EXHIBIT 99.2
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA OF THE COMPANY
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
STATEMENTS OF CONSOLIDATED INCOME
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
------------------------------------
2000 2001 2002
---------- ---------- ----------
(IN THOUSANDS)
REVENUES................................................. $6,356,608 $5,044,419 $4,207,836
---------- ---------- ----------
EXPENSES:
Natural gas and purchased power........................ 4,938,826 3,781,200 2,900,682
Operation and maintenance.............................. 758,824 657,515 666,502
Depreciation and amortization.......................... 214,259 207,203 167,456
Taxes other than income taxes.......................... 112,951 132,560 119,911
---------- ---------- ----------
6,024,860 4,778,478 3,854,551
---------- ---------- ----------
OPERATING INCOME......................................... 331,748 265,941 353,285
---------- ---------- ----------
OTHER INCOME (EXPENSE):
Interest expense....................................... (142,861) (154,965) (153,688)
Distribution on trust preferred securities............. (29) (28) (25)
Other, net............................................. 2,642 14,583 8,131
---------- ---------- ----------
(140,248) (140,410) (145,582)
---------- ---------- ----------
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES.... 191,500 125,531 207,703
Income Tax Expense..................................... 93,272 58,287 87,643
---------- ---------- ----------
INCOME FROM CONTINUING OPERATIONS........................ 98,228 67,244 120,060
Loss from Discontinued Operations...................... (23,861) -- --
---------- ---------- ----------
NET INCOME............................................... $ 74,367 $ 67,244 $ 120,060
========== ========== ==========
</Table>
See Notes to the Company's Consolidated Financial Statements
1
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
STATEMENTS OF CONSOLIDATED COMPREHENSIVE INCOME
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
-----------------------------
2000 2001 2002
------- -------- --------
(IN THOUSANDS)
Net income.................................................. $74,367 $ 67,244 $120,060
------- -------- --------
Other comprehensive income (loss), net of tax:
Foreign currency translation adjustments from discontinued
operations, (net of tax of $1,340)..................... (2,490) -- --
Unrealized loss on available-for-sale securities (net of
tax of $1,492)......................................... (2,264) -- --
Reclassification adjustment for impairment loss on
available-for-sale securities realized in net income
(net of tax of $9,276)................................. 17,228 -- --
Additional minimum non-qualified pension liability
adjustment (net of tax of $6,068, $4,703 and $790)..... (9,747) 8,279 1,468
Cumulative effect of adoption of SFAS No. 133 (net of tax
of $20,511)............................................ -- 38,092 --
Net deferred gain (loss) from cash flow hedges (net of tax
of $23,821 and $35,142)................................ -- (11,826) 46,062
Reclassification of net deferred loss (gain) from cash
flow hedges realized in net income (net of tax of
$18,947 and $5,681).................................... -- (61,449) 381
------- -------- --------
Other comprehensive income (loss)........................... 2,727 (26,904) 47,911
------- -------- --------
Comprehensive income........................................ $77,094 $ 40,340 $167,971
======= ======== ========
</Table>
See Notes to the Company's Consolidated Financial Statements
2
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
CONSOLIDATED BALANCE SHEETS
<Table>
<Caption>
DECEMBER 31,
-----------------------
2001 2002
---------- ----------
(IN THOUSANDS)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................. $ 16,425 $ 9,237
Accounts receivable, principally customers, net........... 398,229 384,772
Accrued unbilled revenue.................................. 269,475 284,112
Accounts and notes receivable -- affiliated companies,
net..................................................... 39,393 --
Inventory................................................. 144,469 135,707
Non-trading derivative assets............................. 6,996 27,275
Prepaid expenses and other current assets................. 17,932 50,765
---------- ----------
Total current assets................................ 892,919 891,868
---------- ----------
PROPERTY, PLANT AND EQUIPMENT, NET.......................... 3,147,077 3,235,672
---------- ----------
OTHER ASSETS:
Goodwill, net............................................. 1,740,510 1,740,510
Other intangibles, net.................................... 17,980 19,878
Prepaid pension asset..................................... 94,022 --
Non-trading derivative assets............................. 2,234 3,866
Notes receivable -- affiliated companies, net............. 3,443 39,097
Other..................................................... 94,221 55,571
---------- ----------
Total other assets.................................. 1,952,410 1,858,922
---------- ----------
TOTAL ASSETS........................................ $5,992,406 $5,986,462
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
CURRENT LIABILITIES:
Short-term borrowings..................................... $ 345,527 $ 347,000
Current portion of long-term debt......................... -- 517,616
Accounts payable, principally trade....................... 267,649 465,694
Accounts and notes payable -- affiliated companies, net... -- 101,231
Taxes accrued............................................. 53,693 --
Interest accrued.......................................... 44,795 49,084
Customer deposits......................................... 52,089 54,081
Non-trading derivative liabilities........................ 61,358 9,973
Other..................................................... 92,898 102,510
---------- ----------
Total current liabilities........................... 918,009 1,647,189
---------- ----------
OTHER LIABILITIES:
Accumulated deferred income taxes, net.................... 555,387 595,889
Non-trading derivative liabilities........................ 11,159 873
Benefit obligations....................................... 177,559 132,434
Other..................................................... 141,116 125,876
---------- ----------
Total other liabilities............................. 885,221 855,072
---------- ----------
LONG-TERM DEBT.............................................. 1,968,039 1,441,264
---------- ----------
COMMITMENTS AND CONTINGENCIES (NOTE 10)
CERC OBLIGATED MANDATORILY REDEEMABLE CONVERTIBLE PREFERRED
SECURITIES OF SUBSIDIARY TRUST HOLDING SOLELY JUNIOR
SUBORDINATED DEBENTURES OF CERC........................... 555 508
---------- ----------
STOCKHOLDER'S EQUITY........................................ 2,220,582 2,042,429
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY.......... $5,992,406 $5,986,462
========== ==========
</Table>
See Notes to the Company's Consolidated Financial Statements
3
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
STATEMENTS OF CONSOLIDATED CASH FLOWS
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
-----------------------------------
2000 2001 2002
----------- --------- ---------
(IN THOUSANDS)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income............................................. $ 74,367 $ 67,244 $ 120,060
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization....................... 214,259 207,203 167,456
Deferred income taxes............................... 29,123 30,320 23,003
Impairment of marketable equity securities.......... 26,504 -- --
Changes in other assets and liabilities:
Accounts receivable and unbilled revenues, net.... (1,984,240) 677,383 3,276
Accounts receivable/payable, affiliates........... 15,016 17,497 37,043
Inventory......................................... (16,539) (22,048) 8,762
Accounts payable.................................. 1,789,841 (436,875) 198,045
Fuel cost recovery................................ 34,383 8,292 28,317
Interest and taxes accrued........................ 58,237 (7,114) (53,860)
Net non-trading derivative assets and
liabilities.................................... -- 20,559 (64,814)
Margin deposits on energy trading activities...... (206,480) -- --
Federal tax refund................................ 26,278 -- --
Other current assets.............................. (96,403) (29,573) (32,832)
Other current liabilities......................... 4,242 17,538 9,320
Other assets...................................... 50,691 (26,431) 91,988
Other liabilities................................. (41,396) (20,792) (11,441)
Other, net........................................ -- (2,418) 3,876
----------- --------- ---------
Net cash provided by (used in) operating
activities................................... (22,117) 500,785 528,199
----------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures................................... (290,565) (263,257) (266,208)
Other, net............................................. 9,042 1,122 22,127
----------- --------- ---------
Net cash used in investing activities.......... (281,523) (262,135) (244,081)
----------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments of long-term debt............................. (221,500) (155,569) (6,653)
Proceeds from long-term debt........................... 325,000 585,632 --
Increase (decrease) in short-term borrowings, net...... 100,416 (289,473) 1,473
Increase (decrease) in notes with affiliates, net...... 53,924 (216,758) 67,927
Dividends.............................................. -- (400,000) (350,000)
Capital contribution from parent....................... -- 241,352 --
Other, net............................................. (11,751) (9,985) (4,053)
----------- --------- ---------
Net cash provided by (used in) financing
activities................................... 246,089 (244,801) (291,306)
----------- --------- ---------
NET DECREASE IN CASH AND CASH EQUIVALENTS................ (57,551) (6,151) (7,188)
CASH AND CASH EQUIVALENTS AT BEGINNING OF THE YEAR....... 80,127 22,576 16,425
----------- --------- ---------
CASH AND CASH EQUIVALENTS AT END OF THE YEAR............. $ 22,576 $ 16,425 $ 9,237
=========== ========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash Payments:
Interest............................................ $ 138,365 $ 148,303 $ 146,244
Income taxes........................................ 62,144 116,272 156,271
</Table>
See Notes to the Company's Consolidated Financial Statements
4
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
STATEMENTS OF CONSOLIDATED STOCKHOLDER'S EQUITY
<Table>
<Caption>
ACCUMULATED
COMMON STOCK OTHER TOTAL
--------------- PAID IN RETAINED COMPREHENSIVE STOCKHOLDER'S
SHARES AMOUNT CAPITAL EARNINGS INCOME (LOSS) EQUITY
------ ------ ---------- --------- ------------- -------------
(IN THOUSANDS)
Balance at December 31, 1999.......... 1,000 $ 1 $2,463,831 $ 214,872 $(17,198) $2,661,506
----- ----- ---------- --------- -------- ----------
Net income............................ -- -- -- 74,367 -- 74,367
Other comprehensive income (loss), net
of tax:
Foreign currency translation
adjustments from discontinued
operations........................ -- -- -- -- (2,490) (2,490)
Unrealized loss on
available-for-sale securities..... -- -- -- -- (2,264) (2,264)
Reclassification adjustment for
impairment loss on
available-for-sale securities
realized in net income............ -- -- -- -- 17,228 17,228
Additional minimum non-qualified
pension liability adjustment...... -- -- -- -- (9,747) (9,747)
Transfer of subsidiaries to Reliant
Resources, Inc...................... -- -- (53,115) (289,239) 4,724 (337,630)
----- ----- ---------- --------- -------- ----------
Balance at December 31, 2000.......... 1,000 1 2,410,716 -- (9,747) 2,400,970
----- ----- ---------- --------- -------- ----------
Net income............................ -- -- -- 67,244 -- 67,244
Dividend to parent.................... -- -- (334,593) (65,407) -- (400,000)
Transfer of benefits to parent........ -- -- (62,080) -- -- (62,080)
Contributions from parent............. -- -- 241,352 -- -- 241,352
Other comprehensive income (loss), net
of tax:
Cumulative effect of adoption of
SFAS No 133....................... -- -- -- -- 38,092 38,092
Net deferred loss from cash flow
hedges............................ -- -- -- -- (11,826) (11,826)
Reclassification of net deferred
gain from cash flow hedges
realized in net income............ -- -- -- -- (61,449) (61,449)
Additional minimum non-qualified
pension liability adjustment...... -- -- -- -- 8,279 8,279
----- ----- ---------- --------- -------- ----------
Balance at December 31, 2001.......... 1,000 1 2,255,395 1,837 (36,651) 2,220,582
----- ----- ---------- --------- -------- ----------
Net income............................ -- -- -- 120,060 -- 120,060
Dividend to parent.................... -- -- (272,907) (77,093) -- (350,000)
Contributions from parent............. -- -- 3,876 -- -- 3,876
Other comprehensive income, net of
tax:
Net deferred gain from cash flow
hedges............................ -- -- -- -- 46,062 46,062
Reclassification of net deferred
loss from cash flow hedges
realized in net income............ -- -- -- -- 381 381
Additional minimum non-qualified
pension liability adjustment...... -- -- -- -- 1,468 1,468
----- ----- ---------- --------- -------- ----------
Balance at December 31, 2002.......... 1,000 $ 1 $1,986,364 $ 44,804 $ 11,260 $2,042,429
===== ===== ========== ========= ======== ==========
</Table>
See Notes to the Company's Consolidated Financial Statements
5
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BACKGROUND AND BASIS OF PRESENTATION
CenterPoint Energy Resources Corp. (CERC Corp.) formerly named Reliant
Energy Resources Corp. (RERC Corp.), together with its subsidiaries
(collectively, CERC), distributes natural gas, transports natural gas through
its interstate pipelines and provides natural gas gathering and pipeline
services. Prior to 2001, CERC provided energy services including wholesale
energy trading, marketing, power origination and risk management services in
North America and Western Europe. CERC Corp. is a Delaware corporation and an
indirect wholly owned subsidiary of CenterPoint Energy, Inc. (CenterPoint
Energy).
