**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

** **

**FORM 10-Q**

** **

**(Mark One)**

 
| **x**                                                   | ** ** | **Quarterly report  pursuant to Section 13 or 15(d) of the Securities Exchange Act of  1934** |
|---------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------|
| **for the quarterly  period ended March 31, 2008** |
| ** **                                              | ** ** | ** **                                                                                              |
| **or**                                                  |
| ** **                                              | ** ** | ** **                                                                                              |
| **o**                                                   | ** ** | **Transition report pursuant  to Section 13 or 15(d) of the Securities Exchange Act of 1934** |

**for the transition periodfrom                    to                     **

** **

**Commissionfile number   001-14431**

** **

**AmericanStates Water Company**

(Exact Name of Registrant as Specified in Its Charter)

 

| **California**                                                 | ** ** | **95-4676679**                    |
|----------------------------------------------------------------|------------|-----------------------------------|
| (State or Other Jurisdiction of Incorporation or Organization) |       | (IRS Employer Identification No.) |
| ** **                                                     | ** ** | ** **                        |
| **630 E. Foothill Blvd, San Dimas, CA**                        | ** ** | **91773-1212**                    |
| (Address of Principal Executive Offices)                       |       | (Zip Code)                        |

 

**(909) 394-3600**

(Registrant’sTelephone Number, Including Area Code)

 

**Not Applicable**

(FormerName, Former Address and Former Fiscal Year, if Changed Since Last Report)

 

**Commission file number   001-12008**

 

**GoldenState Water Company**

(Exact Name of Registrant asSpecified in Its Charter)

 

| **California**                                                  | ** ** | **95-1243678**                     |
|-----------------------------------------------------------------|------------|------------------------------------|
| (State or  Other Jurisdiction of Incorporation or Organization) |       | (IRS  Employer Identification No.) |
| ** **                                                      | ** ** | ** **                         |
| **630 E. Foothill  Blvd, San Dimas, CA**                        | ** ** | **91773-1212**                     |
| (Address of  Principal Executive Offices)                       |       | (Zip Code)                         |

 

**(909) 394-3600**

(Registrant’s Telephone Number, Including Area Code)

** **

**Not Applicable**

(Former Name, Former Address and Former Fiscal Year, if Changed SinceLast Report)

 

Indicate by check mark whether Registrant (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that Registrant was required to file such reports), and (2) hasbeen subject to such filing requirements for the past 90 days.

 

| American States Water Company |   | Yes x  No o |
|-------------------------------|--------|---------------------------------|
| Golden State Water Company    |   | Yes x  No o |

 

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer, or a smaller reporting company. See definitions of“large accelerated filer,” “accelerated filer,” and “smaller reporting company”in Rule 12b-2 of the Exchange Act. (Check one):

 

**American States Water Company**

 

| Large accelerated filer  o                     |   | Accelerated filer x          |
|------------------------------------------------|--------|-----------------------------------|
|                                           |   |                              |
| Non-accelerated filer o                        |   | Smaller reporting  company o |
| (Do not check if a  smaller reporting company) |   |                              |

 

**Golden State Water Company**

 

| Large accelerated filer  o                     |   | Accelerated filer o          |
|------------------------------------------------|--------|-----------------------------------|
|                                           |   |                              |
| Non-accelerated filer x                        |   | Smaller reporting  company o |
| (Do not check if a smaller  reporting company) |   |                              |

 

Indicate by check mark whether the Registrant is a shellcompany (as defined in Rule 12b-2 of the Exchange Act)

 

| American States Water Company |   | Yes  ̈  No x |
|-------------------------------|--------|--------------------------------------|
| Golden State Water Company    |   | Yes  ̈  No x |

 

Asof May 7, 2008, the number of Common Shares outstanding, of AmericanStates Water Company was 17,245,224 shares.

 

As of May 7, 2008, all of the 122 outstanding CommonShares of Golden State Water Company were owned by American States WaterCompany.

 

 

----

 

**AMERICAN STATES WATER COMPANY**

**and**

**GOLDEN STATE WATER COMPANY**

**FORM 10-Q**

 

### **INDEX**

 
| **Part I**  | **Financial Information**                                                                                                      | ** ** |
|------------------|--------------------------------------------------------------------------------------------------------------------------------|------------|
| ** **       | ** **                                                                                                                     | ** ** |
| Item 1:          | Financial  Statements                                                                                                          | 1          |
|             |                                                                                                                           |       |
|             | Consolidated  Balance Sheets of American States Water Company as of March 31, 2008 and  December 31, 2007            | 2          |
|             |                                                                                                                           |       |
|             | Consolidated  Statements of Income of American States Water Company for the Three Months  Ended March 31, 2008 and 2007   | 4          |
|             |                                                                                                                           |       |
|             | Consolidated Statements of Cash Flow of American  States Water Company for the Three Months Ended March 31, 2008 and 2007 | 5          |
|             |                                                                                                                           |       |
|             | Balance  Sheets of Golden State Water Company as of March 31, 2008 and  December 31, 2007                            | 6          |
|             |                                                                                                                           |       |
|             | Statements of Income of Golden State Water Company for  the Three Months Ended March 31, 2008 and 2007                    | 8          |
|             |                                                                                                                           |       |
|             | Statements  of Cash Flow of Golden State Water Company for the Three Months Ended  March 31, 2008 and 2007                | 9          |
|             |                                                                                                                           |       |
|             | Notes to Consolidated Financial Statements                                                                                     | 10         |
|             |                                                                                                                           |       |
| Item 2:          | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                    | 24         |
|             |                                                                                                                           |       |
| Item 3:          | Quantitative  and Qualitative Disclosures About Market Risk                                                                    | 46         |
|             |                                                                                                                           |       |
| Item 4:          | Controls and  Procedures                                                                                                       | 46         |
|             |                                                                                                                           |       |
| Item 4T:         | Controls and  Procedures                                                                                                       | 46         |
|             |                                                                                                                           |       |
| **Part II** | **Other  Information**                                                                                                         | ** ** |
| ** **       | ** **                                                                                                                     | ** ** |
| Item 1:          | Legal Proceedings                                                                                                              | 47         |
|             |                                                                                                                           |       |
| Item 1A:         | Risk  Factors                                                                                                                  | 47         |
|             |                                                                                                                           |       |
| Item 2:          | Unregistered  Sales of Equity Securities and Use of Proceeds                                                                   | 47         |
|             |                                                                                                                           |       |
| Item 3:          | Defaults  Upon Senior Securities                                                                                               | 47         |
|             |                                                                                                                           |       |
| Item 4:          | Submission  of Matters to a Vote of Security Holders                                                                           | 47         |
|             |                                                                                                                           |       |
| Item 5:          | Other Information                                                                                                              | 47         |
|             |                                                                                                                           |       |
| Item 6:          | Exhibits                                                                                                                       | 48         |
|             |                                                                                                                           |       |
|             | Signatures                                                                                                                     | 49         |

 

----

 

#### **PART I**

####  

**Item 1. Financial Statements**

 

General

 

Thebasic financial statements included herein have been prepared by Registrant,without audit, pursuant to the rules and regulations of the Securities andExchange Commission.

 

Certaininformation and footnote disclosures normally included in financial statements,prepared in accordance with accounting principles generally accepted in theUnited States of America, have been condensed or omitted pursuant to such rules andregulations. In the opinion of management, all adjustments consisting of normalrecurring items and estimates necessary for a fair statement of results for theinterim period have been made.

 

It issuggested that these financial statements be read in conjunction with thefinancial statements and notes thereto in the latest Annual Report on Form 10-Kof American States Water Company and its wholly-owned subsidiary, Golden StateWater Company.

 

FilingFormat

 

AmericanStates Water Company (hereinafter “AWR”) is the parent company of Golden StateWater Company (hereinafter “GSWC”), Chaparral City Water Company (hereinafter “CCWC”)and American States Utility Services, Inc. (hereinafter “ASUS”) and itssubsidiaries.

 

Thisquarterly report on Form 10-Q is a combined report being filed by twoseparate Registrants: AWR and GSWC. For more information, please see Note 1 tothe Notes to Consolidated Financial Statements and the heading entitled Generalin Item 2 - Management’s Discussion and Analysis of Financial Condition and Resultsof Operations. References in this report to “Registrant” are to AWR and GSWCcollectively, unless otherwise specified. GSWC makes no representations as tothe information contained in this report relating to AWR and its subsidiaries,other than GSWC.

 

**Forward-LookingInformation**

 

Certainmatters discussed in this report (including the documents incorporated hereinby reference) are forward-looking statements intended to qualify for the “safeharbor” from liability established by the Private Securities Litigation ReformAct of 1995. These forward-looking statements can generally be identified assuch because the context of the statement will include words such as Registrant“believes,” “anticipates,” “expects” or words of similar import. Similarly, statementsthat describe Registrant’s future plans, objectives, estimates or goals arealso forward-looking statements. Such statements address future events andconditions concerning ability to raise capital, capital expenditures, earnings,litigation, rates, water sales, water quality and other regulatory matters,adequacy of water supplies, the ability of GSWC and CCWC to recover electric,natural gas and water supply costs from ratepayers, contract operations,liquidity and capital resources, and accounting matters. Actual results in eachcase could differ materially from those currently anticipated in suchstatements, by reason of factors such as changes in utility regulation,including ongoing local, state and federal activities; recovery of regulatory assetsnot yet included in rates; future economic conditions, including changes incustomer demand and changes in water and energy supply costs; future climaticconditions; delays in customer payments or price redeterminations on contractsexecuted by ASUS and its subsidiaries; and legislative, legal proceedings,regulatory and other circumstances affecting anticipated revenues and costs.

 

1

----

 

**AMERICANSTATES WATER COMPANY****CONSOLIDATED BALANCE SHEETS****ASSETS****(Unaudited)**

 
| **(in thousands)**                                                                                       | ** ** | **March 31,  2008** | ** ** | **December 31,  2007** | ** ** |
|---------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| **Utility  Plant, at cost**                                                                                   | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Water                                                                                                         |       | $                        | 988,474    |                        | $          | 982,708 |   |
| Electric                                                                                                      |       | 65,288                   |       | 65,078                      |       |
|                                                                                                          |       | 1,053,762                |       | 1,047,786                   |       |
| Less -  Accumulated depreciation                                                                              |       | (324,311                 | )          | (316,038                    | )          |
|                                                                                                          |       | 729,451                  |       | 731,748                     |       |
| Construction  work in progress                                                                                |       | 55,337                   |       | 44,631                      |       |
| Net utility  plant                                                                                            |       | 784,788                  |       | 776,379                     |       |
|                                                                                                          |       |                     |       |                        |       |
| **Other  Property and Investments**                                                                           | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Goodwill                                                                                                      |       | 12,431                   |       | 11,354                      |       |
| Other property  and investments                                                                               |       | 10,878                   |       | 10,245                      |       |
| Total other  property and investments                                                                         |       | 23,309                   |       | 21,599                      |       |
|                                                                                                          |       |                     |       |                        |       |
| **Current  Assets**                                                                                           | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Cash and cash  equivalents                                                                                    |       | 765                      |       | 1,698                       |       |
| Accounts  receivable-customers (less allowance for doubtful accounts of $563 in 2008  and $539 in 2007)       |       | 14,514                   |       | 16,095                      |       |
| Unbilled revenue                                                                                              |       | 17,180                   |       | 16,035                      |       |
| Receivable from  the U.S. government (less allowance for doubtful accounts of $512 in 2008 and  $496 in 2007) |       | 7,296                    |       | 7,556                       |       |
| Other accounts  receivable (less allowance for doubtful accounts of $543 in 2008 and $629 in  2007)           |       | 3,166                    |       | 4,154                       |       |
| Income taxes  receivable                                                                                      |       | 1,042                    |       | 60                          |       |
| Materials and  supplies, at average cost                                                                      |       | 1,638                    |       | 1,576                       |       |
| Regulatory  assets - current                                                                                  |       | 4,553                    |       | 5,187                       |       |
| Prepayments and  other current assets                                                                         |       | 2,232                    |       | 2,765                       |       |
| Unrealized gain  on purchased power contracts                                                                 |       | 1,289                    |       | —                      |       |
| Costs and estimated  earnings in excess of billings on uncompleted contracts                                  |       | 3,240                    |       | 3,842                       |       |
| Deferred income  taxes - current                                                                              |       | 2,925                    |       | 4,047                       |       |
| Total current  assets                                                                                         |       | 59,840                   |       | 63,015                      |       |
|                                                                                                          |       |                     |       |                        |       |
| **Regulatory  and Other Assets**                                                                              | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Regulatory  assets                                                                                            |       | 82,518                   |       | 82,539                      |       |
| Other accounts  receivable                                                                                    |       | 9,842                    |       | 9,723                       |       |
| Costs and  estimated earnings in excess of billings on uncompleted contracts                                  |       | 6,662                    |       | 2,284                       |       |
| Deferred income  taxes                                                                                        |       | 67                       |       | 28                          |       |
| Other                                                                                                         |       | 8,359                    |       | 8,331                       |       |
| Total regulatory  and other assets                                                                            |       | 107,448                  |       | 102,905                     |       |
|                                                                                                          |       |                     |       |                        |       |
| **Total  Assets**                                                                                             |       | $                        | 975,385    |                        | $          | 963,898 |   |

 

*The accompanying notes are an integral part ofthese consolidated financial statements*

 

2

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**AMERICANSTATES WATER COMPANY****CONSOLIDATED BALANCE SHEETS****CAPITALIZATION AND LIABILITIES****(Unaudited)**

 
| **(in thousands)**                                                      | ** ** | **March 31,  2008** | ** ** | **December 31,  2007** | ** ** |
|------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| **Capitalization**                                                           | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Common shares,  no par value, no stated value                                |       | $                        | 182,202    |                        | $          | 181,796 |   |
| Earnings  reinvested in the business                                         |       | 121,307                  |       | 120,333                     |       |
| Total common  shareholders’ equity                                      |       | 303,509                  |       | 302,129                     |       |
| Long-term debt                                                               |       | 267,174                  |       | 267,226                     |       |
| Total  capitalization                                                        |       | 570,683                  |       | 569,355                     |       |
|                                                                         |       |                     |       |                        |       |
| **Current  Liabilities**                                                     | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Notes payable to  banks                                                      |       | 47,600                   |       | 37,200                      |       |
| Long-term debt -  current                                                    |       | 601                      |       | 609                         |       |
| Accounts payable                                                             |       | 27,785                   |       | 29,091                      |       |
| Income taxes  payable                                                        |       | 212                      |       | 398                         |       |
| Accrued employee  expenses                                                   |       | 6,033                    |       | 6,228                       |       |
| Accrued interest                                                             |       | 5,243                    |       | 2,467                       |       |
| Unrealized loss  on purchased power contracts                                |       | —                   |       | 1,554                       |       |
| Regulatory  liabilities - current                                            |       | 231                      |       | 173                         |       |
| Billings in  excess of costs and estimated earnings on uncompleted contracts |       | 3,234                    |       | 2,641                       |       |
| Other                                                                        |       | 12,137                   |       | 13,890                      |       |
| Total current  liabilities                                                   |       | 103,076                  |       | 94,251                      |       |
|                                                                         |       |                     |       |                        |       |
| **Other  Credits**                                                           | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Advances for  construction                                                   |       | 83,952                   |       | 84,479                      |       |
| Contributions in  aid of construction - net                                  |       | 99,057                   |       | 98,657                      |       |
| Deferred income  taxes                                                       |       | 82,294                   |       | 82,480                      |       |
| Unamortized  investment tax credits                                          |       | 2,314                    |       | 2,336                       |       |
| Accrued pension  and other postretirement benefits                           |       | 22,170                   |       | 20,851                      |       |
| Regulatory  liabilities                                                      |       | 529                      |       | 557                         |       |
| Billings in  excess of costs and estimated earnings on uncompleted contracts |       | 2,471                    |       | 2,037                       |       |
| Other                                                                        |       | 8,839                    |       | 8,895                       |       |
| Total other  credits                                                         |       | 301,626                  |       | 300,292                     |       |
|                                                                         |       |                     |       |                        |       |
| **Commitments  and Contingencies (Note 7)**                                  |       | —                   |       | —                      |       |
|                                                                         |       |                     |       |                        |       |
| **Total  Capitalization and Liabilities**                                    |       | $                        | 975,385    |                        | $          | 963,898 |   |

 

*The accompanying notes are an integral part ofthese consolidated financial statements*

 

3

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**AMERICANSTATES WATER COMPANY****CONSOLIDATED STATEMENTS OF INCOME****FOR THE THREE MONTHS****ENDED MARCH 31, 2008 AND 2007****(Unaudited)**

 
| ** **                                                            | ** ** | **Three Months Ended  March 31,** | ** ** |
|-----------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| **(in thousands, except per share amounts)** | ** ** | **2008**                                         | ** ** | **2007** | ** ** |
| **Operating  Revenues**                                               | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Water                                                                 |       | $                                                | 52,089     |   | $ | 50,327 |   |
| Electric                                                              |       | 8,803                                            |       | 8,869 |   |
| Contracted  services                                                  |       | 8,050                                            |       | 13,074 |   |
| Total operating  revenues                                             |       | 68,942                                           |       | 72,270 |   |
|                                                                  |       |                                             |       |   |   |
| **Operating  Expenses**                                               | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Water purchased                                                       |       | 7,953                                            |       | 8,873 |   |
| Power purchased  for pumping                                          |       | 1,680                                            |       | 2,118 |   |
| Groundwater  production assessment                                    |       | 2,375                                            |       | 2,279 |   |
| Power purchased  for resale                                           |       | 4,239                                            |       | 4,281 |   |
| Unrealized gain  on purchased power contracts                         |       | (2,843                                           | )          | (2,710 | ) |
| Supply cost  balancing accounts                                       |       | (107                                             | )          | (720 | ) |
| Other operating  expenses                                             |       | 7,996                                            |       | 6,597 |   |
| Administrative  and general expenses                                  |       | 14,827                                           |       | 13,007 |   |
| Depreciation and  amortization                                        |       | 7,793                                            |       | 7,089 |   |
| Maintenance                                                           |       | 3,772                                            |       | 2,973 |   |
| Property and  other taxes                                             |       | 2,920                                            |       | 2,930 |   |
| Construction  expenses                                                |       | 3,875                                            |       | 9,069 |   |
| Net gain on sale  of property                                         |       | —                                           |       | (367 | ) |
| Total operating  expenses                                             |       | 54,480                                           |       | 55,419 |   |
|                                                                  |       |                                             |       |   |   |
| **Operating  Income**                                                 |       | 14,462                                           |       | 16,851 |   |
|                                                                  |       |                                             |       |   |   |
| **Other  Income and Expenses**                                        | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Interest expense                                                      |       | (5,378                                           | )          | (5,496 | ) |
| Interest income                                                       |       | 361                                              |       | 566 |   |
| Other                                                                 |       | 114                                              |       | 69 |   |
| Total other  income and expenses                                      |       | (4,903                                           | )          | (4,861 | ) |
|                                                                  |       |                                             |       |   |   |
| **Income  from operations before income tax expense**                 |       | 9,559                                            |       | 11,990 |   |
|                                                                  |       |                                             |       |   |   |
| Income tax  expense                                                   |       | 4,255                                            |       | 5,006 |   |
|                                                                  |       |                                             |       |   |   |
| **Net  Income**                                                       |       | $                                                | 5,304      |   | $ | 6,984 |   |
|                                                                  |       |                                             |       |   |   |
| **Weighted  Average Number of Shares Outstanding**                    |       | 17,239                                           |       | 17,055 |   |
| **Basic  Earnings Per Common Share**                                  |       | $                                                | 0.31       |   | $ | 0.40 |   |
|                                                                  |       |                                             |       |   |   |
| **Weighted  Average Number of Diluted Shares**                        |       | 17,357                                           |       | 17,114 |   |
| **Fully  Diluted Earnings Per Share**                                 |       | $                                                | 0.30       |   | $ | 0.40 |   |
|                                                                  |       |                                             |       |   |   |
| **Dividends  Declared Per Common Share**                              |       | $                                                | 0.250      |   | $ | 0.235 |   |

 

*The accompanying notes are an integral part ofthese consolidated financial statements*

 

4

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**AMERICANSTATES WATER COMPANY****CONSOLIDATED STATEMENTS OF CASH FLOW****FOR THE THREE MONTHS ENDED MARCH 31, 2008 AND2007****(Unaudited)**

 
| ** **                                                        | ** ** | **Three Months Ended  March 31,** | ** ** |
|-------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| **(in thousands)**                                           | ** ** | **2008**                                         | ** ** | **2007** | ** ** |
| **Cash  Flows From Operating Activities:**                        | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Net income                                                        |       | $                                                | 5,304      |   | $ | 6,984 |   |
| Adjustments for  non-cash items:                                  |       |                                             |       |   |   |
| Depreciation and  amortization                                    |       | 7,793                                            |       | 7,089 |   |
| Provision for  doubtful accounts                                  |       | 212                                              |       | 5 |   |
| Deferred income  taxes and investment tax credits                 |       | 1,476                                            |       | 2,072 |   |
| Unrealized gain  on purchased power contracts                     |       | (2,843                                           | )          | (2,710 | ) |
| Stock-based  compensation expense                                 |       | 205                                              |       | 193 |   |
| Net gain on sale  of property                                     |       | —                                           |       | (367 | ) |
| Other – net                                                  |       | (8                                               | )          | 192 |   |
| Changes in  assets and liabilities:                               |       |                                             |       |   |   |
| Accounts  receivable – customers                             |       | 1,368                                            |       | 2,256 |   |
| Unbilled revenue                                                  |       | (1,145                                           | )          | (358 | ) |
| Other accounts  receivable                                        |       | 886                                              |       | (910 | ) |
| Receivable from  the U.S. government                              |       | 244                                              |       | (3,864 | ) |
| Materials and  supplies                                           |       | (62                                              | )          | (102 | ) |
| Prepayments and  other current assets                             |       | 533                                              |       | (215 | ) |
| Regulatory  assets — supply cost balancing accounts          |       | (107                                             | )          | (720 | ) |
| Other assets                                                      |       | (3,636                                           | )          | 574 |   |
| Accounts payable                                                  |       | (1,306                                           | )          | (981 | ) |
| Income taxes  receivable/payable                                  |       | (1,168                                           | )          | 829 |   |
| Other  liabilities                                                |       | 3,448                                            |       | 4,226 |   |
| Net cash  provided                                                |       | 11,194                                           |       | 14,193 |   |
|                                                              |       |                                             |       |   |   |
| **Cash  Flows From Investing Activities:**                        | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Construction  expenditures                                        |       | (17,219                                          | )          | (9,965 | ) |
| Business  acquisition                                             |       | (2,298                                           | )          | — |   |
| Proceeds from  sale of property                                   |       | —                                           |       | 380 |   |
| Net cash used                                                     |       | (19,517                                          | )          | (9,585 | ) |
|                                                              |       |                                             |       |   |   |
| **Cash  Flows From Financing Activities:**                        | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Proceeds from  issuance of common shares                          |       | 216                                              |       | 272 |   |
| Proceeds from  stock option exercises                             |       | 39                                               |       | 12 |   |
| Tax benefits  from exercise or conversion of stock-based awards   |       | 7                                                |       | 3 |   |
| Receipt of  advances for and contributions in aid of construction |       | 1,877                                            |       | 1,501 |   |
| Refunds on  advances for construction                             |       | (659                                             | )          | (427 | ) |
| Repayments of  long-term debt                                     |       | (60                                              | )          | (112 | ) |
| Net change in  notes payable to banks                             |       | 10,400                                           |       | 4,000 |   |
| Dividends paid                                                    |       | (4,309                                           | )          | (4,008 | ) |
| Other                                                             |       | (121                                             | )          | (20 | ) |
| Net cash  provided                                                |       | 7,390                                            |       | 1,221 |   |
|                                                              |       |                                             |       |   |   |
| **Net  (decrease) increase in cash and cash equivalents**         |       | (933                                             | )          | 5,829 |   |
| **Cash  and cash equivalents, beginning of period**               |       | 1,698                                            |       | 3,223 |   |
| **Cash  and cash equivalents, end of period**                     |       | $                                                | 765        |   | $ | 9,052 |   |

