Annual Report
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State
of Delaware
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51-0064146
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(State
or other jurisdiction of
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(I.R.S.
Employer
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incorporation
or organization)
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Identification
No.)
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Title
of each class
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Name
of each exchange on which registered
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Common
Stock - par value per share $.4867
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New
York Stock Exchange, Inc.
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Securities
registered pursuant to Section 12(g) of the
Act:
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8.25%
Convertible Debentures Due 2014
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(Title
of class)
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Indicate
by check mark if the registrant is a well-known seasoned issuer,
as defined in Rule 405 of the Securities Act. Yes [ ].
No
[X].
Indicate
by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act. Yes [ ].
No
[X].
Indicate
by check mark whether the registrant (1) has filed all reports required
to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the
preceding 12 months (or for such shorter period that the registrant was
required
to file such reports), and (2) has been subject to such filing requirements
for
the past 90 days. Yes [X]. No [ ].
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 amendments
to
this Form 10-K. [X]
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of
“
accelerated
filer
and large accelerated filer
”
in Rule 12b-2 of
the Exchange Act. (Check one):
Large
accelerated filer [
]
Accelerated filer
[X]
Non-accelerated filer [ ]
Indicate
by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). Yes [ ].
No
[X].
The
aggregate market value of the common shares held by non-affiliates of Chesapeake
Utilities Corporation as of June 30, 2006, the last business day of its
most
recently completed second fiscal quarter, based on the last trade price
on that
date, as reported by the New York Stock Exchange, was approximately $179.2
million.
As
of
March 8, 2007, 6,717,348 shares of common stock were outstanding.
DOCUMENTS
INCORPORATED BY REFERENCE
Portions
of the Proxy Statement for the 2007 Annual Meeting of Stockholders are
incorporated by reference in Part III.
Chesapeake
Utilities Corporation
Form
10-K
YEAR
ENDED DECEMBER 31, 2006
TABLE
OF CONTENTS
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Page
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| Part I |
1
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Item
1. Business
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1
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Item
1A. Risk Factors
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8
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Item
1B. Unresolved Staff Comments
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12
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Item
2. Properties
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12
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Item
3. Legal Proceedings
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12
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Item
4. Submission of Matters to a Vote of Security Holders
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12
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| Part II |
13
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Item
5. Market for the Registrant's Common Equity, Related Stockholder
Matters
and Issuer Purchases of Equity Securities
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13
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Item
6. Selected Financial Data
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16
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Item
7. Management's Discussion and Analysis of Financial Condition
and Results
of Operations
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20
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Item
7A. Quantitative and Qualitative Disclosures About Market Risk
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45
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Item
8. Financial Statements and Supplementary Data
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45
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Item
9. Changes In and Disagreements With Accountants on Accounting
and
Financial Disclosure
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76
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Item
9A. Controls and Procedures
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76
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Item
9B. Other Information
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76
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| Part III |
77
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|
Item
10. Directors, Executive Officers of the Registrant and Corporate
Governance
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77
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Item
11. Executive Compensation
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77
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Item
12. Security Ownership of Certain Beneficial Owners and Management
and
Related Stockholder Matters
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77
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Item
13. Certain Relationships and Related Transactions, and Director
Independence
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78
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Item
14. Principal Accounting Fees and Services
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78
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| Part IV |
79
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Item
15. Exhibits, Financial Statement Schedules
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79
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| Signatures |
83
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Part
I
References
in this document to “Chesapeake,” “the Company,” “we,” “us” and “our” mean
Chesapeake Utilities Corporation and/or its wholly owned subsidiaries, as
appropriate.
Safe
Harbor for Forward-Looking Statements
Chesapeake
Utilities Corporation has made statements in this Form 10-K that are considered
to be “forward-looking statements” within the meaning of the Private Securities
Litigation Reform Act of 1995. These statements are not matters of historical
fact and are typically identified by words such as, but not limited to,
“believes,” “expects,” “intends,” “plans,” and similar expressions, or future or
conditional verbs such as “may,” “will,” “should,” “would,” and “could”. These
statements relate to matters such as customer growth, changes in revenues or
gross margins, capital expenditures, environmental remediation costs, regulatory
trends and decisions, market risks associated with our propane operations,
the
competitive position of the Company and other matters. It is important to
understand that these forward-looking statements are not guarantees, but are
subject to certain risks and uncertainties and other important factors that
could cause actual results to differ materially from those in the
forward-looking statements. The factors that could cause actual results to
differ materially from the Company’s expectations include, but are not limited
to those discussed in Item 1A “Risk Factors.”
Item
1. Business.
| (a) |
General
Development of Business
|
Chesapeake
is a diversified utility company engaged directly or through subsidiaries in
natural gas distribution, transmission and marketing, propane distribution
and
wholesale marketing, advanced information services and other related businesses.
Chesapeake is a Delaware corporation that was formed in 1947.
Chesapeake’s
three natural gas distribution divisions serve approximately 59,100 residential,
commercial and industrial customers in central and southern Delaware, Maryland’s
Eastern Shore and parts of Florida. The Company’s natural gas transmission
subsidiary, Eastern Shore Natural Gas Company (“Eastern Shore” or “ESNG”),
operates a 366-mile interstate pipeline system that transports gas from various
points in Pennsylvania to the Company’s Delaware and Maryland distribution
divisions, as well as to other utilities and industrial customers in southern
Pennsylvania, Delaware and on the Eastern Shore of Maryland. Our propane
distribution operation serves approximately 33,300 customers in central and
southern Delaware, the Eastern Shore of Maryland and Virginia, southeastern
Pennsylvania, and parts of Florida. The advanced information services segment
provides domestic and international clients with information technology related
business services and solutions for both enterprise and e-business
applications.
| (b) |
Financial
Information about Industry
Segments
|
Financial
information by business segment is included in Item 8 under the heading “Notes
to Consolidated Financial Statements — Note C.”
| (c) |
Narrative
Description of Business
|
Chesapeake
is engaged in three primary business activities: natural gas distribution,
transmission and marketing, propane distribution and wholesale marketing and
advanced information services. In addition to the primary groups, Chesapeake
has
subsidiaries in other related businesses.
(i)
(a) Natural Gas Distribution, Transmission and
Marketing
General
Chesapeake
distributes natural gas to residential, commercial and industrial customers
in
central and southern Delaware, the Salisbury and Cambridge, Maryland areas
on
Maryland’s Eastern Shore and parts of Florida. These activities are conducted
through three utility divisions, one division in Delaware, another in Maryland
and a third division in Florida. The Company also offers natural gas supply
and
supply management services in the state of Florida through its subsidiary,
Peninsula Energy Services Company, Inc. (“PESCO”).
Delaware
and Maryland
.
Chesapeake’s Delaware and Maryland utility divisions serve approximately 45,400
customers, of which approximately 45,200 are residential and commercial
customers purchasing gas primarily for heating purposes. The remaining customers
are industrial. For the year 2006, residential and commercial customers
accounted for approximately 77% of the volume delivered by the divisions and
75%
of the divisions’ revenue.
Florida
.
The
Florida division distributes natural gas to approximately 13,630 residential
and
commercial and 100 industrial customers in the 13 Counties of Polk, Osceola,
Hillsborough, Gadsden, Gilchrist, Union, Holmes, Jackson, Desoto, Suwannee,
Liberty, Washington and Citrus. Currently, the industrial customers, which
purchase and transport gas on a firm basis, account for approximately 92% of
the
volume delivered by the Florida division and 43% of the revenues. These
customers are primarily engaged in the citrus and phosphate industries and
in
electric cogeneration.
PESCO
provides natural gas supply and supply management services to commercial and
industrial end users in Florida. During 2005, Chesapeake formed a wholly owned
subsidiary, Peninsula Pipeline Company, Inc. to provide natural gas
transportation services to industrial customers by an intra-state pipeline.
Eastern
Shore.
The
Company’s wholly owned transmission subsidiary, Eastern Shore, owns and operates
an interstate natural gas pipeline and provides open access transportation
services for affiliated and non-affiliated companies through an integrated
gas
pipeline extending from southeastern Pennsylvania through Delaware to its
terminus on the Eastern Shore of Maryland. Eastern Shore also provides swing
transportation service and contract storage services. Eastern Shore’s rates and
services are subject to regulation by the Federal Energy Regulatory Commission
(“FERC”).
Adequacy
of Resources
General
.
The
Delaware and Maryland divisions have both firm and interruptible contracts
with
four interstate “open access” pipelines including Eastern Shore. The divisions
are directly interconnected with Eastern Shore and services upstream of Eastern
Shore are contracted with Transcontinental Gas Pipeline Corporation (“Transco”),
Columbia Gas Transmission Corporation (“Columbia”) and Columbia Gulf
Transmission Company (“Gulf”). None of the upstream service providers are
affiliates of the Company. The divisions use their firm transportation supply
resources to meet a significant percentage of their projected demand
requirements. In order to meet the difference between firm supply and firm
demand, the divisions purchase natural gas supply on the spot market from
various suppliers. This gas is transported by the upstream pipelines and
delivered to the divisions’ interconnects with Eastern Shore. The divisions also
have the capability to use propane-air peak-shaving to supplement or displace
the spot market purchases. The Company believes that the availability of gas
supply and transportation to the Delaware and Maryland divisions is adequate
under existing arrangements to meet the anticipated needs of their
customers.
Delaware
.
The
Delaware division’s contracts with Transco include: (a) firm transportation
capacity of 9,029 dekatherms (“Dt”) per day, with provisions to continue from
year to year, subject to 180 days notice for termination; (b) firm
transportation capacity of 311 Dt per day for December through February, with
provisions to continue such contract on a year to year basis, subject to 180
days notice for termination; (c) firm transportation capacity of 174 Dt per
day,
which expires in 2008; (d) firm transportation capacity of 1,842 Dt, which
expires in 2009; (e) firm storage service, providing a peak day entitlement
of
1,680 Dt and a total capacity of 142,830 Dt, with provisions to continue such
contract on a year to year basis, subject to 180 days notice for termination;
and (f) firm storage service, providing a peak day entitlement of 1,786 Dt
and a
total capacity of 17,967 Dt, which expires in 2013.
The
Delaware division’s contracts with Columbia include: (a) firm transportation
capacity of 880 Dt per day, which expires in 2014; (b) firm transportation
capacity of 1,132 Dt per day, which expires in 2017; (c) firm transportation
capacity of 549 Dt per day, which expires in 2018; (d) firm transportation
capacity of 899 per day, which expires in 2019; (e) firm storage service
providing a peak day entitlement of 6,193 Dt and a total capacity of 298,195
Dt,
which expires in 2015; (f) firm storage service, providing a peak day
entitlement of 635 Dt and a total capacity of 57,139 Dt, which expires in 2018;
(g) firm storage service providing a peak day entitlement of 583 Dt and a total
capacity of 52,460 Dt, which expires in 2019; (h) firm storage service providing
a peak day entitlement of 583 Dt and a total capacity of 52,460 Dt, which
expires in 2020; (i) firm storage service providing a peak day entitlement
of 15
Dt and a total capacity of 1,350 Dt, which expires in 2018; and (j) firm storage
service providing a peak day entitlement of 215 Dt and a total capacity of
10,646 Dt, which expires in 2010. Delaware’s contracts with Columbia for
storage-related transportation provide quantities that are equivalent to the
peak day entitlement for the period of October through March and are equivalent
to fifty percent (50%) of the peak day entitlement for the period of April
through September. The terms of the storage-related transportation contracts
mirror the storage services that they support.
The
Delaware division’s contract with Gulf, which expires in 2009, provides firm
transportation capacity of 880 Dt per day for the period November through March
and 809 Dt per day for the period April through October.
The
Delaware division’s contracts with Eastern Shore include: (a) firm
transportation capacity of 53,637 Dt per day for the period December through
February, 52,415 Dt per day for the months of November, March and April, and
43,339 Dt per day for the period May through October, with various expiration
dates ranging from 2007 to 2017; (b) firm storage capacity providing a peak
day
entitlement of 2,655 Dt and a total capacity of 131,370 Dt, which expires in
2013; (c) firm storage capacity providing a peak day entitlement of 580 Dt
and a
total capacity of 29,000 Dt, which expires in 2013; (d) firm storage capacity
providing a peak day entitlement of 911 Dt and a total capacity of 5,708 Dt,
with provisions to continue such contract on a year to year basis, subject
to
180 days notice for termination.
The
Delaware division currently has contracts for the purchase of firm natural
gas
supply with several suppliers. These supply contracts provide the availability
of a maximum firm daily entitlement of 37,500 Dt and delivered on Transco,
Columbia, and/or Gulf systems to Eastern Shore for redelivery under firm
transportation contracts. The gas purchase contracts have various expiration
dates and daily quantities may vary from day to day and month to
month.
Maryland
.
The
Maryland division’s contracts with Transco include: (a) firm transportation
capacity of 4,738 Dt per day, with provisions to continue such contract on
a
year to year basis, subject to 180 days notice for termination; (b) firm
transportation capacity of 155 Dt per day for December through February, with
provisions to continue such contract on a year to year basis, subject to 180
days notice for termination; (c) firm transportation capacity of 973 Dt, which
expires in 2009; (d) firm storage service providing a peak day entitlement
of
390 Dt and a total capacity of 33,120 Dt, with provisions to continue such
contract on a year to year basis, subject to 180 days notice for termination
;
and (e) firm storage service, providing a peak day entitlement of 546 Dt and
a
total capacity of 5,489 Dt, which expires in 2013.
