United States

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the fiscal year ended:

December 31, 20062007

[ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from __________ to __________

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

Indicate by checkmark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Indicate by checkmark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.

Indicate by checkmark whether the registrants (1) have filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrants were required to file such reports) and (2) have been subject to such filing requirements for the past 90 days. Yes [X]  No [   ]

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

Indicate by checkmark if the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act:

Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).

The aggregate market value of the voting and nonvoting common equity held by nonaffiliates of each registrant as of June 30, 2006,2007, was as follows:

The number of shares outstanding of each registrant's common stock as of February 1, 2007,2008, were as follows:

Documents Incorporated by Reference

Portions of MGE Energy, Inc.'s definitive proxy statement to be filed on or before April 16, 2007,14, 2008, relating to its annual meeting of shareholders, are incorporated by reference into Part III of this annual report on Form 10-K.

Madison Gas and Electric Company meets the conditions set forth in General Instruction (I)(1)(a) and (b) of Form 10-K and is therefore omitting (i.) the information otherwise required by Item 601 of Regulation S-K relating to a list of subsidiaries of the registrant as permitted by General Instruction (I)(2)(b), (ii.) the information otherwise required by Item 6 relating to Selected Financial Data, (iii.) the information otherwise required by Item 10 relating to Directors and Executive Officers as permitted by General Instruction (I)(2)(c), (iv.) the information otherwise required by Item 11 relating to executive compensation as permitted by General Instruction (I)(2)(c), (v.) the information otherwise required by Item 12 relating to Security Ownership of Certain Beneficial Owners and Management, and (vi.) the information otherwise required by Item 13 relating to Certain Relationships a ndand Related Transactions.

Table of Contents

Filing Format

5

Forward-Looking Statements

5

Where to Find More Information

5Definitions

Definitions

6

PART I.

8

Item 1. Business.

8

Item 1A. Risk Factors.

15

Item 1B. Unresolved Staff Comments.

17

Item 2. Properties.

18

Item 3. Legal Proceedings.

19

Item 4. Submission of Matters to a Vote of Security Holders.

19

PART II.

20

Item 5. Market for Registrants' Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities.

20

Item 6. Selected Financial Data.

21

Item 7. Management's Discussion and Analysis of Financial Condition andResultsand Results of Operations.

22

Item 7A. Quantitative and Qualitative Disclosures About Market Risk - MGE Energy and MGE.

48

Item 8. Financial Statements and Supplementary Data.

51

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.

105

Item 9A. Controls and Procedures.

105

Item 9B. Other Information.

105

PART III.

106

Item 10. Directors, Executive Officers, and Corporate Governance.

106

Item 11. Executive Compensation.

106

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.

106

Item 13. Certain Relationships and Related Transactions, and Director Independence.

106

Item 14. Principal AccountantAccounting Fees and Services.

107

PART IV.

108

Item 15. Exhibits and Financial Statement Schedules.

108

Signatures - MGE Energy, Inc.

114

Signatures - Madison Gas and Electric Company

115

Filing Format

This combined Form 10-K is being filed separately by MGE Energy, Inc. (MGE Energy) and Madison Gas and Electric Company (MGE). MGE is a wholly owned subsidiary of MGE Energy and represents a substantial portionmajority of its assets, liabilities, revenues, expenses, and operations. Thus, all information contained in this report relates to, and is filed by, MGE Energy. Information that is specifically identified in this report as relating solely to MGE Energy, such as its financial statements and information relating to its nonregulated business, does not relate to, and is not filed by, MGE. MGE makes no representation as to that information.

Forward-Looking Statements

This report, and other documents filed by MGE Energy and MGE with the Securities and Exchange Commission (SEC) from time to time, contain forward-looking statements that reflect management's current assumptions and estimates regarding future performance and economic conditions—especially as they relate to future load growth, revenues, expenses, capital expenditures, financial resources, regulatory matters, and the scope and expense associated with future environmental regulation. These forward-looking statements are made pursuant to the provisions of the Private Securities Litigation Reform Act of 1995. Both MGE Energy and MGE caution investors that these forward-looking statements are subject to known and unknown risks and uncertainties that may cause actual results to differ materially from those projected, expressed, or implied. The factors that could cause actual results to differ materially from the forward-looking statement sstatements made by a registrant a) include those factors discussed in Item 1A. Risk Factors, Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations, and Item 8. Financial Statements and Supplementary Data, and b) other factors discussed in filings made by that registrant with the SEC.

Readers are cautioned not to place undue reliance on these forward-looking statements, which apply only as of the date of this report. MGE Energy and MGE undertake no obligation to publicly release any revision to these forward-looking statements to reflect events or circumstances after the date of this report.

Where to Find More Information

The public may read and copy any reports or other information that MGE Energy and MGE file with the SEC at the SEC's public reference room at 100 F Street, NE, Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. These documents are also available to the public from commercial document retrieval services and the web site maintained by the SEC athttp://www.sec.gov.

Our Internet site addresses arewww.mgeenergy.com andwww.mge.com. On our sites, we have made available, free of charge, our most recent annual report on Form 10-K and proxy statement. We also provide, free of charge, our other filings with the SEC as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC. Information contained on MGE Energy's and MGE's web sites shall not be deemed incorporated into, or to be a part of, this report.

Definitions

Abbreviations, acronyms, and definitions used in the text and notes of this report are defined below.

PART I.

Item 1. Business.

MGE Energy operates in the following business segments:

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Electric utility operations—generating, purchasing, and distributing electricity through MGE.

•

Gas utility operations—purchasing and distributing natural gas through MGE.

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Nonregulated energy operations—constructing, owning, and leasing new electric generating capacity that will assist MGE through itsMGE Energy's wholly owned subsidiaries MGE Power, MGE Power Elm Road and MGE Power West Campus.

•

Transmission Investments—investing in companies engaged in the business of providing electric transmission services, such as ATC. In the fourth quarter of 2005, the investment in ATC was transferred from MGE to MGE Transco.

•

All Other—investing in companies and property which relate to the regulated operations, financing the regulated operations, or providing construction services to the other subsidiaries through its wholly owned subsidiaries MGE Construct, MAGAEL and CWDC, and Corporate functions.

MGE's utility operations represent a substantial portionmajority of the assets, liabilities, revenues, expenses, and operations of MGE Energy. MGE Energy's nonregulated energy operations currently include a undivided interest in the assets of the West Campus Cogeneration Facility. Namely, pursuant to the WCCF Joint Ownership Agreement, MGE Power West Campus owns 55% of the facility, which represents its interest in the electric generating assets and the UW owns 45% of the facility, which represents their interest in the steam and chilled water assets. The UW's share of the plant and portion of the earnings from the WCCF are not reflected in the consolidated financial statements of MGE and MGE Energy. Nonregulated energy operations also include an undivided 8.33% ownership interest in each of two 615 MW generating units being constructed in Oak Creek, Wisconsin.

As a public utility, MGE is subject to regulation by the PSCW and the FERC. The PSCW has authority to regulate most aspects of MGE's business including rates, accounts, issuance of securities, and plant and transmission line siting. The PSCW also has authority over certain aspects of MGE Energy as a holding company of a public utility. FERC has jurisdiction, under the Federal Power Act, over certain accounting practices and certain other aspects of MGE's business.

MGE Energy's subsidiaries are also subject to regulation under local, state, and federal laws regarding air and water quality and solid waste disposal. See "Environmental" below.

MGE Energy was organized as a Wisconsin corporation in 2001. MGE was organized as a Wisconsin corporation in 1896. Their principal offices are located at 133 South Blair Street, Madison, Wisconsin 53703.

Electric Utility Operations

MGE generates and distributes electricity in a service area covering a 315-square-mile315 square-mile area of Dane County, Wisconsin. Its service area includes the city of Madison, Wisconsin.

At December 31, 2006,2007, MGE supplied electric service to nearly 135,000136,000 customers, with approximately 89% located in the cities of Fitchburg, Madison, Middleton, and Monona and 11% in adjacent areas. Of the total number of customers, approximately 87% were residential and 13% were commercial or industrial. Electric revenues for 2007, 2006, 2005, and 20042005 were comprised of the following:

Electric operations accounted for approximately 63.3%62.8%, 60.8%63.3%, and 59.3%60.8% of MGE's total 2007, 2006, 2005, and 20042005 regulated revenues, respectively.

See Item 2, Properties, for a description of MGE's electric utility plant.

MGE was a member of MAIN, a regional reliability group. As of December 31, 2005, the MAIN reliability council no longer exists. MGE has chosen to join the MRO as its regional reliability council. The essential purposes of the MRO are: (1) the development and implementation of regional and NERC reliability standards, and (2) determining compliance with those standards, including enforcement mechanisms. The MRO also provides other services consistent with its reliability charter.

Transmission

Reliability 2000 legislation enacted in Wisconsin mandated, among other things, the creation of a statewide transmission company to own the investor-owned utilities' transmission assets. Pursuant to these provisions, effective January 1, 2001, MGE transferred all of its electric utility transmission assets to ATC in exchange for an ownership interest in ATC. At December 31, 2006,2007, MGE Transco held a 3.9%3.6% ownership interest in ATC as a result of the aforementioned assets transferred and subsequent additional capital contributions made.

ATC is owned and governed by the utilities that contributed facilities or capital in accordance with Wisconsin law. ATC's purpose is to provide reliable, economic transmission service to all customers in a fair and equitable manner. ATC plans, constructs, operates, maintains, and expands transmission facilities that it owns to provide adequate and reliable transmission of power. ATC is regulated by FERC for all rate terms and conditions of service and is a transmission-owning member of the Midwest ISO. MGE is however a non-transmission owning member of the Midwest ISO.

Regional Transmission Organizations

On February 1, 2002, MGE started taking network transmission service from the Midwest ISO. Midwest ISO is a nonprofit RTO approved by FERC. The Midwest ISO is responsible for monitoring the electric transmission system that delivers power from generating plants to wholesale power transmitters. Its role is to ensure equal access to the transmission system and to maintain or improve electric system reliability in the Midwest.

As a FERC approved RTO, Midwest ISO is required to provide a real-time market-based mechanism for congestion management. On April 1, 2005, Midwest ISO implemented its bid-based energy market. At that time, MGE began offering substantially all of its generation on the Midwest ISO market and purchasing much of its load requirement from the Midwest ISO market in accordance with the Midwest ISO Tariff.

