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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

x      QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2012

 

or

 

o         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from               to              

 

Commission file number 1-13883

 

CALIFORNIA WATER SERVICE GROUP

(Exact name of registrant as specified in its charter)

 

 

 

408-367-8200

(Registrant’s telephone number, including area code)

 

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by 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 o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o  No x

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

Indicate by check mark whether the registrant is a shell company (as defined in rule 12b-2 of the Exchange Act) Yes £ No x

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Common shares outstanding as of May 1, 2012 — 41,907,012

 

 

Table of Contents

 

TABLE OF CONTENTS

 

		Page
PART I Financial Information		3
Item 1 Financial Statements		3
Condensed Consolidated Balance Sheets (unaudited) as of March 31, 2012 and December 31, 2011		3
Condensed Consolidated Statements of Income (unaudited) For the Three Months Ended March 31, 2012 and 2011		4
Condensed Consolidated Statements of Cash Flows (unaudited) For the Three Months Ended March 31, 2012 and 2011		5
Notes to Unaudited Condensed Consolidated Financial Statements		6
Item 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations		20
Item 3 Quantitative and Qualitative Disclosure about Market Risk.		30
Item 4 Controls and Procedures		31
PART II Other Information		31
Item 1 Legal Proceedings		31
Item 6 Exhibits		31
Signatures		32
Index to Exhibits		33

 

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PART I FINANCIAL INFORMATION

 

Item 1.

 

FINANCIAL STATEMENTS

 

The condensed consolidated financial statements presented in this filing on Form 10-Q have been prepared by management and are unaudited.

 

CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATED BALANCE SHEETS

 

Unaudited

(In thousands, except per share data)

 

		March 31, 2012			December 31, 2011
ASSETS
Utility plant:
Utility plant		$	1,994,794		$	1,960,381
Less accumulated depreciation and amortization		(594,173		)	(579,262		)
Net utility plant		1,400,621			1,381,119
Current assets:
Cash and cash equivalents		16,014			27,203
Receivables:
Customers		24,244			28,418
Regulatory balancing accounts		24,842			21,680
Other		5,474			6,422
Unbilled revenue		18,036			15,068
Materials and supplies at weighted average cost		5,827			5,913
Taxes, prepaid expenses and other assets		12,620			9,184
Total current assets		107,057			113,888
Other assets:
Regulatory assets		319,990			319,898
Goodwill		2,615			2,615
Other assets		38,236			37,067
Total other assets		360,841			359,580
		$	1,868,519		$	1,854,587
CAPITALIZATION AND LIABILITIES
Capitalization:
Common stock, $.01 par value; 68,000 shares authorized, 41,907 and 41,817, outstanding in 2012 and 2011, respectively		$	419		$	418
Additional paid-in capital		219,909			219,572
Retained earnings		224,337			229,839
Total common stockholders’ equity		444,665			449,829
Long-term debt, less current maturities		481,085			481,632
Total capitalization		925,750			931,461
Current liabilities:
Current maturities of long-term debt		6,649			6,533
Short-term borrowings		50,790			47,140
Accounts payable		50,408			48,923
Regulatory balancing accounts		3,389			2,655
Accrued interest		11,003			4,756
Accrued expenses and other liabilities		42,279			41,868
Total current liabilities		164,518			151,875
Unamortized investment tax credits		2,254			2,254
Deferred income taxes, net		119,069			116,368
Pension and postretirement benefits other than pensions		235,465			232,110
Regulatory and other liabilities		81,042			79,050
Advances for construction		185,829			187,278
Contributions in aid of construction		154,592			154,191
Commitments and contingencies		—			—
		$	1,868,519		$	1,854,587

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

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CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

 

Unaudited

(In thousands, except per share data)

 

For the three months ended		March 31, 2012			March 31, 2011
Operating revenue		$	116,749		$	98,149
Operating expenses:
Operations:
Water production costs		38,952			31,958
Administrative and general		23,018			20,502
Other operations		23,826			14,635
Maintenance		5,760			5,199
Depreciation and amortization		13,951			12,588
Income tax expense (benefit)		28			(1,241		)
Property and other taxes		4,607			4,560
Total operating expenses		110,142			88,201
Net operating income		6,607			9,948
Other income and expenses:
Non-regulated revenue		4,136			4,333
Non-regulated expenses, net		(2,099		)	(3,424		)
Income tax (expense) on other income and expenses		(823		)	(366		)
Net other income		1,214			543
Interest expense:
Interest expense		7,639			8,488
Less: capitalized interest		(903		)	(716		)
Net interest expense		6,736			7,772
Net income		$	1,085		$	2,719
Earnings per share
Basic		$	0.03		$	0.07
Diluted		$	0.03		$	0.07
Weighted average shares outstanding
Basic		41,842			41,696
Diluted		41,842			41,712
Dividends declared per share of common stock		$	0.15750		$	0.15375

