Notes to Condensed Consolidated Financial Statements (Unaudited)

 

Significant Accounting Policies

These financial statements should be read in conjunction with the Consolidated Financial Statements and Notes included in our Form 10-K for the year ended October 31, 2015 . Our accounting policies are described in Note 1 to the consolidated financial statements in our Form 10-K for the year ended October 31, 2015 . There were no significant changes to those accounting policies during the three months ended January 31, 2016 .

Unaudited Interim Financial Information

The condensed consolidated financial statements have not been audited. We have prepared the unaudited condensed consolidated financial statements under the rules of the Securities and Exchange Commission (SEC). Therefore, certain financial information and note disclosures normally included in annual financial statements prepared in conformity with generally accepted accounting principles (GAAP) in the United States of America are omitted in this interim report under these SEC rules and regulations. The unaudited condensed consolidated financial statements include all normal recurring adjustments necessary for a fair presentation of the statement of financial position as of January 31, 2016 and October 31, 2015 , the results of operations for three months ended January 31, 2016 and 2015 , and cash flows and stockholders’ equity for the three months ended January 31, 2016 and 2015 .

Seasonality and Use of Estimates

Our business is seasonal in nature. The results of operations for the three months ended January 31, 2016 do not necessarily reflect the results to be expected for the full year.

In accordance with GAAP, we make certain estimates and assumptions regarding reported amounts of assets, liabilities, revenues and expenses and the related disclosures, using historical experience and other assumptions that we believe are reasonable at the time. Our estimates may involve complex situations requiring a high degree of judgment in the application and interpretation of existing literature or in the development of estimates that impact our financial statements. These estimates and assumptions affect the reported amounts of assets and liabilities as of the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates and assumptions, which are evaluated on a continual basis.

Rate-Regulated Basis of Accounting

Our utility operations are subject to regulation with respect to rates, service area, accounting and various other matters by the regulatory commissions in the states in which we operate. The accounting regulations provide that rate-regulated public utilities account for and report assets and liabilities consistent with the economic effect of the manner in which independent third-party regulators establish rates. In applying these regulations, we capitalize certain costs and benefits as regulatory assets and liabilities, respectively, in order to provide for recovery from or refund to utility customers in future periods. Generally, regulatory assets are amortized to expense and regulatory liabilities are amortized to income over the period authorized by our regulators.

Our regulatory assets are recoverable through either base rates or rate riders specifically authorized by a state regulatory commission. Base rates are designed to provide both a recovery of cost and a return on investment during the period the rates are in effect. As such, all of our regulatory assets are subject to review by the respective state regulatory commissions during any future rate proceedings. In the event that accounting for the effects of regulation were no longer applicable, we would recognize a write-off of the regulatory assets and regulatory liabilities that would result in an adjustment to net income or accumulated other comprehensive income (loss) (OCIL). Our utility operations continue to recover their costs through cost-based rates established by the state regulatory commissions. As a result, we believe that the accounting prescribed under rate-based regulation remains appropriate. It is our opinion that all regulatory assets are recoverable in current rates or in future rate proceedings. Our regulatory assets and liabilities are detailed in Note 3 to the condensed consolidated financial statements in this Form 10-Q.

Fair Value Measurements

We have financial and nonfinancial assets and liabilities subject to fair value measurement. The financial assets and liabilities measured and carried at fair value in the Condensed Consolidated Balance Sheets are cash and cash equivalents, marketable securities held in rabbi trusts established for our deferred compensation plans and purchased call option derivative assets and liabilities, if any, that are held for our utility operations. The carrying values of receivables, short-term debt, accounts payable, accrued interest and other current assets and liabilities approximate fair value as all amounts reported are to be collected or paid within one year. Our nonfinancial assets and liabilities include our qualified pension and postretirement plan assets and liabilities that are recorded at fair value in the Condensed Consolidated Balance Sheets in accordance with employers’ accounting and related disclosures of postretirement plans. As discussed below, effective in our first quarter 2016, we have certain forward gas supply derivative contracts that are nonfinancial assets and liabilities requiring fair value treatment.

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, or exit date. We utilize market data or assumptions that market participants would use in valuing the asset or liability, including assumptions about risk and the risks inherent in the inputs to the valuation technique. These inputs can be readily observable, market corroborated or generally unobservable. We primarily apply the market approach for fair value measurements and endeavor to utilize the best available information for the specific instrument, location or commodity being valued. Accordingly, we use valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. The fair value of our financial assets and liabilities are subject to potentially significant volatility based on changes in market prices, the maturity and settlement of our contracts, and subsequent newly originated transactions, each of which directly affects the estimated fair value of our financial instruments. We are able to classify fair value balances based on the observance of those inputs at the lowest level that is significant to the fair value measurement, in its entirety, in the fair value hierarchy levels as set forth in the fair value guidance.

