UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission File Number: (Under the Securities Act of 1933) 33-37977
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
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(Exact name of registrant as specified in its charter)
MICHIGAN 38-2726166
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
100 PROGRESS PLACE, MIDLAND, MICHIGAN 48640
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (989) 839-6000
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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 whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes No X
---- ---
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 2003
TABLE OF CONTENTS
PART I FINANCIAL INFORMATION Page
Item 1. Consolidated Financial Statements (Unaudited).....................2
Consolidated Balance Sheets ......................................2
Consolidated Statements of Operations ............................3
Consolidated Statements of Partners' Equity.......................4
Consolidated Statements of Cash Flows.............................5
Condensed Notes to Unaudited Consolidated Financial Statements....6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................15
Item 3. Quantitative and Qualitative Disclosures About Market Risk ......23
Item 4. Controls and Procedures..........................................24
PART II OTHER INFORMATION
Item 1. Legal Proceedings................................................25
Item 6. Exhibits and Reports on Form 8-K.................................25
Signatures.......................................................26
Certifications...................................................27
-1-
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements (Unaudited)
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONSOLIDATED BALANCE SHEETS AS OF
(In Thousands)
June 30,
2003 December 31,
ASSETS (Unaudited) 2002
- ------ ----------- ------------
CURRENT ASSETS:
Cash and cash equivalents $ 340,136 $ 160,425
Accounts and notes receivable -- related parties 41,349 48,448
Accounts receivable 39,297 32,479
Gas inventory 21,378 19,566
Unamortized property taxes 33,345 18,355
Derivative assets 103,792 73,819
Broker margin accounts and prepaid expenses 2,318 3,323
----------- -----------
Total current assets 581,615 356,415
----------- -----------
PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment 2,456,856 2,449,148
Pipeline 21,432 21,432
----------- -----------
Total property, plant and equipment 2,478,288 2,470,580
Accumulated depreciation (955,069) (920,614)
----------- -----------
Net property, plant and equipment 1,523,219 1,549,966
----------- -----------
OTHER ASSETS:
Restricted investment securities held-to-maturity 140,583 138,701
Derivative assets non-current 39,198 31,037
Deferred financing costs, net of accumulated amortization of
$16,643 and $15,930, respectively 8,322 9,035
Prepaid gas costs, spare parts deposit, materials and supplies 24,509 12,919
----------- -----------
Total other assets 212,612 191,692
----------- -----------
TOTAL ASSETS $ 2,317,446 $ 2,098,073
=========== ===========
LIABILITIES AND PARTNERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued liabilities $ 79,381 $ 58,080
Gas supplier funds on deposit 99,863 --
Interest payable 85,778 56,386
Current portion of long-term debt 93,928 93,928
----------- -----------
Total current liabilities 358,950 208,394
----------- -----------
NON-CURRENT LIABILITIES:
Long-term debt 1,153,221 1,153,221
Other 2,368 2,148
----------- -----------
Total non-current liabilities 1,155,589 1,155,369
----------- -----------
COMMITMENTS AND CONTINGENCIES
TOTAL LIABILITIES 1,514,539 1,363,763
----------- -----------
PARTNERS' EQUITY 802,907 734,310
----------- -----------
TOTAL LIABILITIES AND PARTNERS' EQUITY $ 2,317,446 $ 2,098,073
=========== ===========
The accompanying condensed notes are an integral part of these statements.
-2-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
(In Thousands)
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------- --------------------------
2003 2002 2003 2002
--------- --------- --------- ---------
OPERATING REVENUES:
Capacity $ 100,834 $ 100,938 $ 200,377 $ 200,482
Electric 37,266 41,383 85,309 87,323
Steam 3,913 3,137 9,496 7,022
--------- --------- --------- ---------
Total operating revenues 142,013 145,458 295,182 294,827
--------- --------- --------- ---------
OPERATING EXPENSES:
Fuel costs 44,803 50,666 104,740 121,147
Depreciation 22,420 22,227 44,600 44,325
Operations 4,051 3,858 8,652 7,999
Maintenance 3,193 3,134 6,704 6,675
Property and single business taxes 7,442 6,684 14,951 13,369
Administrative, selling and general 2,101 1,932 4,764 3,999
--------- --------- --------- ---------
Total operating expenses 84,010 88,501 184,411 197,514
--------- --------- --------- ---------
OPERATING INCOME 58,003 56,957 110,771 97,313
--------- --------- --------- ---------
OTHER INCOME (EXPENSE):
Interest and other income 1,602 1,561 2,971 3,341
Interest expense (30,041) (31,614) (59,426) (62,543)
--------- --------- --------- ---------
Total other income (expense), net (28,439) (30,053) (56,455) (59,202)
--------- --------- --------- ---------
NET INCOME BEFORE CUMULATIVE
EFFECT OF ACCOUNTING CHANGE 29,564 26,904 54,316 38,111
Cumulative effect of change in method of accounting
for derivative option contracts
(to April 1, 2002) -- 58,131 -- 58,131
--------- --------- --------- ---------
NET INCOME $ 29,564 $ 85,035 $ 54,316 $ 96,242
========= ========= ========= =========
The accompanying condensed notes are an integral part of these statements.
-3-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONSOLIDATED STATEMENTS OF PARTNERS' EQUITY (Unaudited)
(In Thousands)
Three Months Ended
June 30,
-------------------------------------------------------------------------
2003 2002
------------------------------------- -------------------------------
General Limited General Limited
Partners Partners Total Partners Partners Total
--------- --------- --------- -------- ------- --------
BALANCE, BEGINNING OF PERIOD $ 657,540 $ 110,760 $ 768,300 $497,350 $86,958 $584,308
Comprehensive Income:
Net income 25,739 3,825 29,564 74,034 11,001 85,035
Other Comprehensive Income:
Unrealized gain on hedging activities
since beginning of period 15,815 2,349 18,164 3,410 506 3,916
Reclassification adjustments
recognized in net income above (11,424) (1,697) (13,121) 2,807 417 3,224
--------- --------- --------- -------- ------- --------
Total other comprehensive income change 4,391 652 5,043 6,217 923 7,140
Total Comprehensive Income 30,130 4,477 34,607 80,251 11,924 92,175
--------- --------- --------- -------- ------- --------
BALANCE, END OF PERIOD $ 687,670 $ 115,237 $ 802,907 $577,601 $98,882 $676,483
========= ========= ========= ======== ======= ========
Six Months Ended
June 30,
-------------------------------------------------------------------------
2003 2002
------------------------------------- -------------------------------
General Limited General Limited
Partners Partners Total Partners Partners Total
--------- --------- --------- -------- ------- --------
BALANCE, BEGINNING OF PERIOD $ 627,947 $ 106,363 $ 734,310 $468,972 $82,740 $551,712
Comprehensive Income:
Net income 47,289 7,027 54,316 83,791 12,451 96,242
Other Comprehensive Income:
Unrealized gain on hedging activities
since beginning of period 34,724 5,159 39,883 16,899 2,511 19,410
Reclassification adjustments
recognized in net income above (22,290) (3,312) (25,602) 7,939 1,180 9,119
--------- --------- --------- -------- ------- --------
Total other comprehensive income change 12,434 1,847 14,281 24,838 3,691 28,529
Total Comprehensive Income 59,723 8,874 68,597 108,629 16,142 124,771
--------- --------- --------- -------- ------- --------
BALANCE, END OF PERIOD $ 687,670 $ 115,237 $ 802,907 $577,601 $98,882 $676,483
========= ========= ========= ======== ======= ========
The accompanying condensed notes are an integral part of these statements.
-4-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
(In Thousands)
Six Months Ended
June 30,
------------------------
2003 2002
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CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 54,316 $ 96,242
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization 45,313 45,093
Cumulative effect of change in accounting principle -- (58,131)
Cash released from restriction -- 787
Decrease in accounts and notes receivable 281 53,206
(Increase) decrease in gas inventory (1,812) 1,074
Increase in unamortized property taxes (14,990) (13,566)
Decrease in broker margin accounts and prepaid expenses 1,005 23,876
Increase in derivative assets (23,853) (16,935)
(Increase) decrease in prepaid gas costs, materials and supplies (11,590) 947
Increase in accounts payable and accrued liabilities 21,301 20,293
Increase in gas supplier funds on deposit 99,863 --
Increase in interest payable 29,392 1,335
Increase in other non-current liabilities 220 239
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Net cash provided by operating activities 199,446 154,460
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CASH FLOWS FROM INVESTING ACTIVITIES:
Plant modifications and purchases of plant equipment (17,853) (15,772)
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Net cash used in investing activities (17,853) (15,772)
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CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of financing obligation -- (65,240)
Maturity of restricted investment securities held-to-maturity 205,100 205,034
Purchase of restricted investment securities held-to-maturity (206,982) (205,001)
--------- ---------
Net cash used in financing activities (1,882) (65,207)
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NET INCREASE IN CASH AND CASH EQUIVALENTS 179,711 73,481
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 160,425 140,630
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CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 340,136 $ 214,111
========= =========
The accompanying condensed notes are an integral part of these statements.
