Florida Public Utilities Company 10-Q 2009
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2009
[ ] 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: 001-10608
FLORIDA PUBLIC UTILITIES COMPANY
(Exact name of registrant as specified in its charter)
401 South Dixie Highway,
West Palm Beach, Fl. 33401
(Address of principal executive offices)
(Registrants 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 [ ]
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 [ ] No [ ]
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. (Check one):
Large accelerated filer [ ]
Accelerated filer [ ]
Non-accelerated filer [ ]
Smaller reporting company [X]
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
On May 7, 2009, there were 6,121,114 shares of $1.50 par value common stock outstanding.
Condensed Consolidated Statements of Comprehensive Income
Condensed Consolidated Statements of Common Shareholders Equity
Condensed Consolidated Statements of Cash Flows
Notes to Condensed Consolidated Financial Statements
Managements Discussion and Analysis of Financial Condition
and Results of Operations
Quantitative and Qualitative Disclosures about Market Risk
Controls and Procedures
FLORIDA PUBLIC UTILITIES COMPANY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2009
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the generally accepted accounting principles in the United States (GAAP) for interim financial information and with the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments necessary for fair presentation have been included. The operating results for the period are not necessarily indicative of the results that may be expected for the full year. For further information, refer to the audited consolidated financial statements and footnotes included in the Companys Annual Report on Form 10-K for the year ended December 31, 2008.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires the Company to make certain estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of any contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates include allowances, accruals for pensions, environmental liabilities, liability reserves, regulatory deferred tax liabilities, unbilled revenue and over-earnings liability. Actual results may differ from these estimates.
The financial statements are prepared in accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No. 71 "Accounting for the Effects of Certain Types of Regulation". SFAS No. 71 recognizes that accounting for rate-regulated enterprises should reflect the relationship of costs and revenues introduced by rate regulation. A regulated utility may defer recognition of a cost (a regulatory asset) or show recognition of an obligation (a regulatory liability) if it is probable that, through the ratemaking process, there will be a corresponding increase or decrease in revenues. The Company has recognized certain regulatory assets and liabilities in the condensed consolidated balance sheets.
As a result, Florida Public Service Commission (FPSC) regulation has a significant effect on the Companys results of operations. The FPSC approves rates that are intended to permit a specified rate of return on investment. Rate tariffs allow the flexibility of automatically passing through the cost of natural gas and electricity to customers. Increases in the operating expenses of the regulated segments may require a request for increases in the rates charged to customers.
The FPSC approved an annual electric final rate increase of approximately $3.9 million effective May 22, 2008. Interim rate relief for partial recovery of the increased expenditures was approved by the FPSC on October 23, 2007. Interim rates were effective in November of 2007 up until May 22, 2008, the date our final rates went into effect and produced additional annual revenues of approximately $800,000.
The Companys natural gas segment received interim rate relief for partial recovery of increased expenditures. Interim rates which will produce additional annual revenues of approximately $1 million went into effect on March 12, 2009 up until June 4, 2009, when final rates will be effective.
Substantially all of the Companys utility plant and the shares of its wholly owned subsidiary, Flo-Gas Corporation, collateralize the Companys First Mortgage Bonds (long-term debt). Cash, accounts receivable and inventory are collateral for the line of credit.
Restriction on Dividends
The Companys Fifteenth Supplemental Indenture of Mortgage and Deed of Trust restricts the amount that is available for cash dividends. At March 31, 2009, approximately $10.2 million of retained earnings were free of such restriction and available for the payment of dividends. The Companys line of credit agreement contains covenants that, if violated, could restrict or prevent the payment of dividends. The Company is not in violation of these covenants.
Allowance for Uncollectible Accounts
The Company records an allowance for uncollectible accounts based on historical information and trended current economic conditions. The following is a summary of bad debt activity for the first quarter as of March 31:
As of March 31, 2009, the Company had a storm reserve of approximately $1.7 million for the electric segment and approximately $789,000 for the natural gas segment. The Company does not have a storm reserve for the propane gas segment.
Goodwill and Other Intangible Assets
The Company does not amortize goodwill or intangibles with indefinite lives. The Company periodically tests the applicable reporting segments, natural gas and propane gas, for impairment. In the event goodwill or intangible assets related to a segment are determined to be impaired, the Company would write down such assets to fair value.
Goodwill associated with the Companys acquisitions consists of $550,000 in the natural gas segment and $1.9 million in the propane gas segment. The summary of intangible assets at March 31, 2009, and December 31, 2008, is as follows:
The amortization expense of intangible assets was approximately $108,000 and $104,000 for the three months ended March 31, 2009 and 2008, respectively.
Over-earnings Natural Gas Segment
The FPSC approves rates that are intended to permit a specified rate of return on investment and limits the maximum amount of earnings of regulated operations. The Company has agreed with the FPSC to limit the earned return on equity for regulated natural gas and electric operations.
All prior over-earnings have been settled. Management does not anticipate any electric or natural gas over earnings for 2007, 2008 or 2009.
The Company is subject to federal and state legislation with respect to soil, groundwater and employee health and safety matters and to environmental regulations issued by the Florida Department of Environmental Protection (FDEP), the United States Environmental Protection Agency (EPA) and other federal and state agencies. Except as discussed below, the Company does not expect to incur material future expenditures for compliance with existing environmental laws and regulations.
The Company currently has $13.4 million recorded as our best estimate of the environmental liability. The FPSC approved up to $14 million for total recovery from insurance and rates based on the original 2005 projections as a basis for rate recovery. The Company has recovered a total of $6.4 million from insurance and rate recovery, net of costs incurred to date. The remaining balance of $7 million is recorded as a regulatory asset. On October 18, 2004 the FPSC approved recovery of $9.1 million for environmental liabilities. The amortization of this recovery and reduction to the regulatory asset began on January 1, 2005. The majority of environmental cash expenditures is expected to be incurred before 2012, but may continue for another 9 years.