The
Maryland division’s contracts with Columbia include: (a) firm transportation
capacity of 442 Dt per day, which expires in 2014; (b) firm transportation
capacity of 908 Dt per day, which expires in 2017; (c) firm transportation
capacity of 350 Dt per day, which expires in 2018; (d) firm storage service
providing a peak day entitlement of 3,142 Dt and a total capacity of 154,756
Dt,
which expires in 2015; (e) firm storage service providing a peak day entitlement
of 521 Dt and a total capacity of 46,881 Dt, which expires in 2018; and (f)
firm
transportation capacity of 1,832 Dt per day for the period April through
September. The Maryland division’s contracts with Columbia for storage-related
transportation provide quantities that are equivalent to the peak day
entitlement for the period October through March and are equivalent to fifty
percent (50%) of the peak day entitlement for the period April through
September. The terms of the storage-related transportation contracts mirror
the
storage services that they support.
The
Maryland division’s contract with Gulf, which expires in 2009, provides firm
transportation capacity of 590 Dt per day for the period November through March
and 543 Dt per day for the period April through October.
The
Maryland division’s contracts with Eastern Shore include: (a) firm
transportation capacity of 18,982 Dt per day for the period December through
February, 18,254 Dt per day for the months of November, March and April and
13,674 Dt per day for the period May through October, with various expiration
dates ranging from 2007 to 2015; (b) firm storage capacity providing a peak
day
entitlement of 1,428 Dt and a total capacity of 70,665 Dt, which expires in
2013; (c) firm storage capacity providing a peak day entitlement of 309 Dt
and a
total capacity of 15,500 Dt, which expires in 2013; and (d) firm storage
capacity providing a peak day entitlement of 569 Dt and a total capacity of
3,560 Dt, with provisions to continue such contract on a year to year basis,
subject to 180 days notice for termination.
The
Maryland division currently has contracts for the purchase of firm natural
gas
supply with several suppliers. These supply contracts provide the availability
of a maximum form daily entitlement of 11,500 Dt delivered on Transco, Columbia,
and/or Gulf systems to Eastern Shore for redelivery under the Maryland
division’s transportation contracts. The gas purchase contracts have various
expiration dates and daily quantities may vary from day to day and month to
month.
Florida
.
The
Florida division receives natural gas from Florida Gas Transmission Company
(“FGT”) and Gulfstream Natural Gas System (“Gulfstream”). The Florida division
has firm transportation agreements with both of these interstate pipelines.
All
of the capacity under these agreements has been released to various third
parties and PESCO, our natural gas marketing subsidiary. Under terms of these
capacity release agreements, Chesapeake is contingently liable to FGT and
Gulfstream should the party that acquired the capacity through release fail
to
pay for the service.
Chesapeake’s
contracts with FGT include transportation service for: (a) daily firm
transportation capacity of 27,519 Dt in November through April; 21,123 Dt in
May
through September, and 27,105 Dt in October, which expires in 2010; and (b)
daily firm transportation capacity of 1,000 Dt daily, which expires in 2015.
Chesapeake’s
contracts with Gulfstream include transportation service for daily firm
transportation capacity of 10,000 Dt daily. The contract with Gulfstream expires
May 31, 2022.
PESCO
currently has contracts with Eagle Energy Partners and Prior Energy for the
purchase of firm natural gas supply. The Eagle Energy Partners’ contract
provides the availability of a maximum firm daily entitlement of 10,000 MMBtus
and has an expiration date of May 2007. The Prior Energy contract provides
the
availability of a maximum firm daily entitlement of 7,500 MMBtus and has an
expiration date of May 2007.
Eastern
Shore
.
Eastern
Shore also has contracts with Transco for: (a) 7,046 Mcf of firm peak day
storage entitlements and total storage capacity of 278,264 Mcf, which expires
in
2013.
Eastern
Shore has retained the firm transportation capacity and firm storage services
described above in order to provide swing transportation service and storage
service to those customers that requested such service.
Competition
See
discussion on competition in Item 7 under the heading “Management’s Discussion
and Analysis — Competition.”
Rates
and Regulation
General
.
Chesapeake’s
natural gas distribution divisions are subject to regulation by the Delaware,
Maryland and Florida Public Service Commissions with respect to various aspects
of the business, including the rates for sales and transportation to all
customers in each respective jurisdiction. All of Chesapeake’s firm distribution
sales rates are subject to gas cost recovery mechanisms, which match revenues
with gas costs and normally allow eventual full recovery of gas costs.
Adjustments under these mechanisms, which are limited to gas costs, require
periodic filings and hearings with the relevant regulatory
authority.
Eastern
Shore is subject to regulation by the FERC as an interstate pipeline. The FERC
regulates the provision of service, terms and conditions of service, and the
rates Eastern Shore can charge for its transportation and storage services.
Management
monitors the achieved rate of return in each jurisdiction in order to ensure
the
timely filing of rate cases.
Regulatory
Proceedings
See
discussion of regulatory activities in Item 7 under the heading “Management’s
Discussion and Analysis — Regulatory Activities.”
(i)
(b) Propane Distribution and Wholesale Marketing
General
Chesapeake’s
propane distribution group consists of (1) Sharp Energy, Inc. (“Sharp Energy”),
a wholly owned subsidiary of Chesapeake, (2) Sharpgas, Inc. (“Sharpgas”), a
wholly owned subsidiary of Sharp Energy, and (3) Tri-County Gas Co.,
Incorporated (“Tri-County”), a wholly owned subsidiary of Sharp Energy. The
propane wholesale marketing group consists of Xeron, Inc. (“Xeron”), a wholly
owned subsidiary of Chesapeake.
Propane
is a form of liquefied petroleum gas, which is typically extracted from natural
gas or separated during the crude oil refining process. Although propane is
a
gas at normal pressure, it is easily compressed into liquid form for storage
and
transportation. Propane is a clean-burning fuel, gaining increased recognition
for its environmental superiority, safety, efficiency, transportability and
ease
of use relative to alternative forms of energy. Propane is sold primarily in
suburban and rural areas, which are not served by natural gas distributors.
Demand is typically much higher in the winter months and is significantly
affected by seasonal variations, particularly the relative severity of winter
temperatures, because of its use in residential and commercial
heating.
During
2006, our propane distribution operations served approximately 33,300 propane
customers on the Delmarva Peninsula, southeastern Pennsylvania and in Florida
and delivered approximately 24.2 million retail and wholesale gallons of
propane.
In
May
1998, Chesapeake acquired Xeron, a natural gas liquids trading company located
in Houston, Texas. Xeron markets propane to large independent and petrochemical
companies, resellers and southeastern retail propane companies in the United
States. Additional information on Xeron’s trading and wholesale marketing
activities, market risks and the controls that limit and monitor the risks
are
included in Item 7 under the heading “Management’s Discussion and Analysis —
Market Risk.”
The
propane distribution business is affected by many factors, such as seasonality,
the absence of price regulation, and competition among local providers. The
propane wholesale marketing business is affected by wholesale price volatility
and the supply and demand for propane at a wholesale level.
Adequacy
of Resources
The
Company’s propane distribution operations purchase propane primarily from
suppliers, including major oil companies and independent producers of natural
gas liquids. Supplies of propane from these and other sources are readily
available for purchase by the Company. Supply contracts generally include
minimum (not subject to take-or-pay premiums) and maximum purchase
provisions.
The
Company’s propane distribution operations use trucks and railroad cars to
transport propane from refineries, natural gas processing plants or pipeline
terminals to its bulk storage facilities. From these facilities, propane is
delivered primarily by “bobtail” trucks, owned and operated by the Company, to
tanks located at the customer’s premises.
Xeron
does not own physical storage facilities or equipment to transport propane;
however, it contracts for storage and pipeline capacity to facilitate the sale
of propane on a wholesale basis.
Competition
See
discussion on competition in Item 7 under the heading “Management’s Discussion
and Analysis — Competition.”
Rates
and Regulation
The
propane distribution and wholesale marketing activities are not subject to
any
federal or state pricing regulation. Transport operations are subject to
regulations concerning the transportation of hazardous materials promulgated
under the Federal Motor Carrier Safety Act, which is administered by the United
States Department of Transportation and enforced by the various states in which
such operations take place. Propane distribution operations are also subject
to
state safety regulations relating to “hook-up” and placement of propane
tanks.
The
Company’s propane operations are subject to all operating hazards normally
associated with the handling, storage and transportation of combustible liquids,
such as the risk of personal injury and property damage caused by fire. The
Company carries general liability insurance in the amount of $35 million, but
there is no assurance that such insurance will be adequate.
(i)
(c) Advanced Information Services
General
Chesapeake’s
advanced information services segment consists of BravePoint, Inc.
(“BravePoint”), a wholly owned subsidiary of the Company. BravePoint,
headquartered in Norcross, Georgia, provides domestic and international clients
with information technology related business services and solutions for both
enterprise and e-business applications.
Competition
See
discussion on competition in Item 7 under the heading “Management’s Discussion
and Analysis — Competition.”
(i)
(d) Other Subsidiaries
Skipjack,
Inc. (“Skipjack”), Eastern Shore Real Estate, Inc. and Chesapeake Investment
Company are wholly owned subsidiaries of Chesapeake Service Company. Skipjack
and Eastern Shore Real Estate, Inc. own and lease office buildings in Delaware
and Maryland to affiliates of Chesapeake. Chesapeake Investment Company is
a
Delaware affiliated investment company. During 2004, Chesapeake formed a new
company, OnSight Energy, LLC (“OnSight”), to provide distributed energy
solutions to customers requiring reliable, uninterrupted energy sources and/or
those wishing to reduce energy costs.
(ii)
Seasonal Nature of Business
Revenues
from the Company’s residential and commercial natural gas sales and from its
propane distribution activities are affected by seasonal variations, since
the
majority of these sales are to customers using the fuels for heating purposes.
Revenues from these customers are accordingly affected by the mildness or
severity of the heating season.
(iii)
Capital Budget
A
discussion of capital expenditures by business segment and capital expenditures
for environmental control facilities are included in Item 7 under the heading
“Management Discussion and Analysis — Liquidity and Capital
Resources.”
(iv)
Employees
As
of
December 31, 2006, Chesapeake had 437 employees, including 193 in natural gas,
142 in propane and 70 in advanced information services. The remaining 32
employees are considered general and administrative and include officers of
the
Company, treasury, accounting, internal audit, information technology, human
resources and other administrative personnel.
(v)
Executive Officers of the Registrant
Information
pertaining to the executive officers of the Company is as follows:
John
R. Schimkaitis
(age 59)
Mr. Schimkaitis is President and Chief Executive Officer of Chesapeake and
its
subsidiaries. Mr. Schimkaitis assumed the role of Chief Executive Officer on
January 1, 1999. He has served as President since 1997. Prior to this, Mr.
Schimkaitis served as President and Chief Operating Officer, Executive Vice
President, Senior Vice President, Chief Financial Officer, Vice President,
Treasurer, Assistant Treasurer and Assistant Secretary of
Chesapeake.
Michael
P. McMasters
(age 48)
Mr. McMasters is Senior Vice President and Chief Financial Officer of Chesapeake
Utilities Corporation. He was appointed Senior Vice President in 2004 and has
served as Chief Financial Officer since December 1996. He has previously held
the positions of Vice President, Treasurer, Director of Accounting and Rates,
and Controller. From 1992 to May 1994, Mr. McMasters was employed as Director
of
Operations Planning for Equitable Gas Company.
Stephen
C. Thompson
(age 46)
Mr. Thompson is President of Eastern Shore Natural Gas Company and Senior Vice
President of Chesapeake Utilities Corporation. Prior to becoming Senior Vice
President in 2004, he served as Vice President of Chesapeake since May 1997.
He
has also served as Vice President, Director of Gas Supply and Marketing,
Superintendent of Eastern Shore and Regional Manager for the Florida
distribution operations.
Beth
W. Cooper
(age 40)
Ms. Cooper is Vice President, Treasurer and Corporate Secretary of Chesapeake
Utilities Corporation. Ms. Cooper has served as Corporate Secretary since July
2005. She previously served as Assistant Treasurer and Assistant Secretary,
Director of Internal Audit, Director of Strategic Planning, Planning Consultant,
Accounting Manager for Non-regulated Operations and Treasury Analyst. Prior
to
joining Chesapeake, she was employed as an auditor with Ernst & Young’s
Entrepreneurial Services Group.
S.
Robert Zola
(age 54)
Mr. Zola joined Sharp Energy in August of 2002 as President. Prior to joining
Sharp Energy, Mr. Zola most recently served as Northeast Regional Manager of
Synergy Gas, now Cornerstone MLP, in Philadelphia, PA. During his 26-year career
in the propane industry, Mr. Zola also started Bluestreak Propane in Phoenix,
AZ, which after successfully developing the business, was sold to Ferrell
Gas.
(vi)
Financial Information about Geographic Areas
All
of
the Company’s material operations, customers, and assets occur and are located
in the United States.
| (d) |
Available
Information
|
As
a
public company, Chesapeake files annual, quarterly and other reports, as well
as
its annual proxy statement and other information, with the Securities and
Exchange Commission (“SEC”). The public may read and copy any materials that the
Company files with the SEC at the SEC’s Public Reference Room at 100 F Street,
N.E.
Washington,
DC 20549-5546; and the public may obtain information on the operation of the
Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also
maintains an Internet site that contains reports, proxy and information
statements and other information regarding the Company. The address of the
SEC’s
Internet website is www.sec.gov. Chesapeake makes available, free of charge,
on
its Internet website its Annual Report on Form 10-K, Quarterly Reports on Form
10-Q, Current Reports on Form 8-K and amendments to those reports, as soon
as
reasonably practicable after such reports are electronically filed with or
furnished to the SEC. The address of Chesapeake’s Internet website is
www.chpk.com. The content of this website is not part of this
report.