Additionally, on May 1, 2004, MGE became a member of PJM. PJM is also an RTO. PJM is a neutral and independent party that coordinates and directs the operation of the region's transmission grid, administers a competitive wholesale electricity market, and plans regional transmission expansion improvements to maintain grid reliability and relieve congestion. MGE has threetwo purchase power agreements, for a total of 11565 MW, that are impacted by this market.

Fuel supply and generation

MGE satisfies its customers' electric demand with purchased power and internal generation. During the years ended December 31, 2007, 2006, 2005, and 2004,2005, MGE's electric energy delivery requirements were satisfied by the following sources:

Sources used depend on market prices, generating unit availability, weather, and customer demand.

Coal

MGE and two other utilities jointly own Columbia, a coal-fired generating facility, which accounts for 30%29% (225 MW) of MGE's net generating capability. Power from this facility is shared in proportion to each owner's ownership interest. MGE has a 22% ownership interest in Columbia. The other owners are Alliant, which operates Columbia, and WPSC. The Columbia units burn low-sulfur coal obtained (pursuant to long-term contracts) from the Powder River Basin coal fields located in Wyoming and Montana.

MGE's share of the coal inventory supply for the units decreasedincreased from 44 days on December 31, 2005, to 31 days on December 31, 2006.2006, to 33 days on December 31, 2007. The co-owners' current goal is to maintain approximately a 35-day35 day inventory.

MGE also owns the Blount Generating Facility located in Madison, Wisconsin, which is fueled by coal, gas, and gas.other alternative renewable sources. On January 19, 2006, MGE announced a plan, subject to certain conditions, that includes discontinuing coal use at the end of 2011 at Blount. The plant will continue to run on natural gas but will be reduced from its current approximate 190 MW capacity to 100 MW when coal burning is discontinued.

Natural gas and oil

MGE owns gas fired combustion turbines. These turbines are primarily located in Madison and Marinette, Wisconsin and have a total of 174 MW of generating capacity.

See discussion above for discussion of the Blount Generating Facility and see below discussion under Nonregulated Operations for MGE's interest in a natural gas-fired cogeneration facility on the UW campus.

Renewable generation sources

On September 29, 2006, MGE formalized plans to acquire 29.7 MW or 18 turbines in a wind-powered electric generating facility to be constructed in Worth County, Iowa. MGE's share will represent 26.5%This project is expected to be completed in the first quarter of a larger wind generation facility known as the Top of Iowa Phase II Wind Power Project. MGE currently estimates that its costs to complete this project will be approximately $59 million and that a majority of these capital expenditures will be made in 2007.2008. At December 31, 2006,2007, MGE had incurred $10.7$55.9 million (excluding AFUDC) of costs on the project, which is reflected in the construction workConstruction Work in progressProgress balance on MGE and MGE Energy's consolidated balance sheets. Additionally, MGE had recorded a total of $2.4 million in AFUDC-debt and equity which is also reflected in Construction of this facility is expected to be completed byWork in Progress at December 31, 2007. MGE expects regulatory recoverywill begin recovering the cost of these costs. If approval is granted by the PSCW, MGE expects recovery to beginthis project in rates in 2008.

Purchased power

As mentioned under the discussion on "Regional Transmission Organizations" above, at the time Midwest ISO implemented its bid basedbid-based energy market, MGE began offering substantially all of its generation on the Midwest ISO market and purchasing much of its load requirement from the Midwest ISO market in accordance with the Midwest ISO Tariff. Accordingly, the Midwest ISO market is the source of MGE's purchased power needs.

MGE also has purchase power contracts with threetwo companies residinglocated in the PJM market. These contractsagreements provide a means for MGE to participate in the PJM market via the receipt of FTRs. Under these agreements MGE has the contractual right to 11565 MW of power.

On July 16, 2004,September 21, 2007, MGE signedentered into a ten-year purchase power agreement which provides MGE with firm capacity, energy, and a pro-rata share of the counterparty's rights to renewable attributes beginning on June 1, 2012, and ending on May 31, 2022 (the "base term"). This agreement obligates MGE to purchase a minimum of 50 MW of capacity each year and a fixed amount of energy. Pursuant to the terms of this agreement, MGE has the option to extend the ten year term and/or purchase additional energy and capacity during the base term. MGE has not exercised either of these options at this time.

On April 23, 2007, MGE entered into a 20-year purchase power purchase agreement for 40wind generation. Under this agreement, MGE has agreed to purchase 30 MW of wind power from the Top of Iowa II project which is being constructed in Iowa. This facility became operational in January 2008. MGE does not have any capacity payment commitments under this agreement. However, MGE is obligated to purchase its ratable share of the energy to be located near Waupun, Wisconsin. At December 31, 2006, construction on this project had not begun, and discussions related to its viability were on-going. At December 31, 2006, no final decisions or financial commitments had been made. However, onproduced by the project.

On February 21, 2007, MGE and Invenergy signed an amendment to an existing purchase power agreement. Under this amended agreement, MGE has agreed to purchase for a 20-year term approximately 15 MW of wind power at a facility to be constructed near Brownsville, Wisconsin. Construction of this facility began in June 2007 and the facility is expected to be operational in early 2008. MGE does not have any capacity payment commitments under this agreement. This amendment reducesHowever, MGE is obligated to purchase its ratable share of the available MW under this agreement from 40 MW to 15 MW.energy produced by the unit.

Gas Utility Operations

MGE transports and distributes natural gas in a service area covering 1,625 square miles in seven south-central Wisconsin counties. Its service area includes the city of Madison, Wisconsin.

On December 31, 2006,2007, MGE supplied natural gas service to more than 138,000nearly 140,000 customers in the cities of Elroy, Fitchburg, Lodi, Madison, Middleton, Monona, Prairie du Chien, Verona, and Viroqua; 24 villages; and all or parts of 45 townships. Of the total number of customers, approximately 89% were residential and 11% were commercial or industrial. Gas revenues for 2007, 2006, 2005, and 20042005 were comprised of the following:

Gas operations accounted for approximately 36.7%37.2%, 39.2%36.7%, and 40.7%39.2% of MGE's total 2007, 2006, 2005, and 20042005 regulated revenues, respectively.

MGE can curtail gas deliveries to its interruptible customers. Approximately 6%7% of gas deliveries in 2007 and 8% of gas sold in 2006 and 5% of gas sold in 2005 waswere to interruptible customers.

Gas supply

MGE has physical interconnections with ANR and NNG. MGE's primary service territory, which includes Madison and the surrounding area, receives deliveries at one NNG and four ANR gate stations. MGE also receives deliveries at NNG gate stations located in Elroy, Prairie du Chien, Viroqua, and Crawford County. Interconnections with two major pipelines provide competition in interstate pipeline service and a more reliable and economical gas supply mix, which includes gas from Canada and from the mid-continent and Gulf/offshore regions in the United States.

During the winter months, when customer demand is high, MGE is primarily concerned with meeting its obligation to firm customers. MGE meets customer demand by using firm supplies under contracts finalized before the heating season, supplies in storage (injected during the summer), and other firm supplies purchased during the winter period.

By contract, a total of 4,935,2725,430,964 Dth can be injected into ANR's storage fields in Michigan from April 1 through October 31. These gas supplies are then available for withdrawal during the subsequent heating season, November 1 through March 31. Using storage allows MGE to buy gas supplies during the summer season, when prices are normally lower, and withdraw these supplies during the winter season, when prices are typically higher. Storage also gives MGE more flexibility in meeting daily load fluctuations.

MGE's contracts for firm transportation service include winter maximum daily quantities of:

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161,150 Dth (including 86,07896,078 Dth of storage withdrawals) on ANR.

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59,608 Dth on NNG.

Nonregulated Energy Operations

MGE Energy, through its subsidiaries, seeks to develop generation sources that will assist MGE in meeting the electricity needs of its customers. Decisions on the type of energy source and its size, timing, ownership, and financing depend upon a number of factors including the growth of customer demand in MGE's service area and surrounding areas, the effectiveness of customer demand management efforts, the costs and availability of alternative power sources, the availability of transmission capacity, issues associated with siting power generation sources, available financing and ownership structures, regulatory treatment and recovery, construction lead times and risks, and other factors. The decisions tend to involve long-time horizons due to the lead time involved in siting and constructing new generation sources and the associated transmission infrastructure.

WCCF

MGE Energy, through MGE Power, MGE Power West Campus and MGE Construct, has constructedthe UW jointly own undivided interests in a natural gas-fired cogeneration facility on the UW campus. As of December 31, 2006, MGE Power West Campus had incurred $103.3 million (excluding capitalized interest) of costs on the project, which is reflected in Property, Plant, and Equipment on MGE and MGE Energy's consolidated balance sheets.

The facility has the capacity to produce 20,000 tons of chilled water, 500,000 pounds per hour of steam, and approximately 150 MW of electricity. The UW and MGE Power West Campus jointly own the facility and each have an undivided interest. The UW owns 45% of the facility, which represents its interest in the chilled-water and steam assets. These assets are used to meet the UW's growing need for air-conditioning and steam-heat capacity. MGE Power West Campus owns 55% of the facility, which represents its interest in the electric generating assets. These assets are used to provide electricity to MGE's customers. The UW's share of the plant and portion of the earnings from the WCCF are not reflected in the consolidated financial statements of MGE or MGE Energy. MGE Power West Campus' share of the cost of this project is reflected in Property, Plant, and Equipment on MGE and MGE Energy's consolidated balance sheets

MGE leases the electric generating assets owned by MGE Power West Campus and is responsible for operating the entire facility. On April 26, 2005, the facility lease between MGE and MGE Power West Campus commenced. The financial terms of the facility lease include a capital structure of 53% equity and 47% long-term debt, return on equity of 12.1%, and a lease term of 30 years. At the end of the lease term in 2035, MGE may, at its option, renew the facility lease for an additional term, purchase the generating facility at fair market value or allow the lease contract to end. In accordance withUnder the provisionsJoint Ownership Agreement for WCCF, the State has an option to acquire at the higher of SFAS No. 13, Accountingbook or market cost, a 45 MW interest in WCCF or enter into a purchase power agreement for Leases, MGE, as the lessee, accounts for the aforementioned lease arrangement as a capital lease and MGE Power West Campus, as the lessor, accounts for the lease as a direct financing leasing arrangement. Upon consolidation, certain accounts associated with the leasing transaction ar e eliminated.

