South Jersey Industries (SJIIU) 10-K2020 FY Annual report

South Jersey Industries, Inc. (SJI) common stock ($1.25 par value) - The aggregate market value of voting stock held by non-affiliates of the registrant as of June 30, 2020 was $2,507,437,599. As of February 15, 2021, there were 100,615,918 shares of the registrant's common stock outstanding. South Jersey Gas Company (SJG) common stock ($2.50 par value) outstanding as of February 15, 2021 was 2,339,139 shares. All of SJG's outstanding shares of common stock are held by SJI Utilities, Inc. (SJIU), which is a wholly-owned subsidiary of SJI.

SJG is an indirect wholly-owned subsidiary of SJI and meets the conditions set forth in General Instruction I(1)(a) and (b) of Form 10-K; therefore, SJG files this form with the reduced disclosure format.

In Part III of Form 10-K:  Portions of South Jersey Industries, Inc.'s definitive proxy statement for its 2021 annual meeting of shareholders to be filed with the Securities and Exchange Commission are incorporated by reference into Part III of this Form 10-K.

This Annual Report on Form 10-K is a combined report being filed separately by two registrants: South Jersey Industries, Inc. (SJI or "the Company") and South Jersey Gas Company (SJG). Information relating to SJI or any of its subsidiaries, other than SJG, is filed by SJI on its own behalf. SJG is only responsible for information about itself.

Except where the content clearly indicates otherwise, any reference in the report to "SJI," "the Company," "we," "us" or "our" is to SJI and all of its subsidiaries, including SJG, which is an indirect wholly-owned subsidiary of SJI.

Certain statements contained in this Annual Report on Form 10-K may qualify as “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements in this Report other than statements of historical fact, including statements regarding guidance, industry prospects, future results of operations or financial position, expected sources of incremental margin, strategy, financing needs, future capital expenditures and the outcome or effect of ongoing litigation, should be considered forward-looking statements made in good faith by SJI and SJG, as applicable, and are intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. When used in this Report, or any other documents, words such as “anticipate,” “believe,” "estimate," “expect,” “forecast,” “goal,” “intend,” “objective,” “plan,” “project,” “seek,” “strategy,” "target," "will" and similar expressions are intended to identify forward-looking statements. These forward-looking statements are based on the beliefs and assumptions of management at the time that these statements were made and are inherently uncertain. Such forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those expressed or implied in the forward-looking statements. These risks and uncertainties include, but are not limited to the risks set forth under “Risk Factors” in Part I, Item 1A of this Report and elsewhere throughout this Report. These cautionary statements should not be construed by you to be exhaustive and they are made only as of the date of this Report. While the Company believes these forward-looking statements to be reasonable, there can be no assurance that they will approximate actual experience or that the expectations derived from them will be realized. Further, neither SJI nor SJG undertakes no obligation to update or revise any of its forward-looking statements whether as a result of new information, future events or otherwise.

South Jersey Industries, Inc. (SJI or the Company), a New Jersey corporation, was formed in 1969 for the purpose of owning and holding all of the outstanding common stock of South Jersey Gas Company (SJG), a public utility, and acquiring and developing non-utility lines of business.

SJI provides a variety of energy-related products and services, primarily through the following wholly-owned subsidiaries:

 

SJI, through its wholly-owned subsidiary Marina, acquired three LLCs on June 30, 2020, and acquired a fourth LLC on August 21, 2020. These entities own newly operational rooftop solar-generation sites located in New Jersey, and were acquired for $3.8 million in total consideration.

On August 12, 2020, SJI, through its wholly-owned subsidiary Marina, formed the Catamaran joint venture with a third party partner. Catamaran was formed for the purpose of developing, owning and operating renewable energy projects, and will support SJI's commitment to clean energy initiatives. On the same date, Catamaran purchased 100% ownership in Annadale, an entity that has constructed two fuel cell projects totaling 7.5 MW in Staten Island, New York. These fuel cell projects became operational in December 2020.

On August 31, 2019, SJI, through its wholly-owned subsidiary SJEI, completed its acquisition of AEP for $4.0 million in total consideration.

On July 1, 2018, SJI, through its wholly-owned subsidiary SJIU, acquired the assets of ETG and ELK from Pivotal Utility Holdings, Inc., a subsidiary of Southern Company Gas, for total consideration of $1.72 billion after the settlement of working capital.

See Notes 1, 3 and 20 to the consolidated financial statements.

On June 27, 2018, the Company, through its wholly-owned subsidiary, Marina, entered into a series of agreements whereby Marina agreed to sell its portfolio of solar energy assets (for this section, the “Transaction”) to a third-party buyer. As part of the Transaction, Marina agreed to sell its distributed solar energy projects across New Jersey, Maryland, Massachusetts and Vermont (for this section, the “Projects”), along with the assets comprising the Projects. These sales occurred between 2018-2020. Also in connection with the Transaction, Marina is leasing back from the buyer certain of the Projects that have not yet passed the fifth anniversary of their placed-in-service dates for U.S. federal income tax purposes. The leaseback runs from the date each such project was acquired by the buyer until the later of the first anniversary of the applicable acquisition date and the fifth anniversary of the applicable placed-in-service date of the project. As of December 31, 2020, there are ten projects being leased back from the buyer through the end of 2021, which is the fifth anniversary of their placed-in-service date. The results of these projects being leased back are not material.

