Business Context and Reporting Period
This Form 6-K filing by National Grid plc, dated February 12, 2008, provides unaudited financial statements for its indirect wholly-owned U.S. subsidiary, Niagara Mohawk Power Corporation (Niagara Mohawk). The filing is made to comply with a Senior Notes Indenture and covers the three and nine months ended December 31, 2007. Niagara Mohawk operates as a regulated utility in New York State, providing electric transmission/distribution and gas distribution services. The company is subject to a Merger Rate Plan (MRP) with the New York State Public Service Commission (PSC).
Key Financial Metrics
| Metric (in thousands) | 3 Months Ended Dec 31, 2007 | 9 Months Ended Dec 31, 2007 |
|---|---|---|
| Total Operating Revenues | $1,036,254 | $2,986,822 |
| Operating Income | $112,430 | $296,771 |
| Net Income | $63,676 | $141,688 |
| Income Available to Common Shareholders | $63,269 | $140,469 |
| Operating Cash Flow (9 Months) | N/A | $482,172 |
| Long-Term Debt (Dec 31, 2007) | $649,352 | N/A |
| Current Liabilities (Dec 31, 2007) | $1,646,087 | N/A |
| Cash and Cash Equivalents (Dec 31, 2007) | $23,169 | N/A |
Note: Niagara Mohawk has a negative working capital balance of approximately $617 million as of December 31, 2007, primarily due to short-term debt to affiliates ($422 million) and the current portion of long-term debt ($600 million).
Material Changes vs. Prior Period
- Revenue: Total operating revenues increased 3.3% for the three months ended December 31, 2007, compared to the prior year, driven by higher electric costs passed through to customers and increased sales volumes due to colder weather. For the nine-month period, revenues increased 3.0%.
- Net Income: Net income increased significantly by 71% ($26.4 million) for the three months ended December 31, 2007, compared to the prior year. This was primarily due to a $24 million pension settlement loss recorded in the prior year that did not recur, and lower storm costs. Conversely, net income decreased 4.6% ($6.8 million) for the nine-month period, driven by increased bad debt expense and higher consultant/contractor costs.
- Operating Expenses: Other operation and maintenance expenses decreased $44 million for the three-month period but increased $23 million for the nine-month period. The nine-month increase was largely due to bad debt expense ($15 million increase) and consultant costs ($18 million increase), partially offset by the absence of the prior year's pension settlement loss.
- Interest Expense: Total interest expense decreased 13.4% for the three months and 5.0% for the nine months, attributed to debt maturities during the fiscal year.
Guidance, Outlook, Risks, and Contingencies
- Regulatory Environment: Niagara Mohawk is subject to the Merger Rate Plan (MRP). The PSC approved a reduction in rates of $76 million per year effective 2008, lowering the annual recovery from $200 million to $124 million. The company is seeking authorization to defer 50% of the revenue requirement impact of specified capital programs in 2008.
- Service Quality Penalties: Due to failure to meet outage frequency targets in 2006 and prior years, the PSC doubled the annual penalty to $8.8 million. An additional $4.4 million penalty exposure was added for consecutive years of missing targets. The company recorded $14.5 million in service quality penalty expenses for the nine months ended December 31, 2007.
- Environmental Contingencies: The company faces potential liabilities for approximately 85 sites, including 47 company-owned former manufactured gas plant (MGP) facilities. Accrued liabilities were $428 million as of December 31, 2007, with a high-end estimate of $564 million. The company believes these obligations will not materially affect operations due to regulatory asset recovery provisions.
- FERC Audit: The Federal Energy Regulatory Commission (FERC) ordered an audit of Niagara Mohawk's compliance with tariff and contract filing requirements. The audit is expected to continue through the third quarter of 2008.
- Voluntary Early Retirement (VERO): Following the National Grid acquisition of KeySpan, a VERO program was offered. Niagara Mohawk expects a total cost of $37 million, with $9 million expensed in the nine months ended December 31, 2007, and the remainder to be expensed through 2010.
- Credit Outlook: On January 31, 2008, Moody's Investors Service changed the outlook for National Grid plc and its subsidiaries to "negative" from "stable" following an announcement of a 15% dividend increase for 2007-08.
Investor Verification Checklist
- Verify the impact of the PSC-approved rate reduction ($76 million/year) on future cash flows and the status of the petition to defer capital investment costs.
- Monitor the outcome of the FERC audit regarding contract filing compliance and potential penalties or refunds.
- Assess the sufficiency of the $428 million environmental accrual against the $564 million high-end liability estimate and the probability of regulatory asset recovery.
- Review the company's ability to maintain credit ratings given the negative outlook from Moody's and the restrictions on dividends tied to credit ratings.
- Track the progression of the VERO program costs and the associated impact on future operating expenses through 2010.