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 MARCH 31, 2005
or
/_/ Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission File Number 1-3548
ALLETE, INC.
(Exact name of registrant as specified in its charter)
MINNESOTA 41-0418150
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
30 WEST SUPERIOR STREET
DULUTH, MINNESOTA 55802-2093
(Address of principal executive offices)
(Zip Code)
(218) 279-5000
(Registrant's telephone number, including area code)
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
----- -----
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes X No
----- -----
Common Stock, no par value,
29,820,595 shares outstanding
as of March 31, 2005
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 -
March 31, 2005 and December 31, 2004 4
Consolidated Statement of Income -
Quarter Ended March 31, 2005 and 2004 5
Consolidated Statement of Cash Flows -
Quarter Ended March 31, 2005 and 2004 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 18
Item 3. Quantitative and Qualitative Disclosures about
Market Risk 25
Item 4. Controls and Procedures 26
Part II. Other Information
Item 1. Legal Proceedings 27
Item 2. Unregistered Sales of Equity Securities and
Use of Proceeds 27
Item 3. Defaults Upon Senior Securities 27
Item 4. Submission of Matters to a Vote of Security Holders 27
Item 5. Other Information 27
Item 6. Exhibits 30
Signatures 31
1 ALLETE First Quarter 2005 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
- --------------------------------------------------------------------------------
2004 Form 10-K ALLETE's Annual Report on Form 10-K for
the Year Ended December 31, 2004
ADESA ADESA, Inc.
AICPA American Institute of Certified Public
Accountants
ALLETE ALLETE, Inc.
ALLETE Properties ALLETE Properties, Inc.
APB Accounting Principles Board
Aqua America Aqua America, Inc.
BNI Coal BNI Coal, Ltd.
Boswell Boswell Energy Center
Company ALLETE, Inc. and its subsidiaries
Constellation Energy Commodities Constellation Energy Commodities Group,
Inc.
Enventis Telecom Enventis Telecom, Inc.
EPA Environmental Protection Agency
ESOP Employee Stock Ownership Plan
FASB Financial Accounting Standards Board
FERC Federal Energy Regulatory Commission
Florida Landmark Florida Landmark Communities, Inc.
Florida Water Florida Water Services Corporation
FPSC Florida Public Service Commission
FSP Financial Accounting Standards Board
Staff Position
GAAP Accounting Principles Generally
Accepted in the United States
Hibbard Hibbard Energy Center
Laskin Laskin Energy Center
Minnesota Power An operating division of ALLETE, Inc.
Minnkota Power Minnkota Power Cooperative, Inc.
MISO Midwest Independent Transmission System
Operator, Inc.
MPUC Minnesota Public Utilities Commission
MW Megawatt(s)
Note ___ Note ___ to the consolidated financial
statements in this Form 10-Q
PSCW Public Service Commission of Wisconsin
Rainy River Energy Rainy River Energy Corporation
SEC Securities and Exchange Commission
SFAS Statement of Financial Accounting
Standards No.
Split Rock Energy Split Rock Energy LLC
Square Butte Square Butte Electric Cooperative
SWL&P Superior Water, Light and Power Company
Taconite Harbor Taconite Harbor Energy Center
WDNR Wisconsin Department of Natural
Resources
ALLETE First Quarter 2005 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 such 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," "projects," "will likely result," "will continue," "could," "may,"
"potential," "target," "outlook" or similar expressions) are not statements of
historical facts and may be forward-looking.
Forward-looking statements involve estimates, assumptions, risks and
uncertainties and are qualified in their entirety by reference to, and are
accompanied by, the following important factors, in addition to any assumptions
and other factors referred to specifically in connection with such
forward-looking statements, which are difficult to predict, contain
uncertainties, are beyond our control and may cause actual results or outcomes
to differ materially from those contained in forward-looking statements:
- our ability to successfully implement our strategic objectives;
- prevailing governmental policies and regulatory actions, including those
of the United States Congress, state legislatures, the FERC, the MPUC, the
FPSC, the PSCW, and various local and county regulators, and city
administrators, about allowed rates of return, financings, industry and
rate structure, acquisition and disposal of assets and facilities, real
estate development, operation and construction of plant facilities,
recovery of purchased power and capital investments, present or
prospective wholesale and retail competition (including but not limited to
transmission costs), and zoning and permitting of land held for resale;
- effects of restructuring initiatives in the electric industry;
- economic and geographic factors, including political and economic risks;
- changes in and compliance with environmental and safety laws and policies;
- weather conditions;
- natural disasters;
- war and acts of terrorism;
- wholesale power market conditions;
- population growth rates and demographic patterns;
- the effects of competition, including competition for retail and wholesale
customers;
- pricing and transportation of commodities;
- changes in tax rates or policies or in rates of inflation;
- unanticipated project delays or changes in project costs;
- unanticipated changes in operating expenses and capital expenditures;
- global and domestic economic conditions;
- our ability to access capital markets;
- changes in interest rates and the performance of the financial markets;
- competition for economic expansion or development opportunities;
- our ability to manage expansion and integrate acquisitions; and
- the outcome of legal and administrative proceedings (whether civil or
criminal) and settlements that affect the business and profitability of
ALLETE.
Additional disclosures regarding factors that could cause our results and
performance to differ from results or performance anticipated by this report are
discussed in Item 7 under the heading "Factors that May Affect Future Results"
beginning on page 36 of our 2004 Form 10-K. Any forward-looking statement speaks
only as of the date on which such 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 these factors, nor can it
assess the impact of each of these 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.
Readers are urged to carefully review and consider the various disclosures made
by us in our 2004 Form 10-K and in our other reports filed with the SEC that
attempt to advise interested parties of the factors that may affect our
business.
3 ALLETE First Quarter 2005 Form 10-Q
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
ALLETE
CONSOLIDATED BALANCE SHEET
Millions - Unaudited
MARCH 31, DECEMBER 31,
2005 2004
- -------------------------------------------------------------------------------------------------------------------
ASSETS
Current Assets
Cash and Cash Equivalents $ 213.2 $ 194.1
Restricted Cash - 30.3
Accounts Receivable (Less Allowance of $2.1 and $2.0) 79.7 86.1
Inventories 33.5 34.0
Prepayments and Other 27.2 21.6
Discontinued Operations 2.0 2.0
- -------------------------------------------------------------------------------------------------------------------
Total Current Assets 355.6 368.1
Property, Plant and Equipment - Net 880.8 883.1
Investments 118.9 124.5
Other Assets 50.3 52.8
Discontinued Operations 2.5 2.9
- -------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $1,408.1 $1,431.4
- -------------------------------------------------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Current Liabilities
Accounts Payable $ 34.8 $ 40.0
Accrued Taxes 38.0 23.3
Accrued Interest 4.8 6.9
Long-Term Debt Due Within One Year 1.9 1.8
Deferred Profit on Sales of Real Estate 2.0 1.1
Other 16.7 24.7
Discontinued Operations 5.4 12.0
- -------------------------------------------------------------------------------------------------------------------
Total Current Liabilities 103.6 109.8
Long-Term Debt 389.6 390.2
Accumulated Deferred Income Taxes 140.7 143.9
Other Liabilities 150.3 151.4
Minority Interest 6.4 5.6
Commitments and Contingencies
- -------------------------------------------------------------------------------------------------------------------
Total Liabilities 790.6 800.9
- -------------------------------------------------------------------------------------------------------------------
SHAREHOLDERS' EQUITY
Common Stock Without Par Value, 43.3 Shares Authorized
29.8 and 29.7 Shares Outstanding 406.3 400.1
Unearned ESOP Shares (80.7) (51.4)
Accumulated Other Comprehensive Loss (11.3) (11.4)
Retained Earnings 303.2 293.2
- -------------------------------------------------------------------------------------------------------------------
Total Shareholders' Equity 617.5 630.5
- -------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $1,408.1 $1,431.4
- -------------------------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of these statements.
ALLETE First Quarter 2005 Form 10-Q 4
ALLETE
CONSOLIDATED STATEMENT OF INCOME
Millions Except Per Share Amounts - Unaudited
QUARTER ENDED
MARCH 31,
2005 2004
- -------------------------------------------------------------------------------------------------------------------
OPERATING REVENUE $206.9 $209.0
- -------------------------------------------------------------------------------------------------------------------
OPERATING EXPENSES
Fuel and Purchased Power 69.1 68.9
Operating and Maintenance 83.1 83.6
Depreciation 12.6 12.4
- -------------------------------------------------------------------------------------------------------------------
Total Operating Expenses 164.8 164.9
- -------------------------------------------------------------------------------------------------------------------
OPERATING INCOME FROM CONTINUING OPERATIONS 42.1 44.1
- -------------------------------------------------------------------------------------------------------------------
OTHER INCOME (EXPENSE)
Interest Expense (6.8) (9.1)
Other (4.2) 0.4
- -------------------------------------------------------------------------------------------------------------------
Total Other Expense (11.0) (8.7)
- -------------------------------------------------------------------------------------------------------------------
INCOME FROM CONTINUING OPERATIONS
BEFORE MINORITY INTEREST AND INCOME TAXES 31.1 35.4
MINORITY INTEREST 1.2 1.4
- -------------------------------------------------------------------------------------------------------------------
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES 29.9 34.0
INCOME TAX EXPENSE 11.9 12.6
- -------------------------------------------------------------------------------------------------------------------
INCOME FROM CONTINUING OPERATIONS
BEFORE CHANGE IN ACCOUNTING PRINCIPLE 18.0 21.4
INCOME (LOSS) FROM DISCONTINUED OPERATIONS - NET OF TAX (0.6) 31.3
CHANGE IN ACCOUNTING PRINCIPLE - NET OF TAX - (7.8)
- -------------------------------------------------------------------------------------------------------------------
NET INCOME $ 17.4 $ 44.9
- -------------------------------------------------------------------------------------------------------------------
AVERAGE SHARES OF COMMON STOCK
Basic 27.2 28.1
Diluted 27.4 28.3
- -------------------------------------------------------------------------------------------------------------------
BASIC EARNINGS (LOSS) PER SHARE OF COMMON STOCK
Continuing Operations $0.66 $0.77
Discontinued Operations (0.02) 1.11
Change in Accounting Principle - (0.28)
- -------------------------------------------------------------------------------------------------------------------
$0.64 $1.60
- -------------------------------------------------------------------------------------------------------------------
DILUTED EARNINGS (LOSS) PER SHARE OF COMMON STOCK
Continuing Operations $0.66 $0.76
Discontinued Operations (0.02) 1.10
Change in Accounting Principle - (0.27)
- -------------------------------------------------------------------------------------------------------------------
$0.64 $1.59
- -------------------------------------------------------------------------------------------------------------------
DIVIDENDS PER SHARE OF COMMON STOCK $0.3000 $0.8475
- -------------------------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of these statements.
