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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 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 MARCH 31, 2007
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission Registrant; State of Incorporation; IRS Employer
File Number Address; and Telephone Number Identification No.
- ----------- ----------------------------------------- ------------------
1-9513 CMS ENERGY CORPORATION 38-2726431
(A Michigan Corporation)
One Energy Plaza, Jackson, Michigan 49201
(517) 788-0550
1-5611 CONSUMERS ENERGY COMPANY 38-0442310
(A Michigan Corporation)
One Energy Plaza, Jackson, Michigan 49201
(517) 788-0550
Indicate by check mark whether the Registrants (1) have 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
Registrants were required to file such reports), and (2) have been subject to
such filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the Registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act.
CMS ENERGY CORPORATION: Large accelerated filer [X] Accelerated filer [ ]
Non-Accelerated filer [ ]
CONSUMERS ENERGY COMPANY: Large accelerated filer [ ] Accelerated filer [ ]
Non-Accelerated filer [X]
Indicate by check mark whether the Registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
CMS ENERGY CORPORATION: Yes [ ] No [X] CONSUMERS ENERGY COMPANY: Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock at April 30, 2007:
CMS ENERGY CORPORATION:
CMS Energy Common Stock, $.01 par value 224,497,687
CONSUMERS ENERGY COMPANY, $10 par value,
privately held by CMS Energy Corporation 84,108,789
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CMS ENERGY CORPORATION
AND
CONSUMERS ENERGY COMPANY
QUARTERLY REPORTS ON FORM 10-Q TO THE
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
FOR THE QUARTER ENDED MARCH 31, 2007
This combined Form 10-Q is separately filed by CMS Energy Corporation and
Consumers Energy Company. Information contained herein relating to each
individual registrant is filed by such registrant on its own behalf.
Accordingly, except for its subsidiaries, Consumers Energy Company makes no
representation as to information relating to any other companies affiliated with
CMS Energy Corporation.
TABLE OF CONTENTS
Page
--------
Glossary ............................................................ 3
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
CMS Energy Corporation
Consolidated Statements of Income (Loss) ...................... CMS - 29
Consolidated Statements of Cash Flows ......................... CMS - 31
Consolidated Balance Sheets ................................... CMS - 32
Consolidated Statements of Common Stockholders' Equity ........ CMS - 34
Notes to Consolidated Financial Statements (Unaudited):
1. Corporate Structure and Accounting Policies ............... CMS - 37
2. Asset Sales, Discontinued Operations and Impairment
Charges ................................................ CMS - 39
3. Contingencies ............................................. CMS - 43
4. Financings and Capitalization ............................. CMS - 58
5. Earnings Per Share ........................................ CMS - 60
6. Financial and Derivative Instruments ...................... CMS - 61
7. Retirement Benefits ....................................... CMS - 65
8. Income Taxes .............................................. CMS - 66
9. Asset Retirement Obligations .............................. CMS - 68
10. Equity Method Investments ................................. CMS - 70
11. Reportable Segments ....................................... CMS - 71
Consumers Energy Company
Consolidated Statements of Income ............................. CE - 22
Consolidated Statements of Cash Flows ......................... CE - 23
Consolidated Balance Sheets ................................... CE - 24
Consolidated Statements of Common Stockholder's Equity ........ CE - 26
Notes to Consolidated Financial Statements (Unaudited):
1. Corporate Structure and Accounting Policies ............... CE - 29
2. Contingencies ............................................. CE - 30
3. Financings and Capitalization ............................. CE - 41
4. Financial and Derivative Instruments ...................... CE - 43
5. Retirement Benefits ....................................... CE - 45
6. Asset Retirement Obligations .............................. CE - 46
7. Income Taxes .............................................. CE - 48
8. Reportable Segments ....................................... CE - 50
1
TABLE OF CONTENTS
(CONTINUED)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
CMS Energy Corporation
Executive Overview............................................. CMS - 1
Forward-Looking Statements and Information..................... CMS - 2
Results of Operations.......................................... CMS - 5
Critical Accounting Policies................................... CMS - 11
Capital Resources and Liquidity................................ CMS - 15
Outlook........................................................ CMS - 17
Implementation of New Accounting Standards..................... CMS - 26
New Accounting Standards Not Yet Effective..................... CMS - 27
Consumers Energy Company
Executive Overview............................................. CE - 1
Forward-Looking Statements and Information..................... CE - 2
Results of Operations.......................................... CE - 5
Critical Accounting Policies................................... CE - 8
Capital Resources and Liquidity................................ CE - 11
Outlook........................................................ CE - 13
Implementation of New Accounting Standards..................... CE - 20
New Accounting Standards Not Yet Effective..................... CE - 21
Item 3. Quantitative and Qualitative Disclosures about Market
Risk........................................................... CO - 1
Item 4. Controls and Procedures................................... CO - 1
PART II - OTHER INFORMATION
Item 1. Legal Proceedings........................................ CO - 1
Item 1A. Risk Factors............................................. CO - 6
Item 2. Unregistered Sales of Equity Securities and Use of
Proceeds....................................................... CO - 8
Item 3. Defaults Upon Senior Securities.......................... CO - 8
Item 4. Submission of Matters to a Vote of Security Holders...... CO - 8
Item 5. Other Information........................................ CO - 8
Item 6. Exhibits................................................. CO - 9
Signatures........................................................ CO - 10
2
GLOSSARY
Certain terms used in the text and financial statements are defined below
AFUDC.............................. Allowance for Funds Used During
Construction
ALJ................................ Administrative Law Judge
AOC................................ Administrative Order on Consent
AOCL............................... Accumulated Other Comprehensive Loss
APB................................ Accounting Principles Board
APB Opinion No. 18................. APB Opinion No. 18, "The Equity Method of
Accounting for Investments in Common
Stock"
ARO................................ Asset retirement obligation
Bay Harbor......................... A residential/commercial real estate area
located near Petoskey, Michigan. In 2002,
CMS Energy sold its interest in Bay
Harbor.
bcf................................ One billion cubic feet of gas
Big Rock........................... Big Rock Point nuclear power plant
CEO................................ Chief Executive Officer
CFO................................ Chief Financial Officer
CFTC............................... Commodity Futures Trading Commission
CKD................................ Cement Kiln Dust
Clean Air Act...................... Federal Clean Air Act, as amended
CMS Energy......................... CMS Energy Corporation, the parent of
Consumers and Enterprises
CMS Energy Common Stock or common
stock........................... Common stock of CMS Energy, par value $.01
per share
CMS ERM............................ CMS Energy Resource Management Company,
formerly CMS MST, a subsidiary of
Enterprises
CMS Field Services................. CMS Field Services, Inc., formerly a
wholly owned subsidiary of CMS Gas
Transmission. The sale of this subsidiary
closed in July 2003.
CMS Gas Transmission............... CMS Gas Transmission Company, a wholly
owned subsidiary of Enterprises
CMS Generation..................... CMS Generation Co., a wholly owned
subsidiary of Enterprises
CMS International Ventures......... CMS International Ventures LLC, a
subsidiary of Enterprises
CMS MST............................ CMS Marketing, Services and Trading
Company, a wholly owned subsidiary of
Enterprises, whose name was changed to CMS
ERM effective January 2004
Consumers.......................... Consumers Energy Company, a subsidiary of
CMS Energy
Customer Choice Act................ Customer Choice and Electricity
Reliability Act, a Michigan statute
enacted in June 2000
DCCP............................... Defined Company Contribution Plan
Detroit Edison..................... The Detroit Edison Company, a
non-affiliated company
DFD................................ Duke/Fluor Daniel, a non-affiliated
company
3
DIG................................ Dearborn Industrial Generation, LLC, an
indirect wholly owned subsidiary of CMS
Energy
DOE................................ U.S. Department of Energy
DOJ................................ U.S. Department of Justice
Dow................................ The Dow Chemical Company, a non-affiliated
company
EISP............................... Executive Incentive Separation Plan
EITF............................... Emerging Issues Task Force
EITF Issue No. 02-03............... Issues Involved in Accounting for
Derivative Contracts Held for Trading
Purposes and Contracts Involved in Energy
Trading and Risk Management Activities
El Chocon.......................... The 1,200 MW hydro power plant located in
Argentina, in which CMS Generation held a
17.2 percent ownership interest
Entergy............................ Entergy Corporation, a non-affiliated
company
Enterprises........................ CMS Enterprises Company, a subsidiary of
CMS Energy
EPA................................ U.S. Environmental Protection Agency
EPS................................ Earnings per share
Exchange Act....................... Securities Exchange Act of 1934, as
amended
FASB............................... Financial Accounting Standards Board
FERC............................... Federal Energy Regulatory Commission
FIN 14............................. FASB Interpretation No. 14, Reasonable
Estimation of the Amount of a Loss
FIN 46(R).......................... Revised FASB Interpretation No. 46,
Consolidation of Variable Interest
Entities
FIN 47............................. FASB Interpretation No. 47, Accounting for
Conditional Asset Retirement Obligations
FIN 48............................. FASB Interpretation No. 48, Uncertainty in
Income Taxes
FMLP............................... First Midland Limited Partnership, a
partnership that holds a lessor interest
in the MCV Facility
GAAP............................... Generally Accepted Accounting Principles
GasAtacama......................... GasAtacama Holding Limited, a limited
liability partnership that manages
GasAtacama S.A., which includes an
integrated natural gas pipeline and
electric generating plant located in
Argentina and Chile and Atacama Finance
Company
GCR................................ Gas cost recovery
IRS................................ Internal Revenue Service
ISFSI.............................. Independent Spent Fuel Storage Installation
Jorf Lasfar........................ The 1,356 MW coal-fueled power plant in
Morocco
Jubail............................. A 240 MW natural gas cogeneration power
plant located in Saudi Arabia, in which
CMS Generation owned a 25 percent interest
kWh................................ Kilowatt-hour (a unit of energy equal to
one thousand watt hours)
Lucid Energy....................... Lucid Energy LLC, a non-affiliated company
4
Ludington.......................... Ludington pumped storage plant, jointly
owned by Consumers and Detroit Edison
mcf................................ One thousand cubic feet of gas
MCV Facility....................... A natural gas-fueled, combined-cycle
cogeneration facility operated by the MCV
Partnership
MCV Partnership.................... Midland Cogeneration Venture Limited
Partnership
MCV PPA............................ The Power Purchase Agreement between
Consumers and the MCV Partnership with a
35-year term commencing in March 1990, as
amended, and as interpreted by the
Settlement Agreement dated as of January
1, 1999 between the MCV Partnership and
Consumers
MD&A............................... Management's Discussion and Analysis
MDEQ............................... Michigan Department of Environmental
Quality
MDL................................ Multidistrict Litigation
METC............................... Michigan Electric Transmission Company,
LLC, a non-affiliated company
MISO............................... Midwest Independent Transmission System
Operator, Inc.
MMBtu.............................. Million British Thermal Units
Moody's............................ Moody's Investors Service, Inc.
MPSC............................... Michigan Public Service Commission
MSBT............................... Michigan Single Business Tax
MW................................. Megawatt (a unit of power equal to one
million watts)
MWh................................ Megawatt hour (a unit of energy equal to
one million watt hours)
NEIL............................... Nuclear Electric Insurance Limited, an
industry mutual insurance company owned by
member utility companies
Neyveli............................ CMS Generation Neyveli Ltd, a 250 MW
lignite-fired power station located in
Neyveli, Tamil Nadu, India, in which CMS
International Ventures held a 50 percent
interest
NMC................................ Nuclear Management Company LLC, formed in
1999 by Northern States Power Company (now
Xcel Energy Inc.), Alliant Energy,
Wisconsin Electric Power Company, and
Wisconsin Public Service Company to
operate and manage nuclear generating
facilities owned by the utilities
NRC................................ Nuclear Regulatory Commission
NYMEX.............................. New York Mercantile Exchange
OPEB............................... Postretirement benefit plans other than
pensions for retired employees
Palisades.......................... Palisades nuclear power plant
Panhandle.......................... Panhandle Eastern Pipe Line Company,
including its subsidiaries Trunkline, Pan
Gas Storage, Panhandle Storage, and
Panhandle Holdings. Panhandle was a wholly
owned subsidiary of CMS Gas Transmission.
The sale of this subsidiary closed in June
2003.
PCB................................ Polychlorinated biphenyl
5
Peabody Energy..................... Peabody Energy Corporation, a
non-affiliated company
Pension Plan....................... The trusteed, non-contributory, defined
benefit pension plan of Panhandle,
Consumers and CMS Energy
PowerSmith......................... A 124 MW natural gas power plant located
in Oklahoma City, Oklahoma, in which CMS
Generation holds a 6.25% limited partner
ownership interest
Price-Anderson Act................. Price Anderson Act, enacted in 1957 as an
amendment to the Atomic Energy Act of
1954, as revised and extended over the
years. This act stipulates between nuclear
licensees and the U.S. government the
insurance, financial responsibility, and
legal liability for nuclear accidents.
PSCR............................... Power supply cost recovery
PURPA.............................. Public Utility Regulatory Policies Act of
1978
Quicksilver........................ Quicksilver Resources, Inc., a
non-affiliated company
RCP................................ Resource Conservation Plan
ROA................................ Retail Open Access
S&P................................ Standard & Poor's Ratings Group, a
division of The McGraw-Hill Companies,
Inc.
SEC................................ U.S. Securities and Exchange Commission
Section 10d(4) Regulatory Asset.... Regulatory asset as described in Section
10d(4) of the Customer Choice Act, as
amended
Securitization..................... A financing method authorized by statute
and approved by the MPSC which allows a
utility to sell its right to receive a
portion of the rate payments received from
its customers for the repayment of
Securitization bonds issued by a special
purpose entity affiliated with such
utility
SENECA............................. Sistema Electrico del Estado Nueva Esparta
C.A., a former subsidiary of Enterprises
SERP............................... Supplemental Executive Retirement Plan
SFAS............................... Statement of Financial Accounting
Standards
SFAS No. 5......................... SFAS No. 5, "Accounting for Contingencies"
SFAS No. 87........................ SFAS No. 87, "Employers' Accounting for
Pensions"
SFAS No. 88........................ SFAS No. 88, "Employers' Accounting for
Settlements and Curtailments of Defined
Benefit Pension Plans and for Termination
Benefits"
SFAS No. 98........................ SFAS No. 98, "Accounting for Leases"
SFAS No. 106....................... SFAS No. 106, "Employers' Accounting for
Postretirement Benefits Other Than
Pensions"
SFAS No. 109....................... SFAS No. 109, "Accounting for Income
Taxes"
SFAS No. 115....................... SFAS No. 115, "Accounting for Certain
Investments in Debt and Equity Securities"
SFAS No. 132(R).................... SFAS No. 132 (revised 2003), "Employers'
Disclosures about Pensions and Other
Postretirement Benefits"
SFAS No. 133....................... SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities, as
amended and interpreted"
SFAS No. 143....................... SFAS No. 143, "Accounting for Asset
Retirement Obligations"
6
SFAS No. 144....................... SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived
Assets"
SFAS No. 157....................... SFAS No. 157, "Fair Value Measurement"
SFAS No. 158....................... SFAS No. 158, "Employers' Accounting for
Defined Benefit Pension and Other
Postretirement Plans - an amendment of
FASB Statements No. 87, 88, 106, and
132(R)"
SFAS No. 159....................... SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial
Liabilities, Including an amendment to
FASB Statement No. 115"
Shuweihat.......................... A power and desalination plant in which
CMS Generation held a 20 percent interest
Stranded Costs..................... Costs incurred by utilities in order to
serve their customers in a regulated
monopoly environment, which may not be
recoverable in a competitive environment
because of customers leaving their systems
and ceasing to pay for their costs. These
costs could include owned and purchased
generation and regulatory assets.
Superfund.......................... Comprehensive Environmental Response,
Compensation and Liability Act
Takoradi........................... A 200 MW open-cycle combustion turbine
crude oil power plant located in Ghana, in
which CMS Generation owned a 90 percent
interest
TAQA............................... Abu Dhabi National Energy Company, a
subsidiary of Abu Dhabi Water and
Electricity Authority
Taweelah........................... Al Taweelah A2, a power and desalination
plant of Emirates CMS Power Company, in
which CMS Generation held a 40 percent
interest
TGM................................ A natural gas transportation and pipeline
business located in Argentina, in which
CMS International Ventures owned a 20
percent interest
TGN................................ A natural gas transportation and pipeline
business located in Argentina, in which
CMS Gas Transmission owns a 23.54 percent
interest
Trunkline.......................... CMS Trunkline Gas Company, LLC, formerly a
subsidiary of CMS Panhandle Holdings, LLC
7
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8
CMS Energy Corporation
CMS ENERGY CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
This MD&A is a consolidated report of CMS Energy and Consumers. The terms "we"
and "our" as used in this report refer to CMS Energy and its subsidiaries as a
consolidated entity, except where it is clear that such term means only CMS
Energy. This MD&A has been prepared in accordance with the instructions to Form
10-Q and Item 303 of Regulation S-K. This MD&A should be read in conjunction
with the MD&A contained in CMS Energy's Form 10-K for the year ended December
31, 2006.
EXECUTIVE OVERVIEW
CMS Energy is an energy company operating primarily in Michigan. We are the
parent holding company of Consumers and Enterprises. Consumers is a combination
electric and gas utility company serving Michigan's Lower Peninsula.
Enterprises, through various subsidiaries and equity investments, is engaged in
domestic and international energy businesses including independent power
production, electric distribution, and natural gas transmission, storage, and
processing. We manage our businesses by the nature of services each provides and
operate principally in three business segments: electric utility, gas utility,
and enterprises.
We earn our revenue and generate cash from operations by providing electric and
natural gas utility services, electric power generation, and gas distribution,
transmission, storage, and processing. Our businesses are affected primarily by:
- weather, especially during the normal heating and cooling seasons,
- economic conditions, primarily in Michigan,
- regulation and regulatory issues that affect our electric and gas
utility operations,
- energy commodity prices,
- interest rates, and
- our debt credit rating.
During the past several years, our business strategy has involved improving our
consolidated balance sheet and maintaining focus on our core strength: utility
operations and service.
In April 2007, we sold Palisades to Entergy for $380 million. The final purchase
price was subject to various closing adjustments resulting in us receiving $361
million. We also paid Entergy $30 million to assume ownership and responsibility
for the Big Rock Independent Spent Fuel Storage Installation (ISFSI). We entered
into a 15-year power purchase agreement with Entergy for 100 percent of the
plant's current electric output. The sale resulted in an immediate improvement
in our cash flow, a reduction in our nuclear operating and decommissioning risk,
and an improvement in our financial flexibility to support other utility
investments. The MPSC order approving the transaction requires that $255 million
be credited to our retail customers through refunds applied over the remainder
of 2007 and 2008.
CMS-1
CMS Energy Corporation
In 2007, we intend to complete the sale of our non-North American Enterprises
assets. We plan to use the proceeds from these sales to retire debt and to
invest in our utility business.
In March 2007, we completed the sale of a portfolio of our businesses in
Argentina and our northern Michigan non-utility natural gas assets to Lucid
Energy for $130 million. In March 2007, we also sold our interest in El Chocon,
an Argentine hydroelectric generating business, to Endesa, S.A. for $50 million.
We used the cash proceeds to invest in our utility business and reduce debt.
In April 2007, we entered into an agreement to sell CMS Energy Brasil S.A. for
$211 million to CPFL Energia S.A., a Brazilian utility. The sale is expected to
close by the end of the second quarter of 2007, subject to approval by the
Brazilian national electric utility regulatory agency.
In April 2007, we completed the sale of our ownership interest in SENECA and
certain associated generating equipment to Petroleos de Venezuela, S.A. for
$106 million.
In May 2007, we completed the sale of our ownership interest in businesses in
the Middle East, Africa, and India to TAQA for $900 million. We plan to use the
proceeds to invest in our utility business and reduce debt.
In addition, during 2007, we plan to conduct an auction to sell our GasAtacama
combined gas pipeline and power generation businesses in Argentina and Chile,
and our electric generating plant in Jamaica. For additional details on our
planned asset sales, see the "Enterprises Outlook" section within this MD&A.
In January 2007, we took an important step in our business plan by reinstating a
dividend on our common stock after a four-year suspension at $0.05 per share. We
paid $11 million in common stock dividends in February 2007. We also took steps
toward resolving a long-outstanding litigation issue. In January 2007, we
reached a preliminary agreement to settle two class action lawsuits related to
round-trip trading by CMS MST. We believe that eliminating this business
uncertainty is in the best interests of our shareholders.
In the future, we will focus our strategy on:
- continued investment in our utility business,
- successful completion of announced asset sales,
- reducing parent debt, and
- growing earnings while controlling operating costs.
As we execute our strategy, we will need to overcome a sluggish Michigan economy
that has been hampered by negative developments in Michigan's automotive
industry and limited growth in the non-automotive sectors of the state's
economy. The return of ROA customer load has offset some of these negative
effects. At March 31, 2007, alternative electric suppliers were providing 283 MW
of generation service to ROA customers. This is 3 percent of our total
distribution load and represents a decrease of 19 percent of ROA load compared
to March 31, 2006.
FORWARD-LOOKING STATEMENTS AND INFORMATION
This Form 10-Q and other written and oral statements that we make contain
forward-looking statements as defined in Rule 3b-6 under the Securities Exchange
Act of 1934, as amended, Rule 175 under the Securities Act of 1933, as amended,
and relevant legal decisions. Our intention with the use of such words as "may,"
"could," "anticipates," "believes," "estimates," "expects," "intends," "plans,"
and other similar words is to identify forward-looking statements that involve
risk and uncertainty. We designed this
CMS-2
CMS Energy Corporation
discussion of potential risks and uncertainties to highlight important factors
that may impact our business and financial outlook. We have no obligation to
update or revise forward-looking statements regardless of whether new
information, future events, or any other factors affect the information
contained in the statements. These forward-looking statements are subject to
various factors that could cause our actual results to differ materially from
the results anticipated in these statements. Such factors include our inability
to predict and (or) control:
- the price of CMS Energy Common Stock, capital and financial market
conditions, and the effect of such market conditions on the Pension
Plan, interest rates, and access to the capital markets, including
availability of financing to CMS Energy, Consumers, or any of their
affiliates, and the energy industry,
- market perception of the energy industry, CMS Energy, Consumers, or
any of their affiliates,
- credit ratings of CMS Energy, Consumers, or any of their affiliates,
- currency fluctuations, transfer restrictions, and exchange controls,
- factors affecting utility and diversified energy operations, such as
unusual weather conditions, catastrophic weather-related damage,
unscheduled generation outages, maintenance or repairs, environmental
incidents, or electric transmission or gas pipeline system
constraints,
- international, national, regional, and local economic, competitive,
and regulatory policies, conditions and developments,
- adverse regulatory or legal decisions, including those related to
environmental laws and regulations, and potential environmental
remediation costs associated with such decisions, including but not
limited to Bay Harbor,
- potentially adverse regulatory treatment and (or) regulatory lag
concerning a number of significant questions presently before the MPSC
including:
- recovery of Clean Air Act capital and operating costs and other
environmental and safety-related expenditures,
- power supply and natural gas supply costs when fuel prices are
increasing and (or) fluctuating,
- timely recognition in rates of additional equity investments in
Consumers,
- adequate and timely recovery of additional electric and gas
rate-based investments,
- adequate and timely recovery of higher MISO energy and
transmission costs,
- recovery of Stranded Costs incurred due to customers choosing
alternative energy suppliers,
- recovery of Palisades plant sale-related costs, and
- impact of possible regulation or legislation regarding carbon
dioxide and other greenhouse gas emissions,
- the effects on our ability to purchase capacity to serve our customers
and fully recover the cost of these purchases, if Consumers exercises
its regulatory out rights and the owners of the MCV Facility exercise
their right to terminate the MCV PPA,
- federal regulation of electric sales and transmission of electricity,
including periodic re-examination
CMS-3
CMS Energy Corporation
by federal regulators of the market-based sales authorizations in
wholesale power markets without price restrictions,
- energy markets, including availability of capacity and the timing and
extent of changes in commodity prices for oil, coal, natural gas,
natural gas liquids, electricity and certain related products due to
lower or higher demand, shortages, transportation costs problems, or
other developments,
- our ability to collect accounts receivable from our customers,
- earnings volatility as a result of the GAAP requirement that we
utilize mark-to-market accounting on certain energy commodity
contracts and interest rate swaps, which may have, in any given
period, a significant positive or negative effect on earnings, which
could change dramatically or be eliminated in subsequent periods,
- the effect on our electric utility of the direct and indirect impacts
of the continued economic downturn experienced by our automotive and
automotive parts manufacturing customers,
- potential disruption, expropriation or interruption of facilities or
operations due to accidents, war, terrorism, or changing political
conditions, and the ability to obtain or maintain insurance coverage
for such events,
- changes in available gas supplies or Argentine government regulations
that could further restrict natural gas exports to our GasAtacama
electric generating plant and the operating and financial effects of
the restrictions, including further impairment of our investment in
GasAtacama,
- the outcome of pending litigation regarding the DOE liability for
spent nuclear fuel storage during former ownership and operation of
nuclear power plants,
- technological developments in energy production, delivery, and usage,
- achievement of capital expenditure and operating expense goals,
- changes in financial or regulatory accounting principles or policies,
- changes in domestic or foreign tax laws, or new IRS or foreign
governmental interpretations of existing or past tax laws,
- outcome, cost, and other effects of legal and administrative
proceedings, settlements, investigations and claims, including
particularly claims, damages, and fines resulting from round-trip
trading and inaccurate commodity price reporting, including the
outcome of investigations by the DOJ regarding round-trip trading and
price reporting,
- limitations on our ability to control the development or operation of
projects in which our subsidiaries have a minority interest,
- disruptions in the normal commercial insurance and surety bond markets
that may increase costs or reduce traditional insurance coverage,
particularly terrorism and sabotage insurance and performance bonds,
CMS-4
CMS Energy Corporation
- the ability to efficiently sell assets when deemed appropriate or
necessary, including the sale of non-strategic or under-performing
domestic or international assets and discontinuation of certain
operations,
- other business or investment considerations that may be disclosed from
time to time in CMS Energy's or Consumers' SEC filings, or in other
publicly issued written documents,
- the successful close of the proposed sale of CMS Energy Brasil S.A.,
- the outcome of the planned sales of other generation and distribution
assets in Latin America, and
- other uncertainties that are difficult to predict, many of which are
beyond our control.
For additional information regarding these and other uncertainties, see the
"Outlook" section included in this MD&A, Note 3, Contingencies, and Part II,
Item 1A. Risk Factors.
RESULTS OF OPERATIONS
CMS ENERGY CONSOLIDATED RESULTS OF OPERATIONS
In Millions (except for
per share amounts)
------------------------
Three months ended March 31 2007 2006 Change
- --------------------------- ---- ---- ------
Net Loss Available to Common Stockholders $ (215) $ (27) $ (188)
Basic Loss Per Share $(0.97) $(0.12) $(0.85)
Diluted Loss Per Share $(0.97) $(0.12) $(0.85)
------ ------ ------
Electric Utility $ 51 $ 29 $ 22
Gas Utility 57 37 20
Enterprises (Includes the MCV Partnership and
FMLP interests) (187) (58) (129)
Corporate Interest and Other 44 (43) 87
Discontinued Operations (180) 8 (188)
------ ------ ------
Net Loss Available to Common Stockholders $ (215) $ (27) $ (188)
====== ====== ======
For the three months ended March 31, 2007, our net loss was $215 million, $188
million worse than 2006. Compared with the first quarter of 2006, net income
from our electric and gas utility segments increased a combined $42 million,
reflecting benefits from a recent MPSC gas rate case order and favorable weather
impacts, offset slightly by higher depreciation expense associated with
increased plant investment and planned operating expenses. The positive utility
results were more than offset by results at our other operating segments, as
losses on asset sales and impairment charges more than offset the net impact of
mark-to-market activities and the impact of various tax issues.
CMS-5
CMS Energy Corporation
Specific changes to net loss available to common stockholders for the three
months ended March 31, 2007 versus 2006 are:
In Millions
-----------
- - impact of activities associated with discontinued operations
as the loss on the disposal of our Argentine businesses and
non-utility Michigan gas assets in March 2007 and lower
earnings from discontinued businesses expected to be sold
during the remainder of 2007 replaced earnings recorded for
these businesses in 2006, $(188)
- - asset impairment charges primarily related to our investments
in TGN, Powersmith and Jamaica, (157)
- - tax provision on the cumulative undistributed earnings of
foreign subsidiaries at Enterprises that are expected to be
sold in 2007, (43)
- - decrease in earnings from equity method investees at
Enterprises primarily due to reduced earnings at Jorf Lasfar,
Taweelah and GasAtacama, (11)
- - reversal of corporate deferred tax valuation allowances
associated with capital loss carryforwards and foreign basis
differences related to international operations that are
expected to be sold in 2007, 81
- - decrease in losses from our ownership interest in the MCV
Partnership primarily due to the absence, in 2007, of
mark-to-market losses on certain long-term gas contracts and
financial hedges, 57
- - increase in earnings at our Electric utility primarily due to
a weather driven increase in deliveries, 22
- - increase in earnings at our Gas utility primarily due to the
positive effects of a recent MPSC gas rate case and an
increase in deliveries due to the weather, 20
- - increase in earnings at CMS ERM primarily due to the
recording of mark-to-market gains in 2007 versus losses
recorded in 2006, 16
- - net gain on additional Argentine and Michigan businesses sold
in March 2007, and 8
- - other miscellaneous benefits at corporate and Enterprises. 7
-----
Total Change $(188)
=====
ELECTRIC UTILITY RESULTS OF OPERATIONS
In Millions
--------------------
March 31 2007 2006 Change
- -------- ---- ---- ------
Net Income for the three months ended $51 $29 $22
=== === ===
Reasons for the change:
- -----------------------
Electric deliveries $24
Other operating expenses,
other income and non-commodity revenue 9
General taxes (4)
Interest charges 1
Income taxes (8)
---
Total change $22
===
CMS-6
CMS Energy Corporation
ELECTRIC DELIVERIES: In the first quarter of 2007, electric delivery revenues
increased by $24 million over 2006 as deliveries to end-use customers were 9.5
billion kWh, an increase of 0.2 billion kWh or 2 percent versus 2006. The
increase in electric deliveries was primarily due to colder weather in the first
quarter of 2007 versus 2006 and resulted in an increase in electric delivery
revenue of $17 million. Average temperatures in the first quarter of 2007 were
3.8 degrees colder than the same period last year.
In the first quarter of 2006, we started collecting a surcharge that the MPSC
authorized under Section 10d(4) of the Customer Choice Act. Due to timing
considerations, this surcharge increased electric delivery revenue by $5 million
in the first quarter of 2007 versus 2006.
The Customer Choice Act allows all of our electric customers to buy electric
generation service from us or from an alternative electric supplier. At March
31, 2007, alternative electric suppliers were providing 283 MW of generation
service to ROA customers. This amount represents a decrease of 19 percent
compared to March 31, 2006. The return of former ROA customers to full-service
rates increased electric delivery revenue $2 million in the first quarter of
2007 versus 2006.
OTHER OPERATING EXPENSES, OTHER INCOME AND NON-COMMODITY REVENUE: In the first
quarter of 2007, other operating expenses decreased $1 million, other income
increased $6 million, and non-commodity revenue increased $2 million versus
2006.
The decrease in other operating expenses was primarily due to lower operating
and maintenance expense, including reductions to certain workers' compensation
and injuries and damages expense. These decreases were offset partially by
higher depreciation, amortization, and overhead expense. Operating and
maintenance expense decreased primarily due to the absence, in 2007, of costs
incurred in 2006 related to a planned refueling outage at our Palisades nuclear
plant, and lower overhead line maintenance and storm restoration costs.
Depreciation and amortization expense increased due to higher plant in service
and greater amortization of certain regulatory assets. Overhead expense
increased primarily due to costs related to our voluntary separation program and
costs associated with our utility reorganization.
The increase in other income was primarily due to higher income associated with
our Section 10d(4) Regulatory Asset. This increase reflects the absence, in
2007, of the impact of the MPSC's final order in this case. The increase in
non-commodity revenue was primarily due to higher revenue from customer late
payment fees.
GENERAL TAXES: In the first quarter of 2007, general tax expense increased
primarily due to higher property tax and MSBT expense versus 2006.
INTEREST CHARGES: In the first quarter of 2007, interest charges decreased due
to lower average debt levels and lower interest expense associated with
potential customer refunds versus 2006.
INCOME TAXES: In the first quarter of 2007, income taxes increased primarily due
to higher earnings by the electric utility versus 2006. Partially offsetting
this increase is the absence, in 2007, of adjustments to certain deferred tax
balances. For additional details, see Note 8, Income Taxes.
CMS-7
CMS Energy Corporation
GAS UTILITY RESULTS OF OPERATIONS
In Millions
--------------------
March 31 2007 2006 Change
- -------- ---- ---- ------
Net Income for the three months ended $57 $37 $ 20
=== === ====
Reasons for the change:
Gas deliveries $ 14
Gas rate increase 33
Other gas revenue and other income 4
Operation and maintenance (13)
Depreciation and general taxes (5)
Interest charges (2)
Income taxes (11)
----
Total change $ 20
====
GAS DELIVERIES: In the first quarter of 2007, gas delivery revenues increased by
$14 million over 2006 as deliveries, including miscellaneous transportation to
end-use customers, were 137 bcf, an increase of 14 bcf or 11 percent versus
2006. The increase in gas deliveries was primarily due to colder weather in the
first quarter of 2007 versus 2006. Average temperatures in the first quarter of
2007 were 3.8 degrees colder than the same period last year.
GAS RATE INCREASE: In November 2006, the MPSC issued an order authorizing an
annual rate increase of $81 million. As a result of this order, gas revenues
increased $33 million for the first quarter of 2007 versus 2006.
OTHER GAS REVENUE AND OTHER INCOME: In the first quarter of 2007, other gas
revenue and other income increased $4 million versus 2006 primarily due to
higher pipeline capacity optimization revenue.
OPERATION AND MAINTENANCE: In the first quarter of 2007, operation and
maintenance expenses increased versus 2006 primarily due to higher customer
service and overhead expense. Customer service expense increased primarily due
to higher uncollectible accounts expense and contributions, beginning in
November 2006 pursuant to a November 2006 MPSC order, to a fund that provides
energy assistance to low-income customers. Overhead expense increased primarily
due to costs related to our voluntary separation program and costs associated
with our utility reorganization.
DEPRECIATION AND GENERAL TAXES: In the first quarter of 2007, depreciation
expense increased versus 2006 primarily due to higher plant in service. General
tax expense also increased, primarily due to higher property tax expense.
INTEREST CHARGES: In the first quarter of 2007, interest charges reflect higher
interest on our GCR overrecovery balance, offset partially by lower average debt
levels versus 2006.
INCOME TAXES: In the first quarter of 2007, income taxes increased versus 2006
primarily due to higher earnings by the gas utility.
CMS-8
CMS Energy Corporation
ENTERPRISES RESULTS OF OPERATIONS
In Millions
---------------------
March 31 2007 2006 Change
- -------- ----- ---- ------
Net Income for the three months ended $(187) $(58) $(129)
====== ==== =====
Reasons for the change:
Operating revenues $ 26
Cost of gas and purchased power 20
Earnings from equity method investees (17)
Gain on sale of assets 12
Operation and maintenance 2
General taxes, depreciation, and other income, net (3)
Asset impairment charges (242)
Fixed charges 1
Income taxes 15
The MCV Partnership 57
-----
Total change $(129)
=====
OPERATING REVENUES: For the three months ended March 31, 2007, operating
revenues increased $26 million versus 2006 primarily due to higher revenues at
CMS ERM resulting from mark-to-market gains on power and gas contracts compared
to losses on such items in 2006, partially offset by lower third-party gas
sales.
COST OF GAS AND PURCHASED POWER: For the three months ended March 31, 2007, cost
of gas and purchased power decreased $20 million versus 2006. The decrease was
primarily due to lower natural gas prices at CMS ERM.
EARNINGS FROM EQUITY METHOD INVESTEES: For the three months ended March 31,
2007, earnings from equity method investees decreased $17 million versus 2006.
The decrease is primarily the result of lower earnings of $9 million at Jorf
Lasfar due to higher income tax expense, a $6 million reduction in
mark-to-market gains on interest rate swaps associated with our investment in
Taweelah, and a $5 million reduction in earnings at GasAtacama due to higher
cost of fuel used for generation as a result of gas shortages. These decreases
were partially offset by $3 million of increased earnings at TGN, which was
subsequently impaired.
GAIN ON SALE OF ASSETS: For the three months ended March 31, 2007 the net gain
on asset sales was $12 million. There were no gains or losses on asset sales for
the three months ended March 31, 2006. The net gain consisted of a $23 million
gain on sale of our equity investment in El Chocon to Endesa S.A. partially
offset by an $11 million loss on the sale of our equity investment in TGM and
our Bay Area Pipeline in Michigan to Lucid Energy. For additional details, see
Note 2, Asset Sales, Discontinued Operations and Impairment Charges.
CMS-9
CMS Energy Corporation
OPERATION AND MAINTENANCE: For the three months ended March 31, 2007, operation
and maintenance expenses decreased $2 million due to the absence of research and
development costs in 2007 at CMS Energy Brasil S.A.
GENERAL TAXES, DEPRECIATION, AND OTHER INCOME, NET: For the three months ended
March 31, 2007, the net of general tax expense, depreciation, and other income
decreased operating income compared to 2006 due to higher general taxes,
primarily at our South American subsidiaries.
ASSET IMPAIRMENT CHARGES: For the three months ended March 31, 2007, asset
impairment charges were $242 million. There were no asset impairment charges for
the three months ended March 31, 2006. The increase was primarily due to the
recognition of the reduction in fair value of our investment in TGN, including
$197 million of cumulative currency translation loss.
INCOME TAXES: For the three months ended March 31, 2007, income tax benefit
increased $15 million versus the same period in 2006. The increase is primarily
due to the tax benefit related to asset impairment charges offset by a provision
on the cumulative undistributed earnings of foreign subsidiaries expected to be
sold during 2007.
THE MCV PARTNERSHIP: Due to the November 2006 sale of our ownership interests in
the MCV Partnership, we have condensed their consolidated results of operations
for the three months ended March 31, 2006 for discussion purposes. The decrease
in losses from our ownership interest in the MCV Partnership is primarily due to
the absence, in 2007, of mark-to-market losses on certain long-term contracts
and financial hedges.
CORPORATE INTEREST AND OTHER RESULTS OF OPERATIONS
In Millions
--------------------
March 31 2007 2006 Change
- -------- ---- ---- ------
Net Income for the three months ended $44 $(43) $87
=== ===== ===
For the three months ended March 31, 2007, net income from corporate interest
and other was $44 million versus net expenses of $43 million in 2006. The $87
million change is primarily due to an analysis of our tax position at March 31,
2007. Due to sales of our international operations during 2007, we determined
that certain deferred tax valuation allowances associated with capital loss
carryforwards and foreign basis differences were no longer required.
DISCONTINUED OPERATIONS: For the three months ended March 31, 2007, the net loss
from discontinued operations was $180 million compared to net income of $8
million in 2006. The $188 million difference is primarily due to losses related
to the March 2007 sale of Argentine businesses and non-utility natural gas
assets in Michigan. Further contributing to the difference is a reduction in
earnings from subsidiaries expected to be sold during the remainder of 2007. For
additional details, see Note 2, Asset Sales, Discontinued Operations and
Impairment Charges.
CMS-10
CMS Energy Corporation
CRITICAL ACCOUNTING POLICIES
The following accounting policies are important to an understanding of our
results of operations and financial condition and should be considered an
integral part of our MD&A. For additional accounting policies, see Note 1,
Corporate Structure and Accounting Policies.
USE OF ESTIMATES AND ASSUMPTIONS
We use estimates and assumptions in preparing our consolidated financial
statements that may affect reported amounts and disclosures. We use accounting
estimates for asset valuations, depreciation, amortization, financial and
derivative instruments, employee benefits, and contingencies. For example, we
estimate the rate of return on plan assets and the cost of future health-care
benefits to determine our annual pension and other postretirement benefit costs.
Actual results may differ from estimated results due to factors such as changes
in the regulatory environment, competition, foreign exchange, regulatory
decisions, and lawsuits.
CONTINGENCIES: We are involved in various regulatory and legal proceedings that
arise in the ordinary course of our business. We record a liability for
contingencies based upon our assessment that a loss is probable and the amount
of loss can be reasonably estimated. We use the principles in SFAS No. 5 when
recording estimated liabilities for contingencies. We consider many factors in
making these assessments, including the history and specifics of each matter.
The amount of income taxes we pay is subject to ongoing audits by federal,
state, and foreign tax authorities, which can result in proposed assessments.
Our estimate for the potential outcome for any uncertain tax issue is highly
judgmental. We believe we have provided adequately for any likely outcome
related to these matters. However, our future results may include favorable or
unfavorable adjustments to our estimated tax liabilities in the period the
assessments are made or resolved or when statutes of limitation on potential
assessments expire. As a result, our effective tax rate may fluctuate
significantly on a quarterly basis. The FASB issued a new interpretation on the
recognition and measurement of uncertain tax positions that we adopted on
January 1, 2007. For additional details, see the "Implementation of New
Accounting Standards" section included in this MD&A.
DISCONTINUED OPERATIONS: We have determined that certain consolidated
subsidiaries meet the criteria of assets held for sale under SFAS No. 144. At
March 31, 2007, these subsidiaries include Takoradi, SENECA, and certain
associated holding companies. At December 31, 2006, these subsidiaries include
our Argentine businesses sold in March 2007, a majority of our Michigan
non-utility businesses sold in March 2007, Takoradi, SENECA, and certain
associated holding companies. For additional details, see Note 2, Asset Sales,
Discontinued Operations and Impairment Charges.
