ML17303A552

Public Svc Co of New Mexico,1986 Annual Rept.

ML17303A552
Person / Time
Site:	Palo Verde
Issue date:	12/31/1986
From:	Geist J PUBLIC SERVICE CO. OF NEW MEXICO
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About PMM ublic Service Company of New Mexico is a combined utility with diversified inter-ests. The total population of the area served by one or more of the Compa-ny's utility services is approximately 960,000, or 65 percent of the state' population.

In addition to electric and gas services, the Company also:

~ provides water utility services to the City of Santa Fe, through the Sangre de Cristo Water Company; and

~ owns and operates mining and diver-sified capital companies.

In diversifying, we seek to improve our earnings while also strengthening the economy of our utility service areas.

Our primary service territories are in New Mexico -"The Land of Enchant-ment"- one of the most magnificent regions on earth. In this report, we would like to share this land in which we live, work, and grow. New Mexico is a land of vast horizons, and we look forward to our future with confidence and excitement. WW Annual meeting of shareholders The annual meeting of stockholders of Public Service Company of New Mexico will be held at the Kimo Theatre,423 Central Avenue, N.W.,

Albuquerque, New Mexico, on Tues-day, June 23, 1987, at 9:30 a.m. Stock-holders are urged to attend; however, Earnings Per Share of Common Stock Dollsrs whether or not attending, proxies 5 should be mailed to the Company. A $

proxy statement and form of proxy will 4.23'3.36 be mailed to stockholders on or about $ 3.30 $ 3.29

$ 3.11 May 11, 1987.

S2.46

$ 2.16

~ On the cover: (top to bottom) Falcon Ridge, Arizona; Meadows Resources, Inc. ~ San Juan Generating Station, New Mexico; Electric Opera.

tions. ~ Dogie Canyon Compressor Station, New '76 '77 '78 '79 '80 '81 '82 '83 '84 '85 '86 Mexico; Gas Operations. ~ De.Na-Zin/Gateway Coal Mine, New Mexico; Sunbelt Mining Includes sale ol retained economic interest in coal leases which Company, Inc. contributed $ .90 and $ .73 per share, respectively in 1981 and 1983.

GNfhcOCtNMh Chairman's Letter Corporate Office Initiates Strategic Policy Electric UtilityFaces Capacity, Competition, and Regulatory Challenges Gas UtilityOperates in a More Competitive Environment 10 Diversified Capital Group Invests for Future 14 Natural Resources Unit Improves Operations 16 An Expression of Thanks 18 A Good Place to do Business A Good Place to Live 20 "New Mexican" Means Unique 22 Art Born from the Inspiration of a Land and its People 24 Financial Data and Consolidated Financial Statements 26 Stockholder Information 48 Directors and Officers 49 Public Service Company of New Mexico and Subsidiaries QhimiLfhS 1986 1985  % Change Operating revenues $ 697,995,000 $ 689,982,000 1.2 Operating expenses $ 517,519,000 $ 504,868,000 2.5 Net earnings $ 151,005,000 $ 146,310,000 3.2 Return on average common equity 12 8% 13 2% (3 0)

Earnings per common share $ 3.29 $ 3.30 (0.3)

Dividends paid per common share $ 2.92 $ 2.89 1.0 Book value per common share at year-end $ 26.51 $ 25.73 3.0 Utilityconstruction expenditures $ 200,031,000 $ 261,931,000 (23.6)

NB8lW Total kilowatt-hour sales 6,727) 530,000 7,437,062,000 (9.5)

Decatherm sales 52,520,000 55,161,000" (4.8)

'Includes other contracted energy sales of 1,625,217,000 kWhr and 2 200,952,000 kWhr in 1986 and 1985, respectively.

• • From the acquisition date, January 28,1985.

To the stockholders:

n 1986 we achieved some years has been our own Meadows ing recovery of our investment.

solid financial results in a difficult Resources'iberboard plant in Las environment. Vegas, New Mexico. Regional initiatives and the Net earnings applicable to common business environment stock were $ 132.8 million, or $ 3.29 Result: uncommitted capacity ~ Our electric utility cut $ 10 million per share, compared with $ 122.4 mil- The result is that PNM as do many in operations and maintenance costs.

llion, or $ 3.30 per share in 1985. Non- other utilities has more generating ~ We have reduced the cost of our gas

".cash earnings related to construction capacity than our customers can by one-third.

l and "inventoried" generating capa- use. Generating plants, especially ~ We werc the first-in-the-nation to i

city contributed 43 percent of our nuclear, require years to plan and sell and lease back an interest in a nu-

'otal earnings. A series of tax bene- build. But the present economy has clear plant. In 1985 and 1986, we com-fits, which are not expected to recur at disproved past forecasts. pleted the sale and leasebacks of our the same high level in future years, The regional wholesale power interests in Palo Verde Units 1 and 2.

contributed $ 1.03 earnings per share. market has been little better. Many ~ Meadows Resources'nvestments The Board of Directors maintained utilities have uncommitted capacity. in New Mexico businesses have our quarterly dividend on common Wet years in the West yielded cheap started to build utility loads.

shares, but did not increase it, for the hydroelectric power. Low oil and But today's challenges require even first time in 15 years. gas prices led to reactivating oil- and greater efforts. In earlier reports and The difficulties we faced: gas-fired power plants. meetings I have discussed the far-A sustained slump in the mining We also faced regulatory setbacks. reaching changes under way in the and oil and gas industries has slowed Our most recent request for higher utility industry. Two observations economic growth in New Mexico. electric rates resulted in a $ 4.5 mil- make these changes clearer.

In 1986 our uranium mining cus- lion revenue reduction. Proposed First: Changes in the natural gas tomers used only 14 percent of the accounting rule changes, involving industry: Wellhead prices deregulated, electricity they used seven years ago national accounting standards, may interstate pipelines opened, contract and only three percent of their adversely affect the viability of our carriage, gas companies divided into projected peak usage. Coal mining ratemaking method called "inventory production pipeline distribution customers used only 40 percent of of capacity". The New Mexico Public companies, mergers as stronger projected peak. Service Commission has scheduled companies absorbed the weak.

The depression in New Mexico's a proceeding to obtain proposals At Gas Company we'e experi-oil and gas fields was felt throughout for alternatives to the inventory enced some of these changes. And the state, even in Albuquerque the methodology. we feel they foreshadow similar state's major business center and our We had to fight a biased Palo Verde change in the electric industry.

major service area. construction audit. The regulatory Second: As chairman of the Edison In Albuquerque, the electronics effort to audit our interest in Palo Electric Institute (the national asso-industry hit by international compe- Verde resurfaced in a new investiga- ciation of investor-owned electric tition has not expanded as projected. tion by the Public Service Commis- utilities), I'e watched our industry's In fact, our electric utility's largest sion. We continue to work toward an transformation in a broader frame-retail customer added in the last six equitable regulatory solution regard- work: The unwillingness of regulators

to continue to enforce major terins of business development in New Mex- Jerry D. Geist the "regulatory compact" between ico and the Southwest. Chairman and President Pubtic Service Company of New Mexico utility suppliers and customers. The ~ With the new state administration in growth of energy alternatives. The Santa Fe, we are pursuing a program development. One alternative which impact of international competition- to exchange the old regulatory risks we are studying is the formation of a on utilities directly and through their for new competitive opportunities. limited partnership which would customers. PNM will take action to resolve conduct the electric distribution busi-outstanding regulatory issues and ness of PNM.

Agenda for tomorrow form the holding company approved The Chinese sign for crisis is a This rapidly changing environment by our stockholders last May. Among combination of the signs for "dan-calls for bold initiatives. There are no other benefits, this will provide ger" and "opportunity". We are con-easy solutions. greater flexibilityfor our investment scious of current dangers.

And so, with your support, we con- and mining companies. But we look forward with tinue to pursue new strategies. Our Thereafter, the utility subsidiary confidence and excitement business objectives include: would divide its utility operations to your company's future r becoming one of the lowest-cost into separate entities to respond to opportunities.

providers in our region through cost market trends for example, an elec-control, regulatory acceptance and tric distribution entity and an electric Sincerely, innovative financing; generation and transmission entity.

~ becoming a holding company and This could allow more effective com-thereafter restructuring our utilities; petition in the new marketplace.

~ expanding our non-utility investments Each separate utility entity would in telecommunications manufacturing, take action to lower its costs. This Jerry D. Geist financial services, and real estate; would make our utility services more Chairman and President

~ a new, stronger commitment to competitive and boost local business March 4, 1987

Corporaie office iniiiaies siraiegic policy Palo Verde Units 1 and 2 Sale and Leaseback 1iansaction Each Owner Paitcipant CIST:Siim5 Loan (2)

First PV orking with the Com-Totaf Sales Price (1) Funding Corp. pany's four business units, the corpo-Title to Palo Verde rate office's business and financial Trustees PNM Bond Bond Lease to Pafo Verde Issu os(4) Proceed s planners, public policy advisors, tax Lease Payments (5) analysts, and corporate policy and Bondhorders communication advisors develop specific plans and policies for consid-eration by the Corporation's senior Debt Service(6) management and Board of Directors.

Adopted programs are put into action by the business units them-selves assisted as required by the

~ In 1985 and 1986, PNM sold its interests in corporate office's financial manage-equity (3). First PV Funding Corp. obtained per.

Palo Verde Units 1 and 2 (and certain common manent financing for the loans by issuing long ment, investor services, and govern-facilities) to several investors (box shown as Each term lease obligation bonds (4). Simultaneous ment affairs staff.

Owner Participant). The total sales price was with the sale. the Company leased back the Units

$ 900 minion (1), of which approximately $ 714 for a basic term of about 29 years at a rental The corporate office's major million was foaned (2) to the participants by First of approximately $ 84 milbon per year (5). Under activities in 1986 were the nuclear PV Funding Corp.. a corporation organized the leases, PNM's rental payments are used solely to provide debt financing for the partici. first to service the lease obligation bonds (6).

facility sale/Ieasebacks of our inter-pants; the participants invested $ 186 million as with the remainder going to the participants (7). est in Klo Verde Units 1 and 2, the

~ tteft) Al Robison, senior vice president and chief financial officer (at right), and Lloyd Williams, managing director of Kidder, Peabody ft Co., a major PNM underwriter, during dosing activities of a sale and leaseback transaction. PNM was the first corporation in the nation to sell and lease back a nuclear generating plant.

The Company sold for $ 900 miltion and leased. back its entire interest in Palo Verde Units 1 and 2.

/ /

~ (above) J. B. "Bud" Mulcock, Jr. senior vice

~

major corporations, Dinch would president of corporate affairs and secretary, helps make the strategic decisions for PNM. Mr. export New Mexico's abundant coal Mulcock is also responsible for the Company's resources in the form of electricity.

stockholder services, investor refations, and other public affairs activities. The project would include a coal-fired electric generating plant on Navajo land in northwestern New Mexico. The site is near coal resources controlled by PNM's Sun-belt Mining Company and others.

These resources would provide the plant's coal. The Dinch project would cost-cutting retirement of high-inter- ture, ifimplemented, would increase also include the construction of a est bonds and redemption of high the Company's financial flexibility 500 kV transmission line to carry dividend preferred stock, the effort to and more distinctly separate utility electricity to wholesale customers.

secure regulatory approval for hold- and nonutility operations. The U.S. Congress included a ing company organization, and the The holding company plan is not provision in the new tax law which Dinch Power Project. unique. More than 20 utilities have willpreserve an investment tax credit Holding company plan is key reorganized as holding companies in until 1995 for construction of the to new era the last decade. Dinch project.

Shareholders approved the holding Dinch partnership would Other participants in the Dinch company plan in May 1986. How- export energy project include the Navajo Nation, ever, the New Mexico Public Service Economic and demographic fore- Bechtel Power Corporation, and Commission denied our plan, claim- casts for the 1990s indicate there will Combustion Engineering, Inc. The ing that the new structure would be electric generating capacity short- corporate office has committed to make it more difficultto review and ages in the Southwest and Pacific continue funding a portion of the regulate transactions between Coast regions. The proposed Dinch Dinch study. Neither we nor the other utility and nonutility operations. We Power Project would respond to that participants would begin construction appealed the Commission's decision need. until agreements have been signed to the New Mexico Supreme Court. Proposed as a joint venture with with utilities or other buyers to buy a The new holding company struc- the Navajo Nation and several other significant portion of Dinch power.

Eleciric uiiliiyfaces capaciiy. compeiiiion. and regulaiory challenges.

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~ (above) Atop Palo Verde's Unit 3 reactor vessel, technicians inspect the unit during its pre.opera.

tional phase. Unit 3 first generated non nucfear powered electricity November 1986 as part of an important test of the unit's turbine and generator.

a (below) Martha McDonald, vice president of human resources and support services, and Dwayne Pruitt, equipment operator and union steward, discuss safety issues at an Albuquer-que maintenance and service center. From 3 centers like this one. transmission and distribu.

tion lines and facilities are constructed and maintained,

~ (above) John Bundrant, president and chief operating officer of electric operations, visits the Indian Pueblo Cultural Center in support of the electric utility's Customer Success program.

Business growth teams provided advice on the Center's energy usage and marketing and management functions.

~ (above) Palo Verde Units 1 and 2 began Major Southwestern commercial service in January and September Electric System Map 1986. In October, Unit 2 set a new record for All Lines 230 kV and Higher United States nudear plants, generating 987,300 megawatt hours. Upon comptetion of PNM or Joint Ownership Unit 3. the electric utility's share of Palo Verde's Proposed capacity will be 390 MW.

Others Proposed Leased or Corporate Venture 0 D C3 Proposed 0 Generation b, Switching Station 0 Cities and Towns V~ a,

.<0 0 our service area is higher than the national average, but remains lower

'~c than previously experienced and 0~ forecasted. This is largely the result CALIF.