5 ALLETE First Quarter 2005 Form 10-Q
ALLETE
CONSOLIDATED STATEMENT OF CASH FLOWS
Millions - Unaudited
QUARTER ENDED
MARCH 31,
2005 2004
- -------------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Income from Continuing Operations $ 18.0 $ 13.6
Change in Accounting Principle - 7.8
Loss on Impairment of Investments 5.1 -
Depreciation 12.6 12.4
Deferred Income Taxes (3.6) 0.8
Minority Interest 0.8 (0.2)
Changes in Operating Assets and Liabilities
Accounts Receivable 6.4 (4.3)
Inventories 0.5 2.3
Prepayments and Other (5.6) (10.0)
Accounts Payable (5.2) (2.1)
Other Current Liabilities 6.5 (11.8)
Other Assets 2.5 2.4
Other Liabilities (0.7) 3.9
Net Operating Activities from (for) Discontinued Operations (6.2) 62.2
- -------------------------------------------------------------------------------------------------------------------
Cash from Operating Activities 31.1 77.0
- -------------------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES
Proceeds from Sale of Available-For-Sale Securities - 1.4
Changes to Investments (2.4) 11.2
Additions to Property, Plant and Equipment (9.5) (13.8)
Other 1.7 2.4
Net Investing Activities for Discontinued Operations - (0.9)
- -------------------------------------------------------------------------------------------------------------------
Cash from (for) Investing Activities (10.2) 0.3
- -------------------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES
Issuance of Common Stock 6.2 23.2
Issuance of Long-Term Debt - 2.8
Reductions of Long-Term Debt (0.6) (4.1)
Dividends on Common Stock (7.4) (22.8)
Net Financing Activities from Discontinued Operations - 0.7
- -------------------------------------------------------------------------------------------------------------------
Cash for Financing Activities (1.8) (0.2)
- -------------------------------------------------------------------------------------------------------------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH - DISCONTINUED OPERATIONS - (2.5)
- -------------------------------------------------------------------------------------------------------------------
CHANGE IN CASH AND CASH EQUIVALENTS 19.1 74.6
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD <F1> 195.3 229.5
- -------------------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD <F1> $214.4 $304.1
- -------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL CASH FLOW INFORMATION
Cash Paid During the Period for
Interest - Net of Capitalized $10.6 $18.4
Income Taxes $1.4 $29.6
- -------------------------------------------------------------------------------------------------------------------
<FN>
<F1> Included $1.2 million of cash from Discontinued Operations at March 31, 2005 ($210.0 million at March 31, 2004)
and $1.2 million at December 31, 2004($116.1 million at December 31, 2003).
The accompanying notes are an integral part of these statements.
</FN>
ALLETE First Quarter 2005 Form 10-Q 6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The accompanying unaudited consolidated financial statements and notes should be
read in conjunction with our 2004 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 the results for the year.
NOTE 1. OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
REAL ESTATE REVENUE AND EXPENSE RECOGNITION. Full profit recognition is recorded
on sales upon closing, provided cash collections are at least 20 percent of the
contract price and the other requirements of SFAS 66, "Accounting for Sales of
Real Estate," are met. In certain cases, where there are obligations to perform
significant development activities after the date of sale, we recognize profit
on these sales on a percentage of completion basis in accordance with SFAS 66.
Pursuant to this method of accounting, gross profit is recognized based upon the
relationship of development costs incurred as of that date to the total
estimated costs to develop the parcels, including all related amenities or
common costs of the entire project. Revenue and cost of real estate sold in
excess of the amount recognized based on the percentage of completion method is
deferred and recognized as revenue and cost of real estate sold during the
period in which the related development costs are incurred. Revenue and cost of
real estate sold deferred are recorded net as Deferred Profit on Sales of Real
Estate on our consolidated balance sheet.
Land held for sale is recorded at the lower of cost or fair value determined by
the evaluation of individual land parcels. Real estate costs include the cost of
land acquired, subsequent development costs and costs of improvements,
capitalized development period interest, real estate taxes, and payroll costs of
certain employees devoted directly to the development effort. These real estate
costs incurred are capitalized to the cost of real estate parcels based upon the
relative sales value of parcels within each development project in accordance
with SFAS 67, "Accounting for Costs and Initial Rental Operations of Real Estate
Projects." When real estate is sold, the cost of sale includes the actual costs
incurred and the estimate of future completion costs allocated to the real
estate sold based upon the relative sales value method.
Whenever events or circumstances indicate that the carrying value of the real
estate may not be recoverable, impairment losses would be recorded and the
related assets would be adjusted to their estimated fair value, less costs to
sell.
INVENTORIES. Inventories are stated at the lower of cost or market. Cost is
determined by the average cost method.
MARCH 31, DECEMBER 31,
INVENTORIES 2005 2004
- ----------------------------------------------------------------------------------
MILLIONS
Fuel $13.1 $11.4
Materials and Supplies 19.0 20.4
Other 1.4 2.2
- ----------------------------------------------------------------------------------
$33.5 $34.0
- ----------------------------------------------------------------------------------
ACCOUNTING FOR STOCK-BASED COMPENSATION. We have elected to account for
stock-based compensation in accordance with APB Opinion No. 25, "Accounting for
Stock Issued to Employees." Accordingly, we recognize expense for performance
share awards granted and do not recognize expense for employee stock options
granted. The after-tax expense recognized in net income for performance share
awards was approximately $0.3 million for the quarter ended March 31, 2005 ($0.4
million for the quarter ended March 31, 2004). The following table illustrates
the effect on net income and earnings per share if we had applied the fair value
recognition provisions of SFAS 123, "Accounting for Stock-Based Compensation."
7 ALLETE First Quarter 2005 Form 10-Q
QUARTER ENDED
EFFECT OF SFAS 123 MARCH 31,
ACCOUNTING FOR STOCK-BASED COMPENSATION 2005 2004
- -------------------------------------------------------------------------------------------------------------------
Millions Except Per Share Amounts
Net Income
As Reported $17.4 $44.9
Plus: Employee Stock Compensation Expense
Included in Net Income - Net of Tax 0.3 0.4
Less: Employee Stock Compensation Expense
Determined Under SFAS 123 - Net of Tax 0.4 0.5
- -------------------------------------------------------------------------------------------------------------------
Pro Forma $17.3 $44.8
- -------------------------------------------------------------------------------------------------------------------
Basic Earnings Per Share
As Reported $0.64 $1.60
Pro Forma $0.64 $1.60
Diluted Earnings Per Share
As Reported $0.64 $1.59
Pro Forma $0.63 $1.59
- -------------------------------------------------------------------------------------------------------------------
In the previous table, the expense for employee stock options granted determined
under SFAS 123 was calculated using the Black-Scholes option pricing model and
the following assumptions:
2005 2004
- -------------------------------------------------------------------------------------------------------------------
Risk-Free Interest Rate 3.7% 3.3%
Expected Life - Years 5 5
Expected Volatility 20.0% 28.1%
Dividend Growth Rate 5% 2%
- -------------------------------------------------------------------------------------------------------------------
NEW ACCOUNTING STANDARDS. In December 2004, the FASB issued SFAS 123(R),
"Share-Based Payment," which will be effective for public entities as of the
first interim or annual reporting period that begins after June 15, 2005. While
the SEC has permitted delayed application of SFAS 123(R) until fiscal years
beginning after June 15, 2005, we intend to adopt SFAS 123(R) in the third
quarter of 2005. SFAS 123(R) replaces SFAS 123, "Accounting for Stock-Based
Compensation," and supersedes APB Opinion No. 25, "Accounting for Stock Issued
to Employees." The new standard requires that the compensation cost relating to
share-based payment be recognized in financial statements at fair value. As
such, reporting employee stock options under the intrinsic value-based method
prescribed by APB 25 will no longer be allowed. Historically, we have elected to
use the intrinsic value method and have not recognized expense for employee
stock options granted. We estimate that the impact of adoption of SFAS 123(R) in
2005 will be an additional expense of approximately $0.2 million after tax.
In March 2005, the FASB issued Interpretation No. 47, "Accounting for
Conditional Asset Retirement Obligations." Interpretation No. 47 clarifies that
the term "conditional asset retirement obligation" as used in SFAS 143,
"Accounting for Asset Retirement Obligations," refers to a legal obligation to
perform an asset retirement activity in which the timing and/or method of
settlement are conditional on a future event that may or may not be within the
control of the entity. However, the obligation to perform the asset retirement
activity is unconditional even though uncertainty exists about the timing and/or
method of settlement. Interpretation 47 requires that the uncertainty about the
timing and/or method of settlement of a conditional asset retirement obligation
be factored into the measurement of the liability when sufficient information
exists. Interpretation 47 also clarifies when an entity would have sufficient
information to reasonably estimate the fair value of an asset retirement
obligation.
Interpretation No. 47 is effective for fiscal years ending after December 15,
2005 (December 31, 2005 for calendar-year enterprises). Retroactive application
of interim financial information is permitted, but not required. We are
evaluating the impact of this Interpretation, but do not expect it to have a
material impact on the Company.
ALLETE First Quarter 2005 Form 10-Q 8
NOTE 2. BUSINESS SEGMENTS
In 2005, we began allocating corporate charges and interest expenses to our
business segments. For comparative purposes, segment information for 2004 has
been restated to reflect the new allocation method used in 2005 for corporate
charges and interest expense.
NONREGULATED
REGULATED ENERGY REAL
CONSOLIDATED UTILITY OPERATIONS ESTATE OTHER
- -------------------------------------------------------------------------------------------------------------------
Millions
FOR THE QUARTER ENDED MARCH 31, 2005
Operating Revenue $206.9 $147.6 $27.9 $17.7 $13.7
Fuel and Purchased Power 69.1 61.5 7.6 - -
Operating and Maintenance 83.1 51.1 15.1 4.5 12.4
Depreciation Expense 12.6 9.8 2.0 - 0.8
- -------------------------------------------------------------------------------------------------------------------
Operating Income from Continuing Operations 42.1 25.2 3.2 13.2 0.5
Interest Expense (6.8) (4.3) (1.3) - (1.2)
Other Income (Expense) (4.2) - 0.2 - (4.4)
- -------------------------------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations
Before Minority Interest and Income Taxes 31.1 20.9 2.1 13.2 (5.1)
Minority Interest 1.2 - - 1.2 -
- -------------------------------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations
Before Income Taxes 29.9 20.9 2.1 12.0 (5.1)
Income Tax Expense (Benefit) 11.9 8.0 0.5 5.1 (1.7)
- -------------------------------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations 18.0 $ 12.9 $1.6 $ 6.9 $(3.4)
----------------------------------------------------
Loss from Discontinued Operations - Net of Tax (0.6)
- --------------------------------------------------------
Net Income $ 17.4
- --------------------------------------------------------
Total Assets $1,408.1<F1> $915.4 $150.9 $72.1 $265.2
Property, Plant and Equipment - Net $880.8 $726.2 $116.1 - $38.5
Accumulated Depreciation $776.7 $725.0 $41.5 - $10.2
Capital Expenditures $9.5<F1> $8.2 $0.7 - $0.6
FOR THE QUARTER ENDED MARCH 31, 2004
Operating Revenue $209.0 $141.4 $29.0 $27.6 $11.0
Fuel and Purchased Power 68.9 57.1 11.8 - -
Operating and Maintenance 83.6 49.7 14.5 7.7 11.7
Depreciation Expense 12.4 9.9 1.8 - 0.7
- -------------------------------------------------------------------------------------------------------------------
Operating Income (Loss) from Continuing
Operations 44.1 24.7 0.9 19.9 (1.4)
Interest Expense (9.1) (4.7) (1.2) (0.1) (3.1)
Other Income (Expense) 0.4 - (0.5) - 0.9
- -------------------------------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations
Before Minority Interest and Income Taxes 35.4 20.0 (0.8) 19.8 (3.6)
Minority Interest 1.4 - - 1.4 -
- -------------------------------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations
Before Income Taxes 34.0 20.0 (0.8) 18.4 (3.6)
Income Tax Expense (Benefit) 12.6 7.5 (0.6) 7.5 (1.8)
- -------------------------------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations 21.4 $ 12.5 $(0.2) $10.9 $(1.8)
----------------------------------------------------
Income from Discontinued Operations - Net of Tax 31.3
Change in Accounting Principle (7.8)
- ----------------------------------------------------------
Net Income $ 44.9
- ----------------------------------------------------------
Total Assets $3,353.4<F1> $909.1 $185.5 $75.5 $179.3
Property, Plant and Equipment - Net $921.3 $728.3 $153.2 - $39.8
Accumulated Depreciation $745.9 $700.8 $37.5 - $7.6
Capital Expenditures $16.6<F1> $8.9 $3.3 - $1.6
- -------------------------------------------------------------------------------------------------------------------
<FN>
<F1> Discontinued Operations represented $4.5 million of total assets in 2005 ($2,004.0 million in 2004) and $0 of
capital expenditures in 2005 ($2.8 million in 2004).