Chesapeake
has a Business Code of Ethics and Conduct applicable to all employees, officers
and directors and a Code of Ethics for Financial Officers. Copies of the
Business Code of Ethics and Conduct and the Financial Officer Code of Ethics
are
available on its internet website. Chesapeake also adopted Corporate Governance
Guidelines and Charters for the Audit Committee, Compensation Committee, and
Governance Committee of the Board of Directors, each of which satisfies the
regulatory requirements established by the Securities and Exchange Commission
and the New York Stock Exchange (“NYSE”). The Board of Directors has also
adopted “Corporate Governance Guidelines on Director Independence,” which
conform to the NYSE listing standards on director independence. Each of these
documents also is available on Chesapeake’s Internet website or may be obtained
by writing to: Corporate Secretary; c/o Chesapeake Utilities Corporation; 909
Silver Lake Blvd.; Dover, DE 19904.
If
Chesapeake makes any amendment to, or grants a waiver of, any provision of
the
Business Code of Ethics and Conduct or the Financial Officer Code of Ethics
applicable to its principal executive officer, principal financial officer,
principal accounting officer or controller, the amendment or waiver will be
disclosed within five business days on the Company’s Internet
website.
Item
1A. Risk Factors.
The
following is a discussion of the primary factors that may affect the operations
and/or financial performance of the regulated and unregulated businesses of
Chesapeake. Refer to the section entitled
“Management’s
Discussion and Analysis of Financial Condition and Results of Operations”
under
Item 7 of this report for an additional discussion of these and other related
factors that affect the Company’s operations and/or financial performance.
The
principal business, economic and other factors that affect the operations and/or
financial performance of the Company include:
Fluctuations
in weather have the potential to adversely affect our results of operations,
cash flows and financial condition.
Our
utility and propane distribution operations are sensitive to fluctuations in
weather, and weather conditions directly influence the volume of natural gas
and
propane delivered by our utility and propane distribution operations to
customers. A significant portion of our utility and propane distribution
operations’ revenues are derived from the delivery of natural gas and propane to
residential and commercial heating customers during the five-month peak heating
season of November through March. If the weather is warmer than normal, we
deliver less natural gas and propane to customers, and earn less revenue. In
addition, hurricanes or other extreme weather conditions could damage production
or transportation facilities, which could result in decreased supplies of
natural gas and propane, increased supply costs and higher prices for customers.
Regulation
of the Company, including changes in the regulatory environment in general,
may
adversely affect our results of operations, cash flows and financial condition.
The
state
Public Service Commissions of Delaware, Maryland and Florida regulate our
natural gas distribution operations. Eastern Shore, our natural gas transmission
subsidiary, is regulated by the FERC. These regulatory agencies set the rates
in
their respective jurisdictions that we can charge customers for our
rate-regulated services. Changes in these rates, as ordered by regulatory
commissions, affect our financial performance. Our ability to obtain timely
future rate increases and rate supplements to maintain current rates of return
depends on regulatory discretion, and there can be no assurance that our
divisions and Eastern Shore will be able to obtain rate increases or supplements
or continue receiving currently authorized rates of return.
The
amount and availability of natural gas and propane supplies are difficult to
predict, which may reduce our earnings.
Natural
gas and propane production can be impacted by factors outside of our control,
such as weather and refinery closings. If we are unable to obtain sufficient
natural gas and propane supplies to meet demand, our results of operations
may
be negatively impacted.
We
rely on having access to interstate pipelines’ transportation and storage
capacity. If these pipelines or storage facilities were not available, it may
impair our ability to meet our customers’ full requirements.
We
must
acquire both sufficient natural gas supplies and interstate pipeline and storage
capacity to meet customer requirements. We must contract for reliable and
adequate delivery capacity for our distribution system, while considering the
dynamics of the interstate pipeline and storage capacity market, our own
on-system resources, as well as, the characteristics of our customer base.
Local
natural gas distribution companies, including us, and other participants in
the
energy industry, have raised concerns regarding the future availability of
additional upstream interstate pipeline and storage capacity. Additional
available pipeline and storage capacity is a business issue that must be managed
by us, as our customer base grows.
Natural
gas and propane commodity price changes may affect the operating costs and
competitive positions of our natural gas and propane distribution operations,
which may adversely affect our results of operations, cash flows and financial
condition.
Natural
Gas.
Over the
last four years, natural gas costs have increased significantly and become
more
volatile. In addition, the hurricane activity in 2005 reduced the natural gas
available from the Gulf Coast region, further contributing to the volatility
of
natural gas prices. Higher natural gas prices can result in significant
increases in the cost of gas billed to customers during the winter heating
season. Under our regulated gas cost recovery mechanisms, we record cost of
gas
expense equal to the cost of gas recovered in revenues from customers.
Therefore, an increase in the cost of gas due to an increase in the price of
the
natural gas commodity generally has no immediate effect on our revenues and
net
income. However, our net income may be reduced due to higher expenses that
may
be incurred for uncollectible customer accounts, as well as, lower volumes
of
natural gas deliveries to customers due to lower natural gas consumption caused
by customer conservation. Increases in the price of natural gas also can affect
our operating cash flows, as well as the competitiveness of natural gas as
an
energy source.
Propane.
The
level of profitability in the retail propane business is largely dependent
on
the difference between the cost of propane and the revenues derived from our
sale of propane to our customers. Propane costs are subject to volatile changes
as a result of product supply or other market conditions, including economic
and
political factors impacting crude oil and natural gas supply or pricing. Propane
cost changes can occur rapidly over a short period of time and can impact
profitability. There is no assurance that we will be able to pass on propane
cost increases fully or immediately, particularly when propane costs increase
or
decrease rapidly. Therefore, average retail sales prices can vary significantly
from year to year as product costs fluctuate with propane, fuel oil, crude
oil
and natural gas commodity market conditions. In addition, in periods of
sustained higher commodity prices, retail sales volumes may be negatively
impacted by customer conservation efforts and increased amounts of uncollectible
accounts, which may adversely affect net income.
We
compete in a competitive environment and may be faced with losing customers
to a
competitor.
We
compete with third-party suppliers to sell gas to industrial customers. As
it
relates to transportation services, our competitors include the interstate
pipelines if distribution customer is located close enough to the transmission
company’s pipeline to make a connection economically feasible.
Our
propane distribution operations compete with several other propane distributors
in their service territories, primarily on the basis of service and price,
emphasizing reliability of service and responsiveness. Some of our competitors
have significantly greater resources. The retail propane industry is mature,
and
we foresee only modest growth in total demand. Given this limited growth, we
expect that year-to-year industry volumes will be principally affected by
weather patterns. Therefore, our ability to grow the propane distribution
business is contingent upon execution of our community gas systems strategy
to
capture market share and to employ service pricing programs that retain and
grow
our customer base. Any failure to retain and grow our customer base would have
an adverse effect on our results.
The
propane wholesale marketing operation competes against various marketers, many
of which have significantly greater resources and are able to obtain price
or
volumetric advantages.
The
advanced information services business faces significant competition from a
number of larger competitors having substantially greater resources available
to
them to compete on the basis of technological expertise, reputation and price.
Costs
of compliance with environmental laws may be
significant
.
We
are
subject to federal, state and local laws and regulations governing environmental
quality and pollution control. These evolving laws and regulations may require
expenditures over a long period of time to control environmental effects at
current and former operating sites, including former manufactured gas plant
sites that we have acquired from third parties. Compliance with these legal
requirements requires us to commit capital toward environmental compliance.
If
we fail to comply with environmental laws and regulations, even if such failure
is caused by factors beyond our control, we may be assessed civil or criminal
penalties and fines.
To
date,
we have been able to recover through approved rate mechanisms the costs of
recovery associated with the remediation of former manufactured gas plant sites.
However, there is no guarantee that we will be able to recover future
remediation costs in the same manner or at all. A change in our approved rate
mechanisms for recovery of environmental remediation costs at former
manufactured gas plant sites could adversely affect our results of operations,
cash flows and financial condition.
Further,
existing environmental laws and regulations may be revised or new laws and
regulations seeking to protect the environment may be adopted or become
applicable to us. Revised or additional laws and regulations could result in
additional operating restrictions on our facilities or increased compliance
costs which may not be fully recoverable by us.
A
change in the economic conditions and interest rates may adversely affect our
results of operations and cash flows.
A
downturn in the economies of the regions in which we operate, which we cannot
accurately predict, might adversely affect our ability to increase our customer
base and other businesses at the same rate they have grown in the recent past.
Further, an increase in interest rates, without the recovery of the higher
cost
of debt in the sales and/or transportation rates we charge our utility
customers, could adversely affect future earnings. An increase in short-term
interest rates would negatively affect our results of operations, which depend
on short-term debt to finance accounts receivable, storage gas inventories,
and
to temporarily finance capital expenditures.
Inflation
may impact our results of operations, cash flows and financial position.
Inflation
affects the cost of supply, labor, products and services required for
operations, maintenance and capital improvements. While the impact of inflation
has remained low in recent years, natural gas and propane prices are subject
to
rapid fluctuations. To help cope with the effects of inflation on our capital
investments and returns, we seek rate relief from regulatory commissions for
regulated operations while monitoring the returns of our unregulated business
operations. There can be no assurance that we will be able to obtain adequate
and timely rate relief to offset the effects of inflation. To compensate for
fluctuations in propane gas prices, we adjust our propane selling prices to
the
extent allowed by the market. However, there can be no assurance that we will
be
able to increase propane sales prices sufficiently to fully compensate for
such
fluctuations in the cost of propane gas to us.
Changes
in technology may adversely affect our advanced information services segment’s
results of operations, cash flows and financial condition.
Our
advanced information services segment participates in a market that is
characterized by rapidly changing technology and accelerating product
introduction cycles. The success of our advanced information services segment
depends upon our ability to address the rapidly changing needs of our customers
by developing and supplying high-quality, cost-effective products, product
enhancements and services on a timely basis, and by keeping pace with
technological developments and emerging industry standards. There can be no
assurance that we will be able to keep up with technological advancements
necessary to make our products competitive.
Our
energy marketing subsidiaries have credit risk and credit requirements that
may
adversely affect our results of operations, cash flows and financial condition.
Xeron,
our propane wholesale and marketing subsidiary, and PESCO, our natural gas
marketing subsidiary in Florida, extend credit to counter-parties. While we
believe Xeron and PESCO utilize prudent credit policies, each of these
subsidiaries is exposed to the risk that it may not be able to collect amounts
owed to it. If the counter-party to such a transaction fails to perform and
any
underlying collateral is inadequate, we could experience financial losses.
Xeron
and
PESCO are dependent upon the availability of credit to buy propane and natural
gas for resale or to trade. If the financial condition of these subsidiaries
declines, or if our financial condition declines, then the cost of credit
available to these subsidiaries could increase. If credit is not available,
or
if credit is more costly, our results of operations, cash flows and financial
condition may be adversely affected.
Our
use of derivative instruments may adversely affect our results of operations.
Fluctuating
commodity prices cause our earnings and financing costs to be impacted. Our
propane distribution and wholesale marketing segment uses derivative
instruments, including forwards, swaps and puts, to hedge price risk. In
addition, we have utilized in the past, and may decide, after further
evaluation, to continue to utilize derivative instruments to hedge price risk
for our Delaware and Maryland divisions, as well as PESCO. While we have a
risk
management policy and operating procedures in place to control our exposure
to
risk, if we purchase derivative instruments that are not properly matched to
our
exposure, our results of operations, cash flows, and financial conditions may
be
adversely impacted.
Inability
to access the capital markets may impair our future growth.
We
rely
on access to both short-term and longer-term capital markets as a significant
source of liquidity for capital requirements not satisfied by the cash flow
from
our operations. Currently, $55 million of the total $80 million of short-term
lines of credit utilized to satisfy our short-term financing requirements are
discretionary, uncommitted lines of credit. We utilize discretionary lines
of
credit to reduce the cost associated with these short-term financing
requirements. We are committed to maintaining a sound capital structure and
strong credit ratings to provide the financial flexibility needed to access
the
capital markets when required. However, if we are not able to access capital
at
competitive rates, our ability to implement our strategic plan, undertake
improvements and make other investments required for our future growth may
be
limited.
Construction
of these facilities is subject to various regulatory, development and
operational risks, include but not limited to
our
ability to obtain necessary approvals and permits by regulatory agencies on
a
timely basis and on terms that are acceptable to us; potential changes in
federal, state and local statutes and regulations, including environmental
requirements, that prevent a project from proceeding or increase the anticipated
cost of the project; impediments on our ability to acquire rights-of-way or
land
rights on a timely basis on terms that are acceptable to us; lack of anticipated
future growth in natural gas supply; and lack of transportation or throughput
commitments.
We
are subject to operating and litigation risks that may not be covered by
insurance.
Our
operations are subject to the operating hazards and risks normally incidental
to
handling, storing, transporting and otherwise providing natural gas and propane
to end users. As a result, we are sometimes a defendant in legal proceedings
and
litigation arising in the ordinary course of business. We maintain insurance
policies with insurers in such amounts and with such coverages and deductibles
as we believe are reasonable and prudent. There can be no assurance; however,
that such insurance will be adequate to protect us from all material expenses
related to potential future claims for personal injury and property damage
or
that such levels of insurance will be available in the future at economical
prices.
Item
1B. Unresolved Staff Comments.
None.