ACCOUNTING FOR FINANCIAL AND DERIVATIVE INSTRUMENTS, TRADING ACTIVITIES, AND
MARKET RISK INFORMATION
FINANCIAL INSTRUMENTS: Debt and equity securities classified as
available-for-sale are reported at fair value determined from quoted market
prices. Debt and equity securities classified as held-to-maturity are reported
at cost.
Unrealized gains or losses resulting from changes in fair value of certain
available-for-sale debt and equity securities are reported, net of tax, in
equity as part of AOCL. Unrealized gains or losses are excluded from earnings
unless the related changes in fair value are determined to be other than
temporary. Unrealized gains or losses on our nuclear decommissioning investments
are reflected as regulatory liabilities on our
CMS-11
CMS Energy Corporation
Consolidated Balance Sheets. Realized gains or losses would not affect our
consolidated earnings or cash flows.
DERIVATIVE INSTRUMENTS: We account for derivative instruments in accordance with
SFAS No. 133. Except as noted within this section, since the year ended December
31, 2006, there have been no significant changes in the amount or types of
derivatives that we hold or to how we account for derivatives. For additional
details on our derivatives, see Note 6, Financial and Derivative Instruments.
To determine the fair value of our derivatives, we use information from external
sources (i.e., quoted market prices and third-party valuations), if available.
For certain contracts, this information is not available and we use mathematical
valuation models to value our derivatives. These models require various inputs
and assumptions, including commodity market prices and volatilities, as well as
interest rates and contract maturity dates. The following table summarizes the
interest rate and volatility rate assumptions we used to value these contracts
at March 31, 2007:
Interest Rates (%) Volatility Rates (%)
------------------ --------------------
Gas-related option contracts 5.00 39 - 49
Electricity-related option contracts 5.00 50 - 87
Changes in forward prices or volatilities could significantly change the
calculated fair value of our derivative contracts. The cash returns we actually
realize on these contracts may vary, either positively or negatively, from the
results that we estimate using these models. As part of valuing our derivatives
at market, we maintain reserves, if necessary, for credit risks arising from the
financial condition of our counterparties.
Derivative Contracts Associated with Equity Investments: At March 31, 2007,
certain of our equity method investments, specifically Taweelah, Shuweihat, Jorf
Lasfar, and Jubail, held interest rate contracts and foreign exchange contracts.
We recorded our proportionate share of the change in fair value of these
contracts in AOCL if the contracts qualified for cash flow hedge accounting;
otherwise, we recorded our share in Earnings from Equity Method Investees.
In May 2007, we sold our ownership interest in businesses in the Middle East,
Africa, and India including Taweelah, Shuweihat, Jorf Lasfar, and Jubail. As a
result of the sale, we will no longer recognize gains or losses related to
changes in the fair value of the derivative contracts held by these equity
method investees. At March 31, 2007, we had accumulated a net loss of $14
million, net of tax, in AOCL representing our proportionate share of
mark-to-market gains and losses from cash flow hedges held by the equity method
investees. At the date we closed the sale, this amount, adjusted for any
additional changes in fair value, was reclassified and recognized in earnings as
part of the sale. For additional details on the sale of our interest in these
equity method investees, see Note 2, Asset Sales, Discontinued Operations and
Impairment Charges.
CMS ERM CONTRACTS: CMS ERM enters into and owns energy contracts that support
CMS Energy's ongoing operations. We include the fair value of the derivative
contracts held by CMS ERM in either Price risk management assets or Price risk
management liabilities on our Consolidated Balance Sheets. The following tables
provide a summary of these contracts at March 31, 2007:
CMS-12
CMS Energy Corporation
In Millions
-----------------------------
Non-Trading Trading Total
----------- ------- -----
Fair value of contracts outstanding
at December 31, 2006 $31 $(68) $(37)
Fair value of new contracts when
entered into during the period (a) -- (1) (1)
Contracts realized or otherwise
settled during the period (3) 7 4
Other changes in fair value (b) 6 (6) --
--- ---- -----
Fair value of contracts outstanding
at March 31, 2007 $34 $(68) $(34)
=== ==== =====
(a) Reflects only the initial premium payments (receipts) for new contracts. No
unrealized gains or losses were recognized at the inception of any new
contracts.
(b) Reflects changes in the fair value of contracts over the period, as well as
increases or decreases to credit reserves.
Fair Value of Non-Trading Contracts at March 31, 2007 In Millions
- ------------------------------------------------------------------------------
Maturity (in years)
----------------------------------
Total
Fair Less Greater
Source of Fair Value Value than 1 1 to 3 4 to 5 than 5
- -------------------- ----- ------ ------ ------ -------
Prices actively quoted $-- $-- $-- $-- $--
Prices obtained from external
sources or based on models and
other valuation methods 34 18 16 -- --
--- --- --- --- ---
Total $34 $18 $16 $-- $--
=== === === === ===
Fair Value of Trading Contracts at March 31, 2007 In Millions
- ------------------------------------------------------------------------------
Maturity (in years)
----------------------------------
Total
Fair Less Greater
Source of Fair Value Value than 1 1 to 3 4 to 5 than 5
- -------------------- ----- ------ ------ ------ -------
Prices actively quoted $(40) $(20) $(20) $-- $--
Prices obtained from external
sources or based on models and
other valuation methods (28) (25) (3) -- --
---- ---- ---- --- ---
Total $(68) $(45) $(23) $-- $--
==== ==== ==== === ===
MARKET RISK INFORMATION: The following is an update of our risk sensitivities
since December 31, 2006. These sensitivities indicate the potential loss in fair
value, cash flows, or future earnings from our financial instruments, including
our derivative contracts, assuming a hypothetical adverse change in market rates
or prices of 10 percent. Changes in excess of the amounts shown in the
sensitivity analyses could occur if changes in market rates or prices exceed the
10 percent shift used for the analyses.
Interest Rate Risk Sensitivity Analysis (assuming an increase in market interest
rates of 10 percent):
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Variable-rate financing - before-tax annual
earnings exposure $ 2 $ 4
Fixed-rate financing - potential REDUCTION
in fair value (a) 181 193
(a) Fair value reduction could only be realized if we repurchased all of our
fixed-rate financing.
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CMS Energy Corporation
Commodity Price Risk Sensitivity Analysis (assuming an adverse change in market
prices of 10 percent):
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Potential REDUCTION in fair value:
Non-trading contracts
Fixed fuel price contracts (a) $-- $ 1
CMS ERM gas forward contracts 4 3
Trading contracts
Electricity-related option contracts 5 3
Electricity-related swaps 1 --
Gas-related option contracts 1 1
Gas-related swaps and futures 2 1
(a) In 2006, we entered into two contracts that fix the prices we pay for
gasoline and diesel fuel used in our fleet vehicles and equipment through
September 2007. These contracts are derivatives with an immaterial fair
value at March 31, 2007.
Investment Securities Price Risk Sensitivity Analysis (assuming an adverse
change in market prices of 10 percent):
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Potential REDUCTION in fair value of
available-for-sale equity securities
(primarily SERP investments): $6 $6
Consumers maintained trust funds, as required by the NRC, for the purpose of
funding certain costs of nuclear plant decommissioning through April 2007, the
date of the sale of Palisades. These funds were invested primarily in equity
securities, fixed-rate, fixed-income debt securities, and cash and cash
equivalents, and have been recorded at fair value on our Consolidated Balance
Sheets. These investments were exposed to price fluctuations in equity markets
and changes in interest rates. Because the accounting for nuclear plant
decommissioning recognized that costs were recovered through Consumers' electric
rates, fluctuations in equity prices or interest rates did not affect our
consolidated earnings or cash flows.
For additional details on market risk and derivative activities, see Note 6,
Financial and Derivative Instruments. For additional details on nuclear plant
decommissioning at Big Rock and Palisades, see the "Other Electric Utility
Business Uncertainties - Nuclear Matters" section included in this MD&A.
OTHER
Other accounting policies important to an understanding of our results of
operations and financial condition include:
- accounting for long-lived assets and equity method investments,
- accounting for the effects of industry regulation,
- accounting for pension and OPEB,
- accounting for asset retirement obligations, and
- accounting for nuclear decommissioning costs.
CMS-14
CMS Energy Corporation
These accounting policies were disclosed in our 2006 Form 10-K and there have
been no subsequent material changes.
CAPITAL RESOURCES AND LIQUIDITY
Factors affecting our liquidity and capital requirements are:
- results of operations,
- capital expenditures,
- energy commodity and transportation costs,
- contractual obligations,
- regulatory decisions,
- debt maturities,
- credit ratings,
- working capital needs, and
- collateral requirements.
During the summer months, we purchase natural gas and store it for resale
primarily during the winter heating season. Although our prudent natural gas
costs are recoverable from our customers, the amount paid for natural gas stored
as inventory requires additional liquidity due to the lag in cost recovery. We
have credit agreements with our commodity suppliers containing terms that can
result in margin calls. While we currently have no outstanding margin calls
associated with our natural gas purchases, they may be required if agency
ratings are lowered or if market conditions become unfavorable relative to our
obligations to those parties.
Our current financial plan includes controlling operating expenses and capital
expenditures, executing on asset sales and evaluating market conditions for
financing opportunities, if needed.
We believe the following items will be sufficient to meet our liquidity needs:
- our current level of cash and revolving credit facilities,
- our anticipated cash flows from operating and investing activities,
including asset sales, and
- our ability to access secured and unsecured borrowing capacity in the
capital markets, if necessary.
In the first quarter of 2007, Moody's and S&P affirmed CMS Energy's and
Consumers' credit ratings and revised the rating outlook to positive from
stable. Moody's also affirmed our liquidity rating. Additionally, Fitch Ratings
upgraded credit ratings on certain of our securities.
CASH POSITION, INVESTING, AND FINANCING
Our operating, investing, and financing activities meet consolidated cash needs.
At March 31, 2007, we had $642 million consolidated cash, which includes $65
million of restricted cash and $4 million from entities consolidated pursuant to
FIN 46(R).
Our primary ongoing source of cash is dividends and other distributions from our
subsidiaries. For the three months ended March 31, 2007, Consumers paid $94
million in common stock dividends to CMS Energy.
CMS-15
CMS Energy Corporation
SUMMARY OF CONSOLIDATED STATEMENTS OF CASH FLOWS:
In Millions
------------
Three months ended March 31 2007 2006
- --------------------------- ---- -----
Net cash provided by (used in):
Operating activities $315 $ 171
Investing activities 6 (36)
---- -----
Net cash provided by operating and investing activities 321 135
Financing activities (57) (225)
Effect of exchange rates on cash 1 1
---- -----
Net Increase (Decrease) in Cash and Cash Equivalents $265 $ (89)
==== =====
OPERATING ACTIVITIES: For the three months ended March 31, 2007, net cash
provided by operating activities was $315 million, an increase of $144 million
versus 2006. In addition to an increase in earnings at our electric and gas
utility segments, the increase in operating cash flow was mainly due to the
timing of accounts payable, increased usage of gas inventory in storage, and the
absence of the MCV Partnership gas supplier funds on deposit, partially offset
by the timing of accounts receivable. We experienced colder weather in the first
quarter of 2007 versus 2006. The timing of payments for increased natural gas
purchases to meet customer demand in the first quarter of 2007, coupled with the
absence of payments for higher priced gas made during the first quarter of 2006,
increased our operating cash flow. A mild winter in 2006 allowed us to
accumulate more gas in our underground storage facilities. The increased usage
of gas already in storage during the first quarter of 2007 also increased our
operating cash flow. These increases were reduced partially by the timing of our
collection of increased billings in the first quarter of 2007 due to recent
regulatory actions and weather-driven demand.
INVESTING ACTIVITIES: For the three months ended March 31, 2007, net cash
provided by investing activities was $6 million, an increase of $42 million
versus 2006. This was primarily due to a net increase in proceeds from asset
sales of $134 million and the result of a $75 million deposit from TAQA. These
increases were offset by a decrease in restricted cash released in 2007 versus
2006 of $109 million and an increase of $91 million in capital expenditures
primarily at our electric and gas utility segments.
FINANCING ACTIVITIES: For the three months ended March 31, 2007, net cash used
in financing activities was $57 million, a decrease of $168 million versus 2006.
This was primarily due to fewer debt retirements of $196 million. For additional
details on long-term debt activity, see Note 4, Financings and Capitalization.
Our cash flow statements include amounts related to discontinued operations
through the date of disposal. For additional details on discontinued operations,
see Note 2, Asset Sales, Discontinued Operations and Impairment Charges.
OBLIGATIONS AND COMMITMENTS
REVOLVING CREDIT FACILITIES: For details on our revolving credit facilities, see
Note 4, Financings and Capitalization.
DIVIDEND RESTRICTIONS: For details on dividend restrictions, see Note 4,
Financings and Capitalization.
OFF-BALANCE SHEET ARRANGEMENTS: CMS Energy and certain of its subsidiaries enter
into various arrangements in the normal course of business to facilitate
commercial transactions with third parties. These arrangements include
indemnifications, letters of credit, surety bonds, and financial and performance
guarantees.
CMS-16
CMS Energy Corporation
We enter into agreements containing indemnifications standard in the industry
and indemnifications specific to a transaction, such as the sale of a
subsidiary. Indemnifications are usually agreements to reimburse other companies
if those companies incur losses due to third-party claims or breach of contract
terms. Banks, on our behalf, issue letters of credit guaranteeing payment to a
third-party. Letters of credit substitute the bank's credit for ours and reduce
credit risk for the third-party beneficiary. We monitor these obligations and
believe it is unlikely that we would be required to perform or otherwise incur
any material losses associated with these guarantees.
In May 2007, we sold our ownership interests in businesses in the Middle East,
Africa, and India to TAQA. TAQA has assumed all obligations related to our
project-financing security agreements. For more details on the sale of our
ownership interests to TAQA, see Note 2, Asset Sales, Discontinued Operations
and Impairment Charges.
For additional details on these and other guarantee arrangements, see Note 3,
Contingencies, "Other Contingencies - FASB Interpretation No. 45, Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others."
SALE OF ACCOUNTS RECEIVABLE: Under a revolving accounts receivable sales
program, Consumers may sell up to $325 million of certain accounts receivable.
The highly liquid and efficient market for securitized financial assets provides
a lower cost source of funding compared to unsecured debt. For additional
details, see Note 4, Financings and Capitalization.
OUTLOOK
CORPORATE OUTLOOK
Our business strategy will focus on the successful completion of announced asset
sales, continued investment in our utility business, reducing parent debt, and
growing earnings while controlling operating costs.
Our primary focus with respect to our non-utility businesses is to optimize cash
flow and further reduce our business risk and leverage through the sale of
non-strategic assets. In 2007, we intend to exit the international marketplace.
We have sold, reached agreements to sell, or announced plans to sell our
ownership interests in businesses in the Middle East, Africa, India, and Latin
America. We plan to use the proceeds from the pending asset sales to invest in
our utility business and reduce parent company debt.
As a result of the reorganization at our utility business that we announced in
2006 and our planned exit from the international marketplace, we incurred
charges in the first quarter of 2007. Completion of our planned asset sales may
result in additional charges in 2007. We are unable to estimate the timing or
extent of these charges.
In January 2007, we reinstated a dividend on our common stock after a four-year
suspension at $0.05 per share. We paid $11 million in common stock dividends in
February 2007. On April 24, 2007, we declared a dividend of $0.05 per share on
our common stock payable May 31, 2007 to shareholders of record on May 10, 2007.
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ELECTRIC UTILITY BUSINESS OUTLOOK
GROWTH: In 2007, we expect electric deliveries to grow about one-half of one
percent compared to 2006 levels. The outlook for 2007 assumes a small decline in
industrial economic activity and normal weather conditions throughout the
remainder of the year.
Over the next five years, we expect electric deliveries to grow at an average
rate of 1.5 percent per year. This outlook assumes a modestly growing customer
base and a stabilizing Michigan economy after 2007. This growth rate includes
both full-service sales and delivery service to customers who choose to buy
generation service from an alternative electric supplier, but excludes
transactions with other wholesale market participants and other electric
utilities. This growth rate reflects a long-range expected trend of growth.
Growth from year to year may vary from this trend due to customer response to
the following:
- energy conservation measures,
- fluctuations in weather conditions, and
- changes in economic conditions, including utilization and expansion or
contraction of manufacturing facilities.
ELECTRIC CUSTOMER REVENUE OUTLOOK: Our electric utility customer base includes a
mix of residential, commercial, and diversified industrial customers. In 2006,
Michigan's automotive industry experienced manufacturing facility closures and
restructurings. Our electric utility results are not dependent upon a single
customer, or even a few customers, and customers in the automotive sector
represented five percent of our total 2006 electric revenue. We cannot predict
the impact of current or possible future restructuring plans or possible future
actions by our industrial customers.
ELECTRIC RESERVE MARGIN: We are planning for a reserve margin of approximately
11 percent for summer 2007, or supply resources equal to 111 percent of
projected firm summer peak load. Of the 2007 supply resources target of 111
percent, we expect 96 percent to come from our electric generating plants and
long-term power purchase contracts, and 15 percent to come from other
contractual arrangements. Our 15-year power purchase agreement with Entergy for
100 percent of the Palisades facility's current electric output will offset the
reduction in the owned capacity represented by the sale of the Palisades
facility in April 2007. We have purchased capacity and energy contracts covering
partially the estimated reserve margin requirements for 2007 through 2010. As a
result, we recognized an asset of $62 million for unexpired seasonal capacity
and energy contracts at March 31, 2007.
After September 15, 2007, we expect to exercise the regulatory out provision in
the MCV PPA, resulting in a reduction in the amount paid to the MCV Partnership
to equal the amount we are allowed to recover in the rate charged to customers.
If we are successful in exercising this provision, the MCV Partnership may,
under certain circumstances, have the right to terminate the MCV PPA, which
could affect our reserve margin status. The MCV PPA represents 13 percent of
our 2007 supply resources target.
ELECTRIC UTILITY PLANT OUTAGE: In September 2006, we removed from service unit
three of the J.H. Campbell electric generating plant, representing 765 MW of our
capacity. The scheduled outage was for installation of equipment necessary to
comply with environmental standards. We expected the unit to return to service
in March 2007. However, the outage extended to May 1, 2007 due to unanticipated
delays in construction due to labor shortages, the collapse of an outdoor crane
on unit three and problems with a major generator component that was refurbished
by the original equipment manufacturer. The MPSC allows for the recovery of
reasonable and prudent replacement power costs.
ELECTRIC TRANSMISSION EXPENSES: METC, which provides electric transmission
service to us, increased
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substantially the transmission rates it charged us in 2006. The revenue
collected by METC under those rates is subject to refund pending a FERC ruling.
In January 2007, the parties filed a settlement agreement with the FERC. This
settlement, if approved by the FERC, will result in a refund of 2006
transmission charges of $18 million and a corresponding reduction of our power
supply costs. For additional details on power supply costs, see Note 3,
Contingencies, "Consumers' Electric Utility Rate Matters - Power Supply Costs."
21ST CENTURY ELECTRIC ENERGY PLAN: In January 2007, the chairman of the MPSC
proposed three major policy initiatives to the governor of Michigan. The
initiatives involve the use of more renewable energy resources by all
load-serving entities such as Consumers, the creation of an energy efficiency
program, and a procedure for reviewing proposals to construct new generation
facilities. The January proposal indicated that Michigan needs new base-load
capacity by 2015 and recommends measures to make it easier to predict customer
demand and revenues. The proposed initiatives will require changes to current
legislation. We will continue to participate as the MPSC, legislature, and other
stakeholders address future electric resource needs.
BALANCED ENERGY INITIATIVE: In May 2007, we filed a "Balanced Energy Initiative"
with the MPSC providing a comprehensive energy resource plan to meet our
projected short-term and long-term electric power requirements. The plan is
responsive to the 21st Century Electric Energy Plan and assumes that Michigan
will implement a state-wide energy efficiency program and a renewable energy
portfolio standard. The filing requests the MPSC to rule that the Balanced
Energy Initiative represents a reasonable and prudent plan for the acquisition
of necessary electric utility resources.
As acknowledged in the 21st Century Electric Energy Plan, implementation of the
Balanced Energy Initiative will require legislative repeal or significant reform
of the Michigan customer choice law. In addition, we endorse the 21st Century
Electric Energy Plan recommendation to adopt a new, up-front certification
policy for major power plant investments. Our filing requests the MPSC to find
that the addition of 500 MW of gas-fired combined cycle generating capacity is
reasonable and prudent. This addition could be in the form of the construction
of a new gas-fired generating plant to begin service in 2011, or in the form of
a purchase of an existing gas-fired facility. The filing also recommends
construction of a new 750 MW clean coal generating facility on an existing
Consumers site to begin operation in 2015. Ownership of 250 MW of the total
capacity is assumed to be allocated to municipal entities or other interested
parties, resulting in 500 MW dedicated to us.
PROPOSED RENEWABLE ENERGY LEGISLATION: There are various bills introduced into
in the U.S. Congress and the Michigan legislature relating to mandatory
renewable energy standards. If enacted, these bills generally would require
electric utilities to acquire a certain percentage of their power from renewable
sources or otherwise pay fees or purchase allowances in lieu of having the
resources. We cannot predict whether any such bill will be enacted or in what
form.
ELECTRIC UTILITY BUSINESS UNCERTAINTIES
Several electric business trends or uncertainties may affect our financial
condition and future results of operations. These trends or uncertainties have,
or we reasonably expect could have, a material impact on revenues or income from
continuing electric operations.
Electric Environmental Estimates: Our operations are subject to environmental
laws and regulations. Costs to operate our facilities in compliance with these
laws and regulations generally have been recovered in customer rates.
Clean Air Act: Compliance with the federal Clean Air Act and resulting
regulations continues to be a significant focus for us. The Nitrogen Oxide State
Implementation Plan requires significant reductions in nitrogen oxide emissions.
To comply with the regulations, we expect to incur capital expenditures totaling
$835 million. These expenditures include installing selective catalytic
reduction control technology on
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four of our coal-fired electric generating units. The key assumptions in the
capital expenditure estimate include:
- construction commodity prices, especially construction material and
labor,
- project completion schedules,
- cost escalation factor used to estimate future years' costs, and
- an AFUDC capitalization rate.
Our current capital cost estimates include an escalation rate of 2.6 percent and
an AFUDC capitalization rate of 7.8 percent. From 1998 to present, we have
incurred $760 million in capital expenditures to comply with the federal Clean
Air Act and resulting regulations and anticipate that the remaining $75 million
of capital expenditures will be made in 2007 through 2011.
In addition to modifying coal-fired electric generating plants, our compliance
plan includes the use of nitrogen oxide emission allowances until all of the
control equipment is operational in 2011. The nitrogen oxide emission allowance
annual expense is projected to be $3 million per year, which we expect to
recover from our customers through the PSCR process. The projected annual
expense is based on market price forecasts and forecasts of regulatory
provisions, known as progressive flow control, that restrict the usage in any
given year of allowances banked from previous years. The allowances and their
cost are accounted for as inventory. The allowance inventory is expensed at the
rolling average cost as the electric generating plants emit nitrogen
oxide.
Clean Air Interstate Rule: In March 2005, the EPA adopted the Clean Air
Interstate Rule that requires additional coal-fired electric generating plant
emission controls for nitrogen oxides and sulfur dioxide. We plan to meet the
nitrogen oxide requirements of this rule by year-round operation of our
selective catalytic reduction control technology units, installation of low
nitrogen oxide burners, and purchasing emission allowances. We plan to meet the
sulfur dioxide requirements of this rule using sorbent injection, installation
of flue gas desulfurization scrubbers and purchasing emission allowances. Our
total cost for equipment installation is expected to reach approximately $700
million by 2015. Additional purchases of sulfur dioxide emission allowances in
2012 and 2013 will be needed for an estimated cost of $12 million per year,
which we expect to recover from our customers through the PSCR process.
Clean Air Mercury Rule: Also in March 2005, the EPA issued the Clean Air Mercury
Rule, which requires initial reductions of mercury emissions from coal-fired
electric generating plants by 2010 and further reductions by 2018. In April
2006, Michigan's governor announced a plan that would result in mercury
emissions reductions of 90 percent by 2015. We are currently working with the
MDEQ on the details of this rule; however, we have developed preliminary cost
estimates and a mercury emissions reduction plan based on our best knowledge of
control technology options and anticipated requirements. Our plan includes
expenditures of approximately $550 million for mercury control equipment and
continuous emissions monitoring systems through 2014.
The following table compares the federal Clean Air Mercury Rule to the proposed
state mercury rule:
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2010 2015 2018
-------------------- -------------------- --------------------
Clean Air 30% reduction by 70% reduction by
Mercury Rule 2010 with interstate 2018 with interstate
trading of trading of
allowances allowances
$4 million in $136 million in
capital capital plus $30
million annually in
allowance purchases
Proposed State 30% reduction by 90% reduction by
Mercury Rule 2010 without 2015 without
interstate trading interstate trading
of allowances of allowances
$4 million in $546 million in
capital capital
Greenhouse gases: Several legislative proposals have been introduced in the
United States Congress that would require reductions in emissions of greenhouse
gases, including carbon dioxide. On April 2, 2007, the U.S. Supreme Court ruled
that the Clean Air Act gives the EPA the authority to regulate emissions of
carbon dioxide and other greenhouse gases from automobiles. In its decision, the
court ordered the EPA to revisit its contention that it has the discretion not
to regulate greenhouse gas emissions from automobiles.
To the extent that greenhouse gas emission reduction rules come into effect, the
mandatory emissions reduction requirements could have far-reaching and
significant implications for the energy sector. We cannot estimate the effect of
federal or state greenhouse gas policy on our future consolidated results of
operations, cash flows, or financial position due to the uncertain nature of the
policies at this time. However, we will continue to monitor greenhouse gas
policy developments and assess and respond to their potential implications on
our business operations.
Water: In March 2004, the EPA issued rules that govern electric generating plant
cooling water intake systems. The rules require significant reduction in fish
killed by operating equipment. EPA compliance options in the rule were
challenged in court. In January 2007, the court rejected many of the compliance
options favored by industry and remanded the bulk of the rule back to the EPA
for reconsideration. The court's ruling is expected to increase significantly
the cost of complying with this rule. However, the cost to comply will not be
known until the EPA's reconsideration is complete. At this time, the EPA has not
established a schedule to address the court decision.
For additional details on electric environmental matters, see Note 3,
Contingencies, "Consumers' Electric Utility Contingencies - Electric
Environmental Matters."
Competition and Regulatory Restructuring: The Customer Choice Act allows all of
our electric customers to buy electric generation service from us or from an
alternative electric supplier. At March 31, 2007, alternative electric suppliers
were providing 283 MW of generation service to ROA customers. This is 3 percent
of our total distribution load and represents a decrease of 19 percent of ROA
load compared to March 31, 2006. In prior orders, the MPSC approved recovery of
Stranded Costs incurred from 2002 through 2003 through a surcharge applied to
ROA customers. If downward ROA trends continue, it may extend the time it takes
to recover fully our Stranded Costs. It is difficult to predict future ROA
customer trends, which affect our ability to recover timely our Stranded Costs.
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ELECTRIC RATE CASE: In March 2007, we filed an application with the MPSC seeking
an 11.25 percent authorized return on equity and an annual increase in revenues
of $157 million. The increase includes a $23 million base rate reduction, the
addition of a $13 million surcharge for the return on investments in Big Rock,
and the elimination of $167 million Palisades base rate recovery credit in the
PSCR. If approved as requested, the rate requests would go into effect in
January 2008 and would apply to all retail electric customers. We cannot predict
the amount or timing of any MPSC decision on the requests.
For additional details and material changes relating to the restructuring of the
electric utility industry and Consumers' Electric Utility Rate Matters, see Note
3, Contingencies, "Consumers' Electric Utility Rate Matters."
OTHER ELECTRIC UTILITY BUSINESS UNCERTAINTIES
THE MCV PARTNERSHIP: The MCV Partnership, which leases and operates the MCV
Facility, contracted to sell electricity to Consumers for a 35-year period
beginning in 1990.
Underrecoveries related to the MCV PPA: The cost that we incur under the MCV PPA
exceeds the recovery amount allowed by the MPSC. As a result, we estimate cash
underrecoveries of $39 million in 2007. However, we use the direct savings from
the RCP, after allocating a portion to customers, to offset a portion of our
capacity and fixed energy underrecoveries expense. After September 15, 2007, we
expect to claim relief under the regulatory out provision in the MCV PPA,
thereby limiting our capacity and fixed energy payments to the MCV Partnership
to the amounts that we collect from our customers. This action would eliminate
our underrecoveries of capacity and fixed energy payments.
The MCV Partnership has notified us that it takes issue with our intended
exercise of the regulatory out provision after September 15, 2007. We believe
that the provision is valid and fully effective, but cannot assure that it will
prevail in the event of a dispute. If we are successful in exercising the
regulatory out provision, the MCV Partnership may, under certain circumstances,
have the right to terminate or reduce the amount of capacity sold under the MCV
PPA. If the MCV Partnership terminates the MCV PPA or reduces the amount of
capacity sold under the MCV PPA, we would seek to replace the lost capacity to
maintain an adequate electric reserve margin. This could involve entering into a
new PPA and (or) entering into electric capacity contracts on the open market.
We cannot predict our ability to enter into such contracts at a reasonable
price. We are also unable to predict regulatory approval of the terms and
conditions of such contracts, or that the MPSC would allow full recovery of our
incurred costs.
To comply with a prior MPSC order, we made a filing in May 2007 with the MPSC,
which asked the MPSC to make a determination regarding whether it wished to
reconsider the amount of the MCV PPA payments that we recover from customers. We
are unable to predict the outcome of this request. For additional details on the
MCV Partnership, see Note 3, Contingencies, "Other Consumers' Electric Utility
Contingencies - The MCV PPA."
NUCLEAR MATTERS: Sale of Nuclear Assets: In April 2007, we sold Palisades to
Entergy for $380 million. The final purchase price was subject to various
closing adjustments resulting in us receiving $361 million. We also paid Entergy
$30 million to assume ownership and responsibility for the Big Rock ISFSI.
Because of the sale of Palisades, we will also pay the NMC, the former operator
of the Palisades plant, $7 million in exit fees and will forfeit our investment
in the NMC of $5 million.
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CMS Energy Corporation
The MPSC order approving the Palisades transaction allows us to recover the book
value of the Palisades plant. This will result in estimated excess proceeds of
$66 million being credited to our customers through refunds applied over the
remainder of 2007 and 2008. Final proceeds in excess of the book value are
subject to closing adjustments and review by the MPSC. The MPSC order deferred
ruling on the recovery of $30 million in estimated transaction costs, including
the NMC exit fees, and the $30 million payment to Entergy related to the Big
Rock ISFSI until the next general rate case.
Entergy will assume responsibility for the future decommissioning of the plant
and for storage and disposal of spent nuclear fuel located at the Palisades and
the Big Rock ISFSI sites. We transferred $252 million in trust fund assets to
Entergy. Estimated decommissioning funds of $189 million will be credited to our
retail customers through refunds applied over the remainder of 2007 and 2008.
Final disposition of these funds is subject to closing date balances and is
subject to review by the MPSC. The disposition of the remaining decommissioning
funds is subject to review by the MPSC.
As part of the transaction, Entergy will sell us 100 percent of the plant's
output up to its current annual average capacity of 798 MW under a 15-year power
purchase agreement. Because of the Palisades power purchase agreement, the
transaction is a lease for accounting purposes. Due to our continuing
involvement with the Palisades assets, we will account for the Palisades plant
as a financing for accounting purposes and not a sale. This will result in the
recognition of a finance obligation.
For additional details on the sale of Palisades and the Big Rock ISFSI, see Note
3, Contingencies, "Other Consumers' Electric Utility Contingencies - The Sale of
Nuclear Assets and the Palisades Power Purchase Agreement."
GAS UTILITY BUSINESS OUTLOOK
GROWTH: In 2007, we project gas deliveries will decline slightly, on a
weather-adjusted basis, from 2006 levels due to continuing conservation and
overall economic conditions in the state of Michigan. Over the next five years,
we expect gas deliveries to decline by less than one-half of one percent
annually. Actual gas deliveries in future periods may be affected by:
- fluctuations in weather conditions,
- use by independent power producers,
- competition in sales and delivery,
- changes in gas commodity prices,
- Michigan economic conditions,
- the price of competing energy sources or fuels,
- gas consumption per customer,
- improvements in gas appliance efficiency, and
- use of a Revenue Decoupling and Conservation Incentive mechanism.
GAS UTILITY BUSINESS UNCERTAINTIES
Several gas business trends or uncertainties may affect our future financial
results and financial condition. These trends or uncertainties could have a
material impact on future revenues or income from gas operations.
GAS ENVIRONMENTAL ESTIMATES: We expect to incur investigation and remedial
action costs at a number of sites, including 23 former manufactured gas plant
sites. For additional details, see Note 3, Contingencies, "Consumers' Gas
Utility Contingencies - Gas Environmental Matters."
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CMS Energy Corporation
GAS COST RECOVERY: The GCR process is designed to allow us to recover all of our
purchased natural gas costs if incurred under reasonable and prudent policies
and practices. The MPSC reviews these costs, policies, and practices for
prudency in annual plan and reconciliation proceedings. For additional details
on gas cost recovery, see Note 3, Contingencies, "Consumers' Gas Utility Rate
Matters - Gas Cost Recovery."
GAS DEPRECIATION: We are required to file our next gas depreciation case with
the MPSC within 90 days after the MPSC issuance of a final order in the pending
case related to ARO accounting. We cannot predict when the MPSC will issue a
final order in the ARO accounting case.
If a final order in our next gas depreciation case is not issued concurrently
with a final order in a general gas rate case, the MPSC may incorporate the
results of the depreciation case into general gas rates through use of a
surcharge mechanism (which may be either positive or negative).
2007 GAS RATE CASE: In February 2007, we filed an application with the MPSC
seeking an 11.25 percent authorized return on equity along with an $88 million
annual increase in our gas delivery and transportation rates, of which $17
million would be contributed to a low income energy efficiency fund. We have
proposed the use of a Revenue Decoupling and Conservation Incentive Mechanism
for residential and general service rate classes to help assure a reasonable
opportunity to recover costs regardless of sales levels.
ENTERPRISES OUTLOOK
Our primary focus with respect to our non-utility businesses is to optimize cash
flow and further reduce our business risk and leverage through the sale of
non-strategic assets. In 2007, we intend to complete the sale of several
Enterprises assets, including all of our businesses in Latin America, the Middle
East, North Africa and India.
In February 2007, we entered into an Agreement of Purchase and Sale with TAQA to
sell our ownership interest in businesses in the Middle East, Africa, and India
for $900 million. Businesses included in the sale are Taweelah, Shuweihat, Jorf
Lasfar, Jubail, Neyveli, and Takoradi and are subject to the receipt of all
necessary governmental, lender and partner approvals. We closed on the sale in
May 2007. After considering the effects of taxes, post-closing adjustments, and
closing costs, we anticipate a gain of approximately $50 million. The estimated
gain is also subject to a number of adjustments that will occur at or shortly
after closing.
In March 2007, we completed the sale of a portfolio of our businesses in
Argentina and our northern Michigan non-utility natural gas assets to Lucid
Energy for $130 million. We also sold our interest in El Chocon, an Argentine
hydroelectric generating business, to Endesa, S.A. for $50 million. Our interest
in El Chocon was originally part of the asset group that Lucid Energy agreed to
purchase; however, Endesa, S.A. had a right of first offer on our interest in El
Chocon that it exercised. We will maintain our interest in the TGN natural gas
business in Argentina, which remains subject to a potential sale to the
government of Argentina or some other disposition. In recognition of our
commitment to sell our 23.5 percent interest in TGN, in the first quarter of
2007 we recorded an after-tax impairment charge of $140 million, which consisted
of a reduction in the fair value of our TGN ownership interest of $12 million,
net of tax, and recognition of cumulative foreign currency translation losses of
$128 million, net of tax.
In April 2007, we entered into a purchase and sale agreement with Petroleos de
Venezuela, S.A., which is owned by the Bolivarian Republic of Venezuela, to sell
our ownership interest in SENECA and certain associated generating equipment for
$106 million. We closed on the sale in April 2007.
In April 2007, we entered into an agreement to sell CMS Energy Brasil S.A. for
$211 million to CPFL Energia S.A., a Brazilian utility. We expect to close on
the sale by the end of the second quarter of 2007, subject to approval by the
Brazilian national regulatory agency.
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CMS Energy Corporation
We anticipate gross proceeds from the sales of SENECA, CMS Energy Brasil S.A.
and our ownership interest in businesses in the Middle East, Africa, and India
to total approximately $1.217 billion. The book value of these assets at March
31, 2007 is approximately $932 million which includes a cumulative net foreign
currency translation loss of $63 million. The asset book values will vary
between March 31, 2007 and each transaction's closing date. Final book value is
dependent upon the timing of closing, results of operations for certain of the
assets up to closing, and other factors.
We also announced plans to conduct an auction to sell our GasAtacama combined
gas pipeline and power generation businesses in Argentina and Chile, and our
electric generating plant in Jamaica. We expect to complete the sale of these
businesses by the end of 2007.
For additional details, see Note 2, Asset Sales, Discontinued Operations and
Impairment Charges.
UNCERTAINTIES: Trends or uncertainties that could have a material impact on our
consolidated income, cash flows, or balance sheet and credit improvement
include:
- successful close of the sale of CMS Energy Brasil S.A.,
- the outcome of the planned sale of other generation and distribution
assets, including the following uncertainties which could affect the
value of certain of these businesses:
- changes in available gas supplies or Argentine government
regulations that could further restrict natural gas exports
to our GasAtacama electric generating plant,
- changes in exchange rates or in local economic or political
conditions, and
- changes in foreign taxes or laws or in governmental or
regulatory policies that could reduce significantly the
tariffs charged and revenues recognized by certain foreign
subsidiaries, or increase expenses,
- impact of indemnity and environmental remediation obligations at Bay
Harbor,
- changes in commodity prices and interest rates on certain derivative
contracts that do not qualify for hedge accounting and must be marked
to market through earnings, and
- impact of representations, warranties, and related indemnities in
connection with the sales of SENECA, Argentine assets to Lucid Energy,
CMS Energy Brasil S.A., and other pending sales if completed and
closed.
GASATACAMA: At March 31, 2007, the carrying value of our investment in
GasAtacama was $114 million. This remaining value continues to be exposed to the
threat of a complete gas restriction by Argentina and the inability of
GasAtacama to pass through the increased costs associated with such a
restriction to its regulated customers. Therefore, if conditions do not improve,
the result could be a further impairment of our investment in GasAtacama.
In February 2007, we announced plans to conduct an auction to sell GasAtacama.
We expect to complete the sale by the end of 2007. For additional details, see
Note 2, Asset Sales, Discontinued Operations and Impairment Charges.
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PRAIRIE STATE: In October 2006, we signed agreements with Peabody Energy to
co-develop the Prairie State Energy Campus (Prairie State), a 1,600 MW power
plant and coal mine in southern Illinois. In April 2007, we withdrew from
Prairie State because, at this time, it does not meet our investment criteria,
including the level of power purchase agreements for our share of output from
Prairie State.
OTHER OUTLOOK
RULES REGARDING BILLING PRACTICES: In December 2006, the MPSC issued proposed
rule changes to residential customer billing standards and practices. These
changes, if adopted, would provide additional protection to low-income customers
during the winter heating season that will be defined as November 1 through
March 31, extend the time between billing date and due date from 17 days to 22
days, and eliminate estimated metering readings unless actual readings are not
feasible. We are presently evaluating the impacts of these proposed rules and
are working with other Michigan utilities in providing comments to the MPSC
regarding the proposed rule changes.
LITIGATION AND REGULATORY INVESTIGATION: We are the subject of an investigation
by the DOJ regarding round-trip trading transactions by CMS MST. Also, we are
named as a party in various litigation matters including, but not limited to,
securities class action lawsuits and several lawsuits regarding alleged false
natural gas price reporting and price manipulation. Additionally, the SEC is
investigating the actions of former CMS Energy subsidiaries in relation to
Equatorial Guinea. For additional details regarding these and other matters, see
Note 3, Contingencies and Part II, Item 1. Legal Proceedings.
FIXED PRICE CONTRACTS: DIG and CMS ERM are parties to long-term requirements
contracts to provide steam and/or electricity based on a fixed price schedule.
The price of natural gas, the primary fuel used by DIG, is volatile and has
increased substantially in recent years. Because the prices charged under DIG's
contracts do not reflect current natural gas prices, DIG's and CMS ERM's
financial performance has been impacted negatively. However, since not all of
its capacity is committed under these contracts, DIG has been able to sell a
portion of its electric capacity and (or) energy on the market at a profit, or,
through CMS ERM, engage in a hedging strategy to minimize its losses. DIG and
CMS ERM may take various actions such as seeking restructuring of the contracts.
CMS Energy may also take other measures to address the unfavorable returns.
PENSION REFORM: In August 2006, the President signed into law the Pension
Protection Act of 2006. The bill reforms the funding rules for employer-provided
pension plans, effective for plan years beginning after 2007. As a result of
this bill, we expect to reduce our contributions to the Pension Plan over the
next 10 years by a present value amount of $56 million.
