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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549

FORM 10-Q
(Mark one)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2012

OR

o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________________ to ________________

Commission File Number 000-22211

SOUTH JERSEY GAS COMPANY
(Exact name of registrant as specified in its charter)

New Jersey
 
21-0398330
(State of incorporation)
 
(IRS employer identification no.)

1 South Jersey Plaza, Folsom, NJ 08037
(Address of principal executive offices, including zip code)

(609) 561-9000
(Registrant's telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None

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 x      No o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes x      No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o
Accelerated filer o
Non-accelerated filer x (Do not check if a smaller reporting company)
Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o    No x
  
As of May 1, 2012 there were 2,339,139 shares of the registrant’s common stock outstanding. All common shares are owned by South Jersey Industries, Inc., the parent company of South Jersey Gas Company.



TABLE OF CONTENTS

 
Page No.
 
 
PART I
FINANCIAL INFORMATION
 
 
 
 
Item 1.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
PART II
OTHER INFORMATION
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 6.
 
 
 
  

2




SOUTH JERSEY GAS COMPANY

CONDENSED STATEMENTS OF INCOME (UNAUDITED)
(In Thousands)

 
 
Three Months Ended
 
March 31,
 
2012
 
2011
Operating Revenues
$
179,436

 
$
180,323

 
 
 
 
Operating Expenses:
 

 
 

Cost of Sales (Excluding depreciation)
86,499

 
88,574

Operations
20,564

 
18,273

Maintenance
3,192

 
3,009

Depreciation
7,157

 
7,460

Energy and Other Taxes
3,169

 
4,514

 
 
 
 
Total Operating Expenses
120,581

 
121,830

 
 
 
 
Operating Income
58,855

 
58,493

 
 
 
 
Other Income and Expense
1,349

 
878

 
 
 
 
Interest Charges
(4,189
)
 
(5,029
)
 
 
 
 
Income Before Income Taxes
56,015

 
54,342

 
 
 
 
Income Taxes
(20,977
)
 
(22,046
)
 
 
 
 
Net Income
$
35,038

 
$
32,296

 
The accompanying notes are an integral part of the unaudited condensed financial statements.


3


SOUTH JERSEY GAS COMPANY

CONDENSED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
(In Thousands)
 
 
Three Months Ended
 
March 31,
 
2012
 
2011
Net Income
$
35,038

 
$
32,296

 
 
 
 
Other Comprehensive Gain (Loss)   - Net of Tax: *
 

 
 

 
 
 
 
Unrealized Gain (Loss) on Available-for-Sale Securities
351

 
(154
)
Unrealized Gain on Derivatives - Other
7

 
7

 
 
 
 
Other Comprehensive Gain (Loss)  - Net of Tax *
358

 
(147
)
 
 
 
 
Comprehensive Income
$
35,396

 
$
32,149

 
 
 
 

* Determined using a combined statutory tax rate of 41% .
 
The accompanying notes are an integral part of the unaudited condensed financial statements.

4


SOUTH JERSEY GAS COMPANY

CONDENSED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In Thousands)
 
 
Three Months Ended
 
March 31,
 
2012
 
2011
Net Cash Provided by Operating Activities
$
42,430

 
$
64,707

 
 
 
 
Cash Flows from Investing Activities:
 

 
 

Capital Expenditures
(36,970
)
 
(25,605
)
Net Purchase of Restricted Investments in Margin Accounts
(698
)
 
(211
)
Investment in Long-Term Receivables
(1,480
)
 
(1,492
)
Proceeds from Long-Term Receivables
2,293

 
1,691

 
 
 
 
Net Cash Used in Investing Activities
(36,855
)
 
(25,617
)
 
 
 
 
Cash Flows from Financing Activities:
 

 
 

Net Repayments of Short-Term Credit Facilities
(5,500
)
 
(38,650
)
Payments for Issuance of Long-Term Debt
(14
)
 
(10
)
 
 
 
 
Net Cash Used in Financing Activities
(5,514
)
 
(38,660
)
 
 
 
 
Net Increase in Cash and Cash Equivalents
61

 
430

Cash and Cash Equivalents at Beginning of Period
3,504

 
2,030

 
 
 
 
Cash and Cash Equivalents at End of Period
$
3,565

 
$
2,460

 
The accompanying notes are an integral part of the unaudited condensed financial statements.

5


SOUTH JERSEY GAS COMPANY

CONDENSED BALANCE SHEETS (UNAUDITED)
(In Thousands)
 
 
March 31,
2012
 
December 31,
2011
Assets
 
 
 
Property, Plant and Equipment:
 
 
 
Utility Plant, at original cost
$
1,553,865

 
$
1,515,274

Accumulated Depreciation
(363,060
)
 
(357,245
)
 
 
 
 
Property, Plant and Equipment - Net
1,190,805

 
1,158,029

 
 
 
 
Investments:
 

 
 

Available-for-Sale Securities
7,240

 
6,655

Restricted Investments
2,896

 
2,198

 
 
 
 
Total Investments
10,136

 
8,853

 
 
 
 
Current Assets:
 

 
 

Cash and Cash Equivalents
3,565

 
3,504

Accounts Receivable
62,576

 
24,800

Accounts Receivable - Related Parties
1,218

 
1,122

Unbilled Revenues
20,833

 
31,978

Provision for Uncollectibles
(3,229
)
 
(3,060
)
Natural Gas in Storage, average cost
7,783

 
27,251

Materials and Supplies, average cost
1,740

 
1,654

Deferred Income Taxes - Net

 
6,301

Prepaid Taxes
4,021

 
17,296

Derivatives - Energy Related Assets
1,181

 
2,263

Other Prepayments and Current Assets
3,384

 
3,773

 
 
 
 
Total Current Assets
103,072

 
116,882

 
 
 
 
Regulatory and Other Noncurrent Assets:
 

 
 

Regulatory Assets
314,448

 
315,221

Unamortized Debt Issuance Costs
6,445

 
6,198

Long-Term Receivables
8,652

 
8,345

Derivatives - Energy Related Assets
99

 

Other
2,326

 
2,195

 
 
 
 
Total Regulatory and Other Noncurrent Assets
331,970

 
331,959

 
 
 
 
Total Assets
$
1,635,983

 
$
1,615,723

 
The accompanying notes are an integral part of the unaudited condensed financial statements.

6


SOUTH JERSEY GAS COMPANY

CONDENSED BALANCE SHEETS (UNAUDITED)
(In Thousands, except per share amounts)
 
 
March 31,
2012
 
December 31,
2011
Capitalization and Liabilities
 
 
 
Common Equity:
 
 
 
Common Stock, Par Value $2.50 per share:
 
 
 
Authorized - 4,000,000 shares
 
 
 
Outstanding - 2,339,139 shares
$
5,848

 
$
5,848

Other Paid-In Capital and Premium on Common Stock
200,926

 
200,926

Accumulated Other Comprehensive Loss
(11,771
)
 
(12,129
)
Retained Earnings
304,579

 
269,541

 
 
 
 
Total Common Equity
499,582

 
464,186

 
 
 
 
Long-Term Debt
365,000

 
362,813

 
 
 
 
Total Capitalization
864,582

 
826,999

 
 
 
 
Current Liabilities:
 

 
 

Notes Payable
121,100

 
126,600

Current Portion of Long-Term Debt

 
2,187

Accounts Payable - Commodity
15,006

 
17,867

Accounts Payable - Other
29,488

 
28,280

Accounts Payable - Related Parties
5,758

 
6,571

Derivatives - Energy Related Liabilities
14,412

 
11,385

Deferred Income Taxes - Net
546

 

Customer Deposits and Credit Balances
17,966

 
24,387

Environmental Remediation Costs
16,720

 
23,009

Taxes Accrued
5,053

 
1,774

Pension Benefits
1,240

 
1,240

Interest Accrued
4,726

 
6,240

Other Current Liabilities
5,090

 
6,016

 
 
 
 
Total Current Liabilities
237,105

 
255,556

 
 
 
 
Regulatory and Other Noncurrent Liabilities:
 

 
 

Regulatory Liabilities
48,822

 
48,311

Deferred Income Taxes - Net
301,083

 
285,159

Environmental Remediation Costs
71,650

 
66,975

Asset Retirement Obligations
29,447

 
29,388

Pension and Other Postretirement Benefits
71,911

 
90,055

Investment Tax Credits
833

 
905

Derivatives - Energy Related Liabilities
1,027

 
1,122

Derivatives - Other
6,601

 
8,146

Other
2,922

 
3,107

 
 
 
 
Total Regulatory and Other Noncurrent Liabilities
534,296

 
533,168

 
 
 
 
Commitments and Contingencies (Note 9)


 


 
 
 
 
Total Capitalization and Liabilities
$
1,635,983

 
$
1,615,723

 
The accompanying notes are an integral part of the unaudited condensed financial statements.

