##### Table of Contents



SECURITIES AND 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
June 30, 2004 oro
    
    Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from
   to
 Commission file number   001-14431 American States Water Company 
  California
    
    95-4676679(State or Other Jurisdiction of Incorporation or Organization)
    
    (IRS Employer Identification No.)630 East Foothill Boulevard, San Dimas, California
    
    91773-1207(Address of Principal Executive Offices)
    
    (Zip Code)
 (909) 394-3600 
  Not Applicable 
  Commission file number   001-12008 Southern California Water Company 
  California
    
    95-1243678(State or Other Jurisdiction of Incorporation or Organization)
    
    (IRS Employer Identification No.)630 East Foothill Boulevard, San Dimas, California
    
    91773-1212(Address of Principal Executive Offices)
    
    (Zip Code)
 (909) 394-3600 
  Not Applicable 
  Indicate by check mark whether Registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. American States Water Company
    
    Yes x No oSouthern California Water Company
    
    Yes x No o
 Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act.). American States Water Company
    
    Yes x No oSouthern California Water Company
    
    Yes o No x
 As of August 9, 2004, the number of Common Shares outstanding of American
States Water Company was 15,268,587 shares. As of August 9, 2004, all of the 110 outstanding Common Shares of Southern
California Water Company were owned by American States Water Company.




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AMERICAN STATES WATER COMPANY
and
SOUTHERN CALIFORNIA WATER COMPANY
FORM 10-Q INDEX PagePart I
    
    Financial InformationItem 1:
    
    Financial Statements
    
    
    2Consolidated Balance Sheets of American States Water Company as of June 30, 2004 and December 31, 2003
    
    
    3-4Consolidated Statements of Income of American States Water Company for the Three Months Ended June 30, 2004 and 2003
    
    
    5Consolidated Statements of Income of American States Water Company for the Six Months Ended June 30, 2004 and 2003
    
    
    6Consolidated Statements of Cash Flow of American States Water Company for the Six Months Ended June 30, 2004 and 2003
    
    
    7Consolidated Balance Sheets of Southern California Water Company as of June 30, 2004 and December 31, 2003
    
    
    8-9Consolidated Statements of Income of Southern California Water Company for the Three Months Ended June 30, 2004 and 2003
    
    
    10Consolidated Statements of Income of Southern California Water Company for the Six Months Ended June 30, 2004 and June 30, 2003
    
    
    11Consolidated Statements of Cash Flow of Southern California Water Company for the Six Months Ended June 30, 2004 and June 30, 2003
    
    
    12Notes to Consolidated Financial Statements
    
    
    13-24Item 2:
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    25-56Item 3:
    
    Quantitative and Qualitative Disclosures About Market Risks
    
    
    57Item 4:
    
    Controls and Procedures
    
    
    57Part II
    
    Other InformationItem 1:
    
    Legal Proceedings
    
    
    58-60Item 2:
    
    Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities
    
    
    61Item 3:
    
    Defaults Upon Senior Securities
    
    
    61Item 4:
    
    Submission of Matters to a Vote of Security Holders
    
    
    61Item 5:
    
    Other Information
    
    
    62Item 6:
    
    Exhibits and Reports on Form 8-K
    
    
    62Signature
    
    
    63Exhibit 10.26EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32.1EXHIBIT 32.2
  1




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##### Table of Contents



PART I 
 Item 1. Financial Statements General The basic financial statements included herein have been prepared by
Registrant, without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and footnote disclosures normally included in
financial statements, prepared in accordance with accounting principles
generally accepted in the United States of America, have been condensed or
omitted pursuant to such rules and regulations, although Registrant believes
that the disclosures are adequate to make the information presented not
misleading. In the opinion of management, all adjustments necessary for a fair
statement of results for the interim period have been made. It is suggested that these financial statements be read in conjunction
with the financial statements and notes thereto in the latest Annual Report on
Form 10-K of American States Water Company and its wholly owned subsidiary,
Southern California Water Company. Filing Format This quarterly report on Form 10-Q is a combined report being filed by two
separate Registrants: American States Water Company (hereinafter AWR) and
Southern California Water Company (hereinafter SCW). For more information,
please see Note 1 to the Notes to Consolidated Financial Statementsand the
heading entitled Generalin Item 2  Managements Discussion and Analysis of
Financial Condition and Results of Operations.References in this report to
Registrant are to AWR and SCW collectively, unless otherwise specified. SCW
makes no representations as to the information contained in this report
relating to AWR and its subsidiaries, other than SCW. 2




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##### Table of Contents



AMERICAN STATES WATER COMPANY 
 CONSOLIDATED BALANCE SHEETS
ASSETS
(Unaudited)
 June 30,
    
    December 31,(in thousands)
    
    2004
    
    2003Utility Plant, at costWater
    
    $
    739,810
    
    
    $
    726,811Electric
    
    
    43,799
    
    
    
    42,711783,609
    
    
    
    769,522Less  Accumulated depreciation
    
    
    (233,073
    )
    
    
    (222,567
    )550,536
    
    
    
    546,955Construction work in progress
    
    
    71,326
    
    
    
    55,343621,862
    
    
    
    602,298Other Property and InvestmentsGoodwill
    
    
    12,276
    
    
    
    12,276Other property and investments
    
    
    9,895
    
    
    
    9,844Total other property and investments
    
    
    22,171
    
    
    
    22,120Current AssetsCash and cash equivalents
    
    
    6,949
    
    
    
    12,775Accounts receivable-customers (less allowance for doubtful
accounts of $869 in 2004 and $831 in 2003)
    
    
    11,980
    
    
    
    11,758Unbilled revenue
    
    
    14,773
    
    
    
    12,714Other accounts receivable
    
    
    2,367
    
    
    
    10,649Materials and supplies, at average cost
    
    
    1,453
    
    
    
    1,346Regulatory assets  current
    
    
    4,582
    
    
    
    5,331Prepayments
    
    
    1,966
    
    
    
    3,786Total current assets
    
    
    44,070
    
    
    
    58,359Regulatory and Other AssetsRegulatory assets
    
    
    56,592
    
    
    
    57,704Other accounts receivable
    
    
    8,000
    
    
    
    8,000Other
    
    
    8,731
    
    
    
    8,994Total regulatory and other assets
    
    
    73,323
    
    
    
    74,698Total Assets
    
    $
    761,426
    
    
    $
    757,475
 The accompanying notes are an integral part of these consolidated financial statements 3




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##### Table of Contents



AMERICAN STATES WATER COMPANY
CONSOLIDATED BALANCE SHEETS
CAPITALIZATION AND LIABILITIES
(Unaudited) June 30,
    
    December 31,(in thousands)
    
    2004
    
    2003CapitalizationCommon shares, no par value, no stated value
    
    $
    129,681
    
    
    $
    127,699Earnings reinvested in the business
    
    
    85,912
    
    
    
    84,788Total common shareholders equity
    
    
    215,593
    
    
    
    212,487Long-term debt
    
    
    229,468
    
    
    
    229,799Total capitalization
    
    
    445,061
    
    
    
    442,286Current LiabilitiesNotes payable to banks
    
    
    54,000
    
    
    
    56,000Long-term debt  current
    
    
    820
    
    
    
    820Accounts payable
    
    
    15,527
    
    
    
    18,774Taxes payable
    
    
    7,457
    
    
    
    2,784Accrued employee expenses
    
    
    4,811
    
    
    
    3,925Accrued interest
    
    
    1,874
    
    
    
    1,681Deferred income taxes  current
    
    
    431
    
    
    
    1,217Other
    
    
    7,832
    
    
    
    10,697Total current liabilities
    
    
    92,752
    
    
    
    95,898Other CreditsAdvances for construction
    
    
    78,386
    
    
    
    77,154Contributions in aid of construction  net
    
    
    66,928
    
    
    
    64,297Deferred income taxes
    
    
    53,882
    
    
    
    53,243Unamortized investment tax credits
    
    
    2,655
    
    
    
    2,700Accrued pension and other postretirement benefits
    
    
    2,493
    
    
    
    4,584Regulatory liabilities
    
    
    11,394
    
    
    
    9,642Other
    
    
    7,875
    
    
    
    7,671Total other credits
    
    
    223,613
    
    
    
    219,291Commitments and Contingencies (Note 8)
    
    
    
    
    
    
    Total Capitalization and Liabilities
    
    $
    761,426
    
    
    $
    757,475
 The accompanying notes are an integral part of these consolidated financial statements 4




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AMERICAN STATES WATER COMPANY 
 CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED
JUNE 30, 2004 AND 2003
(Unaudited)
 Three Months EndedJune 30,(in thousands, except per share amounts)
    
    2004
    
    2003Operating RevenuesWater
    
    $
    53,576
    
    
    $
    46,207Electric
    
    
    5,449
    
    
    
    5,353Other
    
    
    319
    
    
    
    25759,344
    
    
    
    51,817Operating ExpensesWater purchased
    
    
    12,802
    
    
    
    10,470Power purchased for pumping
    
    
    2,415
    
    
    
    2,410Power purchased for resale
    
    
    2,538
    
    
    
    2,814Unrealized loss (gain) on purchased power contracts
    
    
    76
    
    
    
    (1,557
    )Gain on sale of water rights
    
    
    (5,675
    )
    
    
    Groundwater production assessment
    
    
    1,338
    
    
    
    1,729Supply cost balancing accounts
    
    
    3,598
    
    
    
    501Other operating expenses
    
    
    5,283
    
    
    
    5,086Administrative and general expenses
    
    
    11,497
    
    
    
    11,890Depreciation and amortization
    
    
    5,073
    
    
    
    4,945Maintenance
    
    
    2,609
    
    
    
    2,299Taxes on income
    
    
    5,086
    
    
    
    1,790Other taxes
    
    
    2,105
    
    
    
    2,021Total operating expenses
    
    
    48,745
    
    
    
    44,398Operating Income
    
    
    10,599
    
    
    
    7,419Other Income (Loss)Other income, net
    
    
    851
    
    
    
    89Taxes on other income
    
    
    (313
    )
    
    
    (58
    )Total other income, net
    
    
    538
    
    
    
    31Interest
ChargesInterest on long-term debt
    
    
    4,052
    
    
    
    4,220Other interest and amortization of debt expense
    
    
    375
    
    
    
    319Total interest charges
    
    
    4,427
    
    
    
    4,539Net Income
    
    
    6,710
    
    
    
    2,911Weighted Average Number of Shares Outstanding
    
    
    15,248
    
    
    
    15,201Basic Earnings Per Common Share
    
    $
    0.44
    
    
    $
    0.19Weighted Average Number of Diluted Shares
    
    
    15,269
    
    
    
    15,247Fully Diluted Earnings Per Share
    
    $
    0.44
    
    
    $
    0.19Dividends Declared Per Common Share
    
    $
    0.221
    
    
    $
    0.221
 The accompanying notes are an integral part of these consolidated financial statements 5




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AMERICAN STATES WATER COMPANY 
 CONSOLIDATED STATEMENTS OF INCOME
FOR THE SIX MONTHS ENDED
JUNE 30, 2004 AND 2003
(Unaudited)
 Six Months EndedJune 30,(in thousands, except per share amounts)
    
    2004
    
    2003Operating RevenuesWater
    
    $
    92,318
    
    
    $
    85,632Electric
    
    
    13,076
    
    
    
    12,357Other
    
    
    601
    
    
    
    504105,995
    
    
    
    98,493Operating ExpensesWater purchased
    
    
    21,683
    
    
    
    18,358Power purchased for pumping
    
    
    4,132
    
    
    
    4,366Power purchased for resale
    
    
    7,367
    
    
    
    6,670Unrealized gain on purchased power contracts
    
    
    (481
    )
    
    
    (1,274
    )Gain on sale of water rights
    
    
    (5,675
    )
    
    
    Groundwater production assessment
    
    
    3,160
    
    
    
    3,396Supply cost balancing accounts
    
    
    3,819
    
    
    
    1,459Other operating expenses
    
    
    9,720
    
    
    
    9,126Administrative and general expenses
    
    
    20,576
    
    
    
    19,414Depreciation and amortization
    
    
    10,250
    
    
    
    9,892Maintenance
    
    
    4,936
    
    
    
    4,249Taxes on income
    
    
    6,028
    
    
    
    3,785Other taxes
    
    
    4,331
    
    
    
    4,078Total operating expenses
    
    
    89,846
    
    
    
    83,519Operating Income
    
    
    16,149
    
    
    
    14,974Other income, net
    
    
    669
    
    
    
    137Taxes on other income
    
    
    (214
    )
    
    
    (106
    )Total other income, net
    
    
    455
    
    
    
    31Interest ChargesInterest on long-term debt
    
    
    8,102
    
    
    
    8,475Other interest and amortization of debt expense
    
    
    646
    
    
    
    629Total interest charges
    
    
    8,748
    
    
    
    9,104Net Income
    
    $
    7,856
    
    
    $
    5,901Weighted Average Number of Shares Outstanding
    
    
    15,236
    
    
    
    15,196Basic Earnings Per Common Share
    
    $
    0.52
    
    
    $
    0.39Weighted Average Number of Diluted Shares
    
    
    15,265
    
    
    
    15,224Fully Diluted Earnings Per Share
    
    $
    0.51
    
    
    $
    0.39Dividends Declared Per Common Share
    
    $
    0.442
    
    
    $
    0.442
 The accompanying notes are an integral part of these consolidated financial statements 6




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AMERICAN STATES WATER COMPANY 
 CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2004 AND 2003
(Unaudited)
 Six Months EndedJune 30,(in thousands)
    
    2004
    
    2003Cash Flows From Operating Activities:Net income
    
    $
    7,856
    
    
    $
    5,901Adjustments for non-cash items:Depreciation and amortization
    
    
    10,250
    
    
    
    9,892Deferred income taxes and investment tax credits
    
    
    651
    
    
    
    2,401Unrealized gain on purchased power contracts
    
    
    (481
    )
    
    
    (1,274
    )Impairment loss on assets removed from rate-base
    
    
    482
    
    
    
    Non-cash compensation expense on stock units issued
    
    
    778
    
    
    
    Other  net
    
    
    970
    
    
    
    1,716Changes in assets and liabilities:Accounts receivable  customers
    
    
    (222
    )
    
    
    334Unbilled revenue
    
    
    (2,059
    )
    
    
    (889
    )Other accounts receivable
    
    
    8,282
    
    
    
    (2,399
    )Materials and supplies
    
    
    (107
    )
    
    
    (507
    )Prepayments
    
    
    1,820
    
    
    
    1,191Regulatory assets  supply cost balancing accounts
    
    
    3,819
    
    
    
    1,459Other assets
    
    
    (46
    )
    
    
    (222
    )Accounts payable
    
    
    (3,247
    )
    
    
    (3,002
    )Taxes payable
    
    
    4,673
    
    
    
    1,123Other liabilities
    
    
    (4,340
    )
    
    
    (4,048
    )Net cash provided
    
    
    29,079
    
    
    
    11,676Cash Flows From Investing Activities:Construction expenditures
    
    
    (30,592
    )
    
    
    (17,455
    )Net cash used
    
    
    (30,592
    )
    
    
    (17,455
    )Cash Flows From Financing Activities:Proceeds from issuance of common shares
    
    
    1,204
    
    
    
    504Receipt of advances for and contributions in aid of construction
    
    
    5,175
    
    
    
    2,927Refunds on advances for construction
    
    
    (2,287
    )
    
    
    (2,230
    )Cash received on financing portion of purchased power contracts
    
    
    658
    
    
    
    865Repayment of long-term debt
    
    
    (331
    )
    
    
    (312
    )Net change in notes payable to banks
    
    
    (2,000
    )
    
    
    (2,000
    )Dividends paid
    
    
    (6,732
    )
    
    
    (6,715
    )Net cash used
    
    
    (4,313
    )
    
    
    (6,961
    )Net decrease in cash and cash equivalents
    
    
    (5,826
    )
    
    
    (12,740
    )Cash and cash equivalents, beginning of period
    
    
    12,775
    
    
    
    18,397Cash and cash equivalents, end of period
    
    $
    6,949
    
    
    $
    5,657Non-cash activities  supplemental disclosures:Adoption of
new accounting standard for asset retirement obligations:Cumulative effect of adoption  Regulatory asset
    
    
    
    
    
    $
    2,495Utility plant, net
    
    
    
    
    
    
    223Asset retirement obligations
    
    
    
    
    
    
    (2,718
    )
 The accompanying notes are an integral part of these consolidated financial statements 7




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##### Table of Contents



SOUTHERN CALIFORNIA WATER COMPANY 
 BALANCE SHEETS
ASSETS
(Unaudited)
 June 30,
    
    December 31,(in thousands)
    
    2004
    
    2003Utility Plant, at costWater
    
    $
    698,468
    
    
    $
    688,079Electric
    
    
    43,799
    
    
    
    42,711742,267
    
    
    
    730,790Less  Accumulated depreciation
    
    
    (221,508
    )
    
    
    (211,424
    )520,759
    
    
    
    519,366Construction work in progress
    
    
    68,686
    
    
    
    51,354589,445
    
    
    
    570,720Other Property and Investments
    
    
    7,520
    
    
    
    7,471Current AssetsCash and cash equivalents
    
    
    4,755
    
    
    
    8,306Accounts receivable-customers (less allowance for doubtful
accounts of $828 in 2004 and $797 in 2003)
    
    
    11,800
    
    
    
    11,487Unbilled revenue
    
    
    14,514
    
    
    
    12,484Intercompany receivable
    
    
    1,928
    
    
    
    445Other accounts receivable
    
    
    2,168
    
    
    
    10,516Materials and supplies, at average cost
    
    
    1,430
    
    
    
    1,322Regulatory assets  current
    
    
    4,582
    
    
    
    5,331Prepayments
    
    
    1,774
    
    
    
    3,63842,951
    
    
    
    53,529Regulatory and Other AssetsRegulatory assets
    
    
    56,501
    
    
    
    57,624Other accounts receivable
    
    
    8,000
    
    
    
    8,000Other
    
    
    7,974
    
    
    
    8,219Total regulatory and other assets
    
    
    72,475
    
    
    
    73,843Total Assets
    
    $
    712,391
    
    
    $
    705,563
 The accompanying notes are an integral part of these financial statements 8




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##### Table of Contents



SOUTHERN CALIFORNIA WATER COMPANY
BALANCE SHEETS
CAPITALIZATION AND LIABILITIES
(Unaudited) June 30,
    
    December 31,(in thousands)
    
    2004
    
    2003CapitalizationCommon shares, no par value
    
    $
    124,169
    
    
    $
    123,391Earnings reinvested in the business
    
    
    83,994
    
    
    
    82,656Total common shareholders equity
    
    
    208,163
    
    
    
    206,047Long-term debt
    
    
    221,822
    
    
    
    221,996Total capitalization
    
    
    429,985
    
    
    
    428,043Current LiabilitiesLong-term debt  current
    
    
    260
    
    
    
    260Accounts payable
    
    
    14,733
    
    
    
    17,312Intercompany payable
    
    
    34,061
    
    
    
    34,111Taxes payable
    
    
    10,703
    
    
    
    4,382Accrued employee expenses
    
    
    4,718
    
    
    
    3,828Accrued interest
    
    
    1,600
    
    
    
    1,581Deferred income taxes  current
    
    
    217
    
    
    
    1,057Other
    
    
    7,500
    
    
    
    10,376Total current liabilities
    
    
    73,792
    
    
    
    72,907Other CreditsAdvances for construction
    
    
    68,076
    
    
    
    66,827Contributions in aid of construction
    
    
    66,645
    
    
    
    64,023Deferred income taxes
    
    
    50,673
    
    
    
    50,277Unamortized investment tax credits
    
    
    2,655
    
    
    
    2,700Accrued pension and other postretirement benefits
    
    
    2,493
    
    
    
    4,584Regulatory liabilities
    
    
    11,394
    
    
    
    9,642Other credits
    
    
    6,678
    
    
    
    6,560Total other credits
    
    
    208,614
    
    
    
    204,613Commitments and Contingencies (Note 8)
    
    
    
    
    
    
    Total Capitalization and Liabilities
    
    $
    712,391
    
    
    $
    705,563
 The accompanying notes are an integral part of these financial statements 9




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##### Table of Contents



SOUTHERN CALIFORNIA WATER COMPANY 
 STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED
JUNE 30, 2004 AND 2003
(Unaudited)
 Three Months EndedJune 30,(in thousands)
    
    2004
    
    2003Operating RevenuesWater
    
    $
    51,897
    
    
    $
    44,690Electric
    
    
    5,449
    
    
    
    5,35357,346
    
    
    
    50,043Operating ExpensesWater purchased
    
    
    12,609
    
    
    
    10,284Power purchased for pumping
    
    
    2,294
    
    
    
    2,281Power purchased for resale
    
    
    2,538
    
    
    
    2,813Unrealized loss (gain) on power purchased contracts
    
    
    76
    
    
    
    (1,557
    )Gain on sale of water rights
    
    
    (5,675
    )
    
    
    Groundwater production assessment
    
    
    1,338
    
    
    
    1,729Supply cost balancing accounts
    
    
    3,598
    
    
    
    501Other operating expenses
    
    
    4,914
    
    
    
    4,765Administrative and general expenses
    
    
    9,418
    
    
    
    9,997Depreciation and amortization
    
    
    4,835
    
    
    
    4,713Maintenance
    
    
    2,375
    
    
    
    2,230Taxes on income
    
    
    6,024
    
    
    
    2,358Other taxes
    
    
    2,015
    
    
    
    1,917Total operating expenses
    
    
    46,359
    
    
    
    42,031Operating Income
    
    
    10,987
    
    
    
    8,012Other Income (Loss)Other income, net
    
    
    851
    
    
    
    84Taxes on other income
    
    
    (322
    )
    
    
    (63
    )Total other income, net
    
    
    529
    
    
    
    21Interest ChargesInterest on long-term debt
    
    
    3,939
    
    
    
    4,107Other interest and amortization of debt expense
    
    
    258
    
    
    
    165Total interest charges
    
    
    4,197
    
    
    
    4,272Net Income
    
    $
    7,319
    
    
    $
    3,761
 The accompanying notes are an integral part of these financial statements 10




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##### Table of Contents



SOUTHERN CALIFORNIA WATER COMPANY 
 STATEMENTS OF INCOME
FOR THE SIX MONTHS ENDED
JUNE 30, 2004 AND 2003
(Unaudited)
 Six Months EndedJune 30,(in thousands)
    
    2004
    
    2003Operating RevenuesWater
    
    $
    89,358
    
    
    $
    82,859Electric
    
    
    13,076
    
    
    
    12,357102,434
    
    
    
    95,216Operating ExpensesWater purchased
    
    
    21,329
    
    
    
    17,994Power purchased for pumping
    
    
    3,935
    
    
    
    4,171Power purchased for resale
    
    
    7,367
    
    
    
    6,669Unrealized gain on purchased power contracts
    
    
    (481
    )
    
    
    (1,274
    )Gain on sale of water rights
    
    
    (5,675
    )
    