Item
2. Properties
| (a) |
General
|
The
Company owns offices and operates facilities in the following locations:
Pocomoke, Salisbury, Cambridge and Princess Anne, Maryland; Dover, Seaford,
Laurel and Georgetown, Delaware; and Winter Haven, Florida. Chesapeake rents
office space in Dover and Ocean View, Delaware; Jupiter and Lecanto, Florida;
Chincoteague and Belle Haven, Virginia; Easton, and Salisbury, Maryland; Honey
Brook and Allentown, Pennsylvania; Houston, Texas; and Norcross, Georgia. In
general, the Company believes that its properties are adequate for the uses
for
which they are employed. Capacity and utilization of the Company’s facilities
can vary significantly due to the seasonal nature of the natural gas and propane
distribution businesses.
| (b) |
Natural
Gas Distribution
|
Chesapeake
owns over 965 miles of natural gas distribution mains (together with related
service lines, meters and regulators) located in its Delaware and Maryland
service areas and 726 miles of natural gas distribution mains (and related
equipment) in its central Florida service areas. Chesapeake also owns facilities
in Delaware and Maryland for propane-air injection during periods of peak
demand.
| (c) |
Natural
Gas Transmission
|
Eastern
Shore owns and operates approximately 366 miles of transmission pipelines
extending from supply interconnects at Parkesburg, Pennsylvania; Daleville,
Pennsylvania and Hockessin, Delaware to approximately 75 delivery points in
southeastern Pennsylvania, Delaware and the eastern shore of
Maryland.
| (d) |
Propane
Distribution and Wholesale
Marketing
|
The
company’s Delmarva-based propane distribution operation owns bulk propane
storage facilities with an aggregate capacity of approximately 2.0 million
gallons at 42 plant facilities in Delaware, Maryland and Virginia, located
on
real estate that is either owned or leased. The Company’s Florida-based propane
distribution operation owns three bulk propane storage facilities with a total
capacity of 66,000 gallons. Xeron does not own physical storage facilities
or
equipment to transport propane; however, it leases propane storage capacity
and
pipeline capacity.
Item
3. Legal Proceedings
| (a) |
General
|
The
Company and its subsidiaries are involved in various legal actions and claims
arising in the normal course of business. The Company is also involved in
certain legal and administrative proceedings before various governmental
agencies concerning rates. In the opinion of management, the ultimate
disposition of these proceedings will not have a material effect on our
consolidated financial position.
| (b) |
Environmental
|
See
discussion of environmental commitments and contingencies in Item 8 under the
heading “Notes to Consolidated Financial Statements — Note M.”
Item
4. Submission of Matters to a Vote of Security Holders.
None
Part
II
Item
5. Market for the Registrant’s Common Equity, Related Stockholder Matters and
Issuer Purchases of Equity Securities.
| (a) |
Common
Stock Price Ranges, Common Stock Dividends and Shareholder
Information:
|
The
Company’s Common Stock is listed on the New York Stock Exchange under the symbol
“CPK.” The high, low and closing prices of Chesapeake’s Common Stock and
dividends declared per share for each calendar quarter during the years 2006
and
2005 were as follows:
|
Quarter
Ended
|
High
|
Low
|
Close
|
Dividends
Declared Per Share
|
|||||||||
|
2006
|
|||||||||||||
|
March
31
|
$
|
32.47
|
$
|
29.97
|
$
|
31.24
|
$
|
0.285
|
|||||
|
June
30
|
31.20
|
27.90
|
30.08
|
$
|
0.290
|
||||||||
|
September
30
|
35.65
|
29.51
|
30.05
|
$
|
0.290
|
||||||||
|
December
31
|
31.31
|
29.10
|
30.65
|
$
|
0.290
|
||||||||
|
2005
|
|||||||||||||
|
March
31
|
$
|
27.59
|
$
|
25.83
|
$
|
26.60
|
$
|
0.280
|
|||||
|
June
30
|
30.95
|
23.60
|
30.58
|
$
|
0.285
|
||||||||
|
September
30
|
35.60
|
29.50
|
35.16
|
$
|
0.285
|
||||||||
|
December
31
|
35.78
|
30.32
|
30.80
|
$
|
0.285
|
||||||||
Dividend
payments are payable at the discretion of our Board of Directors. Future payment
of dividends, and the amount of these dividends, will depend on our financial
condition, results of operations, capital requirements, and other factors.
We
sold no securities during the year 2006 that were not registered under the
Securities Act of 1933, as amended.
Indentures
to the long-term debt of the Company contain various restrictions. The most
stringent restrictions state that the Company must maintain equity of at least
40 percent of total capitalization and the pro-forma fixed charge coverage
ratio
must be at least 1.5 times. The Company was in compliance with these
restrictions and the other debt covenants during 2006.
At
December 31, 2006, there were 1,978 shareholders of record of the Common
Stock.
| (b) |
Purchases
of Equity Securities by the
Issuer
|
The
following table sets forth information on purchases by or on behalf of
Chesapeake of shares of its Common Stock during the quarter ended December
31,
2006.
Discussion
on compensation plans of Chesapeake and its subsidiaries for which shares of
Chesapeake common stock are authorized for issuance is incorporated herein
by
reference to the portion of the Proxy Statement captioned “Equity Compensation
Plan Information” to be filed not later than March 31, 2007 in connection with
the Company’s Annual Meeting to be held on May 2, 2007.
| (c) |
Chesapeake
Utilities Corporation Common Stock Performance Graph
|
The
following Performance Graph compares the yearly percentage change in cumulative
total shareholder return on the Company’s common stock during the five fiscal
years ended December 31, 2006, with the cumulative return on (i) the
S&P 500 Index and (ii) an industry index consisting of 30 Natural Gas
Distribution and Integrated Natural Gas Companies as published by C.A Turner
Utility Reports.
The
thirty companies in the C.A. Turner industry index are as follows: AGL
Resources, Inc., Atmos Energy Corporation, Cascade Natural Gas Corporation,
Chesapeake Utilities Corporation, Delta Natural Gas Company, Inc., El Paso
Corporation, Energen Corporation, Energy West, Inc., EnergySouth. Inc.,
Equitable Resources, Inc., KeySpan Corporation, Kinder Morgan, Inc., The Laclede
Group, Inc., National Fuel Gas Company, New Jersey Resources Corporation, NICOR,
Inc., Northwest Natural Gas Company, ONEOK, Inc., Peoples Energy Corporation,
Piedmont Natural Gas Co., Inc., Questar Corporation, RGC Resources, Inc., SEMCO
Energy, Inc., South Jersey Industries, Inc., Southern Union Company, Southwest
Gas Corporation, Southwest Energy Company, UGI Corporation, WGL Holdings, Inc.,
and The Williams Companies, Inc.
The
comparison assumes $100 was invested on December 31, 2001 in the Company’s
common stock and in each of the foregoing indices and assumes reinvested
dividends. The comparisons in the Graph below are based on historical data
and
are not intended to forecast the possible future performance of the Company’s
Common Stock.
|
Cumulative
Total Stockholder Return
|
|||||||||||||||||||
|
2001
|
2002
|
2003
|
2004
|
2005
|
2006
|
||||||||||||||
|
Chesapeake
|
$
100
|
$
98
|
$
145
|
$
155
|
$
186
|
$
192
|
|||||||||||||
|
Industry
Index
|
$
100
|
$
96
|
$
121
|
$
156
|
$
200
|
$
236
|
|||||||||||||
|
S
& P 500
|
$
100
|
$
78
|
$
100
|
$
111
|
$
116
|
$
134
|
|||||||||||||
Item
6. Selected Financial Data
|
For
the Years Ended December 31,
|
2006
(3)
|
2005
|
2004
|
2003
|
2002
|
|||||||||||
|
Operating
(in
thousands of dollars)
(1)
|
||||||||||||||||
|
Revenues
|
||||||||||||||||
|
Natural
gas
|
$
|
170,374
|
$
|
166,582
|
$
|
124,246
|
$
|
110,247
|
$
|
93,588
|
||||||
|
Propane
|
48,576
|
48,976
|
41,500
|
41,029
|
29,238
|
|||||||||||
|
Advanced
informations systems
|
12,568
|
14,140
|
12,427
|
12,578
|
12,764
|
|||||||||||
|
Other
and eliminations
|
(317
|
)
|
(68
|
)
|
(218
|
)
|
(286
|
)
|
(334
|
)
|
||||||
|
Total
revenues
|
$
|
231,201
|
$
|
229,630
|
$
|
177,955
|
$
|
163,568
|
$
|
135,256
|
||||||
|
Operating
income
|
||||||||||||||||
|
Natural
gas
|
$
|
19,733
|
$
|
17,236
|
$
|
17,091
|
$
|
16,653
|
$
|
14,973
|
||||||
|
Propane
|
2,534
|
3,209
|
2,364
|
3,875
|
1,052
|
|||||||||||
|
Advanced
informations systems
|
767
|
1,197
|
387
|
692
|
343
|
|||||||||||
|
Other
and eliminations
|
(103
|
)
|
(112
|
)
|
128
|
359
|
237
|
|||||||||
|
Total
operating income
|
$
|
22,931
|
$
|
21,530
|
$
|
19,970
|
$
|
21,579
|
$
|
16,605
|
||||||
|
Net
income from continuing operations
|
$
|
10,507
|
$
|
10,468
|
$
|
9,550
|
$
|
10,079
|
$
|
7,535
|
||||||
|
Assets
(in thousands of dollars)
|
||||||||||||||||
|
Gross
property, plant and equipment
|
$
|
325,836
|
$
|
280,345
|
$
|
250,267
|
$
|
234,919
|
$
|
229,128
|
||||||
|
Net
property, plant and equipment
(2)
|
$
|
240,825
|
$
|
201,504
|
$
|
177,053
|
$
|
167,872
|
$
|
166,846
|
||||||
|
Total
assets
(2)
|
$
|
324,994
|
$
|
295,980
|
$
|
241,938
|
$
|
222,058
|
$
|
223,721
|
||||||
|
Capital
expenditures
(1)
|
$
|
48,969
|
$
|
33,423
|
$
|
17,830
|
$
|
11,822
|
$
|
13,836
|
||||||
|
Capitalization
(in thousands of dollars)
|
||||||||||||||||
|
Stockholders'
equity
|
$
|
111,152
|
$
|
84,757
|
$
|
77,962
|
$
|
72,939
|
$
|
67,350
|
||||||
|
Long-term
debt, net of current maturities
|
71,050
|
58,991
|
66,190
|
69,416
|
73,408
|
|||||||||||
|
Total
capitalization
|
$
|
182,202
|
$
|
143,748
|
$
|
144,152
|
$
|
142,355
|
$
|
140,758
|
||||||
|
Current
portion of long-term debt
|
$
|
7,656
|
$
|
4,929
|
$
|
2,909
|
$
|
3,665
|
$
|
3,938
|
||||||
|
Short-term
debt
|
27,554
|
35,482
|
5,002
|
3,515
|
10,900
|
|||||||||||
|
Total
capitalization and short-term financing
|
$
|
217,412
|
$
|
184,159
|
$
|
152,063
|
$
|
149,535
|
$
|
155,596
|
||||||
|
(1)
These amounts exclude the results of water services due to their
reclassification to discontinued operations. The assets of all
of the
water businesses were sold in 2004 and 2003.
|
||||||||||||||||
|
(2)
SFAS 143 was adopted in the year 2001; therefore, SFAS 143 was
not
applicable for the years prior to 2001.
|
||||||||||||||||
|
(3)
SFAS 123R and SFAS 158 were adopted in the year 2006; therefore,
they were
not applicable for the years prior to 2006.
|
||||||||||||||||
Item
6. Selected Financial Data
|
For
the Years Ended December 31,
|
2001
|
2000
|
1999
|
1998
|
1997
|
|||||||||||
|
Operating
(in
thousands of dollars)
(1)
|
||||||||||||||||
|
Revenues
|
||||||||||||||||
|
Natural
gas
|
$
|
107,418
|
$
|
101,138
|
$
|
75,637
|
$
|
68,770
|
$
|
88,108
|
||||||
|
Propane
|
35,742
|
31,780
|
25,199
|
23,377
|
28,614
|
|||||||||||
|
Advanced
informations systems
|
14,104
|
12,390
|
13,531
|
10,331
|
7,786
|
|||||||||||
|
Other
and eliminations
|
(113
|
)
|
(131
|
)
|
(14
|
)
|
(15
|
)
|
(182
|
)
|
||||||
|
Total
revenues
|
$
|
157,151
|
$
|
145,177
|
$
|
114,353
|
$
|
102,463
|
$
|
124,326
|
||||||
|
Operating
income
|
||||||||||||||||
|
Natural
gas
|
$
|
14,405
|
$
|
12,798
|
$
|
10,388
|
$
|
8,820
|
$
|
9,240
|
||||||
|
Propane
|
913
|
2,135
|
2,622
|
965
|
1,137
|
|||||||||||
|
Advanced
informations systems
|
517
|
336
|
1,470
|
1,316
|
1,046
|
|||||||||||
|
Other
and eliminations
|
386
|
816
|
495
|
485
|
558
|
|||||||||||
|
Total
operating income
|
$
|
16,221
|
$
|
16,085
|
$
|
14,975
|
$
|
11,586
|
$
|
11,981
|
||||||
|
Net
income from continuing operations
|
$
|
7,341
|
$
|
7,665
|
$
|
8,372
|
$
|
5,329
|
$
|
5,812
|
||||||
|
Assets
(in thousands of dollars)
|
||||||||||||||||
|
Gross
property, plant and equipment
|
$
|
216,903
|
$
|
192,925
|
$
|
172,068
|
$
|
152,991
|
$
|
144,251
|
||||||
|
Net
property, plant and equipment
(2)
|
$
|
161,014
|
$
|
131,466
|
$
|
117,663
|
$
|
104,266
|
$
|
99,879
|
||||||
|
Total
assets
(2)
|
$
|
222,229
|
$
|
211,764
|
$
|
166,958
|
$
|
145,029
|
$
|
145,719
|
||||||
|
Capital
expenditures
(1)
|
$
|
26,293
|
$
|
22,057
|
$
|
21,365
|
$
|
12,516
|
$
|
13,471
|
||||||
|
Capitalization
(in thousands of dollars)
|
||||||||||||||||
|
Stockholders'
equity
|
$
|
67,517
|
$
|
64,669
|
$
|
60,714
|
$
|
56,356
|
$
|
53,656
|
||||||
|
Long-term
debt, net of current maturities
|
48,409
|
50,921
|
33,777
|
37,597
|
38,226
|
|||||||||||
|
Total
capitalization
|
$
|
115,926
|
$
|
115,590
|
$
|
94,491
|
$
|
93,953
|
$
|
91,882
|
||||||
|
Current
portion of long-term debt
|
$
|
2,686
|
$
|
2,665
|
$
|
2,665
|
$
|
520
|
$
|
1,051
|
||||||
|
Short-term
debt
|
42,100
|
25,400
|
23,000
|
11,600
|
7,600
|
|||||||||||
|
Total
capitalization and short-term financing
|
$
|
160,712
|
$
|
143,655
|
$
|
120,156
|
$
|
106,073
|
$
|
100,533
|
||||||
|
(1)
These amounts exclude the results of water services due to their
reclassification to discontinued operations. The assets of all
of the
water businesses were sold in 2004 and 2003.
