SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON, DC 20549



                                    FORM 10-Q



(Mark One)

/X/ Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
    Act of 1934

For the quarterly period ended JUNESEPTEMBER 30, 2001

                                       or

/_// / Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
    Act of 1934



                           Commission File No. 1-3548

                                  ALLETE, INC.


                             A Minnesota Corporation
                   IRS Employer Identification No. 41-0418150
                             30 West Superior Street
                          Duluth, Minnesota 55802-2093
                           Telephone - (218) 279-5000




Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months and (2) has been subject to such filing requirements for
the past 90 days.
                  Yes     X      No
                        -----        -----




                           Common Stock, no par value,
                          82,942,56683,200,947 shares outstanding
                            as of July 31,September 30, 2001





                                      INDEX

                                                                          Page

Definitions                                                                 2

Safe Harbor Statement Under the Private Securities
 Litigation Reform Act of 1995                                              3

Part I.  Financial Information

         Item 1. Financial Statements

             Consolidated Balance Sheet -
               JuneSeptember 30, 2001 and December 31, 2000                     4

             Consolidated Statement of Income -
               Quarter and SixNine Months Ended JuneSeptember 30, 2001 and 2000    5

             Consolidated Statement of Cash Flows -
               SixNine Months Ended JuneSeptember 30, 2001 and 2000                6

             Notes to Consolidated Financial Statements                     7

         Item 2. Management's Discussion and Analysis of
                  Financial Condition and Results of Operations            12

         Item 3. Quantitative and Qualitative Disclosures about
                  Market Risk                                              1920

Part II. Other Information

         Item 4. Submission of Matters to a Vote of Security Holders       1920

         Item 5. Other Information                                         20

         Item 6. Exhibits and Reports on Form 8-K                          21

Signatures                                                                 22




1                      ALLETE SecondThird Quarter 2001 Form 10-Q




                                   DEFINITIONS

The following abbreviations or acronyms are used in the text. References in this
report  to "we,"  "us" and  "our"  are to  ALLETE,  Inc.  and its  subsidiaries,
collectively.


ABBREVIATION OR ACRONYM          TERM
- --------------------------------------------------------------------------------

2000 Form 10-K                   ALLETE's Annual Report on Form 10-K for
                                    the Year Ended December 31, 2000
ACE                              ACE Limited
ADESA                            ADESA Corporation
AFC                              Automotive Finance Corporation
ALLETE                           ALLETE, Inc.
ALLETE Properties                     ALLETE Properties, Inc.
ALLETE Water Services            ALLETE Water Services, Inc.
APC                                   Auto Placement Center, Inc.
Capital Re                       Capital Re Corporation
CIP                              Conservation Improvement Programs
Cleveland-Cliffs                 Cleveland-Cliffs Inc.
Company                          ALLETE, Inc. and its subsidiaries
ComSearch                        ComSearch, Inc.
Dicks Creek                      Dicks Creek Wastewater Utility
EBITDAL                          Earnings Before Interest, Taxes, Depreciation,
                                    Amortization and Lease Expense
Enventis                         Enventis, Inc.
EPS                              Earnings Per Share
ESOP                             Employee Stock Ownership Plan
FASB                             Financial Accounting Standards Board
FERC                             Federal Energy Regulatory Commission
Florida Water                    Florida Water Services Corporation
FPSC                             Florida Public Service Commission
Heater                           Heater Utilities, Inc.
MAPP                                  Mid-Continent Area Power Pool
MP Telecom                            Minnesota Power Telecom, Inc.LTV                              LTV Steel Mining Company
MPUC                             Minnesota Public Utilities Commission
MW                               Megawatt
NCUC                             North Carolina Utilities Commission
PSCW                             Public Service Commission of Wisconsin
SEC                              Securities and Exchange Commission
SFAS                             Statement of Financial Accounting Standard No.
Split Rock                            Split Rock Energy LLC
Square Butte                     Square Butte Electric Cooperative
SWL&P                            Superior Water, Light and Power Company



                      ALLETE SecondThird Quarter 2001 Form 10-Q                      2


                           SAFE HARBOR STATEMENT UNDER
              THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995

In  connection  with  the  safe  harbor  provisions  of the  Private  Securities
Litigation  Reform  Act of 1995,  we are  hereby  filing  cautionary  statements
identifying  important  factors  that could  cause our actual  results to differ
materially from those projected in  forward-looking  statements (as that term is
defined in the Private  Securities  Litigation Reform Act of 1995) made by or on
behalf of ALLETE in this  quarterly  report on Form 10-Q, in  presentations,  in
response to questions or otherwise.  Any  statements  that  express,  or involve
discussions as to,  expectations,  beliefs,  plans,  objectives,  assumptions or
future events or performance (often, but not always, through the use of words or
phrases such as "anticipates,"  "believes,"  "estimates,"  "expects," "intends,"
"plans,"  "predicts,"  "projects,"  "will  likely  result,"  "will  continue" or
similar  expressions)  are  not  statements  of  historical  facts  and  may  be
forward-looking.

Forward-looking statements involve estimates,  assumptions and uncertainties and
are  qualified in their  entirety by reference to, and are  accompanied  by, the
following   important   factors,   which  are  difficult  to  predict,   contain
uncertainties,  are beyond our  control and may cause  actual  results to differ
materially from those contained in forward-looking statements:

  -   war and acts of terrorism;
  -   prevailing  governmental policies and  regulatory actions, including those
      of the United States Congress, state legislatures, the FERC, the MPUC, the
      FPSC,  the NCUC,  the PSCW and various  county  regulators,  about allowed
      rates of return, industry and rate structure,  acquisition and disposal of
      assets and facilities,  operation and  construction  of plant  facilities,
      recovery  of  purchased  power and  capital  investments,  and  present or
      prospective wholesale and retail competition (including but not limited to
      transmission costs);
  -   economic and geographic factors, including political and economic risks;
  -   changes in and compliance with environmental and safety laws and policies;
  -   weather conditions;
  -   population growth rates and demographic patterns;
  -   competition for retail and wholesale customers;
  -   pricing and transportation of commodities;
  -   market demand, including structural market changes;
  -   changes in tax rates or policies or in rates of inflation;
  -   changes in project costs;
  -   unanticipated changes in operating expenses and capital expenditures;
  -   capital market conditions;
  -   competition for new energy and other development opportunities; and
  -   legal and administrative proceedings (whether civil or criminal) and
      settlements that affect the business and profitability of ALLETE.

Any forward-looking statement speaks only as of the date on which that statement
is made, and we undertake no obligation to update any forward-looking  statement
to reflect  events or  circumstances  after the date on which that  statement is
made or to reflect the occurrence of  unanticipated  events.  New factors emerge
from time to time and it is not possible for  management to predict all of those
factors, nor can it assess the impact of each of those factors on the businesses
of ALLETE or the extent to which any factor,  or  combination  of  factors,  may
cause  actual  results  to  differ   materially  from  those  contained  in  any
forward-looking statement.


