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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------------
FORM 10-Q
( X ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2003
-- OR --
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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Commission File Number 1-11668
TXU US Holdings Company
A Texas Corporation I.R.S. Employer Identification
No. 75-1837355
ENERGY PLAZA, 1601 BRYAN STREET, DALLAS, TEXAS 75201-3411
(214) 812-4600
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Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
-- ---
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes No X
--- --
Common Stock outstanding at May 12, 2003: 46,567,862 shares, without par value.
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TABLE OF CONTENTS
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PART I. FINANCIAL INFORMATION PAGE
----
Item 1. Financial Statements
Condensed Statements of Consolidated Income and Comprehensive Income -
Three Months Ended March 31, 2003 and 2002.................................. 1
Condensed Statements of Consolidated Cash Flows -
Three Months Ended March 31, 2003 and 2002.................................. 2
Condensed Consolidated Balance Sheets -
March 31, 2003 and December 31, 2002........................................ 3
Notes to Financial Statements............................................... 4
Independent Accountants' Report............................................. 19
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................................... 20
Item 3. Quantitative and Qualitative Disclosures About Market Risk.................. 44
Item 4. Controls and Procedures..................................................... 45
PART II. OTHER INFORMATION
Item 1. Legal Proceedings............................................................ 46
Item 6. Exhibits and Reports on Form 8-K............................................. 47
SIGNATURE ..................................................................................... 48
CERTIFICATIONS................................................................................. 49
Periodic reports on Form 10-K and Form 10-Q and current reports on Form 8-K
that contain financial information of TXU US Holdings Company are made available
to the public, free of charge, on the TXU Corp. website at
http://www.txucorp.com shortly after they have been filed with the Securities
and Exchange Commission. TXU US Holdings Company will provide copies of current
reports not posted on the website upon request.
(i)
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
TXU US HOLDINGS COMPANY AND SUBSIDIARIES
CONDENSED STATEMENTS OF CONSOLIDATED INCOME
(Unaudited)
Three Months Ended
March 31,
------------------
2003 2002
---- ----
(millions of dollars)
Operating revenues............................................................... $1,932 $ 1,877
------ -------
Costs and expenses:
Cost of energy sold and delivery fees......................................... 838 525
Operating costs............................................................... 366 314
Depreciation and amortization................................................. 182 183
Selling, general and administrative expenses.................................. 193 277
Franchise and revenue-based taxes............................................. 93 100
Other income.................................................................. (9) (3)
Other deductions.............................................................. 1 3
Interest income............................................................... (5) (1)
Interest expense and other charges............................................ 151 105
------- -------
Total costs and expenses.................................................. 1,810 1,503
------ -------
Income before income taxes and cumulative effect of changes in accounting
principles..................................................................... 122 374
Income tax expense............................................................... 33 121
------- -------
Income before cumulative effect of changes in accounting principles.............. 89 253
Cumulative effect of changes in accounting principles,
net of tax benefit (Note 2)................................................... (58) -
------ -------
Net income....................................................................... 31 253
Preferred stock dividends........................................................ 2 2
------ -------
Net income available for common stock............................................ $ 29 $ 251
====== =======
CONDENSED STATEMENTS OF CONSOLIDATED COMPREHENSIVE INCOME
(Unaudited)
Three Months Ended
March 31,
-------------------
2003 2002
---- ----
(millions of dollars)
Net income ....................................................................... $ 31 $ 253
------ -------
Other comprehensive income (loss)--
Cash flow hedge activity, net of tax effects:
Net change in fair value of derivatives (net of tax benefit of $42 and $23).. (78) (42)
Amounts realized in earnings during the period (net of tax expense
of $26 and benefit of $1)................................................ 49 (3)
----- ------
Total............................................................... (29) (45)
------ ------
Comprehensive income.............................................................. $ 2 $ 208
====== ======
See Notes to Financial Statements.
1
TXU US HOLDINGS COMPANY AND SUBSIDIARIES
CONDENSED STATEMENTS OF CONSOLIDATED CASH FLOWS
(Unaudited)
Three Months Ended
March 31,
------------------
2003 2002
---- ----
(millions of dollars)
Cash flows -- operating activities:
Income before cumulative effect of changes in accounting principles.............. $ 89 $ 253
Adjustments to reconcile net income to cash provided by operating activities:
Depreciation and amortization................................................. 201 207
Deferred income taxes and investment tax credits-- net ....................... 50 12
Net unrealized loss from mark-to-market valuation of commodity contracts...... 23 146
Net gain from sales of assets................................................. (6) -
Reduction in regulatory liability............................................. (42) (13)
Changes in operating assets and liabilities...................................... (140) (320)
------ ------
Cash provided by operating activities................................. 175 285
------ ------
Cash flows -- financing activities:
Issuances of securities ......................................................... 1,294 --
Retirements/repurchases of securities:
Long-term debt................................................................. (294) (328)
Preferred stock of subsidiaries, subject to mandatory redemption............... (4) -
Change in advances-- affiliates.................................................. 702 256
Change in notes payable-- banks.................................................. (1,304) -
Dividends paid to parent......................................................... (250) -
Preferred stock dividends paid................................................... (2) (2)
Redemption deposits applied to debt retirements.................................. 138 -
Debt premium, discount, financing, and reacquisition expenses.................... (33) (2)
------ ------
Cash provided by (used in) financing activities....................... 247 (76)
------ ------
Cash flows -- investing activities:
Capital expenditures............................................................. (182) (228)
Proceeds from sale of assets .................................................... 13 --
Nuclear fuel .................................................................... -- (10)
Other ........................................................................... 13 8
------ ------
Cash used in investing activities..................................... (156) (230)
------ ------
Net change in cash and cash equivalents............................................ 266 (21)
Cash and cash equivalents-- beginning balance...................................... 1,508 55
------ -------
Cash and cash equivalents-- ending balance......................................... $ 1,774 $ 34
======= =======
See Notes to Financial Statements.
2
TXU US HOLDINGS COMPANY AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
March 31, December 31,
2003 2002
--------- ------------
(millions of dollars)
ASSETS
Current assets:
Cash and cash equivalents........................................................... $1,774 $1,508
Restricted cash..................................................................... 72 210
Accounts receivable-- trade......................................................... 1,484 1,386
Inventories ........................................................................ 312 338
Commodity contract assets........................................................... 1,472 1,298
Other current assets................................................................ 171 213
------ -----
Total current assets.......................................................... 5,285 4,953
------ -----
Investments:
Restricted cash..................................................................... 69 68
Other investments................................................................... 489 491
Property, plant and equipment-- net................................................... 16,646 16,183
Goodwill.............................................................................. 558 558
Net regulatory assets................................................................. 1,749 1,630
Commodity contract assets............................................................. 337 476
Cash flow hedges and other derivative assets.......................................... 43 14
Other noncurrent assets............................................................... 141 146
------- ------
Total assets.................................................................. $25,317 $24,519
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Advances from affiliates............................................................ $1,234 $ 787
Notes payable-- banks............................................................... 500 1,804
Long-term debt due currently........................................................ 147 397
Accounts payable-- trade............................................................ 952 820
Commodity contract liabilities...................................................... 1,377 1,138
Accrued taxes....................................................................... 100 303
Other current liabilities........................................................... 670 724
------- -------
Total current liabilities..................................................... 4,980 5,973
------- -------
Accumulated deferred income taxes..................................................... 3,230 3,227
Investment tax credits................................................................ 445 450
Commodity contract liabilities........................................................ 248 320
Cash flow hedges and other derivative liabilities..................................... 219 150
Other noncurrent liabilities and deferred credits..................................... 1,618 1,063
Long-term debt, less amounts due currently............................................ 7,858 6,613
Preferred stock subject to mandatory redemption....................................... 17 21
Contingencies (Note 5)
Shareholders' equity (Note 4)......................................................... 6,702 6,702
------- -------
Total liabilities and shareholders' equity.................................... $25,317 $24,519
======= =======
See Notes to Financial Statements.
3
TXU US HOLDINGS COMPANY AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
1. SIGNIFICANT ACCOUNTING POLICIES
Description of Business -- TXU US Holdings Company (US Holdings) is a
holding company for TXU Energy Company LLC (TXU Energy) and Oncor Electric
Delivery Company (Oncor). US Holdings is a wholly-owned subsidiary of TXU Corp.,
a Texas corporation. US Holdings has two reportable business segments: TXU
Energy and Oncor. See discussion of reportable business segments in Note 6.
The term "US Holdings" refers to US Holdings and/or its consolidated
subsidiaries, depending on the context.
Basis of Presentation -- The condensed consolidated financial statements
of US Holdings and its subsidiaries have been prepared in accordance with
accounting principles generally accepted in the United States of America (US
GAAP) and, except for the rescission of Emerging Issues Task Force (EITF) Issue
No. 98-10, "Accounting for Contracts Involved in Energy Trading and Risk
Management Activities," the adoption of Statement of Financial Accounting
Standards (SFAS) No. 143, "Accounting for Asset Retirement Obligations" and the
adoption of SFAS No. 145, "Rescission of FASB Statements No. 4, 44 and 64,
Amendment of FASB Statement No. 13, and Technical Corrections" discussed below,
on the same basis as the audited financial statements included in its Annual
Report on Form 10-K for the year ended December 31, 2002 (2002 Form 10-K.) In
the opinion of management, all other adjustments (consisting of normal recurring
accruals) necessary for a fair presentation of the results of operations and
financial position have been included therein. All intercompany items and
transactions have been eliminated in consolidation. Certain information and
footnote disclosures normally included in annual consolidated financial
statements prepared in accordance with US GAAP have been omitted pursuant to the
rules and regulations of the Securities and Exchange Commission. Because the
consolidated interim financial statements do not include all of the information
and footnotes required by US GAAP, they should be read in conjunction with the
audited financial statements and related notes included in the 2002 Form 10-K.
The results of operations for an interim period may not give a true indication
of results for a full year. All dollar amounts in the financial statements and
tables in the notes, are stated in millions of US dollars unless otherwise
indicated. Certain previously reported amounts have been reclassified to conform
to current classifications.
Changes in Accounting Standards -- In October 2002, the EITF rescinded
EITF Issue No. 98-10, which required mark-to-market accounting for all trading
activities. SFAS No. 143, became effective on January 1, 2003. As a result of
the implementation of these two accounting standards, US Holdings recorded a
cumulative effect of changes in accounting principles as of January 1, 2003.
(See Note 2 for a discussion of the impacts of these two accounting standards.)
As a result of guidance provided in EITF Issue No. 02-3, "Issues Involved
in Accounting for Derivative Contracts Held for Trading Purposes and Contracts
Involved in Energy Trading and Risk Management Activities", US Holdings has not
recognized origination gains on commercial/industrial retail contracts in 2003.
For the three months ended March 31, 2002, US Holdings had recognized $13
million in origination gains on such contracts.
SFAS No. 145 became effective on January 1, 2003. One of the provisions of
this statement is the rescission of SFAS No. 4, "Reporting Gains and Losses from
Extinguishment of Debt." The adoption of SFAS No. 145 did not result in a
reclassification for the three months ended March 31, 2002.
SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal
Activities," became effective on January 1, 2003. SFAS No. 146 requires that a
liability for costs associated with an exit or disposal activity be recognized
only when the liability is incurred and measured initially at fair value. The
adoption of SFAS No. 146 did not materially impact US Holdings' results of
operations for the three months ended March 31, 2003.
4
Financial Accounting Standards Board Interpretation (FIN) No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others - an Interpretation of FASB
Statements No. 5, 57, and 107 and Rescission of FIN No. 34" requires recording
the fair value of guarantees upon issuance or modification after December 31,
2002. The interpretation also requires expanded disclosures of guarantees (see
Note 5 under Guarantees). The adoption of FIN No. 45 did not materially impact
US Holdings' results of operations for the three months ended March 31, 2003.
FIN No. 46, "Consolidation of Variable Interest Entities" was issued in
January 2003. FIN No. 46 provides guidance related to identifying variable
interest entities and determining whether such entities should be consolidated.
This guidance will be effective for existing variable interest entities in the
quarter ending September 30, 2003 and immediately for any new variable interest
entities.
SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities," was issued in April 2003 and becomes effective on June 30,
2003. SFAS No. 149 clarifies the definition of a derivative and the treatment in
the statement of cash flows when a derivative contains a financing component.
For accounting standards not yet adopted or implemented, US Holdings is
evaluating the potential impact on its financial position and results of
operations.
2. CUMULATIVE EFFECT OF CHANGES IN ACCOUNTING PRINCIPLES
The following summarizes the effect on results for the three months ended
March 31, 2003 for changes in accounting principles effective January 1, 2003:
Charge from rescission of EITF Issue No. 98-10, net of tax effect of $34 million.... $(63)
Credit from adoption of SFAS No. 143, net of tax effect of $3 million............... 5
----
Total net charge.................................................................. $(58)
====
On October 25, 2002, the EITF rescinded EITF Issue No. 98-10, which
required mark-to-market accounting for all trading activities. Pursuant to this
rescission, only financial instruments that are derivatives under SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," will be subject
to mark-to-market accounting. Financial instruments that may not be derivatives
under SFAS No. 133, but were marked-to-market under EITF Issue No. 98-10,
consist primarily of gas transportation and storage agreements, power tolling,
full requirements and capacity contracts. This new accounting rule was effective
for new contracts entered into after October 25, 2002. Non-derivative contracts
entered into prior to October 26, 2002, continued to be accounted for at fair
value through December 31, 2002; however, effective January 1, 2003, such
contracts were required to be accounted for on a settlement basis. Accordingly,
a charge of $97 million ($63 million after-tax) has been reported by TXU Energy
as a cumulative effect of a change in accounting principles in the first quarter
of 2003. Of the total, $75 million reduced net commodity contract assets and
liabilities and $22 million reduced inventory that had previously been marked
to market as a trading position. The cumulative effect adjustment represents the
net gains previously recognized for these contracts under mark-to-market
accounting.
SFAS No. 143 became effective on January 1, 2003. SFAS No. 143 requires
entities to record the fair value of a legal liability for an asset retirement
obligation in the period of its inception. For US Holdings, such liabilities
relate to nuclear generation plant decommissioning, land reclamation related
to lignite mining and removal of lignite plant treatment facilities.
The liability is recorded at its net present value with a corresponding
increase in the carrying value of the related long-lived asset. The liability
is accreted each period, representing the time value of money, and
the capitalized cost is depreciated over the remaining useful life of the
related asset.
As the new accounting rule required retrospective application to the
inception of the liability, the effects of the adoption reflect the accretion
and depreciation from the liability inception date through December 31, 2002.
Further, the effects of adoption take into consideration liabilities of $215
million which was previously (reflected in accumulated depreciation)
US Holdings had previously recorded as depreciation expense and $26 million
(reflected in other noncurrent liabilities) of unrealized net gains associated
with the decommissioning trust.
5
The following table summarizes the impact as of January 1, 2003 of
adopting SFAS No. 143:
Increase in property, plant and equipment - net................. $488
Increase in other non-current liabilities and deferred credits.. (528)
Increase in accumulated deferred income taxes................... (3)
Increase in regulatory assets-- net............................. 48
----
Cumulative effect of change in accounting principles............ $ 5
====
The asset retirement liability at March 31, 2003 was $560 million,
comprised of the $554 million liability as a result of the adoption of SFAS No.
143 and $6 million of accretion during the period.
With respect to nuclear decommissioning costs, US Holdings believes that
the adoption of SFAS No. 143 results primarily in timing differences in the
recognition of legal asset retirement costs that TXU Energy is currently
recovering, as Oncor recovers regulated decommissioning fees from retail
electric providers on behalf of TXU Energy and will be deferring such
differences as part of the regulatory cost-recovery process.
On a pro forma basis, prior to deregulation in January 2002, US Holdings'
earnings for the years ended December 31, 2001 and 2000 would not have been
impacted by the adoption of SFAS No. 143. Assuming SFAS No. 143 had been adopted
at the beginning of the periods, earnings for the year ended December 31, 2002
and the three months ended March 31, 2002 would have increased $6.5 million and
$1.5 million, respectively, and the liability for asset retirement obligations
as of December 31, 2001, March 31, 2002, and December 31, 2002, would have been
$522 million, $531 million and $554 million, respectively.
3. FINANCING ARRANGEMENTS
Credit Facilities -- At March 31, 2003, US Holdings had outstanding
short-term borrowings consisting of advances from affiliates of $1.2 billion and
bank borrowings of $500 million. Weighted average interest rates on short-term
borrowings were 2.39% and 2.44% at March 31, 2003 and December 31, 2002,
respectively.
During the first quarter of 2003, $1.3 billion in outstanding short-term
borrowings at December 31, 2002, were repaid with proceeds from the issuance of
long-term debt in March 2003 and cash flows from operations.
