UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2004
- OR -
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________ to _________________
Commission Name of Registrants, State of Incorporation, I.R.S. Employer
File Number Address and Telephone Number Identification No.
- ----------- -------------------------------------------- ------------------
333-32170 PNM Resources, Inc. 85-0468296
(A New Mexico Corporation)
Alvarado Square
Albuquerque, New Mexico 87158
(505) 241-2700
1-6986 Public Service Company of New Mexico 85-0019030
(A New Mexico Corporation)
Alvarado Square
Albuquerque, New Mexico 87158
(505) 241-2700
Indicate by check mark whether the registrants (1) have filed all
reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter period
that the registrants were required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes X No
------- ------
Indicate by check mark whether the registrants are accelerated
filers (as defined in Rule 12b-2 of the Exchange Act). Yes X No
------- ------
As of April 30, 2004, 40,269,296 shares of common stock, no par value
per share, of PNM Resources, Inc. were outstanding.
PNM RESOURCES, INC. AND SUBSIDIARIES
INDEX
Page No.
PART I. FINANCIAL INFORMATION:
Independent Accountants' Report........................................ 3
ITEM 1. FINANCIAL STATEMENTS (Unaudited)
PNM Resources, Inc. and Subsidiaries
Consolidated Statements of Earnings
Three Months Ended March 31, 2004 and 2003.................. 5
Consolidated Balance Sheets
March 31, 2004 and December 31, 2003........................ 6
Consolidated Statements of Cash Flows
Three Months Ended March 31, 2004 and 2003.................. 8
Consolidated Statements of Comprehensive Income
Three Months Ended March 31, 2004 and 2003.................. 9
Public Service Company of New Mexico and Subsidiaries
Consolidated Statements of Earnings
Three Months Ended March 31, 2004 and 2003.................. 10
Consolidated Balance Sheets
March 31, 2004 and December 31, 2003........................ 11
Consolidated Statements of Cash Flows
Three Months Ended March 31, 2004 and 2003.................. 13
Consolidated Statements of Comprehensive Income
Three Months Ended March 31, 2004 and 2003.................. 14
Notes to Consolidated Financial Statements.......................... 15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS.............. 44
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK................................................ 60
ITEM 4. CONTROLS AND PROCEDURES....................................... 67
PART II. OTHER INFORMATION:
ITEM 1. LEGAL PROCEEDINGS............................................. 67
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.............................. 69
Signature.............................................................. 70
2
INDEPENDENT ACCOUNTANTS' REPORT
To the Board of Directors and Stockholders of PNM Resources, Inc.
Albuquerque, New Mexico
We have reviewed the accompanying consolidated balance sheet of PNM Resources,
Inc. and subsidiaries (the "Company") as of March 31, 2004, and the related
consolidated statements of earnings, cash flows, and comprehensive income for
the three-month periods ended March 31, 2004 and 2003. These interim
consolidated financial statements are the responsibility of the Company's
management.
We conducted our reviews 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 and
making inquiries of persons responsible for financial and accounting matters. It
is substantially less in scope than an audit conducted 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 reviews, we are not aware of any material modifications that should
be made to such consolidated interim financial statements for them to be in
conformity with accounting principles generally accepted in the United States of
America.
As discussed in Note 1 to the consolidated interim financial statements, the
Company adopted Statement of Financial Accounting Standards No. 143, Accounting
for Asset Retirement Obligations, effective January 1, 2003. Also, as discussed
in Note 1 to the consolidated interim financial statements, during 2003, the
Company changed the actuarial valuation measurement date for the pension plan
and other post-retirement benefit plans from September 30 to December 31.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the consolidated balance sheet and
consolidated statement of capitalization (not presented herein) of PNM
Resources, Inc. and subsidiaries as of December 31, 2003, and the related
consolidated statements of earnings, retained earnings, comprehensive income
(loss), and cash flows for the year then ended (not presented herein); and in
our report dated March 8, 2004 (which report includes explanatory paragraphs
referring to the adoption of Statement of Financial Accounting Standards No.
143, Accounting for Asset Retirement Obligations, effective January 1, 2003 and
the change in actuarial valuation measurement date for the pension plan and
other postretirement benefit plans from September 30 to December 31) we
expressed an unqualified opinion on those consolidated financial statements. In
our opinion, the information set forth in the accompanying consolidated balance
sheet as of December 31, 2003 is fairly stated, in all material respects, in
relation to the consolidated balance sheet from which it has been derived.
/s/ DELOITTE & TOUCHE LLP
Omaha, Nebraska
May 6, 2004
3
INDEPENDENT ACCOUNTANTS' REPORT
To the Board of Directors and Stockholders of
Public Service Company of New Mexico
Albuquerque, New Mexico
We have reviewed the accompanying consolidated balance sheet of Public Service
Company of New Mexico and subsidiaries (the "Company") as of March 31, 2004, and
the related consolidated statements of earnings, cash flows, and comprehensive
income for the three-month periods ended March 31, 2004 and 2003. These interim
consolidated financial statements are the responsibility of the Corporation's
Company's management.
We conducted our reviews 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 and
making inquiries of persons responsible for financial and accounting matters. It
is substantially less in scope than an audit conducted 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 reviews, we are not aware of any material modifications that should
be made to such consolidated interim financial statements for them to be in
conformity with accounting principles generally accepted in the United States of
America.
As discussed in Note 1 to the consolidated interim financial statements, the
Company adopted Statement of Financial Accounting Standards No. 143, Accounting
for Asset Retirement Obligations, effective January 1, 2003. Also, as discussed
in Note 1 to the consolidated interim financial statements, during 2003, the
Company changed the actuarial valuation measurement date for the pension plan
and other post-retirement benefit plans from September 30 to December 31.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the consolidated balance sheet and
consolidated statement of capitalization (not presented herein) of Public
Service Company of New Mexico and subsidiaries as of December 31, 2003, and the
related consolidated statements of earnings, retained earnings, comprehensive
income (loss), and cash flows for the year then ended (not presented herein);
and in our report dated March 8, 2004, (which report includes explanatory
paragraphs referring to the adoption of Statement of Financial Accounting
Standards No. 143, Accounting for Asset Retirement Obligations, effective
January 1, 2003 and the change in actuarial valuation measurement date for the
pension plan and other postretirement benefit plans from September 30 to
December 31) we expressed an unqualified opinion on those consolidated financial
statements. In our opinion, the information set forth in the accompanying
consolidated balance sheet as of December 31, 2003 is fairly stated, in all
material respects, in relation to the consolidated balance sheet from which it
has been derived.
/s/ DELOITTE & TOUCHE LLP
Omaha, Nebraska
May 6, 2004
4
ITEM 1. FINANCIAL STATEMENTS
PNM RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited)
Three Months Ended
March 31,
-------------------------------
2004 2003
--------------- --------------
(In thousands, except
per share amounts)
Operating Revenues:
Electric..................................................... $267,528 $241,378
Gas.......................................................... 175,874 144,186
Other........................................................ 251 60
--------------- --------------
Total operating revenues................................... 443,653 385,624
--------------- --------------
Operating Expenses:
Cost of energy sold.......................................... 269,767 223,867
Administrative and general................................... 40,374 32,042
Energy production costs...................................... 37,554 35,094
Depreciation and amortization................................ 26,137 28,374
Transmission and distribution costs.......................... 15,492 16,159
Taxes, other than income taxes............................... 9,484 7,786
Income taxes................................................. 11,311 8,876
--------------- --------------
Total operating expenses................................... 410,119 352,198
--------------- --------------
Operating income........................................... 33,534 33,426
--------------- --------------
Other Income and Deductions:
Other income................................................. 11,588 11,206
Other deductions............................................. (3,372) (17,912)
Income tax benefit (expense)................................. (2,996) 2,407
--------------- --------------
Net other income and (deductions).......................... 5,220 (4,299)
Interest Charges............................................... 13,829 18,233
Preferred Stock Dividend Requirements of Subsidiary............ 147 146
--------------- --------------
Net Earnings Before Cumulative Effect of a Change in
Accounting Principle........................................ 24,778 10,748
Cumulative Effect of a Change in Accounting Principle,
Net of Tax of Zero and $24,524.............................. - 37,422
--------------- --------------
Net Earnings................................................... $ 24,778 $ 48,170
=============== ==============
Net Earnings per Common Share:
Basic........................................................ $ 0.62 $ 1.23
=============== ==============
Diluted...................................................... $ 0.61 $ 1.22
=============== ==============
Dividends Paid per Common Share................................ $ 0.23 $ 0.22
=============== ==============
The accompanying notes are an integral part of these
financial statements.
5
PNM RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
March 31, December 31,
2004 2003
------------------ -----------------
(In thousands)
ASSETS
Utility Plant:
Electric plant in service..................................... $2,419,693 $2,419,162
Gas plant in service.......................................... 631,041 630,949
Common plant in service and plant held for future use......... 48,760 48,735
------------------ -----------------
3,099,494 3,098,846
Less accumulated depreciation and amortization................ 1,084,497 1,063,645
------------------ -----------------
2,014,997 2,035,201
Construction work in progress................................. 154,714 133,317
Nuclear fuel, net of accumulated amortization of
$18,522 and $15,995....................................... 24,979 25,917
------------------ -----------------
Net utility plant........................................... 2,194,690 2,194,435
------------------ -----------------
Other Property and Investments:
Investment in lessor notes.................................... 319,572 330,339
Other investments............................................. 120,100 114,273
Non-utility property, net of accumulated depreciation of
$1,769 and $1,755......................................... 1,441 1,455
------------------ -----------------
Total other property and investments........................ 441,113 446,067
------------------ -----------------
Current Assets:
Cash and cash equivalents..................................... 2,545 12,694
Accounts receivables, net of allowance for uncollectible
accounts of $9,325 and $9,284............................. 81,766 68,258
Unbilled revenues............................................. 76,704 82,899
Other receivables............................................. 41,090 47,042
Inventories................................................... 38,516 40,799
Regulatory assets............................................. 4,114 15,436
Other current assets.......................................... 40,960 38,835
------------------ -----------------
Total current assets........................................ 285,695 305,963
------------------ -----------------
Deferred Charges:
Regulatory assets............................................. 209,591 215,416
Prepaid benefit costs......................................... 85,964 85,782
Other deferred charges........................................ 129,485 130,966
------------------ -----------------
Total deferred charges...................................... 425,040 432,164
------------------ -----------------
$3,346,538 $3,378,629
================== =================
The accompanying notes are an integral part of these
financial statements.
6
PNM RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
March 31, December 31,
2004 2003
--------------- ---------------
CAPITALIZATION AND LIABILITIES (In thousands)
Capitalization:
Common Stockholders' Equity:
Common stock.............................................. $ 641,722 $ 647,722
Accumulated other comprehensive loss, net of tax.......... (72,254) (73,487)
Retained earnings......................................... 518,185 503,069
--------------- ---------------
Total common stockholders' equity...................... 1,087,653 1,077,304
Cumulative preferred stock without mandatory
redemption requirements................................. 12,800 12,800
Long-term debt, less current maturities...................... 986,776 987,210
--------------- ---------------
Total capitalization................................... 2,087,229 2,077,314
--------------- ---------------
Current Liabilities:
Short-term debt................................................ 90,497 125,918
Accounts payable............................................... 75,659 86,155
Accrued interest and taxes..................................... 51,162 23,477
Other current liabilities...................................... 92,123 110,031
--------------- ---------------
Total current liabilities.............................. 309,441 345,581
--------------- ---------------
Deferred Credits:
Accumulated deferred income taxes.............................. 249,447 250,098
Accumulated deferred investment tax credits.................... 37,686 38,462
Regulatory liabilities......................................... 316,208 316,384
Asset retirement obligations................................... 47,405 46,416
Minimum pension liability...................................... 128,825 128,825
Accrued post-retirement benefit costs.......................... 20,254 20,638
Other deferred credits......................................... 150,043 154,911
--------------- ---------------
Total deferred credits.................................. 949,868 955,734
--------------- ---------------
$3,346,538 $3,378,629
=============== ===============
The accompanying notes are an integral part of these
financial statements.
7
PNM RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Ended
March 31,
-------------------------------
2004 2003
-------------- --------------
(In thousands)
Cash Flows From Operating Activities:
Net earnings............................................................. $ 24,778 $ 48,170
Adjustments to reconcile net earnings to net cash flows
from operating activities:
Depreciation and amortization......................................... 34,726 35,238
Allowance for equity funds used during construction................... (95) (206)
Accumulated deferred income tax....................................... (2,428) 17,028
Transition costs write-off............................................ - 16,720
Cumulative effect of a change in accounting principle................. - (61,946)
Net unrealized losses (gains) on trading and investing contracts...... (1,760) 418
Changes in certain assets and liabilities:
Accounts receivable................................................... (13,508) (26,707)
Unbilled revenues..................................................... 6,195 9,399
Accrued post-retirement benefit costs................................. (566) (19,696)
Other assets.......................................................... 18,889 663
Accounts payable...................................................... (12,522) (13,500)
Accrued interest and taxes............................................ 27,685 21,166
Other liabilities..................................................... (27,177) (20,606)
-------------- --------------
Net cash flows from operating activities............................ 54,217 6,141
-------------- --------------
Cash Flows From Investing Activities:
Utility plant additions.................................................. (26,542) (30,356)
Nuclear fuel additions................................................... (1,589) (4,592)
Utility plant additions related to allowance for borrowed funds used
during construction and capitalized interest.......................... (738) (114)
Combustion turbine payments.............................................. - (11,136)
Redemption of available-for-sale investments............................. - 79,444
Redemption of other investments.......................................... 10,031 -
Bond purchase............................................................ - (7,355)
Return of principal of PVNGS lessor notes................................ 10,274 9,406
Other investing.......................................................... (4,828) (2,274)
-------------- --------------
Net cash flows from investing activities............................ (13,392) 33,023
-------------- --------------
Cash Flows From Financing Activities:
Short-term borrowings (repayment), net................................... (35,421) 20,000
Exercise of employee stock options....................................... (6,247) (235)
Dividends paid........................................................... (9,406) (8,750)
Other financing.......................................................... 100 (528)
-------------- --------------
Net cash flows from financing activities............................ (50,974) 10,487
-------------- --------------
Increase (Decrease) in Cash and Cash Equivalents........................... (10,149) 49,651
Beginning of Period........................................................ 12,694 3,702
-------------- --------------
End of Period.............................................................. $ 2,545 $ 53,353
============== ==============
Supplemental Cash Flow Disclosures:
Interest paid, net of capitalized interest............................... $ 11,163 $ 19,752
============== ==============
Income taxes (refunded), net............................................. $ (2,749) $ (4,152)
============== ==============
The accompanying notes are an integral part of these
financial statements.
