Table of Contents

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

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

 

For the quarterly period ended September 30, 2013

 

OR

 

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

 

For the transition period from                    to

 

Commission file number 1-13883

 

CALIFORNIA WATER SERVICE GROUP

(Exact name of registrant as specified in its charter)

 

 

408-367-8200

(Registrant’s telephone number, including area code)

 

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

 

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

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

Indicate by check mark whether the registrant is a shell company (as defined in rule 12b-2 of the Exchange Act) Yes o No x

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Common shares outstanding as of October 31, 2013 — 47,739,024

 

 

Table of Contents

 

TABLE OF CONTENTS

 

	Page
PART I Financial Information	3
Item 1 Financial Statements	3
Condensed Consolidated Balance Sheets (unaudited) as of September 30, 2013 and December 31, 2012	3
Condensed Consolidated Statements of Income (unaudited) For the Three months Ended September 30, 2013 and 2012	4
Condensed Consolidated Statements of Income (unaudited) For the Nine months Ended September 30, 2013 and 2012	5
Condensed Consolidated Statements of Cash Flows (unaudited) For the Nine months Ended September 30, 2013 and 2012	6
Notes to Unaudited Condensed Consolidated Financial Statements	7
Item 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations	23
Item 3 Quantitative and Qualitative Disclosure about Market Risk	34
Item 4 Controls and Procedures	34
PART II Other Information
Item 1 Legal Proceedings	35
Item 1A Risk Factors	35
Item 5 Other Information	36
Item 6 Exhibits	36
Signatures	37
Exhibit Index	38

 

2

Table of Contents

 

PART I FINANCIAL INFORMATION

 

Item 1.

 

FINANCIAL STATEMENTS

 

The condensed consolidated financial statements presented in this filing on Form 10-Q have been prepared by management and are unaudited.

 

CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATED BALANCE SHEETS

 

Unaudited

(In thousands, except per share data)

 

		September 30, 2013			December 31, 2012
ASSETS
Utility plant:
Utility plant		$	2,190,573		$	2,096,363
Less accumulated depreciation and amortization		(685,351		)	(639,307		)
Net utility plant		1,505,222			1,457,056
Current assets:
Cash and cash equivalents		48,847			38,790
Receivables: net of allowance for doubtful accounts of $815 as of September 30, 2013 and $714 as of December 31, 2012
Customers		42,979			29,958
Regulatory balancing accounts		27,047			34,020
Other		9,802			11,943
Unbilled revenue		25,815			15,394
Materials and supplies at weighted average cost		5,689			5,874
Taxes, prepaid expenses and other assets		10,373			10,585
Total current assets		170,552			146,564
Other assets:
Regulatory assets		354,879			344,419
Goodwill		2,615			2,615
Other assets		50,165			45,270
Total other assets		407,659			392,304
		$	2,083,433		$	1,995,924
CAPITALIZATION AND LIABILITIES
Capitalization:
Common stock, $.01 par value; 68,000,000 shares authorized, 47,739,024 and 41,908,218 outstanding in 2013 and 2012, respectively		$	477		$	419
Additional paid-in capital		327,890			221,013
Retained earnings		271,887			252,280
Total common stockholders’ equity		600,254			473,712
Long-term debt, less current maturities		430,227			434,467
Total capitalization		1,030,481			908,179
Current liabilities:
Current maturities of long-term debt		48,013			46,783
Short-term borrowings		11,515			89,475
Accounts payable		60,414			47,199
Regulatory balancing accounts		1,699			5,018
Accrued interest		10,656			4,705
Accrued expenses and other liabilities		64,716			49,887
Total current liabilities		197,013			243,067
Unamortized investment tax credits		2,180			2,180
Deferred income taxes, net		168,091			158,846
Pension and postretirement benefits other than pensions		247,335			244,901
Regulatory and other liabilities		91,185			92,593
Advances for construction		184,879			187,584
Contributions in aid of construction		162,269			158,574
Commitments and contingencies
		$	2,083,433		$	1,995,924

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

3

Table of Contents

 

CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

 

Unaudited

(In thousands, except per share data)

 

For the three months ended		September 30, 2013			September 30, 2012
Operating revenue		$	184,404		$	178,135
Operating expenses:
Operations:
Water production costs		70,614			66,489
Administrative and general		24,670			23,925
Other operations		17,657			17,658
Maintenance		4,575			4,377
Depreciation and amortization		14,505			13,720
Income taxes		11,165			10,387
Property and other taxes		5,414			5,218
Total operating expenses		148,600			141,774
Net operating income		35,804			36,361
Other income and expenses:
Non-regulated revenue		3,649			3,756
Non-regulated expenses, net		(2,825		)	(2,697		)
Income tax (expense) on other income and expenses		(330		)	(422		)
Net other income		494			637
Interest expense:
Interest expense		7,687			8,024
Less: capitalized interest		(540		)	(798		)
Net interest expense		7,147			7,226
Net income		$	29,151		$	29,772
Earnings per share
Basic		$	0.61		$	0.71
Diluted		$	0.61		$	0.71
Weighted average shares outstanding
Basic		47,737			41,905
Diluted		47,770			41,905
Dividends declared per share of common stock		$	0.16000		$	0.15750