CERC's natural gas distribution operations (Natural Gas Distribution) are
conducted by three unincorporated divisions CenterPoint Energy Entex (Entex),
CenterPoint Energy Minnegasco (Minnegasco) and CenterPoint Energy Arkla (Arkla)
and other non-rate regulated retail gas marketing operations. CERC's pipelines
and gathering operations (Pipelines and Gathering) are primarily conducted by
two wholly owned pipeline subsidiaries, CenterPoint Energy Gas Transmission
Company (CEGT) and CenterPoint Energy-Mississippi River Transmission Corporation
(MRT), and a wholly owned gas gathering subsidiary, CenterPoint Energy Field
Services, Inc. (CEFS). CERC's principal operations are located in Arkansas,
Louisiana, Minnesota, Mississippi, Missouri, Oklahoma and Texas.
Wholesale energy trading, marketing, power origination and risk management
activities in North America were conducted primarily by Reliant Energy Services,
Inc. (Reliant Energy Services), a wholly owned subsidiary of CERC prior to
January 1, 2001. European energy trading and marketing activities were conducted
by Reliant Energy Europe Trading & Marketing, Inc. (RE Europe Trading), an
indirect wholly owned subsidiary of CERC Corp. prior to January 1, 2001. See
Note 2 regarding the Restructuring.
CERTAIN RECLASSIFICATIONS
The consolidated financial statements presented herein have been revised to
give effect to the retroactive effect of the adoption of Emerging Issues Task
Force 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" (EITF 02-03), within CERC's historical consolidated
financial statements as reported in its Annual report on Form 10-K for the year
ended December 31, 2002.
The reclassification discussed above did not affect net income for any of
the three years ended December 31, 2002.
Revenues related to wholesale energy and energy related sales as presented
in Notes 13 and 14 have also been reclassified for the adoption of EITF 02-03.
2. THE RESTRUCTURING
Reliant Energy, Incorporated (Reliant Energy) completed the separation of
the generation, transmission and distribution, and retail sales functions of
Reliant Energy's Texas electric operations pursuant to the following steps,
which occurred on August 31, 2002 (the Restructuring):
- CenterPoint Energy became the holding company for the Reliant Energy
group of companies;
- Reliant Energy and its subsidiaries, including CERC, became subsidiaries
of CenterPoint Energy; and
- each share of Reliant Energy common stock was converted into one share of
CenterPoint Energy common stock.
After the Restructuring, CenterPoint Energy distributed to its shareholders
the shares of common stock of Reliant Resources, Inc. (Reliant Resources) that
it owned (the Distribution) in a tax-free transaction.
Contemporaneous with the Restructuring, CenterPoint Energy registered and
became subject, with its subsidiaries, to regulation as a registered holding
company system under the Public Utility Holding Company Act of 1935 (1935 Act).
The 1935 Act directs the Securities and Exchange Commission (SEC) to regulate,
6
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
among other things, transactions among affiliates, sales or acquisitions of
assets, issuances of securities, distributions and permitted lines of business.
Prior to the Restructuring, CenterPoint Energy and Reliant Energy obtained an
order from the SEC that authorized the Restructuring transactions, including the
Distribution, and granted CenterPoint Energy certain authority with respect to
system financing, dividends and other matters. The financing authority granted
by that order will expire on June 30, 2003, and CenterPoint Energy must obtain a
further order from the SEC under the 1935 Act, related, among other things, to
the financing activities of CenterPoint Energy and its subsidiaries subsequent
to June 30, 2003.
In connection with CenterPoint Energy's registration as a public utility
holding company under the 1935 Act, the SEC has limited the aggregate amount of
CERC's external borrowings to $2.7 billion. CERC's ability to pay dividends is
restricted by the SEC's requirement that common equity as a percentage of total
capitalization must be at least 30% after the payment of any dividend. In
addition, the order restricts CERC's ability to pay dividends out of capital
accounts to the extent current or retained earnings are insufficient for those
dividends. Under these restrictions, CERC is permitted to pay dividends in
excess of the respective current or retained earnings in an amount up to $100
million.
In 2002, CERC obtained authority from each state in which such authority
was required to restructure in a manner that would allow CenterPoint Energy to
claim an exemption from registration under the 1935 Act. CenterPoint Energy has
concluded that a restructuring would not be beneficial and has elected to remain
a registered holding company under the 1935 Act.
On December 31, 2000, CERC Corp. transferred all of the outstanding capital
stock (collectively, the Stock Transfer) of Reliant Energy Services
International, Inc. (RESI), Arkla Finance Corporation (Arkla Finance) and RE
Europe Trading, all wholly owned subsidiaries of CERC Corp., to Reliant
Resources. Both CERC Corp. and Reliant Resources were wholly owned subsidiaries
of Reliant Energy at that time. As a result of the Stock Transfer, RESI, Arkla
Finance and RE Europe Trading each became a wholly owned subsidiary of Reliant
Resources.
Also, on December 31, 2000, a wholly owned subsidiary of Reliant Resources
merged with and into Reliant Energy Services, a wholly owned subsidiary of CERC
Corp., with Reliant Energy Services as the surviving corporation (Merger). As a
result of the Merger, Reliant Energy Services became a wholly owned subsidiary
of Reliant Resources. As consideration for the Merger, Reliant Resources paid
$94 million to CERC Corp.
Prior to January 1, 2001, Reliant Energy Services, RESI and RE Europe
Trading conducted the trading, marketing, power origination and risk management
business and operations of CERC Corp. Arkla Finance is a company that holds an
investment in marketable equity securities. The Stock Transfer and the Merger
were part of the Restructuring.
CERC accounted for the Stock Transfer and the Merger as the sale of a
business operation. Accordingly, the CERC consolidated financial statements
include the financial position and results of operations for the subsidiaries
included in these transactions for all periods prior to December 31, 2000.
CERC is reporting the results of RE Europe Trading as discontinued
operations for all periods presented in CERC's consolidated financial statements
in accordance with Accounting Principles Board (APB) Opinion No. 30, "Reporting
the Results of Operations -- Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions" (APB Opinion No. 30).
7
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) RECLASSIFICATIONS AND USE OF ESTIMATES
Some amounts from the previous years have been reclassified to conform to
the 2002 presentation of financial statements. These reclassifications do not
affect net income.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
(b) PRINCIPLES OF CONSOLIDATION
The accounts of CERC Corp. and its wholly owned and majority owned
subsidiaries are included in CERC's consolidated financial statements. All
significant intercompany transactions and balances are eliminated. Other
investments, excluding marketable securities, are carried at cost.
(c) REVENUES
CERC records natural gas sales and services under the accrual method and
these revenues are generally recognized upon delivery. Natural gas sales and
services not billed by month-end are accrued based upon estimated purchased gas
volumes, estimated lost and unaccounted for gas and tariffed rates in effect.
Pipelines and Gathering records revenues as transportation services are
provided. In 2000, Reliant Energy Services' energy trading and marketing
operations were accounted for under mark-to-market accounting, as discussed in
Note 5.
(d) LONG-LIVED ASSETS AND INTANGIBLES
CERC records property, plant and equipment at historical cost. CERC
expenses all repair and maintenance costs as incurred. The cost of utility plant
and equipment retirements is charged to accumulated depreciation. Property,
plant and equipment includes the following:
<Table>
<Caption>
DECEMBER 31,
ESTIMATED USEFUL ---------------
LIVES (YEARS) 2001 2002
---------------- ------ ------
(IN MILLIONS)
Natural gas distribution............................. 5-50 $1,980 $2,151
Pipelines and gathering.............................. 5-75 1,633 1,686
Other property....................................... 3-20 56 49
------ ------
Total.............................................. 3,669 3,886
Accumulated depreciation............................. (522) (650)
------ ------
Property, plant and equipment, net................. $3,147 $3,236
====== ======
</Table>
In July 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 142, "Goodwill and Other
Intangible Assets" (SFAS No. 142), which provides for a nonamortization
approach, whereby goodwill and certain intangibles with indefinite lives will
not be amortized into results of operations, but instead will be reviewed
periodically for impairment and written down and charged to results of
operations only in the periods in which the recorded value of goodwill and
certain intangibles with indefinite lives is more than its fair value. On
January 1, 2002, CERC adopted the provisions of the statement which apply to
goodwill and intangible assets acquired prior to June 30, 2001.
8
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
With the adoption of SFAS No. 142, CERC ceased amortization of goodwill as
of January 1, 2002. A reconciliation of previously reported net income to the
amounts adjusted for the exclusion of goodwill amortization follows:
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
(IN MILLIONS)
Reported net income......................................... $ 74 $ 67 $120
Add: Goodwill amortization, net of tax...................... 50 49 --
---- ---- ----
Adjusted net income......................................... $124 $116 $120
==== ==== ====
</Table>
The components of CERC's other intangible assets consist of the following:
<Table>
<Caption>
DECEMBER 31, 2001 DECEMBER 31, 2002
----------------------- -----------------------
CARRYING ACCUMULATED CARRYING ACCUMULATED
AMOUNT AMORTIZATION AMOUNT AMORTIZATION
-------- ------------ -------- ------------
(IN MILLIONS)
Land Use Rights............................ $ 7 $(2) $ 7 $(2)
Other...................................... 15 (2) 18 (3)
--- --- --- ---
Total...................................... $22 $(4) $25 $(5)
=== === === ===
</Table>
CERC recognizes specifically identifiable intangibles when specific rights
and contracts are acquired. CERC amortizes other acquired intangibles on a
straight-line basis over the lesser of their contractual or estimated useful
lives. CERC has no intangible assets with indefinite lives recorded as of
December 31, 2002. CERC amortizes other acquired intangibles on a straight-line
basis over the lesser of their contractual or estimated useful lives that range
from 47 to 75 years for land rights and 4 to 25 years for other intangibles.
Amortization expense for other intangibles for the years ended December
2000, 2001, and 2002 was $0.6 million, $0.8 million and $1.1 million,
respectively. Estimated amortization expense is approximately $1 million per
year for the five succeeding fiscal years.