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+craana of a sharp decline in industrial loads, primarily the mining industry and delayed operation of the microchip ARIZ. 0 NM.

industry, and less dramatic growth in the "sunbelt" Changing market realities e began as an electric, Off-system energy sales to other require new regulatory policies gas, and ice utility. Today, electric utilities represented 33.5 percent As competition becomes a sales account for 65 percent of total of the Company's total kilowatt- stronger force in our industry, the operating revenues. hour sales. role of regulation must change.

Our sales to other utilities in 1986 The new realities we face include:

The electric utilityas an decreased because of our system's (a) lower than forecasted growth in energy marketer relative cost and transmission access our region and primary service areas As output increases from Palo limitations. In response, we are striv- leading in the short-term to regional Verde Nuclear Generating Station, ing to lower costs as well as develop overcapacity in generation; (b) the the importance of sales to other utili- new markets in our service areas, in need for transmission facilities able ties also increases. With Unit 2's the Southwest, and in adjoining to serve distant markets; operation, our off-system sales to San regions. (c) aggressive energy pricing; and, Diego Gas & Electric Company Projected New Mexico retail elec- (d) the need for innovation and increased from 106 MW to 236 MW. tric sales growth of about 3 percent in information in bulk- power system

lMleeiing ihe cosi compeiiiion challenge lr

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~ (above) Cathleen Andrasovsky, shift supervisor of San Juan Generating Station's water opera.

tions analysis laboratory, monitors water quality in the plant's boilers and cooling towers.

~ (left) As acid rain increasingty becomes an issue of national concern, we can point with pride to the coal fired San Juan Generating Station. San Juan's pollution control facilities reduce air pollutants to levels more stringent than those considered as effective acid rain control elsewhere in the nation.

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~ (below) Service should be customer.conve-nient! Our innovative "PNM Catalog" offers services, facts, and ideas to retail electric cus-tomers. Throughout 1986, we established neighborhood customer service offices, incfud.

ing one in an Albuquerque supermarket (right).

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~ (top) Several 500 kV lines emanate from Palo Verde, connecting to distant markets. To further improve our access to those markets we are exploring options for acquiring additional trans-mission facilities.

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Gas utilityoperates in a more competitive environment 4

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"'o years ago PNM acquired Gas Company of New Mexico, the largest natural gas utility in the state an'd the supplier for most state residents.

'We buy natural gas from many independent producers through gas gathering operations and from pipeline companies, process that gas for home and business use, and sell it to retail customers in Albuquerque and most of New Mexico.

Abundant supplies nationwide have forced change in the natural gas gas directly from suppliers and ~ (top) It's a fong journey by pipe from the gas well to the customer, The Dogie Canyon Con.

industry, at least for the near-term. arranges for transportation and pressor Station-19 miles from the nearest Some of our responses to competition delivery by a carrier such as paved road-is home to six gas utility employees and their families. This and similar stations at the wellhead, city-gate, and burner Gas Company. increase a pipeline's pressure to transport gas tip took place in 1986. More are As an example, some customers to distant distribulion systems and interstate markets.

planned in 1987. But Gas Company's now buy gas on the "spot-market" at transition from a traditional gas a price lower than our system supply ~ (above) John Ackerman, president of Gas Company of New Mexico (right), and Buster utility to a more competitive service price. Their assurance of supply is Orbison, manager of gas purchasing, met company requires: limited to days or months. But these throughout the year to discuss the progress made in renegotiating gas contracts with well.

~ greater sensitivity by regulators customers still expect our system owners. Between December 1984 and Decem.

to the changing marketplace; supply to be available as back-up at ber 1986, our customers saw their cost of gas dedine 33 percent as a result of the utility's a more flexible gas supplies; no extra cost. As a result, Gas Com- efforts and lower market prices.

a improved interstate pipeline pany has a supply of gas, previously

~ (right) Larry Thompson, electronics technician, arrangements; and, contracted for with producers, that it maintains Albuquerque's city-gate. City.gates

~ improved marketing flexibility. is now unable to sell to another cus- mark the transition from the gas utTiity's transmis.

sion system to ils distribution system.

tomer. We believe the state should lVlarket-sensitive regulation allow separate rates for this back-up ls needed now service or relieve us from the obliga-Federal and state regulations now tion to contract for and hold reserves promote "contract carriage" of gas for carriage customers.

owned by others. Under contract We also believe it is important to carriage, a consumer buys natural the Company, its owners, and cus-10

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lMlarkei characierisiics of gas are analyzed from gaihering io end user jointly to improve their sales, and, as a result, improve our sales.

To encourage customers to stay on tI our system, our gas must be competi-

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of our customers'emands, we can reduce our customers'ost of gas.

%(Wr Processing is required before ms gas is shipped to markets We became an operator of a gas processing company in 1986. Proc-essing removes liquid by-products like butane and propane before put-ting natural gas into pipelines. The Gas Delivered by Customer ~ (above) D.A. "Zan" James, vice president of liquid by-products are sold to others.

Class'988 marketing, rates, and regulatory affairs of Gas Company (center), and Brian Jetfries. manager Pipellnes: connections to retail ot marketing tor gas gathering company (righl), and interstate customers discuss final details of an off.system gas sale with Dan Gibson, vice president of tuel resources, of We are seeking better ways of 35 rttr San Francisco.headquaaered Pacific Gas and using our pipeline assets. One option Electric Company. Off.system gas sales are an is to secure interstate transportation increasingly important market outlet, paths to the out-of-state marketplace using other companies'ipelines.

20 err 25 e4r tomers for rates to be instituted for Another option is transporting gas franchise residential and commercial belonging to others through our pipe-customers who do not have these lines in addition to our New Mexico choices, and other rates for those larger customers'as.

1986 customers willingto risk service inter- In the meantime, new trends in ruption in exchange for a lower rate. regulation and competition have dra-40 %

Gathering provides our supply matically changed our markets.

(See charts at left.)

During 1986, we concentrated on stabilizing both supply and demand Distribution: improving service for our natural gas. to individuals We renegotiated many contracts We recognize the importance of 19 re with natural gas well-owners. In serving the needs of individual doing so, we improved the character- customers and in 1986 we made istics of our gathering operations major changes to improve service D Residential 0 Sales tor Resale especially our mix of long-term,

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D Commercial D Transportation & Brokerage to customers.

D Other Retail D Industrial short-term, and "spot-market" pur- For example, our surveys indicated

'Indurres is%car%orms sorrl by Gas company oner chases. This helps to assure us an that many customers found us diffi-trsnpoonrecr ior orrrers by Gas Company rrnrrer corcrars carrriage.

ample supply at competitive prices. cult to reach. We responded by We are also working to improve our installing a new computer-based

~ (above) sales to industrial customers in 1986 communication with gas well-owners. telecommunications system and have decreased signifcantly, white a nevi customer dass transportation and brokerage Our publication, "GCNM Pipeline," increasing the size of our customer is emerging, is one of those efforts. We work service staff.

12

To Northwestern Markets Western To Midwestern Markets To Markets

~ A computerized telephone system and a larger staff make us more responsive to customers.

Diana Morris, customer consultant manager, discusses a caller's concern viith a member of her staff (top). Peggy Pierce retrieves a tape To Texas and recording of customer calls for use in evaluating Gulf Coast Markets an employee's telephone skills (above).

Regional Gas UtilitySystem Map Gas Company of New Mexico System

~Gas

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Company Gathering Wellfield Area Gathering Company Wefffield Area Other Transmission National Pipeline Interconnection Area 13

Diversified capital group invesis for future 5C~

N4 aks~eff Y7) (above) Falcon Ridge, near Phoenix, is a new

.e)rtr development of Bellamah Community Develop-r,1 e& i

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ment. a Meadows investment. Falcon Ridge is Bellamah's 30th project. Real estate is one of r gellis Meadows'hree areas of investment emphasis.

~ (left) Jim Jennings, president and chief execu-tive officer of Meadows (right), and Bill Hunt, chairman of the board, president, and chief executive officer, of Alliance Telecommunications Corporation, a Meadows investment, at an Alliance manufacturing plant in Atlanta, Alliance manufactures radio paging and voice messag-ing equipment.

Staintord O stew W< ~errr A

eostonoo hrough Meadows Resources, Inc., we manage nonutility invest-Chtoatto O asup ouincy0 ments, primarily in three industries Oerher oo rants Raton Los Atarnos offering long-term growth and profit potential:

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~ telecommunications ttttsa Les Cruces phoeHx oe Otahcona Cttr manufacturing; oattas ~ financial services; and,

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~ real estate development.

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During our first year in telecom-munications, we acquired interests in Dlverslfled Capital several companies. These companies Investment Locations generated more than $ 50 million of o Telecommunlcatlons Manufacturing sales in 1986, giving Meadows an

~ Financial Services o Real Estate Development international presence in a special-o Fiberboard Plant ized market of designing, manufac-

~ Venture CapItal turing, and marketing equipment for 14

~ (above) Jack Nicklaus and Roger Rankin, vice president of Meadows, discuss Mr. Nicklaus'esigns of two 18.hole golf courses for The Ranch at Santa Fe. Initial development is under-way for The Ranch at Santa Fe and its executive forum, The Santa Fe Center.

~ (left) Bill Black, president of Montana de Fibra, inspects the plant's fiberboard press, which produced a company record of high quality medium. density fiberboard in 1986. The Las Vegas. New Mexico plant manufactures wood panels that are principally used in furniture cabinets. MdF's markets reach as far as Italy radio, cellular, voice storage and $ 91 million of revenues in 1986, and Taiwan.

forwarding, and paging uses. Our and werc profitable. Most of our desire is to provide to a common real estate projects involve "pre-customer group components from the development" of affordable new a loss. Worldwide shipments of phone line to the antenna. We are residential and commercial areas medium-density ftberboard werc pursuing additional investments in near major cities in the Southwest. strong, but prices were weak. Even this area. so, this plant contributes substantially Meadows is part owner of a Meadows'nvestments result in to the local economy.

financial services subsidiary which utilityload-building ~ Investments in small New Mexico continued to grow in real estate Meadows'ew expanded program venture capital companies.

financing and investment activities. of direct business investments in New ~ Investments in New Mexico real Its savings and loan in Chicago grew Mexico is designed to contribute to estate development projects.

from $ 215 million to $ 310 million in New Mexico's economic diversifica- ~ The Ranch at Santa Fe and its cen-assets. They are expanding into other tion and increase economic activity ter of learning The Santa Fe Center, financial services, including mort- in PNM's utility service areas: where executives from around

~ The Montana de Fibra fiberboard the world willgather for seminars gage servicing, and are evaluating insurance investments. plant had revenues of $ 16 million and conferences to explore Our real estate projects generated in 1986, but continued to operate at international issues.

15

Natural resources unii improves operations

~ (above) Bob Rountree, chairman of Sunbelt (seated), and Al Robison, president and chief operating officer of Sunbelt. make the strategic decisions necessary to manage a portfotio of natural resources operations. New Mexico. This mine produces ince 1979 our natural resources subsidiary, Sunbelt Mining 225,000 tons per year for the Company, Inc., has grown from a San Juan Generating Station, under small coal mining operation into an a supply contract which expires organization that explores, acquires, in 1991.

develops, and markets mineral and Additionally, Sunbelt along energy resources in the Southwest, with Arch Mineral Corporation as well as in new markets in the controls over 500 million tons of low-Midwest and Florida. cost, surface-mineable coal adjacent to the De-Na-Zin/Gateway operation.

Coal is mined in New lVlexico Sunbelt and Arch Mineral are and Oklahoma working together to develop these Sunbelt's major New Mexico resources for the proposed Dinch property is the De-Na-Zin/ power project.

Gateway coal mine in northwestern A subsidiary of Sunbelt owns and 16

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~ (above) Sunbelt's De.Na.ZirVGateway coal mine near Farmington, New Mexico, produces low.sulfur coal for the San Juan Generating Station.

~ (left) Contract barges move coal from our OMahoma mines to a utility customer in Florida.

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operates one of the largest surface investments in this industry.

coal mining operations in Oklahoma.

NATURALRESOURCES SITES In 1986, operations were centralized New developments add to from several Oklahoma sites and the Sunbelt's role De-Na.ZIn/Gateway Mine mines'quipment was improved. We Totah Power Development Com- Near Farmington, New Mexico could also benefit from a new Okla- pany, Inc. was recently organized as a Rogers ill Mine homa law requiring Oklahoma utili- Sunbelt subsidiary to provide the Near Tulsa, Oklahoma ties to buy at least 10 percent of their vehicle for PNM's participation in coal from Oklahoma mines. the Dinch Power Project. A gas proc- Gold Properties essing company was purchased in Northern California Precious metals properties are December. Natural gas is processed Western Nevada slated for sale at this operation and liquid by-prod-After a reassessment of their ucts are removed and sold. These two precious metals holdings, Sunbelt's developments represent new areas of subsidiaries decided to reduce investment emphasis.

17

An expression of ihanks I 7 r r

~I ic yE

~ (top) Albuquerque, New Mexico's largest city, is home to many PNM employees.

~ (above) Ray Hoffman proves that you don' have to live in a city or town to be a volunteer.

Supervisor of the Gas Company's isolated Dogie Canyon Compressor Station, Ray volunteers as a grounds keeper and Santa Claus at the Largo Canyon School. (But don't tell the school's ten kids!)

~ (righl) Sherry Leeson tutors English by phone to high school students in a program established by an Albuquerque high school in 1986.

s chairman of this cor- volunteer service activities. More poration, I am exceptionally proud of than 230 employees said YES in our employees'edication to service 1986 by helping people with disabili-excellence both on and off the job. ties, working in hospitals, judging In these two pages we share with science fairs, and supporting senior you just a few examples of our many citizens'ctivities. The VIP' outstanding employees. Through Weatherization Program was a major their efforts, the communities that undertaking this past year. In replac-we call home are a richer place in ing broken windows, in weather-which to work and play. stripping and caulking around doors Your Company encourages and windows, and making other employees to become active, vital energy conservation repairs, the members of their communities. As VIP's made many needy Albuquer-an example, a Company-sponsored que residents warmer during the program, Volunteers Interested in winter months.