</FN>
9 ALLETE First Quarter 2005 Form 10-Q
NOTE 3. INVESTMENTS
At March 31, 2005, Investments included the real estate assets of ALLETE
Properties, debt and equity securities consisting primarily of securities held
to fund employee benefits, and our emerging technology investments.
MARCH 31, DECEMBER 31,
INVESTMENTS 2005 2004
- -----------------------------------------------------------------------------------------
Millions
Real Estate Assets $ 72.1 $ 75.1
Debt and Equity Securities 38.3 35.8
Emerging Technology Investments 8.5 13.6
- -----------------------------------------------------------------------------------------
$118.9 $124.5
- -----------------------------------------------------------------------------------------
REAL ESTATE. At March 31, 2005, real estate assets included land of $45.9
million ($47.2 million at December 31, 2004), long-term finance receivables of
$8.3 million ($9.7 million at December 31, 2004) and $17.9 million ($18.2
million at December 31, 2004) of other assets, which consisted primarily of a
shopping center. Finance receivables have maturities ranging up to ten years,
accrue interest at market-based rates and are net of an allowance for doubtful
accounts of $0.6 million at March 31, 2005 ($0.7 million at December 31, 2004).
EMERGING TECHNOLOGY INVESTMENTS. In March 2005, we recorded $5.1 million ($3.3
million after tax) of impairment losses related to certain privately-held,
start-up companies whose future business prospects have diminished
significantly. Recent developments at these companies indicated that future
commercial viability is unlikely, as is new financing necessary to continue
development. The total carrying value of our direct investments in
privately-held, start-up companies at March 31, 2005, was zero. Our remaining
emerging technology investments consist of our interests in certain venture
capital funds. We account for these investments under the equity method.
NOTE 4. SHORT-TERM AND LONG-TERM DEBT
On March 16, 2005, Florida Landmark, an 80 percent owned subsidiary of ALLETE,
entered into an $8.5 million revolving development loan with CypressCoquina
Bank. The revolving development loan has an interest rate equal to the prime
rate, with an initial term of 36 months. The term of the loan may be extended 24
months, if certain conditions are met. The loan is guaranteed by Lehigh
Acquisition Corporation, an 80 percent owned subsidiary of ALLETE.
On March 31, 2005, ALLETE executed a bond purchase agreement with certain
institutional buyers in the private placement market to sell $35 million of
ALLETE's first mortgage bonds. When issued, on or about August 1, 2005, the
bonds will carry an interest rate of 5.28% and will have a term of 15 years.
ALLETE intends to use the proceeds from the bonds to redeem a portion of
ALLETE's outstanding long-term debt.
NOTE 5. OTHER INCOME (EXPENSE)
QUARTER ENDED
MARCH 31,
2005 2004
- ------------------------------------------------------------------------------------------------
Millions
Loss on Emerging Technology Investments (See Note 3.) $(5.9) $(0.5)
Investments and Other Income 1.7 0.9
- ------------------------------------------------------------------------------------------------
$(4.2) $ 0.4
- ------------------------------------------------------------------------------------------------
ALLETE First Quarter 2005 Form 10-Q 10
NOTE 6. INCOME TAX EXPENSE
QUARTER ENDED
MARCH 31,
2005 2004
- -------------------------------------------------------------------------------------------------------------------
Millions
Current Tax Expense
Federal $12.4 $ 8.7
State 3.2 3.1
- -------------------------------------------------------------------------------------------------------------------
15.6 11.8
- -------------------------------------------------------------------------------------------------------------------
Deferred Tax Expense (Benefit)
Federal (3.1) 1.6
State (0.3) (0.2)
- -------------------------------------------------------------------------------------------------------------------
(3.4) 1.4
- -------------------------------------------------------------------------------------------------------------------
Deferred Tax Credits (0.3) (0.6)
- -------------------------------------------------------------------------------------------------------------------
Income Tax Expense on Continuing Operations 11.9 12.6
Income Tax Expense (Benefit) on Discontinued Operations (0.4) 21.2
Income Tax Benefit on Change in Accounting Principle - (5.5)
- -------------------------------------------------------------------------------------------------------------------
Total Income Tax Expense $11.5 $28.3
- -------------------------------------------------------------------------------------------------------------------
NOTE 7. DISCONTINUED OPERATIONS
AUTOMOTIVE SERVICES. On September 20, 2004, the spin-off of our Automotive
Services business was completed by distributing to ALLETE shareholders all of
ALLETE's shares of ADESA common stock. One share of ADESA common stock was
distributed for each outstanding share of ALLETE common stock held at the close
of business on the September 13, 2004, record date.
In June 2004, ADESA issued 6.3 million shares of common stock through an initial
public offering priced at $24.00 per share. We accounted for the 6.6 percent
public ownership of ADESA as a minority interest and continued to own and
consolidate the remaining portion of ADESA until the spin-off was completed on
September 20, 2004.
WATER SERVICES. In June 2004, we essentially concluded our strategy to exit our
Water Services businesses when we completed the sale of our North Carolina water
assets and the sale of the remaining 72 water and wastewater systems in Florida.
Aqua America purchased our North Carolina water assets for $48 million and
assumed approximately $28 million in debt, and also purchased 63 of our water
and wastewater systems in Florida for $14 million. Seminole County purchased the
remaining 9 Florida systems for a total of $4 million. The FPSC approved the
Seminole County transaction in September 2004. The transaction relating to the
sale of 63 water and wastewater systems in Florida to Aqua America remains
subject to regulatory approval by the FPSC. The approval process may result in
an adjustment to the final purchase price, based on the FPSC's determination of
plant investment for the systems. A decision is expected in late 2005. Gains in
2004 from the sale of our North Carolina assets and the remaining systems in
Florida were offset by an adjustment to gains reported in 2003, resulting in an
overall net loss of $0.5 million in 2004 ($0.4 million loss first quarter; $5.8
million gain second quarter; $0.2 million loss third quarter; $5.7 million loss
fourth quarter).
In February 2005, we sold our wastewater assets in Georgia for an immaterial
gain. Florida Water continues to incur administrative expenses to support
transfer proceedings with the FPSC.
11 ALLETE First Quarter 2005 Form 10-Q
NOTE 7. DISCONTINUED OPERATIONS (CONTINUED)
SUMMARY OF DISCONTINUED OPERATIONS
- -------------------------------------------------------------------------------------------------------------------
Millions
QUARTER ENDED
MARCH 31,
INCOME STATEMENT 2005 2004
- -------------------------------------------------------------------------------------------------------------------
Operating Revenue
Automotive Services - $247.7
Water Services - 7.6
- -------------------------------------------------------------------------------------------------------------------
- $255.3
- -------------------------------------------------------------------------------------------------------------------
Pre-Tax Income (Loss) from Operations
Automotive Services - $ 53.5
Water Services - (0.4)
- -------------------------------------------------------------------------------------------------------------------
- 53.1
- -------------------------------------------------------------------------------------------------------------------
Income Tax Expense (Benefit)
Automotive Services - 21.6
Water Services - (0.2)
- -------------------------------------------------------------------------------------------------------------------
- 21.4
- -------------------------------------------------------------------------------------------------------------------
Total Net Income from Operations - 31.7
- -------------------------------------------------------------------------------------------------------------------
Loss on Disposal - Water Services $(1.0) (0.6)
Income Tax Benefit - Water Services (0.4) (0.2)
- -------------------------------------------------------------------------------------------------------------------
Net Loss on Disposal (0.6) (0.4)
- -------------------------------------------------------------------------------------------------------------------
Income (Loss) from Discontinued Operations $(0.6) $ 31.3
- -------------------------------------------------------------------------------------------------------------------
MARCH 31, DECEMBER 31,
BALANCE SHEET INFORMATION 2005 2004
- -------------------------------------------------------------------------------------------------------------------
Assets of Discontinued Operations
Cash and Cash Equivalents $1.2 $1.2
Other Current Assets $0.8 $0.8
Property, Plant and Equipment $2.5 $2.9
Liabilities of Discontinued Operations
Current Liabilities $5.4 $12.0
- -------------------------------------------------------------------------------------------------------------------
NOTE 8. COMPREHENSIVE INCOME
For the quarter ended March 31, 2005, total comprehensive income was $17.5
million ($42.8 million of income for the quarter ended March 31, 2004). Total
comprehensive income includes net income, unrealized gains and losses on
securities classified as available-for-sale, additional pension liability and
foreign currency translation adjustments.
ACCUMULATED OTHER COMPREHENSIVE MARCH 31,
INCOME (LOSS) - NET OF TAX 2005 2004
- -------------------------------------------------------------------------------------------------------------------
Millions
Unrealized Gain on Securities $ 1.6 $ 1.2
Additional Pension Liability (12.9) (9.8)
Foreign Currency Translation - Discontinued Operations - 21.0
- -------------------------------------------------------------------------------------------------------------------
$(11.3) $12.4
- -------------------------------------------------------------------------------------------------------------------
ALLETE First Quarter 2005 Form 10-Q 12
NOTE 9. 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. For the quarter
ended March 31, 2005, options to purchase 119,077 shares of common stock (0
shares for the quarter ended March 31, 2004) were excluded from the computation
of diluted earnings per share because they were anti-dilutive due to the option
exercise prices being greater than the average market price of the common shares
during the period.
