sji10k2007.htm




 
 

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549

FORM 10-K

[X]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2007 
 
[ ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________to ______________.

Commission File Number 1-6364

SOUTH JERSEY INDUSTRIES, INC.
(Exact name of registrant as specified in its charter)

New Jersey
22-1901645
(State of incorporation)
(IRS employer identification no.)

1 South Jersey Plaza, Folsom, New Jersey 08037
(Address of principal executive offices, including zip code)

(609) 561-9000
(Registrant’s telephone number, including area code)

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

Common Stock
 
($1.25 par value per share)
New York Stock Exchange
(Title of each class)
(Name of exchange on which registered)
 
 

 



 
Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act: Yes [X] No [ ]

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Act: Yes [ ] No [X]

 
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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 [X] No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  [  ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer [X]
Accelerated filer [ ]
Non-accelerated filer [ ]
 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]

The aggregate market value of voting stock held by non-affiliates of the registrant as of June 30, 2007 was $1,037,324,000. As of February 23, 2008, there were 29,624,492 shares of the registrant’s common stock outstanding.

Documents Incorporated by Reference:

In Part I of Form 10-K: None
In Part II of Form 10-K: None
In Part III of Form 10-K:  Portions of the registrant’s proxy statement filed within 120 days of the close of the registrant’s fiscal year in connection with the registrant’s 2008 annual meeting of shareholders are incorporated by reference into Part III of this Form 10-K.
 
Forward Looking Statements

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 other than statements of historical fact included in this Report should be considered forward-looking statements made in good faith by the Company 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 of the Company’s documents or oral presentations, words such as “anticipate”, “believe”, “expect”, “estimate”, “forecast”, “goal”, “intend”, “objective”, “plan”, “project”, “seek”, “strategy” and similar expressions are intended to identify forward-looking statements. 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 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 Annual Report on Form 10-K 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 South Jersey Industries, Inc. (SJI or 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, SJI undertakes no obligation to update or revise any of its forward-looking statements whether as a result of new information, future events or otherwise.

Available Information

The Company’s Internet address is www.sjindustries.com. We make available free of charge on or through our website SJI’s annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission (SEC). The SEC maintains an Internet site that contains these reports at http://www.sec.gov. Also, copies of SJI’s annual report will be made available, free of charge, upon written request. The content on any web site referred to in this filing is not incorporated by reference into this filing unless expressly noted otherwise.
 

 
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Units of Measurement
 
     
 
               For Natural Gas:
 
 
1 Mcf
= One thousand cubic feet
 
1 MMcf
= One million cubic feet
 
1 Bcf
= One billion cubic feet
 
1dth
= One decatherm
 
1 MMdth
= One million decatherms 


PART I

Item 1. Business

Description of Business

The registrant, South Jersey Industries, Inc. 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, a public utility, and acquiring and developing non-utility lines of business.

SJI currently provides a variety of energy related products and services primarily through the following subsidiaries:

·
South Jersey Gas Company (SJG) is a regulated natural gas utility. SJG distributes natural gas in the seven southernmost counties of New Jersey.

·
South Jersey Resources Group, LLC (SJRG) markets wholesale natural gas storage, commodity and transportation in the mid-Atlantic and southern states.

·
Marina Energy, LLC (Marina) develops and operates on-site energy-related projects.

·
South Jersey Energy Company (SJE) acquires and markets natural gas and electricity to retail end users and provides total energy management services to commercial and industrial customers.

·
South Jersey Energy Service Plus, LLC (SJESP) installs residential and small commercial HVAC systems, provides plumbing services and services appliances via the sale of appliance service programs.

Additional Information on the nature of our business can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” under Item 7 of this report.

Financial Information About  Reportable Segments

Information regarding Reportable Segments is incorporated by reference to Note 7 of the consolidated financial statements included under Item 8 of this report.


 
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Sources and Availability of Raw Materials

South Jersey Gas Company

Transportation and Storage Agreements
 
SJG has direct connections to two interstate pipeline companies, Transcontinental Gas Pipeline Corporation (Transco) and Columbia Gas Transmission Corporation (Columbia). During 2007, SJG purchased and had delivered approximately 45.7 MMdth of natural gas for distribution to both on-system and off-system customers. Of this total, 28.4 MMdth was transported on the Transco pipeline system and 17.3 MMdth was transported on the Columbia pipeline system. SJG also secures firm transportation and other long term services from three additional pipelines upstream of the Transco and Columbia systems. They include Columbia Gulf Transmission Company (Columbia Gulf), Texas Gas Transmission Corporation (Texas Gas) and Dominion Transmission Inc. (Dominion). Services provided by these upstream pipelines are utilized to deliver gas into either the Transco or Columbia systems for ultimate delivery to SJG. Services provided by all of the above-mentioned pipelines are subject to the jurisdiction of the Federal Energy Regulatory Commission (FERC).  Unless otherwise indicated, our intentions are to renew or extend these service agreements before they expire.

Transco:

Transco is SJG’s largest supplier of long-term gas transmission services. These services include six year-round and one seasonal firm transportation (FT) service arrangements. When combined, these services enable SJG to purchase from third parties and have delivered to its city gate stations by Transco a total of 280,525 dth of gas per day (dth/d). The terms of the year-round agreements extend for various periods from 2009 to 2025 while the term of the seasonal agreement extends to 2011.

SJG also has seven long-term gas storage service agreements with Transco that, when combined, are capable of storing approximately 6.4 MMdth. Through these services, SJG can inject gas into market area storage during periods of low demand and withdraw gas at a rate of up to 124,840 dth/d during periods of high demand. The terms of the storage service agreements extend for various periods from 2008 to 2013.

Effective May 1, 2006 SJG permanently released its Transco WSS Storage Service (with a storage capacity of 4.4 MMdth and a maximum withdrawal quantity of 51,837 dth/d) to SJRG resulting in significant savings in gas related costs for SJG.  This action was taken in concert with SJG’s Conservation Incentive Program.

Dominion:

Entering 2007 SJG had three firm transportation services on Dominion which delivered gas to Transco’s Leidy Line for ultimate delivery to SJG city gate stations. Two of these services are associated with storage services which SJG subscribes to with Dominion and Transco, while the third provided a link between SJG’s service on Texas Gas and the Transco Leidy Line system in Pennsylvania.  As SJG opted to let its Texas Gas service expire (as noted below), it also chose to allow its FT service on Dominion (unrelated to storage), with a maximum contract quantity of 24,874 dth/d to expire under its terms effective October 31, 2007.  This decision resulted in significant cost savings for SJG.

SJG also subscribes to a storage service with Dominion which provides a maximum withdrawal capacity of 10,000 dth/d during the winter season with 423,000 dth of storage capacity. Gas from this storage is delivered through both the Dominion and Transco pipeline systems.

Columbia:

SJG has two firm transportation agreements with Columbia which, when combined, provide for 45,022 dth/d of firm deliverability and extend through October 31, 2009.

 
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SJG also subscribes to a firm storage service from Columbia, through March 31, 2009, which provides a maximum withdrawal quantity of 52,891 dth/d during the winter season with an associated 3,473,022 dth of storage capacity.

Texas Gas:

SJG allowed its firm upstream transportation service on Texas Gas to expire under its terms, effective October 31, 2007, resulting in significant savings in gas supply related costs.

 Gas Supplies

SJG had two long-term gas supply agreements with a single producer and marketer that expired on October 31, 2007. Under these agreements, SJG was able to purchase a delivered quantity of up to 7,036,580 dth of natural gas per year. When advantageous to do so, SJG would purchase spot supplies of natural gas in place of or in addition to those volumes reserved under long-term agreements. In recent years, due to increased liquidity in the market place, SJG has replaced its long-term gas supply contracts with short-term agreements and uses financial contracts through SJRG to hedge against forward price risk.  Short-term agreements typically extend between one day and several months in duration. As such, the above mentioned long-term contracts were not renewed.

 Supplemental Gas Supplies

During 2007 SJG entered into two seasonal Liquefied Natural Gas (LNG) sales agreements with a single third party supplier. The term of one agreement extended through October 29, 2007, and had an associated contract quantity of 220,500 dth. The second agreement, which extends through March 31, 2008, replaced the first agreement and provides SJG with up to 216,000 dth of LNG.

SJG operates peaking facilities which can store and vaporize LNG for injection into its distribution system. SJG’s LNG facility has a storage capacity equivalent to 434,300 dth of natural gas and has an installed capacity to vaporize up to 96,750 dth of LNG per day for injection into its distribution system.

SJG also operates a high-pressure pipe storage field at its New Jersey LNG facility which is capable of storing 12,420 dth of gas and injecting up to 10,350 dth/d into SJG’s distribution system.

 Peak-Day Supply

SJG plans for a winter season peak-day demand on the basis of an average daily temperature of 2 degrees fahrenheit (F). Gas demand on such a design day was estimated for the 2007-2008 winter season to be 506,949 dth. SJG projects that it has adequate supplies and interstate pipeline entitlements to meet its design requirements. On February 5, 2007, SJG experienced its highest peak-day demand for calendar year 2007 of 432,594 dth with an average temperature during that day of 14.02 degrees F.
 
 Natural Gas Prices

SJG’s average cost of natural gas purchased and delivered in 2007, 2006 and 2005, including demand charges, was $9.07 per dth, $9.27 per dth and $9.36 per dth, respectively.
     
     South Jersey Energy Company

Transportation and Storage Agreements

Access to gas suppliers and cost of gas are significant to the operations of SJE. No material part of the business of SJE is dependent upon a single customer or a few customers. SJE purchases delivered gas only, primarily from SJRG. Consequently, SJE maintains no transportation or storage agreements.

 
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South Jersey Resources Group

Transportation and Storage Agreements
 
National Fuel Gas Supply Corporation:
 
SJRG has a long-term storage service agreement with National Fuel Gas Supply Corporation (National Fuel) which extends through March 31, 2009, under which up to 4,746,000 Mcf of gas may be stored during the summer season and up to 48,000 Mcf/d may be withdrawn during the winter season. SJRG entered into a new 11-year contract with National Fuel for an additional 224,576 Mcf of similar storage capacity beginning March 31, 2008.
 
SJRG also has a long-term firm transportation agreement with National Fuel associated with the above-mentioned storage service that extends through March 31, 2008. Under this agreement, National Fuel will provide SJRG with a maximum daily injection transportation quantity of 28,500 Mcf with primary receipt points on Tennessee Gas Pipeline and National Fuel’s system storage. The agreement also provides for a maximum daily withdrawal transportation quantity of 48,000 Mcf with primary delivery points on Transcontinental Gas Pipe Line and National Fuel’s system storage. Firm transportation rights associated with the agreement consist of an additional 1,123 Mcf of injection capacity and 2,042 Mcf of withdrawal capacity with primary receipt points on Tennessee Gas pipeline and firm withdrawal rights on Transcontinental pipeline.
 
Transco
 
SJRG has a storage agreement with Transco for storage service at Transco's WSS facility which expires in October 2017. Under this evergreen contract, up to 24,500 Mcf/d may be injected during the summer season and up to 51,837 Mcf/d may be withdrawn during the winter season. Up to 4,406,000 Mcf of gas may be stored by SJRG at this facility.
 
SJRG also has a firm transportation agreement with Transco which expires in October 2017. Under this evergreen contract, Transco will provide SJRG with a maximum daily injection transportation quantity of 20,000 Mcf with firm receipt points in Texas and Louisiana and firm delivery points at South Jersey Gas in New Jersey.

Patents and Franchises

South Jersey Gas Company

SJG holds nonexclusive franchises granted by municipalities in the seven-county area of southern New Jersey that it serves. No other natural gas public utility presently serves the territory covered by SJG’s franchises. Otherwise, patents, trademarks, licenses, franchises and concessions are not material to the business of SJG.
 
Seasonal Aspects

South Jersey Gas Company

SJG experiences seasonal fluctuations in sales when selling natural gas for heating purposes. SJG meets this seasonal fluctuation in demand from its 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, SJG’s revenues and net income are significantly higher during the first and fourth quarters than during the second and third quarters of the year.

 
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Non-Utility Companies

Among SJI’s non-utility activities, wholesale and retail gas marketing have seasonal patterns similar to SJG’s. Activities such as energy services and energy project development do not follow seasonal patterns. Other activities such as retail electric marketing and appliance service can have seasonal earnings patterns that are different from the utility. While growth in the earnings contributions from nonutility operations has improved SJI’s second and third quarter net income levels, the first and fourth quarters remain the periods where most of SJI’s revenue and net income is produced.

Working Capital Practices

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.

Customers

No material part of the Company’s business is dependent upon a single customer or a few customers, the loss of which would have a material adverse effect on SJI performance on a consolidated basis. One of SJI’s subsidiaries, Marina Energy, does currently receive the majority of its revenues and income from one customer. However, that customer is under a long-term contract through 2026.

Backlog

Backlog is not material to an understanding of SJI’s business or that of any of its subsidiaries.

