MIDDLESEX WATER CO - Quarter Report: 2019 September (Form 10-Q)

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

For the quarterly period ended September 30, 2019

OR

For the transition period from _________________ to______________________

Commission File Number     0-422

MIDDLESEX WATER COMPANY

(Exact name of registrant as specified in its charter)

485C Route One South, Iselin, New Jersey 08830

(Address of principal executive offices, including zip code)

(732) 634-1500

(Registrant's telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

Indicate by check mark whether the 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 the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes þ    No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or such shorter period that the registrant was required to submit and post files).

Yes þ    No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of large accelerated filer, accelerated filer, non-accelerated filer, smaller reporting company and emerging growth company in Rule 12b-2 of the Exchange Act.

Large accelerated filer ¨                     Accelerated filer þ                     Non-accelerated filer ¨

Smaller reporting company ¨                               Emerging growth company ¨

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.    ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).

Yes ¨    No þ

The number of shares outstanding of each of the registrant's classes of common stock, as of October 31, 2019: Common Stock, No Par Value: 16,669,540 shares outstanding.

INDEX

MIDDLESEX WATER COMPANY

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

(In thousands except per share amounts)

MIDDLESEX WATER COMPANY

CONDENSED CONSOLIDATED  BALANCE SHEETS

(Unaudited)

(In thousands)

See Notes to Condensed Consolidate Financial Statements.

MIDDLESEX WATER COMPANY

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(In thousands)

See Notes to Condensed Consolidated Financial Statements.

MIDDLESEX WATER COMPANY

CONDENSED CONSOLIDATED STATEMENTS OF CAPITAL STOCK AND LONG-TERM DEBT

(Unaudited)

(In thousands

See Notes to Condensed Consolidated Financial Statements.  

MIDDLESEX WATER COMPANY

CONDENSED CONSOLIDATED STATEMENTS OF COMMON STOCKHOLDERS' EQUITY

(Unaudited)

(In thousands)

See Notes to Condensed Consolidated Financial Statements.  

MIDDLESEX WATER COMPANY

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Note 1 – Basis of Presentation and Recent Developments

Middlesex Water Company (Middlesex or the Company) is the parent company and sole shareholder of Tidewater Utilities, Inc. (Tidewater), Tidewater Environmental Services, Inc. (TESI), Pinelands Water Company (Pinelands Water) and Pinelands Wastewater Company (Pinelands Wastewater) (collectively, Pinelands), Utility Service Affiliates, Inc. (USA), Utility Service Affiliates  (Perth Amboy) Inc. (USA-PA), and Twin Lakes Utilities, Inc. (Twin Lakes). Southern Shores Water Company, LLC (Southern Shores) and White Marsh Environmental Systems, Inc. (White Marsh) are wholly-owned subsidiaries of Tidewater. The financial statements for Middlesex and its wholly-owned subsidiaries (the Company) are reported on a consolidated basis. All significant intercompany accounts and transactions have been eliminated.

The consolidated notes within the 2018 Annual Report on Form 10-K (2018 Form 10-K) are applicable to these financial statements and, in the opinion of the Company, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary (including normal recurring accruals) to present fairly the financial position as of September 30, 2019 and the results of operations and cash flows for the three month and nine month periods ended September 30, 2019 and 2018. Information included in the Condensed Consolidated Balance Sheet as of December 31, 2018, has been derived from the Company’s audited financial statements for the year ended December 31, 2018 included in the 2018 Form 10-K.

Recent Developments

Tidewater to Acquire Water Systems - On October 8, 2019, the Delaware Public Service Commission (DEPSC) approved Tidewater’s request to purchase the water utility assets of J.H. Wilkerson and Son, Inc. and transfer the Certificate of Public Convenience and Necessity in order for Tidewater to serve the approximate 1,000 customers currently connected to eight community water systems located mostly in eastern Sussex County, Delaware. The DEPSC also authorized Tidewater to maintain the existing rates that these customers currently pay. The transaction is expected to close in the fourth quarter of 2019.

Recently Adopted Accounting Guidance

Leases - On January 1, 2019, the Company adopted Financial Accounting Standards Board (FASB) issued guidance related to leases which required lessees to recognize a lease liability and a right-of-use asset. The Company elected the optional transition method of adoption option to apply the requirements of the standard in the period of adoption with no restatement of prior periods. The Company utilized the package of transition practical expedients provided by the new guidance, including carrying forward prior conclusions related to contracts that contain leases and lease classification. The Company also utilized the transition practical expedient permitting entities to forgo the evaluation of existing land easement arrangements to determine if they contain a lease. Land easement arrangements, or modifications to existing arrangements, entered into after adoption of this guidance will need to be evaluated to determine if they meet the definition of a lease. The adoption of this guidance resulted in the recording of a $6.7 million right-of-use asset, a $7.1 million lease liability and a $0.4 million regulatory asset on the Company’s consolidated balance sheet as of January 1, 2019. For further discussion, see “Leases” in Note 7 – Commitments and Contingent Liabilities.

There are no other new adopted or proposed accounting guidance that the Company is aware of that could have a material impact on the Company’s financial statements.

Note 2 – Rate and Regulatory Matters

Middlesex – In December 2018, the New Jersey Board of Public Utilities (NJBPU) approved Middlesex’s petition to establish its Purchased Water Adjustment Clause (PWAC) tariff rate to recover additional annual costs of less than $0.1 million, primarily for the purchase of treated water from a non-affiliated water utility regulated by the NJBPU. A PWAC is a rate mechanism that allows for recovery of increased purchased water costs between base rate case filings. The PWAC is reset to zero once those increased costs are included in base rates. The PWAC tariff rate became effective on January 1, 2019.

