ITEM 3. LEGAL PROCEEDINGS
Other than as described in Note 10 of Notes to Financial Statements and above under Items 1 and 2 - Business and Properties, there are no material pending legal proceedings. Pipeline is subject to ordinary routine litigation incidental to its business.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Since Pipeline meets the conditions set forth in General Instruction (J)(1)(a) and (b) of Form 10-K, this information is omitted.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Pipeline is wholly owned by Williams.
The payment of dividends by Pipeline on its common stock is restricted under various debt agreements. Under the most restrictive provisions, the amount of Pipeline's retained earnings available for dividends on its common stock as of December 31, 1996, was approximately $164.5 million. In 1996 and 1995, Pipeline paid cash dividends on common stock of $75.2 million and $20 million, respectively.
-4 - ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
Since Pipeline meets the conditions set forth in General Instruction (J)(1)(a) and (b) of Form 10-K, this information is omitted.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This analysis discusses financial results of Pipeline's operations for the years 1994 through 1996. Variances due to changes in price and volume no longer have a significant impact on revenues, because under its straight-fixed- variable rate design methodology, the majority of Pipeline's overall cost of service is recovered through fixed demand charges in its transportation rates.
RESULTS OF OPERATIONS
Year Ended December 31, 1996 vs. Year Ended December 31, 1995
Operating revenues increased $14.5 million, or 6%, due primarily to increased transportation rates effective February 1, 1996, associated with the completion of Pipeline's Northwest Natural and Expansion II facilities in December of 1995, a $4.6 million rate reserve reversal associated with a settlement of a previous rate case in February 1996 and a $3.2 million favorable regulatory decision related to fuel reimbursement, partially offset by the 1995 reversal of certain reserve accruals aggregating $16.3 million including amounts for estimated rate refunds.
Pipeline's transportation service accounted for 95% and 93% of operating revenues for the years ended December 31, 1996 and 1995, respectively. Of those amounts, Pipeline's firm transportation service accounted for 99.6% and 99% in the years ended December 31, 1996 and 1995, respectively. The remaining .4% and 1% for each year, respectively, represented interruptible transportation service. Additionally, 5% and 4% of operating revenues represented gas storage service for the years ended December 31, 1996 and 1995, respectively.
Operating expenses increased $13 million, or 10%, due primarily to depreciation related to Pipeline's Northwest Natural and Expansion II expansions and higher pension costs and headquarters rent.
Operating income increased $1.5 million, or 1%, primarily due to revenues from higher rates associated with Northwest Natural and Expansion II facilities placed in service during December of 1995, the settlement of a previous rate case and a favorable regulatory decision, partially offset by the reversal of certain reserve accruals in 1995, increased depreciation expenses associated with the Northwest Natural and Expansion II facilities and higher pension costs and headquarters office rent.
Other income and expenses includes a $6.4 million reserve accrual in 1995 for a lawsuit involving a former transportation customer.
Interest on long-term debt increased $4.5 million due to the issuance of $85 million in debentures during the fourth quarter of 1995. The allowance for borrowed funds used during construction decreased $2.7 million resulting from the completion of the mainline expansion project in 1995.
Year Ended December 31, 1995 vs. Year Ended December 31, 1994
Operating revenues increased $16.7 million, or 7%, due primarily to the reversal of a portion of certain accrued liability reserves of $16.3 million associated with estimated rate refunds, increased transportation rates put into effect in November 1994 and the early in-service of mainline expansion facilities in December 1995, partially offset by the completion in 1994 of billing contract reformation surcharges. The reserve reversals included approximately $8.4 million related to 1993 and $8.7 million related to 1994.
Pipeline's transportation service accounted for 93% and 94% of operating revenues for 1995 and 1994, respectively. Of those amounts, Pipeline's firm transportation service accounted for 99% each year. The remaining 1% represented interruptible transportation service. Additionally, 4% and 5% of operating revenues represented gas storage service for 1995 and 1994, respectively.
-5 - Operating expenses decreased $.8 million due primarily to the absence of amortization of contract reformation costs. This was partially offset by higher operation and maintenance expenses aggregating $2.4 million and increased depreciation of $1.1 million resulting from previous capital additions.
Operating income increased $17.5 million, or nearly 17%, primarily due to the reversal of reserve accruals, increased rates put into effect November 1, 1994, the early in-service of mainline expansion facilities in December and the absence of contract reformation amortization expense, partially offset by higher operation and maintenance expenses and increased depreciation expenses.
Other expenses increased $1.8 million primarily due to a reserve accrual of $6.4 million related to the initial October 1995 judge's order in a non-jury trial involving claims arising from a transportation agreement of a former customer, partially offset by increases of $2.5 million in investing and other income and the reversal of a $1.5 million reserve accrual.