Government Contracts

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.

Competition

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.

Research

During the last three fiscal years, neither SJI nor any of its subsidiaries engaged in research activities to any material extent.

Environmental Matters

Information on environmental matters for SJI and its subsidiaries can be found in Note 14 of the consolidated financial statements included under Item 8 of this report.

Employees

SJI and its subsidiaries had a total of 604 employees as of December 31, 2007. Of that total, 351 employees are unionized and are covered under collective bargaining agreements that expire in January 2009. We consider relations with employees to be good.

Financial Information About Foreign and Domestic Operations and Export Sales

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

 
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Item 1A. Risk Factors
 
SJI and its subsidiaries 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. Investors should carefully consider these risk factors and should also be aware that this list is not all inclusive of existing risks. 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.

 
 SJI is a holding company and its assets consist primarily of investments in subsidiaries. Should SJI’s subsidiaries be unable to pay dividends or make other payments to SJI for financial, regulatory, legal or other reasons, SJI’s ability to pay dividends on its common stock could be limited. SJI’s stock price could be adversely affected as a result.
 
SJI’s business activities are concentrated in southern New Jersey. Changes in the economies of southern New Jersey and surrounding regions could negatively impact the growth opportunities available to SJI and the financial condition of customers and prospects of SJI.
 
Changes in the regulatory environment or unfavorable rate regulation at its utility may have an unfavorable impact on SJI’s financial performance or condition.  SJI’s utility business is regulated by the New Jersey Board of Public Utilities which has authority over many of the activities of the business including, but not limited to, the rates it charges to its customers, the amount and type of securities it can issue, the nature of investments it can make, the nature and quality of services it provides, safety standards and other matters. The extent to which the actions of regulatory commissions restrict or delay SJG’s ability to earn a reasonable rate of return on invested capital and/or fully recover operating costs may adversely affect its results of operations, financial condition and cash flows. 
 
 SJI may not be able to respond effectively to competition, which may negatively impact SJI’s financial performance or condition. Regulatory initiatives may provide or enhance opportunities for competitors that could reduce utility income obtained from existing or prospective customers. Also, competitors in all of SJI’s business lines may be able to provide superior or less costly products or services based upon currently available or newly developed technologies.
 
Warm weather, high commodity costs, or customer conservation initiatives could result in reduced demand for some of SJI’s energy products and services. While SJI’s utility currently has a conservation incentive program clause that protects its revenues and gross margin against usage per customer that is lower than a set level, the clause is currently approved as a three-year pilot program. Should this clause expire without replacement, lower customer energy utilization levels would likely reduce SJI’s net income.
 
High natural gas prices could cause more of SJI’s receivables to be uncollectible. Higher levels of uncollectibles from either residential or commercial customers would negatively impact SJI’s income and could result in higher working capital requirements.
 
SJI’s net income could decrease if it is required to incur additional costs to comply with new governmental safety, health or environmental legislation. SJI is subject to extensive and changing federal and state laws and regulations that impact many aspects of its business; including the storage, transportation and distribution of natural gas, as well as the remediation of environmental contamination at former manufactured gas plant facilities.
 
SJI’s wholesale commodity marketing business is exposed to the risk that counterparties that owe money or energy to SJI will not be able to meet their obligations for operational or financial reasons. SJI could be forced to buy or sell commodity at a loss as a result of such failure. Such a failure, if large enough, could also impact SJI’s liquidity.
 
Increasing interest rates will negatively impact the net income of SJI. Several of SJI’s subsidiaries are capital intensive, resulting in the incurrence of significant amounts of debt financing. SJI has issued almost all of its existing long-term debt at fixed rates or has utilized interest rate swaps to mitigate changes in variable rates.  However, new issues of long-term debt and all variable rate short-term debt are exposed to the impact of rising interest rates. 

 
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SJI has guaranteed certain obligations of unconsolidated affiliates and is exposed to the risk that these affiliates will not be able to meet performance and financial commitments.  SJI’s unconsolidated affiliates develop and operate on-site energy related projects.  SJI has guaranteed certain obligations of these affiliates in connection with the development and operation of the facilities.  In the event that these projects do not meet specified levels of operating performance or are unable to meet certain financial obligations as they become due, SJI could be required to make payments related to these obligations.
 
A downgrade in SJG’s credit rating could negatively affect its ability to access adequate and cost effective capital. SJG’s ability to obtain adequate and cost effective capital depends largely on its credit ratings, which are greatly influenced by financial condition and results of operations. If the rating agencies downgrade SJG’s credit ratings, particularly below investment grade, SJG’s borrowing costs would increase. In addition, SJG would likely be required to pay higher interest rates in future financings and potential funding sources would likely decrease. To the extent that a decline in SJG’s credit rating has a negative effect on SJI, SJI could be required to provide additional support to certain counterparties of the wholesale gas operations.
 
Hedging activities of the company designed to protect against commodity price or interest rate risk may cause fluctuations in reported financial results and SJI’s stock price could be adversely affected as a result. Although SJI enters into various contracts to hedge the value of energy assets, liabilities, firm commitments or forecasted transactions, the timing of the recognition of gains or losses on these economic hedges in accordance with accounting principles generally accepted  in the United States of America does not always match up with the gains or losses on the items being hedged. The difference in accounting can result in volatility in reported results, even though the expected profit margin is essentially unchanged from the dates the transactions were consummated.
 
The inability to obtain natural gas would negatively impact the financial performance of SJI. Several of SJI’s subsidiaries have businesses based upon the ability to deliver natural gas to customers. Disruption in the production of natural gas or transportation of that gas to SJI from its suppliers, could prevent SJI from completing sales to its customers.
 
 Transporting and storing natural gas involves numerous risks that may result in accidents and other operating risks and costs. SJI’s gas distribution activities involve a variety of inherent hazards and operating risks, such as leaks, accidents, mechanical problems, natural disasters or terrorist activities which could cause substantial financial losses. In addition, these risks could result in loss of human life, significant damage to property, environmental pollution and impairment of operations, which in turn could lead to substantial losses. In accordance with customary industry practice, SJI maintains insurance against some, but not all, of these risks and losses. The occurrence of any of these events not fully covered by insurance could adversely affect SJI’s financial position and results of operations.
 
Adverse results in legal proceedings could be detrimental to the financial condition of SJI. The outcomes of legal proceedings can be unpredictable and can result in adverse judgments.

Item 1B. Unresolved Staff Comments
 
None.

Item 2. Properties

The principal property of SJI consists of SJG’s 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 SJG’s distribution systems for delivery to customers. As of December 31, 2007, there were approximately 107.3 miles of mains in the transmission systems and 5,721 miles of mains in the distribution systems.

SJG owns approximately 154 acres of land in Folsom, New Jersey which is the site of SJI’s corporate headquarters. Approximately 140 acres of this property is deed restricted. SJG also has office and service buildings at six other locations in the territory. There is a liquefied natural gas storage and vaporization facility at one of these locations.

 
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As of December 31, 2007, SJG’s utility plant had a gross book value of $1,124.0 million and a net book value, after accumulated depreciation, of $847.7 million. In 2007, $49.8 million was spent on additions to utility plant and there were retirements of property having an aggregate gross book cost of $5.6 million.
 
Virtually all of SJG’s transmission pipeline, distribution mains and service connections are in streets or highways or on the property of others. The transmission and distribution systems are maintained under franchises or permits or rights-of-way, many of which are perpetual. SJG’s properties (other than property specifically excluded) are subject to a lien of mortgage under which its first mortgage bonds are outstanding. We believe these properties are well maintained and in good operating condition.

Nonutility property and equipment with a net book value of $101.2 million consists primarily of Marina’s energy projects, in particular the thermal energy plant in Atlantic City, N.J.

Energy and Minerals Inc. (EMI) owns 235 acres of land in Vineland, New Jersey.

South Jersey Fuel, Inc., an inactive subsidiary, owns land and a building in Deptford Township and owns real estate in Upper Township, New Jersey.

R&T Castellini, Inc., an inactive subsidiary, owns land and buildings in Vineland, New Jersey.
 
Item 3. Legal Proceedings

SJI is subject to claims arising in the ordinary course of business and other legal proceedings. We accrue liabilities related to these claims when we can determine the amount or range of amounts of probable settlement costs for these claims. Among other actions, SJI is named in certain product liability claims related to our former sand mining subsidiary. Management does not currently anticipate the disposition of any known claims to have a material adverse effect on SJI’s financial position, results of operations or liquidity.

Item 4. Submission Of Matters To A Vote of Security Holders

No matter was submitted to a vote of security holders during the fourth quarter of the 2007 fiscal year.

Item 4A. Executive Officers of the Registrant

Set forth below are the names, ages and positions of our executive officers along with their business experience during the past five years. All executive officers of SJI are elected annually and serve at the discretion of the Board of Directors. All information is as of the date of the filing of this report.

 
Name, age and position with the Company
Period Served
     
 
Edward J. Graham, Age 50
 
 
Chairman
April 2005 - Present
 
Chief Executive Officer
February 2004 - Present
 
President
January 2003 - Present
 
Chief Operating Officer
January 2002 - February 2004
 
Executive Vice President
January 2002 - January 2003
     
 
David A. Kindlick, Age 53
 
 
Chief Financial Officer
January 2002 - Present
 
Vice President
June 1997 - Present
 
Treasurer
April 2001 - January 2004

 
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Jeffery E. DuBois, Age 49
 
 
Vice President
January 2004 - Present
 
Assistant Vice President (SJG)
January 2002 - January 2004
     
 
Michael J. Renna, Age 40
 
 
Vice President
January 2004 - Present
 
Assistant Vice President
January 2002 - January 2004
     
 
Richard H. Walker, Jr., Age 57
 
 
Vice President, General Counsel and Secretary
January 2006 - Present
 
Vice President, Corporate Counsel & Corporate Secretary
May 2003 - January 2006
 
Corporate Counsel & Corporate Secretary
April 2002 - May 2003
     
 
Kevin D. Patrick,  Age 47
 
 
Vice President
June 2007 - Present
 
 Albertsons/Super Valu
 
 
          Division CFO – Eastern Region
September 2004 – June 2006
 
 Brown-Forman Corporation
 
 
          Assistant Vice President Corporate Development
June 2000 – September 2004
     
 
Sharon M. Pennington, Age 45
 
 
Vice President
January 2008 to Present
 
Vice President (SJI Services LLC)
January 2006 – December 2007
 
Assistant Vice President (SJG)
April 2004 – December 2005
 
Director, Human Resources (SJG)
July 2002 – March 2004


PART II

Item 5. Market for the Registrant’s Common Equity,
Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Price of Common Stock and Related Information
                 
                                       
                                       
Quarter Ended
Market Price Per Share
 
Dividends
 
Quarter Ended
Market Price Per Share
 
Dividends
 
               
Declared
                 
Declared
 
2007
 
High
   
Low
   
Per Share
 
2006
 
High
   
Low
   
Per Share
 
                                       
March 31
  $ 38.56     $ 31.81     $ 0.2450  
March 31
  $ 30.15     $ 26.72     $ 0.2250  
June 30
  $ 41.27     $ 34.53     $ 0.2450  
June 30
  $ 27.89     $ 25.63     $ 0.2250  
September 30
  $ 36.48     $ 31.20     $ 0.2450  
September 30
  $ 30.09     $ 27.20     $ 0.2250  
December 31
  $ 38.50     $ 33.80     $ 0.2700  
December 31
  $ 34.26     $ 29.10     $ 0.2450  
                                                   
                                                   
These quotations are based on the list of composite transactions of the New York Stock Exchange. Our stock is traded on the New York Stock Exchange under the symbol SJI. We have declared and expect to continue to declare regular quarterly cash dividends. As of December 31, 2007, the latest available date, our records indicate that there were 7,715  shareholders of record.
 


 
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Information required by this item is also found in Note 5 of the consolidated financial statements included under Item 8 of this report. 
 
 SJI has a stated goal of increasing its dividend by at least 6% to 7% annually.

In December 2007, non-employee members of SJI’s Board of Directors received an aggregate of  3,132 shares of unregistered stock, valued at that time at $115,446, as part of their compensation for serving on the Board.

