10-Q 1 siuk3qtrs10-q.txt SIUK 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ------------------------- FORM 10-Q ---------------------- (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarter Ended December 31, 2000 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 -------------------------- Commission Registrant, State of Incorporation, I.R.S. Employer File Number Address and Telephone Number Identification No. ------------ ----------------------------------- ------------------ 333-09033 Southern Investments UK plc None (Registered in England & Wales) Avonbank Feeder Road Bristol BS2 0TB, UK (01144) 117 9332000 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 suchreports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No __ Description of Shares Outstanding Registrant Common Stock at January 31, 2001 ---------- -------------- ------------------- Southern Investments UK plc Par Value(pound)1 Per Share 902,128,735 CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION This Quarterly Report on Form 10-Q includes forward-looking and historical information. The Company cautions that there are various important factors that could cause actual results to differ materially from those indicated in the forward-looking information; accordingly, there can be no assurance that such indicated results will be realized. These factors include legislative and regulatory issues; potential business strategies, including acquisitions or dispositions of assets or businesses or internal restructuring that may be pursued by the Company or its subsidiaries; the potential introduction of the Euro; changes in or application of environmental and other laws and regulations to which the Company and its subsidiaries are subject; political, legal and economic conditions and developments in which the Company and its subsidiaries operate; financial market conditions and the results of financing efforts; changes in commodity prices and interest rates; weather and other natural phenomena; the performance of projects undertaken by the Company or its subsidiaries and the success of efforts to invest in and develop new opportunities; and other factors discussed elsewhere herein and in other reports filed from time to time by the Company with the SEC.

SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS December 31, 2000 (Unaudited) (A) Solely for the convenience of the reader, certain pounds sterling amounts included in the condensed consolidated financial statements have been translated into US dollars at the exchange rate of $1.4955 = (pound)1.00, the noon buying rate in New York City for cable transfers in pounds sterling as certified for customs purposes by the Federal Reserve Bank of New York on December 31, 2000. (B) The condensed consolidated financial statements included herein have been prepared pursuant to the rules and regulations of the SEC and in conformity with accounting principles generally accepted in the United States. In the opinion of the Company's management, the information furnished herein reflects all adjustments necessary to present fairly the results of the three-month and nine-month periods ended December 31, 2000 and 1999. All such adjustments are of a normal recurring nature. The Company's fiscal year-end is March 31. Certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading. It is suggested that these condensed consolidated financial statements be read in conjunction with the financial statements and the notes thereto included in the Company's latest annual report on Form 10-K. (C) The Company's principal operating subsidiary is South Western Electricity plc, which trades as Western Power Distribution ("WPD"). WPD's principal activity is electricity distribution, which involves the transfer of electricity from the national transmission system to end users' premises. WPD previously operated a supply business known as "SWEB" that purchased, marketed and sold electricity to customers within its service territory and to competitive customers throughout the United Kingdom. WPD sold that business, together with the name SWEB, to London Electricity plc for (pound)160 million and the assumption by the purchaser of certain liabilities. The sale was effective September 30, 1999. The Company recorded an after tax gain on the sale of (pound)125 million during fiscal year 2000. During fiscal year 2001, issues relating to working capital and pension spin off value were resolved and a further (pound)7 million after tax gain was recorded. (D) The Company shows a retained earnings deficit primarily due to dividends in the amount of (pound)191 million being declared and paid by the Company during the fiscal year 1996 as proceeds from the sale of WPD's shares in The National Grid Group plc provided cash in addition to that provided from operations. In addition, the first budget of the Labour government included a "one-off windfall levy on the excess profits of the privatized utilities"; WPD's liability was assessed at (pound)90 million during fiscal year 1998. (E) The Company engages in price risk management activities. Reference is made to MANAGEMENT'S DISCUSSION AND ANALYSIS - "Derivative Financial Instruments" and Note 7 to the financial statements of the Company in Item 8 of Form 10-K for a discussion of these activities. Activities for non-trading purposes consist of transactions employed to mitigate the Company's risk related to interest rates and foreign currency exchange rate fluctuations. At December 31, 2000, the status of outstanding non-trading related derivative contracts was as follows: (i) Interest rate swaps expiring between 2001 and 2012 with notional amounts totaling (pound)600 million, resulted in an unrealized loss of (pound)46 million. (ii) Currency swaps expiring between 2001 and 2007 with notional amounts totaling (pound)350 million, resulted in an unrealized gain of (pound)43 million.