    
    Groundwater production assessment
    
    
    3,160
    
    
    
    3,396Supply cost balancing accounts
    
    
    3,819
    
    
    
    1,459Other operating expenses
    
    
    9,007
    
    
    
    8,518Administrative and general expenses
    
    
    17,154
    
    
    
    17,007Depreciation and amortization
    
    
    9,772
    
    
    
    9,431Maintenance
    
    
    4,628
    
    
    
    4,102Taxes on income
    
    
    7,360
    
    
    
    4,448Other taxes
    
    
    4,140
    
    
    
    3,866Total operating expenses
    
    
    85,515
    
    
    
    79,787Operating Income
    
    
    16,919
    
    
    
    15,429Other Income (Loss)Other income, net
    
    
    664
    
    
    
    127Taxes on other income
    
    
    (221
    )
    
    
    (109
    )Total other income, net
    
    
    443
    
    
    
    18Interest ChargesInterest on long-term debt
    
    
    7,874
    
    
    
    8,247Other interest and amortization of debt expense
    
    
    450
    
    
    
    315Total interest charges
    
    
    8,324
    
    
    
    8,562Net Income
    
    $
    9,038
    
    
    $
    6,885
 The accompanying notes are an integral part of these financial statements 11




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SOUTHERN CALIFORNIA WATER COMPANY 
 STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2004 AND 2003
(Unaudited)
 Six Months EndedJune 30,(in thousands)
    
    2004
    
    2003Cash Flows From Operating Activities:Net income
    
    $
    9,038
    
    
    $
    6,885Adjustments for non-cash items:Depreciation and amortization
    
    
    9,772
    
    
    
    9,431Deferred income taxes and investment tax credits
    
    
    354
    
    
    
    2,215Unrealized gain on purchased power contracts
    
    
    (481
    )
    
    
    (1,274
    )Impairment loss on assets removed from rate-base
    
    
    482
    
    
    
    Non-cash compensation expense on stock units issued
    
    
    778
    
    
    
    Other  net
    
    
    1,028
    
    
    
    1,684Changes in assets and liabilities:Accounts receivable  customers
    
    
    (313
    )
    
    
    372Unbilled revenue
    
    
    (2,030
    )
    
    
    (851
    )Other accounts receivable
    
    
    8,348
    
    
    
    (2,440
    )Materials and supplies
    
    
    (108
    )
    
    
    (507
    )Prepayments
    
    
    1,864
    
    
    
    1,168Regulatory assets  supply cost balancing accounts
    
    
    3,819
    
    
    
    1,459Other assets
    
    
    (118
    )
    
    
    (317
    )Accounts payable
    
    
    (2,579
    )
    
    
    (2,634
    )Intercompany payable
    
    
    (1,533
    )
    
    
    (107
    )Taxes payable
    
    
    6,321
    
    
    
    1,774Other current liabilities
    
    
    (4,607
    )
    
    
    (4,068
    )Net cash provided
    
    
    30,035
    
    
    
    12,790Cash Flows From Investing Activities:Construction expenditures
    
    
    (29,266
    )
    
    
    (16,344
    )Net cash used
    
    
    (29,266
    )
    
    
    (16,344
    )Cash Flows From Financing Activities:Receipt of advances for and contributions in aid of construction
    
    
    5,170
    
    
    
    2,811Refunds on advances for construction
    
    
    (2,274
    )
    
    
    (2,230
    )Cash received on financing portion of purchased power contracts
    
    
    658
    
    
    
    865Repayments of long-term debt
    
    
    (174
    )
    
    
    (170
    )Net change in intercompany borrowings
    
    
    
    
    
    
    (1,000
    )Dividends paid
    
    
    (7,700
    )
    
    
    (7,700
    )Net cash used
    
    
    (4,320
    )
    
    
    (7,424
    )Net decrease in cash and cash equivalents
    
    
    (3,551
    )
    
    
    (10,978
    )Cash and cash equivalents, beginning of period
    
    
    8,306
    
    
    
    11,677Cash and cash equivalents, end of period
    
    $
    4,755
    
    
    $
    699Non-cash activities  supplemental disclosures:Adoption of new accounting standard for asset retirementobligations:Cumulative effect of adoption  Regulatory asset
    
    
    
    
    
    $
    2,479Utility plant, net
    
    
    
    
    
    
    221Asset retirement obligations
    
    
    
    
    
    
    (2,700
    )
 The accompanying notes are an integral part of these financial statements 12




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AMERICAN STATES WATER COMPANY
AND
SOUTHERN CALIFORNIA WATER COMPANY 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
 American States Water Company (AWR), incorporated in 1998, is the parent
company of Southern California Water Company (SCW), American States Utility
Services, Inc. (ASUS) and Chaparral City Water Company (CCWC). More than
90% of AWRs assets consist of the common stock of SCW. SCW is a public utility
company engaged principally in the purchase, production and distribution of
water in California. In addition, SCW distributes and sells electric energy in
several mountain communities in California. Unless otherwise stated in this
report, the term Registrant applies to both AWR and SCW, collectively. Note 1  Basis of Presentation: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 revenue 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,
2003 filed with the SEC. Certain prior year amounts have been reclassified to
conform to current year presentation. Note 2  Regulatory Matters:In accordance with accounting principles for
rate-regulated enterprises, Registrant records regulatory assets, which
represent probable future revenue associated with certain costs that will be
recovered from customers through the rate-making process, and regulatory
liabilities, which represent probable future reductions in revenue associated
with amounts that are to be credited to customers through the rate-making
process. Regulatory assets, less regulatory liabilities, included in the
consolidated balance sheets are as follows: June 30,
    
    December 31,(In thousands)
    
    2004
    
    2003SCWSupply cost balancing accounts
    
    $
    22,855
    
    
    $
    24,432Costs deferred for future recovery on Aerojet case
    
    
    16,222
    
    
    
    16,177Flow-through taxes, net
    
    
    9,847
    
    
    
    10,690Transmission line abandonment costs
    
    
    5,000
    
    
    
    5,000Asset retirement obligations
    
    
    2,854
    
    
    
    2,729Low income balancing accounts
    
    
    1,845
    
    
    
    1,452Refund of water right lease revenues
    
    
    (5,687
    )
    
    
    (6,177
    )Revenues subject to refund
    
    
    (3,487
    )
    
    
    (3,465
    )Supply cost memorandum accounts net over-collections
    
    
    (2,220
    )
    
    
    Other regulatory assets
    
    
    2,460
    
    
    
    2,475Total SCW
    
    $
    49,689
    
    
    $
    53,313CCWCAsset retirement obligations
    
    $
    46
    
    
    $
    40Other regulatory assets
    
    
    45
    
    
    
    40Total AWR
    
    $
    49,780
    
    
    $
    53,393
 13




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##### Table of Contents



Note 2  Regulatory Matters (Continued): Supply Cost Balancing Accounts: As permitted by the California Public Utilities Commission (CPUC), SCW
has historically maintained water supply balancing accounts prior to November
29, 2001 and electric supply balancing accounts to account for
under-collections and over-collections of revenues designed to recover such
costs. Costs are recorded as expenses and charged to balancing accounts when
such costs are incurred. The balancing accounts are reversed when such costs
are recovered through rate adjustments or through refunds of previously
incurred costs. SCW accrues interest on its supply cost balancing accounts at
the prevailing rate for 90-day commercial paper. CCWC does not maintain a
supply cost balancing account. Water Balancing Account On November 29, 2001, the CPUC ordered water
utilities with existing water supply balancing accounts to cease booking
amounts to such accounts. In its place, water utilities are now required to
establish a memorandum supply cost account. The over- or under-collection of
water supply costs is recorded in this memorandum account in a manner similar
to the balancing account. In a decision issued on June 19, 2003 related to the memorandum supply
cost account, the CPUC concluded that (i) if a utility is within its 3-year
rate case cycle and does not earn in excess of its authorized rate of return,
the utility is entitled to recover its costs in the memorandum supply cost
account, subject to a reasonableness review by the CPUC; (ii) if a utility is
either within or outside of its rate case cycle and earns in excess of its
authorized rate-of-return, the utilitys recovery of expenses from the
memorandum supply cost account will be reduced by the amount exceeding the
authorized rate-of-return, and (iii) a utility is required to seek review of
under and over collections by filing an advice letter annually. On April 30, 2004, SCW filed advice letters for Regions I and II for the
period from November 29, 2001 to December 31, 2003 with respect to an
approximately $1.4 million net over-collection. This over-collection has been
recorded as a regulatory liability at June 30, 2004. An additional $800,000 of
net over-collection has also been recorded as a regulatory liability at June
30, 2004. This regulatory liability was generated during the six months ended
June 30, 2004. SCW has not filed advice letters for review of the activity in
the Region III memorandum supply cost account pending resolution of SCWs
petition to have the advice letter recognized as a regional filing for Region
III. Region III had an under-collection balance of $6.0 million and $5.3
million at June 30, 2004 and December 31, 2003, respectively. A regulatory
asset with respect to this under-collection will not be recorded
until receipt of a CPUC decision regarding this matter given the
uncertainty surrounding this advice letter filing. Electric Balancing Account Electric power costs incurred by SCWs Bear
Valley Electric division continue to be charged to its electric supply cost
balancing account. The under-collection in the electric balancing account is
$21.7 million at June 30, 2004. The CPUC has authorized SCW to collect a
surcharge from its customers of 2.2¢ per kilowatt hour through August 2011, to
enable SCW to recover the under-collection. SCW sold 29,204,086 and 28,287,154
kilowatt hours of electricity to its Bear Valley Electric division customers
for the three months ended June 30, 2004 and 2003, respectively, and 69,955,975
and 67,972,282 kilowatt hours for the six months ended June 30, 2004 and 2003,
respectively. SCW anticipates electricity sales to be sufficient for it to
recover the amount of the under-collection by August 2011. SCW is allowed to
include only up to a weighted annual energy purchase cost of $77 per MWh each
year through August 2011 in its electric supply cost balancing account. To the
extent that the actual weighted average annual cost for power purchased exceeds
the $77 per MWh amount, SCW will not be able to include these amounts in its
balancing account and such amounts will be expensed. For the three and six
months ended June 30, 2004, SCW has expensed $224,361 for costs over $77 per
MWh. 14




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##### Table of Contents



Note 2  Regulatory Matters (Continued): During April 2001, SCW recorded a one-time sale of energy on the spot
market that generated a $644,000 gain which was recorded in the supply cost
balancing account at that time. The gain was the subject of a complaint filed
at the Federal Energy Regulatory Commission (FERC) by Mirant Americas Energy
Marketing, Inc. (Mirant Marketing) where Mirant Marketing, the purchaser of the
energy, was seeking to be refunded all or a portion of the gain. In March 2004,
the FERC ordered SCW to refund the $644,000, plus interest, to Mirant
Marketing. This refund increased the cost of power purchased for resale during
the six months ended June 30, 2004, with a corresponding decrease in
the provision for supply cost balancing account. The sale of excess energy on
the spot market in 2001 resulted from a one-month overlap of energy purchase
agreements. Costs Deferred for Future Recovery on Aerojet Case: SCW sued Aerojet-General Corporation (Aerojet) for causing the
contamination of the Sacramento County Groundwater Basin, which affected
certain SCW wells. On a related matter, SCW also filed a lawsuit against the
State of California. The CPUC authorized memorandum accounts to allow for
recovery, from customers, of costs incurred by SCW in prosecuting the cases
against Aerojet and the State, less any recovery from the defendants or others.
As of June 30, 2004 and December 31, 2003, approximately $16 million had been
recorded as a non-yielding regulatory asset representing primarily legal costs
incurred to date in connection with prosecuting the cases. Management believes
the recovery of these costs through rates is probable; however, it is managements
intention to offset any settlement proceeds from Aerojet that may occur from
these actions against the balance in the memorandum accounts at the time of
settlement. Management cannot give assurance that the CPUC will ultimately
allow recovery of all or any of these costs. Revenues Subject to Refund: SCW and the City of Santa Monica (City) reached a settlement agreement
in which SCW sold its water rights in the Charnock Groundwater Basin (Basin)
to the City and assigned to the City its rights against all potentially
responsible parties (PRPs) who stored, transported and dispensed gasoline
containing methyl tertiary butyl ether (MTBE) in underground storage tanks,
pipelines or other related infrastructure in the Basin. The City also
indemnified SCW from related claims. In a CPUC decision approved on July 8, 2004, SCW was directed by the CPUC
to (i) track the net settlement proceeds in an interest-bearing memorandum
account to fund capital for infrastructure improvements over the next eight
years, (ii) maintain records of all memorandum account activity, (iii) obtain
the CPUCs approval to include those capital costs in rate base as the
improvements become necessary and useful, (iv) remove relevant assets from rate
base, and (v) refund to ratepayers the net proceeds received from PRPs, for
which a $3.5 million was recorded as a liability in December 2003 on the basis
of a Proposed Decision by the CPUC. In May 2004, SCW received the full
settlement payment of $5.7 million from the City. The total proceeds of $5.7
million from the sale and the assignment of rights were offset by an impairment
loss of $482,000 associated with assets removed from rate base, pursuant to the
decision, resulting in a $5.2 million net pre-tax increase in operating income.
SCW recorded the impairment loss on assets removed from rate-base in other
operating expenses. 15




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##### Table of Contents



Note 2  Regulatory Matters (Continued): Refund of Water Right Lease Revenues: In 1994, SCW entered into a contract to lease to the City of Folsom, 5,000
acre-feet per year of water rights to the American River, and had included all
associated revenues in a non-operating income account. This issue was raised
by the Office of Ratepayer Advocates (ORA) in SCWs Region III proceedings.
In a decision issued on March 16, 2004, the CPUC determined that SCW failed to
seek the CPUCs approval to effectuate the lease and was to pay a fine of
$180,000. The decision also ordered SCW to refund 70 percent of the total
amount of lease revenues received since 1994, plus interest, to customers.
Pursuant to the order, SCW recorded a $6.2 million regulatory liability with a
corresponding charge against non-operating income (net of taxes of $2.5
million) during the fourth quarter of 2003. Management disagrees with the
CPUCs decision and has filed an appeal to the decision in which it will
vigorously defend its position. As the final amount of the refund was approved
by the CPUC in June of 2004, SCW adjusted its estimate of total customer
refunds to the approved amount of $5.2 million. The regulatory liability was
adjusted accordingly. Pursuant to the order, the apportionment of any lease
revenues that SCW may collect in the future will be determined by a later
decision. Therefore, beginning in the first quarter of 2004, all amounts billed
to the City of Folsom are included as a regulatory liability until all
uncertainties about this matter are resolved with the CPUC. For the three and
six months ended June 30, 2004, SCW recorded an additional $269,000 and
$538,000, respectively, in the regulatory liability account. There were no other significant changes in regulatory matters during the
three and six months ended June 30, 2004. Note 3  Derivative Instruments:Registrant has certain block-forward
purchase power contracts that are subject to Statement of Financial Accounting
Standards (SFAS) No. 133, Accounting for Derivative Instruments and Hedging
Activities", as amended by SFAS Nos. 138 and 149. A derivative financial
instrument or other contract derives its value from another investment or
designated benchmark. SFAS No. 133 requires companies to record derivatives on
the balance sheet as assets and liabilities, and to measure those instruments
at their fair value. Certain of these contracts qualify as an exception
provided under SFAS No. 133 for activities that are considered normal purchases
and normal sales. These contracts are reflected in the statements of income at
the time of contract settlement. During 2002, SCW became a party to block-forward purchase power contracts
that qualified as derivative instruments under SFAS No. 133. Contracts with
Pinnacle West Capital Corporation (PWCC) which became effective in November
2002 have not been designated as normal purchases and normal sales and, as a
result, have been recognized at fair market value on the balance sheets as of
June 30, 2004 and December 31, 2003. This resulted in a pre-tax unrealized loss
of $76,000 and a pre-tax unrealized gain of $1.6 million for the three months
ended June 30, 2004 and 2003, respectively, and a pre-tax unrealized gain of
$481,000 and $1.3 million for the six months ended June 30, 2004 and 2003,
respectively. On a monthly basis, the related asset or liability is adjusted
to reflect the fair market value at the end of the month. As this contract is
settled, the realized gains or losses will be recorded in power purchased for
resale, and the unrealized gains or losses will be reversed. The market prices
used to determine the fair value for this derivative instrument were estimated
based on independent sources such as broker quotes and publications.
Settlement of this contract occurs on a cash or net basis through 2006 and by
physical delivery through 2008. Except as discussed above, Registrant has no other derivative financial
instruments. 16




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##### Table of Contents



Note 4  Earnings Per Share / Capital Stock:Basic earnings per common
share are calculated pursuant to SFAS No. 128, Earnings per Share,and are
based on the weighted average number of common shares outstanding during each
period and net income. Diluted earnings per common share are based upon the
weighted average number of common shares including both shares outstanding and
potentially issued in connection with stock options and stock units granted
under Registrants 2000 Stock Incentive Plan and the 2003 Non-Employee
Directors Stock Plan, and net income. At June 30, 2004 and 2003, there were
498,320 and 333,679 options outstanding, respectively, under these Plans. At
June 30, 2004, there were also approximately 31,500 stock units outstanding
pursuant to the 2003 Non-Employee Directors Stock Plan. Outstanding stock
options and stock unit awards issued by the Registrant represent the only
dilutive effect reflected in diluted weighted average shares outstanding. The
difference between basic and diluted EPS is the effect of stock options and
stock units that, under the treasury share method, gives rise to common stock
equivalents. Registrant issued 49,666 and 21,317 common shares which totaled
approximately $1,204,000 and $504,000, respectively, for the six months ended
June 30, 2004 and 2003, and 25,454 and 4,174 common shares which totaled
approximately $595,000 and $102,000, respectively, for the three months ended
June 30, 2004 and 2003, under the Registrants Common Share Purchase and
Dividend Reinvestment Plan (DRP) and 401(k) Plan. During the three months ended June 30, 2004 and 2003, AWR paid quarterly
dividends to the shareholders, totaling approximately $3.4 million or $0.221
per share, respectively. During the six months ended June 30, 2004 and 2003,
AWR paid dividends to the shareholders, totaling approximately $6.7 million or
$0.442 per share, respectively. Note 5  Stock Incentive Plans:Registrant has the 2000 Stock Incentive
Plan and applies Accounting Principles Board Opinion (APB) No. 25, Accounting
for Stock Issued to Employees", in accounting for its stock options.
Accordingly, no compensation cost for the Plan has been recognized for options
granted at fair value at the date of grant. Registrant has also adopted the
disclosure only requirements of SFAS No. 123, Accounting for Stock-Based
Compensation. On May 20, 2003, the Board of Directors adopted the 2003 Non-Employee
Directors Stock Plan (New Directors Plan), subject to shareholder approval.
The shareholders approved the New Directors Plan at the May 2004 Annual
Meeting. The New Directors Plan is to provide the non-employee directors with
supplemental stock-based compensation and to encourage them to increase their
stock ownership in AWR, and as a means to terminate the previous Non-Employee
Directors Plan (Former Plan). Registrant maintained the Former Plan which
provided for an annual cash retirement benefit to non-employee directors upon
their retirement from service on the Board. Under the New Directors Plan,
participants in the Former Plan were given the opportunity to elect to receive
stock units under the New Directors Plan in lieu of their benefits under the
Former Plan. All of the directors elected to participate in the New Directors
Plan in lieu of receiving benefits under the Former Plan. Directors will no
longer be able to participate in the Former Plan which has ceased to exist. Pursuant to the New Directors Plan, directors will be entitled to receive
stock options and stock unit awards. As of June 30, 2004, approximately 12,000
stock options have been granted to the directors under the New Directors Plan.
The stock options were granted at fair value at the date of grant; therefore
no compensation cost has been recognized for these options. The stock units
are a non-voting unit of measurement which is deemed for bookkeeping and
payment purposes to represent on outstanding share of AWR common stock. As of
June 30, 2004, the directors have been credited with approximately 31,500 stock
units. Stock units will be paid only in shares of AWR common stock on the date
that the participant terminates service as a director. Upon adoption of the
New Directors Plan in May 2004, Registrant began recording the stock unit
awards using variable plan accounting. For the three and six months ended June
30, 2004, Registrant has recorded compensation expense totaling $778,000 under
the New Directors Plan with a corresponding amount to common stock in
shareholders equity. 17




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##### Table of Contents



Note 5  Stock Incentive Plans (Continued): Prior to the approval of the New Directors Plan, Registrant had
approximately $531,000 of benefits accrued under the Former Plan which was
replaced by the New Directors Plan. For the three and six months ended June
30, 2004, the net impact on earning of replacing the Former Plan and recording
the New Directors Plan was approximately $247,000. If Registrant had elected to adopt the optional recognition provisions of
SFAS No. 123 for its stock options and stock units under the 2000 Stock
Incentive Plan and the New Directors Plan, net income and earnings per share
applicable to common shareholders would have been changed to the pro forma
amounts indicated below: Three Months Ended June 30,
    
    Six Months Ended June 30,dollars in thousands except EPS
    
    2004
    
    2003
    
    2004
    
    2003Earnings available  common:As reported
    
    $
    6,710
    
    
    $
    2,911
    
    
    $
    7,856
    
    
    $
    5,901Add: Stock-based
compensation expense
included in reported net
income, net of tax
    
    
    461
    
    
    
    
    
    
    
    461
    
    
    
    Less: Stock-based
compensation expense
determined under the
fair-value accounting
method, net of tax
    
    
    (550
    )
    
    
    (72
    )
    
    
    (628
    )
    
    
    (144
    )Pro forma
    
    $
    6,621
    
    
    $
    2,839
    
    
    $
    7,689
    
    
    $
    5,757Basic earnings per share:As reported
    
    $
    0.44
    
    
    $
    0.19
    
    
    $
    0.52
    
    
    $
    0.39Pro forma
    
    $
    0.43
    
    
    $
    0.19
    
    
    $
    0.50
    
    
    $
    0.38Diluted earnings per share:As reported
    
    $
    0.44
    
    
    $
    0.19
    
    
    $
    0.51
    
    
    $
    0.39Pro forma
    
    $
    0.43
    
    
    $
    0.19
    
    
    $
    0.50
    
    
    $
    0.38
 18




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##### Table of Contents



Note 6  Employee Benefit Plans:The components of net periodic benefit
costs for Registrants pension plan, postretirement plan, and Supplemental
Executive Retirement Plan (SERP) for the three and six months ended June 30,
2004 and 2003 are as follows: For The Three Months Ended June 30, 2004OtherPostretirementPension Benefits
    
    Benefits
    
    SERP(dollars in thousands)
    
    2004
    
    2003
    
    2004
    
    2003
    
    2004
    
    2003Components of Net Periodic Benefits
Cost:Service Cost
    
    $
    724
    
    
    $
    545
    
    
    $
    97
    
    
    $
    87
    
    
    $
    32
    
    
    $
    10Interest Cost
    
    
    936
    
    
    
    800
    
    
    
