-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, WJTwIGQ861GpHZduti0teeSdHj9uxBQW5mUw0HN1uY43xxLTsPnCk/k44X7VlfQJ iIU3eTCsqvPeygMQJUIFOw== 0000927016-98-004350.txt : 19981228 0000927016-98-004350.hdr.sgml : 19981228 ACCESSION NUMBER: 0000927016-98-004350 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19980930 FILED AS OF DATE: 19981223 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PROVIDENCE ENERGY CORP CENTRAL INDEX KEY: 0000319651 STANDARD INDUSTRIAL CLASSIFICATION: NATURAL GAS DISTRIBUTION [4924] IRS NUMBER: 050389170 STATE OF INCORPORATION: RI FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-10032 FILM NUMBER: 98775015 BUSINESS ADDRESS: STREET 1: 100 WEYBOSSET ST CITY: PROVIDENCE STATE: RI ZIP: 02903 BUSINESS PHONE: 4012725040 MAIL ADDRESS: STREET 1: 100 WEYBOSSET STREET CITY: PROVIDENCE STATE: RI ZIP: 02903 10-K 1 FORM 10-K FORM 10-K SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 [X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended September 30, 1998 ------------------ OR [_] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from ____________________ to ___________________ Commission file number 1-10032 ------- PROVIDENCE ENERGY CORPORATION - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Rhode Island 05-0389170 - ------------------------------------------------------------------------- (State or other jurisdiction of (I. R. S. Employer incorporation or organization) Identification No.) 100 Weybosset Street, Providence, Rhode Island 02903 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code 401-272-9191 ----------------------------- Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which - ------------------- ------------------------------ registered ---------- Common Stock, $1.00 Par Value NEW YORK STOCK EXCHANGE - ------------------------------------------------------------------------- Securities registered pursuant to Section 12(g) of the Act: NONE - -------------------------------------------------------------------------------- (Title of Class) Indicate by checkmark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES X NO ___ --- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] State the aggregate market value of the voting stock held by non-affiliates of the Registrant, as of December 2, 1998: $125,381,227 Indicate the number of shares outstanding of each of the Registrant's classes of common stock, as of the latest practicable date. Common Stock, $1.00 Par Value: 5,981,898 shares outstanding at December 2, - --------------------------------------------------------------------------- 1998. - ----- DOCUMENTS INCORPORATED BY REFERENCE - ----------------------------------- Portions of the annual report to shareholders for the fiscal year ended September 30, 1998 are incorporated by reference into Part II. TABLE OF CONTENTS
PART I PAGE Item 1 - Business General I-1 Operations of the Gas Companies I-2 Nonregulated Businesses I-9 Special Factors Affecting the Natural Gas Industry I-10 Environmental Regulations I-11 Other Standards I-13 Item 2 - Properties I-14 Item 3 - Legal Proceedings I-14 Item 4 - Submission of Matters to a Vote of Security Holders I-14 PART II Item 5 - Market for Registrant's Common Equity and Related Stockholders' Matters II-1 Item 6 - Selected Financial Data II-1 Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations II-1 Item 8 - Financial Statements and Supplementary Data II-1 Item 9 - Changes in and Disagreements with Accountants on Accounting and Financial Disclosure II-1 PART III Item 10 - Directors and Executive Officers of the Registrant III-1 Item 11 - Executive Compensation III-4 Item 12 - Security Ownership of Certain Beneficial Owners and Management III-4 Item 13 - Certain Relationships and Related Transactions III-4 PART IV Item 14 - Exhibits, Financial Statement Schedules and Reports on Form 8-K IV-1 Experts Consent IV-5 Supplemental Schedule IV-6 Signatures IV-10
PART I - ------ ITEM 1. BUSINESS - ---------------- Providence Energy Corporation (the Registrant) and its subsidiaries and their representatives may from time to time make written or oral statements, including statements contained in the Registrant's filings with the Securities and Exchange Commission (SEC) and in its reports to shareholders, including this Form 10-K and annual report to shareholders, which constitute "forward-looking" statements as that term is defined in the Private Securities Litigation Reform Act of 1995 or by the SEC in its rules, regulations and releases. All statements other than statements of historical facts included in this Form 10-K and annual report regarding the Registrant's financial position and strategic initiatives and addressing industry developments are forward-looking statements. Where, in any forward-looking statement, the Registrant, or its management, expresses an expectation or belief as to future results, such expectation or belief is expressed in good faith and believed to have a reasonable basis, but there can be no assurance that the statement of expectation or belief will result or be achieved or accomplished. The following are some of the factors which could cause actual results to differ materially from those anticipated: general economic, financial and business conditions; changes in government regulations; effectiveness of hedging strategies; competition in the energy services sector; regional weather conditions; the availability and cost of natural gas and oil; development and operating costs; the success and costs of advertising and promotional efforts; the availability and terms of capital; the business abilities and judgment of personnel; the ability of the Registrant and its suppliers and customers to modify or redesign their computer systems to work properly by the Year 2000; unanticipated environmental liabilities; the Registrant's ability to grow its business through acquisitions and/or significant customer growth; the costs and effects of unanticipated legal proceedings; the impacts of unusual items resulting from ongoing evaluations of business strategies and asset valuations; and changes in business strategy. For more information, please see "Special Factors Affecting the Natural Gas Industry". General - ------- The Registrant was organized in 1981 as a Rhode Island business corporation. The Registrant's outstanding common shares are listed on the New York Stock Exchange under the ticker symbol (PVY). The Registrant is the parent of two wholly-owned natural gas distribution utilities, The Providence Gas Company (ProvGas) and North Attleboro Gas Company (North Attleboro Gas), together referred to as the Gas Companies. In August 1996, the Registrant incorporated Providence Energy Services, Inc. (ProvEnergy Services) to market natural gas and energy services. In May 1998, the Registrant and Southern Energy, Inc., (Southern) agreed to end their joint efforts to develop a New England retail energy business using ProvEnergy Services, which was doing business under the name Providence-Southern. The Registrant will continue to use ProvEnergy Services as the vehicle to grow its natural gas, oil, and electricity business to retail accounts in New England. I-1 In November 1997, as part of the Registrant's strategic plan to strengthen its position in the energy industry, the Registrant purchased two Rhode Island- based oil distribution companies, Super Service Oil and Mohawk Oil. Together with three smaller acquisitions that the Registrant also completed during 1998, the Registrant's oil business serves over 4,000 residential customers and a large commercial base. ProvGas, Rhode Island's largest natural gas distributor, was founded in 1847 and serves approximately 166,000 customers in Providence, Newport and 23 other cities and towns in Rhode Island. North Attleboro Gas serves approximately 4,000 customers in North Attleboro and Plainville, Massachusetts, towns adjacent to the northeastern Rhode Island border. The total natural gas service territory of the Gas Companies encompasses 760 square miles and has a population of approximately 850,000. The corporate offices of the Registrant are located at 100 Weybosset Street, Providence, Rhode Island 02903 (Telephone 401-272-5040). Operations of the Gas Companies - ------------------------------- Customers - --------- The Gas Companies had an average number of customers of approximately 170,000 for the twelve months ended September 30, 1998, of which approximately 90% were residential and 10% were commercial and industrial. The net increase in the average number of customers during fiscal 1998 over fiscal 1997 was approximately 1,800 or 1.0%. This increase was the result of new housing construction and conversions from other energy sources. This increase was achieved in a local economy which is just now beginning to prosper. Seasonally adjusted unemployment stood at 4.9 percent in September 1998, down from 5.2 percent twelve months earlier, and slightly above the national average of 4.6 percent. Also, there is considerable new construction throughout the state, especially in Providence, where the Providence Place Mall is expected to be completed by August 1999, and six new hotels have been proposed. A recent University of Rhode Island study predicts economic stability in the state for the immediate future. Gas Service - ----------- The gas services provided by the Gas Companies can be grouped into four categories -- firm sales, firm transportation, non-firm sales and non-firm transportation. Firm service is provided to those residential, commercial and industrial customers that use natural gas throughout the year. Non-firm service is provided to those commercial and industrial customers that do not require assured gas service because they can utilize an alternative fuel or otherwise operate without gas service. Transportation service is a service where the Gas Companies transport to certain large customers gas owned by those customers or by third parties selling gas to those customers. I-2 The following table shows the distribution of gas to various customer classes, and the total gas sold and transported by year since 1994:
1998 1997 1996 1995 1994 ---- ---- ---- ---- ---- Firm Sales 73.9% 80.4% 85.8% 76.4% 81.9% Firm Transportation 16.6 6.7 1.3 0.7 - Non-Firm Sales 5.6 9.6 9.3 17.6 15.8 Non-Firm Transportation 3.9 3.3 3.6 5.3 2.3 ----- ----- ----- ----- ----- 100.0% 100.0% 100.0% 100.0% 100.0% ===== ===== ===== ===== =====
Total Gas Sold and Transported - ------------------------------
1998 1997 1996 1995 1994 ---- ---- ---- ---- ---- BCF(*) 25.4 27.3 28.1 28.1 28.7 ==== ==== ==== ==== ====
(*) Gas sales are denominated in billions of cubic feet (Bcf) of natural gas. Total gas sales include gas sold and transported by the Gas Companies. Firm Sales - ---------- In the recent year, the distribution of the Gas Companies' firm sales was approximately 70% to residential and 30% to commercial and industrial customers. Firm sales represent the highest percentage of operating margin and represent the core of the Gas Companies' business. Non-Firm - -------- Non-firm customers consist of two types: seasonal customers that typically use gas only during the nonwinter months and dual-fuel customers that contract for gas service on a year round basis, but agree to service interruption during certain peak periods. By retaining the right to interrupt service to the dual- fuel customers, the Gas Companies can balance daily demand from firm customers with available gas supply and pipeline capacity. Non-firm customers may interrupt their gas service, as well, when it is more economical to utilize an alternative fuel. Accordingly, the amount of the Gas Companies' non-firm sales fluctuates depending upon the relative price of natural gas to alternative fuels. Non-firm sales produce substantially less margin to the Gas Companies than firm sales due to the more competitive nature of non-firm sales. Service rates charged to dual-fuel customers are based on the price that the customer would otherwise pay for its alternative fuel. In fiscal year 1998, under the terms of the Price Stabilization Plan Settlement Agreement, any margin earned from these non-firm customers was retained by the Registrant - See "Rates and Regulation" -------------------- and "Competition and Marketing". ------------------------- Transportation Service - ---------------------- The Registrant provides both firm and non-firm transportation of gas. Margin from the firm transportation of gas purchased by certain large customers from third parties is likely to represent an increasing percentage of the Gas Companies' future total margin due to the continuing developments affecting the natural gas industry - see "Competition and Marketing." In general, these -------------------------- developments now allow customers to buy gas directly from the producer-supplier rather than solely from the local gas distribution company. Customer-owned gas is transported to the customer's premises through a combination of the interstate pipelines and the Gas Companies' distribution systems. I-3 For a given quantity of gas, the Gas Companies' margin from firm transportation service is comparable to the margin from firm sales. Margin from nonfirm transportation service is less than the margin from firm sales, but is generally comparable to the margin from interruptible sales, depending on the price of alternative fuels. To the extent that the Gas Companies' existing customers buy gas directly from producer-suppliers, the Gas Companies' revenue will decrease although firm margin will not be materially impacted. In fiscal year 1998, under the terms of the Price Stabilization Plan Settlement Agreement, any margin earned from these non-firm customers will be retained by the Registrant - See "Rates and Regulation" and "Competition and Marketing." -------------------- -------------------------- Gas Supply - ---------- The Registrant's principal subsidiary, ProvGas, entered into a full requirements gas supply contract with Duke Energy Trading and Marketing, L.L.C. (DETM) for a term of three years. Under the contract, DETM guarantees to meet ProvGas' supply requirements; however, ProvGas must purchase all of its gas supply exclusively from DETM. Under the contract, ProvGas transferred responsibility for its pipeline capacity resources, storage contracts and all liquified natural gas capacity to DETM. As a result, ProvGas' gas inventories of approximately $18 million as of September 30, 1997 were sold at book value to DETM on October 1, 1997. As well as providing supply for firm customers at a fixed price, DETM provides gas at market prices to cover ProvGas' non-firm sales customers' needs and to make up the supply imbalances of transportation customers. DETM also provides various other services to ProvGas' transportation service customers including enhanced balancing, standby and the storage and peaking services available under ProvGas' firm transportation storage service in effect since December 1, 1997. DETM receives the supply-related revenues from these services in exchange for providing the supply management inherent in these services. Included in the DETM contract are a number of other important features. ProvGas has retained the right to continue to make portfolio changes to reduce supply costs. To the extent ProvGas makes such changes, ProvGas must keep DETM whole for the value lost over the remainder of the contract period. The contract relieves ProvGas of the need to perform certain upstream supply management functions which makes it possible for ProvGas to take on the additional supply management workload required by the further unbundling of firm sales customers without major staffing additions. As a result of Federal Energy Regulatory Commission (FERC) Order 636 and other related orders (the Orders), pipeline transportation companies have incurred significant costs, collectively known as transition costs. The majority of these costs will be reimbursed by the pipeline's customers, including ProvGas. ProvGas estimates its transition costs to be approximately $21.7 million, of which $16.2 million has been included in the Gas Charge Clause (GCC) and collected from customers through September 30, 1997. At September 30, 1997, the remaining minimum obligation of $5.5 million was recorded in the accompanying Consolidated Balance Sheets along with a regulatory asset anticipating future recovery. As part of the above supply contract, DETM assumed liability for these transition costs during the contract's three-year term. At the end of the three-year term of the contract, ProvGas will assume any remaining liability, which is not expected to be material. I-4 Rates and Regulation - -------------------- ProvGas is subject to the regulatory jurisdiction of the Rhode Island Public Utilities Commission (RIPUC) and North Attleboro Gas is subject to the jurisdiction of the Massachusetts Department of Telecommunications and Energy (MDTE) with respect to rates and charges, standards of service, accounting and other matters. In August 1997, the RIPUC approved the Price Stabilization Plan Settlement Agreement (Energize RI or the Plan) among ProvGas, the Rhode Island Division of Public Utilities and Carriers (the Division), The Energy Council of Rhode Island (TEC-RI), and the George Wiley Center. Effective October 1, 1997 through September 30, 2000, Energize RI provides customers with an initial price decrease of approximately four percent in addition to a three-year price freeze. Under Energize RI, the GCC was suspended for the entire term. Energize RI also requires ProvGas to make significant capital investments to improve its distribution system. In addition, Energize RI requires ProvGas to fund the Low- Income Assistance Program at an annual level of $1 million, the Demand Side Management Rebate Program at annual level of $.5 million and the Low-Income Weatherization Program at an annual level of $.2 million. Energize RI also continues the process of unbundling by requiring ProvGas to provide unbundled service offerings for up to 10 percent per year of firm deliveries. As part of Energize RI, ProvGas will amortize approximately $4.0 million of environmental costs previously charged to the accumulated depreciation reserve. These costs and all environmental costs incurred during the term of the Plan will be amortized over a 10-year period. Also, in connection with the Plan, ProvGas wrote off approximately $1.5 million of previously deferred gas costs in October 1997. Under Energize RI, ProvGas may earn up to 10.9 percent annually on its average common equity of up to $81.0 million, $86.2 million and $92.0 million in fiscal 1998, 1999 and 2000, respectively. In addition, ProvGas may not earn less than a seven percent return on average common equity. In the event that ProvGas earns in excess of 10.9 percent or less than seven percent, ProvGas will defer revenues or costs through a deferred revenue account over the term of the Plan. Any balance in the deferred revenue account at the end of the Plan will be refunded to or recovered from customers in a manner to be determined by all parties to the Plan and to be approved by the RIPUC. As part of Energize RI, ProvGas is permitted to file with the Division for the recovery of the impact of exogenous Changes (Changes) which may occur during the three-year term of the Plan. Changes are defined as "...significant increases or decreases in ProvGas' costs or revenues which are beyond ProvGas' reasonable control." Any disputes regarding either the nature or quantification of the Changes are to be resolved by the RIPUC. The impact of any such Changes will be debited or credited to a regulatory asset or liability account throughout the term of Energize RI and will be recovered or refunded at the expiration of the Plan through a method to be determined. During 1998, due to the extremely warm temperatures, ProvGas experienced a margin loss of approximately $4.0 million. ProvGas also experienced a non-firm margin loss of approximately $2.2 million due to adverse market prices of natural gas versus alternate fuels. ProvGas believes the causes of these two events were beyond its control and thus considers them as Changes. In fiscal 1999, ProvGas intends to file with the Division for recovery of a portion of these losses. I-5 In 1998, ProvGas did not earn its allowed rate of return primarily as a result of the extremely warm weather and the loss of non-firm margin. Under the Plan's design, which assumed normal weather, ProvGas should have had earnings in year one of the Plan in excess of 10.9 percent. The earnings in excess of 10.9 percent were to be deferred in the deferred revenue account to fund capital investments and other Plan commitments in the remaining two years of the Plan. Absent favorable recovery for the Changes discussed above, and/or other factors such as colder than normal weather, ProvGas' ability to earn a 10.9 percent return on average common equity in future Plan years is substantially impaired. The following table sets forth the results of ProvGas' applications before the RIPUC, prior to Energize RI, for revenue increases since 1990.
Authorized Date of Revenue Increase Date Rates Revenue Increase Return on Application Requested Effective Allowed (*) Common Equity - ------------- -------------- ------------ ----------------- -------------- 5/17/90 $15,800,000 03/15/91 $9,176,000 12.8% 1/15/93 9,100,000 (**) 11/14/93 694,000 11.2 2/16/95 14,880,000 (***) 12/17/95 4,161,572 (****) 10.9
(*) Although the RIPUC reviews and approves all changes in gas costs billed to customers through the GCC, such changes are not part of the general rate filings described above. See Footnotes 1 and 9 in the Notes to the Consolidated Financial Statements contained in the Registrant's 1998 Annual Report to Shareholders filed herewith as Exhibit 13. (**) Rate increase requested on January 15, 1993 of $9.1 million was recalculated to $6,970,000 on September 14, 1993 due to cost of service adjustments reflecting cost savings. (***) Rate increase requested on February 16, 1995 of $14.9 million was revised to $13,222,000 on July 18, 1995 due to lower projected costs. (****) The allowed annualized revenue increase of $4,161,572 is comprised of an initial award of $3,990,000 plus a revenue adjustment of $171,572 due to a reconsideration motion. In May 1996, the RIPUC approved a Rate Design Settlement Agreement (the Agreement) among ProvGas, the Division, TEC-RI, and a consortium of oil heat organizations. The Agreement began a process of unbundling natural gas service in Rhode Island, enabling customers to choose their gas suppliers. The Agreement included changes to ProvGas' gas cost recovery mechanism. Specifically, the Agreement replaced the previous Cost of Gas Adjustment Clause (CGA) with Gas Charge Clauses (GCC) effective June 2, 1996. In addition to the commodity and related pipeline transportation costs historically included in the CGA, the GCC provided for the recovery of: (1) inventory financing costs; (2) working capital associated with gas supply purchases; (3) bad debt expenses associated with the gas revenue portion of customer bills; and (4) a substantial portion of liquefied natural gas operating and maintenance expenses, all of which were previously recovered in base rates. Similar to the former CGA, the GCC provided for reconciliation of total gas costs billed with the actual cost of gas incurred. Any excess or deficiency in amounts billed as compared to costs incurred was deferred and either refunded to, or recovered from, customers over a subsequent period. As a result of the Price Stabilization Plan Settlement Agreement described in Note 9 of the Consolidated Financial Statements included in the I-6 Annual Report to Shareholders filed as Exhibit 13, the GCC will be suspended for the period of October 1, 1997 through September 30, 2000. Any excess or deficiency in amounts billed as compared to costs incurred will be retained or borne by ProvGas during this period. In a decision issued September 1, 1998, the Division rejected allegations made in a complaint brought by Aurora Natural Gas that ProvGas provided advance information and undue preference in pricing to its marketing affiliate, ProvEnergy Services. As part of its investigation, the Division ordered marketer refunds of $.3 million. The Division ordered this refund based on its belief that an unfair rate was charged to customers who did not have operational telemeters in place when they began transporting gas. ProvGas intends to pursue all available options in order to reverse this decision. Competition and Marketing - ------------------------- In addition to funding investments related to system integrity, Energize RI provides opportunities for ProvGas to expand sales. For example, high pressure service to Quonset/Davisville Industrial Port & Commerce Park, a key area for State economic development, provides tremendous opportunities for sales growth as commercial and industrial businesses locate within the park. In addition, Demand-Side Management, an equipment rebate program, provides opportunities to expand sales to nontraditional applications, such as air conditioning and fuel cells. ProvGas has redirected its sales and marketing efforts to leverage Energize RI, as well as other opportunities to promote sales growth within its service territory. In response to the large increase of both state-owned and private fleet vehicles powered by natural gas, ProvGas invested approximately $.3 million to renovate its Providence "quick-fill" station for natural gas vehicles - one of three stations ProvGas operates in the state. Fleet operators throughout the region are expressing greater interest in alternative-fuel vehicles. One of these operators is the Rhode Island Public Transit Authority, which recently launched a major program to replace a large number of its 200 diesel buses with buses that operate solely on natural gas. A new Rhode Island law provides substantial tax incentives which, along with the Federal Department of Energy's designation of Providence as a "clean city" should increase use and awareness of the benefits of natural gas vehicles. Per the Agreement with the RIPUC that went into effect in June 1996, the initial phase of unbundling was available to approximately 120 of the largest commercial and industrial customers. In August 1997, the RIPUC approved a plan, called Business Choice, to further unbundle services to an additional 3,400 medium and large commercial and industrial customers. ProvGas commenced Business Choice in December 1997. Energize RI continues the process of unbundling by requiring ProvGas to provide unbundled service offerings for up to 10 percent per year of firm deliveries. At the conclusion of the latest enrollment period on October 1, 1998, an additional 530 customers had signed up for Business Choice. The program now has approximately 1,500 firm transportation customers with annual deliveries of over 5 billion cubic feet per year which is approximately 25 percent of ProvGas' total annual firm deliveries. There are 14 different marketers serving ProvGas' customers and transporting on the system. I-7 In 1996, ProvGas implemented a Demand Side Management (DSM) Program, which furnishes rebates to customers installing new technologies, such as gas fired air conditioning, cogeneration and gas motors. These technologies use proportionately more natural gas during the summer months, when the distribution system has available capacity. The DSM Program also allows for the utilization of existing resources, such as mains, services and year-round supply contracts. This DSM Program will continue to be funded under Energize RI. The discussion of Competition and Marketing for the Registrant's non- regulated businesses can be found in the "Nonregulated Businesses" section. ----------------------- Employees - --------- As of September 30, 1998, the Registrant had 637 full-time employees. Approximately 269 of ProvGas' distribution and customer service employees are covered by a collective bargaining agreement with Local 12431-01 of the United Steelworkers of America, which became effective in January 1996. The bargaining agreement was developed by a labor-management negotiations committee and contains a provision allowing the agreement to be reopened for any reason at any time in order for the committee to deal with new issues as they arise. The provision results in increased flexibility in the use of employees. The original agreement called for a general wage increase of 3.25% each year from 1997 to 2000. In April 1998 the contract with Local 12431-01 was renegotiated and extended to January 2002. This negotiation provides for a 3.5% wage increase in January 1999, January 2000, and January 2001. Additionally, in March 1996, a 38 month Labor Agreement was ratified by Local 12431-02 of the United Steelworkers of America, which represents 90 office and clerical employees of ProvGas. The agreement called for an average general wage increase of 2.9 percent in 1998. In April 1998 the contract with Local 12431-02 was renegotiated and extended to May 2002. This negotiation provides for a 3.5% wage increase in June 1999, June 2000, and June 2001. Gas Distribution Systems - ------------------------ The Gas Companies' distribution systems consist of approximately 2,400 miles of gas mains ranging in size from 2 to 36 inches in diameter, approximately 144,000 services (a "service" meaning a pipe connecting a gas main with piping on a customer's premises), and approximately 168,000 active gas meters together with related facilities and equipment. The Gas Companies have regulating and metering facilities at nine points of delivery from Algonquin Gas Transmission Company and one point of delivery from Tennessee Gas Pipeline Company, which the Gas Companies presently believe to be adequate for receiving gas into their distribution systems. I-8 Nonregulated Businesses - ----------------------- In November 1997, as part of the Registrant's strategic plan to strengthen its position in the energy industry, the Registrant purchased two Rhode Island- based oil distribution companies, Super Service Oil and Mohawk Oil. Together with three smaller acquisitions that the Registrant also completed during 1998, the Registrant's oil business serves over 4,000 residential customers with a large commercial base. While these acquisitions further the Registrant's transition to a diversified energy provider, the oil business sustained substantial operating losses in 1998 during the first year of operations. These losses were primarily due to lost operating margin from warmer than normal weather, lower than anticipated commercial margins and the costs associated with liquidating fixed purchase commitments and option contracts for oil when market prices dropped significantly. An increase in sales to customers to be acquired by acquisition, as well as a