The "Other" category includes ancillary business activities that generally support WPD's distribution business, including electricity generation for standby purposes, property and telecommunications, as well as corporate items and assets not allocated to specific segments. Interest and taxes are wholly allocated to "Other" and are disclosed in the Condensed Consolidated Statements of Income. The values above exclude discontinued operations. (G) The Company and WPD are routinely party to legal proceedings arising in the ordinary course of business which are not material, either individually or in aggregate. Neither the Company nor WPD is a party to any material legal proceedings nor are they currently aware of any threatened material legal proceedings. Reference is made to Note 2 to the financial statements of the Company in Item 8 of the Form 10-K for information regarding complaints made by members of the Electricity Supply Pension Scheme ("ESPS") relating to the use by another employer, The National Grid Company plc ("NGC"), of ESPS surplus to offset that employer's costs of providing early pensions on redundancies and certain other items. NGC, together with National Power PLC, have now initiated appeals in the House of Lords. NGC and National Power PLC have executed deeds of amendment which purport to cancel their accrued contribution obligations arising from the Court of Appeal's judgment. The House of Lords has scheduled a hearing for February 12 to 17, 2001, and a ruling is expected no earlier than April or May of 2001. WPD is currently drafting similar amendments. Based on an assessment of the current legal position, it is anticipated that payments into the ESPS of (pound)24 million will ultimately be required. Under Financial Accounting Standards Board Statement No. 87, "Employers' Accounting for Pensions," there will be no immediate impact to Net Income. SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (H) The condensed consolidated financial statements included herein have not been prepared in accordance with the policies of FASB Statement No. 71 "Accounting for the Effects of Certain Types of Regulation". This pronouncement, under which most US electric utilities report financial statements, applies to entities which are subject to cost-based rate regulation. By contrast, WPD is not subject to rate regulation, but rather, is subject to price cap regulation and therefore the provisions of FASB Statement No. 71 do not apply. Financial statements presented in accordance with FASB Statement No. 71 often contain certain deferred items which have not been included in rates charged to customers in compliance with the respective regulatory authority rulings, but which would have been included in the income statement of enterprises in general under US GAAP. The accompanying consolidated financial statements of the Company do not contain such deferrals. (I) During the second quarter of fiscal year 2001, WPD loaned (pound)85 million to WPD Limited to finance part of the purchase price paid by WPD Limited for Hyder plc shares. The loan was funded through an increase to short-term borrowings. Reference is made to MANAGEMENT'S DISCUSSION AND ANALYSIS - "Future Earnings Potential" for additional information.

Operating revenues. Within operating revenues, the distribution business segment decreased by (pound)11 million for the quarter and by (pound) 18 million year-to-date when compared to the same period of fiscal year 2000. This was principally due to reduced distribution tariffs effective April 1, 2000 as determined by the Regulator in the price review published in December 1999. Revenues from ancillary businesses (net of eliminations) for fiscal year 2001 increased by (pound)4 million for the third quarter and decreased by (pound)15 million year-to-date, compared to the corresponding periods of fiscal year 2000. The year-to-date decrease reflects lower activity in the energy purchasing business following the sale of the electricity supply business effective September 1999. SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION Depreciation and amortization. The third quarter and year-to-date decrease is mainly attributed to depreciation on assets written down in the latter half of fiscal year 2000. Selling, general, and administrative expenses. The third quarter and year-to-date increase is primarily attributed to finalization of certain liabilities in fiscal year 2000, partly offset by cost reductions in fiscal year 2001 associated with restructuring after the supply sale, and staff reductions. Expenses for both fiscal years are reduced by the impact of a pension credit as required by Statement of Financial Accounting Standards (SFAS) No. 87, "Employers' Accounting for Pensions". Interest income from affiliated companies. The third quarter and year-to-date increase is due to interest receivable on a (pound)85 million loan to WPD Limited to finance part of the purchase price paid by WPD Limited for Hyder plc shares. Interest expense. The third quarter and year-to-date increase is due to the additional borrowing required to fund the loan made to WPD Limited. Provision for income taxes. The third quarter increase and year-to-date decrease is due to higher and lower income before tax, respectively. Future Earnings Potential The results of operations discussed above are not necessarily indicative of future earnings potential. The level of future earnings depends on numerous factors including the impact of current and future regulation. On September 15, 2000, WPD Limited, a company owned jointly by subsidiaries of Mirant and PPL, acquired control of Hyder plc ("Hyder") in a share acquisition. On October 31, 2000, WPD Limited exercised its statutory right to acquire all remaining shares of Hyder in issue, acceptances of its acquisition offer having exceeded 90% of shares in issue. WPD Limited completed its acquisition of all remaining shares of Hyder in December 2000. Hyder is currently the parent of South Wales Electricity plc, an electricity distribution company that operates in an area covering approximately 4,600 square miles in southern Wales, serving