QUARTER ENDED QUARTER ENDED
MARCH 31, 2005 MARCH 31, 2004
----------------------------------------------------------------------
RECONCILIATION OF BASIC AND DILUTED DILUTIVE DILUTIVE
EARNINGS PER SHARE BASIC SECURITIES DILUTED BASIC SECURITIES DILUTED
- -------------------------------------------------------------------------------------------------------------------
Millions Except Per Share Amounts
Income from Continuing Operations
Before Change in Accounting Principle $18.0 - $18.0 $21.4 - $21.4
Common Shares 27.2 0.2 27.4 28.1 0.2 28.3
Per Share from Continuing Operations $0.66 - $0.66 $0.77 - $0.76
- -------------------------------------------------------------------------------------------------------------------
NOTE 10. PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS
POSTRETIREMENT HEALTH
PENSION AND LIFE
----------------------------------------------------------------------
COMPONENTS OF PERIODIC BENEFIT EXPENSE 2005 2004 2005 2004
- -------------------------------------------------------------------------------------------------------------------
Millions
FOR THE QUARTER ENDED MARCH 31,
Service Cost $2.2 $2.1 $1.0 $1.1
Interest Cost 5.3 5.2 1.7 1.8
Expected Return on Plan Assets (7.1) (6.9) (1.2) (1.1)
Amortization of Prior Service Costs 0.2 0.2 - -
Amortization of Net Loss 0.8 0.4 0.2 0.2
Amortization of Transition Obligation 0.1 0.1 0.6 0.6
- -------------------------------------------------------------------------------------------------------------------
Periodic Benefit Expense $1.5 $1.1 $2.3 $2.6
- -------------------------------------------------------------------------------------------------------------------
In May 2004, the FASB issued FSP 106-2, "Accounting and Disclosure Requirements
Related to the Medicare Prescription Drug, Improvement and Modernization Act of
2003 (Act)," which provides accounting and disclosure guidance for employers
that sponsor postretirement health care plans that provide prescription drug
benefits. FSP 106-2 requires that the accumulated postretirement benefit
obligation and postretirement benefit cost reflect the impact of the Act upon
adoption. We provide postretirement health benefits that include prescription
drug benefits and have concluded that our prescription drug benefits will
qualify us for the federal subsidy to be provided for under the Act. We adopted
FSP 106-2 in the third quarter of 2004. The impact of adoption reduced our
after-tax postretirement medical expense by $0.5 million for the quarter ended
March 31, 2005.
13 ALLETE First Quarter 2005 Form 10-Q
NOTE 11. EMPLOYEE STOCK AND INCENTIVE PLANS
We sponsor a leveraged ESOP as part of our Retirement Savings and Stock
Ownership Plan (RSOP). As a result of the September 2004 spin-off of ADESA, the
ESOP received 3.3 million shares of ADESA common stock related to unearned ESOP
shares that have not been allocated to participants. The ESOP was required to
sell the ADESA common stock and use the proceeds to purchase ALLETE common stock
on the open market. At December 31, 2004, the ESOP had sold all of these ADESA
shares. The 3.3 million ADESA shares sold by the ESOP in 2004 resulted in total
proceeds of $65.9 million and an after-tax gain of $11.5 million, which we
recognized in the fourth quarter of 2004. Under the direction of an independent
trustee, the ESOP began using the proceeds to purchase shares of ALLETE common
stock in October 2004. As of February 15, 2005, the remaining proceeds ($30.3
million classified as Restricted Cash at December 31, 2004) had been used to
purchase ALLETE common stock, which were recorded using the treasury method as
Unearned ESOP Shares within Shareholders' Equity on our consolidated balance
sheet.
SUMMARY OF ALLETE COMMON STOCK PURCHASES SHARES AMOUNT
- -------------------------------------------------------------------------------------------------------------------
Millions Except Shares
2004 October 80,600 $ 2.7
November 669,578 23.5
December 262,600 9.4
2005 January 544,797 21.4
February 214,928 8.9
- -------------------------------------------------------------------------------------------------------------------
1,772,503 $65.9
- -------------------------------------------------------------------------------------------------------------------
UNALLOCATED SHARES. As of March 31, 2005, there were 2,727,884 unallocated
shares of ALLETE common stock in the ESOP (2,001,505 shares at December 31,
2004), which reflects 759,725 shares purchased and 33,346 shares allocated in
2005. Pursuant to AICPA Statement of Position 93-6, "Employers' Accounting for
Employee Stock Ownership Plans," unallocated ALLETE common stock currently held
by the ESOP is treated as unearned ESOP shares and not considered outstanding
for earnings per share computations. ESOP shares are included in earnings per
share computations after they are allocated to participants.
ALLOCATED SHARES. As of March 31, 2005, participants in the RSOP had $49.8
million, or 2.1 million shares, invested in ADESA common stock through an ADESA
common stock fund in the RSOP. Beginning in September 2005, the RSOP trustee is
expected to start selling the ADESA common stock and purchasing ALLETE common
stock according to the requirements of the RSOP. Participants may transfer out
of the ADESA common stock fund at any time. That decision results in a sale of
ADESA common stock but will not result in a purchase of ALLETE common stock,
unless the participant chooses to transfer those funds to the ALLETE common
stock fund.
NOTE 12. COMMITMENTS, GUARANTEES AND CONTINGENCIES
SQUARE BUTTE POWER PURCHASE AGREEMENT. Minnesota Power 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-MW coal-fired
generating unit (Unit) near Center, North Dakota. The Unit is adjacent to a
generating unit owned by Minnkota Power, a North Dakota cooperative corporation
whose Class A members are also members of Square Butte. Minnkota Power 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 Power has the option to reduce Minnesota Power's
entitlement by approximately 5 percent annually, to a minimum of 50 percent. In
December 2004 and 2003, we received notices from Minnkota Power that they will
reduce
ALLETE First Quarter 2005 Form 10-Q 14
NOTE 12. COMMITMENTS, GUARANTEES AND CONTINGENCIES (Continued)
our output entitlement by approximately 5 percent in 2006 and 2007, to 66
percent and 60 percent, respectively. 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 will be 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 March
31, 2005, Square Butte had total debt outstanding of $310.9 million. Total
annual debt service for Square Butte is expected to be approximately $25 million
in each of the years 2005 through 2009. Variable operating costs include the
price of coal purchased from BNI Coal, our subsidiary, under a long-term
contract. Minnesota Power's payments to Square Butte are approved as a purchased
power expense for ratemaking purposes by both the MPUC and the FERC.
LEASING AGREEMENTS. In September 2004, BNI Coal entered into an operating lease
agreement for a new dragline that was placed in service at BNI Coal's mine on
September 30, 2004. BNI Coal is obligated to make lease payments totaling $2.8
million annually for the lease term which expires in 2027. BNI Coal has the
option at the end of the lease term to renew the lease at a fair market rental,
to purchase the dragline at fair market value, or to surrender the dragline and
pay a $3.0 million termination fee.
We lease other properties and equipment under operating lease agreements with
terms expiring through 2013. The aggregate amount of minimum lease payments for
all of these other operating leases is $6.3 million in 2005, $6.0 million in
2006, $5.6 million in 2007, $4.9 million in 2008 and $53.4 million thereafter.
COAL AND SHIPPING CONTRACTS. We have three coal supply agreements with various
expiration dates ranging from December 2006 to December 2009. We also have rail
and shipping agreements for transportation of all of our coal, with various
expiration dates ranging from December 2005 to December 2011. Our minimum annual
obligations under these coal and shipping agreements are $38.7 million in 2005,
$12.3 million in 2006, $9.7 million in 2007, $10.1 million in 2008 and $6.1
million in 2009.
EMERGING TECHNOLOGY PORTFOLIO. We have investments in emerging technologies
through minority investments in venture capital funds structured as limited
liability companies, and direct investments in privately-held, start-up
companies. The carrying value of our direct investments in privately-held,
start-up companies was zero at March 31, 2005. We have committed to make
additional investments in certain emerging technology venture capital funds. The
total future commitment was $4.0 million at March 31, 2005, ($4.5 million at
December 31, 2004) and is expected to be invested at various times through 2007.
We do not have plans to make any additional investments beyond this commitment.
ENVIRONMENTAL MATTERS. Our businesses are subject to regulation by various
federal, state and local authorities concerning environmental matters. We
anticipate that potential expenditures for environmental matters will be
material in the future, due to stricter environmental requirements through
legislation and/or rulemakings that are expected to require significant capital
investments. We are unable to predict if and when any such stricter
environmental requirements will be imposed and the impact they will have on the
Company. We review environmental matters on a quarterly basis. Accruals for
environmental matters are recorded when it is probable that a liability has been
incurred and the amount of the liability can be reasonably estimated, based on
current law and existing technologies. These accruals are adjusted periodically
as assessment and remediation efforts progress or as additional technical or
legal information becomes available. Accruals for environmental liabilities are
included in the balance sheet at undiscounted amounts and exclude claims for
recoveries from insurance or other third parties. Costs related to environmental
contamination treatment and cleanup are charged to expense unless recoverable in
rates from customers.
15 ALLETE First Quarter 2005 Form 10-Q
NOTE 12. COMMITMENTS, GUARANTEES AND CONTINGENCIES (CONTINUED)
SWL&P MANUFACTURED GAS PLANT. In May 2001, SWL&P received notice from the WDNR
that the City of Superior had found soil contamination on property adjoining a
former Manufactured Gas Plant (MGP) site owned and operated by SWL&P's
predecessors from 1889 to 1904. The WDNR requested SWL&P to initiate an
environmental investigation. The WDNR also issued SWL&P a Responsible Party
letter in February 2002. The environmental investigation is under way. In
February 2003, SWL&P submitted a Phase II environmental site investigation
report to the WDNR. This report identified some MGP-like chemicals that were
found in the soil near the former plant site. During March and April 2003,
sediment samples were taken from nearby Superior Bay. The report on the results
of this sampling was completed and sent to the WDNR during the first quarter of
2004. The next phase of the investigation is to determine any impact to soil or
ground water between the former MGP site and Superior Bay. The site work for
this phase of the investigation was performed during October 2004, and the final
report was sent to the WDNR in March 2005. Additional site investigation will be
needed during 2005. A work plan for the additional investigation will be filed
with the WDNR during the second quarter of 2005. Although it is not possible to
quantify the potential cleanup cost until the investigation is completed, a
$0.5 million liability was recorded in December 2003 to address the known areas
of contamination. We have recorded a corresponding dollar amount as a regulatory
asset to offset this liability. The PSCW has approved SWL&P's deferral of these
MGP environmental investigation and potential cleanup costs for future recovery
in rates, subject to a regulatory prudency review. ALLETE maintains pollution
liability insurance coverage that includes coverage for SWL&P. A claim has been
filed with respect to this matter. The insurance carrier has issued a
reservation of rights letter and we continue to work with the insurer to
determine the availability of insurance coverage.
SQUARE BUTTE GENERATING FACILITY. In June 2002, Minnkota Power, the operator of
Square Butte, received a Notice of Violation from the EPA regarding alleged New
Source Review violations at the M.R. Young Station, which includes the Square
Butte generating unit. The EPA claims certain capital projects completed by
Minnkota Power should have been reviewed pursuant to the New Source Review
regulations, potentially resulting in new air permit operating conditions.
Minnkota Power has held several meetings with the EPA to discuss the alleged
violations. Discussions with the EPA are ongoing and we are unable to predict
the outcome or cost impacts. If Square Butte is required to make significant
capital expenditures to comply with EPA requirements, we expect such capital
expenditures to be debt financed. Our future cost of purchased power would
include our pro rata share of this additional debt service.
CLEAN WATER ACT - AQUATIC ORGANISMS. In July 2004, the EPA issued Section 316(b)
Phase II Rule of the Clean Water Act to ensure that the location, design,
construction and capacity of cooling water intake structures at electric
generating facilities reflect the best technology available to reduce fish
mortality due to impingement (being pinned against screens or other parts of a
cooling water intake structure) or entrainment (being drawn into cooling water
systems and subjected to thermal, physical or chemical stresses). The new rule
for fish impingement requirements apply to the Boswell, Laskin, Hibbard and
Square Butte generating facilities. The impingement and entrainment requirements
apply to Taconite Harbor because it is located on Lake Superior. The rule
requires biological studies and engineering analyses to be performed within the
2005 to 2008 time frame. The estimated total cost of these studies for our
facilities is expected to be in the range of $0.5 million to $1.0 million. We
cannot yet estimate the capital expenditures that may be required as a result of
the study.