planned return to typical profit margins, are expected to reduce the loss sustained in 1998 so that only a small loss is generated in 1999. More favorable profit margins should be achieved as substantially all sales commitments have been hedged with financial instruments to protect the business from the impact of dramatic price movements. Additionally, management is focusing its marketing efforts on the higher margin residential segment. The Registrant's retail energy marketing subsidiary, ProvEnergy Services, also has substantial growth opportunities as the New England energy markets deregulate. ProvEnergy Services experienced natural gas sales volume growth of 150 percent and a fifteen-fold increase in the number of customers in 1998. ProvEnergy Services expects significant customer growth again in 1999, but forecasts a small operating loss. In May 1998, the Registrant and Southern Energy, Inc. (Southern) agreed to end their joint efforts to develop a New England retail energy business using ProvEnergy Services, which was doing business under the name Providence- Southern. The Registrant will continue to use ProvEnergy Services as the vehicle to grow its natural gas, oil and electricity business to retail accounts throughout New England. During 1998, ProvEnergy Services made a successful transition from Southern to other natural gas suppliers, including DETM, to provide its wholesale natural gas supply. In the future, ProvEnergy Services anticipates the continued availability of competitively priced wholesale energy supplies. Through May 1998, Southern funded 60 percent of the net retail start-up operating expenses incurred by ProvEnergy Services. ProvEnergy Services anticipates growing the business sufficiently to generate only a small operating loss for 1999. In July 1998, the Registrant and ERI Services, Inc. (ERI Services) formed a joint venture, Capital Center Energy Company, LLC (CCEC). CCEC is owned 50 percent by the Registrant's subsidiary, ProvEnergy Power Company, LLC, and 50 percent by ERI Services' subsidiary, ERI Providence, LLC. CCEC's wholly-owned subsidiary, DownCity Energy Company, LLC (DownCity Energy), was selected as the exclusive electric, heat and air conditioning (HVAC) and related service provider for most of the Providence Place Mall (the Mall) for the next thirty years. I-9 DownCity Energy will serve more than three million square feet of retail stores, common areas, offices and parking facilities in the Mall. Currently, the Mall's three anchor stores and the cinema are not included in the plan. The electric demand to be met by DownCity Energy is expected to be 12 megawatts, the approximate consumption of more than 6,500 households. The system being developed for the Mall includes three on-site natural gas powered electric generators. Under the agreement with Commonwealth Development Group, developers of the Mall, DownCity Energy will perform the following: . Own, operate and maintain the HVAC systems. . Provide electric supply and emergency power. . Own, operate and maintain a six megawatt on-site generation plant to provide electric and emergency supply. . Provide metering services for each of the tenants. . Manage all energy billing to the tenants and the developer. Construction of the energy systems began this summer. The entire energy project will be operational in advance of the scheduled August 1999 opening of the Mall. DownCity Energy did not have a significant impact on the Registrant's results of operations in 1998. The projected investment in CCEC is $30 million. As of September 30, 1998, the Registrant had invested $2 million of its total projected investment of $15 million. This contract, the largest of its kind in New England, has the potential to increase the Registrant's earnings by five percent within five years. Special Factors Affecting the Natural Gas Industry - -------------------------------------------------- General - ------- The natural gas industry is subject to numerous legislative and regulatory requirements, standards and restrictions that are subject to change and that affect the Gas Companies to varying degrees. Significant industry factors that have affected or may affect the Gas Companies from time to time include: lack of assurance that rate increases can be obtained from regulatory authorities in adequate amounts on a timely basis; changes in the regulations governing the Gas Companies' operations; ability to adapt to FERC regulatory changes; reductions in the prices of oil and propane, which can make those fuels less costly than natural gas in some markets; and increases in the price of natural gas. FERC Regulations - ---------------- In recent years, FERC has been attempting to increase competition with regard to the transportation and sale of natural gas in interstate commerce. Beginning in late 1985, FERC began promulgating orders that allow all industry participants access to pipeline transportation on an open, nondiscriminatory basis to the extent of available capacity. Recent FERC orders are in furtherance of its policy to make gas transportation and alternate supply sources more accessible to all parties, including local distribution companies and their customers. Such open access allows the Gas Companies to obtain their supply through a more competitive national gas pipeline system, where and when capacity is available. I-10 FERC Order 636 and other related orders (the Orders) have significantly changed the structure and types of services offered by pipeline transportation companies. The most significant components of the restructuring occurred in November 1993. In response to these changes, the Gas Companies have negotiated new pipeline transportation and gas storage contracts. To meet the requirements of the Orders, the pipelines have incurred significant costs, collectively known as transition costs. The majority of these costs will be reimbursed by the pipelines' customers including ProvGas. ProvGas anticipates its transition costs to be approximately $21.7 million of which $16.2 million has been included in the GCC and has been collected from customers through September 30, 1997. At September 30, 1997 the remaining minimum obligation of $5.5 million has been recorded in the accompanying Consolidated Balance Sheets (filed herewith as part of Item 8) along with a regulatory asset anticipating future recovery. As part of the supply contract with DETM, which was effective October 1, 1997, DETM assumed liability for the transition costs during the contract's three-year term. At the end of the three-year term of the contract, ProvGas will assume any remaining liability, which is not expected to be material. Environmental Regulations - ------------------------- Federal, state and local laws and regulations establishing standards and requirements for the protection of the environment have increased in number and in scope in recent years. The Registrant cannot predict the future impact of such standards and requirements, which are subject to change and can take effect retroactively. The Registrant continues to monitor the status of these laws and regulations. Such monitoring involves the review of past activities and current operations, and may include expending funds to investigate or clean up certain sites. To the best of its knowledge, subject to the following, the Registrant believes it is in substantial compliance with such laws and regulations. At September 30, 1998, ProvGas was aware of five sites at which future costs may be incurred. ProvGas has been designated as a potentially responsible party (PRP) under the Comprehensive Environmental Response Compensation and Liability Act of 1980 at two sites in Plympton, Massachusetts on which waste material is alleged to have been deposited by disposal contractors employed in the past either directly or indirectly by ProvGas and other PRPs. With respect to one of the Plympton sites, ProvGas has joined with other PRPs in entering into an Administrative Consent Order with the Massachusetts Department of Environmental Protection. The costs to be borne by ProvGas, in connection with both Plympton sites, are not anticipated to be material to the financial condition of ProvGas. During 1995, ProvGas began a study at its primary gas distribution facility located in Providence, Rhode Island. This site formerly contained a manufactured gas plant operated by ProvGas. As of September 30, 1998, approximately $2.0 million was spent primarily on studies at this site. In accordance with state laws, such a study is monitored by the Rhode Island Department of Environmental Management (DEM). The purpose of this study was to determine the extent of environmental contamination at the site. ProvGas has completed the study which indicated that remediation will be required for two- thirds of the property. The remediation is expected to begin in February 1999 and will continue for a duration of three to six months. During the remediation process, the remaining one-third of the property will also be investigated and remediated if necessary. I-11 At September 30, 1998, ProvGas compiled a preliminary range of costs, based on removal and off-site disposal or recycling of contaminated soil, ranging from $1.8 million to in excess of $5.0 million. However, because of the uncertainties associated with environmental assessment and remediation activities, the future cost of remediation could be higher than the range noted. Based on the proposals for remediation work, ProvGas has accrued $1.8 million at September 30, 1998, for anticipated future remediation costs at this site. Tests conducted following the discovery of an abandoned underground oil storage tank at ProvGas' Westerly, Rhode Island operations center in 1996 confirmed the existence of contaminants at this site. ProvGas is currently conducting tests at this site, the costs of which are being shared equally with the prior owner, to determine the nature and extent of the contamination. Due to the early stages of investigation, management cannot offer any conclusions as to whether any remediation will be required at this site. In addition, in 1997, contamination from scrapped meters and regulators was discovered at this site. ProvGas has reported this to DEM and the Rhode Island Department of Health and is in the process of remediation. It is anticipated that remediation will cost approximately $10,000. Accordingly, ProvGas has accrued $10,000 at September 30, 1998 for anticipated future remediation costs. In November 1998, ProvGas received a letter of responsibility from DEM relating to possible contamination on previously-owned property on Allens Avenue in Providence. The current owner of the property has been similarly notified. The Registrant lacks sufficient information at this time to determine the validity of the claim, the amount of the clean-up costs or any defenses which may be available with respect to such claim. In prior rate cases filed with the RIPUC, ProvGas requested that environmental investigation and remediation costs be recovered by inclusion in its depreciation factors consistent with the rate recovery treatment for all types of cost of removal. Due to the magnitude of ProvGas' environmental investigation and remediation expenditures, ProvGas sought current recovery for these amounts. As a result, in accordance with the Price Stabilization Plan Settlement Agreement described in "Rates and Regulation", effective October 1, 1997, all environmental investigation and remediation costs incurred through September 30, 1997, as well as all costs incurred during the three-year term of the Plan, will be amortized over a ten-year period. Additionally, it is ProvGas' practice to consult with the RIPUC on a periodic basis when, in management's opinion, significant amounts might be expended for environmental-related costs. As of September 30, 1998, ProvGas charged environmental assessment and remediation costs of $2.6 million and an estimated $1.8 million to the accumulated depreciation reserve and has amortized $.4 million of these costs. Management has begun discussions with other parties who may assist ProvGas in paying any future costs at the above sites. Management believes that its program for managing environmental issues, combined with rate recovery and financial contributions from others, will likely avoid any material adverse effect on its results of operations or its financial condition as a result of the ultimate resolution of the above sites. I-12 Other Standards - --------------- The Gas Companies are also subject to standards prescribed by the Secretary of Transportation under the Natural Gas Pipeline Safety Act of 1968 with respect to the design, installation, testing, construction and maintenance of pipeline facilities. The enforcement of these standards has been delegated to the RIPUC and MDTE and management believes that the Gas Companies are in substantial compliance with all present requirements imposed by these agencies. I-13 ITEM 2. PROPERTIES - ------------------ In addition to the Registrant's gas distribution system and storage facilities, which constitute the principal properties of the Registrant, the Registrant owns several buildings and other facilities in Newport, Warwick, Providence, Johnston and Westerly that house its offices and provide floor space for its energy distribution and maintenance facilities. Substantially all the foregoing properties are mortgaged as collateral for the outstanding First Mortgage Bonds of ProvGas. ITEM 3. LEGAL PROCEEDINGS - ------------------------- The Registrant is involved in legal and administrative proceedings in the normal course of business, including certain proceedings involving material amounts in which claims have been or may be made. However, management believes, after review of insurance coverage and consultation with legal counsel, that the ultimate resolution of the legal proceedings to which it is or can at the present time be reasonably expected to be a party, will not have a materially adverse effect on the Registrant's results of operations or financial condition. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - ----------------------------------------------------------- Not Applicable I-14 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCK- - -------------------------------------------------------------------- HOLDERS' MATTERS ---------------- The Registrant's common stock is listed on the New York Stock Exchange and trades under the symbol "PVY". As of December 2, 1998, there were 5,649 registered holders of record of the Registrant's outstanding common stock. For the balance of the information called for by this item, reference is made to the materials under 'Dividends' and 'Common stock information' in the Registrant's Annual Report to Shareholders for the fiscal year ended September 30, 1998, which is filed herewith under Part IV as Exhibit 13. ITEM 6. SELECTED FINANCIAL DATA - ------------------------------- For the information called for by this item, reference is made to page 20 of the Registrant's Annual Report to Shareholders (pages 13 through 14 of this Form 10-K) for the fiscal year ended September 30, 1998, which is filed herewith under Part IV as Exhibit 13. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION - ------------------------------------------------------------------- AND RESULTS OF OPERATIONS ------------------------- Regarding the information that relates to this item, reference is made to pages 12 through 18 of the Registrant's Annual Report to Shareholders (pages 1 through 10 of this Form 10-K) for the fiscal year ended September 30, 1998, which is filed herewith under Part IV as Exhibit 13. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA - --------------------------------------------------- For the information called for by this item, reference is made to pages 21 through 36 of the Registrant's Annual Report to Shareholders (pages 15 through 37 of this Form 10-K) for the fiscal year ended September 30, 1998, which is filed herewith under Part IV as Exhibit 13. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING - ------------------------------------------------------------------- AND FINANCIAL DISCLOSURE ------------------------ Not applicable II-1 PART III -------- ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT - ------------------------------------------------------------ The following information is furnished with respect to the executive officers of the Registrant:
Year Office Name and Age Office First Held - ------------ ------ ---------- James H. Dodge (58) Chairman, President and Chief Executive Officer 1992 James DeMetro (50) Senior Vice President 1996 Gary S. Gillheeney (43) Senior Vice President, Chief Financial Officer, Treasurer and Assistant Secretary 1996 Robert W. Owens (50) Senior Vice President 1996 James A. Grasso (44) Vice President, Public and Government Affairs 1997 Royalynne J. Hourihan (54) Vice President, Human Resources 1998* Susann G. Mark (51) Vice President, General Counsel and Secretary 1998 Gerald A. Yurkevicz (41) Vice President, Marketing 1996 Harry J. Bishop (52) Assistant Treasurer 1998**
Mr. Dodge was elected President and Chief Executive Officer of the Registrant and ProvGas in August 1990 after the retirement of Louis R. Hampton. Mr. Dodge subsequently became Chairman of the Board in January 1992. Mr. Dodge currently serves as a member of the Board of Capital Properties, Inc., a non- affiliated real estate leasing company. Mr. DeMetro was elected Senior Vice President of the Registrant and ProvGas in February 1996. For more than four years prior thereto, Mr. DeMetro served the Registrant and ProvGas as Vice President, Energy Services. Mr. Gillheeney was elected Senior Vice President and Chief Financial Officer of the Registrant and ProvGas in February 1996, and Treasurer and Assistant Secretary of the Registrant and ProvGas in January 1994. For more than two years prior to February 1996, Mr. Gillheeney served ProvGas as Vice President, Financial Information Services. For more than five years prior thereto, Mr. Gillheeney served ProvGas in various management positions, with his last position as Assistant Treasurer and Controller. Mr. Owens was elected Senior Vice President of the Registrant and ProvGas in February 1996. For more than a year prior thereto, Mr. Owens served the Registrant and ProvGas as Vice President Operations. For more than five years prior thereto, Mr. Owens served the Registrant and ProvGas in various management positions, with his last position as Vice President, Treasurer and Chief Financial Officer. III-1 Mr. Grasso was elected Vice President, Public and Government Affairs in May 1997. For three years prior thereto, Mr. Grasso served as Director of Public and Government Relations of the Eastern Region of Pan Energy Corporation and Manager of Public and Government Relations of Algonquin Gas Transmission Company. For ten years prior thereto, Mr. Grasso served as Manager of Land, Public and Government Relations of Algonquin Gas Transmission Company. Mrs. Hourihan was elected Vice President, Human Resources effective November 1998. For two years prior thereto, Mrs. Hourihan served as the senior human resources professional of the Boston Public Schools District, Boston, Massachusetts. For two years prior thereto, Mrs. Hourihan served as Vice President, Human Resources of the Philadelphia Inquirer & Daily News. For four --------------------- years prior thereto, Mrs. Hourihan served as Director, Human Resources - Eastern Region of Wang Laboratories, Inc. Ms. Mark was elected Vice President, General Counsel and Secretary of the Registrant in April 1998. For one year prior to that, Ms. Mark was a partner in the Business Law Group at Brown, Rudnick, Freed & Gesmer and for eight years prior to that was a partner in the Corporate Law Practice Group at Licht and Seminoff. Mr. Yurkevicz was elected Vice President, Marketing of the Registrant in August 1996. For ten years prior thereto, Mr. Yurkevicz served as Principal in the Energy Practice at Mercer Management Consulting. Mr. Bishop was elected Assistant Treasurer effective October 1, 1998. For four years prior thereto, Mr. Bishop served as Director of Finance and Revenue Requirements for ProvGas. * Effective November 30, 1998. ** Effective October 1, 1998. III-2 DIRECTORS OF THE REGISTRANT - --------------------------- For information called for by this item, reference is made to pages 2 through 6 of the Registrant's proxy statement filed December 16, 1998 with the Securities and Exchange Commission for the annual meeting of shareholders to be held January 14, 1999. III-3 ITEM 11. EXECUTIVE COMPENSATION - -------------------------------- For the information called for by this item, reference is made to pages 7 through 14 of the Registrant's proxy statement filed December 16, 1998 with the Securities and Exchange Commission for the annual meeting of shareholders to be held January 14, 1999. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT - ----------------------------------------------------------------------- For the information called for by this item, reference is made to page 15 of the Registrant's proxy statement filed December 16, 1998 with the Securities and Exchange Commission for the annual meeting of shareholders to be held January 14, 1999. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS - ------------------------------------------------------- For the information called for by this item, reference is made to page 6 of the Registrant's proxy statement filed December 16, 1998 with the Securities and Exchange Commission for the annual meeting of shareholders to be held January 14, 1999. III-4 PART IV ------- ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K - ------------------------------------------------------------------------- PROVIDENCE ENERGY CORPORATION INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES (a) Financial Statements and Schedules ---------------------------------- Consolidated Balance Sheets--September 30, 1998 and 1997 Consolidated Statements of Income for the years ended September 30, 1998, 1997 and 1996 Consolidated Statements of Cash Flows for the years ended September 30, 1998, 1997 and 1996 Consolidated Statements of Capitalization--September 30, 1998 and 1997 Consolidated Statements of Changes in Common Stockholders' Investment for the years ended September 30, 1998, 1997 and 1996 Notes to Consolidated Financial Statements Report of Independent Public Accountants Consent of Independent Public Accountants The financial statements and related notes listed above are incorporated by reference from Providence Energy Corporation's Annual Report to Shareholders (see pages 15 through 37 of this Form 10-K) for the year ended September 30, 1998, filed herewith as Exhibit 13. Schedule II. Reserves for the years ended September 30, 1998, 1997 and 1996. Schedules I to XIII not listed above are omitted as not applicable or not required under Regulation S-X. (b) Reports on Form 8-K ------------------- On September 16, 1998 the Registrant filed a report on Form 8-K regarding the Rhode Island Division of Public Utilities and Carrier's rejection of allegations of preferential treatment received by the Registrant's marketing affiliate. IV-1 (c) Exhibits -------- The following exhibits are filed as part of this report: 3.1 Articles of Incorporation, as amended (incorporated by reference to Exhibit 4(e) to the Registration Statement of the Registrant on Form S- 2 (Registration No. 33-24125)). 3.2 Bylaws (incorporated by reference to Exhibit C to the Proxy Statement/Prospectus forming a part of the Registrant's Registration Statement on Form S-14 (Registration No. 2-69473), as amended at the annual meetings of the shareholders held January 14, 1985 and January 14, 1991, the text of such amendments being set forth in each case as Exhibit A to the proxy statement for such annual meeting, heretofore filed with the Securities and Exchange Commission and being incorporated herein by this reference). 4.1 First Mortgage Indenture of The Providence Gas Company dated as of January 1, 1922, as supplemented by First through Twelfth Supplemental Indentures (incorporated by reference to Exhibit 10.10 to the Registration Statement of The Providence Gas Company on Form S-1 (Registration No. 2-72726)). 4.2 Fourteenth, Fifteenth and Sixteenth Supplemental Indentures of The Providence Gas Company dated as of August 1, 1988, June 1, 1990 and November 1, 1992, respectively (incorporated by reference to Exhibit 4 to the report of the Registrant to the Securities and Exchange Commission on Form 10-Q for the quarter ended March 31, 1993). 4.3 Seventeenth Supplemental Indenture of The Providence Gas Company dated as of November 1, 1993. (Filed as Exhibit 4.5 to the report of the Registrant on Form 10-K for the year ended September 30, 1993 incorporated herein by this reference.) 4.4 Eighteenth Supplemental Indenture of The Providence Gas Company dated as of December 1, 1995. (Filed as Exhibit 4.6 to the report of the Registrant on Form 10-K for the year ended September 30, 1995 incorporated herein by this reference.) 4.5 Nineteenth Supplemental Indenture of The Providence Gas Company dated as of April 1, 1998. (Filed as Exhibit 4.5 to the report of The Providence Gas Company on Form 10-K for the year ended September 30, 1998, incorporated herein by this reference.) 4.6 Stock Rights Agreement (Filed as Exhibit 4.1 to the report of the Registrant on Form 8-K File No. 001-10632 dated July 29, 1998, incorporated herein by this reference.) 10.1 Material contracts filed as Exhibit 10 (a) through 10 (ff) to Registration Statement of the Registrant on Form S-2 (Registration No. 33-24125), incorporated herein by this reference. 10.2 Employment Agreement dated October 29, 1997 between James H. Dodge, Chairman, President and Chief Executive Officer of the Registrant. (Filed as Exhibit 10.2 to the report of The Registrant in Form 10-K for the year ended September 30, 1997, incorporated herein by this reference.) IV-2 10.3 Employment Agreement dated October 29, 1997 between James DeMetro, Senior Vice President of The Registrant. (Filed as Exhibit 10.3 to the report of The Registrant in Form 10-K for the year ended September 30, 1997, incorporated herein by this reference.) 10.4 Employment Agreement dated October 29, 1997 between Robert W. Owens, Senior Vice President of the Registrant. (Filed as Exhibit 10.4 to the report of The Registrant in Form 10-K for the year ended September 30, 1997, incorporated herein by this reference.) 10.5 Employment Agreement dated October 29, 1997 between Gary S. Gillheeney, Senior Vice President, Chief Financial Officer, Treasurer and Assistant Secretary of the Registrant. (Filed as Exhibit 10.5 to the report of The Registrant in Form 10-K for the year ended September 30, 1997, incorporated herein by this reference.) 10.6 Employment Agreement dated July 23, 1998 between James A. Grasso, Vice President, Public and Government Affairs and the Registrant. 10.7 Employment agreement dated May 26, 1998 between Susann G. Mark, Vice President, General Counsel and Secretary and the Registrant. (Filed as Exhibit 10a to Form 10-Q for the quarter ended June 30, 1998, incorporated herein by this reference.) 10.8 Employment Agreement dated October 29, 1997 between Gerald A. Yurkevicz, Vice President, Marketing and the Registrant. (Filed as Exhibit 10.9 to the report of the Registrant in Form 10-K for the year ended September 30, 1997, incorporated herein by this reference.) 10.9 Redacted gas supply contract dated October 1, 1997 between Duke Energy Trading and Marketing, L.L.C. and The Providence Gas Company. (Filed as Exhibit 10 to the report of The Providence Gas Company on Form 10-Q for the quarter ended June 30, 1998, incorporated herein by this reference.) 10.10 1989 Non-Employee Director Stock Option Plan (incorporated by reference to Exhibit A to the Registrant's proxy statement for the annual meeting of shareholders held January 9, 1989, heretofore filed with the Securities and Exchange Commission). 10.11 1989 Stock Option Plan (incorporated by reference to Exhibit B to the Registrant's proxy statement for the annual meeting of shareholders held January 9, 1989, heretofore filed with the Securities and Exchange Commission). 10.12 Non-Employee Director Stock Plan (incorporated by reference to Exhibit 4.3 to Form S-8 (Registration No. 333-25415). 10.13 1998 Performance Share Plan. 13 Portions of the Annual Report to Shareholders for the fiscal year ended September 30, 1998. (Pages 1 through 37) 21 Subsidiaries of the Registrant. IV-3 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To The Board of Directors of Providence Energy Corporation: We have audited, in accordance with generally accepted auditing standards, the consolidated financial statements included in Providence Energy Corporation's annual report to shareholders incorporated by reference in this Form 10-K, and have issued our report thereon dated November 6, 1998. Our audit was made for the purpose of forming an opinion on those statements taken as a whole. The schedule listed in the accompanying index to the financial statements is the responsibility of the Company's management and is presented for purposes of complying with the Securities and Exchange Commission's rules and is not part of the basic financial statements. This schedule has been subjected to the auditing procedures applied in the audit of the basic financial statements and, in our opinion, fairly states, in all material respects, the financial data required to be set forth therein, in relation to the basic financial statements taken as a whole. Arthur Andersen LLP /s/ Arthur Andersen LLP - ----------------------- Boston, Massachusetts November 6, 1998 IV-4 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS To The Board of Directors of Providence Energy Corporation: As independent public accountants, we hereby consent to the incorporation by reference of our report dated November 6, 1998, included in this Form 10-K, into the Company's previously filed Registration Statements on Forms S-3, Registration No. 33-62318; S-3, Registration No. 33-70086; S-3, Registration No. 33-31768; S-8, Registration No. 33-31769; S-8, Registration No. 33-31770; S-8, Registration No. 33-43031; S-8, Registration No. 33-04209; and S-8, Registration No. 333-25415. It should be noted that we have not audited any financial statements of the Company subsequent to September 30, 1998, or performed any audit procedures subsequent to the date of our report. Arthur Andersen LLP /s/ Arthur Andersen LLP - ----------------------- Boston, Massachusetts December 21, 1998 IV-5 Supplemental Schedule PROVIDENCE ENERGY CORPORATION Schedule II ----------------------------- RESERVES FOR THE YEARS ENDED ----------------------------- SEPTEMBER 30, 1998, SEPTEMBER 30, 1997 AND SEPTEMBER 30, 1996 -------------------------------------------------------------- (Thousands of Dollars)
