As filed with the Securities and Exchange Commission on June 30, 2003
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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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FORM 20-F
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[ ] REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES
EXCHANGE ACT OF 1934
OR
[X] ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE
ACT OF 193 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number: 1-8768
ESPIRITO SANTO CENTRAIS ELETRICAS S.A. - ESCELSA
(Exact name of Registrant as specified in its charter)
ENERGY COMPANY OF ESPIRITO SANTO
(Translation of Registrant's name into English)
Federative Republic of Brazil
(Jurisdiction of incorporation or organization)
Rua Sete de Setembro, 362
Vitoria, Espirito Santo, Brazil 29015-000
(Address of principal executive offices)
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Securities registered or to be registered pursuant to Section 12(g) of the Act:
Title of each class: Name of each exchange on which registered:
10% Senior Notes due 2007 Luxembourg Stock Exchange
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Securities registered or to be registered pursuant to Section 12(b) of the Act:
None
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Securities for which there is a reporting obligation pursuant to
Section 15(d) of the Act:
None
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Indicate the number of outstanding shares of each class of capital or
common stock of Espirito Santo Centrais Eletricas S.A. - ESCELSA as of December
31, 2002.
Common Shares, without par value.....................4,550,833
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 [ ]
Indicate by check mark which financial statement item the registrant has
elected to follow.
Item 17 [ ] Item 18 [X]
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TABLE OF CONTENTS
Page
ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS..................1
ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE................................1
ITEM 3. KEY INFORMATION........................................................1
ITEM 4. INFORMATION ON THE COMPANY.............................................8
ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS..........................31
ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES............................45
ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS.....................49
ITEM 8. FINANCIAL INFORMATION.................................................50
ITEM 9. THE OFFER AND LISTING ................................................52
ITEM 10. ADDITIONAL INFORMATION...............................................53
ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK...........60
ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES...............62
ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES......................62
ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS
AND USE OF PROCEEDS..................................................62
ITEM 15. DISCLOSURE CONTROLS AND PROCEDURES...................................62
ITEM 16. [RESERVED]...........................................................62
ITEM 17. FINANCIAL STATEMENTS.................................................63
ITEM 18. FINANCIAL STATEMENTS.................................................64
ITEM 19. EXHIBITS.............................................................64
ANNEX A--GLOSSARY OF TECHNICAL TERMS.........................................A-1
INTRODUCTION
All references in this annual report to:
o "we," "our" and "us" are to Espirito Santo Centrais Eletricas S.A.--
ESCELSA and its consolidated subsidiaries, including Empresa Energetica do
Mato Grosso do Sul S.A.-- ENERSUL;
o "ESCELSA" are to Espirito Santo Centrais Eletricas S.A.-- ESCELSA or to our
electricity generation, transmission and distribution business in the State
of Espirito Santo;
o "ENERSUL" are to Empresa Energetica de Mato Grosso do Sul S.A.-- ENERSUL or
to our electricity generation and distribution business in the State of
Mato Grosso do Sul;
o "Brazilian corporate law" are to Law No. 6,404 of December 15, 1976, as
amended by Law No. 9,457, of May 5, 1997 and by Law No. 10,303 of October
1, 2001;
o the "Brazilian government" are to the federal government of the Federative
Republic of Brazil;
o "real," "reais" or "R$" are to Brazilian reais, the official currency of
Brazil;
o "U.S.$," "dollars" or "U.S. dollars" are to United States dollars;
o "Concessions Law" are to certain laws and regulations adopted by the
Brazilian federal government in 1995 in order to determine the bidding
procedures for the granting of concessions in the electricity sector,
namely Law No. 8,987, of February 13, 1995, Law No. 9,074, of July 7, 1995
and Law No. 9,427, of December 26, 1996, as amended;
o "Central Bank" are to Banco Central do Brasil, or the Brazilian Central
Bank; and
o the "notes" are to the 10% Senior Notes due 2007 issued by us.
As used in this annual report, one kilometer equals approximately 0.621
miles.
FORWARD-LOOKING STATEMENTS
This annual report contains forward-looking statements relating to our
business that are based on our current expectations, estimates and projections.
Words such as "may," "will," "continue," "believe," "expect," "intend," "plan,"
"project," "estimate," "anticipate" and similar words or expressions are used to
identify such forward-looking statements. These statements are not guarantees of
future performance and involve risks and uncertainties that are difficult to
predict. Furthermore, certain forward-looking statements are based upon
assumptions as to future events that may not prove to be accurate. Therefore,
actual outcomes and results may differ materially from those expressed or
implied in such forward-looking statements.
Neither our independent auditors nor any other independent accountants have
compiled, examined or performed any procedures with respect to the
forward-looking financial information contained herein, nor have they expressed
any opinion or any other form of assurance on such information or its
achievability, and they assume no responsibility for, and disclaim any
association with, such forward-looking financial information.
Factors that could cause our actual results to differ materially include,
but are not limited to:
o general economic, political and business conditions;
i
o electricity shortages;
o changes in market prices, customer demands and preferences and competitive
conditions;
o potential disruption or interruption of our services;
o management's expectations and estimates concerning future financial
performance, financing plans and the effects of competition;
o changes in currency exchange rates;
o existing and future governmental regulation; and
o other risk factors as set forth under "Item 3D -- Key Information -- Risk
Factors."
We undertake no obligation to update publicly or revise any forward-looking
statements because of new information, future events or otherwise. In light of
these risks and uncertainties, the forward-looking information, events and
circumstances discussed in this annual report might not occur. Our actual
results and performance could differ substantially from those anticipated in our
forward-looking statements.
PRESENTATION OF FINANCIAL AND OTHER INFORMATION
At June 25, 2003, the commercial market rate for purchasing U.S. dollars
was R$2.855 to U.S.$1.00. The commercial selling rate reported by the Central
Bank is used in this annual report rather than the noon buying rate in New York
City as reported by the Federal Reserve Bank of New York because the noon buying
rate was not consistently reported for reais during the periods shown in this
annual report. See "Item 3A -- Key Information -- Selected Financial Data --
Exchange Rates" for information regarding exchange rates applicable to the real
since 1997.
The selected consolidated financial data at December 31, 2002 and 2001 and
for each of the years in the three year period ended December 31, 2002 have been
derived from our consolidated financial statements included elsewhere in this
annual report. The selected consolidated financial data as of December 31, 2000,
1999 and 1998 for each of the years in the two year period ended December 31,
1999 have been derived from our consolidated financial statements that are not
included in this annual report.
We publish our financial statements in Brazil in accordance with generally
accepted accounting principles in Brazil, or Brazilian GAAP, which differs in
certain significant respects from accounting principles generally accepted in
the United States of America, or U.S. GAAP. Note 29 to our financial statements
appearing elsewhere in this annual report describes the principal differences
between Brazilian GAAP and U.S. GAAP as they relate to us, and provides a
reconciliation to U.S. GAAP of net income and shareholders' equity as of
December 31, 2002 and 2001 and for each of the years in the three year period
ended December 31, 2002.
This annual report contains our audited consolidated financial statements
at December 31, 2002 and 2001 and for each of the three years in the period
ended December 31, 2002. On November 25, 1997, ESCELSA paid R$825.9 million to
acquire a 55.4% controlling interest (which includes 76.5% voting interest) in
ENERSUL. The results of operations of ENERSUL have been included in the
consolidated results of operations of ESCELSA since November 25, 1997. See note
14 to our financial statements.
Our financial statements and, unless otherwise specified, all financial
information for periods ending on or before December 31, 2000 included in this
annual report have been restated to recognize certain effects of changes in the
purchasing power of the real due to inflation and expressed in constant reais of
December 31, 2000. This restatement was done using the integral restatement
method (correcao integral) required under Brazilian GAAP through December 31,
2000. See note 2 to our financial statements.
ii
Under Brazilian GAAP and Brazilian corporate law, the Unidade Fiscal de
Referencia (the Tax Reference Unit, or UFIR) was used as the index in highly
inflationary times for inflation in the preparation of financial statements for
periods through December 31, 1995. However, a Brazilian law enacted in December
1995 abolished the prior Brazilian price-level restatement system effective
January 1, 1996 for corporate law purposes and for reporting by public
companies, although the Comissao de Valores Mobiliarios (the Brazilian
Securities Commission, or CVM) allows companies to prepare financial statements
in accordance with the constant currency method. Financial statements prepared
in constant currency were not and are not used for tax and other statutory
purposes. Since the UFIR is no longer updated, the Ibracon - Instituto dos
Auditores Independentes do Brasil, or the Brazilian Institute of Accountants,
recommended that the Indice Geral de Precos do Mercado (the General Market Price
Index, or the IGP-M), as published by Fundacao Getulio Vargas, a leading
independent Brazilian economic research organization, be used. From January 1,
1996 to December 31, 1997, and January 1, 1999 to December 31, 2000, we used the
IGP-M to prepare our financial statements in constant currency.
In July 1997, the three-year cumulative inflation rate for Brazil fell
below 100%. However, for accounting purposes, the constant currency method
continued to be applied through December 31, 2000. Our management concluded that
the effect of inflation, which was 1.8% in 1998, on our financial statements for
the year ended December 31, 1998 were not material. As such, we did not use the
IGP-M to prepare our financial statements in constant currency for the year
ended December 31, 1998.
On March 22, 2001, the Conselho Federal de Contabilidade -- CFC established
that, as of January 1, 2001, inflation accounting is no longer required under
Brazilian GAAP, as long as cumulative inflation over a three-year period remains
under 100%. Therefore, since Brazil's cumulative inflation for the three-year
period ended December 31, 2002 has been under 100%, our financial statements for
the year ending December 31, 2002 are expressed in nominal reais. Financial
statements for periods prior to the year ending December 31, 2001 are expressed
in constant reais of December 31, 2000 purchasing power.
iii
PART I
ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS
Not applicable.
ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE
Not applicable.
ITEM 3. KEY INFORMATION
A. Selected Financial Data
We maintain our books and records in reais and prepare our financial
statements in accordance with Brazilian GAAP, which differs in certain respects
from U.S. GAAP. Note 29 to our financial statements included elsewhere in this
annual report sets forth a description of the principal differences between
Brazilian GAAP and U.S. GAAP as they relate to us, and provides a reconciliation
to U.S. GAAP of net income and total shareholders' equity as of December 31,
2002 and 2001 and for each of the three years in the period ended December 31,
2002.
The selected financial data as of December 31, 2002 and 2001 and for each
of the three years in the period ended December 31, 2002 have been derived from,
and should be read in conjunction with, our consolidated financial statements
and the notes thereto included elsewhere in this annual report. The selected
consolidated financial data at December 31, 2000, 1999 and 1998 and for each of
the two-years in the period ended December 31, 1999 have been derived from our
audited consolidated financial statements and the notes thereto, which are not
included in this annual report.
The following table presents a summary of our selected financial data at
the dates and for each of the periods indicated. You should read the following
information together with our financial statements and the notes thereto
included elsewhere in this annual report and with "Item 5. Operating and
Financial Review and Prospects."
At and for the Year Ended December 31,
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2002 2001 2000 1999 1998
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(in thousands of reais, except per share amounts)
Statement of Operations Data:
Operating revenues:
Electricity sales to final consumers... 1,635,340 1,617,617 1,313,126 1,237,819 1,224,356
Electricity sales to distributors...... 40,357 83,519 42,723 39,072 22,834
Other revenues......................... 47,581 29,646 32,944 22,149 30,640
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Total................................ 1,723,278 1,730,782 1,388,793 1,299,040 1,277,830
Value-added taxes on sales................ (424,140) (345,297) (330,229) (308,558) (298,039)
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Net operating revenues(1)................. 1,299,138 1,385,485 1,058,564 990,482 979,791
Operating expenses:
Electricity purchased for resale....... (709,027) (675,189) (500,139) (501,102) (424,195)
Depreciation and amortization.......... (173,165) (149,138) (140,906) (129,353) (126,337)
Personnel.............................. (111,354) (108,271) (115,014) (130,265) (138,454)
Regulatory charges..................... (106,184) (97,377) (99,856) (63,947) (58,984)
Materials.............................. (16,353) (20,964) (17,364) (22,102) (14,639)
Third-party services................... (60,415) (53,640) (55,834) (54,091) (49,490)
Other expenses......................... (58,368) (80,985) (20,309) (56,230) (38,842)
--------- --------- --------- --------- --------
Total................................ (1,234,866) (1,185,564) (951,551) (957,090) (850,941)
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Operating income.......................... 64,272 199,921 107,013 33,392 128,849
Financial expenses, net................... (670,419) (235,831) (23,499) (119,345) (90,865)
Non-operating expenses, net............... (74,965) (24,384) (13,325) (14,339) (18,202)
Income tax and social contribution........ (103,275) (11,012) (14,228) 69,503 118,577
Minority participation in (income) losses. 38,833 (10,794) (3,314) 13,509 (47,013)
--------- --------- --------- --------- --------
Net income (loss)......................... 538,913 (60,076) 52,647 (17,280) 91,346
========= ========= ========= ========= ========
1
At and for the Year Ended December 31,
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2002 2001 2000 1999 1998
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(in thousands of reais, except per share amounts)
Net income (loss) per share(3)............ 118.42 (13.20) (11.57) (3.80) 20.07
Income (loss) before extraordinary item and
cumulative effect of change in coounting
principle
Under U.S. GAAP........................ (458,796) (122,169) 12,181 (47,621) 9,483
Extraordinary item, net of tax effect
of R$5,085 in 1999 (R$11,511 in 1998)
under U.S. GAAP...................... - - - 10,325 23,371
Cumulative effect of change in accounting
principle under U.S.GAAP.................... (409,953) - - - -
Net income (loss) under U.S. GAAP (868,389) (122,169) 12,181 (37,296) 32,854
Basic and diluted earnings (loss) per share
under U.S. GAAP(3)..................... (190.82) (26.85) 2.68 (8.20) 7.22
Income (loss) per share under U.S. GAAP
before extraordinary item and cumulative
effect of change in accounting principle
per share.............................. (100.82) (26.85) 2.68 (10.46) 2.09
Extraordinary item per share.............. - - - 2.26 5.13
Cumulative effect of change in accounting
principle per share....................... (90.00) - - - -
Balance Sheet Data:
Current Assets............................ 910,343 731,597 586,659 595,728 776,724
Property, plant and equipment (net)....... 1,967,475 2,031,235 2,022,502 2,247,062 2,154,186
Total assets.............................. 4,281,652 3,976,868 3,457,352 3,668,146 3,664,660
Total debt................................ 2,560,843 1,744,878 1,421,585 1,459,083 1,357,078
Shareholders' equity...................... 555,782 1,093,825 1,171,979 1,168,472 1,289,865
Shares outstanding at year end............ 4,550,833 4,550,833 4,550,833 4,550,833 4,550,833
Shareholders' equity under
U.S. GAAP (As restated in 2000, 1999 and
1998).................................. 10,953 923,903 1,059,313 1,047,132 1,156,522
Dividends per share under Brazilian GAAP.. - - - - 9.25
Dividends per share in U.S.$ under
Brazilian GAAP(4)...................... - - U.S.$1.45 - U.S.$5.79
Dividends per share under U.S.
GAAP(5)................................ - - - 9.25 5.89
Other Financial Data and Ratios:
Capital expenditures...................... 187,970 181,065 180,919 214,388 229,913
Operating margin (%)(6)................... 4.95 14.43 10.11 3.37 13.15
Net cash provided by (used in):
Operating activities................... (18,558) 54,398 171,051 4,517 193,149
Investing activities................... (181,271) (179,284) (131,494)) 2,939 (118,646)
Financing activities................... 219,200 121,777 (42,326) (8,248) (375,899)
Operating Data:
Electricity sold (Gwh)
Industrial............................. 3,961 3,669 3,979 3,530 3,400
Residential............................ 1,996 2,055 2,363 2,308 2,301
Commercial............................. 1,367 1,303 1,403 1,286 1,243
Others............................... 1,783 1,749 1,871 1,858 1,796
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Total.................................. 9,107 8,776 9,616 8,982 8,740
Number of customers (thousands)........ 1,551 1,495 1,406 1,344 1,284
Total energy losses (in percentages)........ 12.8% 11.1% 11.5% 11.6% 11.0%
Transformer capacity (MVA).................. 4,297 4,092 4,016 3,893 3,482
Transmission lines (in kilometers).......... 10,196 10,094 9,981 9,751 9,645
Distribution lines (in kilometers).......... 71,948 67,697 57,549 56,437 55,557
Number of employees......................... 2,354 2,466 2,551 2,628 2,645
2
_________________
(1) Net operating revenues represent operating revenues after value-added taxes
on sales. See "Item 5. Operating and Financial Review and Prospects --
Operating Results."
(2) Financial income (expense) represents income earned on investments, net of
interest expense.
(3) Earnings (loss) per share are computed under Brazilian GAAP based on the
shares outstanding at the end of each year. Under U.S. GAAP, earnings
(loss) per share are calculated based on weighted average shares
outstanding. As there were no changes in shares outstanding during the
years ended December 31, 2002, 2001, 2000, 1999 and 1998, the weighted
average shares outstanding was the same as year-end amounts.
(4) Translated from nominal reais into U.S. dollars at the commercial selling
rates in effect on the dates that distributions were declared during that
period.
(5) Dividends are recognized under Brazilian GAAP in the year to which the
income relates, although the shareholders have not yet approved them and
have the right to change the amounts. Under U.S. GAAP, dividends are
recorded when the shareholders have approved the dividend amount.
(6) Operating margin represents operating income divided by net operating
revenues.
Exchange Rates
There are two principal foreign exchange markets in Brazil: (i) the
commercial rate exchange market; and (ii) the floating rate exchange market.
Most trade and financial foreign exchange transactions, including transactions
relating to the payment of interest with respect to the notes, are carried out
on the commercial market at the applicable commercial market rate. Purchase of
foreign currencies in the commercial market may be carried out only through a
Brazilian bank authorized to buy and sell currency in that market. In both
markets, rates are freely negotiated but may be strongly influenced by
intervention by the Brazilian Central Bank, or the Central Bank.
Between March 1995 and January 1999, the Central Bank permitted the gradual
devaluation of the real against the U.S. dollar pursuant to an exchange rate
policy that established a band within which the real/U.S. dollar exchange rate
could fluctuate.
Responding to pressure on the real, on January 13, 1999, the Central Bank
widened the foreign exchange band. Because the pressure did not ease, on January
15, 1999, the Central Bank allowed the real to float. Since January 1, 1999 and
through December 31, 2002, the real depreciated by 65.8% against the U.S.
dollar, and, as of December 31, 2002, the commercial market rate for purchasing
U.S. dollars was R$3.5333 to U.S.$1.00. In the first three months of 2003, the
real appreciated by 5.1% to R$3.3531 to U.S.$1.00 at March 31, 2003, and as of
June 25, 2003, the commercial market rate for purchasing U.S. dollars was
R$2.855 to U.S.$1.00. We cannot assure you that the real will not appreciate or
devalue substantially in the near future. See "Item 5A. Operating and Financial
Review and Prospects -- Operating Results -- Overview -- Brazilian Economic
Environment."
The following table shows the commercial selling rate for U.S. dollars for
the periods and dates indicated:
Exchange Rate of Brazilian Currency per US$1.00
-----------------------------------------------
Year Low High Average(1) Year-End
--- ---- --------- --------
1998....................... 1.1164 1.2087 1.1605 1.2087
1999....................... 1.2078 2.1647 1.8133 1.7890
2000....................... 1.7234 1.9847 1.8278 1.9554
2001....................... 1.9357 2.8007 2.3519 2.3204
2002....................... 2.2709 3.9552 2.9309 3.5333
__________________
Source: Central Bank
(1) Represents the average of the exchange rates on the last day of each month
during the relevant period.
3
Month Exchange Rate of Brazilian Currency per US$1.00
-----------------------------------------------
Low High
--- ----
December 2002............................... 3.4278 3.7980
January 2003................................ 3.2758 3.6623
February 2003............................... 3.4930 3.6580
March 2003.................................. 3.3531 3.5637
April 2003.................................. 2.8898 3.3359
May 2003.................................... 2.8653 3.0277
__________________
Source: Central Bank
B. Capitalization and Indebtedness
Not Applicable.
C. Reasons for the Offer and Use Proceeds
Not Applicable.
D. Risk Factors
You should consider carefully all the information set forth herein and, in
particular, the special factors applicable to an investment in Brazil and to an
investment in us. In general, investing in the securities of issuers in emerging
market countries such as Brazil involves a higher degree of risk than investing
in the securities of U.S. issuers.
Risk Relating to Our Notes and Us
The tariffs that we charge for sales of electricity to final customer are
controlled by ANEEL, which is the Brazilian energy sector regulatory agency, and
our operating revenues and our ability to make interest or principal payments on
the notes could be adversely affected if ANEEL's tariff-setting decisions are
not favorable to us.
Like all utility companies in Brazil, we are subject to extensive
regulation of our tariffs. The tariffs that we charge for electricity to final
customers are determined pursuant to our concession contract with ANEEL and in
accordance with ANEEL's regulatory decision-making powers. Our concession
contract establishes that our tariffs are subject to three types of adjustments.
We may periodically apply for the first type of adjustment, the reajuste, which
offsets the effects of inflation on our tariffs. The second type of adjustment,
the revisao extraordinaria, permits us to request revisions to our tariff rates
from time to time, to pass through significant changes in our cost structure
that we do not control, such as (i) the cost of electricity we purchase, (ii)
charges for the use of transmission and distribution facilities and (iii) taxes,
except for income taxes. In addition, ANEEL has the right, every three years, to
adjust our periodic tariff (revisao periodica). Our concession contract does not
specify the factors on which this periodic tariff review will be based.
ESCELSA's periodic tariff was increased by 19.89% by ANEEL in August 2001
on a provisional basis. In 2003, ANEEL will adopt a new methodology for setting
the periodic tariff of distribution companies that differs from the one
previously used in ESCELSA's case. Under the new methodology, ESCELSA's periodic
tariff review results will be determined based upon the final evaluation of
ESCELSA's asset base. During the time that the value of ESCELSA's asset base is
being determined, its periodic tariff has been set on an interim basis, and will
be adjusted upwards or downwards depending upon the results of the asset
valuation, which is being conducted by an independent third-party accredited by
ANEEL. The difference, if any, between the provisional periodic tariff and the
definitive periodic tariff, will be reflected in ESCELSA's annual tariff
adjustment in August 2003. There can be no assurance that, upon the final
determination of the value of ESCELSA's asset base, ANEEL will not revise the
periodic tariff that applies to ESCELSA in a manner that will not have a
material adverse effect on the financial condition and business operations of
ESCELSA.
4
ENERSUL's first periodic tariff review was conducted by ANEEL in April
2003. As in the case of ESCELSA, certain factors used to reset ENERSUL's
periodic tariffs are provisional only and, once definitively set, may result in
an adjustment to ENERSUL's periodic tariff that is adverse to ENERSUL.
Since the privatization of ESCELSA, most of the other distribution
companies, including ENERSUL, have been granted concession contracts with
built-in tariff provisions. Under these concession contracts, the annual
adjustment, or reajuste, is determined by a tariff adjustment formula. Although
ESCELSA's concession contract provides for tariff adjustments, it does not
stipulate a formula by which tariff adjustments will occur. ANEEL has adjusted
ESCELSA's tariffs annually in a manner consistent with the terms of later
concession contracts, and for 2003, ANEEL will apply the same tariff adjustment
formula that is contained in the concession contracts of the more recently
privatized companies. Although we have no reason to believe that ESCELSA will be
treated differently thereafter than the other privatized distribution companies,
ANEEL has substantial discretion, which is not limited by the terms of ESCELSA's
concession contract, to set ESCELSA's tariffs. As such, there can be no
assurance that ESCELSA's tariffs will continue to be set at rates that are
consistent with the terms of the concession contracts of other distribution
companies or will otherwise be set at levels that will not adversely affect our
operating revenues and our ability to make interest or principal payments on the
notes.
ESCELSA generates a significant portion of its operating revenues from
large industrial customers who may seek alternative energy suppliers upon the
expiration of their contracts with ESCELSA.
A significant portion of the energy sold by ESCELSA is purchased by large
industrial customers engaged in the mining, steel, pulp and paper, chemical and
port facility industries. For the year ended December 31, 2002, ESCELSA's twelve
largest customers accounted for approximately 27% of its revenues and
approximately 44% of the total quantity of electricity it sold. ESCELSA's
contracts with its large industrial customers will expire in 2006. As these
customers are considered to be "free customers" under Brazil's regulatory
initiatives designed to foster competition in the energy sector, they will be
entitled to seek alternative energy suppliers when their contracts with ESCELSA
expire. There can be no assurance that, upon the expiration of their contracts
with ESCELSA, these large industrial customers will be willing to renew and
continue their business with ESCELSA. The loss of large industrial customers
could have a material adverse effect on ESCELSA's operating revenues and
financial condition.
Initiatives aimed at increasing competition from independent power
producers and self-generators may adversely affect our customer base and
revenues.
We hold concessions to distribute electricity in 70 of the 77
municipalities in the State of Espirito Santo and in 72 of the 77 municipalities
in the State of Mato Grosso do Sul. Within our concession area we do not face
competition in the distribution of low voltage electric energy to residential,
commercial and industrial customers. However, other electric energy suppliers
are now permitted to compete with us in offering electricity to certain
unregulated consumers that qualify as "free consumers", namely customers with
demand equal to or greater than 3MW that are supplied at a voltage level equal
to or greater than 69kV, or, in the case of new customers that have entered the
market since July 1995, demand equal to or greater than 3MW that is supplied at
any voltage level. Some competitors for free consumers may receive subsidies
that enable them to charge lower tariffs than we do and this may eventually
erode our customer base. By law, as of July 2003, ANEEL may decrease the demand
and voltage level threshold for being a free consumer. While all of our
customers meeting the criteria for being considered free consumers have entered
into agreements with us for the supply of energy that will not expire until
2006, there can be no assurance that upon the expiration of those contracts,
these customers will not consider alternative suppliers of electrical energy.
During 2002, we had 16 customers meet the criteria of "free consumer", which
accounted for approximately 38% of our revenue and approximately 52% of the
total quantity of electricity sold by us. A loss of business to other energy
suppliers serving free consumers located in our concession area and the
implementation of additional regulations aimed at fostering competition in the
energy sector could adversely affect our market share and operating revenues.
Electric energy shortages may adversely affect our business and results of
operations.
Hydroelectric power is a major source of energy for Brazilian industry. In
the recent past, low levels of investment and below average rainfall have
resulted in low levels of critical hydroelectric capacity in Brazil's
5
southeast, central west and northeast regions and the construction of gas-fired
thermal generation plants has been delayed due to regulatory and other issues.
On May 15, 2001, the federal government created the Camara de Gestao da Crise de
Energia Eletrica, or GCE, to regulate and administer a program for the reduction
of energy consumption to avoid interruptions in electricity supply. This
program, known as the Rationing Program, established limits for energy
consumption for industrial, commercial and residential consumers, which ranged
from a 15% to a 25% reduction in energy consumption. The Rationing Program
affected all consumers, including our large industrial and commercial consumers,
and had a negative impact of R$236 million on our revenues, which may only be
recovered through future tariff increases. At the beginning of March 2002, the
government announced that the Rationing Program was terminated. However, we
cannot assure you that there will not be another energy shortage and Rationing
Program in the future and that our results of operations will not be adversely
affected in that event.
The Brazilian government has mandated the establishment of a universal
program that requires distribution companies to extend electric service to all
consumers requesting electric service and failure to comply with the
requirements of the program would result in a reduction of our tariffs.
In April 2003, the Brazilian government began the implementation of a
universal program aimed at ensuring that the entire population has access to
electricity. Under the program, electricity distribution companies will bear the
initial cost of extending energy to unreached consumers and will be reimbursed
for the capital expenditures they must make in doing so. Presently, it is
unclear how and when the distribution companies will be reimbursed. Under the
program, which has yet to be codified into law, the Account for Energetic
Development is responsible for reimbursing the distribution companies for costs
associated with the universal program. It is also unclear how many consumers
would be eligible to make requests under the universal program within ESCELSA
and ENERSUL's market. If we fail to comply with the target goals set for us
under the terms of the universal program within the time period required, our
tariffs would be reduced until we are compliant with those goals. We are
currently evaluating how the requirements of the universal program will affect
us and we cannot assure you that the universal program will not require us to
make capital expenditures that we were not planning to make.
Risks Relating to Brazil
The Brazilian government has exercised, and continues to exercise,
significant influence over the Brazilian economy. Brazilian political and
economic conditions have a direct impact on our business and the market price of
our notes.
The Brazilian government frequently intervenes in the Brazilian economy and
occasionally makes drastic changes in policy. The Brazilian government's actions
to control inflation and effect other policies have often involved wage and
price controls, currency devaluations, capital controls and limits on imports,
among other things. See "Item 5. Operating and Financial Review and Prospects --
Brazilian Economic Environment." Our business, financial condition and results
of operations may be adversely affected by changes in policy involving tariffs,
exchange controls and other matters, as well as other factors outside of our
control such as:
o currency fluctuations;
o inflation;
o price instability;
o interest rates;
o tax policy;
o energy shortages and rationing; and
o other political, diplomatic, social and economic developments in or
affecting Brazil.
6
At the end of 2002, Brazil elected a new president from the Workers Party,
Luis Inacio Lula da Silva, known as Lula. In the period leading up to, and
subsequent to, his election there was substantial uncertainty relating to the
policies that the new government would pursue, including the potential
implementation of macroeconomic policies that differed significantly from those
of the prior administration. This uncertainty resulted in a loss of confidence
in the Brazilian capital markets, including the steady devaluation of the real
against the U.S. dollar in that period. Although the new government has not
departed in any material way from previous policy, it is premature to evaluate
the way in which investors and the capital markets will react, whether these
policies will continue and whether they will be effective. Any substantial
negative reaction to the policies of the Brazilian government could adversely
affect our business, operations and the market price of our notes.
Inflation, and certain governmental measures to curb inflation, may
contribute significantly to economic uncertainty in Brazil and to heighten
volatility in the Brazilian securities markets.
Since the real's introduction in July 1994, Brazil's inflation rate has
been substantially lower than in previous periods. Inflation itself has, and
certain governmental measures to curb inflation have, in the past had
significant negative effects on the Brazilian economy. Inflation, actions taken
to curb inflation and public speculation about possible future actions have also
contributed to economic uncertainty in Brazil and to heightened volatility in
the Brazilian securities market. Our cash operating expenses are substantially
all in reais and tend to increase with Brazilian inflation because cost of wages
and other operating expenses generally increase accordingly to consumers'
prices. High inflation generally leads to higher domestic interest rates, and,
as a result, our cost of real-denominated debt may increase. High inflation may
adversely affect our results of operations in other ways. To the extent that the
rate of inflation exceeds the increases in rates that we are allowed to charge
our customers, our operating margins would be adversely affected. In addition,
if the rate of inflation in Brazil is lower than the rate of appreciation of the
U.S. dollar and other foreign currencies against the real, our cost in real
terms of paying interest on our foreign currency denominated debt, including the
notes, would be higher. If the Brazilian government increases interest rates in
order to curb any possible inflation, the increased interest rates could
negatively affect credit purchases by our customers.
If Brazil experiences substantial inflation again in the future, our
operating expenses and borrowing costs may increase, our profit margins may
decrease and, if investor confidence lags, the price of our notes may fall. If
economic difficulties result from or occur at the same time as inflation, then
our revenues may also be negatively affected.
Fluctuations in the value of the real against the value of the U.S. dollar
may result in uncertainty in the Brazilian economy and the Brazilian securities
market and could have a material adverse effect on our ability to make payments
of interest and principal on the notes.
Our ability to meet our U.S. dollar-denominated obligations is affected by
changes in the relative value of the real against the U.S. dollar. As
substantially all of our revenues are real-based, we are required to purchase
U.S. dollars in foreign exchange markets with reais to meet our U.S.
dollar-denominated obligations. Our principal U.S. dollar-denominated
obligations are our interest and principal payments on the notes and payments
for power purchased from ITAIPU (approximately 28% and 23% of the total power
purchased by ESCELSA and ENERSUL in 2002, respectively).
Devaluations can create additional inflationary pressures in Brazil by
generally increasing the price of imported products and requiring recessionary
government policies to curb aggregate demand. On the other hand, appreciation of
the real against the U.S. dollar may lead to a deterioration of the current
account and the balance of payments, as well as dampen export-driven growth. The
potential impact of the floating exchange rate and of measures of the Brazilian
government aimed at stabilizing the real is uncertain. See "Item 5. Operating
and Financial Review and Prospects -- Brazilian Economic Environment."
Unless we successfully hedge devaluation risk, any decrease in the value of
the real relative to the U.S. dollar could have a material adverse effect on our
ability to make payments of interest and principal on the notes. At December 31,
2002, we had no foreign currency or interest rate hedges in place in connection
with the notes. Further, although we believe that our concession contracts
should permit us to pass through to our tariffs any increase in the cost of
electricity we purchase from ITAIPU, there can be no assurance in this regard.
If we are not
7
permitted to pass through these increases, any decrease in the value of the real
relative to the U.S. dollar could have a material adverse effect on our
financial condition and results of operations.
Developments in other emerging market countries may affect the market price
of the notes and may make it more difficult or expensive for us to obtain
additional debt financing.
Securities of Brazilian issuers have been, to varying degrees, influenced
by economic and market conditions in other emerging market countries. Although
economic conditions differ in each country, investors' reactions to developments
in one country may affect the securities of issuers in other countries,
including Brazil. Since the fourth quarter of 1997, the international financial
markets have experienced significant volatility, and a large number of market
indices, including those in Brazil, have declined significantly. For example,
the current recession in Argentina, the Asian economic crisis, and the 1998
Russian debt moratorium and devaluation of the Russian currency triggered market
volatility in Brazil's and other emerging market countries' securities markets.
The recent political crisis in Venezuela may also influence investors'
perception of risk in Brazil. Although market concerns that similar crises would
ensue in Brazil have not become a reality, the volatility in market prices for
Brazilian securities increased in 2001 and 2002. If market conditions in
Argentina or Venezuela continue to deteriorate, they may adversely affect our
ability to raise equity capital when needed and borrow funds at an acceptable
interest rate, if necessary. The market value of our notes, as well as our
ability to obtain additional debt financing on acceptable terms, or at all, may
be adversely affected by events elsewhere, especially in emerging market
countries.
Restrictions on the movement of capital out of Brazil may hinder the
ability of holders of the notes to receive payments on the notes.
The Brazilian government may impose temporary restrictions on the
conversion of Brazilian currency into foreign currencies and on the remittance
to foreign investors of proceeds from their investments in Brazil. Brazilian law
permits the government to impose these restrictions whenever there is a serious
imbalance in Brazil's balance of payments or there are reasons to foresee a
serious imbalance. The Brazilian government imposed remittance restrictions for
approximately six months in 1989 and early 1990.
The Central Bank has authorized the issuance of the notes and issued a
certificate of foreign capital, registration authorizing us to make any payment
under the notes requiring the conversion of reais into U.S. dollars including
any payment made upon enforcement of a judgment against us. However, additional
Central Bank authorization is needed for the payment of the notes upon
acceleration or for certain late payments of the notes generally. These exchange
control regulations generally have not affected repayment obligations of
securities of a type similar to the notes. There can, however, be no assurance
that the Brazilian government will not in the future impose more restrictive
foreign exchange regulations that would have the effect of preventing or
restricting our access to foreign currency that we may require to meet our
foreign currency obligations under foreign currency denominated liabilities,
including the notes.
ITEM 4. INFORMATION ON THE COMPANY
A. History and Development of the Company
Espirito Santo Centrais Eletricas S.A. -- ESCELSA, a Brazilian corporation
(sociedade anonima) with unlimited duration, was incorporated under the laws of
Brazil on July 1, 1968, as a mixed-capital corporation (sociedade de economia
mista) with limited liability. As a Brazilian corporation, we operate generally
under the provisions of the Brazilian corporate law. Our core business is the
planning, construction and operation of systems for electricity generation,
transmission, distribution and the sale of electric energy in the State of
Espirito Santo and in the State of Mato Grosso do Sul through our subsidiary
ENERSUL (see below). As a public concessionaire of electric utility services, we
are subject to regulations established by the Agencia Nacional de Energia
Eletrica, or ANEEL, the Brazilian regulatory agency responsible for regulating
the electric energy sector.
At the time of our incorporation, we were controlled by Centrais Eletricas
Brasileiras S.A. - ELETROBRAS, a company controlled by the Brazilian government.
In 1995, the Brazilian government began to
8
liberalize, privatize and deregulate the Brazilian electric energy sector,
almost all of which was government-owned. In July 1995, we became the first
government-owned electricity company to be privatized. In our privatization
auction, 50% plus one share of our common shares were acquired by Iven S.A. and
GTD Participacoes S.A., with ELETROBRAS remaining as minority shareholder until
1997. On January 19, 1996, we became a public company, registered with the CVM,
and presently our shares are traded on the Sao Paulo Stock Exchange, however,
they do not have a significant public float.
In 1997, we acquired a 55.4% controlling interest (which includes a 76.50%
voting interest) in ENERSUL, an electricity distribution company privatized by
the state government of Mato Grosso do Sul.
Our registered office is at Rua Sete de Setembro, 362, Centro, 29015-000
Vitoria, Espirito Santo, Brazil and our telephone number is (55-27) 3321-9000.
Our agent for service of process in the United States is CT Corporation, 111
Eighth Avenue, New York, NY 10011.
Capital Expenditures
We recorded capital expenditures in 2002, 2001 and 2000 of R$188.0 million,
R$181.1 million and R$180.9 million, respectively. Our investments in
distribution and sub-transmission lines totaled R$99.0 million in 2002, as
compared to R$122.8 million in 2001 and R$130.7 million in 2000. Investments in
expansion and modernization of our generation facilities totaled R$33.2 million
in 2002, as compared to R$5.6 million in 2001 and R$18.5 million in 2000.
We have ongoing capital expenditures related to the expansion and
modernization of our transmission, distribution and existing generation
facilities. We expect to invest approximately R$114.8 million for the expansion
and modernization of our distribution lines in 2003, most of which will be
financed with funds from operations and a portion of which may be financed by
BNDES and Banco do Brasil - FCO.
B. Business Overview
General
We engage primarily in the transmission and distribution of electricity in
the States of Espirito Santo and Mato Grosso do Sul in Brazil. We provided
approximately 95% and 94% of the electricity distributed in 2002 in the States
of Espirito Santo and Mato Grosso do Sul, respectively. We had net operating
revenues (see "Item 3. Key Information -- Selected Financial Data" for the
definition of net operating revenues) of R$1,299.1 million, R$1,385.5 million
and R$1,058.6 million in 2002, 2001 and 2000, and a net loss of R$538.9 million,
a net loss of R$60.1 million and net income of R$52.6 million in 2002, 2001 and
2000, respectively. At December 31, 2002, we had assets totaling R$4.3 billion,
and concessions for 11 hydroelectric generation plants, 10,196 kilometers of
transmission lines and sub-transmission lines, 4,297 MVA transformer capacity
and 71,948 kilometers of distribution lines.
ESCELSA
ESCELSA engages primarily in the transmission and distribution of
electricity in the State of Espirito Santo. ESCELSA distributes electricity to
72 of the 77 municipalities that comprise the entire State of Espirito Santo,
covering an area of approximately 41,372 square kilometers, or 90% of the
geographic area of the State of Espirito Santo. In 2002, ESCELSA supplied 6,365
GWh of electricity and, as of December 31, 2002, had 954,381 customers
representing nearly 3.0 million people or approximately 94% of the total
population of the State of Espirito Santo. In 2002, industrial, residential,
commercial, rural and other customers, including other distribution companies,
represented 52%, 18%, 13%, 5% and 12%, respectively, of ESCELSA's electricity
distribution sales by volume of electricity sold. As of December 31, 2002,
ESCELSA's twelve largest customers accounted for approximately 27% of our
revenues and approximately 44% of the total amount of electricity sold by
ESCELSA. ESCELSA's primary load center is greater Vitoria, the capital of the
State of Espirito Santo, which represented 55% of ESCELSA's entire market in
2002.
9
ESCELSA is also engaged in the generation of electricity. All of its
generation capacity is hydroelectric. ESCELSA has concessions for ten
hydroelectric power plants, of which six are in operation, and in 2002 they
generated approximately 1,056 GWh or 14.4% of its total energy needs. In 2002,
ESCELSA purchased a total of 6,147 GWh of electricity, of which 6,018 GWh were
purchased under a long-term contract with Furnas Centrais Eletricas S.A., or
FURNAS, including 1,742 GWh produced by ITAIPU, and 129 GWh were purchased from
other suppliers.
Transmission and Distribution
General. ESCELSA transmits and distributes electricity, either generated by
it or, more commonly, purchased primarily from FURNAS and ITAIPU, to a
geographic area encompassing 90% of the State of Espirito Santo. At December 31,
2002, ESCELSA had 42,493 kilometers of power lines, composed of transmission and
distribution lines.
The following table provides certain information regarding ESCELSA's
transmission and distribution system, as of the dates presented (except for
energy loss data, which is presented for the year ended on that date):
December 31,
---------------------------------------
2002 2001 2000
---- ---- ----
Kilometers of transmission and
subtransmission lines
230 kV.................................. 140 140 140
138 kV.................................. 1,502 1,502 1,499
69 kV................................... 945 945 934
34.5 kV................................. 413 413 413
Kilometers of overhead distribution lines
(11.4 kV to 13.8 kV).................... 42,493 41,699 34,345
Transformer capacity (MVA)
Transmission............................ 2,682 2,682 2,631
Distribution............................ 1,478 1,408 1,330
Total energy losses (in percentage)(1)..... 11.4 10.4 9.6
______________
(1) Technical energy losses from ESCELSA's lines and equipment occur in the
ordinary course of transmission and distribution of electric energy;
commercial losses occur as a result of illegal connections.
Transmission and Subtransmission. At December 31, 2002, ESCELSA's
transmission and sub-transmission system was comprised of approximately 3,000 km
of transmission lines, primarily 138 kV and 69 kV. In addition, ESCELSA had 67
transformer substations, where electric current is transformed into lower
voltages for subsequent distribution, with total transforming capacity of 2,682
MVA. The transmission system is connected to ESCELSA's main load center and to
various connecting points with FURNAS. Of ESCELSA's industrial and commercial
customers, 19 have 69 kV or 138 kV high-voltage electrical energy supplied
through direct connections to ESCELSA's transmission system. Such customers
represented approximately 44% of ESCELSA's total volume of electrical power
sales during 2002, and approximately 27% of ESCELSA's total revenues during that
same period.
Distribution. At December 31, 2002, ESCELSA's distribution system was
composed of urban and rural distribution networks, which include electric poles
carrying 42,493 km of distribution lines and 37,237 distribution transformers,
with an installed transforming capacity of 1,478 MVA. ESCELSA's distribution
system consists of a widespread network of predominantly overhead lines and
substations having successively lower voltage ranges (13.8 kV and below).
Electricity is supplied to larger industrial customers at a higher voltage and
is supplied to smaller industrial, residential and commercial customers at lower
voltage ranges (13.8 kV and below).
System Performance. ESCELSA's energy losses increased to approximately
11.4% during the twelve-month period ended December 31, 2002, compared to
approximately 10.4% during the twelve-month period ended December 31, 2001 due
to lower energy distribution under the Rationing Program, but a similar energy
loss due to illegal connections. In 2001 (which is most recent data available),
the energy losses for all distribution companies in Brazil averaged 15.8%, as
calculated by Associacao Brasileira de Distribuidoras de Energia Eletrica,
10
or the Brazilian Association of Distributors of Electric Energy. We estimate
that 41% of ESCELSA's energy loss in 2002 occurred as a result of illegal
connections. The remaining 59% of ESCELSA's energy loss resulted from standard
losses that occur during the ordinary course of energy transmission and
distribution.
Scheduled interruptions in ESCELSA's services to customers represented 24%
of all interruptions during 2002. Unscheduled interruptions due to accidental
causes, including lightning strikes, fire, wind and corrosion, represented 76%
of all interruptions. In 2002, we invested an additional R$99.0 million to
renovate and improve ESCELSA's transmission and distribution system, and we
expect to invest an additional R$114.8 million for such purposes in 2003.
The average duration of interruptions during 2002 was 14.53 hours per
customer, representing an increase of approximately 12.1% from 12.96 hours per
customer during 2001. The frequency of interruptions for 2002 was 10.94
interruptions per customer, representing a decrease of approximately 0.9% from
11.04 interruptions per customer during 2001. The average time to respond to
interruptions in customer service increased from 110 minutes for 2001 to 112
minutes for 2002. The number of customer complaints increased by 4.8% in 2002.
The increase of the average time to respond to interruptions and to complaints
was primarily due to the installation of a new toll-free number for both urban
and rural customers, which increased customers' access to ESCELSA's customer
service.
Customers, Analysis of Demand and Tariffs
Customers. Customers of ESCELSA are classified into five principal
categories: industrial (comprising manufacturing and processing activities),
residential, commercial (including service-oriented businesses, universities and
hospitals), rural and others (primarily other distribution companies and public
and municipal services, such as street lighting). In 2002, industrial,
residential, commercial, rural and other customers represented 52%, 18%, 13%, 5%
and 12%, respectively, of ESCELSA's electricity sales by volume of electricity
sold.
The principal industries supplied by ESCELSA during 2002 and the percentage
of the total power supplied to the customers in such industries were as follows:
mining 54%, chemical 13%, non-metallic mineral 12%, food processing 4% and
others 17%. In 2002, the twelve largest customers accounted for approximately
44% of ESCELSA's energy sold by volume.
Analysis of Demand. The following table sets forth certain information
regarding ESCELSA's customers, energy sales and revenues for the periods
indicated.
Number of
Customers Year Ended December 31,
at December -----------------------------------------------------------
31, 2002 2002 2001 2000
----------- ------------------- ------------------- ---------------
(in thousands of reais)
GWh R$ GWh R$ GWh R$
Industrial....................... 11,069 3,290 406,411 3,051 328,501 3,386 311,812
Residential...................... 756,409 1,134 333,358 1,186 298,568 1,386 311,505
Commercial....................... 84,460 839 194,397 780 150,449 845 143,444
Rural............................ 93,372 315 45,282 333 38,479 342 35,639
Other and miscellaneous.......... 8,899 459 77,792 430 60,532 490 71,714
ESCELSA's own consumption........ 170 10 n/a 10 n/a 12 n/a
Other concessionaires............ 2 318 20,839 314 18,861 319 29,221
------- ----- --------- ----- ------- ----- -------
Total........................ 954,381 6,365 1,078,079 6,104 895,390 6,780 903,335
======= ===== ========= ===== ======= ===== =======
For the three-year period ended December 31, 2002, the compound annual
growth rate in the volume of electricity sold by ESCELSA to industrial,
residential and commercial customers was 2.6%, -5.5% and 2.5%, respectively.
During that same period, the compound annual growth rate in the volume of
electricity sold by all Brazilian electricity companies to industrial,
residential and commercial customers was 1.0%, -3.4% and 1.2%, respectively.
11
Tariffs. ESCELSA's customers are classified according to the voltage level
at which energy is supplied to them. High-voltage customers are classified as
"Group A" customers and low-voltage customers are classified as "Group B"
customers. In addition, Group B customers are further classified as residential,
rural, others and public lighting. According to these groupings, each customer
falls within a certain tariff classification defined by law, although some
flexibility is available according to the nature of each customer's demand.
In addition to customer-based classifications, ESCELSA's tariffs are
determined on the basis of seasonal variation and time of day. The seasonal
variation and time-of-day criteria are used for the establishment of two
separate tariff systems: (i) the conventional tariff system and (ii) the
hour-seasonal tariff system.
Conventional Tariff System -- The conventional tariff system does not take
into account any seasonal or time-of-day variations, and is applied both to
Group A and to Group B customers. Group A customers pay for the electricity that
they purchase on the basis of both a "capacity charge" and an "energy charge";
whereas Group B customers, who use the conventional tariff system only, pay just
for energy actually consumed. The capacity charge, expressed in reais per kW, is
based on the higher of (i) contracted firm capacity and (ii) power capacity
actually used. The energy charge, expressed in reais per kWh, is based on the
amount of electricity actually consumed.