7


NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

1.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

THE ENTITY - South Jersey Industries, Inc. (SJI) owns all of the outstanding common stock of South Jersey Gas Company (SJG), a regulated natural gas utility. SJG distributes natural gas in the seven southern most counties of New Jersey. In our opinion, the condensed financial statements reflect all normal and recurring adjustments needed to fairly present our financial position and operating results at the dates and for the periods presented. SJG’s business is subject to seasonal fluctuations and accordingly, this interim financial information should not be the basis for estimating the full year’s operating results. As permitted by the rules and regulations of the Securities and Exchange Commission, the accompanying condensed financial statements contain certain condensed financial information and exclude certain note disclosures normally included in annual audited financial statements prepared in accordance with accounting principles generally accepted in the United States of America (GAAP). These condensed financial statements should be read in conjunction with SJG’s 2011 Form 10-K for a more complete discussion of our accounting policies and certain other information.

REVENUE BASED TAXES - SJG collects certain revenue-based energy taxes from its customers. Such taxes include New Jersey State Sales Tax, Transitional Energy Facility Assessment (TEFA) and Public Utilities Assessment (PUA). State sales tax is recorded as a liability when billed to customers and is not included in revenue or operating expenses. TEFA and PUA are included in both revenues and cost of sales, and totaled $2.5 million and $3.9 million for the three months ended March 31, 2012 and 2011, respectively.

NEW ACCOUNTING PRONOUNCEMENTS — Other than as described below, no new accounting pronouncement issued or effective during 2011 and 2012 had, or is expected to have, a material impact on the condensed financial statements.

In May 2011, the FASB issued Accounting Standards Update (ASU) No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS. This ASU amends Accounting Standards Codification Topic 820 to include a consistent definition of the term “fair value” and set forth common requirements for measuring fair value and disclosing information about fair value measurements in financial statements. The new guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The adoption of this guidance modified the disclosures around fair value, but did not have an impact on the Company's financial statement results.

In June 2011, the FASB has issued ASU No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income.  This ASU allows an entity the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements.  In both choices, an entity is required to present each component of net income along with a total for other comprehensive income, and a total amount for comprehensive income.  ASU 2011-05 eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity.  In January 2012, the FASB issued ASU 2011-12, Deferral of the Effective Date for the Presentation of Reclassification Adjustments Out of Accumulated Other Comprehensive Income, which defers the provisions related to the presentation of reclassification adjustments. The other portions of the ASU remain unchanged and are effective for interim and annual periods beginning after December 15, 2011, with early adoption permitted. The adoption of this guidance did not have an impact on the Company's financial statement results.

In January 2012, the FASB issued ASU 2011-11, Enhanced Disclosure Requirements Concerning Offsetting of Financial Assets and Financial Liabilities. This ASU amends ASC 210-20 to add disclosure requirements in respect of the offsetting of financial assets and financial liabilities. The new guidance is effective for fiscal years beginning on or after January 1, 2013. Management does not anticipate the adoption of this guidance to have an impact on the Company's financial statement results.



8


2.
STOCK-BASED COMPENSATION PLANS:

Officers and other key employees of SJG participate in the Stock Option, Stock Appreciation Rights and Restricted Stock Award Plan ("Plan") of SJI. Restricted shares issued under this plan vest over a three-year period and are subject to SJI achieving certain market or earnings-based performance targets as compared to a peer group average, which can cause the actual amount of shares that ultimately vest to range from between 0% to 150% of the original share units granted. Grants containing market-based performance targets have been issued in each of the last three years and use SJI's total shareholder return (TSR) relative to a peer group to measure performance. Beginning with 2012, grants containing earnings-based targets have also been issued. These new grants are based on SJI's earnings per share growth rate relative to a peer group to measure performance.

See Note 2 to the Consolidated Financial Statements in Item 8 of SJG Annual Report on Form 10-K as of December 31, 2011 for the related accounting policy.

The following table summarizes the SJI nonvested restricted stock awards pertaining to SJG outstanding at March 31, 2012, and the assumptions used to estimate the fair value of the awards:

Grant Date
 
Shares
Outstanding
 
Fair Value
Per Share
 
Expected
Volatility
 
Risk-Free
Interest Rate
Jan. 2010 - TSR
 
9,920

 
$
39.020

 
29.0
%
 
1.65
%
Jan. 2011 - TSR
 
7,372

 
$
50.940

 
27.5
%
 
1.01
%
Jan. 2012 - TSR
 
3,868

 
$
51.230

 
22.5
%
 
0.43
%
Jan. 2012 - EPS
 
3,868

 
$
56.930

 
n/a

 
n/a

 
Expected volatility is based on the actual volatility of SJI’s share price over the preceding three year period as of the valuation date. The risk-free interest rate is based on the zero-coupon U.S. Treasury Bond, with a term equal to the three year term of the restricted shares. As notional dividend equivalents are credited to the holders, which are reinvested during the three year service period, no reduction to the fair value of the award is required.

The cost for restricted stock awards during 2012 and 2011 is approximately $0.1 million per quarter.

As of March 31, 2012, there was $0.7 million of total unrecognized compensation cost related to nonvested share-based compensation awards granted under the restricted stock plans. That cost is expected to be recognized over a weighted average period of 2.2 years.

The following table summarizes information regarding restricted stock award activity during the three months ended March 31, 2012, excluding accrued dividend equivalents:

 
Shares
 
Weighted
Average
Grant Date
Fair Value
Nonvested Shares Outstanding, January 1, 2012
17,568

 
$
44.139

 
 
 
 
Granted
7,913

 
$
54.080

 
 
 
 
Canceled / Forfeited
(453
)
 
$
49.430

Nonvested Shares Outstanding, March 31, 2012
25,028

 
$
47.186


During the three months ended March 31, 2012, SJG awarded 7,098 shares that had vested at December 31, 2011, to its officers and other key employees at a market value of $0.4 million. During March 2011, SJG awarded 15,186 shares at a market value of $0.8 million. SJG has a policy of making cash payments to SJI to satisfy its obligations under this plan. Cash payments to SJI during both the three months ended March 31, 2012 and 2011 were approximately $0.3 million relating to stock awards. Additionally, a change in control could result in the nonvested shares becoming nonforfeitable or immediately payable in cash.


9


3.
RATES AND REGULATORY ACTIONS:

SJG is subject to the rules and regulations of the New Jersey Board of Public Utilities (BPU).  In October 2011, the Company filed a petition with the BPU requesting to modify and extend its CIRT II program. The petition requested an additional incremental investment of $40.0 million in 2012 and $50.0 million in 2013 (see Note 13 - Subsequent Events).

There have been no other significant regulatory actions or changes to SJG's rate structure since December 31, 2011. See Note 3 to the Financial Statements in Item 8 of SJG's Form 10-K as of December 31, 2011.
 
4.
REGULATORY ASSETS AND LIABILITIES:

There have been no significant changes to the nature of SJG’s regulatory assets and liabilities since December 31, 2011, which are described in Notes 3 and 4 to the Financial Statements in Item 8 of SJG’s Form 10-K as of December 31, 2011.


Regulatory Assets consisted of the following items (in thousands):

 
March 31,
2012

December 31,
2011
Environmental Remediation Costs:
 

 
Expended - Net
$
41,303


$
45,815

Liability for Future Expenditures
88,370


89,984

Deferred Asset Retirement Obligation Costs
25,069


25,162

Deferred Pension and Other Postretirement Benefit Costs
88,529


88,624

Deferred Gas Costs - Net
9,730

 
22,441

Conservation Incentive Program Receivable
29,626


13,580

Societal Benefit Costs Receivable
10,015


8,618

Premium for Early Retirement of Debt
497


537

Deferred Interest Rate Contracts (Note 11)
6,601

 
8,146

Energy Efficiency Tracker
10,606

 
8,464

Other Regulatory Assets
4,102


3,850

 





Total Regulatory Assets
$
314,448

 
$
315,221


CONSERVATION INCENTIVE PROGRAM RECEIVABLE (CIP)– The increase in this receivable is primarily the result of unusually warm weather experienced in the region during the first quarter of 2012. The CIP tracking mechanism adjusts earnings when actual usage per customer experienced during the period varies from an established baseline usage per customer. 