IMPLEMENTATION OF NEW ACCOUNTING STANDARDS
SFAS NO. 158, EMPLOYERS' ACCOUNTING FOR DEFINED BENEFIT PENSION AND OTHER
POSTRETIREMENT PLANS - AN AMENDMENT OF FASB STATEMENTS NO. 87, 88, 106, AND
132(R): In September 2006, the FASB issued SFAS No. 158. Phase one of this
standard required us to recognize the funded status of our defined benefit
postretirement plans on our Consolidated Balance Sheets at December 31, 2006.
Phase one was implemented in December 2006. Phase two of this standard requires
that we change our plan measurement date from November 30 to December 31,
effective December 31, 2008. We do not believe that implementation of phase two
of this standard will have a material effect on our consolidated financial
statements. We expect to adopt the measurement date provisions of SFAS No. 158
in 2008.
FIN 48, ACCOUNTING FOR UNCERTAINTY IN INCOME TAXES: We adopted the provisions of
FIN 48 on January 1, 2007. This interpretation provides a two-step approach for
the recognition and measurement of
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uncertain tax positions taken, or expected to be taken, by a company on its
income tax returns. The first step is to evaluate the tax position to determine
if, based on management's best judgment, it is greater than 50 percent likely
that we will sustain the tax position. The second step is to measure the
appropriate amount of the benefit to recognize. This is done by estimating the
potential outcomes and recognizing the greatest amount that has a cumulative
probability of at least 50 percent. FIN 48 requires interest and penalties, if
applicable, to be accrued on differences between tax positions recognized in our
consolidated financial statements and the amount claimed, or expected to be
claimed, on the tax return.
As a result of the implementation of FIN 48, we have identified additional
uncertain tax benefits of $11 million as of January 1, 2007. Included in this
amount is an increase in our valuation allowance of $100 million, decreases to
tax reserves of $61 million and a decrease to deferred tax liabilities of $28
million. In addition, our equity method investment, Jorf Lasfar, in which we
held a 50 percent interest, identified $26 million of uncertain tax benefits in
its adoption of FIN 48 for U.S. GAAP purposes. We have reflected our share of
this amount, $13 million, as a reduction to our beginning retained earnings
balance and in our investment in the subsidiary. Thus, our beginning retained
earnings was reduced by $24 million as a result of the adoption of FIN 48.
CMS Energy and its subsidiaries file a consolidated U.S. federal income tax
return as well as unitary and combined income tax returns in several states. CMS
Energy and its subsidiaries also file separate company income tax returns in
several states. The only significant state tax paid by CMS Energy is in
Michigan. However, since the Michigan Single Business Tax is not an income tax,
it is not part of the FIN 48 analysis. For the U.S. federal income tax return,
CMS Energy completed examinations by federal taxing authorities for its taxable
years prior to 2002. The federal income tax returns for the years 2002 through
2005 are open under the statute of limitations.
We have reflected a net interest liability of $3 million related to our
uncertain income tax positions on our Consolidated Balance Sheets as of January
1, 2007. We have not accrued any penalties with respect to uncertain tax
benefits. We recognize accrued interest and penalties, where applicable, related
to uncertain tax benefits as part of income tax expense.
As of the date of adoption of FIN 48, we had valuation allowances against
certain U.S. and foreign deferred tax assets totaling $216 million and other
uncertain tax positions of $31 million, resulting in total unrecognized benefits
of $247 million. Of this amount, $217 million would result in a decrease in our
effective tax rate, if recognized. We released $81 million of our valuation
allowance in the first quarter of 2007, due to the anticipated sales of our
foreign investments, as reflected in our effective tax rate reconciliation in
Note 8, Income Taxes. Therefore, remaining uncertain tax benefits that would
reduce our effective tax rate beyond this quarter are $136 million. As we
continue to market our foreign investments, it is reasonably possible that
additional valuation allowance adjustments could be made. We are not in a
position to estimate any additional adjustment at this date, other than to state
that we have no expectation of reversing any of the $86 million valuation
allowance attributable to the inflation indexing of our Venezuelan investment.
We are not expecting any other material changes to our uncertain tax positions.
NEW ACCOUNTING STANDARDS NOT YET EFFECTIVE
SFAS NO. 157, FAIR VALUE MEASUREMENTS: In September 2006, the FASB issued SFAS
No. 157, effective for us January 1, 2008. The standard provides a revised
definition of "fair value" and gives guidance on how to measure the fair value
of assets and liabilities. Under the standard, fair value is defined as the
price that would be received to sell an asset or paid to transfer a liability in
an orderly exchange between market participants. The standard does not expand
the use of fair value in any new circumstances. However, additional disclosures
will be required on the impact and reliability of fair value measurements
reflected in
CMS-27
CMS Energy Corporation
our consolidated financial statements. The standard will also eliminate the
existing prohibition of recognizing "day one" gains or losses on derivative
instruments, and will generally require such gains and losses to be recognized
through earnings. We are presently evaluating the impacts, if any, of
implementing SFAS No. 157. We currently do not hold any derivatives that would
involve day one gains or losses.
SFAS NO. 159, THE FAIR VALUE OPTION FOR FINANCIAL ASSETS AND FINANCIAL
LIABILITIES, INCLUDING AN AMENDMENT TO FASB STATEMENT NO. 115: In February 2007,
the FASB issued SFAS No. 159, effective for us January 1, 2008. This standard
will give us the option to select certain financial instruments and other items,
which otherwise are not required to be measured at fair value, and measure those
items at fair value. If we choose to elect the fair value option for an item, we
would recognize unrealized gains and losses associated with changes in the fair
value of the item over time. The statement will also require disclosures for
items for which the fair value option has been elected. We are presently
evaluating whether we will choose to elect the fair value option for any
financial instruments or other items.
CMS-28
CMS ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF INCOME (LOSS)
(UNAUDITED)
In Millions
------------------
THREE MONTHS ENDED MARCH 31 2007 2006
- --------------------------- ------- --------
OPERATING REVENUE $ 2,237 $ 1,937
EARNINGS FROM EQUITY METHOD INVESTEES 19 36
OPERATING EXPENSES
Fuel for electric generation 98 182
Fuel costs mark-to-market at the MCV Partnership -- 156
Purchased and interchange power 332 134
Cost of gas sold 1,045 946
Other operating expenses 264 266
Maintenance 62 74
Depreciation and amortization 161 158
General taxes 80 76
Asset impairment charges 242 --
------- -------
2,284 1,992
------- -------
OPERATING LOSS (28) (19)
OTHER INCOME (DEDUCTIONS)
Gain on asset sales, net 12 --
Interest and dividends 17 17
Regulatory return on capital expenditures 8 3
Other income 3 7
Other expense (3) (11)
------- -------
37 16
------- -------
FIXED CHARGES
Interest on long-term debt 101 116
Interest on long-term debt - related parties 3 4
Other interest 6 7
Capitalized interest (3) (2)
Preferred dividends of subsidiaries 1 1
------- -------
108 126
------- -------
LOSS BEFORE MINORITY INTERESTS (99) (129)
MINORITY INTERESTS (OBLIGATIONS), NET 2 (69)
------- -------
LOSS BEFORE INCOME TAXES (101) (60)
INCOME TAX BENEFIT (70) (28)
------- -------
LOSS FROM CONTINUING OPERATIONS (31) (32)
INCOME (LOSS) FROM DISCONTINUED OPERATIONS, NET OF TAX (TAX
BENEFIT) OF $(68) IN 2007 AND $1 IN 2006 (180) 8
------- -------
NET LOSS (211) (24)
PREFERRED DIVIDENDS 3 3
REDEMPTION PREMIUM ON PREFERRED STOCK 1 --
------- -------
NET LOSS AVAILABLE TO COMMON STOCKHOLDERS $ (215) $ (27)
======= =======
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
CMS-29
In Millions, Except
Per Share Amounts
-------------------
THREE MONTHS ENDED MARCH 31 2007 2006
- --------------------------- ------ ------
CMS ENERGY
NET LOSS
Net Loss Available to Common Stockholders $ (215) $ (27)
====== ======
BASIC EARNINGS (LOSS) PER AVERAGE COMMON SHARE
Loss from Continuing Operations $(0.16) $(0.16)
Gain (Loss) from Discontinued Operations (0.81) 0.04
------ ------
Net Loss Attributable to Common Stock $(0.97) $(0.12)
====== ======
DILUTED EARNINGS (LOSS) PER AVERAGE COMMON SHARE
Loss from Continuing Operations $(0.16) $(0.16)
Gain (Loss) from Discontinued Operations (0.81) 0.04
------ ------
Net Loss Attributable to Common Stock $(0.97) $(0.12)
====== ======
DIVIDENDS DECLARED PER COMMON SHARE $ 0.05 $ --
------ ------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
CMS-30
CMS ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
In Millions
-------------
THREE MONTHS ENDED MARCH 31 2007 2006
- --------------------------- ----- -----
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $(211) $ (24)
Adjustments to reconcile net loss to net cash
provided by operating activities
Depreciation and amortization (includes
nuclear decommissioning of $1 per period) 162 162
Deferred income taxes and investment tax credit (143) (29)
Minority interests (obligations), net (15) (68)
Asset impairment charges 242 --
Fuel costs mark-to-market at the MCV Partnership -- 156
Regulatory return on capital expenditures (8) (3)
Capital lease and other amortization 10 11
Loss on the sale of assets 267 --
Earnings from equity method investees (19) (36)
Cash distributions from equity method investees 13 21
Changes in other assets and liabilities:
Increase in accounts receivable and accrued
revenues (466) (176)
Decrease (increase) in accrued power supply and gas
revenue 27 (26)
Decrease in inventories 517 377
Decrease in accounts payable (2) (149)
Decrease in accrued taxes (50) (50)
Decrease in accrued expenses (52) (13)
Decrease in the MCV Partnership gas supplier funds
on deposit -- (90)
Decrease in other current and non-current assets 65 96
Increase (decrease) in other current and
non-current liabilities (22) 12
----- -----
Net cash provided by operating activities 315 171
----- -----
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures (excludes assets placed under capital
lease) (220) (129)
Cost to retire property (5) (19)
Restricted cash and restricted short-term investments 18 127
Investments in nuclear decommissioning trust funds (1) (17)
Proceeds from nuclear decommissioning trust funds 2 4
Maturity of the MCV Partnership restricted investment
securities held-to-maturity -- 28
Purchase of the MCV Parnership restricted investment
securities held-to-maturity -- (26)
Proceeds from sale of assets 180 --
Cash relinquished from sale of assets (46) --
Deposit on pending asset sale 75 --
Other investing 3 (4)
----- -----
Net cash provided by (used in) investing activities 6 (36)
----- -----
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from notes, bonds, and other long-term debt 15 13
Issuance of common stock 7 2
Retirement of bonds and other long-term debt (30) (226)
Redemption of preferred stock (32) --
Payment of common stock dividends (11) --
Payment of preferred stock dividends (3) (3)
Payment of capital lease and financial lease obligations (2) (3)
Debt issuance costs, financing fees, and other (1) (8)
----- -----
Net cash used in financing activities (57) (225)
----- -----
EFFECT OF EXCHANGE RATES ON CASH 1 1
----- -----
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 265 (89)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 351 847
----- -----
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 616 $ 758
===== =====
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
CMS-31
CMS ENERGY CORPORATION
CONSOLIDATED BALANCE SHEETS
In Millions
------------------------
MARCH 31
2007 DECEMBER 31
ASSETS (UNAUDITED) 2006
- ------ ----------- -----------
PLANT AND PROPERTY (AT COST)
Electric utility $ 8,583 $ 8,504
Gas utility 3,283 3,273
Enterprises 533 552
Other 31 31
------- -------
12,430 12,360
Less accumulated depreciation, depletion,
and amortization 5,286 5,233
------- -------
7,144 7,127
Construction work-in-progress 759 646
------- -------
7,903 7,773
------- -------
INVESTMENTS
Enterprises 510 588
Other 11 10
------- -------
521 598
------- -------
CURRENT ASSETS
Cash and cash equivalents at cost, which
approximates market 577 263
Restricted cash at cost, which approximates
market 65 71
Accounts receivable, notes receivable and accrued
revenue, less allowances of $22 and $29,
respectively 998 575
Accrued power supply and gas revenue 129 156
Accounts receivable and notes receivable -
related parties 74 63
Inventories at average cost
Gas in underground storage 619 1,129
Materials and supplies 93 87
Generating plant fuel stock 112 126
Assets held for sale 113 189
Price risk management assets 22 45
Regulatory assets - postretirement benefits 19 19
Deferred income taxes 151 155
Deferred property taxes 131 150
Prepayments and other 112 115
------- -------
3,215 3,143
------- -------
NON-CURRENT ASSETS
Regulatory Assets
Securitized costs 502 514
Postretirement benefits 1,111 1,131
Customer Choice Act 179 190
Other 506 497
Nuclear decommissioning trust funds 606 602
Assets held for sale 160 280
Price risk management assets 17 19
Goodwill 26 26
Notes receivable 138 137
Notes receivable - related parties 114 125
Other 279 336
------- -------
3,638 3,857
------- -------
TOTAL ASSETS $15,277 $15,371
======= =======
CMS-32
In Millions
------------------------
MARCH 31
2007 DECEMBER 31
STOCKHOLDERS' INVESTMENT AND LIABILITIES (UNAUDITED) 2006
- ---------------------------------------- ----------- -----------
CAPITALIZATION
Common stockholders' equity
Common stock, authorized 350.0 shares;
outstanding 224.2 shares and
222.8 shares, respectively $ 2 $ 2
Other paid-in capital 4,468 4,468
Accumulated other comprehensive loss (192) (318)
Retained deficit (2,168) (1,918)
-------- --------
2,110 2,234
Preferred stock of subsidiary 44 44
Preferred stock 250 261
Long-term debt 6,032 6,202
Long-term debt - related parties 178 178
Non-current portion of capital lease obligations 52 42
-------- --------
8,666 8,961
-------- --------
MINORITY INTERESTS 85 77
-------- --------
CURRENT LIABILITIES
Current portion of long-term debt and capital
leases 722 564
Notes payable 1 2
Accounts payable 494 499
Accrued rate refunds 5 37
Accounts payable - related parties 1 2
Accrued interest 105 126
Accrued taxes 295 312
Liabilities held for sale 65 101
Price risk management liabilities 49 70
Legal settlement liability 200 200
Other 247 243
-------- --------
2,184 2,156
-------- --------
NON-CURRENT LIABILITIES
Regulatory Liabilities
Regulatory liabilities for cost of removal 1,200 1,166
Income taxes, net 547 539
Other regulatory liabilities 240 249
Postretirement benefits 1,074 1,066
Deferred income taxes 107 111
Deferred investment tax credit 61 62
Asset retirement obligation 508 498
Liabilities held for sale 31 39
Price risk management liabilities 24 31
Argentine currency impairment reserve 197 --
Other 353 416
-------- --------
4,342 4,177
-------- --------
COMMITMENTS AND CONTINGENCIES (Notes 3, 4 and 6)
TOTAL STOCKHOLDERS' INVESTMENT AND LIABILITIES $ 15,277 $ 15,371
======== ========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
CMS-33
CMS ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF COMMON STOCKHOLDERS' EQUITY
(UNAUDITED)
In Millions
------------------------
THREE MONTHS ENDED MARCH 31 2007 2006
- --------------------------- ----------- -----------
COMMON STOCK
At beginning and end of period $ 2 $ 2
------- -------
OTHER PAID-IN CAPITAL
At beginning of period 4,468 4,436
Common stock issued 13 8
Common stock reissued 6 1
Redemption of preferred stock (19) --
------- -------
At end of period 4,468 4,445
------- -------
ACCUMULATED OTHER COMPREHENSIVE LOSS
Retirement Benefits Liability
At beginning and end of period (23) (19)
------- -------
Investments
At beginning of period 14 9
Unrealized gain on investments (a) -- 2
------- -------
At end of period 14 11
------- -------
Derivative Instruments
At beginning of period (12) 35
Unrealized loss on derivative instruments (a) (3) (4)
Reclassification adjustments included in net
loss (a) 1 (1)
------- -------
At end of period (14) 30
------- -------
Foreign Currency Translation
At beginning of period (297) (313)
Sale of Argentine assets (a) 128 --
Other foreign currency translations (a) -- 5
------- -------
At end of period (169) (308)
------- -------
Total Accumulated Other Comprehensive Loss (192) (286)
------- -------
RETAINED DEFICIT
At beginning of period (1,918) (1,828)
Adjustment to initially apply FIN 48 (24) --
Net loss (a) (211) (24)
Preferred stock dividends declared (3) (3)
Common stock dividends declared (11) --
Redemption of preferred stock (a) (1) --
------- -------
At end of period (2,168) (1,855)
------- -------
TOTAL COMMON STOCKHOLDERS' EQUITY $ 2,110 $ 2,306
======= =======
(a) DISCLOSURE OF COMPREHENSIVE LOSS:
Unrealized gain on investments, net of tax
of $- in 2007 and $1 in 2006 $ -- $ 2
Derivative Instruments
Unrealized loss on derivative
instruments, net of tax (tax benefit)
of $3 in 2007 and $(5) in 2006 (3) (4)
Reclassification adjustments included in
net loss, net of tax benefit
of $- in 2007 and $(1) in 2006 1 (1)
Sale of Argentine assets, net of tax of $68 128 --
Other foreign currency translations -- 5
Redemption of preferred stock, net of tax
benefit of $(1) in 2007 (1) --
Net loss (211) (24)
------- -------
Total Comprehensive Loss $ (86) $ (22)
======= =======
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
CMS-34
(PAGE INTENTIONALLY LEFT BLANK)
CMS-35
(PAGE INTENTIONALLY LEFT BLANK)
CMS-36
CMS Energy Corporation
CMS ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
These interim Consolidated Financial Statements have been prepared by CMS Energy
in accordance with accounting principles generally accepted in the United States
for interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. As such, certain information and footnote
disclosures normally included in consolidated financial statements prepared in
accordance with accounting principles generally accepted in the United States
have been condensed or omitted. Certain prior year amounts have been
reclassified to conform to the presentation in the current year, including
certain reclassifications to our Consolidated Financial Statements for
discontinued operations. Therefore, the consolidated financial statements for
the year ended December 31, 2006 have been updated for amounts previously
reported. In management's opinion, the unaudited information contained in this
report reflects all adjustments of a normal recurring nature necessary to assure
the fair presentation of financial position, results of operations and cash
flows for the periods presented. The Notes to Consolidated Financial Statements
and the related Consolidated Financial Statements should be read in conjunction
with the Consolidated Financial Statements and related Notes contained in CMS
Energy's Form 10-K for the year ended December 31, 2006. Due to the seasonal
nature of CMS Energy's operations, the results as presented for this interim
period are not necessarily indicative of results to be achieved for the fiscal
year.
1: CORPORATE STRUCTURE AND ACCOUNTING POLICIES
CORPORATE STRUCTURE: CMS Energy is an energy company operating primarily in
Michigan. We are the parent holding company of Consumers and Enterprises.
Consumers is a combination electric and gas utility company serving Michigan's
Lower Peninsula. Enterprises, through various subsidiaries and equity
investments, is engaged in domestic and international diversified energy
businesses including independent power production, electric distribution, and
natural gas transmission, storage and processing. We manage our businesses by
the nature of services each provides and operate principally in three business
segments: electric utility, gas utility, and enterprises.
PRINCIPLES OF CONSOLIDATION: The consolidated financial statements include CMS
Energy, Consumers, Enterprises, and all other entities in which we have a
controlling financial interest or are the primary beneficiary, in accordance
with FIN 46(R). We use the equity method of accounting for investments in
companies and partnerships that are not consolidated, where we have significant
influence over operations and financial policies, but are not the primary
beneficiary. We eliminate intercompany transactions and balances.
USE OF ESTIMATES: We prepare our consolidated financial statements in conformity
with U.S. GAAP. We are required to make estimates using assumptions that may
affect the reported amounts and disclosures. Actual results could differ from
those estimates.
We record estimated liabilities for contingencies in our consolidated financial
statements when it is probable that a loss will be incurred in the future as a
result of a current event, and when an amount can be reasonably estimated. For
additional details, see Note 3, Contingencies.
REVENUE RECOGNITION POLICY: We recognize revenues from deliveries of electricity
and natural gas,
CMS-37
CMS Energy Corporation
and the transportation, processing, and storage of natural gas when services are
provided. We record sales tax on a net basis and exclude it from revenues. We
recognize revenues on sales of marketed electricity, natural gas, and other
energy products at delivery. We recognize mark-to-market changes in the fair
values of energy trading contracts that qualify as derivatives as revenues in
the periods in which the changes occur.
INTERNATIONAL OPERATIONS AND FOREIGN CURRENCY: Our subsidiaries and affiliates
whose functional currency is not the U.S. dollar translate their assets and
liabilities into U.S. dollars at the exchange rates in effect at the end of the
fiscal period. We translate revenue and expense accounts of such subsidiaries
and affiliates into U.S. dollars at the average exchange rates that prevailed
during the period. We show these foreign currency translation adjustments in the
stockholders' equity section on our Consolidated Balance Sheets. We include
exchange rate fluctuations on transactions denominated in a currency other than
the functional currency, except those that are hedged, in determining net
income.
At March 31, 2007, the cumulative Foreign Currency Translation component of
stockholders' equity was $169 million, which primarily represents currency
losses in Argentina and Brazil. The cumulative foreign currency loss due to the
unfavorable exchange rate of the Argentine peso using an exchange rate of 3.102
pesos per U.S. dollar was $129 million, net of tax. The cumulative foreign
currency loss due to the unfavorable exchange rate of the Brazilian real using
an exchange rate of 2.04 reais per U.S. dollar was $41 million, net of tax.
IMPAIRMENT OF LONG-LIVED ASSETS AND EQUITY METHOD INVESTMENTS: We evaluate
potential impairments of our long-lived assets, other than goodwill, based on
various analyses, including the projection of undiscounted cash flows, whenever
events or changes in circumstances indicate that the carrying amount of the
assets may not be recoverable. If the carrying amount of the investment or asset
exceeds its estimated undiscounted future cash flows, we recognize an impairment
loss and write-down the investment or asset to its estimated fair value.
We also assess our ability to recover the carrying amounts of our equity method
investments whenever events or changes in circumstances indicate that the
carrying amount of the investments may not be recoverable. This assessment
requires us to determine the fair values of our equity method investments. We
determine fair value using valuation methodologies, including discounted cash
flows and the ability of the investee to sustain an earnings capacity that
justifies the carrying amount of the investment. We record a write down if the
fair value is less than the carrying value and the decline in value is
considered to be other than temporary.
For additional details, see Note 2, Asset Sales, Discontinued Operations and
Impairment Charges.
RECLASSIFICATIONS: We have reclassified certain prior year amounts for
comparative purposes. These reclassifications did not affect consolidated net
income (loss) for the periods presented. The most significant of these
reclassifications is related to certain subsidiaries reclassified as "held for
sale" on our Consolidated Balance Sheets and activities of those subsidiaries as
Income (Loss) From Discontinued Operations in our Consolidated Statements of
Income (Loss). For additional details, see Note 2, Asset Sales, Discontinued
Operations and Impairment Charges, "Discontinued Operations."
CMS-38
CMS Energy Corporation
NEW ACCOUNTING STANDARDS NOT YET EFFECTIVE: SFAS No. 157, Fair Value
Measurements: In September 2006, the FASB issued SFAS No. 157, effective for us
January 1, 2008. The standard provides a revised definition of "fair value" and
gives guidance on how to measure the fair value of assets and liabilities. Under
the standard, fair value is defined as the price that would be received to sell
an asset or paid to transfer a liability in an orderly exchange between market
participants. The standard does not expand the use of fair value in any new
circumstances. However, additional disclosures will be required on the impact
and reliability of fair value measurements reflected in our consolidated
financial statements. The standard will also eliminate the existing prohibition
of recognizing "day one" gains or losses on derivative instruments, and will
generally require such gains and losses to be recognized through earnings. We
are presently evaluating the impacts, if any, of implementing SFAS No. 157. We
currently do not hold any derivatives that would involve day one gains or
losses.
SFAS No. 159, The Fair Value Option for Financial Assets and Financial
Liabilities, Including an amendment to FASB Statement No. 115: In February 2007,
the FASB issued SFAS No. 159, effective for us January 1, 2008. This standard
will give us the option to select certain financial instruments and other items,
which otherwise are not required to be measured at fair value, and measure those
items at fair value. If we choose to elect the fair value option for an item, we
would recognize unrealized gains and losses associated with changes in the fair
value of the item over time. The statement will also require disclosures for
items for which the fair value option has been elected. We are presently
evaluating whether we will choose to elect the fair value option for any
financial instruments or other items.
2: ASSET SALES, DISCONTINUED OPERATIONS AND IMPAIRMENT CHARGES
ASSET SALES
In March 2007, we completed the sale of a portfolio of our businesses in
Argentina and our northern Michigan non-utility natural gas assets to Lucid
Energy for gross cash proceeds of $130 million. The Argentine assets sold
include our electric generating plant interests in Argentina and our interest in
the TGM natural gas transportation and pipeline business in Argentina. The
Michigan assets sold include the Antrim natural gas processing plant, 155 miles
of associated gathering lines, and interests in three special purpose gas
transmission pipelines that total 110 miles.
In connection with the sale of our Argentine and Michigan assets, we entered
into agreements that grant Lucid Energy:
- - an option to buy CMS Gas Transmission's ownership interest in TGN, subject
to the rights of other third parties,
- - the right to a portion of damages that may be awarded and received by CMS
Gas Transmission in connection with certain legal proceedings, and
- - the right to all of the proceeds that Enterprises will receive if it sells
its stock interest in CMS Generation San Nicolas Company.
Under these agreements, we have essentially sold our rights to certain awards or
proceeds that we may receive in the future. A portion of the consideration
received in the sale has been allocated to these agreements. We have recorded
$32 million as a deferred credit in Other Non-current Liabilities on our
Consolidated Balance Sheets.
In March 2007, we also sold our interest in El Chocon, an Argentine
hydroelectric generating business,
CMS-39
CMS Energy Corporation
to Endesa, S.A. for gross cash proceeds of $50 million.
The impacts of our asset sales are included in Gain on asset sales, net and
Income (Loss) from Discontinued Operations in our Consolidated Statements of
Income (Loss). There were no asset sales for the three months ended March 31,
2006.
For the three months ended March 31, 2007, we sold the following assets that did
not meet the definition of, and therefore were not reported as, discontinued
operations:
In Millions
- --------------------------------------------------------------------------------
Pretax After-tax
Gain Gain
Date sold Business/Project (Loss) (Loss)
- --------- ---------------- ------ ---------
March El Chocon $ 23 $15
March TGM and Bay Area Pipeline (a) (11) (7)
---- ---
Total gain on asset sales $ 12 $ 8
==== ===
(a) Included in the $130 million sale to Lucid Energy.
SUBSEQUENT ASSET SALES: In February 2007, we entered into an Agreement of
Purchase and Sale with TAQA to sell our ownership interest in businesses in the
Middle East, Africa, and India for $900 million. Businesses included in the sale
are Taweelah, Shuweihat, Jorf Lasfar, Jubail, Neyveli, and Takoradi. We closed
on the sale in May 2007. The book value of these assets at March 31, 2007 was
approximately $682 million. After considering the effects of taxes, post-closing
adjustments, and closing costs, we anticipate a gain of approximately $50
million. The estimated gain is also subject to a number of adjustments that will
occur at or shortly after closing.
In April 2007, we sold Palisades to Entergy for $380 million. The final purchase
price was subject to various closing adjustments resulting in us receiving $361
million. We also paid Entergy $30 million to assume ownership and responsibility
for the Big Rock ISFSI. We entered into a 15-year power purchase agreement with
Entergy for 100 percent of the plant's current electric output. For additional
details on sale of Palisades and the Big Rock ISFSI, see Note 3, Contingencies,
"Other Consumers' Electric Utility Contingencies - The Sale of Nuclear Assets
and the Palisades Power Purchase Agreement."
In April 2007, we entered into a purchase and sale agreement with Petroleos de
Venezuela, S.A., which is owned by the Bolivarian Republic of Venezuela, to sell
our ownership interest in SENECA and certain associated generating equipment for
$106 million. We closed on the sale in April 2007. The book value of these
assets at March 31, 2007 was approximately $55 million.
PENDING ASSET SALES: In April 2007, we entered into an agreement to sell CMS
Energy Brasil S.A. for $211 million to CPFL Energia S.A., a Brazilian utility.
We expect to close on the sale by the end of the second quarter of 2007, subject
to approval by the Brazilian national regulatory agency. The book value of these
assets at March 31, 2007 was approximately $195 million, which includes a
cumulative net foreign currency translation loss of $63 million.
We also announced plans to conduct an auction to sell our GasAtacama combined
gas pipeline and power generation businesses in Argentina and Chile, and our
electric generating plant in Jamaica. We expect to complete the sale of these
businesses by the end of 2007.
Our pending asset sales are subject to the receipt of all necessary
governmental, lender and partner approvals. We plan to use the proceeds from the
pending asset sales to invest in our utility business and reduce parent company
debt.
CMS-40
CMS Energy Corporation
The asset book values will vary between March 31, 2007 and each transaction's
closing date. Final book value is dependent upon the timing of closing, results
of operations for certain of the assets up to closing, and other factors.
DISCONTINUED OPERATIONS
Items classified as "held for sale" on our Consolidated Balance Sheets are
comprised of consolidated subsidiaries that meet the criteria of held for sale
under SFAS No. 144. At March 31, 2007, these subsidiaries include Takoradi,
SENECA, and certain associated holding companies. At December 31, 2006, these
subsidiaries include our Argentine businesses sold in March 2007, a majority of
our Michigan non-utility businesses sold in March 2007, Takoradi, SENECA, and
certain associated holding companies.
The major classes of assets and liabilities "held for sale" on our Consolidated
Balance Sheets are as follows:
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Assets
Cash $ 39 $ 88
Accounts receivable, net 60 80
Notes receivable 106 110
Property, plant and equipment, net 54 168
Other 14 23
---- ----
Total assets $273 $469
==== ====
Liabilities
Accounts payable $ 42 $ 66
Minority interest 12 14
Other 42 60
---- ----
Total liabilities $ 96 $140
==== ====
CMS Energy Brasil S.A., is a consolidated subsidiary that meets the criteria of
held for sale under SFAS No. 144 subsequent to March 31, 2007. As a result, the
major classes of assets and liabilities of CMS Energy Brasil S.A. will be
classified as "held for sale" on our Consolidated Balance Sheets in the second
quarter of 2007.
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CMS Energy Corporation
The major classes of assets and liabilities of CMS Energy Brasil S.A. at March
31, 2007 and at December 31, 2006 are as follows:
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Assets
Cash $ 21 $ 14
Accounts receivable, net 29 25
Goodwill 26 25
Investments 35 33
Property, plant and equipment, net 68 65
Other 30 19
---- ----
Total assets $209 $181
==== ====
Liabilities
Accounts payable $ 17 $ 16
Accrued taxes 13 10
Minority interest 27 25
Other 20 12
---- ----
Total liabilities $ 77 $ 63
==== ====
Our discontinued operations contain the activities of the subsidiaries
classified as "held for sale" as well as those disposed of during the quarter
and are a component of our Enterprises business segment. We reflect the
following amounts in the Income (Loss) From Discontinued Operations line in our
Consolidated Statements of Income (Loss):
In Millions
---------------
Three months ended March 31 2007 2006
- --------------------------- ----- ----
Revenues $ 75 $507
===== ====
Discontinued operations:
Pretax income (loss) from discontinued operations $(248) $ 9
Income tax expense (benefit) (68) 1
----- ----
Income (Loss) From Discontinued Operations $(180)(a) $ 8
===== ====
(a) Includes a loss on disposal of our Argentine and northern Michigan
non-utility assets of $278 million ($171 million after-tax and minority
interest).
Income (Loss) From Discontinued Operations includes a provision for anticipated
closing costs and a portion of CMS Energy's parent company interest expense.
Interest expense of $3 million for the three months ended March 31, 2007 and $3
million for the three months ended March 31, 2006 has been allocated based on
the net book value of the asset to be sold divided by CMS Energy's total
capitalization of each discontinued operation multiplied by CMS Energy's
interest expense.
IMPAIRMENT CHARGES
We record an asset impairment when we determine that the expected future cash
flows from an asset would be insufficient to provide for recovery of the asset's
carrying value. An asset held-in-use is evaluated for impairment by calculating
the undiscounted future cash flows expected to result from the use of the asset
and its eventual disposition. If the undiscounted future cash flows are less
than the carrying amount, we recognize an impairment loss. The impairment loss
recognized is the amount by
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CMS Energy Corporation
which the carrying amount exceeds the fair value. We estimate the fair market
value of the asset utilizing the best information available. This information
includes quoted market prices, market prices of similar assets, and discounted
future cash flow analyses. The assets written down include certain equity method
and other investments.
There were no asset impairments recorded for the three months ended March 31,
2006. The table below summarizes our asset impairments for the three months
ended March 31, 2007:
In Millions
------------------
Three months ended March 31, 2007 Pretax After-tax
- --------------------------------- ------ ---------
Asset impairments:
Enterprises:
TGN (a) $215 $140
Jamaica (b) 22 14
PowerSmith (c) 5 3
---- ----
Total asset impairments $242 $157
==== ====
(a) In the first quarter of 2007, we recorded an impairment charge to recognize
the reduction in fair value of our investment in TGN, a natural gas
business in Argentina. The impairment included a cumulative net foreign
currency translation loss of approximately $197 million. We will maintain
our interest in TGN, which remains subject to a potential sale to the
government of Argentina or some other disposition.
(b) In the first quarter of 2007, we recorded an impairment charge to reflect
the fair market value of our investment in an electric generating plant in
Jamaica.
(c) In March 2007, we recorded an impairment charge to reflect the fair value
of our investment in PowerSmith.
3: CONTINGENCIES
SEC AND DOJ INVESTIGATIONS: During the period of May 2000 through January 2002,
CMS MST engaged in simultaneous, prearranged commodity trading transactions in
which energy commodities were sold and repurchased at the same price. These so
called round-trip trades had no impact on previously reported consolidated net
income, earnings per share or cash flows, but had the effect of increasing
operating revenues and operating expenses by equal amounts.
CMS Energy is cooperating with an investigation by the DOJ concerning round-trip
trading, which the DOJ commenced in May 2002. CMS Energy is unable to predict
the outcome of this matter and what effect, if any, this investigation will have
on its business. In March 2004, the SEC approved a cease-and-desist order
settling an administrative action against CMS Energy related to round-trip
trading. The order did not assess a fine and CMS Energy neither admitted to nor
denied the order's findings. The settlement resolved the SEC investigation
involving CMS Energy and CMS MST. Also in March 2004, the SEC filed an action
against three former employees related to round-trip trading at CMS MST. One of
the individuals has settled with the SEC. CMS Energy is currently advancing
legal defense costs for the remaining two individuals in accordance with
existing indemnification policies. Those two individuals filed a motion to
dismiss the SEC action, which was denied.
SECURITIES CLASS ACTION LAWSUITS: Beginning in May 2002, a number of complaints
were filed against
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CMS Energy Corporation
CMS Energy, Consumers and certain officers and directors of CMS Energy and its
affiliates in the United States District Court for the Eastern District of
Michigan. The cases were consolidated into a single lawsuit (the "Shareholder
Action"), which generally seeks unspecified damages based on allegations that
the defendants violated United States securities laws and regulations by making
allegedly false and misleading statements about CMS Energy's business and
financial condition, particularly with respect to revenues and expenses recorded
in connection with round-trip trading by CMS MST. In January 2005, the court
granted a motion to dismiss Consumers and three of the individual defendants,
but denied the motions to dismiss CMS Energy and the 13 remaining individual
defendants. In March 2006, the court conditionally certified a class consisting
of "all persons who purchased CMS Common Stock during the period of October 25,
2000 through and including May 17, 2002 and who were damaged thereby." The court
excluded purchasers of CMS Energy's 8.75 percent Adjustable Convertible Trust
Securities ("ACTS") from the class and, in response, a new class action lawsuit
was filed on behalf of ACTS purchasers (the "ACTS Action") against the same
defendants named in the Shareholder Action. The settlement described in the
following paragraph, if approved, will resolve both the Shareholder and ACTS
Actions.
On January 3, 2007, CMS Energy and other parties entered into a Memorandum of
Understanding (the "MOU"), subject to court approval, regarding settlement of
the two class action lawsuits. The settlement was approved by a special
committee of independent directors and by the full board of directors of CMS
Energy. Both judged that it was in the best interests of shareholders to
eliminate this business uncertainty. The MOU is expected to lead to a detailed
stipulation of settlement that will be presented to the assigned federal judge
and the affected class in the second quarter of 2007. Under the terms of the
MOU, the litigation will be settled for a total of $200 million, including the
cost of administering the settlement and any attorney fees the court awards. CMS
Energy will make a payment of approximately $123 million plus an amount
equivalent to interest on the outstanding unpaid settlement balance beginning on
the date of preliminary approval of the court and running until the balance of
the settlement funds is paid into a settlement account. Out of the total
settlement, CMS Energy's insurers will pay approximately $77 million directly to
the settlement account. CMS Energy took an approximate $123 million net pre-tax
charge to 2006 earnings in the fourth quarter of 2006. In entering into the MOU,
CMS Energy makes no admission of liability under the Shareholder Action and the
ACTS Action. At March 31, 2007, we have a receivable of $77 million and a legal
settlement liability of $200 million recorded on our Consolidated Balance
Sheets.
GAS INDEX PRICE REPORTING INVESTIGATION: CMS Energy has notified appropriate
regulatory and governmental agencies that some employees at CMS MST and CMS
Field Services appeared to have provided inaccurate information regarding
natural gas trades to various energy industry publications, which compile and
report index prices. CMS Energy is cooperating with an investigation by the DOJ
regarding this matter. CMS Energy is unable to predict the outcome of the DOJ
investigation and what effect, if any, the investigation will have on its
business. The CFTC filed a civil injunctive action against two former CMS Field
Services employees in Oklahoma federal district court on February 1, 2005. The
action alleges the two engaged in reporting false natural gas trade information,
and seeks to enjoin these acts, compel compliance with the Commodities Exchange
Act, and impose monetary penalties. Trial dates have been held in abeyance
pending settlement discussions. CMS Energy is currently advancing legal defense
costs to the two individuals in accordance with existing indemnification
policies.
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CMS Energy Corporation
BAY HARBOR: As part of the development of Bay Harbor by certain subsidiaries of
CMS Energy, which went forward under an agreement with the MDEQ, third parties
constructed a golf course and a park over several abandoned CKD piles, left over
from the former cement plant operation on the Bay Harbor site. Pursuant to the
agreement with the MDEQ, a water collection system was constructed to recover
seep water from one of the CKD piles and CMS Energy built a treatment plant to
treat the seep water. In 2002, CMS Energy sold its interest in Bay Harbor, but
retained its obligations under previous environmental indemnifications entered
into at the inception of the project.
In September 2004, the MDEQ issued a notice of noncompliance after finding
high-pH seep water in Lake Michigan adjacent to the property. The MDEQ also
found higher than acceptable levels of heavy metals, including mercury, in the
seep water.
In February 2005, the EPA executed an AOC to address problems at Bay Harbor,
upon the consent of CMS Land Company (CMS Land) and CMS Capital, LLC, both
subsidiaries of CMS Energy. Pursuant to the AOC, the EPA approved a Removal
Action Work Plan in July 2005. Among other things, this plan calls for the
installation of collection trenches to intercept high-pH CKD leachate flow to
the lake. All collection systems contemplated in this work plan have been
installed. Shoreline effectiveness monitoring is ongoing, and CMS Land is
obligated to address any observed exceedances in pH. This may potentially
include the augmentation of the collection system. In May 2006, the EPA approved
a pilot carbon dioxide augmentation plan to augment the leachate recovery system
by improving pH results in the Pine Court area of the collection system. The
augmentation system was installed in June 2006.
In February 2006, CMS Land submitted to the EPA a proposed Remedial
Investigation and Feasibility Study for the East Park CKD pile. The EPA approved
a schedule for near-term activities, which includes consolidating certain CKD
materials and installing collection trenches in the East Park leachate release
area. In June 2006, the EPA approved an East Park CKD Removal Action Work Plan
and Final Engineering Design for Consolidation. CMS Energy and the MDEQ have
initiated negotiations of an AOC and to define a long-term remedy at East Park.
CMS Land has entered into various access, purchase and settlement agreements
with several of the affected landowners at Bay Harbor, and entered into a
confidential settlement with one landowner to resolve a lawsuit filed by that
landowner. CMS Land has purchased five unimproved lots and two lots with houses.
At this time, CMS Land believes it has all necessary access arrangements to
complete the remediation work required under the AOC.
CMS Energy recorded charges related to this matter in 2004, 2005, 2006 totaling
$93 million. At March 31, 2007, CMS Energy has a liability of $48 million for
its remaining obligations. We based the liability on 2006 discounted costs,
using a discount rate of 4.7 percent and an inflation rate of 1 percent on
annual operating and maintenance costs. We used the interest rate for 30-year
U.S. Treasury securities for the discount rate. The undiscounted amount of the
remaining obligation is $62 million. We expect to pay $18 million in 2007, $17
million in 2008, $3 million in 2009, and the remaining expenditures as part of
long-term operating and maintenance costs. Any significant change in
assumptions, such as an increase in the number of sites, different remediation
techniques, nature and extent of contamination, and legal and regulatory
requirements, could impact our estimate of remedial action costs and the timing
of the expenditures. An adverse outcome of this matter could, depending on the
size of any indemnification obligation or liability under environmental laws,
have a potentially significant adverse effect on CMS Energy's financial
condition and liquidity and could negatively impact CMS Energy's financial
results. CMS Energy cannot predict the ultimate cost or outcome of this matter.