Hour-Seasonal Tariff System -- The hour-seasonal tariff system takes into
account both seasonal and time-of-day variations, and establishes different
rates for different times of day or different seasons in the year. Seasonal
variation refers to the dry season (May through November) and the rainy season
(December through April). Tariffs are higher during the dry season, when
hydroelectric generation capacity tends to be lower. Time-of-day variations
refer to peak hours of demand (any three consecutive hours between 5:00 p.m. and
10:00 p.m., as determined by the concessionaire, except Saturdays, Sundays or
holidays determined by federal law) and to off-peak hours of demand (all other
times). Electricity rates are higher during peak hours of demand. This system
only applies to Group A customers with contracted demand equal to or in excess
of 300 kW. Group A customers that are billed pursuant to the hour-seasonal
tariff system pay for both a capacity charge and an energy charge, which vary
depending on the voltage at which the energy is delivered to such customers.
The following table details the breakdown of ESCELSA's Group A and Group B
final customers and sets forth the average tariff and certain other information
for 2002:
Average Net Number of
Group Tariff Volume Revenue Customers
------- ------ ------- ----------
(R$/MWh) (%) (%)
Group A:
A2-138 kV..................... 79.46 44 27 17
A3-69 kV...................... 101.54 - - 2
A3a-44 kV..................... 99.12 3 2 13
A4 13.8 to 2.3 kV............. 129.18 17 17 2,786
-------- -------- -------- --------
Subtotal..................... 93.52 64 46 2,818
Group B:
B1-Residential................ 219.16 19 31 756,315
B2-Rural...................... 136.23 5 5 93,127
B3-Others..................... 211.97 9 15 101,562
B4-Public lighting............ 111.72 3 3 557
-------- -------- -------- --------
Subtotal...................... 196.72 36 54 951,561
-------- -------- -------- --------
Total........................... 130.60 100 100 954,379
======== ======== ======== ========
The tariffs charged by ESCELSA for sales of electricity to final customers
are determined pursuant to the concession contract between ESCELSA and ANEEL.
ESCELSA's concession contract establishes a tariff mechanism with three types of
adjustments:
o an annual adjustment to be made in August, which offsets the
effects of inflation on ESCELSA's tariffs (reajuste);
12
o extraordinary adjustments, which permit ESCELSA to request
revisions to its tariff rates from time to time, generally to
pass through significant changes in its cost structure that it
does not control, particularly the cost of electricity it
purchases, changes in the use of transmission and distribution
facilities and taxes, except for income taxes (revisao
extraordinaria); and
o a three-year periodic tariff review by ANEEL (revisao periodica).
ESCELSA's first periodic tariff review was in July 1998, when ANEEL reduced
ESCELSA's tariffs by an average of 3.4%. On ESCELSA's second (and current)
periodic tariff review, ESCELSA's tariff was increased by 19.89% by ANEEL in
August 2001 on a provisional basis. In 2003, ANEEL adopted a new methodology for
conducting the periodic tariff review of distribution companies that differs
from the one previously used in ESCELSA's case. Beginning in 2003, ESCELSA's
periodic tariff review will be determined in accordance with a rate of return
that ANEEL will allow to ESCELSA, based upon ESCELSA's asset base. During the
time that the value of ESCELSA's asset base is being determined, its periodic
tariff review has been set on an interim basis, and will be adjusted upwards or
downwards depending upon the results of the asset valuation, which is being
conducted by an independent third-party accredited by ANEEL. The difference, if
any, between the provisional periodic tariff review and the definitive periodic
tariff review, will be reflected in ESCELSA's annual tariff adjustment in August
2003. There can be no assurance that, upon the final determination of the value
of ESCELSA's asset base, ANEEL will not revise the periodic tariff review in a
manner that will not have a material adverse effect on the financial position,
cash flows and results of operations of ESCELSA.
On December 21, 2001, in order to allow for the recovery from the
consumption losses incurred as a result of the Rationing Program, ANEEL
authorized a 2.9% extraordinary tariff increase for residential, rural and
public lighting customers, with the exception of low income customers, and 7.9%
for all other customer segments. The tariff adjustment will take place over a
maximum period of 70 months, commencing from the end of December 2001.
On August 7, 2002, ANEEL established a 15.97% tariff increase for ESCELSA's
customers, of which approximately 14.27% related to costs not managed by
ESCELSA, such as energy purchased from FURNAS and ITAIPU, as well as RGR, CCC,
or transmission costs. The remaining 1.70% represented costs managed by ESCELSA
that were adjusted to the IGP-M inflation index, partially offset by a 0.51%
discount applied to the account for the pass through of productivity gains to
clients (the so-called "X factor", that was applied by ANEEL last year at the
time of ESCELSA's periodic tariff review).
Since the privatization of ESCELSA, most of the other distribution
companies, including ENERSUL, have been given new concession contracts with
tariff provisions. Under these concession contracts, the annual adjustment is
determined by a tariff adjustment formula. The formula is adjusted annually. See
"Regulation of the Brazilian Electricity Sector - Tariffs and Sectorial
Charges."
Although ESCELSA's concession contract does not contain the readjustment
formula provided for in the newer concession contracts, in connection with the
second periodic tariff review of ESCELSA's tariffs on August 7, 2001, ANEEL
issued Resolution No. 321, in which it defined the mechanism for adjustments to
ESCELSA's tariffs for 2002 and 2003 by adopting the same tariff adjustment
formula contained in the concession contracts of the more recently privatized
companies.
The more recent concession contracts also state that ANEEL's periodic
tariff review will take into account efficiency gains achieved by the
distribution company, compare the distribution company's tariff with tariffs of
foreign companies and similar domestic companies, and take into account changes
to the cost and market structures of the distribution company. This adjustment
is known as the "X factor." The X factor is intended to permit ANEEL to adjust
tariffs so that consumers may share in a distribution company's increased
operating efficiencies. As a result, a distribution company may not be able to
retain all of the efficiencies and savings achieved by it on a going-forward
basis. While the revision based on the X factor is entirely within ANEEL's
discretion, ANEEL has recently set a formula for calculating the X factor, which
comprises the sum of three elements: (1) a discounted cash flow formula, which
is based upon projections of macroeconomic indicators (such as GDP and
inflation), assets in service, efficiency costs, investments and depreciation,
number of consumers and consumption in MWh; (2) a
13
consumer satisfaction survey; and (3) the variation of labor remuneration, which
reflects increases in labor remuneration, included in Parcel B. ESCELSA is
subject to an X factor review every three years. On August 7, 2001, ANEEL set
the X factor at 1.89% per year, which represents the percentage discount to be
applied to the IGP-M index, which is used to adjust our managed cost
compensation for the 2002 and 2003 tariff adjustments.
Once ESCELSA's average tariff rate is determined, ESCELSA submits a
proposal to ANEEL regarding the apportionment of tariff rates among the various
customer classifications. In recent years, ESCELSA has applied tariff increases
to all of its customers on a uniform basis.
Commercial Arrangements. ESCELSA has entered into supply contracts with
Group A customers, which are based on general terms and conditions set forth in
ruling (Portaria) No. 466 of November 12, 1997. These contracts contain minimum
demand clauses that require the customer to pay for either contracted demand or,
if greater, actual capacity used. These contracts have durations of three or
five years, with automatic renewals for equal durations, subject to notice 12
and 18 months, respectively, prior to expiration of the term. Other contracts
have three-year terms, with perpetual rolling one-year renewals. Each such
contract is subject to termination on approximately 18 months notice (if the
contract is not terminated, it automatically extends for one additional year).
Except for Companhia Vale do Rio Doce and Samarco, we are not aware of any of
our large customers that plan to contract directly with generators other than us
or to self-generate electricity, but there can be no assurance that these
contracts will be renewed in the future, particularly in light of potential
increased competition by generators for free consumers. If any significant
customers fail to renew or choose to terminate their contracts, ESCELSA would be
entitled, pursuant to Law No. 9,648 of May 27, 1998, to immediately reduce its
purchases from FURNAS by a corresponding volume of electricity. Customers with
whom ESCELSA maintained such contracts during 2002 represented approximately 61%
of its sales of electricity (measured in MWh) and 42% of its revenues during the
period. We believe that these contracts provide us with a relatively stable
source of revenue.
On November 29, 2000, ANEEL issued Resolution No. 456, which updated and
consolidated general supply terms and conditions. In the absence of an agreement
between the parties on the duration of supply contracts, the term is 12 months
or, if there is a need for capital expenditures by the concessionaire, 24
months. The contract may be automatically renewed for the same period of time in
successive terms, with prior notice of at least 180 days before the contract's
expiration date, subject to refusal of the customer to renew.
Billing Procedures. The procedure for billing and payment for electricity
supplied is determined by customer category. ESCELSA's industrial customers are
billed on the day of meter reading, with payment required within five days of
the invoice date. ESCELSA's residential customers are billed within two days of
meter reading, with payment required within five days after the invoice date.
Meter readings take place on a monthly basis. Bills are prepared from meter
readings or on the basis of estimated usage. The billing dates of ESCELSA's
customers are staggered throughout each calendar month. ESCELSA may suspend
delivery of electricity to customers if the customer's bill is overdue and 15
days have passed since notification was sent to the customer. However, since the
services provided by electric distribution companies are considered essential
services, there are precedent court decisions that consider the suspension of
delivery of electricity to be unlawful pursuant to the Brazilian Consumer
Defense Code. Therefore, we may not be able to suspend our services if a court
order prohibits us from doing so. In the event of late payment of electricity
bills that has resulted in a service disconnection, a service reconnection fee
and a fine of up to 2% is charged on the total invoice overdue, as well as an
interest charge of 1% per month.
Purchases of Electricity
ESCELSA's electricity purchases from FURNAS and ITAIPU represented
approximately 98% of its total volume of purchases in 2002. In 2002, ESCELSA
purchased 4,276 GWh of electricity from FURNAS, 1,742 GWh from ITAIPU (and
billed by FURNAS), and 129 GWh from other suppliers. ESCELSA is one of the 15
electricity companies in the South, Southeast and Midwest regions of Brazil that
are required by law to purchase from ITAIPU a portion of ITAIPU's energy
purchased by Brazil pursuant to a treaty with Paraguay dated April 26, 1973,
based on their respective market shares of the South, Southeast and Midwest
regions taken as a whole. By law, ESCELSA is obligated to purchase approximately
2.5% of the energy purchased by Brazil from ITAIPU until 2023. To defray the
costs associated with financing the ITAIPU project, the concessionaires in
Brazil's South-Southeast-Midwest interconnected power system, including ESCELSA,
are required to purchase ITAIPU's energy at U.S. dollar-indexed rates fixed to
cover operating expenses and payments of principal and interest on such
financing and the
14
costs of transmitting power to their concession area. As a result, the average
rates for the purchase of power produced by ITAIPU have been above the national
average for the bulk supply of power. As ESCELSA's power needs increase, power
supplied by ITAIPU is expected to represent a smaller percentage of power
purchased by ESCELSA. See "-- Regulation of the Brazilian Electricity Sector."
The following table shows ESCELSA's cost basis for energy purchased from
ITAIPU, FURNAS and other suppliers in 2002:
Capacity Energy Wheeling
Charge Charge Charge Average
-------- -------- -------- -------
(R$/kW) (R$/MWh) (R$/kW) (R$/MWh)
ITAIPU.................................. 71.37 - 2.11 104.66
FURNAS.................................. 3.70 48.03 4.77 77.51
Other................................... - 70.65 - 70.65
--------
Weighted Average........................ - - - 85.06
========
The following table shows the total electricity (i) generated or purchased
by ESCELSA and (ii) sold to final customers and other concessionaires during the
periods indicated:
Year Ended December 31,
--------------------------
Suppliers 2002 2001 2000
- --------- ---- ---- ----
(in GWh)
Electricity generated by ESCELSA................... 1,056 837 1,056
Electricity purchased from ITAIPU.................. 1,742 1,606 1,766
Electricity purchased from FURNAS.................. 4,276 4,203 4,281
Electricity purchased from others.................. 129 184 396
Electricity delivered to final consumers........... 6,047 5,790 6,461
Electricity delivered to other concessionaires..... 318 314 319
In October 1999, ESCELSA entered into a use of transmission system
agreement with the Operador Nacional do Sistema Eletrico (National Electric
System Operator), or ONS, which is the entity that coordinates and controls the
electric energy generation and transmission in the interconnected system, for
the transmission of electricity and connection to the interconnected power
system. ESCELSA and FURNAS are currently operating under an initial contract for
the purchase of electricity that was executed in the third quarter of 2000. See
"-- Regulation of the Brazilian Electricity Sector." The initial contract with
FURNAS sets forth ESCELSA's obligations to purchase specified amounts of
electricity generated by FURNAS, at tariffs set by ANEEL.
ESCELSA's electric generation capacity does not affect its commitment to
purchase energy generated by ITAIPU. However, with respect to non-ITAIPU energy
sold by FURNAS, ESCELSA's commitment may be reduced by the amount of ESCELSA's
generation capacity increases. Therefore, if ESCELSA were to increase its
generation capacity in accordance with approvals received from ANEEL, required
purchase amounts from FURNAS in respect of non-ITAIPU energy would be reduced
accordingly. If ESCELSA were to require energy purchases in an amount greater
than those established in the ESCELSA initial contracts, however, FURNAS'
obligation to supply such energy would be contingent on availability. ESCELSA
also has the right to immediately and proportionately reduce purchases from
FURNAS if a free customer terminates its contract with ESCELSA.
The tariffs for electricity generated by ITAIPU are established in
accordance with a treaty between Brazil and Paraguay dated April 26, 1973 and
are denominated in U.S. dollars. The tariffs for electricity generated by FURNAS
are established pursuant to regulations implemented by ANEEL and are denominated
in reais. ESCELSA's purchases of electricity generated by ITAIPU are paid for on
the basis of a capacity charge as well as a charge for transmission. ESCELSA's
purchases of electricity generated by FURNAS and other concessionaires are paid
for on the basis of both a capacity charge and an energy charge. See "--
Regulation of the Brazilian Electricity Sector -- Tariffs." Capacity charges for
ITAIPU are indexed to U.S. dollars and converted on the date payment is made
into reais at the exchange rate published by the Central Bank for the previous
day. The devaluation of Brazil's currency relative to prevailing rates of
inflation affects the price of power generated by ITAIPU, which constituted
approximately 28% of the total power purchased by ESCELSA in 2002. Although
ESCELSA believes
15
that its concession contract should permit it to pass through to its tariffs any
increase in cost of electricity it purchases, there can be no assurance that
ESCELSA may fully pass through all increases in the cost of energy purchases.
The maximum value of the pass-through has varied significantly over the years
depending on the source of energy (i.e., hydro vs. thermal), and is indirectly
restricted by Normative Value regulations. See "-- Regulation of the Brazilian
Electricity Sector -- Tariffs and Sectorial Charges -- Parcel A."
Generation
ESCELSA holds the concession for ten hydroelectric power plants in the
State of Espirito Santo, of which six are in operation. The total installed
capacity of the hydroelectric plants is approximately 190 MW. ESCELSA generated
1,056 GWh in 2002. The following table sets forth certain information concerning
ESCELSA's power plants.
Installed 2002
Hydroelectric Plants Capacity Output)
-------------------- -------------- ----------
(MW) (GWh)
Mascarenhas.................... 131.0 801
Suica.......................... 30.6 163
Rio Bonito..................... 13.8 67
Jucu........................... 4.4 18
Others......................... 9.9 7
Total.................. 189.7 1.056
ENERSUL
ENERSUL engages primarily in the transmission and distribution of
electricity in the State of Mato Grosso do Sul. ENERSUL provided approximately
94% of the electricity distributed in the State of Mato Grosso do Sul in 2002.
ENERSUL distributes electricity to 72 of the 77 municipalities that comprise the
entire State of Mato Grosso do Sul, covering an area of approximately 329,270
square kilometers, or 92% of the geographic area of the State of Mato Grosso do
Sul. In 2002, ENERSUL supplied 2,754 GWh of electricity and, as of December 31,
2002, it had 596,569 customers, representing nearly 2.0 million people, or
approximately 95% of the total population of the State of Mato Grosso do Sul. In
2002, residential, industrial, commercial, rural and other customers, including
other distribution companies, represented 31%, 24%, 19%, 10% and 15%,
respectively, of ENERSUL's electricity distribution sales by volume of
electricity sold. ENERSUL's ten largest customers accounted for 12.5% of the
volume of ENERSUL's electricity distribution sales in 2002. ENERSUL's primary
load center is Campo Grande, the capital of the State of Mato Grosso do Sul,
which represented approximately 35% of ENERSUL's entire market in 2002.
ENERSUL is also engaged in the generation of electricity. Its generation
capacity is both hydroelectric and thermal. ENERSUL operates seven power plants,
which in 2002 generated approximately 129 GWh, or 4% of its total energy needs.
In 2002, ENERSUL purchased a total of 3,141 GWh of electricity, of which 2,906
GWh were purchased under a long-term contract with Tractebel Energia S.A., or
TRACTEBEL, including 710 GWh produced by ITAIPU, and 235 GWh from other
distribution companies.
Currently, Magistra Participacoes S.A., a wholly owned subsidiary of
ESCELSA, owns 87.9% and 50.6% of the common and preferred shares, respectively,
of ENERSUL.
Transmission and Distribution
General. ENERSUL transmits and distributes electricity, purchased primarily
from TRACTEBEL and ITAIPU, to a geographic area encompassing 92% of the State of
Mato Grosso do Sul. At December 31, 2002, ENERSUL had 36,651 kilometers of power
lines, composed of sub-transmission and distribution lines.
16
The following table provides certain information concerning ENERSUL's
transmission and distribution system as of the dates presented (except for
energy loss data, which is presented for the year ended on that date):
December 31,
------------------------------------------
2002 2001 2000
------------ ---------- ----------
Kilometers of transmission and sub-transmission lines:
138 kV........................................... 2,865 2,749 2,721
69 kV............................................ 423 486 485
34.5 kV.......................................... 3,908 3,859 3,786
Kilometers of overhead distribution lines:
(11.4 kV to 22 kV)............................... 29,455 26,028 23,204
Transformer capacity (MVA):
Transmission.......................................... 1,615 1,490 1,385
Distribution.......................................... 769 711 608
Total energy losses (in percentage)(1)................ 15.8 12.7 15.8
_____________
(1) Technical energy losses from ENERSUL's lines and equipment occur in the
ordinary course of transmission and distribution of electric energy;
commercial losses occur as a result of illegal connections.
Transmission. At December 31, 2002, ENERSUL's transmission system was
comprised of 7,196 km of transmission lines, primarily 138 kV, 69 kV and 34.5
kV. In addition, ENERSUL had 96 transformer substations, where electric current
is transformed into lower voltages for subsequent distribution, with total
transforming capacity of 1,615 MVA. The transmission system is connected to
ENERSUL's main load center, and to various connecting points with TRACTEBEL. Of
ENERSUL's industrial and commercial customers, 7 have 69 kV or 138 kV
high-voltage electrical energy supplied through direct connections to ENERSUL's
transmission system. Such customers represented approximately 9% of ENERSUL's
total volume of electrical power sales during 2002, and approximately 4% of
ENERSUL's total revenues during the year.
Distribution. At December 31, 2002, ENERSUL's distribution system was
composed of urban and rural distribution networks, which include electric poles
carrying 29,518 km of distribution lines and 19,937 distribution transformers,
with an installed transforming capacity of 769 MVA. ENERSUL's distribution
system consists of a widespread network of predominantly overhead lines and
substations having successively lower voltage ranges (13.8 kV and below).
Electricity is supplied to larger industrial customers at a higher voltage and
is supplied to smaller industrial, residential and commercial customers at lower
voltage ranges (13.8 kV and below).
Customers, Analysis of Demand and Tariffs
Customers. ENERSUL's customers are classified into five principal
categories: residential, industrial (comprising manufacturing and processing
activities), commercial (including service-oriented businesses, universities and
hospitals), rural and others (primarily other distribution companies and public
and municipal services, such as street lighting). In 2002, residential,
industrial, commercial, rural and other customers represented 31%, 24%, 19%, 10%
and 15%, respectively, of ENERSUL's electricity sales by volume of electricity
sold. In 2002, the ten largest customers accounted for approximately 12.5% of
ENERSUL's energy sold by volume.
Analysis of Demand. The following table sets forth certain information
regarding ENERSUL's customers, energy sales and revenues for the periods
indicated.
17
Number of Year ended December 31,
Customers -----------------------------------------------------
at December 2002 2001 2000
31, 2002 ------------- -------------- ----------------
----------- GWh R$ GWh R$ GWh R$
Residential......................... 489,211 862 214,509 869 190,345 977 196,855
Industrial.......................... 4,686 671 90,784 618 71,891 593 64,132
Commercial.......................... 52,354 527 120,303 523 100,511 558 98,022
Rural............................... 43,882 276 38,856 251 29,985 266 27,983
Other and miscellaneous............. 6,251 385 59,518 380 50,701 411 50,141
ENERSUL's own consumption........... 182 7 n/a 6 n/a 6 n/a
Wholesale........................... 3 26 3,884 25 3,539 25 3,021
------- ----- ------- ----- ------- ----- -------
Total............................... 596,569 2,754 527,854 2,672 446,972 2,836 440,154
For the three-year period ended December 31, 2002, the average compound
annual growth rate in the volume of electricity sold by ENERSUL to residential,
industrial and commercial customers was 2.5%, 11.7% and 1.1%, respectively.
During that same period, the compound annual growth rate in the volume of
electricity sold by all Brazilian electricity companies to residential,
industrial and commercial customers was -3.4%, 1.0% and 1.2%, respectively.
Tariffs. ENERSUL's customers are classified according to the voltage level
at which energy is supplied to them. In addition to customer-based
classifications, ENERSUL's tariffs are determined on the basis of two factors:
(i) seasonal variation and (ii) time of day. For a more detailed description of
these tariff schemes, see "-- ESCELSA -- Customers, Analysis of Demand and
Tariffs -- Tariffs."
The following table sets forth the breakdown of ENERSUL's Group A and Group
B final customers and sets forth the average tariff and certain other
information for the year ended December 31, 2002.
Average Net Number of
Group Tariff Volume Revenue Customers
- ----- -------------- ----------- ------------ -----------
(R$/MWh) (%) (%)
Group A:
A2-138 kV..................... 60.29 9 4 5
A3-69 kV...................... 55.09 - - 2
A3a-34.5 kV................... 117.84 7 6 277
A4-13.8 to 22 kV.............. 121.45 24 19 1,734
---------- ---------- --------- ---------
Subtotal................... 106.55 40 28 2,018
Group B:
B1-Residential................ 200.54 31 41 489,196
B2-Rural...................... 129.80 7 6 43,671
B3-Others..................... 205.34 17 22 61,584
B4-Public lighting............ 107.31 5 3 97
---------- ---------- --------- ---------
Subtotal.................. 187.01 60 72 594,548
---------- ---------- --------- ---------
Total..................... 154.43 100 100 596,566
========== ========== ========= =========
The tariffs charged by ENERSUL for sales of electricity to final customers
are determined pursuant to ENERSUL's concession contract, which establishes a
tariff mechanism comprised of three types of adjustments:
o an annual adjustment made in April, which offsets the effects of
inflation on ENERSUL's tariffs (reajuste);
o extraordinary adjustments, which permit ENERSUL to request
revisions to its tariff rates from time to time, generally to
pass through significant changes in its cost structure that it
does not control, particularly the cost of electricity it
purchases, changes in the use of transmission and distribution
facilities and any taxes, except for income taxes (revisao
extraordinaria); and
18
o a five-year periodic tariff review by ANEEL (revisao periodica).
On December 21, 2001, in order to compensate for losses related to the
Rationing Program, ANEEL authorized a 2.9% extraordinary tariff increase for
residential and low-tension rural customers and 7.9% for all other segments,
except for low-income customers. The adjustment will take place over a maximum
period of 82 months, commencing from the end of December 2001. On April 8, 2002,
ANEEL established a 12.25% tariff increase, of which approximately 7.35% was
designed to cover costs such as social contribution taxes, such as COFINS, the
RGR fund, the CCC and purchases of electricity. For a more detailed description
of each cost, see "Regulation of the Brazilian Electricity Sector -- Tariffs and
Sectorial Charges." Another 1.29% was designed to cover costs incurred under the
Rationing Program, and the remaining 3.7% was designed to cover management costs
such as personnel, materials and parts and services.
The first five-year periodic revision of ENERSUL's tariffs occurred on
April 7, 2003, pursuant to which ANEEL determined that the average rate that
ENERSUL charges its customers will be increased by 42.26%. Of this 42.26%
increase, 32.59% corresponded to the percentage increase that would have
resulted from an annual tariff readjustment instead of the five-year tariff
review method. The remaining 9.67% was allocated to annual tariff adjustments
for 2004 through 2007, in addition to Parcel B cost adjustments in annual
installments of R$55.2 million. ANEEL provisionally established the "X factor"
applicable to ENERSUL at 2.35% each year from 2004 through 2007, discounting
Parcel B cost gains from ENERSUL's revenues. As in the case of ESCELSA, certain
factors used to reset ENERSUL's periodic tariffs are provisional only and, once
definitively set, may result in an adjustment to ENERSUL's periodic tariff that
is adverse to ENERSUL. See "Regulation of the Brazilian Electricity Sector --
periodic tariff review."
The rate adjustment will be applied according to customer segment as set
forth in the table below:
Segment Tariff Increase
-----------------------
High Tension Percentage
- ------------ ----------
A2 (between 88 and 138kV) ....................... 35.91%
A3 (69kV)........................................ 37.11%
A4 (between 2.3 e 25 kV)......................... 32.49%
Low Tension
- -----------
B (below 2.3kV).................................. 32.48%
The Joint Ordinance dated April 4, 2003 from the Ministries of Economy,
Mines and Energy determined that the balance of the Parcel "A" Cost Variations
Compensation Account - CVA, which is the cost of items not covered by tariff
adjustments, from March 8, 2002 through March 7, 2003, required a tariff
increase of 4.38%, and that such tariff would be applied over a period of 24
months commencing in April 2004.
Commercial Arrangements. ENERSUL has entered into supply contracts, which
are based on general terms and conditions set forth in Portaria No. 466 of
November 12, 1997, with 1,159 hour-seasonal customers. These contracts contain
minimum demand clauses that require the customer to pay for either contracted
demand or, if greater, actual capacity used. The contracts have durations of
three years, with no automatic renewals. Tariffs are set pursuant to ENERSUL's
concession contract with ANEEL. While historically, none of these contracts has
been terminated, there can be no assurance that they will be renewed in the
future, particularly in light of the prospect of increased competition from IPPs
for industrial customers. If any significant customer fails to renew or chooses
to terminate its contract, ENERSUL would be entitled, pursuant to Law No. 9,648
of 1998, to immediately reduce its purchases from TRACTEBEL by a corresponding
volume of electricity. Customers with whom ENERSUL
19
maintained such contracts during 2002 represented approximately 34% of its sales
of electricity (measured in MWh) and 23% of its revenues for the period.
On November 29, 2000, ANEEL issued Resolution No. 456, which updated and
consolidated general supply terms and conditions. In the absence of an agreement
between the parties regarding the duration of the supply contracts, the term
will be 12 months or, in the event there is a need for capital expenditures by
the concessionaire, 24 months. The contract may be automatically renewed for the
same period of time in successive terms, with prior notice of at least 180 days
before the contract's expiration date, subject to refusal of the customer to
renew.
Billing Procedures. The procedure for billing and payment for electricity
supplied is determined by customer category. ENERSUL's industrial customers are
billed on the day of meter reading, with payment required within five days of
the invoice date. ENERSUL's residential customers are billed within two days of
meter reading, with payment required within five days after the invoice date.
Meter readings take place on a monthly basis. Bills are prepared from meter
readings or on the basis of estimated usage. The billing dates of ENERSUL's
customers are staggered throughout each calendar month. ENERSUL may suspend
delivery of electricity to customers if the customer's bill is overdue and 15
days have passed since notification was sent to the customer. However, since the
services provided by electric distribution companies are considered essential
services, there are precedent court decisions that consider the suspension of
delivery of electricity to be unlawful pursuant to the Brazilian Consumer
Defense Code. Therefore, ENERSUL may not be able to suspend services if a court
order prohibits it from doing so. In the event of late payment of electricity
bills that has resulted in a service disconnection, a service reconnection fee
and a fine of up to 2% is charged on the total invoice overdue, as well as an
interest charge of 1% per month.
Purchases of Electricity
ENERSUL's electricity purchases from TRACTEBEL and ITAIPU represented
approximately 92.5% by volume of its total purchases in 2002. In 2002, ENERSUL
purchased 2,196 GWh of electricity from TRACTEBEL, 710 GWh from ITAIPU (billed
by Empresa Transmissora de Energia Eletrica do Sul do Brasil S.A. -- ELETROSUL,
or ELETROSUL), and 234 GWh from other distribution companies. ENERSUL is also
required by law to purchase from ITAIPU a portion of ITAIPU's energy purchased
by Brazil under a treaty with Paraguay dated April 26, 1973. By law, ENERSUL is
obliged to purchase approximately 1% of Brazil's energy needs from ITAIPU until
2023. See "-- ESCELSA -- Purchases of Electricity" and "-- Regulation of the
Brazilian Electricity Sector." As ENERSUL's power needs increase, power supplied
by ITAIPU is expected to represent a smaller percentage thereof.
The following table shows ENERSUL's cost basis for energy purchased from
ITAIPU, TRACTEBEL and ELETROSUL in 2002:
Capacity Energy Wheeling
Charge Charge Charge Average
-------- -------- -------- --------
(R$/kW) (R$/MWh) (R$/kW) (R$/MWh)
ITAIPU.................... 71.37 - 2.11 104.67
TRACTEBEL................. 2.60 36.98 - 45.06
ELETROSUL................. - - 4.77 18.09
-------
Weighted Average.......... 72.06
=======
The following table shows the total electricity (i) generated or purchased
by ENERSUL and (ii) sold to final customers and other concessionaires during the
periods specified:
Year Ended December 31,
--------------------------------
2002 2001 2000
-------- -------- -------
Electricity generated by ENERSUL....................... 129 229 222
Electricity purchased from ITAIPU...................... 710 713 720
Electricity purchased from TRACTEBEL................... 2,196 1,905 2,202
Electricity purchased from other power plants.......... 234 215 226
Electricity delivered to final consumers............... 2,728 3,062 2,811
20
Year Ended December 31,
--------------------------------
2002 2001 2000
-------- -------- -------
Electricity delivered to other concessionaires......... 26 25 25
In August 1998, ENERSUL entered into initial contracts with TRACTEBEL to
purchase electricity and with ELETROSUL for the transmission of electricity and
connection to the interconnected power system. See "Regulation of the Brazilian
Electricity Sector." These initial contracts, the terms of which are mandated by
federal law, set forth ENERSUL's obligations to purchase specified amounts of
electricity generated by TRACTEBEL.
ENERSUL's generation capacity does not affect its commitment to purchase
energy generated by ITAIPU. However, with respect to non-ITAIPU energy sold by
TRACTEBEL, ENERSUL's commitment may be reduced by the amount that ENERSUL's
generation capacity increases. Therefore, if, in any given year, ENERSUL were to
increase its generation capacity in accordance with approvals received from
ANEEL, required purchase amounts from TRACTEBEL would be reduced accordingly.
ENERSUL also has the right to immediately and proportionately reduce purchases
from TRACTEBEL if a large customer terminates its contract with ENERSUL.
Generation
Currently, ENERSUL's electricity generation, transmission and distribution
operations are vertically integrated into and directly operated by ENERSUL.
However, pursuant to ENERSUL's concession contract and in accordance with
certain changes in the regulatory framework of the Brazilian electricity sector,
ENERSUL has created ENERSUL Geracao S.A., a wholly owned subsidiary of ENERSUL,
to which it may transfer all of its generation assets.
ENERSUL currently operates four hydroelectric power plants and three
thermal plants in the State of Mato Grosso do Sul. The total installed capacity
of the power plants is 43.9 MW. ENERSUL generated 129 GWh in 2002.
The following table sets forth certain information concerning ENERSUL's
power plants.
Installed 2002
Hydroelectric and Thermal Plants Capcity Output
- -------------------------------- --------------- ----------------
(MW) (GWh)
UHE Mimoso(1)........................ 29.5 116
UTE Corumba(2)....................... 6.0 --
UTE Coxim(2)......................... 3.0 2
UTE Porto Murtinho(2)................ 3.7 11
Others............................... 1.7 --
--------------- ----------------
Total........................... 43.9 129
______________
(1) Hydroelectric.
(2) Thermal.
Competition
We hold concessions to distribute electricity in 70 of the 77
municipalities in Espirito Santo and in 72 of the 77 municipalities in Mato
Grosso do Sul. Within our concession area, we do not face competition in the
distribution of electric energy to residential, commercial and industrial
customers of low voltage supply. As a result of recent legislation, other
suppliers are now permitted to offer electricity to certain unregulated
electricity customers that meet the regulatory requirements to qualify as "free
consumers" at potentially lower prices than those we currently charge.
We are required to permit the use of our facilities by other generation,
distribution and transmission companies and free consumers for the transmission
of electricity upon payment of a toll, known as a "wheeling charge," which is
determined according to a method set by ANEEL. In addition, any consumer may
develop self-generation capabilities, although we expect that only large
consumers will consider such an investment. See "-- Regulation of the Brazilian
Electricity Sector -- Legal and Regulatory Framework" for an explanation of the
activities that may be conducted by self-generators.
21
As a result, free consumers of electricity now have significant
alternatives to purchasing power other than from us. Competition and
self-generation may adversely affect the prices we can charge certain free
consumers and reduce our revenues. ESCELSA currently has 16 customers that meet
the criteria to be considered free customers, i.e., they have demand greater
than 3MW and are supplied at a voltage level equal to or greater than 69kV, or
they supplied at any voltage level and entered the market for electricity after
July 1995. Free consumers are entitled to buy from IPPs or any electric energy
services concession, permission and authorization holders. However, ESCELSA's
twelve largest customers currently have supply contracts in place until 2006.
Our customers meeting the criteria of free consumers represented approximately
44% of ESCELSA's total volume of electrical power sales during 2002, and
approximately 27% of ESCELSA's total revenues during the year. By law, as of
July 2003, ANEEL may decrease the demand and voltage levels that must be met by
customers in order to be considered free customers.
Although there can be no continued assurance in this regard, ENERSUL
currently believes that competition will not have a material adverse effect on
its results of operations and financial condition because ENERSUL currently has
only three customers meeting the criteria for free customers and who, as a
result, are entitled to purchase electricity from IPPs or any electric energy
services concession, permission and authorization holders. Such customers
represented approximately 5.9% of ENERSUL's total volume of electrical power
sales during 2002, and approximately 2.4% of ENERSUL's total revenues during the
year.
Raw Material
ESCELSA uses water as its primary source to produce energy. ENERSUL owns
and operates three thermoelectric plants, each of which consumes fuel oil. The
cost for fuel oil consumption for the year ended December 31, 2002 was R$2.7
million, of which approximately R$2.4 million was reimbursed to us by the CCC
account, which is an account created in 1973 to generate financial reserves to
cover fossil fuel costs in thermal power plants in the event of a rainfall
shortage requiring increased use of thermal plants.
Seasonality
Our sales of energy are subject to variations depending on the seasons of
the year, since consumers spend more on energy in some seasons than in others.
Because these variations are systematic and already accounted for in our monthly
plans of sales of energy, our results of operations are not affected by the
seasonality.
Concessions
A concessionaire has certain rights and obligations as a result of
receiving a concession. Concessionaires for generation have the duty to produce
and supply electric energy in accordance with their relevant bid and concession
agreements. Concessionaires for transmission and distribution have the duty to
provide transmission and distribution services from their own assets at
applicable rates to whoever requests these services. We believe that we are in
material compliance with our obligations under our concessions.
In addition, concessionaires, among other things:
o may only charge tariffs that have been approved by ANEEL;
o may not transfer, assign, pledge or sell properties and
facilities used by the concessionaires to perform their duties
under their concessions without the prior consent of ANEEL;
o must operate their facilities in accordance with technical rules
established by ANEEL;
o may not cease providing electricity services that are the subject
of their concessions other than for non-payment of invoices after
the consumer has been given prior notice; and
22
o must, at the end of the concession period, in the event of
non-renewal of their concessions, allow all property and
facilities used in connection with the concessions to revert to
the Brazilian government against payment of book value of the
assets to the concessionaires. See "-- Regulation of the
Brazilian Electricity Sector" and note 1 to our financial
statements included elsewhere in this annual report.
Our existing distribution concessions were granted pursuant to our
concession contracts. Pursuant to ESCELSA's concession contract, ESCELSA was
granted the right to supply electricity in each of the applicable municipalities
through the year 2025. ESCELSA also currently owns ten generation plants
pursuant to concessions that were granted through the year 2025. Under ENERSUL's
concession contract, ENERSUL was granted the right to supply electricity in each
of the applicable municipalities through the year 2027 and to produce
electricity through one hydroelectric generation plant for which a concession is
not required due to its low total installed capacity. ENERSUL also currently
owns one generation plant (Mimoso) pursuant to a concession that was granted
through the year 2027. The concession contracts may be renewed at the discretion
of the regulatory authorities.
According to the terms of the concession contracts, and the Concessions
Law, a concession contract may be terminated due to the occurrence of the
following events: (1) forfeiture (i) if service is being rendered inadequately
or deficiently, based on the rules, criteria, indices and parameters defining
service quality, (ii) for failure to comply with the provisions of law,
regulations or the terms of the concession contract, (iii) for failure to
provide service, except in the event of an act of God or force majeure, (iv) if
the concessionaire no longer has the economic, technical or operating conditions
to maintain an adequate level of services, (v) for failure to timely comply with
any penalties imposed in the event of any infractions, (vi) for failure to
respond to notification by the authorities to regularize service rendering,
(vii) if the concessionaire is sentenced by final and unappealable decision for
tax evasion, including social contribution, (2) the bankruptcy or liquidation of
the concessionaire, (3) annulment due to illegalities found in the bidding
procedures or in the award of the bid, (4) expropriation for reasons of public
interest ("encampacao"), (5) rescission of the contract by the concessionaire in
the case of non-compliance with the contractual provisions by the granting
authority through a specific lawsuit filed for this purpose; and (6) expiration
of the term of the contract. In the case of forfeiture, the concessionaire is
entitled to notification, a right to cure and due process. In the event of an
expropriation, forfeiture or the expiration of the term of the contract, we
would be entitled to be paid the portion corresponding to the investments
attached to revertible assets not yet amortized or depreciated which have been
made for the sole purpose of assuring the continuity and improvement of our
service, less contractual penalties and damages caused by the concessionaire in
case of forfeiture. See "-- Regulation of the Brazilian Electricity Sector." We
are also subject to penalties and fines imposed by ANEEL under certain
circumstances. See "-- Regulation of the Brazilian Electricity Sector."
C. Regulation of the Brazilian Electricity Sector
General
The Brazilian Federal Government is responsible for establishing public
policy which governs the energy industry. It works in collaboration with a
para-governmental body, knows as the National Council for Energetic Policy,
("CNPE"), which is composed of various Ministers from Ministries such as Mines
and Energy, Finance, Environment, as well as several scientific scholars.
Through its body, the Ministry of Mines and Energy, the Federal Government
establishes policies to regulate the energy sector. ANEEL, an independent
regulatory agency, is responsible for implementing the Federal Government's
policies and directives and independently regulating electricity generation,
transmission, distribution and trading activities, executing and managing the
contracts involved in the provision of such services and regulating the tariffs
to be charged, as well as tariffs' review and adjustment procedures. In
addition, ANEEL is also responsible for: (i) implementing and regulating the
exploration of electric energy and the use of hydroelectric power; (ii)
coordinating the bidding process for the granting of new generation,
transmission and distribution concessions, as well as the bidding process
relating to the granting of concessions for the use of potential hydroelectric
power; (iii) solving administrative disputes among utilities, IPP companies,
self-producers and customers; (iv) determining the criteria that will establish
the cost of the transmission of energy; (v) inspecting, either directly or in
cooperation with state agencies, the electric energy services; (vi)
establishing, together with the fossil fuels and natural gas agencies, the
parameters for fixing the transport prices of such fuels; (vii) establishing
limits, restrictions and conditions for the transfer and procurement of
concessions, permissions and authorizations
23
among electric energy sector agents in order to foster competition among such
agents; (viii) establishing and fixing administrative penalties to be imposed to
concessionaires, permissionaires and authorization holders; (ix) establishing
universal goals to be periodically reached by concessionaires and
permissionaires; and (x) inspecting, limiting or prohibiting, as the case may
be, transactions entered into by and among concessionaires, permissionaires and
authorization holders and those entered into by and among such agents and their
holding and controlled companies.
Legal and Regulatory Framework
In 1995, the Brazilian government began to enact legislation aimed at
stimulating the energy sector and increasing competition. At this time, a new
framework was created for granting concessions, particularly within the power
sector.
A landmark law affecting structural changes in the Brazilian electricity
sector was enacted on February 13, 1995. The law regulated how concessions and
permissions would be granted for public services and how tariffs would be
determined. Under the new structure, the model used is referred to as
performance-based regulation whereby (i) there are periodic settings of tariffs
based on cost-of-service principles (through periodic tariff reviews); (ii) once
such tariffs are set, they remain unchanged for a determined period of time
during which they are adjusted yearly for inflation (Parcel B costs) plus
changes in non-controlled costs (Parcel A costs); and (iii) there are profit
incentives to increase operating efficiency by the utility companies, which in
turn, will share the efficiency gains with customers (X factor). See "-- Tariffs
and Sectorial Charges."
Another law passed in July 1995, introduced stark changes in the Brazilian
power industry, including: (i) the creation of the Independent Power Producer
(IPP) which, although a generating agent, is subject to the private and
competitive system (in contrast to the public service system applicable to the
other agents of the power sector), and could operate based solely on the
authorization of the Federal Government, a process much simpler than that
required for concession; (ii) the gradual release of consumers, the so-called
free-consumers, to purchase power from IPPs and, from any concessionaire,
permissionaire or authorization holder; (iii) the authorization to organize
consortia for power generation; (iv) the authorization for the Federal
Government to unbundle power companies through corporate reorganization; and (v)
the authorization for the Federal and State Governments to privatize
concurrently with the awarding of new public service concessions or extensions
of existing concessions.
ANEEL was created in 1996 to set up additional rules governing tariff
policies such as the Brazilian performance-based regulation model and tariff
adjustments and reviews.
The concept of IPPs was introduced to foster private investment in the
electricity sector. An IPP is a legal entity or consortium holding a concession
or authorization for power generation for sale to (i) public electric energy
providers; (ii) certain large industrial and commercial consumers; (iii)
consumers who have not been supplied by the local distribution concessionaire
for more than 180 days; (iv) certain other consumers upon previous agreement
with the local distribution concessionaire; (v) the so-called free consumers. In
addition to the authorization for power generation, IPPs that operate hydro
assets also need to seek a concession for the use of a public good, since hydro
resources are deemed to be public goods under Brazilian law and, as such, unlike
the thermal plants, cannot be given as collateral in financial transactions.
Self-generators may, upon ANEEL's prior approval (i) give or exchange energy
with other self-generators within a consortium; (ii) sell excess energy to the
local distribution concessionaire; and (iii) exchange energy with the local
distribution concessionaire to allow for consumption by industrial plants of the
self-generators located in another area of generation.
The primary objective of the reform was to allow the Brazilian government
to focus on its roles as policy-maker and regulator, while allowing the private
sector to assume the responsibility of operating and investing in the power
sector. On May 27, 1998, the legal foundation for the current competitive
trading model was formed, which included the creation of a wholesale energy
market, or MAE, that replaced the system of regulated generation prices and
tolling supply contracts. The 1998 legislation also created a new entity called
the ONS, which is responsible for coordinating and controlling the electricity
generation and transmission in the interconnected systems. One of ONS' main
goals is to guarantee all participants of the electricity sector equal access to
the Brazilian transmission network on a non-discriminatory basis.
Originally, MAE was created as a self-regulatory body. However, in 2001,
MAE was restructured and became a private legal entity (i) subject to ANEEL's
authorization, regulation and supervision; (ii) responsible for
24
the operation of the wholesale energy market; and (ii) responsible for ensuring
that purchases of energy in the spot market are settled and cleared in an
efficient manner.
MAE's participants are subject to rules contained in MAE's charter and to
applicable ANEEL regulations, including ANEEL's Resolution No. 290, dated August
3, 2000, that sets forth its rules, which are expected to be fully implemented
by January 1, 2006. Mandatory participants of MAE include: (i) generation
companies having installed generation capacity of 50 MW or more; (ii) energy
retailers, including distribution companies, having sold 300 GWh or more during
the prior year; and (iii) importers or exporters of energy having an available
capacity of 50 MW or more. In addition, certain other entities that operate in a
smaller scale have the option to participate in MAE. Free consumers are also
allowed to participate in MAE, as customers. Both ESCELSA and ENERSUL are
considered mandatory participants in MAE. Disputes arising among MAE's
participants are settled through arbitration within the arbitration chamber of
MAE.
Power trades under MAE are strictly financial transactions, while ONS is
entrusted with the actual delivery of power, based upon rules that optimize the
system's production. The contracts executed under MAE can be of two types: (i)
short-term power purchase and sale agreements (spot market), which are dependent
on power availability in the electrical system; and (ii) long-term power
purchase and sale agreements, which comprise the largest amount of distributors'
and traders' aggregate load. Long-term power purchase and sale agreements
prevent distributors and traders from being fully exposed to price volatility,
as is the case under the spot market. Contracts with terms longer than two years
are considered long-term.
Energy supply contracts, which must be based on MAE's standard form
agreement, must be registered with MAE. Distributors and energy retailers must
prove, through registration, their compliance with the requirement that 95% of
their contractual obligations to final customers are covered by long-term energy
supply contracts. Registration of energy contracts with the MAE is also designed
to ensure that generation companies do not commit to supplying more than their
maximum available capacity as set by ANEEL.
Participants of the MAE are subject to penalties in case of non-compliance
with their obligation undertaken with the MAE as well as to the enforcement of
financial guarantees, which must be posted in order to assure the payment of
debts assumed under such transactions.
ANEEL has passed guidelines for the computation of the spot price for
energy in the MAE. The spot price is determined by market conditions and by
certain public policy and operational considerations, including the most
efficient use of resources, transmission restrictions, energy deficit costs,
projected energy requirements and international energy resources provided by
international suppliers. Prevailing spot prices vary in each of the four
sub-markets within the wholesale energy market. Sub-markets take into account
restrictions in transmission capacity. Given the improvements made on the
transmission lines during the years 2001 and 2002, which facilitates the
transportation of energy, the federal government determined that the number of
sub-markets should be reduced from four to two. Presently, however, a
preliminary injunction granted in a class action against such measure prevents
both ANEEL and the Federal Government from passing regulation to enact this
reduction.
In order to assure that power purchases and sale operations under the MAE
would continue in a stable and sustainable manner, the opening of the wholesale
market is occurring gradually. During the transition period in which the
existing generation and distribution agents execute long-term power purchase and
sale agreements called Initial Contracts, the purchase and sale of electric
energy is contracted separately from the access to the transmission and
distribution grids. Like existing agreements, the Initial Contracts are
primarily "take or pay" commitments that guarantee stable energy prices for
distribution companies and a steady stream of income for generation companies.
Beginning in 2003, the quantities specified under the Initial Contracts are
expected to be reduced at a rate of 25% a year until all power purchases and
sales are fully released, by the end of 2006. As the energy and capacity volumes
covered by the Initial Contracts are reduced, private generation and
distribution companies, subject to certain restrictions described below, may
negotiate with any other market participant for the newly released energy at
market prices.
Since the Rationing Program in 2001, the Federal Government has been
studying alternatives for the energy sector aimed at fostering the system's
expansion, through private and public investments. Some of the proposals
presented by the Committee for Revitalization of the Power Sector have been
consolidated in legislation which is summarized below.