EPA CLEAN AIR INTERSTATE RULE AND CLEAN AIR MERCURY RULE. On March 10, 2005, the
EPA announced the final Clean Air Interstate Rule (CAIR) that reduces and
permanently caps emissions of sulfur dioxide (SO2), nitrogen oxides (NOX) and
particulates in the eastern United States. Minnesota is included in the 28
states named in CAIR. On March 15, 2005, the EPA announced the final Clean Air
Mercury Rule (CAMR) that reduces and permanently caps emissions of electric
utility mercury emissions in the continental United States. Together, the two
rules address at least some of the emission reductions that were targeted by the
Clear Skies Act legislation that received a tie vote in the Senate Environment
and Public Works Subcommittee. It is likely the CAIR and the CAMR will be
subject to judicial challenge, which may delay implementation or modify
provisions in the rules. However, if the CAMR and the CAIR do go into effect,
Minnesota Power expects to make (1) significant emissions reductions, (2)
purchases of mercury, SO2 and NOX allowances through the EPA's cap-and-trade
system, and/or (3) a combination of both. The Clear Skies legislation is being
revisited and, if enacted, will likely displace implementation of the rules.
Even if the Clear Skies legislation is revived, it may be difficult to
re-characterize Minnesota as a western state now that the EPA has publicly
issued a rule in which Minnesota is included as an eastern state. Our estimates
for capital expenditures assumed that Minnesota was a western state. We estimate
ALLETE First Quarter 2005 Form 10-Q 16
NOTE 12. COMMITMENTS, GUARANTEES AND CONTINGENCIES (CONTINUED)
that our capital expenditures for 2006 to 2009 will increase approximately $175
million due to these new rules with status as an eastern state. Legal challenges
to the rules can be established within 60 days of the rules being published in
the Federal Register, which is expected to occur in May 2005. The Company is
analyzing the ramifications of these developments.
OTHER. We are involved in litigation arising in the normal course of business.
Also in the normal course of business, we are involved in tax, regulatory and
other governmental audits, inspections, investigations and other proceedings
that involve state and federal taxes, safety, compliance with regulations, rate
base and cost of service issues, among other things. While the resolution of
such matters could have a material effect on earnings and cash flows in the year
of resolution, none of these matters are expected to change materially our
present liquidity position, nor have a material adverse effect on our financial
condition.
NOTE 13. SUBSEQUENT EVENT
On April 1, 2005, Rainy River Energy, a wholly owned subsidiary, completed the
assignment of its power purchase agreement with LSP-Kendall Energy, LLC, the
owner of an energy generation facility located in Kendall County, Illinois, to
Constellation Energy Commodities. Rainy River Energy paid Constellation Energy
Commodities $73 million in cash to assume the power purchase agreement, which is
in effect through mid-September 2017. The payment will result in a charge to our
operating income in the second quarter of 2005. The tax benefits of the payment
will be realized through a capital loss carry-back for federal income tax
purposes. The tax benefits will be received in the first half of 2006. In
addition, consent, advisory and closing costs of approximately $5 million were
incurred to complete the transaction. As a result of this transaction, ALLETE
will recognize operating expenses totaling $78 million ($50.4 million after tax,
or approximately $1.84 per diluted share) in the second quarter of 2005.
17 ALLETE First Quarter 2005 Form 10-Q
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with our consolidated
financial statements and notes to those statements and the other financial
information appearing elsewhere in this report. In addition to historical
information, the following discussion and other parts of this report contain
forward-looking information that involves risks and uncertainties.
EXECUTIVE SUMMARY
ALLETE's operations are comprised of four business segments. REGULATED UTILITY
includes retail and wholesale rate-regulated electric, water and gas services in
northeastern Minnesota and northwestern Wisconsin under the jurisdiction of
state and federal regulatory authorities. NONREGULATED ENERGY OPERATIONS
includes nonregulated generation (non-rate base generation sold at market-based
rates to the wholesale market) from Taconite Harbor in northern Minnesota and
our coal mining activities in North Dakota. Nonregulated Energy Operations also
included generation secured through the Kendall County power purchase agreement,
which was transferred in April 2005 to Constellation Energy Commodities. (See
Note 13.) REAL ESTATE includes our Florida real estate operations. OTHER
includes our telecommunications activities, investments in emerging technologies
and earnings on cash. DISCONTINUED OPERATIONS includes our Automotive Services
business, our Water Services businesses, and spin-off costs incurred by ALLETE.
Income from continuing operations was $18.0 million, or $0.66 per diluted share,
for the quarter ended March 31, 2005 ($21.4 million, or $0.76 per diluted share,
for the quarter ended March 31, 2004). Lower income from continuing operations
in 2005 was due to $3.3 million, or $0.12 per diluted share, of impairment
losses related to our privately-held emerging technology investments, and the
timing of closing real estate transactions.
In total, net income and diluted earnings per share for the quarter ended March
31, 2005, decreased 61 percent and 60 percent, respectively, from the same
period in 2004. In addition to reasons stated above for lower earnings from
continuing operations, the decrease reflected reduced earnings from discontinued
operations following the spin-off of Automotive Services and the exit from the
Water Services businesses. Earnings per share for 2005 were favorably impacted
by ALLETE common stock purchased pursuant to the Company's Retirement Savings
and Stock Ownership Plan. (See Note 11.)
QUARTER ENDED
MARCH 31,
2005 2004
- -------------------------------------------------------------------------------------------------------------------
Millions
Operating Revenue
Regulated Utility $147.6 $141.4
Nonregulated Energy Operations 27.9 29.0
Real Estate 17.7 27.6
Other 13.7 11.0
- -------------------------------------------------------------------------------------------------------------------
$206.9 $209.0
- -------------------------------------------------------------------------------------------------------------------
Operating Expenses
Regulated Utility $122.4 $116.7
Nonregulated Energy Operations 24.7 28.1
Real Estate 4.5 7.7
Other 13.2 12.4
- -------------------------------------------------------------------------------------------------------------------
$164.8 $164.9
- -------------------------------------------------------------------------------------------------------------------
Interest Expense
Regulated Utility $4.3 $4.7
Nonregulated Energy Operations 1.3 1.2
Real Estate - 0.1
Other 1.2 3.1
- -------------------------------------------------------------------------------------------------------------------
$6.8 $9.1
- -------------------------------------------------------------------------------------------------------------------
Other Income (Expense)
Nonregulated Energy Operations $ 0.2 $(0.5)
Other (4.4) 0.9
- -------------------------------------------------------------------------------------------------------------------
$(4.2) $ 0.4
- -------------------------------------------------------------------------------------------------------------------
ALLETE First Quarter 2005 Form 10-Q 18
QUARTER ENDED
MARCH 31,
2005 2004
- -------------------------------------------------------------------------------------------------------------------
Millions Except Per Share Amounts
Net Income (Loss)
Regulated Utility $12.9 $12.5
Nonregulated Energy Operations 1.6 (0.2)
Real Estate 6.9 10.9
Other (3.4) (1.8)
- -------------------------------------------------------------------------------------------------------------------
Income from Continuing Operations 18.0 21.4
Income (Loss) from Discontinued Operations (0.6) 31.3
Change in Accounting Principle - (7.8)
- -------------------------------------------------------------------------------------------------------------------
Net Income $17.4 $44.9
- -------------------------------------------------------------------------------------------------------------------
Diluted Average Shares of Common Stock 27.4 28.3
- -------------------------------------------------------------------------------------------------------------------
Diluted Earnings (Loss) Per Share of Common Stock
Continuing Operations $0.66 $0.76
Discontinued Operations (0.02) 1.10
Change in Accounting Principle - (0.27)
- -------------------------------------------------------------------------------------------------------------------
$0.64 $1.59
- -------------------------------------------------------------------------------------------------------------------
In 2005, we began allocating corporate charges and interest expenses to our
business segments. For comparative purposes, segment information for 2004 has
been restated to reflect the new allocation method used in 2005 for corporate
charges and interest expense.
QUARTER ENDED
MARCH 31,
2005 2004
- -------------------------------------------------------------------------------------------------------------------
KILOWATTHOURS SOLD
Millions
Regulated Utility
Retail and Municipals
Residential 319.8 310.3
Commercial 339.8 331.9
Industrial 1,777.1 1,766.8
Municipals 222.0 213.8
Other 20.4 20.2
- -------------------------------------------------------------------------------------------------------------------
2,679.1 2,643.0
Other Power Suppliers 236.7 217.2
- -------------------------------------------------------------------------------------------------------------------
2,915.8 2,860.2
Nonregulated Energy Operations 353.9 434.0
- -------------------------------------------------------------------------------------------------------------------
3,269.7 3,294.2
- -------------------------------------------------------------------------------------------------------------------
REAL ESTATE
Acres Sold 483 1,268
Lots Sold 7 199
- -------------------------------------------------------------------------------------------------------------------
19 ALLETE First Quarter 2005 Form 10-Q
NET INCOME
The following net income discussion summarizes a comparison of the quarter ended
March 31, 2005, to the quarter ended March 31, 2004.
REGULATED UTILITY contributed net income of $12.9 million in 2005 ($12.5 million
in 2004). In 2005, a 9 percent increase in kilowatthour sales to other power
suppliers, higher off-peak prices and strong retail electric sales mostly offset
$1.2 million of additional outage expense primarily due to planned maintenance
at one of the Company's generating stations.
NONREGULATED ENERGY OPERATIONS contributed net income of $1.6 million in 2005
($0.2 million net loss in 2004). Net income from Taconite Harbor was higher than
last year primarily due to a power sales contract that began in May 2004.
Positive earnings contributions of $3.4 million from Taconite Harbor and BNI
Coal were partially offset by a $1.9 million net loss at the Kendall County
facility.
REAL ESTATE contributed net income of $6.9 million in 2005 ($10.9 million in
2004). While real estate sales were strong at ALLETE Properties' southwest
Florida operations in 2005, the decrease in sales volume compared to 2004 was
primarily attributed to the timing of the closing of real estate transactions,
which varies from period to period and impacts comparisons between years.
OTHER reflected a net loss of $3.4 million in 2005 ($1.8 million net loss in
2004). In 2005, $3.3 million of impairment losses related to our emerging
technology investments partially offset the positive impact of lower interest
expense due to lower debt balances and expense reductions following the spin-off
of Automotive Services and exit from the Water Services businesses in 2004.
DISCONTINUED OPERATIONS reflected a net loss of $0.6 million in 2005 ($31.3
million of net income in 2004). The $31.9 million decrease reflected the absence
of operations following the spin-off of Automotive Services in September 2004. A
$0.6 million loss was incurred at Water Services related to Florida Water, which
continues to incur administrative expenses to support transfer proceedings with
the FPSC.
COMPARISON OF THE QUARTERS ENDED MARCH 31, 2005 AND 2004
REGULATED UTILITY
OPERATING REVENUE was up $6.2 million, or 4 percent, from 2004. Revenue
from other power suppliers (power marketing) was up $2.0 million from 2004,
due to a 9 percent increase in kilowatthour sales and higher off-peak
market prices. Transmission revenue was up $1.5 million from 2004,
reflecting increased MISO-related revenue (see operating expenses below).