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

4

Table of Contents

 

CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

 

Unaudited

(In thousands, except per share data)

 

For the nine months ended		September 30, 2013			September 30, 2012
Operating revenue		$	450,403		$	438,436
Operating expenses:
Operations:
Water production costs		171,956			158,119
Administrative and general		73,106			69,110
Other operations		50,332			59,213
Maintenance		12,896			14,742
Depreciation and amortization		43,625			41,383
Income taxes		19,567			19,477
Property and other taxes		16,564			13,802
Total operating expenses		388,046			375,846
Net operating income		62,357			62,590
Other income and expenses:
Non-regulated revenue		10,386			11,943
Non-regulated expenses, net		(8,482		)	(8,491		)
Income tax (expense) on other income and expenses		(765		)	(1,383		)
Net other income		1,139			2,069
Interest expense:
Interest expense		23,527			23,484
Less: capitalized interest		(1,619		)	(2,647		)
Net interest expense		21,908			20,837
Net income		$	41,588		$	43,822
Earnings per share
Basic		$	0.91		$	1.05
Diluted		$	0.90		$	1.05
Weighted average shares outstanding
Basic		45,927			41,886
Diluted		45,957			41,886
Dividends declared per share of common stock		$	0.4800		$	0.47250

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

5

Table of Contents

 

CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

Unaudited

(In thousands)

 

For the nine months ended:		September 30, 2013			September 30, 2012
Operating activities
Net income		$	41,588		$	43,822
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		45,067			42,722
Change in value of life insurance contracts		(1,147		)	(2,244		)
Other changes in noncurrent assets and liabilities		13,501			28,411
Changes in operating assets and liabilities:
Receivables		(24,636		)	(34,462		)
Accounts payable		7,719			13,066
Other current assets		(751		)	(2,491		)
Other current liabilities		20,558			10,581
Net cash provided by operating activities		101,899			99,405
Investing activities:
Utility plant expenditures		(94,782		)	(99,600		)
Purchase of life insurance		(3,204		)	(3,199		)
Restricted cash decrease		1,148			1,553
Net cash (used in) investing activities		(96,838		)	(101,246		)
Financing activities:
Short-term borrowings		35,315			65,565
Repayment of short-term borrowing		(113,275		)	(52,030		)
Proceeds from long-term debt		48			123
Repayment of long-term debt		(3,058		)	(2,123		)
Advances and contributions in aid of construction		7,577			5,491
Refunds of advances for construction		(5,230		)	(5,632		)
Issuance of common stock		110,688			—
Common stock issuance cost		(5,088		)	—
Dividends paid		(21,981		)	(19,785		)
Net cash provided by (used in) financing activities		4,996			(8,391		)
Change in cash and cash equivalents		10,057			(10,232		)
Cash and cash equivalents at beginning of period		38,790			27,203
Cash and cash equivalents at end of period		$	48,847		$	16,971
Supplemental information
Cash paid for interest (net of amounts capitalized)		$	15,141		$	13,721
Cash paid for income taxes		$	—		$	—
Refund for income taxes		$	—		$	(3,498	)
Supplemental disclosure of non-cash activities:
Accrued payables for investments in utility plant		$	11,739		$	9,654
Utility plant contribution by developers		$	10,196		$	11,868

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

6

Table of Contents

 

CALIFORNIA WATER SERVICE GROUP

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2013

(Amounts in thousands, except share and per share amounts)

 

Note 1. Organization and Operations and Basis of Presentation

 

California Water Service Group (the Company) is a holding company that provides water utility and other related services in California, Washington, New Mexico and Hawaii through its 100% owned subsidiaries. California Water Service Company (Cal Water), Washington Water Service Company (Washington Water), New Mexico Water Service Company (New Mexico Water), and Hawaii Water Service Company, Inc. (Hawaii Water) provide regulated utility services under the rules and regulations of their respective state’s regulatory commissions (jointly referred to herein as the Commissions). CWS Utility Services and HWS Utility Services LLC provide non-regulated water utility and utility-related services.

 

The Company operates in one reportable segment, providing water and related utility services.

 

Basis of Presentation

 

The unaudited interim financial information has been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information and in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X promulgated by the Securities and Exchange Commission (SEC) and therefore do not contain all of the information and footnotes required by GAAP and the SEC for annual financial statements. The condensed consolidated financial statements should be read in conjunction with the Company’s consolidated financial statements for the year ended December 31, 2012, included in its annual report on Form 10-K as filed with the SEC on February 28, 2013.

 

The preparation of the Company’s condensed consolidated financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the balance sheet dates and the reported amounts of revenues and expenses for the periods presented. These include, but are not limited to, estimates and assumptions used in determining the Company’s regulatory asset and liability balances based upon probability assessments of regulatory recovery, revenues earned but not yet billed, asset retirement obligations, allowance for doubtful accounts, pension and other employee benefit plan liabilities, and income tax-related assets and liabilities.  Actual results could differ from these estimates.

 

In the opinion of management, the accompanying condensed consolidated financial statements reflect all adjustments, consisting of normal recurring accruals that are necessary to provide a fair presentation of the results for the periods covered. The results for interim periods are not necessarily indicative of the results for any future period.

