ML20216G201
| ML20216G201 | |
| Person / Time | |
|---|---|
| Site: | South Texas  |
| Issue date: | 01/31/1999 |
| From: | Hernandez G, Rosenberg A SAN ANTONIO CITY PUBLIC SERVICE BOARD |
| To: | |
| Shared Package | |
| ML20216G150 | List: |
| References | |
| NUDOCS 9909290033 | |
| Download: ML20216G201 (52) | |
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l Table of Contents Powering up to be the energy prwider General Manager's 1.etter . Pages 2 3 Providing first-class power Profile of San Antonio's Gas and Electric Utility Pages 4 5 Assuring competitive success Competitive / Corporate Initiatives Review . Pages 6 9 Making a difference in the community we call home Commmunity Involvement Review = - Pages 10 13 Meeting the need now and inthe future Operations Review .. . . . . . Pages 14 18 Progresting with bottom line results Finar.ial Review - . ." ages 19 23 Five Year Highlights- Unaudited - . Page 24 Five Year Operations Review - Unaudited = Page 25 City Pub!ic Service Timeline = . Page 26 Future Plans .. - Page 27 Did You Know - Page 28 i
Audited Financial Statements - ...Pages 29 48 l'
City Public Sen, ice Annual Report I998 1999 1 I
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Powering up to be the energy provider.. participation in the Amencan Public Power Association ( APPA). CPS hosted the 1998 national General Manager's Letter AePa conference at which uoo anenaces ais-cussed utility restructuring and enjoyed our city What an eventful year ~. M - 1999 was for and its sights.
City Public Service. Focusing on a fast-approaching During the last year, City Public Service deregulated environment, City Public Service restructured its organi:ation by offering limited powered up every aspect of our business, voluntary early retirement to one-third of the To meet energy requirements, CPS powered executive staff. The ensuing reorgani:ation placed up as records were set for peak greater emphasis on streamlining processes and dunand, electric generation, and serving the customer. In addition and to improve electric sales. As a result, records were communication with our community, a Citi:en's set for gross revenue which exceeded Advisory Committee of fifteen citizens was
$1.081 billion, and for City of San established to advise CPS on community issues Antonio payments which surpassed and concerns.
$144.6 million. To continue meeting This past year also saw CPS coming together increasing energy requirements, we with its community to overcome horrific natural began construction on a new com- disasters. We survived a heat wave and drought bined cycle gas power plant that will add about 11 during the first part of the year that ended with the percent to our generating capacity. In addition, we flood of the millennium in October 1998. CPS was began planning for a gas pipeline to the unit which part of the emergency response team that helped will increase flexibility for the future. maintain gas and electric service during the flood.
Historic strides were also made in the financial ~We are very proud of the continued effort of all our arena. We restructured debt through an $885 employees to maintain reliable energy services even million bond financing transaction of which, for in the most stressful circumstances.
the first time, $99.6 million of the issue consisted of City Public Service continued to work together taxable bonds. CPS will reali:e savings of $39.7 to keep our home a " clean air city." In fact, San million over the life of the bonds. The transaction Antonio is the largest city in the nation that ,
will reduce outstanding debt and place CPS in a complies with all clean air standards. To further favorable competitive position. protect our environment, CPS voluntarily commit-The Texas legislative session that began red to spend $35 million over a four year period for January 1999 will emphasi:e restructuring of the a nitrogen oxides reduction program.
utility industry. The passage of a bill during the The next few years promise to be the most 1999 session is still uncertain: however, through vo!atile the utility industry has ever experienced.
active participation in the legislative process and City Public Service has been here to serve our through involvement in the Texas Public Power customers as a municipal entity since 1942 and Association, CPS will continue to pursue protec- through our restructuring efforts, we are powered tions in legislation for municipally owned utilities. up for the new millennium to be your energy We are also involved at the national level through provider of choice.
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Gloria 1 eal Hernandez Arthur von Rosenberg )
Chairman General Manager and Chief Executive Officer 2 p City adec Service AnnualReport 1998-1999
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Providingfirst-class power.. of San Antonio, CPS provides reliable, low-cost energy and energy related services for the City and Profile of San Anton.io's the su,,ounaing area, making San Antonio an ideal Gas and Electric Utility piece m iive ana conauct busine .
CPS owns and operates 15 electrical generating City Public Service powers up each day to units capable of producing 3,815 megawatts of provide excellent utdity services for our customers. power from natural gas, oil and coal. In addition, One of the nation's largest municipal utilities, during 1998, CPS began construction on a new 511-CPS serves more than 550,000 electric customers megawatt gas-fueled combined cycle power plant.
throughout its 1,566 square mile service area, and in CPS also owns 700 megawatts of nuclear generating excess of 302,000 natural gas customers in the urban capacity in the South Texas Project. Last year, CPS San Antonio area. Purchased in 1942 by the City obtained its generation from the following sources:
3 Coal,47%; Nuclear,33%; and Natural Gas,20%.
Comparison of Residential Gas and Electrict i The natural gas system has 4,183 miles oflines Bills for the 20 Largest U.S. Cities through which natural gas is delivered.
Based on 5 MCF and 1,000 KWH . A diversified fuel mix at favorable prices, low 5
,,,,,,,,,,.,,,,,,,.,,,.,,,4,,,,,,,,u,,,,,,,,,,, production costs, and sound financial management have enabled CPS to keep its rates lower than major Texas cities. In addition, the average CPS z
s.n Antonio Emmumsmmmmmmmum 33.39 residential gas and electric bill ranked the lowest m.mphis,TN '
am ng the 20 largest cities in the United States s3.42 for fiscal year 1998 99. The utility's favorable Dan.*,Tx nummmmmmmmmmmmma 10s.34 bond ratings assure lower interest rates when Indien. polis, IN - 107.52 CPS requires financing.
muw.uk , we retums a percentage ofits gma reveme 114.13 to the City of San Antonio. Cumulatively Houston, TX - 115.11 through last fiscal year, CPS had paid the City in Columbus, OH - 118.01 excess of $2.3 billion since 1942. CPS contributes Wcshington, DC - about one-third of the City's general fund revenue 118.43 and helps support City services such as police, fire, J.ek nvies , FL - 11s.s3 and health services, while also reducing property seitsmore, no - 127.ss taxes. At the end of the fiscal year, the City Payment represented about 7.4 percent of the Detroit. W! 138.40 City,s Equity.
Les Angeles, CA 143.31 CPS also supports the community through
- phoenim, AZ 144.55 education, small business development, employee sen Frenei.e., ca volunteerism and donations. Free tours and 14s.se W iv h pi@ube chie ,e, n. 1s1.se the utility, gas and electric safety, and energy sen J , cA 1s2.s2 e nservation.
Low rates, reliable service and a dedic ated work force make City Public Service a leacht in seston, MA 157.09 the utility industry and a key contributor to our phn.d.sphs., PA 1 1.52 wners, the citizens of San Antonio.
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Assuring compeddve succe55... emphasis on performing and evaluating market i
research and implementing new customer programs.
. Competit.ive/ Corporate xey account ,er,esentatives continuca to provide 1
lnifiatiVes Review proactive services during the year to our large
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commercial and industrial customers by placing jignificant changes are in store for the utility the power in their hands to communicate their l ind astry over the next several years. Utility deregula- needs. Several large long term contracts were l tir a and the advent of competition, coupled with signed, including ones with the City of Castroville !
rantinued growth in electric demand, present new and VLSI. In addition, CPS is evaluating gas and ;
challenges for all utilities. City Public Service is electric infrastructure purchases on the San Antonio
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of our customers. Future marketing strategies will continue to ,
Over the fiscal year, City Public Service continued focus on maintaining strong customer loyalty, l
to seek legislative protections for municipally owned growing and diversifying revenue streams, and i utilities and our customers. As the Texas Legislature developing new products and services attractive prepared for its January 1999 session, relevant Senate to both new and existing customers. CPS is also
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and House committees studied new legislative restruc. refining strategies by market segment and is
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turing proposals for the utility industry. CPS participated preparing for retail competition by tailoring l in these discussions on a variety of issues, including rate programs to meet our retail customers' needs. I reductions, stranded investments and renewable energy sources. As the new session began, several deregulation Customer Service Strategic initiatives f bills were introduced. City Public Service will continue to play an active role through participation in the Texas To allow new gas and electric customers the Public Power Association and our office in Austin. convenience of meeting with CPS near their homes To further strengthen the position of munici- and workplaces, City Public Service has staffed pally owned utilities, City Public Service has worked four conveniently located customer service centers.
with a coalition for preservation of cities' rights in These one-stop service centers provide customers deregulation and improved communication with with a single place of contact for all their energy city government and the Bexar delegation. The needs. Additionally, CPS undertook a continuous City of San Antonio, with CPS funding assistance, improvement project focusing on our customers retained a consultant to analy:e available options who are adding new services to enhance customer and to provide relevant deregulation information. communication and reduce turnaround time.
Results thus far indicate that CPS is well positioned Also in 1998-99, City Public Service planned for competition. a series of" Town Hall" meetings, public forums to communicate information on CPS and its programs
. Strategic initiatives directly to the comrnunity. The first few of many
" Town Hall" meetings were held just before the t With rapid changes occurring in the utility fiscal year ended.
industry, City Public Service has aggressively During the record. breaking summer heat developed and acted on strategic initiatives to wave, City Public Service introt'. a extended better serve our customers and streamline processes - payment program without the disconnection of placing the power in our customers' hands. any services. CPS also implemented new customer Anticipating successful operation in a competi. programs including the enhanced Budget Payment tive environment, our marketing and sales arms Plan, Wash Rite Appliance Rebates, and Mow powered up during the current fiscal year with Down Smog. The Budget Payment Plan allows O City Public Service Annual Report I998 1999 m
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p residential customers to climinate the ups and instrumental in devekring electric fuel diversification downs of bills by levelising their monthly payment. plans, managing system costs and staffmg growth, In partnership with the San Antonio Water and driving technical advancements while preparing System and the BexarMet Water System, CPS CPS for competition. His career is highlighted by his partially funded Wash Rite Appliance Rebates; strong commitment to the community and numerous while the Mow Down Smog rebate campaign professional achievements.
partnered CPS with local retail businesses. These After an extensive, nationwide search, the programs expanded economic opportunities while - Board of Trustees announced his replacement, Mrs.
demonstrating concems for saving our customers Jamie A. Rochelle, who served most recently as the money, conserving energy and water resources, Senior Vice President for Corporate Servicu and and protecting our clean air. Finance. Mrs. Rochelle, who holds a bachelor of arts degree in mathematics and a master of science Employee Strategic initiatives degree in civil engineering, takes the helm February 1,1999 after 29 years of service to CPS.
During the last year, City Public Service restructured our organhation and impmved human Year 2000 Strategic initiative resources systems to emphasize customer satisfaction and company goal attainment. City Public Service has made substantial CPS offered voluntary early retirement to one, progress in addressing Year 2000 (Y2K) readiness third of the executive staff, resulting in a 20 percent issues during the current fiscal year and will be ready reduction. The ensuing reorganization established a to provide our products and services safely and marketing function with key account representa- reliably into the year 2000 and beyond. Work on tives, a strategic planning function, and a risk our Y2K effort began in 1996 with an initial focus management function. This reorganization allows on preparedness. Emphasis was then placed on for closer contact with our customers, improves contingency planning and on communication of planning for the future and ensures adequate risk CPS' Y2K status to our employees, customers, and protection for marketing and business operations. others. A corporate plan was established, making CPS also implemented other employee this project a number one priority, with scheduled initiatives during the year including a new Em- milestones. CPS remains on schedule, with all ployee incentive Plan that rewards employees for remediation work targeted to be complete by March achieving company goals. Perfonnance measures 1999. Testing and implementation of solved issues are tied to customer satisfaction, expense control, and contingency planrung will be completed by and revenue increase. A new Performance Man- July 1999.
agement System was also implemented to support CPS has also contracted with a consulting CPS vision, mission, and values. The new system firm to validate our Y2K efTorts by providing emphasizes employees actively working toward independent assessment, helping to identify any key strategic goals. A 360-degree review process possible problem areas, and developing a compre-was concurrently initiated to provide input and hensive management tracking and reporting to identify areas for improvement, system. As an additional verification process and A year of powerful employee initiatives aside, because of out interdependency with other entities, the face of CPS changes as CEO and General questionnaires have been mailed to the top 100 Manager Arthur von Rosenberg retires effective CPS suppliers. We are currently conducting face to February 1,1999. Mr. von Rosenberg, a part of the face interviews with our critical suppliers for rail CPS team for over 39 years, has spent the last eleven transportation, telecommunications, gas supply, years as CEO and General Manager. He has been and water to determine their Y2K status.
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1 Makinga difference in the NOx emissions from its power plants by 20% At community we call home... the end of this four-yeir program, CPS will boast the lowest system-wide emissions rate of any major !
Commun,ty i utility company in Texas, ana rank among the best ;
involvement Review 10% in the nation.
Committed to clean up San Antonio's air, ,
Nineteen ninety-eight was a year of active City Public Service developed its " Mow Down community suppon and involvement at City Public Smog" Rebate Program. This campaign, designed Service. %is included record-breaking donations to replace high-polluting gasoline-powered lawn-to the United Way, award-winning volunteer mowers with clean electric ones, removed almost programs, active citizen involvement, an inaugural 1,000 of San Antonio's gasoline powered Small Business Mentoring Protegd Program, an lawnmowers that were creating the same pollution impressive Environmental Protection Program, output as two million miles of automobile driving.
and a continuing Safety Education Program. CPS As an extension of" Mow Down Smog," CPS has and its employees powered up and pledged to also included all types of gasoline-powered lawn improve our San Antonio community, and garden equipment in our rebate program. ]
Documenting its substantial and aggressive I' Citizen's Advisory Committee environmental protection programs, City Public Service produced its first-ever Emironmental Enhancing our long-standing relationship with Operatmg Report. This report contained information the community, City Public Service established a 15 and details on CPS' environmental programs member Citizens Advisory Committee in 1998-99. Prepared largely in-house, this report documents Members were selected by the San Antonio City substantial work in the improvement of air and water Council and the CPS Board of Trustees. The quality, conservation, and solid waste management.
Citizens Advisory Council, which meets monthly, provides City Public Service with a forum to share Supplier Diversity Program information on their activities with the community and the San Antonio community with a forum to Continuing with work started in 1989 with the relay their input and express their concerns. establishment of our Supplier Diversity Program, City Public Service in 1998 further expanded its Environmental commitment to the community and local small businesses with the introduction of the Mentoring i City Public Service extends our commitment Protege Program. The Protegd Program is designed to the community with a strong pledge to the to give small business owners and managers the g environment. Carrying out that strong pledge in a tools they need to be successful in the business number of ways, CPS makes sure each ofits facilities world. In its pilot year, five local businesses (power plants, service centers, offices, etc.) meets participated in the Prot 6ge Program. City Public I all applicable federal, state and local permit condi- Service looks for increased participation from tions. Each facility has comprehensive spill control area small businesses in the years to come.
and waste reduction programs. Additionally, CPS Expansion of this program well into the next has undertaken significant and creative programs to century will continue to place CPS in excellent enhance San Antonio's prominent standing as one stead with the small, minority and woman owned of the " greenest" major cities in the United States, businesses. In 1998, CPS awarded $7 million, or l This year, City Public Service voluntarily 20 percent of bids, to small, minority and woman committed to spend up to $35 million to reduce owned businesses.
13 City PuNic Service Annual Report 1998-1999 i
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City Public Semce AnnualRepon !998-l999 11 l'
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Safety and Utility Education To further enhance utility education, this year City Public Service planned and constructed a City Public Service has an extensive safety state-of the-art Energy Education Center with a awareness and education program aimed at scheduled opening of the center in early 1999.
enhancing the awareness of electric and gas safety The Energy Education Center will provide and altressing the importance of energy conserva- interested parties with interactive exhibits and a tion to area schools. To support this effort, CPS has forum for energy education and safety awareness.
two mascots, Wattson and Gaston who appear at many of the community education events. CommunityVolunteerism To promote safety awareness among the young, over 2,300 elementary school children attended City Public Service knows how much time CPS safety seminan during 1998. City Public and service mean to local non-profit organi:ations Service also participated in safety fairs at which City and demonstrated a strong will to serve our Public Service provided safety information to over community. Ten years ago, CPS established a 70,000 contacts. For the fourth consecutive year, Volunteers in Public Service (VIPS) Program CPS sponsored an annual Electrical and Natural which targets health care, child development and Gas Safety Poster Contest. The winning posters, education, the elderly, the homeless, and protect-selected from over 300 entries, are featured in ing our environment. Over the past year, well over widely distributed calendars, bookmarks, and 1,400 employees, retirees, and family members bookcovers promoting utility safety. CPS also works performed well over 14,000 community service in partnership with local schools to promote safety hours and raised over $19,000 to donate to local education through presentations, curriculum charity organizations in association with the supplements and a library of video tapes. This past program. During 1998-99, sixty-five local agencies fhcal year, City Public Service visited 40 echools, received volunteer assistance or donated money presented life saving informailon to over 3,000 through the VIPS Program, children, disbursed almost 10,000 curriculum Many people received the benefit of City supplements and provided 400 video tape showings. Public Service employees' volunteer work.
City Public Service also expanded its safety During the holidays, underprivileged children's education outreach through the local television and senior citizens' faces lit up when they media by participating with KABB in a Kids Zone received visits and gifts from volunteers. Children program. In association with the weekly program, at a local elementary school welcomed weekly ,
CPS also participated in a Kid's Fair at which mentoring and were grateful for help with school- -
45,000 people attended. During 1998-99, CPS work. CPS volunteers donated their time and ;
partnered with the San Antonio Spurs to deliver essential items to families who lost their homes in electric and gas safety messages and reinforce CPS' the October flood. City Public Service's spirit of positive image with the youth of our San Antonio giving was probably most evident as employees community, donated a record-breaking amount of $527,984 to This year, City Public Service established an the United Way during their 1998 campaign. j Electric Universe website. This gives area schools I an opportunity to learn about the utility industr y via our CPS website. It also provides information i on electricity and how it is generated and has I hcipful messages on energy conservation and safety tips. The website was visited about 25,000 times during the last year. -
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City Public Service Anmud Report 1998-1999 13
Meeting rAe need now and in the future. . resources, closely monitoring power riant perfor- l
. mance and reliability, and planning ahead for Operations Review future requi,ement,.
Coal delivery delays continued during the Due to growth in our electric customer base early part of the year. CPS again took measures to and the summer heat wave, CPS customers diversify by purchasing petroleum coke and established two new all. time milestones of 3,684 Vene:uelan coal from alternate suppliers. CPS megawatts for the hourly peak demand and 69,002 also utilized an alternate rail provider for coal megawatt hours for 24-hour usage. he new hourly deliveries. The coal-fired units provided 46.9 peak on August 3 exceeded the 3,547 megawatts percent of CPS' generation requirements and summer peak demand performed well. The equivalent availability of Electric Generation & forecast.The 24; hour these units, which is a measure of their pedormance
( Purchased Power usage record was set on and reliability, was about 85% for this fiscal year.
in sm,.n nwn v. b ve m an ... u . ,3, August 4, and was This compares favorably to a National Electric aim st 8% above last Reliability Council's five-year average for 400- I o s 'w a m w year's record. 599 MW coal units of 80.5% for the years 1993 1996 - I ~ The October flood through 1997.
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pant in the En rgency evaluate options to determine the most cost-tese -
en a m 17.4 Response Team, CPS effective method to meet future generation needs, O ==d.- E e.d w rked around the while continuing to maintain system reliability.
- a. m E ri, oei ~., el ck to restore electric The supply ahernatives included purchased a.. 9 ,..v.s .u . .u and gas services, handle power, or build options using coal, gas, lignite, numerous catomer or renewables. At the May 1998 meeting, staff calls, and reroute service due to downed transmis- recommended that a new power plant was the best sion towers. All services were restored to our value for our customers. A rate increase would not customers within a two and one-half day period, be necessary as proceeds from the settlement with with most in much less time. Reliant Energy, formerly known as Houston .
Lighting & Power, would be used to fund the Production project. Using cash instead of debt financing ,
provides CPS with more flexibility to sell any I Generation Statistics excess power.
Upon Board approval, staff proceeded with Record-breaking generation requirements of plans to build a 511 MW gas-fueled combined 17.4 billion KWH for the fiscal year increased cycle power plant with an expected commercial 11.4% from last year and were met using primarily operation date by August 1,2000. A combined lower cost coal and nuclear fuel resources, with cycle unit will be significantly more efficient than gas-fueled generation representing about 20 existing CPS units and will also reduce NOx percent of the total. CPS has continued to pursue emissions for the system. This power plant is strategies to maintain the lowest possible electric currently under construction and will be located production fuel costs for customers by negotiating adjacent to the V.H. Braunig Plant, which already favorable fuel purchase cont acts, diversifying fuel has much of the needed infrastructure.
14 City Public Senice AnnualRepwt 1998-1999 i
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SouthTexas Project tap was underway during the year, and is expected to be completed next fiscal year. Several other ne least expensive fuel resource utili:ed to transmission activities relating to construction of maintain low customer bills is nuclear-fueled the Arthur von Rosenberg plant aho progressed to generation from the South Texas Project, which ensure it will be operational on schedule. accounted for 33.4% of total generation. For this fiscal year, the STP Units 1 and 2 operated at Electric Distribution System 99.1% and 91.3% of their net capacicies, respec-tively. According to an Institute of Nuclear Power During the current fiscal year, downtown Operations (INPO) report issued in March 1998, improvements continued to convert overhtad STP received an Assessment Category 1 Rating in distribution lines to underground. The effort is overall perforraance for the second time, which is being completed in phases over the next three the highest rating that INPO can assess. A milestom years, at a cost between $8 million to $10 million. was achieved on July 4,1998 when STP reached Progress continued on other overhead conversion 150-billion kilowatt hours of electrical generation work including the Mission Trails Project, a City in less than ten years of operation. STP was also project to enhance the corridors between the recogni:ed in the May/ June 1998 issue of Pour Alamo and the other Missions. Total estimated magazine with the publication's 1998 " Power cost of this project is $10.2 million and $5.5 Plant Award." million has been spent to-date. The CableCure technology, initially utili:ed joint Operations in 1992 by CPS, has been adopted as a cost-effective maintenance altemative which comple. The operating agreement with Reliant Energy ments the cable replacement program. The process provides that the two utilities will jointly dispatch involves injecting cable with a silicone-based their generating plants to take advantage of the fluid that will extend the life of the cable for an most efficient fossil fuel plants and favorable fuel estimated 20 years, with a guarantee against cable prices for each utility. As a result of joint opera- failure for 10 yews. CPS plans to CableCure tions, CPS supplied 3.2 billion kilowatt hourt of approximately 40 inites per year for the next four electricity, or approximately )8 percent of its years in addition to replacing 100 miles of cable generation, to Reliant Energy during the fiscal year. per year for rne next 12 years to improve service Through January 31,1999, the total cumulative n. liability of the Underground Residential Distribu-energy transfers to Reliant Energy amounted to tion (URD) System. CPS has approximately 1,400 8.5 billion KWH miles of direct buried cable being considered for upgrade or replacement over the next 12 years. Transmission System Automation projects underway include the
- Distribution Automation Pilot Project (DAPP),
To meet customers' needs and secure long- the Wide-scale Automated Switch Deploym-nt, term agreements to provide reliable, cost-effective and the Customer %r Automation Project. services, CP3 and VLSI executed an agreement in These projects we eu.ance reliability, i.nprove 1998 for future electric service VI.SI's load is power quality, and determine potentials for expected to double over the next two years and adding new value-added services. The initial CPS has agreed to improve transmission service deployment offering new services to customers reliability to VI.Sl in return for the 25-year con- related to the Customer Site Automation Project tract. Engineering and construction work to rebuild is anticipated in the second quarter of 1999, the VI SI substation and the 138 kV transmission while the DAPP is scheduled for completion in the third quarter of 1999. O City PuNic Service Annual Report 1998-1999
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a City Public Senice Annual Repwt I998 1999 11
Y'" V ; Gas System CPS solicited bids for market priced gas to fuel generation to serve off-cystem electric sales. Oas system reliabiPry waa improved through p ' The awarded contract will supply base load and the replacement of approximately 5,400 steel gas limited amounts of swing gas. CPS has also [ services with polyethylene pipe. Since 1995 when contracted to buy landfdl gas from the Nelson the gas renewal project began, CPS has replaced Garden 1.andfill, which could total 2% of CPS' approximately 22,700 steel gas services. Future gas requirements and further enhance our 1 work will target replacement areas based on age environmental commitment. and operating history. A continuation of high
)
= reliability, safety and efficiency is expected. CPS Communication Facilities has completed approximately 65% of the $12.5 million loop line construction to provide for the
'i Enhancements to our infrastructure included growth of the gas system.
the Mobile Data Communications System which was introduced publicly at a ribbon-cutting
. South Gate Pipeline '
ceremony in June 1998. CPS will use the system in 200 vehicles to improve customer service and Plans to build a new generating unit also reduce outage response time. Among the benefits
~ include a pipeline needed to supply the unit with of this high technology system, personnel can be additional gas. This project,'which includes dispatched in seconds on an emergency call.
acquisition of right of-way for and the construction Dunng the current year, CPS crews completed of additional naturalgas transmission facilities to stringing, splicing, and testing fiber optic cable to serve the von Rosenberg Power Plant is estimated form the 377-mile-long fiber optic-network
' to cost $44 million. (
backbone. Tnis network will initially connect Construction of the pipeline will begin in early CPS facilities for data transfer and system control 1999, with completion prior to the commercial functions. Future extensions of the network will operation of the combined cycle unit. Project connect CPS to the City of San Antonio and other j funding will come from available revenue or other ' governmental agencies, in addition to providing funding sources. This pipeline will provide for a high-speed networking capabilities for the delivery more flexible natural gas delivery system and will 4 of emerging er'ergy products and services through-
. provide access to more suppliets and market-priced out our service area, services for gas requirements beyond 2002.
. In fiscal year 1998-99, at the request of City 1 Council and the Board of Trustees, CPS investi-Gas Fuel Supply Options gated the possibility of using its fiber optic assets to provide cable television service. The study in conjunction with the South Gate pipeline concluded that'a programming only services project, gas fuel supply options were also evaluated '
*' application was not viable at this time. However, to determine the most cost effective choice for the the future project focus will be to develop the new combined cycle plant, off-system sales, and : Smart Cities concept, a pilot project that will CPS' gas requirements beyond 2002. When the - include two-way fiber-optic connection with
, combined cycle plant is operational, natural gas schools, universities, some hospitals, libraries, needs will increase 23 BCF on an annual basis, and other public facilities.
CPS' current gas suppl / contract with PG&E expires in June 2002 r.nd includes a provision l
- allowing market competitive pricing on gas for off-system electric sales.
l 1 l 1e. City Public Service Annual Report' 1998-1999 l n
Progressing with bottom-line results... Power Plant, which began full scale construction i
. . in October 1998.
Financial Rev.iew . .Restrictedcashanainvestment,,eiiectedusing for 1998-99 the available New Series Bond Regrve Fund assets for the cash defeasance of debt and increased Our customers continue to reap the benefits construction funding requirements. The Bond from CPS' strong and very stable fmancial position, Construction Fund was lower from using $192 as we begin our eighth year without a base rate million in proceeds for this fiscal year. The CPS increase for any class of customers. CPS' residential Board authorized using available joint operations agreement proceeds to fund the Arthur von Comparison of Residential Gas and Electric Rosenberg plant construction. M Bills for Tewas Cities - - As part of CPS' Debt and Asset Management , Based on 5 MCF and 1,000 KWH - '
'. - Program the utility's debt structure was teshaped i
. s . s. ... r-. u.oisJe os , s.o. ,, ,,,s by cash defeasing both bonds and commercial l paper and by issuing the New Series 1998 Refund-0 20 40 SO SO 100 120 140 Dollars ing Bonds resulting in a reducuon of outstanding San Antonio 89.99 debt as of the fiscal year end. A total of $646.7 Austin 101,o1 million in bonds and $321.7 million in commercial paper were either refunded or cash defeased in J Corpus Christl 104.01 conjunction with this financing transact:on. Dallas 106.34 rort worin 1 s o.oe b"" d hb Houston ' H 5.H Record breaking gross revenue of $1.081 billion for fiscal year 1998-99 exceeded the prior gas and electric b;'l ranked lowest among the 20 year's record level by $49 million. Greater recover-largest cities in the country based upon an average les for electric sales and electric fuel costs, coupled for twelve months ending January 1999 for consump- with increased non-operating revenue contributed tion of 5 MCF and 1,000 KWH. Using the same to reaching this new milestone. A new high of comparison basis within the state, CPS was also $909.6 million for electric system revenue resulted ranked lowest among major Texas cities. Creating primarily from a 7.8 percent advance in sales. value for CPS' customers and our City so that they Record total sales of 16.4 billion KWH were due continue to benefit from rates that are among the to the increased customer demand particularly lowest in the state and nation is essential to our vision during the hot spring and summer months. to be the energy provider of choice in the communi- Excluding greater off-system sales to other utilities ties we serve. and power marketers, regular electric system sales Total CPS assets of $4.9 billion as ofJanuary grew 7.3 percent compared to a year ago. The 31,1999 declined slightly as cash reserves were record amounts were attributable to temperatures used for debt defeasance in December. The com- at or surpassing 100 degrees Fahrenheit for 36 plex, historic sale of the New Series 1998A Bonds days during the year and the addition of 11,556 and 1998B Revenue Refunding Bonds totaled new electric customers. Electric fuel cost recoveries
$885.1 million, of which, for the first time, $99.6 rose 4.2% as electric fuel costs increased due to million were taxable bonds. A $29 million increase higher generation requirements. The average unit in net utiliry plant resulted from expenditures for fuel cost per MWH was down compared to fiscal new facilities, especially the Arthur von Rosenberg year 1997-98.
I i l 19 City Public Senice Annual Report 1998-1999 l
Gas system revenue of $114.2 million declined the significantly warmer weather this year. The 17 percent from last fiscal year as a consequence of average unit price per MWH was down 3.9 percent. reduced gas cost and sales recoveries. Lower gas . Routine CPS non-fuel operating and mainte- ' costs resulted from a 14 percent decrease in the nance expenses were $14.1 million higher. This average unit cost of distribution gar, along with increased level of spending stemmed in part less volume requirements due to a milder winter from the implementation of strategic initiatives this fiscal year. Nationally, there was an ample gas throughout the year. %is included costs related supply which kept costs down throughout the year. to various employee benefit and compensation Oas sales totaling 24.2 million MCFs were 9.6 programs to remain competitive, and marketing, percent below last year customer, and product information programs. He Electric, Sales . because oflow customer significant streamlining of CPS' management so e,n.o etww r.,o.s v&a,, en..ms saa .iv '2s consumption during the through implementation of a Voluntary Enhanced 0 5 to 15 20 Total mild winter. CPS served Retirement Program resulted in a reduction of an additional 1,538 gas about 20 percent in the executive staff. Added o.: 13.5 customers during fiscal electric distribution costs reflect accelerated teos summmmmmmmmmmmmmnm year 1998-99. underground cable URD replacement and renewal. s 4.o o.s 14.3 A $7.8 million Other operating and maintenance expenses also
,7 su u i s.3 increase in non- reflected a small amount ofincrease as a result of
'" operating revenue of the flood of the millennium in October 1998.
,u u i s.2 1 ,oo -
$57.5 million was a STP operating and maintenance expenses, record level, as operat- other than fuel, decreased $8.2 million. Fiscal 5 mew w ow4,n- s** ing and other fund year activity included only a single refueling in balances grew due to October 1998, whereas the prior year included two strategic initiatives refuelings which contributed to lower maintenance
- aimed at restructuring costs. The Unit 2 refueling during October Gas Sales debt and asset manage- achieved an outstanding refueling time of 21 days.
- i. u,u..n ucr r,st.,ve ,e. .. s.no,,,3i g g g g gg , g, 0 10 20 30 Total portion of non operating reduced level of spending for administrative costs, income was derived from a trend since the new Operating Company began 199s - m investment of the cash in October 1997.
1M 2s.3 reserve fund. The appropriation for the regulatory transition 1997 assessment amounted to $2.1 million, which 26.8 Expenditures reflects our net wholesale transmission access costs 1998 28.s for fiscal year 1998-99. CPS is required to comply 139, 24.2 Total operating and with this assessment based upon the Transmission maintenance expenses Pricing and Access Rule promulgated by the Public
- of $500.1 million, excluding depreciation, for fiscal Utility Commission of Texas, effective January 1997.
year 1998 99 were essentially the same as last year. In an effort to protect our customers, CPS along Distribution gas costs declined $14.4 million which with two other utilities have challenged this rule. more than offset the $13 million adsance in electric Thus far, a state district court has upheld the pricing fuel costs. Lower distribution gas expenditures rule, but CPS and another utility challenger have resulted from a lower unit price of gas and the filed an appeal which is expected to be heard in the. decreased customer requirements, as previously next fiscal year. discussed. Higher electric fuel costs resulted from an Since the use oflignite as a fuel resource is not 11.4 percent rise in generation requirements due to in CPS' generation forecast, our Board of Trustees ' 20 City PuNic Senice AnnualReport 1998-1999 i
, approved two separate contractual arrangements defeasance, which contributed to the increase in with Alcoa and the San Antonio Water System totaldebt requirements.The Debt and Asset regarding the use oflignite property, related Management Program strategies initiated in early reserves, and water rights. Based upon these egree- 1997-98 continued to evolve into the current year.
ments, the balance of $3.6 million in costs incurred CPS reshaped the utility's debt structure once again to-date associated with developing these assets for with the successful execution of this finac.cing future um were expensed at ftscal year-end. transaction. We accomplished our goals to reduce A new record payment to the City of San outstanding debt, lower interest costs, provide Antonio of $144.6 million exceeded the prior additional funds for strategic initiatives, and to year's level by 4.3 enhance our financial and competitive flexibility l Grpss Revenue percent.This milestone into the future. l r.w ai v.vrs End.ng January ai in u.u..ns os oona,s corresponded to the I trend in gross revenue Construction, Nuclear Fuel, ! and was achieved while and Net Removal Costs ! 1999 m $1,0s1 maintaining low ' eso its of
,, , customer bills that A total of $292.5 million was expended j
*** 13e so $1,032 continue to compare during the current fiscal year for replacement, 1997 mummmmmmelilimme m favorably with those of improvements, continued development of the m $1,024 1996 -- E other cities. Since electric and gas systems, and for net removal costs m se 3915 1942, total cumulative which consist of dismantling costs, net of salvage. I sit b $s93 contributions through This was $88.2 million above expenditures for the end of fiscal year 1997 98. This fiscal year nuclear fuel purchases O swire. a.. E m.no r.uns
- a. - . = ===. -
1998 99 to the City of totaled $14.6 million. This investment in CPS' San Antonio were more facilities infrastructure demonstrates our strong than $2.3 billion.The commitment to deliver safe and reliable energy transfer of earnings for to the communities we serve and to meet the Operating & .
- the current fiscal year increasing needs of our customers. 1 Maintenance Expenses represents about one- ne most significant project beginning in j Fiscai Vears Endeng January 31 en MiHi.ns of D.llars third of the City's 1998-99 was Construction of the new Arthur von ;
Total budget and provides Rosenberg Power Plant, which is a gas-fueled 511 1 services such as fire and MW combined cycle power plant expected to cost
" ' "'""" police protection, parks $166.5 million. The new plant is anticipated to m 3 $500 199s 'imumminumumummme and recreation, librar- be in operation in fiscal year 2000-01 to meet an n m $492 les, street and drainage expected growth rates in the demand for electricity.
199F - - nos to ese $4ss projects, etc. Hus far $63.4 million has been expended for this
'1996 mummusiiummm summumMu CPS' debt service project, which has been funded primarily from joint see so tot $455 and reserve require- operations agreement proceeds.
1Ns mumummimme - sto a ** $44s ments for 1998-99 Expenditures increased during the year for D ru.a.p na err ein., E ces ou,.,- totaled $288.8 million. electric customer extensions, electric distribution E.T",'l*" UT. - ***" M '. This level was $85.6 system improvements, elecuic overhead facilities million more than last conversion projects, and for South Texas Project fiscal year as a consequence of the cash defeasance capital expenditures. The continued growth in the of bonds and commercial paper. Cash reserves electric customer base resulted in greater customer from the Bond Reserve Fund and the Repair and extension costs. The URD cable replacement Replacement Account were used to pay for the cash program, which will improve the service reliability City Public Service Annual Report i998 1999 21
of the system, was the most significant electric Financing distribution system improvement project. Several years ago CPS began an initiative of funding As a very financially stable utility, CPS has electric facilities conversion from overhead to consistently demonstrated its abitity to successfully q underground for aesthetic and beautification manage and control the debt component of our purposes. Higher expenditures were incurred this pricing structure in the past, and continues to do so year as we continued this work with emphasis on now and into the future. Fiscal year 1998-99 was a the Mission Trails project. Higher STP capital very historic year in the financing arena for CPS. costs were also incurred during the year in A team consisting of our staff, financial advisors, preparation for the . attorneys, and underwriters orchestrated a complex Expenditures Summary future replacement of bond financing that was a cornerstone of our Construction, Net Removal Costs the steam generators, financial plan to ensure that our price for energy
& Nuclear Fuei Purchases as well as for communi. continues to be competitive in the future.
F escal Yeaars Ending Janu.ory 31 in Mells.ns .f 0.flars Cat on equipment and In preparation for this historic bond issue, for structures and CPS made a presentation of our strong financial Total improvements, and operating results, as well as our finan,cial yggg gg Proceeds from the position and competitive strategies to the nation's ser so u $292 revenue bonds issued principal debt rating agencies, Fitch IBCA, Inc., u sao4 during 1997 98 were Standard & Poor's Ratings Group, and Moody's 1997 - used to fund 65.7 investors Service in October 1998. These rating ses s $172 percent of total agencies recognized CPS by designating AA+, AA, tsa s4 $1s7 construction require- and Aal ratings, respectively, fo the new debt. 199s Muum m m unu ments for the current CPS has successfully maintained these high quality
$151 fiscal year. The long-term debt ratings since 1992 and we are proud D AM Othms STP E pevel.., Fu.i Pu,ch.
remaining $88.8 to be one of only two municipal electric utilities in million balance of the U.S. to hold such distiaction. bond proceeds as of The single largest bond financing transaction Funding Summary January 31 will be used in the history of CPS was closed on December 3, Constru4 tion, Net Removal Costs t p rtially fund . 1998 when CPS sold a total of $885.1 million of capit I additions next New Series 1998 Bonds. This was also the largest
& Nuclear Fuel Purchases fiscal year. Other i
long-term bond financing transaction in Texas' r.su v , an..n, ma.,, si in u m.. . .f o.n... construction funding history, as well as one of the ten largest in U.S. Total sources included the history. The issuance consisted of $785.5 million Repair and Replace. in Tax-Exempt New Series 1998A Bonds at an 1999 as si en r s2s2 ment Account which average interest rate of 4.92 percent and $99.6 contributed 10.7 million in Taxable New Series 1998B Bonds at an 1 ese im mum u mum m m m 47
. as m um m m. m. us204 a
.,,,, percent, while the average interest rate of 634 percent. The tax-sr tos 7 $172 joint operations exempt bonds refunded $439.7 million in out-1eos ,, ,,, 3 I sis 7 agreement, litigation standing New Series Bonds and $244.3 million in 1ses . me proceeds, and customer Tax Exempt Conunercial Paper (TECP), while si es e sist contributions provided the taxable bonds refunded $45.7 million in i
. O s.=*. E o ,- u.a. E uu u s.eu ne the remaining - outstanding New Series Bonds and $42.5 million
- w, E c=.t ,c ,m u 23.6 percent. in TECP. In addition to the refunding, $161.3 million of New Series Bonds were defeased with cash resources.
22 City Public Service Annual heport J98-1999
As part of this financing transaction, the end were 5.23 percent and 3.09 percent, respec-New Series Bond Reserve Fund was replaced with tively. Another record set for the bond principal a surety policy. nis made available $212 million and interest coverage of 3.14 exceeded the prior in cash reserves, $155 million of which was used year's amount of 2.79, and is the highest coverage to partially fund the cash defeasance, and about level for at i m the last eleven years.
$53 million was transferred to the Bond Construc- As a fita.ially strong utility, we are commit- ,
tion Fund. The remainder was transferred to the red to empowering our customers by providing ! Repair and Replacement Account. leadership in the safe, reliable, cost-effective, and Although the cash defeasance transaction environmentally responsible delivery of energy f resulted in an account- products and services. Our goal is to become the Application of Revenue ing loss of $24.9 million, energy provider of choice in the communities we F, .vi v n e ne.n,i uno. , u in u.iu.ns .e o.n.n which is reflected in the serve. To attain this goal, we have aggressively Statement of Revenues, pursued various strategic initiatives to operate in Expenses and Changes the most efficient and cost effective manner j 1999 EEuB in Retained Earnings for possible and will continue to do so in the future. soo see i44 see $1,oet
, 1999, this successful ses ses ese see $1,032 transaction resulted in 1997 many positive effects for see 34e ese iss $1,024 1996 m NEE CPS. This refunding j
*** **o eas n seis w 11 save customers 199s - um {
44e an eso se ss93 $39.7 million in 1998 dollars over the life of E op.,.tl og & E D.ht t .. -ts m.i.a . . a ein., nn . the refunding issue. In en, p., E n.. 4 n addition, outstanding debt and debt service was reduced, low long-arm rates for part of the TECP variable rate debt were locked in, private use restrictions for certain assets were addressed, and a capital structure was established for CPS' lines of business. This financing transaction has established a framework that reinforces our strong financial performance, enhances our operating flexibility, and improves j our competitive position. . Fiscal year 1998-99 concluded with $2.79 ' billion of fixed rate bonds, which represented 95.6 percent of total debt. The remaining 4.4 percent of total debt was composed of variable rate commercial paper of $128.3 million. The 1998 New Series Bond transaction resulted in TECP totaling $286.8 million being refunded with proceeds of these bonds and $34.9 million being redeemed using Repair and Replacement Account funds.The weighted average interest rates on outstanding bonds and commercial paper at year-City Public Sendce Annual Report 1998-1999 23 l
o Five Year Highlights - UNAUDITED (DoHm in Thomands) For Years Ended January 31, 1999 1998 1997 1996 1995 OPERATIONS
. Gross revenue $ 1,081,404 $ 1,032,202 $ 1,024,315 $ 914,850 $ 893,156 I Operating & maintenance expenses 500,083 491,813 488,352 454,714 448,236 Available for debt service. 581,321 540,389 535,963 460,136 444,920 Payments to City of San Antonio.. 144,555 138,543 137,588 122,922 119,852 Net income ...- . . . . . . - . 62,807 64,384 72,653 15,212 7,413 UTILITY PLANT Net book value ... .. ... . 3,929,705 3,900,755 3,866,063 3,853,576 3,853,421 Depreciation expense - 167,686 153,407 146,559 142,102 138,939 Additions to plant, nuclear fuel & net removal costs -- . 292,450 217,948 172,126 167,273 151 405 FUNDING
SUMMARY
FOR NEW CONSTRUCTION, NET REMOVAL,'
& NUCLEAR FUEL PURCHASES Bond proceeds - - - .. 192,029 166,501 57,157 16,109 0 Repair & Replacement Account.. 31,363 39,555 108,041 110,104 60,726 Commercial paper proceeds .. .. .... .. 0 4,500 0 33,299 81,278 Litigation settlement proceeds - 61,900 - - - -
Customer contributions;- . 7,I58 7,392 6,928 7,761 9,401 OTHER BALANCE SHEET DATA STP Decommissioning Trust Net Assets . 89,465 72,783 70,964 56,265 46,529 Repair and Replacement Account . 424,494 291,748 134,572 93,305 110,416 Totl Assetsm - . . . . . 4,920,277' 5,105,373 4,685,748 4,633,229 4,506,492 City of San Antonio's Equity - 1,961,174 1,898,367 1,833,983 1,761,330 1,746,084 DEBT Outstanding Bonds 2,794,295 2,582,638 2,483,883 2,549,260 2,483,916 Commercial Paper 12E,300 450,000 277,800 295,100 281,500 W;ighted AverageJnterest Rate Bonds --- .. 5.23 % 5.53 % 5.61 % 5.61 % 5.81 % Commercial Paper ...-., .. 3.09 % 3.69 % 3.48% 3.67 % 4.03 % Debt Service Bonds (excludes cash defeasance in 1999) .. 185,044 193,626 218,227 211,618 209,157 Commercial Paper - 15,474 15,841 22,975 23,746 22,795 Debt Service Coverage - Bonds - 3.14x 2.79x 2.47x 2.18x 2.13x Ratings Bonds /CommercialPaper Fitch !BCA, Inc. AA+/F.1 + AA+/F 1+ AA+/F 1+ AA+/F 1+ AA+/F-1 + Moody's Investor Service, Inc. .. .. . Aal/P-1 Aal/P 1 Aal/P 1 Aal/P-1 Aal/P-1 Standard & Poor's Ratings Group AA/A-1 + A/./A. + . AA/A-1+ AA/A-1+ AA/A-1+
- 0) Total Assets for all years restated to include the CPS STP Decommissioning Trust Net Assets.
24 City Public Senice Annual Report 1998 1999 l t.--__~
n I Five Year Operations Review - unvoirco For Years Ended January 31, 1999 1998 1997 1996 1995
. OPERATING REVENUE (In k t -~1a)
Electrict Residential . . . . ... . ... ~ ; '$ 428,482 ' $ - 392,889 $ 398,061 $ 360,484 $ 346,396
. Commercial and industrial. ... . 344,064 329,241 322,595 304,090 301,319 i Street lighting. 9,489 11,404 11,073 10,762 10,454
^ Public authorities . ~ . . . . ~ . - 90,182 87,198 85,488 80,812 78,504
' Sales for resale - --
.. 11,818 . I1,731 11,268 9,966 9,316 Off.systemsales . . ~ . . _ . . . 17,147 6,667 6,828 .5,580 5,923 Miscellaneous 8.457 5.718 6386 5.963 6.025
. Total electric . .. ... . 1$ 909,639 - $ - 844,848 $ 841,699: $ 777,657 ) 757,937 G5s:' . .. .
. Residential.. .. _ . ... $_ 66,142 $ 79,791 $ 87,362 $; 65,668 5 65,965 Commercial and industrial.. ~. 39,756- 47,547 50,360 36,305 37,982 Public authorities 7,391' 9,197 - 9,284 5,763 ' 5,824 Miscellaneous - .. 948, 1.058 974 889 923
- Total gas . ... . . . $ 114.237 5 137.593 $- 147.980 $ 108.625 $ 110.694 SALES fin thousands)
Electric KWH: Residential . 6,571,130 5,990,225 6.142,014 5,606,699 5,287,483
; Commercial and industrial 6,850,843 6,467,755 6,409,608 6,090,667 5,881,461 Street lighting. . .. -.~. . . .. 99,919 97,775 97,339 95,428 92.392 Public Authorities .. ' 2,059,882 1,972,320 1,946,948 1,854,042 1,765,728 Sales for resale . . 320,986 287,996 290.265 -261,325 235,900 Off. system sales _ . 454.114 351.745 381331 347.129 236.914.
, Total .- ..- _ . 16356,874 15.167.816 15.267.505 14.255.290 13.499.928 Gas _ MCF .