MGE received approval from the PSCW to collect approximately $12.1 million in carrying costs incurred by MGE Power West Campus during construction45 MWs of the facility. MGE is collecting these costs in rates over a period of ten years. Of these costs, $4.1 million relate to the capitalized interest and the debt portion of the facility. These costs are recognized over the period in which the facility is being depreciated (40 years). The remaining amount of $8.0 million represents the equity portion and is being recognized over the ten-year period for recovery in rates. Additionally, MGE Power West Campus records nonregulated revenues related to management, demolition, and removal fees.capacity.

Elm Road

On November 4, 2005, MGE Power Elm Road closed on the exercise of an option to acquire an undivided 8.33% ownership interest in each of two 615 MW advanced technology, coal-fired generating units being constructed by We Energies in Oak Creek, Wisconsin. MGE Power Elm Road's estimated share of capital costs for its 8.33% ownership interest in both units is approximately $171 million (excluding capitalized interest) which it intends to finance primarily through funds received from MGE Energy. MGE Energy expects that these funds will be raised through the sale of common stock (via the Stock Plan), short-term debt, and normal operations.operating cash flows. At December 31, 2006,2007, MGE Power Elm Road had incurred $53.5$103.7 million (excluding capitalized interest) of costs on the project, which is reflected in the Construction Work In Progress balance on MGE and MGE Energy's consolidated balance sheets. Of this amount, $3.3 million has not yet bee n paid.

On the date of acquisition, MGE Energy and its subsidiaries entered into various agreements, including a facility lease agreement. This facility lease agreement is between MGE Power Elm Road (a nonregulated subsidiary of MGE Energy) and MGE. The financial terms of the facility lease include a capital structure of 55% equity and 45% long-term debt, and return on equity of 12.7%, a lease term of 30 years, and a 5% rent reduction in the first five years.

On November 1, 2005, MGE received approval from the PSCW to defer payments made to MGE Power Elm Road for carrying costs during construction of the facility, management fees, and community impact mitigation costs. MGE began collecting the carrying costs in rates in 2006. MGE estimates total carrying costs to be approximately $54.3$53.6 million. Of these costs, $21.7$21.1 million is estimated to relate to the capitalized interest and the debt portion of the facility. These costs will be recognized over the period in which the facility will be depreciated. The remaining $32.6$32.5 million is estimated to represent the equity portion and is being recognized over the period recovered in rates.

Environmental

MGE is subject to local, state, and federal regulations concerning air quality, water quality, and solid waste disposal. The EPA administers certain federal statutes relating to such matters. The DNR administers certain state statutes as to such matters and has primary jurisdiction over standards relating to air and water quality and solid and hazardous waste. Those regulations affect the manner in which MGE conducts its operations, the costs of those operations, as well as some capital and operating expenditures. It can also affect the siting, timing, and cost of new projects or other significant actions affecting the environment. MGE is not able to predict the direction of future regulations or if compliance with any such regulations will involve additional expenditures for pollution control equipment, plant modifications, or curtailment of operations. Such actions could reduce capacity or efficiency at existing plants or delay the construction and operation of future generating facilities.

Air quality

Air quality regulations promulgated by the EPA and DNR in accordance with the Federal Clean Air Act and the Clean Air Act Amendments of 1990 impose restrictions on emission of particulates, sulfur dioxide (SO₂) nitrogen oxides (NO_x) and other pollutants and require permits for operation of emission sources. These permits have been obtained by MGE and must be renewed periodically. Various initiatives, including the Clean Air Interstate Rule (CAIR), Clean Air Mercury Rule (CAMR), maximum achievable control technology (MACT) standards, new source performance standards (NSPS) and Regional Haze Regulations, as well as existing and proposed state mercury emissions limits, may result in additional operating and capital expenditure costs.

The CAIR requires NO_x and SO₂ emission reductions in two phases and includes a regional cap-and-trade system. The first phase begins in 2009 for NO_xand 2010 for SO₂, and contemplates reductions of 55% and 40%, respectively, increasing in the second phase by 2015 to 65% and 70%, respectively; in each case over 2003 levels. MGE owns several generation units currently subject to CAIR: Blount Generating Station, Columbia, M34 (West Marinette) and Fitchburg Substation. In 2009 future generation years, Elm Road will be and WCCF may be affected by CAIR. MGE anticipates that it may need to purchase NO_x and SO₂ allowances and /or install equipment at Columbia to meet CAIR allocations for its generation fleet. The exact cost of the allowances and/or equipment installation is not known at this time.

CAMR seeks to reduce mercury emissions from coal-fired power plants through a system of monitoring and several compliance options, to reduce mercury emissions, including equipment installations and allowance trading options through a cap-and-trade system.system, which are scheduled to commence in 2009; although there is some uncertainty in light of a February 8, 2008 U.S. Court of Appeals decision invalidating the rule's cap-and-trade provisions. In March 2007, the DNR proposed state mercury rules under NR 446 to address its requirements under CAMR. The state's proposed rule is significantly different from the federal CAMR. If the state's version of CAMR as currently proposed becomes a rule, it will increase CAMR compliance costs for Columbia, Blount and Columbia Stations would be affected by both CAIR and CAMR, and West Marinette and Fitchburg substations would be affected by CAIR. The actual costs to MGE of such compliance are difficult to estimate but are expected to be recoverable in rates,Elm Road (those facilities currently subject to PSCW approval.CAMR) because it is more restrictive in scope than the federal CAMR. However, it is unknown at this time what those additional costs would be. The Wisconsin DNR has announced that it intends to introduce a revised proposed rule some time in 2008. Thus, the economic and operational effect on MGE is not known at this time.

The Clean Air Act also requires the EPA to develop standards to control major sources of hazardous air pollutants to levels consistent with the lowest-emitting facilities in similar source categories (i.e., MACT standards). The EPA has adopted final MACT standards for industrial, commercial, and institutional boilers, which apply to MGE in 2007. Compliance with the MACT standards may affect capital expenditures and operating and maintenance expenses at Blount and Columbia Stations.

Preliminary DNR air modeling indicates that emissions from Columbia may impair visibility at certain Class I Scenic Areas and may therefore be subject to Regional Haze and Best Available Retrofit Technology (BART) regulations. DNR expects to submit rules on BART and/or Regional Haze to EPA by 2008.in 2008 with BART becomesbecoming effective in 2013. The actual costsState of any complianceMinnesota has also asserted that may be required are difficultWisconsin emission sources significantly contribute to estimatevisibility impairment at this time but are expectedthe Boundary Water Canoe Wilderness Area and Voyageurs National Park. Minnesota has asked Wisconsin to be recovered in rates.evaluate reducing the Wisconsin statewide average SO₂ and NO_x emission rates for electric generating units to approximately 0.25 lbs/MMBtu by 2018. If adopted, these rates could affect capital, operational and maintenance expenses at MGE's generating facilities.

In 1998, the EPA issued a rule that imposed a NO_x emission budget for emission sources in Wisconsin. In 2000, the Court of Appeals for the District of Columbia invalidated a portion of the rule as applied to Wisconsin; however, the Court stayed that portion of the challenge concerning Wisconsin's alleged impacts on downwind, eight-hour ozone nonattainment areas. EPA has also stayed that portion of the rule concerning WisconsinWisconsin's alleged impacts on downwind eight-hour ozone nonattainment areas. If that portion of the rule concerning eight-hour ozone nonattainment areas is upheld, the resulting NO_x emission budget for Wisconsin could potentially affect the level of permissible NO_x emissions from Blount, Columbia, and WCCF. The new NO_x limits could increase capital expenditures and operating and maintenance expenses at those facilities but are expected to be recoverable in rates.

The EPA recently lowered the acceptable 24-hour National Ambient Air Quality Standards (NAAQS) for fine particulate matter, i.e., particles that are 2.5 microns or smaller in diameter and is requiring states tomust monitor and collect data on fine particulate levels in order to establish attainment and nonattainment areas for the new standard. States (including Wisconsin) determine designation by county and/or area based on whether the county/area meets the NAAQS (designated as attainment) or the county does not meet the NAAQS (designated as nonattainment), as measured by air monitors placed in that county/area. Preliminary designations of attainment and nonattainment areas/counties are due toIn mid-December 2007, Wisconsin recommended that the EPA designate all areas in December 2007 with final designationthe state as attainment. However, EPA will finalize designations (attainment or nonattainment) in 2009 and implementation to begin after 2010. Results from2009. Updated air monitors during the 2006 calendar year and beyond willmonitoring results may play a role in EPA's designation status (attainment or nonattainment).decision. Designations of nonattai nmentnonattainment and implementation of the fine particulate NAAQS could affect capital, operational and maintenance expenses at generating facilities. However, it is unknown at this time whether any of MGE's generating facilities would be impacted and to what extent.

Compliance with these and other related environmental initiatives is expected to result in significant additional operating and capital expenditures at Columbia. The Columbia operator's current estimates show that MGE's share of the capital expenditures required to comply with these environmental initiatives will be between $130 million and $200 million. According to current estimates, compliance with these initiatives is also expected to result in an increase to MGE's pro-rata share of Columbia's on-going operating expenses. The operator and MGE management are continuing to explore various alternatives to comply with these standards. Accordingly, actual capital expenditures may fall above or below the range provided. These standards and initiatives may also result in additional capital and operating expenditures at MGE's other generating facilities. MGE expects that the costs to comply with these standards will be fully recoverable through rates. Pursuant to an order issued by the PSCW on September 14, 2007, MGE is permitted to defer pre-certification and pre-construction costs related to compliance with CAIR and CAMR regulations at Columbia. Additionally, MGE is entitled to 100% AFUDC on the related pre-construction costs.

Water quality

MGE is subject to water quality regulations issued by the DNR. These regulations include categorical-effluent discharge standards, which require the use of effluent-treatment processes equivalent to categorical "best practicable" or "best available" technologies under compliance schedules established under the Federal Water Pollution Control Act. The DNR has published categorical regulations for chemical and thermal discharges from electric-steam generating plants. The regulations limit discharges from MGE's plants into Lake Monona and other Wisconsin waters. The StateDNR has also proposed rules regarding thermal discharge which are subject to comment and further modification. Depending on the terms of the final rules, MGE may be required to make significant additional capital expenditures but are expected to be recoverable in rates.