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

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CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

Unaudited

(In thousands)

 

For the three months ended:		March 31, 2012			March 31, 2011
Operating activities
Net income		$	1,085		$	2,719
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		14,410			13,014
Change in value of life insurance contracts		(1,713		)	(454		)
Other changes in noncurrent assets and liabilities		2,802			9,008
Changes in operating assets and liabilities:
Receivables		3,524			(892		)
Accounts payable		334			(4,153		)
Other current assets		(3,371		)	(3,350		)
Other current liabilities		5,845			8,684
Net adjustments		21,831			21,857
Net cash provided by operating activities		22,916			24,576
Investing activities:
Utility plant expenditures		(28,665		)	(24,467		)
Purchase of life insurance		(1,357		)	(1,589		)
Changes in restricted cash and other changes, net		102			(86		)
Net cash used in investing activities		(29,920		)	(26,142		)
Financing activities:
Short-term borrowings		5,650			5,110
Repayment of short-term borrowings		(2,000		)	—
Repayment of long-term debt		(431		)	(220		)
Advances and contributions in aid of construction		1,156			2,868
Refunds of advances for construction		(1,974		)	(1,194		)
Dividends paid		(6,586		)	(6,406		)
Net cash (used in) provided by financing activities		(4,185		)	158
Change in cash and cash equivalents		(11,189		)	(1,408		)
Cash and cash equivalents at beginning of period		27,203			42,277
Cash and cash equivalents at end of period		$	16,014		$	40,869
Supplemental information
Cash paid for interest (net of amounts capitalized)		$	283		$	1,078
Cash paid for income taxes		—			—
Supplemental disclosure of non-cash activities:
Accrued payables for investments in utility plant		$	12,519		$	5,421
Utility plant contribution by developers		2,586			1,257

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

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CALIFORNIA WATER SERVICE GROUP

Notes to Unaudited Condensed Consolidated Financial Statements

March 31, 2012

(Amounts in thousands, except share and per share amounts)

 

Note 1. Organization and Operations and Basis of Presentation

 

California Water Service Group (the Company) is a holding company that provides water utility and other related services in California, Washington, New Mexico and Hawaii through its wholly-owned subsidiaries. California Water Service Company (Cal Water), Washington Water Service Company (Washington Water), New Mexico Water Service Company (New Mexico Water), and Hawaii Water Service Company, Inc. (Hawaii Water) provide regulated utility services under the rules and regulations of their respective state’s regulatory commissions (jointly referred to herein as the Commissions). CWS Utility Services and HWS Utility Services LLC provide non-regulated water utility and utility-related services.

 

The Company operates in one reportable segment, providing water and related utility services.

 

Basis of Presentation

 

The unaudited interim financial information has been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information and in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X promulgated by the Securities and Exchange Commission (SEC) and therefore do not contain all of the information and footnotes required by GAAP and the SEC for annual financial statements. The condensed consolidated financial statements should be read in conjunction with the Company’s consolidated financial statements for the year ended December 31, 2011, included in its annual report on Form 10-K as filed with the SEC on February 29, 2012.

 

The preparation of the Company’s condensed consolidated financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the balance sheet dates and the reported amounts of revenues and expenses for the periods presented. These include, but are not limited to, estimates and assumptions used in determining the Company’s regulatory asset and liability balances based upon probability assessments of regulatory recovery, revenues earned but not yet billed, asset retirement obligations, allowance for doubtful accounts, pension and other employee benefit plan liabilities, and income tax-related assets and liabilities.  Actual results could differ from these estimates.

 

In the opinion of management, the accompanying condensed consolidated financial statements reflect all adjustments, consisting of normal recurring accruals that are necessary to provide a fair presentation of the results for the periods covered. The results for interim periods are not necessarily indicative of the results for any future period.

 

Due to the seasonal nature of the water business, the results for interim periods are not indicative of the results for a 12-month period. Revenue and income are generally higher in the warm, dry summer months when water usage and sales are greater. Revenue and income are lower in the winter months when cooler temperatures and rainfall curtail water usage and sales.