 

*Theaccompanying notes are an integral part of these consolidated financialstatements*

 

5

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**GOLDENSTATE WATER COMPANY****BALANCE SHEETS****ASSETS****(Unaudited)**

 
| **(in thousands)**                                                                                 | ** ** | **March 31,  2008** | ** ** | **December 31,  2007** | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| **Utility  Plant, at cost**                                                                             | ** ** | ** **               | ** ** | ** **                  | ** ** |
|                                                                                                    |       |                     |       |                        |       |
| Water                                                                                                   |       | $                        | 927,256    |                        | $          | 922,459 |   |
| Electric                                                                                                |       | 65,288                   |       | 65,078                      |       |
|                                                                                                    |       | 992,544                  |       | 987,537                     |       |
| Less -  Accumulated depreciation                                                                        |       | (306,478                 | )          | (298,856                    | )          |
|                                                                                                    |       | 686,066                  |       | 688,681                     |       |
| Construction  work in progress                                                                          |       | 53,510                   |       | 43,552                      |       |
| Net utility  plant                                                                                      |       | 739,576                  |       | 732,233                     |       |
|                                                                                                    |       |                     |       |                        |       |
| **Other  Property and Investments**                                                                     |       | 7,874                    |       | 7,838                       |       |
|                                                                                                    |       |                     |       |                        |       |
| **Current  Assets**                                                                                     | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Cash and cash  equivalents                                                                              |       | 750                      |       | 1,389                       |       |
| Accounts  receivable-customers (less allowance for doubtful accounts of $538 in 2008  and $519 in 2007) |       | 14,227                   |       | 15,741                      |       |
| Unbilled revenue                                                                                        |       | 16,836                   |       | 15,701                      |       |
| Inter-company  receivable                                                                               |       | 441                      |       | 563                         |       |
| Other accounts  receivable (less allowance for doubtful accounts of $480 in 2008 and $442 in  2007)     |       | 2,593                    |       | 3,195                       |       |
| Materials and  supplies, at average cost                                                                |       | 1,611                    |       | 1,562                       |       |
| Regulatory  assets - current                                                                            |       | 4,121                    |       | 5,116                       |       |
| Prepayments and  other current assets                                                                   |       | 2,115                    |       | 2,595                       |       |
| Unrealized gain  on purchased power contracts                                                           |       | 1,289                    |       | —                      |       |
| Deferred income  taxes - current                                                                        |       | 2,732                    |       | 3,845                       |       |
| Total current  assets                                                                                   |       | 46,715                   |       | 49,707                      |       |
|                                                                                                    |       |                     |       |                        |       |
| **Regulatory  and Other Assets**                                                                        | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Regulatory  assets                                                                                      |       | 82,878                   |       | 82,539                      |       |
| Other accounts  receivable                                                                              |       | 9,842                    |       | 9,723                       |       |
| Other                                                                                                   |       | 7,995                    |       | 7,933                       |       |
| Total regulatory  and other assets                                                                      |       | 100,715                  |       | 100,195                     |       |
|                                                                                                    |       |                     |       |                        |       |
| **Total  Assets**                                                                                       |       | $                        | 894,880    |                        | $          | 889,973 |   |

 

*The accompanying notes are an integral part ofthese financial statements*

 

6

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**GOLDENSTATE WATER COMPANYBALANCE SHEETSCAPITALIZATION AND LIABILITIES(Unaudited)**

 
| **(in thousands)**                            | ** ** | **March 31,  2008** | ** ** | **December 31,  2007** | ** ** |
|----------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| **Capitalization**                                 | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Common shares,  no par value, no stated value      |       | $                        | 163,278    |                        | $          | 163,180 |   |
| Earnings  reinvested in the business               |       | 121,159                  |       | 115,261                     |       |
| Total common  shareholder’s equity            |       | 284,437                  |       | 278,441                     |       |
| Long-term debt                                     |       | 260,889                  |       | 260,941                     |       |
| Total  capitalization                              |       | 545,326                  |       | 539,382                     |       |
|                                               |       |                     |       |                        |       |
| **Current  Liabilities**                           | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Long-term debt -  current                          |       | 301                      |       | 309                         |       |
| Accounts payable                                   |       | 24,141                   |       | 24,402                      |       |
| Inter-company  payable                             |       | 23,754                   |       | 23,764                      |       |
| Income taxes  payable to Parent                    |       | 1,581                    |       | 2,469                       |       |
| Accrued employee  expenses                         |       | 5,374                    |       | 5,677                       |       |
| Accrued interest                                   |       | 5,109                    |       | 2,424                       |       |
| Unrealized loss on  purchased power contracts      |       | —                   |       | 1,554                       |       |
| Regulatory  liabilities - current                  |       | 230                      |       | 173                         |       |
| Other                                              |       | 11,689                   |       | 13,459                      |       |
| Total current  liabilities                         |       | 72,179                   |       | 74,231                      |       |
|                                               |       |                     |       |                        |       |
| **Other  Credits**                                 | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Advances for  construction                         |       | 78,403                   |       | 78,917                      |       |
| Contributions in  aid of construction - net        |       | 87,688                   |       | 87,323                      |       |
| Deferred income  taxes                             |       | 78,744                   |       | 78,805                      |       |
| Unamortized  investment tax credits                |       | 2,314                    |       | 2,336                       |       |
| Accrued pension  and other postretirement benefits |       | 22,170                   |       | 20,851                      |       |
| Other                                              |       | 8,056                    |       | 8,128                       |       |
| Total other  credits                               |       | 277,375                  |       | 276,360                     |       |
|                                               |       |                     |       |                        |       |
| **Commitments  and Contingencies (Note 7)**        |       | —                   |       | —                      |       |
|                                               |       |                     |       |                        |       |
| **Total  Capitalization and Liabilities**          |       | $                        | 894,880    |                        | $          | 889,973 |   |

 

*The accompanying notes are an integral part ofthese financial statements*

 

7

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**GOLDENSTATE WATER COMPANY****STATEMENTS OF INCOME****FOR THE THREE MONTHS****ENDED MARCH 31, 2008 AND 2007****(Unaudited)**

 
| ** **                                            | ** ** | **Three Months Ended  March 31,** | ** ** |
|-------------------------------------------------------|------------|--------------------------------------------------|------------|
| **(in thousands)**                               | ** ** | **2008**                                         | ** ** | **2007** | ** ** |
| **Operating  Revenues**                               | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Water                                                 |       | $                                                | 50,506     |   | $ | 48,688 |   |
| Electric                                              |       | 8,803                                            |       | 8,869 |   |
| Total operating  revenues                             |       | 59,309                                           |       | 57,557 |   |
|                                                  |       |                                             |       |   |   |
| **Operating  Expenses**                               | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Water purchased                                       |       | 7,787                                            |       | 8,709 |   |
| Power purchased  for pumping                          |       | 1,575                                            |       | 2,016 |   |
| Groundwater  production assessment                    |       | 2,375                                            |       | 2,279 |   |
| Power purchased  for resale                           |       | 4,239                                            |       | 4,281 |   |
| Unrealized gain  on purchased power contracts         |       | (2,843                                           | )          | (2,710 | ) |
| Supply cost  balancing accounts                       |       | (107                                             | )          | (720 | ) |
| Other operating  expenses                             |       | 6,116                                            |       | 5,700 |   |
| Administrative  and general expenses                  |       | 11,667                                           |       | 11,495 |   |
| Depreciation and  amortization                        |       | 7,242                                            |       | 6,644 |   |
| Maintenance                                           |       | 3,324                                            |       | 2,770 |   |
| Property and  other taxes                             |       | 2,761                                            |       | 2,829 |   |
| Net gain on sale  of property                         |       | —                                           |       | (367 | ) |
| Total operating  expenses                             |       | 44,136                                           |       | 42,926 |   |
|                                                  |       |                                             |       |   |   |
| **Operating  Income**                                 |       | 15,173                                           |       | 14,631 |   |
|                                                  |       |                                             |       |   |   |
| **Other  Income and Expenses**                        |       |                                             |       |   |   |
| Interest expense                                      |       | (5,052                                           | )          | (5,019 | ) |
| Interest income                                       |       | 357                                              |       | 533 |   |
| Other                                                 |       | 86                                               |       | 52 |   |
|                                                  |       | (4,609                                           | )          | (4,434 | ) |
|                                                  |       |                                             |       |   |   |
| **Income  from operations before income tax expense** |       | 10,564                                           |       | 10,197 |   |
|                                                  |       |                                             |       |   |   |
| Income tax  expense                                   |       | 4,646                                            |       | 4,295 |   |
|                                                  |       |                                             |       |   |   |
| **Net  Income**                                       |       | $                                                | 5,918      |   | $ | 5,902 |   |

 

*The accompanying notes are an integral part ofthese financial statements*

 

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**GOLDENSTATE WATER COMPANY****STATEMENTS OF CASH FLOW****FOR THE THREE MONTHS ENDED MARCH 31, 2008 AND2007****(Unaudited)**

 
| ** **                                                        | ** ** | **Three Months Ended  March 31,** | ** ** |
|-------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| **(in thousands)**                                           | ** ** | **2008**                                         | ** ** | **2007** | ** ** |
| **Cash  Flows From Operating Activities:**                        | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Net income                                                        |       | $                                                | 5,918      |   | $ | 5,902 |   |
| Adjustments for  non-cash items:                                  |       |                                             |       |   |   |
| Depreciation and  amortization                                    |       | 7,242                                            |       | 6,644 |   |
| Provision for  doubtful accounts                                  |       | 185                                              |       | (5 | ) |
| Deferred income  taxes and investment tax credits                 |       | 1,631                                            |       | 2,167 |   |
| Unrealized gain  on purchased power contracts                     |       | (2,843                                           | )          | (2,710 | ) |
| Stock-based  compensation expense                                 |       | 157                                              |       | 177 |   |
| Net gain on sale  of property                                     |       | —                                           |       | (367 | ) |
| Other — net                                                  |       | (94                                              | )          | 139 |   |
| Changes in  assets and liabilities:                               |       |                                             |       |   |   |
| Accounts  receivable - customers                                  |       | 1,312                                            |       | 2,173 |   |
| Unbilled revenue                                                  |       | (1,135                                           | )          | (306 | ) |
| Other accounts  receivable                                        |       | 500                                              |       | (1,252 | ) |
| Materials and  supplies                                           |       | (49                                              | )          | (102 | ) |
| Prepayments and  other current assets                             |       | 480                                              |       | (269 | ) |
| Regulatory  assets - supply cost balancing accounts               |       | (107                                             | )          | (720 | ) |
| Other assets                                                      |       | 135                                              |       | 520 |   |
| Accounts payable                                                  |       | (261                                             | )          | (2,799 | ) |
| Inter-company  receivable/payable                                 |       | 552                                              |       | (568 | ) |
| Income taxes  receivable/payable from/to Parent                   |       | (888                                             | )          | 112 |   |
| Other  liabilities                                                |       | 2,216                                            |       | 4,239 |   |
| Net cash  provided                                                |       | 14,951                                           |       | 12,975 |   |
|                                                              |       |                                             |       |   |   |
| **Cash  Flows From Investing Activities:**                        | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Construction  expenditures                                        |       | (16,039                                          | )          | (9,539 | ) |
| Proceeds from  sale of property                                   |       | —                                           |       | 380 |   |
| Net cash used                                                     |       | (16,039                                          | )          | (9,159 | ) |
|                                                              |       |                                             |       |   |   |
| **Cash  Flows From Financing Activities:**                        | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Tax benefits  from exercise or conversion of stock-based awards   |       | 3                                                |       | 3 |   |
| Receipt of  advances for and contributions in aid of construction |       | 1,709                                            |       | 1,274 |   |
| Refunds on  advances for construction                             |       | (653                                             | )          | (427 | ) |
| Repayments of  long-term debt                                     |       | (60                                              | )          | (67 | ) |
| Net change in  inter-company borrowings                           |       | (440                                             | )          | 2,000 |   |
| Dividends paid                                                    |       | —                                           |       | (4,300 | ) |
| Other                                                             |       | (110                                             | )          | (18 | ) |
| Net cash  provided (used)                                         |       | 449                                              |       | (1,535 | ) |
|                                                              |       |                                             |       |   |   |
| **Net  (decrease) increase in cash and cash equivalents**         |       | (639                                             | )          | 2,281 |   |
| **Cash  and cash equivalents, beginning of period**               |       | 1,389                                            |       | 1,735 |   |
| **Cash  and cash equivalents, end of period**                     |       | $                                                | 750        |   | $ | 4,016 |   |

 

*The accompanying notes are an integral part ofthese financial statements*

 

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**AMERICANSTATES WATER COMPANY****AND****GOLDEN STATE WATER COMPANY****NOTES TO CONSOLIDATED FINANCIAL STATEMENTS****(Unaudited)**

 

**Note 1 — Summary of Significant AccountingPolicies:**

 

General / Nature of Operations: American States Water Company (“AWR”) is the parent company of Golden State Water Company (“GSWC”), Chaparral City Water Company (“CCWC”) and American States Utility Services, Inc. (“ASUS”) and its subsidiaries, Fort Bliss Water Services Company (“FBWS”), Terrapin Utility Services, Inc. (“TUS”), Old Dominion Utility Services, Inc. (“ODUS”), Palmetto State Utility Services, Inc. (“PSUS”) and Old North Utility Services, Inc. (“ONUS”). GSWC is a public utility engaged principally in the purchase, production, distribution and sale of water in California serving approximately 255,000 water customers. GSWC also distributes electricity in several San Bernardino Mountain communities serving approximately 23,000 electric customers. The California Public Utilities Commission (“CPUC”) regulates GSWC’s water and electric business, including properties, rates, services, facilities and other matters. CCWC is a public utility regulated by the Arizona Corporation Commission (“ACC”) serving over 13,000 customers in the town of Fountain Hills, Arizona and a portion of the City of Scottsdale, Arizona. ASUS performs water and wastewater related services and operations on a contract basis. There is no direct regulatory oversight by either the CPUC or the ACC of the operation or rates of the contracted services provided by ASUS and its wholly owned subsidiaries or by AWR. The consolidated financial statements include the accounts of AWR, GSWC, CCWC  and ASUS and its subsidiaries.  AWR’s assets, revenues and operations are primarily those of GSWC.

 

ASUS, through its wholly-owned subsidiaries, has entered into agreements with the U.S. government to operate and maintain the water and wastewater systems at various military bases pursuant to 50-year fixed price contracts, which are subject to periodic price redeterminations and modifications for changes in circumstances.  In September and October of 2007, ASUS was awarded contracts to operate and maintain the water and wastewater systems at Fort Jackson, South Carolina and at Fort Bragg, North Carolina, respectively, pursuant to such contracts with substantially similar terms as the agreements previously executed with the U.S. government.  PSUS commenced operations at Fort Jackson on January 2, 2008 and ONUS commenced operations at Fort Bragg on March 1, 2008, both following the expiration of transition periods.

 

Basis of Presentation: The consolidated financial statements of AWR include the accounts of AWR and its subsidiaries, all of which are wholly owned. These financial statements are prepared in conformity with accounting principles generally accepted in the United States of America. Inter-company transactions and balances have been eliminated in the AWR consolidated financial statements. Investments in partially-owned affiliates are accounted for by the equity method when Registrant’s ownership interest exceeds 20%. The consolidated financial statements included herein have been prepared by Registrant, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America for annual financial statements have been condensed or omitted pursuant to such rules and regulations. The preparation of the consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. In the opinion of management, all adjustments, consisting of normal, recurring items and estimates necessary for a fair statement of the results for the interim periods, have been made. It is suggested that these consolidated financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in the Form 10-K for the year ended December 31, 2007 filed with the SEC.

 

10

 

GSWC’sRelated Party Transactions: GSWC and other subsidiaries provide and receivevarious services to and from their parent, AWR, and among themselves. In addition,AWR has an $85 million syndicated credit facility. AWR borrows under thisfacility and provides funds to its subsidiaries, including GSWC, in support oftheir operations. Amounts owed to AWR for borrowings under this facilityrepresent the majority of GSWC’s inter-company payables on GSWC’s balancesheets as of March 31, 2008 and December 31, 2007. The interest ratecharged to GSWC is sufficient to cover AWR’s interest cost under the creditfacility. GSWC also allocates certain corporate office administrative andgeneral costs to its affiliates using allocation factors agreed upon by theCPUC.

 

Sales and UseTaxes:  GSWC bills certain sales and use taxes leviedby state or local governments to its customers. Included in these sales and usetaxes are franchise fees, which GSWC pays to various municipalities (based onordinances adopted by these municipalities) in order to use public right of wayfor utility purposes. GSWC bills these franchise fees to its customers based ona CPUC-authorized rate. These franchise fees, which are required to be paidregardless of GSWC’s ability to collect from the customer, are accounted for ona gross basis. GSWC’s franchise fees billed to customers and recorded asoperating revenue were approximately $698,000 and $733,000 for the three monthsended March 31, 2008 and 2007, respectively. When GSWC acts as an agent,and the tax is not required to be remitted if it is not collected from thecustomer, the taxes are accounted for on a net basis.

 

New AccountingPronouncements:   In September 2006, the FinancialAccounting Standards Board (“FASB”) issued Statement of Financial AccountingStandards (“SFAS”) No. 157, *“Fair Value Measurements”*.  SFAS No. 157 defines fair value,establishes a framework for measuring fair value in accordance with generallyaccepted accounting principles, and expands disclosures about fair valuemeasurements. SFAS No. 157 is effective for financial statementsissued for fiscal years beginning after November 15, 2007.   In February 2008, the FASB delayed theeffective date of SFAS No. 157 for certain nonfinancial assets andliabilities until January 1, 2009. These nonfinancial items include assets and liabilities that arerecognized and disclosed at fair value in the financial statements on a nonrecurringbasis, such as Registrant’s reporting units measured at fair value in agoodwill impairment test and asset retirement obligations.  As it applies to its financial instruments,Registrant implemented the new standard effective January 1, 2008.  The partial adoption of SFAS No. 157for financial assets and liabilities did not have any impact on Registrant’sconsolidated financial position, results of operations or cash flows, howeverit does require additional disclosures. See Note 4 for information and related disclosures regarding the fairvalue measurements on Registrant’s derivatives. The carrying value of other financial assets and liabilities, includingcash, accounts receivable, accounts payable and short-term debt, approximatefair value due to their short maturities or variable-rate nature of therespective borrowings.  Long-term debt isnot carried at fair value but SFAS No. 107, *“Disclosuresabout Fair Value of Financial Instruments”*requires fair valuedisclosure on an annual basis.  Registrant’spension and postretirement plan assets are comprised of actively traded debtand equity securities, and therefore the market related value is equal to thefair value of plan assets which are used to compute the funded statusrecognized in Registrant’s financial statements.

 

In February 2007, the FASB issued SFAS No. 159,“*The Fair Value Option for Financial Assetsand Financial Liabilities”*. SFAS No. 159 allows measurement at fair value of eligible financialassets and liabilities that are not otherwise measured at fair value. Theelection to measure a financial asset or liability at fair value can be made onan instrument-by-instrument basis and is irrevocable. The difference between “carryingvalue” and “fair value” at the election date is recorded as a transitionadjustment to beginning retained earnings. Subsequent changes in fair value arerecognized in earnings. SFAS No. 159 also establishes additionaldisclosure requirements designed to facilitate comparison between companiesthat choose different measurement attributes for similar type assets andliabilities. SFAS No. 159 was effective for Registrant’s fiscal yearbeginning January 1, 2008. Registrant has not elected to apply the fair value option to any of itsfinancial assets and liabilities. Therefore, the adoption of SFAS No. 159in the first quarter of 2008 did not have any impact on Registrant’sconsolidated financial position, results of operations or cash flows.

 

11

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In March 2007, theFASB Emerging Issues Task Force (“EITF”) issued EITF No. 06-11, *“Accounting for Income Tax Benefits of Dividends onShare-Based Payment”,* which concludes that a realized income taxbenefit from dividends or dividend equivalents that are charged to retained earningsand are paid to employees and directors for equity classified as nonvestedequity shares, nonvested equity share units, and outstanding equity shareoptions should be recognized as an increase in additional paid-in capital.Registrant has commenced recognizing this tax benefit as an increase inadditional paid-in capital beginning January 1, 2008. The impact of thischange was not material to Registrant’s consolidated financial statements.

 

In December 2007, the SEC issued Staff AccountingBulletin (“SAB”) No. 110, *“Share-Based Payment”.*Effective January 1, 2008, Registrant adopted the guidance of  SAB No. 110, which requires Registrantto develop expected option terms by reviewing detailed external informationabout employee exercise behavior.  The simplifiedmethod is no longer permitted if such information is available.

 

In December 2007,the FASB issued SFAS No. 141(R) (revised 2007), “*Business Combinations”*. SFAS No. 141(R) whichestablishes principles and requirements for how the acquirer of a businessrecognizes and measures in its financial statements the identifiable assetsacquired, the liabilities assumed, and any noncontrolling interest in theacquiree. SFAS No. 141(R) also provides guidance for recognizingand measuring the goodwill acquired in the business combination and determineswhat information to disclose to enable users of the financial statement toevaluate the nature and financial effects of the business combination.SFAS No. 141(R) is effective for financial statements issued forfiscal years beginning after December 15, 2008. Accordingly, any businesscombinations Registrant engages in will be recorded and disclosed followingexisting accounting standards until January 1, 2009.

 

In December 2007,the FASB also issued SFAS No. 160, “*NoncontrollingInterests in Consolidated Financial Statements—an amendment of ARB No. 51*”.The objective of SFAS No. 160 is to improve the relevance, comparability,and transparency of the financial information that a reporting entity providesin its consolidated financial statements by establishing accounting andreporting standards for the noncontrolling interest in a subsidiary and for thedeconsolidation of a subsidiary. This statement applies to all entities thatprepare consolidated financial statements, except not-for-profitorganizations.  SFAS No. 160 amendsARB 51 to establish accounting and reporting standards for the noncontrollinginterest in a subsidiary and for the deconsolidation of a subsidiary. It alsoamends certain of ARB 51’s consolidation procedures for consistency with therequirements of SFAS No. 141(R). Registrant is evaluating the potentialimpact of SFAS No. 160; however, this standard is not expected to have anymaterial impact on Registrant’s future consolidated financial statements anddisclosures.

 

In March 2008, theFASB issued SFAS No. 161, *“Disclosures aboutDerivative Instruments and Hedging Activities,”* (“SFAS No. 161”). SFAS No. 161 amends and expands the disclosure requirements of SFAS No. 133,*“Accounting for Derivative Instruments and HedgingActivities.”*  SFAS No. 161 requires qualitativedisclosures about objectives and strategies for using derivatives, quantitativedisclosures about fair value amounts of gains and losses on derivativeinstruments and disclosures about credit-risk-related contingent features inderivative agreements.  This statement is effective for financialstatements issued for fiscal years beginning after November 15,2008.  Registrant is currently assessing the impact of SFAS No. 161on its consolidated financial position and results of operations.