DEFERRED GAS COSTS – NET – Over/under collections of gas costs are monitored through SJG’s BGSS clause.  Net undercollected gas costs are classified as a regulatory asset and net overcollected gas costs are classified as a regulatory liability.  Derivative contracts used to hedge natural gas purchases are also included in the BGSS, subject to BPU approval.  The BGSS decreased from a $22.4 million regulatory asset at December 31, 2011 to a $9.7 million regulatory asset at March 31, 2012 primarily due to gas costs recovered from customers exceeding the actual cost of the commodity incurred during the first three months of 2012, as a result of natural gas prices remaining at very low levels.

10



Regulatory Liabilities consisted of the following items (in thousands):

 
March 31,
2012

December 31,
2011
Excess Plant Removal Costs
$
46,963


$
47,230

Other Regulatory Liabilities
1,859


1,081

 





Total Regulatory Liabilities
$
48,822

 
$
48,311



5.
RELATED PARTY TRANSACTIONS:

There have been no significant changes in the nature of SJG’s related party transactions since December 31, 2011. See Note 5 to the Financial Statements in Item 8 of SJG’s Form 10-K as of December 31, 2011 for a detailed description of such transactions.

A summary of related party transactions, excluding pass-through items, included in Operating Revenues were as follows, (in thousands):
 
 
Three Months Ended
March 31,
 
2012
 
2011
Operating Revenues/Affiliates:
 
 
 
SJRG
$
183


$
5,875

Other
102


317

Total Operating Revenue/Affiliates
$
285

 
$
6,192


Related party transactions, excluding pass-through items, included in Operating Expenses were as follows, (in thousands):

 
Three Months Ended
March 31,
 
2012
 
2011
Costs of Sales/Affiliates (Excluding depreciation):
 
 
 
SJRG
$
1,495


$
5,244

Energy-Related Derivative Losses *
 
 
 
SJRG
$
4,967


$
4,601


* Contracts used to hedge natural gas purchases. Included in Cost of Sales on the Condensed Statement of Income.

Operations Expense/Affiliates
 
 
 
SJI
$
2,677


$
2,496

SJIS
1,338


1,142

Millennium
787


731

Other
(136
)

(97
)
Total Operations Expense/Affiliates
$
4,666

 
$
4,272


11



6.
FINANCIAL INSTRUMENTS:

RESTRICTED INVESTMENTS - In accordance with the terms of our tax-exempt first mortgage bonds, unused proceeds are required to be escrowed pending approved construction expenditures. As of both March 31, 2012 and December 31, 2011, the escrowed proceeds, including interest earned, totaled $0.1 million. SJG established a margin account with SJRG in conjunction with SJG's risk management activities as detailed in Note 11. The funds provided by SJG will increase or decrease as the number and value of outstanding energy-related contracts held with SJRG changes. As of March 31, 2012 and December 31, 2011, the balance held with SJRG totaled $2.8 million and $2.1 million, respectively. The carrying amounts of the Restricted Investments approximate their fair value at March 31, 2012 and December 31, 2011, which would be included in Level 1 of the fair value hierarchy. (See Note 10 - Fair Value of Financial Assets and Financial Liabilities).

LONG-TERM RECEIVABLES – SJG provides financing to customers for the purpose of attracting conversions to natural gas heating systems from competing fuel sources.  The terms of these loans call for customers to make monthly payments over a period of up to five years with no interest.  The carrying amounts of such loans were $12.4 million and $11.7 million as of March 31, 2012 and December 31, 2011, respectively.  The current portion of these receivables is reflected in Accounts Receivable and the non-current portion is reflected in Long-Term Receivables on the condensed balance sheets.  The carrying amounts noted above are net of unamortized discounts resulting from imputed interest in the amount of $1.4 million and $1.2 million as of March 31, 2012 and December 31, 2011, respectively.  The annual amortization to interest is not material to SJG’s financial statements.  The carrying amounts of these receivables approximate their fair value at March 31, 2012 and December 31, 2011, which would be included in Level 2 of the fair value hierarchy. (See Note 10 - Fair Value of Financial Assets and Financial Liabilities).
 
FINANCIAL INSTRUMENTS NOT CARRIED AT FAIR VALUE - The fair value of a financial instrument is the market price to sell an asset or transfer a liability at the measurement date. The carrying amounts of SJG's financial instruments that are not carried at fair value, including those financial instruments disclosed in this footnote, approximate their fair values at March 31, 2012 and December 31, 2011, except as noted below.
For Long-Term Debt, in estimating the fair value, we use the present value of remaining cash flows at the balance sheet date. We based the estimates on interest rates available to SJG at the end of each period for debt with similar terms and maturities (Level 2 in the fair value hierarchy. See Note 10 - Fair Value of Financial Assets and Financial Liabilities). The estimated fair values of SJG's long-term debt, including current maturities, as of March 31, 2012 and December 31, 2011, were $458.0 million and $472.0 million, respectively.  The carrying amounts of SJG's long-term debt, including current maturities, as of both March 31, 2012 and December 31, 2011, were both $365.0 million.

7.
UNUSED LINES OF CREDIT:

Credit facilities and available liquidity as of March 31, 2012 were as follows (in thousands):
 
 
Total Facility
 
Usage
 
Available Liquidity
 
Expiration Date
Commercial Paper Program/ Revolving Credit Facility
$
200,000

 
$
121,100

 
$
78,900

 
May 2015
Uncommitted Bank Lines
10,000

 

 
10,000

 
Various (A)
 
 
 
 
 
 
 
 
Total
$
210,000

 
$
121,100

 
$
88,900

 
 

(A) SJG reduced the uncommitted bank lines by $10.0 million as of March 31, 2012.

The SJG facility is provided by a syndicate of banks and contains one financial covenant limiting the ratio of indebtedness to total capitalization (as defined in the credit agreement) to not more than 0.65 to 1 measured at the end of each fiscal quarter.  SJG was in compliance with this covenant as of March 31, 2012.

During the third quarter of 2011, SJG began a commercial paper program under which SJG may issue short-term, unsecured promissory notes to qualified investors up to a maximum aggregate amount outstanding at any time of $200.0 million.  The notes  have fixed maturities which vary by note, but may not exceed 270 days from the date of issue. Proceeds from the notes are used for general corporate purposes.  SJG uses the commercial paper program in tandem with the $200.0 million revolving credit facility and does not expect the principal amount of borrowings outstanding under the commercial paper program and the credit facility at any time to exceed an aggregate of $200.0 million.

12



Average borrowings outstanding under these credit facilities, not including letters of credit, during the three months ended March 31, 2012 and 2011 were $139.5 million and $38.6 million, respectively.  The maximum amount outstanding under these credit facilities, not including letters of credit, during the three months ended March 31, 2012 and 2011 were $152.8 million and $61.8 million, respectively.

Based upon the existing credit facilities and a regular dialogue with our banks, we believe that there will continue to be sufficient credit available to meet our business’ future liquidity needs. Borrowings under these credit facilities are at market rates.  The weighted average interest rate on these borrowings, which changes daily, was 0.46% and 0.76% at March 31, 2012 and 2011, respectively.

8.
PENSION AND OTHER POSTRETIREMENT BENEFITS:

For the three months ended  March 31, 2012 and 2011, net periodic benefit cost related to the employee and officer pension and other postretirement benefit plans consisted of the following components (in thousands):

 
Pension Benefits
 
 
Three Months Ended
March 31,
 
 
2012
 
2011
 
Service Cost
$
898

 
$
785

 
Interest Cost
1,813

 
1,826

 
Expected Return on Plan Assets
(2,085
)
 
(1,815
)
 
Amortizations:
 
 
 
 
Prior Service Cost
47

 
52

 
Actuarial Loss
1,326

 
1,009

 
Net Periodic Benefit Cost
1,999

 
1,857

 
Capitalized Benefit Costs
(980
)
 
(910
)
 
Total Net Periodic Benefit Expense
$
1,019

 
$
947

 
 
Other Postretirement Benefits
 
 
Three Months Ended
March 31,
 
 
2012
 
2011
 
Service Cost
$
223

 
$
215

 
Interest Cost
583

 
619

 
Expected Return on Plan Assets
(424
)
 
(446
)
 
Amortizations:

 


 
Prior Service Credits
(54
)
 
(71
)
 
Actuarial Loss
289

 
312

 
Net Periodic Benefit Cost
617

 
629

 
Capitalized Benefit Costs
(302
)
 
(308
)
 
Total Net Periodic Benefit Expense
$
315

 
$
321

 

Capitalized benefit costs reflected in the table above relate to our construction program.

