Item 1. Business.
GENERAL
Mobile Gas Service Corporation (together with its subsidiaries, the "Company" or "Registrant", and exclusive of its subsidiaries, "Mobile Gas") was incorporated under the laws of the State of Alabama in 1933. The Company is engaged in the purchase, distribution, sale and transportation of natural gas to over 100,000 residential, commercial and industrial customers in southwest Alabama, including the City of Mobile and adjacent areas. The Company's service territory covers approximately 300 square miles. Mobile Gas is also involved in merchandise sales, specifically sales of natural gas appliances.
MGS Energy Services, Inc. ("MGS Energy"), a wholly-owned subsidiary, was incorporated in March 1983. Through MGS Energy, the Company provides contract and consulting work for utilities and industrial customers. MGS Energy owns a 51% interest in Southern Gas Transmission Company ("SGT"), an Alabama general partnership which was formed in November 1991. SGT was established to provide transportation services to the facilities of Alabama River Pulp Company, Inc. During fiscal year 1992, SGT constructed and began operating a 50-mile pipeline from the facilities of Koch Gateway Pipeline Company ("Koch"), formerly United Gas Pipe Line Company, near Flomaton, Alabama to the facilities of Alabama River Pulp Company, Inc. in Claiborne, Alabama.
MGS Storage Services, Inc. ("MGS Storage"), a wholly-owned subsidiary, was incorporated on December 4, 1991. MGS Storage holds a general partnership interest of 87 1/2% in Bay Gas Storage Company, Ltd. ("Bay Gas"), an Alabama limited partnership, and a 12 1/2% limited partnership interest is held by Olin Corporation. Bay Gas has constructed an underground gas storage cavern which is used to provide storage and delivery of natural gas for Mobile Gas and other customers.
MGS Marketing Services, Inc. ("MGS Marketing"), a wholly-owned subsidiary, was incorporated on March 5, 1993 to assist existing and potential customers in the purchase of natural gas.
CUSTOMERS
Of the approximately 100,000 customers of the Company, approximately 95% are residential customers. In the fiscal year ended September 30, 1997, approximately 64% of the Company's gas revenues was derived from residential sales, 13% from small commercial and industrial sales, 11% from large commercial and industrial sales, 10% from transportation services, and 2% from storage and miscellaneous services. Residential sales in 1997 accounted for approximately 13% of the total volume of gas delivered to the Company's customers, with small commercial and industrial, large commercial and industrial, and transportation deliveries accounting for approximately 3%, 5% and 79%, respectively. The ten largest customers of the Company accounted for approximately 11% of the Company's gross margin in fiscal 1997, with the largest accounting for approximately 2%. For further information
with respect to revenues from and deliveries to the various categories of the Company's customers, see Item 6, "Selected Financial Data".
In May 1995, the Company entered into a long-term contract with Tuscaloosa Steel Corporation to transport natural gas to a new iron ore reduction facility on a site located adjacent to downtown Mobile. In October 1997 the Company made the first deliveries of gas to Tuscaloosa Steel's facility. When fully operational in early 1998, that facility is expected to use approximately 40,000 MMBtu of gas per day, making Tuscaloosa Steel the largest volume user of natural gas on the Company's system. To fulfill its obligations under such contract, the Company has constructed approximately five miles of new high pressure pipeline and upgraded certain other segments of its existing facilities.
GAS SUPPLY
The Company is directly connected to two natural gas processing plants in south Mobile County. Mobile Gas has contracted for a portion of its firm supply directly with these producers. For the fiscal year ended September 30, 1997, the Company obtained approximately 90% of its gas supply from sources located in the Mobile Bay area, with the balance being obtained from interstate sources.
To encourage more competition among natural gas suppliers, the Federal Energy Regulatory Commission ("FERC") issued Order 636 in 1992. Order 636 required interstate pipelines to unbundle or separate gas sales, transportation and storage services. With the implementation of Order 636, most pipelines discontinued their traditional merchant function resulting in each local distribution company becoming responsible for obtaining all of its gas supply in the open market. While unbundling of these services allows a local distribution company, such as Mobile Gas, more flexibility in selecting and managing the type of services required to provide its customers with the lowest possible priced gas while maintaining a reliable gas supply, it also places additional responsibility on a distribution company to obtain its natural gas supply in the open market on a timely basis to fulfill commitments during peak demand periods. The Company believes that the Bay Gas storage facility, which had already been planned by the Company prior to Order 636, has enhanced its ability to respond to the changes in the industry brought about by Order 636.
The Company has a current peak day firm requirement of 129,870 MMBtus. Firm supply needs of 80,000 MMBtu/day are expected to be met through the withdrawal of gas from the storage facility owned by Bay Gas. The Company also has firm supply contracts with gas suppliers for 10,000 MMBtu/day until October 31, 2000, and 13,000 MMBtu/day until June 30, 2000, through the direct connections with Mobil and Shell's processing plants. Additionally, the Company has contracted for firm transportation and storage service ("No-Notice Service") for 26,870 MMBtu/day from Koch under agreements extending to April 1, 1999. In conjunction with the No-Notice Service, the Company has contracted with a gas supplier to provide firm gas supply through March 31, 1999.
GAS STORAGE
Construction of the Bay Gas storage facility was completed in 1994. The cavern is designed to hold up to 3.7 BCF of natural gas. At full capacity, approximately 1.3 BCF of the gas to be injected into the storage cavern, called "base gas," will remain in the cavern to provide sufficient pressure to maintain cavern integrity, and the remainder, approximately 2.4 BCF, represents working storage capacity. Bay Gas has pipeline interconnects with Florida Gas Transmission and Koch which provide access to interstate markets.
In 1994 Mobile Gas entered into a gas storage agreement with Bay Gas under which Bay Gas agreed to provide storage of approximately one-third of the working storage capacity for an initial period of 20 years. Under the Mobile Gas storage contract, injection and withdrawal capacity of 15,000 MMBtu/day and 80,000 MMBtu/day, respectively, is committed to Mobile Gas. At September 30, 1997, the storage facility's injection capacity was 35,000 MMBtu/day. In November 1996, Bay Gas completed the installation of additional dehydration equipment which increased the withdrawal capacity from 100,000 MMBtu/day to 260,000 MMBtu/day. An additional compressor will be added to increase the injection capacity if significant contracts are entered into which provide for firm injection services. There can be no assurance that Bay Gas will enter into additional contracts.
Under its agreements with Olin, Bay Gas has the right to develop up to 2 additional caverns on the property leased from Olin. Olin has the right, until Bay Gas makes certain required payments to Olin prior to commencement of the construction of a second cavern, to increase its ownership interest in Bay Gas by an additional 12 1/2%, by purchasing from MGS Storage such additional percentage at a price based on the book equity of MGS Storage in Bay Gas. The Company is unable to determine at this time whether additional caverns will be developed at the storage facility, but anticipates that an additional cavern would be considered with sufficient market demand.
COMPETITION
Gas Distribution Competition. The Company is not in significant direct competition with respect to the retail distribution of natural gas to residential, small commercial and small industrial customers within its service area. Electricity competes with natural gas for such uses as cooking, water heating and space heating.
The Company's large commercial and industrial customers with requirements of 200 MMBtu per day or more contract with the Company to transport customer-owned gas while other commercial and industrial customers buy natural gas from the Company. Some industrial customers have the capability to use either fuel oil, coal, wood chips or natural gas, and choose their fuel depending upon a number of factors, including the availability and price of such fuels. In recent years, the Company has had adequate supplies so that interruptible industrial customers that are capable of using alternative fuels have not had supplies curtailed, and the price of natural gas has remained at levels such that, in most cases, these industrial customers have chosen to use natural gas rather than other fuels. The Company's rate tariffs include a competitive fuel clause which allows the Company to adjust its rates to certain large commercial and industrial customers in order to compete with alternative energy sources. However, there can be no assurance that the current competitive advantage of natural gas over alternative fuels will continue. See "Rates and Regulation."
