UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 8-K
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Date of Report (Date of Earliest Event Reported): August 11, 2003
Commission Registrant; State of Incorporation; IRS Employer
File Number Address; and Telephone Number Identification Number
----------- ----------------------------------- ---------------------
1-13739 UNISOURCE ENERGY CORPORATION 86-0786732
(An Arizona Corporation)
One South Church, Suite 100
Tucson, AZ 85701
(520) 571-4000
1-5924 TUCSON ELECTRIC POWER COMPANY 86-0062700
(An Arizona Corporation)
One South Church, Suite 100
Tucson, AZ 85701
(520) 571-4000
Item 5. Other Events
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CITIZENS ACQUISITION
--------------------
On August 11, 2003, UniSource Energy Corporation (UniSource
Energy) completed the purchase of the Arizona gas and electric
system assets from Citizens Communications Company (Citizens) for
a total of $224 million, comprised of the base purchase price
plus other operating capital adjustments. Additional post-
closing adjustments may be made to the purchase price during a 90-
day period following the closing date. This acquisition adds
approximately 126,000 retail gas customers and 77,500 retail
electric customers in Arizona to UniSource Energy's customer
base.
UniSource Energy formed two new operating companies called
UNS Electric, Inc. (UNS Electric) and UNS Gas, Inc. (UNS Gas) to
acquire these assets, as well as an intermediate holding company
called UniSource Energy Services, Inc. (UES), to hold the common
stock of UNS Electric and UNS Gas. The investment was funded by
$160 million in senior unsecured notes issued in a private
placement by UNS Electric and UNS Gas, $35 million from short-
term bridge financing debt issued by UniSource Energy, and
approximately $49 million in cash from UniSource Energy.
Concurrent with the closing of the acquisition, retail rate
increases for customers of both UNS Electric and UNS Gas went
into effect on August 11, 2003. These rate increases were
approved by the Arizona Corporation Commission (ACC) on July 3,
2003, when it approved the acquisition and the terms of the April
1, 2003 settlement agreement among UniSource Energy, Citizens,
and the ACC Staff.
Below we provide a more detailed description of the
businesses and properties acquired, as well as the terms and
conditions of the acquisition financing. Statistical information
concerning utility operations for periods prior to the completion
of the acquisition is based on information provided by Citizens
in the course of the acquisition. The existing agreements
described below were entered into by Citizens with the parties
identified below. In conjunction with the acquisition of the
Citizens assets, Citizens assigned its rights under such
agreements to, and the obligations of Citizens under such
agreements were assumed by, UNS Gas or UNS Electric, as noted
below.
UNS GAS, INC.
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Service Territory and Customers
UNS Gas is a gas transportation and distribution company
serving approximately 126,000 retail customers in Mohave,
Yavapai, Coconino, and Navajo Counties in northern Arizona, as
well as Santa Cruz County in southeast Arizona. These counties
comprise approximately 50% of the territory of the state of
Arizona, with a population of approximately 610,000 in 2002.
Customer growth in the Citizens' gas utility operations acquired
by UNS Gas was approximately 3.7% in 2002, 6.2% in 2001, and 4.5%
in 2000.
UNS Gas' customer base is primarily residential. Peak
throughput for Citizens' gas utility operations for 2002 occurred
on December 21, 2002 and was 973,920 therms. Approximately 79%
of total revenues in 2002 for the Citizens' gas utility
operations were derived from retail customers. The percentage
breakdown of retail gas sales and revenues by retail customer
class in 2002 for Citizens' gas utility operations was as
follows:
Sales Revenues
------------------------------------------
Residential 63% 67%
Commercial 28% 26%
Industrial 3% 3%
Public Authority 6% 5%
2
Approximately 21% of total revenues in 2002 for the
Citizens' gas utility operations were derived from gas
transportation services. UNS Gas is supplying natural gas
transportation service to the 600 MW Griffith Power Plant located
near Kingman, Arizona, under a 20-year contract which expires in
2021. UNS Gas also supplies natural gas to some of its large
transportation customers, through a Negotiated Sales Program
(NSP) approved by the ACC. One half of the margin earned on
these NSP sales will be retained by UNS Gas, while the other half
will benefit retail customers through a reduction in the gas
commodity pricing.