SJG contributed $19.8 million to the pension plans in January 2012. No contributions were made to the pension plans during the three-month period ending March 31, 2011.  Payments related to the unfunded Supplemental Executive Retirement Plan are expected to approximate $1.2 million in 2012. We also have a regulatory obligation to contribute approximately $3.6 million annually to the other postretirement benefit plans’ trusts, less direct costs incurred.

See Note 11 to the Financial Statements in Item 8 of SJG’s Form 10-K as of December 31, 2011 for additional information related to SJG’s pension and other postretirement benefits.


13


9.
COMMITMENTS AND CONTINGENCIES:

STANDBY LETTER OF CREDIT -    SJG provided a $25.2 million letter of credit under a separate facility outside of the revolving credit facility to support variable-rate demand bonds issued through the New Jersey Economic Development Authority (NJEDA) to finance the expansion of SJG’s natural gas distribution system. 

ENVIRONMENTAL REMEDIATION COSTS - SJG incurred and recorded costs for environmental cleanup of 12 sites where SJG or its predecessors operated gas manufacturing plants. SJG stopped manufacturing gas in the 1950s. There have been no changes to the status of SJG’s environmental remediation efforts since December 31, 2011, as described in Note 12 to the Financial Statements in Item 8 of SJG’s Form 10-K as of December 31, 2011.

GAS SUPPLY RELATED CONTRACTS - In the normal course of conducting business, we have entered into long-term contracts for natural gas supplies, firm transportation and gas storage service. The earliest date at which any of the primary terms of these contracts expire is October 2012. The transportation and storage agreements entered into between us and each of our interstate pipeline service providers were done so in accordance with their respective FERC approved tariff. Our cumulative obligation for gas supply related demand charges and reservation fees paid for these services averages approximately $3.7 million per month and is recovered on a current basis through the BGSS.

PENDING LITIGATION - We are subject to claims arising in the ordinary course of business and other legal proceedings. We accrue liabilities related to these claims when we can reasonably estimate the amount or range of amounts of probable settlement costs or other charges for these claims. The Company has accrued approximately $0.3 million and $0.2 million related to all claims in the aggregate, as of March 31, 2012 and December 31, 2011, respectively. Management does not believe that it is reasonably possible that there will be a material change in the Company's estimated liability in the near term and does not currently anticipate the disposition of any known claims that would have a material effect on the Company's financial position, results of operations or cash flows.

COLLECTIVE BARGAINING AGREEMENTS - Unionized personnel represent approximately 63% of our workforce at March 31, 2012. The Company has collective bargaining agreements with two unions who represent these employees: the International Brotherhood of Electrical Workers (IBEW) that operates under a collective bargaining agreement that runs through February 2013, with the option to extend until February 2014 at the union’s election, and the International Association of Machinists and Aerospace Workers (IAM) that operates under a collective bargaining agreement that runs through  August 2014.

10.
FAIR VALUE OF FINANCIAL ASSETS AND FINANCIAL LIABILITIES:

GAAP establishes a hierarchy that prioritizes fair value measurements based on the types of inputs used for the various valuation techniques.  The levels of the hierarchy are described below:

Level 1:  Observable inputs such as quoted prices in active markets for identical assets or liabilities.

Level 2:  Inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly; these include quoted prices for similar assets or liabilities in active markets and quoted prices for identical or similar assets or liabilities in markets that are not active.

Level 3:  Unobservable inputs that reflect the reporting entity’s own assumptions.

Assessment of the significance of a particular input to the fair value measurement requires judgment and may affect the valuation of financial assets and financial liabilities and their placement within the fair value hierarchy.

14



For financial assets and financial liabilities measured at fair value on a recurring basis, information about the fair value measurements for each major category is as follows (in thousands):

As of March 31, 2012
 
 
 
 
 
 
 
 
Total
 
Level 1
 
Level 2
 
Level 3
Assets -
 
 
 
 
 
 
 
Available-for-Sale Securities (A)
$
7,240

 
$
678


$
6,562

 
$

Derivatives – Energy Related Assets (B)
1,280

 
120


1,160

 

 
$
8,520

 
$
798

 
$
7,722

 
$

 
 
 
 
 
 
 
 
Liabilities -
 

 
 

 
 

 
 

 
 
 
 
 
 
 
 
Derivatives – Energy Related Liabilities (B)
$
15,439

 
$
14,694


$
745


$

Derivatives – Other (C)
6,601

 


6,601



 
$
22,040

 
$
14,694

 
$
7,346

 
$


As of December 31, 2011
 
 
 
 
 
 
 
 
Total
 
Level 1
 
Level 2
 
Level 3
Assets
 
 
 
 
 
 
 
Available-for-Sale Securities (A)
$
6,655

 
$
597


$
6,058


$

Derivatives – Energy Related Assets (B)
2,263

 


2,263



 
$
8,918

 
$
597

 
$
8,321

 
$

 
 
 
 
 
 
 
 
Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Derivatives – Energy Related Liabilities (B)
$
12,507

 
$
11,173


$
1,334


$

Derivatives – Other (C)
8,146

 


8,146



 
$
20,653

 
$
11,173

 
$
9,480

 
$


(A)  Available-for-Sale Securities include securities that are traded in active markets and securities that are not traded publicly.  The securities traded in active markets are valued using the quoted principal market close prices that are provided by the trustees and are categorized in Level 1 in the fair value hierarchy.  The remaining securities consist of funds that are not publicly traded.  These funds, which consist of stocks and bonds that are traded individually in active markets, are valued using quoted prices for similar assets and are categorized in Level 2 in the fair value hierarchy.

(B)  Derivatives – Energy Related Assets and Liabilities are traded in both exchange-based and non-exchange-based markets. Exchange-based contracts are valued using unadjusted quoted market sources in active markets and are categorized in Level 1 in the fair value hierarchy. Certain non-exchange-based contracts are valued using indicative price quotations available through brokers or over-the-counter, on-line exchanges and are categorized in Level 2. These price quotations reflect the average of the bid-ask mid-point prices and are obtained from sources that management believes provide the most liquid market. Management reviews and corroborates the price quotations to ensure the prices are observable which includes consideration of actual transaction volumes, market delivery points, bid-ask spreads and contract duration.

(C)  Derivatives – Other, include interest rate swaps that are valued using quoted prices on commonly quoted intervals, which are interpolated for periods different than the quoted intervals, as inputs to a market valuation model.  Market inputs can generally be verified and model selection does not involve significant management judgment.

15



11.
DERIVATIVE INSTRUMENTS:

SJG is involved in buying, selling, transporting and storing natural gas and is subject to market risk on expected future purchases and sales due to commodity price fluctuations. The Company, through its affiliate South Jersey Resources Group (SJRG), uses a variety of derivative instruments to limit this exposure to market risk in accordance with strict corporate guidelines. These derivative instruments include forward contracts, futures contracts, swap agreements and options contracts. As of March 31, 2012, SJG had outstanding derivative contracts intended to limit the exposure to market risk on 11.8 MMdts of expected future purchases of natural gas. These contracts, which do not qualify for the normal purchase and sale exemption and have not been designated as hedging instruments under GAAP, are measured at fair value and recorded in Derivatives —Energy Related Assets or Derivatives — Energy Related Liabilities on the condensed balance sheets. The costs or benefits of these short-term contracts are recoverable through SJG’s Basic Gas Supply Service (BGSS) clause, subject to BPU approval. As a result, the net unrealized pre-tax gains and losses for these energy related commodity contracts are included with realized gains and losses in Regulatory Assets or Regulatory Liabilities on the condensed balance sheets. As of March 31, 2012 and December 31, 2011, SJG had $14.2 million and $10.2 million of unrealized losses, respectively, included in its BGSS related to open financial contracts.