8
PNM RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
Three Months Ended
March 31,
-----------------------------
2004 2003
-----------------------------
(In thousands)
Net Earnings.................................................................. $24,778 $48,170
------------- --------------
Other Comprehensive Income (Loss), net of tax:
Unrealized gain (loss) on securities:
Unrealized holding gains (losses) during the period, net of tax benefit
expense (benefit) of $308 and $(155)................................. 472 (237)
Reclassification adjustment for amounts included in net
income, net of tax benefit of $209 and $530.......................... (320) (808)
Minimum pension liability adjustment, net of tax expense of $12............. 19 -
Mark-to-market adjustment for certain derivative transactions:
Change in fair market value of designated cash flow hedges,
net of tax expense (benefit) of $970 and $(791)...................... 1,480 (1,207)
Reclassification adjustment for amounts in net income,
net of tax benefit of $274........................................... (418) -
------------- --------------
Total Other Comprehensive Income (Loss)....................................... 1,233 (2,252)
------------- --------------
Total Comprehensive Income.................................................... $26,011 $45,918
============= ==============
The accompanying notes are an integral part of these
financial statements.
9
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited)
Three Months Ended
March 31,
------------------------------
2004 2003
------------- -------------
(In thousands)
Operating Revenues:
Electric........................................................ $267,528 $241,378
Gas............................................................. 175,874 144,186
------------- --------------
Total operating revenues...................................... 443,402 385,564
------------- --------------
Operating Expenses:
Cost of energy sold............................................. 269,697 223,867
Energy production costs......................................... 37,554 35,094
Administrative and general...................................... 39,034 32,759
Depreciation and amortization................................... 25,616 27,933
Transmission and distribution costs............................. 15,492 17,259
Taxes, other than income taxes.................................. 8,563 8,701
Income taxes.................................................... 12,315 8,201
------------- --------------
Total operating expenses...................................... 408,271 353,814
------------- --------------
Operating income.............................................. 35,131 31,750
------------- --------------
Other Income and Deductions:
Other income.................................................... 11,266 10,493
Other deductions................................................ (1,317) (18,481)
Income tax benefit (expense).................................... (3,682) 2,914
------------- --------------
Net other income and (deductions)............................. 6,267 (5,074)
Interest charges.................................................. 13,894 17,587
------------- --------------
Net Earnings Before Cumulative Effect of a Change in
Accounting Principle........................................... 27,504 9,089
Cumulative Effect of a Change in Accounting Principle, Net of Tax
of Zero and $24,524............................................ - 37,422
------------- --------------
Net Earnings Before Preferred Stock Dividends..................... 27,504 46,511
Preferred Stock Dividend Requirements............................. 147 146
------------- --------------
Net Earnings...................................................... $ 27,357 $ 46,365
============= ==============
The accompanying notes are an integral part of these
financial statements.
10
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
March 31, December 31,
2004 2003
------------------ -----------------
(In thousands)
ASSETS
Utility Plant:
Electric plant in service...................................... $ 2,419,693 $ 2,419,162
Gas plant in service........................................... 631,041 630,949
Common plant in service and plant held for future use.......... 11,284 10,997
------------------ -----------------
3,062,018 3,061,108
Less accumulated depreciation and amortization................. 1,075,583 1,055,251
------------------ -----------------
1,986,435 2,005,857
Construction work in progress.................................. 140,056 120,340
Nuclear fuel, net of accumulated amortization of
$18,522 and $15,995........................................ 24,979 25,917
------------------ -----------------
Net utility plant............................................ 2,151,470 2,152,114
------------------ -----------------
Other Property and Investments:
Investment in lessor notes..................................... 319,572 330,339
Other investments.............................................. 109,533 91,273
Non-utility property........................................... 966 966
------------------ -----------------
Total other property and investments......................... 430,071 422,578
------------------ -----------------
Current Assets:
Cash and cash equivalents...................................... 1,725 11,607
Accounts receivables, net of allowance for uncollectible
accounts of $9,325 and $9,284.............................. 81,766 68,258
Unbilled revenues.............................................. 76,704 82,899
Other receivables.............................................. 39,992 45,814
Inventories.................................................... 38,507 40,791
Regulatory assets.............................................. 4,114 15,436
Other current assets........................................... 38,231 28,089
------------------ -----------------
Total current assets......................................... 281,039 292,894
------------------ -----------------
Deferred Charges:
Regulatory assets.............................................. 209,591 215,416
Prepaid benefit costs.......................................... 85,964 85,782
Other deferred charges......................................... 128,998 130,520
------------------ -----------------
Total current assets......................................... 424,553 431,718
------------------ -----------------
$ 3,287,133 $ 3,299,304
================== =================
The accompanying notes are an integral part of these
financial statements.
11
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
March 31, December 31,
2004 2003
------------------ ------------------
CAPITALIZATION AND LIABILITIES (In thousands)
Capitalization:
Common Stockholder's Equity:
Common stock............................................ $ 195,589 $ 195,589
Additional paid-in capital.............................. 556,608 556,608
Accumulated other comprehensive (loss), net of tax...... (72,254) (73,487)
Retained earnings....................................... 329,946 302,589
------------------ ------------------
Total common stockholder's equity.................... 1,009,889 981,299
Cumulative preferred stock without mandatory
redemption requirements............................... 12,800 12,800
Long-term debt, less current maturities.................... 986,776 987,210
------------------ ------------------
Total capitalization................................. 2,009,465 1,981,309
------------------ ------------------
Current Liabilities:
Short-term debt............................................ 90,000 124,900
Intercompany debt.......................................... 12,300 -
Accounts payable........................................... 66,137 78,313
Intercompany accounts payable.............................. 54,452 73,571
Accrued interest and taxes................................. 37,441 8,879
Other current liabilities.................................. 75,225 83,823
------------------ ------------------
Total current liabilities............................ 335,555 369,486
------------------ ------------------
Deferred Credits:
Accumulated deferred income taxes............................ 245,630 246,282
Accumulated deferred investment tax credits.................. 37,686 38,462
Regulatory liabilities....................................... 316,208 316,384
Asset retirement obligation.................................. 47,405 46,416
Minimum pension liability.................................... 128,825 128,825
Accrued post-retirement benefit costs........................ 20,254 20,638
Other deferred credits....................................... 146,105 151,502
------------------ ------------------
Total deferred credits.................................... 942,113 948,509
------------------ ------------------
$ 3,287,133 $ 3,299,304
================== ==================
The accompanying notes are an integral part of these
financial statements.
12
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Ended
March 31,
--------------------------------
2004 2003
-------------- --------------
(In thousands)
Cash Flows From Operating Activities:
Net earnings.......................................................... $ 27,357 $ 46,365
Adjustments to reconcile net earnings to net cash flows
from operating activities:
Depreciation and amortization...................................... 34,191 34,797
Allowance for equity funds used during construction................ (90) (206)
Accumulated deferred income tax.................................... (2,428) 17,027
Transition costs write-off......................................... - 16,720
Cumulative effect of a change in accounting principle.............. - (61,946)
Net unrealized losses on trading and investments contracts......... (1,760) 418
Changes in certain assets and liabilities:
Accounts receivable................................................ (13,508) (26,707)
Unbilled revenues.................................................. 6,195 9,399
Accrued post-retirement benefit costs.............................. (566) (19,696)
Other assets....................................................... 20,814 (981)
Accounts payable................................................... (14,202) (12,455)
Accrued interest and taxes......................................... 28,562 19,601
Other liabilities.................................................. (17,993) (20,302)
-------------- --------------
Net cash flows from operating activities......................... 66,572 2,034
-------------- --------------
Cash Flows From Investing Activities:
Utility plant additions............................................... (25,203) (29,281)
Nuclear fuel additions................................................ (1,589) (4,591)
Utility plant additions related to allowance for borrowed funds used
during construction and capitalized interest....................... (662) (114)
Combustion turbine payments........................................... - (11,136)
Purchase of bond investments.......................................... (12,247) -
Return of principal of PVNGS lessor notes............................. 10,274 9,406
Other investing....................................................... (4,727) 479
-------------- --------------
Net cash flows from investing activities......................... (34,154) (35,237)
-------------- --------------
Cash Flows From Financing Activities:
Short-term borrowings (repayments), net............................... (34,900) 20,000
Equity contribution from parent....................................... - 75,000
Dividends paid........................................................ (147) (146)
Other financing....................................................... (433) (524)
Change in intercompany accounts....................................... (6,820) (25,225)
-------------- --------------
Net cash flows from financing activities......................... (42,300) 69,105
-------------- --------------
Increase (decrease) in Cash and Cash Equivalents...................... (9,882) 35,902
Beginning of Period................................................... 11,607 3,094
-------------- --------------
End of Period......................................................... $ 1,725 $ 38,996
============== ==============
Supplemental Cash Flow Disclosures:
Interest paid, net of capital interest................................ $ 11,318 $ 21,019
============== ==============
Income taxes (refunded), net.......................................... $ (2,749) $ (4,093)
============== ==============
The accompanying notes are an integral part of these
financial statements.
13
PUBLIC SERVICE COMPANY OF NEW MEXICO AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
Three Months Ended
March 31,
-----------------------------
2004 2003
------------- --------------
(In thousands)
Net Earnings.......................................................... $ 27,357 $ 46,365
------------- --------------
Other Comprehensive Income (Loss), net of tax:
Unrealized gain (loss) on securities:
Unrealized holding gains (losses) arising from the period,
net of tax expense (benefit) of $308 and $(29)............... 472 (44)
Reclassification adjustment for amounts included in
net income, net of tax benefit of $209 and $9................ (320) (14)
Minimum pension liability adjustment, net of tax expense of $12..... 19 -
Mark-to-market adjustment for certain derivative transactions:
Change in fair market value of designated cash flow hedges,
net of tax expense (benefit) of $970 and $(791).............. 1,480 (1,207)
Reclassification adjustment for amounts included in
net income, net of tax benefit of $274....................... (418) -
------------- --------------
Total Other Comprehensive Income (Loss)............................... 1,233 (1,265)
------------- --------------
Total Comprehensive Income............................................ $ 28,590 $ 45,100
============= ==============
The accompanying notes are an integral part of these
financial statements.
14
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) Accounting Policies and Responsibility for Financial Statements
In the opinion of the management of PNM Resources, Inc. (the "Holding
Company") and Subsidiaries and Public Service Company of New Mexico ("PNM") and
Subsidiaries, (collectively, the "Company") the accompanying unaudited interim
consolidated financial statements present fairly the Company's financial
position at March 31, 2004 and December 31, 2003, the consolidated results of
its operations and comprehensive income for the three months ended March 31,
2004 and 2003 and the consolidated statements of cash flows for the three months
ended March 31, 2004 and 2003. Accordingly, they are unaudited, and certain
information and note disclosures normally included in the Company's annual
consolidated financial statements have been condensed or omitted, as permitted
under the applicable rules and regulations. Readers of these financial
statements should refer to the Company's audited consolidated financial
statements and notes thereto for the year ended December 31, 2003, that are
included in the Company's Annual Reports on Form 10-K for the year ended
December 31, 2003. The results of operations presented in the accompanying
financial statements are not necessarily representative of operations for an
entire year.
Presentation
The Notes to Consolidated Financial Statements of the Company are
presented on a combined basis. The business of PNM constitutes substantially all
of the business of PNM Resources, Inc. and Subsidiaries. Therefore, the
financial results and results of operations of PNM are virtually identical to
the consolidated results of the Holding Company and all its subsidiaries. For
discussion purposes, this report will use the term "Company" when discussing
matters of common applicability to the Holding Company and PNM. Readers of the
Notes to Consolidated Financial Statements should assume that the information
presented applies to the consolidated results of operations and financial
position of both the Holding Company and its subsidiaries and PNM, except where
the context or references clearly indicate otherwise. Discussions regarding
specific contractual obligations generally reference the company that is legally
obligated. In the case of contractual obligations of PNM, these obligations are
consolidated with the Holding Company and its subsidiaries under generally
accepted accounting principles ("GAAP"). Broader operational discussions refer
to the Company.
Certain amounts in the 2003 consolidated financial statements and notes
have been reclassified to conform to the 2004 financial statement presentation.