Gas Supply and Transmission
UNS Gas has a natural gas supply and management agreement
with BP Energy Company (BP). Under the contract, BP manages UNS
Gas' existing supply and transportation contracts and its
incremental requirements. The initial term of the agreement
extends through August 31, 2005. The term of the agreement is
automatically extended one year on an annual basis unless either
party provides 180 days notice of its intent to terminate.
Prices for incremental commodity supplied by BP will vary based
upon the period during which the commodity is delivered. UNS Gas
hedges its gas supply prices by entering into fixed price forward
contracts at various times during the year to provide more stable
prices to its customers. These purchases are made up to a year
in advance with the goal of hedging at least 30% of the expected
monthly gas consumption with fixed prices prior to entering into
the month. Currently, UNS Gas has approximately 45% of its
expected monthly consumption hedged for the 2003/2004 winter
season (November through March).
Most of the gas distributed by UNS Gas in Arizona is
procured from the San Juan Basin in the Four Corners region and
delivered on the El Paso and Transwestern interstate pipeline
systems. UNS Gas has firm transportation agreements with El Paso
Natural Gas (EPNG) and Transwestern Pipeline Company
(Transwestern) with combined capacity sufficient to meet its load
requirements. EPNG provides gas transmission service under a
full requirements contract under which UNS Gas pays a fixed
reservation charge. This contract expires in August 2011. In
July 2003, FERC required the conversion of UNS Gas' full
requirements status under the EPNG agreement to contract demand
starting on September 1, 2003. Upon conversion to contract
demand status, UNS Gas will have specific volume limits in each
month and specific receipt point rights from the available supply
basins (San Juan and Permian). These changes will reduce the
amount of less expensive San Juan gas available to UNS Gas. The
impact, however, is not expected to be material. The annual cost
of the EPNG capacity after conversion to contract demand will not
change. These costs will be the same through 2005 (pending a
2006 EPNG rate case) as under UNS Gas' existing full requirements
contract. The average daily capacity rights of UNS Gas upon
conversion to contract demand will be approximately 870,000
therms per day, with an average of 1,200,000 therms per day in
the winter season (November through March). UNS Gas has capacity
rights of 250,000 therms per day on the San Juan Lateral and
Mainline of the Transwestern pipeline. The Transwestern pipeline
principally delivers gas to the portion of UNS Gas' distribution
system serving customers in Flagstaff and Kingman, Arizona, and
also delivers gas to UNS Gas' facilities serving the Griffith
Power Plant in Mohave County. This contract expires in January
2007. The aggregate annual minimum transportation charges are
expected to be approximately $3.5 million and $3.0 million for
the EPNG and Transwestern contracts, respectively.
Properties
UNS Gas' transmission and distribution system consists of
approximately 168 miles of steel transmission mains, 2,459 miles
of steel and plastic distribution mains, and 127,015 customer
service lines.
Rates and Regulation
UNS Gas is regulated by the ACC with respect to retail gas
rates, the issuance of securities, and transactions with
affiliated parties. UNS Gas' retail gas rates include a monthly
customer charge, a base rate charge for delivery services and the
cost of gas (expressed in cents per therm), and a purchased gas
adjustor (PGA) mechanism.
3
The PGA mechanism is intended to address the volatility of
natural gas prices and allow for the recovery of costs through an
adjustor based upon a twelve-month rolling average gas cost,
determined with a two month lag. The PGA rate may be changed
monthly, without ACC approval, as long as the cumulative charge
over any twelve-month period does not exceed the per therm limit
set by the ACC. A balance sheet account called Unrecovered
Purchased Gas Costs (also referred to as the "PGA bank") is used
for tracking gas costs and recoveries. The PGA bank is increased
by gas purchases and decreased by amounts charged to customers.
When the PGA bank balance exceeds a specified threshold, the
utility is required to file for a PGA rate surcharge or explain
why such a surcharge is unnecessary. The ACC has generally
approved PGA surcharges to allow Arizona gas utilities to recover
their undercollected PGA bank balances within twelve months. In
the event that the PGA bank balance is in an over-recovered
position, the ACC may approve a credit in order to return the
overcollected balance to customers.