Due to the close proximity of various pipelines and gas processing plants to the Company's service area, there exists the possibility that current or prospective customers could install their own facilities and connect directly to a supply source and thereby "bypass" the Company's service. The Company believes that because it has worked closely with major industrial customers to meet those customers' needs, and because of its ability to provide competitive pricing under its rate tariffs, none of the Company's customers have bypassed its facilities to date. Although there can be no assurance as to future developments, the Company intends to continue its efforts to reduce the likelihood of bypass by offering competitive rates and services to such customers.
Gas Storage Competition. A number of types of competitors may provide services like or in competition with those of Bay Gas. These include, among others, natural gas storage facilities, natural gas aggregators (who rebundle services ordered unbundled by Order 636), and natural gas pipelines. Bay Gas believes that its strategic geographic location and its ability to charge market-based rates for interstate storage services will enable it to effectively compete with such competitors. See "Rates and Regulation."
RATES AND REGULATION
The Company's natural gas distribution operations are under the jurisdiction of the Alabama Public Service Commission ("APSC"). The APSC approves rates which are intended to permit the recovery of the cost of service including a return on investment. Rates are determined by reference to rate tariffs approved by the APSC in traditional rate proceedings or, for certain large customers, on a case-by-case basis. In addition, pursuant to APSC order, rates for a limited number of large industrial customers are determined on a privately negotiated basis. Beginning December 1, 1995, the Company also is allowed to recover costs associated with the Company's replacement of cast iron mains. This component of rates is adjusted annually through a filing with the APSC. The rates for service rendered by the Company are on file with the APSC. The APSC also approves the issuance of debt and equity securities and has supervision and regulatory authority over service, equipment, accounting, and other matters.
On June 10, 1996, the APSC authorized the Company to apply a temperature rate adjustment to customers' gas bills for the months of November through April. The temperature rate adjustment helps to level out the effects of temperature extremes on Company earnings by reducing high gas bills to customers in colder than normal weather and increasing gas revenues received by the Company in warmer than normal weather. The temperature rate adjustment was reflected in customers' gas bills during the months of November 1996 through April 1997.
The Company's tariffs include a purchased gas adjustment clause which allows the Company to pass on to certain of its customers increases or decreases in gas costs from those reflected in its tariff charges. Adjustments under such clauses require periodic filings with the APSC but do not require a general rate proceeding. Under the purchased gas adjustment clause, the Company has a competitive fuel clause which gives it the right to adjust its rates to certain large customers in order to compete with alternative energy sources. Any margin lost as a result of competitive fuel clause adjustments is recoverable from its other customers.
Gas deliveries to certain industrial customers are subject to regulation by the APSC through contract approval. The operations of SGT, which consist only of intrastate transportation of gas, are also regulated by the APSC.
Bay Gas is a regulated utility governed under the jurisdiction of the APSC. As a regulated utility, Bay Gas' intrastate storage contracts are subject to APSC approval. Operation of the storage cavern and well-head equipment are subject to regulation by the Oil and Gas Board of the State of Alabama. Bay Gas is allowed by FERC order to charge market-based rates for interstate storage services. Market-based rates allow Bay Gas to respond to market conditions and minimizes regulatory involvement in the setting of its rates for storage services.
The Company has been granted nonexclusive franchises to construct, maintain and operate a natural gas distribution system in the areas in which it operates. Except for the franchise granted by Mobile County, Alabama, which has no stated expiration date, the franchises have expiration dates, the earliest of which is in 2007. The Company has no reason to believe that the franchises will not be renewed upon expiration.
SEASONAL NATURE OF BUSINESS
The nature of the Company's business is highly seasonal and temperature-sensitive. As a result, the Company's operating results in any given period have historically reflected, in addition to other matters, the impact of weather, with colder temperatures resulting in increased sales by the Company. The substantial impact of this sensitivity to seasonal conditions has been reflected in the Company's results of operations. As discussed above under "Rates and Regulation Results of Operations" and below under "Management's Discussion and Analysis of Results of Operations and Financial Condition" the application of a temperature rate adjustment in customers' bills beginning in November 1996 will help to level out the effects of temperature extremes on results of operations.
Due to the seasonality of the Company's business, the generation of working capital is impaired during the summer months because of reduced gas sales. Cash needs during this period are met generally through short-term financing arrangements or the reduction of temporary investments as is common in the industry.
ENVIRONMENTAL ISSUES
The Company is subject to various federal, state and local laws and regulations relating to the environment, which have not had a material effect on the Company's financial position or results of operations.
Like many gas distribution companies, prior to the widespread availability of natural gas, the Company manufactured gas for sale to its customers. In contrast to some other companies which operated multiple manufactured gas plants, the Company and its predecessor operated only one such plant, which discontinued operations in 1933. The process for manufacturing gas produced by-products and residuals, such as coal tar, and certain remnants of these residuals are sometimes found at former gas manufacturing sites.
The Company conducted a preliminary assessment in 1994 of its former gas plant site and has tested certain waters in the vicinity of the site. The Company developed and has implemented a plan for the site based on the advice of its environmental consultants, which involves securing and monitoring the site, and continued testing. Based on the results of tests to date, the Company does not believe that the site currently poses any threat to human health or the environment. While no conclusion can be reached at this time as to whether any further remedial action might ultimately be required, based on currently available information, it is believed that any costs with respect to the site are likely to be immaterial, and the Company has therefore established no reserve for such costs in its financial statements. The Company intends that, should further investigation or changes in environmental laws or regulations require material expenditures for investigation, remediation, or clean-up with regard to the site, it would apply to the APSC for appropriate rate recovery of such costs. However, there can be no assurance that the APSC would approve the recovery of such costs or the amount and timing of any such recovery.
EMPLOYEES
Mobile Gas employed 270 full-time employees as of September 30, 1997. Of these, approximately 37% are represented by the Oil, Chemical and Atomic Workers International Union, Local No. 3-541. As of September 30, 1997 Bay Gas employed six full-time employees. The Company believes that it enjoys generally good labor relations.
Item 2.
Item 2. Properties.
The Company's properties consist of distribution, general, transmission, and storage plant. The distribution plant is located in Mobile County, Alabama and is used in the distribution of natural gas to the Company's customers. The distribution plant consists primarily of mains, services, meters and regulating equipment, all of which are adequate to serve the present customers. The distribution plant is located on property which the Company is entitled to use as a result of franchises granted by municipal corporations, or on easements or rights-of-way.
The general plant consists of land, structures (with aggregate floor space of approximately 118,000 square feet), office equipment, transportation equipment and miscellaneous equipment, all located in Mobile County, Alabama.
The transmission plant consists of a pipeline of approximately 50 miles and related surface equipment which is used in the transmission of natural gas by SGT and is located primarily in Monroe County, Alabama. The transmission plant is located on easements or rights-of-way.
The storage plant, consisting of an underground cavern for the storage of natural gas and related pipeline and surface facilities, is located primarily in Washington County, Alabama. The storage plant is constructed on a leasehold estate with an initial term of 50 years, which will expire in 2040, and which may be renewed at the Company's option for an additional term of 20 years.
Substantially all of the property of the Company is pledged as collateral for the long-term debt.
Item 3.
Item 3. Legal Proceedings.
The Company is involved in litigation arising in the normal course of business. Management believes that the ultimate resolution of such litigation will not have a material adverse effect on the consolidated financial statements of the Company.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders.
There were no matters submitted to a vote of security holders during the fourth quarter of fiscal year 1997.
Executive Officers of the Registrant
Pursuant to General Instruction G(3) of Form 10-K, the following list is included as an unnumbered Item in Part I of this Report in lieu of being included in the proxy statement to be filed with the Securities and Exchange Commission.
Information relating to executive officers who are also directors is included under the caption "Election of Directors" contained in the Company's definitive proxy statement with respect to its 1998 Annual Meeting of Stockholders and is incorporated herein by reference.