Residential .. . . 11,925 -13,607 13,752 12,902 12,488
' Commercial and industrial - . _ . . 10,196 10,875 10,963 10,683 10,566 Public authorities .. 2.074 2.293 2.071 1.718 1.639 Total .- -. ._. 24.195 26.775 26.786 25303 24.693 ' F1 Ff'TRIC GENERATION (In ek~iS~la) 17,373,503' 15,738,497 15,659,321 14,764,596 13,945,516 Total KWH _ ~.. . - _ ' Capacity, KW (Gas) : . ._. 2,430,000 2,430,000 .t,430,000 2,430,000 2,400,000 Capacity, KW (Coal) ' . - ~ . _ . 1,385,000 1,385,000 1,385,000 1,385,000 1,336,000 Capacity,KW(Nuclear) , . . . . . 700,000 700,000 700,000 700,000 700,000 ENERGY PURCHASES S = bnds) d 52,450 345,107 327,082 - Electric KWH .. - . 8 0 0 23,998 - 26,308 27,673 25,927 24,975
- Distribution Gas MCF . ~ . ._
3,684,000 3,448,000 3,356,000 3,249,000 3,052,000 El ECTR)C PEAK DEMAND KW. ... NUMBER OF CUSTOMERS
*. L.. ^ 550,956 539,400 528,739 519,269 506,646 Electric ._ .. .. -.
'302,719 301,181 300,185 299,167' 296,200 Oas - . . -
RESIDENTIAL AVERAGES
- Electric: .
)
Revenue per customer _. ... $ .892.38 - $ ; 833.89 $ 86233 $ ' 799.26 $ 786.61 j 13,685 12,714 13,306 . 12,431 12,007 KWH per customer .- . j 6.56g 6.43g 6.555 Revenue per KWH ... ._ _ 6.52c 6.48<
; Cas; Revenue per customer . . '$ 235.00- $ 284.93 $ 313.44 $ 237.20 $ 240.75 MCP per customer _ . . 42.4 48.6 493 46.6 45.6 ;
Revenue per MCF _ ... .$ 5.53 $ 5.86 $ 635 $ 5.09 $ 5.28 ! 3,639 . 3,475 3,427 3,565 3,567 ! bUMBER OF EMPLOYEES . .- Fiscal years 1997 through 1999 do not include transacemns related to the Joint Systems Operating Agreement. City Public Service AnnualReport 1998 1999 25
i Powering p Throughout Histor ]"""" g g.
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Service Company g 8 (SAPSCo: Gas Electric
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nen =o Public Traruportation (Mule & Buggy)
\nconio . San Antonio Gas & Electric Company [,/
Le....a Company (Gas Electric & Transportation) / 1875 1881 1899 / 1860 1878 1890 1900 San Antonio Thomas Edison AC Current Population of Gas Compant Invented Replaces DC Bexar County (Manufactured Electric Light t%Ib 69,422 GatPlant) , Electric TroUn
, Replaced Mule t American Light & Traction Company i
(AlJkTC) purchased SAGC and funned:
) {y i San Antonio San Antonio i
Gas and Electric Traction Oxnpany Company
. .a m .. .
as Chy Public Service Annual Report 1998-1999
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' W. B. Turtle Power Nant i (GadOil: 425 MW')
~
Construction of First I
;;aCOsusa Gas Outer imp NaturalGas ' Population of City Public Leon Creek 1963
. Discovered Bexar County Service Board Power Plant at Three Rivers 338,176 ~(Electric ad Gas) (Ga#0il: 160 MW*)
1922 1940 1942 1959 1020 1933 1941 1958 1960 Population of Motor. driven - SEC Ordered Mission Road Population of thxar County Buses Replaced AL&TC to Power Plant Bexar County 202,096 . Electric Trolley Divest SAPSCo 687,151 (Ga#0il: 100MW*)
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Projected Year 2@
~. V. H. Braunig' J.T. Decly ' South Texas J.K. Spruce Population of Power Plant ' Power Plant Nuclear Project Power Plant Bexar County (GaVOil: 865 MW') - (Coal: 810 MW*) (700 MW* - 28% Share) (Coal: 555 MW') 1,422,900 1970 ~1978 1989 1992 2000 a
1974 1980' 1990 1998 0.W. Sommers Population of Populanon of Began Construction Power Plant Bexar County Dexar County of vcin Rcmenberg (Gas / Oil: 880 MW') 988,800 1,185,394 Power Plant (Gas Combined Cycle: Expecred Year 2000,511 MW) n
. m.~. .I =
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Il '. m.e p e - 1 1
. J l
- Net capability as of 1/31/99 which totaled 4,515 MW.
For gas / oil fueled units, the capabilities shown are the gas mings.
l l i Entering the new millennium... powered up!
, Future Plans g' CPS is powered up to enter the new millennium as
' the power provider of choice. This is demonstrated in our aggressive plans for the future. City Public Service l is the only utility in Texas that is powering up to meet l
our customers' needs by building a new power plant. We are also expanding our options by construction of the new gas pipeline to service the power plant. In addition, we are aggresively pursuing " green power" options. As the new millennium ushers in a deregulated environment, our great team is committed to tackle the needed initiatives to do what it takes to provide reliable, low-cost service. We are also committed to continue with strong community partnerships through volunteerism and through keeping our city a clean air city. As a financially sound utility with a history of reliable service and consistently low rates, CPS has a competitive foundation that is being strengthened and built upon with the addition of energy services to provide total energy solutions for our customers. For more than 138 years, City Public Service has provided reliable and economic energy services to the San Antonio metropolitan area. During its existence, CPS has l seen its employees and customers fight in five major wars, survive the Great Depression I of the 1930's and make it through the Energy Crisis of the 1970's. City Public Service has met all the challenges and adversities of the last 138 years and will successfully meet the challenges of the future as well. We recognize that we wouldn't be powered up for the future without the forward thinkers that have impacted CPS since its beginning in 1860. To pay tribute to these individuals and the events in our history, our timeline lets you see the solid foundation that makes us confident we can continue to place our power in your hands. 1 City Public Service Annual Report i998-1999 31 j 1 3 l l
i Did You Know . . .
- In 1942, the City of san Antonie purchased SAPSCo for $33,950,000 in revenue bonds at an interest rate of 2.854% at no cost to the taxpayers. Also that year, CPS sold the public transportation system
; to Smith Young Tower Corporation for $301,100.
- CPS is currently the second largest municipal electric utility in the nation.
- The single largest bond financing transaction in the history of CPS occurred in 1998 when CPS sold a total of $885.1 million of New Series 1998 Bonds and cash defeased a total of $230.2 million in debt.
This was also the largest municipes P -; R... debt financing transaction in Texm' history.
- Fitch IBCA, Inc., Moody's Investors Serv ae, Inc. and Standard & Poor's Ratings Group evigned ratings of"AA+","Aal" and "AA", respectively to the New Series 1998 Bonds. CPS ! as aessfully maintained these high eguality long-term debt retings since 1992 and is currently one of only two municipal electric utilities in the U.S. to hold these high ratings. .
- Ratings on CPS' commercial paper from these same rating agencies are "F 1 +", "P-1" and "A-1+",
respectively, which are the highest possible ratings attainable for this type of debt.
- The 1998 average CPS residential gas and electric bm was ranked lowest among the 20 largest cities in the U.S. and also lowest among major Texas cities for consumptions of 5.MCF and 1,000 KWH. CPS has not had a rate increase since 1991.
- Since 1942, the cumulative payments to the City of San Antonio's General Fund through January 31,1999 totaled in excess of $2.3 billion. In fiscal year 1998-99, CPS paid a record amount of
$144.6 million which represents about one-third of the City's total budget and provides services such as fire and police protection, parks and recreation, libraries, street and drainage projects, etc.
* . Over the last eight years CPS reduced hasardous waste generation by about 90%
- Water conservation efforts since 1965 have been enough to almost fill Canyon and Medina 1 akes.
- In 1998, CPS retumed over $soo minien in economic value to the community through lower rates, payroll, local purchases of goods and services, and payments to the City of San Antonio.
- Pollutant emissions per unit of electric generation are over so% less than the u.s. average and almost 25% less than the Texas average. *
- CPS aussted over s,soo low-t..come customers in 1998 through Project Warm, a voluntary ratepayer contribution fund.
28 ; City Public Service' Annual Repon i998-1999
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' Audited' FinancialiStstements "' . -
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- < m, - .s Balance Sheep . :. .. ... - .
- - - - . . . . . . . . ................'.... 30 31 4
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' State'ments of Revenues, Expenses : , 1 and . Changes in Reta'ined Earnings !. .... .... =- 32
!' Statemehts of Cash Flows.'.:...,...... . ..... . . . . . . . . . . . . . . . . - . .. 33 1, .
8' ~ e Notes to Financial S.tatements January 3141999 and 1998 : . . . . , .. . - - . . . .. .. -..34'.47 48
' Independent A'uditors', Report. . ... .,... . . . . . . . . . . . . . . . . .
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City Public Service Annual Report 1998 1999 29 , s .
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k le g :M January 31, { q p. CMMgyJQ
.y{d 1999 i993 g
Asseis Un thousands) kll:j - [ UTILITY PLANT, at cost (Notes 1,10, and 12): W ' V Plant ini,ervice-M kg a . s Electric $ 4,762,350 $ 4,652,055 ' yy. j t . Gas - . . . 374,438 355,245 y. N nf((2ih,Ij 3] 9 p General . . Total plant in service -
,. 210.764 5,347,732 157,680 5,164,980 -
] "di n !
Less.;.ecumulated depreciation . 1.670,394 g . 1,536,662. ' i a Plant in service, net - 3,677,358 3,628,318 1 1
," D Construction work in progress . .. 184,361 196,802 k -
Nuclear fuel, less accumulated amorti:ation of $189,779 in 1999 h$ and $167,513 in 1998 36,602 44,251 hy Held for future use - - . . . 31,384 31,384 Utility plant,. net - 5,929,703 3,900,755
'. ^$,) '
RESTRICTED CASH AND INVESTMENTS (Notes 1, 2, and 3): I $w 3 o SouthTexas nuclear project restated decomrnissioning I g h f p' 4 M master trust (Notes 1 and 10). .. Bond construction fund.... - . 89,465 88,76'2 72,78.1 246,018 Q. R {[p[h,dh Njd Wh fj
- New series bonds debt service and reserve requirements .
Repair and replacement account " 424,494 139 207,852 291,748 i'$ kg(p$$Ap ' M[ Electric overhead conversion fund . 37,409 33,623-
- . 1N 4MM hl Joint oper'ations agreement savings fund (Note 1) . 792 32,521 -
y$y
@ Cash restricted for customer service deposits 25,548 25,759 1 k '$ 4gg$ .Other- 26,691 19,037 hhpj g Total testricted cash and investments 693,300 929,341 7.@j mqSbn j CURRENTASSETS-T y 5.
hdw . Cash and temporary investments (Notes 1 and 2) ; 85,641 - 56,450 - h,, e . {ph h
.p % g
- g y h Custcmer accounts' receivable, less allowance for doubtful accounts .
of $1,432 in 1999 and $2,031 in 1998. . 81,808 64,146 > Other receivables . 26,519
.m 23,607 l
- gQ@hy rf;hh ' % ;NQW;q) M;t g pl Inventories and supplies, at average cost -
)
, Materials and supplies : 63d91. 60,137 l 7.. .
, f W Fuel stock - . . . 18,761 18,447 i
.g y'I.ypm Prepayments and other Totalcurrent assets 7,077 283,297 8,477 231,264 Qn W. A y
%M OTHER ASSETS AND DEFERREDCOSTS! -
M[ . u @y Deferred compensation plan (Notes' 1 and 6) - Other (Note 1) . , 13,975 32,030 { 11,983 !
- _ gj% $ Total other assets and deferred costs .. ..s... ,
13,975 44,013 A) . i
. TOTAL ASSETS
- 4,920,277 y:' U. w .
,$ .$ 5,105,373 l
- m; . I n
$ The accompanying notes are an integral part of these financial statements.
na! ,_
.cN M 30 ' City Public Service hnnual Repon 1998-I999 i
l l
. _ - - - - - - - - - - - _ - - - - - - - - - - - - - - - - - _ - - -- - - - - J
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Y 4 January 31, . ,
? Gekm.s ., 1999 1998
, . .[
Mm(eShet Equity and Liabilities (In thousands) m .p..g n > W a .
%BY;g
- 4. ..% c.% LONG. TERM DEBT: .
. ... . $ . 2,730,575 $ 2,350,005 MQkh h% 1.. New series bonds.(Notes 3 and 4) .. . . .
[3M,.ji,@3;N8kDh yyy$ 5N.Q M U Total new series bonds. Ne'wlseries capital appreciation bonds (Note 4) - m..-
. 2,730,575 170.993
?2,520,998 -
hdkJ , Onamort'iied discounl on new series bonds .. ... . . .. Accreted discount on capital appreciation bonds . . .. ... _ ... .. . 2..... (19,540). (53,506)
.113,916 g (212,163) k31,'[p[$,g$g@
fk
' . :if ' y ,.gj
- Unamorti:ed costs of bond reacquisition s
_ . New series requirements, net.. . . . ~ . . . . 2,493,872-(170.541) 2,410,867 3 y .G 7 ;g? Commercial paper (Note 5)'..... . .. . ... .... ... . .. . 1128.300 450.000-2,860,867
,$ Af m+ gpM. m.+ .. 7 .i j#
3 t . Long-term debt, net ....... .. ... . ... . .. .. . .. . 2,627,172. s K 9,, Z Q / 4 .',5/} , . . ., T'
%. : J:i.E Q.Q7
- EQUITY:
% f@QQJ. -g Reserved retained earnings (Note 3) .
% f..@N.%UC.y:t ~ New series bonds debt service and reserve reg'uirements .
72 '155,394 291,748 M[N..khh*k. Repair and replacement account . - 424,4,94
- Electric overhead conv'ersion fund (Note 1) ~ 37',409 33,623 h.M"hi.g gy
=
i s Total reserved retained earnings ; . , 461,975 480,765 dUh5g y Unreserved, retained earnings investad in'or designated for plant - 1,499,199
~
1l417,602 d/d 1' .
; and working capital.. ........ . . . . . . .
[ ]YA k: g% 'T' Total equity? . . . . . - - 1,961,~174- 1,898.367
$4.yf(;D 9, .n p.z,.F.c.:. ' e,.y3 - , 3 , ,
CURRENTLIABILITIES: f h Current maturities of revenue bonds (Note 4) - 63,720 61,640 Account' spayable and eccrued liabilities - 107,553 87.269 g:%q,j;h*m
. .. h,A NM,;p$ s #y[E
- t. :
m
'. 2 -
v <h' h,qyp.'d. 1Totalcurrentliabilities . ,
. !. . 171.278 148.909
.%c.jswr.s.gp y ..g L + . ; ;,;- L 7.. ~.gl ,
jg g;{*Mg-Q; - 1 y
' OTHERLIABIUTIES ANDDEFERREDCREDITS:
. Payable from restricted assets-
?.}fd J6 int' operations agreement savings deferred credit (Note 1) ... = t92 32,521 T[w'%,.M. @!
% [dI ' Customer service deposits South Texas nuclear project restated decommissioning
. . . . . . . . . . . . . . 25,548 89,465 25,759
. 72,783 i
I
$4Mia 0.1% . master trust (Notes Iand 10).. .. .. ..-. --
Other. (Note 1) .... ... .
' 23,099 15,450 Yg 7 D'n*%.N 6.MMrU% Customer advances for construction (Note 1) ....
...7......
. . . . . 14,715' 13,555 3fgj,1.cf4$qWd . Deferred compensation plan liability (Note 6) . ..' . ..
-- 32,030 p f.gcg ;'W 3
'7,034 5,132 '
Other liabilities and credits (Note 1)'. . J gf.3 D Qhyg 7. D;W.6 k. Md Total other liabilities and deferred credits ... . ... .. 160,653 197.230
~
ww %
$ 5,105,373
. $ ' 4,920,277 QQ yg .QphfQM.;
<. .;. g Ng gy .
., TOTAL EQUITY ANDLIABluTIES
.' p#.g.%:,4, w.m ' fL y n.
The accompanying notes are an integral part of these financial statements. v. s M,, pQaMgd$..: 'g.
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i City Public Schice AnnualReport I996 1999 31
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- M,4 !N D k Y up[$ .$ w N g/ u mh - Years Ended January 31,
%f / Q fhff 1999 1998 h!I M h hp%- ""'^"""""
' h3 OPERATING REVENUES (Note 1):
Electric, .. .. $ h [e - ]'8'
<- [JJ'[yy.w..h sd Gas ..
909,639 114,237
$ 844,848 .
137.593 4f . .--M% n .z e d q i g Total operating revenues 1,023,376 982.441 _ h n N2pQ.?h,ffYMgpfgOPERATING EXPENSES (Note 1):
%NN!sy Fuel, purctmsed power, and distribution gas .. 235,437 256,836
@!$MyhhMggi[df M Other operating and general.. . 161,637 157,29.1 Abr!MM %e h@Wj S R $
Maintenance : Regulptory transition assessment (Note 11) . e 7,328 2,083 75,835
' %g /M M M E k.4%g %g$ggg;.
ho Survey and investigation costs'-lignite mine site.- 3,33,, 1,851 Mygg - _ f!d ;f . gyg Depreciation = 167,686 153.407 W w$
. 9 Total expenses 667,763 - 645.220 m$
W6%+# T, ^g$dg r ny3 TM$ hpMlChj%dACf $$ gd OPERATINGINCOME % $$MjQy$
. . 356,108 337,221 l M s
$#any'CgMSdGgM NONOPERATING INCOME (EXPENSE) (Note 1):
q hg,. p43 A Interest and other income -- 57,528 49,761 fhdhM9@p&q.wp@w MGhh @$ hhhff Interest expense - Accreted discount on capital appreciation bonds . .. (148,214) (17,181)- (145,929) (19.,208) MT Amor'ti:ation of debt reacquisition, issuance, disedunt, M
~
~
!;QS
[kN. D.F 6 MPG NC %p@Mkh. and other costs ;
; \; Ah, g,n.,,
Allowance for interest during construction ~
.N (21,695) 5,716 (23,661) 4.743 a .w b
_p,g.s.A W jp$7J Sg%p.j:vQtn@m; ex6;, , - m$b INCOME BEFORE EXTRAORDINARY COSTS FOR bpWWfl@h@Wk MhMh ' CASH DEFEASANCE OF DEBT.= + 232,262 202,927 dS53Ah mmh @gkiPR-d WORghi Q Extraordinary costs for cash defeasance of debt (Note 4) ;
- (24,900) -
1EP W hh h INCOME BEFORE OPERATING 'IRANSFERS . 207,362 .'202,927 QQ%o.m%gcWW 4 M M M Wh/M([ Payments to the City's General Fund (Note 9) . .., m. (144,555) (l38.543) mo m NETINCOME 62,807 64,384 p%@hlDkYM$$$3%MfDpMC,
. =-
2
%:.M wyWpw * @6W 3 gap M W. ACCUMULATED RETAINEDEARNINGS AT BEGINNING OFYEAR 1,898,367 1.833.983
;re %d c;O:n64fg;pg.u.C~;pp.m,%
amt;w 4:+ mp a n. m _$%,+:1. 4, q ACCUMULATEDRETAINEDEARNINGS MSyd ATENDOFYEAR .. .. ..$ 1,961,174 $ 1,898,367
."?ywed 4
w.
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di' e 3 N(y*k:;q f M)h-hA,k w%}Q.f 9 R22@ng &,W,QU&qn W . The accompanying notes' are an integral part of these financial stateinents.
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32 ' City Public Service Annual Rejort 1998-1999 a b___.A
, . g . .- - . . .
- Years Ended January 31, r
1999 1998
' (ln thousands) '
- CASH' FLOWS FRONIOPERATING ACTIVITIESF Operating income' . .. . .~. .' . .L ... $ 356,108 $ 337,221
~Noncashitems included-
' Depreciationexpense ... '_. -
'167,686' .
. 153,407 '
! Survey and investigation cosa for lignite site : 3,537 lalements of . . . , . -
22,266- 23,753
, . Nuclearfuelamortization ~ . _ , . . . . ._ ,
ash Hows
. Changes in current assets and liabilities: .
* . - . ' (Increase) decrease in customet accounts receivable ' . .
. (17,662) ~ 5,515
' , (Increase) decrease in other receivables - - (2,912) ; (12,494) -
4 ' - (Increase) decrease in inventories and supplies (3,6 613) ~ 9,722 s 1 (Increase) decrease in prepayments and other -. *
+ 1,400 - .(443) -
Increase (decrease) ir3 accounts payable and' accrued liabilities .; ;.,. ; 18,.626 .4,201 ' Changes in other assets, deferted costs,'other liabilities, - and deferred credits: *
. (Increase) decrease in -other assets *
- '3,192 -
64 ' increase (decrease) in ' customer service deposits payable ' . . .,, ' (211.) (363) Increase (decrease) in decomrnissioning trust liability . .: . . 16,682, .15,712 Increase (decrease) in other liabilities and deferred credits s 9,551 - (82)
. .. Net cash provided (used) by operating activities ..,
574,615 - 536.213 CASH FLOWS FROM CAPITAL AND RELATED
- FINANCING ACTIVITIES: .' -
Cash paid for additions to utility plant and net removal costs . (269,753) l -(199,471) . 1 Cashpaidfornuclearpurchases L. - (14,617). " (13,748) -
- Joint operationsagreement proceeds .
' ~
18,062 16,895 Litigation settlem'ent proceeds used for construction . .- 12,109 - Contributions in aid and customer advances for construction . 6,887; ~ . ' ~7,392
~
- ; 345,964
~ Proceeds from issuance of revenue bonds .
i Proceeds from issuance of commercial paper
- . . .- 174,500
. Principal payments on revenue bonds , , . .(215,115) ' . (232,325) ' '
l Interest paid ' ; _4. (160,082) (146,032) Commerciaipaperredeemed .; .y ~ (34,900) (2,300)J . Costs for cash defeasance ofdebt -
,...u
'11,842)1 .-
. Debr issue costs paid ., u...- ...
- - (2,508)
Net cash provided (used) by capital and related - *
.. - financing activities ; ' .A. ,u .. (689,254) (51.633) ,
4 s CASH FLOWS FROM NON. CAPITAL FINANCING ACTIVITIES: 7 -(144,555) - (138,543) ~
- Payments to the City's General Fund t,
'; Net cash provided (used) by non. capital financing activities ;;.. . (144,555) , (138,543)
- CASH FLOWS FROM INVESTING ACTIVITIES: . .
< , Punhasesofinvestments _' -
(1,408,237) (1,277,250) Proveds from sales and maturities ofinvestments ., ' 1,571,655 . 977,174 Net increase in nuclear decommissioning trust 4..a c -(15,503) (14,834)
"Interestandotherincome . ;
~
'--* -.. 5'3,082 49,761 -
. -Net cash provided (useil) by investing activities . _- 200,997 (265.149)-
. NET INCREASE (DECREASE) IN ' CASH AND CASH EQUIVALENTS (58,197) 80,888
> 107,780 ; 26,892 CASH ANDCASHEQUIVALENTS ATBEGINNINGOFYEAR . _
CASH ANDCASH EQUIVALENTS ATENDOFYEAR. .u . . 5 49,583 . 5 107,780 Reconciliation of Cash and Investments: , - a . Restricted Cash and Investmentsi Cash and cash equivalents ' - J . .
.; $ - 45,08I $ ' 51,330 > .
1
"' ' Investments .- *
.4-.~' ;. . -. '..' 648,218 878.011 929,341
. , > Total L . . ,. a.
693,300 ; j
- Current Assets:- - 56,450
' : Cash and cash equivalents _. 74,501 Investments . . c 81,140 -
- u. 35,641 56,450
.. JTotal . . .. -..
. e Total Restricted and Current. Assets: '
k 49,583 -107,780 1 Cashand qash equivalents
' '^
729,358 -878,011 1
- . Investments ' ' - . . - .
778,941
. Total ; $ 5 985.791
. .., - y. . .
,The a,ccompanying nqtes ar an integralpart of these fmancial statements 1
, l a .r City Public Scree AnnualReport 1998-1999 33 f
[ ]
g i l 3
- 1. Significant Accounting Policies' REVENUE AND EXPENSES -
b ' f ORGANIZATION- Revenue is recogni:ed as billed on a cycle f basis. Rare schedules include fuel and gas cost g% h*W j City Public Service Board of San Antonio adjustment clauses that permit recovery of fuel and' . 4 (CPS), a municipal utility owned by the City of gas costs'in the month in' curred. CPS reports fuel i V San Antonio (the City), provides electricity and and distribution gas costs on the same basis as it natural gas to San Antonio and surrounding areas. recognizes revenue. g A'sa municipal utility, CPS is exempt from payment CPS amorti:es its share of nuclear fuel for the i
} y ofincome taxes, state franchise and sales taxes, and ' South Texas Project (STP) to fuel expense on a real and personal property taxes. CPS provides cer- unit-of production .nethod. Under the N.uclear.
; tain payments and_ benefits to'the City as described Waste Policy Act of 1982, the federal govemment j more fully in note 9. assumed responsibility for the permanent disposal of spent nuclear fuel. CPS is charged a fee for disposal )
BASIS OF ACCOUNTING L of spent nuclear fuel,[which is included in fuel ex-pense, in the amount of $0.00093 per g'enerated , The financial statements of CPS are presented kilowatt hour (KWH) for its share of electricity I in accordance with generally accepted accounting' produced by STP. For further discussion regarding j principles for proprietary funds of governmental en- tiie STP, see note 10. [ tities'. Accounting records generally follow the Uniform System of Accounts for Electric and Gas UTILITY. PLANT-
~
l , Utilities issued by the National Association of Regulatory Utility Commissioners. Utility plant is stated at the cost of construction, t CPS has elected not to follow the pronounce- including costs of cor tracted services, direct mate- i ments of the Financial Accounting Standards Board rial and labor, indirect costs, including general (FASB) issued after November 30,1989, which is engineering, labor and material overhead, and an j an altlernative of the Govemmental Accoun'ing t ' allowance for interest used during construction Standards Bpard (GASB) Statement Ni 20, ( AIUDC). CPS computes AIUDC using rates which
$ Accosmritig and Financial Reporting [or Proprietary approximate the cost of borrowed funds. A1UDC is j Funds and Other Governmental Entities That Use applied to projects estimated to cost in excess of Proprietary Fund Accounting. $250,000. .
Proceeds from customers to partially fund ,l FISCAL YEAR- , construction expenditures are credited against the costs for the projects. Retirements ofutility plant,.
' The fiscal year ended January 31,~ i999, is together with removal cost less salvage, are charged referred to herein as 199'9; the fiscal years ended to accumulated depreciation. The maintenance.of .
< January 31,1998, January 31,1997, arid January property, as well as replacements and renewab f
. 31,1996 as 1998,1997, and 1996 respectively; items determined to be less than a unit of p operty, are clErged to maintenance expense. General utility
, plant assets' consist ofland, buildings, and equip-ment for general and administrative purposes that t
are used commonly in elec'tric and gas operations. 34 City Pubhc Service Annual Report 1998-1999 _ - - - - - _ - _ - - _ _ _ _ _ - _ _ _ _ ___ _ _~
e . .
. > - . ; n ._-- -- - - - - - - -- - - - --- --- - ------ - ---- - - - - - - - - - - - - - - - -
l CPS computes depreciation using the ' Ution agreement.must result in at least $ 10'millionin
. j straight-lia~e methed over the estimated service lives cumulative savings per year to CPS, or Reliant' sill
. of the Garious classes of depreciable property. Depre- mEke up the difference in cash. A similar payment ;
Y clation as a percentage of average depreciable plant ' will be made by Reliant to ensure benefits to CPS of : Jot . Iinant ial was 3.16 percent in 1999 and 2.99 percent in 1998. $150 million in savings during the ten yearlife of . tatements January iI, , this agreement. As ofjanuary 31,1999, CPS' total 9% and 1%$ - RESTRICTED CASH ANDINVEST1LENTS- cumulative savings was $52 million.
~
The CPS Board'authori:ed that the funds
? These funds are generally restricted for uses be segregated until a formal plan for their use is
" adopted. In December'1997, the CPS Board
- i other than cunent operations. They may bel ,
, designated or segregated to acquire or' construct : ; .
preliminarily committed a portion of the to.taljoint c
> ; non-cunent assets. Funds consist primarily of - - operations savings to parnallt fund the construction unspent b5nd inue proceeds, debt service and - , .of a new combined cycle' facility. In October 1998,
- reserves required for the New Series Bonds and : i , CPS initiated full construction of this new facility
~
- commercial paper, and funds for future construction . named the Arthur von'Rosenberg Power Plant, and '
- or contingencies. j . . .
} began using the joint operadons savings to fund
. In 1995, the CPS Board authorized that a ! this construction. . .
' reserve be established for converting overhead 'elec- CPS customer assistance prograis funds ,
tric facilities to underground. This fund includes ' i and insurance reserves are also included in this
, "one perdgnt of the prior fiscal years electric revenue category.- -
. from cities and unincorporated aicas served by CPS. ' Investments hre stated at amorti:ed cost When'th'e fund'was initially es'tablished, the appro ' which approximates mar'ket value.The specific -
' ^
= -
; priated smount included revenue' associated with identification method is used to determine cost.
fiscal years 1993 94 and 1992-93.The appropriated in coinputing gain or loss on sales of securities.
~
. funds and reserved retained earningsfat January 31, - Amorti:ation of premium and a'ccretion of .
, 1999 represent the unused balance from 1994 discount are recorded over the terms of the
- throughJanuary31,1999.'. -
investments. .
- Restricted Cash and Investments'also includes the Joint Operations Agreement Savings, Fun'd,_ OTHER ASSETS AND DEFERRED COSTS-
^
+
; which was established in June,1996.-The Joint l Operations Agreement resulted from the litigation Other non-current assets consist of unamorti:ed
' settlement with lleliant Energy, fonneriy km.oivn 'as debt issuance " expenses, which are amortized'over - .
~
- Houston 1 ighting & Power or HL&P, over its man- . the period of the outstariding bonds.' ~
asement of the South Texas Nuclear Projec't during ' Non-current deferred costs also include a ' the constr'uction and operating' periods. The Jairit , special assessment fee by the Federal Energy ,
~
~ Operations Agreersent is an arrangement to jointly Regulatory Commission for'decominissioni'n g of
' dispatch CPS' and Reliant's' generating plants to take , U.S. nuclear fuel enrichment facilities. CPS '
, advantage of the most efficient plants and favorable recorded this in fiscal 1994 to be amortized over
~
fuel prices'of each utility. CPS receives, in monthly - a 15-year period to noclear fuel expense. Weash payments, ninety percent of the savings realized - i from the jointly operated. systems.This joint opera-y 4
- l'".
b
. r ,
(T . , !! ft
~
-City PuMcService AnnualRepon 1998-j999 35
.y ,
.. 3
" O *
, s
.~__
F N. v
>+ ,
p
. OTHER LIABILITIES AND - 2. Cash and investments
~
H : DEFERRED CREDITS- .
, ,: CPS cash deposits at January 31,1999 and ~ ;
1 At January 31,1999 these amounts consis't 2 1998, were entirely insured or collateralized by ~ % . Notes Io f inandal .. primarily ofliabilities relating to nu'elear fuel banks for the account ofCPS. For deposits that Statemenis January 3 0, assessment fee which is paid in annual installments were collateralized, the securities were,U.S. . I999 and I998 - - as enrichment decontamination and decornmission , Govemment o[Govemment Agency or U.S.
~
1
^ I ng,customerassistanceprogramcontributions, i . Govemment guaranteed obligations held in book , !
' customer advances for construction, and the Joint ' entry form by the Fe' der,a l Reserve Bank in CPS'
. Operations Agreeme' n t Savings deferred credit- i 'name. CPS' cash book ~ values.were approximately - i Operating reserves for Upperty insurance and inju- $5.0 million at January 31,1999. CPS' bank
. j ries.and damages are also included in this category. balances were'$22.6 million at' year'end.
~
- Prior year information for this category in- . ' AtNnuary 31,1999 and 1998, CPS restricted cluded cl$e' deferred' employee compensation plan . and unrestricted investments excluding the De-
, cliability. Effective in 1999, this,is no longer being . commissioning Trust, were all in U.S. Govemment Jreported in CPS' Balance Sheet; see' note 6 for more ' or Govemment Agency obligations and ivere held -
.' discussion. .' . in bdok entry form by the Federal Reserve Bank.in '
< i
'the name of the safekeeping depository. These CPS -
iiSTA'17. MENT.0F CASH FLOWS.-- investments are generally limited to U.S. Govem- l
' ^ ' '
~ ment or Govemment Agen. y or-U.S. Govemment
. 4 )
/ Foipurposes of riporting cash flows, CPS con- guaranteed' obligations by CPS' Board Resolution siders all highly liquid debt i,nstruments. purchase'd and Policy, Bond Ordinances, and State Law.
- with a maturity ofajiproximately~three months or Investments, consisting primarily of' money market m less td be cash' equivalents. No material noncash : . . type securities, carried at amorti:ed cost plus. '
(
, _iiivesting transactions occurred during 1999 and . accrued interest were $684.4 million with a market 1 1998. However, there was a' material noncash value of $663.4 million atjanuary 31,1999, and
~
1 fin.anciNg'trahsaction involving a refun, ding bond
. . . . .were $908.8 million.with a' market value of $920.0 i I
~
l . issue that occurred during 1999. For further . . lmillion at January 31,1998. [ discussion, see note 4.. ' Th'ese investments includeIU. S. Govemment
. Treasury Ncite Principal. arid /or Interest Strip Secu ,
ACCOUNTING CHANGE-[ .
' ' rities (Treasury S' trips) amounting to $21.2 million .
.,- . and $98.5 million at January 31,1999 and 1998 ,
~~ Effective with the fiscal year ending January 31,- tespectively. Generally, this type of security is pur-1999, CPS has included the assets and liabilities. chased to be held to maturity. They a~r e subject to c related to the City Public Service Restated Decom- market risk and their market'value will vary as in-h- m'issiohing Mast'er Trust for the South. Texas Project terest rates fluctuate. This could affect'the value at e C (the Decommissioning Trust). Accordingly, CPS has which these securities are recorded and any related -
' L re' stated ths prior year assets and liabiiities. -
unreali:ed gain or loss. ,
, . At January 31,1999 and 1998, CPS' invest.
+
. ments in the Decommissioning Trustivere held by
,. y an inde' pendent trustee. Trust investments are , ,j
)
I
] f . "y
;,i # ,
* ' I
' . i
- A .C p } .
. s .
I. 0
.n.
4
. generally limited to U.S. Govemment'or Govem. ' Account . interest and sinking fund portion (con. -
O ment Agency or U.S. Govemment guaianteed - talning the monthly principal and' interest l
'ob'igations by CPS Board Resolution and Policy, 4 payments on the New Series Bonds), and a bond
- Trust Agreement, and State I.aw. Investment reserve fund portion (equal to not less than the av.
Notes to I inan(iM securities were carried at. market values of $895 ,. erage annual principal and interest requirements of , staiemenfs january Ii, million for'1999 a'nd $72.8 million for 1998. . nll outscanding New Series Bonds). As of January ; ' i999 and 1998 . These funds included Treasury Strips, purchased 31,1999, bond reserve requirements foi the New - f ' dith th'e intent of holding until maturity,, totaling,' Series Bonds have been met with'the purchasei>f a ,
$37.6 million and $68.5.millionTrespectively for surety policy. For further discussion, see note 4.
~
.
- 1999 and 1998. 'Ihey are subject t9 inarket risk '
~
and tbeir market value will vary ' as in,terest rates ' 4. Revenue Bonds .
' ' fluctuate. This could affect tiie value at which these securities are recorded and any related A summary of revenue borids is 'as follows:
/ unreali2ed gain orloss. , ,, g , _
> . tamen ane .
,, e - .
a.a. . '
- 3. Revenue Borid Ordinance i .,3i
. %,m >=.,v s um im im Re .quirements , .m
- Tu-Eneps New Se,me Ikedi,1$'2 1998 2004 2021 5.18e%, 52,694680 ,52.411,645 j' As ofJanuary 31,1999, the Borid Oidinances T=u=5m'. -
99,615 -
, Bonds.1998 2000 2920 6.289 %
for New Se' ries bonds ~ issued on and aft $r August 3..s c.iw *
' '" ~
6,1992 contain, among others, th'e following' $"",,,","i l 2c02 20u . ivo.993
. rme nna m% . 2,m.M , 2,582,638 provisions:
- 14.w Cunent menarmes of bands - 61.720 61 640 Total new unesbands outmanding, ' . -
met afcunent ewantnes 52,DO.575 52,520,998 (1) Gross Revenue is appkied as follows: (a) for. -
' maintenance and operating expenses of th$ systems, . - Principal and interest amounts d -
(b) for: payments fe o' th' New Series Bona.s, including -
+ for each of the next five years and thereafter to
, the establishment and maintenance of the reserve .
** "" I *
. therefor, (c) 'for the payment of any obligatiens infe ' '
'rior inlien cd the Nsw Series Bonds which may lie y, prino,.i . -in s i-issued, (d) for an amount equal to 6 percent of the 2cca $ ,s H5, 5 .$ 20 5 l ,
63j
> gross revenue's of the systems to be deposited'in the 200T 70,530 , 138.929 209,459 2003 76,515 4 135,508 212,023
. Repair and Replacernent Account, ' (e) for cash pay- 2004 - 1c3,435 . 131.944 - 235m9 ments and benefits to the City not to excted 14I h"d" --
_ . 'to msturity ' J412,880 ' 1,107,152 3,520,032 percent of the gross tevenues of the systems, and (f) - Total , $ 2,794.295 . s 1.800,9 { . $ 4,595.226
.n ' any remainirig net revenues in the General Account ,
to'th'e Repair and Replacement Account.' In December i998, CPS issued $885.-1 milliori of New Series 1998 Bonds which consisted of (2) The following accounts are established: (a) . '.$785.5 million in New' Series 1998A Tax-Exempt .
- General Account, (b) Repair and Replacement' Aq ' Bonds at an average interest ' rate of 4.92', percent '
iount, (c) Bond Constructiori Accou'nt (cont'aining - and $99.6 milhon in Taxable New Series 1998B
' the' proc'eeds of revenue bonds), and (d) Retirement ' ' Bonds at an average interest rate'of 6.34 percent. '
9
+
a
~ '
~ ,
~
i, City Public Semice AnnualRepon 1998 1999 37
- 4 l<
- The New Series 1998A Bonds refunded $439.7 The 1997 refunding bonds were issued to !
million l'n certain outstanding New Series Bonds' - refund $302.6 million in certain outstanding New j
. and $2443 million in Tas!!xempt Commercial ' Series Bor.ds, and w~ere $8.6 million more than the Paper (TECP), while the Taxable New Series amount of bonds refunded. The refunding transac- j sfNffNill 1998B Bonds refunded $45.7 million in certain tion resulted in cash flow savings of $15.7 million, 4 ggh- outstanding New Series Bonds and $42.5 million in which equates to a present value savings of $9.1 EBE TECP. In siddition to the refunding, $1613 million million, or 3.0 percent of th'e par amount of re-of certain New Series Bonds were legally defeased fun'ded bonds. ,
with cash resources. In August 1997, CPS issued a call for $170 The New Series 1998 Bonds and the cash - million in New Series Bonds, including $32
' defeasance fully defeased all bonds issued prior to million in niat;urities due at year-end. For further .
? August 6,1992, th'ereby allowing the New - discussion, see note 5.
~ Series Bond Reserve to be replaced Eith a surety, .
~
policy and this as done in c' o njunction with the 5. Cornmercial Paper
' issuance of the New' Series 199'8 Bonds'and the cash , .
~ defeasance' The' surety policy provides a reserve in October 1988, the City Couricil 6f San.
^
requirement equal tolthe highest average annual ' ' Antonio, Texas (City Council) adopted an o. S-principal and interest requirement of the New' nance authorizing the issuance of up to $300
' , Serfes B6nds outstanding as ofJanuary 31,1999.: million in Tax Exempt Commercial Paper (TECP).
Of the funds available from theissets in the New This ordinance as amended provides for fundirig to g Series Bond Re~s erve in December 1998, $155 assist in the financing of eligiNe projects, including E , million was used to fund'the cash defeasance; $52.5 fuil acquisitiod and capital improvements to the ~ million'was transferred to the Bond Construction utility systems (the Syster,5), and to refm' ance or re-Fund; and the .em'ainder.of the funds was trans . . fund any outstanding obligations which are secured
, ferred to theRepair and Replacement Account. by and payable from a lien on and/or a pledge of.
. The cash'defeasance transaction resulted in an net revenues 6f'the Systems. The program's sched-
. .accSunting loss of $i4.9 million which is reflected '
~
uled maximum maturities will not extend beyond - l'n the statement of revenue's, expenses and changes November 1,2028. ..e '
, in retained earnings for 1999. In June 1997, the City Council approved an
-- - - ~ The par value of tlie New Series 1998 Bonds amendmerit to the ordinance which allowed for the issued sas $16.1 million more than the amount of _ expansion of the TECP Program to a limit of $450
- debt refunded. Cash flow savings of $39.7 niillioni- million. Subsequeritly, CPS issued $20 million still1 -
which is equivalent to a present vaIue savinglof available from the $300'million former limir, and .
; $23.'6 million, res'ulted from tiiis bond transaction. # ~
1 $150 million in additional TECP notes. Proceeds
. In May 1997, CPS issued $661.2 million of' 'were used to call $170 million of New Series Bonds iNe'w Series 1997 bonds a't an a' verage interest rate I in August 1997. The 5end call transaction resulted
^
;of 5.65 Ment.The issue con;isted of $ 50l in expected cash flow savings of $8.8 million dur-million in revenue bonds and $311.2 million in . ing the t'erm of the called bonds, which equates to
' ^
refunding bonds.The new money bonds were ex- an expected present value savings of $7.8 millio'n. pected to fund most constructio'n requirement's 'into CPS ' sold an additional $4.5 m'illion of TECP
, 'the fiscal year i.nding January 31,2000.. during October 1997 which was used to fund con-se i
. City Public Senrice Annual Report : 19981999 i
- struction costs for that month, bringing the total The Plan was amended effective January 1,1999,
< amount'ofTECP outstanding to the program's new to 'also allow early retirement to those employees
. , 1 limit of,$450 million . evho are age 55 or older with at least 10 years of 1
- e In conjunction with the,1998 New Series Bond . benefit service. This change had no effect on fund; Notes to Finant ial " transaction, as described 'in note 4, TECP totalirig- ing requirements for the fiscal period ended 5tatemenis lanuary 31, ? $286.8 million wu refunded with proceeds.of these. December 31,1998. Retirement benefits are based '
1999 and I993 bonds and $34.9 million whs redeemed using Re- on length of service and compensation, and ben.
, pair and Replaceinent Account funds. Of the total . efits are reduced fo'r retirement before age 55. The l- cash redemption, $18.3 million was redeemed in Plan is sponsored by and may be am~e nded by CPS, f *. December 1998,while the remainder of $16.6 mil- acting by and through the General Manager & CEO c lion was redeemed in January.1999, of CPSfThe Plan assets, having a market value of
- As of January 31,1999, $128.3 million in prin- . $629.'1 million at December-31,1998, are held in a
~
~ cipal amount was outstandirig, with a weighted ' separate trust that is periodically audited and wisich E aherage interest rate of approximately 3.09 percent statements include historical' trend information. For and an average life of approximitely' 110 days. ftirther information, coutact the Employel Benefits -
4The TECP has been classified as long-term in Division at CPS. -
; accordance with the refinancing terms under a re-. ' The current policy of CPS is to establish -
Jolving credit agreement with*a consortium of , - funding levels, coissidering annual actuarial evalu-banks which supports the' commercial paper. Under ations and reco nmendations of the Adininistrative/ the terms of the agreement, CPS may. borrow up'to Investment Committee, using both employee and ' an aggregate amount not to ex'c eed $450 million employer contributions. Generally, participating
~ for the purpose of pay,ing amounts due unde'r the employees contribute 5 percent of their total com-
. TECP. The credit agreement has a term of two years, pensation and are normally fully vested in CPS'
' currently extended until November 1,2000, and , contribution after completing 15 years of credited
. may be renewed for additional periods. ' service. The Plan was amended ~ effective January 1.-
To date, there have been no borrowings under 1999, to reduce the time it takes an employee to
- the credit agreernent. The TECP is ' secured by the fulfy vest to seven years, net revenues of th'eSystems. Sudh pledge of net ' Emp,loyee contributions commence with the
~ '
revenues is s'ubordinate and inferior to the pledge . effective date of participation, and contin'ue
. securing payinent of the New Series Bonds and Any until attaining normal or early retirement age or New Series B'onds to be' issued in the future. termination of employment. The balance of Plan -
. contributions are the responsibility of CPS, ac' ting
- 6. Benefit Plans - - by and through the General Mapager & CEO of CPS, considedng actuarial information, budgetary ,
, ,. ,>l , . ,
- i The City Public Service of San Antonio compliance, and the need to amend .the Plan to -
,, Employees' Pension Plan is a s' elf-administered, comply witi; legal requirements or to ensure that.
- single-employer, defined-benefit contributory the Plan is appropriate and within the industry
+ pension plan (Plah) covering substantially all' '. and community.
. . .cmployees who have completed one year of brvice. The total employer'and employee pension Normal retirement is age l65; however, early retire- funding, which tricludes ambrtization of past iser-
; ment li available with 25 years of benefit service. vice costs using the unit credit cost actuarial method,is fummarized as follows:s
~
^
. i .
4 Ciry Public Service AnnualRepart 'I998-I999 39
. - v
, q j
~ _ _
'" '"* Public Employee Retirement Systems and State and Ernployee'cantnlmtens $ 6.239 6.005 Locaf Govemmental Employers..
st(([ "" 7 , %$ '3 ( N$ 3 A schedule of funding progress under GASB'
. Covered payroll - h iN D1 m . Statement No. 27 guidelines follows:
' Totalpayroll _ b tMN 00 til M. '
.. ActuanalValuaren Date The actuarially determined contribution' ' (unaudited) .
gg L requiremeists for 1999 and 1998 were computed- - 1/t/98 t/1/97 1/1/96 onmam3 usmg an assumed rate of retizrn of 8.5 percenti
- 1. Actuartal Value of Assets - $507.6 ' $455.6 $406.0
- 2. AM Accrued LiaMty(AAW '520.5 487.2E 455.3 For 1999 and 1998 the past service costs were am . 3.Unfunded ^^1.(UAAU@-(l) - '
12.9 11.6 49.3 .
- 4. Funded Ratio (t) +(2) 97.5% - 91.5% 89.2% '
. ortized o.ver a targeted 15. years, as compared to a 5.co wed pyroll 129.i 123.s - 125.2 -
20-year amortization for 1997,1996 and 1995, and '{^^(y,['*]3 j '* -*
. , 3,3 ,, ,
- a 30-year amortization for prior years. Ther'e were I no changes in actuarial assumptions or cost meth5 ' Methods used for the January 1,1998,1997,' '
ods in 1998 or'1999. CPS contributions for 1999 ' . and 1996 actuarial valuations include.(a)' the five.
' .' include $3.0 million for a Vol,untary Early Retire ~
year smoothed market. method for assetv' aluation, .
' ment Program (VERP) that was offered to. (b) the projected unit credit for pension cost, and -
E executives who were a't leasi; 52 yars old and had- (c) the level' dollar for amortization The remaining . 10 years of service as of March 26,1998.; amortization periods for 1998,1997, and 1996 are Effective December 1,1996, the Plan'wps 2.84 years,16.52 years, and 14.88 years respectively' afner{ded whereby'the in-service death benefit for - and are calculated using the level dollar open
- active employees with 25 or more years of benefit amortization method. . ,
. s'ervice has been changed to equal the amount pay- Significant actuarial assump'tions used for the able as if the pa'rticip' ant had retired under the joint January.1,1998,' 1997, and 1996 actuari.al valua.