 

12

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**Note 2 —Regulatory Matters:**

 

In accordance withaccounting principles for rate-regulated enterprises, Registrant recordsregulatory assets, which represent probable future revenue associated withcertain costs that will be recovered from customers through the ratemakingprocess, and regulatory liabilities, which represent probable future reductionsin revenue associated with amounts that are to be credited to customers throughthe ratemaking process. At March 31, 2008, Registrant had approximately$14.0 million of regulatory assets not accruing carrying costs. Of this amount,$4.6 million relates to deferred income taxes representing accelerated tax benefitsflowed-through to ratepayers, which will be included in rates concurrently withrecognition of the associated future tax expense, and a $7.0 million “non-yielding”regulatory asset related to general rate case memorandum accounts to berecovered over 24 months.  The remainderrelates to  other expenses that do notprovide for recovery of carrying costs that Registrant expects to recover inrates over a short period.  Regulatoryassets, less regulatory liabilities, included in the consolidated balancesheets are as follows:

 
| **(In thousands)**                             | ** ** | **March 31, 2008** | ** ** | **December 31, 2007** | ** ** |
|-----------------------------------------------------|------------|------------------------------|------------|---------------------------------|------------|
| **GSWC**                                            |       |                         |       |                            |       |
| Electric supply  cost balancing account             |       | $                            | 17,300     |                            | $          | 18,318 |   |
| Water supply  cost balancing accounts               |       | 9,687                        |       | 8,525                           |       |
| Costs deferred  for future recovery on Aerojet case |       | 21,177                       |       | 21,244                          |       |
| Pensions and  other postretirement obligations      |       | 11,142                       |       | 11,443                          |       |
| Flow-through  taxes, net                            |       | 4,619                        |       | 5,220                           |       |
| Electric  transmission line abandonment costs       |       | 3,120                        |       | 3,157                           |       |
| Asset retirement  obligations                       |       | 3,634                        |       | 3,547                           |       |
| Low income rate  assistance balancing accounts      |       | 4,492                        |       | 4,147                           |       |
| General rate  case memorandum accounts              |       | 7,026                        |       | 7,162                           |       |
| Santa Maria  adjudication memorandum accounts       |       | 4,055                        |       | 4,005                           |       |
| Refund of water  right lease revenues               |       | (2,844                       | )          | (2,945                          | )          |
| Other regulatory  assets, net                       |       | 3,361                        |       | 3,659                           |       |
| Total GSWC                                          |       | $                            | 86,769     |                            | $          | 87,482 |   |
| **CCWC**                                            |       |                         |       |                            |       |
| Asset retirement  obligations                       |       | $                            | 52         |                            | $          | 52 |   |
| Other regulatory  liabilities, net                  |       | (510                         | )          | (538                            | )          |
| Total AWR                                           |       | $                            | 86,311     |                            | $          | 86,996 |   |

 

Regulatory matters are discussed in detail inthe consolidated financial statements and the notes thereto included in the Form 10-Kfor the year ended December 31, 2007 filed with the SEC.  The discussion below focuses on significantmatters and changes since December 31, 2007.

 

***Supply Cost Balancing Accounts******:***

 

***Electric Supply Cost Balancing Account***—Electric power costs incurred by GSWC’sBear Valley Electric Service (“BVES”) division continue to be charged to itselectric supply cost balancing account. The under-collection in the electricsupply cost balancing account is $17.3 million at March 31, 2008. Thebalance in the electric supply cost balancing account is primarily impacted by:(i) a surcharge to decrease previously under-collected energy costs; (ii) changesin purchased energy costs, and (iii) changes in power system deliverycosts.

 

The CPUC has authorizedGSWC to collect a surcharge from its customers of 2.2¢ per kilowatt hourthrough August 2011, to enable GSWC to recover an under-collection ofapproximately $23.1 million at the end of 2001 which had been incurredduring the energy crisis in late 2000 and 2001. GSWC sold 43,697,643 and42,683,779 kilowatt hours of electricity to its BVES customers for the threemonths ended March 31, 2008 and 2007, respectively. As a result of thesurcharge, the supply cost balancing account was reduced by approximately$970,000 and $918,000 million for the three months ended March 31, 2008and 2007, respectively.  Approximately$18 million of the under-collection incurred during the energy crisis in late2000 and 2001 has been recovered through this surcharge. GSWC anticipates thesurcharge, based on electricity sales, to be sufficient for it to recover by August 2011the amount of the under-collected balance incurred during the energy crisis.However, in 2011, if GSWC has not fully recovered the amount of this undercollection, GSWC will seek regulatory approval of any amounts not recoveredthrough this surcharge.

 

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Changes in purchasedenergy and power system delivery costs also impact the electric supply costbalancing account. The purchased energy costs that are recorded in the supplycost balancing account are subject to a price cap by terms of a 2001 CPUCdecision. The BVES division of GSWC is allowed to include up to a weightedaverage annual purchased energy cost of $77 per megawatt-hour (“MWh”) through August 2011in its electric supply cost balancing account. To the extent that the actualweighted average annual cost for power purchased exceeds the $77 per MWhamount, GSWC will not be able to include these amounts in its balancing accountand such amounts will be expensed. During the three months ended March 31, 2008 there were no amountsexpensed over the $77 per MWh cap. During the three months ended March 31,2007, the amount expensed was $29,000.

 

Charges to GSWC bySouthern California Edison (“Edison”) associated with the transportation ofenergy over Edison’s power system and the abandonment of a transmission lineupgrade have increased under Edison’s tariff to levels that exceed the amountsauthorized by the CPUC in BVES’s retail power rates to its customers. Theincremental cost increase to GSWC from the tariff for the abandonment of atransmission line upgrade, which is not currently included in rates, is $38,137per month.  The incremental costs notincluded in rates have been included in the balancing account at March 31,2008 for subsequent recovery from customers, subject to CPUC approval. BVESplans to file a rate case in 2008 which will include a request for recovery ofthese costs.

 

The power system deliverycosts are not subject to the $77 per MWh price cap referenced above.  Other components, such as interest accrued onthe cumulative under-collected balance and power loss during transmission, alsoaffect the balance of the electric supply cost balancing account.

 

In summary, for the threemonths ended March 31, 2008 and 2007, the under-collection decreased byapproximately $1,017,000 and $783,000, respectively.

 

***Water Supply Cost Balancing Accounts—***As permitted by the CPUC, Registrantmaintains water supply cost balancing accounts for GSWC to account forunder-collections and over-collections of revenues designed to recover suchcosts.  The supply cost balancing accountstrack differences between the current cost for supply items (water, power, andpump taxes) charged by GSWC’s suppliers and the cost for those itemsincorporated into GSWC’s rates. Under-collections (recorded as regulatoryassets) occur when the current cost exceeds the amount in rates for these itemsand, conversely, over-collections (recorded as regulatory liabilities) occurwhen the current cost of these items is less than the amount in rates.  Typically, under-collections orover-collections, when they occur, are tracked in the supply cost balancingaccounts for future recovery or refund through a surcharge (in the event of anunder-collection) or through a surcredit (in the event of an over-collection)on customers’ bills.  Registrant accruesinterest on its under-collections in the supply cost balancing accounts at therate prevailing for 90-day commercial paper. Registrant does not maintain a supply cost balancing account for CCWC.

 

For the three monthsended March 31, 2008 and 2007, approximately $1.2 million and $1.5 millionof under-collections, respectively, were recorded in the water supply costbalancing accounts.  Amortization ofsurcharges that are in rates to recover under-collections from customers andsurcredits that are in rates to refund over-collections to customers also increasedor decreased the water supply cost balancing accounts, as applicable.  During the three months ended March 31,2008 and 2007, approximately $295,000 and $320,000 of under-collectionamortization decreased the water supply cost balancing accounts, respectively.

 

As of March 31,2008, there is approximately $9.7 million net under-collections in the watersupply cost balancing accounts.  Of thisamount, approximately $7.3 million relates to GSWC’s Region III customerservice area.  GSWC filed an adviceletter in March 2008 to implement a surcharge to begin recovery of  this under-collection.   The amortization of this surcharge will beat least over 24 months.   The advice letter is currently underreview by the CPUC.  The remaining $2.4million net under-collections in the water supply cost balancing accountsrelate to GSWC’s Region I net under-collection of $2.1 million and Region II’snet under-collection of $243,000. Currently, there is a surcharge in place in Region I expiring in January 2009to recover this under-collection, and a surcredit at Region II to refund aprevious over-collection expiring in August 2008.

 

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***CostsDeferred for Future Recovery******:***

 

In1999, GSWC sued Aerojet-General Corporation (“Aerojet”) for contaminating theSacramento County Groundwater Basin, which affected certain GSWC wells. On arelated matter, GSWC also filed a lawsuit against the State of California (the “State”).The CPUC authorized memorandum accounts to allow for recovery, from customers,of costs incurred by GSWC in prosecuting the cases against Aerojet and theState, less any recovery from the defendants or others.  On July 21, 2005, the CPUC authorizedGSWC to collect approximately $21.3 million of the Aerojet litigationmemorandum account, through a rate surcharge, which will continue for no longerthan 20 years. Beginning in October 2005, new rates went into effect tobegin amortizing the memorandum account over a 20-year period.  A rate surcharge generating approximately$213,000 and $220,000 was billed to customers during the three months ended March 31,2008 and 2007, respectively. GSWC will keep the Aerojet memorandum account openuntil the earlier of full amortization of the balance or 20 years.However, no costs will be added to the memorandum account, other than on-goinginterest charges approved by the CPUC decision. Pursuant to the decision,additional interest of approximately $147,000 and $276,000 was added to theAerojet litigation memorandum account during the three months ended March 31,2008 and 2007, respectively.

 

It is management’sintention to offset any settlement proceeds received from Aerojet, pursuant tothe settlement agreement, against the balance in the memorandum account, withthe exception of an $8.0 million payment guaranteed by Aerojet.  This payment, plus interest on the unpaidbalance, is scheduled to be paid by Aerojet in installments over five yearsbeginning in 2009.  Aerojet has alsoagreed to reimburse GSWC an additional $17.5 million, plus interestaccruing from January 1, 2004, for GSWC’s past legal and expert costs. Therecovery of the $17.5 million is contingent upon the issuance of land useapprovals for development in a defined area within Aerojet property in EasternSacramento County and the receipt of certain fees in connection with suchdevelopment.

 

***Santa Maria Adjudication Memorandum Accounts******:***

 

As more fully discussedin Note 7, GSWC has incurred costs of approximately $6.8 million as of March 31,2008, including legal and expert witness fees, in defending its groundwatersupply in the Santa Maria Basin for use by its customers in Santa Barbara andSan Luis Obispo Counties. Such costs had been recorded in utility plant forfuture rate recovery. In February 2006, GSWC filed an application with theCPUC for recovery of $5.5 million of these costs, representing the amountof the costs that had been incurred as of December 31, 2005. In February 2007,GSWC reached a settlement with the CPUC’s Division of Ratepayer Advocates (“DRA”)authorizing recovery of the $5.5 million requested in GSWC’s application.The settlement deferred review of the remaining legal costs pending finalresolution of the lawsuit. In May 2007, the CPUC issued a decision thatapproved the settlement with the DRA. Pursuant to the decision, GSWC wasauthorized to place in rate base $2.7 million of the $5.5 million ofpreviously incurred litigation costs in the Santa Maria groundwater basinadjudication.

 

GSWC was also authorizedto amortize, with interest, the remaining $2.8 million of the$5.5 million in rates over a ten-year period. This amount has beentransferred into a separate memorandum account included within regulatoryassets and a surcharge has been implemented in the third quarter of 2007 forrecovery of these costs. A rate surcharge generating approximately $51,000 wasbilled to customers during the three months ended March 31, 2008.  All litigation costs, including interest,that have been incurred since December 31, 2005, totaling approximately$1.5 million, have also been transferred from rate base to a separate newmemorandum account, subject to a reasonableness review by the CPUC in asubsequent phase of this proceeding or in a new proceeding.  In April 2008, the Administrative LawJudge closed the proceeding without ruling on the stipulation or authorizingrecovery of the remaining costs.  Theruling directed GSWC to file a new application. GSWC intends to file a new application. Management believes that these additional costs will be approved and therecovery of these costs through rates is probable.

 

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***Other Regulatory Matters******:***

 

On February 15,2007, the CPUC issued a subpoena to GSWC in connection with an investigation ofcertain work orders and charges paid to a specific contractor used by GSWC fornumerous construction projects. The CPUC’s investigation focuses on whetherthese charges were approved in customer rates and whether they were just andreasonable. In June 2007, GSWC received notification from the CPUC that itwas instituting an audit. The purpose of the audit was to examine for theperiod 1994 to the present, GSWC’s policies, procedures, and practicesthroughout all of its Regions regarding the granting or awarding ofconstruction contracts or jobs.  GSWC iscurrently responding to a third data request submitted by the CPUC.  Management cannot predict the outcome of theinvestigation or audit at this time.

 

On April 16, 2007, GSWC’sBVES division filed a compliance report with the CPUC regarding its purchasesof energy from renewable energy resources. The filing indicated that BVES hadnot achieved interim target purchase levels of renewable energy resources andthus, on its face, might be subject to a potential penalty. GSWC has formallycontested the potential penalty reflected in the compliance report. The CPUChas been considering the future timing and applicability of renewable energyresource requirements as they apply to smaller energy utilities like BVES.   On April 25, 2008, the assignedAdministrative Law Judge issued a Proposed Decision (“PD”) on the renewableresponsibilities of small utilities (including BVES). The PD, if adopted, wouldclarify that certain renewable obligations of the small utilities may bedeferred. If adopted by the CPUC as written, BVES will need to continue itsefforts to procure renewable resources each year going forward, and where thatmay prove difficult because the market for such resources is very constrained,then BVES will be required to describe in detail the problems that warrantfurther deferral, in accordance with the CPUC’s flexible compliance rules.  The PD would also allow BVES to alterpreviously filed compliance reports to reflect the changes adopted in thisdecision.  At this time, management doesnot believe it is probable that GSWC will ultimately be assessed any penalty(which could be as high as $931,000 based on the latest filing as of December31, 2007), and accordingly, no provision for loss has been recorded in thefinancial statements.

 

**Note 3 —Earnings per Share/Capital Stock:**

 

Registrantcomputes earnings per share (“EPS”) in accordance with EITF No. 03-06, *“Participating Securities and the Two-Class Method under FASBStatement No. 128”. *EITFNo. 03-06 provides the accounting guidance for the effect of participatingsecurities on EPS calculations and the use of the “two-class” method. Theguidance requires the use of the “two-class” method of computing EPS forcompanies with participating securities. The “two-class” method is an earningsallocations formula that determines EPS for each class of common stock andparticipating security.  AWR hasparticipating securities related to stock options and restricted stock unitsthat earn dividend equivalents on an equal basis with Common Shares that havebeen issued under AWR’s 2000 Stock Incentive Plan and 2003 Non-EmployeeDirectors Stock Plan.  In applying the “two-class”method, undistributed earnings are allocated to both Common Shares andparticipating securities. The following is a reconciliation of Registrant’s netincome and weighted average Common Shares outstanding for calculating basic netincome per share:

 
| **Basic**                                                             | ** ** | **For The Three Months Ended March 31,** | ** ** |
|-----------------------------------------------------------------------|------------|------------------------------------------------------------------------|------------|
| **(in thousands, except per share amounts)** | ** ** | **2008**                                                               | ** ** | **2007** | ** ** |
| Net income                                                            |       | $                                                                      | 5,304      |   | $ | 6,984 |   |
| Less: (a)   Distributed earnings to common shareholders          |       | 4,310                                                                  |       | 4,008 |   |
| Distributed  earnings to participating securities                     |       | 25                                                                     |       | 86 |   |
| Undistributed  earnings                                               |       | 969                                                                    |       | 2,890 |   |
|                                                                  |       |                                                                   |       |   |   |
| (b) Undistributed  earnings allocated to common shareholders     |       | 964                                                                    |       | 2,830 |   |
| Undistributed  earnings allocated to participating securities         |       | 5                                                                      |       | 60 |   |
|                                                                  |       |                                                                   |       |   |   |
| Total income  available to common shareholders, basic (a)+(b)         |       | $                                                                      | 5,274      |   | $ | 6,838 |   |
|                                                                  |       |                                                                   |       |   |   |
| Weighted average  Common Shares outstanding, basic                    |       | 17,239                                                                 |       | 17,055 |   |
| **Basic earnings  per Common Share**                                  |       | $                                                                      | 0.31       |   | $ | 0.40 |   |

 

DilutedEPS is based upon the weighted average number of Common Shares, including bothoutstanding shares and shares potentially issuable in connection with stockoptions and restricted stock units granted under Registrant’s 2000 StockIncentive Plan and 2003 Non-Employee Directors Stock Plan, and net income. At March 31,2008 and 2007 there were 567,468 and 704,591 options outstanding, respectively,under these Plans. At March 31, 2008 and 2007, there were also approximately71,938 and 60,352 restricted stock units outstanding, respectively.

 

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The following is a reconciliation of Registrant’s netincome and weighted average Common Shares outstanding for calculating dilutednet income per share:

 
| **Diluted**                                                           | ** ** | **For The Three Months Ended March 31,** |       |
|-----------------------------------------------------------------------|------------|------------------------------------------------------------------------|------------|
| **(in thousands, except per share amounts)** | ** ** | **2008**                                                               | ** ** | **2007** |   |
| Common  shareholders earnings, basic                                  |       | $                                                                      | 5,274      |   | $ | 6,838 |   |
| Undistributed  earnings for dilutive stock options (1)                |       | 3                                                                      |       | — |   |
| Total common  shareholders earnings, diluted                          |       | $                                                                      | 5,277      |   | $ | 6,838 |   |
|                                                                  |       |                                                                   |       |   |   |
| Weighted average  common shares outstanding, basic                    |       | 17,239                                                                 |       | 17,055 |   |
| Stock-based  compensation (2)                                         |       | 118                                                                    |       | 59 |   |
| Weighted average  common shares outstanding, diluted                  |       | 17,357                                                                 |       | 17,114 |   |
| **Diluted  earnings per Common Share**                                |       | $                                                                      | 0.30       |   | $ | 0.40 |   |

 

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(1)   Undistributed earnings allocated to participatingsecurities were not included as of March 31, 2007 due to theirantidilutive effect on diluted earnings per share.

 

(2)   In applying the treasury stock method of reflectingthe dilutive effect of outstanding stock-based compensation in the calculationof diluted EPS, 356,619 and 297,991 stock options at March 31, 2008 and2007, respectively, were deemed to be outstanding in accordance with SFAS No. 128,*“Earnings Per Share”*.  All of the 71,938 restricted stock units at March 31,2008 were included in the calculation of diluted EPS for the three months endedMarch 31, 2008.

 

Stockoptions of 111,711 and 101,090 were outstanding at March 31, 2008 and 2007,respectively, but not included in the computation of diluted EPS because therelated option exercise price was greater than the average market price of AWR’sCommon Shares for the three months ended March 31, 2008 and 2007.  Stock options of 99,138 and 305,510 wereoutstanding at March 31, 2008 and 2007, respectively, but not included inthe computation of diluted EPS because they were antidilutive. Also notincluded in the calculation of EPS were 60,352 restricted stock units at March 31,2007 because they were antidilutive.

 

Registranthas a Shareholder Rights Plan designed to protect the Company’s shareholders inthe event of an unsolicited unfair offer to acquire the Company. The rights forJunior Participating Preferred Shares (the “Rights”) are exercisable basedsolely on “a non-market-based contingency”, and are not contingent upon themarket price of AWR’s stock. Therefore, the shares that would be issued if theRights are exercised are not included in the calculation of diluted earningsper share.

 

Duringthe three months ended March 31, 2008 and 2007, Registrant issued 12,798and 10,532 Common Shares, for approximately $255,000 and $284,000,respectively, under the Registrant’s Common Share Purchase and DividendReinvestment Plan, the 401(k) Plan, and the stock incentive plans. Inaddition, Registrant purchased 14,360 and 282 Common Shares on the open marketduring the three months ended March 31, 2008 and 2007, respectively,under the Registrant’s Common Share Purchase and Dividend Reinvestment Planand 401(k) Plan.  The Common Sharespurchased by Registrant  were used tosatisfy the requirements of these plans.

 

Duringthe three months ended March 31, 2008 and 2007, AWR paid quarterlydividends to shareholders of approximately $4.3 million, or $0.250 per share,and $4.0 million, or $0.235 per share, respectively.

 

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**Note 4 — Derivative Instruments:**

 

Registrant has certainblock-forward purchase power contracts that are subject to SFAS No. 133, *“Accounting for Derivative Instruments and Hedging Activities”*,as amended by SFAS Nos. 138 and 149. A derivative financial instrument or othercontract derives its value from another investment or designated benchmark.SFAS No. 133 requires companies to record derivatives on the balance sheetas assets and liabilities, and to measure those instruments at their fairvalue. During 2002, GSWC became a party to block-forward purchase powercontracts that qualified as derivative instruments under SFAS No. 133.Contracts with Pinnacle West Capital Corporation (“PWCC”) which becameeffective in November 2002 have not been designated as normal purchasesand normal sales.  In June 2007,PWCC sold the contracts between PWCC and GSWC to Morgan Stanley Capital Group, Inc.(“MSCG”) effective November 1, 2007.  Settlement of these contracts occurred on a cash or netbasis through 2006 and by physical delivery thereafter through the expirationof the contracts on December 31, 2008. Registranthas no other derivative financial instruments.

 

As a result of thecontracts with MSCG, on a monthly basis, the related asset or liability isadjusted to reflect the fair market value at the end of the month.  Registrant adopted SFAS No. 157effective January 1, 2008 for financial assets and liabilities measured ona recurring basis.  SFAS No. 157applies to all financial assets and financial liabilities that are beingmeasured and reported on a fair value basis. There was no impact in theadoption of SFAS No. 157 to the consolidated financial statements.However, SFAS No. 157 requires disclosure that establishes a framework formeasuring fair value and expands disclosure about fair value measurements. Thestatement requires fair value measurements to be classified and disclosed inone of the following three categories:

 

*Level 1*: Unadjusted quoted prices in activemarkets that are accessible at the measurement date for identical, unrestrictedassets or liabilities;

 

*Level 2*: Quoted prices in markets that are notactive, or inputs which are observable, either directly or indirectly, forsubstantially the full term of the asset or liability, or

 

*Level 3*: Prices or valuation techniques thatrequire inputs that are both significant to the fair value measurement andunobservable (i.e., supported by little or no market activity).

 

Registrant’s valuationmodel utilizes various inputs that include quoted market prices for energy overthe duration of the contracts. The market prices used to determine the fairvalue for this derivative instrument were estimated based on independentsources such as broker quotes and publications that are not observable in orcorroborated by the market. When such inputs have a significant impact on themeasurement of fair value, the instrument is categorized in Level 3.  Accordingly, the valuation of the derivativeon Registrant’s purchased power contract with MSCG has been classified as Level3.   The following table presents changesin the fair value of the derivative for the three months ended March 31,2008.

 
| **(dollars in thousands)**                                         | ** ** | **Gains (Losses)** | ** ** |
|------------------------------------------------------------------------------|------------|-------------------------|------------|
| Balance,  December 31, 2007                                             |       | $                       | (1,554     | ) |
| Unrealized gain  on purchased power contracts included in operating expenses |       | 2,843                   |       |
| Balance,  March 31, 2008                                                |       | $                       | 1,289      |   |

 

As these contracts aresettled, the realized gains or losses are recorded in power purchased forresale, and the previously recorded unrealized gains or losses are reversed.The fair market value of $1.3 million recognized on the balance sheet as of March 31,2008 is expected to be recognized as a reduction to income by the end of thecontracts which expire on December 31, 2008.