Tidewater - Effective July 1, 2019, Tidewater reset its DEPSC approved Distribution System Improvement Charge rate, which is expected to generate revenues of approximately $0.5 million annually.

In February 2019, Tidewater received approval from the DEPSC to reduce its rates, effective March 1, 2019, to reflect the lower corporate income tax rate enacted by the Tax Cuts and Jobs Act of 2017 (Tax Act), resulting in an overall rate decrease of 3.35%, or $1.0 million of revenues, on an annual basis. The DEPSC also approved a one-time credit of $0.7 million to customers’ accounts related to the lower corporate income tax rate.

Pinelands - On October 25, 2019, Pinelands Water and Pinelands Wastewater concluded their base rate case matters when the NJBPU approved a $0.5 million increase in annual base rates, effective November 4, 2019. In March 2019, Pinelands Water and Pinelands Wastewater had filed petitions with the NJBPU seeking permission to increase base rates by approximately $0.7 million per year. The requests were necessitated by capital infrastructure investments both companies had made, and increased operations and maintenance costs.

Twin Lakes - In July 2019, Twin Lakes filed a petition with the Pennsylvania Public Utilities Commission (PAPUC) seeking permission to increase base rates by approximately $0.2 million per year. This request was necessitated by capital infrastructure investments Twin Lakes has made and increased operations and maintenance costs. We cannot predict whether the PAPUC will ultimately approve, deny, or reduce the amount of the request. A decision by the PAPUC is not expected before the first quarter of 2020.

Note 3 – Capitalization

Common Stock - During the nine months ended September 30, 2019 and 2018, there were 221,558 common shares ($12.4 million) and 21,001 common shares (approximately $0.9 million), respectively, issued under the Middlesex Water Company Investment Plan (Investment Plan). On January 2, 2019, the Company began offering shares of its common stock for purchase at a 5% discount to participants in the Investment Plan. In August 2019, the 200,000 share purchase limit established for the 5% discount program was reached and the program was concluded.

In September 2019, the Company determined it had inadvertently sold shares of its common stock through the Investment Plan from August 1, 2018 through September 3, 2019 (Eligible Period) after the registration statement covering sales through the Investment Plan had expired and therefore was no longer effective. Under applicable federal securities laws, participants in the Investment Plan who purchased shares of common stock have a right to rescind their Eligible Period purchases and require the Company to repurchase these shares for an amount equal to the price paid by the participant, less any dividends paid on the purchased shares, plus interest.

In October 2019, the Company’s Board of Directors approved a plan to voluntarily offer a right of rescission (Rescission Offer) to Investment Plan participants who purchased shares of the Company’s common stock during the Eligible Period. During the Eligible Period, Investment Plan participants purchased 232,643 shares at an average price of $55.79 per share.

On October 11, 2019, the Company filed a supplement to the Investment Plan prospectus (Prospectus Supplement) with the United States Securities and Exchange Commission registering both the Rescission Offer and the 232,643 shares sold during the Eligible Period and notifying eligible Investment Plan participants of the specific details of the Rescission Offer. Investment Plan participants have thirty (30) days from the notification date to decide to accept or reject the Rescission Offer. Based on the current market price of the Company’s common stock, the Company does not expect that the exercise of any applicable rescission rights under the Rescission Offer by participants will have a material impact on its results of operations, financial condition or liquidity.

For the nine months ended September 30, 2019, 3,000 shares (approximately $0.3 million) of the Company’s no par $8.00 Series Cumulative and Convertible Preferred Stock were converted into 41,142 shares of common stock.

In May 2019, Middlesex received approval from the NJBPU to issue and sell up to 1,500,000 shares of its common stock in one or more transactions through December 31, 2022. Sales of additional shares of common stock are part of the Company’s comprehensive financing plan to fund its multi-year utility plant infrastructure investment program. As described below in “Long-term Debt”, the NJBPU approved the New Jersey Economic Development Authority (NJEDA) debt funding component of the financing plan.

Long-term Debt - Subject to regulatory approval, the Company periodically issues long-term debt to fund its investments in utility plant and other assets. To the extent possible, the Company finances qualifying capital projects under State Revolving Fund (SRF) loan programs in New Jersey and Delaware. These government programs provide financing at interest rates that are typically below rates available in the broader financial markets. A portion of the borrowings under the New Jersey SRF is interest-free. Under the New Jersey SRF program, borrowers first enter into a construction loan agreement with the New Jersey Infrastructure Bank (NJIB) at a below market interest rate. The current interest rate on construction loan borrowings is zero percent (0%). When construction on the qualifying project is substantially complete, NJIB will coordinate the conversion of the construction loan into a long-term securitized loan with a portion of the principal balance having a stated interest rate of zero percent (0%) and a portion of the principal balance at a market interest rate at the time of closing using the credit rating of the State of New Jersey. The current term of the long-term loans offered through the NJIB is up to thirty years. The current portion of the principal balance having a stated interest rate of zero percent (0%) is 75% with the remaining portion of 25% having a market based interest rate.

The NJIB generally schedules its long-term debt financings in May and November. Middlesex currently has two projects that are in the construction loan phase of New Jersey SRF program:

The Company expects that the large-diameter transmission pipeline and the 2018 RENEW construction loans will be included in the NJIB May 2020 long-term debt financing program.

