UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[..X..] Quarterly report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
June 30, 2004
For the quarterly period ended.......................................
Or
[.....] Transition report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the transition period from ________________ to _________________
Commission Name of Registrant, State of IRS Employer
File Incorporation, Address and Identification
Number Telephone Number Number
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1-40 Pacific Enterprises 94-0743670
(A California Corporation)
101 Ash Street
San Diego, California 92101
(619) 696-2020
1-1402 Southern California Gas Company 95-1240705
(A California Corporation)
555 West Fifth Street
Los Angeles, California 90013
(213) 244-1200
No Change
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Former name, former address and former fiscal year, if changed since
last report
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Sections 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such
shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past
90 days.
Yes...X... No.......
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act).
Yes....... No..X....
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Common Stock outstanding:
Pacific Enterprises Wholly owned by Sempra Energy
Southern California Gas Company Wholly owned by Pacific Enterprises
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INFORMATION REGARDING FORWARD-LOOKING STATEMENTS
This Quarterly Report contains statements that are not historical fact
and constitute forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. The words
"estimates," "believes," "expects," "anticipates," "plans," "intends,"
"may," "could," "would" and "should" or similar expressions, or
discussions of strategy or of plans are intended to identify forward-
looking statements. Forward-looking statements are not guarantees of
performance. They involve risks, uncertainties and assumptions. Future
results may differ materially from those expressed in these forward-
looking statements.
Forward-looking statements are necessarily based upon various
assumptions involving judgments with respect to the future and other
risks, including, among others, local, regional and national economic,
competitive, political, legislative and regulatory conditions and
developments; actions by the California Public Utilities Commission,
the California Legislature, and the Federal Energy Regulatory
Commission; capital market conditions, inflation rates, interest rates
and exchange rates; energy and trading markets, including the timing
and extent of changes in commodity prices; weather conditions and
conservation efforts; war and terrorist attacks; business, regulatory
and legal decisions; the status of deregulation of retail natural gas
and electricity delivery; the timing and success of business
development efforts; and other uncertainties, all of which are
difficult to predict and many of which are beyond the control of the
companies. Readers are cautioned not to rely unduly on any forward-
looking statements and are urged to review and consider carefully the
risks, uncertainties and other factors which affect the companies'
business described in this report and other reports filed by the
companies from time to time with the Securities and Exchange
Commission.
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PART I FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
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13 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1. GENERAL This Quarterly Report on Form 10-Q is that of Pacific Enterprises (PE) and of Southern California Gas Company (SoCalGas)(collectively referred to as the company or the companies). PE's common stock is wholly owned by Sempra Energy, a California-based Fortune 500 holding company, and PE owns all of the common stock of SoCalGas. The financial statements herein are, in one case, the Consolidated Financial Statements of PE and its subsidiary SoCalGas, and, in the second case, the Consolidated Financial Statements of SoCalGas and its subsidiaries, which comprise less than one percent of SoCalGas' consolidated financial position and results of operations. Sempra Energy also indirectly owns all of the common stock of San Diego Gas & Electric (SDG&E). SoCalGas and SDG&E are collectively referred to herein as "the California Utilities." The accompanying Consolidated Financial Statements have been prepared in accordance with the interim-period-reporting requirements of Form 10-Q. Results of operations for interim periods are not necessarily indicative of results for the entire year. In the opinion of management, the accompanying statements reflect all adjustments necessary for a fair presentation. These adjustments are only of a normal recurring nature. Certain changes in classification have been made to prior presentations to conform to the current financial statement presentation. Specifically, certain December 31, 2003 income tax liabilities have been reclassified from Deferred Income Taxes to current Income Taxes Payable and to Deferred Credits and Other Liabilities to conform to the current presentation of these items. Information in this Quarterly Report is unaudited and should be read in conjunction with the Annual Report on Form 10-K for the year ended December 31, 2003 (Annual Report) and the Quarterly Report on Form 10-Q for the first quarter of 2004. The companies' significant accounting policies are described in Note 1 of the notes to Consolidated Financial Statements in the Annual Report. The same accounting policies are followed for interim reporting purposes. For the quarters ended June 30, 2004 and 2003, comprehensive income was equal to earnings applicable to common shares. SoCalGas accounts for the economic effects of regulation on utility operations in accordance with Statement of Financial Accounting Standards (SFAS) No. 71, "Accounting for the Effects of Certain Types of Regulation." NOTE 2. NEW ACCOUNTING STANDARDS Stock-Based Compensation: On March 31, 2004, the Financial Accounting Standards Board (FASB) issued a proposed Exposure Draft (ED) to amend SFAS 123, "Accounting for Stock-Based Compensation." The proposed statement would eliminate the choice of accounting for share-based