The following is a list of names and ages of all of the executive officers who are not also directors or nominees for election as directors of the Registrant indicating all positions and offices with the Registrant held by each such person and each such person's principal occupations or employment during the past five years. All such persons have been elected for terms expiring in January 1998. Officers are appointed by the Board of Directors of the Company.
* Mr. Downing is the son-in-law of Gaylord C. Lyon, a Director of the Company.
PART II
Item 5.
Item 5. Market for the Registrant's Common Stock Equity and Related Stockholder Matters.
The Registrant's Common Stock, $.01 par value, is traded on the NASDAQ National Market under the symbol "MBLE". As of December 3, 1997 there were 1,578 holders of record of the Company's Common Stock. Information regarding Common Stock dividends and the bid price range for Common Stock during the periods indicated is as follows:
Over-the-counter quotations reflect inter-dealer prices without retail mark-up, mark-down or commissions and may not necessarily represent actual transactions.
While the Board of Directors intends to continue the practice of paying dividends quarterly, amounts and dates of such dividends as may be declared will be dependent upon the Registrant's future earnings, financial requirements, and other factors.
The Registrant's long-term debt instruments contain certain debt to equity ratio requirements and restrictions on the payment of cash dividends and the purchase of shares of its capital stock. At September 30, 1997, under the most limiting of such provisions, retained earnings in the amount of $18,470,000 were unrestricted.
Item 6.
Item 6. Selected Financial Data.
FINANCIAL SUMMARY
Note: (1) The number of degrees that the daily mean temperature falls below 65 degrees F. The Company's rates were designed assuming annual normal degree days of 1,640 beginning December, 1, 1995 and an annual normal of 1,695 for prior periods.
Item 7.
Item 7. Management's Discussion and Analysis of Results of Operations and Financial Condition.
THE COMPANY
The consolidated financial statements include the accounts of Mobile Gas Service Corporation, its wholly-owned subsidiaries, MGS Energy Services, Inc., MGS Storage Services, Inc., MGS Marketing Services, Inc., its 87.5% owned partnership, Bay Gas Storage Company, Ltd., (Bay Gas), and its 51% owned partnership, Southern Gas Transmission Company (collectively the "Company"). The Company is engaged principally in the distribution of natural gas to residential, commercial and industrial customers in Southwest Alabama, which is subject to regulation by the Alabama Public Service Commission (APSC). The Company's rate tariffs allow a pass-through to customers of the cost of gas supplies, certain taxes, and beginning December 1, 1995, incremental costs associated with the Company's replacement of cast iron mains. These costs, therefore, ultimately have little impact on the Company's earnings. Other costs, including a return on investment, have historically been recovered through rates approved in traditional rate proceedings.
The nature of the Company's distribution business is highly seasonal and temperature-sensitive. As a result, the Company's operating results in any given period historically have reflected, in addition to other matters, the impact of weather, through either increased or decreased sales volumes. On November 1, 1996, the Company implemented a temperature rate adjustment rider designed to level out the effects of temperature extremes on Company earnings. This new rate mechanism is discussed within Results of Operations - Net Income.
Bay Gas, which commenced operations of its natural gas storage facility in September 1994, is a regulated utility governed under the jurisdiction of the APSC. Intrastate storage contracts are subject to APSC approval whereas interstate storage contracts, by Federal Energy Regulatory Commission order, are permitted to have market-based rates.
RESULTS OF OPERATIONS
NET INCOME
The Company's net income was $8.1 million, or $2.50 per share in 1997, $8.6 million, or $2.68 per share in 1996, and $4.0 million, or $1.26 per share in 1995. Fiscal 1996 earnings reflect the effects of weather which was 24% colder than normal. The impact of colder weather increased 1996 earnings per share $.45 compared to earnings that would have occurred with normal weather. Earnings for 1997 reflect improvement over 1996 earnings without the weather impact primarily as a result of decreased operation and maintenance expenses and improved financial results from natural gas storage operations at Bay Gas.
Even though winter weather during the 1997 fiscal year was 9% warmer than normal, earnings for 1997 do not reflect the warmer weather impact because of a temperature rate adjustment rider which was first implemented on November 1, 1996. The rider is designed to level out the effects of temperature extremes on Company earnings by reducing high gas bills to customers in colder than normal weather and increasing gas revenues received by
the Company in warmer than normal weather. The rider was applied to residential and small commercial customers' gas bills during the months of November 1996 through April 1997, resulting in increased net income of $816,000 and earnings per share of $.25 during 1997.
A general rate increase which became effective on December 1, 1995 contributed to the 1996 increase in net income as well as the increase in 1997. Net income for 1996 also increased compared to 1995 due to the effects of weather which was 53% colder than 1995. Weather during fiscal 1995 was 22% warmer than normal.
OPERATING REVENUES
Gas revenues were $69.6 million, $68.3 million and $56.2 million in fiscal years 1997, 1996 and 1995, respectively. The 1997 increase was attributed to increased gas revenue from temperature-sensitive, transportation and natural gas storage customers. Revenues from the transportation of natural gas increased due to increased plant utilization by existing customers while revenues from natural gas storage operations increased due to new contracts for storage services. Despite an 18% decrease in gas volumes sold to temperature-sensitive customers (residential and small commercial) in 1997 compared to 1996 caused by warmer weather, gas revenues from these customers increased due to the impact of increased billings pursuant to the Purchased Gas Adjustment (PGA) provision and the temperature rate adjustment rider within the Company's rate schedules. The PGA component of customers' rates allows the Company to pass increases or decreases in the cost of gas to customers. Fluctuations in billings to customers under the Company's PGA component of rates are offset in full by changes in the recorded cost of gas, thereby having no effect on recorded margins.
Gas revenues in 1996 compared to 1995 increased primarily due to the general rate increase and to colder weather. As a result of the colder weather in fiscal 1996, the volume of gas sold and delivered to temperature-sensitive customers increased 23% compared to 1995. The Company also recorded increased gas revenues from the sale of natural gas to large commercial and industrial customers, the transportation of natural gas, and natural gas storage operations.
EXPENSES
Cost of gas increased $2.3 million or 12% in 1997 compared to 1996. The increase in gas costs was attributed primarily to an increase in commodity gas prices which was passed through to customers under the Company's PGA component of rates. Cost of gas increased $1.2 million or 7% in 1996 compared to 1995 due to increased volumes sold during the colder 1996 winter. The 1996 increase in cost of gas was not as high relative to the percentage increase in gas revenues for 1996 because of the impact on revenues of the general rate increase and because the Company was intentionally under-collecting 1996 gas costs through the PGA component of its rates to customers to refund previously over-collected gas costs. This under-collection of gas costs had no effect on recorded margins since revenues were effected by the same amount.
Operations and maintenance expenses decreased $490,000 in 1997 compared to 1996. The most significant factors contributing to this decrease were: lower utility maintenance costs of $361,000 due to the completion in 1996 of certain non-routine
maintenance projects, stable operations costs due to cost control efforts throughout the Company, increased capitalized administrative and general costs resulting from a higher level of construction activity, and lower Bay Gas expenses of $150,000. Operations and maintenance expenses increased $2.8 million in 1996 compared to 1995. A variety of factors caused this increase. Bay Gas operations and maintenance expenses increased $160,000 in conjunction with serving new storage customers. For Mobile Gas, certain non-routine maintenance projects totaling $450,000 were initiated and completed in 1996. The cold 1996 winter impacted operations expense in two respects. A $190,000 increase in bad debt expense was associated primarily with higher customer bills from increased usage caused by the cold winter. Additionally, the Company incurred over $100,000 in increased overtime expense responding to customer and system needs during the extreme weather periods. Expenses in 1996 also rose from increased advertising and additional personnel hired in late 1995 in order to improve the responsiveness to customers.