In July 2018, as part of the Transaction, Marina received a cash payment of $62.5 million for the sale of certain SRECs. During the fourth quarter of 2018, the Company closed on the majority of these Projects, including the wholly-owned subsidiaries MCS, NBS and SBS, with each project sold having met all conditions to satisfy closing. Total consideration received in the fourth quarter 2018 related to these sales was $228.1 million. During 2019, seven Projects were sold for total consideration of $24.3 million. During 2020, one Project was sold for total consideration of $7.2 million.

On November 30, 2018, SJI sold the retail gas business of SJE for total consideration of $15.0 million. As a result, SJE no longer acquires, transports or markets natural gas for retail markets.

See Note 1 to the consolidated financial statements.

Additional Information on the nature of SJI's and SJG's businesses can be found in “Management's Discussion and Analysis of Financial Condition and Results of Operations,” under Item 7 of this Report.

SJG has direct connections to the interstate pipeline systems of Transco and Columbia. SJG secures other long-term services from Dominion, a pipeline upstream of the Transco and Columbia systems. Services provided by Dominion are utilized to deliver gas into either the Transco or Columbia systems for ultimate delivery to SJG.

Total transportation under contract at SJG and ETG are 421,980 dts/d and 254,523 dts/d, respectively. These contracts have terms with various ending dates, ranging from October 31, 2022 through November 30, 2029. The Company's intentions are to renew or extend these service agreements before they expire.

Total storage capacity under contract at SJG and ETG is 8.82 MMdts and 13.2 MMdts, respectively, with a total MDWQ of 163,289 dts and 225,343 dts, respectively. These contracts have terms with various ending dates, ranging from March 31, 2023 through September 30, 2029. The Company's intentions are to renew or extend these service agreements before they expire.

Services provided by all of the above-mentioned pipelines are subject to the jurisdiction of the FERC.  

SJG has four separate AMAs with gas marketers that extend through March 31, 2021. SJG released to the marketers its firm transportation rights, and in return the marketers manage this capacity and provide SJG with firm deliverability each day. The marketer's intents are to optimize the capacity released to SJG under these AMAs and pay SJG an asset management fee.

As part of the gas purchasing strategy, the Utilities use financial contracts to hedge against forward price risk. These contracts are recoverable through the BGSS Clause, subject to BPU approval.

SJG operates peaking facilities, located in McKee City, NJ, where it liquefies, stores and vaporizes LNG for injection into its distribution system. SJG's LNG facility has a storage capacity equivalent to 434,300 dts of natural gas and has an installed capacity to vaporize up to 118,250 dts of LNG per day for injection into its distribution system.

ETG operates a peaking facility, located in Elizabeth, NJ, where it stores and vaporizes LNG for injection into its distribution system. ETG's LNG facility has a storage capacity equivalent to 165,000 dts of natural gas and has an installed capacity to vaporize up to 25,000 dts of LNG per day for injection into its distribution system.

SJG plans for a winter season peak-day demand on the basis of an average daily temperature of 2 degrees F or 63 Heating Degree Days, while ETG's plans on an average daily temperature of 0 degrees F or 65 Heating Degree Days. Gas demand on such a design day for the 2020-2021 winter season is estimated to be 578,029 dts for SJG and 474,859 dts for ETG (excluding industrial customers). SJG and ETG project to have adequate supplies and interstate pipeline entitlements to meet design day requirements. SJG and ETG experienced their highest peak-day demand for calendar year 2020 on February 14th and January 20th, respectively.

SJRG holds various firm transportation agreements with National Fuel, Transco, Dominion, Columbia, Tennessee and Tetco. Total transportation under contract is 423,030 dts/d. These contracts have terms with various ending dates, ranging from October 31, 2021 through March 31, 2043. SJRG's intentions are to renew or extend these service agreements before they expire.

SJRG holds multiple storage service agreements with Transco (for storage service at Transco's WSS facility) and National Fuel. Total storage capacity under contract is approximately 4.6 MMdts. The contracts have terms with various ending dates, ranging from June 30, 2021 through March 31, 2023, for which SJRG's intentions are to renew or extend these service agreements before they expire.

SJRG has entered into several long-term natural gas supply agreements to purchase 721,900 dts/d, depending upon production levels, for terms ranging from five to eleven years at index-based prices.

The Utilities hold nonexclusive franchises granted by municipalities in the areas to which they serve. No other natural gas public utility presently serves the territory covered by the Utilities' franchises. Otherwise, patents, trademarks, licenses, franchises and concessions are not material to the business of the Utilities.

The Utilities experience seasonal fluctuations in sales when selling natural gas for heating purposes. The Utilities meet these seasonal fluctuations in demand from firm customers by buying and storing gas during the summer months, and by drawing from storage and purchasing supplemental supplies during the heating season. As a result of this seasonality, the Utilities' revenues and net income are significantly higher during the first and fourth quarters than during the second and third quarters of the year.

Reference is made to “Liquidity and Capital Resources” included in Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations,” of this Report.

No material portion of the business of SJI or any of its subsidiaries is subject to renegotiation of profits or termination of contracts or subcontracts at the election of any government.

Information on competition for SJI and its subsidiaries can be found in Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations,” of this Report.

To ensure strategic efforts related to human capital are met, the ESG Committee of the Board is responsible for oversight of key initiatives, including human capital management, diversity and inclusion, and safety. In addition, the Compensation Committee of the Board oversees executive compensation and engages independent consultants to provide expertise and guidance on competitive pay programs. In addition to the above, SJI has an internal Executive Safety Council that monitors progress and planning on safety efforts. There is also an internal ESG Management Committee whose responsibilities include managing the progress on SJI’s ESG efforts and providing periodic reports to the ESG Committee of the Board. SJI has also established a Diversity Council made up of a cross section of leadership to help drive diversity and inclusiveness.