For the fair value measurements of our derivatives and marketable securities, see Note 9 to the condensed consolidated financial statements in this Form 10-Q. For the fair value measurements of our benefit plan assets, see Note 10 to the consolidated financial statements in our Form 10-K for the year ended October 31, 2015 . For further information on our fair value methodologies, see “Fair Value Measurements” in Note 1 to the consolidated financial statements in our Form 10-K for the year ended October 31, 2015 . Effective in our first quarter 2016, we have long-dated, fixed quantity natural gas supply contracts for our utility operations which are accounted for as derivatives. We classified these contracts as Level 3 in the fair value hierarchy, as the inputs are generally unobservable due to the tenure of the contracts and the absence of market quoted observable data. In the absence of actively quoted prices or if we believe that observable pricing is not indicative of fair value, judgment is required to develop the estimates of fair value. In determining the fair value, we used a discounted cash flow technique to calculate our valuation. We incorporated the following inputs and assumptions in our model: contract volume, forward market prices from third party pricing services with an evaluation of pricing information on active and inactive markets, price correlations, pricing projections, time value, fuel assumptions and credit adjusted risk free rate of return. There were no other significant changes to these fair value methodologies during the three months ended January 31, 2016 .

Recently Issued Accounting Standards Update (ASU)

Reclassifications and Changes in Presentation

A reclassification has been made to the prior year Condensed Consolidated Balance Sheets to conform with the current year presentation. In this fiscal quarter, we early adopted ASU 2015-17 Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes . This ASU eliminated the current requirement to present deferred tax assets and liabilities as current and noncurrent amounts in a classified balance sheet and replaced it with a noncurrent classification of deferred tax assets and liabilities. While the guidance would have been effective for us beginning November 1, 2017, we elected to adopt this guidance effective November 1, 2015 to simplify our presentation of deferred tax assets and liabilities.

With the adoption of the new pronouncement retrospectively, the fiscal year 2015 Condensed Consolidated Balance Sheets line item "Deferred income taxes" of $32.4 million previously included within "Current Assets" has been reclassified to net with the noncurrent line item "Deferred income taxes" as $829.2 million within "Noncurrent Liabilities." Line item "Total current

assets" has been reduced by $32.4 million to $223.5 million , line item "Total noncurrent liabilities" has been reduced to $1,492.8 million , resulting in total assets and total capitalization and liabilities totaling $5,078.4 million .

On October 24, 2015 , we entered into an Agreement and Plan of Merger (Merger Agreement) with Duke Energy Corporation (Duke Energy) and Forest Subsidiary, Inc. (Merger Sub), a new wholly owned subsidiary of Duke Energy. The Merger Agreement provides for the merger of the Merger Sub with and into Piedmont, with Piedmont surviving as a wholly owned subsidiary of Duke Energy (the Acquisition). At the effective time of the Acquisition, subject to receipt of required shareholder and regulatory approvals and meeting specified customary closing conditions, each share of Piedmont common stock issued and outstanding immediately prior to the closing will be converted automatically into the right to receive $60 in cash per share, without interest, less any applicable withholding taxes. Upon consummation of the Acquisition, Piedmont common stock will be delisted from the New York Stock Exchange (NYSE).

On December 22, 2015, the Federal Trade Commission granted early termination of the 30-day waiting period for the Acquisition under the federal Hart-Scott-Rodino Antitrust Improvements Act of 1976. Expiration or termination of the waiting period is one of the conditions required for completion of the Acquisition.

For information on the January 15, 2016 filings with the North Carolina Utilities Commission (NCUC) for approval of the Acquisition and with the Tennessee Regulatory Authority (TRA) to transfer Piedmont's Tennessee operating license, see Note 3 to the condensed consolidated financial statements in this Form 10-Q.

At a specially called meeting held on January 22, 2016, the proposal to approve the Acquisition was approved by Piedmont's shareholders with a vote of 66.8% of Piedmont's outstanding shares of common stock entitled to vote. Piedmont's shareholder approval of the transaction is one of the conditions required for completion of the Acquisition.