-5-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
These consolidated financial statements and condensed notes should be read along
with the audited financial statements and notes as contained in the Annual
Report on Form 10-K for the year ended December 31, 2002 of Midland Cogeneration
Venture Limited Partnership ("MCV"), which includes the Report of Independent
Accountants, covering such financial statements. In the opinion of management,
the unaudited information herein reflects all adjustments (which include only
normal recurring adjustments) necessary to assure the fair presentation of
financial position, results of operations and cash flows for the periods
presented. Prior period amounts have been reclassified for comparative purposes.
These reclassifications had no effect on net income. The consolidated financial
statements include the accounts of MCV and its wholly-owned subsidiaries. All
material transactions and balances among entities, which comprise MCV, have been
eliminated in the consolidated financial statements. Interim results may not be
indicative of results that may be expected for any other interim period or for
2003 as a whole.
(1) THE PARTNERSHIP AND ASSOCIATED RISKS
MCV was organized to construct, own and operate a combined-cycle, gas-fired
cogeneration facility (the "Facility") located in Midland, Michigan. MCV
was formed on January 27, 1987, and the Facility began commercial operation
in 1990.
In 1992, MCV acquired the outstanding common stock of PVCO Corp., a
previously inactive company. MCV and PVCO Corp. entered into a partnership
agreement to form MCV Gas Acquisition General Partnership ("MCV GAGP") for
the purpose of buying and selling natural gas on the spot market and other
transactions involving natural gas activities. Currently, MCV GAGP is not
actively engaged in any business activity.
The Facility has a net electrical generating capacity of approximately 1500
MW and approximately 1.5 million pounds of process steam capacity per hour.
MCV has entered into three principal energy sales agreements. MCV has
contracted to (i) supply up to 1240 MW of electric capacity ("Contract
Capacity") to Consumers Energy Company ("Consumers") under the Power
Purchase Agreement ("PPA"), for resale to its customers through 2025, (ii)
supply electricity and steam to The Dow Chemical Company ("Dow") under the
Steam and Electric Power Agreement ("SEPA") through 2015 and (iii) supply
steam to Dow Corning Corporation ("DCC") under the Steam Purchase Agreement
("SPA") through 2011. From time to time, MCV enters into other sales
agreements for the sale of excess capacity and/or energy available above
MCV's internal use and obligations under the PPA, SEPA and SPA. Results of
operations are primarily dependent on successfully operating the Facility
at or near contractual capacity levels and on Consumers' ability to perform
its obligations under the PPA. Sales pursuant to the PPA have historically
accounted for over 90% of MCV's revenues.
The PPA permits Consumers, under certain conditions, to reduce the capacity
and energy charges payable to MCV and/or to receive refunds of capacity and
energy charges paid to MCV if the Michigan Public Service Commission
("MPSC") does not permit Consumers to recover from its customers the
capacity and energy charges specified in the PPA (the "regulatory-out"
provision). Until September 15, 2007, however, the capacity charge may not
be reduced below an average capacity rate of 3.77 cents per kilowatt hour
for the available Contract Capacity notwithstanding the "regulatory-out"
provision. Consumers and MCV are required to support and defend the terms
of the PPA.
The Facility is a qualifying cogeneration facility ("QF") originally
certified by the Federal Energy Regulatory Commission ("FERC") under the
Public Utility Regulatory Policies Act of 1978, as amended ("PURPA"). In
order to maintain QF status, certain operating and efficiency standards
must be maintained on a calendar-year basis and certain ownership
limitations must be met. In the case of a topping-cycle generating plant
such as the Facility, the applicable operating standard requires that the
portion of total energy output that is put to some useful purpose other
than facilitating the production of power (the "Thermal Percentage") be at
least 5%. In addition, the Facility must achieve a PURPA efficiency
standard (the sum of the useful power output plus one-half of the useful
thermal energy output, divided by the energy input (the "Efficiency
Percentage")) of at least 45%. If the Facility maintains a Thermal
Percentage of 15% or higher, the required Efficiency Percentage is reduced
to 42.5%. Since 1990, the Facility has achieved the applicable Thermal and
Efficiency Percentages. For the six months ended June 30, 2003, the
Facility achieved a Thermal Percentage of 21.3% and an Efficiency
-6-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Percentage of 47.5%. The loss of QF status could, among other things, cause
the Facility to lose its rights under PURPA to sell power to Consumers at
Consumers' "avoided cost" and subject the Facility to additional federal
and state regulatory requirements. MCV believes that the Facility will meet
the required Thermal and the corresponding Efficiency Percentages in 2003
and beyond, as well as the PURPA ownership limitations.
The Facility is wholly dependent upon natural gas for its fuel supply and a
substantial portion of the Facility's operating expenses consist of the
costs of natural gas. MCV recognizes that its existing gas contracts are
not sufficient to satisfy the anticipated gas needs over the term of the
PPA and, as such, no assurance can be given as to the availability or price
of natural gas after the expiration of the existing gas contracts. In
addition, to the extent that the costs associated with production of
electricity rise faster than the energy charge payments, MCV's financial
performance will be negatively affected. The extent of such impact will
depend upon the amount of the average energy charge payable under the PPA,
which is based upon costs incurred at Consumers' coal-fired plants and upon
the amount of energy scheduled by Consumers for delivery under the PPA.
However, given the unpredictability of these factors, the overall economic
impact upon MCV of changes in energy charges payable under the PPA and in
future fuel costs under new or existing contracts cannot accurately be
predicted. Beginning in July 2000, in response to the rapidly escalating
cost of natural gas, MCV and Consumers agreed to reduce the dispatch level
of the Facility, from time to time. In the event of reduced dispatch, MCV
agreed to share the savings realized by not having to generate the
electricity. For the six months ended June 30, 2003 and June 30, 2002, MCV
estimates that these electric dispatch reduction transactions resulted in
net savings of approximately $5.7 million and $.9 million, respectively, a
portion of which will be realized in reduced maintenance expenditures in
future years. MCV anticipates entering into similar transactions in the
future to mitigate the impact of high market gas prices, if circumstances
warrant such use.
At both the state and federal level, efforts continue to restructure the
electric industry. A significant issue to MCV is the potential for future
regulatory denial of recovery by Consumers from its customers of above
market PPA costs Consumers pays MCV. At the state level, the MPSC entered a
series of orders from June 1997 through February 1998 (collectively the
"Restructuring Orders"), mandating that utilities "wheel" third-party power
to the utilities' customers, thus permitting customers to choose their
power provider. MCV, as well as others, filed an appeal in the Michigan
Court of Appeals to protect against denial of recovery by Consumers of PPA
charges. The Michigan Court of Appeals found that the Restructuring Orders
do not unequivocally disallow such recovery by Consumers and, therefore,
MCV's issues were not ripe for appellate review and no actual controversy
regarding recovery of costs could occur until 2008, at the earliest. In
June 2000, the State of Michigan enacted legislation which, among other
things, states that the Restructuring Orders (being voluntarily implemented
by Consumers) are in compliance with the legislation and enforceable by the
MPSC. The legislation provides that the rights of parties to existing
contracts between utilities (like Consumers) and QFs (like MCV), including
the rights to have the PPA charges recovered from customers of the
utilities, are not abrogated or diminished, and permitted utilities to
securitize certain stranded costs including PPA charges.
In 1999, the U.S. District Court granted summary judgment to MCV declaring
that the Restructuring Orders are preempted by federal law to the extent
they prohibit Consumers from recovering from its customers any charge for
avoided costs (or "stranded costs") to be paid to MCV under PURPA pursuant
to the PPA. In 2001, the United States Court of Appeals ("Appellate Court")
vacated the U.S. District Court's 1999 summary judgment and ordered the
case dismissed based upon a finding that no actual case or controversy
existed for adjudication between the parties. The Appellate Court
determined that the parties' dispute is hypothetical at this time and the
QFs' (including MCV) claims are premised on speculation about how an order
might be interpreted by the MPSC, in the future.
MCV continues to monitor and participate in these industry restructuring
matters as appropriate, and to evaluate potential impacts on both cash
flows and recoverability of the carrying value of property, plant and
equipment. MCV Management cannot, at this time, predict the impact or
outcome of these matters.
-7-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
(2) RISK MANAGEMENT ACTIVITIES AND DERIVATIVE TRANSACTIONS
Fair Value of Financial Instruments
The carrying amounts of cash, cash equivalents and short-term investments
approximate fair value because of the short maturity of these instruments.
The majority of MCV's short-term investments, which are made up of
investment securities held-to-maturity, as of June 30, 2003 and December
31, 2002, have original maturity dates of approximately one year or less.
The unique nature of the negotiated financing obligation discussed in Note
8 makes it unnecessary to estimate the fair value of the lessor group
("Owner Participants") underlying debt and equity instruments supporting
such financing obligation, since Statement of Financial Accounting
Standards ("SFAS") No. 107, "Disclosures about Fair Value of Financial
Instruments" does not require fair value accounting for the lease
obligation.
Accounting for Derivative Instruments and Hedging Activities
Effective January 1, 2001, MCV adopted SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities" which was issued in June
1998 and then amended by SFAS No. 137, "Accounting for Derivative
Instruments and Hedging Activities -- Deferral of the Effective Date of
SFAS No. 133," SFAS No. 138 "Accounting for Certain Derivative Instruments
and Certain Hedging Activities -- An amendment of FASB Statement No. 133"
and SFAS No. 149 "Amendment of Statement 133 on Derivative Instruments and
Hedging Activity (collectively referred to as "SFAS No. 133"). SFAS No. 133
establishes accounting and reporting standards requiring that every
derivative instrument be recorded on the balance sheet as either an asset
or liability measured at its fair value. SFAS No. 133 requires that changes
in a derivative's fair value be recognized currently in earnings unless
specific hedge accounting criteria are met. Special accounting for
qualifying hedges in some cases allows a derivative's gains and losses to
offset related results on the hedged item in the income statement or
permits recognition of the hedge results in other comprehensive income, and
requires that a company formally document, designate and assess the
effectiveness of transactions that receive hedge accounting.