In May 2018, Middlesex repaid its RENEW 2017 interest-free construction loan by issuing to the NJIB first mortgage bonds in the amount of $9.5 million designated as Series 2018A ($7.1 million) and Series 2018B ($2.4 million). The interest rate on the Series 2018A bond is zero and the interest rate on the Series 2018B bond ranges between 3.0% and 5.0%. The final maturity date for both bonds is August 1, 2047, with scheduled debt service payments over the life of the loans.

In 2019, the NJIB de-obligated principal payments of $0.1 million on Series NN of the Company’s First Mortgage Bonds.

In order to help ensure adherence to its comprehensive financing plan, Middlesex received approval from the NJBPU in February 2019 to issue and sell up to $140 million of First Mortgage Bonds (FMB) through the NJEDA in one or more transactions through December 31, 2022. Because the interest paid to the bondholders is exempt from federal and New Jersey income taxes, the interest rate on debt issued through the NJEDA is generally lower than otherwise achievable in the traditional taxable corporate bond market. However, the interest received by the bondholder is subject to the Alternative Minimum Tax.

In August 2019, Middlesex priced and closed on a NJEDA debt financing transaction of $53.7 million by issuing FMBs designated as Series 2019A ($32.5 million at coupon interest rate of 4.0%) and Series 2019B ($21.2 million at coupon interest rate of 5.0%). The proceeds, including an issuance premium of $7.1 million, are being used to finance several projects under the Water For Tomorrow capital program initiated by the Company to upgrade and replace aging water utility infrastructure. The total proceeds of $60.8 million, initially recorded as Restricted Cash on the balance sheet, is held in escrow by a bond trustee and are drawn down by requisition for the qualifying projects. Through September 30, 2019, Middlesex has drawn a total of $7.6 million and currently expects to draw the remaining $53.2 million of proceeds, currently included in Restricted Cash, through the third quarter of 2021.

In March 2018, the DEPSC approved Tidewater’s request to borrow up to $0.9 million under the Delaware SRF program to fund the replacement of an entire water distribution system of a small Delaware community. Tidewater closed on the SRF loan in May 2018. In April 2019, Tidewater received approval from the DEPSC to increase the borrowing to $1.7 million based on revised project cost estimates. Tidewater closed on the additional SRF loan in October 2019 and immediately began drawing on the combined loan amount with expected draws continuing through the first quarter of 2020.

Fair Value of Financial Instruments - The following methods and assumptions were used by the Company in estimating its fair value disclosure for financial instruments for which it is practicable to estimate that value. The carrying amounts reflected in the condensed consolidated balance sheets for cash and cash equivalents, trade receivables, accounts payable and notes payable approximate their respective fair values due to the short-term maturities of these instruments. The fair value of FMB and State Revolving Fund Bonds (collectively, the Bonds) issued by Middlesex is based on quoted market prices for similar issues. Under the fair value hierarchy, the fair value of cash and cash equivalents is classified as a Level 1 measurement and the fair value of notes payable and the Bonds in the table below are classified as Level 2 measurements. The carrying amount and fair value of the Bonds were as follows:

For other long-term debt for which there was no quoted market price and there is not an active trading market, it was not practicable to estimate their fair value (for details, including carrying value, interest rate and due date on these series of long-term debt, please refer to those series noted as “Amortizing Secured Note”, “State Revolving Trust Note” and “Construction Loans” on the Condensed Consolidated Statements of Capital Stock and Long-Term Debt). The carrying amount of these instruments was $80.5 million and $61.5 million at September 30, 2019 and December 31, 2018, respectively. Customer advances for construction have carrying amounts of $22.7 million and $22.6 million at September 30, 2019 and December 31, 2018, respectively. Their relative fair values cannot be accurately estimated since future refund payments depend on several variables, including new customer connections, customer consumption levels and future rate increases.

Note 4 – Earnings Per Share

Basic earnings per share (EPS) are computed on the basis of the weighted average number of shares outstanding during the period presented. Diluted EPS assumes the conversion of both the Convertible Preferred Stock $7.00 Series and the Convertible Preferred Stock $8.00 Series.

Note 5 – Business Segment Data

The Company has identified two reportable segments. One is the regulated business of collecting, treating and distributing water on a retail and wholesale basis to residential, commercial, industrial and fire protection customers in parts of New Jersey, Delaware and Pennsylvania. This segment also includes regulated wastewater systems in New Jersey and Delaware. The Company is subject to regulations as to its rates, services and other matters by New Jersey, Delaware and Pennsylvania with respect to utility services within these states. The other segment is primarily comprised of non-regulated contract services for the operation and maintenance of municipal and private water and wastewater systems in New Jersey and Delaware. Inter-segment transactions relating to operational costs are treated as pass-through expenses. Finance charges on inter-segment loan activities are based on interest rates that are below what would normally be charged by a third party lender.

Note 6 – Short-term Borrowings

As of September 30, 2019, the Company retained lines of credit aggregating $120.0 million, an increase of $20.0 million from June 30, 2019. In October 2019, the Company increased its lines of credit to $140.0 million. At September 30, 2019, the outstanding borrowings under these credit lines were $58.5 million at a weighted average interest rate of 3.06%.

The weighted average daily amounts of borrowings outstanding under the Company’s credit lines and the weighted average interest rates on those amounts were as follows:

The maturity dates for the $58.5 million outstanding as of September 30, 2019 are in October 2019 through December 2019 and are extendable at the discretion of the Company.

Interest rates for short-term borrowings under the lines of credit are below the prime rate with no requirement for compensating balances.