 

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**Note 5 —Income Taxes:**

 

As aregulated utility, GSWC treats certain temporary differences asflow-through adjustments in computing its income tax provisionconsistent with the income tax approach approved by the CPUC for ratemakingpurposes. Flow-through adjustments increase or decrease tax expensein one period, with an offsetting increase or decrease occurring inanother period. Giving effect to these temporary differences as flow-throughadjustments typically results in a greater variance between theeffective tax rate (“ETR”) and the statutory federal income tax rate in anygiven period than would otherwise exist if GSWC were not requiredto account for its income taxes as a regulated enterprise.

 

Registrant’spolicy is to classify interest on income tax over/underpayments in interestincome/expense and penalties in “other operating expenses.”

 

**Note 6 —Employee Benefit Plans:**

 

Thecomponents of net periodic benefit costs, before allocation to the overheadpool, for Registrant’s pension plan, postretirement plan, and SupplementalExecutive Retirement Plan (“SERP”) for the three months ended March 31,2008 and 2007 are as follows:

 
| ** **                                     | ** ** | **Pension Benefits** | ** ** | **Other  Postretirement  Benefits** | ** ** | **SERP** | ** ** |
|------------------------------------------------|------------|---------------------------|------------|-------------------------------------|------------|----------|------------|
| **(dollars in thousands)**           | ** ** | **2008**                  | ** ** | **2007**                            | ** ** | **2008** | ** ** | **2007** | ** ** | **2008** | ** ** | **2007** | ** ** |
| **Components  of Net Periodic Benefits Cost:** |       |                      |       |                                |       |     |       |   |   |   |   |   |   |
| Service cost                                   |       | $                         | 909        |                                | $          | 980      |       | $ | 86 |   | $ | 105 |   | $ | 60 |   | $ | 106 |   |
| Interest cost                                  |       | 1,342                     |       | 1,261                               |       | 161      |       | 168 |   | 63 |   | 41 |   |
| Expected return  on plan assets                |       | (1,235                    | )          | (1,122                              | )          | (63      | )          | (57 | ) | — |   | — |   |
| Amortization of  transition                    |       | —                    |       | —                              |       | 105      |       | 105 |   | — |   | — |   |
| Amortization of  prior service cost (benefit)  |       | 30                        |       | 41                                  |       | (50      | )          | (50 | ) | 230 |   | 40 |   |
| Amortization of  actuarial loss (gain)         |       | —                    |       | 171                                 |       | —   |       | 25 |   | (14 | ) | (6 | ) |
| Net periodic  pension cost                     |       | $                         | 1,046      |                                | $          | 1,331    |       | $ | 239 |   | $ | 296 |   | $ | 339 |   | $ | 181 |   |

 

Registrant expects to contribute a minimum of approximately$4,183,000 and $650,000 to pension and postretirement medical plans in 2008,respectively.  No contributions were madeduring the three months ended March 31, 2008.

 

**Note 7 — Contingencies:**

 

***Water Quality-Related Litigation******:***

 

Perchlorate and/orVolatile Organic Compounds (“VOC”) have been detected in five wells servicingGSWC’s South San Gabriel System. GSWC filed suit in federal court, along withtwo other affected water purveyors and the San Gabriel Basin Water QualityAuthority (“WQA”), against some of those allegedly responsible for thecontamination of two of these wells. Some of the other potential defendantssettled with GSWC, other water purveyors and the WQA (the “Water Entities”), onVOC related issues prior to the filing of the lawsuit. In response to thefiling of the lawsuit, the Potentially Responsible Party (“PRP”) defendantsfiled motions to dismiss the suit or strike certain portions of the suit. Thejudge issued a ruling on April 1, 2003 granting in part and denying inpart the PRP’s motions. A key ruling of the court was that the water purveyors,including GSWC, by virtue of their ownership of wells contaminated withhazardous chemicals are themselves PRPs under the Comprehensive EnvironmentalResponse, Compensation, and Liability Act (“CERCLA”).

 

GSWC has, pursuant topermission of the court, amended its suit to claim certain affirmative defensesas an “innocent” party under CERCLA. Registrant is presently unable to predictthe outcome of this ruling on its ability to fully recover from the PRPs futurecosts associated with the treatment of these wells. In this same suit, the PRPshave filed cross-complaints against the Water Entities, the Metropolitan WaterDistrict (“MWD”), the Main San Gabriel Basin Watermaster and others on thetheory that they arranged for and did transport contaminated water into theMain San Gabriel Basin for use by GSWC and the other two affected waterpurveyors and for other related claims.

 

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On August 29, 2003,the US Environmental Protection Agency (“EPA”) issued Unilateral AdministrativeOrders (“UAO”) against 41 parties deemed responsible for polluting thegroundwater in that portion of the San Gabriel Valley from which two of GSWC’simpacted wells draw water. GSWC was not named as a party to the UAO. The UAOrequires that these parties remediate the contamination. The judge in thelawsuit has appointed a special master to oversee mandatory settlementdiscussions between the PRPs and the Water Entities. EPA is also conductingsettlement discussions with several PRPs regarding the UAO. The Water Entitiesand EPA are working to coordinate their settlement discussions under thespecial master in order to arrive at a complete resolution of all issuesaffecting the lawsuit and the UAO. Settlements with a number of the PRPs arebeing finalized; however, Registrant is presently unable to predict theultimate outcome of these settlement discussions.

 

Registrant is unable topredict an estimate of the loss, if any, resulting from any pending suits oradministrative proceedings.

 

***Condemnation of Properties******:***

 

The laws of the State ofCalifornia and the State of Arizona provide for the acquisition of publicutility property by governmental agencies through their power of eminentdomain, also known as condemnation, where doing so is necessary and in thepublic interest. In addition, however, the laws of California provide: (i) thatthe owner of utility property may contest whether the condemnation is actuallynecessary and in the public interest, and (ii) that the owner is entitledto receive the fair market value of its property if the property is ultimatelytaken.

 

Although the City ofClaremont, California (the “City”) located in GSWC’s Region III, has notinitiated the formal condemnation process pursuant to California law, the Cityhas expressed various concerns to GSWC about the rates charged by GSWC and theeffectiveness of the CPUC’s rate-setting procedures. The City hired aconsultant to perform an appraisal of the value of GSWC’s water system servingthe City. The value was estimated in 2004 by the City’s consultant at$40—$45 million. GSWC disagrees with the consultant’s valuationassessment. As of March 31, 2008, management believes that the fair marketvalue of the Claremont water system exceeds the $37.7 million recorded net bookvalue and also exceeds the consultant’s estimates of its value. The ClaremontCity Council held a project priorities workshop in April 2007. The councilmembers agreed that the acquisition of GSWC’s water system was to remain apriority and authorized staff to obtain updated appraisals for the value of thewater systems. Requests for proposals have been sent to consulting firms by theCity.  In a recent meeting held in February 2008,the Claremont City Council stated that they had decided to authorize additionalstudies of the acquisition of GSWC’s water system.

 

Except for the City ofClaremont and the Town of Apple Valley, Registrant has not been, within thelast three years, involved in activities related to the potential condemnationof any of its water customer service areas or in its BVES customer servicearea. No formal condemnation proceedings have been filed against any of theRegistrant’s service areas during the past three years.  The Town of Apple Valley abandoned itsactivities related to a potential condemnation of GSWC’s water system servingthe Town in 2007.

 

***Santa Maria Groundwater Basin Adjudication******:***

 

In1997, the Santa Maria Valley Water Conservation District (“plaintiff”) filed alawsuit against multiple defendants, including GSWC, the City of Santa Maria,and several other public water purveyors. The plaintiff’s lawsuit sought anadjudication of the Santa Maria Groundwater Basin (the “Basin”). A stipulatedsettlement of the lawsuit has been reached, subject to CPUC approval.  The settlement, among other things, ifapproved by the CPUC, would preserve GSWC’s historical pumping rights andsecure supplemental water rights for use in case of drought or other reductionsin the natural yield of the Basin. GSWC, under the stipulation, has a right to10,000 acre-feet of groundwater replenishment provided by the TwitchellProject, a storage and flood control reservoir project operated by the SantaMaria Valley Conservation District.  A monitoring and annual reportingprogram has been established to allow the parties to responsibly manage theBasin and to respond to shortage conditions.  If severe water shortage conditionsare found over a period of five years, the management area engineer willmake findings and recommendations to alleviate suchshortages.  In the unlikely case that the Basin experiences severeshortage conditions, the court has the authority to limit GSWC’sgroundwater production to 10,248 acre-feet per year, based ondeveloped water in the Basin.

 

OnFebruary 11, 2008, the court issued its final judgment, which approves andincorporates the stipulation.  The judgment awards GSWC prescriptiverights to groundwater against the non-stipulating parties.  In addition,the 

 

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judgmentgrants GSWC the right to use the Basin for temporary storage and to recapture45 percent of the return flows that are generated from its importation ofState Water Project water.  Pursuant to this judgment, the court retainsjurisdiction over all of the parties to make supplemental orders or to amendthe judgment as necessary.  On March 20,2008, the non-stipulating parties filed notices of appeal.  Registrant is unable to predict the outcomeof the appeal.

 

***Air Quality Management District******:***

 

In 1998, the South CoastAir Quality Management District (“AQMD”) issued a permit to GSWC for theinstallation and use of air stripping equipment at one of GSWC’s groundwatertreatment systems in its Region II service area. In 2005, the AQMD conducted aninspection of this facility (“Watson Well”) and issued a Notice of Violation (“NOV”)for exceeding the amount of groundwater permitted to be treated by thetreatment system during calendar year 2004. Since receiving the NOV, changes inGSWC’s procedures have helped to avoid additional violations at the facility.The AQMD could have assessed penalties associated with an NOV; however, GSWCfinalized a settlement of the NOV with the AQMD in June 2007.  As part of the settlement, GSWC agreed toperform a Supplemental Environmental Program (“SEP”). A SEP typically involvescapital expenditures resulting in a change of process, equipment, material, orindirect source reduction for the purposes of eliminating or reducing aircontaminant emissions. The SEP prepared by GSWC involves installation andoperation of granular activated carbon (“GAC”) filters at the facility.Installation of the filters will eliminate the use of the air strippingequipment at the facilities involved with the NOV and thus improve air quality.The AQMD accepted the SEP and assessed a nominal penalty of $25,000. During2007, GSWC paid the penalty of $25,000 and agreed to perform its obligationsunder the SEP. It is estimated that the total capital cost of the SEP will beapproximately $1.8 million with a required estimated completion date of April 30,2009. Upon timely performance of all its obligations under the SEP, GSWC will bereleased from any and all claims or penalties arising from the NOV. Managementbelieves that GSWC will be able to timely fulfill its obligations under the SEPand no further penalties are expected to be assessed. Management also believesit is probable that the capital costs of the SEP will be approved in rate baseby the CPUC. GSWC began execution of the SEP and has spent approximately$177,000 as of March 31, 2008.

 

In January 2008,GSWC removed the air stripper from the Watson Plant.  An AQMD inspector visited the Watson Plantand confirmed the removal of the air stripping equipment.  GSWC submitted a request to deactivate theair quality permit in February 2008. As a requirement of the SEP, GSWC installed a temporary GAC treatmentsystem.  The temporary treatment systemwas put in service in March 2008. The return to service of the Watson Well will improve local groundwatersupply reliability.  GSWC also completedthe design of a permanent GAC treatment system.

 

***Environmental Clean-Up and Remediation******:***

 

Chadron Plant:

 

GSWC has been involved inenvironmental remediation and clean-up at a plant site (“Chadron Plant”) thatcontained an underground storage tank which was used to store gasoline for itsvehicles. This tank was removed from the ground in July 1990 along withthe dispenser and ancillary piping. As required at the time, a tank removalreport was submitted to the Los Angeles Department of Public Works (“DPW”). Atthe request of DPW, soil samples were collected beneath the tank and theresults indicated gasoline impacted soil in the northern portion of the formertank pit. Quarterly monitoring began in July 1994. Between July 1994and November 1995, additional monitoring wells were installed and pilotremediation tests were conducted. A site assessment report was completed in April 1996.

 

In January 1998 aplan for the underground storage tank site remediation and closure wasprepared. The remediation system plan was installed and fully operational by October 1998with an estimated two years thereafter for site closure. This plan was approved by the Los Angeles RegionalWater Quality Control Board of the California Environmental Protection Agency (“LARWQCB”).In November 2002, the LARWQCB commented on the methodology selected forcleanup of dissolved contaminants in the shallow groundwater. Data fromoperation of the technology implemented at the subject site has indicated thatthe technology did not work as expected. Other remedial alternatives have beenconsidered and evaluated to mitigate dissolved contaminants in the groundwaterat the site.  In October 2007, aninterim remedial action plan was approved by the LARWQCB and all appropriatepermits have been acquired to begin remediation.  In March 2008, construction began onPhase 1 of the new remediation system.

 

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Based on recentestimates, the total project may take 3-5 more years and cost approximately$1.1 million. Remediation should be completed in two more years, followedby at least one year of monitoring and reporting. The estimate also includesquarterly monitoring and reporting costs. As of March 31, 2008, the totalamount spent to clean-up and remediate GSWC’s plant facility is approximately$2.5 million, of which $1.5 million has been paid by the State ofCalifornia Underground Storage Tank Fund (the “Fund”).  Amounts paid by GSWC not reimbursed from theFund have been included in rate-base and approved by the CPUC for recovery.During the three months ended March 31, 2008, GSWC spent approximately$102,000 to clean-up and remediate this site. As of March 31, 2008, GSWC has an accrued liability of $1.0 millionfor the estimated additional cost to complete the clean-up at the site. Theultimate cost may vary as there are many unknowns in remediation of undergroundgasoline spills and this is an estimate based on currently availableinformation. Management also believes it is probable that the estimatedadditional costs will be approved in rate-base by the CPUC and, therefore, GSWChas recorded the additional estimated cost as a regulatory asset as of March 31,2008.

 

Ballona Plant:

 

During the firstquarter of 2008, hydrocarbon contaminated soil was found at a plant site (“BallonaPlant”)  located in GSWC’s Southwestcustomer service area where an abandoned water tank was demolished.  The contamination is shallow and likely theresult of past corrosion control practices and is not due to a leaking pipe ofthe tank.  An initial investigation andcharacterization will be completed during the second quarter of 2008 todetermine the extent of contamination before any soil extraction is initiated.At this time, GSWC is unable to reasonably estimate the cost of clean-up.   Historically, the cost for this type ofclean-up has been included in rates as approved by the CPUC.

 

***Contracted Services:***

 

On March 4, 2008,ASUS received a letter from the U.S. Army demanding payment of approximately$7.5 million in liquidated damages for alleged failure at one subsidiary ofASUS to make a good faith effort to achieve its small business subcontractinggoals. In April 2008, ASUS filed a Notice of Appeal stating itsdisagreement with the position taken by the U. S. Army.  No provision for loss has been recorded.  The U. S. Army has the right to offset theclaimed damages against amounts owed to this subsidiary, but has not exercisedthis right.

 

***Other Litigation******:***

 

Two former officers ofGSWC filed a lawsuit against both AWR and GSWC alleging among other things,wrongful termination and retaliation against the former officers. Managementbelieves that the allegations are without merit and intends to vigorouslydefend against them. Based on our understanding of all the claims, managementdoes not believe that the ultimate resolution of this matter will have amaterial adverse effect on GSWC’s financial position, results of operations, orcash flows.

 

Registrant is alsosubject to other ordinary routine litigation incidental to its business.Management believes that rate recovery, proper insurance coverage and reservesare in place to insure against property, general liability and workers’compensation claims incurred in the ordinary course of business.

 

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**Note 8 — Business Segments:**

 

AWR has three reportablesegments, water, electric and contracted services, whereas GSWC has twosegments, water and electric. Within the segments, AWR has three principalbusiness units: water and electric service utility operations conducted throughGSWC, a water-service utility operation conducted through CCWC, and acontracted services unit conducted through ASUS and its subsidiaries. Allactivities of GSWC are geographically located within California. All activitiesof CCWC are located in the state of Arizona. Activities of ASUS and its subsidiarieshave been conducted in California, Maryland, New Mexico, North Carolina, SouthCarolina, Texas and Virginia.  Both GSWCand CCWC are rate-regulated utilities. ASUS’ wholly-owned subsidiaries are regulated by the respective state inwhich the military base operation is being conducted.  On a stand-alone basis, AWR has no materialassets other than its investments in its subsidiaries. The tables below setforth information relating to GSWC’s operating segments, CCWC, ASUS and itssubsidiaries, and other matters. Certain assets, revenues and expenses havebeen allocated in the amounts set forth. The identifiable assets are net ofrespective accumulated provisions for depreciation. Capital additions reflectcapital expenditures paid in cash and exclude property installed by developersand conveyed to GSWC or CCWC.

 
| ** **                             | ** ** | **As Of And For The Three Months Ended March 31, 2008** | ** ** |
|----------------------------------------|------------|-----------------------------------------------------------------------------------------------------------|------------|
| ** **                             | ** ** | **GSWC**                                                                                                  | ** ** | **CCWC** | ** ** | **ASUS** | ** ** | **AWR** | ** ** | **Consolidated** | ** ** |
| **(dollars in thousands)**   | ** ** | **Water**                                                                                                 | ** ** | **Electric** | ** ** | **Water** | ** ** | **Contracts** | ** ** | **Parent** | ** ** | **AWR** | ** ** |
| Operating  revenues                    |       | $                                                                                                         | 50,506     |   | $ | 8,803 |   | $ | 1,583 |   | $ | 8,050 |   | $ | — |   | $ | 68,942 |   |
| Operating income  (loss)               |       | 11,763                                                                                                    |       | 3,410 | (1) | (68 | ) | (541 | ) | (102 | ) | 14,462 |   |
| Interest  expense, net                 |       | 4,179                                                                                                     |       | 516 |   | 117 |   | 230 |   | (25 | ) | 5,017 |   |
| Identifiable  assets                   |       | 701,396                                                                                                   |       | 38,180 |   | 43,550 |   | 1,662 |   | — |   | 784,788 |   |
| Depreciation and  amortization expense |       | 6,690                                                                                                     |       | 552 |   | 460 |   | 91 |   | — |   | 7,793 |   |
| Capital  additions                     |       | 15,840                                                                                                    |       | 199 |   | 871 |   | 309 |   | — |   | 17,219 |   |
|                                        |            |                                                                                                           |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

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(1)  Includes$2,843,000 unrealized gain on purchased power contracts.

 
| ** **                             | ** ** | **As Of And For The Three Months Ended March 31, 2007** | ** ** |
|----------------------------------------|------------|-----------------------------------------------------------------------------------------------------------|------------|
| ** **                             | ** ** | **GSWC**                                                                                                  | ** ** | **CCWC** | ** ** | **ASUS** | ** ** | **AWR** | ** ** | **Consolidated** | ** ** |
| **(dollars in thousands)**   | ** ** | **Water**                                                                                                 | ** ** | **Electric** | ** ** | **Water** | ** ** | **Contracts** | ** ** | **Parent** | ** ** | **AWR** | ** ** |
| Operating  revenues                    |       | $                                                                                                         | 48,688     |   | $ | 8,869 |   | $ | 1,639 |   | $ | 13,074 |   | $ | — |   | $ | 72,270 |   |
| Operating income  (loss)               |       | 10,979                                                                                                    |       | 3,652 | (2) | 151 |   | 2,163 |   | (94 | ) | 16,851 |   |
| Interest  expense, net                 |       | 4,138                                                                                                     |       | 348 |   | 118 |   | 285 |   | 41 |   | 4,930 |   |
| Identifiable  assets                   |       | 674,339                                                                                                   |       | 39,651 |   | 38,724 |   | 799 |   | — |   | 753,513 |   |
| Depreciation and  amortization expense |       | 6,111                                                                                                     |       | 533 |   | 397 |   | 48 |   | — |   | 7,089 |   |
| Capital additions                      |       | 8,978                                                                                                     |       | 561 |   | 395 |   | 31 |   | — |   | 9,965 |   |
|                                        |            |                                                                                                           |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

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(2)  Includes$2,710,000 unrealized gain on purchased power contracts.

 

**Note 9 — Business Acquisition:**

 

ASUS, through itswholly-owned subsidiaries, entered into agreements with the U.S. government tooperate and maintain the water and wastewater systems at various military basespursuant to 50-year firm, fixed price contracts with prospective priceredeterminations.  ASUS, through itswholly owned subsidiaries, entered into subcontracts with a single subcontractor pursuant to which thesubcontractor agreed to provide wastewater services to ASUS’ subsidiaries atbases in Maryland, New Mexico, Texas and Virginia.  On January 31, 2008, ASUS and itssubsidiaries agreed to buy-out all rights which this subcontractor had toprovide wastewater services at these bases and any future rights that thesubcontractor or any of its affiliates might have to provide wastewaterservices as a subcontractor to ASUS or any of its subsidiaries at any otherbases for an aggregate purchase price of approximately $2.5 million,including a charge to income of $213,000 during the first quarter of 2008for settlement of the preexisting relationship with the subcontractor.  The purchase also included the acquisition ofsubstantially all assets used by the subcontractor in providing the wastewaterservices, including all vehicles, tools, supplies, equipment and books andrecords totaling approximately $611,000.  The acquisition alsoresulted in the recording of approximately $1.1 million of goodwill and$571,000 of identifiable intangible assets subject to amortization.   This acquisition was not material toRegistrant’s financial position or results of operations.  

 

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**Item 2. Management’s Discussionand Analysis of Financial Condition and Results of Operations**

 

# **General**

#  

AWR isthe parent company of GSWC, CCWC and ASUS and its subsidiaries, Fort BlissWater Services Company (“FBWS”), Terrapin Utility Services, Inc. (“TUS”),Old Dominion Utility Services, Inc. (“ODUS”), Palmetto State UtilityServices, Inc. (“PSUS”) and Old North Utility Services, Inc. (“ONUS”).AWR was incorporated as a California corporation in 1998 as a holdingcompany.  AWR has three reportablesegments: water, electric and contracted services. Within the segments, AWR hasthree principal business units: water and electric service utility operationsconducted through GSWC, a water-service utility operation conducted throughCCWC, and a contracted services unit conducted through ASUS and itssubsidiaries.

 

GSWCis a California public utility company engaged principally in the purchase,production and distribution of water. GSWC also distributes electricity in onecustomer service area. GSWC is regulated by the California Public UtilitiesCommission (“CPUC”) and was incorporated as a California corporation on December 31,1929. GSWC is organized into one electric customer service area and three waterservice regions operating within 75 communities in 10 counties in the State ofCalifornia and provides water service in 21 customer service areas. Region Iconsists of 7 customer service areas in northern and central California; RegionII consists of 4 customer service areas located in Los Angeles County; andRegion III consists of 10 customer service areas in eastern Los Angeles County,and in Orange, San Bernardino and Imperial counties. GSWC also provideselectric service to the City of Big Bear Lake and surrounding areas in SanBernardino County through its Bear Valley Electric Service (“BVES”) division.

 

GSWC served 254,364 water customers and 23,141electric customers at March 31, 2008, or a total of 277,505 customers,compared with 277,303 total customers at March 31, 2007. GSWC’s utilityoperations exhibit seasonal trends. Although GSWC’s water utility operationshave a diversified customer base, residential and commercial customers accountfor the majority of GSWC’s water sales and revenues. Revenues derived fromcommercial and residential water customers accounted for approximately 91% of total water revenues for thethree months ended March 31, 2008 and 2007.