 

Effective on June 8, 2011, the Company’s Certificate of Incorporation was amended to increase the number of authorized shares of the Company’s common stock from 25,000,000 shares to 68,000,000 shares in connection with a 2 for 1 stock split effected as a dividend. As a result, the number of authorized shares of the Company’s common stock under the equity incentive plan increased to 2,000,000 shares. The common stock par value of $0.01 was not changed. The increased number of authorized shares and 2 for 1 stock split effective June 10, 2011 are retroactively applied to these financial statements resulting in an increase in the number of shares outstanding.

 

Note 2. Summary of Significant Accounting Policies

 

Revenue

 

Revenue generally includes monthly cycle customer billings for regulated water and wastewater services at rates authorized by regulatory commissions (plus an estimate for water used between the customer’s last meter reading and the end of the accounting period) and billings to certain non-regulated customers at rates authorized by contract with government agencies.

 

The Company’s regulated water and waste water revenue requirements are authorized by the Commissions in the states in which it operates. The revenue requirements are intended to provide the Company a reasonable opportunity to recover its operating costs and earn a return on investments.

 

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For metered customers, Cal Water recognizes revenue from rates which are designed and authorized by the California Public Utilities Commission (CPUC). Under the Water Revenue Adjustment Mechanism (WRAM), Cal Water records the adopted level of volumetric revenues, which would include recovery of cost of service and a return on investments, as established by the CPUC for metered accounts (adopted volumetric revenues). In addition to volumetric-based revenues, the revenue requirements approved by the CPUC include service charges, flat rate charges, and other items not subject to the WRAM. The adopted volumetric revenue considers the seasonality of consumption of water based upon historical averages. The variance between adopted volumetric revenues and actual billed volumetric revenues for metered accounts is recorded as a component of revenue with an offsetting entry to a regulatory asset or liability balancing account (tracked individually for each Cal Water district) subject to certain criteria under the accounting for regulated operations being met. The variance amount may be positive or negative and represents amounts that will be billed or refunded to customers in the future.

 

Cost-recovery rates are designed to permit full recovery of certain costs allowed to be recovered by the Commissions. Cost-recovery rates such as the Modified Cost Balancing Account (MCBA) provides for recovery of adopted expense levels for purchased water, purchased power and pump taxes, as established by the CPUC. In addition, cost-recovery rates include recovery of cost related to water conservation programs and certain other operation expenses adopted by the CPUC. Variances (which include the effects of changes in both rate and volume for the MCBA) between adopted and actual costs are recorded as a component of revenue, as the amount of such variances will be recovered from or refunded to our customers at a later date. There is no markup for return or profit for cost-recovery expenses and are generally recognized when expenses are incurred.

 

The balances in the WRAM and MCBA assets and liabilities accounts will fluctuate on a monthly basis depending upon the variance between adopted and actual results. The recovery or refund of the WRAM is netted against the MCBA over- or under-recovery for the corresponding district and is interest bearing at the current 90 day commercial paper rate. Cal Water files with the CPUC to refund or collect the net WRAM and MCBA balances. As of December 31, 2011, $12.9 million of net WRAM and MCBA operating revenues and $10.5 million of associated costs were deferred because the Company concluded it would not be able to collect those amounts within 24-months of the respective reporting period.  On April 19, 2012, the CPUC issued a decision to shorten the amortization periods for Cal Water’s undercollected net WRAM and MCBA receivable balances for calendar years 2011, 2012, and 2013.  The shortened amortization periods for 2011 undercollected balances resulted in recording $8.8 million of deferred net WRAM and MCBA operating revenues and $7.2 million of associated costs during the first quarter of 2012 because these amounts become collectable within 24-months.  The change increased income before income taxes by $1.6 million during the first quarter of 2012.

 

The change to net WRAM and MCBA deferred balances during the first quarter of 2012 are:

 

		Operating Revenues			Operating Costs			Income Before Income Taxes
Net WRAM and MCBA deferral as of December 31, 2011		$	12,864		$	10,492		$	2,372
Less: reversal of prior year deferral during the first quarter of 2012		(8,846		)	(7,215		)	(1,631		)
Add: net WRAM and MCBA deferral the first quarter of 2012		110			90			20
Net amount recorded during the first quarter of 2012		(8,736		)	(7,125		)	(1,611		)
Net WRAM and MCBA deferral as of March 31, 2012		$	4,128		$	3,367		$	761

 

The deferred net WRAM and MCBA operating revenue and associated costs were determined using forecasts of rate payer consumption trends in future reporting periods and the timing of when the CPUC will authorize Cal Water’s filings to recover the undercollected balances. The deferred revenue and associated cost amounts will be recorded in future periods when the Company concludes it will be able to collect those amounts within 24-months of the respective reporting period.