Note 7 – Commitments and Contingent Liabilities

Water Supply - Middlesex has an agreement with the New Jersey Water Supply Authority (NJWSA) for the purchase of untreated water through November 30, 2023, which provides for an average purchase of 27.0 million gallons a day (mgd). Pricing is set annually by the NJWSA through a public rate making process. The agreement has provisions for additional pricing in the event Middlesex overdrafts or exceeds certain monthly and annual thresholds.

Middlesex also has an agreement with a non-affiliated regulated water utility for the purchase of treated water. This agreement, which expires February 27, 2021, provides for the minimum purchase of 3.0 mgd of treated water with provisions for additional purchases.

Tidewater contracts with the City of Dover, Delaware to purchase 15.0 million gallons of treated water annually.

Purchased water costs are shown below:

Guarantees - As part of an agreement with the County of Monmouth, New Jersey (County), Middlesex serves as guarantor of the performance of Applied Water Management, Inc. (AWM), an unaffiliated wastewater contractor, to operate a County-owned leachate pretreatment facility at the Monmouth County Reclamation Center in Tinton Falls, New Jersey. The performance guaranty is effective through 2028 unless another guarantor, acceptable to the County, replaces Middlesex before such date. Under agreements with AWM and Natural Systems Utilities, LLC (NSU), the parent company of AWM, Middlesex earns a fee for providing the performance guaranty. In addition, Middlesex may provide operational support to the facility, as needed, and AWM and NSU, serving as guarantor to Middlesex with respect to the performance of AWM, have indemnified Middlesex against any claims that may arise under the Middlesex guaranty to the County.

If required to perform under the guaranty to the County and, if AWM and NSU, as guarantor to Middlesex, do not fulfill their obligations to indemnify Middlesex against any claims that may arise under the Middlesex guaranty to the County, Middlesex would be required to fulfill the remaining operational commitment of AWM. As of September 30, 2019 and December 31, 2018, the liability recognized in Other Non-Current Liabilities on the balance sheet for the guaranty is approximately $1.4 million and $1.5 million, respectively.

Leases - The Company determines if an arrangement is a lease at inception. Generally, a lease agreement exists if the Company determines that the arrangement gives the Company control over the use of an identified asset and obtains substantially all of the benefits from the identified asset.

The Company has entered into an operating lease of office space for administrative purposes, expiring in 2030. The Company has not entered into any finance leases. The exercise of a lease renewal option for the Company’s administrative offices is solely at the discretion of the Company.

The right-of-use (ROU) asset recorded represents the Company’s right to use an underlying asset for the lease term and lease liability represents the Company’s obligation to make lease payments arising from the lease. Lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. The Company’s operating lease does not provide an implicit discount rate and as such the Company used an estimated incremental borrowing rate (4.03%) based on the information available at commencement date in determining the present value of lease payments.

Given the impacts of accounting for regulated operations, and the resulting recognition of expense at the amounts recovered in customer rates, expenditures for operating leases are consistent with lease expense and was $0.2 million for each of the three months ended September 30, 2019 and 2018, respectively, and $0.5 million and $0.3 million for the nine months ended September 30, 2019 and 2018, respectively.

Information related to operating lease ROU assets and lease liabilities is as follows:

The Company’s future minimum operating lease commitments as of September 30, 2019 are as follows:

Construction - The Company has forecasted to spend approximately $105 million for its construction program in 2019. The Company has entered into several contractual construction agreements that, in the aggregate, obligate it to expend an estimated $68 million in the future. The timing and amount of capital expenditures is dependent on project scheduling and refinement of engineering estimates for certain projects.

Litigation - The Company is a defendant in lawsuits in the normal course of business. We believe the resolution of pending claims and legal proceedings will not have a material adverse effect on the Company’s consolidated financial statements.

Change in Control Agreements - The Company has Change in Control Agreements with certain of its officers that provide compensation and benefits in the event of termination of employment in connection with a change in control of the Company.

Note 8 – Employee Benefit Plans

Pension Benefits - The Company’s Pension Plan covers all active employees hired prior to April 1, 2007. Employees hired after March 31, 2007 are not eligible to participate in this plan, but participate in a defined contribution plan that provides for a potential annual contribution in an amount that is at the discretion of the Company. In order to be eligible for a contribution, the participant must be employed by the Company on December 31st of the year to which the contribution relates. For the three months ended September 30, 2019 and 2018, the Company made Pension Plan cash contributions of $1.3 million and $1.1 million, respectively. For each of the nine months ended September 30, 2019 and 2018, the Company made Pension Plan cash contributions of $2.3 million, respectively. The Company expects to make Pension Plan cash contributions of approximately $1.3 million over the remainder of the current year. The Company also maintains an unfunded supplemental retirement benefit plan for certain active and retired Company officers and currently pays $0.4 million in annual benefits to the retired participants.

Other Postretirement Benefits - The Company’s retirement plan other than pensions (Other Benefits Plan) covers substantially all of its current retired employees. Employees hired after March 31, 2007 are not eligible to participate in this plan. Coverage includes healthcare and life insurance. For each of the three months ended September 30, 2019 and 2018, the Company made Other Benefits Plan cash contributions of $0.2 million, respectively. For the nine months ended September 30, 2019 and 2018, the Company made Other Benefits Plan cash contributions of $0.6 million and $0.5 million, respectively. The Company expects to make Other Benefits Plan cash contributions of approximately $0.8 million over the remainder of the current year.

The following tables set forth information relating to the Company’s periodic costs for its employee retirement benefit plans:

*Service cost is included in Operations and Maintenance expense on Consolidated Statements of Income; all other amounts are included in Other Income/Expense, net.