25
Power purchase restrictions: In 2002, two laws imposed a series of
restrictions on the manner by which power not sold through Initial Contracts may
be sold and bought by state-owned generation companies and by distribution
companies. Generation companies under the Federal Government control shall
negotiate at least 50% of their total energy traded, including the reduced
portion of the Initial Contracts, in public auctions. Public services generation
concessionaires under the control of the State shall negotiate the energy they
trade, in a public, transparent and equal fashion, through the auctions. ANEEL
is authorized to intervene in such auctions promoted by federal or state owned
generation companies in order to prevent abusive practices among auction
participants that may affect energy prices, including the fixing of minimum
prices. In addition, generation companies under the control of the federal
government may amend their Initial Contracts to avoid the 25% yearly reductions
that are supposed to take place starting in 2003 (according to regulations
enacted recently, December 31, 2004 is the mandatory final term for such
amendments). As of January 1, 2003, distribution companies are also obliged to
purchase energy through its own auctions or through auctions promoted by federal
or state owned generation companies. The rules concerning the obligation to
purchase power from public auctions do not exclude the basic right of
distribution companies to purchase power from affiliated or controlled
companies, but such rules are subject to self-dealing limits established by
ANEEL. Pursuant to such rules, distribution companies which participate in the
interconnected system, such as ESCELSA and ENERSUL, cannot purchase more than
30% of the energy sold to their captive consumers from their affiliated or
controlled companies.
Creation of PROINFA, CDE and Incentives for Alternative Sources of Electric
Energy: In 2002 new policies were created for alternative power sources. PROINFA
(Program for Incentive of Alternative Sources of Electric Energy) was created to
attempt to increase the participation of electric energy generated from eolic,
biomass and small hydro plants (plants with a determined specification of
reservoir, that has an installed capacity of less than 30MW). The benefits
granted to PROINFA's participants are: (i) assured purchase offer from
ELETROBRAS of a portion of the generated energy; and (ii) the right to a
monthly credit from funds of the CDE -- Account for Energetic Development.
However, this program has yet to be implemented.
CDE is a sectorial fund aimed at encouraging the universal access to
energy, as well as promoting all alternative sources of energy development,
including PROFINA and power generation from eolic, biomass, small hydro plants,
natural gas and national mineral coal sources. CDE also assists in funding
distribution companies in reaching their universal goals described below. CDE is
funded by: (i) annual payments of UBP (fee for the use of the public good) made
by hydro generators, (ii) penalty fees imposed and charged by ANEEL from
concessionaires, permissionaires and authorization holders, and (iii) quotas
that shall be paid by all agents which supply energy to final consumers,
including distribution companies.
Apart from benefiting from the funds of CDE, the projects falling under
PROINFA's requirements as well as all other projects which power is generated
from eolic, biomass, solar and small hydro plants sources are entitled to a
discount, not less than 50%, on the transportation tariffs, and to the right to
trade energy with consumers not yet considered free consumers as per the current
laws.
Universal goals: ANEEL has established universal goals to be periodically
reached by concessionaires and permissionaires. Such goals consist of
distribution concessionaires or permissionaires servicing currently unacessible
areas without any burden/costs to the consumers. ANEEL's Resolution, dated April
29, 2003 requires that the distribution concessionaires and permissionaires
present, periodically, as of April 1, 2004, plans by which they intend to
achieve universal access to energy by all consumers through capital expenditures
without any burden/costs to the consumers. Such plans have to be approved by
ANEEL. The concessionaires which fail to comply with the goals set forth in
their approved plans shall be subject to a penalty of a tariff reduction until
such time that they comply with the goals set forth in their plan. A portion of
the funds of the CDE, especially those arising out of the penalty fees imposed
and charged by ANEEL, will be used for universal development.
Increase of the number of low income residential consumers: currently,
consumers supplied under the single voltage circuit, with monthly consumption
lower than 80kWh/month or which vary from 80 to 220 kWh/month, to the extent not
excluded from this category for reasons described in relevant ANEEL Resolutions,
are considered low income residential consumers. This new definition
significantly increased the quantity of consumers under this category, thereby
increasing the number of consumers entitled to a lower social tariff than the
one applicable to other residential consumers. This measure may cause
distribution companies to suffer income losses in the event that they are not
fully reimbursed by government subsidies in the form of: (1) funds from the RGR
(Global Reversion Fund) or (2) Low Income Subvention, funds derived from
dividends due by ELECTROBRAS (a
26
state-owned holding company which has a controlling stake in non-privatized
generation and distribution companies and is also responsible for providing
funding for the sector) to the Federal Government in connection with power sales
in public auctions.
Tariff Restructuring: The major captive consumers under Group A tariff
class (those supplied with voltage equal or higher to 2.3 kV, or alternatively,
lower then 2.3 kV in case of underground distribution systems) shall replace
their actual supply contracts which encompass the costs of the purchase of power
and transportation with separate agreements for each of such items. The supply
tariffs to be paid by such consumers, as of the date of the ordinary tariff
review of the distribution companies, will incorporate the growing portions of
the costs of the power available for sale in the market, plus the commercial
costs, sectorial charges, taxes and decreasing portions of tariffs calculated in
accordance with the current tariff structure of the distribution concessionaires
and permissionaires, net the transportation charges. Such measure aims primarily
to eliminate the cross subsidies inherent in the old tariff scheme, by which
residential consumers helped to subsidize the cost of power consumed by
industrial consumers. Under the restructured tariffs, each class of consumer
will pay only for its own relevant costs.
Tariffs and Sectorial Charges
The model currently used to set tariffs is the performance-based
regulation. Under such system, once the tariff cap is established for a
determined period, the companies are incentivized to reduce costs and thereby
increase profits, which will be divided between the company and the consumer,
through a mechanism known as the X Factor. The tariffs of ESCELSA and ENERSUL
were originally set in contracts arising out of privatization and are subject to
rules regarding tariff adjustments and tariff reviews set forth in the
applicable laws and their relevant concession contracts.
Pursuant to the distribution concession agreements, the supply tariffs are
composed by two parcels, Parcel A and Parcel B.
Parcel A is composed of the following costs and charges: (i) cost of the
energy purchased for sale, including the one from ITAIPU; (ii) RGR (Global
Reversion Fund); (iii) quotas of Fuel Consumption Account (CCC); (iv) amounts
related to the inspection fee charged by ANEEL; (iv) costs for the exploration
of hydro resources for generation purposes, when applicable; (v) connection and
use of transmission and distribution systems charges; (vi) charges for system
services -- ESS; and (vii) quotas of the Energetic Development Account -- CDE.
Such costs and charges are briefly summarized below:
o The costs of energy purchased for sale are fully passed through
to the consumer's tariffs when the power is purchased from ITAIPU
or through Initial Contracts. All other power purchases are
limited by the so-called Normative Values, which are currently
regulated by the relevant ANEEL Resolution. The Normative Values
used to vary according to the source of the power purchased.
Since 2002, ANEEL set forth that all agreements presented for
registration thereafter would be subject to a Sole Normative
Value, which is based on the cost of hydro generated power.
Another resolution followed which grandfathered in certain
thermoelectric projects and including them in the Thermal Power
Priority Program (Programa Prioritario de Termelectricidade --
PPT) despite the fact that they had not presented their relevant
Power Purchase Agreement, ("PPAs") to ANEEL before the issuance
of the relevant Resolution in 2002. These exceptions were
permitted because such projects were determined to be in an
advanced stage of implementation according to a test set forth
under such resolution. Accordingly, with respect to the projects
that succeeded in qualifying under the grandfather test, the
distribution companies are allowed to pass through differentiated
costs of purchase of energy to the consumers, limited by the
Normative Values established by ANEEL. A Presidential Decree
provided that as of 2004, ANEEL may review the Normative Value as
a result of the prices of energy purchase of the auctions
promoted by the distribution companies. Last April, ANEEL issued
two Technical Notes setting forth new criteria for determining
the Normative Values based on the average price reached in
auction sales promoted by generation companies controlled by the
Federal Government (substantially lower than the Normative Values
previously set). Further, such Technical Notes set forth
additional restrictions on the power purchase prices related to
PPAs entered into between affiliated companies. Such Technical
Notes encountered great criticism, since they purport to apply to
PPAs that had already been submitted to ANEEL but had not been
approved yet at the time such
27
Technical Notes were issued, whereas Normative Value regulations
clearly set forth that, by submitting the PPA to ANEEL, the
parties were guaranteed the application of the Normative Value
criteria in place at the time of presentation of the PPA to
ANEEL, regardless of the date of approval thereof. In spite of
such controversial retroactive effect, ANEEL has been applying
the rules set forth in such Technical Notes.
o The Global Reversion Fund -- RGR: The RGR is a fund controlled by
ELETROBRAS designed to provide funds for compensation to
concessionaires upon the term of their concession. RGR funds are
also designed to finance projects in the electricity sector and
other purposes established by applicable law, such as the Low
Income Subvention. Electric companies are required to contribute
to the RGR fund each month at an annual rate of 2.5% over the
concessionaire's investment.
o Fuel Consumption Account -- CCC: CCC is a fund created to
subsidize power production financing by thermal plants in Brazil
among electric sector agents (provided that coal-fired plants are
only entitled to its benefits when they use domestic coal). The
value of each quota, payable monthly by all sector's agents which
buy, sell, distribute or transmit energy to final consumers,
including distribution companies, is determined by the sharing of
the consumption cost of fuels for power generation, excluding any
state or municipal taxes levied thereon.
o Inspection fee charged by ANEEL: The inspection fee shall be paid
annually to ANEEL and corresponds to 0.5% of the economic benefit
ascertained by the concessionaire, calculated by a specific
formula which takes into account the following items: (i) annual
invoiced energy by the distribution companies, expressed in MWh;
and (ii) annual average capacity factor of the distribution
installations, ascertained in accordance with ANEEL's criteria.
o Costs for Use of Hydraulic Resources: The cost for use of
hydraulic resources corresponds to 6.75% of the value of the
energy produced, calculated in accordance with the prices of the
sale of energy allocated to the distribution concessionaires,
excluding the sectorial charges linked to generation activities,
taxes, and compulsory loans, as well as costs incurred in the
transmission of electric energy.
o Charges for connection and the use of transmission and
distribution systems: Transportation charges are divided into two
categories: connection charges and charges for system use. The
connection charges compensate for the assets used by the agents
for their connection to the transmission or distribution systems.
Payment of the connection charge and the charge for the system
use is made directly to the owner of the accessed assets.
Transmission and distribution systems charges compensate for the
use of all network and services rendered by the agents and are
required for the maintenance of such systems. Under the
distribution system, the system use charge is paid directly to
the distribution company accessed. Under the transmission system,
payment is made to ONS, which is responsible for managing the
transmission assets of the interconnected system. ONS retains
only a portion of the payment, since the remainder of it is
directed to the transmission concessionaires, owners of the
transmission assets, which is managed by ONS. ANEEL regulates
the amount, as well as the calculation of the charges for the
transmission and distribution systems.
o Charges for System Services -- ESS: ESS primarily consists of an
amount of R$/MWh designed to recuperate the costs incurred in
maintenance of the reliability and stability of the
inter-connected system, since such costs are not computed in
MAE's prices. Such charge is paid by all MAE's participants in
the consumption category proportionally, thus it is also paid by
the distribution companies.
o Quotas of the Energetic Development Account -- CDE: CDE is a fund
whose main objectives are to promote universal electric energy
services and the development of all forms of energy, including
eolic, biomass, small hydro plants, natural gas and national
mineral coal sources. CDE is funded by: (i) annual payments of
UBP (fee for the use of the public good) made by hydro
generators, (ii) penalty fees imposed and charged by ANEEL from
concessionaires,
28
permissionaires and authorization holders, and (iii) quotas that
shall be paid by all agents which supply energy to final
consumers, including distribution companies.
Parcel B, comprises the difference between (i) the total revenues of the
concessionaires; and (ii) the value of Parcel A, net of the ICMS.
The distribution concession contracts provide for three types of protection
of the concessionaire's payment through tariff: (i) annual tariff adjustment;
(ii) extraordinary tariff review; and (iii) periodic tariff review.
The Tariff Adjustment takes place every 12 months except in those years in
which periodic tariff review takes place. During the tariff adjustment process,
the tariffs charged by the concessionaires are merely updated as to (i) pass
through the current costs of the components of Parcel A; (ii) preserve Parcel B
against inflation by indexing it to the IGPM; and (iii) promote the tariff
affordability principle by using the so-called X Factor, whose purpose is to
share with consumers prospective efficiency gains of the concessionaire.
The Extraordinary Tariff Review may take place at any time, through formal
request submitted by the concessionaire to ANEEL, when the following events
occur: (i) significant changes in the costs of the concessionaires that they do
not control; (ii) creation, termination or change of any tax, excluding income
tax, or legal charges, especially those comprised in Parcel A of its revenues;
and (iii) unilateral modification to the concession agreement.
According to ANEEL's interpretation of such mechanism, in order to obtain
such approval, the concessionaire has to prove that its balance sheet was
disrupted as a result of an extraordinary event and, therefore, the concession
agreement needs to be readjusted. ANEEL's requirement become very burdensome,
even for the most common cases for extraordinary tariff review, such as cost
increases related to Parcel A components.
So as to overcome such problem, the Ministry of Economy and Mines and
Energy created a tracking account named the Compensation Account for the
Variation of the Amounts of Items of Parcel A -- CVA. In accordance with the
system of the CVA, the positive or negative variations of certain costs
encompassed in Parcel A of the distribution concessionaire revenues which occur
after its annual tariff adjustment shall be computed in a tracking account. In
the following annual tariff adjustment, the outstanding amount of the CVA, added
by interest accrued at the SELIC rate, would be offset from the distribution
tariff along the next 12 months subsequent to the adjustment (the portion of the
CVA not immediately offset also accrue interest at the SELIC rate). The costs of
Parcel A subject to the CVA system are: (i) ITAIPU capacity pass-through tariff;
(ii) ITAIPU transportation tariff; (iii) CCC; (iv) use of the transmission
system charges; (v) costs for the exploration of hydro resources; (vi) ESS; and
(vii) CDE. Notwithstanding the aforementioned system, on April 7, 2003, the
Ministries of Finance and of Mines and Energy issued a joint ordinance
postponing tracking account tariff increases for a 1-year period with the
intention of avoiding an additional impact on tariffs in the 4-7% range.
According to this joint ordinance, the passing through of the amount accumulated
on the tracking account to tariffs, previously scheduled to occur from April 8,
2003 to April 7, 2004, will be postponed for one year. This amount, added by the
amount to be accumulated in the twelve following months, shall be recovered over
a 24-month period rather than the usual 12-month period.
The periodic tariff review takes place normally in intervals that vary
between 3 years (ESCELSA's case) and 5 years (ENERSUL's case). During such
process, ANEEL resets the value of the tariffs charged by the concessionaire,
taking into consideration the changes of the costs structure and market of the
concessionaire, the levels of tariffs observed in similar companies within the
domestic and international markets as well as efficiency and tariff
affordability incentives. The Periodic Tariff Review has two stages, the first
of which is named "Tariff Resetting," which is a comparison between the
"Assessed Revenue" and the "Required Revenue" of the concessionaire. The
"Assessed Revenue" is the revenue actually obtained by the concessionaire and
the Required Revenue is the revenue considered necessary, according to a
methodology set forth by ANEEL, for the adequate rendering of the distribution
service. By comparing both of them, if the Assessed Revenue is higher than the
Required Revenue, the distribution tariff of the concessionaire will be reduced;
otherwise, it will be increased. The tariff re-setting index is applied on the
very year of the periodic tariff review in lieu of the annual tariff adjustment.
The second stage of the periodic tariff review is the calculation of the X
Factor. The X Factor is the result of the assessment by the regulator and the
utility company of what should be the appropriate sharing of estimated cost
reductions that the concessionaire expects to achieve by increasing its
operations until the next tariff periodic
29
review. Such X Factor is applied to reduce the IGP-M in the annual tariff
adjustments following the tariff periodic review.
Since ESCELSA's and ENERSUL's privatizations occurred in July 1995 and
November 1997, respectively, rates of ESCELSA and ENERSUL have been set pursuant
to their concession contracts and the rules in connection therewith. ESCELSA has
already been subject to two tariff periodic reviews, and ENERSUL was subject to
only one, which took place in 2003 and against which results ENERSUL submitted
an administrative appeal to the Directors of ANEEL. See "ESCELSA -- Customers,
Analysis of Demand and Tariffs -- Tariffs" and "ENERSUL -- Customers, Analysis
of Demand and Tariffs -- Tariffs."
D. Organizational Structure
As of December 31, 2002, ESCELSA had (i) a 100% stake in Magistra
Participacoes S.A., which is the controlling shareholder of ENERSUL, (ii) a
97.4% stake in TV a Cabo Vitoria S.A. -- TVIX, a pay TV company, and (iii) a
100% stake in ESCELSA Participacoes S.A. -- ESCELSAPAR, which is an Internet and
other information technology service provider. All such companies are organized
under the laws of Brazil.
E. Property, Plant and Equipment
Our principal properties consist of hydroelectric generation plants,
transmission lines, substations and distribution networks, all of which are
located in the States of Espirito Santo and Mato Grosso do Sul. The net book
value of our total plant, property and equipment at December 31, 2002 was
approximately R$2.0 billion. At December 31, 2002, we had concessions for 11
hydroelectric generation plants, 10,196 km of transmission and subtransmission
lines, 4,297 MVA transformer capacity and 71,948 km of distribution lines. Apart
from the distribution and transmission network, no single property produces more
than 10% of our total revenues. We have rights of way for our transmission and
distribution lines. These rights of way are our assets and do not revert to the
landowner upon expiration of the concession.
We own 127 administrative properties, including the building housing our
headquarters, and 24 warehouses. There are encumbrances on certain of our
properties in connection with labor lawsuits; however, such encumbrances are not
material to our ability to conduct our business. Pursuant to Brazilian law,
certain other properties and facilities used by us to perform our duties under
the concession contracts cannot be transferred, assigned, pledged, sold or
encumbered by us or a creditor of ours without prior approval from ANEEL.
We have ongoing capital expenditures related to the expansion and
modernization of our transmission, distribution and existing generation
facilities. We expect to invest approximately R$114.8 million in the expansion
and modernization of our distribution lines in 2003, a portion of which may be
financed by BNDES and Banco do Brasil - FCO.
Environment and Resettlement
Our distribution, transmission and generation activities are subject to
comprehensive federal and state legislation relating to the preservation of the
environment. The expansion of our distribution, transmission and generation
activities, the procedure for constructing generation plants and the
installation of new distribution and transmission lines or substations, requires
compliance with a number of environmental safeguards in accordance with the
Brazilian constitution and related federal legislation. First, environmental
impact studies are prepared by outside experts who make recommendations as to
how to minimize the impact of such construction on the environment, except in
the case of the installation of transmission lines that will operate at a
voltage level under 230 kV, and certain other projects, which only require
authorization from the Brazilian environmental regulatory agency, known as
IBAMA. The environmental impact study or IBAMA authorization, as the case may
be, must then be submitted to federal and state government authorities for
analysis and approval. Once approved, the project goes through a three-stage
licensing process, which includes a license to (i) begin construction, (ii)
complete the project, and (iii) operate the hydroelectric plant, transmission
lines or substations.
In addition, we are mandated by law to devote 0.5% of the total cost of any
investment in new hydroelectric plants to environmental preservation, through
the creation of environmental preservation areas. We also implement programs to
encourage conservation of electricity in order to minimize the environmental
impact of our ongoing
30
operations. We are not aware of any costs or liabilities relating to
environmental matters which would have a material adverse effect on our
financial condition or results of operations.
Although the Brazilian government grants concessions to construct
hydroelectric plants, it does not grant title to the land underlying the
projects. Areas required for the operation of hydroelectric projects are
expropriated by the Brazilian government pursuant to empowering legislation. The
entities awarded concessions to construct such plants negotiate with the
communities regarding their relocation to other areas and with individual owners
occupying the land to be affected regarding the compensation to be paid to such
individual owners. If the concessionaire and landowners cannot agree on a price
for the land or right of way, a court-appointed expert will determine the fair
market value.
Insurance
We maintain insurance for losses resulting from fire at our various
substations and power plants, and for equipment losses during transportation. We
do not have insurance coverage for business interruption risk because we do not
believe that the high premiums are justified by the risk of major interruption,
considering the energy available in the interconnected power systems in Brazil.
Our management believes that we maintain insurance that is customary in Brazil
for the type of business in which we are engaged.
ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS
Overview
We had net operating revenues of R$1,299.1 million, R$1,385.5 million and
R$1,058.6 million in 2002, 2001 and 2000, respectively and a net loss of R$538.9
million, a net loss of R$60.1 million and net income of R$52.6 million in 2002,
2001 and 2000, respectively.
Discussion of Critical Accounting Policies
In connection with the preparation of the financial statements included
elsewhere in this annual report, we have relied on estimates and assumptions
derived from historical experience and various other factors that we deemed
reasonable and relevant. Although we review these estimates and assumptions in
the ordinary course of business, the portrayal of our financial condition and
results of operations often requires our management to make judgments regarding
the effects of matters that are inherently uncertain on the carrying value of
our assets and liabilities. Actual results may differ from those estimated under
different variables, assumptions or conditions. Note 3 to our financial
statements includes a summary of the significant accounting policies and methods
used in the preparation of our financial statements. In order to provide an
understanding about how management forms its judgments about future events,
including the variables and assumptions underlying the estimates, and the
sensitivity of those judgments to different variables and conditions, we have
included below a brief discussion of the more significant accounting policies
and methods used by us.
General
The following discussion should be read in conjunction with our financial
statements included elsewhere in this annual report. Our financial statements
are prepared in accordance with Brazilian GAAP, which differs in certain
significant respects from U.S. GAAP. Note 29 to our financial statements
describes the principal differences between Brazilian GAAP and U.S. GAAP as they
relate to us, and provides a reconciliation to U.S. GAAP of net income and
shareholders' equity. See "Item 3. Key Information -- Selected Financial Data."
Revenue Recognition
We recognize our revenues on an accrual basis, i.e., when persuasive
evidence of an arrangement exists, delivery of goods has occurred or services
have been rendered, our price to the buyer has been fixed or is determinable,
and collectibility is reasonably assured, regardless of when the cash is
received.
Billing for residential, industrial and commercial customers is performed
monthly. Unbilled revenues from the billing date to month-end are estimated and
recognized as revenue during the month in which the service was provided.
Revenues from electricity sales to final consumers are recognized when earned.
Billings for these sales are made on a monthly basis throughout the month.
Unbilled revenues from the billing cycle up to the end of each
31
month are estimated based on the prior month's billing and are accrued at the
end of the month. Differences between estimated and actual unbilled revenues,
which have not been significant, are recognized in the following month. Value
added tax, or VAT, which is a state tax due on sales to final consumers, is
billed to consumers and recorded as part of gross revenue. The VAT payable to
the state is recorded as a deduction from gross revenue in a separate line in
the statement of income to disclose our net operating revenues.
Property, Plant and Equipment
Property, plant and equipment are stated at their acquisition or
construction cost, monetarily restated under the constant currency method
through December 31, 2000. Beginning on January 1, 1998, we adopted the
depreciation rates established by ANEEL in Resolutions No. 2/97 and 44/99, using
an average rate of 4.5% and 4.6% for ESCELSA and ENERSUL, respectively.
Depreciation is computed on the straight-line method at the following annual
rates: (i) generation: general equipment 10.0%, water intake equipment 3.7%,
water intake structure 4.0%, reservoirs, dams and piping 2.0% and turbine 2.5%;
(ii) transmission: system controller 2.5%, general equipment 10.0%, system
structure 2.5% and switches 4.3%; (iii) distribution: capacitors 6.7%,
distribution key 6.7%, system controller 5.0%, system structure 5.0%, tension
regulator 4.8% and transformer 4.0%; (iv) commercialization 4.0%; and (v)
central management: machines and equipment 10.0%, buildings and improvements
4.0% and vehicles 20.0%. Interest charges, monetary variations (calculated in
reais) and exchange differences (calculated in dollars) accrued on loans and
financing relating to construction work in progress are capitalized. Interest on
the shareholders' equity portion of the financing of electric energy-related
construction work in progress is also capitalized at the Taxa de Juros de Longo
Prazo, the Brazilian long-term interest rate, or TJLP. The corresponding amount
is credited directly to a capital reserve. During 2000, we did not capitalize
interest on shareholders' equity. When assets are placed in service, such
charges are depreciated at the rates applicable to each related class of assets.
Deferred Taxes
We recognize deferred tax assets and liabilities based on the differences
between the financial statement carrying amounts and the tax basis of assets and
liabilities. We regularly review the deferred tax assets for recoverability and
establish a valuation allowance, as required, based on historical taxable
income, projected future taxable income, and the expected timing of the
reversals of existing temporary differences. Although the realization of net
deferred tax assets is not assured, our management believes that, except where a
valuation allowance has been provided, such realization is more likely than not
to occur. The amount of deferred tax asset considered realizable could, however,
be reduced if estimates of future taxable income during the tax loss
carry-forwards period are reduced.
Accrual for Contingencies
We are currently involved in certain legal proceedings. As discussed in
Note 20 to our financial statements, we have accrued our estimate of the
probable costs for the resolution of these claims. This estimate has been
developed in consultation with outside legal counsel handling our defense in
these matters and is based upon an analysis of potential results, assuming a
combination of litigation and settlement strategies. We do not believe these
proceedings will have a material adverse effect on our financial position. It is
possible, however, that future results of operations could be materially
affected by changes in our assumptions, and the effectiveness of our strategies
with respect to these proceedings.
Allowance for Doubtful Accounts
We record an allowance for doubtful accounts in accordance with General
Instruction no. 6.3.2 of the Accounting Standards for Public Electric Utilities,
reflecting a conservative position in comparison with ESCELSA's historical
average losses.
The allowance for doubtful accounts is estimated on the basis of 100% of
reserve on amounts past due over (i) 90 days for residential customers; (ii) 180
days for commercial customers; and (iii) 360 days for other customers. We
continuously monitor collections and payments from customers and review and
refine the estimation process.
32
Regulatory Assets
Low levels of investment and below average rainfall in 2000 and early 2001,
as well as growth in demand for energy, resulted in abnormally low water levels
of critical hydroelectric capacity in Brazil's southeast, central west and
northeast regions. In May 2001, the Brazilian federal government announced
several measures in response to these conditions. These measures included:
o the creation of the Camara de Gestao da Crise de Energia Eletrica
(Energy Crisis Committee, or CGE), which required certain
electricity distributors, including us, to suspend the
distribution of electricity to new customers (except residential
and rural customers) and for certain non-essential purposes such
as nighttime sporting events and advertising use, and to reduce
distribution for the illumination of public areas by 35%;
o the reduction of the federal government's electricity consumption
by 35%, beginning July 1, 2001;
o power rationing measures imposed on industrial, commercial and
residential customers in the most industrialized and heavily
populated areas of Brazil, beginning on June 1, 2001. These
measures required most residential consumers to reduce their
electricity consumption by one-fifth of the average consumption
in May, June and July 2000. Industrial and commercial consumers
also had to reduce their consumption by 15% to 25% of the average
consumption during the same period; and
o the payment of bonuses to residential consumers whose energy
consumption was lower than the requisite target and power cuts
and surcharges imposed on consumers whose energy consumption
exceeded the requisite target.
The power rationing measures ceased on March 1, 2002 in the concession areas of
ENERSUL and ESCELSA.
On October 17, 2001, the Brazilian federal government established that
electric utility companies, including us, would be reimbursed for expenses
associated with the payment of bonuses to consumers and other costs related to
the Rationing Program that exceeded the surcharges. A law enacted in April 2002
provided that electric power distribution companies in Brazil, such as us, would
be compensated for revenue losses caused by the reduction in amounts of energy
sold due to the Rationing Program. Compensation is to be made by means of an
increase in the energy rate applicable to future power sales (2.9% for
residential, rural and public lighting, except for low income customers, and
7.9% for all other customer segments), up to the maximum compensation term to be
set by ANEEL and provided that the nationwide weighted average of such term for
all distribution companies does not exceed 72 months. However, in order to have
these rights assured, the distribution concessionaire is required to adhere to
the so called Electric Energy Sector Agreement, which contains a number of
actions to be taken by each concessionaire, including but not limited to waivers
of certain rights that they are entitled to pursuant to applicable law
including, inter alia, requests, either in the administrative or judicial
spheres, future or ongoing, for (i) compensation in relation to Parcel A costs
amounts accrued from the date of execution of the concession contract to October
26, 2001; (ii) extraordinary tariff reviews from the execution date of the
concession contract to December 31, 2001; and (iii) the recovery of revenues of
any nature associated with the Rationing Program; as well as execution of
agreements to settle disputes with electricity generators regarding energy
supply during the Rationing Program and amendments to the initial contracts. We
have adhered to the Electric Energy Sector Agreement.
The law further provides for the Brazilian Economic and Social Development
Bank, or BNDES, to lend the distribution companies an amount equivalent to up to
90% of their lost revenues so that they will be able to maintain their account
balances as if no Rationing Program had taken place. BNDES extended a credit
line of R$267 million to ESCELSA to finance 90% of the recovery of losses due to
the Rationing Program and Parcel A costs. The loan provides for repayment in 70
monthly payments in the case of ESCELSA, and 80 monthly payments in the case of
ENERSUL, and accrues interest of 1% per annum over the SELIC rate. See note 17
to our financial statements included elsewhere in this annual report.
The law enacted in April 2002 also provided for compensation for increases
in Parcel A costs from January 1, 2001 to October 26, 2001, the date on which
the CVA tracking account system was set up. Parcel A costs are limited by the
concession contracts to the cost of purchased power and certain other costs and
sectorial charges. Parcel A costs incurred previous to January 1, 2001 are not
recoverable. As a result, we have not recognized any
33
regulatory asset for Parcel A costs incurred prior to 2001. See "--Regulation of
the Brazilian Electricity Sector -- Tariffs and Sectorial Charges" and note 6 to
our financial statements included elsewhere in this annual report.
As a result of the actions taken by the federal government and ANEEL in
2001, we are subject to the provisions of Statement of Financial Accounting
Standards No. 71, "Accounting for the Effects of Certain Types of Regulation"
because the rate-setting structure in Brazil is now designed to provide for the
recovery of our allowable costs incurred as a result of the Rationing Program.
Accordingly, we capitalize incurred costs as deferred regulatory assets when
there is a probable expectation that future revenue equal to the costs incurred
will be billed and collected as a direct result of the inclusion of the costs in
an increased rate set by the regulator. The deferred regulatory asset is
eliminated when we collect the related costs through billings to customers.
ANEEL performs a rate adjustment on an annual basis. If ANEEL excludes all or
part of a cost from recovery, that portion of the deferred regulatory asset is
impaired and is accordingly reduced to the extent of the excluded cost. ESCELSA
and ENERSUL recorded deferred regulatory assets of R$431.1 million at December
31, 2002 that we expect to pass through to our customers in accordance with and
subject to regulatory provisions. The regulatory assets include R$209.6 million
and R$123.8 million at December 31, 2002, for each of ESCELSA and ENERSUL,
respectively, for recovery of lost revenues due to rationing and Parcel A costs
incurred during the Rationing Program. In addition, at December 31, 2002, we
recorded deferred regulatory assets for the cost of energy traded on the spot
market, which is energy not traded pursuant to contracts, or "free energy",
during the Rationing Program in the amount of R$97.7 million.
Recently Issued U.S. GAAP Pronouncements
SFAS No. 141 - Business Combinations
In June 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 141 (SFAS 141), "Business
Combinations." SFAS 141 addresses financial accounting and reporting for
business combinations and supersedes APB Opinion No. 16 (Opinion 16), "Business
Combinations" and FASB Statement No. 38, "Accounting for Preacquisition
Contingencies of Purchased Enterprises." All business combinations in the scope
of SFAS No. 141 are to be accounted for using the purchase method. In addition,
SFAS No. 141 requires that intangible assets be recognized as assets apart from
goodwill if they meet two criteria: the contractual-legal criteria or the
separability criteria. To assist in identifying acquired intangible assets, SFAS
No. 141 also provides a list of intangible assets that meet either one of those
criteria. In addition to the disclosure requirements prescribed in Opinion No.
16, SFAS No. 141 requires disclosure of the primary reasons for a business
combination and the allocation of the purchase price paid to the assets acquired
and liabilities assumed by major balance sheet caption. SFAS No. 141 also
requires that when the amounts of goodwill and intangible assets acquired are
significant to the purchase price paid, disclosure of other information about
those assets is required, such as the amount of goodwill by reportable segment
and the amount of the purchase price assigned to each major intangible asset
class. The provisions of SFAS No. 141 apply to all business combinations
initiated after June 30, 2001. SFAS No. 141 also applies to all business
combinations accounted for using the purchase method for which the date of
acquisition is July 1, 2001, or later. The adoption of SFAS No. 141 on January
1, 2002, did not result in any impact to our financial statements.
SFAS No. 142 - Goodwill and Other Intangible Assets
In June 2001, FASB issue SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 142 addresses financial accounting and reporting for acquired
goodwill and other intangible assets and supersedes APB Opinion 17, Intangible
Assets. SFAS No. 142 also amends SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for long-lived Assets to Be Disposed Of," to exclude from
its scope goodwill and intangible assets that are not amortized. SFAS No. 142
addresses how intangible assets that are acquired individually or with a group
of other assets (but not those acquired in a business combination) should be
accounted for in financial statements upon their acquisition. This Statement
also addresses how goodwill and other intangible assets should be accounted for
after they have been initially recognized in the financial statements. The
provision of SFAS No. 142 is required to be applied starting with fiscal years
beginning after December 15, 2001. Early application is permitted for entities
with fiscal years beginning after March 15, 2001, provided that the first
interim financial statements have not been issued. An exception to SFAS No. 142
application date is for goodwill and intangible assets acquired after June 30,
2001, which will be immediately subject of the non-amortization and amortization
provisions of this
34
statement. As a result of the adoption of SFAS No. 142 on January 1, 2002, the
Company recorded an impairment charge in the amount of R$409,593.
SFAS No. 143 - Accounting for Asset Retirement Obligations
In June 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 143 (SFAS No. 143), "Accounting
for Asset Retirement Obligations." SFAS No. 143 basically requires that the fair
value of a liability for an asset retirement obligation be recognized in the
period in which it is incurred if a reasonable estimate of fair value can be
made. The associated asset retirement costs are capitalized as part of the
carrying amount of the long-lived asset. Under SFAS No. 143 the liability for an
asset retirement obligation is discounted and accretion expense is recognized
using the credit-adjusted risk-free interest rate in effect when the liability
was initially recognized. In addition, disclosure requirements contained in SFAS
No. 143 will provide more information about asset retirement obligations. SFAS
No. 143 is effective for financial statements issued for fiscal years beginning
after June 15, 2002 with earlier application encouraged. Based on an initial
assessment of the provisions and requirements of SFAS No. 143, management
believes that the implementation of this statement will not result in any impact
to our financial statements.
SFAS No. 144 - Accounting for the Impairment or Disposal of Long-Lived
Assets
In August 2001, the FASB issued Statement of Financial Accounting Standards
No. 144 (SFAS No. 144), "Accounting for the Impairment or Disposal of Long-Lived
Assets" supersedes Statement of Financial Accounting Standards No. 121 (SFAS No.
121), "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of" but retains SFAS No. 121 fundamental provisions for
(a) recognition/measurement of impairment of long-lived assets to be held and
used and (b) measurement of long-lived assets to be disposed of by sale. SFAS
No. 144 also supersedes the accounting and reporting provisions of APB Opinion
No. 30 (APB No. 30)," Reporting the Results of Operations" for segments of a
business to be disposed of but retains APB No. 30's requirement to report
discontinued operations separately from continuing operations and extends that
reporting to a component of an entity that either has been disposed of or is
classified as "held for sale." SFAS No. 144 is effective for fiscal years
beginning after December 15, 2001 and interim periods within those years, with
early application encouraged. The adoption of SFAS No. 144 on January 1, 2002,
did not result in any impact to our financial statements.
SFAS No. 145 - Rescission of SFAS Nos. 4, 44 and 64, Amendment of SFAS 13,
and Technical Corrections as of April 2002 of SFAS 145
In April 2002, the FASB issued Statements of Accounting Standards No. 145,
"Rescission of SFAS Nos. 4, 44 and 64, Amendment of SFAS No. 13, and Technical
Corrections as of "April 2002" ("SFAS 145"). SFAS No. 145 rescinds SFAS No. 4,
"Reporting Gains and Losses from Extinguishment of Debt," SFAS No. 44,
"Accounting for Intangible Assets of Motor Carriers," and SFAS No. 64,
"Extinguishments of Debt made to satisfy Sinking-Fund requirements." As a
result, gains and losses from extinguishment of debt will no longer be
classified as extraordinary items unless they meet the criteria of unusual or
infrequent as described in Accounting Principles Boards Opinion No. 30,
"Reporting the Results of Operations-Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions." In addition, SFAS No. 145 amends SFAS No. 13,
"Accounting for Leases," to eliminate an inconsistency between the required
accounting for sale-leaseback transactions and the required accounting for
certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. SFAS No. 145 also amends other existing
authoritative pronouncements to make various technical corrections, clarify
meanings or describe their applicability under changed conditions. SFAS No. 145
is effective for fiscal years beginning after 15 May 2002. We are currently
evaluating the impact that the adoption of SFAS No. 145 will have on our results
of operations and financial position. However, we do not believe that the
adoption of SFAS No. 145 will have a material impact on our financial
statements.
SFAS No. 146 - Accounting for Costs Associated with Exit or Disposal
Activities
In June 2002, the FASB issued Statement of Accounting Standards No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities." This
Statement addresses financial accounting and reporting for costs
35
associated with exit or disposal activities and nullifies Emerging Issues Task
Force Issue No. 94-3, "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred
in a Restructuring)" ("EITF 94-3"). SFAS No. 146 eliminates the definition and
requirements for recognition of exit costs in EITF No. 94-3. SFAS No. 146
requires that a liability for a cost associated with an exit or disposal
activity be recognized when the liability is incurred. Under EITF No. 94-3, a
liability for an exit cost as defined in EITF No. 94-3 was recognized at the
date of an entity's commitment to an exit plan. SFAS No. 146 also concluded that
an entity's commitment to a plan, by itself, does not create a present
obligation to others that meets the definition of a liability. SFAS No. 146 also
establishes that fair value is the objective for initial measurement of the
liability. The requirements of SFAS No. 146 apply prospectively to activities
that are initiated after December 31, 2002, and as such, we cannot reasonably
estimate the impact of adopting these new rules until and unless it undertakes
relevant activities in future periods.
SFAS No. 149 - Amendment of Statement 133 on Derivative Instruments and
Hedging Activities
In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities, which amends and clarifies
accounting for derivative instruments, including certain derivative instruments
embedded in other contracts, and hedging activities under SFAS No 133,
accounting for Derivative Instruments and Hedging Activities. SFAS No. 149
clarifies the circumstances under which a contract with an initial net
investment meets the characteristic of a derivative as discussed in SFAS No.
133. In addition, SFAS No.149 clarifies when a derivative contains a financing
component that warrants special reporting in the statement of cash flows. SFAS
No. 149 amends certain other existing pronouncements, resulting in more
consistent reporting of contracts that are derivatives in their entirety or that
contain embedded derivatives that warrant separate accounting. SFAS No. 149 is
effective for contracts entered into or modified after June 30, 2003 and for
relationships designated after June 30, 2003 and is to be applied prospectively.
We do not believe that the adoption of SFAS No. 149 will have a material impact
on our financial statements.
SFAS No. 150 - Accounting for Certain Financial Instruments with
Characteristics of Both Liabilities and Equity
SFAS 150 does not apply to features embedded in financial instruments that
are not derivatives in their entirety. In addition to its requirements for the
classification and measurement of financial instruments within its scope, SFAS
150 also requires disclosures about alternative ways of settling those
instruments and the capital structure of entities, all of whose shares are
mandatorily redeemable. SFAS 150 is effective for financial instruments entered
into or modified after May 31, 2003, and otherwise is effective at the beginning
of the first interim period beginning after June 15, 2003. It is to be
implemented by reporting the cumulative effect of a change in an accounting
principle for financial instruments created before the issuance date of the
Statement and still existing at the beginning of the interim period of adoption.
Restatement is not permitted. We are currently evaluating the impact of SFAS 150
on our consolidated financial statements.
FIN No. 45 - Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" ("FIN No. 45"). This interpretation
requires certain disclosures to be made by a guarantor in its interim and annual
financial statements about its obligations under certain guarantees that it has
issued. It also requires a guarantor to recognize, at the inception of a
guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee. The disclosure requirements of FIN No. 45 are effective
for interim and annual periods ending after December 15, 2002. The initial
recognition and initial measurement requirements of FIN No. 45 are effective
prospectively for guarantees issued or modified after December 31, 2002. Based
on an initial assessment of the provisions and requirements of FIN No. 45, our
management believes that the implementation of this statement will not result in
any impact to our financial statements.
36
Brazilian Economic Environment
The Brazilian economy has been characterized by frequent and occasionally
drastic intervention by the Brazilian government and by volatile economic
cycles. The Brazilian government has often changed monetary, taxation, credit,
tariff and other policies to influence the course of Brazil's economy. For
example, the Brazilian government has the authority, when a serious imbalance in
Brazil's balance of payment occurs, to impose restrictions on the remittance to
foreign investors of the proceeds of their investments in Brazil, and on the
conversion of Brazilian currency into foreign currencies. Changes in monetary,
taxation, credit, tariff and other policies could adversely affect our business,
as could inflation, currency and interest rate fluctuations, social instability
and other political, economic or diplomatic developments, as well as the
Brazilian government's response to such developments.
Rapid changes in Brazilian political and economic conditions that have
already occurred and that might continue will require continued emphasis on
assessing the risks associated with our activities and adjusting our business
and operating strategy. Future developments in Brazilian government policies,
including changes in the current policy and incentives adopted for financing the
export of Brazilian goods, or in the Brazilian economy, over which we have no
control, may materially adversely affect our business. See "Item 3D. Risk
Factors-- Risks Relating to Brazil."
Brazilian economic conditions may be affected negatively by events
elsewhere, especially in emerging markets. In 2002, the Brazilian economy was
negatively affected by various factors, including uncertainties relating to
Brazil's own political and economic future, the continued economic and political
uncertainties in Argentina, the political uncertainties in Venezuela and the
global economic slowdown. These factors contributed to an increased level of
volatility in the Brazilian capital markets, a lack of confidence from market
participants, a reduction in the availability of credit and constraints on the
ability of Brazilian companies to raise capital. Our ability to raise capital
when needed may be affected due to such factors. See "Item 3D. Risk Factors --
Risks Relating to Brazil."
The Brazilian government has proposed a broad tax reform in Brazil, mainly
designed to reduce the public deficit through an increase in tax collection and
to consolidate the regulations of the state VAT-like tax (Imposto sobre
Circulacao de Mercadorias e Servicos, or ICMS), in this case aiming at uniform
tax treatment in all 27 Brazilian states. The final tax reform bill has been
submitted to the Brazilian Congress. Besides the consolidation of the ICMS tax
reform rules (which will prevent any state from enacting local tax exemptions
and similar incentives), the reform proposal establishes, among other
provisions, that the Contribuicao Provisoria sobre Movimentacao Financeira-CPMF,
a provisional levy on checking account transactions, will be replaced by a
permanent federal tax on financial transfers. We may have a higher tax burden if
the tax reform bill is approved and implemented. See "Item 3D. Risk Factors."
Our ability to meet our dollar-denominated obligations is affected by
changes in the relative values of the real and the U.S. dollar. Our revenues are
real-denominated and some of our costs, such as part of our interest expenses on
our debt and payment for electricity purchased from ITAIPU, are
dollar-denominated. We expect that increases in the cost of electricity we
purchase from ITAIPU resulting from devaluations of the real can be recovered
through any future increases in our tariffs. However, we are not entitled to
raise our tariffs to pass through to our customers increases in interest
expenses payable on our dollar denominated debt resulting from devaluations of
the real. If we are not able to obtain U.S. dollars to meet our U.S.
dollar-denominated obligations, we would be required to purchase U.S. dollars on
foreign exchange markets with reais. These purchases could be expensive in real
terms and could adversely affect our financial condition and results of
operations.
Gross Domestic Product
The Brazilian economy grew rapidly immediately following the introduction
of the government-sponsored anti-inflationary and economic stabilization
program, the Real Plan, in July 1994, particularly in the consumer sector. The
Real Plan succeeded in lowering inflation and stimulating growth until 1997. GDP
grew in constant terms by 5.9% in 1994, 4.2% in 1995, 2.8% in 1996, 3.0% in 1997
and 0.2% in 1998. The effect was a marked increase in purchasing power.
Beginning in 1996, the Brazilian economy grew at a slower rate and by late 1998
the Brazilian economy entered a downturn, which was exacerbated by a significant
currency devaluation beginning in mid-January 1999.
37
The recovery of the economy in 1999, in the wake of the 48.0% devaluation
of the real against the U.S. dollar and the strong fiscal adjustment produced by
the public sector, led to strengthened consumer confidence. In 2000, the economy
grew at a steady pace of 4.5%. GDP increased by only 1.4% in 2001, principally
as a result of the electric energy shortage in Brazil, decreased consumer
confidence following the Argentina crisis and the September 2001 terrorist
attacks. In 2002, GDP increased by only 1.5%, principally as a result of the
uncertainties relating to Brazil's own political and economic future, the
continued economic and political uncertainties in Argentina, the political
uncertainties in Venezuela and the global economic slowdown.
Inflation
The reduction and stabilization of inflation following the implementation
of the Real Plan resulted in increased spending on consumer goods, higher real
income growth and increased consumer confidence. Since 1994, inflation has
remained under control, although it increased markedly in the first half of 1999
due to the devaluation of the real in January 1999.
During 2002, increased concerns over a weakening Argentine economy,
inflationary pressures, a weakening real, and a perceived decrease in confidence
in emerging markets by foreign investors, led the Central Bank to first decrease
the base interest rate from 19.0% on January 23, 2002 to 18.75% on February 21,
2002 and again to 18.5% on March 21, 2002, and then to increase the base
interest rate to 21.0% on October 15, 2002, to 22.0% on October 24, 2002, and to
25.05% on December 18, 2002.
The Brazilian general price (IGP-M) and consumer price (IPC) inflation
indices and the devaluation of the real against the U.S. dollar are presented
below:
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Inflation IGP-M (1)................... 25.3% 10.4% 9.9% 20.1% 1.8%
Inflation IPC (2)..................... 9.9% 7.1% 4.4% 8.6% (1.8%)
Nominal devaluation of the real
against the U.S. dollar........... 52.3% 18.7% 9.3% 48.0% 8.3%
__________
(1) Indice Geral de Precos - Mercado (general price index) compiled by the
Fundacao Getulio Vargas.
(2) Indice de Precos ao Consumidor (consumer price index) compiled by the
Fundacao Instituto de Pesquisas Economicas.
As of December 31, 2002 and 2001, approximately 97% and 99%, respectively,
of our marketable securities, in the total amount of R$306.6 million and R$256.8
million, respectively, were invested in U.S. dollar-linked instruments. We
believe that over the long term, increases in our tariffs in reais generate cash
sufficient to counter currency devaluations affecting our U.S.
dollar-denominated loans, although we cannot assure you that this will continue
to happen.
Tariffs
Since their privatization in July 1995 and November 1997, respectively, the
tariffs charged by both ESCELSA and ENERSUL have been determined pursuant to Law
No. 8,987/95 and their respective concession contracts and are subject to review
and approval by ANEEL. See "Item 4B. Information on the Company -- Business
Overview -- ESCELSA -- Customers, Analysis of Demand and Tariffs -- Tariffs" and
"Item 4B. Information on the Company -- Business Overview -- Regulation of the
Brazilian Electricity Sector -- Tariffs."
Cost of Electricity Purchased; Electricity Sales
We purchase energy on the basis of a "capacity charge" and/or an "energy
charge." The capacity charge, based on contracted firm capacity and charged on a
kilowatt basis, is charged without regard to the amount of electricity actually
delivered. The energy charge, expressed in reais per megawatt-hour, is based on
the amount of electricity actually delivered. In the case of ITAIPU, we purchase
electricity on the basis of a capacity charge expressed in U.S. dollars, plus a
"wheeling" (or transportation) charge expressed in reais. We purchase
electricity generated by FURNAS and TRACTEBEL on the basis of both a capacity
charge and an energy charge (which includes transportation). See "Item 4B.