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CMS Energy Corporation
CONSUMERS' ELECTRIC UTILITY CONTINGENCIES
ELECTRIC ENVIRONMENTAL MATTERS: Our operations are subject to environmental laws
and regulations. Costs to operate our facilities in compliance with these laws
and regulations generally have been recovered in customer rates.
Routine Maintenance Classification: The EPA has alleged that some utilities have
incorrectly classified plant modifications as "routine maintenance" rather than
seeking permits to modify the plant from the EPA. We have received and responded
to information requests from the EPA on this subject. We believe that we have
properly interpreted the requirements of "routine maintenance." If our
interpretation is found to be incorrect, we may be required to install
additional pollution controls at some or all of our coal-fired electric
generating plants and potentially pay fines. Additionally, the viability of
certain plants remaining in operation could be called into question.
Cleanup and Solid Waste: Under the Michigan Natural Resources and Environmental
Protection Act, we expect that we will ultimately incur investigation and
remedial action costs at a number of sites. We believe that these costs will be
recoverable in rates under current ratemaking policies.
We are a potentially responsible party at several contaminated sites
administered under the Superfund. Superfund liability is joint and several,
meaning that many other creditworthy parties with substantial assets are
potentially responsible with respect to the individual sites. Based on our
experience, we estimate that our share of the total liability for the known
Superfund sites will be between $1 million and $10 million. At March 31, 2007,
we have recorded a liability for the minimum amount of our estimated probable
Superfund liability in accordance with FIN 14. The timing of payments related to
the remediation of our Superfund sites is uncertain. Any significant change in
assumptions, such as different remediation techniques, nature and extent of
contamination, and legal and regulatory requirements, could affect our estimate
of remedial action costs and the timing of our remediation payments.
Ludington PCB: In October 1998, during routine maintenance activities, we
identified PCB as a component in certain paint, grout, and sealant materials at
Ludington. We removed and replaced part of the PCB material. Since proposing a
plan to deal with the remaining materials, we have had several conversations
with the EPA. The EPA has proposed a rule which would authorize continued use of
such material in place, subject to certain restrictions. We are not able to
predict when a final rule will be issued.
Electric Utility Plant Air Permit Issues: In April 2007, we received a Notice of
Violation/Finding of Violation from the EPA alleging that fourteen of our
utility boilers exceeded visible emission limits in their associated air
permits. The utility boilers are located at the D.E. Karn/J.C. Weadock
Generating Complex, the J.H. Campbell Plant, the BC Cobb Electric Generating
Station and the JR Whiting Plant. We are preparing for discussions with the EPA
regarding these allegations, but cannot predict the financial impact or outcome
of this issue.
LITIGATION: In 2003, a group of eight PURPA qualifying facilities (the
plaintiffs), which sell power to us, filed a lawsuit in Ingham County Circuit
Court. The lawsuit alleged that we incorrectly calculated the energy charge
payments made pursuant to power purchase agreements with qualifying facilities.
The judge deferred to the primary jurisdiction of the MPSC, dismissing the
circuit court case without prejudice. In February 2005, the MPSC issued an order
in the 2004 PSCR plan case concluding that we have been correctly administering
the energy charge calculation methodology. The plaintiffs have appealed the MPSC
order to the Michigan Court of Appeals. The plaintiffs also filed suit in the
United
CMS-46
CMS Energy Corporation
States Court for the Western District of Michigan, which the judge subsequently
dismissed on the basis that the pending state court litigation would fully
resolve any federal issue before the courts. The plaintiffs then appealed the
dismissal to the United States Court of Appeals, which held that the district
court matter should be stayed rather than dismissed, pending the outcome of the
state appeal. We cannot predict the outcome of these appeals.
CONSUMERS' ELECTRIC UTILITY RATE MATTERS
ELECTRIC ROA: In prior orders, the MPSC approved recovery of Stranded Costs
incurred from 2002 through 2003 plus the cost of money through the period of
collection. At March 31, 2007, we had a regulatory asset for Stranded Costs of
$66 million on our Consolidated Balance Sheets. We collect Stranded Costs
through a surcharge on ROA customers. At March 31, 2007, alternative electric
suppliers were providing 283 MW of generation service to ROA customers, which
represent a decrease of 19 percent of ROA load compared to March 31, 2006. This
downward trend has affected negatively our ability to recover timely our
Stranded Costs. If downward ROA trends continue, it may require legislative or
regulatory assistance to recover fully our Stranded Costs. However, the Customer
Choice Act allows electric utilities to recover their net Stranded Costs. It is
difficult to predict future ROA customer trends and their effect on the timely
recovery of Stranded Costs.
POWER SUPPLY COSTS: To reduce the risk of high power supply costs during peak
demand periods and to achieve our reserve margin target, we purchase electric
capacity and energy contracts for the physical delivery of electricity primarily
in the summer months and to a lesser degree in the winter months. We have
purchased capacity and energy contracts covering partially the estimated reserve
margin requirements for 2007 through 2010. As a result, we have an asset of $62
million for unexpired seasonal capacity and energy contracts at March 31, 2007.
As of March 31, 2007, we expect capacity costs for these primarily seasonal
electric capacity and energy contracts to be $14 million for 2007.
PSCR: The PSCR process allows recovery of reasonable and prudent power supply
costs. The MPSC reviews these costs for reasonableness and prudency in annual
plan proceedings and in plan reconciliation proceedings. The following table
summarizes our PSCR reconciliation filings with the MPSC:
Power Supply Cost Recovery Reconciliation
PSCR Cost
Net Under- of Power Description of Net
PSCR Year Date Filed Order Date recovery Sold Underrecovery
- --------- ---------- ---------- ------------ -------------- ------------------------
2005 March 2006 Pending $39 million $1.086 billion Underrecovery relates to
Reconciliation our commercial and
industrial customers and
includes the cost of
money.
2006 March 2007 Pending $115 million $1.492 billion Underrecovery relates to
Reconciliation our increased METC costs
and coal supply costs,
increased bundled sales,
and other cost increases
beyond those included in
the 2006 PSCR plan
filings.
2007 PSCR Plan: In September 2006, we filed our 2007 PSCR plan with the MPSC.
The plan sought
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CMS Energy Corporation
authorization to incorporate our 2005 and 2006 PSCR underrecoveries into our
2007 PSCR monthly factor. In December 2006, the MPSC issued a temporary order
allowing us to implement our 2007 PSCR monthly factor on January 1, 2007, as
filed. The order also allowed us to continue to roll in prior year
underrecoveries and overrecoveries in future PSCR plans.
Underrecoveries in power supply costs are included in Accrued power supply and
gas revenue on our Consolidated Balance Sheets. We expect to recover fully all
of our PSCR costs. When we are unable to collect these costs as they are
incurred, there is a negative impact on our cash flows from electric utility
operations. We cannot predict the outcome of these proceedings.
ELECTRIC RATE CASE: In March 2007, we filed an application with the MPSC seeking
an 11.25 percent authorized return on equity and an annual increase in revenues
of $157 million as shown in the following table:
In Millions
-----------
Components of the increase in revenue
Reduction in base rates (a) $(23)
Surcharge for return on nuclear investments (b) 13
Elimination of Palisades base rate recovery credit (c) 167
----
Total increase in revenues $157
====
(a) The reduction in base rates is due to the removal of Palisades related
costs offset by Clean Air Act related and other utility expenditures,
changes in the capital structure, and increased distribution system
operation and maintenance costs including employee pension and health care
costs.
(b) The nuclear surcharge is a proposal to earn a return on funds spent on Big
Rock spent nuclear fuel storage, decommissioning, and site restoration
expenditures until pending DOE litigation and future MPSC proceedings
regarding this issue are concluded.
(c) Palisades power purchase agreement costs are currently offset through
feedback in the PSCR related to Palisades base rate revenues via a base
rate recovery credit. The Palisades base rate recovery credit will be
discontinued once Palisades' costs are removed from base rates.
If approved as requested, the rate requests would go into effect in January 2008
and would apply to all retail electric customers. We cannot predict the amount
or timing of any MPSC decision on the requests.
OTHER CONSUMERS' ELECTRIC UTILITY CONTINGENCIES
THE MCV PPA: The MCV Partnership, which leases and operates the MCV Facility,
contracted to sell 1,240 MW of electricity to Consumers under a 35-year power
purchase agreement beginning in 1990. We estimate that capacity and energy
payments under the MCV PPA will be $620 million per year. The MCV PPA and the
associated customer rates are unaffected by the November 2006 sale of our
interest in the MCV Partnership.
Underrecoveries related to the MCV PPA: The cost that we incur under the MCV PPA
exceeds the recovery amount allowed by the MPSC. We estimate cash
underrecoveries of our capacity and fixed energy payments of $39 million in 2007
of which we have expensed $13 million during the three months ended March 31,
2007. However, we use savings from the RCP, after allocating a portion to
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CMS Energy Corporation
customers, to offset a portion of our capacity and fixed energy underrecoveries
expense.
RCP: In January 2005, we implemented the MPSC-approved RCP with modifications.
The RCP allows us to recover the same amount of capacity and fixed energy
charges from customers as approved in prior MPSC orders. However, we are able to
dispatch the MCV Facility based on natural gas market prices. This results in
fuel cost savings for the MCV Facility, which the MCV Partnership shares with
us. The RCP also requires us to contribute $5 million annually to a renewable
resources program. As of March 2007, we have contributed $12 million to the
renewable resources program. The underlying RCP agreement between Consumers and
the MCV Partnership extends through the term of the MCV PPA. However, either
party may terminate that agreement under certain conditions. In January 2007,
the Michigan Attorney General filed an appeal with the Michigan Supreme Court
regarding the MPSC's order approving the RCP. We cannot predict the outcome of
this matter.
Regulatory Out Provision in the MCV PPA: After September 15, 2007, we expect to
claim relief under the regulatory out provision in the MCV PPA, thereby limiting
our capacity and fixed energy payments to the MCV Partnership to the amounts
that we collect from our customers. The MCV Partnership has notified us that it
takes issue with our intended exercise of the regulatory out provision. We
believe that the provision is valid and fully effective, but cannot assure that
it will prevail in the event of a dispute. If we are successful in exercising
the regulatory out provision, the MCV Partnership may, under certain
circumstances, have the right to terminate or reduce the amount of capacity sold
under the MCV PPA from 1,240 MW to 806 MW, which could affect our reserve
margin. We anticipate that the MPSC will review our exercise of the regulatory
out provision and the likely consequences of such action in 2007. It is possible
that in the event that the MCV Partnership ceases performance under the MCV PPA,
prior orders could limit recovery of replacement power costs to the amounts that
the MPSC authorized for recovery under the MCV PPA. Depending on the cost of
replacement power, this could result in our costs exceeding the recovery amount
allowed by the MPSC. We cannot predict the outcome of these matters.
To comply with a prior MPSC order, we made a filing in May 2007 with the MPSC,
which asked the MPSC to make a determination regarding whether it wished to
reconsider the amount of the MCV PPA payments that we recover from customers. We
are unable to predict the outcome of this request.
THE SALE OF NUCLEAR ASSETS AND THE PALISADES POWER PURCHASE AGREEMENT: Sale of
Nuclear Assets: In April 2007, we sold Palisades to Entergy for $380 million.
The final purchase price was subject to various closing adjustments such as
working capital and capital expenditure adjustments and nuclear fuel usage and
inventory adjustments resulting in us receiving $361 million. We also paid
Entergy $30 million to assume ownership and responsibility for the Big Rock
ISFSI. Because of the sale of Palisades, we will also pay the NMC, the former
operator of the Palisades plant, $7 million in exit fees and will forfeit our
investment in the NMC of $5 million.
Entergy will assume responsibility for the future decommissioning of the
Palisades plant and for storage and disposal of spent nuclear fuel located at
the Palisades and the Big Rock ISFSI sites. At closing, we transferred $252
million in decommissioning trust fund balances to Entergy.
The MPSC order approving the Palisades transaction allows us to recover the
estimated $314 million book value of the Palisades plant. As a result, we
estimate that we will credit excess proceeds of $66 million to our retail
customers through refunds applied over the remainder of 2007 and 2008. The MPSC
order deferred ruling on the recovery of $30 million in estimated transaction
costs, including the NMC exit fees, and the $30 million payment to Entergy
related to the Big Rock ISFSI until the next general rate case. We will defer
these costs as a regulatory asset on our Consolidated Balance Sheets as recovery
is probable.
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CMS Energy Corporation
In April 2007, the NRC, through its staff, issued an order approving the
transfer of the Palisades operating license. Subsequently, in April 2007, the
NRC issued an order requiring that certain intervenors be given, under a
protective order, information related to the buyer's financial capability. If,
after the review of the information, the intervenors wished to seek additional
proceedings on the license transfer, the NRC would consider the request. The NRC
did not alter or stay the prior order approving the license transfer. We believe
that it is unlikely that the NRC will conduct further proceedings, but we cannot
predict the outcome of the matter. These events did not hold up the closing of
the sale of Palisades.
The following table summarizes the estimated impacts of the Palisades and the
Big Rock ISFSI transactions:
In Millions
- -----------------------------------------------------------------------------------
Customer Benefits (a) Deferred costs
- --------------------- --------------
Purchase price $380 NMC exit fee $ 7
Less: Estimated book value of
Palisades plant 314 Forfeiture of the NMC investment 5
----
Excess proceeds to be refunded to
customers 66 (b) Estimated selling expenses 18
Big Rock ISFSI operation and
maintenance fee to
Excess decommissioning trust
funds to be refunded to
customers 189 (c) Entergy 30
---- ---
Total estimated customer
refunds $255 Total regulatory asset $60
==== ===
(a) In the FERC's February 2007 order regarding the Palisades transaction, the
FERC granted our request to apply $11 million in FERC decommissioning trust
fund balances for the Palisades plant toward the Big Rock decommissioning
shortfall, as described in "Big Rock Nuclear Plant Decommissioning" within
this section. The order was contingent upon the NRC approving the transfer
of operating licenses, which the NRC approved in April 2007. This
determination is the subject of a clarification request filed by a
wholesale customer with the FERC.
(b) Final proceeds in excess of the book value are subject to closing
adjustments and review by the MPSC.
(c) In the MPSC's March 2007 order approving the Palisades transaction, the
MPSC indicated that $189 million of MPSC jurisdictional decommissioning
funds must be credited to our retail customers through refunds applied over
the remainder of 2007 and 2008. Final disposition of these funds is subject
to closing date balances and is subject to review by the MPSC. The
remaining estimated $116 million of the MPSC jurisdictional decommissioning
funds, which is subject to closing date reconciliation will be used to
benefit our retail customers and is expected to be addressed in a separate
filing made with the MPSC.
Palisades Power Purchase Agreement: Entergy contracted to sell us 100 percent of
the plant's output up to its current annual average capacity of 798 MW under a
15-year power purchase agreement beginning in April 2007. We provided $30
million in security to Entergy for our power purchase agreement obligation in
the form of a letter of credit. We estimate that capacity and energy payments
under the Palisades power purchase agreement will be $300 million per year.
Because of the Palisades power purchase agreement, the transaction is a sale and
leaseback for accounting purposes. SFAS No. 98 specifies the accounting required
for a seller's sale and simultaneous leaseback involving real estate. We will
have continuing involvement with the Palisades plant through security provided
to Entergy for our power purchase agreement obligation, our DOE liability, and
other forms of involvement. As a result, we will account for the Palisades
plant, which is
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CMS Energy Corporation
the real estate asset subject to the leaseback, as a financing for accounting
purposes and not a sale. We will account for the remaining non-real estate
assets and liabilities associated with the transaction as a sale.
As a financing, the Palisades plant will remain on our Consolidated Balance
Sheets and the related proceeds will be recorded as a financing obligation. The
value of the finance obligation is based on an allocation of the transaction
proceeds to the fair values of the net assets sold and fair value of the
Palisades plant assets under the financing.
BIG ROCK NUCLEAR PLANT DECOMMISSIONING: The MPSC and the FERC regulate the
recovery of costs to decommission the Big Rock nuclear plant. In December 2000,
funding of the Big Rock trust fund stopped because the MPSC-authorized
decommissioning surcharge collection period expired. In a March 2007 report to
the MPSC, we indicated that we have managed the decommissioning trust fund to
meet the annual NRC financial assurance requirements by withdrawing NRC
radiological decommissioning costs from the trust fund and initially funding
non-NRC greenfield costs out of corporate funds. In March 2006, we contributed
corporate funds of $16 million to the trust fund to support the NRC radiological
decommissioning costs. Excluding the additional nuclear fuel storage costs due
to the DOE's failure to accept spent nuclear fuel on schedule, we are projecting
the level of funds provided by the trust will fall short of the amount needed to
complete decommissioning by an additional $36 million. This total of $52
million, which are costs associated with NRC radiological and non-NRC greenfield
decommissioning work, are being funded out of corporate funds. We plan to seek
recovery of expenditures that we have funded in future filings with the MPSC and
have a $36 million regulatory asset recorded on our Consolidated Balance Sheets
as of March 31, 2007.
Cost projections for Big Rock indicate a decommissioning cost of $389 million as
of March 2007, of which we have incurred $387 million. These amounts exclude the
additional costs for spent nuclear fuel storage due to the DOE's failure to
accept this spent nuclear fuel on schedule. They also exclude post September 11
increased security costs that we are recovering through the security cost
recovery provisions of Public Act 609 of 2002. These activities had no material
impact on consolidated net income. Any remaining Big Rock decommissioning costs
will initially be funded out of corporate funds.
NUCLEAR MATTERS: Nuclear Fuel Cost: We amortized nuclear fuel cost to fuel
expense based on the quantity of heat produced for electric generation. For
nuclear fuel used after April 6, 1983, we charged certain disposal costs to
nuclear fuel expense, recovered these costs through electric rates, and remitted
them to the DOE quarterly. We elected to defer payment for disposal of spent
nuclear fuel burned before April 7, 1983. Our DOE liability is $154 million at
March 31, 2007. This amount includes interest, which is payable upon the first
delivery of spent nuclear fuel to the DOE. We have recovered, through electric
rates, the amount of this liability, excluding a portion of interest. In
conjunction with the sale of Palisades and the Big Rock ISFSI, we retained this
obligation and provided $155 million in security to Entergy for this obligation
in the form of a letter of credit.
DOE Litigation: In 1997, a U.S. Court of Appeals decision confirmed that the DOE
was to begin accepting deliveries of spent nuclear fuel for disposal by January
1998. Subsequent U.S. Court of Appeals litigation, in which we and other
utilities participated, has not been successful in producing more specific
relief for the DOE's failure to accept the spent nuclear fuel.
There are two court decisions that support the right of utilities to pursue
damage claims in the United States Court of Claims against the DOE for failure
to take delivery of spent nuclear fuel. Over 60 utilities have initiated
litigation in the United States Court of Claims. We filed our complaint in
December 2002. If our litigation against the DOE is successful, we plan to use
any recoveries as reimbursement for the incurred costs of spent nuclear fuel
storage during our ownership of Palisades
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CMS Energy Corporation
and Big Rock. We can make no assurance that the litigation against the DOE will
be successful. The sale of Palisades and the Big Rock ISFSI did not transfer the
right to any recoveries from the DOE related to costs of spent nuclear fuel
storage incurred during our ownership of Palisades and Big Rock.
In 2002, the site at Yucca Mountain, Nevada was designated for the development
of a repository for the disposal of high-level radioactive waste and spent
nuclear fuel. We expect that the DOE, in due course, will submit a final license
application to the NRC for the repository. The application and review process is
estimated to take several years.
Insurance: We maintained nuclear insurance coverage on our nuclear plants until
Palisades and the Big Rock ISFSI were sold in April 2007. At Palisades, we
maintained nuclear property insurance from NEIL totaling $2.750 billion and
insurance that would partially cover the cost of replacement power during
certain prolonged accidental outages. Because NEIL is a mutual insurance
company, we could be subject to assessments of up to $30 million in any policy
year if insured losses in excess of NEIL's maximum policyholders surplus occur
at our, or any other member's, nuclear facility. NEIL's policies include
coverage for acts of terrorism.
At Palisades, we maintained nuclear liability insurance for third-party bodily
injury and off-site property damage resulting from a nuclear energy hazard for
up to approximately $10.761 billion, the maximum insurance liability limits
established by the Price-Anderson Act. Part of the Price-Anderson Act's
financial protection is a mandatory industry-wide program under which owners of
nuclear generating facilities could be assessed if a nuclear incident occurs at
any nuclear generating facility. The maximum assessment against us could be $101
million per occurrence, limited to maximum annual installment payments of $15
million.
We also maintained insurance under a program that covers tort claims for bodily
injury to nuclear workers caused by nuclear hazards. The policy contains a $300
million nuclear industry aggregate limit. Under a previous insurance program
providing coverage for claims brought by nuclear workers, we remain responsible
for a maximum assessment of up to $6 million. This requirement will end December
31, 2007.
Big Rock was insured for nuclear liability up to $544 million through nuclear
insurance and the NRC indemnity, and we maintained a nuclear property insurance
policy from NEIL.
Insurance policy terms, limits, and conditions are subject to change during the
year as we renew our policies.
CONSUMERS' GAS UTILITY CONTINGENCIES
GAS ENVIRONMENTAL MATTERS: We expect to incur investigation and remediation
costs at a number of sites under the Michigan Natural Resources and
Environmental Protection Act, a Michigan statute that covers environmental
activities including remediation. These sites include 23 former manufactured gas
plant facilities. We operated the facilities on these sites for some part of
their operating lives. For some of these sites, we have no current ownership or
may own only a portion of the original site. In 2005, we estimated our remaining
costs to be between $29 million and $71 million, based on 2005 discounted costs,
using a discount rate of three percent. The discount rate represents a 10-year
average of U.S. Treasury bond rates reduced for increases in the consumer price
index. We expect to fund most of these costs through proceeds derived from a
settlement with insurers and MPSC-approved rates. At March 31, 2007, we have a
liability of $22 million, net of $60 million of expenditures incurred to date,
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CMS Energy Corporation
and a regulatory asset of $55 million. The timing of payments related to the
remediation of our manufactured gas plant sites is uncertain. Any significant
change in assumptions, such as an increase in the number of sites, different
remediation techniques, nature and extent of contamination, and legal and
regulatory requirements, could affect our estimate of remedial action costs and
the timing our remediation payments.
CONSUMERS' GAS UTILITY RATE MATTERS
GAS COST RECOVERY: The GCR process is designed to allow us to recover all of our
purchased natural gas costs if incurred under reasonable and prudent policies
and practices. The MPSC reviews these costs, policies, and practices for
prudency in annual plan and reconciliation proceedings.
The following table summarizes our GCR reconciliation filings with the MPSC:
Gas Cost Recovery Reconciliation
Net Over- GCR Cost of
GCR Year Date Filed Order Date recovery Gas Sold Description of Net Overrecovery
- -------- ---------- ---------- ---------- ------------ ---------------------------------
2005-2006 June 2006 April 2007 $3 million $1.8 billion The net overrecovery includes $1
million interest income through
March 2006, which resulted from a
net underrecovery position during
the majority of the GCR period.
In 2007, the MPSC approved a
settlement agreement, agreeing to
a $3 million net overrecovery
amount.
Overrecoveries in cost of gas sold are included in Accrued rate refunds on our
Consolidated Balance Sheets.
GCR plan for year 2005-2006: In November 2005, the MPSC issued an order for our
2005-2006 GCR Plan year, which resulted in approval of a settlement agreement
and established a fixed price cap of $10.10 per mcf for the December 2005
through March 2006 billing period. We were able to maintain our GCR billing
factor below the authorized level for that period. The order was appealed to the
Michigan Court of Appeals by one intervenor. We are unable to predict the
outcome of this proceeding.
GCR plan for year 2006-2007: In August 2006, the MPSC issued an order for our
2006-2007 GCR Plan year, which resulted in approval of a settlement agreement
that allowed a base GCR ceiling factor of $9.48 per mcf for the 12-month period
of April 2006 through March 2007. We were able to maintain our GCR billing
factor below the authorized level for that period.
GCR plan for year 2007-2008: In December 2006, we filed an application with the
MPSC seeking approval of a GCR plan for the 12-month period of April 2007
through March 2008. Our request proposed using a GCR factor consisting of:
- a base GCR ceiling factor of $8.47 per mcf, plus
- a quarterly GCR ceiling price adjustment contingent upon future
events.
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CMS Energy Corporation
The GCR billing factor is adjusted monthly in order to minimize the over or
underrecovery amounts in our annual GCR reconciliation. Our GCR billing factor
for the month of May 2007 is $8.24 per mcf.
2007 GAS RATE CASE: In February 2007, we filed an application with the MPSC
seeking an 11.25 percent authorized return on equity along with an $88 million
annual increase in our gas delivery and transportation rates, of which $17
million would be contributed to a low income energy efficiency fund. We have
proposed the use of a Revenue Decoupling and Conservation Incentive Mechanism
for residential and general service rate classes to help assure a reasonable
opportunity to recover costs regardless of sales levels.
OTHER CONTINGENCIES
GAS INDEX PRICE REPORTING LITIGATION: CMS Energy, CMS MST, CMS Field Services,
Cantera Natural Gas, Inc. (the company that purchased CMS Field Services) and
Cantera Gas Company are named as defendants in various lawsuits arising as a
result of claimed inaccurate natural gas price reporting. Allegations include
manipulation of NYMEX natural gas futures and options prices, price-fixing
conspiracies, and artificial inflation of natural gas retail prices in
California, Colorado, Kansas, Missouri, Tennessee, and Wisconsin. CMS MST has
settled a master class action suit in California state court for $7 million. In
March 2007, CMS Energy paid $7 million into a trust fund account following
preliminary approval of the settlement by the judge. The settlement remains
subject to final approval pending notice to members of the class, who have an
opportunity to opt out of or object to the settlement.
In January 2007, CMS MST entered into a settlement agreement to collectively
settle four class action suits originally filed in California federal courts for
$700,000. On April 3, 2007, plaintiffs filed a motion for preliminary approval
of this and other settlements. CMS Energy and the other CMS Energy defendants
will continue to defend themselves vigorously in all of the remaining matters
but cannot predict their outcome.
ARGENTINA: As part of its energy privatization incentives, Argentina directed
CMS Gas Transmission to calculate tariffs in U.S. dollars, then convert them to
pesos at the prevailing exchange rate, and to adjust tariffs every six months to
reflect changes in inflation. Starting in early 2000, Argentina suspended the
inflation adjustments.
In January 2002, the Republic of Argentina enacted the Public Emergency and
Foreign Exchange System Reform Act. This law repealed the fixed exchange rate of
one U.S. dollar to one Argentine peso, converted all dollar-denominated utility
tariffs and energy contract obligations into pesos at the same one-to-one
exchange rate, and directed the Government of Argentina to renegotiate such
tariffs.
CMS Gas Transmission began arbitration proceedings against the Republic of
Argentina (Argentina) under the auspices of the International Centre for the
Settlement of Investment Disputes (ICSID) in mid-2001, citing breaches by
Argentina of the Argentine-U.S. Bilateral Investment Treaty (BIT). In May 2005,
an ICSID tribunal concluded, among other things, that Argentina's economic
emergency did not excuse Argentina from liability for violations of the BIT. The
ICSID tribunal found in favor of CMS Gas Transmission, and awarded damages of
U.S. $133 million, plus interest.
The ICSID Convention provides that either party may seek annulment of the award
based upon five possible grounds specified in the Convention. Argentina's
Application for Annulment was formally registered by ICSID on September 27,
2005. In March 2007, the Annulment matter was heard before a panel in Paris, and
the matter is now before the panel pending a decision.
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CMS Energy Corporation
On December 28, 2005, certain insurance underwriters paid the sum of $75 million
to CMS Gas Transmission in respect of their insurance obligations resulting from
non-payment of the ICSID award. The payment, plus interest, is subject to
repayment by CMS Gas Transmission in the event that the ICSID award is annulled.
Pending the outcome of the annulment proceedings, CMS Energy has recorded the
$75 million payment as a long-term deferred credit.
QUICKSILVER RESOURCES, INC.: Quicksilver sued CMS MST for breach of contract in
connection with a Contract for Sale and Purchase of natural gas, pursuant to
which Quicksilver agreed to sell, and CMS MST agreed to buy, natural gas.
Quicksilver believes that it is entitled to more payments for natural gas than
it has received. CMS MST disagrees with Quicksilver's analysis and believes that
it has paid all amounts owed for delivery of gas pursuant to the contract.
Quicksilver is seeking damages of up to approximately $126 million, plus
prejudgment interest and attorney fees, which in our judgment is unsupported by
the facts.
The matter was tried before a jury in March 2007. The jury made a finding that
CMS MST has breached the agreement with Quicksilver, but found that Quicksilver
had failed to prove damages and accordingly awarded zero compensatory damages to
Quicksilver. However, the jury awarded $10 million in punitive damage against
CMS MST. CMS MST will oppose the award of punitive damages on the basis that
Texas law will not permit an award of punitive damages if no compensatory
damages have been awarded. The trial court has scheduled a date in early May
2007 to consider motions to enter judgment by the opposing sides of the
litigation. CMS Energy cannot predict the ultimate outcome of this matter.
T.E.S. FILER CITY AIR PERMIT ISSUE: In January 2007, we received a Notice of
Violation from the EPA alleging that TES Filer City, a generating facility in
which we have a 50 percent partnership interest, exceeded certain air permit
limits. We are in discussions with the EPA with regard to these allegations, but
cannot predict the financial impact or outcome of this issue.
OTHER: In addition to the matters disclosed within this Note, Consumers and
certain other subsidiaries of CMS Energy are parties to certain lawsuits and
administrative proceedings before various courts and governmental agencies
arising from the ordinary course of business. These lawsuits and proceedings may
involve personal injury, property damage, contractual matters, environmental
issues, federal and state taxes, rates, licensing, and other matters.
We have accrued estimated losses for certain contingencies discussed within this
Note. Resolution of these contingencies is not expected to have a material
adverse impact on our financial position, liquidity, or future results of
operations.
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CMS Energy Corporation
FASB INTERPRETATION NO. 45, GUARANTOR'S ACCOUNTING AND DISCLOSURE REQUIREMENTS
FOR GUARANTEES, INCLUDING INDIRECT GUARANTEES OF INDEBTEDNESS OF OTHERS: The
Interpretation requires the guarantor, upon issuance of a guarantee, to
recognize a liability for the fair value of the obligation it undertakes in
issuing the guarantee.
The following table describes our guarantees at March 31, 2007:
In Millions
- ----------------------------------------------------------------------------------------------------------
FIN 45
Maximum Carrying
Guarantee Description Issue Date Expiration Date Obligation Amount
- --------------------- ------------ ------------------------- ---------- --------
Indemnifications from asset sales and
other agreements (a) October 1995 Indefinite $1,113 $ 1
Standby letters of credit and loans (b) Various Various through May 2010 84 --
Surety bonds and other indemnifications Various Indefinite 9 --
Guarantees and put options (c) Various Various through September 207 1
2027
Nuclear insurance retrospective
premiums (d) Various Indefinite 137 --
- ------------
(a) The majority of this amount arises from routine provisions in stock and
asset sales agreements under which we indemnify the purchaser for losses
resulting from claims related to tax disputes and the failure of title to
the assets or stock sold by us to the purchaser. We believe the likelihood
of a loss for any remaining indemnifications to be remote.
(b) Standby letters of credit include letters of credit issued under an amended
credit agreement with Citicorp USA, Inc. The amended credit agreement is
supported by a guaranty issued by certain subsidiaries of CMS Energy. At
March 31, 2007, letters of credit issued on behalf of unconsolidated
affiliates totaling $64 million were outstanding.
(c) Maximum obligation includes $85 million related to the MCV Partnership's
non-performance under a steam and electric power agreement with Dow. We
sold our interests in the MCV Partnership and the FMLP. The sales agreement
calls for the purchaser, an affiliate of GSO Capital Partners and Rockland
Capital Energy Investments, to pay $85 million, subject to certain
reimbursement rights, if Dow terminates an agreement under which the MCV
Partnership provides it steam and electric power. This agreement expires in
March 2016, subject to certain terms and conditions. The purchaser secured
their reimbursement obligation with an irrevocable letter of credit of up
to $85 million.
(d) We maintained nuclear insurance coverage on our nuclear plants until
Palisades and the Big Rock ISFSI were sold in April 2007. For more details
on the sale of Palisades and Big Rock, see Note 3, Contingencies, "Other
Consumers' Electric Utility Contingencies - The Sale of Nuclear Assets and
the Palisades Power Purchase Agreement."
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CMS Energy Corporation
The following table provides additional information regarding our guarantees:
Events That
Guarantee Description How Guarantee Arose Would Require Performance
- --------------------- ----------------------------------- --------------------------------
Indemnifications from asset sales Stock and asset sales agreements Findings of misrepresentation,
and other agreements breach of warranties, and other
specific events or circumstances
Standby letters of credit and loans Credit agreement Non-payment by CMS Energy and
Enterprises of obligations under
the credit agreement
Surety bonds and other Normal operating activity, permits Nonperformance
indemnifications and licenses
Guarantees and put options Normal operating activity Nonperformance or non-payment by
a subsidiary under a related
contract
Agreement to provide power and MCV Partnership's nonperformance
steam to Dow or non-payment under a related
contract
Bay Harbor remediation efforts Owners exercising put options
requiring us to purchase
property
Nuclear insurance retrospective Normal operations of nuclear plants Call by NEIL and Price-Anderson
premiums Act for nuclear incident
At March 31, 2007, certain contracts contained provisions allowing us to
recover, from third parties, amounts paid under the guarantees. For example, if
we are required to purchase a property under a put option agreement, we may sell
the property to recover the amount paid under the option.
We enter into various agreements containing tax and other indemnification
provisions in connection with a variety of transactions, including the sale of
our interests in the MCV Partnership and the FMLP. In April 2007, we sold our
interest in Palisades and the Big Rock ISFSI to Entergy. As part of the
transaction, we entered into agreements containing tax and other indemnification
provisions. While we are unable to estimate the maximum potential obligation
related to these indemnities, we consider the likelihood that we would be
required to perform or incur significant losses related to these indemnities and
the guarantees listed in the preceding tables to be remote.
Project Financing: We enter into various project-financing security arrangements
such as equity pledge agreements and share mortgage agreements to provide
financial or performance assurance to third parties on behalf of certain
unconsolidated affiliates. Expiration dates for these agreements vary from March
2015 to June 2020 or terminate upon payment or cancellation of the obligation.
Non-payment or other act of default by an unconsolidated affiliate would trigger
enforcement of the security. If we were required to perform under these
agreements, the maximum amount of our obligation under these agreements would be
equal to the value of the shares relinquished to the guaranteed party at the
time of default.
In May 2007, we sold our ownership interests in businesses in the Middle East,
Africa, and India to TAQA. TAQA has assumed all contingent obligations related
to our project-financing
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CMS Energy Corporation
security agreements. For more details on the sale of our ownership interests to
TAQA, see Note 2, Asset Sales, Discontinued Operations and Impairment Charges.
4: FINANCINGS AND CAPITALIZATION
Long-term debt is summarized as follows:
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
CMS ENERGY CORPORATION
Senior notes $2,271 $2,271
Other long-term debt 1 1
------ ------
Total - CMS Energy Corporation 2,272 2,272
------ ------
CONSUMERS ENERGY COMPANY
First mortgage bonds 3,172 3,172
Senior notes and other 654 652
Securitization bonds 332 340
------ ------
Total - Consumers Energy Company 4,158 4,164
------ ------
OTHER SUBSIDIARIES 325 331
------ ------
TOTAL PRINCIPAL AMOUNTS OUTSTANDING 6,755 6,767
Current amounts (710) (551)
Net unamortized discount (13) (14)
------ ------
Total Long-term debt $6,032 $6,202
====== ======
REVOLVING CREDIT FACILITIES: The following secured revolving credit facilities
with banks are available at March 31, 2007:
In Millions
- ------------------------------------------------------------------------------------------
Amount of Amount Outstanding
Company Expiration Date Facility Borrowed Letters-of-Credit Amount Available
- ---------- --------------- --------- -------- ----------------- ----------------
CMS Energy May 18, 2010 $300 $-- $87 $213
Consumers March 30, 2012 500 -- 59 441
We replaced our $300 million facility in April 2007 with a new $300 million
credit facility that expires April 2, 2012. Consumers replaced its $500 million
facility with a new $500 million credit facility in March 2007. The new
facilities contain less restrictive covenants, and provide for lower fees and
lower interest margins than the previous credit facilities.
DIVIDEND RESTRICTIONS: Under provisions of our senior notes indenture, at March
31, 2007, we had $400 million of unrestricted net assets available to pay common
stock dividends. Our $300 million secured revolving credit facility restricted
payments of dividends on our common stock during a 12-month period to $150
million. This restriction was removed with the new $300 million credit facility
effective April 2, 2007.
Under the provisions of its articles of incorporation, at March 31, 2007,
Consumers had $227 million of unrestricted retained earnings available to pay
common stock dividends. The dividend restrictions in its
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credit facility were removed in March 2007. Provisions of the Federal Power Act
and the Natural Gas Act effectively restrict dividends to the amount of
Consumers' retained earnings. For the three months ended March 31, 2007, we
received $94 million of common stock dividends from Consumers.
PREFERRED STOCK: In February 2007, our non-voting preferred subsidiary interest
of $11 million was repurchased and redeemed for a cash payment of $32 million.
The original $19 million addition to paid-in-capital was reversed and a $1
million redemption premium was charged to retained deficit.
CONTINGENTLY CONVERTIBLE SECURITIES: In March 2007, the $11.87 per share
conversion trigger price contingency was met for our $250 million 4.50 percent
contingently convertible preferred stock and the $12.81 per share conversion
trigger price contingency was met for our $150 million 3.375 percent
contingently convertible senior notes. As a result, these securities are
convertible at the option of the security holders for the three months ending
June 30, 2007, with the par value or principal payable in cash. As of April
2007, none of the security holders have notified us of their intention to
convert these securities.
Because the 3.375 percent senior notes are convertible on demand, they are
classified as current liabilities.
CAPITAL LEASE OBLIGATIONS: Our capital leases are comprised mainly of leased
service vehicles, power purchase agreements, and office furniture. At March 31,
2007, capital lease obligations totaled $64 million.
SALE OF ACCOUNTS RECEIVABLE: Under a revolving accounts receivable sales
program, Consumers sells certain accounts receivable to a wholly owned,
consolidated, bankruptcy remote special purpose entity. In turn, the special
purpose entity may sell an undivided interest in up to $325 million of the
receivables. The special purpose entity sold $10 million of receivables at March
31, 2007 and $325 million of receivables at December 31, 2006. Consumers
continues to service the receivables sold to the special purpose entity. The
purchaser of the receivables has no recourse against Consumers' other assets for
failure of a debtor to pay when due and no right to any receivables not sold.
Consumers has neither recorded a gain or loss on the receivables sold nor
retained interest in the receivables sold.
Certain cash flows under Consumers' accounts receivable sales program are shown
in the following table:
In Millions
---------------
Three months Ended March 31 2007 2006
- --------------------------- ------ ------
Net cash flow as a result of accounts receivable financing $ (315) $ (325)
Collections from customers $1,928 $1,817
====== ======
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CMS Energy Corporation
5: EARNINGS PER SHARE
The following table presents the basic and diluted earnings per share
computations based on Loss from Continuing Operations:
In Millions, Except Per Share Amounts
-------------------------------------
Three Months Ended March 31 2007 2006
- --------------------------- ------ ------
LOSS AVAILABLE TO COMMON STOCKHOLDERS
Loss from Continuing Operations $ (31) $ (32)
Less Preferred Dividends and Redemption Premium (4) (3)
------ ------
Loss from Continuing Operations Available to
Common Stockholders - Basic and Diluted $ (35) $ (35)
====== ======
AVERAGE COMMON SHARES OUTSTANDING
Weighted Average Shares - Basic and Diluted 221.5 219.1
LOSS PER AVERAGE COMMON SHARE
AVAILABLE TO COMMON STOCKHOLDERS
Basic $(0.16) $(0.16)
Diluted $(0.16) $(0.16)
====== ======
Contingently Convertible Securities: For the three months ended March 31, 2007,
we recorded a loss from continuing operations. Due to antidilution, there was no
impact to diluted EPS from our contingently convertible securities. Assuming
positive income from continuing operations, our contingently convertible
securities dilute EPS to the extent that the conversion value, which is based on
the average market price of our common stock, exceeds the principal or par
value. Had there been positive income from continuing operations, our
contingently convertible securities would have contributed an additional 19.1
million shares to the calculation of diluted EPS for the three months ended
March 31, 2007.
Stock Options, Warrants and Restricted Stock: For the three months ended March
31, 2007, due to antidilution, there was no impact to diluted EPS for 1.9
million shares of unvested restricted stock awards and for options and warrants
to purchase 0.4 million shares of common stock. For the three months ended March
31, 2006, due to antidilution, there was no impact to diluted EPS for 0.9
million shares of unvested restricted stock awards and for options and warrants
to purchase 0.5 million shares of common stock. An additional 1.4 million stock
options at March 31, 2007 and 1.9 million stock options at March 31, 2006, were
excluded from the diluted EPS calculation because the exercise price was greater
than the average market price of our common stock. These stock options have the
potential to dilute EPS in the future.
Convertible Debentures: For the three months ended March 31, 2007, due to
antidilution, there was no impact to diluted EPS from our 7.75 percent
convertible subordinated debentures. Using the if-converted method, the
debentures would have:
- increased the numerator of diluted EPS by $2 million for the three
months ended March 31, 2007, from an assumed reduction of interest
expense, net of tax, and
- increased the denominator of diluted EPS by 4.2 million shares.