|
||||||||||||||||
|
(2)
SFAS 143 was adopted in the year 2001; therefore, SFAS 143 was
not
applicable for the years prior to 2001.
|
||||||||||||||||
|
(3)
SFAS 123R and SFAS 158 were adopted in the year 2006; therefore,
they were
not applicable for the years prior to 2006.
|
||||||||||||||||
Item
6. Selected Financial Data
|
For
the Years Ended December 31,
|
2006
(3)
|
2005
|
2004
|
2003
|
2002
|
|||||||||||
|
Common
Stock Data and Ratios
|
||||||||||||||||
|
Basic
earnings per share from continuing operations
(1)
|
$
|
1.74
|
$
|
1.79
|
$
|
1.66
|
$
|
1.80
|
$
|
1.37
|
||||||
|
Diluted
earnings per share from continuing operations
(1)
|
$
|
1.72
|
$
|
1.77
|
$
|
1.64
|
$
|
1.76
|
$
|
1.37
|
||||||
|
Return
on average equity from continuing operations
(1)
|
10.7
|
%
|
12.9
|
%
|
12.7
|
%
|
14.4
|
%
|
11.2
|
%
|
||||||
|
Common
equity / total capitalization
|
61.0
|
%
|
59.0
|
%
|
54.1
|
%
|
51.2
|
%
|
47.8
|
%
|
||||||
|
Common
equity / total capitalization and short-term financing
|
51.1
|
%
|
46.0
|
%
|
51.3
|
%
|
48.8
|
%
|
43.3
|
%
|
||||||
|
Book
value per share
|
$
|
16.62
|
$
|
14.41
|
$
|
13.49
|
$
|
12.89
|
$
|
12.16
|
||||||
|
Market
price:
|
||||||||||||||||
|
High
|
$
|
35.650
|
$
|
35.780
|
$
|
27.550
|
$
|
26.700
|
$
|
21.990
|
||||||
|
Low
|
$
|
27.900
|
$
|
23.600
|
$
|
20.420
|
$
|
18.400
|
$
|
16.500
|
||||||
|
Close
|
$
|
30.650
|
$
|
30.800
|
$
|
26.700
|
$
|
26.050
|
$
|
18.300
|
||||||
|
Average
number of shares outstanding
|
6,032,462
|
5,836,463
|
5,735,405
|
5,610,592
|
5,489,424
|
|||||||||||
|
Shares
outstanding at year-end
|
6,688,084
|
5,883,099
|
5,778,976
|
5,660,594
|
5,537,710
|
|||||||||||
|
Registered
common shareholders
|
1,978
|
2,026
|
2,026
|
2,069
|
2,130
|
|||||||||||
|
Cash
dividends declared per share
|
$
|
1.16
|
$
|
1.14
|
$
|
1.12
|
$
|
1.10
|
$
|
1.10
|
||||||
|
Dividend
yield (annualized)
(2)
|
3.8
|
%
|
3.7
|
%
|
4.2
|
%
|
4.2
|
%
|
6.0
|
%
|
||||||
|
Payout
ratio from continuing operations
(1)
(4)
|
66.7
|
%
|
63.7
|
%
|
67.5
|
%
|
61.1
|
%
|
80.3
|
%
|
||||||
|
Additional
Data
|
||||||||||||||||
|
Customers
|
||||||||||||||||
|
Natural
gas distribution and transmission
|
59,132
|
54,786
|
50,878
|
47,649
|
45,133
|
|||||||||||
|
Propane
distribution
|
33,282
|
32,117
|
34,888
|
34,894
|
34,566
|
|||||||||||
|
Volumes
|
||||||||||||||||
|
Natural
gas distribution and transmission deliveries (in MMCF)
|
34,321
|
34,981
|
31,430
|
29,375
|
27,935
|
|||||||||||
|
Propane
distribution (in thousands of gallons)
|
24,243
|
26,178
|
24,979
|
25,147
|
21,185
|
|||||||||||
|
Heating
degree-days (Delmarva Peninsula)
|
||||||||||||||||
|
Actual
HDD
|
3,931
|
4,792
|
4,553
|
4,715
|
4,161
|
|||||||||||
|
10
-year average HDD (normal)
|
4,372
|
4,436
|
4,389
|
4,409
|
4,393
|
|||||||||||
|
Propane
bulk storage capacity (in thousands of gallons)
|
2,315
|
2,315
|
2,045
|
2,195
|
2,151
|
|||||||||||
|
Total
employees
(1)
|
437
|
423
|
426
|
439
|
455
|
|||||||||||
|
(1)
These amounts exclude the results of water services due to their
reclassification to discontinued operations. The assets of all
of the
water businesses were sold in 2004 and 2003.
|
||||||||||||||||
|
(2)
Dividend yield (annualized) is calculated by multiplying the
fourth
quarter dividend by four (4), then dividing that amount by the
closing
common stock price at December 31.
|
||||||||||||||||
|
(3)
SFAS 123R and SFAS 158 were adopted in the year 2006; therefore,
they were
not applicable for the years prior to 2006.
|
||||||||||||||||
|
(4)
The payout ratio from continuing operations is calculated by
dividing cash
dividends declared per share (for the year) by basic earnings
per share
from continuing operations.
|
||||||||||||||||
Item
6. Selected Financial Data
|
For
the Years Ended December 31,
|
2001
|
2000
|
1999
|
1998
|
1997
|
|||||||||||
|
Common
Stock Data and Ratios
|
||||||||||||||||
|
Basic
earnings per share from continuing operations
(1)
|
$
|
1.37
|
$
|
1.46
|
$
|
1.63
|
$
|
1.05
|
$
|
1.17
|
||||||
|
Diluted
earnings per share from continuing operations
(1)
|
$
|
1.35
|
$
|
1.43
|
$
|
1.59
|
$
|
1.04
|
$
|
1.15
|
||||||
|
Return
on average equity from continuing operations
(1)
|
11.1
|
%
|
12.2
|
%
|
14.3
|
%
|
9.7
|
%
|
11.1
|
%
|
||||||
|
Common
equity / total capitalization
|
58.2
|
%
|
55.9
|
%
|
64.3
|
%
|
60.0
|
%
|
58.4
|
%
|
||||||
|
Common
equity / total capitalization and short-term financing
|
42.0
|
%
|
45.0
|
%
|
50.5
|
%
|
53.1
|
%
|
53.4
|
%
|
||||||
|
Book
value per share
|
$
|
12.45
|
$
|
12.21
|
$
|
11.71
|
$
|
11.06
|
$
|
10.72
|
||||||
|
Market
price:
|
||||||||||||||||
|
High
|
$
|
19.900
|
$
|
18.875
|
$
|
19.813
|
$
|
20.500
|
$
|
21.750
|
||||||
|
Low
|
$
|
17.375
|
$
|
16.250
|
$
|
14.875
|
$
|
16.500
|
$
|
16.250
|
||||||
|
Close
|
$
|
19.800
|
$
|
18.625
|
$
|
18.375
|
$
|
18.313
|
$
|
20.500
|
||||||
|
Average
number of shares outstanding
|
5,367,433
|
5,249,439
|
5,144,449
|
5,060,328
|
4,972,086
|
|||||||||||
|
Shares
outstanding at year-end
|
5,424,962
|
5,297,443
|
5,186,546
|
5,093,788
|
5,004,078
|
|||||||||||
|
Registered
common shareholders
|
2,171
|
2,166
|
2,212
|
2,271
|
2,178
|
|||||||||||
|
Cash
dividends declared per share
|
$
|
1.10
|
$
|
1.07
|
$
|
1.03
|
$
|
1.00
|
$
|
0.97
|
||||||
|
Dividend
yield (annualized)
(2)
|
5.6
|
%
|
5.8
|
%
|
5.7
|
%
|
5.5
|
%
|
4.7
|
%
|
||||||
|
Payout
ratio from continuing operations
(1)
(4)
|
80.3
|
%
|
73.3
|
%
|
63.2
|
%
|
95.2
|
%
|
82.9
|
%
|
||||||
|
Additional
Data
|
||||||||||||||||
|
Customers
|
||||||||||||||||
|
Natural
gas distribution and transmission
|
42,741
|
40,854
|
39,029
|
37,128
|
35,797
|
|||||||||||
|
Propane
distribution
|
35,530
|
32,117
|
35,267
|
34,113
|
33,123
|
|||||||||||
|
Volumes
|
||||||||||||||||
|
Natural
gas distribution and transmission deliveries (in MMCF)
|
27,264
|
30,830
|
27,383
|
21,400
|
23,297
|
|||||||||||
|
Propane
distribution (in thousands of gallons)
|
23,080
|
28,469
|
27,788
|
25,979
|
26,682
|
|||||||||||
|
Heating
degree-days (Delmarva Peninsula)
|
||||||||||||||||
|
Actual
HDD
|
4,368
|
4,730
|
4,082
|
3,704
|
4,430
|
|||||||||||
|
10
-year average HDD (normal)
|
4,446
|
4,356
|
4,409
|
4,493
|
4,574
|
|||||||||||
|
Propane
bulk storage capacity (in thousands of gallons)
|
1,958
|
1,928
|
1,926
|
1,890
|
1,866
|
|||||||||||
|
Total
employees
(1)
|
458
|
471
|
466
|
431
|
397
|
|||||||||||
|
(1)
These amounts exclude the results of water services due to their
reclassification to discontinued operations. The assets of all
of the
water businesses were sold in 2004 and 2003.
|
||||||||||||||||
|
(2)
Dividend yield (annualized) is calculated by multiplying the fourth
quarter dividend by four (4), then dividing that amount by the
closing
common stock price at December 31.
|
||||||||||||||||
|
(3)
SFAS 123R and SFAS 158 were adopted in the year 2006; therefore,
they were
not applicable for the years prior to 2006.
|
||||||||||||||||
|
(4)
The payout ratio from continuing operations is calculated by dividing
cash
dividends declared per share (for the year) by basic earnings per
share
from continuing operations.
|
||||||||||||||||
Item
7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations
INTRODUCTION
This
section provides management’s discussion of Chesapeake Utilities Corporation and
its consolidated subsidiaries with specific information on results of operations
and liquidity and capital resources. It includes management’s interpretation of
our financial results, the factors affecting these results, the major factors
expected to affect future operating results and future investment and financing
plans. This discussion should be read in conjunction with our consolidated
financial statements and notes thereto.
Several
factors exist that could influence our future financial performance, some of
which are described in Item 1A above, “Risk Factors”. They should be
considered in connection with evaluating forward-looking statements contained
in
this report or otherwise made by or on behalf of us since these factors could
cause actual results and conditions to differ materially from those set out
in
such forward-looking statements.
EXECUTIVE
OVERVIEW
Exec
Chesapeake
is a diversified utility company engaged directly or through subsidiaries in
natural gas distribution, transmission and marketing, propane distribution
and
wholesale marketing, advanced information services and other related
businesses.
The
Company’s strategy is focused on growing earnings from a stable utility
foundation and investing in related businesses and services that provide
opportunities for returns greater than traditional utility returns. The key
elements of this strategy include:
| · |
Executing
a capital investment program in pursuit of organic growth opportunities
that generate returns equal to or greater than our cost of
capital.
|
| · |
Expanding
the natural gas distribution and transmission business through expansion
into new geographic areas in our current service
territories.
|
| · |
Expanding
the propane distribution business in existing and new markets through
leveraging our community gas system services and our bulk delivery
capabilities.
|
| · |
Utilizing
the Company’s expertise across our various businesses to improve overall
performance.
|
| · |
Enhancing
marketing channels to attract new customers and providing reliable
and
responsive customer service to retain existing
customers.
|
| · |
Maintaining
a capital structure that enables the Company to access capital as
needed.
|
| · |
Maintaining
a consistent and competitive
dividend.
|
In
2006,
the Company earned $10,507,000 in net income, or $1.72 per share (diluted),
in spite of weather that was the second warmest in the last thirty years. In
2005, net income was $10,468,000, or $1.77 per diluted share. Overall,
operating income in 2006 increased $1,401,000, or 6.5 percent from 2005, despite
weather that was 18 percent warmer than in 2005. However, the increase in
operating income was offset by a decline of $194,000, or 51 percent, in other
income, net of other expenses, and increases in interest expense of $644,000,
or
12.5 percent, and income taxes of $525,000, or 8.3 percent. The net result
was
that net income was up by only $39,000, or 0.4 percent.