People, asks for and receives employees'elp in a wide range of l8

~ (top) Santa Parra and Paul Schwarz served as key organizers for the 1986 Greater Albuquer.

que United Way Campaign, Tihrough their hard work and the generosity of fellow employees, they helped raise more than $ 234,000.

~ (above left) Mana De Rios shares her time with Albuquerque's non-profit blood bank, the Junior League. and the Volunteer Center of Albuquer.

que, which matches skills of volunteers with the needs of local non.profit organizations ~ (above right) Mike McEuen wears several volunteer "caps" Mike is involved with the Red Cross, Protect Share, Health Care for the Homeless, and the Feed the Hungry Program in downtown Albuquerque.

~ (from left to right) Fred Wilier, Cheryl Wilson, Jeff Archuleta, and Tim Gordon are members of the San Juan Generating Station's volunteer fire company. Fire company vol'unteers are on call around the dock,

~ (nght) Ron Edgington, on behalf of the Cystic Fibrosis Society, ran 3.150 stairs in two hours in the annual "Pit Climb" at the Umversity of New Mexico Arena.

19

A good place jo do business A good place 4o live Iii,;III'tii,,:IIItiiiiil+i, 'Qj]jar, ijjj~iTIIIIICItiiii~i'i'i'iiiti~tKIIÃiti 3 6+3 6+3 3 6+ c+g 0

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~ (top) New Mexico is a haven for America' retirees, who find a variety of housing as well as a mild dimate. These apartments are "The Islands of Rio Rancho" located west of the Rio Grande near Albuquerque. Rio Rancho is one of the fastest growing areas in PNM's service -v territory, attracting retirees and first time home I buyers.

~ (above) Albuquerque's tribute to the Doge's Palace of Venice, the New Mexico Title Building, underwent a major renovation in 1 982 which restored its arches and intricate carvings. The building, listed on the National Historical Regis.

ter, is just one of many striking office buildings in downtown Albuquerque.

~ (above right) Once unique to the Southwest, New Mexico's culinary specialties are now available nationwide. Tortilla chips, green chile, and spicy condiments are produced at the family owned Bueno Foods, in Albuquerque's south valley. Pictured here are Joseph Baca, chairman of the board, and Jackie Baca, president.

~ (right) The Biophysics Group at the Los A!amos National Laboratory has advanced the technology of Flow Cytometers. Using lasers to detect disease, and in particular. cancer. this technology has spurred international attention and collaboration. New Mexico is home to two of the nation's largest centers of scientific research'.

Los Alamos National Laboratory and Sandia National Laboratory in Albuquerque.

20

~ (above) General Electric's TF 39 jet engine powers the C.5B, the largest aircraft in the worfd.

Parts for these and other engines are made at GE's aircraft engine plant in AIbuquerque.

~ (above left) One of only two such plants in the nation, this Greyhound plant at Roswell manufactures buses that viitl travel the world's highways.

ur corporation was born, also stayed. First the Anasazi...then dream big and work hard.

and continues to grow, in a provoca- Native Americans...the Spanish... Their work involves a variety tive land called New Mexico. It is the the new American ranchers, farmers, of outputs, from tortilla chips to 47th of the 50 United States, but it is and merchants. More recently, the computer chips. Buses. High-tech also a state of mind: There is a con- scientists, engineers, and entrepre- medical equipment. Lumber and stant, underlying excitement about neurs who followed the sun to these fiberboard. Gas, oil, and minerals.

what we find here and what we are exciting new horizons. And hundreds of other products, stimulated to seek. New Mexico is a world-famous services, and ideas.

It is a good place to do business; a incubator of ideas in science and PNM serves nearly all of the busi-good place to live. technology, with one of the highest nesses and institutions pictured here.

On these pages PNM salutes the concentrations of doctorate degrees We'e proud that our reliable, afford-businesses, the culture, and the arts in the 50 states. able service makes it possible for of New Mexico...a place we'e very All have found the excitement these people and their organizations proud to call home. of this land. They see its beauty to work toward their visions of Froin the beginning, many of those as well as its opportunity, and look growth, prosperity, and "the good who have explored New Mexico have to make the most of both. They life" that New Mexico offers.

21

"Mew Mexican- means unique L

~ (top) New Mexico's International Space Hall of Fame at Alamogordo offers a look at yesterday

-and a glimpse of tomorrow. The museumis located near White Sands Missile Range, home to much of the nation's rocket research.

ew Mexico's blend of enchanting museums. Recently, The

~ (above) The architecturally striking Santa Fe three great cultures has created a New Mexico Museum of Natural Opera attracts many of the world's most talented artists. Renowned for imaginative stagings of culture all its own "New Mexican". History was dedicated. It is the first traditional productions of Mozart, Wagner, Verdi, rooted in our peoples'istinctively natural history museum to open in the and Puccini, the Opera has held world premiers of many contemporary operas. different worlds of yesterday, reflec- nation in 50 years.

tive of the land we live in today, shar- Our colorful history was prelude ing the hopes we have for tomorrow. to our diverse present. The places, Perhaps because much of our land things, and events pictured here rep-remains undisturbed, we are more resent our varied lifestyle.

conscious of our past than are the We share this good life within a citizens of many other states. dynamic economy, and welcome a New Mexico is home to many future built upon a unique way of life.

22

~ (above left) As many as 400 colorful hot.air balloons ascend during the International Balloon Fiesta every October. Participants from nearly 40 countries gather for this event in Albuquerque, the largest of its kind in the world.

~ (above) New Mexico's State Fair is among the nation's top five in terms of attendance, with one of the largest cash purses on the professional rodeo circuit. Our electric utilityhelped plan a compfete renovation of the fairground's efectrical system in 1986.

~ (left) Indian dancers from all over the country come to the New Mexico State Fair to share their ancient traditions. These dancers are from Zuni Pueblo, one of New Mexico's 19 pueblos.

~ (below left) After successful showings in New York, Toronto, and other major cities, MAYA-Treasures olan Ancient Citrilizafen has returned to The Albuquerque Museum. Organized and assembled by the museum, this rare collection of Mayan artifacts was gathered with the help of Mexico, Guatemala, and Befize.

23

Ari born from ihe inspiraiion of a land and iis people

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~ng 1; by Evelyn RDMtttbctg tart with a land famous the others. Every form of art has found a for its diversity: Natural features The result is a society of artists and home in New Mexico. Indeed, some unique to the Southwest, like arroyos art-lovers...also known as New of our place-names are almost synon-and mountains. Plants from every life Mexico. ymous with art: Taos. Santa Fe.

zone: Cacti, evergreens, sagebrush, It's doubtful that any other state Albuquerque. But in almost any part oak trees, yucca, and alpine wild- has as many career artists per capita, of the state, at almost any time of the flowers. Endless skies, etching into "Sunday painters," galleries, or year, one can view art, as well as our memories their blazing sunsets collections. study, buy, sell, and even live it.

and star-studded midnights. From the rock-paintings of ancient The art, like the place, takes on a Add three cultures, each seeking peoples to the "detonography" of million forms and hues. And PNM is to preserve its heritage while also today, our art has reflected the variety proud to have a role in this exciting discovering and blending with of this place and its peoples. place, among these exciting peoples.

24

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Mask ptrotos by saty Andersen Brucecounesy ot Museran oi fnternatcnat Fdk Art. Grard Founcbtm cotecaon and fnternatcnal Feet An Fcundatm santa Fe

~ (above) These masks are among the many collections of traditional arts, antiquities, and folk arts housedin the Museum of New Mexico, a collection of five museums located throughout Santa Fe. (left to right) Clown Mask,"Tiger" Mask, Ceremonial Dance Mask. Negrito Mask, Tastoan Devil Mask, Morochino Mask by Ruperto AbrahanMoor Mask, all from Mexico; Mask with Three Faces from Bolivia.

~ (left) New Mexico, Iong a haven for the tradi.

tional arts, is equally hospitable to new ones.

Albuquerque artist Evelyn Rosenberg devel.

oped "Detonography", which combines plaster casts. stainless steel plates, and sheets of plastic explosive.

~ (far left) One discovers the Santuario de Chi.

mayo on the high road to Taos. With its simple lines and earthen tones, the chapel is a destina.

tion for religious pilgrims and a striking example of the Hispanic adobe architecture prevalent throughout the state.

AntdOPe Head Wittt Federnai: by Georya QKOetfeCOurteey ACAGafterree. NeW lfbrk

~ (above) Painting by Georgia O'Keeffe, a major influence in 20th century American art and a long time resident of Abiquiu, New Mexico. Life Magazine observed, after her death at 98, that she "loved New Mexico's stones, bones and douds."

~ (left) Margaret Tafoya, of the Santa Clara Pueblo, and other Native American artisans continue New Mexico's heritage in a modern world. In the tradition of her ancestors, Margaret gathers her own day from a nearby mesa before shaping, firing, and painting her nationally o admired pottery.

I 25

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Ialmxelllmhaog "IRlsadRIRI@msKIS Management's Discussion and Analysis of Financial Condition and Results of Operations 27 Selected Financial Data 32 Management's Responsibility for Financial Statements 33 Auditorsl Report 33 Consolidated Statement of Earnings 34 Consolidated Statement of Retained Earnings Consolidated Balance Sheet 35 Consolidated Statement of Changes in Financial Position 36 Notes to Consolidated Financial Statements 37 Quarterly Operating Results 45 Stock/Dividend Data 45 Comparative Operating Statistics 46 26

Public Service Company of New Mexico and Subsidiaries The following is management's assessment of the Company's finan-

~ ~

~DKNBiilCM6 cial condition and the significant factors which influenc the results co Nhma@5emStei) of operations. This discussion should bc read in conjunction with thc GM8 CP~D ~

iKl5XiS Company's consolidated financial statements.

The Liquidity and Capital Resources section and the Results of Operations section do not reflect any potential restructuring of the Company discussed under thc Company's Response to Marketing and Regulatory Challenges section.

Liquidityand Capital Resources UtilityConstruction Program Commitments Decline With the commercial operation of the Palo Vcrdc Nuclear Generating Station (Palo Vcrdc) Units 1 and 2 in 1986, the Company's utility construction cxpcnditurcs continue to decline rclativc to the levels experienced during the late 1970s and early 1980s. Over the next five years (1987-1991), the Company expects to spend $ 576 million for clcctric, gas, and water utilityconstruction. This projection includes

$42 million in "allowance for funds used during construction" (AFUDC), a non-cash item that reflects the Company's costs of debt and equity capital used to finance utility construction. The $ 576 million projection also includes $ 57 million for nuclear fuel.

Actual utilityconstruction spending during 1986 and the Company's projections for 1987-1991 (in millions of dollars) are shown below:

1986 1987 1988 1989 1990 1991 Cash $ 151 $ 112 $ 107 S 99 S 97 $ 119 AFUDC 49 28 4 3 3 4 Total $ 200 $ 140 $ 111 $ 102 $ 100 $ 123 Net Earnings Applicable to Common Stock These estimates arc under continuing review and subject to Dollars in Millions 150 adjustment.

$ 133

$ 122 Capital Requirements: A Five Year Projection

$ 116'109 Capital rcquircmcnts are met with a combination of externally-raised funds and internally-generated funds from operations.

$ 88 The Company estimates its utility capital requirements for the next five years (1987-1991) at $ 641 million. This total includes $96 million that willbe applied to the payinent of long-term debt maturities and to the mandatory redemptions of preferred stock.

$ 29

$ 19 The level of internally-generated funds depends on rate relief granted

$ 13 by both the New Mexico Public Service Commission (NMPSC) and

'76 '77 '78 '79 '80 '81 '82 '83 '84 '85 '86 the Federal Energy Regulatory Commission (FERC). The level also dcpcnds on the Company's ability to sell significant amounts of

'fncfudes safe of retained economic interest in coal leases which additional power not currently under contract. The price that the contributed $ 18.8 million and $ 24.1 millionto earnings, respectively, in 1981 and 1983 Company will receive for this power is expected to bc advcrscly affected by the existing soft market for wholesale and off-system power sales.

27

Public Service Company of New Mexico and Subsidiaries It is projected that the non-utility subsidiaries will provide a substan- rate reductions, over time, will increase the camings of non-utility tial portion of their capital requirements from internally-generated business units and will reduce the cost of service to our utility sources. To thc extent that external debt financing may be required, customers through a corresponding loivering of future revenue such borrowings will bc made independently by the subsidiaries requirements.

from third-party sources and will be nonrecourse to thc Company.

While the Tax Reform Act of 1986 reduces the corporate federal How willthe Company Meet its 1987 UtilityCapital income tax rate from 46 percent to 34 percent, effective July I, 1987, Requirements? seveml other provisions, including the repeal of the investment tax The Company expects to meet its 1987 utility external financing credit on ncw construction, less favorable depreciation rates, the requirements through the issuance of approximately $ 12 million of enactment of the corporate alternative minimum tax, and the taxing of common stock under the Company's stock plans, incurrence of revenues for utility services rendered but not yet billed, will have a short-tenn debt, and use of funds currently invested on a temporary somewhat negative impact on the Company's cash flow.

basis. Stock plans previously provided a significant portion of the Capital Structure on December 31, 1986 Company's capital requirements. It is anticipated that stock plans will As a result of thc retirement of first mortgage bonds and cumulative no longer provide significant capital since, in the future, stock for the preferred stock discussed above, the Company's capital structure on plans will principally bc obtained from open-market purchases December 31, 1986 consisted of:

rather than from the issuance of new shares.