Decommissioning Costs
Decommissiong Costs
Accounting for decommissioning costs for nuclear and fossil-fuel
generation involves significant estimates related to costs to be incurred many
years in the future after plant closure. Changes in these estimates could
significantly impact the Company's financial position, results of operation and
cash flows. The Company owns and leases nuclear and fossil-fuel facilities that
are within and outside of its retail service areas. The Company adopted the
accounting requirements of Statement of Financial Accounting Standards No. 143,
"Accounting for Asset Retirement Obligations" ("SFAS 143") on January 1, 2003.
15
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Under SFAS 143, the Company is only required to recognize and measure
decommissioning liabilities for tangible long-lived assets for which a legal
obligation exists. Adoption of the statement changed the Company's method of
accounting for both nuclear generation decommissioning and fossil-fuel
generation decommissioning. Nuclear decommissioning costs are based on
site-specific estimates of the costs for removing all radioactive and other
structures at the site. PVNGS Unit 3 is currently excluded from the Company's
retail rates base while Units 1 and 2 are included in the Company's retail
rates. The Company collects a provision for ultimate decommissioning of Units 1
and 2 in its rates and recognizes a corresponding expense and liability for
these amounts. Fossil-fuel decommissioning costs are also approved by the PRC as
a component of the Company's depreciation rates. The Company believes that it
will continue to be able to collect for its legal asset retirement obligations
for nuclear and fossil-fuel generation activities included in the ratemaking
process.
Pension and Other Post-retirement Benefits
In 2003, the Company changed the actuarial valuation measurement date for
the pension plan and other post-retirement benefits from September 30 to
December 31 to better reflect the actual pension balances as of the Company's
balance sheet dates.
Stock Options
The Company accounts for stock-based compensation using the intrinsic
value method prescribed in Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees." Compensation cost for stock options,
if any, is measured as the excess of the quoted market price of the Company's
stock at the date of grant over the exercise price of the granted stock option.
Restricted stock is recorded as compensation cost over the requisite vesting
periods based on the market value on the date of grant.
Statement of Financial Accounting Standards No. 123 "Accounting for
Stock-Based Compensation" ("SFAS 123"), established accounting and disclosure
requirements using a fair-value-based method of accounting for stock-based
employee compensation plans. The Company has elected to retain its current
method of accounting as described above, and has adopted the disclosure
requirements of SFAS 123 only.
16
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
At March 31, 2004, the Company had three stock-based employee
compensation plans. Options continue to be granted under only two of these
plans. Had compensation expense for the Company's stock options been recognized
based on the fair value on the grant date under the methodology prescribed by
SFAS 123, the effect on the Company's pro forma net earnings and pro forma
earnings per share would be as follows (in thousands, except per share data):
Three Months Ended
March 31,
2004 2003
------------- -------------
Net earnings................................. $24,778 $48,170
Deduct: Total stock-based employee
compensation expense determined
under fair value based method for all
awards, net of related tax effects........ (666) (511)
------------- -------------
Pro forma net earnings....................... $24,112 $47,659
============= =============
Earnings per share:
Basic - as reported...................... $ 0.62 $ 1.23
============= =============
Basic - pro forma........................ $ 0.60 $ 1.22
============= =============
Diluted - as reported.................... $ 0.61 $ 1.22
============= =============
Diluted - pro forma...................... $ 0.59 $ 1.21
============= =============
(2) Segment Information
The Holding Company is an investor-owned holding company of energy and
energy related businesses. Its principal subsidiary, PNM, is an integrated
public utility primarily engaged in the generation, transmission and
distribution of electricity; transmission, distribution and sale of natural gas
within the State of New Mexico; and the sale and marketing of electricity in the
Western United States. In addition, the Holding Company provides energy and
technology related services through its wholly-owned subsidiary, Avistar Inc.
("Avistar").
As it currently operates, the Company's principal business segments,
whose operating results are regularly reviewed by the Company's management, are
Utility Operations and Wholesale Operations ("Wholesale"). Utility Operations
includes Electric Services ("Electric"), Gas Services ("Gas") and Transmission
Services ("Transmission"). In 2003, the Company began allocating its business
and results between the Electric and Wholesale segments for financial reporting
purposes based on the asset allocations as mandated in the most recent electric
rate agreement. Certain prior period amounts have been reclassified to conform
to the current year presentation. In addition, Transmission was reclassified
from Electric and disclosed as its own business segment during the second
quarter of 2003.
17
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The following segment presentation is based on the methodology that the
Company's management uses for making operating decisions and assessing
performance of its various business activities. As such, the following
presentation reports operating results with regard to the effect of accounting
or regulatory changes and similar one-time items not related to normal
operations in the Corporate and Other segment.
In addition, adjustments related to Emerging Issues Task Force ("EITF")
Issue 03-11 "Reporting Realized Gains and Losses on Derivative Instruments that
are subject to FASB statement No. 133 and Not Held for Trading Purposes" are
included in Corporate and Other. These accounting pronouncements require a net
presentation of trading gains and losses and realized gains and loss for certain
non-trading derivatives. Management evaluates wholesale operations on a gross
presentation basis due to its net asset-backed marketing strategy and the
importance the strategy places on the Company's ability to repurchase and
remarket previously sold capacity. The Company has publicly referred to this as
"velocity".
UTILITY OPERATIONS
Electric
Electric consists of the distribution and generation of electricity for
retail electric customers in New Mexico. The Company provides retail electric
service to a large area of north central New Mexico, including the cities of
Albuquerque and Santa Fe, and certain other areas of New Mexico. Current
customer rates for retail electric service are set by the New Mexico Public
Regulation Commission ("PRC") based on the provisions of an electric rate
agreement approved in January 2003.
Gas
Gas distributes natural gas to most of the major communities in New
Mexico, including two of New Mexico's three largest metropolitan areas,
Albuquerque and Santa Fe. The Company's customer base includes both
sales-service customers and transportation-service customers. PNM purchases
natural gas in the open market and resells it at cost to its sales-service
customers. As a result, increases or decreases in gas revenues resulting from
wholesale gas price fluctuations do not impact the Company's consolidated gross
margin or earnings.
Transmission
The Company owns or leases transmission lines, interconnected with other
utilities in New Mexico and south and east into Texas, west into Arizona, and
north into Colorado and Utah. Transmission revenues consist of sales to third
parties as well as to Electric and Wholesale.
18
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
WHOLESALE OPERATIONS
Wholesale consists of the generation and sale of electricity into the
wholesale market based on three product lines that include long-term contracts,
forward sales and short-term sales. The source of these sales is supply created
by selling the unused capacity and energy of jurisdictional assets as well as
the capacity and energy of the Company's plants excluded from retail rates. Both
regulated and unregulated generation is jointly dispatched in order to improve
reliability, provide the most economical power to retail customers and maximize
profits on any wholesale transactions.
Long-term contracts include sales to wholesale customers with multi-year
arrangements. These contracts range from 2 to 17 years with an average of 7.5
years. Forward sales include third party purchases in the forward market that
range from 1 month to 3 years. These transactions do not qualify as normal sales
and purchases as defined in SFAS 133, "Accounting for Derivative Instruments and
Hedging Activites", as amended, and thus are generally marked to market.
Short-term sales generally include spot market, hour ahead, day ahead and week
ahead contracts with terms of 30 days or less. Also included in short-term sales
are sales of any excess generation not required to fulfill PNM's retail load and
contractual commitments. Short-term sales also cover the revenue credit to
retail customers as specified in the most recent electric rate agreement.
CORPORATE AND OTHER
The Holding Company performs substantially all of the corporate
activities of PNM. These activities are billed to PNM on a cost basis to the
extent they are for the corporate management of PNM and are allocated to the
operating segments. The Holding Company's wholly-owned subsidiary, Avistar, was
formed in August 1999 as a New Mexico corporation and is currently engaged in
certain unregulated and non-utility businesses. In January 2002, Avistar was
19
(Intentionally left blank)
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
dividended to the Holding Company pursuant to an order from the PRC. This
segment also includes the reconciling items discussed above.
Summarized financial information by business segment for the three months
ended March 31, 2004 is as follows:
Utility
-----------------------------------------------------------------------
Electric Gas Transmission Eliminations Total
------------- ------------ ---------------- --------------- -----------
(In thousands)
2004:
Operating revenues:
External customers................ $130,036 $ 175,874 $ 4,414 $ - $ 310,324
Intersegment revenues............. - - 7,896 (7,896) -
Depreciation and amortization........ 13,970 4,729 2,708 - 21,407
Interest income...................... 6,841 939 106 - 7,886
Interest charges..................... 7,228 2,739 1,477 - 11,444
Total income tax expense............. 7,101 6,157 687 - 13,945
Operating income..................... 13,871 11,606 2,443 - 27,920
Segment net income................... 10,836 9,393 1,047 - 21,276
Total assets......................... 1,425,880 494,712 291,351 - 2,211,943
Gross property additions............. 13,634 6,241 4,272 - 24,147
Corporate
Wholesale and Other Consolidated
------------- ------------ ----------------
(In thousands)
2004:
Operating revenues:
External customers................ $ 133,772 $ (443)(a) $443,653
Intersegment revenues............. - - -
Depreciation and amortization........ 3,754 976 26,137
Interest income...................... 1,388 647 9,921
Interest charges..................... 3,394 (1,009) 13,829
Total income tax expense (benefit)... 3,024 (2,662) 14,307
Operating income (loss).............. 6,908 (1,294) 33,534
Segment net income (loss)............ 4,615 (1,113) 24,778
Total assets......................... 423,220 711,375 3,346,538
Gross property additions............. 2,799 1,923 28,869
(a) Includes EITF 03-11 impact, under which wholesale revenues and the
associated cost of energy of $0.6 million are reclassified to a net margin
basis in accordance with GAAP.
20
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Summarized financial information by business segment for the three months
ended March 31, 2003 is as follows:
Utility
-----------------------------------------------------------------------
Electric Gas Transmission Eliminations Total
------------- ------------ ---------------- --------------- -----------
(In thousands)
2003:
Operating revenues:
External customers................ $ 126,204 $ 144,186 $ 4,557 $ - $ 274,947
Intersegment revenues............. - - 7,636 (7,636) -
Depreciation and amortization........ 15,735 5,442 2,321 - 23,498
Interest income...................... 7,455 777 (16) - 8,216
Interest charges..................... 6,647 3,376 1,410 - 11,433
Total income tax expense............. 8,362 4,447 469 - 13,278
Operating income..................... 15,306 9,690 2,152 - 27,148
Segment net income................... 12,760 6,786 715 - 20,261
Total Assets......................... 1,429,291 509,111 275,301 - 2,213,703
Gross property additions............. 18,356 7,221 4,830 - 30,407
Corporate
Wholesale and Other Consolidated
------------- ------------ ----------------
(In thousands)
2003:
Operating revenues:
External customers................ $ 110,617 $ 60 $ 385,624
Intersegment revenues............. - - -
Depreciation and amortization........ 3,491 1,385 28,374
Interest income...................... 1,450 1,034 10,700
Interest charges..................... 3,548 3,252 18,233
Total income tax expense (benefit)... 1,190 (7,999)(a) 6,469
Operating income..................... 4,644 1,634 33,426
Segment net income (loss)............ 1,815 (11,328)(a) 10,748
Total Assets......................... 425,372 739,554 3,378,629
Gross property additions............. 3,579 1,076 35,062
(a) Includes $10.1 million write-off of transition costs, net of tax benefit
of $6.6 million, due to the repeal of deregulation in New Mexico.
(3) Fair Value of Financial Instruments
Natural Gas Contracts
Pursuant to a 1997 order issued by the New Mexico Public Utility
Commission, the predecessor to the PRC, the Company is authorized to hedge
certain portions of natural gas supply contracts to protect the Company's
21
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
natural gas customers from the risk of adverse price fluctuations in the natural
gas market. All hedge gains and losses are recoverable through the Company's
purchased gas adjustment clause ("PGAC") if deemed prudently incurred by the
PRC. As a result, earnings are not affected by gains or losses generated by
these instruments.
PNM purchased $2.8 million of natural gas options in the first quarter of
2004 to protect its natural gas customers from the risk of rising prices during
the 2004-2005 heating season. In total, PNM plans to expend approximately $10.0
million in 2004 to purchase gas options that essentially cap the amount the
Company would pay for each volume of gas subject to the options during the
winter heating season. PNM expects to recover its option premiums as a component
of the PGAC during the months of October 2004 through February 2005.
Electricity Contracts
The Company's Wholesale Operations have entered into various forward
physical contracts for the purchase and sale of electricity with the intent to
optimize its net generation position. These contracts do not qualify for normal
purchase and sale designation pursuant to GAAP, and are considered derivatives
and marked to market.
For the three months ended March 31, 2004, the Company's Wholesale
Operations settled derivative forward contracts for the sale of electricity that
generated $27.0 million of electric revenues by delivering 0.6 million megawatt
hours ("MWh"). The Company settled derivative forward contracts for the purchase
of electricity of $24.7 million or 0.6 million MWh to support these contractual
sales and other open market sales opportunities. For the three months ended
March 31, 2003, the Company's Wholesale Operations settled derivative forward
contracts for the sale of electricity that generated $22.3 million of electric
revenues by delivering 0.6 million MWh. The Company settled derivative forward
contracts for the purchase of electricity of $22.3 million or 0.6 million MWh to
support these contractual sales and other open market sales opportunities.