The Company has also entered into interest rate derivatives to hedge exposure to increasing interest rates and the impact of those rates on cash flows of variable-rate debt. These interest rate derivatives, which have not been designated as hedging instruments under GAAP, are measured at fair value and recorded in Derivatives-Other on the condensed balance sheets. The fair value represents the amount SJG would have to pay the counterparty to terminate these contracts as of those dates. There have been no significant changes to the Company’s active interest rate swaps since December 31, 2011 which are described in Note 1 to the Financial Statements in Item 8 of SJG’s Annual Report on Form 10-K as of December 31, 2011. Subject to BPU approval, the market value upon termination of these interest rate derivatives can be recovered in rates and therefore these unrealized losses have been included in Regulatory Assets on the condensed balance sheets.

We previously used derivative transactions known as “Treasury Locks” to hedge against the impact on our cash flows of possible interest rate increases on debt issued in September 2005.  The initial $1.4 million cost of the Treasury Locks has been included in Accumulated Other Comprehensive Loss and is being amortized over the 30 year life of the associated debt issue.  As of March 31, 2012 and December 31, 2011, the unamortized balance was approximately $1.1 million.

The fair values of all derivative instruments, as reflected in the condensed balance sheets as of March 31, 2012 and December 31, 2011, are as follows (in thousands):

Derivatives not designated as hedging instruments under GAAP
 
March 31, 2012
 
December 31, 2011
 
 
Assets
 
Liabilities
 
Assets
 
Liabilities
Energy related commodity contracts:
 
 
 
 
 
 
 
 
Derivatives – Energy Related – Current
 
$
1,181

 
$
14,412

 
$
2,263

 
$
11,385

 
 
 
 
 
 
 
 
 
Derivatives – Energy Related – Non-Current
 
99

 
1,027

 

 
1,122

 
 
 
 
 
 
 
 
 
Interest rate contracts:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Derivatives – Other
 

 
6,601

 

 
8,146

 
 
 
 
 
 
 
 
 
Total derivatives not designated as hedging instruments under GAAP
 
$
1,280

 
$
22,040

 
$
2,263

 
$
20,653

 

16



The effect of derivative instruments on the condensed statements of income for the three ended March 31, 2012 and 2011 are as follows (in thousands):

 
 
Three months ended
March 31,
Derivatives in Cash Flow Hedging Relationships Interest Rate Contracts:
 
2012
 
2011
Losses reclassified from accumulated OCI into income (a)
 
$
(12
)
 
$
(12
)
(a) Included in Interest Charges

Net realized losses associated with SJG’s energy-related financial commodity contracts of $5.0 million and $4.6 million for the three months ended March 31, 2012 and 2011, respectively, are not included in the above table.  These contracts are part of SJG’s regulated risk management activities that serve to mitigate BGSS costs passed on to its customers. As these transactions are entered into pursuant to, and recoverable through, regulatory riders, any changes in the value of SJG’s energy related financial commodity contracts are deferred in Regulatory Assets or Liabilities and there is no impact to earnings.


12.
LONG-TERM DEBT:

SJG did not issue or retire any long-term debt during the first three months of 2012.  In September 2011, SJG entered into an arrangement to issue Medium-Term Notes (MTN) under a private placement in an aggregate principal amount of $35.0 million. SJG expects to issue this debt in April 2012. In February 2012, SJG called its $35.0 million, 7.70% MTN due April 2027 at par, plus a 2.0% premium. The early redemption will occur concurrently with the issuance of the MTN in April 2012 (See Note 13 - Subsequent Events). In December 2011, SJG received approval from the BPU to issue up to $200.0 million in long-term debt under its MTN program by September 30, 2014. We retire debt when it is cost effective as permitted by the debt agreements.  Our long-term debt agreements contain no financial covenants.


13.
SUBSEQUENT EVENTS:

In April 2012, SJG issued $35.0 million, 3.7% Series D MTN due April 2032. Concurrent with this debt issuance, SJG redeemed early its $35.0 million, 7.70% MTN due April 2027 at par plus a 2.0% premium.

In October 2011, the Company filed a petition with the BPU requesting to modify and extend its CIRT II program. The petition requested an additional incremental investment of $40.0 million in 2012 and $50.0 million in 2013. In March 2012, the parties executed a stipulation agreeing to the acceleration of an incremental $35.0 million in capital spending through December 2012. The BPU approved this petition in May 2012.



17



Item 2. Management’s Discussion and Analysis
of Financial Condition and Results of Operations

OVERVIEW:

Organization - We are an operating public utility company engaged in the purchase, transmission and sale of natural gas for residential, commercial and industrial use. We also sell natural gas and pipeline transportation capacity (off-system sales) on a wholesale basis to various customers on the interstate pipeline system and transport natural gas purchased directly from producers or suppliers to their customers. We served 353,756 customers at March 31, 2012 compared with 349,096 customers at March 31, 2011.

Forward-Looking Statements and Risk Factors - Certain statements contained in this Quarterly Report may qualify as “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements other than statements of historical fact included in this Report should be considered forward-looking statements made in good faith by the Company and are intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. Words such as “anticipate”, “believe”, “expect”, “estimate”, “forecast”, “goal”, “intend”, “objective”, “plan”, “project”, “seek”, “strategy” and similar expressions are intended to identify forward-looking statements. Such forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those expressed or implied in the statements. These risks and uncertainties include, but are not limited to, the following: general economic conditions on an international, national, state and local level; weather conditions in our marketing areas; changes in commodity costs; changes in the availability of natural gas; “non-routine” or “extraordinary” disruptions in our distribution system; regulatory, legislative and court decisions; competition; the availability and cost of capital; costs and effects of legal proceedings and environmental liabilities; the failure of customers or suppliers to fulfill their contractual obligations; and changes in business strategies.

A discussion of these and other risks and uncertainties may be found in SJG’s Form 10-K for the year ended December 31, 2011 and in other filings made by us with the Securities and Exchange Commission. These cautionary statements should not be construed by you to be exhaustive and they are made only as of the date of this Quarterly Report on Form 10-Q, or in any document incorporated by reference, at the date of such document. While SJG believes these forward-looking statements to be reasonable, there can be no assurance that they will approximate actual experience or that the expectations derived from them will be realized. Further, SJG undertakes no obligation to update or revise any of its forward-looking statements, whether as a result of new information, future events or otherwise.
 
Critical Accounting Policies - Estimates and Assumptions - Management must make estimates and assumptions that affect the amounts reported in the condensed financial statements and related disclosures. Actual results could differ from those estimates. Five types of transactions presented in our condensed financial statements require a significant amount of judgment and estimation. These relate to regulatory accounting, derivatives, environmental remediation costs, pension and other postretirement benefit costs, and revenue recognition. A discussion of these estimates and assumptions may be found in SJG’s Form 10-K for the year ended December 31, 2011.

New Accounting Pronouncements -    See detailed discussions concerning New Accounting Pronouncements and their impact on SJG in Note 1 to the condensed financial statements.

Regulatory Actions – Other than the changes discussed in Note 3 to the condensed financial statements, there have been no significant regulatory actions since December 31, 2011. See detailed discussions concerning Regulatory Actions in Note 3 to the Financial Statements in item 8 of SJG’s Form 10-K for the year ended December 31, 2011.

Environmental Remediation –There have been no significant changes to the status of SJG’s environmental remediation efforts since December 31, 2011. See detailed discussion concerning Environmental Remediation in Note 12 to the Financial Statements in Item 8 of SJG’s Form 10-K for the year ended December 31, 2011.

Competition - See detailed discussion concerning competition in SJG’s Form 10-K for the year ended December 31, 2011.


18


Customer Choice Legislation - All residential natural gas customers in New Jersey can choose their natural gas commodity supplier under the terms of the “Electric Discount and Energy Competition Act of 1999.” This bill created the framework and necessary time schedules for the restructuring of the state’s electric and natural gas utilities. The Act established unbundling, under which redesigned utility rate structures allow natural gas and electric consumers to choose their energy supplier. Customers purchasing natural gas from a provider other than the local utility (marketer) are charged for the gas costs by the marketer and charged for the transportation costs by the utility. The number of customers purchasing their natural gas from marketers was 35,357 and 36,789 at March 31, 2012 and 2011, respectively.