    146
    
    
    
    139
    
    
    
    31
    
    
    
    11Expected Return on Plan Assets
    
    
    (834
    )
    
    
    (679
    )
    
    
    (63
    )
    
    
    (52
    )
    
    
    
    
    
    
    Amortization of Transition
    
    
    
    
    
    
    
    
    
    
    105
    
    
    
    105
    
    
    
    
    
    
    
    Amortization of Prior Service Cost
    
    
    41
    
    
    
    13
    
    
    
    (50
    )
    
    
    (50
    )
    
    
    37
    
    
    
    12Amortization of Actuarial (Gain) Loss
    
    
    129
    
    
    
    70
    
    
    
    32
    
    
    
    20
    
    
    
    
    
    
    
    Net Periodic Pension Cost
    
    $
    996
    
    
    $
    749
    
    
    $
    267
    
    
    $
    249
    
    
    $
    100
    
    
    $
    33
 For The Six Months Ended June 30, 2004OtherPostretirementPension Benefits
    
    Benefits
    
    SERP(dollars in thousands)
    
    2004
    
    2003
    
    2004
    
    2003
    
    2004
    
    2003Components of Net Periodic Benefits Cost:Service Cost
    
    $
    1,448
    
    
    $
    1,090
    
    
    $
    194
    
    
    $
    174
    
    
    $
    64
    
    
    $
    20Interest Cost
    
    
    1,872
    
    
    
    1,600
    
    
    
    292
    
    
    
    278
    
    
    
    62
    
    
    
    22Expected Return on Plan Assets
    
    
    (1,668
    )
    
    
    (1,358
    )
    
    
    (126
    )
    
    
    (104
    )
    
    
    
    
    
    
    Amortization of Transition
    
    
    
    
    
    
    
    
    
    
    210
    
    
    
    210
    
    
    
    
    
    
    
    Amortization of Prior Service Cost
    
    
    82
    
    
    
    26
    
    
    
    (100
    )
    
    
    (100
    )
    
    
    74
    
    
    
    24Amortization of Actuarial (Gain) Loss
    
    
    258
    
    
    
    140
    
    
    
    64
    
    
    
    40
    
    
    
    
    
    
    
    Net Periodic Pension Cost
    
    $
    1,992
    
    
    $
    1,498
    
    
    $
    534
    
    
    $
    498
    
    
    $
    200
    
    
    $
    66
 Registrant contributed approximately $3,315,000 and $900,000 to pension and postretirement plans in May 2004,
respectively. No additional contributions are expected to be made
during the remainder of 2004. Registrants postretirement
medical plan does not provide prescription drug benefits to
Medicare-eligible employees and is not affected by the Medicare
Prescription Drug Improvement and Modernization Act of 2003. Note 7  New Accounting Pronouncements: In January 2003, the Financial Accounting Standards Board (FASB) issued
Interpretation (FIN) No. 46, Consolidation of Variable Interest Entities
(VIE),(revised in December 2003 by FIN No. 46R), which addresses how a
business enterprise should evaluate whether it has a controlling financial
interest in an entity through means other than voting rights and accordingly
should consolidate the entity. FIN No. 46R, which was issued in December 2003,
replaces FIN No. 46. The adoption of FIN No. 46R did not have any impact on the
Registrants financial position, results of operations or cash flows as the
Registrant does not have any variable interests in VIEs at this time. 19




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Note 7  New Accounting Pronouncements (Continued): In December 2003, the SEC issued Staff Accounting Bulletin No. 104 (SAB
104), Revenue Recognition.SAB 104 supercedes SAB 101, Revenue Recognition
in Financial Statements.The primary purpose of SAB 104 is to rescind
accounting guidance contained in SAB 101 related to multiple element revenue
arrangements, superceded as a result of the issuance of Emerging Issues Task
Force (EITF) Issue No. 00-21, Revenue Arrangements with Multiple
Deliverables.Additionally, SAB 104 rescinds the SECs Revenue Recognition in
Financial Statements Frequently Asked Questions and Answers (the FAQ) issued
with SAB 101 that had been codified in SEC Topic 13, Revenue Recognition.
Selected portions of the FAQ have been incorporated into SAB 104. While the
wording of SAB 104 has changed to reflect the issuance of EITF 00-21, the
revenue recognition principles of SAB 101 remain largely unchanged by the
issuance of SAB 104. The adoption of SAB 104 did not have any impact on
Registrants financial position, results of operations or cash flows. In December 2003, the FASB issued SFAS No. 132 (Revised), Employers
Disclosures About Pensions and Other Postretirement Benefits  An Amendment of
FASB Statements Nos. 87, 88, and 106 and a revision of FASB Statement No. 132".
This statement revises employers disclosures about pension plans and other
postretirement benefits plans. It does not change the measurement or
recognition of those plans. The new disclosures were generally effective for
2003 calendar year-end financial statements and for interim periods beginning
first quarter of 2004. Registrant has included the new required disclosures in
Note 6 above. Note 8  Contingencies: Water Quality-Related Litigation: SCW has been named as a defendant in twenty-two lawsuits that allege that
SCW and other water utilities, delivered unsafe water to their customers.
Plaintiffs in these actions seek damages, including general, special, and
punitive damages, according to proof at trial, as well as attorneys fees on
certain causes of action, costs of suit, and other unspecified relief. Nineteen
of the lawsuits were coordinated in the Los Angeles Superior Court and
involve
water served by SCW in the San Gabriel and Pomona Valley areas of Los
Angeles County in the southern portion of California; three of the lawsuits
involve a customer service area located in Sacramento County in northern
California. On August 4, 2004, SCW was ordered dismissed from all the nineteen cases
involving customer service areas located in the Los Angeles County. The order was
issued by the Trial Judge presiding over these matters, and follows a lengthy
legal proceeding dating back to April 1997 when the first of the cases was
filed by over 140 customers in the San Gabriel Valley, alleging their water had
caused personal injuries of varying types and degrees. The Court found SCW did
not violate established water quality standards and dismissed the cases after
allowing reasonable time and opportunity for the Plaintiffs to prove otherwise.
SCW has long asserted that it meets or exceeds the requirements to provide
water within the standards established by the health authorities, and will
continue to meet or exceed those standards. Principle issues in these cases
have been addressed by the Court of Appeals in 1999 and the California Supreme
Court in 2002, setting the stage for this dismissal. The Plaintiffs cases will
continue against several industrial defendants alleged to have contaminated the
groundwater through their operations and disposal practices. SCW is unable at
this time to determine what action, if any, the Plaintiffs will take. As for the three lawsuits in Sacramento County, one of the three
Plaintiffs filed for dismissal and the case has subsequently been dismissed by
the Court. Based upon the information currently available to it, SCW believes that
the remaining two claims are without merit,
and intends to vigorously defend against these claims. 20




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Note 8  Contingencies (Continued): SCW is subject to self-insured retention provisions in its applicable
insurance policies and has either expensed the self-insured amounts or has
reserved against payment of these amounts as appropriate. SCWs various
insurance carriers have, to date, provided reimbursement for costs incurred
above the self-insured amounts for defense against these lawsuits, subject to a
reservation of rights. In addition, on March 16, 2004, the CPUC issued a
decision which authorizes SCW to establish a memorandum account to accumulate
costs to comply with certain contamination remediation requirements for future
recovery. Other Water Quality Litigation: On October 25, 1999, SCW sued Aerojet for causing the contamination of
eastern portions of the Sacramento County groundwater basin. On October 10,
2003, Registrant entered into a confidential Memorandum of Understanding
(MOU) with the Aerojet for the settlement of legal actions brought by SCW.
The MOU sets forth the present financial terms and the structure of a
settlement to cover, over time, capital and litigation related costs incurred
by SCW resulting from the contamination. The MOU and the settlement embodied
therein were found to be binding by the Sacramento Superior Court on January
18, 2004. Further documentation incorporating the terms of the MOU is
presently underway. However, documentation is not complete and management is
presently unable to predict when a comprehensive set of settlement documents
will be completed. Based on the financial terms in the MOU, SCW established a receivable from
Aerojet in an amount of $16.7 million at the end of 2003, of which $8.7 million
has been received in early 2004 and was included in current Other Accounts
Receivable on the balance sheets. Reimbursements received from Aerojet have
been applied directly to reduce SCWs costs of utility plant and purchased
water by $16 million and $700,000, respectively. Prior to the MOU, Aerojet had
reimbursed SCW $4.3 million in capital costs and $171,000 for additional water
supply. The remainder of the costs to be recovered, which consist primarily of
deferred legal and consulting related costs is subject to further
settlement documentation. In an action related to the draft settlement agreement, Registrant and
Aerojet have signed three separate agreements requiring Aerojet to pay for
certain transmission pipelines and upgrades to the Coloma Treatment Plant as a
contingency plan, should additional wells be impacted. The value of the three
agreements approximates $6.8 million in capital improvements. In addition, SCW
is in negotiations with the County of Sacramento regarding the Countys plan to
construct a treatment plant to provide the Registrant with a replacement water
supply, for wells lost due to the contamination by Aerojet. The CPUC has authorized memorandum accounts to allow for recovery, from
customers, of costs incurred by SCW in prosecuting the suits filed against the
State and Aerojet, less any recovery from the defendants or others. As of June
30, 2004, approximately $16.2 million in legal and consulting related costs has
been recorded as deferred charges and included in Regulatory Assets on the
balance sheets. The CPUC has authorized SCW to increase rates, effective April
28, 2001, for recovery over a six-year period of approximately $1.8 million in
expenses that were incurred on or before August 31, 2000, in the Aerojet
matter. The unamortized portion of the $1.8 million is also recorded as a
regulatory asset (Note 2). As part of an abbreviated application for SCWs
Region I filed in 2003, SCW requested a long-term amortization of the current
balance of costs included in the Aerojet litigation memorandum account, net of
any reimbursement amounts. Management believes the recovery of these
costs through rates is probable; however, it is managements intention to offset any
settlement proceeds from Aerojet that may occur from these actions against the
balance in the memorandum accounts at the time of settlement. Management cannot
give assurance that the CPUC will ultimately allow recovery of all or any of
these costs. The draft agreement with Aerojet also addresses the possible
recovery of SCWs deferred charges through settlement proceeds from Aerojet
that will come from the revenues collected by Aerojet in new development areas
that occur on Aerojets property. 21




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##### Table of Contents



Note 8  Contingencies (Continued): Perchlorate and/or Volatile Organic Compounds (VOC) have been detected in
five wells servicing SCWs San Gabriel System. SCW filed suit, along with two
other affected water purveyors and the San Gabriel Basin Water Quality
Authority (WQA), in the federal court against some of those responsible for the
contamination. Some of the other potential defendants settled with SCW, other
water purveyors and the WQA on VOC related issues prior to the filing of the
lawsuit. In response to the filing of the Federal lawsuit, the Potentially
Responsible Party (PRP) defendants filed motions to dismiss the suit or strike
certain portions of the suit. The judge issued a ruling on April 1, 2003
granting in part and denying in part the defendants motions. A key ruling of
the court was that the water purveyors, including the Registrant, by virtue of
their ownership of wells contaminated with hazardous chemicals are themselves
PRPs under the Comprehensive Environmental Response, Compensation, and
Liability Act (CERCLA). Registrant has, pursuant to permission of the court,
amended its suit to claim certain affirmative defenses as an innocent party
under CERCLA. In this same suit, the PRPs have filed cross-complaints against
the Registrant, the other two affected water purveyors, the WQA and the
Metropolitan Water District, the Main San Gabriel Basin Watermaster and others
on the theory that they arranged for and did transport contaminated water into
the Basin for use by Registrant and the other two affected water providers and
for other related claims. Registrant is presently unable to predict the outcome
of this ruling on its ability to fully recover from the PRPs future costs
associated with the treatment of these wells. On August 29, 2003, the US Environmental Protection Agency issued
Unilateral Administrative Orders (UAO) against 41 parties deemed responsible
for polluting the groundwater in that portion of the San Gabriel Valley from
which SCWs two impacted wells draw water. SCW was not named as a party to the
UAO. The UAO requires that these parties remediate the contamination. As a
result of the issuance of the UAO, these parties have begun settlement
discussions regarding the Federal lawsuits with SCW, the other two affected
water purveyors and WQA. Registrant is presently unable to predict the ultimate
outcome of these settlement discussions. Condemnation of Properties: The laws of the State of California provide for the acquisition of public
utility property by governmental agencies through their power of eminent
domain, also known as condemnation, where doing so is in the public interest.
In addition, however, the laws of the State of California also provide: (1)
that the owner of the utility property may contest whether the condemnation is
actually in the public interest; and (2) that the owner is entitled to receive
the fair market value of its property if the property is ultimately taken.
Although the City of Claremont, California located in SCWs Region III has not
initiated the formal condemnation process pursuant to California law, the City
hired a consultant to perform an appraisal of the value of Registrants water
system serving that city. On April 27, 2004, the City Counsel voted 3 to 2 to
make an offer to and enter into negotiations with SCW to acquire the Claremont
water system. The Citys appraisal consultant has valued the system at $40
million to $45 million. SCWs estimate of system value is significantly
greater. SCW has informed the City that the Claremont water system is not for
sale and that it will vigorously defend against any action initiated by the
City to take the system through an eminent domain proceeding. SCW is unable to
predict the ultimate outcome of any such proceeding. As of June 30, 2004, the
recorded net book value of the Claremont water system is approximately $32
million. Other Litigation: Registrant is also subject to ordinary routine litigation incidental to
its business. Other than those disclosed above, no other legal 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
ordinary course of business. 22




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##### Table of Contents



Note 9  Business Segments:AWR has three principal business units:
regulated water and electric distribution units, through its SCW subsidiary, a
regulated water service utility operation conducted through its CCWC unit, and
a contract operations activity unit through the ASUS subsidiary. All activities
of SCW currently are geographically located within California. All activities
of CCWC are located in the state of Arizona. On a stand-alone basis, AWR has no
material assets other than its investments in its subsidiaries. The tables
below set forth information relating to SCWs water and electric operating
segments, CCWC, and contract and other operations, consisting of ASUS and AWR
corporate expenses. Included in the amounts set forth, certain assets, revenues
and expenses have been allocated. The identifiable assets are net of respective
accumulated provisions for depreciation. Capital additions reflect capital
expenditures paid in cash and exclude property installed by developers and
conveyed to the Company. (dollars in thousands)
    
    As of and for the Three Months Ended June 30, 2004SCW
    
    CCWC
    
    
    
    
    
    
    
    
    
    ConsolidatedWater
    
    Electric
    
    Water
    
    Other*
    
    Eliminations
    
    AWROperating revenues
    
    $
    51,897
    
    
    $
    5,449
    
    
    $
    1,704
    
    
    $
    319
    
    
    
    ($25
    )
    
    $
    59,344Operating income
(loss) before income
taxes
    
    
    17,922
    
    
    
    (911
    )
    
    
    123
    
    
    
    (1,449
    )
    
    
    
    
    
    
    15,685Interest expense, net
    
    
    3,763
    
    
    
    434
    
    
    
    121
    
    
    
    109
    
    
    
    
    
    
    
    4,427Identifiable assets
    
    
    551,764
    
    
    
    37,681
    
    
    
    32,245
    
    
    
    172
    
    
    
    
    
    
    
    621,862Depreciation and
amortization expense
    
    
    4,526
    
    
    
    309
    
    
    
    234
    
    
    
    4
    
    
    
    
    
    
    
    5,073Capital additions
    
    
    15,783
    
    
    
    552
    
    
    
    715
    
    
    
    57
    
    
    
    
    
    
    
    17,107(dollars in thousands)
    
    As of and for the Three Months Ended June 30, 2003SCW
    
    CCWC
    
    
    
    
    
    
    
    
    
    ConsolidatedWater
    
    Electric
    
    Water
    
    Other*
    
    Eliminations
    
    AWROperating revenues
    
    $
    44,690
    
    
    $
    5,353
    
    
    $
    1,558
    
    
    $
    257
    
    
    
    ($41
    )
    
    $
    51,817Operating
income (loss) before
income
taxes
    
    
    9,297
    
    
    
    1,073
    
    
    
    306
    
    
    
    (1,467
    )
    
    
    
    
    
    
    9,209Interest expense, net
    
    
    3,922
    
    
    
    350
    
    
    
    121
    
    
    
    146
    
    
    
    
    
    
    
    4,539Identifiable assets
    
    
    514,433
    
    
    
    27,094
    
    
    
    29,468
    
    
    
    100
    
    
    
    
    
    
    
    571,095Depreciation and amortization expense
    
    
    4,322
    
    
    
    391
    
    
    
    232
    
    
    
    
    
    
    
    
    
    
    
    4,945Capital additions
    
    
    7,671
    
    
    
    644
    
    
    
    688
    
    
    
    43
    
    
    
    
    
    
    
    9,046(dollars in thousands)
    
    As of and for the Six Months Ended June 30, 2004SCW
    
    CCWC
    
    
    
    
    
    
    
    
    
    ConsolidatedWater
    
    Electric
    
    Water
    
    Other*
    
    Eliminations
    
    AWROperating revenues
    
    $
    89,358
    
    
    $
    13,076
    
    
    $
    3,008
    
    
    $
    601
    
    
    
    ($48
    )
    
    $
    105,995Operating
income (loss) before
income taxes
    
    
    24,272
    
    
    
    7
    
    
    
    234
    
    
    
    (2,336
    )
    
    
    
    
    
    
    22,177Interest expense, net
    
    
    7,552
    
    
    
    772
    
    
    
    243
    
    
    
    181
    
    
    
    
    
    
    
    8,748Identifiable assets
    
    
    551,764
    
    
    
    37,681
    
    
    
    32,245
    
    
    
    172
    
    
    
    
    
    
    
    621,862Depreciation and amortization expense
    
    
    9,054
    
    
    
    718
    
    
    
    470
    
    
    
    8
    
    
    
    
    
    
    
    10,250Capital additions
    
    
    26,928
    
    
    
    2,338
    
    
    
    1,243
    
    
    
    83
    
    
    
    
    
    
    
    30,592
 23




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##### Table of Contents



Note 9  Business Segments (Continued): (dollars in thousands)
    
    As of and for the Six Months Ended June 30, 2003SCW
    
    CCWC
    
    
    
    
    
    
    
    
    
    ConsolidatedWater
    
    Electric
    
    Water
    
    Other*
    
    Eliminations
    
    AWROperating revenues
    
    $
    82,859
    
    
    $
    12,357
    
    
    $
    2,814
    
    
    $
    504
    
    
    
    ($41
    )
    
    $
    98,493Operating income
(loss) before income
taxes
    
    
    19,001
    
    
    
    876
    
    
    
    483
    
    
    
    (1,601
    )
    
    
    
    
    
    
    18,759Interest expense, net
    
    
    7,861
    
    
    
    701
    
    
    
    242
    
    
    
    300
    
    
    
    
    
    
    
    9,104Identifiable assets
    
    
    514,433
    
    
    
    27,094
    
    
    
    29,468
    
    
    
    100
    
    
    
    
    
    
    
    571,095Depreciation and
amortization expense
    
    
    8,648
    
    
    
    783
    
    
    
    461
    
    
    
    
    
    
    
    
    
    
    
    9,892Capital additions
    
    
    14,965
    
    
    
    1,379
    
    
    
    1,078
    
    
    
    33
    
    
    
    
    
    
    
    17,455
 * Includes amounts from ASUS and AWR. 24




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations Forward-Looking Information Certain matters discussed in this report (including the documents
incorporated herein by reference) are forward-looking statements intended to
qualify for the safe harbor from liability established by the Private
Securities Litigation Reform Act of 1995. These forward-looking statements can
generally be identified as such because the context of the statement will
include words such as Registrant believes, anticipates, expects or words
of similar import. Similarly, statements that describe Registrants future
plans, objectives, estimates or goals are also forward-looking statements. Such
statements address future events and conditions concerning capital
expenditures, earnings, litigation, rates, water quality and other regulatory
matters, adequacy of water supplies, SCWs ability to recover electric and
water supply costs from ratepayers, contract operations, liquidity and capital
resources, and accounting matters. Actual results in each case could differ
materially from those currently anticipated in such statements, by reason of
factors such as changes in utility regulation, including ongoing local, state
and federal activities; future economic conditions, including changes in
customer demand and changes in water and energy supply cost; future climatic
conditions; and legislative, regulatory and other circumstances affecting
anticipated revenues and costs. See the section entitled Risk Factors for
more information. General American States Water Company (AWR) is the parent company of Southern
California Water Company (SCW), American States Utility Services, Inc.
(ASUS) and Chaparral City Water Company (CCWC). AWR, the parent company,
is not regulated. SCW is a California public utility company engaged principally in the
purchase, production and distribution of water (SIC No. 4941). SCW also
distributes electricity in one customer service area (SIC No. 4911). SCW is
regulated by the Public Utilities Commission of the State of California (CPUC)
and was incorporated on December 31, 1929. SCW is organized into one electric
customer service area and three water service regions operating within 75
communities in 10 counties in the State of California and provides water
service in 21 customer service areas. Region I consists of 7 customer service
areas in northern and central California; Region II consists of 4 customer
service areas located in Los Angeles County; and Region III consists of 10
water customer service areas in eastern Los Angeles County, and in Orange, San
Bernardino and Imperial counties. SCW also provides electric service to the
City of Big Bear Lake and surrounding areas in San Bernardino County through
its Bear Valley Electric Service division. SCW served 250,921 water customers and 22,465 electric customers at June
30, 2004, or a total of 273,386 customers, compared with 271,373 total
customers at June 30, 2003. SCWs utility operations exhibit seasonal trends.
Although SCWs water utility operations have a diversified customer base,
residential and commercial customers account for the majority of SCWs water
sales and revenues. Revenues derived from commercial and residential water
customers accounted for approximately 84.7% and 89.3% of total water revenues
for the three and six months ended June 30, 2004, respectively, as compared to
87.1% and 90.6% for the three and six months ended June 30, 2003, respectively. CCWC is an Arizona public utility company serving 12,367 customers as of
June 30, 2004, compared with 11,954 customers at June 30, 2003. Located in the
town of Fountain Hills, Arizona and a portion of the City of Scottsdale,
Arizona, the majority of CCWCs customers are residential. The Arizona
Corporation Commission (ACC) regulates CCWC. ASUS contracts, either directly or through wholly-owned subsidiaries, to
operate and maintain water and wastewater systems owned by others and to
provide related services, such as billing and meter reading, to approximately
90,000 accounts. ASUS is not regulated. 25