Electric Sales Agreements
MCV believes that its electric sales agreements currently do not qualify
as derivatives under SFAS No. 133, due to the lack of an active energy
market in the State of Michigan, as defined by SFAS No. 133, and the
transportation cost to deliver the power under the contracts to the
closest active energy market at the Cinergy hub in Ohio and as such does
not record the fair value of these contracts on its balance sheet. If an
active energy market emerges, MCV intends to apply the normal purchase
normal sales exception under SFAS No. 133 to its electric sales
agreements; to the extent such exception is applicable.
Forward Foreign Exchange Contracts
An amended service agreement was entered into between MCV and Alstom
Power Company ("Alstom") (the "Amended Service Agreement"), under which
Alstom will provide hot gas path parts for MCV's twelve gas turbines. The
payments due to Alstom under the Amended Service Agreement are adjusted
annually based on the U.S. dollar to Swiss franc currency exchange rate.
To manage this currency exchange rate risk and hedge against adverse
currency fluctuations impacting the payments under the Amended Service
Agreement, MCV maintains a foreign currency hedging program. Under this
program, MCV periodically enters into forward purchase contracts for
Swiss francs. Under SFAS No. 133, the forward foreign currency exchange
contracts qualify as fair value hedges, since they hedge the identifiable
foreign currency commitment of the Amended Service Agreement. The gains
and losses on these forward contracts, as well as the change in value of
the firm commitment, are to be recognized currently in earnings. Since
the currency, notional amounts and maturity dates on the hedged
transactions and forward contracts essentially match, an immaterial
earnings impact on an ongoing basis is expected. The final gains and
losses on these transactions, accounted for as hedges, are included in
the measurement of the underlying capitalized major renewal costs when
incurred. As of June 30, 2003, MCV did not have any such transactions
-8-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
outstanding and does not anticipate any future transactions since the
Amended Service Agreement is expected to be terminated in the near
future. As of June 30, 2002, MCV had a forward purchase contract
involving Swiss francs in the notional amount of $5.0 million. This hedge
was considered highly effective, therefore, there was no material gain or
loss recognized in earnings during the six months ended June 30, 2002.
Natural Gas Supply Contracts
MCV management believes that its long-term natural gas contracts, which
do not contain volume optionality, qualify under SFAS No. 133 for the
normal purchases and normal sales exception. Therefore, these contracts
are currently not recognized at fair value on the balance sheet.
The FASB issued DIG Issue C-16, which became effective April 1, 2002,
regarding natural gas commodity contracts that combine an option
component and a forward component. This guidance requires either that the
entire contract be accounted for as a derivative or the components of the
contract be separated into two discrete contracts. Under the first
alternative, the entire contract considered together would not qualify
for the normal purchases and sales exception under the revised guidance.
Under the second alternative, the newly established forward contract
could qualify for the normal purchases and sales exception, while the
option contract would be treated as a derivative under SFAS No. 133 with
changes in fair value recorded through earnings. At April 1, 2002, MCV
had nine long-term gas contracts that contained both an option and
forward component. As such, they were no longer accounted for under the
normal purchases and sales exception and MCV began mark-to-market
accounting of these nine contracts through earnings. Based on the natural
gas prices, at the beginning of April 2002, MCV recorded a $58.1 million
gain for the cumulative effect of this accounting change. During the
fourth quarter of 2002, MCV removed the option component from three of
the nine long-term gas contracts, which should reduce the earnings
volatility. Since April 2002, MCV has recorded an additional
mark-to-market gain of $47.6 million for these gas contracts for a
cumulative mark-to-market gain through June 30, 2003 of $105.7 million,
which will reverse over the remaining life of these gas contracts,
ranging from 2004 to 2007.
For the six months ended June 30, 2003, MCV recorded in "Fuel costs" a
$25.7 million mark-to-market gain in earnings associated with these
contracts. In addition, as of June 30, 2003 and December 31, 2002, MCV
recorded "Derivative assets" in Current Assets in the amount of $66.5
million and $48.9 million, respectively, and for the same periods
recorded "Derivative assets" in Other Assets in the amount of $39.2
million and $31.0 million, respectively, representing the mark-to-market
gain on these long-term natural gas contracts.
Natural Gas Supply Futures and Options
To manage market risks associated with the volatility of natural gas
prices, MCV maintains a gas hedging program. MCV enters into natural gas
futures and option contracts in order to hedge against unfavorable
changes in the market price of natural gas in future months when gas is
expected to be needed. These financial instruments are being utilized
principally to secure anticipated natural gas requirements necessary for
projected electric and steam sales, and to lock in sales prices of
natural gas previously obtained in order to optimize MCV's existing gas
supply, storage and transportation arrangements.
These financial instruments are derivatives under SFAS No. 133 and the
contracts that are utilized to secure the anticipated natural gas
requirements necessary for projected electric and steam sales qualify as
cash flow hedges under SFAS No. 133, since they hedge the price risk
associated with the cost of natural gas. MCV also engages in cost
mitigation activities to offset the fixed charges MCV incurs in operating
the Facility. These cost mitigation activities include the use of futures
and options contracts to purchase and/or sell natural gas to maximize the
use of the transportation and storage contracts when it is determined
that they will not be needed for Facility operation. Although these cost
mitigation activities do serve to offset the fixed monthly charges, these
cost mitigation activities are not considered a normal course of business
for MCV and do not qualify as hedges under SFAS No. 133. Therefore, the
resulting mark-to-market gains and losses from cost mitigation activities
are flowed through MCV's earnings.
-9-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Cash is deposited with the broker in a margin account at the time futures
or options contracts are initiated. The change in market value of these
contracts requires adjustment of the margin account balances. The margin
account balance as of June 30, 2003 and December 31, 2002 was recorded as
a current asset in "Broker margin accounts and prepaid expenses," in the
amount of $1.6 million and $.8 million, respectively.
For the six months ended June 30, 2003, MCV has recognized in other
comprehensive income, an unrealized $14.3 million increase on the futures
contracts, which are hedges of forecasted purchases for plant use of
market priced gas. This resulted in a net $40.6 million gain balance in
other comprehensive income as of June 30, 2003. This balance represents
natural gas futures and options with maturities ranging from July 2003 to
May 2007, of which $25.3 million of this gain is expected to be
reclassified into earnings within the next twelve months. MCV also has
recorded, as of June 30, 2003, a $37.3 million current derivative asset
in "Derivative assets," representing the mark-to-market gain on natural
gas futures for anticipated projected electric and steam sales accounted
for as hedges. In addition, for the six months ended June 30, 2003, MCV
has recorded a net $25.7 million gain in earnings from hedging activities
related to MCV natural gas requirements for Facility operations and a net
$.5 million gain in earnings from cost mitigation activities.
For the six months ended June 30, 2002, MCV recognized an unrealized
$28.5 million increase in other comprehensive income on the futures
contracts, which are hedges of forecasted purchases for plant use of
market priced gas, resulting in a $4.2 million gain in other
comprehensive income as of June 30, 2002. As of June 30, 2002, MCV had
recorded a current derivative asset in "Derivative assets" in the amount
of $5.9 million. For the six months ended June 30, 2002, MCV had recorded
a net $9.1 million loss in earnings from hedging activities related to
MCV natural gas requirements for Facility operations. In addition, for
the six months ended June 30, 2002, MCV has recorded a net $.3 million
gain in earnings from cost mitigation activities.
Interest Rate Swaps
To manage the effects of interest rate volatility on interest income
while maximizing return on permitted investments, MCV established an
interest rate hedging program. The notional amounts of the hedges are
tied directly to MCV's anticipated cash investments, without physically
exchanging the underlying notional amounts. Cash is deposited with the
broker in a margin account at the time the interest rate swap
transactions are initiated. The change in market value of these contracts
may require further adjustment of the margin account balance. The margin
account balance at December 31, 2002, of approximately $25,000, which was
recorded as a current asset in "Broker margin accounts and prepaid
expenses," was returned to MCV during the month of January 2003 since MCV
currently does not have any outstanding interest rate swap transactions.
As of June 30, 2002, MCV had one interest rate swap, with a notional
amount of $20.0 million with a period of performance that extended to
December 1, 2002, which did not qualify as a hedge under SFAS No. 133.
The gains and losses on this swap were recorded currently in earnings.
For the six months ended June 30, 2002, MCV recorded an immaterial gain
in earnings.
-10-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
(3) NEW ACCOUNTING STANDARDS
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities". This SFAS amends SFAS No.
133 for decisions made (1) as part of the Derivative Implementations Group
process that effectively required amendments to SFAS No. 133, (2) for other
Financial Accounting Standards Board projects dealing with financial
instruments and (3) for implementation issues raised in relation to the
application of this definition of a derivative. The changes in this SFAS
No. 149 improve financial reporting by requiring that contracts with
comparable characteristics be accounted for similarly, which will result in
more consistent reporting of contracts as either derivatives or hybrid
instruments. This standard is effective for contracts entered into or
modified after June 30, 2003, with some exceptions. MCV has adopted this
standard and does not expect the application to materially affect its
financial position or results of operations.
