(As filed with the Securities and Exchange Commission on April 29, 2002)
File No. 70-9987
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM U-1/A
Amendment No. 1
to
APPLICATION/DECLARATION
UNDER THE
PUBLIC UTILITY HOLDING COMPANY ACT OF 1935
NATIONAL FUEL GAS COMPANY
10 Lafayette Square
Buffalo, New York 14203
(Name of company filing this statement
and address of principal executive offices)
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NATIONAL FUEL GAS COMPANY
(Name of top registered holding company parent)
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Philip C. Ackerman,
President and Chief Executive Officer
National Fuel Gas Company
10 Lafayette Square
Buffalo, New York 14203
(Name and address of agent for service)
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TheCommission is requested to mail copies of all orders,
notices and other communications to:
James R. Peterson, Michael F. Fitzpatrick, Jr., Esq.
Assistant Secretary Thelen Reid & Priest LLP
National Fuel Gas Company 40 West 57th Street
10 Lafayette Square New York, New York 10019
Buffalo, New York 14203
TABLE OF CONTENTS
Page
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ITEM 1. DESCRIPTION OF PROPOSED TRANSACTION 4
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A. BACKGROUND: NATIONAL'S CURRENT FINANCING AUTHORITY 5
B. PROPOSED INCREASE IN AGGREGATE INVESTMENT LIMIT 6
C. DESCRIPTION OF NATIONAL'S CURRENT PORTFOLIO OF EXEMPT PROJECTS 6
1. FUCOs 6
a. UNITED ENERGY, a.s. 6
b. TEPLARNA LIBEREC a.s. 7
c. TEPLARNA KROMERIZ, a.s. 7
2. EWGS 7
D. RISK PROFILE OF NATIONAL'S INVESTMENTS IN EXEMPT PROJECTS 8
1. THE PROJECT REVIEW PROCESS 8
2. RISK MITIGATION MEASURES 9
a. OPERATING RISKS 9
b. CONSTRUCTION RISKS 10
c. COMMERCIAL RISKS 10
d. FINANCIAL RISKS 10
e. INTEREST RATE RISK 11
f. FOREIGN CURRENCY EXCHANGE RISK 12
g. LEGAL RISKS 12
h. COUNTRY RISKS 12
i. PORTFOLIO DIVERSIFICATION 13
j. EARNINGS FROM EXEMPT PROJECTS 14
k. EFFECT OF REGULATORY CHANGE 15
ITEM 2. FEES, COMMISSIONS, AND EXPENSES 16
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ITEM 3. APPLICABLE STATUTORY PROVISIONS 16
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A. GENERAL PROVISIONS 16
B. COMPLIANCE WITH RULE 53(C) 16
1. THE PROPOSED TRANSACTIONS WILL NOT HAVE A SUBSTANTIAL ADVERSE
IMPACT UPON THE FINANCIAL INTEGRITY OF THE NATIONAL SYSTEM 19
a. KEY FINANCIAL RATIOS/BENCHMARKS 20
i. CAPITALIZATION RATIOS 20
ii. NATIONAL SECURITY RATINGS 20
iii. CONSOLIDATED RETAINED EARNINGS 21
iv. NATIONAL'S DEBT LIMITATIONS 21
v. RULE 53(B) FACTORS 22
vi. OTHER INDICATORS 22
b. MARKET ASSESSMENT OF NATIONAL 22
2. THE PROPOSED TRANSACTIONS WILL NOT HAVE AN ADVERSE IMPACT
ON DISTRIBUTION OR ITS CUSTOMERS, OR ON THE ABILITY OF
DISTRIBUTION'S STATE PUBLIC UTILITY COMMISSIONS TO
PROTECT SUCH CUSTOMERS 23
a. INSULATION FROM RISK 23
2
b. DISTRIBUTION'S FINANCIAL INTEGRITY 24
c. ADEQUACY OF STATE COMMISSION OVERSIGHT 25
C. COMPLIANCE WITH RULE 54 25
D. THE COMMISSION SHOULD NOT ORDER A HEARING IN THIS PROCEEDING 26
ITEM 4. REGULATORY APPROVAL 28
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ITEM 5. PROCEDURE 28
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ITEM 6. EXHIBITS AND FINANCIAL STATEMENTS 29
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ITEM 7. INFORMATION AS TO ENVIRONMENTAL EFFECTS 29
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The Application/Declaration filed in this proceeding on October 9,
2001, is hereby amended and restated in its entirety. The purpose of this
amendment is generally to update all financial and other information through
December 31, 2001.
ITEM 1. DESCRIPTION OF PROPOSED TRANSACTION
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National Fuel Gas Company ("National") is a registered holding
company under the Public Utility Holding Company Act of 1935, as amended (the
"Act"). Through its subsidiaries, National engages in a diversified energy
business that is organized into six major business segments, namely: Utility;
Exploration and Production; Pipeline and Storage; Timber; International; and
Energy Marketing. The Utility segment (National Fuel Gas Distribution Company)
sells or transports natural gas to over 732,000 customers through a local
distribution system located in western New York and northwestern Pennsylvania;
the Exploration and Production segment (Seneca Resources Corporation) ("Seneca")
explores for, develops and purchases natural gas and oil reserves in the Gulf
Coast region of Texas and Louisiana, California, Wyoming, and the Appalachian
region of the United States, and in the western Canadian provinces (Manitoba,
Alberta and Saskatchewan); the Pipeline and Storage segment (National Fuel Gas
Supply Corporation) ("Supply Corporation") provides interstate natural gas
transportation and storage services for affiliated and nonaffiliated companies
through an integrated regional gas pipeline system that extends 3,065 miles from
southwestern Pennsylvania to the New York-Canadian border and 29 underground
storage areas; the Timber segment (Highland Forest Resources, Inc. and Seneca
Resources Corporation, Northeast Division) operates sawmills in northwestern
Pennsylvania and markets timber from National's New York and Pennsylvania land
holdings; the International segment (Horizon Energy Development, Inc. and
Horizon Power, Inc.) invests in and manages foreign energy projects, primarily
in the Czech Republic, as well as projects in the United States; and the Energy
Marketing segment (National Fuel Resources, Inc.) markets and brokers natural
gas and electricity and the provides energy management services for industrial,
commercial, public authority and residential end-users throughout the northeast
United States. National and its subsidiaries are hereinafter referred to
collectively as the National System.
For the fiscal year ended September 30, 2001, National reported
consolidated revenues of $2.1 billion and net income of $65.5 million.(1)
National Fuel Gas Distribution Company ("Distribution") contributed
approximately 36% of National's net income, while National's principal
non-utility subsidiaries, Supply Corporation and Seneca, contributed
approximately 24% and 42%, respectively, of National's net income. National's
consolidated capitalization at December 31, 2001 was as follows:
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(1) During the fiscal year ended September 30, 2001, National recorded a
non-cash write-down related to Seneca's oil and gas assets in the amount of
$104 million after tax. Absent this impairment, National's net income would
have been $169.5 million.
4
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Common equity $1,027,775,000 38.2%
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Long-term debt $1,195,452,000 44.4%
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Short-term debt* $467,080,000 17.4%
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Total $2,690,307,000 100.0%
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* Includes current portion of long-term debt.