3                     ALLETE SecondThird Quarter 2001 Form 10-Q




PART I.    FINANCIAL INFORMATION
ITEM 1.    FINANCIAL STATEMENTS
ALLETE CONSOLIDATED BALANCE SHEET Millions JUNE SEPTEMBER 30, DECEMBER 31, 2001 2000 Unaudited Audited - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- ASSETS Current Assets Cash and Cash Equivalents $ 274.6206.8 $ 219.3 Trading Securities 159.6165.9 90.8 Accounts Receivable (Less Allowance of $12.9$13.4 and $11.7) 399.0455.9 265.7 Inventories 29.730.9 26.4 Prepayments and Other 161.9139.2 128.8 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- Total Current Assets 1,024.8998.7 731.0 - ----------------------------------------------------------------------------------------------------------------- Property, Plant and Equipment 1,528.31,536.5 1,479.7 Investments 114.6122.3 116.4 Goodwill 503.6498.3 472.8 Other Assets 122.5121.6 114.1 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- TOTAL ASSETS $3,293.8$3,277.4 $2,914.0 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY LIABILITIES Current Liabilities Accounts Payable $ 380.0378.3 $ 269.1 Accrued Taxes, Interest and Dividends 50.748.2 52.3 Notes Payable 201.1180.8 274.2 Long-Term Debt Due Within One Year 12.312.1 15.8 Other 95.498.1 95.6 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- Total Current Liabilities 739.5717.5 707.0 Long-Term Debt 1,068.81,066.1 952.3 Accumulated Deferred Income Taxes 129.1123.6 125.1 Other Liabilities 171.0170.0 153.8 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- Total Liabilities 2,108.42,077.2 1,938.2 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- Company Obligated Mandatorily Redeemable Preferred Securities of Subsidiary ALLETE Capital I Which Holds Solely Company Junior Subordinated Debentures 75.0 75.0 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- STOCKHOLDERS' EQUITY Common Stock Without Par Value, 130.0 Shares Authorized 82.683.2 and 74.7 Shares Outstanding 743.6756.1 576.9 Unearned ESOP Shares (54.0)(53.1) (55.7) Accumulated Other Comprehensive Loss (0.4)(16.0) (4.2) Retained Earnings 421.2438.2 383.8 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- Total Stockholders' Equity 1,110.41,125.2 900.8 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $3,293.8$3,277.4 $2,914.0 - -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- The accompanying notes are an integral part of these statements.
ALLETE SecondThird Quarter 2001 Form 10-Q 4
ALLETE CONSOLIDATED STATEMENT OF INCOME Millions Except Per Share Amounts - Unaudited QUARTER ENDED SIXNINE MONTHS ENDED JUNESEPTEMBER 30, JUNESEPTEMBER 30, 2001 2000 2001 2000 - ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- OPERATING REVENUE Energy Services $147.9 $138.9 $307.3 $280.5$168.0 $ 146.1 $ 475.3 $426.6 Automotive Services 220.8 129.7 431.9 249.2212.5 137.4 644.4 386.6 Water Services 31.4 31.7 60.9 59.731.0 30.2 91.9 89.9 Investments 42.9 26.7 55.9 60.2 - ---------------------------------------------------------------------------------------------------------------------8.7 9.8 64.6 70.0 ------------------------------------------------------------------------------------------------------------------- Total Operating Revenue 443.0 327.0 856.0 649.6 - ---------------------------------------------------------------------------------------------------------------------420.2 323.5 1,276.2 973.1 ------------------------------------------------------------------------------------------------------------------- OPERATING EXPENSES Fuel and Purchased Power 56.8 53.5 119.2 106.660.2 60.1 179.4 166.7 Operations 292.6 201.2 565.2 402.4280.3 198.3 845.5 600.7 Interest Expense 21.4 15.2 43.4 31.5 - ---------------------------------------------------------------------------------------------------------------------22.3 15.7 65.7 47.2 ------------------------------------------------------------------------------------------------------------------- Total Operating Expenses 370.8 269.9 727.8 540.5 - ---------------------------------------------------------------------------------------------------------------------362.8 274.1 1,090.6 814.6 ------------------------------------------------------------------------------------------------------------------- OPERATING INCOME BEFORE ACE 72.2 57.1 128.2 109.157.4 49.4 185.6 158.5 INCOME FROM DISPOSITION OF INVESTMENT IN ACE - 48.0- - 48.0 - ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- OPERATING INCOME 72.2 105.1 128.2 157.157.4 49.4 185.6 206.5 DISTRIBUTIONS ON REDEEMABLE PREFERRED SECURITIES OF ALLETE CAPITAL I 1.5 1.5 3.0 3.04.5 4.5 INCOME TAX EXPENSE 28.2 39.4 49.8 59.5 - ---------------------------------------------------------------------------------------------------------------------18.1 12.9 67.9 72.4 ------------------------------------------------------------------------------------------------------------------- NET INCOME $ 42.537.8 $ 64.235.0 $ 75.4 $ 94.6 - ---------------------------------------------------------------------------------------------------------------------113.2 $129.6 ------------------------------------------------------------------------------------------------------------------- AVERAGE SHARES OF COMMON STOCK Basic 73.479.0 70.0 74.6 69.6 72.4 69.4 Diluted 74.0 69.9 73.0 69.5 - ---------------------------------------------------------------------------------------------------------------------79.8 70.4 75.3 69.8 ------------------------------------------------------------------------------------------------------------------- EARNINGS PER SHARE OF COMMON STOCK Basic $0.58 $0.92 $1.04 $1.35$0.48 $0.50 $1.52 $1.85 Diluted $0.57 $0.92 $1.03 $1.35 - ---------------------------------------------------------------------------------------------------------------------$0.47 $0.50 $1.50 $1.84 ------------------------------------------------------------------------------------------------------------------- DIVIDENDS PER SHARE OF COMMON STOCK $0.2675 $0.2675 $0.535 $0.535 - ---------------------------------------------------------------------------------------------------------------------$0.8025 $0.8025 ------------------------------------------------------------------------------------------------------------------- The accompanying notes are an integral part of this statement.these statements.
5 ALLETE SecondThird Quarter 2001 Form 10-Q
ALLETE CONSOLIDATED STATEMENT OF CASH FLOWS Millions - Unaudited SIX NINE MONTHS ENDED JUNESEPTEMBER 30, 2001 2000 - ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- OPERATING ACTIVITIES Net Income $ 75.4113.2 $ 94.6129.6 Gain from Disposition of Investment in ACE - (48.0) Depreciation and Amortization 50.9 41.476.6 63.2 Deferred Income Taxes 5.8 (12.8)4.3 (16.3) Changes In Operating Assets and Liabilities Trading Securities (68.8) 81.5(75.1) 75.4 Accounts Receivable (133.3) (89.5)(190.2) (89.9) Inventories (3.3) (2.3)(4.5) (4.2) Accounts Payable 110.9 153.6109.2 143.4 Other Current Assets and Liabilities (37.9) (28.3)(16.1) (58.5) Other - Net 16.4 14.0 - ---------------------------------------------------------------------------------------------------------------------21.0 18.3 -------------------------------------------------------------------------------------------------------------------- Cash From Operating Activities 16.1 204.2 - ---------------------------------------------------------------------------------------------------------------------38.4 213.0 -------------------------------------------------------------------------------------------------------------------- INVESTING ACTIVITIES Proceeds from Sale of Investments 2.6 144.6 Additions to Investments (9.6) (27.6)(10.8) (37.4) Additions to Property, Plant and Equipment (78.3) (56.5)(108.4) (94.0) Acquisitions - Net of Cash Acquired (56.4) (181.0)(71.5) (189.4) Other - Net 16.3 9.0 - ---------------------------------------------------------------------------------------------------------------------13.3 10.7 -------------------------------------------------------------------------------------------------------------------- Cash For Investing Activities (125.4) (111.5) - ---------------------------------------------------------------------------------------------------------------------(174.8) (165.5) -------------------------------------------------------------------------------------------------------------------- FINANCING ACTIVITIES Issuance of Common Stock 164.3 13.1175.3 18.4 Issuance of Long-Term Debt 126.1 48.8125.0 51.6 Changes in Notes Payable - Net (73.1) 30.2(93.4) 111.2 Reductions of Long-Term Debt (13.1) (41.4)(14.9) (53.8) Redemption of Preferred Stock - (10.0)(31.5) Dividends on Preferred and Common Stock (38.0) (37.7) - ---------------------------------------------------------------------------------------------------------------------(58.8) (56.2) -------------------------------------------------------------------------------------------------------------------- Cash From Financing Activities 166.2 3.0 - ---------------------------------------------------------------------------------------------------------------------133.2 39.7 -------------------------------------------------------------------------------------------------------------------- EFFECT OF EXCHANGE RATE CHANGES ON CASH (1.6) (3.5) - ---------------------------------------------------------------------------------------------------------------------(9.3) (6.0) -------------------------------------------------------------------------------------------------------------------- CHANGE IN CASH AND CASH EQUIVALENTS 55.3 92.2(12.5) 81.2 CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 219.3 101.5 - ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $274.6 $193.7 - ---------------------------------------------------------------------------------------------------------------------$ 206.8 $ 182.7 -------------------------------------------------------------------------------------------------------------------- SUPPLEMENTAL CASH FLOW INFORMATION Cash Paid During the Period For Interest - Net of Capitalized $41.7 $30.8$67.5 $44.7 Income Taxes $33.1 $54.6 - ---------------------------------------------------------------------------------------------------------------------$49.3 $83.0 -------------------------------------------------------------------------------------------------------------------- The accompanying notes are an integral part of this statement.these statements.
ALLETE SecondThird Quarter 2001 Form 10-Q 6 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The accompanying unaudited consolidated financial statements and notes should be read in conjunction with our 2000 Form 10-K. In our opinion all adjustments necessary for a fair statement of the results for the interim periods have been included. The results of operations for an interim period may not give a true indication of results for the year. NOTE 1. BUSINESS SEGMENTS Millions