SJI has no foreign operations and export sales have not been a significant part of SJI's business.

SJI and its subsidiaries, including SJG, operate in an environment that involves risks, many of which are beyond our control. SJI has identified the following risk factors that could cause SJI's operating results and financial condition to be materially adversely affected. In addition, new risks may emerge at any time, and SJI cannot predict those risks or the extent to which they may affect SJI's businesses or financial performance. To the extent such risk factors may affect SJI's utility businesses, such risk factors may also affect SJG's business or performance.

None.

The principal property of SJI consists of gas transmission and distribution systems that include mains, service connections and meters. The transmission facilities carry the gas from the connections with Transco and Columbia to distribution systems for delivery to customers. As of December 31, 2020, there were approximately 146.7 miles of mains in SJG's transmission systems and 6,771 miles of mains in SJG's distribution systems.

SJG owns approximately 44 acres of land in Folsom, New Jersey which is the site of SJI's corporate headquarters. Approximately 30 acres of this property is deed restricted. SJG also has office and service buildings at seven other locations in its territory. There is a liquefied natural gas storage, liquefaction and vaporization facility at one of these locations.

In November 2018, SJG opened its corporate headquarters in Atlantic City, New Jersey.

ETG is headquartered in Union, NJ and owns approximately 3,264 miles of distribution pipeline and 13 miles of transmission system mains in seven counties in northern and central New Jersey. ETG has office and service buildings at six other locations in its territory. There is a liquefied natural gas storage, liquefaction and vaporization facility at one of these locations.

As of December 31, 2020, SJI's utility plant had a gross book value of approximately $5.3 billion and net book value, after accumulated depreciation, of approximately $4.4 billion. In 2020, SJI spent approximately $486.5 million on capital expenditures for utility plant and nonutility property, plant and equipment, and there were retirements of property having an aggregate gross book cost of approximately $45.5 million. As of December 31, 2020, SJG's utility plant had a gross book value of approximately $3.4 billion and a net book value, after accumulated depreciation, of approximately $2.8 billion. In 2020, SJG spent approximately $269.0 million on capital expenditures for utility plant and there were retirements of property having an aggregate gross book cost of approximately $22.5 million.

Nonutility property and equipment has a net book value of approximately $112.7 million and consists mostly of fuel cell and solar assets, along with miscellaneous equipment and vehicles.

SJI and SJG believe its existing facilities and equipment are in good operating condition and are suitable for the conduct of its business.

SJI and SJG are subject to claims, actions and other legal proceedings arising in the ordinary course of business. Neither SJI nor SJG can make any assurance as to the outcome of any of these actions but, based on an analysis of these claims and consultation with outside counsel, we do not believe that any of these claims, other than those described in Note 15 to the consolidated financial statements, would be reasonably likely to have a material impact on the business or financial statements of SJI or SJG. See Note 15 to the consolidated financial statements for more detail on these claims.

Not applicable.

The performance graph below illustrates a five-year comparison of cumulative total returns based on an initial investment of $100 in South Jersey Industries, Inc. common stock, as compared with the S&P 500 Stock Index and the S&P Utility Index for the five-year period through December 31, 2020.

Information required by this item is also found in Note 6 of the consolidated financial statements included under Item 8 of this Report.

SJI has a history of paying quarterly dividends and has a stated goal of increasing its dividend annually.

 

See Note 2 to the consolidated financial statements for information on shares of stock granted to non-employee members of SJI's Board of Directors, along with shares granted to SJI’s officers and other key employees.

OVERVIEW - SJI (or the Company) is an energy services holding company that provides a variety of products and services through the following direct or indirect wholly-owned subsidiaries:

SJG, a New Jersey corporation, is an operating public utility company engaged in the purchase, transmission and sale of natural gas for residential, commercial and industrial use. SJG also sells natural gas and pipeline transportation capacity (off-system sales) on a wholesale basis to various customers on the interstate pipeline system and transports natural gas purchased directly from producers or suppliers to their customers. SJG contributed approximately $108.1 million to SJI's net income on a consolidated basis in 2020.

SJG's service territory covers approximately 2,500 square miles in the southern part of New Jersey. It includes 113 municipalities throughout Atlantic, Cape May, Cumberland and Salem Counties and portions of Burlington, Camden and Gloucester Counties. SJG benefits from its proximity to Philadelphia, PA and Wilmington, DE on the western side of its service territory and the popular shore communities on the eastern side. Continuing expansion of SJG's infrastructure throughout its seven-county region has fueled annual customer growth and creates opportunities for future extension into areas not yet served by natural gas.

Southern New Jersey's oceanfront communities continue to experience demand for new single and multifamily homes for both seasonal and year-round living. Demand for existing homes has increased throughout our service territory, in line with national trends. Building expansions in the medical, education, warehouse/distribution, and retail sectors contributed to SJG's growth. At present, SJG serves approximately 80% of households within its territory with natural gas. SJG also serves southern New Jersey's diversified industrial base that includes processors of petroleum and agricultural products; chemical, glass and consumer goods manufacturers; and high technology industrial parks.

As of December 31, 2020, SJG served 404,886 residential, commercial and industrial customers in southern New Jersey, compared with 397,090 customers at December 31, 2019.  No material part of SJG's business is dependent upon a single customer or a few customers. Gas sales, transportation and capacity release for 2020 amounted to 139.3 MMdts, of which 50.5 MMdts were firm sales and transportation, 1.0 MMdts were interruptible sales and transportation and 87.8 MMdts were off-system sales and capacity release. The breakdown of firm sales and transportation includes 48.1% residential, 22.9% commercial, 19.8% industrial, and 9.2% cogeneration and electric generation. As of December 31, 2020, SJG served 378,103 residential customers, 26,369 commercial customers and 414 industrial customers.  This includes 2020 net additions

of 7,410 residential customers and 386 commercial and industrial customers.