A. BACKGROUND: NATIONAL'S CURRENT FINANCING AUTHORITY
By order dated March 20, 1998,(2) as modified by order dated April
21, 2000(3) (as modified, the "1998 Order"), National and its subsidiaries are
authorized to engage in a program of external financing, intrasystem financing
and other related transactions for the period through December 31, 2002. Among
other approvals granted, the Commission authorized National to (i) issue and
sell from time to time additional long-term debt and equity securities
outstanding at any one time not to exceed $2 billion, (ii) issue and sell from
time to time up to $750 million principal amount of short-term debt in the form
of commercial paper and borrowings under credit facilities having maturities of
up to 270 days, and (iii) guarantee securities of its subsidiaries and provide
other forms of credit support with respect to obligations of its subsidiaries as
may be necessary or appropriate to enable such subsidiaries to carry on in the
ordinary course of business in an aggregate amount not to exceed $2 billion
outstanding at any one time. Under the terms of the 1998 Order, National is
authorized to use the proceeds of authorized financing to invest in and enter
into guarantees with respect to the obligations of "exempt wholesale generators"
("EWGs") and "foreign utility companies" ("FUCOs"),(4) provided that its
"aggregate investment" (as defined under Rule 53) in EWGs and FUCOs does not
exceed 50% of its "consolidated retained earnings" (also as defined in Rule 53),
except for short-term borrowings by National to provide funds to the National
System Money Pool, which may not be used to finance the acquisition of any
interest in a FUCO or EWG. As of December 31, 2001, National's aggregate
investment in EWGs and FUCOs was approximately $140,673,889, or 24.58% of
National's average consolidated retained earnings for the four quarters ended
December 31, 2001 ($572,320,250).
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(2) National Fuel Gas Company, et al., Holding Co. Act Release No. 26847.
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(3) National Fuel Gas Company, et al., Holding Co. Act Release No. 27170.
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(4) The terms "exempt wholesale generator" and "foreign utility company" are
defined, respectively, in Sections 32(a) and 33(a) of the Act.
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B. PROPOSED INCREASE IN AGGREGATE INVEST LIMIT
National is now requesting, pursuant to Rule 53(c), authority to
increase its "aggregate investment" in EWGs and FUCOs (hereafter referred to
collectively as "Exempt Projects") to $750,000,000 (the "EWG/FUCO Investment
Limit"), which is equal to approximately 131% of National's average consolidated
retained earnings for the four quarters ended December 31, 2001.
National believes that, at this stage of the restructuring of the
utility industry both in this country and abroad, it is critical that it have
the flexibility to increase its investment in Exempt Projects in order to create
maximum shareholder value. As described below, National has already made
substantial investments in electric generation and thermal energy systems in the
Czech Republic and is investigating potential investments in other similar
facilities in eastern Europe and elsewhere. Domestically, National has made
relatively modest investments in EWG facilities in New York that utilize
landfill gas (methane) and natural gas as a fuel. National has explored possible
investments in other similar domestic generation facilities as well as in
existing generating plants that are being sold by electric utility companies
under State restructuring initiatives.
For the reasons discussed in greater detail below, National believes
that it has the capacity to fund from external sources investments in Exempt
Projects in amounts significantly greater than 50% of its average consolidated
retained earnings without impairing the financial condition of the National
System or the ability of National to provide necessary capital to its domestic
public utility operations. Accordingly, National requests that the Commission
issue an order pursuant to Rule 53(c) under the Act modifying the 1998 Order in
order to allow National to utilize the proceeds of financing and to issue
guarantees, within the limits specified under the 1998 Order (or any order or
orders hereafter issued that extend or renew National's authorization under the
1998 Order), to finance investments in Exempt Projects in an amount up to the
proposed EWG/FUCO Investment Limit. As demonstrated in Item 3 of this
Application/Declaration, National satisfies the applicable standards under Rule
53(c).
C. DESCRIPTION OF NATIONAL'S CURRENT PORTFOLIO OF EXEMPT PROJECTS
1. FUCOs
a. UNITED ENERGY, a.s.
National, through Horizon Energy Development, B.V.("Horizon B.V."),
owns an 85.16% interest in United Energy, a.s. ("UE"), which owns and operates
wholesale power and heating facilities located in the northern Bohemian region
of the Czech Republic. UE's revenues are derived from the sale of both electric
energy and thermal energy produced from its generation facilities. UE also
purchases heat for resale. UE's generating facilities have a capacity of 236
6
megawatts electric (MWe) and 1,253 megawatts thermal (MWt). UE sells the
electricity it produces at wholesale to the local electric utility. Thermal
energy is ultimately sold to residential, commercial and industrial customers.
In fiscal year 2001, UE had approximately 7,549 terajoules (TJ) of heat sales
and approximately 970 gigawatthours (GWh) of electric sales.
b. TEPLARNA LIBEREC a.s.
National, through UE, owns a 70% interest in Teplarna Liberec a.s.
("Liberec"), which owns and operates wholesale power and district heating
facilities located in the city of Liberec in the Czech Republic. Liberec's
facilities include a 12 MWe back pressure steam turbine generator. In fiscal
year 2001, Liberec made heat sales totaling 1,606 TJ and wholesale sales of
electricity totaling 50 GWh. Electric power was sold at wholesale to the local
electric utility.
c. TEPLARNA KROMERIZ, a.s.
National, through Horizon B.V., owns 100% of Teplarna Kromeriz, a.s.
("Kromeriz"), which owns and operates a district heating system in the town of
Kromeriz in the Czech Republic. Kromeriz made heat sales of 137 TJ in fiscal
year 2001.
2. EWGS.
a. SENECA ENERGY II, LLC
National indirectly owns a 50% membership interest in Seneca Energy
II, LLC, an EWG that generates approximately 11 MW of electricity from methane
gas obtained from a landfill located in Waterloo, New York.
b. MODEL CITY ENERGY, LLC
National indirectly owns a 50% membership interest in Model City
Energy, LLC, an EWG that generates approximately 5.5 MW of electricity from
methane gas obtained from a landfill located in Model City, New York.
c. ENERGY SYSTEMS NORTH EAST, LLC
National indirectly owns a 50% membership interest in Energy Systems
North East, LLC, an EWG, which owns and operates an approximately 80 MW
gas-fired generating facility in North East, Pennsylvania. The facility supplies
thermal energy to Welch Foods, Inc. and markets the electric energy produced
under a tolling arrangement.
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D. RISK PROFILE OF NATIONAL'S INVESTMENTS IN EXEMPT PROJECTS
Investments in EWGs and FUCOs may involve a variety of risks that
historically have not been present in the traditional, regulated, electric and
gas utility industries in this country. The review process (the "Review
Process") employed by National in evaluating and assessing the benefits and
risks in any investment in an EWG or FUCO identifies and addresses (i.e., limits
and/or mitigates) these risks as they relate to both domestic and, more
significantly, foreign projects. The following is a discussion of these
procedures and risks.
1. THE PROJECT REVIEW PROCESS
Every potential EWG and FUCO investment and acquisition opportunity
(both domestic and foreign) considered by National is subjected to several
stages of formal review to ensure both the alignment of the project with
strategic objectives of National and the appropriate assessment of both the
risks and rewards for the project. This review process applies to all new
business opportunities, not simply Exempt Projects. The Review Process includes
a detailed framework for each phase of the project development cycle.
Initially, at the conceptual stage in the assessment of a proposed
project or acquisition, National's Development Team must make a preliminary
determination as to whether the project is consistent with National's strategic
objectives and whether the project's risk and rewards ratio will be acceptable.
National's Development Team consists of specialists in accounting, legal
affairs, engineering, finance and operations. If deemed to be consistent with
National's strategic objectives and the initial evaluation of the project's
risks and rewards ratio is acceptable, then the Development Team is responsible
for the preparation of a business concept document ("Pro Forma") for the
project. The Pro Forma must address at a minimum the description of the
business, an analysis of potential partnerships, a preliminary market
assessment, a technical analysis, initial financial analysis, critical success
factors, risks, estimated development costs, and exit strategies. Upon the
completion of the Pro Forma, the Development Team and Management, must review it
and make a determination that the project is consistent with National's
corporate strategic objectives, and, given the identified risks, has the
requisite earnings potential to merit further review through detailed due
diligence.