' and 50% survivor annuity form under certairp tions include (a) a ' rate of return on the investment stated spousal criteria, as' defined under the Plan. of present and future assets of 8.5% per year com' The effect of this change was an increase in the ' pounded annu' ally, (b) projected ' salary thereases Januar'y 1; 1997 Pension Benefit, Obligation of $1.6 averaging 5.0%, and (c) post-retirement cost of-
' million and an' increase in the ~a ctuarially deter. .
living increases of 2.0%. The projected salary j Emined contribution requirement beginning'- [' ~increases include an inflation rate of 4.0%. February 1,1997 of $263 thousand with a targeted ' As calculated under GASB Statern.ent No. 27
~
l 115 year fundi.ng assumption for fiscal yea'r 1997e98i guidelines, CPS' Annual Required Contribution. ! (. CPS contributions to the Plan amounted to (ARC), which 'is cEl uivalent to the Annual Pension- ; 11.1 percent of covered giayroll in 1999; 10.0 ' . Cost, was $14.2,inillion for fiscal year ended Janu- q r
, percent in 1998; 1.1 A percent in 1997; and'12.2 ; , ary 31,1999 and $12.2 million for fiscal yeat
; percent in 1996. . . , . ended January 31',1998. GASB, Statement No. 27 )
For the fiscal year endir)gJanuary 31,1998, lwas not hpplicable to fisEal period ended January . 7 CPS elected to implement GASB Statement No.. 31,1997,. En ployer contrib'utions in relation to . 27, Accountingfcr Pedslons by State and Lod! Gov-; ' ARC were also $14.2 million f6r 1999 and $f 2.2- 3 j
~
. emmental Employers, which supersedes GASB : . million for 1998, with a resulting net pension oblil l
; Statem<nt No. 5, Dishlosure of Pension sforniation by s .
gation'at the end ofeach' year of $0. f
$ 6
-
- e S
. I 4 % . g g 9
. l. 4 w
a- --- - - -- --
"l - -m 2 ._. _-..
6 . .
, Imployees who retired prior,to 1983 are - ,
Section 457 Defened Compensation Plans, CPS is no
- longer reporting the Deferred Compensation Plan
' receiving annuity payments from an insurance .-
carrier as well as receiving some benefits directly assets and corresponding liab'ility on its Balance ,
< from CPS. CPS' costs for fiscal 1999 and 1998 '
Sheet..GASB Statement No. 32 rescinds GASB ~ Notes to Iinant ial were $367 thousand and $425 thousdn'd respec- Statement No. 2, Financial Reporting of Defened Staternents lanuary it,' o .tively, a'nd were recorded when paid. During 1999,' Compensation' Pfaris Adopted under the Provisions of 1999 and 1998 . CPS also contributed $490 thousand to a. Pension Internal Revenue Code Section 457.
- Resto' ration Plan. The resulting total pension ex. In accor' dance with GASB S'tatement No. 32, pense for 1999 and 1998 was $15.2 million and . the current period beginning Deferred Compensa-
~
. $12.9 million, respectively. , tion %nd balance was restated.to remov'e the related information from the Balance Sheet at .
DEFERRED COMPEN'SATIOh PLAN- ,; January 31l1999,and the prior period information - i
- - for 1998 was not refroactively resta'ted. The prior
' .g ' CPS offers its employe.es a deferred ;ompensa- year amount'was r'eported'at mark'et value as a
' tion plan created in accordance with internal non-current asset.
' ~
' Revenue Co'de Section 457:The plan receives no '
contributions from CPS. It is available to all CPS 7. Other Posteinployrnent Benefits -
' employces and permits them to defer a portiono' f . ,
- their clary uritil futuie years. Funds are managed ' . CPS prpvides certain healthb ars andlife a byjndependent fund managers. The defer' reel '
insurance beric'its for retired employees. Most
. cornpensation is not available to emp,loyees until, former CPS employees are eliglble for these benefits
' ~
A . termination, retirement, or death, or due to an 'upon retirement from CPS Pfan assets are held as,
. unforeseeable emergency. part of CPS' Group Health and Life Pla'ns. Plan
. ' As a result of the Small Business job Protection funding is from both participant and employer.
Act of 1996 (the Act), certiih provisions. ofInter- . contributions determined by annual actuarial and
. . nal' Revenue Code Section 457.have been. in-hous'e c.lculations.' Retired' employees contrib-
~'
i . ute to the health plan in varying amounts -
. amended thiit are applicable to. CPS' deferr d ' ~ '
conipensation plan. Under the amended provisions, depending upon an equity formula'that considers all assets of the plan'are to be held in a trust for the age and years of service.The Plans may be amended
~
. exclusive benefit ofparticipants and th'eir benefi- by CPS, acting by atid through the Geheral Man- ,
.clariesi however, the assets do not have to be placed ~ . ag'er & CEO of CPS. The annual cost of retiree y Lin A trust untilJanuary 1,1999. In February 1998,
- health care and life insurance benefits funded by CPS trustees apprcved the amendment and restate- CPS is recognized as an expense of CPS. as employer i t ment 'of the deferred compensation plan to provide co'ntributions are made tothe programs.\These costs-that two trusts hold all assets of d5[ plan for the ex- ' approximated $2.3 million and $2.5 million for
'clusiv'ebenefit of the participants and beneficiariest 1999 and 1998, respectively. CPS contributed .
$200,000 to the Health Plan and $10,000 to the
' ' Effective with the fiscal y' ear ending January -
31,1999, due to transferring the Deferred Compen- Life Plan to cover costs associated hith' the Volu
'sation assets to the trusts and implementing the .'tary Early Retirement Program offered to executives provisions of GASB Statement No. 32,; Accounting [during 1998. CPS 'reimburted $43.80 per month for
~
Land Financial Reportmg fo'r Internal Revenue Code ~ Medicare' supplement for certain retirees and their k c1 .
- piry PuMc Sewice Annual Report 1998-1999 41 4
9 % ./ k.3 g . 3 . y> g ... . u
,i 4.s hI.g spouses enrolled in Medicare Part B in 1998 and 8. Risk Managernent M,
s}.V k. 'h % ;I..][.
, 9$.. ).;. . $45.50 effective January 1,1999.
kM. Retired employees and covered depehdents CPS is exposed to various risks ofloss including [dNfL.
- [:C y d . those related to torts, th' eft or destruction of assets, potNQ 2da]h];Q .forcontributed $928benefits thousand and $974 thousand their health care and life insurance in errors and omissions, and natural dimters. CPS pur-yMp@%Oa 4 fiscal 1999 and 1998, respec:ively. In fiscal 1999, chases commercial liability and property insurance coverages to provide protection in event oflarge/
MMand1998W there were approximately 1,875 retirees and cov-
!.M. M[Dh.@a.gy
.h.>v cred dependents eligible for health care and life
~
catastrophic claims. CPS performs actuarial studies yM,..aw, yVmyp.pl%.; %.
, .. 4 a .. c insurance benefits, as compared to approxtraately periodically to determine its liability for insurance p J- .;F ." n$ 1,750 in 1998. reserves. An actuarial study was last performed
- f. $ .
.1X,.47..$.:..j[' In view of the potential economic significance
- . ~ . .
1 ~1 in 1994. i ; .. ' #v .ofth.ese benefits, CPS has reviewed the present In addition, CPS is exposed to risks ofloss due lG ' a, ,7 j..PQ value of the postemployment benefit obligations . to death, and injuries to, or illnesses of, its employ.
,~, ' for current retirees. The January l' valuations are ces. CPS makes payments to extemal trusts to cover
'.' .t1- ..
2
$42.7 million in 1998 and $383 million in 1997 the claims under the r' elated plans. At January 31, ~.i[.. "
for' health and $14.6 million in.1998 and $14'.9 in 1999 and 1998, CPS has accumulated approxi-
- J.oP_ .
I' i f 1997 for life insurance benefits. The actuarial mately $111.4 million and $93.4 million, 1 (( (9; analysis of the present value of postemployment . respectively, in these external trusts. The trust benefit obligations for other participants fully.eli. accounts and related claims liabilities are not o - - -..w.. . . .
..g.-.. .
L.'. gible for benefiqare estimated to be $25.3 million included in CPS' financial statements. CPS has ( '1 ; p; .[. . for health, $4.4 million for life insurance and $2.0 recorded $12 'million of expense related to these a< . W million for disability benefits. CPS began parth! - plans for the year ended January 31,1999 and $13.5
. .o -
accrual and funding of projected future benefits in million for the year ended January 3'1,1998.
- a.
.s u.
3 V 1992. Funding totaled $5.2 million in fiscal 1999,- ~ Two new property insurance allowances were
, " ' f .1, $5.4 million in 1998, $5.0 million in 1997, $7.0 established in January 1999 relate.d to landfill clo-
- }.
W3 ~ 4 j ,1( 1 . million per year in 1996,and $5.0 million per year sure and to the dirmantling and remediation of two B '. : .
.... J.Sl for 1993 through 1995.
- olde'rgas powered units. Closure and postclosure For the health plan, the actuarial cost method costs were estim'ated for the Class I non ha:ardous
,1,., .- ..<...n o . . . . 1 l.s %
~
1 used is the Projec'ted Unit Credit Actuarial Cost waste landfill in accoidance with EPA regulations. gC '[....a.; g Method For the life insurance and disability plans
. , The allowande for the dismantling and gJ . ; q ' 7 ?.. M CPS uses a present value method to determine the remediation of the two units was established to
[ ~i 7 L f '; f cost of benef'its. provide for estimsted costs of $5.2 million for these. 1 nL. .~ L* Significant actuarial assumptions used in the two units which are no longer operable and will ((. '..C.-
!(( k[
L 1 J7 i calculations for the January 1,1998 and 1997 actu-arial valuations include (a) a rate of return on the , never again be used to gener' ate electricity. Addi, tional depreciation expense of $5.2 mill' ion was
. ?. I: s;
. : , ... , - - ' investment of present',and future assets of S.596 per y . recorded for this. -
g 1. ' f 3 - year for the health and life plans and 'i% per year Based upon the ' guidance of GASB Statement for the disability, (b) projected salary increases for No.10, Accounting and Financud Reportingfor Risk
; .. 7g-
]
; ; . j. the plans ranging from 3.3% to 12.0% depending ' Financing and Related Insurance Issue (, the following
[ ~-
. E;1 j'L on age for. base and other salarie's, and (c) medical. information is piovided regarding the changes in the y-y ff.( j y..;l;( cost increases projected'at 7% for 1999 compared insurance reserves for p'roperty, and employee and
.. f, ; ) f. i.c;.iy .. $ l . . ' to 8% for 1998.
<2 City Public Service dnnual R'eport 1998-1999
l public liability claims for the yean ended January capacity. At January 31,1999 and 19'98, CPS' ' y' ' 31,1999 and 1998: - hvestment inde STP utility plant was approxi-
, 34gpg mately $1.7 billion, net ofaccumulated
. . in-c.nce u u m et m. . depreciation.
~ Balance 1/31/97 $ 4.479,785 $ 1.756.000 Effective November 17,1997, the Participa-Payments - (104,392) (3.615;t96) incurmicum.
3o4.001 4.227.si! tion Agreement among the owners of STP was
' Amended and Restated and the STP Nuclear Balance 1/31/98 ' ~ L 4.679J94 3.368.616 Payawns . 0 9.785) (2.021.934) Operating Company, a Texas non pront non-
- IncurredClaune 5.612.500 2.192.950
- m. mber corporat, ion created by the participants.
B.I.nce.1/n/99 5 10.252.t09 s~3.559331 -
.asiimed responsibility as the licensed operator of
' . STP. The participants share c'osts in p'roportion to
- 9. Payments to the, City. ownership interests, including allliabilities nad -
- - expenses of STP Nuclear Oper'ating Compan'y.
, The New Series Bond Ordinances provide for , '
~
benefits and services totaling 14 percent of CPS gross revenues,'as defined. to be paid or provided W M N M CE . ,_ J td the City. . The Price Anderson Act, a comprehensive . Gross revenue fore 1999 and 1998 (in thou- statutory arrangement providing limitations on sands {was asIoHow . nuclear liability and governmental inde~mnities, is - 1999 1998 in effect dntil August 1, 2002. The litiiit of liability' Elecinc revenue $ 909.639- $ M .848
. Onerevenue 114.137 137,593 under the Price-A.nderson Act.forlicenseeiof .
_ Jnrerestandotherinconw 57.528 ' 49.761 nuclear power plants is $9.602 billion per incident. Groserevenue . s 1.081.404 1 1.012.202 .
+
The maximum amount that each licensee may be
~
' wd following a nuclear incident at any insured
. Pa. .yments to thd City for 1999 and 1998 (in
- - - . = incility'is $83.9 inillion, which may be adjusted for
' thousands), as defined, were as follows: - -
inflation, for each licensed reactor, payable a.t $10
' 1999 1998 * !!}illiori per year per re3ctor for each nuclear incl *
' ' dent. CPS and each of the other participants of STP onal ca.h is 127 ~ n2
%1p.ymenu to de ci,ty s i 44.55 s s i38,s43 'are subject to such assessments. CPS and the other participants have agreed that any such assessments
( 10. South Texas Project (STP) will be borne on the b' asis of their r'espective owner-
' ship interests tri STP. CPS' ownership iriterest in
~
CES is one of four participants in the STP, STP is 28 percent. For purposes of these assessments,
. ~ which consists of two 1,250-megawatt nuclear - STP has two licensed reactors. The participants generating units in Ma'tagorda County . Texas. The ' '* have purchased the maximum limits of nuclear li-
' other participants in the project are Reliant Energy, ability insurance, as required by law, and have
" ostnerly kriown as HL&P, Central Power and Light. executed indemnification agreements with' the Company (CPL), and the City of Austin (Aus< tin). NRC, in accordance with the. financial prgtectlon J In-service dates for STP were A'ugust 1988 for Unic ' requirements of the Price' Anderson Act, 1 and June 1989 for Unit 2, CPS' 26-percent own. 'A Master Worker Nuclear Liability policy, y - ership ithe STPrepresents700inegawatts ofplant . with a maximum limit of $400 million for the t.
); . -% "
City Public Service Annual Report, 1998-1999 43 9
b (.w 9.,;..;. 4 : . ! nuclear industry as a whole, provides protection CPS willmeet the minimum d' ecommissioning
)
(~
- from nuclear related claims of workers employed in fundtng requirements mandated by the NRC.The
. g the nuclear industry after January 1,1988 w'ho do STP owners agreed in the financial assurance plan not use ihe workers' compensation system as sole that their estimate of decommissioning costs would
~ Notes to I;inandaI . ' -
remedy and bring suit against%nother party. ' be reviewed and updated periodically. In 1994, the - Statements January 31, 'NRC reg'ulations require licinsees.of nuclear
~
owners conducted a reylew cif decommissioning iD f 999 and 1993 power plant's to ob'tain on-site property damage in- costs. The results estimated CPS' share of decom-r surance in a minimum amount of $1.06 billi6n. ' missioning costs at approximately $270 million in NRC regulations also require that the procBeds , 1994 dollars, which also exc.eeded NRC minimum l
. from this insurance be' useil first to ensure that the requirements. s, licensed reactor is in a safe and stable condition so , in 1991, CPS started' accumulating the decom-
, as to prevent any significant risic to (he public niissioning funds in an external trust, in accordance .
- health nr safety, and then to complete any decon . with the NRC's regulations. Effective with the fiscal
' tamination operaticns that may.be ordered by the ' year ending January 31,1999, the Decommission-
/ NRC. Any fursis remaining wouH then be avail- 'ing Trust assets and related liabilitie's are included '
able for covering direct losses to prop rty. ,in CPS' financial statements as a component unit!
~% ' The owners of STP currently maintain $2.75 The assets and habilities of the prior period have billion of nucleai property insurance, which is ' been restated accoidingly. At January 31,1999, 3 above the le~ gally reciuired amount of $1.06 billion, CPS has accumulateda' pproximately $89.5 million
]
but is less than the total amount available for such . of funds in the extemal trust. Based on the anriual 1
. losses. The $2.75 billion of nuclear property insur-calculation 'oflinancial assurance required by the ~ .
ance consists of $500 million in primary property NRC, CPS' trust balance exceeded the calculated
.1:
financial assurance amounts of $45.8 million at
.[ . damage insurance'ahd,$2.25 billion of excess 1 ' ,
property damage insuran e, both subject to 'a retro- .Decemizer31,1995 and $40.3 million at December spective assessment being paid by edch electric 31,1997. Based upon the 1994 decommissioning tutility which is a member of Nuclear Electric Insur- cost study, the annuallev'elized fu'nding into the
^
ance Limited (NEIL). In the event that property ' ~ trust of $8.8 million for both 1999 and'1998 was
. lossesa ' ta resuk of an accident at the nuclear plant expensed b' y CPS. -
~' *
. of any utility insured l$y NEIL exceed the accumu- -
lated fund available to NEIL, a retrospective 11. Commitments and Contingencies.. assessment could occur. The maximum aggregate .
- assessment under current policie' s for both primary In the hormal course of business, CPS is iry ,
'and excess property damage . insurance is $'16.5 volved in other legal proceedings r' elated to alleged I
~
) . . millio'n during any one policy year.l personalhnd'propertydamages,breacl$ ofdontract. ' .
condemnation appeals and discr'imination cases. In .
. NUCLEARDECOM$1SSIONINGe addition,tPS power generation activities and .
~ '
j ., U , , other utility operations are. subject to extensive
*fl' in July 1990, CPS, together with the other .
ptate and federal environmental regulation. In the !
. owners of the ,STP, filed with the NRC a certificate opinion of management of CPS, the outcome'of
'i
' of financial assurance for tlic decommissioning of . such p,roceedings will not have a material adverse
. .. ' the nuclear power plant.The certificate anur'es'that .' effect on the financial position or iesults'ofopera ' !
f' . y ,
- tions of CPS. . .
e ,
. l
, ~
44 City Public Service Annual Report 1998-1999 1 Y 6
' Purchase and construction commitments ; years 1997 and 1998 were 10 peraat and 20 per-cents respectively, of the total cost mentioned
~
amounted to approximately $1.3 billion at '
. January 3131999. This amount includes approxi- above; costs for 1999 will bei 30 percent of the matelyl$660 million that is expedred to be paid foi above cost. The total amount of $2.1 million re-Notes to Iinant ial . . natural gas purchases to be made under the contract -- corded in the 1999 financial statements includes an Statements Januarv iI, ' currently'in effect through the year 2002; the actual e'stimated amount for January 1999..
~
~ '
1999 and f998 . ' amount to be paid will be dependent upon CPS' Last year; CPS petitioned the PUC .to amend
; actual requiiements during the contract p'eriod and . the Rule and challenged the Rule's validity in State
~
y the price of gas. Commitments also include $75: . District Court. CPS also filed an appeal from the 3 - million for pipeline'qu'ality.gi Abe produced PUCs determinatior.' as to the level of' transmission
- from'the City of San Antonio' Nelson dardens" costs CPS mahrecover under the PUC's liule. CPS '
- landfill under the cohtract which is currently in . is currently appealing the State District Court's
, ; effec't through the ' year 2017. Also includedi J s $19' . ' , opinion upholding tl e R' ute's validity. The ca'se .
1 million for' coal purchases through K000, $150 mil- challenging the level of transmission cost that may
~
ilon for coal transporfatida through 2004, and $10 e be recovered is set for hearing before a' State 15istrict
' million for treated cooling water through 2005, . Judge in May'1999? * .
; based upon the minimum firm comtnitment under The ultimate effect of the Rule and other . '
~
, : these contracts. . developments in the restructuring of thi electric
( ; Additionalpurchase$ommitmentsatJanuary , l industry is unknown at th'is time. CPS is continu-31,J999, which are related to STP, include ap , ously motiitoring developments as it positions itself proximatel'y,$79.1 million for raw uranium and to maximize potential benefits and mitigate .
' associatedYabrication and conversion services. This detrimental effects where possible. q amo'unt represents services that will be needed for . ,
future refuelings during the next two fiscal years. . .
.
- The Public. Utility Comroission (PUC) of.
Texas has proinulgated new rules designed to'com- . ply.with legislat.tve changes affecting the'istility . .
< l industry. The Transmission Pricitg and Access Rule (Rule) 'm'ahdates that electr,ic utilities cha'rge cus - .
' tomers for wholesale open transmissign access a
^
according to a fonnula based 70 percent ony single ,
~ ' '
- state-wide fee and 30 percent on the calculated ,
. econ 6mic impact of open access on each electric
' ^
. utility in Texas. This rat 5 structure potentially will cost CPS $15 million per year in additional trans- . ,' ~
misdion costs that will effectively subsidize - . A competing utilitieshith higher transmission costs. f. , The PUC's Rule includes a rat'e-rnoderation plan ' tliar will minimi:e the I'mpact of the new prlcing , - l mech'anism for the first three years that the Rule is ' -
.e .
~
in effect. Under th'is plan, CPS' costs for calen,dar .
. r 'm y k -
3- ,
- p. .
City Public Service Annuai Repon' l998-1999 45 1 k.
- 12. SegmentInformation l -
L~ . '
. 1999 1998 l
. Electric Gar Total Electric Gas -Total
.. (irr shousands) _ (in thousands)
OPERATINO REVENUE $ ' 909,639 $ 114',237 '$ 1.023.876 $ 844,848 $ 137,593 $ 982,441-
; Notes to F.,masacial .
EXPENSES:' - l Statements January H,. Operating and maintenance expenses .. 411,756 .* 82,686 494,442 394,768 9.5,194 489,962 I999 and I998 , Regulatory transition assenment ' c 2,083 . -.c 2,083 1,851 1,851 Survey and investigation' costs .
. lignite mine site *
' 3,557 .- 3,557 ..
Depreciat, ion', . .c 155,294 ' 12,392- 167.686 142,223 11,184 153,407
, ; ;Totalexpenses .e 572,690 ' - 95,078 - 667,768 _ 538,842 106,378 645,220 e OPERATING INCOME '$ 336,949. $ 19.159 356,108' $ ' 306,006 $ ~31.215 337,221 Interest and other income - - . 57,528 .' 49,761
.' . Net interest and debt expense. . . (181.374) +
(184.055) NETIN.COME BEFORE - i, ,
~
EXTRAORDINARYCOSTS FOR~ ,
. CASHDEFEASANG.OFDEBT , 232,262 . 202,927
' ~
Extraordinary costs for cash' , defeasance ofdebt . .. (24.900) - INCOME BEFORE ; . ,- . . OPERATING TRANSFERS - - 207,362 202,927 Paymenti to the City's Gene.ral Fund . , . (144.555) ' (138.543)
. 'NETINCOME ., $1 62.807.- 3- 64.3.8L -
s CAPITALEXPENDITURES $ 246.781 j_ ~39.074 $ 285.855 $ 152.454 $' 43.302 $ 195.756
, EASSETS: , , .,
. . ' Plant in semce, net of accumulated .. , .
depreciation: f , Production. all STP facilities. $ ; 1,613,854 ^ $ 1,613,854 $ 1,65. 4,579 $7 1,654,579 Production otherfacilities.c 652,882. 652,882 685,793 685,793 '
. Transmission facilities c 5 190,571 .
190,571 188,684 , . 188,684 Dissibution facilities .765,435 $ 237,308 1,002,74'3 - 707.146 < $ , 225,323 = 932,469. Generalfacilities . 43,156 13,081 56.237 39,106 . 13,02I. 52,127-
'. Subtotal riet plant in servicy .. . ? 3,265,898; 250,389 - 3,516,287.- 3,275,308 238,344 '3,513,652 Identifiable construction '
work in progress- 127,883 ,21,776 149,659 121,231 '10,992 132,223 Nuclear fuel, net of . , . J accumulated amortization . . 36,602 36,602 - 44,251 44,251 l 1 . Held for future use L : 31,384 31,384 31,384 31,384 ,
- Totalidentifiable utility plant ., L JA R't.61 $ 272.165 3,733,932 } 3.472.174 } 249.336_- ; 3,721,510 s Net common utility'plaot .i .
~ and common CWIP f* 195,773 - 179,245
~ , ,
Totalnet utility plant .L . . 3,929,705. . 3,900,755. Other Lientifiable assets ... . $ 246.639 $. 15.309 261.948 - $ ' 242.604 $ ' .16.638 '259.242-Totalidentifiable'assits and .
. common plant /CWIP .
4,191,653 , 4,159,997 Unidentifiable aisets . . .a . 728,624 945,376 TOTAL ASSETS . . . . $ 4,920,277 { 5,105,373 TOTAL EQUITY AND LIABILITIES , . $ 4.920.277 .$_ 5.105.3))
. ~
. . NETWORKING CAPITAL .. . ,
j, J12.A18 ,$ 82.355 ' F
' 4e ' . City Public Semice AnnualReport 19981999
~.'
c ,- .. ~ . , , ,
, 13. Year 2000 Readines5[ system is sc'heduled to occur during the second
-.~ .
- (Unaudited Supplemen'tal Information). quaner of 1999 and will include v'erification
. of the system's Year 2000 compliance. -
' ' -
- All electric transmission and distributtod 1 The Year 2000 (Y2K) issue Wthe term used to f system digital devices have been determined to Notes- to kinan(iaP.'. . describe th potential date-relized failure ofinforma- , bey 2Kready.
Statements January 31, tion technology syitems prior to, on or after January Upgrades and/or additional work to be per. 1999.5nd 1998 L.1,2000.nis potential for failure exists because'of ' '
~
formed to ensure critical systems are Y2K ready
, ' the historic, widespread practice in the computer - ~ r.e as follows:'
industry of using two digits, not four, to represent
- The environmental systems'related to CPS' the year in computer databases, software applica- - power generation facilities are wheduled to be
. tions, hardware, and embedded systems. Therefore, ~
~
upgraded witli Y21f compliant hardware and
. ; conc'ern exists that when the date r611s pver from -
software by June 1999, .- 1999, (99) t6 2000 (00), many systems / components .
- CPS' telephone system is currently being
, may not recrysize the charige in century and may- replaced, with an expected completion date of i , read th'e daens 1900, possibly reidting in miscalcu.. June 1999.
lations or other malfunctions of such systems. As with the' critical systems, the inventory. .
' CPS has been working on the Y2K issue since - and assessment phases for CPS' non-critical sys.' *
- June 1996. TheCPS Y2K Readiness Project was es-' tems are substantially complete; however, these 3 tablished and is sponsored by senior management.. efforts will continue'through the Y2K transition l
, , In addition, CPS has implemettred a Corporate period due to ongoing installation, modification
, Plan that addresses.the proceu for ensuring that . . and replacement of systems and cormpon'e nts. 4
^
critical systems are Y2K ready. CPS' goal is to be Most non-critical systems currently are in the Y2K ready by Juli 31,1999. CPS has classified the . remediation and/or testing phases. f ollowing as critical systems: power generation; , electric transmission and distribution systems, en. CONTRACTUAL COMMITMENTS- '
, . ; ergy' management system, gas distribution system. -
customer services system, and operations telecom. .As of January'31,1999, CPS had contrac-munic'ations systems. In addition to CPS' ganding % tual commitments in the amount of p 1,000 to emergency response plans, CPS le developing con- make CPS systems and equipment Y2K ready. ' tingency plans specifically intended to address This amount represents a consulting contract for _ -
- potential Y2K related impacts on critical systems. independent verification and validation work on
- . The inventory and assessment phases of CPS' . the Y2K Readiness Project. Additional contrac. -
critical syste;ns are substantially complete; howeverl tual commitments for replacing the energy'
, these efforts will continue through the Y2K transt- ,
management system and the telephone system tion period due to ongoing installation, modification , are.$3A million and $3.9 million, respectively. and replacement of systems and components. Most Although the result of these system replacements-critical systems currently have modules in the will be systems that are Y2K ready, the need for
' remediation and/or testing phases. Because CPS'. updated technology and extended capacity were remediation efforts are focused at the modular , the' primary reasons these systen's i are being
) level, a system may have modules in both the . ~ replaced. At the time the decisions weire made. '
; remediation and testing phaacs, as well as modules ,, to replace these systeins, Y2K was not a primary
, that aie Y2K ready. consideration.
. I 'Ute following systerns have been determined
- Because of the unprecedented nature of '
tobe Y2K ready: . c the Y2K issue, its effects and the success of -
, 'Within power generation, the boiler control, related remediation efforts will not be fully detere
. turbine coritrol, and coal handling systerr.a have minable until the year 2000 and thereafter. While
. been determined to be Y2K ready ' . ..
. CPS has made every effort to ensure that we are
- The SCADA system that monitors and controls Y2K ready, management cannot assure that CPS
. ; the electric distribution and transmiision system ' ' is or will be Y2K ready, that CPS' remediation ef-is Y2K ready;however,the system is scheduled to forts will be successful in whole or inpart, or that
, be replaced during the fourth quarter of 1999. parties with whom CPS does business will be j Factory acceptance testing of the'new SCADA Y2K ready.
p
. . 1 1
. . City Public Service Anr.ual Report 1998 1999 47 j I
m , ;
1 l The Board of Trustees. ~
. l Cit Public Service Board ofSan Antonio Texas:
.We lyave audited the accompanying balance ' ment. An audit includes examining, on a test basis,
- sheets of the Ciiy Public Service Board of San evidence supporting the amounts and disclosures in
' Antonio,' Texas (City Public Service), a component the financial statements. An audit also includes unit cif the' City ofSa~n Antonio, Texas, as ofJanuary ' assessing the accounting principles used anci signifi.
' 131,1999 and 1998, and the relate'd statements of cant estimates made by management, as well as revenues, expenses, and changes in retained earnings evaluating the overall fm,cial statement presenta-and cashhows for the years then ended. These tion. We believe that our audits and the reports of ;
financial statements are the responsibilitij of City - other auditors provide a ressonable basis for , Public Service's managem'e nt.' Our responsibility is our' opinion.
; to express an opinion on these fmancial datements in our 'opinion, based on our audit and the based on odt audits.,We 'did no't au'dit the financial reports of other auditors, the financial statements statements of City Public Service Employees' z referred to above present fairly, in all material re-Pension Plan or City Public Service Decommission; spects, the'firiancial position of City Public Service ing Master Tnistifor the South Texas Project. The. as ofJanua'ry 31,.1999 and 1998, and the results of
~
,jfmancial information related to the City Public its operations and its cash flows for the years then e Service Employees' Pension Plan is included in ended in conformity wiih generally accepted '
footnote 6 of the notes'to financial statements. The ; accounting principles. assets of the City' Public Service' Master Decommis- The year 2000 supplementary information on sioning. Trust for the South Texas Project of ' page 47 is not a required part of the basic financial
. $89,465,000 and $72,783,000 as ofJanuary 31,, statements, but is supplementary information're-
. 1999 and 1998, respectively, were combined witk quired by the Governniental Accounting Standards City Public Service as a blended component unit. ' Board, and'we did not audit and do not e'xpress an -
l - Those financial statements were audited by other - opinion on'such information. Further, we were un-auditors whose reports thereon have been furnished able to apply'to the information certain proceduies to'us, and.our, opinion on the_ City Public Service prescribed by professional standards because of the ' financial statements, insofar as it relates to the - nature of the subject matter underlying the disclo-amounts and disclosures inc'luded faithe City Pub. sure requirements and because sufficiently specific .
, lic Service Employees' Pension Plan and the' City criteria regardirig the mattets to be dischsed have Public Service Master Decoinmissioning Trust'for D , not been established. In addition, we do not pro- -
the South Texas Project, is based on the reports of vide assurance that City Public Service is or will
.o'ther audit' ors. ', become year 2000 compliant, that City Public
- We co'nducted our' audits in accordance with Service's year 2000 remediation efforts will be.,
generally accepted auditing standards. Those stant successful in whole or in part, or that parties with~
' dards require that we plan and perform the audit to Twhich City Public Service does business with are or <
' obtain reasonable assurance aboutwh' ether the
- will become year 2000 compliant.
financial stateinents are free of material misstate- x
- s. .
r 1 San Antonio, Texas.-March 19,1999 .
- )" 3 .
, )
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\Reliant \ h Energh ;
( Houston Industries Incorporated 1 doing bdsiness as Reliant Energy, Incorporated m l Appendix A 1998 Financial Statements
Table of Contents Forward Looking Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . , 1 Management's Discussion and Analysis of Financial Condition and Results of Operations of the Company . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 Quantitative and Qualitative Disclosures About Market Risk . . . . . . . . . . . . . . . . . . . . . . . . . . 28 Financial Statements and Supplementary Data of the Company . . . . . . . . . . . . . . . . . . . . . . . . 32 l Statements of Consolidated Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32 Statements of Consolidated Retained Earnings and Comprehensive Income . . . . . . . . . . . . . . 33 Consolidated Balance Sheets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34 1 Consolidated Statements of Capitalization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36 ' Statements of Consolidated Cash Flows . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39 Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . . . . . . . . . . . 41 Independent Auditor's Report . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83 l 1 J l L )
HOUSTON INDUSTRIES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED 1998 FINANCIAL INFORMATION y his Appendix A is derived from item 7 (Management's Discussion and Analysis of Financial Condition and Results of Operations), Item 7A (Quantitative and Qualitative Disclosures About Market Risk) and Item 8 (Financial Statements i and Supplementary Data) of the Annual Report on Form 10-K of Houston Industries Incorporated (Company) for the year ended December 31,1998 (Form 10-K). A copy of the Form 10-K may be obtained without charge by contacting the I ator Relations department of the Company at 1111 Louisiana, Houston, Texas 77002. Reference is made to the 104 ar additional information about the business and operations of the Company and its subsidiaries. FORWARD LOOKING INFORM ATION From time to time, the Company and Reliant Energy Resources Corp. (Resources) may make statements regarding their assumptions, projections, expectations, intentions or beliefs about future events. These statements and other statements that are not historical facts are intended as " forward-looking statements" under the Private Securities Litigation Reform Act of 1995. The Company and Resources caution that assumptions, projections, expectations, intentions or beliefs about future events may and often do vary materially from actual results and the differences between assumptions, projections, expectations, intentions or beliefs and actual results can be material. Accordingly, there can be no assurance actual results will not differ materially from those expressed or implied by the forward-looking statements. He following are some of the factors that could cause actual results to differ from those expressed or implied in forward-looking statements: (i) state and federal legislative and regulatory initiatives that affect cost and investment recovery, have an impact on rate structures and affect the speed and degree to which competition enters the electric and natural gas industries; (ii) industrial, commercial and residential growth in service territories of the Company and Resources; (iii) the weather and other natural phenomena; (iv) the timing and extent of changes in commodity prices and interest rates; (v) changes in environmental and other laws and regulations to which the Company, Resources and their respective subsidiaries are subject or other external factors over which the Company and Resources have no control; (vi) the results of financing efforts; (vii) growth in opportunities for the Company's and Resources' subsidiaries and diversified operations; and (viii) risks incidental to the Company's overseas operations (including the effects of fluctuations in foreign currency exchange rates). The following sections of Appendix A contain forward-looking statements" Management's Discussion and Analysis of Financial Condition and Results of Operations of the Company - Results of Operations by Business Segment-Wholesale Energy ."" Management's Discussion and Analysis of Financial Condition and Results of Operations of the
- Company - Results of Operations by Business Segment -International,"" Management's Discussion and Analysis of Financial Condition and Results of Operations of the Company-Certain Factors Affecting Future Eamings of the Company and its Subsidiaries," " Management's Discussion and Analysis of Financial Condition and Results of Operations of the Company - Certain Factors AiTecting Future Earnings of the Company and its Subsidiaries -
Competition - Other Operations,"" Management's Discussion and Analysis of Financial Condition and Results of Operations of the Company- Certain Factors Affecting Future Earnings of the Company and its Subsidhries -Impact of the Year 2000 Issue and Other System Implementation Issues,""Munagement's Discussion and Analysis of Financial Condition and Results of Operations of the Cornpany- Certain Factors Affecting Fumre Earnings of the Company and its Subsidiaries - Risks ofIntemational Operations,"" Management's I;.e.cussion and Analysis of Financial Condition and Results of Operations of the Company - Certain Factors Affecting Future Earniags of the Company and its Subsidiaries - Environmental Expenditures" and " Management's Discussion and Analysis of Financial Condition and Results of Operations of the Company - Liquidity and Capital Resources - Company Consolidated Capital Requirements," "- Consolidated Sources of Capital Resources and Liquidity" and " Quantitative and Qualitative Disclosures About Market Risk " 1 I3
!" - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND HRULTS OF UPERATIONS OF THE COMPANY The following discussion and analysis'should be read in combination with the Company's consolidated financial i statements and notes contained herein (Company's Consolidated Financial Statements). He Company is a diversified international energy services company. It operates the nation's tenth largest electric utility in terms of kilowatt-hour (KWH) sales, and its three natural gas distribution divisions together fonn the nation's third largest natural gas distribution operation in terms of customers served. He Company also invests in international and domestic electric utility privatizations, gas distribution projects and the development of non rate regulated power generation projects. He Company is also a ma@r interstate natural gas pipeline and energy services company, providing gas transportation, supply, gathering'and storage, and wholesale natural gas and electric power marketing services. Effective January 1,1998, the Company reconfigured its financial reporting segments to include the following: Electric Operations, Natural Gas Distribution, Interstate Pipelines, Wholesale Energy Marketing and Generation (Wholesale Energy), International and Corporate For segment reporting information, see Note 15 to the Company's
. Consolidated Financial Statements.
On August 6,1997 (Acquisition Date), the Company acquired Reliant Energy Resources Corp. (formerly, NorAm Energy Corp.) (Resources), a natural gas gathering, transmission, marketing and distribution company. He acquisition
. (Merger) was accounted for as a purchase; accordmgly, the Company's results of operations for 1997 include the results of operations of Resources only for the period beginning on August 6,1997 (Acquisition Date).
To enhance comparability between reporting periods, certain information is presented on a pro forma basis and
- reflects the acquisition of Resources as ifit had occurred at the beginning of the 1996 and 1997 reporting periods presented. Pro forma pmhrelated adjustments include amoitization of goodwill and the allocation of the fair value of certain assets and liabilities of Resources. De pro forma results of operations are not necessarily indicative of the combined results of operations that actually would have occurred had the acquisition occurred on such dates. The Company believes, however, that the presentation of pro forma data provides a more meaningful comparative standard for assessing changes in the Company's financial condition and results of operations during the years ended December 31,1997 and 1996, since the pro forma presentation (i) combines a full year of results of the Company's and Resources' operations and (ii) gives retroactive effect to purchase-related adjustments, including the amortization of goodwill and the allocation of the fak market value of certain Resources assets and liabilities.
All dollar amoun.e <a tables that follow are in millions, except for per share data, percentages and throughput and other operations data.
I.~,
I
' l l
I 2 i 4 _
r. F k l CONSOLIDATED RESULTS OF OPERATIONS
} ,
k. Actual Pro Forma Twelve Twelvc *t Months Ended Months Ended i December 31, p,,,,,, December 31, p,,,,,, 199s 1997 Change ' 1997 Change g RevenuesJ . ....~...... . . . . $ 11,488 $ 6,878 67 % $ 10,191 13 % i Operating Expenses .... .. .... ........ 10,011 5,813 72 % 8,976 12 % Operating income .. .. ..... .. ... 1,477 1,065 39% 1,215 22 %
' Other Expenses, Net (l)... : ... 1,649 437 277 % 546 202 %
Income Taxes. - ..... . . . . . (30) 206 - 232 - Net Income (Loss)(2) .. ......... . .. .. .(142) 421 - 437 - Basic and Diluted Earnings (Loss) Per Share.................................... . . . . . ~ . . . . (.50) 1.66 - 1.55 - I (1) Includes a $1,176 million unrealized accounting loss in 1998 compared to a $121 million unrealized accounting loss incurred in 1997 relating to the Company's 7% Automatic Common Exchange Securities (ACES). See Note 1(n) to the Company's Consolidated Financial Statements. (2) Includes $37 million ofinterest income attributable to a tax refund in 1997. Actual Pro Forma Twelve Months Ended Twelve Moschs Ended December 31 Pereest December 31, Percent 1997 1996 _ Change 1997 1996 Change Revenues... ..... .... . .... . . . . . $ 6,878 $ _4,095 68 % $ 10,191 8,884 15 % Operating Expenses._ .. 5,813 3,105
- 87 % 8,976 7,617 18 %
Operating Income . ........ .... ........ . 1,065 990 8% 1,215 1,267 (4%) Other Expenses, Net ... ..... ...... 437 385 14 % 546 596 (8%) Income Taxes..... . . . . 206 200 3% 232 245 (5%) Net Income .................... . . ..... .... .... 421 405 4% 437 426 3% Basic and Diluted Eamings Per Share ..... ............ .. ....... ..... .. 1.66 1.66 - 1.55 1.46 6% {
- 1998 Compared to 1997 (Actual). The Company reported a consolidated net loss for 1998 of $142 million ($.50 per share) compared to consolidated net income of $421 million ($1.66 per share) in 1997. De consolidated net loss resuhed from the accounting treatment of the ACES, which were issued in July 1997. De Company recorded a non-cash, unrealized accounting loss (aner-tax) of $764 million on the ACES in 1998. In 1997, the Company recorded a J .non-cash, unrealized accounting loss (after-tax) of $79 million on the ACES, which was partially offset by $37 million of non-recuiring interest income related to a refund of federal income taxes in 1997. For a discussion of the ACES accounting loss, see ".-Certain Factors Affecting Future Earnings of the Company and its Subsidiaries - Accounting Treatment of ACES."
After adjusting for non-recurrmg and other charges (as described above) in both years, net income for 1998 would have been $622 million ($2.19 per share) compared to $463 million ($1.83 per share) in 1997. De increase in adjusted net income for 1998 compared to 1997 was due to improved results from the Company's Interstate Pipeline, Wholesale Energy and International segments. Net income for 1998 included an $80 million, or $.28 per share, gain on the sale of an investment in an electric distribution system in Argentina. Also contributing to the increase were earnings frcm j the businesses acquired in the Merger. These effects were partially offset by additional depreciation of regulated power _ generation assets in compliance with Reliant Energy HIAP's rate of return cap, as described below, and increased interest expense primarily related to the Merger. 1998 Compared to 1997 (Pro Forma). He Company's reported consolidated net loss for 1998 was $142 million l
- ($.50 per share) compared to pro forma earnings of $437 million ($1.55 per share) in 1997.
3 l J- j u
i Excluding the non-recuning and other charges described above, net income for 1998 would have been $622 million j' ($2.19 per share) compared to pro forma net income of $479 million ($1.70 per share) in 1997. He increase in adjusted net income compared to adjusted pro forma 1997 net income is due primarily to the same factors discussed above. 1997 Compared to 1996 (Actual). De Company reported consolidated net income in 1997 of $421 million ($1.66 per share) compared to $405 million ($1.66 per share) in 1996. Although net income increased by $16 million, the Company's basic and diluted earnings per share remained the same due to the issuance of approximately 47.8 million additional shares of the Company's common stock in the Merger. De Company's net income in 1997 reflected the net impact of $42 million from the ACES accounting loss partially offset by non-recurring interest income. In 1996, the 1 Company recorded non-recurring, after-tax changes of(i) $62 million for the settlement of South Texas Project Electric l Generating Station (South Texas Project) titigallon claims and (ii) $5 million associated with an investment in two tire- l to-energy plants in Illinois. ] After adjusting for non-recurring and other charges in both years, net income for 1997 would have been $463 million ($1.83 per share) compared to $472 million ($1.93 per share) in 1996. The decrease is due in part to the additional amortization of certain lignite reserves by Electric Operations, the amortization of goodwill recorded in the Merger and increased interest expense. The increase in interest on long-term debt and other interest reflect both (i) the
$1.4 billion indebtedness incurred by the Company to fund a portion of the cost of he Merger and (ii) the consolidaticn of Resources' existing indebtedness with that of the Company. Partially offsetting these effects were increaseu F%ctrh Operations' sales due to customer growth, improved results at Intemational and t e additional operating income generated by the new business units acquired in the Merger.
1997 Compared to 1996 (Pro Forma). He Company's pro forma consolidated net income for 1997 was $437 million ($1.55 per share) compared to $426 million ($1.46 per share) in 1996. f Excluding the non-recurring and other charges described above, the Company's 1997 pro forma net income would have been $479 million ($1.70 per share) compared to $493 million ($1.69 per share) in 1996. This decrease in pro forma earnings, as adjusted for non-recurring and other charges, was principally the result of(i) hedging-related losses incurred in the first quarter of 1997 by a subsidiary of Resources, which losses were not refle:ted in the Company's actual results of operations since tiay were incurred prior to the Merger, (ii) a weather-related decline in sales volumes of Natural Gas Distributioc and (iii) ncreased administrative and general expenses associated w4h increased staffing and marketing in connection with increasing the scope of energy marketing activities. Pro forma consolidated net income or 1997 ark a96 exceeds actual consolidated net income for such years because purchase-related costs were more thu offset on a pro fonna basis by Resources' eamings for the geriods prior to the Acquisition Date. Such eamings were Oot part of the reported actual results of the Company.
. RESULTS OF OPERATIONS BY BUSINESS SEGMENT All business segment data (other than data relating to Electric Operations) are presented on a pro forma basis for 1997 and 1996 as if the acquisition of Resources had occuned on January 1 of each year presented.
The following table presents operating income on (i) an actual basis for the years ended December 31,1998 and 1997, and (ii) a pro fonna basis for each of the Company's business segments for the years ended December 31,1997 and 1996. 4 , l L
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OPERATING INCOME (LOSS) BY EUSINESS SEGMENT \ 1
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Actaal Pro Forma Year Ended Year Ended December 31, Decem'xr 3 t, 1998 1997(1) 1991(2) 1996(2) Electrie Operations .. .. ... .. .. ... ..-......$ 1,014 $ 995 $ 995 $ 997 Natural Gas Distribution. . . . . . . . . 138 55 152 160 Interstate Pipeline . .... ..... . . . ...... . 128 32 99 108 Wholesale Energy .. . ......... . .... ... ... .. ........... ...... 59 1 (15) 22 Intemational ...... . .. ..... .... . .... ... ......... ...-.. ....... . I82 20 17 (1)
. Corporate . ... .... . .. .......... .. . . . . . . .