Note 9 – Revenue Recognition from Contracts with Customers

The Company’s revenues are primarily generated from regulated tariff-based sales of water and wastewater services and non-regulated operation and maintenance contracts for services on water and wastewater systems owned by others. Revenue from contracts with customers is recognized when control of a promised good or service is transferred to customers at an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services.

The Company’s regulated revenue from contracts with customers is derived from tariff-based sales that result from the obligation to provide water and wastewater services to residential, industrial, commercial, fire-protection and wholesale customers. The Company’s residential customers are billed quarterly while most of the Company’s industrial, commercial, fire-protection and wholesale customers are billed monthly. Payments by customers are due between 15 and 30 days after the invoice date. The Company recognizes revenue as the water and wastewater services are delivered to customers and records unbilled revenues estimated from the last meter reading date to the end of the accounting period utilizing factors such as historical customer data, regional weather indicators and general economic conditions in its service territories. Unearned Revenues and Advance Service Fees include fixed service charge billings in advance of service provided to Tidewater customers and are recognized as service is provided.

Non-regulated service contract revenues consist of base service fees, as well as fees for additional billable services provided to customers, are billed monthly and are due within 30 days after the invoice date. The Company considers the amounts billed to represent the value of these services provided to customers. Certain of these contracts continue through 2022 and thus contain remaining performance obligations for which the Company expects to recognize revenue in the future. These contracts also contain termination provisions.

Substantially all operating revenues and accounts receivable are from contracts with customers. The Company records an allowance for doubtful accounts based on historical write-offs combined with an evaluation of current economic conditions within its service territories.

The Company’s contracts do not contain any significant financing components.

The Company’s operating revenues are comprised of the following:

Note 10 – Income Taxes

As part of its 2014 Federal income tax return, the Company adopted the final Internal Revenue Service (IRS) tangible property regulations and changed its accounting method for the tax treatment of expenditures that qualified as deductible repairs. The adoption resulted in a net reduction of $17.6 million in taxes previously remitted to the IRS, for which the Company has already sought and received the tax refunds. A reserve provision against refunded taxes of $2.3 million was recorded in 2015 at the time of filing its change in accounting method based on a possible challenge by the IRS during an audit examination. The Company’s 2014 federal income tax return was subsequently selected for examination by the IRS. In 2018, the Company increased its income tax reserve provision to $4.1 million. During the first quarter of 2019, the Company agreed to certain modifications of its accounting method for expenditures that qualify as deductible repairs and the IRS concluded its audit of the Company’s 2014 federal income tax return. The modifications also impacted the Company’s filed 2015, 2016 and 2017 federal income tax returns. In March 2019 and June 2019, the Company paid $0.8 million in income taxes and $0.1 million in interest, respectively, in connection with the conclusion and closing of the 2014 and 2015 tax return audits. As of September 30, 2019, the Company has reduced its income tax reserve provision and interest expense liability to $2.4 million and $0.1 million, respectively. In October 2019, the Company paid $1.9 million in income taxes in connection with the conclusion and closing of the 2016 and 2017 tax return audits.

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

The following discussion and analysis should be read in conjunction with the unaudited condensed consolidated financial statements of Middlesex Water Company (Middlesex or the Company) included elsewhere herein and with the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2018.

Forward-Looking Statements

Certain statements contained in this periodic report and in the documents incorporated by reference constitute “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934 and Section 27A of the Securities Act of 1933. The Company intends that these statements be covered by the safe harbors created under those laws.  They include, but are not limited to statements as to:

These forward-looking statements are subject to risks, uncertainties and other factors that could cause actual results to differ materially from future results expressed or implied by the forward-looking statements. Important factors that could cause actual results to differ materially from anticipated results and outcomes include, but are not limited to:

Many of these factors are beyond the Company’s ability to control or predict. Given these uncertainties, readers are cautioned not to place undue reliance on any forward-looking statements, which only speak to the Company’s understanding as of the date of this report. The Company does not undertake any obligation to release publicly any revisions to these forward-looking statements to reflect events or circumstances after the date of this report or, to reflect the occurrence of unanticipated events, except as may be required under applicable securities laws.

For an additional discussion of factors that may affect the Company’s business and results of operations, see Item 1A. - Risk Factors in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2018.

Overview

Middlesex Water Company (Middlesex) has operated as a water utility in New Jersey since 1897, in Delaware through our wholly-owned subsidiary, Tidewater Utilities, Inc. (Tidewater), since 1992 and in Pennsylvania through our wholly-owned subsidiary, Twin Lakes Utilities, Inc. (Twin Lakes), since 2009. We are in the business of collecting, treating and distributing water for domestic, commercial, municipal, industrial and fire protection purposes. We also operate two New Jersey municipal water and wastewater systems under contract and provide regulated wastewater services in New Jersey and Delaware through four of our other subsidiaries. We are regulated as to rates charged to customers for water and wastewater services, as to the quality of water service we provide and as to certain other matters in New Jersey, Delaware and Pennsylvania. Only our Utility Service Affiliates, Inc. (USA), Utility Service Affiliates (Perth Amboy), Inc. (USA-PA) and White Marsh Environmental Services, Inc. (White Marsh) subsidiaries are not regulated utilities.

Our New Jersey water utility system (the Middlesex System) provides water services to approximately 61,000 retail customers, primarily in central New Jersey. The Middlesex System also provides water service under contract to municipalities in central New Jersey with a total population of approximately 219,000. Our Bayview subsidiary provides water services in Downe Township, New Jersey. Our other New Jersey subsidiaries, Pinelands Water Company (Pinelands Water) and Pinelands Wastewater Company (Pinelands Wastewater) (collectively, Pinelands), provide water and wastewater services to approximately 2,500 customers in Southampton Township, New Jersey.