West Palm Beach Site
The Company is currently evaluating remedial options to respond to environmental impacts to soil and groundwater at and in the immediate vicinity of a parcel of property owned by us in West Palm Beach, Florida upon which we previously operated a gasification plant. Pursuant to a Consent Order between the Company and the Florida Department of Environmental Protection effective April 8, 1991, the Company completed the delineation of soil and groundwater impacts at the site. On June 30, 2008, the Company transmitted a revised feasibility study, evaluating appropriate remedies for the site, to the Florida Department of Environmental Protection.
The feasibility study evaluated a wide range of remedial alternatives based on criteria provided by applicable laws and regulations. The total costs for the remedies evaluated in the feasibility study ranged from a low of $2.8 million to a high of $54.6 million. Based on the likely acceptability of proven remedial technologies described in the feasibility study and implemented at similar sites, management believes that consulting/remediation costs to address the impacts now characterized at the West Palm Beach site will range from $4.4 million to $17.9 million. This range of costs covers such remedies as in situ solidification for deeper soil impacts, excavation of surficial soil impacts, installation of a barrier wall with a permeable biotreatment zone, monitored natural attenuation of dissolved impacts in groundwater, or some combination of these remedies. The feasibility study proposed a remedy of surficial soil excavation, installation of a hanging barrier wall with permeable biotreatment zone, and monitored natural attenuation, the cost of which is projected to range from $4.4 million to $9.4 million.
Negotiations between the Company and the Florida Department of Environmental Protection on a final remedy for the site continue. Prior to the conclusion of those negotiations, we are unable to determine, to a reasonable degree of certainty, the complete extent or cost of remedial action that may be required. As of March 31, 2009, and subject to the limitations described above, management believes the Company's remediation expenses, including attorneys' fees and costs, will range from approximately $4.9 million to $18.3 million for this site.
The Company owns a parcel of property located in Sanford, Florida, upon which a gasification plant was operated prior to our acquisition of the property. On March 25, 1998, the Company executed an Administrative Order on Consent with the four former owners and operators (collectively, the "Group") and the United States Environmental Protection Agency that obligated the Group to implement a Remedial Investigation/Feasibility Study and to pay the United States Environmental Protection Agency's past and future oversight costs. The Group also entered into a Participation Agreement and an Escrow Agreement on or about April 13, 1998. Work under the Remedial Investigation/Feasibility Study Administrative Order on Consent and Participation Agreement and an Escrow Agreement is now complete and the Company has no further obligations under either document.
In 2008, a revised Consent Decree was signed by all Group Members and the United States Environmental Protection Agency, providing for the implementation by the Group of the remedies the United States Environmental Protection Agency approved earlier for the site, which are set forth in the Records of Decision for Operable Units 1-3, and for the payment of the United States Environmental Protection Agency's past and future oversight costs. The Consent Decree was entered by the federal Court in Orlando and became effective on January 15, 2009; the parties to the Consent Decree are now obligated to implement the remedy approved by United States Environmental Protection Agency for the site.
In January 2007, the Company and other members of the Group signed a Third Participation Agreement, which provides for funding the remediation work specified in the Records of Decision for Operable Units 1-3 and supersedes and replaces the Second Participation Agreement. The Company's share of remediation costs under the Third Participation Agreement is set at 5% of a maximum of $13 million, or $650,000. To date, the Company has contributed $100,000 of its total share of remediation costs under the Third Participation Agreement. It is currently anticipated that the total cost of the final remedy will exceed $13 million. The Company has advised the other members of the Sanford Group that we are unwilling at this time to agree to pay any sum in excess of the $650,000 committed by us in the Third Participation Agreement.
Several members of the Sanford Group recently concluded negotiations with two adjacent property owners to resolve damages that the property owners allege that they have/will incur as a result of the implementation of the EPA approved remedy. In settlement of these claims, members of the Sanford Group (excluding the Company) have agreed to pay specified sums of money to the parties. In one case, the settlement agreement requires the select members of the Sanford Group to purchase the third party's property for approximately $2 million; the third party then has an option to buy back the property after completion of the remedy for approximately the same amount. In the other case, the select members agreed to a lump sum payment of $450,000. The Company has refused to participate in the funding of the third party settlement agreements based on the contention that it did not contribute to the release of hazardous substances at the site giving rise to the third party claims.
As of March 31, 2009, the Companys share of remediation expenses, including the Companys attorneys' fees and costs, are projected to be approximately $637,000 for this site. However, at this time, we are unable to determine, to a reasonable degree of certainty, whether the other members of the Sanford Group will accept the Companys asserted defense to liability for costs exceeding $13 million to implement the final remedy for the site or will pursue a claim against the Company for a sum in excess of the $650,000 that FPUC has committed to fund the remedy.
The Company is the prior owner/operator of the former Pensacola gasification plant, located at the intersection of Cervantes Street and the Louisville and Nashville (CSX) Railroad line, Pensacola, Florida. Following notification on October 5, 1990, that the Florida Department of Environmental Protection had determined that the Company was one of several responsible parties for any environmental impacts associated with the former gasification plant site, the Company entered into cost sharing agreements with three other responsible parties providing for the funding of certain contamination assessment activities at the site.
Following field investigations performed on behalf of the responsible parties, on July 16, 1997, the Florida Department of Environmental Protection approved a final remedy for the site that provides for annual sampling of selected monitoring wells. Such annual sampling has been undertaken at the site since 1998. The Company's share of these costs is less than $2,000 annually.