Goodwill by reportable business segment is as follows (in millions):
<Table>
<Caption>
DECEMBER 31,
2001 AND 2002
-------------
Natural Gas Distribution.................................... $1,085
Pipelines and Gathering..................................... 601
Other Operations............................................ 55
------
Total..................................................... $1,741
======
</Table>
CERC completed its review of goodwill impairment during the second quarter
of 2002 for its reporting units pursuant to SFAS No. 142. No impairment was
indicated as a result of this assessment.
(e) REGULATORY MATTERS
CERC applies the accounting policies established in SFAS No. 71,
"Accounting for the Effects of Certain Types of Regulation" (SFAS No. 71) to the
accounts of the utility operations of Natural Gas Distribution and MRT. As of
December 31, 2001 and 2002, CERC had recorded $6 million and $12 million,
respectively, of net regulatory assets.
9
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
If, as a result of changes in regulation or competition, CERC's ability to
recover these assets and liabilities would not be probable, CERC would be
required to write off or write down these regulatory assets and liabilities. In
addition, CERC would be required to determine any impairment of the carrying
costs of plant and inventory assets.
Arkansas Rate Case
In November 2001, Arkla filed a rate request in Arkansas seeking rates to
yield approximately $47 million in additional annual gross revenue. In August
2002, a settlement was approved by the Arkansas Public Service Commission (APSC)
that is expected to result in an increase in base rates of approximately $32
million annually. In addition, the APSC approved a gas main replacement
surcharge that is expected to provide $2 million of additional gross revenue in
2003 and additional amounts in subsequent years. The new rates included in the
final settlement were effective with all bills rendered on and after September
21, 2002.
Oklahoma Rate Case
In May 2002, Arkla filed a request in Oklahoma to increase its base rates
by $13.7 million annually. In December 2002, a settlement was approved by the
Oklahoma Corporation Commission that is expected to result in an increase in
base rates of approximately $7.3 million annually. The new rates included in the
final settlement were effective with all bills rendered on and after December
29, 2002.
(f) DEPRECIATION AND AMORTIZATION EXPENSE
Depreciation is computed using the straight-line method based on economic
lives or a regulatory mandated recovery period. Other amortization expense
includes amortization of regulatory assets and other intangibles.
The following table presents depreciation, goodwill amortization and other
amortization expense for 2000, 2001 and 2002:
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
(IN MILLIONS)
Depreciation expense........................................ $153 $146 $153
Goodwill amortization expense............................... 50 49 --
Other amortization expense.................................. 11 12 14
---- ---- ----
Total depreciation and amortization....................... $214 $207 $167
==== ==== ====
</Table>
(g) CAPITALIZATION OF INTEREST
Interest and allowance for funds used during construction (AFUDC) related
to debt for subsidiaries that apply SFAS No. 71 are capitalized as a component
of projects under construction and will be amortized over the assets' estimated
useful lives. During 2000, 2001 and 2002, CERC capitalized interest and AFUDC
related to debt of $2.0 million, $0.2 million and $1.2 million, respectively.
(h) INCOME TAXES
CERC is included in the consolidated income tax returns of CenterPoint
Energy. CERC calculates its income tax provision on a separate return basis
under a tax sharing agreement with CenterPoint Energy. CERC uses the liability
method of accounting for deferred income taxes and measures deferred income
taxes for all significant income tax temporary differences. Investment tax
credits were deferred and are being
10
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
amortized over the estimated lives of the related property. Current federal and
certain state income taxes are payable to or receivable from CenterPoint Energy.
For additional information regarding income taxes, see Note 9.
(i) ACCOUNTS RECEIVABLE AND ALLOWANCE FOR DOUBTFUL ACCOUNTS
Accounts receivable, principally customers, net, are net of an allowance
for doubtful accounts of $33 million and $20 million at December 31, 2001 and
2002, respectively. The provisions for doubtful accounts in CERC's Statements of
Consolidated Income for 2000, 2001 and 2002 were $33 million, $46 million and
$15 million, respectively.
In the first quarter of 2002, CERC reduced its trade receivables facility
from $350 million to $150 million. During 2001 and 2002, CERC sold its customer
accounts receivable and utilized $346 million of its $350 million receivables
facility at December 31, 2001 and $107 million of its $150 million receivables
facility at December 31, 2002. The amount of receivables sold will fluctuate
based on the amount of receivables created by CERC Corp.
In connection with CERC's November 2002 amendment and extension of its
receivables facility, CERC Corp. formed a bankruptcy remote subsidiary for the
sole purpose of buying and selling receivables created by CERC. This transaction
is accounted for as a sale of receivables under the provisions of SFAS No. 140,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities", and, as a result, the related receivables are excluded from the
Consolidated Balance Sheets.
(j) INVENTORY
Inventory consists principally of materials and supplies and natural gas
and is valued at the lower of average cost or market. Inventory includes the
following components:
<Table>
<Caption>
DECEMBER 31,
-------------
2001 2002
----- -----
(IN MILLIONS)
Materials and supplies...................................... $ 33 $ 32
Natural gas................................................. 111 104
---- ----
Total inventory........................................... $144 $136
==== ====
</Table>
(k) INVESTMENT IN OTHER DEBT AND EQUITY SECURITIES
In accordance with SFAS No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" (SFAS No. 115), CERC reports "available-for-sale"
securities at estimated fair value in CERC's Consolidated Balance Sheets and any
unrealized gain or loss, net of tax, as a separate component of stockholder's
equity and accumulated other comprehensive income.
During 2000, pursuant to SFAS No. 115, CERC incurred a pre-tax impairment
loss on marketable equity securities classified as "available-for-sale" equal to
$27 million of cumulative unrealized losses which was recorded in other income
(expense) in CERC's Statements of Consolidated Income. On December 31, 2000,
CERC transferred all of the outstanding capital stock of Arkla Finance, which
holds this investment, to Reliant Resources as described in Note 2. As of
December 31, 2001 and 2002, CERC held no "available-for-sale" securities.
11
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(l) ENVIRONMENTAL COSTS
CERC expenses or capitalizes environmental expenditures, as appropriate,
depending on their future economic benefit. CERC expenses amounts that relate to
an existing condition caused by past operations and that do not have future
economic benefit. CERC records undiscounted liabilities related to these future
costs when environmental assessments and/or remediation activities are probable
and the costs can be reasonably estimated. Subject to SFAS No. 71, a
corresponding regulatory asset is recorded in anticipation of recovery through
the rate making process by subsidiaries that apply SFAS No. 71.
(m) STATEMENTS OF CONSOLIDATED CASH FLOWS
For purposes of reporting cash flows, CERC considers cash equivalents to be
short-term, highly liquid investments with maturities of three months or less
from the date of purchase.
(n) CHANGES IN ACCOUNTING PRINCIPLES AND NEW ACCOUNTING PRONOUNCEMENTS
In July 2001, the FASB issued SFAS No. 141, "Business Combinations" (SFAS
No. 141). SFAS No. 141 requires business combinations initiated after June 30,
2001 to be accounted for using the purchase method of accounting and broadens
the criteria for recording intangible assets separate from goodwill. Recorded
goodwill and intangibles will be evaluated against these new criteria and may
result in certain intangibles being transferred to goodwill, or alternatively,
amounts initially recorded as goodwill may be separately identified and
recognized apart from goodwill. CERC adopted the provisions of the statement
which apply to goodwill and intangible assets acquired prior to June 30, 2001 on
January 1, 2002. The adoption of SFAS No. 141 did not have any impact on CERC's
historical results of operations or financial position.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations" (SFAS No. 143). SFAS No. 143 requires the fair value of
an asset retirement obligation to be recognized as a liability is incurred and
capitalized as part of the cost of the related tangible long-lived assets. Over
time, the liability is accreted to its present value each period, and the
capitalized cost is depreciated over the useful life of the related asset.
Retirement obligations associated with long-lived assets included within the
scope of SFAS No. 143 are those for which a legal obligation exists under
enacted laws, statutes and written or oral contracts, including obligations
arising under the doctrine of promissory estoppel. SFAS No. 143 is effective for
fiscal years beginning after June 15, 2002, with earlier application encouraged.
SFAS No. 143 requires entities to record a cumulative effect of change in
accounting principle in the income statement in the period of adoption. CERC
adopted SFAS No. 143 on January 1, 2003.
CERC has completed an assessment of the applicability and implications of
SFAS No. 143 and has identified no asset retirement obligations. CERC's
rate-regulated businesses have previously recognized removal costs as a
component of depreciation expense in accordance with regulatory treatment. As of
December 31, 2002, these previously recognized removal costs of $378 million do
not represent SFAS No. 143 asset retirement obligations, but rather embedded
regulatory liabilities.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," (SFAS No. 144). SFAS No. 144
provides new guidance on the recognition of impairment losses on long-lived
assets to be held and used or to be disposed of and also broadens the definition
of what constitutes a discontinued operation and how the results of a
discontinued operation are to be measured and presented. SFAS No. 144 supercedes
SFAS No. 121 and APB Opinion No. 30, while retaining many of the requirements of
these two statements. Under SFAS No. 144, assets held for sale that are a
component of an entity will be included in discontinued operations if the
operations and cash flows will be or have been eliminated from the ongoing
operations of the entity and the entity will not have any significant continuing
involvement in the operations prospectively. SFAS No. 144 did not materially
change the methods used by
12
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
CERC to measure impairment losses on long-lived assets but may result in more
future dispositions being reported as discontinued operations than would
previously have been permitted. CERC adopted SFAS No. 144 on January 1, 2002.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections" (SFAS No. 145). SFAS No. 145 eliminates the current requirement
that gains and losses on debt extinguishment must be classified as extraordinary
items in the income statement. Instead, such gains and losses will be classified
as extraordinary items only if they are deemed to be unusual and infrequent.
SFAS No. 145 also requires that capital leases that are modified so that the
resulting lease agreement is classified as an operating lease be accounted for
as a sale-leaseback transaction. The changes related to debt extinguishment are
effective for fiscal years beginning after May 15, 2002, and the changes related
to lease accounting are effective for transactions occurring after May 15, 2002.
CERC has applied this guidance prospectively.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities" (SFAS No. 146). SFAS No. 146
nullifies EITF Issue No. 94-3, "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring)" (EITF No. 94-3). The principal difference
between SFAS No. 146 and EITF No. 94-3 relates to the requirements for
recognition of a liability for costs associated with an exit or disposal
activity. SFAS No. 146 requires that a liability be recognized for a cost
associated with an exit or disposal activity when it is incurred. A liability is
incurred when a transaction or event occurs that leaves an entity little or no
discretion to avoid the future transfer or use of assets to settle the
liability. Under EITF No. 94-3, a liability for an exit cost was recognized at
the date of an entity's commitment to an exit plan. In addition, SFAS No. 146
also requires that a liability for a cost associated with an exit or disposal
activity be recognized at its fair value when it is incurred. SFAS No. 146 is
effective for exit or disposal activities that are initiated after December 31,
2002 with early application encouraged. CERC will apply the provisions of SFAS
No. 146 to all exit or disposal activities initiated after December 31, 2002.
In June 2002, the Emerging Issues Task Force ("EITF") reached a consensus
that all mark-to-market gains and losses on energy trading contracts should be
shown net in the statement of consolidated income whether or not settled
physically. In October 2002, the EITF issued a consensus that superceded the
June 2002 consensus. The October 2002 consensus required, among other things,
that energy derivatives held for trading purposes be shown net in the statement
of consolidated income. This new consensus, EITF 02-3 "Issues Involved in
Accounting for Derivative Contracts Held for Trading Purposes and Contracts
Involved in Energy Trading and Risk Management Activities," is effective for
fiscal periods beginning after December 15, 2002.