We can revoke the conversion rights if certain conditions are met.
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6: FINANCIAL AND DERIVATIVE INSTRUMENTS
FINANCIAL INSTRUMENTS: The carrying amounts of cash, short-term investments, and
current liabilities approximate their fair values because of their short-term
nature. We estimate the fair values of long-term financial instruments based on
quoted market prices or, in the absence of specific market prices, on quoted
market prices of similar instruments or other valuation techniques.
The cost and fair value of our long-term debt instruments including current
maturities are as follows:
In Millions
-------------------------------------------------------------
March 31, 2007 December 31, 2006
----------------------------- -----------------------------
Fair Unrealized Fair Unrealized
Cost Value Gain (Loss) Cost Value Gain (Loss)
------ ------ ----------- ------ ------ -----------
Long-term debt $6,742 $7,028 $(286) $6,753 $6,949 $(196)
Long-term debt - related parties 178 152 26 178 155 23
====== ====== ===== ====== ====== =====
The summary of our available-for-sale investment securities is as follows:
In Millions
-------------------------------------------------------------------------------
March 31, 2007 December 31, 2006
-------------------------------------- --------------------------------------
Unrealized Unrealized Fair Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
---- ---------- ---------- ----- ---- ---------- ---------- -----
Nuclear decommissioning investments: (a)
Equity securities $142 $149 $(4) $287 $140 $150 $(4) $286
Debt securities 228 2 (2) 228 307 4 (2) 309
SERP:
Equity securities 36 22 (1) 57 36 21 -- 57
Debt securities 13 -- -- 13 13 -- -- 13
==== ==== === ==== ==== ==== === ====
(a) In preparation for the sale of Palisades, these investments also held cash
and cash equivalents totaling $91 million at March 31, 2007. In April 2007,
we sold Palisades and the Big Rock ISFSI to Entergy. Accordingly, we
transferred $252 million in trust fund assets to Entergy. For additional
details on the sale of Palisades and the Big Rock ISFSI, see Note 3,
Contingencies, "Other Consumers' Electric Utility Contingencies - The Sale
of Nuclear Assets and the Palisades Power Purchase Agreement."
DERIVATIVE INSTRUMENTS: In order to limit our exposure to certain market risks,
we may enter into various risk management contracts, such as swaps, options,
futures, and forward contracts. These contracts, used primarily to manage our
exposure to changes in interest rates, commodity prices, and currency exchange
rates, are classified as either non-trading or trading. We enter into these
contracts using established policies and procedures, under the direction of
both:
- an executive oversight committee consisting of senior management
representatives, and
- a risk committee consisting of business unit managers.
The contracts we use to manage market risks may qualify as derivative
instruments that are subject to derivative and hedge accounting under SFAS No.
133. If a contract is a derivative, it is recorded on our consolidated balance
sheet at its fair value. We then adjust the resulting asset or liability each
quarter to
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reflect any change in the market value of the contract, a practice known as
marking the contract to market. From time to time, we enter into cash flow
hedges. If a derivative qualifies for cash flow hedge accounting treatment, the
changes in fair value (gains or losses) are reported in AOCL; otherwise, the
changes are reported in earnings.
For a derivative instrument to qualify for cash flow hedge accounting:
- the relationship between the derivative instrument and the forecasted
transaction being hedged must be formally documented at inception,
- the derivative instrument must be highly effective in offsetting the
hedged transaction's cash flows, and
- the forecasted transaction being hedged must be probable.
If a derivative qualifies for cash flow hedge accounting treatment and gains or
losses are recorded in AOCL, those gains or losses will be reclassified into
earnings in the same period or periods the hedged forecasted transaction affects
earnings. If a cash flow hedge is terminated early because it is determined that
the forecasted transaction will not occur, any gain or loss recorded in AOCL at
that date is recognized immediately in earnings. If a cash flow hedge is
terminated early for other economic reasons, any gain or loss as of the
termination date is deferred and then reclassified to earnings when the
forecasted transaction affects earnings. The ineffective portion, if any, of all
hedges is recognized in earnings.
To determine the fair value of our derivatives, we use information from external
sources (i.e., quoted market prices and third-party valuations), if available.
For certain contracts, this information is not available and we use mathematical
valuation models to value our derivatives. These models require various inputs
and assumptions, including commodity market prices and volatilities, as well as
interest rates and contract maturity dates. The cash returns we actually realize
on these contracts may vary, either positively or negatively, from the results
that we estimate using these models. As part of valuing our derivatives at
market, we maintain reserves, if necessary, for credit risks arising from the
financial condition of our counterparties.
The majority of our commodity purchase and sale contracts are not subject to
derivative accounting under SFAS No. 133 because:
- they do not have a notional amount (that is, a number of units
specified in a derivative instrument, such as MWh of electricity or
bcf of natural gas),
- they qualify for the normal purchases and sales exception, or
- there is not an active market for the commodity.
Our coal purchase contracts are not derivatives because there is not an active
market for the coal we purchase. If an active market for coal develops in the
future, some of these contracts may qualify as derivatives and the resulting
mark-to-market impact on earnings could be material.
Derivative accounting is required for certain contracts used to limit our
exposure to interest rate risk, commodity price risk, and foreign exchange risk.
The following table summarizes our derivative instruments:
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CMS Energy Corporation
In Millions
-------------------------------------------------------
March 31, 2007 December 31, 2006
-------------------------- --------------------------
Fair Unrealized Fair Unrealized
Derivative Instruments Cost Value Gain (Loss) Cost Value Gain (Loss)
- ---------------------- ---- ----- ----------- ---- ----- -----------
CMS ERM derivative
contracts:
Non-trading electric
/ gas contracts -- 34 34 -- 31 31
Trading electric
/ gas contracts (9) (68) (59) (11) (68) (57)
Derivative contracts
associated with equity
investments in:
Shuweihat -- (14) (14) -- (14) (14)
Taweelah (35) (12) 23 (35) (11) 24
Jorf Lasfar -- (4) (4) -- (5) (5)
Other -- 1 1 -- 1 1
We record the fair value of the derivative contracts held by CMS ERM in either
Price risk management assets or Price risk management liabilities on our
Consolidated Balance Sheets. The fair value of derivative contracts associated
with our equity investments is included in Investments - Enterprises on our
Consolidated Balance Sheets.
CMS ERM CONTRACTS: CMS ERM enters into and owns energy contracts that support
CMS Energy's ongoing operations. CMS ERM holds certain contracts for the future
purchase and sale of natural gas that will result in physical delivery of the
commodity at contractual prices. These forward contracts are generally long-term
in nature and are classified as non-trading. CMS ERM also uses various financial
instruments, including swaps, options, and futures, to manage commodity price
risks associated with its forward purchase and sale contracts and with
generation assets owned by CMS Energy or its subsidiaries. These financial
contracts are classified as trading activities.
In accordance with SFAS No. 133, non-trading and trading contracts that qualify
as derivatives are recorded at fair value on our Consolidated Balance Sheets.
The resulting assets and liabilities are marked to market each quarter, and
changes in fair value are recorded in earnings as a component of Operating
Revenue. For trading contracts, these gains and losses are recorded net in
accordance with EITF Issue No. 02-03. Contracts that do not meet the definition
of a derivative are accounted for as executory contracts (that is, on an accrual
basis).
DERIVATIVE CONTRACTS ASSOCIATED WITH EQUITY INVESTMENTS: At March 31, 2007, some
of our equity method investees, specifically Taweelah, Shuweihat, Jorf Lasfar,
and Jubail, held:
- interest rate contracts that hedged the risk associated with
variable-rate debt, and
- foreign exchange contracts that hedged the foreign currency risk
associated with payments to be made under operating and maintenance
service agreements.
We recorded our proportionate share of the change in fair value of these
contracts in AOCL if the contracts qualified for cash flow hedge accounting;
otherwise, we recorded our share in Earnings from Equity Method Investees. At
March 31, 2007, there was no ineffectiveness associated with any of the
contracts that qualify for cash flow hedge accounting.
In May 2007, we sold our ownership interest in businesses in the Middle East,
Africa, and India, including Taweelah, Shuweihat,
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CMS Energy Corporation
Jorf Lasfar, and Jubail. As a result of that sale, we will no longer recognize
gains or losses related to changes in the fair value of the derivative contracts
held by these equity method investees. At March 31, 2007, we had accumulated a
cumulative net loss of $14 million, net of tax, in AOCL representing our
proportionate share of mark-to-market gains and losses from cash flow hedges
held by the equity method investees. At the date we closed the sale, this
amount, adjusted for any additional changes in fair value, was reclassified and
recognized in earnings as part of the sale. This amount comprised the total
amount we had recorded in AOCL related to derivative instruments.
Any changes in the fair value of these contracts recognized before the closing
did not affect the sales price of our interest in these equity method investees.
For additional details on the sale of our interest in these equity method
investees, see Note 2, Asset Sales, Discontinued Operations and Impairment
Charges.
FOREIGN EXCHANGE DERIVATIVES: In the past, we have used forward exchange and
option contracts to hedge the value of investments in foreign operations. These
contracts limited the risk from currency exchange rate movements because gains
and losses on such contracts offset losses and gains, respectively, on the
hedged investments. At March 31, 2007, we had no outstanding foreign exchange
contracts. However, the impact of previous hedges on our investments in foreign
operations is reflected in AOCL as a component of the foreign currency
translation adjustment on our Consolidated Balance Sheets. Gains or losses from
the settlement of these hedges are maintained in the foreign currency
translation adjustment until we sell or liquidate the hedged investments. At
March 31, 2007, our total foreign currency translation adjustment was a net loss
of $169 million, which included a net hedging loss of $22 million, net of tax,
related to the settlement of these contracts.
CREDIT RISK: Our swaps, options, and forward contracts contain credit risk,
which is the risk that counterparties will fail to perform their contractual
obligations. We reduce this risk through established credit policies. For each
counterparty, we assess credit quality by using credit ratings, financial
condition, and other available information. We then establish a credit limit for
each counterparty based upon our evaluation of credit quality. We monitor the
degree to which we are exposed to potential loss under each contract and take
remedial action, if necessary.
CMS ERM enters into contracts primarily with companies in the electric and gas
industry. This industry concentration may have an impact on our exposure to
credit risk, either positively or negatively, based on how these counterparties
are affected by similar changes in economic conditions, the weather, or other
conditions. CMS ERM typically uses industry-standard agreements that allow for
netting positive and negative exposures associated with the same counterparty,
thereby reducing exposure. These contracts also typically provide for the
parties to demand adequate assurance of future performance when there are
reasonable grounds for doing so.
The following table illustrates our exposure to potential losses at March 31,
2007, if each counterparty within this industry concentration failed to perform
its contractual obligations. This table includes contracts accounted for as
financial instruments. It does not include trade accounts receivable, derivative
contracts that qualify for the normal purchases and sales exception under SFAS
No. 133, or other contracts that are not accounted for as derivatives.
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CMS Energy Corporation
In Millions
- ----------------------------------------------------------------------------
Net Net Exposure
Exposure Exposure from from
Before Investment Investment
Collateral Collateral Net Grade Grade
(a) Held Exposure Companies Companies (%)
---------- ---------- -------- ------------- -------------
CMS ERM $46 $ - $46 $ - 0%
(a) Exposure is reflected net of payables or derivative liabilities if netting
arrangements exist.
Based on our credit policies, our current exposures, and our credit reserves, we
do not expect a material adverse effect on our financial position or future
earnings as a result of counterparty nonperformance.
7: RETIREMENT BENEFITS
We provide retirement benefits to our employees under a number of different
plans, including:
- a non-contributory, defined benefit Pension Plan,
- a cash balance Pension Plan for certain employees hired between July
1, 2003 and August 31, 2005,
- a DCCP for employees hired on or after September 1, 2005,
- benefits to certain management employees under SERP,
- a defined contribution 401(k) Savings Plan,
- benefits to a select group of management under the EISP, and
- health care and life insurance benefits under OPEB.
Pension Plan: The Pension Plan includes funds for most of our current employees,
the employees of our subsidiaries, and Panhandle, a former subsidiary. The
Pension Plan's assets are not distinguishable by company.
In April 2007, we sold the Palisades nuclear plant to Entergy. Employees
transferred to Entergy as a result of the sale no longer participate in our
retirement benefit plans. In April 2007, we recorded a net reduction of $27
million in pension SFAS No. 158 regulatory assets with a corresponding decrease
of $27 million in pension liabilities on our Consolidated Balance Sheets. We
also recorded a net reduction of $15 million in OPEB regulatory SFAS No. 158
assets with a corresponding decrease of $15 million in OPEB liabilities. The
following table shows the net adjustment:
Pension OPEB
------- ----
Plan liability transferred to Entergy $44 $20
Trust assets transferred to Entergy 17 5
--- ---
Net adjustment $27 $15
=== ===
Beginning May 1, 2007, the CMS Energy Common Stock Fund will no longer be an
investment option available for new investments in the 401(k) Savings Plan and
the employer's match will no longer be in CMS Energy Stock. Participants will
have an opportunity to reallocate investments in the CMS Energy Stock Fund to
other plan investment alternatives. Beginning November 1, 2007, any remaining
shares in the CMS Energy Stock Fund will be sold and the sale proceeds will be
reallocated to other plan investment options. At March 31, 2007, there were 10
million shares of CMS Energy Common Stock in the CMS Energy Stock Fund.
CMS-65
CMS Energy Corporation
SFAS No. 158, Employers' Accounting for Defined Benefit Pension and Other
Postretirement Plans - an amendment of FASB Statements No. 87, 88, 106, and
132(R): In September 2006, the FASB issued SFAS No. 158. Phase one of this
standard required us to recognize the funded status of our defined benefit
postretirement plans on our Consolidated Balance Sheets at December 31, 2006.
Phase one was implemented in December 2006. Phase two of this standard requires
that we change our plan measurement date from November 30 to December 31,
effective December 31, 2008. We do not believe that implementation of phase two
of this standard will have a material effect on our consolidated financial
statements. We expect to adopt the measurement date provisions of SFAS No. 158
in 2008.
Costs: The following table recaps the costs, other changes in plan assets, and
benefit obligations incurred in our retirement benefits plans:
In Millions
-------------------------
Pension OPEB
----------- -----------
Three Months Ended March 31 2007 2006 2007 2006
- --------------------------- ---- ---- ---- ----
Service cost $ 12 $ 12 $ 6 $ 6
Interest expense 22 21 17 16
Expected return on plan assets (20) (22) (16) (14)
Amortization of:
Net loss 11 11 6 5
Prior service cost (credit) 2 2 (2) (3)
---- ---- ---- ----
Net periodic cost 27 24 11 10
Regulatory adjustment (4) (3) (2) --
---- ---- ---- ----
Net periodic cost after regulatory adjustment $ 23 $ 21 $ 9 $ 10
==== ==== ==== ====
8: INCOME TAXES
The principal components of deferred tax assets (liabilities) recognized on our
Consolidated Balance Sheets both before and after the adoption of FIN 48 are as
follows:
In Millions
-------------------
01/01/07 12/31/06
-------- --------
Property $(592) $(790)
Securitized costs (177) (177)
Employee benefits 38 38
Gas inventories (168) (168)
Tax loss and credit carryforwards 700 867
SFAS No. 109 regulatory liabilities, net 189 189
Foreign investments inflation indexing 86 86
Valuation allowances (216) (116)
Other, net 103 106
----- -----
Net deferred tax assets (liabilities) $ (37) $ 35
===== =====
As a result of the implementation of FIN 48, we have identified additional
uncertain tax benefits of $11 million as of January 1, 2007. Included in this
amount is an increase in our valuation allowance of $100 million, decreases to
tax reserves of $61 million and a decrease to deferred tax liabilities of $28
million. In addition, our equity method investment, Jorf Lasfar, in which we
held a 50 percent interest,
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CMS Energy Corporation
identified $26 million of uncertain tax benefits in its adoption of FIN 48 for
U.S. GAAP purposes. We have reflected our share of this amount, $13 million, as
a reduction to our beginning retained earnings balance and in our investment in
the subsidiary. Thus, our beginning retained earnings was reduced by $24 million
as a result of the adoption of FIN 48.
CMS Energy and its subsidiaries file a consolidated U.S. federal income tax
return as well as unitary and combined income tax returns in several states. CMS
Energy and its subsidiaries also file separate company income tax returns in
several states. The only significant state tax paid by CMS Energy is in
Michigan. However, since the Michigan Single Business Tax is not an income tax,
it is not part of the FIN 48 analysis. For the U.S. federal income tax return,
CMS Energy completed examinations by federal taxing authorities for its taxable
years prior to 2002. The federal income tax returns for the years 2002 through
2005 are open under the statute of limitations.
We have reflected a net interest liability of $3 million related to our
uncertain income tax positions on our Consolidated Balance Sheets as of January
1, 2007. We have not accrued any penalties with respect to uncertain tax
benefits. We recognize accrued interest and penalties, where applicable, related
to uncertain tax benefits as part of income tax expense.
As of the date of adoption of FIN 48, we had valuation allowances against
certain U.S. and foreign deferred tax assets totaling $216 million and other
uncertain tax positions of $31 million, resulting in total unrecognized benefits
of $247 million. Of this amount, $217 million would result in a decrease in our
effective tax rate, if recognized. We released $81 million of our valuation
allowance in the first quarter of 2007, due to the anticipated sales of our
foreign investments, as reflected in our effective tax rate reconciliation.
Therefore, remaining uncertain tax benefits that would reduce our effective tax
rate beyond this quarter are $136 million. As we continue to market our foreign
investments, it is reasonably possible that additional valuation allowance
adjustments could be made. We are not in a position to estimate any additional
adjustment at this date, other than to state that we have no expectation of
reversing any of the $86 million valuation allowance attributable to the
inflation indexing of our Venezuelan investment. We are not expecting any other
material changes to our uncertain tax positions over the next 12 months.
The actual income tax benefit on continuing operations differs from the amount
computed by applying the statutory federal tax rate of 35 percent to loss before
income taxes as follows:
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CMS Energy Corporation
In Millions
-------------
Quarters ended March 31 2007 2006
- ----------------------- ------ ----
Loss before income taxes $(101) $(60)
----- ----
Statutory federal income tax rate x 35% x 35%
----- ----
Expected income tax benefit (35) (21)
Increase (decrease) in taxes from:
Property differences 5 6
Income tax effect of foreign investments 2 (1)
Indefinite deferral projects for U.S. tax 43 (8)
Income tax credit amortization (1) (1)
Medicare Part D exempt income (2) (2)
Tax exempt income (1) (1)
Valuation allowance (81) --
----- ----
Recorded income benefit $ (70) $(28)
----- ----
Effective tax rate 69% 47%
===== ====
U.S. income taxes are not recorded on the undistributed earnings of foreign
subsidiaries that have been or are intended to be reinvested indefinitely. Upon
distribution, those earnings may be subject to both U.S. income taxes (adjusted
for foreign tax credits or deductions) and withholding taxes payable to various
foreign countries. During the first quarter of 2007, we announced we had signed
agreements or plans to sell substantially all of our foreign assets or
subsidiaries. These anticipated sales resulted in the recognition in 2007 of $63
million of U.S. income tax expense associated with the change in our
determination of our permanent reinvestment of these undistributed earnings,
with $43 million of this amount reflected in income from continuing operations
and $20 million in discontinued operations. With this recognition, U.S. tax has
now been provided on all foreign undistributed earnings.
9: ASSET RETIREMENT OBLIGATIONS
SFAS NO. 143, ACCOUNTING FOR ASSET RETIREMENT OBLIGATIONS: This standard
requires companies to record the fair value of the cost to remove assets at the
end of their useful life, if there is a legal obligation to remove them. Fair
value, to the extent possible, should include a market risk premium for
unforeseeable circumstances. No market risk premium was included in our ARO fair
value estimate since a reasonable estimate could not be made. If a five percent
market risk premium were assumed, our ARO liability would increase by $25
million.
If a reasonable estimate of fair value cannot be made in the period in which the
ARO is incurred, such as for assets with indeterminate lives, the liability is
to be recognized when a reasonable estimate of fair value can be made.
Generally, electric and gas transmission and distribution assets have
indeterminate lives. Retirement cash flows cannot be determined and there is a
low probability of a retirement date. Therefore, no liability has been recorded
for these assets or associated obligations related to potential future
abandonment. Also, no liability has been recorded for assets that have
insignificant cumulative disposal costs, such as substation batteries. The
measurement of the ARO liabilities for Palisades and Big Rock include use of
decommissioning studies that largely utilize third-party cost estimates.
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CMS Energy Corporation
FASB INTERPRETATION NO. 47, ACCOUNTING FOR CONDITIONAL ASSET RETIREMENT
OBLIGATIONS: This Interpretation clarified the term "conditional asset
retirement obligation" as used in SFAS No. 143. The term refers to a legal
obligation to perform an asset retirement activity in which the timing and (or)
method of settlement are conditional on a future event. We determined that
abatement of asbestos included in our plant investments qualifies as a
conditional ARO, as defined by FIN 47.
The following tables describe our assets that have legal obligations to be
removed at the end of their useful life:
March 31, 2007 In Millions
- -----------------------------------------------------------------------------------------
In Service Trust
ARO Description Date Long-Lived Assets Fund
- --------------- ---------- ------------------------------------ -----
Palisades-decommission
plant site 1972 Palisades nuclear plant $604
Big Rock-decommission
plant site 1962 Big Rock nuclear plant 2
JHCampbell intake/discharge
water line 1980 Plant intake/discharge water line --
Closure of coal ash disposal
areas Various Generating plants coal ash areas --
Closure of wells at gas
storage fields Various Gas storage fields --
Indoor gas services equipment
relocations Various Gas meters located inside structures --
Asbestos abatement 1973 Electric and gas utility plant --
Natural gas-fired power plant 1997 Gas fueled power plant --
Close gas treating plant and
gas wells Various Gas transmission and storage --
In Millions
- --------------------------------------------------------------------------------------------------------
ARO ARO
Liability Cash flow Liability
ARO Description 12/31/06 Incurred Settled (a) Accretion Revisions 3/31/07
- --------------- --------- -------- ----------- --------- --------- ---------
Palisades - decommission $401 $-- $-- $ 7 $ 2 $410
Big Rock - decommission 2 -- -- 1 -- 3
JHCampbell intake line -- -- -- -- -- --
Coal ash disposal areas 57 -- (1) 1 -- 57
Wells at gas storage fields 1 -- -- -- -- 1
Indoor gas services relocations 1 -- -- -- -- 1
Asbestos abatement 35 -- (1) 1 -- 35
Natural gas-fired power plant 1 -- (1) -- -- --
Close gas treating plant and
gas wells 2 -- (1) -- -- 1
---- --- --- --- --- ----
Total $500(a) $-- $(4) $10 $ 2 $508
==== === === === === ====
(a) $2 million in ARO liabilities moved to Noncurrent liabilities held for sale
on our Consolidated Balance Sheets at December 31, 2006. These AROs were
subsequently settled as a result of the sale of our businesses in Argentina
and our northern Michigan non-utility natural gas assets to Lucid Energy.
Cash payments of $2 million are included in the Other current and
non-current liabilities line in Net cash provided by operating activities
in our Consolidated Statements of Cash Flows.
In April 2007, we sold Palisades to Entergy and paid Entergy to assume ownership
and responsibility for the Big Rock ISFSI. Our AROs related to Palisades and Big
Rock ISFSI ended with the sale and the related ARO liabilities will be removed
from our Consolidated Balance Sheets. We also expect to
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CMS Energy Corporation
remove the Big Rock ARO related to the plant in the second quarter of 2007 due
to the completion of decommissioning.
In October 2004, the MPSC initiated a generic proceeding to review SFAS No. 143,
FERC Order No. 631, Accounting, Financial Reporting, and Rate Filing
Requirements for Asset Retirement Obligations, and related accounting and
ratemaking issues for MPSC-jurisdictional electric and gas utilities. In August
2006, the ALJ issued a Proposal for Decision that included recommendations that
the MPSC:
- - adopt SFAS No. 143 and FERC Order No. 631 for accounting purposes but not
for ratemaking purposes,
- - consider adopting standardized retirement units for certain accounts,
- - consider revising the method of determining cost of removal, and
- - withhold approving blanket regulatory asset and regulatory liability
accounting treatment related to ARO, stating that modifications to the
MPSC's Uniform System of Accounts should precede any such accounting
approval.
We consider the proceeding a clarification of accounting and reporting issues
that relate to all Michigan utilities. We cannot predict the outcome of the
proceeding.
10: EQUITY METHOD INVESTMENTS
Where ownership is more than 20 percent but less than a majority, we account for
certain investments in other companies, partnerships, and joint ventures by the
equity method of accounting, in accordance with APB Opinion No. 18. Earnings
from equity method investments were $19 million for the three months ended March
31, 2007 and $36 million for the three months ended March 31, 2006. The amount
of consolidated retained earnings that represent undistributed earnings from
these equity method investments were $6 million as of March 31, 2007 and $15
million as of March 31, 2006. The most significant of these investments was our
50 percent interest in Jorf Lasfar, which was sold in May 2007.
Summarized financial information for Jorf Lasfar is as follows:
Income Statement Data
In Millions
------------------
JORF LASFAR Three Months Ended
- ----------- ------------------
March 31 2007 2006
- -------- ---- ----
Operating revenue $124 $118
Operating expense 83 78
---- ----
Operating income 41 40
Other expense, net 36 15
---- ----
Net income $ 5 $ 25
==== ====
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CMS Energy Corporation
11: REPORTABLE SEGMENTS
Our reportable segments consist of business units organized and managed by the
nature of products and services each provides. We evaluate performance based
upon the net income of each segment. We operate principally in three reportable
segments: electric utility, gas utility, and enterprises.
"Other" includes corporate interest and other expenses and benefits. The
following tables show our financial information by reportable segment:
In Millions
------------------
Three Months Ended
------------------
March 31 2007 2006
- -------- ---- ----
Operating Revenue
Electric utility $ 844 $ 729
Gas utility 1,211 1,041
Enterprises 182 167
------ ------
Total Operating Revenue $2,237 $1,937
------ ------
Net Income (Loss) Available to Common Stockholders
Electric utility $ 51 $ 29
Gas utility 57 37
Enterprises (187) (58)
Discontinued operations (180) 8
Other 44 (43)
------ ------
Total Net Loss Available to Common Stockholders $ (215) $ (27)
====== ======
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Assets
Electric utility (a) $ 8,557 $ 8,516
Gas utility (a) 3,410 3,950
Enterprises (b) 2,313 2,339
Other 997 566
------- -------
Total Assets $15,277 $15,371
======= =======
(a) Amounts include a portion of Consumers' other common assets attributable to
both the electric and gas utility businesses.
(b) Includes $273 million of assets classified as held for sale at March 31,
2007 and $469 million at December 31, 2006.
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Consumers Energy Company
CONSUMERS ENERGY COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS
In this MD&A, Consumers Energy, which includes Consumers Energy Company and all
of its subsidiaries, is at times referred to in the first person as "we," "our"
or "us." This MD&A has been prepared in accordance with the instructions to Form
10-Q and Item 303 of Regulation S-K. This MD&A should be read in conjunction
with the MD&A contained in Consumers Energy's Form 10-K for the year ended
December 31, 2006.
EXECUTIVE OVERVIEW
Consumers, a subsidiary of CMS Energy, a holding company, is a combination
electric and gas utility company serving Michigan's Lower Peninsula. Our
customer base includes a mix of residential, commercial, and diversified
industrial customers.
We manage our business by the nature of services each provides and operate
principally in two business segments: electric utility and gas utility. Our
electric utility operations include the generation, purchase, distribution, and
sale of electricity. Our gas utility operations include the purchase,
transportation, storage, distribution, and sale of natural gas.
We earn our revenue and generate cash from operations by providing electric and
natural gas utility services, electric power generation, gas distribution,
transmission, and storage, and other energy related services. Our businesses are
affected primarily by:
- weather, especially during the normal heating and cooling seasons,
- economic conditions,
- regulation and regulatory issues,
- energy commodity prices,
- interest rates, and
- our debt credit rating.
During the past several years, our business strategy has involved improving our
consolidated balance sheet and maintaining focus on our core strength: utility
operations and service.
In April 2007, we sold Palisades to Entergy for $380 million. The final purchase
price was subject to various closing adjustments resulting in us receiving $361
million. We also paid Entergy $30 million to assume ownership and responsibility
for the Big Rock Independent Spent Fuel Storage Installation (ISFSI). We entered
into a 15-year power purchase agreement with Entergy for 100 percent of the
plant's current electric output. The sale resulted in an immediate improvement
in our cash flow, a reduction in our nuclear operating and decommissioning risk,
and an improvement in our financial flexibility to support other utility
investments. The MPSC order approving the transaction requires that $255 million
be credited to our retail customers through refunds applied over the remainder
of 2007 and 2008.
Natural gas prices are volatile and have an impact on working capital and cash
flow. Although our natural gas costs are recoverable from our utility customers,
higher-priced natural gas stored as inventory requires additional liquidity due
to the lag in cost recovery.
CE-1
Consumers Energy Company
In the future, we will continue to focus on:
- investing in our utility system to enable us to meet our customer
commitments, comply with increasing environmental performance
standards, and maintain adequate supply and capacity,
- growing earnings while controlling operating costs, and
- managing cash flow issues.
As we execute our strategy, we will need to overcome a sluggish Michigan economy
that has been hampered by negative developments in Michigan's automotive
industry and limited growth in the non-automotive sectors of the state's
economy. The return of ROA customer load has offset some of these negative
effects. At March 31, 2007, alternative electric suppliers were providing 283 MW
of generation service to ROA customers. This is 3 percent of our total
distribution load and represents a decrease of 19 percent of ROA load compared
to March 31, 2006.
FORWARD-LOOKING STATEMENTS AND INFORMATION
This Form 10-Q and other written and oral statements that we make contain
forward-looking statements as defined by the Private Securities Litigation
Reform Act of 1995. Our intention with the use of words such as "may," "could,"
"anticipates," "believes," "estimates," "expects," "intends," "plans," and other
similar words is to identify forward-looking statements that involve risk and
uncertainty. We designed this discussion of potential risks and uncertainties to
highlight important factors that may impact our business and financial outlook.
We have no obligation to update or revise forward-looking statements regardless
of whether new information, future events, or any other factors affect the
information contained in the statements. These forward-looking statements are
subject to various factors that could cause our actual results to differ
materially from the results anticipated in these statements. Such factors
include our inability to predict and (or) control:
- the price of CMS Energy Common Stock, capital and financial market
conditions, and the effect of such market conditions on the Pension
Plan, interest rates, and access to the capital markets, including
availability of financing to Consumers, CMS Energy, or any of their
affiliates, and the energy industry,
- market perception of the energy industry, Consumers, CMS Energy, or
any of their affiliates,
- credit ratings of Consumers, CMS Energy, or any of their affiliates,
- factors affecting utility and diversified energy operations, such as
unusual weather conditions, catastrophic weather-related damage,
unscheduled generation outages, maintenance or repairs, environmental
incidents, or electric transmission or gas pipeline system
constraints,
- international, national, regional, and local economic, competitive,
and regulatory policies, conditions and developments,
- adverse regulatory or legal decisions, including those related to
environmental laws and regulations, and potential environmental
remediation costs associated with such decisions,
- potentially adverse regulatory treatment and (or) regulatory lag
concerning a number of significant questions presently before the MPSC
including:
CE-2
Consumers Energy Company
- recovery of Clean Air Act capital and operating costs and other
environmental and safety-related expenditures,
- power supply and natural gas supply costs when fuel prices are
increasing and (or) fluctuating,
- timely recognition in rates of additional equity investments in
Consumers,
- adequate and timely recovery of additional electric and gas rate-based
investments,
- adequate and timely recovery of higher MISO energy and transmission
costs,
- recovery of Stranded Costs incurred due to customers choosing
alternative energy suppliers,
- recovery of Palisades plant sale-related costs, and
- impact of possible regulation or legislation regarding carbon dioxide
and other greenhouse gas emissions,
- - the effects on our ability to purchase capacity to serve our customers and
fully recover the cost of these purchases, if we exercise our regulatory
out rights and the owners of the MCV Facility exercise their right to
terminate the MCV PPA,
- - federal regulation of electric sales and transmission of electricity,
including periodic re-examination by federal regulators of our market-based
sales authorizations in wholesale power markets without price restrictions,
- - energy markets, including availability of capacity and the timing and
extent of changes in commodity prices for oil, coal, natural gas, natural
gas liquids, electricity and certain related products due to lower or
higher demand, shortages, transportation costs problems, or other
developments,
- - our ability to collect accounts receivable from our customers,
- - earnings volatility as a result of the GAAP requirement that we utilize
mark-to-market accounting on certain energy commodity contracts and
interest rate swaps, which may have, in any given period, a significant
positive or negative effect on earnings, which could change dramatically or
be eliminated in subsequent periods,
- - the effect on our electric utility of the direct and indirect impacts of
the continued economic downturn experienced by our automotive and
automotive parts manufacturing customers,
- - potential disruption or interruption of facilities or operations due to
accidents or terrorism, and the ability to obtain or maintain insurance
coverage for such events,
- - the outcome of pending litigation regarding the DOE liability for spent
nuclear fuel storage during former ownership and operation of nuclear power
plants,
- - technological developments in energy production, delivery, and usage,
- - achievement of capital expenditure and operating expense goals,
- - changes in financial or regulatory accounting principles or policies,
- - changes in tax laws or new IRS interpretations of existing or past tax
laws,
- - outcome, cost, and other effects of legal and administrative proceedings,
settlements,
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investigations and claims,
- disruptions in the normal commercial insurance and surety bond markets
that may increase costs or reduce traditional insurance coverage,
particularly terrorism and sabotage insurance and performance bonds,
- other business or investment considerations that may be disclosed from
time to time in Consumers' or CMS Energy's SEC filings, or in other
publicly issued written documents, and
- other uncertainties that are difficult to predict, many of which are
beyond our control.
For additional information regarding these and other uncertainties, see the
"Outlook" section included in this MD&A, Note 2, Contingencies, and Part II,
Item 1A. Risk Factors.
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RESULTS OF OPERATIONS
NET INCOME AVAILABLE TO COMMON STOCKHOLDER
In Millions
--------------------
Three months ended March 31 2007 2006 Change
- --------------------------- ---- ---- ------
Electric $ 51 $ 29 $ 22
Gas 57 37 20
Other (Includes the MCV Partnership and FMLP interests) 4 (56) 60
---- ---- ----
Net income available to common stockholder $112 $ 10 $102
==== ==== ====
For the three months ended March 31, 2007, net income available to our common
stockholder was $112 million, compared to $10 million for the three months ended
March 31, 2006. The increase primarily reflects the sale of our ownership
interest in the MCV Partnership in late 2006. Accordingly, in 2007 we are no
longer experiencing mark-to-market losses on certain long-term gas contracts and
associated financial hedges at the MCV Partnership. The increase also reflects
higher net income from our electric and gas utilities due to higher,
weather-driven sales caused by colder weather compared to 2006, and a gas rate
increase authorized in November 2006. Partially offsetting these gains are
higher operating and maintenance expenses at our gas utility.
Specific changes to net income available to our common stockholder for 2007
versus 2006 are:
In Millions
-----------
- - decrease in losses from our ownership interest in the MCV
Partnership primarily due to the absence, in 2007, of
mark-to-market losses on certain long-term gas contracts and
financial hedges, $ 57
- - increase in gas delivery revenue primarily due to the MPSC's
November 2006 gas rate order, 21
- - increase in electric delivery revenue primarily due to colder
weather, and 15
- - increase in gas delivery revenue primarily due to colder
weather 9
----
Total Change $102
====
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ELECTRIC UTILITY RESULTS OF OPERATIONS
In Millions
--------------------
March 31 2007 2006 Change
- -------- ---- ---- ------
Net Income for the three months ended $51 $29 $22
=== === ===
Reasons for the change:
Electric deliveries $24
Other operating expenses, other income
and non-commodity revenue 9
General taxes (4)
Interest charges 1
Income taxes (8)
---
Total change $22
===
ELECTRIC DELIVERIES: In the first quarter of 2007, electric delivery revenues
increased by $24 million over 2006 as deliveries to end-use customers were 9.5
billion kWh, an increase of 0.2 billion kWh or 2 percent versus 2006. The
increase in electric deliveries was primarily due to colder weather in the first
quarter of 2007 versus 2006 and resulted in an increase in electric delivery
revenue of $17 million. Average temperatures in the first quarter of 2007 were
3.8 degrees colder than the same period last year.
In the first quarter of 2006, we started collecting a surcharge that the MPSC
authorized under Section 10d(4) of the Customer Choice Act. Due to timing
considerations, this surcharge increased electric delivery revenue by $5 million
in the first quarter of 2007 versus 2006.
The Customer Choice Act allows all of our electric customers to buy electric
generation service from us or from an alternative electric supplier. At March
31, 2007, alternative electric suppliers were providing 283 MW of generation
service to ROA customers. This amount represents a decrease of 19 percent
compared to March 31, 2006. The return of former ROA customers to full-service
rates increased electric delivery revenue $2 million in the first quarter of
2007 versus 2006.
OTHER OPERATING EXPENSES, OTHER INCOME AND NON-COMMODITY REVENUE: In the first
quarter of 2007, other operating expenses decreased $1 million, other income
increased $6 million, and non-commodity revenue increased $2 million versus
2006.
The decrease in other operating expenses was primarily due to lower operating
and maintenance expense, including reductions to certain workers' compensation
and injuries and damages expense. These decreases were offset partially by
higher depreciation, amortization, and overhead expense. Operating and
maintenance expense decreased primarily due to the absence, in 2007, of costs
incurred in 2006 related to a planned refueling outage at our Palisades nuclear
plant, and lower overhead line maintenance and storm restoration costs.
Depreciation and amortization expense increased due to higher plant in service
and greater amortization of certain regulatory assets. Overhead expense
increased primarily due to costs related to our voluntary separation program and
costs associated with our utility reorganization.
The increase in other income was primarily due to higher income associated with
our Section 10d(4) Regulatory Asset. This increase reflects the absence, in
2007, of the impact of the MPSC's final order in
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this case. The increase in non-commodity revenue was primarily due to higher
revenue from customer late payment fees.
GENERAL TAXES: In the first quarter of 2007, general tax expense increased
primarily due to higher property tax and MSBT expense versus 2006.
INTEREST CHARGES: In the first quarter of 2007, interest charges decreased due
to lower average debt levels and lower interest expense associated with
potential customer refunds versus 2006.
INCOME TAXES: In the first quarter of 2007, income taxes increased primarily due
to higher earnings by the electric utility versus 2006. Partially offsetting
this increase is the absence, in 2007, of adjustments to certain deferred tax
balances. For additional details, see Note 7, Income Taxes.
GAS UTILITY RESULTS OF OPERATIONS
In Millions
--------------------
March 31 2007 2006 Change
- -------- ---- ---- ------
Net Income for the three months ended $ 57 $37 $ 20
==== === ====
Reasons for the change:
Gas deliveries $ 14
Gas rate increase 33
Other gas revenue and other income 4
Operation and maintenance (13)
Depreciation and general taxes (5)
Interest charges (2)
Income taxes (11)
----
Total change $ 20
----
GAS DELIVERIES: In the first quarter of 2007, gas delivery revenues increased by
$14 million over 2006 as deliveries, including miscellaneous transportation to
end-use customers, were 137 bcf, an increase of 14 bcf or 11 percent versus
2006. The increase in gas deliveries was primarily due to colder weather in the
first quarter of 2007 versus 2006. Average temperatures in the first quarter of
2007 were 3.8 degrees colder than the same period last year.
GAS RATE INCREASE: In November 2006, the MPSC issued an order authorizing an
annual rate increase of $81 million. As a result of this order, gas revenues
increased $33 million for the first quarter of 2007 versus 2006.
OTHER GAS REVENUE AND OTHER INCOME: In the first quarter of 2007, other gas
revenue and other income increased $4 million versus 2006 primarily due to
higher pipeline capacity optimization revenue.
OPERATION AND MAINTENANCE: In the first quarter of 2007, operation and
maintenance expenses increased versus 2006 primarily due to higher customer
service and overhead expense. Customer service expense increased primarily due
to higher uncollectible accounts expense and contributions, beginning in
November 2006 pursuant to a November 2006 MPSC order, to a fund that provides
energy assistance to low-income customers. Overhead expense increased primarily
due to costs related to our voluntary
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separation program and costs associated with our utility reorganization.
DEPRECIATION AND GENERAL TAXES: In the first quarter of 2007, depreciation
expense increased versus 2006 primarily due to higher plant in service. General
tax expense also increased, primarily due to higher property tax expense.
INTEREST CHARGES: In the first quarter of 2007, interest charges reflect higher
interest on our GCR overrecovery balance, offset partially by lower average debt
levels versus 2006.
INCOME TAXES: In the first quarter of 2007, income taxes increased versus 2006
primarily due to higher earnings by the gas utility.
OTHER NONUTILITY RESULTS OF OPERATIONS
In Millions
--------------------
March 31 2007 2006 Change
- -------- ---- ---- ------
--- ---- ---
Net Income for the three months ended $4 $(56) $60
=== ==== ===
In the first quarter of 2007, net income from other nonutility operations was $4
million, an increase of $60 million versus 2006. In late 2006 we sold our
ownership interest in the MCV Partnership. The change in earnings reflects the
absence, in 2007, of a $57 million loss related to our ownership interest in the
MCV Partnership. The loss in 2006 primarily reflects mark-to-market losses on
certain long-term gas contracts and associated financial hedges.
