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| ARTNA > SEC Filings for ARTNA > Form 10-Q on 11-Aug-2008 | All Recent SEC Filings |
11-Aug-2008
Quarterly Report
RESULTS OF OPERATIONS FOR THE PERIOD ENDED JUNE 30, 2008
Overview
Strategic Direction
Our profitability is primarily attributable to the sale of water by Artesian Water, the amount of which is dependent on seasonal fluctuations in weather, particularly during the summer months when water demand may vary with rainfall and temperature. In the event that temperatures during the typically warmer months are cooler than expected, or rainfall is greater than expected, the demand for water may decrease and our revenues may be adversely affected. We believe the effects of weather are short term and do not materially affect the execution of our strategic initiatives.
Our initiatives south of the C&D Canal that began in 1992 are now providing the greatest portion of our customer growth. This shift in growth is primarily the result of the build out of our service area in northern New Castle County, Delaware.
While customer growth in our water utility subsidiaries continued to be a major focus in the first six months of 2008, we aggressively seek opportunities that produce revenue streams that are not as directly affected by weather. These opportunities include the efforts of Artesian Utility, which is actively pursuing opportunities to design, build and operate water and wastewater facilities throughout Delaware and surrounding areas on the Delmarva Peninsula. In addition, Artesian Utility acquired all rights, titles and interest in the operations contracts of TMH. We currently provide contract water and wastewater operation services to 21 private, municipal and governmental institutions in the southeastern part of Pennsylvania. Artesian Wastewater began providing wastewater services to customers in Delaware as a regulated public wastewater service company in July 2005. The opportunities generated through our wastewater service company may provide additional service territory for the regulated water subsidiary or may provide contract operations services for municipalities or other regulated entities. We will continue to focus attention on expanding our contract operations opportunities with municipalities and private water providers on the Delmarva Peninsula.
Our strategy is to focus on total resource management covering a wide spectrum of activities, which include: identifying new and dependable sources of supply; developing the wells, treatment plants and delivery systems to get water to customers; educating customers on the wise use of water; and providing responsible wastewater management to assist with recharge of the aquifers. Our strategy includes focusing our efforts to expand in new regions added to our service territory over the last 10 years, where growth is strong and demand is increasing. We also foresee significant growth opportunities in wastewater service and will continue to seek strategic partnerships and relationships with developers and municipalities to complement existing agreements for the provision of wastewater service on the Delmarva Peninsula.
In addition to services discussed above, Artesian Resources initiated a Service Line Protection Plan, or SLP Plan, in March 2005. The SLP Plan covers all parts, material and labor required to repair or replace participants' leaking water service lines up to an annual limit. As of June 30, 2008, approximately 10,600, or 18%, of our 60,000 eligible water customers had signed up for the SLP Plan. The SLP Plan was expanded in the second quarter of 2008 to include maintenance or repair to customers' sewer lines. This plan, Service Line Protection Sewer, or SLPS Plan, covers all parts, material and labor required to repair or replace participants' leaking or clogged sewer lines up to an annual limit. As of June 30, 2008, approximately 2,700, or 6%, of our 42,800 eligible customers had signed up for the SLPS Plan.
On May 5, 2008, Artesian Water Maryland signed an agreement to acquire Mountain Hill Water Company valued at approximately $7.0 million payable over 5 years. The acquisition included 27,600 feet of water main, a 500,000 gallon elevated storage tank, a 297,000 gallon per day water treatment facility and other related appurtenances. Mountain Hill Water Company currently serves two commercial accounts in the Principio Business Park located within Cecil County's designated growth corridor. The acquisition provides water service to customers in portions of the Principio Business Park and will provide water service to the proposed 660 home residential development of Charlestown Crossing as well as the surrounding area. This acquisition was finalized on August 1, 2008.
On June 6, 2008, Artesian Consulting acquired all the assets of Meridian Architects and Engineers, or Meridian, for a purchase price of $130,000. The acquisition includes the assignment of all current contract agreements to provide engineering services to developers and includes services to be provided to Artesian Water. Meridian's fourteen employees, which includes one architect, three licensed professional engineers, two licensed surveyors and three computer-aided design professionals, have been offered and accepted continued employment with Artesian Consulting.