CERC's former subsidiaries, RESI, RE Europe Trading and Reliant Energy
Services entered into energy derivatives held for trading purposes. On December
31, 2000, these subsidiaries were either sold or transferred to Reliant
Resources, an unconsolidated related party (see Note 2). For the year ended
December 31, 2000, RESI, RE Europe Trading, and Reliant Energy Services
previously reported combined revenues and natural gas and purchased power
expenses of $17.6 billion and $17.4 billion, respectively. CERC has reclassified
revenues and natural gas and purchased power expenses included in the Statements
of Consolidated Income for the year ended December 31, 2000 to reflect a net
presentation of these trading activities, which resulted in a decrease in
reported combined revenues and natural gas and purchased power expenses of $15.2
billion and $15.2 billion, respectively. Such reclassification did not affect
previously reported operating income or net income.
In November 2002, the FASB issued FASB Interpretation No. (FIN) 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others" (FIN 45). FIN 45 requires that a
liability be recorded in the guarantor's balance sheet upon issuance of
13
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
certain guarantees. In addition, FIN 45 requires disclosures about the
guarantees that an entity has issued. The provision for initial recognition and
measurement of the liability will be applied on a prospective basis to
guarantees issued or modified after December 31, 2002. The disclosure provisions
of FIN 45 are effective for financial statements of interim or annual periods
ending after December 15, 2002. The adoption of FIN 45 is not expected to
materially affect CERC's consolidated financial statements. CERC has adopted the
additional disclosure provisions of FIN 45 in its consolidated financial
statements as of December 31, 2002.
In January 2003, the FASB issued FIN 46, "Consolidation of Variable
Interest Entities, an Interpretation of Accounting Research Bulletin No. 51"
(FIN 46). FIN 46 requires certain variable interest entities to be consolidated
by the primary beneficiary of the entity if the equity investors in the entity
do not have the characteristics of a controlling financial interest or do not
have sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support from other parties. FIN 46 is
effective for all new variable interest entities created or acquired after
January 31, 2003. For variable interest entities created or acquired prior to
February 1, 2003, the provisions of FIN 46 must be applied for the first interim
or annual period beginning after June 15, 2003. CERC does not expect the
adoption of FIN 46 to have a material impact on its results of operations and
financial condition.
See Note 5 for a discussion of CERC's adoption of SFAS No. 133, "Accounting
for Derivative Instruments and Hedging Activities" (SFAS No. 133), on January 1,
2001 and adoption of subsequent cleared guidance. See Note 3(d) for a discussion
of CERC's adoption of SFAS No. 142 on January 1, 2002.
4. RELATED PARTY TRANSACTIONS
From time to time, CERC has advanced money to, or borrowed money from,
CenterPoint Energy or its subsidiaries. As of December 31, 2001, CERC had net
short-term receivables, included in accounts and notes receivable-affiliated
companies, of $132 million, partially offset by net accounts payable of $93
million. As of December 31, 2002, CERC had net short-term borrowings, included
in accounts and notes payable-affiliated companies, of $74 million and net
accounts payable of $27 million. As of December 31, 2001, CERC had net long-term
receivables, included in notes receivable-affiliated companies, totaling $3
million. As of December 31, 2002, CERC had net long-term receivables, included
in notes receivable-affiliated companies, of $39 million.
In February 2001, CERC Corp. paid a dividend to CenterPoint Energy from the
proceeds of a debt offering as discussed in Note 6(b). In May 2001, CenterPoint
Energy made a $236 million capital contribution to CERC Corp., and CERC Corp.
subsequently invested the $236 million with an affiliate. In August 2002, CERC
paid a dividend of $350 million to CenterPoint Energy in the form of an
intercompany note payable. In October 2002, CERC paid the intercompany note
payable. Substantially all of the funds for repayment were obtained from
borrowings under CERC Corp.'s revolving credit facility. For the years ended
December 31, 2000 and 2001, CERC had net interest income related to affiliate
borrowings of $3 million and $5 million, respectively. For the year ended
December 31, 2002, CERC had net interest expense related to affiliate borrowings
of $2 million.
In 2000, Reliant Energy Services supplied natural gas to, purchased
electricity for resale from, and provided marketing and risk management services
to, unregulated power plants in deregulated markets acquired or operated by
Reliant Energy Power Generation, Inc., an indirect wholly owned subsidiary of
Reliant Energy, or its subsidiaries. In 2001 and 2002, CERC supplied natural gas
to Reliant Energy Services, a subsidiary of Reliant Resources. During 2000, 2001
and 2002, the sales and services by CERC to Reliant Resources and its
subsidiaries totaled $816 million, $181 million and $42 million, respectively.
During 2002, the sales and services by CERC to CenterPoint Energy and its
affiliates totaled $28 million. Purchases of natural gas by CERC from Reliant
Resources and its subsidiaries were $391 million, $639 million and $204 million
in 2000, 2001 and 2002, respectively.
14
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
CenterPoint Energy provides some corporate services to CERC. The costs of
services have been directly charged to CERC using methods that management
believes to be reasonable. These methods include negotiated usage rates,
dedicated asset assignment, and proportionate corporate formulas based on
assets, operating expenses and employees. These charges are not necessarily
indicative of what would have been incurred had CERC not been an affiliate.
Amounts charged to CERC for these services were $71 million, $72 million and
$107 million for 2000, 2001 and 2002, respectively, and are included primarily
in operation and maintenance expenses.
The 1935 Act generally prohibits borrowings by CenterPoint Energy from its
subsidiaries, including CERC.
5. DERIVATIVE INSTRUMENTS
Effective January 1, 2001, CERC adopted SFAS No. 133, which establishes
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities.
This statement requires that derivatives be recognized at fair value in the
balance sheet and that changes in fair value be recognized either currently in
earnings or deferred as a component of other comprehensive income, depending on
the intended use of the derivative instrument as hedging (a) the exposure to
changes in the fair value of an asset or liability (Fair Value Hedge), (b) the
exposure to variability in expected future cash flows (Cash Flow Hedge), or (c)
the foreign currency exposure of a net investment in a foreign operation. For a
derivative not designated as a hedging instrument, the gain or loss is
recognized in earnings in the period it occurs.
Adoption of SFAS No. 133 on January 1, 2001 resulted in a cumulative
after-tax increase in accumulated other comprehensive income of $38 million. The
adoption also increased current assets, long-term assets, current liabilities
and long-term liabilities by approximately $88 million, $5 million, $53 million
and $2 million, respectively, in CERC's Consolidated Balance Sheet.
CERC is exposed to various market risks. These risks arise from
transactions entered into in the normal course of business. CERC utilizes
derivative financial instruments such as physical forward contracts, swaps and
options (Energy Derivatives) to mitigate the impact of changes and cash flows of
its natural gas businesses on its operating results and cash flows.
(a) Non-Trading Activities
Cash Flow Hedges. To reduce the risk from market fluctuations associated
with purchased gas costs, CERC enters into energy derivatives in order to hedge
certain expected purchases and sales of natural gas. CERC applies hedge
accounting for its non-trading energy derivatives utilized in non-trading
activities only if there is a high correlation between price movements in the
derivative and the item designated as being hedged. CERC analyzes its physical
transaction portfolio to determine its net exposure by delivery location and
delivery period. Because CERC's physical transactions with similar delivery
locations and periods are highly correlated and share similar risk exposures,
CERC facilitates hedging for customers by aggregating physical transactions and
subsequently entering into non-trading energy derivatives to mitigate exposures
created by the physical positions.
During 2002, no hedge ineffectiveness was recognized in earnings from
derivatives that are designated and qualify as Cash Flow Hedges. No component of
the derivative instruments' gain or loss was excluded from the assessment of
effectiveness. If it becomes probable that an anticipated transaction will not
occur, CERC realizes in net income the deferred gains and losses recognized in
accumulated other comprehensive income. During the year ended December 31, 2002,
there was a $0.9 million deferred loss recognized in earnings as a result of the
discontinuance of cash flow hedges because it was no longer probable that the
forecasted
15
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
transaction would occur. Once the anticipated transaction occurs, the
accumulated deferred gain or loss recognized in accumulated other comprehensive
income is reclassified and included in CERC's Statements of Consolidated Income
under the caption "Natural Gas and Purchased Power." Cash flows resulting from
these transactions in non-trading energy derivatives are included in the
Statements of Consolidated Cash Flows in the same category as the item being
hedged. As of December 31, 2002, CERC expects $17 million in accumulated other
comprehensive income to be reclassified into net income during the next twelve
months.
The maximum length of time CERC is hedging its exposure to the variability
in future cash flows for forecasted transactions on existing financial
instruments is primarily two years with a limited amount of exposure up to three
years. CERC's policy is not to exceed five years in hedging its exposure.
(b) CREDIT RISKS
In addition to the risk associated with price movements, credit risk is
also inherent in CERC's non-trading derivative activities. Credit risk relates
to the risk of loss resulting from non-performance of contractual obligations by
a counterparty. The following table shows the composition of the non-trading
derivative assets of CERC as of December 31, 2001 and 2002:
<Table>
<Caption>
DECEMBER 31, 2001 DECEMBER 31, 2002
------------------- ----------------------
INVESTMENT INVESTMENT
NON-TRADING DERIVATIVE ASSETS GRADE(1)(2) TOTAL GRADE(1)(2) TOTAL(3)
- ----------------------------- ----------- ----- ----------- --------
(IN MILLIONS)
Energy marketers............................. $ 9 $ 9 $ 7 $22
Financial institutions....................... -- -- 9 9
----- ----- --- ---
Total...................................... $ 9 $ 9 $16 $31
===== ===== === ===
</Table>
- ---------------
(1) "Investment Grade" is primarily determined using publicly available credit
ratings along with the consideration of credit support (such as parent
company guarantees) and collateral, which encompasses cash and standby
letters of credit.
(2) For unrated counterparties, the Company performs financial statement
analysis, considering contractual rights and restrictions and collateral, to
create a synthetic credit rating.
(3) The $22 million non-trading derivative asset includes a $15 million asset
due to trades with Reliant Energy Services, an affiliate until the date of
the Distribution. As of December 31, 2002, Reliant Energy Services did not
have an Investment Grade rating.
(c) GENERAL POLICY
CenterPoint Energy has established a Risk Oversight Committee comprised of
corporate and business segment officers that oversees all commodity price and
credit risk activities, including CenterPoint Energy's trading, marketing, risk
management services and hedging activities. The committee's duties are to
establish CenterPoint Energy's commodity risk policies, allocate risk capital
within limits established by CenterPoint Energy's board of directors, approve
trading of new products and commodities, monitor risk positions and ensure
compliance with CenterPoint Energy's risk management policies and procedures and
trading limits established by CenterPoint Energy's board of directors.
CenterPoint Energy's policies prohibit the use of leveraged financial
instruments. A leveraged financial instrument, for this purpose, is a
transaction involving a derivative whose financial impact will be based on an
amount other than the notional amount or volume of the instrument.
