**FORM 10-Q**

 

**SECURITIESAND EXCHANGE COMMISSION**

 

**Washington,D.C. 20549**

 

**QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d)**

**OFTHE SECURITIES EXCHANGE ACT OF 1934**

 

**For the quarterly period ended March 31,2004**

 

**Commission file number: 1-7196**

 

**CASCADENATURAL GAS CORPORATION**

(Exact name of Registrant as specified in itscharter)

 
| **Washington**                                                  |   | **91-0599090**                        |
|-----------------------------------------------------------------|--------|---------------------------------------|
| (State or other jurisdiction of  incorporation or organization) |   | (I.R.S. Employer  Identification No.) |
|                                                            |   |                                  |
| **222 Fairview Avenue North, Seattle, WA**                      |   | **98109**                             |
| (Address of principal executive offices)                        |   | (Zip code)                            |
|                                                            |   |                                  |
| (Registrant’s telephone number including  area code)       |   | **(206) 624-3900**                    |

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Actof 1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days. Yes  ý  No  o

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 23b-2 of theExchange Act).  Yes  ý  No  o

 

Indicate the number of shares outstanding of each of the registrant’sclasses of common stock, as of the latest practicable date.

 

| **Title**                            |   | **Outstanding**                      |
|--------------------------------------|--------|--------------------------------------|
|                                 |   |                                 |
| Common Stock, Par Value $1 per Share |   | 11,219,997 as of April 30, 2004 |

 

 

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**CASCADENATURAL GAS CORPORATION**

 

Index

 
| Part I.   | Financial Information |                                                                                                       |
|-----------|-----------------------|------------------------------------------------------------------------------------------------------------|
|      |                  |                                                                                                       |
|      |                  | Item 1. Financial Statements                                                                               |   |
|      |                  |                                                                                                       |   |
|      |                  |                                                                                                       | Consolidated Condensed Statements of Income |   |
|      |                  |                                                                                                       |   |   |
|      |                  |                                                                                                       | Consolidated Condensed Balance Sheets |   |
|      |                  |                                                                                                       |   |   |
|      |                  |                                                                                                       | Consolidated Condensed Statements of Cash  Flows |   |
|      |                  |                                                                                                       |   |   |
|      |                  |                                                                                                       | Notes to Consolidated Condensed Financial  Statements |   |
|      |                  |                                                                                                       |   |
|      |                  | Item  2.  Management’s Discussion and  Analysis of Financial Condition and Results of Operations |   |
|      |                  |                                                                                                       |   |
|      |                  | Item 3. Quantitative and Qualitative  Disclosures about Market Risk                                        |   |
|      |                  |                                                                                                       |   |
|      |                  | Item 4. Controls and Procedures                                                                            |   |
|      |                  |                                                                                                       |   |
| Part II.  | Other Information     |                                                                                                       |
|      |                  |                                                                                                       |   |
|      |                  |                                                                                                       |   |
|      |                  | Item 2. Changes in Securities                                                                              |   |
|      |                  |                                                                                                       |   |
|      |                  | Item 4. Submission of Matters to a Vote of  Security Holders                                               |   |
|      |                  |                                                                                                       |   |
|      |                  | Item 5. Other Information                                                                                  |   |
|      |                  |                                                                                                       |   |
|      |                  | Item 6. Exhibits and Reports on Form 8-K                                                                   |   |
|      |                  |                                                                                                       |
| Signature |                  |

 

2

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**PART I.  Financial Information**

 

**Item 1.  Financial Statements**

** **

**CASCADENATURAL GAS CORPORATION**

**CONSOLIDATED CONDENSED STATEMENTS OF INCOME**

**(unaudited)**

 
|                                       |          | **THREE  MONTHS ENDED**                |    | **SIX MONTHS  ENDED** |   |
|--------------------------------------------|---------------|----------------------------------------|---------|-----------------------|--------|
|                                       |          | **Mar 31,  2004**                      |    | **Mar 31,  2003**     |   | **Mar 31, 2004** |   | **Mar 31,  2003** |   |
|                                       |          | **(thousands  except per share data)** |    |
|                                       |          |                                   |    |                  |   |   |   |   |   |
| Operating revenues                         |          | $                                      | 119,454 |                  | $      | 109,286 |   | $ | 224,339 |   | $ | 209,782 |   |
|                                       |          |                                   |    |                  |   |   |   |   |   |
| Less:                                      | Gas purchases |                                   | 78,598  |                  | 72,126 |   | 146,123 |   | 136,829 |   |
|                                       | Revenue taxes |                                   | 8,714   |                  | 7,513  |   | 15,381 |   | 13,797 |   |
| Operating margin                           |          | 32,142                                 |    | 29,647                |   | 62,835 |   | 59,156 |   |
|                                       |          |                                   |    |                  |   |   |   |   |   |
| Cost of operations:                        |          |                                   |    |                  |   |   |   |   |   |
| Operating expenses                         |          | 10,807                                 |    | 10,984                |   | 21,085 |   | 22,137 |   |
| Depreciation and amortization              |          | 3,935                                  |    | 3,842                 |   | 7,855 |   | 7,620 |   |
| Property and miscellaneous taxes           |          | 876                                    |    | 923                   |   | 1,807 |   | 1,781 |   |
|                                       |          | 15,618                                 |    | 15,749                |   | 30,747 |   | 31,538 |   |
|                                       |          |                                   |    |                  |   |   |   |   |   |
| Income from operations                     |          | 16,524                                 |    | 13,898                |   | 32,088 |   | 27,618 |   |
| Less interest and other deductions - net   |          | 3,121                                  |    | 3,112                 |   | 6,237 |   | 6,311 |   |
| Income before income taxes                 |          | 13,403                                 |    | 10,786                |   | 25,851 |   | 21,307 |   |
|                                       |          |                                   |    |                  |   |   |   |   |   |
| Income taxes                               |          | 4,892                                  |    | 3,937                 |   | 9,436 |   | 7,777 |   |
| Net Income                                 |          | $                                      | 8,511   |                  | $      | 6,849 |   | $ | 16,415 |   | $ | 13,530 |   |
|                                       |          |                                   |    |                  |   |   |   |   |   |
| Weighted average common shares outstanding |          | 11,196                                 |    | 11,057                |   | 11,177 |   | 11,051 |   |
|                                       |          |                                   |    |                  |   |   |   |   |   |
| Net earnings per common share              |          |                                   |    |                  |   |   |   |   |   |
| Basic                                      |          | $                                      | 0.76    |                  | $      | 0.62 |   | $ | 1.47 |   | $ | 1.22 |   |
| Diluted                                    |          | $                                      | 0.76    |                  | $      | 0.62 |   | $ | 1.47 |   | $ | 1.22 |   |
|                                       |          |                                   |    |                  |   |   |   |   |   |
| Cash dividends per share                   |          | $                                      | 0.24    |                  | $      | 0.24 |   | $ | 0.48 |   | $ | 0.48 |   |

 

Theaccompanying notes are an integral part of these financial statements

 

3

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**CASCADE NATURAL GAS CORPORATION**