 
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Item 6. Selected Financial Data

2007 HIGHLIGHTS
                             
Five-Year Summary of Selected Financial Data
 
South Jersey Industries, Inc. and Subsidiaries
 
(In Thousands Where Applicable)
 
Year Ended December 31,
 
                               
   
2007
   
2006
   
2005
   
2004
   
2003
 
                               
                               
Operating Results:
                             
Operating Revenues
  $ 956,371     $ 931,428     $ 906,016     $ 819,416     $ 703,898  
                                         
Operating Income
  $ 129,623     $ 145,802     $ 86,818     $ 91,079     $ 76,545  
                                         
Income Applicable to Common Stock:
                                       
Continuing Operations
  $ 62,659     $ 72,250     $ 39,770     $ 43,173     $ 33,789  
Discontinued Operations - Net (1)
    (391 )     (818 )     (669 )     (680 )     (775 )
Cumulative Effect of a Change in Accounting Principle - Net
    -       -       -       -       (426 )
                                         
 Net Income Applicable to Common Stock
  $ 62,268     $ 71,432     $ 39,101     $ 42,493     $ 32,588  
                                         
Total Assets
  $ 1,529,441     $ 1,573,032     $ 1,441,712     $ 1,243,666     $ 1,126,203  
                                         
Capitalization:
                                       
Common Equity
  $ 481,080     $ 443,036     $ 393,645     $ 343,363     $ 296,412  
Preferred Stock (2)
    -       -       -       1,690       1,690  
Long-Term Debt
    357,896       358,022       319,066       328,914       308,781  
                                         
 Total Capitalization
  $ 838,976     $ 801,058     $ 712,711     $ 673,967     $ 606,883  
                                         
Ratio of Operating Income to Fixed Charges (3)
    4.8 x     5.3 x     4.1 x     4.4 x     3.7 x
                                         
Diluted Earnings Per Common Share
                                       
(Based on Average Diluted Shares Outstanding):
                                       
Continuing Operations
  $ 2.12     $ 2.47     $ 1.40     $ 1.56     $ 1.33  
Discontinued Operations - Net (1)
    (0.02 )     (0.03 )     (0.02 )     (0.03 )     (0.03 )
Cumulative Effect of a Change in Accounting Principle - Net
    -       -       -       -       (0.02 )
                                         
 Diluted Earnings Per Common Share
  $ 2.10     $ 2.44     $ 1.38     $ 1.53     $ 1.28  
                                         
Return on Average Common Equity (4)
    13.3 %     16.9 %     12.5 %     13.0 %     12.5 %
                                         


 
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Share Data:
                             
Number of Shareholders of Record
    7.7       7.9       8.1       8.1       8.3  
Average Common Shares
    29,480       29,175       28,175       27,382       25,118  
Common Shares Outstanding at Year End
    29,607       29,326       28,982       27,760       26,458  
Dividend Reinvestment Plan:
                                       
Number of Shareholders
    5.3       5.3       5.3       5.2       5.1  
Number of Participating Shares
    2,179       2,194       2,722       2,764       2,750  
Book Value at Year End
  $ 16.25     $ 15.11     $ 13.58     $ 12.37     $ 11.20  
Dividends Declared per Common Share
  $ 1.01     $ 0.92     $ 0.86     $ 0.82     $ 0.78  
Market Price at Year End
  $ 36.09     $ 33.41     $ 29.14     $ 26.28     $ 20.25  
Dividend Payout :
                                       
From Continuing Operations
    47.3 %     37.2 %     60.9 %     52.0 %     58.0 %
From Total Net Income
    47.6 %     37.6 %     62.0 %     52.8 %     60.1 %
Market-to-Book Ratio
    2.2 x     2.2 x     2.1 x     2.1 x     1.8 x
Price Earnings Ratio (4)
    17.0 x     13.5 x     20.8 x     16.8 x     15.2 x
                                         
                                         
(1) Represents discontinued business segments: sand mining and distribution operations (sold in 1996) and fuel oil operations with related environmental liabilities (discontinued in 1986) (See Note 2 to Consolidated Financial Statements).
 
(2) On May 2, 2005, South Jersey Gas (SJG) redeemed its 8% Redeemable Cumulative Preferred Stock at par.
         
(3) Calculated as Operating Income divided by Interest Charges.
                                 
(4) Calculated based on Income from Continuing Operations.
                         
                                         


 
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Item 7. Management’s Discussion and Analysis of Financial Condition and
Results of Operations
  
 
OVERVIEW — SJI is an energy services holding company that provides a variety of products and services through the following wholly owned subsidiaries:

South Jersey Gas Company (SJG)

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 61.1% of SJI’s net income on a consolidated basis in 2007.

SJG’s service territory covers approximately 2,500 square miles in the southern part of New Jersey. It includes 112 municipalities throughout Atlantic, Cape May, Cumberland and Salem Counties and portions of Burlington, Camden and Gloucester Counties, with an estimated permanent population of 1.2 million. SJG benefits from its proximity to Philadelphia, PA and Wilmington, DE on the western side of its service territory and Atlantic City, NJ and the burgeoning shore communities on the eastern side. Economic development and housing growth have long been driven by the development of the Philadelphia metropolitan area. In recent years, housing growth in the eastern portion of the service territory has increased substantially and now accounts for approximately half of SJG’s annual customer growth. The foundation for growth in Atlantic City and the surrounding region rests primarily with new gaming and non-gaming investments that emphasize destination style attractions. The casino industry is expected to remain a significant source of regional economic development going forward. The ripple effect from Atlantic City continues to produce new housing and commercial and industrial construction. Combining with the gaming industry catalyst is the ongoing conversion of southern New Jersey’s oceanfront communities from seasonal resorts to year round economies. New and expanded hospitals, schools, and large scale retail developments throughout the service territory have contributed to SJG’s growth. Presently, SJG serves approximately 64% 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, 2007, SJG served a total of 335,663 residential, commercial and industrial customers in southern New Jersey, compared with 330,049 customers at December 31, 2006. No material part of SJG’s business is dependent upon a single customer or a few customers. Gas sales, transportation and capacity release for 2007 amounted to 141.6 MMDth (million decatherms), of which 53.4 MMDth were firm sales and transportation, 3.1 MMDth were interruptible sales and transportation and 85.1 MMDth were off-system sales and capacity release. The breakdown of firm sales and transportation includes 45.7% residential, 23.0% commercial, 23.0% industrial, and 8.3% cogeneration and electric generation. At year-end 2007, SJG served 312,969 residential customers, 22,220 commercial customers and 474 industrial customers. This includes 2007 net additions of 5,050 residential customers and 564 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 Federal Energy Regulatory Commission (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 2007, off-system sales amounted to 17.7 MMdth and capacity release amounted to 67.4 MMdth.

 
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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 2007, usage by interruptible customers, excluding off-system customers amounted to approximately 3.1 MMDth, approximately 2.2% of the total throughput.

South Jersey Energy Solutions, LLC

Effective January 1, 2006, SJI established South Jersey Energy Solutions, LLC, (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:
 
South Jersey Resources Group, LLC (SJRG)

SJRG markets natural gas storage, commodity and transportation assets on a wholesale basis. Customers include energy marketers, electric and gas utilities and natural gas producers. SJRG’s marketing activities occur mainly in the mid-Atlantic 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 2007, SJRG transacted 87.3 Bcf of natural gas. SJRG contributed approximately 29.5% of SJI’s net income on a consolidated basis.

Marina Energy, LLC (Marina)

Marina develops and operates energy-related projects. Marina's largest operating project provides cooling, heating and emergency power to the Borgata Hotel Casino & Spa in Atlantic City, NJ. Marina added service to Borgata’s expanded facilities in July 2006 and service to a new hotel tower is expected to begin in the second quarter of 2008.  Marina also has a 50% equity interest in LVE Energy Partners, LLC which has entered into a contract to design, build, own and operate a district energy system and central energy center for a planned resort in Las Vegas, Nevada.

Marina’s other recent projects include:

·
A 51% equity interest in AC Landfill Energy, LLC (ACLE) which began commercial operation in Egg Harbor Township, NJ of a 1,600 kilowatt landfill gas-fired electricity production facility in March 2005 and a 1,900 kilowatt facility in August 2006. An additional 1,900 kilowatt facility began commercial operations in the first quarter of 2008.

·
A 51% equity interest in WC Landfill Energy, LLC (WCLE) which began commercial operation in White Township, NJ of a 3,800 kilowatt landfill gas-fired electricity production facility in November 2006.

·
A 50% equity interest in a partnership that leases and operates a 7,200 kilowatt landfill gas-fired electricity production facility in Burlington County, NJ, which began commercial operations in October 2007.  

·
A 50% equity interest in a partnership that will own and operate a 1,900 kilowatt landfill gas-fired electricity production facility in Salem County, NJ.  This facility is expected to be operational in the third quarter of 2008.

Marina contributed approximately 5.8% of SJI’s net income on a consolidated basis.

 
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South Jersey Energy Company (SJE)

SJE provides services for the acquisition and transportation of natural gas and electricity for retail end users, markets total energy management services, and prior to June 30, 2006, marketed an air quality monitoring system. As of December 31, 2007, SJE marketed natural gas and electricity to approximately 15,960 customers, which consist of approximately 85% residential gas customers and 15% commercial/industrial customers. Most customers served by SJE are located within southern New Jersey and northwestern Pennsylvania. In 2007, SJE contributed approximately 2.2% of SJI’s net income on a consolidated basis.
 
South Jersey Energy Service Plus, LLC (SJESP)

SJESP installs and services residential and small commercial HVAC systems, provides plumbing services, and services appliances via the sale of appliance service programs as well as on a time and materials basis. SJESP serves southern New Jersey where it is the largest local appliance service company with nearly 50 experienced, NATE certified technicians and installers. As of December 31, 2007, SJESP had approximately 75,000 service contract customers, representing approximately 150,000 service contracts for the repair and maintenance of major appliances, such as house heaters, water heaters, gas ranges, and electric central air conditioning units. SJESP contributed approximately 1.2% of SJI’s net income on a consolidated basis.

Other

SJI Services, LLC was established January 1, 2006, for the purpose of providing services such as information technology, human resources, government relations, corporate communications, materials purchasing, fleet management and insurance to SJI and its other subsidiaries.

Energy & Minerals, Inc. (EMI) principally manages liabilities associated with discontinued operations of nonutility subsidiaries.

SJI also has a joint venture investment with Conectiv Solutions, LLC in Millennium Account Services, LLC (Millennium). Millennium provides meter reading services to SJG and Atlantic City Electric Company in southern New Jersey.

Primary Factors Affecting SJI’s Business

SJI’s stated long-term goals are to: 1) Grow earnings per share from continuing operations by an average of at least 6% to 7% per year; 2) Increase the dividend on common stock by at least 6% to 7% annually; and 3) Maintain a low-to-moderate risk platform. 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 long-term goals going forward:

Business Model — In developing SJI’s current business model, our focus has been on our core utility and natural extensions of that business. That focus enables us to concentrate on business activities that match our core competencies. Going forward we expect to pursue business opportunities that fit this model.

 
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Customer Growth — The vibrancy of the economic development in and adjacent to southern New Jersey, our primary area of operations, and related strong demand for new housing enabled our utility to increase its customer base at an average rate of 2.5 % over the past five years.   In the face of well publicized issues in the new housing market during 2007, net customer growth totaled 1.7% for the year. A smaller, but still significant driver of customer growth is conversion from other heating fuels, such as electric or oil. Conversions have historically accounted for 20-25% of annual utility customer growth. Customers in our service territory typically base their decisions to convert on comparisons of fuel costs and environmental considerations. While housing growth most significantly benefits utility performance, it also translates into additional opportunities to market retail products and services through our nonutility businesses.

Regulatory Environment — SJG is primarily regulated by the New Jersey Board of Public Utilities (BPU). The BPU sets the rates that SJG charges its rate-regulated customers for services provided and establishes the terms of service under which SJG operates. We expect the BPU to continue to set rates and establish terms of service that will enable SJG to obtain a fair and reasonable return on capital invested. The BPU approved a Conservation Incentive Program (CIP) effective October 1, 2006, discussed in greater detail under Results of Operations, that protects SJG’s net income from reductions in gas used by residential and commercial customers.

Weather Conditions and Customer Usage Patterns — Usage patterns can be affected by a number of factors, such as wind, precipitation, temperature extremes and customer conservation. SJG’s earnings are largely protected from fluctuations in temperatures by the CIP, which superseded the Temperature Adjustment Clause (TAC), effective October 1, 2006. The CIP has a stabilizing effect on utility earnings as SJG adjusts revenues when actual usage per customer experienced during an annual period varies from an established baseline usage per customer. Our nonutility gas retail marketing business is directly affected by weather conditions, as it does not have regulatory mechanisms that address weather volatility. The impact of different weather conditions on the earnings of our nonutility businesses is dependent on a range of different factors. Consequently, weather may impact the earnings of SJI’s various subsidiaries in different, or even opposite, ways. Further, the profitability of individual subsidiaries may vary from year-to-year despite experiencing substantially similar weather conditions.
 
Changes in Natural Gas Prices — In recent years, prices for natural gas have become increasingly volatile. The utility’s gas costs are passed on directly to customers without any profit margin added by SJG. The price the utility charges its periodic customers is set annually, with a regulatory mechanism in place to make limited adjustments to that price during the course of a year. In the event that gas cost increases would justify customer price increases greater than those permitted under the regulatory mechanism, SJG can petition the BPU for an incremental rate increase. High prices can make it more difficult for our customers to pay their bills and may result in elevated levels of bad-debt expense. Among our nonutility activities, the one most likely to be impacted by changes in natural gas prices is our wholesale gas marketing business. Wholesale gas marketing typically benefits from volatility in gas prices during different points in time. The actual price of the commodity does not typically have an impact on the performance of this business line.  Our ability to add and retain customers at our retail gas marketing business is affected by the relationship between the price that the utility charges customers for gas and the cost of gas available in the market at specific points in time.  However, retail gas marketing accounts for a very small portion of SJI’s overall activities.
 