16
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. LONG-TERM DEBT AND SHORT-TERM BORROWINGS
<Table>
<Caption>
DECEMBER 31, 2001 DECEMBER 31, 2002
---------------------- ----------------------
LONG-TERM CURRENT(1) LONG-TERM CURRENT(1)
--------- ---------- --------- ----------
(IN MILLIONS)
Short-term borrowings:
Receivables facility(2).................. $346 $ --
Bank loans............................... -- 347
---- ----
Total short-term borrowings........... 346 347
---- ----
Long-term debt(3):
Convertible debentures 6.0% due 2012..... $ 82 -- $ 76 --
Debentures 6.38% to 8.90% due 2003 to
2011.................................. 1,833 -- 1,331 500
Other.................................... 41 -- 36 5
Unamortized discount and premium........... 12 -- (2) 13
------ ---- ------ ----
Total long-term debt.................. 1,968 -- 1,441 518
------ ---- ------ ----
Total borrowings...................... $1,968 $346 $1,441 $865
====== ==== ====== ====
</Table>
- ---------------
(1) Includes amounts due within one year of the date.
(2) In the first quarter of 2002, CERC reduced its trade receivables facility
from $350 million to $150 million. Advances under the receivables facility
aggregating $196 million were repaid in January 2002 with proceeds from the
issuance of commercial paper and from the liquidation of short-term
investments. For further discussion of the receivables facility, see Note
3(i).
(3) Included in long-term debt is additional unamortized premium related to fair
value adjustments of long-term debt of $9 million and $7 million at December
31, 2001 and 2002, respectively. These fair value adjustments resulted from
Reliant Energy's acquisition of RERC and are being amortized over the
remaining term of the related long-term debt.
(a) SHORT-TERM BORROWINGS
Credit Facilities. At December 31, 2002, CERC Corp. had fully utilized its
$350 million bank facility through borrowings and $2.5 million of letters of
credit. CERC terminated its commercial paper program in 2002.
As of December 31, 2002, there was $347 million borrowed under CERC's $350
million revolving credit facility. On February 28, 2003, CERC executed a
commitment letter with a major bank for a $350 million, 180-day bridge facility,
which is subject to the satisfaction of various closing conditions. This
facility will be available for repaying borrowings under CERC's existing $350
million revolving credit facility that expires on March 31, 2003 in the event
sufficient proceeds are not raised in the capital markets to repay such
borrowings on or before March 31, 2003. Final terms for the bridge facility have
not been established, but it is anticipated that the rates for borrowings under
the facility will be LIBOR plus 450 basis points. CERC paid a commitment fee of
25 basis points on the committed amount and will be required to pay a facility
fee of 75 basis points on the amount funded and an additional 100 basis points
on the amount funded and outstanding for more than two months. In connection
with this facility, CERC expects to provide the lender with collateral in the
form of a security interest in the stock it owns in its interstate natural gas
pipeline subsidiaries.
Money Pool Borrowings. On December 31, 2002, CERC Corp. had borrowed $74
million from its affiliates. CERC Corp. participates in a "money pool" through
which it and certain of its affiliates can borrow
17
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
or invest on a short-term basis. Funding needs are aggregated and external
borrowing or investing is based on the net cash position. The money pool's net
funding requirements are generally met with short-term borrowings of CenterPoint
Energy. The terms of the money pool are in accordance with requirements
applicable to registered public utility holding companies under the 1935 Act.
The weighted average interest rate on external short-term borrowings as of
December 31, 2001 and 2002 was 2.0% and 1.7%, respectively.
(b) LONG-TERM DEBT
Consolidated maturities of long-term debt and sinking fund requirements for
CERC are $518 million in 2003 (of which $500 million may be remarketed by an
option holder to a maturity of 2013), $1 million in 2004, $368 million in 2005,
$152 million in 2006 and $7 million in 2007. The 2003 and 2004 amounts are net
of accumulated sinking fund payments that can be satisfied with bonds that had
been acquired and retired as of December 31, 2002.
At December 31, 2001 and 2002, CERC Corp. had issued and outstanding $86
million and $79 million, respectively, aggregate principal amount ($82 million
and $76 million, respectively, carrying amount) of its 6% Convertible
Subordinated Debentures due 2012 (Subordinated Debentures). The holders of the
Subordinated Debentures receive interest quarterly and, prior to the
Restructuring, had the right at any time on or before the maturity date thereof
to convert each $50 Subordinated Debenture into 0.65 shares of Reliant Energy
common stock and $14.24 in cash. After the Restructuring, but prior to the
Distribution, each $50 Subordinated Debenture was convertible into 0.65 shares
of CenterPoint Energy common stock and $14.24 in cash. The Distribution and the
Texas Genco stock distribution changed the conversion rights for each
Subordinated Debenture as follows:
<Table>
<Caption>
SHARES OF
CENTERPOINT ENERGY
DATE EVENT CASH COMMON STOCK
- ---- ---------------------------------------- ------ ------------------
October 1, 2002 Distribution of Reliant Resources common $14.24 1.02
stock
December 21, 2002 Distribution of Texas Genco common stock $14.24 1.11
</Table>
During 2002, CERC Corp. purchased $6.6 million aggregate principal amount
of its Subordinated Debentures in anticipation of sinking fund requirements.
CERC Corp.'s $500 million aggregate principal amount of 6 3/8% Term
Enhanced ReMarketable Securities (TERM Notes) provide an investment bank with a
call option that gives it the right to have the TERM Notes tendered to it by the
holders on November 1, 2003 and then remarketed if it chooses to exercise the
option. The TERM Notes are unsecured obligations of CERC Corp. that bear
interest at an annual rate of 6 3/8% through November 1, 2003. On November 1,
2003, the holders of the TERM Notes are required to tender their notes at 100%
of their principal amount. The portion of the proceeds attributable to the call
option premium will be amortized over the stated term of the securities. If the
option is not exercised by the investment bank, CERC Corp. will repurchase the
TERM Notes at 100% of their principal amount on November 1, 2003. If the option
is exercised, the TERM Notes will be remarketed on a date, selected by CERC
Corp., within the 52-week period beginning November 1, 2003. CERC Corp. may
elect into this 52-week remarketing window only if its senior unsecured debt
securities are rated at least Baa3 by Moody's Investors Service, Inc. and BBB-
by Standard & Poor's Ratings Services, a division of The McGraw Hill Companies
(unless the investment banker waives that requirement). During this period and
prior to remarketing, the TERM Notes will bear interest at rates, adjusted
weekly, based on an index selected by CERC Corp. CERC Corp. may elect to redeem
the TERM Notes in whole, but not in part, from the
18
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
investment bank prior to remarketing. If the TERM Notes are remarketed, the
final maturity date of the TERM Notes will be November 1, 2013, subject to
adjustment, and the effective interest rate on the remarketed TERM Notes will be
5.66% plus CERC Corp.'s applicable credit spread at the time of such
remarketing.
In February 2001, CERC Corp. issued $550 million of unsecured notes that
bear interest at 7.75% per year and mature in February 2011. Net proceeds to
CERC Corp. were $545 million. CERC Corp. used the net proceeds from the sale of
the notes to pay a $400 million dividend to CenterPoint Energy and for general
corporate purposes. CenterPoint Energy used the $400 million proceeds from the
dividend for general corporate purposes, including the repayment of short-term
borrowings.
A subsidiary of CERC Corp. had an agreement (ANR Agreement) with ANR
Pipeline Company (ANR) that contemplated that this subsidiary would transfer to
ANR an interest in some of CERC Corp.'s pipeline and related assets. In 2001,
this subsidiary was transferred to Reliant Resources as a result of CenterPoint
Energy's planned divestiture of certain unregulated business operations.
However, CERC retained the pipelines covered by the ANR Agreement. Therefore,
the subsequent divestiture of Reliant Resources by CenterPoint Energy on
September 30, 2002, resulted in a conversion of CERC's obligation to ANR into an
obligation to Reliant Resources. As of December 31, 2001, CERC had recorded $41
million in long-term debt and as of December 31, 2002, CERC had recorded $5
million and $36 million in current portion of long-term debt and long-term debt,
respectively, in CERC's Consolidated Balance Sheets to reflect this obligation
for the use of 130 million cubic feet (Mmcf)/day of capacity in some of CERC's
transportation facilities. The volume of transportation will decline to 100
Mmcf/day in the year 2003 with a refund by CERC of $5 million to Reliant
Resources. The ANR Agreement will terminate in 2005 with a refund of $36 million
to Reliant Resources.
(c) RESTRICTIONS ON DEBT
CERC Corp.'s credit facilities contain various business and financial
covenants requiring CERC Corp. to, among other things, maintain leverage (as
defined in the credit facilities), below specified ratios. These covenants are
not anticipated to materially restrict CERC Corp. from borrowing funds or
obtaining letters of credit under these facilities. As of December 31, 2002,
CERC Corp. was in compliance with these debt covenants.
7. TRUST PREFERRED SECURITIES
In June 1996, a Delaware statutory business trust created by CERC Corp.
(CERC Trust) issued $173 million aggregate amount of convertible preferred
securities to the public. CERC Corp. accounts for CERC Trust as a wholly owned
consolidated subsidiary. CERC Trust used the proceeds of the offering to
purchase convertible junior subordinated debentures issued by CERC Corp. having
an interest rate and maturity date that correspond to the distribution rate and
mandatory redemption date of the convertible preferred securities. The
convertible junior subordinated debentures represent CERC Trust's sole asset and
its entire operations. CERC Corp. considers its obligation under the Amended and
Restated Declaration of Trust, Indenture and Guaranty Agreement relating to the
convertible preferred securities, taken together, to constitute a full and
unconditional guarantee by CERC Corp. of CERC Trust's obligations with respect
to the convertible preferred securities.
The convertible preferred securities are mandatorily redeemable upon the
repayment of the convertible junior subordinated debentures at their stated
maturity or earlier redemption. Effective January 7, 2003, the convertible
preferred securities are convertible at the option of the holder into $33.62 of
cash and 2.34 shares of CenterPoint Energy common stock for each $50 of
liquidation value. As of December 31, 2001 and 2002, $0.4 million liquidation
amount of convertible preferred securities were outstanding. The securities, and
their
19
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
underlying convertible junior subordinated debentures, bear interest at 6.25%
and mature in June 2026. Subject to some limitations, CERC Corp. has the option
of deferring payments of interest on the convertible junior subordinated
debentures. During any deferral or event of default, CERC Corp. may not pay
dividends on its common stock to CenterPoint Energy. As of December 31, 2002, no
interest payments on the convertible junior subordinated debentures had been
deferred.
8. EMPLOYEE BENEFIT PLANS
(a) PENSION PLANS
Substantially all of CERC's employees participate in CenterPoint Energy's
qualified non-contributory pension plan. Under the cash balance formula,
participants accumulate a retirement benefit based upon 4% of eligible earnings
and accrued interest. Prior to 1999, the pension plan accrued benefits based on
years of service, final average pay and covered compensation. As a result,
certain employees participating in the plan as of December 31, 1998 are eligible
to receive the greater of the accrued benefit calculated under the prior plan
through 2008 or the cash balance formula.
CenterPoint Energy's funding policy is to review amounts annually in
accordance with applicable regulations in order to achieve adequate funding of
projected benefit obligations. Pension expense is allocated to CERC based on
covered employees. This calculation is intended to allocate pension costs in the
same manner as a separate employer plan. Assets of the plan are not segregated
or restricted by CenterPoint Energy's participating subsidiaries. Pension
benefit was $21 million for the year ended December 31, 2000. CERC recognized
pension expense of $1 million and $13 million for the years ended December 31,
2001 and 2002, respectively.