At March 31, 2003, US Holdings and its subsidiaries had credit facilities
(some of which provide for long-term borrowings) as follows:
At March 31, 2003
--------------------------------------------------
Authorized Facility Letters of Cash
Facility Expiration Date Borrowers Limit Credit Borrowings Availability
- -------- --------------- --------- ----- ------ ---------- ------------
364-Day Revolving Credit Facility April 2003 US Holdings, TXU
Energy, Oncor $ 1,000 $ 152 $ 500 $ 348
364-Day Senior Secured Credit Facility December 2003 Oncor 150 -- -- 150
Five -Year Revolving Credit Facility February 2005 US Holdings 1,400 371 -- 1,029
------- ------ ------ ------
Total US Holdings $ 2,550 $ 523 $ 500 $1,527
======= ====== ======= ======
In April 2003, all outstanding borrowings under the North America
credit facilities of TXU Corp. and its subsidiaries were repaid. A new $450
million revolving credit facility was established for TXU Energy and Oncor, that
matures on February 25, 2005. The new facility will be used for working capital
and other general corporate purposes, including commercial paper backup and
letters of credit, and replaces the $1 billion 364-day revolving credit facility
that expired in April 2003. Up to $450 million of letters of credit may be
issued under the facility.
6
In connection with the restructuring of the North America credit
facilities of TXU Corp. and its subsidiaries in April 2003:
o Oncor cancelled its undrawn $150 million secured 364-day credit facility
that was scheduled to expire in December 2003.
o US Holdings replaced TXU Corp. as the borrower under TXU Corp.'s
$500 million three-year revolving credit facility. Concurrently,
the facility was reduced to $400 million and TXU Corp. entered
into additional separate revolving credit facilities of $45
million and $55 million, each of which expires on May 1, 2005.
o US Holdings' $1.4 billion five-year revolving credit facility was
amended. Among other things, the amendment increased the amount of
letters of credit allowed to be issued under the facility to $1
billion from $500 million.
As a result of the repayments and other activities mentioned above, US
Holdings and its consolidated subsidiaries' credit facilities as of May 13, 2003
were as follows:
At May 13, 2003
--------------------------------------------------
Authorized Facility Letters of Cash
Facility Expiration Date Borrowers Limit Credit Borrowings Availability
- -------- --------------- --------- ----- ------ ---------- ------------
Five-Year Revolving Credit Facility February 2005 US Holdings $ 1,400 $ 377 $ -- $1,023
Revolving Credit Facility February 2005 TXU Energy, Oncor 450 -- -- 450
Three-Year Revolving Credit Facility May 2005 US Holdings 400 -- -- 400
------- ------ ------ ------
Total US Holdings $ 2,250 $ 377 $ -- $1,873
In addition to providing back-up of commercial paper issuance by TXU
Energy and Oncor, the facilities above are for general corporate and working
capital purposes, including providing collateral support for TXU Energy
portfolio management activities. At March 31 and May 13, 2003, there was no
outstanding commercial paper under these programs.
7
Long-Term Debt -- At March 31, 2003 and December 31, 2002, the long-term
debt of US Holdings and its consolidated subsidiaries consisted of the
following:
March 31, December31,
--------- -----------
2003 2002
---- ----
TXU Energy
- ----------
Pollution Control Revenue Bonds:
Brazos River Authority:
Floating Taxable Series 1993 due June 1, 2023.......................................... $ -- $ 44
4.900% Fixed Series 1994A due May 1, 2029(b)........................................... 39 39
5.400% Fixed Series 1994B due May 1, 2029(b)........................................... 39 39
5.400% Fixed Series 1995A due April 1, 2030(b)......................................... 50 50
5.050% Fixed Series 1995B due June 1, 2030(b).......................................... 118 118
4.800% Fixed Series 1999A due April 1, 2033(b)......................................... 111 111
6.750% Fixed Series 1999B due September 1, 2034(b)..................................... 16 16
7.700% Fixed Series 1999C due March 1, 2032(b)......................................... 50 50
4.950% Fixed Series 2001A due October 1, 2030(b)....................................... 121 121
4.750% Fixed Series 2001B due May 1, 2029(b)........................................... 19 19
5.750% Fixed Series 2001C due May 1, 2036(b)........................................... 274 274
4.250% Fixed Series 2001D due May 1, 2033(b)........................................... 271 271
1.500% Floating Taxable Series 2001F due December 31, 2036(c).......................... 39 39
1.500% Floating Taxable Series 2001G due December 31, 2036(c).......................... 72 72
1.360% Floating Taxable Series 2001H due December 31, 2036(c).......................... 31 31
1.310% Floating Taxable Series 2001I due December 31, 2036(c).......................... 63 63
1.250% Floating Series 2002A due May 1, 2037(c)........................................ 61 61
6.750% Fixed Series 2003A due April 1, 2038(b)........................................ 44 --
Sabine River Authority of Texas:
6.450% Fixed Series 2000A due June 1, 2021............................................. 51 51
5.500% Fixed Series 2001A due May 1, 2022(b)........................................... 91 91
5.750% Fixed Series 2001B due May 1, 2030(b)........................................... 107 107
4.000% Fixed Series 2001C due May 1, 2028(b)........................................... 70 70
1.500% Floating Taxable Series 2001D due December 31, 2036(c).......................... 12 12
1.360% Floating Taxable Series 2001E due December 31, 2036(c).......................... 45 45
Trinity River Authority of Texas:
4.900% Fixed Series 2000A due May 1, 2028(b)........................................... 14 14
5.000% Fixed Series 2001A due May 1, 2027(b)........................................... 37 37
Other:
7.000% Fixed Senior Notes - TXU Mining Company LP due May 1, 2003...................... 72 72
6.875% Fixed Senior Notes - TXU Mining Company LP due August 1, 2005................... 30 30
9.000% Fixed Exchangeable Subordinated Notes due November 22, 2012..................... 750 750
6.125% Fixed Senior Notes due March 15, 2008........................................... 250 --
7.000% Fixed Senior Notes due March 15, 2013........................................... 1,000 --
Capital lease obligations.............................................................. 10 10
Other.................................................................................. 8 8
Unamortized premium and discount....................................................... (270) (264)
------ -----
Total TXU Energy .................................................................. 3,695 2,451
------ -----
US Holdings
- -----------
7.170% Fixed Senior Debentures due August 1, 2007...................................... 10 10
9.556% Fixed Notes due in bi-annual installments through December 4, 2019.............. 73 73
8.254% Fixed Notes due in quarterly installments through December 31, 2021............. 67 68
2.150% Floating Rate Junior Subordinated Debentures, Series D due January 30, 2037(a).. 1 1
8.175% Fixed Junior Subordinated Debentures, Series E due January 30, 2037............. 8 8
------ ------
Total US Holdings ................................................................. 159 160
------ ------
8
March 31, December 31,
--------- -----------
2003 2002
---- ----
Oncor
- ------
9.530% Fixed Medium Term Secured Notes due January 30, 2003............................ -- 4
9.700% Fixed Medium Term Secured Notes due February 28, 2003........................... -- 11
6.750% Fixed First Mortgage Bonds due March 1, 2003.................................... -- 133
6.750% Fixed First Mortgage Bonds due April 1, 2003.................................... 70 70
8.250% Fixed First Mortgage Bonds due April 1, 2004.................................... 100 100
6.250% Fixed First Mortgage Bonds due October 1, 2004.................................. 121 121
6.750% Fixed First Mortgage Bonds due July 1, 2005..................................... 92 92
7.875% Fixed First Mortgage Bonds due March 1, 2023.................................... 224 224
8.750% Fixed First Mortgage Bonds due November 1, 2023................................. -- 103
7.875% Fixed First Mortgage Bonds due April 1, 2024.................................... 133 133
7.625% Fixed First Mortgage Bonds due July 1, 2025..................................... 215 215
7.375% Fixed First Mortgage Bonds due October 1, 2025.................................. 178 178
6.375% Fixed Senior Secured Notes due May 1, 2012...................................... 700 700
7.000% Fixed Senior Secured Notes due May 1, 2032...................................... 500 500
6.375% Fixed Senior Secured Notes due January 15, 2015................................. 500 500
7.250% Fixed Senior Secured Notes due January 15, 2033................................. 350 350
5.000% Fixed Debentures due September 1, 2007.......................................... 200 200
7.000% Fixed Debentures due September 1, 2022.......................................... 800 800
Unamortized premium and discount and fair value adjustments............................ (32) (35)
------ -------
Total Oncor....................................................................... 4,151 4,399
------ -------
Total US Holdings consolidated........................................................ 8,005 7,010
Less amount due currently............................................................. 147 397
------ -------
Total Long-Term Debt............................................................. $ 7,858 $ 6,613
======= =======
NOTES:
------
(a) Interest rates in effect at March 31, 2003.
(b) These series are in the multiannual mode and are subject to mandatory
tender prior to maturity on the mandatory remarketing date. On such
date, a new interest rate and interest rate period will be reset for
the bonds.
(c) Interest rates in effect at March 31, 2003. These series are in a
flexible or weekly rate mode and are classified as long-term as they
are supported by long-term irrevocable letters of credit. Series in
the flexible mode will be remarketed for periods of less than
270 days.
In early March 2003, TXU Energy issued $1.25 billion aggregate principal
amount of senior unsecured notes in two series in a private placement with
registration rights. One series in the amount of $250 million is due March 15,
2008, and bears interest at the annual rate of 6.125%, and the other series in
the amount of $1 billion is due March 15, 2013, and bears interest at the annual
rate of 7%. Net proceeds from the issuance were used for general corporate
purposes, including the repayment of borrowings under credit facilities.
In March 2003, Oncor redeemed all ($103 million principal amount) of its
First Mortgage and Collateral Trust Bonds, 8.75% Series due November 1, 2023, at
104.01% of the principal amount thereof, plus accrued interest to the redemption
date.
In March 2003, Oncor redeemed all ($133 million principal amount) of its
First Mortgage Bonds, 6.75% Series, at the maturity date for par value plus
accrued interest. A restricted cash deposit of $138 million was utilized to fund
the redemption.
In March 2003, the Brazos River Authority issued $44 million aggregate
principal amount of pollution control revenue bonds for TXU Energy. The bonds
will bear interest at the annual rate of 6.75% until the mandatory tender date
of April 1, 2013. On April 1, 2013, the bonds will be remarketed. Proceeds from
the issuance of the bonds were used to refund the entire principal amount of
Brazos River Authority Series 1993 pollution control revenue bonds due June 1,
2023.
In March 2003, the Brazos River Authority Series 1999B and 1999C pollution
control revenue bonds (aggregate principal amount of $66 million) were converted
from a floating rate mode to a multiannual mode at annual rates of 6.75% and
7.70%, respectively. These rates will remain in effect until 2013 at which time
they will be remarketed and the 1999C bonds will be callable.
9
In April 2003, the Brazos River Authority Series 1999A pollution control
revenue bonds were remarketed. The bonds now bear interest at a fixed annual
rate of 7.70% and are callable beginning on April 1, 2013 at a price of 101%
until March 31, 2014 and at 100% thereafter.
In April 2003, Oncor redeemed all ($70 million principal amount) of its
First Mortgage Bonds, 6.75% Series, at the maturity date for par value plus
accrued interest. The remaining restricted cash deposit of $72 million was
utilized to fund the redemption.
On May 1, 2003, $72 million principal amount of the 7% TXU Mining Company
LP (TXU Mining) fixed rate senior notes were repaid on maturity.
Sale of Receivables -- Certain subsidiaries of TXU Corp. sell trade
accounts receivable to TXU Receivables Company, a wholly-owned bankruptcy remote
subsidiary of TXU Corp., which sells undivided interests in accounts receivable
it purchases to financial institutions. As of March 31, 2003, TXU Energy
(through certain subsidiaries), Oncor and TXU Gas Company (TXU Gas) are
qualified originators of accounts receivable under the program. TXU Receivables
Company may sell up to an aggregate of $600 million in undivided interests in
the receivables purchased from the originators under the program. As of March
31, 2003, $1.043 billion face amount of US Holdings' receivables were sold to
TXU Receivables Company under the program in exchange for cash of $260 million
and $778 million in subordinated notes, with $5 million of losses on sales for
the three months ended March 31, 2003 that principally represents the interest
costs on the underlying financing. These losses approximated 6% of the cash
proceeds from the sale of undivided interests in accounts receivable on an
annualized basis. Funding under the program decreased from $368 million at
December 31, 2002 to $260 million at March 31, 2003 primarily due to reserve
requirements which apply factors from the prior 12-month period in determining
the current period reserve. This period reflects the billing and collection
delays previously experienced as a result of new systems and processes in TXU
Energy and the Electric Reliability Council of Texas (ERCOT) for clearing
customers switching and billing data upon the transition to competition.
Upon termination, cash flows to the originators would be delayed as
collections of sold receivables would be used by TXU Receivables Company to
repurchase the undivided interests of the financial institutions instead of
purchasing new receivables. The level of cash flows would normalize in
approximately 16 to 31 days. TXU Business Services Company, a subsidiary of TXU
Corp., services the purchased receivables and is paid a market based servicing
fee by TXU Receivables Company. The subordinated notes receivable from TXU
Receivables Company represent US Holdings' subsidiaries' retained interests in
the transferred receivables and are recorded at book value, net of allowances
for bad debts, which approximates fair value due to the short-term nature of the
subordinated notes, and are included in accounts receivable in the consolidated
balance sheet.
In October 2002, the program was amended to extend the program to July
2003, to provide for reserve requirement adjustments as the quality of the
portfolio changes and to provide for adjustments to reduce receivables in the
program by the related amounts of customer deposits held by originators. In
February 2003, the program was amended to allow receivables that are 31-90 days
past due into the program. TXU Corp. intends to extend the program upon
expiration in July 2003.
Contingencies Related to Receivables Program -- Although TXU Receivables
Company expects to be able to pay its subordinated notes from the collections of
purchased receivables, these notes are subordinated to the undivided interests
of the financial institutions in those receivables, and collections might not be
sufficient to pay the subordinated notes. The program may be terminated if
either of the following events occurs:
1) the credit rating for the long-term senior debt securities of all
originators and the parent guarantor, if any, declines below BBB- by
Standard & Poor's (S&P) or Baa3 by Moody's; or
2) the delinquency ratio (delinquent for 31 days) for the sold
receivables, the default ratio (delinquent for 91 days or deemed
uncollectible), the dilution ratio (reductions for discounts,
disputes and other allowances) or the days collection outstanding
ratio exceed stated thresholds and the financial institutions do not
waive such event of termination.
10
The delinquency and dilution ratios exceeded the relevant thresholds during
the first quarter of 2003, but waivers were granted. These ratios were affected
by issues related to the transition to deregulation. Certain billing and
collection delays arose due to implementation of new systems and processes
within TXU Energy and ERCOT for clearing customer switching and billing data.
The billing delays have been resolved but, while improving, the lagging
collection issues continue to impact the ratios. The implementation of new
provider of last resort rules by the Public Utility Commission of Texas
(Commission) and strengthened credit and collection policies and practices are
expected to bring the ratios into consistent compliance with the program.
Under the receivables sale program, all originators are required to
maintain a `BBB-' (S&P) and a `Baa3' (Moody's) rating or better (or supply a
parent guarantee with a similar rating). A downgrade below the required ratings
for an originator would prevent that originator from selling its accounts
receivable under the program. If all originators and the parent guarantor, if
any, are downgraded so that there are no eligible originators, the facility
would terminate.
The accounts receivable program also contains a cross-default provision
with a threshold of $50 million applicable to each of the originators under the
program. TXU Receivables Company and TXU Business Services Company each have a
cross-default threshold of $50,000. If either an originator, TXU Business
Services Company or TXU Receivables Company defaults on indebtedness of the
applicable threshold, the facility could terminate.
Financial Covenants, Credit Rating Provisions and Cross Default Provisions
- -- The terms of certain financing arrangements of US Holdings and its
consolidated subsidiaries contain financial covenants that require maintenance
of specified fixed charge coverage ratios, shareholders' equity to total
capitalization ratios and leverage ratios and/or contain minimum net worth
covenants. TXU Energy's exchangeable subordinated notes also limit its
incurrence of additional indebtedness unless a leverage ratio and interest
coverage test are met on a pro forma basis. As of March 31, 2003, US Holdings
and its subsidiaries were in compliance with all such applicable covenants.
Certain financing and other arrangements of US Holdings and its
subsidiaries contain provisions that are specifically affected by changes in
credit ratings and also include cross default provisions. The material cross
default provisions are described below.
Other agreements of US Holdings and its subsidiaries, including some of
the credit facilities discussed above, contain terms pursuant to which the
interest rates charged under the agreements may be adjusted depending on the
credit ratings of US Holdings or its subsidiaries.
Cross Default Provisions
------------------------
Certain financing arrangements of US Holdings and its subsidiaries contain
provisions that would result in an event of default if there is a failure under
other financing arrangements to meet payment terms or to observe other covenants
that would result in an acceleration of payments due. Such provisions are
referred to as "cross default" provisions.
TXU Corp.'s $45 million and $55 million revolving facilities, which
provide back-up for any Oncor and TXU Energy commercial paper issuances, contain
a cross default provision with respect to any default by TXU Corp. or any US
subsidiary thereof in respect of any indebtedness in a principal amount in
excess of $50 million.
A default by US Holdings or any subsidiary thereof on financing
arrangements of $50 million or more would result in a cross-default under the
$1.4 billion US Holdings five-year revolving credit facility, the $400 million
US Holdings credit facility, the $68.1 million US Holdings letter of credit
reimbursement and credit facility agreement and $102 million of TXU Mining
senior notes (which have a $1 million threshold).