Charge for Which Additions Reserves Balance Charged Other Were Balance 9/30/97 to Operations Add (Deduct) Created 9/30/98 ------- ------------- ------------ ------- ------- RESERVES DEDUCTED FROM ASSETS: Accounts receivable Allowance for doubtful accounts $ 1,811 $ 5,063 $ 47 $ 4,317 $ 2,604 Allowance for lease receivables - current 27 - - 1 26 other 48 42 - - 90 ------- ------- ------- -------- ------- Total $ 1,886 $ 5,105 $ 47 $ 4,318 $ 2,720 ======= ======= ======= ======== ======= Allowance for lease receivables - long-term $ 401 $ 72 $ - $ 101 $ 372 ======= ======= ======= ======== ======= DEFERRED CREDITS AND RESERVES: Accumulated deferred income taxes $21,495 $ 820 $ (23) $ - 22,292 ------- ------- ------- -------- ------- Unamortized investment tax credit 2,375 - - 158 2,217 ------- ------- ------- -------- -------- Other- Liability and damage reserve 621 (21) - 121 479 Other 9,236 549 (961)(A) 520 8,304 ------- ------- ------- -------- ------- Total other 9,857 528 (961) 641 8,783 ------- ------- ------- -------- ------- Total deferred credits and reserves $33,727 $ 1,348 $ (984) $ 799 $33,292 ======= ======= ======= ======== =======
IV-6 Schedule II (cont'd)
Charge for Which Additions Reserves Balance Charged Other Were Balance 9/30/96 to Operations Add (Deduct) Created 9/30/97 ------- ------------- ------------ ------- ------- RESERVES DEDUCTED FROM ASSETS: Accounts receivable Allowance for doubtful account $ 3,195 $ 5,200 $ - $ 6,584 $ 1,811 Allowance for lease receivables - current 27 1 - 1 27 other 9 94 - 55 48 ------- ------- ------- ------- ------- Total $ 3,231 $ 5,295 $ - $ 6,640 $ 1,886 ======= ======= ======= ======= ======= Allowance for lease receivables - long-term $ 403 $ 138 $ - $ 140 $ 401 ======= ======= ======= ======= ======= DEFERRED CREDITS AND RESERVES: Accumulated deferred income taxes $20,713 $ 782 $ - $ - $21,495 ------- ------- ------- ------- ------- Unamortized investment tax credit 2,533 - - 158 2,375 ------- ------- ------- ------- ------- Other- Liability and damage reserve 561 281 - 221 621 Other 7,583 1,265 925(B) 537 9,236 ------- ------- ------- ------- -------- Total other 8,144 1,546 925 758 9,857 ------- ------- ------- ------- -------- Total deferred credits and reserves $31,390 $ 2,328 $ 925 $ 916 $33,727 ======= ======= ======= ======= =======
IV-7 Schedule II (cont'd)
Charge for Which Additions Reserves Balance Charged Other Were Balance 9/30/95 to Operations Add (Deduct) Created 9/30/96 ------- ------------- ------------ ------- ------- RESERVES DEDUCTED FROM ASSETS: Accounts receivable Allowance for doubtful accounts $ 1,995 $ 5,078 $ - $3,878 $ 3,195 Allowance for lease receivables - current 337 3 - 313 27 other 80 17 - 88 9 -------- ------ -------- ------ -------- Total $ 2,412 $5,098 $ - $4,279 $ 3,231 ======== ====== ======== ====== ======== Allowance for lease receivables - long-term $ 651 $ 1,179 $ - $1,427 $ 403 ======== ======= ======== ====== ======== DEFERRED CREDITS AND RESERVES: Accumulated deferred income taxes $ 18,734 $ 1,943 $ 36(C) $ - $20,713 Unamortized investment -------- ------- -------- ------ ------- tax credit 2,691 - - 158 2,533 Other- -------- ------- -------- ------ -------- Liability and damage reserve Other 334 520 - 293 561 5,307 1,303 1,742(B) 769 7,583 Total other -------- -------- -------- ------ -------- 5,641 1,823 1,742 1,062 8,144 Total deferred -------- -------- -------- ------ -------- credits and reserves $ 27,066 $ 3,766 $ 1,778 $1,220 $ 31,390 ======== ======= ======== ====== ========
(A) Principally an adjustment to the regulatory pension liability. (B) Principally an accrual for environmental investigation and remediation costs in addition to an adjustment to the regulatory pension liability. (C) Represents adjustments to the regulatory asset and liability for SFAS No. 109 activity. IV-8 INCORPORATION BY REFERENCE INTO REGISTRATION STATEMENTS ON FORM S-8 For the purposes of complying with the amendments to the rules governing Form S-8 (effective July 13, 1990) under the Securities Act of 1933, the Registrant hereby undertakes as follows, which undertaking shall be incorporated by reference into Part II of Registrant's Registration Statements on Form S-8 Nos. 33-31769, 33-31770, 33-43031, 33-04209, and 333-25415. Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrant pursuant to the foregoing provisions, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act of 1933 and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the Securities being registered, the Registrant will, unless in the opinion of its counsel that matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act, will be governed by the final adjudication of such issue. IV-9 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. PROVIDENCE ENERGY CORPORATION By /s/JAMES H. DODGE ---------------------------------------- James H. Dodge, Chairman, President and CEO Date December 22, 1998 ---------------------------------------- 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. Signature Title Date --------- ----- ---- /s/JAMES H. DODGE Chairman, President and CEO 12/22/98 - ------------------------ -------- James H. Dodge (Principal Executive Officer) /s/GARY S. GILLHEENEY Senior Vice President, Chief 12/22/98 - ------------------------ -------- Gary S. Gillheeney Financial Officer, Treasurer and Assistant Secretary /s/GILBERT R. BODELL, JR. Director 12/22/98 - ------------------------ -------- Gilbert R. Bodell, Jr. /s/JOHN H. HOWLAND Director 12/22/98 - ------------------------ -------- John H. Howland /s/DOUGLAS H. JOHNSON Director 12/22/98 - ------------------------ -------- Douglas H. Johnson /s/WILLIAM KREYKES Director 12/22/98 - ------------------------ -------- William Kreykes /s/PAUL F. LEVY Director 12/22/98 - ------------------------ -------- Paul F. Levy /s/ROMOLO A. MARSELLA Director 12/22/98 - ------------------------ -------- Romolo A. Marsella /s/M. ANNE SZOSTAK Director 12/22/98 - ------------------------ -------- M. Anne Szostak /s/KENNETH W. WASHBURN Director 12/22/98 - ------------------------ -------- Kenneth W. Washburn /s/W. EDWARD WOOD Director 12/22/98 - ------------------------ -------- W. Edward Wood IV-10 EX-10.6 2 EMPLOYMENT AGREEMENT Exhibit 10.6 CONTENTS PAGE - ------------------------------------------------------ Section 1. Term of Employment 1 Section 2. Position and Responsibilities 2 Section 3. Standard of Care 2 Section 4. Compensation 3 Section 5. Expenses 5 Section 6. Employment Terminations 5 Section 7. Change in Control 10 Section 8. Confidentiality and Noncompetition 13 Section 9. Indemnification 14 Section 10. Outplacement Assistance 14 Section 11. Assignment 15 Section 12. Dispute Resolution and Notice 15 Section 13. Miscellaneous 16 Section 14. Governing Law 16 PROVIDENCE ENERGY CORPORATION EMPLOYMENT AGREEMENT This EMPLOYMENT AGREEMENT is made, entered into, and is effective as of this 23rd day of July, 1998 (hereinafter referred to as the "Effective Date"), by and between Providence Energy Corporation, together with its subsidiaries and affiliates (hereinafter referred to as the "Company"), a Rhode Island corporation having its principal offices at Providence Rhode Island and JAMES A. GRASSO (hereinafter referred to as the "Executive"). WHEREAS, the Executive is presently employed by the Company in the capacity of VICE PRESIDENT OF THE COMPANY; WHEREAS, the Executive possesses considerable experience and an intimate knowledge of the business and affairs of the Company, its policies, methods, personnel, and operations; and WHEREAS, the Company recognizes that the Executive's contribution has been substantial and meritorious and, as such, the Executive has demonstrated unique qualifications to act in an executive capacity for the Company; and WHEREAS, the Company is desirous of assuring the continued employment of the Executive in the above stated capacity, and Executive is desirous of having such assurance. NOW THEREFORE, in consideration of the foregoing and of the mutual covenants and agreements of the parties set forth in this Agreement, and of other good and valuable consideration the receipt and sufficiency of which are hereby acknowledged, the parties hereto, intending to be legally bound, agree as follows: SECTION 1. TERM OF EMPLOYMENT The Company hereby agrees to employ the Executive and the Executive hereby agrees to continue to serve the Company, in accordance with the terms and conditions set forth herein, for an initial period of one (1) year, commencing as of the Effective Date of this Agreement, as indicated above; subject, however, to earlier termination as expressly provided in Section 6 herein. The initial one (1) year period of employment automatically shall be extended for one (1) additional year at the end of the initial one (1) year term, and then again after each successive year thereafter. However, either party may terminate this Agreement at the end of the initial one (1) year period, or at the end of any successive year thereafter, by giving the other party written notice of intent not to renew, delivered at least ninety (90) calendar days prior to the end of such initial period or successive term. 1 In the event such notice of intent not to renew is properly delivered by the Company, this Agreement, along with all corresponding rights, duties, and covenants, shall automatically expire at the end of the initial period or successive term then in progress, with the exception of the provisions contained in Section 8 herein (which shall survive such expiration). However, upon the effective date of the expiration, the Company shall provide to the Executive a continuation of his Base Salary (at the rate then in effect, as provided in Paragraph 4.1 herein) for a period of twelve (12) months, paid in equal monthly installments in accordance with the normal payroll practices of the Company. The Company also shall provide to the Executive all benefits to which the Executive has a vested right to at that time including, but not limited to, the retirement benefits described in Paragraph 4.4 herein, and the retiree medical insurance benefits described in Paragraph 4.6 herein. However, regardless of the above, if at any time during the initial period of employment, or successive term, a Change in Control of the Company occurs (as defined in Section 7 herein), then this Agreement shall become immediately irrevocable for the longer of: (a) one (1) year beyond the month in which the effective date of such Change in Control occurs; or (b) until all obligations of the Company hereunder have been fulfilled, and until all benefits provided hereunder have been paid. SECTION 2. POSITION AND RESPONSIBILITIES During the term of this Agreement, the Executive agrees to serve as Vice President of the Company. In his capacity as Vice President, the Executive shall maintain the level of duties and responsibilities as in effect as of the Effective Date, or such higher level of duties and responsibilities as he may be assigned during the term of this Agreement. The Executive shall have the same status, privileges, and responsibilities normally inherent in such capacities in corporations of similar size and character. SECTION 3. STANDARD OF CARE During the term of this Agreement, the Executive agrees to devote substantially his full time, attention, and energies to the Company's business and shall not be engaged in any other business activity, whether or not such business activity is pursued for gain, profit, or other pecuniary advantage. However, subject to Section 8 herein, the Executive may serve as a director of other companies so long as such service is not injurious to the Company. The Executive covenants, warrants, and represents that he shall: (a) Devote his full and best efforts to the fulfillment of his employment obligations; and (b) Exercise the highest degree of loyalty and the highest standards of conduct in the performance of his duties. 2 This Section 3 shall not be construed as preventing the Executive from investing assets in such form or manner as will not require his services in the daily operations of the affairs of the companies in which such investments are made. SECTION 4. COMPENSATION As remuneration for all services to be rendered by the Executive during the term of this Agreement, and as consideration for complying with the covenants herein, the Company shall pay and provide to the Executive the following: 4.1 BASE SALARY. The Company shall pay the Executive a Base Salary in an amount which shall be established from time to time by the Board of Directors of the Company or the Board's designee provided, however, that such Base Salary shall not be less than $ 134,000.00 per year. This Base Salary shall be paid to the Executive in equal monthly installments throughout the year, consistent with the normal payroll practices of the Company. The annual Base Salary shall be reviewed at least annually following the Effective Date of this Agreement, while this Agreement is in force, to ascertain whether, in the judgment of the Board or the Board's designee, such Base Salary should be increased, based primarily on the performance of the Executive during the year and on the then current rate of inflation. If so increased, the Base Salary as stated above shall, likewise, be increased for all purposes of this Agreement. 4.2 ANNUAL CASH INCENTIVE COMPENSATION. The Company shall provide the Executive with the opportunity to earn an annual cash incentive compensation payment, at a level which is in accordance with the provisions of the Performance and Equity Incentive Plan or any such successor plan, and which is commensurate with the opportunity typically offered to executives having the same or similar duties and responsibilities as the Executive at companies similar in size and character to the Company. Nothing in this paragraph shall be construed as obligating the Company to refrain from changing and/or amending the Performance and Equity Incentive Plan so long as such changes are similarly applicable to all executives generally. 4.3 LONG-TERM INCENTIVES. The Company shall provide the Executive the opportunity to earn a long-term incentive award, at a level which is in accordance with the provisions of the Performance and Equity Incentive Plan or any such successor plan, and which is commensurate with the opportunity typically offered to executives having the same or similar duties and responsibilities as the Executive at companies similar in size and in character to the Company. 3 Nothing in this paragraph shall be construed as obligating the Company to refrain from changing,and/or amending the Performance and Equity Incentive Plan, so long as such changes are similarly applicable to all executives generally. 4.4 RETIREMENT BENEFITS. The Company shall provide to the Executive participation in all Company qualified defined benefit and defined contribution retirement plans, subject to the eligibility and participation requirements of such plans. In addition, the Company shall provide to the Executive participation in the Supplemental Retirement Plan and all other nonqualified retirement programs typically offered to executives having the same or similar duties and responsibilities at the Company. Nothing in this paragraph shall be construed as obligating the Company to refrain from changing, and/or amending the nonqualified retirement programs, so long as such changes are similarly applicable to all executives generally. 4.5 EMPLOYEE BENEFITS. During the term of this Agreement, and as otherwise provided within the provisions of each of the respective plans, the Company shall provide to the Executive all benefits to which other executives and employees of the Company are entitled to receive, as commensurate with the Executive's position. Such benefits shall include, but not be limited to, group term life insurance, whole life insurance, comprehensive health and major medical insurance, dental insurance, vision insurance, and short-term and long- term disability. The Executive shall be entitled to paid vacation in accordance with the standard written policy of the Company with regard to vacations of employees. The Executive shall likewise participate in any additional benefit as may be established during the term of this Agreement, by standard written policy of the Company. 4.6 PERQUISITES. The Company shall provide to the Executive, at the Company's cost, all perquisites to which other executives of the Company are entitled to receive and such other perquisites which are suitable to the character of Executive's position with the Company and adequate for the performance of his duties hereunder. 4.7 RIGHT TO CHANGE PLANS. By reason of Paragraphs 4.5, and 4.6 herein, the Company shall not be obligated to institute, maintain, or refrain from changing, amending, or discontinuing any benefit plan, program, or perquisite, so long as such changes are similarly applicable to executive employees generally. 4.8 DEFERRALS. The Company may permit the Executive to defer the Executive's receipt of the payment of up to one hundred (100%) percent of the cash component of the Executive's Annual Incentive Compensation. If any such deferral election is permitted, the Company shall, in its sole discretion, establish rules and procedures for such payment deferrals. 4 SECTION 5. EXPENSES The Company shall pay, or reimburse the Executive, for all ordinary and necessary expenses, in a reasonable amount, which the Executive incurs in performing his duties under this Agreement including, but not limited to, travel, entertainment, professional dues and subscriptions, and all dues, fees, and expenses associated with membership in various professional, business, and civic associations and societies of which the Executive's participation is in the best interest of the Company. SECTION 6. EMPLOYMENT TERMINATIONS 6.1 TERMINATION DUE TO RETIREMENT. In the event the Executive's employment is terminated, while this Agreement is in force, by reason of Retirement (as defined under the then established rules of the Company's tax-qualified retirement plan), the Executive's benefits shall be determined in accordance with the Company's retirement, survivor's benefits, insurance, and other applicable programs of the Company then in effect. Upon the effective date of such termination, the Company's obligation to pay and provide to the Executive Base Salary, Annual Cash Incentive Compensation and Long-Term Incentives (as provided in Paragraphs 4.1, 4.2, and 4.3 herein, respectively), shall immediately expire. However, the Executive shall receive a pro rata portion of the total annual incentive compensation (both cash and long- term), calculated at target, to which he would be entitled during the year in which he retires, and shall receive all rights and benefits that he is vested in, pursuant to other plans and programs of the Company including, but not limited to, the retirement benefits as described in Paragraph 4.4 herein. 6.2 TERMINATION DUE TO DEATH. In the event of the death of the Executive during the term of this Agreement, or during any period of Disability during which he is receiving compensation pursuant to Paragraph 6.3 herein, the Company shall pay to the Executive's surviving spouse, or other beneficiary as so designated by the Executive during his lifetime, or to the Executive's estate, as appropriate, all benefits to which the Executive had a vested right to pursuant to this Agreement. 6.3 TERMINATION DUE TO DISABILITY. In the event that the Executive becomes Disabled during the term of this Agreement and is, therefore, unable to perform his duties herein for a period of more than ninety (90) calendar days in the aggregate, during any period of twelve (12) consecutive months, or in the event of the Board's reasonable expectation that the Executive's Disability will exist for more than a period of ninety (90) calendar days, the Company shall have the right to terminate the Executive's active employment as provided in this Agreement. However, the Board shall deliver written notice to the Executive of the Company's intent to terminate for Disability at least thirty (30) calendar days prior to the effective date of such termination. 5 A termination for Disability shall become effective upon the end of the thirty (30) day notice period. Upon such effective date, the Company's obligation to pay and provide to the Executive Base Salary, Annual Bonus, and Long-Term Incentives (as provided in Paragraphs 4.1, 4.2, and 4.3, respectively), shall immediately expire. However, the Executive shall receive a pro rata portion of the total annual incentive compensation (both cash and long-term), calculated at target, to which he would be entitled during the year in which disability occurs and shall receive all rights and benefits that he is vested in, pursuant to other plans and programs of the Company, including, but not limited to, short- and long-term disability benefits, and retirement benefits as described in Paragraph 4.4. The term "Disability" shall mean, for all purposes of this Agreement, the incapacity of the Executive, due to injury, illness, disease, or bodily or mental infirmity, to engage in the performance of substantially all of the usual duties of employment with the Company as contemplated by Section 2 herein, such Disability to be determined by the Board of Directors of the Company upon receipt and in reliance on competent medical advice from one or more individuals, selected by the Board, who are qualified to give such professional medical advice. If the Executive and the Company shall not be in agreement as to whether the Executive has suffered a Disability for the purposes of this Agreement, the matter shall be referred to a panel of three medical doctors, one of which shall be selected by the Executive, one of which shall be selected by the Company, and one of which shall be selected by the two doctors as so selected, and the decision of a majority of the panel with respect to the question of whether the Executive has suffered a Disability shall be binding upon the Executive and the Company. The expenses of any such referral shall be borne by the party against whom the decision of the panel is rendered. The Executive may be required by the Company to submit to medical examination at any time during the period of his employment hereunder, but not more often than quarter-annually, to determine whether a Disability exists for the purposes of this Agreement. It is expressly understood that the Disability of the Executive for a period of ninety (90) calendar days or less in the aggregate during any period of twelve (12) consecutive months, in the absence of any reasonable expectation that his Disability will exist for more than such a period of time, shall not constitute a failure by him to perform his duties hereunder and shall not be deemed a breach or default and the Executive shall receive full compensation for any such period of Disability or for any other temporary illness or incapacity during the term of this Agreement. 6.4 VOLUNTARY TERMINATION BY THE EXECUTIVE. The Executive may terminate this Agreement at any time by giving the Board of Directors of the Company written notice of intent to terminate, delivered at least thirty (30) calendar days prior to the effective date of such termination (such period not to include vacation). The termination automatically shall become effective upon the expiration of the thirty (30) day notice period. 6 Upon the effective date of such termination, the Company shall pay to the Executive his full Base Salary, at the rate then in effect as provided in Paragraph 4.1 herein, through the effective date of termination, plus all other benefits to which the Executive has a vested right to at that time including, but not limited to, accrued vacation pay. The Company also shall provide to the Executive the vested retirement benefits described in Paragraph 4.4 herein. With the exception of the covenants contained in Sections 8.1, 8.3 and 8.4 herein (which shall survive such termination), the Company and the Executive thereafter shall have no further obligations under this Agreement. 6.5 INVOLUNTARY TERMINATION BY THE COMPANY WITHOUT CAUSE. At all times prior to six (6) full calendar months before the effective date of a Change in Control (as defined in Section 7.2), or at any time more than two (2) years after the effective date of a Change in Control (as defined in Section 7.2), the Board may terminate the Executive's employment, as provided under this Agreement, at any time, for reasons other than death, Disability, Retirement, or for Cause, by notifying the Executive in writing of the Company's intent to terminate, at least thirty (30) calendar days prior to the effective date of such termination. Upon the effective date of such termination, following the expiration of the thirty (30) day notice period, the Company shall pay to the Executive in twelve (12) equal monthly installments an amount equal to the Executive's annual Base Salary then in effect. Additionally, the Company shall continue to provide the Executive with health and welfare benefits for the twelve (12) month time period. In the event that, during the twelve (12) month period following the effective date of termination, the Executive becomes employed at the same or greater annual Base Salary than that which was in effect during the year in which termination occurred, the Company's obligation to make payments under this Section will immediately cease upon the date of the Executive's subsequent employment. In the event that, during the twelve (12) month period following the effective date of termination, the Executive becomes employed at a lesser annual Base Salary than that which was in effect during the year in which termination occurred, then upon the date of the Executive's re-employment, the Company's obligation to make payments under this section will be limited to a monthly amount reflecting the difference between the Executive's Base Salary at the date of re-employment and the Executive's Base Salary during the year in which termination occurred. The continuation of health and welfare benefits shall be discontinued prior to the end of the twelve (12) month period in the event the Executive has available substantially similar benefits from a subsequent employer. Further, the Company shall pay the Executive all other benefits to which the Executive has a vested right at the time, according to the provisions of the governing plan or program. With the exceptions of the covenants contained in Section 8 herein (which shall survive such termination) the Company and the Executive thereafter shall have no further obligations under this Agreement. 7 If the Executive's employment is terminated for any of the reasons set forth in Section 7.1 herein, the Executive shall be entitled to receive the benefits provided in Section 7.1 herein in lieu of the benefits set forth in this Section 6.5. 6.6 TERMINATION FOR CAUSE. Nothing in this Agreement shall be construed to prevent the Board from terminating the Executive's employment under this Agreement for "Cause." Notwithstanding the foregoing, the Executive shall not be deemed to have been terminated for Cause unless and until there shall have been delivered to the Executive a copy of a resolution duly adopted by the unanimous vote of the entire membership of the Board at a meeting of such Board duly called and held for that purpose (after reasonable notice to the Executive and an opportunity for the Executive, together with the Executive's counsel, to be heard by the Board) finding that in the good faith opinion of the Board that the Executive was guilty of conduct set forth in the second paragraph of this Section 6.6 and specifying the particulars thereof in detail. In the event the Board determines that Cause exists, the Board shall deliver written notice to the Executive of the facts and circumstances leading to the Board's determination. Upon receipt of this written notification, all provisions of this Agreement shall terminate, except for the confidentiality and noncompete provisions of Section 8 herein (which shall survive such termination). The Company shall pay the Executive his full Base Salary and accrued vacation time through the date notice of a for Cause termination is delivered to the Executive, plus all other benefits to which the Executive has a vested right to at that time. The Company and the Executive thereafter shall have no further obligations under this Agreement other than the Executive's obligations under Section 8 hereof. "Cause" shall be determined by the Board in the exercise of good faith and reasonable judgment; and shall mean the willful misconduct, fraud, conviction of a felony, consistent gross neglect of duties, or wanton negligence by the Executive in the performance of his duties hereunder, or the material breach by the Executive of the terms of this Agreement. 6.7 TERMINATION FOR GOOD REASON. At any time during the six (6) full calendar month period prior to the effective date of a Change in Control (as defined in Section 7.2) or the twenty four (24) month period following the effective date of a Change in Control (as defined in Section 7.2), the Executive may terminate this Agreement for Good Reason (as defined below) by giving the Board of Directors of the Company thirty (30) calendar days written notice of intent to terminate, which notice sets forth in reasonable detail the facts and circumstances claimed to provide a basis for such termination. Upon the expiration of the thirty (30) day notice period, the Good Reason termination shall become effective, and the Company shall pay and provide to the Executive the benefits set forth in Section 7.1 herein. Good Reason shall mean, without the Executive's express written consent, the occurrence of any one or more of the following: 8 (a) The assignment of the Executive to duties materially inconsistent with the Executive's authorities, duties, responsibilities, and status as an officer of the Company, or a reduction or alteration in the nature or status of the Executive's authorities, duties, or responsibilities from those in effect during the immediately preceding fiscal year; (b) The Company's requiring the Executive to be based at a location which is at least fifty (50) miles further from the Executive's current primary residence than is such residence from the Company's current headquarters, except for required travel on the Company's business to an extent substantially consistent with the Executive's business obligations as of the Effective Date; (c) A reduction by the Company in the Executive's Base Salary as in effect on the Effective Date, as provided in Section 4.1 herein, or as the same shall be increased from time to time; (d) A material reduction in the Executive's level of participation in any of the Company's short- and/or long-term incentive compensation plans, or employee benefit or retirement plans, policies, practices, or arrangements in which the Executive participates as of the Effective Date; provided, however, that reductions in the levels of participation in any such plans shall not be deemed to be "Good Reason" if the Executive's reduced level of participation in each such program remains substantially consistent with the average level of participation of other executives who have positions commensurate with the Executive's position; or (e) The failure of the Company to obtain a satisfactory agreement from any successor to the Company to assume and agree to perform this Agreement, as contemplated in Section 11.1 herein. Upon a termination for Good Reason within the six (6) full calendar month period prior to the effective date of a Change in Control, or within the twenty-four (24) months following the effective date of a Change in Control, the Executive shall be entitled to receive the payments and benefits set forth in Section 7.1 herein. The Executive's right to terminate employment for Good Reason shall not be affected by the Executive's incapacity due to physical or mental illness. The Executive's continued employment shall not constitute consent to, or a waiver of rights with respect to, any circumstance constituting Good Reason herein. 