Energy Automotive Water Corporate Consolidated Services Services Services Investments Charges - ------------------------------------------------------------------------------------------------------------------ For the Quarter Ended - --------------------- June 30, 2001 - ---------------------------------------------------------------------------------------------------------------------------------- FOR THE QUARTER ENDED SEPTEMBER 30, 2001 Operating Revenue $443.0 $147.9 $220.8$420.2 $168.0 $212.5 $31.4 $42.9$31.0 $8.7 - Operation and Other Expense 315.5 114.2 160.4 18.4 14.2306.2 122.0 156.5 17.6 5.4 $ 8.34.7 Depreciation and Amortization Expense 25.525.7 11.4 10.110.5 3.8 0.1 0.1- - Lease Expense 8.4 0.8 7.1 0.58.6 0.7 7.0 0.9 - - Interest Expense 21.4 5.3 10.022.3 5.0 8.7 2.6 - 3.5 - ------------------------------------------------------------------------------------------------------------------6.0 --------------------------------------------------------------------------------------------------------------------- Operating Income (Loss) 72.2 16.2 33.257.4 28.9 29.8 6.1 28.6 (11.9)3.3 (10.7) Distributions on Redeemable Preferred Securities of Subsidiary 1.5 0.6 - - - 0.9 Income Tax Expense (Benefit) 28.2 6.1 13.1 2.4 11.3 (4.7) - ------------------------------------------------------------------------------------------------------------------18.1 11.1 9.7 2.3 1.3 (6.3) --------------------------------------------------------------------------------------------------------------------- Net Income (Loss) $ 42.537.8 $ 9.517.2 $ 20.1 $ 3.7 $17.3 $(8.1) - ------------------------------------------------------------------------------------------------------------------3.8 $2.0 $(5.3) --------------------------------------------------------------------------------------------------------------------- EBITDAL $127.5 $33.7 $60.4 $13.0 $28.7 $(8.3) - ------------------------------------------------------------------------------------------------------------------ For the Quarter Ended - --------------------- June$114.0 $46.0 $56.0 $13.4 $3.3 $(4.7) --------------------------------------------------------------------------------------------------------------------- FOR THE QUARTER ENDED SEPTEMBER 30, 2000 - ------------- Operating Revenue $327.0 $138.9 $129.7$323.5 $146.1 $137.4 $31.7 $26.7$30.2 $9.8 - Operation and Other Expense 227.2 105.4 90.1 18.3 10.1229.4 109.7 94.3 17.2 4.0 $ 3.34.2 Depreciation and Amortization Expense 21.1 11.6 5.7 3.7 -21.8 11.3 6.8 3.5 0.1 0.1 Lease Expense 6.4 0.8 5.1 0.57.2 0.6 6.0 0.6 - - Interest Expense 15.7 5.2 5.4 2.7 - 2.4 --------------------------------------------------------------------------------------------------------------------- Operating Income (Loss) 49.4 19.3 24.9 6.2 5.7 (6.7) Distributions on Redeemable Preferred Securities of Subsidiary 1.5 0.6 - - - 0.9 Income Tax Expense (Benefit) 12.9 7.3 9.5 2.4 0.7 (7.0) --------------------------------------------------------------------------------------------------------------------- Net Income (Loss) $ 35.0 $ 11.4 $ 15.4 $ 3.8 $5.0 $(0.6) --------------------------------------------------------------------------------------------------------------------- EBITDAL $94.1 $36.4 $43.1 $13.0 $5.8 $(4.2) --------------------------------------------------------------------------------------------------------------------- Included $38.0 million of Canadian operating revenue in 2001 ($33.9 million in 2000).
7 ALLETE Third Quarter 2001 Form 10-Q NOTE 1. BUSINESS SEGMENTS CONTINUED Millions
Energy Automotive Water Corporate Consolidated Services Services Services Investments Charges --------------------------------------------------------------------------------------------------------------------- FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001 Operating Revenue $1,276.2 $475.3 $644.4 $91.9 $64.6 - Operation and Other Expense 923.3 358.2 470.2 53.5 23.9 $ 17.5 Depreciation and Amortization Expense 76.6 34.4 30.6 11.3 0.1 0.2 Lease Expense 25.0 2.1 20.9 2.0 - - Interest Expense 65.7 15.2 5.3 3.8 2.529.3 7.9 - 3.613.3 --------------------------------------------------------------------------------------------------------------------- Operating Income (Loss) 185.6 65.4 93.4 17.2 40.6 (31.0) Distributions on Redeemable Preferred Securities of Subsidiary 4.5 1.8 - ------------------------------------------------------------------------------------------------------------------- - 2.7 Income Tax Expense (Benefit) 67.9 25.0 35.5 6.6 15.8 (15.0) --------------------------------------------------------------------------------------------------------------------- Net Income (Loss) $ 113.2 $ 38.6 $ 57.9 $10.6 $24.8 $(18.7) --------------------------------------------------------------------------------------------------------------------- EBITDAL $352.9 $117.1 $174.2 $38.4 $40.7 $(17.5) Total Assets $3,277.4 $992.9 $1,631.3 $350.0 $303.0 $0.2 Property, Plant and Equipment $1,536.5 $799.0 $459.4 $278.1 - - Accumulated Depreciation and Amortization $1,044.8 $694.9 $120.8 $226.8 $2.3 - Capital Expenditures $108.4 $43.0 $43.0 $22.4 - - --------------------------------------------------------------------------------------------------------------------- FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 Operating Revenue $973.1 $426.6 $386.6 $89.9 $70.0 - Operation and Other Expense 684.6 321.4 269.5 52.8 29.0 $ 11.9 Depreciation and Amortization Expense 63.2 34.4 17.3 11.0 0.2 0.3 Lease Expense 19.6 2.1 16.0 1.5 - - Interest Expense 47.2 15.7 13.1 7.8 - 10.6 --------------------------------------------------------------------------------------------------------------------- Operating Income (Loss) Before ACE 57.1 15.8 25.0 6.7 16.6 (7.0)158.5 53.0 70.7 16.8 40.8 (22.8) Income from Disposition of ACE 48.0 - - - 48.0 - - --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- Operating Income (Loss) 105.1 15.8 25.0 6.7 64.6 (7.0)206.5 53.0 70.7 16.8 88.8 (22.8) Distributions on Redeemable Preferred Securities of Subsidiary 4.5 1.5 0.5 - - - 1.03.0 Income Tax Expense (Benefit) 39.4 6.0 10.3 2.6 24.0 (3.5) - ------------------------------------------------------------------------------------------------------------------72.4 20.1 28.7 6.5 31.7 (14.6) --------------------------------------------------------------------------------------------------------------------- Net Income (Loss) $129.6 $ 64.231.4 $ 9.3 $ 14.7 $ 4.1 $40.6 $(4.5)42.0 $10.3 $57.1 $(11.2) --------------------------------------------------------------------------------------------------------------------- EBITDAL $288.5 $105.2 $117.1 $37.1 $41.0 $(11.9) Total Assets $2,596.4 $879.7 $1,101.5 $325.0 $289.8 $0.4 Property, Plant and Equipment $1,327.3 $773.7 $291.3 $262.3 - ------------------------------------------------------------------------------------------------------------------ EBITDAL $99.8 $33.5 $39.6 $13.4 $16.6 $(3.3) - ------------------------------------------------------------------------------------------------------------------Accumulated Depreciation and Amortization $948.9 $660.3 $78.3 $208.3 $2.0 - Capital Expenditures $94.0 $34.9 $40.3 $18.8 - - --------------------------------------------------------------------------------------------------------------------- Included $38.2$111.0 million of Canadian operating revenue in 2001 ($26.2 million in 2000).
7 ALLETE Second Quarter 2001 Form 10-Q NOTE 1. BUSINESS SEGMENTS CONTINUED Millions
Energy Automotive Water Corporate Consolidated Services Services Services Investments Charges - -------------------------------------------------------------------------------------------------------------------- For the Six Months Ended - ------------------------ June 30, 2001 - ------------- Operating Revenue $856.0 $307.3 $431.9 $60.9 $55.9 - Operation and Other Expense 617.1 236.2 313.7 35.9 18.5 $ 12.8 Depreciation and Amortization Expense 50.9 23.0 20.1 7.5 0.1 0.2 Lease Expense 16.4 1.4 13.9 1.1 - - Interest Expense 43.4 10.2 20.6 5.3 - 7.3 - -------------------------------------------------------------------------------------------------------------------- Operating Income (Loss) 128.2 36.5 63.6 11.1 37.3 (20.3) Distributions on Redeemable Preferred Securities of Subsidiary 3.0 1.2 - - - 1.8 Income Tax Expense (Benefit) 49.8 13.9 25.8 4.3 14.5 (8.7) - -------------------------------------------------------------------------------------------------------------------- Net Income (Loss) $ 75.4 $ 21.4 $ 37.8 $ 6.8 $22.8 $(13.4) - -------------------------------------------------------------------------------------------------------------------- EBITDAL $238.9 $71.1 $118.2 $25.0 $37.4 $(12.8) Total Assets $3,293.8 $1,027.7 $1,623.2 $345.4 $297.3 $0.2 Property, Plant and Equipment $1,528.3 $796.6 $453.0 $278.7 - - Accumulated Depreciation and Amortization $1,019.0 $682.9 $111.3 $222.5 $2.3 - Capital Expenditures $78.3 $29.3 $33.9 $15.1 - - - -------------------------------------------------------------------------------------------------------------------- For the Six Months Ended - ------------------------ June 30, 2000 - ------------- Operating Revenue $649.6 $280.5 $249.2 $59.7 $60.2 - Operation and Other Expense 455.2 211.7 175.2 35.6 25.0 $ 7.7 Depreciation and Amortization Expense 41.4 23.1 10.5 7.5 0.1 0.2 Lease Expense 12.4 1.5 10.0 0.9 - - Interest Expense 31.5 10.5 7.7 5.1 - 8.2 - -------------------------------------------------------------------------------------------------------------------- Operating Income (Loss) Before ACE 109.1 33.7 45.8 10.6 35.1 (16.1) Income from Disposition of ACE 48.0 - - - 48.0 - - -------------------------------------------------------------------------------------------------------------------- Operating Income (Loss) 157.1 33.7 45.8 10.6 83.1 (16.1) Distributions on Redeemable Preferred Securities of Subsidiary 3.0 0.9 - - - 2.1 Income Tax Expense (Benefit) 59.5 12.8 19.2 4.1 31.0 (7.6) - -------------------------------------------------------------------------------------------------------------------- Net Income (Loss) $ 94.6 $ 20.0 $ 26.6 $ 6.5 $52.1 $(10.6) - -------------------------------------------------------------------------------------------------------------------- EBITDAL $194.4 $68.8 $74.0 $24.1 $35.2 $(7.7) Total Assets $2,560.2 $889.4 $1,073.8 $324.4 $272.1 $0.5 Property, Plant and Equipment $1,311.5 $769.4 $279.5 $262.6 - - Accumulated Depreciation and Amortization $1,018.0 $650.7 $162.5 $202.8 $2.0 - Capital Expenditures $56.5 $20.4 $24.5 $11.6 - - - -------------------------------------------------------------------------------------------------------------------- Included $73.0 million of Canadian operating revenue in 2001 ($44.377.2 million in 2000). Included $310.4$203.6 million of Canadian assets in 2001 ($227.9184.2 million in 2000).
ALLETE SecondThird Quarter 2001 Form 10-Q 8 NOTE 2. ACQUISITIONS AND DIVESTITURES ADESA AUCTION FACILITIES. On January 18, 2001 we acquired all of the outstanding stock of ComSearch in exchange for ALLETE common stock and paid cash to purchase all of the assets of APCAuto Placement Center (now ADESA Impact) in transactions with an aggregate value of $62.4 million. APCADESA Impact was accounted for using the purchase method. APCADESA Impact financial results have been included in our consolidated financial statements since the date of purchase. Pro forma financial results have not been presented due to immateriality. ComSearch was accounted for as a pooling of interests with financial results included in our consolidated financial statements since January 1,18, 2001. Pro formaConsolidated financial results for prior periods have not been presentedrestated due to immateriality. APCADESA Impact is a provider of "total loss" vehicle recovery services with ten12 auction facilities in the United States. ComSearch provides Internet-based parts location and insurance adjustment audit services nationwide. On May 1, 2001 ADESA purchased the assets of the I-44 Auto Auction in Tulsa, Oklahoma. The transaction was accounted for using the purchase method. Financial results have been included in our consolidated financial statements since the date of purchase. Pro forma financial results have not been presented due to immateriality. The I-44 Auto Auction, which is located on 75 acres, was renamed ADESA Tulsa and offers six auction lanes, storage for over 3,000 vehicles and a five-bay reconditioning and detail facility. DICKS CREEK. In February 2001 ALLETE Water Services completedfinalized the December 2000 purchase of the assets of Dicks Creek, a wastewater utility located near Atlanta, Georgia, for $6.6 million plus a commitment to pay the seller a fee for residential connections. The commitment requires the payment of a minimum of $400,000 annually beginning December 31, 2001 for four years or until cumulative payments reach $2 million, whichever occurs first. The transaction was accounted for using the purchase method. Financial results have been included in our consolidated financial statements since February 2001. Pro forma financial results have not been presented due to immateriality. ENVENTIS. On July 31, 2001 we acquired Enventis, a data network systems provider headquartered in the Minneapolis-St. Paul area. In connection with this acquisition, we issued 310,878 shares of our common stock. Enventis was accounted for as a pooling of interests with financial results included in our consolidated financial statements since July 31, 2001. Consolidated financial results for prior periods have not been restated due to immateriality. DISPOSAL OF WATER PLANT ASSETS. Effective August 24, 2001 the City of New Smyrna Beach (City) assumed control of the water and wastewater facilities in the Sugar Mill Country Club service area following a successful condemnation action filed with the Circuit Court for Volusia County, Florida (Circuit Court). The facilities serve approximately 600 customers. In October 2001 a $2.9 million deposit was disbursed to Florida Water in accordance with a Circuit Court order. Settlement negotiations to determine the final purchase price are currently underway between Florida Water and the City. NOTE 3. INVESTMENT IN ACE In May 2000 we recorded a $30.4 million, or $0.44 per share, after-tax gain on the sale of the 4.7 million shares of ACE that we received in December 1999 when Capital Re merged with ACE. At the time of the merger we owned 7.3 million shares, or 20 percent, of Capital Re. NOTE 4. LONG-TERM DEBT On February 21, 2001 ALLETE issued $125 million of 7.80% Senior Notes, due February 15, 2008. Proceeds were used to repay a portion of ALLETE's short-term borrowings incurred for the acquisition of vehicle auction facilities purchased in 2000 and early 2001, and for general corporate purposes. 9 ALLETE Third Quarter 2001 Form 10-Q NOTE 5. COMMON STOCK During the quarter ended June 30, 2001, we issued and sold 6.6 million shares of common stock at $23.68 per share in an underwritten public offering. Net proceeds of $150 million were used to repay a portion of our short-term borrowings with the remainderand invested in short-term instruments.our securities portfolio. NOTE 6. INCOME TAX EXPENSE