In 2004, the EPA promulgated final rules under Section 316(b) of the Clean Water Act addressing cooling water intake structures for existing large power plants.plants (Phase II rule). A challenge to these rulesthis rule was upheld in a January 2007 court decision and significant parts of the rule were remanded to the EPA for further consideration. Absent an appeal,In July 2007, EPA will needsuspended the Phase II rule in its entirety and directed states to modify and/or reissue significant portions of the rule to comply with the court's ruling.use their "best professional judgment" in evaluating intake systems. The ruling, and EPA's actions in response, which may change the compliance requirements, may affect the timing and costs associated with MGE's WPDES permit for Blount and possibly the WPDES permit for the Oak Creek/Elm Road facility. At this time, MGE is unable to determine the timing or amount of that impact.

The WPDES permit for the Oak Creek/Elm Road facility has been contested. On November 29, 2007, an Administrative Law Judge (the "ALJ") determined that the two additional coal units that are part of the Oak Creek expansion are "new facilities" under Section 316(b) of the Federal Clean Water Act and therefore are subject to the standards promulgated by EPA for new facilities in the so-called Phase I rule. Unlike the Phase II rule for existing facilities previously discussed, the Phase I rules for new facilities largely withstood judicial review and are valid. The ALJ did not vacate the WPDES permit or any other permit necessary to continue construction of the two additional coal units, pointing out that, based upon the present record, the water intake currently under construction as part of the Oak Creek expansion may be permittable under the standards that apply to new facilities.

The ALJ remanded the WPDES permit to the WDNR with a direction that it reissue or modify the permit to reflect "best technology available" to comply with the standards applicable to new facilities under Wisconsin state law. As part of the decision, the ALJ restated his prior opinion that the water intake system currently under construction may not be operated so long as it remains a contested matter regarding the WPDES permit. The ALJ's ruling has been appealed to circuit court.

The Operator has advised us that there are alternatives under the EPA's rule for new facilities that would permit the use of the once-through cooling system rather than the use of cooling towers. The Operator has requested the WDNR to issue a modified permit and has submitted additional information to the WDNR supporting the request for approval of the once-through cooling system under this rule. The Operator anticipates the WDNR will complete the WPDES permit modifications process in the first half of 2008. At this time, we cannot predict with certainty what the WDNR's decision will be. A reissued permit would be subject to public comment and possible administrative and legal review.

While the process for modifying the WPDES permit proceeds, construction of the additional coal units will continue on the current schedule.

Solid waste

MGE is listed as a potentially responsible party for a site the EPA has placed on the national priorities Superfund list. The Lenz Oil site in Lemont, Illinois, was used for storing and processing waste oil for several years. This site requires clean up under the Comprehensive Environmental Response, Compensation and Liability Act. A group of companies, including MGE, is currently working on cleaning up the site. Management believes that its share of the final cleanup costs for the Lenz Oil site will not result in any materially adverse effects on MGE's operations, cash flows, or financial position. Insurance may cover a portion of the cleanup costs. Management believes that the cleanup costs not covered by insurance will be recovered in current and future rates. As of December 31, 2006,2007, a $0.1 million gross liability was accrued for this matter.

Global climate change

The United States is currently not a party to the United Nations' Kyoto Protocol that became effective for signatories on February 16, 2005. The Protocol process generally requires developed countries to cap greenhouse gas (GHG) emissions at certain levels during the 2008 to 2012 time period. Although GHG areis not currently regulated in the United States, MGE recognizes that these gases—particularly carbon dioxide (CO₂), which is released in the burning of fossil fuels—may face future legislative or regulatory restrictions. Several bills to limit GHGs have been proposedEnvironmental-related legislation is regularly introduced in Congress and in the U.S.Wisconsin legislature. Such legislation typically includes various compliance dates and compliance limits. There are several proposed versions of legislation pending in Congress and several states,in the Wisconsin legislature to address global climate changes, including Wisconsin, have proposed actions. These restrictions could result in significant costsefforts to reduce CO₂ emissions from fossil fuel-fired generation sourcesand control and/or tax the emission of greenhouse gases, such as coal.carbon dioxide, created in the combustion of fossil fuels, including coal, natural gas, and oil. Bills are also considering releases associated with natural gas pipelines and company fleets. In addition, there could be national and state mandates to produce increasing percentages of electricity from renewable forms of energy, such as wind. Such legislation could have the potential for a significant financial impact on MGE, does notincluding the cost to install new emission control equipment, purchase allowances, or do fuel switching. However, the financial consequences of this compliance cannot be determined until final legislation is passed. MGE management would expect to seek and receive recovery of such compliance measures through rate increases, yet know the amountsprobability and specific impact of these expenditures or the period of time over which they maysuch legislation cannot be required. Nonetheless,reasonably estimated at this time. MGE is taking stepswill continue to l ower its CO₂emission rates, including replacing coal operations at its Blount Station with new, cleaner coal generation, increased use of renewable energy (primarily wind), and heightened customer conservation programs.monitor proposed legislation.

Employees

As of December 31, 2006,2007, MGE had 740724 employees. MGE employs 254247 employees who are covered by a collective bargaining agreement with Local Union 2304 of the International Brotherhood of Electrical Workers and 106102 employees who are covered by a collective bargaining agreement with Local Union No. 39 of the Office and Professional Employees International Union. Both of these collective bargaining agreements expire on April 30, 2009. There are also 5five employees covered by a collective bargaining agreement with Local Union No. 2-111 of the United Steel, Paper and Forestry, Rubber, Manufacturing, Energy, Allied Industrial, and Service Workers International Union. This collective bargaining agreement expires on November 1, 2009.

Financial Information About Segments

See Footnote 2524 of the Notes to Consolidated Financial Statements for financial information relating to MGE Energy's and MGE's business segments.

Executive Officers of the Registrants

Note: Ages, years of service, and positions as of December 31, 2006.2007.

(a)

Executive officer of MGE Energy and MGE

(b)

Executive officer of MGE

(c)

Retired as of January 1, 2007

Item 1A. Risk Factors.

MGE Energy and its subsidiaries, including MGE, operate in a market environment that involves significant risks, many of which are beyond their control. The following risk factors may adversely affect their results of operations, cash flows and market price for their publicly traded securities. While MGE Energy and MGE believe they have identified and discussed below the key risk factors affecting their business, there may be additional risks and uncertainties that are not presently known or that are not currently believed to be significant that may adversely affect their performance or financial condition in the future.

Regulatory Risk

We are subject to extensive government regulation in our business, which affects our costs and responsiveness to changing events and circumstances.

Our business is subject to regulation at the State and Federal levels. We are subject to regulation as a holding company by the PSCW. MGE is regulated by the PSCW as to its rates, terms and conditions of service; various business practices and transactions; financing; and transactions between it and its affiliates, including MGE Energy. MGE is also subject to regulation by the FERC, which regulates certain aspects of its business. The regulations adopted by the State and Federal agencies affect the manner in which we do business, our ability to undertake specified actions since pre-approval or authorization may be required, the costs of operations, and the level of rates charged to recover such costs. Our ability to attract capital is also dependent in part, upon our ability to obtain a fair return from the PSCW.

We face risk for the recovery of fuel and purchased power costs when they exceed the base rate established in MGE's current rate structure.

MGE burns natural gas in several of its peak electric generation facilities, and in many cases, the cost of purchased power is tied to the cost of natural gas. MGE bears significant regulatory risk for the recovery from customers of such fuel and purchased power costs when they are higher than the base rate established in its current rate structure.

We are subject to environmental laws and regulations which affectsthat affect our costs and business plans.

Our subsidiaries are subject to environmental laws and regulations that affect the manner in which they conduct business, including capital expenditures, operating costs and potential liabilities. Changes and developments in these laws and regulations may increase our cost of operations, impactchange or limit our business plans, make them more costly to implement, or expose us to environmental liabilities.liabilities for past or current operations.

Numerous environmental regulations govern many aspects of our present and future operations, including air emissions, water quality, wastewater discharges, solid waste, and hazardous waste.waste; and continue to evolve in response to real or perceived concerns, regulatory initiatives, non-governmental organizational initiatives and private parties and legal process. The development of these regulations can introduce uncertainty into the planning and implementation process for long-lead time projects, such as generating stations, and can introduce costly delays if previous decisions need to be revisited as a result of judicial mandate or regulatory change. These lawsregulations generally require us to obtain and regulationscomply with a wide variety of environmental licenses, permits, inspections, and other approvals, and can result in increased capital, operating, and other costs, particularly with regard to enforcement efforts focused on power plant emissions obligations. These laws and regulations generallyeffects can be seen not only with respect to new construction, such as our participation in the Elm Road generating units, but could also require us to obtain and comply with a wide varietythe addition of environmental licenses, permits, inspections, andadditional control equipment or the implementation of other approvals. Both public officials and private individuals may seek to enforce applicable environmental laws and regulations. We cannot predict the financial or operational outcome of any related litigation that may arise.compliance measures.

In addition, we may be a responsible party for environmental clean up at sites identified byas containing hazardous materials. It is difficult to predict the costs potentially associated with a regulatory body. We cannot predict with certaintysite clean-up due to the amount and timing of all future expenditures related to environmental matters because of the difficulty of estimating clean up costs. There is also uncertainty in quantifying liabilities under environmental laws that imposepotential joint and several liability onfor all potentially responsible parties, the nature of the clean-up required and the availability of recovery from other potentially responsible parties.

We cannot assuremay incur material costs of compliance if federal and/or state legislation is adopted to address climate change.

Various persons, including legislators, regulators and private parties, have increasingly expressed concern about the effects of global warming and the effects of greenhouse gases (GHG). These concerns have prompted federal and state legislation that existing environmental regulations will notwould regulate or cap such emissions to be revised actively discussed. There are several proposed versions of legislation pending in the U.S. Congress and in the Wisconsin legislature to address global climate changes, including efforts to reduce and control and/or that new regulations seekingtax the emission of GHG, such as carbon dioxide, created in the combustion of fossil fuels, including coal, natural gas, and oil. Bills are also considering releases associated with natural gas pipelines and company fleets. These legislative initiatives are sometime paired with efforts to protectmandate increasing percentages of electricity from renewable forms of energy, such as wind, or to reduce the environment will not be adopted or become applicable to us. Revised or additional regulations which result in increased compliance costs or additional operating restrictions, particularly if those costs are not fully recoverable from our customers,demand for electricity. Such legislation could have an adverse effectthe potential for a significant financial impact on our resultsMGE, including the cost to install new emission control equipment, purchase allowances, or do fuel switching. However, the financial consequences of operations and on our ability to pay dividends on our common stock.this compliance cannot be determined until final legislation is passed.