RESULTS OF OPERATIONS:

The following table summarizes the composition of selected gas utility data for the three months ended March 31, (in thousands, except for degree day data):

 
Three Months Ended
March 31,
 
2012
 
2011
Utility Throughput – dt:
 
 
 
Firm Sales -
 
 
 
Residential
8,595

 
11,241

Commercial
1,979

 
2,795

Industrial
126

 
155

Cogeneration & Electric Generation
76

 
120

Firm Transportation -
 
 
 
Residential
966

 
1,253

Commercial
2,245

 
2,759

Industrial
3,430

 
3,445

Cogeneration & Electric Generation
2,162

 
2,401

 
 
 
 
Total Firm Throughput
19,579

 
24,169

 
 
 
 
Interruptible Sales

 
3

Interruptible Transportation
424

 
692

Off-System
4,471

 
1,904

Capacity Release
16,967

 
10,155

 
 
 
 
Total Throughput - Utility
41,441

 
36,923


19


 
Three Months Ended
March 31,
 
2012
 
2011
Utility Operating Revenues:
 
 
 
Firm Sales -
 
 
 
Residential
$
113,629

 
$
114,852

Commercial
22,062

 
26,800

Industrial
1,253

 
1,720

Cogeneration & Electric Generation
403

 
809

Firm Transportation -
 

 
 

Residential
5,923

 
6,550

Commercial
9,113

 
9,705

Industrial
5,420

 
4,395

Cogeneration & Electric Generation
2,001

 
1,742

 
 
 
 
Total Firm Revenues
159,804

 
166,573

 
 
 
 
Interruptible Sales
8

 
54

Interruptible Transportation
478

 
634

Off-System
15,829

 
10,134

Capacity Release
3,059

 
2,671

Other
258

 
257

 
 
 
 
Total Utility Operating Revenues
179,436

 
180,323

 
 
 
 
Less:
 

 
 

Cost of Sales
86,499

 
88,574

Conservation Recoveries*
3,302

 
3,255

RAC Recoveries*
1,912

 
1,591

EET Recoveries*
712

 
509

Revenue Taxes
2,491

 
3,873

Utility Margin
$
84,520

 
$
82,521

 
 
 
 
 
 
 
 
Margin:
 

 
 

Residential
$
46,893

 
$
58,799

Commercial and Industrial
17,588

 
21,327

Cogeneration and Electric Generation
964

 
775

Interruptible
31

 
48

Off-system & Capacity Release
900

 
695

Other Revenues
257

 
256

Margin Before Weather Normalization & Decoupling
66,633

 
81,900

CIRT Mechanism
767

 
566

CIP Mechanism
17,021

 
(26
)
EET Mechanism
99

 
81

Utility Margin
$
84,520

 
$
82,521

 
 
 
 
Degree Days:
1,930

 
2,495

 
*Represents expenses for which there is a corresponding credit in operating revenues.  Therefore, such recoveries have no impact on our financial results.


20


Throughput Total gas throughput increased  4.5 MMdts, or 12.2%, for the three months ended March 31, 2012, compared with the same period in 2011.  This increase was realized primarily in the Capacity Release and Off-System Sales (OSS) markets.   Capacity Release and OSS increased 6.8 MMdts and 2.6 MMdts, respectively, during the three months ended March 31, 2012, as compared with the same period in 2011. Due to unusually warm weather experienced in the region during the first quarter of 2012, SJG experienced a lower demand by its firm customers, thereby creating greater opportunity for both Capacity Release and OSS sales. Firm throughput decreased 4.6 MMdts, or 19.0%, during the three months ended March 31, 2012, compared to the same period in 2011.  This was primarily the result of weather that was 22.7% warmer for the three months ended March 31, 2012, as compared with the same period last year, partially offset by customer growth.  The Company added 4,660 customers over the twelve month period ended March 31, 2012, which represents a growth rate of 1.3%.
 
Conservation Incentive Program (CIP) - The effects of the CIP on our net income and the associated weather comparisons were as follows ($’s in millions):

 
Three Months Ended
March 31,
 
2012
 
2011
Net Income Benefit:
 
 
 
CIP – Weather Related
$
6.5

 
$
(0.6
)
CIP – Usage Related
3.6

 
0.6

Total Net Income Benefit
$
10.1

 
$

 
 
 
 
Weather Compared to 20-Year Average
21.4% warmer
 
1.6% colder
Weather Compared to Prior Year
22.7% warmer
 
2.6% colder


 Operating RevenuesRevenues decreased $0.9 million, or 0.5%, during the three months ended March 31, 2012, compared with the same period in the prior year. Firm sales revenue decreased $6.8 million, or 4.1%, during the first quarter of 2012 versus the same period in 2011, as the result of lower firm throughput, as reflected in the Throughput table above. This was the result of weather that was 22.7% warmer than last year and among the warmest winter seasons on record. While the impact of the warmer weather can readily be seen in the throughput table above, the impact on firm revenue is not as evident in the revenue table above. As SJG provided firm customers with a $21.1 million refund in March 2011 due to lower gas costs, revenues during the first quarter of 2011 were also lower than normal.

OSS revenue and capacity release revenue increased $5.7 million and $0.4 million, respectively, during the first quarter of 2012 versus the same period in 2011, as both sales and capacity release volume increased. As previously stated under "Throughput," this was made possible by the extremely warm weather in the region which freed up supplies for such sales. As reflected in the Margin table above, the impact of the higher OSS and capacity release activity did not have a material impact on the earnings of the Company, as SJG is required to share 85% of the profits of such activity with the ratepayers.

While changes in gas costs and BGSS recoveries may fluctuate from period to period, SJG does not profit from the sale of the commodity.  Therefore, corresponding fluctuations in Operating Revenue or Cost of Sales have no impact on Company profitability, as further discussed below under the caption “Margin.”

Margin (pre-tax) - SJG’s margin is defined as natural gas revenues less natural gas costs, regulatory rider expenses and related volumetric and revenue based energy taxes. SJG believes that margin provides a more meaningful basis for evaluating utility operations than revenues since natural gas costs, regulatory rider expenses and related energy expenses are passed through to customers, and therefore, they have no effect on margin. Natural gas costs are charged to operating expenses on the basis of therm sales at the prices approved by the New Jersey Board of Public Utilities (BPU) through SJG’s BGSS clause.

Total margin increased $2.0 million, or 2.4% for the three months ended March 31, 2012, compared with the same period in 2011, primarily due to customer additions and OSS and capacity release.  SJG added 4,660 customers over the 12-month period ended March 31, 2012, representing growth of 1.3% over the prior year and a corresponding increase in margin. As discussed under the caption "Operating Revenues" above, OSS and capacity release benefited from the warm weather.

21



Under SJG's CIP, the Company was protected from the impact of the unusually warm first quarter, the impact from which can be seen on the Margin table above, primarily in the residential and commercial markets. The CIP protected $17.0 million of pre-tax margin in the first three months of 2012 that would have been lost due to lower customer usage primarily as a result of weather that was 22.7% warmer than last year and 21.4% warmer than normal. The CIP provided no net benefit during the first quarter of 2011, as weather was close to normal during that period.

Operating Expenses - A summary of changes in operating expenses (in thousands):

 
Three Months Ended
March 31,
2012 vs. 2011
 
Operations
$2,291
 
Maintenance
183
 
Depreciation
(303)
 
Energy and Other Taxes
(1,345)
 

Operations  – Operations expense increased $2.3 million for the three months ended March 31, 2012, respectively, as compared with the same period in 2011.  The increases are primarily due to several factors as follows:

Expense related to changes in SJG's reserve for uncollectible customer accounts increased $1.0 million for the three months ended March 31, 2012, as compared to the same period in 2011. Changes in the uncollectible reserve are the result of fluctuations in levels of customer account receivable balances from period to period. The reserve increased by $0.2 million in the first quarter of 2012, as customer account receivables increased during the three month period. During the first quarter of 2011, SJG credited customers with a $21.1 million refund, which contributed toward lowering SJG's reserve and resulting expense by $0.7 million during that period.

Spending under the New Jersey Clean Energy Program and Energy Efficiency Programs increased $0.3 million for the three months ended March 31, 2012, as compared to 2011.  Such costs are recovered on a dollar-for-dollar basis; therefore, SJG experienced an offsetting increase in revenues during the period.  

Employee benefit costs increased $0.4 million due to a higher level of health care claims during the three months ended March 31, 2012, as compared to 2011.

Corporate support, governance and compliance costs, primarily attributable to our parent, SJI, increased $0.2 million during the three months ended March 31, 2012, as compared to 2011. 

The Company also experienced higher expense in various other areas such as compensation, telecommunication and sales expense.

Maintenance and Depreciation -   Changes in maintenance and depreciation expense for the three months ended March 31, 2012, compared with the same period in 2011, were not significant.