approximately 1 million end users, and of Dwr Cymru, a water and sewage services business that operates in an area comprising most of Wales and parts of Herefordshire, Gloucestershire, Cheshire, Shropshire, and the Wirral. A binding agreement has been signed for the sale of Dwr Cymru to a third party, subject to the satisfaction of certain conditions. Hyder also owns subsidiaries that operate in the managed services and infrastructure businesses. WPD will provide management oversight for the operations of South Wales Electricity. During the second quarter, WPD made short-term loans totaling (pound)85 million to WPD Limited. This represents part of the funding for WPD Limited's purchase of Hyder shares. In addition, WPD Limited has replaced Hyder's board of directors with employees of WPD, Mirant, and PPL. SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION The charges made for the use of the distribution network are regulated on the basis of the RPI minus X formula. RPI is a measure of inflation, and equals the percentage change in the U.K. RPI between the six month period of July to December in the previous year. The X factor is established by the Regulator following review, and represents an efficiency factor. This formula determines the maximum average price per unit of electricity distributed (in pence per kilowatt hour) that a Distribution company is entitled to charge. This price, when multiplied by the expected number of units to be distributed, determines the expected distribution revenues for the relevant year. The Regulator currently sets the Distribution Price Control Formula for 5 year periods. The current Distribution Price Control Formula permits Distribution companies, within a review period, to partially retain additional revenues due to increased distributions of units and to retain pound for pound increases in operating profit due to efficient operations and the reduction of expenses. The Regulator may reduce this increase in operating profit through a one-off price reduction in the first year of the new pricing regime, if he or she determines that it is not a function of efficiency savings, or, if genuine efficiency savings have been made, and he or she determines that customers should benefit through lower prices. In December 1999, the Regulator published final price proposals for distribution price control for the 12 Distribution companies in England and Wales. For WPD, these proposals represented a 20% reduction to distribution prices effective April 2000, followed by a reduction in real terms of 3% each year from April 2001. This price control is scheduled to operate until March 2005. In response, management plans to maximize efficiency and customer service as a focused distribution company. The implementation of the plans has necessitated an overall reduction in staffing levels. The reductions were focused on administrative and corporate functions, with minimal impact on field staff, ensuring customer service was not affected. In addition WPD's approach to information technology systems has changed. Rather than developing custom made programs, WPD now buys systems "off the shelf" and changes business processes where necessary. Distribution businesses must also meet the Guaranteed and Overall Standards of Performance, which are set by the Regulator to ensure an appropriate level of quality of supply. If a company fails to provide the level of service specified, it must make a fixed payment to the end user affected (via the end user's supplier). As part of the price control review, the Regulator recognized that further analysis was required to address some of the weaknesses associated with the existing framework of price regulation. This included a commitment to an ongoing program of work, known as the Information and Incentives Project. A major objective of this project is to strengthen the financial incentives on distribution businesses with regards to the quality of service that they deliver. Although the Guaranteed and Overall Standards of Performance impose penalty payments for not meeting specific targets, there is no explicit mechanism whereby regional electricity companies are financially rewarded for improved quality of supply. The final proposals indicated that the Regulator intends to introduce additional incentive mechanisms relating to quality of supply from April 2002. The financial impact of any additional mechanisms would be limited to +/-2% of price control revenue during the price control period from April 2002 until the end of March 2005. SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION A recent regulatory development was the enactment of the Utilities Act 2000 in July 2000. An important feature of the Utilities Act is the separation of electricity distribution and supply. The current PES licenses will be replaced by single licenses to supply and distribute electricity. Second tier supply licenses will disappear. The concept of geographically specific "authorized areas" in supply licenses will also be abolished. A license will be required for the distribution of electricity (unless a relevant exemption applies). The same legal entity will not be able to hold both a distribution and a supply license. Existing holders of PES licenses will have to ensure that the relevant distribution and supply assets are held in different companies, although how they do this is a matter for each individual company. WPD's distribution business has now achieved complete physical, system and management separation from the SWEB supply business. In June 2000, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (SFAS) No. 138, an amendment of SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". SFAS No.133, as amended, establishes accounting and reporting standards for derivative instruments, and for hedging activities. The Statement requires that certain derivative instruments be recorded in the balance sheet as either assets or liabilities measured at fair value, and that changes in the fair value be recognized currently in earnings unless specific hedge accounting criteria are met. The Company will adopt the provisions