**CONSOLIDATED CONDENSED BALANCE SHEETS**

(Dollars in Thousands)

 
|                                                                                                                     |   | **Mar 31,  2004** |    | **Sep 30,  2003** |   |
|--------------------------------------------------------------------------------------------------------------------------|--------|-------------------|---------|-------------------|--------|
|                                                                                                                     |   | **(Unaudited)**   |    |              |   |
| **ASSETS**                                                                                                               |   |              |    |              |   |
| Utility Plant, net of accumulated  depreciation of $235,363 and $227,582                                                 |   | $                 | 312,019 |              | $      | 302,225 |   |
| Construction work in progress                                                                                            |   | 12,348            |    | 10,078            |   |
|                                                                                                                     |   | 324,367           |    | 312,303           |   |
| Other Assets:                                                                                                            |   |              |    |              |   |
| Investments in non-utility property                                                                                      |   | 202               |    | 202               |   |
| Notes receivable, less current maturities                                                                                |   | 50                |    | 52                |   |
|                                                                                                                     |   | 252               |    | 254               |   |
| Current Assets:                                                                                                          |   |              |    |              |   |
| Cash and cash equivalents                                                                                                |   | 11,424            |    | 7,452             |   |
| Accounts receivable and current maturities  of notes receivable, less allowance of $1,028 and $877 for doubtful accounts |   | 36,974            |    | 12,296            |   |
| Materials, supplies and inventories                                                                                      |   | 9,573             |    | 14,737            |   |
| Prepaid expenses and other assets                                                                                        |   | 4,975             |    | 6,144             |   |
| Deferred income taxes                                                                                                    |   | 860               |    | 755               |   |
|                                                                                                                     |   | 63,806            |    | 41,384            |   |
| Deferred Charges                                                                                                         |   |              |    |              |   |
| Gas cost changes                                                                                                         |   | 8,488             |    | 11,584            |   |
| Other                                                                                                                    |   | 5,579             |    | 5,931             |   |
|                                                                                                                     |   | 14,067            |    | 17,515            |   |
|                                                                                                                     |   |              |    |              |   |
|                                                                                                                     |   | $                 | 402,492 |              | $      | 371,456 |   |

 

4

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**CASCADE NATURAL GAS CORPORATION**

**CONSOLIDATED CONDENSED BALANCE SHEETS (Continued)**

(Dollars in Thousands)

 
|                                                                                                                          |   | **Mar 31,  2004** |    | **Sep 30,  2003** |   |
|-------------------------------------------------------------------------------------------------------------------------------|--------|-------------------|---------|-------------------|--------|
|                                                                                                                          |   | **(Unaudited)**   |    |              |   |
| **COMMON SHAREHOLDERS’ EQUITY AND LIABILITIES**                                                                          |   |              |    |              |   |
| Common Shareholders’ Equity:                                                                                             |   |              |    |              |   |
| Common stock, par value $1 per share,  authorized 15,000,000 shares, issued and outstanding 11,210,375 and  11,131,860 shares |   | $                 | 11,210  |              | $      | 11,132 |   |
| Additional paid-in capital                                                                                                    |   | 100,238           |    | 98,877            |   |
| Accumulated other comprehensive income  (loss)                                                                                |   | (13,430           | )       | (13,430           | )      |
| Retained earnings                                                                                                             |   | 27,019            |    | 15,981            |   |
|                                                                                                                          |   | 125,037           |    | 112,560           |   |
|                                                                                                                          |   |              |    |              |   |
| Long-term Debt                                                                                                                |   | 133,930           |    | 142,930           |   |
|                                                                                                                          |   |              |    |              |   |
| Current Liabilities:                                                                                                          |   |              |    |              |   |
| Notes payable and commercial paper                                                                                            |   | —            |    | 3,800             |   |
| Current maturities of long-term debt                                                                                          |   | 31,000            |    | 22,000            |   |
| Accounts payable                                                                                                              |   | 23,012            |    | 10,501            |   |
| Property, payroll and excise taxes                                                                                            |   | 8,644             |    | 5,387             |   |
| Dividends and interest payable                                                                                                |   | 7,911             |    | 7,884             |   |
| Other current liabilities                                                                                                     |   | 9,786             |    | 6,431             |   |
|                                                                                                                          |   | 80,353            |    | 56,003            |   |
|                                                                                                                          |   |              |    |              |   |
| Deferred Credits and Other Liabilities                                                                                        |   | 63,172            |    | 59,963            |   |
|                                                                                                                          |   |              |    |              |   |
| Commitments and Contingencies                                                                                                 |   | —            |    | —            |   |
|                                                                                                                          |   | $                 | 402,492 |              | $      | 371,456 |   |

 

The accompanying notes are an integral part of these financial statements

 

5

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**CASCADE NATURAL GAS CORPORATION**

**CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS**

(Unaudited)

 
|                                                                               |   | **SIX MONTHS  ENDED**       |   |
|------------------------------------------------------------------------------------|--------|-----------------------------|--------|
|                                                                               |   | **(dollars  in thousands)** |   |
|                                                                               |   | **Mar 31,  2004**           |   | **Mar 31,  2003** |   |
| Operating Activities                                                               |   |                        |   |   |   |
| Net income                                                                         |   | $                           | 16,415 |   | $ | 13,530 |   |
| Adjustments to reconcile net income to net  cash provided by operating activities: |   |                        |   |   |   |
| Depreciation and amortization                                                      |   | 7,855                       |   | 7,620 |   |
| Deferrals of gas cost changes                                                      |   | (1,730                      | )      | 3,727 |   |
| Amortization of gas cost changes                                                   |   | 4,825                       |   | 4,035 |   |
| Other deferrals and amortizations                                                  |   | 799                         |   | 2,488 |   |
| Deferred income taxes and tax credits - net                                        |   | 2,629                       |   | 1,850 |   |
| Change in current assets and liabilities                                           |   | 805                         |   | 890 |   |
| Net cash provided by operating activities                                          |   | 31,598                      |   | 34,140 |   |
|                                                                               |   |                        |   |   |   |
| Investing Activities                                                               |   |                        |   |   |   |
| Capital expenditures                                                               |   | (20,206                     | )      | (10,808 | ) |
| Customer contributions in aid of  construction                                     |   | 318                         |   | 30 |   |
| Other                                                                              |   | —                      |   | 7 |   |
| Net cash used by investing activities                                              |   | (19,888                     | )      | (10,771 | ) |
|                                                                               |   |                        |   |   |   |
| Financing Activities                                                               |   |                        |   |   |   |
| Proceeds from issuance of common stock                                             |   | 1,440                       |   | 481 |   |
| Changes in notes payable and commercial  paper, net                                |   | (3,800                      | )      | — |   |
| Dividends paid                                                                     |   | (5,378                      | )      | (5,308 | ) |
| Net cash used by financing activities                                              |   | (7,738                      | )      | (4,827 | ) |
|                                                                               |   |                        |   |   |   |
| Net Increase in Cash and Cash Equivalents                                          |   | 3,972                       |   | 18,542 |   |
|                                                                               |   |                        |   |   |   |
| Cash and Cash Equivalents                                                          |   |                        |   |   |   |
| Beginning of year                                                                  |   | 7,452                       |   | 3,688 |   |
| End of period                                                                      |   | $                           | 11,424 |   | $ | 22,230 |   |

 

Theaccompanying notes are an integral part of these financial statements

 

6

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**CASCADENATURAL GAS CORPORATION**

**                NOTES TO CONSOLIDATED CONDENSED FINANCIALSTATEMENTS**

**THREE-AND SIX-MONTH PERIODS ENDED MARCH 31, 2004**

 

The preceding statements were taken from the books and records of theCompany and reflect all adjustments which are, in the opinion of management,necessary for a fair statement of the results for the interim periods. Alladjustments were of a normal and recurring nature. Because of the highlyseasonal nature of the natural gas distribution business, earnings or loss forany portion of the year are disproportionate in relation to the full year.

 

Reference is directed to the Notes to Consolidated Financial Statementscontained in the 2003 Annual Report on Form 10-K for the fiscal year endedSeptember 30, 2003, and comments included therein under “Management’sDiscussion and Analysis of Financial Condition and Results of Operations”.

 

**Note 1.Reclassifications**

 

Certain reclassificationshave been made in the financial statements for the quarter and year-to-dateperiods ended March 31, 2003 to conform to the classifications used infiscal 2004.

 

**Note 2. NewAccounting Standards**

 

**FASNo. 132 (revised 2003)**

 

                                                InDecember 2003, the Financial Accounting Standards Board (FASB) issued FASNo. 132 (revised 2003), “Employers’ Disclosures about Pensions and OtherPostretirement Benefits.”  This statement requires expanded disclosureswith respect to pension plan assets, benefit obligations, cash flows, benefitcosts and other relevant information.  However, this statement does not changethe measurement and recognition provisions of previous FASB statements relatedto pensions and other postretirement benefits.  The Company was requiredto adopt this statement during the quarter ended March 31, 2004.  Theadoption of this statement did not have any effect on the Company’s financialstatements.  The expanded disclosures required by this statement areincluded in Note 4.

 

**FSP FAS No. 106-1**

** **

In January 2004, the FASB issued *FASB Staff Position (FSP) No. FAS106-1, Accounting and Disclosure Requirements Related to the MedicarePrescription Drug, Improvement and Modernization Act of 2003.* FSPNo. FAS 106-1 provides guidance which permits a sponsor of a postretirementhealth care plan that provides a prescription drug benefit to make a one-timeelection to defer accounting for the effects of the Medicare Prescription Drug,Improvement and Modernization Act of 2003 (the Act). Regardless of whether thesponsor elects the deferral, the FSP requires certain disclosures pendingfurther consideration of the underlying accounting issues. The guidance in thisFSP is effective for quarterly and annual financial statements for fiscal yearsending after December 7, 2003.

 

The Act, signed into lawby President Bush on December 8, 2003, introduces a prescription drugbenefit under Medicare (Medicare Part D) as well as a federal subsidy tosponsors of retiree health care benefit plans that provide a benefit that is atleast actuarially equivalent to Medicare Part D. The Company has not developedestimates of the impact of the Act on its cash flows, accumulatedpostretirement benefit obligation (APBO), or net periodic postretirementbenefit cost. Neither has it determined whether to change its postretirementmedical plan in response to the Act. FAS No. 106 does not provide accountingguidance on the treatment or timing of the federal subsidy. As provided underthe FSP, the Company has elected to defer accounting for the impact of the Actuntil such guidance is provided by the FASB. This election will expire if,subsequent to January 31, 2004, but prior to the issuance of authoritativeguidance, a significant event occurs, such as a plan amendment, settlement, orcurtailment that would ordinarily call for remeasurement of the postretirementmedical plan’s assets and obligations.

 

7

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**FIN 46**

 

In January 2003, the FASB issued Interpretation No. 46,“Consolidation of Variable Interest Entities,” which was revised inDecember 2003 (collectively referred to as FIN 46). Variable interestentities are commonly referred to as special purpose entities or off-balancesheet structures. FIN 46 requires a variable interest entity to be consolidatedby the primary beneficiary of that entity. The primary beneficiary is subjectto a majority of the risk of loss from the variable interest entity’sactivities or it is entitled to receive a majority of the entity’s residualreturns. The Company does not have any variable interest entitiesand adoption of FIN 46 did not have any effect on the Company’s financialstatements.

 

**Note 3. Earnings PerShare**

 

The following table sets forth the calculation of earnings per share asprescribed in Statement of Financial Accounting Standards (FAS) No. 128.

 
|                                                   |   | **Three  Months Ended March 31**     |   | **Six Months  Ended March 31** |   |
|--------------------------------------------------------|--------|-------------------------------------------|--------|-------------------------------------|--------|
|                                                   |   | **2004**                                  |   | **2003**                            |   | **2004** |   | **2003** |   |
|                                                   |   | **(in  thousands except per-share data)** |   |
|                                                   |   |                                      |   |                                |   |   |   |   |   |
| Net income (loss)                                      |   | $                                         | 8,511  |                                | $      | 6,849 |   | $ | 16,415 |   | $ | 13,530 |   |
|                                                   |   |                                      |   |                                |   |   |   |   |   |
| Weighted average shares outstanding                    |   | 11,196                                    |   | 11,057                              |   | 11,177 |   | 11,051 |   |
| Basic earnings per share                               |   | $                                         | 0.76   |                                | $      | 0.62 |   | $ | 1.47 |   | $ | 1.22 |   |
|                                                   |   |                                      |   |                                |   |   |   |   |   |
| Weighted average shares outstanding                    |   | 11,196                                    |   | 11,057                              |   | 11,177 |   | 11,051 |   |
| Plus: Issued on assumed exercise of stock options      |   | 18                                        |   | 19                                  |   | 14 |   | 18 |   |
| Weighted average shares outstanding assuming  dilution |   | 11,214                                    |   | 11,076                              |   | 11,191 |   | 11,069 |   |
|                                                   |   |                                      |   |                                |   |   |   |   |   |
| Diluted earnings per share                             |   | $                                         | 0.76   |                                | $      | 0.62 |   | $ | 1.47 |   | $ | 1.22 |   |

 

8

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**Note 4. RetirementPlan Information**

 

The following table sets forth the components of net periodic benefitcosts recognized in the three-and six-month periods ended March 31, 2004and 2003.

 

**Net Periodic Benefits Cost**

 
|                                                |   | **Three  Months Ended**     |   | **Six Months  Ended** |   |
|-----------------------------------------------------|--------|-----------------------------|--------|-----------------------|--------|
|                                                |   | **Mar 31,  2004**           |   | **Mar, 31,  2003**    |   | **Mar 31,  2004** |   | **Mar, 31,  2003** |   |
|                                                |   | **(Thousands  of Dollars)** |   |
| **DEFINED BENEFIT  PENSION PLANS**                  |   |                        |   |                  |   |   |   |   |   |
| Service cost                                        |   | $                           | 192    |                  | $      | 439 |   | $ | 384 |   | $ | 877 |   |
| Interest cost                                       |   | 932                         |   | 943                   |   | 1,864 |   | 1,887 |   |
| Expected return on plan assets                      |   | (978                        | )      | (922                  | )      | (1,956 | ) | (1,843 | ) |
| Amortization of unrecognized transition  obligation |   | —                      |   | 25                    |   | — |   | 50 |   |
| Recognized gains or losses                          |   | 349                         |   | 280                   |   | 699 |   | 561 |   |
| Prior service cost                                  |   | 57                          |   | 114                   |   | 114 |   | 227 |   |
| Net Periodic Benefit Cost Recognized                |   | $                           | 552    |                  | $      | 879 |   | $ | 1,105 |   | $ | 1,759 |   |
|                                                |   |                        |   |                  |   |   |   |   |   |
| **POSTRETIREMENT  BENEFITS OTHER THAN PENSIONS**    |   |                        |   |                  |   |   |   |   |   |
| Service cost                                        |   | $                           | 46     |                  | $      | 148 |   | $ | 92 |   | $ | 296 |   |
| Interest cost                                       |   | 365                         |   | 593                   |   | 731 |   | 1,186 |   |
| Expected return on plan assets                      |   | (203                        | )      | (181                  | )      | (406 | ) | (362 | ) |
| Amortization of unrecognized transition  obligation |   | 164                         |   | 164                   |   | 328 |   | 328 |   |
| Recognized gains or losses                          |   | 322                         |   | 285                   |   | 644 |   | 570 |   |
| Prior service cost                                  |   | (337                        | )      | (18                   | )      | (675 | ) | (36 | ) |
| Net Periodic Benefit Cost Recognized                |   | $                           | 357    |                  | $      | 991 |   | $ | 714 |   | $ | 1,982 |   |
|                                                |   |                        |   |                  |   |   |   |   |   |
| **DEFINED  CONTRIBUTION PENSION PLAN**              |   |                        |   |                  |   |   |   |   |   |
| Net Periodic Benefit Cost Recognized                |   | $                           | 245    |                  | $      | — |   | $ | 487 |   | $ | — |   |

 

**Retirement Plan Changes**

** **

The comparability of theamounts in the above table is affected by changes in the Company’s retirementplans for non-bargaining unit employees announced in the third quarter offiscal 2003 as part of a comprehensive review of its employee benefit plans.

 

Effective October 1, 2003, no additional benefits accrue under thedefined benefit pension plans for the affected employees. Subsequent benefitsare in the form of contributions to the existing 401(k) Plan. In addition tothe existing match for employee contributions the Company contributes 4% ofeligible salaries, and a 1% to 4% transition contribution, to employeeretirement accounts. Additionally there will be annually determined “profit-sharing”contributions based on the Company achieving established targets.

 

The Company’s health care plan provides Postretirement Benefits Otherthan Pensions (PBOP), consisting of medical and prescription drug benefits, toits retired employees hired prior to June 1, 1992, and their eligibledependents. Changes to this plan, announced in 2003, provide for the additionof participant contributions which began January 1, 2004.

 

**Retirement Plan Funding**

** **

The Company previouslydisclosed in its Quarterly Report on Form 10-Q for the quarter endedDecember 31, 2003, that it expected to contribute $3,500,000 to itsdefined benefit pension plans in fiscal 2004. As of March 31, 2004,$1,350,000 of contributions have been made. The Company presently

 

9

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anticipates contributing an additional $2,150,000 to fund its pensionplans for a total of $3,500,000 in fiscal 2004.

 

 

**Note 5. Stock-BasedCompensation**

 

The Company accounts forits stock-based compensation using the intrinsic value method prescribed inAccounting Principles Board Opinion No. 25, “Accounting for Stock Issued toEmployees” rather than using the fair-value-based method prescribed under FASNo. 123, “Accounting for Stock-Based Compensation”. Compensation cost for stockoptions is measured as the excess of the market price of the Company’s stock atthe date of the grant over the price the employee must pay to acquire thestock. The Company has adopted the disclosure requirements of FAS No. 123. Hadcompensation expense been determined in accordance with FAS 123, the Company’snet income would have been as follows:

 
|                                                                                                                          |   | **Three  Months Ended March 31**     |   | **Six Months  Ended March 31** |   |
|-------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------------------------|--------|-------------------------------------|--------|
|                                                                                                                          |   | **2004**                                  |   | **2003**                            |   | **2004** |   | **2003** |   |
|                                                                                                                          |   | **(in  thousands except per-share data)** |   |
|                                                                                                                          |   |                                      |   |                                |   |   |   |   |   |
| **Amounts as  reported, reflecting stock-based employee compensation cost determined under  APB No. 25:**                     |   |                                      |   |                                |   |   |   |   |   |
| Stock-based employee compensation cost, net  of tax effect                                                                    |   | $                                         | — |                                | $      | — |   | $ | — |   | $ | — |   |
| Net income (loss)                                                                                                             |   | $                                         | 8,511  |                                | $      | 6,849 |   | $ | 16,415 |   | $ | 13,530 |   |
| Basic earnings (loss) per share                                                                                               |   | $                                         | 0.76   |                                | $      | 0.62 |   | $ | 1.47 |   | $ | 1.22 |   |
| Diluted earnings (loss) per share                                                                                             |   | $                                         | 0.76   |                                | $      | 0.62 |   | $ | 1.47 |   | $ | 1.22 |   |
| **Proforma amounts,  reflecting stock-based employee compensation cost as if determined under fair  value (FAS 123) method:** |   |                                      |   |                                |   |   |   |   |   |   |   |   |   |
| Stock-based employee compensation cost, net  of tax effect                                                                    |   | $                                         | 13     |                                | $      | 27 |   | $ | 26 |   | $ | 55 |   |
| Net income (loss)                                                                                                             |   | $                                         | 8,498  |                                | $      | 6,822 |   | $ | 16,389 |   | $ | 13,475 |   |
| Basic earnings (loss) per share                                                                                               |   | $                                         | 0.76   |                                | $      | 0.62 |   | $ | 1.47 |   | $ | 1.22 |   |
| Diluted earnings (loss) per share                                                                                             |   | $                                         | 0.76   |                                | $      | 0.62 |   | $ | 1.46 |   | $ | 1.22 |   |

 

**Note 6. Commitmentsand Contingencies**

 

**EnvironmentalMatters**

 

There are two claims against the Company for as yet unknown costs forcleanup of alleged environmental contamination related to manufactured gas plantsites that were previously operated by companies which were subsequently mergedinto Cascade.

 

The first claim was received in 1995 and relates to a site in Oregon.An investigation has shown that contamination does exist, but there iscurrently not enough information available to estimate the potential liabilityassociated with this claim. It is expected that other parties will participatein the cleanup costs. Through the end of the fiscal year the amounts spent,primarily on investigation and containment, have been immaterial.

 

The second claim was received in 1997 and relates to a site inWashington. An investigation has determined there is evidence of contaminationat the site, but there is also evidence of an oil line crossing the property,operated by an unrelated party, which may have also contributed to thecontamination. There is currently not enough information available to estimatethe potential liability associated with this claim. The party who originallymade this claim has not been actively pursuing it.

 

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Management intends to pursue reimbursement from its insurance carriers,and recovery from its customers through increased rates, for any remediationcosts for which the Company is determined to be liable. There is precedent forsuch recovery through increased rates, as both the Washington Utilities andTransportation Commission (WUTC) and the Oregon Public Utilities Commission(OPUC) have previously allowed regulated utilities to increase customer ratesto recover similar costs. No claims now pending, in the opinion of management,are expected to have a material effect on the Company’s financial position,results of operations, or liquidity.

 

**Litigationand Other Contingencies**

 

Various lawsuits, claims, and contingent liabilities may arise fromtime to time from the conduct of the Company’s business.

 

In the fourth quarter of fiscal 2002 a fatal accident occurredinvolving facilities owned by the Company, located on the property of one of theCompany’s commercial customers. In fiscal 2003 a settlement of all plaintiffs’claims was agreed to in consideration of a $750,000 payment. The Companyand  the property owner have each paid$375,000 and have agreed to resolve the allocation of the total settlementpayment between them in future negotiations or proceedings.

 

No other claims now pending, in the opinion of management, are expectedto have a material effect on the Company’s financial position, results ofoperations, or liquidity.

 

**Item 2.  Management’s Discussion and Analysis of Financial Condition andResults of Operations**

 

The following ismanagement’s assessment of the Company’s financial condition and a discussionof the principal factors that affected consolidated results of operations andcash flows for the three- and six-month periods ended March 31, 2004 andMarch 31, 2003.

 

**OVERVIEW**

 

The Company is a localdistribution company (LDC) serving approximately 218,000 customers in theStates of Washington and Oregon. Its service area consists primarily ofrelatively small cities and rural communities rather than larger urban areas.The Company’s primary source of revenue and operating margin is thedistribution of natural gas to end-use residential, commercial, industrial, andinstitutional customers. Revenues are also derived from providing gasmanagement services to some of its large industrial and commercial customers.The Company’s rates and practices are regulated by the WUTC and the OPUC.

 

Key elements of the Company’s strategy include:

 

•                  Remain focusedon the natural gas distribution business.

•                  Achieve earningsgrowth through expansion of its customer base and operating efficiencies ratherthan seek rate increases to recover increased costs.

 

**Opportunitiesand Challenges**

 

The Company operates in adiverse service territory over a wide geographic area. The economies of variousparts of the service area are supported by a variety of industries, and areaffected by the conditions that impact those industries. This balance cansomewhat shield the Company from economic downturns in a given part of itsservice area.

 

The Company earns morethan one third of its operating margin from industrial customers. Loss of amajor industrial customer, or unfavorable conditions affecting an industry segment,could have a significant detrimental impact on the Company’s earnings.

 

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Management believes there are growth opportunities in the Company’sservice area.   Factors contributing tothese opportunities include low market penetration in many of the towns served,and general population growth in the service area, including some areas ofrapid growth.

 

**RESULTS OF OPERATIONS**

 

Net income for the second quarter of fiscal 2004 (quarter endedMarch 31, 2004) was $8,511,000, or $0.76 per share, basic and diluted,compared to $6,849,000, or $0.62 per share, basic and diluted, for the quarterended March 31, 2003, representing a 23% improvement in per shareearnings. Primary factors influencing the quarterly comparisons were:

 

•                  Higher operatingmargins from residential and commercial customers.

•                  Increasedmargins from providing gas management services, though this increase stems froma charge recorded in the second quarter last year.

•                  Cost controls.

 

These improvements werepartially offset by declines in margin from electric generation customers.

 

On a year-to-date basis, basic and diluted earnings per share improved20%, to $1.47 from $1.22, on net income of $16,415,000, compared to$13,530,000. The year-to-date comparisons were influenced by similar factors tothe second quarter comparisons.

 

**OperatingMargin**

 

Operating margins by customer category for the second quarter andyear-to-date periods of fiscal years 2004 and 2003 are set forth in thefollowing tables:

 

**Residential and Commercial Margin**

 
|                                   |   | **Three  Months Ended March 31** |     | **Percent  Change** |     | **Six Months  Ended March 31** |   | **Percent  Change** |   |
|----------------------------------------|--------|---------------------------------------|----------|---------------------|----------|-------------------------------------|--------|---------------------|--------|
| **2004**                               |   | **2003**                              | **2004** |                | **2003** |
|                                   |   | **(dollars in  thousands)**           |     |                |     | **(dollars in  thousands)**         |   |                |   |
| **Degree Days**                        |   |                                  |     |                |     |                                |   |                |   |   |   |   |   |
| Actual                                 |   | 2,249                                 |     | 2,049               |     | 9.8                                 | %      | 4,355               |   | 4,076 |   | 6.8 | % |
| 5-Year Average                         |   | 2,275                                 |     | 2,272               |     |                                |   | 4,319               |   | 4,314 |   |   |   |
| **Average Number of Customers Billed** |   |                                  |     |                |     |                                |   |                |   |   |   |   |   |
| Residential                            |   | 187,042                               |     | 178,586             |     | 4.7                                 | %      | 184,730             |   | 176,880 |   | 4.4 | % |
| Commercial                             |   | 29,665                                |     | 29,107              |     | 1.9                                 | %      | 29,398              |   | 28,864 |   | 1.9 | % |
| **Average Therm Usage per Customer**   |   |                                  |     |                |     |                                |   |                |   |   |   |   |   |
| Residential                            |   | 286                                   |     | 267                 |     | 7.1                                 | %      | 558                 |   | 525 |   | 6.3 | % |
| Commercial                             |   | 1,434                                 |     | 1,280               |     | 12.0                                | %      | 2,688               |   | 2,489 |   | 8.0 | % |
| **Operating Margin**                   |   |                                  |     |                |     |                                |   |                |   |   |   |   |   |
| Residential                            |   | $                                     | 15,178   |                | $        | 13,548                              |   | 12.0                | %      | $ | 29,234 |   | $ | 26,540 |   | 10.2 | % |
| Commercial                             |   | $                                     | 8,650    |                | $        | 7,601                               |   | 13.8                | %      | $ | 16,187 |   | $ | 14,875 |   | 8.8 | % |

 

Residential and commercial operating margin increased $2,679,000.Approximately $1.7 million of the improvement was due to higher per-customerconsumption attributable, in large part, to temperatures 9.8% colder than lastyear. The addition of 9,014 more residential and commercial customers, a 4.3%growth rate, added another $907,000. Second quarter last year was unusuallywarm. This year, stretches of warm weather were offset by an Arctic outbreak inJanuary, so that degree days for the three months were relatively close to theaverage experienced over the prior five years. The primary use of gas byresidential customers is for space heating and water heating, therefore averageconsumption per customer is very sensitive to weather, particularly during theCompany’s first and second fiscal quarters. Consumption by commercial customersis also sensitive to weather, but to a lesser extent than residential customersbecause of a variety of uses in addition to space and water heating. Thecombined growth rate for residential and commercial customers was 4.3%, morethan two times the average for natural gas distribution companies.

 

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Of the $4,006,000 increase in year-to-date residential and commercialmargins, approximately $2,320,000 resulted from higher per-customerconsumption, and the remainder primarily from the addition of new customers.

 

**Industrial and Other Margin**

 
|                               |   | **Three  Months Ended March 31** |     | **Percent  Change** |     | **Six Months  Ended March 31** |   | **Percent  Change** |   |
|------------------------------------|--------|---------------------------------------|----------|---------------------|----------|-------------------------------------|--------|---------------------|--------|
| **2004**                           |   | **2003**                              | **2004** |                | **2003** |
|                               |   | **(dollars  in thousands)**           |     |                |     | **(dollars  in thousands)**         |   |                |   |   |
| **Average Number of  Customers**   |   |                                  |     |                |     |                                |   |                |   |   |   |   |   |
| Electric Generation                |   | 14                                    |     | 14                  |     | 0.0                                 | %      | 14                  |   | 14 |   | 0.0 | % |
| Industrial                         |   | 740                                   |     | 739                 |     | 0.1                                 | %      | 743                 |   | 740 |   | 0.4 | % |
|                               |   |                                  |     |                |     |                                |   |                |   |   |   |   |   |
| **Therms Delivered  (thousands)**  |   |                                  |     |                |     |                                |   |                |   |   |   |   |   |
| Electric Generation                |   | 108,672                               |     | 144,895             |     | -25.0                               | %      | 253,817             |   | 297,108 |   | -14.6 | % |
| Industrial                         |   | 115,221                               |     | 107,130             |     | 7.6                                 | %      | 230,963             |   | 215,286 |   | 7.3 | % |
|                               |   |                                  |     |                |     |                                |   |                |   |   |   |   |   |
| **Operating Margin  ($thousands)** |   |                                  |     |                |     |                                |   |                |   |   |   |   |   |
| Electric Generation                |   | $                                     | 1,895    |                | $        | 2,491                               |   | -23.9               | %      | $ | 4,136 |   | $ | 5,012 |   | -17.5 | % |
| Industrial                         |   | $                                     | 5,678    |                | $        | 5,502                               |   | 3.2                 | %      | $ | 11,119 |   | $ | 10,793 |   | 3.0 | % |
| Gas Management Services            |   | $                                     | 886      |                | $        | 594                                 |   | 49.2                | %      | $ | 2,416 |   | $ | 1,880 |   | 28.5 | % |
| Other                              |   | $                                     | 133      |                | $        | 107                                 |   | 24.3                | %      | $ | 271 |   | $ | 251 |   | 8.0 | % |
|                                    |        |                                       |          |                     |          |                                     |        |                     |        |  |  |  |  |  |  |  |  |  |

 

Margin derived fromelectric generation customers declined $596,000 for the quarter and $876,000year-to-date. The decline can be attributed to the effects of the slow economyand weather conditions on the demand for electricity, as well as on increasedavailability of hydroelectric resources so far this year. Use of gas forelectric generation continues to be difficult to predict. There is currentlyconcern that hydro availability in the Western states this summer may be muchlower than previously expected, and that demand for electricity may be higher,especially in California – both factors that could increase demand for gas-firedgeneration. But the situation remains highly uncertain.

 

The small increase in margin from delivering gas to other industrialcustomers is attributable generally to more gas usage in a number ofindustries, rather than a major customer addition or other single factor. Gasutilization by this customer class has been adversely affected for the past twoyears by the slow economy and high energy prices. Challenges for this sectorcontinue. More customer plants will be closing in coming months. At the sametime, a closed fruit and vegetable processing plant is expected to reopen andanother plant is expected to expand. Demand for forest products, including pulp and paper, another majorNorthwest industry, is increasing. And a weapons incineration plant that has beentesting its furnaces during the past year expects to go into actual operationin July.

 

The $292,000 quarterly, and $536,000 year-to-date increase in marginfrom providing gas management services to a group of industrial customers isdue to a gas contract termination charge of $865,000 recorded in the secondquarter of fiscal 2003. Absent this charge, there was a decrease in gasmanagement margin.  A significantportion of gas management service margins is derived from arranging gassupplies for these customers. As these arrangements expire and new ones enteredinto, margins will fluctuate. The lower margins in 2004 reflect tighter marketconditions and increased competition for gas management services. The lowermargins also result from changes in how the Company provides thoseservices.  The Company no longer reliessolely on physical gas supply contracts to meet the demands of  customers, but now makes greater use offinancial derivatives.  While the costof those instruments narrows the margins available to the Company, they alsoreduce the risks inherent in these transactions, such as the supplierperformance risks that led to the contract termination charges incurred in pastfiscal years.

 

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Gas management marginsfor fiscal 2004 include favorable mark-to-market swap and cap valuations of$69,000 for the second quarter, and $475,000 year-to-date. The value of thesederivative instruments as of March 31, 2004 was $286,000 and is includedunder current assets in prepaid expenses and other assets. The valuation ofthese instruments, which expire in October 2004, are primarily affected byforward natural gas prices and remaining natural gas deliveries subject to theinstruments. Increases in market prices of natural gas cause the value ofthe derivative instrument to increase. Correspondingly, decreases in marketprices of natural gas will cause the value of the derivative to decrease. Theseincreases or decreases in market value may continue to result in volatility inearnings on a quarter-to-quarter basis. Quarterly changes in the value of theinstruments do not change the underlying economics of the transactions. Overthe lives of the derivative arrangements, the effect on earnings is expected tobe $127,000, the amount of premium paid for the cap.

 

**Oregon EarningsSharing.**

 

The following table sets forth the amounts accrued as a charge tooperating margin under the Company’s earnings-sharing arrangement with theOregon Public Utility Commission (OPUC).

 
|                    |   | **Three  Months Ended March 31** |   | **Six Months  Ended March 31** |   |
|-------------------------|--------|---------------------------------------|--------|-------------------------------------|--------|
|                    |   | **2004**                              |   | **2003**                            |   | **2004** |   | **2003** |   |
|                    |   | **(dollars  in thousands)**           |   | **(dollars  in thousands)**         |   |
|                    |   |                                  |   |                                |   |   |   |   |   |
| Oregon Earnings Sharing |   | $                                     | (279   | )                                   | $      | (195 | ) | $ | (529 | ) | $ | (195 | ) |
|                         |        |                                       |        |                                     |        |  |  |  |  |  |  |  |  |

 

Under this arrangement,the Company is authorized to retain all of its earnings up to a threshold rateof return, based on Oregon jurisdictional earnings. If the adjusted Oregonearnings are below the threshold, there is no rate adjustment. If the adjustedearnings are above the threshold, one-third of the earnings exceeding thethreshold will be refunded to customers through future rate reductions. Earlyin the third quarter of fiscal 2004, the OPUC issued an Order that raises theearnings-sharing threshold to an ROE of 13.25% for the current year, replacinga calculation that would have required sharing at approximately 10.5%.

 

**Costof Operations**

 

Compared to the prior year, overall Cost of Operations was  $131,000 lower for the quarter and $791,000lower for the year-to-date period. Within Cost of Operations, notable changesin Operating Expenses included a reduction in employee benefits expenses of$588,000 for the quarter and $1,404,000 year-to-date. These reductions werepartially offset in both periods by increases in labor expense and other categoriesof expense. The benefit expense reductions result from plan changes implementedbeginning in July 2003.

 

**LIQUIDITY AND CAPITALRESOURCES**

 

The seasonal nature of the Company’s business creates short-term cashrequirements to finance customer accounts receivable and constructionexpenditures. To provide working capital for these requirements, the Companyhas a $50,000,000 bank revolving credit commitment. This agreement has anannual 0.16% commitment fee, and a term that expires in November 2004. TheCompany also has a $10,000,000 uncommitted bank credit line. As ofMarch 31, 2004, there was no outstanding debt under these credit lines.The Company has begun discussions with its bank to renew its credit line, andis considering increasing the line. Management considers its relationship withits bank to be excellent, and does not anticipate problems in renewing thecredit line.

 

To provide longer-termfinancing the Company filed an omnibus registration statement in 2001, underthe Securities Act of 1933, which provided the ability to issue up to$150,000,000 of new debt and

 

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equity securities. Of that amount, the Company has $110,000,000 remaining available for issuancesubject to market conditions and other factors.

 

Because of the availability of short-term credit and the ability toissue long-term debt and additional equity, management believes it has adequatefinancial flexibility to meet its anticipated cash needs, including cashrequirements for investing and financing activities described in the followingparagraphs.

 

**OperatingActivities**

 

Cash provided byoperating activities in fiscal 2004 continues to benefit from Amortization ofGas Cost Changes. This results from a temporary component of customer ratesdesigned to collect un-recovered gas costs incurred primarily during the winterof 2000 – 2001 when wholesale gas prices reached unprecedented high levels, andthe Company did not immediately increase customer rates to recover the highercosts. This temporary rate component is set to expire in November 2004,and as a result, in subsequent periods, cash from operating activities isexpected to decrease by approximately $8 million to $10 million per year. Thereis no impact on operating margin or net income from Amortization of Gas CostChanges.

 

**InvestingActivities**

 

Net capital expendituresfor the six months of $19,888,000 are approximately 85% greater than last year.The increase is primarily attributable to $6,764,000 expended on a project toinstall electronic devices on all the Company’s customer meters to allow forautomated reading of the meters (AMR Project.) The project was begun in 2003,and total expenditures to date are $10,447,000 out of a total estimated projectcost of $16,000,000. Because the Company expects the AMR  project to progress ahead ofschedule for the remainder of the year, expenditures planned for fiscal2005 will likely be incurred in 2004. In addition, the January cold snapproduced record peak demands in some of our areas, disclosing the need foradditional distribution capacity in a few localized parts of our system.  These factors could push full fiscal 2004expenditures closer to $38 million.

 

**FinancingActivities**

 

Other than the payment of dividends, the primary financing activityduring fiscal 2004 was paying off $3,800,000 under the Company’s bank creditline. The Company also received $1,440,000 in proceeds from issuance of commonstock. In the second quarter of fiscal 2003, the Company began issuing new stockto its dividend reinvestment plan, and 401(k) plan, and on exercise of stockoptions. The prior practice was to use funds received to purchase shares ofstock on the open market.

 

Over the next ten months, concluding in January 2005, the Companywill repay $31,000,000 in current maturities of long-term debt, beginning with$22,000,000 in July 2004. The Company expects to fund these repaymentsprimarily through use of its bank credit lines and with cash from operatingactivities.

 

**EFFICIENCYINITIATIVES**

 

The Company currently has two major projects underway to improveoperating efficiency. The first is the AMR project discussed above under“Investing Activities”. Objectives include the reduction of labor costassociated with reading of customer meters and improved accuracy of meterreading. The AMR project, started in the third quarter of last year, isproceeding ahead of schedule. We are already using the new system to read overhalf of our customers’ meters.  When completed,the project will enable us to reduce the number of meter readers fromthirty-two full time employees to three. Many of these experienced employees will be redeployed to expand serviceand construction capabilities, displacing the use of outside contractors. TheAMR project will also allow for more efficient use of service and constructionpersonnel who act as back-up meter-readers, and will eliminate the need to addnew meter readers to keep up with customer growth.

 

The Company has also recently announced that it will be locating acustomer-service call center at its present Bellingham, Washington districtoffice location. This will consolidate under one roof our

 

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customer service function, which is now spread through fifteen localoffices.  The new process will reduceexpenses and will allow for more specialization, increased efficiency, andimproved service quality.  The Companyexpects the center to be fully operational in the spring of 2005.

 

**CRITICAL ACCOUNTINGPOLICIES**

 

The Company’s financial statements areprepared in accordance with accounting principles generally accepted in theUnited States of America (GAAP). In following GAAP, management exercisesjudgment in selection and application of accounting principles. Management considersCritical Accounting Policies to be those where different assumptions regardingapplication could result in material differences in financial statements.

 

**Useof Estimates**

 

Thepreparation of financial statements in conformity with GAAP requires managementto make estimates and assumptions that affect the reported amounts of assetsand liabilities, and disclosure of contingent assets and liabilities, at thedate of the financial statements, and the reported amounts of revenues andexpenses during the reporting period. The Company has used estimates inmeasuring certain deferred charges and deferred credits related to itemssubject to approval of the WUTC and the OPUC. Estimates are also used in thedevelopment of discount rates and trend rates related to the measurement ofretirement benefit obligations and accrual amounts, allowances for doubtfulaccounts, unbilled revenue, valuation of derivative instruments, and in thedetermination of depreciable lives of utility plant. On an ongoing basis,management evaluates the estimates used, based on historical experience,current conditions and on various other assumptions believed to be reasonableunder the circumstances. Actual results may differ from these estimates underdifferent assumptions or conditions.

 

**RevenueRecognition**

 

The Company recognizes operating revenues based on deliveries of gasand other services to customers. This includes estimated revenues for gasdelivered but not billed to residential and commercial customers from thelatest meter reading date to the end of the accounting period.

 

**RegulatoryAccounting**

 

The Company’s accounting policies andpractices are generally the same as used by unregulated companies for financialreporting under GAAP. However, Statement of Financial Accounting Standards(FAS) No. 71, “Accounting for the Effects of Certain Types of Regulation”,requires regulated companies to apply special accounting treatment to reflectthe financial impact of regulation. For example, in establishing the rates tobe charged to the Company’s retail customers, the Washington Utilities andTransportation Commission (WUTC) and the Oregon Public Utility Commission(OPUC) may not allow the Company to charge its customers for recovery ofcertain expenses in the same period they are incurred. Instead, rates areestablished in the future to recover costs that were incurred in a priorperiod. In this situation, FAS No. 71 requires the Company to defer these costsand include them as regulatory assets on the balance sheet. In the subsequent periodwhen these costs are recovered from customers, the Company then amortizes thesecosts as expense in the income statement, in an amount equivalent to theamounts recovered. Similarly, certain revenue items, or cost reductions may bedeferred as regulatory liabilities, which are later amortized to the incomestatement as customer rates are reduced. In order to apply the provisions ofFAS No. 71, the following conditions must apply:

 

•                  Anindependent regulator approves the company’s customer rates.

•                  Therates are designed to recover the company’s costs of providing the regulatedservices or products.

•                  Thereis sufficient demand for the regulated service to reasonably assure that ratescan be set at a level to recover the costs.

 

TheCompany periodically assesses whether conditions merit the continuedapplicability of FAS No. 71. In the event the Company should determine in thefuture that all or a portion of its regulatory assets

 

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and liabilities no longer meet the above criteria, it would be requiredto write off the related balances of its regulatory assets and liabilities, andreflect the write off in its income statement. At March 31, 2004 therewere $11,011,000 of regulatory assets included in Deferred Gas Cost Changes andOther Deferred Charges, and $4,749,000 of regulatory liabilities included inDeferred Credits and Other Liabilities.

 

**PensionPlans**

 

The Company has a definedbenefit pension plan covering substantially all employees over 21 years of agewith one year of service. The Company also provides executive officers withsupplemental retirement, death and disability benefits. These plans wereamended in fiscal 2003, so that subsequent to September 30, 2003, benefitsunder these plans no longer accrue to non-bargaining-unit employees andofficers. The pension plan remains substantially unchanged for bargaining-unitemployees at this time.

 

The Company’s pension costs for these plans are affected by the amountof cash contributions to the plans, the return on plan assets, and by employeedemographics, including age, compensation, and length of service. Actuarialformulas are used in the determination of pension costs and are affected byactual plan experience and assumptions of future experience. Key actuarialassumptions include the expected return on plan assets, the discount rate usedin determining the projected benefit obligation and pension costs, and theassumed rate of increase in employee compensation. Changes in these assumptionsmay significantly affect pension costs. Changes to the provisions of the plansmay also impact current and future pension costs. Changes in pension planobligations resulting from these factors may not be immediately recognized aspension costs, but generally are recognized in future years over the remainingaverage service period of pension plan participants.

 

The Company’s funding policy is to contribute amounts equal to orgreater than the minimum amounts required to be funded under the EmployeeRetirement Income Security Act, and not more than the maximum amounts currentlydeductible for income tax purposes. The Company contributed $4,412,000 in 2002and $4,269,000 in 2003 to the pension and supplemental executive retirementplans, and expects to contribute $3,500,000 in 2004.

 

In selecting a discount rate, the Company uses the average of the 20year and above Aaa, Aa, A, and Baa debt rates published by Moody’s. These arerates considered to be consistent with the expected term of pension benefits.In 2003 the Company reduced the discount rate from 6.75% to 6.25% in connectionwith remeasurement of the pension obligation at May 1, 2003, with a furtherreduction to 6.00% at September 30, 2003. A reduction in the discount rateresults in increases in projected benefit obligation, pension liability, andpension costs.

 

In selecting an assumed long-term rate of return on plan assets, theCompany considers past performance and economic forecasts for the types ofinvestments held by the plan. In 2002 and 2003 the Company’s assumed rate ofreturn on plan assets was 8.25%. A reduction in the assumed rate of returnwould result in increases in pension liability and pension costs.

 

**Derivatives**

 

The Company accounts for derivative transactions according to theprovisions of FAS No. 133, as amended by FAS No. 138 and by**FAS No. 149. Thesestandards require that the fair value of all derivative financial instrumentsbe recognized as either assets or liabilities on the Company’s balance sheetand the recognition of unrealized gains and losses.

 

The Company’s contractsfor purchase and sale of natural gas qualify for the normal purchase and normalsales exception under FAS No. 133 and are not required to be recorded asderivative assets and liabilities.  Accordingly,the Company recognizes revenues and expenses on an accrual basis, based onphysical delivery of natural gas. The company applies mark-to-market accountingto financial derivative contracts. Periodic changes in fair market value arerecognized in earnings. The differences in accounting for purchases and salescontracts versus financial contracts do not change the underlying economics ofthe transactions, but could result in increased quarterly earnings volatility.

 

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**Medicare Prescription Drug, Improvement andModernization Act of 2003**

** **

OnDecember 8, 2003, President Bush signed into law the *Medicare Prescription Drug, Improvementand Modernization Act of 2003* (the Act). The Act introduces aprescription drug benefit under Medicare (Medicare Part D) as well as a federalsubsidy to sponsors of retiree health care benefit plans that provide a benefitthat is at least actuarially equivalent to Medicare Part D. The Company has notdetermined what, if any, impact the Act will have on its cash flows, netperiodic postretirement benefit cost, or accumulated postretirement benefitobligation, and the financial statements in this report do not reflect anyimpact of the Act. Please refer to the information contained under the caption“FSP FAS No. 106-1”, under New Accounting Standards in the Notes to theConsolidated Condensed Financial Statements, contained in Item 1 of thisreport.

 

**NewAccounting Standards:**

 

Information on newaccounting standards is included in the Notes to the ConsolidatedCondensed  Financial Statements,contained in Item 1 of this report.

 

**Item 3. Quantitative and Qualitative Disclosures About Market Risk**

 

Cascade has evaluated its risk related to financial instruments whosevalues are subject to market sensitivity. The Company has fixed-rate debtobligations, but does not have derivative financial instruments subject tointerest rate risk. Cascade makes interest and principal payments on theseobligations in the normal course of its business.

 

The Company’s purchasednatural gas has commodity prices subject to fluctuations resulting fromweather, congestion on interstate pipelines, and other unpredictable factors.The Company’s Purchased Gas Adjustment mechanisms assure the recovery ofprudently incurred wholesale cost of gas purchased for the core market. TheCompany utilizes fixed price contracts and financial derivatives to manage riskassociated with wholesale costs of gas purchased for non-core customers.

 

**Item 4: Controls and Procedures**

 

The Company maintainscontrols and procedures designed to ensure that required disclosure informationin reports the Company files or submits under the Securities Exchange Act of1934, as amended, is recorded, processed, summarized and reported within thetime period specified in the rules and forms of the Securities and ExchangeCommission.  Based upon their evaluationof these controls and procedures, as of the end of the quarter covered by thisreport, the Chief Executive Officer and Chief Financial Officer of the Company concludedthat the Company’s disclosure controls and procedures were effective.

 

The Company made no material changes in its internal control overfinancial reporting during the quarter covered by this report.

 

**FORWARD-LOOKINGSTATEMENTS**

 

Statements contained inthis report that are not historical in nature are forward-looking statementswithin the meaning of the Private Securities Litigation Reform Act of 1995.Forward-looking statements are subject to risks and uncertainties that maycause actual future results to differ materially. Such risks and uncertaintieswith respect to the Company include, among others, its ability to successfullyimplement internal performance goals, competition from alternative forms ofenergy, consolidation in the energy industry, natural gas prices, performanceissues with key natural gas suppliers and upstream pipelines, thecapital-intensive nature of the Company’s business, regulatory issues,including the need for adequate and

 

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timely rate relief torecover increased capital and operating costs resulting from customer growthand to sustain dividend levels, the weather, increasing competition brought onby deregulation initiatives at the federal and state regulatory levels, thepotential loss of large volume industrial customers due to “bypass” or theshift by such customers to special competitive contracts at lower per-unitmargins, exposure to environmental cleanup requirements, and economicconditions, particularly in the Company’s service area.

 

**PART II. Other Information**

 

**Item 2. Changes in Securities and Use of Proceeds**

 

Under the terms of itsbank credit agreement, the Company is required to maintain a minimum tangiblenet worth of $108,126,000 as of March 31, 2004. Under this agreement,approximately $25,027,000 was available for payment of dividends atMarch 31, 2004.

 

**Item 4. Submissionof Matters to a Vote of Security Holders**

** **

At the annual meeting of shareholders on January 28, 2004, thefollowing directors were elected by the vote indicated for terms of officeexpiring in 2005:

 
|               |   | **For**   |   | **Withheld** |   |
|--------------------|--------|-----------|--------|--------------|--------|
|               |   |      |   |         |   |
| Pirkko H. Borland  |   | 8,897,752 |   | 264,569      |   |
| Carl Burnham, Jr.  |   | 8,923,647 |   | 238,674      |   |
| Thomas E. Cronin   |   | 8,905,169 |   | 257,152      |   |
| David A. Ederer    |   | 8,925,118 |   | 237,203      |   |
| W. Brian Matsuyama |   | 8,912,386 |   | 249,935      |   |
| Larry L. Pinnt     |   | 8,976,176 |   | 298,087      |   |
| Mary Pugh (note)   |   | 8,914,045 |   | 248,276      |   |
| Brooks G. Ragen    |   | 8,891,591 |   | 270,730      |   |
| Douglas G. Thomas  |   | 8,913,988 |   | 248,333      |   |

 

In addition, a proposal to approve an increase in the number of sharesof Common Stock available for issuance under the Company’s 2000 Director StockAward Plan by 35,000 shares was approved by a vote of 5,323,991 for, and963,864 against.

 

Note:                   MaryPugh resigned effective April 30, 2004, and Scott M. Boggs was elected bythe Board of Directors to fill that position.

 

**Item 5. Other Information**

 

a)

 

 Ratio of Earnings to FixedCharges:

 
| **Twelve  Months Ended** |   |
|--------------------------|--------|
| **3/31/2004**            |   | **9/30/2003** |   | **9/30/2002** |   | **9/30/2001** |   | **9/30/2000** |   | **9/30/1999** |   |
|                     |   |   |   |   |   |   |   |   |   |   |   |
| 2.40                     |   | 2.06 |   | 2.27 |   | 3.39 |   | 3.12 |   | 3.00 |   |
|                          |        |  |  |  |  |  |  |  |  |  |  |  |

 

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For purposes of this calculation, earnings include income before incometaxes, plus fixed charges. Fixed charges include interest expense and theamortization of debt issuance expenses. Refer to Exhibit 12 for the calculationof these ratios, as well as the ratio of earnings to fixed charges includingpreferred dividends.

 

b) There have been no changes in theCompany’s procedures by which security holders may recommend nominees to theCompany’s Board of Directors.

 

**Item 6. Exhibits and Reports on Form 8-K**

 

a. Exhibits:

 
| **No.** |   | **Description**                                                                                                                   |
|---------|--------|-----------------------------------------------------------------------------------------------------------------------------------|
|    |   |                                                                                                                              |
| 3.2     |   | Amended and Restated Bylaws of the Registrant                                                                                     |
|    |   |                                                                                                                              |
| 12      |   | Computation of Ratio of Earnings to Fixed Charges                                                                                 |
|    |   |                                                                                                                              |
| 31      |   | Certification Accompanying Periodic Report Pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002                        |
|    |   |                                                                                                                              |
| 32      |   | Certification Pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |

 

b. Reports on Form 8-K:

 

On January 30, 2004,the Company filed a Report on Form 8-K to furnish its January 22, 2004release of first quarter fiscal 2004 earnings.

 

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**SIGNATURE**

 

Pursuant to the requirements of the Securities Exchange Act of 1934, theregistrant has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 

 
| **CASCADE NATURAL GAS  CORPORATION** |                            |
|--------------------------------------|---------------------------------|
|                                 |                            |
|                                 |                            |   |
| By:                                  | /s/   J. D.  Wessling |   | . |
|                                 | J. D. Wessling                  |   |   |
|                                 | Chief Financial Officer         |   |   |
|                                 | (Principal Financial Officer)   |   |   |
|                                 |                            |   |   |
|                                 |                            |   |   |
| Date:                                | May 10, 2004                    |   | . |

 

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