In March 1999, the United States Environmental Protection Agency requested site access in order to undertake an Expanded Site Inspection. The Expanded Site Inspection was completed by the United States Environmental Protection Agency's contractor in 1999 and an Expanded Site Inspection Report was transmitted to the Company in January 2000. The Expanded Site Inspection Report recommends additional work at the site. The responsible parties met with the Florida Department of Environmental Protection on February 7, 2000 to discuss the United States Environmental Protection Agency's plans for the site. In February 2000, the United States Environmental Protection Agency indicated preliminarily that it will defer management of the site to the Florida Department of Environmental Protection; as of July 31, 2008, the Company has not received any written confirmation from the United States Environmental Protection Agency or the Florida Department of Environmental Protection regarding this matter. Prior to receipt of the United States Environmental Protection Agency's written determination regarding site management, we are unable to determine whether additional field work or site remediation will be required by the United States Environmental Protection Agency and, if so, the scope or costs of such work.
As of March 31, 2009, the Companys share of remediation expenses for the site, including attorneys fees and costs, are projected to be approximately $27,000.
Key West Site
Between 1927 and 1938, the Company owned and operated a gasification plant on Catherine Street, in Key West, Florida. The plant discontinued operations in the late 1940s; the property on which the plant was located is currently used for a propane gas distribution business. In March 1993, a Preliminary Contamination Assessment Report was prepared by a consultant jointly retained by the Company and the current site owner and was delivered to the Florida Department of Environmental Protection. The Preliminary Contamination Assessment Report reported that very limited soil and groundwater impacts were present at the site. By letter dated December 20, 1993, the Florida Department of Environmental Protection notified the Company that the site did not warrant further "CERCLA consideration and a Site Evaluation Accomplished disposition is recommended." the Florida Department of Environmental Protection then referred the matter to its Marathon office for consideration of whether additional work would be required by the Florida Department of Environmental Protection's district office under Florida law. As of March 31, 2009, the Company has received no further communication from the Florida Department of Environmental Protection with respect to the site. At this time, we are unable to determine whether additional field work will be required by the Florida Department of Environmental Protection and, if so, the scope or costs of such work. In 1999, the Company received an estimate from its consultant that additional costs to assess and remediate the reported impacts would be approximately $166,000. As of March 31, 2009 and assuming the current owner shared in such costs according to the allocation agreed upon by the parties for the Preliminary Contamination Assessment Report, the Company's share of remediation expenses, including attorneys' fees and costs, is projected to be $93,000 for this site.
Employee Benefit Plans
The Company sponsors a qualified defined benefit pension plan for non-union employees hired before January 1, 2005 and for union employees who work under one of the six Company union contracts and were hired before their respective contract dates in 2005 for our Northwest division contract in 2006. Employees hired after the above time frames along with those that elected to transfer out of the defined benefit pension plan are not eligible for the defined benefit pension plan and are in a 401k match plan. The Company also sponsors a post-retirement medical plan.
In March 2009, the Company's Board of Directors authorized amendments to the pension plan in an effort to reduce anticipated future pension expenses. As a result of these amendments, the Company will freeze the pension plan for all participants effective December 31, 2009. All future benefit accruals under the plan shall cease, including freezing salary rates at 2009 average compensation levels as of December 31, 2009. In addition to the freeze, the reduced early retirement eligibility will be lowered from 30 years to 20 years and two additional service years can be earned by active participants at the December 31, 2009 average compensation levels for the purposes of benefit accrual, vesting and retirement eligibility. The two additional service years will increase annual pension cost by $800,000 in each of the next two years. Beyond December 31, 2011, active participants will continue to accrue service years for the purposes of vesting and retirement eligibility. The amendments to the plan have been accounted for in accordance with SFAS No. 88, Employers' Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits, resulting in the recognition of approximately $2.7 million in non-cash pretax curtailment loss of which $2.3 million is reflected in expenses and $400,000 is reflected on the balance sheet in the Company's consolidated statements.
The following table provides the components of the net periodic benefit cost for our pension plan and postretirement benefit plan for the three months ended March 31, 2009 and 2008.
For additional information related to our employee benefit plans, please see Notes to Consolidated Financial Statements in the Companys Form 10-K for the year ended December 31, 2008.
FASB issued Statement No. 158, Employers Accounting for Defined Benefit Pension and Other Postretirement Plans that requires the Company to show the funded status of its pension and retiree health care plan as a prepaid asset or accrued liability, and to show the net deferred and unrecognized gains and losses related to the retirement plans, net of tax, as part of accumulated other comprehensive income (loss) (AOCI) in shareholders equity. This resulted in a gain in AOCI, net of deferred tax, of approximately $1,138,000 and $22,000 as of March 31, 2009 and March 31, 2008, respectively.
Impact of Recent Accounting Standards
Financial Accounting Standard No. 161
In March 2008, the FASB issued Statement No. 161, Disclosures about Derivative Instruments and Hedging Activities an amendment of FASB Statement No. 133 This standard requires enhanced disclosures about an entitys derivative and hedging activities and thereby improves the transparency of financial reporting. This Statement is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The Company adopted SFAS No. 161 effective January 1, 2009. The adoption of SFAS No. 161 did not have an impact on the Companys disclosures.
FASB Staff Position, FAS No. 142-3
In April 2008, the FASB issued FASB Staff Position, or FSP, FAS 142-3, Determination of the Useful Life of Intangible Assets, effective for financial statements issued for fiscal year beginning after December 15, 2008, and interim periods within those fiscal years. This FSP amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under SFAS No. 142 Goodwill and Other Intangible Assets, thereby resulting in improved consistency between the useful life applied under SFAS No. 142, and the period of expected cash flows used to measure the fair value of the asset under SFAS No. 141R, Business Combinations. We adopted FSP FAS 142-3 effective January 1, 2009. The adoption of FSP, FAS No. 142-3 did not have a material effect on our results of operations or financial position.
Financial Accounting Standard No. 162
In May 2008, the FASB issued Statement No. 162, The Hierarchy of Generally Accepted Accounting Principles. This standard offers guidance on the principles used to prepare financial statements in accordance with GAAP. FASB Statements of Financial Accounting Concepts now supersede industry practice. The adoption of this standard did not have an effect on our financial position or results of operation.