As of March 31, 2004, the Company had open derivative forward contract
positions to buy $46.0 million and to sell $44.1 million of electricity. At
March 31, 2004, the Company had a gross mark-to-market gain (asset position) on
these derivative forward contracts of $7.5 million and a gross mark-to-market
loss (liability position) of $6.3 million, with a net mark-to-market gain (asset
position) of $1.2 million recorded in other current assets and liabilities,
respectively. The change in mark-to-market valuation is recognized in earnings
each period and is recorded in operating revenues.
The Company's Wholesale Operations also entered into forward physical
contracts for the sale of the Company's electric capacity in excess of its
retail and wholesale firm requirement needs, including reserves. In addition,
the Company entered into forward physical contracts for the purchase of retail
needs, including reserves, when resource shortfalls exist. The Company generally
accounts for these financial instruments as normal sales and purchases as
defined by SFAS 133, as amended. From time to time the Company makes forward
purchases to serve its retail needs when the cost of purchased power is less
than the incremental cost of its generation. At March 31, 2004, the Company had
22
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
open forward positions classified as normal sales of electricity of $207.7
million and normal purchases of electricity of $108.8 million, which will be
reflected in the financial statements upon physical delivery.
The Company's Wholesale Operations, including both firm commitments and
other wholesale sale activities, are managed through a net asset-backed
strategy, whereby the Company's aggregate net open position is covered by its
own excess generation capabilities. The Company is exposed to market risk if its
generation capabilities were disrupted or if its retail load requirements were
greater than anticipated. If the Company were required to cover all or a portion
of its net open contract position, it would have to meet its commitments through
market purchases.
The Company is exposed to credit risk in the event of non-performance or
non-payment by counterparties of its financial and physical derivative
instruments. The Company uses a credit management process to assess and monitor
the financial conditions of counterparties. The Company's credit risk with its
largest counterparty as of March 31, 2004 and December 31, 2003 was $29.5
million and $23.5 million, respectively.
(4) Earnings Per Share
In accordance with SFAS No. 128, "Earnings per Share" ("SFAS 128"), dual
presentation of basic and diluted earnings per share has been presented in the
Consolidated Statements of Earnings. The following reconciliation illustrates
the impact on the share amounts of potential common shares and the earnings per
share amounts (in thousands except per share amounts):
Three Months Ended
March 31,
---------------------------
2004 2003
------------- -------------
Basic:
Net Earnings Before Cumulative Effect of a Change in
Accounting Principle.................................. $24,778 $10,748
Cumulative Effect of a Change in Accounting Principle,
net of tax of $24,524................................. - 37,422
------------- -------------
Net Earnings............................................. $24,778 $48,170
============= =============
Average Number of Common Shares Outstanding.............. 40,259 39,118
============= =============
Net Earnings per Share of Common Stock (Basic)........... $ 0.62 $ 1.23
============= =============
Earnings Before Cumulative Effect of a Change in
Accounting Principle.................................. 0.62 0.28
Cumulative Effect of a Change in Accounting Principle.... - 0.95
------------- -------------
Net Earnings per Share of Common Stock (Basic)........... $ 0.62 $ 1.23
============= =============
23
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Three Months Ended
March 31,
--------------------------
2004 2003
------------ -------------
Diluted:
Net Earnings Before Cumulative Effect of a Change in
Accounting Principle................................... $24,778 $10,748
Cumulative Effect of a Change in Accounting Principle,
net of tax of $24,524.................................. - 37,422
------------ -------------
Net Earnings.............................................. $24,778 $48,170
============ =============
Average Number of Common Shares Outstanding............... 40,259 39,118
Dilutive Effect of Common Stock Equivalents (a)........... 492 247
------------ -------------
Average Common and Common Equivalent Shares............... 40,751 39,365
============ =============
Net Earnings per Share of Common Stock (Diluted).......... $ 0.61 $ 1.22
============ =============
Earnings Before Cumulative Effect of a Change
in Accounting Principle................................ 0.61 0.27
Cumulative Effect of a Change in Accounting Principle..... - 0.95
------------ -------------
Net Earnings per Share of Common Stock (Diluted).......... $ 0.61 $ 1.22
============ =============
(a) Excludes the effect of average anti-dilutive common stock
equivalents related to out-of-the-money options of 282,224 and
1,879,087 shares for the three months ended March 31, 2004 and
2003, respectively.
(Intentionally left blank)
24
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(5) Pension and Other Post-Retirement Benefit Plans
The Company and its subsidiaries maintain a qualified defined benefit
pension plan ("Pension Plan"), medical and dental benefits to eligible retirees
("Other Post-Retirement Benefits"), and an Executive Retirement Plan. The
following table shows the net periodic benefit cost or income of the Company's
Pension Plan, Other Post-Retirement Benefit Plans, and the Executive Retirement
Plan for the three months ended March 31:
Other Post- Executive
Pension Plan Retirement Benefits Retirement Program
---------- ---------- ---------- ---------- --------- ---------
2004 2003 2004 2003 2004 2003
---------- ---------- ---------- ---------- --------- ---------
(In thousands)
Components of Net Periodic
Benefit Cost/(Income)
Service cost....................... $ 1,085 $ 1,297 $ 601 $ 771 $ 26 $ 20
Interest cost...................... 7,340 7,022 1,826 1,960 310 308
Expected return on assets.......... (9,843) (8,777) (1,232) (1,148) - -
Transition obligation.............. - - 454 454 - -
Prior service cost amortization.... 79 79 (1,049) (648) 37 38
Net loss amortization.............. 1,157 978 1,234 1,031 33 22
---------- ---------- ---------- ---------- --------- ---------
Net Periodic Benefit Cost/(Income)... $ (182) $ 599 $ 1,834 $ 2,420 $ 406 $ 388
========== ========== ========== ========== ========= =========
For the three months ended March 31, 2004, the Company contributed $1.5
million to external trusts for the Other Post-Retirement Benefits. The Company
expects to contribute an additional $4.7 million in 2004.
(6) Commitments and Contingencies
PVNGS Liability and Insurance Matters
The Palo Verde Nuclear Generating Station ("PVNGS") participants have
financial protection for public liability resulting from nuclear energy hazards
to the full limit of liability under federal law. This potential liability is
covered by primary liability insurance provided by commercial insurance carriers
in the amount of $300.0 million and the balance by an industry-wide
retrospective assessment program. If losses at any nuclear power plant covered
by the programs exceed the primary liability insurance limit, the Company could
be assessed retrospective adjustments. Effective August 20, 2003, the maximum
assessment per reactor under the program for each nuclear incident increased
from approximately $88 million to approximately $101 million. The retrospective
assessment is subject to an annual limit of $10.0 million per reactor per
incident. Based upon the Company's 10.2% interest in the three PVNGS units, the
Company's maximum potential assessment per incident for all three units is
approximately $31 million, with an annual payment limitation of approximately $3
million per incident. If the funds provided by this retrospective assessment
program prove to be insufficient, Congress could impose revenue-raising measures
on the nuclear industry to pay claims.
25
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Possible Price-Anderson Act Changes
Versions of comprehensive energy bills proposed for adoption by Congress
contain provisions that would amend Federal Law (the "Price-Anderson Act")
addressing public liability from nuclear energy hazards in ways that would
increase the annual limit on retrospective assessments (see "PVNGS Liability and
Insurance Matters" above) from $10 million to $15 million per reactor per
incident with the Company's annual exposure per incident increasing from $3
million to $4.5 million.
The Company believes that such changes in applicable law, if enacted,
would not result in a "deemed loss event" being declared by the equity investors
in respect of the Company's sale and leaseback transactions of PVNGS Units 1 and
2.
Water Supply
Because of New Mexico's arid climate and current drought conditions,
there is a growing concern in New Mexico about the use of water for power
plants. The availability of sufficient water supplies to meet all the needs of
the state, including growth, is a major issue. The Company has secured water
rights in connection with the Afton and Lordsburg plants and water availability
does not appear to be an issue for these plants at this time.
The Four Corners region, in which San Juan Generating Station ("SJGS")
and Four Corners Power Plant ("Four Corners") are located, has been experiencing
drought conditions that may affect the water supply for the Company's generation
plants. If adequate precipitation is not received in the watershed that supplies
the Four Corners areas, the plants may be affected in 2004 and the future. The
United States Bureau of Reclamation ("USBR") has approved a supplemental
contract for 8,300 acre feet per year for a one-year term ending December 31,
2004. Environmental approvals have been obtained for the supplemental contract.
PNM has also signed a voluntary shortage sharing agreement with tribes and other
water users in the San Juan Basin for a one-year term ending December 31, 2004.
Environmental approvals for that agreement are pending. A similar agreement was
entered into in 2003. Although PNM does not believe that its operations will be
materially affected by the drought conditions at this time, it cannot forecast
the weather situation or its ramifications, or how regulations and legislation
may impact PNM's situation in the future, should the drought continue.
Dugan Production Corporation Litigation
In July 2002, Dugan Production Corp. filed a lawsuit in the County of San
Juan, New Mexico, against the San Juan Coal Company ("SJCC"). In September 2002,
the SJCC removed the lawsuit to the United States District Court for the
District of New Mexico. The lawsuit seeks to enjoin the underground mining of
coal from a portion of the land that is to be used for the underground mine. The
plaintiff also seeks monetary damages.
The SJCC, through leases with the federal government and the State of New
Mexico, owns coal interests with respect to the underground mine. The plaintiff,
through leases with the federal government, the State of New Mexico and certain
26
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
private parties, claims to own certain oil and gas interests in portions of the
land that is to be used for the underground mine. SJCC has entered into a
settlement with the plaintiff and the United States Bureau of Land Management.
The settlement will not have a material adverse impact on the Company or its
operations. As part of the settlement, the lawsuit will be dismissed with
prejudice.
Western United States Wholesale Power Market
Various circumstances, including electric power supply shortages, weather
conditions, gas supply costs, transmission constraints, and alleged market
manipulation by certain sellers, resulted in the well-publicized "California
energy crisis" and in the bankruptcy filings of the California Power Exchange
("Cal PX") and of Pacific Gas and Electric Company ("PG&E"). However, since the
third quarter of 2001, conditions in the Western wholesale power market have
changed substantially because of regulatory actions, conservation measures, the
construction of additional generation, a decline in natural gas prices relative
to levels reached during the California energy crisis and regional economic
conditions.
As a result of the foregoing conditions in the Western market, the
Federal Energy Regulatory Commission ("FERC") and other federal and state
governmental authorities are conducting investigations and other proceedings
relevant to the Company and other sellers. The more significant of these in
relation to the Company are summarized below.
California Refund Proceeding
San Diego Gas and Electric Company ("SDG&E") and other California buyers
have filed a complaint with the FERC against sellers into the California
wholesale electric market. Hearings were held in September 2002, and the
administrative law judge ("ALJ") issued the "Proposed Findings on California
Refund Liability" in December 2002, in which it was determined that the
California Independent System Operator ("Cal ISO") had, for the most part,
correctly calculated the amounts of the potential refunds owed by sellers. The
ALJ identified what were termed "ballpark" figures for the amount of refunds due
under the order in an appendix to the proposed findings document. PNM was
identified as having a refund liability of approximately $4.3 million, while
being owed approximately $7 million from the Cal ISO. Pursuant to the FERC's
order, PNM filed, in conjunction with the competitive supplier group, initial
comments in January 2003 to the ALJ's preliminary findings addressing errors the
Company believes the ALJ made in the proposed findings, and filed reply comments
in February 2003.
Prior to the December 2002 ALJ decision, the Ninth Circuit Court of
Appeals ordered the FERC to allow the parties in the case to provide additional
evidence regarding alleged market manipulation by sellers. Several California
parties submitted additional evidence in March 2003 to support their position
that virtually all market participants, including PNM, either engaged in
specific market manipulation strategies or facilitated such strategies. PNM
maintains that it did not engage in improper wholesale activities, and filed
reply evidence in March 2003, denying the allegations against it.
27
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
In March 2003, the FERC issued an order substantially adopting the ALJ's
findings in his December 2002 decision, but requiring a change to the formula
used to calculate refunds. The FERC raised concerns that the indices for
California gas prices, a major element in the formula, had been subject to
potential manipulation and were unverifiable. The effect of this change, which
is not yet final, would be to increase PNM's refund liability. In October 2003,
the FERC issued its order on rehearing in which it affirmed its decision to
change the gas price indices used to calculate the refund amounts. This has the
effect of increasing the Company's amount of refund. The precise amounts,
however, will not be certain until the Cal ISO and Cal PX recalculate refund
amounts which FERC required that they do as soon as possible, but no later than
five months after its October 2003 Order. The Cal ISO has advised FERC in an
update report filed in February 2004 that it will not complete the recalculation
of the refund amounts until August 2004. The Company is currently awaiting the
filing of final refund information by the Cal ISO and Cal PX and is unable to
predict the ultimate outcome of this FERC proceeding, or whether PNM will be
directed to make any refunds as the result of the FERC order.
Pacific Northwest Refund Proceeding
In addition to the California refund proceedings, Puget Sound Energy,
Inc. filed a complaint at the FERC alleging that spot market prices in the
Pacific Northwest wholesale electric market were unjust and unreasonable. In
September 2001, the ALJ issued a recommended decision and declined to order
refunds associated with wholesale electric sales in the Pacific Northwest. In a
ruling similar to the one issued in the California refund proceeding, the FERC
allowed additional discovery to take place and the submission of additional
evidence in the case in March 2003. In June 2003, the FERC issued an order
terminating the proceeding and adopting the ALJ's recommendation that no refunds
should be ordered. Several parties in the proceeding filed requests for
rehearing and in November 2003, FERC denied rehearing and reaffirmed its prior
ruling that refunds were not appropriate for spot market sales in the Pacific
Northwest during the first half of 2001. In November 2003, the Port of Seattle
filed an appeal of FERC's order denying rehearing in the Ninth Circuit Court of
Appeals. As a participant in the proceedings before FERC, the Company is also
participating in the appeal proceedings. The Company is unable to predict the
ultimate outcome of this appeal, or whether PNM will ultimately be directed to
make any refunds.