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##### Table of Contents



New Developments ASUS has been an active participant in bidding on contracts for the
privatization of military bases, currently with 9 active bids for such
opportunities. ASUS received notification in June 2004 that it had been awarded
a 50-year contract to own, operate and maintain the water and wastewater
systems at Fort Bliss, located near the City of El Paso, Texas, through a
wholly-owned subsidiary, Fort Bliss Water Services Company (FBWS), and
subject to receipt of regulatory approval from the Texas Commission on
Environmental Quality (TCEQ), expiration of a waiting period and completion of
a transition period (expected to last no more than 90 days). According to the
agreement, the award of Fort Bliss is estimated to have a gross cash flow of
more than $196 million over a 50-year period and is subject to periodic price
re-determination adjustments and adjustments for changes in circumstances. FBWS
will furnish all necessary labor, management, supervision, permits, equipment,
supplies, materials, transportation and any other incidentals for the complete
ownership, operation, maintenance, repair, upgrades and improvements to the
utility systems. FBWS has filed an application for a Certificate of Public
Convenience and Necessity with the TCEQ. ASUS plans to continue to bid on and
negotiate for privatization contracts of other military bases during 2004. ASUS also signed an agreement in July 2004 to provide retail water
services to a mutual water company located in northern California that
currently provides water service only to agricultural customers. This
agreement is subject to completion of additional documentation and satisfaction
of additional conditions. ASUS expects commercial and residential development
to take place in this area beginning in 2005, with the first customers coming
on line in late 2006. 26




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##### Table of Contents



Consolidated Results of OperationsThree Months Ended June 30, 2004 and 2003
(table in thousands) 3 MOS
    
    3 MOSENDED
    
    ENDED
    
    $
    
    %6/30/2004
    
    6/30/2003
    
    CHANGE
    
    CHANGEOPERATING REVENUESWater
    
    $
    53,576
    
    
    $
    46,207
    
    
    $
    7,369
    
    
    
    15.9
    %Electric
    
    
    5,449
    
    
    
    5,353
    
    
    
    96
    
    
    
    1.8
    %Other
    
    
    319
    
    
    
    257
    
    
    
    62
    
    
    
    24.1
    %Total operating revenues
    
    
    59,344
    
    
    
    51,817
    
    
    
    7,527
    
    
    
    14.5
    %OPERATING EXPENSESWater purchased
    
    
    12,802
    
    
    
    10,470
    
    
    
    2,332
    
    
    
    22.3
    %Power purchased for pumping
    
    
    2,415
    
    
    
    2,410
    
    
    
    5
    
    
    
    0.2
    %Power purchased for resale
    
    
    2,538
    
    
    
    2,814
    
    
    
    (276
    )
    
    
    -9.8
    %Unrealized loss (gain) on purchased power contracts
    
    
    76
    
    
    
    (1,557
    )
    
    
    1,633
    
    
    
    -104.9
    %Gain on sale of water rights
    
    
    (5,675
    )
    
    
    
    
    
    
    (5,675
    )
    
    
    -100.0
    %Groundwater production assessment
    
    
    1,338
    
    
    
    1,729
    
    
    
    (391
    )
    
    
    -22.6
    %Supply cost balancing accounts
    
    
    3,598
    
    
    
    501
    
    
    
    3,097
    
    
    
    618.2
    %Other operating expenses
    
    
    5,283
    
    
    
    5,086
    
    
    
    197
    
    
    
    3.9
    %Administrative and general expenses
    
    
    11,497
    
    
    
    11,890
    
    
    
    (393
    )
    
    
    -3.3
    %Depreciation and amortization
    
    
    5,073
    
    
    
    4,945
    
    
    
    128
    
    
    
    2.6
    %Maintenance
    
    
    2,609
    
    
    
    2,299
    
    
    
    310
    
    
    
    13.5
    %Taxes on income
    
    
    5,086
    
    
    
    1,790
    
    
    
    3,296
    
    
    
    184.1
    %Other taxes
    
    
    2,105
    
    
    
    2,021
    
    
    
    84
    
    
    
    4.2
    %Total operating expenses
    
    
    48,745
    
    
    
    44,398
    
    
    
    4,347
    
    
    
    9.8
    %Operating income
    
    
    10,599
    
    
    
    7,419
    
    
    
    3,180
    
    
    
    42.9
    %OTHER INCOME  NET
    
    
    538
    
    
    
    31
    
    
    
    507
    
    
    
    1635.5
    %INTEREST CHARGES
    
    
    4,427
    
    
    
    4,539
    
    
    
    (112
    )
    
    
    -2.5
    %NET INCOME
    
    $
    6,710
    
    
    $
    2,911
    
    
    $
    3,799
    
    
    
    130.5
    %
 Net income for the three months ended June 30, 2004 increased by 130.5% to
$6.7 million, equivalent to $0.44 per common share on a basic and fully diluted
basis, compared to $2.9 million or $0.19 per share for the three months ended
June 30, 2003. Overall operating income increased by 42.9% due to various
reasons discussed below but primarily due to a favorable decision issued by the
CPUC on July 8, 2004 that resulted in a $5.2 million pre-tax increase to
operating income during the second quarter 2004. SCW received $5.7 million in
May of 2004 from the City of Santa Monica (City) pursuant to a settlement
agreement in which SCW sold its water rights in the Charnock Groundwater Basin
(Basin) to the City and assigned to the City its rights against all
potentially responsible parties who stored, transported and dispensed gasoline
containing methyl tertiary butyl ether (MTBE) in underground storage tanks,
pipelines or other related infrastructure in the Basin. The total proceeds of
$5.7 million from the sale and the assignment of rights were offset by an
impairment loss of $482,000 associated with assets removed from rate base,
pursuant to the decision, resulting in a $5.2 million net pre-tax increase in
operating income. The City also indemnified SCW from related claims. SCW
recorded the impairment loss on assets removed from rate-base in other
operating expenses. 27




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##### Table of Contents



Operating Revenues For the three months ended June 30, 2004, revenues from water operations
increased by 15.9% to $53.6 million, compared to $46.2 million for the three
months ended June 30, 2003. Higher water revenues reflect an increase of 14% in
water consumption resulting from changes in weather conditions. Differences in
temperature and rainfall in Registrants service areas impact sales of water to
customers, causing fluctuations in Registrants revenues and earnings between
comparable periods. Additionally, although we continue to experience delayed
implementation in rate increases, the CPUC in its March 16, 2004 decision did
authorize an annualized increase of approximately $8.1 million in revenues for
SCWs Region III service area that was effective on March 22, 2004. This also
contributed to the increase in water revenues between the two quarters. For the three months ended June 30, 2004, revenues from electric
operations increased by 1.8% to $5.5 million compared to $5.4 million for the
three months ended June 30, 2003. The increase reflects an increase in
kilowatt-hour consumption. Registrant relies upon rate approvals by state regulatory agencies in
California and Arizona, in order to recover operating expenses and provide for
a return on invested and borrowed capital used to fund utility plant. Without
such adequate rate relief granted in a timely manner, revenues and earnings can
be negatively impacted. Other operating revenues consist of water related services and operations
on a contract basis ranging from services such as billing and meter reading, to
full operation of water utility related systems, all performed by AWRs
subsidiary, ASUS. For the three months ended June 30, 2004, other operating
revenues increased by 24.1% to $319,000 compared to $257,000 for the three
months ended June 30, 2003 due to the addition of a new meter reading
contracts. Operating Expenses For the three months ended June 30, 2004, 46% of our supply mix was
purchased water as compared to 43% purchased water for the three months ended
June 30, 2003. Purchased water costs for the period increased by 22.3% to
$12.8 million compared to $10.5 million for the three months ended June 30,
2003. The increase is due primarily to increases in water consumption and
additional purchases of water to replace groundwater supply lost due to wells
being removed from service. The wells were removed from service as a result of
water quality issues and mechanical problems, particularly in SCWs
Metropolitan and Foothill districts. Together, these districts increased the
cost of purchased water by $1.9 million. Changes in the water resource mix between water supplied from purchased
sources and that supplied from Registrants own wells can increase actual
supply-related costs relative to that approved for recovery through rates,
thereby impacting earnings either negatively or positively. Registrant has the
opportunity to change the supply-related costs recovered through rates by
application to the appropriate regulatory body. Registrant believes that its
applications for recovery of supply-related costs accurately reflect the water
supply situation as it is known at the time. However, it is impossible to
adequately protect earnings from adverse changes in supply costs related to
unforeseen contamination or other loss of water supplies. For the three months ended June 30, 2004, the cost of power purchased for
pumping increased slightly by 0.2% to $2,415,000 compared to $2,410,000 for the
three months ended June 30, 2003 due to higher consumption, the effects of
which were almost entirely offset by a reduction in pumping volume due to
additional wells down for maintenance and water quality issues, which resulted
in increased purchased water and less pumping. 28




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##### Table of Contents



For the three months ended June 30, 2004, the cost of power purchased for
resale to customers in SCWs Bear Valley Electric division decreased by 9.8% to
$2.5 million compared to $2.8 million for the three months ended June 30, 2003.
The decrease was due primarily to certain refunds received from Southern
California Edison Company (Edison) and Automated Power Exchange totaling
approximately $154,000. Unrealized gain and loss on purchased power contracts represents gains and
losses recorded for SCWs purchased power agreements with Pinnacle West Capital
Corporation (PWCC), which qualify as derivative instruments under Statement of
Financial Accounting Standards (SFAS) No. 133, Accounting for Derivative
Instruments and Hedging Activities". The $76,000 pre-tax unrealized loss on
purchased power contracts for the three months ended June 30, 2004 is due to a
decrease in the current forward market prices in June 2004. Unrealized gains
and losses at Bear Valley Electric will continue to impact earnings during the
life of the contract with PWCC, through August, 2008. For the three months ended June 30, 2004, Registrant recorded a $5.7
million gain on the sale of water rights reflecting a favorable CPUC decision
on July 8, 2004. As discussed previously, the $5.7 million represents
settlement proceeds received in May 2004 from the City of Santa Monica relating
to the sale and the assignment of rights regarding the Charnock Groundwater
Basin. For the three months ended June 30, 2004, groundwater production
assessments decreased by 22.6% to $1.3 million compared to $1.7 million for the
three months ended June 30, 2003 due to a decrease in pumped water. The
decrease in pumped water was due primarily to wells in the Metropolitan and
Foothill districts being down for maintenance and water quality reasons, which
resulted in increased purchased water and less pumping. In addition, SCW
received $628,000 for leasing excess water rights during the three months ended
June 30, 2004 which was recorded as a reduction to groundwater production
assessments. A positive entry for the provision for supply cost balancing accounts
reflects recovery of previously under-collected supply costs. Conversely, a
negative entry for the provision for supply cost balancing accounts reflects an
under-collection of previously incurred supply costs. An increase of $3.1
million during the three months ended June 30, 2004 in the provision for supply
cost balancing accounts as compared to the three months ended June 30, 2003
primarily reflects the recording of $2.2 million net over-collection in the
memorandum supply cost accounts as a regulatory liability, with a corresponding
charge booked to the provision for supply cost balancing account. On April 30,
2004, SCW filed advice letters for Regions I and II related to the memorandum
supply cost accounts. As a result, in May 2004 SCW recorded the net
over-collection as a regulatory liability. In addition, there were other
increases related to: (i) an increase of approximately $280,000 related to the
amortization of the pre-November 29, 2001 water supply balancing accounts
authorized by the CPUC on June 19, 2003; (ii) the write-off of approximately
$224,000 that SCW will not be able to include in the electric cost balancing
account since actual weighted average annual cost for power purchased exceeded
the $77 per MWh amount as of June 30, 2004; and
(iii) approximately $154,000 of
decreased purchased power for resale resulting from certain refunds and
credits. For the three months ended June 30, 2004, other operating expenses
increased by 3.9% to $5.3 million compared to $5.1 million for the three months
ended June 30, 2003 due primarily to the impairment loss of $482,000 that was
recorded at the end of the second quarter of 2004 related to the Charnock
Groundwater Basin assets being removed from rate-base pursuant to the CPUC
order on July 8, 2004. The increase is offset by lower labor, chemicals and
water treatment costs. 29




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##### Table of Contents



For the three months ended June 30, 2004, administrative and general
expenses decreased by 3.3% to $11.5 million compared to $11.9 million for the
three months ended June 30, 2003 due primarily to decreases in various
miscellaneous expenses which were offset by an approximately $309,000 increase
in pensions and benefits due to actuarial assumption changes in the discount
rate and expected long-term rate of return on plan assets, and increases in
various benefit costs. Registrant believes that prudent administrative expenses
incurred in the operation and management of its regulated subsidiaries will be
recovered through water and electric rates. Registrant plans through ASUS to continue with the analysis and
preparation of bids for submission to the Department of Defense (DOD)
pursuant to DODs initiative to privatize the water and wastewater assets and
operations of military bases. The analysis and preparation of these bids is an
extensive process and, as such, Registrant expects to incur approximately $2
million in legal and consulting expenses in 2004 for such efforts due to the
volume of Requests for Proposals available from the DOD. As of June 30, 2004,
approximately $652,000 has been incurred for such efforts of which
approximately $416,000 was incurred during the
second quarter. For the three months ended June 30, 2004, depreciation and amortization
expense increased by 2.6% to $5.1 million compared to $4.9 million for the
three months ended June 30, 2003 reflecting, among other things, the effects of
recording approximately $35 million in utility plant during 2003, depreciation
on which began in January 2004. Registrant anticipates that depreciation
expense will continue to increase due to Registrants on-going construction
program at its regulated subsidiaries. Registrant believes that depreciation
expense related to property additions approved by the appropriate regulatory
agency will be recovered through water and electric rates. For the three months ended June 30, 2004, maintenance expense increased by
13.5% to $2.6 million compared to $2.3 million for the three months ended June
30, 2003 due principally to increased maintenance on SCWs wells and water
supply sources and maintenance of water mains as well as acceleration of
certain scheduled maintenance projects. For the three months ended June 30, 2004, taxes on operating income
increased by 184.1% to $5.1 million compared to $1.8 million for the three
months ended June 30, 2003 due, in part, to an increase in pre-tax operating
income of 141.1%. In addition, the effective income tax rate (ETR)
applicable to the second quarter results of 2004 reflects an increase of
approximately seven percentage points, from 38.3% to 45.2% (a 17.9% increase),
compared to the ETR applicable to the second quarter results of 2003. This is a
result of an increase in differences between book and taxable income that are
treated as flow-through items (differences that increase or decrease total tax
expense in one tax year and for which an offsetting decrease or increase in tax
expense occurs in a later tax year), principally related to compensatory and
deferred-rate-case expense items. For the three months ended June 30, 2004, other taxes increased by 4.2% to
$2.1 million compared to $2.0 million for the three months ended June 30, 2003
reflecting additional property taxes resulting from higher assessed values, and
increases in payroll taxes based on increased labor costs. Other Income (Loss) For the three months ended June 30, 2004, other net income increased to
$538,000 as compared to $31,000 for the three months ended June 30, 2003. This
was largely due to a change in SCWs estimate of customer refunds associated
with lease revenues from the City of Folsom. Interest Charges For the three months ended June 30, 2004, interest expense decreased by
2.5% to $4.4 million compared to $4.5 million for the three months ended June
30, 2003 due primarily to repayment of $12.5 million long-term debt in October
of 2003, partially offset by increases in short-term borrowing. 30




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##### Table of Contents



Consolidated Results of Operations  Six Months Ended June 30, 2004 and 2003
(table in thousands) 6 MOS
    
    6 MOSENDED
    
    ENDED
    
    $
    
    %6/30/2004
    
    6/30/2003
    
    CHANGE
    
    CHANGEOPERATING REVENUESWater
    
    $
    92,318
    
    
    $
    85,632
    
    
    $
    6,686
    
    
    
    7.8
    %Electric
    
    
    13,076
    
    
    
    12,357
    
    
    
    719
    
    
    
    5.8
    %Other
    
    
    601
    
    
    
    504
    
    
    
    97
    
    
    
    19.2
    %Total operating revenues
    
    
    105,995
    
    
    
    98,493
    
    
    
    7,502
    
    
    
    7.6
    %OPERATING EXPENSESWater purchased
    
    
    21,683
    
    
    
    18,358
    
    
    
    3,325
    
    
    
    18.1
    %Power purchased for pumping
    
    
    4,132
    
    
    
    4,366
    
    
    
    (234
    )
    
    
    -5.4
    %Power purchased for resale
    
    
    7,367
    
    
    
    6,670
    
    
    
    697
    
    
    
    10.4
    %Unrealized gain on purchased power contracts
    
    
    (481
    )
    
    
    (1,274
    )
    
    
    793
    
    
    
    -62.2
    %Gain on sale of water rights
    
    
    (5,675
    )
    
    
    
    
    
    
    (5,675
    )
    
    
    -100.0
    %Groundwater production assessment
    
    
    3,160
    
    
    
    3,396
    
    
    
    (236
    )
    
    
    -6.9
    %Supply cost balancing accounts
    
    
    3,819
    
    
    
    1,459
    
    
    
    2,360
    
    
    
    161.8
    %Other operating expenses
    
    
    9,720
    
    
    
    9,126
    
    
    
    594
    
    
    
    6.5
    %Administrative and general expenses
    
    
    20,576
    
    
    
    19,414
    
    
    
    1,162
    
    
    
    6.0
    %Depreciation and amortization
    
    
    10,250
    
    
    
    9,892
    
    
    
    358
    
    
    
    3.6
    %Maintenance
    
    
    4,936
    
    
    
    4,249
    
    
    
    687
    
    
    
    16.2
    %Taxes on income
    
    
    6,028
    
    
    
    3,785
    
    
    
    2,243
    
    
    
    59.3
    %Other taxes
    
    
    4,331
    
    
    
    4,078
    
    
    
    253
    
    
    
    6.2
    %Total operating expenses
    
    
    89,846
    
    
    
    83,519
    
    
    
    6,327
    
    
    
    7.6
    %Operating income
    
    
    16,149
    
    
    
    14,974
    
    
    
    1,175
    
    
    
    7.8
    %OTHER INCOME  NET
    
    
    455
    
    
    
    31
    
    
    
    424
    
    
    
    1367.7
    %INTEREST CHARGES
    
    
    8,748
    
    
    
    9,104
    
    
    
    (356
    )
    
    
    -3.9
    %NET INCOME
    
    $
    7,856
    
    
    $
    5,901
    
    
    $
    1,955
    
    
    
    33.1
    %
 Net income for the six months ended June 30, 2004 increased by 33.1% to $7.9 million, equivalent to $0.52 and $0.51 per common share
on a basic and fully diluted basis, respectively, compared to $5.9 million or $0.39 per share for the six months ended June 30,
2003. The increase in recorded results reflects increased rates in Region IIIs customer service area of our Southern California
Water Company unit effective March 22, 2004, offset by an increase in supply costs due to more purchased water in SCWs resource
mix. Furthermore, changes in weather conditions experienced this year as compared to the same time last year resulted in an
increase in water demand. Finally, as discussed earlier, there was a favorable decision issued by the CPUC on July 8, 2004 that
resulted in a $5.2 million net pre-tax increase in operating income during the second quarter 2004. 31




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##### Table of Contents



Operating Revenues For the six months ended June 30, 2004, revenues from water operations
increased by 7.8% to $92.3 million, compared to $85.6 million for the six
months ended June 30, 2003. Higher water revenues reflect an increase of 6.6%
in water consumption resulting from changes in weather conditions. Differences
in temperature and rainfall in Registrants service areas impact sales of water
to customers, causing fluctuations in Registrants revenues and earnings
between comparable periods. Additionally, although we continue to experience
delayed implementation in rate increases, the CPUC in its March 16, 2004
decision did authorize an annualized increase of approximately $8.1 million in
revenues for SCWs Region III service area that was effective on March 22,
2004. This also contributed to the increase in water revenues between the two
periods. For the six months ended June 30, 2004, revenues from electric operations
increased by 5.8% to $13.1 million compared to $12.4 million for the six months
ended June 30, 2003. The increase reflects an increase of 3% in kilowatt-hour
consumption and an increase in on-peak consumption which resulted in higher
on-peak demand charges for the industrial customers. For the six months ended June 30, 2004, other operating revenues increased
by 19.2% to $601,000 compared to $504,000 for the six months ended June 30,
2003 due to the addition of various new meter reading contracts. Registrant relies upon rate approval by state regulatory agencies in
California and Arizona, in order to recover operating expenses and provide for
a return on invested and borrowed capital used to fund utility plant. Without
such adequate rate relief granted in a timely manner, revenues and earnings can
be negatively impacted. Operating Expenses For the six months ended June 30, 2004, 46% of the companys supply mix
was purchased water as compared to 43% purchased water for the six months ended
June 30, 2003. Purchased water costs increased by 18.1% to $21.7 million
compared to $18.4 million for the six months ended June 30, 2003. The increase
is due primarily to increases in water consumption and additional purchases of
water to replace groundwater supply lost due to wells being removed from
service. The wells were removed from service as a result of water quality
issues and mechanical problems, particularly in SCWs Metropolitan and Foothill
districts. Changes in the water resource mix between water supplied from purchased
sources and that supplied from Registrants own wells can increase actual
supply-related costs relative to that approved for recovery through rates,
thereby impacting earnings either negatively or positively. Registrant has the
opportunity to change the supply-related costs recovered through rates by
application to the appropriate regulatory body. Registrant believes that its
applications for recovery of supply-related costs accurately reflect the water
supply situation as it is known at the time. However, it is impossible to
adequately protect earnings from adverse changes in supply costs related to
unforeseen contamination. For the six months ended June 30, 2004, the cost of power purchased for
pumping decreased by 5.4% to $4.1 million compared to $4.4 million for the six
months ended June 30, 2003 due to additional wells down for maintenance and
water quality issues which resulted in increased purchased water and less
pumping, the effects of which were offset by higher consumption. 32