FSP 132(R)-1, Employers Disclosure about Postretirement Benefit Plan Assets.
In December 2008, the FASB issued FSP FAS 132(R)-1, Employers Disclosures about Postretirement Benefit Plan Assets (FSP FAS 132 (R)-1). FSP FAS 132 (R)-1 amends FASB Statement No. 132 (revised 2003), Employers Disclosures about Pensions and Other Postretirement Benefits, to provide guidance on an employers disclosures about plan assets of a defined benefit pension or other postretirement plan. FSP FAS 132 (R)-1 is effective for fiscal years ending after December 15, 2009. The Company is currently evaluating the effect FSP FAS 132(R)-1 will have on its disclosures.
FSP FAS 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial Instruments.
In April 2009, the FASB issued FSP FAS 107-1 and APB 28-1, Interim Disclosures about Fair Values of Financial Instruments. It requires the fair value for all financial instruments within the scope of SFAS No. 107, Disclosures about Fair Value of Financial Instruments (SFAS No. 107), to be disclosed in the interim periods as well as in annual financial statements. This standard is effective for the quarter ending after June 15, 2009. We are currently assessing the potential impact that adoption of this standard may have on our financial statements disclosures.
SFAS 115-2 and FAS 124-2, Recognition and Presentation of Other-Than-Temporary Impairments
In April 2009, the FASB, issued FSP No. FAS 115-2 and FAS 124-2, Recognition and Presentation of Other-Than-Temporary Impairments, to amend the other-than-temporary impairment guidance in debt securities to be based on intent to sell instead of ability to hold the security and to improve the presentation and disclosure of other-than-temporary impairments on debt and equity securities in the financial statements. This pronouncement is effective for periods ending after June 15, 2009. We are currently assessing the potential impact that adoption of this standard may have on our financial statements.
FSP No. 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly
In April 2009, the FASB issued FSP No. 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly, or FSP 157-4. FSP 157-4 provides additional authoritative guidance to assist both issuers and users of financial statements in determining whether a market is active or inactive, and whether a transaction is distressed. The FSP will be effective for us for the quarter ending June 30, 2009. We are currently assessing the potential impact that adoption of this standard may have on our financial statements.
FSP SFAS 141(R)-1, Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies
In April 2009, FASB issued FSP SFAS 141(R)-1, Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies, to amend the provisions related to the initial recognition and measurement, subsequent measurement and disclosure of assets and liabilities arising from contingencies in a business combination under SFAS 141(R). Under the new guidance, assets acquired and liabilities assumed in a business combination that arise from contingencies should be recognized at fair value on the acquisition date if fair value can be determined during the measurement period. If fair value cannot be determined, companies should typically account for the acquired contingencies using existing guidance.
Fair Value of Financial Instruments
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (SFAS 157), which defines fair value, establishes a framework for measuring fair value in GAAP, and expands disclosures about fair value measurements. SFAS 157 does not require any new fair value measurements, but provides guidance on how to measure fair value by providing a fair value hierarchy used to classify the source of the information. In February 2008, the FASB deferred the effective date of SFAS 157 by one year for certain non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). On January 1, 2008, we adopted the provisions of SFAS 157, except as it applies to those non-financial assets and non-financial liabilities for which the effective date has been delayed by one year. On January 1, 2009, we adopted the provisions of SFAS 157 for non-financial assets and non-financial liabilities. The adoption of SFAS 157 did not have a material effect on our financial position or results of operations.
The carrying amounts reported in the balance sheet for investments held in escrow for environmental costs, notes payable, taxes accrued and other accrued liabilities approximate fair value. The fair value of long-term debt excluding the unamortized debt discount is estimated by discounting the future cash flows of each issuance at rates currently offered to the Company for similar debt instruments of comparable maturities. The indentures governing our two first mortgage bond series outstanding contain "make-whole" provisions (pre-payment penalties that charge for lost interest).
The values at March 31, 2009 and December 31, 2008 are shown below.
On January 1, 2008, we adopted the provisions of SFAS No. 159 The Fair Value Option for Financial Assets and Financial Liabilities including an amendment of FASB Statement No. 115 (SFAS 159). SFAS 159 provides companies with an option to report selected financial assets and financial liabilities at fair value. Unrealized gains and losses on items for which the fair value option has been elected are reported in earnings at each subsequent reporting date. The fair value option: (i) may be applied instrument by instrument, with a few exceptions, such as investments accounted for by the equity method; (ii) is irrevocable (unless a new election date occurs); and (iii) is applied only to entire instruments and not to portions of instruments. We did not elect to record any additional assets or liabilities at fair value.
The Company is organized into two regulated business segments: natural gas and electric, and one non-regulated business segment, propane gas. There are no material inter-segment sales or transfers.
Identifiable assets are those assets used in the Companys operations in each business segment. Common assets are principally cash and overnight investments, deferred tax assets and common plant.
Business segment information at March 31, 2009, and December 31, 2008 is summarized as follows:
Business segment information for the quarter ending March 31, 2009, and March 31, 2008 is summarized as follows:
15. Subsequent Events
On April 17, 2009, we executed a definitive merger agreement with Chesapeake Utilities Corporation (Chesapeake) pursuant to which Florida Public Utilities Company (FPU) will merge with a wholly owned subsidiary of Chesapeake. The merger agreement, publicly announced on April 20, 2009, was approved by the boards of directors of both FPU and Chesapeake and is subject to the approval of the shareholders of both companies. Pursuant to the terms of the merger agreement, FPU shareholders will receive 0.405 shares of Chesapeake common stock for each share of FPU common stock held by them. The merger is intended to qualify as a tax-free reorganization and is subject to various regulatory approvals. The merger is expected to close during the fourth quarter of 2009 assuming all required approvals and other conditions to closing are satisfied.
