UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended December 31, 2003 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission file number 1-1398 UGI UTILITIES, INC. (Exact name of registrant as specified in its charter) Pennsylvania 23-1174060 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) UGI UTILITIES, INC. 100 Kachel Boulevard, Suite 400 Green Hills Corporate Center, Reading, PA (Address of principal executive offices) 19607 (Zip Code) (610) 796-3400 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] At January 31, 2004, there were 26,781,785 shares of UGI Utilities, Inc. Common Stock, par value $2.25 per share, outstanding, all of which were held, beneficially and of record, by UGI Corporation.
UGI UTILITIES, INC. TABLE OF CONTENTS PAGES ----- PART I FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Balance Sheets as of December 31, 2003, September 30, 2003 and December 31, 2002 1 Condensed Consolidated Statements of Income for the three months ended December 31, 2003 and 2002 2 Condensed Consolidated Statements of Cash Flows for the three months ended December 31, 2003 and 2002 3 Notes to Condensed Consolidated Financial Statements 4 - 9 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10 - 14 Item 3. Quantitative and Qualitative Disclosures About Market Risk 15 Item 4. Controls and Procedures 16 PART II OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K 17 Signatures 18 -i-
UGI UTILITIES, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (unaudited) (Thousands of dollars) December 31, September 30, December 31, 2003 2003 2002 ----------- ------------ ----------- ASSETS Current assets: Cash and cash equivalents $ 2,692 $ 304 $ 8,510 Accounts receivable (less allowances for doubtful accounts of $3,328, $3,275 and $2,669, respectively) 66,604 30,101 68,471 Accrued utility revenues 30,649 7,431 27,844 Inventories 47,497 54,017 33,832 Deferred income taxes 7,742 10,375 4,792 Prepaid expenses and other current assets 5,370 5,552 1,623 --------- --------- --------- Total current assets 160,554 107,780 145,072 Property, plant and equipment, at cost (less accumulated depreciation and amortization of $301,171, $296,871 and $294,948, respectively) 614,456 610,987 596,144 Regulatory assets 61,322 60,253 58,338 Other assets 30,309 30,028 39,134 --------- --------- --------- Total assets $ 866,641 $ 809,048 $ 838,688 ========= ========= ========= LIABILITIES AND STOCKHOLDER'S EQUITY Current liabilities: Current maturities of long-term debt $ - $ - $ 50,000 Current maturities of preferred shares subject to mandatory redemption, without par value 1,000 - - Bank loans 72,200 40,700 78,300 Accounts payable 76,923 55,298 67,915 Other current liabilities 55,555 56,913 39,888 --------- --------- --------- Total current liabilities 205,678 152,911 236,103 Long-term debt 217,241 217,271 172,345 Deferred income taxes 147,674 144,176 135,590 Deferred investment tax credits 7,887 7,987 8,286 Other noncurrent liabilities 12,337 11,951 13,312 Preferred shares subject to mandatory redemption, without par value 19,000 20,000 - --------- --------- --------- Total liabilities 609,817 554,296 565,636 Commitments and contingencies (note 3) Preferred shares subject to mandatory redemption, without par value - - 20,000 Common stockholder's equity: Common Stock, $2.25 par value (authorized - 40,000,000 shares; issued and outstanding - 26,781,785 shares) 60,259 60,259 60,259 Additional paid-in capital 79,046 79,046 73,057 Retained earnings 119,317 117,496 122,309 Accumulated other comprehensive loss (1,798) (2,049) (2,573) --------- --------- --------- Total common stockholder's equity 256,824 254,752 253,052 --------- --------- --------- Total liabilities and stockholder's equity $ 866,641 $ 809,048 $ 838,688 ========= ========= ========= See accompanying notes to condensed consolidated financial statements. -1-
UGI UTILITIES, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (unaudited) (Thousands of dollars) Three Months Ended December 31, ----------------------- 2003 2002 --------- --------- Revenues $ 170,684 $ 168,351 --------- --------- Costs and expenses: Cost of sales - gas, fuel and purchased power 105,645 100,444 Operating and administrative expenses 20,815 20,808 Operating and administrative expenses - related parties 3,576 1,890 Taxes other than income taxes 3,098 2,938 Depreciation and amortization 5,394 5,314 Other income, net (1,794) (1,873) --------- --------- 136,734 129,521 --------- --------- Operating income 33,950 38,830 Interest expense 4,604 4,335 --------- --------- Income before income taxes 29,346 34,495 Income taxes 11,838 13,781 --------- --------- Net income 17,508 20,714 Dividends on preferred shares subject to mandatory redemption - 388 --------- --------- Net income after dividends on preferred shares subject to mandatory redemption $ 17,508 $ 20,326 ========= ========= See accompanying notes to condensed consolidated financial statements. -2-
UGI UTILITIES, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) (Thousands of dollars) Three Months Ended December 31, ----------------------- 2003 2002 -------- -------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 17,508 $ 20,714 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 5,394 5,314 Deferred income taxes, net 4,882 453 Provision for uncollectible accounts 1,692 1,867 Other, net 1,398 473 Net change in: Accounts receivable and accrued utility revenues (61,412) (51,558) Inventories 6,520 4,822 Deferred fuel costs (8,420) 7,098 Accounts payable 21,624 10,416 Other current assets and liabilities 6,189 1,389 -------- -------- Net cash (used) provided by operating activities (4,625) 988 -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Expenditures for property, plant and equipment (8,404) (8,211) Net (costs of) proceeds from property, plant and equipment disposals (396) 261 -------- -------- Net cash used by investing activities (8,800) (7,950) -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Payment of dividends (15,687) (5,718) Repayment of long-term debt - (26,000) Bank loans increase 31,500 41,100 -------- -------- Net cash provided by financing activities 15,813 9,382 -------- -------- Cash and cash equivalents increase $ 2,388 $ 2,420 ======== ======== CASH AND CASH EQUIVALENTS: End of period $ 2,692 $ 8,510 Beginning of period 304 6,090 -------- -------- Increase $ 2,388 $ 2,420 ======== ======== See accompanying notes to condensed consolidated financial statements. -3-