Interest on long-term debt decreased $.5 million, or nearly 2%, due to scheduled debt repayments and certain optional prepayments, partially offset by the issuance of $85 million in new debt during December 1995. Other interest expense decreased $2.2 million, or 34%, primarily due to the absence of deferred carrying costs on contract reformation and the reversal of interest on revenues subject to refund which were previously reserved. The allowance for borrowed funds used during construction increased $2.2 million, reflecting construction of the mainline expansion project that was placed into service December 1, 1995.
In summary, a review by Pipeline of the rehearing requests in the FERC proceedings described above and other issues impacting reserve estimates resulted in a net reversal to income in the third quarter 1995 of a portion of these accruals, including amounts previously accrued for estimated rate refunds, based on management's assessment of the possible outcome of such issues. Reserve additions, including the significant litigation discussed above, amounted to $8.2 million and reserve reversals amounted to $18.6 million for a net increase to income before income taxes of $10.4 million. If the reserves had not been recorded in prior years, income before income taxes would have been higher by $10.2 million for 1994.
FINANCIAL CONDITION AND LIQUIDITY
Capital Expenditures and Financing
Pipeline's expenditures for property, plant and equipment additions amounted to $62.8 million, $130.5 million and $62.6 million for 1996, 1995 and 1994, respectively. Funds necessary to complete capital projects are expected to come from several sources, including Pipeline's operations and available cash. In addition, Pipeline expects to be able to obtain financing, when necessary, on reasonable terms. To allow flexibility in the timing of issuance of long-term securities, financing may be provided on an interim basis with bank debt and from sources discussed below.
Pipeline believes that strong economies in the Pacific Northwest and the growing preference for natural gas in response to environmental concerns support future expansions of its mainline capacity, although no significant expansions are in the development stage at the present time.
Pipeline shares in a $1 billion Revolving Credit Agreement with Williams and four affiliated companies. Pipeline's maximum borrowing availability, subject to prior borrowing by other affiliated companies, is $400 million, none of which was used by Pipeline at December 31, 1996. Interest rates vary with current market conditions. The agreement contains restrictions which limit, under certain circumstances, the issuance of additional debt, the attachment of liens on any assets and any change of ownership of Pipeline. Any borrowings by Pipeline using this agreement are not guaranteed by Williams and are based on Pipeline's financial need and credit worthiness.
Pipeline has also arranged various uncommitted lines-of-credit at market interest rates. These credit facilities are also subject to Pipeline's continued credit worthiness.
OTHER
Pipeline owns and operates an interstate natural gas pipeline system including facilities for mainline transmission and gas storage. Pipeline's transmission and storage activities are subject to regulation by the FERC under the Natural Gas Act and under the NGPA, and, as such, its rates and charges for the
-6 - transportation, the extension, enlargement or abandonment of its jurisdictional facilities, and its accounting, among other things, are subject to regulation.
Pipeline is also subject to the National Environmental Policy Act and other Federal and state legislation regulating the environmental aspects of its business. Management believes that Pipeline is in substantial compliance with existing environmental requirements. Pipeline believes that, with respect to any capital expenditures required to meet applicable standards and regulations, FERC would grant the requisite rate relief so that, for the most part, such expenditures and a return thereon would be permitted to be recovered. Pipeline believes that compliance with applicable environmental requirements is not likely to have a material effect upon Pipeline's earnings or competitive position.
On April 1, 1993, Pipeline began collecting new rates, subject to refund, under the provisions of its rate case filed October 1, 1992. On May 31, 1995, Pipeline received a favorable order from the FERC on this rate case, which among other issues, supported an equity rate of return of 13.2 percent. Pipeline made certain reserve adjustments to reflect the anticipated outcome of the May 31, 1995 order, subject to final action on rehearing before the Commission. In an order on rehearing issued July 19, 1996, FERC required that an ALJ reconsider one element of the rate of return formula, but upheld its May 31, 1995 decision on all other issues. However, on October 22, 1996, the ALJ issued an initial decision on remand giving preference to alternative sources of data in the rate of return formula which would result in an equity rate of return of 11.62 percent. Northwest has taken exception with this decision before the FERC. Since the ALJ decision still needs to be reviewed by the FERC, no further reserve accrual adjustments are being made pending a final resolution of this rate of return issue. The final decision from the FERC is not expected until late Spring 1997.
On November 1, 1994, Pipeline began collecting new rates, subject to refund, under the provisions of its rate case filed April 29, 1994. This filing sought a revenue increase for a projected deficiency caused by increased costs and the impact of a transportation contract terminated subsequent to the rate case filed on October 1, 1992. On November 14, 1995, Pipeline filed an uncontested settlement proposal with the FERC. The settlement resolved substantially all the issues in this rate case except one regarding Pipeline's postage stamp rate design. A hearing was conducted in July 1996; and subsequent to year-end, a decision upholding Pipeline's position was issued by the ALJ. Pipeline is awaiting the FERC's approval of the ALJ's decision. The FERC approved the Settlement in a Letter Order dated February 14, 1996 and no rehearing petitions were filed with respect to that order. During the second quarter of 1996, Pipeline finalized and paid the settlement refunds, the effects of which are reflected in the accompanying financial statements.