Energy and Other Taxes - Energy and Other Taxes decreased $1.3 million during the three months ended March 31, 2012, compared with the same period in 2011, primarily due to lower taxable firm throughput in 2012.  This resulted from significantly warmer weather during the first quarter of 2012.  Additional weather information can be found above under the caption “Conservation Incentive Program (CIP).”

22



Other Income and Expense - Other Income and Expense increased $0.5 million during the three months ended March 31 2012, compared with the same period in 2011.  With the approval of the Company’s CIRT II in March, 2011 the Company was permitted to recognize interest on construction on its qualified incremental spending.  While the debt-related component of the interest charge is credited against interest charges, the equity-related component of the interest charge is recognized as Other Income.  Given the timing of the approval, the impact was much greater during the first quarter of 2012, when the program was in effect for the full three month period.

Interest Charges –  Interest Charges decreased $0.8 million during the three months ended March 31, 2012, compared with the same period in 2011, primarily due to the redemption of $25.0 million aggregate principal long-term debt during the third quarter 2011. Also, higher levels of capitalized interest associated with increased spending under the CIRT programs reduced interest expense during the period.
 
Income Taxes  Income tax expense decreased by $1.1 million for the three months ended March 31, 2012, as compared with the same period in 2011. This decrease is primarily the result of a lower effective tax rate primarily due to a projected increase in 2012 in the Allowance for Funds Used During Construction (AFUDC) resulting from the Company's CIRT programs.

LIQUIDITY AND CAPITAL RESOURCES:

Liquidity needs are driven by factors that include natural gas commodity prices; the impact of weather on customer bills; lags in fully collecting gas costs from customers under the Basic Gas Supply Service charge; the timing of construction and remediation expenditures and related permanent financings; mandated tax payment dates; both discretionary and required repayments of long-term debt; and the amounts and timing of dividend payments.
 
Cash Flows from Operating Activities - Liquidity needs are first met with net cash provided by operating activities.  Net cash provided by operating activities totaled $42.4 million and $64.7 million in the first three months of 2012 and 2011, respectively.  Net cash provided by operating activities varies from year-to-year primarily due to the impact of weather on customer demand and related gas purchases, customer usage factors related to conversion efforts and the price of the natural gas commodity, inventory utilization, and gas cost recoveries.  Net cash provided by operations was negatively impacted by the $18.7 million BGSS bill credit posted to customer accounts in December 2011, and a $19.8 million pension contribution that occurred in January 2012.  There were no pension contributions made by the Company in 2011. These negative impacts were offset by tax benefits, which resulted in lower cash tax payments during the period.

Cash Flows from Investing Activities - SJG has a continuing need for cash resources for capital purchases, primarily to invest in new and replacement facilities and equipment. Cash used for capital purchases was $37.0 million and $25.6 million during the first three months of 2012 and 2011, respectively.   We estimate the net cash outflows for construction projects for fiscal years 2012, 2013 and 2014 to be approximately $135.0 million, $106.0 million and $105.0 million, respectively.  For capital expenditures, including those under the CIRT, SJG will use short-term borrowings to finance capital expenditures as incurred.  From time to time, the Company will refinance the short-term debt incurred to support capital expenditures with long-term debt.

Cash Flows from Financing Activities - SJG uses short-term borrowings under lines of credit from commercial banks, or under its commercial paper program discussed below, to supplement cash from operations, to support working capital needs and to finance capital expenditures as incurred. From time to time, the Company refinances short-term debt incurred to finance capital expenditures with long-term debt. Debt is incurred primarily to expand and upgrade our gas transmission and distribution system and to support seasonal working capital needs related to inventories and customer receivables.

Credit facilities and available liquidity as of March 31, 2012 were as follows (in thousands):
 
Total
Facility
 
Usage
 
Available
 Liquidity
 
Expiration Date
Commercial Paper/Revolving Credit Facilities
$
200,000

 
$
121,100

 
78,900

 
May 2015
Uncommitted Bank Lines
10,000

 

 
10,000

 
Various (A)
 
 
 
 
 
 
 
 
Total
$
210,000

 
$
121,100

 
$
88,900

 
 

(A) SJG reduced the uncommitted bank lines by $10.0 million as of March 31, 2012.

23



The SJG facility is provided by a syndicate of banks and contains one financial covenant limiting the ratio of indebtedness to total capitalization (as defined in the credit agreement) to not more than 0.65 to 1, measured at the end of each fiscal quarter.  SJG was in compliance with this covenant as of March 31, 2012.

During the third quarter 2011, SJG began a commercial paper program under which SJG may issue short-term, unsecured promissory notes to qualified investors up to a maximum aggregate amount outstanding at any time of $200.0 million.  The notes will have fixed maturities which will vary by note, but may not exceed 270 days from the date of issue. Proceeds from the notes will be used for general corporate purposes.  SJG intends to use the commercial paper program in tandem with its $200.0 million revolving credit facility and does not expect the principal amount of borrowings outstanding under the commercial paper program and the credit facility at any time to exceed an aggregate of $200.0 million.

Average borrowings outstanding under the commercial paper program/revolving credit facility during the three months ended March 31, 2012 and 2011 were $139.5 million and $38.6 million, respectively.  The maximum amount outstanding under these credit facilities during the three months ended March 31, 2012 and 2011 were $152.8 million and $61.8 million, respectively.

Based upon the existing credit facilities and a regular dialogue with our banks, we believe there will continue to be sufficient credit available to meet our future liquidity needs.

SJG supplements its operating cash flow and credit lines with both debt and equity capital. Over the years, SJG has used long-term debt, primarily in the form of First Mortgage Bonds and Medium Term Notes (MTN), secured by the same pool of utility assets, to finance our long-term borrowing needs. These needs are primarily capital expenditures for property, plant and equipment. During the third quarter of 2011, SJG entered into an agreement to issue $35.0 million aggregate principal amount of MTNs under a private placement to occur in April 2012 and repaid $25.0 million of First Mortgage Bonds.  No other long-term debt was issued during the first three months of 2012 or 2011.

In December 2011, SJG received approval from the BPU to issue up to $200.0 million in long-term debt under its MTN program by September 30, 2014.

SJG’s capital structure was as follows:

 
As of
March 31,
2012
 
As of
December 31,
2011

Common Equity
50.7
%
 
49.0
%
Long-Term Debt
37.0

 
38.0

Short-Term Debt
12.3

 
13.0

 
 
 
 
Total
100
%
 
100
%

COMMITMENTS AND CONTINGENCIES:

SJG has a continuing need for cash resources and capital, primarily to invest in new and replacement facilities and equipment, working capital, and for environmental remediation costs. Cash outflows for capital expenditures for the first three months of 2012 amounted to $37.0 million. Management estimates net cash outflows for construction projects for 2012, 2013 and 2014, to be approximately $135.0 million, $106.0 million and $105.0 million, respectively.  Costs for remediation projects, net of insurance reimbursements, for the first three months of 2012 amounted to net cash inflows of $2.5 million.  Total cash outflows for remediation projects are expected to be $7.3 million, $20.7 million and $10.5 million million for 2012, 2013, and 2014, respectively.  As discussed in Notes 4 and 12 to the Financial Statements in Item 8 of SJG’s 10-K as of December 31, 2011, environmental remediation costs are subject to recovery from insurance carriers and ratepayers.

SJG provided a $25.2 million letter of credit under a separate facility, outside of the revolving credit facility to support variable-rate demand bonds issued through the NJEDA to finance the expansion of SJG's natural gas distribution system.  

24



SJG has certain commitments for interstate pipeline capacity, storage services, Liquefied Natural Gas (LNG) and LNG transportation services which carry demand type charges for which it pays fees regardless of usage. Those commitments as of March 31, 2012, average $43.9 million annually and total $202.5 million over the contracts’ lives.  Approximately 37% of the financial commitments under these contracts expire during the next five years. SJG expects to renew each of these contracts under renewal provisions as provided in each contract. SJG recovers all prudently incurred fees through rates via the BGSS.

Contractual Cash Obligations –   Details concerning contractual cash obligations may be found in SJG’s Form 10-K for the year ended December 31, 2011.  There were no significant changes to SJG’s contractual cash obligations in 2012

Off-Balance Sheet Arrangements - We have no off-balance sheet arrangements.

Pending Litigation - We are subject to claims arising in the ordinary course of business and other legal proceedings. We accrue liabilities related to claims when we can reasonably estimate the amount or range of amounts of probable settlement costs or other charges for these claims. The Company has accrued approximately $0.3 million and $0.2 million related to all claims in the aggregate, as of March 31, 2012 and December 31, 2011, respectively. Management does not believe that it is reasonably possible that there will be a material change in the Company's estimated liability in the near term and does not currently anticipate the disposition of any known claims that would have a material effect on the Company's financial position, results of operations or cash flows.
 