UGI UTILITIES, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) (Thousands of dollars) 1. BASIS OF PRESENTATION UGI Utilities, Inc. ("UGI Utilities"), a wholly owned subsidiary of UGI Corporation ("UGI"), owns and operates a natural gas distribution utility ("Gas Utility") in parts of eastern and southeastern Pennsylvania; owns and operates an electricity distribution utility ("Electric Utility") in northeastern Pennsylvania; and prior to the June 2003 distribution to UGI of UGI Development Company ("UGID") and UGID's subsidiaries and 50%-owned joint-venture affiliate Hunlock Creek Energy Ventures ("Energy Ventures"), owned interests in Pennsylvania-based electricity generation assets through UGID. We refer to Gas Utility, Electric Utility and UGID (prior to its distribution to UGI) collectively as "the Company" or "we," and Electric Utility and UGID collectively as "Electric Operations." Our condensed consolidated financial statements include the accounts of UGI Utilities and its majority-owned subsidiaries. We eliminate all significant intercompany accounts and transactions when we consolidate. Our investment in Energy Ventures was accounted for under the equity method. Gas Utility and Electric Utility are subject to regulation by the Pennsylvania Public Utility Commission ("PUC"). UGID was granted "Exempt Wholesale Generator" status by the Federal Energy Regulatory Commission. In June 2003, the Company dividended all of the common stock of UGID to UGI. The net book value of the assets and liabilities of UGID and its subsidiaries totaling $15,407 (including $2,572 of cash) was eliminated from the consolidated balance sheet and reflected as a dividend from retained earnings. UGID and its subsidiaries did not have a material effect on the Company's results of operations for the three months ended December 31, 2002. The accompanying condensed consolidated financial statements are unaudited and have been prepared in accordance with the rules and regulations of the U.S. Securities and Exchange Commission ("SEC"). They include all adjustments which we consider necessary for a fair statement of the results for the interim periods presented. Such adjustments consisted only of normal recurring items unless otherwise disclosed. The September 30, 2003 condensed consolidated balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America. These financial statements should be read in conjunction with the financial statements and the related notes included in our Annual Report on Form 10-K for the year ended September 30, 2003 ("Company's 2003 Annual Report"). Due to the seasonal nature of our businesses, the results of operations for interim periods are not necessarily indicative of the results to be expected for a full year. -4-
UGI UTILITIES, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (unaudited) (Thousands of dollars) COMPREHENSIVE INCOME. The following table presents the components of comprehensive income for the three months ended December 31, 2003 and 2002: Three Months Ended December 31, ------------------------ 2003 2002 - -------------------------------------------------------------------------------- Net income $17,508 $20,714 Other comprehensive income 251 201 - -------------------------------------------------------------------------------- Comprehensive income $17,759 $20,915 - -------------------------------------------------------------------------------- Other comprehensive income comprises changes in the fair value of interest rate protection and electricity price swap agreements qualifying as hedges, net of reclassifications to net income. USE OF ESTIMATES. We make estimates and assumptions when preparing financial statements in conformity with accounting principles generally accepted in the United States of America. These estimates and assumptions affect the reported amounts of assets and liabilities, revenues and expenses, as well as the disclosure of contingent assets and liabilities. Actual results could differ from these estimates. PREFERRED SHARES SUBJECT TO MANDATORY REDEMPTION. Beginning July 1, 2003, the Company accounts for its preferred shares subject to mandatory redemption in accordance with Statement of Financial Accounting Standards ("SFAS") No. 150, "Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity" ("SFAS 150"). SFAS 150 establishes guidelines on how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. The adoption of SFAS 150 results in the Company presenting its preferred shares subject to mandatory redemption in the liabilities section of the balance sheet, and reflecting dividends paid on these shares as a component of interest expense, for periods presented after June 30, 2003. Because SFAS 150 specifically prohibits the restatement of financial statements prior to its adoption, prior period amounts have not been reclassified. -5-
UGI UTILITIES, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (unaudited) (Thousands of dollars) 2. SEGMENT INFORMATION The Company has two reportable segments: (1) Gas Utility and (2) Electric Operations. The accounting policies of our two reportable segments are the same as those described in the Significant Accounting Policies note contained in the Company's 2003 Annual Report. We evaluate each segment's profitability principally based upon its income before income taxes. No single customer represents more than 10% of the total revenues of either Gas Utility or Electric Operations. There are no significant intersegment transactions. In addition, all of our reportable segments' revenues are derived from sources within the United States. Financial information by business segment follows: THREE MONTHS ENDED DECEMBER, 2003: Gas Electric Total Utility Operations(a) ----------------------------------- Revenues $170,684 $149,265 $ 21,419 Cost of sales - gas, fuel and purchased power 105,645 95,110 10,535 Depreciation and amortization 5,394 4,658 736 Operating income 33,950 29,401 4,549 Interest expense 4,604 4,116 488 Income before income taxes 29,346 25,285 4,061 Total assets at period end 866,641 781,804 84,837 THREE MONTHS ENDED DECEMBER 31, 2002: Gas Electric Total Utility Operations(a) ---------------------------------- Revenues $168,351 $145,075 $ 23,276 Cost of sales - gas, fuel and purchased power 100,444 88,394 12,050 Depreciation and amortization 5,314 4,530 784 Operating income 38,830 33,543 5,287 Interest expense 4,335 3,718 617 Income before income taxes 34,495 29,824 4,671 Total assets at period end 838,688 731,125 107,563 (a) Electric Operations comprises Electric Utility and, for the three months ended December 31, 2002, UGID. -6-