SJG makes wholesale gas sales to gas marketers for resale and ultimate delivery to end users. These “off-system” sales are made possible through the issuance of the FERC Orders No. 547 and 636. Order No. 547 issued a blanket certificate of public convenience and necessity authorizing all parties, which are not interstate pipelines, to make FERC jurisdictional gas sales for resale at negotiated rates, while Order No. 636 allowed SJG to deliver gas at delivery points on the interstate pipeline system other than its own city gate stations and release excess pipeline capacity to third parties. During 2020, off-system sales amounted to 14.8 MMdts and capacity release amounted to 73.0 MMdts.

Supplies of natural gas available to SJG that are in excess of the quantity required by those customers who use gas as their sole source of fuel (firm customers) make possible the sale and transportation of gas on an interruptible basis to commercial and industrial customers whose equipment is capable of using natural gas or other fuels, such as fuel oil and propane. The term “interruptible” is used in the sense that deliveries of natural gas may be terminated by SJG at any time if this action is necessary to meet the needs of higher priority customers as described in SJG's tariffs. In 2020, usage by interruptible customers, excluding off-system customers, amounted to 1.0 MMdts, or approximately 1% of the total throughput.

On July 1, 2018, SJI, through its wholly-owned subsidiary SJIU, acquired the assets of ETG and ELK from Pivotal Utility Holdings, Inc., a subsidiary of Southern Company Gas. ELK was subsequently sold to a third party on July 31, 2020.

ETG is a regulated natural gas utility which distributes natural gas in seven counties in northern and central New Jersey. ETG serves residential, business and industrial customers, with a service territory that covers the northern part of New Jersey, including municipalities throughout Union, Middlesex, Sussex, Warren, Hunterdon, Morris and Mercer Counties. ETG was founded in 1855 and is based in Union, New Jersey. ETG contributed net income of approximately $47.7 million during 2020.

ETG believes growth exists in the expansion of its Northwestern service territory, the Franklin/Sparta area, and the Hackettstown Interconnect. ETG also serves northern New Jersey's diversified industrial base within its territory with natural gas, which includes pharmaceutical, food and beverage, and transportation industries.

As of December 31, 2020, ETG served 301,613 customers in northern and central New Jersey, including 277,852 residential customers, 23,663 commercial customers and 98 industrial customers. As of December 31, 2019, ETG served 297,191 customers.  No material part of ETG's business is dependent upon a single customer or a few customers. Gas sales and transportation for 2020 amounted to 47.4 MMdts, of which 41.1 MMdts were firm sales and transportation and 6.3 MMdts were interruptible sales and transportation. The breakdown of firm sales and transportation includes 22.4 MMdts residential, 13.2 MMdts commercial, and 5.5 MMdts industrial.

SJI established SJES as a direct subsidiary for the purpose of serving as a holding company for all of SJI's non-utility businesses. The following businesses are wholly-owned subsidiaries of SJES:

SJE provides services for the acquisition and transportation of electricity for retail end users and markets total energy management services. SJE markets electricity to residential, commercial and industrial customers. Most customers served by SJE are located within New Jersey, northwestern Pennsylvania and New England. In 2020, SJE had a net loss of approximately $1.3 million which reduced SJI's net income on a consolidated basis by such amount.

SJRG markets natural gas storage, commodity and transportation assets along with fuel management services on a wholesale basis. Customers include energy marketers, electric and gas utilities, power plants and natural gas producers. SJRG's marketing activities occur mainly in the mid-Atlantic, Appalachian and southern regions of the country.

SJRG also conducts price risk management activities by entering into a variety of physical and financial transactions including forward contracts, swap agreements, option contracts and futures contracts. In 2020, SJRG contributed approximately $25.3 million to SJI's net income on a consolidated basis.

SJEX owns oil, gas and mineral rights in the Marcellus Shale region of Pennsylvania. SJEX is considered part of SJI's wholesale energy operations. In 2020, SJEX contributed approximately $0.4 million to SJI's net income on a consolidated basis.

Marina develops and operates on-site energy-related projects. There are several businesses under Marina, as discussed below.

ACLE, BCLE, SCLE and SXLE are wholly-owned subsidiaries of Marina, which own and operate landfill gas-to-energy production facilities in Atlantic, Burlington, Salem and Sussex Counties, respectively, located in New Jersey. On June 1, 2020, the BCLE, SCLE, and SXLE landfill gas-to-energy production facilities ceased operations after receiving approval from their respective local governmental authorities to do so.

Marina owns four LLCs which own and operate rooftop solar generation sites located in New Jersey. All four were acquired in 2020 (see Note 1 to the consolidated financial statements).

Also in, 2020, the Company sold MTF and ACB for a final sales price of $97.0 million. See Note 1 to the consolidated financial statements. MTF previously provided cooling, heating and emergency power to the Borgata Hotel Casino & Spa in Atlantic City, NJ. ACB previously owned and operated a natural gas fueled combined heating, cooling and power facility located in Atlantic City, New Jersey.