In addition to the Plan, CERC participates in CenterPoint Energy's
non-qualified pension plan, which allows participants to retain the benefits to
which they would have been entitled under the qualified pension plan except for
federally mandated limits on these benefits or on the level of salary on which
these benefits may be calculated. The expense associated with the non-qualified
pension plan was $13 million, $5 million and $2 million for the years ended
December 31, 2000, 2001 and 2002, respectively.
As of December 31, 2001, CenterPoint Energy allocated $94 million of
pension assets, $40 million of non-qualified pension liabilities and $2 million
minimum pension liabilities to CERC. As of December 31, 2002, CenterPoint Energy
has not allocated such pension assets or liabilities to CERC. This change in
method of allocation had no impact on pension expense recorded for the year
ended December 31, 2002.
(B) SAVINGS PLAN
CERC participates in CenterPoint Energy's qualified savings plan, which
includes a cash or deferred arrangement under Section 401(k) of the Internal
Revenue Code of 1986, as amended. Under the plan, participating employees may
contribute a portion of their compensation, on a pre-tax or after-tax basis,
generally up to a maximum of 16% of compensation. CenterPoint Energy matches 75%
of the first 6% of each employee's compensation contributed. CenterPoint Energy
may contribute an additional discretionary match of up to 50% of the first 6% of
each employee's compensation contributed. These matching contributions are fully
vested at all times. A substantial portion of the matching contribution is
initially invested in CenterPoint Energy common stock. CenterPoint Energy
allocates to CERC the savings plan benefit expense related to CERC's employees.
Savings plan benefit expense was $18 million, $12 million and $17 million
for the years ended December 31, 2000, 2001 and 2002, respectively.
20
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(c) POSTRETIREMENT BENEFITS
CERC employees participate in CenterPoint Energy's plans which provide
certain health care and life insurance benefits for retired employees on a
contributory and non-contributory basis. Employees become eligible for these
benefits if they have met certain age and service requirements at retirement, as
defined in the plans. Under plan amendments effective in early 1999, health care
benefits for future retirees were changed to limit employer contributions for
medical coverage. Such benefit costs are accrued over the active service period
of employees.
CERC is required to fund a portion of its obligations in accordance with
rate orders. All other obligations are funded on a pay-as-you-go basis.
The net postretirement benefit cost includes the following components:
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
---------------------------
2000 2001 2002
---- ------------- ----
(IN MILLIONS)
Service cost -- benefits earned during the period........... $ 2 $ 2 $ 2
Interest cost on projected benefit obligation............... 9 9 9
Expected return on plan assets.............................. (1) (1) (2)
Net amortization............................................ 1 2 2
--- --- ---
Net postretirement benefit cost............................. $11 $12 $11
=== === ===
</Table>
21
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Following are reconciliations of CERC's beginning and ending balances of
its postretirement benefit plans benefit obligation, plan assets and funded
status for 2001 and 2002.
<Table>
<Caption>
YEAR ENDED
DECEMBER 31,
-------------
2001 2002
----- -----
(IN MILLIONS)
CHANGE IN BENEFIT OBLIGATION
Benefit obligation, beginning of year....................... $ 130 $ 131
Service cost................................................ 2 2
Interest cost............................................... 9 9
Benefits paid............................................... (12) (17)
Participant contributions................................... 2 3
Actuarial loss.............................................. -- 27
----- -----
Benefit obligation, end of year............................. $ 131 $ 155
===== =====
CHANGE IN PLAN ASSETS
Plan assets, beginning of year.............................. $ 12 $ 18
Benefits paid............................................... (12) (17)
Employer contributions...................................... 17 16
Participant contributions................................... 2 3
Actual investment return.................................... (1) (2)
----- -----
Plan assets, end of year.................................... $ 18 $ 18
===== =====
RECONCILIATION OF FUNDED STATUS
Funded status............................................... $(113) $(137)
Unrecognized prior service cost............................. 21 19
Unrecognized actuarial loss (gain).......................... (10) 21
----- -----
Net amount recognized at end of year........................ $(102) $ (97)
===== =====
ACTUARIAL ASSUMPTIONS
Discount rate............................................... 7.25% 6.75%
Expected long-term rate of return on assets................. 9.5% 9.0%
</Table>
For the year ended December 31, 2001, the assumed health care cost trend
rates were 7.5% for participants under age 65 and 8.5% for participants age 65
and over. For the year ended December 31, 2002, the assumed health cost trend
rate was increased to 12% for all participants. The health care cost trend rates
decline by .75% annually to 5.5% by 2011.
If the health care cost trend rate assumptions were increased by 1%, the
accumulated postretirement benefit obligation as of December 31, 2002 would
increase by approximately 3.9%. The annual effect of the 1% increase on the
total of the service and interest costs would be an increase of approximately
3.2%. If the health care cost trend rate assumptions were decreased by 1%, the
accumulated postretirement benefit obligation as of December 31, 2002 would
decrease by approximately 3.9%. The annual effect of the 1% decrease on the
total of the service and interest costs would be a decrease of 3.2%.
CERC's postretirement obligation is presented as a liability in the
Consolidated Balance Sheets under the caption Benefit Obligations.
22
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(e) OTHER NON-QUALIFIED PLANS
CERC participates in CenterPoint Energy's deferred compensation plans which
permit eligible participants to elect each year to defer a percentage of that
year's salary and up to 100% of that year's annual bonus. Employees may elect to
receive an early distribution of their deferral plus interest after at least
four years or any year, up to and including, their age 65 retirement year. In
general, employees who attain the age of 60 during employment and participate in
CenterPoint Energy's deferred compensation plans may elect to have their
deferred compensation amounts repaid in (a) fifteen equal annual installments
commencing at the later of age 65 or termination of employment or (b) a lump-sum
distribution following termination of employment. Interest generally accrues on
deferrals at a rate equal to the average Moody's Long-Term Corporate Bond Index
plus 2%, determined annually until termination when the rate is fixed at the
rate in effect for the plan year immediately prior to which a participant
attains age 65. CERC recorded interest expense related to its deferred
compensation obligation of $1 million each year for the years ended December 31,
2000, 2001 and 2002. The discounted deferred compensation obligation recorded by
CERC was $14 million and $13 million as of December 31, 2001 and 2002,
respectively.
(e) OTHER EMPLOYEE MATTERS
As of December 31, 2002, CERC employed 5,428 people. Of these employees,
1,552 are covered by collective bargaining agreements.
9. INCOME TAXES
The components of income from continuing operations before taxes are as
follows:
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
---------------------------
2000 2001 2002
---- ------------- ----
(IN MILLIONS)
United States.............................................. $176 $125 $208
Foreign.................................................... 15 -- --
---- ---- ----
Income from continuing operations before income taxes.... $191 $125 $208
==== ==== ====
</Table>
CERC's current and deferred components of income tax expense are as
follows:
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
(IN MILLIONS)
Current
Federal................................................... $ 52 $ 31 $ 56
State..................................................... 9 (3) 9
Foreign................................................... 3 -- --
----- ----- -----
Total current.......................................... 64 28 65
----- ----- -----
Deferred
Federal................................................... 24 29 12
State..................................................... 1 1 11
Foreign................................................... 4 -- --
----- ----- -----
Total deferred......................................... 29 30 23
----- ----- -----
Income tax expense.......................................... $ 93 $ 58 $ 88
===== ===== =====
</Table>
23
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
A reconciliation of the federal statutory income tax rate to the effective
income tax rate is as follows:
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
(IN MILLIONS)
Income from continuing operations before income taxes....... $ 191 $ 125 $ 208
Federal statutory rate.................................... 35% 35% 35%
----- ----- -----
Income tax expense at statutory rate........................ 67 44 73
----- ----- -----
Increase (decrease) in tax resulting from:
Capital loss benefit...................................... -- -- (72)
State income taxes, net of valuation allowances and
federal income tax benefit(1).......................... 6 (1) 13
Goodwill amortization..................................... 18 16 --
Valuation allowance, capital loss......................... -- -- 72
Other, net................................................ 2 (1) 2
----- ----- -----
Total.................................................. 26 14 15
----- ----- -----
Income tax expense.......................................... $ 93 $ 58 $ 88
===== ===== =====
Effective Rate.............................................. 48.7% 46.4% 42.2%
</Table>
- ---------------
(1) Calculation of the accrual for state income taxes at the end of each year
requires that CERC estimate the manner in which its income for that year
will be allocated and/or apportioned among the various states in which it
conducts business, where states have widely differing tax rules and rates.
These allocation/apportionment factors change from year to year and the
amount of taxes ultimately payable may differ from that estimated as a part
of the accrual process. For these reasons, the amount of state income tax
expense may vary significantly from year to year, even in the absence of
significant changes to state income tax valuation allowances or changes in
individual state income tax rates.
24
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Following are CERC's tax effects of temporary differences between the
carrying amounts of assets and liabilities in the financial statements and their
respective tax bases:
<Table>
<Caption>
DECEMBER 31,
-------------
2001 2002
----- -----
(IN MILLIONS)
Deferred tax assets:
Current:
Non-trading derivative liabilities, net................ $ 19 $ --
Current portion of capital loss........................ -- 8
Allowance for doubtful accounts........................ 15 9
---- ----
Total current deferred tax assets.................... 34 17
Non-current:
Employee benefits...................................... 70 79
Operating and capital loss carryforwards............... 28 86
Other.................................................. 45 50
Valuation allowance.................................... (15) (83)
---- ----
Total non-current deferred tax assets................ 128 132
---- ----
Total deferred tax assets............................ 162 149
---- ----
Deferred tax liabilities:
Current:
Non-trading derivative assets, net..................... -- 7
---- ----
Total current deferred tax liabilities............... -- 7
Non-current:
Depreciation........................................... 653 685
Deferred gas costs..................................... 28 3
Other.................................................. 36 50
---- ----
Total non-current deferred tax liabilities........... 717 738
---- ----
Total deferred tax liabilities....................... 717 745
---- ----
Accumulated deferred income taxes, net............... $555 $596
==== ====
</Table>
Tax Attribute Carryforwards. At December 31, 2002, CERC had $7 million and
$386 million of federal and state tax net operating loss carryforwards,
respectively. The loss carryforwards are available to offset future respective
federal and state taxable income through the year 2022.
In conjunction with the Reliant Resources restructuring and spin-off, CERC
realized a previously unrecorded capital loss attributable to the excess of the
tax basis over the book carrying value in former subsidiaries sold to Reliant
Resources. The tax benefit of this excess tax basis is recorded under SFAS No.
109 when realizable under the facts, such as a loss from a previously deferred
taxable disposition that is triggered by a spin-off. This loss is a capital loss
which may be used in the three taxable years preceding the year of the loss or
the five taxable years following the year of the loss. Federal tax law only
allows utilization of capital losses to offset capital gains. A valuation
allowance is provided against 100% of the expected benefit due to the
uncertainty in CERC's ability to generate capital gains during the utilization
period.
25
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The valuation allowance reflects a net decrease of $33 million in 2001 and
a net increase of $68 million in 2002. These net changes resulted from a
reassessment of CERC's future ability to use federal capital loss carryforwards
and state tax net operating loss carryforwards.