CRITICAL ACCOUNTING POLICIES
The following accounting policies are important to an understanding of our
results of operations and financial condition and should be considered an
integral part of our MD&A. For additional accounting policies, see Note 1,
Corporate Structure and Accounting Policies.
USE OF ESTIMATES AND ASSUMPTIONS
We use estimates and assumptions in preparing our consolidated financial
statements that may affect reported amounts and disclosures. We use accounting
estimates for asset valuations, depreciation, amortization, financial and
derivative instruments, employee benefits, and contingencies. For example, we
estimate the rate of return on plan assets and the cost of future health-care
benefits to determine our annual pension and other postretirement benefit costs.
Actual results may differ from estimated results due to factors such as changes
in the regulatory environment, competition, regulatory decisions, and lawsuits.
CONTINGENCIES: We are involved in various regulatory and legal proceedings that
arise in the ordinary course of our business. We record a liability for
contingencies based upon our assessment that a loss is probable and the amount
of loss can be reasonably estimated. We use the principles in SFAS No. 5 when
recording estimated liabilities for contingencies. We consider many factors in
making these assessments, including the history and specifics of each matter. We
discuss significant contingencies in the "Outlook" section included in this
MD&A.
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Consumers Energy Company
ACCOUNTING FOR FINANCIAL AND DERIVATIVE INSTRUMENTS AND MARKET RISK INFORMATION
FINANCIAL INSTRUMENTS: Debt and equity securities classified as
available-for-sale are reported at fair value determined from quoted market
prices. Debt and equity securities classified as held-to-maturity are reported
at cost.
Unrealized gains or losses resulting from changes in fair value of certain
available-for-sale debt and equity securities are reported, net of tax, in
equity as part of AOCI. Unrealized gains or losses are excluded from earnings
unless the related changes in fair value are determined to be other than
temporary. Unrealized gains or losses on our nuclear decommissioning investments
are reflected as regulatory liabilities on our Consolidated Balance Sheets.
Realized gains or losses would not affect our consolidated earnings or cash
flows.
DERIVATIVE INSTRUMENTS: We account for derivative instruments in accordance with
SFAS No. 133. Since the year ended December 31, 2006, there have been no
significant changes in the amount or types of derivatives that we hold or to how
we account for derivatives. For additional details on our derivatives, see Note
4, Financial and Derivative Instruments.
To determine the fair value of our derivatives, we use information from external
sources (i.e., quoted market prices and third-party valuations), if available.
For certain contracts, this information is not available and we use mathematical
valuation models to value our derivatives. These models require various inputs
and assumptions, including commodity market prices and volatilities, as well as
interest rates and contract maturity dates. Changes in forward prices or
volatilities could significantly change the calculated fair value of our
derivative contracts. The cash returns we actually realize on these contracts
may vary, either positively or negatively, from the results that we estimate
using these models. As part of valuing our derivatives at market, we maintain
reserves, if necessary, for credit risks arising from the financial condition of
our counterparties.
MARKET RISK INFORMATION: The following is an update of our risk sensitivities
since December 31, 2006. These sensitivities indicate the potential loss in fair
value, cash flows, or future earnings from our financial instruments, including
our derivative contracts, assuming a hypothetical adverse change in market rates
or prices of 10 percent. Changes in excess of the amounts shown in the
sensitivity analyses could occur if changes in market rates or prices exceed the
10 percent shift used for the analyses.
Interest Rate Risk Sensitivity Analysis (assuming an increase in market interest
rates of 10 percent):
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Variable-rate financing - before tax annual earnings exposure $ 2 $ 3
Fixed-rate financing - potential REDUCTION in fair value (a) 128 134
(a) Fair value reduction could only be realized if we repurchased all of our
fixed-rate financing.
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Commodity Price Risk Sensitivity Analysis (assuming an adverse change in market
prices of 10 percent):
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Potential REDUCTION in fair value of fixed fuel price
contracts (a) $-- $1
(a) In 2006, we entered into two contracts that fix the prices we pay for
gasoline and diesel fuel used in our fleet vehicles and equipment through
September 2007. These contracts are derivatives with an immaterial fair
value at March 31, 2007.
Investment Securities Price Risk Sensitivity Analysis (assuming an adverse
change in market prices of 10 percent):
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Potential REDUCTION in fair value of available-for-sale
equity securities (SERP investments and investment in CMS
Energy common stock) $6 $6
We maintained trust funds, as required by the NRC, for the purpose of funding
certain costs of nuclear plant decommissioning through April 2007, the date of
the sale of Palisades. These funds were invested primarily in equity securities,
fixed-rate, fixed-income debt securities, and cash and cash equivalents, and
have been recorded at fair value on our Consolidated Balance Sheets. These
investments were exposed to price fluctuations in equity markets and changes in
interest rates. Because the accounting for nuclear plant decommissioning
recognized that costs were recovered through our electric rates, fluctuations in
equity prices or interest rates did not affect our consolidated earnings or cash
flows.
For additional details on market risk and derivative activities, see Note 4,
Financial and Derivative Instruments. For additional details on nuclear plant
decommissioning at Big Rock and Palisades, see the "Other Electric Business
Uncertainties - Nuclear Matters" section included in this MD&A.
OTHER
Other accounting policies important to an understanding of our results of
operations and financial condition include:
- accounting for long-lived assets and equity method investments,
- accounting for the effects of industry regulation,
- accounting for pension and OPEB,
- accounting for asset retirement obligations,
- accounting for nuclear decommissioning costs, and
- accounting for related party transactions.
These accounting policies were disclosed in our 2006 Form 10-K and there have
been no subsequent material changes.
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Consumers Energy Company
CAPITAL RESOURCES AND LIQUIDITY
Factors affecting our liquidity and capital requirements are:
- results of operations,
- capital expenditures,
- energy commodity and transportation costs,
- contractual obligations,
- regulatory decisions,
- debt maturities,
- credit ratings,
- working capital needs, and
- collateral requirements.
During the summer months, we purchase natural gas and store it for resale
primarily during the winter heating season. Although our prudent natural gas
costs are recoverable from our customers, the amount paid for natural gas stored
as inventory requires additional liquidity due to the lag in cost recovery. We
have credit agreements with our commodity suppliers containing terms that can
result in margin calls. While we currently have no outstanding margin calls
associated with our natural gas purchases, they may be required if agency
ratings are lowered or if market conditions become unfavorable relative to our
obligations to those parties.
Our current financial plan includes controlling operating expenses and capital
expenditures and evaluating market conditions for financing opportunities, if
needed.
We believe the following items will be sufficient to meet our liquidity needs:
- our current level of cash and revolving credit facilities,
- our anticipated cash flows from operating and investing activities,
and
- our ability to access secured and unsecured borrowing capacity in the
capital markets, if necessary.
In the first quarter of 2007, Moody's and S&P affirmed our credit ratings and
revised the rating outlook to positive from stable. Additionally, Fitch Ratings
upgraded credit ratings on certain of our securities.
CASH POSITION, INVESTING, AND FINANCING
Our operating, investing, and financing activities meet consolidated cash needs.
At March 31, 2007, we had $97 million of consolidated cash, which includes $58
million of restricted cash.
SUMMARY OF CASH FLOWS:
In Millions
------------
Three Months Ended March 31 2007 2006
- --------------------------- ----- ----
Net cash provided by (used in):
Operating activities $ 371 $ 69
Investing activities (221) (23)
----- ----
Net cash provided by operating and investing activities 150 46
Financing activities (148) (9)
----- ----
Net Increase in Cash and Cash Equivalents $ 2 $ 37
===== ====
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Consumers Energy Company
OPERATING ACTIVITIES: For the three months ended March 31, 2007, net cash
provided by operating activities was $371 million, an increase of $302 million
versus 2006. This increase was primarily due to increased earnings, the timing
of accounts payable, increased usage of gas inventory in storage, and the
absence of the MCV Partnership gas supplier funds on deposit, partially offset
by the timing of accounts receivable. We experienced colder weather in the first
quarter of 2007 versus 2006. The timing of payments for increased natural gas
purchases to meet customer demand in the first quarter of 2007, coupled with the
absence of payments for higher priced gas made during the first quarter of 2006,
increased our operating cash flow. A mild winter in 2006 allowed us to
accumulate more gas in our underground storage facilities. The increased usage
of gas already in storage during the first quarter of 2007 also increased our
operating cash flow. These increases were reduced partially by the timing of our
collection of increased billings in the first quarter of 2007 due to recent
regulatory actions and weather-driven demand.
INVESTING ACTIVITIES: For the three months ended March 31, 2007, net cash used
in investing activities was $221 million, an increase of $198 million versus
2006. This increase was due to the absence in 2007 of $128 million of restricted
cash released in February 2006 and an increase in capital expenditures.
FINANCING ACTIVITIES: For the three months ended March 31, 2007, net cash used
in financing activities was $148 million, an increase of $139 million versus
2006. This increase was primarily due to an increase in common stock dividends
to the parent and the absence of a cash infusion from the parent.
OBLIGATIONS AND COMMITMENTS
REVOLVING CREDIT FACILITY: For details on our revolving credit facility, see
Note 3, Financings and Capitalization.
DIVIDEND RESTRICTIONS: For details on dividend restrictions, see Note 3,
Financings and Capitalization.
OFF-BALANCE SHEET ARRANGEMENTS: We enter into various arrangements in the normal
course of business to facilitate commercial transactions with third parties.
These arrangements include indemnifications, letters of credit and surety bonds.
We enter into agreements containing indemnifications standard in the industry
and indemnifications specific to a transaction, such as the sale of a
subsidiary. Indemnifications are usually agreements to reimburse other companies
if those companies incur losses due to third-party claims or breach of contract
terms. Banks, on our behalf, issue letters of credit guaranteeing payment to a
third-party. Letters of credit substitute the bank's credit for ours and reduce
credit risk for the third-party beneficiary. We monitor these obligations and
believe it is unlikely that we would be required to perform or otherwise incur
any material losses associated with these guarantees. For additional details on
these arrangements, see Note 2, Contingencies, "Other Contingencies - FASB
Interpretation No. 45, Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others."
SALE OF ACCOUNTS RECEIVABLE: Under a revolving accounts receivable sales
program, we may sell up to $325 million of certain accounts receivable. The
highly liquid and efficient market for securitized financial assets provides a
lower cost source of funding compared to unsecured debt. For additional details,
see Note 3, Financings and Capitalization.
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OUTLOOK
CORPORATE OUTLOOK
Our business strategy will focus on investing in our utility system to enable us
to meet our customer commitments, comply with increasing environmental
performance standards, and maintain adequate supply and capacity.
In the first quarter of 2007, we completed a reorganization of the company that
we announced in November 2006. The reorganization improves operating efficiency,
reliability, and customer service.
ELECTRIC BUSINESS OUTLOOK
GROWTH: In 2007, we expect electric deliveries to grow about one-half of one
percent compared to 2006 levels. The outlook for 2007 assumes a small decline in
industrial economic activity and normal weather conditions throughout the
remainder of the year.
Over the next five years, we expect electric deliveries to grow at an average
rate of 1.5 percent per year. This outlook assumes a modestly growing customer
base and a stabilizing Michigan economy after 2007. This growth rate includes
both full-service sales and delivery service to customers who choose to buy
generation service from an alternative electric supplier, but excludes
transactions with other wholesale market participants and other electric
utilities. This growth rate reflects a long-range expected trend of growth.
Growth from year to year may vary from this trend due to customer response to
the following:
- energy conservation measures,
- fluctuations in weather conditions, and
- changes in economic conditions, including utilization and expansion or
contraction of manufacturing facilities.
ELECTRIC CUSTOMER REVENUE OUTLOOK: Our electric utility customer base includes a
mix of residential, commercial, and diversified industrial customers. In 2006,
Michigan's automotive industry experienced manufacturing facility closures and
restructurings. Our electric utility results are not dependent upon a single
customer, or even a few customers, and customers in the automotive sector
represented five percent of our total 2006 electric revenue. We cannot predict
the impact of current or possible future restructuring plans or possible future
actions by our industrial customers.
ELECTRIC RESERVE MARGIN: We are planning for a reserve margin of approximately
11 percent for summer 2007, or supply resources equal to 111 percent of
projected firm summer peak load. Of the 2007 supply resources target of 111
percent, we expect 96 percent to come from our electric generating plants and
long-term power purchase contracts, and 15 percent to come from other
contractual arrangements. Our 15-year power purchase agreement with Entergy for
100 percent of the Palisades facility's current electric output will offset the
reduction in the owned capacity represented by the sale of the Palisades
facility in April 2007. We have purchased capacity and energy contracts covering
partially the estimated reserve margin requirements for 2007 through 2010. As a
result, we recognized an asset of $62 million for unexpired seasonal capacity
and energy contracts at March 31, 2007.
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After September 15, 2007, we expect to exercise the regulatory out provision in
the MCV PPA, resulting in a reduction in the amount paid to the MCV Partnership
to equal the amount we are allowed to recover in the rate charged to customers.
If we are successful in exercising this provision, the MCV Partnership may,
under certain circumstances, have the right to terminate the MCV PPA, which
could affect our reserve margin status. The MCV PPA represents 13 percent of our
2007 supply resources target.
ELECTRIC UTILITY PLANT OUTAGE: In September 2006, we removed from service unit
three of the J.H. Campbell electric generating plant, representing 765 MW of our
capacity. The scheduled outage was for installation of equipment necessary to
comply with environmental standards. We expected the unit to return to service
in March 2007. However, the outage extended to May 1, 2007 due to unanticipated
delays in construction due to labor shortages, the collapse of an outdoor crane
on unit three and problems with a major generator component that was refurbished
by the original equipment manufacturer. The MPSC allows for the recovery of
reasonable and prudent replacement power costs.
ELECTRIC TRANSMISSION EXPENSES: METC, which provides electric transmission
service to us, increased substantially the transmission rates it charged us in
2006. The revenue collected by METC under those rates is subject to refund
pending a FERC ruling. In January 2007, the parties filed a settlement agreement
with the FERC. This settlement, if approved by the FERC, will result in a refund
of 2006 transmission charges of $18 million and a corresponding reduction of our
power supply costs. For additional details on power supply costs, see Note 2,
Contingencies, "Electric Rate Matters - Power Supply Costs."
21ST CENTURY ELECTRIC ENERGY PLAN: In January 2007, the chairman of the MPSC
proposed three major policy initiatives to the governor of Michigan. The
initiatives involve the use of more renewable energy resources by all
load-serving entities such as Consumers, the creation of an energy efficiency
program, and a procedure for reviewing proposals to construct new generation
facilities. The January proposal indicated that Michigan needs new base-load
capacity by 2015 and recommends measures to make it easier to predict customer
demand and revenues. The proposed initiatives will require changes to current
legislation. We will continue to participate as the MPSC, legislature, and other
stakeholders address future electric resource needs.
BALANCED ENERGY INITIATIVE: In May 2007, we filed a "Balanced Energy Initiative"
with the MPSC providing a comprehensive energy resource plan to meet our
projected short-term and long-term electric power requirements. The plan is
responsive to the 21st Century Electric Energy Plan and assumes that Michigan
will implement a state-wide energy efficiency program and a renewable energy
portfolio standard. The filing requests the MPSC to rule that the Balanced
Energy Initiative represents a reasonable and prudent plan for the acquisition
of necessary electric utility resources.
As acknowledged in the 21st Century Electric Energy Plan, implementation of the
Balanced Energy Initiative will require legislative repeal or significant reform
of the Michigan customer choice law. In addition, we endorse the 21st Century
Electric Energy Plan recommendation to adopt a new, up-front certification
policy for major power plant investments. Our filing requests the MPSC to find
that the addition of 500 MW of gas-fired combined cycle generating capacity is
reasonable and prudent. This addition could be in the form of the construction
of a new gas-fired generating plant to begin service in 2011, or in the form of
a purchase of an existing gas-fired facility. The filing also recommends
construction of a new 750 MW clean coal generating facility on an existing
Consumers site to begin operation in 2015. Ownership of 250 MW of the total
capacity is assumed to be allocated to municipal entities or other interested
parties, resulting in 500 MW dedicated to us.
PROPOSED RENEWABLE ENERGY LEGISLATION: There are various bills introduced into
in the U.S. Congress and the Michigan legislature relating to mandatory
renewable energy standards. If enacted, these bills generally would require
electric utilities to acquire a certain percentage of their power from renewable
sources or otherwise pay fees or purchase allowances in lieu of having the
resources. We cannot predict whether any such bill will be enacted or in what
form.
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Consumers Energy Company
ELECTRIC BUSINESS UNCERTAINTIES
Several electric business trends or uncertainties may affect our financial
condition and future results of operations. These trends or uncertainties have,
or we reasonably expect could have, a material impact on revenues or income from
continuing electric operations.
ELECTRIC ENVIRONMENTAL ESTIMATES: Our operations are subject to environmental
laws and regulations. Costs to operate our facilities in compliance with these
laws and regulations generally have been recovered in customer rates.
Clean Air Act: Compliance with the federal Clean Air Act and resulting
regulations continues to be a significant focus for us. The Nitrogen Oxide State
Implementation Plan requires significant reductions in nitrogen oxide emissions.
To comply with the regulations, we expect to incur capital expenditures totaling
$835 million. These expenditures include installing selective catalytic
reduction control technology on four of our coal-fired electric generating
units. The key assumptions in the capital expenditure estimate include:
- construction commodity prices, especially construction material and
labor,
- project completion schedules,
- cost escalation factor used to estimate future years' costs, and
- an AFUDC capitalization rate.
Our current capital cost estimates include an escalation rate of 2.6 percent and
an AFUDC capitalization rate of 7.8 percent. From 1998 to present, we have
incurred $760 million in capital expenditures to comply with the federal Clean
Air Act and resulting regulations and anticipate that the remaining $75 million
of capital expenditures will be made in 2007 through 2011.
In addition to modifying coal-fired electric generating plants, our compliance
plan includes the use of nitrogen oxide emission allowances until all of the
control equipment is operational in 2011. The nitrogen oxide emission allowance
annual expense is projected to be $3 million per year, which we expect to
recover from our customers through the PSCR process. The projected annual
expense is based on market price forecasts and forecasts of regulatory
provisions, known as progressive flow control, that restrict the usage in any
given year of allowances banked from previous years. The allowances and their
cost are accounted for as inventory. The allowance inventory is expensed at the
rolling average cost as the electric generating plants emit nitrogen oxide.
Clean Air Interstate Rule: In March 2005, the EPA adopted the Clean Air
Interstate Rule that requires additional coal-fired electric generating plant
emission controls for nitrogen oxides and sulfur dioxide. We plan to meet the
nitrogen oxide requirements of this rule by year-round operation of our
selective catalytic reduction control technology units, installation of low
nitrogen oxide burners, and purchasing emission allowances. We plan to meet the
sulfur dioxide requirements of this rule using sorbent injection, installation
of flue gas desulfurization scrubbers and purchasing emission allowances. Our
total cost for equipment installation is expected to reach approximately $700
million by 2015. Additional purchases of sulfur dioxide emission allowances in
2012 and 2013 will be needed for an estimated cost of $12 million per year,
which we expect to recover from our customers through the PSCR process.
Clean Air Mercury Rule: Also in March 2005, the EPA issued the Clean Air Mercury
Rule, which requires initial reductions of mercury emissions from coal-fired
electric generating plants by 2010 and further reductions by 2018. In April
2006, Michigan's governor announced a plan that would result in
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mercury emissions reductions of 90 percent by 2015. We are currently working
with the MDEQ on the details of this rule; however, we have developed
preliminary cost estimates and a mercury emissions reduction plan based on our
best knowledge of control technology options and anticipated requirements. Our
plan includes expenditures of approximately $550 million for mercury control
equipment and continuous emissions monitoring systems through 2014.
The following table compares the federal Clean Air Mercury Rule to the proposed
state mercury rule:
2010 2015 2018
-------------------------- -------------------------- -------------------------
Clean Air Mercury Rule 30% reduction by 2010 70% reduction by 2018
with interstate trading with interstate trading
of allowances of allowances
$4 million in capital $136 million in capital
plus $30 million annually
in allowance purchases
Proposed State Mercury Rule 30% reduction by 2010 90% reduction by 2015
without interstate trading without interstate trading
of allowances of allowances
$4 million in capital $546 million in capital
Greenhouse gases: Several legislative proposals have been introduced in the
United States Congress that would require reductions in emissions of greenhouse
gases, including carbon dioxide. On April 2, 2007, the U.S. Supreme Court ruled
that the Clean Air Act gives the EPA the authority to regulate emissions of
carbon dioxide and other greenhouse gases from automobiles. In its decision, the
court ordered the EPA to revisit its contention that it has the discretion not
to regulate greenhouse gas emissions from automobiles.
To the extent that greenhouse gas emission reduction rules come into effect, the
mandatory emissions reduction requirements could have far-reaching and
significant implications for the energy sector. We cannot estimate the effect of
federal or state greenhouse gas policy on our future consolidated results of
operations, cash flows, or financial position due to the uncertain nature of the
policies at this time. However, we will continue to monitor greenhouse gas
policy developments and assess and respond to their potential implications on
our business operations.
Water: In March 2004, the EPA issued rules that govern electric generating plant
cooling water intake systems. The rules require significant reduction in fish
killed by operating equipment. EPA compliance options in the rule were
challenged in court. In January 2007, the court rejected many of the compliance
options favored by industry and remanded the bulk of the rule back to the EPA
for reconsideration. The court's ruling is expected to increase significantly
the cost of complying with this rule. However, the cost to comply will not be
known until the EPA's reconsideration is complete. At this time, the EPA has not
established a schedule to address the court decision.
For additional details on electric environmental matters, see Note 2,
Contingencies, "Electric Contingencies - Electric Environmental Matters."
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Consumers Energy Company
COMPETITION AND REGULATORY RESTRUCTURING: The Customer Choice Act allows all of
our electric customers to buy electric generation service from us or from an
alternative electric supplier. At March 31, 2007, alternative electric suppliers
were providing 283 MW of generation service to ROA customers. This is 3 percent
of our total distribution load and represents a decrease of 19 percent of ROA
load compared to March 31, 2006. In prior orders, the MPSC approved recovery of
Stranded Costs incurred from 2002 through 2003 through a surcharge applied to
ROA customers. If downward ROA trends continue, it may extend the time it takes
to recover fully our Stranded Costs. It is difficult to predict future ROA
customer trends, which affect our ability to recover timely our Stranded Costs.
ELECTRIC RATE CASE: In March 2007, we filed an application with the MPSC seeking
an 11.25 percent authorized return on equity and an annual increase in revenues
of $157 million. The increase includes a $23 million base rate reduction, the
addition of a $13 million surcharge for the return on investments in Big Rock,
and the elimination of $167 million Palisades base rate recovery credit in the
PSCR. If approved as requested, the rate requests would go into effect in
January 2008 and would apply to all retail electric customers. We cannot predict
the amount or timing of any MPSC decision on the requests.
For additional details and material changes relating to the restructuring of the
electric utility industry and electric rate matters, see Note 2, Contingencies,
"Electric Rate Matters."
OTHER ELECTRIC BUSINESS UNCERTAINTIES
THE MCV PARTNERSHIP: The MCV Partnership, which leases and operates the MCV
Facility, contracted to sell electricity to Consumers for a 35-year period
beginning in 1990.
Underrecoveries related to the MCV PPA: The cost that we incur under the MCV PPA
exceeds the recovery amount allowed by the MPSC. As a result, we estimate cash
underrecoveries of $39 million in 2007. However, we use the direct savings from
the RCP, after allocating a portion to customers, to offset a portion of our
capacity and fixed energy underrecoveries expense. After September 15, 2007, we
expect to claim relief under the regulatory out provision in the MCV PPA,
thereby limiting our capacity and fixed energy payments to the MCV Partnership
to the amounts that we collect from our customers. This action would eliminate
our underrecoveries of capacity and fixed energy payments.
The MCV Partnership has notified us that it takes issue with our intended
exercise of the regulatory out provision after September 15, 2007. We believe
that the provision is valid and fully effective, but cannot assure that it will
prevail in the event of a dispute. If we are successful in exercising the
regulatory out provision, the MCV Partnership may, under certain circumstances,
have the right to terminate or reduce the amount of capacity sold under the MCV
PPA. If the MCV Partnership terminates the MCV PPA or reduces the amount of
capacity sold under the MCV PPA, we would seek to replace the lost capacity to
maintain an adequate electric reserve margin. This could involve entering into a
new PPA and (or) entering into electric capacity contracts on the open market.
We cannot predict our ability to enter into such contracts at a reasonable
price. We are also unable to predict regulatory approval of the terms and
conditions of such contracts, or that the MPSC would allow full recovery of our
incurred costs.
To comply with a prior MPSC order, we made a filing in May 2007 with the MPSC,
which asked the MPSC to make a determination regarding whether it wished to
reconsider the amount of the MCV PPA payments that we recover from customers. We
are unable to predict the outcome of this request. For
CE-17
Consumers Energy Company
additional details on the MCV Partnership, see Note 2, Contingencies, "Other
Electric Contingencies - The MCV PPA."
NUCLEAR MATTERS: Sale of Nuclear Assets: In April 2007, we sold Palisades to
Entergy for $380 million. The final purchase price was subject to various
closing adjustments resulting in us receiving $361 million. We also paid Entergy
$30 million to assume ownership and responsibility for the Big Rock ISFSI.
Because of the sale of Palisades, we will also pay the NMC, the former operator
of the Palisades plant, $7 million in exit fees and will forfeit our investment
in the NMC of $5 million.
The MPSC order approving the Palisades transaction allows us to recover the book
value of the Palisades plant. This will result in estimated excess proceeds of
$66 million being credited to our customers through refunds applied over the
remainder of 2007 and 2008. Final proceeds in excess of the book value are
subject to closing adjustments and review by the MPSC. The MPSC order deferred
ruling on the recovery of $30 million in estimated transaction costs, including
the NMC exit fees, and the $30 million payment to Entergy related to the Big
Rock ISFSI until the next general rate case.
Entergy will assume responsibility for the future decommissioning of the plant
and for storage and disposal of spent nuclear fuel located at the Palisades and
the Big Rock ISFSI sites. We transferred $252 million in trust fund assets to
Entergy. Estimated decommissioning funds of $189 million will be credited to our
retail customers through refunds applied over the remainder of 2007 and 2008.
Final disposition of these funds is subject to closing date balances and is
subject to review by the MPSC. The disposition of the remaining decommissioning
funds is subject to review by the MPSC.
As part of the transaction, Entergy will sell us 100 percent of the plant's
output up to its current annual average capacity of 798 MW under a 15-year power
purchase agreement. Because of the Palisades power purchase agreement, the
transaction is a lease for accounting purposes. Due to our continuing
involvement with the Palisades assets, we will account for the Palisades plant
as a financing for accounting purposes and not a sale. This will result in the
recognition of a finance obligation.
For additional details on the sale of Palisades and the Big Rock ISFSI, see Note
2, Contingencies, "Other Electric Contingencies - The Sale of Nuclear Assets and
the Palisades Power Purchase Agreement."
GAS BUSINESS OUTLOOK
GROWTH: In 2007, we project gas deliveries will decline slightly, on a
weather-adjusted basis, from 2006 levels due to continuing conservation and
overall economic conditions in the state of Michigan. Over the next five years,
we expect gas deliveries to decline by less than one-half of one percent
annually. Actual gas deliveries in future periods may be affected by:
- fluctuations in weather conditions,
- use by independent power producers,
- competition in sales and delivery,
- changes in gas commodity prices,
- Michigan economic conditions,
- the price of competing energy sources or fuels,
- gas consumption per customer,
- improvements in gas appliance efficiency, and
- use of a Revenue Decoupling and Conservation Incentive mechanism.
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Consumers Energy Company
GAS BUSINESS UNCERTAINTIES
Several gas business trends or uncertainties may affect our future financial
results and financial condition. These trends or uncertainties could have a
material impact on future revenues or income from gas operations.
GAS ENVIRONMENTAL ESTIMATES: We expect to incur investigation and remedial
action costs at a number of sites, including 23 former manufactured gas plant
sites. For additional details, see Note 2, Contingencies, "Gas Contingencies -
Gas Environmental Matters."
GAS COST RECOVERY: The GCR process is designed to allow us to recover all of our
purchased natural gas costs if incurred under reasonable and prudent policies
and practices. The MPSC reviews these costs, policies, and practices for
prudency in annual plan and reconciliation proceedings. For additional details
on gas cost recovery, see Note 2, Contingencies, "Gas Rate Matters - Gas Cost
Recovery."
GAS DEPRECIATION: We are required to file our next gas depreciation case with
the MPSC within 90 days after the MPSC issuance of a final order in the pending
case related to ARO accounting. We cannot predict when the MPSC will issue a
final order in the ARO accounting case.
If a final order in our next gas depreciation case is not issued concurrently
with a final order in a general gas rate case, the MPSC may incorporate the
results of the depreciation case into general gas rates through use of a
surcharge mechanism (which may be either positive or negative).
2007 GAS RATE CASE: In February 2007, we filed an application with the MPSC
seeking an 11.25 percent authorized return on equity along with an $88 million
annual increase in our gas delivery and transportation rates, of which $17
million would be contributed to a low income energy efficiency fund. We have
proposed the use of a Revenue Decoupling and Conservation Incentive Mechanism
for residential and general service rate classes to help assure a reasonable
opportunity to recover costs regardless of sales levels.
OTHER OUTLOOK
RULES REGARDING BILLING PRACTICES: In December 2006, the MPSC issued proposed
rule changes to residential customer billing standards and practices. These
changes, if adopted, would provide additional protection to low-income customers
during the winter heating season that will be defined as November 1 through
March 31, extend the time between billing date and due date from 17 days to 22
days, and eliminate estimated metering readings unless actual readings are not
feasible. We are presently evaluating the impacts of these proposed rules and
are working with other Michigan utilities in providing comments to the MPSC
regarding the proposed rule changes.
LITIGATION AND REGULATORY INVESTIGATION: CMS Energy is the subject of various
investigations as a result of round-trip trading transactions by CMS MST,
including an investigation by the DOJ. For additional details regarding this
investigation and litigation, see Note 2, Contingencies.
PENSION REFORM: In August 2006, the President signed into law the Pension
Protection Act of 2006. The bill reforms the funding rules for employer-provided
pension plans, effective for plan years beginning after 2007. As a result of
this bill, we expect to reduce our contributions to the Pension Plan over the
next 10 years by a present value amount of $53 million.
CE-19
Consumers Energy Company
IMPLEMENTATION OF NEW ACCOUNTING STANDARDS
SFAS NO. 158, EMPLOYERS' ACCOUNTING FOR DEFINED BENEFIT PENSION AND OTHER
POSTRETIREMENT PLANS - AN AMENDMENT OF FASB STATEMENTS NO. 87, 88, 106, AND
132(R): In September 2006, the FASB issued SFAS No. 158. Phase one of this
standard required us to recognize the funded status of our defined benefit
postretirement plans on our Consolidated Balance Sheets at December 31, 2006.
Phase one was implemented in December 2006. Phase two of this standard requires
that we change our plan measurement date from November 30 to December 31,
effective December 31, 2008. We do not believe that implementation of phase two
of this standard will have a material effect on our consolidated financial
statements. We expect to adopt the measurement date provisions of SFAS No. 158
in 2008.
FIN 48, ACCOUNTING FOR UNCERTAINTY IN INCOME TAXES: We adopted the provisions of
FIN 48 on January 1, 2007. This interpretation provides a two-step approach for
the recognition and measurement of uncertain tax positions taken, or expected to
be taken, by a company on its income tax returns. The first step is to evaluate
the tax position to determine if, based on management's best judgment, it is
greater than 50 percent likely that we will sustain the tax position. The second
step is to measure the appropriate amount of the benefit to recognize. This is
done by estimating the potential outcomes and recognizing the greatest amount
that has a cumulative probability of at least 50 percent. FIN 48 requires
interest and penalties, if applicable, to be accrued on differences between tax
positions recognized in our consolidated financial statements and the amount
claimed, or expected to be claimed, on the tax return.
As a result of the implementation of FIN 48, we have identified additional
uncertain tax benefits of $5 million as of January 1, 2007. Included in this
amount is an increase in our valuation allowance of $7 million, increases to tax
reserves of $55 million and a decrease to deferred tax liabilities of $57
million.
Consumers joins in the filing of a consolidated U.S. federal income tax return
as well as unitary and combined income tax returns in several states. Consumers
and its subsidiaries also file separate company income tax returns in several
states. The only significant state tax paid by Consumers or any of its
subsidiaires is in Michigan. However, since the Michigan Single Business Tax is
not an income tax, it is not part of the FIN 48 analysis. The IRS has completed
its audits for all the consolidated federal returns, of which Consumers is a
member, for years through 2001. The federal income tax returns for the years
2002 through 2005 are open under the statute of limitations.
We have reflected a net interest liability of $1 million related to our
uncertain income tax positions on our Consolidated Balance Sheets as of January
1, 2007. We have not accrued any penalties with respect to uncertain tax
benefits. We recognize accrued interest and penalties, where applicable, related
to uncertain tax benefits as part of income tax expense.
As of the date of adoption of FIN 48, we had valuation allowances against
certain deferred tax assets totaling $22 million and other net uncertain tax
positions of $55 million, resulting in total uncertain benefits of $77 million.
Of this amount, $24 million would result in a decrease in our effective tax
rate, if recognized. We are not expecting any material changes to our uncertain
tax positions over the next 12 months.
CE-20
Consumers Energy Company
NEW ACCOUNTING STANDARDS NOT YET EFFECTIVE
SFAS NO. 157, FAIR VALUE MEASUREMENTS: In September 2006, the FASB issued SFAS
No. 157, effective for us January 1, 2008. The standard provides a revised
definition of "fair value" and gives guidance on how to measure the fair value
of assets and liabilities. Under the standard, fair value is defined as the
price that would be received to sell an asset or paid to transfer a liability in
an orderly exchange between market participants. The standard does not expand
the use of fair value in any new circumstances. However, additional disclosures
will be required on the impact and reliability of fair value measurements
reflected in our consolidated financial statements. The standard will also
eliminate the existing prohibition of recognizing "day one" gains or losses on
derivative instruments, and will generally require such gains and losses to be
recognized through earnings. We are presently evaluating the impacts, if any, of
implementing SFAS No. 157. We currently do not hold any derivatives that would
involve day one gains or losses.
SFAS NO. 159, THE FAIR VALUE OPTION FOR FINANCIAL ASSETS AND FINANCIAL
LIABILITIES, INCLUDING AN AMENDMENT TO FASB STATEMENT NO. 115: In February 2007,
the FASB issued SFAS No. 159, effective for us January 1, 2008. This standard
will give us the option to select certain financial instruments and other items,
which otherwise are not required to be measured at fair value, and measure those
items at fair value. If we choose to elect the fair value option for an item, we
would recognize unrealized gains and losses associated with changes in the fair
value of the item over time. The statement will also require disclosures for
items for which the fair value option has been elected. We are presently
evaluating whether we will choose to elect the fair value option for any
financial instruments or other items.
CE-21
CONSUMERS ENERGY COMPANY
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
In Millions
------------------
Three Months Ended
------------------
March 31 2007 2006
- -------- ------ ------
OPERATING REVENUE $2,055 $1,782
OPERATING EXPENSES Fuel for electric generation 88 172
Fuel costs mark-to-market at the MCV Partnership -- 156
Purchased and interchange power 307 110
Purchased power - related parties 19 18
Cost of gas sold 935 816
Other operating expenses 220 215
Maintenance 57 71
Depreciation and amortization 156 152
General taxes 64 65
------ ------
1,846 1,775
------ ------
OPERATING INCOME 209 7
OTHER INCOME Interest and dividends 11 10
(DEDUCTIONS) Regulatory return on capital expenditures 8 3
Other income 7 4
Other expense (3) (3)
------ ------
23 14
------ ------
INTEREST CHARGES Interest on long-term debt 59 72
Interest on long-term debt - related parties 2 1
Other interest 1 3
Capitalized interest (3) (2)
------ ------
59 74
------ ------
INCOME (LOSS) BEFORE INCOME TAXES AND MINORITY
OBLIGATIONS, NET 173 (53)
MINORITY OBLIGATIONS, NET -- (72)
------ ------
INCOME BEFORE INCOME TAXES 173 19
INCOME TAX EXPENSE 60 9
------ ------
NET INCOME 113 10
PREFERRED STOCK DIVIDENDS 1 --
------ ------
NET INCOME AVAILABLE TO COMMON STOCKHOLDER $ 112 $ 10
====== ======
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
CE-22
CONSUMERS ENERGY COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
In Millions
------------------
Three Months Ended
------------------
March 31 2007 2006
- -------- ----- -----
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 113 $ 10
Adjustments to reconcile net income to net cash
provided by operating activities
Depreciation and amortization (includes nuclear
decommissioning of $1 per period) 156 152
Deferred income taxes and investment tax credit 9 (51)
Fuel costs mark-to-market at the MCV Partnership -- 156
Minority obligations, net -- (72)
Regulatory return on capital expenditures (8) (3)
Capital lease and other amortization 9 9
Changes in assets and liabilities:
Increase in accounts receivable, notes
receivable and accrued revenue (448) (212)
Decrease (increase) in accrued power supply and
gas revenue 27 (26)
Decrease in inventories 504 366
Increase (decrease) in accounts payable 20 (120)
Decrease in accrued expenses (53) (85)
Decrease in the MCV Partnership gas supplier
funds on deposit -- (90)
Decrease (increase) in other current and
non-current assets 57 (4)
Increase (decrease) in other current and
non-current liabilities (15) 39
----- -----
Net cash provided by operating activities 371 69
----- -----
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures (excludes assets placed under
capital lease) (218) (125)
Cost to retire property (5) (19)
Restricted cash and restricted short-term investments (1) 128
Investments in nuclear decommissioning trust funds (1) (17)
Proceeds from nuclear decommissioning trust funds 2 4
Maturity of the MCV Partnership restricted investment
securities held-to-maturity -- 28
Purchase of the MCV Partnership restricted investment
securities held-to-maturity -- (26)
Other investing 2 4
----- -----
Net cash used in investing activities (221) (23)
----- -----
CASH FLOWS FROM FINANCING ACTIVITIES
Retirement of long-term debt (8) (136)
Payment of common stock dividends (94) (40)
Payment of capital and finance lease obligations (2) (3)
Stockholder's contribution, net -- 200
Payment of preferred stock dividends (1) --
Decrease in notes payable, net (42) (27)
Debt issuance and financing costs (1) (3)
----- -----
Net cash used in financing activities (148) (9)
----- -----
Net Increase in Cash and Cash Equivalents 2 37
Cash and Cash Equivalents, Beginning of Period 37 416
----- -----
Cash and Cash Equivalents, End of Period $ 39 $ 453
===== =====
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
CE-23
CONSUMERS ENERGY COMPANY
CONSOLIDATED BALANCE SHEETS
ASSETS
In Millions
-------------------------
March 31
2007 December 31
(Unaudited) 2006
----------- -----------
PLANT AND PROPERTY Electric $ 8,583 $ 8,504
(AT COST) Gas 3,283 3,273
Other 15 15
------- -------
11,881 11,792
Less accumulated depreciation,
depletion, and amortization 5,073 5,018
------- -------
6,808 6,774
Construction work-in-progress 751 639
------- -------
7,559 7,413
------- -------
INVESTMENTS Stock of affiliates 33 36
Other 5 5
------- -------
38 41
------- -------
CURRENT ASSETS Cash and cash equivalents at
cost, which approximates market 39 37
Restricted cash at cost, which
approximates market 58 57
Accounts receivable, notes
receivable, and accrued
revenue, less allowances of $14
in 2007 and $14 in 2006 849 435
Accrued power supply and gas
revenue 129 156
Accounts receivable - related
parties 5 5
Inventories at average cost
Gas in underground storage 619 1,129
Materials and supplies 86 81
Generating plant fuel stock 106 105
Deferred property taxes 131 150
Regulatory assets - postretirement
benefits 19 19
Prepayments and other 49 50
------- -------
2,090 2,224
------- -------
NON-CURRENT ASSETS Regulatory assets
Securitized costs 502 514
Postretirement benefits 1,111 1,131
Customer Choice Act 179 190
Other 506 497
Nuclear decommissioning trust funds 606 602
Other 188 233
------- -------
3,092 3,167
------- -------
TOTAL ASSETS $12,779 $12,845
======= =======
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
CE-24
STOCKHOLDER'S INVESTMENT AND LIABILITIES
In Millions
-------------------------
March 31
2007 December 31
(Unaudited) 2006
----------- -----------
CAPITALIZATION Common stockholder's equity
Common stock, authorized 125.0
shares; outstanding
84.1 shares for all periods $ 841 $ 841
Paid-in capital 1,832 1,832
Accumulated other comprehensive
income 14 15
Retained earnings 283 270
------- -------
2,970 2,958
Preferred stock 44 44
Long-term debt 3,962 4,127
Non-current portion of capital
lease obligations 52 42
------- -------
7,028 7,171
------- -------
CURRENT Current portion of long-term debt
LIABILITIES and capital leases 202 44
Notes payable - related parties -- 42
Accounts payable 442 421
Accrued revenue for refund 5 37
Accounts payable - related parties 17 18
Accrued interest 47 62
Accrued taxes 343 295
Deferred income taxes 15 11
Other 124 184
------- -------
1,195 1,114
------- -------
NON-CURRENT Deferred income taxes 794 847
LIABILITIES Regulatory liabilities
Regulatory liabilities for cost
of removal 1,200 1,166
Income taxes, net 547 539
Other regulatory liabilities 240 249
Postretirement benefits 1,002 993
Asset retirement obligations 507 497
Deferred investment tax credit 61 62
Other 205 207
------- -------
4,556 4,560
------- -------
Commitments and Contingencies (Notes 2, 3, and 4)
TOTAL STOCKHOLDER'S INVESTMENT AND LIABILITIES $12,779 $12,845
======= =======
CE-25
CONSUMERS ENERGY COMPANY
CONSOLIDATED STATEMENTS OF COMMON STOCKHOLDER'S EQUITY
(UNAUDITED)
In Millions
------------------
Three Months Ended
------------------
March 31 2007 2006
- -------- ------- ------
COMMON STOCK At beginning and end of period (a) $ 841 $ 841
------ ------
OTHER PAID-IN At beginning of period 1,832 1,632
CAPITAL Stockholder's contribution -- 200
------ ------
At end of period 1,832 1,832
------ ------
ACCUMULATED OTHER Retirement benefits liability
COMPREHENSIVE At beginning of period and end
INCOME of period (8) (2)
------ ------
Investments
At beginning of period 23 18
Unrealized loss on investments
(b) (1) (2)
------ ------
At end of period 22 16
------ ------
Derivative instruments
At beginning of period -- 56
Unrealized loss on derivative
instruments (b) -- (10)
Reclassification adjustments
included in net income (b) -- (2)
------ ------
At end of period -- 44
------ ------
Total Accumulated Other
Comprehensive Income 14 58
------ ------
RETAINED EARNINGS At beginning of period 270 233
Adjustment to initially apply
FIN 48 (5) --
Net income 113 10
Cash dividends declared -
Common Stock (94) (40)
Cash dividends declared - Preferred
Stock (1) --
------ ------
At end of period 283 203
------ ------
TOTAL COMMON STOCKHOLDER'S EQUITY $2,970 $2,934
====== ======
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
CE-26
In Millions
------------------
Three Months Ended
------------------
March 31 2007 2006
- -------- ---- ----
(a) Number of shares of common stock outstanding was
84,108,789 for all periods presented.