Uquidity Thc Company's management measures liquidityin a number of ways 1986 Capital Structure in evaluating the Company's ability to maintain financial strength.

Cash dcrivcd from operations is an important indicator. The level of 2.8'Yi cash and,temporary cash investments, less short-term borrowings, is another.'A third measure is the Company's ability to raise needed capital from outside sources.

The sale and leaseback of the Company's interests in Palo Verde Units I and 2 directly and indirectly influences thc Company's overall cash position. Tire Company is required to make lease payments 51.8<

totaling,$ 84.6 million per year over thc approximate 29 year term of 42.5%

thcsc leases. However, thc proceeds from thc sale and lcasebacks allowed the Company to reduce a significant portion of its highest cost first"mortgage debt and preferred stock. (Scc the accompanying charts detailing the Company's capital structure). The Company has saved $ 46.7 million in interest and dividend payments annually, has reduced the need for short-term borrowings, and has increased compared with 1985:

interest income from temporary cash investments.

The Company had $ 259 million in cash and temporary cash invest-1985 Capital Structure ments at the cnd of 1986, compared with $ 384 million at the end of 4.5%

1985. At thc cnd of 1986, the Company had available, for short-term 5.1%

bormwings, unused bank lines of credit of about $ 225 million.

The Company can raise external capital by issuing first mortgage bonds or prefcmed stock provided certain earnings tests are mct.

Tests applying to the issuance of additional first mortgage bonds and preferred stock are specified in the mortgage indenture and the 41.7i/i Company's Restated Articles of Incorpomtion, respectively. As of December 31, 1986, these tests did not restrict the Company's ability 48.7'/i to issue additional first mortgage bonds or preferred stock in amounts adequate for currently projected future funding rcquircments. Thc Company currently has no plans to issue additional first mortgage bonds or preferred stock.

The Effects of the New Tax Law are Mixed 0 Long. term Debt.

The Tax Reform Act of 1986 is not expected to have a pronounced Less Current Maturities D Preferred Stock Without short-term effect on the Company. The Company's regulated busi- 0 Preferred Stock With Mandatory Redemption nesses arc gcncrally protected under the Act from rapid shifts in Mandatory Redemption Requirements either earnings or revenue requirements due to any potential reduc- Requirements D Common Stock Equity tions in existing deferred income tax balances. It is expected that tax 28

Public Service Company of Ncw Mexico and Subsidiaries Results of Operations Nct earnings applicable to coinmon stock during the last thrcc years

(

1 OI'r 1986 S133 million S3.29 per share 1985

$ 122 million

$ 3.30 per share 1984

$ 109 million or

$ 3.11 per share The 1986 and 1985 clings reflect thc operation of the gas utility assets acquired in January 1985. The following discussion highlights significant items which affected the amount of reported earnings.

Electric Revenues Increased $ 35 million; Gas Revenues Oecreased S29 million Electric operating revenues increased $ 35.0 million in 1986 over 1985 primarily because of a 3.9 percent increase in energy sales to retail rcsidcntial, commercial, and industrial customers. Rcvcnucs from wholcsalc customers incrc~d $ 11.0 million in 1986 primarily Total Kwhr Sales Kwhr in Millions as a result of increased revenues from San Diego Gas and Electric

~other contracted Ener97 saks 7 37 Company for the increased capacity made available to it by the 7202

~ Sales lor Resale 6884 Company. However, energy sales to fimi and contingent wholesale ~ tndustrtat tt Other Retail 6491 6728 customers dcclincd 24.8 pcrccnt from 1985 as a result of lower-cost II Commercrat CJRestdentlat 5402 5761 energy,.available to these utilities mainly from oil- and gas-fired 4528 power plants. 4367 3595 The decrease in electric operating revenues in 1985 was caused by dccrcascd sales to wholcsalc customers, resulting from a reduction in contractual cncrgy demands of four non-affiliated utilitics during 1985.

Gas operating revenues dcclincd $ 29.1 million in 1986 although only eleven Inonths of gas operations were included in 1985 results. The '76 77 '78 '79 '80 '81 '82 '83 '84 '85 '86 primary reasons for this decline are lower gas purchase costs which are recovered through a purchased gas adjustment clause and a decrease in volumes pure}fused by industrial customers. However, the nct gas revenues (gas revenues less gas purchased for resale) are up by $ 7.9 million over 1985. Thc decked consuinption by industrial customers was duc partially to a NMPSC order which requires Ncw Mexico gas utilitics to offer gas carriage scrvicc to qualifying customers at sct rates on an available capacity basis.

Fuel and Purchased Power Expense Increased Slightly in 1986 Rel and purchased power expense, which is partially offset by off-systein cncrgy sales to other utilities, increased $ 3.9 million in 1986 after having declined $ 49.5 million in 1985. The 1986 increase is due to a soft off-system energy sales market, a result of incxpcnsive oil and gas generation availability. The 1985 decrease was due to a 200 MW block energy sale which extends through 1989, significantly offsetting fuel and purchased power expenses.

Other Operation Expenses Increased Largely the Result of Lease Payments Other operation expenses increased $ 69.5 million in 1986 due pri-marily to the incurrence of lease payincnts of $ 39.6 million for Pilo Verde Units and 2 and operation expenses of $ 9.9 inillion incurred 1

for these units which began commercial operation in 1986. Other 29

Pubfic Service Company of New Mexico and Subsidiaries operation expenses for 1985 incrcascd $53.8 million over 1984 Equity in Earnings of Unconsolidated Affiliates primarily as a result of the addition of gas operations in January 1985 Showed a Loss in 1986 which accounted for $ 41.5 million of thc increase. The remainder of Thc results of operations from unconsolidated affiliates showed a loss this increase was due primarily to lease payments for an electric in 1986 mainly due to a write-off of a venture capital investment of transmission facility leased in 1985. $ 6.0 million. In addition, earnings from real estate operations dcclincd as a result of dcprcsscd market conditions in Texas and Operating Income Taxes Decreased in 1986 Oklahoma.

Operating income taxes decreased $ 28.6 million in 1986 due pri-Other Income Increased in 1986 marily to thc liow-through of tax benefits such as those associated Other income increased $ 10.1 million in 1986 over 1985 principally with start-up activities at Palo Verde, losses on hedging transactions, as a result of increased interest income from the investment of and premiums incurred in the retirement of $ 212.2 million of the procccds from the sale and le~backs of the Company's interest in Company's first mortgage bonds. These tax benefits, primarily Palo Vcnle Units I and 2. In 1985, other income declined $ 14.8 accounted for by thc flow-through method in accordance with reg-million largely as the result of operating costs associated with com-ulatory orders of the NMPSC, provided nct earnings of $ 41.6 million mercial operation of a medium-density fibcrboaid manufacturing (or $ 1.03 pcr share), and are not expected to recur at the same high plant by a subsidiary of thc Company. The losses experienced by thc level in future years. A $ 10.5 million decrease in operating income fiberboard plant continued in 1986.

tax cxpcnse in 1985 resulted primarily from tax benefits related to start-up activities at Palo Verde. Interest Charges and Preferred Dividend Requirements Decreased in 1986 as a Result of Retirements Proceeds from the sale and lcascbacks of the Company's interest in Operating Expenses Palo Verde Units I and 2 allowed the Company to retire $ 212.2 Dollars In Millions million of first mortgage bonds and $ 89.8 million of preferred stock in 1986. As a result, interest charges and preferred dividend require-C3 eas ments decreased $ 24.0 million and $ 5.7 million, respectively, from 300

~ tease Expense'3

$ 318 1985. Interest on long-term debt increased $ 13.5 million in 1985 Other Eteetrte 8 Water $ 272 largely as a result of the issuance of notes for the gas property acquisition in 1985.

$ 202 $ 203

$ 193 The Company's Response to Marketing and

$ 146 Regulatory Challenges

$ 125

$ 99 Thc Governor of New Mexico has recently announced an initiative

$ 81

$ 62 by thc Company relating to a potential restructuring. The restructur-ing would include steps in addition to the holding company forma-tion previously proposed. The additional steps may entail separation

'76 '77 '78 '79 '80 '81 '82 '83 '84 '85 '86 of the Company's electric utility operations into generation and

'Exclusive of fuel and purchased power and gas purchased for distribution entities. Under this arrangement, thc generation entity resale expenses. would bc committed to supply the projected power needs of thc

'Operating lease expenses incurred for Palo Verde Units and EIP distribution entity under a long-term contract. The gas and water transmission line.

utilitics could also be scparatcd into new entities. The Company anticipates that these additional restructuring steps, if ultimately implcmcnted, could result in a retail electric rate reduction. We are presently discussing restructuring proposals with New Mexico state Allowance for Funds Used During Construction officials and other interested parties.

Decreased Uncommitted Capacity is of Concern from a Marketing AFUDC, a non-cash item, decreased $ 32.0 million in 1986 as a result of lower average construction work in progress balances result- and Earnings Perspective ing largely from the commercial operation of Palo Verde Units I and The initiative is intended to respond generally to competitive pres-2 in 1986. sures experienced by thc Company in the marketing of power, and morc specifically to a number of problems facing the Company. One Deferred Carrying Costs on Uncommitted Electric of the Company's major concerns results from the fact that its existing Generating Capacity Increased and projected load requirements are substantially lower than those Since 1982, the Company has deferred carrying costs associated with predicted at the time commitments were made to construct new specifically identified uncommitted generating capacity in accord- gcncrating units. The Company, therefore, now has substantial gen-ance with a NMPSC order. This non-cash deferral increased $ 13.0 eration capacity in excess of its requirements for its firm customers million in 1986 over 1985 due primarily to an incite~ in uncommit- (uncommitted capacity). The Inventory of Capacity ratemaking ted gcncrating capacity resulting from thc commercial operation of methodology, first implemented in 1982, was a regulatory at tempt to Palo Vcrdc Units I and 2. address this situation.

30

Public Service Company of New Mexico and Subsidiaries As of Dccembcr 31, 1986, wc had 1,565 megawatts of owned and Focus on Inventorying Methodology and Palo Verde leased generating capacity plus 113 megawatts being purchased from Costs other owners of San Juan Unit 4. An additional 130 megawatts willbe Future earnings may be adversely affected by various devclopmcnts added following the date Ptio Verde Unit 3 is placed in service relating to the inventorying methodology. Initiatives by the Financial (currently scheduled for thc third quarter of 1987). The Company Accounting Standards Board (FASB) regarding phase-in plans may estimates that it will have 552 megawatts of uncommitted capacity adversely affect the viability of the inventorying methodology. In available to be sold at thc time of its summer peak of 1987, increasing addition, the NMPSC has scheduled a proceeding to obtain pro-to 705 megawatts in 1991. posals for alternatives to the inventorying methodology. See note (I)

Over the next five years, 36 percent of thc energy associated with to the consolidated financial statements.

uncommitted capacity is contracted for sale to other utilitics. How-Additionally, the NMPSC has initiated an investigation of Palo Vcrdc ever, our ability to sell the remaining uncommitted capacity or energy project managcincnt and construction costs. Thc investigation's pur-willbc affcctcd by transmission availability and levels of competition pose is to determine the prudence of the Company's incurred Pilo in the off-system market. Competition in thc off-system inarkct has Verde costs and to quantify thc costs resulting from imprudence, if intensified due, in part, to thc availability of excess capacity from any. An accounting standanl recently adopted by the FASH would other utilitics, a decree in oil and natural gas prices, and the require the Company to charge disallowed costs, ifany, to expense at emergence of co-generation and self-generation as competing energy the time such disallowance is dctcrmincd to bc probable. Sce notes sources.

(1) and (ll) to thc consolidated financial statements.

Projected levels of uncoinmittcd capacity will make the Company Our Natural Gas Business Also Faces Challenges dependent on thc inventorying methodology for a substantial portion NMPSC regulations currently limitour ability to compete effectively of its future earnings. We project that the inventorying methodology with altcrnativc carriers and to manage our supply requirements would defer approximately $ 248 million of nct carrying charges over under changing market conditions. We have filed an application with thc next five years. Earnings attributable to thc inventorying meth-thc NMPSC sccking modifications of those regulations.

odology'amounted to 10.7 pcrccnt of our 1986 net e~ings.

Summary: The Company is Evaluating Alternatives Thc Company has considered various rcsponscs to the above issues.

The likelihood of our long-tenn dependence on thc inventorying Electric Resources: Contracted and Uncontracted (Capacity at Time of Peak) inethodology for a substantial portion of the Company's earnings, Megawatts assuming the inethodology continues, and uncertainties as to thc continuation of thc methodology, have caused us to evaluate alter-

~ Forecasted Uncontrscted Ca pacttyr 2,500

~ Contracted to Other Utilities natives. The prospect of lengthy adversarial proceedings concerning thc prudence of Pilo Verde costs, pressure on the Company within

~ Forecasted System Load, Including Required the State of New Mexico to reduce and stabilize retail rates, and intensified competition in the marketing of power, have likewise Reserves',500 caused the examination of alternatives. The result of this examination to date has been the Company's initiative relating to the potential separation of the electric generation and distribution assets into 1>000 distinct entities. Details of any additional restructuring, including the legal form of the potential new entities, are currently under consideration.

Assuming separation into a NMPSC-regulated distribution entity

'87 '88 '89 '90 '91 '92 '92 '94 '95 '98 and a FERC-regulated generation entity, the Company anticipates that the inventorying methodology may no longer be appropriate.

'PNM has the opportunity to recover costs of forecasted uncontracted capacity through competitive market sales revenues. Also, thc review by the NMPSC of the piudencc of Palo Verde costs would be obviated since the Company's interest in Palo Verde would

'Capacity and reserves necessary to meet the needs of both New Mexico retail customers and firm wholesale customers. then be a part of the FERC-regulated generation entity. Implementa-tion of any such restructuring willbc subject to numerous conditions, including rcquircd regulatory and other approvals.