On June 27, 2018, the Company, through its wholly-owned subsidiary, Marina, entered into a series of agreements whereby Marina agreed to sell its portfolio of solar energy assets (for this section, the “Transaction”) to a third-party buyer. As part of the Transaction, Marina agreed to sell its distributed solar energy projects across New Jersey, Maryland, Massachusetts and Vermont (for this section, the “Projects”), along with the assets comprising the Projects. These sales occurred between 2018-2020. Also in connection with the Transaction, Marina is leasing back from the buyer certain of the Projects that have not yet passed the fifth anniversary of their placed-in-service dates for U.S. federal income tax purposes. The leaseback runs from the date each such project was acquired by the buyer until the later of the first anniversary of the applicable acquisition date and the fifth anniversary of the applicable placed-in-service date of the project. As of December 31, 2020, there are ten projects being leased back from the buyer through the end of 2021, which is the fifth anniversary of their placed-in-service date. The results of these projects being leased back are not material.

The Company currently has two projects that are not part of the Transaction and remain owned by Marina. These assets are recorded as held and used in Property, Plant and Equipment on the consolidated balance sheets as of December 31, 2020 (see Note 1 to the consolidated financial statements).

In 2020, Marina contributed approximately $14.9 million to SJI's net income on a consolidated basis.

SJESP receives commissions on appliance service contracts from a third party. In 2020, SJESP contributed approximately $1.7 million to SJI's net income on a consolidated basis.

SJEI provides energy procurement and cost reduction services. SJEI includes the following wholly-owned subsidiaries:

AEP, an aggregator, broker and consultant in the retail energy markets, which was acquired in August 2019.

EnerConnex, a retail and wholesale broker and consultant that matches end users with suppliers for the procurement of natural gas and electricity, which became 100% owned in 2020 (see Note 20 to the consolidated financial statements).

In 2020, SJEI contributed approximately $0.4 million to SJI's net income on a consolidated basis.

SJI Renewable Energy Ventures, LLC and SJI RNG Devco, LLC are newly formed subsidiaries which hold the equity interest in REV LNG and the renewable natural gas development rights in certain dairy farms, respectively (see Notes 1, 3 and 20 to the consolidated financial statements).

EMI principally manages liabilities associated with its discontinued operations of nonutility subsidiaries.

SJI's current long-term goals are to grow Economic Earnings Per Share 6-8% annually driven by high quality earnings, a strong balance sheet and a low-to-moderate risk profile. Management established those goals in conjunction with SJI's Board of Directors based upon a number of different internal and external factors that characterize and influence SJI's current and expected future activities.

The following is a summary of the primary factors we expect to have the greatest impact on SJI's performance and ability to achieve the long-term goals going forward:

ETG's primary area of operations is central and northern NJ, which continues to grow in multifamily housing and gas infrastructure extensions to unserved areas.  While ETG continues to partner with builders in the new construction sector with the view of increasing natural gas burner tips, ETG is pursuing conversions throughout its service territory.  As a result, customer additions for ETG grew approximately 1.5%.  In 2020, consumers converting their homes and businesses from other heating fuels, such as electric, propane or oil, represented approximately 42% of the total new customer acquisitions for the year.  Customers in ETG service territories typically base their decisions to convert on fuel cost savings, efficiencies, and fuel stability pricing.  ETG leverages its comprehensive partnership with the State’s Office of Clean Energy to educate consumers on energy efficiency and to promote the rebates and incentives available to natural gas users.

SJG’s BPU approved CIP, along with ETG's BPU approved WNC, protect the Utilities' net income from severe fluctuations in gas used by residential, commercial and small industrial customers.

SJG's AIRP is a program to replace cast iron and unprotected bare steel mains and services. All AIRP investments are reflected in base rates. Additionally, the BPU issued an Order approving an extension of the AIRP for a five-year period (“AIRP II”), commencing October 1, 2016, with authorized investments of up to $302.5 million to continue replacing cast iron and unprotected bare steel mains and associated services. SJG earns a return on AIRP II investments once they are placed in service and, thereafter, once they are included in rate base, through annual filings. SJG's SHARP is a program to replace low-pressure distribution mains and services with high-pressure mains and services in coastal areas that are susceptible to flooding during major storms. In May 2018, the BPU issued an order approving a second phase of the SHARP ("SHARP II") for a three-year period, commencing June 1, 2018, with authorized investments of up to $100.3 million to continue storm hardening efforts to further improve safety, redundancy and resiliency of SJG’s natural gas system in coastal areas. Pursuant to the order, SHARP II investments are to be recovered through annual base rate adjustments.

In September 2020, the BPU approved the settlement of SJG's rate case petition, resulting in an increase in annual revenues from base rates effective October 1, 2020 of $39.5 million.

In September 2020, the BPU approved, on a provisional basis, a $59.4 million decrease in gas cost recoveries, effective October 1, 2020. SJG's BGSS filing included consideration of $22.9 million of costs requested to be recovered over a two-year period related to a previous dispute on a long-term gas supply contract that was settled during 2019. The provisional rate adjustments effective October 1, 2020 include the temporary removal of these amounts to allow for a further review of these costs during the course of this proceeding which we expect to be completed during the second quarter of 2021.

Consistent with ETG/ELK Acquisition approval, SJI was required to develop a plan, in concert with the BPU and the New Jersey Division of Rate Counsel, to address the replacement of ETG's aging infrastructure. In June 2019, the BPU approved a $300.0 million IIP effective July 1, 2019. The Order authorized the recovery of costs associated with ETG’s investments of approximately $300.0 million between 2019-2024 to replace its cast-iron and bare steel vintage main and related services. The Order provides for annual recovery of ETG's investments through a separate rate mechanism.

For more information on the regulatory environments of the Utilities, see Notes 10 and 11 to the consolidated financial statements.