FERC Show Cause Orders
The FERC initiated a market manipulation investigation, partially in
response to the bankruptcy filing of the Enron Corporation ("Enron") and to
allegations that Enron may have engaged in manipulation of portions of the
Western wholesale power market. In connection with that investigation, all
sellers into Western electric and gas markets were required to submit data
regarding short-term transactions in 2000-2001. In March 2003, the FERC staff
issued its final report, which addressed various types of conduct that the FERC
staff believed may have violated market monitoring protocols in the Cal ISO and
Cal PX tariffs. Based on the final report, the FERC issued orders to certain
companies, including Enron, requiring them to show cause why the FERC should not
revoke their authorizations to sell electricity at market-based rates. In
addition, the FERC staff recommended that the FERC issue orders requiring
28
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
certain entities to show cause why they should not be required to disgorge
profits associated with conduct deemed to violate the Cal ISO and Cal PX
tariffs, or be subject to other remedial action.
In June 2003, the FERC issued two separate orders to show cause against
PNM and over sixty other companies. In the first order (the "Gaming Practices
Order"), the FERC asserted that certain entities, including PNM, appeared to
have participated in activities that constitute gaming and/or anomalous market
behavior in violation of the Cal ISO and Cal PX tariffs during the period
January 1, 2000 to June 20, 2001. Specifically, PNM is alleged to have engaged
in a practice termed "False Import," which FERC defined as the practice of
exporting power generated by California and then reimported into California in
order to avoid price caps on in-California generation. These allegations are
based primarily on an initial Cal ISO report and the additional evidentiary
submission by California parties. The Cal ISO was ordered to submit additional
information on which the entities subject to the Show Cause Order should
respond. For PNM, the potential disgorgement for alleged "False Import"
transactions covers the period May 1, 2000 to October 1, 2000. After review of
the additional Cal ISO data and consultation with PNM, the FERC trial staff
filed a motion to dismiss PNM from the case in August 2003. In September 2003,
the California parties filed their objection to the dismissal of PNM from the
case. In January 2004, the FERC issued an order granting trial staff's motion to
dismiss PNM from the Gaming Practices docket on grounds that FERC staff's
investigation did not reveal that PNM engaged in the practice of "False Import."
As a result, the Company has been dismissed from the Gaming Practices
proceedings.
In the second order to show cause (the "Gaming Partnerships Order"), the
FERC asserts that certain entities, including PNM, acted in concert with Enron
and other market participants to engage in activities that constitute gaming
and/or anomalous market behavior in violation of the Cal ISO and Cal PX tariffs
during the period January 1, 2000 to June 20, 2001. Specifically, PNM is alleged
to have entered into "partnerships, alliances or other arrangements" with
thirteen of its customers that allegedly may have been used as market
manipulation schemes. The precise basis for certain of the FERC's allegations is
not clear from the Gaming Partnerships Order, although it appears that most
arise out of PNM's provision of "parking and lending" services to the identified
companies. The potential remedies include disgorgement of unjust profits, as
well as non-monetary remedies such as revocation of a seller's market-based rate
authority.
In September 2003, PNM filed its responses to the Gaming Partnerships
Order indicating that it did not engage in the alleged "partnerships, alliances
or other arrangements" with the alleged parties. In October 2003, PNM filed
testimony and exhibits in the case reasserting its response previously filed.
The FERC ALJ has set the case for hearing on June 28, 2004. In January 2004, the
FERC issued an order granting FERC staff's motion to dismiss seven of the
thirteen PNM customers on grounds that there was no evidence to conclude that
these companies used their commercial relationship with PNM to game the
California ISO and PX markets. In March 2004, FERC approved the settlements
entered into by two of the thirteen PNM customers and dismissed another of PNM's
customers from the proceeding. Of the three remaining PNM customers in the
docket, the FERC staff has entered into settlement agreements with two of them.
On February 27, 2004, the FERC staff and the California parties filed their
29
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
testimony. The FERC staff did not identify any improper conduct by PNM. The
California parties allege that PNM provided false information regarding parking
transactions that allowed other parties to game the California market. They
claim PNM should be required to disgorge unjust profits that they variously
calculate at between approximately $6 million and $26 million in addition to
non-monetary penalties. PNM believes that it has not engaged in improper conduct
and intends to defend itself vigorously against these allegations. PNM continues
to have discussions with the FERC staff regarding possible dismissal of the
charges against PNM. The Company is unable to predict the outcome of this
matter.
Investigation of Anomalous Bidding Behavior and Practices in the Western Markets
In June 2003, the FERC issued an order finding that certain bids into the
Cal ISO and Cal PX markets during the period May 1 through October 1, 2000
appear to have been excessive, in violation of the prohibitions against
anomalous market behavior in the market monitoring protocols of the Cal ISO and
Cal PX tariffs. The order directed the FERC's Office of Market Oversight and
Investigation ("OMOI") to conduct a further investigation into bids in excess of
$250 per MW during that period. In July 2003, PNM received a data request from
OMOI to all sellers into the Cal ISO and Cal PX markets that submitted bids in
excess of $250 per MW to the Cal ISO and Cal PX during the period covered by the
investigation. In July 2003, PNM submitted its response to OMOI's data request,
in which PNM provided justification of its bidding strategies during that
period. In July 2003, PNM joined with other sellers in filing a request for
rehearing of the June 2003 order, challenging the FERC's determination that bids
above $250 per MW into the Cal ISO and Cal PX markets during the period May 1
through October 1, 2000 were prima facie excessive or in violation of the Cal
ISO and Cal PX tariffs. The request for hearing is currently pending before the
FERC. PNM has received supplemental requests for information and data from OMOI,
to which PNM responded. The investigation is currently pending and PNM cannot
predict the outcome of OMOI's investigation, but intends to vigorously defend
itself against any allegation of wrongdoing.
California Power Exchange and Pacific Gas and Electric Bankruptcies
In January and February 2001, Southern California Edison ("SCE") and
PG&E, major purchasers of power from the Cal PX and Cal ISO, defaulted on
payments due to Cal PX for power purchased from the Cal PX in 2000. These
defaults caused the Cal PX to seek bankruptcy protection. PG&E subsequently also
sought bankruptcy protection. PNM has filed its proofs of claims in the Cal PX
and PG&E bankruptcy proceedings. Amounts due to PNM from the Cal PX or Cal ISO
for power sold to them in 2000 and 2001 total approximately $7 million. The
Company has provided allowances for the total amount due from the Cal PX and Cal
ISO.
California Attorney General Complaint
In March 2002, the California Attorney General filed a complaint with the
FERC against numerous sellers regarding prices for wholesale electric sales into
the Cal ISO and Cal PX and to the California Department of Water Resources ("Cal
DWR"). PNM was among the sellers identified in this complaint and filed its
answer and motion to intervene. In its answer, PNM defended its pricing and
30
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
challenged the theory of liability underlying the California Attorney General's
complaint. In May 2002, the FERC entered an order denying the California
Attorney General's request to initiate a refund proceeding, but directed
sellers, including PNM, to comply with additional reporting requirements with
regard to certain wholesale power transactions. PNM has made filings required by
the May 2002 order. The California Attorney General filed a petition for review
in the United States Court of Appeals for the Ninth Circuit. PNM intervened in
the Ninth Circuit appeal and is participating as a party in that proceeding. The
Ninth Circuit held oral arguments in the case in October 2003. The Company
cannot predict the outcome of this appeal. As addressed below, the California
Attorney General has also threatened litigation against PNM in state court in
California based on similar allegations.
California Attorney General Threatened Litigation
The California Attorney General has filed several lawsuits in California
state court against certain power marketers for alleged unfair trade practices
involving overcharges for electricity. In April 2002, the California Attorney
General notified PNM of his intention to file a complaint in California state
court against PNM concerning PNM's alleged failure to file rates for wholesale
electricity sold in California and for allegedly charging unjust and
unreasonable rates in the California markets. The letter invited PNM to contact
the California Attorney General's office before the complaint was filed, and PNM
has met several times with representatives of the California Attorney General's
office. Further discussions are contemplated. To date, a lawsuit has not been
filed by the California Attorney General and the Company cannot predict if a
lawsuit will be filed or the outcome of any such lawsuit.
California Antitrust Litigation
Several class action lawsuits have been filed in California state courts
against electric generators and marketers, alleging that the defendants violated
the law by manipulating the market to grossly inflate electricity prices. Named
defendants in these lawsuits include Duke Energy Corporation ("Duke") and
related entities along with other named sellers into the California market and
numerous other "unidentified defendants." Certain of these lawsuits were
consolidated for hearing in state court in San Diego, California. In May 2002,
the Duke defendants served a cross-claim on PNM. Duke also cross-claimed against
many of the other sellers into California. Duke asked for declaratory relief and
for indemnification for any damages that might ultimately be imposed on Duke.
Several defendants removed the case to federal court in California. The federal
judge has entered an order remanding the matter to state court, but the effect
of that ruling has been stayed pending appeal. PNM has joined with other
cross-defendants in motions to dismiss the cross-claim. The Company believes it
has meritorious defenses but cannot predict the outcome of this matter.
Block Forward Agreement Litigation
In February 2002, PNM was served with a declaratory relief complaint
filed by the State of California in California state court. The state's
declaratory relief complaint seeks a determination that the state is not liable
for its commandeering of certain energy contracts known as "Block Forward
31
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Agreements". The Block Forward Agreements were a form of futures contracts for
the purchase of electricity at below-market prices and served as security for
payment by PG&E and SCE for their electricity purchases through the Cal PX. When
PG&E and SCE defaulted on payment obligations incurred through the Cal PX, the
Cal PX moved to liquidate the Block Forward Agreements to satisfy in part the
obligations owed by PG&E and SCE. Before the Cal PX could liquidate the Block
Forward Agreements, California commandeered them for its own purposes. In March
2001, PNM and other similarly situated sellers of electricity through the Cal PX
filed claims for damages with the California state Victims Compensation and
Government Claims Board ("Victims Claims Board") on the theory that the state,
by commandeering the Block Forward Agreements, had deprived them of security to
which they were entitled under the terms of the Cal PX's tariff. The Victims
Claims Board denied PNM `s claim in March 2002. PNM filed a complaint against
the State of California in California state court in September 2002, seeking
damages for the state's commandeering of the Block Forward Agreements and
requesting judicial coordination with the state's declaratory relief action
filed in February 2002 on the basis that the two actions raise essentially the
same issues. The judge delayed establishing a procedural schedule for the case
pending a determination of the Cal PX's status in the litigation. The judge has
since held that the Cal PX could represent the interests of Cal PX participants
in the litigation. In March 2004, both the Cal PX and the State of California
filed demurrers against each other's actions, alleging each other's actions
failed to a state cause of action and that the issues raised in the other's case
were identical to the issues raised in their own cases. In a hearing held in
April 2004, the judge determined not to rule on the demurrers until the specific
market participants named in the declaratory action proceeding affirmatively
determined whether they would agree to be bound by any judgment reached in the
Cal PX complaint action. The various parties are working to develop a procedure
to determine what parties agree to be represented by the Cal PX in the
proceedings, and be bound any judgment in the cases. A subsequent hearing before
the judge is scheduled for May 2004. The Company cannot predict the outcome of
this matter.
New Source Review Rules
In November 1999, the United States Department of Justice ("DOJ"), at the
request of the United States Environmental Protection Agency ("EPA"), filed
complaints against seven companies, alleging that the companies over the past 25
years had made modifications to their plants in violation of the New Source
Review ("NSR") requirements and in some cases the New Source Performance
Standard ("NSPS") regulations, which could result in the requirement to make
costly environmental additions to older power plants. Whether or not the EPA
will ultimately prevail is uncertain at this time. The EPA has reached
settlements with several of the companies sued by the DOJ. In August 2003, in
one of the pending enforcement cases against Ohio Edison Company, a federal
district judge in Ohio ruled in favor of the EPA and against Ohio Edison. The
judge accepted the legal theories advanced by the government and in particular
found that eleven construction projects undertaken by the utility in that case
between 1984 and 1998 were "modifications" of the plants within the meaning of
the Clean Air Act, not "routine maintenance, repair or replacement" ("RMRR").
That case now proceeds to a remedy phase. By contrast, in a separate federal
district court proceeding against Duke, the court has made certain rulings in
summary judgment motions that appeared to potentially validate elements of the
32
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
industry position. If the EPA prevails in the position advanced in the pending
litigation, PNM may be required to make significant capital expenditures, which
could have a material adverse effect on the Company's financial position and
results of operations.
No complaint has been filed against PNM by the EPA, and the Company
believes that all of the routine maintenance, repair, and replacement work
undertaken at its power plants was and continues to be in accordance with the
requirements of NSR and NSPS. However, in October 2000, the New Mexico
Environmental Department ("NMED") made an information request of PNM, advising
PNM that the NMED was in the process of assisting the EPA in the EPA's
nationwide effort "of verifying that changes made at the country's utilities
have not inadvertently triggered a modification under the Clean Air Act's
Prevention of Significant Deterioration ("PSD") policies." PNM has responded to
the NMED information request. In late June 2002, PNM received another
information request from the NMED for a list of capital projects budgeted or
completed in 2001 or 2002. PNM has responded to the additional NMED information
request.