UGI UTILITIES, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (unaudited) (Thousands of dollars) 3. COMMITMENTS AND CONTINGENCIES From the late 1800s through the mid-1900s, UGI Utilities and its former subsidiaries owned and operated a number of manufactured gas plants ("MGPs") prior to the general availability of natural gas. Some constituents of coal tars and other residues of the manufactured gas process are today considered hazardous substances under the Superfund Law and may be present on the sites of former MGPs. Between 1882 and 1953, UGI Utilities owned the stock of subsidiary gas companies in Pennsylvania and elsewhere and also operated the businesses of some gas companies under agreement. Pursuant to the requirements of the Public Utility Holding Company Act of 1935, UGI Utilities divested all of its utility operations other than those which now constitute Gas Utility and Electric Utility. UGI Utilities does not expect its costs for investigation and remediation of hazardous substances at Pennsylvania MGP sites to be material to its results of operations because Gas Utility is currently permitted to include in rates, through future base rate proceedings, prudently incurred remediation costs associated with such sites. UGI Utilities has been notified of several sites outside Pennsylvania on which (1) MGPs were formerly operated by it or owned or operated by its former subsidiaries and (2) either environmental agencies or private parties are investigating the extent of environmental contamination or performing environmental remediation. UGI Utilities is currently litigating three claims against it relating to out-of-state sites. Management believes that under applicable law UGI Utilities should not be liable in those instances in which a former subsidiary owned or operated an MGP. There could be, however, significant future costs of an uncertain amount associated with environmental damage caused by MGPs outside Pennsylvania that UGI Utilities directly operated, or that were owned or operated by former subsidiaries of UGI Utilities, if a court were to conclude that (1) the subsidiary's separate corporate form should be disregarded or (2) UGI Utilities should be considered to have been an operator because of its conduct with respect to its subsidiary's MGP. In addition to these environmental matters, there are other pending claims and legal actions arising in the normal course of our businesses. We cannot predict with certainty the final results of environmental and other matters. However, it is reasonably possible that some of them could be resolved unfavorably to us. Although we currently believe, after consultation with counsel, that damages or settlements, if any, recovered by the plaintiffs in such claims or actions will not have a material adverse effect on our financial position, damages or settlements could be material to our operating results or cash flows in future periods depending on the nature and timing of future developments with respect to these matters and the amounts of future operating results and cash flows. -7-
UGI UTILITIES, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (unaudited) (Thousands of dollars) 4. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS In December 2003, the Financial Accounting Standards Board ("FASB") issued SFAS No. 132 (revised 2003), "Employers' Disclosures about Pensions and Other Postretirement Benefits" ("SFAS 132"). SFAS 132 revises the disclosure requirements about pension plans and other postretirement benefit plans, but does not change the measurement or recognition of those plans required by FASB Statements No. 87, "Employers' Accounting for Pensions," No. 88, "Employers' Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits," and No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions." SFAS 132 requires additional disclosures concerning, among other things, the measurement date used to determine pension and other postretirement benefit measurements, plan assets, accumulated benefit obligations, cash flows and net periodic benefit costs as well as disclosure in interim financial statements of net periodic benefit costs, and employer's contributions paid and expected to be paid during the fiscal year (if amounts are significantly different from those previously disclosed in the annual financial statements). SFAS 132 is effective for fiscal years ending after December 15, 2003, and for quarters beginning after December 15, 2003. As required by SFAS 132, the Company will provide supplemental disclosures in its interim financial statements for the quarter ended March 31, 2004. In January 2003, the FASB issued Financial Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"), which clarifies Accounting Research Bulletin No. 51, "Consolidated Financial Statements." FIN 46 is effective immediately for variable interest entities created or obtained after January 31, 2003. For variable interests created or acquired before February 1, 2003, FIN 46 is effective for the first fiscal or interim period beginning after December 15, 2003. If certain conditions are met, FIN 46 requires the primary beneficiary to consolidate certain variable interest entities in which the other equity investors lack the essential characteristics of controlling financial interest or their investment at risk is not sufficient to permit the variable interest entity to finance its activities without additional subordinated financial support from other parties. The