Revenue from sales to retail and municipal customers was up $2.0 million,
mostly due to a 3 percent increase in kilowatthour sales to
,
commercial and municipal customers as a result of cooler weather in 2005.
Overall, regulated utility kilowatthour sales were up 2 percent from 2004.
Revenue from electric sales to taconite customers accounted for 21 percent
of consolidated operating revenue in both 2005 and 2004. Electric sales to
paper and pulp mills accounted for 8 percent of consolidated operating
revenue in both 2005 and 2004. Like 2004, our industrial customers are
operating at high production levels, with taconite and paper production at
or near capacity.
OPERATING EXPENSES were up $5.7 million, or 5 percent, from 2004. Fuel and
purchased power expense was up $4.4 million from 2004, reflecting increased
fuel expense, due to a 15 percent increase in Company generation, and a
$1.5 million increase in MISO fees (see operating revenue above). These
increases were partially offset by lower purchased power expense in 2005.
In 2004, an outage at Boswell Unit 4 required additional power to be
purchased. Outage expenses were up $2.0 million from 2004, primarily due to
planned maintenance that was performed at Boswell Unit 3 while the unit was
down during a cooling tower failure. Costs related to the temporary cooling
tower were paid by our insurance carrier. In 2004, operating expenses
included $1.7 million of expenses related to Split Rock Energy, a joint
venture, which we exited in March 2004.
INTEREST EXPENSE was down $0.4 million from 2004, due to lower effective
interest rates.
ALLETE First Quarter 2005 Form 10-Q 20
NONREGULATED ENERGY OPERATIONS
OPERATING REVENUE was down $1.1 million, or 4 percent, from 2004. Revenue
from nonregulated generation was down $2.5 million from 2004, primarily due
to an 18 percent decline in kilowatthour sales. A decline in kilowatthour
sales at Taconite Harbor was partially offset by the impact of a
76-megawatt capacity contract that began in May 2004 and higher prices on
off-peak sales. Kilowatthour sales at Kendall County were also down from
2004, reflecting negative spark spreads (the differential between electric
and natural gas prices) in the wholesale power market. Coal revenue was up
$1.8 million from 2004 because of higher coal production expenses (see
operating expenses below). Coal revenue is derived from a cost-plus
contract.
OPERATING EXPENSES were down $3.4 million, or 12 percent, from 2004.
Nonregulated generation fuel and purchased power expense was down $4.2
million from 2004, reflecting a decline in kilowatthour sales at Taconite
Harbor and decreased operations at Kendall County. Negative spark spreads
continued in 2005 and limited the need for generation produced at Kendall
County. Other operating expenses at Taconite Harbor were higher in
2005--sulfur dioxide emission allowance expenses were up $0.4 million and
depreciation expense was up $0.2 million as a result of capitalized
projects being completed. Expenses related to our coal operations were up
$1.5 million because fewer equipment repairs were required in 2004.
OTHER INCOME (EXPENSE) reflected $0.7 million more income in 2005,
primarily due to the timing of contract services related to the
Duluth-to-Wausau transmission line.
REAL ESTATE
OPERATING REVENUE was down $9.9 million, or 36 percent, from 2004,
primarily due to lower sales volume. In 2005, 483 acres and 7 lots were
sold for $17.0 million, excluding deferred revenue of $1.0 million (1,268
acres and 199 lots for $26.1 million in 2004, excluding deferred revenue of
$0). Land sales were lower in 2005, primarily due to timing of transactions
closing. Lot sales were also lower in 2005 because in January 2004 we sold
the remaining 184 lots at Sugarmill Woods for $3.9 million, essentially
exiting the lot business.
At March 31, 2005, total land sales under contract were $83.6 million, of
which $56.1 million were for properties in the Town Center development
project at Palm Coast. Pricing on these contracts ranges from $85,000 to
$685,000 per acre for the Town Center development project at Palm Coast,
$2,000 to $154,000 per acre for all other properties. Prices per acre are
stated on a gross acreage basis and it should be noted that the majority of
these properties under contract are zoned commercial and mixed use.
OPERATING EXPENSES were down $3.2 million, or 42 percent, from 2004, due to
lower sales volume in 2005. Cost of sales were down $2.2 million from 2004
($2.6 million in 2005; $4.8 million in 2004), while selling expenses were
down $0.7 million.
OTHER
OPERATING REVENUE was up $2.7 million, or 25 percent, from 2004, due to
increased revenue from our telecommunications business because of more
equipment sales.
OPERATING EXPENSES were up $0.8 million, or 6 percent, from 2004,
reflecting a $1.4 million increase in expenses at our telecommunication
business, primarily due to higher cost of goods sold associated with
increased sales, partially offset by expense reductions following the
spin-off of Automotive Services and exit from the Water Services businesses
in 2004.
INTEREST EXPENSE was down $1.9 million from 2004, primarily due to lower
debt balances. The Company repaid a $53 million balance on a credit
agreement in April 2004 and $125 million of 7.80% Senior Notes in July
2004. A combination of internally-generated funds, proceeds from the sale
of our Water Services assets and proceeds received from ADESA were used to
repay debt.
OTHER INCOME (EXPENSE) reflected $5.3 million less income in 2005,
primarily due to $5.1 million of impairment losses related to our
privately-held emerging technology investments. Other income
21 ALLETE First Quarter 2005 Form 10-Q
reflected a $1.1 million increase in earnings on excess cash in 2005. In
2004, $1.2 million of income from a rabbi trust, established to secure
certain deferred executive compensation, was recorded.
INCOME TAXES
The effective rate on income taxes increased primarily as a result of the
emerging technology investment impairment write-offs recorded in March 2005. The
current benefit for these impairment write-offs is limited to a federal benefit
for income tax purposes. The state benefit from these impairment write-offs is
not expected to be realized currently or in future periods. Current taxes also
increased due to the expiration of the accelerated depreciation deduction
allowed by the Jobs and Growth Tax Relief Act of 2003, which expired December
31, 2004.
CRITICAL ACCOUNTING POLICIES
Certain accounting measurements under applicable GAAP involve management's
judgment about subjective factors and estimates, the effects of which are
inherently uncertain. Accounting measurements that we believe are most critical
to our reported results of operations and financial condition include:
impairment of long-lived assets, pension and postretirement health and life
actuarial assumptions, valuation of investments and provisions for environmental
remediation. These policies are reviewed with the Audit Committee of our Board
of Directors on a regular basis and summarized in our 2004 Form 10-K.
OUTLOOK
As a result of the April 2005 assignment of the Kendall County power purchase
agreement to Constellation Commodities Group, in the second quarter of 2005, we
will record expenses totaling $50.4 million after tax, or approximately $1.84
per diluted share. The exit from the Kendall County power purchase agreement has
eliminated ongoing annual losses of approximately $8 million after tax.
In 2005, we have fewer shares outstanding for earnings per share calculation
purposes. The ESOP used proceeds from the sale of ADESA stock to purchase ALLETE
common stock on the open market. Pursuant to AICPA Statement of Position 93-6,
"Employers' Accounting for Employee Stock Ownership Plans," unallocated ALLETE
common stock currently held by the ESOP is treated as unearned ESOP shares and
not considered outstanding for earnings per share computations. ESOP shares are
included in earnings per share computations after they are allocated to
participants. As of February 15, 2005, all of the proceeds had been used to
purchase ALLETE common stock. (See Note 11.)
We reaffirm our 2005 earnings guidance stated in our 2004 Form 10-K.
REGULATED UTILITY AND NONREGULATED ENERGY OPERATIONS
As a result of MISO Day 2 implementation on April 1, 2005, energy transactions
to serve retail customers are sourced by wholesale transactions with MISO as the
counterparty. Minnesota Power filed a petition with the MPUC in February 2005 to
amend the fuel clause to accommodate costs and revenue related to MISO Day 2
market implementation. On March 24, 2005, the MPUC approved interim accounting
treatment of MISO Day 2 costs to be accounted for on a net basis and recovered
through the fuel clause. This interim treatment will continue until the MPUC
addresses the cost recovery petitions from Xcel Energy Inc., Otter Tail Power
Company, Alliant Energy Corporation and Minnesota Power. The MPUC action
regarding MISO Day 2 will include an analysis of how the fuel clause is
affected, and whether it should be modified as a result of Day 2.
On April 14, 2005, the PSCW approved an 11.7 percent return on common equity and
a 3.9 percent average increase in retail utility rates for SWL&P customers. New
rates are expected to be implemented in early May 2005, following the receipt of
a final order from the PSCW.
ALLETE First Quarter 2005 Form 10-Q 22
REAL ESTATE
On March 2, 2005, Florida Landmark signed an agreement with Developers Realty
Corporation (DRC) to develop the first phase of the urban core area of Town
Center at Palm Coast. The agreement also includes the development of a 51-acre
commercial retail site. The agreement provides that DRC has an inspection period
through July 31, 2005, which allows DRC to terminate the agreement with no
penalty. Revenue associated with this agreement is anticipated to be $21.8
million over the life of the contract, which extends to September 2012. DRC is a
regional commercial developer with strong ties to national retailers and has
experience developing "lifestyle center" projects.
ALLETE Properties occasionally provides seller financing, and outstanding
finance receivables were $8.3 million at March 31, 2005, with maturities ranging
up to ten years. Outstanding finance receivables accrue interest at market-based
rates.
SUMMARY OF DEVELOPMENT PROJECTS TOTAL RESIDENTIAL COMMERCIAL OFFICE INDUSTRIAL
AT MARCH 31, 2005 OWNERSHIP ACRES <F1> UNITS <F2> SQ. FT. <F2> SQ. FT. <F2> SQ. FT. <F2>
- ------------------------------------------------------------------------------------------------------------------------
Town Center at Palm Coast 80% 1,550 2,950 2,175,000 1,350,000 -
Palm Coast Park 100% 4,705 3,600 1,600,000 800,000 800,000
Ormond Crossings <F3> 100% 5,820 - - - -
- ------------------------------------------------------------------------------------------------------------------------
12,075 6,550 3,775,000 2,150,000 800,000
- ------------------------------------------------------------------------------------------------------------------------
<FN>
<F1> Acreage amounts are approximate and shown on a gross basis, including wetlands and minority interest. Acreage
amounts may vary due to platting or surveying activity. Wetland amounts vary by property and are often not
formally determined prior to sale.
<F2> Estimated and includes minority interest. The actual property breakdown at full build-out may be different than
the estimates.
<F3> Units and square footage have not been determined.
</FN>
SUMMARY OF OTHER LAND INVENTORIES
AT MARCH 31, 2005 OWNERSHIP TOTAL MIXED USE RESIDENTIAL COMMERCIAL AGRICULTURAL
- ------------------------------------------------------------------------------------------------------------------------
ACRES <F1>
Palm Coast Holdings 80% 2,897 1,848 513 281 255
Lehigh 80% 827 600 134 84 9
Cape Coral 100% 89 - 1 88 -
Other 100% 908 - - - 908
- ------------------------------------------------------------------------------------------------------------------------
4,721 2,448 648 453 1,172
- ------------------------------------------------------------------------------------------------------------------------
<FN>
<F1> Acreage amounts are approximate and shown on a gross basis, including wetlands and minority interest. Acreage
amounts may vary due to platting or surveying activity. Wetland amounts vary by property and are often not
formally determined prior to sale. The actual property breakdown at full build-out may be different than the
estimates.