 

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The net WRAM and MCBA under- or overcollected balances are:

 

		March 31, 2012			December 31, 2011
Net short-term receivable		$	24,842		$	19,357
Net long-term receivable		25,897			30,268
Total receivable		$	50,739		$	49,625
Net short-term payable		$	4		$	543
Net long-term payable		1,558			145
Total payable		$	1,562		$	688

 

Flat rate customers are billed in advance at the beginning of the service period. The revenue is prorated so that the portion of revenue applicable to the current period is included in that period’s revenue, with the balance recorded as unearned revenue on the balance sheet and recognized as revenue when earned in the subsequent accounting period. Unearned revenue liability was $1.9 million as of March 31, 2012 and December 31, 2011. This liability is included in “accrued expenses and other liabilities” on the condensed consolidated balance sheets.

 

Note 3. Stock-based Compensation

 

Equity Incentive Plan

 

The Company’s equity incentive plan was approved by stockholders on April 27, 2005.  The Company is authorized to issue awards up to 2,000,000 shares of common stock. During the three months ended March 31, 2012 and 2011, the Company granted annual Restricted Stock Awards (RSAs) of 89,980 and 85,426 shares, respectively, of common stock to officers and directors of the Company and no RSAs were cancelled. Employee RSAs vest over 48-months, while director RSAs vest at the end of 12- months. During the first three months of 2012 and 2011, the shares granted were valued at $17.98 and $17.44 per share, respectively, based upon the fair market value of the Company’s common stock on the date of grant.

 

The Company has recorded compensation costs for the RSAs in Operating Expense in the amount of $0.3 million for the three months ended March 31, 2012 and March 31, 2011.

 

Note 4. Earnings Per Share Calculations

 

The computations of basic and diluted earnings per share are noted below. Basic earnings per share are computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflect the potential dilution that could occur if securities or other contracts were exercised or converted into common stock. RSAs are included in the common shares outstanding because the shares have all the same voting and dividend rights as issued and unrestricted common stock.  The Company’s 2 for 1 stock split has been adjusted retroactively for all periods presented.

 

All RSAs are dilutive and the dilutive effect is shown in the table below.

 

		Three Months Ended March 31
		2012			2011
Net income available to common stockholders		$	1,085		$	2,719
Weighted average common shares, basic		41,842			41,696
Dilutive common stock options (treasury method)		—			16
Shares used for dilutive computation		41,842			41,712
Net income per share - basic		$	0.03		$	0.07
Net income per share - diluted		$	0.03		$	0.07

 

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Note 5. Pension Plan and Other Postretirement Benefits

 

The Company provides a qualified, defined-benefit, non-contributory pension plan for substantially all employees. The Company makes annual contributions to fund the amounts accrued for the qualified pension plan. The Company also maintains an unfunded, non-qualified, supplemental executive retirement plan. The costs of the plans are charged to expense or are capitalized in utility plant as appropriate.

 

The Company offers medical, dental, vision, and life insurance benefits for retirees and their spouses and dependents. Participants are required to pay a premium, which offsets a portion of the cost.

 

Cash payments by the Company related to pension plans and other postretirement benefit plans were $6.0 million for the three months ended March 31, 2012. The Company did not make cash contributions to the pension and other postretirement benefit plans during the three months ended March 31, 2011. The 2012 estimated cash contributions to the pension plans is $36.5 million and to the other postretirement benefit plans is $8.8 million.

 

The following table lists components of net periodic benefit costs for the pension plans and other postretirement benefits. The data listed under “pension plan” includes the qualified pension plan and the non-qualified supplemental executive retirement plan. The data listed under “other benefits” is for all other postretirement benefits.