 

CCWCis an Arizona public utility company serving 13,482 customers as of March 31,2008, compared with 13,395 customers at March 31, 2007. Located in thetown of Fountain Hills, Arizona and a portion of the City of Scottsdale,Arizona, the majority of CCWC’s customers are residential. The ArizonaCorporation Commission (“ACC”) regulates CCWC.

 

ASUS,through its wholly-owned subsidiaries, has contracted with the U.S. governmentto provide water and wastewater services, including the operation andmaintenance of water and wastewater systems pursuant to 50-year fixed pricecontracts, which are subject to periodic price redeterminations andmodifications for changes in circumstances. During the first quarter of 2008,ASUS commenced operations at two bases located in North Carolina and SouthCarolina.  All of the contracts with theU.S. government may be terminated, in whole or in part, prior to the end of the50-year term for convenience of the U.S. government or as a result of defaultor nonperformance by the subsidiary performing the contract. In either event,the ASUS subsidiary is entitled to recover the remaining amount of its capitalinvestment pursuant to the terms of a termination settlement with the U.S.government at the time of termination as provided in each of the contracts. Thecontract price for each of these contracts is subject to redetermination twoyears after commencement of operations and every three years thereafter to theextent provided in each of the contracts. Prices are also subject to equitableadjustment based upon changes in circumstances and changes in wages and fringebenefits to the extent provided in each of the contracts.

 

ASUSand GSWC have been pursuing an opportunity to provide retail water serviceswithin the service area of the Natomas Central Mutual Water Company (“Natomas”).Natomas is a California mutual water company which currently provides waterservice to its shareholders, primarily for agricultural irrigation in portionsof Sacramento and Sutter counties in northern California. In August 2004,Natomas and ASUS entered into a contract under which ASUS acts as the exclusiveagent for marketing water that has become temporarily surplus to the internalneeds of Natomas, to third parties outside the Natomas service area, and thatarises under water rights permits and contracts owned or controlled by Natomas.On January 31, 2006, ASUS and Natomas entered into a water purchase andsale agreement under which ASUS will acquire 5,000 acre-feet of permanentSacramento River water diversion rights from Natomas. Pursuant to the terms ofthis agreement, Natomas will sell, transfer and convey to ASUS, in perpetuity,water rights and entitlements to divert from the Sacramento River up to 5,000acre-feet of water per year for consumptive use, subject to certain regulatoryapprovals. Terms of the acquisition, among other 

 

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things, include a baseprice of $2,500 per acre-foot of water, with payments contingent on achievementof specific milestones and events over a 10-year period. After firstdetermining whether a need for the water exists in Sutter County, ASUS may usethe water rights acquired from Natomas to serve existing customers, to re-sellto other beneficial users, or to pursue and serve expanded service territories.

 

Pursuant to the marketingservices agreement described above, ASUS will attempt to arrange for the saleand transfer of Natomas’ temporarily surplus water for beneficial use beyondthe Natomas service area.  Natomas willpay to ASUS a commission of 16% of the lease or sale price for any such watersuccessfully marketed by ASUS. At the same time that the water purchaseagreement was completed, Natomas and ASUS also entered into a settlementagreement that released Natomas from previously established reimbursementobligations under prior agreements.  Inaccordance with the marketing agreement, Natomas shareholders voted in December 2007to approve the sale of 8,000 to 10,000 acre-feet of Natomas’ Central ValleyProject water to the City of Folsom, subject to certain regulatory andenvironmental approvals. The base price to be paid by Folsom is $4,000 peracre-foot.

 

GSWC and Natomas havealso entered into an agreement under which GSWC agreed to purchase and Natomasagreed to sell up to 30,000 acre-feet per year of water to be used exclusivelyby GSWC to serve customers in Sutter County, California. Additionally, GSWCfiled for a Certificate of Public Convenience and Necessity with the CPUC on May 31,2006 to provide retail water service in a portion of Sutter County, Californiawithin the Natomas service area. CPUC review of the application has beendeferred pending completion of an environmental assessment for the proposed newwater service. All of the agreements with Natomas are subject to receipt ofvarious regulatory approvals required for their full implementation.

 

**Overview**

 

Registrant’s revenues,operating income, and cash flows are earned primarily through deliveringpotable water to homes and businesses through approximately 2,900 miles ofwater distribution pipelines. Rates charged to customers of GSWC and CCWC aredetermined by the CPUC and ACC, respectively. These rates are intended to allowrecovery of operating costs and a fair rate of return on capital. Factorsrecently affecting financial performance include the process and timing ofsetting rates charged to customers; the ability to recover, and the process forrecovering in rates, the costs of distributing water and electricity; weather;the impact of increased water quality standards on the cost of operations andcapital expenditures; pressures on water supply caused by population growth,more stringent water quality standards, deterioration in source water quality,climate change and restrictions on the delivery of purchased water affecting deliveries of water from theColorado River and the State Water Project; capital expenditures needed toupgrade water systems and increased costs and risks associated with litigationrelating to water quality and water supply, including suits initiated byRegistrant to protect its water supply; and delays in receiving payments fromthe U.S. government and receiving redetermination of prices and equitableadjustment of prices under contracts with the U.S. government.

 

Registrant plans tocontinue to seek additional rate increases in future years to recover operatingand supply costs and receive fair returns on invested capital. Capitalexpenditures in future years are expected to remain at much higher levels thandepreciation expense. Cash solely from operations is not expected to besufficient to fund Registrant’s needs for capital expenditures, dividends,investments in Registrant’s contract business and other cash requirements.Registrant expects to fund a portion of these needs through a combination ofdebt and common stock offerings in the ensuing years. AWR expects to issueequity in 2008.

 

Operating revenues andincome from contracted services at ASUS and its subsidiaries are earnedprimarily from the operation and maintenance of water and wastewater systemsfor the U.S. government at various military bases. All of the operations andmaintenance contracts with the U.S. government are 50-year firm, fixed-pricecontracts with prospective price redeterminations. ASUS also may generaterevenues from the construction of infrastructure improvements at these basespursuant to the terms of these 50-year contracts or pursuant to supplementalcontracts. Revenues generated by contract operations are primarily dependent onthese new business activities, including military base operations and theconstruction of new and/or replacement infrastructure at these military bases.ASUS plans to continue seeking contracts for the operation and maintenance ofwater and wastewater services at military bases.

 

Derivative accounting isrequired for the purchased power contracts at GSWC’s Bear Valley ElectricService (“BVES”) division.  Unrealizedgains and losses on purchased power contracts have been impacting GSWC’searnings since 2002 when GSWC entered into certain purchased powercontracts.  These contracts 

 

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qualified as derivativeinstruments under SFAS No. 133, *“Accounting for DerivativeInstruments and Hedging Activities.”* The purpose of the purchased power contract,which qualifies as a derivative instrument, is to stabilize Registrant’spurchased power costs.  The power purchased under the contract is onlyused to service electric customers’ demand and Registrant does not engage intrading of purchased power.   Although the unrealized gains and lossesresult in significant fluctuations to the income statement, there is no effecton Registrant’s cash flows.  When analyzing the financial performance ofAWR, Registrant excludes the effect of unrealized derivative gains or losses,as they are not reflective of day-to-day operations.  The unrealizedderivative gains and losses are reflective of changes in future electricitycosts that are outside of management’s control. Due to increasing energy prices, during the three months ended March 31,2008 and 2007, Registrant recorded pretax unrealized gains on purchased powercontracts of $2.8 million and $2.7 million, respectively.  Diluted earnings per share for the threemonths ended March 31, 2008 and 2007 were $0.30 and $0.40,respectively.  Eliminating the effects ofthese unrealized derivative gains, diluted earnings per share for the threemonths ended March 31, 2008 and 2007 would have decreased by $0.10 pershare and $0.09 per share, respectively.

 

**SummaryResults by Segment**

 

AWR has three reportablesegments: water, electric and contracts operation. Within the segments, AWR hasthree principal business units: water and electric service utility operationsconducted through GSWC, a water-service utility operation conducted throughCCWC, and a contracted services unit through ASUS and its subsidiaries.  The tables below set forth summaries of theresults by segment (amounts in thousands):

 
| ** **             | ** ** | **Operating Revenues** | ** ** | **Pretax Operating Income** | ** ** |
|------------------------|------------|-----------------------------|------------|---------------------------------------|------------|
| ** **             | ** ** | **3 Months**           | ** ** | **3 Months**                     | ** ** | ** ** | ** ** | ** ** | ** ** | **3 Months** | ** ** | **3 Months** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **             | ** ** | **Ended**                   | ** ** | **Ended**                             | ** ** | **$** | ** ** | **%** | ** ** | **Ended** | ** ** | **Ended** | ** ** | **$** | ** ** | **%** | ** ** |
| ** **             | ** ** | **3/31/2008**               | ** ** | **3/31/2007**                         | ** ** | **CHANGE** | ** ** | **CHANGE** | ** ** | **3/31/2008** | ** ** | **3/31/2007** | ** ** | **CHANGE** | ** ** | **CHANGE** | ** ** |
|                   |       |                        |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Water                  |       | $                           | 52,089     |                                  | $          | 50,327 |   | $ | 1,762 |   | 3.5 | % | $ | 11,695 |   | $ | 11,130 |   | $ | 565 |   | 5.1 | % |
| Electric               |       | 8,803                       |       | 8,869                                 |       | (66 | ) | -0.7 | % | 3,410 |   | 3,652 |   | (242 | ) | -6.6 | % |
| Contracted  services   |       | 8,050                       |       | 13,074                                |       | (5,024 | ) | -38.4 | % | (541 | ) | 2,163 |   | (2,704 | ) | -125.0 | % |
| AWR parent             |       | —                      |       | —                                |       | — |   | — |   | (102 | ) | (94 | ) | (8 | ) | -8.5 | % |
| Totals from  operation |       | $                           | 68,942     |                                  | $          | 72,270 |   | $ | (3,328 | ) | -4.6 | % | $ | 14,462 |   | $ | 16,851 |   | $ | (2,389 | ) | -14.2 | % |

 

***Water -***Forthe three months ended March 31, 2008, pretax operating income for waterincreased by $565,000, or 5.1%, primarily due to a $2.7 million increase inwater margin as compared to the same period of 2007 caused by higher waterrates approved by the CPUC that were effective January 1, 2008 and afavorable change in the water supply mix, partially offset by lowerconsumption.  There was an 8.1% decreasein water consumption during the first quarter of 2008 compared to the sameperiod in 2007.  The 2007 first quarterresults benefited from lower than average precipitation.  Due to the decrease in consumption,Registrant’s water revenues were lower by approximately $2.6 million, orapproximately $0.06 per share. Differences in temperature and rainfall in Registrant’s service areasimpact sales of water to customers, causing fluctuations in Registrant’srevenues and earnings between comparable periods.  Higher operating expenses, as more fullydescribed later, also decreased pretax operating income by $2.1 million.

 

***Electric-***For thethree months ended March 31, 2008, pretax operating income from electricoperations decreased by $242,000 or 6.6% due to a $273,000 decrease in electricmargin primarily caused by: (i) a decrease of $141,000 in other electricrevenues which are comprised of new connection and reconnection fees, and (ii) therecording of a regulatory liability of approximately $104,000, with acorresponding reduction in electric revenues, for probable refunds to customersrelated to the 8.4 MW natural gas-fueled generation plant. In April 2005,new customer rates went into effect related to this generation plant, whichresulted in an increase of approximately $2.3 million in annual revenuebased on an estimated total capital-related cost of $13 million. The ratesare subject to refund pending the CPUC’s final cost review, which is scheduled tooccur in 2008 as part of  the filing ofBVES’ general rate case. The CPUC also ordered GSWC to establish a memorandumaccount to track the capital-related costs of the generation plant. If actualrecorded costs in the memorandum account are less than the costs authorized bythe CPUC of $13 million, the revenue requirement for the difference is tobe refunded to customers. During the third quarter of 2007, GSWC receivedvendor credits of approximately $851,000, which reduced the actual recorded costsof the generation plant to approximately $12.5 million. As mentioned earlier,there were unrealized gains on BVES’s purchased power contracts in the firstquarters of 2008 and 2007 due to increasing energy prices.  The 

 

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unrealized gain onpurchased power contracts increased operating income by approximately $2.8million for the three months ended March 31, 2008, as compared to $2.7million for the same period in 2007.

 

***Contracted Services -***For the three months ended March 31, 2008, pretaxoperating income for contracted services decreased by $2.7 million.  This was primarily due to a significantwastewater expansion construction project in 2007 with the U.S. government. In December 2006,a subsidiary of ASUS finalized an agreement with the U.S. government for theconstruction of certain improvements to the existing wastewater infrastructurelocated at Fort Bliss in El Paso, Texas. The $20.6 million special project was a firm-fixed price contract, andwas an amendment to the 50-year contract with the U.S. government to manage theentire water and wastewater systems at Fort Bliss.  This project generated approximately $2.2million in pretax operating income during the first quarter of 2007. Theproject was completed in August 2007. There was no similar significantproject during the three months ended March 31, 2008. Earnings and cashflows from amendments and modifications to the original 50-year contracts withthe U.S. government are sporadic and may or may not continue in the futureperiods.

 

Higher administrative andgeneral expenses in the first quarter of 2008 also contributed to the decreasein ASUS’ pretax operating income caused primarily by higher labor and employeebenefits, and an increase in outside services for legal and consultingwork.  Higher outside services wereincurred during the first quarter of 2008 in connection with the acquisition ofthe subcontractor that provided wastewater services to ASUS’ subsidiaries atthe various military bases.  On January 31,2008, ASUS and its subsidiaries agreed to buy-out all rights which thissubcontractor had to provide wastewater services at these bases and any futurerights that the subcontractor or any of its affiliates might have to providewastewater services as a subcontractor to ASUS or any of its subsidiaries atany other bases for an aggregate purchase price of approximately $2.5million.  The purchase also included theacquisition of substantially all assets used by the subcontractor in providingthe wastewater services, including all vehicles, tools, supplies, equipment andbooks and records.  As a result of thistransaction, ASUS also recorded a charge of$213,000 during the first quarter of 2008 for settlement of the preexistingrelationship with the subcontractor.

 

Furthermore, finaldecisions on the general rate case for GSWC’s Region II and the application torecover general office expenses at the corporate headquarters allocated toRegions II and III were approved on November 16, 2007.  The decisions also imposed an increasedallocation of corporate headquarters’ expenses to ASUS and its wholly-ownedsubsidiaries, which caused a decrease in contracted services’ first quarter2008 pretax operating income of approximately $151,000.  This higher allocation of expenses was notcontemplated at the time the contracts with the U.S. government werenegotiated.

 

The timely receipt ofprice redeterminations is critical in order to cover ASUS’ increasing costs foroperating and maintaining the water and wastewater systems at the militarybases.  The contract price for each ofthese military contracts is subject to price redetermination two years aftercommencement of operations and every three years thereafter to the extentprovided in each of the contracts.  Redeterminations have been submitted and areunder review by the U.S. government for ASUS’ ODUS and TUS operations inVirginia and Maryland, respectively. Resolution of these redeterminations is expected during 2008.  ASUS has experienced delays in the redeterminationof prices at Fort Bliss following completion of the first two years ofoperation in October 2006.  At FortBliss, management fees for operation and maintenance of the water andwastewater systems, which were based on cost levels prevailing in 2002 when thecontract was first being negotiated, have not been adjusted as yet toadequately cover increased operating costs. Further, the contract pricing was also based on assumptions about thesize and age of the infrastructure being operated and maintained over the50-year contract.  A request forequitable adjustment has been filed as a claim with the U.S. government toadequately reflect the amount of assets included in the infrastructure at FortBliss, which is substantially more than originally estimated by the U.S.government as part of its solicitation for this contract.   Requests for equitable adjustments provideopportunity for both retrospective and prospective adjustments to revenues andare subject to the terms of the contract and regulations. With the filing ofthis claim, ASUS is also preparing the price redetermination for Fort Bliss andexpects to file it by the third quarter of 2008.   These price redeterminations, which includeadjustments to reflect changes in operating conditions and infrastructurelevels from that assumed at the time of the execution of the contracts as wellas inflation in costs, are expected to provide added revenues prospectively tohelp offset increased costs and provide Registrant the opportunity to generate positiveoperating income from operating activities.

 

Thefollowing discussion and analysis provides information on AWR’s consolidatedoperations and assets and where necessary, includes specific references to AWR’sindividual segments and/or other subsidiaries: GSWC, CCWC, ASUS and itssubsidiaries.

 

27

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***ConsolidatedResults of Operations — Three Months Ended March 31, 2008 and 2007(amounts in thousands):***

** **
| ** **                                        | ** ** | **3 Months** | ** ** | **3 Months** | ** ** | ** ** | ** ** | ** ** | ** ** |
|---------------------------------------------------|------------|-------------------|------------|-------------------|------------|------------|------------|------------|------------|
| ** **                                        | ** ** | **Ended**         | ** ** | **Ended**         | ** ** | **$**      | ** ** | **%**      | ** ** |
| ** **                                        | ** ** | **3/31/2008**     | ** ** | **3/31/2007**     | ** ** | **CHANGE** | ** ** | **CHANGE** | ** ** |
| OPERATING  REVENUES                               |       |              |       |              |       |       |       |       |       |
| Water                                             |       | $                 | 52,089     |              | $          | 50,327     |       | $          | 1,762      |   | 3.5 | % |
| Electric                                          |       | 8,803             |       | 8,869             |       | (66        | )          | -0.7       | %          |
| Contracted  services                              |       | 8,050             |       | 13,074            |       | (5,024     | )          | -38.4      | %          |
| Total operating  revenues                         |       | 68,942            |       | 72,270            |       | (3,328     | )          | -4.6       | %          |
|                                              |       |              |       |              |       |       |       |       |       |
| OPERATING  EXPENSES                               |       |              |       |              |       |       |       |       |       |
| Water purchased                                   |       | 7,953             |       | 8,873             |       | (920       | )          | -10.4      | %          |
| Power purchased  for pumping                      |       | 1,680             |       | 2,118             |       | (438       | )          | -20.7      | %          |
| Groundwater  production assessment                |       | 2,375             |       | 2,279             |       | 96         |       | 4.2        | %          |
| Power purchased  for resale                       |       | 4,239             |       | 4,281             |       | (42        | )          | -1.0       | %          |
| Unrealized gain  on purchased power contracts     |       | (2,843            | )          | (2,710            | )          | (133       | )          | 4.9        | %          |
| Supply cost  balancing accounts                   |       | (107              | )          | (720              | )          | 613        |       | -85.1      | %          |
| Other operating  expenses                         |       | 7,996             |       | 6,597             |       | 1,399      |       | 21.2       | %          |
| Administrative  and general expenses              |       | 14,827            |       | 13,007            |       | 1,820      |       | 14.0       | %          |
| Depreciation and  amortization                    |       | 7,793             |       | 7,089             |       | 704        |       | 9.9        | %          |
| Maintenance                                       |       | 3,772             |       | 2,973             |       | 799        |       | 26.9       | %          |
| Property and  other taxes                         |       | 2,920             |       | 2,930             |       | (10        | )          | -0.3       | %          |
| Construction  expenses                            |       | 3,875             |       | 9,069             |       | (5,194     | )          | -57.3      | %          |
| Net gain on sale  of property                     |       | —            |       | (367              | )          | 367        |       | -100.0     | %          |
| Total operating  expenses                         |       | 54,480            |       | 55,419            |       | (939       | )          | -1.7       | %          |
|                                              |       |              |       |              |       |       |       |       |       |
| OPERATING INCOME                                  |       | 14,462            |       | 16,851            |       | (2,389     | )          | -14.2      | %          |
|                                              |       |              |       |              |       |       |       |       |       |
| OTHER INCOME AND  EXPENSES                        |       |              |       |              |       |       |       |       |       |
| Interest expense                                  |       | (5,378            | )          | (5,496            | )          | 118        |       | -2.1       | %          |
| Interest income                                   |       | 361               |       | 566               |       | (205       | )          | -36.2      | %          |
| Other                                             |       | 114               |       | 69                |       | 45         |       | 65.2       | %          |
|                                              |       | (4,903            | )          | (4,861            | )          | (42        | )          | 0.9        | %          |
|                                              |       |              |       |              |       |       |       |       |       |
| INCOME FROM  OPERATIONS BEFORE INCOME TAX EXPENSE |       | 9,559             |       | 11,990            |       | (2,431     | )          | -20.3      | %          |
|                                              |       |              |       |              |       |       |       |       |       |
| Income tax  expense                               |       | 4,255             |       | 5,006             |       | (751       | )          | -15.0      | %          |
|                                              |       |              |       |              |       |       |       |       |       |
| NET INCOME                                        |       | $                 | 5,304      |              | $          | 6,984      |       | $          | (1,680     | ) | -24.1 | % |

 

Net income for the threemonths ended March 31, 2008 was $5.3 million, equivalent to $0.31 and$0.30 per common share on a basic and fully diluted basis, respectively,compared to $7.0 million or $0.40 per basic and diluted common share for thethree months ended March 31, 2007, a reduction of 24.1%. Impacting thecomparability in the results of the two periods on a diluted per share basisare the following significant items:

 

·       An8.1% decrease in water consumption during the first quarter 2008 resulted in a$2.6 million decrease in water revenues, or $0.06 per share. The 2007 firstquarter results benefited from lower than average precipitation.

 

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·                    The water margin increased by $4.4million, or $0.15 per share, during the first quarter 2008, after adjusting forthe lower consumption described previously, due to increased water ratesapproved by the CPUC that were effective January 1, 2008 and a favorablesupply mix change.  However, thisincrease was partially offset by the decrease in consumption previouslydiscussed, resulting in an actual net increase of $2.7 million in water margin,or $0.09 per share.

 

·                    Operating and maintenance expensesincreased at GSWC by $1.0 million, or $0.03 per share, for the first quarter2008 resulting from higher chemical and water treatment costs along with anincrease in routine and emergency maintenance expenses on GSWC’s wells andother water supply sources.

 

·                    Pretax operating income for contractedservices declined by  $2.7 million, or$0.09 per share, during the first quarter 2008 due primarily to a significantwastewater construction project in 2007 at Fort Bliss.  ASUS recognized pretax operating income of$2.2 million from the wastewater expansion project during the first quarter2007.  There was no similar specialproject during the three months ended March 31, 2008.  Higher administrative and general expensesalso contributed to the decrease in pretax operating income.

 

·                    GSWC recorded a net gain on disposal ofproperty of $367,000, or $0.01 per share, during the three months ended March 31,2007.  There was no similar gain in thesame period of 2008.

 

·                    Higher other expenses primarilyconsisting of administrative and general expenses and depreciation expense, aswell an increase in the effective tax rate and other items described below,contributed to an overall decrease of $0.06 per diluted share to the results ofoperations.

 

***Operating Revenues***

 

*Water*

 

For the three monthsended March 31, 2008, revenues from water operations increased by 3.5% to$52.1 million, compared to $50.3 million for the three months ended March 31,2007. Contributing to this increase were rate increases approved by the CPUCeffective January 1, 2008, which added approximately $4.3 million in thefirst quarter of 2008 to water revenues. This increase was partially offset by a decrease of 8.1% in waterconsumption due to wetter weather which caused water revenues to be lower byapproximately $2.6 million.  Differencesin temperature and rainfall in Registrant’s service areas impact sales of waterto customers, causing fluctuations in Registrant’s revenues and earningsbetween comparable periods.