(4) GAS TURBINE SERVICE AGREEMENT
Under the Amended Service Agreement, Alstom provides MCV spare parts for
MCV's GTGs and provides qualified service personnel and supporting staff to
assist MCV to perform scheduled inspections on the GTGs, and to repair the
GTGs at MCV's request. The Amended Service Agreement commenced on January
1, 1990, and will expire upon the earlier of the completion of the ninth
series of major GTG inspections or December 31, 2009, unless terminated
sooner by MCV for convenience. Effective December 31, 2002, MCV has signed
a new maintenance service and parts agreement with General Electric
International Inc. ("GEII") ("GEII Agreement"). GEII will provide
maintenance services and hot gas path parts for MCV's twelve GTGs under
terms and conditions similar to the Amended Service Agreement. The GEII
Agreement is expected to replace the Amended Service Agreement during the
first half of 2004, but in no event later than January 1, 2005. Should the
Amended Service Agreement be terminated, at that time, MCV would be
expected to pay approximately $5.8 million to Alstom in cancellation
payments and Alstom is expected to provide MCV with one set of hot gas path
spare parts. At this time, MCV has not recognized a liability for the
cancellation payments or an asset for the spare parts to be received.
(5) RESTRICTED INVESTMENT SECURITIES HELD-TO-MATURITY
Non-current restricted investment securities held-to-maturity consist of
the following as of (in thousands):
June 30, December 31,
2003 2002
-------- ------------
Non-current:
Funds restricted for rental payments pursuant to the Overall
Lease Transaction $138,215 $136,554
Funds restricted for management non-qualified plans 2,368 2,147
-------- --------
Total $140,583 $138,701
======== ========
-11-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
(6) ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
Accounts payable and accrued liabilities consist of the following as of (in
thousands):
June 30, December 31,
2003 2002
------- ------------
Accounts payable
Related parties $ 8,240 $12,224
Trade creditors 37,694 27,935
Property and single business taxes 30,511 14,842
Other 2,936 3,079
------- -------
Total $79,381 $58,080
======= =======
(7) GAS SUPPLIER FUNDS ON DEPOSIT
Pursuant to individual gas contract terms with counterparties, deposit
amounts may be required by one party to the other based upon the net amount
of exposure. The net amount of exposure will vary with changes in market
prices, credit provisions and various other factors. Collateral paid or
received will be posted by one party to the other based on the net amount
of the exposure. Interest is earned on funds on deposit. As of June 30,
2003, $77.5 million in current liabilities "Gas supplier funds on deposit"
represents funds on deposit from El Paso Corporation ("El Paso"), a related
party.
(8) LONG-TERM DEBT
Long-term debt consists of the following as of (in thousands):
June 30, December 31,
2003 2002
---------- ----------
Financing obligation, maturing through 2015, payable in
semi-annual installments of principal and interest, secured by
property, plant and equipment $1,247,149 $1,247,149
Less current portion (93,928) (93,928)
---------- ----------
Total long-term debt $1,153,221 $1,153,221
========== ==========
Financing Obligation
In 1990, MCV obtained permanent financing for the Facility by entering into
sale and leaseback agreements ("Overall Lease Transaction") with a lessor
group, related to substantially all of MCV's fixed assets. Proceeds of the
financing were used to retire borrowings outstanding under existing loan
commitments, make a capital distribution to the partners of MCV and retire
a portion of the notes issued by MCV to MEC Development Corporation ("MDC")
in connection with the transfer of certain assets by MDC to MCV. In
accordance with SFAS No. 98, "Accounting For Leases," the Overall Lease
Transaction has been accounted for as a financing arrangement.
The financing obligation utilizes the effective interest rate method, which
is based on the minimum lease payments required through the end of the
basic lease term of 2015 and MCV management's estimate of
-12-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
additional anticipated obligations after the end of the basic lease term.
The effective interest rate during the remainder of the basic lease term is
approximately 9.4%.
Interest and fees incurred related to long-term debt arrangements during
the six months ended June 30, 2003 and 2002 were $58.7 million and $61.8
million, respectively. Interest and fees paid for the six months ended June
30, 2003 and 2002 were $29.3 million and $60.4 million, respectively.
-13-
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
(9) PARTNERS' EQUITY AND RELATED PARTY TRANSACTIONS
The following table summarizes the nature and amount of each of MCV's
Partner's equity interest, interest in profits and losses of MCV at June
30, 2003, and the nature and amount of related party transactions or
agreements that existed with MCV's partners or affiliates as of June 30,
2003 and 2002, and for each of the six month periods ended June 30 (in
thousands).
Beneficial Owner, Equity Partner, Equity
Type of Partner and Nature of Related Party Interest Interest Related Party Transactions and Agreements 2003 2002
- -----------------------------------------------------------------------------------------------------------------------------------
CMS Energy Company
CMS Midland, Inc. $393,424 49.0% Power purchase agreements $258,377 $277,840
General Partner; wholly-owned ======== ==== Purchases under gas transportation agreements 9,631 11,840
subsidiary of Consumers Energy Purchases under spot gas agreements 629 2,821
Company Purchases under gas supply agreements 2,330 3,707
Gas storage agreement 1,282 1,282
Land lease/easement agreements 300 300
Accounts receivable 38,389 47,706
Accounts payable 1,752 5,145
Sales under spot gas agreements 3,260 1,007
El Paso Corporation
Source Midland Limited Partnership $140,116 18.1% Purchase under gas transportation agreements 6,691 6,462
("SMLP") General Partner; owned by Purchases under spot gas agreement 154 7,184
subsidiaries of El Paso Corporation Purchases under gas supply agreement 27,352 21,710
Gas agency agreement 126 266
Accounts receivable -- 569
Accounts payable 5,690 6,079
Gas supplier funds on deposit (1) 77,470 --
Sales under spot gas agreements 3,474 7,013
El Paso Midland, Inc. ("El Paso Midland") 84,069 10.9 See related party activity listed under SMLP.
General Partner; wholly-owned subsidiary
of El Paso Corporation
MEI Limited Partnership ("MEI") See related party activity listed under SMLP.
A General and Limited Partner;
50% interest owned by El Paso Midland, Inc.
and 50% interest owned by SMLP
General Partnership Interest 70,061 9.1
Limited Partnership Interest 7,004 9
Micogen Limited Partnership 35,027 4.5 See related party activity listed under SMLP.
("MLP") Limited Partner, owned
subsidiaries of El Paso Corporation
-------- ----
Total El Paso Corporation $336,277 43.5%
======== =====
The Dow Chemical Company
The Dow Chemical Company $ 73,205 7.5% Steam and electric power agreement 18,393 12,908
Limited Partner ======== =====
Steam purchase agreement - Dow Corning Corp
(affiliate) 2,196 2,049
Purchases under demineralized water supply
agreement 3,366 3,361
Accounts receivable 2,959 3,131
Accounts payable 798 815
Standby and backup fees 364 363
Sales of gas under tolling agreement -- 4,212
Alanna Corporation
Alanna Corporation $ 1 (2) .00001% Note receivable 1 1
Limited Partner; wholly-owned subsidiary ======== ======
of Alanna Holdings Corporation
TOTAL PARTNERS' EQUITY $802,907 100.0%
======== ======
Footnotes to Partners' Equity and Related Party Transactions
(1) Reflects cash collateral paid to MCV based on the net amount of exposure on
MCV's natural gas contracts with El Paso.
(2) Alanna's capital stock is pledged to secure MCV's obligation under the
lease and other overall lease transaction documents.
-14-
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (MD&A)
MIDLAND COGENERATION VENTURE LIMITED PARTNERSHIP
This MD&A should be read along with the MD&A in the Annual Report on Form 10-K
for the year ended December 31, 2002 of the Midland Cogeneration Venture Limited
Partnership ("MCV").
Results of Operations:
Operating Revenues Statistics
The following represents significant operating revenue statistics for the
following periods (dollars in thousands except average rates):
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------- --------------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
Operating Revenues $ 142,013 $ 145,458 $ 295,182 $ 294,827
Capacity Revenue $ 100,834 $ 100,938 $ 200,377 $ 200,482
PPA Contract Capacity (MW) 1,240 1,240 1,240 1,240
Billed PPA Availability 98.5% 98.5% 98.5% 98.5%
Electric Revenue $ 37,266 $ 41,383 $ 85,309 $ 87,323
PPA Delivery as a Percentage of Contract Capacity (1) 56.8% 65.9% 68.0% 72.2%
PPA, SEPA and Other Electric Deliveries (MWh) 1,672,793 1,921,987 3,926,920 4,151,635
Average PPA Variable Energy Rate ($/MWh) $ 15.66 $ 15.98 $ 15.73 $ 15.97
Average PPA Fixed Energy Rate ($/MWh) $ 3.59 $ 3.89 $ 3.75 $ 3.89
Steam Revenue $ 3,913 $ 3,137 $ 9,496 $ 7,022
Steam Deliveries (Mlbs) 1,294,220 1,247,840 3,044,320 2,868,000
(1) Beginning in July 2000, in response to the rapidly escalating cost of
natural gas, MCV entered into transactions with Consumers whereby Consumers
agreed to reduce the dispatch level of the Facility. In the event of
reduced dispatch, MCV agreed to share the savings realized by not having to
generate the electricity.