The
following discussions and those later in the document on operating income and
segment results include use of the term “gross margin.” Gross margin is
determined by deducting the cost of sales from operating revenue. Cost of sales
includes the purchased gas cost for natural gas and propane and the cost of
labor spent on direct revenue-producing activities. Gross margin should not
be
considered an alternative to operating income or net income, which are
determined in accordance with Generally Accepted Accounting Principles (“GAAP”).
Chesapeake believes that gross margin, although a non-GAAP measure, is useful
and meaningful to investors as a basis for making investment decisions. It
provides investors with information that demonstrates the profitability achieved
by the Company under its allowed rates for regulated operations and under its
competitive pricing structure for non-regulated segments. Chesapeake’s
management uses gross margin in measuring its business units’ performance and
has historically analyzed and reported gross margin information publicly. Other
companies may calculate gross margin in a different manner.
Operating
Income
The
year
2006 reflects the strong year-over-year operating income growth experienced
by
the Company’s natural gas operations of $2,497,000, or 14.5 percent. This growth
was offset by reductions in operating income from propane and advanced
information services. In 2006, both natural gas and propane segments were
negatively impacted by weather that was 18 percent warmer than in 2005. The
Company estimates that the warmer weather reduced gross margin by $3.4 million
in 2006. The natural gas segment was able to overcome the weather impact and
show an increase in operating income due to its growth and cost containment
efforts. However, as the propane segment is more weather sensitive and is not
experiencing the high level of growth of our natural gas segment, its operating
income declined when compared to 2005.
Advanced
information services experienced a decrease in operating income in 2006 as
compared to the prior year due in part to the gain on the sale of Lightweight
Association Management Processing System (“LAMPS
TM
”)
during
the fourth quarter of 2005.
The
LAMPS
product was internally developed software that was developed and marketed
specifically for REALTOR® Associations.
Key
financial and operational highlights for fiscal year 2006 include the following:
| · |
Customer
growth in the natural gas and propane businesses remained strong,
with the
Delmarva and Florida natural gas distribution operations registering
9 and
8 percent increases in residential customers, respectively; and the
Delmarva Community Gas Systems (“CGS”) generating a 34 percent increase in
propane distribution customers.
|
| · |
In
June 2006, Eastern Shore Natural Gas announced that it had received
approval from the Federal Energy Regulatory Commission (“FERC”) to expand
its pipeline system in the years 2006, 2007 and 2008. The entire
project
represents an investment of $33.6 million, with expected annualized
revenue of $6.7 million after the full build-out of the
facilities.
|
| · |
On
September 26, 2006, the Company received approval for a base rate
increase
from the Maryland Public Service Commission (“PSC”) for our Maryland
natural gas operations, with the new base rates effective October
1, 2006.
The base rate adjustment results in an increase in base rates of
approximately $780,000, which would result in an average increase
in
revenues of approximately 4.5 percent for the Company’s firm residential,
commercial and industrial customers in Maryland. The PSC also approved
the
Company’s proposal to implement a revenue normalization mechanism for its
residential heating and smaller commercial heating customers, reducing
the
Company’s future risk due to weather and usage
changes.
|
| · |
In
November 2006, the Company completed a public offering of 600,300
shares
of its common stock at a price per share of $30.10. Additionally,
in
November 2006, the Company completed the sale of 90,045 additional
shares
of its common stock, pursuant to the over-allotment option granted
to the
Underwriters by the Company. The net proceeds of approximately $19.7
million, after the deduction of underwriting commissions and expenses
from
the sale of the common stock, were added to the Company’s general funds
and primarily used to repay a portion of the Company’s short-term debt.
|
| · |
Total
capitalization, including short-term borrowing, increased $33.3 million
at
December 31, 2006 compared with December 31, 2005. The increased
capitalization was obtained to fund the $39.3 million increase in
net
plant and for other working capital
needs.
|
| · |
For
the year ended December 31, 2006, the Company generated
$30.1 million in operating cash flow compared with $13.6 million
for the year ended December 31, 2005. The higher cost of natural
gas and
propane in 2005 had an adverse impact on working capital in
2005.
|
| · |
Net
property, plant and equipment increased to $240.8 million at December
31, 2006 from $201.5 million at December 31, 2005, primarily
reflecting continued capital investment to support customer
growth.
|
| · |
In
June 2006, Eastern Shore announced the Bay Crossing Project for which
it
plans to develop, construct and operate new pipeline facilities that
would
transport natural gas from Calvert County, Maryland, cross under
the
Chesapeake Bay into Dorchester and Caroline Counties, Maryland, to
points
on the Delmarva Peninsula where such facilities would interconnect
with
its existing facilities in Sussex County, Delaware. If completed,
the
project will expand the capacity of its interstate pipeline system
by
approximately 33 percent. We still have significant obstacles to
overcome
on this project to make it a reality. In 2007, Eastern Shore will
initiate
the processes required to obtain the FERC and other federal, state
and
local permits required to construct the project. Eastern Shore received
approval from the FERC in August 2006 to recover the pre-service
costs
associated with this pipeline project through its rates from two
of its
customers. As of December 31, 2006, the Company had deferred a total
of
$409,000 of pre-service costs associated with the
project.
|
The
Company’s financial performance is discussed in greater detail below in Results
of Operations.
Critical
Accounting Policies
Chesapeake’s
reported financial condition and results of operations are affected by the
accounting methods, assumptions and estimates that are used in the preparation
of the Company’s financial statements. Because most of Chesapeake’s businesses
are regulated, the accounting methods used by Chesapeake must comply with the
requirements of the regulatory bodies; therefore, the choices available are
limited by these regulatory requirements. Management believes that the following
policies require significant estimates or other judgments of matters that are
inherently uncertain. These policies and their application have been discussed
with Chesapeake’s Audit Committee.
Regulatory
Assets and Liabilities
Chesapeake
records certain assets and liabilities in accordance with Statement of Financial
Accounting Standards (“SFAS”) No. 71 “Accounting for the Effects of Certain
Types of Regulation.” Costs are deferred when there is a probable expectation
that they will be recovered in future revenues as a result of the regulatory
process. At December 31, 2006, Chesapeake had recorded regulatory assets of
$3.0
million, including $1.1 million for under-recovered purchased gas costs, $1.3
million for tax-related regulatory assets, $139,000 for defined postretirement
benefits, and $122,000 for environmental cost recovery. The Company has recorded
regulatory liabilities totaling $23.8 million, including $18.4 million for
accrued asset removal cost, $2.4 million for over-recovered purchased gas costs,
$1.2 million for self-insurance, $1.2 million for cash in/cash out, and $349,000
for over-collected environmental costs at December 31, 2006. If the Company
were
required to terminate application of SFAS No. 71, it would be required to
recognize all such deferred amounts as a charge to earnings, net of applicable
income taxes. Such a charge could have a material adverse effect on the
Company’s results of operations.
Valuation
of Environmental Assets and Liabilities
As
more
fully described in Note M to the Financial Statements, Chesapeake has completed
its responsibilities related to one environmental site and is currently
participating in the investigation, assessment or remediation of three other
former manufactured gas plant sites. Amounts have been recorded as environmental
liabilities and associated environmental regulatory assets based on estimates
of
future costs provided by independent consultants. There is uncertainty in these
amounts because the Environmental Protection Agency (“EPA”) or applicable state
environmental authority may not have selected the final remediation methods.
Additionally, there is uncertainty due to the outcome of legal remedies sought
from other potentially responsible parties. At December 31, 2006, Chesapeake
had
recorded environmental regulatory assets of $122,000 and a regulatory liability
of $350,000 for over-collections and an additional liability of $212,000 for
environmental costs.
Propane
Wholesale Marketing Contracts
Chesapeake’s
propane wholesale marketing operation enters into forward and futures contracts
that are considered derivatives under SFAS No. 133, “Accounting for Derivative
Instruments and Hedging Activities.” In accordance with the pronouncement, open
positions are marked to market prices at the end of each reporting period and
unrealized gains or losses are recorded in the Consolidated Statement of Income
as revenue. The contracts all mature within one year, and are almost exclusively
for propane commodities with delivery points of Mt. Belvieu, Texas, Conway,
Kansas and Hattiesburg, Mississippi. Management estimates the market valuation
based on references to exchange-traded futures prices, historical differentials
and actual trading activity at the end of the reporting period. At December
31,
2006, these contracts had net unrealized gains of $8,500 that was recorded
in
the financial statements. At December 31, 2005, these contracts had net
unrealized gains of $46,000 that were recorded in the financial
statements.
Operating
Revenues
Revenues
for the natural gas distribution operations of the Company are based on rates
approved by the public service commissions (“PSC”) of the jurisdictions in which
we operate. The natural gas transmission operation’s revenues are based on rates
approved by the FERC. Customers’ base rates may not be changed without formal
approval by these commissions. However, the regulatory authorities have granted
the Company’s regulated natural gas distribution operations the ability to
negotiate rates with customers that have competitive alternatives using approved
methodologies. In addition, the natural gas transmission operation can negotiate
rates above or below the FERC approved tariff rates.
Chesapeake’s
natural gas distribution operations in Delaware and Maryland each have a gas
cost recovery mechanism that provides for the adjustment of rates charged to
customers as gas costs fluctuate. These amounts are collected or refunded
through adjustments to rates in subsequent periods.
The
Company charges flexible rates to the natural gas distribution’s industrial
interruptible customers to make them competitive with alternative types of
fuel.
Based on pricing, these customers can choose natural gas or alternative types
of
supply. Neither the Company nor the interruptible customer is contractually
obligated to deliver or receive natural gas.
The
propane wholesale marketing operation records trading activity, on a net
mark-to-market basis in the Company’s income statement, for open contracts. The
natural gas segment recognizes revenue on an accrual basis. The propane
distribution, advanced information services and other segments record revenue
in
the period the products are delivered and/or services are rendered.
Results
of Operations
The
Company’s net income from continuing operations increased $39,000 in 2006 when
compared to 2005. Net income was $10.50 million, or $1.72 per share (diluted),
for 2006, compared to a net income of $10.47 million, or $1.77 per share
(diluted).
The
Company’s net income from continuing operations increased $918,000, or 10
percent, in 2005 compared to 2004. Net income from continuing operations was
$10.5 million, or $1.77 per share (diluted), compared to a net income from
continuing operations of $9.6 million, or $1.64 per share (diluted) for 2004.
During
2003, Chesapeake decided to exit the water services business and had sold the
assets of six of seven dealerships by December 31, 2003. The remaining operation
was sold in 2004. The results of water services were classified as discontinued
operations for year 2004. Discontinued operations experienced losses of $0.02
per share (diluted) for 2004.
|
Operating
Income Summary (in thousands)
|
|||||||||||||||||||
|
For
the Years Ended December 31,
|
2006
|
2005
|
Increase
(decrease)
|
2005
|
2004
|
Increase
(decrease)
|
|||||||||||||
|
Business
Segment:
|
|||||||||||||||||||
|
Natural
gas
|
$
|
19,733
|
$
|
17,236
|
$
|
2,497
|
$
|
17,236
|
$
|
17,091
|
$
|
145
|
|||||||
|
Propane
|
2,534
|
3,209
|
(675
|
)
|
3,209
|
2,364
|
845
|
||||||||||||
|
Advanced
information services
|
767
|
1,197
|
(430
|
)
|
1,197
|
387
|
810
|
||||||||||||
|
Other
& eliminations
|
(103
|
)
|
(112
|
)
|
9
|
(112
|
)
|
128
|
(240
|
)
|
|||||||||
|
Total
Operating Income
|
$
|
22,931
|
$
|
21,530
|
$
|
1,401
|
$
|
21,530
|
$
|
19,970
|
$
|
1,560
|
|||||||
2006
Compared to 2005
Operating
income in 2006 increased $1.4 million, or 6.5 percent, greater than 2005,
despite adverse weather, which when measured in terms of heating degree-days,
was 18 percent warmer. The improved 2006 results of operations when compared
to
2005 were impacted by:
| · |
Weather
on the Delmarva Peninsula was 18 percent warmer in 2006 than 2005,
which
the Company estimates to have cost approximately $3.4 million in
gross
margin for its Delmarva natural gas and propane distribution operations.
|
| · |
Strong
residential customer growth of 9 percent and 8 percent, respectively,
for
the Delmarva and Florida natural gas distribution operations in 2006.
|
| · |
The
natural gas transmission operation achieved gross margin growth of
$1.8
million, or 11 percent, due to additional capacity contracts that
went
into effect in November 2005 and November 2006.
|
| · |
A
67 percent increase in the number of customers for the Company’s natural
gas marketing operation.
|
| · |
Gross
margin for the Delmarva propane distribution operations decreased
$834,000, primarily from the warmer weather in
2006.
|
| · |
The
Delmarva Community Gas Systems continue to experience strong customer
growth as the number of customers increased 34 percent in 2006 compared
to
2005.