(b) Disclosure of Other Comprehensive Income:
Investments
Unrealized loss on investments, net of tax of
$(1) in 2007 and $(1) in 2006 $ (1) $ (2)
Derivative instruments
Unrealized loss on derivative instruments, net of
tax of $-- in 2007 and $(5) in 2006 -- (10)
Reclassification adjustments included in net
income, net of tax benefit of $-- in 2007 and
$(1) in 2006 -- (2)
Net income 113 10
---- ----
Total Comprehensive Income $112 $ (4)
==== ====
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CE-28
Consumers Energy Company
CONSUMERS ENERGY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
These interim Consolidated Financial Statements have been prepared by Consumers
in accordance with accounting principles generally accepted in the United States
for interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. As such, certain information and footnote
disclosures normally included in consolidated financial statements prepared in
accordance with accounting principles generally accepted in the United States
have been condensed or omitted. Certain prior year amounts have been
reclassified to conform to the presentation in the current year. In management's
opinion, the unaudited information contained in this report reflects all
adjustments of a normal recurring nature necessary to assure the fair
presentation of financial position, results of operations and cash flows for the
periods presented. The Notes to Consolidated Financial Statements and the
related Consolidated Financial Statements should be read in conjunction with the
Consolidated Financial Statements and related Notes contained in the Consumers'
Form 10-K for the year ended December 31, 2006. Due to the seasonal nature of
Consumers' operations, the results as presented for this interim period are not
necessarily indicative of results to be achieved for the fiscal year.
1: CORPORATE STRUCTURE AND ACCOUNTING POLICIES
CORPORATE STRUCTURE: Consumers, a subsidiary of CMS Energy, a holding company,
is a combination electric and gas utility company serving Michigan's Lower
Peninsula. Our customer base includes a mix of residential, commercial, and
diversified industrial customers. We manage our business by the nature of
services each provides and operate principally in two business segments:
electric utility and gas utility.
PRINCIPLES OF CONSOLIDATION: The consolidated financial statements include
Consumers, and all other entities in which we have a controlling financial
interest or are the primary beneficiary, in accordance with FIN 46(R). We use
the equity method of accounting for investments in companies and partnerships
that are not consolidated, where we have significant influence over operations
and financial policies, but are not the primary beneficiary. We eliminate
intercompany transactions and balances.
USE OF ESTIMATES: We prepare our consolidated financial statements in conformity
with U.S. GAAP. We are required to make estimates using assumptions that may
affect the reported amounts and disclosures. Actual results could differ from
those estimates.
We record estimated liabilities for contingencies in our consolidated financial
statements when it is probable that a loss will be incurred in the future as a
result of a current event, and when the amount can be reasonably estimated. For
additional details, see Note 2, Contingencies.
REVENUE RECOGNITION POLICY: We recognize revenues from deliveries of electricity
and natural gas, and the storage of natural gas when services are provided. We
record sales tax on a net basis and exclude it from revenues.
RECLASSIFICATIONS: We have reclassified certain prior year amounts for
comparative purposes. These reclassifications did not affect consolidated net
income for the periods presented.
CE-29
Consumers Energy Company
NEW ACCOUNTING STANDARDS NOT YET EFFECTIVE: SFAS No. 157, Fair Value
Measurements: In September 2006, the FASB issued SFAS No. 157, effective for us
January 1, 2008. The standard provides a revised definition of "fair value" and
gives guidance on how to measure the fair value of assets and liabilities. Under
the standard, fair value is defined as the price that would be received to sell
an asset or paid to transfer a liability in an orderly exchange between market
participants. The standard does not expand the use of fair value in any new
circumstances. However, additional disclosures will be required on the impact
and reliability of fair value measurements reflected in our consolidated
financial statements. The standard will also eliminate the existing prohibition
of recognizing "day one" gains or losses on derivative instruments, and will
generally require such gains and losses to be recognized through earnings. We
are presently evaluating the impacts, if any, of implementing SFAS No. 157. We
currently do not hold any derivatives that would involve day one gains or
losses.
SFAS No. 159, The Fair Value Option for Financial Assets and Financial
Liabilities, Including an amendment to FASB Statement No. 115: In February 2007,
the FASB issued SFAS No. 159, effective for us January 1, 2008. This standard
will give us the option to select certain financial instruments and other items,
which otherwise are not required to be measured at fair value, and measure those
items at fair value. If we choose to elect the fair value option for an item, we
would recognize unrealized gains and losses associated with changes in the fair
value of the item over time. The statement will also require disclosures for
items for which the fair value option has been elected. We are presently
evaluating whether we will choose to elect the fair value option for any
financial instruments or other items.
2: CONTINGENCIES
SEC AND DOJ INVESTIGATIONS: During the period of May 2000 through January 2002,
CMS MST engaged in simultaneous, prearranged commodity trading transactions in
which energy commodities were sold and repurchased at the same price. These so
called round-trip trades had no impact on previously reported consolidated net
income, earnings per share or cash flows, but had the effect of increasing
operating revenues and operating expenses by equal amounts.
CMS Energy is cooperating with an investigation by the DOJ concerning round-trip
trading, which the DOJ commenced in May 2002. CMS Energy is unable to predict
the outcome of this matter and what effect, if any, this investigation will have
on its business. In March 2004, the SEC approved a cease-and-desist order
settling an administrative action against CMS Energy related to round-trip
trading. The order did not assess a fine and CMS Energy neither admitted to nor
denied the order's findings. The settlement resolved the SEC investigation
involving CMS Energy and CMS MST. Also in March 2004, the SEC filed an action
against three former employees related to round-trip trading at CMS MST. One of
the individuals has settled with the SEC. CMS Energy is currently advancing
legal defense costs for the remaining two individuals in accordance with
existing indemnification policies. Those two individuals filed a motion to
dismiss the SEC action, which was denied.
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Consumers Energy Company
SECURITIES CLASS ACTION LAWSUITS: Beginning in May 2002, a number of complaints
were filed against CMS Energy, Consumers and certain officers and directors of
CMS Energy and its affiliates in the United States District Court for the
Eastern District of Michigan. The cases were consolidated into a single lawsuit
(the "Shareholder Action"), which generally seeks unspecified damages based on
allegations that the defendants violated United States securities laws and
regulations by making allegedly false and misleading statements about CMS
Energy's business and financial condition, particularly with respect to revenues
and expenses recorded in connection with round-trip trading by CMS MST. In
January 2005, the court granted a motion to dismiss Consumers and three of the
individual defendants, but denied the motions to dismiss CMS Energy and the 13
remaining individual defendants. In March 2006, the court conditionally
certified a class consisting of "all persons who purchased CMS Common Stock
during the period of October 25, 2000 through and including May 17, 2002 and who
were damaged thereby." The court excluded purchasers of CMS Energy's 8.75
percent Adjustable Convertible Trust Securities ("ACTS") from the class and, in
response, a new class action lawsuit was filed on behalf of ACTS purchasers (the
"ACTS Action") against the same defendants named in the Shareholder Action. The
settlement described in the following paragraph, if approved, will resolve both
the Shareholder and ACTS Actions.
On January 3, 2007, CMS Energy and other parties entered into a Memorandum of
Understanding (the "MOU"), subject to court approval, regarding settlement of
the two class action lawsuits. The settlement was approved by a special
committee of independent directors and by the full board of directors of CMS
Energy. Both judged that it was in the best interests of shareholders to
eliminate this business uncertainty. The MOU is expected to lead to a detailed
stipulation of settlement that will be presented to the assigned federal judge
and the affected class in the second quarter of 2007. Under the terms of the
MOU, the litigation will be settled for a total of $200 million, including the
cost of administering the settlement and any attorney fees the court awards. CMS
Energy will make a payment of approximately $123 million plus an amount
equivalent to interest on the outstanding unpaid settlement balance beginning on
the date of preliminary approval of the court and running until the balance of
the settlement funds is paid into a settlement account. Out of the total
settlement, CMS Energy's insurers will pay approximately $77 million directly to
the settlement account. CMS Energy took an approximate $123 million net pre-tax
charge to 2006 earnings in the fourth quarter of 2006. In entering into the MOU,
CMS Energy makes no admission of liability under the Shareholder Action and the
ACTS Action.
ELECTRIC CONTINGENCIES
ELECTRIC ENVIRONMENTAL MATTERS: Our operations are subject to environmental laws
and regulations. Costs to operate our facilities in compliance with these laws
and regulations generally have been recovered in customer rates.
Routine Maintenance Classification: The EPA has alleged that some utilities have
incorrectly classified plant modifications as "routine maintenance" rather than
seeking permits to modify the plant from the EPA. We have received and responded
to information requests from the EPA on this subject. We believe that we have
properly interpreted the requirements of "routine maintenance." If our
interpretation is found to be incorrect, we may be required to install
additional pollution controls at some or all of our coal-fired electric
generating plants and potentially pay fines. Additionally, the viability of
certain plants remaining in operation could be called into question.
Cleanup and Solid Waste: Under the Michigan Natural Resources and Environmental
Protection Act, we expect that we will ultimately incur investigation and
remedial action costs at a number of sites. We believe that these costs will be
recoverable in rates under current ratemaking policies.
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Consumers Energy Company
We are a potentially responsible party at several contaminated sites
administered under the Superfund. Superfund liability is joint and several,
meaning that many other creditworthy parties with substantial assets are
potentially responsible with respect to the individual sites. Based on our
experience, we estimate that our share of the total liability for the known
Superfund sites will be between $1 million and $10 million. At March 31, 2007,
we have recorded a liability for the minimum amount of our estimated probable in
accordance with FIN 14. The timing of payments related to the remediation of our
Superfund sites is uncertain. Any significant change in assumptions, such as
different remediation techniques, nature and extent of contamination, and legal
and regulatory requirements, could affect our estimate of remedial action costs
and the timing of our remediation payments.
Ludington PCB: In October 1998, during routine maintenance activities, we
identified PCB as a component in certain paint, grout, and sealant materials at
Ludington. We removed and replaced part of the PCB material. Since proposing a
plan to deal with the remaining materials, we have had several conversations
with the EPA. The EPA has proposed a rule which would authorize continued use of
such material in place, subject to certain restrictions. We are not able to
predict when a final rule will be issued.
Electric Utility Plant Air Permit Issues: In April 2007, we received a Notice of
Violation/Finding of Violation from the EPA alleging that fourteen of our
utility boilers exceeded visible emission limits in their associated air
permits. The utility boilers are located at the D.E. Karn/J.C. Weadock
Generating Complex, the J.H. Campbell Plant, the BC Cobb Electric Generating
Station and the JR Whiting Plant. We are preparing for discussions with the EPA
regarding these allegations, but cannot predict the financial impact or outcome
of this issue.
LITIGATION: In 2003, a group of eight PURPA qualifying facilities (the
plaintiffs), which sell power to us, filed a lawsuit in Ingham County Circuit
Court. The lawsuit alleged that we incorrectly calculated the energy charge
payments made pursuant to power purchase agreements with qualifying facilities.
The judge deferred to the primary jurisdiction of the MPSC, dismissing the
circuit court case without prejudice. In February 2005, the MPSC issued an order
in the 2004 PSCR plan case concluding that we have been correctly administering
the energy charge calculation methodology. The plaintiffs have appealed the MPSC
order to the Michigan Court of Appeals. The plaintiffs also filed suit in the
United States Court for the Western District of Michigan, which the judge
subsequently dismissed on the basis that the pending state court litigation
would fully resolve any federal issue before the courts. The plaintiffs then
appealed the dismissal to the United States Court of Appeals, which held that
the district court matter should be stayed rather than dismissed, pending the
outcome of the state appeal. We cannot predict the outcome of these appeals.
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Consumers Energy Company
ELECTRIC RATE MATTERS
ELECTRIC ROA: In prior orders, the MPSC approved recovery of Stranded Costs
incurred from 2002 through 2003 plus the cost of money through the period of
collection. At March 31, 2007, we had a regulatory asset for Stranded Costs of
$66 million on our Consolidated Balance Sheets. We collect Stranded Costs
through a surcharge on ROA customers. At March 31, 2007, alternative electric
suppliers were providing 283 MW of generation service to ROA customers, which
represent a decrease of 19 percent of ROA load compared to March 31, 2006. This
downward trend has affected negatively our ability to recover timely our
Stranded Costs. If downward ROA trends continue, it may require legislative or
regulatory assistance to recover fully our Stranded Costs. However, the Customer
Choice Act allows electric utilities to recover their net Stranded Costs. It is
difficult to predict future ROA customer trends and their effect on the timely
recovery of Stranded Costs.
POWER SUPPLY COSTS: To reduce the risk of high power supply costs during peak
demand periods and to achieve our reserve margin target, we purchase electric
capacity and energy contracts for the physical delivery of electricity primarily
in the summer months and to a lesser degree in the winter months. We have
purchased capacity and energy contracts covering partially the estimated reserve
margin requirements for 2007 through 2010. As a result, we have an asset of $62
million for unexpired seasonal capacity and energy contracts at March 31, 2007.
As of March 31, 2007, we expect capacity costs for these primarily seasonal
electric capacity and energy contracts to be $14 million for 2007.
PSCR: The PSCR process allows recovery of reasonable and prudent power supply
costs. The MPSC reviews these costs for reasonableness and prudency in annual
plan proceedings and in plan reconciliation proceedings. The following table
summarizes our PSCR reconciliation filings with the MPSC:
Power Supply Cost Recovery Reconciliation
PSCR Cost
Net Under- of Power Description of Net
PSCR Year Date Filed Order Date recovery Sold Underrecovery
- --------- ---------- ---------- ------------ -------------- -----------------------------------------
2005 Reconciliation March 2006 Pending $ 39 million $1.086 billion Underrecovery relates to our commercial
and industrial customers and includes the
cost of money.
2006 Reconciliation March 2007 Pending $115 million $1.492 billion Underrecovery relates to our increased
METC costs and coal supply costs,
increased bundled sales, and other cost
increases beyond those included in the
2006 PSCR plan filings.
2007 PSCR Plan: In September 2006, we filed our 2007 PSCR plan with the MPSC.
The plan sought authorization to incorporate our 2005 and 2006 PSCR
underrecoveries into our 2007 PSCR monthly factor. In December 2006, the MPSC
issued a temporary order allowing us to implement our 2007 PSCR monthly factor
on January 1, 2007, as filed. The order also allowed us to continue to roll in
prior year underrecoveries and overrecoveries in future PSCR plans.
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Underrecoveries in power supply costs are included in Accrued power supply and
gas revenue on our Consolidated Balance Sheets. We expect to recover fully all
of our PSCR costs. When we are unable to collect these costs as they are
incurred, there is a negative impact on our cash flows from electric utility
operations. We cannot predict the outcome of these proceedings.
ELECTRIC RATE CASE: In March 2007, we filed an application with the MPSC seeking
an 11.25 percent authorized return on equity and an annual increase in revenues
of $157 million as shown in the following table:
In Millions
-----------
Components of the increase in revenue
Reduction in base rates (a) $(23)
Surcharge for return on nuclear investments (b) 13
Elimination of Palisades base rate recovery credit (c) 167
----
Total increase in revenues $157
====
(a) The reduction in base rates is due to the removal of Palisades related
costs offset by Clean Air Act related and other utility expenditures,
changes in the capital structure, and increased distribution system
operation and maintenance costs including employee pension and health care
costs.
(b) The nuclear surcharge is a proposal to earn a return on funds spent on Big
Rock spent nuclear fuel storage, decommissioning, and site restoration
expenditures until pending DOE litigation and future MPSC proceedings
regarding this issue are concluded.
(c) Palisades power purchase agreement costs are currently offset through
feedback in the PSCR related to Palisades base rate revenues via a base
rate recovery credit. The Palisades base rate recovery credit will be
discontinued once Palisades' costs are removed from base rates.
If approved as requested, the rate requests would go into effect in January 2008
and would apply to all retail electric customers. We cannot predict the amount
or timing of any MPSC decision on the requests.
OTHER ELECTRIC CONTINGENCIES
THE MCV PPA: The MCV Partnership, which leases and operates the MCV Facility,
contracted to sell 1,240 MW of electricity to Consumers under a 35-year power
purchase agreement beginning in 1990. We estimate that capacity and energy
payments under the MCV PPA will be $620 million per year. The MCV PPA and the
associated customer rates are unaffected by the November 2006 sale of our
interest in the MCV Partnership.
Underrecoveries related to the MCV PPA: The cost that we incur under the MCV PPA
exceeds the recovery amount allowed by the MPSC. We estimate cash
underrecoveries of our capacity and fixed energy payments of $39 million in 2007
of which we have expensed $13 million during the three months ended March 31,
2007. However, we use savings from the RCP, after allocating a portion to
customers, to offset a portion of our capacity and fixed energy underrecoveries
expense.
RCP: In January 2005, we implemented the MPSC-approved RCP with modifications.
The RCP allows us to recover the same amount of capacity and fixed energy
charges from customers as approved
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Consumers Energy Company
in prior MPSC orders. However, we are able to dispatch the MCV Facility based on
natural gas market prices. This results in fuel cost savings for the MCV
Facility, which the MCV Partnership shares with us. The RCP also requires us to
contribute $5 million annually to a renewable resources program. As of March
2007, we have contributed $12 million to the renewable resources program. The
underlying RCP agreement between Consumers and the MCV Partnership extends
through the term of the MCV PPA. However, either party may terminate that
agreement under certain conditions. In January 2007, the Michigan Attorney
General filed an appeal with the Michigan Supreme Court regarding the MPSC's
order approving the RCP. We cannot predict the outcome of this matter.
Regulatory Out Provision in the MCV PPA: After September 15, 2007, we expect to
claim relief under the regulatory out provision in the MCV PPA, thereby limiting
our capacity and fixed energy payments to the MCV Partnership to the amounts
that we collect from our customers. The MCV Partnership has notified us that it
takes issue with our intended exercise of the regulatory out provision. We
believe that the provision is valid and fully effective, but cannot assure that
it will prevail in the event of a dispute. If we are successful in exercising
the regulatory out provision, the MCV Partnership may, under certain
circumstances, have the right to terminate or reduce the amount of capacity sold
under the MCV PPA from 1,240 MW to 806 MW, which could affect our reserve
margin. We anticipate that the MPSC will review our exercise of the regulatory
out provision and the likely consequences of such action in 2007. It is possible
that in the event that the MCV Partnership ceases performance under the MCV PPA,
prior orders could limit recovery of replacement power costs to the amounts that
the MPSC authorized for recovery under the MCV PPA. Depending on the cost of
replacement power, this could result in our costs exceeding the recovery amount
allowed by the MPSC. We cannot predict the outcome of these matters.
To comply with a prior MPSC order, we made a filing in May 2007 with the MPSC,
which asked the MPSC to make a determination regarding whether it wished to
reconsider the amount of the MCV PPA payments that we recover from customers. We
are unable to predict the outcome of this request.
THE SALE OF NUCLEAR ASSETS AND THE PALISADES POWER PURCHASE AGREEMENT: Sale of
Nuclear Assets: In April 2007, we sold Palisades to Entergy for $380 million.
The final purchase price was subject to various closing adjustments such as
working capital and capital expenditure adjustments and nuclear fuel usage and
inventory adjustments resulting in us receiving $361 million. We also paid
Entergy $30 million to assume ownership and responsibility for the Big Rock
ISFSI. Because of the sale of Palisades, we will also pay the NMC, the former
operator of the Palisades plant, $7 million in exit fees and will forfeit our
investment in the NMC of $5 million.
Entergy will assume responsibility for the future decommissioning of the
Palisades plant and for storage and disposal of spent nuclear fuel located at
the Palisades and the Big Rock ISFSI sites. At closing, we transferred $252
million in decommissioning trust fund balances to Entergy.
The MPSC order approving the Palisades transaction allows us to recover the
estimated $314 million book value of the Palisades plant. As a result, we
estimate that we will credit excess proceeds of $66 million to our retail
customers through refunds applied over the remainder of 2007 and 2008. The MPSC
order deferred ruling on the recovery of $30 million in estimated transaction
costs, including the NMC exit fees, and the $30 million payment to Entergy
related to the Big Rock ISFSI until the next general rate case. We will defer
these costs as a regulatory asset on our Consolidated Balance Sheets as recovery
is probable.
In April 2007, the NRC, through its staff, issued an order approving the
transfer of the Palisades operating license. Subsequently, in April 2007, the
NRC issued an order requiring that certain intervenors be given, under a
protective order, information related to the buyer's financial capability. If,
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after the review of the information, the intervenors wished to seek additional
proceedings on the license transfer, the NRC would consider the request. The NRC
did not alter or stay the prior order approving the license transfer. We believe
that it is unlikely that the NRC will conduct further proceedings, but we cannot
predict the outcome of the matter. These events did not hold up the closing of
the sale of Palisades.
The following table summarizes the estimated impacts of the Palisades and the
Big Rock ISFSI transactions:
In Millions
- ------------------------------------------------------------------------------------------------------------------------
Customer Benefits (a) Deferred costs
- --------------------- ----------------------------------------
Purchase price $380 NMC exit fee $ 7
Less: Estimated book value of Palisades plant 314 Forfeiture of the NMC investment 5
----
Excess proceeds to be refunded to customers 66(b) Estimated selling expenses 18
Excess decommissioning trust funds to be refunded to customers 189(c) Big Rock ISFSI operation and maintenance
fee to Entergy 30
---- ---
Total estimated customer refunds $255 Total regulatory asset $60
==== ===
(a) In the FERC's February 2007 order regarding the Palisades transaction, the
FERC granted our request to apply $11 million in FERC decommissioning trust
fund balances for the Palisades plant toward the Big Rock decommissioning
shortfall, as described in "Big Rock Nuclear Plant Decommissioning" within
this section. The order was contingent upon the NRC approving the transfer
of operating licenses, which the NRC approved in April 2007. This
determination is the subject of a clarification request filed by a
wholesale customer with the FERC.
(b) Final proceeds in excess of the book value are subject to closing
adjustments and review by the MPSC.
(c) In the MPSC's March 2007 order approving the Palisades transaction, the
MPSC indicated that $189 million of MPSC jurisdictional decommissioning
funds must be credited to our retail customers through refunds applied over
the remainder of 2007 and 2008. Final disposition of these funds is subject
to closing date balances and is subject to review by the MPSC. The
remaining estimated $116 million of the MPSC jurisdictional decommissioning
funds, which is subject to closing date reconciliation will be used to
benefit our retail customers and is expected to be addressed in a separate
filing made with the MPSC.
Palisades Power Purchase Agreement: Entergy contracted to sell us 100 percent of
the plant's output up to its current annual average capacity of 798 MW under a
15-year power purchase agreement beginning in April 2007. We provided $30
million in security to Entergy for our power purchase agreement obligation in
the form of a letter of credit. We estimate that capacity and energy payments
under the Palisades power purchase agreement will be $300 million per year.
Because of the Palisades power purchase agreement, the transaction is a sale and
leaseback for accounting purposes. SFAS No. 98 specifies the accounting required
for a seller's sale and simultaneous leaseback involving real estate. We will
have continuing involvement with the Palisades plant through security provided
to Entergy for our power purchase agreement obligation, our DOE liability, and
other forms of involvement. As a result, we will account for the Palisades
plant, which is the real estate asset subject to the leaseback, as a financing
for accounting purposes and not a sale. We will account for the remaining
non-real estate assets and liabilities associated with the transaction as a
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sale.
As a financing, the Palisades plant will remain on our Consolidated Balance
Sheets and the related proceeds will be recorded as a financing obligation. The
value of the finance obligation is based on an allocation of the transaction
proceeds to the fair values of the net assets sold and fair value of the
Palisades plant assets under the financing.
BIG ROCK NUCLEAR PLANT DECOMMISSIONING: The MPSC and the FERC regulate the
recovery of costs to decommission the Big Rock nuclear plant. In December 2000,
funding of the Big Rock trust fund stopped because the MPSC-authorized
decommissioning surcharge collection period expired. In a March 2007 report to
the MPSC, we indicated that we have managed the decommissioning trust fund to
meet the annual NRC financial assurance requirements by withdrawing NRC
radiological decommissioning costs from the trust fund and initially funding
non-NRC greenfield costs out of corporate funds. In March 2006, we contributed
corporate funds of $16 million to the trust fund to support the NRC radiological
decommissioning costs. Excluding the additional nuclear fuel storage costs due
to the DOE's failure to accept spent nuclear fuel on schedule, we are projecting
the level of funds provided by the trust will fall short of the amount needed to
complete decommissioning by an additional $36 million. This total of $52
million, which are costs associated with NRC radiological and non-NRC greenfield
decommissioning work, are being funded out of corporate funds. We plan to seek
recovery of expenditures that we have funded in future filings with the MPSC
and have a $36 million regulatory asset recorded on our Consolidated Balance
Sheets as of March 31, 2007.
Cost projections for Big Rock indicate a decommissioning cost of $389 million as
of March 2007, of which we have incurred $387 million. These amounts exclude the
additional costs for spent nuclear fuel storage due to the DOE's failure to
accept this spent nuclear fuel on schedule. They also exclude post September 11
increased security costs that we are recovering through the security cost
recovery provisions of Public Act 609 of 2002. These activities had no material
impact on consolidated net income. Any remaining Big Rock decommissioning costs
will initially be funded out of corporate funds.
NUCLEAR MATTERS: Nuclear Fuel Cost: We amortized nuclear fuel cost to fuel
expense based on the quantity of heat produced for electric generation. For
nuclear fuel used after April 6, 1983, we charged certain disposal costs to
nuclear fuel expense, recovered these costs through electric rates, and remitted
them to the DOE quarterly. We elected to defer payment for disposal of spent
nuclear fuel burned before April 7, 1983. Our DOE liability is $154 million at
March 31, 2007. This amount includes interest, which is payable upon the first
delivery of spent nuclear fuel to the DOE. We have recovered, through electric
rates, the amount of this liability, excluding a portion of interest. In
conjunction with the sale of Palisades and the Big Rock ISFSI, we retained this
obligation and provided $155 million in security to Entergy for this obligation
in the form of a letter of credit.
DOE Litigation: In 1997, a U.S. Court of Appeals decision confirmed that the DOE
was to begin accepting deliveries of spent nuclear fuel for disposal by January
1998. Subsequent U.S. Court of Appeals litigation, in which we and other
utilities participated, has not been successful in producing more specific
relief for the DOE's failure to accept the spent nuclear fuel.
There are two court decisions that support the right of utilities to pursue
damage claims in the United States Court of Claims against the DOE for failure
to take delivery of spent nuclear fuel. Over 60 utilities have initiated
litigation in the United States Court of Claims. We filed our complaint in
December 2002. If our litigation against the DOE is successful, we plan to use
any recoveries as reimbursement for the incurred costs of spent nuclear fuel
storage during our ownership of Palisades
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and Big Rock. We can make no assurance that the litigation against the DOE will
be successful. The sale of Palisades and the Big Rock ISFSI did not transfer the
right to any recoveries from the DOE related to costs of spent nuclear fuel
storage incurred during our ownership of Palisades and Big Rock.
In 2002, the site at Yucca Mountain, Nevada was designated for the development
of a repository for the disposal of high-level radioactive waste and spent
nuclear fuel. We expect that the DOE, in due course, will submit a final license
application to the NRC for the repository. The application and review process is
estimated to take several years.
Insurance: We maintained nuclear insurance coverage on our nuclear plants until
Palisades and the Big Rock ISFSI were sold in April 2007. At Palisades, we
maintained nuclear property insurance from NEIL totaling $2.750 billion and
insurance that would partially cover the cost of replacement power during
certain prolonged accidental outages. Because NEIL is a mutual insurance
company, we could be subject to assessments of up to $30 million in any policy
year if insured losses in excess of NEIL's maximum policyholders surplus occur
at our, or any other member's, nuclear facility. NEIL's policies include
coverage for acts of terrorism.
At Palisades, we maintained nuclear liability insurance for third-party bodily
injury and off-site property damage resulting from a nuclear energy hazard for
up to approximately $10.761 billion, the maximum insurance liability limits
established by the Price-Anderson Act. Part of the Price-Anderson Act's
financial protection is a mandatory industry-wide program under which owners of
nuclear generating facilities could be assessed if a nuclear incident occurs at
any nuclear generating facility. The maximum assessment against us could be $101
million per occurrence, limited to maximum annual installment payments of $15
million.
We also maintained insurance under a program that covers tort claims for bodily
injury to nuclear workers caused by nuclear hazards. The policy contains a $300
million nuclear industry aggregate limit. Under a previous insurance program
providing coverage for claims brought by nuclear workers, we remain responsible
for a maximum assessment of up to $6 million. This requirement will end December
31, 2007.
Big Rock was insured for nuclear liability up to $544 million through nuclear
insurance and the NRC indemnity, and we maintained a nuclear property insurance
policy from NEIL.
Insurance policy terms, limits, and conditions are subject to change during the
year as we renew our policies.
GAS CONTINGENCIES
GAS ENVIRONMENTAL MATTERS: We expect to incur investigation and remediation
costs at a number of sites under the Michigan Natural Resources and
Environmental Protection Act, a Michigan statute that covers environmental
activities including remediation. These sites include 23 former manufactured gas
plant facilities. We operated the facilities on these sites for some part of
their operating lives. For some of these sites, we have no current ownership or
may own only a portion of the original site. In 2005, we estimated our remaining
costs to be between $29 million and $71 million, based on 2005 discounted costs,
using a discount rate of three percent. The discount rate represents a 10-year
average of U.S. Treasury bond rates reduced for increases in the consumer price
index. We expect to fund most of these costs through proceeds derived from a
settlement with insurers and MPSC-approved rates. At March 31, 2007, we have a
liability of $22 million, net of $60 million of expenditures incurred to date,
and a regulatory asset of $55 million. The timing of payments related to the
remediation of our
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manufactured gas plant sites is uncertain. Any significant change in
assumptions, such as an increase in the number of sites, different remediation
techniques, nature and extent of contamination, and legal and regulatory
requirements, could affect our estimate of remedial action costs and the timing
our remediation payments.
GAS RATE MATTERS
GAS COST RECOVERY: The GCR process is designed to allow us to recover all of our
purchased natural gas costs if incurred under reasonable and prudent policies
and practices. The MPSC reviews these costs, policies, and practices for
prudency in annual plan and reconciliation proceedings.
The following table summarizes our GCR reconciliation filings with the MPSC:
Gas Cost Recovery Reconciliation
- ---------------------------------------------------------------------------------------
Net Over- GCR Cost of Description of
GCR Year Date Filed Order Date recovery Gas Sold Net Overrecovery
- -------- ---------- ---------- ---------- ------------ ---------------------
2005-2006 June 2006 April 2007 $3 million $1.8 billion The net overrecovery
includes $1 million
interest income
through March 2006,
which resulted from a
net underrecovery
position during the
majority of the GCR
period. In 2007, the
MPSC approved a
settlement agreement,
agreeing to a $3
million net
overrecovery amount.
Overrecoveries in cost of gas sold are included in Accrued rate refunds on our
Consolidated Balance Sheets.
GCR plan for year 2005-2006: In November 2005, the MPSC issued an order for our
2005-2006 GCR Plan year, which resulted in approval of a settlement agreement
and established a fixed price cap of $10.10 per mcf for the December 2005
through March 2006 billing period. We were able to maintain our GCR billing
factor below the authorized level for that period. The order was appealed to the
Michigan Court of Appeals by one intervenor. We are unable to predict the
outcome of this proceeding.
GCR plan for year 2006-2007: In August 2006, the MPSC issued an order for our
2006-2007 GCR Plan year, which resulted in approval of a settlement agreement
that allowed a base GCR ceiling factor of $9.48 per mcf for the 12-month period
of April 2006 through March 2007. We were able to maintain our GCR billing
factor below the authorized level for that period.
GCR plan for year 2007-2008: In December 2006, we filed an application with the
MPSC seeking approval of a GCR plan for the 12-month period of April 2007
through March 2008. Our request proposed using a GCR factor consisting of:
- a base GCR ceiling factor of $8.47 per mcf, plus
- a quarterly GCR ceiling price adjustment contingent upon future
events.
The GCR billing factor is adjusted monthly in order to minimize the over or
underrecovery amounts in our annual GCR reconciliation. Our GCR billing factor
for the month of May 2007 is $8.24 per mcf.
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2007 GAS RATE CASE: In February 2007, we filed an application with the MPSC
seeking an 11.25 percent authorized return on equity along with an $88 million
annual increase in our gas delivery and transportation rates, of which $17
million would be contributed to a low income energy efficiency fund. We have
proposed the use of a Revenue Decoupling and Conservation Incentive Mechanism
for residential and general service rate classes to help assure a reasonable
opportunity to recover costs regardless of sales levels.
OTHER CONTINGENCIES
OTHER: In addition to the matters disclosed within this Note, we are party to
certain lawsuits and administrative proceedings before various courts and
governmental agencies arising from the ordinary course of business. These
lawsuits and proceedings may involve personal injury, property damage,
contractual matters, environmental issues, federal and state taxes, rates,
licensing, and other matters.
We have accrued estimated losses for certain contingencies discussed within this
Note. Resolution of these contingencies is not expected to have a material
adverse impact on our financial position, liquidity, or future results of
operations.
FASB INTERPRETATION NO. 45, GUARANTOR'S ACCOUNTING AND DISCLOSURE REQUIREMENTS
FOR GUARANTEES, INCLUDING INDIRECT GUARANTEES OF INDEBTEDNESS OF OTHERS: The
Interpretation requires the guarantor, upon issuance of a guarantee, to
recognize a liability for the fair value of the obligation it undertakes in
issuing the guarantee.
The following table describes our guarantees at March 31, 2007:
In Millions
- -----------------------------------------------------------------------------------------------
FIN 45
Expiration Maximum Carrying
Guarantee Description Issue Date Date Obligation Amount
- --------------------- ------------ ---------- ---------- --------
Surety bonds and other indemnifications Various Various $ 1 --
Guarantee January 1987 March 2016 85 --
Nuclear insurance retrospective premiums(a) Various Indefinite 137 --
(a) We maintained nuclear insurance coverage on our nuclear plants until
Palisades and the Big Rock ISFSI were sold in April 2007. For more details
on the sale of Palisades and Big Rock, see Note 2, Contingencies, "Other
Electric Contingencies - The Sale of Nuclear Assets and the Palisades Power
Purchase Agreement."
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Consumers Energy Company
The following table provides additional information regarding our guarantees:
Events That Would Require
Guarantee Description How Guarantee Arose Performance
- --------------------- -------------------------- --------------------------------
Surety bonds and other Normal operating activity, Nonperformance
indemnifications permits and licenses
Guarantee Agreement to provide power MCV Partnership's nonperformance
and steam to Dow or non-payment under a related
contract
Nuclear insurance retrospective Normal operations of Call by NEIL and Price-Anderson
premiums nuclear plants Act for nuclear incident
At March 31, 2007, only our guarantee to provide power and steam to Dow
contained provisions allowing us to recover, from third parties, amounts paid
under the guarantees.
We sold our interests in the MCV Partnership and the FMLP. The sales agreement
calls for the purchaser, an affiliate of GSO Capital Partners and Rockland
Capital Energy Investments, to pay Consumers $85 million, subject to certain
reimbursement rights, if Dow terminates an agreement under which the MCV
Partnership provides it steam and electric power. This agreement expires in
March 2016, subject to certain terms and conditions. The purchaser secured their
reimbursement obligation with an irrevocable letter of credit of up to $85
million.
We enter into various agreements containing tax and other indemnification
provisions in connection with a variety of transactions, including the sale of
our interests in the MCV Partnership and the FMLP. In April 2007, we sold our
interest in Palisades and the Big Rock ISFSI to Entergy. As part of the
transaction, we entered into agreements containing tax and other indemnification
provisions. While we are unable to estimate the maximum potential obligation
related to these indemnities, we consider the likelihood that we would be
required to perform or incur significant losses related to these indemnities and
the guarantees listed in the preceding tables to be remote.
3: FINANCINGS AND CAPITALIZATION
Long-term debt is summarized as follows:
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
First mortgage bonds $3,172 $3,172
Senior notes and other 654 652
Securitization bonds 332 340
------ ------
Principal amounts outstanding 4,158 4,164
Current amounts (190) (31)
Net unamortized discount (6) (6)
Total Long-term debt $3,962 $4,127
====== ======
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Consumers Energy Company
REVOLVING CREDIT FACILITY: The following secured revolving credit facility with
banks is available at March 31, 2007:
In Millions
- -----------------------------------------------------------------------------------------
Amount of Amount Outstanding
Company Expiration Date Facility Borrowed Letters-of-Credit Amount Available
------- --------------- --------- -------- ----------------- ----------------
Consumers March 30, 2012 $500 $-- $59 $441
We replaced our $500 million facility in March 2007 with a new $500 million
credit facility that expires in March 2012. The new facility contains less
restrictive covenants, and provides for lower fees and lower interest margins
than the previous credit facilities.
DIVIDEND RESTRICTIONS: Under the provisions of our articles of incorporation, at
March 31, 2007, we had $227 million of unrestricted retained earnings available
to pay common stock dividends. The dividend restrictions in our revolving credit
facility were removed in March 2007. Provisions of the Federal Power Act and the
Natural Gas Act effectively restrict dividends to the amount of our retained
earnings. For the three months ended March 31, 2007, we paid $94 million in
common stock dividends to CMS Energy.
CAPITAL LEASE OBLIGATIONS: Our capital leases are comprised mainly of leased
service vehicles, power purchase agreements, and office furniture. At March 31,
2007, capital lease obligations totaled $64 million.
SALE OF ACCOUNTS RECEIVABLE: Under a revolving accounts receivable sales
program, we sell certain accounts receivable to a wholly owned, consolidated,
bankruptcy remote special purpose entity. In turn, the special purpose entity
may sell an undivided interest in up to $325 million of the receivables. The
special purpose entity sold $10 million of receivables at March 31, 2007 and
$325 million of receivables at December 31, 2006. We continue to service the
receivables sold to the special purpose entity. The purchaser of the receivables
has no recourse against our other assets for failure of a debtor to pay when due
and no right to any receivables not sold. We have neither recorded a gain or
loss on the receivables sold nor retained interest in the receivables sold.
Certain cash flows under our accounts receivable sales program are shown in the
following table:
In Millions
----------------
Three months Ended March 31 2007 2006
- --------------------------- ------ ------
Net cash flow as a result of accounts receivable financing $ (315) $ (325)
Collections from customers $1,928 $1,817
====== ======
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Consumers Energy Company
4: FINANCIAL AND DERIVATIVE INSTRUMENTS
FINANCIAL INSTRUMENTS: The carrying amounts of cash, short-term investments, and
current liabilities approximate their fair values because of their short-term
nature. We estimate the fair values of long-term financial instruments based on
quoted market prices or, in the absence of specific market prices, on quoted
market prices of similar instruments or other valuation techniques.
The cost and fair value of our long-term debt instruments including current
maturities are as follows:
In Millions
-----------------------------------------------------------
March 31, 2007 December 31, 2006
---------------------------- ----------------------------
Fair Unrealized Fair Unrealized
Cost Value Gain Cost Value Gain
------ ------ ---------- ------ ------ ----------
Long-term debt $4,152 $4,145 $7 $4,158 $4,111 $47
The summary of our available-for-sale investment securities is as follows:
In Millions
-----------------------------------------------------------------------------------
March 31, 2007 December 31, 2006
----------------------------------------- ---------------------------------------
Unrealized Unrealized Fair Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
---- ---------- ---------- ----- ---- ---------- ---------- ------
Common stock of CMS Energy (a) $ 8 $ 25 $-- $ 33 $ 10 $ 26 $-- $ 36
Nuclear decommissioning investments: (b)
Equity securities 142 149 (4) 287 140 150 (4) 286
Debt securities 228 2 (2) 228 307 4 (2) 309
SERP:
Equity securities 17 9 -- 26 17 9 -- 26
Debt securities 6 -- -- 6 6 -- -- 6
(a) At March 31, 2007, we held 1.8 million shares and at December 31, 2006, we
held 2.2 million shares of CMS Energy Common Stock.