The National Energy Policy Development Group released the National Energy
Policy in May 2001, which called for a review of the pending EPA enforcement
actions. As a result of that review, in June 2002, the EPA announced its
intention to pursue steps to increase energy efficiency, encourage emissions
reductions and make improvements and reforms to the NSR program. The EPA
announced that, among other things, the NSR program had impeded or resulted in
the cancellation of projects that would maintain or improve reliability,
efficiency and safety of existing power plants. The EPA's June 2002 announcement
contemplated further rulemakings on NSR-related issues and expressly cautioned
that the announcement was not intended to affect pending NSR enforcement
actions. Thereafter, in December 2002, the EPA promulgated certain long-awaited
revisions to the NSR rules, along with proposals to revise the RMRR exclusion
contained in the regulations. In August 2003, the EPA issued its rule regarding
RMRR. The new RMRR rule clarifies what constitutes RMRR of damaged or worn
equipment, subject to safeguards to assure consistency with the Clean Air Act.
It provides that replacements of equipment are routine only if the new equipment
is (i) identical or functionally equivalent to the equipment being replaced;
(ii) does not cost more than 20% of the replacement value of the unit of which
the equipment is a part; (iii) does not change the basic design parameters of
the unit; and (iv) does not cause the unit to exceed any of its permitted
emissions limits. Legal challenges to the RMRR rule have been filed by several
states; other states have intervened in support of the rule. How such challenges
will ultimately be resolved cannot be predicted but an appellate court order has
stayed the effect of the RMRR rule pending the outcome of the litigation. The
Company is unable to determine the impact of this matter.
Citizen Suit Under the Clean Air Act
Following required notification, the Grand Canyon Trust and the Sierra
Club (collectively "GCT") filed a so-called "citizen suit" in federal district
court in New Mexico against PNM (but not against the other SJGS co-owners) in
May 2002. The suit alleged two violations of the Clean Air Act and related
regulations and permits. First, GCT argued that the plant has violated, and is
currently in violation of, the federal Prevention of Significant Deterioration
("PSD") rules, as well as the corresponding provisions of the New Mexico
33
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Administrative Code, at SJGS Units 3 and 4. Second, GCT alleged that the plant
has "regularly violated" the 20% opacity limit contained in SJGS's operating
permit and set forth in federal and state regulations at Units 1, 3 and 4. The
lawsuit seeks penalties as well as injunctive and declaratory relief. PNM denied
the material allegations in the complaint.
Both sides in the litigation filed motions for partial summary judgment
and the court entered an order granting PNM's motion for summary judgment on the
PSD issues, dismissing that portion of the case against PNM. A trial on certain
preliminary liability issues on the opacity claims was held in November 2003. At
this trial, the plaintiffs presented their case and PNM presented certain
defenses, including that the measurement methods relied on by GCT are
contradicted by other measurement methods or by other qualified scientific data.
On February 2, 2004 the court entered a Memorandum Opinion on PNM's general
defenses. The Memorandum Opinion rejected PNM's arguments concerning the proper
method for determining opacity compliance, but allowed PNM to present evidence
in the next part of the liability trial addressing and defending against
liability for specific alleged opacity violations. A status conference was held
on March 5, 2004. The court advised that the next phase of the liability trial
would likely be scheduled in August or September 2004. A trial on remedy issues,
if necessary, would be scheduled at a later date. PNM was directed to make a
written settlement offer, no later than May 28, with the plaintiffs directed to
respond by June 11, 2004. A settlement conference has been scheduled before the
federal magistrate on July 1, 2004. At the direction of the Court, the Company
is working with GCT to streamline the next phase of the trial. The Company may
not be able to present sufficient evidence to meet its burden of proof as
established by the Court on many of the alleged violations. As a result, the
Company and GCT are considering a process whereby the Company would waive its
right to present evidence regarding each alleged violation and instead the
litigation would proceed to the liability phase where the Company would present
its case that the alleged violations were not of such a nature as to require
large penalties or injunctive relief. PNM's corporate policy continues to be to
adhere to high environmental standards as evidenced by its ISO 14001
certification. The Company is, however, unable to predict the ultimate outcome
of the matter.
On April 29, 2004, the Company received notice from GCT of intent to file
another suit against SJGS for violations of the Clean Air Act and related
regulations and permits. The notice alleges continuing violations of the opacity
limit in the operating permit since May 16, 2002, the date of filing the
original suit and the last day allowed by the Court for determining violations
in the original suit. In addition the notice alleges failure to operate
consistent with good air pollution control practices by burning coal with ash
content in excess of boiler and emission control equipment design capacity and
operating SJGS as a "load following" facility when it was designed as a "base
load" power plant. Further, the notice alleges continuing violations for failure
to submit true, accurate and complete compliance certifications since at least
1998 by not disclosing opacity and particulate matter violations. The notice
alleges that PNM claimed water vapor as the cause of many violations of the
opacity limit when it had no evidence to support the claim and that its Excess
Emission Forms and quarterly reports for the last five years also assert excuses
for opacity violations that are invalid. Finally, the notice alleges that PNM
has not timely filed Excess Emission Forms for many deviations. The Company
believes that it has meritorious defenses and will vigorously dispute the
allegations. The Company cannot predict the ultimate outcome of the matter.
34
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Archeological Site Disturbance
The Company hired a contractor, Great Southwestern Construction, Inc.
("Great Southwestern"), to conduct certain "climb and tighten" activities on a
number of electric transmission lines in New Mexico between July 2001 and
December 2001. Those lines traverse a combination of federal, state, tribal and
private properties in New Mexico. In late May 2002, the U.S. Forest Service
("USFS") notified PNM that apparent disturbances to archeological sites had been
discovered in and around the rights-of-way for PNM's transmission lines in the
Carson National Forest in New Mexico. Great Southwestern had performed "climb
and tighten" activities on those transmission lines.
PNM has confirmed the existence of the disturbances, as well as
disturbances associated with certain arroyos that may raise issues under section
404 of the Clean Water Act. PNM has given the Corps of Engineers notice
concerning the disturbances in arroyos. The Corps of Engineers has acknowledged
the Company's notice and asked PNM to cooperate in addressing these
disturbances. The USFS verbally instructed PNM to undertake an assessment and
possible related mitigation measures with respect to the archeological sites in
question. PNM contracted for an archeological assessment and a proposed
remediation plan with respect to the disturbances and has provided the
assessment to the USFS and the federal Bureau of Land Management ("BLM"). The
Santa Fe Forest issued a notice of non-compliance to PNM for alleged
non-compliance with the terms and conditions of PNM's special use authorization
relating to maintenance of PNM's power lines on USFS land.
A subsequent preliminary investigation into other transmission lines that
were covered by the "climb and tighten" project indicated that there are
disturbances on lands governed by other federal agencies and Indian tribes. PNM
and Great Southwestern have provided notice of the potential disturbances to
these other agencies and tribes. The Company had been informed that the USFS and
BLM had commenced a criminal investigation into Great Southwestern's activities
on this project. However, the Company received verbal confirmation that the USFS
and the BLM have decided to decline criminal prosecution under the Archeological
Resources Protection Act ("ARPA") against PNM and Great Southwestern. The State
of New Mexico requested information from PNM concerning the location of
potential disturbances on state lands. The Navajo Nation has also requested
further information concerning disturbances on Navajo land, but has provided
written declination of criminal charges under ARPA against PNM and Great
Southwestern. The Navajo Nation has indicated that it may pursue civil damages
under ARPA. PNM and Great Southwestern are seeking the consent of BLM and the
USFS to address impacted drainages under these agencies jurisdiction. PNM has
provided Great Southwestern with notice and a demand for indemnity. Zurich
Insurance, the insurer for Great Southwestern, has denied coverage and indemnity
to PNM for this claim but has agreed to share the cost of a portion of the
investigation of this claim. PNM is considering its options regarding Zurich's
denial of coverage. The Company is unable to predict the outcome of this matter
and cannot estimate with any certainty the potential impact on the Company's
operations.
35
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Excess Emissions Reports
As required by law, whenever there are excess emissions from SJGS, due to
such causes as start-up, shutdown, upset, breakdown or certain other conditions,
PNM makes filings with the NMED. For some three years, PNM has been in
discussions with NMED concerning excess emissions reports for the period after
January 1997. During this period, NMED investigated the circumstances of these
excess emissions and whether these emissions involve any violation of applicable
permits and regulations. PNM and NMED have entered into several agreements
tolling the running of the statute of limitations in order to allow NMED to
complete its review of these filings. The present tolling agreement expires July
1, 2004. By letter dated September 12, 2003, the NMED advised PNM that NMED
would not excuse certain of the emissions exceeding the operating permit. The
NMED also stated that PNM had violated the opacity limits in the operating
permit and articulated a construction of the standards that NMED would apply in
evaluating opacity exceedances. Attached to the September 12, 2003 letter was
what was identified as a "draft" compliance order assessing unspecified civil
penalties. The NMED invited PNM to enter into discussions concerning the
contents of the letter and of the draft compliance order and PNM and NMED have
entered into such discussions. PNM has submitted two letters providing responses
to the draft and additional information. In addition, PNM has responded to a
number of requests by the NMED for additional information. Discussions between
the NMED and PNM are ongoing. The compliance order has not yet been finalized
and no proceeding against PNM has yet been commenced by NMED. PNM disagrees with
the construction of its operating permit that is contained in the September 12,
2003 letter, which represents a construction of the operating permit never
previously advanced by NMED. PNM is unable to predict the outcome of this matter
and cannot estimate the potential impact on the Company's operations.
Santa Fe Generating Station
PNM and the NMED conducted investigations of the gasoline and chlorinated
solvent groundwater contamination detected beneath PNM's former Santa Fe
Generating Station ("Santa Fe Station") site to determine the source of the
contamination pursuant to a 1992 Settlement Agreement ("Settlement Agreement")
between PNM and the NMED. The Settlement Agreement has been amended on several
occasions to modify the scope of the investigation and remediation activities.
No source of gasoline contamination in the groundwater was identified as
originating from the site.
PNM is of the opinion that the data compiled indicates observed
groundwater contamination originated from off-site sources. However, in August
2003, PNM elected to enter into a fifth amendment ("Fifth Amendment") to the
Settlement Agreement with the NMED to avoid a prolonged legal dispute whereby
PNM agreed to install additional remediation facilities consisting of an
additional extraction well and two additional monitoring wells to address
remaining gasoline contamination in the groundwater at and in the vicinity of
the site. PNM will continue to operate the remediation facilities until the
36
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
groundwater is cleaned up to applicable federal standards or until such time as
the NMED determines that additional remediation is not required, whichever is
earlier. The City of Santa Fe, the NMED and PNM entered into an amended
Memorandum of Understanding relating to the continued operation of the Santa Fe
Well and the remediation facilities called for under the latest Amended
Settlement Agreement.
The Fifth Amendment notes the continued presence of chlorinated solvents
in the groundwater under the former Santa Fe Station and provides that once the
remediation standards are met, the NMED anticipates that it will not require PNM
to undertake any further investigation or remediation with respect to
chlorinated solvents. In the event that chlorinated solvent concentrations
remain at levels requiring further action, the NMED will not require PNM to take
any further action with respect to the chlorinated solvent contamination until
the NMED has reviewed any new data relating to the chlorinated solvent
contamination and undertaken a good faith investigation into other potential
sources. The NMED has acknowledged that at least a portion of the chlorinated
solvent contamination observed beneath the Santa Fe Station site has originated
from off-site sources. In September 2003, PNM was verbally informed that the
Superfund Oversight Section of the NMED is conducting an investigation into the
chlorinated solvent contamination at the former Santa Fe Station site, including
other possible sources for the chlorinated solvents in the groundwater. The NMED
states that it expects to have the results of its investigation complete by
September of 2004.
Natural Gas Royalties Qui Tam Litigation
In 1999, a complaint was served on the Company alleging violations of
the False Claims Act by PNM and its subsidiaries, Gathering Company and
Processing Company (collectively, the "Company" for purposes of this
discussion), by purportedly failing to properly measure natural gas from Federal
and tribal properties in New Mexico, and consequently, underpaying royalties
owed to the Federal government. A private relator is pursuing the lawsuit. The
complaint was served after the United States Department of Justice declined to
intervene to pursue the lawsuit. The complaint seeks actual damages, treble
damages, costs and attorneys fees, among other relief.
Currently the parties are engaged in discovery on the issue of whether
the relator meets the requirements for bringing a claim under the False Claims
Act. The Company expects to participate with other defendants in a motion to
dismiss on the ground that the relator does not meet those requirements.
The Company is vigorously defending this lawsuit and is unable to
estimate the potential liability, if any, or to predict the ultimate outcome of
this lawsuit.
Richardson Matter
Another gas leaseholder, Richardson Operating Company ("Richardson"), has
leases in the area of the underground coal mine described above and has asserted
claims against SJCC. The Company understands that discussions with Richardson
37
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
are ongoing, although no formal litigation has been filed. The Company is unable
to predict the outcome of this matter.