 

CRITICAL ACCOUNTING POLICIES - ESTIMATES AND ASSUMPTIONS - As described in the notes to our consolidated financial statements, management must make estimates and assumptions that affect the amounts reported in the consolidated financial statements and related disclosures. Actual results could differ from those estimates. Certain types of transactions presented in our consolidated financial statements require a significant amount of judgment and estimation. These relate to regulatory accounting, derivatives, environmental remediation costs, pension and other postretirement benefit costs, revenue recognition, goodwill, evaluation of equity method investments for other-than-temporary impairment, and income taxes.

 

Counterparty credit risk and the credit risk of SJI, are incorporated and considered in the valuation of all derivative instruments, as appropriate. The effect of counterparty credit risk and the credit risk of SJI on the derivative valuations is not significant.

Certain derivatives that result in the physical delivery of the commodity may meet the criteria to be accounted for as normal purchases and normal sales, if so designated, in which case the contract is not marked-to-market, but rather is accounted for when the commodity is delivered. Due to the application of regulatory GAAP, derivatives related to the Utilities' gas purchases that are marked-to-market are recorded through the BGSS.  The Utilities periodically enter into financial derivatives to hedge against forward price risk. These derivatives are recorded at fair value with an offset to regulatory assets and liabilities through the BGSS, subject to BPU approval (see Notes 10 and 11 to the consolidated financial statements). We adjust the fair value of the contracts each reporting period for changes in the market.  

Management uses the discounted cash flow model to value Level 3 physical and financial forward contracts, which calculates mark-to-market valuations based on forward market prices, original transaction prices, volumes, risk-free rate of return and credit spreads. Inputs to the valuation model are reviewed and revised as needed, based on historical information, updated market data, market liquidity and relationships, and changes in third party pricing sources. The validity of the mark-to-market valuations and changes in these values from period to period are examined and qualified against historical expectations by the risk management function. If any discrepancies are identified during this process, the mark-to-market valuations or the market pricing information is evaluated further and adjusted, if necessary.

Level 3 valuation methods for natural gas derivative contracts include utilizing another location in close proximity adjusted for certain pipeline charges to derive a basis value. The significant unobservable inputs used in the fair value measurement of certain natural gas contracts consist of forward prices developed based on industry-standard methodologies. Significant increases (decreases) in these forward prices for purchases of natural gas would result in a directionally similar impact to the fair value measurement and for sales of natural gas would result in a directionally opposite impact to the fair value measurement. Level 3 valuation methods for electricity represent the value of the contract marked to the forward wholesale curve, as provided by daily exchange quotes for delivered electricity. The significant unobservable inputs used in the fair value measurement of electric contracts consist of fixed contracted electric load profiles; therefore, no change in unobservable inputs would occur. Unobservable inputs are updated daily using industry-standard techniques. Management reviews and corroborates the price quotations to ensure the prices are observable which includes consideration of actual transaction volumes, market delivery points, bid-ask spreads and contract duration.

We bill SJG and ETG customers at rates approved by the BPU.

The BPU allows the Utilities to recover gas costs in rates through the BGSS price structure. The Utilities defer over/under recoveries of gas costs and includes them in subsequent adjustments to the BGSS rate. These adjustments result in over/under recoveries of gas costs being included in rates during future periods. As a result of these deferrals, utility revenue recognition does not directly translate to profitability. While the Utilities realize profits on gas sales during the month of providing the utility service, significant shifts in revenue recognition may result from the various recovery clauses approved by the BPU. This revenue recognition process does not shift earnings between periods, as these clauses only provide for cost recovery on a dollar-for-dollar basis (see Notes 10 and 11 to the consolidated financial statements).

The Utilities' unbilled revenue for natural gas is estimated each month based on monthly deliveries into the system; unaccounted for natural gas based on historical results; customer-specific use factors, when available; actual temperatures during the period; and applicable customer rates.

The Utilities also have revenues that arise from alternative revenue programs, which are discussed in Note 19 to the consolidated financial statements.

For the Utilities, unrealized gains and losses on energy-related derivative instruments are recorded in Regulatory Assets or Regulatory Liabilities on the consolidated balance sheets of SJI and SJG until they become realized, in which case they are recognized in operating revenues.

SJE and SJRG customers are billed at rates negotiated between the parties.

SJRG's gas revenues are recognized in the period the commodity is delivered. Realized and unrealized gains and losses on energy-related derivative instruments are also recognized in operating revenues for SJRG. SJRG presents revenues and expenses related to its energy trading activities on a net basis in Operating Revenues - Nonutility in the statements of consolidated income consistent with GAAP. This net presentation has no effect on operating income or net income.

Marina recognizes revenue for renewable energy projects when output is generated and delivered to the customer, and when renewable energy credits have been transferred to the third party at an agreed upon price.

The Company performs its annual goodwill impairment test in the fourth quarter of each fiscal year beginning with a qualitative assessment at the reporting unit level. The reporting unit level is identified by assessing whether the components of our operating segments constitute businesses for which discrete financial information is available, whether segment management regularly reviews the operating results of those components and whether the economic and regulatory characteristics are similar. Factors utilized in the qualitative analysis performed on goodwill in our reporting units include, among other things, macroeconomic conditions, industry and market considerations, cost factors, overall financial performance, company specific operating results and other relevant entity-specific events affecting individual reporting units.

