10-Q 1 pseg-tflc_3qfinal.txt PSE&G TRANSITION FUNDING LLC ================================================================================ PSE&G TRANSITION FUNDING LLC UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 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 September 30, 2001 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ------- to --------- Commission Registrant, State of Incorporation, I.R.S. Employer File Number Address, and Telephone Number Identification No. ----------- ---------------------------------------- ------------------ 333-83635 PSE&G Transition Funding LLC 22-3672053 (A Delaware limited liability company) 80 Park Plaza - T4D P.O. Box 1171 Newark, New Jersey 07101-1171 973-297-2227 http://www.pseg.com 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 ___ Registrant is a wholly owned subsidiary of Public Service Electric and Gas Company. Registrant meets the conditions set forth in General Instruction H(1) (a) and (b) of Form 10-Q and is filing this Form 10-Q with the reduced disclosure format authorized by General Instruction H. ================================================================================ ================================================================================ PSE&G TRANSITION FUNDING LLC ================================================================================ TABLE OF CONTENTS PAGE ---- PART I. FINANCIAL INFORMATION Item 1. Financial Statements Statements of Income 1 Balance Sheets 2 Statements of Cash Flows 3 Notes to Financial Statements 4 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 8 PART II. OTHER INFORMATION Item 1. Legal Proceedings 9 Item 6. Exhibits and Reports on Form 8-K 9 Signature 10 ================================================================================ PSE&G TRANSITION FUNDING LLC ================================================================================ PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS

PSE&G TRANSITION FUNDING LLC STATEMENTS OF INCOME (Thousands of Dollars) (Unaudited) For the Quarter For the ~~Six~~Nine Ended Months Ended ~~June~~September 30, 2001 ~~June~~September 30, 2001 -------------------- -------------------- REVENUES $ 6678,~~747~~616 $ ~~103~~182,~~437~~053 EXPENSES Amortization of Bondable Transition Property 2335,~~705~~834 3167,~~507~~341 Servicing Fees ~~316~~315 ~~526~~841 -------------------- -------------------- Total Expenses 2436,~~021~~149 3268,~~033~~182 -------------------- -------------------- OPERATING INCOME 42,~~726~~467 71113,~~404~~871 Interest Expense-Net (42,~~496~~377) 71(113,~~174~~551) -------------------- -------------------- INCOME BEFORE INCOME TAXES ~~230~~90 ~~230~~320 Income Taxes -- -- -------------------- -------------------- NET INCOME $ ~~230~~90 $ ~~230~~320 ==================== ==================== See Notes to Financial Statements.

PSE&G TRANSITION FUNDING LLC BALANCE SHEETS (Thousands of Dollars) (Unaudited) ~~June~~September 30, December 31, 2001 2000 ------------------- ------------------- ASSETS Current Assets: Cash $ ~~231~~321 $ 1 Restricted Cash 626,~~366~~115 -- Receivable from Member 5361,~~710~~242 -- ------------------- ------------------- Total Current Assets ~~116~~67,~~307~~678 1 ------------------- ------------------- Noncurrent Assets: Bondable Transition Property 2,~~493~~457,~~493~~659 -- Deferred Issuance Costs ~~111~~108,~~166~~768 36,619 Regulatory Asset ~~701~~32,102 -- ------------------- ------------------- Total Noncurrent Assets 2,~~605~~598,~~360~~529 36,619 ------------------- ------------------- TOTAL ASSETS $ 2,~~721~~666,~~667~~207 $ 36,620 =================== =================== LIABILITIES Current Liabilities: Current Portion of Long-Term Debt $ ~~105~~112,~~250~~596 $ -- Current Portion of Payable to Member 57,~~943~~175 36,619 Overcollateralization ~~355~~567 -- Accrued Interest 7011,~~044~~134 -- ~~Derivative Liability 701~~ -- ----------------- ------------------- Total Current Liabilities ~~182~~131,~~293~~472 36,619 Long-Term Liabilities: Long-Term Debt 2,~~419~~386,~~750~~376 -- Derivative Liability 32,102 -- Payable to Member ~~106~~103,~~769~~312 -- ------------------- ------------------- Total Long-Term Liabilities 2,~~526~~521,~~519~~790 -- ------------------- ------------------- TOTAL LIABILITIES 2,~~708~~653,~~812~~262 36,619 ------------------- ------------------- MEMBER'S EQUITY Contributed Capital 12,625 1 Retained Earnings ~~230~~320 -- ------------------- ------------------- Total Member's Equity 12,~~855~~945 1 ------------------- ------------------- TOTAL LIABILITIES AND MEMBER'S EQUITY $ 2,~~721~~666,~~667~~207 $ 36,620 =================== =================== See Notes to Financial Statements.