A default by TXU Energy or Oncor or any subsidiary thereof in respect of
indebtedness in a principal amount in excess of $50 million or more would result
in a cross-default for such party under the TXU Energy/Oncor $450 million
revolving credit facility. Under this credit facility, a default by TXU Energy
or any subsidiary thereof would cause the maturity of outstanding balances under
such facility to be accelerated as to TXU Energy, but not as to Oncor. Also,
under this credit facility, a default by Oncor or any subsidiary thereof would
cause the maturity of outstanding balances to be accelerated under such facility
as to Oncor, but not as to TXU Energy.
11
A default or similar event under the terms of TXU Energy's exchangeable
subordinated notes (or any security of TXU Energy or its subsidiaries issued
directly or indirectly upon the conversion, exchange or extension (in whole or
in part) of such notes) that results in the acceleration (or other mandatory
repayment prior to the maturity date) of such notes or such other security or
the failure to pay such notes or such other security at maturity would result in
a default under TXU Energy's $1.25 billion senior unsecured notes.
TXU Energy has entered into certain mining and equipment leasing
arrangements aggregating $124 million that would terminate upon the default of
any other obligations of TXU Energy owed to the lessor. In the event of a
default by TXU Mining, a subsidiary of TXU Energy, on indebtedness in excess of
$1 million, a cross default would result under the $31 million TXU Mining
leveraged lease and the lease would terminate.
TXU Energy enters into energy-related contracts, the master forms of which
contain provisions whereby an event of default would occur if TXU Energy were to
default under an obligation in respect of borrowings in excess of thresholds
stated in the contracts, which thresholds vary.
US Holdings and its subsidiaries have other arrangements, including
interest rate and currency swap agreements and leases with cross default
provisions, the triggering of which would not result in a significant effect on
liquidity.
4. SHAREHOLDERS' EQUITY
March 31, December 31,
2003 2002
--------- -----------
Shareholders' equity:
Preferred stock - not subject to mandatory redemption......... $ 115 $ 115
------ ------
Common stock without par value:
Authorized shares: 180,000,000
Outstanding shares: March 31, 2003
and December 31, 2002-- 52,817,862 ...................... 2,514 2,514
Retained earnings............................................. 4,290 4,261
Accumulated other comprehensive loss.......................... (217) (188)
------ ------
Total common stock equity........................... 6,587 6,587
------ ------
Total shareholders' equity.......................... $6,702 $6,702
====== ======
On November 15, 2002, US Holdings declared a cash dividend of $250 million
which was paid to TXU Corp. on January 2, 2003. On April 1, 2003, US Holdings
repurchased 6,250,000 shares of its common stock from TXU Corp. and TXU Energy
Industries Company, the holders of all of its outstanding common stock, for a
purchase price of $40.00 per share.
5. CONTINGENCIES
Guarantees -- US Holdings has entered into contracts that contain
guarantees to outside parties that could require performance or payment under
certain conditions. These guarantees have been grouped based on similar
characteristics and are described in detail below.
Project development guarantees -- In 1990, US Holdings repurchased an
electric co-op's minority ownership interest in the Comanche Peak nuclear
generation plant and assumed the co-op's indebtedness to the US government for
the facilities. US Holdings is making principal and interest payments to the
co-op in an amount sufficient for the co-op to make payments on its
12
indebtedness. US Holdings guaranteed the co-op's payments, and in the event that
the co-op fails to make its payments on the indebtedness, the US government
would assume the co-op's rights under the agreement, and such payments would
then be owed directly by US Holdings. At March 31, 2003, the balance of the
indebtedness was $140 million with maturities of principal and interest
extending to December 2021. The indebtedness is secured by a lien on the
purchased facilities.
Residual value guarantees in operating leases -- US Holdings is the lessee
under various operating leases that obligate it to guarantee the residual values
of the leased facilities. At March 31, 2003, the aggregate maximum amount of
residual values guaranteed was approximately $275 million with an estimated
residual recovery of approximately $211 million. The average life of the lease
portfolio is approximately nine years.
Shared saving guarantees -- US Holdings has guaranteed that certain
customers will realize specified annual savings resulting from energy management
services it has provided. In aggregate, the average annual savings has exceeded
the annual savings guaranteed. The maximum potential annual payout is
approximately $9 million and the maximum total potential payout is approximately
$56 million. The fair value of guarantees issued during the three months ended
March 31, 2003 was $1.8 million with a maximum potential payout of $42 million.
The average remaining life of the portfolio is approximately five years.
Standby letters of credit -- US Holdings has entered into various
agreements that require letters of credit for financial assurance purposes.
Approximately $523 million of letters of credit were outstanding at March 31,
2003, to support existing floating rate pollution control revenue bond debt of
approximately $432 million. The letters of credit are available to fund the
payment of such debt obligations. These letters of credit have expiration dates
in 2003 and 2004; however, US Holdings intends to provide from either existing
or new facilities for the extension, renewal or substitution of these letters of
credit to the extent required for such floating rate debt or their remarketing
as fixed rate debt. In April 2003, approximately $173 million of the $523
million of letters of credit referenced above were terminated as a result of the
refinancing of approximately $110 million of floating rate pollution control
revenue bonds.
US Holdings has outstanding letters of credit in the amount of $111
million to support portfolio management margin requirements in the normal
course of business. As of March 31, 2003, approximately 78% of the obligations
supported by these letters of credit mature within one year, and substantially
all of the remainder mature in the second year.
Other - US Holdings has entered into contracts with public agencies to
purchase cooling water for use in the generation of electric energy and has
agreed, in effect, to guarantee the principal, $16 million at March 31, 2003,
and interest on bonds issued by the agencies to finance the reservoirs from
which the water is supplied. The bonds mature at various dates through 2011 and
have interest rates ranging from 5.50% to 7.00%. US Holdings is required to
make periodic payments equal to such principal and interest, including amounts
assumed by a third party and reimbursed to US Holdings. In addition, US
Holdings is obligated to pay certain variable costs of operating and
maintaining the reservoirs. US Holdings has assigned to a municipality all its
contract rights and obligations in connection with $19 million remaining
principal amount of bonds at March 31, 2003, issued for similar purposes, which
had previously been guaranteed by US Holdings. US Holdings is, however,
contingently liable in the unlikely event of default by the municipality.
Legal Proceedings -- In September 1999, Quinque Operating Company
(Quinque) filed suit in the State District Court of Stevens County, Kansas
against over 200 gas pipeline companies, including TXU Gas (named in the
litigation as ENSERCH Corporation). The suit was removed to federal court;
however, a motion to remand the case back to Kansas State District Court was
granted in January 2001, and the case is now pending in Stevens County, Kansas.
The plaintiffs amended their petition to join TXU Fuel Company (TXU Fuel), a
subsidiary of TXU Energy, as a defendant in this litigation. Quinque has
dismissed its claims and a new lead plaintiff has filed an amended petition in
which the plaintiffs seek to represent a class consisting of all similarly
situated gas producers, overriding royalty owners, working interest owners and
state taxing authorities either from whom defendants had purchased natural gas
or who received economic benefit from the sale of such gas since January 1,
1974. The petition alleges that the defendants have mismeasured both the volume
and heat content of natural gas delivered into their pipelines resulting in
underpayments to plaintiffs. On April 10, 2003, the District Court entered an
order denying the plaintiffs' motion seeking certification of a class. No amount
13
of damages has been specified in the petition with respect to TXU Gas or TXU
Fuel, and neither TXU Gas nor TXU Fuel have purchased natural gas from the named
plaintiffs in the litigation. While TXU Gas and TXU Fuel are unable to estimate
any possible loss or predict the outcome of this case, TXU Gas and TXU Fuel
believe these claims are without merit and intend to vigorously defend this
suit.
On April 28, 2003, a lawsuit was filed by a former employee of TXU
Portfolio Management Company LP (TXU Portfolio Management), in the United States
District Court for the Northern District of Texas, Dallas Division, against TXU
Corp., TXU Energy and TXU Portfolio Management. Plaintiff asserts claims under
Section 806 of the Sarbanes Oxley-Act of 2002 (Sarbanes-Oxley) arising from
plaintiff's employment termination and claims for breach of contract relating to
payment of certain bonuses. Plaintiff seeks back pay, payment of bonuses and
alternatively, reinstatement or future compensation, including bonuses. US
Holdings believes the plaintiff's claims are without merit. The plaintiff was
terminated as the result of a reduction in force, not as a reaction to any
concerns the plaintiff had expressed and plaintiff was not in a position with
TXU Portfolio Management such that he had knowledge or information that would
qualify the plaintiff to evaluate TXU Corp.'s financial statements or assess the
adequacy of TXU Corp.'s financial disclosures. Thus, US Holdings does not
believe that there is any merit to the plaintiff's claims under Sarbanes-Oxley.
Accordingly, TXU Corp., TXU Energy and TXU Portfolio Management intend to
vigorously defend the litigation. While TXU Corp., TXU Energy and TXU Portfolio
Management dispute the plaintiff's claims, like any litigation, US Holdings is
unable to predict the outcome of this litigation or the possible loss in the
event of an adverse judgment.
US Holdings is involved in various legal and administrative proceedings,
the ultimate resolution of which should not have a material effect upon its
financial position, results of operations or cash flows.
Open-Access Transmission -- At the state level, the Texas Public Utility
Regulatory Act, as amended, requires owners or operators of transmission
facilities to provide open access wholesale transmission services to third
parties at rates and terms that are non-discriminatory and comparable to the
rates and terms of the utility's own use of its system. The Commission has
adopted rules implementing the state open access requirements for utilities that
are subject to the Commission's jurisdiction over transmission services, such as
Oncor.
On January 3, 2002, the Supreme Court of Texas issued a mandate affirming
the judgment of the Court of Appeals that held that the pricing provisions of
the Commission's open access wholesale transmission rules, which had mandated
the use of a particular rate setting methodology, were invalid because they
exceeded the statutory authority of the Commission. On January 10, 2002, Reliant
Energy Incorporated and the City Public Service Board of San Antonio each filed
lawsuits in the Travis County, Texas, District Court against the Commission and
each of the entities to whom they had made payments for transmission service
under the invalidated pricing rules for the period January 1, 1997, through
August 31, 1999, seeking declaratory orders that, as a result of the application
of the invalid pricing rules, the defendants owe unspecified amounts. US
Holdings and TXU SESCO Company are named defendants in both suits. US Holdings
is unable to predict the outcome of any litigation related to this matter.
6. SEGMENT INFORMATION
US Holdings has two reportable business segments: TXU Energy and Oncor.
TXU Energy (formerly Energy segment) - consists of operations which are
principally in the competitive Texas market, and involving power production,
wholesale energy sales, retail energy sales and services, and portfolio
management, including risk management and certain trading activities.
Oncor (formerly Electric Delivery segment) - consists of regulated
operations in Texas involving the transmission and distribution of
electricity.
Effective with reporting for the three months ended March 31, 2003,
results for the TXU Energy segment exclude expenses incurred by the US Holdings
holding company in order to present the segment on the same basis as the
separate reporting for TXU Energy Company LLC and as results of the business are
evaluated by management. The activities of the holding company consist primarily
of servicing of approximately $160 million of debt. Prior year amounts are
presented on the revised basis.
14
Three Months Ended
March 31,
-----------------
2003 2002
---- ----
Operating revenues:
TXU Energy ..................................................... $ 1,806 $ 1,799
Oncor .......................................................... 506 494
Eliminations ................................................... (380) (416)
------- -------
Consolidated ............................................. $ 1,932 $ 1,877
======= =======
Regulated revenues included in operating revenues:
TXU Energy ..................................................... $ -- $ --
Oncor .......................................................... 506 494
Eliminations ................................................... (377) (416)
------- -------
Consolidated ............................................. $ 129 $ 78
======= =======
Affiliated revenues included in operating revenues:
TXU Energy ..................................................... $ 3 $ --
Oncor .......................................................... 377 416
Eliminations ................................................... (380) (416)
------- -------
Consolidated ............................................. $ -- $ --
======= =======
Income before cumulative effect of changes in accounting principles:
TXU Energy ..................................................... $ 35 $ 187
Oncor .......................................................... 61 71
Other .......................................................... (7) (5)
------- -------
Consolidated ............................................. $ 89 $ 253
======= =======
7. SUPPLEMENTARY FINANCIAL INFORMATION
Regulated Versus Unregulated Operations --
Three Months Ended
March 31,
----------------------
2003 2002
---- ----
Operating revenues:
Regulated ....................................................... $ 506 $ 494
Unregulated ..................................................... 1,806 1,799
Intercompany sales eliminations - regulated ..................... (377) (416)
Intercompany sales eliminations - unregulated ................... (3) --
------- -------
Total operating revenues ................................... 1,932 1,877
------- -------
Costs and operating expenses:
Cost of energy sold and delivery fees - unregulated* ............ 838 525
Operating costs - regulated ..................................... 173 152
Operating costs - unregulated ................................... 193 162
Depreciation and amortization - regulated ....................... 69 64
Depreciation and amortization - unregulated ..................... 113 119
Selling, general and administrative expenses - regulated ........ 49 57
Selling, general and administrative expenses - unregulated ...... 144 220
Franchise and revenue-based taxes - regulated ................... 60 66
Franchise and revenue-based taxes - unregulated ................. 33 34
Other income .................................................... (9) (3)
Other deductions ................................................ 1 3
Interest income ................................................. (5) (1)
Interest expense and other charges .............................. 151 105
------- -------
Total costs and expenses ................................... 1,810 1,503
------- -------
Income before income taxes .......................................... $ 122 $ 374
======= =======
* Includes cost of fuel consumed of $413 million in 2003 and $259 million
in 2002. The balance represents energy purchased for resale and
delivery fees.
The operations of the TXU Energy segment are included above as
unregulated, as the Texas market is now open to competition. However, retail
pricing to residential and small business customers in its historical service
territory continues to be subject to certain price controls.
15
Other Income and Deductions --
Three Months Ended
March 31,
------------------
2003 2002
---- ----
Other income:
Net gain on sale of businesses.......................... $ 6 $ -
Lignite coal royalties.................................. - 2
Allowance for funds used during construction............ 1 1
Other.............................................. 2 -
-------- --------
Total other income.................................. $ 9 $ 3
======== ========
Other deductions:
Equity in losses of unconsolidated subsidiaries......... $ - $ 1
Other.............................................. 1 2
-------- --------
Total other deductions.............................. $ 1 $ 3
======== ========
Interest Expense and Related Charges --
Three Months Ended
March 31,
------------------
2003 2002
---- ----
Interest...................................................... $ 146 $ 103
Amortization of deferred debt costs........................... 8 5
Allowance for borrowed funds used during construction
and capitalized interest.................................. (3) (3)
------ -----
Total interest expense and other related charges...... $ 151 $ 105
===== =====
Regulatory Assets and Liabilities --
March 31, December 31,
2003 2002
---- ----
Regulatory Assets:
Generation-related regulatory assets subject to securitization. $1,652 $1,652
Securities reacquisition costs................................. 125 124
Recoverable deferred income taxes-- net........................ 77 76
Other regulatory assets........................................ 115 46
------- ------
Total regulatory assets.................................... 1,969 1,898
------- ------
Regulatory Liabilities:
Liability related to excess mitigation credit.................. 125 170
ITC and protected excess deferred taxes........................ 95 98
------- ------
Total regulatory liabilities............................... 220 268
------- ------
Net regulatory assets...................................... $1,749 $1,630
====== ======
Included above are assets of $1.8 billion at March 31, 2003 and December
31, 2002, that were not earning a return. Of the assets not earning a return,
$1.652 billion is expected to be recovered over the term of the securitization
bonds expected to be issued by Oncor in 2003 and 2004 pursuant to the regulatory
settlement plan approved by the Commission. All other regulatory assets
have a remaining recovery period of 15 to 48 years.
Included in other regulatory assets as of March 31, 2003 was $57 million
related to nuclear decommissioning liabilities. (See Note 2 for a discussion of
the accounting impact of recording asset retirement obligations.)
16
Restricted Cash -- At March 31, 2003, approximately $72 million of the net
proceeds from Oncor's issuance of senior secured notes in December 2002 remained
in a trust to pay interest and principal of First Mortgage Bonds of Oncor due on
April 1, 2003, and was reported in current assets on the balance sheet. Other
restricted cash included $69 million as collateral for letters of credit issued
and was reported in investments on the balance sheet.
Accounts Receivable -- At March 31, 2003 and December 31, 2002, accounts
receivable are stated net of allowance for uncollectible accounts of $67 million
and $72 million, respectively.
Accounts receivable included $467 million and $505 million of unbilled
revenues at March 31, 2003 and December 31, 2002, respectively.
Intangible Assets -- SFAS No. 142, "Goodwill and Other Intangible Assets,"
became effective for US Holdings on January 1, 2002. SFAS No. 142 requires,
among other things, the allocation of goodwill to reporting units based upon the
current fair value of the reporting units, and the discontinuance of goodwill
amortization. SFAS No. 142 also requires additional disclosures regarding
intangible assets (other than goodwill) that are amortized or not amortized:
As of March 31, 2003 As of December 31, 2002
------------------------------ ----------------------------
Gross Gross
Carrying Accumulated Carrying Accumulated
Amount Amortization Net Amount Amortization Net
Amortized intangible assets (included in
property, plant and equipment):
Capitalized software.............. $380 $148 $232 $368 $131 $237
Land easements.................... 179 61 118 180 61 119
Mineral rights and other.......... 31 20 11 31 20 11
------ ------ ------ ------ ------ ------
Total....................... $590 $229 $361 $579 $212 $367
==== ==== ==== ==== ==== ====
Aggregate US Holdings amortization expense for intangible assets was $15
million for the three months ended March 31, 2003 and 2002, respectively.