14 compensation transactions using Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued to Employees," whereby no expense is recorded for most stock options and instead generally require that such transactions be accounted for using a fair-value- based method, whereby expense is recorded for stock options. It would also prohibit application by restating prior periods and would require that expense be recognized only for those options that actually vest. If passed, the proposed ED would be effective for the company in 2005. SFAS 132 (revised 2003), "Employers' Disclosures about Pensions and Other Postretirement Benefits": This statement revises employers' disclosures about pension plans and other postretirement benefit plans, effective in 2004. It requires disclosures beyond those in the original SFAS 132 related to the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined postretirement plans. In addition, it requires interim-period disclosures regarding the amount of net periodic benefit cost recognized and the total amount of the employers' contributions paid and expected to be paid during the current fiscal year. It does not change the measurement or recognition of those plans. The following table provides the components of benefit costs for the three months and six months ended June 30:
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16 normal purchases and normal sales exception, whereby derivatives are not required to be marked to market when the contract is usually settled by the physical delivery of natural gas. ("Netting" refers to contract settlement by paying or receiving the monetary difference between the contract price and the market price at the date on which physical delivery would have occurred.) Implementation of SFAS 149 did not have a material impact on reported net income. Additional information on derivative instruments is provided in Note 3. FASB Staff Position (FSP) 106-1 and 106-2, "Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003": Issued January 12, 2004, FSP 106-1 allowed the company to make a one-time election during the first quarter of 2004 to defer accounting for the effects of the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the Act) until authoritative guidance on the accounting for federal subsidies was issued. In May 2004, FSP 106-1 was superseded by FSP 106-2, which provides guidance on the accounting for the effects of the Act by employers whose prescription drug benefits are actuarially equivalent to the drug benefit under Medicare Part D. In such a case, the employer includes the federal subsidy in measuring the accumulated postretirement benefit obligation (APBO). The resulting reduction in the APBO is recognized as an actuarial gain and the employer's share of future costs under the plan is reflected in current period service cost. FSP 106-2 also provides disclosure guidance about the effects of the subsidy for an employer who offers postretirement prescription drug coverage, but is unable to determine whether the plan's provisions are actuarially equivalent to the Medicare Part D benefit. For the company, FSP 106-2 is effective for the quarter ending September 30, 2004. The company has not yet determined whether the benefits provided by the plans are actuarially equivalent, and, at June 30, 2004, the APBO and net periodic postretirement benefit costs do not reflect any amount associated with the subsidy. NOTE 3. FINANCIAL INSTRUMENTS As described in Note 7 of the notes to Consolidated Financial Statements in the Annual Report, the company follows the guidance of SFAS 133 as amended by SFAS 138 and 149 (collectively SFAS 133) to account for its derivative instruments and hedging activities. Derivative instruments and related hedged items are recognized as either assets or liabilities on the balance sheet, measured at fair value. SFAS 133 provides for hedge accounting treatment when certain criteria are met. For derivative instruments designated as fair value hedges, the gain or loss is recognized in earnings in the period of change together with the offsetting gain or loss on the hedged item attributable to the risk being hedged. For derivative instruments designated as cash flow hedges, the effective portion of the derivative gain or loss is included in Other Comprehensive Income, but not reflected in the Statements of Consolidated Income until the corresponding hedged transaction is settled. The ineffective portion is reported in earnings immediately.
17 The company utilizes natural gas derivatives to manage commodity price risk associated with servicing its load requirements. These contracts allow the company to predict with greater certainty the effective prices to be received by the company and the prices to be charged to its customers. The company also periodically enters into interest-rate swap agreements to moderate exposure to interest-rate changes and to lower the overall cost of borrowing. The use of derivative financial instruments is subject to certain limitations imposed by company policy and regulatory requirements. Contracts that meet the definition of normal purchase and sales generally are long-term contracts that are settled by physical delivery and, therefore, are eligible for the normal purchases and sales exception of SFAS 133. The contracts are accounted for under accrual accounting and recorded in Revenues or Cost of Natural Gas on the Statements of Consolidated Income when physical delivery occurs. Due to the adoption of SFAS 149, the company has determined that its natural gas contracts entered into after June 30, 2003 generally do not qualify for the normal purchases and sales exception. However, the effect of this is minimal. Fixed-priced Contracts and Other Derivatives Fixed-priced Contracts and Other Derivatives on the Consolidated Balance Sheets primarily reflect SoCalGas' unrealized gains and losses related to long-term delivery contracts for natural gas transportation. The company has established offsetting regulatory assets and liabilities to the extent that these gains and losses are included in the calculation of future rates. If gains and losses are not recoverable or payable through future rates, the company applies hedge accounting if certain criteria are met. If a contract no longer meets the requirements of SFAS 133, the unrealized gains and losses and the related regulatory asset or liability will be amortized over the remaining contract life. The changes in Fixed-price Contracts and Other Derivatives on the Consolidated Balance Sheets for the six months ended June 30, 2004 were primarily due to physical deliveries under long-term natural gas transportation contracts. The transactions associated with fixed-price contracts and other derivatives had no material impact to the Statements of Consolidated Income for the six months ended June 30, 2004 and 2003. NOTE 4. REGULATORY MATTERS NATURAL GAS INDUSTRY RESTRUCTURING (GIR) As discussed in the Annual Report, in December 2001 the CPUC issued a decision related to GIR, with implementation anticipated during 2002. On April 1, 2004, after many delays and changes, the CPUC issued a decision that adopts tariffs to implement the 2001 decision. However, by that same decision, the CPUC stayed implementation of the GIR tariffs until it issues a decision in Phase I of the Natural Gas Market Order Instituting Ratemaking (OIR) discussed below. At that time, the CPUC will reconcile the GIR market structure with whatever structure results from the Phase I decision of the Natural Gas Market OIR. The