 

		Three Months Ended March 31
		Pension Plan						Other Benefits
		2012			2011			2012			2011
Service cost		$	4,016		$	3,141		$	1,417		$	979
Interest cost		3,779			3,742			967			833
Expected return on plan assets		(2,893		)	(2,244		)	(468		)	(341		)
Recognized net initial APBO (1)		N/A			N/A			69			69
Amortization of prior service cost		1,571			1,580			29			29
Recognized net actuarial loss		1,926			1,079			764			425
Net periodic benefit cost		$	8,399		$	7,298		$	2,778		$	1,994

 

(1)       APBO - Accumulated postretirement benefit obligation

 

Note 6. Short-term and Long-term Borrowings

 

On June 29, 2011, the Company and Cal Water entered into Syndicated Credit Agreements, which provide for unsecured revolving credit facilities of up to an initial aggregate amount of $400 million.  The Syndicated Credit Facilities amend, expand, and replace the Company’s and its subsidiaries’ existing credit facilities originally entered into on October 27, 2009.  The new credit facilities extended the terms until June 29, 2016, increased the Company’s and Cal Water’s unsecured revolving lines of credit, and lowered interest rates and fees.  The Company and subsidiaries which it designates may borrow up to $100 million under the Company’s revolving credit facility. Cal Water may borrow up to $300 million under its revolving credit facility; however, all borrowings need to be repaid within 12-months unless otherwise authorized by the CPUC.  The proceeds from the revolving credit facilities may be used for working capital purposes, including the short-term financing of capital projects.  The base loan rate may vary from LIBOR plus 72.5 basis points to LIBOR plus 95 basis points, depending on the Company’s total capitalization ratio.  Likewise, the unused commitment fee may vary from 8 basis points to 12.5 basis points based on the same ratio.

 

Both short-term unsecured credit agreements contain affirmative and negative covenants and events of default customary for credit facilities of this type including, among other things, limitations and prohibitions relating to additional indebtedness, liens, mergers, and asset sales. Also, these unsecured credit agreements contain financial covenants governing the Company and its subsidiaries’ consolidated total capitalization ratio and interest coverage ratio. As of March 31, 2012, the Company and Cal Water have met all borrowing covenants for both credit agreements.

 

As of March 31, 2012 and December 31, 2011, the outstanding borrowings on the Company lines of credit were $50.8 million and $47.1 million, respectively, and there were no borrowings on the Cal Water lines of credit for both periods.  For the three months ended March 31, 2012, the average borrowing rate was 1.6% compared to 2.9% for the same period last year.

 

Note 7. Income Taxes

 

The Company accounts for income taxes using the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Measurement of the deferred tax assets and liabilities is at enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the period that includes the enactment date.

 

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Effective January 1, 2012, the federal income tax repairs deduction for qualified tangible property is mandatory.  The repairs deduction is estimated to significantly reduce the Company’s 2012 federal income tax payments.  The new deduction accelerates qualified tangible property deductions for property placed into service during 2012 and prior years.  The repairs deduction is also estimated to eliminate the Company’s 2012 federal qualified U.S. production activities deductions (QPAD) which is estimated to increase the effective income tax rate for 2012 compared to the prior year.

 

The California Franchise Tax Board (FTB) is auditing the Company’s 2008 and 2009 California income tax returns. It is uncertain when the FTB will complete its audit. The Company believes that the final resolution of the FTB audit will not have a material adverse impact on its financial condition or results of operations. The Company is not under audit by any other jurisdiction.

 

Note 8. Regulatory Assets and Liabilities

 

During 2011, the CPUC issued a decision regarding the $34.2 million of litigation proceeds previously received by Cal Water during 2008 which is being used to replace infrastructure damaged by the gasoline additive Methyl tert-butyl ether (MTBE). The decision requires use of these proceeds for costs incurred as a result of MTBE contamination with any related benefits to be provided to Cal Water customers. Such usage includes transfer of the amount to contributions in aid of construction (CIAC) for remediation or replacement project costs once complete. Usage of the proceeds is reported to the CPUC through an Advice Letter or General Rate Case filing. As of December 31, 2011, $16.7 million of the proceeds was recorded as CIAC.  Cal Water did not use any of the proceeds to replace damaged infrastructure during the first quarter of 2012.  The remaining balance of $16.4 million is recorded as other long-term liabilities.

 

During 2011, Cal Water added balancing accounts for its pension plans and conservation program. Both balancing account effective dates were January 1, 2011. The pension plans balancing account is a two-way balancing account that tracks the differences between actual expenses and adopted rate recovery which will result in either a regulatory asset or liability. The conservation program is a one-way balancing account that tracks the differences between actual expenses and adopted rate recovery which may result in a regulatory liability if actual conservation expenses are less than adopted over the three year period ending December 31, 2013. As of March 31, 2012 and December 31, 2011, there was a regulatory liability of $5.6 million and $6.3 million, respectively, for both balancing accounts combined.