Meridian is a leading provider of engineering services in Delaware, particularly in Sussex County . Artesian Resources has routinely employed engineering firms to design infrastructure for water and wastewater systems. This acquisition provides Artesian Resources with enhanced design and engineering capabilities that will significantly decrease the reliance on outside engineering firms for similar services. In addition, we believe that Meridian's ability to offer engineering services to design on-site water and wastewater systems for developers, as well as offsite wastewater collection systems in Sussex County, will provide additional revenues that are not weather sensitive, thus making the acquisition immediately accretive to Artesian Resources' earnings.
On June 30, 2008, Artesian Utility signed an agreement with Northern Sussex Regional Water Recycling Complex, LLC, or NSRWRC, for the design, construction and operation of the Northern Sussex Regional Water Recycling Complex, a wastewater treatment facility to be located in Sussex County, Delaware. NSRWRC was created for the purpose of developing the treatment facility site, which once constructed, will be operated by Artesian. Under the terms of the agreement, Artesian Resources acts as the guarantor (as described further in Note 7) of a $10 million construction loan, secured by a 75 acre parcel NSRWRC purchased on July 1, 2008 for approximately $5 million.
Artesian Utility has agreed to reimburse NSRWRC for the construction of phase 1 of the Facility through customer connection fees. Such connection fees will be split 40% to Artesian Utility and 60% to NSRWRC until NSRWRC's investment in the design, treatment, storage and disposal facilities are reimbursed. For reimbursement of NSRWRC's cost to acquire the Facility site, Artesian Utility has agreed to provide NSRWRC with ten annual $300,000 payments. In addition to the annual payments, Artesian Utility will provide certain monthly payments to NSRWRC consisting of a portion of fees received from new customers once the Facility is successfully constructed and operating. Once the cost of the construction and the cost of the Facility site have been fully reimbursed, NSRWRC will transfer its ownership of the Facility and the Facility Site to Artesian Utility or one of its affiliates. Until such time, NSRWRC has agreed to lease the Facility to Artesian Wastewater.
At such time as NSRWRC enters into agreements with third party lenders to
acquire the funds to purchase the Facility site and to construct the Facility,
the Company has also agreed to enter into a guaranty with such third party
lender(s) to guaranty all debts and obligations that are incurred by NSRWRC. Any
payments made by the Company pursuant to this guaranty will be credited against
Artesian Utility's obligations to reimburse NSRWRC for construction costs and
the cost of the Facility site, as described above.
As of June 30, 2008, we had approximately 75,600 metered water customers, approximately 580 wastewater customers, and served a population of approximately 255,000 (including contract services), representing approximately 30% of Delaware's total population. Increases in the number of customers served by Artesian Water and Artesian Wastewater contributed to increases in our operating revenues. The Delaware Public Service Commission, or PSC, regulates both Artesian Water's and Artesian Wastewater's rates charged for service, the sale and issuance of securities and other matters. Artesian Maryland is subject to the regulatory jurisdiction of the Maryland Public Service Commission.
Our regulated utilities periodically seek rate increases to cover the cost of increased operating expenses, increased financing expenses due to additional investments in utility plant and other costs of doing business. In Delaware, utilities are permitted by law to place rates into effect, under bond, on a temporary basis pending completion of a rate increase proceeding. The first temporary increase may be up to the lesser of $2.5 million on an annual basis or 15% of annual gross water sales. Should the rate case not be completed within seven months, by law, the utility may put the lesser of the entire requested rate relief or 15% of annual gross water sales in effect, under bond, until a final resolution is ordered and placed into effect. If such rates are found to be in excess of rates the PSC finds to be appropriate, we must refund the portion found in excess to customers with interest. The timing of our rate increase requests are therefore dependent upon the estimated cost of the administrative process in relation to the investments and expenses that we hope to recover through the rate increase. We can provide no assurances that rate increase requests will be approved by the applicable regulatory agencies; and, if approved, we cannot guarantee that these rate increases will be granted in a timely or sufficient manner to cover the investments and expenses for which we initially sought the rate increase. On April 22, 2008, Artesian Water filed a petition with the PSC to implement new rates to meet a requested increase in revenue of 28.8%, or approximately $14.2 million, on an annualized basis. On July, 11, 2008, pursuant to the PSC's minimum filing requirements, Artesian filed a supplemental filing with the PSC to update financial schedules for actual experience through March 31, 2008 and to reflect additional changes affecting the requested increase. The overall result was a reduction to the requested increase in revenue of 1.5%, to 27.3% or approximately $13.6 million, on an annualized basis.