 

Due to the seasonal nature of the water business, the results for interim periods are not indicative of the results for a 12-month period. Revenue and income are generally higher in the warm, dry summer months when water usage and sales are greater. Revenue and income are lower in the winter months when cooler temperatures and rainfall curtail water usage and sales.

 

The Company evaluated its operations through the time these financials were issued and determined there were no subsequent events requiring adjustments or disclosures as of the time these financial statements were issued.

 

Note 2. Summary of Significant Accounting Policies

 

Revenue

 

Revenue generally includes monthly cycle customer billings for regulated water and wastewater services at rates authorized by regulatory commissions (plus an estimate for water used between the customer’s last meter reading and the end of the accounting period) and billings to certain non-regulated customers at rates authorized by contract with government agencies.

 

The Company’s regulated water and waste water revenue requirements are authorized by the Commissions in the states in which it operates. The revenue requirements are intended to provide the Company a reasonable opportunity to recover its operating costs and earn a return on investments.

 

7

Table of Contents

 

For metered customers, Cal Water recognizes revenue from rates which are designed and authorized by the California Public Utilities Commission (CPUC). Under the Water Revenue Adjustment Mechanism (WRAM), Cal Water records the adopted level of volumetric revenues, which would include recovery of cost of service and a return on investments, as established by the CPUC for metered accounts (adopted volumetric revenues). In addition to volumetric-based revenues, the revenue requirements approved by the CPUC include service charges, flat rate charges, and other items not subject to the WRAM. The adopted volumetric revenue considers the seasonality of consumption of water based upon historical averages. The variance between adopted volumetric revenues and actual billed volumetric revenues for metered accounts is recorded as a component of revenue with an offsetting entry to a regulatory asset or liability balancing account (tracked individually for each Cal Water district) subject to certain criteria under the accounting for regulated operations being met. The variance amount may be positive or negative and represents amounts that will be billed or refunded to customers in the future.

 

Cost-recovery rates are designed to permit full recovery of certain costs allowed to be recovered by the Commissions. Cost-recovery rates such as the Modified Cost Balancing Account (MCBA) provides for recovery of adopted expense levels for purchased water, purchased power and pump taxes, as established by the CPUC. In addition, cost-recovery rates include recovery of cost related to water conservation programs and certain other operation expenses adopted by the CPUC. Variances (which include the effects of changes in both rate and volume for the MCBA) between adopted and actual costs are recorded as a component of revenue, as the amount of such variances will be recovered from or refunded to our customers at a later date. There is no markup for return or profit for cost-recovery expenses and they are generally recognized when expenses are incurred.

 

The balances in the WRAM and MCBA assets and liabilities accounts will fluctuate on a monthly basis depending upon the variance between adopted and actual results. The recovery or refund of the WRAM is netted against the MCBA over- or under-recovery for the corresponding district and is interest bearing at the current 90 day commercial paper rate. At the end of any calendar year, Cal Water files with the CPUC to refund or collect the balance in the accounts. Most undercollected net WRAM and MCBA receivable balances are collected over 12 and 18 months. Cal Water defers net WRAM and MCBA operating revenues and associated costs whenever the net receivable balances are estimated to be collected more than 24 months after the respective reporting periods in which it was recognized. The deferred net WRAM and MCBA revenues and associated costs were determined using forecasts of rate payer consumption trends in future reporting periods and the timing of when the CPUC will authorize Cal Water’s filings to recover the undercollected balances. Deferred net WRAM and MCBA revenues and associated costs will be recognized as revenues and costs in future periods when collection is within twenty-four months of the respective reporting period.

 

The change to deferred net WRAM and MCBA balances during the nine months ended September 30, 2013 was:

 

		Operating Revenues			Operating Costs			Income Before Income Taxes
Net WRAM and MCBA deferral as of December 31, 2012		$	882		$	719		$	163
Less: reversal of prior year deferral during the nine months ended September 30, 2013		(1,911		)	(1,603		)	(308		)
Add: net WRAM and MCBA deferral during the nine months ended September 30, 2013		2,764			2,375			389
Net amount during the nine months ended September 30, 2013		853			772			81
Net WRAM and MCBA deferral as of September 30, 2013		$	1,735		$	1,491		$	244

 

The change to deferred net WRAM and MCBA balances during the nine months ended September 30, 2012 was:

 

		Operating Revenues			Operating Costs			Income Before Income Taxes
Net WRAM and MCBA deferral as of December 31, 2011		$	12,864		$	10,492		$	2,372
Less: reversal of prior year deferral during the nine months ended September 30, 2012		(12,295		)	(10,027		)	(2,268		)
Add: net WRAM and MCBA deferral during the nine months ended September 30, 2012		939			766			173
Net amount during the nine months ended September 30, 2012		(11,356		)	(9,261		)	(2,095		)
Net WRAM and MCBA deferral as of September 30, 2012		$	1,508		$	1,231		$	277

 

8

Table of Contents

 

The net WRAM and MCBA under- or overcollected balances are:

 

		September 30, 2013			December 31, 2012
Net short-term regulatory balancing accounts (receivable)		$	27,047		$	34,020
Net long-term regulatory assets (receivable)		21,925			12,051
Total regulatory assets		$	48,972		$	46,071
Net short-term regulatory balancing accounts (liability)		$	174		$	371
Net long-term regulatory liability		108			119
Total regulatory liabilities		$	282		$	490

 

Flat rate customers are billed in advance at the beginning of the service period. The revenue is prorated so that the portion of revenue applicable to the current period is included in that period’s revenue, with the balance recorded as unearned revenue on the balance sheet and recognized as revenue when earned in the subsequent accounting period. Unearned revenue liability was $1.5 million and $1.7 million as of September 30, 2013 and December 31, 2012, respectively. This liability is included in “accrued expenses and other liabilities” on the condensed consolidated balance sheets.