PSE&G TRANSITION FUNDING LLC STATEMENT OF CASH FLOWS (Thousands of Dollars) (Unaudited) For the ~~Six~~Nine Months Ended ~~June~~September 30, 2001 -------------------------- ~~CASH FLOWS FROM OPERATING ACTIVITIES~~ Net income $ ~~230~~320 Adjustments to reconcile net income to net cash flows from operating activities: Amortization of Bondable Transition Property 3167,~~507~~341 Amortization of Deferred Issuance Costs 12,~~545~~551 Net Changes in Certain Current Assets and Liabilities: Restricted Cash (626,~~366~~115) Receivable from Member (5361,~~710~~242) Payable to Member 7673,~~093~~868 Overcollateralization ~~355~~567 Accrued Interest 7011,~~044~~134 -------------------------- Net Cash Provided By Operating Activities 6388,~~698~~424 -------------------------- CASH FLOWS FROM INVESTING ACTIVITIES Purchase of Bondable Transition Property (2,525,000) -------------------------- Net Cash Used in Investing Activities (2,525,000) -------------------------- CASH FLOWS FROM FINANCING ACTIVITIES Issuance of Long-Term Debt 2,525,000 Repayment of Long-Term Debt (26,028) Deferred Issuance Costs (7674,~~092~~700) Contributed Capital 12,624 -------------------------- Net Cash Provided By Financing Activities 2,~~461~~436,~~532~~896 -------------------------- Net Change in Cash and Cash Equivalents ~~230~~320 Cash and Cash Equivalents at Beginning of Period 1 -------------------------- Cash and Cash Equivalents at End of Period $ ~~231~~321 ========================== Income Taxes Paid $ -- Interest Paid $ --96,918 See Notes to Financial Statements.

================================================================================ PSE&G TRANSITION FUNDING LLC ================================================================================ NOTES TO FINANCIAL STATEMENTS Note 1. Basis of Presentation The financial statements included herein have been prepared pursuant to the rules and regulation of the Securities and Exchange Commission. Certain information and note disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. However, in the opinion of management, the disclosures are adequate to make the information presented not misleading. These Financial Statements (Statements) and Notes to Financial Statements (Notes) update and supplement matters discussed in PSE&G Transition Funding LLC's (Transition Funding) 2000 Annual Report on Form 10-K and Quarterly Reports on Form 10-Q for the quarters ended March 31, 2001 and June 30, 2001 and should be read in conjunction with those reports. The unaudited financial information furnished reflects all adjustments which are, in the opinion of management, necessary to fairly state the results for the interim periods presented. The year-end consolidated balance sheet was derived from the audited consolidated financial statements included in Transition Funding's 2000 Annual Report on Form 10-K. Note 2. Nature of Operations Transition Funding, a limited liability company, was formed under the laws of the State of Delaware on July 21, 1999, pursuant to a limited liability company agreement with Public Service Electric and Gas Company (PSE&G), as sole member of Transition Funding. PSE&G is an operating electric and gas utility and is a wholly owned subsidiary of Public Service Enterprise Group Incorporated (PSEG). Transition Funding was organized for the sole purpose of purchasing and owning bondable transition property of PSE&G (BTP), issuing transition bonds (Bonds), pledging its interest in BTP and other collateral to a debt/security trustee (Trustee) to collateralize the Bonds, and performing activities that are necessary, suitable or convenient to accomplish these purposes. BTP represents the irrevocable right of PSE&G, or its successor or assignee, to collect a non-bypassable transition bond charge (TBC) from customers pursuant to a bondable stranded cost rate order (Finance Order), and rate unbundling and restructuring proceedings (Final Order), which were issued on September 17, 1999 by the State of New Jersey Board of Public Utilities (BPU) in accordance with the New Jersey Electric Discount and Energy Competition Act enacted in February 1999. The Finance Order authorizes the TBC to be sufficient to recover $2.525 billion aggregate principal amount of Bonds, plus an amount sufficient to provide for any credit enhancement, to fund any reserves and to pay interest, redemption premiums, if any, servicing fees and other expenses relating to the Bonds. Transition Funding's organizational documents require it to operate in a manner so that it should not be consolidated in the bankruptcy estate of PSE&G in the event PSE&G becomes subject to a bankruptcy proceeding. Both PSE&G and Transition Funding have recorded the transfer of BTP to Transition Funding as a sale under applicable law. The Bonds are being treated as debt obligations of Transition Funding. For Federal income tax and State of New Jersey income and franchise tax purposes, the transfer of BTP to Transition Funding is being treated as a financing arrangement and not as a sale. ================================================================================ PSE&G TRANSITION FUNDING LLC ================================================================================ NOTES TO FINANCIAL STATEMENTS -- CONTINUED Note 3. Significant Accounting Policies Regulation The application of generally accepted accounting principles by Transition Funding differs in certain respects from applications by non-regulated businesses. Transition Funding prepares its financial statements in accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No. 71 "Accounting for the Effects of Certain Types of Regulation" (SFAS 71). In general, SFAS 71 recognizes that accounting for rate-regulated enterprises should reflect the economic effects of regulation. As a result, a rate regulated entity is required to defer the recognition of costs (a regulatory asset) or the recognition of obligations (a regulatory liability) if it is probable that, through the rate-making process, there will be a corresponding increase or decrease in future rates. Accordingly, Transition Funding has deferred certain costs, which will be amortized over various future periods. Bondable Transition Property The BTP was recorded at the acquired cost and is being amortized over the life of the Bonds, based on TBC revenues, interest accruals and other fees. The BTP is solely the property of Transition Funding. Deferred Issuance Costs The costs incurred in connection with the securitization transaction which are in excess of the $125 million of estimated transaction costs, as provided for in the Finance Order, will be recovered on a subordinated basis, through the TBC. These costs were capitalized and are being amortized over the life of the bonds utilizing the effective interest method. Regulatory Asset For a description of the regulatory asset and the related derivative liability see Note 6. Accounting Matters. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions. These estimates and assumptions affect the reported amount of revenues, expenses, assets and liabilities, as well as the disclosure of contingencies. Actual results could differ from these estimates. Restricted Cash Revenues collected through the TBC by PSE&G from its retail electric customers are remitted to the Trustee and must be used to pay the principal, interest and other expenses associated with the Bonds. Also, as required by the Finance Order, Transition Funding deposited an amount equal to 0.5% of the initial principal amount of the Series 2000-1 Bonds into the Capital Subaccount with the Trustee. This amount was contributed by PSE&G to Transition Funding. This account is the last account drawn in the event funds are insufficient to make scheduled allocations. If the Capital Subaccount is used, it will be replenished from TBC remittances to its original level through the periodic reconciliation process. Accordingly, the TBC collections remitted to the Trustee, including interest earned related to these funds and the Capital Subaccount are classified as "Restricted Cash" on the Balance Sheet. During the quarter ended September 30, 2001, approximately $6 million was withdrawn from equity funds to fund debt and interest payments. Revenues Revenues are recorded on a calendar month basis and include estimates for usage not yet billed. Interest Expense Interest Expense consists primarily of accrued interest on the Bonds. Also included in Interest Expense is the amortization of the deferred issuance costs and interest related to debt issuance costs in excess of the $125 million of estimated transaction costs provided for in the Finance Order which were paid by PSE&G. Interest earned on TBC collections deposited with the Trustee is netted against Interest Expense. Interest earned on deposited TBC funds reduce the BTP and will affect the calculation of future rates. Interest earned on funds in the Capital Subaccount will result in Net Income at Transition Funding and will be periodically dividended to PSE&G. Income Taxes Transition Funding is a single-member limited liability company. Accordingly, all Federal and State income tax effects of Transition Funding's activities accrue to PSE&G. Note 4. The Bonds On January 31, 2001, Transition Funding issued $2.525 billion of Bonds in eight classes with maturities ranging from one year to fifteen years. The net proceeds of the issuance were remitted to PSE&G as consideration for the property right in the TBC. The significant terms of the Bonds issued by Transition Funding on January 31, 2001 are as follows:

================= =================== ================= =================== ================ Initial Proceeds to Expected Final Principal Interest Transition Final Maturity Balance Rate Funding LLC Payment Date Date ================== ================= =================== ================= =================== ================ Class A-1 $105,249,914 5.46% $104,881,454 6/15/02 6/15/04 Class A-2 $368,980,380 5.74% $367,464,694 3/15/05 3/15/07 Class A-3 $182,621,909 5.98% $181,746,628 6/15/06 6/15/08 Class A-4 $496,606,425 LIBOR + 0.30% $494,123,393 6/15/09 6/15/11 Class A-5 $328,032,965 6.45% $326,306,606 3/15/11 3/15/13 Class A-6 $453,559,632 6.61% $450,969,960 6/15/13 6/15/15 Class A-7 $219,688,870 6.75% $218,219,850 6/15/14 6/15/16 Class A-8 $370,259,905 6.89% $367,732,325 12/15/15 12/15/17 ================== ================= =================== ================= =================== ================

Transition Funding has entered into an interest rate swap on its sole class of floating rate Bonds (Class A-4). The interest rate swap effectively converts the existing floating rate debt into fixed rate borrowings at 6.2875%. ================================================================================ PSE&G TRANSITION FUNDING LLC ================================================================================ NOTES TO FINANCIAL STATEMENTS -- CONCLUDED Transition Funding has incurred certain issuance costs in connection with the securitization transaction, including $201 million of costs of a hedging arrangement as permitted by the Finance Order. Costs in excess of the $125 million of transaction costs provided for in the Finance Order are being recovered on a subordinated basis by Transition Funding through the TBC. The TBC rate became effective on February 7, 2001, in accordance with the Final Order. Under applicable law, the Bonds are not an obligation of PSE&G or secured by the assets of PSE&G. Also under applicable law, the Bonds are recourse to Transition Funding and are collateralized on a pro rata basis by the BTP and the equity and assets of Transition Funding. The source of repayment will be the TBC. TBC collections are deposited at least monthly by PSE&G with the Trustee and used to pay the expenses of Transition Funding, to pay debt service on the Bonds and to fund any credit enhancement for the Bonds. Transition Funding has also pledged the capital contributed by PSE&G to secure the debt service requirements of the Bonds. The debt service requirements include an overcollateralization subaccount, a capital subaccount and a reserve subaccount which are available to bond holders. Any amounts collateralizing the Bonds will be returned to PSE&G upon payment of the Bonds. Note 5. Significant Agreements and Related Party Transactions Under the servicing agreement entered into by Transition Funding and PSE&G, concurrently with the issuance of the first Series of Bonds, PSE&G, as servicer, will be required to manage and administer the BTP of Transition Funding and to collect the TBC on behalf of Transition Funding. Under the Finance Order, PSE&G will withhold from the TBC collections an annual servicing fee equal to 0.05% of the initial balance of Bonds issued. The fee was approximately $315 thousand for the quarter ended September 30, 2001 and approximately $841 thousand from the bond issuance through September 30, 2001. Note 6. Accounting Matters Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" (SFAS 133) is effective for all fiscal years beginning after June 15, 2000. SFAS 133, as amended, establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. Under SFAS 133, certain contracts that were not formerly considered derivatives may now meet the definition of a derivative. Transition Funding adopted SFAS 133 effective January 1, 2001. There was no transition adjustment to record for Transition Funding. Transition Funding has entered into an interest rate swap on its sole class of floating rate Bonds. The notional amount of the interest rate swap is $496 million and is indexed to the three-month LIBOR rate. The fair value of the interest rate swap was approximately $(32) million as of September 30, 2001 and was recorded as a derivative liability, with an offsetting amount recorded as a regulatory asset on the Balance Sheet. This amount will vary over time as a result of changes in market conditions and is expected to be recovered through the TBC. ================================================================================ PSE&G TRANSITION FUNDING LLC ================================================================================ ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Following are the significant changes in or additions to information reported in Transition Funding's 2000 Annual Report on Form 10-K and Quarterly Reports on Form 10-Q for the quarters ended March 31, 2001 and June 30, 2001, affecting the financial condition and the results of operations of Transition Funding. This discussion refers to the Statements and related Notes of Transition Funding and should be read in conjunction with such Statements and Notes. The following analysis of the financial condition and results of operations of Transition Funding is in an abbreviated format pursuant to Instruction H of Form 10-Q. Results of Operations For the quarter ended September 30, 2001, Transition Funding recorded revenue generated from TBC of approximately $79 million, amortization expense of approximately $36 million, servicing fees of approximately $315 thousand and interest expense of approximately $42 million. Interest expense includes approximately $40 million of interest on the Bonds, $1 million of amortization of deferred issuance costs and $2 million of interest related to excess debt issuance costs that were paid by PSE&G. From February 7, 2001 through September 30, 2001, Transition Funding recorded revenue generated from the TBC of approximately $182 million, amortization expense of approximately $67 million, Servicing Fees of approximately $841 thousand and Interest Expense of approximately $114 million. Interest Expense includes approximately $108 million of interest on the Bonds, $2 million of amortization of deferred issuance costs and $5 million of interest related to excess debt issuance costs that were paid by PSE&G. Liquidity and Capital Resources The principal amount of the Bonds, interest, fees and funding of the overcollateralization subaccount are being recovered through the TBC payable by retail customers of electricity within PSE&G's service territory who receive electric delivery service from PSE&G. As part of PSE&G's responsibility as Servicer under the Servicing Agreement, PSE&G remits the TBC collections to the Trustee to make scheduled payments on the Bonds. The first payment of bond principal, interest and all related expenses was made by the Trustee on September 17, 2001. The September 17, 2001 payment was funded from Transition Funding's TBC collections, partially supplemented by approximately $6 million from the capital subaccount. In addition, a $7 million scheduled payment to PSE&G for excess issuance costs was deferred as these costs are subordinate to the Bonds. Transition Funding is expected to file with the BPU in November for an increase to the TBC rate as part of its annual true-up effective in January 2002. The increased TBC rate will replenish the capital subaccount and the overcollateralization account and enable Transition Funding to meet its scheduled payment to PSE&G. If approved, there will not be a net increase to customers' rates as this increase will be offset by a decrease in the Market Transition Charge PSE&G charges its customers. Business Environment Transition Funding is currently evaluating the economic consequences of September 11, 2001 terrorist attacks on the United States and subsequent developments, particularly their impact on accelerating the continued economic slowdown in the United States and worldwide. The consequences of a prolonged recession may include continued uncertainty of energy prices and the capital commodity markets. Transition Funding cannot predict the impact of any further continued economic slowdown and potential interest payment defaults; however, such impact could have a material adverse effect on its financial condition, results of operations and net cash flows. Forward Looking Statements Except for the historical information contained herein, certain of the matters discussed in this report constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are subject to risks and uncertainties which could cause actual results to differ materially from those anticipated. Such statements are based on management's beliefs as well as assumptions made by and information currently available to management. When used herein, the words "will", "anticipate", "intend", "estimate", "believe", "expect", "plan", "potential", variations of such words and similar expressions are intended to identify forward-looking statements. Transition Funding undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. In addition to any assumptions and other factors referred to specifically in connection with such forward-looking statements, factors that could cause actual results to differ materially from those contemplated in any forward-looking statements include, among others, the following: state and federal legal or regulatory developments; national or regional economic conditions; market demand and prices for energy; weather variations affecting customer energy usage; the effect of continued electric industry restructuring; operating performance of PSE&G's facilities and third party suppliers; the payment patterns of customers including the rate of delinquencies and the accuracy of the collections curve; and acts of war or terrorism. ================================================================================ PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS There are no updates to information reported under Item 3 of Part I of PSE&G Transition Funding LLC's 2000 Annual Report on Form 10-K or Quarterly Reports on Form 10-Q for the quarters ended March 31, 2001 and June 30, 2001. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (A) Exhibits being filed with this document: None. (B) Reports on Form 8-K: None. SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. PSE&G TRANSITION FUNDING LLC (Registrant) By: Patricia A. Rado ------------------------------------------------- Patricia A. Rado Vice President and Controller (Principal Accounting Officer) Date: November 1, 2001

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