Company has not created or obtained any variable interest entities after January 31, 2003. In December 2003, the FASB issued a revision to FIN 46 which addresses new effective dates and certain implementation issues. Among these issues is the addition of a scope exception for certain entities that meet the definition of a business provided certain criteria are met. The adoption of FIN 46, as revised, is not expected to impact the Company's financial position or results of operations. On December 8, 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the "Act") was signed into law. Among other things, the Act provides for a prescription drug benefit to Medicare beneficiaries on a voluntary basis beginning in 2006. To encourage employers to continue to offer retiree prescription drug benefits, the Act provides for a tax-free subsidy to employers who offer a prescription drug benefit that is at least actuarially equivalent to the standard benefit offered under the Act. -8-
UGI UTILITIES, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (unaudited) (Thousands of dollars) The Company provides postretirement health care benefits to certain of its retirees and a limited number of active employees meeting certain age and service requirements. These postretirement benefits include certain retiree prescription drug benefits. Pursuant to orders issued by the PUC, UGI Utilities has established a Voluntary Employees' Beneficiary Association ("VEBA") trust to pay retiree health care and life insurance benefits and to fund the UGI Utilities' postretirement benefit liability. UGI Utilities is required to fund its postretirement benefit obligations by depositing into the VEBA the annual amount of postretirement benefit costs determined under SFAS No. 106, "Employers Accounting for Postretirement Benefits Other than Pensions." The difference between the annual amount calculated and the amount in UGI Utilities' rates is deferred for future recovery from, or refund to, ratepayers. The Company is currently in the process of evaluating the effects of the Act on the benefits it provides to its retirees and whether or not it is appropriate to amend certain provisions of the retiree health care program in response to the Act. Due to inherent uncertainties regarding the direct effects of the Act, the effects of the Act on retiree's behavior with respect to prescription drug benefits, pending authoritative guidance on how actuarial equivalency in order to qualify for the federal subsidy is measured, and how the federal subsidy will be reflected under accounting principles generally accepted in the United States of America, we have elected to defer recognizing the effects of the Act in accounting for these benefits and in providing disclosures until authoritative guidance on the accounting for the federal subsidy is issued, in accordance with FASB Staff Position No. FAS 106-1, "Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003." Authoritative guidance, when issued, could require us to change the amount of postretirement benefit costs we are currently recording. However, under the current ratemaking described above, any increases or decreases in postretirement benefit costs resulting from the Act will not affect our reported results. In addition, because of the limited number of participants in the program and the current level of postretirement benefits, we do not believe the Act will have a material effect on the Company's cash flows. -9-
UGI UTILITIES, INC. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ANALYSIS OF RESULTS OF OPERATIONS The following analyses compare our results of operations for the three months ended December 31, 2003 ("2003 three-month period") with the three months ended December 31, 2002 ("2002 three-month period"). Our analyses of results of operations should be read in conjunction with the segment information included in Note 2 to the Condensed Consolidated Financial Statements. Increase Three Months Ended December 31, 2003 2002 (Decrease) - ------------------------------------------------------------------------------------- (Millions of dollars) GAS UTILITY: Revenues $149.3 $145.1 $ 4.2 2.9% Total margin (a) $ 54.2 $ 56.7 $ (2.5) (4.4)% Operating income $ 29.4 $ 33.5 $ (4.1) (12.2)% Income before income taxes $ 25.3 $ 29.8 $ (4.5) (15.1)% System throughput - bcf 23.3 23.3 - - Heating degree days - % colder (warmer) than normal (3.8) 6.4 - - ELECTRIC OPERATIONS: Revenues $ 21.4 $ 23.3 $ (1.9) (8.2)% Total margin (a) $ 9.7 $ 10.0 $ (0.3) (3.0)% Operating income $ 4.5 $ 5.3 $ (0.8) (15.1)% Income before income taxes $ 4.1 $ 4.7 $ (0.6) (12.8)% Distribution sales - gwh 243.5 244.4 (0.9) (0.4)% bcf - billions of cubic feet. gwh - millions of kilowatt-hours. (a) Gas Utility's total margin represents total revenues less cost of sales. Electric Operation's total margin represents total revenues less cost of sales and revenue-related taxes, i.e. Electric Utility gross receipts taxes, of $1.2 million in each of the three month-periods ended December 31, 2003 and 2002. For financial statement purposes, revenue-related taxes are included in "taxes other than income taxes" on the Condensed Consolidated Statements of Income. GAS UTILITY. Weather in Gas Utility's service territory during the 2003 three-month period was 3.8% warmer than normal compared with weather that was 6.4% colder than normal in the 2002 three-month period. Total distribution system throughput was unchanged as lower sales to firm- residential, commercial and industrial ("retail core-market") customers, resulting from warmer weather, were offset by greater sales to firm delivery service customers and year-over-year customer growth. The increase in Gas Utility revenues during the 2003 three-month period reflects a $12.5 million increase in revenues from off-system sales partially offset by lower revenues from retail core-market customers resulting from the lower volumes sold. Gas Utility cost of gas was $95.1 million in the 2003 three-month period compared to $88.4 million in the -10-