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##### Table of Contents



For the six months ended June 30, 2004, cost of power purchased for resale
to customers in SCWs Bear Valley Electric division increased by 10.4% to $7.4
million compared to $6.7 million for the six months ended June 30, 2003. The
increase was due primarily to the reversal in 2004 of a $644,000 gain generated
from a one-time sale of energy on the spot market in April 2001. The gain,
which was previously recorded in April 2001 to the supply cost balancing
account, was ordered by the Federal Energy Regulatory Commission (FERC) in
March 2004 to be refunded, plus interest, to Mirant Americas Energy Marketing,
Inc. (Mirant Marketing). The FERCs order responded to a complaint filed by
Mirant Marketing where Mirant Marketing, the purchaser of the energy, was
seeking to be refunded all or a portion of the gain. This refund increased the
cost of power purchased for resale during the six months ended June 30, 2004,
with a corresponding decrease in the supply cost balancing account. There was
no net impact on earnings. The sale of excess energy on the spot market in
2001 resulted from a one-month overlap of energy purchase agreements. Unrealized gain and loss on purchased power contracts represents gains and
losses recorded for SCWs purchased power agreements with Pinnacle West Capital
Corporation (PWCC), which qualify as derivative instruments under SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities". The $481,000 pre-tax unrealized gain on
purchased power contracts for the six months ended June 30, 2004 is due to an
increase in the current forward market prices since December 31, 2003.
Unrealized gains and losses at Bear Valley Electric will continue to impact
earnings during the life of the contract with PWCC, through August, 2008. For the six months ended June 30, 2004, Registrant recorded a $5.7 million
gain on the sale of water rights reflecting a favorable CPUC decision on July
8, 2004. As discussed previously, the $5.7 million represents settlement
proceeds received in May 2004 from the City of Santa Monica relating to the
sale and the assignment of rights regarding the Charnock Groundwater Basin. For the six months ended June 30, 2004, groundwater production assessments
decreased by 6.9% to $3.2 million compared to $3.4 million for the six months
ended June 30, 2003. This decrease is due to a reduction in pumped water
costs, offset by increases in assessment rates levied against groundwater
production, effective July 2003. The decrease in pumped water costs was due
primarily to wells in the Metropolitan and Foothill districts being down for
maintenance and water quality reasons. This resulted in increased purchased
water and less pumping. In addition, SCW received $628,000 for leasing excess
water rights during the six months ended June 30, 2004 which was recorded as a
reduction to groundwater production assessments. An increase of $2.4 million during the six months ended June 30, 2004 in
the provision for supply cost balancing accounts as compared to the six months
ended June, 2003 primarily reflects the recording of $2.2 million net
over-collection in the memorandum supply cost accounts as a regulatory
liability, with a corresponding charge booked to the provision for supply cost
balancing account. On April 30, 2004, SCW filed advice letters for Regions I
and II related to the memorandum supply cost accounts. As a result, in May
2004, SCW recorded the net over-collection as a regulatory liability. In
addition, there were other increases related to: (i) an increase of
approximately $342,000 related to the amortization of the pre-November 29, 2001
water supply balancing accounts authorized by the CPUC on June 19, 2003; (ii) the write-off of approximately $224,000 that SCW will not be able to
include in the electric cost balancing account since the actual weighted
average annual cost for power purchased exceeded the $77 per MWh amount as of
June 30, 2004; and (iii) approximately $154,000 of
decreased purchased power for resale resulting from certain refunds
and credits. These increases were offset by the $644,000 refund to Mirant
Marketing previously discussed in cost of power purchased for resale. For the six months ended June 30, 2004, other operating expenses increased
by 6.5% to $9.7 million compared to $9.1 million for the six months ended June,
2003 due primarily to the impairment loss totaling $482,000 recorded during the
second quarter of 2004 related to the Charnock Groundwater Basin assets being
removed from rate-base pursuant to the CPUC order on July 8, 2004, and higher
labor, chemicals and water treatment costs which increased by almost $165,000. 33




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##### Table of Contents



For the six months ended June 30, 2004, administrative and general
expenses increased by 6.0% to $20.6 million compared to $19.4 million for the
six months ended June 30, 2003 due primarily to (i) approximately $580,000
increase in outside legal and consulting services incurred in connection with
new business development, most specifically in the area of privatization of
water and wastewater systems at military bases, and (ii) approximately $989,000
increase in pensions and benefits due to actuarial assumption changes in the
discount rate and expected long-term rate of return on plan assets, and
increases in various benefit costs. These increases were offset by decreases in
various miscellaneous expenses. Registrant believes that prudent administrative
expenses incurred in the operation and management of its regulated subsidiaries
will be recovered through water and electric rates. For the six months ended June 30, 2004, depreciation and amortization
expense increased by 3.6% to $10.3 million compared to $9.9 million for the six
months ended June 30, 2003 reflecting, among other things, the effects of
recording approximately $35 million in utility plant during 2003, depreciation
on which began in January 2004. Registrant anticipates that depreciation
expense will continue to increase due to Registrants on-going construction
program at its regulated subsidiaries. Registrant believes that depreciation
expense related to property additions approved by the appropriate regulatory
agency will be recovered through water and electric rates. For the six months ended June 30, 2004, maintenance expense increased by
16.2% to $4.9 million compared to $4.2 million for the six months ended June
30, 2003 due principally to increased maintenance on SCWs wells and water
supply sources and maintenance of water mains as well as acceleration of
certain scheduled maintenance projects. For the six months ended June 30, 2004, taxes on operating income
increased by 59.3% to $6.0 million compared to $3.8 million for the six months
ended June 30, 2003 due, in part, to an increase in pre-tax operating income of
39.1%. In addition, the effective income tax rate (ETR) applicable to the
six months ended June 30, 2004 reflects an increase of approximately six
percentage points, from 39.2% to 44.9% (a 14.5% increase), compared to the ETR
applicable to the six months ended June 30, 2003. This is a result of an
increase in differences between book and taxable income that are treated as
flow-through items (differences that increase or decrease total tax expense in
one tax year and for which an offsetting decrease or increase in tax expense
occurs in a later tax year), principally related to compensatory and
property-related expense items. For the six months ended June 30, 2004, other taxes increased by 6.2% to
$4.3 million compared to $4.1 million for the six months ended June 30, 2003
reflecting additional property taxes resulting from higher assessed values, and
increases in payroll taxes based on increased labor costs. Other Income (Loss) For the six months ended June 30, 2004, other net income increased to
$455,000 as compared to $31,000 for the six months ended June 30, 2003. This
was largely due to a change in SCWs estimate of customer refunds associated
with lease revenues from the City of Folsom. Interest Charges For the six months ended June 30, 2004, interest expense decreased by 3.9%
to $8.7 million compared to $9.1 million for the six months ended June 30, 2003
due primarily to repayment of $12.5 million of long-term debt in October of
2003 and recovery of carrying costs for the Water Quality OII matter authorized
by the CPUC, partially offset by increases in short-term borrowings. 34




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Critical Accounting Policies Critical accounting policies are those that are important to the portrayal
of AWRs financial condition, results of operations and cash flows, and require
the most difficult, subjective or complex judgments of AWRs management. The
need to make estimates about the effect of items that are uncertain is what
makes these judgments difficult, subjective and/or complex. Management makes
subjective judgments about the accounting and regulatory treatment of many
items. These judgments are based on AWRs historical experience, terms of
existing contracts, AWRs observance of trends in the industry, information
provided by customers and information available from other outside sources, as
appropriate. Actual results may differ from these estimates under different
assumptions or conditions. The critical accounting policies used in the preparation of the
Registrants financial statements that we believe affects the more significant
judgments and estimates used in the preparation of our consolidated financial
statements presented in this report are described in the Managements
Discussion and Analysis of Financial Condition and Results of Operations
included in our Annual Report on Form 10-K for the year ended December 31,
2003. There have been no material changes to the critical accounting policies. Liquidity and Capital Resources AWR Net cash provided by operating activities was $29.1 million for the six
months ended June 30, 2004 as compared to $11.7 million for the six months
ended June 30, 2003. The increase of $17.4 million was primarily attributable
to the receipt of $8.7 million from Aerojet in connection with the Memorandum
of Understanding (MOU) which accounted for the change in other accounts
receivable and $5.7 million of settlement proceeds from the City of Santa
Monica received in May 2004. (For more information about the Aerojet MOU, see
the section entitled Environmental Matters included in Part I, Item 2 in
Managements Discussion and Analysis of Financial Condition and Results of
Operations). Net cash used in investing activities was $30.6 million for the six months
ended June 30, 2004 as compared to $17.5 million for the six months ended June
30, 2003 due to higher capital expenditures consistent with budgeted increases. Net cash used in financing activities was $4.3 million for the six months
ended June 30, 2004 as compared to $7.0 million for the six months ended June
30, 2003. The decrease was due primarily to a $2.2 million increase in receipt
of advances for and contributions in aid of construction. AWR funds its operating expenses and pays dividends on its outstanding
Common Shares primarily through dividends from its subsidiaries, principally
SCW. AWR has a Registration Statement on file with the SEC for issuance, from
time to time, of up to $60 million in Common Shares, Preferred Shares and/or
debt securities. As of June 30, 2004, approximately $31.1 million remained for
issuance under this Registration Statement. In June 2002, AWR established a $75 million revolving credit facility,
which matures in June 2005. Up to $15 million of this facility may be used for
letters of credit. As of June 30, 2004, an aggregate of $54 million in cash
borrowing included in current liabilities and approximately $11.1 million of
letters of credit were outstanding under this facility. 35




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Registrant anticipates that interest costs will increase in future periods
due to the need for additional external capital to fund its construction
program, if interest rates increase and the April, 2004 downgrade of AWRs
credit rating by Standard & Poors Ratings Service (S&P) from A+ to A- with a
negative outlook. S&P debt ratings range from AAA (highest rating possible) to
D (obligation is in default). Securities ratings are not recommendations to
buy, sell or hold a security and are subject to change or withdrawal at any
time by the rating agency. Registrant believes that costs associated with
capital used to fund construction at its regulated subsidiaries will continue
to be recovered in water and electric rates charged to customers. SCW Net cash provided by operating activities was $30.0 million for the six
months ended June 30, 2004 as compared to $12.8 million for the six months
ended June 30, 2003. The increase of $17.2 million in cash provided by
operations was primarily attributable to the receipt of $8.7 million from
Aerojet in connection with the MOU and $5.7 million of settlement proceeds from
the City of Santa Monica. Net cash used in investing activities increased to $29.3 million for the
six months ended June 30, 2004 as compared to $16.3 million for the same period
of 2003 due to increased capital expenditures consistent with budgeted
increases. Net cash used in financing activities was $4.3 million for the six months
ended June 30, 2004 as compared to $7.4 million for the six months ended June
30, 2003, reflecting primarily an increase of $2.4 million in receipts of
advances for and contributions in aid of construction. SCW funds the majority of its operating expenses, payments on its debt,
and dividends on its outstanding common shares through internal sources.
Internal sources of cash flow are provided primarily by retention of a portion
of earnings from operating activities. Internal cash generation is influenced
by factors such as weather patterns, environmental regulation, litigation,
changes in supply costs and regulatory decisions affecting SCWs ability to
recover these supply costs, and timing of rate relief. For further information,
see the sections entitled Risk Factors and Bear Valley Electric Service of
SCW included in Part I, Item 2 in Managements Discussion and Analysis of
Financial Condition and Results of Operations. SCW also relies on external sources, including equity investments and
short-term borrowings from AWR, long-term debt,
contributions-in-aid-of-construction, advances for construction and
install-and-convey advances, to fund the majority of its construction
expenditures. SCW has a Registration Statement on file with the SEC for
issuance from time to time, of up to $100 million of debt securities. As of
June 30, 2004, $50 million remained for issuance under this Registration
Statement. CCWC CCWC funds the majority of its operating expenses, payments on its debt
and dividends, if any, through internal operating sources. CCWC also relies on
external sources, including long-term debt,
contributions-in-aid-of-construction, advances for construction and
install-and-convey advances, to fund the majority of its construction
expenditures. ASUS ASUS funds its operating expenses primarily through management fees and
investments by or loans from AWR. 36




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Contractual Obligations and Other Commitments In addition to contractual maturities, Registrant has certain debt
instruments that contain annual sinking fund or other principal payments.
Registrant believes that it will be able to refinance debt instruments at their
maturity through public issuance, or private placement, of debt or equity.
Annual principal and interest payments are generally made from cash flow from
operations. In the case of the $12,500,000 in notes that were due October 2003,
SCW used proceeds from short-term borrowings, which it intends to repay or
refinance through the issuance of notes in the public or private markets. The following table reflects Registrants contractual obligations and
commitments to make future payments pursuant to contracts as of June 30, 2004.
All obligations and commitments are obligations and commitments of SCW unless
otherwise noted. Payments/Commitments Due by Period(1)Less than 1($ in thousands)
    
    Total
    
    Year
    
    1-3 Years
    
    4-5 Years
    
    After 5 YearsNotes/Debentures(2)
    
    $
    173,100
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    173,100Private Placement Notes(3)
    
    
    28,000
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    28,000Tax-Exempt Obligations(4)
    
    
    18,816
    
    
    
    76
    
    
    
    163
    
    
    
    189
    
    
    
    18,388Other Debt Instruments(5)
    
    
    2,166
    
    
    
    183
    
    
    
    430
    
    
    
    459
    
    
    
    1,094Advances for Construction(6)
    
    
    78,386
    
    
    
    3,559
    
    
    
    7,417
    
    
    
    3,935
    
    
    
    63,475Purchased Power Contracts(7)
    
    
    53,739
    
    
    
    11,973
    
    
    
    23,947
    
    
    
    17,819
    
    
    
    Unconditional purchase
obligations(8)
    
    
    28,115
    
    
    
    28,115
    
    
    
    
    
    
    
    
    
    
    
    Operating leases(9)
    
    
    5,155
    
    
    
    1,893
    
    
    
    2,488
    
    
    
    772
    
    
    
    2Employer contributions(10)
    
    
    15,247
    
    
    
    3,470
    
    
    
    7,625
    
    
    
    4,152
    
    
    
    Other Commitments(11)
    
    
    59,091
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Chaparral City Water Co.(12)
    
    
    8,206
    
    
    
    560
    
    
    
    781
    
    
    
    580
    
    
    
    6,285TOTAL
    
    $
    470,021
    
    
    $
    49,829
    
    
    $
    42,851
    
    
    $
    27,906
    
    
    $
    290,344
  (1)
    
    Excludes interest, dividends, commitment, and facility fees.(2)
    
    The Notes and Debentures are issued under an Indenture dated as of
September 1, 1993. The Notes and Debentures do not contain any financial
covenants that Registrant believes to be material, or cross default
provisions.(3)
    
    The private placement notes are issued pursuant to the terms of Note
Agreements with substantially similar terms. The Note Agreements contain
restrictions on the payment of dividends, minimum interest coverage
requirements, maximum debt to capitalization ratio and a negative pledge.
Pursuant to the Note Agreements, SCW must maintain a minimum interest
coverage ratio of two times interest expense. SCW does not currently have
any outstanding mortgages or other encumbrances on its properties.(4)
    
    Consists of obligations under a loan agreement supporting $7.9 million in
outstanding debt issued by the California Pollution Control Financing
Authority, $6 million in obligations supporting $6 million in certificates
of participation issued by the Three Valleys Municipal Water District and
$4.9 million of obligations incurred by SCW with respect to its 500 acre
foot entitlement to water from the State Water Project (SWP). These
obligations do not contain any financial covenants believed to be material
to Registrant or any cross default provisions. SCWs obligations with
respect to the certificates of participation issued by the Three Valleys
Municipal Water District are supported by a letter of credit issued by
Wells Fargo Bank. In regards to its SWP entitlement, SCW has entered into
agreements with various developers for 422 acre-feet, in aggregate, of its
500 acre-foot entitlement to water from the SWP. 37




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(5)
    
    Consists of $1.4 million outstanding under a fixed rate obligation
incurred to fund construction of water storage and delivery facilities
with the Three Valleys Municipal Water District, $0.5 million outstanding
under a variable rate obligation incurred to fund construction of water
delivery facilities with the Three Valleys Municipal Water District and an
aggregate of $0.3 million outstanding under capital lease obligations.
These obligations do not contain any financial covenants believed to be
material to Registrant or any cross default provisions.(6)
    
    Advances for construction represent annual contract refunds to developers
for the cost of water systems paid for by the developers. The advances
are generally refundable at rates ranging from 10% to 22% of the revenue
received from the installation for which funds were advanced or in equal
annual installments over periods of time ranging from 10 to 40-year
periods.(7)
    
    Consists of the remaining balance of the purchased power contracts from
November 2002 to December 2008.(8)
    
    Consists of noncancelable commitments primarily for capital projects
under signed contracts.(9)
    
    Reflects Registrants future minimum payments under non-cancelable
operating leases.(10)
    
    Consists of Registrants expected contributions (all by employer) for its
pension plan. These amounts are subject to change based on, among other
things, the limits established for federal tax deductibility (pension
plan). For years after 2004, Registrant has included as an obligation the
estimated minimum required contributions to its pension plan computed by
its actuary. These amounts are subject to change based on the significant
impact that returns on plan assets and changes in discount rates might
have on such amounts.(11)
    
    Other commitments consist of (i) $75 million syndicated revolving credit
facility, expiring in June 2005 of which $54.0 million is outstanding as
of June 30, 2004, (ii) an amount of $296,000 with respect to a $6,296,000
irrevocable letter of credit issued by Wells Fargo Bank to support the
certificates of participation of Three Valleys Municipal Water District
(the other $6,000,000 is reflected under tax-exempt obligations), (iii) an
irrevocable letter of credit in the amount of $600,000 that expires on
October 2004 for the deductible in Registrants business automobile
insurance policy (iv) an irrevocable letter of credit that expires March
31, 2005 for its energy scheduling agreement with Automated Power Exchange
as security for the purchase of power; the amount of the credit is
$585,000, (v) outstanding performance bonds of $10,175 to secure
performance under franchise agreements with governmental agencies, and
(vi) an irrevocable letter of credit in the amount of $3,600,000 pursuant
to a settlement agreement with Edison to cover Registrants commitment to
pay the settlement amount. All of the letters of credit are issued
pursuant to the syndicated revolving credit facility. The syndicated
revolving credit facility contains restrictions on prepayments,
disposition of property, mergers, liens and negative pledges, indebtedness
and guaranty obligations, transactions with affiliates, minimum interest
coverage requirements, a maximum debt to capitalization ratio, and a
minimum debt rating. Pursuant to the Credit Agreement, AWR must maintain a
minimum interest coverage ratio of 3.25 times interest expense, a maximum
total funded debt ratio of 0.65 to 1.00 and a minimum debt rating of Baa1
or BBB+.(12)
    
    Consists of $7.6 million of outstanding obligations under a loan
agreement supporting Industrial Development Revenue Bonds due in 2006 and
a $0.6 million outstanding repayment obligation to the United States
Bureau of Reclamation (Bureau). The loan agreement contains provisions
that establish a maximum of 65% debt in the capital structure, limits cash
distributions when the percentage of debt in the capital structure exceeds
55% and requires a debt service coverage ratio of two times. The Bureau
obligation does not contain any financial covenants believed to be
material to Registrant or any cross default provisions. Under the terms of its power purchase contracts with Mirant Marketing and
PWCC, SCW is required to post security, at the request of the seller, if SCW is
in default under the terms of the contract and the future value of the contract
is greater than the future value of contracts of a similar term on the date of
default. SCW will be in default under the terms of these contracts if its debt
is rated less than BBB- by S&P or Fitch, Inc. (Fitch) or less than Baa3 by
Moodys Investor Services, Inc (Moodys). SCW currently has a rating of A- by
S & P and A2 by Moodys, in each case with a negative outlook. Fitch does not
rate SCW. 38




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Bear Valley Electric Service of SCW As of June 30, 2004, SCW had accrued $21.7 million in under-collected
power costs, mostly incurred during the energy crisis in late 2000 and 2001 in
connection with providing service to its Bear Valley Electric customers. SCW
is authorized to include up to a weighted annual energy purchase cost of $77
per MWh each year through August, 2011 in its electric supply cost balancing
account. To the extent that actual weighted average annual costs for power
purchased exceeds the $77 per MWh amount, SCW will not be able to include these
amounts in its balancing account and such amounts will be expensed, unless the
CPUC approves adjustments. Power Supply Arrangements at SCWs Bear Valley Electric Service Area All electric energy sold by SCW to customers in its Bear Valley Electric
customer service area is purchased from others. Beginning April 1, 2001, SCW
entered into a five-year and nine-month, block forward purchase contract with
Mirant Marketing for 15 MWs of electric energy at a price of $95 per MWh
through December 31, 2006. Mirant Marketing filed a complaint with the FERC
seeking to be refunded all or a portion of the gain, $644,000, from
Registrants sale of excess energy on the spot market in 2001 resulting from a
one-month overlap of energy purchase agreements. In March 2004, the FERC issued
an order that SCW is to refund the $644,000, plus interest, to Mirant
Marketing. This refund increased the cost of power purchased for resale during
the six months ended June 30, 2004, with an increase in the under-collection of
the supply cost balancing account. On July 14, 2003, Mirant Marketing announced that, to facilitate its
financial restructuring, it filed voluntary petitions for reorganization under
Chapter 11 of the U.S. Bankruptcy Code. At this time, Registrant expects no
interruption in the delivery of electric energy under the Mirant Marketing
contract. In June 2001, SCW executed an agreement with PWCC for an additional 8 MWs
of electric energy to meet peak winter demands. The contract provided for
pricing of $75 per MWh from November 1, 2001 to March 31, 2002, $48 per MWh
from November 1, 2002 to March 31, 2003 and $36 per MWh from November 1, 2003
to March 31, 2004. In September 2002, SCW entered into a series of purchased power contracts
with PWCC. Under the agreements, SCW will sell 15 MWs to PWCC of electric
energy at a price of $95 per MWh beginning November 1, 2002 through December
31, 2006, and the 8 MWs of electric energy covered under the energy purchase
agreement with PWCC discussed previously. In return, PWCC will supply SCW with
15 MWs of electric energy at a price of $74.65 per MWh beginning November 1,
2002 through December 31, 2008, and an additional 8 MWs at $74.65 per MWh
beginning on November 1, 2002 through March 31, 2003 and each succeeding
November 1 through March 31 period through March 31, 2008, and for the period
November 1, 2008 through December 31, 2008. Settlement of these contracts
occurs on a net or cash basis through 2006 and by physical delivery
through 2008. The average minimum monthly load at SCWs Bear Valley Electric customer
service area has been approximately 12 MWs. The average winter load has been 18
MWs with a winter peak of 39 MWs when the snowmaking machines at the ski
resorts are operating. In addition to the power purchase contracts, SCW buys
additional energy from the spot market to meet peak demand and sells surplus
power to the spot market as well. The average cost of power purchased,
including the transactions in the spot market, was approximately $78.6 and
$80.0 per MWh , respectively, for the three and six months ended June 30, 2004
as compared to $77.6 and $79.5 per MWh for the same periods of 2003. SCWs
average energy costs are impacted by pricing fluctuations on the spot market. 39