If sufficient qualitative factors exist, potential goodwill impairment is evaluated quantitatively. Potential impairment is identified by comparing the fair value of a reporting unit to the book value, including goodwill. The Company estimates the fair value of a reporting unit using a discounted cash flow analysis. Management also considers other methods, which includes a market multiples analysis. Determining the fair value of a reporting unit requires judgment and the use of significant estimates and assumptions. Such estimates and assumptions include, but are not limited to, forecasts of future operating results, discount and growth rates, capital expenditures, tax rates, and projected terminal values.

As a result of the September 2019 decision by the U.S. Court of Appeals and continuing events (see "PennEast" above), we evaluated our investment in the PennEast project for an other-than-temporary impairment. Our impairment assessment used a discounted cash flow income approach, including consideration of the severity and duration of any decline in fair value of our investment in the project. Our significant estimates and assumptions included development options and legal outcomes, construction costs, timing of in-service dates (which have been delayed from the initial timing assumed in our analysis as of December 31, 2019), revenues (including forecasted volumes and rates), and discount rates. At this time, we believe that we do not have an other-than-temporary impairment and have not recorded any impairment charge to reduce the carrying value of our investment.

Our evaluation also considered the current economic conditions as a result of COVID-19, noting that the timelines, potential options and legal proceedings have not been impacted. However, the legal and regulatory proceedings could have unfavorable outcomes, or there could be other future unfavorable developments, such as a reduced likelihood of success from development options and legal outcomes, estimated increases in construction costs, increases in the discount rate, or further significant delays, or PennEast could conclude that the project is not viable or does not go forward as actions progress. These could impact our conclusions with respect to other-than-temporary impairment and may require that we recognize an impairment charge of up to our recorded investment in the project, net of any cash and working capital.

We will continue to monitor and update this analysis as required. Different assumptions could affect the timing and amount of any charge recorded in a period.

NEW ACCOUNTING PRONOUNCEMENTS - See discussions concerning New Accounting Pronouncements and their impact on SJI in Note 1 to the consolidated financial statements.

RATES AND REGULATION - The Utilities are subject to regulation by the BPU. Additionally, the Natural Gas Policy Act contains provisions for Federal regulation of certain aspects of the Utilities' business. The Utilities are affected by Federal regulation with respect to transportation and pricing policies applicable to pipeline capacity from Transco (both utilities' major supplier), Columbia and Dominion, since such services are provided under rates and terms established under the jurisdiction of the FERC. The Utilities' retail sales are made under rate schedules within a tariff filed with, and subject to the jurisdiction of, the BPU. These rate schedules provide primarily for either block rates or demand/commodity rate structures. The Utilities' primary rate mechanisms include base rates, the BGSS, Accelerated Infrastructure Programs, EET and the CIP for SJG, and BGSS and WNC for ETG.

The CIP is a BPU-approved program that is designed to eliminate the link between SJG profits and the quantity of natural gas SJG sells, and to foster conservation efforts. With the CIP, SJG's profits are tied to the number of customers served and how efficiently SJG serves them, thus allowing SJG to focus on encouraging conservation and energy efficiency among its customers without negatively impacting net income.  The CIP tracking mechanism adjusts revenue based on weather, and also adjusts SJG's revenue when actual usage per customer experienced during an annual period varies from an established baseline usage per customer. 

Each CIP year begins October 1 and ends September 30 of the subsequent year.  On a monthly basis during a CIP year, SJG records adjustments to revenue based on weather and customer usage factors, as incurred.  Subsequent to each year, SJG makes filings with the BPU to review and approve amounts recorded under the CIP.  BPU-approved cash inflows or outflows generally will not begin until the next CIP year and have no impact on revenue at that time.

Utility revenue is recognized during current periods based upon the application of the CIP. The cash impact of variations in customer usage will result in cash being collected from, or returned to, customers during the subsequent CIP year, which runs from October 1 to September 30.

As part of the CIP, SJG is required to implement additional conservation programs, including customized customer communication and outreach efforts, targeted upgrade furnace efficiency packages, financing offers, and an outreach program to speak to local and state institutional constituents. SJG is also required to reduce gas supply and storage assets and their associated fees. Note that changes in fees associated with supply and storage assets have no effect on SJG's net income as these costs are passed through directly to customers on a dollar-for-dollar basis.

Earnings accrued and payments received under the CIP are limited to a level that will not cause SJG's return on equity to exceed 9.6% (excluding earnings from off-system gas sales and certain other tariff clauses) and CIP recoveries are limited by the annualized savings attained from reducing gas supply and storage assets.

For ETG, the WNC is a BPU-approved program that is designed to recover or refund balances associated with differences between actual and normal weather during the preceding winter period(s). The effective winter period of the WNC is defined as October through May.

In 2020, ETG's net income was increased by $10.2 million, primarily due to warmer than average weather for the applicable months in the 2020 winter period. In 2019, ETG's net income was reduced by $5.9 million, primarily due to colder than average weather for the applicable months in the 2019 winter period.

See additional discussions on Rates and Regulatory Actions in Note 10 to the consolidated financial statements.

ENVIRONMENTAL REMEDIATION - See discussion concerning Environmental Remediation in Note 15 to the consolidated financial statements.

COMPETITION - The Utilities' franchises are non-exclusive. Currently, no other utility provides retail gas distribution services within the Utilities territories, and we do not expect any other utilities to do so in the foreseeable future because of the extensive investment required for utility plant and related costs. The Utilities compete with oil, propane and electricity suppliers for residential, commercial and industrial users, with alternative fuel source providers (wind, solar and fuel cells) based upon price, convenience and environmental factors, and with other marketers/brokers in the selling of wholesale natural gas services. The market for natural gas commodity sales is subject to competition due to deregulation. SJG's competitive position was enhanced while maintaining margins by using an unbundled tariff. This tariff allows full cost-of-service recovery when transporting gas for SJG's customers. Under this tariff, SJG profits from transporting, rather than selling, the commodity. SJG's residential, commercial and industrial customers can choose their supplier, while SJG recovers the cost of service through transportation service (See Customer Choice Legislation below).