 

*Electric*

 

For the three monthsended March 31, 2008, revenues from electric operations decreased slightlyby 0.7% to $8.8 million compared to $8.9 million for the three months ended March 31,2007 due primarily to the increase of $104,000 in the regulatory liability,with a corresponding decrease in revenues, for probable refunds to customersrelated to the 8.4 MW natural gas-fueled generation plant, previouslydiscussed.  There was also a decrease inother electric revenues which are comprised of new connection and reconnectionfees.  These decreases were partiallyoffset by higher electric usage.

 

*ContractedServices*

 

Revenues from contractedservices are comprised of construction revenues and management fees foroperating and maintaining the water and wastewater systems at military bases.For the three months ended March 31, 2008, revenues from contractedservices decreased by $5.0 million, or 38.4%, to $8.1 million compared to $13.1million for the three months ended March 31, 2007 primarily due torevenues in 2007 related to the wastewater expansion project at Fort Bliss,previously discussed.  This specialproject, which began in early 2007, generated $10.4 million of constructionrevenues for the three months ended March 31, 2007.  The project was completed in August 2007.Earnings and cash flows from amendments and modifications to the original50-year contracts with the U.S. government are sporadic and may or may notcontinue in the future periods. The year over year revenue decrease resultingfrom this special project was partially offset by an increase in constructionrevenues at Andrews Air Force Base pursuant to its 50-year firm-fixed pricecontract, as well as other construction revenues at the other military bases,during the three months ended March 31, 2008.  There were also additional revenues during2008 

 

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generated from operatingand maintaining the water and wastewater systems under the two new contracts inNorth Carolina and South Carolina, both of which began during the first quarterof 2008.

 

Registrant relies uponrate approvals by state regulatory agencies in California and Arizona toprovide for a return on invested and borrowed capital used to fund utilityplant, and price redeterminations and equitable adjustments by the U.S.government in order to recover operating expenses and profit margin. Ifadequate rate relief and price redeterminations and adjustments are not grantedin a timely manner, operating revenues and earnings can be negatively impacted.

 

***Operating Expenses:***

 

***Supply Costs***

 

Supply costs for thewater segment consist of purchased water, purchased power for pumping,groundwater production assessments and water supply cost balancing accounts.Supply costs for the electric segment consist of purchased power for resale(including the cost of natural gas) and the electric supply cost balancingaccount*.* Water and electric margins arecomputed by taking total revenues, less total supply costs. Registrant usesthese margins and related percentages as an important measure in evaluating itsoperating results. Registrant believes this measure is a useful internalbenchmark in evaluating the utility business performance within its water andelectric segments. Registrant reviews these measurements regularly and comparesthem to historical periods and to our operating budget as approved. However,this measure, which is not presented in accordance with Generally AcceptedAccounting Principles (“GAAP”), may not be comparable to similarly titledmeasures used by other entities and should not be considered as an alternativeto operating income, which is determined in accordance with GAAP, as anindicator of operating performance.

 

Total supply costscomprise the largest segment of total operating expenses. Supply costsaccounted for approximately 30% of total operating expenses for the threemonths ended March 31, 2008 and 2007, respectively. The table belowprovides the amount of increases (decreases), percent changes in supply costs,and margins during the three months ended March 31, 2008 and 2007 (amountsin thousands):

 
| ** **                                       | ** ** | **3 Months** | ** ** | **3 Months** | ** ** | ** ** | ** ** | ** ** | ** ** |
|--------------------------------------------------|------------|-------------------|------------|-------------------|------------|------------|------------|------------|------------|
| ** **                                       | ** ** | **Ended**         | ** ** | **Ended**         | ** ** | **$**      | ** ** | **%**      | ** ** |
| ** **                                       | ** ** | **3/31/2008**     | ** ** | **3/31/2007**     | ** ** | **CHANGE** | ** ** | **CHANGE** | ** ** |
| WATER OPERATING  REVENUES **(1)**                |       | $                 | 52,089     |              | $          | 50,327     |       | $          | 1,762      |   | 3.5 | % |
| WATER SUPPLY  COSTS:                             |       |              |       |              |       |       |       |       |       |
| Water purchased **(1)**                          |       | $                 | 7,953      |              | $          | 8,873      |       | $          | (920       | ) | -10.4 | % |
| Power purchased  for pumping **(1)**             |       | 1,680             |       | 2,118             |       | (438       | )          | -20.7      | %          |
| Groundwater  production assessment **(1)**       |       | 2,375             |       | 2,279             |       | 96         |       | 4.2        | %          |
| Water supply  cost balancing accounts **(1)**    |       | (1,162            | )          | (1,526            | )          | 364        |       | -23.9      | %          |
| TOTAL WATER  SUPPLY COSTS                        |       | $                 | 10,846     |              | $          | 11,744     |       | $          | (898       | ) | -7.6 | % |
| WATER MARGIN**(2)**                              |       | $                 | 41,243     |              | $          | 38,583     |       | $          | 2,660      |   | 6.9 | % |
| PERCENT MARGIN -  WATER                          |       | 79.2              | %          | 76.7              | %          |       |       |       |       |
|                                             |       |              |       |              |       |       |       |       |       |
| ELECTRIC  OPERATING REVENUES **(1)**             |       | $                 | 8,803      |              | $          | 8,869      |       | $          | (66        | ) | -0.7 | % |
| ELECTRIC SUPPLY  COSTS:                          |       |              |       |              |       |       |       |       |       |
| Power purchased  for resale **(1)**              |       | $                 | 4,239      |              | $          | 4,281      |       | (42        | )          | -1.0 | % |
| Electric supply  cost balancing accounts **(1)** |       | 1,055             |       | 806               |       | 249        |       | 30.9       | %          |
| TOTAL ELECTRIC  SUPPLY COSTS                     |       | $                 | 5,294      |              | $          | 5,087      |       | $          | 207        |   | 4.1 | % |
| ELECTRIC MARGIN **(2)**                          |       | $                 | 3,509      |              | $          | 3,782      |       | $          | (273       | ) | -7.2 | % |
| PERCENT MARGIN -  ELECTRIC                       |       | 39.9              | %          | 42.6              | %          |       |       |       |       |

 

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(1)           As reported on AWR’s Consolidated Statements ofIncome, except for supply cost balancing accounts. The sum of water andelectric supply cost balancing accounts in the table above are shown on AWR’sConsolidated Statements of Income and totaled ($107,000) and ($720,000) for thethree months ended March 31, 2008 and 2007, respectively.

 

(2)           Water and electric margins do not include any depreciationand amortization, maintenance expense, unrealized gains and losses on purchasedpower contracts, or other operating expenses.

 

Two of the principalfactors affecting water supply costs and gross margin are the amount of waterproduced and the source of the water. Generally, the variable cost of producingwater from wells is less than the cost of water purchased from wholesalesuppliers. In addition, GSWC is authorized to establish water and electricsupply cost balancing accounts for increases and/or decreases in costs due tochanges in rates charged by its suppliers which provide purchased water andpurchased power, and by agencies assessing groundwater related pump taxes forwater service areas in California. Higher or lower actual costs as compared tocosts authorized by the CPUC will either be recovered from or refunded tocustomers in the future. However, changes in the water resource mix betweenwater supplied from purchased sources and that supplied from Registrant’s ownwells can increase/decrease actual supply-related costs relative to the mixapproved for recovery through rates, thereby impacting earnings eithernegatively or positively. GSWC has the opportunity to change the supply-relatedcosts recovered through rates, by application to the CPUC through a generalrate case proceeding. GSWC believes that its applications for recovery ofsupply-related costs accurately reflect the water supply situation as it isknown at the time. Without a “full-cost” balancing account authorized by theCPUC, earnings may fluctuate from adverse changes in supply costs related tounforeseen contamination or other loss of water supply.

 

For the three monthsended March 31, 2008, 37.9% of the Company’s water supply mix waspurchased as compared to 38.9% purchased for the three months ended March 31,2007. Because cost for water purchased is generally higher than pumped waterfrom our own wells, this change in mix resulted in the improvement in water’spercent margin by about one percentage point, or $524,000, in 2008 compared tothe same period in 2007.  In addition,water gross margin for the three months ended March 31, 2007 included aone-time lease of pumped water rights from the City of Pomona in order to allowGSWC to pump more water.  The price ofthis lease paid by GSWC totaled $226,000 and was for 1,000 acre-feet of storedwater in eastern Los Angeles County. There were no similar water rights leased by GSWC from others in thefirst quarter of 2008.

 

Purchased water costs forthe three months ended March 31, 2008 decreased by 10.4% to $8.0 millioncompared to $8.9 million for the three months ended March 31, 2007.  The decrease was primarily due to lowercustomer consumption and a favorable change in the supply mix discussedabove.  Also as previously discussed,purchased water in the first quarter of 2007 included a $226,000 payment forthe one-time lease of pumped water rights. These decreases were partially offset by higher water rates charged fromwholesale suppliers.  In general, thesupply cost balancing account as discussed above allows GSWC to trackincremental rate changes from suppliers, for future recovery in waterrates.  The favorable change in supplymix allowed GSWC to serve a portion of the increased customer demand fromgroundwater production rather than wholesale purchases, primarily because ofthe return to service or replacement of wells which had been removed fromservice as a result of water quality issues and mechanical problems.

 

For the three monthsended March 31, 2008, the decrease of 20.7% in power purchased for pumpingwas principally due to significantly lower customer demand, partially offset bya favorable change in the supply mix, as discussed above.  Groundwater production assessments werehigher by 4.2% due to a favorable change in supply mix and increases inassessment rates (pump tax rates) levied against groundwater production,effective July 2007.  Average pumptax rates increased in Region II and III by approximately 8% and 6%,respectively, between the first quarters of 2008 and 2007.  These increases in groundwater productionassessments were partially offset by lower customer demand.  Again, the supply cost balancing accounttracks the increases in pump tax rates for future recovery in water rates.

 

The supply cost balancingaccount tracks differences between the current cost for supply items (water,power, and pump taxes) charged by GSWC’s suppliers and the cost for those itemsincorporated into GSWC’s rates. Overcollections occur when the current cost ofthese items is less than the amount in rates which has the effect of increasingthe supply cost balancing account in the Statements of Income. Undercollectionsoccur when the current cost exceeds the amount in rates for these items and,conversely, will have the effect of decreasing the supply cost balancingaccount in the Statements of Income. Typically, overcollections orundercollections, when they occur, are 

 

31

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tracked in the supplycost balancing accounts for future refund or recovery through a surcredit (inthe event of an overcollection) or surcharge (in the event of anundercollection) on customers’ bills. Once in rates, the amortization ofsurcharges that are in place to recover under-collections from customers havethe effect of increasing the supply cost balancing account and increasingrevenues in the Statements of Income, resulting in no earnings impact.Conversely, the amortization of surcredits that are in rates to refundover-collections to customers have the effect of decreasing the supply costbalancing account and decreasing revenues, also resulting in no earningsimpact.

 

An increase of $364,000in the water supply cost balancing account provision during the three monthsended March 31, 2008 as compared to the same period in 2007 was primarilydue to a net decrease totaling $182,000 of under-collections in 2008 comparedto the same period in 2007.  The decreasewas caused by recent CPUC decisions that updated the authorized rates forsupply costs, therefore, lowering the level of under-collections beingrecorded.  There was also a $158,000decrease in interest earned on the supply cost balancing accounts.  Registrant accrues interest on itsunder-collections in the supply cost balancing accounts at the rate prevailingfor 90-day commercial paper.

 

For the three monthsended March 31, 2008, the cost of power purchased for resale to customersin GSWC’s BVES division decreased by 1% to $4.2 million compared to $4.3million for the three months ended March 31, 2007 reflectingan increase in sales of surplus power to the spot market at higher energyprices.   Income from the spot marketsales for the three months ended March 31, 2008 decreased the cost ofpower purchased for resale and increased the electric supply cost balancingaccount provision, respectively, with no impact to the electric margin.   This decrease was partially offset by highercustomer demand during the first quarter of 2008.

 

***Unrealized (Gain) Loss on Purchased Power Contracts***

 

Unrealized (gain) andloss on purchased power contracts represent gains and losses recorded for GSWC’spurchased power agreements with Morgan Stanley Capital Group, Inc. The$2.8 million pretax unrealized gain on purchased power contracts for the threemonths ended March 31, 2008 is due to an increase in the current forwardmarket prices since December 31, 2007. There was a $2.7 million pretaxunrealized gain on purchased power contracts for the three months ended March 31,2007. Unrealized gains and losses at BVES will continue to impact earningspositively or negatively during the life of the contract, which terminates atthe end of 2008.  As of March 31,2008, there is a cumulative unrealized gain of $1.3 million which will berecognized as a decrease to income by December 31, 2008.

 

***Other Operating Expenses***

 

The primary components ofother operating expenses include payroll, materials and supplies, chemicals andwater treatment, and outside service costs of operating the regulated watersystems, including the costs associated with water transmission anddistribution, pumping, water quality, meter reading, billing, and operations ofdistrict offices.  Registrant’s electricand contracted services operations incur many of the same types of costs aswell.  For the three months ended March 31,2008 and 2007, other operating expenses by segment consisted of the following(amounts in thousands):

 
| ** **                      | ** ** | **3 Months** | ** ** | **3 Months** | ** ** | ** ** | ** ** | ** ** | ** ** |
|---------------------------------|------------|-------------------|------------|-------------------|------------|------------|------------|------------|------------|
| ** **                      | ** ** | **Ended**         | ** ** | **Ended**         | ** ** | **$**      | ** ** | **%**      | ** ** |
| ** **                      | ** ** | **3/31/2008**     | ** ** | **3/31/2007**     | ** ** | **CHANGE** | ** ** | **CHANGE** | ** ** |
| Water Services                  |       | $                 | 5,702      |              | $          | 5,451      |       | $          | 251        |   | 4.6 | % |
| Electric  Services              |       | 587               |       | 390               |       | 197        |       | 50.5       | %          |
| Contracted  Services            |       | 1,707             |       | 756               |       | 951        |       | 125.8      | %          |
| Total other  operating expenses |       | $                 | 7,996      |              | $          | 6,597      |       | $          | 1,399      |   | 21.2 | % |

 

For the three months ended March 31, 2008, otheroperating expenses for water services increased by 4.6% due primarily to higherchemicals and water treatment costs, including supplies and materials, ofapproximately $149,000. There was also an increase in labor costs of $262,000due to higher wages and related benefits, as well as an increase of $141,000 inbad debt expense.   These increases werepartially offset by lower outside service costs of $282,000 related to the removal ofnitrate and perclorate at various groundwater treatment plants.

 

32

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There was an increase of $197,000 in other operatingexpenses for electric services primarily due to higher wages and relatedbenefits of $127,000, as well as an increase of $50,000 in bad debt expense.

 

Contracted services experienced increases in otheroperating expenses of $951,000 primarily due to the commencement of theoperation of water and wastewater systems at military bases in North Carolinaand South Carolina that began during the first quarter of 2008.  As a result of these new bases, otheroperating expenses increased by $858,000 during the first quarter of 2008.  There was also an increase of approximately$93,000 at the other existing military bases during the first quarter of 2008.

 

***Administrative and General Expenses***

 

Administrative andgeneral expenses include payroll related to administrative and generalfunctions, all employee benefits charged to expense accounts, insuranceexpenses, outside legal and consulting fees, regulatory utility commissionexpenses, expenses associated with being a public company, and generalcorporate expenses. For the three months ended March 31, 2008 and 2007,administrative and general expenses by segment consisted of the following(amounts in thousands):

 
| ** **                                 | ** ** | **3 Months** | ** ** | **3 Months** | ** ** | ** ** | ** ** | ** ** | ** ** |
|--------------------------------------------|------------|-------------------|------------|-------------------|------------|------------|------------|------------|------------|
| ** **                                 | ** ** | **Ended**         | ** ** | **Ended**         | ** ** | **$**      | ** ** | **%**      | ** ** |
| ** **                                 | ** ** | **3/31/2008**     | ** ** | **3/31/2007**     | ** ** | **CHANGE** | ** ** | **CHANGE** | ** ** |
| Water Services                             |       | $                 | 10,844     |              | $          | 10,665     |       | $          | 179        |   | 1.7 | % |
| Electric  Services                         |       | 1,522             |       | 1,440             |       | 82         |       | 5.7        | %          |
| Contracted  Services                       |       | 2,461             |       | 902               |       | 1,559      |       | 172.8      | %          |
| Total  administrative and general expenses |       | $                 | 14,827     |              | $          | 13,007     |       | $          | 1,820      |   | 14.0 | % |

 

For thethree months ended March 31, 2008, administrative and general expensesincreased by $261,000 in water and electric services compared to the threemonths ended March 31, 2007 due to primarily to an increase in labor costsdue to higher wages largely related to Registrant’s annual performance-basedsalary review program, partially offset by a decrease in outside servicesrelating to lower tax and legal services.

 

There was an increase of$1.6 million in contracted services administrative and general expenses dueprimarily to: (i) an increase of approximately $300,000 in outsideservices for legal and consulting work, including costs incurred in connectionwith a business acquisition, discussed previously; (ii) an approximate $393,000increase in labor and employee benefit costs; (iii) an increase of$609,000 due to the commencement of theoperation of water and wastewater systems at military bases in North Carolinaand South Carolina that began during the first quarter of 2008; (iv) acharge of $213,000 relating to a business acquisition and related settlement ofthe preexisting relationship; and (v) an increase of $151,000 in allocationfrom the corporate headquarters to ASUS and its subsidiaries. A final decisionon the general rate case for GSWC’s Region II and the application to covergeneral office expenses allocated to Regions II and III were approved on November 16,2007 and imposed an increased allocation of corporate headquarters’ expenses tocontracted services.

 

***Depreciation and Amortization***

 

For the three monthsended March 31, 2008, depreciation and amortization expense increased by9.9% to $7.8 million compared to $7.1 million for the three months ended March 31,2007 reflecting, among other things, the effects of closing approximately $55.2million of additions to utility plant during 2007, depreciation on which beganin January 2008.  There were alsochanges to the composite depreciation rates recently approved by the CPUC.Registrant anticipates that depreciation expense will continue to increase dueto Registrant’s on-going construction program at its regulated subsidiaries.Registrant believes that depreciation expense related to property additionsapproved by the appropriate regulatory agency will be recovered through waterand electric rates.

 

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***Maintenance***

 

For the three months ended March 31, 2008,maintenance expense increased by 26.9% to $3.8 million compared to $3.0 millionfor the three months ended March 31, 2007 due principally to an increasein planned maintenance programs, such as fire hydrant maintenance and gatevalve maintenance, which are now being addressed at higher levels than in prioryears.  GSWC is also experiencing anincrease in planned well casing treatments and rehabilitations.  By completing planned maintenance, it isanticipated that unplanned maintenance expenses will be reduced in futureperiods.  In addition, during the firstquarter of 2008, several areas experienced increased maintenance expenses suchas repairs to mains, services, hydrants and pumps over the same period of2007.  There were also some welltreatments and reservoir inspections in the first quarter of 2008 that were notconducted in the same period in 2007. Maintenance expenses in 2008 are expected to continue to be higher thanin prior years, but are expected to be within the 2008 budget.  Thesemaintenance increases are included in each general rate case and are generallyrecovered in rates.  However, amounts included ineach general rate case are estimated for future years and variances from thoseestimates may not be covered in rates.

 

***Property and Other Taxes***

 

For the three monthsended March 31, 2008, property and other taxes remained relativelyunchanged.  Additional property taxesresulting from higher assessed values, and increases in payroll taxes based onincreased labor costs, were offset by lower franchise fees.

 

***Construction Expenses***

 

For the three monthsended March 31, 2008, ASUS’ construction expenses decreased to $3.9million compared to $9.1 million for the same period in 2007 reflectingprimarily the costs incurred in 2007 for the wastewater expansion project atFort Bliss.   As previously mentioned,ASUS entered into a $20.6 million project in 2007 for the construction ofcertain improvements to the existing wastewater infrastructure located at FortBliss in El Paso, Texas.   For the threemonths ended March 31, 2007, this project generated $8.2 million inconstruction expenses.  The project wascompleted in August 2007. The decrease in construction expenses because ofthis project was partially offset by other smaller construction projects thatwere completed in the first quarter of 2008.

 

***Net Gain on Sale of Property***

 

For the three months ended March 31, 2007, Registrantrecorded a net pre-tax gain of $367,000 on the sale of property primarilyrelated to a settlement of $325,000 reached with the Los Angeles Unified SchoolDistrict (“LAUSD”) for GSWC’s sale of a parcel of land to LAUSD for the purposeof constructing a high school.  There wasno similar gain in the same period of 2008. Earnings and cash flows from these transactions are sporadic and may ormay not continue in future periods.

 

***Interest Expense***

 

For the three monthsended March 31, 2008, interest expense decreased by 2.1% to $5.4 millioncompared to $5.5 million for the three months ended March 31, 2007primarily reflecting lower short-term interest rates. This was partially offsetby an increase in short-term borrowings. Average bank loan balances outstandingunder an AWR credit facility for the three months ended March 31, 2008were approximately $42 million, as compared to an average of $35 million duringthe same period of 2007.

 

***Interest Income***

 

Interest income decreasedby $205,000 for the three months ended March 31, 2008 due primarily toless interest earned on short-term cash surplus.  There was also a decrease of $129,000 ininterest accrued on the uncollected balance of the Aerojet litigationmemorandum account authorized by the CPUC due to lower interest rates.

 

***Other***

 

For the three months ended March 31, 2008 and 2007,Registrant recorded other income of $114,000 and $69,000, respectively, as aresult of its ownership interest in a non-operating equity investment.

 

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***Income Tax Expense***

 

For the three monthsended March 31, 2008, income tax expense decreased by 15% to $4.3 millioncompared to $5.0 million for the three months ended March 31, 2007 dueprimarily to a decrease in pretax income of 20.3%.  The effective tax rate (“ETR”) for the threemonths ended March 31, 2008 was 44.5% as compared to a 41.8% ETRapplicable to the three months ended March 31, 2007.  The increase in the ETR for the three monthsended March 31, 2008 is principally due to a net increase incompensatory-related flow-through adjustments.The variance between the ETR andthe statutory tax rate primarily results from differences between book andtaxable income that are treated as flow-through adjustments in accordance withregulatory requirements.  Flow-throughadjustments increase or decrease tax expense in one period, with an offsettingincrease or decrease occurring in another period.

 

**CriticalAccounting Policies and Estimates**

 

Criticalaccounting policies and estimates are those that are important to the portrayalof AWR’s financial condition, results of operations and cash flows, and requirethe most difficult, subjective or complex judgments of AWR’s management. Theneed to make estimates about the effect of items that are uncertain is whatmakes these judgments difficult, subjective and/or complex. Management makessubjective judgments about the accounting and regulatory treatment of manyitems. These judgments are based on AWR’s historical experience, terms ofexisting contracts, and AWR’s observance of trends in the industry, informationprovided by customers and information available from other outside sources, asappropriate. Actual results may differ from these estimates underdifferent assumptions or conditions.

 

The critical accounting policies used in the preparation of the Registrant’s financial statements that it believes affect the more significant judgments and estimates used in the preparation of its consolidated financial statements presented in this report are described in *“Management’s Discussion and Analysis of Financial Condition and Results of Operation”* included in Registrant’s Annual Report on Form 10-K for the year ended December 31, 2007. There have been no material changes to the critical accounting policies.