Our Delaware subsidiaries, Tidewater and Southern Shores Water Company, LLC (Southern Shores), provide water services to approximately 47,000 retail customers in New Castle, Kent and Sussex Counties, Delaware. Tidewater’s subsidiary, White Marsh, services approximately 4,000 customers in Delaware and Maryland through various operations and maintenance contracts.

Our Tidewater Environmental Services, Inc. (TESI) subsidiary provides wastewater services to approximately 3,600 residential retail customers in Sussex Counties, Delaware.

USA-PA operates the water and wastewater systems for the City of Perth Amboy, New Jersey (Perth Amboy) under a 10-year operations and maintenance contract expiring in 2028. In addition to performing day-to day operations, USA-PA is also responsible for emergency responses and management of capital projects funded by Perth Amboy. USA-PA does not manage the billing, collections and customer service functions of Perth Amboy.

USA operates the Borough of Avalon, New Jersey’s (Avalon) water utility, sewer utility and storm water system under a ten-year operations and maintenance contract expiring in 2022. In addition to performing day to day operations, USA is responsible for billing, collections, customer service, emergency responses and management of capital projects funded by Avalon.

Under a marketing agreement with HomeServe USA (HomeServe), USA offers residential customers in New Jersey and Delaware a menu of water and wastewater related home maintenance programs. HomeServe is a leading national provider of such home maintenance service programs. USA receives a service fee for the billing, cash collection and other administrative matters associated with HomeServe’s service contracts. USA also provides unregulated water and wastewater services under contract with several New Jersey municipalities.

Our Pennsylvania subsidiary, Twin Lakes, provides water services to approximately 120 retail customers in the Township of Shohola, Pike County, Pennsylvania.

Recent Developments

Capital Construction Program - The Company’s multi-year capital construction program, Water for Tomorrow, encompasses numerous projects designed to upgrade and replace utility infrastructure as well as enhance the integrity and reliability of assets to better serve the current and future generations of water and wastewater customers. The Company plans to invest approximately $105 million in 2019 in connection with this plan for projects that include, but are not limited to;

Pinelands’ Base Rate Increases Approved – On October 25, 2019, Pinelands Water and Pinelands Wastewater concluded their base rate matters when the New Jersey Board of Public Utilities (NJBPU) approved a $0.5 million increase in annual base rates, effective November 4, 2019. In March 2019, Pinelands Water and Pinelands Wastewater had filed petitions with the NJBPU seeking permission to increase base rates by approximately $0.7 million per year. The requests were necessitated by capital infrastructure investments both companies had made and increased operations and maintenance costs.

Tidewater to Acquire Water Systems - On October 8, 2019, the Delaware Public Service Commission (DEPSC) approved Tidewater’s request to purchase the water utility assets of J.H. Wilkerson and Son, Inc. and transfer the Certificate of Public Convenience and Necessity in order for Tidewater to serve the approximate 1,000 customers currently connected to eight community water systems located mostly in eastern Sussex County, Delaware. The DEPSC also authorized Tidewater to maintain the existing rates that these customers currently pay. The transaction is expected to close in the fourth quarter of 2019.

Middlesex Issues $53.7 Million of First Mortgage Bonds - As part of the Company’s comprehensive financing plan to fund its Water for Tomorrow capital construction program, in August 2019, Middlesex priced and closed on a New Jersey Economic Development Authority debt financing transaction of $53.7 million by issuing First Mortgage Bonds designated as Series 2019A ($32.5 million at coupon interest rate of 4.0%) and Series 2019B ($21.2 million at coupon interest rate of 5.0%). The proceeds, including an issuance premium of $7.1 million, are being used to finance several projects, including certain of the projects noted above. Through September 30, 2019, Middlesex has drawn a total of $7.6 million from the proceeds and expects to draw the remaining $53.2 million through the third quarter of 2021.

Twin Lakes Files for Rate Increase - In July 2019, Twin Lakes filed a petition with the Pennsylvania Public Utilities Commission (PAPUC) seeking permission to increase base rates by approximately $0.2 million per year. This request was necessitated by capital infrastructure investments Twin Lakes has made and increased operations and maintenance costs. We cannot predict whether the PAPUC will ultimately approve, deny, or reduce the amount of the request. A decision by the PAPUC is not expected before the first quarter of 2020.

Middlesex Receives Financing Approval - In May 2019, the NJBPU approved Middlesex’s petition with the NJBPU seeking approval to issue and sell up to 1,500,000 shares of its common stock in one or more transactions through December 31, 2022. Sales of additional shares of common stock are also part of the Company’s comprehensive financing plan to fund its multi-year utility plant infrastructure investment plan.

Outlook

Our ability to increase operating income and net income is based significantly on four factors: weather, adequate and timely rate relief, effective cost management and customer growth (which are evident in comparison discussions in the Results of Operations section below). Revenues in the first quarter of 2019 were favorably impacted by Middlesex’s April 2018 base water rate increase. Weather patterns experienced in 2017 and 2018, which resulted in lower customer demand for water, have continued to occur in 2019 and have impacted revenues and net income. Actuarially-determined non-service retirement benefit plan costs are expected to increase in 2019. We continue to implement plans to further streamline operations and further reduce, and mitigate increases in, operating costs. Changes in customer water usage habits, as well as increases in capital expenditures and operating costs, are significant factors in determining the timing and extent of rate increase requests.

Organic residential customer growth through September 2019 has been consistent with that experienced in recent years.