In connection with this transaction, during the three months ended January 31, 2016 , we recorded Acquisition-related integration expenses of $1.5 million for costs paid to outside parties, which are reflected in “Operations and maintenance” in “Operating Expenses” in the Condensed Consolidated Statements of Comprehensive Income. Also during this period, we recorded incremental share-based compensation expense of $4.7 million from the accelerated vesting, payment and taxation of certain share-based awards for our President and Chief Executive Officer (CEO) and other eligible officers and participants with the issuance of restricted nonvested shares of our common stock in December 2015. These share-based plan costs are reflected in "Operations and maintenance" and related payroll taxes in "General taxes" in "Operating Expenses" in the Condensed Consolidated Statements of Comprehensive Income. For further information on these accelerated share-based transactions, see Note 12 to the condensed consolidated financial statements in this Form 10-Q. These amounts do not include the cost of company personnel participating in Acquisition-related integration planning activities.

Rate Oversight and Rate and Regulatory Actions

North Carolina

In November 2015, we filed a petition with the NCUC seeking authority, under the approved integrity management riders (IMR) settlement agreement and procedural schedule, to change our rates effective December 1, 2015 to collect a total of $40.9 million in annual IMR margin revenues, representing an additional $13.4 million in annual IMR margin revenues from rate adjustments approved by the NCUC in its January 2015 order. The rate adjustment was based on $161.9 million of IMR-eligible capital investments in integrity and safety projects over the eleven-month period ended September 30, 2015. In December 2015, the NCUC approved the requested IMR rate increase. In February 2016, the NCUC Public Staff filed their

IMR audit report for the capital investment period through September 30, 2015, proposing an immaterial reduction in IMR margin for refund to customers over December 2015 through May 2016, which we began recording in our first quarter 2016.

In November 2015, the NCUC approved our accounting of gas costs for the twelve months ended May 31, 2015. We were deemed prudent on our gas purchasing policies and practices during this review period and allowed 100% recovery.

In January 2016, we and Duke Energy filed a joint application with the NCUC seeking regulatory approval of the Acquisition. A hearing has been scheduled for July 18, 2016 on this matter.

South Carolina

In June 2015, we filed with the Public Service Commission of South Carolina (PSCSC) a quarterly monitoring report for the twelve months ended March 31, 2015 and a cost and revenue study as permitted under the Natural Gas Rate Stabilization Act requesting a change in our rates from those approved by the PSCSC in its October 2014 order. In October 2015, the PSCSC issued an order approving a settlement agreement between the Office of Regulatory Staff and us that resulted in a $1.65 million annual increase in margin based on a stipulated allowed return on equity of 10.2% , effective November 1, 2015.

In January 2016, we and Duke Energy discussed the Acquisition of Piedmont by Duke Energy with the PSCSC pursuant to its procedures for an allowable ex-parte communication briefing in accordance with state statute. The PSCSC's approval of the Acquisition is not required.

Tennessee

In August 2015, we filed an annual report with the TRA reflecting the shared gas cost savings from gains and losses derived from gas purchase benchmarking and secondary market transactions for the twelve months ended June 30, 2015 under the Tennessee Incentive Plan (TIP). We are waiting on a ruling from the TRA at this time.

In November 2015, we filed an annual report for the twelve months ended June 30, 2014 with the TRA that reflected the transactions in the deferred gas cost account for the Actual Cost Adjustment (ACA) mechanism. In February 2016, the TRA approved the deferred gas cost account balances and issued its written order.

In November 2015, we filed a petition with the TRA seeking authority to collect an additional $1.7 million in annual margin revenue, effective January 2016, based on $18.4 million of IMR-eligible capital investments in integrity and safety projects over the twelve-month period ended October 31, 2015. In December 2015, the TRA approved the IMR rate increase to be effective January 2016 and issued its written order in February 2016.

In February 2014, we filed a petition with the TRA to authorize us to amortize and refund $4.7 million to customers for recorded excess deferred taxes. We proposed to refund this amount to customers over three years. In November 2015, we filed a settlement agreement with the Tennessee Consumer Advocate stipulating that we refund the $4.7 million to customers over a twelve-month period. In December 2015, the TRA approved the settlement agreement, and we began refunding the $4.7 million to customers through a rate decrement over the twelve-month period beginning January 2016. In February 2016, the TRA issued its written order on this matter.

In January 2016, we and Duke Energy filed a joint application with the TRA seeking approval on or before April 30, 2016 of a transfer of Piedmont's Tennessee operating license effective at the closing of the Acquisition pursuant to state statute due to the change in control. We are waiting on a ruling by the TRA at this time.

In February 2016, we filed an annual report for the twelve months ended June 30, 2015 with the TRA that reflected the transactions in a deferred gas cost account for the ACA mechanism. We are waiting on a ruling from the TRA at this time.