On February 1, 1996, Pipeline began collecting new rates, subject to refund, under the provisions of its rate case filed August 1, 1995. On October 18, 1996, the Commission issued an order approving a settlement concerning certain liquid revenue credit issues relating to Pipeline's agreement with an affiliate to have liquid hydrocarbon products extracted from Pipeline's transportation stream at Ignacio, Colorado. The litigation of all remaining issues took place in late 1996 and Pipeline is awaiting the initial decision of the ALJ. Pipeline's rate application seeks a revenue increase for increases in rate base related primarily to the Northwest Natural and Expansion II facilities placed into service December 1, 1995 and increased operating costs primarily associated with an increase in headquarters office rent.
On August 30, 1996, Pipeline filed a general rate case seeking the implementation of new rates that will become effective on March 1, 1997. The application seeks an increase in rates due to a proposed use of a higher depreciation rate which also considers a net negative salvage value for Pipeline's facilities, higher operating costs and a redesign of Pipeline's rates because of impacts relating to the sale of Pipeline's south-end facilities.
See Note 2 of Notes to Financial Statements for fair value of financial instruments.
Effect of Inflation
Pipeline generally has experienced increased costs in recent years due to the effect of inflation on the cost of labor, materials and supplies, and property, plant and equipment. A portion of the increased labor and materials and supplies cost can directly affect income through increased maintenance and operating costs. The cumulative impact of inflation over a number of years has resulted in increased costs for current replacement of productive facilities. The majority of Pipeline's property, plant and equipment and inventory is subject to ratemaking treatment, and under current FERC practices, recovery is limited to historical costs.
While amounts in excess of historical cost are not recoverable under current FERC practices, Pipeline believes it will be allowed to recover and earn a return based on increased actual cost incurred when existing facilities are replaced. Cost-based regulation along with competition and other market factors limit Pipeline's ability to price services or products based upon inflation's effect on costs.
Contingencies
Reference is made to Note 10 of Notes to Financial Statements for information about regulatory and judicial developments which cause operating and financial uncertainties.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
All other schedules have been omitted since the required information is not present or is not present in amounts sufficient to require submission of the schedule or because the information required is included in the financial statements and notes thereto.
REPORT OF INDEPENDENT AUDITORS
The Board of Directors Northwest Pipeline Corporation
We have audited the accompanying balance sheet of Northwest Pipeline Corporation as of December 31, 1996 and 1995, and the related statements of income, cash flows and capitalization for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Northwest Pipeline Corporation at December 31, 1996 and 1995, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles.
ERNST & YOUNG LLP
Tulsa, Oklahoma February 7, 1997
NORTHWEST PIPELINE CORPORATION
STATEMENT OF INCOME
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______________________________________
See accompanying notes.
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BALANCE SHEET
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ASSETS
________________________________________
See accompanying notes.
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BALANCE SHEET
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LIABILITIES AND STOCKHOLDER'S EQUITY
________________________________________ See accompanying notes.
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STATEMENT OF CASH FLOWS ===============================================================================
_________________________________________ See accompanying notes.
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STATEMENT OF CAPITALIZATION
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________________________________________
See accompanying notes.
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NOTES TO FINANCIAL STATEMENTS
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(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Northwest Pipeline Corporation ("Pipeline") is wholly owned by The Williams Companies, Inc. ("Williams").
Pipeline owns and operates a pipeline system for the mainline transmission of natural gas. This system extends from the San Juan Basin in northwestern New Mexico and southwestern Colorado through Colorado, Utah, Wyoming, Idaho, Oregon and Washington to a point on the Canadian border near Sumas, Washington.
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
Property, Plant and Equipment
Property, plant and equipment ("plant"), consisting principally of natural gas transmission facilities, is recorded at original cost. Expenditures which materially increase values or capacities or extend useful lives of plant are capitalized. Routine maintenance, repairs and renewal costs are charged to income as incurred. Gains or losses from the ordinary sale or retirement of plant are charged or credited to accumulated depreciation and amortization ("D&A").
Depreciation is provided by the straight-line method for transmission plant over its useful life. The composite annual D&A rate was 2.18%, 2.19% and 2% for 1996, 1995 and 1994, respectively.
Effective January 1, 1996, Pipeline adopted Statement of Financial Accounting Standards ("FAS") No. 121, "Accounting for Impairment of Long-Lived Assets to be Disposed of." Adoption of the standard had no effect on Pipeline's financial position or results of operations.
Allowance for Borrowed and Equity Funds Used During Construction
Allowance for funds used during construction ("AFUDC") represents the estimated cost of borrowed and equity funds applicable to utility plant in process of construction. Recognition is made of this item as a cost of utility plant because it constitutes an actual cost of construction under established regulatory practices. The Federal Energy Regulatory Commission ("FERC") has prescribed a formula to be used in computing separate allowances for borrowed and equity AFUDC.