QUARTER ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, 2001 2000 2001 2000 -------------------------------------------------------------------------------------------------------------------- Millions Current Tax Expense Federal $16.0 $15.1 $54.2 $ 77.8 Foreign 1.0 0.7 2.2 1.8 State 2.6 0.6 7.2 9.1 -------------------------------------------------------------------------------------------------------------------- 19.6 16.4 63.6 88.7 -------------------------------------------------------------------------------------------------------------------- Deferred Tax Expense (Benefit) Federal (1.5) (2.2) 3.6 (12.8) Foreign (0.1) (0.2) (0.5) (0.5) State 0.6 (0.5) 2.3 (1.8) -------------------------------------------------------------------------------------------------------------------- (1.0) (2.9) 5.4 (15.1) -------------------------------------------------------------------------------------------------------------------- Deferred Tax Credits (0.5) (0.6) (1.1) (1.2) -------------------------------------------------------------------------------------------------------------------- Total Income Tax Expense $18.1 $12.9 $67.9 $ 72.4 --------------------------------------------------------------------------------------------------------------------
NOTE 7. EARNINGS PER SHARE The difference between basic and diluted earnings per share arises from outstanding stock options and performance share awards granted under our Executive and Director Long-Term Incentive Compensation Plans. RECONCILIATION OF BASIC AND DILUTED EARNINGS PER SHARE ---------------------------------------------------------------------------------------------------------------------- Millions Except Per Share Amounts
QUARTER ENDED NINE MONTHS ENDED SEPTEMBER 30, 2001 SEPTEMBER 30, 2001 ----------------------------- ---------------------------------- Basic Dilutive Diluted Basic Dilutive Diluted EPS Securities EPS EPS Securities EPS ---------------------------------------------------------------------------------------------------------------------- Net Income $37.8 - $37.8 $113.2 - $113.2 Common Shares 79.0 0.8 79.8 74.6 0.7 75.3 ---------------------------------------------------------------------------------------------------------------------- Per Share $0.48 - $0.47 $1.52 - $1.50 ---------------------------------------------------------------------------------------------------------------------- NINE MONTHS ENDED SEPTEMBER 30, 2000 ---------------------------------- Basic Dilutive Diluted EPS Securities EPS ---------------------------------------------------------------------------------------------------------------------- Net Income $129.6 - $129.6 Less: Dividends on Preferred Stock 0.9 - 0.9 ---------------------------------------------------------------------------------------------------------------------- $128.7 - $128.7 Common Shares 69.6 0.2 69.8 ---------------------------------------------------------------------------------------------------------------------- Per Share $1.85 - $1.84 ----------------------------------------------------------------------------------------------------------------------
We paid dividends on preferred stock of $0.1 million for the quarter ended September 30, 2000. There was no difference between basic and diluted earnings per share for the quarter ended September 30, 2000. ALLETE Third Quarter 2001 Form 10-Q 10 NOTE 8. TOTAL COMPREHENSIVE INCOME For the quarter ended JuneSeptember 30, 2001 total comprehensive income was $52.8$22.2 million ($42.731.8 million for the quarter ended JuneSeptember 30, 2000). For the sixnine months ended JuneSeptember 30, 2001 total comprehensive income was $79.2$101.4 million ($91.7123.5 million for the sixnine months ended JuneSeptember 30, 2000). Total comprehensive income includes net income, unrealized gains and losses on securities classified as available-for-sale, changes in the fair value of an interest rate swap and foreign currency translation adjustments. 9 ALLETE Second Quarter 2001 Form 10-Q NOTE 7. INCOME TAX EXPENSE
QUARTER ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, 2001 2000 2001 2000 - -------------------------------------------------------------------------------------------------------------------- Millions Current Tax Federal $18.4 $43.1 $38.2 $62.7 Foreign 0.4 0.6 1.2 1.1 State 2.2 5.2 4.6 8.5 - -------------------------------------------------------------------------------------------------------------------- 21.0 48.9 44.0 72.3 - -------------------------------------------------------------------------------------------------------------------- Deferred Tax Federal 6.3 (8.3) 5.1 (10.6) Foreign (0.2) (0.2) (0.4) (0.3) State 1.3 (0.8) 1.7 (1.3) - -------------------------------------------------------------------------------------------------------------------- 7.4 (9.3) 6.4 (12.2) - -------------------------------------------------------------------------------------------------------------------- Deferred Tax Credits (0.2) (0.2) (0.6) (0.6) - -------------------------------------------------------------------------------------------------------------------- Total Income Tax Expense $28.2 $39.4 $49.8 $59.5 - --------------------------------------------------------------------------------------------------------------------
NOTE 8. EARNINGS PER SHARE The difference between basic and diluted earnings per share arises from outstanding stock options and performance share awards granted under our Executive and Director Long-Term Incentive Compensation Plans.
RECONCILIATION OF BASIC AND DILUTED QUARTER ENDED SIX MONTHS ENDED EARNINGS PER SHARE JUNE 30, 2001 JUNE 30, 2001 - -------------------------------------------------------------------------------------------------------------------- Millions Except Per Share Amounts Basic Dilutive Diluted Basic Dilutive Diluted EPS Securities EPS EPS Securities EPS ------------------------------ ------------------------------- Net Income $42.5 - $42.5 $75.4 - $75.4 Common Shares 73.4 0.6 74.0 72.4 0.6 73.0 Per Share $0.58 - $0.57 $1.04 - $1.03 - --------------------------------------------------------------------------------------------------------------------
There was no difference between basic and diluted earnings per share for the quarter and six months ended June 30, 2000. NOTE 9. NEW ACCOUNTING STANDARD In July 2001 the FASB issued SFAS 142, "Goodwill and Other Intangible Assets." SFAS 142 changes the accounting for goodwill from an amortization method to an impairment-only approach. Amortization of goodwill including goodwill recorded in past business combinations, will cease for fiscal years beginning after December 15, 2001.January 1, 2002, the date we expect to adopt this standard. We have $537$536 million of goodwill as of JuneSeptember 30, 2001 and after-tax goodwill amortization expense of approximately $5.5$8 million for the first sixnine months ofended September 30, 2001. Annual after-tax goodwill amortization expense is expected to be approximately $11 million in 2001. We do not believe we have any goodwill impairment at this time. ALLETE Second Quarter 2001 Form 10-Q 10 NOTE 10. SQUARE BUTTE PURCHASED POWER PURCHASE CONTRACT Minnesota Power, our electric utility business, has a power purchase agreement with Square Butte that extends through 2026 (Agreement). It provides a long-term supply of low-cost energy to customers in our electric service territory and enables Minnesota Power to meet power pool reserve requirements. Square Butte, a North Dakota cooperative corporation, owns a 455-megawatt coal-fired generating unit (Unit) near Center, North Dakota. The Unit is adjacent to a generating unit owned by Minnkota Power Cooperative, Inc. (Minnkota), a North Dakota cooperative corporation whose Class A members are also members of Square Butte. Minnkota serves as the operator of the Unit and also purchases power from Square Butte. Minnesota Power is entitled to approximately 71 percent of the Unit's output under the Agreement. After 2005 and upon compliance with a two-year advance notice requirement, Minnkota has the option to reduce Minnesota Power's entitlement by 5 percent annually, to a minimum of 50 percent. Minnesota Power is obligated to pay its pro rata share of Square Butte's costs based on Minnesota Power's entitlement to Unit output. Minnesota Power's payment obligation is suspended if Square Butte fails to deliver any power, whether produced or purchased, for a period of one year. Square Butte's fixed costs consist primarily of debt service. At JuneSeptember 30, 2001 Square Butte had total debt outstanding of $314.9$314.6 million. Total annual debt service for Square Butte is expected to be approximately $36 million in each of the years 2001 through 2003 and $23 million in both 2004 and 2005. Variable operating costs include the price of coal purchased from BNI Coal, Ltd., our subsidiary, under a long-term contract. Minnesota Power's payments to Square Butte are approved as purchased power expense for ratemaking purposes by both the MPUC and FERC. NOTE 11. SUBSEQUENT EVENT In October 2001 we executed an asset purchase agreement with LTV and Cleveland-Cliffs to acquire certain non-mining properties from LTV for $75 million. The non-mining properties include LTV's 225 MW electric generating facility and existing coal pile at Taconite Harbor, a sixty-mile transmission line, railroad trackage rights, and approximately 30,000 acres of forest and recreation land in northeast Minnesota. The transaction is expected to close during the fourth quarter. 11 ALLETE SecondThird Quarter 2001 Form 10-Q ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ALLETE is a multi-services company withhas operations in four business segments: (1) ENERGY SERVICES, which include electric and gas services, coal mining and telecommunications; (2) AUTOMOTIVE SERVICES, which include a network of vehicle auctions, an automobile dealer finance company, and several subsidiaries that are integral parts of the vehicle redistribution business; (3) WATER SERVICES, which include water and wastewater services; and (4) INVESTMENTS, which include real estate operations, investments in emerging technologies related to the electric utility industry and a securities portfolio. Corporate charges represent general corporate expenses, including interest, not specifically related to any one business segment. CONSOLIDATED OVERVIEW Each of our operating segments producedcontinued to produce solid financial results during the first sixnine months of 2001, reflecting the success of ALLETE's growth initiatives. ExcludingThe terrorist attacks of September 11, 2001 and their aftermath have negatively impacted quarterly results for Automotive Services and our securities portfolio. However, performance from Energy Services and our real estate operations remained strong. For the quarter ended September 30, 2001 net income increased 8 percent over the same period in 2000. Earnings per share for the quarter ended September 30, 2001 decreased 6 percent compared to the same period in 2000. For the nine months ended September 30, 2001, excluding the ACE transaction (see net income discussion below), net income and earnings per share for the quarter ended June 30, 2001 increased 26 percent and 19 percent, respectively, over the same period in 2000. For the six months ended June 30, 2001, excluding the ACE transaction, net income was up 1714 percent and earnings per share were up 137 percent over the same period in 2000. The 2001 earnings per share calculation was impacted by the second quarter common stock issuance.