31

Public Service Company of New Mexico and Subsidiaries Selected Financial Data 1986 1985 1984 1983 1982 (In thousands except per share amounts and ratios)

Total Operating Revenues S 697,995 $ 689,982 $ 445,328 $ 397,474 $ 426,543 Net Earnings S 151,005 $ 146,310 $ 132,840 $ 140,519 S 115,822 Earnings per Common Share S 3.29 S 3.30 S 3.11 S 3.53 $ 3.22 Total Assets $ 2,756,144 $ 3,010,238 $ 2,598,744 $ 2,486,429 $ 2,145,984 Preferred Stock with Mandatory Redemption Requirements S 66, 147 $ 119,080 $ 121,080 $ 123,700 $ 125,000 Long-Term Debt, less Current Maturities S 901,511 $ 1,143,355 $ 1,030,557 $ 974,290 $ 811,653 Common Stock Data:

Dividends paid per common share S 2.92 $ 2.89 $ 2.85 $ 2.81 $ 2.77 Dividend pay-out ratio 88.8/o 87.6'/o 91 7o/o 79.6'/o 86.0'/o Market price per common share at year end S 33.000 S 29.500 $ 24.375 $ 25.375 $ 26.000 Book value per common share at year end S. 26.51 $ 25.73 $ 25.28 $ 25.20 $ 24.35 Average number of common shares outstanding 40,401 37,059 35,011 32,956 28,508 Return on average common equity 12.8/o 13.2'lo 12.5'lo 14 3o/o 13.6'/o Ratio of Earnings to Fixed Charges (S.E.C. Method) 2.51 2.63 2.32 2.81 2.70 Capitalization:

Common stock equity 51.6o/o 41.7o/o 42.1 /o 41 5o/o 42.8'/o Preferred stock:

Without mandatory redemption requirements 2.8 4.5 5.2 5.8 With mandatory redemption requirements 3.1 5.1 6.0 6.9 Lon g-term debt, less current matudties 42.5 48.7 47.3 44.5 100 0 lo 100.0o%%d 100.0'/o 100 0'/o 100 0'/o The selected financial data should be read in conjunction with the consolidated financial statements and notes to consolidated financial statements contained elsewhere in this report.

32

Public Service Company of New Mexico and Subsidiaries Management's Responsibility for Financial Auditors'eport Statements Thc managcmcnt of Public Service Company of New Mexico is The Board of Directors and StockhoMcrs responsible for the preparation and presentation of thc accompanying Public Service Company of New Mexico:

consolidated financial statcincnts. The consolidated financial state-We have examined the consolidated balance sheet of Public Service ments have been prepared in conformity with gcnemlly accepted Company of Ncw Mexico and subsidiaries as of December 31, 1986 accounting principles and include amounts that are based on and 1985 and the related consolidated statements of earnings, informed estiinatcs and judgements of management.

retained clings and changes in financial position for each of the Managcincnt inaintains a systcin of internal accounting controls years in the three-year period ended Deceinbcr 31, 1986. Our exam-which it believes is adequate to provide reasonable assurance tlrat inations were made in accordance with gcncmlly accepted auditing assets are safeguarded, transactions are executed in accordance with standards and, accordingly, included such tests of the accounting managcinent authorization and the financial records are reliable for records and such other auditing procedures as we considcrcd neces-preparing the consolidated financial statements. The system of inter- sary in the circumstances.

nal accounting controls is supported by written policics and pro-In our opinion, the aforcmcntioned consolidated financial statements cedures, a staff of internal auditors who conduct comprehensive prcscnt fairly the financial position of Public Service Company of internal audits and by the sclcction and training of qualiTied Ncw Mexico and subsidiaries at December 31, 1986 and 1985 and the pcrsonncl.

results of their operations and changes in their financial position for Thc Board of Directors, through its Audit Conunittec comprised each of thc years in the thrcc-year period ended Deccmbcr 31, 1986, cntircly of outside directors, mccts periodically with managcinent, in confomiity with generally accepted accounting principles applied internal auditors and the Company's indepcndcnt auditors to discuss on a consistent basis.

auditing, internal control and financial reporting matters. To ensure their independencc, both the internal auditors and indcpcndcnt auditors have full and free access to the Audit Committcc.

PEAT, MARWICK, MITCHELL& CO.

Thc independent auditors, Peat, Marwick, Mitchell & Co., are engaged to examine the Company's consolidated financial statcmcnts Albuquerque, New Mexico in accordance with generally accepted auditing standards. February 19, 1987 33

Public Service Company of New Mexico and Subsidiaries Consolidated Statement of Earnings Year Ended December 31 1986 1985 1984 (In thousands except per share amounts) 0 crating Revenues:

Electric S 443,084 $ 408,101 $ 438,974 Gas (note 10) 244,666 273,737 Water 10,245 8,144 6,354 Total operating revenues 697,995 689,982 445,328 Operating Expenses:

Fuel and purchased power 50,318 46,456 95,904 Gas purchased for resale 149,685 186,691 Other operation expenses 191) 604 122,085 68,278 Maintenance and repairs 41,879 42,691 34,075 Depreciation and amortization 60,249 55,366 48,975 Taxes, other than income taxes 30,511 29,729 19,246 Income taxes (note 5) (6,727) 21,850 32,356 Total operating expenses 517,519 504,888 288,834 Operating income 180,476 185,114 146,494 Other Income and Deductions, net of taxes (note 5):

Allowance for equity funds used during construction 34,926 57,848 50,735 Deterred carrying costs on uncommitted electric generating capacity 16,191 3,230 2,924 Equity in earnings (loss) of unconsolidated affiliates (1,567) 5,815 7,975 Other 4,193 (5,889) 8,865 Net other income and deductions 53,743 61,004 70,499 Income betore interest charges 234,219 246,118 216,993 Interest Charges:

Interest on Iong-term debt 87,961 111,974 98,463 Other interest charges 9,147 10,779 8,421 Allowance for borrowed funds used during construction (13,894) (22,945) (22,731)

Net interest charges 83,214 99,808 84,153 Net Earnings 151,005 146,310 132,840 Preferred Stock Dividend Requirements 18,187 23,901 23,990 Net Earnings Applicable to Common Stock S 132,818 $ 122,409 $ 108,850 Average Number of Common Shares Outstanding 40,401 37,059 35,011 Earnings per Share of Common Stock S 3.29 $ 3.30 $ 3.11 Dividends Paid per Share of Common Stock S 2.92 $ 2.89 $ 2.85 Consolidated Statement of Retained Earnings Year Ended December 31 1986 1985 1984 (In thousands)

Balance at Beginning of Year S 198,703 $ 182,964 $ 173,420 Net Earnings 151,005 146,310 132,840 Dividends:

Cumulative preferred stock (18,187) (23,901) (23,990)

Common stock (118,105) (106,670) (99,306)

Balance at End of Year S 213,416 $ 198,703 $ 182,964 See accompanying notes to consolidated financial statements.

34

Pubiic Service Company of New Mexico and Subsidiaries Consolidated Balance Sheet December 31 1986 1985 Assets (In thousands)

UtilityPlant, at Original Cost (notes 3, 7 and 11):

Electric plant in service $ 1,499,548 $ 1,442,532 Gas plant in service 327,188 311,049 Water plant in service 38,834 36,155 Common plant in service 44,820 41,622 1,910,390 1,831,358 Less accumulated depreciation and amortization 463,470 413,366 1,446,920 1,417,992 Construction work in progress 321,164 630,761 Plant held for future use 74, 132 68,095 Nuclear fuel, net of accumulated amortization 60,763 54,609 Net utility plant 1,902,979 2,171,457 Other Property and Investments:

Non-utility property, at cost, net of accumulated depreciation, partially pledged 166,609 85,785 Investment in unconsolidated affiliates 108,700 122,925 Other, at cost 15,793 21,566 Total other property and investments 291,102 230,276 Current Assets:

Cash 3,578 7,974 Temporary cash investments 255,857 375,767 Receivables, net 122,556 112,963 Fuel, materials and supplies, at average cost 58,326 42,002 Gas in underground storage, at last-in, first-out cost 12,037 12,112 Prepaid expenses 8,202 6,778 Total current assets 460,556 557,596 Deferred Charges 101,507 50,909

$ 2,756,144 $ 3,010,238 Ca italization and Liabilities Capitalization:

Common stock equity (note 2):

Common stock outstanding 41,313 358 shares in 1986 and 37 965 868 shares in 1985 S 206,567 $ 189,829 Additional paid-in capital 675,353 588,415 Retained earnings 213,416 198,703 Total common stock equity 1,095,336 976,947 Cumulative preferred stock without mandatory redemption requirements (note 2) 59,000 106,000 Cumulative preferred stock with mandatory redemption requirements (note 2) 66,147 119,080 Long-term debt, less current maturities (note 3) 901,511 1,143,355 Total capitalization 2,121,994 2,345,382 Current Liabilities:

Short-term debt (note 4) 32,622 49,435 Accounts payable 88,081 97,179 Current maturities of long-term debt (note 3) 45,907 77.723 Accrued interest and taxes 29,646 81,924 Other current liabilities 39,774 32,100 Total current liabilities 236,030 338,361 Deferred Credits:

Accumulated deterred investment tax credits (note 5) 184,888 146,456 Accumulated deferred income taxes (note 5) 123,751 120,472 Other deterred credits 89,481 59,567 Total deferred credits 398,120 326,495 Commitments, Contingencies and Subsequent Event (notes 7, 8, 9, 11 and 13)

S2,756,144 $ 3,010,238 See accompanying notes to consolidated financial statements.

35

Pubiic Service Company of New Mexico and Subsidiaries Consotidated Statement of Changes in Financiai Position Year Ended December 31 1986 1985 1984 (In thousands)

Funds Generated Internally:

Net earnings S 'l51,005 $ 146,310 $ 132,840 Charges (credits) to earnings not requiring funds:

Depreciation and amortization 78,432 64,068 52,844 Provision for non-current deferred income taxes, net 3,279 5,614 27,175 Investment tax credits, net 38,432 44,651 17,306 Allowance for equity funds used during construction (34,926) (57,848) (50,735)

Deferred carrying costs on uncommitted electric generating capacity (16,191) (3,230) (2,924)

Earnings of unconsolidated affiliates 3, 121 (11,545) (14,153)

Funds derived from operations 223,152 188,020 162,353 Less cash dividends 136,292 130,571 123,296 Total funds generated internally 86,860 57,449 39,057 Funds Obtained from (Applied to) Outside Sources:

Sale of common stock 103,676 47,975 48,123 Safe of first mortgage bonds 65,000 Proceeds from pollution control revenue bonds 4,037 52,146 14,583 Reacquisition of preferred stock {89,825)

Reacquisition of first mortgage bonds (212,247)

Bond and preferred stock reacquisition premiums (44,781)

Loss on hedging transactions (17,597)

Increases in other long. term debt 141,529 145,696 31,377 Decieases in other long-term debt (175,948) (84,129) (54,266)

Increase (decrease) in short-term debt, net (16,813) 19,122 (95,977)

Proceeds from sale of utility plant, net 429,612 363,421 Decrease (increase) in working capital, other than short-term debt 11,522 (169,983) 214,443 Other 12,425 119 2,091 Total funds obtained from outside sources 145,590 374,367 225,374 Total funds generated S 232,450 $ 431,816 $ 264,431 Construction Expenditures, Investments and Acquisition:

Utilityplant additions S 163,489 $ 203,347 $ 224,599 Increase in other property and investments 68,961 15,227 39,832 Acquisition of non-current New Mexico gas properties:

Property, plant and equipment 225,719 Other assets 5,329 Deferred credits {17,806)

Total construction expenditures, investments and acquisition S 232,450 S 431,816 $ 264,431 See accompanying notes to consolidated financial statements.

36

Public Service Company of New Mexico and Subsidiaries and subsequently allocated to operating expenses or construction Notes to Consolidated Financial Statements projects based on the usc of the equipmcnt.

December 31, 1986, 1985 and 1984 Depreciation of non-utility property is computed on thc straight-line method.

Amortization of nuclear fuel is computed based on thc units of production method.

Allowance for Funds Used During (1) Summary of Significant Accounting Policies Construction (AFUDC)

System of Accounts As provided by the uniform systems of accounts, AFUDC, a non-The Coinpany maintains its accounts for utility operations primarily cash item, is charged to utility plant. AFUDC represents the cost of in accordance with the uniform systems of accounts prescribed by the borrowed funds (allowance for borrowed funds used during construc-Fcdcral Energy Regulatory Coinmission (FERC) and the National tion) and a return on other funds (allowance for equity funds used Association of Regulatory Utility Commissioners (NARUC), and during construction). Thc Company capitalizes AFUDC on con-adopted by thc Ncw Mexico Public Service Commission (NMPSC). struction work in progress (CWIP) to the extent allowed by reg-As a result of the rateinaking process, the application of generally ulatory agencies. The Company also capitalizes AFUDC on its plant accepted accounting principles by the Coinpany differs in certain held for future use as allowed by the NMPSC.

respects from thc application by non-regulated busincsscs. Such AFUDC is computed using the maximum rate, net of taxes, permit-diffcrcnccs generally regard the time at which certain items enter into ted by FERC. The rates used were 8.97 pcrccnt, 9.22 percent and thc dctcrmination of net earnings in order to follow the principle of 9.34 percent for 1986, 1985 and 1984, respectively, compounded matching costs and revenues.

semi-annually.

Certain prior year amounts have bccn reclassified for comparability.