Comparison of the Three Months ended June 30, 2003 and 2002:
Overview:
For the second quarter of 2003, MCV recorded net income of $29.6 million, which
includes a $15.4 million mark-to-market gain. The gain is the result of long
term gas contracts that began being marked-to-market on April 1, 2002, as
required by SFAS No. 133. MCV's net income for the second quarter of 2002 was
$85.0 million, which includes the April 1, 2002 change in method of accounting.
The cumulative effect of this accounting change as of April 1, 2002 increased
earnings by approximately $58.1 million and the additional quarterly
mark-to-market gain recorded at June 30, 2002 resulted in an additional earnings
increase of $15.3 million. MCV's net income without the effects of the
accounting change was $14.2 million for the second quarter of 2003 as compared
to net income of $11.6 million for the second quarter of 2002. The earnings
increase of $2.6 million, excluding the effects of the accounting change, was
primarily due to lower natural gas prices, lower interest expense on MCV's
financing arrangements and higher
-15-
electric and steam energy rates under the SEPA with Dow. This increase was
partially offset by lower energy rates under the PPA with Consumers.
Operating Revenues:
For the second quarter of 2003, MCV's operating revenues decreased $3.4 million
from the second quarter of 2002. This decrease is due primarily to a lower
electric dispatch under the PPA with Consumers resulting from an increase in the
electric dispatch reduction transactions and due to lower energy rates under the
PPA. This decrease was partially offset by higher energy rates under the SEPA
with Dow, resulting from Dow's election to cease natural gas tolling.
Operating Expenses:
For the second quarter of 2003, MCV's operating expenses were $84.0 million,
which includes $44.8 million of fuel costs, including a $15.4 million quarterly
mark-to-market gain on the natural gas contracts which contain optionality.
During this period, MCV purchased approximately 20.7 Bcf of natural gas and a
net 4.7 bcf was used for transportation fuel and as a net change in storage.
During this same period, MCV consumed 16.0 Bcf of natural gas. The average
commodity cost of fuel for the second quarter of 2003 was $3.22 per MMBtu, which
includes the effects of the disposition of excess gas supplies not required for
generation. For the second quarter of 2002, MCV's operating expenses were $88.5
million, which includes $50.7 million of fuel costs, including a $15.3 million
quarterly mark-to-market gain on the natural gas contracts which contain
optionality. During this period, MCV purchased approximately 18.4 Bcf of natural
gas and a net 1.7 Bcf was used for transportation fuel and as a net change to
gas in storage. During this same period, MCV consumed 17.3 Bcf, of which .6 Bcf
of this total was gas provided by Dow. The average commodity cost of fuel for
the second quarter of 2002 was $3.30 per MMBtu, which includes the effects of
the disposition of excess gas supplies not required for generation. Fuel costs
for the second quarter of 2003 compared to 2002, decreased by $5.8 million,
excluding the effects of the quarterly mark-to-market adjustments for both
periods. This fuel cost decrease was due to lower costs associated with the
electric dispatch reduction transactions entered into with Consumers, lower
long-term natural gas prices due to the commencement of several new contracts
with favorable pricing terms and lower natural gas hedged prices of market
priced gas. This decrease was partially offset by a higher gas usage resulting
from Dow's election to cease tolling gas.
For the second quarter of 2003, operating expenses other than fuel costs
increased $1.4 million from the second quarter of 2002, primarily resulting from
increased property taxes expense. All other expenses incurred in these periods
were considered normal expenditures to achieve the recorded operating revenues.
Other Income (Expense):
For the second quarter of 2003 compared to 2002, interest expense decreased $1.6
million due to a lower outstanding principal balance on MCV's financing
obligation.
Comparison of the Six Months ended June 30, 2003 and 2002:
Overview:
For the first six months of 2003, MCV recorded net income of $54.3 million,
which includes a $25.7 million mark-to-market gain. The gain is the result of
long term gas contracts that began being marked-to-market on April 1, 2002, as
required by SFAS No. 133. MCV's net income for the first six months of 2002 was
$96.2 million, which includes the April 1, 2002 change in method of accounting.
The cumulative effect of this accounting change as of April 1, 2002 increased
earnings by approximately $58.1 million and the additional quarterly
mark-to-market gain recorded at June 30, 2002 resulted in an additional earnings
increase of $15.3 million. MCV's net income without the effects of the
accounting change was $28.6 million for the first six months of 2003 as compared
to net income of $22.8 million for the first six months of 2002. The earnings
increase of $5.8 million, excluding the accounting change, was primarily due to
lower natural gas prices, lower interest expense on MCV's financing arrangements
and higher electric and steam energy rates under the SEPA with Dow. This
increase was partially offset by lower energy rates under the PPA with
Consumers.
-16-
Operating Revenues:
For the first six months of 2003, MCV's operating revenues increased $.4 million
from the first six months of 2002. This increase is due primarily to higher
energy rates under the SEPA with Dow, resulting from Dow's election to cease
natural gas tolling. This increase was partially offset by a lower electric
dispatch under the PPA with Consumers resulting from an increase in the electric
dispatch reduction transactions and due to lower energy rates under the PPA.
Operating Expenses:
For the first six months of 2003, MCV's operating expenses were $184.4 million,
which includes $104.7 million of fuel costs, including a $25.7 million quarterly
mark-to-market gain on the natural gas contracts which contain optionality.
During this period, MCV purchased approximately 37.2 Bcf of natural gas and a
net .2 bcf was used for transportation fuel and as a net change in storage.
During this same period, MCV consumed 37.0 Bcf of natural gas. The average
commodity cost of fuel for the first six months of 2003 was $3.06 per MMBtu,
which includes the effects of the disposition of excess gas supplies not
required for generation. For the first six months of 2002, MCV's operating
expenses were $197.5 million, which includes $121.1 million of fuel costs,
including a $15.3 million quarterly mark-to-market gain on the natural gas
contracts which contain optionality. During this period, MCV purchased
approximately 36.7 Bcf of natural gas and a net .7 Bcf was used for
transportation fuel and as a net change to gas in storage. During this same
period, MCV consumed 37.4 Bcf, of which 1.4 Bcf of this total was gas provided
by Dow. The average commodity cost of fuel for the first six months of 2002 was
$3.19 per MMBtu, which includes the effects of the disposition of excess gas
supplies not required for generation. Fuel costs for the first six months of
2003 compared to 2002, decreased by $6.0 million, excluding the effects of the
quarterly mark-to-market adjustments for both periods. This fuel cost decrease
was due to lower costs associated with the electric dispatch reduction
transactions entered into with Consumers, lower long-term natural gas prices due
to the commencement of several new contracts with favorable pricing terms and
lower natural gas hedged prices of market priced gas. This decrease was
partially offset by a higher gas usage resulting from Dow's election to cease
tolling gas.
For the first six months of 2003, operating expenses other than fuel costs
increased $3.3 million from the first six months of 2002, primarily resulting
from increased property taxes expense. All other expenses incurred in these
periods were considered normal expenditures to achieve the recorded operating
revenues.
Other Income (Expense):
For the first six months of 2003 compared to 2002, interest expense decreased
$3.1 million due to a lower outstanding principal balance on MCV's financing
obligation.
Liquidity and Capital Resources
During the six months ended June 30, 2003 and 2002, net cash generated by MCV's
operations was $199.4 million and $154.5 million, respectively. Included in
MCV's net cash generated as of June 30, 2003 is $99.9 million of cash collateral
paid to MCV, based upon the net amount of exposure on MCV's long term natural
gas contracts with El Paso and MCV's natural gas futures. This collateral
balance will vary as the calculated net exposure between the company's changes.
MCV's cash and cash equivalents have a normal cycle of collecting revenues less
operating expenses prior to making the semiannual payments under the financing
obligation due in January and July for the next twelve years. During the six
months ended June 30, 2003 and 2002, MCV paid financing obligation requirements
of $29.2 million and $125.6 million, respectively, as required under the Overall
Lease Transaction.
MCV also has a $50 million working capital line ("Working Capital Facility")
from the Bank of Montreal to provide temporary financing, as necessary, for
operations. The Working Capital Facility has been collateralized by MCV's
natural gas inventory and earned receivables. At any given time, borrowings and
letters of credit are limited by the amount of the borrowing base, defined as
90% of earned receivables and 50% of natural gas inventory. The borrowing base
varies over the month as receivables are earned, billed and collected and as
natural gas inventory balances are built and depleted. In addition, earned
receivables borrowing base can be affected by Consumers'
-17-
credit rating. The Working Capital Facility term currently expires on August 29,
2003; MCV is currently in the process of renewing its Working Capital Facility
through syndication and does not anticipate any delays in completing this
renewal prior to the expiration date. MCV did not utilize the Working Capital
Facility during the first six months of 2003. As of June 30, 2003, MCV had no
outstanding borrowings or letters of credit. MCV believes that amounts available
to it under the Working Capital Facility along with available cash reserves will
be sufficient to meet any working capital shortfalls that might occur.