As permitted by law, on June 21, 2008, we placed temporary rates into effect, designed to generate an increase in annual operating revenue of approximately 5.0%, or $2.5 million on an annualized basis, until new rates are approved by the PSC.
In 2003, legislation was enacted in Delaware requiring all water utilities serving within northern New Castle County to certify by July 2006 that they have sufficient sources of self-supply to serve their respective systems. On June 30, 2006, Artesian Water filed our certification related to the adequacy of our water supply through 2009. After completion of their review, on July 24, 2007, the PSC accepted our certification of sufficient water supply.
We are affected by inflation, most notably by the continually increasing costs required to maintain, improve and expand our service capability. The cumulative effect of inflation results in significantly higher facility costs compared to investments made 20 to 40 years ago, which must be recovered from future cash flows.
On April 10, 2006, the PSC made effective new rules under Regulation Docket 15 that govern the terms and conditions under which water utilities require advances or contributions from customers or developers. These regulations require that developers pay for all water facilities within a new development, with such funding recorded as contributions in aid of construction by the water utility. In addition, the utility is required to receive a contribution in aid of construction of $1,500 for each new residential connection to its system towards the cost of water supply, treatment and storage facilities. These regulations further require developers to fully pay for facilities to serve satellite systems. These required contributions are intended to place a greater burden upon new customers to pay for the cost of facilities required to serve them. On April, 8, 2008, the PSC reopened this docket to assess the effectiveness of the 2006 rules and regulations requiring water utilities to collect contributions in aid of construction. We anticipate this proceeding to continue through the end of the year.
Price caps instituted by electric restructuring legislation in Delaware in 1999 were lifted in 2006, resulting in extreme price increases for all of Delmarva Power's customers. Artesian was able to mitigate these increases by signing a two-year fixed price supply contract with Pepco Holdings, Inc, or Pepco, in May of 2006. We entered a new two-year electric supply contract with Pepco in April of 2008. This new pricing is included in our request for rate relief filed with the PSC.
Results of Operations - Analysis of the Quarter Ended June 30, 2008 Compared to the Quarter Ended June 30, 2007
Operating Revenues
Revenues totaled $13.9 million for the quarter ended June 30, 2008, $1.0 million, or 7.7%, above revenues for the quarter ended June 30, 2007 of $12.9 million. Water sales revenues increased 4.8% for the quarter ended June 30, 2008, over the corresponding period in 2007. Water sales revenue for the quarter ended June 30, 2008 was positively impacted by the implementation of the second step of the rate increase on July 24, 2007 of 3.0% as approved by the PSC upon completion of our issuance of common stock. In addition, a portion of the increase in water sales revenue reflects an increase of 1,107 in the number of customers served as compared to the same period in 2007. We realized 90.0% of our total operating revenue for the quarter ended June 30, 2008 from the sale of water. In 2007, 92.5% of our total revenue was from water sales.
Non-utility operating revenue increased $339,000 for the quarter ended June 30, 2008, or 68.0%, from $498,000 in 2007 to $837,000 for the same period in 2008. This increase is attributable to increased contract revenues in Artesian Utility, primarily with the addition of Pennsylvania contract operations, $140,000, and the initial design and construction of a new regional wastewater facility of $127,000. The increase in revenue also includes an increase of $46,000 and $4,000, respectively in water and wastewater SLP Plan revenue. The SLP Plan provides coverage for all material and labor required to repair or replace participants' leaking water and leaking or clogged wastewater service lines up to an annual limit.
Operating Expenses
Operating expenses, excluding depreciation and income taxes, increased $0.8 million, or 10.5%, to $8.7 million for the quarter ended June 30, 2008, compared to $7.8 million for the same period in 2007. The components of the increase in operating expenses included an increase in utility operating expenses of $521,000 and an increase in property taxes of $105,000. Non-utility operating expenses increased $195,000 in the second quarter of 2008, or 50.4%, compared to the same period last year.