Thc gas gathering subsidiary is classified as non-utility in thc accom-Deferred Carrying Costs on Uncommitted panying consolidated financial statements. Allprior periods included Electric Generating Capacity in this report have bccn reclassified accordingly. Effective in 1982, the Company received approval of the NMPSC to implcmcnt an electric utility ratemaking methodology called Principles of Consolidation Inventory of Capacity. Under this methodology, the Company Thc consolidated financial stateincnts include the accounts of Public records as income and as a deferred charge an amount equivalent to Scrvicc Company, of New Mexico and subsidiaries over which it carrying charges associated with specifically identified uncommitted cxcrcises control. All significant intercompany transactions and bal- gcncrating capacity. When off-system cncrgy sales are made from ances have been eliminated. Investmcnts in unconsolidated affiliates such capacity, the net proceeds are deducted from the deferred are accounted for by the equity method. carrying charges. The net dcferrals each year are limited to a specified pcrccntage of the cost of uncommitted gcncrating capacity.

Utility Plant Under existing orders of the NMPSC, all charges remaining after off-Utilityplant is stated at original cost, which includes payroll-related systcm energy sale credits willbe recovered over the useful life of the costs such as taxes, pension and other fringe benefits, administrative generating facility when the uncommitted capacity is used to meet costs and an allowance for funds used during construction. NMPSC jurisdictional load.

It is Coinpany policy to charge repairs and minor replacements of Through 1986, deferred carrying charges have totaled $ 76.6 million, property to maintenance expense and to charge major replaccmcnts of which $ 40.0 million has bccn recovcmd from off-system energy to utility plant. Gains or losses resulting from retirements or other sales, $ 4.0 million has been recovered in rates charged to retail cus-dispositions of operating property in the normal course of business tomers and $ 7.6 million was recovered through thc sales of portions are credited or charged to the accumulated provision for of San Juan Unit 4, leaving $ 25.0 million in defcrrcd charges to dcprcciation. be recovered over the useful life of the gcncrating facilities.

Depreciation and Amortization A potential change in financial accounting standards and reevalua-Provision for dcprcciation of utility plant is made at annual straight- tion by the NMPSC in 1988 will cause the above-described method-line rates approved by the NMPSC. The average depreciation rates ology to be reconsidered. A potential restructuring being studied used are as follows: by thc Company may cause such methodology to be inappropriate.

Sce note (13).

1986 1985 1984 Financial Accounting Standards for Regulated Electric plant 3.23o/o 3.26/o 3.29/o Gas plant 3 17o/o 3.00o/o Enterprises Water plant 2.034/o 2.09 /o 2.04 /o In Dcccmbcr 1985, the Financial Accounting Standards Board Common plant 9.464/o 9.38 /o 7.28 /o (FASH) proposed an amendment to Statement of Financial Account-ing Standards (SFAS) No. 71, Accounting for thc Effect of Certain Thc provision for depreciation of certain cquipmcnt, including amor- T//pes of Regulation. A portion of the amendment relating to account-tization applicable to capital lcascs, is charged to clearing accounts ing for phase-in plans (such as the Inventory of Capacity ratemaking 37

Public Service Company of New Mexico and Subsidiaries methodology), if approved as proposed, would have required thc method, known as tax normalization, is used primarily for dif-Company to obtain NMPSC approval for significant revisions to the fcrcnces attributable to deferred fuel costs, thc usc of liberalized Inventory of Capacity ratemaking methodology. If such revisions depreciation and accelerated cost recovery methods, pension costs were not approved by the NMPSC, the Company would have been and receipt of advance lease payments. Certain other timing dif-required to write off amounts previously deferred under the ferences result in reductions of income tax expense in the current year Inventory of Capacity ratemaking methodology and would have as required by thc NMPSC. This flow-through method is used for restated the financial statements for prior years, reducing net earnings minor diffeicnccs between book and tax depreciation, certain cap-for 1982 through 1986 by a total of up to $ 25.0 million. In addition, italized construction costs including start-up costs at Palo Verde the Company's financial statements for future years would reflect Nuclear Generating Station (PVNGS), premiums on retirement of charges to expcnsc for those costs yet to be incuncd that would first mortgage bonds, losses on hedging transactions and for pollu-otherwise have been deferred under the existing methodology. The tion control facilitics which are amortized over five years for tax pro posed amendmcnt also provided for changes in the accounting for puiposes.

costs disallowed by regulators and for abandoned plants. Following a Rates subject to FERC jurisdiction allow recovery of amounts public comment period and hearings, the FASB indicated its inten- necessary to provide additional tax normalization of the timing tion to issue a ncw exposure draft of its proposed amendment relating differences described above which arc accounted for under the flow-to thc accounting for phase-in plans, rather than to issue the amend- through method for other customers. Provision has been made for ment as originally proposed. The amounts, if any, which the Com- additional deferred income taxes attributable to amounts collected pany will be required to charge to expense in the future will not be under these rates.

determinable until a final amendment is issued by the FASH and then considered by the Company and the NMPSC. Deferred taxes arc provided on all non-permanent differences between book and taxable income attributable to non-utility opera-In December 1986, the FASB issued SFAS No. 90 which amends tions. These differences consist primarily of interest and other SFAS No. 71 and requires that any disallowed costs be charged to cxpcnses which are capitalized for book purposes and income which expense at the time such disallowance is determined to be probable. is taxable in periods other than when lccognized for financial report-SFAS No. 90 also provides that if the cost of an abandoned plant ing purposes.

exceeds'he present value of future rcvcnucs expected to be provided to recover the cost of thc abandoned plant, a loss shall be recorded in The Company defers investment tax credits related to utility assets the amount of such excess. The Company cumentiy has no such costs and amortizes them over the estimated useful lives of the related disallowed by the NMPSC, which would be impacted by SFAS assets. Investment tax credits generated by non-utility properties are No. 90. See note (11). recognized as reductions of current income tax expense.

Fuel, Purchased Power and Gas Revenues Purchase Costs Revenues are iccognizcd based on cycle billings rendered to custom-Economy and other near-term energy transactions are shown as a ers monthly. The Company does not accrue icvcnues for service reduction of fuel and purchased power expenses. The Company uses provided but not billed at the end of a fiscal period.

thc deferral method of accounting for thc portion of fuel, purchased power and gas purchase costs which are reflected in subsequent periods under fuel and purchased gas adjustment clauses. Future (2) Common Stock and Cumulative recovery of these costs is based on orders issued by the regulatory Preferred Stock commissions.

The number of authorized shares of common stock with par value of Amortization of Debt Discount, Premium $ 5 pcr share is 80,000,000 shaics. The Board of Directors has and Expense periodically reserved common stock for the Shareholder's Dividend Discount, premium and expense related to the issuance and retire- Reinvestment Plan, the Employee Stock Purchase Plan, the Master ment of long-term debt are amortized over the lives of the respective Employee Savings Plans and the Consumer Stock Plan (Stock issues. Plans), with 2,637,801 shares remaining unissued at December 31, 1986. However, it is anticipated that shares for Stock Plans (except the Income Taxes Consumer Stock Plan) willbe obtained from open-market purchases Certain revenue and expense items in the Consolidated Statement of after April 1987.

Earnings afc recorded for financial reporting purposes in a year different from the year in which they are recorded for income tax The number of authorized shares of cumulative preferred stock is purposes. Deferred income taxes are provided on these timing 10,000,000 shaics. Information concerning the cumulative preferred differences to thc extent allowed for ratemaking purposes. This stock at Dccembcr 31, 1986 is shown on the following page:

38,

PubIic Service Company of New Mexico and Subsidiaries Stated Aggregate Stated Shares Redemption Stated Value Value Outstanding Price (In thousands)

Without Mandatory Redemption Requirements:

1965 Series, 4.58% $ 100 130,000 $ 102.00 $ 13,000 8.48% Series 100 200,000 106.00 20,000 8.80% Series 100 260,000 106.20 26,000 590,000 $ 59,000 With Mandatory Redemption Requirements:

8.75% Series $ 100 360,800 $ 105.80 $ 36,080 12.52% Series 50 700,000 35,000 14.75% Series 100 31,750 109.85 3.175 1,092,550 74,255 Redeemable within One Year:

8.75% Series 100 (26,000) 100.00 (2,600) 12.52% Series 50 (46,660) 50.00 (2,333) 14.75% Series 100 (31,750) 100.00 ~(3.175 (104,410) (8,108) 988,140 $ 66,147 The Company, upon thirty days'otice, may redeem the cumulative $ 3,633,000, $ 3,633,000 and $ 3,633,000, respectively.

preferred'stock at stated redemption prices plus accrued and unpaid dividends. Redemption prices are at reduced premiums in future In 1986, thc Company redeemed or purchased approximately $ 89.8 years. No redemptions may bc made prior to October 15, 1991, million of the Company's cumulative preferred stock, including the except for use of sinking fund and optional redemptions, for the 9.16% Series, 9.2% Series, 10.12% Series and a portion of thc 12.52%.Series. 14.75% Series.

Mandatory redemption requirements and planned optional redemp- Changes in common stock, additional paid-in capital and cumulative tions for 1987 through 1991 arc $ 8,108,000, $ 3,613,000, preferred stock are as follows:

Cumulative Preferred Stock Without With Additional Mandatory Mandatory Paid-In Redemption Redemption Common Stock Capital Requirements Requirements Number Aggregate Number Aggregate Number Aggregate of Par of Stated of Stated Shares Value Shares Value Shares Value (Dollars in thousands)

Balance at December 31, 1983 33,932,809 $ 169,664 $ 511,975 1,660,000 $ 106,000 1,587,000 $ 123,700 Stock Plans 2,194,380 10,972 37,151 Redemption of stock 507 ~26.200) (2,620)

Balance at December 31, 1984 36,127,189 180,636 549,633 1,660,000 106,000 1,560,800 121,080 Stock Plans 1,838,679 9,193 38,782 Redeemable within one year (20,000) (2,000)

Balance at December 31, 1985 37,965,868 189,829 588,415 1,660,000 106,000 1,540,800, 119,080 Public issue of stock 1,800,000 9,000 44,256 Stock Plans 1,547,490 7,738 42,682 Redemption of stock (1,070,000) (47,000) (448,250) (44,825)

Redeemable within one year (104,410) (8,108)

Balance at December 31, 1986 41,313,358 $ 206,567 $ 675,353 590,000 $ 59,000 988,140 $ 66,147 Charter provisions relating to the cumulative prcferful stock and of the Company. At December 31, 1986, there werc no retained thc indenture securing the first mortgage bonds impose certain earnings restricted under such provisions.

restrictions upon the payment of cash dividends on common stock 39

Public Service Company of New Mexico and Subsidiaries (3) Long-Term Debt The details of the Company's outstanding long-term debt are as follows:

Issue and Final Maturity Interest Rates 1986 1985 (In thousands)

First Mortgage Bonds:

1986 through 1991 4 /s% to 4 /s% S 16,936 $ 17,233 1992 through 1996 13'/s% 30,022 65,000 1997 through 2001 5/s% to 8'/s% 47) 565 48,294 2002 through 2006 7/2% to 10'/s% 85,875 86,697 2007 through 2011 8'/s% to 17'h% 89,837 151,848 2012 through 2016 12/s% to 13'/s% 7,443 125,000 1993 through 2013 pollution control series, securing pollution control revenue bonds 5.9% to 10/s% 437,045 437,045 Funds held by trustee (5,163) ~6,593)

Total First Mortgage Bonds 709,560 924,524 Pollution Control Revenue Bonds:

2003 through 2013 10% to 10'/4% 100,000 100,000 2009 variable rate 37,300 37,300 Funds Held by Trustee (13,448) (14,738)

Secured Notes (1986 through 1987) 8% 40,203 90,892 Other, Including Unamortized Premium and Discount 73,803 83,100 Total Long-Term Debt 947,418 1,221,078 Current Maturities (45,907) (77,723)

Long-Term Debt, less Current Maturities $ 901,511 $ 1,143,355 In 1986, proceeds from sale and leaseback transactions of thc Com- by their terms, can be refinanced by existing long-term credit pany's interests in PVNGS Units I and 2 allowed the Company to arrangements.

redeem or purchase approximately $ 212 million of the Company's first mortgage bonds. Also, thc Company converted, pursuant to mandatory conversion provisions, thc $ 23 million principal amount of 1984 Series A Pollution Control Revenue Bonds, secured by first (4) Short-Term Debt mortgage bonds, from a variable rate to a fixed rate of 7.75 percent Thc Company's interim financing requirements are met through the per annum. issuance of commercial paper and notes payable to banks which, rcspectivcly, amounted to approximately $ 19.7 million and $ 12.9 Substantially all utility plant is pledged to secure the first mortgage million at Dcccinber 31, 1986, and approximately $ 32.0 million and bonds. A portion of certain series of long-term debt will be redeemed

$ 17.4 million at Deccmbcr 31, 1985. At December 31, 1986, the serially prior to their due dates. The aggregate amounts (in thou-Company had unused credit commitments from various banks total-sands) of maturitics through 1991 on long-term debt outstanding at ing approximately $ 225 million. These credit arrangemcnts are used December 31, 1986, are as follows:

to support the issuance of commercial paper and to provide for short-1987 $ 45,907 tcrm borrowings. The Company gcncrally pays commitmcnt fees or 1988 $ 41,874 1989 $ 15,634 maintains cash balances on deposit with banks to assure availability 1990 $ 10,042 of its credit commitments. These commitmcnts consist of both lines 1991 $ 15,576 of credit and revolving credit agrccmcnts ranging in duration from Long-term debt includes certain issues which, although current onc to six years.

40

Public Service Company of New Mexico and Subsidiaries (5) Income Taxes Income taxes consist of the following components:

1986 1985 (In thousands)

Current Federal income tax S 57,012 $ 19,500 $ 1,878 Current State income tax 23,869 12,633 2,519 Deferred Federal income tax (8,985) 25,399 20,365 Deferred State income tax (2,645) 2,804 3,966 Investment tax credit utilized and deferred 42,992 41,939 20,726 Amortization of accumulated investment tax credits (5,176) (3,332) (3,060)

Total income taxes $ 107,067 $ 98,943 $ 46,394 Charged (credited) to operating expenses S (6,727) $ 21,850 $ 32,356 Charged to other income and deductions 113,794 77,093 14,038 Total income taxes $ 107,067 $ 98,943 $ 46,394 Deferred income taxes result from certain timing differences be-tween the recognition of income and cxpcnsc for tax and financial reporting purposes, as described in note (I).