At March 31, 2003 and December 31, 2002, goodwill of $558 million was
stated net of accumulated amortization of $67 million.
Commodity Contracts -- At March 31, 2003 and December 31, 2002, current
and noncurrent commodity contract assets totaling $1.8 billion are stated net of
applicable credit (collection) and performance reserves totaling $38 million and
$43 million, respectively. Performance reserves are provided for direct,
incremental costs to settle the contracts.
Inventories by Major Category --
March 31, December 31,
2003 2002
-------- ---------
Materials and supplies...................................... $212 $ 211
Fuel stock.................................................. 64 70
Gas stored underground...................................... 36 57
------ -------
Total inventories....................................... $312 $ 338
==== =====
Inventories were reduced by $22 million as a result of the rescission of
EITF Issue No. 98-10 as discussed in Note 2.
Property, plant and equipment -- At March 31, 2003 and December 31, 2002,
property, plant and equipment was stated net of accumulated depreciation and
amortization of approximately $10.4 billion.
17
As of March 31, 2003, substantially all of Oncor's electric utility
property and equipment (with a net book value of $6.1 billion) was pledged as
collateral for Oncor's first mortgage bonds and senior secured notes.
Derivatives and Hedges -- US Holdings experienced net hedge
ineffectiveness of $6 million, reported as a gain in revenues, for the three
months ended March 31, 2003.
As of March 31, 2003, it is expected that $82 million of after-tax net
losses accumulated in other comprehensive income primarily related to
commodities hedges will be reclassified into earnings during the next twelve
months. This amount represents the projected value of the hedges over the next
twelve months relative to what would be recorded if the hedge transactions had
not been entered into. The amount expected to be reclassified is not a
forecasted loss incremental to normal operations, but rather it demonstrates the
extent to which volatility in earnings (which would otherwise exist) is
mitigated through the use of cash flow hedges.
Affiliate Transactions -- The following represent significant affiliate
transactions of US Holdings:
Average daily short-term advances from affiliates during the first three
months of 2003 and 2002 were $869 million and $1.3 billion, respectively, and
interest expense incurred on the advances was $5 million and $11 million,
respectively. The average interest rates for the first three months of 2003 and
2002 were 2.33% and 3.09%, respectively.
TXU Business Services Company, a subsidiary of TXU Corp., charges US
Holdings for certain financial, accounting, information technology,
environmental, procurement and personnel services and other administrative
services at cost. For the first three months of 2003 and 2002, these costs
totaled $89 million and $105 million, respectively, and are included in selling,
general and administrative expenses.
US Holdings charges TXU Gas, a subsidiary of TXU Corp., for customer and
administrative services. For the first three months of 2003 and 2002, these
charges totaled $15 million and $14 million, respectively, and are largely
reported as a reduction in selling, general and administrative expenses.
Supplemental Cash Flow Information -- See Note 2 for the effects of
adopting SFAS No. 143, which was a noncash transaction.
18
INDEPENDENT ACCOUNTANTS' REPORT
TXU US Holdings Company:
We have reviewed the accompanying condensed consolidated balance sheet of TXU US
Holdings Company and subsidiaries (US Holdings) as of March 31, 2003, and the
related condensed statements of consolidated income, comprehensive income and
cash flows for the three-month periods ended March 31, 2003 and 2002. These
financial statements are the responsibility of US Holdings' management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit in accordance with
auditing standards generally accepted in the United States of America, the
objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to such condensed consolidated financial statements for them to be in
conformity with accounting principles generally accepted in the United States of
America.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the consolidated balance sheet of US
Holdings as of December 31, 2002, and the related statements of consolidated
income, comprehensive income, cash flows and shareholders' equity for the year
then ended (not presented herein); and in our report (which includes an
explanatory paragraph related to the adoption of Statement of Financial
Accounting Standards No. 142), dated February 14, 2003 (and March 19, 2003 as to
Note 18 therein), we expressed an unqualified opinion on those consolidated
financial statements. In our opinion, the information set forth in the
accompanying condensed consolidated balance sheet as of December 31, 2002, is
fairly stated in all material respects in relation to the consolidated balance
sheet from which it has been derived.
As discussed in Note 2 to the Notes to Financial Statements, US Holdings changed
its method of accounting for asset retirement obligations in 2003 in connection
with the adoption of Statement of Financial Accounting Standards No. 143, "Asset
Retirement Obligations" and changed its method for accounting for certain
contracts with the rescission of Emerging Issues Task Force Issue 98-10
"Accounting for Contracts Involved in Energy Trading and Risk Management
Activities."
DELOITTE & TOUCHE LLP
Dallas, Texas
May 15, 2003
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
BUSINESS
TXU US Holdings Company (US Holdings) is a holding company for TXU Energy
Company LLC (TXU Energy) and Oncor Electric Delivery Company (Oncor). US
Holdings is a wholly-owned subsidiary of TXU Corp., a Texas corporation.
US Holdings engages, through TXU Energy, in power production
(electricity generation), wholesale energy sales, retail energy sales and
related services, portfolio management, including risk management and certain
trading activities, as well as, through Oncor in the transmission and
distribution (T&D) of electricity.
US Holdings' consolidated operations consist of its TXU Energy and Oncor
business segments and the activity of the holding company, which consists
primarily of servicing approximately $160 million in debt.
The term "US Holdings" refers to US Holdings and/or its consolidated
subsidiaries, depending on the context.
Dollar amounts in the following tables are stated in millions of US
dollars, unless otherwise noted.
RESULTS OF OPERATIONS
Three Months Ended March 31, 2003 Compared to Three Months Ended March 31, 2002
- -------------------------------------------------------------------------------
Reference is made to comparisons of results by business segment following
the discussion of consolidated results presented below.
US Holdings' operating revenues increased $55 million, or 3%, to $1.9
billion in 2003. The revenue growth reflected an increase in the Oncor segment
of $12 million, or 2%, and a nominal increase in the TXU Energy segment of $7
million. The balance of the revenue growth, $36 million, reflected a lower
intercompany sales elimination between the two segments, as sales by the Oncor
segment to unaffiliated retail electric providers (REPs) have increased with the
opening of the Texas market to competition on January 1, 2002. Revenue growth in
the Oncor segment was driven by increased disconnect/reconnect fees, due to
greater competition-related customer switching activities, and growth in points
of delivery. Revenue performance in the TXU Energy segment reflected lower large
commercial/industrial retail sales due to declines in volume and pricing offset
by favorable results from portfolio management activities and increased
wholesale pricing and sales volumes.
Gross Margin
Three Months Ended
March 31,
-----------------------------------------------
% of % of
2003 Revenue 2002 Revenue
Operating revenues..................................... $ 1,932 100% $ 1,877 100%
Cost and expenses:
Cost of energy sold and delivery fees............. 838 43% 525 28%
Operating costs................................... 366 19% 314 17%
Depreciation and amortization related to operating
assets........................................ 168 9% 163 9%
------- ----- ------- ------
Gross margin........................................... $ 560 29% $ 875 46%
======= ===== ======= ======
20
Gross margin decreased $315 million, or 36%, to $560 million in 2003. This
decline was driven by the TXU Energy segment, reflecting lower volumes and
prices in the large commercial/industrial retail electric business, as well as
the effect of higher natural gas costs on fuel and purchased power costs, and
higher operating costs, partially offset by favorable results from portfolio
management activities. Mark-to-market accounting for commodity contracts reduced
revenues and gross margin by $23 million in 2003 (as compared to accounting on a
settlement basis), and reduced results by $146 million in 2002. Operating costs
rose $52 million, or 17%, to $366 million primarily due to employee severance
cost, higher pension and postemployment costs, increased insurance expenses,
higher operating costs in the small strategic retail services business and
higher transmission costs paid to other utilities.
Effective with the second quarter of 2003, TXU Energy expects to adjust
depreciation rates related to its generation facilities, based on a review of
the remaining depreciable lives of its generation fleet. This change in estimate
is anticipated to result in a reduction of approximately $50 million in annual
depreciation expense and is due primarily to an extension in the estimated
useful life of its nuclear generation facility of approximately 11 years (to
2041), partially offset by higher depreciation expense in lignite and gas
facilities.
Selling, general and administrative (SG&A) expense decreased $84 million,
or 30%, to $193 million in 2003. The decrease was driven by the TXU Energy
segment and reflected lower bad debt expense and cost reduction initiatives. Bad
debt expense declined primarily due to the favorable resolution of most billing
issues experienced in 2002 in connection with the transition to competition in
Texas. Cost reductions, primarily lower staffing and related administrative
expenses, were initiated in response to the completion of the transition to
competition in Texas, the industry-wide decline in portfolio management
activities and the expected deferral of deregulation of energy markets in other
states. The effects of these cost reduction initiatives were partially offset by
employee severance costs and higher computer software costs and marketing
expenses. Favorable comparisons of SG&A expenses are expected to continue over
the balance of 2003.
Franchise and revenue-based taxes decreased $7 million, or 7%, to $93
million due primarily to lower retail revenues on which gross receipts taxes are
based.
Other income increased $6 million to $9 million in 2003, primarily
reflecting a net $6 million gain on the sale of certain retail commercial and
industrial gas operations.
Other deductions decreased $2 million to $1 million in 2003 due primarily
to lower equity losses from an unconsolidated investment.
Interest income increased $4 million to $5 million in 2003, primarily
reflecting higher cash balances on hand as credit facilities were drawn down in
the fourth quarter of 2002 to enhance liquidity.
Interest expense and other charges increased $46 million, or 44%, to $151
million in 2003. The increase reflects $32 million due to higher average debt
levels resulting from funds drawn under the credit facilities, $10 million
increase due to higher average interest rates resulting from the replacement of
short-term debt with permanent financing, including credit line fees and $4
million increase due to the amortization of discount on the TXU Energy
exchangeable subordinated notes.
The effective income tax rate was 27.0% in 2003 compared to 32.4% in 2002.
The decrease was driven by the effect of comparable (to 2002) tax benefit
amounts of depletion allowances and amortization of investment tax credits on a
lower income base in 2003.
Income before cumulative effect of changes in accounting principles
declined $164 million, or 65%, to $89 million in 2003. This performance
reflected a decline of $152 million, or 81%, to $35 million in the TXU Energy
segment driven by the decreased gross margin and higher interest expense,
partially offset by decreased SG&A expenses, and a decline of $10 million, or
14%, to $61 million in the Oncor segment. TXU Energy's 2003 results also
reflected a $16 million (after tax) gain, primarily reported in revenues, on the
settlement of outstanding counterparty default events and $11 million (after
tax) in severance charges. Net pension and postretirement benefit costs reduced
net income by $17 million in 2003 and $10 million in 2002.
21
The cumulative effect of changes in accounting principles, representing an
after-tax charge of $58 million, reflects the rescission of Emerging Issues Task
Force (EITF) Issue No. 98-10, "Accounting for Contracts Involved in Energy
Trading and Risk Management Activities," and the adoption of Statement of
Financial Accounting Standards No. 143, "Accounting for Asset Retirement
Obligations." See Note 2 to Financial Statements for further discussion.
COMMODITY CONTRACT AND MARK-TO-MARKET ACTIVITIES
The table below summarizes the changes in commodity contract assets and
liabilities for the three months ended March 31, 2003. The net decrease,
excluding "cumulative effect of change in accounting principle" and "other
activity" as described below, of $23 million represents the net unfavorable
effect of mark-to-market accounting on earnings for the three months ended
March 31, 2003. This effect represents the difference between earnings under
mark-to-market accounting versus accounting for gains and losses upon
settlement of the contracts.
Balance of net commodity contract assets/(liabilities) at December 31, 2002... $ 316
Cumulative effect of change in accounting principle (1) ...................... (75)
Settlements of positions included in the opening balance (2) ................. (56)
Unrealized mark-to-market valuations of positions held at end of period (3)... 33
Other activity (4)............................................................ (34)
------
Balance of net commodity contract assets at March 31, 2003 ................... $ 184
======
(1) Represents a portion of the pre-tax cumulative effect of the rescission of
EITF Issue No. 98-10. (See Note 2 to Financial Statements).
(2) Represents unrealized mark-to-market valuations of these positions
recognized in earnings as of the beginning of the period.
(3) There were no significant changes in fair value attributable to changes
in valuation techniques.
(4) Represents net option premiums paid/(received) in the
current period and the sale of certain retail commercial and
industrial gas operations. These activities have no effect on
unrealized mark-to-market valuations.
As a result of guidance in EITF Issue No. 02-3, "Issues Involved in
Accounting for Derivative Contracts Held for Trading Purposes and Contracts
Involved in Energy Trading and Risk Management Activities," US Holdings has not
recognized origination gains on commercial/industrial retail contracts in 2003.
(See Note 1 to Financial Statements.)
Maturity Table -- Of the net commodity contract asset balance above at
March 31, 2003, the amount representing unrealized mark-to-market net gains that
have been recognized in current and prior periods' earnings is $232 million. The
offsetting net liability of $48 million included in the March 31, 2003 balance
consists of unamortized net option premiums received. The following table
presents the unrealized mark-to-market balance at March 31, 2003 scheduled by
contractual settlement dates of the underlying positions.
Maturity dates of unrealized net mark-to-market balances at March 31, 2003
---------------------------------------------------------------------------
Maturity Maturity in
less than Maturity of Maturity of Excess of
Source of fair value 1 year 1-3 years 4-5 years 5 years Total
---------------------- ------------ ------------ ------------ --------- -----
Prices actively quoted.. $ 4 $ (1) $ -- $ -- $ 3
Prices provided by other
external sources...... 96 60 11 2 169
Prices based on models.. 46 14 -- -- 60
---- ---- ---- ---- ----
Total................... $146 $ 73 $ 11 $ 2 $232
==== ==== ==== ==== ====
Percentage of total .... 63% 31% 5% 1% 100%
As the above table indicates, approximately 94% of the unrealized
mark-to-market valuations at March 31, 2003 mature within three years. This is
reflective of the terms of the positions and the methodologies employed in
valuing positions for periods where there is less market liquidity and
visibility. The "prices actively quoted" category reflects only exchange traded
22
contracts with active quotes available through 2005. The "prices provided by
other external sources" category represents forward commodity positions at
locations for which over-the-counter (OTC) broker quotes are available. OTC
quotes for power and natural gas generally extend through 2005 and 2010,
respectively. The "prices based on models" category contains the value of all
non-exchange traded options, valued using industry accepted option pricing
models. In addition, this category contains other contractual arrangements,
which may have both forward and option components. In many instances, these
contracts can be broken down into their component parts and modeled by US
Holdings as simple forwards and options based on prices actively quoted. As the
modeled value is ultimately the result of a combination of prices from two or
more different instruments, it has been included in this category.
SEGMENTS
Financial Results
TXU Energy
- ----------
Three Months Ended
March 31,
--------------------
2003 2002
---- ----
Operating revenues..................................... $ 1,806 $ 1,799
------- -------
Costs and expenses:
Cost of energy sold and delivery fees............................ 1,218 941
Operating costs.................................................. 193 162
Depreciation and amortization.................................... 113 119
Selling, general and administrative expenses..................... 144 220
Franchise and revenue-based taxes................................ 28 30
Other income..................................................... (8) (2)
Other deductions................................................ 2 3
Interest income.................................................. (2) (9)
Interest expense and other charges............................... 77 59
------- -------
Total costs and expenses .................................... 1,765 1,523
------- -------
Income before income taxes and cumulative effect of changes in
accounting principles.............................................. 41 276
Income tax expense.................................................. 6 89
------- -------
Income before cumulative effect of changes in accounting principles.. $ 35 $ 187
======= =======
23
Segment Highlights
Three Months Ended
March 31,
-------------------
2003 2002
---- ----
Operating statistics
Retail electric sales volumes (Gigawatt hours-- GWh)................... 19,398 22,386
Wholesale electric sales volumes (GWh)................................. 7,451 6,199
Retail electric customers (end of period and in thousands - number of
meters).............................................................. 2,701 2,756
Three Months Ended
March 31,
---------------------
2003 2002
---- ----
Operating revenues (millions of dollars)
Retail electric:
Residential........................................................... $ 684 $ 695
Commercial and industrial............................................. 748 1,050
----- ------
Total........................................................ 1,432 1,745
----- -----
Wholesale electric .................................................... 237 146
Wholesale energy portfolio management activities...................... 91 (63)
Other revenues......................................................... 46 (29)
------ ------
Total operating revenues..................................... $1,806 $1,799
====== ======
Weather (average for service area)
Percent of normal:
Cooling degree days....................................... 50.0% 94.1%
Heating degree days....................................... 106.6% 101.5%
- -----------------------
Weather data is obtained from Meterlogix, a private company that collects
weather data from reporting stations of the National
Oceanic and Atmospheric Administration (a federal agency under the US
Department of Commerce).