On May 5, 2009 the FPSC approved a final natural gas rate increase of approximately $8.5 million in revenues annually with new rates beginning on June 4, 2009. Interested parties may protest the action of the Commission within 21 days after the entry of the Commission order and if the ruling is protested, a full hearing will be required within eight months. Revenues may be collected pending possible refund upon final determination at the full hearing. These revenues should provide an increase to the Companys overall profitability for the natural gas segment and recovery of increased expenditures including depreciation and other expenses beginning in 2009.
Item 2. Managements Discussion and Analysis of Financial Condition and
Results of Operations
We have three primary business segments: natural gas, electric and propane gas. The Florida Public Service Commission (FPSC) regulates the natural gas and electric segments. The effects of seasonal weather conditions, timing of rate increases, economic conditions, fluctuations in demand due to the cost of fuel passed on to customers, and the migration of winter residents and tourists to Florida during the winter season have a significant impact on income.
Revenues and gross profit increased in the first quarter of 2009 compared to the same period in the prior year due in a large part to the base rate increases in our electric operations.
Earnings for the first quarter of 2009 were significantly impacted by the pension plan freeze. The pension curtailment expensed in the first quarter of 2009 as a result of the freeze was approximately $2.3 million. The impact to net income for the effects of these curtailment expenses is approximately $1.4 million after income taxes or $.24 per share for the quarter ending March 31, 2009.
Earnings continue to be impacted by the overall economic slow-down and management expects current conditions to continue through 2009 with an ongoing impact to our customer growth rates, unit sales and sales expense. Management continues to look for ways to help offset the negative impacts of the current economic condition.
Early in the second quarter, we entered into a merger agreement with Chesapeake Utilities Corporation. See Note 15, Subsequent Events, above and Outlook, below for more information about this proposed merger.
Results of Operations
Revenues and Gross Profit Summary
Cost recovery revenues are included in revenues. The FPSC allows cost recovery revenues to directly recover costs of fuel, conservation and revenue-based taxes in our natural gas and electric segments. Revenues collected for these costs and expenses have no effect on results of operations and fluctuations could distort the relationship of revenues between periods. Gross profit is defined as gross operating revenues less fuel, conservation and revenue-based taxes that are passed directly through to customers. Because gross profit eliminates these cost recovery revenues, we believe it provides a more meaningful basis for evaluating utility revenues. We believe data regarding units sold and number of customers provides additional information helpful in comparing periods. The following summary compares gross profit between periods and units sold in one thousand Dekatherm (MDth) (gas) and Megawatt Hour (MWH) (electric).
Three Months Ended March 31, 2009 Compared with Three Months Ended March 31, 2008.
Revenues and Gross Profit
Natural gas service revenues decreased $2.4 million in the first quarter of 2009 from the same period in 2008 due to lower fuel and other costs passed through to customers of $3 million. Colder temperatures in the first quarter of 2009 compared to the same period last year was the primary reason for a 5.5% increase in units sold and a 7% increase in gross profit. Interim rates awarded in our natural gas rate proceeding beginning March 2009 also positively impacted our gross profit.
Electric service revenues increased $4.5 million in the first quarter of 2009 over the same period in 2008. Higher cost of fuel and other costs that were passed through to customers accounted for $3.9 million of this increase.
Gross profit increased by $654,000 or 18% this quarter compared to the first quarter of 2008 primarily due to the final base rate increase approved April 2008, compared to interim rates which were in effect in the first quarter of 2008. Units sold, excluding industrial customers, decreased by 4.8%. Management believes this decrease is a result of possible conservation measures taken by our customers due to fuel and base rate increases. Gross profit was not materially impacted by reduced consumption as this was forecasted in our electric rate increase approved April 2008. Rates were set to compensate for the anticipated reduction in units sold due to significant increases in fuel costs.
Propane revenues decreased $1.3 million in the first quarter of 2009 compared to the same period in 2008. The cost of fuel contributed to $1.1 million of the revenue decrease, with gross profit decreasing by $246,000.
In spite of colder temperatures units sold declined by 2.4%. Management believes this is a result of the downturn in the housing market and the economy as a whole which had a negative impact on customer usage.
Operating expenses increased $3.0 million in the first quarter of 2009 as compared to the same period in 2008. The recent pension plan freeze significantly impacted our operating expenses in the first quarter of 2009; related curtailment costs associated with our pension plan freeze increased operating expenses by approximately $2.2 million. In addition to the pension curtailment costs, administrative and general expenses increased $178,000 primarily due to increased pension expenses unrelated to the plan freeze and auditing fees related to our initial required audit of internal control over financial reporting under Sarbanes Oxley section 404. As we continue to experience the impact of the declining economy, bad debt expenses increased $220,000 due in a large part to a recent bankruptcy of a commercial customer in our electric segment. Maintenance expenses increased $129,000 as a result of several severe storms and storm hardening initiatives recently mandated by the FPSC.
Other Income and Deductions
Merchandise and service revenue increased by $39,000 and expense increased by $25,000 in the first quarter of 2009 compared to the same period last year resulting in increased profitability of $14,000. Although we continue to experience effects of the slowing economy, sales increased through a successful coupon program.
Other income increased $44,000 primarily for interest income on a deposit refund from one of our fuel providers.
Total interest expense decreased by $77,000 in the first quarter of 2009 compared to the same period last year. This was due primarily to a lower average balance on our line of credit as a result of increased cash flow from operations and lower capital expenditures. In addition, the interest rate on our line of credit, tied to the London Interbank Rate (LIBOR), was lower this quarter, compared to the first quarter of 2008. Our line of credit was also amended in March 2008, lowering the interest rate margin paid on borrowings by 0.10% or 10 basis points.