The composite rate used to capitalize AFUDC was approximately 11.6% for 1996 and 11.8% for 1995 and 1994. Equity AFUDC of $.7 million, $4.3 million and $1.3 million for 1996, 1995 and 1994, respectively, is reflected in other income.
Income Taxes
Pipeline is included in Williams' consolidated federal income tax return. Pipeline's Federal income tax provisions are computed as though separate tax returns are filed. Deferred income taxes are computed using the liability method and are provided on all temporary differences between the financial basis and the tax basis of Pipeline's assets and liabilities.
Deferred Charges
Pipeline amortizes deferred charges over varying periods consistent with FERC approved accounting treatment for such deferred items. Unamortized debt expense, debt discount and gains or losses on reacquired long-term debt are amortized by the bonds outstanding method over the related debt repayment periods.
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NOTES TO FINANCIAL STATEMENTS - CONTINUED
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Cash and Cash Equivalents
Cash and cash equivalents include demand and time deposits, certificates of deposit and other marketable securities with a term to maturity of three months or less when acquired.
Exchange Gas Imbalances
In the course of providing transportation services to customers, Pipeline may receive different quantities of gas from shippers than the quantities delivered on behalf of those shippers. These transactions result in imbalances which are typically settled through the receipt or delivery of gas in the future although some may be settled in cash. Customer imbalances to be repaid or recovered in-kind are recorded as exchange gas due from others or due to others in the accompanying balance sheets. Settlement of imbalances requires agreement between the pipelines and shippers as to allocations of volumes to specific transportation contracts and timing of delivery of gas based on operational conditions.
Revenue Recognition
Pipeline recognizes revenues for the transportation of natural gas based upon contractual terms and the related transported volume through month end. Pursuant to FERC regulations, a portion of the revenues being collected may be subject to possible refunds upon final orders in pending cases. Pipeline establishes financial reserves for such contingencies based on the facts and circumstances of the pending case.
Environmental Matters
Pipeline is subject to Federal, state, and local environmental laws and regulations. Environmental expenditures are expensed or capitalized depending on their future economic benefit and potential for rate recovery. Pipeline believes that, with respect to any expenditures required to meet applicable standards and regulations, FERC would grant the requisite rate relief so that, for the most part, such expenditures would be permitted to be recovered. Pipeline believes that compliance with applicable environmental requirements is not likely to have a material effect upon Pipeline's financial position.
Interest Payments
Cash payments for interest were $33.4 million, $27.8 million and $28.9 million, net of $.5 million, $3.1 million and $1 million of interest capitalized in 1996, 1995 and 1994, respectively.
(2) DISCLOSURES ABOUT THE FAIR VALUE OF FINANCIAL INSTRUMENTS
The following disclosure of the estimated fair value of financial instruments is made in accordance with the requirements of FAS No. 107, "Disclosures About Fair Value of Financial Instruments". The estimated fair value amounts have been determined by Pipeline, using available market information and appropriate valuation methodologies. However, considerable judgement is necessarily required in interpreting market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that Pipeline could realize in a current market exchange. The use and complexity of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.
-17 - NORTHWEST PIPELINE CORPORATION NOTES TO FINANCIAL STATEMENTS - CONTINUED
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The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value:
Cash and cash equivalents - The carrying amount of these items are assumed to be indicative of their fair value.
Long-term debt - The fair value of Pipeline's publicly traded long-term debt is valued using year-end traded market prices. Private debt is valued based on the prices of similar securities with similar terms and credit ratings. Pipeline used the expertise of an outside investment banking firm to estimate the fair value of long-term debt.
The carrying amount and estimated fair value of Pipeline's long term debt, including current maturities, were $370 million and $386 million, respectively, at December 31, 1996, and $380.8 million and $416.2 million, respectively, at December 31, 1995.
(3) REVENUES ATTRIBUTABLE TO MAJOR CUSTOMERS
During some or all of the periods presented, more than 10% of Pipeline's operating revenues were generated from each of the following customers who are large distribution companies.
Pipeline's major customers are located in the Pacific Northwest. As a general policy, collateral is not required for receivables, but customers' financial condition and credit worthiness are regularly evaluated and historical losses have been minimal. A portion of the revenues reflected above may be subject to refund due to Pipeline's pending rate cases as discussed in Note 10.
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NOTES TO FINANCIAL STATEMENTS - CONTINUED
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(4) INCOME TAXES
Significant components of the deferred tax liabilities and assets are as follows:
The provision (credit) for income taxes includes:
-19 - NORTHWEST PIPELINE CORPORATION
NOTES TO FINANCIAL STATEMENTS - CONTINUED
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A reconciliation of the statutory Federal income tax rate to the provision for income taxes on continuing operations is as follows:
Net cash payments made to Williams for income taxes were $25.2 million, $27 million and $22.7 million in 1996, 1995 and 1994, respectively.