Information on the Company -- Business Overview -- ESCELSA --
38
Purchases of Electricity." We generally bill for the electricity we sell to
industrial customers on the basis of a capacity charge and an energy charge,
while other customers are billed only on the basis of an energy charge. Certain
of our large customers incur differing capacity and energy charges during peak
or non-peak hours and during dry or rainy seasons. For a discussion of our
procedures for billing of electricity, see "Item 4B. Information on the Company
- -- Business Overview -- ESCELSA -- Customers, Analysis of Demand and Tariffs."
The following table sets forth volume and average rate components of our
electricity purchases and sales for the periods indicated:
For the Year Ended December 31,
-----------------------------------
2002 2001 2000
-------- -------- -------
Electricity purchased from ITAIPU, FURNAS and
TRACTEBEL:
Purchases (thousands of reais)................. 709,026 675,189 500,139
Volume (GWh)................................... 9,195 8,730 9,595
Average Rate (R$/MWh).......................... 77.20 77.41 52.12
Electricity Sales:
Sales to final consumers
(thousands of reais)........................ 1,175,790 973,787 982,987
Volume (GWh)................................ 8,776 8,437 9,616
Average rate (R$/MWh)(1).................... 133.98 115.42 102.22
Sales to other concessionaires
(thousands of reais)....................... 24,723 22,398 17,718
Volume (GWh)................................ 344 347 345
Average rate (R$/MWh)....................... 71.87 64.73 51.35
Sales on the Spot Market(2)
(thousands of reais)....................... 15,635 27,550 13,953
Volume (GWh)................................ 676 131 368
Average rate (R$/MWh)....................... 23.13 211.87 37.92
___________
(1) Rates for sales to final customers have been computed by dividing
(i) the corresponding sales to final customers after deduction of
value-added taxes on sales (ICMS and COFINS) and regulatory assets by
(ii) MWh of electricity sold.
(2) Does not include regulatory assets revenue.
A. Operating Results
The following discussion should be read in conjunction with our financial
statements included elsewhere in this annual report. Our financial statements
are prepared in accordance with Brazilian GAAP, which differs in certain
significant respects from U.S. GAAP. Note 29 to our financial statements
included elsewhere in this annual report describes the principal differences
between Brazilian GAAP and U.S. GAAP as they relate to us, and provides a
reconciliation to U.S. GAAP of net income and shareholders' equity. See "Item 3.
Key Information -- Presentation of Financial Information."
39
The following table sets forth certain of our consolidated income statement
data for the periods indicated.
For the Year Ended December 31,
----------------------------------------------------
2002 2001 2000
---- ---- ----
(in thousands of reais, on a consolidated basis)
Operating revenues....................... 1,723,278 1,730,782 1,388,793
Value-added taxes on sales............... (424,140) (345,297) (330,229)
Net operating revenues................... 1,299,138 1,385,485 1,058,564
Operating expenses....................... (1,234,866) (1,185,564) (951,551)
Financial expenses, net.................. (670,419) (235,831) (23,499)
Non-operating income expenses, net....... (74,965) (24,384) (13,325)
Minority interest........................ 38,833 (10,794) (3,314)
Income tax and social contribution....... (103,275) (11,012) (14,228)
Net income (loss)........................ (538,913) (60,076) 52,647
Year Ended December 31, 2002 Compared with Year Ended December 31, 2001
Operating Revenues
Our consolidated operating revenues decreased 0.4% to R$1,723.3 million for
2002 from R$1,730.8 million for 2001. The decrease was attributable a reduction
in consumption, primarily by residential customers, due to lower consumption
tendencies developed during the Rationing Program.
Consolidated operating revenues from sales to other distributors decreased
51.7% to R$40.4 million for 2002 from R$83.5 million for 2001. The decrease was
due to changes to the range of spot market sales that ENERSUL was eligible to
make to other distributors in 2002.
Operating Expenses
Consolidated operating expenses increased 4.2% to R$1,234.9 million for
2002 from R$1,185.6 million for 2001, mainly due to increases in the cost of
electricity purchased for resale, depreciation and amortization expenses and
regulatory charges.
Consolidated expenses for electricity purchased for resale increased 5.0%
to R$709.0 million for 2002 from R$675.2 million for 2001. The increase was a
result of the impact of the tariff increase on energy purchased from FURNAS and
TRACTEBEL and the impact of the devaluation of the real on U.S.-dollar
denominated energy purchase prices from ITAIPU.
Consolidated depreciation and amortization expenses increased 16.2% to
R$173.2 million for 2002 from R$149.1 million for 2001. This increase was
attributable to the R$127.8 million increase in property, plant and equipment in
service at December 31, 2002 compared to the R$101.1 million increase recorded
at December 31, 2001.
Consolidated personnel expenses increased 2.9% to R$111.3 million for 2002
from R$108.3 million for 2001, principally because a higher percentage of
personnel expenses were attributable to overhead operations, instead of being
attributable to project costs.
Consolidated regulatory charges increased 9.0% to R$106.2 million in 2002
from R$97.4 million in 2001 mainly due to the increase to R$74.1 million in 2002
as compared to R$66.7 million in 2001 in contributions we were required to make
to the fuel compensation account, or CCC, in light of increased national energy
consumption stemming from the termination of the Rationing Program.
Consolidated expenses for materials and supplies decreased 21.9% to R$16.4
million for 2002 from R$21.0 million for 2001. The decrease was mainly due to
ENERSUL's lower thermoelectric generation, which runs by fuel oil.
40
Consolidated expenses related to third-party services increased 12.7% to
R$60.4 million for 2002 from R$53.6 million for 2001. This increase was caused
mainly by increased service for network maintenance as well as increased
client-related expenses, such as meter-reading, disconnection, re-connection and
bill collection from customers as the number of our customers increased and the
range of services they demanded broadened.
Consolidated other expenses decreased 27.9% to R$58.4 million for 2002 from
R$81.0 million for 2001. This decrease was mainly due to the fact that in 2002
there were fewer civil and fiscal operating contingencies for impending lawsuits
than in 2001.
Net Financial Expenses
Consolidated net financial expense increased 184.3% to R$670.4 million in
2002 from R$235.8 million in 2001. This increase was due principally to the
impact of the exchange rate on the foreign currency debt obligations, since the
exchange rate on December 31, 2002 was R$ 3.5333 to U.S.$1.00 compared to R$
2.3204 to U.S.$1.00 on December 31, 2001.
Net Non-operating Expenses
Consolidated net non-operating expense increased 207.4% to R$75.0 million
in 2002 from R$24.4 million for 2001. This increase was due to the provision for
losses related to the eventual divestment of a turbine at the Campo Grande
thermoelectric plant, the construction of which was cancelled.
Income Tax and Social Contribution
Our provision for income tax and social contribution was a credit of
R$103.4 million in 2002, compared to a credit of R$11.0 million in 2001. This
increase was mainly due to an increase in our losses in 2002.
Net Income (Loss)
Net income under Brazilian GAAP increased to a loss of R$538.9 million in
2002 from a loss of R$60.1 million in 2001 as a result of the reasons described
above. Net loss reconciled to U.S. GAAP increased to a loss of R$868.4 million
in 2002 from a loss of R$122.2 million in 2001. For a discussion of the
principal differences between U.S. GAAP and Brazilian GAAP, and how the
differences affect us, see note 28 to our financial statements included
elsewhere in this annual report.
Year Ended December 31, 2001 Compared with Year Ended December 31, 2000
Operating Revenues
Our consolidated operating revenues increased 24.6% to R$1,730.8 million
for 2001 from R$1,388.8 million for 2000. The increase was attributable to
revenues from the extraordinary tariff increase totaling R$298.5 million. The
extraordinary tariff increase consisted of recording the effects of (i)
compensation for revenue losses caused by the reduction of sales of energy due
to the Rationing Program, (ii) compensation for non-controllable cost items
variation relating to Parcel A costs from January 1, 2001 to October 25, 2001
and (iii) MAE transactions (energy transactions on the spot market). See note 5
to our financial statements.
Consolidated operating revenues from sales to other distributors increased
95.5% to R$83.5 million for 2001 from R$42.7 million for 2000. The increase was
attributable to the accounting as short-term supply of the surplus power made
available to the Wholesale Power Market.
Operating Expenses
Consolidated operating expenses increased 24.6% to R$ 1,185.6 million for
2001 from R$951.6 million for 2000, mainly due to increased electricity purchase
expenses and non-recurring provisions for operational contingencies arising from
civil and fiscal lawsuits (see note 20 to our financial statements).
41
Consolidated expenses for electricity purchased for resale increased 35.0%
to R$675.2 million for 2001 from R$500.1 million for 2000. The increase was
attributable to electric energy generation companies for free energy (see note 5
to our financial statements).
Consolidated depreciation and amortization expenses increased 5.8% to
R$149.1 million for 2001 from R$140.9 million for 2000. This increase was
attributable to a R$101.1 million increase in property, plant and equipment in
service at December 31, 2001 compared to December 31, 2000.
Consolidated personnel expenses decreased 5.8% to R$108.3 million for 2001
from R$115.0 million for 2000, principally because salary increases in 2001 did
not keep pace with inflation during that year and also due to a reduction in the
number of employees to 2,466 employees at December 31, 2001 from 2,551 employees
at December 31, 2000.
Consolidated regulatory charges decreased 2.5% to R$97.4 million in 2001
from R$99.9 million in 2000 mainly due to a 4.8% decrease in fuel compensation
account-CCC in 2001 equivalent to R$66.7 million compared to R$70.1 million in
2000. The decrease was due to the fact R$12.2 million was recorded as a
regulatory asset, under non-controllable Parcel "A" costs pursuant to
Provisional Measure No. 14/01, which was converted into Law No. 10,438/02.
Consolidated expenses for materials and supplies increased 20.7% to R$21.0
million for 2001 from R$17.4 million for 2000. The increase was attributable to
fuel for electric energy production used by ENERSUL.
Consolidated expenses related to third-party services decreased 3.9% to
R$53.6 million for 2001 from R$55.8 million for 2000. This reduction was caused
mainly by lower expenses associated with maintenance of the distribution
networks.
Consolidated other expenses increased 299.0% to R$81.0 million for 2001
from R$20.3 million for 2000. This increase was mainly due to a change of
criteria and the methodology for calculating the allowance for doubtful accounts
(R$17.4 million higher than the previous year) and the provision for operational
contingencies arising from civil and fiscal lawsuits, in the total amount of
R$29.9 million. The change to both criteria and methodology for recording, is
based on the new accounting Manual for the Brazilian Electricity Utilities
issued by ANEEL and applied beginning January 1, 2002. The allowance for
doubtful accounts was due to the inclusion of credits from residential customers
past due more than 90 days, commercial customers past due more than 180 days and
other customers past due more than 360 days in the calculation. Up to and
including fiscal year 2000, the calculation considered credits after 120 days
past due, and did not consider credits from public authorities, public services
and public lighting.
Net Financial Expenses
Consolidated net financial expense increased 903.6% to R$235.8 million in
2001 from R$23.5 million in 2000. This increase was due principally to the
devaluation of the real relative to the U.S. dollar in 2001, which increased our
financial expenses.
Net Non-operating Expenses
Consolidated net non-operating expense, principally losses on the write-off
or sale of obsolete assets, increased 83% to R$24.4 million for 2001 from R$13.3
million for 2000.
Income Tax and Social Contribution
Our provision for income tax and social contribution was a credit of R$11.0
million in 2001, compared to an expense of R$14.2 million in 2000. This change
is due to the fact that in 2001 we had fiscal losses, as a result of the
devaluation of the real, and paid no taxes, while in 2000 we had profits and
consequently were required to pay taxes.
42
Net Income (Loss)
Net income under Brazilian GAAP decreased to a loss of R$60.1 million in
2001 from an income of R$52.6 million in 2000 as a result of the reasons
described above. Net loss reconciled to U.S. GAAP increased to a loss of R$122.2
million in 2001 from an income of R$12.2 million in 2000. For a discussion of
the principal differences between U.S. GAAP and Brazilian GAAP as they affect
us, see note 29 to our financial statements.
B. Liquidity and Capital Resources
Our business is capital intensive and our principal capital requirements in
recent years have been to finance the purchase of ENERSUL and to expand, replace
and maintain ENERSUL's electricity distribution and transmission system. Until
recently, ESCELSA has financed its capital investment program primarily with
cash provided by operations. In 2000, we funded our capital investment program
through a R$29.3 million loan provided by BNDES, a R$29.3 million loan provided
by the European Investment Bank-EIB and a R$10.8 million loan provided by
ELETROBRAS. In 2001, we funded our capital investment program through various
loans, including a loan by BNDES of R$37.0 million; a loan by ELETROBRAS of
R$15.1 million; a loan by Banco do Brasil -- FCO of R$20 million; and a loan
from Banco BBA of R$20.5 million. In 2002, we did not generate cash flow from
either operating or investment activities to finance capital expenditures. We
funded our capital investment program through a series of loans, including
R$38.4 million from BNDES, R$10 million from Banco do Brasil -- FCO and R$14.3
million from ELETROBRAS.
A significant portion of our current liabilities of R$733.8 million at the
end of 2002 represented (i) long-term loans and financing becoming due in 2003,
totaling R$337.1 million; (ii) accrued liabilities (including, among other
things, interest, fees, income tax and social contribution), totaling R$243.9
million; (iii) obligations owed to FURNAS, TRACTEBEL, ELETROSUL, MAE and ITAIPU
related to purchases of electricity, totaling R$139.9 million; and (iv)
regulatory charges payable, totaling R$12.9 million.
We had working capital of R$176.5 million at December 31, 2002, as compared
with working capital of R$108.6 million at December 31, 2001. The increase in
working capital was mainly due to an increase in accounts receivable and
marketable securities included in current assets.
At December 31, 2002, our total debt was R$2,560.9 million, of which
R$796.2 million, or 31.1%, was in real-denominated loans and R$1,764.6 million,
or 68.9%, was U.S. dollar-denominated debt. Our U.S. dollar-denominated debt
included R$1,522.7 million related to the notes and R$241.9 million related to
loans obtained from other banks. The real-denominated loans included (i) R$605
million borrowed from BNDES, of which R$298.2 million was used to finance our
capital expenditures program, R$228.4 million was used to finance 90% of the
recovery of losses from the, Rationing Program (collateralized by the amounts to
be collected under the extraordinary tariff recomposition), and R$78.4 million
was used to finance the acquisition of our participation in ENERSUL; (ii) R$67.6
million borrowed from ELETROBRAS and (iii) R$123.6 million borrowed to finance
our capital expenditures program and working capital.
The average cost of our U.S. dollar-denominated debt on December 31, 2002
was 10.2% per year, plus foreign exchange variation. The average cost of our
real-denominated debt was TJLP (the long-term interest rate) plus 4.0% per year
related to the BNDES financing, while R$113.1 million were indexed to the CDI,
INPC or IGP-M plus 7.0% per year.
Our debt matures as follows:
At December 31, 2002
----------------------------------------------------------------------
Maturity Local Currency Foreign Currency Total
- -------------------------------- ----------------------- --------------------- --------------
(in millions of reais)
2003........................... 216.0 121.1 337.1
2004........................... 157.5 31.4 188.9
2005........................... 123.5 18.7 142.2
2006........................... 103.4 15.3 118.7
2007........................... 94.1 1,537.5 1,631.6
43
2008........................... 41.5 8.5 50.0
2009........................... 16.3 3.0 19.3
2010........................... 15.3 2.3 17.6
2011........................... 11.8 2.3 14.1
2012........................... 8.4 1.7 10.1
After 2012..................... 8.5 23.0 3.5
-------- -------- --------
Total..................... 796.3 1,764.6 2,560.9
======= ======== ========
As of December 31, 2002, approximately 97% of our R$306.6 million of
marketable securities were invested in U.S. dollar-linked instruments. We
believe that over the long term, increases in our tariffs in reais generate
sufficient cash to counter currency devaluation affecting our U.S.
dollar-denominated loans, although we cannot assure you of this.
Over the next several years, we expect that our principal liquidity
requirements will consist of the interest payments on the notes and capital
expenditures, which we plan to finance primarily with cash provided by
operations. In addition, if we incur any additional indebtedness, we will need
to make interest payments, and may need to make principal payments, thereon
during the next several years.
We have ongoing capital expenditures related to the expansion and
modernization of our transmission, distribution and existing generation
facilities. We expect to invest approximately R$114.8 million in the expansion
and modernization of our distribution system during 2003, primarily with cash
from operations. A portion of this may be financed with additional indebtedness
from BNDES and Banco do Brasil - FCO. Consolidated capital expenditures in 2002,
2001 and 2000 were as follows:
Area 2002 2001 2000
---- ---- ---- ----
Distribution and transmission........... 99,023 122,754 130,684
Generation.............................. 53,056 36,695 18,542
Other................................... 35,011 21,616 31,693
----------- ----------- -----------
Total.............................. R$187,970 R$181,065 R$180,919
=========== =========== ===========
Off-Balance Sheet Arrangements
At December 31, 2002, we had no off-balance sheet transactions,
arrangements, or other relationships with unconsolidated entities or persons
that would adversely affect our liquidity, availability of capital resources,
financial position, or results of operations.
C. Research and Development, Patents and Licenses, Etc.
Research and development costs are not significant and are expensed as
incurred. Law No. 9,991 dated July 24, 2000, determines that distribution
companies must apply, annually, at least 0.75% of their net operating revenues
to research and development in the electric sector and 0.25% to energy
efficiency programs. In the latter case, such amounts can be deducted from the
amounts already spent by the distribution company pursuant to their relevant
concession contracts. Generation companies must apply, annually, at least 1% of
their net operating revenues to research and development in the electric energy
sector, with an exception made for generation companies that produce energy
through alternative sources of energy.
D. Trends
ESCELSA's supply contracts with certain of its major customers expire in
2006, at which time they will be able to seek alternative electricity
distribution services from our competitors. If these customers enter into supply
contracts with our competitors at that time, our market share and profit margins
may be negatively affected.
44
ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES
A. Directors and Officers
We are managed by our board of directors, comprised of at least nine
members, and a board of executive officers comprised of the chief executive
officer and a maximum of five other officers.
Board of Directors
Our board of directors generally meets twice every two months. It is
responsible for, among other things, establishing our general business policies
and electing the executive officers and supervising their management.
Under Brazilian corporate law, each member of the board of directors must
hold at least one of our common shares, may reside outside of Brazil (provided
that the director's empowerment is conditioned upon the appointment of an
attorney-in-fact residing in Brazil and that the relevant power of attorney
remains valid for three years after the officer's term of office has expired),
and is elected by the holders of common shares at the Assembleia Geral, or the
general shareholders' meeting.
The following matters, among others, require the approval of our board of
directors:
o the authorization for the acquisition, sale, any other transfer
or encumbrance of any fixed assets, as well as for the creation
of any liens on our real property;
o the authorization for the acquisition, sale or any transfer of
capital stock of another company;
o the authorization for the issue of any guarantee to an unrelated
third party;
o the incurrence of substantial indebtedness;
o the participation in any public bidding process;
o the amendment and termination of a concession contract; and
o the disposal or acquisition of any asset that exceeds 5% of our
permanent assets.
Members of our board of directors serve a three-year term, and may be
reelected. According to our bylaws, the terms of the current members of our
board of directors expire in April 2005. Set forth below are the names,
positions, dates of birth and brief biographical descriptions of the members of
our board of directors.
Name Member Since Position Date of Birth
Fernando Noronha Leal................... December 1999 Chairman September 9, 1945
Adir Pereira Keddi...................... March 1998 Deputy Chairman November 18, 1947
Alcir Augustinho Calliari............... July 1995 Member September 14, 1938
Antonio Jose Sellare.................... April 2002 Member July 19, 1953
Antonio Manuel Garcia................... December 1999 Member February 20, 1940
Eduardo Jose Bernini.................... April 2002 Member November 18, 1956
Francisco Carlos Coutinho Pitella....... April 2002 Member February 9, 1953
Julio Moraes Sarmento de Barros......... April 2002 Member December 7, 1937
Ruth Storch Damasceno(1)................ November 1996 Member June 25, 1952
_______________
(1) Ms. Damasceno is the representative of our employees, a board position
provided for in our bylaws.
Fernando Noronha Leal. Mr. Leal is also chairman of the board of directors
of Iven S.A., a director of EDP Brasil S.A. and a member of the boards of
directors of EDP International S.A. and Bandeirante de Energia S.A. He has also
served as chief executive officer of Kaiser Engineers & Constructors and of
Petrogal -- Petroleos de
45
Portugal S.A. He holds a degree in economics from the Instituto Superior de
Ciencias Economicas e Financeiras da Universidade Tecnica de Lisboa.
Adir Pereira Keddi. Mr. Keddi was elected deputy chairman of the board of
directors on April 30, 2002 and has been a member of the board of directors
since March 1998. He is an executive officer of Fundacao Vale do Rio Doce de
Seguridade Social. He was previously in the accounting and finance department of
ESSO Brasileira de Petroleo S.A. He holds a degree in economics from Faculdade
Candido Mendes -- Rio de Janeiro and a masters degree in financial
administration from the Centro de Extensao e Aperfeicoamento Profissional of Rio
de Janeiro -- CEAP-RJ.
Alcir Augustinho Calliari. Mr. Calliari is an economic consultant at
Brasilconsult. He was previously the chairman of the board of directors,
president and chief executive officer of Banco do Brasil S.A. He holds a degree
in economics from Faculdade de Ciencias Politicas e Economicas de Cruz Alta --
RS, a law degree from Faculdade Nacional de Direito do Rio de Janeiro and a
degree in sociology from Colegio de Filosofia de Iju-Rio Grande do Sul.
Antonio Jose Sellare. Mr. Sellare is the investor relations director and
chief financial officer of EDP Brasil S.A. and chief financial officer of
Enertrade Comercializadora de Energia S.A. and of Calibre Participacoes S.A. He
is also a member of the board of directors of Bandeirante Energia S.A., the
investor relations director and CEO of Iven S.A. and 135 Participacoes S.A. He
was previously the treasury director of Banco Axial S.A and the chief financial
officer of Organizacoes BMD. He holds a degree in business administration from
Pontificia Universidade Catolica -- Sao Paulo.
Antonio Manuel Garcia. Mr. Garcia is an executive officer of EDP Brasil S.A
and a member of the board of directors of Bandeirante de Energia S.A. He was
previously the vice-president of Investco S.A. and a director of
PROET-Projectos, Engenharia e Tecnologia S.A. He holds a degree in mechanical
engineering from the Universidade Tecnica de Lisboa.
Eduardo Jose Bernini. Mr. Bernini is the president and chief executive
officer of EDP Brasil S.A. and Enertrade Comercializadora de Energia S.A. He is
also the chairman of the board of directors of Bandeirante Energia S.A. and of
CERJ-Cia Energetica do Rio de Janeiro. He was previously the president of
COEX-Comite Executivo do Mercado Atacadista de Energia-MAE, the chief executive
officer of VBC Energia S.A., the chief executive officer of
Eletropaulo-Metropolitana de Eletricidade de Sao Paulo S.A., the chief executive
officer of EBE-Empresa Bandeirante de Energia S.A. He holds a degree in
economics from Universidade de Sao Paulo -- USP and a master's degree in
economic development theory from Pontificia Universidade Catolica de Sao Paulo
and in the energy sector economy from Universidade de Sao Paulo -- USP.
Francisco Carlos Coutinho Pitella. Mr. Pitella is the investor relations
director of GTD Participacoes S.A. He was previously a director of Vale do Rio
Doce Aluminio S.A. and a member of the board of directors of Valesul and
Mineracao Rio do Norte. He holds a degree in civil engineering from Escola
Nacional de Engenharia da Universidade Federal do Rio de Janeiro.
Julio Moraes Sarmento de Barros. Mr. Barros is a member of the board of
directors of EDP Brasil S.A. and since January 2002, he has been an alternate
member of the board of directors of EDP, S.A. He was previously the chief
executive officer of Bandeirante Energia S.A., director of the Camara Portuguesa
de Comercio do Brasil, and a manager of Eletricidade de Lisboa e Vale do Tejo,
S.A. He holds a degree in electric engineering from the Instituto Superior
Tecnico da Universidade Tecnica de Lisboa.
Ruth Storch Damasceno. Ms. Damasceno is the president of CINVES. She holds
a degree in business administration from the Universidade Federal do Espirito
Santo.
46
Executive Officers
Our executive officers are elected by the board of directors for a
three-year term, although any executive officer may be removed by the board of
directors before the expiration of his term. Our executive officers, as well as
other officers, are responsible for our day-to-day management.
Set forth below, are the names, positions, dates of birth and brief
biographical descriptions of our executive officers as of April 29, 2003.
Name Position Date of Birth
- ---- -------- -------------
Antonio Eduardo da Silva Oliva........... Chief Executive Officer February 4, 1946
Sergio Pereira Pires..................... Chief Financial Officer September 13, 1959
Manuel Fernando das Neves Bento.......... Technical Officer January 23, 1951
Armando Fernandes Bernardo............... Commercial Officer April 21, 1944
Antonio Eduardo da Silva Oliva. Mr. Oliva has been the Chief Executive
Officer of ESCELSA since December 2002 and of ENERSUL since January 2003. He was
previously the member of the board of directors of EDP Distribuicao-Energia S.A,
member of the board of directors of Hidrocenel - Energia do Centro S.A. and
member of the board of directors of other companies controlled by EDP Group. He
holds a degree in electromechanical engineering from the Universidade de
Lourenco Marques, in Mozambique.
Sergio Pereira Pires. Mr. Pires has been the chief financial officer of
ESCELSA since June 1997 and of ENERSUL since November 1997. He was previously a
director of Grupo Habitasul and a corporate director of Banco Multiplic. He
holds a degree in economics from the Universidade de Sao Paulo and a master's
degree in finance from the Fundacao Getulio Vargas.
Manuel Fernando das Neves Bento. Mr. Bento has been the Technical Officer
of ESCELSA since December 2002 and of ENERSUL since January 2003. He was
previously the member of the board of directors of COELCE - Cia Energetica do
Ceara, an alternate member of the board of directors of CERJ-Cia de Eletricidade
do Rio de Janeiro, Technical Vice President of CERJ and Distribution Officer of
CNEL, controlled by EDP Group. He holds a degree in electromechanical
engineering from the Universidade De Lourenco Marques in Mozambique.
Armando Fernandes Bernardo. Mr. Bernardo has been the Commercial Officer of
ESCELSA since October 2002 and of ENERSUL since November 2002. He was previously
the Director of Operations and Investors Relations of Calibre Participacoes
S.A., Technical Director of 135 Participacoes and IVEN S.A., Vice President of
Enercop Servicos Corporativos Ltda., Director of Centro Algarve and Technical
Director of Alentejo. He holds a degree in eletromechanical engineering from the
Instituto Tecnico da Universidade Tecnica de Lisboa.
B. Compensation
For the year ended December 31, 2002, the aggregate compensation paid by us
to all directors, executive officers and members of our audit committee for
services in their respective capacities was approximately R$3.0 million. At the
annual shareholders' meeting held on April 29, 2003, the shareholders of ESCELSA
determined that an aggregate compensation of R$6.5 million would be paid to our
directors and executive officers for the year ending December 31, 2003. Neither
the members of our board of directors nor our executive officers receive pension
benefits from us. At December 31, 2002, the members of our board of directors
and our executive officers owned an aggregate of nine common shares of our
capital stock.
C. Board Practices
According to our bylaws, the terms of the current members of our board of
directors expire in April 2005. Our executive officers are elected for
three-year terms, although any executive officer may be removed by our board of
directors before the expiration of his term. None of the members of our board of
directors or our executive officers is a party to an employment contract
providing for benefits upon termination of employment.
47
Audit Committee
Under Brazilian corporate law, the Conselho Fiscal (audit committee) is a
corporate body independent of management and the company's external auditors. A
Brazilian audit committee is not equivalent to, or comparable with, a U.S. audit
committee. The primary responsibility of the audit committee is to review
management's activities and the financial statements, and report its findings to
the shareholders. Under Brazilian corporate law, the audit committee may not
contain members that are on the board of directors, on the executive committee,
the company's employees, employees of a controlled company or of a company of
the same group, including a spouse or relative of any member of the company's
management. In addition, the Brazilian corporate law requires the audit
committee to receive as remuneration at least 10% of the average amount paid to
each executive officer. The Brazilian corporate law requires an audit committee
to be composed of a minimum of three and a maximum of five members and their
respective alternates.
We have a permanent audit committee whose members are elected at the annual
shareholders' meeting, with their terms lasting until the next annual
shareholders' meeting after their election. The current members and their
respective alternates were elected by our shareholders on April 29, 2003.
Name Position
- ---- --------
Carlos Roberto Veroneze..................... Effective member
Dionisio Leonidas de Medeiros Neto.......... Alternate
Waldir Nascimento........................... Effective member
Licinio de Jesus Ferrari.................... Alternate
Eduardo Soares.............................. Effective member
Allain Brasil Bertrand Junior............... Alternate
D. Employees
At December 31, 2002, we employed 2,354 persons. In 2002, the second course
for quality management known as the Total Quality Management Continuing
Education Program, was concluded, consisting of eleven sections (totaling 360
hours of classes). In 2002, our total investment in development and training
activities amounted to R$1.0 million, comprising 76,174 hours of training, with
an average of 56.30 hours of training per employee.
The following table sets forth the number of employees for the periods
indicated:
At December 31,
--------------------------
2002 2001 2000
---- ---- ----
Professionals (including engineers, 586 659 574
accountants, economists and attorneys)...
Management................................. 69 73 74
Operational................................ 1,699 1,734 1,903
----- ----- -----
Total.................................... 2,354 2,466 2,551
Since 1997, part of each employee's compensation is linked to previously
agreed upon goals. The program has presented good results, increasing
productivity and efficiency gains. We provide our employees and their dependents
with medical and dental assistance through a system that uses a network of
accredited doctors and services. We pay the major portion of the costs for these
services, with a smaller amount being paid by the employees. In 2002, we spent
R$4.6 million on this assistance.
We are sponsors of retirement benefit plans, which are managed by Fundacao
ESCELSA de Seguridade Social - ESCELSOS or ESCELSOS and Fundacao ENERSUL.
ESCELSOS and Fundacao ENERSUL are non-profit entities, whose main focus is to
supplement the benefits provided by the federal social security system to our
employees. The majority of our employees participate in these pension plans. In
2002, we contributed an aggregate of R$4.0 million to the funds. See note 25 to
our financial statements included elsewhere in this annual report.
48
In Brazil, employees have the right to organize unions. Within the confines
of a defined geographic area, employees belonging to any specific professional
category and employees constituting a specific economic category may each be
represented by only one union. Individual unions generally belong to state-wide
union federations, which in turn belong to nationwide union confederations.
ESCELSA's employees are members of the Sindicato dos Trabalhadores na Industria
de Energia Eletrica no Estado do Espirito Santo -- SINDES and ENERSUL's
employees are members of the Sindicato dos Trabalhadores na Industria e Comercio
de Energia no Estado de Mato Grosso do Sul -- STICE-MS. We believe that our
relationships with our employees and their respective labor unions are generally
good.
E. Share Ownership
As of December 31, 2002, the members of our board of directors and our
executive officers, on an individual basis and as a group, beneficially owned
less than one percent of our common shares. None of the members of our board of
directors or our executive officers holds any options to purchase our common
shares.
ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS
A. Major Shareholders
At ESCELSA's privatization auction held on July 11, 1995, 50% plus one of
the common shares of ESCELSA were acquired by Iven and GTD. In August 1999, EDP
- -- Eletricidade de Portugal acquired 73% of Iven, and since that date control of
Iven has been shared between EDP and Opportunity Fund.
GTD is a holding company that invests in Brazil's electricity sector and is
owned by 17 Brazilian pension funds, including Caixa de Previdencia dos
Funcionarios do Banco do Brasil - PREVI, Instituto Aerus de Seguridade Social,
Fundacao de Assistencia e Previdencia Social BNDES - FAPE, Fundacao Telebras de
Assistencia Social - SISTEL, Fundacao Eletrobras de Seguridade Social, Real
Grandeza Fundacao de Previdencia e Assistencia and other foundations.
The following table sets forth information regarding U.S. security holders
with respect to ownership of our common shares as of December 31, 2002.
Percentage
Shareholder Number of Shares of Total
- ----------- ---------------- ----------
Iven........................................................... 2,378,671 52.27%
GTD............................................................ 1,137,709 25.00
Fundacao Central Bank de Previdencia Privada - CENTRUS......... 275,678 6.06
Officers and Directors as a group.............................. 9 *
Others......................................................... 758,766 16.67
---------- ------
Total.......................................................... 4,550,833 100.0%
========== ======
_____________
* Less than 1%.
Shareholders' Agreement
IVEN and GTD entered into a shareholders' agreement on July 10, 1995 when
they purchased, in a consortium, 50% plus one share of the voting stock of
ESCELSA. Such agreement expired in July 2002. On October 10, 2002, the EDP
Group, acting through IVEN, gained control over ESCELSA. There currently are no
shareholder agreements with respect to ESCELSA in effect.
B. Related Party Transactions
Our concession contracts require that we obtain approval from ANEEL prior
to entering into commercial relationships with any of our shareholders. Our
transactions with our affiliates are restricted by the provisions of the
indenture that governs the notes.
49
Banco Opportunity S.A., a holding company of the Opportunity Fund, which is
also one of Iven's shareholders, is among the several banks that manage our
pension fund, Fundacao Escelsa de Seguridade Social -- ESCELSOS. Fund managers
are paid 1% per year of the funds managed, as well as a performance bonus in the
amount of 30% over IBOVESPA, which is the Sao Paulo Stock Exchange indicator.
C. Interest of Experts and Counsel
Not applicable.
ITEM 8. FINANCIAL INFORMATION
A. Consolidated Statements and Other Information
See Item 18 for a list of financial statements filed with this annual
report.
Legal Proceedings
We are party to certain lawsuits and administrative proceedings before
various courts involving tax, labor and civil matters. The principal lawsuits
currently in process are as follows:
Tax Litigation
Brazilian companies are required to pay contributions to the PIS Program
(Program for Social Integration) and COFINS (Program for Financing Social
Security). The rates for these contributions are 1.65% (1.65% up to November 30,
2002) and 3.0% (2.0% in 1998 and 1997) of the revenues, respectively. ESCELSA
and ENERSUL have filed lawsuits against the Brazilian government questioning the
constitutionality of (i) with respect to COFINS, contributions relating to
non-operational and financial income and (ii) with respect to PIS, the
contributions relating to income related to the sales of energy, and to
non-operational and financial income.
Our management believes that the ultimate outcome of these tax-related
proceedings will not have a material adverse effect on our financial position or
results of operations. As of December 31, 2002, we had reserved R$148.0 million
for these contingencies, of which R$115.1 million is deposited in judicial
escrow accounts in connection with these lawsuits.
Labor Claims
We are party to several labor-related lawsuits, including a lawsuit filed
by the Sindicato dos Trabalhadores da Industria de Energia Eletrica do Estado do
Espirito Santo -- SINDEES, which is the labor union in the State of Espirito
Santo for the electricity sector, as well as several disputes filed by employees
and former employees related principally to our wage structure and overtime. As
of December 31, 2002, we had reserved R$20.9 million for labor contingencies, of
which R$12.6 million is deposited in judicial escrow accounts in connection with
these lawsuits.
We believe, based on the judgment of our management and our legal counsel,
that the amount provisioned is sufficient to cover the probable losses from
lawsuits that remain pending, with a range of possible loss 10% higher or lower
than the reserved amount.
Civil Litigation
We are party to civil lawsuits and administrative proceedings arising from
the ordinary course of our business. We believe that the ultimate outcome of
these proceedings will not have a material adverse effect on our financial
position or results of operations. As of December 31, 2002, we had reserved
R$36.9 million for civil litigation, of which R$6.3 million is deposited in
judicial escrow accounts in connection with these lawsuits.
50
Tariff Litigation
A number of industrial consumers have brought a lawsuit against ESCELSA and
ENERSUL seeking refunds of amounts paid to ESCELSA and ENERSUL as a result of
rate increases that became effective during an economic stabilization plan in
1986. The lawsuits claim that such increases were in violation of price controls
instituted as part of the economic stabilization plan. Our management believes
that the ultimate outcome of these proceedings will not have a material adverse
effect on our financial position or results of operations. As of December 31,
2002, we had reserved R$7.5 million for these contingencies.
Dividend Policy and Dividend Distributions
Amounts Available for Distribution
At each annual shareholders' meeting, the board of directors is required to
recommend how net profits for the preceding fiscal year are to be allocated. For
purposes of Brazilian corporate law, net profits are defined as net income after
income taxes and social contribution taxes for such fiscal year, net of any
accumulated losses from prior fiscal years and any amounts allocated to
employees' and management's participation in our profits. In accordance with
Brazilian corporate law, the amounts available for dividend distribution are the
amounts equal to our net profits less any amounts allocated from such net
profits to the legal reserve.
We are required to maintain a legal reserve, to which we must allocate 5%
of net profits for each fiscal year until the amount of such reserve equals 20%
of our paid-in capital. However, we are not required to make any allocations to
our legal reserve in respect to any fiscal year in which it, when added to our
other established capital reserves, exceeds 30% of our capital. Net losses, if
any, may be charged against the legal reserve.
Mandatory Distribution
The Brazilian corporate law generally requires that the bylaws of each
Brazilian corporation specify a minimum percentage of the amounts available for
distribution by such corporation for each fiscal year that must be distributed
to shareholders as dividends, also known as the mandatory distributable amount.
Under our bylaws, the mandatory distributable amount has been fixed at an amount
equal to not less than 25% of the amounts available for distribution, to the
extent amounts are available for distribution.
The mandatory distribution is based on a percentage of adjusted net income,
not lower than 25%, rather than a fixed monetary amount per share. The Brazilian
corporate law, however, permits a publicly held company to suspend the mandatory
distribution of dividends if the board of directors and the audit committee
report to the shareholders' meeting that the distribution would be inadvisable
in view of the company's financial condition. The suspension is subject to
approval of holders of common shares. In this case, the board of directors shall
file a justification for such suspension with the CVM. Also, a publicly held
company may suspend the payment of dividends exclusively for purposes of raising
funds through the issuance of nonconvertible debentures. Profits not distributed
by virtue of the suspension mentioned above are attributed to a special reserve
and, if not absorbed by subsequent losses, paid as dividends as soon as the
financial condition of such company permits such payments.
Payment of Dividends
We are required by the Brazilian corporate law and by our bylaws to hold an
annual shareholders' meeting by the fourth month after the end of each fiscal
year at which, among other things, the shareholders have to decide on the
payment of an annual dividend. The payment of annual dividends is based on the
financial statements prepared for the relevant fiscal year. Under the Brazilian
corporate law, dividends generally are required to be paid within 60 days
following the date the dividend was declared, unless a shareholder's resolution
sets forth another date of payment, which, in either case, must occur prior to
the end of the fiscal year in which the dividend was declared. A shareholder has
a three-year period from the dividend payment date to claim dividends in respect
of its shares, after which the amount of the unclaimed dividends reverts to us.
The Brazilian corporate law also permits a
51
company to pay interim dividends out of preexisting and accumulated profits for
the preceding fiscal year or semester, based on financial statements approved
by its shareholders.
Dividend Distributions
The following table sets forth our historical payments of dividends to our
shareholders.
Period in which profits Total amount of
Date of Approval were generated distribution
------------------------- ---------------------------- ---------------
April 1999............... Year ended December 31, 1998 R$72.1 million
April 2000............... Year ended December 31, 1999 -*
April 2001............... Year ended December 31, 2000 R$13.2 million
April 2002............... Year ended December 31, 2001 -*
April 2003............... Year ended December 31, 2002 -*
_______________________
* No dividends were declared for the years ended December 31, 2002,
2001 and 1999 because we had net losses for such periods.
The declaration of annual dividends, including dividends in excess of the
mandatory distribution, requires approval by the vote of the majority of the
holders of our common stock. The amount of any distributions will depend on many
factors, such as our results of operations, financial condition, cash
requirements, prospects and other factors deemed relevant by our board of
directors and shareholders.
B. Significant Changes
No significant changes or events have occurred after the close of the
balance sheet date at December 31, 2002, other than the events already described
in this annual report.
ITEM 9. THE OFFER AND LISTING
A. Offer and Listing Details
The carrying value of our notes as of December 31, 2002, consisting of the
fair value of the notes based on the bid price as of such date, was R$944.1
million. At December 31, 2002 and May 31, 2003 the notes were trading at 62% and
87% of their face value, respectively.
B. Plan of Distribution
Not applicable.
C. Markets
Our common shares are traded on the Sao Paulo Stock Exchange in Brazil and
are not traded in the United States. The notes are listed on the Luxembourg
Stock Exchange.
D. Selling Shareholders
Not applicable.
E. Dilution
Not applicable.
F. Expenses of the Issue
Not applicable.
52
ITEM 10. ADDITIONAL INFORMATION
A. Share Capital
Not applicable.
B. Memorandum and Articles of Association
Set forth below is certain information concerning our capital stock and a
brief summary of certain significant provisions of our by-laws and the Brazilian
corporate law. This description does not purport to be complete and is qualified
by reference to our by-laws (an English translation of which has been filed with
the Securities and Exchange Commission) and to the Brazilian corporate law.
Corporate Purposes
We are a share company with principal place of business and jurisdiction in
the City of Vitoria, Brazil, governed mainly by our by-laws and by the Brazilian
corporate law.
In accordance with our by-laws, our main purposes are: (a) to carry out
studies, projects, constructions and operations of production mills,
transmission lines and distribution of electric power, as well as to enter into
trading acts arising from such activities, while retaining the right to
simultaneously join other corporations for the accomplishment of other projects;
(b) to develop activities associated with the rendering of electric power
service, such as multiple use of electric power poles, through assignment to
other users, data transmission through installations while observing relevant
legislation, rendering of operational technical services, maintenance and
planning of third-party electrical installations, optimization services of
energy processes and consumer electrical installations, supply of expensive
assignment lines, land subject to mill exploration, and reservoirs for better
electric power use and supply; (c) to join study groups, syndicates, association
groups or any other entity for research purposes in the energy sector or for the
training of technical personnel which may be deemed necessary, as well as for
the rendering of technical, operational and administrative support services to
electrical power subsidiary companies in the public sector.
Capital Stock and Dividend Policy
General
As of December 31, 2002, our capital stock in reais was R$153,946,942.07.
Our share capital is comprised of registered common shares, all without par
value. Our share capital consists of a total of 4,550,833 issued common shares,
without par value. Our bylaws authorize our board of directors to increase our
capital stock up to R$1,000,000,000.00, without seeking specific shareholder
approval. The shareholders must approve any further capital increase at a
shareholders' meeting.
Mandatory Annual Distribution
Under our bylaws, at least 25% of our adjusted net income for the preceding
fiscal year must be distributed as a mandatory annual distribution, to be paid
out within 60 days of the annual shareholders' meeting in which the distribution
is approved. The Brazilian corporate law permits, however, a public company to
suspend payment of the mandatory distribution (i) if the board of directors and
the conselho fiscal report to the shareholders' meeting that the distribution
would be incompatible with our financial condition, subject to approval by the
shareholders' meeting or (ii) for purposes of raising funds through the issuance
of nonconvertible debentures. The board of directors must file a justification
for a distribution suspension with the CVM within five days of the shareholders'
meeting. Profits not distributed due to such suspension must be allocated to a
special reserve and, if not absorbed by subsequent losses, must be paid as
dividends as soon as our financial situation permits such payments. There is no
restriction on our repurchase or redemption of shares while the mandatory
distribution is suspended due to duly approved and justified financial reasons,
other than the generally applicable restrictions on trading by companies with
their own shares, as set forth in the Brazilian corporate law and in the rules
and regulations issued by CVM.
53
Voting Rights
Each common share entitles its holder to one vote at our shareholders'
meetings.
Allocation of Net Income
At each annual shareholders' meeting, our by-laws require our board of
directors to recommend that net income for the preceding fiscal year from which
income tax and losses carried forward from prior fiscal years have already been
deducted be allocated as follows:
o 5% for a legal reserve that will not exceed 20% of our paid-in
capital;
o at least 25% for mandatory distribution to shareholders; and
o any balance to be allocated in the manner determined by the
shareholders.
Under the Brazilian corporate law, payment of the mandatory dividend is not
required if the board of directors has formally declared such distribution to be
inadvisable in view of the company's financial condition and has provided the
shareholders at the annual shareholders' meeting with an opinion to that effect
which has been reviewed by the conselho fiscal and reported to the CVM prior to
such meeting. See "Item 8A. Financial Information -- Consolidated Statements and
Other Information -- Dividend Policy and Dividends -- Mandatory Distribution."
C. Material Contracts
Contract for the Installment of Transmission Services
On October 28, 1999, ESCELSA and ONS entered an agreement to render
transmission of electric energy services, in which ESCELSA grants to ONS
authorizations for the management and coordination of the transmission services
rendered by ESCELSA and to represent the latter before its customers to execute
the contracts for the use of the transmission system. This agreement will
terminate on the date of the expiration of the ESCELSA concession contract.
Under this agreement, ESCELSA is responsible for:
o implanting, protecting and maintaining the installations,
o reporting to ONS so it may supervise and control the system, and
o providing telecommunication services.
ESCELSA is also responsible for measuring the volume of energy sold to each
customer and for billing such customers for the energy consumed.
Contract for Use of the Transmission System
On October 28, 1999, ESCELSA and ONS also entered into a contract providing
for the use by ESCELSA of the system of transmission of electric energy
controlled and operated by ONS, for distribution of that electric energy in its
concession area. The term of this agreement is until the expiration of the
concession obtained by ESCELSA. Under this agreement, ESCELSA is required to
provide ONS with the information necessary for the operation of the system.
ESCELSA shall pay ONS a monthly tariff for the use of the transmission system,
including for eventual excess of demand and overloads in the installation and
equipments of ESCELSA, at the amounts established pursuant to regulations
implemented by ANEEL.
54
Contract for Connection to the Transmission System
ESCELSA entered into a contract, effective June 10, 1999, with FURNAS, a
transmitter of electric energy, providing for ESCELSA's connection to FURNAS'
transmission system, for the purpose of acting as a distributor of the electric
energy in its concession area. Under this agreement, ESCELSA and FURNAS jointly
assume responsibility for the operation and maintenance of installations of
connection and/or points of connection of their property as well as guarantee
mutual access to all such facilities. In addition, this contract imposes
responsibility on both parties for the evaluation of the operative conditions
and identification of necessary adaptations to the facilities. However, it is
ESCELSA's sole responsibility to forecast the load of installations to FURNAS.
ESCELSA must pay FURNAS a monthly tariff for the installation of connection
and/or points of connection of FURNAS' property, for every month of use of that
connection, at the amounts established by ANEEL, in the same proportion.
Contracts for Purchase and Sale of Electric Energy
ESCELSA entered into an agreement to purchase electric energy and demand
from FURNAS in order to distribute such energy to the public in ESCELSA's
concession area. The contract became effective on August 7, 1999 and continues
in effect until December 31, 2005, throughout which time ESCELSA is required to
purchase certain amounts of electricity generated by FURNAS, at tariffs set by
ANEEL. ESCELSA's commitment may be reduced by the amount that ESCELSA's
generation capacity increases. Therefore, if ESCELSA were to increase its
generation capacity in accordance with approvals received from ANEEL, required
purchase amounts from FURNAS would be reduced accordingly. If ESCELSA were to
require energy purchases in an amount greater than that established in ESCELSA's
initial contracts, however, FURNAS' obligation to supply such energy would be
contingent on availability. ESCELSA also has the right to immediately reduce
purchases from FURNAS if a large customer terminates its contract with ESCELSA.
ESCELSA and ENERSUL have also entered into Contracts of Purchase and Sale
of Electrical Energy with Enertrade-Comercializadora de Energia S.A. both dated
on December 23, 2002. The contracts became effective from 2003 to 2012 and
provide for both ESCELSA and ENERSUL to buy energy from Enertrade at a
determined price and for a set amount. Both companies' commitment may be
increased or reduced, as governed by the contracts.