Our business may be negatively affected by the restructuring of the energy industry.

MGE is a member of the Midwest ISO, a FERC-approved RTO. Effective April 1, 2005, Midwest ISO implemented its bid-based energy market. MGE cannot predict the impact the new market may ultimately have on its electric operations. Also, the ability of Midwest ISO to maintain its members is an important factor in the success of its operations.

Operating Risk

We are affected by weather, which affects customer demand and can affect the operation of our facilities.

The demand for electricity and gas is affected by weather. Very warm and very cold temperatures, especially for prolonged periods, can dramatically increase the demand for electricity for cooling and heating, respectively, as opposed to the softening effect of more moderate temperatures. Our electric revenues are sensitive to the summer cooling season and, to a lesser extent, the winter heating season. Similarly, very cold temperatures can dramatically increase the demand for gas for heating. A significant portion of our gas system demand is driven by heating. Extreme summer conditions or storms may stress electric transmission and distribution systems, resulting in increased maintenance costs and limiting the ability to meet peak customer demand.

We are affected by economic activity within our service area.

Higher levels of development and business activity generally increase the numbers of customers and their use of electricity and gas. Likewise, periods of recessionary economic conditions generally adversely affect our results of operations.

Our ability to manage our purchased power costs is influenced by a number of uncontrollable factors.

We are exposed to additional purchased power costs to the extent that our power needs cannot be fully covered by the supplies available from our existing facilities and contractual arrangements. Those needs, and our costs, could be affected by:

•

Increased demand due to, for example, weather, customer growth, or customer obligations,

•

The inability to transmit our contracted power from its generation source to our customers due to transmission line constraints, outages, or equipment failures,

•

Reductions in the availability of power from our owned or contracted generation sources due to equipment failures, shortages of fuel or environmental limitations on operations, and

•

Failure to perform on the part of any party from which we purchase capacity or energy.

An unexpected change in demand or the availability of generation or transmission facilities can expose us to increased costs of sourcing electricity in the short-term market where pricing may be more volatile.

Our financial performance depends on the equipment and facilities in our distribution system being operational.

Weather conditions, accidents, catastrophic events, and failures of equipment or facilities can disrupt or limit our ability to deliver electricity and gas. Efforts to repair or replace equipment and facilities may not be successful, or we may be unable to make the necessary improvements to our distribution system, causing service interruptions. The resulting interruption of services could result in lost revenues and additional costs.

We face construction risk in connection with the completion of several generating units.

We have assumed risks under the agreements related to our 8.33% ownership interest in two 615 MW coal-fired generating units being constructed in Oak Creek, Wisconsin and our ownership interest in a 29.7 MW wind-powered generating facility being constructed in Worth County, Iowa.Wisconsin. The completion of these projectsthis project is subject to construction risks over which we will have limited or no control and which might adversely affect project costs and completion time. These risks include shortages of, the inability to obtain, or the cost of, labor or materials; the inability of the general contractor or subcontractors to perform under their contracts; strikes; adverse weather conditions; the inability to obtain necessary permits in a timely manner, legal challenges and appeals to granted permits, including the WPDES permit, and changes in applicable laws or regulations; governmental actions; and events in the global economy. In addition, in the case of the units being constructed in Oak Creek, if the units' final construction costs exceed the fixed costs allowed in the PSCW order, this excess will not be recoverable from MGE or its customers unless specifically allowed by the PSCW. Any Oak Creek project costs above the authorized amount, but below a 5% cap, will be subject to a prudence determination made by the PSCW.

The start of construction was delayed by litigation related to environmental matters. Thus, We Energies estimates that project costs will increase. MGE Power Elm Road's estimated share of the increase is approximately $4.0 million. This represents an increase of approximately 2.4% in the total cost of the project. We Energies believes these costs are ultimately recoverable under the terms of the lease agreements, however, recovery is subject to final calculation of costs and also to review and approval by the PSCW.

In addition, although We Energies obtained the reissuance of a WPDES permit that is required for operation of the Oak Creek/Elm Road water intake and discharge system, litigation has continued regarding the applicable standard and the resulting reissuance. An adverse decision in those proceedings could further increase construction costs and delay operation.

Financial Risk

We are exposed to commodity price risk relating to our purchases of natural gas, electricity, coal and oil.

We face commodity price risk exposure with respect to our purchases of natural gas, electricity, coal and oil, SO₂ allowances and risk through our use of derivatives, such as futures, forwards and swaps, to manage that commodity price risk. We could experience increased costs as a result of volatility in the market values of those commodities. We could also experience losses on our derivative contracts as a result of that market value volatility or if a counterparty fails to perform under a contract. In the absence of actively quoted market prices and pricing information from external sources, the valuation of these derivative contracts involves our exercise of judgment and use of estimates. As a result, changes in the underlying assumptions or use of alternative valuation methods could affect the reported fair value of these contracts.

We are exposed to interest rate risk.

We are exposed to interest rate risk on our variable rate financing. MGE Energy had $57$103.5 million of variable-rate debt outstanding at December 31, 2006,2007, including $29.5$61.0 million for MGE. Borrowing levels under commercial paper arrangements vary from period to period depending upon capital investments and other factors. Such interest rate risk means that we are exposed to increased financing costs and associated cash paymentpayments as a result of changes in the short-term interest rates.

Market performance affects our employee benefit plan asset values.

The performance of the capital markets affects the values of the assets that are held in trust to satisfy the future obligations under our pension and postretirement benefit plans. We have significant obligations in these areas and hold significant assets in these trusts. A decline in the market value of those assets may increase our current and longer-term funding requirements for these obligations.

We are exposed to credit risk primarily through our regulated energy business.

Credit risk is the loss that may result from counterparty nonperformance. We face credit risk primarily through MGE's regulated energy business. Failure of contractual counterparties to perform their obligations under purchase power purchase agreements, commodity supply arrangements or other agreements may result in increased expenses for MGE as a result of being forced to cover the shortfall in the spot or short-term market, where prices may be more volatile.

As a holding company, we are dependent on upstream cash flows from our subsidiaries for the payment of dividends on our common stock.

As a holding company, we have no operations of our own, our ability to pay dividends on our common stock is dependent on the earnings and cash flows of our operating subsidiaries and their ability to pay upstream dividends or to repay funds to us. Prior to funding us, our subsidiaries have financial obligations that must be satisfied, including among others, debt service and obligations to trade creditors, and are subject to contractual and regulatory restrictions on the payment of dividends.

Disruptions in the financial markets as a result of the effects of sub-prime financing and related matters may affect our ability to finance at a reasonable cost and in accordance with our planned schedule.

The credit markets have experienced some disruption and uncertainty as a result of the developments associated with sub-prime mortgage issues. To the extent that such issues affect the ability or willingness of credit providers or investors to participate in the credit markets or particular types of investments, or affect their perception of the risk associated with particular types of investments, our cost of borrowing could be affected.

Item 1B. Unresolved Staff Comments.

MGE Energy and MGE

None.

Item 2. Properties.

Electric Generation

Net generating capability in service at December 31, 2006,2007, was as follows:

(1)

Baseload generation.

(2)

MGE's 22% share of two 512-MW units. The other owners are Alliant, which operates Columbia, and WPSC.

(3)

On January 19, 2006, MGE announced that it would cease coal-fired generation at Blount in 2011, subject to certain conditions, including regulatory approvals.

(4)

Facility is jointly owned. MGE Power West Campus owns a controlling interest in the electric generation plant and the UW owns a controlling interest in the chilled-water and steam plants. MGE leases the electric generating assets owned by MGE Power West Campus and is responsible for operating the facility. Amounts shown represent MGE's share of the net capability.

(5)

Based on the terms of the joint plant agreement between MGE and the UW, the UW has the ability to reduce net capability of these units by approximately 27 MW in the winter and approximately 17 MW in the summer.

Electric and Gas Distribution Facilities

Major electric distribution lines and substations in service at December 31, 2006,2007, which are owned by MGE, are as follows:

Gas facilities include 2,3732,398 miles of distribution mains, which are owned by MGE.

A significant portion of theMGE's electric and gas distribution facilities is located overabove or underunderneath highways, streets, other public places or property owned bythat others for whichown. MGE believes that it has satisfactory rights to use those places or property in the form of permits, grants, easements or licenses, deemed satisfactory by MGE but without examination ofand licenses; however, it has not necessarily undertaken to examine the underlying title to the land titles, have been obtained.upon which the rights rest.

Transmission Facilities

As required by Wisconsin law, MGE and other Wisconsin electric utilities transferred their electric transmission assets to ATC on January 1, 2001. MGE received an ownership interest in ATC in exchange for its transmission plant and related deferred taxes and deferred investment tax credits. That interest is presently held by MGE Transco. MGE receives a return on its investment in ATC that is approximately equal to the return it would have earned by retaining its transmission facilities. A small portion of the 69 kV lines and substations has been classified as distribution assets.

Item 3. Legal Proceedings.

MGE Energy and MGE

MGE Energy and its subsidiaries, including MGE, from time to time are involved in various legal proceedings that are handled and defended in the ordinary course of business. While MGE Energy and MGE are unable to predict the outcome of these matters, management does not believe, based upon currently available facts, that the ultimate resolution of any of such proceedings would have a material adverse effect on their overall financial condition or results of operations.

Also see "Environmental" under Item 1, Business, for a description of several environmental proceedings involving MGE.

Item 4. Submission of Matters to a Vote of Security Holders.

MGE Energy and MGE

None.

PART II.

Item 5. Market for Registrants' Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities.

Market for Common Equity

MGE Energy

MGE Energy common stock is traded on Nasdaq under the symbol MGEE. On February 1, 2007,2008, there were approximately 18,877 registered18,480 shareholders of record. The following table shows high and low sale prices for the common stock on Nasdaq for each quarter over the past two years.

MGE

As of February 1, 2007,2008, there were 17,347,889 outstanding shares of common stock, all of which were held by MGE Energy. There is no public trading market for shares of common stock of MGE.

Dividends

MGE Energy and MGE

The following table sets forth MGE Energy's quarterly cash dividends declared during 2007 and 2006:

MGE

The following table sets forth MGE's quarterly cash dividends declared during 20062007 and 2005:2006:

See "Liquidity and Capital Resources - Financing Activities" under Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, for a description of restrictions applicable to dividend payments by MGE.

Issuer Purchases of Equity Securities

MGE Energy and MGE.MGE

None.