Liquidity and Capital Resources
Net cash flow provided by operating activities for the three months ended March 31, 2009 increased by approximately $8.2 million over the same period in 2008. Over-recovered fuel costs accounted for approximately $3.8 million of the increase in the current years net cash flow. Colder temperatures along with our electric and natural gas base rate increases also contributed approximately $2.8 million of the increase.
Construction expenditures in the three months ended March 31, 2009 decreased by $1.0 million compared with the same period last year. The decrease was primarily due to discretionary capital expenditures controls instituted by the company during the current slow-down in the economy.
Short-term borrowing on our line of credit decreased by $8.3 million in the first quarter of 2009 compared to the same period in 2008 primarily as a result of the reduced need for short-term borrowing primarily because of the increase in funds provided from our operations and lower capital expenditures.
We have a revolving line of credit with Bank of America which expires July 1, 2010. Prior to March 2008, the available line of credit was $15 million with the ability to increase the limit to a maximum of $20 million upon 30 days notice. In March 2008, we amended our line of credit to allow us, upon 30 days notice, to increase our maximum credit line from $20 million to $26 million and to reduce the interest rate paid on borrowings by 0.10% or 10 basis points. In April 2008, we increased the currently available line of credit from $12 million to $15 million. The balance outstanding was $3 million at March 31, 2009. We reserve $1 million of the line of credit to cover potential expenses for any major storm repairs in our electric segment and an additional $250,000 for a letter of credit insuring propane gas facilities.
The line of credit contains affirmative and negative covenants that, if violated, would give the bank the right to accelerate the due date of the loan to be immediately payable. The line of credit covenants with Bank of America include certain financial ratios, all of which are currently met.
The line of credit, long-term debt and preferred stock as of March 31, 2009 comprised 52% of total debt and equity capitalization.
Historically we have periodically paid off short-term borrowings under lines of credit using the net proceeds from the sale of long-term debt or equity securities. We continue to review our financing options. Any choice of financing will be predicated on the current needs and dependent on prevailing market conditions, the impact to our financial covenants and the effect on income. The timing of additional funding will be dependent on projected environmental expenditures, building of the South Florida operations facility, pension contributions, and other capital expenditures.
Our 1942 Indenture of Mortgage and Deed of Trust, which is a mortgage on all real and personal property, permits the issuance of additional bonds based upon a calculation of unencumbered net real and personal property. At March 31, 2009, such calculation would permit the issuance of approximately $49.6 million of additional bonds.
On October 14, 2008 we received approval from the FPSC to issue and sell or exchange an additional amount of $45 million in any combination of long-term debt, short-term notes and equity securities and/or to assume liabilities or obligations as guarantor, endorser or surety during calendar year 2009.
We have $3.5 million in invested funds for payment of future environmental costs. We expect to use some or all of these funds in 2010 and 2011.
We expect to receive tax refunds of approximately $1.8 million in early 2009. The primary reason for this refund is our planned pension contribution of $4.6 million for plan year 2008 expected to be made in 2009. This pension contribution is a deduction for tax purposes in 2008 calendar year but was not known at the time of estimated tax payments made in calendar year 2008.
As of March 31, 2009 there was approximately $5.7 million in receivables from the 2003 sale of our water assets. Final payment of principal and interest totaling $5.7 million is expected in February 2010.
Portions of our business are seasonal and dependent upon weather conditions in Florida. This factor affects the sale of electricity and gas and impacts the cash provided by operations. Construction costs also impact cash requirements throughout the year. Cash needs for operations and construction are met partially through short-term borrowings from our line of credit.
Capital expenditures are expected to be lower for the remainder of 2009 compared to 2008 by approximately $900,000 due primarily to the Companys current controls on discretionary capital expenditures during the current economic slow-down.
We currently do not have any outstanding commitments for capital expenditures.
Cash requirements will increase significantly in the future due to environmental cleanup costs, sinking fund payments on long-term debt and pension contributions. Environmental cleanup is forecast to require payments of $774,000 in 2009, with remaining forecasted payments, which could total approximately $9.1 million net of investment proceeds, beginning in 2010. Annual long-term debt sinking fund payments of approximately $1.4 million will continue in 2009 for ten years.
Based on current projections, we will make required contributions to our defined benefit pension plan of approximately $560,000 and $1.2 million in 2009 for the 2008 and 2009 plan years respectively. In addition, we expect to make a voluntary contribution of $4 million for the 2008 plan year. We will continue in future years to make contributions as required by the Pension Protection Act funding rules.
We believe that cash from operations, coupled with short-term borrowings on our line of credit, will be sufficient to satisfy our operating expenses, normal construction expenditure and dividend payments through 2009. However, if we experience significant environmental expenditures in the next two or three years it is possible we may need to raise additional funds. There can be no assurance, however, that equity or debt transaction financing will be available on favorable terms or at all when we make the decision to proceed with a financing transaction.
In March 2009, the Company's Board of Directors authorized amendments to the pension plan in an effort to reduce anticipated future pension expenses. As a result of these amendments, the Company will freeze the pension plan for all participants effective December 31, 2009. All future benefit accruals under the plan shall cease, including freezing salary rates at levels existing in 2009 average compensation as of December 31, 2009. In addition to the freeze, the reduced early retirement eligibility will be lowered from 30 years to 20 years and two additional service years can be earned by active participants at the December 31, 2009 average compensation levels for the purposes of benefit accrual, vesting and retirement eligibility. Beyond December 31, 2011, active participants will continue to accrue service years for the purposes of vesting and retirement eligibility. The two additional service years will increase annual pension cost by $800,000 in each of the next two years.
The amendments to the plan have been accounted for in accordance with SFAS No. 88, Employers' Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits. The pension liability has been reduced by $5.7 million and we recognized approximately $2.7 million non-cash pretax curtailment loss of which $2.3 million is reflected in expenses and $400,000 is reflected on the balance sheet in the Company's consolidated statements.