18 stayed decision, if implemented, would unbundle the costs of SoCalGas' backbone transmission system from rates and result in revising noncore balancing account treatment to exclude the balancing of SoCalGas' backbone transmission costs and place SoCalGas at risk for recovery of $80 million for transmission and $81 million for storage (current dollars). The decision would create firm tradable rights for the transmission system. Other noncore costs/revenues would continue to be fully balanced until the decision in the next Biennial Cost Allocation Proceeding (BCAP) discussed below. NATURAL GAS MARKET OIR The CPUC's Natural Gas Market OIR was approved on January 22, 2004, and will be addressed in two concurrent phases. The schedule calls for a Phase I decision by September 2004 and a Phase II decision by the end of 2004. Further discussion of Phase I and Phase II is included in the Annual Report. The focus of the Gas OIR is the period from 2006 to 2016. Since GIR (discussed above) would end in August 2006 and there is overlap between GIR and the OIR issues, a number of parties (including SoCalGas) have requested the CPUC not to implement GIR. The California Utilities have made comprehensive filings in the OIR outlining a proposed market structure that will help create access to new natural gas supply sources (such as LNG) for California. In the Phase I filing, SoCalGas and SDG&E proposed a framework to provide firm tradable access rights for intrastate natural gas transportation; provide SoCalGas with continued balancing account protection for intrastate transmission and distribution revenues, thereby eliminating throughput risk; and integrate the transmission systems of SoCalGas and SDG&E so as to have common rates and rules. The California Utilities have proposed that the investments necessary to access new sources of supply be included in ratebase and that the total amount of the investments would not exceed $200 million. In addition, the California Utilities have filed a recommended methodology and framework to be used by the CPUC for granting pre- approval of new interstate transportation agreements. A draft Phase I decision was issued on July 20, 2004. The draft decision recommends that the utilities' pre-approval procedures be approved with some modifications and that several issues, including supply access rate treatment, firm access rights and transmission system integration, be addressed by separate applications. A final CPUC decision in Phase I is expected in September 2004. COST OF SERVICE FILINGS In 2002, the California Utilities filed Cost Of Service applications with the CPUC, seeking rate increases reflecting forecasts of 2004 capital and operating costs, as further discussed in the Annual Report. SoCalGas is requesting revenue increases of $37 million. On December 19, 2003, settlements were filed with the CPUC for SoCalGas that, if approved, would resolve most of the Cost of Service issues. A CPUC decision is expected later this year. The SoCalGas settlement would reduce rate revenues by $33 million from 2003 rate revenues. A CPUC order has provided that the new rates will be retroactive to January 1, 2004. Beginning in the first quarter of 2004, SoCalGas generally is recognizing revenue consistent with the proposed settlement, except for
19 amounts related to pension costs, which are pending the CPUC decision and CPUC acceptance of a related compliance filing. Resolution of the pension matter consistent with the proposed settlement would result in the recording of additional income at that time. To the extent, if any, that the final CPUC decision varies from the method used to recognize revenue prior to that decision, an accounting adjustment will be recorded at that time. To date, the impacts of accounting consistent with the settlement have not had a material effect on the financial statements. The remaining issues are included in Phase II of the Cost of Service proceeding. In addition to recommending changes in the performance- based regulation (PBR) formulas, the CPUC's Office of Ratepayers Advocates (ORA) also proposed the possibility of performance penalties, without the possibility of performance awards. Hearings took place in June 2004. On July 21, 2004, all of the active parties in Phase II who dealt with post test year ratemaking and performance incentives filed for adoption of an all-party settlement agreement for most of the Phase II issues, including annual inflation adjustments and revenue sharing. The agreement does not cover performance incentives. The settlement requires the California Utilities to file their next rate cases based on a 2008 test year. For the interim years of 2005-2007, the Consumer Price Index will be used to adjust the escalatable authorized base rate revenues within identified floors and ceilings. It is anticipated that the CPUC will address this matter in its decision related to Phase II of this proceeding expected by year-end 2004. SoCalGas had filed for continuation of existing PBR mechanisms for service quality and safety that would otherwise expire at the end of 2003. In January 2004, the CPUC issued a decision that extended 2003 service and safety targets through 2004, but did not determine the applicability of rewards or penalties. PERFORMANCE-BASED REGULATION As further described in the Annual Report, under PBR, the CPUC requires future income potential to be tied to achieving or exceeding specific performance and productivity goals, rather than relying solely on expanding utility plant to increase earnings. PBR, demand-side management (DSM) and Gas Cost Incentive Mechanism (GCIM) rewards are not included in the company's earnings before CPUC approval is received. The only incentive reward approved during the first six months of 2004 was $6.3 million related to SoCalGas' Year 9 GCIM, which was approved on February 26, 2004. This reward is subject to refunds based on the outcome of the Border Price Investigation. The cumulative amount of rewards subject to refund based on the outcome of the Border Price Investigation described below is $56.9 million.