The major sources of these differences for which deferred taxes have been piovidcd and the tax effect of each are as follows:

1986 1985 1984 (In thousands)

Deferred fuel costs S (3,074) $ 3,504 $ 1,251 Depreciation and cost recovery timing differences 18,800 23,822 24,000 Pension cost timing differences (4,101)

Provision for refunds 2,621 (7,071)

Charitable contribution carryfofward 584 (458) 2,301 Receipt of advance lease payments (31)007)

Other 7,168 (1,286) 3,850 Total deferred taxes S (11,630) $ 28,203 $ 24,331 The Company's effective income tax rate was less than thc Federal income tax statutory rate for each of the years shown. The differences are attributable to the following factors:

1986 1985 1984.

Federal income tax statutory rate 46 0% 46.0% 46:0'lo Allowance for funds used during construction (8.7) (15.2) (18.9)

Deferred carrying costs on uncommitted electric generating capacity (2.9) (6) (8)

Premiums on retirement of first mortgage bonds (5 7)

Losses on hedging transactions (2.8)

PVNGS start-up costs (4.2) (3.5)

Capital gains rate net of minimum tax (6 1) (3.8) (6)

Investment tax credits (2 0) (1.5) (4.1)

Reversal of flow-through items resulting from sate of PVNGS 21.4 17.5 Gains on the sale of PVNGS, deferred for financial reporting purposes 6.7 State income tax 4.4 3.4 2.0 Other (4 6) (2.0) 2.3 Company's effective tax rate 41 5% 40.3% 25.9%

Public Service Company of New Mexico and Subsidiaries The cumulative net amount of income tax timing differences upon Vested benefits $ 70,089 which deferred income taxes have not been provided is estimated Non-vested benefits 7,790 to be approximately $ 66.5 million and $ 51.7 million as of Accumulated benefit obligation 77,879 December 31, 1986 and 1985, respectively. Such amounts exclude Effect of future compensation levels 48,399 AFUDC and deferred carrying costs on uncommitted electric gener- Projected benefit obligation 126,278 ating capacity which are recorded on a net of tax basis. Fair value of plan assets 111,774 Unfunded excess of projected benefit obligations over plan assets $ 14,504 (6) Pension Plan The Company and its subsidiaries have a pension plan covering substantially all of their employees, including officers. The plan is The unfunded excess consists of thc following:

non-contributory and provides for benefits to be paid to eligible Net unrecognized loss from past cmployccs at retirement based primarily upon years of service with experience different from assumed $ 21,931 the Company and their compensation rates near retirement. The Unamortized asset at transition, Company's policy is to fund actuarially dctermincd contributions. being amortized over 16 years (17,454)

Contributions to the plan reflect benefits attributed to Pension liability Included in the 10,027 employees'ears of service to date and also for services expected to be provided balance sheet in the future. Plan assets primarily consist of common and preferred $ 14,504 stocks, fixed income securities (primarily U.S. obligations) and real estate. In 1986, the Company rcduccd its workforce by 367 positions Thc weighted average discount rate used to measure the projected in a program that included early retirements, voluntary and involun-benefit obligation is 8.5 percent; the weighted average discount rate tary separation packages and layoffs. The effect of this reduction is used to ineasuie the net periodic pension cost is 9.75 percent; the rate rcflcctcd in thc termination loss and curtailment gain shown in the of increase in future compensation levels based on agc-related scales table below.

is 6.2 percent; and the expected long-term nte of return on plan assets Effective January I, 1986, the Company adopted the principles of is 10.0 pcrccnt.

SFAS No. 87 and 88 for nct periodic pension cost calculation for 1986. The effect of the adoption of SFAS No. 87 was to reduce pension cost by approximately $ 7.3 million for 1986. Prior to 1986, net periodic pension cost was based on the provisions of APB Opin- (7) Construction Program and Jointly. Owned ion No. 8. In 1985, prior to adoption of SFAS No. 87, the Company Plants changed its actuarial method from the Entry Age Normal Cost Thc Company operates and jointly owns the steam turbo-clcctric San Method with Frozen Past Service Liability to thc Projected Unit Juan Generating Station. At December 31, 1986, the Company Credit Method which is now required by SFAS No. 87. The effect of owned an undivided 50 percent interest in the first three units of the such change was to rcducc the contribution by approximately $ 3.4 San Juan Generating Station and about 55.5 percent of Unit 4.

million in 1985.

Thc Company has been participating with several other utilitics in thc The components of nct periodic pension cost and total pension cost construction of three generating units at the Paulo Verde Nuclear (in thousands) for 1986 include: Generating Station. The first unit commenced commercial operation on January 28, 1986, and the second unit commenced commercial Service cost $ 4,878 opcntion on September 19, 1986. In 1985 and 1986, thc Company Interest cost 8,668 complctcd sale and leaseback tnnsactions for its undivided interests Actual return on plan assets (12,163) 872 in Units I and 2 and certain related common facilitics. As a result, the Other Company received approximately $ 900.5 million from thcsc sales.

Net periodic pension cost 2,255 10,640 At December 31, 1986, thc Company owned an undivided 10.2 Termination loss (2,868) percent interest in Unit 3, which is expected to be complctcd in the Curtailment gain third quarter of 1987.

Total pension cost $ 10,027 The Company also has undivided interests in transmission facilities Total pension cost, part of which was charged to utility plant, was which are not significant.

approximately $ 8.2 million in 1985 and $ 5.6 million in 1984. It is estimated that the Company's utility construction expenditures The following sets forth the plan's funded status and amounts recog- for 1987 will approximate $ 140 million, including expenditures on nized in the Company's Consolidated Balance Sheet at December 31, the jointly-owned projects. In connection therewith, substantial com-1986 (in thousands): mitments have been made.

42

Public Service Company of New Mexico and Subsidiaries At December 31, 1986, the Company's ownership interest and investments in jointly-owned generating facilities are:

Construction Composite Plant Accumulated Work in Ownership Station (Fuel 7ype) In Service Depreciation Progress Interest (In thousands)

San Juan Generating Station (Coal) $ 794,137 $ 163,885 $ 10,476 51 6%

Palo Verde Nuclear Generating Station Unit 3 (Nuclear)'our

$ 5,973 $ 91 $ 269,936 10.2%

Corners Generating Station Units 4 and 5 (Coal) $ 89,123 $ 15,051 $ 10,642 13.0%

'Includes the Company's remaining interest in common facilities for all PVNGS units.

Operating lease expense was $ 59,104,000 in 1986, $ 15,312,000 in (8) Long-Term Power Purchase Contracts 1985 and $ 6,047,000 in 1984. As of December 31, 1986, the aggre-gate minimum payments to bc received in future periods under non-The Company has entered into contracts for the purchase of electric cancelable subleases are approximately $ 4,057,000.

power. Under one of these contracts, which expires in 1995, the Company is obligated to pay certain minimum amounts and a vari-able component representing the expenses associated with the energy purchased and debt service costs associated with capital improve-(10) Gas UtilityAsset Acquisition ments. Total obligations under this contract during 1986 ainountcd to On January 28, 1985, the Company acquired the New Mexico natural

$ 39.2 million. The minimum payment for each of the next five years gas utilityassets of Southern Union Company. The acquisition was in under this contract is approximately $ 28.0 million annually. connection with the settlement of antitrust litigation brought against Southern Union by the Company and others. The assets were pur-chased for net book value, net of liabilities assumed, which was (9) Lease Commitments approximately $ 208.4 million, less $ 51.5 million, representing the amount of the settlement to all plaintiffs.

The Company classifies its leases in accordance with generally The acquisition was accounted for as a purchase and, accordingly, the accepted accounting principles. The Company lcascs certain nuclear Company's financial statements reflect the assets, liabilities and oper-generating facilities, transmission facilities, office buildings and ating results from the acquisition date forward.

other cquipmcnt under operating leases. In 1985 and 1986, thc Com-pany completed sale and leaseback transactions for its undivided The following unaudited pro forma information shows the results of interests in PVNGS Units I and 2 and certain related common facili- operations for thc years cndcd December 31, 1985 and 1984 as ties. The aggregate semi-annual lease payments for thcsc leases are though the acquisition had occurred at the beginning of each period approximately $ 42.3 million over a base lease term of approximately presented (in thousands except per share amounts):

29 years. Each PVNGS lease contains rcncwal and fair market value purchase options at the end of the base lease term. Total net leased Year Ended December 31 property under capital leases at December 31, 1986 and 1985 was 1985 1984 approximately $ 5.4 million and $ 7.1 million, respectively. Operating revenues $ 728,607 $ 795,500 Net earnings $ 149,281 $ 142,705 Rture minimum lease payments at December 31, 1986 arc:

Earnings per share of common stock $ 3.38 $ 3.39 Capital Operating Leases Leases (In thousands) 1987 $ 3,618 $ 98,695 (11) Palo Verde Nuclear Generating Station 1988 3,310 98,048 As stated in note (7), the Company has been participating with other 1989 2,951 97,458 utilities in the construction of three units of PVNGS. In 1985 and 1990 1,096 96,972 1986, the Company completed sale and leaseback transactions for its 1991 20 96,706 Later years 27 2,168,642 undivided interest in PVNGS Units 1 and 2. PVNGS Units I and 2 were declared in commercial service in 1986. Unit 3 is scheduled Total minimum lease payments 11,022 $ 2,656,521 to achieve firm power operation in the third quarter of 1987. Under Less amount representing interest and the Inventory of Capacity ratemaking methodology, PVNGS is not executory costs 2,551 currently in the ratebase and is not scheduled to begin entering Present value of net minimum lease ratebase until the 1990s.

payments $ 8,471 During 1984, the NMPSC along with other state regulatory commis-43

Public Senrlce Company of New Mexico and Subsidiaries sions initiated an independent audit of PVNGS project management and the NRC. Under the provisions of this secondary program, thc and construction costs. Legal challenges were made by the Company Company could bc assessed up to $ 1,020,000 per nuclear incident and another participant, and a third participant and its commission involving any participating licensed reactor in the United States, reached a settlement on its share of PVNGS costs. Subsequently, thc subject to a niaximum of $ 2,040,000 in any year in the event of morc four state audit was terminated in September 1986. On January 14, than one incident. These figures will increase by $ 510,000 and 1987, the NMPSC issued an order docketing a case to investigate thc $ 1,020,000, res pcctivcly, when Unit 3 receives its lmv-power operat-prudence of the Company's share of the PVNGS costs. A hearing on ing license (now anticipated in March 1987). In addition, to cover this matter has been scheduled for February 1988. Management is possible damage to the PVNGS facilitics, the PVNGS participants unable to predict what findings the NMPSC will make as a result of maintain nuclear property damage and decontamination insurance that hearing. Management believes that PVNGS was managed and in the aggrcgatc amount of $ 1.23 billion, as of February 10, 1987.

constructed in a prudent manner and that any rcvicw by the NMPSC Insurance to cover a portion of the additional expense of rcplaccmcnt will not prevent the Company from recovering its investment. Sce power tcsultIng from an accident-related outage of PVNGS Units I or note (13). 2 is also provided.

Thc Federal Price-Anderson Act currently limits the public liability Although the Company does not yct have an approved plan for for claims that could arise from a nuclear incident to a maximum decommissioning of PVNGS, the Company has filed a deconunis-amount of $ 700 million, as of February 10, 1987, for each nuclear sioning plan wi(h the NMPSC, which includes the establishinent of a reactor licensed for operation by the Nuclear Regulatory Commis- decommissioning trust, and expects a decision in thc first half of sion (NRC). The PVNGS participants have purchased primary insur- 1987. The Company estimates the decommissioning cost for its share ance for this exposure in thc maximum available amount, presently of PVNGS Units I and 2 to be $ 365,000 per unit per year. Thc

$ 160 million, with thc reniaining $ 540 million being provided by Company belicvcs that all costs associated with nuclear plant decom-secondary financial protection as required by thc Price-Anderson Act missioning will bc rccovcrablc through rates charged to customers.

(12) Segment Information The financial information pertaining to thc Company's clcctric, gas and other operations for the ye~ ended Deccmbcr 31, 1986 and 1985 arc as follows:

1986 1985 Electric Gas Other Total Electric Gas Other Total (In thousands)

Operating revenues S 443,084 $ 244,666 S 10,245 S 697,995 $ 408,101 $ 273,737 $ 8,144 $ 689,982 Operating expenses excluding income taxes 295,799 223,205 5,242 524,246 227,228 250,899 4,891 483,018 Pre-tax operating income 147,285 21,461 5,003 173,749 180,873 22,838 3 253 206 964 Operating income tax (8,224) (606) 2,103 (6,727) 17,931 2,965 954 21,850 Operating income S 155,509 S 22,067 S 2,900 S 180,476 $ 162,942 $ 19,873 $ 2,299 $ 185,114 Depreciation expense S 50,567 S 8,916 $ 766 S 60,249 $ 47,113 $ 7,515 $ 738 $ 55,366 Utility construction expenditures S 178,230 S 19,689 S 2,112 S 200,031 S 242,559 $ 17,675 S 1,697 $ 261,931 Identifiable assets:

Net utility plant $ 1,643,227 $ 226,430 S 33,322 $ 1,902,979 $ 1,923,939 $ 216,178 $ 31,340 $ 2,171,457 Other 427,598 78,260 347,307 853,165 460,514 92,352 285,915 838,781 Total assets $ 2,070,825 $ 304,690 $ 380,629 $ 2,756,144 $ 2,384,453 $ 308,530 $ 317,255 $ 3,010,238 Prior to 1985, the Company had no material segments other than electric operations.