For the foreseeable future, MCV expects to fund current operating expenses,
capital expenditures and financing obligations primarily through cash flows from
operations. Due to uneven future scheduled financing obligation payments (high
summer payment, low winter payment), MCV anticipates that it will be drawing on
its cash reserves to fund temporary cash flow shortfalls. These cash flow
shortfalls are anticipated to be replenished annually. If necessary, MCV could
fund any ongoing operating cash flow shortfalls from cash reserves to the extent
available for such purposes. As of June 30, 2003, there were approximately
$480.7 million of cash reserves, of which $138.2 million had been reserved for
the debt portion of the financing obligation.
Disclosure about Contractual Obligations
MCV has assumed various financial obligations and commitments in the normal
course of its business. These obligations are considered to represent expected
cash payments that MCV is required to make under its existing contractual
arrangements. As of June 30, 2003, MCV has the following contractual financial
obligations and commitments:
Contractual Obligations (In Millions)
------------------------------------------------------------------------------------
Total 2003(4) 2004 2005 2006 2007 Thereafter
---------- --------- --------- --------- --------- -------- ------------
Long term Debt (1) $ 1,943.8 $ 179.7 $ 242.8 $ 174.4 $ 156.0 $ 150.9 $ 1,040.0
========== ========= ========= ========= ========= ======== ============
Unconditional Purchase $ 2,644.4 $ 122.2 $ 281.6 $ 339.2 $ 342.9 327.2 $ 1,231.3
Obligations (2)
Other Long term
Obligations (3) 228.4 13.8 20.1 16.0 16.3 16.6 145.6
---------- --------- --------- --------- --------- -------- ------------
Total Contractual Cash
Obligations $ 2,872.8 $ 136.0 $ 301.7 $ 355.2 $ 359.2 $ 343.8 $ 1,376.9
========== ========= ========= ========= ========= ======== ============
(1) Represents expected cash payments, including interest.
(2) Represents estimated minimum commitments under current long term natural
gas contracts, natural gas transportation reservation charges, GTG
compressor parts and the ground lease agreement.
(3) Represents the cost of current Facility maintenance service agreements and
spare parts.
(4) Represents obligations from July to December 2003.
Outlook
"Safe Harbor" Statement Under the Private Securities Litigation Reform Act of
1995. The following discussion of the outlook for MCV contains certain
"forward-looking statements" as defined by the Private Securities Litigation
Reform Act of 1995 (the "Act"), including without limitation, discussion as to
expectations, beliefs, plans, objectives and future financial performance, or
assumptions underlying or concerning matters discussed reflecting MCV's current
expectations of the manner in which the various factors discussed therein may
affect its business in the future. Any matters that are not historical facts are
forward-looking and, accordingly, involve estimates, assumptions, and
uncertainties that could cause actual results or outcomes to differ materially
from those expressed in the forward-looking statements. Accordingly, this "Safe
Harbor" Statement contains additional information about such factors relating to
the forward-looking statements. MCV has made every reasonable effort to ensure
that the information and assumptions on which these statements and projections
are based are correct, reasonable and complete. There is no assurance, however,
that MCV's expectations will be realized or that unexpected events will not have
an adverse impact on MCV's business.
-18-
Some important factors that could cause actual results or outcomes to differ
materially from those discussed in the forward-looking statements include
governmental policies, legislation and other regulatory actions (including those
of the Michigan Legislature, Congress, FERC and the MPSC) with respect to cost
recovery under the PPA, industry restructuring or deregulation, operation and
construction of plant facilities including natural gas pipeline and storage
facilities, Consumers' ability to perform its obligations under the PPA and
present or prospective wholesale and retail competition, among other factors.
The business and profitability of MCV is also influenced by other factors such
as pricing and transportation of natural gas, changes in accounting standards
(such as accounting for derivative instruments and hedging activities) and
environmental legislation/regulation. All such factors are difficult to predict,
contain uncertainties which may materially affect actual results, and are beyond
the control of MCV.
Results of operations are largely dependent on successfully operating the
Facility at or near contractual capacity levels, the availability of natural
gas, the level of energy rates paid to MCV relative to the cost of fuel used for
generation and cost of maintenance of the Facility's QF status.
Operating Outlook. During the first six months of 2003, approximately 68% of PPA
revenues were capacity payments under the PPA, which are billed on availability,
subject to an annual availability cap of 98.5% pursuant to a settlement
agreement between MCV and Consumers. Actual PPA availability was 99.8% for the
first six months of 2003, 98.8% for 2002 and 99.5% for 2001. Availability will
depend on the level of scheduled and unscheduled maintenance outages, and on the
sustained level of output from each of the GTGs and the steam turbines. MCV
expects long term PPA availability to meet or exceed the capped level of 98.5%,
though prolonged equipment outages could materially reduce the level of
availability.
Natural Gas. The Facility is wholly dependent upon natural gas for its fuel
supply and a substantial portion of the Facility's operating expenses consist of
the costs of natural gas. While MCV continues to pursue the acquisition of a
portion of its expected fuel supply requirements in future years, MCV recognizes
that its existing long term gas contracts are not sufficient to satisfy the
anticipated gas needs over the term of the PPA and, as such, no assurance can be
given as to the availability or price of natural gas after the expiration of its
existing fixed price gas contracts or for gas that may be required by the
Facility in excess of the gas that MCV has under contract.
Energy Rates and Cost of Production. Under the PPA, energy charges are based on
the costs associated with fuel inventory, operations and maintenance, and
administrative and general expenses associated with certain of Consumers' coal
plants. However, MCV's costs of producing electricity are tied, in large part,
to the cost of natural gas. To the extent that the costs associated with
production of electricity with natural gas rise faster than the energy charge
payments, which are based largely on Consumers' coal plant operation and
maintenance costs, MCV's financial performance would be negatively affected. In
addition, the extent to which the Facility is dispatched by Consumers can
exacerbate the divergence between variable revenues and costs of production. The
divergence between variable revenues and costs will become greater if the energy
charge (based largely on the cost of coal) declines or escalates more slowly
than the spot market or contract prices under which MCV purchases fuel.
Currently, MCV continues to purchase the majority of its natural gas
requirements under long term fixed price gas contracts, with a smaller portion
of gas purchased under long term market priced contracts and on the spot market.
MCV maintains a hedging program to mitigate risk associated with volatile market
prices in the gas market. As of June 30, 2003, MCV has entered into natural gas
purchase and hedging arrangements with respect to most of its 2003 expected gas
needs not provided for under its long term fixed price gas contracts. MCV
expects that its purchase and hedging arrangements will mitigate the effects of
rises in natural gas prices for 2003, although high gas prices for an extended
period of time could adversely affect operating results.
In March 1998, Consumers began economically dispatching the Facility by
scheduling energy deliveries on an economic basis relative to the cost of other
energy resources available to Consumers, resulting in an average dispatch of
approximately 79% from April 1998 through June 2003. Previously, the Facility
was being dispatched on an uneconomic basis (relative to the cost of other
energy resources) under the terms of the 915 MW Settlement and the 325 MW
Settlement, averaging approximately 90% annual dispatch. In April 2003,
Consumers informed MCV that effective January 1, 2004, Consumers expects to
return to dispatching the Facility on an uneconomic basis, pursuant to the
Settlements. If such an event were to occur, such uneconomic dispatch could
negatively affect MCV's financial performance by approximately $38 million per
year, based upon projected spot gas prices of approximately $4.83/MMBtu. MCV is
in discussions with Consumers regarding means to minimize the potential impact
of high
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dispatch, but cannot predict whether those discussions will be successful or
whether state regulatory approval, if required, can be obtained.
Capacity and Energy Payments Under the PPA. The PPA permits Consumers, under
certain conditions, to reduce the capacity and energy charges payable to MCV
and/or to receive refunds of capacity and energy charges paid to MCV if the MPSC
does not permit Consumers to recover from its customers the capacity and energy
charges specified in the PPA (the "regulatory-out" provision). Until September
15, 2007, the capacity charge may not be reduced below an average capacity rate
of 3.77 cents per kWh for the available Contract Capacity notwithstanding the
"regulatory-out" provision. MCV and Consumers entered into a settlement
agreement ("Settlement Agreement"), effective January 1, 1999, which resolves
all of the previously Disputed Issues under the PPA and includes definitive
obligations for Consumers to make energy payments calculated in accordance with
the PPA, irrespective of any MPSC or the reviewing courts decision which may
affect those issues or payments. The Settlement Agreement also provides that,
not withstanding modifications to the Facility increasing its capacity, in
billing Consumers for capacity charges (at the rates set forth in the PPA)
availability would be capped at 98.5% of the 1240 MW ("98.5% cap") on a
calendar-year basis for the term of the PPA irrespective of any MPSC or the
reviewing courts decision, which may affect this issue or payment. Provided,
however, that if Consumers transfers (subject to MCV's prior consent) its rights
of up to 1240 MW of capacity and associated energy under the PPA to a third
party for an extended period of time, the 98.5% cap will not apply except that
the 98.5% cap is, in any event, reinstated on September 15, 2007.
Notwithstanding the Settlement Agreement, after September 15, 2007, an issue
could exist as to whether or not Consumers can exercise the "regulatory out"
provision to reduce capacity payments to MCV based upon the "availability caps"
of 88.7% of the 1240 MW (both on and off peak) of contract capacity as provided
for in the 915 MW Settlement and the 325 MW Settlement. Consumers and MCV are
required to support and defend the terms of the PPA.