UGI UTILITIES, INC. 2002 three-month period reflecting increased cost of gas associated with the higher off-system sales reduced by lower retail core-market gas costs as a result of the lower volumes sold. The decline in Gas Utility total margin reflects a $2.0 million decline in retail core-market margin resulting from lower retail core-market sales and lower margin from interruptible customers. Gas Utility operating income declined $4.1 million in the 2003 three-month period reflecting the previously mentioned decline in total margin, an increase in operating and administrative expenses and slightly higher depreciation and amortization expense. Operating and administrative expenses increased $1.7 million principally reflecting greater compensation and benefits expense due in large part to higher stock-based incentive compensation costs. The decrease in Gas Utility income before income taxes reflects the decline in operating income and higher interest expense due to including dividends on preferred shares subject to mandatory redemption as a component of interest expense in accordance with SFAS 150. ELECTRIC OPERATIONS. Electric Utility's 2003 three-month period kilowatt-hour sales were slightly lower reflecting the effects on heating-related sales of weather that was warmer than in the prior-year period. Temperatures based upon heating degree days in the 2003 three-month period were approximately 1.7% warmer than normal compared with temperatures that were approximately 9.5% colder than normal in the comparable prior-year period. The decline in Electric Operations' revenues in the 2003 three-month period principally reflects the absence of revenues from UGID's electricity generation business. In June 2003, UGID and its subsidiaries were dividended to UGI (see Note 1 to Condensed Consolidated Financial Statements). Electric Operations cost of sales declined $1.5 million in the 2003 three-month period principally reflecting the absence of $2.1 million of costs related to UGID's operations offset by $0.6 million of higher Electric Utility's purchased power costs. Electric Operations total margin in the 2003 three-month period declined $0.3 million principally because Electric Utility's cost of sales in the prior year benefited from transmission system congestion credits. Operating income and income before income taxes were lower in the 2003 three-month period principally reflecting the decline in total margin and higher operating and administrative expenses including greater distribution system and stock-based incentive compensation expenses. Consistent with the terms of Electric Utility's Provider of Last Resort ("POLR") Settlement, effective January 1, 2004, Electric Utility's POLR rates for commercial and industrial customers increased. This increase is not expected to have a material effect on Fiscal 2004 operating results. -11-
UGI UTILITIES, INC. FINANCIAL CONDITION AND LIQUIDITY FINANCIAL CONDITION The Company's total debt outstanding at December 31, 2003 totaled $289.4 million (including $72.2 million in bank loans) compared with $258.0 million (including $40.7 million in bank loans) at September 30, 2003. The Company has revolving credit commitments under which it may borrow up to $107 million. These agreements expire in June 2005 and 2006. At December 31, 2003 borrowing under these agreements totaled $52.2 million. In addition, UGI Utilities has an uncommitted arrangement with a major bank under which it may borrow up to $20 million. At December 31, 2003, there was $20 million outstanding under this agreement which amount matures March 9, 2004. UGI Utilities also has a shelf registration statement with the SEC under which it may issue up to an additional $40 million of Medium-Term Notes or other debt securities. CASH FLOWS OPERATING ACTIVITIES. Due to the seasonal nature of UGI Utilities' businesses, cash flows from operating activities are generally strongest during the second and third fiscal quarters when customers pay for gas and electricity consumed during the peak heating season months. Conversely, operating cash flows are generally at their lowest levels during the first and fourth fiscal quarters when the Company's investment in working capital, principally accounts receivable and inventories, is generally greatest. UGI Utilities uses its revolving credit agreements to manage these seasonal cash flow needs. Cash used by operating activities was $4.6 million during the three months ended December 31, 2003 compared with cash provided by operating activities of $1.0 million in the prior-year period. Cash flow from operating activities before changes in operating working capital was $30.9 million in the 2003 three-month period compared to $28.8 million in the prior-year three-month period, notwithstanding the lower operating results, principally reflecting greater noncash deferred income tax expense. Changes in operating working capital used $35.5 million of operating cash flow during the 2003 three-month period compared with $27.8 million during the prior-year three-month period. INVESTING ACTIVITIES. Cash flow used in investing activities was $8.8 million in the 2003 three-month period compared with $8.0 million in the prior-year period. Expenditures for property, plant and equipment were $8.4 million in the 2003 three-month period compared with $8.2 million recorded in the prior-year period principally reflecting slightly higher Gas Utility capital expenditures. Net costs of property, plant and equipment disposals were higher in the 2003 three-month period as the prior-year amount reflected greater proceeds from the sale of property. FINANCING ACTIVITIES. Cash flow from financing activities was $15.8 million in the 2003 three-month period compared with $9.4 million in the prior-year period. Financing activity cash flows are primarily due to issuances and repayments of long-term debt, net borrowings under revolving credit agreements, dividends on common and preferred shares, and capital contributions from UGI. During the 2003 and 2002 three-month periods, we paid dividends of $15.7 million and $5.3 million, respectively, to UGI. In addition, we paid dividends of $0.4 million on our preferred -12-