The Company has completed an evaluation of the Company's computer information systems and has identified the systems which will require program modifications or new software installations in order to function properly in the year 2000. The Company expects to incur costs approximating $325,000 to complete the program modifications and new software installations by October 1998. Estimated costs of $240,000 to modify existing information systems to be Year 2000 compliant will be expensed as incurred and estimated costs of $85,000 related to new software installation will be capitalized.
Depreciation expense increased $334,000 or 6% in 1997 compared to 1996 and $351,000 or 7% in 1996 compared to 1995. Increases for both years reflect the growth in property, plant and equipment.
Taxes, other than income taxes, primarily consist of state and local taxes which are based on gross revenues and fluctuate accordingly. During fiscal 1997, the State of Alabama approved the Company's claim for refund of a business license tax. As a result of this approval, the Company reduced its expense for taxes, other than income taxes, by $246,000.
Interest expense increased $483,000 in 1997 compared to 1996 due to the issuance in November 1996 of $12 million in 7.27% First Mortgage Bonds. Interest expense decreased in 1996 compared to 1995 due to decreased levels of short-term debt, lower short-term interest rates, and the reduction in long-term debt principal balances.
The allowance for borrowed funds used during construction represents the capitalization of interest costs to construction work-in-progress. Capitalized interest costs increased $142,000 in 1997 compared to 1996 primarily as a result of increased construction activity during 1997 to complete a pipeline and related facilities to service Tuscaloosa Steel, a large industrial customer with whom Mobile Gas has a long-term contract to transport gas to its facility.
Interest income increased $107,000 in 1997 compared to 1996 and $446,000 in 1996 compared to 1995. Improved cash positions during 1997 and 1996 provided the Company more opportunities to invest in short-term financial instruments.
Income tax expense fluctuated with the changes in income before income taxes. The Company's effective tax rate in 1997 and 1996 was 36.7% and 36.0% in 1995. Income tax expense is detailed in Note 4 to the Consolidated Financial Statements.
NEW ACCOUNTING STANDARDS
Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed Of" (SFAS 121) was effective for the Company October 1, 1996. SFAS 121 establishes accounting standards for the impairment of long-lived assets. The Company does not believe that it has any assets which currently are impaired under SFAS 121; therefore, this Statement had no effect on the Company's financial statements.
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" (SFAS 123) was effective for the Company October 1, 1996. SFAS 123 establishes a fair value method of accounting for stock-based compensation plans. SFAS 123 allows companies to either measure stock-based compensation using the fair value method or to continue to apply existing accounting standards and include footnote disclosure of pro forma net income and earnings per share calculated as if the fair value method had been applied. Stock options outstanding at September 30, 1997 are not subject to the requirements of SFAS 123 since the option grant date is prior to the effective date of pro forma disclosures. The Company expects to continue to apply existing accounting standards for stock-based compensation and to include disclosures required by SFAS 123 for stock options granted in the future.
Statement of Financial Accounting Standards No. 128, "Earnings per Share" (SFAS 128), is effective for the Company for the quarter ending December 31, 1997. SFAS 128 establishes standards for computing and presenting earnings per share. The Company does not expect the implementation of SFAS 128 to have a significant impact on the Company's reported earnings per share.
Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income" (SFAS 130) is effective for the Company for the fiscal year beginning October 1, 1998. SFAS 130 establishes standards for reporting and displaying comprehensive income and its components in a full set of general-purpose financial statements. The Company does not currently have any comprehensive income other than items included in net income and, therefore, does not expect any material changes to its current reporting in response to SFAS 130.
Statement of Financial Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and Related Information" (SFAS 131) is effective for the Company for the fiscal year beginning ending September 30, 1999. SFAS 131 establishes standards for reporting operating segments by public business enterprises in interim and annual financial statements. SFAS 131 also establishes standards for related disclosures about products and services, geographic areas, and major customers. Interim disclosures are not required in the year of adoption; therefore, the Company expects to report the required financial and descriptive information about its operating segments beginning with its annual financial statements for the fiscal year ending September 30, 1999.
EFFECTS OF INFLATION
Inflation impacts the prices the Company must pay for labor and other goods and services required for operation, maintenance and capital improvements. Changes in purchased gas costs are passed through to customers in accordance with the PGA provision of the Company's rate tariffs. Increases in other costs must be recovered through timely filings for rate relief.
GAS SUPPLY
A primary goal of the Company is to provide gas at the lowest possible cost while maintaining a reliable long-term supply. To accomplish this goal the Company has diversified its gas supply by constructing and purchasing pipelines to access the vast gas reserves in our area, both offshore and onshore. The Company has also contracted with certain of these sources for firm supply. Future minimum payments under third-party contracts for firm gas supply, which expire at various dates through the year 2000, are as follows: 1998 - $1,560,000; 1999 - $990,000; and 2000 - $277,000. A portion of firm supply requirements is met through the withdrawal of gas from the storage facility owned by Bay Gas. Mobile Gas has a gas storage agreement with Bay Gas to receive storage services for an initial period of 20 years, which began in September 1994 with the commencement of commercial operations of the storage facility. The Company's PGA provision in rate tariffs filed with the APSC allows the recovery of demand and commodity costs of purchased gas from customers. Should the Company's customer base decline due to deregulation or other reasons, resulting in costs related to firm gas supply in excess of requirements, management believes it would be able to take one or more of the following actions: secure, as part of the regulatory decision allowing other suppliers to serve current customers, the right to allocate firm gas supply costs to the new company supplying gas, reduce some excess gas supply costs through a negotiated settlement with suppliers, or flow excess gas supply costs to existing customers through the PGA component of customers' rates.
ENVIRONMENTAL
The Company is subject to various federal, state and local laws and regulations relating to the environment, which have not had a material effect on the Company's financial position or results of operations. See Note 9 to the Consolidated Financial Statements for a discussion of certain environmental issues.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash needs reflect the capital-intensive nature of its business. The following table briefly describes the capital expenditures in the periods indicated.
The Company generally relies on cash generated from operations and, on a temporary basis, short-term borrowings to meet working capital requirements and to finance normal capital expenditures. Cash provided by operating activities was $14.9 million, $13.0 million and $8.9 million in 1997, 1996 and 1995, respectively. The increased cash flow from operating activities for 1997 compared to 1996 is primarily due to the change in operating assets and liabilities which reflect the timing of cash receipts and payments. The most significant component of the change in operating assets and liabilities was the deferred purchased gas adjustment liability which decreased $1.4 million and $5.3 million in 1997 and 1996, respectively, due to intentionally under-collecting gas costs through the PGA mechanism in an effort to refund previously over-collected gas costs. The under or over-collection of gas costs has no net effect on gross margin since revenues and gas costs are effected by the same amount. The increase in cash flows from operating activities for 1996 compared to 1995 is attributed to increased net income and increased non-cash components of net income, the largest of which is deferred income taxes resulting from a full year of book and tax depreciation for Bay Gas.
Additional funding in 1997 for working capital and capital requirements was obtained from issuance in November 1996 of $12 million in 7.27% First Mortgage Bonds. In 1997, the Company reduced its short-term borrowings by $4.3 million, made principal payments on long-term debt of $2.8 million and paid dividends of $3.3 million. The Company's remaining cash needs in 1996 and 1995 were obtained by borrowings under the Company's revolving credit agreement. Of the $13.2 million increase in short-term borrowings for 1996, $11 million is related to the purchase of short-term investments which are reflected within the balance sheet as cash equivalents at September 30, 1996. During 1995 the Company used the remaining invested funds from the $22.5 million Bay Gas Senior Secured Notes issued in fiscal 1993 to complete certain construction activities at Bay Gas.
Bay Gas will add additional compression at an estimated cost of $3.7 million to increase the gas injection capacity should significant contracts be entered into which provide for firm injection services. Funding for the additional compression, if added, will come from internal cash generation and an equity contribution from the Bay Gas partners. Funds for the equity contribution by Mobile Gas would be obtained from short-term bank borrowings.