Three Months Ended March 31, 2003 Compared to Three Months Ended March 31, 2002
- -------------------------------------------------------------------------------
Effective with reporting for the three months ended March 31, 2003,
results for the TXU Energy segment exclude expenses incurred by the US Holdings
holding company in order to present the segment on the same basis as the
separate reporting for TXU Energy Company LLC and as results of the business are
evaluated by management. The activities of the holding company consist primarily
of servicing of approximately $160 million of debt. Prior year amounts are
presented on the revised basis.
Operating revenues for the TXU Energy segment increased a nominal $7
million to $1.8 billion in 2003. Retail electric revenues declined $313 million,
or 18%, to $1.4 billion, reflecting a $233 million reduction due to lower
volumes and an $80 million reduction due to lower average prices. A 13% decline
in overall retail electric sales volumes was primarily due to the effects of
increased competitive activity in the large commercial and industrial segment of
the market. The price variance primarily reflects lower average commercial and
industrial prices, reflecting the effect of large customers remaining on
regulated or "standard offer" rates, some into the second quarter of 2002, while
evaluating competitive offers before contracting at new, lower rates. Wholesale
electric revenues increased $91 million, or 62%, to $237 million reflecting a
$61 million increase due to higher average prices and a $30 million increase due
to higher volumes. Higher wholesale electric prices reflect significantly higher
natural gas costs. The increase in wholesale electric volumes reflected a
partial shift in the large commercial and industrial customer base from retail
to wholesale services. Wholesale portfolio management activities posted a net
improvement of $154 million due to the effect of favorable price movements on
commodity contract positions.
24
Gross Margin
Three Months Ended
March 31,
-----------------------------------------------
% of % of
2003 Revenue 2002 Revenue
---- ------- ---- -------
Operating revenues..................................... $ 1,806 100% $ 1,799 100%
Cost and expenses:
Cost of energy sold and delivery fees............. 1,218 67% 941 52%
Operating costs................................... 193 11% 162 9%
Depreciation and amortization related to operating
assets........................................ 102 6% 101 6%
------- ----- ------- ------
Gross margin........................................... $ 293 16% $ 595 33%
======= ===== ======= ======
Gross margin decreased $302 million, or 51%, to $293 million in 2003. The
decrease was driven by the lower volumes and prices in the large
commercial/industrial business, as well as the effect of higher natural gas
prices on fuel and purchased power costs, which was partially offset by the
favorable portfolio management results. Mark-to-market accounting for commodity
contracts reduced revenues and gross margin by $23 million in 2003 (as compared
to accounting on a settlement basis), and reduced results by $146 million in
2002. Operating costs rose $31 million, or 19%, to $193 million primarily due to
employee severance costs associated with cost reduction initiatives, higher
pension and other postemployment costs, increased insurance expenses and higher
operating costs in the small strategic retail services business.
The following table analyzes the TXU Energy segment's gross margin between
its realized and unrealized components:
Three Months Ended
March 31,
-------------------
2003 2002
---- ----
Gross margin................................................... $ 293 $ 595
Noncash items:
Unrealized mark-to-market (gain) loss........................ 23 146
Depreciation and amortization related to generation assets... 99 97
Cash flow hedge ineffectiveness.............................. (6) 8
Other noncash items included in gross margin................. 5 (14)
------ ------
Gross margin on a cash basis............................. $ 414 $ 832
====== ======
A decrease in depreciation and amortization (including amounts shown in
the gross margin table above) of $6 million, or 5%, to $113 million was
primarily due to timing of intangible asset amortization expense during the 2002
year.
Effective with the second quarter of 2003, TXU Energy expects to adjust
depreciation rates related to its generation facilities, based on a review of
the remaining depreciable lives of its generation fleet. This change in estimate
is anticipated to result in a reduction of approximately $50 million in annual
depreciation expense and is due primarily to an extension in the estimated
useful life of its nuclear generation facility of approximately 11 years (to
2041), partially offset by higher depreciation expense in lignite and gas
facilities.
A decrease in SG&A expenses of $76 million, or 35%, to $144 million
reflected lower bad debt expense of $54 million and cost reduction initiatives.
Bad debt expense declined primarily due to the favorable resolution of most
billing issues experienced in 2002 in connection with the transition to
competition in Texas. Cost reductions, primarily lower staffing and related
administrative expenses, were initiated in response to the completion of the
transition to competition in Texas, the industry-wide decline in portfolio
management activities, and the expected deferral of deregulation of energy
markets in other states. The effects of these cost reduction initiatives were
partially offset by employee severance costs and higher computer software costs
and marketing expenses. Favorable comparisons of SG&A expenses are expected to
continue over the balance of 2003.
25
Franchise and revenue-based taxes declined by $2 million, or 7%, to $28
million due primarily to lower retail revenues on which gross receipts taxes are
based.
Other income increased by $6 million to $8 million, primarily reflecting a
net $6 million gain on the sale of certain retail commercial and industrial gas
operations.
Other deductions decreased by $1 million to $2 million, primarily due to
lower equity losses from an unconsolidated investment.
Interest income declined by $7 million, or 78%, to $2 million primarily
due to lower average advances to affiliates.
Interest expense and other charges increased $18 million, or 31%, to $77
million. The increase reflects $8 million due to higher average debt levels, $5
million due to higher average interest rates, including credit line fees and $5
million due to higher amortization of discount, primarily the discount on the
exchangeable subordinated notes.
The effective tax rate decreased to 14.6% in 2003 from 32.2% in 2002. The
decrease was driven by the effect of comparable (to 2002) tax benefit amounts of
depletion allowances and amortization of investment tax credits on a lower
income base in 2003.
Income before cumulative effect of changes in accounting principles
decreased $152 million, or 81%, to $35 million in 2003. The decline was driven
by the decrease in gross margin and the increase in interest expense, partially
offset by decreased SG&A expenses. The first quarter results reflected a $16
million (after tax) gain on the settlement of outstanding counterparty default
events and $11 million (after tax) in severance charges. Net pension and
postretirement benefit costs reduced net income by $9 million in 2003 and by $6
million in 2002.
26
Oncor
- -----
Financial Results
Three Months Ended
March 31,
--------------------
2003 2002
---- -----
Operating revenues..................................................... $ 506 $ 494
------ ------
Costs and expenses:
Operating costs...................................................... 173 152
Depreciation and amortization........................................ 69 64
Selling, general and administrative expenses......................... 49 57
Franchise and revenue-based taxes.................................... 60 66
Other income......................................................... (2) (1)
Interest income...................................................... (15) (12)
Interest expense and other charges................................... 80 62
--------- --------
Total cost and expenses ................................... 414 388
-------- -------
Income before income taxes and cumulative effect of changes in
accounting principles............................................... 92 106
Income tax expense..................................................... 31 35
-------- --------
Income before cumulative effect of changes in accounting principles..... $ 61 $ 71
======== =======
- -----------
The Oncor segment includes the electricity T&D business of Oncor which is
subject to regulation by Texas authorities.
27
Segment Highlights
Three Months Ended
March 31,
-------------------
2003 2002
Operating statistics:
Electric energy delivered (GWh).................................. 23,908 23,586
Electric points of delivery (end of period and in thousands)..... 2,914 2,868
Operating revenues (millions of dollars):
TXU Energy................................................... $377 $416
Non-affiliated............................................... 129 78
----- ----
Total electric energy delivery....................... $ 506 $494
===== ====
Three Months Ended March 31, 2003 Compared to Three Months Ended March 31, 2002
- -------------------------------------------------------------------------------
The Oncor segment's operating revenues increased $12 million, or 2%, to
$506 million in 2003. The growth reflected $6 million in increased
disconnect/reconnect fees due to greater competition-related customer switching
activities. Additional points of delivery of approximately 1.6% contributed $2
million to revenue growth. The revenue increase also reflected $3 million in
nonrecurring billing settlements for tower space leases with telecommunication
companies and pole contact rentals from cable and telecommunication companies.
Gross Margin
Three Months Ended
March 31,
-----------------------------------------------
% of % of
2003 Revenue 2002 Revenue
---- ------- ---- -------
Operating revenues..................................... $ 506 100% $ 494 100%
Costs and expenses:
Operating costs................................... 173 34% 152 31%
Depreciation and amortization related to transmission
and distribution assets....................... 66 13% 62 12%
------- ----- ------- ------
Gross margin........................................... $ 267 53% $ 280 57%
======= ===== ======= ======
Gross margin decreased $13 million, or 5%, to $267 million in 2003, driven
by higher operating costs. The increase in operating costs of $21 million, or
14%, to $173 million primarily reflects higher transmission costs paid to other
utilities, increased pension and other postretirement benefit costs and higher
overhead feeder maintenance and tree trimming costs.
Depreciation and amortization (including amounts shown in the gross margin
table above), increased $5 million, or 8%, to $69 million. The increase reflects
investments to support growth and normal replacements of delivery facilities.
SG&A expenses decreased $8 million, or 14%, to $49 million due primarily
to lower employee-related and outside consulting expenses arising from cost
saving initiatives implemented in late 2002.
Franchise and revenue-based taxes declined $6 million, or 9%, to $60
million in 2003 due primarily to lower revenues in prior periods on which such
taxes are based.
Interest income increased $3 million in 2003 reflecting an increase in the
reimbursement from the TXU Energy segment for higher carrying costs on
regulatory assets.
28
Interest expense and other charges increased by $18 million, or 29%, to
$80 million in 2003 principally due to higher average interest rates. The higher
average interest rates reflected issuances of higher rate long-term debt to
replace lower rate advances from affiliates.
The effective tax rate of 33.7% in 2003 was comparable to the 33.0%
effective rate in 2002, with no significant offsetting items.
Income before cumulative effect of changes in accounting principles
decreased $10 million, or 14%, to $61 million in 2003, primarily due to higher
interest expense. Net pension and postretirement benefit costs reduced net
income by $8 million in 2003 and $3 million in 2002.
COMPREHENSIVE INCOME
During the first three months of 2003 and 2002, changes in the fair value
of derivatives effective as cash flow hedges reflected losses of $120 million
($78 million after-tax) and $65 million ($42 million after-tax), respectively.
Losses were primarily due to decreases in the fair value of commodity hedges.
During the first three months of 2003 and 2002, other comprehensive income
hedge losses recognized in income were $75 million ($49 million after-tax) and
gains of $4 million ($3 million after-tax), respectively, primarily related to
commodity hedges.
FINANCIAL CONDITION
Liquidity and Capital Resources
For information concerning liquidity and capital resources, see Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations in US Holdings' Annual Report on Form 10-K for the year ended
December 31, 2002 (2002 Form 10-K). No significant changes or events that might
affect the financial condition of US Holdings have occurred subsequent to
year-end other than as disclosed herein.
Cash Flows -- Cash flows provided by operating activities for the first
three months of 2003 were $175 million compared to $285 million for 2002. The
decrease in cash flows provided by operating activities in 2003 of $110 million,
or 39%, reflected lower cash earnings of $290 million (net income adjusted for
the significant noncash reconciling items identified in the statement of cash
flows) and payments of $102 million related to counterparty default events and
the termination and liquidation of those outstanding positions. This is
partially offset by favorable working capital changes and the net receipt of $73
million in margin deposits from counterparties. A net working capital (accounts
receivable, accounts payable and inventories) improvement of approximately $200
million reflects lower unbilled retail accounts receivable due to the resolution
of most billing issues experienced in 2002 as a result of the transition to
competition.
Cash flows provided by financing activities for 2003 were $247 million
compared to $76 million required for the first three months of 2002.
Debt-related activities in 2003, net of redemption deposit payments (restricted
cash), provided cash of approximately $1.1 billion, reflecting issuance of
senior notes in a private offering by TXU Energy, to establish permanent
financing to replace the credit facilities drawn down in the fourth quarter of
2002 to enhance liquidity. Cash distributions to TXU Corp. totaled $250 million
in 2003. Repayments of credit facilities required approximately $1.3 billion.
Approximately $325 million was required in 2002 for debt retirements and
repayments. Borrowings from affiliates provided approximately $700 million in
2003 and $250 million in 2002.
Cash flows used in investing activities were $156 million in 2003 compared
to $230 million in 2002. Capital expenditures declined to $182 million in 2003
from $228 million in 2002, driven by lower development spending by the TXU
Energy segment. Proceeds from the sale of certain retail commercial and
industrial gas operations provided $13 million in 2003.
29
Depreciation and amortization expense reported in the statement of cash
flows exceeds the amount reported in the statement of income by $19 million.
This difference represents amortization of nuclear fuel, which is reported as
cost of energy sold in the statement of income consistent with industry
practice, and amortization of regulatory assets, which is reported as operating
costs in the statement of income.
Financing Activities
Capitalization -- The capitalization ratios of US Holdings at March 31,
2003 consisted of approximately 1% preferred stock, 3% exchangeable subordinated
notes, 51% other long-term debt, less amounts due currently and 45% common stock
equity, compared to December 31, 2002 capitalization ratios of approximately 1%
preferred stock, 6% exchangeable subordinated notes, 44% other long-term debt,
less amounts due currently and 49% common stock equity. Not reflected in these
ratios is restricted cash of $72 million and $210 million as of March 31, 2003
and December 31, 2002, respectively, that is held in trust for the defeasance of
long-term debt.
Registered Financing Arrangements -- US Holdings may issue and sell
additional debt and equity securities as needed, including the issuance by US
Holdings of up to $25 million of cumulative preferred stock and up to an
aggregate of $924 million of additional cumulative preferred stock, debt
securities and/or preferred securities of subsidiary trusts which are currently
registered with the Securities and Exchange Commission for offering pursuant to
Rule 415 under the Securities Act of 1933.
Credit Facilities -- At March 31, 2003, US Holdings had outstanding
short-term borrowings consisting of advances from affiliates of $1.2 billion and
bank borrowings of $500 million. Weighted average interest rates on short-term
borrowings were 2.39% and 2.44% at March 31, 2003 and December 31, 2002,
respectively.
During the first quarter of 2003, $1.3 billion in outstanding short-term
borrowings at December 31, 2002, were repaid with proceeds from the issuance of
long-term debt in March 2003 and cash flows from operations.
At March 31, 2003, US Holdings and its subsidiaries had credit facilities
(some of which provide for long-term borrowings) as follows:
At March 31, 2003
--------------------------------------------------
Authorized Facility Letters of Cash
Facility Expiration Date Borrowers Limit Credit Borrowings Availability
- -------- --------------- --------- ----- ------ ---------- ------------
364-Day Revolving Credit Facility April 2003 US Holdings, TXU
Energy, Oncor $ 1,000 $ 152 $ 500 $ 348
364-Day Senior Secured Credit Facility December 2003 Oncor 150 -- -- 150
Five-Year Revolving Credit Facility February 2005 US Holdings 1,400 371 -- 1,029
------- ------ ------ ------
Total US Holdings $ 2,550 $ 523 $ 500 $1,527
======= ====== ======= ======
In April 2003, all outstanding borrowings under the North America credit
facilities of TXU Corp. and its subsidiaries were repaid. A new $450 million
revolving credit facility was established for TXU Energy and Oncor, that matures
on February 25, 2005. The new facility will be used for working capital and
other general corporate purposes, including commercial paper backup and letters
of credit, and replaces the $1 billion 364-day revolving credit facility that
expired in April 2003. Up to $450 million of letters of credit may be issued
under the facility.
30
As a result of the repayments and other activities mentioned above, US Holdings
and its consolidated subsidiaries' credit facilities as of May 13, 2003 were as
follows:
At May 13, 2003
--------------------------------------------------
Authorized Facility Letters of Cash
Facility Expiration Date Borrowers Limit Credit Borrowings Availability
- -------- --------------- --------- ----- ------ ---------- ------------
Five-Year Revolving Credit Facility February 2005 US Holdings $ 1,400 $ 377 $ -- $1,023
Revolving Credit Facility February 2005 TXU Energy, Oncor 450 -- -- 450
Three-Year Revolving Credit Facility May 2005 US Holdings 400 -- -- 400
------- ------ ------ ------
Total US Holdings $ 2,250 $ 377 $ -- $1,873
In addition to providing back-up of commercial paper issuance by TXU
Energy and Oncor, the facilities above are for general corporate and working
capital purposes, including providing collateral support for TXU Energy
portfolio management activities. At March 31 and May 13, 2003, there was no
outstanding commercial paper under these programs.
Long-term Debt -- During the three months ended March 31, 2003, Oncor and
TXU Energy issued, redeemed, reacquired or made scheduled principal payments on
long-term debt as follows:
Issuances Retirements
--------- -----------
Oncor:
First mortgage bonds........................... $ -- $ 235
Medium term notes.............................. 15
--
TXU Energy:
Fixed rate senior notes......................... 1,250 --
Pollution control revenue bonds................. 44 44
------ ------
$1,294 $ 294
====== =======
See Notes 3 and 4 to Financial Statements for further detail of debt
issuance and retirements, financing arrangements, and capitalization.
