MIDDLESEX WATER CO Management’s Discussion and Analysis of Financial Condition and Results of Operations (Form 10-Q)
The following discussion and analysis should be read in conjunction with the unaudited condensed consolidated financial statements of
Middlesex Water Company(Middlesex or the Company) included elsewhere herein and with the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2021. Forward-Looking Statements Certain statements contained in this periodic report and in the documents incorporated by reference constitute "forward-looking statements" within the meaning of Section 21E of the Securities Exchange Act of 1934 and Section 27A of the Securities Act of 1933. The Company intends that these statements be covered by the safe harbors created under those laws. They include, but are not limited to statements as to: -
the financial situation, performance, prospects and expected profits of the Company; –
strategic plans for growth; -
the amount and timing of rate increases and other regulatory matters, including the recovery of certain costs recognized as regulatory assets; –
the Company’s expected cash requirements in the coming year and beyond and the sources and availability of funds to meet its cash requirements; –
expected customer rates, consumption volumes, service fees, revenues, margins, expenses and operating results; - financial projections; -
the expected amount of cash contributions to fund the Company’s pension plans, expected discount rates and rates of return on plan assets; –
the ability of the Company to pay dividends; - the Company's compliance with environmental laws and regulations and estimations of the materiality of any related costs; -
the safety and reliability of the Company’s equipment, facilities and operations; –
the Company’s plans to renew franchises and municipal consents in the territories it serves; –
trends; and -
the availability and quality of our water supply.
These forward-looking statements are subject to risks, uncertainties and other factors that could cause actual results to differ materially from future results expressed or implied by the forward-looking statements. Important factors that could cause actual results to differ materially from anticipated results and outcomes include, but are not limited to: - effects of general economic conditions; - increases in competition for growth in non-franchised markets to be potentially served by the Company; - ability of the Company to adequately control selected operating expenses which are necessary to maintain safe and proper utility services, and which may be beyond the Company's control; - availability of adequate supplies of water; - actions taken by government regulators, including decisions on rate increase requests; - new or modified water quality standards and compliance with related regulatory requirements; -
variations in weather and other natural phenomena affecting utility operations; –
financial and operational risks associated with acquisitions and/or privatizations; –
acts of war or terrorism; - cyber - attacks; - changes in the pace of housing development; - availability and cost of capital resources; -
the timely availability of materials and supplies for operations and critical infrastructure projects; –
impact of the novel coronavirus (COVID-19) pandemic; and –
other factors discussed elsewhere in this quarterly report.
Many of these factors are beyond the Company's ability to control or predict. Given these uncertainties, readers are cautioned not to place undue reliance on any forward-looking statements, which only speak to the Company's understanding as of the date of this report. The Company does not undertake any obligation to release publicly any revisions to these forward-looking statements to reflect events or circumstances after the date of this report or to reflect the occurrence of unanticipated events, except as may be required under applicable securities laws. 16
For an additional discussion of factors that may affect the Company's business and results of operations, see Item 1A. - Risk Factors in the Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 2021.