Energy Project Development — Marina Energy, LLC, SJI’s energy project development business, focuses on designing, building, owning and/or operating energy production facilities on, or adjacent to, customer sites. That business is currently involved with eight projects that are either operating, or are under development. Based upon our experience to date, market issues that impact the reliability and price of electricity supplied by utilities, and discussions that we are having regarding additional projects; we expect to continue to expand this business. However, the price of natural gas also has a direct effect on the economics of these projects.  Further, our largest project opportunities to date have been and are expected to continue to be in the casino gaming industry.  Consequently, the economic condition of that industry is important to the near term prospects for obtaining additional projects.

Changes in Interest Rates — SJI has operated in a relatively low interest rate environment over the past several years. Rising interest rates would raise the expense associated with existing variable-rate debt and all issuances of new debt. We have sought to mitigate the impact of a potential rising rate environment by directly issuing fixed-rate debt, or by entering into derivative transactions to hedge against rising interest rates.

 
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Labor and Benefit Costs — Labor and benefit costs have a significant impact on SJI’s profitability. Benefit costs, especially those related to health care, have risen in recent years. We sought to manage these costs by revising health care plans offered to existing employees, capping postretirement health care benefits, and changing health care and pension packages offered to new hires. We expect savings from these changes to gradually increase as new hires replace retiring employees. Our workforce totaled 604 employees at the end of 2007, with 58% of that total under collective bargaining agreements that run to January 2009.

Balance Sheet Strength — Our goal is to maintain a strong balance sheet with an average annual equity-to-capitalization ratio of 46% to 50%. Our equity-to-capitalization ratio, inclusive of short-term debt, was 50.3 % and 44.4% at the end of 2007 and 2006, respectively. A strong balance sheet permits us to maintain the financial flexibility necessary to take advantage of growth opportunities and to address volatile economic and commodity markets while maintaining a low-to-moderate risk platform.

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. Five 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, and revenue recognition.

Regulatory Accounting — SJI’s largest subsidiary, SJG, maintains its accounts according to the Uniform System of Accounts as prescribed by the New Jersey Board of Public Utilities (BPU). As a result of the ratemaking process, SJG is required to follow Financial Accounting Standards Board (FASB) Statement No. 71, “Accounting for the Effects of Certain Types of Regulation.” SJG is required under Statement No. 71 to recognize the impact of regulatory decisions on its financial statements. SJG is required under its Basic Gas Supply Service clause (BGSS) to forecast its natural gas costs and customer consumption in setting its rates. Subject to BPU approval, SJG is able to recover or return the difference between gas cost recoveries and the actual costs of gas through a BGSS charge to customers. SJG records any over/under recoveries as a regulatory asset or liability on the consolidated balance sheets and reflects it in the BGSS charge to customers in subsequent years. SJG also enters into derivatives that are used to hedge natural gas purchases. The offset to the resulting derivative assets or liabilities is also recorded as a regulatory asset or liability on the consolidated balance sheets.
 
The Conservation Incentive Program (CIP) is a BPU approved three-year pilot program that began October 1, 2006, and is designed to eliminate the link between SJG’s profits and the quantity of natural gas sold, and foster conservation efforts.  With the CIP, SJG’s profits are tied to the number of customers served and how efficiently we serve them, thus allowing SJG to focus on encouraging conservation and energy efficiency among our customers without negatively impacting net income.  The CIP tracking mechanism adjusts earnings based on weather and also adjusts earnings where actual usage per customer experienced during an annual period varies from an established baseline usage per customer.  Utility earnings are 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.

In addition to the BGSS and the CIP, other regulatory assets consist primarily of remediation costs associated with manufactured gas plant sites (discussed below under Environmental Remediation Costs), deferred pension and other postretirement benefit cost, and several other assets as detailed in Note 10 to the consolidated financial statements. If there are changes in future regulatory positions that indicate the recovery of such regulatory assets is not probable, SJG would charge the related cost to earnings. Currently there are no such anticipated changes at the BPU.

 
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Derivatives — SJI recognizes assets or liabilities for contracts that qualify as derivatives that are entered into by its subsidiaries when contracts are executed. We record contracts at their fair value in accordance with FASB Statement No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended. We record changes in the fair value of the effective portion of derivatives qualifying as cash flow hedges, net of tax, in Accumulated Other Comprehensive Loss and recognize such changes in the income statement when the hedged item affects earnings. Changes in the fair value of derivatives not designated as hedges are recorded in earnings in the current period. In 2007, we changed our policy to no longer designate energy-related derivative instruments as cash flow hedges. 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 accounting principles under FASB Statement No. 71, derivatives related to SJG’s gas purchases that are marked-to-market, are recorded through the BGSS.  SJG occasionally enters 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 SJG’s BGSS, subject to BPU approval (See Notes 9 and 10 to the consolidated financial statements). We adjust the fair value of the contracts each reporting period for changes in the market. We derive the fair value for most of the energy-related contracts from markets where the contracts are actively traded and quoted. For other contracts, SJI uses published market surveys and, in certain cases, unrelated third parties to validate management’s estimate of the contracts' current value. Market quotes tend to be more plentiful for contracts maturing in two years or less.

Environmental Remediation Costs —We estimate a range of future costs based on projected investigation and work plans using existing technologies. In preparing consolidated financial statements, SJI records liabilities for future costs using the lower end of the range of future costs because a single reliable estimation point is not feasible due to the amount of uncertainty involved in the nature of projected remediation efforts and the long period over which remediation efforts will continue. We update estimates each year to take into account past efforts, changes in work plans, remediation technologies, government regulations and site specific requirements (See Note 14 to the consolidated financial statements).

Pension and Other Postretirement Benefit Costs — The costs of providing pension and other postretirement employee benefits are impacted by actual plan experience as well as assumptions of future experience. Employee demographics, plan contributions, investment performance, and assumptions concerning mortality, return on plan assets, discount rates and health care cost trends all have a significant impact on determining our projected benefit obligations. We evaluate these assumptions annually and adjust them accordingly. These adjustments could result in significant changes to the net periodic benefit costs of providing such benefits and the related liabilities recognized by SJI.    In 2006 we changed to a more current mortality table (the RP 2000 table) which resulted in an increase in benefit costs.  However, a 20 basis point increase in the discount rate and higher than expected returns on plan assets during 2006 more than offset this increase and resulted in a net decrease to benefit costs in 2007.  Further, an additional 32 basis point increase in the discount rate, higher than expected returns on plan assets during 2007, and a pension contribution in the first quarter of 2008 are expected to further reduce such benefit costs in 2008.

Revenue Recognition — Gas and electricity revenues are recognized in the period the commodity is delivered to customers. SJG, SJRG and SJE bill customers monthly. A majority of SJG and SJE customers have their meters read on a cycle basis throughout the month. For SJG and SJE retail customers that are not billed at the end of each month, we record an estimate to recognize unbilled revenues for gas/electricity delivered from the date of the last meter reading to the end of the month. SJG’s and SJE’s 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. SJE’s unbilled revenue for retail electricity is based on customer-specific use factors and applicable customer rates. We bill SJG customers at rates approved by the BPU. SJE and SJRG customers are billed at rates negotiated between the parties.

 We recognize revenues related to SJESP’s appliance service contracts seasonally over the full 12-month term of the contract. Revenues related to services provided on a time and materials basis are recognized on a monthly basis as the services are provided.

Marina recognizes revenue on a monthly basis as services are provided and for on-site energy production that is delivered to its customers.

 
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The BPU allows SJG to recover gas costs in rates through the Basic Gas Supply Service (BGSS) price structure. SJG defers 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 SJG realizes 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 9 and 10 to the consolidated financial statements).

In October 2006, the BPU approved the Conservation Incentive Program (CIP) as a three-year pilot program.  Each CIP year begins October 1 and ends September 30 of the subsequent year.  On a monthly basis during the CIP year, SJG records adjustments to earnings 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 earnings at that time.

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

RATES AND REGULATIONS — As a public utility, SJG is subject to regulation by the New Jersey Board of Public Utilities (BPU). Additionally, the Natural Gas Policy Act, which was enacted in November 1978, contains provisions for Federal regulation of certain aspects of SJG’s business. SJG is affected by Federal regulation with respect to transportation and pricing policies applicable to pipeline capacity from Transcontinental Gas Pipeline Corporation (SJG’s major supplier), Columbia Gas Transmission Corporation, Columbia Gulf Transmission Company, Dominion Transmission, Inc., and Texas Gas Transmission Corporation, since such services are provided under rates and terms established under the jurisdiction of the FERC. SJG’s 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. SJG’s primary rate mechanisms include base rates, the Basic Gas Supply Service Clause, Temperature Adjustment Clause and Conservation Incentive Program.

Basic Gas Supply Service Clause (BGSS) - In December 2002, the BPU approved the BGSS price structure which gave SJG customers the ability to make more informed decisions regarding their choices of an alternate supplier by having a utility price structure that is more consistent with market conditions. The cost of gas purchased from the utility by periodic consumers is set annually by the BPU through a BGSS clause within the tariff. When actual gas costs experienced are less than those charged to customers under the BGSS, customer bills in the subsequent BGSS period(s) are reduced by returning the overrecovery with interest. When actual gas costs are more than is recovered through rates, SJG is permitted to charge customers more for gas in future periods to recover the shortfall.

Temperature Adjustment Clause (TAC) - Through September 30, 2006, SJG’s tariff included a TAC to mitigate the effect of variations in heating season temperatures from historical norms. The TAC has been replaced with the Conservation Incentive Program (discussed below). Each TAC year ran from November 1 through May 31 of the following year. Once the TAC year ended, a petition demonstrating the net earnings impact was filed with the BPU for future recovery. As a result, the cash inflows or outflows generally would not begin until the next TAC year. Because of the timing delay between the earnings impact and the recovery, the net result could have been either a regulatory asset or liability.

Conservation Incentive Program (CIP) - The CIP is a BPU approved three-year pilot program that began October 1, 2006 and is designed to eliminate the link between SJG profits and the quantity of natural gas SJG sells, and 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 earnings based on weather, as did the TAC, and also adjusts SJG’s earnings when actual usage per customer experienced during an annual period varies from an established baseline usage per customer.

 
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 Similar to the TAC, utility earnings are 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.

The effects of the TAC and the CIP on SJG’s net income for the last three years and the associated weather comparisons were as follows ($’s in millions):

   
2007
   
2006
   
2005
 
Net Income Benefit/(Reduction):
                 
     TAC
  $ -     $ 5.1     $ (0.2 )
     CIP – Weather Related
    1.6       2.9       -  
      CIP – Usage Related
    5.9       1.7       -  
                 Total Net Income Benefit/(Reduction)
  $ 7.5     $ 9.7     $ (0.2 )
                         
 
Weather Compared to 20-Year TAC Average
 
3.2% warmer
   
15.0 % warmer
   
3.0 % colder
 
 
Weather Compared to Prior Year
 
13.8% colder
   
17.5 % warmer
   
2.9 % colder
 

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.

Earnings accrued and payments received under the CIP are limited to a level that will not cause SJG’s return on equity to exceed 10% (excluding earnings from off-system gas sales and certain other tariff clauses) and the annualized savings attained from reducing gas supply and storage assets.

Other Rate Mechanisms - SJG’s tariff also contains provisions permitting the recovery of environmental remediation costs associated with former manufactured gas plant sites, energy efficiency and renewable energy program costs, consumer education program costs and low-income program costs. These costs are recovered from customers through the Societal Benefits Clause.

See additional detailed discussions on Rates and Regulatory Actions in Note 9 to the consolidated financial statements.

ENVIRONMENTAL REMEDIATION — See detailed discussion concerning Environmental Remediation in Note 14 to the consolidated financial statements.
 
COMPETITION — SJG’s franchises are non-exclusive. Currently, no other utility provides retail gas distribution services within SJG’s territory. SJG does not expect any other utilities to do so in the foreseeable future because of the extensive investment required for utility plant and related costs. SJG competes 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. We enhanced SJG’s competitive position while maintaining margins by using an unbundled tariff. This tariff allows full cost-of-service recovery when transporting gas for our 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 we recover the cost of service through transportation service (See Customer Choice Legislation below).

 
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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 ten years. There has been significant consolidation of energy wholesale operations and large financial institutions have also entered the marketplace. We expect this trend to continue in the near term, which could result in downward pressure on the margins available.

Marina competes with other companies that develop and operate 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.