Sale of Receivables -- Certain subsidiaries of TXU Corp. sell trade
accounts receivable to TXU Receivables Company, a wholly-owned bankruptcy remote
subsidiary of TXU Corp., which sells undivided interests in accounts receivable
it purchases to financial institutions. As of March 31, 2003, TXU Energy
(through certain subsidiaries), Oncor and TXU Gas Company (TXU Gas) are
qualified originators of accounts receivable under the program. TXU Receivables
Company may sell up to an aggregate of $600 million in undivided interests in
the receivables purchased from the originators under the program. As of March
31, 2003, $1.043 billion face amount of US Holdings' receivables were sold to
TXU Receivables Company under the program in exchange for cash of $260 million
and $778 million in subordinated notes, with $5 million of losses on sales for
the three months ended March 31, 2003 that principally represents the interest
costs on the underlying financing. These losses approximated 6% of the cash
proceeds from the sale of undivided interests in accounts receivable on an
annualized basis. Funding under the program decreased from $368 million at
December 31, 2002 to $260 million at March 31, 2003 primarily due to reserve
requirements which apply factors from the prior 12-month period in determining
the current period reserve. This period reflects the billing and collection
delays previously experienced as a result of new systems and processes in TXU
Energy and the Electric Reliability Council of Texas (ERCOT) for clearing
customers switching and billing data upon the transition to competition.
Upon termination, cash flows to the originators would be delayed as
collections of sold receivables would be used by TXU Receivables Company to
repurchase the undivided interests of the financial institutions instead of
purchasing new receivables. The level of cash flows would normalize in
31
approximately 16 to 31 days. TXU Business Services Company, a subsidiary of TXU
Corp., services the purchased receivables and is paid a market based servicing
fee by TXU Receivables Company. The subordinated notes receivable from TXU
Receivables Company represent US Holdings' subsidiaries' retained interests in
the transferred receivables and are recorded at book value, net of allowances
for bad debts, which approximates fair value due to the short-term nature of the
subordinated notes, and are included in accounts receivable in the consolidated
balance sheet.
In October 2002, the program was amended to extend the program to July
2003, to provide for reserve requirement adjustments as the quality of the
portfolio changes and to provide for adjustments to reduce receivables in the
program by the related amounts of customer deposits held by originators. In
February 2003, the program was amended to allow receivables that are 31-90 days
past due into the program. TXU Corp. intends to extend the program upon
expiration in July 2003.
Contingencies Related to Receivables Program -- Although TXU Receivables
Company expects to be able to pay its subordinated notes from the collections of
purchased receivables, these notes are subordinated to the undivided interests
of the financial institutions in those receivables, and collections might not be
sufficient to pay the subordinated notes. The program may be terminated if
either of the following events occurs:
1) the credit rating for the long-term senior debt securities of all
originators and the parent guarantor, if any, declines below BBB- by
Standard & Poor's (S&P) or Baa3 by Moody's; or
2) the delinquency ratio (delinquent for 31 days) for the sold
receivables, the default ratio (delinquent for 91 days or deemed
uncollectible), the dilution ratio (reductions for discounts,
disputes and other allowances) or the days collection outstanding
ratio exceed stated thresholds and the financial institutions do not
waive such event of termination.
The delinquency and dilution ratios exceeded the relevant thresholds during
the first quarter of 2003, but waivers were granted. These ratios were affected
by issues related to the transition to deregulation. Certain billing and
collection delays arose due to implementation of new systems and processes
within TXU Energy and ERCOT for clearing customer switching and billing data.
The billing delays have been resolved but, while improving, the lagging
collection issues continue to impact the ratios. The implementation of new
provider of last resort (POLR) rules by the Public Utility Commission of Texas
(Commission) and strengthened credit and collection policies and practices are
expected to bring the ratios into consistent compliance with the program.
Under the receivables sale program, all originators are required to
maintain a `BBB-' (S&P) and a `Baa3' (Moody's) rating or better (or supply a
parent guarantee with a similar rating). A downgrade below the required ratings
for an originator would prevent that originator from selling its accounts
receivable under the program. If all originators and the parent guarantor, if
any, are downgraded so that there are no eligible originators, the facility
would terminate.
The accounts receivable program also contains a cross-default provision
with a threshold of $50 million applicable to each of the originators under the
program. TXU Receivables Company and TXU Business Services Company each have a
cross-default threshold of $50,000. If either an originator, TXU Business
Services Company or TXU Receivables Company defaults on indebtedness of the
applicable threshold, the facility could terminate.
Credit Ratings -- The current credit ratings for TXU Corp., US Holdings,
Oncor and TXU Energy are presented below:
TXU Corp. US Holdings Oncor TXU Energy
---------------- ---------------- ------- ----------------
(Senior Unsecured)(Senior Unsecured)(Secured)(Senior Unsecured)
S&P ............... BBB- BBB- BBB BBB
Moody's............. Ba1 Baa3 Baa1 Baa2
Fitch............... BBB- BBB- BBB+ BBB
Moody's currently maintains a negative outlook for TXU Corp. and a stable
outlook for US Holdings, TXU Energy and Oncor. Fitch Rating (Fitch) currently
maintains a stable outlook for each such entity. S&P currently maintains a
negative outlook for each such entity.
32
These ratings are investment grade, except for Moody's rating of TXU
Corp.'s senior unsecured debt, which is one notch below investment grade.
A rating reflects only the view of a rating agency, and is not a
recommendation to buy, sell or hold securities. Any rating can be revised upward
or downward at any time by a rating agency if such rating agency decides that
circumstances warrant such a change.
Financial Covenants, Credit Rating Provisions and Cross Default Provisions
- -- The terms of certain financing arrangements of US Holdings and its
consolidated subsidiaries contain financial covenants that require maintenance
of specified fixed charge coverage ratios, shareholders' equity to total
capitalization ratios and leverage ratios and/or contain minimum net worth
covenants. TXU Energy's exchangeable subordinated notes also limit its
incurrence of additional indebtedness unless a leverage ratio and interest
coverage test are met on a pro forma basis. As of March 31, 2003, US Holdings
and its subsidiaries were in compliance with all such applicable covenants.
Certain financing and other arrangements of US Holdings and its
subsidiaries contain provisions that are specifically affected by changes in
credit ratings and also include cross default provisions. The material cross
default provisions are described below.
Other agreements of US Holdings and its subsidiaries, including some of
the credit facilities discussed above, contain terms pursuant to which the
interest rates charged under the agreements may be adjusted depending on the
credit ratings of US Holdings or its subsidiaries.
Credit Rating Provisions
------------------------
TXU Energy has provided a guarantee of the obligations under TXU Corp.'s
lease (approximately $135 million at March 31, 2003) for its headquarters
building. In the event of a downgrade of TXU Energy's credit rating to below
investment grade, a letter of credit would need to be provided within 30 days of
any such ratings decline.
TXU Energy has entered into certain commodity contracts and lease
arrangements that in some instances give the other party the right, but not the
obligation, to request TXU Energy to post collateral in the event that its
credit rating falls below investment grade.
Based on its current commodity contract positions, if TXU Energy were
downgraded below investment grade by any specified rating agency, counterparties
would have the option to request TXU Energy to post additional collateral of
approximately $180 million.
In addition, TXU Energy has a number of other contractual arrangements
where the counterparties would have the right to request TXU Energy to post
collateral if its credit rating was downgraded below investment grade by any
specified rating agency. The amount TXU Energy would post under these
transactions depends in part on the value of the contracts at that time. As of
March 31, 2003, based on current market conditions, the maximum TXU Energy would
post for these transactions is $267 million. Of this amount, $217 million
relates to an arrangement that would require that TXU Energy be downgraded to
below investment grade by all three rating agencies before collateral would be
required to be posted.
TXU Energy is also the obligor on leases aggregating $166 million. Under
the terms of those leases, if TXU Energy's credit rating was downgraded to below
investment grade by any specified rating agency, TXU Energy could be required to
sell the assets, assign the leases to a new obligor that is investment grade,
post a letter of credit or defease the leases.
ERCOT also has rules in place to assure adequate credit worthiness for
parties that schedule power on the ERCOT System. Under those rules, if TXU
Energy's credit rating was downgraded to below investment grade by any specified
rating agency, TXU Energy could be required to post collateral of approximately
$32 million.
33
Cross Default Provisions
------------------------
Certain financing arrangements of US Holdings and its subsidiaries contain
provisions that would result in an event of default if there is a failure under
other financing arrangements to meet payment terms or to observe other covenants
that would result in an acceleration of payments due. Such provisions are
referred to as "cross default" provisions.
TXU Corp.'s $45 million and $55 million revolving facilities, which
provide back-up for any Oncor and TXU Energy commercial paper issuances, contain
a cross default provision with respect to any default by TXU Corp. or any US
subsidiary thereof in respect of any indebtedness in a principal amount in
excess of $50 million.
A default by US Holdings or any subsidiary thereof on financing
arrangements of $50 million or more would result in a cross-default under the
$1.4 billion US Holdings five-year revolving credit facility, the $400 million
US Holdings credit facility, the $68.1 million US Holdings letter of credit
reimbursement and credit facility agreement and $102 million of TXU Mining
senior notes (which have a $1 million threshold).
A default by TXU Energy or Oncor or any subsidiary thereof in respect of
indebtedness in a principal amount in excess of $50 million or more would result
in a cross-default for such party under the TXU Energy/Oncor $450 million
revolving credit facility. Under this credit facility, a default by TXU Energy
or any subsidiary thereof would cause the maturity of outstanding balances under
such facility to be accelerated as to TXU Energy, but not as to Oncor. Also,
under this credit facility, a default by Oncor or any subsidiary thereof would
cause the maturity of outstanding balances to be accelerated under such facility
as to Oncor, but not as to TXU Energy.
A default or similar event under the terms of TXU Energy's exchangeable
subordinated notes (or any security of TXU Energy or its subsidiaries issued
directly or indirectly upon the conversion, exchange or extension (in whole or
in part) of such notes) that results in the acceleration (or other mandatory
repayment prior to the maturity date) of such notes or such other security or
the failure to pay such notes or such other security at maturity would result in
a default under TXU Energy's $1.25 billion senior unsecured notes.
TXU Energy has entered into certain mining and equipment leasing
arrangements aggregating $124 million that would terminate upon the default of
any other obligations of TXU Energy owed to the lessor. In the event of a
default by TXU Mining, a subsidiary of TXU Energy, on indebtedness in excess of
$1 million, a cross default would result under the $31 million TXU Mining
leveraged lease and the lease would terminate.
TXU Energy enters into energy-related contracts, the master forms of which
contain provisions whereby an event of default would occur if TXU Energy were to
default under an obligation in respect of borrowings in excess of thresholds
stated in the contracts, which thresholds vary.
US Holdings and its subsidiaries have other arrangements, including
interest rate and currency swap agreements and leases with cross default
provisions, the triggering of which would not result in a significant effect on
liquidity.
Regulatory Asset Securitization -- The regulatory settlement plan approved
by the Commission provides Oncor with a financing order authorizing it to issue
securitization bonds in the aggregate principal amount of $1.3 billion to
monetize and recover generation-related regulatory assets and related
transaction costs. The regulatory settlement plan provides that there will be an
initial issuance of securitization bonds in the amount of up to $500 million
followed by a second issuance for the remainder after 2003. The first issuance
is expected to be made later in 2003.
OFF BALANCE SHEET ARRANGEMENTS
See discussion above under Sale of Receivables.
34
COMMITMENTS AND CONTINGENCIES
See Note 5 to Financial Statements for a discussion of contingencies.
There were no material changes in cash commitments from those disclosed in the
2002 Form 10-K.
REGULATION AND RATES
Regulatory Settlement Plan -- On December 31, 2001, US Holdings filed a
settlement plan (Settlement Plan) with the Commission. It resolved all major
pending issues related to US Holdings' transition to competition pursuant to the
1999 Restructuring Legislation. The settlement (Settlement) provided for in the
Settlement Plan does not remove regulatory oversight of Oncor's business nor
does it eliminate TXU Energy's price-to-beat rates and related fuel adjustments.
The Settlement was approved by the Commission in June 2002 and has become final.
Excess Mitigation Credit -- Beginning in 2002, Oncor began implementing an
excess stranded cost mitigation credit designed to result in a $350 million,
plus interest, reduction to T&D rates charged to REPs applied over a two-year
period. The actual amount of this credit is expected to exceed $350 million as
delivery volumes are anticipated to be higher than initially estimated. The
resulting net earnings reduction for the year 2003 is currently expected to be
approximately $15 million after-tax, after consideration of the portion of the
credit reflected in TXU Energy's results as an affiliated REP.
Regulatory Asset Securitization -- In accordance with the Settlement,
Oncor received a financing order authorizing it to issue securitization bonds in
the aggregate principal amount of $1.3 billion to recover regulatory assets and
other qualified costs. The Settlement provides that there can be an initial
issuance of securitization bonds in the amount of up to $500 million, followed
by a second issuance of the remainder after 2003. The Settlement resolves all
issues related to regulatory assets and liabilities.
Retail Clawback -- If, as currently expected, TXU Energy retains more than
60% of its historical residential and small commercial power consumption after
the first two years of competition, the amount of the retail clawback credit
will be equal to the number of residential and small commercial customers
retained by TXU Energy in its historical service territory on January 1, 2004,
less the number of new customers TXU Energy has added outside of its historical
service territory as of January 1, 2004, multiplied by $90. This determination
will be made separately for the residential and small commercial classes. The
credit, if any, will be applied to T&D rates charged by Oncor to REPs, including
TXU Energy, over a two-year period beginning January 1, 2004. Under the
settlement agreement, TXU Energy will make a compliance filing with the
Commission reflecting customer count as of January 2004. In the fourth quarter
of 2002, TXU Energy recorded a $185 million ($120 million after-tax) charge for
the retail clawback, which represents the current best estimate of the amount to
be funded to Oncor over the two-year period.
Stranded Cost Resolution -- TXU Energy's stranded costs, not including
regulatory assets, are fixed at zero. Accordingly, it will not have to conduct
the stranded cost true-up in 2004 provided for in the 1999 Restructuring
Legislation.
Fuel Cost Recovery -- The Settlement also provides that US Holdings will
not seek to recover its unrecovered fuel costs that existed at December 31,
2001. Also, it will not conduct a final fuel cost reconciliation, which would
have covered the period from July 1998 until the beginning of competition in
January 2002.
Provider of Last Resort -- In August 2002, the Commission adopted new
rules that significantly changed POLR service. Under the new POLR rules, instead
of being transferred to the POLR, non-paying residential and small
non-residential customers served by affiliated REPs are subject to
disconnection. Non-paying residential and small non-residential customers served
by non-affiliated REPs are transferred to the affiliated REP. Non-paying large
non-residential customers can be disconnected by any REP if the customer's
contract does not preclude it. Thus, within the new POLR framework, the POLR
provides electric service only to customers who request POLR service, whose
selected REP goes out of business, or who are transferred to the POLR by other
35
REPs for reasons other than non-payment. No later than October 1, 2004, the
Commission must decide whether all REPs should be permitted to disconnect all
non-paying customers. The new POLR rules are expected to reduce bad debt expense
in 2003.
TXU Energy -- In January 2003, TXU Energy filed a request with the
Commission to increase the fuel factor component of its price-to-beat rates
based upon significant increases in the market price of natural gas. This
request was approved on March 5, 2003. The fuel factor increase went into effect
for the billing cycle that began March 6, 2003. As a result, average monthly
residential bills will rise approximately 12%. Under amended Commission rules,
effective in March 2003, affiliated REPs of utilities are allowed to petition
the Commission twice per year for an increase in the fuel factor component of
their price-to-beat rates if the average price of natural gas futures increases
more than 5% (10% if the petition is filed after November 15 of any year) from
the level used to set the previous price-to-beat fuel factor rate.
Oncor -- Under Commission rules, transmission service providers are
allowed to update transmission rates on an annual basis to reflect changes in
invested capital. On March 27, 2003, Oncor filed with the Commission requesting
an interim update of its previously approved wholesale transmission rates. The
estimated increase in annual revenues related to this request is approximately
$28.4 million. The Commission approved Oncor's requested interim transmission
rates as filed and the new rates were effective on May 9, 2003.
Summary -- Although US Holdings cannot predict future regulatory or
legislative actions or any changes in economic and securities market conditions,
no changes are expected in trends or commitments, other than those discussed in
this report, which might significantly alter its basic financial position,
results of operations or cash flows.
CHANGES IN ACCOUNTING STANDARDS
See Note 1 to Financial Statements for discussion of changes in accounting
standards.
RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
The following risk factors are being presented in consideration of industry
practice with respect to disclosure of such information in filings under the
Securities Exchange Act of 1934, as amended.
Some important factors, in addition to others specifically addressed in
this MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS, that could have a material impact on US Holdings' operations,
financial results and financial condition, and could cause US Holdings' actual
results or outcomes to differ materially from any projected outcomes contained
in any forward-looking statement in this report, include:
US Holdings' businesses operate in changing market environments influenced
by various legislative and regulatory initiatives regarding deregulation,
regulation or restructuring of the energy industry, including deregulation of
the production and sale of electricity. US Holdings will need to adapt to these
changes and may face increasing competitive pressure.