QUARTER ENDED SIXNINE MONTHS ENDED JUNESEPTEMBER 30, JUNESEPTEMBER 30, 2001 2000 2001 2000 - --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- Millions Except Per Share Amounts OPERATING REVENUE Energy Services $147.9 $138.9 $307.3 $280.5$168.0 $146.1 $ 475.3 $426.6 Automotive Services 220.8 129.7 431.9 249.2212.5 137.4 644.4 386.6 Water Services 31.4 31.7 60.9 59.731.0 30.2 91.9 89.9 Investments 42.9 26.7 55.9 60.2 - ------------------------------------------------------------------------------------------------------------------ $443.0 $327.0 $856.0 $649.6 - ------------------------------------------------------------------------------------------------------------------8.7 9.8 64.6 70.0 --------------------------------------------------------------------------------------------------------------------- $420.2 $323.5 $1,276.2 $973.1 --------------------------------------------------------------------------------------------------------------------- OPERATING EXPENSES Energy Services $131.7 $123.1 $270.8 $246.8$139.1 $126.8 $ 409.9 $373.6 Automotive Services 187.6 104.7 368.3 203.4182.7 112.5 551.0 315.9 Water Services 25.3 25.0 49.8 49.124.9 24.0 74.7 73.1 Investments 14.3 10.1 18.6 25.15.4 4.1 24.0 29.2 Corporate Charges 11.9 7.0 20.3 16.1 - ------------------------------------------------------------------------------------------------------------------ $370.8 $269.9 $727.8 $540.5 - ------------------------------------------------------------------------------------------------------------------10.7 6.7 31.0 22.8 --------------------------------------------------------------------------------------------------------------------- $362.8 $274.1 $1,090.6 $814.6 --------------------------------------------------------------------------------------------------------------------- NET INCOME Energy Services $17.2 $ 9.511.4 $ 9.3 $21.4 $20.038.6 $ 31.4 Automotive Services 20.1 14.7 37.8 26.615.4 57.9 42.0 Water Services 3.7 4.1 6.8 6.53.8 3.8 10.6 10.3 Investments 17.3 10.2 22.8 21.72.0 5.0 24.8 26.7 Corporate Charges (8.1) (4.5) (13.4) (10.6) - ------------------------------------------------------------------------------------------------------------------ 42.5 33.8 75.4 64.2(5.3) (0.6) (18.7) (11.2) --------------------------------------------------------------------------------------------------------------------- 37.8 35.0 113.2 99.2 ACE Transaction - 30.4- - 30.4 - ------------------------------------------------------------------------------------------------------------------ $42.5 $64.2 $75.4 $94.6 - --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- $37.8 $ 35.0 $113.2 $129.6 --------------------------------------------------------------------------------------------------------------------- DILUTED AVERAGE SHARES OF COMMON STOCK 74.0 69.9 73.0 69.5 - ------------------------------------------------------------------------------------------------------------------79.8 70.4 75.3 69.8 --------------------------------------------------------------------------------------------------------------------- DILUTED EARNINGS PER SHARE OF COMMON STOCK Before ACE Transaction $0.57 $0.48 $1.03 $0.91$0.47 $0.50 $1.50 $1.40 ACE Transaction - 0.44- - 0.44 - ------------------------------------------------------------------------------------------------------------------ $0.57 $0.92 $1.03 $1.35 - --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- $0.47 $0.50 $1.50 $1.84 --------------------------------------------------------------------------------------------------------------------- Including the $30.4 million gain associated with the ACE transaction, net income from Investments was $40.6$57.1 million for the quarter ended June 30, 2000 and $52.1 million for the sixnine months ended JuneSeptember 30, 2000. (See Note 3.)
ALLETE SecondThird Quarter 2001 Form 10-Q 12 NET INCOME The following net income discussion summarizes significant events for the sixnine months ended JuneSeptember 30, 2001. ENERGY SERVICES' net income was higher in 2001 reflectedreflecting more profitable wholesale marketing and trading activities because ofdue to warmer weather, additional power available to sell from a recent 240 MW power purchase agreement and overall market conditions,conditions. Net income also reflected partial recovery of 1998 CIP lost margins, decreased sales to industrial customers and additional costs incurred as a result of a severe ice storm.storm and planned maintenance outages. AUTOMOTIVE SERVICES reported a 4238 percent increase in net income in 2001 due to significant acquisitions made in 2000 and early 2001 and increased financing activity at AFC's loan production offices. EBITDAL for ADESA's 28 same-store auction facilities was up 79 percent for the sixnine months ended JuneSeptember 30, 2001 (13 percent for the quarter ended JuneSeptember 30, 2001). Increased costs and reduced sales volumes because of inclement weather in early 2001 hampered financial results.results, as did the events of September 11. For the third quarter of 2001 we estimated that the impact of the events of September 11 resulted in a $3.5 million decrease to net income. A drop in conversion rates, the percentage of vehicles sold from those that were run through auction lanes, was primarily due to a decline in dealer attendance caused by the disruption in air travel and wholesale prices that were further depressed following the events of September 11. Sellers have been reluctant to accept lower wholesale prices. The conversion rate was 58 percent for the quarter ended September 30, 2001 (60 percent for the same period in 2000) and 61 percent for the nine months ended September 30, 2001 (62 percent for the same period in 2000). Costs of assimilating the 28 vehicle auction facilities acquired or opened in 2000 also impacted 2001 results. WATER SERVICES' net income was slightly higher in 2001 reflecting customer growth, gains related to the disposal of certain assets and an October 2000 rate increase implemented by Heater, cost control efforts and the release of escrow proceeds received from the sale of assets to Orange County, Florida in 1997.Heater. Above-average rainfall in Florida and North Carolina during the second quarterand third quarters, and conservation efforts in Florida negatively impacted net income in 2001. INVESTMENTS reported higherlower net income in 2001 primarily due to increased saleslosses incurred by our real estate operations. In June 2001 our real estate operations closed its largest sale ever. The after-tax return on our securities portfolio was 10.02as a result of the economic fallout from the events of September 11. These losses were subsequently recovered in October 2001. For the nine months ended September 30, our securities portfolio earned an after-tax annualized return of 4.52 percent in 2001 (6.02(7.00 percent in 2000), however, we had on a lower average balance in 2001. During 2000 we reduced the size of our securities portfolio to partially fund significant acquisitions made by Automotive Services. Income from our emerging technology funds was also lower in 2001 as a result of fewer sales of these investments. Our real estate operations reported stronger sales in 2001, including its largest sale ever. CORPORATE CHARGES reflected increased interest expense and additional expenses for incentive compensation accruals.accruals and severance packages. In 2000 we reflected the reversal of previously recorded tax accruals related to various federal and state tax issues. ACE TRANSACTION. In May 2000 we recorded a $30.4 million, or $0.44 per share, after-tax gain on the sale of the 4.7 million shares of ACE that we received in December 1999 when Capital Re merged with ACE. 13 ALLETE Third Quarter 2001 Form 10-Q COMPARISON OF THE QUARTERS ENDED JUNESEPTEMBER 30, 2001 AND 2000 OPERATING REVENUE ENERGY SERVICES' operating revenue was up $9.0$21.9 million, or 615 percent, in 2001,2001. Wholesale power marketing and trading activities were higher due to warmer weather and additional power available to sell. Retail megawatthour sales were down 8 percent because of temporary shutdowns and reduced production by taconite customers. Operating revenue from retail sales, however, was up due to additional demand revenue from large power customers who converted a portion of their interruptible power to firm power and fuel clause recoveries for higher purchased power and gas prices,prices. Operating revenue also included $2.8 million of 1998 CIP lost margins and wholesale power marketingEnventis operations. Enventis was acquired in July 2001 and trading activities by Split Rock and Minnesota Power. Minnesota Power's retail megawatthour sales were down 3 percent becauseaccounted for as a pooling of temporary shutdowns and reduced production by taconite customers. Minnesota Power's wholesale megawatthour sales were lower because sales are now made by Split Rock and recorded in its financial statements. Split Rock, a joint venture between Minnesota Power and Great River Energy, combines power supply capabilities and customer loads to share market and supply risks and to optimize power trading opportunities. Our equity income from Split Rock was $2.9 million more in 2001.interests. Revenue from electric sales to taconite customers accounted for 9 percent of consolidated operating revenue in 2001 (13 percent in 2000). Electric sales to paper and pulp mills accounted for 4 percent of consolidated operating revenue in 2001 (5 percent in 2000). Sales to other power suppliers accounted for 48 percent of consolidated operating revenue in 2001 (6(7 percent in 2000). AUTOMOTIVE SERVICES' operating revenue was up $91.1$75.1 million, or 7055 percent, in 2001 primarily due to significant acquisitions made in 2000 and early 2001. At ADESA auction facilities 492,000463,000 vehicles were sold in 2001 (307,000(337,000 in 2000), an increase of 6037 percent. Financial results for 2001 included three months of operations from 289 auction facilities acquired or opened primarily in the second half of 2000 and results from acquisitions made in Januaryearly 2001. Sales volumes in 2001 were negatively impacted by the events of September 11 as dealer attendance and May 2001.already depressed wholesale prices both dropped suddenly during the last half of September. Operating revenue from AFC was higher in 13 ALLETE Second Quarter 2001 Form 10-Q 2001 reflecting a 1513 percent increase in vehicles financed through existing loan production offices. AFC financed approximately 232,000223,000 vehicles in 2001 (202,000(198,000 in 2000). AFC had 8782 loan production offices at JuneSeptember 30, 2001 (86 at JuneSeptember 30, 2000). WATER SERVICES' operating revenue was down $0.3up $0.8 million, or 13 percent, in 2001 due to gains from the disposal of certain assets, a 9 percent decrease in consumption primarily attributable to above-average rainfall in Florida and conservation efforts. The decrease was tempered by additional revenue from a 74 percent increase in customers and an October 2000 rate increase implemented by Heater. A 6 percent decrease in consumption was primarily attributable to above-average rainfall in Florida and North Carolina, and conservation efforts in Florida. Operating revenue in 2000 included regulatory relief granted by Florida's Hillsborough Board of County Commissioners. INVESTMENTS' operating revenue was up $16.2down $1.1 million, or 6111 percent, in 2001 primarily due to strongerbecause turbulence in the