We compute basic earnings per share (EPS) using the daily weighted average number of shares of common stock outstanding during each period. In the calculation of fully diluted EPS, shares of common stock to be issued under approved incentive compensation plan (ICP) awards and forward sale agreements (FSAs) are contingently issuable shares, as determined by applying the treasury stock method, and are added to average common shares outstanding, resulting in a potential reduction in diluted EPS.

A reconciliation of basic and diluted EPS, which includes contingently issuable shares that could affect EPS if performance units ultimately vest and any FSAs settle, for the three months ended January 31, 2016 and 2015 is presented below.

 

We accelerated the issuance of shares of common stock under approved ICP awards as permitted under the terms of the Merger Agreement. This acceleration resulted in the issuance of 181,944 restricted nonvested shares of our common stock in December 2015, plus 1,092 restricted nonvested shares of our common stock from the reinvestment of dividends on these shares in January 2016. These restricted nonvested shares of our common stock are included in the calculation of diluted earnings per share in the table above but excluded in basic earnings per share and shares of our common stock outstanding because of their restricted nonvested nature. For further information on the acceleration of these shares of our common stock under our employee share-based plans, see Note 12 to the condensed consolidated financial statements in this Form 10-Q.

The NCUC approved debt and equity issuances under an effective debt and equity shelf registration statement up to $1 billion through June 6, 2017. As of January 31, 2016 , we have $544.1 million remaining for debt and equity issuances as approved by the NCUC. For further information on equity transactions, see Note 7 to the condensed consolidated financial statements in this Form 10-Q. Unless otherwise specified at the time such securities are offered for sale, the net proceeds from the sale of the securities will be used to finance capital expenditures, to repay outstanding short-term, unsecured notes under our commercial paper (CP) program, to refinance other indebtedness, to repurchase our common stock, to pay dividends and for general corporate purposes.

Our long-term debt as of January 31, 2016 and October 31, 2015 is presented below.

We are subject to default provisions related to our long-term debt and short-term borrowings. Failure to satisfy any of the default provisions may result in total outstanding issues of debt becoming due. There are cross default provisions in all of our debt agreements.

On December 14, 2015 , we amended and restated the agreement underlying our $850 million five-year revolving syndicated credit facility as an $850 million five-year revolving syndicated credit facility that expires on December 14, 2020 and has an option to request an expansion up to an additional $200 million . We pay an annual fee of $35,000 plus 8.5 basis points for any unused amount. The facility provides a line of credit for letters of credit of $10 million , of which $1.6 million was issued and outstanding as of January 31, 2016 and October 31, 2015 . These letters of credit are used to guarantee claims from self-insurance under our general and automobile liability policies. The credit facility bears interest based on the 30-day London

Interbank Offered Rate (LIBOR) plus from 75 to 112.5 basis points , based on our credit ratings. Amounts borrowed are continuously renewable until the expiration of the facility in 2020, provided that we are in compliance with all terms of the agreement.

We have an $850 million unsecured CP program that is backstopped by the revolving syndicated credit facility. The amounts outstanding under the revolving syndicated credit facility and the CP program, either individually or in the aggregate, cannot exceed $850 million. The notes issued under the CP program may have maturities not to exceed 397 days from the date of issuance and bear interest based on, among other things, the size and maturity date of the note, the frequency of the issuance and our credit ratings, plus a spread of 5 basis points. Any borrowings under the CP program rank equally with our other unsecured debt. The notes under the CP program are not registered and are offered and issued pursuant to an exemption from registration. Due to the seasonal nature of our business, amounts borrowed can vary significantly during the period.

As of January 31, 2016 , we had $495 million of notes outstanding under the CP program, as included in “Short-term debt” in “Current Liabilities” in the Condensed Consolidated Balance Sheets, with original maturities ranging from 11 to 17 days from their dates of issuance at a weighted average interest rate of .57% . As of October 31, 2015 , our outstanding notes under the CP program, included in the Condensed Consolidated Balance Sheets as stated above, were $340 million at a weighted average interest rate of .22% .

We did not have any borrowings under the revolving syndicated credit facility for the three months ended January 31, 2016 . A summary of the short-term debt activity under our CP program for the three months ended January 31, 2016 is as follows.

Our five-year revolving syndicated credit facility’s financial covenants require us to maintain a ratio of total debt to total capitalization of no greater than 70% , and our actual ratio was 58% at January 31, 2016 .