(b) In preparation for the sale of Palisades, these investments also held cash
and cash equivalents totaling $91 million at March 31, 2007. In April 2007,
we sold Palisades and the Big Rock ISFSI to Entergy. Accordingly, we
transferred $252 million in trust fund assets to Entergy. For additional
details on the sale of Palisades and the Big Rock ISFSI, see Note 2,
Contingencies, "Other Electric Contingencies - The Sale of Nuclear Assets
and the Palisades Power Purchase Agreement."
DERIVATIVE INSTRUMENTS: In order to limit our exposure to certain market risks,
we may enter into various risk management contracts, such as swaps, options,
futures, and forward contracts. These contracts, used primarily to manage our
exposure to changes in interest rates and commodity prices, are entered into for
purposes other than trading. We enter into these contracts using established
policies and procedures, under the direction of both:
- an executive oversight committee consisting of senior management
representatives, and
- a risk committee consisting of business unit managers.
CE-43
Consumers Energy Company
The contracts we use to manage market risks may qualify as derivative
instruments that are subject to derivative and hedge accounting under SFAS No.
133. If a contract is a derivative, it is recorded on our consolidated balance
sheet at its fair value. We then adjust the resulting asset or liability each
quarter to reflect any change in the market value of the contract, a practice
known as marking the contract to market. From time to time, we enter into cash
flow hedges. If a derivative qualifies for cash flow hedge accounting treatment,
the changes in fair value (gains or losses) are reported in AOCI; otherwise, the
changes are reported in earnings.
For a derivative instrument to qualify for cash flow hedge accounting:
- the relationship between the derivative instrument and the forecasted
transaction being hedged must be formally documented at inception,
- the derivative instrument must be highly effective in offsetting the
hedged transaction's cash flows, and
- the forecasted transaction being hedged must be probable.
If a derivative qualifies for cash flow hedge accounting treatment and gains or
losses are recorded in AOCI, those gains or losses will be reclassified into
earnings in the same period or periods the hedged forecasted transaction affects
earnings. If a cash flow hedge is terminated early because it is determined that
the forecasted transaction will not occur, any gain or loss recorded in AOCI at
that date is recognized immediately in earnings. If a cash flow hedge is
terminated early for other economic reasons, any gain or loss as of the
termination date is deferred and then reclassified to earnings when the
forecasted transaction affects earnings. The ineffective portion, if any, of all
hedges is recognized in earnings.
To determine the fair value of our derivatives, we use information from external
sources (i.e., quoted market prices and third-party valuations), if available.
For certain contracts, this information is not available and we use mathematical
valuation models to value our derivatives. These models require various inputs
and assumptions, including commodity market prices and volatilities, as well as
interest rates and contract maturity dates. The cash returns we actually realize
on these contracts may vary, either positively or negatively, from the results
that we estimate using these models. As part of valuing our derivatives at
market, we maintain reserves, if necessary, for credit risks arising from the
financial condition of our counterparties.
The majority of our commodity purchase and sale contracts are not subject to
derivative accounting under SFAS No. 133 because:
- they do not have a notional amount (that is, a number of units
specified in a derivative instrument, such as MWh of electricity or
bcf of natural gas),
- they qualify for the normal purchases and sales exception, or
- there is not an active market for the commodity.
Our coal purchase contracts are not derivatives because there is not an active
market for the coal we purchase. If an active market for coal develops in the
future, some of these contracts may qualify as derivatives and the resulting
mark-to-market impact on earnings could be material.
Derivative accounting is required for certain contracts used to limit our
exposure to commodity price risk. At March 31, 2007, the fair value of these
derivative contracts was immaterial.
CE-44
Consumers Energy Company
5: RETIREMENT BENEFITS
We provide retirement benefits to our employees under a number of different
plans, including:
- a non-contributory, defined benefit Pension Plan,
- a cash balance Pension Plan for certain employees hired between July
1, 2003 and August 31, 2005,
- a DCCP for employees hired on or after September 1, 2005,
- benefits to certain management employees under SERP,
- a defined contribution 401(k) Savings Plan,
- benefits to a select group of management under the EISP, and
- health care and life insurance benefits under OPEB.
Pension Plan: The Pension Plan includes funds for most of our current employees,
the employees of our subsidiaries, and Panhandle, a former subsidiary. The
Pension Plan's assets are not distinguishable by company.
In April 2007, we sold the Palisades nuclear plant to Entergy. Employees
transferred to Entergy as a result of the sale no longer participate in our
retirement benefit plans. In April 2007, we recorded a net reduction of $27
million in pension SFAS No. 158 regulatory assets with a corresponding decrease
of $27 million in pension liabilities on our Consolidated Balance Sheets. We
also recorded a net reduction of $15 million in OPEB regulatory SFAS No. 158
assets with a corresponding decrease of $15 million in OPEB liabilities. The
following table shows the net adjustment:
Pension OPEB
------- ----
Plan liability transferred to Entergy $44 $20
Trust assets transferred to Entergy 17 5
--- ---
Net adjustment $27 $15
=== ===
Beginning May 1, 2007, the CMS Energy Common Stock Fund will no longer be an
investment option available for new investments in the 401(k) Savings Plan and
the employer's match will no longer be in CMS Energy Stock. Participants will
have an opportunity to reallocate investments in the CMS Energy Stock Fund to
other plan investment alternatives. Beginning November 1, 2007, any remaining
shares in the CMS Energy Stock Fund will be sold and the sale proceeds will be
reallocated to other plan investment options. At March 31, 2007, there were 10
million shares of CMS Energy Common Stock in the CMS Energy Stock Fund.
SFAS No. 158, Employers' Accounting for Defined Benefit Pension and Other
Postretirement Plans - an amendment of FASB Statements No. 87, 88, 106, and
132(R): In September 2006, the FASB issued SFAS No. 158. Phase one of this
standard required us to recognize the funded status of our defined benefit
postretirement plans on our Consolidated Balance Sheets at December 31, 2006.
Phase one was implemented in December 2006. Phase two of this standard requires
that we change our plan measurement date from November 30 to December 31,
effective December 31, 2008. We do not believe that implementation of phase two
of this standard will have a material effect on our consolidated financial
statements. We expect to adopt the measurement date provisions of SFAS No. 158
in 2008.
CE-45
Consumers Energy Company
Costs: The following table recaps the costs, other changes in plan assets, and
benefit obligations incurred in our retirement benefits plans:
In Millions
-------------------------
Pension OPEB
----------- -----------
Three Months Ended March 31 2007 2006 2007 2006
---- ---- ---- ----
Service cost $ 12 $ 12 $ 6 $ 6
Interest expense 20 19 17 16
Expected return on plan assets (19) (20) (16) (14)
Amortization of:
Net loss 11 10 6 5
Prior service cost (credit) 2 2 (2) (3)
---- ---- ---- ----
Net periodic cost 26 23 11 10
Regulatory adjustment (4) (3) (2) --
---- ---- ---- ----
Net periodic cost after regulatory adjustment $ 22 $ 20 $ 9 $ 10
==== ==== ==== ====
6: ASSET RETIREMENT OBLIGATIONS
SFAS NO. 143, ACCOUNTING FOR ASSET RETIREMENT OBLIGATIONS: This standard
requires companies to record the fair value of the cost to remove assets at the
end of their useful life, if there is a legal obligation to remove them. Fair
value, to the extent possible, should include a market risk premium for
unforeseeable circumstances. No market risk premium was included in our ARO fair
value estimate since a reasonable estimate could not be made. If a five percent
market risk premium were assumed, our ARO liability would increase by $25
million.
If a reasonable estimate of fair value cannot be made in the period in which the
ARO is incurred, such as for assets with indeterminate lives, the liability is
to be recognized when a reasonable estimate of fair value can be made.
Generally, gas transmission and electric and gas distribution assets have
indeterminate lives. Retirement cash flows cannot be determined and there is a
low probability of a retirement date. Therefore, no liability has been recorded
for these assets or associated obligations related to potential future
abandonment. Also, no liability has been recorded for assets that have
insignificant cumulative disposal costs, such as substation batteries. The
measurement of the ARO liabilities for Palisades and Big Rock include use of
decommissioning studies that largely utilize third-party cost estimates.
FASB INTERPRETATION NO. 47, ACCOUNTING FOR CONDITIONAL ASSET RETIREMENT
OBLIGATIONS: This Interpretation clarified the term "conditional asset
retirement obligation" as used in SFAS No. 143. The term refers to a legal
obligation to perform an asset retirement activity in which the timing and (or)
method of settlement are conditional on a future event. We determined that
abatement of asbestos included in our plant investments qualifies as a
conditional ARO, as defined by FIN 47.
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Consumers Energy Company
The following tables describe our assets that have legal obligations to be
removed at the end of their useful life:
March 31, 2007 In Millions
- -----------------------------------------------------------------------------------------------------
In Service Trust
ARO Description Date Long-Lived Assets Fund
- --------------- ---------- ------------------------------------ -----
Palisades - decommission plant site 1972 Palisades nuclear plant $604
Big Rock - decommission plant site 1962 Big Rock nuclear plant 2
JHCampbell intake/discharge water line 1980 Plant intake/discharge water line --
Closure of coal ash disposal areas Various Generating plants coal ash areas --
Closure of wells at gas storage fields Various Gas storage fields --
Indoor gas services equipment relocations Various Gas meters located inside structures --
Asbestos abatement 1973 Electric and gas utility plant --
In Millions
- --------------------------------------------------------------------------------------------------------
ARO ARO
Liability Cash flow Liability
ARO Description 12/31/06 Incurred Settled (a) Accretion Revisions 3/31/07
- --------------- --------- -------- ----------- --------- --------- ---------
Palisades - decommission $401 $-- $-- $ 7 $ 2 $410
Big Rock - decommission 2 -- -- 1 -- 3
JHCampbell intake line -- -- -- -- -- --
Coal ash disposal areas 57 -- (1) 1 -- 57
Wells at gas storage fields 1 -- -- -- -- 1
Indoor gas services relocations 1 -- -- -- -- 1
Asbestos abatement 35 -- (1) 1 -- 35
---- --- --- --- --- ----
Total $497 $-- $(2) $10 $ 2 $507
==== === === === === ====
(a) These cash payments are included in the Other current and non-current
liabilities line in Net cash provided by operating activities in our
Consolidated Statements of Cash Flows.
In April 2007, we sold Palisades to Entergy and paid Entergy to assume ownership
and responsibility for the Big Rock ISFSI. Our AROs related to Palisades and Big
Rock ISFSI ended with the sale and the related ARO liabilities will be removed
from our Consolidated Balance Sheets. We also expect to remove the Big Rock ARO
related to the plant in the second quarter of 2007 due to the completion of
decommissioning.
In October 2004, the MPSC initiated a generic proceeding to review SFAS No. 143,
FERC Order No. 631, Accounting, Financial Reporting, and Rate Filing
Requirements for Asset Retirement Obligations, and related accounting and
ratemaking issues for MPSC-jurisdictional electric and gas utilities. In August
2006, the ALJ issued a Proposal for Decision that included recommendations that
the MPSC:
- adopt SFAS No. 143 and FERC Order No. 631 for accounting purposes but
not for ratemaking purposes,
- consider adopting standardized retirement units for certain accounts,
- consider revising the method of determining cost of removal, and
CE-47
Consumers Energy Company
- withhold approving blanket regulatory asset and regulatory liability
accounting treatment related to AROs, stating that modifications to
the MPSC's Uniform System of Accounts should precede any such
accounting approval.
We consider the proceeding a clarification of accounting and reporting issues
that relate to all Michigan utilities. We cannot predict the outcome of the
proceeding.
7: INCOME TAXES
The principal components of deferred tax assets (liabilities) recognized on our
Consolidated Balance Sheets both before and after the adoption of FIN 48 are as
follows:
In Millions
-------------------
01/01/07 12/31/06
-------- --------
Property $(725) $(814)
Securitized costs (177) (177)
Gas inventories (168) (168)
Employee benefits 36 36
SFAS No. 109 regulatory liability, net 189 189
Nuclear decommissioning 57 57
Tax loss and credit carryforwards 178 209
Valuation allowances (22) (15)
Other, net (176) (175)
----- -----
Net deferred tax liabilities $(808) $(858)
===== =====
As a result of the implementation of FIN 48, we have identified additional
uncertain tax benefits of $5 million as of January 1, 2007. Included in this
amount is an increase in our valuation allowance of $7 million, increases to tax
reserves of $55 million and a decrease to deferred tax liabilities of $57
million.
Consumers joins in the filing of a consolidated U.S. federal income tax return
as well as unitary and combined income tax returns in several states. Consumers
and its subsidiaries also file separate company income tax returns in several
states. The only significant state tax paid by Consumers or any of its
subsidiaries is in Michigan. However, since the Michigan Single Business Tax is
not an income tax, it is not part of the FIN 48 analysis. The IRS has completed
its audits for all the consolidated federal returns, of which Consumers is a
member, for years through 2001. The federal income tax returns for the years
2002 through 2005 are open under the statute of limitations.
We have reflected a net interest liability of $1 million related to our
uncertain income tax positions on our Consolidated Balance Sheets as of January
1, 2007. We have not accrued any penalties with respect to uncertain tax
benefits. We recognize accrued interest and penalties, where applicable, related
to uncertain tax benefits as part of income tax expense.
As of the date of adoption of FIN 48, we had valuation allowances against
certain deferred tax assets totaling $22 million and other net uncertain tax
positions of $55 million, resulting in total uncertain benefits of $77 million.
Of this amount, $24 million would result in a decrease in our effective tax
rate,
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Consumers Energy Company
if recognized. We are not expecting any material changes to our uncertain tax
positions over the next 12 months.
The actual income tax expense differs from the amount computed by applying the
statutory federal tax rate of 35 percent to income before income taxes as
follows:
In Millions
-----------
Quarters Ended March 31 2007 2006
- ----------------------- ---- ----
Net income $113 $ 10
Income tax expense 60 9
---- ----
Income before income taxes 173 19
Statutory federal income tax rate x35% x35%
---- ----
Expected income tax expense 61 7
Increase (decrease) in taxes from:
Property differences 5 6
Fair market value charitable donation (2) --
Tax exempt income (1) (1)
Medicare Part D exempt income (2) (1)
Income tax credit amortization (1) (1)
Other, net -- (1)
---- ----
Recorded income tax expense $ 60 $ 9
==== ====
Effective tax rate 35% 47%
==== ====
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Consumers Energy Company
8: REPORTABLE SEGMENTS
Our reportable segments consists of business units organized and managed by the
nature of the products and services each provides. We evaluate performance based
upon the net income of each segment. We operate principally in two segments:
electric utility and gas utility.
The following tables show our financial information by reportable segment:
In Millions
---------------
Three Months Ended March 31 2007 2006
- --------------------------- ------ ------
Operating Revenue
Electric $ 844 $ 729
Gas 1,211 1,041
Other -- 12
------ ------
Total Operating Revenue $2,055 $1,782
====== ======
Net Income Available to Common Stockholder
Electric $ 51 $ 29
Gas 57 37
Other 4 (56)
------ ------
Total Net Income Available to Common Stockholder $ 112 $ 10
====== ======
In Millions
----------------------------------
March 31, 2007 December 31, 2006
-------------- -----------------
Assets
Electric (a) $ 8,557 $ 8,516
Gas (a) 3,410 3,950
Other 812 379
------- -------
Total Assets $12,779 $12,845
======= =======
(a) Amounts include a portion of our other common assets attributable to both
the electric and gas utility businesses.
CE-50
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
CMS ENERGY
Quantitative and Qualitative Disclosures about Market Risk is contained in PART
I: CMS Energy Corporation's Management's Discussion and Analysis, which is
incorporated by reference herein.
CONSUMERS
Quantitative and Qualitative Disclosures about Market Risk is contained in PART
I: Consumers Energy Company's Management's Discussion and Analysis, which is
incorporated by reference herein.
ITEM 4. CONTROLS AND PROCEDURES
CMS ENERGY
Disclosure Controls and Procedures: CMS Energy's management, with the
participation of its CEO and CFO, has evaluated the effectiveness of its
disclosure controls and procedures (as such term is defined in Rules 13a-15(e)
and 15d-15(e) under the Exchange Act) as of the end of the period covered by
this report. Based on such evaluation, CMS Energy's CEO and CFO have concluded
that, as of the end of such period, its disclosure controls and procedures are
effective.
Internal Control Over Financial Reporting: There has been one change in CMS
Energy's internal control over financial reporting (as such term is defined in
Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the last fiscal
quarter. This change concerns the restoration of the common dividend, which has
been evaluated as effective. There have not been any other changes in CMS
Energy's internal control over financial reporting (as such term is defined in
Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the last fiscal
quarter that have materially affected, or are reasonably likely to materially
affect, its internal control over financial reporting.
CONSUMERS
Disclosure Controls and Procedures: Consumers' management, with the
participation of its CEO and CFO, has evaluated the effectiveness of its
disclosure controls and procedures (as such term is defined in Rules 13a-15(e)
and 15d-15(e) under the Exchange Act) as of the end of the period covered by
this report. Based on such evaluation, Consumers' CEO and CFO have concluded
that, as of the end of such period, its disclosure controls and procedures are
effective.
Internal Control Over Financial Reporting: There have not been any changes in
Consumers' internal control over financial reporting (as such term is defined in
Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the last fiscal
quarter that have materially affected, or are reasonably likely to materially
affect, its internal control over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The discussion below is limited to an update of developments that have occurred
in various judicial and administrative proceedings, many of which are more fully
described in CMS Energy's and Consumers' Forms 10-K for the year ended December
31, 2006. Reference is also made to the NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS, in particular, Note 3, Contingencies, for CMS Energy
CO-1
and Note 2, Contingencies, for Consumers, included herein for additional
information regarding various pending administrative and judicial proceedings
involving rate, operating, regulatory and environmental matters.
CMS ENERGY
GAS INDEX PRICE REPORTING LITIGATION
Texas-Ohio Energy, Inc. filed a putative class action lawsuit in the United
States District Court for the Eastern District of California in November 2003
against a number of energy companies engaged in the sale of natural gas in the
United States (including CMS Energy). The complaint alleged defendants entered
into a price-fixing scheme by engaging in activities to manipulate the price of
natural gas in California. The complaint alleged violations of the federal
Sherman Act, the California Cartwright Act, and the California Business and
Professions Code relating to unlawful, unfair and deceptive business practices.
The complaint sought both actual and exemplary damages for alleged overcharges,
attorneys' fees and injunctive relief regulating defendants' future conduct
relating to pricing and price reporting. In April 2004, a Nevada Multidistrict
Litigation (MDL) Panel ordered the transfer of the Texas-Ohio case to a pending
MDL matter in the Nevada federal district court that at the time involved seven
complaints originally filed in various state courts in California. These
complaints make allegations similar to those in the Texas-Ohio case regarding
price reporting, although none contain a federal Sherman Act claim. In November
2004, those seven complaints, as well as a number of others that were originally
filed in various state courts in California and subsequently transferred to the
MDL proceeding, were remanded back to California state court. The Texas-Ohio
case remained in Nevada federal district court, and defendants, with CMS Energy
joining, filed a motion to dismiss. The court issued an order granting the
motion to dismiss on April 8, 2005 and entered a judgment in favor of the
defendants on April 11, 2005. Texas-Ohio has appealed the dismissal to the Ninth
Circuit Court of Appeals.
Three federal putative class actions, Fairhaven Power Company v. Encana
Corp. et al., Utility Savings & Refund Services LLP v. Reliant Energy Resources
Inc. et al., and Abelman Art Glass v. Encana Corp. et al., all of which make
allegations similar to those in the Texas-Ohio case regarding price manipulation
and seek similar relief, were originally filed in the United States District
Court for the Eastern District of California in September 2004, November 2004
and December 2004, respectively. The Fairhaven and Abelman Art Glass cases also
include claims for unjust enrichment and a constructive trust. The three
complaints were filed against CMS Energy and many of the other defendants named
in the Texas-Ohio case. In addition, the Utility Savings case names CMS MST and
Cantera Resources Inc. (Cantera Resources Inc. is the parent of Cantera Natural
Gas, LLC. and CMS Energy is required to indemnify Cantera Natural Gas, LLC and
Cantera Resources Inc. with respect to these actions.)
The Fairhaven, Utility Savings and Abelman Art Glass cases have been
transferred to the MDL proceeding, where the Texas-Ohio case was pending.
Pursuant to stipulation by the parties and court order, defendants were not
required to respond to the Fairhaven, Utility Savings and Abelman Art Glass
complaints until the court ruled on defendants' motion to dismiss in the
Texas-Ohio case. Plaintiffs subsequently filed a consolidated class action
complaint alleging violations of federal and California antitrust laws.
Defendants filed a motion to dismiss, arguing that the consolidated complaint
should be dismissed for the same reasons as the Texas-Ohio case. The court
issued an order granting the motion to dismiss on December 19, 2005 and entered
judgment in favor of defendants on December 23, 2005. Plaintiffs have appealed
the dismissal to the Ninth Circuit Court of Appeals. California-based plaintiffs
in the pending Ninth Circuit Court of Appeals cases (Texas-Ohio, Fairhaven,
Abelman Art Glass and Utility Savings) have entered into a settlement agreement
dated January 10, 2007 to collectively settle their claims against all CMS
Energy defendants for the payment of $700,000. Plaintiffs filed a motion for
preliminary approval of this and other settlements with various defendants on
April 3, 2007.
CO-2
Commencing in or about February 2004, 15 state law complaints containing
allegations similar to those made in the Texas-Ohio case, but generally limited
to the California Cartwright Act and unjust enrichment, were filed in various
California state courts against many of the same defendants named in the federal
price manipulation cases discussed above. In addition to CMS Energy, CMS MST is
named in all of the 15 state law complaints. Cantera Gas Company and Cantera
Natural Gas, LLC (erroneously sued as Cantera Natural Gas, Inc.) are named in
all but one complaint.
In February 2005, these 15 separate actions, as well as nine other similar
actions that were filed in California state court but do not name CMS Energy or
any of its former or current subsidiaries, were ordered coordinated with pending
coordinated proceedings in the San Diego Superior Court. The 24 state court
complaints involving price reporting were coordinated as Natural Gas Antitrust
Cases V. Plaintiffs in Natural Gas Antitrust Cases V were ordered to file a
consolidated complaint, but a consolidated complaint was filed only for the two
putative class action lawsuits. Pursuant to a ruling dated August 23, 2006, CMS
Energy, Cantera Gas Company and Cantera Natural Gas, LLC were dismissed as
defendants in the master class action and the thirteen non-class actions, due to
lack of personal jurisdiction. CMS MST remains a defendant in all of these
actions. CMS MST has settled a master class action suit in California state
court for $7 million. In March 2007, CMS Energy paid $7 million into a trust
fund account following preliminary approval of the settlement by the judge. The
settlement remains subject to final approval pending notice to members of the
class, who have an opportunity to opt out of or object to the settlement.
Samuel D. Leggett, et al v. Duke Energy Corporation, et al, a class action
complaint brought on behalf of retail and business purchasers of natural gas in
Tennessee, was filed in the Chancery Court of Fayette County, Tennessee in
January 2005. The complaint contains claims for violations of the Tennessee
Trade Practices Act based upon allegations of false reporting of price
information by defendants to publications that compile and publish indices of
natural gas prices for various natural gas hubs. The complaint seeks statutory
full consideration damages and attorneys fees and injunctive relief regulating
defendants' future conduct. The defendants include CMS Energy, CMS MST and CMS
Field Services. On August 10, 2005, certain defendants, including CMS MST, filed
a motion to dismiss and CMS Energy and CMS Field Services filed a motion to
dismiss for lack of personal jurisdiction. Defendants attempted to remove the
case to federal court, but it was remanded to state court by a federal judge. On
February 2, 2007, the state court granted defendants' motion to dismiss the
complaint.
J.P. Morgan Trust Company, in its capacity as Trustee of the FLI
Liquidating Trust, filed an action in Kansas state court in August 2005 against
a number of energy companies, including CMS Energy, CMS MST and CMS Field
Services. The complaint alleges various claims under the Kansas Restraint of
Trade Act relating to reporting false natural gas trade information to
publications that report trade information. Plaintiff is seeking statutory full
consideration damages for its purchases of natural gas between January 1, 2000
and December 31, 2001. The case was removed to the United States District Court
for the District of Kansas on September 8, 2005 and transferred to the MDL
proceeding on October 13, 2005. A motion to remand the case back to Kansas state
court was denied on April 21, 2006. The court issued an order granting the
motion to dismiss on December 18, 2006, and entered judgment in favor of
defendants on January 4, 2007.
On November 20, 2005, CMS MST was served with a summons and complaint which
named CMS Energy, CMS MST and CMS Field Services as defendants in a putative
class action filed in Kansas state court, Learjet, Inc., et al. v. Oneok, Inc.,
et al. Similar to the other actions that have been filed, the complaint alleges
that during the putative class period, January 1, 2000 through October 31, 2002,
defendants engaged in a scheme to violate the Kansas Restraint of Trade Act by
knowingly reporting false or inaccurate information to the publications, thereby
affecting the market price of natural gas. Plaintiffs,
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who allege they purchased natural gas from defendants and others for their
facilities, are seeking statutory full consideration damages consisting of the
full consideration paid by plaintiffs for natural gas. On December 7, 2005, the
case was removed to the United States District Court for the District of Kansas
and later that month a motion was filed to transfer the case to the MDL
proceeding. On January 6, 2006, plaintiffs filed a motion to remand the case to
Kansas state court. On January 23, 2006, a conditional transfer order
transferring the case to the MDL proceeding was issued. On February 7, 2006,
plaintiffs filed an opposition to the conditional transfer order. The court
issued an order dated August 3, 2006 denying the motion to remand the case to
Kansas state court.
Breckenridge Brewery of Colorado, LLC and BBD Acquisition Co. v. Oneok,
Inc., et al., a class action complaint brought on behalf of retail direct
purchasers of natural gas in Colorado, was filed in Colorado state court in May
2006. Defendants, including CMS Energy, CMS Field Services, and CMS MST, are
alleged to have violated the Colorado Antitrust Act of 1992 in connection with
their natural gas price reporting activities. Plaintiffs are seeking full refund
damages. The case was removed to the United States District Court for the
District of Colorado on June 12, 2006 and a conditional transfer order
transferring the case to the MDL proceeding was entered on June 27, 2006.
Plaintiffs are seeking to have the case remanded back to Colorado state court.
On October 30, 2006, CMS Energy and CMS MST were each served with a summons
and complaint which named CMS Energy, CMS MST and CMS Field Services as
defendants in an action filed in Missouri state court, titled Missouri Public
Service Commission v. Oneok, Inc. The Missouri Public Service Commission
purportedly is acting as an assignee of six local distribution companies, and it
alleges that from at least January 2000 through at least October 2002,
defendants knowingly reported false natural gas prices to publications that
compile and publish indices of natural gas prices, and engaged in wash sales.
The complaint contains claims for violation of the Missouri Anti-Trust Law,
fraud and unjust enrichment. A second action, Heartland Regional Medical Center,
et al. v. Oneok, Inc., et al., was filed in Missouri state court in March 2007
alleging violations of Missouri anti-trust laws. The second action is denoted as
a class action.
A class action complaint, Arandell Corp., et al v. XCEL Energy Inc., et al,
was filed on or about December 15, 2006 in Wisconsin state court on behalf of
Wisconsin commercial entities that purchased natural gas between January 1, 2000
and October 31, 2002. Defendants, including CMS Energy, CMS ERM and Cantera Gas
Company, LLC, are alleged to have violated Wisconsin's Anti-Trust statute by
conspiring to manipulate natural gas prices. Plaintiffs are seeking full
consideration damages, plus exemplary damages in an amount equal to three times
the actual damages, and attorneys' fees. The action was removed to Wisconsin
federal district court and CMS entered a special appearance for purpose of
filing a motion to dismiss all the CMS defendants on the ground of lack of
personal jurisdiction.
CMS Energy and the other CMS defendants will defend themselves vigorously
against these matters but cannot predict their outcome.
QUICKSILVER RESOURCES, INC.
On November 1, 2001, Quicksilver sued CMS MST in the Texas State Court in
Fort Worth, Texas for breach of contract in connection with a Base Contract for
Sale and Purchase of natural gas, pursuant to which Quicksilver agreed to sell,
and CMS MST agreed to buy, natural gas. Quicksilver contended that a special
provision in the contract requires CMS MST to pay Quicksilver 50 percent of the
difference between $2.47/MMBtu and the index price each month. CMS MST disagrees
with Quicksilver's interpretation of the special provision and contends that it
has paid all monies owed for delivery of gas pursuant to the contract.
Quicksilver is seeking damages of approximately $126 million, plus prejudgment
interest and attorneys' fees, which in CMS Energy's judgment is unsupported by
the facts.
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The matter was tried before a jury in March 2007. The jury made a finding
that CMS MST has breached the agreement with Quicksilver, but found that
Quicksilver had failed to prove damages and accordingly awarded zero
compensatory damages to Quicksilver. However, the jury awarded $10 million in
punitive damages against CMS MST. CMS MST will oppose the award of punitive
damages on the basis that Texas law will not permit an award of punitive damages
if no compensatory damages have been awarded. The trial court has scheduled a
date in early May to consider motions to enter judgment by the opposing sides of
the litigation.
CMS ENERGY AND CONSUMERS
SECURITIES CLASS ACTION LAWSUITS
Beginning in May 2002, a number of complaints were filed against CMS
Energy, Consumers and certain officers and directors of CMS Energy and its
affiliates in the United States District Court for the Eastern District of
Michigan. The cases were consolidated into a single lawsuit (the "Shareholder
Action"), which generally seeks unspecified damages based on allegations that
the defendants violated United States securities laws and regulations by making
allegedly false and misleading statements about CMS Energy's business and
financial condition, particularly with respect to revenues and expenses recorded
in connection with round-trip trading by CMS MST. In January 2005, the court
granted a motion to dismiss Consumers and three of the individual defendants,
but denied the motions to dismiss CMS Energy and the 13 remaining individual
defendants. In March 2006, the court conditionally certified a class consisting
of "all persons who purchased CMS Common Stock during the period of October 25,
2000 through and including May 17, 2002 and who were damaged thereby." The court
excluded purchasers of CMS Energy's 8.75 percent Adjustable Convertible Trust
Securities ("ACTS") from the class and, in response, a new class action lawsuit
was filed on behalf of ACTS purchasers (the "ACTS Action") against the same
defendants named in the Shareholder Action. The settlement described below, if
approved, will resolve both the Shareholder and ACTS Actions.
On January 3, 2007, CMS Energy and other parties entered into a Memorandum
of Understanding (the "MOU"), subject to court approval, regarding settlement of
the two class action lawsuits. The settlement was approved by a special
committee of independent directors and by the full board of directors of CMS
Energy. Both judged that it was in the best interests of shareholders to
eliminate this business uncertainty. The MOU is expected to lead to a detailed
stipulation of settlement that will be presented to the assigned federal judge
and the affected class in the second quarter of 2007. Under the terms of the
MOU, the litigation will be settled for a total of $200 million, including the
cost of administering the settlement and any attorney fees the court awards. CMS
Energy will make a payment of approximately $123 million plus an amount
equivalent to interest on the outstanding unpaid settlement balance beginning on
the date of preliminary approval of the court and running until the balance of
the settlement funds is paid into a settlement account. Out of the total
settlement, CMS Energy's insurers will pay approximately $77 million directly to
the settlement account. CMS Energy took an approximately $123 million pre-tax
charge to 2006 earnings in the fourth quarter of 2006. In entering into the MOU,
CMS Energy makes no admission of liability under the Shareholder Action and the
ACTS Action.
ENVIRONMENTAL MATTERS
CMS Energy and Consumers, as well as their subsidiaries and affiliates are
subject to various federal, state and local laws and regulations relating to the
environment. Several of these companies have been named parties to various
actions involving environmental issues. Based on their present knowledge and
subject to future legal and factual developments, they believe it is unlikely
that these actions, individually or in total, will have a material adverse
effect on their financial condition or future results of operations.
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For additional information, see both CMS Energy's and Consumers' Forms 10-K for
the year ended December 31, 2006 - ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
and ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA -- NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS.
ITEM 1A. RISK FACTORS
Other than discussed below, there have been no material changes to the Risk
Factors as previously disclosed in CMS Energy's Form 10-K and Consumers' Form
10-K for the year ended December 31, 2006.
RISK RELATED TO CMS ENERGY
CMS ENERGY HAS MADE SUBSTANTIAL INTERNATIONAL INVESTMENTS THAT ARE SUBJECT
TO POSSIBLE NATIONALIZATION, EXPROPRIATION OR INABILITY TO CONVERT CURRENCY.
CMS Energy has recently completed asset sales of substantially all of its
international assets. Its remaining international assets located in Argentina,
Chile and Jamaica are subject to sale that is expected to be completed later
this year. Therefore, CMS Energy's international exposure is reduced
significantly.
RISKS RELATED TO CMS ENERGY AND CONSUMERS
CMS ENERGY AND CONSUMERS MAY BE ADVERSELY AFFECTED BY REGULATORY
INVESTIGATIONS REGARDING "ROUND-TRIP" TRADING BY CMS MST AS WELL AS CIVIL
LAWSUITS REGARDING PRICING INFORMATION THAT CMS MST AND CMS FIELD SERVICES
PROVIDED TO MARKET PUBLICATIONS.
As a result of round-trip trading transactions (simultaneous, prearranged
commodity trading transactions in which energy commodities were sold and
repurchased at the same price) at CMS MST, CMS Energy is under investigation by
the DOJ. CMS Energy received subpoenas in 2002 and 2003 from U.S. Attorneys'
Offices regarding investigations of those trades. CMS Energy responded to those
subpoenas in 2003 and 2004.
In March 2004, the SEC approved a cease-and-desist order settling an
administrative action against CMS Energy relating to round-trip trading. The
order did not assess a fine and CMS Energy neither admitted nor denied the
order's findings.
CMS Energy has notified appropriate regulatory and governmental agencies
that some employees at CMS MST and CMS Field Services appeared to have provided
inaccurate information regarding natural gas trades to various energy industry
publications which compile and report index prices. CMS Energy is cooperating
with an ongoing investigation by the DOJ regarding this matter. CMS Energy is
unable to predict the outcome of the DOJ investigation and what effect, if any,
the investigation will have on CMS Energy. The CFTC filed a civil injunctive
action against two former CMS Field Services employees in Oklahoma federal
district court on February 1, 2005. The action alleges the two engaged in
reporting false natural gas trade information, and seeks to enjoin these acts,
compel compliance with the Commodities Exchange Act, and impose monetary
penalties. Trial dates have been held in abeyance pending settlement
discussions. CMS Energy is currently advancing legal defense costs to the two
individuals in accordance with existing indemnification policies.
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CMS Energy, CMS MST, CMS Field Services, Cantera Natural Gas, Inc. (the
company that purchased CMS Field Services) and Cantera Gas Company are named as
defendants in various lawsuits arising as a result of false natural gas price
reporting. Allegations include manipulation of NYMEX natural gas futures and
options prices, price-fixing conspiracies, and artificial inflation of natural
gas retail prices in California, Colorado, Kansas, Missouri, Tennessee, and
Wisconsin. In September 2006, CMS MST reached an agreement in principle to
settle a master class action suit in California for $7 million, pending approval
by the trial Court. The court entered an order granting preliminary approval of
the settlement, and CMS MST has paid the $7 million settlement amount.
CMS Energy and the other CMS Energy defendants will defend themselves
vigorously against all of these matters, but cannot predict the outcome of the
DOJ investigations and the lawsuits. It is possible that the outcome in one or
more of the investigations or the lawsuits could adversely affect CMS Energy's
and Consumers' financial condition, liquidity or results of operations.
CMS ENERGY AND CONSUMERS COULD INCUR SIGNIFICANT CAPITAL EXPENDITURES TO
COMPLY WITH ENVIRONMENTAL STANDARDS AND FACE DIFFICULTY IN RECOVERING THESE
COSTS ON A CURRENT BASIS.
CMS Energy, Consumers, and their subsidiaries are subject to costly and
increasingly stringent environmental regulations. They expect that the cost of
future environmental compliance, especially compliance with clean air and water
laws, will be significant.
In 1998, the EPA issued regulations requiring the State of Michigan to
further limit nitrogen oxide emissions at coal-fired electric generating plants.
The EPA and State of Michigan regulations require Consumers to make significant
capital expenditures estimated to be $835 million. As of March 2007, Consumers
has incurred $760 million in capital expenditures to comply with these
regulations and anticipates that the remaining $75 million of capital
expenditures will be made in 2007 through 2011. In addition to modifying
coal-fired electric plants, Consumers' compliance plan includes the use of
nitrogen oxide emission allowances until all of the control equipment is
operational in 2011. The nitrogen oxide emission allowance annual expense is
projected to be $3 million per year, which Consumers expects to recover from
customers through the PSCR process.
In March 2005, the EPA adopted the Clean Air Interstate Rule that requires
additional coal-fired electric plant emission controls for nitrogen oxides and
sulfur dioxide. Consumers plans to meet the nitrogen oxide requirements of this
rule by year-round operation of its selective catalytic reduction control
technology units, installation of low nitrogen oxide burners, and purchasing
emission allowances. Consumers plans to meet the sulfur dioxide requirements of
this rule using sorbent injection, installation of flue gas desulfurization
scrubbers and purchasing emission allowances. Consumers' total cost for
equipment installation is expected to reach approximately $700 million by 2015.
Additional purchases of sulfur dioxide emission allowances in 2012 and 2013 will
be needed for an estimated cost of $12 million per year, which Consumers expects
to recover from customers through the PSCR process.
Also in March 2005, the EPA issued the Clean Air Mercury Rule, which
requires initial reductions of mercury emissions from coal-fired electric
generating plants by 2010 and further reductions by 2018. In April 2006,
Michigan's governor announced a plan that would result in mercury emissions
reductions of 90 percent by 2015. Consumers is currently working with the MDEQ
on the details of these rules; however, Consumers has developed preliminary cost
estimates and a mercury emissions reduction plan based on its best knowledge of
control technology options and anticipated requirements. Consumers' plan
includes expenditures of close to $550 million for mercury control equipment and
continuous emissions monitoring systems through 2014.
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Several legislative proposals have been introduced in the United States
Congress that would require reductions in emissions of greenhouse gases,
including carbon dioxide. CMS Energy and Consumers cannot predict whether any of
these proposals will be enacted, or the specific requirements of any of these
proposals and their effect on future operations and financial results. On April
2, 2007, the U.S. Supreme Court ruled that the Clean Air Act gives the EPA the
authority to regulate emissions of carbon dioxide and other greenhouse gases
from automobiles. In its decision, the court ordered the EPA to revisit its
contention that it has the discretion not to regulate greenhouse gas emissions
from automobiles.
To the extent that greenhouse gas emission reduction rules come into
effect, the mandatory emissions reduction requirements could have far-reaching
and significant implications for the energy sector. CMS Energy and Consumers
cannot estimate the potential effect of federal or state greenhouse gas policy
on their future consolidated results of operations, cash flows, or financial
position due to the uncertain nature of the policies at this time. However, CMS
Energy and Consumers will continue to monitor greenhouse gas policy developments
and assess and respond to their potential implications on their business
operations.
In March 2004, the EPA issued rules that govern electric generating plant
cooling water intake systems. The rules require significant reduction in fish
killed by operating equipment. EPA compliance options in the rule were
challenged in court. In January 2007, the court rejected many of the compliance
options favored by industry and remanded the bulk of the rule back to the EPA
for reconsideration. The court's ruling is expected to increase significantly
the cost of complying with this rule. However, the cost to comply will not be
known until the EPA's reconsideration is complete. At this time, the EPA has not
established a schedule to address the court decision.
CMS Energy expects to collect fully from its customers, through the
ratemaking process, these and other required environmental expenditures.
However, if these expenditures are not recovered from customers in Consumers'
rates, CMS Energy and/or Consumers may be required to seek significant
additional financing to fund these expenditures, which could strain their cash
resources.
CONSUMERS' OWNERSHIP OF A NUCLEAR GENERATING FACILITY CREATES RISK RELATING
TO NUCLEAR ENERGY.
On April 11, 2007, Consumers completed the sale of its Palisades nuclear
plant to Entergy. As a result, Consumers no longer owns any nuclear facilities
and therefore does not have any risks associated with the ownership of nuclear
generating facilities.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
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ITEM 6. EXHIBITS
(31)(a) CMS Energy Corporation's certification of the CEO pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
(31)(b) CMS Energy Corporation's certification of the CFO pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
(31)(c) Consumers Energy Company's certification of the CEO pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
(31)(d) Consumers Energy Company's certification of the CFO pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
(32)(a) CMS Energy Corporation's certifications pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
(32)(b) Consumers Energy Company's certifications pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, each
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. The signature for each undersigned
company shall be deemed to relate only to matters having reference to such
company or its subsidiary.
CMS ENERGY CORPORATION
(Registrant)
Dated: May 3, 2007 By: /s/ Thomas J. Webb
------------------------------------
Thomas J. Webb
Executive Vice President and
Chief Financial Officer
CONSUMERS ENERGY COMPANY
(Registrant)
Dated: May 3, 2007 By: /s/ Thomas J. Webb
------------------------------------
Thomas J. Webb
Executive Vice President and
Chief Financial Officer
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