financial markets after the events of September 11 had a negative impact on our securities portfolio. This decrease was partially offset by two large sales byfrom our real estate operations. In 2001 two large real estate salesoperations which contributed $30.4$4.5 million to revenue, one which was real estate operations' largest single transaction to date. In 2000 four large real estate sales contributed $13.1 million tooperating revenue. Revenue from our securities portfolio was down slightly in 2001 due to a lower average balance. OPERATING EXPENSES ENERGY SERVICES' operating expenses were up $8.6$12.3 million, or 710 percent, in 2001 becauseprimarily due to the inclusion of higher prices paid for purchased power and purchased gas.Enventis operations. Operating expenses also increased in 2001 due to higher plant maintenance expenses and additional costs incurred as a result of a severe ice storm.expenses. AUTOMOTIVE SERVICES' operating expenses were up $82.9$70.2 million, or 7962 percent, in 2001 primarily due to significant acquisitions made in 2000 and early 2001. In addition to theExpenses in 2001 included increased direct costs associated with having more vehicleprocessing vehicles multiple times that did not sell as a result of the events of September 11 which caused low auction facilities in operation, expenses in 2001 included integrationattendance and further depressed wholesale prices. Integration costs, additional amortization of goodwill and higheradditional interest expense related to debt issued in late 2000 to finance these acquisitions.acquisitions also increased 2001 expenses. WATER SERVICES' operating expenses were up $0.3$0.9 million, or 14 percent, in 2001 due to customer growth and the inclusion of water and wastewater systems acquired in December 2000. INVESTMENTS' operating expenses were up $4.2$1.3 million, or 4232 percent, in 2001 as a result of higher sales by our real estate operations. ALLETE Third Quarter 2001 Form 10-Q 14 COMPARISON OF THE SIXNINE MONTHS ENDED JUNESEPTEMBER 30, 2001 AND 2000 OPERATING REVENUE ENERGY SERVICES' operating revenue was up $26.8$48.7 million, or 1011 percent, in 20012001. Wholesale power marketing and trading activities were higher due to warmer weather and additional power available to sell. Retail megawatthour sales were down 6 percent because of temporary shutdowns and reduced production by taconite customers. Operating revenue from retail sales, however, was up due to additional demand revenue from large power customers who converted a portion of their interruptible power to firm power and fuel clause recoveries for higher purchased power and gas prices,prices. Operating revenue also included $2.8 million of 1998 CIP lost margins and wholesale power marketing and trading activities. Minnesota Power's retail megawatthour sales were down 5 percent because of temporary shutdowns and reduced production by taconite customers. Minnesota Power's wholesale megawatthour sales were lower because sales are now made by Split Rock and recorded in its financial statements. Our equity income from Split Rock was $3.1 million more in 2001.Enventis operations. Revenue from electric sales to taconite customers accounted for 9 percent of consolidated operating revenue in 2001 (13 percent in 2000). Electric sales to paper and pulp mills accounted for 4 percent of consolidated operating revenue in 2001 (5 percent in 2000). Sales to other power suppliers accounted for 56 percent of consolidated operating revenue in both 2001 (6 percent in 2000).and 2000. AUTOMOTIVE SERVICES' operating revenue was up $182.7$257.8 million, or 7367 percent, in 2001 primarily due to significant acquisitions made in 2000 and early 2001. At ADESA auction facilities 993,0001,456,000 vehicles were sold in 2001 (602,000(940,000 in 2000), an increase of 6555 percent. Financial results for 2001 included sixnine months of operations from 28 auction facilities acquired or opened primarily in the second half of 2000 and results from acquisitions made in January and May 2001. Sales volumes in 2001 were hamperednegatively impacted by the events of September 11 as dealer attendance and already depressed wholesale prices both dropped suddenly during the last half of September. Also, inclement weather thatearlier in the year resulted in both low attendance at and canceled auctions earlier in the year.auctions. Operating revenue from AFC was higher in 2001 reflecting a 14 percent increase in vehicles financed through ALLETE Second Quarter 2001 Form 10-Q 14 existing loan production offices. AFC financed approximately 453,000676,000 vehicles in 2001 (397,000(595,000 in 2000). AFC had 8782 loan production offices inat September 30, 2001 (86 inat September 30, 2000). WATER SERVICES' operating revenue was up $1.2$2.0 million, or 2 percent, in 2001 due to customer growthgains from the disposal of 7certain assets, a 4 percent increase in customers and an October 2000 rate increase implemented by Heater and the release of escrow proceeds received from the 1997 sale of assets to Orange County, Florida.Heater. Above-average rainfall in Florida and North Carolina, and conservation efforts in Florida negatively impacted revenue in 2001. Operating revenue in 2000 included regulatory relief granted by Florida's Hillsborough Board of County Commissioners. INVESTMENTS' operating revenue was down $4.3$5.4 million, or 78 percent, in 2001 primarily duebecause turbulence in the financial markets after the events of September 11 had a negative impact on our securities portfolio. In addition, our securities portfolio had a lower average balance in 2001. The decrease in revenue was also attributed to $4.0$4.9 million less revenue from our emerging technology investments as a result of fewer sales of these investments in 2001. Revenue from our securities portfolio was down in 2001 due to a lower average balance. Our real estate operations reported stronger sales at all locations in 2001. FourSix large real estate sales in 2001 contributed $33.1$37.5 million to revenue and included our largest single real estate transaction to date. In 2000 seven large real estate sales contributed $31.9 million to revenue. OPERATING EXPENSES ENERGY SERVICES' operating expenses were up $24$36.3 million, or 10 percent, in 2001 because of higher prices paid for purchased power and purchased gas.gas, and the inclusion of Enventis operations. Operating expenses also increased in 2001 due to higher plant maintenance expenses and additional costs incurred as a result of a severe ice storm. AUTOMOTIVE SERVICES' operating expenses were up $164.9$235.1 million, or 8174 percent, in 2001 primarily due to significant acquisitions made in 2000 and early 2001. In addition to theExpenses in 2001 included increased direct costs associated with having more vehicleprocessing vehicles multiple times that did not sell as a result of the events of September 11 which caused low auction facilities in operation,attendance and further depressed wholesale prices. Operating expenses in 2001 also included integration costs, additional amortization of goodwill, and higheradditional interest expense related to debt issued in late 2000 to finance acquisitions. Operating expenses in 2001 also reflected additional expenses foracquisitions, higher utility expense and more labor costs incurred as a result of inclement weather conditions compared to 2000 when weather conditions were relatively mild.in early 2001. 15 ALLETE Third Quarter 2001 Form 10-Q WATER SERVICES' operating expenses were up $0.7$1.6 million, or 12 percent, in 2001 due to customer growth and the inclusion of water and wastewater systems acquired in 2000. INVESTMENTS' operating expenses were down $6.5$5.2 million, or 2618 percent, in 2001 due to reduced expenses associated with sales by our real estate operations. OUTLOOK The solid performance from eachCORPORATE. In late August 2001 we began a process of systematically evaluating our businesses to determine the strategic value of our four business segments duringassets and explore ways to unlock that value. The potential sale of our Water Services businesses is one result of this process. (See Water Services below.) We are focusing on our core competencies, which include Automotive and Energy Services businesses, in an effort to provide more clarity for investors. We will disclose further development of this plan in early 2002. The events that affected the first six monthsUnited States since September 11 have had a negative impact on our financial results for Automotive Services and our securities portfolio. In light of continued economic uncertainty, we are revising our EPS growth projection for 2001 reflectedfrom 12 percent to between 6 percent and 8 percent over 2000. Our plan for 2002 will be a part of the success of ALLETE'sstrategy development. At this time we expect EPS growth initiatives.from operations to exceed 2001 EPS growth. ENERGY SERVICES. The economic health of the taconite industry is importantcontinues to us and the impact ofbe adversely impacted by cheap foreign steel imports concerns us. Whileimports. With the closure of LTV in January 2001 and various temporary shutdowns at other Minnesota taconite facilities, the current taconite production level for 2001 is currently expectednow estimated to continue at annual levels of about 40be approximately 35 million tons, the longer-term outlook of this cyclical industry is less certain.tons. In MayOctober 2001 we submitted a bid to acquireexecuted an agreement with LTV Steel Mining Co.'s (LTV) three 75-megawatt electric generating units located in northern Minnesota. This bid was submitted in connection with a bid byand Cleveland-Cliffs Inc. to acquire LTV's Minnesota mining assets. We believe our offer225 MW generating facility and other non-mining assets for $75 million. One of the three 75 MW units in this facility is competitive, but LTV has not yet respondedexpected to our proposal.be on-line in January 2002. Our recent acquisition of Enventis, Inc., a data network systems provider headquarteredpower purchase agreement with Lakefield Junction for 240 MW which began in June 2001, extends to April 2003 and declines to 80 MW from May 2003 to April 2004. It provides additional power to sell in the Minneapolis-St. Paul area, complements our existing infrastructurewholesale market. We recently initiated the permitting process for a 160 MW peaking plant in Superior, Wisconsin and fiber optics networka 225 MW energy facility at Blandin Paper in Minnesota and Wisconsin. While relatively small, this transaction helps position our telecommunications business as one of the leading integrated data service providers in the Upper Midwest.Grand Rapids, Minnesota. Overall, we believe Energy Services is well positioned for future growth opportunities. AUTOMOTIVE SERVICES acquisitions made during 2000 and early 2001, and continued growth of AFC's vehicle finance business, contributed significantly to net income for the first sixnine months of 2001. WithEven with the planned additionevents of "total loss" vehicle recovery services at existing ADESA vehicle auction facilities and economies of scale as a result of integration efficiencies at newly acquired vehicle auction facilities,September 11, we continue to expect that Automotive Services' 2001 net income contribution will be at leastabout 40 percent over 15 ALLETE Second Quarter 2001 Form 10-Q last year. We also expect that EBITDAL from same-store ADESA auction facilities will increase 10 percent to 15 percent. In 2001, industry-wide dealer consignment sales of used vehicles at auction have been down due to pricing pressure in the used vehicle market. The pricing pressure is partially caused by aggressive incentives currently offered by vehicle manufacturers. These incentives reduce the value of usedmanufacturers on new vehicles. We continue to believe that used vehicle sales within the auto auction industry are expected towill rise at a rate of 2 percent to 4 percent annually over the next several years. WATER SERVICES. Even though Florida and North Carolina had above-average rainfall during the second quarterand third quarters of 2001 and water use restrictions remain in effect, Water Services' 2001 financial results are still