Under our effective combined debt and equity shelf registration statement, we established an at-the-market (ATM) equity sales program, including a forward sale component. On January 7, 2015, we entered into separate ATM Equity Offering Sales Agreements (Sales Agreements) with Merrill Lynch, Pierce, Fenner & Smith Incorporated and J.P. Morgan Securities LLC (JP Morgan), in their capacity as agents and/or as principals (Agents). Under the terms of the Sales Agreements, we may issue and sell, through either of the Agents, shares of our common stock, up to an aggregate sales price of $170 million (subject to certain exceptions) during the period ending October 31, 2016.

In addition to the issuance and sale of shares by us through the Agents, we may also enter into FSAs with affiliates of the Agents as Forward Purchasers. In connection with each FSA, the Forward Purchasers will, at our request, borrow from third parties and, through the Agents, sell a number of shares of our common stock equal to the number of shares underlying the FSA as its hedge. We expect to enter into separate FSAs through July 31, 2016.

Under the Sales Agreements, we specify the maximum number of our shares to be sold and the minimum price per share. We will pay each Agent (or, in the case of a FSA, the Forward Purchaser through a reduced initial forward sale price) a commission of 1.5% of the sales price of all shares sold through it as sales agent under the applicable Sales Agreement. The shares offered under the Sales Agreements may be offered, issued and sold in ATM sales through the Agents or offered in connection with one or more FSAs.

Under a FSA that we executed with JP Morgan on January 4, 2016, 360,000 shares were borrowed from third parties and sold by JP Morgan, from January 4, 2016 to January 28, 2016, at a weighted average share price of $57.90 , net of adjustments. Based on the weighted average share price at the end of the trading period, the initial forward price was $57.04 .

Under the terms of this FSA, at our election, we may physically settle in shares, cash or net settle for all or a portion of our obligation under the agreement. We expect to settle by delivering shares. At our election, we intend to physically settle the shares under this agreement prior to the closing date of the Acquisition or October 31, 2016 , whichever occurs first.

 

In accordance with accounting guidance, we have classified the FSA as an equity transaction because the FSA is indexed to our own stock and physical settlement is within our control . As a result of this classification, no amounts will be recorded in the consolidated financial statements until settlement of the FSA.

Upon physical settlement of the FSA, delivery of our shares will result in dilution to our EPS at the date of the settlement. In quarters prior to the settlement date, any dilutive effect of the FSA on our EPS could occur during periods when the average market price per share of our common stock is above the per share adjusted forward sale price described above. See Note 4 to the condensed consolidated financial statements in this Form 10-Q for the dilutive effect of the FSA on our EPS at January 31, 2016 with the inclusion of the incremental shares in our average shares of dilutive stock as calculated under the treasury stock method.

If we had settled the FSA by delivery of the 360,000 shares of our common stock to the forward counterparty as of January 31, 2016 , we would have received net proceeds of approximately $20.5 million based on the net settlement price of $57.03 per share. Upon settlement, we intend to use the net proceeds from this FSA to finance capital expenditures, to repay outstanding short-term unsecured notes under our CP program and for general corporate purposes.

Cash dividends paid per share of common stock for the three months ended January 31, 2016 and 2015 are as follows.  

Other Comprehensive Income (Loss)

Our OCIL is a part of our accumulated OCIL and is comprised of hedging activities and benefit activities from our equity method investments. For further information on these hedging activities by our equity method investments, see Note 13 to the condensed consolidated financial statements in this Form 10-Q. Changes in each component of accumulated OCIL are presented below for the three months ended January 31, 2016 and 2015 .  

A reconciliation of the effect on certain line items of net income on amounts reclassified out of each component of accumulated OCIL is presented below for the three months ended January 31, 2016 and 2015 .

We have marketable securities that are invested in money market and mutual funds that are liquid and actively traded on the exchanges. These securities are assets that are held in rabbi trusts established for our deferred compensation plans. For further information on the deferred compensation plans, see Note 11 to the condensed consolidated financial statements in this Form 10-Q.

We have classified these marketable securities as trading securities since their inception as the assets are held in rabbi trusts. Trading securities are recorded at fair value on the Condensed Consolidated Balance Sheets with any gains or losses recognized currently in earnings. We do not intend to engage in active trading of the securities, and participants in the deferred compensation plans may redirect their deemed investments at any time. We have matched the current portion of the deferred compensation liability with the current asset and the noncurrent deferred compensation liability with the noncurrent asset; the current asset portion is included in “Other current assets” in “Current Assets” in the Condensed Consolidated Balance Sheets.

The money market investments in the trusts approximate fair value due to the short period of time to maturity. The fair values of the equity securities are based on quoted market prices as traded on the exchanges. The composition of these securities as of January 31, 2016 and October 31, 2015 is as follows.