(5) RETAINED EARNINGS
Noncash Dividends
On January 31, 1994, Pipeline transferred certain telecommunication and measurement assets, net of associated deferred income tax liabilities, to Williams by dividend. These assets had a net book value of $.9 million.
On September 30, 1994, Pipeline transferred certain gas transmission assets located in Oklahoma, net of associated deferred income tax liabilities, to Williams by dividend. These assets had a net book value of $.7 million.
On May 1, 1995, Pipeline transferred an aircraft, net of associated deferred income tax liabilities, to Williams by dividend. This asset, which is not included in the accompanying balance sheet as of December 31, 1995, had a net book value of $5.5 million.
On December 31, 1995, Pipeline transferred the Green River Area Office, net of associated deferred income tax liabilities, to Williams by dividend. This asset, which is not included in the accompanying balance sheet as of December 31, 1995, had a net book value of $1.3 million.
On December 31, 1996, Pipeline transferred certain telecommunication and gas transmission assets, net of associated deferred income tax liabilities, to Williams by dividend. These assets, which are not included in the accompanying balance sheet as of December 31, 1996, had a net book value of $.5 million.
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NOTES TO FINANCIAL STATEMENTS - CONTINUED
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Restrictions
Pipeline's debt indentures contain provisions limiting common stock dividends. Under the most restrictive provisions, the amount of Pipeline's retained earnings available for dividends on its common stock as of December 31, 1996, was approximately $164.5 million.
(6) LONG-TERM DEBT, LEASES AND BANKING ARRANGEMENTS
Debt Covenants
The terms of Pipeline's debt indentures preclude the issuance of mortgage bonds. The indentures contain provisions for the acceleration of repayment or the reset of interest rates under certain conditions. Pipeline's debt indentures also contain restrictions which, under certain circumstances, limit the issuance of additional debt, restrict the payment of cash dividends and restrict the disposal of a major portion of its natural gas pipeline system.
Long-Term Debt
On May 31, 1995, Pipeline called $1.9 million of its outstanding 9.25% Series C Debentures, due 2006 under terms of the optional prepayment provisions in the debenture agreement. No early redemption premium was required. The prepayment was in addition to the scheduled May 31, 1995 sinking fund payment of $1.9 million for the 9.25% Series C.
On September 14, 1995, Pipeline filed a registration statement for issuance of up to $150 million in public debt securities; and on November 30, 1995, $85 million was marketed and priced, with an interest rate of 7.125%. On December 5, 1995, Pipeline received net proceeds of approximately $83.9 million. The terms of the offering include a 30-year no-call life, maturing December 1, 2025, and no sinking fund requirement.
On May 31, 1996, Pipeline called $1.9 million of its outstanding 9.25% Series C Debentures, due 2006, under terms of the optional prepayment provisions in the debenture agreement. The prepayment was in addition to the scheduled May 31, 1996 sinking fund payments of $5 million for the 9% Series B and $1.9 million for the 9.25% Series C.
Adjustable Interest Rate Notes
The interest rate on these notes will be adjusted periodically, but will never exceed 25% or be less than 9% per annum. The interest rate at December 31, 1996 was 9%.
Sinking Fund Requirements and Maturities
As of December 31, 1996, cumulative sinking fund requirements and other maturities of long-term debt for each of the next five years are as follows:
-21 - NORTHWEST PIPELINE CORPORATION
NOTES TO FINANCIAL STATEMENTS - CONTINUED
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Line-of-Credit Arrangements
Pipeline shared in a $1 billion Revolving Credit Agreement with Williams and four affiliated companies. Pipeline's maximum borrowing availability, subject to prior borrowing by other affiliated companies, was $400 million, none of which was used by Pipeline at December 31, 1995 or 1996. Interest rates vary with current market conditions. The agreement contains restrictions that limit, under certain circumstances, the issuance of additional debt, the attachment of liens on any assets and any change of ownership of Pipeline. Any borrowings by Pipeline using this agreement are not guaranteed by Williams and are based on Pipeline's financial need and credit worthiness.
Pipeline has also arranged various uncommitted lines-of-credit at market interest rates. These credit facilities are also subject to Pipeline's continued credit worthiness.
Leases
Pipeline's leasing arrangements include mostly premise and equipment leases that are classified as operating leases.
The major operating lease is a leveraged lease which became effective during 1982 for Pipeline's headquarters building. The agreement has an initial term of approximately 27 years, with options for consecutive renewal terms of approximately 9 years and 10 years. The major component of the lease payment is set through the initial and first renewal terms of the lease except for a potential one time adjustment in 1995 to track an allowed interest rate change on a portion of the lessor's debt. Various purchase options exist under the building lease, including options involving adverse regulatory development.
Following are the estimated future minimum yearly rental payments required under operating leases which have initial or remaining noncancelable lease terms in excess of one year:
Operating lease rental expense amounted to $8.1 million, $4.9 million and $4.6 million for 1996, 1995 and 1994, respectively. Capital lease payments for the periods presented are not significant.