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Transmission Constraints Demand for energy in SCWs Bear Valley Electric customer service area
generally has been increasing. However, the ability of SCW to deliver purchased
power to these customers is limited by the ability of the transmission
facilities owned by Edison to transmit this power. On December 27, 2000, SCW
filed a lawsuit against Edison for breach of contract as a result of delays in
upgrading these transmission facilities as well as for violations of good faith
and fair dealing, negligent misrepresentation, intentional misrepresentation
and unjust enrichment. A settlement has been reached between SCW and Edison,
in which (i) SCW is to pay a $5.0 million project abandonment fee to Edison,
(ii) Edison files an application to the FERC for approval of the entire $5.0
million settlement payment as abandoned project costs to be in Edisons
wholesale rate to SCW over a 15 year period, and (iii) Edison is to sell the
Goldhill substation and associated transmission line to SCW at its book value.
Management believes that the FERCs approval of Edisons filing is probable and
the abandonment costs included in Edisons wholesale rate to SCW are
recoverable through rates. As a result, the $5.0 million obligation to Edison
arising from this settlement was recorded as a liability and a regulatory asset
in the fourth quarter of 2003. The settlement agreement was signed March 17,
2004 and the first payment of $1.4 million was made to Edison during the first
quarter of 2004. Edison has subsequently filed the new tariffs with the FERC.
Upon approval of the tariffs by the FERC, SCW will recognize the regulatory
asset in its electric supply cost balancing account. New Generation Facility As a means of meeting the increasing demands for energy, SCW is
constructing a natural gas-fueled 8.4 MW generation facility to be owned by
SCW. A Certificate of Public Convenience and Necessity filed with the CPUC
seeking authorization for construction of the generation facility was approved
on July 10, 2003. It is expected that the generator will be on line during the
third quarter of 2004, and should assist SCW in controlling its spot purchase
prices, as discussed above. See the section entitled Regulatory Matters
included in Part I, Item 2 in Managements Discussion and Analysis of Financial
Condition and Results of Operationsfor more details. Construction Program SCW maintains an ongoing water distribution main replacement program
throughout its customer service areas based on the priority of leaks detected,
fire protection enhancement and a reflection of the underlying replacement
schedule. In addition, SCW upgrades its electric and water supply facilities in
accordance with industry standards, local requirements and CPUC requirements.
SCWs Board of Directors has approved anticipated net capital expenditures of
approximately $61.7 million for 2004 principally reflecting water supply
related projects such as drilling and equipping of new wells, building a new
reservoir, and distribution and street improvement projects. As of June 30,
2004, SCW has unconditional purchase obligations for capital projects of
approximately $28.1 million. CCWCs Board of Directors has approved a net capital budget of $3.1
million for 2004 primarily reflecting a new treatment plant addition and
distribution improvements to its Golden Eagle Plant. AWR and ASUS have no material capital commitments. However, ASUS actively
seeks opportunities to own, lease or operate water and wastewater systems for
governmental entities, which may involve significant capital commitments. Registrant does not have any material capital expenditures for specific
environmental control facilities or measures. 40




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Regulatory Matters Rate Regulation SCW is subject to regulation by the CPUC, which has broad powers with
respect to service and facilities, rates, classifications of accounts,
valuation of properties, the purchase, disposition and mortgaging of properties
necessary or useful in rendering public utility service, the issuance of
securities, the granting of certificates of public convenience and necessity as
to the extension of services and facilities and various other matters. CCWC is
subject to regulation by the ACC. Rates that SCW and CCWC are 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 cost of capital, as projected for a future test
year in California and using an historical test year, as adjusted in Arizona.
Rates charged to customers vary according to customer class and rate
jurisdiction and are generally set at levels allowing for recovery of prudently
incurred costs, including a return on rate base. Rate base generally consists
of the original cost of utility plant in service, construction
work-in-progress, plus certain other assets, such as working capital and
inventory, less accumulated depreciation on utility plant in service, deferred
income tax liabilities and certain other deductions such as advances and
contributions in aid of construction. Neither AWR nor ASUS are directly regulated by the CPUC. The CPUC does,
however, regulate certain transactions between SCW and its affiliates. The ACC
also regulates certain transactions between CCWC and its affiliates. Fort
Bliss Water Services Company (FBWS) will be regulated by the TCEQ.
However, the amounts charged by FBWS for water and wastewater services at
U.S. Army Fort Bliss will be based upon the terms of the contractual
arrangements with the United States of America. For rate-making purposes, the 22 customer service areas of SCW are grouped
into 9 water districts and 1 electric district. Water rates vary among the 9
water ratemaking districts due to differences in operating conditions and
costs. SCW monitors operations on a regional basis in each of these districts
so that applications for rate changes may be filed, when warranted. Under the
CPUCs practices, rates may be increased by three methods: (i) general rate
case increases (GRCs), (ii) offsets for certain expense increases including
but not limited to supply cost offset and balancing account amortization, and
(iii) advice letter filings related to certain plant additions and other
operating cost increases. GRCs are typically for three-year periods, which
include step increases for the second and third year. Rates are based on a
forecast of expenses and capital costs. GRCs have a typical regulatory lag of
one year. Offset rate increases and advice letter filings typically have a two
to four month regulatory lag. Changes in Rates On January 16, 2003, the CPUC approved rate increases of approximately
$2.7 million annually, effective January 22, 2003, in SCWs Metropolitan
district to recover costs associated with an increase in Region II rate base
due to SCWs 2002 infrastructure replacement program and, additionally, to
recover general increases in operating expenses. On January 31, 2003, the CPUC
also approved SCWs Advice Letter filed for the 2003 infrastructure replacement
program with rate increases of $3.5 million annually effective February 4,
2003. In October 2002, SCW filed an application to increase water rates in the
customer service areas that comprise Region III. SCW also filed a concurrent
application requesting a rate increase applicable to SCWs entire customer base
to recover costs associated with the general office functions of SCW. On March
16, 2004, the CPUC issued a decision, under which (i) new water rates for
Region III will generate an initial annual increase in revenues of
approximately $8.1 million, (ii) a special condition surcharge in rates is
approved to amortize the water quality Order Instituting Investigation (OII)
memorandum account 41




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##### Table of Contents



balance, and (iii) SCW is authorized to establish a memorandum account to
accumulate costs to comply with certain contamination remediation requirements. In 1994, SCW entered a contract to lease, to the City of Folsom, 5,000
acre-feet per year of water rights to the American River. In the decision
issued on March 16, 2004 the CPUC determined that SCW failed to seek the CPUCs
approval to effectuate the lease. As a result, SCW was required to pay a net
fine of $180,000 to the CPUC, and to refund 70 percent of the total amount of
lease revenues since 1994, plus interest, to customers. Pursuant to the order,
SCW recorded $6.2 million as a regulatory liability with a corresponding charge
against income (less taxes) during the fourth quarter of 2003. During the
three months ended June 30, 2004, there was a change in SCWs estimate of
customer refunds associated with lease revenues from the City of Folsom based
on the final refund amount of $5.2 million approved by the CPUC. The regulatory
liability was adjusted accordingly. Pursuant to the order, the apportionment of
any lease revenues that SCW may collect in the future will be determined by a
later decision. Therefore, beginning in the first quarter of 2004, all amounts
billed to the City of Folsom are included as a regulatory liability until all
uncertainties about this matter are resolved with the CPUC. For the three and
six months ended June 30, 2004, SCW recorded an additional $269,000 and
$538,000, respectively, in the regulatory liability account for this matter.
Management continues to disagree with the CPUCs decision on this issue and has
appealed the decision. An Interim Decision issued by the CPUC on May 8, 2003 approved a
settlement between the City of Santa Monica (City) and SCW described below.
In a decision approved by the CPUC on July 8, 2004, SCW was directed to (i)
track the net settlement proceeds in an interest-bearing memorandum account to
fund capital for infrastructure improvements in eight years, (ii) maintain
records of all memorandum account activity, (iii) obtain the CPUCs approval to
include those capital costs in rate base as the improvements become necessary
and useful, (iv) remove relevant assets from rate base, and (v) refund to
ratepayers the net proceeds received from PRPs, for which $3.5 million was
recorded as a liability in December 2003. In May 2004, SCW received the full
settlement payment of $5.7 million from the City. Under the terms of the settlement agreement, SCW sold its water rights in
the Charnock Groundwater Basin (Basin) to the City and assigned to the City
its rights against all potentially responsible parties who stored, transported
and dispensed gasoline containing methyl tertiary butyl ether (MTBE) in
underground storage tanks, pipelines or other related infrastructure in the
Basin. The total proceeds of $5.7 million from the sale and the assignment of
rights were offset by an impairment loss of $482,000 associated with assets
removed from rate base, pursuant to the decision, resulting in a $5.2 million
net pre-tax increase in operating income. The City also indemnified SCW from
related claims. SCW recorded the impairment loss on assets removed from
rate-base in other operating expenses. For more information, see the section
entitled Environmental Matters included in Part I, Item 2 in Managements
Discussion and Analysis of Financial Condition and Results of Operations. As of June 30, 2004, SCW had accrued approximately $21.7 million in
under-collected purchased power costs included in its Bear Valley Electric
balancing account. A 2.2¢ per kilowatt hour surcharge, authorized by the CPUC
in 2001, is in place for recovery of its under-collection in the electric
balancing account. On July 17, 2002, the CPUC also approved $77 per MWh of purchased power
costs through rates. SCW is allowed to include its actual purchased power costs
up to an average annual weighted cost of $77 per MWh each year, through August
2011, in its balancing account. To the extent SCWs actual average annual
weighted cost for purchased power is less than $77 per MWh, the differential
would offset amounts included in the electric supply balancing account.
Conversely, to the extent that actual average annual weighted costs for power
purchased exceed the $77 per MWh amount, SCW is not able to include these
amounts in its balancing account and such amounts are expensed. For the six
months ended June 30, 2004, SCW has expensed $224,361 for costs over $77 per
MWh. See the section entitled Bear 42




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Valley Electric Service of SCW included in Part I, Item 2 in Managements
Discussion and Analysis of Financial Condition and Results of Operations. Pending Rate Changes On July 10, 2003, the CPUC approved the Certificate of Public Convenience
and Necessity (CPCN) filed by SCW in March 2002 seeking authorization to
construct an 8.4 MW natural gas-fueled generation facility on a portion of its
property in the City of Big Bear Lake. The capital cost of the generating
facility is estimated to be approximately $13 million. The CPUCs order
authorizes construction and enables SCW to file a rate application to generate
an annual revenue increase of about $2.4 million. SCW will file for increased
rates in the third quarter of 2004, using a special filing called a Major
Adjustment Clause or MAC filing that should result in 100% of the revenue
requirement related to this facility being included in rates. Registrant filed an application to increase water rates in the Region II
customer service areas on September 11, 2003, which was accepted by the CPUC on
October 6, 2003. The new water rates in this filing, as stipulated, would
generate an annual increase in revenues of $5.2 million for 2004, and $5.1
million for 2005 and 2006, respectively, subject to earnings tests. The
increases for 2004 are retroactive, less the interim increase as discussed
below, to January 1, 2004. A decision is not expected until the third quarter
of 2004. Due to delays in the CPUCs review of this GRC application which have
delayed the processing of the application, SCW sought authority for interim
rate relief by motion filed on December 23, 2003. The Administrative Law Judge
at the CPUC, in a ruling issued in February 2004, granted SCWs motion for
interim rate relief and ordered SCW to file an advice letter implementing
interim rates for Region II, commencing January 1, 2004, subject to refund.
The interim rates are expected to generate additional annual revenues of
approximately $1.4 million. Management expects no refunds will be required. On October 30, 2003, SCW also filed an abbreviated application to the CPUC
to request an inflationary increase in three of the Region I customer services
areas, totaling $388,500 annually. As part of the Region I filing, SCW
requested a long-term amortization of the balance of costs included in the
Aerojet litigation memorandum account, net of any reimbursement amount. For
more information, see the section entitled Other Water Quality Litigation
included in Part I, Item 3 in Legal Proceedings. Other Regulatory Matters On November 29, 2001, the CPUC adopted an Order Instituting Rulemaking
(OIR) to (i) evaluate existing rate making practices and policies, (ii)
determine whether new procedures or policies for processing offset rate
increases and balancing accounts should be made and (iii) determine whether the
new memorandum account procedures adopted on November 29, 2001 should be made
permanent. Pursuant to a resolution issued by the CPUC on December 17, 2002, SCW
filed advice letters on March 17, 2003 requesting recovery of $2.2 million of
under-collections remaining in the balancing accounts for water supply costs
incurred prior to November 29, 2001. On June 19, 2003, the CPUC authorized
increases in rates in total of $2.1 million, effective June 24, 2003, for SCW
to recover the pre-November 29, 2001 balances. In a decision issued on June 19, 2003, the CPUC concluded that (i) if a
utility is within its rate case cycle and does not earn over its authorized
rate of return, the utility shall recover its costs in the memorandum supply
cost account subject to reasonableness review by the CPUC; (ii) if a utility is
either within or outside of its rate case cycle and earns over the authorized
return, the utilitys recovery of expenses from the memorandum supply cost
account will be reduced by the amount exceeding the authorized rate of return;
and (iii) a utility is required to seek review of under and over collections by
filing an advice letter annually. On April 30, 2004, SCW has filed advice
letters for Regions I and II for 43




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the period from after November 29, 2001 to December 31, 2003 for a net
over-collection of approximately $1.4 million. This amount and an additional
$800,000 of over-collection for the six months ended June 30, 2004 was recorded
as a regulatory liability as of June 30, 2004. SCW has not filed advice
letters for review of the activity in the Region III supply cost memorandum
account pending resolution of SCWs petition to be recognized as regional
filings for Region III. Region III has an under-collection balance of $6.0
million and $5.3 million at June 30, 2004 and December 31, 2003, respectively,
which will not be recorded until receipt of a CPUC decision regarding this
matter given the uncertainty surrounding this advice letter filing. For more
information, see the section entitled Accounting for Supply Costs included in
Part I, Item 2 in Managements Discussion and Analysis of Financial Condition
and Results of Operations. CCWC is planning to file its next rate case with the ACC in 2004.
Currently, there are no active regulatory proceedings affecting CCWC or its
operations. FBWS filed an application for a Certificate of Public Convenience
and Necessity with the TCEQ in the second quarter of 2004. Environmental Matters 1996 Amendments to Federal Safe Drinking Water Act The U.S. Environmental Protection Agency (EPA) can only regulate
contaminants that may have adverse health effects, are known or likely to occur
at levels of public health concern, and the regulation of which will provide a
meaningful opportunity for health risk reduction. The EPA has published a list
of contaminants for possible regulation and must update that list every five
years. In addition, every five years, the EPA must select at least five
contaminants on that list and determine whether to regulate them. This law
allows the EPA to bypass the selection process and adopt interim regulations
for contaminants in order to address urgent health threats. The Department of
Health Services (DOHS), acting on behalf of the EPA, administers the EPAs
program in California. The Arizona Department of Environmental Quality (ADEQ)
administers EPAs program in Arizona. The EPA may base primary drinking water regulations on risk assessment and
cost/benefit considerations and on minimizing overall risk. The EPA must base
regulations on best available, peer-reviewed science and data from best
available methods. For proposed regulations that involve the setting of maximum
contaminant levels (MCLs), the EPA must use, and seek public comment on, an
analysis of quantifiable and non-quantifiable risk-reduction benefits and costs
for each such MCL. SCW and CCWC currently test their wells and water systems according to
requirements listed in the Safe Drinking Water Act (SDWA). Water from wells
found to contain levels of contaminants above the established MCLs is treated
to reduce contaminants to acceptable levels before it is delivered to
customers. If treatment is not possible, the wells are shut down. Since the
SDWA became effective, SCW and CCWC have experienced increased operating costs
for testing to determine the levels, if any, of the constituents in their
sources of supply and additional expense to lower the level of any contaminants
in order to meet the MCL standards. Such costs and the costs of controlling any
other contaminants may cause SCW and/or CCWC to experience additional capital
costs as well as increased operating costs. The CPUC and ACC ratemaking
processes provide SCW and CCWC with the opportunity to recover prudently
incurred capital and operating costs associated with water quality. Management
believes that such incurred and expected future costs should be authorized for
recovery by the CPUC and ACC, as applicable. 44




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Enhanced Surface Water Treatment Rules The EPA has adopted the Enhanced Surface Water Treatment Rule (ESWTR),
which required increased surface-water treatment to decrease the risk of
microbial contamination. These rules apply to each of SCWs five surface water
treatment plants and CCWCs surface water treatment plant. Registrant
anticipates that all plants will achieve compliance within the three-year to
five-year time frames identified by EPA. Registrant is required to be in
compliance by June 1, 2006. SCW has initiated phased construction of a new
treatment plant in the Calipatria-Niland customer service area (see further
discussion below under Regulation of Disinfectant/Disinfection By-Products) to
bring that facility into compliance. Once this project is completed, all the
surface water plants in SCW and CCWC will be in compliance with these rules. Regulation of Disinfection/Disinfection By-Products SCW and CCWC are also subject to regulations concerning
disinfection/disinfection by-products (DBPs). Stage I of the regulations was
effective in November 1998 with full compliance required for systems serving
10,000 or more persons by 2002 and for systems serving fewer than 10,000
persons by 2004. Stage I requires reduction of trihalomethane contaminants from
100 micrograms per liter to 80 micrograms per liter. SCW has already
implemented modifications to the treatment process in its Bay Point and Cordova
systems to achieve compliance and the Calipatria plant has undergone treatment
modifications, which will also address the requirements under the ESWTR, in
order to comply with the DBPs. The Calipatria upgrades to meet the DBP rule
will be complete by third quarter, 2004, to ensure compliance. Further
modifications to meet the ESWTR will be in place by 2005 to ensure compliance. The EPA is not allowed to use the cost/benefit analysis provided for in
the 1996 SDWA amendments for establishing the Stage II rules applicable to
DBPs but may utilize the regulatory negotiating process provided for in the
1996 SDWA amendments to develop the Stage II rule. The Stage 2 Disinfectants/Disinfection By-Products Rule (DBPR) and the
Long-Term 2 Enhanced Surface Water Treatment Rule (LT2ESWTR) The Long-Term 2 Enhanced Surface Water Treatment Rule (LT2ESWTR) was
published in the Federal Registeron August 11, 2003, and the Stage 2
Disinfectants/Disinfection By-Products Rule (DBPR) was published shortly
thereafter on August 18. These proposed Rules are very complex and EPA has
asked for comments on hundreds of technical issues. EPA will likely publish
the final rules in early to mid-2005, since the close of public comments was in
January 2004, and it typically takes EPA 12-18 months to finalize rules after
the close of the comment period. Registrant is currently waiting for the EPA
to finalize these proposed rules to determine the impact. Ground Water Rule On May 10, 2000, the EPA published the proposed Ground Water Rule (GWR),
which establishes multiple barriers to protect against bacteria and viruses in
drinking water systems that use ground water. The proposed rule will apply to
all U.S. public water systems that use ground water as a source. The proposed
GWR includes system sanitary surveys conducted by the state to identify
significant deficiencies; hydrogeologic sensitivity assessments for
undisinfected systems; source water microbial monitoring by systems that do not
disinfect and draw from hydrogeologically sensitive aquifers or have detected
fecal indicators within a distribution system; corrective action; and
compliance monitoring for systems which disinfect to ensure that they reliably
achieve 4-log (99.99%) inactivation or removal of viruses. It was anticipated
that the GWR would be issued as a final regulation by the end of 2003, but this
has been delayed until later this year. While no assurance can be given as to
the nature and cost of any additional compliance measures, if any, SCW and CCWC
do not believe that such regulations will 45




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impose significant compliance costs, since they already currently engage
in disinfection of the majority of their groundwater systems. Regulation of Radon and Arsenic On October 31, 2001, EPA announced that the arsenic standard in drinking
water would be 10 parts per billion (ppb). Compliance with an MCL of 10 ppb
will require implementation of wellhead treatment remedies for eight affected
wells in SCWs system and two wells in CCWCs system. The effective date for
utilities to comply with the standard is January 2006. The California DOHS
Office of Environmental Health Hazard Assessment (OEHHA) published the final
Public Health Goal (PHG) of 4.0 parts per trillion in April 2004. This is the
first step for California to adopt its own MCL for arsenic. The California DOHS
will take this number and begin the formal MCL process for California. The DOHS
MCL process is expected to take up to a year (even as an emergency regulation).
In that interim period, the current MCL in California will remain at 50 parts
per billion. The USEPA MCL has been changed to 10 ppb, but it is not effective
until 2006. The EPA has proposed new radon regulations following a National Academy of
Sciences risk assessment and study of risk-reduction benefits associated with
various mitigation measures. The National Academy of Sciences study is in
agreement with much of EPAs original findings but has slightly reduced the
ingestion risk initially assumed by EPA. EPA established an MCL of 300 Pico
Curies per liter based on the findings and has also established an alternative
MCL of 4000 Pico Curies per liter, based upon potential mitigation measures for
overall radon reduction. Registrant is currently waiting for the EPA to
establish a MCL to determine the impact. Voluntary Efforts to Provide Treated Surface Water Below Minimum Surface
Water Treatment Requirements SCW is a voluntary member of the EPAs Partnership for Safe Water, a
national program designed to further protect the public from diseases caused by
cryptosporidium and other microscopic organisms. As a volunteer in the program,
SCW commits to treat surface water to levels much lower than the minimum
operating requirements governing surface water treatment, optimize surface
water treatment plant operations and seeks to have its surface water treatment
facilities perform as efficiently as possible. Unregulated Contaminants Monitoring Rule EPA has revised the Unregulated Contaminant Monitoring Rule (UCMR). The
data generated by the UCMR will be used to evaluate and prioritize contaminants
on the Drinking Water Contaminant Candidate List, a list of contaminants EPA is
considering for possible new drinking water standards. This data will help to
ensure that future decisions on drinking water standards are based on sound
science. A tiered approach will be utilized with the three monitoring lists to
provide the maximum capability to monitor up to the statutory limit of no more
than 30 contaminants in any 5-year monitoring cycle. Therefore, as List 3
contaminants are found to occur in public water systems, they may move up to
List 2, and likewise, List 2 contaminants may move up to List 1, when the UCMR
is revised again later this year. The law requires that EPA publish a new
contaminant-monitoring list every 5 years.When the EPA adds contaminants to
their list, they will also include a compliance date. Registrant will evaluate
the impact and necessary actions as additions are made to the contaminant
lists. Perchlorate Action Level Activities In January 2002, DOHS reduced the action level from 18 ppb to a level of 4
ppb, based upon new information from the EPA on reference doses for health risk
information from EPA. 46