The ACC order and settlement agreement include the following
terms related to UNS Gas rates:
- An increase in retail delivery base rates, effective August
11, 2003, equivalent to a 20.9% increase over 2001 test year
retail revenues.
- Fair value rate base of $142 million and allowed rate of
return of 7.49%, based on a cost of capital of 9.05%, derived
from a cost of equity of 11.00% and a cost of debt of 7.75%
(based on a capital structure of 60% debt and 40% equity).
- Change in rate design to include an increase in the monthly
residential customer charge from $5 to $7 and an increase in
the base cost of gas to $0.400 per therm from $0.250 in
northern Arizona and $0.3884 in Santa Cruz County.
- The existing PGA rate change limit of $0.10 per therm over a
twelve-month period is increased to $0.15 through July 2004
and thereafter will revert to $0.10.
UNS Gas will retain the PGA bank balance threshold of $4.45
million that was previously in effect for Citizens. The PGA bank
balance acquired by UNS Gas on August 11, 2003 was approximately
$6.7 million, and is projected to be $7.2 million as of October
1, 2003. The PGA surcharge currently in effect for retail gas
customers of UNS Gas expires on September 30, 2003. On July 25,
2003, UNS Gas filed an application with the ACC requesting a
surcharge of $0.1155 per therm to recover the undercollected PGA
bank balance by October 1, 2004. UNS Gas requested that this
matter be heard at the September 9, 2003 ACC Open Meeting.
Under the terms of the ACC order, UNS Gas may not file a
general rate increase until August 2006 and any resulting rate
increase may not become effective until August 1, 2007.
The settlement agreement also limits dividends payable by
UNS Gas to 75% of earnings until the ratio of common equity to
total capitalization reaches 40%. The ratio of common equity to
total capitalization for UNS Gas currently is 33%.
Employees
As of August 11, 2003, UNS Gas had 188 employees, of which 5
employees in Santa Cruz County are represented by the
International Brotherhood of Electrical Workers (IBEW) Local No.
387. The existing agreement with the IBEW Local No. 387 expires
in February 2005.
UNS ELECTRIC, INC.
------------------
Service Territory and Customers
UNS Electric is an electric transmission and distribution
company serving approximately 77,500 retail customers in Mohave
and Santa Cruz counties. These counties had a population of
approximately 200,000 in 2002. Customer growth of the Citizens'
electric utility operations acquired by UNS Electric was
approximately 2.6% in 2002, 4.4% in 2001, and 3.1% in 2000.
4
UNS Electric's customer base is primarily residential, with
some small commercial and both light and heavy industrial
customers. Peak demand for the Citizens' electric utility
operations for 2002 occurred on July 13, 2002 and was 328 MWs.
The percentage breakdown of kWh sales and electric revenues by
customer class in 2002 was as follows:
kWh sales Revenues
--------------------------------------------------
Residential 48% 50%
Commercial 29% 31%
Industrial 6% 5%
Public Authority 17% 9%
--------------------------------------------------
Total Retail 100% 94%
--------------------------------------------------
Transmission - 5%
--------------------------------------------------
Other - 1%
--------------------------------------------------
Total 100% 100%
Power Supply and Transmission
UNS Electric has a full requirements power supply agreement
with Pinnacle West Capital Corporation (PWCC). The agreement
expires May 31, 2008. The agreement obligates PWCC to supply all
of UNS Electric's power requirements at a fixed price. Payments
under the contract are usage based, with no fixed customer or
demand charges.
UNS Electric imports the power it purchases from PWCC into
its Mohave County and Santa Cruz County service territories over
the Western Area Power Administration's (WAPA) transmission
lines. UNS Electric's transmission capacity agreement with WAPA
expires in February 2008. Under the terms of the agreement, UNS
Electric's aggregate minimum fixed transmission charges are
expected to be approximately $2 million for the last five months
of 2003 and $5.2 million in 2004. UNS Electric also has a long-
term electric transmission capacity agreement with WAPA that
expires in 2011. Under the terms of this contract, the aggregate
minimum transmission payments are $1.3 million per year.