ESCELSA and ENERSUL have each entered into two Purchase and Sale of
Electrical Energy contracts with Enerpeixe, S.A. and Enercouto, S.A.,
respectively. The contracts provide for a relatively small amount of
electrical energy to be supplied by Enerpeixe, S.A. or Enercouto S.A., as the
case may be. The terms of the contracts are from February 6, 2006 to January 31,
2016 in the case of Enerpeixe, S.A. and from April 1, 2007 to March 31, 2017, in
the case of Enercouto, S.A. The price for such purchases is determined for all
four contracts, and will be adjusted annually to reflect inflationary pressures,
using the IGPM index. Both Enerpeixe and Enercouto are indirectly owned by our
controlling shareholder, EDP.
Contract to Finance Losses Associated with the Rationing Program
ESCELSA and ENERSUL entered into contracts with BNDES as Lender, to
finances the losses they experienced in connection with the implementation of
the Rationing Program. ESCELSA financed R$166 million in a contract dated
February 18, 2002, to be repaid in monthly installments, as determined by the
contract, until December 15, 2007. ENERSUL financed R$101 million in a contract
dated February 19, 2002, to be repaid in monthly installments, as determined by
the contract, until December 15, 2008. ANEEL is also a party to both contracts.
Indenture for the Notes
We entered into an indenture dated as of July 28, 1997 with The Chase
Manhattan Bank, as Trustee, for the issuance of our 10% Senior Notes due 2007 in
the total amount of U.S.$500 million.
55
D. Exchange Controls
Brazilian law provides that, whenever there is a significant imbalance in
Brazil's balance of payments or reasons to foresee such an imbalance, temporary
restrictions may be imposed on the conversion of Brazilian currency into foreign
currencies and on remittances of foreign capital abroad. For approximately six
months in 1989 and early 1990, for example, the Brazilian government imposed
remittance restrictions on all dividend and capital repatriations that were owed
to foreign equity investors and held by the Central Bank in order to conserve
Brazil's foreign currency reserves. These amounts were subsequently released in
accordance with Brazilian federal directives.
The Central Bank has authorized the issuance of the notes and issued a
certificate of foreign capital registration authorizing us to make any payment
under the notes requiring the conversion of reais into U.S. dollars (including
any payment made upon enforcement of a judgment against us). However, additional
Central Bank authorization is needed for the payment of the notes upon
acceleration or for certain late payments of the notes generally. These exchange
control regulations generally have not affected repayment obligations of
securities of a type similar to the notes. There can, however, be no assurance
that the Brazilian government will not in the future impose more restrictive
foreign exchange regulations that would have the effect of preventing or
restricting our access to foreign currency that it may require to meet its
foreign currency obligations under foreign currency denominated liabilities
(including the notes).
See "Item 3. Key Information -- Exchange Rates" for more information on
exchange rates of the real versus the U.S. dollar.
E. Taxation
General
The following is a summary of certain material Brazilian and U.S. federal
income tax consequences resulting from the investment in, and ownership and
disposition of, the notes, but it does not purport to be a comprehensive
description of all the tax considerations that may be relevant to a decision to
invest in, or own and dispose of, the notes. While this description is
considered to be a correct interpretation of existing laws and regulations in
force as of the date of this annual report, no assurance can be given that the
courts or fiscal authorities responsible for the administration of such laws and
regulations will agree with this interpretation or that changes to such laws and
regulations will not occur. The discussion of Brazilian tax matters is based
upon the advice of Ulhoa Canto, Rezende e Guerra -- Advogados, Rio de Janeiro,
Brazil. The discussion of U.S. federal income tax matters is based upon the
advice of Shearman & Sterling, New York, New York.
Investors and holders of the notes should consult their own tax advisors as
to the Brazilian, U.S. or other tax consequences of the purchase, ownership and
disposition of the notes including the particular tax consequences to them in
light of their particular investment circumstances.
Although at present there is no income tax treaty between Brazil and the
United States, the tax authorities of the two countries have had discussions
that may culminate in such a treaty. There can be no assurance, however, as to
whether or when a treaty will enter into force or how it will affect holders of
the notes.
Brazilian Tax Considerations
Individuals domiciled in Brazil and Brazilian companies are taxed in Brazil
on the basis of their worldwide income (which includes earnings of Brazilian
companies' foreign subsidiaries, branches and affiliates). The earnings of
foreign companies and persons not resident in Brazil in general are taxed in
Brazil when derived from Brazilian sources unless there exists a tax treaty
between Brazil and the country of domicile of the non-resident providing
otherwise.
Interest, fees, commissions and any other income (which for the purposes of
this paragraph includes any deemed income on the difference between the issue
price of the notes and the price at which the notes are redeemed
56
("original discount") payable by a Brazilian obligor to an individual, company,
entity, trust or organization domiciled outside Brazil is subject to income tax
withheld at the source. Brazilian tax laws expressly authorize the paying source
to pay the income or earnings net of taxes and, therefore, to assume the cost of
the applicable tax. The rate of withholding is 15% or such other lower rate as
is provided for in an applicable tax treaty between Brazil and such other
country where the recipient of the payment has its domicile. Notwithstanding the
foregoing, pursuant to a law dated August 13, 1997, the applicable income tax
rate for negotiable instruments such as the notes was reduced to zero with
respect to payments of interest, fees and commissions made during 1997, provided
that such negotiable instruments have a minimum maturity of 96 months. In
accordance with a law dated January 27, 2000, negotiable instruments such as the
notes which are issued as of January 1, 2000, are no longer eligible for this
rate reduction.
We believe and intend to take the position for Brazilian tax reporting
purposes that, as long as the principal paying agent is located in Japan and
payment to the principal paying agent discharges our obligations to make
payments in accordance with the notes, interest and other income with respect to
the notes will be subject to Brazilian withholding tax at a rate of 12.5% under
the tax treaty in effect between Brazil and Japan. In any event, under the terms
of the notes, we are required to gross up noteholders for any Brazilian
withholding tax, subject to customer exceptions. We have the right to redeem the
notes at par in the event that it is required to gross up for Brazilian
withholding tax at a rate in excess of 15%.
Any earnings or capital gains made outside Brazil as a result of a
transaction between two non-residents of Brazil with funds not located in Brazil
are not subject to tax in Brazil. In such transactions, the gains obtained by a
non-resident in the purchase and sale of the notes to non-residents are not
subject to tax in Brazil. However, any gains obtained by a non-resident in the
sale of the notes to a Brazilian resident may be subject to tax in Brazil.
On August 15, 1996, the Brazilian Congress approved an Amendment which
created a new temporary tax, the Contribuicao Provisoria sobre Movimentacao
Financeira (the provisional contribution on transfers of value and of credits
and rights of a financial nature, or CPMF). Under the CPMF tax, all financial
debit and money transfers effected as from March 18, 2001, are subject to the
assessment of the CPMF tax at the rate of 0.38%. A Constitutional Amendment
dated June 12, 2002 determined that from January 1, 2004 the CPMF rate will be
reduced to 0.08%. However, this reduction may be postponed or not implemented at
all.
Legislation passed on October 31, 1996 imposed a tax on foreign exchange
transactions ("IOF tax") related to the entry into Brazil of proceeds resulting
from foreign loans (including the issue of debt securities such as the notes).
Initially the IOF tax had varying rates depending upon the final maturity of the
transaction. Consequently, in case of early redemption or payment of the notes a
tax at a rate varying from 3% to 0%, depending on the date of redemption, would
have been assessed on the corresponding proceeds. However the IOF tax is a tax
upon the Brazilian issuer (in this case, us) and will have no effect on the
amounts received by the holders of the notes. We thus would be liable for and
would pay the IOF tax as well as any charges imposed by Brazilian tax
authorities on Brazilian issuers. A Decree of December 3, 2002, increased the
IOF tax rate to 5% on foreign exchange transactions resulting from foreign loans
with redemption or payment limit under 90 days and maintained the 0% IOF tax
rate on foreign exchange transactions resulting from foreign loans with
redemption or payment limit of or higher than 90 days. There can be no assurance
that the IOF tax rate will not be increased in the future.
There is no stamp, transfer or other similar tax in Brazil with respect to
the transfer, assignment or sale of any debt instrument outside Brazil
(including the notes).
U.S. Federal Income Tax Considerations
The following is a general discussion of the principal U.S. federal income
tax considerations relevant to the ownership and disposition of the notes to
U.S. Holders (as defined below) who hold such notes as capital assets
(generally, property held for investment). This summary is based on provisions
of the U.S. Internal Revenue Code of 1986, as amended, existing and proposed
U.S. Treasury regulations promulgated thereunder, and administrative and
judicial interpretations thereof, all as currently in effect and all of which
are subject to change (possibly with retroactive effect) and to differing
interpretations. This summary does not discuss all aspects of U.S. federal
income taxation that may be applicable to holders of notes in light of their
particular circumstances or to holders of notes subject to special treatment
under U.S. federal income tax law (including, but not limited to, life insurance
57
companies, dealers in securities, financial institutions, tax-exempt
organizations, partnerships or other entities treated as partnerships for U.S.
federal income tax purposes, persons that hold the notes as part of a
"straddle," "hedge" or "conversion transaction" and persons having a functional
currency other than the U.S. dollar). Holders of notes are urged to consult
their own tax advisers as to the application of U.S. federal tax laws to their
particular situations, as well as any tax consequences arising under the laws of
any state, local or non-U.S. taxing jurisdiction.
As used herein, the term "U.S. Holder" means a beneficial owner of a note
that is, for U.S. federal income tax purposes, (i) a citizen or resident alien
individual of the United States, (ii) a corporation or other entity treated as a
corporation for U.S. federal income tax purposes created or organized in or
under the laws of the United States or of any state thereof or the District of
Columbia, (iii) an estate the income of which is subject to U.S. federal income
taxation regardless of its source, or (iv) a trust, (A) if a court within the
United States is able to exercise primary supervision over the administration of
the trust and one or more United States persons have the authority to control
all substantial decisions of the trust or (B) that has a valid election in
effect under applicable Treasury regulations to be treated as a U.S. person. If
a partnership (or other entity treated as a partnership for United States
federal income tax purposes) is a beneficial owner of the notes, the treatment
of a partner in the partnership will generally depend upon the status of the
partner and upon the activities of the partnership. A holder of the notes that
is a partnership and partners in such partnership should consult their U.S. tax
advisors.
Payments of Interest
Stated interest payable on the notes (and additional amounts, if any)
generally will be includible in the gross income of a U.S. Holder as ordinary
interest income at the time accrued or received, in accordance with such U.S.
Holder's method of accounting for U.S. federal income tax purposes. The amount
of income taxable to a U.S. Holder will include the amount of any Brazilian
taxes withheld (as described above under "Brazilian Tax Considerations") by us
in respect thereof. Thus, a U.S. Holder could be required to report income in an
amount greater than the cash it receives in respect of payments on its notes.
Such interest income will be treated as derived from sources outside the United
States.
Market Discount and Premium
If a U.S. Holder purchases a note for an amount that is less than its
stated principal amount, such note will be treated as having "market discount"
equal to the amount of such difference (unless such difference is less than a
specified de minimis amount).
Unless a U.S. Holder elects to accrue market discount as described below,
such U.S. Holder will be required to treat any partial principal payment on, or
any gain realized on the sale, exchange, or retirement of, a note having market
discount as ordinary income to the extent of the lesser of (i) the amount of
such payment or realized gain or (ii) the market discount that has not
previously been included in gross income and is treated as having accrued on
such note at the time of such payment or disposition. Market discount on a note,
if any, will be considered to accrue on a straight-line basis during the period
from the date of acquisition to the maturity date of the note, unless the U.S.
Holder elects to accrue on a constant yield basis.
A U.S. Holder may be required to defer the deduction of all or a portion of
the interest paid or accrued on any indebtedness incurred or maintained to
purchase or carry a note having market discount until the maturity of the note
or its earlier disposition. A U.S. Holder may elect to include market discount
in income currently as it accrues (on either a straight-line or a constant yield
basis), in which case such U.S. Holder will not be subject to the rules
described above regarding the treatment of gain upon the disposition of, and the
receipt of certain cash payments on, a note as ordinary income and regarding the
deferral of interest deductions.
If a U.S. Holder purchases a note for an amount that is greater than its
stated principal amount, such U.S. Holder will be considered to have purchased
the note at a "premium" equal to such excess, and may elect to amortize such
premium, on a constant yield basis, over the remaining term of the note (subject
to special rules concerning early call provisions). If an election to amortize
the premium on a note, if any, is not made, the premium will decrease the gain
or increase the loss otherwise recognized on a taxable disposition of the note.
58
An election to include market discount in income currently, or to amortize
premium, once made, applies to all debt obligations acquired, and held in the
case of an election to amortize premium, by the electing U.S. Holder on or after
the first day of the first taxable year to which the election applies and may
not be revoked without the consent of the Internal Revenue Service.
Sale, Exchange or Retirement of the Notes
A U.S. Holder's adjusted tax basis in a note generally will equal the cost
of the note to the U.S. Holder, increased by the amount of any market discount
previously included in gross income, and reduced by the amount of any premium
amortized and payments (other than payments of stated interest) previously
received, by the U.S. Holder with respect to such note. Upon the sale, exchange
or retirement of a note, a U.S. Holder generally will recognize gain or loss
equal to the difference between the amount realized on the sale, exchange or
retirement (other than amounts attributable to accrued but unpaid interest not
previously included in gross income, which will be taxable as ordinary interest
income), and such holder's adjusted tax basis in the note. Subject to the
foregoing discussion regarding the U.S. federal income tax treatment of notes
acquired at a market discount, such gain or loss recognized by a U.S. Holder on
the sale, exchange or retirement of a note generally will be capital gain or
loss and will be long-term capital gain or loss if the note was held for more
than one year at the time of the sale, exchange or retirement. Long-term capital
gain recognized by certain non-corporate U.S. Holders (including individuals)
will generally be subject to U.S. federal income tax at preferential rates. The
deduction of capital losses is subject to limitations for U.S. federal income
tax purposes. Gain from the sale, exchange or retirement of a note by a U.S.
Holder generally will be treated as U.S. source income.
Foreign Tax Credit
Interest income typically is treated as "passive" or "financial services"
income and is considered separately (together with other items of passive or
financial services income) for purposes of applying certain limitations on the
claiming of foreign tax credits under U.S. federal income tax law. However, if
interest income derived by a U.S. Holder in respect of the notes is subject to
Brazilian withholding tax at a rate of at least 5%, then such interest should
represent "high withholding tax interest" to the U.S. Holder (together with
other items of high withholding tax interest), and the foreign tax credit
limitations will apply separately to foreign income taxes attributable thereto.
Subject to such limitations and certain other conditions, any Brazilian income
taxes withheld from interest income derived by a U.S. Holder in respect of the
notes may be eligible for credit against the U.S. federal income tax liability
of the U.S. Holder. A U.S. Holder may not be able to obtain a foreign tax credit
benefit with respect to Brazilian income taxes, if any, imposed on any gain
resulting from a disposition of the notes, as such gain generally will not
constitute foreign source income. In lieu of claiming a credit for any foreign
income taxes paid in a taxable year, a U.S. Holder may elect to deduct such
foreign income taxes in computing its U.S. federal taxable income. The rules
relating to foreign tax credits are complex, and U.S. Holders should consult
their own tax advisors with regard to the availability of a foreign tax credit
and the application of the foreign tax credit limitations to their particular
situations.
Backup Withholding
A U.S. Holder may be subject to backup withholding at a rate of 28% on
payments of principal of, interest on (and additional amounts, if any), and the
proceeds of disposition of, a note. In general, backup withholding will apply
only if a U.S. Holder fails to comply with certain identification procedures,
fails to properly report payments of interest and dividends or otherwise fails
to comply with applicable requirements of the backup withholding rules. Backup
withholding will not apply with respect to payments made to certain exempt
recipients, such as corporations and tax-exempt organizations. Backup
withholding is not an additional tax and may be claimed as a credit against the
U.S. federal income tax liability of a U.S. Holder, provided that the required
information is timely furnished to the Internal Revenue Service.
F. Dividends and Paying Agents
Not applicable.
59
G. Statements by Experts
Not applicable.
H. Documents on Display
We are subject to the information requirements of the Securities Exchange
Act of 1934, as amended, pursuant to which we file reports and other information
with the Securities and Exchange Commission, or the Commission. Reports and
other information filed by us with the Commission may be inspected and copies
obtained at the public reference facilities maintained by the Commission at Room
1024, 450 Fifth Street, N.W., Washington, D.C. 20549 and at the Commission's
Regional Offices at Northwestern Atrium Center, 500 West Madison Street, Suite
1400, Chicago, IL 60661-2511 and 233 Broadway, New York, New York 10279. You may
obtain copies of this material by mail from the Public Reference Section of the
Commission, 450 Fifth Street, N.W., Washington, D.C. 20549, at prescribed rates.
We also file financial statements and other periodic reports with the CVM.
Copies of our annual reports on Form 20-F and documents referred to in this
annual report and our bylaws will be available for inspection upon request at
our headquarters at Rua Sete de Setembro, 362, Vitoria, Espirito Santo, Brazil
29015-000.
I. Subsidiary Information
Not applicable.
ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As a result of our dollar-denominated, short- and long-term debt, we are
exposed to changes in exchange rates between the real and the U.S. dollar. We
are also exposed to changes in interest rates and inflation rates. Virtually all
of our real-denominated, short- and long-term debt bears interest at floating
rates and the principal amount of some of this debt is also indexed for
inflation.
Foreign Exchange Rate Sensitivity
All of the amounts below are in thousands of reais, translated at the
commercial selling rate on December 31, 2002 of R$3.5333 to U.S.$1.00.
Our foreign currency exposure gives rise to market risks associated with
exchange rate movements against the U.S. dollar. Foreign currency denominated
liabilities as of December 31, 2002 include the notes, in the principal amount
of R$1,522,704, and other U.S. dollar-denominated borrowings in the amount of
R$241,878, for a total of R$1,764,582. In addition to the principal amount to be
paid by ESCELSA in connection with the notes, ESCELSA is required to make
payments of interest on the notes in the amount of R$152,271 per year from 2003
to 2007.
Of the other U.S. dollar-denominated borrowings, in the total amount of
R$241,878 at December 31, 2002, R$121,124 were short-term loans and R$120,754
were long-term loans. These loans bear interest ranging from 5.5% to 12.0% per
annum.
As of December 31, 2002, approximately 97% of our cash and cash
equivalents, in the total amount of R$296,329, were invested in dollar-linked
instruments. We believe that over the long-term, increase in our tariffs in
reais generate cash sufficient to counter currency devaluation affecting our
U.S. dollar-denominated loans, although there can be no assurance in this
regard. We hedge 97% of our marketable securities with U.S. dollar-linked
instruments.
60
Interest Rate Sensitivity and Sensitivity to Inflation Rates
We also have loans denominated in reais, which bear interest at variable
rates. The principal amount of certain loans is also indexed to inflation. In
times of high inflation, the Taxa de Juros de Longo Prazo, the Brazilian
long-term interest rate, or TJLP, is generally higher, i.e., the nominal rates
include an inflation factor. The TJLP ranged from 9.5% to 10.5% in 2002, with an
average of 10.0% per annum. Our real-denominated loans bear interest and are
indexed as follows:
Lender Principal Amount Interest Rate Indexation Rate
BNDES........ R$384,284 TJLP + 4.0% not indexed
BNDES........ R$228,354 SELIC + 1.0% not indexed
Other........ R$113,194 10 - 12% CDI/IGP-M/INPC/UFIR
As demonstrated above, we pay interest on the BNDES loans at the rate of
TJLP plus 3.84% - 4.5% and SELIC plus 1.0% per annum. However, the agreements
with BNDES provide that if the TJLP in a given year is higher than 6% (and,
therefore, the total interest rate would be higher than 10%), we will only be
required to pay interest at the rate of 10% and the excess will be incorporated
into the principal amount of the loan, and amortized over the term of the
agreements. As a result, if the TJLP increased over 6%, there would not be any
impact on the interest payments on the BNDES loans.
Of the debt indexed to inflation, approximately R$19.57 million,
corresponding to the ELETROBRAS loan, required payment of principal of R$7
million in 2003. The remainder of this debt, in the amount of R$93.6 million,
was indexed to inflation and has varying payment terms. The contracts with
ELETROBRAS specify that inflation indexing is done only on an annual basis.
Therefore, the payments due in 2002, were indexed to inflation based on the
inflation rate for 2002. Only the payments due in 2003 will be indexed to
inflation based on the 2003 inflation rate.
There-
2003 2004 2005 2006 2007 2008 After Total Fair Value
---- ---- ---- ---- ---- ---- ----- ----- ----------
LIABILITIES:
Long-Term Debt, including
Current portion
Denominated and expressed in
U.S.dollars:
Fixed Rate
US$........................... 31.188 5.259 1.657 844 431.802 303 3.243 474.296 312.363
Average interest rate......... 10,0% 10,0% 10,0% 10,0% 10,0% 7,0% 7,0%
Variable Rate
US$........................... 3.199 3.756 3.756 3.610 3.464 2.101 5.233 25.119 23,115
Average interest rate......... LIBOR LIBOR LIBOR LIBOR LIBOR LIBOR LIBOR
Spread range is + + + + + + +
5.5% to 6.9% "Spread" "Spread" "Spread" "Spread" "Spread" "Spread" "Spread"
Average interest rate........
Considering LIBOR effective
On December 31, 2002 6.2% 6,3% 6,2% 6,1% 6,0% 5,8% 5,7%
Denominated and expressed in
Brazilian reais:
BNDES financing 93.832 104.033 70.493 48.906 22.462 11.603 25.319 376.648 376.648
Average interest rate......... TJLP TJLP TJLP TJLP TJLP TJLP TJLP
Spread range is + + + + + + +
3.8% to 4.5% Spread Spread Spread Spread Spread Spread Spread
Average interest rate.........
Considering SELIC effective
On December 31, 2002 4.0% 3.9% 3.9% 3.9% 4.0% 4.1% 4.2%
61
BNDES financing 38.576 38.714 38.839 38.975 53.979 19.271 - 228.354 228.354
Average interest rate........ SELIC+ SELIC+ SELIC+ SELIC+ SELIC+ SELIC+ SELIC+
Spread is 1.0% Spread Spread Spread Spread Spread Spread Spread
Other financing 77.929 8.716 5.804 7.182 9.819 3.744 - 113.194 113.194
CDI
Average interest rate......... IGPM IGPM IGPM
INPC INPC INPC INPC INPC INPC INPC
Spread range is + + + + + + +
10% to 12% Spread Spread Spread Spread Spread Spread Spread
Considering IGPM effective 10,9% 10,6% 9,8% 9,6% 9,6% 9,6%
Fixed Rate
thousands of reais............ 5.664 5.984 8.365 8.365 7.842 6.895 34.950 78.065 78.065
Average interest rate......... 11,8% 11,8% 11,7% 11,7% 11,8% 11,9% 12,0%
ASSETS:
Denominated in U.S. dollars: 83.867 83.867 83.867
Securities linked dollar
Average rate 10,4% -
ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES
Not applicable.
PART II
ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES
Not applicable.
ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF
PROCEEDS
Not applicable.
ITEM 15. DISCLOSURE CONTROLS AND PROCEDURES
Our chief executive officer and our chief financial officer, after
evaluating the effectiveness of our disclosure controls and procedures (as
defined in the U.S. Securities Exchange Act of 1934 under Rules 13a-14(c))
within 90 days of the date of this annual report, have concluded that, as of
that date, our disclosure controls and procedures were effective to ensure that
material information relating to us was made known to them by others within our
company particularly during the period in which this annual report and accounts
was being prepared.
There were no significant changes in our internal controls or in other
factors that could significantly affect these controls and procedures subsequent
to the date our chief executive officer and our chief financial officer
completed their evaluation, nor were there any significant deficiencies or
material weaknesses in our internal controls requiring corrective actions.
ITEM 16. [RESERVED]
62
PART III
ITEM 17. FINANCIAL STATEMENTS
We have chosen to provide information under Item 18 in lieu of this item.
63
ITEM 18. FINANCIAL STATEMENTS
See pages F-1 through F-61, in response to Item 18 of this annual report.
a) List of financial statements
Page
-----------
Independent Auditors' Report........................................................................ F-2
Consolidated Balance Sheets as of December 31, 2002 and 2001........................................ F-4
Consolidated Statements of Operations for the years ended December 31, 2002, 2001 and 2000.......... F-6
Consolidated Statements of Changes in Shareholders' equity for the years ended
December 31, 2002, 2001 and 2000.................................................................... F-7
Consolidated Statements of Changes in Financial Position for the years ended
December 31, 2002, 2001 and 2000.................................................................... F-8
Consolidated Statements of Cash Flows for the years ended
December 31, 2002, 2001 and 2000.................................................................... F-10
Notes to the Consolidated Financial Statements for the years ended
December 31, 2002, 2001 and 2000.................................................................... F-12
ITEM 19. EXHIBITS
Exhibit
Number Description
- ------- -----------
1. Bylaws in English of Espirito Santo Centrais Electricas S.A. - ESCELSA
2(c) Supplemental Indenture dated December 13, 2002, between Espirito Santo
Centrais Electricas S.A. - ESCELSA and J.P. Morgan Chase Bank
4(a).1 Purchase and Sale of Electrical Energy dated December 23, 2002 between
Espirito Santo Centrais Electricas S.A. - ESCELSA and
Enertrade-Comercializadora de Energia S.A.
4(a).2 Purchase and Sale of Electrical Energy dated December 23, 2002 between
ENERSUL-Empresa Energetica do Mato Grosso do Sul S.A. and
Enertrade-Comercializadora de Energia S.A.
4(a).3 R$166 Million Credit Facility, as amended, dated February 18, 2002
between Banco Nacional de Desenvolvimento Economico e Social-BNDES and
Espirito Santo Centrais Electricas S.A. - ESCELSA
4(a).4 R$101 Million Credit Facility, as amended, dated February 19, 2002
between Banco Nacional de Desenvolvimento Economico E Social-BNDES and
Empresa Energetica de Mato Grosso do Sul S.A. - ENERSUL
4(b).1 Purchase and Sale of Electrical Energy dated December 23, 2002 between
Espirito Santo Centrais Electrica S.A. - ESCELSA and Enercouto S.A.
4(b).2 Purchase and Sale of Electrical Energy dated December 23, 2002 between
ENERSUL-Empresa Energetica do Mato Grosso do Sul S.A. and Enercouto
S.A.
4(b).3 Purchase and Sale of Electrical Energy dated December 23, 2002 between
Espirito Santo Centrais Electrica S.A. - ESCELSA and Enerpeixe S.A.
4(b).4 Purchase and Sale of Electrical Energy dated December 23, 2002 between
ENERSUL-Empresa Energetica do Mato Grosso do Sul S.A. and Enerpeixe
S.A.
64
6. Computation of earnings per share (See note 29(b).7 to our financial
statements)
8. List of subsidiaries (See "Item 4D - Organizational Structure")
12(a)1. CEO Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
12(a)2. CFO Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
65
ANNEX A
GLOSSARY OF TERMS
ANEEL................................ Agencia Nacional de Energia Eletrica,
the Brazilian Electric Energy
Regulatory Agency, responsible for
regulating the electric energy sector.
Average Tariff or Rate............... Total sales revenue divided by total
number of MWh sold for each relevant
period. Total sales revenue, for the
purpose of computing average tariff or
rate, consists of gross revenues not of
value-added tax (ICMS).
Capacity Charge...................... The charge for purchases or sales based
on contracted firm capacity whether or
not used.
Distribution......................... Distribution is the transfer of
electricity from transmission lines at
supply points on the network and
its delivery to customers through a
distribution system. ESCELSA's
distribution system consists of a
widespread network of primarily above
ground networks and lines at voltages
between 11.4kV and 34.5kV. The
electricity is passed through
distribution transformers and is
delivered at a voltage of 127 volts to
customers in residential, small
industrial and commercial segments as
well as to public utilities and other
customers.
Distributors......................... An organization supplying electrical
energy to a group of consumers by means
of a distribution network.
Energy Charge........................ Refers to the variable charge for
purchases or sales based on actual
electricity consumed.
Final Customer or
Final Consumer
(End User)........................... A customer who uses electricity for its
own needs.
Firm Capacity........................ The amount of electric energy that
can be delivered from a given power plant
with a 95% degree of certainty (or
higher), determined in accordance with
certain prescribed statistical models.
Gigawatt (GW)........................ 1,000,000,000 watts (1,000 megawatts).
Gigawatt-hour (GWh).................. A gigawatt of power that is supplied or
demanded for a period of one hour.
Hydroelectric Plant.................. A generation plant which uses water power
to turn an electric generator.
Installed Capacity................... The amount of electric power that can be
delivered from a given generator at full
power under specified conditions as
indicated by the manufacturer.
Interconnected Power System.......... Systems or networks connected together by
means of one or more links (lines and/or
transformers).
Interruptible Energy................. The load of certain consumers for which
supply may be interrupted for a specified
period of time as per contractual
agreement.
A-1
Kilovolt (kV)........................ 1,000 volts.
Kilowatt (kW)........................ 1,000 watts.
Kilowatt-hour (kWh).................. A kilowatt of power that is supplied or
demanded for a period of one hour.
Load Factor.......................... The ratio, expressed as a numerical value
or as a percentage, of the consumption
within a specified period (year, month,
day, etc.) to the consumption that
would result from continuous use of the
maximum or other specified demand
occurring within the same period.
Megawatt (MW)........................ 1,000,000 watts (1,000 kilowatts).
Megawatt-hour (MWh).................. A megawatt of power that is supplied or
demanded for a period of one hour.
MVA.................................. One million volt-amperes.
Peak Load............................ The average load (power) during a time
interval of specified duration occurring
within a given period of time, that time
interval being selected during which
the average power is greatest.
Primary Energy....................... The energy generated by hydroelectric and
thermal plants of the system in order to
meet demands for firm service plus
reserve requirements.
Secondary Energy..................... See interruptible energy.
South Region......................... The States of Parana, Rio Grande do Sul
and Santa Catarina.
Southeast Region..................... The States of Sao Paulo, Rio de Janeiro,
Minas Gerais and Espirito Santo.
Substation........................... An assemblage of equipment which
interchanges and/or alters or regulates
the voltage of electricity within
transmission and distribution system.
Thermoelectric Plant................. A generation plant which uses hydrocarbon
fuel, such as coal, oil, diesel, natural
gas, as a source of energy to turn the
electric generator.
Transmission......................... The transfer of electricity (in lines
with capacity between 750 kV and 34.5 kV)
from generation facilities to the
distribution system in a charge center by
means of the transmission network.
Unbilled Electricity................. Electricity which has been consumed by a
customer, but for which a meter reading
has not been taken, and thus no
corresponding invoice generated.
Volt................................. Standard unit of electric potential or
electromotive force.
Watt................................. The basic unit of electric energy.
Wheeling or Transportation........... A transportation charge expressed in
reais.
A-2
Item 18 Financial Statements
Espirito Santo Centrais Electricas S.A. - ESCELSA
INDEX TO FINANCIAL STATEMENTS
Page
----
Independent Auditors' Report.................................................................. F-2
Consolidated Balance Sheets as of December 31, 2002 and 2001.................................. F-4
Consolidated Statements of Operations for the years ended December 31, 2002, 2001 and 2000.... F-6
Consolidated Statements of Changes in Shareholders' Equity for the years ended
December 31, 2002, 2001 and 2000.............................................................. F-7
Consolidated Statements of Changes in Financial Position for the years ended
December 31, 2002, 2001 and 2000........................................................... F-8
Consolidated Statements of Cash Flows for the years ended
December 31, 2002, 2001 and 2000........................................................... F-10
Notes to the Consolidated Financial Statements for the years ended
December 31, 2002, 2001 and 2000........................................................... F-12
F-1
Independent Auditors' Report
To the Board of Directors and Shareholders of
Espirito Santo Centrais Eletricas S.A. - Escelsa
Vitoria - ES, Brazil
- --------------------
(1) We have audited the accompanying consolidated balance sheets of Espirito
Santo Centrais Eletricas S.A. - Escelsa (a Brazilian Corporation) and
subsidiaries ("the Company") as of December 31, 2002 and 2001, and the
related consolidated statements of operations, changes in shareholders'
equity and changes in financial position for each of the three years in the
period ended December 31, 2002. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audits.
(2) We conducted our audits in accordance with auditing standards generally
accepted in Brazil and the United States of America. Those standards
require that we plan and perform the audit to obtain reasonable assurance
about whether the consolidated financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
(3) In our opinion, the consolidated financial statements referred to in the
first paragraph present fairly, in all material respects, the consolidated
financial position of the Company as of December 31, 2002 and 2001, and the
results of its operations, changes in its shareholders' equity and changes
in its financial position for each of the three years in the period ended
December 31, 2002 in conformity with accounting practices adopted in
Brazil.
(4) Accounting practices adopted in Brazil vary in certain significant respects
from accounting principles generally accepted in the United States of
America ("U.S. GAAP"). The application of the latter would have affected
the determination of results of operations for each of the three years in
the period ended December 31, 2002 and shareholders' equity and financial
position at December 31, 2002 and 2001 to the extent summarized in Note 29.
(5) Our audits were conducted for the purpose of forming an opinion on the
basic financial statements under accounting practices adopted in Brazil
taken as a whole. The consolidated statements of cash flows for each of the
three years in the period ended December 31, 2002 are presented for
purposes of additional analysis and are not a required part of the basic
financial statements under accounting practices adopted in Brazil. Such
information has been subjected to the auditing procedures applied in our
audits of the basic financial statements and, in our opinion, is fairly
stated in all material respects in relation to the basic financial
statements taken as a whole.
(6) As mentioned in Note 5 to the financial statements, as of December 31,
2002, the Company has recorded accounts receivable in the amount of
R$56,921,000 and accounts payable in the amount of R$36,545,000, relating
to electric power sale and purchase transactions carried-out in the
Electric Power Wholesale Market - MAE, based on information released by the
MAE. These amounts may be subject to changes depending on the outcome of
current judicial processes filed by energy market participants, with
respect to the interpretation of market regulations in effect and the
results of an independent audit of the information released by the MAE. The
financial settlement of these amounts was scheduled for November 22, 2002,
but was postponed as a result of a new agreement among the companies in the
electric energy sector and the Federal Government, which established an
initial liquidation of fifty-percent (50%) of the net amounts receivable
(owed) and a final liquidation of the remaining fifty-percent after the
completion of an independent audit of the information released by the MAE.
Subsequent to December 31, 2002 and through the date of this report, the
Company has received R$4,009,000 from the initial liquidation of
fifty-percent.
F-2
Espirito Santo Centrais Eletricas S.A. - Escelsa
(7) On December 21, 2001, the Provisional Measure (Executive Order) no. 14 was
issued, converted into Federal Law no. 10.438 of April 26, 2002, providing,
among other things, for the reestablishment, for the rationing period, of
the financial-economic equilibrium of the electric power distribution
companies, as guaranteed in the concession agreements. The detailed
information and the effects of the General Agreement of the Electric Sector
on the financial position and the results of operations are disclosed in
Note 6 to the financial statements.
/s/ Deloitte Touche Tohmatsu
February 14, 2003
F-3
ESPIRITO SANTO CENTRAIS ELETRICAS S.A. - ESCELSA AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 2002 AND 2001
(In thousands of Brazilian reais)
A S S E T S
2002 2001
------------------ ---------------
CURRENT:
Cash and banks 20,008 2,637
Accounts receivable 426,860 337,361
Other accounts receivable 8,028 9,033
Recoverable taxes 68,543 81,206
Provision for doubtful accounts (37,760) (28,778)
Materials and supplies 6,174 7,255
Marketable securities 306,620 256,859
Escrow deposits 39,382 39,382
Services in progress 7,250 7,541
Assets held for sale - UTE Campo Grande 25,891 -
Other credits 14,871 10,491
Prepaid expenses 24,476 8,610
--------- --------
910,343 731,597
--------- --------
NON-CURRENT:
Accounts receivable 297,544 250,730
Tariff bonus and surcharges 9,718 47,664
Related companies 65,505 52,849
Escrow deposits 94,553 76,816
Deposits 5,956 3,613
Debt issuance costs 2,690 3,426
Deferred income and social contribution taxes 312,933 231,309
Low income consumers 18,718 -
Other credits 23,897 19,157
Prepaid expenses 142,373 86,002
--------- --------
973,887 771,566
--------- --------
PERMANENT:
Investments 2,159 2,621
Goodwill 427,709 439,770
Property, plant and equipment, net 1,967,475 2,031,235
Deferred charges 79 79
--------- ---------
2,397,422 2,473,705
--------- ---------
TOTAL 4,281,652 3,976,868
========= =========
The accompanying notes are an integral part of the financial statements.
F-4
ESPIRITO SANTO CENTRAIS ELETRICAS S.A. - ESCELSA AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 2002 AND 2001
(In thousands of Brazilian reais)
LIABILITIES
2002 2001
---------------------------------
CURRENT:
Suppliers 155,615 178,976
Payroll 2,968 2,389
Accrued interest and fees 83,836 52,787
Loans and financing 337,125 246,815
Accrued taxes and social contributions 48,482 48,235
Dividends 30 4,083
Post-retirement benefits 2,042 2,420
Accrued obligations 23,735 22,016
Regulatory charges 12,886 13,815
Accrual for contingencies 39,382 39,382
Variation of Parcel A items 10,226 226
Other accounts payable 17,520 11,827
--------- ---------
733,847 622,971
--------- ---------
LONG - TERM:
Suppliers 83,781 84,600
Accrued interest and fees 3,590 1,289
Loans and financing 2,223,718 1,498,063
Post-retirement benefits 28,212 28,032
Deferred income taxes 194,266 214,093
Accrual for contingencies 166,367 139,811
Variation of Parcel A items 32,019 452
Other accounts payable 54,341 48,389
--------- ---------
2,786,294 2,014,729
--------- ---------
MINORITY INTEREST 205,729 245,343
--------- ---------
SHAREHOLDERS' EQUITY:
Capital stock 239,141 239,141
Capital reserves 311,379 849,422
--------- ---------
550,520 1,088,563
--------- ---------
Credits for capital increase 5,262 5,262
--------- ---------
555,782 1,093,825
--------- ---------
TOTAL 4,281,652 3,976,868
========= =========
The accompanying notes are an integral part of the financial statements.
F-5
ESPIRITO SANTO CENTRAIS ELETRICAS S.A. - ESCELSA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
(In thousands of Brazilian reais, except per share amounts)
2002 2001 2000
----------------------------------------------
OPERATING REVENUES:
Electricity sales to final customers 1,635,340 1,617,617 1,313,126
Electricity sales to distributors 40,357 83,519 42,723
Use of transmission and distribution system 17,082 1,877 -
Other revenues 30,499 27,769 32,944
-------------------- -------------- ---------------
1,723,278 1,730,782 1,388,793
-------------------- -------------- ---------------
TAXES ON SALES (424,140) (345,297) (330,229)
-------------------- -------------- --------------
NET OPERATING REVENUES 1,299,138 1,385,485 1,058,564
-------------------- -------------- ---------------
OPERATING EXPENSES
Personnel (111,354) (108,271) (115,014)
Material (13,690) (14,285) (15,491)
Fuel for electric energy production (2,663) (6,679) (1,873)
Third-party services (60,415) (53,640) (55,834)
Electricity purchased for resale (602,912) (585,287) (416,561)
Charges for the use of transmission and distribution system (106,115) (89,902) (83,578)
Depreciation and amortization (173,165) (149,138) (140,906)
Regulatory charges (106,184) (97,377) (99,856)
Provision for contingencies (10,197) (29,931) (2,908)
Other (48,171) (51,054) (19,530)
-------------------- -------------- --------------
(1,234,866) (1,185,564) (951,551)
-------------------- -------------- --------------
INCOME FROM OPERATIONS 64,272 199,921 107,013
-------------------- -------------- --------------
FINANCIAL EXPENSES, NET (670,419) (235,831) (23,499)
-------------------- -------------- --------------
OPERATING PROFIT (LOSS) (606,147) (35,910) 83,514
-------------------- -------------- --------------
NON-OPERATING EXPENSES, NET (74,965) (24,384) (13,325)
-------------------- -------------- --------------
INCOME (LOSS) BEFORE INCOME TAX, SOCIAL
CONTRIBUTION AND MINORITY INTEREST (681,112) (60,294) 70,189
-------------------- -------------- --------------
INCOME TAX AND SOCIAL CONTRIBUTION
Current (2,465) (2,189) (863)
Deferred 105,831 13,201 (13,365)
-------------------- -------------- --------------
103,366 11,012 (14,228)
-------------------- -------------- --------------
(577,746) (49,282) 55,961
-------------------- -------------- --------------
MINORITY INTEREST 38,833 (10,794) (3,314)
-------------------- -------------- --------------
NET INCOME (LOSS) (538,913) (60,076) 52,647
==================== ============== ==============
SHARES OUTSTANDING AT YEAR END 4,550,833 4,550,833 4,550,833
==================== ============== ==============
INCOME (LOSS) PER SHARE - R$ (in Brazilian Reais) (118.42) (13.20) 11.57
==================== ============== ==============
The accompanying notes are an integral part of the financial statements.
F-6
ESPIRITO SANTO CENTRAIS ELETRICAS S.A. - ESCELSA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
(In thousands of Brazilian reais)
CAPITAL CAPITAL INCOME RETAINED
STOCK RESERVE RESERVE EARNINGS
---------------- ------------- -------------- ----------------
BALANCES AT DECEMBER 31, 1999 239,141 924,069 - -
Deferred income tax on price-level restatement of
Shareholders' equity (35,895)
Net income - - - 52,647
Proposed destination of net income for the year-
Legal reserve - - 188 (188)
Proposed dividends ( R$ 2.91 reais per share) - - (9,681) (3,564)
Income reserve - - 13,000 (13,000)
---------------- ------------- -------------- -----------------
BALANCES AT DECEMBER 31, 2000 239,141 924,069 3,507 -
---------------- ------------- -------------- -----------------
Remuneration on construction in progress - 2,325 - -
Recognition of pension and other
postretirement obligations under CVM Instruction 371 - - - (20,403)
Net loss - - - (60,076)
Absorption of loss for the year - (76,972) (3,507) 80,479
---------------- ------------- -------------- -----------------
BALANCES AT DECEMBER 31, 2001 239,141 849,422 - -
---------------- ------------- -------------- -----------------
Remuneration on construction in progress - 870 - -
Loss for the year - - - (538,913)
Absorption of loss for the year - (538,913) - 538,913
---------------- ------------- -------------- -----------------
BALANCES AT DECEMBER 31, 2002 239,141 311,379 - -
================ ============= ============== ================
CREDITS
FOR
SUB CAPITAL
TOTAL INCREASE TOTAL
---------------- -------------- -----------------
BALANCES AT DECEMBER 31, 1999 1,163,210 5,262 1,168,472
Deferred income tax on price-level restatement of
Shareholders' equity (35,895) (35,895)
Net income 52,647 - 52,647
Proposed destination of net income for the year- - - -
Legal reserve - - -
Proposed dividends ( R$ 2.91 reais per share) (13,245) - (13,245)
Income reserve - - -
---------------- -------------- -----------------
BALANCES AT DECEMBER 31, 2000 1,166,717 5,262 1,171,979
---------------- -------------- -----------------
Remuneration on construction in progress 2,325 - 2,325
Recognition of pension and other
postretirement obligations under CVM Instruction 371 (20,403) - (20,403)
Net loss (60,076) - (60,076)
Absorption of loss for the year - - -
---------------- -------------- -----------------
BALANCES AT DECEMBER 31, 2001 1,088,563 5,262 1,093,825
---------------- -------------- -----------------
Remuneration on construction in progress 870 - 870
Loss for the year (538,913) - (538,913)
Absorption of loss for the year - - -
---------------- -------------- -----------------
BALANCES AT DECEMBER 31, 2002 550,520 5,262 555,782
================ ============== =================
The accompanying notes are an integral part of the financial statements.
F-7
ESPIRITO SANTO CENTRAIS ELETRICAS S.A. - ESCELSA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN FINANCIAL POSITION
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
(In thousands of Brazilian reais)
2 0 0 2 2 0 0 1 2 0 0 0
------------ ------------ ------------
SOURCES OF FUNDS
From operations
Net income (loss) (538,913) (60,076) 52,647
Expenses (income) not affecting net working capital:
Monetary and exchange variation on long-term liabilities 579,551 174,590 (7,134)
Depreciation and amortization 173,165 149,138 140,906
Disposal of property, plant and equipment 13,736 25,266 17,026
Provision for loss on UTE Campo Grande disposal 77,291 - -
Deferred income taxes (105,831) (13,201) 13,365
Regulatory assets (30,771) (138,591) -
Provision for contingencies 22,347 71,724 2,180
Other provisions 8,755 12,428 -
Minority interest (38,833) 10,794 3,314
Other 4,052 436 -
------------ ------------ ------------
164.549 232,508 222,304
------------ ------------ ------------
From third parties
Loans and financing 250,078 124,890 71,082
Obligations related to the concession 6,185 14,773 5,038
Post-retirement benefits - 7,629 -
Decrease in non-current - 49,856 -
Tariff bonus and surcharges 24,229 - -
Proceeds from sale of investment - 3,718 -
Variation of Parcel A items 27,204 - -
Other 8,512 5,780 6,129
------------ ------------ ------------
316,208 206,646 82,249
------------ ------------ ------------
Total sources of funds 480,757 439,154 304,553
------------ ------------ ------------
APPLICATIONS OF FUNDS
Non current assets 29,792 51,941 39,973
Property, plant and equipment 187,969 188,349 180,919
Investments (290) - 2,394
Prepaid expenses 56,371 86,002 -
Transfer from long-term to current liabilities 115,148 80,542 85,087
Proposed dividends 1,491 4,083 16,559
Tariff bonus and surcharges - 34,516 -
Related companies 3,387 31,878 24,093
Low income consumers 18,718 - -
Others 301 2,980 -
------------ ------------ ------------
Total applications of funds 412,887 480,291 349,025
------------ ------------ ------------
INCREASE (DECREASE) IN WORKING CAPITAL 67,870 (41,137) (44,472)
------------ ------------ ------------
Variation of working capital
Current assets:
F-8
Beginning of the year 731,597 586,659 595,728
End of the year 910,343 731,597 586,659
------------ ------------ ------------
178,746 144,938 (9,069)
------------ ------------ ------------
Current liabilities:
Beginning of the year 622,971 436,896 401,493
End of the year 733,847 622,971 436,896
------------ ------------ ------------
110,876 186,075 35,403
------------ ------------ ------------
INCREASE (DECREASE) IN WORKING CAPITAL 67,870 (41,137) (44,472)
------------ ------------- ------------
The accompanying notes are an integral part of the financial statements.