 

Note 9. Commitment and Contingencies

 

Commitments

 

The Company has significant commitments to lease certain office spaces and water systems and to purchase water from water wholesalers. These commitments are described in Form 10-K for the year ended December 31, 2011.  As of March 31, 2012, there were no significant changes from December 31, 2011.

 

Contingencies

 

Groundwater Contamination

 

The Company has undertaken litigation against third parties to recover past and future costs related to ground water contamination in our service areas. The cost of litigation is expensed as incurred and any settlement is first offset against such costs. The Commission general policy require all proceeds from contamination litigation to be used first to pay transactional expenses, then to make ratepayers whole for water treatment costs to comply with the Commission’s water quality standards. The Commission allows for a risk-based consideration of contamination proceeds which exceed the costs of the remediation described above and may result in some sharing of proceeds with the shareholder, determined on a case by case basis. The Commission has authorized various memorandum accounts that allow the Company to track significant litigation costs to request recovery of these costs in future filings and uses of proceeds to comply with Commission’s general policy.

 

Other Legal Matters

 

From time to time, the Company is involved in various disputes and litigation matters that arise in the ordinary course of business. The status of each significant matter is reviewed and assessed for potential financial exposure. If the potential loss from any claim or legal proceeding is considered probable and the amount of the range of loss can be estimated, a liability is accrued for the estimated loss in accordance with the accounting standards for contingencies. Legal proceedings are subject to uncertainties, and

 

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the outcomes are difficult to predict. Because of such uncertainties, accruals are based on the best information available at the time. While the outcome of these disputes and litigation matters cannot be predicted with any certainty, management does not believe when taking into account existing reserves the ultimate resolution of these matters will materially affect the Company’s financial position, results of operations, or cash flows.

 

Note 10. Fair Value of Financial Assets and Liabilities

 

The accounting guidance for fair value measurements and disclosures (Accounting Standards Update No. 2011-04 and Accounting Standards Codification No. 270-10-45-19, effective January 1, 2012), provides a single definition of fair value and requires certain disclosures about assets and liabilities measured at fair value. A hierarchal framework for disclosing the observability of the inputs utilized in measuring assets and liabilities at fair value is established by this guidance. The three levels in the hierarchy are as follows:

 

Level 1 -		Quoted prices are available in active markets for identical assets or liabilities as of the reporting date. The types of assets and liabilities included in Level 1 are highly liquid and actively traded instruments with quoted prices.
Level 2 -		Pricing inputs are other than quoted prices inactive markets, but are either directly or indirectly observable as of the reporting date. The types of assets and liabilities included in Level 2 are typically either comparable to actively traded securities or contracts, or priced with discounted cash flow or option pricing models using highly observable inputs.
Level 3 -		Significant inputs to pricing have little or no observability as of the reporting date. The types of assets and liabilities included in Level 3 are those valued with models requiring significant management judgment or estimation.

 

Specific valuation methods include the following:

 

Cash equivalents, accounts receivable and accounts payable carrying amounts approximated the fair value because of the short-term maturity of the instruments.

 

Long-term debt fair values were estimated using the published quoted market price, if available, or the discounted cash flow analysis, based on the current rates available using a risk-free rate (a U.S. Treasury securities yield curve) plus a risk premium of 1.19%.

 

Advances for construction fair values were estimated using broker quotes from companies that frequently purchase these investments.

 

		March 31, 2012
					Fair Value
		Cost			Level 1			Level 2			Level 3			Total
Long -term debt, including current maturities		$	487,734		$	—		$	592,256		$	—		$	592,256
Advances for construction		$	185,829		$	—		$	70,862		$	—		$	70,862
Total		$	673,563		$	—		$	663,118		$	—		$	663,118

 

		December 31, 2011
					Fair Value
		Cost			Level 1			Level 2			Level 3			Total
Long -term debt, including current maturities		$	488,165		$	—		$	625,202		$	—		$	625,202
Advances for construction		$	187,278		$	—		$	69,959		$	—		$	69,959
Total		$	675,443					$	695,161		$	—		$	695,161

 

Note 11. Subsequent Events

 