(13) Subsequent Event Subsequent to Deccinber 31, 1986, a potential rcstiucturing of thc arrangement, thc gcncmtion entity would bc committed to supply thc Company was announced which would include the formation of a projected power nccds of the distribution entity under a long-tcmi holding company and the possible separation of thc Company's contract. Although details of any icstnicturing are subject to further electric utility operations into a generation entity regulated by thc study, it is anticipated that such restructuring, if implemcntcd, may FERC and a distribution entity regulated by the NMPSC. Under this cause the Inventory of Capacity ratcinaking methodology to no

Public Service Company of New Mexico and Subsidiaries longer bc appropriate. The rcvicw of the prudcncy of PVNGS costs ous conditions, including required regulatory and other approvals.

by thc NMPSC would also bc inappropriate, since the gcncration Thc effect of the restructuring on the financial statements is not entity would not bc regulated by thc NMPSC.

dctemiinable pending resolution of the ultimate structure.

The implementation of any restructuring would be subject to numer-Quarterly Operating Results Thc unaudited operating results (in thousands except pcr sharc amounts) by quarters for 1986 and 1985 are as follows:

Operating Operating Net Earnings Quarter Ended Revenues Income Earnings per Share 1986 December 31 $ 178,604 $ 48,593 $ 45,512 $ 1.03 September 30 157,421 48,546 40,068 .90 June 30 162,591 41,059 32,727 .67 March 31 199,379 42,278 32,698 .68 1985 December 31 $ 174,766 $ 53,360 $ 46,205 $ 1.07 September 30 166,650 52,822 43,131 1.00 June 159,969 37,683 26,400 .55 30'arch.31 188,597 41,249 30,574 .68 In thc opinion of managcmcnt of the Coinpany, all adjustments (consisting of normal recurring accruals) ncccssary for a fair state-ment of thc results of operations for such periods have bccn included.

Stock/Dividend Data Common Stock:

Range of sales prices of thc Company's common stock, reported as composite transactions (Symbol: PNM), and dividends paid on com-mon stock for 1986 and 1985, by quarters, arc as follows:

Range of Sales Prices Dividends High Low per Share 1986 Fourth Quarter 36/>> 33 $ 0.73 Third Quarter 377/e 321/2 0.73 Second Quarter 37'/s 301/2 0.73 First Quarter 35% 28 0.73 Fiscal Year 37% 28 $ 2.92 1985 Fourth Quarter 3(P/>> 26s/s $ 0.73 Third Quarter 29'/2 25'/2 0.72 Second Quarter 28'/>> 25 0.72 First Quarter 25s/>> 23'/e 0.72 Fiscal Year 30s/>> 23'/rr $ 2.89 The payment of future dividends will depend upon earnings, the have occurred in the past, thc Company is not aware of any active financial condition of the Company, market requireinents and other tmding market for its cuinulativc prefcrrcd stock. Quarterly cash factors. dividends werc paid on each series of the Company's cumulative prefcrrcd stock at their stated mtes during 1986 and 1985.

Cumulative Preferred Stock:

While isolated sales of thc Company's cuinulativc prcferrcd stock 45

Public Service Company oi New Mexico and Subsidiaries Comparative Operating Statistics 1986 1985 1984 1983 1982 Electric Service:

Energy Sales kWhr (in thousands):

Residential 1,353,933 1,319,529 1,279,917 1,205,046 1,134,827 Commercial 1,828,799 1,765,077 1,706,044 1,600,199 1,515,664 Industrial 842,030 788,880 762,117 742,272 784,158 Other ultimate customers 208,534 206,356 184,725 185,824 215,853 Total sales to ultimate customers 4,233,296 4,079,842 3,932,803 3,733,341 3,650,502 Sales for resale 869,017 1,156,268 2,384,535 2,371,860 2,840,957 Other contracted energy sales* 1,625,217 2,200,952 885,116 778,311 Total kWhr sales 6,727,530 7,437,062 7,202,454 6,883,512 6,491,459 Electric Revenues (in thousands:

Residential S 126,053 $ 119,026 $ 107,395 $ 90,020 $ 91,065 Commercial 163,820 152,921 134,532 107,729 110,745 Industrial 59,253 53,127 50,439 44,166 51,714 Other ultimate customers 14,622 14,293 11,950 10,913 14,775 Total revenues from ultimate customers 363,748 339,367 304,316 252,828 268,299 Sales for resale 71,412 60,421 131,013 136,273 149,115 Total revenues from energy sales 435,160 399,788 435,329 389,101 417,414 Miscellaneous electric revenues 7,924 8,313 3,645 2,846 2,743 Total electric revenues S 443,084 $ 408,101 $ 438,974 $ 391,947 $ 420,157 Customers at Year-End:

Residential 237,759 227,420 217,614 208,368 199,679 Commercial 28,735 27,053 25,614 24,259 22,148 Industrial 415 428 436 438 453 Other ultimate customers 213 216 194 186 185 Total ultimate customers 267,122 255,117 243,858 233,251 222,465 Sales for resale 6 6 6 5 6 Total customers 267,128 255,123 243,864 233,256 222,471 Reliable Net Capability kW 1,565,000 1,305,000 1,337,000 1,343,000 1,473,000 Coincidential Peak Demand kW 916,000 861,000 976,000 998,000 957,000 Average Fuel Cost per MillionBTU S 1.1710 S 1.2233 $ 1.0970 $ 0.9957 S 1.1502 BTU per kWhr of Net Generation 11,608 11,214 11,023 11,296 11,296 Water Service:

Water Sales Gallons (in thousands 2,535I 656 2,387,468 2,392,085 2,315,980 2,842,381 Revenues in thousands S 10,245 $ 8,144 $ 6,354 $ 5,527 $ 6,386 Customers at Year-End 18,820 18,240 17,717 16,721 20,432*

'Other contracted energy sales to utilities are accounted for as a reduction of fuel and purchased power expense rather than as operating revenue. Such energy sales generated $ 77.8 million, $ 86.0 million, $ 22.9 million and $ 20.8 million in 1986, 1985, 1984 and 1983, respectively.

"Includes 4,508 customers for the Las Vegas water system which was contributed to the City of Las Vegas on December 30, 1982.

46

Pub!le Service Company ot New Mexico and Subsidiaries Comparative Operating Statistics 1986 1985*

Gas Service:

Gas Sales Decatherms in thousands:

Residential 22,076 19,232 Commercial 10,762 9,642 Industrial 7,248 13,806 Other ultimate customers 10,899 10,779 Total sales to ultimate customers 50,985 53,459 Sales for resale 1,535 1,702 Total gas sales 52,520 55,161 Gas Revenues in thousands:

Residential $ 117,011 $ 111,427 Commercial 45,867 45,519 Industrial 25,193 48,933 Other ultimate customers 37,435 44,719 Total revenues from ultimate customers 225,506 250,598 Sales for resale 5,675 6,638 Total revenues from gas sales 231)181 257,236 Miscellaneous gas revenues 13,485 16,501 Total gas revenues $ 244,666 $ 273,737 Customers at Year-End:

Residential 290,175 283,530 Commercial 28,218 27,435 Industrial 155 170 Other ultimate customers 3,776 3,860 Total ultimate customers 322,324 314,995 Sales for resale 11 10 Total customers 322,335 315,005 "Effective from acquisition date, January 28, 1985. Certain amounts have been reclassified for comparability.

47

Public Service Company of New Mexico and Subsidiaries Geographic Distribution of PNM Shareholders (Accounts of Record)

Stockholder Information Stock Plans 312 614 M9 516 3131 223 The Company's four Common Stock Plans were an important source 149 76 2629 1199 of external funding for 1986. $ 51 million was generated, providing 181 739 1766 1512 2119 850 101 thc Company with approximately 35 percent of its total external 175 3151 financing needs. Thc plans are Thc Dividend Reinvestment Plan, 628 1423 205 124 The Employee Stock Purchase Plan, Thc Master Employee Savings m K9 349 Plan, and The Consumer Stock Plan. 272 Participation in the plans is made only by means of the appropriate prospectus. Prospectuses are available by writing to the Company or Alaska Hawaa telephoning (505) 848-2122 (local), I-800432%94 (New Mexico), Q~ @26 or I-800-545M25 (outside New Mexico).

Stockholder Communications Form 10-K Due to Securities and Exchange Commission regulations, the Rr copies of the Company's 10-K filed with the Securities and Company is obligated to mail financial information to each Exchange Commission, please contact J. B. Mulcock, Jr., Sccrctary, shareholder account of record. If a single household owns stock Public Service Company of Ncw Mexico, Alvarado Square, Albu-under several accounts, however, each account at the same address querque, NM 87158.

will be individually mailed all financial information. Upon written Stock Exchange Listing notification to the Company, duplicate mailings to the same address Common Stock of thc Company is listed on the New York Stock can be eliminated. Exchange under thc symbol PNM.

Certificate Re istration In uiries Transfer Agents To notify the Company of any changes of address, changes in certificate registration, or lost ccrtificatcs, please write to: Common Stock Public Service Company of Ncw Mexico Stockholder Services Public Service Company of Ncw Mexico Harris Trust Company of New York Stockholder Services Alvarado Square MS 0082 Preferred Stock Albuquerque, NM 87158 Public Service Company of Ncw Mexico Stockholder Services Questions and Comments ~Re istrars Thc Company welcomes any questions and comments shareholders First National Bank in Albuqueiquc may have regarding PNM or any information appearing in the Harris Trust Company in Ncw York Annual and Quarterly Reports. Please direct any correspondencc to:

Stockholder Information 1985-1986 PNM Common Stock Price Karen A. Knight (Weekly Closing Price)

Assistant Sccrctary and Manager, Stockholder Services Dollars Alvarado Square MS 0082 Albuquerque, NM 87158 Financial Information Valerie C. Chccscman Director, Investor Relations Alvarado Square MS 0260 Albuquerque, NM 87158 Stockholder Meetings Beginning in October senior managcmcnt of PNM began a scrics of meetings with Ncw Mexico shareholders. The meetings provided a forum for investors and presented updates on Company events.

J F M A M J J A S 0 N D J F M A M J J A S 0 N D Approximately 900 shareholders attended. Morc meetings are i985 1986 planned in 1987.

48

Qnnlgggi@QJLgCoebgjg Board of Directors PNM Corporate PNM Electric John P. Bundrant" Jerry D. Geist John P. Bundrant President and Chief Operating Oflicer Chairman and President President and Chief Electric Operations Operating Officer, Public Service Company of New Mexico James B. Mulcock. Jr.t Senior Vice President, Electric Operations Ashton EL Collins. Jr. Corporate Alfairs and William M. Egllnton President Secretary Senior Vice President, Reddy Communications, lnc. Operations Albuquerque, NM Albert J. Roblsont Senior Vice President Jack L. Wilklns Jerry D. Geist'*t and Chief Financial Oflicer Senior Vice President, Chairman and President Power Supply Public Service Company of Ncw Mexico Robert B. Rountree Senior Vice President William C. Wygant Claude E. Leyendecker" Senior Vice President, Chairman of the Board and BillyD. Lackey Vice President and Admimstmtion Chief Executive Oflicer United Ncw Mexico Bank a! Mimbres Valley Corporate Controller Jeff E. Sterba Dcming, NM Joellyn K. Murphy Vice President, Revenue Management Vice President, Regulatory Arturo G. Ortega*

and Business Policy Attorney at Law PNM Subsldlariesi Ortega.& Snead, P.A. Luther W. Reynolds Albuquerque, NM Vice President and'Aeasurer Robert R. Meadows Resources. Inc.

of Management Rehder'rofessor Gas Company of New Mexico Robert O. Anderson Graduate Robert B. Rountree School of Management University of New Mexico JohnT.Ackerman Chairman President and Chief Operating Oflicer, James F. Jennings. Jr.t Albuquerque, NM l Gas Operations President and Chief Robert B. Rountree~*t Senior Vice President D.A. "Zan" James Executive Officer Vice President, Marketing, Max H. Maerkl Public Service Company of Ncw Mexico Rates and Regulatory Affairs Senior Vice President Russell H. Stephens'etired Realtor, Rociada, NM Donald A. Blackwall Roger C. Rankin Vice President, Finance E. R. Wood "t and Planning Vice President Charles R. Mollo President Wood & HillCorpomtion Theodore H. Morse Vice President Vice President, Santa Pc, NM John H. von Rusten Engineering & Operations Hickum L Galles. Jr. Vice President and Director Emeritus HenryO.Pocock Controller Vice President, Human Resources Chairman of the Board John W. Prelslngt and Administrative Support Galles Chevrolet Company President Albuquerque, NM Daniel W. McFearln A. Johnson and Co., Inc.

Vice President, Controller New York, NY

• Member of Audit Committee and Assistant Secretary

~*Member of Executive Committcc Sunbelt Mining Company, Inc.

tMember of Meadows Board Paragon Resources, Inc.

of Directors Robert EL Rountree John P. Bundrant Chairman Chairman Albert J. Roblson Jack L. Wllklns President and Chief President Operating Oflicer Alfred C. Underwood Martin A. Cllfton Vice President Vice President, Finance Charles E. Hunter Vice President, San Juan Division Terry D. Bauer Vice President, Corporate/

Engineering Services J. Douglas Ingram Vice President, Operations

BULKRATE U.S. POSTAGE PAID PORTLAND OREGON PERMIT 2917 Public Service Company of New Mexico Alvarado Square, Albuquerque, New Mexico 87158 Attention Postmaster: Address correction requested F( ',

DESIGN: SHELDON Coll.ER + ASSOCIATES INC. 0 MAJOR PHOTOGRAPHY: OVAK ARSLANIAN0 Contributing Photography: Pages 5: 22-23 (except top) ecradoc Ba

(<) Public Service Company of New Mexico