In addition to the potential cash requirements of Bay Gas, the Company expects fiscal 1998 capital expenditures related to the Company's regular construction program to be $7.3 million. Funds for the Company's cash needs are expected to come from cash provided by operations and borrowings under the Company's revolving credit agreement. Management
believes it has adequate financial flexibility to meet its expected cash needs in the foreseeable future.
FORWARD-LOOKING STATEMENTS
Statements contained in this report which are not historical in nature are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to risks and uncertainties that may cause actual future results to differ materially. Such risks and uncertainties with respect to the Company include, but are not limited to, its ability to successfully achieve internal performance goals, competition, the effects of state and federal regulation, including rate relief to recover increased capital and operating costs, general economic conditions, and specific conditions in the Company's service area.
Item 8.
Item 8. Financial Statements and Supplementary Data.
The financial statements and financial statement schedules and the Independent Auditors' Report thereon filed as part of this report are listed in the "Mobile Gas Service Corporation and Subsidiaries Index to Financial Statements and Schedules" at Page, which follows Part IV hereof.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
There have been no disagreements on accounting and financial disclosure with the Company's outside auditors which are required to be disclosed.
PART III
Item 10.
Item 10. Directors and Executive Officers of the Registrant.
Information under the captions "Election of Directors" and "Information Regarding the Board of Directors" contained in the Company's definitive proxy statement with respect to its 1998 Annual Meeting of Stockholders is incorporated herein by reference.
For information with respect to executive officers of the Registrant, see "Executive Officers of the Registrant" at the end of Part I of this Report.
Information under the caption "Reports Under Section 16 of the Securities and Exchange Act" contained in the Company's definitive proxy statement with respect to its 1998 Annual Meeting of Stockholders is incorporated herein by reference.
Item 11.
Item 11. Executive Compensation.
Information under the caption "Executive Compensation" contained in the Company's definitive proxy statement with respect to its 1998 Annual Meeting of Stockholders is incorporated herein by reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
Information under the caption "Security Ownership of Certain Beneficial Owners and Management" contained in the Company's definitive proxy statement with respect to its 1998 Annual Meeting of Stockholders is incorporated herein by reference.
Item 13.
Item 13. Certain Relationships and Related Transactions.
There were no transactions required to be disclosed pursuant to this item.
PART IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
(a), (d) Financial Statements and Financial Statement Schedules
See "Mobile Gas Service Corporation and Subsidiaries Index to Financial Statements and Schedules" at page, which follows Part IV hereof.
(3) Exhibits - See Exhibit Index on pages E-1 through E-5.
(b) No reports on Form 8-K were filed during the last quarter of the fiscal year ended September 30, 1997.
(c) Exhibits filed with this report are attached hereto.
Signatures
Pursuant to the requirements of Section 13 or 15 (d) 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.
MOBILE GAS SERVICE CORPORATION ------------------------------ Registrant
December 5, 1997 By: /s/ Charles P. Huffman ------------------------------------- Charles P. Huffman, Vice President, Chief Financial Officer and Treasurer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated:
Signatures (Continued)
MOBILE GAS SERVICE CORPORATION AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS AND SCHEDULES
Schedules other than that referred to above are omitted and are not applicable or not required.
INDEPENDENT AUDITORS' REPORT
Mobile Gas Service Corporation:
We have audited the accompanying consolidated balance sheets of Mobile Gas Service Corporation and subsidiaries as of September 30, 1997 and 1996 and the related consolidated statements of income, common stockholders' equity, and cash flows for each of the three years in the period ended September 30, 1997. Our audits also included the financial statement schedule listed in the Index referred to in Item 14. These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Mobile Gas Service Corporation and its subsidiaries at September 30, 1997 and 1996, and the results of their operations and their cash flows for each of the three years in the period ended September 30, 1997, in conformity with generally accepted accounting principles. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
/s/ Deloitte & Touche LLP - ------------------------------- Deloitte & Touche LLP Atlanta, Georgia November 7, 1997
CONSOLIDATED STATEMENTS OF INCOME
See Accompanying Notes to Consolidated Financial Statements
CONSOLIDATED STATEMENTS OF CASH FLOWS
See Accompanying Notes to Consolidated Financial Statements
See Accompanying Notes to Consolidated Financial Statements
CAPITALIZATION AND LIABILITIES
See Accompanying Notes to Consolidated Financial Statements
CONSOLIDATED STATEMENTS OF COMMON STOCKHOLDERS' EQUITY
See Accompanying Notes to Consolidated Financial Statements
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Mobile Gas Service Corporation, its wholly-owned subsidiaries, MGS Energy Services, Inc., MGS Storage Services, Inc., MGS Marketing Services, Inc., its 87.5% owned partnership, Bay Gas Storage Company, Ltd. (Bay Gas), and its 51% owned partnership, Southern Gas Transmission Company (collectively the "Company"). All significant intercompany balances and transactions have been eliminated.
DESCRIPTION OF BUSINESS
The Company is engaged principally in the distribution of natural gas to residential, commercial, and industrial customers in Southwest Alabama, subject to regulation by the Alabama Public Service Commission (APSC). For the major portion of the Company's business, the APSC approves rates which are intended to permit the recovery of the cost of service including a return on investment. Gas deliveries to certain industrial customers are subject to regulation by the APSC through contract approval. The intrastate storage contracts of Bay Gas, which operates a natural gas storage facility, are subject to APSC approval, whereas interstate storage contracts, by Federal Energy Regulatory Commission order, are permitted to have market-based rates. The Company is also engaged in various unregulated activities including the sale and financing of gas appliances, jobbing work, and contract and consulting work for utilities and industrial customers.
REVENUES AND GAS COSTS
Revenues from residential and commercial customers are recorded as meters are read on a cycle basis throughout each month. The commodity cost of purchased gas applicable to gas delivered to customers but not yet billed under the cycle billing method is deferred and classified as deferred gas costs within the Company's Balance Sheet. Increases or decreases in the cost of gas and certain other costs are passed through to customers in accordance with provisions in the Company's rate schedules. Any over or under recoveries of these costs are charged or credited to cost of gas and included in current assets or liabilities as the Deferred Purchased Gas Adjustment within the Company's Balance Sheet. A general rate increase designed to increase the Company's operating margins was approved by the APSC and became effective on December 1, 1995. The APSC authorized the Company, effective November 1, 1996, to implement a temperature rate adjustment rider. Such rider is designed to offset the impact of unusually warm or cold weather on the Company's operating margin. The rider increased net income approximately $816,000 in 1997.
PROPERTY, PLANT, AND EQUIPMENT
Substantially all property, plant, and equipment is considered utility plant. Included in property, plant, and equipment are acquisition adjustments, net of amortization, of $8,424,000 and $8,812,000 at September 30, 1997 and 1996, respectively. Such acquisition adjustments are being amortized to cost of service over the lives of the assets acquired.
The cost of additions includes direct labor and materials, allocable administrative and general expenses, pension and payroll taxes, and an allowance for funds used during construction. The cost of depreciable property retired, plus cost of dismantling, less salvage, is charged to accumulated depreciation. Estimated interest cost associated with property under construction, based upon weighted average interest rates for short-term borrowings or the interest rate on borrowings for specific projects, is capitalized as an allowance for borrowed funds used during construction. Maintenance, repairs, minor renewals and betterment of property are charged to operations.
Provisions for depreciation are computed principally on straight-line rates for financial statement purposes and on accelerated rates for income tax purposes. Depreciation for financial statement purposes is provided at an annual rate averaging approximately 4.0% of depreciable property, excluding the gas storage facility which is depreciated at an annual rate averaging 2.7%.
CASH EQUIVALENTS
The Company records all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents.
INCOME TAXES
The Company records deferred tax liabilities and assets, as measured by enacted tax rates, for all temporary differences caused when the tax basis of an asset or liability differs from that reported in the financial statements. Investment tax credits realized after 1980 are deferred and amortized over the average life of the related property in accordance with regulatory treatment.