National's Development Team will perform detailed project due
diligence and risk assessment using in-country advisors, engineers,
environmental auditors, accountants, tax advisors, attorneys, and investment
bankers to evaluate the project. The Pro Forma will be updated and a business
case will be developed. This business case, along with the results of the due
diligence and risk assessment process performed in connection with the
development of the business case, is to form the basis upon which the National
Executives and the National Board of Directors will approve of the proposed
investment in the project. The business case is to be a comprehensive
identification and analysis of the strategic, market, operational, and financial
components of the project. In addition to an assessment of the project, it will
also include the identification of an exit strategy and identify initial project
8
implementation steps. Its scope will be driven by the size, complexity, and risk
associated with the project.
Upon completion of the Pro Forma and business case, a summary of the
findings as well as a recommendation on whether, and if so, how, to proceed will
be presented to the National Executives. Upon approval by the National
Executives, the investment will be assessed against pre-approved Board
investment criteria to determine the level of additional approvals, if any, that
may be required. Depending on the magnitude of the investment in a project, full
Board approval may be necessary.
As indicated, the above internal review process applies to all new
National businesses, including Exempt Projects. Due to the special risks
associated with foreign Exempt Projects, however, additional factors are
considered. Before National makes any investment in a foreign country, the
business case must include an analysis of country risk, which will be presented
to and reviewed by National's Board of Directors. The analysis includes a review
of the political and economic stability of the particular country, the
government's commitment to private power, the extent to which there is a free
market economy, the extent to which there is a developed local banking system,
the legal and regulatory framework for private investment in electric or gas
facilities, the local business support for long-term investment of private
capital, currency conversion and repatriation, and the potential for future
partial sales of the investment interest to other investors.
2. RISK MITIGATION MEASURES
As National expands its energy business in the future, National will
carefully and systematically evaluate the potential risks of a project in
connection with the development of the business case before National funds are
committed. The risks evaluated include those discussed below.
a. OPERATING RISKS
National's experience in competing in a non-regulated environment
through its non-utility subsidiaries (particularly the Pipeline and Storage,
Exploration and Production, and International segments) enables National to
anticipate and consequently mitigate risks associated with Exempt Projects.
Absent the impact of a non-cash impairment related to Seneca's oil and gas
properties (see note 1, above), National's non-utility subsidiaries contributed
more than half of National's net income from operations for the fiscal year
ended September 30, 2001, and that percentage is expected to grow over time.
Due diligence review of operating assumptions relating to any
project include an analysis of fuel supply and environmental effects by
appropriate personnel with experience in the technology being evaluated,
supplemented as appropriate by the use of outside technical consultants. Other
operating risks may, as appropriate, be mitigated by equipment warranties and by
9
casualty, business interruption, and other forms of insurance. Further,
operating risk may be mitigated in some instances by a subsidiary's direct
participation in the administration and operation of a project; such direct
involvement may enhance National's ability to identify and address developing
and existing problems on a timely basis.
b. CONSTRUCTION RISKS
Another element of National's risk mitigation policy is to achieve a
balance between so-called "greenfield" projects and acquisitions of existing
facilities and power systems. Greenfield projects are those that involve
completely new development and construction of facilities, principally
generating stations. Greenfield projects involve a higher degree of risk because
they entail a lengthy process of development and construction. Funds are
expended during the early years of such projects; and return on investment is
not earned until the project is in operation. Nevertheless, while greenfield
projects have higher levels of risk and deferred returns, they are important to
National because they generally produce higher rates of return on investment
than investments in existing assets and lay the foundation for continued
earnings growth.
To the extent issues regarding construction risks arise, such risks
are commonly mitigated by fixed-price contracts with milestones and performance
guarantees (e.g., guaranteed rates and availability factors), backed by
appropriate levels of liquidated damages. The creditworthiness and track record
of the construction contractor is an important consideration in this regard. In
those cases where a subsidiary of National may serve as its own general
construction contractor, it will look to pre-negotiated cost and damage
provisions from sub-contractors, including, without limitation, equipment
vendors, to protect against performance shortfalls, cost overruns and schedule
delays.
c. COMMERCIAL RISKS
In a competitive market, prices are determined by the economic laws
of supply and demand. Accordingly, National System personnel will conduct
extensive investigations of the foreign or domestic markets in which a
particular project will operate. With respect to an EWG, a National System
company will seek to ensure that the EWG will be capable of producing
electricity at competitive rates in a non-regulated environment. National System
personnel will also assess the underlying economic parameters in specific
markets to assure that there will be sufficient demand for the output of the
EWG.
d. FINANCIAL RISKS
National takes various issues into consideration in mitigating the
financial risk associated with a proposed project. The Pro Forma analysis
prepared for a proposed investment in a project by National will include an
evaluation of whether the project cash flows will be able to support National's
10
anticipated investment financing based on the traditional debt and equity
financial structure that National attempts to maintain on a consolidated basis.
The Pro Forma analysis will also evaluate whether the project can
support additional financial risk from debt financing at the project level. This
evaluation will consider whether the project is of a sufficient size to enable
permanent debt financing to be obtained at a reasonable cost and on a
non-recourse basis to National. The use of non-recourse project debt means that
this debt will be secured solely by the project's assets and revenues, and
creditors have no ability to seek repayment upon default from National. This
method of financing ensures that National's exposure to any project is limited
to the amount of National's equity investment in the project.
In determining the amount any non-recourse debt financing and
associated financial risk for a particular project, National will also take into
consideration the economic characteristics of the project. For example, if a
project is supported by a long-term, fixed-price, "off-take" agreement with a
third party, the project debt may be designed to be of a similar term, with
scheduled debt payments covered by fixed charges. On the other hand, where there
is no long-term, fixed source of revenue, the amount of non-recourse debt
financing by the project would normally be smaller, so that undue financial risk
is not incurred through excessive debt levels.
e. INTEREST RATE RISK
A specific financing risk is the potential variability of interest
rates. Interest rate variability can be addressed, in part, by borrowing on a
fixed-rate basis or by purchasing financial instruments that fix or cap variable
interest rates. The effects of interest rate volatility can be mitigated
principally through two strategies: hedging and diversifying. Hedging techniques
that National may utilize would limit the impact that rising interest rates have
on floating rate debt instruments.(5) Diversification implies that liabilities
will be spread among short- and long-term debt instruments, as well as fixed and
floating interest obligations.
As an example, National, through UE, has entered into an interest
rate swap to eliminate interest rate fluctuations on a CZK (Czech koruna)
denominated term loan having a variable interest rate equal to six month Prague
Interbank Offered Rate (PRIBOR), plus 0.475%. Under the terms of the interest
rate swap, which extends until 2002, National pays a fixed rate of 8.31% and
receives a floating rate of six month PRIBOR.
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(5) Under the terms of the 1998 Order, National is authorized to enter into
interest rate hedging transactions to mitigate interest rate risk.
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f. FOREIGN CURRENCY EXCHANGE RISK
There are several ways in which National may address the foreign
currency exchange risk element, depending on the status of the target country.
Initially, National will seek to develop or acquire projects where there is free
convertibility of the local currency into U.S. dollars. In countries that do not
have a history of stability in the management of their exchange policy, National
may require that part or all of the revenue from a project be payable in or
indexed to hard currency (almost invariably U.S. dollars). Back-up guarantees or
other undertakings by the central government may be available to ensure that the
U.S. dollar payments due under a power purchase agreement are actually made
available by the central bank or ministry of finance.