</FN>
LIQUIDITY AND CAPITAL RESOURCES
CASH FLOW ACTIVITIES
A primary goal of our strategic plan is to improve cash flow from operations.
Our strategy includes growing our businesses both internally by expanding
facilities, services and operations (see Capital Requirements), and externally
through acquisitions.
We believe our financial condition is strong, as evidenced by cash and cash
equivalents of $213.2 million and a debt to total capital ratio of 39 percent at
March 31, 2005. We continued to generate strong cash flow from operating
activities, which amounted to $37.3 million for the first quarter of 2005,
excluding discontinued operations ($14.8 million for the first quarter of 2004).
Cash from operating activities was higher in 2005, primarily reflecting the
collection of an outstanding receivable at December 31, 2004, from American
Transmission Company LLC for work on the Duluth-to-Wausau transmission line, and
timing of tax payments.
Cash for investing activities, excluding discontinued operations, was lower in
2005, primarily due to $12 million received from Split Rock Energy in 2004 upon
termination of the joint venture. This decrease was offset by lower additions to
property, plant and equipment in 2005, which vary from period to period
depending on projects.
Cash for financing activities, excluding discontinued operations, remained
relatively unchanged.
23 ALLETE First Quarter 2005 Form 10-Q
ALLETE Properties' Town Center at Palm Coast development project in Florida
(Town Center) will be financed with a revolving development loan and tax-exempt
bonds. In March 2005, Florida Landmark entered into an $8.5 million revolving
development loan with CypressCoquina Bank to fund approximately $26 million of
Town Center development costs. The loan has an interest rate equal to the prime
rate with an initial term of 36 months. The term of the loan may be extended 24
months, if certain conditions are met. Also in March 2005, the Town Center at
Palm Coast Community Development District (Town Center CDD) issued $26.4 million
of tax-exempt, 6% Capital Improvement Revenue Bonds, Series 2005, due May 1,
2036 (Bonds). Approximately $21 million of the Bond proceeds will be used for
construction of infrastructure improvements at Town Center, with the remaining
funds to be used for capitalized interest, a debt service reserve fund and costs
of issuance. The Bonds are payable from and secured by the revenue derived from
assessments to be imposed, levied and collected by the Town Center CDD. The
assessments represent an allocation of the costs of the improvements, including
bond financing costs, to the lands within the Town Center CDD benefiting from
the improvements. The assessments will be included in the annual property tax
bills of land owners in the development project beginning in November 2006. Town
Center CDD is an independent unit of local government, created and established
in accordance with Florida's Uniform Community Development District Act of 1980
(Act). The Act provides legal authority for a community development district to
finance the construction of major infrastructure for community development with
general obligation, revenue and special assessment revenue debt obligations.
WORKING CAPITAL. Additional working capital, if and when needed, generally is
provided by the sale of commercial paper. Approximately 1 million original issue
shares of our common stock are available for issuance through INVEST DIRECT, our
direct stock purchase and dividend reinvestment plan.
DIVIDENDS. On April 20, 2005, our Board of Directors declared a dividend of 31.5
cents per share on ALLETE common stock payable June 1, 2005, to shareholders of
record at the close of business May 16, 2005.
SECURITIES
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 of a remaining aggregate amount of
$387 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. ALLETE also previously filed a
registration statement, which has been declared effective by the SEC, relating
to the possible issuance 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.
In March 2005, ALLETE executed a bond purchase agreement with certain
institutional buyers in the private placement market to sell $35 million of
ALLETE's first mortgage bonds. When issued, on or about August 1, 2005, the
bonds will carry an interest rate of 5.28% and will have a term of 15 years.
ALLETE intends to use the proceeds from the bonds to redeem a portion of
ALLETE's outstanding long-term debt.
OFF-BALANCE SHEET ARRANGEMENTS
Off-balance sheet arrangements are summarized in our 2004 Form 10-K, with
additional disclosure discussed in Note 12.
CAPITAL REQUIREMENTS
For three months ended March 31, 2005, capital expenditures for continuing
operations totaled $9.5 million ($13.8 million in 2004). Expenditures for three
months ended March 31, 2005, included $8.2 million for Regulated Utility, $0.7
million for Nonregulated Energy Operations and $0.6 million for Other, which
related to our telecommunications business. Internally-generated funds were the
source of funding for these expenditures. Capital expenditures are expected to
be $61 million in total for 2005 ($48 million for system component replacement
and upgrades within Regulated Utility; $11 million for system component
replacement and upgrades, and coal handling equipment within Nonregulated Energy
ALLETE First Quarter 2005 Form 10-Q 24
Operations; $2 million for telecommunication fiber within Other). We expect to
use internally-generated funds to fund all capital expenditures.
Due to the passage of two new EPA rules that reduce and permanently cap
emissions of mercury, sulfur dioxide, nitrogen oxides and particulates from the
electric utility industry, capital expenditures are now expected to total about
$675 million for 2006 through 2009, an increase of $175 million from the
previously anticipated $500 million. This estimated increase reflects additional
technological investment in our existing facilities. We are considering,
however, a combination of solutions that include both technology and emission
allowance purchases. (See Note 12.)
ENVIRONMENTAL MATTERS AND OTHER
As previously mentioned in our Critical Accounting Policies section, our
businesses are subject to regulation by various federal, state and local
authorities concerning environmental matters. We anticipate that potential
expenditures for environmental matters will be material in the future, due to
stricter environmental requirements through legislation and/or rulemakings that
are expected to require significant capital investments. We are unable to
predict the outcome of the issues discussed in Note 12.
NEW ACCOUNTING STANDARDS
New accounting standards are discussed in Note 1.
---------------------
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.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
SECURITIES INVESTMENTS
AVAILABLE-FOR-SALE SECURITIES. Our securities investments include certain
securities held for an indefinite period of time, which are accounted for as
available-for-sale securities. Available-for-sale securities are recorded at
fair value with unrealized gains and losses included in accumulated other
comprehensive income, net of tax. Unrealized losses that are other than
temporary are recognized in earnings. At March 31, 2005, our available-for-sale
securities portfolio consisted of securities in a grantor trust established to
fund certain employee benefits. Our available-for-sale securities portfolio had
a fair value of $30.8 million at March 31, 2005 ($30.2 million at December 31,
2004) and a total unrealized after-tax gain of $1.6 million at March 31, 2005
($1.5 million at December 31, 2004). We use the specific identification method
as the basis for determining the cost of securities sold. Our policy is to
review on a quarterly basis available-for-sale securities for other than
temporary impairment by assessing such factors as the continued viability of
products offered, cash flow, share price trends and the impact of overall market
conditions. As a result of our periodic assessments, we did not record any
impairment write-down on available-for-sale securities for the quarter ended
March 31, 2005.
EMERGING TECHNOLOGY PORTFOLIO. As part of our emerging technology portfolio, we
have several minority investments in venture capital funds and direct
investments in privately-held, start-up companies. We account for our investment
in venture capital funds under the equity method and account for our direct
investment in privately-held companies under the cost method. The total carrying
value of our emerging technology portfolio was $8.5 million at March 31, 2005,
down $5.1 million from December 31, 2004. In March 2005, we recorded $5.1
million ($3.3 million after tax) of impairment losses, which included a reserve
for future commitments, that related to direct investments in certain
privately-held, start-up companies whose future business prospects have
diminished significantly. Recent developments at these companies indicated that
future commercial viability is unlikely, as is new financing necessary to
continue development. Our basis in cost method investments included in the
emerging technology portfolio was zero at March 31, 2005 ($4.5 million in 2004).
Our policy is to review these investments quarterly for impairment by assessing
such factors as continued commercial viability of products, cash flow and
earnings. Any impairment would reduce the carrying value of the investment.
25 ALLETE First Quarter 2005 Form 10-Q
COMMODITY PRICE RISK
Our regulated utility operations in Minnesota and Wisconsin incur costs for fuel
(primarily coal), power and natural gas purchased for resale in our regulated
service territories, and related transportation. Our regulated utilities'
exposure to price risk for these commodities is significantly mitigated by the
current ratemaking process and regulatory environment which generally allows a
fuel clause surcharge if costs are in excess of those in our last rate filing.
Conversely, costs below those in our last rate filing result in a rate credit.
We seek to prudently manage our customers' exposure to price risk by entering
into contracts of various durations and terms for the purchase of coal and power
(in Minnesota), power and natural gas (in Wisconsin), and related transportation
costs.
POWER MARKETING
Our power marketing activities consist of (1) purchasing energy in the wholesale
market for resale in our regulated service territories when retail energy
requirements exceed generation output, and (2) selling excess available
regulated utility generation and purchased power, as well as selling
nonregulated generation.
From time to time, our regulated utility operations may have excess generation
that is temporarily not required by retail and municipal customers in our
regulated service territory. We actively sell this generation to the wholesale
market to optimize the value of our generating facilities. This generation is
generally sold in the spot market or under short-term contracts at market
prices.
We have approximately 200 MW of nonregulated generation available for sale to
the wholesale markets at our Taconite Harbor facility in northern Minnesota,
which has been sold through various short-term and long-term capacity and energy
contracts. Approximately 116 MW of existing capacity and energy sales contracts
expire on April 30, 2005. Long term, we have entered into two capacity and
energy sales contracts totaling 175 MW (201 MW including a 15 percent reserve),
which are effective May 1, 2005 and expire on April 30, 2010. Both contracts
contain fixed monthly capacity charges and fixed minimum energy charges. One
contract provides for an annual escalator to the energy charge based on
increases in our cost of coal, subject to a small minimum annual escalation. The
other contract provides that the energy charge will be the greater of a fixed
minimum charge or an amount based on the variable production cost of a
combined-cycle, natural gas unit. Our exposure in the event of a full or partial
outage at our Taconite Harbor facility is significantly limited under both
contracts. When the buyer is notified at least two months prior to an outage,
there is no exposure. Outages with less than two months' notice are subject to
an annual duration limitation typical of this type of contract. We also have a
50 MW capacity and energy sales contract that extends through April 2008 and a
15 MW energy sales contract that extends through May 2007. The 50 MW capacity
and energy sales contract has fixed pricing through January 2006 and
market-based pricing thereafter.
In addition to generation, Taconite Harbor will meet its sales contract
obligations with two contracts that begin in May 2005. We have a 50 MW capacity
and energy purchase contract that extends through April 2006, with fixed
capacity payments and the right to purchase energy at market price. We also have
a 25 MW fixed-priced energy purchase contract that extends through January 2006.
ITEM 4. CONTROLS AND PROCEDURES
We maintain a system of controls and procedures designed to provide reasonable
assurance as to the reliability of the financial statements and other
disclosures included in this report, as well as to safeguard assets from
unauthorized use or disposition. We evaluated the effectiveness of the design
and operation of our disclosure controls and procedures under the supervision
and with the participation of management, including our chief executive officer
and chief financial officer, as of the end of the period covered by this Form
10-Q. Based upon that evaluation, our chief executive officer and chief
financial officer concluded that our disclosure controls and procedures are
effective in timely alerting them to material information required to be
included in our periodic SEC filings. While we continue to enhance our internal
control over financial reporting, there has been no change in our internal
control over financial reporting that occurred during our most recent fiscal
quarter that has materially affected, or is reasonably likely to materially
affect, our internal control over financial reporting.