of SFAS No. 133, as amended, on January 1, 2001 and will result in a cumulative after-tax reduction in other comprehensive income of approximately (pound)26 million in the last quarter of fiscal year 2001. SFAS No. 133 will increase the volatility in other comprehensive income, because the derivative instruments are valued based on market indices. The adoption will also impact assets and liabilities recorded on the balance sheet. There will however, be no cumulative impact in net income. The application of SFAS No. 133 is still evolving and further guidance from the FASB is expected. When established, this further guidance may have additional impacts on the Company's financial statements. In January 1999, eleven European Union countries formed an economic and monetary union and started using a single currency - the Euro. The UK did not join at this time, but the UK government has indicated that it might in the future. WPD has assessed changes that would be required if the Euro is introduced to the U.K. The cost of conversion to Euro compatible systems could have a significant impact on future earnings. Reference is made to Note (G) in the "Notes to the Condensed Consolidated Financial Statements" herein for discussion of various contingencies and other matters which may affect future earnings potential. Reference is also made to Part II - Item 1 - "Legal Proceedings" herein. FINANCIAL CONDITION Overview A major change in the Company's financial condition during the nine months to December 31, 2000 was the expenditure by WPD of approximately (pound)52 million in property, plant, and equipment, largely in respect of the distribution network. The funds required for such additions were derived primarily from operations. It is expected that WPD's capital requirements in the foreseeable future for its investment in property, plant, and equipment will be generated from operating activities. SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION Demand for electricity in Great Britain, in general, and in WPD's Authorized Area, in particular, is seasonal, with demand being higher in the winter months and lower in the summer months. WPD balances the effect of this and other cyclical influences on its working capital needs with drawings under its available credit facilities. The Company holds the entire share capital of WPD. The Company is primarily dependent upon dividends from WPD for its cash flow. WPD can make distribution of dividends to the Company under English law to the extent that it has distributable reserves, subject to the retention of sufficient financial resources to conduct its distribution business as required by its regulatory license. The directors of Distribution companies must also certify to the Regulator that it is reasonably foreseeable that the declaration of a dividend will not breach any license conditions. WPD has no reason to believe that a breach of its license would occur from declaring a reasonable dividend. In December 2000, the Accounting Standards Board concluded its review of UK deferred income tax accounting. The Financial Reporting Standard published requires full provision for deferred tax to be made for accounting periods ending on or after January 23, 2002. Entities are permitted to discount deferred tax assets and liabilities to reflect the time value of money. The adoption of this Standard will reduce WPD's distributable reserves. The Company believes that sufficient distributable reserves will continue to exist at WPD to allow for reasonable and necessary dividends from WPD, through operations, to be distributed to the Company. Financing Activities The Company has a U.S. commercial paper program, which is fully supported by a swingline and revolving credit facility provided by a syndicate of banks, under which the maximum available is $503 million. At December 31, 2000 the amount unutilized under these facilities was (pound)60 million. WPD enters into foreign currency contracts to hedge the currency risk associated with the interest and principal of each utilization under this program. WPD actively manages its short-term debt, which includes a number of bank lines of credit in addition to the commercial paper program. At December 31, 2000 the Company and WPD together had short-term debt of (pound)435 million ($650 million) outstanding ($413 million from a swingline and revolving credit facility, and $237 million in other short-term loans). To meet short-term cash needs and contingencies, the Company and WPD together had at December 31, 2000 approximately (pound)1 million of cash and (pound)50 million of unutilized committed lines of credit with banks. Also available was (pound)60 million of the swingline and revolving credit facility mentioned above. During the second quarter of fiscal year 2001, WPD made short-term loans totalling (pound)85 million to WPD Limited. This represents part of the funding for WPD Limited's purchase of Hyder shares. Excluding swap agreements between the Company and Holdings UK, at December 31, 2000, the Company and WPD have sterling interest rate swaps expiring between 2001 and 2012, with notional amounts totalling (pound)600 million, and have cross currency swaps expiring between 2001 and 2007, with notional amounts totalling (pound)350 million. SOUTHERN INVESTMENTS UK plc and SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION PART II - OTHER INFORMATION Item 1. Legal Proceedings. (1) Reference is made to the Notes to the Consolidated Financial Statements herein for information regarding certain legal and administrative proceedings in which the Company is involved. Item 6. Exhibits and Reports on Form 8-K. (a) Exhibits. Exhibit 27 - Financial Data Schedule (b) Reports on Form 8-K. -------------------- No report on Form 8-K was filed by the Company during the quarter for which this report is being filed. SIGNATURES 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. SOUTHERN INVESTMENTS UK plc By /s/ R. A. Symons R. A. Symons Director By /s/ D. C. S. Oosthuizen D. C. S. Oosthuizen Director, Chief Financial and Accounting Officer Date: February 12, 2001

SOUTHERN INVESTMENTS UK PLC 10-Q