on target due to customer growth at water and wastewater systems in both Florida and North Carolina. INVESTMENTS. The $29 million saleIn September 2001 we announced that discussions with the Florida Governmental Utility Authority (Authority) are underway regarding the possible purchase by the Authority of all of the Tarpon Point property in Cape Coral,water, wastewater and water reuse assets of Florida in JuneWater. We entered into an agreement giving the Authority the exclusive opportunity through December 21, 2001 was our real estate operations' largest single transaction to date. The real estate strategy continues toreview a potential transaction. We will be to acquire large properties at low cost, add value and sell them at current market prices. Through subsidiaries, we own Florida real estate operations in four different locations: - LEHIGH ACRES with 1,100 acresexamining alternative strategies for redeployment of land and approximately 500 home sites adjacent to Fort Myers, Florida; - SUGARMILL WOODS with 475 home sites in Citrus County, Florida; - PALM COAST with 1,630 home sites and 9,300 acres of residential, commercial and industrial land at Palm Coast, Florida. Palm Coast is a planned community between St. Augustine and Daytona Beach; and - CAPE CORAL, located adjacent to Fort Myers, Florida, with approximately 600 acres of commercial and residential zoned land, including home sites and commercial buildings.the proceeds if the sale occurs. ALLETE Third Quarter 2001 Form 10-Q 16 LIQUIDITY AND CAPITAL RESOURCES CASH FLOW ACTIVITIES.ACTIVITIES During the first sixnine months of 2001 cash flow from operations reflected strong operating results and continued focus on working capital management. The decrease in cash flow from operations in 2001 was primarily attributable to changes in trading securities. In 2001 additional trading securities were purchased with a portion of the proceeds from our recentsecond quarter common stock issuance (see Securities below), while in 2000 trading securities were sold to partially fund the acquisition of Auction Finance Group, Inc. Cash flow from operations was also affected by a number of factors representative of normal operations. WORKING CAPITAL. Additional working capital, if and when needed, generally is provided by the sale of commercial paper. Our securities investments can be liquidated to provide funds for reinvestment in existing businesses or acquisition of new businesses. Approximately 65.5 million original issue shares of our common stock are available for issuance through Invest Direct,INVEST DIRECT, our direct stock purchase and dividend reinvestment plan. A substantial amount of ADESA's working capital is generated internally from payments for services provided. However, ADESA has arrangements to use proceeds from the sale of commercial paper issued by ALLETE to meet short-term working capital requirements arising from the timing of payment obligations to vehicle sellers and the availability of funds from vehicle purchasers. During the sales process, ADESA does not typically take title to vehicles. AFC also has arrangements to use proceeds from the sale of commercial paper issued by ALLETE to meet its operational requirements. AFC offers short-term on-site financing for dealers to purchase vehicles at auctions in exchange for a security interest in those vehicles. The financing is provided through the earlier of the date the dealer sells the vehicle or a general borrowing term of 30 to 45 days. AFC sells certain finance receivables on a revolving basis to a wholly owned, unconsolidated, qualified special purpose subsidiary. This subsidiary in turn sells, on a revolving basis, an undivided interest in eligible finance receivables, up to a maximum at any one time outstanding of $300 million, to third party purchasers under an agreement that expires at the end of 2002. At JuneSeptember 30, 2001 AFC had sold ALLETE Second Quarter 2001 Form 10-Q 16 $421.5$403.1 million of finance receivables to the special purpose subsidiary ($335.7 million at December 31,2000)31, 2000). Third party purchasers had purchased an undivided interest in finance receivables of $281.0$283.0 million from this subsidiary at JuneSeptember 30, 2001 ($239 million at December 31, 2000). Unsold finance receivables and unfinanced receivables held by the special purpose subsidiary are recorded by AFC as residual interest at fair value. Fair value is based upon estimates of future cash flows, using assumptions that market participants would use to value such instruments, including estimates of anticipated credit losses over the life of the receivables sold without application of a discount rate due to the short-term nature of the receivables sold. The fair value of AFC's residual interest was $137.2$116.9 million at JuneSeptember 30, 2001 ($106.2 million at December 31, 2000). Proceeds from the sale of the receivables were used to repay borrowings from ALLETE and fund vehicle inventory purchases for AFC's customers. Significant changes in accounts receivable and accounts payable balances at JuneSeptember 30, 2001 compared to December 31, 2000 were due to increased sales and financing activity at Automotive Services. Typically auction volumes are down during the winter months and in December because of the holidays. As a result, both ADESA and AFC had higher receivables and higher payables at JuneSeptember 30, 2001. ACQUISITIONS. In January 2001 we acquired all of the outstanding stock of ComSearch in exchange for ALLETE common stock and paid cash to purchase all of the assets of APCAuto Placement Center (now ADESA Impact) in transactions with an aggregate value of $62.4 million. APCADESA Impact was funded with internally generated funds and short-term debt which was refinanced with long-term debt. (See Securities below.) APCADESA Impact is a provider of "total loss" vehicle recovery services with ten12 auction facilities in the United States. ComSearch provides Internet-based parts location and insurance adjustment audit services nationwide. Both APCADESA Impact and ComSearch are based in Rhode Island. 17 ALLETE Third Quarter 2001 Form 10-Q In February 2001 ALLETE Water Services completed the purchase of the assets of Dicks Creek, a wastewater utility located near Atlanta, Georgia, for $6.6 million plus a commitment to pay the seller a fee for future residential connections. The commitment requires payment of a minimum of $400,000 annually beginning December 31, 2001 for four years or until cumulative payments reach $2 million, whichever occurs first. The transaction was funded with internally generated funds. In May 2001 ADESA purchased the assets of the I-44 Auto Auction in Tulsa, Oklahoma. The I-44 Auto Auction, which is located on 75 acres, was renamed ADESA Tulsa and offers six auction lanes, storage for over 3,000 vehicles and a five-bay reconditioning and detail facility. The transaction was funded with internally generated funds. In July 2001 we acquired Enventis, Inc., a data network systems provider headquartered in the Minneapolis-St.Minneapolis- St. Paul area. In connection with this acquisition, we issued 310,878 shares of our common stock. This transaction complements our existing infrastructure and fiber optics network in Minnesota and Wisconsin, and helps position our telecommunications business as one of the leading integrated data service providers in the Upper Midwest. In October 2001 we executed an asset purchase agreement with LTV and Cleveland-Cliffs to acquire certain non-mining properties from LTV for $75 million. The non-mining properties include LTV's 225 MW electric generating facility and existing coal pile at Taconite Harbor, a sixty-mile transmission line, railroad trackage rights, and approximately 30,000 acres of forest and recreation land in northeast Minnesota. The transaction is expected to close during the fourth quarter. SECURITIES. In February 2001 we issued $125 million of 7.80% Senior Notes, due February 15, 2008. Proceeds were used to repay a portion of ALLETE's short-term bank borrowings incurred for the acquisition of vehicle auction facilities in 2000 and early 2001 and for general corporate purposes. In March 2001 ALLETE, ALLETE Capital II and ALLETE Capital III, jointly filed a registration statement with the SEC pursuant to Rule 415 under the Securities Act of 1933. The registration statement, which has been declared effective by the SEC, relates to the possible issuance, from time to time when market conditions and the needs of ALLETE warrant, of an aggregate amount of $500 million of securities which may include ALLETE common stock, first mortgage bonds, and other debt securities and ALLETE Capital II and ALLETE Capital III preferred trust securities, of which approximately $387 million remains available to be issued. ALLETE also previously filed a registration statement, which has been declared effective by the SEC, relating to the possible issuance, from time to time when market conditions and the needs of ALLETE warrant, of $25 million of first mortgage bonds and other debt securities. We may sell all or a portion of the remaining registered securities if warranted by market conditions and our capital requirements. Any offer and sale of the above mentioned securities will be made only by means of a prospectus meeting the requirements of the Securities Act of 1933 and the rules and regulations thereunder. 17 ALLETE Second Quarter 2001 Form 10-Q On May 30, 2001 we issued and sold in an underwritten public offering 6.5 million shares of common stock at $23.68 per share. In addition, an over-allotment option for 100,000 shares at $23.68 per share was exercised by the underwriters and sold on June 7, 2001. Total net proceeds of $150 million were used to repay a portion of our short-term borrowings with the remainder invested in short-term instruments. The increase in the number of shares of our common stock outstanding as of JuneSeptember 30, 2001 had an immaterial impact on earnings per share for the 2001 periods. INVESTMENTS. As companies included in our emerging technology investments are sold, we may recognize a gain or loss. In the second half of 2000, several of the private companies included in our emerging technology investments went public by completing initial public offerings. Typically, investors in a private company are not permitted to sell stock in the company for a period of 180 days following the company's initial public offering. Other restrictions on sale may also apply and certain shares are held indirectly by us through our investments in independent investment funds. Since going public, the market value of these companies has experienced significant volatility.volatility, particularly following the events of September 11. Our investment in the companies that have gone public has a cost basis of approximately $12 million. The aggregate market value of our investment in these companies at JuneSeptember 30, 2001 was $38$14 million. ALLETE Third Quarter 2001 Form 10-Q 18 Our emerging technology investments provide us with access to developing technologies before their commercial debut, as well as potential financial returns and diversification opportunities. We view these investments as a source of capital for redeployment in existing businesses and a potential entree into additional business opportunities. Portions of any proceeds received on these investments may be reinvested back into companies to encourage development of future technology.businesses. CAPITAL REQUIREMENTS.REQUIREMENTS Consolidated capital expenditures for the sixnine months ended JuneSeptember 30, 2001 totaled $78.3$108.4 million ($56.594.0 million in 2000). Expenditures for 2001 included $29.3$43.0 million for Energy Services, $33.9$43.0 million for Automotive Services and $15.1$22.4 million for Water Services. Internally generated funds and the issuance of long-term debt were the primary sources of funding for these expenditures. NEW ACCOUNTING STANDARDS In July 2001 the FASB issued SFAS 141, 142 and 143. SFAS 141, "Business Combinations" requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001. Use of the pooling of interests method of accounting will be prohibited. We do not have any pending acquisitions that