F-9
ESPIRITO SANTO CENTRAIS ELETRICAS S.A. - ESCELSA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
(In thousands of Brazilian reais)
2 0 0 2 2 0 0 1 2 0 0 0
---------------- --------------- --------------
Cash flows from operating activities
Net income (loss) (538,913) (60,076) 52,647
Adjustments to reconcile net income (loss) to net cash provided by
(used in) operating activities
Monetary and exchange variation on assets and liabilities 577,723 176,462 (7,134)
Depreciation and amortization 173,165 149,138 140,906
Allowance for doubtful accounts 8,982 20,922 (1,229)
Loss on disposal of property, plant and equipment 13,736 25,266 17,026
Provision for contingencies 22,347 71,724 2,180
Interest accrued on marketable securities (38,218) (12,388) (35,094)
Provision for loss on UTE Campo Grande disposal 77,291 - -
Provision for loss on investment 8,755 12,428 -
Regulatory assets (28,074 (218,056) -
Minority interest (38,833) 10,794 3,314
Deferred income taxes (105,831) (13,201) 13,365
Others 3,310 (1,436) (342)
---------------- --------------- --------------
135,440 161,577 185,639
---------------- --------------- --------------
Changes in operating assets and liabilities
Accounts receivable (107,575) (62,894) (45,212)
Marketable securities (13,154) 29,232 1,212
Other accounts receivable 13,668 (1,934) (4,722)
Recoverable taxes 12,663 (46,976) 1,870
Bonus paid and costs incurred - emergency rationing program 24,234 (34,516) -
Variation of Parcel A items (17,281) (86,002) -
Material and supplies 1,081 (1,519) 3,665
Escrow deposits (17,944) (19,203) (6,863)
Prepaid expenses (15,866) (3,391) 7,938
Suppliers (23,378) 72,015 24,375
Accrued payroll 579 (173) (889)
Accrued taxes and social contributions 311 5,211 (58)
Accrued liabilities 1,388 11,789 (1,007)
Regulatory charges payable (929) (5,202) (555)
Assets held for sale - UTE Campo Grande (23,414) 30,054 3,957
Low income consumers (18,718) - -
Accrued interest and fees 26,012 10,887 (2,408)
Others 4,325 (4,557) 4,109
---------------- --------------- --------------
(153,998) (107,179) (14,588)
---------------- --------------- --------------
Net cash provided by (used in) operating activities (18,558) 54,398 171,051
---------------- --------------- --------------
F-10
Cash flows from investing activities
Additions to property, plant and equipment (187,970) (181,065) (180,919)
Proceeds from sale of investments 290 3,718 -
Additions to investments - - (2,394)
Net proceeds from marketable securities 1,611 1,658 59,025
Related companies (3,387) (18,368) (12,244)
Consumers' contributions and donations-special liabilities 6,185 14,773 5,038
---------------- --------------- --------------
Net cash provided by (used in) investing activities (183,271) (179,284) (131,494)
---------------- --------------- --------------
Cash flows from financing activities
Proceeds from new loans and financing 757,665 354,587 115,379
Repayment of loans and financing (533,099) (215,031) (156,421)
Dividends paid (5,366) (17,779) (1,284)
---------------- --------------- --------------
Net cash provided by (used in) financing activities 219,200 121,777 (42,326)
---------------- --------------- --------------
Increase (decrease) in cash and cash equivalents 17,371 (3,109) (2,769)
---------------- --------------- --------------
Cash and cash equivalents, beginning of year 2,637 5,746 8,515
---------------- --------------- --------------
Cash and cash equivalents, end of year 20,008 2,637 5,746
================ =============== ==============
Supplemental cash flows disclosure-
Taxes paid 8,100 46,976 10,620
Interest paid, net of interest capitalized 207,468 142,342 134,335
The accompanying notes are an integral part of the financial statements.
F-11
ESPIRITO SANTO CENTRAIS ELETRICAS S.A. - ESCELSA AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
(In thousands of Brazilian reais, unless otherwise noted)
1. THE COMPANY AND ITS OPERATIONS
a. The Company
Espirito Santo Centrais Eletricas S.A. - Escelsa, a Brazilian company
("sociedade anonima") located in the city of Vitoria, State of Espirito Santo,
was incorporated on July 1, 1968, as a partly state-owned company ("sociedade de
economia mista") with limited liability, organized under the laws of Brazil and
controlled by Centrais Eletricas Brasileiras S.A. - Eletrobras, a company
controlled by the Brazilian federal government. Iven S.A. and GTD Participacoes
S.A. acquired 50% (plus one share) of the common shares of Escelsa in the
privatization auction held on July 11, 1995. On January 19, 1996, Escelsa became
a registrant with the Comissao de Valores Mobiliarios (the "CVM"), the Brazilian
Securities Commission, and presently, its shares are traded on Brazilian stock
exchanges in small amounts. The Group Eletricidade de Portugal S.A. - EDP,
through Iven S.A. controls Escelsa's core business is the distribution of
electric energy in the State of Espirito Santo.
The Company also has a wholly-owned subsidiary, Magistra Participacoes S.A.,
which has a 87.9% and 50.6% interest in the common and preferred shares of
Empresa Energetica do Mato Grosso do Sul S.A. - Enersul ("Enersul"),
respectively. Enersul, an electricity distribution company with operations in
the state of Mato Grosso do Sul was acquired in a privatization bid auction on
November 25, 1997, . The Company also has a 97,40% interest in TV A Cabo Vitoria
S.A. - TVIX, which was incorporated on July 4, 1997 and provides cable TV
service to condominiums and residences in the municipalities of Vitoria and Vila
Velha in Espirito Santo. The Company has a 100% participation in ESCELSA
Participacoes S.A. - ESCELSAPAR, which provides internet and information
technology services.
The subsidiary Enersul has taken steps to raise funding through long-term
obligations with domestic and international banks due to of its liquidity
position and to improve its overall debt profile, both in terms of costs and
maturity.
b. Regulatory environment
As a public concessionaire of electric utility services, Escelsa and its
subsidiary Enersul are subject to regulations established by the Agencia
Nacional de Energia Eletrica (the National Agency of Electric Power, or
"ANEEL"), successor to the "Departamento Nacional de Aguas e Energia Eletrica"
("DNAEE"), which is related to the Brazilian Ministry of Mines and Energy.
Escelsa supplies electric energy to over 90% of the State of Espirito Santo,
with about 3.1 million people and a concession area of 41,372 km2 and connected
31,802 new consumers in 2002 with a total of 954,381 electric energy consumers
as of December 31, 2002. Escelsa generated from its 6 power plants approximately
14% of its energy sold. (All information unaudited).
The electricity sector in Brazil is regulated by the Brazilian federal
government, acting through the Ministry of Mines and Energy, which has exclusive
authority over the electricity sector. Regulatory policy for the sector is
implemented by an autonomous national electric energy agency (Agencia Nacional
de Energia Eletrica or "ANEEL"). ANEEL is responsible for (1) granting and
supervising concessions and setting electricity tariffs; (2) supervising and
performing financial examinations of the concessionary companies; (3) issuing
regulations
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applicable to the electricity sector; and (4) planning, coordinating
and executing water resource studies and granting and supervising concessions
for the use of water resources. The Company's electricity business is subject to
regulation by the Brazilian regulatory authority, ANEEL. Retail electricity
sales by the Company are made pursuant to provisions of its long-term
electricity sales concession agreements.
Pursuant to a concession contract signed by Escelsa on July 17, 1995 (the
"Escelsa Concession Contract"), Escelsa was granted the right to supply
electricity in 72 of the 77 municipalities that comprise the State of Espirito
Santo through the year 2025. In 2025, the Escelsa Concession Contract may be
renewed, at the discretion of the regulatory authorities, for an additional 30
years. The Escelsa Concession Contract establishes a tariff mechanism with three
types of adjustments. Escelsa may periodically apply for the first type of
adjustment, which takes into account the effects of inflation on Escelsa's
tariffs in order to maintain the "economic and financial equilibrium" of
Escelsa. The second type of adjustment permits Escelsa to request revisions to
its tariff rates from time to time, generally to pass through significant
changes in its cost structure that it does not control, particularly the cost of
electricity it purchases, that affect the "economic and financial equilibrium"
of Escelsa. In addition, ANEEL has the right, every three years, beginning in
July 1998, to adjust Escelsa's tariffs.
Escelsa primarily purchases electricity from Furnas Centrais Eletricas S.A. -
Furnas ("Furnas") (under a long-term electric energy supply contract), which
represented approximately 82% of its total energy sold. From the total energy
supplied by Furnas, approximately 29% is generated by Itaipu (hydroelectric
plant owned by Itaipu Binacional) and approximately 71% is generated by its own
power plants.
Pursuant to the Enersul Concession Contract, Enersul was granted the right to
distribute electricity in 72 of the 77 municipalities in Mato Grosso do Sul
through year 2027. Supplying electric energy to over 90% of the State of Mato
Grosso do Sul, with about 2.0 million people and a concession area of 329,270
km2, Enersul connected 24,246 new consumers in 2002 with a total of 2,754 GWh
electric energy consumers as of December 31, 2002. Enersul generated from its 8
power plants approximately 4% of its energy sold. (All information unaudited).
In 2027, the Enersul Concession Contract may be renewed, at the discretion of
the regulatory authorities, for an additional 30 years. Enersul also currently
owns one-generation plant (Mimoso) owned by Enersul pursuant to a concession
that was granted through the year 2027.
The Enersul Concession Contract establishes a tariff mechanism with a tariff
adjustment formula (the "Formula"). The Formula is adjusted annually and, in the
case of significant increases, may be adjusted upon request of Enersul. The
numerator of the Formula is comprised of two components: one related to costs
that Enersul does not control and should therefore be permitted to pass through
to its final customers, including the cost of electricity it purchases and
certain taxes, referred to as Parcel A costs, and the other related to costs
related to transmission, distribution and its own generation, such as
depreciation and amortization, personnel, materials and third party expenses,
that are adjusted to protect the utility against the effects of inflation,
referred to as Parcel B costs. The denominator of the Formula is Enersul's
annual net revenues. In addition, ANEEL has the right, every five years, to
adjust Enersul's tariffs to take into account efficiency gains achieved by
Enersul, technological advances or improvements, a comparison of Enersul's
tariffs with tariffs of foreign companies and the Brazilian economic situation.
Enersul primarily purchases electricity from Tractable and Itaipu (under a
long-term electric energy supply contracts) - approximately 86% of its total
energy needs.
As a result of changes in regulation in December 2001, the pricing provisions of
the contract are now linked to a tracking account which permits accumulation of
costs and recovery through future tariffs, changes for events such as exchange
rate changes between the Brazilian real and the U.S. dollar. In addition to the
annual adjustment, the Company may request additional rate adjustments arising
from significant events that disrupt the economic and financial equilibrium of
the business. Other normal, or recurring, events are also included as a specific
tariff increase and may include normal increases in purchased power costs, taxes
on revenue generated or local inflation. The Company has the burden to prove the
impact on its financial or economic equilibrium, and there can be no assurance
that such adjustments will be granted.
c. Power Rationing and Government Measures to Compensate Electric
Utilities
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Low amounts of rainfall in 2000 and early 2001, vigorous growth in demand for
energy and Brazil's significant dependence on electricity generated from
hydrological resources resulted in abnormally low water levels in many
reservoirs that are used to power Brazil's major hydroelectric generation
facilities. In May 2001, the Federal Government announced several measures in
response to these conditions. First, the President of Brazil passed Provisional
Measure No. 2,147 on May 15, 2001 (as updated by Provisional Measure No. 2,152-2
on June 1, 2001), creating the Chimera de Gets da Crise de Energia Eletrica, or
Energy Crisis Committee. The Energy Crisis Committee resolved on May 16, 2001 to
require certain electricity distributors, including us, to suspend distribution
of electricity to new customers (except residential and rural customers) and for
certain non-essential purposes such as nighttime sporting events and advertising
use, and to reduce distribution for the illumination of public areas by 35%.
Second, the President passed Decree No. 3,818 on May 15, 2001, requiring the
Federal Government to reduce its electricity consumption by 35% beginning July
1, 2001. Third, on May 18, 2001, the Federal Government announced additional
power rationing measures to be imposed on industrial, commercial and residential
customers in the most industrialized and heavily populate areas of Brazil
beginning on June 1, 2001. These measures required most residential consumers to
reduce their electricity consumption by 20% of the average consumption in May,
June and July 2000. Industrial and commercial consumers also had to reduce their
consumption by 15% to 25% of the average consumption during the same period.
Further measures provided that bonuses would be paid to residential consumers
whose energy consumption was lower than the requisite target and that power cuts
and surcharges would be imposed on consumers whose energy consumption exceeded
the requisite target. ANEEL established specific accounts and controls to record
the effect of the rationing measures relating to the bonus, surcharge and other
related costs. The power rationing measures ended on March 1, 2002.
On October 17, 2001, the Federal Government, through Provisional Measure No. 4,
subsequently approved by Law No. 10,310 of November 22, 2001, stated that
electric utilities, including the Company, would be reimbursed for expenses
associated with payment of bonuses to consumers and other related costs that
exceeded the surcharges.
Based on Resolution GCE no. 117, of 02/19/2002, the Emergency Program for
Reduction of Electrical Energy Consumption was extinguished, being determined
that, as from March 1, 2002, the surtax charged to customers who have exceeded
their consumption quotas is no longer applicable, however the bonus regulated by
Article 4 of Resolution GCE no. 4, of 05/22/2001, was maintained until March 31,
2002.
On June 6, 2002, Decree no. 4,261 extinguished the Emergency Energy Crisis
Management Chamber - GCE.
The General Electric Energy Sector Agreement, to which the Company became a
party on December 20, 2001, established mechanisms for settling contractual and
administrative disputes, thus eliminating the threat of judicial or
extra-judicial suits over issues arising from the electric energy-rationing
period. The main points of the Agreement are as follows:
o Renunciation to any plea or suit;
o Purchase agreements for net contractual surpluses;
o Agreements for reimbursement of free energy; and
o Amendments to the Initial Contracts.
Based on Provisional Measure no. 14, issued December 21 2001, converted
into Law 10,438 on April 26 2002, and on other pertinent legislation, the
Company calculated the amount of the revenue recomposition through an
extraordinary tariff applicable to all electric energy distribution companies,
for the purpose of neutralizing the
F-14
margin losses resulting from the Emergency Program for Reducing Electric Energy
Consumption - PERCEE, in effect from June 2001 to February 2002.
At the same time, along with the other electric energy distribution
utilities, the Company calculated the monthly variations in additional (Parcel
"A") non-managed costs, and listed all the additional energy purchase costs in
the Wholesale Energy Market - MAE ("Free Energy") to be reimbursed to electric
generators.
On March 8, 2002 and May 7, 2002, the Company sent ANEEL its calculations
of tariff recomposition for 2001 and for January and February 2002 for
validation. ANEEL declared that the right for compensation was conditional upon
complete adherence to the General Energy Sector Agreement, as allowed for in
Provisional Measure no. 14/01, GCE Resolution 91/01 and ANEEL Resolution 31/02.
ANEEL Resolutions 480 and 481 (concerning margin losses), 482 (concerning
Parcel "A" costs) and 483 (concerning Free Energy), all dated August 29, 2002,
approved the amounts of the revenue recomposition, for which the following
extraordinary electricity tariffs were established:
o 2.9% for residential clients (except low income users), rural users and
public lighting;
o 7.9% for all other clients.
Under the terms of ANEEL Resolution no. 484, also dated August 29, 2002,
the tariff recomposition will take place over a maximum period of 70 months (82
months - for Enersul), starting after December 2001.
Studies undertaken by the Company indicate that these assets will be fully
collected over the maximum term established, for which reason no provision for
losses was set-up.
The Brazilian Economic and Social Development Bank - BNDES - made available
credit lines to finance 90% of the recoveries of losses from the Rationing
Program, collateralized by the amounts to be collected under the extraordinary
tariff recomposition. See Note 17.
2. BASIS FOR PRESENTATION OF THE
FINANCIAL STATEMENTS
a. Requirements of Brazilian Legislation through December 31, 1995
Until December 31, 1995, publicly traded companies were required to publish
financial statements prepared pursuant to two methods: (i) the corporate law
method, which was valid for all legal purposes, and (ii) the constant currency
method, pursuant to which publicly traded companies presented supplementary
price-level adjusted financial statements.
F-15
Under the constant currency method, all historical Brazilian real amounts were
expressed in constant purchasing power at the latest balance sheet date. These
standards required that all transactions and balances recorded in a company's
statutory accounts under the corporate law method be monetarily restated to
reflect the changes caused by inflation (as measured by a specified inflation
index) from the date they occurred or were generated to the latest balance sheet
date. Accordingly, all relevant non-monetary assets and liabilities and
shareholders' equity accounts and all components of the statements of income,
changes in financial position and changes in shareholders' equity and the notes
thereto were monetarily restated to reflect changes in the inflation index to
the latest balance sheet date.
b. Changes in Legislation Affecting Financial
Statements After December 31, 1995
On December 26, 1995, the Brazilian government enacted Law no. 9,249 which
eliminated inflation accounting for the effects of inflation as from January 1,
1996 for tax and financial reporting purposes. However, accounting practices
adopted in Brasil ("Brazilian GAAP") continued to require inflation accounting
up to December 31, 2000.
On March 19, 1996, the CVM issued Instruction no. 248 stating that quarterly and
annual financial statements should be prepared in accordance with the Corporate
Law method (which did not account for the effects of inflation). However,
companies were allowed to present supplemental price-level adjusted financial
information, in accordance with the standards previously adopted. If a company
elected to prepare price-level adjusted financial statements for use outside
Brazil, such statements should also be filed with the CVM in Brazil.
With the change in legislation, the CVM did not define a specific index to be
used for the preparation of optional price-level adjusted financial statements.
The Brazilian Institute of Independent Public Accountants ("IBRACON")
recommended that either the IGP-M or the IGP-DI indices computed by the Getulio
Vargas Foundation might be used for this purpose.
The Company's management believed that the General Market Price Index, or the
"IGP-M" index was the most appropriate and consistent measure of inflation in
Brazil and elected the IGP-M for purposes of remeasurement of its financial
statements under the constant currency method, as from January 1, 1996, through
December 31, 2000. The inflation rate based on the IGP-M was 20% and 10% for
1999 and 2000, respectively. For 1998, as the inflation rate was less than 2%,
the constant currency method was not applied to the accounts.
In March 2001, the "Conselho Federal de Contabilidade - CFC " issued Resolution
No. 900, which was also approved by the CVM, establishing that inflation
accounting was no longer required under Brazilian GAAP, as of January 1, 2001,
as long as cumulative inflation over a three-year period remains under 100%.
Therefore, since Brazil's cumulative inflation for the three-year period ended
December 31, 2002 has been under 100% the financial statements for 2002 and 2001
are expressed in nominal reais. Financial statements for periods prior to
January 31, 2001 are expressed in constant Brazilian reais of December 31, 2000
purchasing power.
c. Presentation of Financial Statements
For Brazilian official financial reporting purposes, the Company prepared its
2000 financial statements under both the corporate law and constant currency
methods. As explained in b. above, no inflation effects were recognized after
December 31, 2000. The accompanying financial statements are a translation and
adaptation of the financial statements previously published in the Portuguese
language. Certain reclassifications and changes in terminology have been made in
relation to the previously published financial statements and, additionally,
notes have been expanded to conform more closely to the reporting practices
prevailing in the United States of America.
The reconciliation of shareholders' equity and net income reported under the
corporate law method and the amounts reflected in the accompanying consolidated
financial statements for 2002, 2001 and 2000 are as follows:
(i) Shareholders' Equity
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-------------------------------
December 31,
------------------------------
2002 2001
-------------- ---------------
As reported in the corporate law financial statements 223,021 731,403
Accounting for 2000 inflation not allowed
under corporate law method-
Investments 234 333
Goodwill 55,243 56,801
Property, plant and equipment 565,292 617,802
Special liabilities (79,623) (79,623)
Income tax and social contribution effect (160,348) (177,709)
Minority interest (48,037) (55,182)
-------------- ---------------
As reported in the accompanying financial statements (adjusted for
the effects of the price-level changes through December 31, 2000) 555,782 1,093,825
============== ==============
(ii) Net Income (Loss)
-------------------------------------------
2002 2001 2000
------------- -------------- --------------
As reported in the corporate law financial statements (509,252) (26,136) 3,752
Accounting for 2000 for inflation not allowed
Under corporate law method-
Investments (99) (452) 244
Goodwill - net of amortization (1,558) (384) 38,268
Property, plant and equipment - net of depreciation (52,510) (59,451) 91,936
Shareholders' equity - - (78,122)
Income tax and social contribution effect 17,361 19,764 (4,639)
Minority interest 7,145 6,583 1,208
------------- -------------- --------------
As reported in the accompanying financial statements (adjusted for
the effects of the price-level changes through December 31, 2000) (538,913) (60,076) 52,647
============= ============== ==============
3. SUMMARY OF ACCOUNTING POLICIES
The Company's accounting policies comply with Brazilian GAAP, which include the
accounting principles specifically applicable to electric utility companies in
Brazil as required by ANEEL. Certain accounting policies differ from U.S. GAAP.
See Note 29 for further discussions of the differences and the reconciliation of
shareholders' equity and net income to U.S. GAAP.
3.1 - Regulated Accounting Policies
(a) Regulation -- During 2001, the electricity markets in significant portions
of Brazil experienced rationing, or reduced availability of electricity to
customers, due to low rainfall, reduced reservoir levels and that country's
significant dependence on electricity generated from hydrological
resources. These factors resulted in lower sales for the Company. In
December 2001, electricity concessionaires including the Company reached an
industry-wide agreement (the "agreement") with the Federal Government that
provided resolution to all rationing related issues as well as to certain
other electricity rate-related issues. The rate increase set forth in the
agreement will remain in effect over a maximum period of 70 months for
Escelsa and 82 months for Enersul.
F-17
The agreement also considered the recovery of Parcel A costs, which are
certain costs that each distribution company is permitted to defer and pass
through to its customers through a future rate adjustments. Parcel A costs
are limited by the concession contracts to the cost of purchased power and
certain other costs and taxes. ANEEL had granted rate increases to recover
a portion of previously deferred Parcel A costs. However, due to
uncertainty surrounding the Brazilian economy, ANEEL had delayed approval
of some Parcel A rate increases. The agreement provided a tracking account
mechanism, previously created in October 2001 through Executive Order No.
296 to record the variation in the Parcel A costs for rate adjustment
calculation purposes. Parcel A costs incurred prior to January 1, 2001 are
not recoverable through the tracking account. As a result, the Company has
not recognized any regulatory asset for Parcel A costs incurred prior to
2001 (see Note 6).
As a result of various actions taken by the Federal Government and ANEEL in
2001 (see note 1.c.), the Company capitalizes incurred allowable costs as
deferred regulatory assets when there is a probable expectation that future
revenue equal to the costs incurred will be billed and collected as a
direct result of the inclusion of the costs in an increased tariff set by
the regulator. The deferred regulatory asset is eliminated when the Company
collects the related costs through billings to customers. ANEEL performs a
rate review on an annual basis. If ANEEL excludes all or part of a cost
from recovery, that portion of the deferred regulatory asset is impaired
and is accordingly reduced to the extent of the excluded cost. The Company
recorded deferred regulatory assets of R$392,352 at December 31, 2001, that
it expects to pass through to its customers in accordance with and subject
to regulatory provisions. The regulatory assets include R$213,934 and
R$93,818 at December 31, 2001, for recovery of lost revenues due to
rationing and Parcel A costs incurred in 2001, respectively. Additionally,
the Company recorded deferred regulatory assets for the cost of energy
traded on the spot market (energy not traded pursuant to contracts during
the rationing period) ("free energy") in the amount of R$84,600, which will
be recovered from consumers through an extraordinary rate increase
authorized by ANEEL (see Note 6).
(b) Property, Plant and Equipment--These assets are stated at acquisition or
construction cost, monetarily adjusted under the constant currency method
through December 31, 2000. Depreciation is computed on the straight-line
basis over the estimated useful lives of the assets . On January 1, 1998,
the Company adopted the new depreciation rates established by ANEEL in
Resolutions no. 2/97 and 44/99, using an average rate of 4.5% and 4.6% in
Escelsa and Enersul, respectively. The interest charges, monetary
variations and foreign exchange differences accrued on loans and financing
relating to construction work in progress are capitalized. Interest on the
shareholders' equity portion of the financing of electric energy-related
construction work in progress is also capitalized based on the "Taxa de
Juros de Longo Prazo" - the Brazilian long-term interest rate (the "TJLP"),
but limited to 10% per year through December 31, 1997. In 2001 and 2002,
the Company capitalized interest on its own capital; the actual TJLP was
used, without any limit. The corresponding amount is credited directly to a
capital reserve. During 2000, the Company and its subsidiaries did not
capitalize interest on shareholders' equity.
(c) Obligations Related do the Concession-- Refer to obligations linked to the
concession agreement for electric utilities and represent basically Federal
Union funds, donations requiring no return from the donor and subsidies and
contributions received from consumers destined for investments in the
public service of electric energy in distribution activity.
These obligations will be deducted from the residual property, plant and
equipment balance determined at the end of the concession period. As from
January 1, 2002, the balance of this account is being classified as a
deduction to property, plant and equipment.
(d) Materials and Supplies-- Materials and supplies used in operations and
maintenance are recorded as current assets and those destined for
construction are included in property, plant and equipment, both based on
the average acquisition cost.
3.2 - General Accounting Policies
(a) Marketable Securities-- Are recorded at cost plus accrued income, up to the
closing date of the balance sheet, with necessary provisions made for
devaluation to reflect market values, when applicable. Marketable
securities are mainly represented by U.S. dollar-linked interest bearing
public treasury notes.
F-18
(b) Accounts Receivable--Accounts receivable includes the supply of electric
energy, both billed and unbilled, to customers as of December 31, accounted
for on an accrual basis, and includes charges for late payments by
customers as well as accounts receivables related to the extraordinary
tariff recovery related to revenue losses during the electric energy
rationing period, and energy sales on the spot market ("MAE")
(c) Provision for Doubtful Accounts-- Recognized in accordance with General
Instruction no. 6.3.2 of the Accounting Standards for Public Electric
Utilities, reflecting a conservative position in comparison with the
Company's historical average losses.
(d) Investment-- The investments in subsidiary companies are recorded based on
the equity adjustment method and presented on a consolidated basis in the
accompanying financial statement. All intercompany balance and transaction
are eliminated upon conciliation. Other investments including investments
in ESC 90, are stated at cost, plus monetary restatement until December 31,
1995, net of provision for loss, when applicable.
(e) Goodwill--Goodwill represents the excess of the purchase price over the
book value of Enersul, acquired as of November 25, 1997 by Magistra, and is
being amortized over the term of the concession of Enersul - thirty years,
since January 1, 1999 (ten years in 1998), based on the proportion of
projected net income for each of those years. The Company changed the
amortization period of the goodwill based on changes in the regulations
issued by ANEEL.
(f) Assets and Liabilities Denominated in Foreign Currencies or Subject to
Indexation--Assets and liabilities denominated in foreign currencies are
translated into reais at the exchange rate reported by the Central Bank of
Brazil at each balance sheet date. Those denominated in reais, and
contractually or legally subject to indexation, are adjusted to the balance
sheet date applying the corresponding index. Exchange gains and losses and
monetary variation gains and losses are recognized in income on a current
basis, except those related to construction work in progress, which are
capitalized.
(g) Income Tax and Social Contribution--Income tax is accrued based on taxable
income at the applicable income tax (25%) and social contribution tax (9%)
rates. Deferred income tax and social contribution arising from temporary
differences are accounted for under the liability method.
(h) Pension Plans -Escelsa and Enersul maintain a separate entities, Fundacao
Escelsa de Seguridade Social - Escelsos ("Escelsos") and Fundacao Enersul,
respectively, to administer defined benefit and contribution pension funds
for their employees (see Note 25). The costs associated with pension plans
are accrued when the contributions to the fund become due and are based on
mathematical reserves determined by independent actuaries. As per CVM Rule
371 of 12/13/2000, starting in fiscal year 2002, publicly listed companies
are required to disclose and recognize all liabilities related to pension
and other post-retirement benefits. The CVM rule gives companies the option
to recognize the initial transition obligation as of December 31, 2001,
directly to shareholders' equity. Escelsa and Enersul adopted this option.
(i) Net Income (Loss) per Share--These amounts are calculated based on the
number of shares outstanding at the balance sheet date.
(j) Revenue Recognition--Revenue for all services is recognized when earned.
Billing for residential, industrial and commercial customers is performed
monthly. Unbilled revenues from the billing date to month-end are estimated
and recognized as revenue during the month service was provided. Revenues
from electricity sales to the final consumers are recognized when earned.
Billings for these sales are made on a monthly basis throughout the month.
Unbilled revenues from the billing cycle up to the end of each month are
estimated based on the prior month's billing and are accrued at the end of
the month. Differences between estimated and actual unbilled revenues,
which historically have not been significant, are recognized in the
following month. Value added tax ("VAT"), which is a state tax due on the
sales to the final consumers, is billed to the consumers and recorded as
part of gross revenue. The VAT payable to the state is recorded as
deduction of the gross revenue in a separate line in the statement of
operations to disclose the net operating revenues.
(k) Use of Estimates--In preparing financial statements in accordance with BR
GAAP, the Company's management
F-19
is required to make certain assumptions and estimates with respect to the
recording of assets, liabilities and transactions. Actual results in the
future may differ from the estimates included in these financial
statements. The most relevant estimates contained in the financial
statements refer primarily to the accounting treatment given to the
following:
o Allowance for Doubtful Accounts; o Amounts related to sales and
purchases of short-term energy occurred under Electric Power
Wholesale Market (MAE) rules;
o Extraordinary tariff (regulatory asset) realization;
o Deferred income tax and deferred social contribution realization;
o Provision for Contingencies and Pension and Retirement Plans
(l) Consolidated Financial Statements--The consolidated financial statements
comprise the balance sheet, the statement of operations and changes in
financial position of Escelsa and its subsidiaries, Magistra Participacoes
S.A. ("Magistra"), (holder of CESA and Enersul shares which were purchased
on November 25, 1997 and Costa Rica Energetica Ltda.), TV a Cabo Vitoria
S.A. ("TVIX") and Escelsapar. Magistra was formed on November 19, 1997,
TVIX was formed on July 4, 1997 and Escelsapar was formed on August 31,
1999. Costa Rica Energetica Ltda. was organized as a result of a project
carried out by a consortium formed by Enersul (51%) and DM Construtora de
Obras Ltda (49%) in 1999. The financial statements of the subsidiaries have
been included in the consolidated statements beginning the date of
formation or purchase. All significant intercompany transactions and
balances have been eliminated upon consolidation.
3.3 - Constant Currency Presentation
In addition to the accounting practices described above, the following practices
under Brazilian GAAP were adopted in the preparation of constant currency
financial statements up to December 31, 2000:
(l) Index--Up to December 31, 1995, the financial statements were
price-level adjusted based on the variation of the UFIR. As from
January 1, 1996 through December 31, 2000, the IGP-M was used.
(m) Non-monetary Assets and Liabilities--Investments, property, plant
and equipment special liabilities and shareholders' equity
accounts were restated from the date the original transaction
occurred to December 31, 2000. Other non-monetary assets and
liabilities and certain receivables and payables for which the
interest rates include a fixed inflation factor were not
inflation adjusted because the net effect of the adjustments were
considered immaterial to the financial position or results of
operations.
(n) Income Tax and Social Contribution--The deferred tax effects of
the restatement of non-monetary assets and liabilities were
accrued and recognized in results of operations. The deferred tax
credit related to the restatement of shareholders' equity has
been reclassified and charged to retained earnings since the
credit does not represent an actual tax benefit.
(o) Statements of Income, Changes in Shareholders' Equity and Changes
in Financial Position--These statements were prepared as follows:
o All components of these statements were price-level adjusted from
the date or month they were first recorded through December 31,
2000.
o Gains/losses on monetary items - those attributed to the
variation in index, calculated on a monthly average basis, were
allocated to the corresponding income or expense components in
the statement of operations.
F-20
(p) Prior Years' Financial Statements--All amounts in the financial
statements for prior years were adjusted for price-level changes
through December 31, 2000.
4. MARKETABLE SECURITIES
December 31,
-------------------------------
-------------------------------
2002 2001
------------ -------------
Bank deposits certificates - 31
Debt securities 296,329 256,678
Other 10,291 150
------------ -------------
------------ -------------
Total 306,620 256,859
============ =============
Debt securities include bonds issued by the Central Bank of Brazil ("Notas do
Banco Central"), with interest rates ranging from 9.99% per annum to 10.46% per
annum plus exchange variation and maturity dates from March 2004 to November
2006. In the beginning of 2002, the Company set-up provisions for the reduction
to market value of this entire NBC-E portifolio. Since then, the provision has
been adjusted according to official market indicators, when this is lower than
the acquisition cost.
5. ACCOUNTS RECEIVABLE
This account includes both amounts billed to customers and accrued revenue
relating to unbilled energy supplied to customers as of the balance sheet date.
Fines arising from late payments to Escelsa and Enersul by other electricity
companies are also included.
December 31,
--------------------------------
2002 2001
--------------- -------------
FINAL CUSTOMERS:
Billed 303,985 182,830
Unbilled 358,468 334,217
---------------- -------------
662,453 517,047
WHOLESALE:
Other distributors 2,830 4,963
Spot Market - Short-Term 59,121 66,081
---------------- -------------
724,404 588,091
================ =============
Current Past-due Past-due Total
-------------------------------
Up to 90 days over 90 days 2002 2001
--------------- --------------- --------------- ---------------- ----------------
FINAL CUSTOMERS:
Residential 51,021 29,227 1,924 82,172 57,769
Industrial 45,710 5,028 3,187 53,925 42,378
Commercial, services and other activities 30,381 11,191 5,484 47,056 34,710
Rural 9,563 3,772 459 13,794 9,105
Public authority:
Federal 1,380 1,467 2,075 4,922 1,332
State 2,704 3,361 12,033 18,098 9,581
Municipal 2,762 2,653 4,701 10,116 4,567
Public lighting 6,691 4,870 13,305 24,866 10,698
Public service 3,929 1,363 132 5,424 3,685
Recoverable losses 40,478 - - 40,478 76,485
Free energy 19,118 - - 19,118 -
F-21
Current Past-due Past-due Total
-------------------------------
Up to 90 days over 90 days 2002 2001
--------------- --------------- --------------- ---------------- ----------------
Installment debts 17,720 2,513 4,453 24,686 8,325
Other credits 18,275 1,545 434 20,254 7,682
--------------- --------------- --------------- ---------------- ----------------
249,732 66,990 48,187 364,909 266,317
--------------- --------------- --------------- ---------------- ----------------
Other distributors
2,830 - - 2,830 4,963
Spot Market - Short-Term 51,039 - - 51,039 66,081
Spot Market - Others 8,043 - 39 8,082 -
--------------- --------------- --------------- ---------------- ----------------
Other distributors 61,912 - 39 61,951 71,044
--------------- --------------- --------------- ---------------- ----------------
TOTAL 311,644 66,990 48,226 426,860 337,361
=============== =============== =============== ================ ================
LONG TERM ASSETS:
FINAL CUSTOMERS:
Recoverable losses 169,142 - - 169,142 137,449
Free energy 78,551 - - 78,551 84,600
State VAT (Vale do Rio Doce) 28,559 - - 28,559 17,122
Spot Market - Short-Term 5,882 - - 5,882 -
Other credits 15,410 - - 15,410 11,559
--------------- --------------- --------------- ---------------- ----------------
TOTAL 297,544 - - 297,544 250,730
=============== =============== =============== ================ ================
The amounts of R$51,039 and R$5,882, related to short term supply included
in the current and non-current assets, respectively, represent the
commercialization of energy in the spot market, for the period September 2000 to
December 2002, based on a preliminary calculation prepared and disclosed by MAE.
The financial settlement of those amounts, including the balances in current
liabilities of R$11,737, related to short-term energy - MAE and R$24,808 related
to system services charges (notes 6 and 15), was scheduled for November 22,
2002, but was postponed in view of the new agreement among the companies in the
sector and the Government. In accordance with the new agreement, 50% of the net
balance receivable of R$10,584, for the period September 2000 to September 2002
should be liquidated up to December 2002 and the remaining balance liquidated
after the completion of the audit to be made for such purpose. Up to December
31, 2002, the Company received the amount of R$4,764, corresponding to 45% of
the net balance receivable. In accordance with the rules of this market, the
unsettled balance receivable of the first installment, in the amount of R$5,820
should be bilaterally negotiated by the companies.
The recorded amounts of energy in the short-term and free energy may change
depending on the outcome of the litigation processes under way, filed by certain
companies, with respect to the interpretation of market rules in effect. Such
companies, not included in the rationing area, obtained an injunction, which
annuls Dispatch no. 288 of ANEEL, of May 16, 2002, whose objective was to
provide companies in the sector with clarification as to the treatment and form
of application of certain accounting rules included in the General Agreement of
the Electric Energy Sector. The claim filed by such companies involves the
commercialization of ITAIPU's quota in the Southeast/Center-West during the
2001-2002 rationing period, when there was a significant discrepancy of prices
in the short-term energy among the sub-markets.
6. GENERAL AGREEMENT - ELECTRIC ENERGY SECTOR
The General Electric Energy Sector Agreement, to which the Company became a
party on December 20, 2001, established mechanisms for settling contractual and
administrative disputes, thus eliminating the threat of judicial or
extra-judicial suits over issues arising from the electric energy-rationing
period. The main points of the Agreement are as follows:
F-22
o Renunciation to any plea or suit;
o Purchase agreements for net contractual surpluses;
o Agreements for reimbursement of free energy; and
o Amendments to the Initial Contracts.
Based on Provisional Measure no. 14, issued December 21 2001, converted
into Law 10,438 on April 26 2002, and on other pertinent legislation, the
Company calculated the amount of the revenue recomposition through extraordinary
tariff applicable to all electric energy distribution companies, for the purpose
of neutralizing the margin losses resulting from the Emergency Program for
Reducing Electric Energy Consumption - PERCEE, in effect from June 2001 to
February 2002.
At the same time, along with the other electric energy distribution
utilities, the Company calculated the monthly variations in additional (Parcel
"A") non-managed costs, and listed all the additional energy purchase costs in
the Wholesale Energy Market - MAE ("Free Energy") to be reimbursed to electric
generators.
On March 8, 2002 and May 7, 2002, the Company sent ANEEL its calculations
of tariff recomposition for 2001 and for January and February 2002 for
validation. ANEEL declared that the right for compensation was conditional upon
complete adherence to the General Energy Sector Agreement, as allowed for in
Provisional Measure no. 14/01, GCE Resolution 91/01 and ANEEL Resolution 31/02.
ANEEL Resolutions 480 and 481 (concerning margin losses), 482 (concerning
Parcel "A" costs) and 483 (concerning Free Energy), all dated August 29, 2002,
approved the amounts of the revenue recomposition, for which the following
extraordinary electricity tariffs were established:
o 2.9% for residential clients (except low income users), rural users and
public lighting;
o 7.9% for all other clients.
Under the terms of ANEEL Resolution no. 484, also dated August 29, 2002,
the tariff recomposition will take place over a maximum period of 70 months (82
months - for Enersul), starting after December 2001.
Studies undertaken by the Company indicate that these assets will be fully
collected over the maximum term established, for which reason no provision for
losses was set-up.
F-23
The Brazilian Economic and Social Development Bank - BNDES - made available
credit lines to finance 90% of the recoveries of losses from the Rationing
Program, collateralized by the amounts to be collected under the extraordinary
tariff recomposition. See Note 17.
6.1 - Recovery of electric energy consumption losses
These losses, which are part of the extraordinary tariff recomposition,
developed as follows during the fiscal year:
----------------------------------------
DESCRIPTION CURRENT NON-CURRENT
- ------------------------------------------------------ ------------------- -------------------
Losses incurred from June 1 to December 31
2001 as calculated by the Company 76,485 137,449
Adjustment - approved by ANEEL - (23,220)
------------------- -------------------
Balance of losses 2001 76,485 114,229
------------------- -------------------
Losses incurred from January 1 to February 28
2002 as calculated by the Company - 45,559
Adjustment - approved by ANEEL - (3,000)
Appeal to ANEEL (*) - 3,000
------------------- -------------------
Balance of losses 2001/2002 76,485 159,788
------------------- -------------------
Recovered through tariff increases (68,757) -
Transfers from non-current to current 32,750 (32,750)
SELIC Index adjustment - 42,104
------------------- -------------------
Balance as of December 31, 2002 40,478 169,142
=================== ===================
(*) Appeal to ANEEL to rectify the effective amount of the margin losses related
to January and February 2002.
These amounts receivable were debited to accounts receivable in the
Company's current and non-current assets, with a corresponding credit to
"Revenues not yet billed". The adjustments arising from ANEEL's validation, as
shown in the above table, were debited or credited to these same accounts during
2002.
6.2 - Free Energy
Free Energy refers to electric energy that was generated during the
rationing period and was not part of the initial contracts or any equivalent
contracts.
F-24
According to the Free Energy Reimbursement Agreement, the electric energy
generators, based on article 2 of Law 10,438, paid market prices for the free
energy allocated to them by MAE (MAE prices) for the whole duration of the
Emergency Program for Reducing Electric Energy Consumption.
The electric energy distributors, with the collection of the extraordinary
tariff recomposition, will reimburse the generators for the difference between
the MAE price and R$49.26 per MWh.
The amounts of these reimbursements were calculated according to MAE settlement
accounts and were shared pro rata among electric energy distributors,
proportionally to each one's consumption of energy in the National
Interconnected Electricity System.
The reimbursement amounts to the electric energy generators were accounted for
as follows:
--------------------------------------
DESCRIPTION CURRENT NON-CURRENT
- -------------------------------------------------------------------------------------------------------
Transactions from June 1, 2001 through February 28, 2002 - 97,669
Transfers 19,118 (19,118)
---------------- ---------------------
Balance on December 31, 2002 19,118 78,551
================ =====================
These amounts receivable were debited to accounts receivable in the Company's
current and non-current assets, with a corresponding credit to "Revenues not yet
billed". A credit in the same amount was made to an "Energy Suppliers" account
in the current and long-term liabilities, while a corresponding entry was
debited to "Energy purchased for re-sale - short-term" in the income statement.
6.3 - Variation of Parcel "A" items
The electric energy distribution concession agreements establish amounts
for each item of exogenous costs that are part of operating expenses and are
part of the variable costs, known as Parcel "A" of the "Percentage Tariff
Increase - IRT" formula as follows:
o Pass-through of tariff related to energy purchased from Itaipu Binacional;
o Pass-through of transport costs for electric energy from Itaipu Binacional;
o Quota for the Fuel Consumption Account - CCC;
o Costs for transmission infrastructure usage on the basic grid;
o Compensation for use of water resources;
o System's Service Charges - ESS;
o Energy purchased as established in the Initial Contracts;
o Quota for the Global Reversion Reserve - RGR;
o Electric energy service enforcement fee; and
F-25
o Connection charges.
Provisional Measures no. 2,227 and no. 14 of September 4, 2001 (converted into
Law no. 10,438 of April 26, 2002), of December 21, 2001 and ANEEL's Resolution
no. 90 of February 18 2002, set up a tracking account for recording the
differences, positive or negative, between the amount of each of these items
from the date of the last tariff increase to the date it was effectively paid.
The balance of this tracking account is being financially compensated based on
the SELIC interest rate.
These amounts are recognized in a "Prepaid Expenses" account under current
and non-current, with a balancing credit to the appropriate items in "Operating
Expenses" classified by nature.
6.3.1 - Parcel "A"
The Parcel "A" Cost Variations Compensation Account - CVA was credited with
R$63,860. This covers the period from January 1 to October 25 2001 and is part
of the regulatory assets that will be received with the collection of the
extraordinary tariff recomposition.
The Parcel "A" amounts used to calculate the extraordinary tariff
recomposition were established as follows:
TIME-LINE NON-CURRENT
- ------------------------------------------------------------------------------------------
Costs from January 1, 2001 through October 25, 2001 63,860
Adjustment approved by ANEEL 3,956
SELIC remuneration 12,858
PIS/COFINS 1,529
----------------------------
Balance on December 31, 2002 82,203
============================
The increases validated by ANEEL were accounted for as adjustments to these
accounts during fiscal year 2002.
6.3.2 - CVA
Amounts registered as CVA are cost variations that are not part of the
extraordinary tariff recomposition, from October 26, 2001 onwards and are the
following:
December 31
-----------------------------------
2002 2001
----------------- ----------------
ASSETS
F-26
Current
Prepaid expenses
CVA 23,643 7,816
Other 833 794
----------------- -------------
24,476 8,610
----------------- -------------
Non-current
Prepaid expenses
CVA 60,170 22,142
----------------- -------------
LIABILITIES
Current
CVA 10,226 226
----------------- --------------
Non-current
CVA (*) 32,019 452
----------------- --------------
(*) The CVA amount in 2002 includes R$24,808 related to system services
charges.
According to the legislation, these amounts are to be amortized by adjustments
that ANEEL will make at each annual tariff review, according to the positive or
negative balances accumulated in the tracking account.
6.4 - Net contractual surpluses
These refer to the difference between the power sold by the concessionaire and
the total volume of its energy resources (initial contracts and equivalents,
Itaipu quota-share and own generation). As provided for under the Agreement for
the Purchase of Net Contractual Surpluses, these surpluses were not sold during
the rationing period, but were returned, at zero cost, to the market agents with
short-term exposure. From the end of rationing through December 31, 2002, these
net contractual surpluses were negotiated through MAE at R$73.39 per MWh.
7. LOW INCOME CONSUMERS
Law No. 10,438, of April 26, 2002 set forth the guidelines for classifying
the low income residential sub-category, which was defined as a consumption unit
with monthly consumption of less than 80 kWh. Decree no. 4,336 of August 15,
2002 expanded the rules to include units with monthly consumption of up to 220
kWh.
As a result, the Company calculated the loss of revenue at R$18,718,
exclusive of VAT tax. This amount was credited to a "Revenue from Electric
Energy Operations" account in the income statement, with a corresponding offset
account to a long term asset denominated "Other credits - Others", in accordance
with ANEEL Resolution no. 514 of September 16, 2002. This accounting treatment
needs to be ratified by ANEEL as a necessary condition for the Company to be
able to qualify for financial assistance with RGR funds from ELETROBRAS.
8. TARIFF BONUS AND SURCHARGES
F-27
According to Provisional Measure 2,147 of May 15, 2001 and subsequent
amendments, as well as regulations from the Energy Crisis Management Chamber -
CGE, the Company charged surtaxes to customers who exceeded their consumption
quotas up to February 2002, and granted bonuses to customers who reduced
consumption to levels below their quotas, during the rationing period.
The financial accounting criteria for these events, defined as per ANEEL Rule
299 of July 27, 2001, did not have an impact on the Company's results and the
corresponding amounts are classified as below:
December 31,
----------------------------------
2002 2001
----------------------------------
ASSETS
Current (accounts receivable)
Bonus balance (invoiced (-) received) (53) (7,026)
Surtax - accounts receivable 2,532 6,192
--------------- ------------------
2,479 (834)
--------------- ------------------
Non-current assets
Invoiced bonus 57 38,877
Costs incurred by Company to be reimbursed 9,661 8,787
--------------- ------------------
9,718 47,664
--------------- -------------------
TOTAL 12,197 46,830
=============== ===================
LIABILITIES
Long term
Surtax charged (745) 16,819
(-) ICMS tax on surtaxes 170 (3,552)
(-) 2% to cover costs 11 (119)
----------------------------------
TOTAL (564) 13,148
----------------------------------
Balance receivable - Ministry of Mines and Energy 12,761 33,682
==================================
Based on Resolution GCE no. 117, of 02/19/2002, the Emergency Program for
Reduction of Electrical Energy Consumption was extinguished, being determined
that, as from March 1, 2002, the surtax charged to customers who exceeded their
consumption quotas was no longer applicable; however, the bonus regulated by
Article 4 of Resolution GCE no. 4, of 05/22/2001, was maintained until March 31,
2002
On June 6, 2002, Decree no. 4,261 extinguished the Emergency Energy Crisis
Management Chamber - GCE.
9. RECOVERABLE TAXES
The credits to be recovered are comprised of the following:
December 31,
---------------------------
RECOVERABLE TAXES 2002 2001
------------------------------------ ---------------------------
Withholding income tax 54,009 67,521
Social contribution on net income 3,812 3,782
ICMS to be recovered 4,612 5,836
Other 6,110 4,067
---------------------------
68,543 81,206
===========================
F-28
10. RELATED COMPANIES
December 31,
------------------------------
COMPANIES TRANSACTION 2002 2001
- ------------------------ --------------------------------------------------- ----------------------------
ESC 90 Pass-through of costs and mutual contracts 65,039 52,501
OTHER AFFILIATED Pass-through of costs 466 348
--------------- ------------
65,505 52,849
=============== ============
The Company does not engage in transactions or agreements with related
companies under terms or conditions more/less favorable than would be exercised
with third parties. The transactions refer essentially to pass-through of costs
to/from related companies.