Our strategy for profitable growth is focused on the following key areas:

Operating Results by Segment

The discussion of the Company’s operating results is on a consolidated basis and includes significant factors by subsidiary. The Company has two operating segments, Regulated and Non-Regulated. The operations of the Regulated segment are subject to regulations promulgated by state public utility commissions as to rates and levels of service. Rates and levels of service in the Non-Regulated segment are subject to the terms of individually-negotiated and executed contracts with municipal, industrial and other clients. Both segments are subject to federal and state environmental, water and wastewater quality and other associated legal and regulatory requirements.

The segments in the tables included below consist of the following companies: Regulated-Middlesex, Tidewater, Pinelands, Southern Shores, TESI and Twin Lakes; Non-Regulated-USA, USA-PA, and White Marsh.

Results of Operations – Three Months Ended September 30, 2019

Operating Revenues

Operating revenues for the three months ended September 30, 2019 decreased $0.9 million from the same period in 2018. This decrease was related to the following factors:

Operation and Maintenance Expense

Operation and maintenance expenses for the three months ended September 30, 2019 decreased $0.4 million from the same period in 2018, primarily related to the following factors:

Depreciation

Depreciation expense for the three months ended September 30, 2019 increased $0.5 million from the same period in 2018 due to a higher level of utility plant in service.

Other Taxes

Other taxes for the three months ended September 30, 2019 remained consistent with the same period in 2018 primarily due to lower revenue related taxes on lower revenues in our Middlesex system offset by higher payroll taxes.

Other Income, net

Other Income, net for the three months ended September 30, 2019 remained consistent with the same period in 2018, primarily due to higher Allowance for Funds Used During Construction resulting from a higher level of capital construction projects in progress offset by higher actuarially-determined postretirement benefit plan non-service expense.

Interest Charges

Interest charges for the three months ended September 30, 2019 increased $0.3 million from the same period in 2018 due to higher average short-term and long-term debt outstanding partially offset by lower interest related to Internal Revenue Service (IRS) examinations of the Company’s federal income tax returns.

Income Taxes

Income taxes for the three months ended September 30, 2019 remained consistent with the same period in 2018, primarily due to lower-pre-tax income and a decrease in Tidewater’s effective income tax rate in March 2019, reflecting the rate reduction approved by the DEPSC to reflect the lower corporate income tax rate resulting from implementation of the Tax Act. The decrease in Tidewater’s effective tax rate has also resulted in a corresponding decrease in operating revenues. Offsetting the decreases above were lower tax deductible repair and maintenance expenses, which results in higher tax expense.

Net Income and Earnings Per Share

Net income for the three months ended September 30, 2019 decreased $1.2 million as compared with the same period in 2018. Basic earnings per share were $0.67 and $0.75 for the three months ended September 30, 2019 and 2018, respectively. Diluted earnings per share were $0.66 and $0.74 for the three months ended September 30, 2019 and 2018, respectively.

Results of Operations – Nine Months Ended September 30, 2019

Operating Revenues

Operating revenues for the nine months ended September 30, 2019 decreased $3.0 million from the same period in 2018. This decrease was related to the following factors:

Operation and Maintenance Expense

Operation and maintenance expenses for the nine months ended September 30, 2019 decreased $2.2 million from the same period in 2018, primarily related to the following factors:

Depreciation

Depreciation expense for the nine months ended September 30, 2019 increased $1.3 million from the same period in 2018 due to a higher level of utility plant in service.

Other Taxes

Other taxes for the nine months ended September 30, 2019 remained consistent with the same period in 2018 primarily due to lower revenue related taxes on lower revenues in our Middlesex system offset by higher payroll taxes.

Other Income, net

Other Income, net for the nine months ended September 30, 2019 decreased $0.2 million from the same period in 2018, primarily due to higher actuarially-determined postretirement benefit plan non-service expense and the sale of wastewater franchise rights by our TESI subsidiary in the second quarter of 2018. This decrease was partially offset by higher Allowance for Funds Used During Construction resulting from a higher level of capital construction projects in progress.

Interest Charges

Interest charges for the nine months ended September 30, 2019 increased $0.1 million from the same period in 2018 due to higher average short-term and long-term debt outstanding in 2019 as compared to 2018 partially offset by lower interest associated with IRS examinations of the Company’s federal income tax returns.

Income Taxes

Income taxes for the nine months ended September 30, 2019 decreased $2.6 million from the same period in 2018, primarily due to lower pre-tax income and the regulatory accounting treatment of tax benefits associated with the adoption of the tangible property regulations, prescribed by the IRS, which was approved in Middlesex’s 2018 base rate case decision. In addition, Tidewater’s effective income tax rate was decreased in March 2019, reflecting the rate reduction approved by the DEPSC to reflect the lower corporate income tax rate resulting from implementation of the Tax Act. This has resulted in a corresponding decrease in operating revenues.

Net Income and Earnings Per Share

Net income for the nine months ended September 30, 2019 increased $0.4 million as compared with the same period in 2018. Basic earnings per share were $1.56 and $1.55 for the nine months ended September 30, 2019 and 2018, respectively. Diluted earnings per share were $1.55 and $1.54 for the nine months ended September 30, 2019 and 2018, respectively.

Liquidity and Capital Resources

Operating Cash Flows

Cash flows from operations are largely based on four factors: weather, adequate and timely rate increases, effective cost management and growth. The effect of those factors on net income is discussed in “Results of Operations.”

For the nine months September 30, 2019, cash flows from operating activities decreased $9.5 million to $23.3 million from the same period in 2018. The decrease in cash flows from operating activities primarily resulted from the timing of payments to vendors and increased income tax payments. Utility plant expenditures for the period were primarily funded by financing activities.