UGI UTILITIES, INC. shares subject to mandatory redemption during both periods. The dividends paid on preferred shares subject to mandatory redemption during the three months ended December 31, 2003 are reflected in cash flow from operations as a result of the application of SFAS No. 150 (see "Preferred Shares Subject to Mandatory Redemption" below). During the 2003 three-month period, we had net borrowings of $31.5 million under our revolving credit agreements and the uncommitted arrangement with a major bank compared to net borrowings of $41.1 million in the prior-year period. PREFERRED SHARES SUBJECT TO MANDATORY REDEMPTION Beginning July 1, 2003, the Company accounts for its preferred shares subject to mandatory redemption in accordance with SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity" ("SFAS 150"). SFAS 150 establishes guidelines on how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. The adoption of SFAS 150 results in the Company presenting its preferred shares subject to mandatory redemption in the liabilities section of the balance sheet, and reflecting dividends paid on these shares as a component of interest expense, for periods presented after June 30, 2003. Because SFAS 150 specifically prohibits the restatement of financial statements prior to its adoption, prior period amounts have not been reclassified. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS In December 2003, the Financial Accounting Standards Board ("FASB") issued SFAS No. 132 (revised 2003), "Employers' Disclosures about Pensions and Other Postretirement Benefits" ("SFAS 132"). SFAS 132 revises the disclosure requirements about pension plans and other postretirement benefit plans, but does not change the measurement or recognition of those plans required by FASB Statements No. 87, "Employers' Accounting for Pensions," No. 88, "Employers' Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits," and No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions." SFAS 132 requires additional disclosures concerning, among other things, the measurement date used to determine pension and other postretirement benefit measurements, plan assets, accumulated benefit obligations, cash flows and net periodic benefit costs as well as disclosure in interim financial statements of net periodic benefit costs, and employer's contributions paid and expected to be paid during the fiscal year (if amounts are significantly different from those previously disclosed in the annual financial statements). SFAS 132 is effective for fiscal years ending after December 15, 2003, and for quarters beginning after December 15, 2003. As required by SFAS 132, the Company will provide supplemental disclosures in its interim financial statements for the quarter ended March 31, 2004. In January 2003, the FASB issued Financial Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"), which clarifies Accounting Research Bulletin No. 51, "Consolidated Financial Statements." FIN 46 is effective immediately for variable interest entities created or obtained after January 31, 2003. For variable interests created or acquired before February 1, 2003, FIN 46 is effective for the first fiscal or interim period beginning after December 15, 2003. If certain conditions are met, FIN 46 requires the primary beneficiary to consolidate certain variable interest entities in which the other equity investors lack the essential characteristics of controlling financial interest or their investment at risk is not sufficient to permit the variable interest entity to finance its activities without additional subordinated financial support from other parties. The Company has not created or obtained any variable interest entities after January 31, -13-
UGI UTILITIES, INC. 2003. In December 2003, the FASB issued a revision to FIN 46 which addresses new effective dates and certain implementation issues. Among these issues is the addition of a scope exception for certain entities that meet the definition of a business provided certain criteria are met. The adoption of FIN 46, as revised, is not expected to impact the Company's financial position or results of operations. On December 8, 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the "Act") was signed into law. Among other things, the Act provides for a prescription drug benefit to Medicare beneficiaries on a voluntary basis beginning in 2006. To encourage employers to continue to offer retiree prescription drug benefits, the Act provides for a tax-free subsidy to employers who offer a prescription drug benefit that is at least actuarially equivalent to the standard benefit offered under the Act. The Company provides postretirement health care benefits to certain of its retirees and a limited number of active employees meeting certain age and service requirements. These postretirement benefits include certain retiree prescription drug benefits. Pursuant to orders issued by the Pennsylvania Public Utility Commission ("PUC"), UGI Utilities has established a Voluntary Employees' Beneficiary Association ("VEBA") trust to pay retiree health care and life insurance benefits and to fund the UGI Utilities' postretirement benefit liability. UGI Utilities is required to fund its postretirement benefit obligations by depositing into the VEBA the annual amount of postretirement benefit costs determined under SFAS No. 106, "Employers Accounting for Postretirement Benefits Other than Pensions." The difference between the annual amount calculated and the amount in UGI Utilities' rates is deferred for future recovery from, or refund to, ratepayers. The Company is currently in the process of evaluating the effects of the Act on the benefits it provides to its retirees and whether or not it is appropriate to amend certain provisions of the retiree health care program in response to the Act. Due to inherent uncertainties regarding the direct effects of the Act, the effects of the Act on retiree's behavior with respect to prescription drug benefits, pending authoritative guidance on how actuarial equivalency in order to qualify for the federal subsidy is measured, and how the federal subsidy will be reflected under accounting principles generally accepted in the United States of America, we have elected to defer recognizing the effects of the Act in accounting for these benefits and in providing disclosures until authoritative guidance on the accounting for the federal subsidy is issued, in accordance with FASB Staff Position No. FAS 106-1, "Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003." Authoritative guidance, when issued, could require us to change the amount of postretirement benefit costs we are currently recording. However, under the current ratemaking described above, any increases or decreases in postretirement benefit costs resulting from the Act will not affect our reported results. In addition, because of the limited number of participants in the program and the current level of postretirement benefits, we do not believe the Act will have a material effect on the Company's cash flows. -14-