Asbestos Cases
The Company was named in 2003 as one of a number of defendants in 21
personal injury lawsuits relating to alleged exposure to asbestos. All of these
cases involve claims of individuals, or their descendents, who worked for
contractors building, or working at, Company power plants. Some of the claims
relate to construction activities during the 1950's and 1960's, while other
claims generally allege exposure during the last 30 years. The Company has never
manufactured, sold or distributed products containing asbestos. All of these
cases involve multiple defendants. The Company was insured by a number of
different insurance policies during the time period at issue in these cases. The
Company intends to vigorously defend against these lawsuits. Although the
Company is unable to fully predict the outcome of this litigation, the Company
believes that it has adequate reserves and insurance coverage such that the
outcome of these legal proceedings would not have a material impact on the
financial condition of the Company.
San Angelo Electric Service Company ("SESCO") Matter
In October 2003, the Texas Commission on Environmental Quality ("TCEQ")
requested information from PNM concerning any involvement that PNM had with the
SESCO of San Angelo, Texas. PNM is informed that the TCEQ is conducting a site
investigation of a SESCO facility in San Angelo, Texas pursuant to the Texas
Solid Waste Act and that the SESCO site has been referred to the Superfund Site
Discovery and Assessment Program. The primary concern appears to be
polychlorinated biphenyls ("PCBs"). The TCEQ is conducting the site
investigation to determine what remediation activities are required at the SESCO
site and to identify potentially responsible parties ("PRPs"). In January 2004,
PNM submitted its preliminary response to the TCEQ request for information. The
response states that PNM previously had a "requirements" contract with SESCO for
the repair of electric transformers. It appears that a number of transformers
were sent to SESCO for repair. In addition, it appears that PNM sold a number of
retired transformers to SESCO. An informational meeting took place in Austin,
Texas on April 8, 2004 where the status of the SESCO site and the possible
establishment of a PRP Committee was discussed. So far $1.8 million has been
spent by the State and other companies on preliminary investigation and clean
up. PNM is still investigating its role in the matter, and is unable to predict
the outcome at this time.
Public Utility Holding Company Act of 1935 (PUHCA)
Since its formation as a holding company, PNM Resources has claimed the
intrastate exemption from registration under PUHCA, including its most recent
filing in February 2004. As the Holding Company mentioned in its 10-K, an order
issued by the SEC late last year denied the exemption to Enron based on the
interstate activities of its utility subsidiary, Portland General Electric. This
order called into question the continuing availability of the intrastate
exemption for companies with a certain level of interstate utility activities.
38
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
In discussions with the Office of Public Utility Regulation of the SEC regarding
its filing earlier this year, the Holding Company was informed that the SEC
views the existing interstate activities of PNM to be significant enough to
require registration based on the Enron decision. The Company will prepare to
register, seeking the appropriate authorizations under PUHCA coincident with
registration. This process will likely take several months. The Company intends
to maintain its current claim of exemption in the interim. Other than some
reorganizing of its corporate service functions the Company does not anticipate
that registration will affect its operations. Other utility subsidiaries of
registered holding companies successfully operate in New Mexico subject to the
regulatory requirements of both PUHCA and the PRC. The regulatory conditions
imposed upon the formation of the Holding Company are equivalent to those
imposed by the PRC on utilities of registered companies.
Coal Combustion Waste Disposal
SJCC currently disposes of fly ash from SJGS in the surface mine pits
adjacent to the plant. PNM and SJCC have been participating in various sessions
sponsored by EPA to consider rulemaking for the disposal of coal combustion
products, including disposal of fly ash from SJGS. The rulemaking would be
pursuant to the Bevill Amendment of RCRA. Pursuant to that Act, EPA has also
listed SJGS as a potential damage case due to claims by third parties that the
plant and mine have contaminated water resources in the region. PNM and SJCC
vigorously deny these allegations. EPA apparently is in the process of
investigating the claims. PNM cannot predict the outcome of this matter but does
not believe currently that it will have a material adverse impact on the Company
or its operations.
Other
There are various claims and lawsuits pending against the Company. The
Company is also subject to federal, state and local environmental laws and
regulations, and is currently participating in the investigation and remediation
of numerous sites. In addition, the Company periodically enters into financial
commitments in connection with its business operations. It is not possible at
this time for the Company to determine fully the effect of all litigation on its
consolidated financial statements. However, the Company has recorded a liability
where the litigation effects can be estimated and where an outcome is considered
probable. The Company does not expect that any known lawsuits, environmental
costs and commitments will have a material adverse effect on its financial
condition or results of operations.
The Company is involved in various legal proceedings in the normal course
of its business. The associated legal costs for these legal matters are accrued
when incurred. It is also the Company's policy to accrue for legal costs
expected to be incurred in connection with Statement of Financial Accounting
Standards No. 5 "Accounting for Contingencies" ("SFAS 5") legal matters when it
is probable that a SFAS 5 liability has been incurred and the amount of expected
legal costs to be incurred is reasonably estimable. These estimates include
costs for external counsel professional fees.
39
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Risks and Uncertainties
The Company's future results may be affected by various factors outside
of its control, including: changes in regional economic conditions; the outcome
of labor negotiations with unionized employees; fluctuations in fuel, purchased
power and gas prices; the actions of utility regulatory commissions; changes in
law and environmental regulations; the success of its planned generation
expansion; the cost and outcome of litigation and other legal proceedings and
investigations; the performance of generation facilities and transmission
systems; changes in accounting rules and standards; and external factors such as
weather and water supply. Because of pending federal regulatory reforms, the
public utility industry is undergoing a fundamental change. New Mexico has
repealed the Electric Utility Industry Restructuring Act of 1999 and therefore
has abandoned its plans to transform the industry from one of
vertically-integrated monopolies to one with deregulated, competitive
generation. However, the FERC has proposed a "Standard Market Design" ("SMD") to
establish rules for a market-based approach for wholesale transactions over the
transmission grid. The FERC's efforts have been opposed by a number of states,
primarily in the West and in the Southeast in transmission market, because of
concern that the SMD does not adequately take into account regional differences.
Moreover, Congress is currently debating energy legislation which could affect
the FERC's activities. In an attempt to ease concerns, on April 28, 2003, the
FERC issued a White Paper on "Wholesale Power Market Platform" describing
changes it intended to make to its SMD proposed rules. The Company's future
results will be impacted by the form of the FERC rules, if adopted; the costs of
complying with rules and legislation that may call for regulatory reforms for
the industry; and the resulting market prices for electricity and natural gas.
In addition, the Company is subject to a 2.5% retail electric rate reduction
effective September 2005 and a retail electric rate freeze through 2007 so that
the Company's financial results will depend on its ability to control costs and
grow revenues, and the implications of uncontrollable factors such as weather,
water supply, litigation and economic conditions.
(Intentionally left blank)
40
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(7) Other Income and Deductions
The following table details the components of other income and deductions
for PNM Resources, Inc. and Subsidiaries:
Three Months Ended
March 31,
------------------------------
2004 2003
-------------- --------------
(In thousands)
Other income:
Interest income................................ $ 9,921 $10,700
Miscellaneous non-operating income............. 1,667 506
-------------- --------------
$11,588 $11,206
============== ==============
Other deductions:
Transition costs write-off..................... $ - $16,720
Miscellaneous non-operating deductions......... 3,372 1,192
-------------- --------------
$ 3,372 $17,912
============== ==============
The following table details the components of other income and deductions
for PNM:
Three Months Ended
March 31,
-----------------------------
2004 2003
-------------- --------------
(In thousands)
Other income:
Interest income................................ $ 9,772 $10,117
Miscellaneous non-operating income............. 1,494 376
-------------- --------------
$11,266 $10,493
============== ==============
Other deductions:
Transition costs write-off..................... $ - $16,720
Miscellaneous non-operating deductions......... 1,317 1,761
-------------- --------------
$1,317 $18,481
============== ==============
(8) Variable Interests Entities
FASB Interpretation No. 46, Consolidation of Variable Interest Entities
(Revised December 2003) ("FIN 46R") became effective January 1, 2004 for most
types of variable interest entities, and March 31, 2004 for others. FIN46R
expands the requirement of a business enterprise to consolidate an entity beyond
the concept of a controlling interest. Under FIN46R, a business enterprise will
consolidate an entity if that entity is a variable interest entity, the business
enterprise is the primary beneficiary of the entity and the entity's risks are
not effectively dispersed among all parties involved. A variable interest entity
has certain characteristics that effectively demonstrate that the equity
41
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
investor does not have economic substance, bear the risks and receive the
rewards of the entity or direct the entity's activities. The interpretation
requires that an enterprise review all its variable interests and determine if
consolidation is appropriate.
Under the model for consolidation promulgated by FIN 46R, a power
purchase agreement ("PPA") may qualify as a variable interest if its terms
expose the purchaser to variability in supply or operating costs and the
contract is for a significant portion of the entity's generating capacity. The
Company evaluated its PPA's under the provisions of FIN46R and determined that
one purchase contract qualifies as a variable interest. The Company was unable
to obtain the necessary information to determine if consolidation was necessary.
These efforts included a formal written request to the operator of the entity
supplying power under the PPA. Through these efforts, the Company was unable to
obtain the necessary information citing legal and competitive reasons.
This variable interest PPA is a contract to purchase 132 MW of capacity
and energy for 25 years expiring in June 2020. The contract contains a fixed
capacity charge, fixed operations and maintenance ("O&M") charge and a variable
energy charge that subjects the Company to the changes in the cost of fuel and
O&M. For the three months ended March 31, 2004, the capacity charge was $1.2
million and the energy charges were $0.1 million compared to $1.3 million and
$0.1 million, respectively for the prior year period. The contract is for the
full output of a specific gas generating plant and is currently accounted for as
an operating lease by the Company. Under this contract the Company is exposed to
changes in the costs to produce energy and operate the plant.
The Company also has interests in other variable interest entities
created before January 31, 2003, for which the Company is not the primary
beneficiary. These arrangements include the Holding Company's investment in a
limited partnership and PNM's two leases with special-purpose entities. The
aggregate maximum loss exposure at March 31, 2004, that the Company could be
required to record in its income statement as a result of these arrangements
totals approximately $7.9 million. The creditors of these variable interest
entities do not have recourse to the general credit of the Company in excess of
the aggregate maximum loss exposure.
(9) New and Proposed Accounting Standards
FASB Staff Position No. 106-1 "Accounting and Disclosure Requirements
Related to Medicare Prescription Drug, Improvement and Modernization Act of 2003
("the Act")" ("FSP 106-1"). The Act introduces a prescription drug benefit under
Medicare ("Medicare Part D") as well as a federal subsidy to sponsors of retiree
health care benefit plans that provide a benefit that is at least actuarially
equivalent to Medicare Part D. FSP 106-1 permits a sponsor of a postretirement
health care plan that provides a prescription drug benefit to make a one-time
election to defer accounting for the effects of the Act. Disclosures are
required regardless of whether the sponsor elects deferral. FSP 106-1 was
effective as of December 31, 2003. In March 2004, FASB issued proposed FAS
106-b, "Accounting and Disclosure Requirements Related to the Medicare
42
PNM RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Prescription Drug, Improvement and Modernization Act of 2003", which provides
guidance on accounting for the effects of the Act and disclosure requirements
regarding the effect of the federal subsidy provided by the Act. When effective,
FSP 106-b will supersede FSP 106-1. Because of various uncertainties related to
the Company's response to this legislation and the appropriate accounting
methodology for this event, the Company continues to defer financial recognition
of this legislation until the FASB issues final accounting guidance. When
issued, that final guidance could require the Company to change previously
reported information.
(10) Subsequent Events
On April 1, 2004, the Company repriced $146.0 million of tax exempt
pollution control bonds, with a previous interest rate of 2.75%. The new
interest rate is 2.10% for a term of 2 years. These bonds will reprice next on
April 1, 2006.
On April 23, 2004, the Company entered into a rated commercial paper
program. The Company may issue up to $300 million in commercial paper for up to
365 days. The commercial paper is unsecured and the proceeds will be used to
retire borrowings under the previous unrated commercial paper program,
retirement of other short-term borrowings and other short-term cash management
needs. The Company's Credit Facility serves as a backstop for the outstanding
commercial paper.
On April 29, 2004, the Company entered into three fixed to floating
interest rate swaps. The notional principal amount is $150 million. The Company
will receive a 4.40% fixed interest payment on a semi-annual basis and pay 6
month London Interbank Offered Rate ("LIBOR") plus 58.15 basis points through
September 15, 2008. The initial floating rate is 1.95% and the first reset date
is September 15, 2004.
(Intentionally left blank)
43
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The Management's Discussion and Analysis of Financial Condition and
Results of Operations for the Holding Company and its subsidiaries and PNM and
its subsidiaries is presented on a combined basis. The Holding Company performs
substantially all of the corporate activities of PNM. These activities are
billed to PNM on a cost basis to the extent they are for the corporate
management of PNM and are allocated to the operating segments. The business of
PNM constitutes substantially all of the business of the Company. Therefore, the
results of operations of PNM are virtually identical to the consolidated results
of the Holding Company and all its subsidiaries. For discussion purposes, this
report will use the term "Company" when discussing matters of common
applicability to the Holding Company and Subsidiaries and PNM and Subsidiaries.
Readers of Management's Discussion and Analysis of Financial Condition and
Results of Operations should assume that the information presented applies to
consolidated results of operations of both the Holding Company and its
subsidiaries and PNM and its subsidiaries, except where the context or
references clearly indicate otherwise. Discussions regarding specific
contractual obligations generally reference the company that is legally
obligated. In the case of contractual obligations of PNM, these obligations are
consolidated with the Holding Company and its subsidiaries under GAAP. Broader
operational discussions refer to the Company.