EARNINGS PER SHARE
Earnings per share are computed based on the weighted average number of common shares and common share equivalents outstanding during each period. Common share equivalents include the dilutive effect of outstanding stock options.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted accounting principles 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 date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
LONG-LIVED ASSETS
The Company reviews its long-lived assets whenever indications of impairment are present. If any assets are determined to be impaired, such assets would be written down to their estimated fair market values. The Company does not believe it has any assets which are currently impaired.
NEW ACCOUNTING STANDARDS
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123") was effective for the Company October 1, 1996. SFAS 123 establishes a fair value method of accounting for stock-based compensation plans. SFAS 123 allows companies to either measure stock-based compensation using the fair value method or to continue to apply existing accounting standards and include footnote disclosure of pro forma net income and earnings per share calculated as if the fair value method had been applied. Stock options outstanding at September 30, 1997 are not subject to the requirements of SFAS 123 since the option grant date is prior to the effective date of pro forma disclosures. The Company expects to continue to apply existing accounting standards for stock-based compensation and to include disclosures required by SFAS 123 for stock options granted in the future.
Statement of Financial Accounting Standards No. 128, "Earnings per Share" (SFAS 128), is effective for the Company for the quarter ending December 31, 1997. SFAS 128 establishes standards for computing and presenting earnings per share. The Company does not expect the implementation of SFAS 128 to have a significant impact on the Company's reported earnings per share.
Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income" (SFAS 130) is effective for the Company for the fiscal year beginning October 1, 1998. SFAS 130 establishes standards for reporting and displaying comprehensive income and its components in a full set of general-purpose financial statements. The Company does not currently have any comprehensive income other than items included in net income and, therefore, does not expect any material changes to its current reporting in response to SFAS 130.
Statement of Financial Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and Related Information" (SFAS 131) is effective for the Company for the fiscal year ending September 30, 1999. SFAS 131 establishes standards for reporting operating segments by public business enterprises in interim and annual financial statements. SFAS 131 also establishes standards for related disclosures about products and services, geographic areas, and major customers. Interim disclosures are not required in the year of adoption; therefore, the Company expects to report the required financial and descriptive information about its operating segments beginning with its annual financial statements for the fiscal year ending September 30, 1999.
RECLASSIFICATIONS
Certain amounts in the prior year financial statements have been reclassified to conform with the 1997 financial statement presentation.
2. PROPERTY AND REGULATORY ASSETS
The functional classifications for the cost of property, plant, and equipment are as follows at September 30, (in thousands):
1997 1996 ---------- --------- Distribution plant $ 99,329 $ 89,152 Generation plant 14,526 13,456 Storage plant 38,015 36,908 Transmission plant 3,464 3,464 Acquisition adjustment 9,874 10,020 ---------- --------- Total property, plant, and equipment $ 165,208 $ 153,000 ---------- ---------
The components of regulatory assets are as follows at September 30, (in thousands):
1997 1996 ---------- ---------- Income tax (Note 4) $ 1,056 $ 1,215 Postemployment benefits (Note 8) 82 152 ---------- ---------- Total regulatory assets $ 1,138 $ 1,367 ---------- ----------
3. NOTES PAYABLE AND LONG-TERM DEBT
Long-term debt consists of the following at September 30, (in thousands):
Maturities and sinking fund requirements on long-term debt in each of the five fiscal years subsequent to September 30, 1997 are as follows: 1998 - $2,930,000; 1999 - $2,100,000; 2000 - $1,962,000; 2001 - $2,045,000; and 2002 - $1,634,000. Substantially all of the property of the Company is pledged as collateral for the long-term debt.
At September 30, 1997, the Company had a $20 million revolving credit agreement with a group of banks which expires in July 1999. Borrowings under the agreement may be made as needed providing that the Company is in compliance with certain covenants in the revolving credit agreement and other loan agreements. The Company currently is in compliance with all such covenants. The Company pays a fee for its committed lines of credit rather than maintain compensating balances. The commitment fee is 0.125% of the average daily unborrowed amount during the annual period of calculation. Unused committed lines of credit at September 30, 1997 and 1996 were $9.3 million and $5.0 million, respectively. The weighted average interest rates on short-term debt outstanding at September 30, 1997 and 1996 were 6.7% and 6.5%, respectively.
4. INCOME TAXES
The components of income tax expense are as follows for the years ended September 30, (in thousands):
A reconciliation of income tax expense and the amount computed by multiplying income before income taxes by the statutory federal income tax rate for the periods indicated is as follows for the years ended September 30, (in thousands):
The tax effect of differences in book and tax depreciation related to pre-1981 property additions was recognized in income for accounting and ratemaking purposes prior to 1981. With the adoption in fiscal 1994 of Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes," the Company recorded deferred taxes related to this temporary difference and a corresponding regulatory asset expected to be collected in customer rates when such taxes become payable in accordance with the current ratemaking practices followed by the APSC. Such future collections included in regulatory assets are $1,056,000 and $1,215,000 at September 30, 1997 and 1996, respectively.
No valuation allowance is deemed necessary, as the Company anticipates generating adequate future taxable income to realize the benefits of all deferred tax assets on the balance.
The significant components of the Company's net deferred tax liability as of September 30, are (in thousands):
5. CAPITAL STOCK
On January 31, 1997, the stockholders approved a proposed amendment to the Restated Articles of Incorporation of the Company to increase the authorized number of shares of common stock of the Company to eight million and to reduce the par value of such common stock from $2.50 per share to $.01 per share. The effect of this change on the Company's financial statements at January 31, 1997 was a reduction in the Common Stock Par Value of $8,037,421 and an increase in the Capital in Excess of Par Value of the same amount. The change in par value has been retroactively reflected in the financial statements for all dates presented.
The Mobile Gas Service Corporation 1992 Stock Option Plan (the "Plan") provides for the granting of incentive stock options, non-qualified stock options, and stock appreciation rights to key employees. Under the Plan, an aggregate of 150,000 shares of the Company's authorized but unissued Common Stock have been reserved for issuance. Stock options become 25% exercisable on the first anniversary of the grant date and an additional 25% become exercisable each succeeding year. No option may be exercised after the expiration of ten years from the grant date. During the year ended September 30, 1995, 105,000 options were granted at an option price of $21.125, representing the market price on the date of grant. No stock options were granted, exercised or cancelled during the years ended September 30, 1997 and 1996. At September 30, 1997, 52,500 stock options are exercisable and 45,000 are available for options granted in the future.
At September 30, 1997, 198,000 shares of the Company's authorized but unissued Common Stock were reserved for issuance under the Company's Dividend Reinvestment and Stock Purchase Plan.
6. RESTRICTIONS ON RETAINED EARNINGS
The Company's long-term debt instruments contain certain debt to equity ratio requirements and restrictions on the payment of cash dividends and the purchase of shares of its capital stock. At September 30, 1997, under the most restrictive provisions, retained earnings in the amount of $18,470,000 was unrestricted.
7. RETIREMENT PLANS AND OTHER BENEFITS
The Company has a noncontributory, defined benefit retirement plan covering substantially all of its employees. Benefits are based on the greater of amounts resulting from two different formulas: years of service and average compensation during the last five years of employment or years of service and compensation during the term of employment. The "projected unit credit" actuarial method was used to determine the service cost and actuarial liability. The Company annually contributes to the plan the amount deductible for federal income tax purposes.
Net periodic pension cost (credit) included the following components for the years ended September 30, (in thousands):
Assumptions used in the actuarial computations for the years ended September 30, were:
The following table sets forth the plan's funded status and amount recorded in the financial statements at September 30, (in thousands):
The Company's eligible employees may participate in the Employee Savings Plan or the Bargaining Unit Employees Savings Plan by investing a percentage of their compensation in the Plans with the Company matching a part of the employee investment. The Company's contributions for the years ended September 30, 1997, 1996 and 1995 were $225,000, $199,000, and $177,000, respectively.