Item 6. Selected Financial Data.

MGE Energy

(In thousands, except per-share amounts)

*Includes current maturities.

Item 7. Management's Discussion and Analysis of Financial Condition and

Results of Operations.

General

MGE Energy is a holding company operating through subsidiaries in five business segments: electric utility operations, gas utility operations, nonregulated energy operations, transmission investments, and all other. Our principal subsidiary is MGE, which conducts our electric utility and gas utility operations and represents a substantialmajority portion of our assets, liabilities, revenues, and expenses. MGE generates and distributes electricity to nearly 135,000136,000 customers in Dane County, Wisconsin, including the city of Madison, and purchases and distributes natural gas to more than 138,000nearly 140,000 customers in the Wisconsin counties of Columbia, Crawford, Dane, Iowa, Juneau, Monroe, and Vernon.

Our nonregulated energy operations have been formed to lease and own new electric generating capacity. Our nonregulated energy operations relate principally toinclude the leasing of the cogeneration project on the UW-Madison campus. The WCCF facility began producing electricity on April 26, 2005. Our nonregulated energy operations also include an undivided 8.33% ownership interest in each of two 615 MW generating units being constructed in Oak Creek, Wisconsin. Both of these operations are included in MGE's consolidated financial statements as a result of the accounting requirements of FIN 46R.

The transmission investment segment consists of our investment in ATC and the related equity earnings.

Our all other segment includes corporate operations and services, as well as certain construction services.

Our primary focus today and for the foreseeable future is our core utility customers at MGE. MGE continues to face the challenge of providing its customers with reliable power at competitive prices. MGE plans to meet this challenge by building more efficient generation projects and continuing its efforts to control its operational costs. We believe it is critical to continue maintaining a strong credit standing and financial strength in MGE as well as the parent company in order to accomplish these goals.

Results of Operations

Year Ended December 31, 2006,2007, Versus the Year Ended December 31, 20052006

Executive Summary- MGE Energy and MGE

In 2006, our2007, MGE Energy's earnings were $48.8 million or $2.27 per share compared to $42.4 million or $2.06 per share compared to $32.1 million or $1.57 per share in the prior year. ResultsMGE's earnings for 2005the twelve months ended December 31, 2007, were adversely impacted by$37.1 million compared to $32.6 million for the natural disasterssame period in the Gulf of Mexico. These disasters and the related damage to the energy infrastructure, resulted in abnormally high fuel and purchased power costs that were not entirely recovered from our customers, and ultimately, lower 2005 earnings.prior year.

During 2006,the twelve month period ended December 31, 2007, our utility operations experienced an increase in electric revenues of $7.9$15.6 million. This increase is primarily attributable to an increase in sales volumes, the effect of a fuel surcharge and an increase in sales for resale. Additionally, the electric rates for the twelve months ended December 31, 2007, are higher than those for the same period in the prior year, when the fuel credit and refund in effect during the twelve months ended December 31, 2006, are considered. As a result of lower actual fuel costs during the twelve months ended December 31, 2006, than those costs provided in the applicable rate order, the PSCW issued an interim order implementing a $0.00454 per kWh fuel credit. Additionally, the PSCW stated that MGE's electric rates set in the final order were subject to refund, together with interest, pending a full review of MGE's 2006 actual electric fuel costs. As a result of these actions, MGE recognized an obligation to make refunds to its customers by recording a $19.1 million gross reduction to other electric revenues during the twelve months ended December 31, 2006.

For the twelve months ended December 31, 2007, fuel used for electric generation increased $7.5 million or 2.5%15.2% compared to the twelve months ended December 31, 2006. This increase is attributable to an increase in the volume of internal generation and an increase in the per-unit cost of fuel. During this same period, purchased power expense increased by $0.4 million or 0.6%. This increase is attributable to an increase in rates,the per-unit-cost offset by decreasesa decrease in retail volumes, sales for resale, and other electric revenues.volume of power purchased.

On December 12, 2005,April 26, 2007, the PSCW authorized MGE to increase 2006approved a $0.00339 per kWh fuel surcharge on MGE's electric revenues by $35.9 million. This increase was implementedrates to cover forecasted increasesincreased fuel and purchased power expenses. The fuel surcharge was applied to electric rates as of the date of the PSCW order. On August 31, 2007, MGE received a final decision from the PSCW which reduced the fuel surcharge to $0.00242 per kWh. This fuel surcharge went into place on the date of the order and remained in fuel costs andplace until December 31, 2007. These surcharges resulted in a $5.6 million increase in electric revenue for the cost of additional facilities such as MGE Power West Campus and MGE Power Elm Road. During 2006, this authorized increase was partially offset by an interim credit issued by the PSCW.

For the yeartwelve months ended December 31, 2006, actual2007. Pursuant to the provisions of the April 26, 2007, surcharge order, MGE's electric fuel costs were lower than those included in the aforementioned rate order. In 2006, fuel used for generation decreased $15.8 million or 24.3% compared to 2005. Additionally, purchased power expense decreased $4.5 million or 5.5% compared to 2005. As a result of lower actual fuel costs during 2006, the PSCW approved an interim credit and electric rates duringrevenues resulting from this periodsurcharge were subject to refund. In response,refund and interest at 11%. During the twelve months ended December 31, 2007, MGE recorded a $19.1 decrease$1.3 million adjustment to other electric revenuesrevenue to reflectaccount for the refund and credit dueprovision. This refund amount was applied to customers. This amount includes $0.4 million in carrying costs incurred. As of December 31, 2006, $16.8 million of this amount had been creditedcustomers' accounts on customers bills. The remaining $2.3 million is expected to be refunded to customers in MarchOctober 6, 2007.

During the yeartwelve months ended December 31, 2006,2007, gas revenues decreased $15.3 million or 7.6%.increased $12.7 million. This decreaseincrease is attributable to a 7.3% decreaseresult of increases in sales volumes, partially offset by a decline in the cost per thermcosts of gas and a decrease in other gas deliveries.revenues. During this period, natural gas purchased increased $11.5 million as a result of an increase in volumes and an increase in the per therm cost.

Operation and maintenance expenses increased $8.5 million duringThe following discussion is based on the year ended December 31, 2006. This increase is primarily due to higher general and administrative expenses.business segments as discussed in Footnote 24.

Electric Utility Operations

Electric sales and revenues

The following table compares MGE's electric retail revenues and electric kWh sales by customer class during the years ended December 31, 20062007 and 2005:2006:

Electric operating revenues were up 2.5%4.9% in 20062007 due to the following:

•

Rates.OnRates charged to retail customers for the twelve months ended December 12, 2005,31, 2007, were 1.1% or $3.5 million higher than those charged during the PSCW authorized MGE to increase 2006 electric revenues by $35.9 million to cover rising fuel and purchased power costs andsame period in the cost of additional facilities needed to meet the rising electric needs of MGE's customers.prior year.

On March 9, 2006, the PSCW approved an interim fuel credit to reduce electric rates by $0.00069 per kWh as a result of lower January fuel costs than those in the aforementioned rate order. This credit was applied to rates as of March 9, 2006. Per the terms of the order issued on March 9, 2006, MGE's rates were also subject to refund. On May 25, 2006, the PSCW approved a stipulation filed by MGE. Under this stipulation, the interimfuel credit was increasedto reduce 2006 electric rates by $0.00454 per kWh. The aforementioned orders resultedkWh and stated that electric rates set in the final 2006 order are subject to refund. As a result of these provisions, customers' bills were credited $16.8 million during the twelve months ended December 31, 2006. Additionally, on April 24, 2007, when the PSCW completed their audit of 2006 electric fuel costs and issued a final order, $2.4 million (related to 2006 fuel costs including interest) was applied to customers' accounts.

On December 22, 2006, the PSCW approved a limited scope rate case reopener related to MGE's current electric rates. This order was expected to result in a $16.8 million reductionnet 0.15% decrease, on average, in retail electric rates for 2007 when compared to customer billsthose in place for the year ended December 31, 2006.2006 (assuming the 2006 fuel credit was in place for the entire year). Electric rates were subsequently increased from those presented in this order as a result of a $0.00339 per kWh fuel surcharge approved by the PSCW and in effect from April 26, 2007, to August 31, 2007, and a $0.00242 per kWh fuel surcharge approved by the PSCW and in effect from August 31, 2007, to December 31, 2007. These surcharges resulted in a $5.6 million increase to electric rates charged to customers during the twelve months ended December 31, 2007.

On December 21, 2004, the PSCW authorized MGE to•

Volume. During 2007, there was a 2.8% increase 2005 electric revenuesin total retail sales volumes. This increase represents increased usage by $27.4 million. Due to the natural disasters in the Gulf of Mexicoresidential and the abnormally high fuel costs that resulted, on November 11, 2005, the PSCW approved an interim fuel surcharge. During 2005, MGE recorded $1.7 million in additional electric revenues under this interim order.commercial.

•

Sales for resale. During 2006,2007, sales for resale decreased $11.9increased $1.5 million. Sales for resale include transactions conducted on the PJM and Midwest ISO markets reflecting our involvement in the PJM and Midwest ISO markets since their establishment on May 1, 2004, and April 1, 2005, respectively. MGE has recorded transactions on the PJM and Midwest ISO markets in which we are buying and selling power within the same period to meet our electric energy delivery requirements on a net basis. This treatment resulted in a $154.4 million and $122.2 million reduction to sales for resale and purchased power expense for the years ended December 31, 2006, and December 31, 2005, respectively. The decreaseincrease in sales for resale for the year ended December 31, 2006,2007, when compared to the same period in the prior year is largely attributable to a change in the relationship between the cost of purchased power and the cost of internal generation. Namely, during 2006 the cost to purchase power in certain periods was less than the cost to internally generate. Accordingly, MGE was purchasing more power from the market than they were selling power into the market for the year ended December 31, 2006, when compared to the same period in 2005.

•

Volume. During 2006, there was a 0.7% decrease in total retail sales volumes. This decrease is primarily attributable to cooler temperatures during the summer months. Cooling degree days for the year ended December 31, 2006, decreased 24.8% from 847 for the year ended December 31, 2005, to 637 for the year ended December 31, 2006.

•

Other Revenues.Other electric revenues decreased $6.7increased $1.5 million for the twelve months ended December 31, 2006,2007, compared to the same period in the prior year. DuringTo account for the effects of the fuel credit and refund described above under "Rates", during the twelve months ended December 31, 2006, MGE recordedrecognized a net $2.3 million reduction to other electric revenues.