(44) (38) (32) (19) Total Consolidated.. .,.. . .. . . . . . . . . $ 1,477 $ 1,065 $ 1,216 $ 1,267 (1) . Includes Resources business segments beginning on the Acquisition Date. (2) Electric Operations operating income data are actual and not pro forma. Electric Operations Electric Operations' business is conducted under the name " Reliant Energy HL&P, an unincorporated division of the Crsupany. Electric Operations provides electric generation, transmission, distribution, and sales to approximately 1.6 mulion customers in a 5,000 square mile area on the Texas Gulf Coast, including Houston (the nation's fourth largest city). Electric Operations constitutes the Company's largest business segment, representing 69% of the Company's consolMated operating income for 1998. Electric Operations' earnings am capped at an agreed overall rate of retum formula on a calendar year basis as part of the transition to competition plan (Transition Plan) approved by the Public Utility Commission of Texas (Texas Utility Commission) and effective January 1,1998. As a result of this plan, any camings in 1998 or 1999 above the maximum allowed retum cap of 9.844% on invested capital will be offset by additional depreciation of Electric Operations' generation assets. The Transition Plan also approved the implementation of base rate credits to residential customers of 4% in 1998 and an additional 2% in 1999. Commercial customers whose monthly billing is 1000 kva or ins receive base rate credits of 2% in 1998 and 1999. For more information regarding the Transition Plan, including a pending judicial review of portions of the Transition Plan, see Note 3(b) to the Company's Consolidated Financial Statements. The following table provides summary data, before taxes, regarding the actual results of operations of Electric Operations for 1998,1997 and 1996. Year Ended December 31, Percent 1998 1997 Chasse Operating Revenues: Base Revenues (l ) ............... .... .... ........ ... . . ... . ....... .... .. ... .. $ 2,969 $ 2,839 5% Reconcilable Fuel Revenues (2).. .. .. .. ................... ......... ...., ..... 1,381 1,413 (2%) Total Operating Revenues . . .... ... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4,350 4,252 2% Operating Expenses: Fuel Expense .....-.. .. .... .. .. . . . . . . . . . . . . . . . . . . 1,064 1,091 (2%) Purchased Power . . . . . . . . . . . . . . . . ................ 391 386 1% Operation Expense . .... . ..... ............. . .......... . . . . . . . . . . . . . . . 635 641 (1%) Maintenance Expense.... . . . . . . . . . . . . . . . . . . . . . . - . . . . . . . . . . . . . . . . . . . . . 234 228 3% Depreciation and Amortization Expense.... ........ . . . . . . . . . . . . . . . . . . . . . . . . 650 569 14 % Other Operating Expenses... . ............. ........ ..... ..... ..... .. . . . . 362 342 6% Total Operating Ex'penses................ .. . ........ . ...... .................. 3,336' 3,257 2% OperatingIncome . . ..... .......... ... .. ..... $ 1,014 $ 995 2% l 5
v-'--- Year Ended December 31, Percent 1997 1996 Change Operating Revenues: Base Revenues (l) ... ... ............ ...... .. ....... ... ..... . ...... .... $ 2,8 3 9 $ 2,743 3% 1,413 1,282 10% Reconcilable FuelRevenues(2) . . . . . . ..... Total Operating Revenues..... . ....... . . . . . . . . . 4,252 4,025 6% Operating Expense:
. Fuel Expense ..... . .... ....... . ~ . . . . . . . . . . . . . . . . 1,091 1,025 6%
386 322 20% Purchased Power.. ... . ...... .. ........... ......... 641 543 18% Operation Expense . ..... . ...... ... ....< . . . . . . . . . . . Maintenance Expense........... .. ............ 228 249 (8%) Depreciation and Amortization Expense . . . . ... 569 546 4% 342 343 -
- Other Operating Expenses- . . . . . . . . . . . . . .
Total Operating Expenses. .. . . . . . . . . . . . . . . . . . . . . . . 3,257 _ 3,028 8% Operating Income ..... ..~.... ........ . .. . . . ..... ... ................. $ 995 $ 997 - l (1) Includes miscellaneous revenues, certain non-reconcilable fuel revenues and certain purchased power.related revenues. (2) Includes revenues collected through a fixed fuel factor and surcharges net of adjustments for over/under recovery. See "- Operating Revenues - Electric Operations."
. Operating Incom> Electric Operations 1998' Compared to'1997. Electric Operations' operating income (before income taxes) was $1,014 million compared with $995 million the previous year. He increase of $19 million in operating income was due to higher revenues from the unusually hot weather in 1998 and customer growth, reduced by base rate credits provided under the Transition Plan. Under the Transition Plan, the Company recorded additional depreciation on Electric Operation's generation assets, which resulted in depreciation and amoitization expense increasing by $82 million between 1997 and 1998. Total KWH sales rose 8% during 1998, with increases of 9% in residential sales,6% in commercial sales and
' 3% in firm industrial sales.
1997 Compared to 1996. Electric Operations
- cperating income (before income taxes) was $995 million in 1997 compared with $997 million in 1996, ne decrease in operating income was due to increases in operations expense and depreciation and amortization expense in 1997, partially offset by increased revenues from electric sales growth and decreases in maintenance expense, as described below. Total KWH sales rose 3% during 1997, with increases of 1%
in residential sales, 6% in commercial sales and 2% in firm industrial sales. Operating Revenues - Electric Operations
? c. > 1998 Comparedto 1997. Electric Operations' $130 million increase in 1998 base revenues is primarily the result
'of unusually hot weather and the impact of customer growth, net of base rate credits implemented under the Transition Plan. In 1998, Electric Operations implemented a base rate discount of $74 million.~ In addition, growth in usage and number of customers contributed an additional $48 million in base revenues in 1998.
Electric Operations' 2% decrease m reconcilable fuel revenue in 1998 resulted primarily from decreased natural gas prices. He decrease in natural gas prices, however, waC.sgely offset by irn J KWH sales resulting from hotter , weather. De Texas Utility Commission provides for recovery of certain fuel and purchased power costs through a fixed fuel factor included in electric rates. De fixed fuel factor is established during either a utility's general rate proceeding or its fuel factor proceeding and is generally effective for a minimum of six months. Revenues collected through such factor are adjusted monthly to equal expenses; therefore, such revenues and expenses have no effect on earnings unless fuel costs are determined not to be recoverable. De adjusted over/under recovery of fuel costs is recorded on the Company's Consolidated Balance Sheets as fuel-related credits or fuel-related debits, respectively. Fuel costs are 6 i
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review:d during periodic fu 1 rsconciliation proceedings, which are required at least every three years. Electrh , Operations filed a fuel reconciliation proceeding with the Texas Utility Commission on January 30,1998 covering $3.5
- billion of fuel costs for the three year period ending July 31,1997. In December 1998, the Texas Utility Commission k l
I issued a final order that allowed Electric Operations to recover eligible fuel costs for the three-year period ending July 31,1997, with some exceptions. Under the order, the Ccmpany reclassified $40 million in costs associated with certain (' I fuel-related capital improvement projects from eligible fuel expense to invested capital. De order also required an I
- additional reduction of $12 million in eligible fuel expense relating to the three year period ending July 31,1997.
In April 1998, Electric Operations filed a petition to revise the fixed fuel factor and implement a surcharge for under-collected fuel costs. The Texas Utility Commission approved implementation of the revised overall fixed fuel factor and a temporary fuel surcharge in the amount of $125 million (inclusive of the previously existing fuel surcharge balance) to be collected over a 12 to 18 month period. The approved fuel factor and surcharge were implemented for customer billings beginning July 1,1998. As of December 31,1998 and 1997, Electric Operations' cumulative under-
- recovery of fuel costs was $45 million and $172 million including interest, respectively.
1997 Compared to 1996.' Electric Operations' 3% increase in base revenue in 1997 compared to 1996 was primarily the result ofnewly recorded transmission revenues. Electric Operations' transmission revenues (which are considered miscellaneous revenues) in 1997 were $86 million but were offset by transmission expenses of $88 million. For information regarding these transmission revenues, see "- Certain Factors Affecting Future Earnings of the Company and its Subsidiaries - Competition and Restructuring of Electric Utility Industry" below. Electric Operations' 10% increase in reconcilable fuel revenue in 1997 resulted primarily from increased natural gas prices in that year. In 1997, Electric Operations implemented (i) a $70 million temporary fuel surcharge (inclusive ofinterest) effective for the first six months of 1997 and (ii) a $62 million temporary fuel surcharge (inclusive ofinterest) effective for the last six months of 1997. In December 1997, the Texas Utility Commission approved the implementation of a $102
' million (inclusive ofinterest) temporary fuel surcharge which was implemented by Electric Operations on January 1,
' 1998 with recovery extending from 8 months to 16 months depending on the customer class. Electric Operations psted the surcharge in order to recover its under-recovery of fuel expenses for the period March 1997 through August 1997. His under recovery was included in the surcharge that began July 1,1998.
Fuel and Purchased Power Expense-Electrie Operations Fuel costs constitute the single largest expense for Electric Operations. The mix of fuel sources for generation of electricity is determined primarily by system load and the unit cost of fuel consumed. De average cost of fuel used by Electric Operations in 1998 was $1.70 per million British nermal Units (MMBru)($2.18 for natural gas, $1.78 for coal,
- $1.19 for lignite, and $.48 for nucle.ar). In 1997, the average cost of fuel was $1.87 per MMBtu ($2.60 for natural gas,
$2.02 for coal, $1.08 for lignite, and $0.54 for nuclear). Fuel costs are reconciled to fuel revenues resulting in no effect
.on camings unless fuel costs are determined not to be recoverable.
'1998 Compared to 1997. Fuel expenses in 1998 decreased by $27 million or 2% below 1997 expenses. The
- decrease was driven by a significant decrease in the average unit cost of natural gas, which declined from $2.60 per ;
MMBtu in 1997 to $2.18 per MMBtu in 1998. Purchased power expenses increased in 1998 by $5 million or 1% over 1997 expenses. This increase was a result of additional purchases through the Electric Reliability Council of Texas l I (ERCOT) of $18 million offset by a reduction in purchases from cogenerstors of $13 million. Additionally,1998 fuel expense includes a $12 million charge to non-recoverable fuel in accordance with the Fuel Reconciliation Proceeding discussed above. , l-l 7
1997 Comparsdto 1996. Fuel expenses in 1997 increased by $66 million or 6% over 1996 expenses. The increase , was driven by significant increases in the average unit cost of natural gas, which rose to $2.60 per MMBtu in 1997 from
$2.31 per MMBtu in 1996. Purchased power expenses increased in 1997 by $63 million or 20% over 1996 expenses, i Lis change was driven primarily due to higher prices paid to qualifying facilities for purchased electric energy {
principally as a result ofincreases in natural gas prices, energy purchased under Electric Operations' joint dispatching i agreement with the city of San Antonio (see Note 12(c) to the Company's Consolidated Financial Statements) and Electric Operations' pasticipation in the newly deregulated Texas wholesale energy market in order to buy and sell energy to provide lower costs to its customers. Operation and Maintenance Expenses, Depreciation, Amortization and Other- Electric Operations In order to reduce Electric Operations' exposure to potentially stranded costs related to generating assets, the Transition Plan permits the redirection ofdepreciation expense to generation assets from transmission, distribution and general plant assets. In addition, the Transition Plan provides that all earnings above a 9.844% overall annual rate of return on invested capital be used to recover Electric Operations' investment in generation assets. As a result, Electric , Operations recorded $194 million in additional depreciation and redirected $195 million in existing depreciation expense to generation assets in 1998. 1998 Compared to 1997. Operation, maintenance and other operating expenses increased $20 million in 1998, including $9 million due to transmission tariffs within ERCOT Dese transmisrion expenses were largely offset by $7
. million in transmission tariff revenue. Franchise fees paid to cities increased $11 million due to increased sales in 1998.
In 1998, the Company recorded additional depreciation expense for Electric Operations of $194 million, which is ' $144 million more than recorded dudng the same period last year, as provided by the Transition Plan. He comparative increase v s less than it otherwise would have been because amortization of the investmer.t in lignite reserves associated with a ca 4ed generation project was $62 million lower in 1998 than in 1997, in 1996, Electric Operations began amortiz .s $153 million investment in these lignite n: serves. De lignite reserves will be fully amortized no later than 2002.' 1997 Compared to 1996. Operations and maintenance expense increased $76 million in 1997, ne increase included $88 million due to transmission. tariff expenses within ERCOT, offset by $86 million of transmission tariff revenue. In 1997, Electric Operations incurred $17 million in work force severance expenses compared to $30 million of such expenses in 1996. Depreciation and amortization expena n. creased $23 million in 1997 compared to 1996. The increase is due to the additional amortization of $16 million ol hiectric Operations' investment in lignite reserves. In 1997 and 1996, Electric Operations wrote down its investment in the South Texas Project by $50 million in addition to ordinary depreciation associated with the South Texas Project. The additional amortization of the lignite reserves and the yl_ , ' depreciation of the South Texas Project were permitted under Electric Operations' rate order in Docket 12065 ' For additional infonnation n:garding these amortizations, see Note 1(f) to the Company's Consolidated Financial Statements. .l
- Natural Gas Distribution .
Natural Gu Distribution operations are conducted through three unincorporated divisions of Resources (Reliant Energy Arkla, Reliant Energy Entex and Reliant Energy Minnegasco) and are included in the Company's actual consolidated results of operations beginning on the Acquisition Date. Dese operations consist of natural gas sales to, and natural gas transportation for, residential, commercial and industrial customers in six states: Arkansas, Louisiana, Minnesota, Mississippi, Oklahoma and Texas. 8 i l 1
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i De following tables provide summary data regarding the actual results of operations of Natural Gas Distribution for 1998 and unaudited pro forma financial results of operations for 1997 and 1996. Aetaal Pro Forma Year Ended . Year Ended December 31 December 31, Pereent 199s 1997 ch. se Operstmg Revenues: Base Revenues .. ........... .. .. .... . . . . . . . . . . . . . . . . . . . . . . . . . . .. S 779 $ 814 (4%) Recovered Gas Revenues........ .. .. 1,034 1,388 (26%) Total Operating Revenues .... .... ... . ................. . ............. 1,813 2,202 (18%) Operating Exp Natural Gas ............ ... .. :........................... ..... 1,085 - 1,440 (25%) Operation and Maintenance .......... .......... ...... ........ .. ......... ... . 368 384 (4%) Depreciation and Amortization....... . .... .... . .. 130 124 5% Other Operating Expenses .. . . . . . . . . . . . . . . . . . .. 92 102 (10%) Total Operating Expenses . .. ..... . ..... .. .. ..... 1,675 2,050 (18%) Operating income ...... . .. ........... ...... .. ....................$ 138 $ 152 (9%) Throughput Data (in billion cubic feet (BCF)): Residential and Commercial Sales.. .. . . . . . . . . 286 326 (12%) Industrial sales ..... .... .... ... .... . ................. . 56 59 (5%) Transportation.. ...... , . .. ..... .......................... 44 42 5% Total nroughput . .. .-............ .....-... ... ........ ......... .......~..... .. . 386 427 - (10%) Pro Forma Year Ended December 31 Percent 1997 1996 Chasse Operating Revenues: J Base Revenues ....... ... ......... ....,. ..... ... .._..... . .. .............$ 814 $ 764 7% Recovered Gas Revenues ....... ....._.... ...... ...................... .. .. .... .. 1,388 1,349 3% Total Operating Revenues.... ... ....................... 2,202 2,113 4% Operating Expenses: Natural Gas - ................ ......................... .... 1,440 1,348 7% Operation and Maintenance..... ........... .. .. . . , . . . . . . . . . . . . . . . . 384 381 1% Depreciation and Amortization.. .... . . . . . . . . 124 121 2% Other Operating Expenses (1) .......... ..... ......... ............. ..... .. . .. 102 103 (1%) l Total Operating Expenses.. ... . 2,050 1,953 5% ! Operating income.......... ..... .......... ............... .. $ 152 $ 160 (5%) j nroughput Data (in BCF): Residential and Commercial Sales . . . . . . . . . . . . . . . 326 333 (2%) Industrial Sales .. .. .............. .. . .. .. ....~... ... ...... ...... ... 59 58 2% Transportation...... . .-.. . ..... ...... . . . . . . . ... 42 42 _ - j
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Total Throughput . .......... . -. .. .............................. 427 433 _ (1%) i
. (1) Before a $6 million one-time charge incurred in 1996 for early retirement and severance costs.
i l 1998 (Actual) Comparedto 1997 (Pro Forma). Operstmg income was $138 million in 1998 compared to pro forma operating income of $152 million in 1997. The $ 14 million decrease reflects the lower demand for natural gas heating
' that resulted from milder weather in 1998. 'Ihe negative impact of weather was partially offset by (i) the favorable ,
impact of purchased gas adjustments during this penod on Reliant Energy Arkla's operating income, (ii) lower operrting , i
. expenses and (iii) increased revenue resulting from Reliant Energy Minnegasco's performance based rate plan.
9 l
r The $389 million decrease in 1998 actual operating revenues compared to 1997 pro forma operating revenues is I primarily attributable to a decrease in the price of purchased gas and decreased sales volume primarily due to milder weather in 1998.
'1997 Compared to 1996 (Pro Forma). Pro forma operating income was $152 million in 1997 compared to $160 million (before a one-time charge of $6 million for early retirement and severance) in 1996. He decrease of approximately $8 million in 1997 pro forma operating income is principally due to decreased Reliant Energy Minnegasco customer usage because of warmer weather and customer conservation, decreased Reliant Erergy Arkla customer usage because of wanner weather (primarily in the first quarter of 1997) and the unfavorable impact in 1997 of a purchased gas adjustment mechanism on Reliant Energy Arkla. Partially offsetting the decrease was an increase in Reliant Energy Minnegasco's performance based rate incentive recoveries and customer growth and increased revenues from Reliant Energy Entex due to rate relief granted in 1996 and fully reflected in 1997.
The increase of approximately $89 million in pro forma Natural Gas Distribution operating revenue for the year ended December 31,1997 in comparison to the com:sponding period of 1996 is principally due to the increase in the market price of gas. De $92 million increase in purchased gas costs in 1997 compared to 1996 primarily reflects the increase in Natural Gas Distribution *s average cost of gas in 1997 (consistent with the overall increase in the market price of gas during such period) along with the purchased gas adjustment referenced above. laterstate Pipelines Interstate Pipelines' operations are conducted through Reliant Energy Gas Transmission Company (REGT) and Mississippi River Transmission Corporation (MRT), two wholly owned subsidiaries of Resources. He following table provides summary data regarding the actual results of operations of Interstate Pipelines for 1998 and pro forma results of operations for 1997 and 1996. Actual Pro Forma Year Ended Year Ended December 31 December 3t, Percent 1998 1997 Channe Operating Revenues.... .... . ...~......... $ 282 $ 295 (4%) Operating Expenses: Natural Gas .. ... . . . . . . . . . . . . . . . . . 27 45 (40%) Operation and Maintenance -- .. . 69 88 (22%) Depreciation and Amortization - . . . . . . . . 44 48 (8%)
. Other Operating Expenses . .... . 14 15 (7%)
Total Operating Expenses . -... .... . . . . . . . . . . . . . . . 154 196 (21%) Operating income ..... .. .. .... .. .. . . . . . . . . $ 128 $ 99 29 % nroughput Data (in MMBtu): Natural Gas Sales............ ...... . . . . 16 18 (11%) Transportation...... . .. .........-............ . 825 911 (9%) (15) (17) 12 % l Elimination (l) .. ... .. ..... ... ....... ... Total Throughput..__ . . . . . . . . . . . . . . . . . 826 912 (9%) { l0
Pro Forma Year Ended December .11, Percent 1997 1996 __ _ Channe Operating Revenues....... .... .... ...... .. ............ .... .. .... ... ....$ 295 $ 347' (15%) Operating Expenses:
' &tural Gas. . .. . ......... 45 76 (41%)
Operation and Maintenance ..... .......... .. ................ 88 82 7% Depreciation and Amortization.......... ..... ... . . . . . . . . . . . . . . . . . . . 48 50 (4%) Other Operating Expenses (l)........ ........................... 15 31 (52%) Total Opmating Expenses ..... . . .... ...... . . ..... . . . . 1% 239 (18%) Operatms Income ...... .. .........~......... ...... ........ ............$ 99 $ 108 (8%) nroughput Data (in MMBtu): Natural Gas Sales.... ......... . ...._.... ... ...... ... .......... .. ......... I8 33 (45%) Transponation . .. ........... . ... .. .. ... . .................... 911 952 - (4%) Elimination (l)... >. ... ..... -- . . . . . . . ...............-....... (17) (31) 45% Total Throughput .......... _
.................................. 912 954 (4%)
(1) Elimination of volumes both transported and sold. 1998 (Actual) Compared to 1997 (Pro Forma). Interstate Pipelines' operstmg income for 1998 was $128 million compared to $99 million for 1997 on a pro forma basis. De increase in operating income for 1998 is primarily due to
$11 million of pre-tax, non-recurrmg items recorded in 1998 for favorable litigation and rate case settlements. The increase in operating income also reflects improved operating margins an~2 reductions in operating expenses. He increase in operating income for 1998 was partially offset by $7 million of non-recurrmg transportation revenues recorded in the first quarter of 1997, as discussed below.
Operstmg revenues for Interstate Pipelines decreased by $13 million in 1998 compared to pro forma 1997 revenues. De decrease in revenues is due in part to $7 million of non-recumng transportation revenues recognized in the first
. quarter of 1997. These revenues were recognized following a settlement with Reliant Energy Arkla related to transportation service, ne settlement with Reliant Energy Arkla resulted in reduced transportation rates which also reduced revenues for 1998. Lower spot prices in the fourth quarter of 1998 and reduced sales volumes also contributed to the reduction in operating revenues. Rese decreases were partially offset by the settlement of outstanding gas
. purchase contract litigation, which resulted in the recognition of approximately $6 million of revenues ~ in the second quarter of 1998. He 4% decline in total throughput reflected the impact of unseasonably warm winter weather.
Interstate Pipelines' 1998 operating expense declined $42 million in comparison to 1997 pro forma operating expense. Contributing to the decrease were the MRT rate settlement in the first quarter of 1998, which provided for a retroactive reduction of MRT's depreciation rates, the impact of continued cost control initiatives and reduced pension and benefit expenses. f ,t-Natural gas expense decreased $18 million in 1998 compared to pro forma natural gas expense in 1997 primarily due to lower gas sales volumes and lower prices for purchased gas. Operation and maintenance expense decreased $19 million in 1998 in comparison to pro forma operation and maintenance expense for 1997. He decrease was primarily due to the impact of cost control initiatives and decreased maintenance due to milder weather in the first quarter of 1998. Depreciation expense decreased $4 million in 1998, compared to pro forma depreciation expense in 1997 primarily due to a rate settlement recorded in the' first quarter of 1998. He rate settlement, effective January 1998, provided for _ a $5 million reduction of MRT's depreciation rates retroactive to July 1996. I1 i l 1
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l During 1998, Interstate Pipelines' largest unaffiliated customer was a natural gas utility that serves the greater St. Louis metropolitan area. Revenues from this customer are generated pursuant to several long-term firm transportation I and storage contracts that currently are scheduled to expire at various dates between October 1999 and May 2000.
' Interstate Pipeline is currently negotiating with the natural gas utility to renew these agreements. If such contracts are not renewed, the results of operations ofInterstate Pipelines will be adversely affected.
l 1997 Comparedto 1996 (Pro Forma). Pro forma operating income was $99 million in 1997 compared to $108 i million (before a one-time charge of $17 million for early retirement and severance) in 1996. His decrease of approximately $9 million in Interstate Pipelines' pro forma operstmg income between 1997 and 1996 results primarily from three factors: (i) a 6% decrease in transportation revenues, (ii) a 43% decrease in natural gas sales revenue (as described below) and (iii) lower demand for natural gas transportation as a result of lower natural gas consumption (primarily weather-related) in the eastern markets served by the segment. These factors were offset partially by an
- approximately 18% decline in operating expenses primarily due to decreases in gas purchased.
Pro forma operating revenues for Interstate Pipelines decreased by $52 million (15%) for the year ended December ' 31,1997 in comparison to the corresponding period of 1996. He decrease in revenues primarily reflects a decline in natural gas sales revenue resulting from the expiration in 1996 of an unbundled natural gas sales contract between Interstate Pipelines and Reliant Energy Adla. Natural gas sales to Natural Gas Distribution were $60 million in 1996 and none in 1997. The decline in transportation revenues is largely attributable to price differentials between the average spot price for Mid-continent natural gas (Interstate Pipelines' primary supply area) and Gulf Coast natural gas in 1997. { ne $31 million decrease in gas pun:hased costs in 1997 compared to 1996 is largely attributable to the expiration 4 I oflong-term supply contracts entered into prior to unbundling, as diW above. Other operating expenses decreased in 1997 compared to 1996 primarily due to the elimination of non-recurring costs combined with cost reductions related
- to the 1996 carly retirement and severance program and reductions in costs allocated from Resources.
Wholesale Energy Wholesale Energy includes the acquisition, development and operation of, and sales of capacity and energy from, non-utility power generation facilities; the operations of the Company's wholesale energy trading and marketing business; and natural gas gathering activities. Reliant Energy Power Generation, Inc. (Power Generation) was formed in March 1997 to pursue the acquisition of electric generation assets as well as the development of new non-rate regulated power generation facilities. Since March 1997, the Company has invested approximate;y 1348 million in Power Generation acquisitions and development
- projects. Power Generation currently has entered into commitments associated with various generation projects amounting to.$252 million. The Company expects that Power Generation will actively pursue the acquisition of
- additional generation assets and the development of additional new non-rate regulated generation projects. Depending
. on the timing and success of Power Generation's future efforts, the company believes that resulting expenditures could be substantial. During 1997, Power Generations' results were included in the Corporate segment. Segment information for 1997 for Wholesale Energy has been revised to reflect the inclusion of Power Generation, and the exclusion of i Reliant Energy Retail, Inc., which is now reported as part of the Corporate segment. -
c To minimize the Company's risks associated with fluctuations in the price of natural gas and transportation, the , Company, primarily through Reliant Energy Services, Inc. (Reliant Energy Services), a wholly owned subsidiary of Resources, enters into futures transactions, swaps and options in order to hedge against market price changes affecting l
' (i) certain commitments to buy, sell and transport natural gas, (ii) existing natural gas storage and heating oil inventory, (iii) future power sales by and natural gas purchase by generation facilities, (iv) crude oil and refined products and (v) certain anticipated transactions, some of which carry off-balance sheet risk. Reliant Energy Services also enters into l commodity derivatives in its trading and price risk management activities. For a discussion of the Company's accounting treatment of derivative instruments, see Note 2 to the Company's Consolidated Financial Statements and " Quantitative and Qualitative Disclosures About Market Risk." + 12
\1 The Company believes that Reliant Energy Services' energy trading, marketing, and risk management activitie. \
complement Power Generation's strategy of developing and/or acquiring unregulated generation assets in key markets. k Reliant Energy Services supplies fuel to Power Generation's existing generation assets and sells electricity produced \: by these assets. As a result, the Company has made, and expects to continue to make, significant investments in developing Reliant Energy Services' intemal software, trading and personnel resources.
\ '
The following table provides summary data regarding the actual results of operations of Wholesale Energy for 1998 and pro forma results of operations of Wholesale Energy for 1997 and 1996. Actual Pro Forma Year Ended YearEnded -
' December 31, December 31 Percent 1998 1997 Channe Operating Revenues... . ................$ 4,456 $ 3,042 46%
Operating Expenses: Natural Gas .. ..... . 2,367 2,618 (10%) Purchased Power - . . . . . . . . . _ 1,829 313 484 % Operation and Maintenance - 178 117 52 % Depreciation and Amortization . . . . . . 18 7 157 %
~ Other Operating Expenses . . 5 2 150 %
Total Operating Expenses-- 4,397 3,057 44 % Operating Income : . . . . . . . . . . . . . . .. $ 59 $ (15) -
. Operations Data:
Natural Gas (in BCF): Sales ... .... -- . . . . . . . . . . . .. 1,168 958 22 %
' Gathering. . . . 237 242 (2%)
Total .. . . 1,405 1,200 17 % Electricity (in thousand MWH): Wholesale Power Sales . . . . . . . . . 65,228 24.997 161 % Pro Forma Year Ended December 31 Percent 1997 1996 Chanee Operating Revenues... ...... -... . .................... ..$ 3,042 $ 2,146 42 % Operating Expenses: Natural Gas ; .. . . . . . . . . 2,618 1,967 33 % Purchased Power = .. . . . . . . . . 313 63 397 % Operation and Maintenance. .. .. . . . . . 117 87 34 % Depreciation and Amortization., .. . . . . . 7 6 17 % Other Operating Expenses . .. .. . 2 1 100 % Total Operating Expenses... . 3,057 2,124 44 % Operating Income (loss)- .. ... $ (15) $ 22 (168%) Operations Data: Natural Gas (in BCF):
. Sales -- ............... . 958 877 9%
Gathering-. .... . . . 242 231 5%
' Total- . .............. . :.L,a 1,108 8%
Electricity (in thousand MWH): Wholesale Power Sales ; 24,997 2,776 800 % 13
1998 (Actual) Compared to 1997 (Pro Forma).: Wholesale Energy reported operating income of $59 million cotap . red to a pro forma lou of $15 million in 1997. His increase was primarily due to operating results from Power Generation's investment in non-regulated generstmg assets and related trading and marl:eting activities. Capitalization of previously expensed development costs related to successful project starts in Nevada, Califomia and Texas also contributed to the increase, nese improved results were partially offset by increased operating expenses at Reliant Energy Services, as discussed below. In 1997, operating income was negatively affected by hedging losses at Reliant Energy Services associated with sales under peaking contracts and losses from the sale of natural gas held in storage and unhedged in the first quarter of 1997 totaling $17 million. Operating revenues for Wholesale Energy increased $1.4 billion (46%) in comparison to pro forma 1997 operstmg revenues due almost entirely to an increase in wholesale power sales by Power Generation and Reliant Energy Services. De benefit of the increase in natural gas sales volume was primarily offset by lower gas sales prices. Operating expense increased $1.3 billion compared to pro forma operating expense for 1997 primarily due to $1.5 j billion in increased power costs related to energy trading and marketing activities. Natural gas expenses decreased $251 million (10%) compared to pro forma 1997 due to the reduction in the price of natural gas in 1998. Operation and - , maintenance expense increased $61 million (52%) in 1998 primarily due to power plant acquisittas in Califomia and costs associated with staffing increases at Reliant Energy Services to support increased sales and marketing efforts and an increase in a credit reserve due to increased counterparty credit and performance risk associated with higher prices !
= and higher volatility in the electric power market recorded in the second quarter of 1998.
- 1997 Comparedto 1996(Pro forma). He pro forma operating loss for 190' was $15 million compared to operating income of $22 million in 1996. His decrease of approximately $37 million (168%) was primarily attributed to: (i) hedging losses associated with anticipated first quarter 1997 sales under peaking contracts and (ii) losses from the sale of natural gas held in storage and unhedged in the first quarter of 1997 totaling $17 million. In addition, operstmg expenses increased $11 million largely due to increased staffing and marketing activities made in support of
- the increased sales and expanded marketing efforts. Partially offsetting these unfavorable impacts were increased margins from natural gas gathering activities.
Pro forma operating revenues for Wholesale Energy increased by $896 million (42%) for 1997 in comparison to 1996 due to increased natural gas and electricity trading volumes. Increased volumes in 1997 had minimal effect on
. operating income due to low operating margins in both periods.
Natural gas and purchased power expense increased $901 million (44%) in 1997 compared to 1996 primarily due
- to increased gas and electricity marketing activities net of hedging losses and losses from the sale of natural gas, as
- discussed above.
. - Intecational -
International includes the results of operations of Reliant Energy Intemational, Inc. (Reliant Energy International) and the intemational operations of Resources (Resources Intemational). Reliant Energy Internationel is a wholly owned I subsidiary of the Company that participates in the development and acquisition of foreign independent power projects j and the privatization of foreign generation and distribution facilities. Substantially all of Reliant Energy International's j operations to date have been in Central and South America. l International intends to evaluate and consider a wide array of potential business strategies, including possible acquisitions, restructurings, reorganizations and/or dispositions of currently owned properties or investments. De Company believes pursuit of any of the above strategies, or any combination thereof could have a significant impact on the business, operations and financial condition of International or the Company. 14 . g
' For information regarding foreign currency matters, including the impact of the devaluation of the Brazilian res in the first quarter of 1999, see Note 16 to the Company's Consolidated Financial Statements and "- Certain Factors Affecting Future Eamings of the Company and its Subsidiaries - Risks ofInternational Operations" and " Quantitative and Qualitative Disclosures about Market Risk." For additional information about the accounting treatment of certam ofIntemational's foreign investments, see Note 5 to the Company's Consolidated Financial Statements.
Results of operations data for Intemational are presented in the following table on an actual basis for 1998 and on a pro forma basis'as if the acquisition of Resources had occurred as of January 1,1997 and 1996, as applicable. De primary pro fonna adjustment made to this segment in connection with the acquisition is to give effect to the development costs and other expenditures incurred by Resources International prior to the Acquisition Date. De
. adjustment had no effect on operating revenues.
- Actaal Pro Forma Pro Forma Year Eaded Year Ended Percent %er Ended Pereset 1990 1997 ' Change 1997 1996 Chause Operating Revenues.. .. ...-. .. ... ... .. $ 259 $ G2 182 % $ 92 $ 62 48%
Operating Expenses: Fuel ......... . . . . . . . . 20 21 (5%) 21 19 11 % Operation and Maintenance. . . 53 50 6% $0 42 19 % Depreciation and amonization.. . 4 4 4 2 100 % Tots Operating Expenses... 77 75 3% 7.5 63 19 % Operating income (Loss).. ... ..... $ 182 $ 17 $ 17 $ (1)- 1998 (Actual) Compared to 1997 (Pro Forma). International had operating income of $182 million compared to pro fonna operating income of $17 million in 1997. De increase in operating income is primarily due to a $138 million pretax gain on the sale of Reliant Energy Intemational's 63% interest in an Argentine electric distribution company.
' Equity camings from Reliant Energy International's 1998 acquisitions of equity interests in utility systeme in El - Salvador and Colombia also contributed to the increase in operating income.
1997 Compared to 1996 (Pro Forma). Pro forma operating income for 1997 was $17 million compared to an operating loss of $1 million for 1996, 1996 includes an $8 million pre-tax non-recurnng charge related to the write-off of a portion of Reliant Energy Intemational's investment in two tire-to-energy plants. Excluding non-recurring charges, Intemational would have had operating income in 1996 of $7 million. %e remaining increase in 1997 operating income is due to increased equity earnings of $32 million panially offset by higher operation expenses resulting from increased corporate and project development costs. Equity earnings increased primarily due to investments in Brazil and Colombia. Light Servigos de Eletricidade S.A. (Light) reported enhanced results and a full year of operations in 1997 compared to only seven months in 1996. Reliant Energy International's June 1997 investment in a 2835% indirect
- interest in Empresa de Energia del Pacifico S.A.E.S.P (EPSA), a Colombian electric utility also contributed to the increase in equity income.
Corporate Corporate. Corporate includes the operations of certain non-rate regulated retail services businesses, certain real estate holdings of the Company, unallocated corporate costs and inter-unit eliminations. Corporate had an operating loss of $44 million for 1998 compared to a pro forma operating loss of $32 million for 1997. He increased loss was primarily due to expensed development costs, increased expenses associated with information system costs and increased liabilities associated with certain compensation plans. In 1997, Corporate's pro forma operating loss was $32 million compared to a pro forma operating loss of $19 million in 1996. De increase in pro forma operating loss was primarily due to losses from the Company's non-regulated utility service businesses, consumer services t
- non-regulated retail electric services businesses.
15
CERTAIN FACTORS AFFECTING FUTURE EARNINGS OF THE COMPANY AND ITS SUBSIDIARIES Earnings for the past three years are not necessarily indicative of future camings and results. He level of future earnings depends on numerous factors including (i) the future growth in the Company's and its subsidiaries' energy sales; (ii) weather- (iii) the success of the Mnpany's and its subsidiaries
- entry into non-rate regulated businesses such as energy marketing and internationa ? domestic power projects;(iv) the Company's and its subsidiaries' ability to respond to rapid changes in a competitive environment and in the legislative and regulatory framework under which they have traditionally operated; (v) rates of economic growth in the Company's and its subsidiaries' service areas; (vi) the ability of the Company and its subsidiaries to control costs and to maintain pricing structures that are both attractive
- to customers and profitable; (vii) the outcome of future rate proceedings; (viii) the effect that foreign exchange rate changes may have on the Company's investments in intemational operations; and (ix) future legislative initiatives.
In order to adapt to the increasingly competitive environment in which the Company operates, the Company continues to evaluate a wide array of potential business strategies, including business combinations or acquisitions involving other utility or non-utility businesses or properties, intemal restructuring, reorganizations or dispositions of currently owned properties or currently operating business units and new products, services and customer strategies. In addition, the Company continues to engage in new business ventures, such as electric power trading and marketing, which arise from competitive and regulatory changes in the utility industry. Competition and Restructuring of the Electric Utility Industry he electric utility industry is becoming increasingly competitive due to changing government regulations, technological developments and the availability of alternative enngy sources. Long-Term Trendr in Electric Utility Industry. The electric utility industry historically has been composed of vertically integrated companies providing electric service on an exclusive basis within govemmentally-defined geographic areas. Prices for electric service have typically been set by gevernmental authorities under principles
- designed to provide the utility with an opportunity to recover its cost of providing electric service plus a reasonable retum on its invested capital Federal legislation and regulation as well as legislative and regulatory initiatives in various
- states have encouraged competition among electric utility and non-utility owned power generators. These developments, combined with increased demand for lower-priced electricity and technological advances in electric generation, have continued to move the electric utility industry in the direction of more competition.
Besed on a strategic review of the Company's business and of ongoing developments in the electric utility and related industries regarding competition, regulation and consolidation, the Company's management believes that the electric utility industry will continue its path toward competition, albeit on a state-by-state basis. The Company's I management also believes the business of electricity and natural gas are converging and consolidating and these trends I
' will alter the structure and business practices of companies serving these markets in the future.
Competition in Wholesale Market. He Federal Energy Policy Act of 1992, the Public Utility Regulatory Act of j 1995 (now the Texas Utilities Code) and regulations promulgated by the Federal Energy Regulatory Commission (FERC) contain provisions intended to facilitate the development of a wholesale energy market. Although Reliant Energy HL&P's wholesale sales traditionally have accounted for less than 1% ofits total revenues, the expansion of competition in the wholesale electric market is significant in that it has increased the range of non-utility competitors, such as exempt wholesale generators (EWGs) and power marketers, in the Texas electric market as well as resulted in fundamental changes in the operation of the state transmission grid. In February 1996, the Texas Utility Commission adopted rules granting third-party users of transmission systems open access to such systems at rates, terms and conditions comparable to those available to utilities owning such transmission assets. Under the Texas Utility Commission order implementing the rule, Reliant Energy HL&P was , required to separate, on an operational basis, its wholesale power marketing operations from the operations of the I transmission grid and, for purposes of transmission pricing, to disclose each of its separate costs of generation,
- transmission and di:,tribution.
16
l
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i
.Within ERCOT, an independent system operator (ISO) manages the state's electric grid, ensuring system reliabil.
and providing non-discriminatory transmission access to all power producers and traders. He ERCOT ISO, the first
\'
i in the nation, is a key component for implementing the Texas Utility Commission's overall strategy to create a i competitive wholesale market. ERCOT formed an ad hoc committee in early 1998 to investigate the potential impacts I of a competitive retail market on the ISO He ERCOT committee report was released in December 1998 and concluded
,that the ISO's role and function would necessarily expand in a competitive retail environment, but the changes required of the ISO to support retail choice should not impede introduction of retail choice.
Competition in Retail Market. The Company estimates that, since 1978, cogeneration projects representing
- approximately one-third of current total peak generating capability have been built in the Ho "*on area and that, as a result, Reliant Energy HIJ.P has seen a reduction of approximately 2,500 MW in customer load to self-generation.
Reliant Energy HL&P has utilized flexible pricing to respond to situations where large industrial customers have an alternative to buying power from it, primarily by constructing their own generating facilities. Under a tariff option approved by the Texas Utility Commission in 1995, Reliant Energy HL&P was permitted to implement contracts based upon flexible pricing for up to 700 MW. Currently, this rate is fully subscribed. Texas law currently does not permit retail sales by unregulated entities such as cogenerators. He Company anticipates that cogenerators and other interests will continue to exert pressure to obtain acces to the electric transmission and distribution systems of regulated utilities for the purpose of making retail sales to customers of regulated utilities. Legislative Proposals. A number ofproposals to restructure the electric utility industry have been introduced in the 1999 session of the Texas legislature. If adopted, legislation may permit and encourage alternative suppliers to compete to serve Reliant Energy HL&P's current rate-regulated retail customers. He various legislative proposals include provisions goveming recovery of stranded costs and permitting securitization of those costs; freezing rates until 2002; requiring firm sales of energy to competing retail electric providers; requiring disaggregation of generation, transmission and distribution, and retail sales into separate companies; and limiting the ability of existing utilities' affiliates competing for retail electric customers on the basis of price until they have lost a substantial pen:entage of their resuential and small commercial load to alternative retail providers. In addition to the Texas legislative proposals, a number of federal legislative proposals to promote retail electric competition or restructure the U.S. electric utility industry have been introduced during the cunent congress 1nal session. At this time, the Company is unable to make any prediction as to whether any legislation to restructure electric operations or provide retail competition will be enacted or as to the contert or impact on the Company of any legislation which may be enacted. However, because the proposed legislation is intended to fundamentally restructure electric utility operations, it is likely that enacted legislation would have a material impact on the Company. Stranded Costs. As the U.S. electric utility industry continues its transition to a more competitive environment, a substantial amount of fixed .:osts previously approved for recovery under traditional utility regulatory practices ; (includinpquiatory assets and liabilities) may become " stranded," i.e., unrecoverable at competitive market prices. l The issue of strended costs could be particularly significant with respect to fixul costs incurred in connection with the past construction of generation piants, such as nuclear power plants, which, because of their high fixed costs, would not command the same price for their output as they have in a regulated environment. In January 1997, the Texas Utility Commission delivered a report to the Texas legislature on stra d.ed investments in the electric utility industry in Texas (referred to by the Texas Utility Commission as " Excess Cost Over Market") (ECOM). In April 1998, the Texas Utility Commission subtaitted to the Texas Senate Interim Committee on Electric Utility Restructuring an updated study of ECOM estimates. Assuming that retail competition is adopted at the beginning of 2002, the updated study estimated that the total amount of stranded costs for all Texas electric utilities could be $4.5 billion. Ifinstead, retail competition is adopted one year later, the study estirr.ates statewide ECOM to be $3.3 billion.
' Estimates of ECOM vary widely and there is inherent uncertainty in calculating these costs.
17
Transition Plan. In June 1998, the Texas Utility Commission approved the Transition Plan filed by Reliant Energy HL&P in December 1997. The Transition Plan included base rate credits to residential and certain commercial l customers in 1998 and 1999, an overall rate of return cap formula for 1998 and 1999 and approval of accotmting procedures designed to accelerate recovery of stranded costs which may arise under restructuring legislation. The Transition Plan permits the redirection of depreciation expense to generation assets that Electric Onerations otherwise , would apply to transmission, distribution and general plant assets. In addition, the Transition Plan provides that all l camings above a 9.844% overall ammal rate of return on invested capital be used to recover Electric Ope:ations' investment in generation assets. In 1998, Reliant Energy IIL&P recorded an additional $194 million in depreciation under the Transition Plan. Certain' parties have appealed the order approving the Transition Plan. For additional information, see Notes 1(f) and 3(b) to the Company's Consolidated Financial Statements. Competition -Other Operations Natural Gas Distribution competes primarily with altemate energy sources such as electricity and other fuel sources as well as with providers of energy conservation products. In addition, as a result of federal regulatory changes afTecting - interstate pipelines, it has become possible for other natural gas suppliers and distributors to bypass Natural Gas Distribution's facilities and market, sell and/or transport natural gas directly to small commercial and/or large volume customers. The Interstate Pipeline segment competes with other interstate and intrastate pipelines in the transportation a'd storage of natural gas. 'lhe principal elements of competition among pipelines are rates, terms of service, and flexibility and reliability of service. Interstate Pipeline cornpetes indirectly with other forms of energy available to its customers, including electricity, coal and fuel oils. The primary competitive factor is price. Changes in the availability of energy and pipeline capacity, the level of business activity, conservation and govemmental ragulations, the capability to convert to altemative fuels, and other factors, including weather, afrect the demand for natural gas in areas served by Interstate Pipeline and the level of competition for transport and storage services. Reliant Energy Services competes for sales in its gas and power trading and marketing business with other natural gas and power merchants, producers and pipelines based on its ability to aggregate supplies at competitive prices from different sources and locations and to efficiently utilize transportation from third-party pipelines and transmission from electric utilities. Reliant Energy Services also competes against other energy marketers on the basis of its relative financial position and access to credit sources. This competitive factor reflects the tendency of energy customers, natural gas suppliers and natural gas transporters to seek financial guarantees and other assurances that their energy contracts will be satisfied. As pricing information becomes increasingly available in the energy trading and marketing business and as deregulation in the e.lectricity markets continues to accelerate, the Company anticipates that Reliant Energy Services will experience greater competition and downward pressure on per-unit profit margins in the energy marketing industry. Competition for acquisition of intemational and domestic non-rate regulated power projects is intense. Intemational and Power Generation compete against a munber of other participants in the non-utility power generation industry, some of which have greater tinancial resources and have been engaged in non-utility power projects for periods longer than the Company and have accumulated greater portfolios of projects. Competitive factors relevant to the non-utility power industry include financial resources, access to non-recourse funding and regulatory factors. Fluctuations in Commodity Prices and Derivative Instruments q For information regarding the Company's exposure to risk as a result of fluctuations in commodity prices and derivative instruments, see" Quantitative and Qualitative Disclosures About Market Risk." l l I Accounting Tredtment of ACES l The Company accounts for its investment in Time Warner Convertible Prefened Stock (TW Preferred) under the cost method. As a result of the Company's issuance of the ACES, a portion of the increase in the market value above
$27.7922 per share of Time Warner common stock (the security into which the TW Preferred is convertible) (TW j 18
\
Common) results in unrealized accounting losses to the Company, pending the conversion of the Company's TW Preferred into TW Ccmmon. For consis'ency purposes, the TW Corsmon and related per share prices retroactively reflect a 2 for I stock split effective December 15,1998. Prior to the conversion of the TW Preferred into TW Common, when the market price of TW Common increases above $27.7922, the Company records in Other income (Expense) an unrealized, non-cash accounting loss for the ACES equal to the aggregate amount of such increase as applicable to all ACES multiplied by 0.8264. In accordance with generally accepted accounting principles, this accounting loss (which reflects the unrealized increase in the Company's indebtedness with respect to the ACES) may not be offset by accounting recognition of the increase in the market value of the TW Common that underlies the TW Prefer *ed. Upon conversion of the TW Preferred (which is anticipated to occur in June 1999 wl-n the preferential dividend on the TW Preferred expires), the Company will begin recording future unrealized net c! nges in the market prices of the TW Common and the ACES as a component of cwimon stock equity and other compr. ,sive income. As of December 31,199J, the market price of TW Common was $62.062 per share. Accordingly, the Company recognized an increase of $1.2 billion in 1998 in the unrealized liability relating to its ACES indebtedness (which resulted in an after tax eamings reduction of $764 million or $2.69 basic earnings per share in 1998). The Company believes that the cumulative unrealized loss for the ACES of approximately $1.3 biilion is more than economically offset by the approximately $1.8 bulion unrecorded unrealized gain at December 31,1998 relating to the increase in the fair value of the TW Common underlying the investment in TW Preferred since the date ofits acquisition. Any gain related to the increase in fair value of TW Comme would be recognized as a component of net income upon the sale of the TW Preferred or the shares of TW Common into which such TW Preferred is converted. As of March 11,1999, the j price of TW Common was $70.75 per share, which would have resulted in the Company recognizing an additional increase of $329 million in the unrealized liability represented by its indebtedness under the ACES. The related unrecorded unrealized gain as of March 11,1999 would have been computed as an additional $398 million. Excluding the unrealized, non-cash accounting loss for ACES, the Company's retained eamings and total common stock equity would have been $2.3 billion and $5.2 billion, respectively. Impact of the Year 2000 Issue and.Other System Implementation Issues Year 2000 Problem. At midnight on December 31,1999, unless the proper modifications hve been made, the program logic in many of the world's computer systems will start to produce erroneous results because, among other things, the systems will incorrectly read the date "01/01/00" as being January 1 of tbs year 1900 or another incorrect date. In addition, certain systems may fail to detect that the year 2000 is a leap year. Problems can also arise earlier than January 1,2000, as dates in the next millennium are entered into non-Year 2000 compliant programs.
- Compliance Program. In 1997, the Company initiated a corporate-wide Year 2000 project to address mainframe application systems, information technology (IT) related equipment, system software, client-developed applications, building controls and non-IT embedded systems such as process controls for energy production and delivery.