UNS Electric owns and operates the Valencia Power Plant,
located in Nogales, Arizona. The Valencia plant consists of
three diesel-fueled combustion turbine units and provides
approximately 48 MW of peaking resources. The facility is
directly interconnected with the distribution system serving the
city of Nogales and the surrounding areas. Under the PWCC
agreement, Valencia will be dispatched when needed for local
reliability or when it is economic relative to other PWCC
resources.
Properties
UNS Electric's transmission and distribution system consists
of approximately 56 circuit-miles of 115 kilovolts (kV)
transmission lines, 229 circuit-miles of 69 kV transmission
lines, and 3,116 circuit-miles of underground and overhead
distribution lines. UNS Electric also owns 38 substations having
a total installed capacity of 1,077,300 kilovoltamperes and the
48 MW Valencia plant described above.
Rates and Regulation
UNS Electric is regulated by the ACC with respect to retail
electric rates, the issuance of securities, and transactions with
affiliated parties, and by the FERC with respect to wholesale
power contracts and interstate transmission service. UNS
Electric's retail electric rates include a purchase power and
fuel adjustment clause (PPFAC), which allows for adjustment to
the base rate for delivered purchase power through a separate
surcharge or credit.
The ACC order and settlement agreement include the following
terms related to UNS Electric rates:
5
- A 22% increase in retail rates effective August 11, 2003
from the rates previously in effect for Citizens. This
reflects the implementation of a PPFAC surcharge of
$0.01825 per kWh, which combined with the current base
rate of $0.05194 per kWh, results in a new delivered
purchase power price of $0.07019 per kWh, to fully recover
the cost of the current contract with PWCC.
- UniSource Energy must attempt to renegotiate the PWCC
purchase power contract, and any savings that result from
a renegotiated contract must be allocated in a ratio of
90% to ratepayers and 10% to shareholders.
- UniSource Energy and Citizens will forfeit all rights to
recover from ratepayers any of the undercollected PPFAC
balance in the approximate amount of $135 million through
August 11, 2003.
Within 120 days of the ACC order approving the acquisition,
UniSource Energy must file with the ACC a plan to open UNS
Electric's service territories to retail competition by December
31, 2003.
The ACC order also requires that Tucson Electric Power
Company (TEP), an affiliate of UNS Electric, submit in its next
general rate case filing in June 2004, a feasibility study and
consolidation plan, or a plan for coordination of operations of
UNS Electric's operations in Santa Cruz County with those of TEP.
Under the terms of the ACC order, UNS Electric may not file
a general rate increase until August 2006 and any resulting rate
increase may not become effective until August 1, 2007.
The settlement agreement also limits dividends payable by
UNS Electric to 75% of earnings until the ratio of common equity
to total capitalization reaches 40%. The ratio of common equity
to total capitalization for UNS Electric is currently 36%.
Employees
As of August 11, 2003, UNS Electric had 150 employees, of
which 33 employees in Santa Cruz County are represented by the
IBEW Local No. 387 and 53 employees in Mohave County are
represented by the IBEW Local No. 769. The existing agreement
with the IBEW Local No. 387 expires in February 2005 and the
agreement with IBEW Local No. 769 expires in August 2005.
FINANCING ARRANGEMENTS
----------------------
Short-Term Bridge Financing Debt
On August 8, 2003, UniSource Energy borrowed $35 million
from a financial institution in the form of short-term bridge
financing debt to assist in the financing of the acquisition of
the Arizona gas and electric system assets from Citizens. The
funds were used as an equity contribution in the capitalization
of UNS Gas and UNS Electric. The loan is secured with a pledge
of the common stock of UES, UniSource Energy Development Company
and Millennium Energy Holdings. The loan matures in May 2004 and
bears interest at a floating rate of interest of, at the
borrower's option, an alternate base rate plus 3.875%, or LIBOR
plus 4.875%. The loan agreement contains certain restrictive
covenants, including restrictions on additional indebtedness,
liens, mergers, sale of assets, and investments and acquisitions.