9 SECTION 7. CHANGE IN CONTROL 7.1 EMPLOYMENT TERMINATIONS IN CONNECTION WITH A CHANGE IN CONTROL. In the event of a Qualifying Termination (as defined below) within six (6) full calendar months prior to the effective date of a Change in Control, or within twenty-four (24) months following the effective date of a Change in Control, then in lieu of all other benefits provided to the Executive under the provisions of this Agreement, the Company shall pay to the Executive in a lump sum payment and provide him with the following severance benefits (hereinafter referred to as the "Severance Benefits"): (a) An amount equal to two (2) times the highest rate of the Executive's annualized Base Salary rate in effect at any time up to and including the effective date of termination; (b) An amount equal to two (2) times the Executive's target incentive award (both cash and long-term) established for the fiscal year in which the Executive's effective date of termination occurs; (c) An amount equal to the Executive's unpaid Base Salary and accrued vacation pay through the effective date of termination; (d) An amount equal to the Executive's unpaid targeted annual bonus, established for the plan year in which the Executive's effective date of termination occurs, multiplied by a fraction, the numerator of which is the number of completed days in the then-existing fiscal year through the effective date of termination, and the denominator of which is three hundred sixty-five (365); (e) A continuation of the welfare benefits of medical insurance, dental insurance, and group term life insurance for two (2) full years after the effective date of termination. These benefits shall be provided to the Executive at the same premium cost, and at the same coverage level, as in effect as of the Executive's effective date of termination. However, in the event the premium cost and/or level of coverage shall change for all employees of the Company, the cost and/or coverage level, likewise, shall change for the Executive in a corresponding manner. The continuation of these welfare benefits shall be discontinued prior to the end of the two (2) year period in the event the Executive has available substantially similar benefits from a subsequent employer, as determined by the Company's Board of Directors or the Board's designee. 10 (f) A lump-sum cash payment of the actuarial present value equivalent of the aggregate benefits accrued by the Executive as of the effective date of termination under the terms of any and all supplemental retirement plans in which the Executive participates. For purposes of determining "final average pay" under such programs, the Executive's actual pay history as of the effective date of termination shall be used. For purposes of this Section 7, a Qualifying Termination shall mean any termination of the Executive's employment OTHER THAN: (1) by the Company for Cause (as provided in Section 6.6 herein); (2) by reason of death, Disability (as provided in Section 6.2 herein), or Retirement (as such term is then defined in the Company's tax qualified defined benefit retirement plan; [provided that a termination which qualifies as a Retirement and which would otherwise qualify as a termination for Good Reason under Section 6.7 herein will be deemed to be a Qualifying Termination]). 7.2 DEFINITION OF "CHANGE IN CONTROL." A Change in Control of the Company shall be deemed to have occurred as of the first day any one or more of the following conditions shall have been satisfied: (a) Any individual, corporation (other than the Company), partnership, trust, association, pool, syndicate, or any other entity or any group of persons acting in concert becomes the beneficial owner, as that concept is defined in Rule 13d-3 promulgated by the Securities and Exchange Commission under the Securities Exchange Act of 1934, of securities of the Company possessing twenty percent (20%) or more of the voting power for the election of directors of the Company; (b) There shall be consummated any consolidation, merger, or other business combination involving the Company or the securities of the Company in which holders of voting securities of the Company immediately prior to such consummation own, as a group, immediately after such consummation, voting securities of the Company (or, if the Company does not survive such transaction, voting securities of the corporation surviving such transaction) having less than sixty percent (60%) of the total voting power in an election of directors of the Company (or such other surviving corporation); (c) During any period of two (2) consecutive years, individuals who at the beginning of such period constitute the directors of the Company cease for any reason to constitute at least a majority thereof unless the election, or the nomination for election by the Company's shareholders, of each new director of the Company was approved by a vote of at least two-thirds (2/3) of the directors of the Company then still in office who were directors of the Company at the beginning of any such period; or 11 (d) There shall be consummated any sale, lease, exchange, or other transfer (in one transaction or a series of related transactions) of all, or substantially all, of the assets of the Company (on a consolidated basis) to a party which is not controlled by or under common control with the Company. 7.3 EXCISE TAX EQUALIZATION PAYMENT. In the event that the Executive becomes entitled to Severance Benefits or any other payment or benefit under this Plan, or under any other agreement with or plan of the Company (in the aggregate, the "Total Payments"), if any of the Total Payments will be subject to the tax (the "Excise Tax") imposed by Section 4999 of the Code (or any similar tax that may hereafter be imposed), the Company shall pay to the Executive in cash an additional amount (the "Gross-Up Payment") such that the net amount retained by the Executive after deduction of any Excise Tax upon the Total Payments and any Federal, state and local income tax and Excise Tax upon the Gross-Up Payment provided for by this Section 7.3 (including FICA and FUTA), shall be equal to the Total Payments. Such payment shall be made by the Company to the Executive as soon as practical following the effective date of termination, but in no event beyond thirty (30) days from such date. 7.4 TAX COMPUTATION. For purposes of determining whether any of the Total Payments will be subject to the Excise Tax and the amounts of such Excise Tax: (a) Any other payments or benefits received or to be received by the Executive in connection with a Change in Control of the Company or the Executive's termination of employment (whether pursuant to the terms of this Plan or any other plan, arrangement, or agreement with the Company, or with any person (which shall have the meaning set forth in Section 3(a)(9) of the Securities Exchange Act of 1934, including a "group" as defined in Section 13(d) therein) whose actions result in a Change in Control of the Company or any person affiliated with the Company or such persons) shall be treated as "parachute payments" within the meaning of Section 280G(b)(2) of the Code, and all "excess parachute payments" within the meaning of Section 280G(b)(1) shall be treated as subject to the Excise Tax, unless in the opinion of tax counsel as supported by the Company's independent auditors and acceptable to the Executive, such other payments or benefits (in whole or in part) do not constitute parachute payments, or unless such excess parachute payments (in whole or in part) represent reasonable compensation for services actually rendered within the meaning of Section 280G(b)(4) of the Code in excess of the base amount within the meaning of Section 280G(b)(3) of the Code, or are otherwise not subject to the Excise Tax; (b) The amount of the Total Payments which shall be treated as subject to the Excise Tax shall be equal to the lesser of: (i) the total amount of the Total Payments; or (ii) the amount of excess parachute payments within the meaning of Section 280G(b)(1) (after applying clause (a) above); and 12 (c) The value of any noncash benefits or any deferred payment or benefit shall be determined by the Company's independent auditors in accordance with the principles of Sections 280G(d)(3) and (4) of the Code. For purposes of determining the amount of the Gross-Up Payment, the Executive shall be deemed to pay federal income taxes at the highest marginal rate of Federal income taxation in the calendar year in which the Gross-Up Payment is to be made, and state and local income taxes at the highest marginal rate of taxation in the state and locality of the Executive's residence on the effective date of termination, net of the maximum reduction in federal income taxes which could be obtained from deduction of such state and local taxes. 7.5 SUBSEQUENT RECALCULATION. In the event the Internal Revenue Service adjusts the computation of the Company under Section 7.4 herein so that the Executive did not receive the greatest net benefit, the Company shall reimburse the Executive for the full amount necessary to make the Executive whole, plus a market rate of interest, as determined by the Committee. 7.6 PAYMENT OF LEGAL FEES. To the extent permitted by law, the Company shall pay all legal fees, costs of litigation, prejudgment interest, and other expenses incurred in good faith by the Executive as a result of the Company's refusal to provide the severance benefits under this Section 7 to which the Executive becomes entitled under this Agreement, or as a result of the Company's contesting the validity, enforceability, or interpretation of this Agreement, or as a result of any conflict (including conflicts related to the calculation of parachute payments) between the parties pertaining to this Agreement. SECTION 8. CONFIDENTIALITY AND NONCOMPETITION 8.1 CONFIDENTIALITY. During the term of this Agreement and thereafter in perpetuity, the Executive will not directly or indirectly divulge or appropriate to his own use, or to the use of any third party, and "trade secrets" (as defined in Section 8.3), other secret or confidential information, knowledge or financial information of the Company or any of the Company's subsidiaries or affiliates (hereinafter, the Company and its subsidiaries and affiliates shall be collectively referred to as the "Company Group"), except as may be in the public domain other than by violation of this Agreement. 8.2 NONCOMPETITION. From the date hereof until two (2) years after the termination of his employment hereunder, the Executive will not (i) directly or indirectly own any equity or proprietary interest in (except for ownership of shares in a publicly traded company not exceeding five percent (5%) of any class of outstanding securities), or be an employee, agent, director, advisor, or consultant to or for any corporation (other than the Company Group), business enterprise or any person engaged anywhere in the State of Rhode Island or the Commonwealth of Massachusetts, whether on his own behalf or on behalf of any person other than the Company Group, in the manufacture, procuring, sale, marketing, promotion or 13 distribution of any product or product lines functioning competitively with any product or product lines of the Company Group during the term of this Agreement, and the Executive will not assist in, manage or supervise any of the foregone activities; (ii) undertake any action to induce or cause any customer or client of the Company Group to discontinue any part of its business with the Company Group; (iii) cause, induce or in any way facilitate the employment by any other persons or organization of any employee of or consultant to the Company Group, provided, that this covenant shall become operative only upon the termination of the Executive's employment; or (iv) take or assist directly or indirectly in the taking, by acting as consultant to a third party or otherwise of any position on any matter involving the Company and pending before any state or other public agency, when such position is adverse to the position being promoted before such agency at the time by the Company. 8.3 TRADE SECRETS. "Trade Secrets" as used herein means all secret discoveries, invention, formulae, designs, methods, processes, techniques of production and know-how relating to the Company Group's business. "Confidential Information" as used herein means the Company Group's internal policies and procedures, suppliers, customers, financial information and marketing practices, as well as secret discoveries, inventions, formulae, designs, techniques of production, know-how and other information relating to the Company Group's business not rising to the level of a trade secret under applicable law. 8.4 The breach by the Executive of any of the covenants continued in this Paragraph 8 shall relieve the company of all further payment obligation under Paragraph 6 or Paragraph 7. SECTION 9. INDEMNIFICATION The Company hereby covenants and agrees to indemnify and hold harmless the Executive fully, completely, and absolutely against and in respect to any and all actions, suits, proceedings, claims, demands, judgments, costs, expenses (including attorney's fees), losses, and damages resulting from the Executive's good faith performance of his duties and obligations under the terms of this Agreement. SECTION 10. OUTPLACEMENT ASSISTANCE Following a termination of the Executive's employment as described in Sections 6.5, 6.7, or 7.1 herein, the Executive shall be reimbursed by the Company for the costs of all outplacement services obtained by the Executive within the one (1) year (for termination pursuant to Section 6.5) and two (2) year (for terminations pursuant to Section 6.7 or 7.1) periods after the effective date of termination; provided, however, that the total reimbursement shall be limited to an amount equal to fifteen percent (15%) of the Executive's Base Salary as of the effective date of termination. 14 SECTION 11. ASSIGNMENT 11.1 ASSIGNMENT BY COMPANY. This Agreement may and shall be assigned or transferred to, and shall be binding upon and shall inure to the benefit of, any successor of the Company, and any such successor shall be deemed substituted for all purposes of the "Company" under the terms of this Agreement. As used in this Agreement, the term "successor" shall mean any person, firm, corporation, or business entity which at any time, whether by merger, purchase, or otherwise, acquires all or essentially all of the assets of business of the Company. Notwithstanding such assignment, the Company shall remain, with such successor, jointly and severally liable for all its obligations hereunder. Failure of the Company to obtain such agreement prior to the effectiveness of any such succession shall be a breach of this Agreement and shall immediately entitle the Executive to compensation from the Company in the same amount and on the same terms as the Executive would be entitled in the event of an involuntary termination by the Company, as provided in Paragraph 6.6 herein. Except as herein provided, this Agreement may not otherwise be assigned by the Company. 11.2 ASSIGNMENT BY EXECUTIVE. This Agreement shall inure to the benefit of and be enforceable by the Executive's personal or legal representatives, executors, and administrators, successors, heirs, distributees, devisees, and legatees. If the Executive should die while any amounts payable to the Executive hereunder remain outstanding, all such amounts, unless otherwise provided herein, shall be paid in accordance with the terms of this Agreement to the Executive's devisee, legatee, or other designee or, in the absence of such designee, to the Executive's estate. SECTION 12. DISPUTE RESOLUTION AND NOTICE 12.1 ARBITRATION. Any dispute or controversy arising under or in connection with this Agreement shall be settled by arbitration, conducted before a panel of three (3) arbitrators sitting in a location selected by the Executive within fifty (50) miles from the location of his employment ith the Company, in accordance with the rules of the American Arbitration Association then in effect. Judgment may be entered on the award of the arbitrator in any court having proper jurisdiction. All expenses of such arbitration, including the fees and expenses of the counsel for the Executive, shall be borne by the Company. 12.2 NOTICE. Any notices, requests, demands, or other communications provided for by this Agreement shall be sufficient if in writing and if sent by registered or certified mail to the Executive at the last address he has filed in writing with the Company or, in the case of the Company, at its principal offices. 15 SECTION 13. MISCELLANEOUS 13.1 GENDER AND NUMBER. Except where otherwise indicated by the context, any masculine term used herein also shall include the feminine; the plural shall include the singular and the singular shall include the plural. 13.2 ENTIRE AGREEMENT. This Agreement supersedes any prior agreements or understandings, oral or written, between the parties hereto or between the Executive and the Company, with respect to the subject matter hereof and constitutes the entire Agreement of the parties with respect thereto. 13.3 MODIFICATION. This Agreement shall not be varied, altered, modified, canceled, changed, or in any way amended except by mutual agreement of the parties in a written instrument executed by the parties hereto or their legal representatives. 13.4 SEVERABILITY. In the event that any provision or portion of this Agreement shall be determined to be invalid or unenforceable for any reason, the remaining provisions of this Agreement shall be unaffected thereby and shall remain in full force and effect. 13.5 COUNTERPARTS. This Agreement may be executed in one or more counterparts, each of which shall be deemed to be an original, but all of which together will constitute one and the same Agreement. 13.6 TAX WITHHOLDING. The Company may withhold from any benefits payable under this Agreement all federal, state, city, or other taxes as may be required pursuant to any law or governmental regulation or ruling. 13.7 BENEFICIARIES. The Executive may designate one or more persons or entities as the primary and/or contingent beneficiaries of any amounts to be received under this Agreement. Such designation must be in the form of a signed writing acceptable to the Board or the Board's designee. The Executive may make or change such designation at any time. SECTION 14. GOVERNING LAW To the extent not preempted by federal law, the provisions of this Agreement shall be construed and enforced in accordance with the laws of the state of Rhode Island. 16 IN WITNESS WHEREOF, the Executive and the Company (pursuant to a resolution adopted at a duly constituted meeting of its Board of Directors) have executed this Agreement, as of the day and year first above written. Executive: /s/ James A. Grasso ------------------------------------ ATTEST Providence Energy Corporation By: /s/ Susann G. Mark By: /s/ James H. Dodge ------------------- -------------------- Corporate Secretary Chairman, President and CEO 17 EX-10.13 3 1998 PERFORMANCE SHARE PLAN Exhibit 10.13 CONTENTS Article 1. Establishment, Objectives, and Duration 1 Article 2. Definitions 1 Article 3. Administration 2 Article 4. Eligibility and Participation 3 Article 5. Performance Shares 3 Article 6. Performance Measures and Goals 3 Article 7. Beneficiary Designation 4 Article 8. Deferrals 4 Article 9. Rights of Employees 4 Article 10. Change in Control 5 Article 11. Amendment, Modification, and Termination 5 Article 12. Withholding 5 Article 13. Indemnification 6 Article 14. Successors 6 Article 15. Legal Construction 6 PROVIDENCE ENERGY CORPORATION PERFORMANCE SHARE PLAN ARTICLE 1. ESTABLISHMENT, OBJECTIVES, AND DURATION 1.1. ESTABLISHMENT OF THE PLAN. Providence Energy Corporation (the "Company") hereby establishes an incentive compensation plan to be known as the "Providence Energy Corporation Performance Share Plan" (hereinafter referred to as the "Plan"), as set forth in this document. The Plan permits the grant of Performance Shares. The Plan shall become effective as of October 1, 1998 (the "Effective Date") and shall remain in effect as provided in Section 1.3 hereof. 1.2. OBJECTIVES OF THE PLAN. The objectives of the Plan are to provide a competitive compensation package to the senior executives of the Company, to further promote stock ownership among top management, and to align executives with the interests of shareholders through a direct link to total shareholder return. The Plan is further intended to provide flexibility to the Company in its ability to motivate, attract, and retain the services of executives who make significant contributions to the Company's success and to allow executives to share in the success of the Company. 1.3. DURATION OF THE PLAN. The Plan shall commence on the Effective Date, as described in Section 1.1 hereof, and shall remain in effect, subject to the right of the Committee to amend or terminate the Plan at any time pursuant to Article 11 hereof, until all Awards subject to it shall have been paid out according to the Plan's provisions, provided that no Awards shall be granted after September 30, 2003. 1.4. MAXIMUM NUMBER OF SHARES ISSUABLE. The number of Shares issuable by the Company in payment of Awards granted under the Plan (excluding Shares purchased by the Company in open market transactions for such purpose) shall not exceed 1 percent of the Company's issued and outstanding Shares on the Effective Date as to any single Participant or 5 percent of the Company's issued and outstanding Shares on the Effective Date as to all Participants. ARTICLE 2. DEFINITIONS Whenever used in the Plan, the following terms shall have the meanings set forth below, and when the meaning is intended, the initial letter of the word shall be capitalized: 2.1. "AWARD" means, individually or collectively, a grant under this Plan of Performance Shares. 2.2. "AWARD AGREEMENT" means an agreement entered into by the Company and each Participant setting forth the terms and provisions applicable to Awards granted under this Plan. 2.3. "COMMITTEE" means the Human Resources and Planning Committee of the Company's Board of Directors or any other committee appointed by the Board of Directors to administer the Plan, as specified in Article 3 herein. 2.4. "COMPANY" means Providence Energy Corporation, a Rhode Island corporation having its principal place of business in Providence, Rhode Island, and any successor thereto as provided in Article 14 herein. 2.5. "DISABILITY" shall have the meaning ascribed to such term in the Participant's governing long-term disability plan, or if no such plan exists, at the discretion of the Committee. 2.6. "EFFECTIVE DATE" shall have the meaning ascribed to such term in Section 1.1 hereof. 1 2.7. "EMPLOYEE" means any full-time, active employee of the Company or its subsidiaries. 2.8. "EXCHANGE ACT" means the Securities Exchange Act of 1934, as amended. 2.9. "FAIR MARKET VALUE" shall be determined on the basis of the average closing sale price on the principal securities exchange on which the Shares are traded for the five days prior to the end of the Performance Period. 2.10. "PARTICIPANT" means an Employee who has been selected to receive an Award or who has an outstanding Award granted under the Plan. 2.11. "PERFORMANCE GOALS" mean the performance goals established in accordance with Section 6.3 hereof. 2.12. "PERFORMANCE PERIOD" means the period of time during which the performance goals must be met. 2.13. "PERFORMANCE SHARE" means an Award granted to a Participant, as described in Article 5 herein. 2.14. "RELATIVE TSR" shall mean the total shareholder return on a Share (based on share price and dividends paid) relative to the average total shareholder return for the E.D. Jones Gas Distribution peer group. 2.15. "RETIREMENT" shall have the meaning ascribed to such term in the Company's tax-qualified retirement plan. 2.16. "SHARE" shall mean a share of the Company's common stock. 2.17. "SHARE PRICE" shall mean the Fair Market Value of a Share as of the relevant date. ARTICLE 3. ADMINISTRATION 3.1. THE COMMITTEE. The Plan shall be administered by the Human Resources and Planning Committee, or by any other committee of not less than two directors appointed by the Company's Board of Directors to administer the Plan. The members of the Committee shall be appointed from time to time by, and shall serve at the discretion of, the Company's Board of Directors. Unless the Company's Board of Directors shall determine otherwise, in its sole discretion, all members of the Committee shall be "nonemployee directors" within the meaning of Rule 16b-3 under the Exchange Act, as such rule may be amended from time to time. 3.2. AUTHORITY OF THE COMMITTEE. Except as limited by law or by the organizational documents of the Company, and subject to the provisions herein, the Committee shall have full power to select Employees who shall participate in the Plan; determine the sizes and types of Awards; determine the terms and conditions of Awards in a manner consistent with the Plan; construe and interpret the Plan and any agreement or instrument entered into under the Plan; establish, amend, or waive rules and regulations for the Plan's administration; and (subject to the provisions of Article 15 herein) amend the terms and conditions of any outstanding Award to the extent such terms and conditions are within the discretion of the Committee as provided in the Plan. Further, the Committee shall make all other determinations which may be necessary or advisable for the administration of the Plan. As permitted by law, the Committee may delegate its authority as identified herein. 3.3. DECISIONS BINDING. All determinations and decisions made by the Committee pursuant to the provisions of the Plan and all related orders and resolutions of the Committee shall be final, conclusive and binding on all persons, including the Company, its shareholders, Employees, Participants, and their estates and beneficiaries. 2 ARTICLE 4. ELIGIBILITY AND PARTICIPATION 4.1. ELIGIBILITY. Persons eligible to participate in this Plan are Employees comprising the senior management of the Company and/or its subsidiaries. 4.2. ACTUAL PARTICIPATION. Subject to the provisions of the Plan, the Committee may, from time to time, select from all eligible Employees, based on the recommendation of the Company's Chief Executive Officer, those to whom Awards shall be granted and shall determine the nature and amount of each Award. ARTICLE 5. PERFORMANCE SHARES 5.1. GRANT OF PERFORMANCE SHARES. Subject to the terms of the Plan, Performance Shares may be granted to Participants in such amounts and upon such terms, and at any time and from time to time, as shall be determined by the Committee. 5.2. VALUE OF PERFORMANCE SHARES. Each Performance Share shall have a value that is equal to the Fair Market Value of a Share. The Committee shall set performance goals in its discretion which, depending on the extent to which they are met, will determine the number of Performance Shares that will be paid out to the Participant. For purposes of this Article 5, each time period during which the performance goals must be met shall be called a "Performance Period." 5.3. EARNING OF PERFORMANCE SHARES. Subject to the terms of this Plan, after the applicable Performance Period has ended, the holder of Performance Shares shall be entitled to receive payout on the number and value of Performance Shares earned by the Participant over the Performance Period, to be determined as a function of the extent to which the Performance Goals established in Article 6 have been achieved, subject to the threshold performance requirement set forth in Section 6.4. 5.4. FORM AND TIMING OF PAYMENT OF PERFORMANCE SHARES. Subject to the terms of the Plan, payment of earned Performance Shares shall be made fifty percent (50%) in cash and fifty percent (50%) in Shares following the close of the applicable Performance Period. Subject to the terms of this Plan, the Committee shall pay out the earned Performance Shares within ninety (90) days of the close of the applicable Performance Period. 5.5 NO ENTITLEMENT TO DIVIDENDS. An Award shall not entitle the Participant to receive any dividend payments with respect to any dividends that may be paid on the Shares. 5.6. TERMINATION OF EMPLOYMENT DUE TO DEATH, DISABILITY, OR RETIREMENT. Unless determined otherwise by the Committee and set forth in the Participant's Award Agreement, in the event the employment of a Participant is terminated by reason of death, Disability, or Retirement during a Performance Period, the Participant shall receive a payout of the Performance Shares which is prorated, as specified by the Committee in its discretion, such payout to be made at a time specified by the Committee in its sole discretion and set forth in the Participant's Award Agreement. 5.7. TERMINATION OF EMPLOYMENT FOR OTHER REASONS. In the event that a Participant's employment terminates for any reason other than those reasons set forth in Section 5.5 herein, all Performance Shares shall be forfeited by the Participant unless determined otherwise by the Committee, as set forth in the Participant's Award Agreement. 5.8. NONTRANSFERABILITY. Except as otherwise provided in a Participant's Award Agreement, Performance Shares may not be sold, transferred, pledged, assigned, or otherwise alienated or hypothecated, other than by will or by the laws of descent and distribution. ARTICLE 6. PERFORMANCE MEASURES AND GOALS 6.1 PERFORMANCE MEASURES. The performance measures to be used for purposes of determining the number of Performance Shares earned at the end of the Performance Period shall be Relative TSR and Share Price. 6.2 PERFORMANCE PERIOD. The Performance Period for Awards granted under the Plan shall be three calendar years from the date of grant. 3 6.3 Performance Goals. At the end of the Performance Period, the number of Performance Shares earned shall be based on both Relative TSR and Share Price, subject to the threshold performance requirement set forth in Section 6.4. The Committee shall establish Performance Goals and the percent of target metrics for Awards. The Relative TSR Performance Goals and Share Price Performance Goals and the performance metrics shall be set forth in the Award Agreement. 6.4 Determination of Performance Shares Earned. The number of Performance Shares earned for a Performance Period shall be determined based on both the Relative TSR and Share Price Performance Goals set forth in the Award Agreement as of the end of Performance Period, subject to the threshold performance requirement set forth below. The Committee shall first determine the percent of target Performance Shares earned for the Performance Period based on each of the Company's Relative TSR and Share Price Performance Goals set forth in the Award Agreement. Subject to the threshold performance requirement, the Participant shall earn the greater of (i) the percent of target Performance Shares earned under the Relative TSR Performance Goal; or (ii) the percent of target Performance Shares earned under the Share Price Performance Goal. Any pay out of Performance Shares for a Performance Period shall be contingent on the Company achieving a minimum average annual Total Shareholder Return over the Performance Period of the total annual return provided on 30- year United States Treasury Notes over the Performance Period (the "Minimum Return"). In the event that the Minimum Return is not achieved for the Performance Period, the percent of target Performance Shares earned for the Performance Period shall be zero. ARTICLE 7. BENEFICIARY DESIGNATION Each Participant under the Plan may, from time to time, name any beneficiary or beneficiaries (who may be named contingently or successively) to whom any benefit under the Plan is to be paid in case of his or her death before he or she receives any or all of such benefit. Each such designation shall revoke all prior designations by the same Participant, shall be in a form prescribed by the Company, and will be effective only when filed by the Participant in writing with the Company during the Participant's lifetime. In the absence of any such designation, benefits remaining unpaid at the Participant's death shall be paid to the Participant's estate. ARTICLE 8. DEFERRALS The Committee may permit a Participant to defer such Participant's receipt of the payment of cash that would otherwise be due to such Participant by virtue of the satisfaction of any requirements or goals with respect to Performance Shares. If any such deferral election is required or permitted, the Committee shall, in its sole discretion, establish rules and procedures for such payment deferrals, which rules and procedures shall, to the extent permitted under the Internal Revenue Code of 1986, as amended, and the regulations promulgated thereunder, permit deferral of any tax liability for a payment deferral. ARTICLE 9. RIGHTS OF EMPLOYEES 9.1. EMPLOYMENT. Nothing in the Plan shall interfere with or limit in any way the right of the Company to terminate any Participant's employment at any time, nor confer upon any Participant any right to continue in the employ of the Company. 9.2. PARTICIPATION. No Employee shall have the right to be selected to receive an Award under this Plan, or, having been so selected, to be selected to receive a future Award. 4 ARTICLE 10. CHANGE IN CONTROL 10.1 DEFINITION OF "CHANGE IN CONTROL." A Change in Control of the Company shall be deemed to have occurred as of the first day any one or more of the following conditions shall have been satisfied: (a) Any individual, corporation (other than the Company), partnership, trust, association, pool, syndicate, or any other entity or any group of persons acting in concert becomes the beneficial owner, as that concept is defined in Rule 13d-3 promulgated by the Securities and Exchange Commission under the Securities Exchange Act of 1934, of securities of the Company possessing twenty percent (20%) or more of the voting power for the election of directors of the Company; (b) There shall be consummated any consolidation, merger, or other business combination involving the Company or the securities of the Company in which holders of voting securities of the Company immediately prior to such consummation own, as a group, immediately after such consummation, voting securities of the Company (or, if the Company does not survive such transaction, voting securities of the corporation surviving such transaction) having less than sixty percent (60%) of the total voting power in an election of directors of the Company (or such other surviving corporation); (c) During any period of two (2) consecutive years, individuals who at the beginning of such period constitute the directors of the Company cease for any reason to constitute at least a majority thereof unless the election, or the nomination for election by the Company's shareholders, of each new director of the Company was approved by a vote of at least two-thirds (2/3) of the directors of the Company then still in office who were directors of the Company at the beginning of any such period; or (d) There shall be consummated any sale, lease, exchange, or other transfer (in one transaction or a series of related transactions) of all, or substantially all, of the assets of the Company (on a consolidated basis) to a party which is not controlled by or under common control with the Company. 10.2 TREATMENT OF OUTSTANDING AWARDS UPON A CHANGE IN CONTROL. Upon the occurrence of a Change in Control, unless otherwise prohibited under applicable laws, or by the rules and regulations of any governing governmental agencies or national securities exchanges, the target opportunities under all outstanding Awards shall be deemed to have been fully earned for the entire Performance Period(s) as of the effective date of the Change in Control. 10.3 POOLING OF INTERESTS ACCOUNTING. Notwithstanding any other provision of the Plan to the contrary, in the event that the consummation of a Change in Control is contingent on using pooling of interests accounting methodology, the Committee may take any action necessary to preserve the use of pooling of interests accounting. ARTICLE 11. AMENDMENT, MODIFICATION, AND TERMINATION 11.1. AMENDMENT, MODIFICATION, AND TERMINATION. Subject to the terms of the Plan, the Committee may at any time and from time to time, alter, amend, suspend or terminate the Plan in whole or in part. 11.2. ADJUSTMENT OF AWARDS UPON THE OCCURRENCE OF CERTAIN UNUSUAL OR NONRECURRING EVENTS. The Committee may make adjustments in the terms and conditions of, and the criteria included in, Awards in recognition of unusual or nonrecurring events affecting the Company, the financial statements of the Company, the E.D. Jones Gas Distribution peer group or of changes in applicable laws, regulations, or accounting principles, whenever the Committee determines that such adjustments are appropriate in order to prevent dilution or enlargement of the benefits or potential benefits intended to be made available under the Plan. 11.3. AWARDS PREVIOUSLY GRANTED. Notwithstanding any other provision of the Plan to the contrary, no termination, amendment, or modification of the Plan shall adversely affect in any material way any Award previously granted under the Plan, without the written consent of the Participant holding such Award. ARTICLE 12. WITHHOLDING TAX WITHHOLDING. The Company shall have the power and the right to deduct or withhold, or require a Participant to remit to the Company, an amount sufficient to satisfy federal, state, and local taxes, domestic or foreign, required by law or regulation to be withheld with respect to any taxable event arising as a result of this Plan. 5 ARTICLE 13. INDEMNIFICATION Each person who is or shall have been a member of the Committee shall be indemnified and held harmless by the Company against and from any loss, cost, liability, or expense that may be imposed upon or reasonably incurred by him or her in connection with or resulting from any claim, action, suit, or proceeding to which he or she may be a party or in which he or she may be involved by reason of any action taken or failure to act under the Plan and against and from any and all amounts paid by him or her in settlement thereof, with the Company's approval, or paid by him or her in satisfaction of any judgement in any such action, suit, or proceeding against him or her, provided he or she shall give the Company an opportunity, at its own expense, to handle and defend the same before he or she undertakes to handle and defend it on his or her own behalf. The foregoing right of indemnification shall not be exclusive of any other rights of indemnification to which such persons may be entitled under the Company's Articles of Incorporation or Bylaws, as a matter of law, or otherwise, or any power that the Company may have to indemnify them or hold them harmless. ARTICLE 14. SUCCESSORS All obligations of the Company under the Plan with respect to Awards granted hereunder shall be binding on any successor to the Company, whether the existence of such successor is the result of a direct or indirect purchase, merger, consolidation, or otherwise, of all or substantially all of the Shares, business and/or assets of the Company. ARTICLE 15. LEGAL CONSTRUCTION 15.1. GENDER AND NUMBER. Except where otherwise indicated by the context, any masculine term used herein also shall include the feminine; the plural shall include the singular and the singular shall include the plural. 15.2. SEVERABILITY. In the event any provision of the Plan shall be held illegal or invalid for any reason, the illegality or invalidity shall not affect the remaining parts of the Plan, and the Plan shall be construed and enforced as if the illegal or invalid provision had not been included. 15.3. REQUIREMENTS OF LAW. The granting of Awards and the issuance of Shares under the Plan shall be subject to all applicable laws, rules, and regulations, and to such approvals by any governmental agencies as may be required. 15.4. GOVERNING LAW. To the extent not preempted by federal law, the Plan, and all agreements hereunder, shall be construed in accordance with and governed by the laws of the State of Rhode Island. 6 EX-13 4 PORTIONS OF ANNUAL REPORT TO SHAREHOLDERS EXHIBIT 13 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Providence Energy Corporation (the Company) and its subsidiaries and their representatives may from time to time make written or oral statements, including statements contained in the Company's filings with the Securities and Exchange Commission (SEC) and in its reports to shareholders, including this annual report to shareholders, which constitute "forward-looking" statements as that term is defined in the Private Securities Litigation Reform Act of 1995 or by the SEC in its rules, regulations and releases. All statements other than statements of historical facts included in this annual report regarding the Company's financial position and strategic initiatives and addressing industry developments, including for example statements in the President's message (pages 2 to 3), are forward-looking statements. Where, in any forward-looking statement, the Company or its management expresses an expectation or belief as to future results, such expectation or belief is expressed in good faith and believed to have a reasonable basis, but there can be no assurance that the statement of expectation or belief will result or be achieved or accomplished. The following are some of the factors which could cause actual results to differ materially from those anticipated: general economic, financial and business conditions; changes in government regulations; competition in the energy services sector; regional weather conditions; the availability and cost of natural gas and oil; development and operating costs; the success and costs of advertising and promotional efforts; the availability and terms of capital; the business abilities and judgment of personnel; the ability of the Company and its suppliers and customers to modify or redesign their computer systems to work properly in the year 2000; unanticipated environmental liabilities; the Company's ability to grow its business through acquisitions and/or significant customer growth; the costs and effects of unanticipated legal proceedings; the impacts of unusual items resulting from ongoing evaluations of business strategies and asset valuations; and changes in business strategy. SUMMARY The Company's current energy revenues and operating margin have increased, while net income has decreased over the comparable periods presented, as shown in the table below:
(000's) Percent 1998 1997 Change Change --------- -------- -------- -------- Energy Revenues $221,306 $220,420 $ 886 .4 Operating Margin 98,573 96,044 2,529 2.6 Net Income 6,442 7,831 (1,389) (17.7)
RESULTS OF OPERATIONS - 1998 VERSUS 1997 Operating Margin During the current year, Providence Gas Company (ProvGas) experienced weather that was 8.0 percent warmer than last year. The warmer temperatures resulted in decreased margin of approximately $4.0 million compared to last year. Offsetting the warmer than normal weather was $7.2 million of margin generated under the Price Stabilization Plan Settlement Agreement (Energize RI or the Plan), which became effective October 1, 1997. The components of this additional margin include $10.4 million associated with adjusting the Gas Charge Clause (GCC) mechanism, offset by the funding of the Low-Income and Demand Side Management programs of $1.7 million and the write-off of $1.5 million of previously deferred gas costs. In the prior year, ProvGas funded the Demand Side Management and Low-Income Weatherization programs under the Integrated Resource Plan (IRP) for $.7 million. Page-1 Additionally, non-firm margin decreased $2.2 million when compared with last year. Prior to Energize RI, ProvGas was allowed to recover approximately $3.0 million in non-firm margin under the terms of the IRP, subject to ProvGas' ability to generate sufficient gas cost savings for customers. As a result of Energize RI, ProvGas retains the actual non-firm margin earned. Due to an unfavorable pricing difference between natural gas and alternate fuels, ProvGas experienced a decrease in non-firm sales and transportation margin. As part of Energize RI, the performance-based ratemaking mechanism (Mechanism) under the IRP was terminated in September 1997. In 1997, ProvGas recorded $1.5 million in additional margin as a result of this Mechanism. Thus, a decrease in margin from 1997 to 1998 occurred because this Mechanism was no longer available in 1998. In a decision issued September 1, 1998, the RI Division of Public Utilities and Carriers (Division) rejected allegations made in a complaint brought by Aurora Natural Gas that ProvGas provided advance information and undue preference in pricing to its marketing affiliate, Providence Energy Services, Inc.(ProvEnergy Services). As part of its investigation, the Division ordered marketer refunds of approximately $.3 million. The Division ordered this refund based on its belief that an unfair rate was charged to customers who did not have operational telemeters in place when they began transporting gas. ProvGas intends to pursue all available options in order to reverse this decision. Nonregulated operating margin increased by $3.5 million compared to the same period last year. The Company's acquisition of oil distribution companies during 1998 contributed the majority of this increase. However, the margin earned from oil sales was lower than expected due to warmer than normal weather, lower than anticipated commercial margins, and costs associated with liquidating fixed-purchase commitments and option contracts for oil when market prices dropped significantly. Increased natural gas business volumes at ProvEnergy Services also contributed to an increase in nonregulated operating margin. ProvEnergy Services experienced sales volume growth of 150 percent and a fifteen-fold increase in the number of customers. Operating and Maintenance Expenses Overall, operating and maintenance expenses increased approximately $3.2 million or 6.6 percent versus last year. The increase is primarily attributable to the Company's acquisition of oil companies during the current fiscal year resulting in a $4.1 million increase. This increase was partially offset by decreases in ProvGas' expenses, primarily bad debts. The decrease in bad debts was attributable to improved collection experience and the implementation of new credit policies, as well as decreased operating revenues from warmer than normal weather. ProvGas' other operating and maintenance expenses were essentially flat due to cost management. The Company continually reviews its operating expenses in order to keep expenses as low as possible; however, expenses can vary from year to year. Depreciation and Amortization Depreciation and amortization expense increased approximately $1.6 million or 12.5 percent versus last year. This increase is the result of increased capital spending for Energize RI commitments as well as the amortization of previously deferred environmental costs. Effective October 1, 1997, ProvGas began amortizing environmental costs over a ten-year period in accordance with Energize RI. Due to expected future increases in environmental expenditures, which were projected under Energize RI, ProvGas will have increased environmental amortization expense in future years. Taxes Taxes decreased approximately $.7 million or 4.0 percent versus last year. The overall change in taxes is primarily due to a decrease in pretax income this year compared to last year. Additionally, local property and other taxes have increased as a result of capital spending. Page-2 Other, net Other, net has increased approximately $.6 million versus last year. The majority of the increase consists of approximately $.2 million of fees earned by the Company for providing energy management services and approximately $.2 million of interest income earned as a result of Federal income tax refunds resulting from amended tax returns. Interest Expense Interest expense increased approximately $.5 million or 7.0 percent versus last year. ProvGas' interest expense increased by approximately $.3 million as a result of the Series S First Mortgage Bond issuance in April 1998. The Company's acquisition of oil distribution companies in November 1997 resulted in increased interest expense of approximately $.5 million. Offsetting the increases was a decrease in weighted average short-term borrowings, as a result of the Series S First Mortgage Bond issuance, which caused short-term interest expense to decrease. FUTURE OUTLOOK A) Regulatory Under Energize RI, ProvGas may earn up to 10.9 percent annually on its average common equity of up to $81.0 million, $86.2 million, and $92.0 million in fiscal 1998, 1999 and 2000, respectively. In addition, ProvGas may not earn less than a seven percent return on average common equity. In the event that ProvGas earns in excess of 10.9 percent or less than seven percent, ProvGas will defer revenues or costs through a deferred revenue account over the term of the Plan. Any balance in the deferred revenue account at the end of the Plan will be refunded to or recovered from customers in a manner to be determined by all parties to the Plan and to be approved by the Rhode Island Public Utilities Commission (RIPUC). The implementation of Energize RI this year changed how ProvGas recorded its gas costs, resulting in higher margin reflected in the first half of the fiscal year and lower margin in the second half. This change did not impact annual earnings. As part of Energize RI, ProvGas is permitted to file with the Division for the recovery of the impact of exogenous Changes (Changes) which may occur during the three-year term of the Plan. Changes are defined as "...significant increases or decreases in ProvGas' costs or revenues which are beyond ProvGas' reasonable control." Any disputes regarding either the nature or quantification of the Changes are to be resolved by the RIPUC. The impact of any such Changes will be debited or credited to a regulatory asset or liability account throughout the term of Energize RI and will be recovered or refunded at the expiration of the Plan through a method to be determined. During 1998, due to the extremely warm temperatures, ProvGas experienced a margin loss of approximately $4.0 million. ProvGas also experienced a non-firm margin loss of approximately $2.2 million due to adverse market prices of natural gas versus alternate fuels. ProvGas believes the causes of these two events were beyond its control and thus considers them as Changes. In fiscal 1999, ProvGas intends to file with the Division for recovery of a portion of these losses. In 1998, ProvGas did not earn its allowed rate of return primarily as a result of the extremely warm weather and the loss of non-firm margin as previously discussed in "Operating Margin". Under the Plan's design, which assumed normal weather, ProvGas should have had earnings in year one of the Plan in excess of 10.9 percent. The earnings in excess of 10.9 percent were to be deferred in the deferred revenue account to fund capital investments and other Plan commitments in the remaining two years of the Plan. Absent favorable recovery for the Changes as discussed above, and/or other factors such as colder than normal weather, ProvGas' ability to earn a 10.9 percent return on average common equity in future Plan years is substantially impaired. Page-3 In May 1996, the RIPUC approved a Rate Design Settlement Agreement (the Agreement) among ProvGas, the Division, TEC-RI, and a consortium of oil heat organizations. The Agreement began a process of unbundling natural gas service in Rhode Island, enabling customers to choose their gas suppliers. The Agreement went into effect in June 1996. The initial phase of unbundling was available to approximately 120 of the largest commercial and industrial customers. In August 1997, the RIPUC approved a plan, called Business Choice, to further unbundle services to an additional 3,400 medium and large commercial and industrial customers. ProvGas commenced Business Choice in December 1997. Energize RI continues the process of unbundling by requiring ProvGas to provide unbundled service offerings for up to 10 percent per year of firm deliveries. At the conclusion of the latest enrollment period on October 1, 1998, an additional 530 customers had signed up for Business Choice. The program now has approximately 1,500 firm transportation customers with annual deliveries of over 5 billion cubic feet per year which is approximately 25 percent of ProvGas' total annual firm deliveries. There are 14 different marketers serving ProvGas' customers and transporting on the system. In 1998, North Attleboro Gas Company, a small distribution subsidiary with over 3,500 customers located in Massachusetts, received approval from the Massachusetts Department of Telecommunications and Energy (MDTE) of a settlement agreement unbundling its rates. This agreement, which unbundled the cost of gas from the cost of distribution, was part of a comprehensive statewide unbundling initiative being directed by the MDTE. In 1999, it is expected that North Attleboro Gas Company will introduce new unbundled service offerings and make competitive choice available to all customers, both residential and commercial. B) Business Opportunities The Company has significant regulated and nonregulated growth opportunities as it evolves into a local provider of natural gas, oil, electricity and energy services for homes and businesses throughout New England. In addition to funding investments related to system integrity, Energize RI provides opportunities for ProvGas to expand sales. For example, high pressure service to Quonset/Davisville Industrial Port & Commerce Park, a key area for State economic development, provides tremendous opportunities for sales growth as commercial and industrial businesses locate within the park. In addition, Demand Side Management, an equipment rebate program, provides opportunities to expand sales to nontraditional applications, such as air conditioning and fuel cells. ProvGas has redirected its sales and marketing efforts to leverage Energize RI, as well as other opportunities to promote sales growth within its service territory. In November 1997, as part of the Company's strategic plan to strengthen its position in the energy industry, the Company purchased two Rhode Island-based oil distribution companies, Super Service Oil and Mohawk Oil. Together with three smaller acquisitions that the Company also completed during 1998, the Company's oil business serves over 4,000 residential customers and a large commercial base. While these acquisitions further the Company's transition to a diversified energy provider, the oil business sustained substantial operating losses in 1998 during the first year of operations. These losses were primarily due to lost operating margin from warmer than normal weather, lower than anticipated commercial margins, and the costs associated with liquidating fixed purchase commitments and option contracts for oil when market prices dropped significantly. An increase in sales to customers to be acquired by acquisition, as well as a planned return to typical profit margins are expected to reduce the loss sustained in 1998 so that only a small loss is generated in 1999. More favorable profit margins should be achieved as substantially all sales commitments have been hedged with financial instruments to protect the business from the impact of dramatic price movements. Additionally, management is focusing its marketing efforts on the higher margin residential segment. Page-4 The Company's retail energy marketing subsidiary, ProvEnergy Services, also has substantial growth opportunities as the New England energy markets deregulate. ProvEnergy Services experienced natural gas sales volume growth of 150 percent and a fifteen-fold increase in the number of customers in 1998. ProvEnergy Services expects significant customer growth again in 1999 but forecasts a small operating loss. In May 1998, the Company and Southern Energy, Inc. (Southern) agreed to end their joint efforts to develop a New England retail energy business using ProvEnergy Services, which was doing business under the name Providence- Southern. The Company will continue to use ProvEnergy Services as the vehicle to grow its natural gas, oil and electricity business to retail accounts throughout New England. During 1998, ProvEnergy Services made a successful transition from Southern to other natural gas suppliers, including Duke Energy Trading and Marketing, L.L.C.(DETM) to provide its wholesale natural gas supply. In the future, ProvEnergy Services anticipates the continued availability of competitively priced wholesale energy supplies. Through May 1998, Southern funded 60 percent of the net retail start-up operating expenses incurred by ProvEnergy Services. ProvEnergy Services anticipates growing the business sufficiently to generate only a small operating loss for 1999. In July 1998, the Company and ERI Services, Inc. (ERI Services) formed a joint venture, Capital Center Energy Company, LLC (CCEC). CCEC is owned 50 percent by the Company's subsidiary, ProvEnergy Power Company, LLC, and 50 percent by ERI Services' subsidiary, ERI Providence, LLC. CCEC's wholly-owned subsidiary, DownCity Energy Company, LLC (DownCity Energy), was selected as the exclusive electric, heat and air conditioning (HVAC) and related service provider for most of the Providence Place Mall (the Mall) for the next thirty years. DownCity Energy will serve more than three million square feet of retail stores, common areas, offices and parking facilities in the Mall. Currently, the Mall's three anchor stores and the cinema are not included in the plan. The electric demand to be met by DownCity Energy is expected to be 12 megawatts, the approximate consumption of more than 6,500 households. The system being developed for the Mall includes three on-site natural gas powered electric generators. Under the agreement with Commonwealth Development Group, developers of the Mall, DownCity Energy will perform the following: . Own, operate and maintain the HVAC systems. . Provide electric supply and emergency power. . Own, operate and maintain a six megawatt on-site generation plant to provide electric and emergency supply. . Provide metering services for each of the tenants. . Manage all energy billing to the tenants and the developer. Construction of the energy systems began this summer. The entire energy project will be operational in advance of the scheduled August 1999 opening of the Mall. DownCity Energy did not have a significant impact on the Company's results of operations in 1998. The projected investment in CCEC is $30 million. As of September 30, 1998, the Company had invested $2 million of its total projected investment of $15 million. This contract, the largest of its kind in New England, has the potential to increase the Company's earnings by five percent within five years. C) New Accounting Pronouncements Please refer to Footnote 17 of the accompanying Consolidated Financial Statements. Page-5 RESULTS OF OPERATIONS - 1997 VERSUS 1996 Energy Revenues and Operating Margin During 1997, the Company experienced normal weather as opposed to colder-than- normal weather in 1996, which resulted in 1997 temperatures that were 5.2 percent warmer than 1996. The decrease in heating load due to the warmer temperatures resulted in decreased margin of approximately $1.7 million, which was offset by increased margin of $.7 million as a result of load growth and an increase in the average annual number of customers during 1997 over 1996 of 1,707 or one percent. Primarily as a result of the warmer temperatures experienced in 1997, residential sales decreased 570 million cubic feet (MMcf) or four percent. The Company's commercial and industrial firm sales decreased approximately 1,608 MMcf or 16.6 percent as a result of warmer weather and customer migrations from sales service to transportation service in connection with unbundling natural gas service in Rhode Island. In 1996, approximately 120 of the largest commercial and industrial customers were eligible for unbundled service offerings. In December 1997, an additional 3,400 medium and large commercial and industrial customers were eligible. This migration of customers to transportation did not have a material effect on margin. The decrease due to weather was also offset by increases in margin of $.8 million as a result of the rate increase effective December 17, 1995, and $.4 million as the result of an increase in revenues associated with the phase-in of post-retirement expenses related to Statement of Financial Accounting Standards No. 106. The remaining increase in margin was primarily due to ProvEnergy Services, which was doing business as Providence-Southern, and improved operating efficiencies in the tracking and delivery of gas. Interruptible and other volumes remained consistent with last year. Operating margin from interruptible and other sales did not affect the Company's operating margin or results of operations because the RIPUC required the Company to return any margins earned from these non-firm customers to firm customers through the GCC. Beginning October 1, 1997, under Energize RI discussed in Note 9 to the accompanying Consolidated Financial Statements, the Company will retain all margins earned from these non-firm sales. The Company's transportation volumes increased approximately 1,345 MMcf as the result of the unbundling process described above. As the unbundling process continues, the Company expects transportation revenues and volumes will continue to increase as customers migrate from sales to transportation. Operating and Maintenance Expenses Overall, operating and maintenance expenses have decreased approximately $.3 million or .5 percent versus 1996. The Company had an $.8 million decrease in outside services due to expenditures made in the prior year to develop new energy service offerings as well as expenses related to the IRP. This decrease was offset by an increase in operating expenses of $.7 million from ProvEnergy Services. In addition, the Company's labor increased by $.8 million related to cost of living and negotiated union contract increases. This increase in labor was offset by an increase in capitalized labor and administrative expenses of $.7 million. This increase was the result of increased capital projects in 1997 as well as an increase in expenses allocated to capital projects. The Company also incurred increased post-retirement benefit expenses of $.3 million as the result of the continued phasing of these expenses into the Company's rates in 1997. The remaining decrease of $.6 million relates primarily to cost management. Depreciation and Amortization Depreciation and amortization expense increased approximately $.9 million or 7.3 percent primarily as the result of increased capital additions, including technology related assets with shorter depreciable lives, as well as an increase in depreciation rates that became effective with the rate increase on December 17, 1995. Page-6 Taxes Taxes increased approximately $.7 million or 3.7 percent primarily as the result of increased property taxes due to increased capital spending as well as increased property tax rates in 1997. Other, net Other, net decreased approximately $.9 million. This decrease was the result of increased energy venture costs of approximately $.3 million in 1997. The remainder of the decrease was primarily due to regulatory adjustments of $.9 million in 1996 as the result of the rate decision effective December 17, 1995. This was offset by increases in the allowance for funds used during construction of $.2 million as the result of increased capital spending. Interest Expense Interest expense for 1997 was stable when compared to 1996. Interest expense increased approximately $.1 million primarily as the result of an increase in interest on long-term debt due to the Series R First Mortgage Bond issuance by ProvGas in December 1995. LIQUIDITY AND CAPITAL RESOURCES The Company meets seasonal cash requirements and finances its capital expenditures program on an interim basis through short-term borrowings. Management believes its available financings are sufficient to meet these seasonal needs. During the current year, the Company's cash flow from operations increased approximately $13.7 million compared to the same period last year. This increase was primarily due to the sale of ProvGas' working gas in storage to Duke Energy Trading and Marketing, L.L.C. as well as the impact of Energize RI changes. Capital expenditures for 1998 of $28.6 million increased $7.8 million or 37.2 percent when compared to the $20.9 million last year. As part of Energize RI, ProvGas' spending increased as a result of making significant capital improvements to its distribution system. These improvements will expand the distribution system into economically developing areas of Rhode Island, as well as accelerate the replacement of older mains and services. Additional expenditures relating to ProvGas' decision to move to a client server environment, as well as to computerize existing paper records of its distribution system, have also contributed to this increase. Anticipated capital expenditures during the next two fiscal years are expected to total approximately $58.5 million. To finance capital expenditures, ProvGas issued $15 million of Series S First Mortgage Bonds in April 1998 at 6.82 percent. These bonds require semi-annual interest payments and a lump sum repayment of principal in 20 years. To reduce its long-term borrowing costs, ProvGas repurchased $6.4 million of Series M First Mortgage Bonds in September 1998. The cost to repurchase was comprised of $6.4 million in principal and $1.4 million in premium. ProvGas is planning to issue $15 million in First Mortgage Bonds to cover the cost of the repurchase as well as for general corporate purposes. The future bond issuance is anticipated to be for a 30 year term at an interest rate expected to be less than 7.0 percent. ProvGas estimates savings of approximately $1.8 million over the life of the new debt based on a projected interest rate of 6.75 percent. ProvGas has received an order from the Division which permits the amortization of the bond premium over the life of the new debt. Page-7 HEDGING The Company's strategy is to use financial instruments for hedging purposes to manage the impact of market fluctuations on contractual sales commitments. Two of the Company's wholly-owned subsidiaries, ProvEnergy Oil Enterprises, Inc. (ProvEnergy Oil), and Providence Energy Services, use financial instruments to manage market risks and reduce their exposure to fluctuations in the market prices of home heating oil, diesel, heavy oil and natural gas. At September 30, 1998, ProvEnergy Oil held futures and option contracts with a fair market value of approximately $.2 million. The estimated fair market value of these contracts is based on quoted market prices. The contracts have maturities of one year or less. Net unrealized gains related to these instruments of approximately $.1 million have been deferred on the accompanying Consolidated Balance Sheets as a component of common stockholders' equity at September 30, 1998. During 1998, ProvEnergy Oil incurred approximately $.5 million of costs associated with liquidating fixed purchase commitments and option contracts for oil when market prices dropped. At September 30, 1998, ProvEnergy Services and ProvEnergy Oil held forward purchase commitments for their supply needs with a fair market value of approximately $15.2 million which were acquired at a cost of approximately $15.6 million. The fair market value of these forward contracts is based on quoted market prices and the contracts have maturities of less than two years. YEAR 2000 DISCLOSURE Many companies' software programs and computing infrastructure use two-digit years to define the applicable year, rather than four-digit years, and have time-sensitive software that may recognize a date using "00" as the last two digits of the year 1900, rather than the year 2000. This could result in the computer or embedded hardware shutting down or performing incorrect computations. On July 29, 1998, the Securities and Exchange Commission issued an Interpretation entitled "Disclosure of Year 2000 Issues and Consequences by Public Companies, Investment Advisers, Investment Companies, and Municipal Securities Issuers," requiring extensive detailed reporting and disclosure of a company's progress in addressing the Year 2000 impact. Pursuant to this Interpretation, the Company is providing the following disclosure. Readiness The Company recognizes that the products and services that the Company provides to its customers are essential. The Year 2000 computer problem poses a significant challenge to the Company's ability to continue to provide these products and services. Senior management has made Year 2000 readiness a top priority, and in response to that challenge, has established a Year 2000 Project Office to ensure the continuity of mission critical business systems and processes before and beyond the Year 2000. The Company has hired two international consulting firms to assist the Company in the areas of assessment, strategy, staffing and the selection and execution of a recognized methodology to assess Year 2000 readiness. The Project Office oversees work in the following four areas: 1. Information Technology (IT) Systems The Company continues to implement its technology plan developed in 1992 which includes the migration from a mainframe centric to a client server centric environment. The migration includes the replacement of the Customer Information System (CIS) which supports the business function of customer inquiry, service orders and billing. It also includes the replacement of its business applications such as financial, human resources, and procurement with an Enterprise Resource Planning (ERP) system. These new systems have been represented by the suppliers to be Year 2000 ready. The migration of CIS and ERP, including testing of these new systems, is expected to be completed by June 30, 1999. The Company has completed an inventory of its remaining IT systems and is in the process of assessing these systems. The Company is preparing procurement policies as part of its efforts to ensure Year 2000 readiness for any future changes to its IT systems environment or future acquisitions of IT systems. Page-8 2. Embedded Systems The Company is working with an international management consulting and engineering firm with industry-specific experience to address the Year 2000 readiness of embedded microprocessors deployed in its distribution and facility operations. The distribution area covers, but is not limited to, the monitoring, storage, measurement and control of the flow of natural gas. The facility area covers, but is not limited to, back-up power supply, HVAC and security at the Company's offices. The Company has completed reviewing 99 percent of its embedded components inventory. This inventory has been loaded into the Company's database and has been matched against the consultant's proprietary database to assess which components are Year 2000 ready. The consultant's proprietary database contains important information collected by the consultant through its industry network. To date, the consultant's database immediately identified 69 percent of the components. Ninety-four percent of the identified components were determined to be compliant and six percent were determined to be non-compliant. The components associated with the Company's mission critical systems have been identified in the database, and many of these components are compliant. Remediation planning is underway to address the remaining components. The Company will work closely with the consultants to assess the segment of components that could not be matched or identified in the consultant's proprietary database. This work includes direct follow-up with the manufacturers of those components. This assessment is expected to be completed by December 1998 at which point the Company can better evaluate the impact of any system failure. Remediation and testing of mission critical systems is scheduled to be completed by June 30, 1999 and remediation and testing of all other embedded systems is planned to be completed by September 30, 1999. 3. Upstream/Downstream The Company has developed a communication plan to keep shareholders, customers, employees, and other major constituencies informed about the Company's plans and the state of readiness concerning the Year 2000 computer problem. The Company has developed a plan to address the readiness of its major suppliers which includes a combination of written requests, telephone interviews, and leveraging of customer groups and site visits. The Company is actively participating with the Rhode Island Y2K (Year 2000) Group which acts as a communication forum for key customers as well as the other essential suppliers of services such as: telecommunications, water and electric. The Company expects to have its assessment of its supply chain completed by January 31, 1999. The Company's strategy includes the continual monitoring of any risk areas that surface as a result of that assessment. 4. Contingency Planning The Company has contingency plans in place for response to certain emergency operational situations. The Company also intends to begin developing actionable contingency plans pertinent to the Year 2000 computer problem following substantial completion of the assessment of its systems and third party relationships. Representatives from the Company are participating in industry consortiums related to contingency planning. The planning will factor the results of the risk assessments in the three areas mentioned above, taking into account the major business processes of the Company. The Company expects its Year 2000 contingency plans to be finalized and in place by June 30, 1999. YEAR 2000 COSTS The Company expects to complete its comprehensive budget for all phases of its Year 2000 effort by January 31, 1999. ProvGas will capitalize Year 2000 costs with a five-year amortization period consistent with the regulatory treatment approved by the RIPUC under ProvGas' Energize RI program. As of September 30, 1998, ProvGas has deferred Year 2000 costs of $2.5 million. The Company estimates the cost of the assessment phase of its Year 2000 effort to be less than $1 million. The Company does not yet have a cost estimate applicable to remediation at this time. Page-9 POTENTIAL RISKS The Company must complete its migration to a client server environment and must complete the implementation of CIS and ERP and the upgrade of its System Control and Data Acquisition software application. Although the Company expects to achieve these goals in a timely manner, the Company cannot guarantee these results. A delay in completing these projects or the inability of any of these systems to perform their respective fundamental functions would result in the Company experiencing significant business disruption. The majority of the Company's natural gas supply is delivered over third- party interstate transmission lines from the Gulf coast to Rhode Island. These interstate transmission lines use many compressor stations to move the gas. These compressor stations are controlled and monitored remotely, each station using hundreds of embedded components. If these embedded systems reach critical failure without manual backup, the Company will experience an indeterminate amount of gas supply loss. Although the Company expects the natural gas delivery systems to operate in the Year 2000, the Company cannot guarantee this will occur. If the loss of gas supply exceeds the Company's access to its reserves in storage and its liquefied natural gas capability, the Company will not be able to serve certain customer segments. The Company's inability to serve its customers would result in a loss of revenue and potential claims. COMMON STOCK INFORMATION
Dividend Paid Quarter Ended High Low Per Share - -------------------------- --------- --------- ------------- September 30, 1998 $ 21 3/8 $ 19 1/4 $.27 June 30, 1998 21 1/4 19 1/2 .27 March 31, 1998 22 1/8 20 5/8 .27 December 31, 1997 22 17 11/16 .27 September 30, 1997 $19 11/16 $ 17 1/4 $.27 June 30, 1997 18 3/8 17 1/8 .27 March 31, 1997 20 1/2 16 1/2 .27 December 31, 1996 18 3/4 16 3/4 .27
Page-10 FINANCIAL AND OPERATING STATISTICS - NATURAL GAS DISTRIBUTION For the Years Ended September 30
1998 1997 1996 1995 1994 1993 -------- -------- -------- -------- -------- -------- Natural gas distribution revenue (thousands of dollars): Residential $126,479 $135,259 $128,875 $106,387 $130,888 $120,997 Commercial/ industrial 47,629 66,352 74,625 61,491 76,174 72,974 Firm transportation 7,682 2,251 330 171 - - -------- ------- ------- -------- -------- -------- Total firm 181,790 203,862 203,830 168,049 207,062 193,971 Interruptible and other 5,502 10,299 9,882 14,026 14,471 14,336 Non-firm transportation 792 504 411 633 287 54 Other 650 593 623 1,284 958 954 -------- ------- ------- -------- -------- -------- Total natural gas distribution revenue $188,734 $215,258 $214,746 $183,992 $222,778 $209,315 ======== ======== ======== ======== ======== ======== Gas sold and transported (MMcf): Residential 13,007 13,853 14,423 12,709 14,122 13,783 Commercial/ industrial 5,727 8,086 9,694 8,772 9,360 8,926 Firm transportation 4,223 1,818 379 208 - - -------- ------- ------- -------- -------- -------- Total firm 22,957 23,757 24,496 21,689 23,482 22,709 Interruptible and other 1,409 2,633 2,610 4,950 4,547 3,985 Non-firm transportation 999 907 1,001 1,473 656 386 Company use and other 946 871 1,017 919 1,182 1,187 -------- ------- ------- -------- -------- -------- Total gas sold and transported 26,311 28,168 29,124 29,031 29,867 28,267 Less: off-system sales - 280 412 1,682 2,179 501 -------- ------- ------- -------- -------- -------- Total gas delivered 26,311 27,888 28,712 27,349 27,688 27,766 ======== ======= ======= ======== ======== ======== Gas purchased, produced and transported (MMcf): Pipeline natural gas-contract 21,008 17,328 17,979 16,591 22,880 18,044 Pipeline natural gas-spot purchases - 3,271 5,197 7,935 3,533 7,936 Pipeline natural gas-transportation 5,222 2,725 1,380 1,681 656 386 Underground storage 81 4,163 3,129 2,270 1,697 879 Liquefied natural gas - 681 1,439 554 1,101 1,022 -------- ------- -------- -------- -------- -------- Total gas sold and transported 26,311 28,168 29,124 29,031 29,867 28,267 ======== ======= ====== ======== ======== ======== Average annual number of gas distribution customers: Residential 152,837 151,152 149,487 147,935 145,793 143,771 Commercial/ industrial 15,981 16,656 16,645 16,509 16,337 16,264 Firm transportation 884 50 6 1 - - -------- ------- ------- -------- -------- -------- Total firm 169,702 167,858 166,138 164,445 162,130 160,035 Interruptible and non-firm transportation 123 125 138 142 141 123 -------- ------- ------- -------- -------- -------- Total 169,825 167,983 166,276 164,587 162,271 160,158 ======== ======= ======= ======== ======== ========
Page-11 Total number of gas distribution customers at year-end 168,180 166,535 164,312 163,294 159,375 159,135 ======= ======= ======= ======= ======= ======= Residential heating: Average consumption per customer (Mcf) 101 109 116 103 117 116 Average revenue per customer $ 957 $ 1,043 $ 1,016 $ 844 $ 1,068 $ 1,008 Average rate per Mcf $ 9.51 $ 9.55 $ 8.77 $ 8.19 $ 9.10 $ 8.68 Average annual number of customers 123,023 120,826 118,724 116,826 114,461 112,497 Maximum daily sendout (MMcf) 181 188 189 202 206 185 Actual calendar degree days 5,206 5,657 5,967 5,111 5,977 5,718 Normal calendar degree days 5,652 5,652 5,682 5,709 5,709 5,811
1 Mcf is one thousand cubic feet; 1 MMcf is one million cubic feet. Page-12 SELECTED FINANCIAL DATA - SUMMARY OF OPERATIONS For the Years Ended September 30 (thousands, except per share amounts)
1998 1997 1996 1995 1994 1993 ---- ---- ---- ---- ---- ---- Energy revenues $221,306 $220,420 $215,152 $183,992 $222,778 $209,315 Cost of energy 122,733 124,376 120,246 100,944 135,104 126,314 -------- -------- -------- -------- -------- -------- Operating margin 98,573 96,044 94,906 83,048 87,674 83,001 -------- -------- -------- -------- -------- -------- Other operating expenses, excluding taxes 66,478 61,642 61,030 54,838 55,838 52,921 Taxes, other than income 13,981 13,732 13,007 11,769 12,540 12,597 Federal income taxes 3,628 4,608 4,683 3,104 4,460 3,554 -------- -------- -------- -------- -------- -------- Total operating expenses 84,087 79,982 78,720 69,711 72,838 69,072 -------- -------- -------- -------- -------- -------- Operating income 14,486 16,062 16,186 13,337 14,836 13,929 Other, net 576 (2) 945 865 196 37 -------- -------- -------- -------- -------- -------- Income before interest expense and preferred dividends of subsidiary 15,062 16,060 17,131 14,202 15,032 13,966 Interest expense 8,133 7,603 7,465 7,379 6,247 6,653 -------- -------- -------- -------- -------- -------- Income after interest expense 6,929 8,457 9,666 6,823 8,785 7,313 Preferred dividends of subsidiary (487) (626) (696) (696) (696) (696) -------- -------- -------- -------- -------- -------- Net income 6,442 7,831 8,970 6,127 8,089 6,617 Common dividends 6,377 6,242 6,155 6,062 5,856 4,889 -------- -------- -------- -------- -------- -------- Earnings reinvested in the corporation $ 65 $ 1,589 $ 2,815 $ 65 $ 2,233 $ 1,728 ======== ======== ======== ======== ======== ======== Weighted average common shares outstanding 5,919.7 5,790.1 5,709.2 5,624.2 5,534.1 4,761.8 ======== ======== ======== ======== ======== ======== Net income per common share - basic $ 1.09 $ 1.35 $ 1.57 $ 1.09 $ 1.46 $ 1.39 ======== ======== ======== ======== ======== ======== Net income per common share - diluted $ 1.09 $ 1.35 $ 1.57 $ 1.09 $ 1.46 $ 1.39 ======== ======== ======== ======== ======== ======== Common dividends $ 1.08 $ 1.08 $ 1.08 $ 1.08 $ 1.06 $ 1.02 ======== ======== ======== ======== ======== ========
Page-13 OTHER FINANCIAL DATA September 30 (thousands, except per share amounts)
1998 1997 1996 1995 1994 1993 ---- ---- ---- ---- ---- ---- Total assets $253,410 $255,510 $250,150 $227,127 $233,311 $224,550 Gas plant--at original cost 324,502 300,829 279,849 262,769 239,830 221,769 Gas plant--net of depreciation 202,313 190,307 179,473 169,792 159,012 149,272 Capitalization: Common stockholders' equity 88,234 85,661 82,565 78,524 77,156 73,368 Redeemable cumulative preferred stock 4,800 6,400 8,000 8,000 8,000 8,000 Long-term debt 80,155 72,372 72,456 74,482 60,079 62,163 Shares of common stock at year-end 5,969 5,832 5,748 5,668 5,581 5,486 Book value per share $ 14.78 $ 14.69 $ 14.36 $ 13.85 $ 13.82 $ 13.37 ======= ======= ======= ======= ======= =======
Page-14 CONSOLIDATED BALANCE SHEETS September 30
(thousands of dollars) 1998 1997 - ----------------------------------------------------------------------- ASSETS Gas plant, at original cost (notes 1,4,7, and 9) $324,502 $300,829 Less--Accumulated depreciation and plant acquisition adjustments (notes 1 and 9) 122,007 110,365 -------- -------- 202,495 190,464 -------- -------- Other property, net 2,692 1,182 -------- -------- Current assets: Cash and temporary cash investments (notes 1 and 8) 2,006 1,063 Accounts receivable, less allowance of $2,720 in 1998 and $1,886 in 1997 (notes 1 and 3) 14,067 14,852 Unbilled revenues (note 1) 1,665 2,683 Deferred gas costs (notes 1,7, and 9) - 7,231 Inventories, at average cost- Liquefied natural gas, propane, and under- ground storage 656 18,217 Materials and supplies 1,433 1,287 Prepaid and refundable taxes (note 2) 5,377 4,005 Prepayments 1,853 1,039 -------- -------- 27,057 50,377 -------- -------- Investments (notes 11 and 13) 2,169 - Deferred charges and other assets (notes 1,3,and 6) 18,997 13,487 -------- -------- Total assets $253,410 $255,510 ======== ======== CAPITALIZATION AND LIABILITIES Capitalization (see accompanying statement) $173,254 $164,433 -------- -------- Current liabilities: Notes payable (notes 5 and 8) 20,079 23,675 Current portion of long-term debt (note 4) 3,233 3,707 Accounts payable (notes 6, 7, and 8) 9,325 16,755 Accrued taxes 2,714 2,506 Accrued vacation 1,706 1,715 Customer deposits 3,034 3,461 Other 6,773 5,531 -------- -------- 46,864 57,350 -------- -------- Deferred credits and reserves: Accumulated deferred Federal income taxes (note 2) 22,292 21,495 Unamortized investment tax credits (note 2) 2,217 2,375 Other (notes 6 and 7) 8,783 9,857 -------- -------- 33,292 33,727 -------- -------- Commitments and contingencies (notes 7 and 9) - - Total capitalization and liabilities $253,410 $255,510 ======== ========
The accompanying notes are an integral part of these consolidated financial statements. Page-15 CONSOLIDATED STATEMENTS OF INCOME For the Years Ended September 30
(thousands, except per share amounts) 1998 1997 1996 - --------------------------------------- --------- --------- --------- Energy revenues $221,306 $220,420 $215,152 Cost of energy 122,733 124,376 120,246 -------- -------- -------- Operating margin 98,573 96,044 94,906 -------- -------- -------- Operating expenses: Operation and maintenance 51,993 48,768 49,033 Depreciation and amortization 14,485 12,874 11,997 Taxes: State gross earnings 5,618 6,045 6,063 Local property and other 8,363 7,687 6,944 Federal income (note 2) 3,628 4,608 4,683 -------- -------- -------- Total operating expenses 84,087 79,982 78,720 -------- -------- -------- Operating income 14,486 16,062 16,186 Other, net (note 1, 2, and 16) 576 (2) 945 -------- -------- -------- Income before interest expense and preferred dividends of subsidiary 15,062 16,060 17,131 -------- -------- -------- Interest expense: Long-term debt 6,391 6,042 5,889 Other 1,998 1,786 1,682 Interest capitalized (256) (225) (106) -------- -------- -------- 8,133 7,603 7,465 -------- -------- -------- Income after interest expense 6,929 8,457 9,666 Preferred dividends of subsidiary (note 4) (487) (626) (696) -------- -------- -------- Net income $ 6,442 $ 7,831 $ 8,970 ======== ======== ======== Net income per common share - basic $ 1.09 $ 1.35 $ 1.57 ======== ======== ======== Net income per common share - diluted $ 1.09 $ 1.35 $ 1.57 ======== ======== ======== Weighted average common shares outstanding (note 12): Basic 5,919.7 5,790.1 5,709.2 ======== ======== ======== Diluted 5,929.7 5,794.3 5,712.0 ======== ======== ========
The accompanying notes are an integral part of these consolidated financial statements. Page-16 CONSOLIDATED STATEMENTS OF CASH FLOWS For the Years Ended September 30
(thousands of dollars) 1998 1997 1996 - ---------------------------------------------------- --------- --------- --------- Cash provided by - Operating Activities: Income after interest expense $ 6,929 $ 8,457 $ 9,666 Items not requiring cash: Depreciation and amortization 14,294 12,846 12,012 Changes as a result of regulatory action 1,500 - (1,453) Deferred Federal income taxes 1,131 703 1,943 Loss/(gain) on sale of other property (note 16) 37 - (699) Write-down of other property (note 16) - - 714 Amortization of investment tax credits (158) (158) (158) Changes in assets and liabilities which provided (used) cash: Accounts receivable 21,504 (187) (634) Unbilled revenues 1,018 (326) 298 Deferred gas costs 78 6,041 (12,079) Inventories (169) (2,222) (5,626) Prepaid and refundable taxes (1,646) 14 1,857 Prepayments (800) 501 (174) Accounts payable (3,495) (617) 3,270 Accrued taxes 202 526 (21) Accrued vacation, customer deposits, and other 796 (388) 1,462 Deferred charges and other 383 2,697 1,307 -------- -------- -------- Net cash provided by operating activities 41,604 27,887 11,685 -------- -------- -------- Investment Activities: Expenditures for property, plant and equipment, net (28,632) (20,875) (20,781) Expenditures for business acquistions (note 14) (2,744) - - Investment in joint venture (note 13) (2,000) - - Proceeds from sale of other property (note 16) 698 - 725 Cash paid for financial instruments (104) - - -------- -------- -------- Net cash used in investing activities (32,782) (20,875) (20,056) -------- -------- -------- Financing Activities: Issuance of common stock - 44 31 Proceeds from exercise of stock options 115 34 - Issuance of mortgage bonds 15,000 - 15,000 Repurchase of mortgage bonds (6,363) - - Premium payment on bonds (1,392) - - Redemption of preferred stock (1,600) (1,600) - Issuance of long-term debt - 1,345 - Payments on long-term debt (3,799) (2,164) (1,954) Increase (decrease) in notes payable (4,462) 405 933 Cash dividends on preferred shares (note 4) (487) (626) (696) Cash dividends on common shares (4,891) (4,811) (4,797) -------- -------- -------- Net cash provided (used) by financing activities (7,879) (7,373) 8,517 -------- -------- -------- Increase (decrease) in cash 943 (361) 146 Cash and temporary cash investments at beginning of year 1,063 1,424 1,278 -------- -------- -------- Cash and temporary cash investments at the end of year $ 2,006 $ 1,063 $ 1,424 ======== ======== ========
Page-17 CONSOLIDATED STATEMENTS OF CASH FLOWS For the Years Ended September 30 (continued)
(thousands of dollars) 1998 1997 1996 - ---------------------------------------------------------------------------------------------- Supplemental disclosure of cash flow information: Cash paid during the year for- Interest (net of amount capitalized) $ 7,606 $ 7,476 $ 6,738 Income taxes (net of refunds) $ 3,750 $ 2,036 $ 2,851 Schedule of non-cash investing activities: Capital lease obligations for equipment $ - $ 437 $ - Other long-term debt for equipment $ - $ 1,983 $ -
The accompanying notes are an integral part of these consolidated financial statements. Page-18 CONSOLIDATED STATEMENTS OF CAPITALIZATION September 30
(thousands) 1998 1997 - -------------------------------------------------------------------------------- Common stockholders' investment (notes 4, 6, and 10): Common stock, $1 Par, Authorized - 20,000 shares Outstanding - 5,969 shares in 1998 and 5,832 shares in 1997 $ 5,969 $ 5,832 Amount paid in excess of par 59,198 56,827 Retained earnings 23,067 23,002 -------- -------- Common equity 88,234 85,661 -------- -------- Unrealized gain on financial instruments (note 11) 65 - -------- -------- Cumulative preferred stock of subsidiary (notes 4 and 8): Redeemable 8.7% Series, $100 Par Authorized - 80 shares Outstanding - 48 shares as of 1998 and 64 shares as of 1997 4,800 6,400 -------- -------- Long-term debt (notes 4, 7, and 8): First Mortgage Bonds, secured by property Series M, 10.25%, due July 31, 2008 2,728 10,000 Series N, 9.63%, due May 30, 2020 10,000 10,000 Series O, 8.46%, due September 30, 2022 12,500 12,500 Series P, 8.09%, due September 30, 2022 12,500 12,500 Series Q, 5.62%, due November 30, 2003 9,600 11,200 Series R, 7.50%, due December 30, 2025 15,000 15,000 Series S, 6.82%, due April 1, 2018 15,000 - Other long-term debt 4,890 3,207 Capital leases 1,170 1,672 -------- -------- 83,388 76,079 Less-current portion 3,233 3,707 -------- -------- 80,155 72,372 -------- -------- Total capitalization $173,254 $164,433 ======== ========