20 At June 30, 2004, the following performance incentives were pending CPUC approval and, therefore, were not included in the company's earnings (dollars in millions): Program ----------------------------------- DSM/Energy Efficiency* $ 10.9 GCIM Year 10 2.4 2003 safety .5 ----------------------------------- Total $ 13.8 ----------------------------------- * Dollar amounts shown do not include interest, franchise fees or uncollectible amounts. COST OF CAPITAL Effective January 1, 2003, SoCalGas' authorized rate of return on equity (ROE) is 10.82 percent and its return on ratebase is 8.68 percent. As discussed in the Annual Report, these rates will continue to be effective until 2008 unless market interest-rate changes are large enough to trigger an automatic adjustment. The automatic adjustment occurs when the 12-month trailing average of 30-year Treasury bond rates and the Global Insight forecast of the 30-year Treasury bond rate 12 months ahead vary by greater than 150 basis points from the benchmark, which is currently 5.38 percent. The 12- month trailing average was 5.11 percent at June 30, 2004. BIENNIAL COST ALLOCATION PROCEEDING The BCAP determines the allocation of authorized costs between customer classes for natural gas transportation service provided by the company and adjusts rates to reflect variances in customer demand as compared to the forecasts previously used in establishing transportation rates. SoCalGas filed with the CPUC its 2005 BCAP application in September 2003, requesting updated transportation rates effective January 1, 2005. In November 2003, an Assigned Commissioner Ruling delayed the BCAP applications until a decision is issued in the GIR implementation proceeding. As a result of the April 1, 2004 decision on GIR implementation as described in "Natural Gas Industry Restructuring," above, on May 27, 2004 the Administrative Law Judge (ALJ) in the 2005 BCAP issued a decision dismissing the BCAP applications. The California Utilities would be required to file new BCAP applications after the stay of the GIR implementation decision is lifted. As a result of the deferrals and the forecasted significant decline in noncore gas throughput on SoCalGas' system, in December 2002 the CPUC issued a decision approving 100 percent balancing account protection for SoCalGas' risk on local transmission and distribution revenues from January 1, 2003 until the CPUC issues its next BCAP decision. SoCalGas is seeking to continue this balancing account protection in the Natural Gas OIR proceeding.
21 BORDER PRICE INVESTIGATION In November 2002, the CPUC instituted an investigation into the Southern California natural gas market and the price of natural gas delivered to the California-Arizona border between March 2000 and May 2001. If the investigation determines that the conduct of any party to the investigation, including the California Utilities, contributed to the natural gas price spikes, the CPUC may modify the party's natural gas procurement incentive mechanism, reduce the amount of any shareholder award for the period involved, and/or order the party to issue a refund to ratepayers. Hearings began on June 29, 2004 and continued through July 15, 2004. A draft decision is expected in October 2004. The CPUC may hold a second round of hearings to consider whether Sempra Energy or any of its non-utility subsidiaries contributed to the price spikes. Final decisions are expected by late 2004. The company believes that the CPUC will find that the California Utilities acted in the best interests of its core customers and that none of the Sempra Energy companies was responsible for the price spikes. The ORA filed testimony supporting the GCIM and the actions of SoCalGas during this period. CPUC INVESTIGATION OF ENERGY-UTILITY HOLDING COMPANIES The CPUC has initiated an investigation into the relationship between California's IOUs and their parent holding companies. The CPUC broadly determined that it could, in appropriate circumstances, require the holding company to provide cash to a utility subsidiary to cover its operating expenses and working capital to the extent they are not adequately funded through retail rates. This would be in addition to the requirement of holding companies to cover their utility subsidiaries' capital requirements, as the IOUs previously acknowledged in connection with the holding companies' formations. In January 2002 the CPUC ruled on jurisdictional issues, deciding that the CPUC had jurisdiction to create the holding company system and, therefore, retains jurisdiction to enforce conditions to which the holding companies had agreed. In an opinion issued May 21, 2004, the California Court of Appeal upheld the CPUC's assertion of limited enforcement jurisdiction, but concluded that the CPUC's interpretation of the "first priority" condition (that the holding companies could be required to infuse cash into the utilities as necessary to meet the utilities' obligation to serve) was not ripe for review at this time. On June 30, 2004, the company requested review of the Court of Appeal's decision on the jurisdictional issue by the California Supreme Court. To date, the Supreme Court, which has discretionary authority to grant or deny review, has not acted upon this request.
22 NOTE 5. LITIGATION Except for the matters referred to below, neither the company nor its subsidiaries are party to, nor is their property the subject of, any material pending legal proceedings other than routine litigation incidental to their businesses. Management believes that none of these matters will have further material adverse effect on the company's financial condition or results of operations. Antitrust Litigation Class-action and individual lawsuits filed in 2000 and currently consolidated in San Diego Superior Court seek damages, alleging that Sempra Energy, SoCalGas and SDG&E, along with El Paso Energy Corp. (El Paso) and several of its affiliates, unlawfully sought to control natural gas and electricity markets. In March 2003, plaintiffs in these cases and the applicable El Paso entities (whose cases involved unrelated claims not applicable to Sempra Energy, SoCalGas or SDG&E) announced that they had reached a $1.7 billion settlement, of which $125 million is allocated to customers of the California Utilities. The Court approved that settlement in December 2003. The proceeding against Sempra Energy and the California Utilities has not been settled and continues to be litigated. On July 22, 2004, the court heard oral argument on a motion for summary judgment brought by Sempra Energy and the California Utilities and is expected to issue a decision in August 2004. Trial is set for September 7, 2004. Natural Gas Cases: Lawsuits have been filed by the Attorneys General of Arizona and Nevada, alleging that El Paso and certain Sempra Energy subsidiaries unlawfully sought to control the natural gas market in their respective states. In October 2003, the Nevada state court denied defendants' motion to dismiss the complaint. On April 12, 2004, the Sempra Energy defendants filed a motion for reconsideration. In April 2003, Sierra Pacific Resources and its utility subsidiary Nevada Power filed a lawsuit in U.S. District Court in Las Vegas against major natural gas suppliers, including Sempra Energy, the California Utilities and other company subsidiaries, seeking damages resulting from an alleged conspiracy to drive up or control natural gas prices, eliminate competition and increase market volatility, breach of contract and wire fraud. On January 27, 2004, the U.S. District Court dismissed the Sierra Pacific Resources case against all of the defendants, determining that this is a matter for the FERC to resolve. The court granted plaintiffs' request to amend their complaint, which they did. On July 15, 2004, Sempra Energy filed another motion to dismiss, which is scheduled to be heard on September 23, 2004. Price Reporting Practices On July 8, 2004, the City and County of San Francisco and the County of Santa Clara and on July 18, 2004 the County of San Diego brought actions, alleging that energy prices were unlawfully manipulated by defendants' reporting artificially inflated natural gas prices to trade publications and by entering into wash trades, in San Diego Superior Court against Sempra Energy, Sempra Energy Trading, SoCalGas and SDG&E.