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SCW has removed eight wells from service in its Rancho Cordova system and
six additional wells in various other systems since they contained perchlorate
in amounts in excess of the action level of 4 ppb. On December 6, 2002, the
OEHHA published a revised draft perchlorate Public Health Goal (PHG) of 2 to 6
ppb. This is the first step in the establishment of an MCL in California. The
PHG of 6 ppb was adopted in the first quarter of 2004 after which DOHS revised
the state Action Level for perchlorate from 4 ppb to 6 ppb. The California MCL
for perchlorate is expected to be finalized in 2005. SCW is continuing to
periodically monitor all of its water supplies to determine that levels of
perchlorate are below the action level currently in effect. Matters Relating to SCWs Arden-Cordova Water System In SCWs Rancho Cordova system, four wells have been removed from service
and destroyed due to contamination from perchlorate. The supply has been
replaced for three of these wells. An additional three wells are currently out
of service due to perchlorate levels above the EPA trigger level of 4 ppb as
defined in the EPAs Administrative Orders, and two wells are out of service
due to detectable levels of nitrosodimethylamine (NDMA) above the action level.
SCW continues to monitor all of its active groundwater wells in the Rancho
Cordova system for perchlorate and NDMA. Aerojet has, in the past, used ammonium perchlorate in oxidizing rocket
fuels. NDMA is an additional by-product from the production of rocket fuels and
it is believed that contamination in SCWs Rancho Cordova service area is also
related to the activities of Aerojet. SCW has filed suit against Aerojet for
contamination of SCWs ground water supply in its Rancho Cordova system. On October 10, 2003 Registrant entered into a confidential Memorandum of
Understanding (MOU) with the Aerojet-General subsidiary of GenCorp, Inc. for
the settlement of legal actions brought by SCW. The MOU sets forth the present
financial terms and the structure of a settlement to cover all SCWs costs
incurred resulting from the contamination. The MOU and the settlement embodied
therein was found to be binding by the Sacramento Superior Court on January 18,
2004. Further documentation incorporating the terms of the MOU is presently
underway. However, documentation is not complete and management is presently
unable to predict when a comprehensive set of settlement documents will be
completed. To date, Aerojet has reimbursed SCW for constructing a pipeline to
interconnect with the City of Folsom water system to provide an alternative
source of water supply in SCWs Rancho-Cordova customer service area and has
reimbursed SCW for a portion of the costs associated with the drilling and
equipping of new wells. Aerojet had, prior to the MOU, reimbursed SCW $4.3
million of the approximately $20 million in capital costs SCW has incurred, and
$171,000 for additional water supply costs. Based on the financial terms in
the MOU, SCW established a receivable from Aerojet in an amount of $16.7
million at the end of 2003, of which $8.7 million was received in the first
quarter of 2004. The remainder of the costs to be recovered, which consist
primarily of deferred legal and consulting related costs, is subject to further
settlement documentation. Reimbursements received from Aerojet have been applied directly to reduce
SCWs costs of utility plant and purchased water. Management
believes the recovery of these costs through rates is probable; however, proceeds from any
settlement agreement with Aerojet would be applied to reduced amounts collected
from customers. Management cannot give assurance that the CPUC will ultimately
allow recovery of all or any of these costs. The draft agreement with Aerojet
also addresses the possible recovery of SCWs deferred charges through
settlement proceeds from Aerojet that will come from the revenues collected by
Aerojet in new development areas that occur on Aerojets property. For further
information regarding litigation related to contamination of ground water in
Sacramento County, see the section entitled Other Water Quality Litigation
included in Part I, Item 3, Legal Proceedings. 47




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Matters Relating to SCWs Culver City Water System The compound, methyl tertiary butyl ether (MTBE), an oxygenate used in
reformulated fuels, has been detected in the Charnock Groundwater Basin,
located in the vicinity of the City of Santa Monica and within SCWs Culver
City customer service area. At the request of the Regional Water Quality
Control Board, the City of Santa Monica and the California Environmental
Protection Agency, SCW removed two of its wells in the Culver City water system
from service in October 1996 to help in efforts to avoid further spread of the
MTBE contamination plume. Neither of these wells has been found to be
contaminated with MTBE. SCW is purchasing water from the Metropolitan Water
District of Southern California (MWD) at an increased cost to replace the water
supply formerly pumped from the two wells removed from service. On September 22, 1999, the U.S. EPA and the Los Angeles Regional Water
Quality Control Board ordered Shell Oil Company, Shell Oil Products Company,
Equilon Enterprises LLC and others to provide replacement drinking water to
both SCW and the City of Santa Monica due to MTBE contamination in the Charnock
Groundwater Basin. The EPA has ordered Shell Oil and others to reimburse SCW
for water replacement costs. In March 2002, SCW reached a settlement agreement
with the City of Santa Monica which is described in the next paragraph. On May
8, 2003, the CPUC issued a decision approving the settlement agreement.
Pursuant to the resolution, SCW has subsequently filed a report that sets forth
specific details as to SCWs plans to reinvest the net proceeds from the
settlement agreement with the City of Santa Monica. In a CPUC decision
approved on July 8, 2004, SCW is directed to (i) track the net settlement
proceeds in an interest-bearing memorandum account to fund capital for
infrastructure improvements in eight years, (ii) maintain records of all
memorandum account activity, (iii) obtain the CPUCs approval to include those
capital costs in rate base as the improvements become necessary and useful,
(iv) remove relevant assets from rate base, and (v) refund to ratepayers the
net proceeds received from PRPs, for which $3.5 million was recorded as a
liability in December 2003. In May 2004, SCW received the full settlement payment of $5.7 million from
the City. SCW and the City reached a settlement agreement in which SCW sold its
Basin water rights to the City and assigned to the City its rights against all
potentially responsible parties who stored, transported and dispensed gasoline
containing methyl tertiary butyl ether (MTBE) in underground storage tanks,
pipelines or other related infrastructure in the Basin. The total proceeds of
$5.7 million from the sale and the assignment of rights were offset by an
impairment loss of $482,000 associated with assets removed from rate base,
pursuant to the decision, resulting in a $5.2 million net pre-tax increase in
operating income. The City also indemnified SCW from related claims. SCW
recorded the impairment loss on assets removed from rate-base in other
operating expenses. Matters Relating to SCWs Yorba Linda Water System The compound MTBE has been detected in three wells serving SCWs Yorba
Linda water system. Two of the wells are currently inactive, and to date the
third well has not shown MTBE above the DOHS secondary standard of 5.0 ppb. SCW
has constructed an interconnection with the Metropolitan Water District of
Southern California to provide for the needed supply for this system in the
event the third well experiences levels of detection in excess of the DOHS
standard. SCW has met with the Regional Water Quality Control Board, the Orange
County Water District, (OCWD), the City of Anaheim, the DOHS and three
potentially responsible parties (PRPs) to define the extent of the MTBE
contamination plume and assess the contribution from the PRPs. The PRPs have
voluntarily initiated a work plan for regional investigation. While there have
not been significant disruptions to the water supply in Yorba Linda at this
point in time, no assurances can be given that MTBE contamination will not
increase in the future. In December 2003, a settlement was reached between
SCW and the PRPs. Under the settlement agreement, the PRPs are to pay SCW (i)
$581,250 for 48




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reimbursement of costs related to the issue, and (ii) up to $260,000 per
year for five years for incremental supply costs should the MTBE level in the
third well exceed the DOHS action level. SCW received payment of the $581,250
in January 2004. Matters Relating to SCWs San Gabriel Water Systems Perchlorate and/or Volatile Organic Compounds (VOC) have been detected in
five wells servicing SCWs San Gabriel System. SCW filed suit, along with two
other affected water purveyors and the San Gabriel Basin Water Quality
Authority (WQA), in federal court against some of those responsible for the
contamination. Some of the other potential defendants settled with SCW, other
water purveyors and the WQA on VOC related issues prior to the filing of the
lawsuit resulting in reimbursement to SCW of the $1 million in capital cost of
VOC treatment facilities and contribution of approximately $380,000 towards
future operating and maintenance costs of the facilities. In response to the filing of the Federal lawsuit, the Potentially
Responsible Party (PRP) defendants filed motions to dismiss the suit or strike
certain portions of the suit. Following a hearing on these motions on March 31,
2003, the judge issued a ruling on April 1, 2003 granting in part and denying
in part the defendants motions. A key ruling of the court was that the water
purveyors, including the Registrant, by virtue of their ownership of wells
contaminated with hazardous chemicals are themselves PRPs under the
Comprehensive Environmental Response, Compensation, and Liability Act (CERCLA).
Registrant has, pursuant to permission of the court, amended its suit to claim
certain affirmative defenses as an innocent party under CERCLA. In this same
suit, the PRPs have filed cross-complaints against the Registrant, the other
two affected water purveyors, the WQA and the Metropolitan Water District, the
Main San Gabriel Basin Watermaster and others on the theory that they arranged
for and did transport contaminated water into the San Gabriel Valley
Groundwater Basin for use by Registrant and the other two affected water
providers and for other related claims. Registrant is presently unable to
predict the outcome of this ruling on its ability to fully recover from the
PRPs future costs associated with the treatment of these wells. On August 29, 2003, the US Environmental Protection Agency (EPA) issued
Unilateral Administrative Orders (UAO) against 41 parties deemed responsible
for polluting the groundwater in that portion of the San Gabriel Valley from
which SCWs two impacted wells draw water. SCW was not named as a party to the
UAO. The UAO requires that these parties remediate the contamination. As a
result of the issuance of the UAO, these parties have begun settlement
discussions regarding the Federal lawsuits with SCW, the other two affected
water purveyors, WQA and, separately, EPA. Registrant is presently unable to
predict the ultimate outcome of these settlement discussions. Three other wells serving customers in SCWs San Gabriel customer service
area are also impacted by VOC contamination. A settlement with several
potentially responsible parties together with federal funds administered by WQA
resulted in reimbursement of 100% of the $1.1 million in capital costs,
$205,000 of past operations and maintenance costs and 100% of future operations
and maintenance costs for a period of up to 30 years for VOC treatment
facilities at these wells. Bark Beetle Infestation in SCWs Bear Valley Electric Service Area In a Proclamation issued on March 7, 2003 former Governor Gray Davis
declared a State of Emergency with respect to a severe fire risk caused by dead
and dying trees plagued by drought and a major bark beetle infestation in the
counties of Riverside, San Bernardino, and San Diego. The threat is continuing
and shows no sign of abating. On April 3, 2003, the CPUC issued an order
requiring Edison, San Diego Gas & Electric Company and Bear Valley Electric to
take all reasonable and necessary actions to mitigate the increased fire hazard
by removing dead, dying or diseased trees from falling or contacting
distribution and transmission lines within their rights of way and to ensure
compliance with existing vegetation clearance statutes and regulations. The
utilities, including Bear Valley Electric, are authorized 49




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to make annual advice letter filings requesting recovery of the costs of
removal and mitigation. SCW has determined the scope and magnitude of the bark
beetle infestation in its Bear Valley Electric service territory to date and
has formulated a course of action to mitigate the fire potential in its
rights-of-way. Estimated costs of dead tree removal totals $620,000 based on
experiences with other utility vegetation management programs and current
information gathered and assessed for the Big Bear Lake area. These costs
represent only the cost of addressing the problem to date. If the drought
continues, the infestation will likely spread and mitigation costs may
increase. SCW expects that current and future costs incurred in remediation of
Bark Beetle Infestation will be recoverable in rates through the annual Advice
Letter filings, as the April 2003 order issued by the CPUC contained cost
recovery provisions. As of June 30, 2004, approximately $115,000 has been
incurred and is recorded as a regulatory asset on the balance sheets. Security Issues Since the tragic events of September 11, 2001, water utilities, including
Registrant, have been advised to increase security at key facilities in order
to avoid contamination of water supplies and other disruptions of service. In
compliance with The Public Health Security and Bioterrorism Preparedness Act
of 2002 (HR 3448),Registrant has continued to implement measures to increase
security, which includes a vulnerability assessment of its large systems. In
addition to large system assessments, all systems operated by Registrant were
assessed to identify potential areas requiring enhancements. These assessments
resulted in a prioritized listing of recommended facility upgrades to enhance
the safety of water system operations. Costs associated with capital
improvements of approximately $15 million were identified as a result of the
assessment process. SCW has begun to make these improvements over a period of
six years. In March 2004, the CPUC approved security plan amounts to be spent
in 2003 and 2004 consistent with the six-year plan. The CPUC will evaluate the
remaining costs in future general rate cases. Water Supply SCWs Water Supply For the three months ended June 30, 2004, SCW supplied a total of
24,510,000 CCF of water. Of this amount, approximately 51% came from pumped
sources and 45% was purchased from others, principally the Metropolitan Water
District of Southern California (MWD). The remaining was surface water
principally supplied by the Bureau of Reclamation (the Bureau) under a no-cost
contract and by the Sacramento Municipal Utility District (SMUD), the cost of
which is being reimbursed by Aerojet pursuant to the Memorandum of
Understanding. For more information, please see the section entitled
"Environmental Matters included in Part I, Item 2 in Managements Discussion
and Analysis of Financial Condition and Results of Operations. During the same
period of 2003, SCW supplied 21,361,800 CCF of water, 55% of which came from
pumped sources, 41% was purchased, and the Bureau and SMUD supplied the
remainder. For the six months ended June 30, 2004, SCW supplied a total of 41,372,800
ccf of water, 52% of which came from pumped sources and 44% of which was
purchased. During the six months ended June 30, 2003, SCW produced 37,723,800
ccf of water. Of this amount 56% came from pumped sources, 41% was purchased
and the remainder was provided by the Bureau. The MWD is a water district organized under the laws of the State of
California for the purpose of delivering imported water to areas within its
jurisdiction. Registrant has 58 connections to the water distribution
facilities of MWD and other municipal water agencies. MWD imports water from
two principal sources: the Colorado River and the SWP. Available water supplies
from the Colorado River and the SWP have historically been sufficient to meet
most of MWDs requirements. 50




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On October 17, 2003 Federal government, State government, and four
Southern California water agency officials, including the MWD, met to sign the
Quantification Settlement Agreement (QSA) which divides up each states share
of the Colorado River. Under the QSA, MWD will have access (as in the past) to
Colorado River water and up to 1.6 million acre feet of additional water that
the Imperial Irrigation District proposes to conserve and sell to the state.
With the signing of this agreement California once again has access to excess
Colorado River water for the next 13 years. However for the near term, excess
water may not be available due to the recent drought in the Colorado watershed.
MWD has also publicly stated that it is stepping up a number of efforts
including desalination, conservation, recycling, transfer and storage, to
increase water supplies. SCWs water supply and revenues are significantly affected, both in the
short-run and the long run, by changes in meteorological conditions. Current
water supplies in California are adequate. As of May 2004 statewide
precipitation levels for the water year were at 90% of normal. Similarly,
reservoir storage for the state is 100% of normal. The water year runoff
peaked early due to a very warm April and is estimated at 80% of average. Although overall groundwater conditions remain at adequate levels, certain
of SCWs groundwater supplies have been affected to varying degrees by various
forms of contamination which, in some cases, has caused SCW to increase its
reliance on purchased water in its supply mix. For further information, see
Part I, Item 3 in Legal Proceedings. As a result of below normal precipitation and faster than normal melting
of the winter snowpack, coupled with an increase in customer demands in SCWs
Wrightwood customer service area, our groundwater water supply again began to
be severely impacted in late June this year. In response to this emergency
situation, SCW undertook a number of steps to continue to provide sufficient
water service, including trucking water into the area from nearby sources
beginning June 29, 2004, re-informing customers with respect to more stringent
conservation, and expediting the drilling and equipping of a new well. It is
anticipated that such water hauling should only be needed until the new well is
on line. SCW is, however, experiencing increased operating costs associated
with the trucking of water. Management is unable to predict the extent of
these additional costs or the extent to which additional problems may be
encountered in this area. SCW intends to seek recovery of these costs at the
CPUC. CCWCs Water Supply Arizona continues to experience drought conditions. During this water
year, precipitation has been well below normal, except for the southeastern
portion of the state. The Colorado River Basin and Southern Arizona, despite
recent higher than normal rainfall, still have a very low level of water
storage. As of May 2004 Lake Powell was at 52% of average and Lake Mead was at
70%, as compared to 63% and 78%, respectively, at this same time last year.
The inflow so far this year into Lake Powell has been 4,033,800 acre feet which
is 62% of the historic average. The Salt and Verde reservoir systems in
Arizona are better with slight increases in storage levels. Currently the Salt
and Verde system reservoirs are at 44% of capacity, approximately 57% of
average, compared to 42% last year. The Arizona Water Banking Authority (AWBA) was created to store Arizonas
unused Colorado River water entitlement in western, central and southern
Arizona to develop long-term storage credits to: (i) firm existing water
supplies for municipal and industrial users during Colorado River shortages or
Central Arizona Project (CAP) service interruptions; (ii) help meet the water
management objectives of the Arizona Groundwater Code; and (iii) assist in the
settlement of American Indian water rights claims. The ABWA successfully
recharged more than 209,000 acre-feet in 2003 allowing for the second year in a
row for Arizona to use its full allocation of Colorado River entitlement of 2.8
million acre-feet. This banked water can be used as a hedge against future
drought conditions. Further, the first curtailment of CAP deliveries in the
event of shortage would occur to non-Indian agricultural users. Such users
accounted for a third of CAP deliveries in 2003, creating a buffer for users
such as CCWC. Though it is 51




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difficult to predict drought conditions with certainty, the activities of
AWBA, and the priority for users of CAP, such as CCWC, provides an improved
outlook for CCWC supplies. CCWC obtains its water supply from two operating wells and from Colorado
River water delivered by the CAP. The majority of CCWCs water supply is
obtained from its CAP allocation and well water is used for peaking capacity in
excess of treatment plant capability, during treatment plant shutdown, and to
keep the well system in optimal operating condition. CCWC has an Assured Water Supply designation, by decision and order of the
Arizona Department of Water Resources (ADWR), providing in part that, subject
to its requirements, CCWC has a sufficient supply of ground water and CAP water
which is physically, continuously and legally available to satisfy current and
committed demands of its customers, plus at least two years of predicted
demands, for 100 years. CCWC however, received a letter from the ADWR stating that the current and
committed demand for water in CCWCs service area had exceeded CCWCs supply of
water in its proven assured water supply account by 400 acre-feet per year.
ADWRs letter required CCWC to make up this accounting deficit by securing
additional water supplies and/or providing information to ADWR that would allow
ADWR to issue a new decision that CCWCs current and committed demands were
within the proven available supplies in CCWCs assured water supply account.
The ADWR letter was part of a routine administrative review of all water
providers. CCWC has since undertaken actions requested by the ADWR, including (i)
joining the Central Arizona Groundwater Replenishment District as a Member
Service Area, (ii) submitting an application to the ADWR to modify its assured
supply designation in a manner that will enable CCWC to provide water service
to new real estate developments in the Town of Fountain Hills, and (iii) filing
a report supporting the modification of designation of assured water supply.
On April 7, 2004 ADWR issued a revised decision confirming that CCWC has
demonstrated the physical, legal and continuous availability of CAP water and
groundwater, consistent with the management goal, in an aggregate volume of
9,828 acre-feet per year for a minimum of 100 years which is greater than
CCWCs projected demand for the calendar year 2014 of approximately 8,000
acre-feet. The 9,828 is comprised of our existing CAP allocation of 6,978
acre-feet per year, 350 acre-feet per year groundwater allowance, incidental
recharge credits of 500 acre-feet per year, and our Central Arizona Groundwater
Replenishment District (CAGRD) contract of 2,000 acre-feet per year. Our
existing groundwater account balance of 35,829 acre-feet provides approximately
350 acre-feet per year for a hundred years. Notwithstanding an assured water supply designation, CCWCs water supply
may be subject to interruption or reduction, in particular owing to
interruption or reduction of CAP water. In the event of interruption or
reduction of CAP water, CCWC can currently rely on its well water supplies for
short-term periods. However, in any event, the quantity of water CCWC supplies
to some or all of its customers may be interrupted or curtailed, pursuant to
the provisions of its tariffs. CCWC also has the physical capability to deliver
water far in excess of that which is currently accounted for in CCWCs assured
water supply account. 52




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Risk Factor Summary You should carefully read the risks described below and other information
in this Form 10-Q in order to understand certain of the risks of our business. Our liquidity and earnings could be adversely affected by changes in water
supply costs On November 29, 2001, the CPUC ordered us to suspend the use of the
current water balancing account, and instead start a memorandum account for
each offsettable expense of purchased water, purchased power and pump tax for
our water service areas. Changes in water supply costs compared to the
authorized amount, as well as any future authorized offset increases may
directly affect our earnings. In a decision issued on June 19, 2003 for memorandum supply accounts, the
CPUC concluded that our recovery of deferred water supply costs for providing
water service will be reduced if we are earning more than our authorized rate
of return. Pursuant to this decision, we are required to file advice letters
annually with respect to over- and under- collections in the memorandum supply
accounts. We also record the amount of net over-collections in each region,
but do not record under-collections that are uncertain for recovery, unless the
CPUC approves recovery of these under-collections. We recently filed advice
letters seeking review of the activities in Region I and Region II supply cost
memorandum accounts at December 31, 2003. SCW has not filed advice letters for
Region III supply cost memorandum account, pending resolution of SCWs petition
to have its filing processed on a regional level consistent with the June 2000
adoption of a regional rate structure for Region III. Region III has an
under-collection balance of $6.0 million and $5.3 million at June 30, 2004 and
December 31, 2003, respectively, which has not been recorded due to uncertainty
of the CPUCs decision on our petition. Future recovery of the under-collected
balances is subject to the earning tests and the CPUCs review of the
reasonableness of the cost. Our liquidity, and in certain circumstances, earnings, could be adversely
affected by increases in electricity prices in California Under California law, we are permitted to file for a rate increase to
recover electric power costs not being recovered in current rates. Increases in
electric power costs generally have no direct impact on profit margins, unless
recovery of these costs is disallowed, but do affect cash flows and can
therefore impact the amount of our capital resources. Electric power costs
increased substantially in California during the fall of 2000 until the summer
of 2001. On July 17, 2002, the FERC extended and modified the mitigation
measures that were set to expire on September 30, 2002, citing delays in
construction of new generation resources in California and throughout the West,
delays in adopting a new market design and market rules by the Cal ISO,
transmission line constraints, constraints on natural gas pipeline capacity and
continuing dysfunctions in the power market. It remains unclear how long the
FERC will leave its mitigation measures in place. The premature termination of
such mitigation measures could result in a substantial increase in spot market
prices and the prices of long-term contracts for power and capacity. In
addition, a number of market reforms are under consideration at FERC. Certain
of these reforms, if adopted, could result in significantly increased electric
supply reserve requirements that have the potential for further cost increases. Significant claims have been asserted against us in water quality
litigation SCW and others have been sued in twenty-two water quality related lawsuits
alleging personal injury and property damage as a result of the delivery of
water that was allegedly contaminated. Nineteen of the lawsuits involve
plaintiffs who received water from two groundwater basins in Los Angeles
County. The other lawsuits involve plaintiffs in Sacramento County. On August 4, 2004, SCW was ordered dismissed from all the nineteen cases
involving customer service areas located in the Los Angeles County. The order was
issued by the Trial Judge presiding over these matters, and follows a lengthy
legal proceeding dating back to April 1997 when the first of the cases was
filed by over 140 customers in the San Gabriel Valley, alleging their water had
caused personal injuries of varying types and degrees. The Court found SCW did
not violate established water quality standards and dismissed the cases after
allowing reasonable time and opportunity for the Plaintiffs to prove otherwise.
SCW has long asserted that it meets or exceeds the requirements to provide
water within the standards established by the health authorities, and will
continue to meet or exceed those standards. Principle issues in these cases
have been addressed by the Court of Appeals in 1999 and the California Supreme
Court in 2002, setting the stage for this dismissal. The Plaintiffs cases will
continue against several industrial defendants alleged to have contaminated the
groundwater through their operations and disposal practices. SCW is unable at
this time to determine what action, if any, the Plaintiffs will take. As for the three lawsuits in Sacramento County, one of the three
Plaintiffs filed for dismissal and the case has subsequently been dismissed by
the Court. Based upon the information currently available to it, SCW
believes that the remaining two claims are without merit, and intends
to vigorously defend against these claims. 53




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Persons that are potentially responsible for causing the contamination of
groundwater supplies have also been increasingly asserting claims against water
distributors on a variety of theories and have thus far successfully brought
them within the class of potentially responsible parties thereby increasing the
costs of seeking recovery from the potentially responsible parties and the
risks associated with seeking recovery of these costs. Management believes
that rate recovery, proper insurance coverage and reserves are in place to
insure against these claims. Our operating costs have increased and are expected to continue to
increase as a result of groundwater contamination Our operations have been impacted by groundwater contamination in certain
of our service territories. We have taken a number of steps to address this
contamination, including the removal of wells from service, the construction of
water treatment facilities and securing alternative sources of supply from
other areas not affected by the contamination. In some cases, potentially responsible parties have reimbursed us for our
costs. In other cases, we have taken legal action against parties that we
believe to be potentially responsible for the contamination. To date, the CPUC
has also permitted SCW to establish memorandum accounts for recovery of these
types of costs. Environmental regulation has increased, and is expected to continue to
increase our operating costs SCW and CCWC are subject to increasingly stringent environmental
regulations that will result in increasing capital and operating costs. These
regulations include:  
    
    The 1996 amendments to the Safe Drinking Water Act that
require increased testing and treatment of water to reduce
specified contaminants to maximum contaminant levels
    
    Approved regulations requiring increased surface-water
treatment to decrease the risk of microbial contamination; these
regulations affect SCWs five surface water treatment plants and
two CCWC plants
    
    Additional regulation of disinfection/disinfection byproducts
    
    Additional regulations requiring disinfection of certain groundwater systems
    
    Regulation of arsenic and radon
    
    Changes in the action level and the proposed adoption
of maximum contamination levels for perchlorate and other by
products of the production of rocket fuel SCW and CCWC may be able to recover costs incurred to comply with these
regulations through the ratemaking process. In a recent rate case, the CPUC has
authorized SCW to establish a memorandum account for future recovery of costs
associated with compliance and remediation. We may also be able to recover
certain of these costs under certain of our contractual arrangements. In
certain circumstances, we 54




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may be able to recover costs from parties responsible or potentially
responsible for contamination, either voluntarily or through specific court
action. The adequacy of our water supplies depends upon a variety of factors
beyond our control The adequacy of our water supplies varies from year to year depending upon
a variety of factors, including:  
    
    Rainfall
    
    Availability of Colorado River water and imported water from northern California
    
    The amount of water stored in reservoirs and groundwater basins
    
    The amount of water used by our customers and others
    
    Water quality
    
    Legal limitations on use Population growth and increases in the amount of water used have increased
limitations on use to prevent over-drafting of groundwater basins. The
importation of water from the Colorado River, one of SCWs important sources of
supply, is expected to decrease in future years due to the requirements of the
Central Arizona Project (CAP) and other limitations on the amount of water
that the Metropolitan Water District of Southern California is entitled to take
from the Colorado River. We have also taken wells out of service due to
groundwater contamination. MWD is expected to increase its efforts to secure
additional supplies from conservation, desalination and water exchanges with
the agricultural water users. CCWC obtains its water supply from operating wells and from the Colorado
River through the CAP. CCWCs water supply may be subject to interruption or
reduction if there is an interruption or reduction in CAP water. In addition,
CCWCs ability to provide water service to new real estate developments is
dependent upon CCWCs ability to meet the requirements of the Arizona
Department of Water Resources regarding its assured water supply account. Water shortages may affect us in a variety of ways:  
    
    They adversely affect supply mix by causing us to rely
on more expensive purchased water.
    