In other cases, some or all of the non-recourse project debt may be
borrowed in the same currency as the project's revenues, thereby ensuring a
match between debt service obligations and operating income. Where available,
long-term currency swaps would provide a further hedging option for the equity
component of the investment.
g. LEGAL RISKS
Legal risks will be addressed by careful review of any investment by
legal counsel, including local and international counsel where foreign projects
are concerned. Such legal reviews address regulatory and permitting risks,
environmental risks, the adequacy and enforceability of guarantees or other
contractual undertakings of third parties, the status of title to utility
property, and the obligations inherent in the financing arrangements.
h. COUNTRY RISKS
In addition to the specific risks mentioned above, investment
outside the United States can entail country-specific risks related to political
or economic performance. As indicated above, National thoroughly evaluates
country risk before committing to invest in any foreign project, and attempts to
mitigate this risk through a number of measures. Most important, the country
review process described above ensures that the political and economic stability
of any country has been reviewed at several levels up to and, depending on the
level of investment, including National's Board of Directors before any
investment occurs. The country analysis also focuses specifically on the
country's energy sector and on the government's support for private ownership in
that sector.
In some instances, in order to mitigate risk, National has acquired
interests in Exempt Projects that that are partly owned by local entities that
are experienced in doing business in the host country. Having local
participation in the ownership of an Exempt Project can in most cases greatly
reduce the risk of future expropriation or unfair regulatory treatment in the
host country. Another mitigating factor is the participation of official or
multilateral agencies in an Exempt Project. When funds for the project are
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supplied by government-sponsored export credit agencies or other governments or
institutions such as the World Bank through its International Finance
Corporation affiliate, the host country has strong incentives not to take
actions which would harm the project's viability.
Political risk may be addressed through political risk insurance
obtained from the Overseas Private Investment Corporation, a United States
agency, or the Multilateral Investment Guaranty Agency, a World Bank affiliate,
or in the commercial insurance market. Political risk insurance is available to
insure the project debt or the return of an investor's equity. One can also
insure against outright expropriation, acts of civil violence, or even
"creeping" nationalization brought about by punitive regulation. National will
analyze the perceived risk and its costs and compare that with the cost of
obtaining such insurance and, when such costs associated with such risks exceed
the costs of insurance coverage, National will attempt to procure such
insurance.
i. PORTFOLIO DIVERSIFICATION
National recognizes that the risk inherent in any investment cannot
be eliminated entirely, even by the most careful approach to project
development. However, National believes that diversification of both the type
and location of projects can mitigate risk. Accordingly, National will evaluate
opportunities across countries and regions of the world. On the other hand,
National may balance its diversification strategy with another goal--i.e., to
develop regional expertise.
In the domestic sector, several electric utilities operating in the
States in which Distribution operates (New York and Pennsylvania) and
neighboring States have either sold or announced their intention to sell their
electric generating properties as part of State-sponsored electric utility
industry restructuring initiatives. National is actively considering acquiring
existing electric generating assets in this region through affiliated EWGs.
National believes that ownership of operating power plants, especially in its
service territory, would present unique opportunities to leverage its existing
experience and core competencies in such areas as customer relations, fuel
management and supply, regulatory relations, and others. The acquisition of
existing power plants would reduce the risk of National's overall business by
producing near-term earnings without significant development or construction
risk. Moreover, National believes that it can, through the expertise and
resources of the National System companies, improve the operations of many
existing generating projects that are available.
In the foreign sphere, National will continue to investigate
opportunities to invest in "greenfield" power projects as well as utility
systems that are the subject of privatization initiatives. Although National has
not committed to invest in any particular foreign project (other than those
described above), it is currently engaged in preliminary development activities
in Europe.
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j. EARNINGS FROM EXEMPT PROJECTS
National's investments in Exempt Projects have contributed
positively to earnings in each of the past three fiscal years. For example, for
the fiscal year ended September 30, 2001, the Exempt Projects contributed net
income of approximately $3.3 million. National expects that its investments in
Exempt Projects will continue to generate positive earnings and contribute to
consolidated earnings growth in the future.
National's development costs in the first two years after Horizon
commenced operations (1996 and 1997) exceeded operating revenues from FUCOs.
These losses were largely attributable to the delays involved in the development
of a "greenfield" project in Pakistan. That project was sold at a loss, which
was recognized in fiscal 1996. To a much smaller extent, start-up costs
associated with acquiring, assuming control of, and restructuring existing
assets in the Czech Republic added to that loss.(6)
Horizon's acquisitions in the Czech Republic were spread out over
three years (1996 through 1998). Beginning in 1998, after only two years of
efforts, Horizon generated positive net income of $1.3 million, notwithstanding
the fact that the first full 12 months of operating revenues from its most
recent acquisition were not reflected in income until fiscal 1999.
The Czech assets are a long-term investment, intended to take
advantage of an early opportunity to acquire strategically located assets in
preparation for a competitive electric market environment and the Czech
Republic's accession into the European Union. These assets were not acquired
with the expectation that they would immediately achieve domestic (U.S.) level
utility returns. Horizon is now positioned with several thermal energy plants
that are logical host sites for the addition of electric generating capacity.
These sites have the necessary infrastructure and zoning to become co-generation
facilities. As development progresses, re-powering with natural gas is an
additional opportunity. Czech gross domestic product (GDP) grew 2.9% in 2000 and
is forecast to grow 3.7% this year. Historically, electric demand tends to grow
with GDP. Hence, Horizon continues to believe that its value-added strategy for
the Czech Republic assets is sound.
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(6) National's 1997 Annual Report forthrightly informs shareholders of that
year's loss "Due to start-up costs associated with our international
operations."
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k. EFFECT OF REGULATORY CHANGE
Regulatory change in the United States has served both to mitigate
the risk of investing in EWGs and to increase the opportunities for investment
in EWGs. Global regulatory changes and privatization have increased the
opportunities to invest in FUCOs. In this environment, National can best enhance
its future earnings growth, and thereby lower its overall cost of capital,
through a broadly diversified program of developing and investing in Exempt
Projects.
In the past several years, the United States (and North American)
energy market has evolved into a competitive and liquid market, with open
transmission access in the United States and substantial markets available
through federal and state sponsored restructuring. This market has evolved since
the passage of the Energy Policy Act of 1992 and particularly in the wake of the
transmission access required by FERC Order 888 and the formation of independent
regional transmission organizations, as envisioned by FERC Order 2000. The
Commission recognized the transfiguration of the energy market in the United
States in its order adopting Rule 58:
As a result of Congressional action [i.e. the Energy Policy Act], combined
with initiatives of the Federal Energy Regulatory Commission ("FERC") and
the state and local ratemaking authorities, the pace of change in the gas
and electric utility industry is accelerating. Today, the gas industry is
largely deregulated and the electric industry is undergoing a similar
process. In addition to increasing competition at the wholesale level,
retail electric competition is developing more rapidly than anticipated,
due to state efforts. Utilities and the suppliers of energy appear poised
to compete in retail markets. As a result of these developments the
contemporary gas and electric industries no longer focus solely upon the
traditional production and distribution functions of a regulated utility,
but are instead evolving toward a broadly based, competitive, energy
services business.(7)
In addition, partially as a result of the Energy Policy Act,
partially as a result of foreign nations opening government utility systems to
private investment activity, and partially through utility restructuring, the
global energy market has evolved to allow a much greater level of competition
and outside investment. Participants in this market who seek to own or operate
power generation must utilize a portfolio approach to investment and maintain
investment levels sufficient to achieve the benefits of scale economies.
National has successfully participated in this global market through investments
in the Czech Republic. Continued success will require continued investment and
growth.
-------------------
(7) Holding Company Act Release No. 26667 (February 20, 1997), text at
footnotes 19-21. See also The Regulation of Public-Utility Holding
Companies, Report of the Division of Investment Management, Securities and
Exchange Commission (June 1995), at 19-22, 26-27.
15
ITEM 2. FEES, COMMISSIONS, AND EXPENSES
The fees, commissions, and expenses incurred or to be incurred in
connection with this Application/Declaration are estimated to be $20,000 (for
legal fees and expenses).
ITEM 3. APPLICABLE STATUTORY PROVISIONS
A. GENERAL PROVISIONS
Sections 32 and 33 of the Act and Rule 53 of the Commission's rules
thereunder are or may be applicable to the proposed transactions.
Rule 53 provides that, if each of the conditions of paragraph (a)
thereof is met, and none of the conditions of paragraph (b) thereof is
applicable, then the Commission may not make certain adverse findings under
Sections 7 and 12 of the Act in determining whether to approve a proposal by a
registered holding company to issue securities in order to finance an investment
in any EWG or to guarantee the securities of any EWG. The Commission has applied
these same criteria to financing of investments in FUCOs. Giving effect to the
proposals contained herein, National will satisfy all of the conditions of Rule
53(a) except for clause (1) thereof, since National is proposing herein to
increase its aggregate investment in EWGs and FUCOs to more than 50% of
National's consolidated retained earnings. None of the conditions specified in
Rule 53(b) is applicable.
B. COMPLIANCE WITH RULE 53(C)
Rule 53(c) states that, in connection with a proposal to issue and
sell securities to finance an investment in any EWG, or to guarantee the
securities of any EWG, a registered holding company that is unable to satisfy
the requirements of paragraph (a) or (b) of Rule 53 must "affirmatively
demonstrate" that such proposal:
- will not have a substantial adverse impact upon the financial
integrity of the registered holding company system; and
- will not have an adverse impact on any utility subsidiary of
the registered holding company, or its customers, or on the
ability of State commissions to protect such subsidiary or
customers.
In the past, the Commission has routinely issued orders under Rule
53(c) permitting other registered holding companies to finance investments in
EWGs and FUCOs in amounts up to 100% of consolidated retained earnings.(8) More
recently, the Commission has authorized aggregate investment limits that are
-------------------
(8) See The Southern Company, Holding Co. Act Release No. 26501 (Apr. 1, 1996),
Central and South West Corporation, Holding Co. Act Release No. 26653 (Jan.
24, 1997), GPU, Inc., Holding Co. Act Release No. 26779 (Nov. 17, 1997),
Cinergy Corporation, Holding Co. Act Release No. 26848 (Mar. 23, 1998),
American Electric Power Company, Inc., Holding Co. Act Release No. 26864
(Apr. 27, 1998), New Century Energies, Inc., Holding Co. Act Release No.
26892 (Feb. 26, 1999), and Entergy Corporation, Holding Co. Act Release No.
27184 (Mar. 15, 2000).
16
well above 100% of consolidated retained earnings. National Grid Group, plc
("National Grid"), for example, was authorized in early 2000 as part of its
acquisition of New England Electric System to make additional investments in
EWGs and FUCOs that would increase its aggregate investment to approximately
252% of its pro forma consolidated retained earnings.(9) In late 2000, also as
part of a merger approval, the Commission authorized KeySpan Corporation
("KeySpan") to invest up to 250% of its pro forma consolidated retained earnings
in EWGs and FUCOs.(10) That was followed by an order issued to Cinergy Corp.
("Cinergy") in which the Commission authorized an increase in Cinergy's
aggregate investment limit to an amount that is equal to the sum of its
aggregate investment in EWGs and FUCOs at that time plus $1 billion, or about
154% of Cinergy's consolidated retained earnings.(11) Subsequently, Cinergy
obtained a supplemental order authorizing it to have an aggregate investment
equal to 100% of its consolidated retained earnings plus $2 billion, or an
amount that would equal about 246% of Cinergy's current consolidated retained
earnings.(12) Exelon Corp. ("Exelon"), which has no history of investments in
EWGs or FUCOs, was authorized in November 2000 to invest up to $2 billion in
EWGs and FUCOs, which was equivalent to about 264% of Exelon's "reclassified"
pro forma consolidated retained earnings, an amount that was subsequently
increased to $4 billion.(13) FirstEnergy Corp. ("FirstEnergy"), as part of its
approval to acquire GPU, Inc., was authorized to increase its "aggregate
investment" to $5 billion (subject to a sublimit on "new" investments), or
about 385% of FirstEnergy's consolidated retained earnings at June 30,
2001.(14) In late December 2001, Dominion Resources, Inc. ("Dominion") was
authorized to increase its "aggregate investment" in EWGs and FUCOs to an
amount equal to 100% of "consolidated retained earnings" plus $4.5 billion,
which translates into roughly 470% of Dominion's consolidated retained earnings
-------------------
(9) See The National Grid Group plc, Holding Co. Act Release No. 27154 (Mar.
15, 2000).
(10) See KeySpan Corporation, et al., Holding Co. Act Release No. 27272 (Nov. 8,
2000).
(11) See Cinergy Corporation, Holding Co. Act Release No. 27190 (June 23, 2000).
(12) See Cinergy Corporation, Holding Co. Act Release No. 27400 (May 18, 2001).
(13) See Exelon Corporation, Holding Co. Act Release No. 27266 (Nov. 2, 2000)
(authorizing aggregate investment limit of $2 billion); and Exelon
Corporation, Holding Co. Act Release No. 27296 (Dec. 8, 2000) (authorizing
aggregate investment limit of $4 billion).
(14) See FirstEnergy Corp., et al., Holding Co. Act Release No. 27459 (Oct. 29,
2001).
17
at September 30, 2001.(15) Finally, also in late December 2001, Allegheny
Energy, Inc. ("Allegheny") received Commission approval for an "aggregate
investment" limit of $2.0 billion, or approximately 196% of consolidated
retained earnings at September 30, 2001.(16)
In the most recent of the above referenced cases (Exelon,
FirstEnergy, Dominion and Allegheny), the Commission concluded that the proposed
"aggregate investment" level, although exceed the 50% limit in Rule 53(a), was
nevertheless a reasonable commitment of capital for a company the size of the
applicant, based on various pro forma ratios. In reaching this conclusion, the
Commission measured the proposed investment level as a percentage of
consolidated capitalization, consolidated net utility plant, total consolidated
capitalization and the total market value of the applicant's common stock.
As previously indicated, an aggregate investment in Exempt Projects
of $750,000,000 would be equal to about 131% of National's average consolidated
retained earnings for the four quarters ended December 31, 2001, which is
substantially lower than the percentages found acceptable in National Grid,
Exelon, Cinergy, FirstEnergy, Dominion and Allegheny. Moreover, the proposed
EWG/FUCO Investment Limit, expressed as a percentage of National's consolidated
capitalization, consolidated net utility plant, total consolidated
capitalization and the total market value of its common stock is within the
range found acceptable in these recent cases. Specifically, the proposed
EWG/FUCO Investment Limit is equal to only 27.9% of National's total
consolidated capitalization ($2.690 billion), 52.3% of net utility plant ($1.433
billion(17)), 21.65% of total consolidated assets ($3.464 billion), and 38.1% of
the market value of National's outstanding common stock ($1.966 billion) as of
December 31, 2001. The following table compares these percentages to the
relevant percentages for Exelon, Cinergy, FirstEnergy, Dominion, and Allegheny,
as reflected in each company's Rule 53(c) application and financial statements
or the Commission's order approving such application:
-------------------
(15) See Dominion Resources, Inc., Holding Co. Act Release No. 27485 (Dec. 28,
2001). Dominion explained in its application that, due to the application
of the purchase method accounting in connection with its acquisition of
Consolidated Natural Gas Company ("CNG"), its consolidated retained
earnings did not reflect the retained earnings of CNG before the
acquisition.
(16) See Allegheny Energy, Inc., et al., Holding Co. Act Release No. 27486 (Dec.
31, 2001).
(17) Includes gas distribution, pipeline and storage plant.
18
Proposed Investments in EWGs and FUCOs
as a percentage of:
-----------------------------------------------------------------
Consolidated Total Market Value of
Consolidated Net Utility Consolidated Outstanding Common
Company Capitalization Plant Assets Stock
------------- -------------- ------------ ------------ ------------------
Exelon 18.9% 23.3% 11.1% 28.2%
Cinergy 49.1% 50.8% 27.3% 60.1%
FirstEnergy 25% 35.7% 12.8% 58.8%
Dominion 25% 36% 18% 39%
Allegheny 21% 19% 14% 30%
National
(12/31/01) 27.9% 52.3% 21.7% 38.1%
Although the proposed EWG/FUCO Investment Limit, expressed as a
percentage of net utility plant, is higher than in any of the recent cases cited
above, this merely reflects the fact that National is a highly integrated
natural gas company whose distribution, pipeline and storage assets represent
only slightly more than 50% of its total net property, plant and equipment,
whereas the other companies in the table are primarily electric utilities. The
other percentages are all in the mid-range.
1. THE PROPOSED TRANSACTIONS WILL NOT HAVE A SUBSTANTIAL ADVERSE
IMPACT UPON THE FINANCIAL INTEGRITY OF THE NATIONAL SYSTEM
The current financial integrity of the National System can be
demonstrated in various ways, including by comparing National to other
integrated natural gas companies (the "peer group") on the basis of various
financial criteria. Consideration of these and other relevant factors supports
the conclusion that the issuance of securities and guarantees by National to
finance investments in EWGs and FUCOs exceeding the 50% consolidated retained
earnings limitation in Rule 53(a)(1) will not have any "substantial adverse
impact" on the financial integrity of the National System.
19
a. KEY FINANCIAL RATIOS/BENCHMARKS
i. CAPITALIZATION RATIOS
As shown in the table in Item 1.A., at December 31, 2001, National's
consolidated capitalization consisted of 38.2% common equity and 61.8% of
long-term and short-term debt. National's leverage has increased in recent years
due primarily to a series of debt-financed acquisitions of exploration and
production assets and non-cash charges to earnings. National has no plans to
issue common stock in order to increase equity, and projects that equity will
increase through a combination of retained earnings growth and reductions in
capital expenditures without the need for any additional common stock financing.
Although National's equity ratio is lower than in recent years, it
is in fact well within the range of other similar integrated gas companies. The
following table shows the equity ratios of National and other comparable
integrated gas companies ("peer group" companies) as of December 31, 2001:
Company Equity Ratio
------- ------------
KeySpan Corp. 33.1%
Equitable Resources, Inc. 55.1
Kinder Morgan, Inc. 40.6
Oneok, Inc. 35.0
Questar Corporation 41.4
NiSource Inc. 29.0
National 38.2
ii. NATIONAL SECURITY RATINGS
National's long-term debt has been rated by Standard & Poor's
Corporation ("S&P"), Moody's Investor Service ("Moody's"), and Fitch, Inc.
("Fitch") as follows:
-------------------------------------------------------------------------------
NATIONAL'S LONG-TERM DEBT RATINGS (AS OF 9/30)
-------------------------------------------------------------------------------
1998 1999 2000 CURRENT
-------------------------------------------------------------------------------
S&P A- A- A- A-
-------------------------------------------------------------------------------
Moody's A-2 A-2 A-2 A-3
-------------------------------------------------------------------------------
Fitch A A A A
-------------------------------------------------------------------------------
As the foregoing table shows, with the exception of the recent
downgrading by Moody's, National's long-term debt ratings have remained stable
over the past several years. Moreover, the downgrading simply makes the Moody's
rating consistent with the existing S&P rating. In connection with the ratings
action, Moody's noted that National's ratings are supported by stable earnings
20
from its regulated gas distribution and pipeline and storage segments, which
together generate about three-quarters of National's cash flow. Moody's also
noted that National has the flexibility to reduce its capital spending and to
finance it with internally generated cash. Finally, Moody's observed that the
business risk associated with Seneca's exploration and production operations
should decrease in the future.
iii. CONSOLIDATED RETAINED EARNINGS
Excluding the effects of non-cash impairments (write-downs of asset
values) in fiscal years 1998 and 2001 relating to Seneca's oil and gas
exploration and production operations,(18) National's consolidated retained
earnings have grown on average approximately 10% per year over the five years
ended September 30, 2001, which is within the range of growth rates for other
integrated gas companies, as well as other registered holding company systems
that have obtained relief under Rule 53(c).
iv. NATIONAL'S DEBT LIMITATIONS
Currently, National is restricted under the terms of its 1974
indenture in the amount of additional long-term debt (funded debt) that it may
issue. Generally, National may not issue additional long-term debt unless, after
giving effect to each issuance, (i) outstanding long-term debt does not exceed
60% of the consolidated assets of National, and (ii) income available for
interest and subsidiary preferred stock dividends for any 12 consecutive months
within the preceding 15 months has been at least two times the sum of annual
interest charges and subsidiary dividend requirements.(19) For the twelve-month
periods ended September 30, 2000 and 2001, these coverage ratios were 4.48 times
and 2.55 times (4.78 times exclusive of the non-cash impairment of Seneca's
assets), respectively.
-------------------
(18) Seneca, National's oil and gas exploration subsidiary, follows the
full-cost method of accounting for its oil and gas operations, which
requires it to perform a quarterly "ceiling test." Under the "ceiling
test," the present value of future revenues from Seneca's oil and gas
reserves is compared (on a country by country basis) with the book value of
those reserves at the balance sheet date. If the book value of the reserves
in any country exceeds the present value of the associated future revenues,
a non-cash charge must be recorded to write down the book value of the
reserves to their present value. As a result of low oil and gas prices at
September 30, 2001, Seneca was required to recognize a non-cash impairment
relating to its Canadian properties of $180.8 million (pre tax) or $104.0
(after tax) for the quarter ended September 30, 2001. Likewise, earnings in
1998 included a $129 million (pre tax) or $79.1 million (after tax)
non-cash impairment relating to of Seneca's oil and gas exploration and
production operations.
(19) National's subsidiaries do not currently have any preferred stock
outstanding.
21
v. RULE 53(B) FACTORS
As previously indicated, none of the circumstances described under
Rule 53(b) has occurred. National undertakes to notify the Commission by filing
a post-effective amendment in this proceeding in the event of the occurrence of
any of these circumstances.
vi. OTHER INDICATORS
Other financial indicators show the financial strength of National.
For example, excluding the effects of a non-cash impairment in 2001 (see fn. 19,
above), National's earnings per share and return on average equity were $1.61
and 13.0%, respectively, for the fiscal year ended September 30, 2000, and $2.11
and 16.2%, respectively, for the fiscal year ended September 30, 2001. For
comparison purposes, the following table lists diluted earnings per share and
return on average equity for the other select "peer group" companies for their
most recent fiscal year (December 31, 2001 in every case except National):
Diluted Earnings Return on
Company Per Share Equity
------- ---------------- ---------
KeySpan Corp. $1.75* 8.5%
Equitable Resources, Inc. 2.30 19.7
Kinder Morgan, Inc. 1.86 11.1
Oneok, Inc. 0.85 5.2
Questar Corporation 1.94 15.6
NiSource Inc. 1.03 6.3
National 2.11* 16.2
* Excluding non-cash charge to earnings relating to impairment of oil and gas
assets.
b. MARKET ASSESSMENT OF NATIONAL
The market's assessment of National's future growth and earnings can
also be shown by comparison of National to the same "peer group" utilities based
on factors such as price-earnings ratio, market-to-book ratio and dividend
payout ratio as of the end of their most recent fiscal year. These measures
indicate investor confidence in National and have been cited as favorable
indicators in other orders the Commission has issued under Rule 53(c).
22
Market to Dividend
Company P/E Ratio Book Ratio Payout Ratio
------- --------- ---------- ------------
KeySpan Corp. 18.8* 1.67 102%*
Equitable Resources, Inc. 14.8 2.57 28%
Kinder Morgan, Inc. 29.9 3.05 11%
Oneok, Inc. 21.0 .85 73%
Questar Corporation 12.9 1.89 37%
NiSource Inc. 22.4 1.38 113%
National 10.9* 1.91 46%*
* Excluding non-cash charge to earnings relating to impairment of oil and gas
assets.
2. THE PROPOSED TRANSACTIONS WILL NOT HAVE AN ADVERSE IMPACT ON
DISTRIBUTION OR ITS CUSTOMERS, OR ON THE ABILITY OF DISTRIBITION'S
STATE PUBLIC UTILITY COMMISSIONS TO PROTECT SUCH CUSTOMERS
National's request to increase its aggregate investment in Exempt
Projects to $750,000,000 will not have an "adverse impact" on Distribution, its
customers, or on the ability of the two State commissions having jurisdiction
over Distribution to protect Distribution or such customers.
The conclusion that Distribution and its customers will not be
adversely impacted by increased levels of investment by National in Exempt
Projects is well supported by (i) the insulation of Distribution and its
customers from potential direct adverse effects of investments in Exempt
Projects; (ii) analyses of Distribution financial integrity; and (iii) the
proven effectiveness of state commission oversight to protect ratepayers in
their respective states from any adverse impact.
a. INSULATION FROM RISK
All of National's investments in Exempt Projects are, and in the
future will remain, segregated from Distribution. Thus, Distribution is, and is
currently expected in the future to remain, insulated from the direct effects of
investments by National in Exempt Projects. Any losses that may be incurred by
such Exempt Projects would have no effect on domestic rates of Distribution.
National represents that it will not seek recovery through higher rates to
Distribution's utility customers in order to compensate National for any
possible losses that it or any National System company may sustain on
investments in Exempt Projects or for any inadequate returns on such
investments.
23
National has complied and will continue to comply with the
requirements of Rule 53(a)(3) regarding the limitation on the use of
Distribution's employees in connection with providing services to EWGs and
FUCOs. Increased levels of investment in EWGs and FUCOs are not anticipated to
have any impact on utilization of Distribution employees. Distribution has not
and will not increase staffing levels to support the operations of EWGs and
FUCOs. National expects that project development, management, and home office
support functions for EWGs and FUCOs will largely be performed by outside
consultants (e.g., engineers, investment advisors, accountants, and attorneys)
engaged by Horizon or other non-utility subsidiaries. Accordingly, National's
need for the support of personnel provided by Distribution has been, and is
expected to continue to be, limited to corporate governance services.
Finally, National has complied and will continue to comply with the
other conditions of Rule 53(a) providing specific protections to customers of
Distribution and its state commissions, in particular, the requirements of Rule
53(a)(1) regarding the preparation and making available of books and records and
financial reports regarding EWGs and FUCOs, and the requirements of Rule
53(a)(4) regarding filing of copies of applications and reports with other
regulatory commissions.
b. DISTRIBUTION'S FINANCIAL INTEGRITY
Distribution is in excellent financial health, as indicated by such
factors as its debt/equity ratio. At December 31, 2001, debt (including
short-term debt) as a percentage of Distribution's consolidated capitalization
was equal to 42%, compared to 56.4%, the median for gas companies with A-rated
senior unsecured debt.(20) Moreover, additional investments in EWGs and FUCOs by
National will not have any negative impact on Distribution's ability to fund
operations and growth. As shown in the table below, present projections through
fiscal year 2006 indicate that Distribution will continue to fund substantially
all of its operations and its construction expenditures from internal sources of
cash. Distribution does not project the need for any additional equity from
National or any material increase in the level of borrowings from National.
-------------------
(20) Source: Fitch Electric and Gas Utility Financial Peer Study (Oct. 2001),
p 13. This study is accessible on Fitch's website at
http://www.fitchratings.com.
24
DISTRIBUTION - CONSTRUCTION EXPENDITURES: ACTUAL (FY 1998-2001) AND
PROJECTED (FY 2002 - 2006) EXPENDITURES, INCLUDING ALLOWANCE FOR FUNDS
USED DURING CONSTRUCTION AND PERCENTAGE INTERNALLY GENERATED
---------------------------------------------------
Fiscal Year Budget ($ % Internally
million) Generated
---------------------------------------------------
1998 50.680 91
---------------------------------------------------
1999 46.974 181
---------------------------------------------------
2000 55.799 67
---------------------------------------------------
2001 42,400 128
---------------------------------------------------
2002 49.600 80
---------------------------------------------------
2003 49.600 208
---------------------------------------------------
2004 50.100 162
---------------------------------------------------
2005 50.600 138
---------------------------------------------------
2006 50.600 136
---------------------------------------------------
c. ADEQUACY OF STATE COMMISSION OVERSIGHT
The New York State Public Service Commission ("NYPSC") and the
Pennsylvania Public Utility Commission ("PaPUC") (together, the "State
Commissions"), which have jurisdiction over Distribution with respect to retail
rates and service, securities issuances, and other matters, have certified to
the Commission that they have the authority and resources available under
applicable public utility codes to protect Distribution's utility customers from
any adverse impacts associated with National's investments in Exempt
Projects.(21)
C. COMPLIANCE WITH RULE 54
Rule 54 provides that the Commission, in determining whether to
approve the issue or sale of a security by a registered holding company for
purposes other than the acquisition of an EWG or FUCO, or other transactions by
such registered holding company or its subsidiary other than with respect to
EWGs and FUCOs, shall not consider the effect of the capitalization or earnings
of any subsidiary which is an EWG or FUCO upon the registered holding company
system if the provisions of Rule 53(a), (b) and (c) are satisfied. If the
transactions contemplated hereby are consummated and National's aggregate
investment in EWGs and FUCOs exceeds 50% of its consolidated retained earnings,
the provisions of Rule 53(a) will not be satisfied. However, to enable the
-------------------
(21) Section 33(c)(2) provides that the State commissions may make
recommendations to the Commission regarding a registered holding company's
relationship to FUCOs, and that the Commission shall "reasonably and fully
consider" such recommendations.
25
Commission to monitor the impact of the transactions for which authority is
sought hereby, National proposes to report the following additional information
in the quarterly Rule 24 certificates it is filing in accordance with the 1998
Order:(22)
1. A Rule 53(a) computation--that is a calculation of the ratio of
National's aggregate investment in EWGs and FUCOs to National's average
consolidated retained earnings (both as determined in accordance with Rule
53(a));
2. A statement of aggregate investment as a percentage of the
following: total capitalization, net utility plant, total consolidated assets,
and market value of common equity, all as of the end of that quarter;
3. Consolidated capitalization ratios as of the end of that
quarter;
4. The market-to-book ratio of National's common stock at the end
of that quarter;
5. An analysis of the growth in consolidated retained earnings,
which segregates total earnings growth attributable to EWGs and FUCOs from that
attributable to other National subsidiaries; and
6. A statement of revenues and net income of each material National
System company for the twelve months ended as of the end of that quarter.
This information is the same as that required by the Commission with
respect to the other registered systems that have obtained relief under Rule
53(c). National believes that such reporting requirements will assist the
Commission in its determinations concerning the effect of investments in Exempt
Projects on other transactions for which National and other National System
companies will require Commission authorization.
D. THE COMMISSION SHOULD NOT ORDER A HEARING IN THIS PROCEEDING
In response to the Commission's notice in this proceeding,(23) an
individual (Mr. Curtis Lee) has submitted comments opposing National's request
for relief and requesting a hearing.(24) Mr. Lee's basic complaint is that
National has lost money from its non-utility investment activity, in particular
-------------------
(22) National also commits to file the same information as part of Rule 24
certificates required to be filed by the terms of any subsequent order that
replaces and supersedes the 1998 Order.
(23) Holding Co. Act Release No. 27467 (Nov. 16, 2001).
(24) Mr. Lee's letter requesting a hearing in this proceeding, which was dated
December 7, 2001, incorporated comments that Mr. Lee had previously filed
on November 17, 2001, in response to a notice of filing in another
proceeding (File No. 70-9959), which did not include any request by
National to increase its "aggregate investment" in Exempt Projects over the
limit contained in Rule 53(a). The Commission issued an order on December
31, 2001 (Holding Co. Act Release No. 27487) approving the transactions
proposed in File No. 70-9959 and denying Mr. Lee's request for hearing.
26
investments in oil and gas production operations (which are made through Seneca)
and FUCOs; that debt as a percentage of National's consolidated capitalization
has increased over the past five years and is unacceptably high; and that,
because of increasing leverage, coupled with the proposed increase in
investments in EWGs and FUCOs, National's investors and utility customers have
been and will be further harmed if National makes additional investments in EWGs
and FUCOs.
Issues concerning National's and Distribution's financial condition
are clearly relevant to the determination that the Commission is required to
make under Rule 53(c) and the applicable provisions of the Act (particularly
Sections 7(d), 10(b)(3), and (12(b)) in order to approve National's request to
increase the EWG/FUCO Investment Limitation.(25) However, the record in this
proceeding is complete and demonstrates conclusively that increased investments
in EWGs and FUCOs by National will not, in the words of Rule 53(c), "have a
substantial adverse impact upon the financial integrity" of the National System,
and "will not have an adverse impact on [Distribution], or its customers, or on
the ability of State commissions to protect such subsidiary or customers."
Significantly, the Commission has already held, in its December 31,
2001 order in File No. 70-9959, that Mr. Lee has failed to raise any factual
issue regarding the financial integrity of the National System. Specifically,
the Commission found that Mr. Lee had not offered any evidence that would
support the conclusion that the recent increase in debt as a percentage of
National's consolidated capitalization is undermining the financial integrity of
the National System, noting, in this regard, that National's debt/equity level
remains above the generally acceptable 70%/30% level. Nothing has changed since
the date of that order to alter this conclusion. Moreover, as the Commission
noted in the December 31, 2001 order, the increase in National's overall debt
level is largely attributable to the increase in borrowings by National rather
than to any reduction in earnings.
-------------------
(25) In its December 31, 2001 order in File No. 70-9959, the Commission held
that certain other complaints that Mr. Lee raised in his two pleadings,
specifically, allegations about National's executive compensation practices
and National's failure to use dividends received from Distribution (the
legality of which Mr. Lee does not challenge) to either reduce rates or
repurchase shares of stock, were either not relevant to the Commission's
consideration of the application in that proceeding and/or relate to
matters that are within management's discretion.
27
Although a holding company's history of earnings from EWGs and FUCOs
could also be relevant to the determination that the Commission is required to
make under Rule 53(c), Mr. Lee has not offered any evidence that National's
losses from FUCOs has had any such impact. As explained in Item 1, above,
National recorded losses in the first two full years of Horizon's operations
(1996 and 1997) as a result of the sale of a "greenfield" project in Pakistan
and certain start-up costs incurred in connection with projects in the Czech
Republic. Since then, earnings or losses in each year attributable to EWGs and
FUCOs have been relatively small. Losses that National has sustained in other
unregulated activities, chiefly oil and gas production, have likewise not had
any material impact on National's financial integrity. As indicated in Item 1,
these consist mainly of non-cash charges against earnings (impairments) due to
the write-down in the value of Seneca's oil and gas assets in fiscal years 1998
and 2001.
Finally, National's overall financial condition is sound, as
demonstrated above through the comparison of National to other "peer group"
utilities based on a variety of financial statistics, ratings of senior
securities, and other key financial indicators.
Mr. Lee has also not offered any evidence of harm or likely harm to
Distribution or its customers as a result of the proposed increase in the
EWG/FUCO Investment Limit. As the Commission observed in the December 31, 2001
order in File No. 70-9959, "[m]ere allegations that [nonutility activities] are
not, or will not be, profitable do not suffice to establish a showing that the
statutory standards are not satisfied." The record in this proceeding includes
abundant information that Distribution and its customers are insulated from the
risks associated with National's investments in EWGs and FUCOs and that
Distribution is in excellent financial condition. The lack of harm or likely
harm to Distribution and its customers is further supported by letters from the
NYPSC and PaPUC certifying to the Commission that they have the authority and
resources to protect utility customers in their respective jurisdictions. In
short, no reason has been given why a hearing is necessary in order to assure
the protection of Distribution and its customers.
ITEM 4. REGULATORY APPROVAL
The issuance and sale of securities by National and the use of the
proceeds thereof to acquire or guarantee the securities of any EWG or FUCO are
not subject to the jurisdiction of any state commission or of any federal
commission other than the Commission. National will comply with the requirements
of Rule 53(a)(4) by submitting a copy of this Application/Declaration and each
amendment thereto to each of the State Commissions.
ITEM 5. PROCEDURE
National requests, pursuant to Rule 23(c) of the Rules and
Regulations of the Commission, that the Commission's order granting, and
permitting this Application/Declaration, as amended, to become effective be
issued forthwith. National waives any recommended decision by a hearing officer
or other responsible officer of the Commission and waives the 30-day waiting
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period between the issuance of the Commission's order and the date it is to
become effective, since National desires that the Commission's order, when
issued, become effective immediately. National consents to the Division of
Investment Management assisting in the preparation of the Commission's decision
and/or order in this matter, unless such Division opposes the matters covered by
this Application/Declaration.
ITEM 6. EXHIBITS AND FINANCIAL STATEMENTS
(a) Exhibits
F Opinion of Counsel. (Filed herewith).
G Proposed Form of Federal Register Notice. (Previously filed).
(b) Financial Statements
FS-1 National Consolidated Financial Statements as of September 30,
2001 (incorporated by reference to the Annual Report on Form
10-K of National for the fiscal year ended September 30, 2001
(File No. 1-3880)).
FS-2 National Consolidated Financial Statements as of December 31,
2001 (incorporated by reference to the Quarterly Report on
Form 10-Q of National for the quarter ended December 31, 2001
(File No. 1-3880)).
ITEM 7. INFORMATION AS TO ENVIRONMENTAL EFFECTS
None of the matters that are the subject of the
Application/Declaration, as amended, involve a "major federal action" nor do
they "significantly affect the quality of the human environment" as those terms
are used in section 102(2)(C) of the National Environmental Policy Act. The
transaction that is the subject of this Application/Declaration, as amended,
will not result in changes in the operation of National or its subsidiaries that
will have an impact on the environment. National is not aware of any federal
agency that has prepared or is preparing an environmental impact statement with
respect to the transactions that are the subject of this
Application/Declaration, as amended.
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SIGNATURE
Pursuant to the requirements of the Public Utility Holding Company Act of
1935, as amended, the undersigned company has duly caused this amended
Application/Declaration to be signed on its behalf by the undersigned thereunto
duly authorized.
NATIONAL FUEL GAS COMPANY
By: /s/ James R. Peterson
Name: James R. Peterson
Title: Assistant Secretary
Date: April 29, 2002
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