US Holdings' businesses are subject to changes in laws (including the
Texas Public Utility Regulatory Act, as amended, Texas Gas Utility Regulatory
Act, as amended, Federal Power Act, as amended, Atomic Energy Act, as amended,
Public Utility Regulatory Policies Act of 1978, as amended, and Public Utility
Holding Company Act of 1935, as amended) and changing governmental policy and
regulatory actions (including those of the Commission, Railroad Commission of
Texas, Federal Energy Regulatory Commission, and U.S. Nuclear Regulatory
Commission) with respect to matters including, but not limited to, operation of
nuclear power facilities, construction and operation of other power generation
facilities, construction and operation of transmission facilities, acquisition,
disposal, depreciation, and amortization of regulated assets and facilities,
recovery of purchased gas costs, decommissioning costs, and return on invested
capital for US Holdings' regulated businesses, and present or prospective
wholesale and retail competition.
36
Existing laws and regulations governing the market structure in Texas,
including the provisions of the 1999 Restructuring Legislation, could be
reconsidered, revised or reinterpreted, or new laws or regulations could be
adopted.
US Holdings is subject to the effects of new, or changes in, income tax
rates or policies and increases in taxes related to property, plant and
equipment and gross receipts and other taxes. Further, US Holdings is subject to
audit and reversal of its tax positions by the Internal Revenue Service and
other taxing authorities.
US Holdings is not guaranteed any rate of return on its capital
investments in its unregulated businesses. US Holdings markets and trades power,
including power from its own production facilities, as part of its wholesale
energy sales business and portfolio management operation. US Holdings' results
of operations are likely to depend, in large part, upon prevailing retail rates,
which are set, in part, by regulatory authorities, and market prices for
electricity, gas and coal in its regional market and other competitive markets.
Market prices may fluctuate substantially over relatively short periods of time.
Demand for electricity can fluctuate dramatically, creating periods of
substantial under- or over-supply. During periods of over-supply, prices might
be depressed. Also, at times there may be political pressure, or pressure from
regulatory authorities with jurisdiction over wholesale and retail energy
commodity and transportation rates, to impose price limitations, bidding rules
and other mechanisms to address volatility and other issues in these markets.
Oncor is subject to cost-of service regulation and annual earnings
oversight. Oncor's rates are regulated by the Commission based on an analysis of
Oncor's costs, as reviewed and approved in a regulatory proceeding. As part of
the regulatory settlement plan, US Holdings has agreed not to seek to increase
its distribution rates prior to 2004. Thus, the rates US Holdings is allowed to
charge may or may not match its related costs and allowed return on invested
capital at any given time. While rate regulation is premised on the full
recovery of prudently incurred costs and a reasonable rate of return on invested
capital, there can be no assurance that the Commission will judge all of US
Holdings' costs to have been prudently incurred or that the regulatory
process in which rates are determined will always result in rates that will
produce full recovery of US Holdings' T&D costs and the return on invested
capital allowed by the Commission.
Some of the fuel for US Holdings' power production facilities is purchased
under short-term contracts or on the spot market. Prices of fuel, including
natural gas, may also be volatile, and the price US Holdings can obtain for
power sales may not change at the same rate as changes in fuel costs. In
addition, US Holdings markets and trades natural gas and other energy related
commodities, and volatility in these markets may affect US Holdings' costs
incurred in meeting its obligations.
Volatility in market prices for fuel and electricity may result from:
o severe or unexpected weather conditions,
o seasonality,
o changes in electricity usage,
o illiquidity in the wholesale power or other markets,
o transmission or transportation constraints, inoperability or
inefficiencies,
o availability of competitively priced alternative energy sources,
o changes in supply and demand for energy commodities,
o changes in power production capacity,
o outages at US Holdings' power production facilities or those of its
competitors,
o changes in production and storage levels of natural gas, lignite, coal
and crude oil and refined products,
o natural disasters, wars, sabotage, terrorist acts, embargoes and other
catastrophic events, and
o federal, state and local energy, environmental and other regulation and
legislation.
All but one of US Holdings' facilities for power production are located in
the ERCOT region, a market with limited interconnections to other markets.
Electricity prices in the ERCOT region are related to gas prices because gas
fired plant is the marginal cost unit during the majority of the year in the
ERCOT region. Accordingly, the contribution to earnings and the value of US
Holdings' base-load plant is dependent in significant part upon the price of
gas. US Holdings cannot fully hedge the risk associated with dependency on gas
because of the expected useful life of US Holdings' power production assets and
the size of its position relative to market liquidity.
37
To manage its financial exposure related to commodity price fluctuations,
US Holdings routinely enters into contracts to hedge portions of its purchase
and sale commitments, weather positions, fuel requirements and inventories of
natural gas, lignite, coal, crude oil and refined products, and other
commodities, within established risk management guidelines. As part of this
strategy, US Holdings routinely utilizes fixed-price forward physical purchase
and sales contracts, futures, financial swaps and option contracts traded in the
OTC markets or on exchanges. However, US Holdings cannot cover the entire
exposure of its assets or its positions to market price volatility, and the
coverage will vary over time. To the extent US Holdings has unhedged positions,
fluctuating commodity prices can impact US Holdings' results of operations and
financial position, either favorably or unfavorably. For additional information
regarding the accounting treatment for US Holdings' hedging and portfolio
management activities, see Note 2 to Financial Statements in the 2002 Form 10-K.
Although US Holdings devotes a considerable amount of management time and
effort to the establishment of risk management procedures as well as the ongoing
review of the implementation of these procedures, the procedures it has in place
may not always be followed or may not always work as planned and cannot
eliminate all the risks associated with these activities. As a result of these
and other factors, US Holdings cannot predict with precision the impact that its
risk management decisions may have on its businesses, results of operations or
financial position.
In connection with US Holdings' portfolio management activities, US
Holdings has guaranteed or indemnified the performance of a portion of the
obligations of its portfolio management subsidiaries. Some of these guarantees
and indemnities are for fixed amounts, others have a fixed maximum amount and
others do not specify a maximum amount. The obligations underlying certain of
these guarantees and indemnities are recorded on US Holdings' consolidated
balance sheet as both current and noncurrent commodity contract liabilities.
These obligations make up a significant portion of these line items. US Holdings
might not be able to satisfy all of these guarantees and indemnification
obligations if they were to come due at the same time.
US Holdings' portfolio management activities are exposed to the risk that
counterparties which owe US Holdings money, energy or other commodities as a
result of market transactions will not perform their obligations. The likelihood
that certain counterparties may fail to perform their obligations has increased
due to financial difficulties, brought on by improper or illegal accounting and
business practices, affecting some participants in the industry. Some of these
financial difficulties have been so severe that certain industry participants
have filed for bankruptcy protection or are facing the possibility of doing so.
Should the counterparties to these arrangements fail to perform, US Holdings
might be forced to acquire alternative hedging arrangements or honor the
underlying commitment at then-current market prices. In such event, US Holdings
might incur losses in addition to amounts, if any, already paid to the
counterparties. For information regarding US Holdings' credit risk, see Note 17
to Financial Statements included in the 2002 Form 10-K. ERCOT market
participants are also exposed to risks that another ERCOT market participant may
default in its obligations to pay ERCOT for power taken in the ancillary
services market, in which case such costs, to the extent not offset by posted
security and other protections available to ERCOT, may be allocated to various
non-defaulting ERCOT market participants.
The current credit ratings for TXU Corp.'s and its subsidiaries' long-term
debt are investment grade, except for Moody's credit rating for long-term debt
of TXU Corp. (the holding company), which is one notch below investment grade. A
rating reflects only the view of a rating agency, and it is not a recommendation
to buy, sell or hold securities. Any rating can be revised upward or downward at
any time by a rating agency if such rating agency decides that circumstances
warrant such a change. If S&P, Moody's or Fitch were to downgrade TXU Corp.'s
and/or its subsidiaries' long-term ratings, particularly below investment grade,
borrowing costs would increase and the potential pool of investors and funding
sources would likely decrease.
Most of US Holdings' large customers, suppliers and counterparties require
sufficient credit worthiness in order to enter into transactions. If US
Holdings' subsidiaries' ratings were to decline to below investment grade, costs
to operate the power business would increase because counterparties may require
the posting of collateral in the form of cash-related instruments, or
counterparties may decline to do business with US Holdings' subsidiaries.
38
In addition, as discussed elsewhere in this Quarterly Report on Form 10-Q
and in US Holdings' 2002 Form 10-K, the terms of certain financing and other
arrangements contain provisions that are specifically affected by changes in
credit ratings and could require the posting of collateral, the repayment of
indebtedness or the payment of other amounts.
The operation of power production and delivery facilities involves many
risks, including start up risks, breakdown or failure of facilities, lack of
sufficient capital to maintain the facilities, the dependence on a specific fuel
source or the impact of unusual or adverse weather conditions or other natural
events, as well as the risk of performance below expected levels of output or
efficiency, the occurrence of any of which could result in lost revenues and/or
increased expenses. A significant portion of US Holdings' facilities was
constructed many years ago. In particular, older generating equipment, even if
maintained in accordance with good engineering practices, may require
significant capital expenditures to keep it operating at peak efficiency.
Increased starting and stopping of equipment due to the volatility of the
competitive market is likely to increase maintenance and capital expenditures.
US Holdings is subject to costs associated with any unexpected failure to
produce power, including failure caused by breakdown or forced outage, as well
as repairing damage to facilities due to storms, natural disasters, wars,
terrorist acts and other catastrophic events. Further, US Holdings' ability to
successfully and timely complete capital improvements to existing facilities or
other capital projects is contingent upon many variables and subject to
substantial risks. Should any such efforts be unsuccessful, US Holdings could be
subject to additional costs and/or the write-off of its investment in the
project or improvement.
Insurance, warranties or performance guarantees may not cover any or all
of the lost revenues or increased expenses, including the cost of replacement
power. Likewise, US Holdings' ability to obtain insurance, and the cost of and
coverage provided by such insurance, could be affected by events outside its
control.
Current plans to meet cost reduction targets assume that US Holdings will
be able to lower its bad debt expense, the achievement of which could be
affected by factors out of US Holdings' control, including weather, changes in,
regulations and economic and market conditions.
The ownership and operation of nuclear facilities, including US Holdings'
ownership and operation of the Comanche Peak generation plant, involve certain
risks. These risks include: mechanical or structural problems; inadequacy or
lapses in maintenance protocols; the impairment of reactor operation and safety
systems due to human error; the costs of storage, handling and disposal of
nuclear materials; limitations on the amounts and types of insurance coverage
commercially available; and uncertainties with respect to the technological and
financial aspects of decommissioning nuclear facilities at the end of their
useful lives. The following are among the more significant of these risks:
o Operational Risk - Operations at any nuclear power production plant
could degrade to the point where the plant would have to be shut down.
If this were to happen, the process of identifying and correcting the
causes of the operational downgrade to return the plant to operation
could require significant time and expense, resulting in both lost
revenue and increased fuel and purchased power expense to meet supply
commitments. Rather than incurring substantial costs to restart the
plant, the plant may be shut down. Furthermore, a shut-down or failure
at any other nuclear plant could cause regulation to require a
shut-down or reduced availability at Comanche Peak.
o Regulatory Risk - The Nuclear Regulatory Commission (NRC) may modify,
suspend or revoke licenses and impose civil penalties for failure to
comply with the Atomic Energy Act, the regulations under it or the
terms of the licenses of nuclear facilities. Unless extended, the NRC
operating licenses for Comanche Peak Unit 1 and Unit 2 will expire in
2030 and 2033, respectively. Changes in regulations by the NRC could
require a substantial increase in capital expenditures or result in
increased operating or decommissioning costs.
39
o Nuclear Accident Risk - Although the safety record of Comanche Peak and
nuclear reactors generally has been very good, accidents and other
unforeseen problems have occurred both in the US and elsewhere. The
consequences of an accident can be severe and include loss of life and
property damage. Any resulting liability from a nuclear accident could
exceed US Holdings' resources, including insurance coverage.
US Holdings will be required to apply a credit to its electricity delivery
charges (retail clawback) to REPs in Oncor's service territory beginning in 2004
unless the Commission determines that, on or prior to January 1, 2004, 40% or
more of the amount of electric power that was consumed in 2000 by residential or
small commercial customers, as applicable, within its historical service
territory is committed to be served by REPs other than TXU Corp. Under the
Settlement Plan, if the 40% test is not met and a credit is required, the amount
of these credits would be $90 multiplied by the number of residential or small
commercial customers, as the case may be, that US Holdings serves on January 1,
2004, in its historical service territory less the number of new retail electric
customers US Holdings serves in other areas of Texas. As of March 31, 2003, US
Holdings had approximately 2.7 million residential and small commercial
customers in its and TXU SESCO Company's historical service territories. Based
on assumptions and estimates regarding the number of customers expected in and
out of territory, US Holdings recorded an accrual for retail clawback in 2002 of
$185 million ($120 million after-tax). This accrual is subject to adjustment as
the actual measurement date approaches.
US Holdings is subject to extensive environmental regulation by
governmental authorities. In operating its facilities, US Holdings is required
to comply with numerous environmental laws and regulations, and to obtain
numerous governmental permits. US Holdings may incur significant additional
costs to comply with these requirements. If US Holdings fails to comply with
these requirements, it could be subject to civil or criminal liability and
fines. Existing environmental regulations could be revised or reinterpreted, new
laws and regulations could be adopted or become applicable to US Holdings or its
facilities, and future changes in environmental laws and regulations could
occur, including potential regulatory and enforcement developments related to
air emissions.
US Holdings may not be able to obtain or maintain all required
environmental regulatory approvals. If there is a delay in obtaining any
required environmental regulatory approvals or if US Holdings fails to obtain,
maintain or comply with any such approval, the operation of its facilities could
be stopped or become subject to additional costs. Further, at some of US
Holdings' older facilities it may be uneconomical for US Holdings to install the
necessary equipment, which may cause US Holdings to shut down those facilities.
In addition, US Holdings may be responsible for any on-site liabilities
associated with the environmental condition of facilities that it has acquired
or developed, regardless of when the liabilities arose and whether they are
known or unknown. In connection with certain acquisitions and sales of assets,
US Holdings may obtain, or be required to provide, indemnification against
certain environmental liabilities. Another party could fail to meet its
indemnification obligations to US Holdings.
On January 1, 2002, most retail customers in Texas of investor-owned
utilities, and those of any municipal utility and electric cooperative that
opted to participate in the competitive marketplace, became able to choose their
REP. On January 1, 2002, US Holdings began to provide retail electric services
to all customers who did not take action to select another REP.
US Holdings will not be permitted to offer electricity to residential and
small commercial customers in its and TXU SESCO Company's historical service
territory at a price other than the price-to-beat rate until January 1, 2005,
unless before that date the Commission determines that 40% or more of the amount
of electric power consumed by each respective class of customers in that area is
committed to be served by REPs other than US Holdings. Because US Holdings will
not be able to compete for residential and small commercial customers on the
basis of price in its and TXU SESCO Company's historical service territory, US
Holdings could lose a significant number of these customers to other providers.
In addition, at times, during this period, if the market price of power is lower
than US Holdings' cost to produce power, US Holdings would have a limited
ability to mitigate the loss of margin caused by its loss of customers by
selling power from its power production facilities.
40
An affiliated REP is obligated to offer the price-to-beat rate to
requesting residential and small commercial customers in the historical service
territory of its incumbent utility through January 1, 2007. The initial
price-to-beat rates for the affiliated REPs, including US Holdings', were
established by the Commission on December 7, 2001. Pursuant to Commission
regulations, the initial price-to-beat rate for each affiliated REP is 6% less
than the average rates in effect for its incumbent utility on January 1, 1999,
adjusted to take into account a new fuel factor as of December 31, 2001.
Other REPs will be allowed to offer electricity to US Holdings'
residential and small commercial customers at any price. The margin or
"headroom" available in the price-to-beat rate for any REP equals the difference
between the price-to-beat rate and the sum of delivery charges and the price
that REP pays for power. The higher the amount of headroom for competitive REPs,
the more incentive those REPs should have to provide retail electric services in
a given market.
The results of US Holdings' retail electric operations in its historical
service territory will be largely dependent upon the amount of headroom
available to US Holdings and the competitive REPs in US Holdings' price-to-beat
rate. Since headroom is dependent, in part, on power purchase costs, US Holdings
does not know nor can it estimate the amount of headroom that it or other REPs
will have in US Holdings' price-to-beat rate or in the price-to-beat rate for
the affiliated REP in each of the other Texas retail electric markets. Headroom
may be a positive or negative number. If the amount of headroom in its
price-to-beat rate is a negative number, US Holdings will be selling power to
its price-to-beat rate customers in its historical service territory at prices
below its costs of purchasing and delivering power to those customers. If the
amount of positive headroom for competitive REPs in its price-to-beat rate is
large, US Holdings may lose customers to competitive REPs.
In April 2002, pursuant to Commission rules, US Holdings filed a request
with the Commission to increase the fuel factor component of its price to beat.
On August 23, 2002, the Commission acted on this request, increasing US
Holdings' price-to-beat rates for residential and small commercial customers by
slightly less than 5%. In January 2003, US Holdings filed a request with the
Commission to increase the fuel factor component of its price-to-beat rates
based upon significant increases in the market price of natural gas. This
request was approved on March 5, 2003. The fuel factor increase went into effect
for the billing cycle that began March 6, 2003. As a result, average monthly
residential bills will rise approximately 12%. In March 2003, the Commission
amended its rules to require that natural gas prices increase more than 5% (10%
if the petition is filed after November 15 of any year) before allowing
petitions for adjustments to the fuel factor component. There is no assurance
that US Holdings' price-to-beat rate will not result in negative headroom in the
future, or that future adjustments to its price-to-beat rate will be adequate to
cover future increases in its costs to purchase power to serve its price-to-beat
rate customers.