Incorporated into this project were Resources' and other Company subsidiaries' mainframe r.pplications, infrastructures, embedded systems and client-developed applications that will not be migrated into existing or planned Company or Resources systems prior to the year 2000. He evaluation of Yea 2000 issues included those related to significant customers, key vepdors, service suppliers and other parties material to the Company's and its subsidiaries operations. In the course of this evaluation, the Company has sought nitten assurances from such third parties as to their state of Year 2000 readiness. State ofReadiness. Work has been prioritized in accordance with business risk. He highest priority has been assigned to activities that would disrupt the physical delivery of energy (Priority 1); activities that would impact back office activities such as billing (Priority 2); activities that would cause inconvenience or productivity loss in normal business operations (e.g., air conditioning systems and elevators) (Priority 3). All business units have completed an analysis of critical systems and equipment that control the production and delivery of energy, as well as corporate, departmental and personnel systems and equipment. The remediation and replacement wcrk on the majority of IT systems, non-IT systems and infrastruciure began in the first quarter of 1998 and is expected to be completed by the 19
second quarter of 1999. Testing of these systems began in the second quarter of 1998 and is scheduled to be completed in third quarter of 1999. The following table illustrates the Company's completion percentages for the Year 2000 activities as of February 28,1999: Priority 1 Priority 2 Priority 3 Assessment .. .....- .. 95 % 86 % 96 % Conversion-- . 86 % 70 % 91 % Testing.. . . 80 % 61% 87 % Implementation = 76 % 54 % 75 % Costs to Address Year 2000 Compliance Issues. Based on current intemal studies, as well as recently solicited bids from various computer software vendors, the Company estimates that the total direct cost of resolving the Year 2000 issue with respect to the Company and its subsidiaries will be between $35 and $40 million. This estimate includes approximately $7 million related to salaries and expenses of existing employees and approximately $3 million in hardware purchases that the Company c.pects to capitalize. In addition, the $35 to $40 million estimate includes l approximately $2 million spent prior to 1998 and approximately $12 million during 1998. The remaining costs related I to resolving the Year 2000 issue are expected to be expended in 1999. The Company expects to fund these expenditures through intemal sources. In September 1997, the Company entered into an agreement with SAP America, Inc. (SAP) to license SAP proprietary R/3 enterprise software. The licensed software includes customer care, finance and ascounting, human resources, materials management and service delivery components. The Company's purchase of this software license and related computer hardware is part ofits response to changes in the electric utility and energy services industries, as well as changes in 'he Company's businesses and operations resulting from the acquisition of Resources and the Company's expansion into the energy trading and marketing business. Although it is anticipated that the implementation of the SAP system will have the incidental effect of negating the need to modify many of the Company's computer systems to accommodate the Year 2000 problem, the Company does not deem the costs of the SAP system as directly related to its Year 2000 compliance program. Portions of the SAP system were implemented in Dc: ember 1998 and March 1999, and it is expected that the final portion of the SAP system will oc fully implemented by July 2000. He estimated costs ofimplementing the SAP system is approximately $182 million, inclusive ofinternal costs. In 1998, the Company and its subsidiaries spent $108 million of such costs. In 1999, the Company and its subsidiaries expect to spend $59 million with the remaining amounts to be spent in 2000. The estimated Year 2000 project costs do not give effect to eay future arporate equisitions or divestitures made by the Company or its subsidiaries. Risks and Contingency Plans. The major systems which pose the greatest Year 2000 risks for the Company and its subsidiaries if implementation of the Year 2000 compliance program is not successful are the process control systems for energy delivery systems; the time in use, d6 mand and recorder rdacring system for commercia! and industrial customers; the outage analysis system; and the power billina, systems. The potential problems related to these systems are temporary electric service interruptions to customers, te nporary interruptions in revenue data gathering and temporary poor customer relations resulting frcm delayed billing. Although the Company does not believe that this scenario will occur, the Company has considerable experience responding to emergency situations, including computer failure. Existing emergency operations, disaster recovery and businers continuation plans are being enhanced to ensure preparedness and to mitigate the long-term effect of such a scenario. The North American Electric Reliability Council (NERC) is coordinating electric utility industry contingency planning on a nstional level. ArMitional cortingency planning is being done at the regional electric reliability council 1cvel. Reliant Energy HL&P filed a draf. Year 2000 Con;ingency Plan with NERC and with the Texas Utility Commisdon in December 1998. The draft plan addresses restoration of electric service and related business processes, and is designed to work in conjunction with the Emergen;y Operating Plan and with the plans of NERC and ERCOT. A final cowngency plan is scheduled to be complete by June 30,1999. In addition, Reliant Energy HL&P will p?icipate in industry preparedness drills, such as the two NERC drills scheduled to be held on April 9,1999 and September 9,1999. 20
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The existing business continuity disaster recovery and emergency operations plans are being reviewed enhanced, and where necessary, additional plans will be developed to include mitigation strategies and action pla. \ specifically addressing potential Year 2000 scenarios. He expected completion date for these plans is June 30,1999. j in order to assist in preparing for and mitigating the foregoing scenarios, the Company intends to complete all i mission critical Year 2000 remediation and testing activity by the end of the second quarter of 1999. In addition, the Company has initiated Year 2000 communications with significant customers, key vendors, service suppliers and other parties material to the Company's operations and is diligently monitoring the progress of such third parties' Year 2000 projects. The Company expects to meet with mission-critical third parties, inchJing suppliers, in order to ascertain and assess the relative risks of Year-2000-related issues, and to mitigate such risks. Notwithstanding the foregoing, the Company cautions that (i) the nature of testing is such that it cannot comprehensively address all future combinations of dates and events and (ii) it is impossible for the Company to assess with precision or certainty the compliance of third parties with Year 2000 remediation efforts. Due to the speculative and uncertain nature of contingency planning, there can be no assurance that such plans actually will be sufficient to reduce the risk of material ir , acts on the Company's and its subsidiaries' operations. Risks ofInternational Operations The Company's intemational operations are subject to various risks incidental to investing or operating in emerging market countries. Rese risks include political isks, such as govemmental instability, and econom:c risks, such as fluctuations in currency exchange rates, restrictions on the repatriation of foreign eamings and/or restrictions on the l conversion of local currency camings into U.S. dollars, ne Company's international operations are also highly capital l intensive and, thus, dependent to a significant extent on the continued availability of bank financing and other sources j of capital on commercially acceptable terms. { Impact ofCurrency Fluctuations on Company Earnings. The Company, through Reliant Energy International's subsidiaries, owns 11.69% of the stock of Light and, through its investment in Light, an 8.753% interest in the stock of Metropolitana Electricidade de Sao Paulo S.A. (Metropolitana). He Company accounts for its investment in Light under the equity method of accounting and records its proportionate share, based on stock ownership, in the net income of Light and its affiliates (including Metropolitana) as part of the Company's consolidated net income. At December 31,1998, Light and Metropolitana had total borrowings of approximately $3.2 billion denominated in non-local currencies. Because of the devaluation of the brazilian real subsequent to December 31,1998, Light and ! Metropolitana are expected to record a charge to March 31,1999 eamings that reflects the increase in the liability represented by their non-local currency denominated bank borrowings relative to the Brazilian real. Because the Company uses the Brazilian real as the functional currency in which it reports Light's equity earnings, the resulting , decrease in Light's earnings will also be reflected in the Company's consolidated earnings to the extent of the Company's 11.69% ownership interest in Light. At December 31,1998, one U. S. dollar could be exchanged for 1.21 Brazilian reais. Using the exchange rate of 2.06 Brazilian reais in effect at the end of February, and the average exchange rate in effect since the end of the year, the Company estimates that its share of the after-tax charge to be recorded by Light would be approximately $125 million. His estimate does not reflect the possibility of additional fluctuations in the exchange rate and does not include other non-debt-related impacts of Brazil's currency devaluation on Light's and Metropolitana's future camings. None of Light's or Metropolitana's tariff adjustment mechanisms are directly indexed to the U.S. dollar or other non-local currencies. Each company currently is evaluating various options including regulatory rate relief to mitigate the impact of the devaluation of the Brazilian real. For example, the long-term concession contracts under which Light and Metropolitana operate contain mechanisms for adjusting electricity tariffs to reflect changes in operating costs resulting from inflation. If the devaluation of the Brazman real results in an increase in the local rate of inflation and if an adjustment to tariff rates is made promptly to reflect such increase, the Company believes that the financial results of' ight and Metropolitana should be protected, at least in part, from the effects of devaluation. However, there can be no assurance the implementation of such tariff adjustments will be timely or that the economic impact of the devaluation will be completely reflected in increased inflation rates. 21
i i Certain of Reliant Energy Intemational's other foreign electric distribution companies have incurred U.S. dollar
- and other non-local currency indebtedness (approximately $71 million at December 31,1998). For further analysis of foreign currency fluctuatiora in the Companf s earnings and cash flows, see " Quantitative and Qualitative Disclosures
. About Market Risk - Foreign Currency Exchange Rate Risk."
impact ofForeign Currency Devaluation on Project Capital Resources. In the fust quarter oi1999, approximately
' $117 million of Metropolitana*s U.S. dollar d-niW debt will mature, in the second quarter of 1999, approximately
$980 million of Light's and approximately $696 million ofMetropolitana's U S. and non-local currency denominated bank debt wi!! mature, in March 1999, Light refmanced approximately $130 million of its U.S. dollar denominated debt through a local currency denominationalloan. The ability of Light and Metropolitana to repay or refinance their debt obligations at maturity is dependent on many factors, including local and international economic conditions prevailing at the time such debt matures.
1 If economic conditions in the intemational markets continue to be unsettled or deteriorate, it is possible that Light, Metropolitana and the other foreign electric distribution companies in which the Company holds investments might encounter difficulties in termancing their debt (both local currency and non-local currency borrowings) on terms and conditions that are commercially acceptable to them and their shareholders. In such circumstances, in lieu ofdeclaring a default or extending the maturity, it is possible that lenders might seek to require, among other th'.ngs, higher rom h s areholders o t eh f f borrowing rates, and additional equity contributions and/or increased levels of credit support such entities. He availability or terms of refinancing such debt cannot be assured Currency fluctuation and instability affecting Latin America may also adversely affect Reliant Energy I Intemational's ability to refinance its equity investments with debt. In 1998, Reliant Enerb ntemational invested $411 l in Colombia and El Salvador. As of January 1999, $100 million of these investments were refinanced with debt.
~ Reliant Energy Intemational intends to refmance approximately $75 million more of such initial investments with debt.
Environmental Enpenditures The Company and its subsidiaries, including Resources, are subject to numerous environmental laws and regulations, which require them to incur substantial costs to operate existing facilities, construct and operate new facilities, and mitigate or remove the effect of past operations on the environment. , Clean Air Act Expenditures. He Company expects the majority of capital expenditures associated with environmental matters to be incurred by Electric Operations in connection with new emission limitations under the Federal Clean Air Act (Clean Air Act) for oxides of nitrogen (NOx). The standards applicable to Electric Operations' generating units in the Houston, Texas area will become effective in November 1999. NOx reduction c
- by Electric Operations totaled approximately $7 million in 1998. The Company estimates that Electric O incur approximately $8 million in 1999 and $10 million in 2000 for such expenditures. He Texas Natural Reso 4
Conseivation Commission (TNRCC) has indicated that additional NOx reduction will be required after 2000; however, i since the magnitude and timing of these reductions have not yet been established, it is impossible for the Company t estimate a reasonable range of such expenditures at this time. In 1998, Wholesale Energy spent approximately $100,000 in order to comply with NOx reduction with respect to Southern California generating facilities acquired by Power Generation from Southem Califomia Edison (SCE) In 1999, based on existing requirements, the Company projects that it will spend an additional $100,000 on N reduction standards with respect to such plants and approximately $1 million on continuous emission monitoring system upgrades for such plants. Site Remediation Expenditrres. From time to time the Company and its subsidiaries have received notices f regulatory authorities or others regarding their status as potentially responsible parties in connection w j j to require remediation due to the presence of environmental contaminants. 22 t
-- v-
\
The Company's identified sites with respect to which it may be claimed to ha /e a remediation liability incluo, several sites for which there is a lack of current available information, including the nature and magnitude of I' contamination, and the extent, if any, to which the Company may be held responsible for contributing to any costs incurred for reediating these sites. Thus, no reasonable estimate of cleanup costs can now be made for these sites. Based on currently available information, the Company believes that such costs uhimately will not materially affect its financial position, results of operations or cash flows. Dere can be no assurance, however, that future developments, including additional information about existing sites or the identification of new sites, will not require materialievisions to such estimates. For information about specific sites that are the subject of remediation claims, see Note 12(h) to the Company's Consolidated Financial Statennnts and Note 8(g) to Resources' Consolidated Financial Statements, each of which is incorporated herein by reference. Merciay Contamination. Like other natural gas pipelines, Resources' pipeline operations have in the past en p'oyed elemental mercury in meters used on its pipelines. Although the mercury has now been removed fro.a the meters, it is possible that small amounts of mercury have been spille:I at some of those sites in the course of normal maintenance and replacement operations and that such spills have contaminated the immediate area around the meters with elemental mercury. Such contamination has been found by Resources at some sites in the past, and Resources has conducted remediation at sito fout .'. to be contaminated. Although Resources is not aware of additional specific sites,it is possible that other contarainated sites exist and that remediation costs will be incurred for such sites. Although the total amount of such costs cannot be known at this time, based on experience of Resources and others in the natural gas industry to date and on the current regulations regarding remediation of such sites, the Company and Re*ources believe that the cost of any remediation of such sites will not be material to the Company's or Resources' financial position, results of operations or cash flows. Other, in addition, the Company has been named as a defendant in litigation related to such sites sad in recent years has been named, along with numerous others, as a defendant in several lawsuits filed by a large number ofindividuals who claim injury due to exposure to asbestos while workmg at sites along the Texas Gulf Coast. Most of these claimants have been workers who participated in construction of various industrial facilities, including power plants, and some of the claimants have worked at locations owned by the Company. De Company anticipates that additional clahns like those received may be asserted in the future and intends to continue its practice of vigorously contesting claims which it does not consider to have merit. Although their ultimate outcome cannot be predicted at this time, the Company does
' not believe, based on its experience to date, that these matters, either individually or in the aggregate, will have a material adverse effect on the Company's financial position, results of operations or cash flows.
Other Coatlagemeles For a description oNertain other legal and regulatory proceedings affecting the Company and its subsidiaries, see Notes 3,4,5 and 12 to the Company's Consolidated Financial Statements, and Note 8 to Resources
- Consolidated
. Financial Statements, which notes are incorporated herein by reference. +-
l 23 ,- i
4 LIQUIDITY AND CAPITAL RESOURCES Comepany Consolidated Capital Repairements ne liquidity aci capital requirements of the Company and its subsidiaries are affected primarily by capital programs and debt service mquirements. The capital requirements for 1998 were, and as estin red for 1999 through 2003 are, as follows(in millions): 1998 1999 2000 2001 2002 2003 Electric capital and truclear fuel (excluding allowance for funds used
'during construction)(AFUDC).~.... . . . $ 429 $ 490 $ 432 $ 379 $ 370 $ 370 Naturel Gas Distribution (3)... ... .. ..... 162 185 173 172 168 169 Interstate Pipeline (3).... . .. .. ........ . .. . 59 30 28 17 17 17 Wholesale Energy (excluding capitalized interew)(2)z . . . . . . . . . . . . . . . . . . . 264 154 156 25 12 10 International (excluding capitalized interest)(2) e.. .. ... . . . . . 427 3 2 3 Corporate .. .. ................................ 30 64 42 53 55 54 Maturities oflong-term debt, preferred
- stock and minimum capitallease payments (3) .. . . .. ......... .; . 240 402 2,758 . 438 _ 1,895 199 Total (l)...... ... .. . ... . .. ... $ 1,711 $ 1,328 3 3,591 $ 1,087 $ 2,517 $ 819 (1) Expenditures in the table do not reflect expenditures associated with the Year 2000 issue. For a discussion of these expenditures, see "-Certain Factors Affecting Future Eamings of the Company and its Subsidiaries -Impact of the Year 2000 Issue and Other System implementation Issues."
(2) Expenditures in the table reflect only expenditures made or to be made under existing contractual commitments entered into by International and Wholesale Energy. He Company expects that Reliant Energy International and
- Power Generation will continue to. participate as bidders in future acquisitions of independent power projects, privatizations of generation and distribution facilities and sales of generating assets. International and Wholesale Energy capital requirements are expected to be met through advances from the Company, the proceeds of project financings and the proceeds of bonowings at the Company's finance subsidiaries. Additional capital expenditures
, are dependent upon the nature and extent of future project commitments (some of which may be substantial).
(3) All of the capital requirements for Natural Gas Distribution and Interstate Pipelines represent requirements at Resources. Wholesale Energy requirements allocable to Resources for the respective periods shown are $21 million,
$45 million, $23 million, $16 million, $12 million and $10 million. De components of" Maturities oflong-term
- debt, preferred stock and minimum capital lease payments" allocable to Resources for the respective periods shown are $227 million, $207 million, $228 million, $151 million, $7 million and $7 million.
f For the year ended December 31,1998, the Company's net cash provided by operating activities increased $315 million over the same period in 1997. The increase in net cash from operating activities is due primarily to (i) incremental cash flow provided by the business segments purchased in the Resources acquisition, (ii) increased sales at Electric Operations due to unusually hot weather during the second and third quarters of 1998 and (iii) the receipt of a refund of federal income taxes and related interest income. Net cash used in investing activities decreased $752 million for the year ended December 31,1998, compared to
- the smne period in 1997, due to the Resources acquisition. Investing activities for the year ended December 31,1998 included (i) tht: acquisition and construction of non-rate regulated power generation projects, (ii) the acquisition of investments in foreign electiic distribution systems and (iii) the sale of an investment in an Argentine electric distribution company.
24
Net cash used in financing activities for the year ended December 31,1998 reflected a $218 million outflow compared to an inflow of $914 million in the same petid to 1997. The cash inflow in 1997 included $1 billion in proceeds from the issuance of the ACES and the proceds from the issuance of $1.4 billion in comrnercial paper borrowings used to finance a porten of the cost of the Resources acquisition. De proceeds from the ACES were used to retire $1 billion of commercial paper borrowings. In June 1998, the Company repaid at maturity $5 million of floating-rate pollution control revenue bonds issued on its behalf. In February 1999, the Company repaid at maturity $170.5 million of medium-term notes collateralized i by first mortgage bonds. . ne L ampany has approximately $400 million of consol'idated debt maturing in 1999. During 1998, Resources repaid at maturity $76 million of medium-term notes and a $150 million term loan. In March 1998, Resources satisfied the $6.5 million sinking fund requirement for its 6% convertible subordinated debentures due 2012 using debentures purchnsed in 1996 and 1947. During 1998, Resources purchased and retired $6.7 million aggregate principal amount ofits 6% convertible subordinated debentures due 2012 at an average purchase price of 973% of the aggregate principal amount plus accrued interest. During 1999, Resources purchased and retired $5.8 million aggregate principal amount ofits 6% convertible subordinated debentures duc 2012 at an average purchase price of 98.4% of the aggregate principal amount plus accrued interest. He debentures purchased in 1998 and 1999 are expected to be used to satisfy the March 1999, March 2000 and March 2001 sinking fund requirements. Resources has l
$200 million of debt maturing in July 1999.
During 1998, a subsidiary of Reliant Energy International retired $13.1 million of its debt under a loan facility established in connection with the financing of the acquisition costs of Light. Approximately $22.3 million of debt under this loan facility is scheduled to be retired in 1999. Company Consolidated Sources of Capital Resources and Liquidity At December 31,1998, FinanceCo, a limited pedip subsidiary of the Company, had a $ 1.6 billion revolving credit facility (FinanceCo Facility) terminating in 2002. At December 31,1998, the FinanceCo Facility supported $1.4 billion in commercial paper borrowings having a weighted average interest rate of 5.88%. For additional information regarding the FinanceCo Facility, see Note 8(c) to the Company's Consolidated Financial Statements. At December 31,1998, the Company, exclusive of Resources and other subsidiaries, had a revolving credit facility of $200 million which could be used to support the Company's issuance of up to $200 million of commercial paper. At December 31,1998, the Company had no loans outstanding under the facility and no commercial paper borrowings.
,. In March 1998, Resources replaced its $400 million revolving credit facility with a five-year $350 million revolving credit facility (Resources Credit Facility), which could be used to support Resources' issuance of up to $350 million j . of commercial paper. At Deccmber 31,1998, Resources had no loans outstanding under the unsecured facility and no commercial paper borrowings. %e Company expects to amend the Resources Credit Facility in March 1999 to include a $65 million sub-facility under which letters of credit may be obtamed. Prior to the amendment, Resources previously ;
obtained letters of credit under a $65 million committed facility which was terminated in December 1998. Subiequent 4 to the December 1998 termination and prior to the amendment to the Credit Facility, Resources obtained letters of credit under an uncommitted line. At December 31,1998, Resources had a trade receivables facility of $300 million under which receivables of $300 million had been sold. For additional information regarding Resources' Credit Facilities, see Note 8(g) to the
' Company's Consolidated Financial Statements.
25
I In March 1998, a limited partnership special purpose subsidiary of the Company (FinanceCo 11) executed a $150 million credit agreement with a bank (FinanceCo 11 Facility). Proceeds from $150 million of borrowings under the FinanceCo II Facility were used to fund a portion of Wholesale Energy's April 1998 purchase of four electric generation plants. Borrowings under the FinanceCo II Facility were repaid at maturity in March 1999 with commercial paper issued at FinanceCo. For additional infonnation regarding the FinanceCo II Facility, see Note 8(c) to the Company's Consolidated Financial Statements. In January 1998,5.25% ($29.7 million) and 5.15% ($75 million) pollution control revenue refunding bonds were l issued on behalf of the Company by the Matagorda County Navigation District Number One (MCND). Proceeds from I the issuance were used in February 1998 to redeem, at 102% of the $104.7 million aggregate principal amount, pollution ! control revenue bonds. l l I In February 1998, Resources issued $300 million of 6 % % debentures due February 1,2008. The proceeds from the sale of the debentures were used to repay shon-tenn indebtedness of Resources, including the shon-term ! indebtedness incurred in connection with the purchase in 1997 of $101.4 million of its 10% debentures and the l repayment of $53 million of Resources debt that matured in December 1997 and January 1998. In February 1998,51/8% pollution control revenue refunding bonds aggregating $290 million were issued on j behalf of the Company by the Brazos River Authority (BRA). Proceeds from the issuance were used in May 1998 to l redeem, at 102% of the $290 million aggregate principal amount, pollution control revenue bonds. In September 1998,4.90% pollution control revenue refunding bonds aggregating $68.7 million were issued on behalf of the Company by the BRA. Proceeds from the issuance were used in October 1998 to redeem, at 102% of the S68.7 million aggregate principal amount, pollution control revenue bonds. In November 1998, the Company effected a change in the method of interest rate determination on the MCND Series 1997 pollution control revenue refunding bonds due November 2028 ($68 million aggregate principal amount outstanding) and the BRA Series 1997 pollution control revenue refunding bonds due November 2018 ($50 million aggregate principal amount outstanding). The method by which interest on the bonds is determined changed from a floating rate mode 'o a long-term fixed rate mode. The interest rate on the MCND Series 1997 bonds and the BRA Series 1997 bonds until their maturity is 5'l/8% and 5.05%, respectively. In November 1998, Resources sold $500 million ofits 6 3/8% Term Enhanced ReMarketable Securities (TERM l Notes). The net proceeds from the offering were used for general corporate purposes, including the repayment of(i) l
~ $ 178.5 million of Resources' outstanding commercial paper and (ii) a $150 million term loan of Resources that matured on November 13,1998. For additional information regarding the TERM Notes offering, see Note 8(h) to the Company's Consolidated Financial Statements and Note 4(b) to Resources' Consolidated Financial Statements, j In December 1997, Sempra Energy Resources and Power Generation fonned El Dorado Energy, a joint venture fonned to build, own and operate a 492 MW natural gas power plant in Boulder City, Nevada. Power Generation invested $25 million and $2 million in El Dorado in 1998 and 1997, respectively. Total cost for the project is estimated to be $263 million. In October 1998, El Dorado Energy obtained a 15 year, $158 million non-recourse loan to f'mance the project. The loan represents approximately 60% of the estimated total project cost.
In February 1999, a Delaware statutory business trust (REI Trust 1) established by the Company issued $375 million of preferred securities. The preferred securities have a distribution rate of 7.20% payable quanerly in arrears, a stated liquidation amount of $25 per preferred security and must be redeemed by March 2048. REI Trust I sold the preferred securities to the public and used the proceeds to purchase $375 million aggregate principal amount of subordinated debentures (REl Debentures) from the Company having an interest rate corresponding to the distribution rate of the preferred securities and a maturity date corresponding to the mandatory redemption date of the preferred securities. Proceeds from the sale of the REI Debentures were used by the Company for general corporate purposes including the repayment of shon-term debt. For further discussion, see Note 16(b) to the Company's Consolidated Financial Statements. 26
i At December 31,1998, the Company had shelf registration statements providing for the issuance of $230 million aggregate liquidation value ofits preferred stock and $580 million aggregate principal amount ofits debt securities. In the first quarter of 1999, the Company registered $500 million of trust preferred securities and junior subordinated ' debt securities, of which $125 million remains available for issuance. He issuance of all securities registered by the : Company and its affiliates is subject to market and other conditions. 1 ne Company owns 11 million shares of non-publicly traded TW Preferred. The TW Preferred, which is entitled to cumulative annual dividends of $3,75 per share until July 6,1999, and is currently convertible at the option of the Company into 45.8 million shares of Time Wamer common stock. De Company's ability to transfer, sell or pledge the : shares of TW Preferred is not restricted pursuant to the terms of the ACES. The Company reviews its investment in Time Warner on a regular basis and does not expect to maintain its investment in Time Warner indefinitely. For - additional information regarding the Company's investment irt Time Warner securities, see Notes 1(n) and (e) to the ' Company's Consolidated Financial Statements.
- For information regarding the potential impact of foreign currency devaluation on the Company's future liquidity -
needs, see "-Certain Factors Affecting Future Earnings of the Company's and its Subsidiaries - Risks ofinternational Operations." De Company and its subsidiaries participate from time to time in competitive bids for generating and distribution assets through its Wholesale Energy and Intemational segments. Although the Company believes that its current level l of cash and borrowing capability along with future cash flows from operations are sufficient to meet the existing i' operational needs ofits businesses, the Company may, when it deems necessary, or when it acquires and operates new businesses and assets, supplement its available cash resources by seeking funds in the equity or debt markets. , NEW ACCOUNTING ISSUES In 1998, the Company and Resources adopted SFAS No.130," Reporting Comprehensive Income"(SFAS No.
- 130), SFAS No.131, " Disclosures about Segments of an Enterprise and Related Information" (SFAS No.131) and SFAS No.132," Employers Disclosures about Pensions and Other Postretirement Benefits"(SFAS No.132). For further discussion of these accounting statements, see Note 15 to the Company's Consolidated Financial Statements and Note
- 9 to Resources' Consolidated Findncial Statements.
In 2000, the Company and Resources expect to adopt SFAS No.133," Accounting for Derivative Instruments and Hedging Activities" (SFAS No.133), which establishes accounting and reporting standards for derivadve instruments, including certain derivative instruments embedded in other contracts (collectively referre,d to as derivatives) and for i hedging activities. He Company is in the process of determining the effect of adoption of SFAS No.133 on its ; consolidated financial statements. ! In December 1998, The Emerging Issues Task Force of the Financial Accounting Standards Board reached . consensus on Issue 98-10 " Accounting for Contracts involved in Energy Trading and Risk Management Activities" ;
>~ , (EITF Issue 98-10). EITF Issue 98-10 requires energy trading contracts to be recorded at fair value on the balance sheet, with the changes in fair value included in camings. EITF Issue 98-10 is effective for fiscal years beginning after i December 15,1998. The Company expects to adopt EITF Issue 98-10 in the first quarter of 1999. He Company does :
not expect the implementation of EITF Issue 98-10 to be material to its consolidated financial statements. 27
l OUANTITATIVE AND OUALITATIVE DISCLOSURES AllOUT MARKET RISK j Interest Rate Risk l I The Company and its subsidiarie; have long-term debt, Company / Resources obligated mandatorily redeemable preferred securities of subsidiary trusts holding solelyjunior subordinated debentures of the Company / Resources (Trust , Securities), securities held in the Company's nuclear decommissioning trust, bank facilities, certain lease obligations and interest rate swaps which subject the Company, Resources and certain of their subsidiaries to the risk ofloss associated with movements in market interest rates. j At December 31,1998, the Company and certain ofits subsidiaries had issued fixed-rate long-term debt (excluding ACES) and Trust Securities aggregating $5.0 billion in principal amount and having a fair value of $5.2 billion. These instruments are fixed-rate and, therefore, do not expose the Company and its subsidiaries to the risk of eamings loss due
.to changes in market interest rates (see Notes 8 and 9 to the Company's Consolidated Financial Statements). However, the fair value of these instruments would increase by approximately $260.6 million ifimerest rates were to decline by 10% from their levels at December 31,1998. In general, such an increase in fair value would impact earnings and cash flows only if the Company and its subsidiaries were to reacquire all or a portion of these instruments in the open market prior to their maturity.
The Company and certain ofits subsidiaries' floating-rate obligations aggregated $1.8 billion at December 31,1998 (see Note 8 to the Company's Consolidated Financial Statements), inclusive of(i) amounts borrowed under short-term and long-term credit facilities of the Company and its subsidiaries (including the issuance of commercial paper supported by such facilities), (ii) borrowings underlying Resources' receivables facility and (iii) amounts subject to a master leasing agreement of Resources under which lease payments vary depending on short-term interest rates. These floating-rate obligations expose the Company, Resources and their subsidiaries to the risk ofincreased interest and lease expense in the event of increases in short-term interest rates. If the floating rates were to increase by 10% from December 31,1998 levels, the Company's consolidated interest expense and expense under operating leases would 4 increase by a total of approximately $0.9 million each month in which such increase continued. j i As discussed in Notes 1(o),4(c) and 13 to the Company's Consolidated Financial Statements, the Company contributes $14.8 million per year to a trust established to fund the Company's share of the decommissioning costs for I the South Texas Project. The securities held by the trust for decommissioning costs had an estimated fair value of $119.1 million as of December 31,1998, of which approximately 44% were fixed-rate debt securities that subject the Company to risk ofloss of fair value with movements in market interest rates. Ifinterest rates were to increase by 10% from their levels at December 31,1998, the decrease in fair value of the fixed-rate debt securities would not be material to the Company, in addition, the risk of an economic loss is mitigated at this time as a result of the Company's regulated status. Any unrealized gains or losses are accounted for in accordance with SFAS No. 71 as a regulatory asset / liability because , the Company believes that its future contributions which are cunently recovered through the rate-making process will ' be adjusted for these gains and losses. Certain subsidiaries of the Company have entered into interest rate swaps for the purpose of decreasing the amount of debt subject to interest rate fluctuations. At December 31,1998, these interest rate swaps had an aggregate notional amount of $75.4 million, which the Company could terminate at a cost of $3.2 million (see Notes 2 and 13 to the Company's Consolidated Financial Statements). An increase of 10% in the December 31,1998 level of interest rates would not ine case the cost of terminadon of the swaps by a material amount to the Company. Swap termination costs would impw the Company's and its subsidiaries' earnings and cash flows only if all or a portion of the swap instruments were terminated prior to their expiration. As discussed in Note 8(h) to the Company's Consolidated Financial Statements, Resources sold $500 million aggregate principal amount ofits 6 3/8% TERM Notes which included an embedded option to remarket the securities. The option is expected to be exercised in the event that the ten-year Treasury rate in 2003 is below 5.66%. At December 31,1998, the Company could terminate the option at a cost of $30.7 million. A decrease of 10% in the December 31,1998 level ofinterest rates would not increase the cost of termination of the option by a material amount to the Company. 28
i
. The change in exposure to loss in camings and cash flows related to interest rate risk from December 31,1997 to December 31,1998 is not material to the Company.
Equity Market Risk I ne Company holds an investment in TW Preferred which is convertible into Time Warner common stock (TW Common) as described in " Management's Discussion and Analysis of Financial Condition and Results of Operations of the Company - Cenain Factors Affecting Future Eamings of the Company and its Subsidiaries - Accounting T'. eatment of ACES." As a result, the Company is exposed to losses in the fair value of this security. For purposes of j analyzing market risk in this Appendix A, the Company assumed that the TW Preferred was converted into TW l
- Common. In addition, Resources' investment in the common stock of Itron, Inc. (Itron) exposes the Company and Resources to losses in the fair value ofItron common stock.' A 10% decline in the market value per share of TW Common and Itron common stock from the December 31,1998 levels would result in a loss in fair value of , approximately $284.4 million and $1.1 million, respectively.
De Company's and its subsidiaries' ability to realize gains and losses related to the TW Preferred and the Itron common stock is limited by the following: (i) the TW Preferred is not publicly traded and its sale is subject to certain limitations and (ii) the market for the common stock ofItron is fairly illiquid.
. The ACES expose the Company to accounting losses as the Company is required to record in Other Income (Expense) an unrealized accounting loss equal to (i) the aggregate amount of the incre.se in the market price of TW Common above $27.7922 as applicable to all ACES multiplied by (ii) 0.8264. Prior to the conversion of the TW Preferred into TW Common, such loss would affect camings. After conversion, such loss would be recognized as an adjustment to common stock equity through a reduction of other comprehensive income. However, there would be an 1 offsetting increase in co-on stock equity through an increase in accumulated other comprehensive income on the !
Company's Statements M owolidated Retained Eamings and Comprehensive income for the fair value increase in the investment in TW Common. For additional information on the accounting treatment and related accounting losses recorded in 1998 of the ACES, see Note 1(n) to the Company's Consolidated Financial Statements. An increase of 15% in the price of the TW Common above its December 31,1998 market value of $62.062 per share would result in the recognition of an additiv .11 uarealized accounting loss (net of tax) of approximately $229.1 million. The Company believes that this additional unreal'.ed loss for the ACES would be more than economically hedged by the unrecorded unrealized gain relating to the incia.e in the fair value of the TW Common underlying the investment in TW Preferred
- since the date ofits acquisition.
For a discussion of the non-cash, unrealized accounting loss recorded in 1998 and 1997 related to the ACES, see
- Cenam Factors Affecting Future Eamings of the Company and its Subsidiaries - Accounting Treatment of ACES."
As discussed above under "- Interest Rate Risk," the Company contributes to a trust established to fund the Company's shar- of the decommissioning costs for the South Texas Project which held debt and equity securities as of December 31, W8. The equity securities expose the Company to losses in fair value. If the market prices of the individual equity securities were to decrease by 10% from their levels at December 31,1998, the resulting loss in fair
. value of these securities would not be material to the Company. Currently, the risk of an economic loss is mitigated as a result of the Company's regulated status as discussed above under "-Interest Rate Risk." , ,
Foreign Currency Exchange Rate Risk As further described in "Certain Factors Affecting Future Earnings of the Company and Its Subsidiaries - Risks
~ofInternational Operations," the Company, through Reliant Energy Intemational invests in certain foreign operations which to date have been primarily in South America. As of December 31,1998, the Company's Consolidated Balance Sheets reflected $1.1 billion of foreign investments, a substantial portion of which represent investments accounted for under the equity method. These foreign investments expose the Company to risk ofloss in eamings and cash flows due to the fluctuation in foreign currencies relative to the Company's consolidated reporting currency, the U.S. dollar. He 29 I
Company accounts for adjustments resulting from translation ofits investments with functional currencies other than the U.S. dollar as a charge or credit directly to a separate component of stockholders' equity. For further discussion of j the accounting for foreign currency adjustments, see Note 1(p)in the Notes to the Company's Consolidated Financial Statements. The cumulative translation loss of $34 million, recorded as of December 31,1998, will be realized as a loss in earnings and cash flows only upon the disposition of the related investment. The foreign currency loss in earnings and cash flows related to debt obligations held by foreign operations in currencies other than their own functional currencies was not material to the Company as of December 31,1997. In addition, certain of Reliant Energy Intemational's foreign operations have entered into obligations in currencies other than their own functional currencies which expose the Company to a loss in camings. In such cases, as the respec'ive investment's functional currency devalues relative to the non-local currencies, the Company will record its proponionate share ofits investments' foreign currency transaction losses related to the non-local currency denominated debt. At December 31,1998, Light and Metropolitana had borrowings of approximately $3.2 billion denominated in non-local currencies. Because of the devaluation of the Brazilian real subsequent to December 31,1998, Light and Metropolitana are expected to record a charge to earnings for the quarter ended March 31,1999, primarily related to foreign currency transaction losses on their non-local currency denominated debt. For further discussion and analysis of the possible effect on the Company's Consolidated Financial Statements, see "Certain Factors Affecting Future Earnings of the Company and Its Subsidiaries - Risks ofInternational Operations." The company attempts to manage and mitigate this foreign risk by properly balancing the higher cort of financing with local denominated debt against the risk of devaluation of that local currency and including a measure of the risk of devaluation in all its financial plans. In addition, where possible, Reliant Energy International attempts to structure its tariffs and revenue contracts to ensure some measure of adjustment due to changes in inflation and currency exchange rates; however, there can be no assurance that such efforts will compensate for the full effect of currency devaluation, if any. Energy Commodity Price Risk As further described in Note 2 to the Company's Consolidated Financial Statements, certain of the Company's subsi liaries utilize a variety of derivative financial instruments (Derivatives), including swaps and exchange-traded futures and options, as part of the Companys overall hedging strategies and for trading purposes. To reduce the risk from the adverse effect of market fluctuations in the price of electric power, natural gas, crude oil and refined products and related transportation, Resources and certain subsidiaries of the Company and Resources enter into futures I transactions, forward contracts, swaps and options (Energy Derivatives) in order to hedge certain commodities in storage, as well as certain expected purchases, sales and transportation of energy commodities (a portion of which are ; firm commitments at the inception of the hedge). De Company's policies paibit the use of leveraged financial instruments. In addition, Reliant Energy Services, a subsidiary of Resources, maintains a portfolio of Energy Derivatives to provide price risk management services and for trading purposes (Trading Derivatives). 3 he Company uses value-at-risk and a sensitivity analysis method for assessing the market risk ofits derivatives. With respect to the Energy Derivatives (other than Trading Derivativos) held by subsidiaries of the Company and Resources as of December 31,1998, a decrease of 10% in the market prices of natural gas and electric power from year-end levels would decrease the fair value of these instruments by approximately $3 million. As of December 31,1997, a decrease of 10% in the prices cf natural gas would have resulted in a loss of $7 million in fair values of the Energy Derivatives (other than for trading purposes). 30 L
i
\8 The above analysis of the Energy Derivatives utilized for hedging purposes does not include the favorable impact L that the same hypothetical price movement would have on the Company's and its subsidiaries' physical purchases and \'
sales of natural gas and electric power to which the hedges relate. The portfolio of Energy Derivatives held for hedging purposes is no greater than the notional quantity of the expected or committed transaction volume of physical commodities with equal and opposite commodity price risk for the same time periods. Furthermore, the Energy Derivative portfolio is managed to complement the physical transaction portfolio, reducing overall risks within limits. Derefore, the adverse impact to the fair value of the portfolio of Energy Derivatives held for hedging purposes associated with the hypothetical changes in commodity prices referenced above would be offset by a favorable impact on the underlying hedged physical transactions, assuming (i) the Energy Derivatives are not closed out in advance of their expected term, (ii) the Energy Derivatives continue to function effectively as hedges of the underlying risk and (iii) as applicable, anticipated transactions occur as expected. The disclosure with respect to the Energy Derivatives relies on the assumption that the contracts will exist parallel to the underlying physical transactions. If the underlying transactions or positions are liquidated prior to the maturity of the Energy Derivatives, a loss on the financial instruments may occur, or the options might be worthless as determined by the prevailing market value on their termination or maturity date, whichever comes first. With respect to the Trading Derivatives held by Reliant Energy Services, consisting of natural gas, electric power, crude oil and refined products, physical fonvards, swaps, options and exchange-traded futures, this subsidiary is exposed to losses in fair value due to changes in the price and volatility of the underlying derivatives. During the year ended f December 31,1998 and 1997, the highest, lowest and average monthly value-at-risk in the Trading Derivative portfolio j was less than $5 million at s 95% confidence level and for a holding period of one business day, he Company uses ( the variance /covariance method for calculating the value-at-risk and includes the delta approximation for options l positions. De Company has established a Cosporate Risk Oversight Committee comprised of corporate and business segment officers that oversees all corporate price and credit risk activities, including derivative trading activities discussed above. He committee's duties are to establish the Company's policies and to monitor and ensure compliance with risk management policies and procedures and the trading limits established by the Company's board of directors. 1 e 31 1 1 l
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA OF THE COMPANY HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED INCOME
. (Thousands of Dollars except per share amounts)
Year Ended Deceinber 31, 199s 1997 1996
' Revenues:
Electric Operations...... .. . .. . .. . ... ....... ..... . . . .. $4,3 50,275 ' $4,251,243 $4,025,027 Natural Gas Distribution . . .. . ... ..... .... .. .. .................... 1,812,676 892,569 Interstate Pipelines........ ...... . . . . . . . . . . . . . . . . . 282,4 % 108,333
. Wholesale Energy .. . ... . ... .. .
. . ....... .. .. .. ...... . .. . . .. .. . 4,456,158 1,364,658 International.. ...................... ...... ........ 258,945 92,028 62,059 Other .... ...... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 748,922 339,731 8,191
~
Eliminations.. ... . - - - . ............. (421,008) (170,337)
- Total .. .... .. . .. ... ...... . . .. .. ....... ... .. . .. . . I 1,488,464 6,878,225 4,095,277
. Expenses:
Fuel and cost of gas sold .... . . .. . .... . .. ._... .. .... . -4,784,704 2,852,375 1,043,618 Purchased power- - . . . . . . . . . . . . - . . . . . . . . . . . . . . . . .. 2,215,049 -698,823 322,263
- Operation and maintenance.... .. .. ... ... ......... ......... 1,660,5 31 1,216,126 942,604 Taxes other than income taxes.. .... .. -- ..... .... 494,175 394,526 246,288 Depreciation and amortization.. ...... .. . .............. 856,617 651,875 550,038 Total . .. .. . . . . . . . . . . . . . . . . . . . . . ........ .... ...... 10,01 1,076 - 5,813,725 3,104,811 Operating Income- . . . . . . . - - . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,477,388 1,064,500 990,466 Other Income (Expense):
Unrealized loss on ACES. ... . . . . .. .... .. .. (1,176,21 l) (121,402) Litigation settlements ; . . . . . . . . . . . . ...................... (95,000) Time Wamer dividend income- . . . . . . . . . . 41,250 41,340 41,610 Interest income -IRS refund-- . . . . . . . . . . . . . . . . . 981 56,269 Other - net .... . .... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23,870 10,347 (2,022)
- Total . . . . . . . . . . . . . . . . . . (1,i10,110) (13,446) (55,412)
' Interest and Other Charges:
Interest on long. term debt . ... .. . ... . ... ............ 416,138 320,845. 276,242
. Other interest i . . . . . ... . . . . . . . . . 97,767 77,112 33,738 Distribution on trust securities . . . . . . . . . . . . . . . . . . . . . . . 29,201 26,230
, .u Allowance for borrowed funds used during constmetion x (4,304) - (2,872) (2,598)
"% : Preferred dividends of subsidiary... .. ... .. . . . . . . . . . . . . . . . . . . .
2,255 22,563 Total .. ..... .... ................................. 538,802 423,570 329,945 Income (Loss) Before Income Taxes and Preferred Dividends. .. . (171,524) 627,484 605,109 Income Tax Expense (Benefit).... . . .... ... . ..... .. ......... . (30,432) 206,374 200,165 Net Income (Loss). . . . . . . . . . . . . . . . . . . .. . . . . . (141,092) 421,110 404,944 Preferred Dividends . . . . . . . . . . . . . . . . . . . . . . . . 390 162 Net Income (Loss) available for Common Stock - $ (141,482) $ 420,948 $ 404,944 - f 1 Basic and Diluted Earnings (Loss) Per Share.... -.. .. . . . . .$ (0.50) $ 1.66 $ 1.66 See Notes to the Company's Consolidated Financial Statements I
-32 I
i I HOUSTON INDUSTRIES INCORPORATED
'd/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED RETAINED EARNINGS 1 AND COMPREHENSIVE INCOME l (Thousands of Dollars, except per share amounts)
Year Ended Decennber31, 1998 1997 1996 Retained Earnings: Balance at beginning of year.. . .. $ 2,013,055 $ 1,997,490 $ 1,953,672 Net income (loss)available for common stock... ..... ... . .... .. ... (141,482) $ (141,482) 420,948 $ 420,948 404,944 $ 404,944 Total . .. . . . . . 1,871,573 2,418,438 2,358,616 Common stock dividends:
$1.50 per share (1996-1998) . .. (426,492) (405,383) (361,126)
Balance at end of year. - $ 1,445,081 S 2,013,055 $ 1,997,490 Accumulated Other Comprehensive Income (Loss), net of tax: Balance at beginning of year... . . $ (6,455) $ (363) Foreign currency translation adjustments - . (32,790) (32,790) (458) (458) S (363) (363) Unrealizedloss on available for sale securities (net of tax)- . (10,370) (10,370) (5,6}4) (5,634) Balance at end of year.. $ (49,615) $ (6,455) $ (363) Comprehensive Income (Loss). .. $ (184,642) $ 414,856 's ' 404,581 See Notes to the Company's Consolidated Financial Statements i i I e - Y 33
T HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS ) (Thousands of Dollars) . ASSETS December 31, 1998 1997 Current Assets: Cash and cash equivalents....... : . $ 29,673 $ 51,712 Accounts receivable-net - 726,377 962,974 Accrued unbilled revenues.- . . 175,515 205,860 Time Wamer dividends receivable , - 10,313 10,313 Fuel stock and petroleum products : 21I,750 88,819 Materials and supplies, at average cost : 171,998 156,160
' Price risk management assets . . . . . . 265,203 Prepayments and other current assets .. . 78,342 93,903 Total current assets.; .. .. 1,669,171 1,569,74i Property, Plant and Equipment- At Cost:
Electric. .. . . . 13,969,302 13,249,855 Natural gas... . . 1,686,159 1,500,273 Interstate pipelines . --
. . . . . . . . . . 1,302,829 1,258,087 Other property = . 72,299 42,321 Total . ... .. - _ - 17,030,589 16,050,541 Less accumulated depreciation and amortization 5,499,448 4,770,179 Property, plant and equipment - net -- 11,531,141, 11,280,362 Other Assets:
Goodwill-net .. - 2,098,890 2,026,395 Equity investments and advances to unconsolidated subsidiaries.. . ... 1,051,600 704,102 Investment in Time Wamer securities - . 990,000 990,000 Deferred plant costs -net.... . . . . . . . . . . . .. 535,787 561,569 Defened debits..._ . .. .. 514,930 478,686 Unamortized debt expense and premium on reacquired debt 208,350 202,453 Regulatory tax asset- net- 418,339 356,509 Fuel-related debits.. . ......... . . 65,278 197,304
, Recoverable project costs - net.. ....... . . 55,036 78,485 Total other assets: . . . = . 5,938,210 5,595,503 Total = . $19,138,522 $18,445,606 See Notes to the Company's Consolidated Financial Statements J
34
l HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES L CONSOLIDATED BALANCE SHEETS (Thousands 07 Dollars) i I CAPITALIZATION AND LIABILITIES j 1 December 31, 1998 1997 Current Liabilities: Notes payable... ... . . $ 1,812,739 $ 2,124,956 Accounts payable.. . .......... 807,977 879,612 Taxes accrued.. .... . ..... . 252,581 240,739 Interest accrued.. ... 115,201 109,901 Dividends declared..... . . . . , . . . . . . . . . ... . . . . I11,058 110,716 Customer deposits.. . . .. .. . . = . 77,937 82,437 Price risk management liabilities . . . ..... 227,652
. Current portion oflong-term debt . .. 397,454 251,169 Other . .. . . . . . . . . .