The freeze will reduce pension expenses beginning in the second quarter of 2009. With the freeze, pension expense and pension contribution are expected to be approximately $500,000 and $13 million, respectively spread over the period 2009 through 2013.
Natural Gas Base Rate Proceeding
We filed a request with the FPSC in the fourth quarter of 2008 for a base rate increase of approximately $9.9 million annually in our natural gas segment. This request included recovery of increased expenses and some capital expenditures since our last rate proceeding in 2004.
On May 5, 2009 the FPSC approved a final natural gas rate increase of approximately $8.5 million in revenues annually with new rates beginning June 4, 2009. Interested parties may protest the action of the Commission within 21 days after the entry of the Commission order and if the ruling is protested, a full hearing will be required within eight months. Revenues may be collected pending possible refund upon final determination at the full hearing. These revenues should provide an increase to the Companys overall profitability for the natural gas segment and recovery of increased expenditures including depreciation and other expenses beginning in 2009.
Interim rate relief was approved by the FPSC on February 10, 2009 for partial recovery of the increased expenditures. Interim rates which should produce additional annual revenues of approximately $1.0 million became effective on March 12, 2009 and will remain effective until final rates are in place on June 4, 2009.
Electric Franchise Marianna
The City of Marianna employed a Consultant to review the existing franchise agreement with the Company that is up for renewal in 2010 and to review the feasibility of purchasing the portion of our electric system that is within the city limits. On May 7, 2009 the City of Marianna Commissioners voted to enter into a new ten year franchise agreement with FPUC with stipulations that new Interruptible and Time of Use rates become available for certain customers prior to February 2011 or the franchise could be voided six months after that date. The second reading and final passage of the franchise ordinance is scheduled for June 2009 and the new agreement will be effective February 1, 2010. Should final approval of the ordinance not be obtained as anticipated, the City could elect to purchase the Marianna portion of the distribution system. This would require the city to pay severance/reintegration costs, fair market value for the system and the initial investment in the infrastructure to operate this limited facility. If the franchise is not renewed and the City purchases this portion of our electric system, the Company would have a gain in the year of the acquisition; but, ongoing financial results would be negatively impacted from the loss of this operating area within our electric operations.
Storm Preparedness Expenses
Regulators continue to focus on hurricane preparedness and storm recovery issues for utility companies. Mandated storm preparedness initiatives impacted our 2008 earnings and continue to impact our operating expenses and capital expenditures in 2009. The current forecast is not expected to exceed additional annual expenditures of approximately $260,000. During the 2008 rate proceeding, these storm preparedness costs were approved and have been included in the base rates. It is possible that additional regulation and rules will be mandated regarding storm related expenditures over the next several years.
We purchased land for $3.5 million in July 2007 for a new South Florida operations facility. We started preparing plans for site development of this property but have temporarily placed this project on hold. We may begin construction in the next one to three years or sell the property if we determine we can return to the existing operations location.
Natural Gas Depreciation Study
We filed a depreciation study with the FPSC in the fourth quarter of 2008 for our natural gas segment. In April 2009, the FPSC approved new deprecation rates to be effective July 1, 2009. As a result of new depreciation rates, depreciation expense is expected to increase approximately $200,000 annually beginning July 1, 2009, and we received full recovery for this increased expense in our base rate increase.
Large Customer in NE Electric Division
A large industrial customer in our northeast electric division filed for bankruptcy on January 26, 2009.
Although the average monthly gross profit from this customer was approximately $29,000 in 2008, the average total monthly bill including fuel costs for this customer was approximately $250,000. This customer has currently paid all outstanding amounts that were due as of December 31, 2008. The Company has reserved approximately $200,000 for this potential bad debt in the first quarter of 2009 awaiting the outcome of this bankruptcy proceeding. If the courts determine that we have to refund any prior payments, the Company may be required to write-off a portion of this customers receivables including fuel cost to our reserve.
Bad Debt Expense
Management expects bad debt expense and related write-offs of receivables to continue increasing further in 2009 as a result of the current economic climate and the impact to our customers. We are not able to predict the impact to our financial results, but we do anticipate an increase to bad debt expense over 2008 levels.
Energy Efficiency Legislation
Regulators are focusing on several legislative issues involving the Energy Policy Act of 2005 and the Energy Independence and Security Act of 2007 and related issues. One major provision is the implementation of a renewable portfolio standard. Since the Company is a non-generating utility with existing ten year all-requirements wholesale energy contracts, there is significant concern over the additional purchased power cost that may be required to comply with the standard. Although this cost may be passed on to the customers through a rate increase, continued decrease in customer usage will have an impact on operations. Smart Grid Technology is another item being considered that would require significant capital investment to develop, install and manage. The Company understands the overall benefits from the legislation but the burden imposed on a small utility like ours is of particular concern. The Company is continuing to communicate with the FPSC to find solutions that will work for the Company, while maintaining manageable electric rates for customers.
We have historically met all our line of credit and fuel supplier covenants. As of December 2008 we were in violation of a covenant regarding our total liabilities to tangible net worth ratio included in one of our supply agreements with a fuel provider. The violation was caused primarily by a significant increase in our pension liability. Failure to meet this covenant would have required us to provide a one year irrevocable letter of credit for $3.3 million; however, we received a 30 day time extension to March 27, 2009 to meet this covenant ratio. On March 20, 2009, we calculated the covenant ratio, as of February 28, 2009 as required, and the supplier was advised that we were once again in compliance with this covenant. At this time management does not anticipate any further covenant violations.
Our line of credit contains a similar covenant ratio. Management is continuing to take steps to comply with all covenants on an ongoing basis, but there can be no assurance that further deterioration of the market or the economy will not occur and give rise to a violation.
The Company is in compliance with all covenants on our line of credit and other fuel supply agreements at March 31, 2009.