23 Other Customers of the California Utilities will receive benefits under a settlement with El Paso resolving a number of civil and administrative proceedings surrounding the high natural gas and electric prices experienced in several Western states during the March 2000 through May 2001 period. A total amount of settlement funds of $40.7 million to SoCalGas' core gas customers will be received over a period of 20 years. An initial lump sum payment of $12 million was received in June 2004, which will be followed by 19 annual payments. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the financial statements contained in this Form 10-Q and "Management's Discussion and Analysis of Financial Condition and Results of Operations" contained in the Annual Report. RESULTS OF OPERATIONS Natural gas revenues increased to $2.0 billion for the six months ended June 30, 2004 from $1.8 billion for the corresponding period in 2003, and the cost of natural gas increased to $1.1 billion in 2004 from $1.0 billion in 2003. These increases were primarily attributable to natural gas cost increases, which are passed on to customers, and increased volumes. Additionally, natural gas revenues were relatively unchanged at $847 million for the quarter ended June 30, 2004 compared to $820 million for the corresponding period in 2003, and the cost of natural gas was relatively unchanged at $425 million in 2004 compared to $421 million in 2003. Higher natural gas costs in the second quarter of 2004 were offset by lower gas sales volumes. Under the current regulatory framework, the cost of natural gas purchased for customers and the variations in that cost are passed through to the customers on a substantially concurrent basis. However, SoCalGas' GCIM allows SoCalGas to share in the savings or costs from buying natural gas for customers below or above monthly benchmarks. The mechanism permits full recovery of all costs within a tolerance band above the benchmark price and refunds all savings within a tolerance band below the benchmark price. The costs or savings outside the tolerance band are shared between customers and shareholders. In 2002, the California Utilities filed Cost Of Service applications with the CPUC, seeking rate increases reflecting forecasts of 2004 capital and operating costs, as further discussed in the Annual Report. In accordance with generally accepted accounting principles, SoCalGas is generally recognizing 2004 revenue consistent with the proposed settlement, except for amounts related to pension costs which are pending the CPUC decision and CPUC acceptance of a related compliance filing. Resolution of the pension matter consistent with the proposed settlement would result in the recording of additional income at that time. To the extent, if any, that the final CPUC decision varies from the method used to recognize revenue prior to that decision, an
24 accounting adjustment will be recorded at that time. To date, the impacts of accounting consistent with the settlement have not had a material effect on the financial statements. The table below summarizes natural gas volumes and revenues by customer class for the six months ended June 30, 2004 and 2003.
25 Management believes that cash flows from operations and debt issuances will be adequate to finance capital expenditure requirements and other commitments. Management continues to regularly monitor SoCalGas' ability to finance the needs of its operating, financing and investing activities in a manner consistent with its intention to maintain strong, investment-quality credit ratings. Rating agencies and others that evaluate a company's liquidity generally consider a company's capital expenditures and working capital requirements in comparison to cash from operations, available credit lines and other sources available to meet liquidity requirements. CASH FLOWS FROM OPERATING ACTIVITIES Net cash provided by PE's operating activities totaled $627 million and $440 million for the six months ended June 30, 2004 and 2003, respectively. PE's operating activities included $585 million and $448 million, respectively, from SoCalGas. The increases were primarily attributable to 2004's higher increase in overcollected regulatory balancing accounts and a higher decrease in accounts receivable. For the six months ended June 30, 2004, the company made pension plan contributions of $3 million and payments for other postretirement benefit plans of $27 million. CASH FLOWS FROM INVESTING ACTIVITIES Net cash used in PE's investing activities totaled $348 million and $28 million for the six months ended June 30, 2004 and 2003, respectively. Net cash used in SoCalGas' investing activities totaled $307 million and $237 million for the six months ended June 30, 2004 and 2003, respectively. The changes were primarily due to increased advances to Sempra Energy in 2004. Significant capital expenditures in 2004 are expected to be for improvements to the distribution and transmission systems. These expenditures are expected to be financed by cash flows from operations and security issuances. In connection with the importation of additional sources of natural gas into Southern California, for which the California Utilities have made filings with the CPUC, the California Utilities could install capital facilities estimated at up to $200 million over three years, starting in 2005, in order to connect with new delivery locations. The expenditures would be included in utility ratebases or would be reimbursed by LNG project developers dependent on CPUC review of the projects and on the outcome of the Gas Market Order Instituting Investigation Phase II proceeding. CASH FLOWS FROM FINANCING ACTIVITIES Net cash used in PE's financing activities totaled $277 million and $422 million for the six months ended June 30, 2004 and 2003, respectively. Net cash used in SoCalGas' financing activities totaled $276 million and $221 million for the six months ended June 30, 2004 and 2003, respectively. The changes were attributable to lower dividend payments by PE and higher dividend payments by SoCalGas in 2004.