268,343 224,435 Total current liabilities . . . . . .. 4,070,942 4,023,965 Deferred Credits: Accumulated deferred income taxes.. . . . . . . . 2,364,036 2,792,781 Benefit obligations - . . . . . . . . . . . 378,747 397,586 Unamortized investment tax credit : . . . . . . . . . . . 328,949 349,072 Fuel-related credits.-- ............ 88,639 75,956 Other .... . . . . . . . .... 442,361 329,514 Total deferred credits - . . . . . 3,602,732 3,944,909
- Capitalization (statements on following pages):
Long-term debt... .. . . . . . . . . . . . . 6,800,748 5,218,015 Company / Resources obligated mandatorily redeemable preferred securities of subsidiary trusts holding solelyjunior subordinated debentures of 342,232 362,172 f Company / Resources . :. Preference stock, none outstanding. . ...... Cumulative preferred stock, not subject to mandatory redemption 9,740 9,740 Common stock equity . ... . 4,312,128 _4g6,805
. Total capitalization... . . I1,464,848 J,476,732 i
Commitments and Contingencies (Note 12) l l Total:. . . . . . .
..~.... . $19,138,522 $18,445,606 See Notes to the Company's Consolidated Financial Statements 35
HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CAPITALIZATION (Thousands of Dollars) December 31. 1998 1997 Long-Term Debt: 7% Automatic common exchange securities, due 2000 S 2,349,997 S 1,173,786 Debentures: 9-3/8% series, due 2001 250,000 250,000 7-7/8% series, due 2002 100,000 100,000 8.9% series, due 2006 ; . 163,357 165,055 6% convertible subordinated, due 2012 104,617 107,180 10% series, due 2019 ., 47,562 47,773 6-1/2% series, due 2008 . 300,000 6-3/8% series, due 2003 . 500,000 Unamortized premium - 17,046 I Unamonized discount - . (532) (717) Total debentures - .. 1,482,050 669,291 First Mortgage Bonds: 9.15% series, duc 2021... 102,442 102,442 8-3/4% series, due 2022 . . . . . . 62,275 62,275 7-3/4% series, due 2023 . . . . _ 250,000 250,000 7-1/2% series, due 2023 .; . 200,000 200,000 4.90% pollution control series, due 2003 -. 16,600 16,600 7% pollution control series, due 2008 . . . . . . . . . . 19,200 19,200
- 6-3/8% pollution control series, due 2012 . 33,470 33,470 6-3/8% pollution control series, due 2012 12,100 12,100 8-1/4% pollution control series, due 2013 . 90,000 5.80% pollution control series, due 2015 . .~... . . . 91,945 91,945 7-3/4% pollution control series, due 2015 .. 68,700 5.80% pollution control series, due 2015 . 58,905 58,905 6.70% pollution control series, due 2017- . 43,820 43,820 5.60% pollution control series, due 2017 . . . . 83,565 83,565 7.20% pollution control series, due 2018 . 75,000 75,000 7.20% pollution control series, due 2018- . . . . . . . . . . . . 100,000 100,000
, 7-7/8% pollution control series, due 2019 - .- ...... 29,685 7.70% pollution control series, due 2019.. .... .... . 75,000 8-1/4% pollution control series, due 2019 100,000 8.10% pollution control series, due 2019 . 100,000 7-5/8% pollut!on control series, due 2019 . 100,000 100,000 !
7-1/8% pollution control series, due 2019 100,000 100,000 ! 7.60% pollution control series, due 2019.- 70,315 70,315 j 6.70% pollution control series, due 2027- , 56,095 56,095 j 6.10% medium-term notes, series C, duc 2000 .. . 150,000 150,000 ; 8.15% medium-term notes, series B, due 2002 . . . . . . . 100,000 100,000 6.50% medium-term notes, series C, due 2003 150,000 150,000 9.85% medium-term notes, due 1999 . 25,400 25,400 9.80% medium-tenn notes, due 1999 145,100 145,100 Unamortized discount......... . ...., . . . . . (9,948) ' __ (14,158) Total first mortgage bonds . 2,036.284 _ 2,495,459 (continuedon natpage) 36
i f( b
, HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CAPITALIZATION -(Continued)
(Thousands of Dollars) December 31, 1998 1997 Pollution ControlRevenue Bonds: Gulf Coast 1980-T series, floating rate, due 1998 . - . . . . . . . . . $ 5,000 j c 4.90% BRA 1998D, due 2015 ..... .... .- ... ... . . . . . . . $ 68,700 j 5.05% BRA 1997,due 2018.. ... . . . . . . . . . . . . . . . . - .. 50,000 50,000 ' 5.125% BRA 1998.A,due 2019 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 100,000 5.125% BRA 1998C, due 2019 - ..... . . . . . . . . . . . . . . . - . . . . . 100,000 5.125% BRA 1998B, due 2020 ; . .. ... .. --
. -90,000 5.125% MCND 1997,due 2028.. .. . . . . - - . 68,000 68,000 5.25% MCND 1998A, due 2029... . . . . . . 29,685 5.15% MCND 1998B,due 2029 - ...~.... . . . . . . . . . 75,000 Total pollution control revenue bonds. . . . . .. 581,385 123,000 Medium-Term Notes:
Series A,9.30%-9.39%, due 1999 2000. - - - . . . 23,063 24,838 Series B,8.43%-9.23%, due 1999-2001 . 154,626 236,367 Total medium-term notes . . . . . ..... 177,689 261,205 Capitalized lease obligations, discount rates of 5.2%-11.7%, due 1999-2018 . . . . . 14,883 16,166 Notes payable ....... . . . . . . . 555,914 730,277 S ubtotal .. . . .. . ... . .. .. . .. . . ... .. ... ..... . ... .. ... ....... 570,797 746,443 Total. . . . . . . 7,198,202 5,469,184 Current maturities . . . . . . . . . . (397,454) (251,169) Totallong-tenn debt . . . . . . . . . . . . . . . . . . . . . 6,800,748 5,218,015 Company / Resources obligated mandatorily redeemable preferred securities of - subsidiary trusts holding solelyJunior subordinated debentures of Company / Resources
- 8.125% Trust Preferred Securities, Series A . . .......... 250,000 250,000 8.257% Trust Capital Securities, Series B . : . 100,000 100,000 6-1/4% Convertible Trust Originated Preferred Securities-- . . . . . . . . - . . . . . . . 1,178 21,730 Unamoitized issuance Costs ... .... -
......... . . . . . . (8,946) ' (9,558)
. Total Company / Resources obligated mandatorily redeemable preferred securities of subsidiary trusts holding solelyjunior subordinated debentures ofCompany/ Resources-net..... ... .. .. - , 342.232 362,172 Cumulative Preferred Stock, no par; authorized,10,000,000 shares; outstanding 97,397 shares each at December 31,1998 and 1997,(entitled upon invaluntary liquidation to $100 per share):
Not subject to mandatory redemption:
$4.00 series,97,397 shares . ... . . . . . . ._ 9,740 9,740
. Preference Stock,'no par; authorized,10,000,000 shares; none out.,tanding . .
1 (continued on nextpage) a
'37 i
HOUSTON INDUSTRIES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES j CONSOLIDATED STATEMENTS OF CAPITALIZATION -(Continued) (Thoi. sands of Dollars) December 31, 1998 1997 Common Stock Equity: Common stock, no par; authorized,700,000,000 shares; issued,296,271,063 and 295,357,276 shares at December 31,1998 and 1997, respectively -- $ 3,136,826 S 3,112,098 Treasury stock, at cost; 102,805 and 93,459 shares at December 31,1998 and 1997, respectively - --.: . (2,3 84) (2,066) Unearned ESOP shares,11,674,063 and 12,388,551 shares at December 31, 1998 and 1997, respectively= . (217,780) (229,827) Retained earnings = .. 1,445,081 2,013,055 Accumulated other comprehensive loss - (49,615) (6,455) Total common stock equity.. . . . . . . 4,312,128 4,886,805 Total capitalization = $11,464,848 $10.476,732 See Notes to the Company's Consolidated Financial Statements
- k 9
s 38 i I l
o ( HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED CASH FLOWS Increase (Decrease)in Cash and Cash Equivalents (Thousands of Dollars) Year Ended December 31, 1998 1997 1996 Cash Flows from Operating Activities: Net inccme (loss) available for common stock.. .... .$ (141,482) $ 420,948 $ 404,944 Adjustments to reconcile net income (loss) to net cash
. provided by operating activities: l Depreciation and amortization . . ... . 856,617 651,875 550,038 Amortization ofnuclear fuel: 25,529 28,237 -33,875 Deferred income taxes.. . . . . . (423,904) 35,523 54,098 Investment tax credit.. . . . . . . . . . . . . (20,123) (19,777) (18,404)
Unrealized loss on ACES . 1,176,211 121,402 Contribution of marketable equity securities to charitable trust .. .. . .... . 19,463 Undistributed earnings of equity investments in
~
unconsolidated subsidiaries - (27,350) (3,142) (15,290) Fuel cost over (under) recovery:- . . . . . (22,545) (212,683) (137,362) Changes in other assets and liabilities: Aecounts receivable - net....... 266,938 (436,580) (15,478) Fuel surcharge . . . . . . . 94,912 128,864 Inventory . . (121,793) 55,111 21,624 Other current assets .. ... .. . . . . ... (15,705) 6,966 (306) i Accounts payable.. . . . . , (92,652) 191,840 21,674 Interest and taxes accrued. - . 7,044 18,425 4,413 Other current liabilities - ... . 33,078 2,985 (4,135) Net price risk management assets.. .. .. (29,857) ; Other - net.. . . . . . . . . . . . . . . . . . . . . . . . . (139,559) 101,302 14,629 ; Net cash provided by operating activities = 1,425,359 1,110,759 914,320 , , a Cash Flows from Investing Activities: Capital expenditures (including allowance for borrowed funds
')
, j used during construction).. ...... .. (743,455) (328,724) (317,532) ]
Purchase of Resources, net of cash acquired.: (1,422,672) ! Non-rate regulated electric power project expenditures (including capitalized interest).... ... . l
.. .. (292,398) i Sale of equity investments in foreign electric system projects... 242,744 j
. Equity investment and advances to unconsolidated i subsidiaries (445,042) (234,852) (495,379)
Sale of Time Wamer securities _ . . . . . . . . . . . . . . 25,043 Other-net .. . 8,375 (20,248) (19,989) i Net cash used in investing activities . .... .. . . . . . . .. $ (1,229,776) $ (1,981,453) $ (832,900) I (continued on nextpage) 39 a
. HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED CASil FLOWS -(Continued)
Increase (Decrease)in Cash and Cash Equivalents (Thousands of Dollars) Year Ended Decemtier 31, 1998 1997 1996 Cash F:ows from Financing Activities: Proceeds from sale of ACES - net-- .. . . . $ 1,020,777 Proceeds from sale of Company obligated mandatorily redeemable trust preferred securities of subsidiary trusts holding solely subordinated debentures of Company - net.. 340,785 Purchase of treasury stock = $ (361,196) Payment of matured bonds. -- =$ (226,000) (277,000) (150,000) Proceeds from issuance of debentures ; 812,849 Proceeds from issuance of pollution control revenue bonds.. . . 454,258 115,739 Redemption of preferred stock.. (153,628) (271,400) Payment of common stock dividends - (426,265) (405,288) (361,126) Increase /(decrease) in notes payable - net .. .. . (348,044) 587,791 1,331,572 Extinguishment oflong-term debt ; (471,287) (303,893) (285,263) Conversion ofconvertible securities - (10,450) (9,504) Other- net ; (2,683) (1,374) 12,215
. Net cash provided by (used in) financing activities.. .. (217,622) 914,405 (85,198)
Net Increase (Decrease) in Cash and Cash Equivalents .. . (22,039) 43,711 (3,778) Cash and Cash Equivalents at Beginning of Period .. .. 51,712 8,001 11,779 Cash and Cash Equivalents at End of Per.iod - .. $ 29,673 $ 51,712 $ 8,001 Supplemental Disclosure of Cash Flow Information: Cash Payments: Interett (net of amounts capitalized);- --$ 511,165 $ 437,952 $ 311,792 Income taxes . . ... :_ . 484,376 171,539 139,898 The aggregate consideration paid in August 1997 to former stockholders of Resources in connection with the
- Merger consisted of $1.4 billion in cash and 47.8 million shares of the Company's common stock valued at approximately $1.0 billion. The overall transaction was valued at $4.0 billion consisting of $2.4 billion for Former Resources' common stock and common stock equivalents and $1.6 billion of Former Resources' debt.
See Notes to the Company's Consolidated Financial Statements 40
m 4 HOUSTON INDUSTRIES INCORPORATED - d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES
- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS I For the Three Years Ended December 31,1998 (I) Summary of Significant Accounting Policies (a) Nature ofOperations.
l Houston Industries incorporated d/b/w Reliant Energy, incorporated (Company), together with its subsidiaries, is a diversified international energy services company. The Company is both an electric utility company and a utility holding company. He Company's wholly owned subsidiary, Reliant Energy Resources Corp. (Resources), operates in various phases of the natural gas industry, including distribution, transmission, marketing and gathering. Effective January 1,1998, the Company reconfigured its financial reporting segments to include the following:- Electric Operations, Natural Gas Distribution, Interstate Pipeline, Wholesale Energy Marketing and Generation (Wholesale Energy), Intemational and Corporate. Electric Operations includes operations of Reliant Energy HL&P. Natural Gas Distribution consists of natural gas sales to, and natural gas transportation for, residential, commercial
- and industrial customers. Interstate Pipeline includes the interstate natural gas pipeline operations of Resources.
Wholesale Energy is engaged in the acquisition, development and operation of non-rate regulated power generation facilities as well as the wholesale energy marketing and natural gas gathering businesses. International participates in the development and acquisition of foreign independent power projects and the privatization of foreign generation and distribution facilities. Corporate includes the Company's unregulated retail electric services business, certain real estate holdings of the Company and corporate costs. In February 1999, the Company began doing business as Reliant Energy, Incorporated. On May 5,1999, the Company's shareholders will vote on a proposal to amend the Restated Articles ofIncorporation to change its name to " Reliant Energy, Incorporated."
'(b) Resources Acquisition. .
On Augu'st 6,1997 (Acquisition Date), the former parent corporation (Former Parent) of the Company, merged with and into the Company and NorAm Energy Corp., a natural 3,as gathering, transmission, marketing and distribution company (Former NorAm), merged with and into Resources. Effective upon the mergers (collectively, the Merger), each outstanding share of common stock of Former Parent was converted into one share of common stock _ (including associated preference stock purchase rights) of the Company, and each outstanding share of common stock of Former NorAm was converted into the right to receive $16.3051 cash or 0.74963 shares of common stock of the Company, ne aggregate consideration paid to Former NorAm stockholders in connection
, with the Merger consisted of $1.4 billion in cash and 47.8 million shares of the Company's common stock valued at approximately $1.0 billion. The overall transaction was valued at $4.0 billion consisting of $2.4 billion for Former ;
NorAm's common stock and common stock equivalents and $1.6 billion of Former NorAm debt ($1.3 billion of { which was long-term debt). ) i ne Company recorded the acquisition under the purchase method of accotmting with assets and liabilities of , Former NorAm reflected at their estimated fair values as of the Acquisit:on Date, he excess of the purchase price l over the fair value of net assets acquired was initially estimated at $2 billion. In 1998, the fair value estimates of the assets acquired and liabilities assumed were finalized resulting in a $78 million increase in goodwill. The Company has recorded the excess of the acquisition cost over the fair value of the net assets acquired as goodwill and is
- amortizing this amount over 40 years.' The Company's fair value adjustments included increases in property, plant and equipment, long-term debt, unrecognized pension and postretirement benefits liabilities and related deferred ;
- taxes. -
41
HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) ne Company's results of operations incorporate Resources' results of operations only for the period begmnmg on the Acquisition Date. The following table presents certain actual financial information for the year ended December 31,1998 and unaudited pro forma information for the years ended December 31,1997 and 1996, as if the Merger had occurred on January 1,1997 and 1996, respectively.
. Actual and Pro Forma Combined Results of Operations (in millions, except per share data)
Year Ended December 31, 1998 1997 1996 i Actual Actual Pro forma Actual Pro forma ! (Unsedited) (Unaudited) I Revenues .. ... $ 11,488 $ 6,878 $ 10,191 $ 4,095 $ 8,884 l NetIncome (Loss) Available for Common Stock (l). $ (142). $ 421 $ 437 $ 405 $ 426 Basic and Diluted Eamings (Loss) Per Share (l) $ (.50) $ 1.66 $ 1.55 $ 1.66 $ 1.46' (1) Net income (loss) available for common stock for 1998 and 1997 are negatively impacted by $764 million and
$79 million ($2.69 and $0.31 per share) respectively, related to the unrealized loss on the Company's 7%
Automatic Common Exchange Securities (ACES). These and other pro forma results appearing in this Appendix A are based on assumptions deemed appropriate by the Company's management, have been prepared for informational purposes only and are not necessarily indicative of the combined results that would have resulted had the Merger occurred at the beginning of the 1996 and 1997 reporting periods presented. Purchase-related adjustments to results of operations include amortization of goodwill and the effects on depreciation, amortization, interest expense and deferred income taxes of the assessed fair value of certain Resources assets and liabilities. (c) Regulatory Assets and Other Long-Lived Assets. The Company and certain subsidiaries of Resources apply the accounting policies established in SFAS No. 71,
" Accounting for the Effects of Certain Types of Regulation" (SFAS No. 71), to the accounts of Electric Operations, Natural Gas Distribution and the Interstate Pipeline operations of a subsidiary of Resources. In general, SFAS No.
71 permits a company with cost-based rates to defer certain costs that would otherwise be expensed to the extent that the rate regulated company is recovering or expects to recover such costs in rates charged to its customera. . The following is a list of regulatory assets / liabilities reflected on the Company's Consolidated Balance Sheet as of December 31,1998, detailed by Electric Operations and other segments. Electric Total Operations Other Company (Minions of Douars)
- Deferred plant costs - net . . . .. $ 536 $ $ 536 Recoverable project costs - net . .. ... ..... .. . 55 55 .
Regulatory tax asset - net-- . . . . . . . . . . . . . . . 418 418 l Unamortized loss on reacquired debt. 140 140 j Fuel-related debits / credits - net., ... . . . . . . (15) (15) l Other deferred debits. 54 12 66 I Total ... . ..$ 1,188 $ 12 $ 1,200 If, as a result of changes in regulation or competition, the Company's and Resources' ability to recover these assets and liabilities would not be assured, then pursuant to SFAS No.101, " Accounting for the Discontinuation of Application of SFAS No. 71"(SFAS No.101) and SFAS No.121," Accounting for the Impairment of Long-Lived 42 1 j l
e
' HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued)
Assets and for Long-Lived Assets to Be Disposed Of" (SFAS No.121), the Company and Resources would be required to write off or write down such regulatory assets and liabilities, unless some form of transition cost recoveiy continues through rates established and collected for their remaining regulated operations. In addition, the Company and Resources would be required to determine any impairment to the carrying costs of deregulated plan and inventory assets. In order to reduce exposure to potentially stranded costs related to generation assets, Electric Operations redirected $195 million of depreciation in 1998 from transmission, distribution and general plant assets to generation assets. Such redirection is in accordance with the Company's transition to competition plan (Transition Plan) described in Note 1(f). If Electric Operations was required to apply SFAS No.101 to the generation portion of its business only, the cumulative amount of redirected depreciation of $195 million would become a regulatory asset of the transmission and distribution portion ofits business. Effective January 1,1996, the Company and Resources adopted SFAS No.121. SFAS No.121 requires that long-lived assets and certain identifiable intangibles to be held and used or disposed of by an entity be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an atset may not be recoverable. Adoption of the standard did not result in a write-down of the carrying amount of r ~ asset on the books of the Company or Resources. In July 1997, the Emerging Issues Task Force (EITF) of the Financial Accounting Standards Board reached a consensus on issue No. 97-4, " Deregulation of the Pricing of Electricity -Issues Related to the Application of FASB Statements No. 71, Accounting for the Effects of Certain Types of Regulation, and No.101, Regulated Enterprises - Accounting for the Discontinuation of Application of FASB Statement No. 71"(EITF 97-4). EITF 97-4 concluded that the application of SFAS No. 71 to a segment which is subject to a deregulation plan should cease when the legislation and enabling rate order contain sufficient detail for the utility to reasonably determine how the plan will affect the segment to be deregulated. In addition, EITF 97-4 requires the regulatory assets and liabilities to be allocated to the applicable portion of the electric utility from which the source of the regulated cash flows will be
- derived. As a part of the Transition Plan the Company has agreed to support future legislation providing for retail customer choice effective December 31,2001 and other provisions consistent with those in the 1997 proposed Texas legislation. At this time, the Company is unable to make any predictions as to the details of legislation being considered by the Texas legislature or the likelihood that such legislation will ultimately be enacted. Although the Company has determined that no impairment loss or write-offs of regulatory assets or carrying costs of plant and inventory assets need to be recognized for applicable assets of Electric Operations as of December 31,1998, this conclusion may change in the future (i) as competition influences wholesale and retail pricing in the electric utility industry, (ii) depending on regulatory action, if any, and (iii) deoending on legislation, if any, that is passed.
(d) Principles ofConsolidation.
'Ihe consolidated financial statements include the accounts of the Company and its wholly owned and majority owned subsidiaries including, effective as of the Acquisition Date, the accounts of Resources and its wholly owned and majority owned subsidiaries.
Investments in entities in which the Company or its subsidiaries have an ownership interest between 20% and
- 50% or are able to exercise significant influence are accounted for using the equity method. For additional information regarding investments recorded using the equity method or the cost method of accounting, see Note 5.
All significant intercompany transactions and balances are eliminated in consolidation. (e) Property, Plant andEquipment andGoodwill. Property, plant and equipment arc stated at original cost of the acquirer. Repair and maintenance costs are expensed. Depreciation is computed using the straight-line method. 43
. HOUSTON INDUSTRIES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued)
Goodwill is being amortized on a straight-line basis over 30 to 40 years. The Company had $76.3 million and
$21.6 million accumulated goodwill amortization at December 31,1998 and 1997, respectively. The Company will periodically compare the carrying value ofits goodwill to the anticipated undiscounted future operating income from the businesses whose acquisition gave rise to the goodwill and as of yet no impairment is indicated or expected. . (f) Depreciation andAmortization Expense.
He Company's consolidated depreciation expease for 1998 was $548 million compared to $475 million for 1997 and $410 million for 1996.- In June 1998, the Public Utility Commission of Texas (Texas Utility Commission) issued an order approving
' the Transition Plan filed by Electric Operations in December 1997. In order to reduce Electric Operations' exposure to potentially stranded costs related to generation assets, the Transition Plan permits the redirection to generation assets of depreciation expense that Electric Operations otherwise would apply to transmission, distribution and . general plant assets. In addition, the Transition Plan provides that all earnings above a 9.844% overall annual rate of return on invested capital be used to recover Electric Operations' investment in generation assets. Electric Operations implemented the Transition Plan effective January 1,1998 'and pursuant to its terms, recorded an . aggregate of $194 million in additional depreciation and $195 million in redirected depreciation in 1998.
The Company's depreciation and amortization expenses included $50 million of additional depreciation relating to the South Texas Project Electric Generating Station (South Texas Project) in both 1997 and 1996 and goodwill
. amortization relating to the acquisition of Resources of $55 million in 1998 and $22 million in 1997. For additional information regarding the operation of goodwill in connection with the Merger, see Note 1(b) above. He depreciation expense recorded for the South Texas Project was made pursuant to the terms of the Company's 1995 rate case settlement (1995 Rate Case Settlement), which permitted the Company to write down as much as $50 million per year of its investment in the South Texas Project through December 31,1999. These write-downs are treated under the 1995 Rate Case Settlement as reasonable and necessary expenses for purposes of any future earnings reviews or other proceedings.
In 1998,1997 and 1996, the Company, as permitted by the 1995 Rate Case Settlement, also amortized $4 million, $66 million and $50 million (pre-tax), respectively, ofits $153 million investment in certain lignite reserves associated with a canceled generating station. He Company's remaining investment in the canceled generating station and certain lignite reserves will be amortized fully no later than December 31,2002. (g) DeferredPlant Costs. Under a " deferred accounting" plan authorized by the Texas Utility Commission, Electric Operations was
. permitted for regulatory purposes to accrue carrying costs in the form of allowance for. funds used during - construction (AFUDC) on its investment in the South Texas Project and to defer and capitalize depreciation and other operating costs on its investment after commercial operation until such costs were reflected in rates. In ' addition, the Texas Utility Commission authorized Electric Operations under a " qualified phase-in plan" to capitalize allowable costs (including return) deferred for future recovery as deferred charges.
In 1991; Electric Operations ceased all cost deferrals related to the South Texas Project and began amortizing i such amounts on a straight-line basis. De accumulated deferrals for " deferred accounting" are being amortized over the estimated depreciable life of the South Texas Project. ne accumulated deferrals for the " qualified phase-in plan" are being amortized over a ten-year phase-in period that commenced in 1991. De amortization of all deferred
. plant costs (which totaled $26 million for each of the years 1998,1997 and 1996) is included on the Company's Statements of Consolidated income as depreciation and amortization expense.
44 1 I i
I~ f' l j
\l
' HOUSTON INDUSTRIES INCORPORATED k
d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) (h) FuelStock andPetroleum Products. Gas inventory (primarily using the average cost method) was $96 million and $72 million at December 31,1998 and 1997, respectively. Coal and lignite inventory balances (using last-in, first-out) were $24 million and $7 million, respectively, at December 31,1998 and $8 million and $6 million, respectively, at December 31,1997. Oil inventory balances, principally heating oil, were $85 million and $3 million at December 31,1998 and 1997, respectively. Heating oil is used in trading operations and are marked-to-market in connection with the price risk L management activities discussed in Note 2. (i) Revenues. The Company records electricity an/ . tural gas sales o ider the full accrual method, whereby unbilled electricity and natural gas sales are estimat , .nd rccorded cau month. International revenues include electricity sales of a majority owned foreign electric utmty, which are also recorded under the full accrual method, and equity income (net of foreign taxes) in unconsolidated investme ,ts of Reliant Energy Intemational. In 1998, Intemational's revenues included the gain on the sale of an Argentine distribution system. Included in other revenues are management fees and other sales and services, which are recorded when earned. l Revenue eliminations of $421 million and $170 million for the years ended December 31,1998 and 1997, iespectively, represent intersegment sales of natural gas and transportation services. For t!'e year ended December 31,1998, Interstate Pipeline had intersegment revenues of $156 million, Wholesale Energy had intersegment sales of $167 million and Corporate had $98 million of inters,egment retail sales. For the five month period ended December 31, 1997, Interstate Pipeline had intersegment revenues of $$9 million, Wholesale Energy had intersegment sales of $76 million and Ccrporate had $35 million ofintersegment retail sales. (J) Farnings Per Common Share. Effective December 31,1997, the Company adopted SFAS No.128, " Earnings per Share" (SFAS No 128). This statement requires restatement of all prior period earnings per share (EPS) data presented herein. SFAS No.128 requires dual presentation of basic and diluted EPS on the face of the Statements of Consolidated Income and requires a reconciliation of the numerators and denominators used in the basic and diluted earnings per share calculations. The following table reconciles numerators and denominators of the Company's basic and diluted camings per share calculations: 45 t
r l l HOUSTONINDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) For the Year Ended December 31, 1998 1997 1996 (In thousands, except per share amounts) Basic EPS Calculation: Net Income (loss) . $ ."41,092) $ 421,110 $ 404,944 Lesu Preferred dividends... . .. ... . 390 162 Net income (loss) available for common stock $ (141,482) $ 420,948 $ 404,944 Weighted average shares outstanding .. 284,095 253,599 244,443 Basic EPS: Net income (loss) .. . $ (.50) $ 1.66 $ 1.66 Less: Preferred dividends . . .. . . . . . . . . .. Net income (loss) available for common stock ; .. $ (.50) $ 1.66 $ 1.66 Diluted EPS CalculMion: Net income (loss) . . . . . $ (141,092) $ 421,110 $ 404,944 Plus: Income impact of assumed conversions Interest on 6-1/4% convertible debentures .. 668 Net income (loss) assuming dilution - . . (141,092) 421,778 404,944 Less: Preferred dividends . .. . . . . . . 390 162 Net income (loss) available for common stock assuming dilution... .. $ (141,482) $ 421,616 $ 404,944 Weighted average shares outstanding- .... . . . 284,095 253,599 244,443 Plus: Incremental shares from assumed conversions: (1) Stock options . . . . . 89 33 6-1/4% convertible debentures . . _ . . . . . . . . 510 Weighted average shares assuming dilution = 284,095 254,198 244,476 Diluted EPS: Net Income (loss); ,
$ (.50) $ 1.66 $ 1.66 Less: Preferred dividends ; m.. ..
~
Net income (loss) available for common stock . . . .... $ (.50) $ 1.66 $ 1.66 (1) No assumed conversions were included in the computation of diluted eamings per share for 1998 because additional shares outstanding would result in an anti-dilutive per share amount, ne computation of diluted EPS for 1998 exch@s 492,000 shares of restricted stock and purchase options for 434,000 shares of common stock which woulk anti-dilutive if exercised. (k) Statements ofConsolidatedCash Flows. 3, For purposes of reporting cash flows, cash equivalents are considered to be shon-term, highly liquid investments readily convertible to cash.
~ (1) Derivative FinancialInstruments (Risk Management).
For information regarding the Company's accounting for derivative Snancial instruments associated with its subsidiaries' natural gas, electric power and transportation risk management activities, we Note 2. (m) Income Taxes. The Company and its subsidiaries fi!e a consolidated federal income tax return. He Company follows a policy of comprehensive interperiod income tax allocation. Investment tax credits were deferred and are being amortized over the estimated lives of the related property. For additional information regarding income taxes, see Note 11. 46
HOUSTON INDUSTRIES INCORPORATED k d/b/a RELIANT ENERGY, INCORPORATED AND FUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) (n) Investments in Time WarnerSecurities. The Comprny owns 11 million shares of non-publicly traded Time Warner convertible preferred stock (TW Preferred). The TW Preferred is redeemable after July 6,2000, has an aggregate liquidation preference of $100 per share (plus accrued and unpaid dividends), is entitled to annual dividends of $3.75 per sha e until July 6,1999, is currently convertible by the Company and after July 6,1999 is exchangeable by Time Warner into approximately 45.8 million shares of Time Wamer common stock (TW Common). Each share of TW Preferred is entitled to two votes (voting together with the holders of the TW Common as a single class). The Company has accounted for its investment in TW Preferred under the cost method at a value of $990 million on the Company's Consolidated Balance Sheets. Dividends on these securities are recognized as income at the time they are earned. The Company recorded pre-tax dividend income with respect to the Time W&rner securities of $41.3 million in 1998 and 1997 and $41.6 million in 1996. To monetize its investment in the TW Prderred, the Company sold in July 1997. 22.9 million of ACES. At maturity in July 2000, the principal amount of the ACES will ba mandatorily exchangeable by the Company into either (i) a number of shares of TW Common based on an exchange rate or (ii) cash having an equal value. Subject to adjustments that may result from certain dilution events, the exchange rate for each ACES is determined as
- follows: (i) 1.6528 shares of TW Common if the price of TW Common at maturity (Maturity Price) is at least
$27.7922 per share, (ii) a fractional share of TW Common such that the fractional share will have a value equal to
$22.%875 if the Maturity Price is less than $27.7922 but greater than $22.96875 and (iii) one share of TW Common if the Maturity Price is not more than $22.96875. The closing price of TW Common was $62.062 per share on December 31,1998.
Prior to maturity, the Company has the option of redeeming the ACES if(i) changes in federal tax regulations require recognition of a taxable gain on the Company's TW Preferred and (ii) the Company could defer such gain by redeeming the ACES. The redemption price is 105% of the closing sales price of the ACES as determined over a period prior to the redemption notice. The redemption price may be paid in cash or in shares of TW Common or a combination of the two. As a result of the issuance of the ACES, a portion of the increase in the market value above $27.7922 per share of TW Common results in non-cash. unrealized accounting losses to the Company for the ACES, pending the conversion of the Company's TW Treferred into TW Common. For example, prior to the conversion, when the market price of TW Common increases above $27.7922, the Company records in Other Income (Expense) an
, unrealized, non-cash accounting Mss for the ACES equal to (i) the aggregate amount of such increase as applicable to all ACES multiplied by (ii) 0.8264. In accordance with generally accepted accounting principles, this accounting loss (which reflects the unrealized increase in the Company's indebtedness with respect to the ACES) may not be offset by accounting recognition of the increase in the market value of the TW Common that underlies the TW Preferred. Upon conversion of the TW Preferred (anticipated to occur in July 1999), the Company will begin recording future unrealized net changes in the market prices of the TW Common and the ACES as a component of common stock equity and other umprehensive income.
As of December 31,1998 and 1997, the market price of TW Common was $62.062 and $31.00 per share, l re ,nctively. Accordingly, the Company recognized an increase of $1.2 billion in 1998 and $121 million in 1997 in ! th ;mrealized liability relating to its ACES indebtedness (which resulted in an after-tax earnings reduction of $764 j million or $2.69 basic earnings per share and $79 million or $.31 basic earnings per share, respectively). The i Company believes that the cumulative unrealized loss for the ACES of approximately $1.3 billion is more than economically hedged by the approximately $1.8 billion unrecorded unrealized gain at December 31,1998 relating to : the increase in the fair vpH of the TW Common underlying the investment in TW Preferred since the date of its 1 acquisition. Any gain relatu to the increase in fair value of TW Common would be recognized as e component of net income upon the sale of the TW Preferred or the shares of TW Common into which such TW Preferred is 47
7 IIOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) (n) Investments in Time Warner Securities. He Company owns 11 million shares of non-publicly traded Time Warner convertible preferred stock (TW Preferred). The TW Preferred is redeemable after July 6,2000, has an aggregate liquidation preference of $100 per share (plus accrued and unpaid dividends), is entitled to annual dividends of $3.75 per share until July 6,1999, is currently convertible by the Company and after July 6,1999 is exchangeable by Time Warner into approximately ; 45.8 million shares of Time Warner common stock (TW Common). Each share of TW Preferred is entitled to two j votes (voting together with the holders of the TW Common as a single class). J The Company has accounted for its investment in TW Preferred under the cost method at a value of $990 million on the Company's Consolidated Balance Sheets. Dividends on these securities are recognized as income at the time they are earned. The Company recorded pre-tax dividend income with respect to the Time Warner securities of $41.3 millior, in 1998 and 1997 and $41.6 million in 1996. To monetize its investment in the TW Preferred, the Company sold in July 1997,22.9 million of ACES. At maturity in July 2000, the principal amount of the ACES will be mandatorily exchangeable by the Company into either (i) a number of shares of TW Common based on an exchange rate or (ii) cash having an equal value. Subject to adjustments that may result from certain dilution ev^nts, the exchange rate for each ACES is determined as follows: (i) 1.6528 shares of TW Common if the price of TW Common at maturity (Maturity Price) is at least
$27.7922 per share, (ii) a fractional she.re of TW Common such that the fractional share will have a value equal to $22.96875 if the Maturity Price is less than $27.7922 but greater than $22.96875 and (iii) one share of TW Common if the Maturity Price is not more than $22.96875. The closing price of TW Common was $62.062 per share on December 31,1998.
Prior to maturity, the Company has the option of redeeming the ACES if(i) changes in federal tax regulations require recognition of a taxable gain on the Company's TW Preferred and (ii) the Company could defer such gaia by redeeming the ACES. The redemption price is 105% of the closing sales price of the ACES as determined over a period prior to the redemption notice. The redemption price may be paid in cash or in shares of TW Common or a combination of the two. As a result of the issuance of the ACES, a portion of the increase in the market value above $27.7922 per share of TW Common results in non-cash, unrealized accounting losses to the Company for the ACES, pending the conversion of the Company's TW Preferred into TW Common. For example, prior to the conversion, when the market price of TW Common increases above $27.7922, the Company records in Other income (Expense) an
, unrealized, non-cash accounting loss for the ACES equal to (i) the aggregate amount of such increase as applicable to all ACES multiplied by (ii) 0.8264. In accordance with generally accepted accounting principles, this accounting loss (which reflects the unrealized increase in the Company's indebtedness with respect to the ACES) may not be offset by accountirg recognition of the increase in the market value of the TW Common that underlies the TW Preferred. Upon conversion of the TW Paferred (anticipated to occur in July 1999), the Company will begin recording future unrealized net changes in the market prices of the TW Common and the ACES as a component of common stock equity and other comprehensive income.
As of December 31,1998 and 1997, the market price of TW Common was $62.062 and $31.00 per share, respectively. Accordingly, the Company recognized an increase of $1.2 billion in 1998 and $121 million in 1997 in i the unrealized lisbility relating to its ACES indebtedness (which resu:ted in an after-tax earnmgs reduction of $764 l million or $169 basic camings per share and $79 million or $.31 basic camings per share, respectively). The ! Company believes that the cumulative unrealized loss for the ACES of approximately $1.3 billion is more than economically hedged by the approximately $1.8 billion unrecorded unrealized gain at December 31,1998 relating to the increase in the fair value of the TW Common underlying the investment in TW Preferred since the date of its acquisition. Any gain related to the increase in fair value of TW Common would be recognized as a component of net income upon the sale of the TW Preferred or the shares of TW Common into which such TW Preferred is 47 i J
HOUSTON INDUSTRIES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTl ' 70 CONSOLIDATED FINANCIAL STATEMENTS -(Continued) converted. As of March 11,1999, the price of TW Common was $70.75 per share which would have resulted in the Company recognizing an additional increase of .$329 million in the unrealized liability relating to its ACES indebtedness, ne related i.--wM unrealized gain as of March 11, 1999 would have been computed as an additional $398 million.- (o) Investment in Other Debt andEquity Securities. He securities held in the Company's nuclea, decommissioning trust are classified as "available-for-sale" and, in accordance with SFAS No. ll5," Accounting for Certain Investments in Debt and Equity Securities" (SFAS No. 115), are reported at estimated fair value of $119.1 million as of December 31,1998 and $92.9 million as of December 31,1997 on the Company's Consolidated Balance Sheets under deferred debits, ne liability for nuclear decommissioning is reported on the Company's Consolidated Balance Sheets under deferred credits. Any unrealized gains or losses are accounted for in accordance with SFAS No. 71 as a regulatory asset / liability and reported on the Company's Consolidated Balance Sheets as a deferred debit / credit. The Company, through Resources, holds certain equity securitio classified as "available-for-sale" and in' accordance with SFAS No.115," Accounting for Certain Investments in Debt and Equity Securities," reports such investments at estimated fair value on the Company's Conrolidated Balance Sheets as deferred debits and any unrealized gain or loss, net of tax, as a separate component of stockholders' equity and other comprehensive income. At December 31,1998 and 1997, the accumulated unrealized loss, net of tax, relating to these equity securities was approximately $16.0 million and $5.6 million. (p) Foreign Currency Adjustments. International assets and liabilities where the local currency is the functional currency, have been translated into U.S. dollars using the exchange rate at the balance sheet date. Revenues, expenses, gains, and losses have been translated using the weighted average exchange rate fer each month prevailing during the periods reported. Cumulative adjustments resuhing from translation have been recorded in stockholders' equity and other comprehensive income. When the U.S dollar is the functional currency, the financial statements of Intemational are remeasured in U.S. dollars using historical exchange rates for non-monetary accounts and the current rate at the respective balance sheet date and the weighted average exchange rate for all other balance sheet and income statement accounts, respectively. All exchange gains and losses from remeasurement and foreign currency
- transactions are included in consolidated net income. However, fluctuations in foreign currency exchange rates
- relative to the U.S. dollar can have an impact on the reported equity earnings of the Company's foreign investments.
. For additional information about the Company's investments in unconsolidated affiliates, see Note 5. For additional information about the Company's investments in Brazil and the devaluation of the Brazilian real in January 1999, j see Note 16(a). !
i
, 'y (q) Reclassifications and Use ofEstimates.
Certain amounts from the previous years h.ve been reclassified to conform to the 1998 presentation of financial statements. Such reclassifications do not affeo earnings. 3' The preparation of financial stateraents in conformity with generally accepted accounting principles requires I management to make estimates and assumption that affect the reported amounts of asset: and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of
. revenues and expenses during the reportmg penod. Actual resuhs could differ from those estimates.
i t. 48
1 HOUSTON INDUSTRIES INCORPORATED d/b/n RELIANT ENERGY,1NCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued)
. (r) Change in Accounting Principle.
In the fourth qua'ter of 1998, the Company adopted mark-to-market accounting for all of the energy price risk management and trading activities of Reliant Energy Services. Under mark-to-market accounting, the Company records the fair value of energy-related derivative financial instruments, including physical forward contracts, swaps, options and exchange-traded futures contracts at each balance sheet date. Such amounts are recorded in the Company's Consolidated Balance Sheet as price risk managemenc assets, price risk management liabilities, defctred debits and deferred liabilities. The realized and unrealized gains (losses) are recorded as a component of operating
. revenues in the Company's Consolidated Statements of Income. L Jompany has applied mark-to-market accounting retroactively to January 1,1998.- This change was made a order to adopt a generally accepted )
accounting methodology that provided consistency between financial reporting and the methodology used in all j reported periods by the Company in managing its trading activities. There was no material cumulative effect resulting from the accounting change. 4 The Company will adopt Emerging Issues Task Force Issue 98-10, " Accounting for Contracts involved in Energy Trading and Risk Management Activities" in the first quarter of 1999 for Reliant Energy Services' trading activities. The Company does not expect the implementation of EITF !ssue 98-10 to be material to its consolidated financial statements. (s) New Accounting Pronouncement. In 2000, the Company expects to adopt Statement of Financial Accounting Standards No.133, " Accounting for Derivative Instruments and Hedging Activities" (SFAS No.133), which establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities. The Company is in the process of determining the effect of adopting SFAS No.133. (t) Comprehensiveincome. Accumulated other comprehensive loss at December 31,1998 included foreign currency translation adjustments of $34 million and an unrealized loss on available for sale securities of $16 million, net of tax of $9 million. At December 31,1997, accumulated other comprehensive loss included foreign currency translation adjustments of $.8 l million and unrealized loss on available for sale securities of $6 million, net of tax of $3 million. In 1996, accumulated other comprehensive loss included foreign cur ency translation adjustments of $.4 million. ! I
.(u) Other.
For information regarding executive incentive compensation, pensions and other benefits, see Note 10. j i (2) Derivative FinancialInstruments 1 (a) Price Risk Management and Trading Activities. The Company, through Reliant Energy Services, offers energy price risk management services primarily in the natural gas, ciectric and crude oil and refined product industries. Reliant Energy Services provides these services by utilizing, a ' variety of derivative financial instruments, including fixed and variable-priced physical forward contracts, fixed-price swap tq.reements, vanable-price swap agreements, exchange-traded energy futures and option l l contracts, and swaps and options traded in the over-the-counter financial markets (Trading Derivatives). Fixed-price swap agreements require payments to, or receipts of payments from, counterparties based on the differential between a fixed and variable price for the commodity. Variable-price swap agreements require payments to, or receipts of payments from, counterparties based on the differential between industry pricing publications or exchange quotations. 49
HOUSTON INDUSTRIES INCORPORATED d/b.'s RELIANT ENERG), INCORPORATED AND SUBSIDIARIES
- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued)
Prior to 1998, Reliant Energy Services applied hedge accounting to certain physical commodity activities that qualified for hedge accounting. In 1998, Reliant Energy Services adopted mark-to-market accounting for all ofits price risk management and trading activities. Accordingly, as of such date such Trading Derivares are recorded at fair value with realized and unrealized gains (losses) recorded as a component of operating revenues in the Company's Consolidated Statements of Income. The recognized, unrealized balance is recorded as price risk
- manag nient assets / liabilities ard deferred debits / credits on the Company's Consolidated Balance Sheets (See Note 1(r)).
The notional quantities, maximum terms and the estimated fair value of Trading Derivative at December 31, 1998 are presented below (volumes ir, billions of British thermal units equivalent (BBtue) and dollars in millions): Volutie Flued Volume-Fixed Price Maximum Price Payor Term (years) J998 _ Receiver Natural gas... .... . 937,264 977,293 9 Electricity.. .. . .. 122,950 124,878 3 Crude oil and products.. .. . .. . . . . 205,499 204,223 3 Average Fair Fair Value Value (s) J,99i! Assets Liabilities Assets Liabilities Natural gas .. .. . . . . . . . . . . . . . . $ 224 $ 213 $ 124 $ 108 Electricity . . . . . .. . . 34 33 186 186 Crude oil and products .. .... . 29 23 21 17
$ 287 $ 269 $ 331 $ 311 The notional quantities, maximum terms and the estimated fair value of derivau n Guancial instruments at December 31,1997 are presented below (volumes in Bbtue and dollars in millions):
Volume 41xed Vehme-Fixed Price Maximum 99 J,99,,2 Price Payor Receiver Term (yry.i.) 85,701 64,890 4,
' Natural gas.. .... . . . . . . . . . . . .
Electricity = . . . . . . . . 40,511 42,976 1 i As ernge Fair - Fair Value Value (a) i Assets Liabilities Assets Liabilities
-E $ 48 Natural gas. . . . . . . . S 46 $ 39 $ 56 Electricity . . . . . . . . . . . . . . . . . . 6 6 3 2
$ 52 $ 45 $ 59 $ 50 (a) Computed using the ending balance of each month. !
In addition to the fixed-price notional volumes above, P.eliant Energy Services also has variable-priced agreements, as discussed above, totaling 1,702,977 and 101,465 BBrue as of December 31,1998 and 1997, respectively. Notional amounts reflect the volume of transactions but do not represent the amounts exchanged by the i parties to the financial instruments. Accordingly, notional amounts do not accurately measure the Company's exposure to market or credit risks. All of the fair value shown in the table rbc st December 31,1998 and substantially all of the fair value at December 31, 1997 have been recognized it. imeme. The fair value as of December 31,1998 and 1997 was SO
HOUSTON INDUSTRIES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLI iTED FINANCIAL STATEMENTS -(Continued) estimated using quoted prices where available and considering the liquidity of the market f Derivatives. The prices are subject to significant changes based on changing market conditions. At December 31,1998, $22 million of the fair value of the assets and $41 million of the fair value of t liabilities are recorded as long-term in deferred debits and deferred credits, respectively on the Consolidated Balance Sheets. The weighted-average term of the trading portfolio, based on volumes, is less than one year. The maxim average terms disclosed herein are not indicative oflikely future cash flows, as these positions may be c new transactions in the trading portfolio at any time in response to changing market conditions, market the Compmy's risk management portfolio needs and strategies. Terms regarding cash settlements of these con vary with respect to the actual timing of cash receipts and payments. In addition to the risk associated with price movements, credit Hsk is also inherent in the Company's a subsidiaries' risk management activities. Credit risk relates to the risk ofloss resulting from non-perfonnan contractual obligations by a counterparty. He following table shows the composition of the total price ri:k management assets of Reliant Energy Services as ofDecember 31,1998. Investament Grade (1) Total Energy marketers (Thousands of Dollars)
. _ - - .............. $ 102,458 $ 123,779 Financialinstitutions . .
.................. 61,572 61,572 Gas and electric utilities........ .... .. ... ..... .. ...... ....... ... .... .. 46,880 48,015 Oil and gas producers . .. ........ . ..... ... 7,197 8,323 Industrials. ..... . . . . . . . . . . . . 1,807 3,233 Independent power producers. . ....... , ........ . . 1,452 1,463 Others ..... ...... .. ............................. ...