We entered into a definitive merger agreement with Chesapeake Utilities Corporation (Chesapeake) on April 17, 2009. The merger was approved by both companies' boards of directors and is subject to the approval of both companies shareholders. Under the merger agreement, holders of Florida Public Utilities common stock will receive 0.405 shares of Chesapeake common stock in exchange for each outstanding share of Florida Public Utilities. The merger is intended to qualify as a tax-free reorganization and is subject to various regulatory approvals and closing conditions as set forth in the merger agreement. The merger is expected to close during the fourth quarter of 2009 assuming all approvals are obtained and closing conditions are satisfied.
Forward-Looking Statements (Cautionary Statement)
This report contains forward-looking statements including those relating to the following:
Our consideration of equity or debt financing in the next few years.
Cash requirements will increase significantly in the future due to environmental clean-up costs, sinking fund payments on long-term debt and pension contributions.
Cash from operations, coupled with short-term borrowings on our line of credit, will be sufficient to satisfy our operating expenses, normal construction expenditure and dividend payments through 2009.
Realization of actual additional revenues from the electric rate proceeding finalized in May 2008 will occur as expected.
Realization of actual additional revenues from the natural gas rate proceeding finalized in May 2009 will occur as expected.
Impact of the overall economic conditions on our earnings, customer growth rates, unit sales and sales expense.
Capital expenditures will be less than originally expected for 2009.
Timing and progress of construction on the South Florida operations facility.
Increase in pension contributions to our defined benefit pension plan in 2009 and beyond.
Amortization of pension service costs and pension expense as expected in future years.
Increase in bad debt expense on our customer accounts receivable.
Impact of Energy Efficiency Legislation on our Company and our operating results.
Renewal of the Marianna Franchise.
Additional annual expenditures relating to storm preparedness.
These statements involve certain risks and uncertainties. Actual results may differ materially from what is expressed in such forward-looking statements. Important factors that could cause actual results to differ materially from those expressed by the forward-looking statements include, but are not limited to, those set forth in Risk Factors in our Form 10-K for the year ended December 31, 2008.
Quantitative and Qualitative Disclosures about Market Risk
All financial instruments held by us were entered into for purposes other than for trading. We have market risk exposure only from the potential loss in fair value resulting from changes in interest rates. We have no material exposure relating to commodity prices because under our regulatory jurisdictions, we are fully compensated for the actual costs of commodities (natural gas and electricity) used in our operations. Any commodity price increases for propane gas are normally passed through monthly to propane gas customers as the fuel charge portion of their rate.
None of our gas or electric contracts are accounted for using the fair value method of accounting. While some of our contracts meet the definition of a derivative, we have designated these contracts as "normal purchases" under SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". As of March 31, 2009, we had not entered into any hedging activities, and we do not anticipate entering into hedging activities in 2009. Beginning in 2009, we started pre-buying propane when certain price levels are reached.
We have no exposure to equity risk, as we do not hold any material equity instruments. Our exposure to interest rate risk is limited to investments held for environmental costs, the long-term notes receivable from the sale of our water division and short-term borrowings on the line of credit. The investments held for environmental costs are short-term fixed income debt securities whose carrying amounts are not materially different than fair value. The short-term borrowings were approximately $3 million at the end of March 2009. We do not believe we have material market risk exposure related to these instruments. The indentures governing our two first mortgage bond series outstanding contain "make-whole" provisions (pre-payment penalties that charge for lost interest), which render refinancing impracticable until sometime after 2012.
Controls and Procedures
Disclosure Controls and Procedures
In accordance with Exchange Act Rules 13a-15 and 15d-15, we carried out an evaluation, under the supervision and with the participation of management, including our CEO and CFO, of the effectiveness of our disclosure controls and procedures as of March 31, 2009. Based on evaluation, our CEO and CFO have concluded that, as of March 31, 2009, our disclosure controls and procedures were effective.
Changes in Internal Control over Financial Reporting
There have not been any changes in the Companys internal control over financial reporting during the fiscal quarter ended March 31, 2009 that have materially affected, or are reasonably likely to materially affect, the Companys internal control over financial reporting.
The risk factors should be read in conjunction with those included in our most recent Form 10-K for the year ending December 31, 2008.
Agreement and Plan of Merger between Florida Public Utilities Company and Chesapeake Utilities Corporation, a Delaware corporation, and its wholly owned subsidiary, CPK Pelican, Inc., a Florida corporation. (incorporated by reference to Exhibit 2.1 to our Form 8-K filed on April 17, 2009).
Restated Articles of Incorporation (incorporated herein by reference as Exhibit 3.2 on Form 8-K filed November 10, 2008).
Restated By-Laws (incorporated herein by reference as 3.1 on Form 8-K filed November 10, 2008).
Indenture of Mortgage and Deed of Trust of FPU dated as of September 1, 1942 (incorporated by reference herein to Exhibit 7-A to Registration No. 2-6087).
Fourteenth Supplemental Indenture dated September 1, 2001 (incorporated by reference to exhibit 4.2 on our annual report on Form 10-K for the year ended December 31, 2001).
Fifteenth Supplemental Indenture dated November 1, 2001 (incorporated by reference to exhibit 4.3 on our annual report on Form 10-K for the year ended December 31, 2001).
Certification of Chief Executive Officer (CEO) per Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer (CFO) per Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Principal Executive Officer and Principal Financial Officer per Section 906 of the Sarbanes-Oxley Act of 2002.
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.
FLORIDA PUBLIC UTILITIES COMPANY
Date: May 15, 2009
By: /s/ George M. Bachman
George M. Bachman
Chief Financial Officer
(Principal Accounting Officer)
FLORIDA PUBLIC UTILITIES COMPANY
Certification of Chief Executive Officer (CEO) per Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer (CFO) per Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Principal Executive Officer and Principal Financial Officer per Section 906 of the Sarbanes-Oxley Act of 2002.