Middlesex Water Company(Middlesex or the Company) has operated as a water utility in New Jerseysince 1897 and in Delawarethrough our wholly-owned subsidiary, Tidewater Utilities, Inc.(Tidewater), since 1992. We are in the business of collecting, treating and distributing water for domestic, commercial, municipal, industrial and fire protection purposes. We operate water and wastewater systems under contract for governmental entities and private entities primarily in New Jerseyand Delawareand also provide regulated wastewater services in New Jersey. We are regulated by state public utility commissions as to rates charged to customers for water and wastewater services, as to the quality of water and wastewater services we provide and as to certain other matters in the states in which our regulated subsidiaries operate. Only our Utility Service Affiliates, Inc.( USA), Utility Service Affiliates( Perth Amboy), Inc. ( USA-PA) and White Marsh Environmental Services, Inc.(White Marsh) subsidiaries are not regulated public utilities as related to rates and services quality. All municipal or commercial entities whose utility operations are managed by these entities however, are subject to environmental regulation at the federal and state levels. Our principal New Jerseywater utility system (the Middlesex System) provides water services to approximately 61,000 retail customers, primarily in central New Jersey. The Middlesex System also provides water sales under contract to municipalities in central New Jerseywith a total population of over 0.2 million. Our Bayview system provides water services in Downe Township, New Jersey. Our other New Jerseysubsidiaries, Pinelands Water Companyand Pinelands Wastewater Company, provide water and wastewater services to approximately 2,500 customers in Southampton Township, New Jersey. Our Delawaresubsidiaries, Tidewater and Southern Shores Water Company, LLC, provide water services to approximately 55,000 retail customers in New Castle, Kentand SussexCounties, Delaware. Tidewater's subsidiary, White Marsh, services approximately 4,500 customers in Kentand SussexCounties through various operations and maintenance contracts. USA-PA operates the water and wastewater systems for the City of Perth Amboy, New Jersey( Perth Amboy) under a 10-year operations and maintenance contract expiring in 2028. In addition to performing day-to day operations, USA-PA is also responsible for emergency response and management of capital projects funded by Perth Amboy. USAoperates the Borough of Avalon, New Jersey's( Avalon) water utility, sewer utility and storm water system under a 10-year operations and maintenance contract expiring in June 2022. USAparticipated in the public proposal process for the Borough's procurement of a new contract and a decision on this proposal is expected in the second quarter of 2022. In addition to performing day-to-day service operations, USAis responsible for billing, collections, customer service, emergency response and management of capital projects funded by Avalon. USAoperates the Borough of Highland Park, New Jersey'swater and wastewater systems under a 10-year operations and maintenance contract expiring in June 2030. Under a marketing agreement with HomeServe USA Corp.(HomeServe) expiring in 2031, USAoffers residential customers in New Jerseyand Delawarewater and wastewater related services and home maintenance programs. HomeServe is a leading national provider of such home maintenance service programs. USAreceives a service fee for the billing, cash collection and other administrative functions associated with HomeServe's service contracts. 17
Capital Construction Program - The Company's multi-year capital construction program encompasses numerous projects designed to upgrade and replace utility infrastructure as well as enhance the integrity and reliability of assets to maintain and improve service for the current and future generations of water and wastewater customers. The Company plans to invest approximately
$90 millionin 2022 in connection with projects that include, but are not limited to: • Construction of a facility to provide an enhanced treatment process at the Company's largest New Jerseywellfield in South Plainfieldto comply with new state water quality regulations relative to poly- and perfluoroalkyl substances, collectively referred to as PFAS, and integrate surge protection to mitigate spikes in water pressures along with enhancements to corrosion control and disinfection processes; • Replacement of approximately six miles of water mains including full main and service line replacements, meter pit installations and fire hydrant replacements in the Township of Woodbridge, New Jersey; •
Upgrading our work and asset management computer system; •
Construction of two elevated water storage tanks in our Tidewater service territory; and •
Various other water main replacements and upgrades.
Regulatory Notice of Non-Compliance- In
September 2021, the New Jersey Department of Environmental Protection(NJDEP) issued a Notice of Non-Compliance (Notice) to Middlesex based on self-reporting by Middlesex that the level of Perfluorooctanoic Acid (PFOA) in water treated at its Park Avenue Wellfield Treatment Plantin South Plainfield, New Jerseyexceeded a recently promulgated NJDEP standard effective in 2021. Neither the NJDEP nor Middlesex has characterized this exceedance as an acute health threat. However, Middlesex was required to notify its affected customers and complied in November 2021as required by the regulation. Further, the Notice required the Company to take any action necessary to comply with the new standard by September 7, 2022. The NJDEP standard for PFOA was developed based on a Health-based Maximum Contaminant Level (MCL) of 14 parts per trillion (ppt). Although the United States Environmental Protection Agency(USEPA) has