26 In May 2004, the California Utilities obtained a combined $500 million three-year syndicated revolving credit facility to replace their expiring 364-day facility of a like amount. Under the facility, each utility may borrow up to $300 million, subject to a combined borrowing limit of $500 million. Borrowings would bear interest at rates varying with market rates and the borrowing utility's credit rating. The agreement requires each utility to maintain, at the end of each quarter, a ratio of total indebtedness to total capitalization (as defined in the agreement) of no more than 60 percent. Borrowings under the agreement would be individual obligations of the borrowing utility and a default by one utility would not constitute a default or preclude borrowings by the other. FACTORS INFLUENCING FUTURE PERFORMANCE Performance of the companies will depend primarily on the ratemaking and regulatory process, electric and natural gas industry restructuring, and the changing energy marketplace. These factors are discussed in the Annual Report and in Note 4 of the notes to Consolidated Financial Statements herein. NEW ACCOUNTING STANDARDS Relevant pronouncements that have recently become effective and have had a significant effect on the company are SFAS Nos. 143 and 149 as discussed in Note 2 of the notes to Consolidated Financial Statements. Pronouncements that have or are likely to have a material effect on future earnings are described below. SFAS 143, "Accounting for Asset Retirement Obligations": Beginning in 2003, SFAS 143 requires entities to record liabilities for future costs expected to be incurred when assets are retired from service, if the retirement process is legally required. It also requires the company to reclassify amounts recovered in rates for future removal costs not covered by a legal obligation from accumulated depreciation to a regulatory liability. Further discussion is provided in Note 2 of the notes to Consolidated Financial Statements. SFAS 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities": SFAS 149 amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under SFAS 133. Under SFAS 149, natural gas forward contracts that are subject to unplanned netting do not qualify for the normal purchases and normal sales exception, whereby derivatives are not required to be marked to market when the contract is usually settled by the physical delivery of natural gas. The company has determined that all natural gas contracts are subject to unplanned netting and as such, these contracts will be marked to market. Implementation of SFAS 149 on July 1, 2003 did not have a material impact on reported net income. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK There have been no significant changes in the risk issues affecting the company subsequent to those discussed in the Annual Report.
27 As of June 30, 2004, the total Value at Risk of SoCalGas' positions was not material. ITEM 4. CONTROLS AND PROCEDURES The companies have designed and maintain disclosure controls and procedures to ensure that information required to be disclosed in the companies' reports under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission and is accumulated and communicated to the companies' management, including their Chief Executive Officers and Chief Financial Officers, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating these controls and procedures, management recognizes that any system of controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired objectives and necessarily applies judgment in evaluating the cost-benefit relationship of other possible controls and procedures. Under the supervision and with the participation of management, including the Chief Executive Officers and the Chief Financial Officers, the companies evaluated the effectiveness of the design and operation of the companies' disclosure controls and procedures as of June 30, 2004, the end of the period covered by this report. Based on that evaluation, the companies' Chief Executive Officers and Chief Financial Officers concluded that the companies' disclosure controls and procedures were effective at the reasonable assurance level. There has been no change in the companies' internal controls over financial reporting during the companies' most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the companies' internal controls over financial reporting. ITEM 5. OTHER INFORMATION Effective May 1, 2004, Debra L. Reed, President of SoCalGas and SDG&E, also became their Chief Operating Officer. Simultaneously, Steven D. Davis, who remains Senior Vice President, External Relations, succeeded her as Chief Financial Officer. PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Except as described in Notes 4 and 5 of the notes to Consolidated Financial Statements, neither the companies nor their subsidiaries are party to, nor is their property the subject of, any material pending legal proceedings other than routine litigation incidental to their businesses.
28 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits Exhibit 12 - Computation of ratios 12.1 Computation of Ratio of Earnings to Fixed Charges of PE. 12.2 Computation of Ratio of Earnings to Fixed Charges of SoCalGas. Exhibit 31 -- Section 302 Certifications 31.1 Statement of PE's Chief Executive Officer pursuant to Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934. 31.2 Statement of PE's Chief Financial Officer pursuant to Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934. 31.3 Statement of SoCalGas' Chief Executive Officer pursuant to Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934. 31.4 Statement of SoCalGas' Chief Financial Officer pursuant to Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934. Exhibit 32 -- Section 906 Certifications 32.1 Statement of PE's Chief Executive Officer pursuant to 18 U.S.C. Sec. 1350. 32.2 Statement of PE's Chief Financial Officer pursuant to 18 U.S.C. Sec. 1350. 32.3 Statement of SoCalGas' Chief Executive Officer pursuant to 18 U.S.C. Sec. 1350. 32.4 Statement of SoCalGas' Chief Financial Officer pursuant to 18 U.S.C. Sec. 1350. (b) Reports on Form 8-K The following reports on Form 8-K were filed after March 31, 2004: Current Report on Form 8-K filed April 29, 2004, filing as an exhibit Sempra Energy's press release of April 29, 2004, giving the financial results for the quarter ended March 31, 2004. Current Report on Form 8-K filed August 5, 2004, filing as an exhibit Sempra Energy's press release of August 5, 2004, giving the financial results for the quarter ended June 30, 2004.