8. OTHER POSTEMPLOYMENT BENEFITS
The Company provides certain health care and life insurance benefits for retired employees. Substantially all employees may become eligible for such benefits if they retire under the provisions of the Company's retirement plan.
The Company is accruing the costs over the expected service period of the employees. The "projected unit credit" actuarial method was used to determine the service cost and actuarial liability.
Net periodic postretirement benefit cost included the following components for the years ended September 30, (in thousands):
Assumptions used in the actuarial computations:
The accumulated postretirement benefit obligation at September 30, 1997 and 1996 was determined using an assumed health care cost trend rate of 9.6% in 1997 and 1996, gradually declining to 5.0% in the year 2004 and thereafter. If the health care cost trend rate assumptions were increased by 1%, the accumulated postretirement benefit obligation as of September 30, 1997 would be increased by 18.5%. The effect of this change on the sum of the service cost and interest cost components would be an increase of 20.9%.
The following table sets forth the plan's funded status and amount recorded in the financial statements at September 30, (in thousands):
In September 1991, the Company formed two voluntary employees' beneficiary association (VEBA) trusts to fund postretirement health and life insurance benefits. The Company's contributions to these trusts in 1997, 1996 and 1995 were $215,000, $200,000 and $218,000, respectively.
Beginning October 1, 1994, the Company adopted Statement of Financial Accounting Standards No. 112, "Employers' Accounting for Postemployment Benefits" ("SFAS 112"). SFAS 112 required the Company to record the cost of providing postemployment benefits to former or inactive employees, their beneficiaries, and covered dependents after employment but before retirement. For the year ended September 30, 1995, the Company recorded a liability for postemployment benefits of $211,000 with a corresponding charge to a regulatory asset. The regulatory asset is being amortized to expense and collected from customers over a three year period beginning December 1, 1995 as approved by the APSC.
9. COMMITMENTS AND CONTINGENCIES
The Company has third-party contracts, which expire at various dates through the year 2000, for the purchase, storage and delivery of gas supplies. Minimum payments under these contracts in the fiscal years subsequent to September 30, 1997 are as follows: 1998 - $1,560,000; 1999 - $990,000; and 2000 - $277,000. A portion of firm supply requirements is expected to be met through the withdrawal of gas from the storage facility owned by Bay Gas. Mobile Gas Service Corporation has entered into a Gas Storage Agreement under which Bay Gas is to provide storage services for an initial period of 20 years which began in September 1994 with the commencement of commercial operations of the storage facility. The purchased gas adjustment provisions of the Company's rate schedules permit the recovery of gas costs from customers.
The Company is subject to various federal, state and local laws and regulations relating to the environment, which have not had a material effect on the Company's financial position or results of operations.
Like many gas distribution companies, prior to the widespread availability of natural gas, the Company manufactured gas for sale to its customers. In contrast to some other companies which operated multiple manufactured gas plants, the Company and its predecessor operated only one such plant, which discontinued operations in 1933. The process for manufacturing gas produced by-products and residuals, such as coal tar, and certain remnants of these residuals are sometimes found at former gas manufacturing sites.
The Company conducted a preliminary assessment in 1994 of its former gas plant site and has tested certain waters in the vicinity of the site. The Company developed and has implemented a plan for the site based on the advice of environmental consultants, which involves securing and monitoring the site, and continued testing. Based on the results of tests to date, the Company does not believe that the site currently poses any threat to human health or the environment. While no conclusion can be reached at this time as to whether any further remedial action might ultimately be required, based on currently available information, it is believed that any costs with respect to the site are likely to be immaterial, and the Company has therefore established no reserve for such costs in its financial statements. The Company intends that, should further investigation or changes in environmental laws or regulations require material expenditures for investigation, remediation, or clean-up with regard to the site, it would apply to the APSC for appropriate rate recovery of such costs. However, there can be no assurance that the APSC would approve the recovery of such costs or the amount and timing of any such recovery.
The Company is involved in litigation arising in the normal course of business. Management believes that the ultimate resolution of such litigation will not have a material adverse effect on the consolidated financial statements of the Company.
10. FAIR VALUE OF FINANCIAL INSTRUMENTS
Fair values of financial instruments have been reported to meet the disclosure requirements of Statement of Financial Accounting Standards No. 107, "Disclosures About Fair Values of Financial Instruments", and are not necessarily indicative of the amounts that the Company could realize in a current market exchange.
The carrying amounts for cash and cash equivalents, gas and other receivables, notes payable, accounts payable and other current liabilities approximate fair value. The fair value of merchandise receivables is estimated based on market interest rates for similar receivables at the end of each respective year. The carrying amount of merchandise receivables, as shown below, is net of the reserve for uncollectible merchandise receivables. The fair value of long-term debt is estimated based on interest rates available to the Company at the end of each respective year for the issuance of debt with similar terms and remaining maturities.
The carrying amount and the estimated fair value of such financial instruments are as follows at September 30, (in thousands):
11. QUARTERLY FINANCIAL DATA (UNAUDITED)
Quarterly financial data for 1997 and 1996 is summarized as follows (in thousands, except per share data):
The pattern of quarterly earnings reflects a seasonal nature because weather conditions strongly influence operating results.
12. FINANCIAL INFORMATION BY BUSINESS SEGMENT
13. CHANGE IN CORPORATE STRUCTURE
The Company has announced its plan to form a holding company, EnergySouth, Inc. The change in corporate structure requires, among other things, the approval of the Company's shareholders and is expected to be voted upon at the at the Annual Meeting of Shareholders to be held January 30, 1998. If the change in corporate structure is approved, Mobile Gas, along with its existing subsidiaries, would become subsidiaries of the new holding company and the shareholders of Mobile Gas would receive three shares of EnergySouth, Inc. for each two shares of Mobile Gas.
SCHEDULE II
MOBILE GAS SERVICE CORPORATION AND SUBSIDIARIES VALUATION AND QUALIFYING ACCOUNTS AND RESERVES YEARS ENDED SEPTEMBER 30, 1997, 1996, AND 1995 (in thousands)
NOTES:
(1) Amounts written off - net of recoveries.