On April 19, 2012, the CPUC issued a decision to shorten the amortization periods for Cal Water’s undercollected net WRAM and MCBA receivable balances for calendar years 2011, 2012, and 2013.  As a result of this decision, most of Cal Water’s 2011, 2012, and 2013 net undercollected WRAM and MCBA receivable balances will be amortized over 12 and 18-month periods.  In addition, the decision authorized Cal Water to bill and collect all undercollected balances at the end of each calendar year.  As of December 31, 2011, $12.9 million of net WRAM and MCBA operating revenues and $10.5 million of associated costs were deferred.  The CPUC decision to shorten the amortization periods resulted in the recording of an additional $8.7 million of operating revenues and $7.1 million of associated costs during the first quarter of 2012 because these balances will be collected within 24-months using the new amortization periods.  Calendar year 2014 and future year amortization periods will be determined during the 2012 General Rate Case expected to be filed in 2013.

 

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Note 12. Condensed Consolidating Financial Statements (unaudited)

 

On April 17, 2009, Cal Water issued $100 million aggregate principal amount of 5.875% First Mortgage Bonds due 2019, and on November 17, 2010, Cal Water issued $100 million aggregate principal amount of 5.500% First Mortgage Bonds due 2040, all of which are fully and unconditionally guaranteed by the Company.

 

The following tables present the condensed consolidating balance sheets as of March 31, 2012 and December 31, 2011, the condensed consolidating statements of income for the three months ended March 31, 2012 and 2011 and the condensed consolidating statements of cash flow for the three months ended March 31, 2012 and 2011 of (i) California Water Service Group, the guarantor of the first mortgage bonds and the parent company; (ii) California Water Service Company, the issuer of the first mortgage bonds and a wholly-owned consolidated subsidiary of California Water Service Group; and (iii) the other wholly-owned consolidated subsidiaries of California Water Service Group.

 

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CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATING BALANCE SHEET

As of March 31, 2012

 

(In thousands)

 

		Parent Company			Cal Water			All Other Subsidiaries			Consolidating Adjustments			Consolidated
ASSETS
Utility plant:
Utility plant		$	324		$	1,839,523		$	162,146		$	(7,199	)	$	1,994,794
Less accumulated depreciation and amortization		(65		)	(565,306		)	(30,217		)	1,415			(594,173		)
Net utility plant		259			1,274,217			131,929			(5,784		)	1,400,621
Current assets:
Cash and cash equivalents		495			14,661			858			—			16,014
Receivables and unbilled revenue		—			69,484			3,112			—			72,596
Receivables from affiliates		10,606			3,014			—			(13,620		)	—
Other current assets		244			17,148			1,055			—			18,447
Total current assets		11,345			104,307			5,025			(13,620		)	107,057
Other assets:
Regulatory assets		—			317,611			2,379			—			319,990
Investments in affiliates		460,940			—			—			(460,940		)	—
Long-term affiliate notes receivable		29,504			7,820			—			(37,324		)	—
Other assets		1,049			32,908			7,099			(205		)	40,851
Total other assets		491,493			358,339			9,478			(498,469		)	360,841
		$	503,097		$	1,736,863		$	146,432		$	(517,873	)	$	1,868,519
CAPITALIZATION AND LIABILITIES
Capitalization:
Common stockholders’ equity		$	444,666		$	413,433		$	53,117		$	(466,551	)	$	444,665
Affiliate long-term debt		7,820			—			29,504			(37,324		)	—
Long-term debt, less current maturities		—			477,612			3,473			—			481,085
Total capitalization		452,486			891,045			86,094			(503,875		)	925,750
Current liabilities:
Current maturities of long-term debt		—			5,970			679			—			6,649
Short-term borrowings		50,790			—			—			—			50,790
Payables to affiliates		48			66			13,506			(13,620		)	—
Accounts payable		—			45,961			4,447			—			50,408
Accrued expenses and other liabilities		334			56,134			151			52			56,671
Total current liabilities		51,172			108,131			18,783			(13,568		)	164,518
Unamortized investment tax credits		—			2,254			—			—			2,254
Deferred income taxes, net		(561		)	116,626			3,434			(430		)	119,069
Pension and postretirement benefits other than pensions		—			235,465			—			—			235,465
Regulatory and other liabilities		—			72,989			8,053			—			81,042
Advances for construction		—			184,956			873			—			185,829
Contributions in aid of construction		—			125,397			29,195			—			154,592
		$	503,097		$	1,736,863		$	146,432		$	(517,873	)	$	1,868,519