Michigan Electric Industry Restructuring. The MPSC issued orders in 1997 and
1998 (collectively the "Restructuring Orders"). The Restructuring Orders provide
for a transition to a competitive regime whereby electric retail customers would
be able to choose their power supplier and pay negotiated or market-based rates
for such power supply. The Restructuring Orders also mandated that utilities
"wheel" third-party power to the utilities' customers. An issue involved in
restructuring, which could significantly impact MCV, is stranded cost recovery.
The Restructuring Orders allow recovery by utilities (including Consumers) of
net stranded costs, which include capacity charges from QFs, including MCV,
previously approved by the MPSC, incurred during the regulated era that will be
above market prices during the new competitive regime. However, it appears that
stranded cost recovery of above-market capacity charges in power purchase
contracts (including MCV's PPA) is limited to customers who chose an alternative
power supplier and are only paid for the period 1998 through 2007 (MCV's PPA
expires in 2025). Customers who chose to remain power supply customers of
Consumers will continue to pay capacity charges as part of rates charged by
Consumers, subject to MPSC rate regulation. The Restructuring Orders do not
otherwise specifically address the recovery of PPA capacity charges after 2007.
MCV, as well as others, filed appeals in state and federal courts challenging
the Restructuring Orders. The Michigan Court of Appeals found that the
Restructuring Orders do not unequivocally disallow recovery of PPA charges
(capacity and energy) by Consumers and, therefore, MCV's issues were not ripe
for appellate review and no actual controversy regarding recovery of costs could
occur until 2008, at the earliest. This order is now final.
In June 2000, the State of Michigan enacted legislation which, among other
things, states that the Restructuring Orders (being voluntarily implemented by
Consumers) are in compliance with the legislation and enforceable by the MPSC.
The legislation provides that the rights of parties to existing contracts
between utilities (like Consumers) and QFs (like MCV), including the rights to
have the PPA charges recovered from customers of the utilities, are not
abrogated or diminished, and permitted utilities to securitize certain stranded
costs including PPA charges.
In MCV's federal court challenge to the Restructuring Orders, the U.S. District
Court granted summary judgment to MCV declaring, among other things, that the
Restructuring Orders are preempted by federal law to the extent they prohibit
Consumers from recovering from its customers any charge for avoided costs (or
"stranded costs") to be paid to MCV under PURPA pursuant to the PPA. In June
2001, the United States Court of Appeals ("Appellate Court") vacated the U.S.
District Court's summary judgment and ordered the case dismissed based upon a
finding that no actual case or controversy existed for adjudication between the
parties. The Appellate Court determined that the
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parties' dispute is hypothetical at this time and the QFs (including MCV) claims
are premised on speculation about how an order might be interpreted in the year
2007 or beyond by the MPSC.
Federal Electric Industry Restructuring. FERC has jurisdiction over wholesale
energy sales and is moving towards "market" based pricing of electricity as
opposed to traditional cost-based pricing. In April 1996, FERC issued Order No.
888 requiring all utilities that FERC regulates to file uniform transmission
tariffs providing for, among other things, non-discriminatory "open access" to
all wholesale buyers and sellers, including the transmission owner, on terms and
conditions established by FERC. Order No. 888 also requires utilities to
"functionally unbundle" transmission and separate transmission personnel from
those responsible for marketing generation. In December 1999, FERC issued a
final rule, Order No. 2000, designed to encourage all owners and operators of
interstate electric transmission lines to join regional transmission
organizations. In July 2001, FERC issued a Notice of Proposed Rulemaking to
establish a standard market design ("SMD") in order to remedy remaining undue
discrimination in transmission and wholesale energy markets. The SMD requires
all FERC jurisdictional transmission providers to transfer control of their
transmission facilities to an independent transmission provider. The independent
transmission provider will provide transmission service under a standardized
tariff and administer market based wholesale energy markets for day-ahead and
real-time sales. The SMD proposal has drawn strong criticism from certain State
regulators and others asking Congress to block the proposal. This criticism has
had the effect of delaying issuance of a final SMD rule. In addition, apart from
the SMD proceeding, the Midwest Independent System Operator ("Midwest ISO") has
committed to FERC to implement in December 2003 a day-ahead and real-time energy
market similar to that proposed in the SMD proceeding. The Midwest ISO provides
transmission service in most parts of the Midwest, including Michigan. The SMD
could impact MCV in selling electricity in the wholesale market. MCV management
cannot predict the outcome of the NOPR or the impact the rulemaking may have on
MCV's business, if any, at this time.
Maintaining QF Status. In the case of a topping-cycle generating plant such as
the Facility, to maintain QF Status the applicable operating standard requires
that the portion of total energy output that is put to some useful purpose other
than facilitating the production of power (the "Thermal Percentage") be at least
5%. In addition, the plant must achieve and maintain an average PURPA efficiency
standard (the sum of the useful power output plus one-half of the useful thermal
energy output, divided by the energy input (the "Efficiency Percentage")) of at
least 45%. However, if the plant maintains a Thermal Percentage of 15% or
higher, the required Efficiency Percentage is reduced to 42.5%. The tests are
applied on a calendar year basis. The Facility has achieved the applicable
Efficiency Percentage of 42.5% in each year since commercial operation, and in
the years 1995 through 2002 the Facility achieved an Efficiency Percentage in
excess of 45%.
MCV believes that the Facility will be able to maintain QF status and be capable
of achieving a 45% PURPA Efficiency Percentage on a long term basis. In
addition, MCV believes annual steam sales will be sufficient to allow the
Facility to exceed the 15% Thermal Percentage. However, no assurance can be
given that factors outside MCV's control will not cause the Facility to fail to
satisfy the annual PURPA qualification requirements and thus lose its QF status.
During the first six months of 2003, the Facility achieved an Efficiency
Percentage of 47.5% and a Thermal Percentage of 21.3%.
The loss of QF status could, among other things, cause the Facility to lose its
right under PURPA to sell power to Consumers at Consumers' "avoided cost" and
subject the Facility to additional federal and state regulatory requirements,
including the Federal Power Act, as amended (under which FERC has authority to
establish rates for electricity, which may be different than existing
contractual rates). If the Facility were to lose its QF status, the Partners of
MCV, the Owner Participants, the Owner Trustees and their respective parent
companies could become subject to regulation under the Public Utility Holding
Company Act of 1935 (under which, among other things, the Securities and
Exchange Commission has authority to order divestiture of assets under certain
circumstances). The loss of QF status would not, however, entitle Consumers to
terminate the PPA. Under the PPA, Consumers is obligated to continue purchasing
power from MCV at FERC-approved rates (provided that the FERC-approved rates do
not exceed the existing contractual rates) and MCV, not Consumers, is entitled
to terminate the PPA (which MCV has covenanted not to do under the Participation
Agreements). There can be no assurance that FERC-approved rates would be the
same as the rates currently in effect under the PPA. If the FERC-approved rates
are materially less than the rates under the PPA, MCV may not have sufficient
revenue to make financing obligation payments under the Overall Lease
Transaction. The loss of QF status would constitute an Event of Default under
the Lease (and a
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corresponding Event of Default under the Indenture) unless, among other
requirements, FERC approves (or accepts for filing) rates under the PPA or other
contracts of MCV for the sale of electricity sufficient to meet certain target
coverage ratios (as defined in the Overall Lease Transaction).
Critical Accounting Policies
In preparing MCV's financial statements in accordance with accounting principles
generally accepted in the United States, management must make a number of
estimates and assumptions related to the reporting of assets, liabilities,
revenues and expenses. The following areas represent those that management
believes are particularly important to the financial statements and that require
the use of significant estimates and assumptions.
Electric Industry Restructuring. As stated above, at both the state and federal
level, efforts continue to restructure the electric industry. To date,
restructuring has not negatively impacted MCV, but if restructuring results in
denying Consumers recovery of above-market PPA costs, MCV's cash flows may be
negatively impacted, especially in the period after 2007. Over 90% of MCV's
revenues come from sales pursuant to the PPA. MCV continues to monitor and
participate in these matters as appropriate, and to evaluate potential impacts
on both cash flows and recoverability of the carrying value of property, plant
and equipment. Any future adjustment to property, plant and equipment, if
required, would result in a one-time negative earnings impact. At this time, MCV
management cannot predict the outcome of these matters or the magnitude of any
possible adjustment.
Natural Gas Contracts. Effective January 1, 2001, MCV adopted SFAS No. 133,
which establishes accounting and reporting standards requiring that every
derivative instrument be recorded on the balance sheet as either an asset or
liability measured at its fair value. SFAS No. 133 requires that changes in the
derivative's fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. Special accounting for qualifying hedges in
some cases allows a derivative's gains and losses to offset related results on
the hedged item in the income statement or permits recognition of the hedge
results in other comprehensive income, and requires that a company formally
document, designate, and assess the effectiveness of transactions that receive
hedge accounting.
MCV management believes that MCV's current long term natural gas contracts that
do not contain volume optionality qualify under SFAS No. 133 for the normal
purchases and sales exception. These long term gas contracts are not being
marked-to-market with gains or losses recorded in earnings. Should significant
changes in the level of Facility operational dispatch or purchases of long term
gas occur, MCV would be required to re-evaluate its accounting treatment for
these long term gas contracts. This re-evaluation may result in recording
mark-to-market activity on some contracts, which could add to earnings
volatility.