 

**Liquidityand Capital Resources**

 

***AWR***

 

Registrant’s regulated business (primarily that ofGSWC), is capital intensive and requires considerable capital resources. Aportion of these capital resources are provided by internally generated cashflows from operations. When necessary, Registrant obtains funds from externalsources in the capital markets and through bank borrowings. Access to externalfinancing on reasonable terms depends on Registrant’s credit ratings andcurrent business conditions, including that of the water utility industry ingeneral as well as conditions in the debt or equity capital markets. If thesebusiness and market conditions deteriorate to the extent that AWR no longer hasaccess to the capital markets at reasonable terms, Registrant has access to arevolving credit facility with aggregate bank commitments of $85 million thatis currently utilized to support operations.  Up to $20 million of this facility may beused for letters of credit. As of March 31, 2008, an aggregate of $47.6million in cash borrowings were included in current liabilities andapproximately $11.1 million of letters of credit were outstanding under thisfacility. AWR also has a Registration Statement on file with the Securities andExchange Commission for the sale from time to time of debt and equitysecurities. As of March 31, 2008, $156.5 million was available forissuance under this Registration Statement which will expire on November 30,2008.  AWR is planning a common stockoffering in 2008.

 

AWR funds itsoperating expenses and pays dividends on its outstanding common sharesprimarily through dividends from GSWC and through proceeds from equityissuances not invested in subsidiaries. The ability of GSWC to pay dividends to AWR is restricted by Californialaw. Under restrictions of the California tests, at March 31, 2008,approximately $121.2 million was available from the retained earnings of GSWCto pay dividends to AWR.  GSWC is alsosubject to contractual restrictions on its ability to pay dividends. GSWC’smaximum ability to pay dividends is restricted by certain Note Agreements tothe sum of $21 million plus 100% of consolidated net income from various datesplus the aggregate net cash proceeds received from capital stock offerings or otherinstruments convertible into capital stock from various dates. Under the mostrestrictive of the Note Agreements, $228.6 million was available to paydividends to AWR as of March 31, 2008. GSWC is also prohibited from payingdividends if, after giving effect to the dividend, its total indebtedness tocapitalization ratio (as defined) would be more than .6667 to 1.  Dividends in the amount of $4.3 million werepaid to AWR by GSWC during the three 

 

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months ended March 31, 2007. No dividends weredeclared and paid to AWR by GSWC during the three months ended March 31,2008 due to sufficient cash residing at the AWR level.

 

AWR has paid common dividends for over 75 consecutive years.  On April 29, 2008, AWR declared a regular quarterly dividendof $0.250 per Common Share. The dividend, totaling approximately $4.3million, will be paid onJune 1, 2008 to common shareholders of record at the close of business on May 9,2008.  During the three months ended March 31,2008 and 2007, AWR paid quarterly dividends to shareholders, totalingapproximately $4.3 million or $0.250 per share and $4.0 million or $0.235 pershare, respectively.  AWR presentlyintends to continue paying quarterly cash dividends in the future, on March 1,June 1, September 1 and December 1, subject to earnings andfinancial condition, regulatory requirements and such other factors as theBoard of Directors may deem relevant.

 

AWRanticipates that interest costs will increase in future periods due to the needfor additional external capital to fund its construction program, and potentialmarket interest rate increases. AWR believes that costs associated with capitalused to fund construction at its regulated subsidiaries will continue to be recoveredin water and electric rates charged to customers.

 

*CashFlows from Operating Activities*:

 

Registrant’s future cashflows from operating activities will be affected by utility regulation;infrastructure investment; maintenance expenses; inflation; compliance withenvironmental, health and safety standards; production costs; customer growth;per customer usage of water; weather and seasonality.  In addition, future cash flows fromnon-regulated subsidiaries will depend on new business activities, includingmilitary base operations and the construction of new and/or replacementinfrastructure at the different military bases, timely redetermination ofprices and requests for equitable adjustments of prices and timely collectionof payments from the U.S. government.  Cash flows from non-regulated subsidiaries would be adversely impactedif the U.S. government were to exercise its offset rights for the $7.5 millionpenalty assessed by the U. S. Army for the alleged failure to meet smallbusiness subcontractor goals at Fort Bliss. FBWS has filed a Notice of Appeal of this assessment.

 

Cash flows from operatingactivities have generally been sufficient to meet operating requirements and aportion of capital expenditures requirements. Registrant will seek access todebt and equity capital markets to meet the balance of capital expenditurerequirements. There can be no assurance that Registrant will be able tosuccessfully access such markets on favorable terms or at all. Operating cashflows can be negatively affected by changes in the regulatory environments.

 

Taking into account thefactors noted above, Registrant also obtains cash from non-operating sourcessuch as the proceeds from debt issuances, customer advances for andcontributions in aid of construction and equity offerings, discussed below infinancing activities.

 

Net cash provided byoperating activities was $11.2 million for the quarter ended March 31,2008 as compared to $14.2 million for the same period ended March 31,2007. The overall decrease of $3.0 million was primarily attributable to a $3.8million increase in ASUS’ costs and estimated earnings in excess of billings onuncompleted contracts included in “other assets”.  This was caused by an increase inconstruction activities at Andrews Air Force Base that will be billed andcollected in future periods.  The timingof cash receipts and disbursements related to other working capital items alsoaffected the changes in net cash provided by operating activities.  Changes in cash flows from operatingactivities were generally consistent with changes in the results of operationsas adjusted by changes in working capital in the normal course of business.

 

*CashFlows from Investing Activities*:

 

Net cash used ininvesting activities, which consists primarily of construction expenditures atGSWC, increased to $19.5 million for the three months ended March 31, 2008as compared to $9.6 million for the same period in 2007. This increase wasprimarily due to higher construction expenditures totaling $7.3 millionconsistent with Registrant’s capital investment plan for 2008.  Also in 2008, ASUS completed the acquisitionof substantially all of the net assets of the subcontractor that provided thewastewater services to ASUS’ subsidiaries at military bases for an aggregatepurchase price of $2.3 million related to the net assets.  In 2007, cash used in investing activitiesalso included proceeds received on the sale of property.  There were no proceeds received on the saleof property during 2008.

 

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Cash flows used ininvesting activities are expected to rise during 2008 as constructionexpenditures are expected to be approximately $55 million to $60 million during2008. Registrant intends to invest capital prudently to provide essentialservices to its regulated customer base, while working with its regulators tohave the opportunity to earn a fair rate of return on investment. Registrant’sinfrastructure investment plan consists of both infrastructure renewal programs,where it replaces infrastructure as needed, and major capital investmentprojects, where it will construct new water treatment and deliveryfacilities.  Projected capitalexpenditures and other investments are subject to periodic review and revisionto reflect changes in economic conditions and other factors.

 

*CashFlows from Financing Activities*:

 

Registrant’s financingactivities include the issuance and repayments of long-term debt and notespayable to banks, primarily through its wholly owned subsidiary, GSWC, theissuance of common shares, proceeds from stock option exercises, and thepayment of dividends on common shares. In order to finance new infrastructure, Registrant also receivescustomer advances for and contributions in aid of construction (net ofrefunds).

 

Net cash provided byfinancing activities was $7.4 million for the three months ended March 31,2008 as compared to $1.2 million for the same period in 2007. The increase of$6.2 million in net cash provided by financing activities was primarilycaused by an increase of $6.4 million in notes payable to banks to fundoperations, and an increase of $144,000 in advances for and contributions inaid of construction, net of refunds made. These increases were partially offset by an increase of $301,000 individends paid to AWR’s shareholders.

 

***GSWC***

 

GSWC funds the majority of its operating expenses, payments on itsdebt, and dividends on its outstanding common shares and a portion of itsconstruction expenditures through internal sources. Internal sources of cashflow are provided primarily by retention of a portion of earnings fromoperating activities. Internal cash generation is influenced by factors such asweather patterns, environmental regulation, litigation, changes in supply costsand regulatory decisions affecting GSWC’s ability to recover these supplycosts, timing of rate relief, increases in maintenance expenses and capitalexpenditures.

 

As mentioned previously,GSWC relies on external sources, including equity investments and short-termborrowings from AWR, and long-term debt to help fund a portion of itsconstruction expenditures.  In addition,GSWC receives advances and contributions from customers, home builders and realestate developers to fund construction necessary to extend service to newareas. Advances for construction are refundable generally at rates ranging from10% to 22% of the revenues received from the installation for which funds wereadvanced or in equal annual installments over periods of time ranging from 10to 40 year periods.  Amounts which are nolonger refundable are reclassified to contributions in aid of construction.Utility plant funded by advances and contributions is excluded from rate base.Generally, GSWC depreciates contributed property and amortizes contributions inaid of construction at the composite rate of the related property.

 

GSWC also has aRegistration Statement on file with the SEC for issuance from time to time, ofup to $100 million of debt securities. As of March 31, 2008, $50 millionremained for issuance under this Registration Statement, which will expire on November 30,2008.

 

*CashFlows from Operating Activities*:

 

Net cash provided byoperating activities was $15.0 million for the three months ended March 31,2008 as compared to $13.0 million for the same period in 2007. The increase of$2.0 million is primarily attributable to the timing of cash receipts anddisbursements related to working capital items affecting the changes in netcash provided by operating activities. Changes in cash flows from operating activities were generallyconsistent with changes in the results of operations as adjusted by changes inworking capital in the normal course of business.

 

*CashFlows from Investing Activities*:

 

Net cash used ininvesting activities increased to $16.0 million for the three months ended March 31,2008 as compared to $9.2 million for the same period in 2007. This increase wasprimarily due to higher capital expenditures consistent with GSWC’s 2008capital improvement plan. In 2007, cash used in investing activities alsoincluded proceeds received on the sale of property.  There were no proceeds received on the saleof property during 2008.

 

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*CashFlows from Financing Activities*:

 

Net cash provided byfinancing activities was $0.4 million for the three months ended March 31,2008 as compared to net cash used of $1.5 million for the same period in2007. The increase in net cash provided by financing activities was primarilycaused by a $4.3 million decrease in dividends paid to AWR, and an increase ofabout $209,000 in advances for and contributions in aid of construction, net ofrefunds.  This was partially offset by a$2.4 million decrease in the net change in intercompany borrowings.

 

***CCWC***

 

CCWCfunds the majority of its operating expenses, payments on its debt anddividends, if any, through internal operating sources or short-term borrowingsfrom AWR. CCWC also relies on external sources, including long-term debt,contributions-in-aid-of-construction, advances for construction andinstall-and-convey advances, to fund the majority of its constructionexpenditures.

 

***ASUS***

 

ASUS funds its operating expenses primarily throughmanagement fees and investments by or loans from AWR.  ASUS, in turn, provides funding to itssubsidiaries.

 

**Contractual Obligations and OtherCommitments**

 

Registrant has various contractual obligations whichare recorded as liabilities in the consolidated financial statements. Otheritems, such as certain purchase commitments and operating leases are notrecognized as liabilities in the consolidated financial statements, but arerequired to be disclosed. In addition to contractual maturities, Registrant hascertain debt instruments that contain annual sinking fund or other principalpayments. Registrant believes that it will be able to refinance debtinstruments at their maturity through public issuance, or private placement, ofdebt or equity. Annual principal and interest payments are generally made fromcash flow from operations.

 

There have been no material changes to AWR’s contractual obligations and other commitments since December 31, 2007. See *“Managements’ Discussion and Analysis of Financial Condition and Results of Operation—Contractual Obligations, Commitments and Off Balance Sheet Arrangements”*section of the Registrant’s Form 10-K for the year-ended December 31, 2007 for a detailed discussion of contractual obligations and other commitments.

 

**RegulatoryMatters**

 

GSWC is subject toregulation by the CPUC, which has broad powers with respect to service andfacilities, rates, classification of accounts, valuation of properties, thepurchase, disposition and mortgaging of properties necessary or useful inrendering public utility service, the issuance of securities, the granting ofcertificates of public convenience and necessity as to the extension ofservices and facilities and various other matters. CCWC is subject tocomparable regulation by the ACC.

 

Rates that GSWC and CCWCare authorized to charge are determined by the CPUC and the ACC, respectively,in general rate cases and are derived using rate base, cost of service and costof capital, as projected for a future test year in California and using ahistorical test year, as adjusted, in Arizona. Rates charged to customers varyaccording to customer class and rate jurisdiction and are generally set atlevels allowing for recovery of prudently incurred costs, including a fairreturn on rate base. Rate base generally consists of the original cost ofutility plant in service, plus certain other assets, such as working capitaland inventory, less accumulated depreciation on utility plant in service,deferred income tax liabilities and certain other deductions.

 

GSWCis required to file a general rate case (“GRC”) application every threeyears for each of its water rate-making areas according to a scheduleestablished by the CPUC. GRC’s typically include an increase in the first testyear with inflation rate adjustments for the second and third years of the GRCcycle. Rates are based on a forecast of expenses and capital costs for the testyear. According to the CPUC’s new water rate case plan adopted in May 2007,GSWC will migrate to a rate case schedule that brings all three Regions of GSWCwithin a single triennial rate case. Starting with the filing scheduled for July 2008, GSWC’s Regions IIand III plus the general office will undergo rate review in a single case(Region I’s most recent rate case having been decided only on 

 

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January 31,2008).  According to the new rate caseschedule, all Regions will then be reviewed in a single case for the ensuingthree-year cycle.  The new consolidatedGRC is expected to have an 18-month processing schedule. In California, ratesmay also be increased by offsets for certain expense increases, including butnot limited to supply cost offset and balancing account amortization, adviceletter filings related to certain plant additions and other operating costincreases. Offset rate increases and advice letter filings typically have atwo- to four- month regulatory processing lag.

 

Underthe new rate case plan adopted by the CPUC in May 2007, GSWC must file aseparate application to review the rate of return authorized by the CPUC.  In prior years, the rate of return wasdetermined as part of the general rate case process along with all otheroperating costs.  This new procedure toseparate the rate of return from the general rate case is the same process thatthe CPUC utilizes to determine the rate of return for energy companies underCPUC jurisdiction.  GSWC filed its firstcost of capital application under the new rate case plan on May 1,2008.  The application requests the CPUCadopt a new rate of return of 10% on average for calendar years 2009, 2010, and2011, based on a return on equity of 12.1%. According to the rate case plan, the CPUC intends to process the cost ofcapital proceeding in six months, at which time, the rate of return authorizedby the CPUC will be implemented into rates on a company-wide basis.

 

Neitherthe operations nor rates of AWR and ASUS are directly regulated by the CPUC orthe ACC. The CPUC and the ACC do, however, regulate certain transactionsbetween GSWC and its affiliates.  Inaddition, ASUS’ subsidiaries are regulated by their respective commissions inthe State in which they operate. However, the amounts charged by the subsidiaries of ASUS for water andwastewater services at military bases are based upon the terms of 50-yearcontracts with the U.S. government and supplemental fixed price constructioncontracts. The operations and maintenance contracts provide that prices will beredetermined at the end of two years after commencement of operations at eachmilitary base and every three years thereafter. In addition, prices may beequitably adjusted for changes in law, wage and benefit increases and othercircumstances.  For the supplementalconstruction contracts, prices may be changed through the execution of changeorders if significant unforeseen issues arise during the construction process.

 

***RecentChanges in Rates***

 

*Rate increases in 2008:*

 

In January 2008, the CPUC approved rate increasesfor the seven ratemaking areas in the Region I customer service area. Theauthorized rate increases will provide GSWC additional annual revenues ofapproximately $6.4 million in 2008 based on an authorized return on equity of10.2%. The new rates  were effective January 1,2008.  On March 3, 2008, theDepartment of Ratepayer Advocates (“DRA”) filed an application for rehearing ofthe Region I GRC decision on various legal grounds.  As permitted by the CPUC, GSWC filed aresponse to DRA’s application.  GSWC isnot able to predict the outcome of this matter.

 

In January 2008, the CPUC also approved attritionyear rate increases for Regions II and Region III customer service areaseffective January 1, 2008. The authorized rate increases will provide GSWCadditional annual revenues of approximately $3.6 million for Region IIrepresenting the second year of a three-year rate case increase approved by theCPUC in 2007. The increase of approximately $3.0 million for Region III is thethird year of a three-year rate increase approved in 2006.

 

The combined rate increases for Regions I, II andIII are designed to generate approximately $13.0 million annually, based uponnormalized sales levels approved by the CPUC.

 

*Rate increases in 2007:*

 

In February 2006, GSWC filed an application withthe CPUC for rate increases in Region II and to cover general office expensesat the Corporate Headquarters. The rate increases for the CorporateHeadquarters’ expenses would also increase Region III rates for 2007.  Due to delays in issuing a decision on theseapplications, the CPUC had previously approved interim rate increases totaling$1.2 million and $135,000 for Region II and Region III, respectively, thatbecame effective January 1, 2007. On November 16, 2007, the CPUCapproved the general rate increases for the Region II service area andadditional rate increases in Region II and III to recover general officeexpenses at the Corporate Headquarters.  Based on the decisions issued by the CPUC on November 16, 2007, theapproved revenue increases for 2007 were approximately $6.4 million for RegionII and approximately $3.0 million to recover Corporate Headquarters’ expensesallocated to Region III.  The rateincreases were retroactive to January 1, 2007.   Accordingly, during the fourth quarter of2007, GSWC recorded the revenue difference between the 

 

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interim rates implemented on January 1, 2007 andthe final rates authorized by the CPUC for the period from January 1 tothe implementation of the authorized rates. This resulted in the recording of a $7.2 million regulatory asset andcorresponding increase in revenues during the fourth quarter of 2007.  A surcharge was implemented in the firstquarter of 2008 to recover this amount from customers.

 

For GSWC’s Region IIIrate case approved by the CPUC on January 12, 2006, the CPUC also approvedthe second year increases for Region III in an estimated amount ofapproximately $2.3 million, effective January 1, 2007. In connectionwith this GRC, GSWC also filed an Application for Rehearing of the Region IIIGRC. GSWC was granted limited rehearing of that decision and was ordered tofile a report. GSWC filed that report in January 2007. According toGSWC’s calculations, the adopted revenues in 2006 should have been increased byapproximately $326,000, and the rates in 2007 should have been approximately$285,000 higher than adopted. The DRA submitted a response to GSWC’s report in March 2007.  The CPUC Water Division has reviewed GSWC’sand DRA’s reports and referred them to the assigned Administrative Law Judgefor a final resolution.  In March 2008,the judge issued a ruling requesting comments from both parties.  Those comments and reply comments have beenfiled.

 

***PendingRate Changes***

 

CCWC filed a rate casewith the ACC in August 2004 for its water system in Fountain Hills,Arizona. In September 2005, the ACC approved a rate increase for CCWC. Therate increase was effective on October 1, 2005 and generated additionalannual revenues of approximately $1.1 million, an 18% increase over 2004revenues. During this GRC, CCWC sought to have its rates determined using afair value rate base. The ACC elected not to use fair value in setting therates. CCWC appealed ACC’s use of only original cost less depreciation ratebase to determine the revenue requirement. Because CCWC’s fair value rate basewas higher, the use of original cost exclusively to determine the revenuerequirement deprived CCWC of a substantial amount of operating income.Following the approval of this rate case, CCWC filed an appeal with the ArizonaCourt of Appeals. On February 13, 2007, the Arizona Court of Appealsupheld CCWC’s challenge to the ACC’s failure to use fair value rate base in thedetermination of operating income. The process the ACC utilized resulted in alower revenue requirement and was found to be in violation of the ArizonaConstitution. However, the Court also held that the ACC’s determination of thereturn on equity, while not well-explained, was made based on the evidence, wasa matter within the agency’s substantial discretion and was lawful.  The ACC decided to not seek review, and thematter was returned to the ACC on remand for modification of the original ACCdecision consistent with the decision of the Court of Appeals. Testimony wasfiled by ACC staff and the Residential Utility Consumer Office.  The ACC conducted evidentiary hearings on theremanded case in January 2008.  CCWCis not able to predict the outcome of the case.

 

During the course ofremand proceedings in the 2004 rate case, in the fourth quarter of 2007, CCWCfiled its new general rate case with the ACC. Unlike California, there is not a three-year cycle in Arizona.  The only filing requirement is that a utilitycannot have two applications pending at the same time, and the typical rule isthat rates should be in effect for one year before filing a new case.  In the 2007 filing, CCWC requested rateincreases which are expected to generate approximately $3.1 million inadditional annual revenues. The processing of this case was expected to takeapproximately 18 months.  However,the ACC suspended processing of the 2007 rate case until completion of theproceedings on remand of the 2004 rate case. CCWC intends to pursue the 2007 case as promptly as possible followingthe final determination of the 2004 rate case.

 

***Applicationsto be Filed with the CPUC***

 

According to the CPUC’snew water rate case plan adopted in May 2007 discussed above, GSWC willfile its general rate case for Region II and III plus the general office in July of2008.

 

GSWC’s BVES division isalso in the process of preparing its general rate case with the CPUC’s electricdivision.  The filing is expected to bemade in May of 2008 and will be the first full general rate case for BVESsince 1996.  Costs incurred in connection with the constructionof the generating facility are also expected to be reviewed by the CPUC as partof the 2008 general rate case.

 

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*** ***

***Other Regulatory Matters***

 

**WaterPolicy Application**

 

In September 2006,GSWC filed an application with the CPUC for authority to implement certain ratesetting mechanisms, including the following:

 

·                                          Establishment of a Water QualityMemorandum Account or Water Quality Compliance Offset Account to, among otherthings, permit full recovery of costs relating to achieving improvements inwater quality and complying with evolving water quality standards.

 

·                                          Measures to encourage and support watersupply planning and investment.

 

·                                          Changes to existing GSWC water shortageor emergency procedures and mandatory conservation and rationing penalties.

 

·                                          Establishment of an Infrastructure SystemReplacement Surcharge to encourage and support infrastructure replacementneeds.

 

·                                          Elimination of disincentives to conservewater and eliminate fluctuations in revenues due to weather by, theestablishment of a Water Revenue Adjustment Mechanism (“WRAM”) to decouplesales from revenues.

 

·                                          Consolidation of GSWC’s existing offsetbalancing accounts, allowance for full cost recovery of supply offset costs,and elimination of a related earnings test.

 

·                                          Establishment of an increasing block ratestructure to promote water conservation and rates that more accurately reflectthe value of the resource.

 

·                                          Consolidation of GSWC’s existingratemaking districts into a state-wide, single tariff price rate structure toencourage and support long-term rate stability, affordability and waterresource reliability.

 

·                                          Measures to provide appropriateincentives and procedures to carry out the CPUC’s objective of consolidation ofnon-viable water companies.

 

In February 2007,the CPUC opened an Order Instituting Investigation to Consider Policies toAchieve Conservation Objectives (the “Conservation OII”). GSWC’s Water PolicyApplication was consolidated into the CPUC’s Conservation OII.  In a subsequent ruling, the CPUC ruled thatGSWC’s proposal to consolidate its existing ratemaking areas into onestate-wide tariff would not be considered in the Conservation OII.  The CPUC directed GSWC to re-submit anincreasing block rate proposal for the existing ratemaking areas.  In addition, the CPUC ruled that GSWC’s WRAMproposals would be consolidated into the OII, but that the other issuesincluded in GSWC’s Water Policy Application would not.  GSWC was directed to file a separate applicationto consider the other proposals in the policy application.

 

Currently, Registrant isactively participating in the CPUC’s Conservation OII. Through the ConservationOII, the CPUC proposes to eliminate disincentives to promote conservation.Among other potential solutions being considered by the CPUC are revisions totariff structures to create increasing rate blocks, so that greater consumptionwill be tempered by higher unit pricing to consumers, and sales adjustmentmechanisms, to essentially de-couple volume of sales from GSWC’s revenuerequirement calculation. On October 19, 2007, GSWC and the DRA filed asettlement agreement regarding the conservation rate design and a WRAM. Thesettlement with DRA proposes to keep the existing ratemaking areas unconsolidatedand to implement increasing block rates in each individual ratemakingarea.  If the settlement is approved bythe CPUC, GSWC would implement an increasing block rate design as a means toencourage water conservation. GSWC would also establish a WRAM balancingaccount to track revenue shortfalls for later recovery from customers.