The financial statements primarily show the balance of inter-company loans
between the Company's related company MAGISTRA and its subsidiary ESC90, as
detailed below, which were made at similar terms to those current in the
Brazilian financial market. The terms and conditions of the main obligations are
as follows:
1) Interest rate: TJLP + 4% per annum;
Maturity: November 2004;
Balance: R$5,338 (R$ 4,678 on 12/31/2001)
2) Interest Rate: 100% of CDI;
Maturity: several dates through December 31, 2003;
Balance: R$ 59,701 (R$47,823 on 12/31/2001)
MAGISTRA's financial income from its subsidiary ESC90, totaling R$10,070
(R$6,048 on 12/31/2001) is recorded as "Other financial income". The loans are
guaranteed by promissory notes corresponding to 125% of principal.
11. ASSETS HELD FOR SALE - UTE CAMPO GRANDE
In view of the decision of Company's management to sell these assets, an
appraisal was undertaken of all the costs incurred with the project, including
the thermoelectric plant itself, substations and associated distribution lines,
for the purpose of accounting for these as part of current assets, and a
provision was recorded to reduce the book value of the assets to the market
value. As a result the Company charge the amount of R$51,957 to non-operating
expense.
December 31,
------------------------------
2002
------------------------------
UTE Campo Grande 75,849
Substations and associated distribution lines 1,571
Other substations 428
Adjustment to market value (51,957)
------------------------------
------------------------------
Balance 25,891
==============================
12. ESCROW AND OTHER DEPOSITS
F-29
December 31,
----------------------------------------
----------------------------------------
TYPE 2002 2001
- -------------------------------------- ------------------- -------------------
- -------------------------------------- ------------------- -------------------
Escrow deposits (see note 20) 133,935 116,198
Deposits - STN 5,956 3,613
------------------- -------------------
139,891 119,811
=================== ===================
13. PROPERTY, PLANT AND EQUIPMENT
December 31,
-----------------------------------
2002 2001
----------------- ----------------
IN SERVICE:
Generation 288,069 284,898
Transmission 19,178 18,770
Distribution 2,794,503 2,689,829
Administration 329,530 310,023
----------------- ----------------
3,431,280 3,303,520
----------------- ---------------
(-) Accumulated depreciation (1,413,215) (1,275,242)
----------------- ---------------
2,018,065 2,028,278
----------------- ---------------
UNDER CONSTRUCTION:
Generation 62,473 53,859
Transmission 1,796 1,126
Distribution 141,411 190,666
Administration 12,235 19,626
----------------- ---------------
217,915 265,277
----------------- ---------------
Total 2,235,980 2,293,555
(-) Obligations related to the concession (268,505) (262,320)
----------------- ---------------
1,967,475 2,031,235
================= ===============
On February 13, 1995, Law no. 8,987 was enacted, changing the regulations for
public service concessions for generation, transmission and distribution of
electric energy. On July 7, 1995, Law no. 9,074 was enacted, establishing rules
for the renewal and approval of concessions. The principal aspect of such laws
that may affect the Company is the fact that concessions for the generation,
transmission and distribution of electric energy will last a sufficient period
to amortize the investments, limited to 35 and 30 years, respectively. These
concessions may be extended for one period of up to the same duration, at the
discretion of the regulatory authorities.
On July 11, 1995, the date of Escelsa's privatization, a new concession contract
was signed, which granted the right to generate, transmit and distribute
electric energy in virtually all of the State of Espirito Santo through the year
2025. In the event of a change of control, Escelsa must continue to observe all
the conditions established in the contract .
On November 19, 1997, the date of Enersul's privatization, a new concession
contract was signed, which granted the right to generate, transmit and
distribute electric energy in virtually all of the State of Mato Grosso do Sul
through the year 2027. In the event of a change of control, Enersul must
continue to observe all the conditions established in the contract.
In January 1998, Escelsa and Enersul implemented the new depreciation rates
determined by ANEEL Resolution no. 002/97. Due to the new depreciation rates,
Escelsa's average annual rates changed from 3.4% to 4.5%, and Enersul's average
annual rates changed from 3.3% to 5.0%.
F-30
In accordance with ANEEL Resolution no. 044 of March 17, 1999, the main
rates of depreciation per macro area of activity are as follows:
Annual
GENERATION depreciation rate (%)
--------------------------
General equipment 10.0
Water intake equipment 3.7
Water intake structure 4.0
Reservoirs, dams and piping 2.0
Turbine 2.5
TRANSMISSION
System controller 2.5
General equipment 10.0
System structure 2.5
Switches 4.3
DISTRIBUTION
Capacitors 6.7
Distribution key 6.7
System controller 5.0
System structure 5.0
Tension regulator 4.8
Transformer 5.0
COMMERCIALIZATION 4.0
CENTRAL MANAGEMENT
Machines and equipment 10.0
Buildings and improvements 4.0
Vehicles 20.0
Obligations related to the concession is comprised of the following balances:
December 31,
---------------------------------
2002 2001
--------------- ---------------
Consumers' contributions 255,366 249,181
Other 13,139 13,139
--------------- ---------------
--------------- ---------------
Total 268,505 262,320
=============== ===============
Consumers' contributions consist of assets provided to the Company by certain
residential, rural and industrial customers to facilitate connection or in case
of low return on the investment by the Company.
F-31
The following amounts of interest expense and inflationary effects were
capitalized in Property, Plant and Equipment:
2002 2001 2000
------------- ------------ -------------
Interest on loans and financing 254,148 176,083 137,354
(-) Transfer to property, plant and equipment (18,047) (14,633) (26,469)
------------- ------------ -------------
Net 236,101 161,450 110,885
============= ============ =============
2002 2001 2000
------------- ------------ -------------
Inflationary effects 601,940 193,409 94,621
(-) Transfer to property, plant and equipment (6,218) (4,902) (6,139)
------------- ------------ -------------
Net 595,722 188,507 88,482
============= ============ =============
14. GOODWILL
On November 25, 1997, the Company paid R$825,937, to acquire a 55.4% controlling
interest (76.5% voting interest) in Enersul. The difference between net assets
acquired and the purchase price was recorded as goodwill totaling R$479,751
monetarily adjusted from the purchase date. The goodwill recorded by the
wholly-owned subsidiary MAGISTRA, generated by the difference between the amount
paid and the book value of ENERSUL stocks, acquired on 11/25/1997, is based on
the company's future profitability and is being amortized proportionally to the
company's projected results, during the term of ENERSUL's concession, over
thirty years beginning January 1, 1998.
December 31,
-------------------------------
2002 2001
-------------- ---------------
Goodwill 479,751 479,751
Accumulated amortization (52,042) (39,981)
-------------- ---------------
427,709 439,770
============== ===============
15. SUPPLIERS
December 31,
-----------------------------------
CURRENT 2002 2001
- ------------------------------------------ ------------------------------------
Electricity suppliers:
FURNAS 35,210 53,009
ITAIPU 35,884 38,542
TRACTEBEL 12,086 12,786
ELETROSUL 1,515 1,172
Spot market - short-term energy 11,737 19,925
ONS and other suppliers 12,648 31,141
Free energy 19,118 -
Other 11,692 8,017
---------------- ---------------
139,890 164,592
Materials and service providers 15,725 14,384
---------------- ---------------
TOTAL 155,615 178,976
================ ===============
F-32
LONG-TERM
-------------------------------------------------
Electricity suppliers:
Free energy 78,551 84,600
Other 5,230 -
-----------------------------------
83,781 84,600
===================================
16. FINANCIAL INSTRUMENTS
The Company's business entails the distribution and sale of electric energy for
customers within its concession area - the state of Espirito Santo and the state
of Mato Grosso do Sul - and therefore significant financial instruments are
related to the following transactions:
o Balances of non-current accounts receivable and long-term accounts payable
related to the extraordinary tariff recomposition and therefore not subject
to adjustments to market value;
o Investments in short term mutual funds and/or fixed income investments
recorded at approximate market value as they are recorded with accrued
interest on a pro-rata basis;
o Equity participation in other companies are in most cases shares that are
not publicly traded;
o Loans held by the Company are mainly long-term, and are from specific
funding sources.
16.1 Exchange Rate and Interest Risks
The book value of the principal financial instruments held by ESCELSA are:
December 31
----------------------------
2002 2001
------------- -------------
Marketable securities 306,620 256,859
Loans and financing - long-term 2,223,718 1,498,063
A portion of the loans and financing are comprised of financing from
government entities ELETROBRAS and BNDES.
As the market rate (or opportunity cost of capital) is set by these
government entities, taking into consideration the risk premium relative to
the sector's activities and that in the absence of other financing sources
or other market options and/or means to estimate the market value of such
options in light of the Company's business or sector-specific
circumstances, the market value of these domestic loans shall correspond to
their book value, as shall other financial assets and liabilities.
As mentioned in Note 17, foreign currency financing was obtained (in U.S.
dollars), and the indebtedness and earnings were significantly impacted by
the foreign exchange risk. Such risk may cause the Company to incur losses
due to foreign currency exchange fluctuations, which may increase
liabilities denominated in foreign currency.
The net exposure to foreign currency risk related to Senior Notes as of
December 31, 2002 and December 31, 2001 is shown below:
BOOK VALUE FAIR VALUE
----------------------------- ----------------------------
2002 2001 2002 2001
------------- ------------- ------------- -------------
Senior Notes 1,522,704 999,995 944,076 864,996
Other loans and financing 241,878 149,904 241,878 149,904
U.S. dollar assets (296,329) (256,678) (296,329) (256,678)
------------- ------------- ------------- -------------
Net Exposure 1,468,253 893,221 889,625 758,222
============= ============= ============= =============
F-33
The method used to determine the fair value of the Senior Notes obligation
was the average market price, as of December 31, 2002, as per the security's
trading activity at the end of each fiscal period, as provided by a transaction
report in New York, USA, prepared by Salomon Smith Barney. For the U.S. dollar
assets, the contract market price at the end of the fiscal period was used,
which is equal to book value.
In addition, the Company held derivatives contracts to reduce the
above-referred net exposure, which yielded credits to the income statement, in
the monetary variations account, for gains of R$23,204. The contracts in effect
as of December 31, 2002 are listed bellow:
FINANCIAL DATE AMOUNT PARAMETERS (RATES %) GAIN AT
INSTITUTION TRANSACTION MATURITY BANKS ESCELSA 12/31/2002
--------------------------------------------------------------------------------------------------------------------
Banco BBA 11/07/02 07/01/03 48,343 16,00 + Exchange 1,03 - CDI 11.689
Banco Pactual 03/28/02 01/14/03 19,381 4,32 + Exchange 1,04 - CDI 8,035
Banco Itau 12/27/02 07/15/03 21,856 18,60+Exchange rate 1,00 - CDI 38
---------------
19,762
===============
In the consolidated financial statements, the loans and financing of the
companies in the EXCELSA System were obtained at the usual rates and charges in
the Brazilian and the international markets for funding of investments in the
electric energy sector in their concession areas of the electric energy public
service.
The subsidiary MAGISTRA consolidates the foreign currency (US$) financial
liabilities of its subsidiaries ENERSUL and CESA. In order to reduce foreign
exchange-related risk, swap instruments were used to hedge a portion of these
liabilities, as shown in explanatory note No. 17.
The indices used in these instruments are IGP-M plus interest of between
11.7% p.a. and 12.01% p.a., and CDI plus interest of between 0.95% p.a. and 2.6%
p.a.
Considering the depreciation of the Real during the period, these hedge
transactions yielded gains of R$29,028, recognized in the income statement in
the monetary variations accounts.
This debt consists of:
AMOUNT GAIN AT
----------------------------------- ----------
ASSETS LIABILITIES 2/31/2002
------------------------------------ ------------------ ------------------
F-34
Swap contracts 97,202 90,802 6,400
For the remaining contracts, given the specific nature of these
transactions and the unavailability of information for determining a market
value for this type of financial instrument in a cost effective manner, and
taking into consideration the risk to the Company, its strategy and debt
management practices, Management estimates that the market values of these
instruments are equal or very close to their book values.
16.2 Credit Risk
There is a possibility that the Company may incur losses due to non-payment
by its customers. To mitigate this risk, the Company maintains the right to
cut-off the supply of electric energy in the event that a customer fails to make
payment in accordance with the time-periods defined by legislation and specific
regulations. A provision for doubtful account liquidations is established in an
amount deemed sufficient by Management to cover potential accounts receivable
risks.
17. LOANS AND FINANCING
17.1 Description
December 31,
--------------------------------------------------------------------------------
2002 2001
--------------------------------------- ----------------------------------------
Interest Principal Interest Principal
and --------------------------- and ---------------------------
Other Current Long-term Other Current Long-term
Charges Charges
--------- ------------ ---------- ------- ----------- -----------
Local Currency:
ELETROBRAS (b) 253 13,490 54,117 547 23,070 53,415
BNDES-MAGISTRA (c) 961 39,220 39,220 1,360 37,818 75,636
BNDES-ESCELSA (d) 2,787 40,647 149,396 1,268 22,056 169,185
BNDES-ENERSUL (e) 269 13,966 54,609 291 13,466 66,123
BNDES-RATIONING LOSSES (m) 716 33,197 195,157 - - -
BNDES-CESA (n) 305 - 39,589 - - -
Banco do Brasil - FCO (f) 573 - 30,000 199 - 20,000
Banco Bilbao Vizcaya - BBVA (l) - 3,980 - 249 15,996 -
Banco do Brasil S.A (l) 296 27,500 - - 10,000 -
Banco Alfa (l) 756 33,300 - 138 30,550 -
Banco HSBC (l) - - 21 1,862 -
Citibank (l) - - - 1,503 22,546 -
Others 391 10,701 18,172 274 12,885 20,371
------------ ------------ ----------- ------------- ------------ ------------
7,307 216,001 580,260 5,850 190,249 404,730
------------ ------------ ----------- ------------- ------------ ------------
Foreign Currency:
Senior Notes (a) 69,791 - 1,522,704 45,833 - 999,995
Banco B.B.A. FMO (g) 535 4,410 11,568 313 22,596 11,049
BRADESCO (h) 1,009 24,014 - 60 11,549 -
UNIBANCO (i) - - 12,727 51 11,318 11,519
Banco Itau (j) 579 16,570 20 10,219 -
F-35
December 31,
--------------------------------------------------------------------------------
2002 2001
--------------------------------------- ----------------------------------------
Interest Principal Interest Principal
and --------------------------- and ---------------------------
Other Current Long-term Other Current Long-term
Charges Charges
--------- ------------ ---------- ------- ----------- -----------
BBA-EIB (g) 259 9,636 47,603 196 - 37,591
BBA 3,747 49,084 - - - -
BBV 58 15,742 - - - -
National Treasury - STN (k) 551 1,668 48,856 464 884 33,179
-------- ------------ ------------ ------------- ------------ ------------
76,529 121,124 1,643,458 46,937 56,566 1,093,333
----------- ------------ ------------ ------------- ------------ ------------
83,836 337,125 2,223,718 52,787 246,815 1,498,063
---------- ------------ ------------ ------------- ------------ ------------
---------- ------------ ------------ ------------- ------------ ------------
Banco B.B.A. FMO - Long term (g) - 234 - -
UNIBANCO - Long term (i) 3,590 - - 1,055 - -
-------- ------------ ------------ ------------- ------------ ------------
3,590 - - 1,289 - -
--------- ------------ ------------ ------------- ------------ ------------
--------- ------------ ------------ ------------- ------------ ------------
TOTAL 87,426 337,125 2,223,718 54,076 246,815 1,498,063
=========== ============ ============ ============= ============ ============
a) Senior Notes refer to the overseas funding transaction, through the
issuance of "Senior Notes," with a principal balance on December 31, 2002
of R$ 1,522,704 or US$ 430,958 thousand. The securities mature in 2007, and
carry an interest rate of 10% per annum, which is payable every six months
on January 15 and July 15 of each year. On May 21, 1998, ESCELSA registered
the Senior Notes with the SEC - Securities and Exchange Commission, in the
United States of America, as per the Securities Act of 1933.
The indirect controlling shareholder EDP-Eletricidade de Portugal S.A. made
A public offer for the acquisition and request of renunciation related to
the notes, and acquired the principal amount of US$205,796 thousand,
effective December 23, 2002. Before making such an offer, EDP held a total
of US$151,575 thousand in Notes representing approximately 35% of the total
issuance. Thus EDP became the holder of a total of US$357,371 of Notes,
representing around 83% of the total issuance.
b) The financing from ELETROBRAS is being used to finance the Generation and
Distribution Program. Monthly amortization is scheduled through May 15,
2022 with monetary correction and interest rates varying between 6% and 12%
per annum.
c) The financing from BNDES for the subsidiary MAGISTRA was related to the
acquisition of ENERSUL's controlling shares. The loan interest rate is
based on the Long-term Interest Rate (TJLP), plus a spread of 4% per annum,
and 11 semi-annual amortization payments beginning November 15, 1999 and
extending through November 2004.
d) The BNDES financing obtained by ESCELSA is being used for the transmission
and distribution programs. The loan interest rate is based on the Long-term
Interest Rate (TJLP), plus spread of 3.8% per annum, with a 12-month grace
period and 84 monthly amortization payments beginning November 15, 1999 and
extending through November 2006.
e) The BNDES financing obtained by ENERSUL is being used to finance the
1998-2000 Investment Program. The loan interest rate is based on the
Long-term Interest Rate (TJLP), plus a spread of 3.8% per annum, spread,
with a 24-month grace period and 78 monthly amortization payments beginning
September 2001. The BNDES financing used for the construction of the
Imbirucu Substation has an interest rate of TJLP plus spread of 4.0% per
annum, with 51 monthly amortization payments beginning February 2000 and
extending through February 2008.
f) The Banco do Brasil financing obtained by ENERSUL, with funds from the
Midwest Constitutional Financing Fund (FCO), is being used for the 2001
Investment Program. The interest rate is 11.20% per annum with 108 monthly
amortization payments starting December 2004 and extending through November
2013.
g) Financing from Banco BBA-EIB Creditanstalt S.A for ENERSUL's Distribution
Program carries an interest rate linked to quarterly LIBOR plus a spread of
4% to 5% per annum, with a grace period of 36 months and 11 semi-annual
amortization payments starting June 2003 and ending March 2009. BBA secured
an external line of credit with Netherlands Development Company - FMO,
supported by Resolution 2770 from BACEN. The line carries an interest rate
of 8.90% per annum and is foreign exchange rate indexed to United States
Dollars with amortization payments scheduled to begin March 2002, ending
September 2007. The BBA-FMO financing is hedged against currency
fluctuations by way of swap contracts.
F-36
h) Financing from Bradesco for ENERSUL was secured to cover payments to
suppliers at an interest rate of 7.30% to 8.40% per annum, indexed to the
foreign exchange rate to United States Dollars, with liquidation in March
of 2003. The financing is hedged against currency fluctuations by way of
swap contracts.
i) Long-term financing from Unibanco for ENERSUL was secured mainly to cover
payments to suppliers at an interest rate of 10.85% to 11.40% per annum,
indexed to the foreign exchange rate to United States Dollars, with a
lump-sum payment in March 2004. Short-term financing from Unibanco was
secured in November 2001 at an interest rate of 3.30%, indexed to the
foreign exchange rate to United States Dollar, with a lump-sum payment in
May 2002. The financing is hedged against currency fluctuations by way of
swap contracts.
j) Financing from ITAU was secured mainly to cover payments to suppliers at an
interest rate of 1.50% per annum, indexed to the foreign exchange rate to
United States Dollars, with a lump-sum payment in June 2003. The financing
is hedged against currency fluctuations by way of swap contracts.
k) Financing from National Treasury STN-DMLP was secured for the Distribution
Lines and Substation Investment Program at an interest rate of 5.2% to 8.2%
per annum, indexed to the foreign exchange rate to United States Dollars.
l) Financing from BBVA, Banco do Brasil, Banco Alfa, HSBC and Citibank was
secured to amortize mutual obligations with MAGISTRA and for investments in
the UTE Campo Grande, at a rate of 104% to 116.4% of CDI.
m) The BNDES financing obtained by ESCELSA and ENERSUL is being used for
finance 90% of the recoveries of losses incurred by the Company during the
Energy Rationing Program, collateralized by the amounts to be collected
under the extraordinary tariff recomposition. The loan interest rate is
based on the SELIC, plus spread of 1.0% per annum and 70 (ESCELSA) and 82
(ENERSUL) monthly amortization payments beginning March 2002.
n) The BNDES financing obtained by CESA is being used for the small
hydroelectric power plants. The loan interest rate is based on the
Long-term Interest Rate (TJLP), plus spread of 4.5% per annum, with a
30-month grace period and 96 monthly amortization payments beginning July,
2004 and extending through July 2013.
17.2 Guarantees:
ESCELSA and ENERSUL loans due to ELETROBRAS, BNDES and Banco do Brasil-FCO are
guaranteed by accounts linked to receivables. The ENERSUL loans from Secretaria
do Tesouro Nacional-STN are guaranteed by direct debt, receivables, the
Government of the State of Mato Grosso do Sul and part in cash deposit. Other
loans are guaranteed by promissory notes. ENERSUL shares held in escrow
guarantee MAGISTRA's loan payable to BNDES.
17.3 The breakdown of loans and financing by currency:
December 31,
------------------------------------
2002 2001
---------------- -----------------
Local currency 796,261 594,979
Foreign currency (US Dollars) 1,764,582 1,149,899
---------------- -----------------
Total 2,560,843 1,744,878
================ =================
17.4 Percentage variation of the main indicators used for indexing the loans and
financing are as follows:
Currency and indicators 2002 2001
--------------------------------------- ------------ ------------
F-37
Exchange rate - US dollars 52.27% 18.67%
IGP-M Inflation rate 25.30% 10.38%
INPC Inflation rate 14.74% 9.44%
SELIC 19.13% 18.02%
UM BNDES 55.92% 15.36%
LIBOR (annual average) 2.01% 4.72%
TJLP long-term interest rate 10.00% 10.00%
17.5 Maturities of short and long-term installments are due as follows:
December 31, 2002
----------------------------------------
Currency
----------------------------------------
Maturity Local Foreign Total
------------------- ------------- --------------------------
2003 216,001 121,124 337,125
2004 157,447 31,396 188,843
2005 123,501 18,669 142,170
2006 103,428 15,284 118,712
2007 94,102 1,537,472 1,631,574
2008 41,513 8,493 50,006
2009 16,317 2,972 19,289
2010 15,254 2,268 17,522
2011 11,835 2,268 14,103
2012 8,427 1,669 10,096
After 2012 8,436 22,967 31,403
------------- -------------- -----------
TOTAL 796,261 1,764,582 2,560,843
============= ============== ===========
Financial income (expense) consists of the following:
December 31,
----------------------------------------------
2002 2001 2000
-------------- -------------- --------------
Interest expense (236,101) (161,450) (110,885)
Net gain (loss) on exchange rate variations
And monetary variations (532,660) (130,955) 11,510
Gain on hedge contracts 11,515 1,059 -
Regulatory assets - SELIC 56,712 - -
Interest income - other 30,115 55,515 75,876
-------------- -------------- --------------
Total (670,419) (235,831) (23,499)
============== ============== ==============
18. REGULATORY CHARGES
a. Regulatory Charges Payable
December 31,
----------------------------------------
CHARGE 2002 2001
- ----------------------------------------------------------- ------------------- --------------------
Compensation for usage of water resources 443 436
Global Reversion Reserve Quota - RGR 5,809 6,973
Fuel Consumption Account - CCC 6,527 6,267
Fiscalization Fee - ANEEL 107 139
------------------- --------------------
12,886 13,815
=================== ====================
F-38
b. Regulatory Charges Expense
December 31,
--------------------------------------
2002 2001 2000
------------ ------------ ------------
Compensation for usage of water resources 2,609 1,525 1,623
ANEEL - Fiscalization fee 2,130 2,574 2,129
Global reserve for reversion quota - RGR 27,384 26,598 26,049
Fuel usage quota - CCC 74,061 66,680 70,055
------------ ------------ ------------
Total 106,184 97,377 99,856
============ ============ ============
c. Global Reserve for Reversion Quota - RGR
The global reserve for reversion quota (the RGR Fund) is a reserve fund managed
by Eletrobras, as agent for the Brazilian government, designed to provide funds
for payments to concessionaires upon expiration of their concessions. In these
events, the concessionaire is paid an amount equal to the net book value of its
net assets. Until December 31, 1995, each concessionaire was required to pay an
amount equal to 3% of its assets in service to the RGR Fund, limited to 12% of
total operating revenues less value-added tax on sales to final consumers.
On January 3, 1996, Decree no. 1,771 decreased the RGR rate to 2.5% of assets in
service, limited to 3% of total operating revenues less value-added tax on sales
to final customers.
d. Fuel Compensation Account - CCC
The fuel compensation account represents contributions made by the Company to
finance the cost of fuel used in the thermoelectric energy generating process in
the Brazilian energy system.
19. DEFERRED INCOME TAXES
a. Computation of Income Tax Liability
Taxable income is determined by adjusting income before taxes, principally for
permanent differences and the effects of temporary differences. Tax loss
carryforwards and social contribution negative basis, when available, do not
expire and may be used to offset up to 30% of the taxable income in each year.
Income tax liability is then determined by applying the statutory rate to
taxable income. In periods when income tax computations result in tax losses,
the Company recognizes tax credits on such tax losses. Brazilian tax law does
not allow filing of consolidated tax returns.
b. Deferred Tax Liability
The balance represents primarily income tax liabilities computed on the income
tax and social contribution in respect of the increase in shareholders' equity
due to the recognition of the effects of inflation on non-monetary assets and is
all long-term.
December 31,
---------------------------------
2002 2001
--------------- ---------------
Inflationary profits 7,642 10,108
Deferred income and social contribution
F-39
December 31,
---------------------------------
2002 2001
--------------- ---------------
tax on price level adjustments up to 2000 186,624 203,985
--------------- ---------------
Total 194,266 214,093
=============== ===============
c. Deferred Tax Asset
December 31,
---------------------------------
2002 2001
--------------- --------------
Tax loss carryforwards 223,854 140,549
Deductible temporary differences 62,803 64,484
Deferred income and social contribution tax on
price-level adjustments up to 2000 26,276 26,276
--------------- --------------
Total 312,933 231,309
=============== ==============
Income tax and social contribution at statutory rates is reconciled to the
amount reported as income tax expense (income) in these financial statements as
follows:
December 31,
---------------------------------------
2002 2001 2000
------------ ------------- ------------
Income (loss) before tax (681,112) (60,294) 70,189
Statutory combined rates 34% 34% 34%
------------ ------------- ------------
Income tax expense (benefit) at statutory rate (231,578) (20,500) 23,864
Reversal of tax loss carryforward - 4,778 -
Amortization of goodwill 3,571 893 864
Remuneration of construction work in progress 885 1,543 -
Price-level adjustment- Goodwill 530 129 (12,628)
Valuation allowance see below) 115,236 - -
Others 7,990 2,145 2,128
------------ ------------- ------------
Total expense (benefit) (103,366) (11,012) 14,228
============ ============= ============
Tax credits classified as non-current assets, generated by tax losses, negative
basis of social contribution and other amounts that constitute temporary
adjustments for reduction of future taxation, were recorded based on Company' s
estimated future profitability, considering that the realization period will not
exceed 10 years.
As a result of the rules established by CVM Instruction no. 371, of June 27,
2002, the Company has recognized a valuation allowance of a deferred income
taxes in the amount of R$115,236.
20. ACCRUAL FOR CONTINGENCIES
December 31,
-----------------------------------------------------------------------------
2002 2001
----------------------------------------- -----------------------------------
Accrual Escrow Accrual Escrow
---------------------- -----------------------
Deposits Deposits
- --------------------------------- ---------------------- ------------------ ----------------------- -----------
Current Liabilities:
COFINS 39,382 39,382 39,382 39,382
F-40
December 31,
-----------------------------------------------------------------------------
2002 2001
----------------------------------------- -----------------------------------
Accrual Escrow Accrual Escrow
---------------------- -----------------------
Deposits Deposits
- --------------------------------- ---------------------- ------------------ ----------------------- -----------
---------------- ------------------ ---------------- -----------
TOTAL 39,382 39,382 39,382 39,382
================ ================== ================ ===========
Long Term:
Labor claims 20,941 12,596 19,999 11,656
Civil litigation 36,852 6,282 31,098 6,206
Fiscal 108,574 75,675 87,714 58,954
---------------- ------------------ ---------------- -----------
TOTAL 166,367 94,553 139,811 76,816
================ ================== ================ ===========
Management believes that the recorded accruals are sufficient to cover probable
losses from litigations. Based on the opinion of the Company's legal counsel,
all litigations were provided for where the probability for loss was estimated
as remote. Furthermore, there are labor, civil and fiscal cases pending which
total R$25,413, for which the probability of a loss was estimated possible or
remote as likely and no accruals were recorded in the financial statements.
COFINS
Na accrual was recorded based on amounts deposited from May 1996 to July 1999,
based on a preliminary injunction obtained in May 1996 in the taxes immunity
claim.
With the decision by the Supreme Court - STF in July 1999, upholding the
constitutionality of COFINS tax on electric energy transactions, Escelsa
converted the deposited amounts, normalizing the taxes collected, reclassifying
the provision as Current. The Company awaits the final ruling for a reversion of
the deposits and subsequent payment of the accrued amounts.
Labor Contingencies
Refer to the various labor claims against the Company which claim payment
of overtime, hazardous work conditions, re-integration, among other items.
Civil
The civil contingencies include suits in which the Company is a defendant,
primarily related to moral and material damages claims, and other claims
challenging amounts paid by customers for tariff increases based on DNAEE
ordinances 38 and 45 of January 27, 1986 and March 4, 1986, respectively, during
the Cruzado Plan.
Fiscal Contingencies
The Company is also a party to an administrative suit with the Federal
Revenue Agency, pending final decision, for compensation of amounts overpaid
related to FINSOCIAL, due to the discussion on constitutionality of the Decrees
- - Law no. 2,445/88 and 2,499/88.
There is also a preliminary decision in a lower court, which guarantees
restitution and/or compensation of amounts overpaid related to fines on tax and
contributions spontaneously and untimely paid. The fines exemption is being
requested based on article 138 of the National Tax Code - CTN. Based on its
legal counsel, the Company compensated the amounts related to past-due
contributions (PIS, COFINS, Income tax and Social Contribution), as per Article
66 of Law no. 8,383/91. Conservatively, the Company maintained provisions for
amounts corresponding to the above-mentioned taxes and contributions.
F-41
21. SHAREHOLDERS' EQUITY
a. Capital Stock
Escelsa, as stated in its by-laws, is authorized to operate with capital of up
to R$1,000,000, of which R$239,141 (R$153,947 per corporate law) was subscribed
as of December 31, 2002. 4,550,833 common shares, with no par value is the total
number of outstanding capital shares as of December 31, 2002, 2001 and 2000. The
following table sets forth information with respect to beneficial ownership of
Escelsa's common shares.
Quantity Quantity % of
Shareholders of shares of shareholders Participation
- ---------------------------------------- ---------------- --------------------- ---------------
Iven S.A. 2,378,671 1 52.27
GTD Participacoes S.A. 1,137,709 1 25.00
Fundacao Banco Central - CENTRUS 275,678 1 6.06
Other 758,775 168 16.67
---------------- --------------------- ---------------
Total 4,550,833 171 100.00
================ ===================== ===============
In October 1994, Iven acquired 20% of ESCELSA common shares from the State
Government. In July 10, 1995 Iven and GTD entered into a shareholders' agreement
when they purchased, in a consortium, 50% (plus one share) of the voting stock
of Escelsa. Shares purchased by GTD and Iven pursuant to the privatization of
Escelsa may not be sold without the prior authorization of ANEEL. The
shareholders' agreement expired in the year 2002. In addition, over a period of
time, Iven has acquired approximately 8% of the ESCELSA shares in the market to
increase its total participation to 52.27%.
On October 10, 2002, the EDP Group, acting through IVEN, exerted control over
ESCELSA - Espirito Santo Centrais Electricas, S.A. ("ESCELSA").
b. Capital Reserves
December 31,
------------------------------------------
2002 2001
------------------------------------------
Remuneration on construction work in progress 163,750 162,880
Donations and subsidies 28,720 28,720
Recoverable rate deficit - CRC account 118,909 607,712
Other - 50,110
------------------------------------------
Total 311,379 849,422
==========================================
Remuneration on construction work in progress is the value resulting from the
calculation of interest on funds invested in construction work in progress,
which may be used to increase capital or absorption of losses.
Donations and subsidies represent mainly property donated by the Brazilian
government.
Recoverable rate deficit (CRC) represents compensation for a rate of return
lower than the Brazilian national average for years prior to 1993. The CRC was
applied to reduce payables to Furnas, Eletrobras and others, and the remaining
portion was exchanged for government securities. These offsets were credited
directly to shareholders' equity.
22. OPERATING REVENUES
F-42
Year ended December 31,
---------------------------------------------
Gross revenues
---------------------------------------------
2002 2001 2000
-------------- -------------- ---------------
Electricity Sales to Final customers:
Residential 541,232 489,655 508,360
Industrial 495,885 399,578 375,944
Commercial, service and other activities 311,053 250,407 241,466
Rural 81,197 68,622 63,622
Miscellaneous 136,423 111,095 116,817
Regulatory assets 35,410 298,533 -
-------------- -------------- ---------------
1,601,200 1,617,890 1,306,209
Unbilled revenues 15,422 (273) 6,917
Unbilled revenues - low income consumers 18,718 - -
-------------- -------------- ---------------
1,635,340 1,617,617 1,313,126
Wholesale 40,357 83,519 42,723
-------------- -------------- ---------------
Other 47,581 29,646 32,944
============== ============== ===============
1,723,278 1,730,782 1,388,793
============== ============== ===============
Year ended December 31,
---------------------------------------
Quantities (GWh) (a) (unaudited)
---------------------------------------
2002 2001 2000
----------- ----------- ---------------
Electricity Sales to Final customers:
Residential 1,996 2,055 2,363
Industrial 3,961 3,669 3,979
Commercial, service and other activities 1,367 1,303 1,403
Rural 592 584 607
Miscellaneous 847 826 919
----------- ----------- ---------------
8,763 8,437 9,271
Wholesale 344 339 345
----------- ----------- ---------------
9,107 8,776 9,616
=========== =========== ===============
Number of customers in thousands (b) 1,551 1,495 1,406
(a) Includes 2,754 GWh in 2002, 2,672 GWh in 2001 and 2,836 GWh in 2000 related
to Enersul.
(b) Includes 597 thousand in 2002, 572 thousand in 2001 and 541 thousand
consumers in 2000 related to Enersul. Escelsa has entered into contracts
with its 26 largest customers and numerous other large customers. Such
contracts contain minimum demand clauses which require the customer to pay
for either contracted demand or, if greater, actual capacity used.
Contracts have durations of three or five years, with automatic renewals
for equal durations, subject to notice of 12 and 18 months, respectively,
prior to expiration of the term. Other contracts have three-year terms,
with perpetual rolling one year renewals (all information unnaudited).
Each such contract is subject to termination with approximately 1 1/2 year
notice (if the contract is not terminated, it automatically extends for one
additional year). Tariffs are set pursuant to the Escelsa Concession Contract
with ANEEL. There can be no assurance that any of these contracts will be
renewed in the future, particularly given the threat of competition by IPPs for
industrial customers. If any significant customers terminate their contracts or
fail to renew a contract, Escelsa would be entitled, pursuant to the Power
Sector Law, to immediately reduce its purchases from Furnas by a corresponding
volume of electricity. Customers with whom Escelsa maintained such contracts
represented approximately 42% of its sales of electricity (measured in MWh) and
26% of its revenues
F-43
during 2002.
Enersul has entered into similar contracts with its five largest customers,
which accounted for approximately 8.9% of Enersul's energy sold by volume during
2002.
23. TAXES ON SALES
December 31,
--------------------------------------------------
2001 2001 2000
--------------- ---------------- ----------------
Value-added tax on sales to final consumers 358,175 284,722 286,893
Other taxes on sales 65,965 60,575 43,336
--------------- ---------------- ----------------
Total 424,140 345,297 330,229
=============== ================ ================
Other taxes on sales includes PIS (0.65%) and COFINS (3%) on all revenues.
24. NON-OPERATING EXPENSES, NET
Comprised substantially of the provision to reduce the assets held for sale of
UTE Campo Grande to their market value in the amount of R$51,927 and of disposal
of property, plant and equipment.
25. PENSION PLANS AND OTHER BENEFITS TO EMPLOYEES
a) Escelsa is the sponsor of FUNDACAO ESCELSA DE SEGURIDADE SOCIAL - ESCELSOS, a
nonprofit organization, whose main purpose is to complement the benefits granted
by the official social security system of the Federal Government to the
Company's employees through two benefit packages: A Defined Benefit Plan (Plan
I) and a Defined Contribution Plan (Plan II). These benefit plans are accounted
for based on mathematical reserves calculated actuarially according to the
capitalization regime, which is calculated annually.
b) The table below shows the number of participants for each plan type:
PLAN I PLAN II TOTAL
-------------- --------------- ---------------
Active participants 34 1,402 1,436
-------------- --------------- ---------------
Non-active participants
Retirees 641 119 760
Pension beneficiaries 104 4 108
-------------- --------------- ---------------
745 123 868
-------------- --------------- ---------------
Total 779 1,525 2,304
============== =============== ===============
c) As a sponsor, the Company matches monthly contributions from the members of
ESCELSOS Foundation, corresponding to the amount established in each plan,
limited to 7% of the total payroll. For 2002, ESCELSA contributed R$ 2,529
compared to R$2,552 in 2001.
d) As per CVM Ruling 371 of 12/13/2000, starting in fiscal year 2002,
publicly-listed companies are required to record and disclose all liabilities
related to benefit payments to ex-employees, based on rules set forth by NPC
Bulletin 26 from IBRACON.
To meet this requirement, ESCELSA commissioned an independent actuarial study to
evaluate such benefits, with the following results:
F-44
e) The actuarial premises used for the study were:
2002 2001
- --------------------------------------------------------------------------------------- ----------------------------------
Indicators Nominal rates Real rates
- --------------------------------------------------------------------------------------- ----------------------------------
Discount rate 11.30 % p.a. 6 % p.a.
Expected return on assets 11.30 % p.a. 6 % p.a.
Future salary growth 6.58 % p.a. 3 % p.a.
Growth rate of pension plan 5 % p.a. 0% p.a.
benefits
Growth rate of medical costs 9.2% p.a. 0% p.a.
Inflation 5 % p.a. 0% p.a.
Capacity factor- Salaries 100% 100%
Capacity factor- Benefits 98% 98%
- -------------------------------------
Demographic Indicators
- -------------------------------------
Life expectancy reference GAM - 71 Modified GAM - 71 Modified
mortality table
Invalid mortality table RRB 1944 RRB 1944
Invalid incidence table RRB 1944 RRB 1944
Turnover table Actuary experience Actuary experience
In 2002 the assumptions are presented as nominal rates and in the previous years
they were shown as real rates.
f) The actuarial valuation indicated that in the Defined Benefit Plan the fair
value of assets exceeds the current actuarial liabilities, as shown below:
2002 2001
------------- ----------
Actuarial liabilities current value, total or partially covered (80,465) (70,491)
Assets fair value 108,634 96,709
------------- ----------
Subtotal 28,169 26,218
Amount of actuarial loss (90) -
------------- ----------
Asset not recognized in the balance sheet 28,079 26,218
============= ==========
The Company's management, based on conservatism, decided not to record the
asset, because the effective reduction of the Sponsor's contributions was not
assured, nor the future reimbursement.
The actuarial valuation resulted in the identification of the following
post-employment benefits, which were charged net of income tax and social
contribution to the shareholders' equity, as of December 31, 2001:
o Coverage of medical and dental expenses, medicines, health insurance and,
in cases of confirmed special dependence, equivalent to 50% of the Company
wage floor;
o Early retirement allowance ("AIA"), which is due to employees, hired until
12/31/1981, payable upon the termination of the contract, regardless the
reason for the dismissal. The "AIA" assures the payment of a lump sum,
individually calculated for each employee, considering the proportionality
of contribution time to the INSS until 10/31/1996, the remuneration and the
benefit paid by the INSS on 10/31/1996.
F-45
The actuarial liability recognized in the Company's financial statements as of
December 31 is as follows:
2002 2001
-------------------- -----------------
Present value of actuarial obligations (47,337) (30,451)
Net value of unrecognized losses 17,083 -
-------------------- -----------------
Liability recognized in the balance sheet (30,254) (30,451)
==================== =================
The amount of actuarial losses in excess of 10% of the present value of
actuarial obligations will be annually amortized over a period equivalent to the
average remaining time of work for employees participating in the Plan.
The movement in the actuarial liability recognized in the 2002 balance sheet is
summarized as follows:
Current Long-term Total
----------------------------------------------------------
Balance 12.31.2001 2,420 28,031 30,451
Current service cost - 732 732
Interest cost - 1,868 1,868
Benefits paid (2,797) - (2,797)
Transfer to current 2,419 (2,419) -
----------------------------------------------------------
Balance on 12.31.2002 2,042 28,212 30,254
==========================================================
The amounts related to medical benefits, life insurance and allowance for
incentive to retirement, to be recognized in the 2003 results are as follows:
Current service cost 647
Interest cost 5,112
Amortization of actuarial losses 897
The subsidiary ENERSUL is the sponsor of FUNDACAO ENERSUL, a nonprofit civil
organization, whose main purpose is to complement the benefits granted by the
official social security system of the Federal Government to the Company's
employees through two benefit packages: the initial Plan, in operation since
1989 as a "defined benefit plan" and the Benefit Plan II, that commenced
operations in May 2002, and is structured as a Defined Benefit for the Risk
Benefits, including permanent disability retirement and surviving spouse
pension, and as a Defined Contribution for the Programmed Benefits, including
the Normal and Early Retirements.
The number of participants in each type of Plan is as follows:
PLAN I PLAN II TOTAL
-------------- -------------- ---------------
Contributing participants 15 962 977
-------------- -------------- ---------------
Receiving participants:
Retirees 255 - 255
Pensioners 61 - 61
-------------- -------------- ---------------
316 - 316
-------------- -------------- ---------------
Total 331 962 1,293
============== ============== ===============
The number of active participants is comprised of 680 participants who migrated
from plan I and of 282 new participants.
In the capacity of sponsor, ENERSUL contributes with a monthly amount
proportional to the contribution made by the FUNDACAO ENERSUL participants in
compliance with the rules of each benefit plan. The maximum
F-46
percentage for contribution by the Company for both plans is limited to 7% of
payroll. For 2002, ENERSUL contributed with R$1,481 (R$1,888 in 2001).
As determined by Resolution CVM No 371/2000, of December 13, 2000, as from
January 1, 2002, liabilities arising from post employment benefits have to be
accounted for by publicly held companies, based on the regulations set-forth by
Statement NPC No 26, of IBRACON.
In order to meet such requirement, ENERSUL engaged independent actuaries, to
conduct an actuarial evaluation of those benefits, based on the Projected Credit
Unit method.
As a result of such evaluation, the following benefit plans were identified:
o ENERSUL Employees Pension Plan
o Benefit Plan II
The actuarial assumptions used for the study were:
2002 2001
---------------------------------------------------------------------- -------------------------------
Indicators Nominal Rates Real Rates
---------------------------------------------------------------------- -------------------------------
Discount rate 11.30 % p.a. 6 % p.a.
Expected return on assets 11.30 % p.a. 6 % p.a.
Future salary growth 8.15 % p.a. 3 % p.a.
Growth rate of social security 5.0 % p.a. 0 % p.a.
benefits
Inflation 5.0% 0%
Capacity factor- Salaries 100% 100%
Capacity factor - benefits 98% 98%
---------------------------------------------------------------------- -------------------------------
Demographic Indicators
---------------------------------------------------------------------- -------------------------------
Life expectancy reference GAM - 71 (Modified) GAM - 71 (Modified)
mortality table
Invalid mortality table RRB 1944 RRB 1944
Invalid incidence table RRB 1944 RRB 1944
Actuary experience Actuary experience
F-47
In 2002 the assumptions are presented as nominal rates and in the previous years
they were shown as real rates.
The actuarial valuation indicated that in the Benefit Plan, the fair value of
assets exceeds the current actuarial liabilities, as shown below:
12/31/01 05/31/02 12/31/02
-------- -------- --------
Actuarial liabilities present value, total or partially covered
(65,237) (47,804) (51,875)
Assets fair value
101,535 64,222 68,728
------------------------------------------
Subtotal
16,853 36,298 16,418
Amount of actuarial gains - (936) (881)
------------------------------------------
Asset not recognized in the balance sheet 36,298 15,482 15,972
==========================================
Conservatively, Company Management decided not to record this surplus.
The fair value of assets used for calculating the result of the actuarial
evaluation does not include values in the amount of R$19,250 deriving from
confession of indebtedness, to be received from ENERSUL. Should this right of
the Fundacao be taken into account, unrecognized assets in the balance sheet
would increase to R$35,222.
The movement in the assets in 2002 is summarized as follows:
- -------------------------------------------------------------------
From From June 1,
January 1, 2002 to
2002 to May December 31,
31, 2002 2002
- -------------------------------------------------------------------------------------------------------
Assets at the beginning of period 36,298 15,482
Revenues for the period 726 845
Effect of migration to Plan CD (22,184) -
Actual contributions of the Company in the period 642 76
Transfer from the employer's fund to Plan II - (431)
-----------------------------------
Assets at the end of the period 15,482 15,972
===================================
26. MANAGEMENT'S REMUNERATION
Personnel expenses include the amount of R$3,036 (R$4,663 in 2001), which refer
to Management's remuneration.
F-48
27. INSURANCE (Unaudited)
The following is a breakdown by risk-type and by validity of the principal
insurance policies:
RISKS VALIDITY AMOUNT OF AMOUNT OF
COVERAGE PREMIUM
-------------------------- --------------- ------------- --------------
Specific equipment 02/2002 to
02/2003 19,957 354
Third party liability 02/2002 to
02/2003 120 19
Specific equipment
The policies cover the generating stations and the substations, specifying
the principal items of equipment, the amounts for which they were insured and
the maximum reimbursement. Basic insurance coverage includes events such as
fire, lightning and any kind of explosion, plus additional coverage against
possible electrical damage, sundry risks and risks for electronic and computing
equipment.
Third party liability
This covers involuntary personal or material damage suffered by third
parties as a consequence of the Company's productive and/or commercial
activities.
28. CONSTANT CURRENCY METHOD
As described in Note 2, Brazilian GAAP no longer requires accounting for
inflation effects after December 31, 2000. If inflation effects were to be
recorded during the year 2002, based on the IGP-M variation, shareholders'
equity as of December 31, 2002 and the net income for the year then ended would
be as follows:
Net Shareholders'
Loss Equity
---------------- --------------------
As originally reported in the corporate law financial statements (509,252) 223,021
Accounting for inflation not allowed
Under corporate law method-
Investments 320 820
Goodwill - net of amortization 116,603 218,828
Property, plant and equipment - net of depreciation 532,559 1,375,213
Shareholders' equity (316,572) -
Special liabilities (74,089) (179,852)
Income tax and social contribution effect (46,932) (394,740)
Minority interest (43,765) (120,215)
---------------- --------------------
Approximate amounts as if inflation effects would have been recognized up to (341,128) 1,123,075
================ ====================
F-49
Net Shareholders'
Loss Equity
---------------- --------------------
---------------- --------------------
December 31, 2002
================ ====================
29. SUMMARY OF DIFFERENCES BETWEEN
BRAZILIAN GAAP AND U.S. GAAP
RELATED TO THE COMPANY
29.1 - Description of the GAAP Differences
The Company's accounting policies comply with Brazilian GAAP. A summary of the
differences between Brazilian GAAP and U.S. GAAP is provided below:
a. Regulated Accounting Principles
The Company adopted the accounting principles established by ANEEL for electric
utilities in Brazil.
a.1 - Applicability of SFAS No. 71,
"Accounting for the Effects of Certain Types of Regulation"
As a result of various actions taken by the Federal government and ANEEL in
2001, the Company is subject to the provisions of SFAS No. 71, "Accounting for
the Effects of Certain Types of Regulation" because the rate-setting structure
in Brazil is now designed to recover the Company's allowable costs. Accordingly,
the Company capitalizes incurred costs as deferred regulatory assets when there
is a probable expectation that future revenue equal to the costs incurred will
be billed and collected as a direct result of the inclusion of the costs in an
increased tariff set by the regulator. The deferred regulatory asset is
eliminated when the Company collects the related costs through billings to
customers at increased rates. ANEEL performs a rate review on an annual basis.