not yet implemented a regulation relative to PFOA, the water distributed from the Park Avenue Wellfield Treatment Plantdoes meet the USEPA's current health advisory level of 70 ppt and would meet the NJDEP's pre-2021 standard guidance level of 40 ppt, which was not a regulation. Construction of an enhanced treatment process at the Park Avenue Wellfield Treatment Plantto comply with an anticipated NJDEP standard, at a level which was unknown at that time, had already begun prior to the regulation being enacted. Since completion is not expected until mid-2023, in December 2021, the Company implemented an interim solution to meet the Notice requirements. The Park Avenue Wellfield Treatment Plantwas taken off-line and alternate sources of supply have been obtained. The Company is in the process of implementing an acceleration of a portion of the Park Avenue Wellfield treatment upgrades in order to meet anticipated increases in the historical higher water demand periods during the summer months. This is also intended to result in compliance with the requirements of the Notice. In November 2021, the Company was served with two PFOA-related class action lawsuits seeking restitution for medical, water replacement and other claimed related costs. These lawsuits are in the early stages of the legal process and their ultimate resolution cannot be predicted at this time. The Company's insurance provider has acknowledged coverage of potential liability which may result from these lawsuits. In January 2022, the Company filed a petition with the New Jersey Board of Public Utilities(NJBPU) seeking to establish a regulatory asset and deferred accounting treatment until its next base rate setting proceeding for all costs associated with the interim solution to comply with the Notice. While the Company believes monetary penalties are unlikely, the issuance of the Notice does not preclude the State of New Jersey, or any of its agencies, from initiating formal administrative and/or judicial enforcement action, including assessment of penalties of up to $25,000per day per offense if the Company is not in compliance with the requirements of the Notice by September 7, 2022. Rate and Regulatory Matters - In December 2021, Middlesex's petition to the NJBPU seeking permission to increase its base water rates was concluded, based on a negotiated settlement, resulting in an expected increase in annual operating revenues of $27.7 million. The approved tariff rates were designed to recover increased operating costs as well as a return on invested capital of $513.5 million, based on an authorized return on common equity of 9.6%. The increase is being implemented in two phases with $20.7 millionof the increase effective January 1, 2022and the remaining $7.0 millioneffective January 1, 2023. As part of the negotiated settlement, the Purchased Water Adjustment Clause (PWAC), which is a rate mechanism that allows for recovery of increased purchased water costs between base rate case filings, was reset to zero.
Sale of Subsidiary - In
January 2022, Middlesex closed on the Delaware Public Service Commission(DEPSC) approved sale of 100% of the common stock of its subsidiary Tidewater Environmental Services, Inc.(TESI) to Artesian Wastewater Management, Inc.for $6.4 millionin cash and other consideration, resulting in a $5.2 millionpre-tax gain. The Company will continue to own and operate its non-regulated water and wastewater contract operations business in Delaware. COVID-19 - On April 13, 2022, the United StatesSecretary of Health and Human Servicesrenewed the determination that a nationwide health emergency exists as a result of the COVID-19 Pandemic. While the Company's operations and capital construction program have not been materially disrupted to date from the pandemic, the COVID-19 impact on economic conditions nationally continues to be uncertain and could affect the Company's results of operations, financial condition and liquidity in the future. In New Jersey, the declared COVID-19 State of Emergency ended on March 7, 2022. In Delaware, the declared COVID-19 State of Emergency Order ended in July 2021. The NJBPU and the DEPSC have approved the tracking of COVID-19 related incremental costs for potential recovery in customer rates in future rate proceedings. Neither jurisdiction has established a timetable or definitive formal procedures for seeking cost recovery. Since March 2020, the Company has increased its allowance for doubtful accounts for expected increases in accounts receivable write-offs due to the financial impact of COVID-19 on customers. Since the ultimate rate treatment to be determined by the NJBPU regarding incremental costs related to Covid-19 is not definitively known at this time, the Company has not deferred any such costs. We will continue to monitor the effects of COVID-19 and evaluate its impact on the Company's results of operations, financial condition and liquidity. 18
Our ability to increase operating income and net income is based significantly on four factors: weather, adequate and timely rate relief, effective cost management and customer growth. These factors are evident in comparison discussions in the Results of Operations section below. Unfavorable weather patterns may occur at any time, which can result in lower customer demand for water. Our investments in system infrastructure continue to grow significantly and our operating costs are anticipated to increase in 2022 in a variety of categories. These factors, among others, may require the need to file requests during 2022 for increases in customer rates. An additional factor that we continue to actively monitor is the impact of new variants of COVID-19 on the general economy, our suppliers and our workforce (for further discussion of the impact of COVID-19 on the Company, see Recent Developments, COVID-19 above).