 

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CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATING BALANCE SHEET

As of December 31, 2011

 

(In thousands)

 

		Parent Company			Cal Water			All Other Subsidiaries			Consolidating Adjustments			Consolidated
ASSETS
Utility plant:
Utility plant		$	324		$	1,808,568		$	158,688		$	(7,199	)	$	1,960,381
Less accumulated depreciation and amortization		(51		)	(551,345		)	(29,251		)	1,385			(579,262		)
Net utility plant		273			1,257,223			129,437			(5,814		)	1,381,119
Current assets:
Cash and cash equivalents		89			18,475			8,639			—			27,203
Receivables		158			76,227			(4,797		)	—			71,588
Receivables from affiliates		7,817			3,446			5			(11,268		)	—
Other current assets		—			14,225			872			—			15,097
Total current assets		8,064			112,373			4,719			(11,268		)	113,888
Other assets:
Regulatory assets		—			317,564			2,334			—			319,898
Investments in affiliates		466,515			—			—			(466,515		)	—
Long-term affiliate notes receivable		28,921			7,832			—			(36,753		)	—
Other assets		1,144			31,662			7,081			(205		)	39,682
Total other assets		496,580			357,058			9,415			(503,473		)	359,580
		$	504,917		$	1,726,654		$	143,571		$	(520,555	)	$	1,854,587
CAPITALIZATION AND LIABILITIES
Capitalization:
Common stockholders’ equity		$	449,829		$	417,810		$	54,377		$	(472,187	)	$	449,829
Affiliate long-term debt		7,832			—			28,921			(36,753		)	—
Long-term debt, less current maturities		—			477,998			3,634			—			481,632
Total capitalization		457,661			895,808			86,932			(508,940		)	931,461
Current liabilities:
Current maturities of long-term debt		—			5,851			682			—			6,533
Short-term borrowings		47,140			—			—			—			47,140
Payables to affiliates		52			190			11,026			(11,268		)	—
Accounts payable		—			47,568			4,010			—			51,578
Accrued expenses and other liabilities		625			46,462			(547		)	84			46,624
Total current liabilities		47,817			100,071			15,171			(11,184		)	151,875
Unamortized investment tax credits		—			2,254			—			—			2,254
Deferred income taxes, net		(561		)	113,925			3,435			(431		)	116,368
Pension and postretirement benefits other than pensions		—			232,110			—			—			232,110
Regulatory and other liabilities		—			71,034			8,016			—			79,050
Advances for construction		—			185,902			1,376			—			187,278
Contributions in aid of construction		—			125,550			28,641			—			154,191
		$	504,917		$	1,726,654		$	143,571		$	(520,555	)	$	1,854,587

 

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CALIFORNIA WATER SERVICE GROUP

CONDENSED CONSOLIDATING STATEMENT OF INCOME (LOSS)

For the three months ended March 31, 2012

 

(In thousands)

 

		Parent Company			Cal Water			All Other Subsidiaries			Consolidating Adjustments			Consolidated
Operating revenue		$	—		$	109,825		$	6,924		$	—		$	116,749
Operating expenses:
Operations:
Water production costs		—			36,542			2,410			—			38,952
Administrative and general		36			20,652			2,330			—			23,018
Other		—			22,372			1,580			(126		)	23,826
Maintenance		—			5,557			203			—			5,760
Depreciation and amortization		(5		)	13,300			686			(30		)	13,951
Income taxes (benefit)		(140		)	247			(415		)	336			28
Taxes other than income taxes		—			4,059			548			—			4,607
Total operating expenses (income)		(109		)	102,729			7,342			180			110,142
Net operating income (loss)		109			7,096			(418		)	(180		)	6,607
Other Income and Expenses:
Non-regulated revenue		471			3,824			573			(732		)	4,136
Non-regulated expense		—			(1,698		)	(401		)	—			(2,099		)
Income tax benefit (expense) on other income and expense		(192		)	(866		)	(89		)	324			(823		)
Net other income (expense)		279			1,260			83			(408		)	1,214
Interest:
Interest expense		314			7,406			525			(606		)	7,639
Less: capitalized interest		—			(598		)	(305		)	—			(903		)
Net interest expense		314			6,808			220			(606		)	6,736
Equity earnings of subsidiaries		1,011			—			—			(1,011		)	—
Net income (loss)		$	1,085		$	1,548		$	(555	)	$	(993	)	$	1,085

 

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