If ANEEL excludes all or part of a cost from recovery, that portion of the
deferred regulatory asset is impaired and is accordingly reduced to the extent
of the excluded cost.
During 2001, the electricity markets in significant portions of Brazil
experienced rationing, or reduced availability of electricity to customers, due
to low rainfall, reduced reservoir levels and that country's significant
dependence on electricity generated from hydrological resources. These factors
resulted in lower sales for the Company. In December 2001, the companies reached
an industry-wide agreement (the "agreement") with the Brazilian government that
provided resolution to all rationing related issues as well as to certain other
electricity tariff related issues. The tariff increase will remain in effect for
approximately 7 years. The amounts in the Shareholder's equity and Net loss
reconciliation represent the revenues, which have been reversed out of revenues
reported for Brazilian GAAP purposes, considering the 24 month period for
recoverability established in the Emerging Issues Task Force ("EITF") No. 92-7,
"Accounting by Rate Regulated Utilities for the Effects of Certain Alternative
Revenue Programs". Based on this, the Company only recognizes 24 months of
revenues as of the end of any reporting period until the total amount of related
revenues has been recognized.
a.2 - Capitalization of Interest Costs Relating
to Construction in Progress
Under Brazilian GAAP, the Company capitalizes both interest costs of borrowed
funds and imputed interest on shareholders' funds applied to construction in
progress. For US GAAP reconciliation purposes, the capitalized imputed interest
on shareholders' funds applied to construction in progress was reversed. Only
interest on borrowed funds remains capitalized and the depreciation was computed
using the rates applicable to the corresponding class of property, plant and
equipment. Though the basis of calculation differs from the Brazilian GAAP.
Under U.S. GAAP,
F-50
in accordance with the provisions of SFAS no. 34 - Capitalization of Interest
Costs, interest incurred on borrowings is capitalized to the extent that
borrowings do not exceed construction in progress. The credit is a reduction of
interest expense. Under U.S. GAAP, the amount of interest capitalized excludes
the foreign exchange gains and losses on foreign currency borrowings. The U.S.
GAAP differences between the accumulated capitalized interest on disposals and
in accumulated amortization on disposals relate to the differences between
capitalized interest and related accumulated amortization under Brazilian and
U.S. GAAP which is included in the net book value of disposed property, plant
and equipment.
a.3 - Obligations Related to the Concession
Under Brazilian GAAP, the Company records special liabilities, representing
consumers' contributions to the cost of expanding power supply systems, as
liabilities and includes the related asset in property, plant and equipment,
subject to depreciation over the applicable useful lives. Under US GAAP,
contributions received from customers are considered reimbursement for
construction costs and are credited against the cost of the related fixed
assets. For US GAAP reconciliation purposes, special liabilities were amortized
using the depreciation rates applicable to the corresponding class of property,
plant and equipment acquired with such consumers' contributions.
b. General Accounting Principles
b.1- Pension and Other Benefits
Under Brazilian GAAP, until December 31, 2001, pension plan and other benefits
were recognized on a cash basis. As per CVM Rule 371 of December 2000, starting
in fiscal year 2002, publicly listed companies must record and are required to
disclose all liabilities related to benefit payments to ex-employees, based on
rules set forth by NPC Pronouncement 26 from IBRACON, which are substantially
similar to SFAS 87 and 106 rules. Alternatively, companies were granted the
option to amortize such initial transition obligation as of December 31, 2001,
directly to shareholders` equity, which Escelsa has adopted. SFAS No. 87,
"Employers' Accounting for Pensions" and SFAS No. 106, "Employers' Accounting
for Post-retirement Benefits Other Than Pensions" require recognition of costs
on a more comprehensive accrual basis. In addition, US GAAP requires the
recognition of either an asset or a liability, as appropriate, for the
difference between projected benefit obligations (as defined in SFAS No. 87 and
SFAS No. 106) and plan assets. Such assets must be stated at fair value, as
adjusted for certain reconciling items.
b.2 - Purchase Accounting
Under Brazilian GAAP, purchases of the majority of the shares of another company
are recorded at the book value, restated for inflation in consolidation up to
December 31, 2000. The difference between the purchased company's net assets and
the purchase price is recorded as goodwill and amortized over the concession
term of the purchased company. The purchaser is permitted to defer amortization
of goodwill for several months until the acquired company is integrated. In
addition, Brazilian GAAP permits amortization of goodwill based on projections
of future profitability.
Under US GAAP, the assets and liabilities of the purchased company must be
recorded at fair value, and any difference between the fair value of net assets
including intangible assets and the purchase price is recorded as goodwill.
Certain adjustments subsequent to the purchase must be recorded as an adjustment
to goodwill under U.S. GAAP. During 1998, Enersul reversed the valuation reserve
related to the deferred tax asset for unused tax loss carry forwards. All of
these loss carry forwards related to periods prior to the purchase date. Under
U.S. GAAP, such reversal of the valuation reserve was recorded as a reduction of
goodwill.
The goodwill computed using the fair values assigned to assets and liabilities
totaled R$565,349, compared to R$479,751 under Brazilian GAAP (see note 14). The
fair value of fixed assets under U.S. GAAP totaled R$855,705 compared to book
value of R$941,299 under Brazilian GAAP. The Company reverts the effects of the
additional
F-51
depreciation charged to operations under BR GAAP in the US GAAP reconciliation
(see reversal of depreciation - fair value fixed asset in the U.S. GAAP
reconciliation).
b.3 - Amortization of Goodwill
As permitted under Brazilian GAAP, the Company is amortizing goodwill over the
30 year concession period based on the proportion of projected net income for
the period subsequent to the purchase of Enersul. Also, no goodwill was
amortized in 1997.
Under U.S. GAAP, until December 31, 2001, the straight-line method of
amortization was used over a 30-year period. The amount of goodwill amortized
under Brazilian GAAP was reversed out of results of operations and shareholders'
equity and goodwill calculated in accordance with purchase accounting under U.S.
GAAP was charged against operations and accumulated amortization was charged
against shareholders' equity. Escelsa adopted SFAS No. 142, "Goodwill and Other
Intangible Assets," as of January 1, 2002. The adoption of SFAS No. 142 required
the Company to perform an initial impairment assessment of the goodwill
associated with the acquisition of Enersul as of January 1, 2002. The Company
compared the estimated fair value of Enersul to the carrying value of the net
assets of Enersul. Fair value was derived using discounted cash flow analyses.
As a result of this analysis, the transitional impairment adjustment of
R$409,953 has been reflected as cumulative effect of a change in accounting
principle. Since the amortization and/or write-off of goodwill is non-deductible
for Brazilian tax purposes no tax effect was recognized as a result of this
impairment charge.
b.4 - Income Taxes
Under Brazilian GAAP, deferred income tax liabilities are recognized based on
the amount of future expected taxes to be paid. Deferred income tax assets
related to deductible temporary differences (expenses that are accrued but not
deductible until future periods) or tax loss carryforwards are recognized when
there is a reasonable certainty the Company will generate profits against which
it can offset such an asset.
Under US GAAP, deferred income tax assets related to deductible temporary
differences or tax loss carry forwards are recognized and a valuation reserve is
not recorded if it is more likely than not those such assets will be realized.
Under Brazilian GAAP, the deferred tax effects related to the indexing of
permanent assets for financial reporting but not for tax purposes are presented
in equity. Under US GAAP, this deferred tax liability must be charged to the
statement of operations.
The reversal of the valuation reserve related to deferred tax assets of Enersul
for unused tax loss carry forwards was recorded as a credit to statement of
operations for the year ended December 31, 1998 for Brazilian GAAP. For U.S.
GAAP the reversal of this reserve was recorded as a reduction of the goodwill on
the purchase of Enersul. For Brazilian GAAP, the reversal totaled R$129,933. For
U.S. GAAP, the valuation reserve was R$104,734 (R$63,479 net of the minority
interest), as the deferred tax asset had been offset by deferred tax liabilities
mainly related to the basis difference between Brazilian GAAP and U.S. GAAP.
b.5 - Impairment of Long-lived Assets
Under Brazilian GAAP, the carrying value of fixed assets are written down to
realizable values when it is estimated that such assets will not be realized
through normal depreciation or disposition without loss to the company.
Under U.S. GAAP, the Company follows SFAS No. 144 - "Accounting for the
Impairment or Disposal of Long-lived Assets ". Under SFAS No. 144, whenever
events or changes in circumstances indicate that the carrying value of
long-lived assets may not be recoverable, the Company performs calculations of
undiscounted cash flows expected to be derived from assets in service to
determine whether impairment has occurred. In the event such cash
F-52
flows are not expected to be sufficient to recover the recorded value of the
assets, such assets are written down to their estimated fair values based on
discounted cash flow analyses. No provision was required for U.S. GAAP
reconciliation purposes.
b.6 - Statements of Cash Flows
Brazilian GAAP does not require the presentation of a statement of cash flows as
required by U.S. GAAP. Changes in working capital are presented in the statement
of changes in financial position. U.S. GAAP requires the presentation of a
statement of cash flows describing a company's cash flows from operating,
financing and investing activities.
b.7 - Earnings Per Share
Brazilian GAAP permits earnings per share to be calculated based on the number
of shares outstanding at year-end. Under U.S. GAAP, the earnings per share
calculation takes into account share equivalents and the number of shares is
computed on a weighted average basis. In addition, U.S. GAAP requires the
computation of diluted earnings per share, when dilutive potential common shares
exist, which is not required under Brazilian GAAP. Since there were no changes
in the number of outstanding shares for the years ended December 31, 2002, 2001
and 2000, the weighted average shares outstanding for U.S. GAAP purposes was the
same as the year end amounts. There were no dilutive potential common shares.
Therefore diluted earnings per share are not shown.
b.8 - Financial Statement Note Disclosures
Brazilian GAAP generally requires less information to be disclosed in the notes
to the financial statements than U.S. GAAP.
The additional disclosures required by US GAAP, which are relevant to the
accompanying financial statements, are included in Note 29.3.
b.9 - Net Income Before Taxes and Minority Interest
Under U.S. GAAP, this line item would not be permitted in the income statement.
The line under Brazilian GAAP is intended to measure operations before these
items.
b.10 - Gain on repurchased senior notes
Under U.S. GAAP, the repurchase of senior notes is considered an extinguishment
of debt and, therefore, the gain is accounted for as an extraordinary item in
the statement of operations.
b.11 - Accounting and reporting of investments in marketable
securities
Under Brazilian GAAP, the Company has classified investments in marketable
securities as current assets since they are highly liquid and readily available
for sale at any time.
Under U.S. GAAP, these investments would be classified as available for sale in
accordance with SFAS 115, "Accounting for Certain Investments in Debt and Equity
Securities". Unrealized holding gains and losses are excluded from earnings and
reported in other comprehensive income until realized, net of related income tax
effects in accordance with SFAS 109, "Accounting for Income Taxes". Also, under
U.S. GAAP, a company that presents a classified balance sheet should report
individual available for sale securities as either current or noncurrent, as
appropriate, under the provisions of ARB No. 43, Chapter 3A, "Working Capital -
Current Assets and Current Liabilities".. Unrealized holding-losses amounted to
R$67,516 (R$44,561 net of income taxes) in 2002 and they were not significant in
2001. There were no unrealized holding gains or losses in 2000.
F-53
b.12 - Accounting for financial instruments
Under Brazilian GAAP, derivatives are recorded at net settlement price as
determined on each balance sheet date.
Under U.S. GAAP, effective January 1, 2001, all derivative financial instruments
must be reported at fair value on each balance sheet date and classified as
either a derivative asset or liability. Also under U.S. GAAP, the requirements
for a derivative instrument to qualify for hedge accounting and deferral of
gains and losses are more restrictive than under Brazilian GAAP. In the
reconciliation of differences between BR GAAP and US GAAP (note 29.2) the
Company recorded losses in the amount of R$9,295 due to derivatives fair value
adjustment.
b.13 - Absorption of loss
Under BR GAAP, losses may be absorbed against capital reserves. As shown in the
consolidated statements of changes in shareholders' equity, the Company absorbed
losses against capital reserves in the amount of R$538,913 and 80,479 in 2002
and 2001, respectively.
Under U.S. GAAP, this accounting treatment is only permitted under
reorganization or fresh start accounting. This GAAP difference has no net income
or equity effect.
b.14 - Net operating revenue
Net operating revenue under Brazilian GAAP differs from U.S. GAAP on the
recognition of revenues from value added and other sales taxes, as presented
below:
2002 2001 2000
----------------------- ----------------- -------------------
Net revenue under BR GAAP 1,299,138 1,385,485 1,058,564
Value added and other sales taxes 424,140 345,297 330,229
----------------------- ----------------- -------------------
Net revenue under U.S. GAAP 1,723,278 1,730,782 1,388,793
======================= ================= ===================
29.2 - Reconciliation of Differences Between
Brazilian and U.S. GAAP
a. Shareholders' Equity
As of December 31,
--------------------------------
2002 2001
--------------------------------
As reported on the accompanying Brazilian GAAP financial statements 555,782 1,093,825
Different criteria for-
Regulatory asset (82,660) (103,740)
Capitalization of interest during construction-
Reversal of interest capitalized under-
Brazilian regulated accounting (397,880) (402,954)
Capitalization of interest 322,580 321,865
Depreciation of interest capitalized, net 51,961 48,495
Reversal of depreciation - Fair value fixed asset 19,663 15,406
Cumulative depreciation of special liabilities 98,803 86,398
Reversal of pension and other postretirement obligations - CVM 371-
Note 25 30,254 30,451
Pension and postretirement benefits SFAS 87 and
F-54
As of December 31,
--------------------------------
2002 2001
--------------------------------
SFAS 106 adjustment (41,485) (27,120)
Accumulated amortization of goodwill (40,230) (52,291)
Reversal of valuation allowance related to tax loss carryforwards of
Enersul (129,933) (129,933)
Fair value of derivatives (9,295) -
Impairment of goodwill (409,593) -
Effects of income tax on the adjustment above-
Deferred Income tax liability (177,909) (165,863)
Deferred Income tax and social contribution asset 180,649 176,159
Minority interest 40,246 33,205
--------------------------------
Shareholders' equity according to US GAAP 10,953 923,903
================================
b. Net Income (Loss)
Year ended December 31,
------------------------------------------------
2002 2001 2000
------------------------------------------------
As reported on the accompanying Brazilian Gaap financial statements (538,913) (60,076) 52,647
Different criteria for-
Regulatory Asset 21,080 (103,740) -
Capitalization of interest 6,659 4,539 -
Depreciation of capitalized interest 3,466 1,704 2,075
Depreciation- Fixed Asset - Fair Value 4,257 15,406 -
Amortization of special liabilities 12,405 10,166 9,535
Reversal of pension and other postretirement obligations - CVM 371- (197) - -
Pension and postretirement benefits SFAS 87 and
SFAS 106 adjustment (14,365) 8,088 6,834
Deferred income tax effect from indexation of shareholders' equity - - (35,895)
Amortization of goodwill 12,061 (12,793) (13,892)
Fair value of derivatives (9,295) - -
Unrealized holding losses on available-for-sale investments 67,516 - -
Effects of income tax on the adjustment above-
Deferred Income tax liability (12,046) (11,220) (3,832)
Deferred Income tax asset (18,465) 31,565 (2,255)
Minority interest 7,041 (5,808) (3,036)
------------------------------------------------
Net income (loss) under US GAAP before cumulative effect of a change in (458,796) (122,169) 12,181
accounting principle
Cumulative effect of SFAS 142 adoption (409,593) - -
------------------------------------------------
Net income (loss) under US GAAP (868,389) (122,169) 12,181
================================================
Net income (loss) per share - EPS
------------------------------------------------
Net income (loss) under US GAAP before cumulative effect of a change in (100.82) (26.85) 2.68
accounting principle
Cumulative effect of SFAS 142 adoption (90.00) - -
------------------------------------------------
Net income (loss) under US GAAP (190.82) (26.85) 2.68
================================================
Weighted average shares outstanding 4,550,833 4,550,833 4,550,833
=============== ============== =================
F-55
Year ended December 31,
------------------------------------------------
2002 2001 2000
------------------------------------------------
Shareholders' equity under US GAAP as of beginning of the year 923,903 1,059,313 1,047,132
US GAAP net income (loss) for the year (868,389) (122,169) 12,181
Other comprehensive income - Unrealized holding losses on (44,561)
available-for-sale investments, net of deferred income taxes
Dividends - (13,241) -
------------------------------------------------
Shareholders' equity under US GAAP as of the end of the year 10,953 923,903 1,059,313
================================================
Year ended December 31,
2002 2001 2000
Comprehensive income (loss) under FAS No. 130:
US GAAP net income (loss) (458,796) (122,169) 12,181
Unrealized losses on available-for-sale investments, net of
deferred income taxes (44,561) - -
------------------------------------------------
Total comprehensive income (503,357) (122,169) 12,181
------------------------------------------------
Accumulated other comprehensive loss as of
The end of the year (44,561) - -
================================================
29.3 - Additional Disclosures Required by US GAAP
a. Pension Funds - Escelsa
Escelsa adopted SFAS 87 on December 31, 1994. Prior to such date, the
application of SFAS 87 was not feasible due to the lack of sufficient
information for prior years. The unrecognized net transaction obligations for
the pension and retirement plans detailed below are being amortized on a
straight-line basis over 15 years as from December 31, 1988. The amortization
from December, 31, 1988 through December 31, 1994 was recorded directly to
equity in the opening balance sheet under U.S. GAAP and was approximately
R$16,486 (funded pension plan) and R$5,711 (retirement indemnity program).
a.1 - Funded Pension Plan
Until May 31, 1998, Escelsa sponsored only a defined benefit pension plan
covering all employees, with benefits based on salary and social security
benefits. On June 1, 1998, Escelsa introduced a defined contribution plan to
which employees could voluntarily transfer. The plan's assets are invested in a
separate fund administered by an independent legal entity called Escelsos.
Contributions are made both by the sponsor and the participants based on an
actuarial study prepared by an internal actuary. This study is conducted
according to prevailing Brazilian regulations, as determined by the Social
Security authorities, and is aimed to provide enough funds to cover future
benefit payments. The fund's assets comprise principally time deposits, equity
securities, government securities and real estate.
Based on the report prepared by independent actuaries, the funded status and the
amounts recognized in the Company's US GAAP balance sheet for Escelsa only
(excluding Enersul) for the above plan, calculated according to SFAS 87, are as
follows:
F-56
As of December 31,
----------------------------------------
2002 2001
----------------- -------------------
Actuarial present value of benefit obligations-
Vested benefit obligation (76,585) (60,060)
Non-vested benefit obligation (3,435) (3,359)
----------------- -------------------
Accumulated benefit obligation (80,020) (63,419)
Effect of future projected salary increases (445) (441)
----------------- -------------------
Projected benefit obligation (80,465) (63,860)
Plan assets at fair market value 108,634 87,611
----------------- -------------------
Funded status 28,169 23,751
Unrecognized net transition obligation, being amortized
over 15 years from December 1988 231 451
Unrecognized net (gain) (27,051) (26,731)
----------------- -------------------
(Accrued) prepaid pension cost liability (asset) 1,349 (2,529)
================= ===================
The net periodic pension cost (as defined under SFAS 87) includes the following
elements excluding Enersul:
Year ended December 31,
--------------------------------------
2002 2001 2000
----------- ------------ -------------
Net periodic pension cost-
Service cost-benefits earned during the period 303 344 505
Interest cost on projected benefit obligation 4,352 3,523 3,616
Amortization of net transition obligation 267 225 225
Actual return on assets (17,940) (4,156) (3,978)
Net deferral 11,837 (1,007) (1,206)
Amortization of net gains (2,546) (2,951) (2,939)
Employee contributions (57) (131) (172)
----------- ------------ -------------
Net periodic pension cost under US GAAP (3,784) (4,153) (3,949)
Additional credit under US GAAP 3,878 4,560 4,457
----------- ------------ -------------
Amount recorded under Brazilian GAAP 94 407 508
=========== ============ =============
The assumptions used were:
Assumptions 2002 2001 2000
-------------------------------------------------------- ----------- ----------- ----------
Discount rate 11.30% 6% 6%
Rate of increase in compensation levels 6.58% 3% 3%
Expected long-term rate of return on assets 11,30% 6% 6%
Benefit increase 5.00% 0% 0%
Inflation 5.00% 0% 0%
In 2002 the assumptions are presented as nominal rates and in the previous years
they were shown as real rates.
F-57
a.2 - Retirement Indemnity Program
In addition to benefits provided under Escelsa's funded pension plans, Escelsa
sponsors an unfunded retirement indemnity program called AIA that provides a
lump sum amount at retirement to employees who joined Escelsa before December
31, 1981. The funded status and the net periodic pension cost for this program
under SFAS 87, as identified in the report prepared by the independent
actuaries, are given below. The same assumptions used for the funded pension
plan were used.
As of December 31,
-----------------------------------------
2002 2001 2000
------------- ------------- -------------
Funded status-
Actuarial present value of benefit obligations-
Vested benefit obligation (4,343) (3,493) (3,559)
Non-vested benefit obligation (1,678) (2,651) (3,588)
-----------------------------------------
Accumulated benefit obligation (6,021) (6,144) (7,147)
Effect of future projected salary increase (1,410) (816) (1,092)
-----------------------------------------
Projected benefit obligation (7,431) (6,960) (8,239)
Unrecognized net transition obligation, being
amortized over 15 years from December 31, 1988 972 1,903 2,856
Unrecognized prior service cost (3,038) (3,238) (3,690)
Unrecognized net (gain) (3,496) (3,323) (2,787)
-----------------------------------------
Accrued pension cost liability (12,993) (11,618) (11,860)
=========================================
The net periodic pension cost (as defined under SFAS 87) includes the following
elements:
Year ended December 31,
-----------------------------------------
2002 2001 2000
------------- ------------- -------------
Net periodic pension cost-
Service cost-benefits earned during the period 262 297 362
Interest cost on projected benefit obligation 451 468 516
Amortization of net transition obligation 1,129 952 952
Amortization of net gain (536) (214) (120)
Amortization of prior service cost (372) (452) (452)
-----------------------------------------
Net periodic pension cost 934 1,051 1,258
Additional credit (expense) under US GAAP (1,375) 242 409
-----------------------------------------
Amount recorded under Brazilian GAAP (441) 1,293 1,667
=========================================
Assumptions used were:
Assumptions 2002 2001 2000
------------------------------------------------ ------------ ------------ ------------
Discount rate 11.30% 6% 6%
Rate of compensation increase levels 6.58% 3% 3%
Expected return on plan assets 11.30% 6% 6%
Benefit increase 5.00% 0% 0%
Inflation 5.00% 0% 0%
In 2002 the assumptions are presented as nominal rates and in the previous years
they were shown as real rates.
F-58
a.3 - Postretirement Benefits Other Than Pension
In terms of postretirement benefits other than pension, Escelsa provides medical
and life insurance benefits to retired employees for the remainder of their
lifetime. The funded status and the net postretirement benefit cost for this
program under SFAS 106, as identified in the report prepared by the independent
actuaries, are given below:
As of December 31,
------------------------------------------------
2002 2001 2000
--------------- --------------- --------------
Funded status-
Accumulated postretirement benefit obligation in
excess of plan assets (41,093) (21,707) (22,793)
Unrecognized net loss from experience different than
assumed 24,257 6,739 8,083
Unrecognized net prior service cost (1,969) (2,081) (2,356)
------------------------------------------------
Accrued liability (18,805) (17,049) (17,066)
================================================
The net postretirement benefit cost, as defined under SFAS 106, includes the
following elements:
Year ended December 31,
-----------------------------------------
2002 2001 2000
------------- ------------- -------------
Net postretirement benefit cost-
Service cost-benefits earned during the period 461 440 445
Interest cost on projected benefit obligation 1,495 1,327 1,302
Net loss 388 400 439
Prior service cost (327) (276) (276)
-----------------------------------------
Net postretirement benefit cost 2,017 1,891 1,910
Additional credit (expense) under US GAAP (1,755) 17 1,054
-----------------------------------------
Amount recorded under Brazilian GAAP 262 1,908 2,964
=========================================
Assumptions used were:
Assumptions 2002 2001 2000
--------------------------------------------------------------------- ------------- ------------ ------------
Discount rate 11.30% 6% 6%
Health care cost trend rate 9.20% N/A N/A
Annual increase in employer annual fixed payment to retirees related
to medical and life insurance benefits (R$134.40) 5.0% 0% 0%
Inflation 5.0% 0% 0%
In 2002 the assumptions are presented as nominal rates and in the previous years
they were shown as real rates.
On March 31, 1997, Escelsa modified the health care plan to express benefits as
a fixed monthly value indexed for inflation. Therefore, the health care cost
trend rate no longer affects the liabilities of the plan.
F-59
a.4 - Additional information
Information required by Financial Accounting Standards Board Statement no. 132
is as follows:
Retirement Other postretirement
Pension plan indemnity Benefit
---------------------------------------------------------------------------
2002 2001 2002 2001 2002 2001
------------ ----------- ------------ ------------ ------------ -----------
Change in benefit obligation-
Benefit obligation at the beginning of
the year 70,491 61,212 7,683 8,239 23,962 22,793
Service cost 303 344 262 297 461 440
Interest cost 4,352 3,523 451 467 1,495 1,327
Actuarial loss (gain) 11,733 4,103 (200) (750) 17,207 (945)
Benefit payments (6,414) (5,322) (765) (1,293) (2,032) (1,908)
---------------------------------------------------------------------------
Benefit obligation at end of year 80,465 63,860 7,431 6,960 41,093 21,707
Change in plan assets-
Fair value of plan assets at the
beginning of the year 96,709 88,286 - - - -
Actual return on plan assets 17,940 4,156 - - - -
Employer contributions 356 408 - - - -
Plan participants' contribution 43 83 - - - -
Gross benefits paid (6,414) (5,322) - - - -
---------------------------------------------------------------------------
Fair value of plan assets at end of 108,634 87,611 - - - -
year
Funded status-
Funded status at end of year 28,169 23,751 (7,431) (6,960) (41,093) (21,707)
Unrecognized net actuarial (gain) loss (27,051) (26,731) (3,496) (3,323) 24,257 6,739
Unrecognized prior service cost - - (3,038) (3,238) (1,969) (2,081)
Unrecognized transition obligation 231 451 972 1,903 - -
---------------------------------------------------------------------------
Net amount recognized at end of year 1,349 (2,529) (12,993) (11,618) (18,805) (17,049)
---------------------------------------------------------------------------
Amounts recognized in the statement
of financial position consist of-
Accrued benefit asset (cost) 1,349 (2,529) (12,993) (11,618) (18,805) (17,049)
---------------------------------------------------------------------------
Net amount recognized at end of year 1,349 (2,529) (12,993) (11,618) (18,805) (17,049)
===========================================================================
b. Pension Funds - Enersul
b.1 - Funded Pension Plan
Until May 31, 2002 the Company was sponsoring only a defined benefit pension
plan covering all employees, with benefits based on salary and social security
benefits. On June 1, st 2002, the Company introduced a hybrid plan (Plan II) to
which employees could voluntarily transfer. Most participants from Plan I
(defined benefit plan) migrated to the hybrid plan, however, there were
employees who were not participants of Plan I (DB Plan) and chose to participate
of the new hybrid plan (Plan II). In this report we show the effect of those who
migrated and of those who joined the DC Plan directly. Part of the surplus of DB
Plan existing at the beginning of the Plan II is being used by the company to
reduce its contributions to this Plan. This procedure was approved by the SPC
(government agency).
F-60
The plan's assets are invested in a separate fund administered by an independent
legal entity called FUNDACAO ENERSUL.
Contributions are made both by the sponsor and the participants based on an
actuarial study prepared by an independent actuary. This study is conducted
according to prevailing Brazilian regulations, as determined by the Social
Security authorities, and is intended to provide enough funds to cover future
benefit payments. The fund's assets comprise principally time deposits, equity
securities, government securities and real estate.
Based on the report prepared by independent actuaries, the funded status and the
amounts recognized in the Company's balance sheet for the above plan, calculated
according to SFAS 87 are presented below.
12.31.2002 05.31.2002 12.31.2001 12.31.2000
------------- -------------- -------------- -------------
Funded status-
Actuarial present value of benefit obligations-
Vested benefit obligation (45,218) (41,669) (36,850) (36,700)
Non-vested benefit obligation (6,002) (5,531) (14,195) (13,651)
---------------------------------------------------------
Accumulated benefit obligation (51,220) (47,200) (51,045) (50,351)
Effect of future projected salary increase (655) (604) (8,055) (10,480)
---------------------------------------------------------
Projected benefit obligation (51,875) (47,804) (59,100) (60,831)
Plan assets at fair market value (1) 68,728 64,222 91,983 88,206
------------- -------------- -------------- -------------
Plan assets in excess of projected benefit obligation
16,853 16,418 32,883 27,375
Unrecognized net transition obligation, being
amortized over 15 years from December 31, 1989 1,931 2,336 3,844 4,989
Unrecognized net loss (gain) (29,820) (30,867) (32,653) (31,557)
---------------------------------------------------------
Accrued pension cost liability (11,036) (12,113) 4,074 807
=========================================================
(1) The plan assets shown above correspond to the market value of assets net of
receivables for sponsor contributions, payable benefits and contingency
funds to cover potential cost associated with additional medical, benefits
plan administration and employee loans and participant's account balance
transferred to the Hybrid Plan.
The net periodic pension cost (as defined under SFAS 87) includes the following
elements:
2002 Expense
----------------------------------------------------------
From From After
Prior 01.01.2002 05.31.2002 Curtailme
Curtailment to to nt and
and Settlement 05.31.2002 12.31.2002 Settlement
---------------- -------------- ------------- ------------
Net periodic pension cost-
Service cost-benefits earned during the period 1,656 657 234 891
Interest cost on projected benefit obligation 4,096 1,624 3,041 4,665
Actual return on assets (6,520) (2,585) (4,096) (6,681)
Amortization of net transition obligation 1,356 537 405 942
Net (gain) loss (2,367) (938) (992) (1,930)
Employee contributions (1,064) (422) (24) (446)
----------------------------------------------------------
Net periodic pension cost (2,843) (1,127) (1,432) (2,559)
==========================================================
As of December 31,
------------------------------------------
2002
F-61
As of December 31,
------------------------------------------
After
Curtailment
and Settlement 2001 2000
---------------- ------------ ------------
Net periodic pension cost-
Service cost-benefits earned during the period 891 1,646 1,743
Interest cost on projected benefit obligation 4,665 3,559 3,718
Actual return on assets (6,681) (4,321) (3,032)
Amortization of net transition obligation 942 1,143 1,143
Net deferral - (969) (2,496)
Net (gain) loss (1,930) (1,508) (1,835)
Employee contributions (446) (1,038) (1,128)
------------------------------------------
Net periodic pension cost under US GAAP (2,559) (1,488) (1,887)
Additional credit under US GAAP (15,112) 3,269 2,228
------------------------------------------
Amount recorded under Brazilian GAAP (17,671) 1,782 341
==========================================
The assumptions used were:
Assumptions 2002 2001 2000
--------------------------------------------- ------------ ---------- -----------
Discount rate 11.30% 6% 6%
Rate of increase in compensation levels 8.15% 3% 3%
Expected long-term rate return on assets 11.30% 6% 6%
Benefit increase 5.00% 0% 0%
Inflation 5.00% 0% 0%
In 2002 the assumptions are presented as nominal rates and in the previous years
they were shown as real rates.
b.2 - Additional Information
Information required by Financial Accounting Standards Board Statement no. 132
is as follows:
Pension plan
--------------------------------
2002 2001
----------------- --------------
Change in benefit obligation-
Benefit obligation at the beginning of year 65,237 60,831
Service cost 891 1,646
Interest cost 4,665 3,559
Actuarial (gain) 5,436 (3,603)
Curtailments (11,460) -
Settlements (9,322) -
--------------------------------
Gross benefit payments (3,572) (3,333)
--------------------------------
Net benefit obligation at end of year 51,875 59,100
Change in plan assets-
Fair value of plan assets at beginning of year 101,535 88,206
Actual return of plan assets 15,058 4,321
Employer contributions 718 1,782
Settlements (431) -
Gross benefit payments (44,960) -
F-62
Pension plan
--------------------------------
2002 2001
----------------- --------------
Plan participants' contribution 380 1,008
Gross benefit paid (3,572) (3,333)
--------------------------------
Fair value of plan assets at end of year 68,728 91,984
Funded status-
Funded status at end of year 16,853 32,883
Unrecognized net actuarial (gain) (29,820) (32,653)
Unrecognized net transition obligation 1,931 3,846
--------------------------------
Net amount recognized at end of year (11,036) 4,076
--------------------------------
Amounts recognized in the statement of financial position
consist of-
Accrued benefit cost (11,036) 4,076
--------------------------------
Net amount recognized at end of year (11,036) 4,076
================================
c. Concentration of Credit Risk
Credit risk with respect to customer accounts receivable is diversified. The
Company continually monitors its customer accounts receivable and limits its
exposure to bad debts by curtailing service if any invoice is one month overdue.
Exceptions comprise supply of electricity that must be maintained for reasons of
safety or national security.
d. Fair Value of Financial Instruments
Except for cash and cash equivalents, which are stated at cost plus accrued
interest and which approximate fair value, the carrying value of Escelsa's other
financial instruments, in reais, approximates fair value at such dates
reflecting the short-term maturity, frequent repricing or estimated market value
(when lower than cost) at December 31, 2001 and 2000 of these instruments.
With respect to the senior notes issued by the Company, which carrying value as
of December 31, 2002 and 2001 are R$1,522,704 and R$ 999,995, respectively,
their fair value, based on the bid price as of December 31, 2002 and 2001 are
R$944,076 and R$ 859,996, respectively.
Based on interest rates currently available to Escelsa for others bank loans
with similar terms and average maturities, the fair value of other long-term
debt at December 31, 2002 and 2001 approximates its carrying value.
Fair value estimates are made at a specific date, based on the financial
instruments. These estimates are subjective in nature and involve uncertainties
and matters of significant judgment and, therefore, cannot be determined with
precision. Changes in assumptions could significantly affect the estimates.
e. Segment reporting
The Company operates in only one segment as its operating revenues are basically
derived from the sale of electricity to the final customers in the states of
Espirito Santo and Mato Grosso do Sul.
f. New accounting pronouncements
F-63
SFAS No. 141 - "Business Combinations"
In June 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 141 (SFAS 141), "Business
Combinations." SFAS 141 addresses financial accounting and reporting for
business combinations and supersedes APB Opinion No. 16 (Opinion 16), "Business
Combinations" and FASB Statement No. 38, "Accounting for Preacquisition
Contingencies of Purchased Enterprises." All business combinations in the scope
of SFAS No. 141 are to be accounted for using the purchase method. In addition,
SFAS No. 141 requires that intangible assets be recognized as assets apart from
goodwill if they meet two criteria: the contractual-legal criteria or the
separability criteria. To assist in identifying acquired intangible assets, SFAS
No. 141 also provides a list of intangible assets that meet either one of those
criteria. In addition to the disclosure requirements prescribed in Opinion No.
16, SFAS No. 141 requires disclosure of the primary reasons for a business
combination and the allocation of the purchase price paid to the assets acquired
and liabilities assumed by major balance sheet caption. SFAS No. 141 also
requires that when the amounts of goodwill and intangible assets acquired are
significant to the purchase price paid, disclosure of other information about
those assets is required, such as the amount of goodwill by reportable segment
and the amount of the purchase price assigned to each major intangible asset
class. The provisions of SFAS No. 141 apply to all business combinations
initiated after June 30, 2001. SFAS No. 141 also applies to all business
combinations accounted for using the purchase method for which the date of
acquisition is July 1, 2001, or later. The adoption of SFAS No. 141 on January
1, 2002, did not result in any impact to our financial statements.
SFAS No. 142 - "Goodwill and Other Intangible Assets"
In June 2001, FASB issue SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 142 addresses financial accounting and reporting for acquired
goodwill and other intangible assets and supersedes APB Opinion 17, Intangible
Assets. SFAS No. 142 also amends SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for long-lived Assets to Be Disposed Of," to exclude from
its scope goodwill and intangible assets that are not amortized. SFAS No. 142
addresses how intangible assets that are acquired individually or with a group
of other assets (but not those acquired in a business combination) should be
accounted for in financial statements upon their acquisition. This Statement
also addresses how goodwill and other intangible assets should be accounted for
after they have been initially recognized in the financial statements. The
provision of SFAS No. 142 is required to be applied starting with fiscal years
beginning after December 15, 2001. Early application is permitted for entities
with fiscal years beginning after March 15, 2001, provided that the first
interim financial statements have not been issued. An exception to SFAS No. 142
application date is for goodwill and intangible assets acquired after June 30,
2001, which will be immediately subject of the non-amortization and amortization
provisions of this statement. As a result of the adoption of SFAS No. 142 on
January 1, 2002, the Company recorded an impairment charge in the amount of
R$409,593.
SFAS No. 143 - "Accounting for Asset Retirement Obligations"
In June 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 143 (SFAS No. 143), "Accounting
for Asset Retirement Obligations." SFAS No. 143 basically requires that the fair
value of a liability for an asset retirement obligation be recognized in the
period in which it is incurred if a reasonable estimate of fair value can be
made. The associated asset retirement costs are capitalized as part of the
carrying amount of the long-lived asset. Under SFAS No. 143 the liability for an
asset retirement obligation is discounted and accretion expense is recognized
using the credit-adjusted risk-free interest rate in effect when the liability
was initially recognized. In addition, disclosure requirements contained in SFAS
No. 143 will provide more information about asset retirement obligations. SFAS
No. 143 is effective for financial statements issued for fiscal years beginning
after June 15, 2002 with earlier application encouraged. Based on an initial
assessment of the provisions and requirements of SFAS No. 143, management
believes that the implementation of this statement will not result in any impact
to our financial statements.
F-64
SFAS No. 144 - "Accounting for the Impairment or Disposal of Long-Lived
Assets"
In August 2001, the FASB issued Statement of Financial Accounting Standards
No. 144 (SFAS No. 144), "Accounting for the Impairment or Disposal of Long-Lived
Assets" supersedes Statement of Financial Accounting Standards No. 121 (SFAS No.
121), "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of" but retains SFAS No. 121 fundamental provisions for
(a) recognition/measurement of impairment of long-lived assets to be held and
used and (b) measurement of long-lived assets to be disposed of by sale. SFAS
No. 144 also supersedes the accounting and reporting provisions of APB Opinion
No. 30 (APB No. 30)," Reporting the Results of Operations" for segments of a
business to be disposed of but retains APB No. 30's requirement to report
discontinued operations separately from continuing operations and extends that
reporting to a component of an entity that either has been disposed of or is
classified as "held for sale." SFAS No. 144 is effective for fiscal years
beginning after December 15, 2001 and interim periods within those years, with
early application encouraged. The adoption of SFAS No. 144 on January 1, 2002,
did not result in any impact to our financial statements.
SFAS No. 145 - "Rescission of SFAS Nos. 4, 44 and 64, Amendment of SFAS 13,
and Technical Corrections as of April 2002 of SFAS 145"
In April 2002, the FASB issued Statements of Accounting Standards No. 145,
"Rescission of SFAS Nos. 4, 44 and 64, Amendment of SFAS No. 13, and Technical
Corrections as of "April 2002" ("SFAS 145"). SFAS No. 145 rescinds SFAS No. 4,
"Reporting Gains and Losses from Extinguishment of Debt," SFAS No. 44,
"Accounting for Intangible Assets of Motor Carriers," and SFAS No. 64,
"Extinguishments of Debt made to satisfy Sinking-Fund requirements." As a
result, gains and losses from extinguishment of debt will no longer be
classified as extraordinary items unless they meet the criteria of unusual or
infrequent as described in Accounting Principles Boards Opinion No. 30,
"Reporting the Results of Operations-Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions." In addition, SFAS No. 145 amends SFAS No. 13,
"Accounting for Leases," to eliminate an inconsistency between the required
accounting for sale-leaseback transactions and the required accounting for
certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. SFAS No. 145 also amends other existing
authoritative pronouncements to make various technical corrections, clarify
meanings or describe their applicability under changed conditions. SFAS No. 145
is effective for fiscal years beginning after 15 May 2002. We are currently
evaluating the impact that the adoption of SFAS No. 145 will have on our results
of operations and financial position. However, we do not believe that the
adoption of SFAS No. 145 will have a material impact on our financial
statements.
SFAS No. 146 - "Accounting for Costs Associated with Exit or Disposal
Activities"
In June 2002, the FASB issued Statement of Accounting Standards No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities." This
Statement addresses financial accounting and reporting for costs associated with
exit or disposal activities and nullifies Emerging Issues Task Force Issue No.
94-3, "Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)"
("EITF 94-3"). SFAS No. 146 eliminates the definition and requirements for
recognition of exit costs in EITF No. 94-3. SFAS No. 146 requires that a
liability for a cost associated with an exit or disposal activity be recognized
when the liability is incurred. Under EITF No. 94-3, a liability for an exit
cost as defined in EITF No. 94-3 was recognized at the date of an entity's
commitment to an exit plan. SFAS No. 146 also concluded that an entity's
commitment to a plan, by itself, does not create a present obligation to others
that meets the definition of a liability. SFAS No. 146 also establishes that
fair value is the objective for initial measurement of the liability. The
requirements of SFAS No. 146 apply prospectively to activities that are
initiated after December 31, 2002, and as such, we cannot reasonably estimate
the impact of adopting these new rules until and unless it undertakes relevant
activities in future periods.
F-65
SFAS No. 149 - "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities"
In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities, which amends and clarifies
accounting for derivative instruments, including certain derivative instruments
embedded in other contracts, and hedging activities under SFAS No 133,
accounting for Derivative Instruments and Hedging Activities. SFAS No. 149
clarifies the circumstances under which a contract with an initial net
investment meets the characteristic of a derivative as discussed in SFAS No.
133. In addition, SFAS No.149 clarifies when a derivative contains a financing
component that warrants special reporting in the statement of cash flows. SFAS
No. 149 amends certain other existing pronouncements, resulting in more
consistent reporting of contracts that are derivatives in their entirety or that
contain embedded derivatives that warrant separate accounting. SFAS No. 149 is
effective for contracts entered into or modified after June 30, 2003 and for
relationships designated after June 30, 2003 and is to be applied prospectively.
The Company does not believe that the adoption of SFAS No. 149 will have a
material impact on the Company's financial statements.
SFAS No. 150 - "Accounting for Certain Financial Instruments with
Characteristics of Both Liabilities and Equity
SFAS 150 does not apply to features embedded in financial instruments that
are not derivatives in their entirety. In addition to its requirements for the
classification and measurement of financial instruments within its scope, SFAS
150 also requires disclosures about alternative ways of settling those
instruments and the capital structure of entities, all of whose shares are
mandatorily redeemable. SFAS 150 is effective for financial instruments entered
into or modified after May 31, 2003, and otherwise is effective at the beginning
of the first interim period beginning after June 15, 2003. It is to be
implemented by reporting the cumulative effect of a change in an accounting
principle for financial instruments created before the issuance date of the
Statement and still existing at the beginning of the interim period of adoption.
Restatement is not permitted. The Company is currently evaluating the impact of
SFAS 150 on the Company's consolidated financial statements.
FIN No. 45 - "Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others"
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" ("FIN No. 45"). This interpretation
requires certain disclosures to be made by a guarantor in its interim and annual
financial statements about its obligations under certain guarantees that it has
issued. It also requires a guarantor to recognize, at the inception of a
guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee. The disclosure requirements of FIN No. 45 are effective
for interim and annual periods ending after December 15, 2002. The initial
recognition and initial measurement requirements of FIN No. 45 are effective
prospectively for guarantees issued or modified after December 31, 2002. Based
on an initial assessment of the provisions and requirements of FIN No. 45, our
management believes that the implementation of this statement will not result in
any impact to our financial statements.
* * * * * * * * * *
F-66
CERTIFICATION UNDER SECTION 302 OF THE U.S. SARBANES-OXLEY ACT OF 2002
I, Antonio Eduardo da Silva Oliva, certify that:
1. I have reviewed this annual report on Form 20-F of Espirito Santo
Centrais Eletricas S.A. - ESCELSA;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:
(a) Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
annual report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this annual report (the "Evaluation Date"); and
(c) Presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date; and
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (and persons
performing the equivalent function):
(a) All significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls.
The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or any
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
/s/ Antonio Eduardo da Silva Oliva
- ------------------------------------
Antonio Eduardo da Silva Oliva
Chief Executive Officer
June 30, 2003
CERTIFICATION UNDER SECTION 302 OF THE U.S. SARBANES-OXLEY ACT OF 2002
I, Sergio Pereira Pires, certify that:
1. I have reviewed this annual report on Form 20-F of Espirito Santo
Centrais Eletricas S.A. - ESCELSA;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:
(a) Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
annual report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this annual report (the "Evaluation Date"); and
(c) Presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date; and
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (and persons
performing the equivalent function):
(a) All significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls.
The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or any
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
/s/ Sergio Pereira Pires
- -------------------------
Sergio Pereira Pires
Chief Financial Officer
June 30, 2003
SIGNATURES
Pursuant to the requirements of Section 12 of the Securities Exchange Act
of 1934, the Registrant certifies that it meets all of the requirements for
filing this Annual Report on Form 20-F and has duly caused this Annual Report or
amendment thereto to be signed on its behalf by the undersigned, thereunto duly
authorized.
ESPIRITO SANTO CENTRAIS ELETRICAS S.A. -
ESCELSA
By: /s/ Antonio Eduardo da Silva Oliva
-----------------------------------
Name: Antonio Eduardo da Silva Oliva
Title: Chief Executive Officer
By: /s/ Sergio Pereira Pires
-------------------------
Name: Sergio Pereira Pires
Title: Chief Financial Officer
Dated: June 30, 2003
EXHIBIT INDEX
Exhibit
Number Description
- ------ -----------
1. Bylaws in English of Espirito Santo Centrais Electricas S.A. -
ESCELSA
2(c). Supplemental Indenture dated December 13, 2002 between Espirito
Santo Centrais Electricas S.A. - ESCELSA and J.P. Morgan Chase
Bank.
4(a).1 Purchase and Sale of Electrical Energy dated December 23, 2002
between Espirto Santo Centrais Eletricas S.A. - ESCELSA and
Enertrade-Comercializadora de Energia S.A.
4(a).2 Purchase and Sale of Electrical Energy dated December 23, 2002
between ENERSUL-Empresa Energetica do Mato Grosso do Sul S.A. and
Enertrade-Comercializadora de Energia S.A.
4(a).3 R$166 Million Credit Facility, as amended, dated February 18,
2002 between Banco Nacional de Desenvolvimento Economico e
Social-BNDES and Espirito Santo Centrais Electricas S.A. -
ESCELSA
4(a).4 R$101 Million Credit Facility, as amended, dated February 19,
2002 between Banco Nacional de Desenvolvimento Economico e
Social-BNDES and Empresa Energetica de Mato Grosso do Sul S.A. -
ENERSUL
4(b).l Purchase and Sale of Electrical Energy dated December 23,
2002 between Espirito Santo Centrais Electricas S.A. - ESCELSA
and Enercouto S.A.
4(b).2 Purchase and Sale of Electrical Energy dated December 23,
2002 between ENERSUL-Empresa do Mato Grosso do Sul S.A. and
Enercouto S.A.
4(b).3 Purchase and Sale of Electrical Energy dated December 23,
2002 between Espiri to Santo Centrais Electricas S.A. - ESCELSA
and Enerpeixe S.A.
4(b).4 Purchase and Sale of Electrical Energy dated December 23,
2002 between ENERSUL-Empresa Energetica do Mato Grosso do Sul
S.A. and Enerpeixe S.A.
6. Computation of earnings per share (See note 29(b).7 to our
financial statements)
8. List of subsidiaries (See "Item 4 - Organizational Structure")
12(a).1 CEO Certificates pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002
12(a).2 CFO Certification pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002