SJRG competes in the wholesale natural gas market against a wide array of competitors on a cost competitive, term of service, and reliability basis. SJRG has been a reliable energy provider in this arena for more than 20 years.

Marina competes with other companies that develop and operate similar types of on-site energy production. Marina also faces competition from customers' preferences for alternative technologies for energy production, as well as those customers that address their energy needs internally.

For information on the changes in results of operations from 2019 compared to 2018, refer to the Management Discussion & Analysis section in Item 7 of SJI's and SJG's Annual Report on Form 10-K for the year ended December 31, 2019.

SJI operates in several different reportable operating segments. These segments are as follows:

SJI's net income for 2020 increased $80.1 million to $157.0 million compared to 2019. SJI's income from continuing operations for 2020 increased $80.1 million to $157.3 million compared to 2019. The significant drivers for the overall changes were as follows (all numbers in the bullet points below are presented after-tax):

A significant portion of the volatility in operating results is due to the impact of the accounting methods associated with SJI's derivative activities. SJI uses derivatives to limit its exposure to market risk on transactions to buy, sell, transport and store natural gas and to buy and sell retail electricity. SJI also uses derivatives to limit its exposure to increasing interest rates on variable-rate debt.

As a result, management also uses the non-GAAP financial measures of Economic Earnings and Economic Earnings Per Share when evaluating its results of operations. These non-GAAP financial measures should not be considered as an alternative to GAAP measures, such as net income, operating income, earnings per share from continuing operations or any other GAAP measure of financial performance.

We define Economic Earnings as: Income from Continuing Operations, (i) less the change in unrealized gains and plus the change in unrealized losses on non-utility derivative transactions; (ii) less income and plus losses attributable to noncontrolling interest; and (iii) less the impact of transactions, contractual arrangements or other events where management believes period to period comparisons of SJI's operations could be difficult or potentially confusing. With respect to part (iii) of the definition of Economic Earnings, items excluded from Economic Earnings for the years ended December 31, 2020, 2019 and 2018, include impairment charges; the impact of pricing disputes with third parties; costs to acquire ETG and ELK; costs incurred and gains recognized on the acquisitions of Annadale (fuel cell projects) and EnerConnex; costs to prepare to exit the transaction service agreement (TSA); costs incurred and gains/losses recognized on sales of solar, MTF/ACB, ELK and SJE's retail gas business; costs incurred to cease operations at three landfill gas-to-energy production facilities; customer credits related to the acquisition of ETG and ELK; ERIP costs; severance and other employee separation costs; and additional tax adjustments including a state deferred valuation allowance and a one-time tax expense resulting from SJG's Stipulation of Settlement with the BPU. See (A)-(H) in the table below.

Economic Earnings is a significant financial measure used by our management to indicate the amount and timing of income from continuing operations that we expect to earn after taking into account the impact of derivative instruments on the related transactions, as well as the impact of contractual arrangements and other events that management believes make period to period comparisons of SJI's operations difficult or potentially confusing. Management uses Economic Earnings to manage its business and to determine such items as incentive/compensation arrangements and allocation of resources. Specifically regarding derivatives, we believe that this financial measure indicates to investors the profitability of the entire derivative-related transaction and not just the portion that is subject to mark-to-market valuation under GAAP. We believe that considering only the change in market value on the derivative side of the transaction can produce a false sense as to the ultimate profitability of the total transaction as no change in value is reflected for the non-derivative portion of the transaction.

Economic Earnings for 2020 increased $59.9 million, or 58.2%, to $163.0 million compared to 2019. The significant drivers for the overall change were as follows (all numbers in the bullet points below are presented after-tax):

The following table presents a reconciliation of our income from continuing operations and earnings per share from continuing operations to Economic Earnings and Economic Earnings per share (in thousands, except per share data):

The following table presents a reconciliation of SJG's income from continuing operations to Economic Earnings:

The effect of derivative instruments not designated as hedging instruments under GAAP in the statements of consolidated income (see Note 16 to the consolidated financial statements) is as follows (gains (losses) in thousands):

(A) Represents impairment charges taken as follows: in 2019 on solar generating facilities along with the agreement to sell MTF and ACB, which were both driven by the expected purchase prices being less than the carrying value of the assets; and in 2018 on solar generating facilities, which was also primarily driven by the purchase price in the agreement to sell solar assets being less than the carrying amount of the assets, along with LFGTE assets, which was primarily driven by the remaining carrying value of these assets no longer being recoverable.

(B) Represents net losses, including interest, legal fees and the realized difference in the market value of the commodity (including financial hedges) resulting from a ruling in a legal proceeding related to a pricing dispute between SJI and a gas supplier that began in October 2014.

(C) Represents the following:

(D) Represents credits to ETG and ELK customers that were required as part of the ETG/ELK Acquisition.

(E) Represents costs incurred on the Company's ERIP as well as the benefit of amending the Company's OPEB.

(F) Represents severance and other employee separation costs, along with costs incurred to cease operations at three landfill gas-to-energy production facilities.

(G) The income taxes on (A) through (F) above are determined using a combined average statutory tax rate applicable to each period presented.

(H) Represents additional tax adjustments, primarily including a state deferred tax valuation allowance at SJI, and a one-time tax expense resulting from SJG's Stipulation of Settlement with the BPU.