In April 2007, the 2006 fuel credit of $2.3 million was provided to customers. As a result, MGE increased other revenues by the same amount to account for the effects of the interim orders described above under "Rates."offset this credit reflected in "Rates" above.

During the yeartwelve months ended December 31, 2007 and 2006, MGE recovered in electric rates carrying costs onand other fees related to WCCF and Elm Road. MGE recorded a $8.2 million and $5.2 million adjustmentreduction, respectively, to other electric revenues to eliminate the recognition of revenue related to these costs in the electric segment as revenue related to these carrying costs is recorded by MGE Power Elm Road and MGE Power West Campus (see discussion of these revenues in the "nonregulated operations revenue"revenues" section).

For the yeartwelve months ended December 31, 2005,2007, MGE recordedalso experienced a $0.8$0.1 million adjustment todecrease in other miscellaneous electric revenues to eliminate the recognition of revenues related to carrying costs on MGE Power West Campus.revenues.

Electric fuel and purchased power

In 2006,2007, fuel used for electric generation decreased $15.8increased $7.5 million, or 24.3%15.2%, compared to 2005.2006. The per-unit cost of internal generation decreased 11.3%increased 4.5% for the year ended December 31, 2006,2007, when compared to the same period in the prior year, reflecting the decreasedincreased cost of natural gas. Recall that fuel costs in 2005 were abnormally high due to the natural disasters that occurred in the Gulf of Mexico and the reduction in natural gas supplies that resulted.

The volume of internal generation also decreasedincreased during this period reflecting a shift between internal generation and purchased power. Namely, MGE found that during certain time periods it was more cost effective to satisfy demand through purchased power, rather than internal generation.

Despite a 14.5% increase in the volume of purchased power forFor the year ended December 31, 2006,2007, purchased power expense decreasedincreased by $4.5$0.4 million, or 5.5%0.6%. This decreaseincrease reflects a 17.5% decrease$6.2 million or 8.1% increase in the per-unit-cost, partially offset by the aforementioned increasea $5.8 million or 7.0% decrease in volume.volume of power purchased.

MGE has recorded transactions on the PJM and Midwest ISO markets in which we are buying and selling power within the same periodhour to meet our electric energy delivery requirements on a net basis. This treatment resulted in a $154.4 million and $122.2 million reduction to purchased power expense for the years ended December 31, 2006, and December 31, 2005, respectively.

Electric operating expenses

Electric operating expense increased $7.9$3.2 million in 2006.2007. The following changes contributed to the net change in electric operating expenses for 2006:2007:

(a)

This increase relatesIncluded in the decrease in transmission costs is a $0.9 million cash benefit received for SECA revenues related to the commencement of the leasing arrangementprior years. SECA revenues are through and out rates previously charged to MGE by PJM for transactions between MGE and MGE Power West Campus on April 26, 2005. In accordance with the terms of this leasing arrangement, the electric segment recorded $15.0 million and $10.1 million in rent expense for the years ended December 31, 2006, and December 31, 2005, respectively. Upon consolidation, this amount isRTOs which were subsequently eliminated. by FERC.

Electric maintenance expense

In 2006,2007, electric maintenance expense increased $1.1$0.8 million, or 8.4%5.7%, due to a increase in the maintenance of distribution assets ($1.00.7 million) and the maintenance of general and administrative facilities ($0.1 million).

Electric depreciation

Electric depreciation expense increased $0.8$0.7 million in 2006.2007. This increase is attributable to additions to electric production assets at the Columbia and Blount facilities.assets.

Gas Utility Operations

Gas deliveries and revenues

The following table compares MGE's gas retail revenues and gas delivered by customer class during each of the years ended December 31, 20062007 and 2005:2006:

Gas revenues decreased 7.6%increased 6.9% in 20062007 due to the following:

•

Gas costs/rates. Gas costs decreased significantly for the year ended December 31, 2006,2007, from those costs experienced for the year ended December 31, 2005.2006. MGE's natural gas rates are subject to a fuelpurchased gas adjustment clause designed to recover or refund the difference between the actual cost of purchased gas and the amount included in rates. Differences between the amounts billed to customers and the actual costs recoverable are deferred and recovered or refunded in future periods by means of prospective monthly adjustments to rates. As a result of a decrease in gas prices, MGE's average rate per therm for retail customers in 20062007 decreased 3.3%0.3%.

•

Retail gas deliveries. In 2006,2007, retail gas deliveries decreased 4.5%increased 8.4%. This decreaseincrease is primarily attributable to warmer temperatures.an increase in heating degree days. Heating degree days for the year ended December 31, 2006,2007, were 6,5206,935 compared to 6,8406,520 for the same period in the prior year.

•

Transportation and otherOther gas revenues.In 2006,2007, there was a $0.3$1.7 million decrease in transportation and other gas revenues. This decrease represents a $0.2 million decrease in transportation revenues and a $0.1 million decrease in revenues earned under the GCIM and other miscellaneous gas revenues. Under MGE's GCIM, if actual gas commodity costs are above or below a benchmark set by the PSCW, then MGE's gas sales service customers and shareholders share equally in any increased costs or savings. The PSCW allows MGE to resell gas pipeline capacity reserved to meet peak demands but not needed every day to serve customers. Revenues from capacity release that exceed or fall short of PSCW-targeted levels are shared equally. In 20062007 and 2005,2006, MGE shareholders received the benefit of $2.5$0.9 million and $2.7$2.5 million from capacity release revenues and commodity savings under the GCIM, respectively.

Natural gas purchased

In 2006,2007, natural gas purchased decreased $16.8increased $11.5 million, or 11.5%8.9%. This decrease is primarily due to lower average wellhead prices. Natural gas prices (cost per therm) decreased 7.3% in 2006. As mentioned, in 2005 natural gas prices were atypically high due to the natural disasters that occurred in the Gulf of Mexico. For the year ended December 31, 2006, the amount of natural gas purchased also decreased from those levels experienced for the same period in the prior year. Due primarily to lowerhigher retail sales volumes, the volume of natural gas purchased decreased 4.6%increased $10.8 million for the year ended December 31, 2006.2007, when compared to the prior year. Additionally, a decrease in the natural gas purchase price coupled with an increase in the PGA provision provides for an overall increase in the cost per therm of 0.5% in 2007, which resulted in a $0.7 million overall increase in expense when compared to the prior year.

Gas operating expenses

Gas operating expense increased $4.1$0.4 million, or 15.3%1.2%, in 2006.2007. The following changes contributed to the net change in gas operating expense for the year:

Gas maintenance expenses

Gas maintenance expense for the year ended December 31, 2006, did not change from the $2.3increased $0.4 million experienced for the same period, or 17.9% in the prior year.2007. This expenseincrease primarily relates to maintenance work performed on distribution assets.

Gas depreciation

Gas depreciation expense increased $0.4$0.2 million in 20062007 as a result of additional gas plant assets. For example, during the year ended December 31, 2006, additional mains, services, and meters were placed in service.

Other Income (Expense)

Other expenseincome for the year ended December 31, 2006,2007, for the electric and gas segments was $1.0$0.1 million, compared to other incomeexpense of $0.1$1.0 million for the same period in the prior year. During 2007, the gas and electric segments recognized $1.9 million in AFUDC-equity, $0.2 million in equity earnings from miscellaneous investments, and a $0.8 million gain on the sale of investments. This income was offset partially by $0.3 million in premium expense for a HDD collar, $2.1 million in charitable contributions and $0.4 million in net miscellaneous expenses.

During 2006, the gas and electric segments recognized a total of $2.2 million in charitable contributions. This expense was partially offset by $0.6 million in AFUDC-equity and $0.6 million in other miscellaneous income. The other miscellaneous income includes a $0.6 million gain on our heating degree day financial instrument.

For the year ended December 31, 2005, the gas and electric segments recognized a total of $0.4 million in AFUDC-equity funds and a $0.1 million gain on the sale of assets. This income was offset by $0.2 million in charitable contributions recorded in the electric and gas segments and $0.2 million in miscellaneous expense, net.

Interest Expense

For the year-ended December 31, 2006,2007, total interest expense for the electric and gas segments increased $1.2decreased $0.4 million when compared to the same period in the prior year. For the year ended December 31, 2006,2007, there was a $1.3$1.0 million decrease in interest expense on short-term debt, a $0.6 million increase in AFUDC-debt (which is a reduction to interest expense), and a $0.5 million increase in interest income. These decreases in interest expense were offset by a $1.7 million increase in interest expense on short-term debt atlong-term debt. This increase relates to interest incurred on the electric and gas segments as a result of increased interest rates and higher levels of short-term debt for much of the year. These increases were offset by a $0.1 million increase in AFUDC-debt income at the electric and gas segments.5.25% medium-term notes, issued on December 29, 2006.

Nonregulated Energy Operations

Nonregulated Energy operating revenues

Operating revenues from nonregulated energy operations were $20.0 million and $18.4 million for the yearyears ended December 31, 2007 and 2006. This amount includesThese amounts include $14.9 million and $15.0  million, respectively, in interdepartmental revenues. The interdepartmental revenues relate to the leasing arrangement between MGE and MGE Power West Campus which commenced on April 26, 2005. In accordance with the provisions of this leasing arrangement, the Nonregulated Energy Operations, via MGE Power West Campus, recorded $15.0$14.9 million and $10.1$15.0 million in lease revenue for the years ended December 31, 2006,2007 and December 31, 2005,2006, respectively. Upon consolidation, this interdepartmental amount is eliminated.

Also included in operating revenues is the recognition of revenues related to carrying costs for MGE Power West Campus and MGE Power Elm Road (2006 only).Road. MGE received approval from the PSCW to collect approximately $12.1 million in carrying costs incurred by MGE Power West Campus during construction of the WCCF facility. MGE is collecting these costs in rates over a period of ten years. Of these costs, $4.1 million relates to the capitalized interest and the debt portionFor each of the facility. These costs are recognized over the period in which the facility is being depreciated (40 years). The remaining amount of $8.0 million represents the equity portion and is recognized over the ten-year period for recovery in rates. For the years ended December 31, 2006,2007 and December 31, 2005,2006, MGE Power West Campus recognized $1.1 million and $0.6 million, respectively, related to carrying costs on WCCF, manage ment,management, demolition, and removal fees.