The accompanying notes are an integral part of these consolidated financial statements. Page-19 CONSOLIDATED STATEMENTS OF CHANGES IN COMMON STOCKHOLDERS' INVESTMENT For the Three Years Ended September 30
Shares Amount Paid Unrealized Gain Issued and Outstanding In Excess Retained on ---------------------- (thousands) Number Amount of Par Earnings Financial instruments - --------------------------------------------------------------------------------------------------------------- Balance, September 30, 1995 5,668 $5,668 $54,258 $18,598 $ - Add (deduct): Net income - - - 8,970 - Dividends ($1.08 per share) - - - (6,155) - Dividend reinvestment, cash stock purchase plan, and employee benefit plans 80 80 1,309 - - Accrual for stock compensation plans - - (227) - - Amortization of deferred compensation for stock compensation plans - - 64 - - ----- -------- -------- -------- ------- Balance, September 30, 1996 5,748 5,748 55,404 21,413 - Add (deduct): Net income - - - 7,831 - Dividends ($1.08 per share) - - - (6,242) - Dividend reinvestment, cash stock purchase plan, and employee benefit plans 82 82 1,392 - - Exercise of stock options 2 2 32 - - Accrual for stock compensation plan - - (110) - - Amortization of deferred compensation for stock compensation plans - - 109 - - ----- -------- -------- -------- ------- Balance, September 30, 1997 5,832 5,832 56,827 23,002 - Add (deduct): Net income - - - 6,442 - Dividends ($1.08 per share) - - - (6,377) - Dividend reinvestment, cash stock purchase plan, and employee benefit plans 76 76 1,410 - - Exercise of stock options 7 7 108 - - Accrual for stock compensation plan - - (266) - - Amortization of deferred compensation for stock compensation plans - - 163 - - Unrealized gain on financial instruments - - - - 65 Shares issued for acquisition 54 54 956 - - ----- -------- -------- -------- ------- Balance, September 30, 1998 5,969 $ 5,969 $ 59,198 $ 23,067 $ 65 ===== ======== ======== ======== =======
The accompanying notes are an integral part of these consolidated financial statements. Page-20 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SIGNIFICANT ACCOUNTING POLICIES CONSOLIDATION The consolidated financial statements include the accounts of Providence Energy Corporation and its wholly-owned subsidiaries (the Company). Energy revenues from natural gas sales and distribution as well as oil businesses are reflected in the accompanying Consolidated Statements of Income to arrive at operating income. Revenues and expenses of other operations include sales and rentals of appliances as well as real estate rentals and are presented after operating income in the accompanying Consolidated Statements of Income. All significant intercompany transactions have been eliminated in consolidation. The Company accounts for its investment in the Capital Center Energy Company, LLC joint venture under the equity method of accounting. USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS The preparation of financial statements in conformity with Generally Accepted Accounting Principles (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. REGULATION The Providence Gas Company (ProvGas) is subject to regulation by the Rhode Island Public Utilities Commission (RIPUC). North Attleboro Gas Company (North Attleboro Gas) is subject to regulation by the Massachusetts Department of Telecommunications and Energy (MDTE). The accounting policies of ProvGas and North Attleboro Gas conform to GAAP as applied in the case of regulated public utilities and are in accordance with the regulators' accounting requirements and rate-making practices. ENERGY REVENUES Energy revenues are generated principally from natural gas and oil activities. The natural gas distribution companies record accrued natural gas distribution revenues based on estimates of gas volumes delivered but not billed at the end of an accounting period in order to match revenues with related costs. HEDGING Two of the Company's wholly-owned subsidiaries, Providence Energy Oil Enterprises, Inc. (ProvEnergy Oil) and Providence Energy Services, Inc. (ProvEnergy Services), use financial instruments to manage market risks and reduce their exposure to fluctuations in the market prices of home heating oil, diesel, heavy oil and natural gas. The Company's policy is not to hold or issue financial instruments for trading purposes but to utilize such instruments to hedge the impact of market price fluctuations. ProvEnergy Oil's and ProvEnergy Services' financial instruments qualify for hedge accounting. Hedge accounting is used in non-trading activities when there is a high degree of correlation between price movements in the instrument and the item designated as being hedged. Under hedge accounting, financial instruments with third parties are carried at market value with related unrealized gains and losses recorded as adjustments to equity in the Consolidated Statements of Capitalization. Realized gains and losses are recognized in the Consolidated Statements of Income when the hedge transaction occurs. LEASE ACCOUNTING Previously, the Company leased water heaters and other appliances to customers under finance leases. These leases are recorded on the accompanying Consolidated Balance Sheets at the gross investment in the leases less unearned income. Unearned income is recognized in such a manner as to produce a constant periodic rate of return on the net investment in the finance leases. GAS PLANT Gas plant is stated at the original cost of construction. In accordance with the uniform system of accounts prescribed by the RIPUC, the difference between the original cost of gas plant acquired and the cost to ProvGas is recorded as a Plant Acquisition Adjustment and is being amortized over periods ranging from 1 to 24 years. The Company capitalizes the costs of all technology investments with the exception of system maintenance costs unless deferral is approved by regulators. Page-21 IMPAIRMENT OF LONG-LIVED ASSETS Statement of Financial Accounting Standards (SFAS) No. 121 "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of" which became effective for the Company in 1997, established accounting standards for the impairment of long-lived assets. SFAS No. 121 also required that regulatory assets which are no longer probable of recovery through future revenues be charged to earnings. SFAS No. 121 did not have an impact on the Company's financial position or results of operations. DEPRECIATION Depreciation is provided on the straight-line basis at rates approved by the RIPUC and the MDTE which are designed to amortize the cost of depreciable plant over its estimated useful life. The composite depreciation rate expressed as a percentage of the average depreciable gas plant in service was approximately 3.85 percent for 1998, 1997 and 1996. The Company retires property units by charging original cost, cost of removal, including environmental investigation and remediation costs, and salvage value to accumulated depreciation. GAS CHARGE CLAUSES In May 1996, the RIPUC approved a Rate Design Settlement Agreement (the Agreement). The Agreement included changes to ProvGas' gas cost recovery mechanism. Specifically, the Agreement replaced the previous Cost of Gas Adjustment Clause (CGA) with Gas Charge Clauses (GCC) effective June 2, 1996. In addition to the commodity and related pipeline transportation costs historically included in the CGA, the GCC provided for the recovery of: (1) inventory financing costs; (2) working capital associated with gas supply purchases; (3) bad debt expenses associated with the gas revenue portion of customer bills; and (4) a substantial portion of liquefied natural gas operating and maintenance expenses, all of which were previously recovered in base rates. Similar to the former CGA, the GCC provided for reconciliation of total gas costs billed with the actual cost of gas incurred. Any excess or deficiency in amounts billed as compared to costs incurred was deferred and either refunded to, or recovered from, customers over a subsequent period. As a result of the Price Stabilization Plan Settlement Agreement described in Note 9, the GCC will be suspended for the period from October 1, 1997 through September 30, 2000. Any excess or deficiency in amounts billed as compared to costs incurred will be retained or borne by ProvGas during this period. ALLOWANCE FOR FUNDS USED DURING CONSTRUCTION (AFUDC) The Company capitalizes interest and an allowance for equity funds in accordance with established policies of the RIPUC and MDTE. The rates used are based on the actual cost of debt and the allowed equity return. Interest capitalized is shown as a reduction of interest expense and the equity allowance is included in Other, net in the accompanying Consolidated Statements of Income. DEFERRED CHARGES AND OTHER ASSETS The Company defers and amortizes certain costs in a manner consistent with authorized or probable rate-making treatment. Deferred financing costs are amortized over the life of the related security while the remaining deferred regulatory charges and other assets are amortized over a recovery period specified by the respective regulatory commissions. Deferred Charges and Other Assets include the following:
(thousands of dollars) 1998 1997 - ------------------------------------------------------- Pension costs $ 6,401 $ 7,379 Unamortized debt expense 3,204 1,901 Goodwill, net 2,839 106 Year 2000 costs 2,518 - Cost of fuel assistance program 895 808 Post-retirement benefits 346 691 Deferred rate case expense (note 9) 183 164 Deferred costs related to phase-in plan 75 272 Other deferred charges 2,536 2,166 ------- ------- Total $18,997 $13,487 ======= =======
Page-22 TEMPORARY CASH INVESTMENTS Temporary cash investments are short-term, highly liquid investments with original maturities to the Company of not more than 90 days. STOCK-BASED COMPENSATION Compensation expense associated with awards of stock or options to employees is measured using the intrinsic value method of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (See Note 10). INTANGIBLES All intangible assets are amortized on a straight-line basis over their estimated useful lives. The goodwill and customer list amortization periods associated with the recent oil acquisitions are 25 years and 10 years, respectively. RECLASSIFICATIONS Certain prior year amounts have been reclassified for consistent presentation with the current year. 2. FEDERAL INCOME TAXES The Company records income taxes in accordance with the Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes", which requires deferred taxes to be provided for all temporary differences. The following is a summary of the provision for Federal income taxes for the three years in the period ended September 30:
(thousands of dollars) 1998 1997 1996 - ----------------------------------------------------------- Current $2,526 $3,688 $2,989 Deferred 1,131 703 1,943 ------ ------ ------ Total Federal income tax provision $3,657 $4,391 $4,932 ====== ====== ====== Income tax is charged (credited) to the following: Charged to operating expenses $3,628 $4,608 $4,683 Included in other, net 29 (217) 249 ------ ------ ------ Total Federal income tax provision $3,657 $4,391 $4,932 ====== ====== ======
The effective Federal income tax rates and the reasons for their differences from the statutory Federal income tax rates are as follows:
1998 1997 1996 - ----------------------------------------------------------- Statutory Federal income tax rates 34.0% 34.0% 34.0% Reversing temporary differences (.1) (.3) .5 Charitable contribution - - (.4) Amortization of investment tax credits (.5) (.4) (.4) Non-deductible goodwill .3 - - Other .8 .9 .1 ---- ---- ---- Effective Federal income tax rate 34.5% 34.2% 33.8% ==== ==== ====
Page-23 The Company's deferred tax assets and liabilities for each of the two years in the period ended September 30 are the result of the following temporary differences:
(thousands of dollars) 1998 1997 - --------------------------------------------------------------------- LONG-TERM DEFERRED TAXES - ------------------------ Tax assets Unamortized ITC $ 773 $ 828 Other 413 305 Tax liabilities Property related (22,730) (21,828) Pension costs (237) (222) Deferred charges (511) (578) -------- -------- Net deferred tax liability included in in accompanying Consolidated Balance Sheets $(22,292) $(21,495) ======== ======== Prepaid taxes - ------------- Tax assets Accounts receivable reserves $ 970 $ 458 Property tax reserves (136) (229) Alternative minimum tax - 703 Other 949 1,229 Tax liabilities Employee severance 56 56 Other (109) (111) -------- -------- Net prepaid taxes 1,730 2,106 Prepaid gross earnings tax and other 3,647 1,899 -------- -------- Net prepaid and refundable taxes included in accompanying Consolidated Balance Sheets $ 5,377 $ 4,005 ======== ========
Investment tax credits are amortized through credits to other, net over the estimated lives of related property. 3. LEASE RECEIVABLES Previously, the Company financed the installation of water heaters and other appliances for its customers under one to three-year finance agreements. Additionally, the Company leased water heaters and appliances to customers under 10-year sales-type leases.
Future minimum lease payments to be received are: (thousands of dollars) - ------------------------------------------------- 1999 $ 450 2000 450 2001 340 ------ 1,240 Amount representing interest 197 ------ Amount representing principal $1,043 ======
4. CAPITALIZATION A. FIRST MORTGAGE BONDS In December 1995, ProvGas issued $15 million of Series R First Mortgage Bonds. These First Mortgage Bonds bear interest at the rate of 7.5 percent and mature in December 2025. The net proceeds provided by this indebtedness were used to pay down ProvGas' short-term debt. Page-24 In April 1998, ProvGas issued $15 million of Series S First Mortgage Bonds. These First Mortgage Bonds bear interest at the rate of 6.82 percent and mature in April 2018. The net proceeds provided by this indebtedness were used to finance capital expenditures and pay down short-term debt. ProvGas' First Mortgage Bonds are secured by a lien on substantially all of the tangible and real property. As of September 30, 1998, the annual sinking fund requirements and maturities of long-term debt for each of the next five fiscal years are $1,873,000. In September 1998, ProvGas repurchased $6.4 million of Series M First Mortgage Bonds. The cost of repurchase was comprised of $6.4 million in principal and $1.4 million in premium. The premium will be amortized over the life of new debt which ProvGas expects to issue in fiscal 1999. ProvGas has received an order from the RI Division of Public Utilities and Carriers (Division) which permits the amortization of the bond premium over the life of the new debt. The Company's ability to pay dividends is largely dependent on the continuing operations of ProvGas. Approximately $15 million of ProvGas' retained earnings is available for dividends under the most restrictive terms of ProvGas' First Mortgage Bond Indenture. B. OTHER LONG-TERM DEBT During 1997, the Company financed equipment purchases of approximately $3,328,000 through the issuance of long-term notes to IBM Credit Corporation. The notes have five-year terms and interest rates ranging from 4.9 to 7.5 percent. As of September 30, 1998, the maturities of these long-term notes over the next five years are $632,000 in 1999, $670,000 in 2000, $708,000 in 2001, $485,000 in 2002, and $74,000 in 2003. C. REDEEMABLE PREFERRED STOCK ProvGas' preferred stock, which consists of 80,000 shares of $100 par value, has an 8.7 percent cumulative annual dividend rate payable on a quarterly basis, and has no voting power or privileges. The stock is subject to a cumulative annual sinking fund requirement of 16,000 shares per year at par ($1,600,000) plus accrued or unpaid dividends which commenced in February 1997. Accordingly, 16,000 shares were redeemed by ProvGas at par value in February 1998 and 1997, respectively. 5. NOTES PAYABLE The Company meets seasonal cash requirements and finances capital expenditures on an interim basis through short-term bank borrowings. As of September 30, 1998, the Company had lines of credit totaling $68,950,000 with borrowings outstanding of $20,079,000. The Company pays a fee for its lines of credit rather than maintaining compensating balances. The weighted average short-term interest rate for borrowings outstanding at the end of the year was 5.86 percent in 1998, 5.79 percent in 1997, and 5.65 percent in 1996. 6. EMPLOYEE BENEFITS A. RETIREMENT PLANS The Company has two pension plans providing retirement benefits for substantially all of its employees. The benefits under the plans are based on years of service and the employee's final average compensation. It is the Company's policy to fund at least the minimum required contribution. The following table sets forth the funding status of the pension plans and amounts recognized in the Company's Consolidated Balance Sheets at September 30, 1998 and 1997: Page-25
(thousands of dollars) 1998 1997 - -------------------------------------------------------------------------------- Accumulated benefit obligation, including vested benefit obligation of $(46,175) as of September 30, 1998 and $(38,094) as of September 30, 1997 $ (54,986) $ (45,022) ========= ========= Projected benefit obligation for service rendered to date $ (71,540) $ (60,323) Plan assets at fair value (primarily listed stocks, corporate bonds, and U.S. bonds) 74,862 76,479 --------- --------- Excess of plan assets over projected benefit obligation 3,322 16,156 Unrecognized (gain) (9,872) (23,813) Unrecognized prior service cost 2,559 2,842 Unrecognized net transition asset being recognized over 15 years from October 1, 1985 (272) (408) --------- --------- Net accrued pension cost included in other deferred credits and accounts payable at September 30, 1998 and 1997 $ (4,263) $ (5,223) ========= =========
Net pension cost for fiscal years 1998, 1997, and 1996 included the following components:
(thousands of dollars) 1998 1997 1996 - ----------------------------------------------------------------------------------- Service cost $ 1,989 $ 1,824 $ 1,709 Interest cost on benefit obligations 4,904 4,583 4,262 Actual return on plan assets (1,338) (16,458) (7,481) Net amortization and deferral (6,515) 10,526 2,091 ------- -------- -------- Net periodic pension cost (960) 475 581 Adjustments due to regulatory action 960 (475) (442) ------- -------- -------- Net periodic pension cost recognized in earnings $ - $ - $ 139 ======= ======== ========
In 1998, the discount rate and rate of increase in future compensation levels used in determining the projected benefit obligation were 6.75 percent and 5 percent, respectively. The expected long-term rate of return on assets was 9 percent in 1998. In 1997 and 1996, the discount rate and rate of increase in future compensation levels used in determining the projected benefit obligation were 8 percent and 6 percent, respectively. The expected long-term rate of return on assets was 9 percent in 1997 and 1996. ProvGas recovers pension costs in rates when such costs are funded. Therefore, the amount by which funding differs from pension expense, determined in accordance with GAAP, is deferred and recorded as a regulatory asset or liability. B. POST-RETIREMENT BENEFITS OTHER THAN PENSIONS ProvGas currently offers retirees who have attained age 55 and worked five years for ProvGas, healthcare and life insurance benefits during retirement (the Benefit Plan). These benefits are similar to the benefits offered to active employees. Although retirees are not required to make contributions to the Benefit Plan currently, future contributions may be required if the cost of the Benefit Plan exceeds certain limits. Since 1993, post-retirement benefit costs for active employees are recorded by ProvGas on an accrual basis, ratably over their service periods. Benefits of $10,526,000 earned prior to 1993 have been deferred as an unrecognized transition obligation, which ProvGas will amortize over a 20-year period. ProvGas funds its post-retirement benefit obligation by contributions to a Voluntary Employee Benefit Association (VEBA) Trust. Total contributions of $1,308,000 in 1998, $1,372,000 in 1997, and $1,454,000 in 1996, were made to the VEBA Trust. Page-26 ProvGas recovers its post-retirement benefit obligation in rates to the extent allowed by the RIPUC. The RIPUC generally allows such costs to be recovered if amounts are funded into tax favored investment funds, such as the VEBA Trust. Accordingly, ProvGas fully recovered its 1998, 1997, and 1996 post- retirement obligations because such obligations were funded through the VEBA Trust. In addition, in September 1996, the RIPUC approved a ratable recovery of the cumulative unrecovered difference of $1,041,000 during 1997, 1998, and 1999. Of the total post-retirement benefit obligations, $1,654,000, $1,718,000, and $1,454,000 were included in rates during 1998, 1997, and 1996, respectively. The Benefit Plan's costs and accumulated post-retirement benefit obligation for 1998, 1997 and 1996 are calculated by ProvGas' actuaries using assumptions and estimates which include:
1998 1997 1996 - ---------------------------------------------------------------------- Healthcare cost annual growth rate 9.0% 10.2% 11.4% Healthcare cost annual growth rate - long-term 6.0 6.0 6.0 Expected long-term rate of return (union) 8.5 8.5 8.5 Expected long-term rate of return (non-union) 5.5 5.5 5.5 Discount rate 6.75 8.0 8.0
The healthcare cost annual growth rate significantly impacts the estimated Benefit Plan obligation and annual expense. For example, in 1998, a one percent change in the above rates would change the obligation by $773,000 and would change the annual expense by $86,000. The obligations and assets of the Benefit Plan at September 30, 1998 and 1997 are as follows:
(thousands of dollars) 1998 1997 - ---------------------------------------------------------------------- Accumulated post-retirement benefit obligation: Current retirees $ (6,444) $ (6,626) Active employees-eligible for benefits (1,469) (1,361) Active employees (4,973) (3,761) ------- ------- Total post-retirement benefit obligation (12,886) (11,748) Plan assets at fair value 5,684 4,704 ------- ------- Unfunded post-retirement benefit obligation (7,202) (7,044) Unrecognized transition obligation 7,895 8,421 Unrecognized net (gain) or loss (693) (1,360) ------- ------- Prepaid post-retirement benefit obligation included in the accompanying Consolidated Balance Sheets $ - $ 17 ======= =======
ProvGas' actuarially determined Benefit Plan costs for 1998, 1997, and 1996 include the following:
(thousands) 1998 1997 1996 - ------------------------------------------------------------------------------ Service cost $ 243 $ 228 $ 222 Interest cost 945 896 896 Actual return on plan assets (406) (278) (98) Amortization and deferral 526 526 434 -------- -------- ------ Total annual plan costs $ 1,308 $ 1,372 $1,454 ======== ======== ======
C. SUPPLEMENTAL RETIREMENT PLANS ProvGas provides certain supplemental retirement plans for key employees. The projected benefit obligation is approximately $1,837,000 which is being accrued over the service period of these key employees. The supplemental retirement plans are unfunded. ProvGas accrued and expensed $61,000, $612,000, and $310,000 related to these benefits in 1998, 1997, and 1996, respectively. Page-27 D. PERFORMANCE AND EQUITY INCENTIVE PLAN The Providence Energy Corporation Performance and Equity Incentive Plan (the Plan) provides that up to 225,000 shares of common stock, as well as cash awards, may be granted to key employees, including employees of ProvGas, at no cost to the employees. Key employees who received common shares are entitled to receive dividends, but full beneficial ownership vests on the fifth anniversary of the date of the grant provided the participant is still employed by the Company. Vesting may be accelerated under certain circumstances. The Plan also provides for cash compensation to key employees. The executive compensation incentive awards totaled approximately $459,000 for 1998, $439,000 for 1997, and $381,000 for 1996. Amounts paid in cash are charged to expense when earned. However, amounts paid in restricted stock are deferred and amortized to expense over the five-year vesting period. Of the $459,000 1998 award, $310,000 will be paid in cash during 1999. Of the $439,000 1997 award, $297,000 was paid in cash during 1998. Of the $381,000 1996 award, $269,000 was paid in cash during 1997. Grant shares totaling 7,230, 5,989, and 4,491 were purchased by the Company and reissued to key employees during 1998, 1997, and 1996, respectively. E. RESTRICTED STOCK INCENTIVE PLAN The Restricted Stock Incentive Plan provides that up to 60,000 shares of common stock may be granted to employees of the Company with at least three months of service, who are not officers or covered by a collective bargaining agreement, at no cost to the employee. All participants are entitled to receive dividends; however, full beneficial ownership vests on the third anniversary of the date of the grant provided that the participant is still employed by the Company. Vesting may be accelerated under certain circumstances. Awards under the Restricted Stock Incentive Plan totaled approximately $90,000 in 1998 consisting of 4,230 shares and approximately $146,000 in 1996 consisting of 7,954 shares. There were no awards under the Restricted Stock Incentive Plan in 1997. All amounts awarded under the Restricted Stock Incentive Plan are deferred and amortized to expense over a three-year period. F. 1998 PERFORMANCE SHARE PLAN Effective October 1, 1998, the Board of Directors adopted a Performance Share Plan to encourage executives' interest in longer-term performance by keying incentive payouts to the total return performance of the Company's common stock in relation to that of other companies in the E.D. Jones gas distribution group of approximately 30 companies and to the change in the Company's stock price over three-year performance periods. The number of shares earned will range from 50 percent to 150 percent of awarded shares, if based on the relative total shareholder return method, and 50 percent to 100 percent, if based on the increase in the Company's stock price during the three-year period. These levels were developed to bring total compensation levels at the Company more in line with survey data for the relevant labor market. No shares will be earned unless shareholders have earned a minimum annual return over the three-year period equal to the total annual return for thirty-year Treasury notes during such period. Dividends will not be paid on the shares until they are earned. Awards will be paid half in cash and half in stock. 7. COMMITMENTS AND CONTINGENCIES A. LEGAL PROCEEDINGS The Company is involved in legal and administrative proceedings in the normal course of business, including certain proceedings involving material amounts in which claims have been or may be made. However, management believes, after review of insurance coverage and consultation with legal counsel, that the ultimate resolution of the legal proceedings to which it is or can at the present time be reasonably expected to be a party, will not have a materially adverse effect on the Company's results of operations or financial condition. B. CAPITAL LEASES ProvGas has a capital lease with Algonquin Gas Transmission Company (Algonquin) for storage space in a liquefied natural gas (LNG) tank. The capital lease arrangement also provides that Algonquin lease from ProvGas, for a corresponding term at an annual amount of $150,000, the land on which the tank is situated. ProvGas also leases certain information systems and other equipment under capital leases. Page-28 Property under Capital Leases: - -----------------------------
(thousands of dollars) 1998 1997 - ------------------------------------------------------------ Gas Plant $ 6,116 $ 6,116 Computer and other equipment 1,988 1,988 Accumulated depreciation (6,937) (6,484) ------- ------- $ 1,167 $ 1,620 ======= ======= Commitments for Capital Leases are: - ---------------------------------- LNG Computer (thousands of dollars) Storage Equipment Total - ---------------------------------------------------------------- 1999 $ 136 $ 484 $ 620 2000 136 297 433 2001 135 111 246 2002 - 35 35 ------ ------- ------- $ 407 $ 927 $ 1,334 ====== ======= =======