-22 - NORTHWEST PIPELINE CORPORATION
NOTES TO FINANCIAL STATEMENTS - CONTINUED
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(7) EMPLOYEE BENEFIT PLANS
Pipeline's employees are covered by Williams' noncontributory defined benefit pension plan. Benefits are based on years of service and average final compensation. Pension costs are funded to satisfy minimum requirements prescribed by the Employee Retirement Income Security Act of 1974. Pipeline accrued pension expense of $2.1 million, $.8 million and $.5 million in 1996, 1995 and 1994, respectively. Such accrued expenses have been or are being funded currently.
Substantially all retirees who were hired prior to January 1, 1992, are provided medical benefits under the Williams' plan. Employees hired after January 1, 1992 will not be provided postretirement medical benefits. During 1996, 1995 and 1994, the expense of providing medical benefits to retirees was approximately $2.5 million, $2.3 million and $2.8 million, respectively.
Williams maintains various defined contribution plans covering substantially all employees. Company contributions are based on employees' compensation and, in part, match employee contributions. All Company contributions are invested in Williams stock. Contributions by Pipeline to these plans totaled $1.5 million, $1.6 million and $1.8 million for the years 1996, 1995 and 1994, respectively.
(8) STOCK-BASED COMPENSATION
Williams has several plans providing for common stock-based awards to its employees and employees of its subsidiaries. The plans permit the granting of various types of awards including, but not limited to, stock options, stock appreciation rights, restricted stock and deferred stock. The purchase price per share for stock options may not be less than the market price of the underlying stock on the date of grant. Stock options generally become exercisable after five years, subject to accelerated vesting if certain future stock prices are achieved. Stock options expire 10 years after grant.
Williams' employee stock-based awards are accounted for under Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees" and related interpretations. Williams' fixed plan common stock options do not result in compensation expense, because the exercise price of the stock options equals the market price of the underlying stock on the date of grant.
FAS No. 123, "Accounting for Stock-Based Compensation," requires that companies who continue to apply APB Opinion No. 25 disclose pro forma net income assuming that the fair-value method in FAS 123 had been applied in measuring compensation cost. Pro forma net income for Pipeline, beginning with 1995 employee stock-based awards was $58.1 million and $58.5 million for 1996 and 1995, respectively. Reported net income was $58.2 million and $59.3 million for 1996 and 1995, respectively. Pro forma amounts for 1995 reflect total compensation expense from the awards made in 1995 as these awards fully vested as a result of the accelerated vesting provisions. Pro forma amounts for 1996 reflect compensation expense that may not be representative of future years amounts because the compensation expense from stock options is recognized over the future years vesting period, and additional awards generally are made each year.
Stock options granted to employees of Pipeline in 1996 were 226,001 shares at a weighted average grant date fair value of $7.84. At December 31, 1996, stock options outstanding and options exercisable for employees of Pipeline were 552,046 shares and 275,301 shares, respectively.
(9) RELATED PARTY TRANSACTIONS
Williams' corporate overhead expenses allocated to Pipeline were $4.8 million, $4 million and $4.6 million for 1996, 1995 and 1994, respectively. Such expenses have been allocated to Pipeline by Williams, primarily based on the Massachusetts formula until April 30, 1995 and the Modified Massachusetts formula thereafter, which are FERC approved methods utilizing a combination of operating revenues or net revenues,
-23 - NORTHWEST PIPELINE CORPORATION
NOTES TO FINANCIAL STATEMENTS - CONTINUED
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gross payroll and gross plant for the allocation base. In addition, Williams or an affiliate has provided executive, data processing, legal, aviation, internal audit and other administrative services to Pipeline on a direct charge basis which amounted to $3.8 million, $3.2 million and $3.4 million for 1996, 1995 and 1994, respectively. In addition, Pipeline received interest income from advances to parent of $1.9 million, $1.1 million, and $1.2 million during 1996, 1995 and 1994, respectively.
During the periods presented, Pipeline's revenues reflect transportation and exchange transactions with subsidiaries of Williams. Combined revenues for these activities totaled $1.3 million, $1.8 million and $3.4 million for 1996, 1995 and 1994, respectively.
Pipeline has entered into various other transactions with certain related parties, the amounts of which were not significant. These transactions and the above described transactions are charged on the basis of commercial relationships and prevailing market prices or general industry practices.
(10) CONTINGENT LIABILITIES AND COMMITMENTS
Contract Reformation
Pursuant to FERC policy, Pipeline filed and received approval to recover a portion of contract reformation costs through direct bills to former sales customers and through surcharges to transportation as well as sales commodity rates. Recovery of these amounts was completed in 1994.
The FERC initially approved a method for Pipeline to direct bill its contract reformation costs, but when challenged on appeal, sought a remand to reassess such method. Pipeline received an order from the FERC that required a different allocation of such costs and rebilled its customers accordingly. This reallocation has had no significant financial impact.