29 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrants have duly caused this report to be signed on their behalf by the undersigned thereunto duly authorized. PACIFIC ENTERPRISES ------------------- (Registrant) Date: August 5, 2004 By: /s/ F. H. Ault ---------------------------- F. H. Ault Sr. Vice President and Controller SOUTHERN CALIFORNIA GAS COMPANY ------------------------------- (Registrant) Date: August 5, 2004 By: /s/ S. D. Davis --------------------------- S. D. Davis Sr. Vice President-External Relations and Chief Financial Officer
EXHIBIT 31.1
CERTIFICATION
I, Stephen L. Baum, certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Pacific
Enterprises;
2. Based on my knowledge, this Quarterly Report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect
to the period covered by this Quarterly Report;
3. Based on my knowledge, the financial statements and other financial
information included in this Quarterly Report fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented
in this Quarterly Report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and we have:
a) Designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this Quarterly Report is being
prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this Quarterly Report
our conclusions about the effectiveness of the disclosure
controls and procedures, as of the end of the period covered
by this Quarterly Report, based on such evaluation; and
c) Disclosed in this report any change in the registrant's
internal control over financial reporting that occurred during
the registrant's most recent fiscal quarter that has
materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation of internal control over
financial reporting, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing
the equivalent function):
a) All significant deficiencies and material weaknesses in the
design or operation of internal controls over financial
reporting which are reasonably likely to adversely affect the
registrant's ability to record, process, summarize and report
financial information; and
b) Any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls over financial reporting.
August 5, 2004
/S/ STEPHEN L. BAUM
Stephen L. Baum
Chief Executive Officer
EXHIBIT 31.2
CERTIFICATION
I, Neal E. Schmale, certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Pacific
Enterprises;
2. Based on my knowledge, this Quarterly Report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect
to the period covered by this Quarterly Report;
3. Based on my knowledge, the financial statements and other financial
information included in this Quarterly Report fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented
in this Quarterly Report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and we have:
a) Designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this Quarterly Report is being
prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this Quarterly Report
our conclusions about the effectiveness of the disclosure
controls and procedures, as of the end of the period covered
by this Quarterly Report, based on such evaluation; and
c) Disclosed in this report any change in the registrant's
internal control over financial reporting that occurred during
the registrant's most recent fiscal quarter that has
materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation of internal control over
financial reporting, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing
the equivalent function):
a) All significant deficiencies and material weaknesses in the
design or operation of internal controls over financial
reporting which are reasonably likely to adversely affect the
registrant's ability to record, process, summarize and report
financial information; and
b) Any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls over financial reporting.
August 5, 2004
/S/ NEAL E. SCHMALE
Neal E. Schmale
Chief Financial Officer
EXHIBIT 31.3
CERTIFICATION
I, Edwin A. Guiles, certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Southern
California Gas Company;
2. Based on my knowledge, this Quarterly Report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect
to the period covered by this Quarterly Report;
3. Based on my knowledge, the financial statements and other financial
information included in this Quarterly Report fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented
in this Quarterly Report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and we have:
a) Designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this Quarterly Report is being
prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this Quarterly Report
our conclusions about the effectiveness of the disclosure
controls and procedures, as of the end of the period covered
by this Quarterly Report, based on such evaluation; and
c) Disclosed in this report any change in the registrant's
internal control over financial reporting that occurred during
the registrant's most recent fiscal quarter that has
materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation of internal control over
financial reporting, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing
the equivalent function):
a) All significant deficiencies and material weaknesses in the
design or operation of internal controls over financial
reporting which are reasonably likely to adversely affect the
registrant's ability to record, process, summarize and report
financial information; and
b) Any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls over financial reporting.
August 5, 2004
/S/ EDWIN A. GUILES
Edwin A. Guiles
Chief Executive Officer
EXHIBIT 31.4
CERTIFICATION
I, Steven D. Davis, certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Southern
California Gas Company;
2. Based on my knowledge, this Quarterly Report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect
to the period covered by this Quarterly Report;
3. Based on my knowledge, the financial statements and other financial
information included in this Quarterly Report fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented
in this Quarterly Report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and we have:
a) Designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this Quarterly Report is being
prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this Quarterly Report
our conclusions about the effectiveness of the disclosure
controls and procedures, as of the end of the period covered
by this Quarterly Report, based on such evaluation; and
c) Disclosed in this report any change in the registrant's
internal control over financial reporting that occurred during
the registrant's most recent fiscal quarter that has
materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation of internal control over
financial reporting, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing
the equivalent function):
a) All significant deficiencies and material weaknesses in the
design or operation of internal controls over financial
reporting which are reasonably likely to adversely affect the
registrant's ability to record, process, summarize and report
financial information; and
b) Any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls over financial reporting.
August 5, 2004
/S/ STEVEN D. DAVIS
Steven D. Davis
Chief Financial Officer
Exhibit 32.1
Statement of Chief Executive Officer
Pursuant to 18 U.S.C. Sec 1350, as created by Section 906 of the
Sarbanes-Oxley Act of 2002, the undersigned Chief Executive Officer of
Pacific Enterprises (the "Company") certifies that:
(i) the Quarterly Report on Form 10-Q of the Company filed with
the Securities and Exchange Commission for the quarterly
period ended June 30, 2004 (the "Quarterly Report") fully
complies with the requirements of Section 13(a) or Section
15(d), as applicable, of the Securities Exchange Act of
1934, as amended; and
(ii) the information contained in the Quarterly Report fairly
presents, in all material respects, the financial condition
and results of operations of the Company.
