

 

The Common Stock is traded on the New York Stock Exchange under the symbol CGC. The following table states the per share high and low sales prices of the Common Stock.

 

 

At September 30, 2003, there were 6,500 holders of the Common Stock. The following table shows for the periods indicated the dividends paid per share on the Common Stock.

 

 

8