Pending Rate Cases
On April 1, 1993, Pipeline began collecting new rates, subject to refund, under the provisions of its rate case filed October 1, 1992. On May 31, 1995, Pipeline received a favorable order from the FERC on this rate case, which among other issues, supported an equity rate of return of 13.2 percent. Pipeline made certain reserve adjustments to reflect the anticipated outcome of the May 31, 1995 order, subject to final action on rehearing before the Commission. In an order on rehearing issued July 19, 1996, FERC required that an Administrative Law Judge ("ALJ") reconsider one element of the rate of return formula, but upheld its May 31, 1995 decision on all other issues. However, on October 22, 1996, the ALJ issued an initial decision on remand giving preference to alternative sources of data in the rate of return formula which would result in an equity rate of return of 11.62 percent. Northwest has taken exception with this decision before the FERC. Since the ALJ decision still needs to be reviewed by the FERC, no further reserve accrual adjustments are being made pending a final resolution of this rate of return issue. The final decision from the FERC is not expected until late Spring 1997.
On November 1, 1994, Pipeline began collecting new rates, subject to refund, under the provisions of its rate case filed April 29, 1994. This filing sought a revenue increase for a projected deficiency caused by increased costs and the impact of a transportation contract terminated subsequent to the rate case filed on October 1, 1992. On November 14, 1995, Pipeline filed an uncontested settlement proposal with the FERC. The settlement resolved substantially all the issues in this rate case except one regarding Pipeline's postage stamp rate design. A hearing was conducted in July 1996; and subsequent to year-end, a decision upholding Pipeline's position was issued by the ALJ. Pipeline is awaiting the FERC's approval of the ALJ's decision. The FERC approved the Settlement in a Letter Order dated February 14, 1996 and no rehearing petitions were filed with respect to that order. During the second quarter of 1996, Pipeline finalized and paid the settlement refunds, the effects of which are reflected in the accompanying financial statements.
-24 - NORTHWEST PIPELINE CORPORATION
NOTES TO FINANCIAL STATEMENTS - CONTINUED
===============================================================================
On February 1, 1996, Pipeline began collecting new rates, subject to refund, under the provisions of its rate case filed August 1, 1995. On October 18, 1996, the Commission issued an order approving a settlement concerning certain liquid revenue credit issues relating to Pipeline's agreement with an affiliate to have liquid hydrocarbon products extracted from Pipeline's transportation stream at Ignacio, Colorado. The litigation of all remaining issues took place in late 1996 and Pipeline is awaiting the initial decision of the presiding ALJ. Pipeline's rate application seeks a revenue increase for increases in rate base related primarily to the Northwest Natural and Expansion II facilities placed into service December 1, 1995 and increased operating costs primarily associated with an increase in headquarters office rent.
On August 30, 1996, Pipeline filed a general rate case seeking the implementation of new rates that will become effective on March 1, 1997. The application seeks an increase in rates due to a proposed use of a higher depreciation rate which also considers a net negative salvage value for Pipeline's facilities, higher operating costs and a redesign of Pipeline's rates because of impacts relating to the sale of Pipeline's south-end facilities.
Significant Litigation
In October 1995, Pipeline received a judge's order following a non-jury trial involving claims arising from a transportation agreement of a former customer. In the decision, which was amended in January 1996, it was held that Pipeline was liable to the former customer in the amount of $5.3 million, plus interest. Although Pipeline recorded charges to "other expenses" and "other interest charges" in 1995, Pipeline is appealing the decision.
On July 18, 1996, an individual filed a lawsuit in the United States District Court for the District of Columbia against 70 natural gas pipelines and other gas purchasers or former gas purchasers. All of the Williams' natural gas pipeline subsidiaries are named as defendants in the lawsuit. The plaintiff claims, on behalf of the United States under the False Claims Act, that the pipelines have incorrectly measured the heating value or volume of gas purchased by the defendants. The plaintiff claims that the United States has lost royalty payments as a result of these practices. The pipelines intend to vigorously defend against these claims.
Other Legal and Regulatory Matters
On October 21, 1996, Pipeline received an order from the FERC with respect to a one-time catch-up adjustment under the recovery mechanism for gas lost, gained and unaccounted for. The order reaffirmed a previous position that Pipeline is entitled to collect a 3.2 TBtu volume adjustment, but mandated an offset of .8 TBtu for volumes collected in prior years. The dollar exposure of approximately $1.1 million has been reflected in the accompanying financial statements.
In addition to the foregoing, various other proceedings are pending against Pipeline incidental to its operations.
Summary of Contingent Liabilities
Management believes that the ultimate resolution of the foregoing matters, after consideration of amounts accrued, insurance coverage or other indemnification arrangements, will not have a materially adverse effect upon Pipeline's future financial position, results of operations, and future cash flow requirements.