SJE competes with utilities and other third-party marketers to sell the unregulated natural gas and electricity commodity to customers. Marketers compete largely on price, which is driven by the commodity market. While the utilities are typically indifferent as to where customers get their gas or electricity, the price they set for the commodity they sell creates competition for SJE. Based on its market share, SJE is the largest marketer of natural gas in southern New Jersey with approximately 14,650 customers as of December 31, 2007. In addition, similar to SJG, SJE faces competition from other energy products.
 
SJESP competes primarily with smaller, local contractors in southern New Jersey that install residential and commercial HVAC systems and provide major appliance repair and plumbing services. These contractors typically only serve their local communities and do not serve the entire southern part of New Jersey.
 
CUSTOMER CHOICE LEGISLATIONAll residential natural gas customers in New Jersey can choose their natural gas commodity supplier under the terms of the “Electric Discount and Energy Competition Act of 1999.” This bill created the framework and necessary time schedules for the restructuring of the state’s electric and natural gas utilities. The Act established unbundling, where redesigned utility rate structures allow natural gas and electric consumers to choose their energy supplier. It also established time frames for instituting competitive services for customer account functions and for determining whether basic gas supply services should become competitive. Customers purchasing natural gas from a provider other than the local utility (marketer) are charged for the gas costs by the marketer and charged for the transportation costs by the utility. The total number of customers in SJG’s service territory purchasing natural gas from a marketer averaged 25,309; 16,392 and 60,934 during 2007, 2006 and 2005 respectively.

RESULTS OF OPERATIONS:

SJI operates in several different reportable operating segments. Gas Utility Operations (SJG) consists primarily of natural gas distribution to residential, commercial and industrial customers. Wholesale Gas Operations include SJRG’s activities. SJE is involved in both retail gas and retail electric activities. Retail Gas and Other Operations include natural gas acquisition and transportation service business lines. Retail Electric Operations consist of electricity acquisition and transportation to commercial and industrial customers. On-Site Energy Production consists of Marina’s thermal energy facility and other energy-related projects. Appliance Service Operations includes SJESP’s servicing of appliances via the sale of appliance service programs as well as on a time and materials basis, and the installation of residential and small commercial HVAC systems.

A significant portion of the volatility in operating results is due to the impact of the accounting methods associated with SJRG’s storage activities. SJRG purchases and holds natural gas in storage to earn a profit margin from its ultimate sale in the future. SJRG uses derivatives to mitigate commodity price risk in order to substantially lock-in the profit margin that will ultimately be realized. However, gas stored in inventory is accounted for at the lower of average cost or market; the derivatives used to reduce the risk associated with a change in the value of the inventory are accounted for at fair value, with changes in fair value recorded in operating results in the period of change. As a result, earnings are subject to volatility as the market price of derivatives change, even when the underlying hedged value of the inventory is unchanged. This volatility can be significant from period to period. Over time, gains or losses on sale of gas in storage will be offset by losses or gains on the derivatives, resulting in the realization of the profit margin expected when the transactions were initiated.

 
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Net Income in 2007 decreased $9.2 million, or 12.9% to $62.3 million compared to 2006. This decrease is primarily due to:

·
a 34.1% decrease in gross margin generated by SJRG related to unrealized gains on energy related derivative contracts recognized in 2006 that did not recur in 2007;

·
offset by a 1.7% increase in SJG customers.
 
 
Net Income in 2006 increased $32.3 million, or 82.7% to $71.4 million compared to 2005. This increase was primarily due to:

·
a 163% increase in gross margin generated from SJRG related to $30.8 million of unrealized gains (pre-tax) on energy related derivatives contracts recognized in 2006 and favorable time spreads on storage asset positions;
·
a 2.4% increase in SJG customers and;
·
a $5.0 million reduction in utility operations expense.

These increases were offset by the impact of SJE returning all of its residential customers back to the utility in the third quarter of 2005 and a 16% increase in borrowing costs during 2006.
These changes are discussed in more detail below.

Operating Revenues and Throughput— Utility — The following table summarizes the composition of select gas utility data for the three years ended December 31 (in thousands, except for customer and degree day data):

   
2007
   
2006
   
2005
 
Utility Throughput – dth:
                                   
Firm Sales -
                                   
     Residential
    22,523       16 %     19,830       15 %     19,464       12 %
     Commercial
    6,339       4 %     6,958       5 %     7,607       5 %
     Industrial
    193       -       296       -       204       -  
     Cogeneration and electric generation
    1,335       1 %     1,103       1 %     1,743       1 %
Firm Transportation -
                                               
     Residential
    1,870       1 %     956       1 %     5,755       4 %
     Commercial
    5,927       4 %     4,420       3 %     5,267       3 %
     Industrial
    12,107       9 %     11,970       9 %     12,920       8 %
     Cogeneration and electric generation
    3,088       2 %     2,625       2 %     3,604       2 %
                                                 
     Total Firm Throughput
    53,382       37 %     48,158       36 %     56,564       35 %
                                                 
Interruptible Sales
    68       -       93       -       119       -  
Interruptible Transportation
    3,002       2 %     3,474       3 %     2,836       2 %
Off-System
    17,686       13 %     18,221       13 %     15,045       9 %
Capacity Release
    67,430       48 %     66,458       48 %     86,119       54 %
Intercompany Throughput
    (12,282 )             (15,573 )             (7,856 )        
                                                 
     Total Throughput - Utility
    129,286       100 %     120,831       100 %     152,827       100 %


 
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Utility Operating Revenues:
                                   
Firm Sales-
                                   
     Residential
  $ 342,809       54 %   $ 334,201       52 %   $ 252,150       43 %
     Commercial
    80,237       13 %     99,578       15 %     88,321       15 %
     Industrial
    8,381       1 %     6,590       1 %     4,428       1 %
     Cogeneration and electric generation
    11,722       2 %     10,746       2 %     17,916       3 %
Firm Transportation -
                                               
     Residential
    8,982       1 %     4,768       1 %     25,296       4 %
     Commercial
    17,299       3 %     12,510       2 %     14,043       3 %
     Industrial
    12,229       2 %     11,351       2 %     11,437       2 %
     Cogeneration and electric generation
    1,847       -       1,552       -       1,821       -  
                                                 
     Total Firm Revenues
    483,506       76 %     481,296       75 %     415,412       71 %
                                                 
Interruptible Sales
    785       -       1,109       -       1,498       -  
Interruptible Transportation
    1,970       -       1,868       -       1,898       -  
Off-System
    131,586       22 %     147,180       23 %     153,637       27 %
Capacity Release
    11,208       2 %     9,656       2 %     12,808       2 %
Other
    1,492       -       1,562       -       1,959       -  
Intercompany Sales
    (19,540 )     -       (40,672 )     -       (10,807 )        
                                                 
     Total Utility Operating Revenues
    611,007       100 %     601,999       100 %     576,405       100 %
                                                 
Less:
                                               
Cost of sales
    433,495               431,615               404,144          
Conservation recoveries *
    4,458               6,862               7,933          
RAC recoveries *
    2,056               1,806               2,181          
    Revenue taxes
    8,850               7,890               9,089          
Utility Net Operating Revenues (margin)
  $ 162,148             $ 153,826             $ 153,058          
                                                 
Margin:
                                               
Residential
  $ 102,077       63 %   $ 90,442       59 %   $ 102,706       67 %
Commercial and industrial
    40,036       25 %     38,129       25 %     40,862       27 %
Cogeneration and electric generation
    2,212       1 %     2,189       1 %     2,514       2 %
Interruptible
    195       -       226       -       249       -  
Off-system & capacity release
    2,994       2 %     4,711       3 %     4,697       3 %
Other revenues
    1,952       1 %     1,871       1 %     2,319       1 %
Margin before weather normalization & decoupling
    149,466       92 %     137,568       89 %     153,347       100 %
TAC mechanism
    -       -       8,511       6 %     (289 )     -  
CIP mechanism
    12,682       8 %     7,747       5 %     -       -  
Utility Net Operating Revenues (margin)
  $ 162,148       100 %   $ 153,826       100 %   $ 153,058       100 %
                                                 
Number of Customers at Year End:
                                               
Residential
    312,969       93 %     307,919       93 %     300,652       93 %
Commercial
    22,220       7 %     21,652       7 %     21,322       7 %
Industrial
    474       -       478       -       450       -  
Total Customers
    335,663       100 %     330,049       100 %     322,424       100 %
                                                 
Degree Days
    4,488               3,943               4,777          
                                                 
* Represents revenues for which there is a corresponding charge in operating expenses. Therefore, such recoveries have no impact on our financial results.
 
 
 

 
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Throughput — Utility —  Total gas throughput for SJG increased 3.8% compared with 2006, to 142 MMDth in 2007. While firm throughput accounted for the entire increase, the residential market reflected the greatest improvement by adding 3.6 MMDth over 2006 as a result of 23.3% colder weather and 5,050 additional residential customers in 2007. In 2006, total gas throughput decreased 15.1% compared with 2005, to 136 MMDth. The lower throughput was primarily due to significantly warmer weather experienced during 2006, as previously discussed under the TAC and CIP, which lowered sales and demand for capacity release.

Operating Revenues - Utility— Revenues for SJG increased $9.0 million during 2007, compared with 2006, primarily due to higher OSS revenue after eliminating intercompany transactions.

While SJG added 5,614 customers during the 12-month period ended December 31, 2007, which represents a 1.7% increase in total customers, and weather was 23.3% colder than last year, firm sales revenue only experienced a modest increase of $2.2 million as a result of the decrease in the BGSS gas cost recovery rate and customer migration from firm sales to firm transportation service.  The BGSS rate in 2007 was 10.8% lower than the prior year rate. Last year’s rate was higher to address under recovery of gas costs stemming from substantial increases in wholesale gas prices across the country in 2005. In addition, the average number of transportation customers increased to 25,309 in 2007 as compared to 16,392 in 2006. Transportation customers generate less revenue for SJG because they purchase the gas commodity from a third party marketer. However, as SJG does not profit from the sale of the commodity, neither BGSS rate changes nor customer migration between sales and transportation have an impact on SJG profitability.  

Prior to eliminating intercompany transactions, revenues from off-system sales and capacity release, decreased $14.0 million in 2007 compared with 2006. This decrease is primarily due to a shift from sales, which include the cost of the commodity, to capacity release activity, which does not include the transfer of commodity.  The net contribution to the company’s earnings resulting from this shift in activities was not significant.   In addition, OSS recognized a $4.4 million gain on a financial derivative position in 2006 which did not re-occur in 2007 due to changing market conditions.  It should be noted that this $4.4 million gain only contributed $0.4 million to SJG’s bottom line after regulated sharing of 85% with ratepayers through the BGSS and taxes. The transactions with related parties, which are eliminated in consolidation, experienced a corresponding decrease from $40.7 million during 2006 to $19.5 million during 2007 also as a result of the shift in activity and the non-recurring gain discussed above. After eliminating these related party transactions, OSS, capacity release and storage revenues from unrelated parties increased approximately $7.1 million during 2007 compared with 2006 due to an increase in production area volumes sold.

Revenues for SJG, net of intercompany transactions, increased $25.6 million in 2006, compared with 2005, primarily due to three factors. First, SJG added 7,625 customers in 2006, which represented a 2.4% increase in total customers. Second, as previously discussed under Customer Choice Legislation, the average number of transportation customers decreased 73.1% from 60,934 in 2005 to 16,392 in 2006. As previously discussed, the migration of customers from transportation service back to sales service has a direct impact on utility revenues as charges for gas costs are included in sales revenues and not in transportation revenues. Third, SJG was granted two BGSS rate increases as a result of substantial increases in wholesale natural gas prices across the country. The first increase in September 2005 resulted in a 4.4% increase in the average residential customer’s bill and 5.0% in the average commercial/industrial customer’s bill. The second was effective in December 2005, and resulted in a 24.3% increase in the average residential customer’s bill and 28.4% in the average commercial/industrial customer’s bill. As previously stated, gas costs are passed on directly to customers without any profit margin added by SJG, therefore these BGSS rate increases did not impact profitability. 
 
  Partially offsetting the positive factors noted above were lower customer utilization rates experienced during 2006, before the CIP became effective, compared with 2005. This was primarily due to the impact of higher natural gas prices and conservation efforts on customer usage. Additionally, sales to an electric generation customer were substantially lower than 2005, as the 2006 summer season weather was not nearly as warm as the 2005 summer season.

Operating Revenues — Nonutility 2007 vs. 2006 — Combined revenues for SJI’s nonutility businesses, net of intercompany transactions, increased by $15.9 million in 2007, compared with 2006.

 
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SJE’s revenues from retail gas, net of intercompany transactions, increased by $11.6 million in 2007, compared with 2006 due mainly to the increase in sales from customers that were acquired from a retail gas marketer in northwestern Pennsylvania in November 2006. Revenues also increased in 2007 from sales to over 13,000 residential customers for a full 12 months in 2007. Due to cooperative market conditions, SJE resumed sales to the residential market in April of 2006. These increases were partially offset by lower gas prices for variable price customers throughout 2007 and the decline in SJE’s commercial customer count from 2,035 as of December 31, 2006 compared with 1,608 as of December 31, 2007. During 2007, we strategically reduced our exposure in the heat-sensitive market due to price volatility and weather risk. Prospectively, our marketing efforts are focused on the pursuit of non-heat-sensitive commercial customers.