|
| · |
Operating
income for the advanced information services segment decreased $430,000
in
2006. Although revenues from consulting increased $749,000 in 2006,
the
2005 results contained $993,000 of operating income for the
LAMPS
TM
product,
which was sold in the fourth quarter
2005.
|
2005
Compared to 2004
The
improvement in results for 2005 versus 2004 was primarily driven
by:
| · |
The
LAMPS™ product, including the sale of its property rights, contributed
$622,000 to operating income in 2005 for the Company’s advanced
information services segment.
|
| · |
The
Delmarva and Florida natural gas distribution operations experienced
strong residential customer growth of 9 percent and 7 percent,
respectively, in 2005.
|
| · |
Temperatures
on the Delmarva Peninsula were 5 percent colder than 2004, which
led to
increased contributions from the Company’s natural gas and propane
distribution operations. This increase was offset by conservation
efforts
by customers.
|
| · |
The
natural gas transmission operation achieved gross margin growth of
9
percent due to additional transportation capacity contracts that
went into
effect in November 2004.
|
| · |
A
100 percent increase in the number of customers for the Company’s natural
gas marketing operation.
|
| · |
An
increase of 1.1 million gallons sold by the Delmarva propane distribution
operation.
|
Natural
Gas Distribution, Transmission, and Marketing
The
natural gas segment earned operating income of $19.7 million for 2006, $17.2
million for 2005, and $17.1 million for 2004, resulting in increases of $2.5
million, or 14.5 percent, for 2006 and $145,000, or 1.0 percent, for
2005.
|
Natural
Gas Distribution, Transmission, and Marketing (in
thousands)
|
|||||||||||||||||||
|
For
the Years Ended December 31,
|
2006
|
2005
|
Increase
(decrease)
|
2005
|
2004
|
Increase
(decrease)
|
|||||||||||||
|
Revenue
|
$
|
170,374
|
$
|
166,582
|
$
|
3,792
|
$
|
166,582
|
$
|
124,246
|
$
|
42,336
|
|||||||
|
Cost
of gas
|
117,948
|
116,178
|
1,770
|
116,178
|
77,456
|
38,722
|
|||||||||||||
|
Gross
margin
|
52,426
|
50,404
|
2,022
|
50,404
|
46,790
|
3,614
|
|||||||||||||
|
Operations
& maintenance
|
22,673
|
23,874
|
(1,201
|
)
|
23,874
|
21,129
|
2,745
|
||||||||||||
|
Depreciation
& amortization
|
6,312
|
5,682
|
630
|
5,682
|
5,418
|
264
|
|||||||||||||
|
Other
taxes
|
3,708
|
3,612
|
96
|
3,612
|
3,152
|
460
|
|||||||||||||
|
Other
operating expenses
|
32,693
|
33,168
|
(475
|
)
|
33,168
|
29,699
|
3,469
|
||||||||||||
|
Total
Operating Income
|
$
|
19,733
|
$
|
17,236
|
$
|
2,497
|
$
|
17,236
|
$
|
17,091
|
$
|
145
|
|||||||
|
Heating
Degree-Day (HDD) and Customer Analysis
|
|||||||||||||||||||
|
For
the Years Ended December 31,
|
2006
|
2005
|
Increase
(decrease)
|
2005
|
2004
|
Increase
(decrease)
|
|||||||||||||
|
Heating
degree-day data — Delmarva
|
|||||||||||||||||||
|
Actual
HDD
|
3,931
|
4,792
|
(861
|
)
|
4,792
|
4,553
|
239
|
||||||||||||
|
10-year
average HDD
|
4,372
|
4,436
|
(64
|
)
|
4,436
|
4,383
|
53
|
||||||||||||
|
Estimated
gross margin per HDD
|
$
|
2,013
|
$
|
2,234
|
($221
|
)
|
$
|
2,234
|
$
|
1,800
|
$
|
434
|
|||||||
|
Estimated
dollars per residential customer added:
|
|||||||||||||||||||
|
Gross
margin
|
$
|
372
|
$
|
372
|
$
|
0
|
$
|
372
|
$
|
372
|
$
|
0
|
|||||||
|
Other
operating expenses
|
$
|
111
|
$
|
106
|
$
|
5
|
$
|
106
|
$
|
104
|
$
|
2
|
|||||||
|
Average
number of residential customers
|
|||||||||||||||||||
|
Delmarva
|
40,535
|
37,346
|
3,189
|
37,346
|
34,352
|
2,994
|
|||||||||||||
|
Florida
|
12,663
|
11,717
|
946
|
11,717
|
10,910
|
807
|
|||||||||||||
|
Total
|
53,198
|
49,063
|
4,135
|
49,063
|
45,262
|
3,801
|
|||||||||||||
2006
Compared to 2005
Gross
margin for the Company’s natural gas segment increased $2.0 million, or 4
percent, and other operating expenses decreased $475,000, or 1 percent, in
2006
compared to 2005. The gross margin increases of $1.8 million for the natural
gas
transmission operation, $395,000 for the Florida natural gas distribution
operation and $75,000 for the natural gas marketing operation were partially
offset by lower gross margin of $210,000 for the Delmarva natural gas
distribution operations.
Natural
Gas Transmission
The
natural gas transmission operation achieved gross margin growth of $1.8 million,
or 11 percent. Of the $1.8 million increase, $1.1 million was attributed to
new
transportation capacity contracts implemented in November 2005 and $612,000
due
to new transportation capacity contracts implemented in November 2006. In 2007,
the new transportation capacity contracts implemented in November 2006 are
expected to generate an additional gross margin of $3.3 million above and beyond
2006 gross margins. An increase of $416,000 in other operating expenses
partially offset the increased gross margin. The factors contributing to the
increased expenses are as follow:
| · |
Payroll
costs and incentive compensation increased $108,000 to serve the
additional growth experienced by the operation.
|
| · |
Higher
depreciation and asset removal costs of $558,000 and increased property
taxes of $109,000 due to an increase in the level of capital
investment.
|
| · |
A
reduction of $376,000 as a result of the operation receiving approval
from
the FERC to recover certain pre-service costs associated with the
Bay
Crossing Project. Please refer to the Regulatory Matters section
under
Other Matters within Item 2 of the Management’s Discussion and Analysis
for additional details. As a result of this approval, the Company
is
deferring the pre-service costs that it incurs. In 2006, the Company
deferred $188,000 of costs previously incurred and expensed in 2005.
As a
result of this deferral, the amounts recognized in the Company’s income
statement have declined from 2005 by
$376,000.
|
| · |
There
was an increase of approximately $17,000 in other operating expenses
relating to various minor items.
|
Natural
Gas Marketing
Gross
margin for the natural gas marketing operation increased $75,000 for 2006
compared to 2005. The increase was attained primarily from an increase in the
number of customers to which it provides supply management services. Other
operating expenses decreased $78,000 for the operation due to lower levels
of
consulting services, partially offset by an increase in the allowance for
uncollectible accounts.
Natural
Gas Distribution
Gross
margin for the Florida distribution operation increased by $395,000. The impact
of an 8 percent growth in residential customers contributed $230,000 to gross
margin. In addition to residential customer growth, new commercial and
industrial customers contributed $91,000 to gross margin in 2006. The remaining
$74,000 increase in gross margin is attributed to various factors, including
turn-on revenue.
The
Delmarva distribution operations experienced a decrease of $210,000 in gross
margin. Weather significantly impacted gross margin in 2006 compared to 2005
as
temperatures on the Delmarva Peninsula were 18 percent warmer in 2006. The
Company estimates that the warmer temperatures in 2006 led to a decrease in
gross margin of approximately $1.7 million when compared to 2005. This decrease
was partially offset by continued residential customer growth. The average
number of residential customers on the Delmarva Peninsula increased 3,189,
or 9
percent, for 2006 compared to 2005 and the Company estimates these additional
residential customers contributed approximately $1.2 million to gross margin.
The remaining $190,000 increase in gross margin can be attributed to various
factors, including an increase in the number of commercial customers and
decrease of interruptible sales.
Other
operating expense for the natural gas distribution operations decreased $814,000
in 2006 compared to 2005. Some of the key components of the decrease in other
operating expenses in 2006, compared to 2005, include the following:
| · |
Health
care costs decreased by $313,000 as a result of the Company changing
health care service providers in November 2005 and has subsequently
experienced lower costs related to claims.
|
| · |
Allowance
for uncollectible accounts decreased by $289,000 in 2006 compared
to 2005
due to lower revenues and increased collection efforts. Revenues
are down
due to lower prices and warmer
temperatures.
|
| · |
Incentive
compensation decreased $177,000 in 2006 to reflect lower than expected
earnings
|
| · |
Lower
corporate costs due to lower payroll and related
expenses.
|
| · |
Depreciation
and amortization expense and asset removal cost increased $132, 000
and
$186, 000, respectively, as a result of the Company’s continued capital
investments.
|
| · |
Merchant
payment fees increased $136,000 in 2006 compared to 2005 as the Company
experienced more customers making payments with the use of credit
cards.
|
| · |
In
addition, there is an increase of approximately $55,000 in other
operating
expenses relating to various minor
items.
|
2005
Compared to 2004
Gross
margin for the Company’s natural gas segment increased $3.6 million, or 8
percent, which was partially offset by higher other operating expenses of $3.5
million in 2005 compared to 2004. Each of the natural gas operations experienced
year-over-year increases in gross margin in 2005, primarily from customer
growth, colder temperatures, and changes in rate design.
Natural
Gas Transmission
The
natural gas transmission operation achieved gross margin growth of $1.4 million,
or 9 percent, primarily due to additional contracts signed in November 2004
for
transportation capacity provided to its firm customers. In addition, the
Company’s capital investments enabled the natural gas transmission operations to
execute additional transportation capacity contracts in November 2005. An
increase of $980,000 in other operating expenses partially offset the increased
gross margin. The factors contributing to the increased expenses were associated
with continued economic growth, as well as higher depreciation and property
taxes due to an increase in the level of capital investments.
Natural
Gas Marketing
Gross
margin for the natural gas marketing operation increased $506,000, or 39
percent, for 2005 compared to 2004 as the number of customers to which it
provides supply management services increased 100 percent. The increase in
gross
margin was partially offset by an increase of $352,000 in other operating
expenses due to higher levels of staff and other operating costs necessary
to
support the increase in business.
Natural
Gas Distribution
Gross
margin for the Delaware and Maryland distribution divisions increased $1.2
million, as temperatures in 2005 were 5 percent colder than 2004 and the number
of residential customers increased 8.7 percent. An increase in gross margin
from
the colder weather of $534,000 was offset by a decrease of $651,000 in gas
deliveries to customers as a result of conservation efforts in response to
the
higher gas prices
.
Gross
margin for the Florida distribution operations increased $579,000, primarily
due
to changes in the customer rate design and a 7.4 percent increase in the number
of residential customers served. The Company estimates the rate design changes
contributed $322,000 in additional gross margin and resulted in the Florida
division collecting a greater percentage of revenues from fixed charges, rather
than variable charges based upon consumption. Other operating expense for the
natural gas distribution operations increased $2.1 million in 2005. Some of
the
key components of the increase in other operating expenses in 2005, compared
to
2004, include the following:
| · |
The
incremental operating and maintenance cost of supporting the residential
customers added by the Delmarva and Florida distribution operations
was
approximately $403,000.
|
| · |
In
response to higher natural gas prices, the Company increased its
allowance
for uncollectible accounts by
$98,000.
|
| · |
The
cost of providing health care for our employees increased $180,000.
|
| · |
Costs
of line location activities increased
$177,000.
|
| · |
With
the additional capital investments, depreciation expense, asset removal
cost and property taxes increased $225,000, $130,000 and $319,000,
respectively.
|
Propane
The
propane segment experienced a decrease of $675,000 in operating income in 2006
compared to 2005, reflecting a gross margin decrease of $1.1 million, which
was
partially offset by a decrease in operating expenses of $464,000.
During
2005, the propane segment increased operating income by $845,000, or 36 percent,
over 2004. Gross margin in 2005 increased $2.6 million over 2004, which more
than offset the increase of $1.7 million of operating expenses.
|
Propane
(in thousands)
|
|||||||||||||||||||
|
For
the Years Ended December 31,
|
2006
|
2005
|
Increase
(decrease)
|
2005
|
2004
|
Increase
(decrease)
|
|||||||||||||
|
Revenue
|
$
|
48,576
|
$
|
48,976
|
($400
|
)
|
$
|
48,976
|
$
|
41,500
|
$
|
7,476
|
|||||||
|
Cost
of sales
|
30,780
|
30,041
|
739
|
30,041
|
25,155
|
4,886
|
|||||||||||||
|
Gross
margin
|
17,796
|
18,935
|
(1,139
|
)
|
18,935
|
16,345
|
2,590
|
||||||||||||
|
Operations
& maintenance
|
12,823
|
13,355
|
(532
|
)
|
13,355
|
11,718
|
1,637
|
||||||||||||
|
Depreciation
& amortization
|
1,659
|
1,574
|
85
|
1,574
|
1,524
|
50
|
|||||||||||||
|
Other
taxes
|
780
|
797
|
(17
|
)
|
797
|
739
|
58
|
||||||||||||
|
Other
operating expenses
|
15,262
|
15,726
|
(464
|
)
|
15,726
|
13,981
|
1,745
|
||||||||||||
|
Total
Operating Income
|
$
|
2,534
|
$
|
3,209
|
($675
|
)
|
$
|
3,209
|
$
|
2,364
|
$
|
845
|
|||||||
|
Propane
Heating Degree-Day (HDD) Analysis — Delmarva
|
|||||||||||||||||||
|
For
the Years Ended December 31,
|
2006
|
2005
|
Increase
(decrease)
|
2005
|
2004
|
Increase
(decrease)
|
|||||||||||||
|
Heating
degree-days
|
|||||||||||||||||||
|
Actual
|
3,931
|
4,792
|
(861
|
)
|
4,792
|
4,553
|
239
|
||||||||||||
|
10-year
average
|
4,372
|
4,436
|
(64
|
)
|
4,436
|
4,383
|
53
|
||||||||||||
|
Estimated
gross margin per HDD
|
$
|
1,743
|
$
|
1,743
|
$
|
0
|
$
|
1,743
|
$
|
1,691
|
$
|
52
|
|||||||
2006
Compared to 2005
Operating
income for the propane segment decreased $675,000, or 21 percent, to $2.5
million for 2006 compared to 2005. This decrease was due primarily to warmer
weather on the Delmarva Peninsula in 2006, which resulted in reduced customer
consumption. Gross margin in the Delmarva propane distribution operations was
lower when compared to 2005 by $834,000, primarily due to warmer weather. Gross
margin also decreased in the Florida propane distribution operation and the
Company’s wholesale propane marketing operation by $146,000 and $159,000,
respectively.