Overall, organic residential customer growth in our Tidewater system is expected to be above historical averages. However, builders and developers are experiencing longer home sales closing cycles due to supply chain issues.
The Company has projected to spend approximately
$229 millionfor the 2022-2024 capital investment program, including approximately $39 millionfor PFAS-related treatment upgrades in the Middlesex System, $33 millionon the RENEW Program, which is our ongoing initiative to replace water mains in the Middlesex System, $13 millionfor construction of elevated storage tanks in our Tidewater and Middlesex Systems and $10 millionfor the rehabilitation and other improvements associated with Middlesex's main field operations and inventory facilities.
Our profitable growth strategy focuses on the following key areas:
A non-controllable factor that may affect our outlook in 2021 is the pace at which remediation of the COVID-19 pandemic continues to occur, and the related impact on the regional and national economic recoveries. In addition, the New Jersey SEO moratorium on customer service terminations remains in effect, currently through
June 30, 2021. For further discussion of the impact of COVID-19 on the Company, see Recent Developments, COVID-19 above.
Organic residential customer growth in our Tidewater system is expected to continue at the 5% rate achieved in 2020, delaying any foreseeable need to seek an increase in base customer rates in 2021.
Our profitable growth strategy focuses on the following key areas:
Invest in projects, products and services that complement our core water and wastewater competencies; • Timely and adequate recovery of infrastructure investments and other costs to maintain service quality; •
Prudent acquisitions from investors and municipally owned water and wastewater utilities; and •
Operation of municipal and industrial water and wastewater systems on a contract basis that meet our risk profile.
Operating results by segment
The discussion of the Company's operating results is on a consolidated basis and includes significant factors by subsidiary. The Company has two operating segments, Regulated and Non-Regulated. The operations of the Regulated segment are subject to regulations promulgated by state public utility commissions as to rates and level of service. Rates and level of service in the Non-Regulated segment are subject to the terms of individually-negotiated and executed contracts with municipal, industrial and other clients. Both segments are subject to federal and state environmental, water and wastewater quality and other associated legal and regulatory requirements.
The segments in the tables below include the following companies: Regulated-Middlesex, Tidewater, Pinelands, Southern Shores and TESI; Not regulated-
Results of operations – Quarters ended
(In Thousands) Three Months Ended March 31, 2022 2021 Non- Non- Regulated Regulated Total Regulated Regulated Total Revenues
$ 33,296 $ 2,900 $ 36,196 $ 29,390 $ 3,151 $ 32,541Operations and maintenance expenses 17,179 1,960 19,139 16,249 2,107 18,356 Depreciation expense 5,563 59 5,622 4,774 58 4,832 Other taxes 4,081 63 4,144 3,651 68 3,719 Gain on Sale Of Subsidiary 5,232 - 5,232 - - - Operating income 11,705 818 12,523 4,716 918 5,634 Other income, net 1,702 54 1,756 1,979 59 2,038 Interest expense 1,850 - 1,850 1,738 - 1,738 Income taxes 44 285 329 (1,283 ) 310 (973 ) Net income $ 11,513 $ 587 $ 12,100 $ 6,240 $ 667 $ 6,907Operating Revenues
Operating revenue for the three months ended
Middlesex System revenues increased
$3.8 milliondue primarily to its approved base rate increase effective January 1, 2022; • Tidewater System revenues increased $0.7 milliondue to additional customers and a one-time customer credit refund issued in the first quarter of 2021, which were partially offset by lower customer demand and lower new customer connection fees; • The sale of our regulated Delawarewastewater subsidiary in January 2022reduced revenues by $0.6 million; and •
Unregulated income has decreased
Operating and maintenance expenses
Operating and maintenance expenses for the three months ended
Increased weather-related main rupture activity in our Middlesex system during the winter months has resulted in
Labor costs increased
$0.3 milliondue to higher overtime for Middlesex system main breaks and wage increases; • Water treatment costs increased $0.3 milliondue to weather-driven changes in water quality; •
Expenses related to employee benefits decreased
All other categories of operating and maintenance expenses increased
Depreciation expense for the three months ended
March 31, 2022increased $0.8 millionfrom the same period in 2021 due to a higher level of utility plant in service. Other Taxes Other taxes for the three months ended March 31, 2022increased $0.4 millionfrom the same period in 2021 primarily due to higher revenue related taxes on increased revenues in our Middlesex system.