August 5, 2004
/S/ STEPHEN L. BAUM
______________________
Stephen L. Baum
Chief Executive Officer
Exhibit 32.2
Statement of Chief Financial Officer
Pursuant to 18 U.S.C. Sec 1350, as created by Section 906 of the
Sarbanes-Oxley Act of 2002, the undersigned Chief Financial Officer of
Pacific Enterprises (the "Company") certifies that:
(i) the Quarterly Report on Form 10-Q of the Company filed with
the Securities and Exchange Commission for the quarterly
period ended June 30, 2004 (the "Quarterly Report") fully
complies with the requirements of Section 13(a) or Section
15(d), as applicable, of the Securities Exchange Act of
1934, as amended; and
(ii) the information contained in the Quarterly Report fairly
presents, in all material respects, the financial condition
and results of operations of the Company.
August 5, 2004
/S/ NEAL E. SCHMALE
______________________
Neal E. Schmale
Chief Financial Officer
Exhibit 32.3
Statement of Chief Executive Officer
Pursuant to 18 U.S.C. Sec 1350, as created by Section 906 of the
Sarbanes-Oxley Act of 2002, the undersigned Chief Executive Officer of
Southern California Gas Company (the "Company") certifies that:
(i) the Quarterly Report on Form 10-Q of the Company filed with
the Securities and Exchange Commission for the quarterly
period ended June 30, 2004 (the "Quarterly Report") fully
complies with the requirements of Section 13(a) or Section
15(d), as applicable, of the Securities Exchange Act of
1934, as amended; and
(ii) the information contained in the Quarterly Report fairly
presents, in all material respects, the financial condition
and results of operations of the Company.
August 5, 2004
/S/ EDWIN A. GUILES
______________________
Edwin A. Guiles
Chief Executive Officer
Exhibit 32.4
Statement of Chief Financial Officer
Pursuant to 18 U.S.C. Sec 1350, as created by Section 906 of the
Sarbanes-Oxley Act of 2002, the undersigned Chief Financial Officer of
Southern California Gas Company (the "Company") certifies that:
(i) the Quarterly Report on Form 10-Q of the Company filed with
the Securities and Exchange Commission for the quarterly
period ended June 30, 2004 (the "Quarterly Report") fully
complies with the requirements of Section 13(a) or Section
15(d), as applicable, of the Securities Exchange Act of
1934, as amended; and
(ii) the information contained in the Quarterly Report fairly
presents, in all material respects, the financial condition
and results of operations of the Company.
August 5, 2004
/S/ STEVEN D. DAVIS
______________________
Steven D. Davis
Chief Financial Officer
|
EXHIBIT 12.1 |
||||||||||||
|
PACIFIC ENTERPRISES |
||||||||||||
|
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES |
||||||||||||
|
(Dollars in millions) |
||||||||||||
|
Six months ended |
||||||||||||
|
1999 |
2000 |
2001 |
2002 |
2003 |
June 30, 2004 |
|||||||
|
Fixed Charges: |
||||||||||||
|
Interest |
$ 82 |
$ 72 |
$ 88 |
$ 63 |
$ 54 |
$ 24 |
||||||
|
Interest portion of annual rentals |
3 |
4 |
3 |
2 |
2 |
1 |
||||||
|
Preferred dividends of subsidiaries (1) |
2 |
2 |
2 |
2 |
2 |
2 |
||||||
|
Total fixed charges for purpose of ratio |
$ 87 |
$ 78 |
$ 93 |
$ 67 |
$ 58 |
$ 27 |
||||||
|
Earnings: |
||||||||||||
|
Pretax income from continuing operations |
$ 350 |
$ 396 |
$ 377 |
$ 383 |
$ 361 |
$ 189 |
||||||
|
Total fixed charges (from above) |
87 |
78 |
93 |
67 |
58 |
27 |
||||||
|
Total earnings for purpose of ratio |
$ 437 |
$ 474 |
$ 470 |
$ 450 |
$ 419 |
$ 216 |
||||||
|
Ratio of earnings to fixed charges |
5.02 |
6.08 |
5.05 |
6.72 |
7.22 |
8.00 |
||||||
|
(1) In computing this ratio, "Preferred dividends of subsidiaries" represents the before-tax earnings necessary to pay such dividends, |
||||||||||||
|
computed at the effective tax rates for the applicable periods. |
||||||||||||
|
EXHIBIT 12.2 |
|||||||||||
|
SOUTHERN CALIFORNIA GAS COMPANY |
|||||||||||
|
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES |
|||||||||||
|
(Dollars in millions) |
|||||||||||
|
Six months ended |
|||||||||||
|
1999 |
2000 |
2001 |
2002 |
2003 |
June 30, 2004 |
||||||
|
Fixed Charges: |
|||||||||||
|
Interest |
$ 62 |
$ 72 |
$ 70 |
$ 47 |
$ 48 |
$ 20 |
|||||
|
Interest portion of annual rentals |
3 |
4 |
3 |
2 |
2 |
1 |
|||||
|
Total fixed charges for purpose of ratio |
$ 65 |
$ 76 |
$ 73 |
$ 49 |
$ 50 |
$ 21 |
|||||
|
Earnings: |
|||||||||||
|
Pretax income from continuing operations |
$ 383 |
$ 390 |
$ 377 |
$ 391 |
$ 360 |
$ 188 |
|||||
|
Add: total fixed charges (from above) |
65 |
76 |
73 |
49 |
50 |
21 |
|||||
|
Total earnings for purpose of ratio |
$ 448 |
$ 466 |
$ 450 |
$ 440 |
$ 410 |
$ 209 |
|||||
|
Ratio of earnings to fixed charges |
6.89 |
6.13 |
6.16 |
8.98 |
8.20 |
9.95 |
|||||