Delmarva
Propane Distribution
The
Delmarva propane distribution operation’s decrease in gross margin of $834,000
resulted from the following items:
| · |
Volumes
sold in 2006 decreased 1.9 million gallons, or 8 percent, primarily
from
temperatures on the Delmarva Peninsula being 18 percent warmer during
2006
when compared to 2005. The Company estimates that the warmer temperatures
resulted in a decrease in gross margin of approximately $1.7 million
when
compared to 2005.
|
| · |
Gross
margin increased $956,000 from an increase of $0.0302 in the average
gross
margin per retail gallon in 2006 compared to 2005.
|
| · |
Gross
margin for the Delmarva CGS increased $155,000 when compared to the
prior
period, primarily from an increase in the average number of customers.
The
average number of customers increased by approximately 1,000 to a
total
count of approximately 3,900, or a 34 percent increase, when compared
to
2005. The Company expects the growth of its CGS operation to continue
as
the number of systems currently under construction or under contract
is
anticipated to provide for an additional 7,700
customers.
|
| · |
Gross
margin was adversely impacted by a $272,000 write-down of propane
inventory to reflect the lower of cost or market.
|
| · |
The
remaining gross margin decrease of $29,000 is attributed primarily
to
customer conservation and changes in the timing of deliveries to
customers.
|
Other
operating expenses decreased $335,000 for the Delmarva operations in 2006,
compared to 2005. The significant items contributing to the decrease are
explained below.
| · |
The
Company recovered $387,000 in fixed costs from one of its propane
suppliers in response to a propane contamination incident that occurred
in
March 2006. The Company identified that approximately 75,000 gallons
of
propane that it purchased from the supplier contained above-normal
levels
of petroleum byproducts.
|
| · |
Health
care costs decreased by $324,000. The Company changed health care
service
providers in November 2005 and has subsequently experienced lower
costs
related to claims.
|
| · |
In
addition, there is a decrease of approximately $39,000 in other operating
expenses relating to various minor
items.
|
| · |
These
lower costs were partially offset by increased costs of $176,000
for one
of the Pennsylvania start-ups, which began operation in July 2005,
increased payroll costs of $165,000 and higher costs of $74,000 associated
with vehicle fuel.
|
Florida
Propane Distribution
The
Florida propane distribution operation experienced a decrease in gross margin
of
$146,000, or 12 percent, when compared to the same period in 2005. The lower
gross margin reflects a decrease of $208,000 for in-house piping sales as the
operation exited the house piping service, which was partially offset by an
increase in gross margin of $62,000 from propane sales. The increase in gross
margin from propane sales was attained primarily from an increase in the average
gross margin per retail gallon, partially offset by a 1 percent decrease in
the
volumes sold in 2006. Florida propane experienced a decrease in other operating
expenses in 2006 compared to 2005 of $49,000 attributed to lower payroll and
benefits costs due to vacant positions during the year, partially offset by
higher expenses related to leak testing and depreciation expense.
Propane
Wholesale and Marketing
Gross
margin for the Company’s propane wholesale marketing operation decreased by
$159,000 in 2006 compared to 2005. This decrease from the 2005 results reflects
the increased market opportunities that rose in 2005 due to the extreme price
volatility in the propane wholesale market from rising propane prices following
the hurricanes in the Gulf of Mexico area. The same level of price fluctuations
was not experienced in 2006. The decrease in gross margin was partially offset
by lower other operating expenses of $79,000 attributed primarily to lower
incentive compensation as a result of the lower earnings in 2006.
2005
Compared to 2004
Operating
income for the propane segment increased $846,000, or 36 percent, to $3.2
million for 2005 compared to 2004. Gross margin in the Delmarva propane
distribution operations was higher when compared to 2004 by $1.8 million,
primarily due to colder weather. Gross margin also increased in the Florida
propane distribution operation and the Company’s wholesale propane marketing
operation by $385,000 and $445,000, respectively.
Delmarva
Propane Distribution
The
gross
margin increase for the propane segment was due primarily to an increase of
$1.8
million for the Delmarva distribution operations. Volumes sold in 2005 increased
1.1 million gallons or 5 percent. Temperatures in 2005 were 5 percent colder
than 2004, causing an estimated gross margin increase of $417,000. Additionally,
the gross margin per retail gallon improved by $0.0342 in 2005 compared to
2004.
Gross margin per gallon increased as a result of market prices rising greater
than the Company’s inventory price per gallon. This trend reverses when market
prices decrease and move closer to the Company’s inventory price per gallon. The
gross margin increase was partially offset by increased other operating expenses
of $1.5 million. The higher other operating costs were attributable to the
Pennsylvania start-up costs and expenses related to higher earnings, such as
incentive compensation and other taxes, employee benefits, insurance, vehicle
fuel and maintenance expenses, and a non-recurring credit of $100,000 for
vehicle insurance audits in 2004. The Pennsylvania start-up costs accounted
for
$722,000, or approximately 49 percent, of the increase in operating expenses.
Florida
Propane Distribution
Gross
margin for the Florida propane distribution operations increased $385,000,
or 45
percent, in 2005 compared to 2004. The increase in gross margin was attained
from an increase of 27% in the average number of customers, which contributed
to
the $267,000 in propane sales gross margin, and an increase of $118,000 in
house-piping sales. Florida propane also experienced an increase in other
operating expenses of $147,000 attributed to business growth, such as payroll,
vehicle fuel and maintenance, insurance, and depreciation expense.
Propane
Wholesale and Marketing
The
Company’s propane wholesale marketing operation experienced an increase in gross
margin of $445,000 and an increase of $121,000 in other operating expenses,
leading to an improvement of $323,000 in operating income over 2004. Wholesale
price volatility created trading opportunities during the third and fourth
quarters of the year; however, these were partially offset by reduced trading
activities particularly in the first half of the year when the wholesale
marketing operation followed a conservative marketing strategy, which lowered
risk and earnings, in light of continued high wholesale price
levels.
Advanced
Information Services
The
advanced information services segment provides domestic and international
clients with information technology related business services and solutions
for
both enterprise and e-business applications. The advanced information services
business contributed operating income of $767,000 for 2006, $1.2 million for
2005, and $387,000 for 2004.
|
Advanced
Information Services (in thousands)
|
|||||||||||||||||||
|
For
the Years Ended December 31,
|
2006
|
2005
|
Increase
(decrease)
|
2005
|
2004
|
Increase
(decrease)
|
|||||||||||||
|
Revenue
|
$
|
12,568
|
$
|
14,140
|
($1,572
|
)
|
$
|
14,140
|
$
|
12,427
|
$
|
1,713
|
|||||||
|
Cost
of sales
|
7,082
|
7,181
|
(99
|
)
|
7,181
|
7,015
|
166
|
||||||||||||
|
Gross
margin
|
5,486
|
6,959
|
(1,473
|
)
|
6,959
|
5,412
|
1,547
|
||||||||||||
|
Operations
& maintenance
|
4,119
|
5,129
|
(1,010
|
)
|
5,129
|
4,405
|
724
|
||||||||||||
|
Depreciation
& amortization
|
113
|
123
|
(10
|
)
|
123
|
138
|
(15
|
)
|
|||||||||||
|
Other
taxes
|
487
|
510
|
(23
|
)
|
510
|
482
|
28
|
||||||||||||
|
Other
operating expenses
|
4,719
|
5,762
|
(1,043
|
)
|
5,762
|
5,025
|
737
|
||||||||||||
|
Total
Operating Income
|
$
|
767
|
$
|
1,197
|
($430
|
)
|
$
|
1,197
|
$
|
387
|
$
|
810
|
|||||||
2006
Compared to 2005
Operating
income for advanced information services business decreased $430,000 to $767,000
for 2006 compared to $1.2 million in 2005. The operating income for 2005
included operating income of $993,000 for LAMPS™, inclusive of a $924,000
pre-tax gain on the sale of the product. The LAMPS
TM
product
was sold to Fidelity National Information Solutions, Inc., a subsidiary of
Fidelity National Financial, Inc., in October 2005.
Revenues
for the period decreased $1.6 million compared to 2005, due primarily to
elimination of $1.9 million of revenue generated by the LAMPS
TM
product
in 2005. Consulting revenues increased $749,000 in 2006 when compared to 2005,
primarily from offering a new service, Managed Database Administration (“MDBA”),
to its customers in 2006 and an increase of 7.6 percent in the average hourly
billing rate, while the number of billable hours remained at the same level
of
2005. The MDBA service provides third parties with professional database
monitoring and support solutions during business hours or around the clock.
The
MDBA service contributed $470,000 to consulting revenues. Partially offsetting
the increase in consulting revenues were decreases of $128,000 and $244,000
from
training and product sales and other revenues, respectively.
Cost
of
sales for 2006 decreased $99,000 to $7.08 million, compared to 2005. The 2005
cost of sales of $7.18 million included $401,000 related to LAMPS
TM
.
Absent
the cost of sales associated with the LAMPS
TM
product,
cost of sales increased in 2006 compared to 2005 to support the higher revenues.
Other
operating expenses decreased $1.0 million in 2006 to $4.7 million, when compared
to 2005. The reduction in expenses primarily reflects expenses of $554,000
in
2005 associated with LAMPS
TM
and
lower benefits costs, rent expense and consulting costs.
2005
Compared to 2004
The
advanced information services segment had operating income of $1.2 million
and
$387,000 for years 2005 and 2004, respectively. The results for 2005 and 2004
include revenues and costs related to the LAMPS
TM
product
that was sold in October 2005, which resulted in a $924,000 pre-tax gain.
Revenues
for 2005 increased $1.7 million to $14.1 million compared to revenues of $12.4
million for 2004. The 2005 and 2004 revenue figures include $2.4 million and
$149,000 of revenue relating to the LAMPS
TM
product
for those respective years. Decreases in consulting revenues for the eBusiness
group of $793,000 and lower sales of Progress software licenses of $285,000
accounted for the decrease in revenue when compared to 2004. This decrease
was
partially offset by the performance revenue of $238,000 received in the third
quarter 2005 and an increase of $317,000 in consulting revenues for the
Enterprise Solutions group. The performance revenue was related to the sale
of
the webproEX software that took place in 2003. As part of the sale agreement,
Chesapeake received a percentage of revenues after certain annual revenue and
performance targets were reached.
Cost
of
sales for 2005 increased $165,000 to $7.2 million, compared to $7.0 million
for
2004. The increase in cost of sales was attributed to the LAMPS
TM
product.
The 2005 and 2004 cost of sales figures included $511,000 and $345,000 of cost
for the LAMPS
TM
product.
Other operating expenses increased $738,000 in 2005 to $5.8 million, compared
to
$5.0 million in 2004. The increase in other operating cost was attributed to
the
increase of costs relating to the LAMPS
TM
product.
The costs associated with the LAMPS
TM
product
for 2005 and 2004 were $1.2 million and $575,000 respectively. The remaining
increase was primarily due to health care claims and office rent, which were
offset by cost containment measures implemented in the second quarter of 2005
to
reduce operating expenses.
Other
Operations and Eliminations
Other
operations consist primarily of subsidiaries that own real estate leased to
other Company subsidiaries and the results of operations for OnSight Energy,
LLC
(“OnSight”). Eliminations are entries required to eliminate activities between
business segments from the consolidated results. Other operations and
eliminating entries generated an operating loss of $103,000 for 2006 compared
to
an operating loss of $112,000 for 2005. The operating loss in both 2006 and
2005
is attributed to results of OnSight.
The
Company formed OnSight in 2004 to provide distributed energy services.
Distributed energy refers to a variety of small, modular power generating
technologies that may be combined with heating and/or cooling systems. For
2006,
OnSight had an operating loss of $401,000 compared to an operating loss of
$390,000 for 2005. The higher operating loss in 2006 when compared to 2005
is
the result of:
| · |
In
the third quarter of 2006, actions were taken to reduce operating
expenses
going forward, which resulted in a charge of $65,000 to other operating
expenses associated with staff
reductions.
|
| · |
The
2005 results of operation includes the impact of OnSight completing
its
first and only contract to date, which occurred in the second quarter
of
2005.
|
|
Other
Operations & Eliminations (in thousands)
|
|||||||||||||||||||
|
For
the Years Ended December 31,
|
2006
|
2005
|
Increase
(decrease)
|
2005
|
2004
|
Increase
(decrease)
|
|||||||||||||
|
Revenue
|
$
|
620
|
$
|
763
|
($143
|
||||||||||||||