 

Cash and Cash Equivalents

 

Cash equivalents include highly liquid investments with maturities of three months or less.  Cash and cash equivalents was $48.8 million and $38.8 million as of September 30, 2013 and December 31, 2012, respectively.  Restricted cash is included in “taxes, prepaid expenses and other assets” and was $1.1 million and $2.3 million as of September 30, 2013 and December 31, 2012, respectively.

 

Adoption of New Accounting Standards

 

On February 1, 2013, the Financial Accounting Standards Board issued an accounting standards update (ASU) for the recognition, measurement, and disclosure of obligations resulting from joint and several liability arrangements.  The ASU would impact the Company’s recognition, measurement, and disclosure requirements for guarantees of third party debt.  The ASU effective date for the Company’s interim and annual reporting is January 1, 2014.  The Company has completed a review of all contracts and has not identified any joint and several liability arrangements.

 

Note 3. Stock-based Compensation

 

Equity Incentive Plan

 

The Company’s equity incentive plan was approved by stockholders on April 27, 2005.  The Company is authorized to issue awards up to 2,000,000 shares of common stock.

 

During the nine months ended September 30, 2013 and 2012, the Company granted annual Restricted Stock Awards (RSAs) of 72,891 and 98,422 shares, respectively, of common stock to officers and directors of the Company and no RSAs were cancelled. Employee RSAs granted in 2013 vest over 36 months and RSAs granted in 2012 vest over 48 months.  Director RSAs generally vest at the end of 12 months. During the first nine months of 2013 and 2012, the shares granted were valued at $20.66 and $17.96 per share, respectively, based upon the fair market value of the Company’s common stock on the date of grant.

 

On March 1, 2013, the Company granted performance-based Restricted Stock Unit Awards (RSUs) of 50,267 shares of common stock to officers.  Each award reflects a target number of shares that may be issued to the award recipient.  The awards may be earned upon the completion of the three-year performance period ending February 28, 2016.  Whether RSUs are earned at the end of the performance period will be determined based on the achievement of certain performance objectives set by the Board of Director Compensation Committee in connection with the issuance of the RSUs.  The performance objectives are based on the Company’s business plan covering the performance period.  The performance objectives include achieving the budgeted return on equity, budgeted investment in utility plant, customer service standards, and water quality standards.  Depending on the results achieved during the three-year performance period, the actual number of shares that a grant recipient receives at the end of the performance period may range from 0% to 200% of the target shares granted, provided that the grantee is continuously employed by the Company through the vesting date.  If prior to the vesting date employment is terminated by reason of death, disability or normal retirement, then a pro rata portion of this award will vest.  RSUs are not included in diluted shares for financial reporting until earned.  The RSUs are recognized as expense ratably over the three year performance period using a fair market value of $20.62 per share and an estimate of RSUs earned during the performance period.

 

9

Table of Contents

 

The Company has recorded compensation costs for the RSAs and RSUs which are included in operating expense in the amount of $1.3 million and $1.1 million for the nine months ended September 30, 2013 and September 30, 2012, respectively.  The Company has recorded compensation costs for the RSAs and RSUs in operating expense in the amount of $0.5 million and $0.3 million for the three months ended September 30, 2013 and September 30, 2012, respectively.

 

Note 4. Equity

 

The Company’s changes in equity for the nine months ended September 30, 2013 were as follows:

 

		Total Stockholders’ Equity
Balance at December 31, 2012		$	473,712
Common stock issued, net		105,600
Share-based compensation expense		1,335
Common stock dividends declared		(21,981		)
Net income		41,588
Balance at September 30, 2013		$	600,254

 

On March 26, 2013, the Company sold 5,750,000 shares of its common stock in an underwritten public offering for cash proceeds of $105.6 million, net of $5.1 million underwriting discounts and commissions and offering expenses. The net proceeds from the sale of common stock were added to our general funds to be used for general corporate purposes.  In April 2013, the Company used a portion of the net proceeds from the offering to repay outstanding borrowings on the Company and Cal Water lines of credit of $68.3 million and $25.0 million, respectively.

 

Note 5. Earnings Per Share Calculations

 

The computations of basic and diluted earnings per share are noted below. Basic earnings per share are computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflect the potential dilution that could occur if securities or other contracts were exercised or converted into common stock. RSAs are included in the common shares outstanding because the shares have all the same voting and dividend rights as issued and unrestricted common stock.