Tax Refund Case. In December 2000, CERC received a refund from the IRS of
$32 million in taxes and interest following an audit of its tax returns and
refund claims for the 1979 through 1993 tax years. Interest of $26 million
related to the period prior to the acquisition of CERC by CenterPoint Energy was
recorded as a reduction of goodwill. The income statement effect of $4 million
(after-tax) was recorded in CERC's Statements of Consolidated Income in 2000.
All of CERC Corp.'s consolidated federal income tax returns for tax years ending
on or prior to the date of CenterPoint Energy's acquisition of RERC have been
audited and settled.
10. COMMITMENTS AND CONTINGENCIES
(a) ENVIRONMENTAL CAPITAL COMMITMENTS
CERC has various commitments for capital and environmental expenditures.
CERC anticipates no significant capital and other special project expenditures
between 2003 and 2007 for environmental compliance.
(b) Lease Commitments
The following table sets forth information concerning CERC's obligations
under non-cancelable long-term operating leases, principally consisting of
rental agreements for building space, data processing equipment and vehicles,
including major work equipment (in millions):
<Table>
2003........................................................ $ 15
2004........................................................ 12
2005........................................................ 10
2006........................................................ 8
2007........................................................ 7
2008 and beyond............................................. 74
----
Total............................................. $126
====
</Table>
Total rental expense for all operating leases was $33 million, $31 million
and $27 million in 2000, 2001 and 2002, respectively.
(c) Environmental Matters
Hydrocarbon Contamination. On August 24, 2001, 37 plaintiffs filed suit
against Reliant Energy Gas Transmission Company (REGT), Reliant Energy Pipeline
Services, Inc., RERC Corp., RES, other Reliant Energy entities and third
parties, in the 1st Judicial District Court, Caddo Parish, Louisiana. The
petition has now been supplemented seven times. As of November 21, 2002, there
were 695 plaintiffs, a majority of whom are Louisiana residents. In addition to
the Reliant Energy entities, the plaintiffs have sued the State of Louisiana
through its Department of Environmental Quality, several individuals, some of
whom are present employees of the State of Louisiana, the Bayou South Gas
Gathering Company, L.L.C., Martin Timber Company, Inc., and several trusts.
Additionally on April 4, 2002, two plaintiffs filed a separate suit with
identical allegations against the same parties in the same court. More recently,
on January 6, 2003, two other plaintiffs filed a third suit of similar
allegations against CenterPoint Energy, as well as other defendants, in Bossier
Parish (26th Judicial District Court).
26
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The suits allege that, at some unspecified date prior to 1985, the
defendants allowed or caused hydrocarbon or chemical contamination of the Wilcox
Aquifer, which lies beneath property owned or leased by certain of the
defendants and which is the sole or primary drinking water aquifer in the area.
The primary source of the contamination is alleged by the plaintiffs to be a gas
processing facility in Haughton, Bossier Parish, Louisiana known as the "Sligo
Facility." This facility was purportedly used for gathering natural gas from
surrounding wells, separating gasoline and hydrocarbons from the natural gas for
marketing, and transmission of natural gas for distribution. This site was
originally leased and operated by predecessors of REGT in the late 1940s and was
operated until Arkansas Louisiana Gas Company ceased operations of the plant in
the late 1970s.
Beginning about 1985, the predecessors of certain Reliant Energy defendants
engaged in a voluntary remediation of any subsurface contamination of the
groundwater below the property they own or lease. This work has been done in
conjunction with and under the direction of the Louisiana Department of
Environmental Quality. The plaintiffs seek monetary damages for alleged damage
to the aquifer underlying their property, unspecified alleged personal injuries,
alleged fear of cancer, alleged property damage or diminution of value of their
property, and, in addition, seek damages for trespass, punitive, and exemplary
damages. The quantity of monetary damages sought is unspecified. As of December
31, 2002, CERC is unable to estimate the monetary damages, if any, that the
plaintiffs may be awarded in these matters.
Manufactured Gas Plant Sites. CERC and its predecessors operated
manufactured gas plants (MGP) in the past. In Minnesota, remediation has been
completed on two sites, other than ongoing monitoring and water treatment. There
are five remaining sites in our Minnesota service territory, two of which CERC
believes were neither owned nor operated by CERC, and for which CERC believes it
has no liability.
At December 31, 2001 and 2002, CERC had accrued $23 million and $19
million, respectively, for remediation of the Minnesota sites. At December 31,
2002, the estimated range of possible remediation costs was $8 million to $44
million based on remediation continuing for 30 to 50 years. The cost estimates
are based on studies of a site or industry average costs for remediation of
sites of similar size. The actual remediation costs will be dependent upon the
number of sites to be remediated, the participation of other potentially
responsible parties (PRP), if any, and the remediation methods used. CERC has an
environmental expense tracker mechanism in its rates in Minnesota. CERC has
collected $12 million at December 31, 2002 to be used for future environmental
remediation.
CERC has received notices from the United States Environmental Protection
Agency and others regarding its status as a PRP for sites in other states. Based
on current information, CERC has not been able to quantify a range of
environmental expenditures for potential remediation expenditures with respect
to other MGP sites.
Mercury Contamination. CERC's pipeline and distribution operations have in
the past employed elemental mercury in measuring and regulating equipment. It is
possible that small amounts of mercury may have been spilled in the course of
normal maintenance and replacement operations and that these spills may have
contaminated the immediate area with elemental mercury. This type of
contamination has been found by CERC at some sites in the past, and CERC has
conducted remediation at these sites. It is possible that other contaminated
sites may exist and that remediation costs may be incurred for these sites.
Although the total amount of these costs cannot be known at this time, based on
experience by CERC and that of others in the natural gas industry to date and on
the current regulations regarding remediation of these sites, CERC believes that
the costs of any remediation of these sites will not be material to CERC's
financial condition, results of operations or cash flows.
27
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Other Environmental. From time to time CERC has received notices from
regulatory authorities or others regarding its status as a PRP in connection
with sites found to require remediation due to the presence of environmental
contaminants. Considering the information currently known about such sites and
the involvement of CERC in activities at these sites, CERC does not believe that
these matters will have a material adverse effect on CERC's financial position,
results of operations or cash flows.
Department of Transportation
In December 2002, Congress enacted the Pipeline Safety Improvement Act of
2002. This legislation applies to CERC's interstate pipelines as well as its
intra-state pipelines and local distribution companies. The legislation imposes
several requirements related to ensuring pipeline safety and integrity. It
requires companies to assess the integrity of their pipeline transmission and
distribution facilities in areas of high population concentration and further
requires companies to perform remediation activities, in accordance with the
requirements of the legislation, over a 10-year period.
In January 2003, the U.S. Department of Transportation published a notice
of proposed rulemaking to implement provisions of the legislation. The
Department of Transportation is expected to issue final rules by the end of
2003.
While CERC anticipates that increased capital and operating expenses will
be required to comply with the requirements of the legislation, it will not be
able to quantify the level of spending required until the Department of
Transportation's final rules are issued.
(d) OTHER LEGAL MATTERS
Natural Gas Measurement Lawsuits. In 1997, a suit was filed under the
Federal False Claims Act against RERC Corp. (now CERC Corp.) and certain of its
subsidiaries alleging mismeasurement of natural gas produced from federal and
Indian lands. The suit seeks undisclosed damages, along with statutory
penalties, interest, costs, and fees. The complaint is part of a larger series
of complaints filed against 77 natural gas pipelines and their subsidiaries and
affiliates. An earlier single action making substantially similar allegations
against the pipelines was dismissed by the federal district court for the
District of Columbia on grounds of improper joinder and lack of jurisdiction. As
a result, the various individual complaints were filed in numerous courts
throughout the country. This case has been consolidated, together with the other
similar False Claims Act cases, in the federal district court in Cheyenne,
Wyoming.
In addition, CERC Corp., CenterPoint Energy Gas Transmission Company,
CenterPoint Energy Field Services, Inc. and CenterPoint Energy-Mississippi River
Transmission Corporation are defendants in a class action filed in May 1999
against approximately 245 pipeline companies and their affiliates. The
plaintiffs in the case purport to represent a class of natural gas producers and
fee royalty owners who allege that they have been subject to systematic gas
mismeasurement by the defendants for more than 25 years. The plaintiffs seek
compensatory damages, along with statutory penalties, treble damages, interest,
costs and fees. The action is currently pending in state court in Stevens
County, Kansas. Motions to dismiss and class certification issues have been
briefed and argued.
City of Tyler, Texas, Gas Costs Review. By letter to Entex dated July 31,
2002, the City of Tyler, Texas, forwarded various computations of what it
believes to be excessive costs ranging from $2.8 million to $39.2 million for
gas purchased by Entex for resale to residential and small commercial customers
in that city under supply agreements in effect since 1992. Entex's gas costs for
its Tyler system are recovered from customers pursuant to tariffs approved by
the city and filed with both the city and the Railroad Commission of Texas (the
Railroad Commission). Pursuant to an agreement, on January 29, 2003, Entex and
the city filed a Joint Petition for Review of Charges for Gas Sales (Joint
Petition) with the Railroad Commission. The Joint
28
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Petition requests that the Railroad Commission determine whether Entex has
properly and lawfully charged and collected for gas service to its residential
and commercial customers in its Tyler distribution system for the period
beginning November 1, 1992, and ending October 31, 2002. The Company believes
that all costs for Entex's Tyler distribution system have been properly included
and recovered from customers pursuant to Entex's filed tariffs and that the city
has no legal or factual support for the statements made in its letter.
Gas Recovery Suits. In October 2002, a suit was filed in state district
court in Wharton County, Texas, against CenterPoint Energy, CERC, Entex Gas
Marketing Company, and others alleging fraud, violations of the Texas Deceptive
Trade Practices Act, violations of the Texas Utility Code, civil conspiracy and
violations of the Texas Free Enterprise and Antitrust Act. The plaintiffs seek
class certification, but no class has been certified. The plaintiffs allege that
defendants inflated the prices charged to residential and small commercial
consumers of natural gas. In February 2003, a similar suit was filed against
CERC in state court in Caddo Parish, Louisiana purportedly on behalf of a class
of residential or business customers in Louisiana who allegedly have been
overcharged for gas or gas service provided by CERC. The plaintiffs in both
cases seek restitution for alleged overcharges, exemplary damages and penalties.
CERC denies that it has overcharged any of its customers for natural gas and
believes that the amounts recovered for purchased gas have been in accordance
with what is permitted by state regulatory authorities.
Other Proceedings. CERC is involved in other proceedings before various
courts, regulatory commissions and governmental agencies regarding matters
arising in the ordinary course of business. Management currently believes that
the disposition of these matters will not have a material adverse effect on
CERC's financial position, results of operations or cash flows.
11. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair values of cash and cash equivalents, investments in debt and
equity securities classified as "available-for-sale" and "trading" in accordance
with SFAS No. 115, and short-term borrowings are estimated to be equivalent to
carrying amounts and have been excluded from the table below. The fair values of
non-trading derivative assets and liabilities are recognized in the Consolidated
Balance Sheets at December 31, 2001 and 2002 (see Note 5). Therefore, these
financial instruments are stated at fair value and are excluded from the table
below:
<Table>
<Caption>
DECEMBER 31, 2001
-----------------
CARRYING FAIR
AMOUNT VALUE
-------- ------
(IN MILLIONS)
Financial liabilities:
Long-term debt (excluding capital leases)................. $1,968 $1,988
Trust preferred securities................................ 1 1
</Table>
<Table>
<Caption>
DECEMBER 31, 2002
-----------------
CARRYING FAIR
AMOUNT VALUE
-------- ------
(IN MILLIONS)
Financial liabilities:
Long-term debt (excluding capital leases)................. $1,959 $2,069
Trust preferred securities................................ 1 --
</Table>
29
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
12. UNAUDITED QUARTERLY INFORMATION
Summarized quarterly financial data is as follows:
<Table>
<Caption>
YEAR ENDED DECEMBER 31, 2001
---------------------------------------------------------------
FIRST QUARTER SECOND QUARTER THIRD QUARTER FOURTH QUARTER
------------- -------------- ------------- --------------
(IN MILLIONS)
Revenues......................... $2,423 $960 $669 $ 992
Operating income................. 174 (16) 5 103
Net income (loss)................ 80 (34) (27) 48
</Table>
<Table>
<Caption>
YEAR ENDED DECEMBER 31, 2002
---------------------------------------------------------------
FIRST QUARTER SECOND QUARTER THIRD QUARTER FOURTH QUARTER
------------- -------------- ------------- --------------
(IN MILLIONS)
Revenues......................... $1,242 $868 $737 $1,361
Operating income................. 143 48 37 125
Net income (loss)................ 69 8 (5) 48
</Table>
13. REPORTABLE SEGMENTS
Because CERC Corp. is a wholly owned subsidiary of CenterPoint Energy,
CERC's determination of reportable segments considers the strategic operating
units under which CenterPoint Energy manages sales, allocates resources and
assesses performance of various products and services to wholesale or retail
customers in differing regulatory environments. The accounting policies of the
segments are the same as those described in the summary of significant
accounting policies except that some executive benefit costs have not been
allocated to segments. Reportable business segments from previous years have
been restated to conform to the 2002 presentation. CERC accounts for
intersegment sales as if the sales were to third parties, that is, at current
market prices.
Beginning in the first quarter of 2002, CERC began to evaluate performance
on an earnings (loss) before interest expense, distribution on trust preferred
securities and income taxes (EBIT) basis. Prior to 2002, CERC evaluated
performance on the basis of operating income. EBIT, as defined, is shown because
it is a measure CERC uses to evaluate the performance of its business segments
and CERC believes it is a measure of financial performance that may be used as a
means to analyze and compare companies on the basis of operating performance.
CERC expects that some analysts and investors will want to review EBIT when
evaluating CERC. EBIT is not defined under accounting principles generally
accepted in the United States (GAAP), should not be considered in isolation or
as a substitute for a measure of performance prepared in accordance with GAAP
and is not indicative of operating income from operations as determined under
GAAP. Additionally, CERC's computation of EBIT may not be comparable to other
similarly titled measures computed by other companies, because all companies do
not calculate it in the same fashion.
CERC's reportable business segments include the following: Natural Gas
Distribution, Pipelines and Gathering, Wholesale Energy and Other Operations.
Natural Gas Distribution consists of intrastate natural gas sales to, and
natural gas transportation for, residential, commercial and industrial
customers, and some non-rate regulated retail gas marketing operations.
Pipelines and Gathering includes the interstate natural gas pipeline operations
and natural gas gathering and pipeline services. Reliant Energy Services was
previously reported within the Wholesale Energy segment. Other Operations
includes unallocated general corporate expenses and non-operating investments.
During 2000, Reliant Energy transferred RERC's non-rate regulated retail gas
marketing from Other Operations to Natural Gas Distribution and RERC's natural
gas gathering business from Wholesale Energy to Pipelines and Gathering. On
December 31, 2000, RERC Corp. transferred all of the outstanding stock of RESI,
Arkla Finance and RE Europe Trading, all wholly owned subsidiaries of
30
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
RERC Corp., to Reliant Resources. Also, on December 31, 2000, a wholly owned
subsidiary of Reliant Resources merged with and into Reliant Energy Services, a
wholly owned subsidiary of RERC Corp., with Reliant Energy Services as the
surviving corporation. As a result of the Merger, Reliant Energy Services became
a wholly owned subsidiary of Reliant Resources. Reportable segments from
previous years have been restated to conform to the 2002 presentation. All of
CERC's long-lived assets are in the United States.
Financial data for business segments and products and services are as
follows:
<Table>
<Caption>
NATURAL GAS PIPELINES AND WHOLESALE OTHER RECONCILING SALES TO
DISTRIBUTION GATHERING ENERGY OPERATIONS ELIMINATIONS AFFILIATES CONSOLIDATED
------------ ------------- --------- ---------- ------------ ---------- ------------
(IN MILLIONS)
AS OF AND FOR THE YEAR ENDED
DECEMBER 31, 2000:
Revenues from external
customers(1)................. $4,445 $ 182 $1,729 $ 1 $ -- $-- $6,357
Intersegment revenues.......... 34 202 579 -- (815) -- --
Depreciation and
amortization................. 145 55 11 3 -- -- 214
EBIT........................... 125 137 106 (30) (4) -- 334
Total assets................... 4,518 2,358 -- 448 (748) -- 6,576
Expenditures for long-lived
assets....................... 195 61 27 8 -- -- 291
AS OF AND FOR THE YEAR ENDED
DECEMBER 31, 2001:
Revenues from external
customers(1)................. 4,737 307 -- -- -- -- 5,044
Intersegment revenues.......... 5 108 -- -- (113) -- --
Depreciation and
amortization................. 147 58 -- 2 -- -- 207
EBIT........................... 149 138 -- 3 (10) -- 280
Total assets................... 3,732 2,361 -- 101 (202) -- 5,992
Expenditures for long-lived
assets....................... 209 54 -- -- -- -- 263
AS OF AND FOR THE YEAR ENDED
DECEMBER 31, 2002:
Revenues from external
customers(1)................. 3,927 253 -- -- -- 28 4,208
Intersegment revenues.......... 7 119 -- -- (126) -- --
Depreciation and
amortization................. 126 41 -- -- -- -- 167
EBIT........................... 210 158 -- 6 (13) -- 361
Total assets................... 4,051 2,481 -- 206 (752) -- 5,986
Expenditures for long-lived
assets....................... 196 70 -- -- -- -- 266
</Table>
- ---------------
(1) Included in revenues from external customers are revenues from sales to
Reliant Resources, a former affiliate, of $816 million, $181 million and $42
million for the years ended December 31, 2000, 2001 and 2002, respectively.
31
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
<Table>
<Caption>
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
(IN MILLIONS)
RECONCILIATION OF OPERATING INCOME TO EBIT AND EBIT TO NET
INCOME:
Operating income........................................... $ 332 $ 266 $ 353
Other, net................................................. 2 14 8
------ ------ ------
EBIT..................................................... 334 280 361
Interest expense and other charges......................... (143) (155) (153)
Income taxes............................................... (93) (58) (88)
Loss from discontinued operations.......................... (24) -- --
------ ------ ------
Net income............................................... $ 74 $ 67 $ 120
====== ====== ======
REVENUES BY PRODUCTS AND SERVICES:
Retail gas sales........................................... $4,358 $4,645 $3,857
Wholesale energy and energy related sales.................. 1,729 -- --
Gas transport.............................................. 182 307 255
Energy products and services............................... 88 92 96
------ ------ ------
Total.................................................... $6,357 $5,044 $4,208
====== ====== ======
REVENUES BY GEOGRAPHIC AREAS
U.S. ...................................................... $6,339 $5,044 $4,208
Canada..................................................... 18 -- --
------ ------ ------
Total.................................................... $6,357 $5,044 $4,208
====== ====== ======
</Table>
14. DISCONTINUED OPERATIONS
As discussed in Note 2, on December 31, 2000, CERC transferred all of the
outstanding stock of RE Europe Trading to Reliant Resources. As a result of the
transfer, CERC is reporting the results of RE Europe Trading as discontinued
operations for all periods presented in CERC's consolidated financial statements
in accordance with APB Opinion No. 30. Below is a table of the operating results
of RE Europe Trading for the year ended December 31, 2000.
<Table>
<Caption>
YEAR ENDED
DECEMBER 31, 2000
-----------------
(IN MILLIONS)
Revenues.................................................... $ 37
Operating expenses.......................................... 61
----
Operating loss.............................................. (24)
----
Net loss.................................................... $(24)
====
</Table>
In addition to RE Europe Trading, in 2000 CERC transferred its interests in
Reliant Energy Services, RESI and Arkla Finance to Reliant Resources as
described in Note 2. The transfer of these operations did not result in the
disposal of a segment of business as defined under APB No. 30. Revenues for
these operations were $2 billion for 2000. Operations of Reliant Energy
Services, RESI and Arkla Finance had net income of $28 million in 2000.
32
CENTERPOINT ENERGY RESOURCES CORP. AND SUBSIDIARIES
(AN INDIRECT WHOLLY OWNED SUBSIDIARY OF CENTERPOINT ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
15. GUARANTOR DISCLOSURES
CenterPoint Energy Gas Resources Corp., CenterPoint Energy Gas Marketing
Company and other wholly owned subsidiaries of CERC Corp. provide comprehensive
natural gas sales and services to industrial and commercial customers who are
primarily located within or near the territories served by the Company's
pipelines and distribution subsidiaries. In order to hedge their exposure to
natural gas prices, these CERC Corp. subsidiaries have entered standard purchase
and sale agreements with various counterparties. CenterPoint Energy and CERC
Corp. have guaranteed the payment obligations of these subsidiaries under
certain of these agreements, typically for one-year terms. As of December 31,
2002, CenterPoint Energy had delivered 14 such guarantees with an aggregate
maximum potential exposure of $133.5 million and an aggregate carrying amount of
$12.1 million. As of December 31, 2002, CERC Corp. had delivered 43 such
guarantees with an aggregate maximum potential exposure of $410 million and an
aggregate carrying amount of $53.7 million.
CenterPoint Energy has delivered a guarantee in favor of the Tennessee
Board for Licensing Contractors to support the contracting activities of
CenterPoint Energy Pipeline Services, Inc. in Tennessee. The term of this
guarantee runs with the two-year license granted by the Tennessee Board and
provides for a maximum potential exposure of $15 million.
33
INDEPENDENT AUDITORS' REPORT
To the Stockholder of CenterPoint Energy Resources Corp.:
We have audited the accompanying consolidated balance sheets of CenterPoint
Energy Resources Corp., formerly Reliant Energy Resources Corp., and its
subsidiaries (CERC) as of December 31, 2001 and 2002, and the related
consolidated statements of income, comprehensive income, stockholder's equity
and cash flows for each of the three years in the period ended December 31,
2002. Our audits also included the financial statement schedule listed in the
Index at Item 15(a)(2). These financial statements and the financial statement
schedule are the responsibility of CERC's management. Our responsibility is to
express an opinion on these financial statements and the financial statement
schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of CERC at December 31, 2001 and
2002, and the results of its operations and its cash flows for each of the three
years in the period ended December 31, 2002 in conformity with accounting
principles generally accepted in the United States of America. Also, in our
opinion, such financial statement schedule, when considered in relation to the
basic consolidated financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.
As discussed in Note 3(d) to the consolidated financial statements, on
January 1, 2002, CERC changed its method of accounting for goodwill and certain
intangible assets to conform to Statement of Financial Accounting Standards No.
142, "Goodwill and Other Intangible Assets."
DELOITTE & TOUCHE LLP
Houston, Texas
February 28, 2003
(June 16, 2003 as to the "Certain Reclassifications"
described in Note 1)
34