The FASB issued Derivative Implementation Group ("DIG") Issue C-16, which became
effective April 1, 2002, regarding natural gas commodity contracts that combine
an option component and a forward component. This guidance requires either that
the entire contract be accounted for as a derivative or the components of the
contract be separated into two discrete contracts. Under the first alternative,
the entire contract considered together would not qualify for the normal
purchases and sales exception under the revised guidance. Under the second
alternative, the newly established forward contract could qualify for the normal
purchases and sales exception, while the option contract would be treated as a
derivative under SFAS No. 133 with changes in fair value recorded through
earnings. At April 1, 2002, MCV had nine long term gas contracts that contained
both an option and forward component. As such, they were no longer accounted for
under the normal purchases and sales exception and MCV began mark-to-market
accounting of these nine contracts through earnings. During the fourth quarter
of 2002, MCV removed the option component from three of the nine long term gas
contracts discussed above, which should reduce the earnings volatility. MCV
expects future earnings volatility on the six remaining long term gas contracts
that contain volume optionality, since changes to this mark-to-market gain will
be recorded on a quarterly basis during the remaining life of approximately five
years for these gas contracts. Based on the natural gas prices, at the beginning
of April 2002, MCV recorded a $58.1 million gain for the cumulative effect of
this accounting change. Since April 2002, MCV has recorded an additional
mark-to-market gain of $47.6 million for these gas contracts for a cumulative
mark-to-market gain through June 30, 2003 of $105.7 million, which will reverse
over the remaining life of these contracts, ranging from 2004 to 2007.
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Property Tax Appeals. MCV currently accrues property taxes on the basis of the
taxable value as assessed by the taxing authorities. In 1997, MCV filed a
property tax appeal against the City of Midland at the Michigan Tax Tribunal
contesting MCV's 1997 property taxes. Subsequently, MCV filed appeals contesting
its property taxes for tax years 1998 through 2003 at the Michigan Tax Tribunal.
A trial was held for tax years 1997 -- 2000 and for the appeals for tax years
2001-2003 are being held in abeyance pending the resolution of the aforesaid
trial. MCV is seeking a reduction of its annual property taxes on the basis that
the City of Midland has over assessed the property's taxable value for ad
valorem property tax purposes. If MCV is successful in lowering its taxable
value for these years, a one-time favorable earnings adjustment would be
recorded. In addition, future property tax expense would be reduced. At this
time, MCV Management cannot predict the outcome of the trial and these appeals.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Market risks relating to MCV's operations result primarily from changes in
commodity prices, interest rates and foreign exchange rates. To address these
risks, MCV enters into various hedging transactions as described herein. MCV
does not use financial instruments for trading purposes and does not use
leveraged instruments. Fair values included herein have been determined based on
quoted market prices. The information presented below should be read in
conjunction with Part I, Item 1, "Condensed Notes to Unaudited Consolidated
Financial Statements -- Note 2, Risk Management Activities and Derivative
Transactions and Note 5, Long Term Debt".
Interest Rate Risk. In 1990, MCV obtained permanent financing for the Facility
by entering into sale and leaseback agreements ("Overall Lease Transaction")
with a lessor group, related to substantially all of MCV's fixed assets. In
accordance with SFAS No. 98, "Accounting For Leases," the Overall Lease
Transaction has been accounted for as a financing arrangement. Under the terms
of the Overall Lease Transaction, MCV sold undivided interests in all of the
fixed assets of the Facility for approximately $2.3 billion, to the Owner Trusts
established for the benefit of the Owner Participants. The financing
arrangement, entered into for a basic term of 25 years, maturing in 2015, has an
effective interest rate of approximately 9.4%, payable in semi-annual
installments of principal and interest. Due to the unique nature of the
negotiated financing obligation it is unnecessary to estimate the fair value of
the Owner Participants' underlying debt and equity instruments supporting this
financing obligation, since SFAS No. 107 "Disclosure about Fair Value of
Financial Instruments" does not require fair value accounting for the lease
obligation.
To manage the effects of interest rate volatility on interest income while
maximizing return on permitted investments, MCV has established an interest rate
hedging program. The carrying amounts of MCV's short-term investments
approximate fair value because of the short term maturity of these instruments.
MCV's short-term investments are made up of investment securities held to
maturity and as of June 30, 2003, have original maturity dates of approximately
one year or less.
For MCV's debt obligations, the table below presents principal cash flows and
the related interest rate by expected maturity dates as of June 30, 2003. The
interest rate reflects the fixed effective rate of interest of the financing
arrangement:
Expected Maturity In
------------------------------------------------------------------------ Fair
2003 2004 2005 2006 2007 Thereafter Total Value
---- ---- ---- ---- ---- ---------- ----- -----
Debt:
Long term Debt Fixed
Rate (in millions) $179.7 $242.8 $174.4 $156.0 $150.9 $1,040.0 $1,943.8 N/A
Avg. Interest Rate 9.4% 9.4% 9.4% 9.4% 9.4% 9.4% 9.4%
Commodity Risk. MCV enters into natural gas futures and option contracts in
order to hedge against unfavorable changes in the market price of natural gas in
future months when gas is expected to be needed. These financial instruments are
utilized principally to secure anticipated natural gas requirements necessary
for projected electric
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sales and to lock in sales prices of natural gas previously obtained in order to
optimize MCV's existing gas supply, storage and transportation arrangements.
The following table provides information about MCV's futures and option
contracts that are sensitive to changes in natural gas prices; these futures and
option contracts have maturity dates ranging from August 2003 to May 2007. The
table presents the carrying amounts and fair values at June 30, 2003:
Expected Maturity in 2003/2007 Fair Value
------------------------------ ----------
Futures Contracts:
Contract Volumes (10,000 MMBtu) Long/Buy 3,853 --
Weighted Average Price Long (per MMBtu) $ 4.169 $ 5.150
Contract Amount ($US in Millions) $ 160.6 $ 198.4
Foreign Currency Risk. MCV periodically enters into foreign exchange forward
purchase contracts for Swiss Francs to hedge its foreign currency exposure
against adverse currency fluctuations impacting the payments under the Amended
Service Agreement with Alstom. The gains and losses on these transactions,
accounted for as hedges, are included in the measurement of the underlying
capitalized major renewal costs when incurred. Forward contracts entered into by
MCV have maturity dates of less than one year. As of June 30, 2003, MCV did not
have any such transactions outstanding and does not anticipate any future
transactions.
See Part I, Item 1, "Condensed Notes to Unaudited Consolidated Financial
Statements -- Note 1" for a further discussion of associated risks and
contingencies.
Item 4. Controls and Procedures
Disclosure Controls and Procedures
As of the end of the period covered by this report, MCV carried out an
evaluation, under the supervision and with the participation of MCV's
management, including the President and Chief Executive Officer, and the Chief
Financial Officer, Vice President and Controller, of the effectiveness of the
design and operation of MCV's disclosure controls and procedures (as defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as
amended). Based on such review of MCV's disclosure controls and procedures, the
President and Chief Executive Officer, and the Chief Financial Officer, Vice
President and Controller; have concluded that MCV's disclosure controls and
procedures are effective.
Changes in Internal Controls
There have been no significant changes in MCV's internal controls or in other
factors that could significantly affect these controls subsequent to the date
MCV completed its evaluation.
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PART II. OTHER INFORMATION
Item 1. Legal Proceedings
The discussion below is limited to an update of events or developments that have
occurred in various judicial and administrative proceedings since March 25,
2003. A complete summary of all outstanding legal proceedings is set forth in
MCV's Form 10-K for the year ended December 31, 2002 filed with the Securities
and Exchange Commission on March 26, 2003.
Property Tax Appeals
In 1997, MCV filed a property tax appeal against the City of Midland at the
Michigan Tax Tribunal contesting MCV's 1997 property taxes. Subsequently, MCV
filed appeals contesting its property taxes for tax years 1998 through 2003 at
the Michigan Tax Tribunal. A trial was held for tax years 1997 -- 2000 and for
the appeals for tax years 2001-2003 are being held in abeyance pending the
resolution of the aforesaid trial. MCV is seeking a reduction of its annual
property taxes on the basis that the City of Midland has over assessed the
property's taxable value for ad valorem property tax purposes. MCV management
cannot predict the outcome of these proceedings.
Item 6. Exhibits and Reports on Form 8-K
a.) List of Exhibits
31.1 Certification of President and Chief Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer, Vice President and
Controller Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
32.1 Certification of President and Chief Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer, Vice President and
Controller Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
b.) Reports on Form 8-K
Current report dated July 28, 2003 containing Item 9, "Disclosure of
Results of Operations and Financial Condition," reporting MCV's 2003 second
quarter and year-to-date earnings results.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MIDLAND COGENERATION VENTURE
LIMITED PARTNERSHIP
(Registrant)
Dated: August 13, 2003 /s/James M. Kevra
---------------------- -------------------------------------
James M. Kevra
President and Chief Executive Officer
Dated: August 13, 2003 /s/James M. Rajewski
---------------------- -------------------------------------
James M. Rajewski
Chief Financial Officer,
Vice President and Controller
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10-Q EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION
31.1 Certification of President and Chief Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer, Vice President and
Controller Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
32.1 Certification of President and Chief Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer, Vice President and
Controller Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002