Other Matters
Commitments for construction and acquisition of property, plant and equipment are approximately $13.9 million at December 31, 1996.
-25 - NORTHWEST PIPELINE CORPORATION
QUARTERLY FINANCIAL DATA (UNAUDITED)
The following is a summary of quarterly financial data for 1996 and 1995:
Operating results in the third quarter of 1995 include the reversal of certain reserve accruals, including amounts previously accrued for rate refunds. (See Management's Discussion & Analysis of Financial Condition and Results of Operations and Note 9 of Notes to Financial Statements.)
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
-26 - PART III
Since Pipeline meets the conditions set forth in General Instruction (J)(1)(a) and (b) of Form 10-K, this information is omitted.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(A)1 AND 2. FINANCIAL STATEMENTS AND SCHEDULES (included in Parts II and IV of this report).
The financial statements are listed in the Index to Financial Statements on page 9. No schedules are required to be filed.
(A)3. EXHIBITS:
(2) Plan of acquisition, reorganization, arrangement, liquidation or succession:
*(a) Merger Agreement, dated as of September 20, 1983, between Williams and Northwest Energy Company ("Energy") (Exhibit 18 to Energy schedule 14D-9 (Amendment No. 3) dated September 22, 1983).
*(b) The Plan of Merger, dated as of November 7, 1983, between Energy and a subsidiary of Williams (Exhibit 2(b) to Pipeline report on Form 10-K, No. 1-7414, filed March 22, 1984).
(3) Articles of incorporation and by-laws:
*(a) Restated Certificate of Incorporation (Exhibit 3a to Amendment No. 1 to Registration Statement on Form S-1, No. 2-55-273, filed January 13, 1976).
*(b) By-laws, as amended (Exhibit 3c to Registration Statement on Form S-1, No. 2-55273, filed December 30, 1975).
(4) Instruments defining the rights of security holders, including indentures:
*(a) Note Purchase Agreement, dated as of April 15, 1982, between Pipeline and Teachers Insurance and Annuity Association of America relating to Adjustable Rate Notes, due March 31, 2002 (Exhibit (a)4(e) to Energy Report on Form 10-Q for the quarter ended June 30, 1982, No. 1-7987).
*(b) Debenture Purchase Agreement, dated as of June 6, 1986, between Pipeline and certain institutional investors relating to the 8.75% Series A Debentures, due 1996, 9.0% Series B Debentures, due 2001 and 9.25% Series C Debentures, due 2006 (Exhibit 4(n) to Pipeline Report on Form 10-K, No. 1-7414, filed March 31, 1987.)
*(c) Indenture, dated as of November 15, 1988, between Pipeline and The Chase Manhattan Bank, relating to Pipeline's 10.65% Debentures (Exhibit 4.1 to Amendment No. 1 to Registration Statement on Form S-3, No. 33-25512, filed November 18, 1988).
*(d) Senior Indenture, dated as of August 1, 1992, between Pipeline and Continental Bank, N.A., relating to Pipeline's 9% Debentures, due 2022 (Exhibit 4.1 to Registration Statement on Form S-3, No. 33-49150, filed July 2, 1992).
*(e) Senior Indenture, dated as of November 30, 1995 between Pipeline and Chemical Bank, relating to Pipeline's 7.125% Debentures, due 2025 (Exhibit 4.1 to Registration Statement on Form S-3, No. 33-62639, filed September 14, 1995).
*(f) Amended and Restated Credit Agreement dated as of December 20, 1996, by and among Pipeline, Williams, Texas Gas Transmission Corporation, Transcontinental Gas Pipe Line Corporation, Williams Pipe Line Company, Williams Holdings of Delaware, Inc., and Citibank N.A., as agent, and
-27 - the banks named therein (Exhibit 4(c) to Williams Form 10-K for the year ended 1996, Commission File Number 1-4174).
(10) Material contracts:
(c) *(1) Form of Transfer Agreement, dated July 1, 1991, between Pipeline and Gas Processing (Exhibit 10(c)(8) to Pipeline Report on Form 10-K, No. 1-7414, filed March 26, 1992).
*(2) Form of Operating Agreement, dated July 1, 1991, between Pipeline and Williams Field Services Company (Exhibit 10(c)(9) to Pipeline Report on Form 10-K, No. 1-7414, filed March 26, 1992).
(23) Consent of Independent Auditors
(27) Financial Data Schedule (submitted to the SEC for its information).
(B) REPORTS ON FORM 8-K:
No reports on Form 8-K have been filed by Pipeline during the last quarter of the period covered by this report.
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*Exhibits so marked have heretofore been filed with the Securities and Exchange Commission as part of the filing indicated and are incorporated herein by reference.
-28 - SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
NORTHWEST PIPELINE CORPORATION (Registrant)
By /s/ Brian E. O'Neill ------------------------------------ Brian E. O'Neill, President
Date: March 25, 1997
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the date indicated.
-29 - INDEX TO EXHIBITS