US Holdings provides commodity and value-added energy management services
to the large commercial and industrial customers who did not take action to
select another REP beginning on January 1, 2002. US Holdings or any other REP
can offer to provide services to these customers at any negotiated price. US
Holdings believes that this market will be very competitive; consequently, a
significant number of these customers may choose to be served by another REP,
and any of these customers that select US Holdings to be its provider may
subsequently decide to switch to another provider.
In most retail electric markets outside its and TXU SESCO Company's
historical service territory, US Holdings' principal competitor may be the local
incumbent utility company or its retail affiliate. The incumbent utilities have
the advantage of long-standing relationships with their customers. In addition
to competition from the incumbent utilities and their affiliates, US Holdings
may face competition from a number of other energy service providers, or other
energy industry participants, who may develop businesses that will compete with
US Holdings in both local and national markets, and nationally branded providers
of consumer products and services. Some of these competitors or potential
competitors may be larger and better capitalized than US Holdings. If there is
inadequate margin in these retail electric markets, it may not be profitable for
US Holdings to enter these markets.
US Holdings depends on T&D facilities owned and operated by other
utilities, as well as its own such facilities, to deliver the electricity it
produces and sells to consumers, as well as to other REPs. If transmission
capacity is inadequate, US Holdings' ability to sell and deliver electricity may
be hindered, it may have to forgo sales or it may have to buy more expensive
41
wholesale electricity that is available in the capacity-constrained area. In
particular, during some periods transmission access is constrained to some areas
of the Dallas-Fort Worth metroplex. US Holdings expects to have a significant
number of customers inside these constrained areas. The cost to provide service
to these customers may exceed the cost to service other customers, resulting in
lower headroom. In addition, any infrastructure failure that interrupts or
impairs delivery of electricity to US Holdings' customers could negatively
impact the satisfaction of its customers with its service.
Additionally, in Texas, US Holdings is dependent on unaffiliated T&D
utilities for the reading of its customer's enegy meters. US Holdings is
required to rely on the utility or, in some cases, the independent
transmission system operator, to provide it with its customers' information
regarding energy usage, and it may be limited in its ability to conform the
accuracy of the information.
US Holdings offers its customers a bundle of services that include, at a
minimum, the electric commodity itself plus transmission, distribution and
related services. To the extent that the prices US Holdings charges for this
bundle of services or for the various components of the bundle, either of which
may be fixed by contract with the customer for a period of time, differ from US
Holdings' underlying cost to obtain the commodities or services, its results of
operations would be adversely affected. US Holdings will encounter similar risks
in selling bundled services that include non-energy-related services, such as
facilities management, and the like. In some cases, US Holdings has little, if
any, prior experience in selling these non-energy-related services.
Under the Commission's rules, as an affiliated REP, US Holdings may
have to temporarily provide electric service to some customers that are unable
to pay their electric bills. If the numbers of such customers are significant
and US Holdings is delayed in terminating electric service to those customers,
its results of operations may be adversely affected.
The information systems and processes necessary to support risk
management, sales, customer service and energy procurement and supply in
competitive retail markets in Texas and elsewhere are new, complex and
extensive. US Holdings is refining these systems and processes, and they may
prove more expensive to refine than planned and may not work as planned.
Research and development activities are ongoing to improve existing and
alternative technologies to produce electricity, including gas turbines, fuel
cells, microturbines and photovoltaic (solar) cells. It is possible that
advances in these or other alternative technologies will reduce the costs of
electricity production from these technologies to a level that will enable these
technologies to compete effectively with electricity production from traditional
power plants like US Holdings'. While demand for electric energy services is
generally increasing throughout the US, the rate of construction and development
of new, more efficient power production facilities may exceed increases in
demand in some regional electric markets. The commencement of commercial
operation of new facilities in the ERCOT market area where US Holdings has
facilities will likely increase the competitiveness of the wholesale power
market in that regions. In addition, the market value of US Holdings' power
production and/or energy transportation facilities may be significantly reduced.
Also, electricity demand could be reduced by increased conservation efforts and
advances in technology, which could likewise significantly reduce the value of
US Holdings' facilities. Changes in technology could also alter the channels
through which retail electric customers buy electricity.
US Holdings is subject to employee workforce factors, including loss or
retirement of key executives, availability of qualified personnel, collective
bargaining agreements with union employees or work stoppage.
US Holdings is a holding company and conducts its operations primarily
through wholly-owned subsidiaries. Substantially all of US Holdings'
consolidated assets are held by these subsidiaries. Accordingly, US Holdings'
cash flows and ability to meet its obligations and to pay dividends are largely
dependent upon the earnings of its subsidiaries and the distribution or other
payment of such earnings to US Holdings in the form of distributions, loans or
advances, and repayment of loans or advances from US Holdings.
Because US Holdings is a holding company, its obligations to its creditors
are structurally subordinated to all existing and future liabilities and
existing and future preferred stock of its subsidiaries. Therefore, US Holdings'
rights and the rights of its creditors to participate in the assets of any
subsidiary in the event that such a subsidiary is liquidated or reorganized are
subject to the prior claims of such subsidiary's creditors and holders of its
preferred stock. To the extent that US Holdings may be a creditor with
recognized claims against any such subsidiary, its claims would still be subject
to the prior claims of such subsidiary's creditors to the extent that they are
secured or senior to those held by US Holdings.
The inability to raise capital on favorable terms, particularly during
times of uncertainty in the financial markets, could impact US Holdings' ability
to sustain and grow its businesses, which are capital intensive, and would
likely increase its capital costs. US Holdings relies on access to financial
markets as a significant source of liquidity for capital requirements not
satisfied by cash on hand or operating cash flows. US Holdings' access to the
financial markets could be adversely impacted by various factors, such as:
42
o changes in credit markets that reduce available credit or the ability
to renew existing liquidity facilities on acceptable terms;
o inability to access commercial paper markets;
o a deterioration of US Holdings' credit or a reduction in US Holdings'
credit ratings or the credit ratings of its subsidiaries;
o extreme volatility in US Holdings' markets that increases margin or
credit requirements;
o a material breakdown in US Holdings' risk management procedures;
o prolonged delays in billing and payment resulting from delays in
switching customers from one REP to another; and
o the occurrence of material adverse changes in US Holdings' business
that restrict US Holdings' ability to access its liquidity facilities.
A lack of necessary capital and cash reserves could adversely impact the
evaluation of US Holdings' credit worthiness by counterparties and rating
agencies. Further, concerns on the part of counterparties regarding US Holdings'
liquidity and credit could limit its portfolio management activities.
As a result of the energy crisis in California during 2001, the recent
volatility of natural gas prices in North America, the bankruptcy filing by
Enron Corporation, accounting irregularities of public companies, and
investigations by governmental authorities into energy trading activities,
companies in the regulated and non-regulated utility businesses have been under
a generally increased amount of public and regulatory scrutiny. Accounting
irregularities at certain companies in the industry have caused regulators and
legislators to review current accounting practices and financial disclosures.
The capital markets and ratings agencies also have increased their level of
scrutiny. Additionally, allegations against various energy trading companies of
"round trip" or "wash" transactions, which involve the simultaneous buying and
selling of the same amount of power at the same price and provide no true
economic benefit, power market manipulation and inaccurate power and commodity
price reporting have had a negative effect on the industry. US Holdings believes
that it is complying with all applicable laws, but it is difficult or impossible
to predict or control what effect these events may have on US Holdings'
financial condition or access to the capital markets. Additionally, it is
unclear what laws and regulations may develop, and US Holdings cannot predict
the ultimate impact of any future changes in accounting regulations or practices
in general with respect to public companies, the energy industry or its
operations specifically.
US Holdings is subject to costs and other effects of legal and
administrative proceedings, settlements, investigations and claims.
The issues and associated risks and uncertainties described above are not
the only ones US Holdings may face. Additional issues may arise or become
material as the energy industry evolves.
FORWARD-LOOKING STATEMENTS
This report and other presentations made by US Holdings contain
forward-looking statements within the meaning of Section 21E of the Securities
Exchange Act of 1934, as amended. Although US Holdings believes that in making
such statements its expectations are based on reasonable assumptions, any such
statement involves uncertainties and is qualified in its entirety by reference
to the risks discussed above under RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
and factors contained in the Forward-Looking Statements section of Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations in US Holdings' 2002 Form 10-K, that could cause the actual results
of US Holdings to differ materially from those projected in such forward-looking
statements.
Any forward-looking statement speaks only as of the date on which such
statement is made, and US Holdings undertakes no obligation to update any
forward-looking statement to reflect events or circumstances after the date on
which such statement is made or to reflect the occurrence of unanticipated
events. New factors emerge from time to time and it is not possible for US
Holdings to predict all of such factors, nor can it assess the impact of each
such factor or the extent to which any factor, or combination of factors, may
cause results to differ materially from those contained in any forward-looking
statement.
43
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Except as discussed below, the information required hereunder is not
significantly different from the information set forth in Item 7A. Quantitative
and Qualitative Disclosures About Market Risk included in US Holdings' 2002 Form
10-K and is therefore not presented herein.
COMMODITY PRICE RISK
Value at Risk (VaR) for Energy Contracts Subject to Mark-to-Market
Accounting -- This measurement estimates the maximum potential loss in value,
due to price risk, of all energy-related contracts subject to mark-to-market
accounting, based on a specific confidence level and an assumed holding period.
Assumptions in determining this VaR include using a 95% confidence level and a
five-day holding period. A probabilistic simulation methodology is used to
calculate VaR, and is considered by management to be the most effective way to
estimate changes in a portfolio's value based on assumed market conditions for
liquid markets.
March 31, December 31,
2003 2002
---- ----
Period-end MtM VaR ...................... $28.1 $23.2
Average MtM VaR ......................... $31.9 $38.0
Portfolio VaR -- Represents the estimated maximum potential loss in value,
due to price risk, of the entire energy portfolio, including owned assets and
all contractual positions (the portfolio assets). Assumptions in determining
this VaR include using a 95% confidence level and a five-day holding period and
includes both mark-to-market and accrual positions.
March 31, December 31,
2003 2002
---- ----
Period-end Portfolio VaR ............... $187.0 $143.5
Average Portfolio VaR (a) .............. $178.2 N/A
(a) For the year 2002, there was no average Portfolio VaR information
available.
Other Risk Measures -- The metrics appearing below provide information
regarding the effect of energy price risk on earnings and cash flow of TXU
Energy.
North America Earnings at Risk (EaR) -- EaR measures the estimated maximum
short-fall in fiscal year projected margin (revenues less cost of energy sold)
due to price risk. EaR metrics include the portfolio assets except for accrual
positions expected to be settled beyond the fiscal year. Assumptions include
using a 95% confidence level over a five-day holding period under normal market
conditions.
44
North America Cash Flow at Risk (CFaR) -- CFaR measures the estimated
maximum short-fall of projected cash flow over the next six months, due to price
risk. CFaR metrics include all portfolio positions that impact cash flow during
the next six months. Assumptions include using a 99% confidence level over a
6-month holding period under normal market conditions. The following CFaR
calculation is based on a contract settlement period of six months.
March 31, December 31,
2003 2002
---- ----
EaR ................................... $ 32.2 $27.7
CFaR .................................. $ 86.6 $177.5
INTEREST RATE RISK
See Note 3 to Financial Statements for discussion of the issuances of new
fixed rate debt and retirements of fixed rate debt since December 31, 2002.
Item 4. CONTROLS AND PROCEDURES
An evaluation was performed under the supervision and with the
participation of US Holdings' management, including the principal executive
officer and principal financial officer, of the effectiveness of the design and
operation of the disclosure controls and procedures in effect within 90 days of
the filing date of this quarterly report. Based on the evaluation performed, US
Holdings' management, including the principal executive officer and principal
financial officer, concluded that the disclosure controls and procedures were
effective. There were no significant changes in US Holdings' internal controls
or in other factors that could significantly affect internal controls subsequent
to their evaluation.
45
PART II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
Legal Proceedings -- In September 1999, Quinque Operating Company
(Quinque) filed suit in the State District Court of Stevens County, Kansas
against over 200 gas pipeline companies, including TXU Gas (named in the
litigation as ENSERCH Corporation). The suit was removed to federal court;
however, a motion to remand the case back to Kansas State District Court was
granted in January 2001, and the case is now pending in Stevens County, Kansas.
The plaintiffs amended their petition to join TXU Fuel Company (TXU Fuel), a
subsidiary of TXU Energy, as a defendant in this litigation. Quinque has
dismissed its claims and a new lead plaintiff has filed an amended petition in
which the plaintiffs seek to represent a class consisting of all similarly
situated gas producers, overriding royalty owners, working interest owners and
state taxing authorities either from whom defendants had purchased natural gas
or who received economic benefit from the sale of such gas since January 1,
1974. The petition alleges that the defendants have mismeasured both the volume
and heat content of natural gas delivered into their pipelines resulting in
underpayments to plaintiffs. On April 10, 2003, the District Court entered an
order denying the plaintiffs' motion seeking certification of a class. No amount
of damages has been specified in the petition with respect to TXU Gas or TXU
Fuel, and neither TXU Gas nor TXU Fuel have purchased natural gas from the named
plaintiffs in the litigation. While TXU Gas and TXU Fuel are unable to estimate
any possible loss or predict the outcome of this case, TXU Gas and TXU Fuel
believe these claims are without merit and intend to vigorously defend this
suit.
On April 28, 2003, a lawsuit was filed by a former employee of TXU
Portfolio Management Company LP (TXU Portfolio Management), in the United States
District Court for the Northern District of Texas, Dallas Division, against TXU
Corp., TXU Energy and TXU Portfolio Management. Plaintiff asserts claims under
Section 806 of the Sarbanes Oxley-Act of 2002 (Sarbanes-Oxley) arising from
plaintiff's employment termination and claims for breach of contract relating to
payment of certain bonuses. Plaintiff seeks back pay, payment of bonuses and
alternatively, reinstatement or future compensation, including bonuses. US
Holdings believes the plaintiff's claims are without merit. The plaintiff was
terminated as the result of a reduction in force, not as a reaction to any
concerns the plaintiff had expressed and plaintiff was not in a position with
TXU Portfolio Management such that he had knowledge or information that would
qualify the plaintiff to evaluate TXU Corp.'s financial statements or assess the
adequacy of TXU Corp.'s financial disclosures. Thus, US Holdings does not
believe that there is any merit to the plaintiff's claims under Sarbanes-Oxley.
Accordingly, TXU Corp., TXU Energy and TXU Portfolio Management intend to
vigorously defend the litigation. While TXU Corp., TXU Energy and TXU Portfolio
Management dispute the plaintiff's claims, like any litigation, US Holdings is
unable to predict the outcome of this litigation or the possible loss in the
event of an adverse judgment.
46
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits filed as part of Part II are:
15 Letter from independent accountants as to unaudited interim
financial information.
99(a) Condensed Statements of Consolidated Income - Twelve Months Ended
March 31, 2003.
99(b) Section 906 Certification of Chief Executive Officer.
99(c) Section 906 Certification of Chief Financial Officer.
-----------------
(b) Reports on Form 8-K filed since December 31, 2002:
Date of Report Item Reported
-------------- -------------
February 26, 2003 Item 5. Other Events and Regulation FD Disclosure.
Item 7. Financial Statements and Exhibits.
April 30, 2003 Item 5. Other Events and Regulation FD Disclosure.
Item 7. Exhibits.
May 1, 2003 Item 7. Exhibits.
(Form 8-K/A)
47
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
TXU US HOLDINGS COMPANY
By /s/ Biggs C. Porter
------------------------------
Biggs C. Porter
Vice President,
Principal Accounting Officer
Date: May 15, 2003
48
TXU US HOLDINGS COMPANY
Certificate Pursuant To Section 302
Of Sarbanes-Oxley Act Of 2002
CERTIFICATION OF CEO
I, Erle Nye, Chairman of the Board and Chief Executive of TXU US
Holdings Company, certify that:
1. I have reviewed this quarterly report on Form 10-Q of TXU US Holdings
Company;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the period presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in the Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b. evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of the registrant's board of directors (or persons
performing the equivalent function):
a. all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
Date: May 15, 2003 /s/ Erle Nye
-----------------------------------------------
Signature: Erle Nye
Title: Chairman of the Board and Chief Executive
49
TXU US HOLDINGS COMPANY
Certificate Pursuant To Section 302
Of Sarbanes-Oxley Act Of 2002
CERTIFICATION OF PFO
I, H. Dan Farell, Principal Financial Officer of TXU US Holdings
Company, certify that:
1. I have reviewed this quarterly report on Form 10-Q of TXU US Holdings
Company;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the period presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in the Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b. evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of the registrant's board of directors (or persons
performing the equivalent function):
a. all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
Date: May 15, 2003
/s/ H. Dan Farell
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Signature: H. Dan Farell
Title: Principal Financial Officer
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