ALLETE First Quarter 2005 Form 10-Q 26
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Material legal and regulatory proceedings are included in the discussion of
Other Information in Part II, Item 5 and/or Note 12, and are incorporated by
reference herein.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
TOTAL NUMBER MAXIMUM
OF SHARES NUMBER OF
PURCHASED AS SHARES THAT
PART OF MAY YET BE
TOTAL PUBLICLY PURCHASED
ALLETE COMMON STOCK REPURCHASES NUMBER OF AVERAGE ANNOUNCED UNDER THE
FOR THE QUARTER ENDED SHARES PRICE PAID PLANS OR PLANS OR
MARCH 31, 2005 PURCHASED <F1> PER SHARE PROGRAMS PROGRAMS
- -------------------------------------------------------------------------------------------------------------------
For the Calendar Month
January 546,385 $39.38 - -
February 218,594 $41.44 - -
March - - - -
- -------------------------------------------------------------------------------------------------------------------
764,979 $39.97 - -
- -------------------------------------------------------------------------------------------------------------------
<FN>
<F1> Reflected shares of ALLETE common stock repurchased pursuant to (1) stock-for-stock exercises of employee
options granted under the ALLETE Executive Long-Term Incentive Compensation Plan during the third quarter
of 2004 and (2) the Minnesota Power and Affiliated Companies Retirement Savings and Stock Ownership Plan in
connection with the spin-off of ADESA (see Note 11).
</FN>
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On May 10, 2005, shareholders of ALLETE will vote on the election of nine
directors, ratification of the appointment of PricewaterhouseCoopers LLP, as the
Company's independent registered public accounting firm for 2005, and the
continuation of the ALLETE Executive Long-Term Incentive Compensation Plan.
Voting results will be provided in our Form 10-Q for the quarter ended June 30,
2005.
ITEM 5. OTHER INFORMATION
(a) Executive Compensation
On January 25, 2005, the Executive Compensation Committee of the ALLETE
Board of Directors approved the 2005 annual incentive award opportunities,
financial and nonfinancial goals for eligible executives pursuant to the
ALLETE Executive Annual Incentive Plan. The form of award and 2005 goals
are attached to this Form 10-Q as Exhibit 10(a)1 and Exhibit 10(a)2,
respectively. The ALLETE Executive Annual Incentive Plan authorizes the
Executive Compensation Committee to award cash bonuses based on the
Company's performance during the year.
The Executive Compensation Committee also reviewed and approved the award
opportunities under the ALLETE Executive Long-Term Incentive Compensation
Plan for the three-year performance period beginning in 2005. If the
performance-based measures are achieved, the ALLETE Executive Long-Term
Incentive Compensation Plan authorizes the Executive Compensation Committee
to grant awards in ALLETE common stock and nonqualified stock options. The
performance measure used to determine awards for this cycle is the
Company's total shareholder return relative to its peer group.
-------------------
27 ALLETE First Quarter 2005 Form 10-Q
Reference is made to our 2004 Form 10-K for background information on the
following updates. Unless otherwise indicated, cited references are to our 2004
Form 10-K.
Ref. Page 7 - Minimum Revenue and Demand Under Contract Table
MINIMUM REVENUE AND DEMAND UNDER CONTRACT MINIMUM MONTHLY
AS OF APRIL 1, 2005 ANNUAL REVENUE <F1> MEGAWATTS
- -------------------------------------------------------------------------------------------------------------------
2005 $98.7 626
2006 $40.8 219
2007 $32.5 178
2008 $25.8 148
2009 $7.3 46
- -------------------------------------------------------------------------------------------------------------------
<FN>
<F1> Based on past experience, we believe revenue from our large power customers will be substantially in excess of
the minimum contract amounts.
</FN>
Ref. Page 10 - Second Paragraph
On April 14, 2005, the FERC accepted the triennial market power analysis and
concluded that Minnesota Power and Rainy River Energy continue to satisfy the
FERC's standards for market-based rate authority. This conclusion was based in
part on the commencement of MISO's Day 2 market, as a result of which MISO
became a single geographic market and began performing functions such as a
central commitment and dispatch with FERC-approved market monitoring and
mitigation.
Ref. Page 10 - Sixth Paragraph
As a result of MISO Day 2 implementation on April 1, 2005, energy transactions
to serve retail customers are sourced by wholesale transactions with MISO as the
counterparty. Minnesota Power filed a petition with the MPUC in February 2005,
to amend the fuel clause to accommodate costs and revenue related to MISO Day 2
market implementation. On March 24, 2005, the MPUC approved interim accounting
treatment of MISO Day 2 costs to be accounted for on a net basis and recovered
through the fuel clause. This interim treatment will continue until the MPUC
addresses the cost recovery petitions from Xcel Energy Inc, Otter Tail Power
Company, Alliant Energy Corporation and Minnesota Power. The MPUC action
regarding MISO Day 2 will include an analysis of how the fuel clause is
affected, and whether it should be modified as a result of Day 2.
Ref. Page 11 - Third Paragraph
On April 14, 2005, the PSCW approved an 11.7 percent return on common equity and
a 3.9 percent average increase in retail utility rates for SWL&P customers. This
average increase is comprised of a 1.6 percent increase in electric rates, a 5.1
percent increase in gas rates and a 9.9 percent increase in water rates. SWL&P
originally requested an average increase in retail utility rates of 6.0 percent.
New rates are expected to be implemented in early May 2005, following the
receipt of a final order from the PSCW.
ALLETE First Quarter 2005 Form 10-Q 28
Ref. Page 16 - Second Full Paragraph
MERCURY EMISSIONS. In December 2000, the EPA announced its decision to regulate
mercury emissions from coal and oil-fired power plants under Section 112 of the
Clean Air Act. Section 112 would require all such power plants in the United
States to adhere to the EPA maximum achievable control technology (MACT)
standards for mercury. However, on March 15, 2005, the EPA removed electric
utilities from the Section 112(c) list of source categories subject to MACT
requirements, instead referencing how the EPA is regulating utility emissions of
mercury under Section 111 and is providing for additional sulfur dioxide and
oxides of nitrogen emission reductions that will deliver mercury reductions as a
co-benefit of controls under the March 10, 2005, final CAIR. The EPA has
assigned a mercury emission budget to each state that is based on achieving
about a 70 percent overall reduction in baseline utility mercury emissions by
the start of the second phase of the CAMR in 2018. The Minnesota Pollution
Control Agency (MPCA) is now required to provide an implementation plan for EPA
approval in 2006, by which time Minnesota will have determined if it will
participate in the EPA's proposed mercury cap-and-trade program. The CAMR is
expected to be published in the Federal Register in May 2005, at which time it
is anticipated that legal challenges to the rule implementation will be made.
The EPA determination not to list electric utilities under Section 112(c) has
already been subjected to court challenge. Continuous emission monitoring of
mercury stack emissions may be required on larger units while smaller units with
low mercury emissions may not require continuous monitoring. Minnesota Power is
continuing to review the new mercury rule and looks to the outcome of legal
challenges as being critical before specific compliance measures can be
established. Minnesota Power's preliminary estimates suggest that all of our
affected facilities can be outfitted with continuous mercury emission monitors
for under $2 million. The MPCA will not allocate mercury emission allowances to
Minnesota sources until after they have established their state implementation
plan for EPA approval. Cost estimates about mercury cap-and-trade program
impacts are premature at this time.
Ref. Page 13 - Fifth Paragraph
On March 2, 2005, Florida Landmark signed an agreement with Developers Realty
Corporation (DRC) to develop the first phase of the urban core area of Town
Center at Palm Coast. The agreement also includes the development of a 51-acre
commercial retail site. This agreement provides that DRC has an inspection
period through July 31, 2005, which allows DRC to terminate the agreement with
no penalty. Revenue associated with this agreement is anticipated to be $21.8
million over the life of the contract, which extends to September 2012. DRC is a
regional commercial developer with strong ties to national retailers and has
experience developing "lifestyle center" projects.
29 ALLETE First Quarter 2005 Form 10-Q
ITEM 6. EXHIBITS
EXHIBIT
NUMBER
4 Twenty-fourth Supplemental Indenture, dated as of March 1, 2005,
between ALLETE and The Bank of New York and Douglas J. MacInnes, as
Trustees.
+10(a)1 Form of ALLETE Executive Annual Incentive Plan Award.
+10(a)2 ALLETE Executive Annual Incentive Plan 2005 Goals.
+10(b) January 2005 Amendment to the ALLETE and Affiliated Companies
Supplemental Executive Retirement Plan.
+10(c) January 2005 Amendment to the ALLETE Director Compensation Deferral
Plan.
31(a) Rule 13a-14(a)/15d-14(a) Certification by the Chief Executive
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31(b) Rule 13a-14(a)/15d-14(a) Certification by the Chief Financial
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32 Section 1350 Certification of Periodic Report by the Chief
Executive Officer and Chief Financial Officer Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
99 ALLETE News Release dated April 29, 2005, announcing 2005 first
quarter earnings. [THIS EXHIBIT HAS BEEN FURNISHED AND SHALL NOT BE
DEEMED "FILED" FOR PURPOSES OF SECTION 18 OF THE SECURITIES ACT OF
1934, NOR SHALL IT BE DEEMED INCORPORATED BY REFERENCE IN ANY
FILING UNDER THE SECURITIES ACT OF 1933, EXCEPT AS SHALL BE
EXPRESSLY SET FORTH BY SPECIFIC REFERENCE IN SUCH FILING.]
- -------------------------
+ Management contract or compensatory plan or arrangement.
ALLETE First Quarter 2005 Form 10-Q 30
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.
April 29, 2005 James K. Vizanko
-----------------------------------------------------
James K. Vizanko
Senior Vice President and Chief Financial Officer
April 29, 2005 Mark A. Schober
-----------------------------------------------------
Mark A. Schober
Senior Vice President and Controller
31 ALLETE First Quarter 2005 Form 10-Q
EXHIBIT INDEX
EXHIBIT
NUMBER
- --------------------------------------------------------------------------------
4 Twenty-fourth Supplemental Indenture, dated as of March 1, 2005,
between ALLETE and The Bank of New York and Douglas J. MacInnes, as
Trustees.
10(a)1 Form of ALLETE Executive Annual Incentive Plan Award.
10(a)2 ALLETE Executive Annual Incentive Plan 2005 Goals.
10(b) January 2005 Amendment to the ALLETE and Affiliated Companies
Supplemental Executive Retirement Plan.
10(c) January 2005 Amendment to the ALLETE Director Compensation Deferral
Plan.
31(a) Rule 13a-14(a)/15d-14(a) Certification by the Chief Executive
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31(b) Rule 13a-14(a)/15d-14(a) Certification by the Chief Financial
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32 Section 1350 Certification of Periodic Report by the Chief Executive
Officer and Chief Financial Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
99 ALLETE News Release dated April 29, 2005, announcing 2005 first
quarter earnings. [THIS EXHIBIT HAS BEEN FURNISHED AND SHALL NOT BE
DEEMED "FILED" FOR PURPOSES OF SECTION 18 OF THE SECURITIES ACT OF
1934, NOR SHALL IT BE DEEMED INCORPORATED BY REFERENCE IN ANY FILING
UNDER THE SECURITIES ACT OF 1933, EXCEPT AS SHALL BE EXPRESSLY SET
FORTH BY SPECIFIC REFERENCE IN SUCH FILING.]
ALLETE First Quarter 2005 Form 10-Q