    They adversely affect operating costs.
    
    They may result in an increase in capital expenditures
for building pipelines to connect to alternative sources of
supplies, new wells to replace those that are no longer in
service or are otherwise inadequate to meet the needs of our
customers and reservoirs and other facilities to conserve or
reclaim water. We may be able to recover increased operating and construction costs for
our regulated systems through the ratemaking process. We may also be able to
recover certain of these costs from third parties that may be responsible, or
potentially responsible, for groundwater contamination. Our earnings are greatly affected by weather during different seasons The demand for water and electricity varies by season. Therefore, the
results of operations for one period may not indicate results to be expected in
another period. For instance, most water consumption occurs during the third
quarter of each year when weather tends to be hot and dry. On warm days, use of
water by residential and commercial customers may be significantly greater than
on cold days because of the increased use of water for outdoor landscaping.
Likewise the demand for electricity in our Bear Valley Electric service area is
greatly affected by winter snows. An increase in winter snows reduces the use
of 55




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snow making machines at ski resorts in the Big Bear area and, as a result
reduces electric revenues. Likewise, unseasonably warm weather during a skiing
season may result in temperatures too high for snowmaking conditions which also
reduces electric revenues. Variability of weather from normal temperatures or changes in snow or
rainfall can materially impact results of operations. As a result, weather has
been and will continue to be one of the dominant factors in our financial
performance. Our business is heavily regulated and, as a result, decisions by
regulatory agencies and changes in laws and regulations can significantly
affect our business Our revenues depend substantially on the rates that we are permitted to
charge our customers and our ability to recover our costs in these rates on a
timely basis, including the ability to recover the costs of purchased water,
groundwater assessments and electric power costs in rates. We have filed for
increased water rates to recover operating costs from customers in all our
water regions as well as for costs associated with general office activities,
but have been experiencing increasing delays in the processing of our
applications. In addition, we will be seeking CPUC authorization to recover in
rates the costs for constructing an 8.4 MW natural gas-fueled generator
facility to meet increasing demand in our Bear Valley customer service area. The CPUCs resolution ordering SCW to suspend the use of the current water
balancing account, and instead to start a memorandum account for its supply
costs has and will directly impact our earnings since the recovery of deferred
water supply costs is reduced if we are earning an amount in excess of our
authorized rate of return. We have also been adversely affected by electric
restructuring in California and the limitations that have been placed on our
ability to recover these costs in rates. Our costs have increased as a result of increasing environmental
regulation, requirements to increase security at our water facilities and
requirements to mitigate fire hazard risks in our Bear Valley Electric service
area arising out of the drought and a major bark beetle infestation. The regulatory authoritys decision can impact prospective revenues and
earnings, effect the timing of the recognition of revenues and expenses and may
overturn past decisions. Our business requires significant capital expenditures The utility business is capital intensive. On an annual basis, we spend
significant sums for additions to or replacement of property, plant and
equipment. During the six months ended June 30, 2004 and 2003, Registrant spent
$30,592,000 and $17,455,000, respectively, for these purposes. Our net budgeted
capital expenditures for calendar year 2004 for these purposes are
approximately $61.7 million. There is no capital expenditure for environmental
control facilities budgeted for 2004. We obtain funds for these capital projects from operations, contributions
by developers and others and advances from developers (which must be repaid).
We also periodically borrow money or issue equity for these purposes. In
addition, we have a syndicated bank facility that we can use for these
purposes. We cannot assure you that these sources will continue to be adequate
or that the cost of funds will remain at levels permitting us to earn a
reasonable rate of return. 56




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New Accounting Pronouncements Registrant is subject to newly issued as well as changes in existing
requirements issued by the Financial Accounting Standard Board. Differences in
financial reporting between periods could occur unless and until the CPUC and
the ACC approve such changes for conformity through regulatory proceedings. See
Note 7of Notes to Consolidated Financial Statements. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk Registrant is exposed to certain market risks, including fluctuations in
interest rates, and commodity price risk primarily relating to changes in the
market price of electricity. Market risk is the potential loss arising from
adverse changes in prevailing market rates and prices. There have been no
material changes regarding Registrants market risk position from the
information provided in its Annual Report on Form 10-K for the year ended
December 31, 2003. The quantitative and qualitative disclosures about market
risk are discussed in Item 7A-Quantitative and Qualitative Disclosures About
Market Risk, contained in Registrants Annual Report on Form 10-K. 
 Item 4. Controls and Procedures (a) Evaluation of disclosure controls and procedures Registrant carried out an evaluation, under the supervision and with the
participation of the Companys Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the Companys disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of
June 30, 2004, which is the end of the period covered by this report. Based on
this evaluation, the Companys Chief Executive Officer and Chief Financial
Officer have concluded that such controls and procedures are effectively
designed to ensure that required information disclosed by the Registrant in
reports that it files or submits under the Exchange Act is recorded, processed,
summarized and timely reported in accordance with the Securities and Exchange
Commissions rules and forms. It should be noted that any system of controls,
however well designed and operated, can provide only reasonable, not absolute,
assurance that the objectives of the system will be met. The design of any
control system is based in part on certain assumptions about the likelihood of
future events and is subject to judgments in assessing the costs and benefits
of such controls and procedures. Because of these and other inherent
limitations of control systems, there can be no assurance that any control
system will succeed in achieving its objectives under all potential future
conditions, regardless of how remote. (b) Changes in internal controls over financial reporting As of the end of the second quarter ended June 30, 2004, certain planned
enhancements have been implemented in the internal controls over financial
reporting. In connection with the Companys on-going review of internal
controls in preparation for compliance with Section 404 of the Sarbanes-Oxley
Act of 2002, Registrant has developed and implemented processes including
formalizing the communication between the various business units and the
accounting department. These processes were implemented to enhance and
formalize the information gathering process for the preparation of the annual
and quarterly filings with the Securities and Exchange Commission. There were
no other significant changes in the Companys internal controls over financial
reporting or in other factors identified in connection with this evaluation
that occurred during the quarter ended June 30, 2004, the period covered by
this report that has materially affected, or is reasonably likely to materially
affect, the Companys internal control over financial reporting. 57




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PART II 
 Item 1. Legal Proceedings Water Quality-Related Litigation SCW is a defendant in twenty-two lawsuits involving claims pertaining to
water quality. Nineteen of the lawsuits were coordinated in the Los Angeles
Superior Court and involved water served by the company in the San Gabriel and
Pomona Valley areas of Los Angeles County: Robert Arenas, et al. v. Suburban
Water Systems, Inc., et al., Case No. KC037559, Anthony John Bell, et al. v.
City of Pomona, et al., Case No. KC038796, Adler, et al. v. Southern California
Water Company, et al., Case No. BC169892, Santamaria, et al. v. Suburban Water
Systems, et al., Case No. KC025995, Georgianna Dominguez et al. v. Southern
California Water Company, et al., Case No. GC021657, Anderson, et al. v.
Suburban Water Company, et al., Case No. KC028524, Abarca, et al. v. City of
Pomona, et al., Case No. K027795, Celi, et al. v. San Gabriel Valley Water
Company, Case No. GC020622, Boswell et al. v. Suburban Water Systems, et al.,
Case No. KC027318, Demciuc et al. v. Suburban Water Systems, et al., Case No.
KC028732, Antoinette Adejare, et al. v. City of Pomona, et al., Case No.
KC031096, Almelia Brooks, et al. v. Suburban Water System, et al., Case No.
KC032915, Lori Alexander, et al. v. Suburban Water Systems, et al., Case No.
KC031130, David Arnold, et al. v. City of Pomona, et al., Case No. KC034636,
Gilda Ambrose-Dubre, et al. v. City of Pomona, et al., Case No. KC032906,
Melissa Garrity Alvarado, et al. v. Suburban Water Systems et al., Case No.
KC034953 , Charles Alexander, et al. v. City of Pomona, et al., Case No
KC035526, Criner, et al. v. San Gabriel Valley Water Company, et al., Case No.
GC021658, and Donerson, et al. v. City of Pomona, et al., Case No. KC035987.
The lawsuits filed in Los Angeles County Superior Court are based on the
allegations that SCW and the other defendants have provided and continue to
provide plaintiffs with contaminated water from its wells, several of which are
located in an area of the San Gabriel Valley that has been designated a federal
superfund site, that the maintenance of this contaminated well water has
resulted in contamination of the soil, subsurface soil and surrounding air with
solvents and other substances, and that plaintiffs have been injured and their
property damaged as a result. On August 4, 2004, SCW was ordered dismissed from all the nineteen cases
in Los Angeles County. The order was issued by the Trial Judge presiding over
these matters, and follows a lengthy legal proceeding dating back to April,
1997. The court found SCW did not violate established water quality standards
and dismissed the cases after allowing reasonable time and opportunity to the
Plaintiffs to prove otherwise. SCW has long asserted that it meets or exceeds
the requirements to provide water within the standards established by the
health authorities, and will continue to meet or exceed those standards.
Principle issues in these cases have been addressed by the Court of Appeals in
1999 and the California Supreme Court in 2002, setting the stage for this
dismissal. The Plaintiffs cases will continue against several industrial
defendants alleged to have contaminated the groundwater through their
operations and disposal practices. SCW cannot determine at this time what
action, if any, the Plaintiffs will take. Three of the lawsuits involve a customer service area located in
Sacramento County that have been filed in Sacramento County Superior Court:
Nathaniel Allen, Jr. v. Aerojet-General Corporation, et al., Case No.
97AS06295, Daphne Adams, et al. v. Aerojet-General Corporation, et al., Case
No. 98AS01025, and Wallace Andrew Pennington et al. v. Aerojet-General
Corporation, et al., Case No. 00AS02622. The lawsuits filed in Sacramento
County Superior Court are based on the allegations that SCW and other
defendants have delivered water to plaintiffs that are contaminated with a
number of chemicals, including trichloroethylene, perchloroethylene, carbon
tetrachloride, perchlorate, Freon-113, hexavalent chromium and other unnamed
chemicals and that plaintiffs have been injured and their property damaged as a
result. In July 2004, Wallace Andrew Pennignton filed for dismissal and the
Court subsequently dismissed the case. Based upon the information currently
available to it, Registrant believes that the remaining two claims are without
merit and intends to vigorously defend against these claims. 58




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SCW is subject to self-insured retention provisions in its applicable
insurance policies and has either expensed the self-insured amounts or has
reserved against payment of these amounts as appropriate. SCWs various
insurance carriers have, to date, provided reimbursement for costs incurred
above the self-insured amounts for defense against these lawsuits, subject to a
reservation of rights. Other Water Quality Litigation On October 25, 1999, SCW sued Aerojet for causing the contamination of
eastern portions of the Sacramento County groundwater basin. On October 10,
2003 Registrant entered into a confidential memorandum of understanding (MOU)
with Aerojet for the settlement of legal actions brought by SCW. The MOU sets
forth the present financial terms and the structure of a settlement to cover,
over time, capital and litigation related costs incurred by SCW resulting from
the contamination. The MOU and the settlement embodied therein were found to
be binding by the Sacramento Superior Court on January 18, 2004. Further
documentation incorporating the terms of the MOU is presently underway.
However, documentation is not complete and management is presently unable to
predict when a comprehensive set of settlement documents will be completed. Based on the financial terms in the MOU, SCW established a receivable from
Aerojet in an amount of $16.7 million for capital project and purchased water
reimbursements at the end of 2003, of which $8.7 million has been received in
early 2004. Reimbursements received from Aerojet have been applied directly to
reduce SCWs costs of utility plant and purchased water. Prior to the MOU,
Aerojet had reimbursed SCW $4.3 million in capital costs and $171,000 for
additional water supply. The remainder of the costs to be recovered, which
consist primarily of deferred legal and consulting related costs, is
subject to further settlement documentation. In an action related to the draft settlement agreement, Registrant and
Aerojet have signed three separate agreements requiring Aerojet to pay for
certain infrastructure and upgrades to Registrants Coloma Treatment Plant as a
contingency plan should additional wells be impacted. The value of the three
agreements approximates $6.8 million in capital improvements. In addition, SCW
is in negotiations with the County of Sacramento regarding a replacement of
water supply. The CPUC has previously authorized memorandum accounts to allow for
recovery, from customers, of costs incurred by SCW in prosecuting the suits
filed against the State and Aerojet, less any recovery from the defendants or
others. As of June 30, 2004, approximately $16.2 million in legal and
consulting related costs has been recorded as deferred charges and included as
Regulatory Assets on the balance sheets. The CPUC has authorized SCW to
increase rates, effective April 28, 2001, for recovery over a six-year period
of approximately $1.8 million in expenses that were incurred on or before
August 31, 2000, in the Aerojet matter. As part of an abbreviated application
for SCWs Region I, SCW requested a long-term amortization of the balance of
costs included in the Aerojet litigation memorandum account, net of any
reimbursement amount. Management believes these legal costs are probable of
recovery through rates; however, proceeds from any settlement agreement with
Aerojet would be applied to reduce amounts collected from customers, as
required by the CPUCs Resolution W-4181. Management cannot give assurance that
the CPUC will ultimately allow recovery of all or any of these costs. The
draft agreement with Aerojet also addresses the possible recovery of SCWs
deferred charges through settlement proceeds from Aerojet that will come from
the revenues collected by Aerojet in new development areas that occur on
Aerojets property. See the section entitled Regulatory Matters and
"Environmental Matters in Part I, Item 2 in Managements Discussion and
Analysis of Financial Conditions and Results of Operation. Perchlorate and/or Volatile Organic Compounds (VOC) have been detected in
five wells servicing SCWs San Gabriel System. SCW filed suit, along with two
other affected water purveyors and the San Gabriel Basin Water Quality
Authority (WQA), in the federal court against some of those 59




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responsible for the contamination. Some of the other potential defendants
settled with SCW, other water purveyors and the WQA on VOC related issues prior
to the filing of the lawsuit. In response to the filing of the Federal lawsuit,
the Potentially Responsible Party (PRP) defendants filed motions to dismiss the
suit or strike certain portions of the suit. The judge issued a ruling on April
1, 2003 granting in part and denying in part the defendants motions. A key
ruling of the court was that the water purveyors, including the Registrant, by
virtue of their ownership of wells contaminated with hazardous chemicals are
themselves PRPs under the Comprehensive Environmental Response, Compensation,
and Liability Act (CERCLA). Registrant has, pursuant to permission of the
court, amended its suit to claim certain affirmative defenses as an innocent
party under CERCLA. In this same suit, the PRPs have filed cross-complaints
against the Registrant, the other two affected water purveyors, the WQA and the
Metropolitan Water District, the Main San Gabriel Basin Watermaster and others
on the theory that they arranged for and did transport contaminated water into
the San Gabriel Valley Groundwater Basin for use by Registrant and the other
two affected water providers and for other related claims. Registrant is
presently unable to predict the outcome of this ruling on its ability to fully
recover from the PRPs the future costs associated with the treatment of these
wells. On August 29, 2003, the US Environmental Protection Agency issued
Unilateral Administrative Orders (UAO) against 41 parties deemed responsible
for polluting the groundwater in that portion of the San Gabriel Valley from
which SCWs two impacted wells draw water. SCW was not named as a party to the
UAO. The UAO requires that these parties remediate the contamination. As a
result of the issuance of the UAO, these parties have begun settlement
discussions regarding the Federal lawsuits with SCW, the other two affected
water purveyors and WQA. Registrant is presently unable to predict the ultimate
outcome of these settlement discussions. Electric Service Litigation SCW has been, in conjunction with Edison, planning to upgrade transmission
facilities to 115kv (the 115kv Project) in order to meet increased energy and
demand requirements for SCWs Bear Valley Electric service area. On December
27, 2000, SCW filed a lawsuit against Edison for declaratory relief and seeking
damages for breach of contract as a result of delays in the 115kv Project,
violations of good faith and fair dealing, negligent misrepresentation,
intentional misrepresentation and unjust enrichment. Subsequently Edison filed
a cross-complaint against SCW for breach of contract, anticipatory breach, and
quantum meruit. SCW also sought declaratory relief from Edisons claims. To
date, SCW has spent approximately $3.4 million in this matter, all of which has
been expensed. A settlement has been reached between SCW and Edison, in which
(i) SCW is to pay Edison $5.0 million as the cost of abandoning and terminating
the 115kv Project, (ii) Edison is required to make a filing with the FERC to
include the cost in a FERC rate schedule under the Transmission Service
Agreement between SCW and Edison, and (iii) Edison is to sell the Goldhill
substation and associated transmission line to SCW at its book value.
Management believes that the FERCs approval on Edisons filing is probable and
this cost is within the meaning of the CPUCs Code of Abandonment Fee which
is recoverable through the supply cost balancing account. As a result, the
$5.0 million obligation to Edison arising from the settlement was recorded as a
liability and a regulatory asset in the fourth quarter of 2003, of which $1.4
million was paid in the first quarter of 2004. A final settlement agreement
was reached on March 17, 2004. Edison has filed the tariffs with the FERC. Other Litigation Registrant is also subject to ordinary routine litigation incidental to
its business. Other than as disclosed above, no other legal 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
ordinary course of business. 60




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Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities (a) None (b) None (c) None (d) None (e) None 
 Item 3. Defaults Upon Senior Securities None. 
 Item 4. Submission of Matters to a Vote of Security Holders On or about April 2, 2004, common and preferred shareholders of AWR were
mailed a Notice of Annual Meeting and a Proxy Statement. Shareholders were
requested to vote their shares to: (1) elect four Class II directors to the
Board of Directors to serve until their successors are elected and qualified;
(2) approve the 2003 Non-Employee Directors Stock Plan; (3) ratify the
appointment of PricewaterhouseCoopers LLP (PwC) as the independent registered
public accounting firm; and (4) to transact any other business, which may
properly come before the meeting or any adjournment thereof. The following table presents the voting results of the election Class II
Directors at the Annual Meeting of Shareholders (the Meeting) held on May 11,
2004: Name
    
    Votes For
    
    Votes WithheldJean E. Auer
    
    
    13,384,101
    
    
    
    451,690N.P. Dodge, Jr.
    
    
    13,316,574
    
    
    
    519,216Robert F. Kathol
    
    
    13,354,953
    
    
    
    480,837Lloyd E. Ross
    
    
    13,399,304
    
    
    
    436,886
 Registrant has two classes of Directors. Class I Directors, who will hold
office until 2005, are James L. Anderson, Anne M. Holloway and Floyd E. Wicks. Both of the other two proposals have been approved, with a 57.21%
affirmative vote for the 2003 Non-Employee Directors Stock Plan, and a 97.9%
affirmative vote for the ratification of the appointment of PwC as the
independent registered public accounting firm. 61




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Item 5. Other Information  (a)
    
    On July 27, 2004, the Board of Directors of Registrant declared a
regular quarterly dividend of $0.221 per common share. The dividend
will be paid September 1, 2004 to shareholders of record as of the
close of business on August 9, 2004.(b)
    
    There have been no material changes to the procedures by which
security holders may recommend nominees to the Board of Directors of
AWR. 
 Item 6. Exhibits and Reports on Form 8-K (a) The following documents are included as Exhibits to this report:  10.26
    
    American States Water Company  2003 Non-Employee Directors Stock
Plan(1)31.1
    
    Certification of Chief Executive Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002(1)31.2
    
    Certification of Chief Financial Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002(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)  (1)
    
    Filed concurrently herewith(2)
    
    Furnished concurrently herewith. (b) None. 62




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SIGNATURE Pursuant to the requirements of Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized and as its principal financial officer. AMERICAN STATES WATER COMPANY
and its subsidiary
SOUTHERN CALIFORNIA WATER COMPANYBy:
    
    /s/ Robert J. SprowlsRobert J. SprowlsSenior Vice President, Chief Financial Officer,Corporate Secretary and Treasurer
 Dated: August 9, 2004 63