will be impacted by this new rule. SFAS 142, "Goodwill and Other Intangible Assets" changes the accounting for goodwill from an amortization method to an impairment-only approach. Amortization of goodwill including goodwill recorded in past business combinations, will cease for fiscal years beginning after December 15, 2001.January 1, 2002, the date we expect to adopt this standard. We have $537$536 million of goodwill as of JuneSeptember 30, 2001 and after-tax goodwill amortization expense of approximately $5.5$8 million for the first sixnine months ofended September 30, 2001. Annual after-tax goodwill amortization expense is expected to be approximately $11 million in 2001. We do not believe we have any goodwill impairment at this time. SFAS 143, "Accounting for Asset Retirement Obligations" requires the recognition of a liability for an asset retirement obligation in the period in which it is incurred. When the liability is initially recorded, the carrying amount of the related long-lived asset is correspondingly increased. Over time, the liability is accreted to its present value and the related capitalized charge is depreciated over the useful life of the asset. SFAS 143 is effective for fiscal years beginning after June 15, 2002. We are currently reviewing the impact of SFAS 143 on the Company. -----------------------In August 2001 the FASB issued SFAS 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS 144 addresses accounting and reporting for the impairment or disposal of long-lived assets, including the disposal of a segment of business. SFAS 144 is effective for fiscal years beginning after December 15, 2001, with earlier application encouraged. We are currently reviewing the impact of SFAS 144 on the Company. --------------------------- READERS ARE CAUTIONED THAT FORWARD-LOOKING STATEMENTS INCLUDING THOSE CONTAINED ABOVE, SHOULD BE READ IN CONJUNCTION WITH OUR DISCLOSURES UNDER THE HEADING: "SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995" LOCATED ON PAGE 3 OF THIS FORM 10-Q. 19 ALLETE SecondThird Quarter 2001 Form 10-Q 18 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our securities portfolio has exposure to both price and interest rate risk. Investments held principally for near-term sale are classified as trading securities and recorded at fair value. Trading securities consist primarily of the common stock of publicly traded companies. In strategies designed to hedge overall market risks, we also sell common stock short. Investments held for an indefinite period of time are classified as available-for-sale securities and also recorded at fair value. Available-for-sale securities consist of our direct investments in emerging technology companies and securities in a grantor trust established to fund certain employee benefits. JUNESEPTEMBER 30, 2001 FAIR VALUE -------------------------------------------------------------------------------------------------------------------------------------------- Millions Trading Securities Portfolio $159.6$165.9 Available-For-Sale Securities Portfolio $29.3 ------------------------------------------------------------$16.9 -------------------------------------------------------------------------------- PART II. OTHER INFORMATION ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS (a) We held our Annual Meeting of Shareholders on May 8, 2001. (b) Included in (c) below. (c) The election of directors, the appointment of independent accountants and the approval of changing our legal name to ALLETE, Inc. were voted on at the Annual Meeting of Shareholders. The results were as follows:
VOTES WITHHELD OR BROKER VOTES FOR AGAINST ABSTENTIONS NONVOTES ------------------------------------------------------------------------------------------------------------ DIRECTORS Kathleen A. Brekken 60,603,953 773,867 - - Dennis E. Evans 60,642,460 735,360 - - Glenda E. Hood 60,538,591 839,229 - - Peter J. Johnson 60,688,499 689,321 - - George L. Mayer 60,618,350 759,470 - - Jack I. Rajala 60,663,022 714,798 - - Edwin L. Russell 60,545,745 832,075 - - Arend J. Sandbulte 60,553,653 824,167 - - Nick Smith 60,632,020 745,800 - - Bruce W. Stender 60,675,183 702,637 - - Donald C. Wegmiller 60,649,493 728,327 - - INDEPENDENT ACCOUNTANTS PricewaterhouseCoopers LLP 60,417,093 538,868 421,859 - NAME CHANGE Change Company legal name to ALLETE, Inc. 58,832,427 1,896,612 648,781 - ------------------------------------------------------------------------------------------------------------
(d) Not applicable. 19 ALLETE Second Quarter 2001 Form 10-Q None ITEM 5. OTHER INFORMATION Reference is made to our 2000 Form 10-K for background information on the following updates. Unless otherwise indicated, cited references are to our 2000 Form 10-K. Ref. Page 23. - Fifth Paragraph Ref. Page 24. - Table - Power Supply Ref. Page 44. -Insert after Second Paragraph In JuneOn August 9, 2001 Minnesota Power successfully completed testing its newannounced plans to build a 160 MW natural gas-fired electric generating unit at Potlatch Corp.'s pulp and paper mill in Cloquet, Minnesota. Pending approval of test results from MAPP,facility near Superior, Wisconsin, to help meet the new unit will be ready to generate up to 23 megawatts of electricity. The new cogeneration unit will burn a mixture of 50 percent wood waste and 50 percent natural gas. Minnesota Power will own the new turbine generator and have access to its excess power inregion's energy needs during times of highpeak electrical demand. Potlatch will operateThe construction cost is estimated to be between $70 million and maintain it at Minnesota Power's expense.$80 million with completion in late 2003 contingent on the timely receipt of approvals and permits. Ref. Page 25. - ThirdFourth Paragraph On July 31, 2001 we acquired Enventis, Inc., a data network systems provider headquartered in the Minneapolis-St. Paul area. In connection with this acquisition, we issued 310,878 shares of our common stock. The transaction helps position our telecommunications business as one of the leading integrated data service providers in the Upper Midwest. Enventis, Inc. will operate as a subsidiary of our telecommunications business, MP Telecom. Ref. Page 26. - Table - Contract Status for Minnesota Power Large Power Customers On May 23,August 16, 2001 Minnesota Power and Lakehead Pipe Line Co. L.P. entered intoBlandin Paper Company (Blandin Paper), a new electric service agreementsubsidiary of UPM-Kymmene of Helsinki, Finland, proposed building a state-of-the-art 225 MW energy facility adjacent to continue to meet all of Lakehead's electric requirements through May 2004. The agreement was approved by the MPUC on July 24, 2001. Ref. Page 27. - Second Paragraph Minnesota Power and The Burlington Northern and Santa Fe Railway Company (BNSF) entered into a ten-year agreement for transportation of coal to Minnesota Power's generating stations nearBlandin Paper in Grand Rapids, Minnesota, through a partnering arrangement. A new company, Rapids Power LLC, was created to own the facility. Through a subsidiary we own 71.5 percent of Rapids Power LLC and Hoyt Lakes, Minnesota. AsBlandin Paper Company, a result, Minnesota Power will not pursue constructionsubsidiary of an alternative railroad lineUPM-Kymmene, owns 28.5 percent. The project, which is expected to servecost more than $200 million, is contingent on timely receipt of necessary federal and state approvals and permits. Construction could begin in the generating stations. Under termsfall of the agreement, BNSF will ship all of Minnesota Power's coal needs, about four million tons annually, to the Boswell Energy Center near Grand Rapids2002 and to the Laskin Energy Center near Hoyt Lakes through 2011. Minnesota Power purchases low-sulfur, sub-bituminous coal from the Powder River Basinis slated for completion in Montana and Wyoming.mid-2005. Ref. Page 28.26 - FourthThird Full Paragraph Ref. Page 29.Form 8-K dated and filed May 18, 2001 Ref. Form 8-K dated and filed October 10, 2001 On October 23, 2001 the U.S. Bankruptcy Court approved the Asset Purchase Agreement Rainy River Energy Corporation - First Full Paragraph Ref. 10-Q forTaconite Harbor, a wholly owned subsidiary of the Company, and Cleveland-Cliffs have executed with LTV. We expect the transaction to close in the fourth quarter ended March 31, 2001, Page 16. - Sixth Paragraph Midwest Independent System Operator (MISO) participation by Minnesota Power and SWL&P was contingent on several conditions. However, by a letter dated July 13, 2001, Minnesota Power waived the remaining contingencies to its MISO application. This waiver was based on Minnesota Power's assessment that the conditions will be fulfilled shortly in order to be eligible for the super-regional rate for transmission usage throughout the MISO region at the earliest opportunity.of 2001. ALLETE SecondThird Quarter 2001 Form 10-Q 20 Ref. Page 28. - EighthNinth Full Paragraph Effective September 12, 2001 the PSCW approved a 12.25 percent return on common equity and a 1.1 percent average increase in retail utility rates for SWL&P customers. This average increase is comprised of a 3.4 percent decrease in electric rates, a 1.5 percent increase in gas rates and a 24.5 percent increase in water rates. The water increase is designed to recover the cost of replacing an aging well system. SWL&P originally requested an average increase in retail utility rates of 1.8 percent which was later increased to 2.5 percent. Ref. 10-Q for the quarter ended March 31, 2001, Page 17.28. - SecondTenth Paragraph On June 28,August 17, 2001 the MPUC approved Minnesota Power's request to recover $3.5 million, plus $1 million in interest,PSCW unanimously agreed that construction of lost margins associated with activities related to Conservation Improvement Programs for 1998. We anticipate collecting this revenue over the remainder of 2001. Ref. Page 34. - Seventh Paragraph In May250-mile Wausau-to-Duluth electric transmission line is necessary. On October 23, 2001 the Florida First District CourtPSCW issued its written order that outlines the details and route specifics of Appeals affirmed the FPSC's January 1998 order. The opinion was not challenged. The court action endsline. Minnesota Power and Wisconsin Public Service Corporation will proceed with the appeal process relatingjoint project and begin the engineering and geographical surveys that need to uniform rates and any potential refund liability for Florida Water. Ref. Page 35. - First Paragraph In February 2001 the FPSC approved the settlement agreement relatingbe completed before 2002 when construction is expected to the Spring Hill refund issue. The appeal was dismissed. The rate reduction became effective on April 16, 2001. Ref. Page 35. - Seventh Paragraph On June 22, 2001 ALLETE Properties completed the sale of Tarpon Point Marina and the surrounding 150 acres of development property in Cape Coral, Florida to the Grosse Point Development Company for $29 million in cash.begin. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits. None10 Retirement Agreement dated August 28, 2001 between ALLETE and Edwin L. Russell. (b) Reports on Form 8-K. Report on Form 8-K filed April 11,August 29, 2001 with respect to Item 5. Other Events.Information. Report on Form 8-K filed April 18, 2001 with respect to Item 7. Financial Statements and Exhibits. Report on Form 8-K filed May 18,September 24, 2001 with respect to Item 5. Other Events.Information. Report on Form 8-K filed July 19,October 10, 2001 with respect to Item 5. Other Information. Report on Form 8-K filed October 18, 2001 with respect to Item 7. Financial Statements and Exhibits. 21 ALLETE SecondThird Quarter 2001 Form 10-Q SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ALLETE, INC. August 3,October 26, 2001 D. G. GartzkeJames K. Vizanko --------------------------------------- D. G. Gartzke SeniorJames K. Vizanko Vice President, - Finance and Chief Financial Officer August 3,and Treasurer October 26, 2001 Mark A. Schober --------------------------------------- Mark A. Schober Vice President and Controller ALLETE SecondThird Quarter 2001 Form 10-Q 22 EXHIBIT INDEX Exhibit Number 10 Retirement Agreement dated August 28, 2001 between ALLETE and Edwin L. Russell.