Gain on sale of subsidiary
Middlesex acknowledged a
wastewater treatment subsidiary in
Other income, net
Other income, net for the three months ended
Interest charges for the three months ended
Income taxes for the three months ended
March 31, 2022increased by $1.3 millionfrom the same period in 2021, primarily due to income taxes on the gain on the sale of the subsidiary and higher pre-tax operating income. Partially offsetting the taxes on the sales gain were higher income tax benefits associated with increased repair expenditures on tangible property owned by Middlesex.
Net earnings and earnings per share
Net income for the three months ended
March 31, 2022increased $5.2 millionas compared with the same period in 2021. Basic earnings per share were $0.69and $0.39for the three months ended March 31, 2022and 2021, respectively. Diluted earnings per share were $0.68and $0.39for the three months ended March 31, 2022and 2021, respectively
Cash and capital resources
Operating cash flow
Cash flows from operations are largely based on four factors: weather, adequate and timely rate increases, effective cost management and growth. The effect of those factors on net income is discussed in "Results of Operations."
Operating cash flow
For the three months ended
Cash flow investment
For the three months ended
March 31, 2022, cash flows used in investing activities decreased $8.5 millionto $13.5 million. The decrease in cash flows used in investing activities resulted from decreased utility plant expenditures and cash received from the sale of Middlesex's regulated wastewater subsidiary in January 2022(for further discussion on the sales transaction, see Recent Developments, Sale of Subsidiary above).
For more details on the Company’s future capital expenditures and anticipated sources of funding, see “Capital Expenditures and Commitments” below.
Cash flow financing
For the three months ended
March 31, 2022, cash flows used in financing activities increased $7.1 millionto $0.7 million. The increase in cash flows used in financing activities is due to a reduction in net short-term bank borrowings partially offset by increased proceeds from the issuance of common stock under the Middlesex Water Company Investment Plan (the Investment Plan).
Capital expenditures and commitments
To fund our capital program, we use internally generated funds, short-term and long-term debt borrowings, proceeds from sales of common stock under the Investment Plan and proceeds from sales offerings to the public of our common stock. See below for a more detailed discussion regarding the funding of our capital program. 21
The capital investment program for 2022 is currently estimated at around
and expect to incur approximately
We currently project that we may expend approximately
$139 millionfor capital projects in 2023 and 2024. The actual amount and timing of capital expenditures is dependent on the need for replacement of existing infrastructure, customer growth, residential new home construction and sales, project scheduling and continued refinement of project scope and costs and, could be impacted if new variants of the COVID-19 pandemic arise and continue for an extended period of time. To pay for our capital program for the remainder of 2022, we plan on utilizing some or all of the following: • Internally generated funds; • Short-term borrowings, as needed, through $140 millionof lines of credit established with three financial institutions. As of March 31, 2022, there was $125.0 millionof available credit under these lines (for further discussion on Company lines of credit, see Note 6 - Short Term Borrowings); • Proceeds from the Delaware State Revolving Fund(SRF). SRF programs provide low cost financing for projects that meet certain water quality and system improvement; • Proceeds from the sale and issuance of First Mortgage Bonds in private placement offerings; and •
Proceeds from the company’s investment plan.
September 1, 2021, the Company began offering shares of its common stock for purchase at a 3% discount to participants in the Investment Plan. The discount offering will continue until 200,000 shares are purchased at the discounted price or August 1, 2022, whichever event occurs first. In order to fully fund the ongoing large investment program in our utility plant infrastructure and maintain a balanced capital structure for a regulated water utility, Middlesex may offer for sale additional shares of its common stock. The amount, the timing and the sales method of the common stock is dependent on the timing of the construction expenditures, the level of additional debt financing and financial market conditions. As previously approved by the NJBPU in 2019, the Company is authorized to issue and sell up to 0.7 million shares of its common stock in one or more transactions through December 31, 2022.
Recent Accounting Pronouncements – See Note 1 of the Notes to the Unaudited Condensed Consolidated Financial Statements for a discussion of recent accounting pronouncements and guidance.
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