45.421 46,696 Total ... .... ... . . . .
$ 266,787 293,081 Credit a'nd other reserves ..... .. .. ............. .
(6,464) Energy price risk management assets (2) ...... .; . . . . $ 286,617 (1) Investment Grade"is primarily determined using publicly available credit ratings along with the consideration of credit support (e.g., parent company guarantees) and collateral, which encompass cash and standby letters of credit. j
- (2) ne Company has credit risl. :xposure with respect to two investment grade customers each of which represents !
an amount greater than 5% but less than 10% of Price Risk Management Assets. ( (b) Non-TradingActivities. To reduce the risk from market fluctuations in the price of electric power, natural gas and related transportation, the Company, Resources and certain ofits subsidiaries enter into futures transactions, swaps and options (Energy Derivatives) in order to hedge certain natural gas in storage, as well as certain expected purchases, sales and transportation of natural gas and electrk power (a portion of which are finn commitments at the inception of the hedge). Energy Derivatives are also utilized to fix the price of compressor fuel or other future operational gas requirements, although naage to date for this purpose has not been material. The Company applies hedge accounting with respect to its derivative financial instruments. 51 t
F f l IIOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, NCORPORATED AND SUBSIDIARIES ; l NOTES TO CONSOLIDATED FINANCIAL STATEMENTS --(Continued) Certain subsidiaries of the Company also utilize interest-rate derivatives (principally interest-rate swaps) in ! order to adjust the portion of its overall borrowings which are subject to interest rate risk and also utilize auch derivatives to effectively fix the interest rate on debt expected to be issued for refunding purposes. For transactions involving either Energy Derivatives or interest-rate derivatives, hedge accounting is :pplied only if the derivative (i) reduces the price risk of the underlying hedged item and (ii) is designated as a hedge at its inception. Additionally, the derivatives must be expected to result in financial impacts which are inversely correlated to those of the item (s) to be hedged. This correlation (a measure of hedge effectiveness) is measured both at the inception of the hedge and on an ongoing basis, with an acceptable level of correlation of at least 80% for hedge designation. If and when correlation ceases to exist at an acceptable level, hedge accounting ceases and mark-to-market accounting is applied. In the case of interest-rate swaps associated wi:h existing obligations, cash flows and expenses associated with the interest-rate derivative transactions are matched with the cash flows and interest expense of the obligation being hedged, resulting in an adjustment te the effective interest rate. When interest rate swaps are utilized to effectively fix the interest rate for an anticipeed debt issuance, changes in the market value of the interest-rate derivatives are deferred and recognized as en adjustment to the effective interest rate on the newly issued debt. Unrealized changes in the market value of Energy Derivatives utilized as hedges are not generally recognized in the Company's Consolidated Statements ofIncome until the underlying hedged transaction occurs. Once it becomes probable that an anticipated transaction will not occur, deferred gains and losses are recognized. In general, the fint.ncial impert of transactions involving these Energy Derivatives is included in the Company's Statements of Consolidatd Inwome under the captions (i) fuel expenses, in the case of natural gas transactions and (ii) purchased power, in the case of electric power transactions. Cash flows resulting from these transactions in Energy Derivatives are included in the Company's Statements of Consolidated Cash Flows in the same category as the item being hedged. At December 31,1998, subsidiaries of Resources were fixed-price payors and fixed-price receivers in Energy < Derivatives covering 42,498 billion British thermal units (Bbtu) and 3,930 BBtu of natural gas, respectively. At ) December 31, 1997, subsidiaries of Resources were fixed-price payors and fixed-price receivers in Energy ' l Derivatives covering 38,754 BBtu and 7,647 BBtu of natural gas, respectively. Also, at December 31,1998 and 1997, subsidiaries of Resources were parties to variable-priced Energy Derivatives totaling 21,437 Bbtu and 3,630 l BBtu of natural gas, respectively. The weighted average maturity of these instruments is less than one year.
. The notional amount is intended to be indicative of the Company's and its subsidiaries' level of activity in such derivatives, although the amounts at risk are significantly smalier because, in view of the price movement correlation required for hedge accounting, chnges in the market value of these derivatives generally are offset by changes in the value associated with the un Lrlying physical transactions or in other derivatives. When Energy s Derivatives are closed out in advance of the underlying commitment or anticipated transaction, however, the market value changes may not offset due to the fact that price movement correlation ceases to exist when the positions are closed, as further discussed below. Under such circumstances, gains (losses) are deferred and recognized as a component of income when the underlying hedged item is recognized in income.
The average maturity discussed abovs c.nd the fair value discussed in Nota 13 are not necessarily indicative of likely future cash flows as these positions may be changed by new transactions in the trading portfolio at any time in response to changing market conditions, market liquidity and the Company's risk management portfolio needs and strategies. Terms regarding cash settlements of these contracts vary with respect to the actual timing of cash receipts and payments. 52
HOUSTON INDUSTRIES INCORPORATED y d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) (c) TradingandNon-trading-GeneralPolicy. In addition to the risk associated with price movements, credit risk is also inherent in the Company's and its subsidiaries' risk management activities. Credit risk relates to the risk of loss resulting from non-performance of contractual obligations by a counterparty. While as yet the Company and its subsidiaries have experienced only minor losses due to the credit risk associated with these arrangements, the Company has off-balance sheet risk to the extent that the counterparties to these transactions may fail to perform as required by the terms of each such contract. In order to minimize this risk, the Company and/or its subsidiaries, as the case may be, enter into such j contracts primarily with those counterparties with a minimum Standard & Poor's or Moody's rating of BBB- or j
; Baa3, respectively. For long-term arrangements, the Company and i:s subsidiaries periodically review the financial l
condition of such firms in addition to monitoring the effectiveness of these financial contracts in achieving the Company's objectives. Should the counterparties to these arrangements fail to perfortc., the Company would seek to compel performance at law or otherwise or obtain compensatory damages in lieu thereof The Company might be forced to acquire alternative hedging arrangements or be required to honor the underlying commitment at then- f current market prices. In such event, the Company might incur additional loss to the extent of amounts, if any,
~
. already paid to the counterparties. In view of its criteria for selecting counterparties, its process for monitoring the financial strength of these counterpaities and its experience to date in successfully completing these transactions, the Company believes that the risk of incurring a significant financial statement loss due to the nomperformance of counterparties to these transactions is minimal.
The Company's policies prohibit the use ofleveraged financial instruments. 4 The Company has established a Corporate Risk Oversight Committee, comprised of corporate and business
- segment officers, to oversee all corporate. price and credit risks, including Reliant Energy Services' trading,
- marketing and risk management activities. He Corporate Risk Oversight Committee's responsibilities incLde reviewing the Company's and its subsidiaries' hedging, trading and price risk management strategies, activities and limits and manitoring to ensuie compliance with the Company's risk management policies and procedures and trading limits established by the Company's bond of directors.
(3) . Rate Matters . l l (a); Electric Proceedings. l l
. The Texas Utility Comeniasion has original (or in some cases appellate) jurisdiction over Electric Operations' l electric rates and services. Texas Utility Commission orders may be appealed to a District Court in Travis County, and from that court's decision an appeal may be taken to the Court of Appeals for the 3rd District at Austin (Austin Court of Appeals). Discretionary review by the Supreme Court of Texas may be sought from decisions of the Austin Court of Appeals. In the event that the courts uhimately reverse actions of the Texas Utility Commission, such matters are remanded to the Texas Utility Commission for action in light of thw courts' orders.
l(b) TransitionPlan. In June 1998, the Texas Utility Commission issued an order in Docket No.18465 approving the Company's Transition Plan filed by Electric Operations in December 1997. He Transition Plan included base rate credits to residential customers of 4% in 1998 and an additional 2% in 1999. Commercial customers whose monthly billing is 1 1,000 kva or less are entitled to receive base rate credits of 2% in each of 1998 and 1999. The Company I
. implemented the Transition Plan effective January 1,1998.
For information about additional depreciation of generation assets and redirecting depreciation pursuant to the Transition Plan, see Note 1(f). 53 s [ .. J r e
IlOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) Review of the Texas Utility Commission's order in Docket No.18465 is currently pending before the Travis County District Court. In August 1998, the Office of the Attorney General for the State of Texas and a Texas municipality filed an appeal seeking, among other things, to reverse the portion of the Texas Utility Commission's order relating to the redirection of depreciation expenses under the Transition Plan. Because of the number of variables that can affect the ultimate resolution of an appeal of Commission orders, the Company is not in a position at this time to predict the outcome of this matter or the ultimate effect that adverse action by the courts coulo have on the Company. (4) Jointly Owned Electric Utility Plant i (a) Investment in South Texas Project. The Company has a 30.8% interest in the South Texas Project, which consists of two 1,250 megawatt (MW) J nuclear generating units and bears a corresponding 30.8% share of cr.pital and operating costs associated with the project. As of December 31,1998, the Company's investment in the South Texas Project (including AFUDC) was
$1.4 billion (nct of $1.1 billion accumulated depreciation). The Company's investment in nuclear fuel (including AFUDC) was $41 million (net of $230 million amonization) as of such date.
I The South Texas Project is owned as a tenancy in common among its four co-owners, with each owner retaining its undivided ownership interest in the two nuclear-fueled generating units and the electrical output from those units. The four co-owners have delegated management and operation responsibility for the South Texas Project to the South Texas Nuclear Operating Company (STPNOC). STPNOC is managed by a board of directors comprised of one director from each of the four owners, along with the chief executive officer of STPNOC. The four owners provide oversight through an owners' committee comprised of representatives of each of the owners and through the board of directors of STPNOC. Prior to November 1997, the Company was the operator of the South Texas Project. (b) NuclearInsurance. The Company and the other owners of the South Texas Project maintain nuclear property and nuclear liability insurance coverage as required by law and periodically review available limits and coverage for additional protection. The owners of the South Texas Project currently maintain $2.75 billion in propeny damage insurance coverage, which is above the legally required minimum, but is less than the total amount of insurance currently available for such losses. This coverage consists of $500 million in primary property damage insurance and excess property insurance in the amount of $2.25 billion. With respect to excess property insurance, the Company and the other owners of the South Texas Project are subject to assessments, the maximum aggregate assessment under current policies being $16.5 million during any one policy year. The application of the proceeds of such property insurance is subject to the priorities established by the Nuclear Regulatory Commission (NRC) regulations relating to the safety of licensed reactors and decontamination operations. Pursuant to the Price Anderson Act, the maximum liability to the public of owners of nuclear power plants, such as the South Texas Project, was $9.145 billion as of December 31,1998. Owners are required under the Price Anderson Act to insure their liability for nuclear incidents and protective evacuations by maintaining the maximum amount of financial protection available from private sources and by aaintaining secondary financial protection through an industry retrospective rating plan. The assessment of deferred premiums provided by the plan for each nuclear incident is up to $83.9 million per reactor, subject to indexing for inflation, a possible 5% surcharge (but no more than $10 million per reactor per incident in any one year) ar i a 3% state premium tax. The Company and the other owners of the South Texas Project currently maintain the reqsed nuclear liability insurance and participate in the industry retrospective rating plan.
$4
i l HOUSTON INDUSTRIES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) There can be no assurance that all potential losses or liabilities will be insurable, or that the amount ofinsurance will be' sufficient to cover them. Any substantial losses not covered by insurance would have a material effect on the Company's financial condition, results of operations and cash flows. (c) NuclearDecommissioning. The Company contributes $14.8 million per year to a trust established to fund its share of the decommissioning costs for the South Texas Project. For a discussion of the accounting treatment for the securities held in the
' Company's nuclear decommissioning trust, see Note 1(o). In May 1994, an outside consultant estimated the
- Company's portion of decommissioning costs to be approximately $318 million (1994 dollars). The consultant's calculation of decommissioning costs for financial planning purposes used the DECON methodology.(prompt
- removal / dismantling), ox of the three alternatives acceptable to the NRC and assumed deactivation of Units Nos. I and 2 upon the expiratna of their 40-year operating licenses. While the current and projected funding levels currently exceed minimum NRC requirements, no assurance can be given that the amounts held in trust will be adequate to cover the actual deconunissioning costs of the South Texas Project. Such costs may vary because of changes in the assumed date of decommissioning, changes in regulatory and accounting requirements, char.ges in technology and changes in costs oflabor, materials and equipment. ' An update of the 1994 study is in the process of
,. being completed.
- (d) AssessmentFeesforSpentFuelDisposalandEnrichmentandDecommissioning.
By contract, the United States Department of Energy (DOE) has committed itself ultimately to take possession of all spent fuel generated by the South Texas Project. The DOE contract currently requires payment of a spent fuel disposal fee on nuclear plant-generated electricity of one mill (one-tenth of a cent) per net KWH sold. This fee is subject to adjustment to ensure full cost recovery by the DOE. The Energy Policy Act also includes a provision that assesses a fee upon domestic utilities that purchased nuclear fuel enrichment services from the DOE before October 24,1992. The South Texas Project's assessment is approximately $2 million per year (subject to escalation for inflation). He Company has a remaining estimated liability of $5 million for such assessments. (e) 1996 Settlement ofSouth Texas Project Litigation. In 1996, the Company recorded an aggregate $95 million ($62 million net of tax) charge in connection with various settlements oflawsuits filed by co-owners of the South Texas Project. For information about the execution of an operations agreement with the City of San Antonio in connection with one of these settlements, see Note 12(c).
- (5) Equity Investments and Advances to Unconsolidated Subsidiaries Y
, The Company accounts for affiliate investments ofits subsidiaries under the equity method of accounting where (i) the subsidiary's ' ownership interest in the affiliate ranges from 20% to 50%, (ii) the ownership interest is less than 20% but the subsidiary exercises significant influence over operating and financial policies of such affiliate or (iii)
, ' the subsidiary's ownership interest in the affiliate exceeds 50% but the subsidiary does not exercise control over the
, affiliate.
The Company's and its subsidiaries' equity investments and advances in unconsondated subsidiaries at December 31,1998 and 1997_ were $1 billion and $704 million, respectively. The Company's and its subsidiaries' equity income from these investments, included in latemational revenues and other net income, was $71 million,
'$49 million and $17 million in 1998,1997 and 1996, respectively. Dividends received from the investments
- amounted to $44 million and $46 million in 1998 and 1997, respectively. No dividends were received from these
~ investments in 1996.
I I
HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) (a) International. In April 1998, Light Servi 0s9 de Eletricidade S.A. (Light), a Brazilian corporation in which Reliant Energy International, Inc. (Reliant Energy Intemational) indirectly owns an 11.69% common stock interest, purchased 74.88% of the common stock of Metropolitana Eletricidade de Seo Paula S.A. (Metropolitana), an electric j distribution company that serves the metropolitan area of Sao Paulo, Brazil. The purchase price for the shares was 4 approximately $1.8 billion and was financed with proceeds from bank borrowings. As of December 31,1998, Light and Metropolitana had approximately $3.2 billion in non-local currency denominated borrowings. For information < regarding foreign currency adjustments, see Note 1(p). For information about the devaluation of the Brazilian real in January 1999, see Note 16(a). In May 1997, Reliant Energy Intemational increased its indirect ownership interest in the Argentin'e electric utility from 48% to 63%. The purchase price of the additional interest was $28 million. On June 30,1998, Reliant Energy International sold its 63% ownership interest in an Argentine affiliate and certain related assets for approximately $243 million. Reliant Energy Intemational acquired its initial ownership interests in the electric utility in 1992. 'Ihe Company recorded an $80 million after-tax gain from this sale in the second quarter of 1998. In 1998, a subsidiary of Reliant Energy International acquired for approximately $150 million, equity interests (curtently ranging from approximately 36% to 45%) in three electric distribution systems located in El Salvador. Corporacion EDC S.A.C.A. (CEDC), Reliant Energy International's partner in this venture, acquired majority interests in the systems when they were privatized in early 1998. On June 30,1998, CEDC closed on the sale of approximately half of its interests in the systems to a subsidiary of Reliant Energy International. In August 1998, Reliant Energy Intemational and CEDC jointly acquired, through subsidiaries,65% of the stock of two Colombian electric distribution companies, Electricaribe and Electrocosta. The shares of these companies are indirectly held by an offshore holding company jointly owned by special purpose subsidiaries of CEDC and Reliant Energy International. , 4 The purchase price for the joint investment in Electricaribe ard Electrocosta was approximately $522 million, j excluding transaction costs. The purchase price was funded with capital contributions from Reliant Energy ) International and CEDC and a U.S. $200 million loan obtained by the holding company from a United States bank. l A $100 million advance on the loan was obtained in October 1998 with subsequent advances of $25 million and $75 { . million obtained in December 1998 and January 1999, respectively. The loan will mature on October 31, 2003. I Reliant Energy International funded its capital contributions with a portion of the proceeds from the sale of the Argentine affiliate discussed above and capital contributions frcm the Company. Under the terms of a support l agreement, Reliant Energy International and CEDC have agreed, among other things, to repurchase up to U.S. $50 ! million of the loan from the bank to the extent that the bank is unable to syndicate that portion of the loan to other j banks on or prior to June 15,1999. ) In June 1997, a consortium of investors which included a subsidiary of Reliant Energy International, acquired l for $496 million a 56.7% controlling ownership interest in Empresa de Energia del Pacifico S.A.E.S.P. (EPSA), an electric utility system serving the Valle de Cauca province of Colombia, including the area surrounding the city of Cali. Reliant Energy Intemational contributed $152 million of the purchase price for a 28.35% ownership interest ia EPSA. In addition to its distribution facilities, EPSA owns 850 MW of electric generation capacity. Reliant Energy International has accounted for these transactions under purchase accounting and has recoroed its investments and its interest in the affiliates' earnings after the acquisition dates using the equity method. 'the purchase prices were allocated, on a preliminary basis, using the estimated fair market values of the assets acquired and the liabilities assumed as of the dates of acquisition. The differences between the amounts paid and the 56
\s
\
t HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES
\
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) k-i underlying fair values of the net assets acquired are being amortized as a component of earnings attributable to i. l unconsolidated affiliates over the estimated lives of the projects ranging from 30 to 40 years. Purchase price 1l adjustments to fixed assets are being amortized over the underlying assets' estimated useful lives.
,\
(b) CombinedFinancialStatement Data ofEquityinvestments andAdvances to UnconsolidatedSubsidiaries. 1
'Ihe following table sets forth certain summarized finarcial information of the Company's unconsolidated affiliates as of December 31,1998 and 1997 and for the years then ended or periods from the respective affiliates' ,
acquisition date through December 31,1998,1997 and 1996, if shoner: l Year Ended December 31, 1998 1997 19 % (Thousands of Dollars) j income Statement: Revenues ...... . . . . . . . . . ......... S 2,449,335 $ 2,011,927 ~$ 994,743 Operating Expenses = . 1,762,166 1,460,248 768,993 Net income.... . . . . . . . . . . . . 514,005 403,323 149,038 Year Ended December 31, 1998 1997 (Thousands of Dollars) Balance Sheet: Current Assets ... ... . . ... .......... . . . . . ... .. $ 1,841,857 $ 726,997 Noncurrent Assets-- - . . . . . . 13,643,747 5,791,858 Current Liabilities... ..... -
. 4,074,603 566,596 Noncurrent Liabilities . . . . . . . 6,284,821 1,398,385 Owners' Equity.- . .. . . . . . . . . . . 5,126,180 4,553,874 (6) Common Stock At December 31,1998 and 1997 the Compeny had 296,271,063 and 295,357,276 shares of common stock issued, respectively (out of a total of 700,000,000 authorized shares).
At December 31,1998 and 1997, the Company had 284,494,195 and 282,875,266 common shares outstanding,
' respectively. Outstanding common shares exclude (i) shares pledged to secure a loan to the Company's Employee Stock Ownership Plan (11,674,063 and 12,388,551 at December 31,1998 and 1997, respectively) and (ii) treasury shares (102,805 and 93,459 at December 31,1998 and 1997, respectively). At December 31,1998 and 1997, t'.e treasury shares of common stock held by the Company represent shares which were received from holders of Company stock options who surrendered shares of Company common stock as partial payment for the exercise price of their stock options.
In 1998, the Company paid four regular quanerly dividends aggregating $1.50 per share on its common stock pursuant to divid nd declarations made in December 1997, March 1998, June 1998 and September 1998. In December 1998, the Company declared its regular quarterly dividend of $0.375 per share to be paid in March 1999. For information regarding certain restrictions on payments of dividends, see Note 8(c). 57 i
i t HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES
' NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
(7) Preferred and Preference Stock
^(a) PreferredStock.
At December 31,1998 and 1997, the Company had 10,000,000 authorized shares of preferred stock, of which 97,397 shares were outstanding. As of such date, the Company's only outstanding series of preferred stock was its
$4.00 Preferred Stock. De $4.00 Preferred Stock pays an annual dividend of $4.00 per share, is redeemable at $105 per share and has a liquidation price of $100 per share.
(b) PreferenceStock y l l At December 31,- 1998 and 1997, the Company had 10,000,000 authorized shares of preference stock, of which 700,000 shares are classified as Series A Preference Stock and 27,000 shares are classified as Series B Preference
. Stock. As ofDecem ber 31,1998 and 1997, there were no shares of Series A Preference Stock issued and outstanding (such shares being issuable in accordance with the Company's Shareholder Rights Agreement upon the occurrence of certain events). The number of shares of Series B Preference Stock issued and outstanding as of December 31,1998 and 1997 was 17,000. . On March 27,1998, the Company designated 1,575 shares of its preference stock as Series C Preference Stock. As of December 31, 1998, the number of shares of Series C Preference Stock issued and outstanding was 1,575. The shares of Series B and Series C Preference Stock are not ri eemed outstanding for financial reportmg purposes because they are held by wholly owned financing subsidiaries of the Company. See Note 8(c).
Each share of common stock'of the Company includes one associated preference stock purchase right (Company Right). Under certain~ circumstances, each Company Right entitles the registered holder to purchase from the Company a unit consisting of one-thousandth of a share (Fractional Share) of Series A Preference Stock, without par value (Series A Preference Stock), at a purchase price of $42.50 per Fractional Share, subject to adjustments.
~ The shareholder rights plan was adopted liy the shareholders of Former Parent in August 1990 and was assumed by the Company, with certain ame adments, effective upon the Merger.
(8) Long-term Debt and Short-term Borrowings (a) ConsolidatedDebt. He Company's ccasolidated long-term and short-term debt outstanding is summarized in the following table. Of the amount oflong-term and short-term debt outstanding as of December 31,1998, $7. billion represents debt of Resources which was adjusted to fair market value as of the Acquisition Dec. 58 1 L.,.... .
. . . .._ . . . . . . -. . . . . . . .. . . . . . . _ .= . . . . . . _ . . . . . _ . . . . . . _ . . . . _ . _ . .
HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDA TED FINANCIAL STATEMENTS -(Continued) l Consolidated iong-term Debt and Short-term Borrowings (in millions) December 31,1998 December 31,1997 Short-term Borrowing-Commercial Paper.... .. . $ 1,360 $ 1,435 Lines o f Credit ...... ... .. ..... ...... . . .-.. .... .. .. 150 390 Resources Receivables Facility.. .... 300 300 Notes Payables.... . . . - .......... 3 Total Short-term Borrowings= 1,813 2,125 Long-term Debt-net: ACES. -
. $ 2,350 $ 1,174 Debentures (2)(3).. . . . . . . . . 1,482 669 First Mongage Bonds (2)........... ............ 1,866 170 2,495 Pollution Control Bonds ; ............ 581 118 5 Resources Medium-term Noters'1) . .. ... ...... .. 178 _182 79 Notes Payable (3) . 330 226 565 166 Capital Leases .. . . . 14 1 15 1 - Total Long-term Debt... ... . . . . 6,801 397 5,218 251 Total Borrowings ....... .. ..,............$ 6,801 $ 2,210 $ 5,218 $ 2,376 (1) . Includes amounts due within one year of the date noted.
(2) Includes unamortized disec,unt related to debentures of approximately $1 million at December 31,1998 and 1997 and unamortized premium related to debentures of approximately $17 million at December 31,1998. 'Ibe unamortized discount related to first mongage bonds was approximately $10 million and $14 million at Decem' cr 31,1998 and 1997, respectively. (3) Includes unamonized premium related to fair value adjustments of approximately $18.1 million and $15.8 _million for Debentures at December 31,1998 and 1997, respectively. The unamortized premium for Resources long-term and medium-term notes at December 31,1998 was approximately $12 million and $0, respectively, and $0 and $3 million at December 31 1997, respectively. 'Ibe unamonized premium for long-term and current notes payable was approximately $3 million each at December 31,1998 and $14 million and $3 million, respectively at December 31,1997. See Note 1(b). Consolidated maturities 'of long-te:m debt and sinking fund requirements for the Company (including Resources) are approximately $402 million in 1999, $2.8 billion in 2000, $438 million in 2001, $1.9 billion in 2002 and $199 million in 2003. , (b) FirstMortgage Bonds. As of December 31,1998, the Company had an aggregate of $2.0 billion principal amount ofits first mortgage bonds issued and outstanding. Sinking or improvement fund requirements of the Company's first mongage bonds outstanding will be approximately $24 million in 1999, $17 million in 2000, $16 million in 2001 and 2002 and $13 million in 2003. Such requirements may be satisfied by cenification of property additions at 100% of the requirements. Sinking or improvement fund requirements for 1998 and prior years have been satisfied by certification of property additions. The Company has agreed to expend an amount each year for repitaements and improvements in respect ofits depreciable mortgaged utility property equal to $1,450,000 plus 2% of net additic'ts to such mongaged property made after March 31,1948 and before July 1 of the preceding year. Such requirement may be met with cash, first 59
IIOUSTON INDUSTRIES INCORPORATED d/b/a REL-lANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCI AL STATEMENTS -(Continued) mortgage bonds, gross property additions or expenditures for repairs or replacements, on by taking credit for property additions at 100% of the requirements. The replacement fund recuirement i to be satisfied in 1999 is approximately $316.6 million. l The amount of tne first mortgage bonds that may be issued by the Company is unlimited as to issuance, but limited by property, earnings and other provisions of the Mortgage and Deed of Trust dated as of November 1,1944, between the Company and South Texas Commercial National Bank of 1:ouston (Chase Bank of Texas, National Association, as Successor Trustee) and the supplemental indentures thereto. Substantially all physical assets used in the conduct of the business and operations of Electric Operations are subject to tiens securing the long-term debt under the mortgage. (c) FinanceCo and FinanceCo 11 Credit Facilities. In August 1997, a limited partnership special purpose subsidiary of the Company (FinanceCo) established a five-year, $1.644 billion revolving credit facility (FinanceCo Facility). The FinanceCo Facility suppor'ed $1.360 billion in commercial paper borrcwings by FinanceCo at December 31, 1998 recorded as notes payable on the Company's Consolidated Balance Sheet. The weighted average interest rate of these borrowings was 5.88% at December 31,1998 and 6.15% at December 31,1997. Borrowings under the FinanceCo Facility bear interes; at a rate based upon the London interbank otTered rate (LIBOR) plus a margin, a base rate or at a rate determined through a bidding process. He FinanceCo Facility may be used (i) to support the issuance of commercial paper or other shon-term indebtedness of FinanceCo, (ii) subject to certain limitations, to finance purchases of Company common stock and (iii) subject to certain limitations, to provide funds for general purposes of FinanceCo, including the making of intercompany loans to, or securing letters of credit for the benefit of, FinanceCo's affiliates. The FinanceCo Facility requires the Company to maintain a ratio of consolidated indebtedness for borrowed money to consolidated capitalization (as defined) that does not exceed 0.65:1.00. The FinanceCo Facility also contains restrictions applicable to the Company and certain ofits subsidiaries with respect to, among other things, (i) liens, (ii) consolidations, mergers and dispositions of assets, (iii) dividends and purchases of common stock, (iv) certain types of investments and (v) certain changes in its business. The FinanceCo Facility contains customary covenants and default provisions applicable to FinanceCo and its subsidiaries, including limitations on, among other things, additional indebtedness (ether than certain permitted indebtedness), liens and certain investments or loans. Subject to certain conditions and limitations, the Company is required to make cash payments from time to time to FinanceCo frem excess cash flow (as defined in the FinanceCo Facility) to the extent necessary to enable FinanceCo to meet its financial obligations. At December 31,1998, commercial paper supported by the FinanceCo Facility was secured by pledges of(i) all of the limited and general partner interests of FinanceCo,(ii) the Seri:s B Preference Stock and (iii) certain intercompany notes held by FinanceCo. He obligations under the FinanceCo Facility are not secured by the utility assets of the Company or Resources or by the Company's investment in Time Warner securities. In March 1998, a limited partnership special purpose subsidiary of the Company (FinanceCo II) executed a
$150 million credit agreement (FinanceCo 11 Facility) which terminated March 2,1999. Proceeds from $150 million of borrowings under the FinanceCo 11 Facility were used to fund a portica of the April 1998 purchase by Reliant Energy Power Generation,Inc. (Power Generation) of four electric generation plants. Borrowings under the FinanceCo II Facility bore interest at LIBOR-based and negotiated rates. At December 31,1998, FinanceCo II had
$150 million of borrowings under this facility at an interest rate of 5.75%. In March 1999, the $150 million of j borrowings under the FinanceCo 11 facility were paid at maturity with borrowings under the FinanceCo facility.
60
IIOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) revolving credit facility with a five-year $350 million revolving credit facility (Resources Credit Facility). Borrowings under the Resources Credit Facility are unsecured and bear interest at a rate based upon either LIBOR plus a margin, a base rate or a rate detennined through a bidding process. The Resources Credit Facility is t; sed to support Resources' issuance of up to $350 million of cormnercial paper. Here were no commercial paper borrowings and no loans outstanding under the Resources Credit Facility at December 31,1998. Borrowings under Resources' prior credit facility at December 31,1997 were $340 million. In addition, Resources had $50 million of outstanding loans under uncommitted lines of credit at December 31,1997 having a weighted average interest of 6.829 %. A $65 million committed bank facility under which Resources obtained letters of credit and all of Resources' uncommitted lines of credit were terminated in 1998. Subsequent to the December 1998 termination, Resources obtained letters of credit under an uncommitted line. Resources expects to amend the Resources Credit Facility in March 1999 to add a $65 million letter of credit subfacility, Under a trade receivables facility (Receivables Facility) which expires in August 1999, Resources sells, with limited recourse, an undivided interest (limited to a maximum of $300 million) in a designated pool of its and certain of its subsidiaries' accounts receivable. He amount of receivables sold and uncollected was $300 million at December 31,1998 and 1997, respectively. The weighted average interest rate was approximately 5.54% and 5.65% at December 31,1993 and 1997, respectively. Certain of the remaining receivables serve as collateral for receivables sold and represent the maximum exposure to Resources should all receivables sold prove ultimately uncollectible. Resources has retained servicing responsibility under the Receivables Facility for which it is paid a servicing fee. Pursuant to SFAS No.125, " Accounting for Transfers and Servicing of Financial Assets and Extinguishments Liabilities" (SFAS No.125), the receivables are recorded as assets and amounts received by Resources under the Receivables Facility are recorded as notes payable, j j (h) Resources Long-term Debt. , At December 31,1998, Resources had issued and outstanding $109.6 million aggregate principal amount of its 6% Convertible Subordinated Debentures due 2012 (Subordinated Debentures). He holders of the Subordinated Debentures receive interest quarterly and have the right at any time on or before the maturity date thereof to convert ( each Subordinated Debenture into 0.65 shares of Company common stock and $14.24 in cash. Resources is required to make annual sinking fund payments of $6.5 million on the Subordinated Debentures, which began on March 15,1997 and on each succeeding March 15 up to and including March 15,2011. Resources (i) may credit against the sinking fund requirements acy Subordinated Debentures redeemed by Resources and Subordinated Debentures which have been converted at the option of the holder and (ii) may deliver purchased Subordinated Debentures in satisfaction of the sinkirg fund requirements. During 1998, Resources purchased $6.7 million aggregate principal amount ofits Subordinated Debentures at an average purchase price of 97.3% of the aggregate principal amount plus accrued interest. In Febmary 1998, Resources issued $300 million principal amount of 6.5% debentures due February 1,2008. He proceeds from the sale of the debentures were used to repay short-tenn indebtedness of Resoarces, including the iadebtedness incurred in connection with the 1997 purchase of $101 million aggregate principal amount of its 10% debentures and the repayment of $53 million aggregate principal amount of Resources debt that matured in December 1997 and January 1998. In connection with the issuance of the 6.5% debentures, Resources received approximately $1 million upon unwinding a $300 million treasury rate lock agreement, which was tied to the interest rate on 1.hycar treasury bonds. He rate lock agreement was executed in January 1998, and proceeds from the unwind will be amortized over the 10 year life of Resources' 6.5% debentures. 62
HOUSTON INDUSTRIES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) (d) Company Credit Facility. The Company meets its short-term financing needs primarily through sales of commercial paper supported by a
$200 million revolving credit facility. Borrowings under the facility are unsecured and a facility fee is paid. At December 31,1998, there was no outstanding commercial paper and there were no outstanding borrowings under the bank facility.
(c) ACES. For information regarding the Company's ACES, including certain accounting losses that may result upon increases in the price of Time Warner common stock, see Note 1(n). (f) Pollution ControlRevenue Bonds. In January 1998, the Matagorda County Navigation District Number One (MCND) issued on behalf of the Company $104.7 million aggregate principal amount of pollution control revenue refunding bonds ($29.7 million at 5.25% and $75 million at 5.15%). The MCND bonds will mature in 2029. Proceeds from the issuance were used in February 1998 to redeem all outstanding 7 7/8% MCND Series 1989A pollution control revenue bonds ($29.7 million) and 7.70% MCND Series 1989B pollution control revenue bonds ($75 milli *) at a redemption price of 102% of the aggregate principal amount of each series. In February 1998, the Brazos River Authority (BRA) issued on behalf of the Company $290 million aggregate principal amount of pollution control revenue refunding bonds. The BRA bonds will mature in May 2019 ($200 million at 51/8%) and November 2020 ($90 million at 51/8%). Proceeds from the issuance were used in May 1998 to redeem all outstanding 8.25% BRA Series 1988A pollution control revenue bonds ($100 million),8.25% BRA Series 1988B pollution control revenue bonds ($90 million) and 8.10% BRA Series 1988C pollution control revenue bonds ($100 million) at a redemption price of 102% of the aggregate principal amount of each series. In June 1998, the Company repaid at maturity $5 million ofits floating-rate pollution contal revenue bonds issued on its behalf. In Septembee 1998, pollution control revenue refunding bonds aggregating $68.7 million were issued on behalf of the Company by the BRA. The bonds bear an interest rate of 4.9% and mature in October 2015. Proceeds from the issuance were used in October 1998 to redeem $68.7 million principal amount of the 7 %% BRA Series 1988D
. pollution control bonds at a redemption price of 102% of the aggregate principal amount. ' In November 1998, the Company changed the interest rate determination method for (i) the MCND Series 1997 pollution control revenue refunding bonds due November 2028 ($68 million aggregate principal amount outstanding) and (ii) the BRA Series 1997 pollution control revenue refunding bonds due November 2018 ($50 million aggregate principal amount outstanding). The method by which interest on the bonds is determined changed from a floating rate mode to a long-term fixed rate mode. 'the interest rate for the MCND Series 1997 bonds will be 51/8% until maturity of the bonds, and the interest rate for the BRA Series 1997 bonds will be 5.05% until maturity of the bonds. The MCND and BRA Series 1997 bonds, which were issued in January 1997, were mandatorily tendered in November 1998 in connection with the change in the interest rate determination method. 'Ihe purchase ;
price of the tendered bonds (100% of the:r principal amount plus accrued interest) was funded with the proceeds from a remarketing of the fixed-rate bonds.
'(g) Resources Credit Facilities. j In 1998, Resources met its short-term financing needs primarily through a bank facility, bank lines of credit, a receivables facility and the issuance of commercial paper. In March 1998, Resources replaced its $400 million 61 l L l
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l HOUSTON INDUSTRIES INCORPORATED d/h/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- IContbued) During 1998, Resources repaid the following medium-term notes at maturity Series Prireipal Amount (Millions of DoHars) 9.30% due January 15,1998 $ l.0 8.74% due May 14,1998 20.0 8.76% due May 14,1998 5.0 8.73% due May 15,1998 3.0 9.07% due July 20,1998 15.0 8.60% due September 1,1998 3.0 8.58% due September 1,1998 5.0 8.64% due September 4,1998 12.5 8.50% due September 14,1998 0.5 8.60% due September 15,1998 6.0 8.43% due September 17,1998 5.0 i Total $ 76.0 j i In November 1998, Resources sold $500 million aggregate principal amount of its 6 3/8% Term Enhanced i ReMarketable Securities (TERM Notes). Included within the TERM Notes is an embedded option sold to an Investment bank which gives the investment bank the right to remarket the TERM Notes in 2003 ifit chooses to ' exercise the option. The net proceeds of $514 million from the offering of the TERM Notes were used for general corporate purposes, including the repayment of(i) $178.5 million of Resources' outstanding commercial paper and j (ii) a $150 million term loan of Resources that matured on November 13,1998. ne TERM Notes are unsecured ' obligations of Resources which bear interest at an annual rate of 6 3/8% through November 1,2003. On November 1,2003, the holders of the TERM Notes are required to tender their notes at 100% of their principal amount. He pcation of the proceeds attributable to the option premium will be amortized over the stated term of the securities. If the option is not exercised, Resources will repurchase the TERM Notes at 100% of their principal amount on November 1,2003. If the option is exercised, the TERM Notes will be remarketed on a date, selected by Resources,
)
within the 52-week period beginning November 1,2003. During such period and prior to remarketing, the TERM ! Notes will bear interest at rates, adjusted weekly, based on an index selected by Resources. If the TERM Notes are remarketed, the final maturity date of the TERM Notes will be November 1,2013, subject to adjustment, and the effective interest rate on the remarketed TERM Notes will be 5.66% plus Resources' applicable credit spread at the time ofsuch remarketing. (i) Restrictions on Resources' Debt. Under the provisions of Resources Credit Facility, Resources' total debt is limited to 55% of its total capitalization. At Deceraber 31,1998, this provision did not significantly restrict Resources' ability to issue debt or to pay dividends. At December 31,1998, Resources ratio of total debt to total capitalization was 40.13%. (j) Reliant EnergyInternationalDebt. In 1996, a subsidiary of Reliant Energy International entered into a $167.5 million loan agreement in order to refinance a portion of the acquisition costs of Light. The full proceeds of the loan, net of a $17.5 miilion debt reserve account established for the benefit of the lenders, were funded in April 1997. The loan (included in Long-te m debt) is secured by, among other things, a pledge of the shares of Light and of a subsidiary of Reliant Energy International that is the indirect holder of the shares of Light. 63
i 4- HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES i NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) (9) Trust Securities , l
.(a) Company. (
l' In February 1997, two Delaware statutory business trusts (Reliant Trusts) established by the Company issued (i)
$250 million of preferred securities and (ii) $100 million of capital securities, respectively. He preferred securities have a distribution rate of 8.125% payable quarterly in arrears, a stated liquidation amount of $25 per preferred security and must be redeemed by March 2046. He capital securities have a distribution rate of 8.257% payable
- quarterly in arrears, a stated liquidation amount of $1,000 per capital security and must be redeemed by February 2037.. .
He Reliant Trusts sold tl a preferred and capital securities to the public and used the proceeds to purchase $350 million aggregate principal amount of subordinated debentures (Debentures) from the Company having interest rates corresponding to the distribution rates of the securities _and maturity dates corresponding to the mandatory redemption dates of the securities. The Reliant Trusts are accounted for as wholly owned consolidated subsidiaries of the Company. De Debentures represent the Reliant Trusts' sole assets and its entire operations. The Company has fully and unconditionally guaranteed, on a subordinated basis, each Trust's obligations, including the payment of distributions and all other payments due with respect to the respective preferred and capital securities. The preferred and capital securities are mandatorily redeem 6ble upon the repayment of the related Debentures at their stated maturity or earlier redemption. Subject to censin limitations, the Company has the option of deferring payments of interest on the Debentures held by the Reliant Trusts, if and for as long as interest payments on the Debentures have been deferred, or an event of default under the indenture relcting thereto has occurred and is continuing, the Company may not pay dividends on its capital stock. As of December 31,1998, no interest payments on the Debentures had been deferred. (b) Resources. In June 1996, a Delaware statutory business trust (Resources Trust) established by Resources issued in a public offering $172.5 million of convertible preferred securities and sold approximately $5.3 million of Resources Trust common securities (106,720 securities, represent ing 100% of the Resources Trust's common equity) to Resources. I i The convertible preferred securities have a distribution rate of 6.25% payable quarterly in arrears, a stated liquidation amount of $50 per convertible preferred security and must be redeemed by 2026. he Resources Trust sold the convertible preferred securities to the public and used the proceeds, in addition to the common securities proceeds, to purchase $177.8 million of 6.25% Convertible Junior Subordinated Debentures from Resources, which Debentures have an interest rate corresponding to the distribution rate of the convertible preferred securities and a maturity date corresponding to the mandatory redemption date of the convertible preferred securities. The Resources Trust is accounted for as a wholly owned consolidated subsidiary of Resources. The junior subordinated debentures represent.the sole assets of the Resources Trust and its entire operations. Resources has fully and unconditionally guaranteed,' on a subordinated basis, the Resources Trust's obligations,~ including the payment of distributions and all other payments, with respect to the convenible preferred securities. The convertible preferred securities are mandatorily redeemable upon the repayment of the related junior subordinated debentures at their stated maturity or earlier redemption. Each convertible preferred security is converti9 at the option of the holder into $33.62 of cash and 1.55 shares of Company common stock. Duiing 1998, convertible preferred securities j
. aggregating $15.5 million were converted, leaving $0.9 million liquidation amount of convertible preferred securities outstanding at December 31,1998.
64
J 1 HOUSTON INDUSTRIES INCORPORATED l d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) Subjecho certain limitations, Resources has the option of deferring payments ofinterest on the debentures held J by the Resources Trust. If and for as long as interest payments on the debentures have been deferred, or on event of l default under the indenture relating thereto has occurred and is continuing, Resources may not pay dividends on its capital stock. As of December 31,1998, no interest payments on the debentures had been deferred.
- (10) Stock-Based Incentive Compensation Plans and Retirement Plans )
)
~ (a) Incentive Compensation Plans.
. 4 The Company has Long Term incentive Compensation Plans (LICP) and other incentive compensation plans that provide for the issuance of stock-based incentives (including performance-based stock compensation and restricted shares, stock options and stock appreciation rights) to key employees of the Company, including officers.
. As of December 31, 1998, 273 current and former employees participated in the plans. A maximum of approximately 9 million shares of common stock may be issued under these plans. Under the LICP, beginning one j year after the grant date, the options become exercisable in one-third increments each year. Performance-based stock '
. compensation issued and restricted shares granted were 98,413 in 1998,704,865 in 1997 and 69,905 in 1996. i Stock option activity for the years 1996 through 1998 is summarized below:
Weighted Average l Number Price at Date of ofShares Great or Exercise Outstanding at December 3 1, 1995 . ... ................. ............... 411,342 $ 21.1414 Options Granted - ...;- . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. 101,798 $ 24.375 Options Exercised ....... ........ . ...... . . . . . . . . . . . . . . . . . . . . . (574) $ 17.75 Options Withheld for Taxes ... ................................................ (90) Options Canceled............. .........._- . . . . . . . . . . . . . . . . . . . . . . . (13,824) Outstanding at December 31,1996 - ...................... ..~........... 498,652 $ 21.7796 Options Granted......... . . . .m.................... ......... 382,954 $ 21.0673 Options Converted at Acquisition (l)................. . .. ..... . . . . . . . 622,504 $ 12.9002 Options Exercised (l) . ............ . . . . .. . (281,053) $ 9.2063 Options Withheld for Taxes ... . . . . . . ... . . . . . . . . . . . . . . . . (72) Options Canceled. . ..... .... . . . . . . ~ . . . . . . . . . . . . . . . (!48,418)
. Outstanding at December 3 1, 199 7 ... ...... ..................~... .. 1,074,567 $ 19.0728 Options Granted . . . . .. . . . . . . . . . . . .. .............. 2,243,535 $ 26.3112 Options Exercised ( l ) .. .... .. ., ... ...... .. ... .... ... .. .. . . ... .. ... .... . ....... . ....... (287,591) $ 15.6576
, , ~ Option Withheld for Taxes .... ........... ...... ... ............ .. .. (6,854) Options Canceled... .... .... ... . . . . . . .................................. (78,003)
' Outstanding at December 31,1998............................................. 2,945,654 $ 24.8668 Number Range of Esercise of Shares Prices Exercisable at:
1 December 31, 199 8..... ... . .... ... .... ... .. . . . . . . . . . . . . . . . . . . 531,855 $ . 7.00-35.18 December 31,1997................................................ 645,304 $ 7.00-35.18 December 3 1, 1996..... .... ... . ...... .. .... . . .. .. .. .... ..... . . . . . . . . . . 280,270 $ 17,75-23.25 (1) Effective upon the Merger, each holder of an unexpired Resources stock option, whether or not then exercisable, was entitled to elect to either (i) have all or any portion of their Resources stock options canceled -
.and " cashed out" or (ii) have all or any portion of their Resources stock options converted to the Company's stock options 'Ihere were 828,297 Resources stock options converted into 622,504 of the Company's stock i
65
IlOUSTON INDUSTRIES INCORPORATED l d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES I NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) options at the Acquisition Date. Options exercised during 1998 and 1997 included approximately 210,000 and 277,000 shares, respectively, related to Resources stock options which were converted at the Merger. EfTective January 1,1996, the Company adopted SFAS No.123," Accounting for Stock-Based Compensation" (SFAS No.123). In accordance with SFAS No.123, the Company will continue to apply the existing rules contained in Accounting Principles Opinion No. 25," Accounting for Stock issued to Employees," and disclose the required pro forma effett on net ircome and earnings per share of the fair value based method of accounting for stock compensation as required by SFAS No.123. He following pro forma summary of the Company's consolidated results of operations has been prepared as if the fair value based method of accounting for employee stock compensation required by SFAS No.123 had been applied: 1998 1997 1996 (Thousands of DoHars, except per share data) Net income (Loss) available for common stock as reported. - $ (141,482) $ 420,948 $ 404,944 SFAS No.123 effhet.. . ... ... .. . (6,383) (2,374) (1,098) Pro forma Net ' come (Loss) availabic for common stock : $ (147,865) S 418.574 $ 403,846 Pro forma Basic Earnings per Common Share . =$ (.50) $ 1.66 $ 1.66 Pro forma Diluted Earnings per Common Share .. (.52) 1.65 1.66 The fair value of options granted during 1996,1997 and 1998 was calculated using the Black-Scholes model, ne significant assumptions incorporated in the Black-Scholes model in estimating the fair value of the options include (i) an interest rate of 5.65% for 1996,6.58% for 1997 and 5.65% for 1998 that represents the interest rate on a U.S. Treasury security with a maturity date corresponding with the option term, (ii) an option tenn of ten years, (iii) volatility of ) $.713% for 1996,22.06% for 1997 and 24.01% for 1998 calculated using daily stock prices for the period prior to the grant date and (iv) expected common dividends of $1.50 per share representing annualized dividends at the date of grant. (b) Pension. The Company has a noncontributory retirement plan which covers the employees of ti. smpany and its . subsidiaries other than Resources. Resources hs two noncontributory retirement plans: (i) the plan which covers the
- employees of Resources other than Minnegasco employees and (ii) the plan which covers Minnegasco employees.