Ratio of Earnings to Fixed Charges - Our ratio of earnings to fixed charges for each of the periods indicated is as follows:

Twelve Months Ended March 31,
 
Year Ended December 31,
2012
 
2011
 
2010
 
2009
 
2008
 
2007
5.5x
 
5.3x
 
5.1x
 
4.9x
 
4.4x
 
4.1x

The ratio of earnings to fixed charges represents, on a pre-tax basis, the number of times earnings covers fixed charges. Earnings consist of net income, to which has been added fixed charges and taxes. Fixed charges consist of interest charges (rentals are not material).

Item 3. Quantitative and Qualitative Disclosures about Market Risks

MARKET RISKS:

Commodity Market Risks - We are involved in buying, selling, transporting and storing natural gas and are subject to market risk due to price fluctuations. To hedge against this risk, we enter into a variety of physical and financial transactions including forward contracts, futures and options agreements. To manage these transactions, we have a well-defined risk management policy approved by our Board of Directors that includes volumetric and monetary limits. Management reviews reports detailing activity daily. Generally, the derivative activities described above are entered into for risk management purposes.

We transact commodities on a physical basis and typically do not enter into financial derivative positions directly. South Jersey Resources Group, LLC (SJRG), an affiliate by common ownership, manages our risk by entering into the types of transactions noted above. As part of our gas purchasing strategy, we use financial contracts through SJRG to hedge against forward price risk. These contracts are recoverable through our BGSS, subject to BPU approval. It is management’s policy, to the extent practical, within predetermined risk management policy guidelines, to have limited unmatched positions on a deal or portfolio basis while conducting these activities. As a result of holding open positions to a minimal level, the economic impact of changes in value of a particular transaction is substantially offset by an opposite change in the related hedge transaction. The majority of our contracts are typically less than 12-months long. The fair value and maturity of all these energy trading and hedging contracts determined using mark-to-market accounting as of March 31, 2012 is as follows (in thousands):


25


Assets
 
 
 
 
 
 
Source of Fair Value
 
Maturity
< 1 Year
 
Maturity
1 - 3 Years
 
Total
Prices Actively Quoted (NYMEX)
 
$
21

 
$
99

 
$
120

 
 
 
 
 
 
 
Prices Provided by Other
 
1,160

 

 
1,160

 
 
 
 
 
 
 
Total
 
$
1,181

 
$
99

 
$
1,280


Liabilities
 
 
 
 
 
 
 
 
Maturity
 
Maturity
 
 
Source of Fair Value
 
< 1 Year
 
1 - 3 Years
 
Total
Prices Actively Quoted (NYMEX)
 
$
13,747

 
$
947

 
$
14,694

 
 
 
 
 
 
 
Prices Provided by Other External Sources (Basis)
 
665

 
80

 
745

 
 
 
 
 
 
 
Total
 
$
14,412

 
$
1,027

 
$
15,439


NYMEX (New York Mercantile Exchange) is the primary national commodities exchange on which natural gas is traded. Basis represents the price of a NYMEX natural gas futures contract adjusted for the difference in price for delivering the gas at another location.  Contracted volumes of our NYMEX contracts are 11.5 MMdt with a weighted-average settlement price of $3.84 per dt.  Contracted volumes of our Basis contracts are 4.1 MMdt with a weighted average settlement price of $0.29 per dt.

A reconciliation of our estimated net fair value of energy-related derivatives follows (in thousands):

Net Derivatives — Energy Related Liability, January 1, 2012
$
(10,244
)
Contracts Settled During the Three Months ended March 31, 2012, Net
3,675

Other Changes in Fair Value from Continuing and New Contracts, Net
(7,590
)
Net Derivatives — Energy Related Liability, March 31, 2012
$
(14,159
)

Interest Rate Risk - Our exposure to interest rate risk relates primarily to short-term, variable-rate borrowings. Short-term, variable-rate debt outstanding at March 31, 2012, was $121.1 million and averaged $139.5 million during the first three months of 2012. A hypothetical 100 basis point (1%) increase in interest rates on our average variable-rate debt outstanding would result in a $0.8 million increase in our annual interest expense, net of tax. The 100 basis point increase was chosen for illustrative purposes, as it provides a simple basis for calculating the impact of interest rate changes under a variety of interest rate scenarios. Over the past five years, the change in basis points (b.p.) of our average monthly interest rates from the beginning to end of each year was as follows: 2010 – 5 b.p. increase; 2009 – 29 b.p. decrease; 2008 - 317 b.p. decrease; 2007 - 36 b.p. decrease; and 2006 - 72 b.p. increase.  As of March 31, 2012, our average borrowing cost, which changes daily, was 0.46%.

We issue long-term debt either at fixed rates or use interest rate derivatives to limit our exposure to changes in interest rates on variable-rate, long-term debt. As of March 31, 2012, the interest costs on all of our long-term debt was either at a fixed-rate or hedged via an interest rate derivative.  Consequently, interest expense on existing long-term debt is not significantly impacted by changes in market interest rates.

As of March 31, 2012, SJG’s active interest rate swaps were as follows:

Amount
 
Fixed
Interest Rate
 
Start Date
 
Maturity
 
Type
$
12,500,000

 
3.43
%
 
12/1/2006
 
2/1/2036
 
Tax-exempt
$
12,500,000

 
3.43
%
 
12/1/2006
 
2/1/2036
 
Tax-exempt
 

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Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

SJG’s management, with the participation of its president (principal executive officer) and treasurer (principal financial officer), evaluated the effectiveness of the design and operation of SJG’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of March 31, 2012. Based on that evaluation, SJG’s president and treasurer concluded that the disclosure controls and procedures employed at SJG are effective.

Changes in Internal Control Over Financial Reporting

There has not been any change in SJG’s internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act, during the fiscal quarter ended March 31, 2012 that has materially affected, or is reasonably likely to materially affect, SJG’s internal control over financial reporting.
PART II — OTHER INFORMATION

Item l. Legal Proceedings

Information required by this Item is incorporated by reference to Part I, Item 2, Pending Litigation, beginning on page 25.
 
Item 1A. Risk Factors

There have been no material changes to our risk factors from those disclosed in Part I, Item 1A of SJG’s Annual Report on Form 10-K for the year ended December 31, 2011.

Item 6. Exhibits

(a)           Exhibits
 
Exhibit
No.
 
Description
 
 
 
31.1
 
Certification of Principal Executive Officer Pursuant to Rule 13a-14(a) of the Exchange Act.
 
 
 
31.2
 
Certification of Principal Financial Officer Pursuant to Rule 13a-14(a) of the Exchange Act.
 
 
 
32.1
 
Certification of Principal Executive Officer Pursuant to Rule 13a-14(b) of the Exchange Act as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (subsections (a) and (b) of Section 1350, Chapter 63 of Title 18, United States Code).
 
 
 
32.2
 
Certification of Principal Financial Officer Pursuant to Rule 13a-14(b) of the Exchange Act as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (subsections (a) and (b) of Section 1350, Chapter 63 of Title 18, United States Code).
 
 
 
101
 
The following financial statements from South Jersey Gas’ Quarterly Report on Form 10-Q for the three months ended March 31, 2012, filed with the Securities and Exchange Commission on May 7, 2012, formatted in XBRL (eXtensible Business Reporting Language): (i) the Condensed Statements of Income; (ii) the Condensed Statements of Comprehensive Income; (iii) the Condensed Statements of Cash Flows; (iv) the Condensed Balance Sheets and (v) the Notes to Condensed Financial Statements.
 

27


SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

SOUTH JERSEY GAS COMPANY
(Registrant)

Dated:
May 7, 2012
By:
/s/ Jeffrey E. DuBois
 
 
 
Jeffrey E. DuBois
 
 
 
President & Chief Operating Officer
 
 
 
(Principal Executive Officer)
 
 
 
 
Dated:
May 7, 2012
By:
/s/ Stephen H. Clark
 
 
 
Stephen H. Clark
 
 
 
Treasurer
 
 
 
(Principal Financial Officer)
 
 
 
 
Dated:
May 7, 2012
By:
/s/ Thomas S. Kavanaugh
 
 
 
Thomas S. Kavanaugh
 
 
 
Controller

28