SJE’s revenues from retail electricity, net of intercompany transactions, decreased $1.9 million in 2007, compared with 2006, due mainly to the loss of two municipal contracts and three larger customers and lower electricity commodity prices.

SJRG’s revenues, net of intercompany transactions, decreased $2.3 million in 2007, compared with 2006. Excluding the impact of the net change in unrealized gains and losses recorded on forward financial contracts of $(32.7) million due to price volatility, SJRG’s revenues increased $30.4 million. A summary of SJRG’s revenue is as follows (in millions):


   
2007
   
2006
   
Change
 
                   
    SJRG Revenue
  $ 75.2     $ 77.5     $ (2.3 )
                         
     Less: Unrealized gains
    (3.8 )     (36.5 )     32.7  
                         
      SJRG Revenue,
      Excluding unrealized gains
  $ 71.4     $ 41.0     $ 30.4  
                         
 
This increase in revenues is mainly attributable to an 80.1% increase in sales of storage volumes in 2007 compared with 2006. As discussed in Note 1 to the Consolidated Financial Statements, revenues and expenses related to the energy trading activities of SJRG are presented on a net basis in Operating Revenues – Nonutility.
 
Revenues for Marina increased $7.8 million in 2007, compared with 2006 due mainly to a full twelve months of sales in 2007 to Borgata’s expanded facility which began operations in July 2006 and two additional landfill gas-fired electricity production facilities which began commercial operations in the latter part of 2006.  Our thermal plant produced a total of 26.5 million ton hours of chilled water in 2007, which represents a 6.9% increase when compared with the 24.8 million ton hours produced in 2006. The plant also produced a total of 237,861 mmbtu’s of hot water in 2007 compared with 188,986 mmbtu’s produced in 2006, a 25.9 % increase.

Revenues for SJESP increased $1.5 million in 2007, compared with 2006 due mainly to the increase in the number of residential installation jobs completed.

Operating Revenues — Nonutility 2006 vs. 2005 — Combined revenues for SJI’s nonutility businesses, net of intercompany transactions, decreased by $0.2 million in 2006, compared with 2005.

 
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SJE’s revenues from retail gas decreased by $42.1 million in 2006, compared with 2005, due mainly to a decline in the number of residential and commercial gas customers resulting from unfavorable market conditions. As the market price for gas was above the price charged by SJG to its customers, SJE returned all of its approximately 69,000 residential customers to the utility in the third quarter of 2005. SJE resumed its residential gas marketing efforts in 2006, increasing their customer count to over 13,000 as of December 31, 2006. The loss of residential and commercial sales revenue was partially offset by higher gas prices and sales from customers that were acquired from a retail gas marketer in northwestern Pennsylvania in November 2006.

SJE’s revenues from retail electricity decreased $25.0 million in 2006, compared with 2005, due mainly to the loss of revenues from a large school contract that was not renewed in May 2005. This decrease was partially offset by higher electricity commodity prices and the addition of several industrial customers.

SJRG’s revenues increased $64.0 million in 2006, compared with 2005. Excluding the impact of the net change in unrealized gains and losses recorded on forward financial contracts of $48.2 million due to price volatility, SJRG’s revenues increased $15.8 million. Operationally, SJRG contracted for the sale of more volumes during these periods as several customers renewed and extended existing contracts to take advantage of the drop in commodity prices that occurred particularly in the last three quarters of 2006. Volumes sold to one of our largest customers also increased in 2006 compared with 2005 as that customer took advantage of attractive spreads between natural gas and electricity prices.
 
Revenues for Marina increased $1.3 million in 2006 compared with 2005 due mainly to sales from the thermal plant expansion which came on line in July 2006 and the landfill gas-fired electricity production facilities which began commercial operation in March 2005, August 2006 and November 2006. This increase was partially offset by a decline in the sales of chilled and hot water from the original phase of the thermal plant. Chilled water sales from the original phase of the thermal plant declined 8% to 21.2 million ton hours in 2006 compared with 23.0 million ton hours in 2005. Hot water sales from the original phase of the thermal plant declined 6% to 161,722 mmbtu in 2006 compared with 171,213 mmbtu in 2005. These decreases were mainly due to warmer weather in the winter and cooler weather in the summer of 2006 as compared with 2005 and operational efficiencies recognized by The Borgata.

Revenues for SJESP in 2006 did not change significantly from 2005.

Margin — Utility — SJG’s margin is defined as natural gas revenues less natural gas costs; volumetric and revenue based energy taxes; and regulatory rider expenses. We believe that margin provides a more meaningful basis for evaluating utility operations than revenues since natural gas costs, energy taxes and regulatory rider expenses are passed through to customers, and therefore, have no effect on margin. Natural gas costs are charged to operating expenses on the basis of therm sales at the prices approved by the New Jersey Board of Public Utilities through the BGSS tariff.

For SJG, total margin in 2007 increased $8.3 million from 2006 primarily due to customer additions and the positive impact from a full year of the usage related component of the CIP. As previously discussed, the CIP mechanism replaced the TAC effective October 1, 2006 and takes into account variations in customer usage factors due to weather as well as all other variations.  The usage related component of the CIP added $10.1 million to margin in 2007 as compared to $2.8 million for 2006, as the CIP was only in effect during the fourth quarter of 2006. Customer additions and temperatures that were much closer to normal in 2007 versus 2006 increased margins in both the Residential and Commercial classes. However, due to the colder weather in 2007, the weather related component of the CIP generated less of a contribution to margin, since SJG had already benefited from the higher sales volume as reflected in the margin table above. Partially offsetting the positive impacts noted above were lower margins from OSS and capacity release. Margin declined in these markets due to less favorable market conditions, primarily in the first quarter of 2007, and a decrease in the percentage of earnings from these sales retained by SJG in accordance with a July 2004 base rate case stipulation. Through July 1, 2006, SJG retained 20% of margins generated by OSS and related activities. Since then SJG is only permitted to retain 15% of such margins.

 
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  Total margin for SJG in 2006 was comparable to the 2005 total margin; however, residential margins were much lower in 2006, than compared with 2005. This decrease was offset by contributions to net income from the TAC and CIP, which together, accounted for 11% of the 2006 total margin. Weather was substantially warmer in 2006 as compared to 2005, a year in which the TAC represented only a negligible portion of the 2005 margins. The CIP added $7.7 million to margin in 2006 related to the 2006-2007 winter season. Of this amount $4.9 million was related to weather variations and $2.8 million was related to other customer usage variations. Had the CIP not been implemented, SJG’s margins and net income would have been significantly lower.

Gross Margin — Nonutility — Gross margin for the nonutility businesses is defined as revenue less all costs that are directly related to the production, selling and delivery of the company’s products and services. These costs primarily include natural gas and electric commodity costs as well as certain payroll and related benefits. On the statements of consolidated income, revenue is reflected in Operating Revenues - Nonutility and the costs are reflected in Cost of Sales - Nonutility. As discussed in Note 1 to the Consolidated Financial Statements, revenues and expenses related to the energy trading activities of SJRG are presented on a net basis in Operating Revenues - Nonutility.

For 2007, combined gross margins for the nonutility businesses, net of intercompany transactions, decreased $12.7 million to $72.2 million compared with 2006. This decrease is primarily due to the following:

 
·
Gross Margin for SJRG decreased $19.0 million in 2007, compared with 2006. Excluding the impact of the net change in unrealized gains and losses recorded on forward financial contracts as discussed above, gross margin for SJRG increased $13.7 million in 2007 compared with 2006. Operationally, margins increased significantly in 2007 due primarily to favorable time spreads on storage asset positions. These storage assets allow SJRG to lock in the differential between purchasing natural gas at low current prices and selling equivalent quantities at higher future prices. Gross margin is generated via seasonal pricing differentials. Overall, SJRG’s contribution to margin has continued to increase as we have expanded our portfolio of storage assets under contract, which totaled 10.0 Bcf, 9.6 Bcf and 4.8 Bcf as of December 31, 2007, 2006 and 2005, respectively. However, future margins could fluctuate significantly due to the volatile nature of wholesale gas prices.

 
·
Gross Margin for Marina increased $3.9 million in 2007 compared with 2006 due mainly to the increase in sales volumes from the thermal plant and the landfill gas-fired electricity production facilities discussed in Operating Revenues – Nonutility. Gross margin as a percentage of Operating Revenues did not change significantly in 2007 compared with 2006.

 
·
Gross margin from SJE’s retail gas sales increased $4.4 million in 2007, compared with 2006. Gross margin as a percentage of Operating Revenues increased 2.6 percentage points in 2007 compared to 2006. This increase is due mainly to losses from a full requirements customer in the commercial market that was recorded in 2006. Litigation of this matter is currently in advanced stages and a settlement is anticipated in early 2008. The 2007 margin also includes 12 months of sales to over 13,000 of our residential customers and those commercial customers being served in northwestern Pennsylvania as mentioned in Operating Revenues - Nonutility.

 
·
Gross margin from SJE’s retail electricity sales decreased $1.8 million in 2007, compared with 2006. Gross margin as a percentage of Operating Revenues has decreased 3.9 percentage points in 2007 compared to 2006. This decrease is due mainly to the recovery in 2006 of $1.8 million in electric commodity costs that were recognized in previous periods.

 
·
Gross Margin for SJESP decreased $0.3 million in 2007, compared with 2006 due mainly to higher payroll-related and insurance costs which were partially offset by higher margins from strong installation and appliance maintenance contracts.

For 2006, combined gross margins for the nonutility businesses, net of intercompany transactions, increased $52.6 million to $84.9 million compared to 2005. This increase is primarily due to the following:

 
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·
Gross Margin for SJRG increased $57.5 million in 2006, compared with 2005. Excluding the impact of the net change in unrealized gains and losses recorded on forward financial contracts as discussed above, gross margin for SJRG increased $9.3 million in 2006 compared with 2005. Operationally, margins increased primarily due to favorable time spreads on storage asset positions. SJRG’s contribution to margin has continued to increase as we have expanded our portfolio of storage assets under contract, which totaled 9.6 Bcf and 4.8 Bcf as of December 31, 2006 and 2005, respectively. However, future margins could fluctuate significantly due to the volatile nature of wholesale gas prices.

 
·
Gross Margin for Marina increased $1.3 million in 2006 compared with 2005 due mainly to the increase in sales volumes from the thermal plant and the landfill gas-fired electricity production facilities discussed above. Gross margin as a percentage of Operating Revenues did not change significantly in 2006 compared to 2005.

 
·
Gross margin from SJE’s retail gas sales decreased $6.9 million in 2006, compared with 2005. Gross margin as a percentage of Operating Revenues decreased 3.4 percentage points in 2006 compared to 2005. This decrease was due mainly to the decline in residential sales volumes and losses from a full requirements customer in the commercial market discussed above. Management believes the vast majority of this loss was caused by erroneous consumption information provided by the sponsoring consortium in the original bid document.

 
·
Gross margin from SJE’s retail electricity sales increased $3.5 million in 2006, compared with 2005. Gross margin as a percentage of Operating Revenues increased 9.1 percentage points in 2006 compared to 2005. This increase was due mainly to the recovery of $1.8 million in electric commodity costs recognized in previous periods. SJE also restructured its contracts in 2006 to pass a variable component of pricing on to its customers.

 
·
Gross Margin for SJESP decreased $2.6 million in 2006, compared with 2005. Contributing to these margin decreases were higher payroll and benefit costs.  Gross margins on sales of service contracts increased by $0.9 million in 2006 compared with 2005 due mainly to price increases that went into effect in August 2006.

Operations Expense — A summary of net changes in operations expense follows (in thousands):

   
2007 vs. 2006
   
2006 vs. 2005
 
Utility
  $ 1,745     $ (4,995 )
Nonutility:
               
Wholesale Gas
    978       1,035  
Retail Gas and Other
    667       (2,029
Retail Electricity
    230       (113
On-Site Energy Production
    2,720       1,445  
Appliance Service
    1,307       (2,105
Total Nonutility
    5,902       (1,767
Intercompany Eliminations and Other
    (295 )     (2,235 )
Total Operations
  $ 7,352     $ (8,997 )

Utility Operations expense increased $1.7 million during 2007, compared with 2006, primarily as a result of several factors. First, expense associated with the Provision for Uncollectibles increased $1.2 million during 2007 due to higher levels of customer account receivables in 2007 than in 2006.  Additional reasons for the increase include an increase in billing and collection costs including a federal postage rate increase; employee severance costs incurred in 2007 that were not incurred during 2006; Conservation Incentive Program (CIP) expenses that did not begin until the approval of the CIP in October 2006; an increase in sales expense primarily related to the Customer Conversion Program aimed at converting residential consumers to natural gas heating systems; and higher employee compensation costs.

 
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Partially offsetting the increase above was a $2.4 million decrease in 2007 in costs under the New Jersey Clean Energy Programs (NJCEP), which have decreased as SJG is no longer managing as many plans as it had in 2006.  Such costs are recovered on a dollar-for-dollar basis; therefore, SJG experienced an offsetting decrease in revenue during 2007. The BPU-approved NJCEP allows for full recovery of costs, including carrying costs when applicable.  As a result, the decrease in expense had no impact on SJG net income.

Nonutility Wholesale Gas Operations expense increased in 2007, compared with 2006, due mainly to additional personnel costs to support continued growth.

Nonutility Retail Gas and Other Operations expense increased in 2007, compared with 2006, mainly due to a full 12 months of costs related to our gas marketer acquisition that occurred in November 2006.

Nonutility On-Site Energy Production Operations expense increased in 2007, compared with 2006, due mainly to higher labor and operating costs at all active projects, costs related to landfill projects and the thermal plant expansion that began operations during 2006.

Nonutility Appliance Service Operations expense increased in 2007, compared with 2006, due mainly to higher payroll and benefit costs, and a sizeable increase in the uncollectible reserve.

Utility Operations expense decreased $5.0 million during 2006, compared with 2005, as a result of several factors. First, there was a $1.1 million decrease in 2006 in SJG’s costs under the New Jersey Clean Energy Program (NJCEP). As previously discussed such costs are recovered on a dollar-for-dollar basis and had no impact on net income. Second, SJG’s regulatory expenses decreased $0.7 million in 2006, primarily as a result of amortization of previously deferred expenses related to our 2004 base rate proceeding with the BPU. Such costs were fully amortized as of December 31, 2005. Third, SJG also experienced lower pension and postretirement benefit costs during 2006.  Such reductions were the result of earnings on additional contributions to the plans, the transfer of employees to SJI Services, LLC (SJIS) effective January 1, 2006, and savings resulting from the early retirement plan (ERIP) offered in 2004 and 2005. The total cost of providing the ERIP in 2005, including monetary incentives, was $1.8 million. There was no ERIP offered in 2006. Finally, SJG also experienced a significant decrease in compensation and healthcare costs as a result of the transfer of approximately 10% of our workforce to SJIS. While much of those costs were charged back to SJG for services rendered, increased activity and growth in SJI’s non-utility entities resulted in a net savings to SJG. Additional information regarding compensation can be found in Note 1 to the consolidated financial statements under Stock-Based Compensation Plans.

Nonutility Wholesale Gas Operations expense increased in 2006, compared with 2005, due mainly to higher Corporate and Services cost allocations and additional personnel costs to support growth.

Nonutility Retail Gas and Other Operations expense decreased in 2006, compared with 2005, mainly due to an uncollectible reserve adjustment following a bankruptcy declaration by one of SJE’s industrial gas customers in 2005.

Nonutility On-Site Energy Production Operations expense increased in 2006, compared with 2005, due mainly to higher labor and operating costs at all active projects, higher Corporate and Services cost allocations, costs related to landfill projects which began operations in 2006, and six months of costs related to the thermal plant expansion which began operations in July 2006.

Intercompany Eliminations and Other increased in 2006 compared with 2005, mainly due to the formation of SJI Services, LLC (SJIS) effective January 1, 2006. Common services such as information technology and human resources were transferred to SJIS, having mostly been housed within SJG prior to January 1, 2006. Because these costs are allocated to our operating subsidiaries, they are eliminated in consolidation.

 
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Other Operating Expenses — A summary of changes in other consolidated operating expenses (in thousands):

   
2007 vs. 2006
   
2006 vs. 2005
 
Maintenance
  $ 807     $ (276 )
Depreciation
    1,693       2,218  
Energy and Other Taxes
    706       (1,158


Depreciation increased in both 2007 and 2006, compared with the prior year, due mainly to the increased investment in property, plant and equipment by SJG and Marina. 

 Energy and Other Taxes — Energy and Other Taxes increased in 2007, compared with 2006, primarily due to higher energy-related taxes based on increased taxable firm throughput and revenues in 2007.  Energy and Other Taxes decreased in 2006, compared with 2005, primarily due to lower energy-related taxes based on lower sales volumes in 2006.

Other Income and Expense — The change in other income and expense in 2007 compared with 2006 was not significant. Other income and expense increased in 2006, compared with 2005, primarily as a result of $0.7 million in earnings on restricted investments, a $0.3 million improvement in the earnings performance of our available-for-sale securities over prior year and a gain of $0.4 million on the sale of AirLogics, LLC.

Interest Charges — Interest charges decreased by $0.5 million in 2007, compared with 2006, due primarily to lower levels of short-term debt at our utility business that offset higher interest rates.  Short-term debt declined primarily due to lower gas cost and inventory levels.  Interest charges increased by $6.7 million in 2006, compared with 2005, due primarily to higher levels of short-term and long-term debt, as well as higher interest rates on short-term debt. Short-term debt levels rose to support our capital expenditures that had not been financed with long-term debt, and increased levels of gas in storage. A steep rise in short-term interest rates for that period was driven by a series of interest rate hikes enacted by the Federal Reserve Bank during 2005 and 2006.

Discontinued Operations — The losses are primarily comprised of environmental remediation and product liability litigation associated with previously disposed of businesses.

LIQUIDITY AND CAPITAL RESOURCES:

Liquidity needs are driven by factors that include natural gas commodity prices; the impact of weather on customer bills; lags in fully collecting gas costs from customers under the Basic Gas Supply Service charge; working capital needs of our energy trading and marketing activities; the timing of construction and remediation expenditures and related permanent financings; the timing of equity contributions to unconsolidated affiliates; mandated tax payment dates; both discretionary and required repayments of long-term debt; and the amounts and timing of dividend payments.

 
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Cash Flows from Operating Activities — Liquidity needs are first met with net cash provided by operating activities. Net cash provided by operating activities totaled $147.8 million, $28.7 million and $38.9 million in 2007, 2006 and 2005, respectively. Net cash provided by operating activities varies from year-to-year primarily due to the impact of weather on customer demand and related gas purchases, customer usage factors related to conservation efforts and the price of the natural gas commodity, inventory utilization and gas cost recoveries. The comparison of net cash provided by operating activities between 2007 and 2006 was significantly impacted by the combination of an increased income stream (excluding unrealized gains), and more favorable inventory and payable positions in 2007. A significant portion of the unrealized gains from 2006 were realized in 2007. Inventory levels declined by a greater amount in 2007 due to a weather induced increase in heating demand at our utility and greater storage withdrawals at our gas marketing business. Net cash provided by operating activities in 2006 was negatively impacted by a change in the terms under which SJI purchased natural gas, and the impact of extremely warm weather on inventory levels and collection under regulatory clauses at year end. The reduction in payable levels at year end 2006 as compared with 2005 was due to SJI’s election to pay for certain gas supplies on a current basis as opposed to 2005 when we delayed those payments into the first quarter of the subsequent year. Very warm weather conditions experienced during the fourth quarter of 2006 resulted in low levels of gas withdrawn from storage to meet customer demand, and decreased gas volumes consumed resulted in slower collections of expenses under several regulatory clauses. Net cash provided by operating activities in 2005 was heavily impacted by these factors as collection of much higher fuel costs incurred by SJG during 2005 were deferred for collection until 2006. On December 15, 2005, SJG was authorized by the BPU to increase the rates it charges customers by 24.3% for residential and 28.4% for commercial/industrial customers. The increase enabled SJG to recover from its customers the higher cost of gas that was delivered to them during 2005 and 2006. Changes in Accounts Receivable, Inventories and Accounts Payable on the statement of consolidated cash flows for 2005 reflected the impact of higher gas prices experienced during the year. We typically anticipate that delays in withdrawing gas from storage during the fourth quarter of any fiscal year will result in increased withdrawals in the subsequent quarter, benefiting our cash flows for that quarter. SJI also ends each calendar year in a prepaid tax position due to mandatory prepayment requirements on all state taxes. Such prepayments are credited against amounts otherwise due during the first quarter of the subsequent year; further improving first quarter liquidity.

Cash Flows from Investing Activities — SJI has a continuing need for cash resources and capital, primarily to invest in new and replacement facilities and equipment. Net cash outflows for construction projects for 2007, 2006 and 2005 amounted to $55.5 million, $73.7 million and $92.9 million, respectively. We estimate the net cash outflows for construction projects for  2008, 2009 and 2010 to be approximately $59.8 million, $52.5 million and $52.2 million, respectively. Included in the 2008 estimates is $4.8 million in capital costs accrued but not paid as of December 31, 2007.

In support of its risk management activities, SJRG is required to maintain a margin account with a national investment firm as collateral for its forward contracts, swap agreements, options contracts and futures contracts. This margin account is included in Restricted Investments or Margin Account Liability, depending upon the value of the related financial contracts, (the change in the Margin Account Liability is reflected in cash flows from Operating Activities) on the consolidated balance sheets. The required amount of restricted investments changes on a daily basis due to fluctuations in the market value of the related outstanding contracts and are difficult to predict.

Cash Flows from Financing Activities — Short-term borrowings under lines of credit from commercial banks are used to supplement cash from operations, to support working capital needs and to finance capital expenditures as incurred. From time to time, short-term debt incurred to finance capital expenditures is refinanced with long-term debt.  No long-term debt was issued during 2007.
 
Bank facilities available to SJI totaled $416.0 million at December 31, 2007, of which $184.7 million, inclusive of  $66.4 million of letters of credit, was used. Those bank facilities consist of a $100.0 million revolving credit facility and, $76.0 million of uncommitted bank lines available to SJG; and a $200.0 million revolving credit facility and $40.0 million of uncommitted bank lines available to SJI. The revolving credit facilities expire in August 2011 and contain one financial covenant regarding the ratio of total debt to total capitalization, measured on a quarterly basis. SJI and SJG were in compliance with this covenant as of December 31, 2007. Based upon the existing credit facilities and a regular dialogue with our banks, we believe there will continue to be sufficient credit available to meet our business’ future liquidity needs.

 
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SJI supplements its operating cash flow and credit lines with both debt and equity capital. Over the years, SJG has used long-term debt, primarily in the form of First Mortgage Bonds and Medium Term Notes (MTN), secured by the same pool of utility assets, to finance its long-term borrowing needs. These needs are primarily capital expenditures for property, plant and equipment. In April 2006, SJG issued $25.0 million of secured tax-exempt, auction-rate debt through the New Jersey Economic Development Authority (NJEDA). The debt was issued under SJG’s MTN program. An additional $115.0 million of MTN’s remains available for issuance under that program. In March 2006, Marina issued $16.4 million of tax-exempt Series A variable-rate bonds, through the NJEDA due in 2036. The proceeds were used to fund construction costs related to the expansion of Marina’s Atlantic City thermal plant. Investors in the bonds receive liquidity and credit support via letters of credit provided by commercial banks through SJI’s revolving credit.

SJI has raised equity capital over the past three years through its Dividend Reinvestment Plan (DRP). Participants in SJI's DRP receive newly issued shares. We offer a 2% discount on DRP investments as it has been the most cost-effective way to raise equity capital in the quantities we are seeking. Through the DRP, SJI raised $7.5 million of equity capital by issuing 212,428 shares in 2007, and $6.6 million of equity capital by issuing 232,883 shares in 2006 and $31.9 million of equity capital by issuing 1,141,590 shares in 2005. We anticipate raising less than $10.0 million of additional equity capital through the DRP in 2008, for the purpose of maintaining an equity-to-capitalization ratio close to 50%.
  
SJI’s capital structure was as follows:

   
As of December 31,
 
   
2007
   
2006
 
             
Common Equity
    50.3 %     44.4 %
Long-Term Debt
    37.3 %     36.1 %
Short-Term Debt
    12.4 %     19.5 %
Total
    100.0 %     100.0 %

SJG’s long-term, senior secured debt is rated “A” and “Baa1” by Standard & Poor’s and Moody’s Investor Services, respectively. These ratings have not changed in at least the past five years.

For 2007, 2006 and 2005, SJI paid quarterly dividends to its common shareholders. SJI has paid dividends on its common stock for 56 consecutive years and has increased that dividend each year for the last nine years. The Company currently looks to grow that dividend by at least 6% to 7% per year and has a targeted payout ratio of between 50% and 60%. In setting the dividend rate, the Board of Directors of SJI considers future earnings expectations, payout ratio, and dividend yield relative to those at peer companies as well as returns available on other income-oriented investments.

COMMITMENTS AND CONTINGENCIES — SJI has a continuing need for cash resources and capital, primarily to invest in new and replacement facilities and equipment and for environmental remediation costs. Net cash outflows for construction and remediation projects for 2007 amounted to $55.5 million and $10.9 million, respectively. We estimate net cash outflows for construction and remediation projects for 2008, 2009 and 2010, to be approximately $81.8 million, $69.8 million and $61.4 million, respectively.