C. OPERATING LEASES The Company also leases facilities and equipment under operating leases with a total future obligation of approximately $578,000 as of September 30, 1998. D. GAS SUPPLY As part of the Price Stabilization Plan Settlement Agreement described in Note 9, the Company's largest subsidiary, ProvGas, entered into a full requirements gas supply contract with Duke Energy Trading and Marketing, L.L.C. (DETM) for a term of three years. Under the contract, DETM guarantees to meet ProvGas' supply requirements; however, ProvGas must purchase all of its gas supply exclusively from DETM. Under the contract, ProvGas transferred responsibility for its pipeline capacity resources, storage contracts, and LNG capacity to DETM. As a result, ProvGas' gas inventories of approximately $18 million at September 30, 1997 were sold at book value to DETM on October 1, 1997. As a result of Federal Energy Regulatory Commission (FERC) Order 636 and other related orders (the Orders), pipeline transportation companies have incurred significant costs, collectively known as transition costs. The majority of these costs will be reimbursed by the pipeline's customers, including ProvGas. ProvGas estimates its transition costs to be approximately $21.7 million, of which $16.2 million has been included in the GCC and collected from customers through September 30, 1997. At September 30, 1997, the remaining minimum obligation of $5.5 million has been recorded in the accompanying Consolidated Balance Sheets along with a regulatory asset anticipating future recovery. As part of the above supply contract, DETM assumed liability for these transition costs during the contract's three-year term. At the end of the three- year term of the contract, the Company will assume any remaining liability, which is not expected to be material. E. ENVIRONMENTAL MATTERS Federal, state and local laws and regulations establishing standards and requirements for the protection of the environment have increased in number and in scope within recent years. The Company cannot predict the future impact of such standards and requirements, which are subject to change and can take effect retroactively. The Company continues to monitor the status of these laws and regulations. Such monitoring involves the review of past activities and current operations, and may include expending funds to investigate or clean up certain sites. To the best of its knowledge, subject to the following, the Company believes it is in substantial compliance with such laws and regulations. At September 30, 1998, the Company was aware of five sites at which future costs may be incurred. Page-29 The Company has been designated as a potentially responsible party (PRP) under the Comprehensive Environmental Response Compensation and Liability Act of 1980 at two sites in Plympton, Massachusetts on which waste material is alleged to have been deposited by disposal contractors employed in the past either directly or indirectly by the Company and other PRPs. With respect to one of the Plympton sites, the Company has joined with other PRPs in entering into an Administrative Consent Order with the Massachusetts Department of Environmental Protection. The costs to be borne by the Company, in connection with both Plympton sites, are not anticipated to be material to the financial condition of the Company. During 1995, the Company began a study at its primary gas distribution facility located in Providence, Rhode Island. This site formerly contained a manufactured gas plant operated by the Company. As of September 30, 1998, approximately $2.0 million had been spent primarily on studies at this site. In accordance with state laws, such a study is monitored by the Rhode Island Department of Environmental Management (DEM). The purpose of this study was to determine the extent of environmental contamination at the site. The Company has completed the study which indicated that remediation will be required for two- thirds of the property. The remediation is expected to begin in February 1999 and will continue for a duration of three to six months. During the remediation process, the remaining one-third of the property will also be investigated and remediated if necessary. At September 30, 1998, the Company compiled a preliminary range of costs, based on removal and off-site disposal or recycling of contaminated soil, ranging from $1.8 million to in excess of $5.0 million. However, because of the uncertainties associated with environmental assessment and remediation activities, the future cost of remediation could be higher than the range noted. Based on the proposals for remediation work, the Company has accrued $1.8 million at September 30, 1998, for anticipated future remediation costs at this site. Tests conducted following the discovery of an abandoned underground oil storage tank at the Company's Westerly, Rhode Island operations center in 1996 confirmed the existence of contaminants at this site. The Company is currently conducting tests at this site, the costs of which are being shared equally with the prior owner, to determine the nature and extent of the contamination. Due to the early stages of investigation, management cannot offer any conclusions as to whether any remediation will be required at this site. In addition, in 1997, contamination from scrapped meters and regulators was discovered at this site. The Company has reported this to DEM and the Rhode Island Department of Health and is in the process of remediation. It is anticipated that remediation will cost approximately $10,000. Accordingly, the Company has accrued $10,000 at September 30, 1998 for anticipated future remediation costs. In November 1998, the Company received a letter of responsibility from DEM relating to possible contamination on previously-owned property on Allens Avenue in Providence. The current owner of the property has been similarly notified. The Company lacks sufficient information at this time to determine the validity of the claim, the amount of the clean-up costs or any defenses which may be available with respect to such claim. In prior rate cases filed with the RIPUC, ProvGas requested that environmental investigation and remediation costs be recovered by inclusion in its depreciation factors consistent with the rate recovery treatment for all types of cost of removal. Due to the magnitude of ProvGas' environmental investigation and remediation expenditures, ProvGas sought current recovery for these amounts. As a result, in accordance with the Price Stabilization Plan Settlement Agreement described in Note 9, effective October 1, 1997, all environmental investigation and remediation costs incurred through September 30, 1997, as well as all costs incurred during the three-year term of the Plan, will be amortized over a ten-year period. Additionally, it is ProvGas' practice to consult with the RIPUC on a periodic basis when, in management's opinion, significant amounts might be expended for environmental-related costs. As of September 30, 1998, ProvGas has charged environmental assessment and remediation costs of $2.6 million and an estimated $1.8 million to the accumulated depreciation reserve and has amortized $.4 million of these costs. Management has begun discussions with other parties who may assist ProvGas in paying any future costs at the above sites. Management believes that its program for managing environmental issues, combined with rate recovery and financial contributions from others, will likely avoid any material adverse effect on its results of operations or its financial condition as a result of the ultimate resolution of the above sites. Page-30 F. PURCHASE COMMITMENTS At September 30, 1998, ProvEnergy Services and ProvEnergy Oil have forward purchase commitments for their supply needs with a market value of approximately $15.2 million. These contracts were acquired at a cost of approximately $15.6 million and have maturities of less than two years. All financial instruments held by the Company qualify as hedges due to either anticipated sales contracts or firm sales commitments. 8. FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used to estimate the fair value disclosures for the following financial instruments: Cash, Cash Equivalents, Accounts Payable and Short-term Debt - ------------------------------------------------------------ The carrying amount approximates fair value due to the short-term maturity of these instruments. Financial Instruments for Hedging - --------------------------------- The fair value of financial instruments for hedging are the same as the carrying amount as these instruments were marked to market at September 30, 1998. Long-term Debt and Preferred Stock - ---------------------------------- The fair value of long-term debt and preferred stock is estimated based on currently quoted market prices for similar types of issues. The carrying amounts and estimated fair values of the Company's financial instruments at September 30 are as follows:
1998 1997 ----------------- ------------------- Carrying Fair Carrying Fair (thousands of dollars) Amount Value Amount Value - -------------------------------------------- ------------------- Cash and cash equivalents $ 2,006 $ 2,006 $ 1,063 $ 1,063 financial instruments for hedging 169 169 - - Accounts payable 9,325 9,325 16,755 16,755 Short-term debt 20,079 20,079 23,675 23,675 Long-term debt 83,388 96,024 76,079 84,039 Preferred stock 4,800 5,040 6,400 7,030
The difference between the carrying amount and the fair value of ProvGas' preferred stock and long-term debt, if they were settled at amounts reflected above, would likely be recovered in ProvGas' rates over a prescribed amortization period. Accordingly, any settlement should not result in a material impact on ProvGas' financial position or results of operations. 9. RATE CHANGES A. PRICE STABILIZATION PLAN SETTLEMENT AGREEMENT In August 1997, the RIPUC approved the Price Stabilization Plan Settlement Agreement (Energize RI or the Plan) among ProvGas, the Division, the Energy Council of Rhode Island, and the George Wiley Center. Effective for the period from October 1, 1997 to September 30, 2000, Energize RI provides customers with a price decrease of approximately four percent in addition to a three-year price freeze. Under Energize RI, the GCC will be suspended for the entire term. Energize RI also requires ProvGas to make significant capital investments to improve its distribution system. Capital investments required by Energize RI are estimated to total approximately $26 million over its three-year term. In addition, Energize RI requires ProvGas to fund the Low-Income Assistance Program at an annual level of $1 million, the Demand Side Management Rebate Program at an annual level of $.5 million and the Low-Income Weatherization Program at an annual level of $.2 million. Energize RI also continues the process of unbundling by requiring ProvGas to provide unbundled service offerings up to 10 percent per year of firm deliveries. Page-31 As part of Energize RI, ProvGas will amortize approximately $4.0 million of environmental costs previously charged to the accumulated depreciation reserve. These costs and all environmental costs incurred during the term of the Plan will be amortized over a 10-year period. Also, in connection with the Plan, ProvGas wrote-off approximately $1.5 million of previously deferred gas costs in October 1997. Under Energize RI, ProvGas may earn up to 10.9 percent annually on its average common equity of up to $81.0 million, $86.2 million, and $92.0 million in fiscal 1998, 1999, and 2000, respectively. In addition, ProvGas may not earn less than a seven percent return on average common equity. In the event that ProvGas earns in excess of 10.9 percent or less than seven percent, ProvGas will defer revenues or costs through a deferred revenue account over the term of the Plan. Any balance in the deferred revenue account at the end of the Plan will be refunded to or recovered from customers in a manner to be determined by all parties to the Plan and approved by the RIPUC. As part of Energize RI, ProvGas is permitted to file with the Division for the recovery of the impact of exogenous Changes (Changes) which may occur during the three-year term of the Plan. Changes are defined as "...significant increases or decreases in ProvGas' costs or revenues which are beyond ProvGas' reasonable control." Any disputes regarding either the nature or quantification of the Changes are to be resolved by the RIPUC. The impact of any such Changes will be debited or credited to a regulatory asset or liability account throughout the term of Energize RI and will be recovered or refunded at the expiration of the Plan through a method to be determined. During 1998, due to the extremely warm temperatures, ProvGas experienced a margin loss of approximately $4.0 million. ProvGas also experienced a non-firm margin loss of approximately $2.2 million due to adverse market prices of natural gas versus alternate fuels. ProvGas believes the causes of these two events were beyond its control and thus considers them as Changes. In fiscal 1999, ProvGas intends to file with the Division for recovery of a portion of these losses. In 1998, ProvGas did not earn its allowed rate of return primarily as a result of the extremely warm weather and the loss of non-firm margin as previously discussed in "Operating Margin" in the Management's Discussion and Analysis of Financial Condition and Results of Operations. Under the Plan's design, which assumed normal weather, ProvGas should have had earnings in year one of the Plan in excess of 10.9 percent. The earnings in excess of 10.9 percent were to be deferred in the deferred revenue account to fund capital investments and other Plan commitments in the remaining two years of the Plan. Absent favorable recovery for the Changes as discussed above and/or other factors such as colder than normal weather, ProvGas' ability to earn a 10.9 percent return on average common equity in future years of the Plan is substantially impaired. B. NORTH ATTLEBORO GAS RATE INCREASE In October 1991, the MDTE released its settlement order in regards to a rate request which included a qualified phase-in plan. The rate settlement required North Attleboro Gas to classify $545,000 of gas plant as plant held for future use. This plant will be included in future rates if North Attleboro Gas meets certain growth requirements by the year 2000. North Attleboro Gas capitalized AFUDC and other costs of approximately $18,000 in 1998, $37,000 in 1997, and $61,000 in 1996 that related primarily to the gas plant not yet phased into North Attleboro Gas' rates under the plan. North Attleboro Gas amortized $214,000 in 1998, $214,000 in 1997, and $212,000 in 1996 of amounts previously deferred. 10. STOCK RIGHTS AND OPTIONS Currently, one common stock purchase Right (Right) is attached to each outstanding share of common stock. Each Right entitles the holder to purchase one share of common stock at a price of $70 per share, subject to adjustment. In the event that certain transactions as defined in the Rights Agreement occur, each Right will become exercisable for that number of shares of common stock of the acquiring company (or of the Company in certain circumstances) which at the time of the transaction has a market value of two times the exercisable price. These Rights expire on August 17, 2008 and may be redeemed by a vote of the directors at a redemption price of $.01 per Right. Due to the antidilutive characteristics of these Rights, there is no assumed impact on earnings per share. Page-32 The Company offers two stock option plans for officers, directors, and key employees covering 250,000 shares of the Company's common stock. Options under the plans are granted at an exercise price equal to fair market value at the date of grant. The options expire 10 years from the date of grant and in the case of options granted to the directors, the options become exercisable after the first anniversary of the date of such grant. Pursuant to the provisions of the plans, each plan terminated on November 3, 1998 which was 10 years from the effective date of the plan. Any options outstanding under either of the plans shall remain in effect according to the plans' terms and conditions. Under the stock option plans, stock appreciation rights may be granted in conjunction with all or part of any stock option grants to employees. Such Rights offer optionees the alternative of electing not to exercise the related stock option, but to receive instead an amount in cash, stock or a combination of cash and stock equivalents for the difference between the option price and the fair market value of the share. In connection with the purchase of the oil distribution companies, the Company issued an option to purchase 100,000 shares of its common stock to a former owner. Stock option data are summarized as follows for the years ended September 30, 1998, 1997, and 1996:
Weighted Number Average of Shares Exercise Price - -------------------------------------------------------------------------------------- Outstanding, September 30, 1995 54,789 $16.74 Granted 7,449 17.00 Exercised - - Expired - - -------- ------ Outstanding, September 30, 1996 62,238 16.77 Granted 9,319 17.50 Exercised (2,130) 16.11 Expired (10,009) 17.71 -------- ------ Outstanding, September 30, 1997 59,418 16.75 Granted 100,000 23.00 Exercised (6,852) 16.79 Expired - - -------- ------ Outstanding, September 30, 1998 152,566 $20.85 ======== ======
The following table sets forth information regarding options outstanding at September 30, 1998: Number of Options 152,566 Range of Exercise Prices $13.875 - $23 Number Currently Exercisable 152,566 Weighted Average Exercise Price $20.85 Weighted Average Remaining Life 4.20 years Weighted Average Exercise Price for Currently Exercisable $20.85
At September 30, 1997 and 1996, 50,927 and 54,789 were currently exercisable, respectively. As described in Note 1, the Company uses the intrinsic method to measure compensation expense associated with grants of stock options or awards to employees. Had the Company used the fair value method to measure compensation, reported net income would have been $6,396,000 in 1998 and $7,822,000 in 1997. Earnings per share for fiscal year 1998 would have been $1.08. Earnings per share for fiscal 1997 would not have been affected. Page-33 For purposes of determining the above disclosure required by Statement of Financial Accounting Standards No. 123, the fair value of options on their grant date was measured using the Black-Scholes option pricing model. Key assumptions used to apply this pricing model were as follows:
1998 1997 ----- ----- Risk-free interest rate 5.01% 5.43% Expected life of option grants (years) 4.0 7.0 Expected volatility of underlying stock 15% 15%
The pro-forma presentation only includes the effects of grants made subsequent to October 1, 1996. The estimated fair value of option grants made during 1998 and 1997 was $.70 and $1.41, respectively, per option. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. In January 1997, the shareholders of the Company adopted the Non-Employee Director Stock Plan, which provides that up to 50,000 shares of common stock may be granted to non-employee directors. The shares are granted, at no cost to the director, on the first day of each fiscal year based on each director's aggregate fees earned in the prior fiscal year. All participants are entitled to vote the grant shares and receive dividends on the grant share, however, full beneficial ownership vests on the third anniversary of the grant date provided the participant is still a director of the Company. Vesting may be accelerated under certain circumstances. The Company issued 2,131 shares under the Non- Employee Director Stock Plan in 1998. 11. HEDGING The Company's strategy is to use financial instruments for hedging purposes to manage the impact of market fluctuations on contractual sales commitments. Two of the Company's wholly-owned subsidiaries, ProvEnergy Services and ProvEnergy Oil, use financial instruments to manage market risks and reduce their exposure to fluctuations in the market prices of home heating oil, diesel, kerosene and natural gas. The futures and option contracts had net unrealized gains of approximately $.1 million which have been deferred on the accompanying Consolidated Balance Sheets at September 30, 1998. At September 30, 1998, the estimated fair market value of the forward contracts totaled approximately $15.2 million and were acquired at a cost of approximately $15.6 million. The fair market value of these forward contracts is based on quoted market prices and the contracts have maturities of less than two years. 12. NET INCOME PER COMMON SHARE During 1998, the Company adopted the provisions of SFAS No. 128 "Earnings Per Share". Under the provisions of SFAS 128, basic earnings per share replaces primary earnings per share and the dilutive effect of stock options are excluded from the calculation. Fully diluted earnings per share are replaced by diluted earnings per share and include the dilutive effect of stock options and warrants, using the treasury stock method. All prior period earnings per share data have been restated to conform to the requirements of SFAS No. 128. A reconciliation of the weighted average number of shares outstanding used in the computation of basic and diluted earnings per share for the three years ended September 30, 1998 is as follows: Page-34
1998 1997 1996 --------- --------- --------- Weighted average shares 5,919,699 5,790,087 5,709,198 Effect of dilutive stock options 9,963 4,260 2,773 --------- --------- --------- Weighted average shares diluted 5,929,662 5,794,347 5,711,971 ========= ========= =========
The net income used in the calculation for basic and diluted earnings per share calculations agrees with the net income appearing in the consolidated financial statements. 13. INVESTMENTS In July 1998, the Company and ERI Services, Inc agreed to form Capital Center Energy Company, LLC (CCEC). The joint venture is owned 50 percent by the Company's subsidiary, ProvEnergy Power Company, LLC and 50 percent by ERI Services' subsidiary, ERI Providence, LLC. CCEC's wholly-owned subsidiary DownCity Energy Company, LLC, was selected as the exclusive electric, heat, air conditioning and related service provider for most of the Providence Place Mall for the next thirty years. The Company had invested $2 million of its total projected investment of $15 million at September 30, 1998. 14. ACQUISITIONS In November 1997, the Company acquired all of the outstanding capital stock of the Super Service Companies. These companies provide a full service distribution of oil products, selling fuel oil, diesel, gasoline and lubricants. Also, in November 1997, the Company acquired all of the assets of the Mohawk Companies. Mohawk Oil Company is a full service oil company. In addition to its oil business, Mohawk installs and services air conditioning and heating equipment through its affiliate, Mohawk Environmental Technologies. The amounts related to the purchases of these companies are not material to the financial position of the Company. These acquisitions have been accounted for as purchases and, accordingly, operating results of these businesses subsequent to the date of acquisition have been consolidated in the financial statements of the Company. Pro-forma results of operations, which include the operating results of these acquisitions, are not materially different than the operating results presented. During 1998, the Company purchased the customer lists of three small oil companies servicing the greater Providence area. Together, these acquisitions are part of the Company's vision to be the "First Choice" energy provider. The Company believes these acquisitions will offer a valuable entry into the heating-oil business market. The Company continues to assess the energy market for potential acquisitions to fulfill its vision. 15. SEGMENTS OF BUSINESS Information about the Company's operations in different industry segments is presented below:
(thousands of dollars) 1998 1997 1996 - ------------------------------------------------------------ ENERGY REVENUES - --------------- Natural gas distribution $188,734 $215,258 $214,745 Energy services 32,572 5,162 407 -------- -------- -------- Total $221,306 $220,420 $215,152 ======== ======== ======== OPERATING INCOME (LOSS) - ----------------------- Natural gas distribution $ 16,060 $ 16,336 $ 16,212 Energy services (1,574) (274) (26) -------- -------- -------- Total $ 14,486 $ 16,062 $ 16,186 ======== ======== ========
Page-35
(thousands of dollars) 1998 1997 1996 - --------------------------------------------------------------- IDENTIFIABLE ASSETS - ------------------- Natural gas distribution $238,515 $251,759 $247,026 Energy services 13,148 2,879 1,981 General corporate 1,747 872 1,143 -------- -------- -------- Total $253,410 $255,510 $250,150 ======== ======== ======== ADDITIONS TO PROPERTY, PLANT - ---------------------------- & EQUIPMENT, NET - ---------------- Natural gas distribution $ 28,265 $ 20,785 $ 20,781 Energy services 367 90 - -------- -------- -------- Total $ 28,632 $ 20,875 $ 20,781 ======== ======== ======== DEPRECIATION AND AMORTIZATION - ----------------------------- Natural gas distribution $ 13,962 $ 12,869 $ 11,997 Energy services 523 5 - -------- -------- -------- Total $ 14,485 $ 12,874 $ 11,997 ======== ======== ========
Natural gas distribution consists primarily of natural gas sales and distribution to residential, commercial and industrial customers. Energy services consists of heating oil, motor oil, and gas commodity sales to residential, commercial and industrial customers. Total energy revenues by industry segment consist of unaffiliated customers, as reported in the Company's Statements of Consolidated Income. Operating income is total revenues less operating expenses and Federal income taxes, as shown on the Statements of Consolidated Income. Included in operating income is $.5 million of costs associated with liquidating fixed purchase commitments and option contracts for oil when market prices dropped significantly. Identifiable assets are those assets that are used in each segment of the Company's operations. Corporate assets consists primarily of the Company's equity investment in CCEC (See Note 13). 16. OTHER PROPERTY During 1996, the Company sold land which was previously being rented to a third party for use as a parking lot. The land was sold for $.7 million generating a gain, net of taxes, of $.5 million. Additionally, in accordance with SFAS No. 5, "Accounting for Contingencies", the Company performed an economic analysis of the value of its significant real estate in 1996. Based on the results of that analysis, the Company wrote down the carrying value of its real estate by $.5 million, net of taxes, due to a decline in real estate prices. 17. NEW ACCOUNTING PRONOUNCEMENTS Effective October 1, 1997, the Company adopted the provisions of Statement of Position (SOP) 96-1, "Environmental Remediation Liabilities". This Statement provides authoritative guidance for recognition, measurement, display and disclosure of environmental remediation liabilities in financial statements. The Company has recorded environmental remediation liabilities of approximately $1.8 million at September 30, 1998. SOP 96-1 did not have an impact on the Company's financial position or results of operations upon adoption. Also see Note 7E "Environmental Matters". In June 1997, the Financial Accounting Standards Board (FASB) issued SFAS No. 130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information". SFAS No. 130, which is effective for the Company's fiscal year ending September 30, 1999, requires that an enterprise (a) classify items of other comprehensive income by their nature in a financial statement and (b) display the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in capital in the equity section of a statement of financial position. SFAS No. 131, which is effective for the Company's fiscal year ending September 30, 1999, requires that a public business enterprise report financial and descriptive information about its reportable operating segments. These statements require additional disclosure only and will not affect the financial position or results of operations of the Company. Page-36 In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". This Statement establishes accounting and reporting standards requiring that every derivative instrument (including certain derivative instruments embedded in other contracts) be recorded on the balance sheet as either an asset or liability measured at its fair value. SFAS No. 133 requires that changes in the derivative's fair value be recognized currently in earnings unless specific hedge accounting criteria are met. Special accounting for qualifying hedges allows a derivative's gains and losses to offset related results on the hedged item in the income statement, and requires that a company must formally document, designate, and assess the effectiveness of transactions that receive hedge accounting. SFAS No. 133 is effective for the Company's fiscal year ending September 30, 2000. A company may also implement the Statement as of the beginning of any fiscal quarter after issuance (that is, fiscal quarters beginning June 16, 1998 and thereafter). SFAS No. 133 cannot be applied retroactively. SFAS No. 133 must be applied to (a) derivative instruments and (b) certain derivative instruments embedded in hybrid contracts that were issued, acquired, or substantively modified after December 31, 1997 (and, at a company's election, before January 1, 1998). The Company has not yet quantified the impact of adopting SFAS No. 133 on the financial statements and has not determined the timing of or method of adoption of SFAS No. 133. In March 1998, the American Institute of Certified Public Accountants issued SOP 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use". It applies to all nongovernmental entities and is effective for the Company's financial statements for fiscal year ending September 30, 2000. The provisions of this SOP should be applied to internal-use software costs incurred in fiscal years subsequent to December 15, 1998 for all projects, including those projects in progress upon initial application of the SOP. The SOP establishes accounting standards for the determination of capital or expense treatment of expenditures for computer software developed or obtained for internal use based upon the stage of development. The SOP defines three stages as (1) Preliminary Project, (2) Application Development and (3) Post-Implementation/Operation. As a general rule, the Preliminary Project and Post-Implementation/Operation phase expenditures are expensed and Application Development expenditures are capitalized. The Company will adopt the SOP upon the effective date and assess its impact at that time. 18. UNAUDITED QUARTERLY FINANCIAL INFORMATION The following is unaudited quarterly financial information for the two years ended September 30, 1998 and 1997. Quarterly variations between periods are caused primarily by the seasonal nature of energy sales and the availability of energy products.
(thousands, except Quarter Ended per share amounts) Dec. 31 Mar. 31 June 30 Sept. 30 ------------------------------------------ Fiscal 1998 - --------------------------------------------------------------------- Energy revenues $67,942 $87,796 $39,462 $26,106 Operating income (loss) 6,371 11,559 113 (3,557) Net income (loss) 4,403 9,535 (1,843) (5,653) Net income (loss) per share* .75 1.61 (.31) (.96) Fiscal 1997 - --------------------------------------------------------------------- Energy revenues $64,038 $79,946 $42,921 $33,515 Operating income (loss) 6,355 8,782 2,210 (1,285) Net income (loss) 4,264 6,737 135 (3,305) Net income (loss) per share* .74 1.17 .02 (.58)
* Calculated on the basis of the weighted average shares outstanding during the quarter. Page-37 EX-21 5 SUBSIDIARIES OF THE REGISTRANT EXHIBIT 21 Exhibit 21. SUBSIDIARIES OF THE REGISTRANT - ------------------------------------------- The Providence Gas Company - Incorporated under the laws of Rhode Island. Newport America Corporation - Incorporated under the laws of Rhode Island. Providence Energy Services, Inc. - Incorporated under the laws of Rhode Island. North Attleboro Gas Company - Incorporated under the laws of Massachusetts. Providence Energy Oil Enterprises, Inc. - Incorporated under the laws of Rhode Island. ProvEnergy Power Company, LLC - Organized under the laws of Rhode Island. EX-27 6 FINANCIAL DATA SCHEDULE
UT 1,000 YEAR SEP-30-1998 OCT-01-1997 SEP-30-1998 PER-BOOK 202,495 2,692 27,057 18,997 2,169 253,410 5,969 59,198 23,067 88,234 0 4,800 80,155 20,079 0 0 3,233 0 0 0 56,909 253,410 221,306 3,628 203,192 206,820 14,486 576 15,062 8,133 6,929 487 6,442 6,377 6,391 41,604 1.09 1.09
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