Investing Cash Flows

For the nine months ended September 30, 2019, cash flows used in investing activities increased $11.7 million to $61.2 million from the same period in 2018. The increase in cash flows used in investing activities resulted from increased utility plant expenditures.

For further discussion on the Company’s future capital expenditures and expected funding sources, see “Capital Expenditures and Commitments” below.

Financing Cash Flows

For the nine months ended September 30, 2019, cash flows from financing activities increased $73.5 million to $89.3 million from the same period in 2018. The majority of the increase in cash flows provided by financing activities is due to the net increase in long-term and short-term debt funding and increased proceeds from the issuance of common stock under the Middlesex Water Company Investment Plan (the Investment Plan).

In September 2019, the Company determined it had inadvertently sold shares of its common stock through the Investment Plan from August 1, 2018 through September 3, 2019 (Eligible Period) after the registration statement covering sales through the Investment Plan had expired and therefore was no longer effective. In October 2019, the Company’s Board of Directors approved a plan to voluntarily offer a right of rescission (Rescission Offer) to Investment Plan participants who purchased shares of the Company’s common stock during the Eligible Period. During the Eligible Period, Investment Plan participants purchased 232,643 shares of Company common stock at an average price of $55.79 per share. The Rescission Offer ends in November 2019. Based on the current market price of the Company’s common stock, the Company does not expect that the exercise of any applicable rescission rights will have a material impact on its results of operations, financial condition or liquidity. For more information, see discussion under “Common Stock” in Note 3 – Capitalization.

Capital Expenditures and Commitments

To fund our capital program, we may use internally generated funds, short-term and long-term debt borrowings, proceeds from sales of common stock under the Investment Plan and proceeds from new offerings to the public of our common stock. See below for a more detailed discussion regarding the funding of our capital program.

The capital investment program for 2019 is currently estimated to be approximately $105 million. Through September 30, 2019, we have expended $61 million and expect to incur approximately $44 million for capital projects for the remainder of 2019.

We currently project that we may expend approximately $220 million for capital projects in 2020 and 2021. The actual amount and timing of capital expenditures is dependent on project scheduling and refinement of engineering estimates for certain capital projects.

To pay for our capital program for the remainder of 2019, we plan on utilizing:

Recent Accounting Pronouncements – See Note 1 of the Notes to Unaudited Condensed Consolidated Financial Statements for a discussion of recent accounting pronouncements and guidance.

Item 3. Quantitative and Qualitative Disclosures of Market Risk

We are exposed to market risk associated with changes in interest rates and commodity prices. The Company is subject to the risk of fluctuating interest rates in the normal course of business. Our policy is to manage interest rates through the use of fixed rate long-term debt and, to a lesser extent, short-term debt. The Company’s interest rate risk related to existing fixed rate, long-term debt is not material due to the term of the majority of our First Mortgage Bonds, which have final maturity dates ranging from 2021 to 2059. Over the next twelve months, approximately $7.2 million of the current portion of existing long-term debt instruments will mature. Applying a hypothetical change in the rate of interest charged by 10% on those borrowings, would not have a material effect on our earnings.

Our risks associated with commodity price increases for chemicals, electricity and other commodities are reduced through contractual arrangements and the ability to recover price increases through rates. Non-performance by these commodity suppliers could have a material adverse impact on our results of operations, financial position and cash flows.

We are exposed to credit risk for both our Regulated and Non-Regulated business segments. Our Regulated operations serve residential, commercial, industrial and municipal customers while our Non-Regulated operations engage in business activities with developers, government entities and other customers. Our primary credit risk is exposure to customer default on contractual obligations and the associated loss that may be incurred due to the non-payment of customer accounts receivable balances. Our credit risk is managed through established credit and collection policies which are in compliance with applicable regulatory requirements and involve monitoring of customer exposure and the use of credit risk mitigation measures such as letters of credit or prepayment arrangements. Our credit portfolio is diversified with no significant customer or industry concentrations. In addition, our Regulated businesses are generally able to recover all prudently incurred costs including uncollectible customer accounts receivable expenses and collection costs through rates.

The Company's retirement benefit plan assets are exposed to fluctuating market prices of debt and equity securities. Changes to the Company's retirement benefit plan asset values can impact the Company's retirement benefit plan expense, funded status and future minimum funding requirements. Our risk is mitigated by our ability to recover retirement benefit plan costs through rates for regulated utility services charged to our customers.

Item 4. Controls and Procedures

Disclosure Controls and Procedures

As required by Rule 13a-15 under the Securities and Exchange Act of 1934 (the Exchange Act), an evaluation of the effectiveness of the design and operation of the Company’s disclosure controls and procedures was conducted by the Company’s Chief Executive Officer along with the Company’s Chief Financial Officer. Based upon that evaluation, the Company’s Chief Executive Officer and the Company’s Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective as of the end of the period covered by this Report. There were no changes in our internal control over financial reporting that occurred during our most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Disclosure controls and procedures are controls and other procedures that are designed to ensure that information required to be disclosed in Company reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in Company reports filed under the Exchange Act is accumulated and communicated to management, including the Company’s Chief Executive Officer and Chief Financial Officer as appropriate, to allow timely decisions regarding disclosure.

PART II.  OTHER INFORMATION

None.

The information about risk factors does not differ materially from those set forth in Part I, Item 1A. of the Company’s Annual Report on Form 10-K for the year ended December 31, 2018.

None.

None.

Not applicable.

None.

SIGNATURES

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

Date: November 1, 2019