The agreement also contains several financial covenants
including: (a) a minimum Consolidated Tangible Net Worth, (b) a
minimum Cash Coverage Ratio (a measure of cash flow to cover
interest expense), and (c) a maximum Leverage Ratio (a measure of
total indebtedness to cash flow). UniSource Energy is required
to prepay the loan with (i) any amounts received as reimbursement
of development costs and development fees upon the financial
close of the transfer of the rights to develop Springerville Unit
3 to Tri-State Generation and Transmission Association or (ii)
the net proceeds of the sale or issuance, in any capital markets
transaction, of any debt or equity securities of UniSource
Energy.
6
Private Placement Notes
On August 11, 2003, UNS Gas and UNS Electric issued a total
of $160 million of aggregate principal amount of senior unsecured
notes in a private placement. Proceeds from the note issuance
were paid to Citizens to purchase the Arizona gas and electric
system assets from Citizens. UNS Gas issued $50 million of 6.23%
Notes due August 11, 2011 and $50 million of 6.23% Notes due
August 11, 2015. UNS Electric issued $60 million of 7.61% Notes
due August 11, 2008. All three series of notes may be prepaid
with a make-whole call premium reflecting a discount rate equal
to an equivalent maturity U.S. Treasury security yield plus 50
basis points. The notes are guaranteed by UES.
The note purchase agreements for both UNS Gas and UNS
Electric contain certain restrictive covenants, including
restrictions on transactions with affiliates, mergers, liens to
secure indebtedness, restricted payments, incurrence of
indebtedness, and minimum net worth. The required minimum net
worth levels for UES, UNS Gas, and UNS Electric are $50 million,
$43 million, and $26 million, respectively. The incurrence of
indebtedness covenant requires each of UNS Gas and UNS Electric
to meet certain tests before an additional dollar of indebtedness
may be incurred. These tests include (a) a ratio of Consolidated
Long-Term Debt to Consolidated Total Capitalization of no greater
that 0.67 to 1.00 prior to September 30, 2004, and no greater
than 0.65 to 1.00 after September 30, 2004, and (b) an Interest
Coverage Ratio (a measure of cash flow to cover interest expense)
of at least 2.50 to 1.00. However, UNS Gas and UNS Electric may,
without meeting these tests, refinance indebtedness and incur
short-term debt in an amount not to exceed $7 million in the case
of UNS Gas, and $5 million in the case of UNS Electric. Neither
UNS Gas, nor UNS Electric, may declare or make distributions or
dividends (restricted payments) on their common stock unless (a)
such restricted payment would not violate applicable law, (b)
immediately after giving effect to such action no default or
event of default would exist under such company's note purchase
agreement and (c) immediately after giving effect to such action,
such company would be permitted to incur an additional dollar of
indebtedness under the debt incurrence test for such company.
Item 7. Financial Statements and Exhibits
-----------------------------------------
Exhibit 99.1 - Term Loan Agreement dated as of August 8, 2003
between UniSource Energy Corporation and Union
Bank of California.
Exhibit 99.2 - Note Purchase and Guaranty Agreement dated August
11, 2003 among UNS Gas, Inc., UniSource Energy
Services, Inc., and certain institutional investors.
Exhibit 99.3 - Note Purchase and Guaranty Agreement dated August
11, 2003 among UNS Electric, Inc., UniSource Energy
Services, Inc., and certain institutional investors.
7
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act
of 1934, each registrant has duly caused this report to be signed
on its behalf by the undersigned thereunto duly authorized. The
signature for each undersigned company shall be deemed to relate
only to matters having reference to such company or its
subsidiaries.
UNISOURCE ENERGY CORPORATION
----------------------------
(Registrant)
Date: August 20, 2003 /s/ Kevin P. Larson
----------------------------
Kevin P. Larson
Vice President and Principal
Financial Officer
TUCSON ELECTRIC POWER COMPANY
-----------------------------
(Registrant)
Date: August 20, 2003 /s/ Kevin P. Larson
-----------------------------
Kevin P. Larson
Vice President and Principal
Financial Officer
8