 

A total of 283,856 shares of Stock Appreciation Rights were vested and outstanding and all were dilutive as of September 30, 2013 and anti-dilutive as of September 30, 2012 as shown in the tables below.

 

		Three months Ended September 30
		2013			2012
Net income available to common stockholders		$	29,151		$	29,772
Weighted average common shares, basic		47,737			41,905
Dilutive common stock appreciation rights (treasury method)		33			—
Shares used for dilutive computation		47,770			41,905
Net income per share - basic		$	0.61		$	0.71
Net income per share - diluted		$	0.61		$	0.71

 

		Nine months Ended September 30
		2013			2012
Net income available to common stockholders		$	41,588		$	43,822
Weighted average common shares, basic		45,927			41,886
Dilutive common stock appreciation rights (treasury method)		30			—
Shares used for dilutive computation		45,957			41,886
Net income per share - basic		$	0.91		$	1.05
Net income per share - diluted		$	0.90		$	1.05

 

10

Table of Contents

 

Note 6. Pension Plan and Other Postretirement Benefits

 

The Company provides a qualified, defined-benefit, non-contributory pension plan for substantially all employees. The Company makes annual contributions to fund the amounts accrued for the qualified pension plan. The Company also maintains an unfunded, non-qualified, supplemental executive retirement plan. The costs of the plans are charged to expense or are capitalized in utility plant as appropriate.

 

The Company offers medical, dental, vision, and life insurance benefits for retirees and their spouses and dependents. Participants are required to pay a premium, which offsets a portion of the cost.

 

Cash payments by the Company related to pension plans and other postretirement benefit plans were $28.1 million for the nine months ended September 30, 2013 and $25.5 million for the nine months ended September 30, 2012. The 2013 estimated cash contribution to the pension plans is $31.1 million and to the other postretirement benefit plans is $7.2 million.

 

The following table lists components of net periodic benefit costs for the pension plans and other postretirement benefits. The data listed under “pension plan” includes the qualified pension plan and the non-qualified supplemental executive retirement plan. The data listed under “other benefits” is for all other postretirement benefits.

 

		Three months Ended September 30
		Pension Plan						Other Benefits
		2013			2012			2013			2012
Service cost		$	4,019		$	3,863		$	1,636		$	1,374
Interest cost		4,140			3,822			1,121			986
Expected return on plan assets		(3,559		)	(2,890		)	(600		)	(458		)
Recognized net initial APBO (1)		N/A			N/A			3			69
Amortization of prior service cost		1,542			1,571			21			29
Recognized net actuarial loss		2,404			2,000			961			793
Net periodic benefit cost		$	8,546		$	8,366		$	3,142		$	2,793

 

		Nine months Ended September 30
		Pension Plan						Other Benefits
		2013			2012			2013			2012
Service cost		$	13,335		$	11,588		$	5,025		$	4,121
Interest cost		12,266			11,465			3,339			2,958
Expected return on plan assets		(10,689		)	(8,669		)	(1,796		)	(1,374		)
Recognized net initial APBO (1)		N/A			N/A			7			207
Amortization of prior service cost		4,624			4,712			61			87
Recognized net actuarial loss		6,852			6,001			2,794			2,379
Net periodic benefit cost		$	26,388		$	25,097		$	9,430		$	8,378

(1)      APBO - Accumulated postretirement benefit obligation

 

Note 7. Short-term and Long-term Borrowings

 

On June 29, 2011, the Company and Cal Water entered into Syndicated Credit Facilities, which provide for unsecured revolving credit facilities of up to an initial aggregate amount of $400 million.  The Syndicated Credit Facilities amend, expand, and replace the Company’s and its subsidiaries’ existing credit facilities originally entered into on October 27, 2009.  The new credit facilities extended the terms until June 29, 2016, increased the Company’s and Cal Water’s unsecured revolving lines of credit, and lowered interest rates and fees.  The Company and subsidiaries which it designates may borrow up to $100 million under the Company’s revolving credit facility. Cal Water may borrow up to $300 million under its revolving credit facility; however, all borrowings need to be repaid within 12-months unless otherwise authorized by the CPUC.  The proceeds from the revolving credit facilities may be used for working capital purposes, including the short-term financing of capital projects.  The base loan rate may vary from LIBOR plus 72.5 basis points to LIBOR plus 95 basis points, depending on the Company’s total capitalization ratio.  Likewise, the unused commitment fee may vary from 8 basis points to 12.5 basis points based on the same ratio.

 

Both short-term unsecured credit agreements contain affirmative and negative covenants and events of default customary for credit facilities of this type including, among other things, limitations and prohibitions relating to additional indebtedness, liens, mergers, and asset sales. Also, these unsecured credit agreements contain financial covenants governing the Company and its subsidiaries’ consolidated total capitalization ratio and interest coverage ratio. As of September 30, 2013, the Company and Cal Water have met all borrowing covenants for both credit agreements.

 

11

Table of Contents

 

As of September 30, 2013 and December 31, 2012, the outstanding borrowings on the Company lines of credit were $11.5 million and $64.5 million, respectively, and the outstanding borrowings on the Cal Water lines of credit were zero million and $25.0 million, respectively.  For the nine months ended September 30, 2013, the average borrowing rate was 2.2% compared to 1.7% for the same period last year.

 

Note 8. Income Taxes

 

The Company accounts for income taxes using the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Measurement of the deferred tax assets and liabilities is at enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the period that includes the enactment date.

 

The Company anticipates that future rate actions by the regulatory commissions will reflect revenue requirements for the tax effects of temporary differences recognized, which have previously been passed through to customers. The regulatory commissions have granted us rate increases to reflect the normalization of the tax benefits of the federal accelerated methods and available Investment Tax Credits (ITCs) for all assets placed in service after 1980. ITCs are deferred and amortized over the lives of the related properties for book purposes.

 

During the third quarter of 2013, the Company recorded $4.4 million of State of California enterprise zone (EZ) credits for sales and use taxes and hiring incentives for the period from 2008 to 2013 based on an analysis of all district operations.    The Company filed amended state income tax returns for tax years 2008, 2009, 2010 and 2011.  The State of California EZ credits were included on the Company’s 2012 state income tax returns filed during the fourth quarter of 2013. Unused State of California EZ credits, if any, can be carried-forward ten years.  The Company estimates the carried-forward portion of its State of California EZ credits at $2.3 million.  The Company’s analysis of State of California EZ credits as of September 30, 2013 resulted in the recognition of a  $0.6 million liability for unrecognized tax benefits.

 

During 2012, the Company filed an application for a change in accounting method (section 481 adjustment) with the Internal Revenue Service (IRS) to implement the repairs and maintenance deduction.   These tax regulations allowed the Company to deduct a significant amount of water main costs previously capitalized for book and tax purposes.  The 2012 repairs and maintenance deductions resulted in a federal net operating loss (NOL) of $38.8 million and state NOL of $58.4 million.  On September 19, 2013, the U. S. Department of the Treasury and IRS issued final and re-proposed tangible property regulations with an effective date of January 1, 2014.  An application for a change in accounting method can be filed to adopt the new tax regulations before January 1, 2014.  The final and re-proposed tangible property regulations will provide the Company with additional repairs and maintenance deductions for equipment such as fire hydrants, pumps, meters, and carbon filters.  The Company does not expect any material changes to the previous filed method change as a result of the early adoption.  The Company estimated 2013 equipment repairs and maintenance deductions of $5.0 million and recorded the estimate as of September 30, 2013.  The 2012 federal and state income tax NOLs were carried-forward to reduce 2013 income tax payments. The NOL carry-forward amounts are more likely than not to be recovered and therefore require no valuation allowance.  The NOL carry-forward does not begin to expire until 2033.

 

The American Taxpayer Relief Act of 2012 provided the Company with additional 50% first-year bonus depreciation for assets placed in service from December 31, 2012 to December 31, 2013. The federal income tax bonus deduction was estimated at $10.0 million in 2013 and was $14.5 million in 2012.

 

On October 24, 2013, the IRS completed an  audit of the Company’s 2010 and 2011 federal income tax returns with no changes to our previously reported taxes.

 

Note 9. Regulatory Assets and Liabilities

 

During 2011, the CPUC issued a decision regarding the $34.2 million of litigation proceeds previously received by Cal Water during 2008 which is being used to replace infrastructure damaged by the gasoline additive Methyl tert-butyl ether (MTBE). The decision requires use of these proceeds for costs incurred as a result of MTBE contamination with any related benefits to be provided to Cal Water customers. Such usage includes transfer of the amount to contributions in aid of construction (CIAC) for remediation or replacement project costs once complete. Usage of the proceeds is reported to the CPUC through an Advice Letter or General Rate Case filing. As of December 31, 2012, $22.4 million of the proceeds was recorded as CIAC.  Cal Water used $0.8 million of the net proceeds to replace damaged infrastructure during the third quarter of 2013.  The remaining balance of $9.8 million at September 30, 2013 is included in regulatory and other liabilities.

 

12

Table of Contents

 

During 2011, Cal Water added balancing accounts for its pension plans and conservation program. Both balancing account effective dates were January 1, 2011. The pension plans balancing account is a two-way balancing account that tracks the differences between actual expenses and adopted rate recovery which will result in either a regulatory asset or liability. The conservation program is a one-way balancing account that tracks the differences between actual expenses and adopted rate recovery which may result in a regulatory liability if actual conservation expenses are less than adopted over the three year period ending December 31, 2013. As of September 30, 2013 and December 31, 2012, the pension balancing account was a regulatory asset of $2.3 million and $2.4 million, respectively.  The conservation balancing account was a regulatory liability of $7.7 million and $6.5 million as of September 30, 2013 and December 31, 2012, respectively.

 

Note 10. Commitment and Contingencies

 

Commitments

 

The Company has significant commitments to lease certain office spaces and water systems and to purchase water from water wholesalers. These commitments are described in Form 10-K for the year ended December 31, 2012.  As of September 30, 2013, there were no significant changes from December 31, 2012.

 

Contingencies

 

Groundwater Contamination

 

The Company has undertaken litigation against third parties to recover past and future costs related to ground water contamination in our service areas. The cost of litigation is expensed as incurred and any settlement is first offset against such costs. The Company records gain contingencies as a regulatory liability when the net litigation proceeds are received.  The Commission’s general policy requires all proceeds from contamination litigation to be used first to pay transactional expenses, then to make ratepayers whole for water treatment costs to comply with the Commission’s water quality standards. The Commission allows for a risk-based consideration of contamination proceeds which exceed the costs of the remediation described above and may result in some sharing of proceeds with the shareholder, determined on a case by case basis. The Commission has authorized various memorandum accounts that allow the Company to track significant litigation costs to request recovery of these costs in future filings and uses of proceeds to comply with Commission’s general policy.

 

Other Legal Matters

 

From time to time, the Company is involved in various disputes and litigation matters that arise in the ordinary course of business. The status of each significant matter is reviewed and assessed for potential financial exposure. If the potential loss from any claim or legal proceeding is considered probable and the amount of the range of loss can be estimated, a liability is accrued for the estimated loss in accordance with the accounting standards for contingencies. Legal proceedings are subject to uncertainties, and the outcomes are difficult to predict. Because of such uncertainties, accruals are based on the best information available at the time. While the outcome of these disputes and litigation matters cannot be predicted with any certainty, management does not believe when taking into account existing reserves the ultimate resolution of these matters will materially affect the Company’s financial position, results of operations, or cash flows.  The Company has recognized a liability of $1.1 million for all known legal matters as of September 30, 2013 and December 31, 2012.  The cost of litigation is expensed as incurred and any settlement is first offset against such costs.  Any settlement in excess of the cost to litigate is accounted for on a case by case basis, dependant on the nature of the settlement.

 

Note 11. Fair Value of Financial Assets and Liabilities

 

The accounting guidance for fair value measurements and disclosures provides a single definition of fair value and requires certain disclosures about assets and liabilities measured at fair value. A hierarchal framework for disclosing the observability of the inputs utilized in measuring assets and liabilities at fair value is established by this guidance. The three levels in the hierarchy are as follows:

 

Level 1 -		Quoted prices are available in active markets for identical assets or liabilities as of the reporting date. The types of assets and liabilities included in Level 1 are highly liquid and actively traded instruments with quoted prices.
Level 2 -		Pricing inputs are other than quoted prices in active markets, but are either directly or indirectly observable as of the reporting date. The types of assets and liabilities included in Level 2 are typically either comparable to actively traded securities or contracts, or priced with discounted cash flow or option pricing models using highly observable inputs.

 

13

Table of Contents

 

Level 3 -		Significant inputs to pricing have little or no observability as of the reporting date. The types of assets and liabilities included in Level 3 are those valued with models requiring significant management judgment or estimation.

 

Specific valuation methods include the following:

 

Cash equivalents, accounts receivable, accounts payable, and short-term borrowings carrying amounts approximated the fair value because of the short-term maturity of the instruments.

 

Long-term debt fair values were estimated using the published quoted market price, if available, or the discounted cash flow analysis, based on the current rates available using a risk-free rate (a U.S. Treasury securities yield curve) plus a risk premium of 1.19%.

 

Advances for construction fair values were estimated using broker quotes from companies that frequently purchase these investments.

 

		September 30, 2013
					Fair Value
		Cost			Level 1			Level 2			Level 3			Total
Money Market Investment		$	48,847		$	48,847								$	48,847
Total		$	48,847		$	48,847								$	48,847
Long -term debt, including current maturities		$	478,240		$	—		$	570,058		$	—		$	570,058
Advances for construction		184,879			—			71,242			—			71,242
Total		$	663,119		$	—		$	641,300		$	—		$	641,300

 

		December 31, 2012
					Fair Value
		Cost			Level 1			Level 2			Level 3			Total
Long -term debt, including current maturities		$	481,250		$	—		$	613,211		$	—		$	613,211
Advances for construction		187,584			—			70,914			—			70,914
Total		$	668,834		$	—		$	684,125		$	—		$	684,125

 

Note 12. Condensed Consolidating Financial Statements

 

On April 17, 2009, Cal Water issued $100 million aggregate principal amount of 5.875% First Mortgage Bonds due 2019, and on November 17, 2010, Cal Water issued $100 million aggregate principal amount of 5.500% First Mortgage Bonds due 2040.  Each series of Cal Water’s First Mortgage Bonds is fully and unconditionally guaranteed by the Company.  As a result of these guarantee arrangements, we are required to present the following condensed consolidating financial information.

 

The tables below present the condensed consolidating balance sheets as of September 30, 2013 and December 31, 2012, the condensed consolidating statements of income for the three and nine months ended September 30, 2013 and 2012 and the condensed consolidating statements of cash flow for the nine months ended September 30, 2013 and 2012 of (i) California Water Service Group, the guarantor of the first mortgage bonds and the parent company; (ii) California Water Service Company, the issuer of the first mortgage bonds and a 100% owned subsidiary of California Water Service Group; and (iii) the other 100% owned subsidiaries of California Water Service Group.

 

14

Table of Contents

 

CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATING BALANCE SHEET

As of September 30, 2013

 

(In thousands)

 

		Parent Company			Cal Water			All Other Subsidiaries			Consolidating Adjustments			Consolidated
ASSETS
Utility plant:
Utility plant		$	1,246		$	2,013,475		$	183,049		$	(7,197	)	$	2,190,573
Less accumulated depreciation and amortization		(150		)	(650,679		)	(36,109		)	1,587			(685,351		)
Net utility plant		1,096			1,362,796			146,940			(5,610		)	1,505,222
Current assets:
Cash and cash equivalents		4,272			42,545			2,030			—			48,847
Receivables and unbilled revenue, net		—			100,810			4,833			—			105,643
Receivables from affiliates		28,964			5,539			181			(34,684		)	—
Other current assets		73			15,038			951			—			16,062
Total current assets		33,309			163,932			7,995			(34,684		)	170,552
Other assets:
Regulatory assets		—			352,232			2,647			—			354,879
Investments in affiliates		546,123			—			—			(546,123		)	—
Long-term affiliate notes receivable		30,252			—			—			(30,252		)	—
Other assets		1,196			44,610			7,179			(205		)	52,780
Total other assets		577,571			396,842			9,826			(576,580		)	407,659
		$	611,976		$	1,923,570		$	164,761		$	(616,874	)	$	2,083,433
CAPITALIZATION AND LIABILITIES
Capitalization:
Common stockholders’ equity		$	600,254		$	500,359		$	51,271		$	(551,630	)	$	600,254
Affiliate long-term debt		—			—			30,252			(30,252		)	—
Long-term debt, less current maturities		—			428,878			1,349			—			430,227
Total capitalization		600,254			929,237			82,872			(581,882		)	1,030,481
Current liabilities:
Current maturities of long-term debt		—			46,129			1,884			—			48,013
Short-term borrowings		11,515			—			—			—			11,515
Payables to affiliates		24			180			34,480			(34,684		)	—
Accounts payable		—			57,434			2,980			—			60,414
Accrued expenses and other liabilities		762			75,168			1,059			82			77,071
Total current liabilities		12,301			178,911			40,403			(34,602		)	197,013
Unamortized investment tax credits		—			2,180			—			—			2,180
Deferred income taxes, net		(579		)	164,716			4,344			(390		)	168,091
Pension and postretirement benefits other than pensions		—			247,335			—			—			247,335
Regulatory and other liabilities		—			82,416			8,769			—			91,185
Advances for construction		—			184,110			769			—			184,879
Contributions in aid of construction		—			134,665			27,604			—			162,269
		$	611,976		$	1,923,570		$	164,761		$	(616,874	)	$	2,083,433

 

15

Table of Contents

 

CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATING BALANCE SHEET

As of December 31, 2012

 

(In thousands)

 

		Parent Company			Cal Water			All Other Subsidiaries			Consolidating Adjustments			Consolidated
ASSETS
Utility plant:
Utility plant		$	606		$	1,927,190		$	175,764		$	(7,197	)	$	2,096,363
Less accumulated depreciation and amortization		(108		)	(607,992		)	(32,710		)	1,503			(639,307		)
Net utility plant		498			1,319,198			143,054			(5,694		)	1,457,056
Current assets:
Cash and cash equivalents		1,470			34,609			2,711			—			38,790
Receivables, net		—			87,482			3,833			—			91,315
Receivables from affiliates		19,367			3,195			1,152			(23,714		)	—
Other current assets		—			15,535			924			—			16,459
Total current assets		20,837			140,821			8,620			(23,714		)	146,564
Other assets:
Regulatory assets		—			341,877			2,542			—			344,419
Investments in affiliates		492,188			—			—			(492,188		)	—
Long-term affiliate notes receivable		31,218			7,781			—			(38,999		)	—
Other assets		1,023			40,005			7,062			(205		)	47,885
Total other assets		524,429			389,663			9,604			(531,392		)	392,304
		$	545,764		$	1,849,682		$	161,278		$	(560,800	)	$	1,995,924
CAPITALIZATION AND LIABILITIES
Capitalization:
Common stockholders’ equity		$	473,712		$	442,923		$	54,774		$	(497,697	)	$	473,712
Affiliate long-term debt		7,781			—			31,218			(38,999		)	—
Long-term debt, less current maturities		—			431,433			3,034			—			434,467
Total capitalization		481,493			874,356			89,026			(536,696		)	908,179
Current liabilities:
Current maturities of long-term debt		—			46,104			679			—			46,783
Short-term borrowings		64,475			25,000			—			—			89,475
Payables to affiliates		77			1,152			22,485			(23,714		)	—
Accounts payable		—			41,352			5,847			—			47,199
Accrued expenses and other liabilities		298			58,293			1,019			—			59,610
Total current liabilities		64,850			171,901			30,030			(23,714		)	243,067
Unamortized investment tax credits		—			2,180			—			—			2,180
Deferred income taxes, net		(579		)	155,481			4,334			(390		)	158,846
Pension and postretirement benefits other than pensions		—			244,901			—			—			244,901
Regulatory and other liabilities		—			83,942			8,651			—			92,593
Advances for construction		—			186,753			831			—			187,584
Contributions in aid of construction		—			130,168			28,406			—			158,574
		$	545,764		$	1,849,682		$	161,278		$	(560,800	)	$	1,995,924

 

16