S-1
EXHIBIT INDEX
Exhibit No. Description
3(a)-1 Restated Articles of Incorporation (incorporated by reference to Exhibit 3(i)-C to Form 8-K Current Report dated January 26, 1996)
3(a)-2 Articles of Amendment dated January 31, 1997 to Restated Articles of Incorporation of Mobile Gas Service Corporation (incorporated by reference to Exhibit 3(i)-D to Form 8-K Current Report dated January 31, 1997)
3(b) By-laws, adopted January 27, 1995 (incorporated by reference to Exhibit 3(b) to Form 8-K Current Report dated January 27, 1995)
3(b)-1 By-laws, adopted January 26, 1996, as amended December 5, 1997(1)
4(a)-1 Indenture of Mortgage and Deed of Trust of the Company dated as of December 1, 1941 (incorporated by reference to Exhibit B-a to Registration Statement No. 2-4887)
E-1
4(b) Southern Gas Transmission Company Indenture (incorporated by reference to Exhibit 4(b) to Form 10-K for fiscal year ended September 30, 1992)
4(c)-1 Bay Gas Indenture dated as of October 1, 1992 (incorporated by reference to Exhibit 4(c) to Form 10-K for fiscal year ended September 30, 1992)
4(c)-2 First Supplemental Indenture dated as of October 1, 1994 supplemental to Bay Gas Indenture (incorporated by reference to Exhibit 4(c)-2 to Form 10-K for fiscal year ended September 30, 1995)
4(d) Promissory Note to the Utilities Board of the Town of Citronelle dated May 13, 1993 (incorporated by reference to Exhibit 4(d) to Form 10-K for fiscal year ended September 30, 1993)
10(d)-2 Settlement Agreement with Koch Gateway Pipeline Company dated September 21, 1993 (incorporated by reference to Exhibit 10(d)-2 to Form 10-K for fiscal year ended September 30, 1993)
10(d)-3 No Notice Service Agreements between Koch Gateway Pipeline Company and Mobile Gas Service Corporation dated November 1, 1993 (incorporated by reference to Form S-1, Registration Statement No. 33-82498)
10(d)-4 Gas Supply Agreement between Mobile Gas Service Corporation and Koch Gas Services Company made as of the 1st day of April, 1994 (incorporated by reference to Form S-1, Registration Statement No. 33-82498)
10(e)-3 Gas Sale and Purchase Contract between Coral Energy Resources, L.P. as Seller and Mobile Gas Service Corporation as Buyer dated as of January 1, 1997(1)(3)
10(e)-4 Gas Supply Agreement between Midcon Gas Services Corp. and Mobile Gas Service Corporation dated as of April 1, 1997(1)(3)
10(f)-1 Agreement for Sale and Purchase of Gas - Mobile Plant dated August 10, 1995 between Mobil Natural Gas Inc. and Mobile Gas(3) Service (incorporated by reference to Exhibit 10(f) to Form 10-K for fiscal year ended September 30, 1995)(3)
10(f)-2 Letter dated June 26, 1996 with consent dated July 31, 1996 to assignment of Agreement for Sale and Purchase of Gas - Mobile Plant to PanEnergy Trading and Market Services, L.L.C. (incorporated by reference to Exhibit 10(f)-2 to Form 10-K for fiscal year ended September 30, 1996)
10(g) Deferred Compensation Agreement with John S. Davis dated January 26, 1996 (incorporated by reference to Exhibit 10(g) to Form 8-K Current Report dated February 7, 1996)
E-2
10(i) Mobile Gas Service Corporation/Bay Gas Storage Company, Ltd. Gas Storage Agreement dated February 26, 1992 (incorporated by reference to Exhibit 10(i) to Form 10-K for fiscal year ended September 30, 1992)
10(j) Directors/Officers Indemnification Agreement (incorporated by reference to Exhibit 10(j) to Form 10-K for fiscal year ended September 30, 1992)
10(k)-1 Amended and Restated Supplemental Deferred Compensation Agreement with Walter L. Hovell, dated December 11, 1992 (incorporated by reference to Exhibit 10(k) to Form 10-K for fiscal year ended September 30, 1992)(2)
10(k)-2 Amendment to Amended and Restated Supplemental Deferred Compensation Agreement dated January 27, 1995 between the Company and Walter L. Hovell (incorporated by reference to Exhibit 10(k)-2 to Form 8-K Current Report dated January 27, 1995)(2)
10(l)-1 Bay Gas Agreement by and among Mobile Gas Service Corporation, MGS Storage Services, Inc., MGS Energy Services, Inc. and Olin Corporation, dated December 5, 1991 (incorporated by reference to Exhibit 10(l) to Form 10-K for fiscal year ended September 30, 1992)
10(m)-1 Limited Partnership Agreement between MGS Storage Services, Inc., as General Partner, and MGS Energy Services, Inc., as Limited Partner (forming Bay Gas Storage Company, Ltd.), dated December 5, 1991 (incorporated by reference to Exhibit 10(m) to Form 10-K for fiscal year ended September 30, 1992)
10(m)-2 First Amendment to Limited Partnership Agreement dated as of April 6, 1992 and Second Amendment to Limited Partnership Agreement dated as of September 12, 1994 (incorporated by reference to Exhibit 10(m)-2 to Form 10-K for fiscal year ended September 30, 1994)
10(n) Cavity Development and Storage Agreement between Olin Corporation and Bay Gas Storage Company, Ltd., dated January 14, 1992 (incorporated by reference to Exhibit 10(n) to Form 10-K for fiscal year ended September 30, 1992)
10(o)-1 Transportation Agreement between Mobile Gas Service Corporation and Tuscaloosa Steel Corporation dated as of May 15, 1995 (incorporated by reference to Exhibit 10(o) to Form 10-K for fiscal year ended September 30, 1995)(3)
10(o)-2 Amendment dated August 23, 1996 to Transportation Agreement between Mobile Gas Service Corporation and Tuscaloosa Steel Corporation(3)
E-3
10(p) Note Guaranty Agreement between Mobile Gas Service Corporation and AmSouth Bank of Alabama, Trustee, dated as of January 1, 1992, relating to Indenture of Southern Gas Transmission Company (incorporated by reference to Exhibit 10(p) to Form 10-K for fiscal year ended September 30, 1992)
10(q) Guaranty Agreement by Mobile Gas Service Corporation, dated as of October 1, 1992, relating to Indenture of Bay Gas Storage Company, Ltd. (incorporated by reference to Exhibit 10(q) to Form 10-K for fiscal year ended September 30, 1992)
10(r) Mobile Gas Service Corporation 1992 Stock Option Plan (incorporated by reference to Exhibit A to definitive proxy statement dated December 21, 1992)(2)
10(s) Mobile Gas Service Corporation Incentive Compensation Plan (incorporated by reference to Exhibit B to definitive proxy statement dated December 21, 1992)(2)
10(t) Agreement for Purchase and Sale of Assets by and between The Utilities Board of the Town of Citronelle and Mobile Gas Service Corporation dated January 28, 1993 (incorporated by reference to Exhibit 10(t) to Form 10-K for fiscal year ended September 30, 1993)
10(u)-1 Revolving Credit Agreement dated July 17, 1995 by and among Mobile Gas Service Corporation as Borrower, AmSouth Bank of Alabama as Agent, and AmSouth Bank of Alabama, First Alabama Bank, Whitney Bank of Alabama, Bank of Mobile, SouthTrust Bank of Alabama, N.A., and Commonwealth National Bank as Lenders (incorporated by reference to Exhibit 10(u) to Form 10-K for fiscal year ended September 30, 1995)
10(u)-2 Amendment dated July 15, 1996 to Revolving Credit Agreement by and among Mobile Gas Service Corporation as Borrower, AmSouth Bank of Alabama as Agent, and AmSouth Bank of Alabama, First Alabama Bank, Whitney Bank of Alabama, Bank of Mobile, SouthTrust Bank of Alabama, N.A., and Commonwealth National Bank as Lenders (incorporated by reference to Exhibit 10(u)-2 to Form 10-K for fiscal year ended September 30, 1996)
10(u)-3 Amendment dated July 15, 1997 to Revolving Credit Agreement by and among Mobile Gas Service Corporation as Borrower, AmSouth Bank of Alabama as Agent, and AmSouth Bank of Alabama, First Alabama Bank, Whitney Bank of Alabama, Bank of Mobile, SouthTrust Bank of Alabama, N.A., and Commonwealth National Bank as Lenders(1)
10(x) Letter dated October 7, 1994 from Mobile Gas Service Corporation to John S. Davis confirming terms of employment (incorporated by reference to Exhibit A to Form 8-K current report filed November 2, 1994)(2)
E-4
10(y) Consulting Agreement dated January 27, 1995 between the Company and Walter L. Hovell (incorporated by reference to Exhibit 10(y) to Form 8-K Current Report dated January 27, 1995)(2)
10(z) Mobile Gas Service Corporation Non-Employee Directors Deferred Fee Plan (incorporated by reference to Exhibit 10(z) to Form 8-K Current Report dated January 27, 1995)(2)
10(aa) Mobile Gas Service Corporation Transportation Agreement between the Company and Methanol One of Alabama, L.L.C. dated September 26, 1997(1)(3)
11 Statement Re Computation of Per Share Earnings(1)
21 Subsidiaries of Registrant and Partnerships in which Registrant Owns an Interest(1)
23 Consent of Deloitte & Touche LLP(1)
27 Financial Data Schedule(1)
(1) Filed herewith
(2) Management contract or compensatory plan or arrangement
(3) Confidential portions of this exhibit have been omitted and filed separately with the Securities and Exchange Commission pursuant to a request for confidential treatment made in accordance with Rule 24b-2 promulgated under the Securities Exchange Act of 1934, as amended.
E-5