UGI UTILITIES, INC. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Gas Utility's tariffs contain clauses that permit recovery of substantially all of the prudently incurred costs of natural gas it sells to its customers. The recovery clauses provide for a periodic adjustment for the difference between the total amount actually collected from customers and the recoverable costs incurred. Because of this ratemaking mechanism, there is limited commodity price risk associated with our Gas Utility operations. Gas Utility uses exchange-traded natural gas call option contracts to reduce volatility in the cost of gas it purchases for its retail core-market customers. The cost of these call option contracts, net of associated gains, if any, is included in Gas Utility's PGC recovery mechanism. Electric Utility purchases its power needs from electricity suppliers under fixed-price energy and capacity contracts and, to a much lesser extent, on the spot market. Prices for electricity can be volatile especially during periods of high demand or tight supply. In accordance with a Provider of Last Resort ("POLR") settlement approved by the PUC, Electric Utility may increase its POLR rates up to certain limits through December 31, 2004, and charge market rates thereafter. Electric Utility's fixed-price contracts with electricity suppliers mitigate most risks associated with the POLR service rate limits in effect through December 31, 2004. However, should any of the suppliers under these contracts fail to provide electric power under the terms of the power and capacity contracts, increases, if any, in the cost of replacement power or capacity could negatively impact Electric Utility results. In order to reduce this non-performance risk, Electric Utility has diversified its purchases across several suppliers and entered into bilateral collateral arrangements with certain of them. During the quarter ended December 31, 2003, Electric Utility entered into an electricity price swap agreement to reduce the volatility in the cost of a portion of its anticipated electricity requirements in 2007. At December 31, 2003, the fair value of this price swap was $0.1 million. Fair value reflects the estimated amount that we would receive or pay to terminate the contract at the reporting date based upon quoted market prices of comparable contracts at December 31, 2003. An adverse change in electricity prices of ten percent would result in a $0.8 million decrease in the fair value of the swap. Our variable-rate debt includes borrowings under our revolving credit agreements and the uncommitted arrangement with a major bank. These agreements provide for interest rates on borrowings that are indexed to short-term market interest rates. Our long-term debt is typically issued at fixed rates of interest based upon market rates for debt having similar terms and credit ratings. As these long-term debt issues mature, we expect to refinance such debt with new debt having an interest rate that is more or less than the refinanced debt. In order to reduce interest rate risk associated with near-term issuances of fixed-rate debt, we may enter into interest rate protection agreements. At December 31, 2003, the fair value of our unsettled interest rate protection agreement, which has been designated and qualifies as a cash flow hedge, was $0.5 million. An adverse change in interest rates on ten-year U.S. treasury notes of ten percent would result in a $0.4 million decrease in the fair value of this interest rate protection agreement. -15-
UGI UTILITIES, INC. ITEM 4. CONTROLS AND PROCEDURES (a) Evaluation of Disclosure Controls and Procedures The Company's management, with the participation of the Company's Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the Company's disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures as of the end of the period covered by this report were designed and functioning effectively to provide reasonable assurance that the information required to be disclosed by the Company in reports filed under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. The Company believes that a controls system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the controls system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected. (b) Change in Internal Control over Financial Reporting No change in the Company's internal control over financial reporting occurred during the Company's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. -16-
UGI UTILITIES, INC. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) List of Exhibits: 12.1 Computation of ratio of earnings to fixed charges 12.2 Computation of ratio of earnings to combined fixed charges and preferred stock dividends 31.1 Certification by the Chief Executive Officer relating to the Registrant's Report on Form 10-Q for the quarter ended December 31, 2003, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification by the Chief Financial Officer relating to the Registrant's Report on Form 10-Q for the quarter ended December 31, 2003, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. *32 Certification by the Chief Executive Officer and the Chief Financial Officer relating to the Registrant's Report on Form 10-Q for the quarter ended December 31, 2003, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (b) The Company did not file any Current Reports on Form 8-K during the fiscal quarter ended December 31, 2003. - -------------- * The Exhibit attached to this Form 10-Q shall not be deemed filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended. -17-