MGE also received approval from the PSCW to collect carrying costs expected to be incurred by MGE Power Elm Road during construction of the Elm Road project. Current forecasts estimate the total carrying costs to be incurred to be $54.3$53.6 million. A portion of this amount is being recognized over the period allowed for recovery in rates ($32.632.5 million) and a portion is being deferred and will be recognized over the period in which the facility is depreciated ($21.721.1 million). For the yearyears ended December 31, 2007 and 2006, MGE Power Elm Road recognized $4.1 million and $2.3 million related to carrying costs on the Elm Road project.

Nonregulated energy operations and maintenance expense

For the years ended December 31, 2006,2007 and December 31, 2005,2006, other operations and maintenance expense remained consistent. These expenses primarily relate to administrative and general expenses at MGE Power West Campus and MGE Power Elm Road.

Nonregulated energy depreciation expense

Depreciation expense began when the WCCF commenced operations on April 26, 2005. Depreciation expense for the year ended December 31, 2006, was $2.7 million2007, remained consistent when compared to $1.9 million for the year ended December 31, 2005, reflecting a partial year of depreciation in 2005.prior year.

Nonregulated energy interest expense, net

For the twelve months ended December 31, 2006,2007, interest expense, net at the nonregulated energy operations segment increased $1.1was $2.5 million compared to $2.7 million for the same period in the prior year.

Interest expense at the nonregulated energy segment for the year ended December 31,both 2007 and 2006 represents interest expense on therelated to long-term borrowings held by MGE Power West Campus. On September 30, 2003,at MGE Power West Campus issued $30.0was $2.8 million. In 2007, this interest expense is offset by a $0.1 million of 5.68% senior secured notes maturing September 25, 2033 and on October 27, 2005, issued $20.0 million of 5.19% senior secured notes also due September 25, 2033. Interest expense for the twelve months ended December 31, 2006, and December 31, 2005, related to these borrowings was $2.8 million and $1.9 million, respectively.miscellaneous interest income.

Also included in the nonregulated interest expense is interdepartmental interest expense at MGE Power Elm Road and MGE Power West Campus.Road. During the twelve months ended December 31, 2006,2007 and December 31, 2005,2006, MGE Power Elm Road was charged $1.9$3.9 million and $0.2$1.9 million, respectively, in interest expense by CorporateMGE Energy on funds borrowed for the Elm Road Project. This expense is eliminated upon consolidation. During the year ended December 31, 2005, MGE Power West Campus recorded $0.4 million in interdepartmental interest expense. This expense is also eliminated upon consolidation.

The interest expense at MGE Power Elm Road is offset by $1.9 million and $0.2 million in capitalized interest during the twelve months ended December 31, 2006, and December 31, 2005, respectively. Under the provision of SFAS 34, MGE Power Elm Road is capitalizingcapitalized all interest expense on the Elm Road Project. During construction ofProject during 2007 and 2006. For the WCCF, MGE Power West Campus also recorded capitalized interest in accordance with the provisions of SFAS 34. During the twelve monthsyears ended December 31, 2005, $0.7 million in capitalized interest was recognized as an offset to interest expense. On April 26, 2005, when the electric generation facilities of WCCF began generating electricity, MGE Power West Campus discontinued the capitalization of interest, as the project was deemed to be substantially complete.

For the year ended December 31,2007 and 2006, MGE Power Elm Road recorded $0.2 million and $0.1 million in interest income on the cash advanced to Elm Road Services, LLC for construction of transmission equipment and work done by ATC related to Elm Road.

Transmission Investment Operations

Transmission investment other income (loss)

For the year ended December 31, 2006,2007, other income at the transmission investment segment was $5.3$6.0 million, compared to $4.9$5.3 million for the same period in the prior year. The transmission investment segment holds our interest in ATC, and its income reflects our equity earnings in ATC.

All Other Operations

All other revenues

During the twelve months ended December 31, 2007 and 2006, the All Other segment did not record any revenues. However, MGE Construct received service fees of $1.3 million from the State in 2005. The service fees earned relate to MGE Construct's role as EPC contractor for WCCF. This amount is classified as nonregulated revenue within MGE Energy's financial statements. The total fee of $5.0 million had been recognized at December 31, 2005. This amount was recognized as services were rendered and was collected over a 22-month period.

All other operations and maintenance expense

All other operations and maintenance expense for the year ended December 31, 2006, increased $0.22007, decreased $0.1 million when compared to the same period in the prior year. This increasedecrease is related to a increasedecrease in general and administrative expense at corporate. For the year ended December 31, 2005, the all other segment recorded a $0.2 million gain as a result of the settlement of disputed legal fees.

All other interest income (expense)

All other interest income for the year ended December 31, 2006,2007, was $0.8$2.3 million compared to $0.1$0.8 million for the year ended December 31, 2005.2006. Interest income for the twelve months ended December 31, 2007 and 2006, and December 31, 2005, includes $1.9$3.9 million and $0.2$1.9 million in interdepartmental income from MGE Power Elm Road. Additionally, for the year ended December 31, 2005, this balance includes $0.4there was $0.2 million in interdepartmental income from MGE Power West Campus. This interest income is eliminated upon consolidation. Thismiscellaneous interest income for the year ended December 31, 2007. In 2007 and 2006, this interest income is offset in part by $1.8 million and $1.1 million, respectively, in interest expense on short-term debt. Interest expense on these borrowings was $0.5 million for the same period in the prior year.debts.

Consolidated Other General Taxes

MGE Energy and MGE's other general taxes increased 16.1%$0.4 million or 2.4% in 20062007. This increase is primarily becauseattributable to an increase in MGE's license fee tax increased.and an increase in MGE's payroll taxes. The annual license fee tax expense is based on adjusted operating revenues of the prior year. Tax rates have not increased.These increases are slightly offset by a tax refund received for overpayment of license fees in prior years.

Consolidated Income Taxes

MGE Energy's effective income tax rate is 36.3% for the twelve months ended December 31, 2007, compared to 37.9% for 2006 comparedthe year ended December 31, 2006. This decrease is primarily attributable to 38.2%the completion of tax recovery for prior year flow through. The PSCW has allowed rate recovery of deferred taxes on all temporary differences since June 1991 when the FERC Uniform System of Accounts was adopted. Unrecovered deferred taxes in 2005. The lowerexistence at the time of adoption were authorized for rate recovery over 15 years. Recovery of these amounts was completed on December 31, 2006.

Other factors contributing to a decrease in the effective tax rate is chiefly due toinclude the recognition,favorable settlement of an income tax examination for which a FIN 48 liability had been recorded, an increase in 2006, of tax benefits from the domestic manufacturing tax deduction as provided by the American Jobs Creation Act of 2004, over time periodsa federal research tax credit under the new alternative simplified credit method, and an increase in AFUDC-equity primarily related to PSCW rate action.the Top of Iowa III project.

Minority Interest, Net of Tax

For the year ended December 31, 2007, MGE Energy (through its wholly owned subsidiary MGE Power) earned $7.7 million and $2.6 million for its interest in MGE Power West Campus and MGE Power Elm Road, respectively. Additionally, MGE Energy earned $0.5 million, net of tax for its interest in MGE Transco.

For the year ended December 31, 2006, MGE Energy (through its wholly owned subsidiary MGE Power) earned $7.8 million and $1.4 million for its interest in MGE Power West Campus and MGE Power Elm Road.Road, respectively. Additionally, MGE Energy earned $0.4 million, net of tax for its interest in MGE Transco.

For the year ended December 31, 2005, MGE Energy earned $5.4 million, net of tax , for its interest in MGE Power West Campus and less than $0.1 million for its interest in MGE Transco and MGE Power Elm Road. These amounts are recorded as minority interest expense, net of tax, on MGE's Consolidated Statement of Income.

Year Ended December 31, 2005,2006, Versus the Year Ended December 31, 20042005

Executive Summary

In 2005,2006, our earnings were $42.4 million or $2.06 per share compared to $32.1 million or $1.57 per share compared to $33.8 million or $1.77 per share in the prior year. This decrease is primarily a result ofResults for 2005 were adversely impacted by the natural disasters that occurred in the Gulf of Mexico during 2005Mexico. These disasters and the resulting impact onrelated damage to the energy infrastructure, resulted in abnormally high fuel costs. In 2005, fuel used for electric generation increased $22.0 million, or 51.1%, compared to 2004. Additionally,and purchased power expense increased by $29.7 million. These increases in costs that were partially offset by a $60.6 millionnot entirely recovered from our customers, and ultimately, lower 2005 earnings.

During 2006, utility operations experienced an increase in electric revenues.revenues of $7.9 million or 2.5%. This increase is attributable to an increase in rates, that became effectiveoffset by decreases in January 2005, an increase inretail volumes, sales for resale, and warmer temperatures, which increased demand forother electric revenues.

On December 12, 2005, the summer months. PSCW authorized MGE to increase 2006 electric revenues by $35.9 million. This increase was implemented to cover forecasted increases in fuel costs and the cost of additional facilities such as MGE Power West Campus and MGE Power Elm Road. During 2006, this authorized increase was partially offset by an interim credit issued by the PSCW.

For the year ended December 31, 2005, purchased natural gas expense increased $31.52006, actual electric fuel costs were lower than those included in the aforementioned rate order. In 2006, fuel used for generation decreased $15.8 million or 27.4%, largely24.3% compared to 2005. Additionally, purchased power expense decreased $4.5 million or 5.5% compared to 2005. As a result of lower actual fuel costs during 2006, the PSCW approved an interim credit and electric rates during this period were subject to refund. In response, MGE recorded a $19.1 decrease to other electric revenues to reflect the refund and credit due to higher naturalcustomers. This amount includes $0.4 million in carrying costs incurred. As of December 31, 2006, $16.8 million of this amount had been credited on customers bills. The remaining $2.3 million was refunded to customers in March 2007.

During the year ended December 31, 2006, gas prices.revenues decreased $15.3 million or 7.6%. This increase was partially offset bydecrease is attributable to a $28.8& nbsp;million increase7.3% decrease in the cost per therm of gas and a decrease in gas revenues.deliveries.

Operation and maintenance expenses increased $8.5 million during the year ended December 31, 2006. This increase is primarily due to higher electric transmission expenses. These increases were partially offset by lower distribution expenses and general and administrative costs.expenses.

The following discussion is based on the business segments as discussed in Footnote 24.

Electric Utility Operations

Electric sales and revenues

The following table compares MGE's electric retail revenues and electric kWh sales by customer class during the years ended December 31, 20052006 and 2004:2005: