UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITES EXCHANGE ACT OF 1934
For the period ended March 31, 2000
--------------
- OR -
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________ to _________________
Commission file number 1-6986
------
PUBLIC SERVICE COMPANY OF NEW MEXICO
------------------------------------
(Exact name of registrant as specified in its charter)
New Mexico 85-00019030
---------- -----------
(State or other jurisdiction of (I.R.S. Employer
Incorporation of organization) Identification No.)
Alvarado Square, Albuquerque, New Mexico 87158
----------------------------------------------
(Address of principal executive offices)
(Zip Code)
(505) 241-2700
--------------
(Registrant's telephone number, including area code)
------------------------------
(Former name, former address and former fiscal year,
if changed since last report)
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 (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
--- ---
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Common Stock-$5.00 par value 39,535,399 shares
---------------------------- -----------------
Class Outstanding at May 1, 2000
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
INDEX
Page No.
PART I. FINANCIAL INFORMATION:
Report of Independent Public Accountants........................ 3
ITEM 1. FINANCIAL STATEMENTS
Consolidated Statements of Earnings -
Three Months March 31, 2000 and 1999............................ 4
Consolidated Balance Sheets -
March 31, 2000 and December 31, 1999............................ 5
Consolidated Statements of Cash Flows -
Three Months Ended March 31, 2000 and 1999...................... 7
Notes to Consolidated Financial Statements...................... 8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS.......... 17
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK............................................ 43
PART II. OTHER INFORMATION:
ITEM 1. LEGAL PROCEEDINGS......................................... 44
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.......................... 47
Signature ....................................................... 49
2
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders
of Public Service Company of New Mexico:
We have reviewed the accompanying condensed consolidated balance sheet of Public
Service Company of New Mexico (a New Mexico corporation) and subsidiaries as of
March 31, 2000 and the related consolidated statements of earnings and cash
flows for the three-month periods ended March 31, 2000 and 1999. These financial
statements are the responsibility of the company's management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in accordance
with auditing standards generally accepted in the United States, the objective
of which is the expression of an opinion regarding the financial statements
taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the financial statements referred to above for them to be in
conformity with accounting principles generally accepted in the United States.
We have previously audited, in accordance with auditing standards generally
accepted in the United States, the consolidated balance sheet and statement of
capitalization of Public Service Company of New Mexico and subsidiaries as of
December 31, 1999, and the related consolidated statements of earnings,
capitalization and cash flows for the year then ended (not presented separately
herein), and in our report dated January 26, 2000, we expressed an unqualified
opinion on those financial statements. In our opinion, the information set forth
in the accompanying condensed consolidated balance sheet as of December 31,
1999, is fairly stated in all material respects in relation to the consolidated
balance sheet from which it has been derived.
ARTHUR ANDERSEN LLP
Albuquerque, New Mexico
May 15, 2000
3
ITEM 1. FINANCIAL STATEMENTS
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited)
Three Months Ended
March 31
--------------------------
2000 1999
----------- ----------
(In thousands, except
per share amounts)
Operating Revenues:
Electric......................................... $ 226,397 $184,442
Gas.............................................. 94,545 84,864
Unregulated businesses........................... 349 3,512
----------- ----------
Total operating revenues....................... 321,291 272,818
----------- ----------
Operating Expenses:
Cost of energy sold.............................. 167,723 110,409
Administrative and general....................... 32,196 36,325
Energy production costs.......................... 35,642 34,774
Depreciation and amortization.................... 24,010 23,081
Transmission and distribution costs.............. 15,280 14,277
Taxes, other than income taxes................... 7,666 9,321
Income taxes..................................... 7,827 9,563
----------- ----------
Total operating expenses....................... 290,344 237,750
----------- ----------
Operating income............................... 30,947 35,068
----------- ----------
Other Income and Deductions, Net of Tax 7,505 6,099
----------- ----------
Income before interest charges................. 38,452 41,167
----------- ----------
Interest Charges:
Interest on long-term debt....................... 15,781 16,714
Other interest charges........................... 719 1,323
----------- ----------
Net interest charges........................... 16,500 18,037
----------- ----------
Net Earnings from Continuing Operations............ 21,952 23,130
Cumulative Effect of a Change in Accounting
Principle, Net of Tax............................ - 3,541
----------- ----------
Net Earnings....................................... 21,952 26,671
Preferred Stock Dividend Requirements.............. 146 147
----------- ----------
Net Earnings Applicable to Common Stock............ $ 21,806 $ 26,524
=========== ==========
Net Earnings per Common Share:
Basic............................................ $ 0.55 $ 0.64
=========== ==========
Diluted.......................................... $ 0.55 $ 0.63
=========== ==========
Dividends Paid per Common Share.................... $ 0.20 $ 0.20
=========== ==========
The accompanying notes are an integral part of these financial statements.
4
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
March 31, December 31,
2000 1999
---------- ------------
(Unaudited)
(In thousands)
ASSETS
Utility Plant:
Electric plant in service......................................... $1,973,390 $ 1,976,009
Gas plant in service.............................................. 486,043 483,819
Common plant in service and plant held for future use............. 69,328 69,273
----------- -----------
2,528,761 2,529,101
Less accumulated depreciation and amortization.................... 1,099,857 1,077,576
----------- -----------
1,428,904 1,451,525
Construction work and progress.................................... 120,743 104,934
Nuclear fuel, net of accumulated amortization of
$23,633 and $20,832........................................... 25,241 25,923
----------- -----------
Net utility plant............................................... 1,574,888 1,582,382
----------- -----------
Other Property and Investments:
Other investments................................................. 479,011 483,008
Non-utility property, net of accumulated depreciation of
$1,375 and $1,261............................................. 2,966 4,439
----------- -----------
Total other property and investments............................ 481,977 487,447
----------- -----------
Current Assets:
Cash and cash equivalents......................................... 78,973 120,399
Accounts receivables, net of allowance for uncollectible
accounts of $12,504 (for both periods)........................ 132,623 147,746
Other receivables................................................. 41,771 68,911
Inventories....................................................... 42,252 39,992
Regulatory assets................................................. 11,456 24,056
Other current assets.............................................. 7,560 4,934
----------- -----------
Total current assets............................................ 314,635 406,038
----------- -----------
Deferred Charges:
Regulatory assets................................................. 194,790 195,898
Prepaid benefit costs............................................. 16,623 16,126
Other deferred charges............................................ 43,384 35,377
----------- -----------
Total current assets............................................ 254,797 247,401
----------- -----------
$ 2,626,297 $ 2,723,268
=========== ===========
The accompanying notes are an integral part of these financial statements.
5
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
CAPITALIZATION AND LIABILITIES
March 31, December 31,
2000 1999
---------- -----------
(Unaudited)
(In thousands)
Capitalization:
Common stockholders' equity:
Common stock...................................................... $ 197,678 $ 203,517
Additional paid-in capital........................................ 440,375 453,393
Accumulated other comprehensive income, net of tax................ 2,328 2,352
Retained earnings................................................. 241,836 227,829
---------- ----------
Total common stockholders' equity.............................. 882,217 887,091
Minority interest.................................................... 12,482 12,771
Cumulative preferred stock without mandatory
redemption requirements......................................... 12,800 12,800
Long-term debt, less current maturities.............................. 953,777 988,489
---------- ----------
Total capitalization........................................... 1,861,276 1,901,151
---------- ----------
Current Liabilities:
Accounts payable..................................................... 88,931 150,645
Accrued interest and taxes........................................... 34,273 34,237
Other current liabilities............................................ 56,173 54,137
---------- ----------
Total current liabilities...................................... 179,377 239,019
---------- ----------
Deferred Credits:
Accumulated deferred income taxes...................................... 152,187 153,335
Accumulated deferred investment tax credits............................ 50,210 50,996
Regulatory liabilities................................................. 84,432 88,497
Regulatory liabilities related to accumulated deferred income tax...... 14,935 14,935
Accrued postretirement benefit costs................................... 10,120 8,945
Other deferred credits................................................. 273,760 266,390
---------- ----------
Total deferred credits.............................................. 585,644 583,098
---------- ----------
Commitments and Contingencies............................................ - -
---------- ----------
$2,626,297 $2,723,268
========== ==========
The accompanying notes are an integral part of these financial statements.
6
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Ended
March 31,
-----------------------
2000 1999
-------- --------
(In thousands)
Cash Flows From Operating Activities:
Net earnings............................................................ $ 21,952 $ 26,671
Adjustments to reconcile net earnings to net cash flows
from operating activities:
Depreciation and amortization....................................... 26,805 26,070
Gain on cumulative effect of a change in accounting principle....... - (5,862)
Other, net.......................................................... (3,406) 125
Changes in certain assets and liabilities:
Accounts receivables.............................................. 15,022 (11,033)
Other assets...................................................... 27,342 34,969
Accounts payable.................................................. (61,711) (43,660)
Other liabilities................................................. 9,574 12,751
--------- ---------
Net cash flows provided from operating activities................. 35,578 40,031
--------- ---------
Cash Flows From Investing Activities:
Utility plant additions................................................. (22,361) (18,217)
Return on PVNGS lease obligation bonds.................................. 8,636 9,029
Other investing......................................................... (3,155) 28,264
--------- ---------
Net cash flows (used) generated from investing activities......... (16,880) 19,076
--------- ---------
Cash Flows From Financing Activities:
Repayments.............................................................. (32,800) (26,620)
Common stock repurchase................................................. (18,854) (5,848)
Dividends paid.......................................................... (8,182) (8,450)
Other financing......................................................... (288) (369)
--------- ---------
Net cash flows used in financing activities....................... (60,124) (41,287)
--------- ---------
Increase (Decrease) in Cash and Cash Equivalents.......................... (41,426) 17,820
Beginning of Period....................................................... 120,399 61,280
--------- ---------
End of Period............................................................. $ 78,973 $ 79,100
========= =========
Supplemental Cash Flow Disclosures:
Interest paid........................................................... $ 20,318 $ 20,528
========= =========
Income taxes paid, net ................................................. $ 23 $ 1,475
========= =========
The accompanying notes are an integral part of these financial statements.
7
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Accounting Policies and Responsibilities for Financial Statements
In the opinion of management of Public Service Company of New Mexico (the
"Company"), the accompanying interim consolidated financial statements present
fairly the Company's financial position at March 31, 2000 and December 31, 1999,
the consolidated results of its operations for the three months ended March 31,
2000 and the consolidated statements of cash flows for the three months ended
March 31, 2000. These statements are presented in accordance with the rules and
regulations of the United States Securities and Exchange Commission ("SEC").
Accordingly, they are unaudited, and certain information and footnote
disclosures normally included in the Company's annual consolidated financial
statements have been condensed or omitted, as permitted under the applicable
rules and regulations. Readers of these statements should refer to the Company's
audited consolidated financial statements and notes thereto for the year ended
December 31, 1999, which are included on the Company's Annual Report on Form
10-K for the year ended December 31, 1999. The results of operations presented
in the accompanying financial statements are not necessarily representative of
operations for an entire year.
Certain amounts in the 1999 consolidated financial statements and notes have
been reclassified to conform to the 2000 financial statement presentation.
(2) Segment Information
The Company's principal business segments are electric ("Electric") and gas
("Gas") operations. Electric consists of three major business lines that include
the Electric Service Business Unit ("Distribution"), Transmission Service
Business Unit ("Transmission") and Bulk Power Business Unit ("Generation"). The
unregulated segments include the operations of Avistar, Inc. and corporate
administrative functions. Intersegment revenues are determined based on a
formula mutually agreed upon between affected segments and are not based on
market rates. Intersegment revenues are eliminated for consolidated purposes.
8
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(2) Segment Information (Continued)
Summarized financial information by business segment for the three months ended
March 31, 2000 and 1999 is as follows:
Electric
--------------------------------------------------
Distribution Transmission Generation Total Gas Unregulated Consolidated
------------ ------------ ---------- ----- --- ----------- ------------
(In thousands)
2000:
Operating revenues:
External customers............... $122,110 $ 3,811 $ 100,476 $ 226,397 $ 94,545 $ 349 $ 321,291
Intersegment revenues............ - 6,797 75,823 82,620 - - 82,620
Depreciation and amortization....... 6,456 2,103 10,079 18,638 5,366 6 24,010
Interest income..................... 40 6 9,660 9,706 136 1,423 11,265
Net interest charges (income)....... 3,373 1,098 9,267 13,738 2,854 (92)
16,500
Income tax expense (benefit)
from continuing operations........ 5,437 468 5,820 11,725 3,726 (2,750) 12,701
Operating income (loss)............. 11,989 1,904 13,935 27,828 8,118 (4,999) 30,947
Segment net income (loss)........... 8,464 801 11,381 20,646 5,500 (4,194) 21,952
Total assets........................ 569,550 204,750 1,374,329 2,148,629 454,224 23,444 2,626,297
Gross property additions............ 8,004 1,842 7,778 17,624 4,737 - 22,361
1999:
Operating revenues:
External customers............... $129,183 $ 3,776 $ 51,483 $ 184,442 $ 84,864 $ 3,512 $ 272,818
Intersegment revenues............ - 7,450 77,970 85,420 - - 85,420
Depreciation and amortization....... 5,829 2,089 10,343 18,261 4,820 23,081
Interest income..................... 3,352 1,120 4,881 9,353 2,336 165 11,854
Net interest charges (income)....... 5,439 1,944 6,915 14,298 4,015 (276) 18,037
Income tax expense (benefit)
from continuing operations........ 6,374 825 3,853 11,052 3,390 (883) 13,559
Operating income (loss)............. 13,344 2,608 12,054 28,006 8,263 (1,201) 35,068
Cumulative effect of a change in
Accounting principle, net of tax.. - - 3,541 3,541 - - 3,541
Segment net income (loss)........... 9,790 1,315 11,931 23,036 4,983 (1,348) 26,671
Total assets........................ 593,091 195,444 1,292,533 2,081,068 441,826 13,372 2,536,266
Gross property additions............ 6,949 1,834 4,078 12,861 5,274 7 18,142
9
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(3) Comprehensive Income
Three Months Ended
March 31
-------------------
2000 1999
--------- --------
(In thousands)
Net Earnings............................................. $21,952 $26,671
-------- --------
Other Comprehensive Income, net of tax: Unrealized
gain (loss) on securities:
Unrealized holding gains arising during the period..... 1,475 1,070
Less reclassification adjustment for gains included
in net income....................................... (1,499) (604)
-------- --------
Total Other Comprehensive Income (loss)................ (24) 466
-------- --------
Total Comprehensive Income............................... $21,928 $27,137
======== ========
The Company's investments held in grantor trust for nuclear decommissioning and
certain retirement benefits are classified as available-for-sale, and
accordingly unrealized holding gains and losses are recognized as a component of
comprehensive income. Realized gains and losses are included in earnings. All
components of comprehensive income are recorded, net of any tax benefit or
expense. A deferred asset or liability is established for the resulting
temporary difference.
(4) Financial Instruments
The Company uses derivative financial instruments in limited instances to manage
risk as it relates to changes in natural gas and electric prices and adverse
market changes for investments held by the Company's various trusts. The Company
also uses, on a limited basis, certain derivative instruments for bulk power
electricity trading purposes in order to take advantage of favorable price
movements and market timing activities in the wholesale power markets.
The Company is exposed to credit losses in the event of non-performance or
non-payment by counterparties. The Company uses a credit management process to
assess and monitor the financial conditions of counterparties. The Company's
credit risk with its largest counterparty as of March 31, 2000 was $5.4 million.
10
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(4) Financial Instruments (Continued)
Natural Gas Contracts
Pursuant to an order issued by the NMPUC, predecessor to the PRC, the Company
has previously entered into swaps to hedge certain portions of natural gas
supply contracts in order to protect the Company's natural gas customers from
the risk of adverse price fluctuations in the natural gas market. The financial
impact of all hedge gains and losses from swaps flowed through the Company's
purchased gas adjustment clause and are fully recoverable by the Company. As a
result, earnings were not affected by gains or losses generated by these
instruments. The Company hedged 40% of its natural gas deliveries during the
1998-1999 heating season. Less than 15.5% of the 1998-1999 heating season
portfolio was hedged using financial hedging contracts. The Company hedged a
portion of its 1999-2000 heating season gas supply portfolio through the use of
both physical and financial hedging tools. Less than 9.1% of the Company's
1999-2000 heating season portfolio was hedged using financial hedging contracts.
The 1999-2000 heating season hedges were completed in January 2000. No
additional hedges have been put in place.
Electricity Trading Contracts
To take advantage of market opportunities associated with the purchase and sale
of electricity, the Company's wholesale power operation periodically enters into
derivative financial instrument contracts. In addition, the Company enters into
forward physical contracts and physical options. The Company accounts for these
financial instruments as trading activities under the accounting guidelines set
forth under The Emerging Issues Task Force ("EITF") Issue No. 98-10. As a
result, all open contracts are marked to market at the end of each period. The
physical contracts are subsequently recognized as revenues or purchased power
when the actual physical delivery occurs. The effect of the initial application
of the new standard is reported as a cumulative effect of a change in accounting
principle. Accordingly, the Company recorded additional earnings for the three
months ended March 31, 1999, net of taxes, of approximately $3.5 million, or
$0.08 per common share, to recognize the gain on net open physical electricity
purchases and sales commitments considered to be trading activities.
Through March 31, 2000, the Company's wholesale electric trading operations
settled trading contracts for the sale of electricity that generated $21.5
million of electric revenues by delivering 722.4 million KWh. The Company
purchased $19.7 million or 662.4 million KWh of electricity to support these
contractual sale and other open market sales opportunities.
11
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(4) Financial Instruments (Continued)
As of March 31, 2000, the Company had open trading contract positions to buy
$30.7 million and to sell $37.4 million of electricity. At March 31, 2000, the
Company had a gross mark-to-market gain (asset position) on these trading
contracts of $8.3 million and gross mark-to-market loss (liability position) of
$9.0 million, with net mark-to-market loss (liability position) of $0.7 million.
The mark-to-market valuation is recognized in earnings each period.
Corporate Hedge
The Company has about $44 million invested in domestic stocks in various trusts
for nuclear decommissioning, executive retirement and retiree medical benefits.
The Company uses financial derivatives based on the Standard & Poor's ("S&P")
500 Index to limit potential loss on these investments due to adverse market
fluctuations. The options are structured as a collar, protecting the portfolio
against losses beyond a certain amount and balancing the cost of that downside
protection by foregoing gains above a certain level. If the S&P 500 Index is
within the specified range when the option contract expires, the Company will
not be obligated to pay, nor will the Company have the right to receive cash.
During the three months ended March 31, 2000, certain contracts were terminated.
The Company recognized a realized gain of $2.4 million (pre-tax) on these
terminations. Subsequently, the Company entered into similar contracts which
expire on June 15, 2001. For the three months ended March 31, 2000, the Company
recorded an unrealized year-to-date loss of $1.7 million (pre-tax) on the market
value of its options. The net effect of the collar instruments for the quarter
ended March 31, 2000 was a net pre-tax gain of $0.7 million.
12
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(5) Earnings Per Share
In accordance with SFAS No. 128, Earnings per Share, dual presentation of basic
and diluted earnings per share has been presented in the Consolidated Statements
of Earnings. The following reconciliation illustrates the impact on the share
amounts of potential common shares and the earnings per share amounts for the
2000 1999
------- -------
Basic:
Net Earnings from Continuing Operations........................ $21,952 $23,130
Cumulative Effect of a Change in Accounting
Principle, net of tax ...................................... -
3,541
------- -------
Net Earnings................................................... 21,952 26,671
Preferred Stock Dividend Requirements.......................... 146 147
------- -------
Net Earnings Applicable to Common Stock........................ 21,806 26,524
======= =======
Average Number of Common Shares Outstanding.................... 39,973 41,767
======= =======
Net Earnings (Loss) per Common Share:
Earnings from continuing operations.......................... $ 0.55 $ 0.56
Cumulative effect of a change in accounting principle........ - 0.08
------- -------
Net Earnings per Common Share (Basic).......................... $ 0.55 $ 0.64
======= =======
Diluted:
Net Earnings Applicable to Common Stock
Used in basic calculation.................................... $21,806 26,524
======= =======
Average Number of Common Shares Outstanding.................... 39,973 41,767
Diluted effect of common stock equivalents (a)................. 29 44
------- -------
Average common and common equivalent shares
Outstanding.................................................. 40,002 41,811
======= =======
Net Earnings (Loss) per Common Share:
Earnings from continuing operations.......................... $ 0.55 $ 0.55
Cumulative effect of a change in accounting principle........ - 0.08
------- -------
Net Earnings per Share of Common Stock (Diluted)............... $ 0.55 $ 0.63
======= =======
(a) Excludes the effect of average anti-dilutive common stock
equivalents related to out of-the-money options of 186,737 and 75,742
for the three months ended 2000 and 1999, respectively.
13
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(6) Commitments and Contingencies
New Customer Billing System
On November 30, 1998, the Company implemented a new customer billing system. Due
to a significant number of problems associated with the implementation of the
new billing system, the Company was unable to generate appropriate bills for
certain of its customers through the first quarter of 1999 and was unable to
analyze delinquent accounts until November 1999.
As a result of the delay of normal collection activities, the Company incurred a
significant increase in delinquent accounts, many of which occurred with
customers that no longer have active accounts with the Company. As a result, the
Company significantly increased its bad debt accrual throughout 1999.
The following is a summary of the allowance for doubtful accounts for the three
months ended March 31, 2000 and the year ended December 31, 1999:
March 31, December 31,
2000 1999
---------- -----------
(In thousands)
Allowance for doubtful accounts, beginning
of year............................................ $ 12,504 $ 836
Bad debt accrual..................................... 734 11,496
Less: Write-off (adjustments) of uncollectible
Accounts........................................... 734 (172)
---------- ----------
Allowance for doubtful accounts, end of period ...... $ 12,504 $ 12,504
========== ==========
The Company is still analyzing its delinquent accounts resulting from the new
customer billing system implementation problems and expects to write off a
significant portion upon completion of its analysis. Based upon information
available at March 31, 2000, the Company believes the allowance for doubtful
accounts is adequate for management's estimate of potential uncollectible
accounts.
14
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(6) Commitments and Contingencies (Continued)
There are various claims and lawsuits pending against the Company and certain of
its subsidiaries. The Company is also subject to Federal, state and local
environmental laws and regulations, and is currently participating in the
investigation and remediation of numerous sites. In addition, the Company has
periodically entered into financial commitments in connection with business
operations. It is not possible at this time for the Company to determine fully
the effect of all litigation on its consolidated financial statements. However,
the Company has recorded a liability where such litigation can be estimated and
where an outcome is considered probable. The Company does not expect that any
known lawsuits, environmental costs and commitments will have a material adverse
effect on its financial condition or results of operations.
(7) New and Proposed Accounting Standards
Decommissioning: The Staff of the Securities and Exchange Commission ("SEC") has
questioned certain of the current accounting practices of the electric industry
regarding the recognition, measurement and classification of decommissioning
costs for nuclear generating stations in financial statements of electric
utilities. In February 2000, the Financial Accounting Standards Board ("FASB")
issued an exposure draft regarding Accounting for Obligations Associated with
the Retirement of Long-Lived Assets ("Exposure Draft"). The Exposure Draft
requires the recognition of a liability for an asset retirement obligation at
fair value. In addition, present value techniques used to calculate the
liability must use a credit adjusted risk-free rate. Subsequent remeasures of
the liability would be recognized using an allocation approach. The Company has
not yet determined the impact of the Exposure Draft.
EITF Issue 99-14, Recognition of Impairment Losses on Firmly Committed Executory
Contracts: The EITF has added an issue to its agenda to address impairment of
leased assets. A significant portion of the Company's nuclear generating assets
are held under operating leases. Based on the alternative accounting methods
being explored by the EITF, the related financial impact of the future adoption
of EITF Issue No. 99-14 should not have a material adverse effect on results of
operations. However, a complete evaluation of the financial impact from the
future adoption of EITF Issue No. 99-14 will be undeterminable until EITF
deliberations are completed and stranded cost recovery issues are resolved.
15
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(7) New and Proposed Accounting Standards (Continued)
Accounting for Derivative Instruments and Hedging Activities, SFAS 133: SFAS 133
establishes accounting and reporting standards requiring derivative instruments
to be recorded in the balance sheet as either an asset or liability measured at
its fair value. The Statement also requires that changes in the derivatives'
fair value be recognized currently in earnings unless specific hedge accounting
criteria are met. Special accounting for qualifying hedges allows derivative
gains and losses to offset related results on the hedged item in the income
statement, and requires that a company must formally document, designate, and
assess the effectiveness of transactions that receive hedge accounting. In June
1999, Financial Accounting Standards Board ("FASB") issued SFAS 137 to amend the
effective date for the compliance of SFAS 133 to January 1, 2001. In March 2000,
FASB issued an Exposure Draft that proposed certain amendments to SFAS 133. The
proposed amendments would, among other things, expand the normal sales and
purchases exception to contracts that implicitly or explicitly permit net
settlement and contracts that have a market mechanism to facilitate net
settlement. The expanded exception would likely exclude a significant portion of
the Company's contracts that previously would have required valuation under SFAS
133. The Company is in the process of reviewing and identifying all financial
instruments currently existing in the Company in compliance with the provisions
of SFAS 133. It is likely that the adoption of SFAS 133 will add volatility to
the Company's operating results and/or asset and liability valuations reflecting
the impact of mark-to-market accounting for commodity contracts. The Company has
not determined the impact of SFAS 133 or the Exposure Draft.
16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following is management's assessment of the Company's financial condition
and the significant factors affecting the results of operations. This discussion
should be read in conjunction with the Company's consolidated financial
statements and PART II, ITEM 1. - Legal Proceedings. Trends and contingencies of
a material nature are discussed to the extent known and considered relevant.
OVERVIEW
The Company is a public utility primarily engaged in the generation,
transmission, distribution and sale of electricity and in the transmission,
distribution and sale of natural gas within the State of New Mexico. In
addition, in pursuing new business opportunities, the Company provides energy
and utility-related activities through its wholly-owned subsidiary, Avistar,
Inc. ("Avistar").
ELECTRIC OPERATIONS
The Company's electric operations serve four principal markets. Sales to retail
customers and sales to firm-requirements wholesale customers, sometimes referred
to collectively as "system" sales, comprise two of these markets. The third
market consists of other contracted sales to utilities for which the Company
commits to deliver a specified amount of capacity (measured in megawatts-MW) or
energy (measured in megawatt hours-MWh) over a given period of time. The fourth
market consists of economy energy sales made on an hourly basis at fluctuating,
spot-market rates. Sales to the third and fourth markets are sometimes referred
to collectively as "off-system" sales.
The Company provides retail electric service to a large area of north central
New Mexico, including the cities of Albuquerque and Santa Fe, and certain other
areas of New Mexico. As of March 31, 2000 and 1999 and December 31, 1999,
approximately 366,000, 359,000 and 361,000, respectively, retail electric
customers were served by the Company.
17
ELECTRIC SALES BY MARKET
(Thousands of dollars)
Three Months Ended
March 31,
2000 1999
-------- --------
Retail........................................... $121,386 $128,383
Firm-requirement wholesale....................... 1,736 1,713
Other contracted off-system sales................ 62,807 31,396
Economy energy sales............................. 35,714 17,688
Other............................................ 4,754 5,262
-------- --------
$226,397 $184,442
======== ========
ELECTRIC SALES BY MARKET
(Megawatt hours)
Three Months Ended
March 31,
2000 1999
--------- ---------
Retail.......................................... 1,655,150 1,600,010
Firm-requirement wholesale...................... 47,921 43,085
Other contracted off-system sales............... 2,042,998 1,022,460
Economy energy sales............................ 1,272,668 896,355
--------- ---------
5,018,737 3,561,910
========= =========
The Company has ownership interests in certain generating facilities located in
New Mexico, including Four Corners Power Plant, a coal fired unit, and San Juan
Generating Station, a coal fired unit. In addition, the Company has ownership
and leasehold interests in Palo Verde Nuclear Generating Station ("PVNGS")
located in Arizona. These generation assets are used to supply retail and
wholesale customers. The Company also owns Reeves Generating Station, a gas and
oil fired unit and Las Vegas Generating Station, a gas and oil fired unit that
are used solely for reliability purposes or to generate electricity for the
wholesale market during peak demand periods in the Company's wholesale power
markets. As of March 31, 2000 and 1999 and December 31, 1999, the total net
generation capacity of facilities owned or leased by the Company was 1,521 MW.
In addition to generation capacity, the Company purchases power in the open
market. The Company is also interconnected with various utilities for economy
interchanges and the mutual assistance in emergencies. The Company has been
actively trading in the wholesale power market and has entered into and
anticipates that it will continue to enter into power purchase agreements to
accommodate its trading activity.
18
NATURAL GAS OPERATIONS
The Company's gas operations distribute natural gas to most of the major
communities in New Mexico, including Albuquerque and Santa Fe, serving
approximately 429,000, 422,000 and 426,000 customers as of March 31, 2000 and
1999 and December 31, 1999, respectively. The Company's customer base includes
both sales-service customers and transportation-service customers. Sales-service
customers purchase natural gas and receive transportation and delivery services
from the Company for which the Company receives both cost-of-gas and
cost-of-service revenues. Additionally, the Company makes occasional gas sales
to off-system customers. Off-system sales deliveries generally occur at
interstate pipeline interconnects with the Company's system.
Transportation-service customers, who procure gas independently of the Company
and contract with the Company for transportation and related services, are
billed cost-of-service revenues only.
The Company obtains its supply of natural gas primarily from sources within New
Mexico pursuant to contracts with producers and marketers. These contracts are
generally sufficient to meet the Company's peak-day demand.
The following table shows gas throughput by customer class:
GAS THROUGHPUT
(Thousands of decatherms)
Three Months Ended
March 31,
2000 1999
------- -------
Residential................................ 11,231 14,310
Commercial................................. 3,636 4,754
Transportation*............................ 9,011 7,839
Other...................................... 1,887 2,442
------- -------
25,765 29,345
======= =======
The following table shows gas revenues by customer:
GAS REVENUES
(Thousands of dollars)
Three Months Ended
March 31,
2000 1999
------- -------
Residential............................... $63,088 $54,794
Commercial................................ 16,693 16,682
Transportation*........................... 3,984 3,832
Other..................................... 10,780 9,556
------- -------
$94,545 $84,864
======= =======
*Customer-owned gas.
19
AVISTAR
The Company's wholly-owned subsidiary, Avistar, was formed in August 1999 as a
New Mexico corporation and is currently engaged in certain unregulated,
non-utility businesses, including energy and utility-related services previously
operated by the Company. The PRC authorized the Company to invest $50 million in
equity in Avistar and to enter into a reciprocal loan agreement for up to an
additional $30 million. The Company has currently invested $25 million in
Avistar. In February 2000, Avistar invested $3 million in AMDAX.com, a start-up
company which plans to provide an on-line auction service to bring together
electricity buyers and sellers in the deregulated electric power market.
Restructuring the Electric Utility Industry
Introduction of competitive market forces and restructuring of the electric
utility industry in New Mexico continue to be key issues facing the Company. New
Mexico's Electric Utility Industry Restructuring Act of 1999 (the "Restructuring
Act") that was enacted into law in April 1999, begins to open the state's
electric power market to customer choice beginning in 2001. The Restructuring
Act gives schools, residential and small business customers the opportunity to
choose among competing power suppliers beginning in January 2001. Competition
will be expanded to include all customers starting in January 2002. The New
Mexico Public Regulation Commission ("PRC"), however, can extend these dates by
up to one year if necessary. Rural electric cooperatives and municipal electric
systems have the option not to participate in the competitive market.
Residential and small business customers who do not select a power supplier in
the open market can buy their electricity through their local utility through a
"standard offer" whereby the local distribution utility will procure power
supplies through a process approved by the PRC. The local distribution utility
system and related services such as billing and metering will continue to be
regulated by the PRC, while transmission services and wholesale power sales will
remain subject to Federal regulation.
The Restructuring Act does not require utilities to divest their generating
plants, but requires unregulated activities to be separated from the regulated
activities through creation of at least two separate corporations.
The law also provides for recovery of at least half of stranded costs. Recovery
of more than half is allowable if certain tests specified in the laws are met.
Stranded costs are defined in the law to include nuclear decommissioning costs,
regulatory assets, leases and other costs recognized under existing regulation.
Stranded costs will be recovered from customers over a five-year period.
Utilities will also be allowed to recover through 2007 all transition costs
reasonably incurred to comply with the new law (see "Stranded Costs" and
"Transition Costs" below).
20
The Company plans to reorganize its operations by forming a holding company
structure as a means of achieving the corporate and asset separation required by
the Restructuring Act. The proposed holding company will be called Manzano
Corporation ("Manzano"). The Company's plan for a holding company structure will
separate the Company into two subsidiaries. Shareholders will be asked to
approve the holding company structure and related share exchange. If the Company
receives all necessary regulatory and other approvals, pursuant to the
Restructuring Act, all of the Company's electric and gas distribution and
transmission assets and certain related liabilities will be transferred to a
newly created subsidiary. After this asset transfer, this subsidiary will
acquire the name "Public Service Company of New Mexico" (for purposes of this
discussion, the subsidiary will be referred to as "UtilityCo") and the
corporation formerly named Public Service Company of New Mexico will be renamed
Manzano Energy Corporation (for purposes of this discussion, the subsidiary will
be referred to as "Energy"). Energy will continue to own the Company's existing
electric generation and unregulated, competitive assets after completion of the
transfer of the regulated business to the newly created utility subsidiary.
UtilityCo and Energy will be wholly-owned subsidiaries of Manzano.
The Company is filing its transition plan with the PRC pursuant to the
Restructuring Act in three parts. In November 1999, the Company filed the first
two parts of the transition plan with the PRC. Part one, which has been
approved, requested approval to create Manzano and UtilityCo as wholly-owned
shell subsidiaries of the Company. Part two of the Company's transition plan
requested that all PRC approvals necessary for the Company to implement the
formation of the holding company structure, the share exchange and the
separation plan be granted by June 1, 2000. The part two hearing is currently
scheduled for July 19, 2000. Accordingly, the Company's management believes that
implementation of the separation plan could occur by the end of 2000. If the
Company can obtain a stipulated settlement with all involved parties, it is
possible that implementation of the separation plan could be accelerated.
However, there is no assurance that implementation of the separation plan will
occur in 2000. Part three of the Company's transition plan, which is currently
planned to be filed by the Company no later than June 1, 2000, will address
transition costs, stranded costs, UtilityCo's cost of service and other issues
required to be considered under the Restructuring Act. On January 18, 2000, the
PRC extended the March 1 deadline for the transition plan filing for all New
Mexico utilities by three months to June 1, 2000.
Competitive Strategy
The restructuring of the electric utility industry will provide new
opportunities; however, the Company anticipates that it will experience downward
pressure on the Company's earnings from their current levels. The reasons for
the downward pressure include possible limits on return on equity, the potential
disallowance of some stranded costs and the potential loss of certain customers
in a competitive environment.
21
Under a holding company structure, the regulated businesses (natural gas and
electric transmission and distribution) will be grouped under a separate company
and will focus on the core utility business in New Mexico. The unregulated
businesses under the Restructuring Act (power production, bulk power marketing
and energy services) will aggressively pursue efforts to expand energy marketing
and utility related businesses into carefully targeted markets in an effort to
increase shareholder value. The Company believes that successful operation of
its proposed unregulated business activities under a holding company structure
will better position the Company in an increasingly competitive utility
environment.
The Company's bulk power operations have contributed significant earnings to the
Company in recent years as a result of increased off-system sales. The Company
plans to expand its wholesale power trading functions which could include an
expansion of its generation portfolio. The Company continuously evaluates its
physical asset acquisition strategies to ensure an optimal mix of base-load
generation, peaking generation and purchased power in its power portfolio. In
addition to the continued power trading operations, the Company will further
focus on opportunities in the market place where excess capacity is disappearing
and mid- to long-term market demands are growing.
The Company's current business plan includes a 300% increase in sales and a
doubling of its generating capacity through the construction or acquisition of
additional power generation assets in its surrounding region of operations over
the next five to seven years. Such growth will be dependent upon the Company's
ability to generate $400 to $600 million to fund the Company's expansion. There
can be no assurance that these competitive businesses, particularly the
generation business, will be successful or, if unsuccessful, that they will not
have a direct or indirect adverse effect on the Company.
At the Federal level, there are a number of proposals on electric restructuring
being considered with no concrete timing for definitive actions. It is expected
that previously introduced restructuring bills will continue to be considered
this year. Issues such as stranded cost recovery, market power, utility
regulation reform, the role of states, subsidies, consumer protections and
environmental concerns are expected to be at the forefront of the Congressional
debate. In addition, the FERC has stated that if Congress mandates electric
retail access, it should leave the details of the program to the states with the
FERC having the authority to order the necessary transmission access for the
delivery of power for the states' retail access programs.
Although it is unable to predict the ultimate outcome of retail competition in
New Mexico, the Company has been and will continue to be active at both the
state and Federal levels in the public policy debates on the restructuring of
the electric utility industry. The Company will continue to work with customers,
regulators, legislators and other interested parties to find solutions that
bring benefits from competition while recognizing the importance of reimbursing
utilities for past commitments.
22
RESULTS OF OPERATIONS
The following discussion is based on the financial information presented in
Footnote 2 of the Consolidated Financial Statements Segment Information. The
table below sets forth the operating results as percentages of total operating
revenues for each business segment.
Quarter Ended March 31, 2000
Electric Gas Consolidated
--------- -------- ------------
Operating revenues......................... 100.00% 100.00% 100.00%
Cost of energy sold........................ 48.54% 61.17% 52.20%
Cost of sales and projects................. 0.00% 0.00% 0.06%
--------- -------- ----------
Gross Margin............................... 51.46% 38.83% 47.73%
--------- -------- ----------
Administrative and other costs............. 5.91% 10.48% 8.64%
Corporate administrative and other costs... 0.00% 0.00% 1.32%
Energy production costs.................... 15.58% 0.39% 11.09%
Depreciation and amortization.............. 8.23% 5.68% 7.47%
Transmission and distribution costs........ 3.48% 7.83% 4.76%
Taxes other than income taxes.............. 2.69% 2.09% 2.39%
Income taxes............................... 3.28% 3.78% 2.44%
--------- -------- ----------
Total non-fuel operating expenses........ 39.17% 30.24% 38.10%
--------- -------- ----------
Operating income........................... 12.29% 8.59% 9.63%
--------- -------- ----------
Quarter Ended March 31, 1999
Operating revenues......................... 100.00% 100.00% 100.00%
Cost of energy sold........................ 33.70% 56.86% 40.47%
Cost of sales and projects................. 0.00% 0.00% 0.96%
--------- -------- ----------
Gross Margin............................... 66.30% 43.14% 58.57%
--------- -------- ----------
Administrative and other costs............. 9.62% 13.49% 11.61%
Corporate administrative and other costs... 0.81% 0.58% 0.74%
Energy production costs.................... 18.66% 0.42% 12.75%
Depreciation and amortization.............. 9.90% 5.68% 8.46%
Transmission and distribution costs........ 4.13% 7.84% 5.23%
Taxes other than income taxes.............. 4.06% 1.95% 3.42%
Income taxes............................... 3.94% 3.43% 3.51%
--------- -------- ----------
Total non-fuel operating expenses........ 51.12% 33.40% 45.72%
--------- -------- ----------
Operating income........................... 15.19% 9.74% 12.85%
--------- -------- ----------
23
Three Months Ended March 31, 2000 Compared to
Three Months Ended March 31, 1999
Electric Operations - Operating revenues grew $41.9 million (22.7%) for the
period to $226.4 million as a 97.4% improvement in wholesale electricity sales
was only partially offset by the implementation of a new rate order in late July
1999 (which lowered rates by $9.7 million quarter-over-quarter). The Company
delivered wholesale (bulk) power of 3.36 million MWh of electricity this period
compared to 1.96 million MWh delivered last year, an increase of 71.4%. Retail
electricity delivery was 1.7 million MWh compared to 1.6 million MWh delivered
last period, a 3.4% improvement, while revenues declined 5.5% as a result of the
new rate order and unfavorable price mix due to mild first quarter weather
conditions. Revenue growth for both the retail and wholesale businesses was
negatively impacted by warmer temperatures in the southwest during the winter
months.
The gross margin, or operating revenues minus cost of energy sold, decreased
$5.8 million reflecting a decrease in gross margin as a percentage of revenues
of 14.8%. This decline reflects the rate reduction discussed above and higher
fuel and purchased power costs due to higher wholesale sales volumes and an
unscheduled outage at the Company's San Juan coal generation facility.
Administrative and general costs decreased $4.4 million (24.6%) for the period.
This decrease is due to reduced Year 2000 ("Y2K") compliance costs and bad debt
accruals. As a percentage of revenues, administrative and other decreased to
5.9% from 9.6% for the period ended March 31, 2000 and 1999, respectively
primarily as a result of reduced costs.
Energy production costs increased $0.9 million (2.5%) for the period. These
costs are generation related. The increase is due to increased maintenance of
$2.6 million due to a scheduled outage at San Juan Unit 3, partially offset by
lower employee costs of $1.7 million primarily due to additional employee
incentive and retiree healthcare costs in the prior year at PVNGS. As a
percentage of revenues, energy production costs decreased from 18.7% to 15.6%.
The decrease is primarily due to continued cost control.
Depreciation and amortization increased $0.4 million (2.1%) for the period. The
increase is due to pollution control improvements at certain generation plants
and the impact of amortizing the costs of a new customer billing system.
Depreciation and amortization as a percentage of revenues decreased from 9.9% to
8.2% reflecting a significant increase in energy sales without a corresponding
increase in plant assets.
Transmission and distribution costs increased $0.3 million (3.3%) for the year.
As a percentage of revenues, transmission and distribution costs decreased from
4.1% to 3.5%. These decreases were primarily the result of lower maintenance
costs due to the milder weather.
24
Gas Operations - Operating revenues increased $9.7 million (11.4%) for the
period to $94.5 million. This increase was driven by a 26.3% increase in the
average rate charges per decatherm due to strong gas prices despite a mild
winter resulting in a 4.6% volume decrease to residential and commercial
customers. Price increases were partially offset by a 12.2% natural gas sales
volume decline though transportation volume posted double-digit growth of 15.0%.
The gross margin, or operating revenues minus cost of energy sold, increased
$0.1 million (0.3%). As a percentage of revenues, gross margin decreased 4.3%.
The decrease is due to lower volume sales.
Administrative and general costs decreased $1.5 million (13.4%). This decrease
is mainly due to reduced Y2K compliance costs and bad debt accruals. As a
percentage of revenues, administrative and other costs decreased from 13.5 to
10.5% primarily as a result of reduced costs.
Depreciation and amortization increased $0.5 million (11.3%). The increase is
due to the impact of the amortization of the new customer billing system.
Depreciation and amortization, as a percentage of revenues, is constant at 5.7%.
Transmission and distribution expenses increased $0.8 million (11.2%) for the
period. The increase is primarily due to additional preventive plant maintenance
and associated overtime labor costs. Transmission and distribution expenses, as
a percentage of revenues, is constant at 7.8%.
Other - Other includes the Company's unregulated businesses, including Avistar
and certain non-allocated corporate functions. The unregulated businesses
contributed $0.35 million in revenues for the period compared to $3.5 million in
the comparable prior year period due to lower business volumes. Operating losses
for the unregulated businesses increased from $1.3 million in the prior year to
$4.2 million in the current year, as the Company continues to incur start-up
costs with these operations.
Consolidated - Corporate administrative and general costs increased $2.2 million
for the period. This increase was due to higher legal and environmental costs
offset by reduced Y2K compliance costs and bonus accruals.
Other income and deductions, net of taxes, increased $1.4 million for the period
to $7.5 million due to higher PVNGS decommissioning trust gains of $0.6 million,
net of taxes and a net corporate hedge gain of $0.5 million, net of taxes.
Net interest charges decreased $1.5 million for the period to $16.5 million
primarily as a result of the retirement of $31.6 million of senior unsecured
notes in June and August 1999 and $32.8 million in January 2000.
25
The Company's consolidated income tax expense, before the cumulative effect of
an accounting change, was $12.7 million, a decrease of $0.9 million for the
quarter. The Company's income tax effective rate, before the cumulative effect
of accounting change, decreased from 37% to 36% due to the reversal of deferred
income taxes accrued at prior rates in accordance with ratemaking provisions.
The Company's net earnings from continuing operations for the quarter ended
March 31, 2000, were $22.0 million compared to $26.6 million for the quarter
ended March 31, 1999. Earnings per share from continuing operations excluding
the cumulative effect of the accounting change on a diluted basis were $0.55
compared to $0.63 for the quarter ended March 31, 1999. Diluted weighted average
shares outstanding were 40.0 million and 41.8 million in 2000 and 1999,
respectively. The decrease reflects the common stock repurchase program in 1999
and 2000. Despite the fact that 2000 results were negatively impacted by the
electric rate reduction, increased fuel and purchased power costs, and warmer
weather in the West, net earnings per share from continuing operations remained
constant due to expansion of the Company's wholesale electricity business.
Cumulative Effect of a Change in Accounting Principle - Effective January 1,
1999, the Company adopted EITF Issue No. 98-10. The effect of the initial
application of the new standard is reported as a cumulative effect of a change
in accounting principle. As a result, the Company recorded additional earnings,
net of taxes, of approximately $3.5 million, or $0.08 per common share for the
first quarter of 1999, to recognize the gain on net open physical electricity
purchase and sales commitments considered to be trading activities.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2000, the Company had working capital of $135.2 million including
cash and cash equivalents of $79.0 million. This is a decrease in working
capital of $31.8 million as compared to $167.0 million at December 31, 1999.
This decrease is primarily the result of a decrease in cash and cash equivalents
of $41.4 million due to the common stock and senior unsecured notes repurchases
(see "Financing Activities" and "Stock Repurchase" below).
Cash generated from operating activities was $35.6 million, a decrease of $4.4
million from 1999. This decrease was primarily the result of lower earnings from
continuing operations and the timing of accounts payable payments, partially
offset by increased collection of accounts receivable, as the implementation
problems with the Company's new customer billing system are resolved (see
Footnote 6 to the Consolidated Financial Statements).
26
Cash used for investing activities was $16.9 million in the quarter ended March
31, 2000 compared to cash provided of $19.1 million for the quarter ended March
31, 1999. This increased spending reflects higher construction expenditures in
2000 of $4.2 million and the 1999 liquidation of insurance-based investments in
the nuclear decommissioning trust of $26.6 million (see financing activities for
the payment of decommissioning debt of $26.6 million for the quarter ended March
31, 1999).
Cash used for financing activities was $60.1 million in the quarter ended March
31, 2000 compared to $41.3 million for the quarter ended March 31, 1999. This
increase is the result of the repurchase of $34.7 million of senior unsecured
notes at a cost of $32.8 million and $18.9 million of common stock by the
Company. Cash used for financing activities in the quarter ended March 31, 1999,
reflected $26.6 million of loan repayments associated with nuclear
decommissioning trust activities and $5.8 million of stock repurchases.
Capital Requirements
Total capital requirements include construction expenditures as well as other
major capital requirements and cash dividend requirements for both common and
preferred stock. The main focus of the Company's construction program is
upgrading generating systems, upgrading and expanding the electric and gas
transmission and distribution systems and purchasing nuclear fuel. Projections
for total capital requirements and construction expenditures for 2000 are $250.9
million and $219.1 million, respectively. Such projections for the years 2000
through 2004 are $1.2 billion and $1.1 billion, respectively. These estimates
are under continuing review and subject to on-going adjustment (see Competitive
Strategy above).
The Company's construction expenditures for the first quarter of 2000 were
entirely funded through cash generated from operations. The Company currently
anticipates that internal cash generation and current debt capacity will be
sufficient to meet capital requirements for the years 2000 through 2004 assuming
the Company receives a reasonable recovery of its stranded costs (see "Stranded
Costs" below). To cover the difference in the amounts and timing of cash
generation and cash requirements, the Company intends to use short-term
borrowings under its liquidity arrangements.
Liquidity
At May 1, 2000, the Company had $175 million of available liquidity
arrangements, consisting of $150 million from a senior unsecured revolving
credit facility ("Credit Facility"), and $25 million in local lines of credit.
The Credit Facility will expire in March 2003. There were no outstanding
borrowings as of May 1, 2000.
27
The Company's ability to finance its construction program at a reasonable cost
and to provide for other capital needs is largely dependent upon its ability to
earn a fair return on equity, results of operations, credit ratings, regulatory
approvals and financial market conditions. Financing flexibility is enhanced by
providing a high percentage of total capital requirements from internal sources
and having the ability, if necessary, to issue long-term securities, and to
obtain short-term credit.
The Company's rating outlook by Standard and Poor's ("S&P") is described as
"stable". S&P has rated the Company's senior unsecured debt and bank loan credit
rating "BBB-". The Company's rating outlook by Moody's Investors Services, Inc
("Moody's") is "developing". Moody's has rated the Company's senior unsecured
notes and senior unsecured pollution control revenue bonds "Baa3"; and preferred
stock "ba1". The EIP lease obligation bonds are also rated "Ba1". Duff & Phelps
Credit Rating Co. ("DCR") rates the Company' senior unsecured notes and senior
unsecured pollution control revenue bonds "BBB-", the Company's EIP lease
obligation "BB+" and the Company's preferred stock "BB-". Investors are
cautioned that a security rating is not a recommendation to buy, sell or hold
securities, that it may be subject to revision or withdrawal at any time by the
assigning rating organization, and that each rating should be evaluated
independently of any other rating.
Future rating actions for the Company's securities will depend in large part on
the filing with the PRC relating to numerous restructuring issues, including the
Company's proposed plan to separate the utility into a generation business and a
distribution and transmission business as required by the Restructuring Act
("Proposed Plan"). The Company believes that based on its Proposed Plan (see
"Proposed Holding Company Plan" below), that UtilityCo and PowerCo will both
receive investment grade credit ratings, however such ratings will be contingent
upon many factors that have yet to be determined. Recently DCR announced that
assuming the Company implements its Proposed Plan, it would expect to issue
investment grade ratings for UtilityCo and PowerCo's rating would "border
investment grade". DCR cautioned that ratings for UtilityCo and PowerCo were
highly conditional upon reaching assumptions provided by the Company.
Covenants in the Company's Palo Verde Nuclear Generating Station Units 1 and 2
lease agreements limit the Company's ability, without consent of the owner
participants in the lease transactions: (i) to enter into any merger or
consolidation, or (ii) except in connection with normal dividend policy, to
convey, transfer, lease or dividend more than 5% of its assets in any single
transaction or series of related transactions. The Credit Facility imposes
similar restrictions regardless of credit ratings.
Financing Activities
In January 2000, the Company reacquired $34.7 million of its 7.5% senior
unsecured notes through open market purchases at a cost of $32.8 million. On
October 28, 1999, tax-exempt pollution control revenue bonds of $11.5 million
with an interest rate of 6.60% were issued to partially reimburse the Company
for expenditures associated with its share of a recently completed upgrade of
the emission control system at SJGS.
28
The Company currently has no requirements for long-term financings during the
period of 2000 through 2004 except as part of its Proposed Plan (see "Proposed
Holding Company Plan" below). However, during this period, the Company could
enter into long-term financings for the purpose of strengthening its balance
sheet and reducing its cost of capital. The Company continues to evaluate its
investment and debt retirement options to optimize its financing strategy and
earnings potential. No additional first mortgage bonds may be issued under the
Company's mortgage. The amount of SUNs that may be issued is not limited by the
SUNs indenture. However, debt to capital requirements in certain of the
Company's financial instruments would ultimately restrict the Company's ability
to issue SUNs.
Proposed Holding Company Plan
On April 18, 2000, the Company filed as an exhibit on Form 8-K, unaudited pro
forma financial statements of PowerCo and UtilityCo that give effect to the
Company's Proposed Plan. The Proposed Plan is based on management's intent as of
April 18, 2000, the date of the Form 8-K filing, and is based on certain
assumptions that in management's opinion are reasonable. The Proposed Plan as
detailed in the Form 8-K dated April 18, 2000, has not been finalized by the
Company and is subject to regulatory and other approvals as well as market,
economic and business conditions. As such, the Proposed Plan may be subject to
significant changes before implementation and the pro forma financial statements
as filed in the Form 8-K may require revision to reflect the final plan of
separation pursuant to the Restructuring Act.
The Proposed Plan assumes that the Asset Transfer will be accomplished as
follows: Manzano will make an equity contribution to UtilityCo of $425 million
of regulated assets. These assets will be transferred through a dividend from
PowerCo to Manzano. UtilityCo will then acquire the remaining regulated assets
from PowerCo through the following transactions: (i) by way of an exchange
offer, as described below, an assumption of PowerCo's (formerly the Company's)
outstanding public Senior Unsecured Notes ("SUNs") and preferred stock, (ii) the
proceeds (approximately $253 million) from the issuance of commercial paper and
newly-issued UtilityCo SUNs, and (iii) the assumption of $334 million of certain
related liabilities. All transactions are expected to be completed
simultaneously.
The current holders of PowerCo's public SUNs may be offered the opportunity to
exchange their approximately $368 million of existing SUNs for $368 million of
SUNs issued by UtilityCo with like terms and conditions. The current holders of
PowerCo's preferred stock will be offered the opportunity to exchange their
approximately $12.8 million of preferred stock for preferred stock issued by
UtilityCo with like terms and conditions.
29
Although there are other alternatives to finance the acquisition of the
regulated assets from PowerCo, based on current market, economic and business
conditions, the Company currently believes that the foregoing transactions
represent the most advantageous way to effect the Asset Transfer.
Stock Repurchase
In March 1999, the Company's board of directors approved a plan to repurchase up
to 1,587,000 shares of the Company's outstanding common stock with maximum
purchase price of $19.00 per share. In December 1999, the Company's board of
directors authorized the Company to repurchase up to an additional $20.0 million
of the Company's common stock. As of December 31, 1999, the Company repurchased
1,070,700 shares of its previously outstanding common stock at a cost of $18.8
million. From January 2, 2000 through March 31, 2000, the Company repurchased an
additional 1,167,684 shares of its outstanding common stock at a cost of $18.9
million. The Company has completed all current stock repurchase plans, but may
repurchase additional common stock from time to time for various corporate
purposes.
Acquisition of Certain Assets
The Company and Tri-State Generation and Transmission Association, Inc.
("Tri-State") entered into an asset sale agreement dated September 9, 1999,
pursuant to which Tri-State has agreed to sell certain assets consisting
primarily of transmission assets, a fifty percent interest in an inactive power
plant located near Albuquerque, and an office building. The purchase price was
originally $13.2 million, subject to adjustment at the time of closing. In
addition, the Company has committed to advance $11.7 million relating to its
agreement to become the power supplier to an electric cooperative. The asset
sale agreement contains standard covenants and conditions for this type of
agreement. Currently the Company anticipates that the purchase will be completed
in two phases by approximately the end of 2000.
Dividends
The Company resumed the payment of cash dividends on common stock in May 1996.
The Company's board of directors reviews the Company's dividend policy on a
continuing basis. The declaration of common dividends is dependent upon a number
of factors including the extent to which cash flows will support dividends, the
availability of retained earnings, the financial circumstances and performance
of the Company, the PRC's decisions on the Company's various regulatory cases
currently pending, the effect of deregulating generation markets and market
economic conditions generally. In addition, the ability to recover stranded
costs in deregulation, future growth plans and the related capital requirements
and standard business considerations will also affect the Company's ability to
pay dividends. In addition, following the separation as required by the
Restructuring Act, the ability of the proposed holding company, Manzano, to pay
dividends will depend initially on the dividends and other distributions that
UtilityCo and PowerCo pay to the holding company.
30
Capital Structure
The Company's capitalization, including current maturities of long-term debt is
shown below:
March 31, December 31,
2000 1999
--------- ------------
Common Equity....................... 47.4% 46.7%
Preferred Stock..................... 0.7 0.7
Long-term Debt...................... 51.9 52.6
----- -----
Total Capitalization*............ 100.0% 100.0%
===== =====
* Total capitalization does not include as debt the present value ($143
million as of March 31, 2000 and $161 million as of December 31, 1999) of
the Company's lease obligations for PVNGS Units 1 and 2 and EIP.
OTHER ISSUES FACING THE COMPANY
THE RESTRUCTURING ACT AND THE Formation of Holding Company
The Restructuring Act requires that assets and activities subject to the PRC
jurisdiction, primarily electric and gas distribution, and transmission assets
and activities (collectively, the "Regulated Business"), be separated from
competitive businesses, primarily electric generation and service and certain
other energy services (collectively, "the Deregulated Competitive Businesses").
Such separation is required to be accomplished through the creation of at least
two separate corporations. The Company has decided to accomplish the mandated
separation by the formation of a holding company and the transfer of the
Regulated Businesses to a newly-created, wholly-owned subsidiary of the holding
company, subject to various approvals. The holding company structure is
expressly authorized by the Restructuring Act. Corporate separation of the
Regulated Business from the Deregulated Competitive Businesses must be completed
by January 1, 2001, although the date may be extended by up to one year by the
PRC. Completion of corporate separation will require a number of regulatory
approvals by, among others, the PRC, the Federal Energy Regulatory Commission
and the Nuclear Regulatory Commission.
Completion of corporate separation will also require shareholder approval and
other consents. Completion may also entail significant restructuring activities
with respect to the Company's existing liquidity arrangements and the Company's
publicly-held senior unsecured notes of which $403.4 million were outstanding as
of December 31, 1999. Holders of the Company's senior unsecured notes, $135
million at 7.5% and $268.4 million at 7.1%, may be offered the opportunity to
exchange their securities for similar senior unsecured notes of the newly
created regulated business (see "Liquidity and Capital Resources - Financing
Activities and Proposed Holding Company Plan" above).
31
Stranded Costs
The Restructuring Act recognizes that electric utilities should be permitted a
reasonable opportunity to recover an appropriate amount of the costs previously
incurred in providing electric service to its customers ("stranded costs").
Stranded costs represent all electric power generating costs, currently in
rates, in excess of the expected competitive market price and include plant
decommissioning costs, regulatory assets, and lease and lease-related costs.
Utilities will be allowed to recover no less than 50% of stranded costs through
a non-bypassable charge on all customer bills for five years after
implementation of customer choice. The PRC could authorize a utility to recover
up to 100% of its stranded costs if the PRC finds that recovery of more than
50%: (i) is in the public interest; (ii) is necessary to maintain the financial
integrity of the public utility; (iii) is necessary to continue adequate and
reliable service; and (iv) will not cause an increase in rates to residential or
small business customers during the transition period. The Restructuring Act
also allows for the recovery of nuclear decommissioning costs by means of a
separate wires charge over the life of the underlying generation assets (see NRC
Prefunding below). The Company expects to recover its regulatory assets along
with other stranded costs associated with the deregulated business through its
stranded costs recovery. As a result, these regulatory assets have been
reclassified to reflect the costs associated with the discontinuation of
Statement of Financial Accounting Standards No. 71, "Accounting for the Effects
of Certain Types of Regulation" (SFAS 71), and the adoption of Statement of
Financial Accounting Standards No. 101, "Regulated Enterprises--Accounting for
the Discontinuance of Application of FASB Statement 71," and transferred to
UtilityCo in the Asset Transfer. Stranded costs include other operating costs in
excess of the established regulatory assets. The Company is still evaluating its
expected stranded costs and has not made a final determination of those costs.
The Company's current estimate of its stranded costs, which include nuclear
decommissioning costs, is approximately $650 million to $800 million which
reflects the present value of these costs as calculated in 2002 dollars based on
its most current set of assumptions at the time of this filing. The Company has
not yet finalized the amount of stranded cost recovery it will actually seek
from the PRC pursuant to the Restructuring Act. Finalization of these issues is
expected to occur prior to June 1, 2000. The calculation of stranded costs is
subject to a number of highly sensitive assumptions, including the date of open
access, appropriate discount rates and projected market prices, among others.
The Company believes that the Restructuring Act if properly applied provides an
opportunity for recovery of a reasonable amount of stranded costs. If regulatory
orders do not provide for a reasonable recovery, the Company is prepared to
vigorously pursue judicial remedies. Final determination and quantification of
stranded cost recovery has not been made by the PRC. The determination will have
an impact on the recoverability of the related assets and may have a material
effect on the future financial results and position of the Company.
32
Transition Cost Recovery
In addition, the Restructuring Act authorizes utilities to recover in full any
prudent and reasonable costs incurred in implementing full open access
("transition costs"). These transition costs will be recovered through 2007 by
means of a separate wires charge. The PRC may extend this date by up to one
year. The Company is still evaluating its expected transition costs and has not
made a final determination of those costs. The Company, however, currently
estimates that these costs will be approximately $50 million to $60 million,
including allowances for certain costs which are non-deductible for income tax
purposes. Transition costs for which the Company will seek recovery include
professional fees, financing costs including underwriting fees, consents
relating to the transfer of assets, management information system changes
including billing system changes and public and customer education and
communications. Recoverable transition costs are currently being capitalized and
will be amortized over the recovery period to match related revenues. Recovery
of any transition costs, which are not deemed recoverable by the PRC, may be
vigorously pursued through all remedies available to the Company with the
ultimate outcome uncertain. Costs not recoverable will be expensed when incurred
unless these costs are otherwise permitted to be capitalized under current and
future accounting rules. If the amount of non-recoverable transition costs is
material, the resulting charge to earnings may have a material effect on the
future financial results and position of the Company.
Deregulated Competitive Businesses
The Deregulated Competitive Businesses which would be retained by the Company
include the Company's interests in generation facilities, including PVNGS, Four
Corners, and SJGS, together with the pollution control facilities which have
been financed with pollution control revenue bonds. Based on the Proposed Plan,
approximately $586 million in pollution control revenue bonds would remain as
obligations of the generation subsidiary, as would certain other of the
Company's long-term obligations. The Deregulated Competitive Businesses would
not be subject to regulation by the PRC. Under the Company's restructuring plan,
the Company's bondholders will continue to hold obligations of the Company
following restructuring.
The Company will continue its Deregulated Competitive Business following the
restructuring, which will be subject to market conditions. Following the
separation as required by the Restructuring Act, in support of its wholesale
trading operations, the Company is targeting to double its generating capacity
and triple its sales volume. Avistar, the Company's current non-regulated
33
subsidiary, provides services in the areas of utility management for
municipalities and other communities, remote metering and development of energy
conservation and supply projects for federal government facilities. The Company
does not anticipate an earnings contribution from Avistar over the next few
years.
NRC Prefunding
Pursuant to NRC rules on financial assurance requirements for the
decommissioning of nuclear power plant, the Company has a program for funding
its share of decommissioning costs for PVNGS through a sinking fund mechanism
(see "PVNGS Decommissioning Funding"). The NRC rules on financial assurance
became effective on November 23, 1998. The amended rules provide that a licensee
may use an external sinking fund as the exclusive financial assurance mechanism
if the licensee recovers estimated decommissioning costs through cost of service
rates or a "non-bypassable charge". Other mechanisms are prescribed, such as
prepayment, surety methods, insurance and other guarantees, to the extent that
the requirements for exclusive reliance on the fund mechanism are not met.
The Restructuring Act allows for the recoverability of 50% up to 100% of
stranded costs including decommissioning costs (see "Stranded Costs"). The
Restructuring Act specifically identifies nuclear decommissioning costs as
eligible for separate recovery over a longer period of time than other stranded
costs if the PRC determines a separate recovery mechanism to be in the public
interest. In addition, the Restructuring Act states that it is not requiring the
PRC to issue any order which would result in loss of eligibility to exclusively
use external sinking fund methods for decommissioning obligations pursuant to
Federal regulations. If the Company is unable to meet the requirements of the
NRC rules permitting the use of an external sinking fund because it is unable to
recover all of its estimated decommissioning costs through a non-bypassable
charge, the Company may have to pre-fund or find a similarly capital intensive
means to meet the NRC rules. There can be no assurance that such an event will
not negatively affect the funding of the Company's growth plans.
In addition, as part of the determination and quantification of the stranded
costs related to the decommissioning, the Company will have to estimate future
decommissioning costs. If the Company's estimate proves to be less than the
actual costs of decommissioning, any cost in excess of the amount allowed
through stranded cost recovery may not be recoverable. Such excess costs, if
any, will also be subject to the pre-funding requirements discussed above.
Competition
Under current law, the Company is not in direct retail competition with any
other regulated electric and gas utility. Nevertheless, the Company is subject
to varying degrees of competition in certain territories adjacent to or within
34
areas it serves that are also currently served by other utilities in its region
as well as cooperatives, municipalities, electric districts and similar types of
government organizations.
The Restructuring Act opens the state's electric power market to customer choice
for certain customers beginning in 2001 and the balance of customers in 2002. As
a result, the Company may face competition from companies with greater financial
and other resources. There can be no assurance that the Company will not face
competition in the future that would adversely affect its results.
It is the current intention to have the Company's Deregulated Competitive
Businesses engage primarily in energy-related businesses that will not be
regulated by state or Federal agencies that currently regulate public utilities
(other than the FERC and NRC). These competitive businesses, including the
generation business, will encounter competition and other factors not previously
experienced by the Company, and may have different, and perhaps greater,
investment risks than those involved in the regulated business that will be
engaged in by the Regulated Businesses. Specifically, the passage of the
Restructuring Act and deregulation in the electric utility industry generally is
likely to have an impact on the price and margins for electric generation and
thus, the return on the investment in electric generation assets. In response to
competition and the need to gain economies of scale, electricity producers will
need to control costs to maintain margins, profitability and cash flow that will
be adequate to support investments in new technology and infrastructure. The
Company will have to compete directly with independent power producers, many of
whom will be larger in scale, thus creating a competitive advantage for those
producers due to scale efficiencies. The Company's current business plan
includes a 300% increase in sales achieved by doubling power generation assets
in its surrounding region of operations through construction or acquisition over
the next five to seven years. Such growth will be dependent upon the Company's
ability to generate $400 to $600 million to fund the deregulated competitive
expansion. There can be no assurance that these Deregulated Competitive
Businesses, particularly the generation business, will be successful or, if
unsuccessful, that they will not have a direct or indirect adverse effect on the
Company.
Implementation of New Billing System
On November 30, 1998, the Company implemented a new customer billing system. Due
to a significant number of problems associated with the implementation of the
new billing system, the Company was unable to generate appropriate bills for all
its customers through the first quarter of 1999 and was unable to analyze
delinquent accounts until November 1999.
As a result of the delay of normal collection activities, the Company incurred a
significant increase in delinquent accounts, many of which occurred with
customers that no longer have active accounts with the Company. As a result, the
Company significantly increased its bad debt accrual throughout 1999.
35
The following is a summary of the allowance for doubtful accounts during for the
three months ended March 31, 2000 and year ended December 31, 1999:
March 31, December 31,
2000 1999
--------- -----------
(In thousands)
Allowance for doubtful accounts, beginning
of year........................................... $ 12,504 $ 836
Bad debt accrual.................................... 734 11,496
Less: Write off (adjustments) of uncollectible
accounts.......................................... 734 (172)
--------- ----------
Allowance for doubtful accounts, end of period ..... $ 12,504 $ 12,504
========= ==========
The Company is still analyzing its delinquent accounts resulting from the new
customer billing system implementation problems and expects to write off a
significant portion upon completion of its analysis. Based upon information
available at March 31, 2000, the Company believes the allowance for doubtful
accounts is adequate for management's estimate of potential uncollectible
accounts.
Electric Rate Case
On August 25, 1999, the PRC issued an order approving settlement of the
Company's electric rate case. The PRC ordered the Company to reduce its electric
rates by $34.0 million retroactive to July 30, 1999. In addition, the order
includes a rate freeze until retail electric competition is fully implemented in
New Mexico or until January 1, 2003. The settlement will reduce annual revenues
by an estimated $37.0 million based on expected customer growth and will reduce
electric distribution operating revenues in the year 2000 by approximately $20
million.
As part of the settlement, the Company agreed that certain language changes to
the retail tariff under which Kirtland Air Force Base ("KAFB") currently takes
service under be set for a separate hearing before the PRC. Hearings on this
issue have not yet been scheduled. KAFB has not renewed its power service
contract with the Company that expired in December 1999 but continues to
purchase retail service from the Company.
GAS RATE ORDERS
In April 2000, the New Mexico Supreme Court ("Supreme Court") ruled in favor of
the Company in overturning a $6.9 million rate reduction imposed on the
Company's natural gas utility by the state's former Public Utility Commission
("PUC") in 1997 for its 1995 gas rate case. Although the Supreme Court upheld
certain portions of the gas rate case order by the PUC, the Supreme Court
vacated the rate order as "unreasonable and unlawful" because certain
36
disallowances ordered by the PUC unreasonably hindered the Company's ability to
earn a fair rate of return. The case has been remanded to the PRC. The Company
has $19.4 million of reserves at March 31, 2000 related to regulatory assets
associated with the rate case order. The Supreme Court order has supported
recovery of many of the costs that the Company has included in these reserves.
As a result, the Company has initiated discussions with the PRC Staff and the
New Mexico Attorney General's office regarding the ruling and is unable to
predict the PRC's position and the ultimate outcome of these discussions. Once a
settlement is reached, a final determination of the reversed rate issues will be
made.
In addition in March 2000, the Supreme Court vacated the PUC's final order in
the Company's 1997 gas rate case and remanded it back to the PRC. The Supreme
Court vacated the rate order related to portions of the final order requiring
the Company to offer residential customers a choice of the access fees. The
Company is attempting to negotiate an interim order with the PRC to set new
rates. The Company does not believe the final outcome in this case will have a
material impact on the consolidated financial results and position of the
Company.
Power Outage
On March 18, 2000, a power outage, caused by a brush fire which affected three
main transmission lines, resulted in a loss of power for a significant portion
of the state of New Mexico. The fire was caused by circumstances outside the
control of the Company. The power outage caused rotating blackouts and brownouts
for several hours in most major communities in the state. The damage to the
Company's transmission lines and the interruption to business caused by the fire
were not material. The Company has received approximately 1,500 claims for
property damage, mainly for small appliances, resulting from the power outage.
No lawsuits against the Company have been filed related to this event. The
Company is unable to estimate the potential loss, if any, related to this event,
but does not believe it will have a material impact on the financial results or
financial position of the Company. The Company generally does not reimburse
customers for damage if the Company is not at fault.
Effects of Certain Pending Events on Future Revenues
The Company's 100 MW power sale contract with San Diego Gas and Electric Company
("SDG&E") will expire in April of 2001. SDG&E has notified the Company that it
will not renew this contract. The Company currently estimates that the net
revenue reduction resulting from the expiration of the SDG&E contract will be
approximately $20 million annually. In addition, there is currently ongoing
litigation between the Company and SDG&E regarding prior years' contract
pricing.
On October 4, 1999, Western Area Power Administration ("Western") filed a
petition at the FERC requesting the FERC, on an expedited basis, to order the
Company to provide network transmission service to Western under the Company's
Open Access Transmission Tariff on behalf of the United States Department of
37
Energy ("DOE") as contracting agent for KAFB. The Company is opposing the
Western petition and intends to litigate this matter vigorously. The net revenue
reduction to the Company if the DOE replaces the Company as the power supplier
to KAFB is estimated to be approximately $7.0 million annually.
A further discussion of these and other legal proceedings can be found in PART
II, ITEM 1. - "LEGAL PROCEEDINGS" in this Form 10-Q.
COAL FUEL SUPPLY
The coal requirements for the SJGS are being supplied by SJCC, a wholly-owned
subsidiary of BHP, from certain Federal, state and private coal leases under a
Coal Sales Agreement, pursuant to which SJCC will supply processed coal for
operation of the SJGS until 2017. The primary sources of coal for current
operations are a mine adjacent to the SJGS and a mine located approximately 25
miles northeast of the SJGS in the La Plata area of northwestern New Mexico.
Additional coal resources will be required. The Company is currently in
discussions regarding alternatives.
In 1997, the Company was notified by SJCC of certain audit exceptions identified
by the Federal Minerals Management Service ("MMS") for the period 1986 through
1997. These exceptions pertain to the valuation of coal for purposes of
calculating the Federal coal royalty. Primary issues include whether coal
processing and transportation costs should be included in the base value of La
Plata coal for royalty determination. Administrative appeals of the MMS claims
are pending.
The Company was notified during the fourth quarter of 1998 that the MMS agreed
to a mediation of the claims. It is the Company's understanding that the
mediation has not yet occurred. The Company is unable to predict the outcome of
this matter and the Company's exposures have not yet been assessed.
In 1996, the Company was notified by SJCC that the Navajo Nation proposed to
select certain properties within the San Juan and La Plata Mines (the "mining
properties") pursuant to the Navajo-Hopi Land Settlement Act of 1974 (the
"Act"). The mining properties are operated by SJCC under leases from the BLM and
comprise a portion of the fuel supply for the SJGS. An administrative appeal by
SJCC is pending. In the appeal, SJCC argued that transfer of the mining
properties to the Navajo Nation may subject the mining operations to taxation
and additional regulation by the Navajo Nation, both of which could increase the
price of coal that might potentially be passed on to the SJGS through the
existing coal sales agreement. The Company is monitoring the appeal and other
developments on this issue and will continue to assess potential impacts to the
SJGS and the Company's operations. The Company is unable to predict the ultimate
outcome of this matter.
38
FUEL, WATER AND GAS NECESSARY FOR GENERATION OF ELECTRICITY
The Company's generation mix for 1999 was 67.6% coal, 31.0% nuclear and 1.4% gas
and oil. Due to locally available natural gas and oil supplies, the utilization
of locally available coal deposits and the generally abundant supply of nuclear
fuel, the Company believes that adequate sources of fuel are available for its
generating stations (see "Coal Fuel Supply" above).
Water for Four Corners and SJGS is obtained from the San Juan River. BHP holds
rights to San Juan River water and has committed a portion of such rights to
Four Corners through the life of the project. The Company and Tucson have a
contract with the USBR for consumption of 16,200 acre feet of water per year for
the SJGS, which contract expires in 2005. In addition, the Company was granted
the authority to consume 8,000 acre feet of water per year under a state permit
that is held by BHP. The Company is of the opinion that sufficient water is
under contract for the SJGS through 2005. Currently, the Company is in
discussions with the Jicarilla Apache Tribe for a twenty-seven year contract,
beginning in 2006, for replacement of the current USBR contract for 16,200 AF of
water. The Company cannot predict the outcome of these discussions but expects
to obtain a replacement water supply for the USBR contract that expires in 2005.
Various environmental approvals will likely be required for a replacement water
supply. The Company is actively involved in the San Juan River Recovery
Implementation Program to mitigate any concerns with the taking of the
negotiated water supply from a river that contains endangered species and
critical habitat. As a result, the Company believes that adequate sources of
water are available for its generating stations.
The Company obtains its supply of natural gas primarily from sources within New
Mexico pursuant to contracts with producers and marketers. These contracts are
generally sufficient to meet the Company's peak-day demand. The Company serves
certain cities which depend on EPNG or Transwestern Pipeline Company for
transportation of gas supplies. Because these cities are not directly connected
to the Company's transmission facilities, gas transported by these companies is
the sole supply source for those cities. The Company believes that adequate
sources of gas are available for its distribution systems.
NEW SOURCE REVIEW RULES
The United States Environmental Protection Agency ("EPA") has proposed changes
to its New Source Review (NSR) rules that could result in many actions at power
plants that have previously been considered routine repair and maintenance
activities (and hence not subject to the application of NSR requirements) as now
being subject to NSR. The EPA has been holding stakeholder meetings to try to
reach a resolution on this issue that is acceptable to the utility industry,
regulatory agencies, and environmental groups. No agreement had been reached by
May 1, 2000.
39
In November 1999, the Department of Justice at the request of the EPA filed
complaints against eight companies alleging the companies over the past 25 years
had made modifications to their plants in violation of the NSR requirements, and
in some cases the New Source Performance Standards (NSPS) regulations. Whether
or not the EPA will prevail is unclear at this time. The EPA has reached a
settlement with one of the companies sued by the Justice Department. The Company
believes that all of the routine maintenance, repair, and replacement work
undertaken at its power plants was and continues to be in accordance with the
requirements of NSR and NSPS.
The nature and cost of the impacts of EPA's changed interpretation of the
application of the NSR and NSPS, together with proposed changes to these
regulations, may be significant to the power production industry. However, the
Company cannot quantify these impacts but does not anticipate any material
adverse impact on the Company's financial condition or results of operations at
this time.
COMPLIANCE WITH ENVIRONMENTAL LAWS AND REGULATIONS
The normal course of operations of the Company necessarily involves activities
and substances that expose the Company to potential liabilities under laws and
regulations protecting the environment. Liabilities under these laws and
regulations can be material and in some instances may be imposed without regard
to fault, or may be imposed for past acts, even though such past acts may have
been lawful at the time they occurred. Sources of potential environmental
liabilities include (but are not limited to) the Federal Comprehensive
Environmental Response Compensation and Liability Act of 1980 and other similar
statutes.
The Company records its environmental liabilities when site assessments and/or
remedial actions are probable and a range of reasonably likely cleanup costs can
be estimated. The Company reviews its sites and measures the liability
quarterly, by assessing a range of reasonably likely costs for each identified
site using currently available information, including existing technology,
presently enacted laws and regulations, experience gained at similar sites, and
the probable level of involvement and financial condition of other potentially
responsible parties. These estimates include costs for site investigations,
remediation, operations and maintenance, monitoring and site closure. Unless
there is a probable amount, the Company records the lower end of this reasonably
likely range of costs (classified as other long-term liabilities at undiscounted
amounts).
The Company's recorded estimated minimum liability to remediate its identified
sites is $8.3 million. The ultimate cost to clean up the Company's identified
sites may vary from its recorded liability due to numerous uncertainties
inherent in the estimation process, such as: the extent and nature of
contamination; the scarcity of reliable data for identified sites; and the time
periods over which site remediation is expected to occur. The Company believes
40
that, due to these uncertainties, it is remotely possible that cleanup costs
could exceed its recorded liability by up to $30.3 million. The upper limit of
this range of costs was estimated using assumptions least favorable to the
Company.
Labor Union Negotiations
The collective bargaining agreement between the Company and the International
Brotherhood of Electrical Workers Local Union 611 ("IBEW") expired on May 1,
2000. The parties continue to negotiate for successor labor agreements which
cover the approximately 654 bargaining unit employees in the regulated and
competitive, deregulated operations. The current collective bargaining agreement
continues in full force and effect until successor agreements are reached or
until either party terminates the agreement. The Company continues to evaluate
options in the event the parties do not achieve successor agreements. The IBEW
has filed a charge with the National Labor Relations Board ("NLRB") alleging the
Company has bargained in bad faith, and by its actions has committed an unfair
labor practice. The Company will respond to the Union's allegations during the
normal course of the NLRB's investigation process. While the Company believes
that its relations with its employees are satisfactory, a dispute between the
Company and its employees that results in a strike could have a material adverse
effect on the Company.
Navajo Nation Tax Issues
Arizona Public Service Company ("APS"), the operating agent for Four Corners,
has informed the Company that in March 1999, APS initiated discussions with the
Navajo Nation regarding various tax issues in conjunction with the expiration of
a tax waiver, in July 2001, which was granted by the Navajo Nation in 1985. The
tax waiver pertains to the possessory interest tax and the business activity tax
associated with the Four Corners operations on the reservation. The Company
believes that the resolution of these tax issues will require an extended
process and could potentially affect the cost of conducting business activities
on the reservation. The Company is unable to predict the ultimate outcome of
discussions with Navajo Nation regarding these tax issues.
NEW AND PROPOSED ACCOUNTING STANDARDS
Decommissioning: The Staff of the Securities and Exchange Commission ("SEC") has
questioned certain of the current accounting practices of the electric industry
regarding the recognition, measurement and classification of decommissioning
costs for nuclear generating stations in financial statements of electric
utilities. In February 2000, the Financial Accounting Standards Board ("FASB")
issued an exposure draft regarding Accounting for Obligations Associated with
the Retirement of Long-Lived Assets ("Exposure Draft"). The Exposure Draft
requires the recognition of a liability for an asset retirement obligation at
fair value. In addition, present value techniques used to calculate the
liability must use a credit adjusted risk-free rate. Subsequent remeasures of
the liability would be recognized using an allocation approach. The Company has
not yet determined the impact of the Exposure Draft.
41
EITF Issue 99-14, Recognition of Impairment Losses on Firmly Committed Executory
Contracts: The Emerging Issues Task Force ("EITF") has added an issue to its
agenda to address impairment of leased assets. A significant portion of the
Company's nuclear generating assets are held under operating leases. Based on
the alternative accounting methods being explored by the EITF, the related
financial impact of the future adoption of EITF Issue No. 99-14 should not have
a material adverse effect on results of operations. However, a complete
evaluation of the financial impact from the future adoption of EITF Issue No.
99-14 will be undeterminable until EITF deliberations are completed and stranded
cost recovery issues are resolved.
Accounting for Derivative Instruments and Hedging Activities, SFAS 133: SFAS 133
establishes accounting and reporting standards requiring that every derivative
instrument be recorded in the balance sheet as either an asset or liability
measured at its fair value. The Statement also requires that changes in the
derivatives' fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. Special accounting for qualifying hedges
allows derivative gains and losses to offset related results on the hedged item
in the income statement, and requires that a company must formally document,
designate, and assess the effectiveness of transactions that receive hedge
accounting. The Company is in the process of reviewing and identifying all
financial instruments currently existing in the Company in compliance with the
provisions of SFAS 133. It is likely that the adoption of SFAS 133 will add
volatility to the Company's operating results and/or asset and liability
valuations reflecting the impact of mark-to-market accounting for commodity
contracts. In June 1999, Financial Accounting Standards Board ("FASB") issued
SFAS 137 to amend the effective date for the compliance of SFAS 133 to January
1, 2001. In March 2000, FASB issued an Exposure Draft that proposed certain
amendments to SFAS 133. The proposed amendments would, among other things,
expand the normal sales and purchases exception to contracts that implicitly or
explicitly permit net settlement and contracts that have a market mechanism to
facilitate net settlement. The expanded exception would likely exclude a
significant portion of the Company's contracts that previously would have
required valuation under SFAS 133. The Company has not determined the impact of
the Exposure Draft.
DISCLOSURE REGARDING FORWARD LOOKING STATEMENTS
The Private Securities Litigation Reform Act of 1995 (the "Act") provides a
"safe harbor" for forward-looking statements to encourage companies to provide
prospective information about their companies without fear of litigation so long
as those statements are identified as forward-looking and are accompanied by
meaningful, cautionary statements identifying important factors that could cause
actual results to differ materially from those projected in the statement. Words
such as "estimates," "expects," "anticipates," "plans," "believes," "projects,"
42
and similar expressions identify forward-looking statements. Accordingly, the
Company hereby identifies the following important factors which could cause the
Company's actual financial results to differ materially from any such results
which might be projected, forecasted, estimated or budgeted by the Company in
forward-looking statements: (i) adverse actions of utility regulatory
commissions; (ii) utility industry restructuring; (iii) failure to recover
stranded costs and transition costs; (iv) the inability of the Company to
successfully compete outside its traditional regulated market; (v) the success
of the Company's growth strategies particularly as it relates to PowerCo; (vi)
regional economic conditions, which could affect customer growth; (vii) adverse
impacts resulting from environmental regulations; (viii) loss of favorable fuel
supply contracts or inability to negotiate new fuel supply contracts; (ix)
failure to obtain water rights and rights-of-way; (x) operational and
environmental problems at generating stations; (xi) the cost of debt and equity
capital; (xii) weather conditions; and (xiii) technical developments in the
utility industry.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company uses derivative financial instruments in limited instances to manage
risk as it relates to changes in natural gas and electric prices and adverse
market changes for investments held by the Company's various trusts. The Company
is exposed to credit losses in the event of non-performance or non-payment by
counterparties. The Company uses a credit management process to assess and
monitor the financial conditions of counterparties. The Company also uses, on a
limited basis, certain derivative instruments for bulk power electricity trading
purposes in order to take advantage of favorable price movements and market
timing activities in the wholesale power markets. Information about market risk
is set forth in Note 4 to the Notes to the Consolidated Financial Statements and
incorporated by reference. The following additional information is provided.
The Company uses value at risk ("VAR") to quantify the potential exposure to
market movement on its open contracts and excess generating assets. The VAR is
calculated utilizing the variance/co-variance methodology over a three day
period within a 99% confidence level.
The Company's VAR as of March 31, 2000 from its electric trading contracts and
gas purchase contracts was $4.6 million.
The VAR represents an estimate of the reasonably possible net losses that would
be recognized on the portfolio of derivatives assuming hypothetical movements in
future market rates, and is not necessarily indicative of actual results that
may occur, since actual future gains and losses will differ from those
estimated. Actual gains and losses may differ from estimates due to actual
fluctuations in market rates, operating exposures, and the timing thereof, as
well as changes to the portfolio of derivatives during the year.
43
PART II-- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The following represents a discussion of legal proceedings that first became a
reportable event in the current year or material developments for those legal
proceedings previously reported in the Company's 1999 Annual Report on Form 10-K
("Form 10-K"). This discussion should be read in conjunction with Item 3. -
Legal Proceedings in the Company's Form 10-K.
City of Gallup Complaint
As previously reported, in 1998 Gallup, Gallup Joint Utilities and the Pittsburg
& Midway Coal Mining Co. ("Pitt-Midway") filed a joint complaint and petition
("Complaint") with the NMPUC (predecessor of the PRC). The Complaint sought an
interim declaratory order stating, among other things, that Pitt-Midway is no
longer an obligated customer of the Company, Gallup is entitled to serve
Pitt-Midway and the Company must wheel power purchased by Gallup from other
suppliers over the Company's transmission system. In September 1998, the NMPUC
issued an order without conducting a hearing, granting the requests sought in
the Complaint. On October 13, 1999, the Supreme Court issued an opinion and
order annulling and vacating the NMPUC Order.
On May 2, 2000, the PRC issued an order reactivating the case on remand
concluding that in should consider whether any portion of the NMPUC's final
order on remand should be readopted consistent with the Supreme Court's opinion
which vacated and annulled the NMPUC's final order and remanded it back to the
PRC, and any other issues and requests for relief raised by the parties in the
proceedings on remand. The order also assigned the case to the hearing examiner
for a recommended decision. The hearing examiner has established a briefing
schedule to be concluded by June 16, 2000, to present legal and factual argument
concerning the issue of whether any portion of the PUC's final order on remand
should be readopted.
San Diego Gas and Electric Company ("SDG&E") Complaints
As previously reported, SDG&E has filed four separate and similar complaints
with the FERC, alleging that certain charges under the Company's 100 MW power
sales agreement with SDG&E were unjust, unreasonable and unduly discriminatory.
On March 23, 2000, SDG&E filed a fifth complaint raising arguments previously
made. The Company has moved to intervene in opposition to this fifth complaint
and intends to vigorously contest this matter. Recently the FERC staff filed
testimony, for purposes of the scheduled Phase II hearing, supporting SDG&E but
has recently acknowledged that certain portions of its testimony contained
incorrect interpretations of the applicable regulations. The Company continues
to believe that the complaints are without merit and intends to vigorously
defend its position; however, there can be no assurance that the outcome of this
matter will not have a material impact on the results of operations and
financial position of the Company.
44
Purported Navajo Environmental Regulation
As previously reported, in July 1995 the Navajo Nation enacted the Navajo Nation
Air Pollution Prevention and Control Act, the Navajo Nation Safe Drinking Water
Act and the Navajo Nation Pesticide Act (collectively, the "Acts"). Pursuant to
the Acts, the Navajo Nation Environmental Protection Agency is authorized to
promulgate regulations covering air quality, drinking water and pesticide
activities, including those that occur at Four Corners. In February 1998, the
EPA issued regulations specifying provisions of the Clean Air Act for which it
is appropriate to treat Indian tribes in the same manner as states. The EPA
indicated that it believes that the Clean Air Act generally would supersede
pre-existing binding agreements that may limit the scope of tribal authority
over reservations. In February 1999, the EPA issued regulations under which
Federal operating permits for stationary sources in Indian Country can be issued
pursuant to Title V of the Clean Air Act. The regulations rely on authority
contained in an earlier rule in which the EPA outlined treatment of tribes as
states under the Clean Air Act. The Company as a participant in the Four Corners
Power Plant ("Four Corners") and as operating agent and joint owner of San Juan
Generating Station, and owners of other facilities located on other reservations
located in New Mexico, has filed appeals to contest the EPA's authority under
the regulations.
On May 5, 2000, the United States Court of Appeals for the District of Columbia
issued its opinion denying the Company's claims concerning the interpretation by
EPA of tribal authority under the Clean Air Act. However, the Court did not rule
on whether pre-existing agreements were superceded by the Clean Air Act
Amendments of 1990 as the EPA had not yet determined whether the Navajo Nation
may regulate Four Corners under the Clean Air Act. The Company is currently
evaluating the decision and will have until June 19, 2000 to consider a motion
for rehearing or appeal. The Company cannot predict the outcome of this
proceeding or any subsequent determinations by the EPA. There can be no
assurance that the outcome of this matter will not have a material impact on the
results of operations and financial position of the Company.
Texas-New Mexico Power Company ("TNMP") Complaint
TNMP filed a complaint against the Company at the Federal Energy Regulatory
Commission ("FERC") on March 15, 2000. TNMP alleges that the Company has
interpreted its Open Access Transmission Tariff on file with the FERC in an
unjust, unreasonable, and unduly discriminatory manner in violation of section
205 of the Federal Power Act. The complaint is grounded upon the right of first
refusal of an existing transmission service customer, which right permits the
existing customer to extend transmission service at the end of a firm contract
45
for service with a term of one year or more. TNMP claims that the Company's
interpretation of the rights of the existing customer to extend service is
unlawful. TNMP has requested FERC, as a matter of preliminary relief, to require
the Company to provide service to TNMP instead of to the customer that exercised
its right of first refusal, which in this case was the Company's wholesale
marketing function, and also to establish a hearing. TNMP also has requested
compensation for its alleged lost opportunity that it claims is the result of
the alleged violation, alleging at least $1.6 million in damages. The Company
intends to vigorously defend itself in this matter; however, there can be no
assurance that the outcome of this matter will not have a material impact on the
results of operations and financial position of the Company.
46
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits:
10.74.1 First Amendment to the Third Restated and Amended Public Service
Company of New Mexico Performance Stock Plan dated February 7, 2000
10.80** Supplemental Employee Retirement Agreement, dated March 14, 2000
for Patrick T. Ortiz
10.81** Supplemental Employee Retirement Agreement, dated March 22, 2000
for Jeffry E. Sterba
15.0 Letter Re: Unaudited Interim Financial Information
27 Financial Data Schedule
** Designates each management contract or compensatory plan or arrangement
required to be identified pursuant to paragraph 3 of Item 14(a) of Form
10-Q.
47
b. Reports on Form 8-K:
Report dated and filed January 27, 2000, reporting the Company's 1999
results of operations.
Report dated and filed January 27, 2000 announcing the Company's new
president.
Report dated and filed February 17, 2000 announcing the Company's new senior
vice president of power marketing.
Report dated and filed February 17, 2000 reporting the Company's investment
in AMDAX.com.
Report dated and filed March 7, 2000 announcing the Company's agreement with
Sandia National Labs.
Report dated and filed March 7, 2000 announcing the formation of the
Company's proposed holding, Manzano Corporation.
Report dated and filed March 27, 2000 announcing the Company's quarterly
dividend and the Company's election of its president to the Board of
Directors.
Report dated and filed April 18, 2000 filing Pro Forma Financial Statements
giving effect to the Company's proposed plan under the Restructuring Act.
Report dated and filed May 1, 2000 reporting the Company's first quarter
results of operations.
Report dated and filed May 1, 2000 reporting the NM Supreme Court decision
to overturn the Company's Gas Rate Order.
48
Signature
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.
PUBLIC SERVICE COMPANY OF NEW MEXICO
-----------------------------------------
(Registrant)
Date: May 15, 2000 /s/ John R. Loyack
-----------------------------------------
John R. Loyack
Vice President, Corporate Controller
and Chief Accounting Officer
(Officer duly authorized to sign this report)
49