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. UGI Utilities, Inc. ----------------------- (Registrant) Date: February 13, 2004 By: /s/ John C. Barney ------------------------------- John C. Barney Senior Vice President - Finance (Principal Financial Officer) -18-
UGI UTILITIES, INC. AND SUBSIDIARIES EXHIBIT INDEX 12.1 Computation of ratio of earnings to fixed charges 12.2 Computation of ratio of earnings to combined fixed charges and preferred stock dividends. 31.1 Certification by the Chief Executive Officer relating to the Registrant's Report on Form 10-Q for the quarter ended December 31, 2003 pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification by the Chief Financial Officer relating to Registrant's Report on Form 10-Q for the quarter ended December 31, 2003 pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32 Certification by the Chief Executive Officer and the Chief Financial Officer relating to the Registrant's Report on Form 10-Q for the quarter ended December 31, 2003 pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
. . . UGI UTILITIES INC. AND SUBSIDIARIES COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES - EXHIBIT 12.1 (THOUSANDS OF DOLLARS) Three Months Ended Year Ended September 30, December 31, ------------------------------------------ 2003 2003 2002 2001 2000 ----------- -------- -------- -------- -------- EARNINGS: Earnings before income taxes $ 29,346 $100,599 $ 73,665 $ 79,568 $ 82,882 Interest expense 4,547 17,412 16,365 18,724 18,135 Amortization of debt discount and expense 57 244 287 264 218 Estimated interest component of rental expense 341 1,434 1,563 1,541 1,318 -------- -------- -------- -------- -------- $ 34,291 $119,689 $ 91,880 $100,097 $102,553 ======== ======== ======== ======== ======== FIXED CHARGES: Interest expense $ 4,547 $ 17,412 $ 16,365 $ 18,724 $ 18,135 Amortization of debt discount and expense 57 244 287 264 218 Allowance for funds used during construction (capitalized interest) 5 7 19 12 17 Estimated interest component of rental expense 341 1,434 1,563 1,541 1,318 -------- -------- -------- -------- -------- $ 4,950 $ 19,097 $ 18,234 $ 20,541 $ 19,688 ======== ======== ======== ======== ======== Ratio of earnings to fixed charges 6.93 6.27 5.04 4.87 5.21 ======== ======== ======== ======== ========
. . . UGI UTILITIES INC. AND SUBSIDIARIES COMPUTATION OF RATIO OF EARNINGS TO COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS - EXHIBIT 12.2 (THOUSANDS OF DOLLARS) Three Months Ended Year Ended September 30, December 31, ----------------------------------------- 2003 2003 2002 2001 2000 ----------- -------- -------- -------- -------- EARNINGS: Earnings before income taxes $ 29,346 $100,599 $ 73,665 $ 79,568 $ 82,882 Interest expense 4,547 17,412 16,365 18,724 18,135 Amortization of debt discount and expense 57 244 287 264 218 Estimated interest component of rental expense 341 1,434 1,563 1,541 1,318 -------- -------- -------- -------- -------- $ 34,291 $119,689 $ 91,880 $100,097 $102,553 ======== ======== ======== ======== ======== COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS: Interest expense $ 4,547 $ 17,412 $ 16,365 $ 18,724 $ 18,135 Amortization of debt discount and expense 57 244 287 264 218 Allowance for funds used during construction (capitalized interest) 5 7 19 12 17 Estimated interest component of rental expense 341 1,434 1,563 1,541 1,318 Preferred stock dividend requirements - 1,163 1,550 1,550 1,550 Adjustment required to state preferred stock dividend requirements on a pretax basis - 753 1,012 995 968 -------- -------- -------- -------- -------- $ 4,950 $ 21,013 $ 20,796 $ 23,086 $ 22,206 ======== ======== ======== ======== ======== Ratio of earnings to combined fixed charges and preferred stock dividends 6.93 5.70 4.42 4.34 4.62 ======== ======== ======== ======== ========
EXHIBIT 31.1 CERTIFICATION BY THE CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Robert J. Chaney, certify that: 1. I have reviewed this interim report on Form 10-Q of UGI Utilities, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors: (a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and
EXHIBIT 31.1 (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: February 13, 2004 /s/ Robert J. Chaney -------------------------------- Robert J. Chaney President and Chief Executive Officer of UGI Utilities, Inc.
EXHIBIT 31.2 CERTIFICATION BY THE CHIEF FINANCIAL OFFICER PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, John C. Barney, certify that: 1. I have reviewed this interim report on Form 10-Q of UGI Utilities, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors: (a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and
EXHIBIT 31.2 (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: February 13, 2004 /s/ John C. Barney ---------------------------------- John C. Barney Senior Vice President - Finance UGI Utilities, Inc.
EXHIBIT 32 CERTIFICATION BY THE CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER RELATING TO A PERIODIC REPORT CONTAINING FINANCIAL STATEMENTS I, Robert J. Chaney, Chief Executive Officer, and I, John C. Barney, Chief Financial Officer, of UGI Utilities, Inc., a Pennsylvania corporation (the "Company"), hereby certify that: (1) The Company's periodic report on Form 10-Q for the period ended December 31, 2003 (the "Form 10-Q") fully complies with the requirements of Section 15(d) of the Securities Exchange Act of 1934, as amended; and (2) The information contained in the Form 10-Q fairly presents, in all material respects, the financial condition and results of operations of the Company. * * * CHIEF EXECUTIVE OFFICER CHIEF FINANCIAL OFFICER /s/ Robert J. Chaney /s/ John C. Barney - ------------------------------ ------------------------ Robert J. Chaney John C. Barney Date: February 13, 2004 Date: February 13, 2004 A signed original of this written statement required by Section 906 has been provided to UGI Utilities, Inc. and will be retained by UGI Utilities, Inc. and furnished to the Securities and Exchange Commission or its staff upon request.