He plans provide retirement benefits based on years of service and compensation. The Company's and Resources' funding policy is to contribute amounts annually in accordance with applicable regulations in order to achieve ; adequate funding of projected benefit obligations. The assets of the plans consist principally of common stocks and l high-quality, interest-bearing obligations. He net periodic pension costs, prepaid pension costs and benefit obligation have been determined separately for each plan. In 1998, the Company adopted SFAS No.132, " Employers' Disclosures about Pensions and Other Postretirement Benefits"(SFAs No.132). SFAS No.132 revises employers' disclosures about pension and other postretirement benefit plans. It does not change the measurement or recognition of those plans. 66
N r b_ HOUSTON INDUSTRIES INCORPORATED j d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES = b NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) j Net pension cost for the Company attributable to continuing operations includes the following components: h Year Ended December 31, n 1998 1997 1996 5 f: lousand of Dollars) Service cost - benefits earned during the period . . -$ 33,436 $ 26,848 $ 24,392 ' Interest cost on projected benefit obligation... 85,132 67,641 51,560
- Expected (return) loss on plan assets . . (121,196) (86,372) (57,818) i -
Net amortization .. . . . 6 6 6 Met pension cost.- . . (2,622) 8,123 18,140 E Transfer of obligation to STPNOC "
. (6,077)
SFAS No. 88 - curtailment expense.. . 12,947 12,698 Total pension cost ............ ....... ... . .... ... $ (2,622) $ 14,993 $ 30,838 i I - Following are reconciliations of the Company's beginning and ending balances of its retirement plan benefit obligation, plan assets and funded status for 1998 and 1997. 5 Year ended December 31, 1998 1997 -~_- (Thousands of Dollars) y Change in Benefit Obligation 4 Benefit obligation, beginning ofyear.. ....... $ 1,246,582 5 756,597 3 Service cost - Interest cost
. 33,436 85,132 26,848 Jm
.............. . . 67,641 Benefits paid......... .. .......... ....... ........ . (69,182) (71,924) j Plan amendments . ..... ..... .. .. . . . . . . . . . . . . (161,326) 2 Aequisitions and divestitures......... .. .. . 439,545 -a Actuarial (gain) loss - .......-........ ... . 254,802 27,875 3 Benefit obligation, end of year........ ..... . $ 1,389,444 _ $ 1,246,582 5 "I
Change in Plan Assets j Plan asset, beginnir.g of year... ......_. . . . . . . . . . 1,304,023 675,401 - Benefits paid... ...... . .. . . = ... (69,182) (71,924) J Employer contributions.. ...... . 47,406 41,332 3
. Acquisitions and divestitures- .. 534,692 4 Actual investment return ... .. . ........... 147,635 124,522 E Plan assets, end ofyear : $ 1,429,882 $ 1,304,023
)
il Reconciliation of Funded Status Funded statusz . . . . 40,438 57,441 5 Unrecognized transition (asset) or obligation (7,205) (9,008) $ Unrecognized prior service cost.......... ...... .. (148,400) 14,734 3 Unrecognized actuarial (gain) loss......... ..... . . . . . ...... . . . . . . . 240,864 12,501 q Net amount recog tized.... ...... . . . . . . . $ 125,697 $ 75,668 . Qll 8 i e ma w 67 f l l 9 a
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p HOUSTON INDUSTRIES I <CORPORATED I d/b/a RELIANT ENERGY,1NCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued; I Amounts recognized in the Company's Consolidated Balance Sheet consist of: Year ended December 31, 1998 1997 (Thousands of Dollare Prepaid benefit cost.. .. . .. .. .... . . . $ 125,697 $ 95,815 Accrued benefitliability . . (20,147) Net amount recognized. .. . $ 125.697 $ 75.668 The benefit obligation was determined using an assumed discount rate of 6.50% in 1998 and 7.25% in 1997 and 1996. A long-term annual rate of compensati m increase ranging from 3.5% to 5.5% in 1998 and 4% to 6% in 1997 and 1996 was assumed for both the Compar.y and Resources plans, respectively, ne assumed long-term rate of return on plan assets was 10% in 1998 and 9.5% in 1997 and 1996 (10% for the Resources plans in 1997). The transitional asset at January 1,1986, is being recognized over approximately 17 years, and the prior service cost is being recognized over approximately 15 years for the Company's plan. He unrecognized transitional asset, prior service cost and net (gain) or loss related to the Resources' plans were recognized at the Acquisition Date. Pursuant to SFAS No. 71, the Company's deferred costs associated with the increases in its benefit obligations related to a 1995 carly retirement incentive program were amortized through the period ending December 31,1997. In 1997 and 1996, the Company amortized $12.9 million and $12.7 million, respectively, of those costs as a curtailment under SFAS No. 88, " Employers' Accounting for Sett!cments and Curtailments of Defined Benefit Pension Plans and for Termination Benefits" (SFAS No. 88), with regards to the Company's early retirement program. o. In 1998, the Company's board of directors approved an amendment, effective January 1,1999, which converted the present value of the accrued benefits under the existing pension plans into a cash balance pension plan. Under the cash balance formula, each participarit has an account, for recordkeeping purposes only, to which credits are allocated annually based on a percentage of the participant's pay. He applicable percentage is 4%. ne purpose of the plan change is to continue to provide uniform retirement income benefits across all employee groups, which are competitive both within the utility industry as well as with other companies within the United States. He Company will continue to reflect the costs of the pension plan according to the provisions of SFAS No. 87, as amended by SFAS No.132. As a result of the January 1,1999, amendment, which is reflected in the December 31,1998 disclosure, the Company's benefit obligation decruled $161 million. He plan amendment had no impact on 1998 expense. he actuarial loss is ate to ch .nges in certain actuarial assumptions. (c) Savings Plan. De Company has an employee savings plan that qualifies as cash or deferred arrangements under Section 401(k) of the Internal Revenue Code of 1986, as amended (IRC). Under the plan, participating employees may contribute a portion of their compensation, pretax or after-tax, up to a maximum of 16% of compensation limited by an annual deferral limit ($10,000 for calendar year 1998) prescribed by IRC Section 402(g) and the IRC Section 415 annual additions limits. nrough 1998, the Comprny matched 70% of the first 6% of each employee's compensation contributed, subject to a vesting schedule which entitled the employee to a percentage of the matching contributions
. depending on years of service. Substantially all of the Company's match is invested in the Company's common stock.
68 { 4 m
IIOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) In October 1990, the Company amended its savings plan to add a leveraged Employee Stock Ownership Plan (ESOP) component. De Company miy use ESOP shares to satisfy its obligation to make matching contributions under Ge savings plan. Debt service on the ESOP loan is paid using all dividends on shares in the ESOP, interest earnings on funds held in the ESOP and cash contributions by the Company. Shares of the Company's common stock are released from the encumbrance of the ESOP loan based on the proportion of debt service paid during the period. As provided for under Statement of Position 93-6 (SOP 93-6), the Company recognizes benefit expense for the l ESOP equal to the fair value of the ESOP shares committed to be released. In accordance with SOP 93-6, the i Company credits to unearned ESOP sharcs the original purchase price of ESOP shares committed to be released to plan participants with tae difference krween the fair value of the shares and the original purchase price recorded to common stock. Dividends on allocated ESOP shares are recorded as a reduction to retained earnings; dividends on unallocated ESOP shares are recorded as a reduction of debt or accrued interest on the SSOP loan. The Company's savings plan benefit expense attributable to operations was $13.8 million, $18.4 million and $16.0 million in 1998,1997 and 1996, respectively. The ESOP shares were as follows: December 3 , 1998 1997 Allocated shares transferred / distributed from the Savings Plan (l) . . 4 . 1,916,508 1,920,406 Allocated shares.. . . . . . . 5,171,613 4,453,227 Uncamed shares.... .. . . . . , . . . . . . . . 11,674,063 12,388,551 Total original ESOP shares.; . I8,762,184 18,762.184 Fair value of uneamed ESOP shares : . S 374,270,460 $ 331,393,739 (1) 1,102,203 allocated shares transferred are related to shares transferred to STPNOC in December 1997. Resources has an employee savings plan (Resources Savings Plan) which covers substantially all emnloyees other than Reliant Energy Minnegasco employees. Under the terms of the Resources Savings Plan, employees may contribute up to 12% of total compensation, which contributions up to 6% are matched by the Company. The Reliant Energy Minnegasco employees are covered by a savings plan, the terms of which are somewhat similar to . the Resources Savings Plan. Employer contributions related to the Resources and Reliant Energy Minnegasco j Savings Plan were $10.8 million and $3.7 million in 1998 and 1997 since the Acquisition Date, respectively. l (d) Postretirement Benefits. l The Company and Resources record the liability for postretirement benefit plans other e an pensions (primarily health care) under SFAS No.106, " Employer's Accounting for Postretirement Benefits Other Than Pensions" (SFAS No.106). He Company is amortizing over a 22 year period approximately $213 million to cover the " transition cost" of adopting SFAS No.106 (i.e., the Company's liability for postretirement benefits payable with respect to employee service years accrued prior to the adoption of SFAS No.106). The unrecognized transitional asset and net (gain) loss related to the Resources plans were recognized at the Acquisition Date. As provided in the 1995 Rate Case Settlement, Electric Operations is required to fund during each year in an irrevocable external trust approximately $22 million of postretirement benefit costs which are included in its rates. Reliant Energy Minnegasco is required to fund postrctirement benefit costs for the amount included in its rates. The Company and Resources, excluding Electric Operations and Reliant Energy Minnegasco, will continue funding their i postretirement benefits on a pay-as-you go basis, i 69
F HOUSTON INDUSTklES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) Following are reconciliations of the Company's beginning and ending balances ofits postretirement benefit plans benefit obligation, pian assets and funded status for 1998 and 1997. Year ended Decernber 31, 199s 1997 (Thousands of Dollars) Change in Benefit Obligation Benefit obligation, beginning of year- . . . . . . . . . . . $ 269,531 $ 144,275 Service cost. . . .. 8,060 8,927 Interest cost. ... . . . . . . - . . . . . . . . . . . . . . . . . . . . 17,270 14,176 Benefits paid...... . . . . . . . . . . .... . ... . . . . (20,662) (11,963) Participant contributions ... .. =, 2,960 1,591 Plan amendments .. .. . ,, 98,918 Acquisitions ......... -.................. . . . . . I15,721 Divestitures . .. .......... .. . . . . . . . . (10,277) Actuarial (gain) loss . . ~ . . . . . . . . . .. . . 33,734 7,081 Benefit obligation,end of year $ 409,811 $ 269,53! Change in Plan Assets Plan asset, beginning of year.. .... .. ... . . . . . . . . . . . . . . .~. $ 56,340 $ 38,493 Benefits paid... . .. ....... ..... . . . . . . . . . . . (20,662) (11,%3) Employer contributions... . 32,889 18,440 Participant contributions. . . . . . . . . . . . . . . . . . 2,960 1,591 Acquisitions.... .. ... ... ... . ... ... . . ... .. . . . .. 2,909 Divestitures .... .. .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. (6,000)
, Actual investment retum.. . .. ...
12,541 12,870 Plan assets, end of year ; . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 84,068 $ 56,340 Reconciliation of Funded Status Funded status........... ...-... ...... . . ..... ... . $ (325,743) $ (213,191)
' Unrecognized transition (asse6 or obligation........ . . . . . . . 144,046 153,175 Unrecognized prior service cost....... . . . . . ........ 98,918 Unrecogniz:d actuarial (gain) loss. . . ...-. .. . . ..-.~. . . . . . . . . . (61,530) (94,531)
Net amount recognized at end ofyear . . . . $ (144.309) $ (154,547) The assumed health care cost trend rates used in measuring tne postretirement benefit obligation in 1998 are as follows: Medical- under 65.. ... . . 6.0 % Medical- 65 and over.... .. . . .6.7% The assumed health care rates gradually decline to 5.4% for both medical categories by 2001. The accumulated postretirement benefit obligation was determined using an assumed discount rate of 6.5% for 1998 and 7.25% for 1997. A long-tenn annual rate of compensation increase ranging from 3.5% to 5.5% and 4.0% to 6.0% was , i assumed in 1998 and 1997, respectively. De assumed long-term rate of return on plan assets was 10% in 1998 and 1 9.5% in 1997. If the health care cost trend rat assumptions were increased by 1%, the accumulated postretirement benefit obligation as of December 31, 1998 would be increased by approximately 4.7%. He annual effect of the 1% 70 1
HOUSTON INDUSTRIES INCORPORATED d'L/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) increase on the total of the service and interest costs would be an increase of approximately 5.1%. If the healthcare cost trend rate assumptions were u creased by 1%, the accumulated postretirement benefit obligation as of December 31,1998 would be decreased by approximately 4.3%. ne annual effect of the 1% decrease on the total of the service and interest costs would be a decrease of 4.6%. In 1998, the Company's board of directors approved an amendment, effective January 1,1999, which created an account balance based on credited service at December 31,1998. Under the new plan, each participant has an account, for recordkeeping purposes only, to which a $750 credit is allocated annually, nis account balance vests after 5 years of service after age 50. At mtirement the account balance can be used to purchase medical benefits. It may not be taken as cash. He purpose of the plan change as to continue to provide uniform retiree medical benefits across all etapioyee groups, which are competitive both within the utility industry as well as with other companies within the United States, ne Company will continue to reflect the costs of the retiree medical plan according to the provisions of SFAS No.106 as amended l'y SFAS No.132. As a result of the January 1,1999 amendment, which is reflected in the December 31,1998 disclosure, the Company's benefit obligation increased $99 million. He plan amendment had no impact on 1998 expense. The actuarial loss is due to changes in certain actuarial assumptions. (e) Postemployment Benefits. l The Company records postemployment benefits based on SFAS No.112, " Employer's Accounting for ! Postemployment Benefits," which requires the recognition of a liability for benefits provided to former or inactive employees, their beneficiaries and covered dependents, after employment but before retirement (primarily health care and life insurance benefits for participants in the long-term disability plan). Net postemployment benefit costs were not materialin 1998,1997 and 1996. o (II) Income Taxes The Company records income taxes under SFAS No.109," Accounting for Income Taxes"(SFAS No.109), which, among other things, (i) requires that the liability method be used in computing deferred taxes on all temporary differences between book and tax bases of assets other than nondeductible goodwill; (ii) requires that deferred tax liabilities and assets b adjusted for an enacted change in tax laws or rates; and (iii) prohibits net-of-tax accounting and reporting. SFAS No.109 requires that regulated enterprises recognize such adjustments as regulatory assets or liabilities if it is probable that such amounts will be recovered from or returned to customers in future rates. The Company's current and deferred components of income tax expense (benefit) are as follows: Year Ended December 31, 1998 1997 1996 fThousands of DoHars) Current ..... . S 439,322 $ 199,011 $ 150,658 Deferred.. . . . . . . . . . . . . . . . . . (469,754) 7,363 49,507 income taxes . . . . . . . . . . . S (30,432) $ 206,374 $ 200,165 71
HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) I j
. The Company's effective income tax rates are lower than statutory corporate rates for each year as follows:
Year Ended December 31, 1998 1997 1996 ' (Thousands of Dollars)
. $ (171,524) $ 627,484 $ 605,109 Income (loss) before income taxes... . . . ....... 2,255 22,563 Preferred dividends of subsidiary......... ... . . . . .
. (171,524) 629,739 ' 627,672 Total . .................... .
35% 35 % 35 % Statutory rate ... ..........~... . 219,685
................... (60,033) 220,409 income taxes at statutory rate.. .
Net addition (reduction) in taxes resulting from: 16,853 (9) State income taxes, net of federal income tax benefit.. ..
... . . (20,123) (19,777) ()8,404)
Amortization ofinvestment tax credit __ (5,570) (4,331) (4,011) Excess deferred taxes - - Difference between book and tax depreciation for which deferred
.. 37,069 27,466 22,638 taxes have not been nonnalized. . . . . . . . . . .
(10,194) (980) (5,075) Equity dividend exclusion... ... .. . .. (17,011) (5,936) (23,24!) Equity income - foreign affiliates .. . . . . 7,242 18,049 Goodwill . - _ 5,985 (1,301) (3,293) Other- net. .. . . . . . . . . . . . . . . . . . . . . (14,035) (19,520) 29,601 Total . .. ...................
$ 200,165
.... . $ (30,432) $ 206,374 Income taxes - .
I7.7% 32.8 % 31.9% EfTective rate ... . .. . ..................... G 72
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HOUSTON INDUSTR!TiINCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) l Following are the Company's tax effects of temporary differences attributable to continuing operations resulting I in deferred tax assets and liabilities: December 31, 1998 1997 ffhousands of Douars) Deferred Tax Assets: 3 Alternative minimum tax credit carryforwards.- .. . . . . . . . . . . . . . $ 39,893 $ 60,669 Employee benefits . . ._. ... . . . . 154,746 145,794 Disallowed plant cost - net.. . 56,219 22,378 A CES .. .......... . . . . . - .. . . - . . . . . . . 454,165 42,49i State operating loss carryforwards...... .. .. . .. ..... ..... ... 23,178 29,515 Deferred state income taxes... .. . . . . . . . . ~ . . . . . . . . . . . . 14,455 14,460 Other.... ... .. . . . . . . . . . ....... . 92,659 69,235 Valuation allowance . . . . (8,591) (6,353) Total deferred tax assets - net : . . . . $ 826,724 378,189 Deferred Tax Liabilities: Depreciation . .... . . . . . . ......... . ... $ 2,106,860 $ 2,115,717 Deferred plant costs - net ... . .. 147,278 186,472 Regulatory tax asset - net ... ... .... .. . ...... . ... ...... . .. .. 418,339 356,509 Capitalized taxes, employee benefits and removal costs . 60,099 46,584 Gain on sale of cable television subsidiary... . 222,942 222,942 Deferred state income taxes-- . . . . . . 70,000 70,000 Deferred gas costs.. . . . . . . . . . . . . . . . . . . . 13,663 34,113 Loss on reacquired debt........ ... ~ . . . . . . . . . . . . . . . . 44,077 39,503 Other.. ... . . . . . . . . . . . 107,502 99,130 Total deferred tax liabilities.... ............... .. ... 3,190,760 3,170,970 Accumulated deferred income taxes - n'et...... ..... .. . . $ 2,364.036 $ 2,792,781 Tar Refund Case. In July 1990, the Company paid approximately $104.5 million to the Intemal Revenue Service (IRS) following an IRS audit of Former Parent's 1983 and 1984 federal income tax returns. In November 1991, Former Parent filed a refund suit in the U.S. Court of Federal Claims seeking the return of $52.1 million of tax and $36.3 million of accrued interest, plus interest on both of those amounts accruing after July 1990. The major contested issue in the refund case involved the IRS allegation that certain amounts related to the over-recovery of fuel costs should have been included as taxable income in 1983 and 1984 even though the Company had an bbligation to refund the over-recoveries to its ratepayers. in September 1997, the United States Court of Appeals upheld a lower court ruling that the Company (as successor corporation to Former Parent) was due a refund of federal income taxes assessed on fuel over-recoveries during 1983 and 1984 that subsequently were refunded to Electric Operations' customers. In February 1998, the Company received a refund of approximately $142 million in taxes and interest paid by , Former Parent in July 1990, including interest accrued since 1990 in the amount of approximately $57 million. After 1 giving effect to the Company's deferred recognition of the 1990 tax payment and payment of federal income taxes due on the accrued interest on the refund, the refund had the effect of increasing the Company's camings in the fourth quarter of 1997 by $37 million (after-tax). Tar Attribute Carryforwards. At December 31,1998, Resources has approximately $368 million of state net operating losses available to offset future state taxable income through the year 2013. In addition, Resources has l approximately $33 million of federal attemative minimum tax credits which are available to reduce future federal income taxes payable, if any, over an indefinite period (although not below the tentative minimum tax otherwise due 73 l { i
I I b 1 HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDI ARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) in any year), and approximately $2.6 million of state alternative minimum tax credits which are availalle to reduce future state income taxes payable, if any, through the year 2001. He valuation allowance reflects a net increase of 12.3 million in 1998. This net increase results from a reassessment of Resources' usage of state tax attributes, including the future ability to use state net operating loss and alternative minimum tax credit carryforwards offset by l changes in valuation allowances provided for expiring state net operating loss carryforwards. (12) Commitments and Contingencies
. (a) Commitments.
The Company has various commitments for capital expenditures, fuel, purchased power, cooling water and l operating leases. Commitments in connection with Electric Operations' capital program are generally revocable by the Company, subject to reimbursement to manufacturers for expenditures incurred or other My.ellation penalties. ' He Company's and its subsidiaries' other commitments have various quantity requirements 3.nc durations. However, if these requirements could not be met, various attematives are available to mitigate the cost associated with the contracts' commitments. (b) Fueland PurchasedPower. The Company is a party to several long-term coal, lignite and natural gas contracts which have various quantity requirements and durations. Minimum payment obligations for coal and transportation agreements are approximately $210 million in 1999, $187 million in 2000 and $188 million in 2001. Additionally, minimum payment obligations for lignite mining and lease agreements are approximately $9 million for 1999, $10 million for 2000 and $10 million for 2001. Minimum payment obligations for both natural gas purchase and storage contracts associated with Electric Operations are approximately $10 million in 1999, $9 million in 2000 and $9 million in 2001. The Company also has commitments to purchase firm capacity from two cogenerators totaling approximately
$22 million in both 1999 aad 2000. Texas Utility Commission rules currently allow recovery of these costs through Electric Operations' base rates for electric service and additionally authorize the Company to charge or credit customers through a purchased power cost recovery factor for any variation in actual purchased power costs from the cost utilized to determine its base rates. In the event that the Texas Utility Commission, at some future date, does not allow recovery through rates of any amount of purchased power payments, these two firm capacity contracts contain provisions allowing the Company to suspend or reduce payments and seek repayment for amounts disallowed. Both of these firm capacity contracts have initial terms ending March 31,2005. .
(c) Operations Agreement with City ofSan Antonio. As part of the 1996 settlement of certain litigation claims asserted by the City of San Antonio with respect to the South Texas Project, the Company entered into a 10-year joint operations agreement under which the Company and i the City of San Antonio, acting through the City Public Service Board of San Antonio (CPS), share savings resulting from the joint dispatching of their respective generating assets in order to take advantage of each system's lower cost resources. Under the terms of the joint operations agreement entered into between CPS and Electric Operations, the Company has guaranteed CPS minime annual savings of $10 million and a minimum cumulative savings of $150 million over the 10-year term of the ag eement. Based on current forecasts and other assumptions regarding the combined operation of the two generang systems, the Company anticipates that the savings resulting from joint operations will equal or exceed the minimum savings guaranteed under the joint operating agreement. In 1996, savings generated for CPS' account for a panial year ofjoint operations were approximately $14 million. In 1997 and 1998, savings generated for CPS' account for a full year of operation were approximately $22 million and $14 million, respectively. 74
IIOUSTON INDUS* RIES INCORPOR'A TED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) (d) Transportation Agreement. 1 Resources had an agreement (ANR Agreement) with ANR Pipeline Company (ANR) which contemplated that ! Resources would transfer to ANR an interest in certain of Resources' pipeline rnd related assets. The interest represented capacity of 250 Mmcf/ day. Under the ANR Agreement, an AND affiliate advanced $125 million to Resources. Subsequently, the parties restructured the ANR Agreement and Resources refunded in 1995 and 19 respectively, $50 million and $34 million to ANR or an affiliate. Resources recorded $41 million as a liability reflecting ANR's or its affiliates' use of 130 Mmcf/ day of capacity in certain of Resources' transportation facilities, ne level of transportation will decline to 100 Mmcf/ day in the year 2003 with a refund of $5 million to an ANR afliliate. The ANR Agreement will terminate in 2005 with a refund of the remaining balance. (e) Lease Commi:ments. He following table sets forth certain information conceming the Company's obligations under non-cancelable long-term operating leases: Minimum Lease Commitments at December 31,1998 (1) (Millions of Dollars) 1999- $ 20 2000; . . 16 2001. . 15 2002.. . . .. 11 2003.. . . . .... 10 2004 and beyond.. . 66 Total .. . ;$ 138 (1) Principally consisting of rental agreements for building space and data processing equipment and vehicles (including major work equipment). Resources has a master leasing agreement which provides for the lease of vehicles, construction equipment, office fumiture, data processing equipment and other property. For accounting purposes, the lease is treated as an I operating lease. Resources does not expect to lease additional property under this lease agreement. Total rental expense for all Resources' leases was approximately $25 million in 1998. Total rental expense for tilleases in 1997 since the Acquisition Date was approximately $15 million. (f) Letters ofCredit. ;
\
At Decernber 31,1998, the Company and Resources had letters of credit incidental with their ordinary business l operations totaling approximately $34 million under which they are obligated to reimburse drawings, if any. ; (g) Indem rityProvisions. At December 31, 1998, Resources had a $5.8 million accounting reserve on the Company's Consolidated Balance Sheet in Other Deferred Credits for possible indemnity claims asserted in connection with its disposition of Resources' former subsidiaries or divisions, including the sale of(i) Louisiana intrastate Gas Corporation, a former Resources subsidiasy engaged in the intrastate pipeline and liquids extraction business; (ii) Arkla Exploration Company, a former Resources subsidiary engaged in oil and gas exploration and production activities; and (iii) Dyco Petroleum Co'npany, a former Resources subsidiary engaged in oil and gas exploration and production. 75
i HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) l (h) EnvironmentalMatters The Company is a defendant in litigation arising out of the environmental remediation of a site in Corpus Christi, Texas. The litigation was instituted in 1985 by adjacent landowners. The litigation is pending before the United States District Court for the Southern District of Texas, Corpus Christi Division. The site was operated by third parties as a metals reclaiming operation. Although the Company neither operated nor owned the site, certain transformers and other equipment originally sold by the Compny may have been delivered to the site by third parties. The Company and others have remediated the site pursusn* to a plan approved by appropriate state agencies and a federal court. To date, the Company has recovered or has commitments to recover from other responsible parties $2.2 million of the more than $3 million it has spent on terr.ediation. In 1992, the United States Environmenta! Protection Ag',ncy (EPA) (i) identifled the Company, along with several other parties, as "potentially responsible parties" (PRT) under the Comprehensive Environmental Response, Compensation and Liability Act (CERCLA) for the costs of cleaning up a site located adjacent to one of the Company's transmission lines in La Marque, Texas and (ii) issued an administrative order for the remediation of the site. The Company believes that the EPA took this action solely on the basis of information indicating that the ' Company in the 1950s acquired record title to a portion of the land on which the site is located. The Company does not believe that it now or previously has held any ownership interest in the property covered by the order and has obtained a judgement to that effect from a court in Galveston County, Texas. Based on this judgement and other defenses that the Company believes to be meritorious, the Company has elected not to adhere to the EPA's administrative order, even though the Compr.ny understands that other PRPs are proceeding with site remediation. To date, neither the EPA nor any other PRP has instituted an action against the Company for any share of the remediation costs for the site. However, if the Company was determined to be a responsible party, the Company could be jointly and severally liable along with the other PRPs for the aggregate remediation costs of the site (which the Company currently estimates to be approximately $80 million in the aggregate) and could be assessed substantial fines and damage claims. Although *% dimate outcome of this matter cannot currently be predicted at this time, the Company does not beliue that this case will have a material adverse effect on the Company's financial condition, liquidity or results of operations. From time to time the Company and its subsidiaries have received notices from regulatory authorities or others regarding their status as potential PRPs in connecti on with sites found to require remediation due to the presence of environmental contaminants. In addition, the Company has been named as defendant in litigation related to such sites and in receat years has been named, along with numerous others, as a defendant in several lawsuits filed by a large number of individuals who claim injury due to exposure to asbestos while working at sites along the Texas Gulf Coast. Most of these claimants have been workers who participated in construction of various industrial facilities, including power plants, and some of the claimants have worked at locations owned by the Company. The Company anticipates that additional claims like those received may be asserted in the future and intends to continue its practice of vigorously contesting claims which it does not consider to have merit. Although their ultimate outcome cannot be predicted at this time, the Company does not believe, based on its experience to date, that these matters, either individually or in the aggregate, will have a material dverse effect on the Company's financial position, results of operation or cash flows. (i) Other. Electric Operations' service area is heavily dependent on oil, gas, refined products, petrochemi.als and related businesses. Significant adverse events affecting these industries would negatively affect the revenues of the Company. The Company and Resources are involved in legal, tax and regulatory proceedings before various courts, regulatory commissions and governmental agencies regarding matters arising in the ordinary course of business, 76 1 I l 1 f 4
HOUSTON INDUSTRIES INCORPORATED ; d/b/a RELIANT ENERGY, INCORPORATED ANT SUBSIDIARIES I 1 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Contic sed) some of which involve substantial amounts. The Company's management regularly analyzes current information and, as necessary, provides accruals for probable liabilities on the eventual disposition of these matters. The Company's management believes that the effect on the Company's and Resources' respective financial statements, if any, from the disposition of these matters will not be material. In February 1996, the cities of Wharton, Galveston and Pasadena filed suit, for themselves and a proposed class, against the Company and Houston industries Finance Inc. (formerly a wholly owned subsidiary of the Company) citing underpayment of municipal franchise fees. He plaintiffs claim, among other things, that from 1957 to the { present, franchise fees should have been paid on sales taxes collected by Electric Operations on receipts from sales to other utilities and on receipts from services as well as sales of electricity. Plaintiffs advance their claims notwithstanding their failure to notice such claims over the previous four decades. Because all of the franchise i ordinances affecting Electric Operations expressly impose fees only on receipts from sales of electricity for ' consumption within a city, the Company regards plaintiffs' allegations as spurious and is vigorously contesting the matter. The plaintiffs' pleadings assert that their damages exceed $250 million. The District Court for Harris County has granted a partial summaryjudgment in favor of the Company dismissing all claims for franchise fees based on sales tax collections. Other motions for partial summary judgement remain pending. Although the Company j believec the claims to be without merit, the Company cannot at this time estimate a range of possible loss, if any, i from the lawsuit, nor can any assurance be given as to its ultimate outcome. (13) Estimated Fair Value of FinancialInstruments December 31, 1993 1997 Carrying Fair Carrying Fair Amount Value Amount Value (thousands of DoHars) l Financial Assets: Company: Investment in Time Warner securities.. . . .$ 990,000 $2,843,585 $ 990,000 $1,420,360 Resources: Energy Derivatives - non-trading = - - 9,399 13,060 Financial Liabilities: Company: First mongage bonds. . 2,036,284 2,177,434 2,495,459 2,651,260
. Pollution control revenue bonds.. 581,385 582,069 123,000 123,000 Debentures.. . .... . . . . 349,468 378,825 349,283 379,490 ACES.. .. 2,349.997 2,436,949 1,173,786 1,307,247 Trust preferred and capital securities.. 341,075 366,182 340,882 366,220 Interest rate swaps . . 109 3,160 65 1,679 .
Resources: 1 Long-term debt.. .. . .. . ... . . 1,513,289 1,746,641 1,148,848 1,147,344 I Trust preferred securities . . . .. 1,157 1,467 21,290 24,569 Energy Derivatives - non-trading = - 8,166 - - Interest rate swaps . . . . . . - - - 755 The fair values of cash and short-term investments, investment in the Company's nuclear decommissionmg trust, short-term and other notes payable and floating rate debt of Reliant Energy Inteniational are estimated to be equivalent to carryir'~ amounts. The remaining fair values have been determined using quoted market prices of the same or similar accurities when available or other estimation techniques. 77
f IIOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) The fair value of financial instmments included in the trading operations of Reliant Energy Services are marked-to-market at December 31,1998 (see Note 2). Herefore, they are stated at fair value and are excluded from the table. (14) Unaudited Quarterly Information The following unaudited quarterly financial information includes, in the opinion of management, all adjustments (which comprise only nonnal recurring accmals) necessary for a fair presentation. Quarterly results are not necessarily indicative of a full year's operations because of seasonality and other factors, including rate increases and variations in operating expense pattems. Results of operations of the Resources businesses, purchased in 1997, are included beginning on the Acquisition Date. Year Ended December 31,1998 First Second Third Fourth Quarter Quarter Quarter Quarter (Thousands of Dollars,except per share amounts) Revenues (1) . $ 2,631,322 $ 2,736,626 $ 3,465,487 $ 2,655,029 Operating income (1).- 282,892 455,809 512,955 225,732 (30,115) 41,484 251,709 (404,560) Net income (Loss) available for common stock (1).. . Basic Eamings (Loss) per Common Share (2).. .. . . . (.11) .15 .89 (1.42) Diluted Eamings (Loss) per Common Share (2) ( Il) .15 .88 (1.42) Year Ended December 3t,1997 First Second Third Fourth Quarter Quarter Quarter Quarter (Thousands of Dottars, except per share a:aounts) Revenues -$ 878,101 $ 1,064,448 $ 2,158,054 $ 2,777,622 Operating Income.. 156,216 247,172 462,716 198,396 l 59,620 121,463 243,898 (4,033) { Net Income (Loss) available for common stock . . . Basic Earnings (Loss) per Common Share (2)= .26 .52 .93 (.01) j Diluted earnings (Loss) per Common Share (2) . ..... . . .26 .52 .92 (.01) (1) Includes retroactive adjustment for change in accounting for energy price risk management and trading activities of Reliant Energy Services to mark-to-market accounting for the first, second and third quarters of l 1998. (See Note 1(r)) (2) Quarterly earnings per common share are based on the weighted average number c' shares outstanding during the quarter, and the sum of the quarters may not equal annual earnings per common share. l (15) Reportable Segments Effective January 1,1998, the Company adopted SFAS No.131," Disclosures about Segments of an Enterprise and Related information" (SFAS No.131). He Company's determination of reportable segments considers the strategic operating units under which the Company manages sales of various products and services to wholesale or retail customers in differing regulatory environments. The determination of reportable segments under SFAS No. 131 differs from that required in prior years, therefore business segment information for 1997 and 1996 has been restated to comply with SFAS No.131. Consistent with the purchase accounting treatment for the Merger, financial information for Resources is included in the segment disclosures only for periods beginning on the Acquisition Date. De accounting policies of the segments are the same as those described in the summary of significant accounting policies except that certain executive benefit costs have not been allocated tn segments. The Company evaluates performance based on operating income excluding certain corporate costs not anocated to the segments. He Company accounts for intersegment sales as if the sales were to third parties, that is, at current market prices. 78
HOUSTON INDUSTRIES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) 1 In accordance with SFAS No.131, the Company has identified the following reportable segments: Electric Operations, Natural Gas Distribution, Interstate Pipelines, Wholesale Energy and Marketing (Wholesale Energy), International and Corporate, Electric Operations provides electric generation, transmission, distribution and sales to customers. Natural Gas Distribution operations consist of natural gas sales to, and natural gas transportation for, iesidential, commercial and industrial customers. Interstate Pipelines conducts interstate natural gas pipeline ope
'ons. Wholesale Energy is engaged in the acquisition, development and operation of non-rate regulated power gecnesation facilities as well as the wholesale energy trading; and marketing and natural gas gathering businesses.
Inttmational participates ir the development and acquis!! ion of foreign independent power projects and the privadzation of foreign genention and distribution facilities. Corporate includes the Company's unregulated retail electric services business, certain real estate holdings of the Company and corporate costs. Financial data for business segments, products and services and geographic areas are as follows: 1 l Electric Natural Cas Interstate Whclesale Inter- Corporate Reconcillast Operations Distribution Pipelines Energy natioeil and Other Eliminatic a Consolidated (Thousands 7 Dollars) As of and for the Year Ended December 31.1998: Revenues from extemal customers .. , S 4,350,275 $ 1,811,509 $ 126,988 $ 4,289,006 3 258,945 $ 651,741 $ 11,488,464 Intersegment revenues - 1.167 155,508 167,152 97,181 5 (421,008) Depreciation and amortization 65o,264 129,777 44,025 18,204 3,820 10,527 856,617 Operating income. 1,013,979 137,955 128,328 55.170 181,707 (43,751) I,477,388 Total assets 10,404,447 3,110,718 2,050,636 1,535,J107 1,242,689 1,710,920 (915,895) 19,138,522 Equity investments in and advances to unconsolidated subsidiaries : 42,252 1,009,348 1,051,600 Expenditures for additions to long-lived assets- 433,474 161,735 59,358 365,512 435,077 28,077 1,483,233 As of and for the Year Ended December 31.1997: Revenues from external customers . 4,251,243 892,064 49,655 1,288,357 92,028 304.878 6,878,225 Intersegment revenues - 505 58,678 76,301 34,853 (170,337) Depreciation and amortization... 568,541 51,883 19.088 2,633 3,470 6,260 651,875 Operating income . 994,938 54,502 31,978 912 19,510 (37,340) 1,064,500 Totalassets - 10,540,849 3,073,525 2,031,879 777,638 869,485 1,749,916 (597,686) 18,445,606 Equity investments in and advances to unconsolidated subsidiaries- 3,325 700,777 704,102 Expenditures for additions to long-lived assets - .m - 236,977 61,078 16,304 14,038 231,528 23,899 583,824 For the Year Ended December 31.1996: Revenues from external customers .. ... 4,025,027 62,059 8,191 4,095,277 Depreciation and amortization 545,685 1,648 2,705 550,038 Operating income. 997,147 2,339 (9,020) 990,466 Expenditures for additions to long-lived assets _- 317,532 495.379 19,989 832,900 79 l l l 1 I i 1
HOUSTON INDUSTRIES INCORPORATED
' d/h/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued)
In accordance with SFAS No.131, the Company has identified the following reportable segments: Electric Operations, Natural Gas Distribution, Interstate Pipelines, Wholesale Energy and Marketing (Wholesale Energy), International and Corporate. Electric Operations provides electric generation, transmission, distribution and sales to I customers. Natural Gas Distribution operations consi;t of natural gas sales to, and natural gas transportation for, residential, commercial and industrial customers. Interstate Pipelines conducts interstate natural gas pipeline { i
. operations. Wholesale Energy is engaged in the acquisition, development and operation of non-rate regulated power generation facilities as well as the wholesale energy trading and marketing and natural gas gathering businesses.
International participates in the development and acquisition of foreign independent power projects and the privatization of foreign generation and distribution facilities. Corporate includes the Company's unregulated retail electric services business, certain real estate holdings of the Company and corporate costs. J Financial data for business segments, products and services and geographic areas are as follows: Electrie Nataral Gas Interstate Wholaanle Inter- Corporate Reconciling Operations Distribution Pipelines Energy national and Other Eliminations Consolidated (Thousands of Dollars) As of and for the Year Ended Deceneber 31 1998: Revenues from extemal customers. $ 4,350,275 $ 1,811,509 $ 126,988 5 4,289,006 5 258,945 $ 651,74I $ 11.488,464 Intersegment revenues - 1,167 155,508 167.152 97,181 $ (421,008) Depreciation and amortization.. . . ., 650,264 129,777 44,025 18,204 3,820 10,527 856,617 Operating income 1,013,979 137,955 128,328 59,170 181,707 (43,751) 1,477,388 Total assets 10,404,447 3,110,718 2,050,636 1,535,007 1,242,689 1,710,920 (915,895) 19.138,522 Equity investments in and advances to unconsolidated subsidiaries - . . . 42,252 1,009,348 1,051,600 Expenditures for additions to long-lived assets 433,474 ' ,161,735 59,358 365,512 435,077 28,077 1,483,233 As of and for the Year Ended December 31.1997: Revenues from external customers . ' 4,251,243 892,064 49,655 1,288,357 92,028 304,878 6,878,225 Intersegment revenues 505 58,678 76,301 34,853 Depreciation and amortization - 568,541 (170,337) ) 51,883 19,088 2,633 3,470 6,260 651,875 Operating income 994,938 54,502 31,978 912 19,510 (37,340) 1,064,500 Total assets . 10,540,849 3,073,525 2,031,879 777,638 869,485 1,749,916 (597,686) 18,445,606 Equity investments in and advances to unconsolidated subsidiaries- 3,325 700,777 704,102 Expenditures for additions to long-lived assets 236,977 61,078 16,304 I4,038 231,528 23,899 583,824 For the Year Ended . Ihcember 31.1996: Revenues from external customers 4,025,027 62,059 8,191 4,095,277 Depreciation and amortization.... 545,685 1,648 2,705 550,038 Operating income - 997,147 2,339 (9,020) 990,466 Expenditures for additions to long-lived assets ;. . . _ _ . . 317,532 495,379 19,989 832,900
)
I 79 I
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HOUSTON INDUSTRIES INCORPORATED li; d/b/s RELIANT ENERGY,1NCORPORATED AND SUBSIDIARIES k
\-
{s 1.1
. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) 1;.
L Reconciliation of Operating income to Net income (in thousands): \ Year Ended December 31, i 1998 1997 1996
=$ 1,477,388 $ 1,064,500 $ 990,466 Operating income..... . .. ....... ............ . ........ ..
981 56,269 Interest income - IRS refund... ....... ...... ..... . .. 41,250 41,340 41,610 Dividend income.. .. ......... . (513,905) (397,957) (309,980) Interest expense ......... .. ...~ .... .. .. . . . . (1,176,211) (121,402) Unrealized loss on ACES . ....... ... . (95,000) Litigation settlements....... .... .. .... (29,20l) (26,230) Distribution on trust securities..... .. .. .... . Preferred dividends of subsidiary. (2,255) (22,563) Income tax benefit (expense) ........... 30,432 (206,374) (200,165) 27,784 13,057 576 Other income (expense)= . (141,482) $ 420,948 $ 404,944 Net income (loss) available for Common Stock .. . . .. $ Revenues by Products and Services (in thousands): Year Ended December 31, 1998 1997 1996
=$ 4,359,857 $ 4.253,893 $ 4,025,027 Retail power sales...... . .
2,362,504 1,153,968 Retail gas sales = .. . Wholesale energy and energy related sales-- 4,248,181 1,271,400 167,812 66,265 Gas transport... 258,945 92,028 62,059 Equity income from intemational investments.. .. .~ .. . 91,165 40,671 8,191 Energy products and services :
- t. . . $ I1,488,464 $ 6,878,225 $ 4,095,277 Total _
Revenues and Long-Lived Assets by Geographic Areas (in thousands): Year Ended December 31, 1998 1997 1996 Revenues:
.$ 11,229,519 $ 6,786,197 $ 4,033,218
- U S . ... . . .. .
62,059
- 258,945 92,028 International 11,488,464 $ 6,878,225 $ 4,095,277 Total... ... . . . _ . .... $
Long-lived assets:
. .. .$ 14,865,161 $ 14,691,820 l US .. . .
1,195,849 837,536 ; Intemational-- 16,061,010 $ 15,529,356 Total..... . .. . . . .$ l (16) Subsequent Events (a) Foreign Currency Devoluation. In January 1999, the Brazilian real was devalued and allowed to float against other major currencies. The Company expects to take a charge against first quarter earnings as a result of the Brazilian devaluation. The charge . will reflect the Company's proportionate share of the foreign currency transaction loss impact of the devaluation on 80
HOUSTON INDUSTRIES INCORPORATED d/b/a RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) foreign denominated debt of Brazilian corporations in which the Company holds an equity interest. The amount of the charge will not be known until the end of the first quarter. At December 31,1998, one U.S. dollar could be exchanged for 1.21 Brazilian reais. Using the exchange rate of 2.06 reais/ dollar in effect at the end of February, and the average exchange rate in effect since the end of the year, the Company estimates that its share of the after-tax charge that would be recorded by the Brazilian companies in which it owns an interest would be approximately $125 million. (b) TrustPreferredSecurities. In February 1999, a Delaware statutory business trust (REI Trust I) established by th Company issued $375 million of preferred securities. The preferred securities have a distribution rate of 7.20% payable quarterly in arrears, a ated liquidation amount of $25 per preferred security and must be redeemed by March 2048. REI Trust I sold the preferred securities to the public and used the proceeds to purchase $375 million aggregate principal amount of subordinated debentures (REI Debentures) from the Company having an interest rate corresponding to the distribution rate of the preferred securities and a maturity date corresponding to the mandatory redemption date of the preferred securities. Proceeds from the sale of the REI Debentures were used by the Company for general corporate purposes, including the repayment of short-term debt. REI Tmst I is accounted for as a wholly owned onsolidated subsidiary of the Company. The REI Debentures are the REI Trust l's sole asset and its entire operations. The Company has fully and unconditionally guaranteed, on a subordinated basis, REI Trust I's obligations, including the payment of distributions and all other payments due with respect to the preferred securities. The preferred securities are mandatorily redeemable upon the repayment of the REI Debentures at their stated maturity or earlier redemption. Subject to certain limitations, the Company has the option of deferring payments ofinterest on the REI Debentures held by REI Trust I. If and for as long as interest payments on the REl Debenturhs have been deferred, or an event of default under the indenture relating thereto has occurred and is continuing, the Company may not pay dividends on its capital stock. (c) Investment in Dut:h Generating Company. On March 10, 1999, the Company and N.V. Energieproduktiebedrijf UNA, a Dutch electric generating company (UNA), announced their intent to enter into a strategic partnership in the Netherlands. The transaction would involve the initial acquisition by a subsidiary of the Company of 40% of the capitr.1 stock of UNA for cash and a commitment to purchase the remaining 60% of the shares of UNA for cash by December 31,2006. UNA is based in Utrecht and owns 3,400 megawatts of electric generating capacity. The capacity is primarily fueled by natural gas. The purchase price for the initial 40% interest will be approximately NLG 1.6 billion (approximately $ U.S. 840 million at an exchange rate of NLG 1.88 per U.S. dollar). Of this amount, the shareholders of UNA will receive a cash payment of approximately NLG 675 million (approximately $ U.S. 360 million) in exchange for shares representing 15% of the total capital stock of UNA. UNA will receive (i) a cash payment of approximately NLG 21 million (approximately $ U.S. I1 million) and (ii) a five-year promissory note from a subsidiary of the Company in the principal amount of approximately NLG 875 million (approximately $ U.S. 465 million) for 25% of the total capital stock of the Company, representing newly issued shares. 'Ihe promissory note will bear interest at the one-year EURIBOR rate, determined annually, and will be payable, subject to certain conditions, on demand. Under the proposed terms of the acquisition, the shareholders of UNA would agree to sell (i) an additional 12% of the total capital stock to the Company no later than December 31,2002 and (ii) the remaining 48% of the capital stock of UNA no later than December 31,2006. The purchase price for the remaining 60% of the capital stock of UNA is approximately NLG 2.7 billion (approximately $ U.S.1.4 billion). The purchase obligations under the definitive agreements are in Dutch guilders. 81
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HOUSTON INDUSTRIES INCORPORATED d/b/s RELIANT ENERGY, INCORPORATED AND SUBSIDIARIES
't
't I NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -(Continued) 'l 1
The Company expects to record its initial investment in UNA under the equity method of accounting. The acquisition of the initial 40% of the capital stock of UNA is subject to various approvals. It is anticipated t closing for this 40% interest will occur in June 1999, e t 9 82 6- - _ ]
i INDEPENDENT AUDITOR'S REPORT Houston Industries Incorporated d/b/a Reliant Energy, incorporated: We have' audited the accompanying. consolidated balance sheets and the consolidated statements of capitalizaion of Houston Industries Incorporated d/b/a Reliant Energy, Incorporated and its subsidiaries (t
" Company") as of December 31,1998 and 1997, and the related statements of consolidated income, consolidated retaines' earnings and comprehensive income, and consolidated cash flows for each of the three years in ended December 31,1998. Our audits also included the Company's financial statement schedule listed in item J4faA3). "Ihese financial statements and the fimancial statement schedule are the responsibility of the Com management. Our responsibility is to express an opinion on these financial statements and the financial statement schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing standards, Those standards require l we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of - material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Reliant Energy, incorporated and its subsidiaries at December 31,1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31,1998 in conformity I with generally accepted accounting principles. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein, i DELOITTE & TOUCHE LLP l Houston, Texas ) February 25,1999 I I 83 1}}