SJI is obligated on the letters of credit supporting the variable-rate demand bonds issued through the New Jersey Economic Development Authority by Marina. Commercial banks have issued $62.3 million of renewing letters of credit under SJI’s revolving credit agreement to support the financing of the original construction and recent expansion of Marina’s Atlantic City thermal plant project.

 
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SJG has certain commitments for both pipeline capacity and gas supply for which it pays fees regardless of usage. Those commitments as of December 31, 2007, average $49.8 million annually and total $219.1 million over the contracts’ lives. Approximately 44% of the financial commitments under these contracts expire during the next five years. We expect to renew each of these contracts under renewal provisions as provided in each contract. SJG recovers all prudently incurred fees through rates via the Basic Gas Supply Service clause.
  
The following table summarizes our contractual cash obligations and their applicable payment due dates as of December 31, 2007 (in thousands):

         
Up to
   
Years
   
Years
   
More than
 
Contractual Cash Obligations
 
Total
   
1 Year
   
2 & 3
   
4 & 5
   
5 Years
 
                               
Long-Term Debt
  $ 358,002     $ 106     $ 10,231     $ 27,446     $ 320,219  
Interest on Long-Term Debt
    277,611       20,009       39,999       36,997       180,606  
Capital Contribution Obligation
    30,000       -       30,000       -       -  
Operating Leases
    2,302       674       953       442       233  
Commodity Supply Purchase Obligations
    491,717       296,652       102,831       24,133       68,101  
New Jersey Clean Energy Program (Note 9)
    10,542       10,542       -       -       -  
Other Purchase Obligations
    1,538       892       500       146       -  
Total Contractual Cash Obligations
  $ 1,171,712     $ 328,875     $ 184,514     $ 89,164     $ 569,159  

Interest on Long-Term Debt includes the impact of the related interest rate swap agreements.  Expected environmental remediation costs and asset retirement obligations are not included in the table above as the total obligation cannot be calculated due to the subjective nature of these costs and the timing of anticipated payments. As discussed in Note 11 to the consolidated financial statements, we made a pension contribution of approximately $5.9 million in 2008; however, changes in future investment performance and discount rates may ultimately result in additional contributions. Furthermore, future pension contributions beyond 2008 cannot be determined at this time. SJG’s regulatory obligation to contribute $3.6 million annually to its other postretirement benefit plans’ trusts, less costs incurred directly by the company, is not included as the duration is indefinite.

Capital Contribution  Obligation - In December 2007, Marina and its joint venture partner agreed to each contribute approximately $30.0 million of equity to LVE as part of its construction period financing (See Note 2). LVE will initially use bank and bond financing to fund project construction and then expects to use contributed equity to complete the project. Marina’s obligation is secured by an irrevocable letter of credit from a bank. In the event of a default by LVE on its financing arrangements, the partners may be required to make equity contributions prior to the end of the construction period. However, an equity payment is not expected to be made to LVE prior to 2009.

Off-Balance Sheet Arrangements — An off-balance sheet arrangement is any contractual arrangement involving an unconsolidated entity under which the company has either made guarantees or has certain other interests or obligations.

 
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The Company has recorded a liability of $2.0 million in Other Noncurrent Liabilities with a corresponding increase in Investment in Affiliates on the consolidated balance sheets as of December 31, 2007 for the fair value of the following guarantees:

 
·
In April 2007 SJI guaranteed certain obligations of LVE Energy Partners, LLC (LVE), an unconsolidated joint venture in which Marina has a 50% equity interest.  LVE entered into a 25 year contract with a resort developer to design, build, own and operate a district energy system and central energy center for a planned resort in Las Vegas, Nevada.  LVE began construction of the facility in 2007 and expects to provide full energy services when the resort is completed in 2010.  SJI holds a significant variable interest in LVE but is not the primary beneficiary.  SJI has issued a performance guarantee for up to $180.0 million to the resort developer to ensure that certain construction milestones relating to the development of the thermal facility are met.  Concurrently, SJI is the beneficiary of a surety bond purchased by the project’s general contractor that provides SJI with assurance that construction of the thermal facility will meet those same milestones.  In addition, SJI has guaranteed the obligations of LVE under certain insurance policies during the construction period.  The maximum amount that SJI could be obligated for, in the event that LVE does not have sufficient resources to make deductible payments on future claims under these insurance policies, is approximately $6.0 million.  SJI has also guaranteed certain performance obligations of LVE under the operating agreements between LVE and the resort, up to $20 million each year for the term of the agreement, commencing with the first year of operations.  SJI and the partner in this joint venture have entered into reimbursement agreements that secure reimbursement for SJI of a proportionate share of any payments made by SJI on these guarantees.

 
·
SJI has also guaranteed certain obligations of BC Landfill Energy, LLC (BCLE), an unconsolidated joint venture in which Marina has a 50% equity interest.  BCLE has entered into a 20-year agreement with a county government to lease and operate a facility that will produce electricity from landfill methane gas.  The facility went online in the fourth quarter of 2007.  Although unlikely, the maximum amount that SJI could be obligated for, in the event that BCLE does not meet minimum specified levels of operating performance and no mitigating action is taken, or is unable to meet certain financial obligations as they become due, is approximately $4.0 million each year.  SJI and the partner in this joint venture have entered into reimbursement agreements that secure reimbursement for SJI of a proportionate share of any payments made by SJI on these guarantees.  SJI holds a variable interest in BCLE but is not the primary beneficiary.

Pending Litigation — SJI is subject to claims arising in the ordinary course of business and other legal proceedings. We accrue liabilities related to claims when we can determine the amount or range of amounts of probable settlement costs. SJI has been named in, among other actions, certain product liability claims related to our former sand mining subsidiary. Management does not currently anticipate the disposition of any known claims to have a material adverse effect on SJI’s financial position, results of operations or liquidity.

MARKET RISKS:
Commodity Market Risks — Certain regulated and nonregulated SJI subsidiaries are involved in buying, selling, transporting and storing natural gas and buying and selling retail electricity for their own accounts as well as managing these activities for other third parties. These subsidiaries are subject to market risk due to price fluctuations. To hedge against this risk, we enter into a variety of physical and financial transactions including forward contracts, swaps, futures and options agreements. To manage these transactions, SJI has a well-defined risk management policy approved by our Board of Directors that includes volumetric and monetary limits. Management reviews reports detailing activity daily. Generally, the derivative activities described above are entered into for risk management purposes.

SJG and SJE transact commodities on a physical basis and typically do not enter into financial derivative positions directly. SJRG manages risk for these entities as well as for its own portfolio by entering into the types of transactions noted above. As part of its gas purchasing strategy, SJG uses financial contracts through SJRG to hedge against forward price risk. These contracts are recoverable through SJG’s BGSS, subject to BPU approval. It is management's policy, to the extent practical, within predetermined risk management policy guidelines, to have limited unmatched positions on a deal or portfolio basis while conducting these activities. As a result of holding open positions to a minimal level, the economic impact to SJRG of changes in value of a particular transaction is substantially offset by an opposite change in the related hedge transaction.

 
SJI - 36

 

 
 As of December 31, 2007, SJRG had $48.7 million of Accounts Receivable under sales contracts. Of that total, 73% were with companies rated investment-grade, were guaranteed by an investment-grade-rated parent or were with companies where we have a collateral arrangement. The remainder of the Accounts Receivable were within approved credit limits.
 
SJI entered into certain contracts to purchase, sell, and transport natural gas. For those derivatives not designated as hedges, we recorded the net unrealized pre-tax gain (loss) of $3.6 million, $36.7 million and $(12.4) million  in earnings during the years 2007, 2006 and 2005, respectively, which are included with realized gains and losses in Operating Revenues — Nonutility. The fair value and maturity of these energy trading contracts determined under the mark-to-market method as of December 31, 2007 is as follows (in thousands):

Assets 
 Source of
Fair Value
 
Maturity
< 1 Year
   
Maturity
1 - 3 Years
   
Beyond
3 Years
   
Total
 
Prices Actively Quoted
NYMEX
  $ 10,862     $ 7,589     $ 0     $ 18,451  
Other External Sources
Basis
    12,408       3,336       16       15,760  
Total
    $ 23,270     $ 10,925     $ 16     $ 34,211  
                                   
Liabilities 
Source of
Fair Value
 
Maturity
< 1 Year
   
Maturity
1 - 3 Years
   
Beyond
3 Years
   
Total
 
Prices Actively Quoted
NYMEX
  $ 6,802     $ 1,319     $ 0     $ 8,121  
Other External Sources
Basis
    6,933       2,858       13       9,804  
Total
    $ 13,735     $ 4,177     $ 13     $ 17,925  

NYMEX (New York Mercantile Exchange) is the primary national commodities exchange on which natural gas is traded. Basis represents the price of a NYMEX natural gas futures contract adjusted for the difference in price for delivering the gas at another location. Contracted volumes of our NYMEX contracts are 1.0 million decatherms (dth) with a weighted-average settlement price of $8.14 per dth.  Contracted volumes of our basis contracts are 3.2 million  dth with a weighted average settlement price of $0.94 per dth.

A reconciliation of SJI's estimated net fair value of energy-related derivatives follows (in thousands):

Net Derivatives — Energy Related Assets,
     
 January 1, 2007
 
$
19,122
 
 Contracts Settled During 2007, Net
   
(3,275
) 
 Other Changes in Fair Value from Continuing and New Contracts, Net
   
439
 
Net Derivatives — Energy Related Assets,
       
 December 31, 2007
 
$
16,286
 

Interest Rate Risk — Our exposure to interest-rate risk relates primarily to short-term, variable-rate borrowings. Short-term variable-rate debt outstanding at December 31, 2007, was $118.3 million and averaged $120.2 million during 2007. The months where average outstanding variable-rate debt was at its highest and lowest levels were January, at $176.4 million, and April, at $73.3 million. A hypothetical 100 basis point (1%) increase in interest rates on our average variable-rate debt outstanding would result in a $0.7 million increase in our annual interest expense, net of tax. The 100 basis point increase was chosen for illustrative purposes, as it provides a simple basis for calculating the impact of interest rate changes under a variety of interest rate scenarios. Over the past five years, the change in basis points (b.p.) of our average monthly interest rates from the beginning to end of each year was as follows: 2007 – 45 b.p. decrease; 2006 — 67 b.p. increase; 2005 — 194 b.p. increase; 2004 — 115 b.p. increase; 2003 — 28 b.p. decrease and 2002 — 74 b.p. decrease. For December 2007, our average interest rate on variable-rate debt was 5.28%.

 
SJI - 37

 

 
We issue long-term debt either at fixed rates or use interest rate derivatives to limit our exposure to changes in interest rates on variable-rate, long-term debt. As of December 31, 2007, the interest costs on all but $7.1 million of our long-term debt were either at a fixed-rate or hedged via an interest rate derivative. Consequently, interest expense on existing long-term debt is not significantly impacted by changes in market interest rates. However, during 2008, due to general market conditions, the demand for auction rate securities has been disrupted, resulting in increased interest rate volatility for tax-exempt auction rate debt.  As a result, the $25.0 million of tax-exempt auction rate debt issued by the Company is exposed to changes in interest rates that may not be completely mitigated by the related interest rate derivatives.
 
As of December 31, 2007, SJI’s active interest rate swaps were as follows:
 
Notional
Amount
   
Fixed
Interest Rate
   
Start Date
 
Maturity
 
Type of Debt
 
Obligor
$
3,900,000
      4.795 %  
12/01/2004
 
12/01/2014
 
Taxable
 
Marina
$ 8,000,000       4.775 %  
11/12/2004
 
11/12/2014
 
Taxable
 
Marina
$ 20,000,000       4.080 %  
11/19/2001
 
12/01/2011
 
Tax-exempt
 
Marina
$ 14,500,000       3.905 %  
03/17/2006
 
01/15/2026
 
Tax-exempt
 
Marina
$ 500,000       3.905 %  
03/17/2006
 
01/15/2026
 
Tax-exempt
 
Marina
$ 330,000       3.905 %  
03/17/2006
 
01/15/2026
 
Tax-exempt
 
Marina
$ 7,100,000       4.895 %  
02/01/2006
 
02/01/2016
 
Taxable
 
Marina
$ 12,500,000       3.430 %  
12/01/2006
 
02/01/2036
 
Tax-exempt
 
SJG
$ 12,500,000       3.430 %  
12/01/2006
 
02/01/2036
 
Tax-exempt
 
SJG
                             

Item 7A. Quantitative and Qualitative Disclosures about Market Risks


Information required by this item can be found in the section entitled “Market Risks” on page 36 of this report.
 
 

 
SJI - 38

 
Item 8. Financial Statements and Supplementary Data


 
 
South Jersey Industries, Inc. and Subsidiaries
 
(In Thousands Except for Per Share Data)
 
Year Ended December 31,
 
                   
                   
   
2007
   
2006
   
2005