The increase in utility operating expense of $521,000 for the quarter ended June 30, 2008, or 7.7%, over the same period in 2007, is comprised of increases in payroll and employee benefits costs, purchased water, repair and maintenance expense and purchased power expense. These increases were partially offset by reductions in administration and water treatment expense.
Payroll and employee benefit expense increased $250,000, or 7.1%, compared to the same period in 2007, primarily due to increases in employee count, employee wages from merit increases, and increased employee benefit premium expense.
Purchased water expense increased $169,000, or 28.0%, compared to the same period in 2007, primarily due to the timing of purchases under minimum contracts from the Chester Water Authority and an increase of 1.1% in Chester Water Authority's rates effective in July 2007.
Repair and maintenance expense increased $119,000, or 23.5%, compared to the same period in 2007, primarily due to increased expenses for software consulting support related to the Peoplesoft Financial System implementation.
Purchased Power expense increased $47,000, or 8.6%, compared to the same period in 2007 due to an 8.47% rate increase in May 2008 and increased usage.
The increases were partially offset by a reduction of $39,000, or 3.5%, in administration expense. The decrease in administration expense was the result of a decrease in temporary employment services compared to the same quarter a year ago.
The increases were also offset by a reduction of $36,000, or 12.9%, in water treatment expense. The decrease in water treatment expense was the result of decreased water testing for the quarter.
Non-utility expense increased approximately $195,000, or 50.4%, for the quarter ended June 30, 2008, compared to the quarter ended June 30, 2007, as a result of the increase in contract projects as compared to the same period in 2007.
Property and other taxes increased by $105,000, or 15.2%, compared to the same period in 2007, reflecting increases in tax rates charged for public schools in various areas where Artesian holds property and increases in the number of plants owned by Artesian. Property taxes are assessed on land, buildings and certain utility plant, which includes the footage and size of pipe, hydrants and wells primarily owned by Artesian Water.
The ratio of operating expense, excluding depreciation and income taxes, to total revenue was 62.3% for the quarter ended June 30, 2008, compared to 60.7% for the quarter ended June 30, 2007.
Depreciation and amortization expense increased $15,000, or 1.2%, over the quarter ended June 30, 2008 as compared to the same period in 2007, due to continuing investment in utility plant in service providing supply, treatment, storage and distribution of water.
Federal and state income tax expense increased $156,000 due to higher profitability for the quarter ended June 30, 2008, compared to the quarter ended June 30, 2007.
Other Income, Net
Our Allowance for Funds Used During Construction, or AFUDC, increased $137,000, or 182.7%, compared to the same period in 2007, as a result of increased long-term construction activity subject to AFUDC for the second quarter of 2008 compared to the same period in 2007.
Interest Charges
Interest charges decreased $113,000, or 6.7%, for the quarter ended June 30, 2008, compared to the quarter ended June 30, 2007, primarily due to less short-term debt interest as a result of lower borrowing on our lines of credit coupled with lower average borrowing costs in 2008 compared to 2007.
Net Income
Our net income increased $258,000, or 20.3%, for the quarter ended June 30, 2008, compared to the same period a year ago. The increase in net income for the quarter was primarily the result of lower operating income offset by increased other income. Our net operating income decreased $2,000, or 0.1%, for the three months ended June 30, 2008, compared to the same period a year ago. This decrease was primarily due to lower operating income margins from both our water and wastewater utility business as well as our non-utility subsidiaries. Offsetting this unfavorable variance for the three months ended June 30, 2008 was higher other income from increased construction interest income, AFUDC, coupled with lower short-term interest charges in the second quarter compared to the same period a year ago.
Results of Operations - Analysis of the Six months Ended June 30, 2008 Compared to the Six months Ended June 30, 2007
Operating Revenues
Revenues totaled $26.2 million for the six months ended June 30, 2008, $1.7 million, or 6.8%, above revenues for the six months ended June 30, 2007 of $24.5 million. Water sales revenues increased 4.2% for the six months ended June 30, 2008, over the corresponding period in 2007. Water sales revenue for the six months ended June 30, 2008 was positively impacted by the implementation of the second step of the rate increase on July 24, 2007 of 3.0% as approved by the PSC upon completion of our issuance of common stock. In addition, a portion of the increase in water sales revenue reflects an increase of 1,107 in the number of customers served as compared to the same period in 2007. We realized 90.2% of our total operating revenue for the six months ended June 30, 2008 from the sale of water. In 2007, 92.4% of our total revenue was from water sales.
Non-utility operating revenue increased $615,000 for the six months ended June 30, 2008, or 63.9%, from $963,000 in 2007 to $1,576,000 for the same period in 2008. This increase is attributable to increased contract revenues in Artesian Utility, primarily due to design and permitting services totaling $250,000 performed for a developer in Sussex County, Delaware, the addition of Pennsylvania contract operations, $245,000, and the initial design and construction of a new regional wastewater facility of $181,000. The increase in revenue also includes an increase of $82,000 and $4,000, respectively, for the water and wastewater SLP Plan revenue. The SLP Plan provides coverage for all material and labor required to repair or replace participants' leaking water and leaking or clogged wastewater service lines up to an annual limit.
Operating Expenses
Operating expenses, excluding depreciation and income taxes, increased $1.8 million, or 11.6%, to $17.0 million for the six months ended June 30, 2008, compared to $15.2 million for the same period in 2007. The components of the increase in operating expenses included an increase in utility operating expenses of $1,009,000 and an increase in property taxes of $210,000. Non-utility operating expenses increased $547,000 in the first six months of 2008, or 91.6%, compared to the same period last year.
The increase in utility operating expense of $1,009,000 for the six months ended June 30, 2008, or 7.6%, over the same period in 2007, is comprised of increases in payroll and employee benefits costs, purchased water, purchased power, administration costs and repair and maintenance expense.
Payroll and employee benefit expense increased $540,000, or 8.0%, compared to the same period in 2007, primarily due to increases in employee count, employee wages from merit increases, and increased employee benefit premium expense.
Purchased water expense increased $219,000, or 17.5%, compared to the same period in 2007, primarily due to the timing of purchases under minimum contracts from Chester Water Authority and an increase in Chester Water Authority's rates of 1.1% effective in July 2007.
Purchased Power expense increased $97,000, or 8.2%, compared to the same period in 2007 due to an 8.47% rate increase in May 2008 and increased usage.
Administration expense increased $94,000, or 4.4%, compared to the same period in 2007, primarily due to increased employment recruitment services.
Repair and maintenance expense increased $40,000, or 3.8%, compared to the same period in 2007, primarily due to increased expenses for software consulting support related to the Peoplesoft Financial System implementation.
Non-utility expense increased approximately $547,000, or 91.6%, for the six months ended June 30, 2008, compared to the six months ended June 30, 2008, as a result of increased contract projects as compared to the same period in 2007.
Property and other taxes increased by $210,000, or 15.2%, compared to the same period in 2007, reflecting increases in tax rates charged for public schools in various areas where Artesian holds property and increases in the number of plants owned by Artesian. Property taxes are assessed on land, buildings and certain utility plant, which includes the footage and size of pipe, hydrants and wells primarily owned by Artesian Water.
The ratio of operating expense, excluding depreciation and income taxes, to total revenue was 64.9% for the six months ended June 30, 2008, compared to 62.1% for the six months ended June 30, 2007.
Depreciation and amortization expense increased $137,000, or 5.5%, over the six months ended June 30, 2008 as compared to the same period in 2007, due to continuing investment in utility plant in service providing supply, treatment, storage and distribution of water.
Federal and state income tax expense increased $86,000 due to higher profitability for the six months ended June 30, 2008, compared to the six months ended June 30, 2007.
Other Income, Net
Our Allowance for Funds Used During Construction, or AFUDC, increased $194,000, or 143.7%, compared to the same period in 2007, as a result of increased long-term construction activity subject to AFUDC for the six months ended June 30, 2008, compared to the same period in 2007.
Interest Charges
Interest charges decreased $229,000, or 6.9%, for the six months ended June 30, 2008, compared to the six months ended June 30, 2007, primarily due to less short-term debt interest as a result of lower borrowing on our lines of credit coupled with lower average borrowing costs in 2008 compared to 2007.
Net Income
Our net income increased $101,000, or 4.2%, for the six months ended June 30, 2008, compared to the same period a year ago. The increase in net income for the six months was primarily the result of lower operating income offset by . . .
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