 

In May 2007, theCPUC issued a ruling in the Conservation OII which directed the parties in theproceeding to address the issue of whether the adoption of a revenue adjustmentmechanism should affect the water utilities’ authorized rate of return.  GSWC and other parties submitted testimonyand evidentiary hearings on this issue were held in November 2007. GSWCanticipates that the CPUC will issue a decision on this issue in the secondquarter of 2008.

 

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**WestboroughDevelopment, Sacramento County**

 

On April 7, 2006,GSWC filed an advice letter with the CPUC to incorporate the Westboroughdevelopment in Sacramento County into the Rancho Cordova service area and toprovide water service to that new development. The City of Folsom filed aprotest of GSWC’s advice letter on April 27, 2006. On January 30,2007, the CPUC rejected the advice letter without prejudice, and invited GSWCto re-file the advice letter once the City of Folsom protest was resolved, orfile an application for CPUC approval of the service territory expansion.

 

In June 2007, GSWCsigned an agreement with the City of Folsom and the City agreed not to contestGSWC’s providing water service to Westborough and relinquished all claimsconcerning GSWC’s providing water service to the area. As compensation to theCity of Folsom to resolve its claim, GSWC has agreed to pay the City of Folsom$550,000. Aerojet will reimburse GSWC for 50%, or $275,000, of the settlementpayment. As of March 31, 2008, GSWC has recorded an obligation of$550,000 to the City of Folsom and an additional receivable of $275,000 fromAerojet for the amount to be reimbursed. During the third quarter of 2007, GSWC filed a second advice letterafter resolving the issue with the City. That advice letter was subsequentlyprotested by the Sacramento County Water Agency (“SCWA”). GSWC filed a responseto the SCWA protest. In November 2007, the Water Division of the CPUCrejected the advice letter without prejudice and GSWC is currently indiscussions with SCWA and Aerojet to resolve the objections raised by SCWA intheir protest.

 

The recovery from Aerojetof the $17.5 million in legal and expert costs and accrued interest from January 1,2004 in the Aerojet litigation, previously discussed, is contingent upon theissuance of land use approvals for development of Aerojet property whichincludes the Westborough development and the receipt of certain fees inconnection with that development.

 

**Supply CostMemorandum/Balancing Accounts**

 

As permitted by the CPUC,Registrant maintains water supply cost balancing accounts for GSWC to accountfor under-collections and over-collections of revenues designed to recover suchcosts.  The supply cost balancingaccounts track differences between the current cost for supply items (water,power, and pump taxes) charged by GSWC’s suppliers and the cost for those itemsincorporated into GSWC’s rates. Under-collections (recorded as regulatoryassets) occur when the current cost exceeds the amount in rates for these itemsand, conversely, over-collections (recorded as regulatory liabilities) occurwhen the current cost of these items is less than the amount in rates.  As of March 31, 2008, there isapproximately $9.7 million net under-collections in the water supply costbalancing accounts.  Of this amount,approximately $7.3 million relates to GSWC’s Region III customer servicearea.  GSWC filed an advice letter in March 2008to implement a surcharge to begin recovery of this under-collection.  Theamortization of this surcharge will be at least over 24 months.   Theadvice letter is currently under review by the CPUC.  The remaining $2.4 million netunder-collections in the water supply cost balancing accounts relate to GSWC’sRegion I net under-collection of $2.1 million and Region II’s netunder-collection of $243,000.  Currently,there is a surcharge in place in Region I expiring in January 2009 torecover this under-collection, and a surcredit at Region II to refund aprevious over-collection expiring in August 2008.

 

**Santa Maria Groundwater Adjudication and MemorandumAccounts:**

 

In1997, the Santa Maria Valley Water Conservation District (“plaintiff”) filed alawsuit against multiple defendants, including GSWC, the City of Santa Maria,and several other public water purveyors. The plaintiff’s lawsuit sought anadjudication of the Santa Maria Groundwater Basin (the “Basin”). A stipulatedsettlement of the lawsuit has been reached, subject to CPUC approval.  The settlement, among other things, ifapproved by the CPUC, would preserve GSWC’s historical pumping rights andsecure supplemental water rights for use in case of drought or other reductionsin the natural yield of the Basin. GSWC, under the stipulation, has a right to10,000 acre-feet of groundwater replenishment provided by the TwitchellProject, a storage and flood control reservoir project operated by the SantaMaria Valley Conservation District.  A monitoring and annual reportingprogram has been established to allow the parties to responsibly manage theBasin and to respond to shortage conditions.  If severe water shortageconditions are found over a period of five years, the management areaengineer will make findings and recommendations to alleviate suchshortages.  In the unlikely case that the Basin experiences severeshortage conditions, the court has the authority to limit GSWC’sgroundwater production to 10,248 acre-feet per year, based ondeveloped water in the Basin.

 

OnFebruary 11, 2008, the court issued its final judgment, which approves andincorporates the stipulation.  The judgment awards GSWC prescriptiverights to groundwater against the non-stipulating parties.  In addition,the 

 

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judgmentgrants GSWC the right to use the Basin for temporary storage and to recapture45 percent of the return flows that are generated from its importation ofState Water Project water.  Pursuant to this judgment, the court retainsjurisdiction over all of the parties to make supplemental orders or to amendthe judgment as necessary. On March 20, 2008, the non-stipulating partiesfiled notices of appeal.  Registrant isunable to predict the outcome of the appeal.

 

GSWC has incurred costsof approximately $6.8 million as of March 31, 2008, including legaland expert witness fees, in defending its groundwater supply in the Basin. Suchcosts had been recorded in utility plant for future rate recovery. In February 2006,GSWC filed an application with the CPUC for recovery of $5.5 million ofthese costs, representing the amount of the costs that had been incurred as of December 31,2005. In February 2007, GSWC reached a settlement with the CPUC’s DRAauthorizing recovery of the $5.5 million requested in GSWC’s application.The settlement deferred review of the remaining legal costs pending finalresolution of the lawsuit. In May 2007, the CPUC issued a decision thatapproved the settlement with the DRA. Pursuant to the decision, GSWC wasauthorized to place in rate base $2.7 million of the $5.5 million ofpreviously incurred litigation costs. GSWC was also authorized to amortize,with interest, the remaining $2.8 million of the $5.5 million inrates over a ten-year period. This amount has been transferred into a separatememorandum account included within regulatory assets and a surcharge has beenimplemented in the third quarter of 2007 for recovery of these costs.

 

All litigation costs,including interest, that have been incurred since December 31, 2005,totaling approximately $1.5 million, have also been transferred from ratebase to a separate new memorandum account, subject to a reasonableness reviewby the CPUC in a subsequent phase of this proceeding or in a new proceeding.  In April 2008, the Administrative LawJudge closed the proceeding without ruling on the stipulation or authorizingrecovery of the remaining costs.  Theruling directed GSWC to file a new application. GSWC intends to file a new application. Management believes that these additional costs will be approved and therecovery of these costs through rates is probable.

 

**CPUCSubpoena**

 

On February 15,2007, the CPUC issued a subpoena to GSWC in connection with an investigation ofcertain work orders and charges paid to a specific contractor used by GSWC fornumerous construction projects. The CPUC’s investigation focuses on whetherthese charges were approved in customer rates and whether they were just andreasonable. In June 2007, GSWC received notification from the CPUC that itwas instituting an audit. The purpose of the audit was to examine for theperiod 1994 to the present, GSWC’s policies, procedures, and practicesthroughout all of its Regions regarding the granting or awarding ofconstruction contracts or jobs.  GSWC iscurrently responding to a third data request submitted by the CPUC. Managementcannot predict the outcome of the investigation or audit at this time.

 

**Bear Valley Electric Service**

 

On April 16, 2007, GSWC’sBVES division filed a compliance report with the CPUC regarding its purchasesof energy from renewable energy resources. The filing indicated that BVES hadnot achieved interim target purchase levels of renewable energy resources andthus, on its face, might be subject to a potential penalty. GSWC has formallycontested the potential penalty reflected in the compliance report. The CPUChas been considering the future timing and applicability of renewable energyresource requirements as they apply to smaller energy utilities like BVES.   On April 25, 2008, the assignedAdministrative Law Judge issued a Proposed Decision (“PD”) on the renewableresponsibilities of small utilities (including BVES). The PD, if adopted, wouldclarify that certain renewable obligations of the small utilities may bedeferred. If adopted by the CPUC as written, BVES will need to continue itsefforts to procure renewable resources each year going forward, and where thatmay prove difficult because the market for such resources is very constrained,then BVES will be required to describe in detail the problems that warrantfurther deferral, in accordance with the CPUC’s flexible compliance rules.  The PD would also allow BVES to alterpreviously filed compliance reports to reflect the changes adopted in thisdecision.  At this time, management doesnot believe it is probable that GSWC will ultimately be assessed any penalty(which could be as high as $931,000 based on the latest filing as of December31, 2007), and accordingly, no provision for loss has been recorded in thefinancial statements.

 

There have been no other material changes to AWR’sother regulatory matters since December 31, 2007. See *“Managements’Discussion and Analysis of Financial Condition and Results ofOperation—Regulatory Matters”*section of the Registrant’sForm 10-K for the year-ended December 31, 2007 for a detaileddiscussion of other regulatory matters.

 

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**Environmental Matters**

 

AWR’s subsidiaries are subject to increasingly stringent environmentalregulations including the 1996 amendments to the Federal Safe Drinking WaterAct; enhanced surface water treatment rules; regulationof disinfectant/disinfection by-products; and the long-term enhanced surface water treatment rules; ground water treatment rule; contaminant regulationof radon and arsenic; and unregulated contaminants monitoring rule.

 

*Drinking Water Standard**:*

 

During the first quarterof 2008, one of GSWC’s water systems located in Northern California violated adrinking water standard.  GSWC routinely monitors for the presence ofdrinking water contaminants including total trihalomethanes (“TTHM”).  TheTTHM samples taken in the first quarter of 2008 indicated that this watersystem exceeded the maximum contaminant level (“MCL”) for TTHM.   Duringthe first quarter, GSWC implemented various operational changes and conductedincreased monitoring over the quarter in an attempt to identify and control thefactors leading to the formation of TTHM in the distribution system.** **The results of these studiesindicate that source water quality is the predominate factor in this situation.Water imported from the Sacramento-San Joaquin Delta experienced saltwater intrusion and had high levels of organic compounds from agriculturaldrainage during the first quarter. These compounds form TTHM during thetreatment process.  GSWC has no control over the quality of the sourcewater that is purchased from the Contra Costa Canal.  To remedy thesituation, GSWC is changing its treatment process. Switching to chloraminationas an alternative disinfectant appears to be the best overall option. Chloramination is an accepted and widely used method to mitigate TTHM. TheDepartment of Public Health permit amendment process has been initiated and thechange to chloramines requires a public notice which was distributed on May 1,2008.  The change to chloramines is expected to increase water treatmentcosts in the future.

 

*Environmental Clean-Up andRemediation:*

 

During the firstquarter of 2008, hydrocarbon contaminated soil was found at a plant site (“BallonaPlant”)  located in GSWC’s Southwestcustomer service area where an abandoned water tank was demolished.  The contamination is shallow and likely theresult of past corrosion control practices and is not due to a leaking pipe ofthe tank.  An initial investigation andcharacterization will be completed during the second quarter of 2008 todetermine the extent of contamination before any soil extraction is initiated.  At this time, GSWC is unable to reasonablyestimate the cost of clean-up. Historically, this type of clean-up cost has been included in rates asapproved by the CPUC.

 

Additionalinformation on these requirements and other significant environmental mattersis described in *“Management’s Discussion and Analysis of**Financial Condition and Results of Operation”*included in Registrant’s 2007 Annual Report onForm 10-K for the year ended December 31, 2007. There have been noother material changes in any of the environmental matters discussed in the Form 10-Ksince December 31, 2007.

 

**WaterSupply**

 

***State Water Project***

 

GSWCmanages a portfolio of water supplies, including groundwater production, use oftreated surface water and arrangements with water wholesalers to insure thereliability, quality and affordability of water.  For example, GSWC hascontracts with various governmental entities, principally Metropolitan WaterDistrict’s member agencies (“MWD”), and other parties to purchase water fordistribution to customers.  The MWD is a public agency organized andmanaged to provide a supplemental, imported supply of water to its memberpublic agencies.  GSWC has 46 connectionsto MWD’s water distribution facilities and those of member agencies.  The Company purchases MWD water through sixseparate member agencies aggregating more than 75,000 acre-feet annually. MWD’sprincipal sources of water are the Colorado River and the State Water Project (“SWP”)which conveys water from northern California.

 

Watersupplies available to MWD through the SWP have historically varied from year toyear based on weather, although MWD has generally been able to providesufficient quantities of water to satisfy the needs of its constituents.  However, a key link in the SWP is theSacramento/San Joaquin River Delta adjacent to the San Francisco Bay (“Delta”).  The fresh water pathway through the Delta issupported by earthen levees, and the 

 

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reliability of thoselevees has been called into question based on post hurricane Katrinaassessments by various federal, state and local agencies.  A significant failure of the Delta leveesystem would substantially interfere with water exports, thus potentiallydisrupting the water supply available to GSWC from northern California viaMWD.  In light of these risks, the stateDepartment of Water Resources and the Governor have convened a series ofinterdisciplinary task forces to develop proposals to preserve theenvironmental viability of the Delta and safeguard the water supply.  GSWC continues to participate in and monitordevelopments related to the Delta and efforts to craft a workable solution tothe risks presented by reliance on the Delta for water supply conveyance tosouthern California.

 

The SWP faces particularchallenges to the operation of its pumping plant located at the southern end ofthe Delta which naturally drains to the Pacific Ocean through the San FranciscoBay. Because of its diversion of water for export to central, coastal andsouthern California through the pumping plant, the SWP is subject to a varietyof operating limitations and permitting processes designed, collectively, tobalance the need for water exports with the need to restore and protect theDelta environment.  In late 2007, a Federal judge issued a decision in thecase *Natural Resources Defense Council v.Kempthorne*, Case No. 05-CV-1207 (U.S. Dist. Ct., E.D.) finding,among other things, that the Biological Opinion (“BiOp”) issued by the U.S.Fish and Wildlife Service was legally insufficient and failed to considerrecent declines in delta smelt abundance.  A new BiOp, responsive torecent scientific findings and to the judge’s order, is expected to becompleted by September 2008.  The judge also imposed interimrestrictions on pumping until the new BiOp is completed, including significantreductions in deliveries to contractual customers of the SWP, including MWD, ofup to 37% of baseline deliveries.  Actual curtailments will depend onweather conditions, fish and flow patterns in the Delta.  MWD recently estimatedthat its deliveries from the SWP in light of the court order were 30% below thelevel that would have been expected based on hydrological and operatingconditions.

 

***Weather***

 

Watersupply and revenues are significantly affected, both in the short-run andlong-run, by changes in weather conditions. California is having a good wateryear from October 2007 until now. The California Department of Water Resources in their April 1st2008 bulletin report (“the Report”) states that California precipitation forthe water year so far has been 90% of normal, snow water content is 100% ofnormal, reservoirs are at 85% of average, and the spring runoff from April toJuly is expected to be 80% of normal. The Report also states that the Colorado River Basin has had 90% ofnormal precipitation as compared to 10% at this time of last year; Lake Powell,Mead, Mohave, and Havasu has had 25.9 million acre-feet of water, or 65% ofaverage; snowpack above Lake Powell is at 125% of normal; and that the April-July runoffis forecasted to be 130% of normal.

 

Accordingto a report issued by the Arizona State Drought Monitoring Technical Committee,Phoenix has had 4.24” of precipitation so far for this water year, almost ahalf inch more than normal.  The SaltRiver Reservoir and Verde River Reservoir (the two reservoirs near CCWC) are at149% and 146%, respectively, of normal for this time of year.

 

Whilethe precipitation and snow pack level appear to be better than at this timelast year, March 2008 precipitation was only 20% of average inCalifornia.  According to the U.S.Drought Monitor’s April 15, 2008 forecast, abnormally dry conditionsaffected areas of northern California where winter and early spring rainfallhas been below average, less than 70% of average for the three months ended March 31,2008.  The National Weather Service alsopredicts moderate drought conditions for the next three months in southernNevada, southern California, and southwest Arizona.

 

Additionalinformation on water supply issues are described in *“Management’sDiscussion and Analysis of**Financial Condition andResults of Operation”* included in our 2007 Annual Report on Form 10-Kfor the year ended December 31, 2007.

 

**NewAccounting Pronouncements**

 

Registrantis subject to newly issued requirements as well as changes in existingrequirements issued by the Financial Accounting Standards Board. Differences infinancial reporting between periods could occur unless and until the CPUC andthe ACC approve such changes for conformity through regulatory proceedings. See*Note 1**of UnauditedNotes to Consolidated Financial Statements.*

 

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**Item 3. Quantitative and Qualitative DisclosuresAbout Market Risk**

 

Registrant is exposed tocertain market risks, including fluctuations in interest rates, and commodityprice risk primarily relating to changes in the market price of electricity.Market risk is the potential loss arising from adverse changes in prevailingmarket rates and prices. There have been no material changes regarding Registrant’smarket risk position from the information provided in its Annual Report on Form 10-Kfor the year ended December 31, 2007. The quantitative and qualitativedisclosures about market risk are discussed in *Item7A-Quantitative and Qualitative Disclosures About Market Risk*,contained in Registrant’s Annual Report on Form 10-K.

 

**Item 4. Controls and Procedures**

 

**(a) Evaluationof Disclosure Controls and Procedures**

 

Asrequired by Rule 13a-15(b) under the Securities and Exchange Act of 1934(the “Exchange Act”), we have carried out an evaluation, under the supervisionand with the participation of our management, including our Chief ExecutiveOfficer (“CEO”) and our Chief Financial Officer (“CFO”), of the effectiveness,as of the end of the fiscal quarter covered by this report, of the design andoperation of our “disclosure controls and procedures” as defined in Rule 13a-15(e) and15d-15(e) promulgated by the Securities and Exchange Commission (SEC)under the Exchange Act. Based upon that evaluation, the CEO and the CFOconcluded that disclosure controls and procedures, as of the end of such fiscalquarter, were adequate and effective to ensure that information required to bedisclosed by us in the reports that we file or submit under the Exchange Act isrecorded, processed, summarized and reported within the time periods specifiedin the SEC’s rules and forms and that such information is accumulated andcommunicated to our management, including our CEO and CFO, as appropriate toallow timely decisions regarding required disclosure.

 

**(b) Changesin Internal Controls over Financial Reporting**

 

Therehas been no change in our internal control over financial reporting during thequarter ended March 31, 2008, that has materially affected or is reasonablylikely to materially affect our internal control over financial reporting.

 

**Item 4T. Controls and Procedures**

 

Notapplicable.

 

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**PART II**

 

**Item 1. Legal Proceedings**

 

There have been no material developmentsin any of the legal proceedings described in our 2007 Annual Report onForm 10-K.

 

Registrant is subject to ordinaryroutine litigation incidental to its business. Other than those disclosed inRegistrant’s Form 10-K for the year ended December 31, 2007, no otherlegal proceedings are pending, which are believed to be material. Management believes that rate recovery,proper insurance coverage and reserves are in place to insure against property,general liability and workers’ compensation claims incurred in the ordinarycourse of business.

 

**Item 1A. Risk Factors**

 

There have been no significant changes in the risk factorsdisclosed in our 2007 Annual Report on Form 10-K.

 

**Item 2. Unregistered Sales ofEquity Securities and Use of Proceeds**

 

The shareholders of AWR have approved the material featuresof all equity compensation plans under which AWR directly issues equitysecurities. AWR did not directly issue any unregistered equity securitiesduring the first quarter of 2008.  Thefollowing table provides information about repurchases of common shares by AWRduring the first quarter of 2008:

 
| **Period**                 | ** ** | **Total Number of  Shares  Purchased** | ** ** | **Average Price Paid  per Share** | ** ** | **Total Number of  Shares Purchased as  Part of Publicly  Announced Plans or  Programs (1)** | ** ** | **Maximum Number  of Shares That May  Yet Be Purchased  under the Plans or  Programs** | ** ** |
|----------------------------|------------|--------------------------------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------|------------|
| January 1 - 31, 2008  |       | 7,234                                            |       | $                                                | 36.03      |                                                                                                                                      | —     |                                                                                                                                | NA         |   |
| February 1 - 29, 2008 |       | 2,003                                            |       | $                                                | 33.03      |                                                                                                                                      | —     |                                                                                                                                | NA         |   |
| March 1 - 31, 2008    |       | 5,123                                            |       | $                                                | 33.76      |                                                                                                                                      | —     |                                                                                                                                | NA         |   |
| Total                      |       | 14,360                                           | (2)        | $                                                | 34.80      |                                                                                                                                      | —     |                                                                                                                                | NA         | (3) |

 

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(1)          None of the common shares were purchasedpursuant to any publicly announced stock repurchase program.

 

(2)          Of this amount, 14,000 common shares wereacquired on the open market for employees pursuant to the Company’s 401(k) Plan.  The remainder of the common shares wereacquired on the open market for participants in the Company’s Common SharePurchase and Dividend Reinvestment Plan.

 

(3)          None of these plans contain a maximumnumber of common shares that may be purchased in the open market under theplans.

 

**Item 3. Defaults Upon Senior Securities**

 

None

 

**Item 4. Submission of Matters toa Vote of Security Holders**

 

Noitems were submitted during the first quarter of the fiscal year covered bythis report to a vote of security holders through the solicitation of proxiesor otherwise.

 

**Item 5. Other Information**

 

(a)          On April 29,2008, the Board of Directors of AWR declared a regular quarterly dividend of$0.250 per common share. The dividend will be paid June 1, 2008 toshareholders of record as of the close of business on May 9, 2008.

 

(b)         There havebeen no material changes during the first quarter of 2008 to the procedures bywhich shareholders may nominate persons to the Board of Directors of AWR.

 

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## **Item 6. Exhibits**

##  

(a)   The following documents are filed asExhibits to this report:

 
| 31.1   |   | Certification of Chief Executive Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002 for AWR (1)  |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                  |
| 31.1.1 |   | Certification of Chief Executive Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002 for GSWC (1) |
|   |   |                                                                                                                  |
| 31.2   |   | Certification of Chief Financial Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002 for AWR (1)  |
|   |   |                                                                                                                  |
| 31.2.1 |   | Certification of Chief Financial Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002 for GSWC (1) |
|   |   |                                                                                                                  |
| 32.1   |   | Certification of Chief Executive Officer pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002 (2)          |
|   |   |                                                                                                                  |
| 32.2   |   | Certification of Chief Financial Officer pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002 (2)          |

 

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(1)   Filed concurrently herewith

 

(2)   Furnished concurrently herewith

####  

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#### **SIGNATURE**

####  

Pursuantto the requirements of Securities Exchange Act of 1934, the Registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized and as its principal financial officer.

 

 
|        | AMERICAN STATES WATER  COMPANY |
|--------|--------------------------------|
|   | and its subsidiary             |
|   | GOLDEN STATE WATER  COMPANY    |
|   |                           |
|   |                           |
|   | By:                            | /s/ Robert J. Sprowls |
|   |                           | Robert J. Sprowls |
|   |                           | Executive Vice  President-Finance, Chief Financial |
|   |                           | Officer, Treasurer and  Corporate Secretary |

 

 

Dated: May 9, 2008

 

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