The following is management's assessment of the Company's financial
condition and the significant factors affecting the results of operations. This
discussion should be read in conjunction with the Company's consolidated
financial statements and related notes. Trends and contingencies of a material
nature are discussed to the extent known.
OVERVIEW
The Holding Company is an investor-owned holding company of energy and
energy related companies. Its principal subsidiary, PNM, is an integrated public
utility primarily engaged in the generation, transmission and distribution of
electricity; transmission, distribution and sale of natural gas within the State
of New Mexico; and the sale and marketing of electricity in the Western United
States.
COMPETITIVE STRATEGY
The Company is positioned as a "merchant utility," primarily operating as
a regulated energy service provider. The Company is also engaged in the sale and
marketing of electricity in the competitive energy marketplace. As a utility,
PNM has an obligation to serve its customers under the jurisdiction of the PRC.
As a wholesale electricity provider, PNM markets excess power from the utility,
as well as unregulated generation, into a competitive marketplace. As part of
its electric wholesale power operation, the Company purchases wholesale
electricity in the open market for future resale or to provide energy to retail
customers in New Mexico when the Company's generation assets cannot satisfy
demand. The wholesale operations utilize an asset-backed strategy, whereby the
Company's aggregate net open position for the sale of electricity is covered by
the Company's forecasted excess generation capabilities.
44
As it currently operates, the Company's principal business segments,
whose operating results are regularly reviewed by the Company's management, are
Utility Operations and Wholesale Operations ("Wholesale"). Utility Operations
includes Electric Services ("Electric"), Gas Services ("Gas") and Transmission
Services ("Transmission"). These segments model the resource allocations as
mandated in an electric rate agreement approved in January 2003. Electric
consists of the distribution and generation of electricity for retail electric
customers in New Mexico. Gas includes the transportation and distribution of
natural gas to end-users. Transmission consists of the transmission of
electricity to third parties as well as to Electric and Wholesale. Wholesale
consists of the generation and sale of electricity into the wholesale market
based on three product lines, which include long-term contracts, forward sales
and short-term sales.
The Utility Operations strategy is directed at supplying reasonably
priced and reliable energy to retail customers through customer-driven
operational excellence, high quality customer service, cost efficient processes,
and improved overall organizational performance.
The Wholesale Operations strategy calls for increased net asset-backed
energy sales supported by long-term contracts and the wholesale market, whereby
the Company's aggregate net open forward electric sales position, including
short term sales, forward sales and long-term contracts, is covered by its
forecasted excess generation capacity. The net asset-backed sales are actively
monitored by management by the use of stringent risk management policies. The
Company's future growth plans call for approximately 75% of its new generation
portfolio to be committed through long-term contracts as required by the most
recent electric rate agreement. Growth will be dependent on market development
and on the Company's ability to generate funds for the Company's future
expansion. Although the current economic environment has led the Company to
scale back its expansion plans, the Company will continue to operate in the
wholesale market and seek reasonably priced asset additions. Expansion of the
Company's generating portfolio will depend on the Company's ability to acquire
favorably priced assets at strategic locations and to secure long-term
commitments for the purchase of power from the acquired plants.
OVERALL OUTLOOK
The Company experienced continued earnings growth in the three months
ended March 31, 2004 compared to the same period in 2003, excluding certain
items that occurred in 2003 for the cumulative effect of an accounting change
(see "Cumulative Effect of a Change in Accounting Principle" below) and the
write-off of transition costs related to the repeal of electric deregulation in
New Mexico in 2003 (see "Consolidated - Other Income and Deductions" below).
This growth was primarily due to the addition of new long-term power contracts,
coupled with customer growth in the Company's Utility Operations, significantly
lower interest costs and a normal winter season in New Mexico during the 2004
period. The first quarter of 2003 was one of the warmest in recent history. The
volume gains made in the Company's Utility Operations and a gas rate increase
more than offset a retail electric rate reduction that took effect in September
2003.
Wholesale Operations was the biggest contributor to the Company's
earnings growth in the first quarter of 2004. The Company continued to grow its
wholesale sales by adding long-term contracts to aid a reliable and sustainable
revenue source to support its Wholesale Operations. In addition, increased
liquidity in the marketplace and more favorable pricing allowed the Company to
45
improve its velocity, the Company's ability to optimize previously sold
capacity, from 1.76 in 2003 to 1.90 in 2004.
Retail Operations also contributed to the Company's earnings growth with
increased load growth of 3.5% in Electric and a 2.0% customer growth in Gas. The
Company also benefited from lower fuel costs for coal-fired generation and a
normal winter heating season in 2004, which increased both its retail electric
and gas gross margin. These improvements were partially offset by scheduled
outages and unplanned outages at PVNGS and Four Corners and the associated
increases in purchase power costs.
Other recent significant developments affecting the Company included:
o On January 13, 2004, the PRC approved a $22 million revenue increase
for the Company's gas utility. Increased rates for commercial and
industrial customers took effect immediately, while the increase for
residential customers began April 1, 2004.
o On February 27, 2004, Standard & Poor's raised the Holding Company's
corporate credit rating to `BBB', with a stable outlook.
o On March 10, 2004, Moody's Investors Service upgraded the rating on
debt securities of the Holding Company to Baa2.
o On April 23, 2004, the Company entered into a rated commercial paper
program (see "Financing Activities" below).
o On April 29, 2004, the Company entered into three fixed to floating
interest rate swaps (see "Financing Activities" below).
In 2004, the Company intends to continue its efforts to expand its
wholesale business by building on existing relationships and forming new
relationships with long-term contract customers. The Company expects its 2004
earnings to benefit from higher wholesale power prices and the new cost of
service gas rates approved by the PRC, forecasted lower fuel costs from the new
SJGS underground mine, significantly lower interest costs and planned
productivity improvements. Other factors that will be critical to achieving
earnings goals in 2004 include continued stable wholesale market prices and
improved plant performance, particularly in light of the retail electric rate
freeze continuing through 2007.
(Intentionally left blank)
46
RESULTS OF OPERATIONS
Three Months Ended March 31, 2004
Compared to Three Months Ended March 31, 2003
Consolidated
The Company's net earnings for the three months ended March 31, 2004 were
$24.8 million or $0.61 per diluted share of common stock, a 48.6% decrease in
net earnings compared to $48.2 million or $1.22 per diluted share of common
stock in 2003. This decrease primarily resulted from items that occurred in 2003
that did not recur in 2004. In 2003, the Company recognized the cumulative
effect of a change in accounting principle for the adoption of Statement of
Financial Accounting Standards No. 143, "Accounting for Asset Retirement
Obligations," ("SFAS 143") of $37.4 million, net of income taxes, or $0.95 per
diluted share of common stock, partially offset by the write-off of transition
costs of $10.1 million, net of income taxes, or $0.26 per diluted share of
common stock that resulted from the repeal of electric deregulation in New
Mexico in 2003.
The following discussion is based on the methodology that the Company's
management uses for making operating decisions and assessing performance of its
various business activities. As such, these segments report operating results
without regard to the effect of accounting or regulatory changes, and similar
one-time items not related to normal operations. See Note 2 - "Segment
Information" in the Notes to Consolidated Financial Statements for additional
information regarding these results and the consolidated financial statements.
In addition, adjustments related to EITF Issue 03-11 "Reporting Realized
Gains and Losses on Derivative Instruments that are subject to FASB statement
No. 133 and Not Held for Trading Purposes" are excluded. This accounting
pronouncement requires a net presentation of realized gains and losses for
certain non-trading derivatives. Management evaluates wholesale operations on a
gross presentation basis due to its net-asset-backed marketing strategy and the
importance it places on velocity.
Corporate costs, income taxes and non-operating items are discussed only
on a consolidated basis and are in conformity with the presentation in the
consolidated financial statements.
(Intentionally left blank)
47
Utility Operations
Electric
The table below sets forth the operating results for Electric.
Three Months Ended
March 31,
---------------------------------
2004 2003 Variance
---------------- -------------- ---------------
(In thousands)
Operating revenues....................... $ 130,036 $ 126,204 $ 3,832
Less: Cost of energy..................... 51,637 49,175 2,462
Intersegment energy transfer...... (13,413) (12,382) (1,031)
--------------- --------------- --------------
Gross margin............................. 91,812 89,411 2,401
--------------- --------------- --------------
Energy production costs.................. 29,521 27,450 2,071
Distribution O&M......................... 5,202 5,254 (52)
Customer related expense................. 4,103 2,279 1,824
Administrative and general............... 65 194 (129)
--------------- --------------- --------------
Total non-fuel O&M..................... 38,891 35,177 3,714
Corporate allocation..................... 15,901 12,309 3,592
Depreciation and amortization............ 13,970 15,735 (1,765)
Taxes other than income taxes............ 4,826 5,210 (384)
Income taxes............................. 4,353 5,674 (1,321)
--------------- --------------- --------------
Total non-fuel operating expenses...... 77,941 74,105 3,836
--------------- --------------- --------------
Operating income......................... $ 13,871 $ 15,306 $ (1,435)
--------------- --------------- --------------
The following table shows electric revenues by customer class and average
customers:
Electric Retail Revenues
Three Months Ended
March 31,
2004 2003 Variance
------------- ------------- --------------
(In thousands)
Residential................ $ 54,132 $ 51,008 $ 3,124
Commercial................. 56,751 55,061 1,690
Industrial................. 14,887 15,913 (1,026)
Other...................... 4,266 4,222 44
------------- ------------- --------------
$ 130,036 $ 126,204 $ 3,832
============= ============= ==============
Average customers.......... 403,245 392,529 10,716
============= ============= ==============
48
The following table shows electric sales by customer class:
Electric Sales
Three Months Ended
March 31,
2004 2003 Variance
------------- ------------- --------------
(Megawatt hours)
Residential........... 655,484 592,860 62,624
Commercial............ 776,842 720,137 56,705
Industrial............ 310,675 317,408 (6,733)
Other................. 50,689 50,176 513
------------- ------------- --------------
1,793,690 1,680,581 113,109
============= ============= ==============
Operating revenues increased $3.8 million or 3.0% over the prior year
period. Retail electricity delivery grew to 1.8 million MWh in 2004 compared to
1.7 million MWh delivered in the prior year, resulting in an increase in
revenues of $9.0 million. This volume increase was the result of load growth
year-over-year of 3.5% and a normal winter heating season in 2004. This revenue
increase was partially offset by a retail electric rate decrease of $5.3
million. The Company reduced its retail electric rates based on an electric rate
agreement, which took effect in the third quarter of 2003. Under the rate freeze
applicable to the Company, retail electric rates will be reduced by a further
2.5% effective September 2005 and will be frozen at that level through December
31, 2007.
The gross margin, or operating revenues minus cost of energy sold and
intersegment energy transfer, increased $2.4 million or 3.5% over the prior year
period. This increase is due mainly to load growth in the Company's retail
electric service territory partially offset by the rate decrease and additional
costs of $1.5 million related to the amortization of certain coal mine
reclamation costs as agreed to in the current electric rate agreement. These
costs will continue until 2017. The average cost of generation and purchased
power on a per unit basis was relatively flat year over year. Lower fuel costs
at SJGS were offset by higher purchased power costs due to outages at PVNGS in
February and March.
Total non-fuel O&M expenses increased $3.7 million or 10.6% over the
prior year period. Energy production costs increased $2.1 million or 7.5%
primarily due to increased maintenance costs of $1.6 million for increased
planned and unplanned outages in 2004. In 2004, there were 15.0% more scheduled
outage hours primarily due to work on Four Corners and 43.7% more unplanned
outage hours primarily due to various problems at PVNGS. Customer-related
expense increased $1.8 million as a result of favorable collection outcomes in
2003. Overall collection trends remained stable from year to year but did not
show improvements as in past years. Depreciation and amortization decreased $1.8
million or 11.2%. Lower electric depreciation rates for 2004 based on a new
five-year depreciation study reduced depreciation $1.0 million and the full
amortization of the Company's customer billing system at the end of 2003 reduced
depreciation $0.7 million.
49
Gas
The table below sets forth the operating results for Gas.
Three Months Ended
March 31,
--------------------------------
2004 2003 Variance
--------------- -------------- ---------------
(In thousands)
Operating revenues......................... $ 175,874 $ 44,186 $ 31,688
Less: Cost of energy....................... 129,148 102,811 26,337
--------------- -------------- ---------------
Gross margin............................... 46,726 41,375 5,351
--------------- -------------- ---------------
Energy production costs.................... 533 510 23
Transmission and distribution O&M.......... 7,585 7,980 (395)
Customer related expense................... 4,136 3,788 348
Administrative and general................. 569 95 474
--------------- -------------- ---------------
Total non-fuel O&M....................... 12,823 12,373 450
Corporate allocation....................... 9,598 7,691 1,907
Depreciation and amortization.............. 4,729 5,442 (713)
Taxes other than income taxes.............. 2,158 2,041 117
Income taxes............................... 5,812 4,138 1,674
--------------- -------------- ---------------
Total non-fuel operating expenses........ 35,120 31,685 3,435
--------------- -------------- ---------------
Operating income........................... $ 11,606 $ 9,690 $ 1,916
--------------- -------------- ---------------
The following table shows gas revenues by customer and average customers:
Gas Revenues
Three Months Ended
March 31,
2004 2003 Variance
------------- ------------- --------------
(In thousands)
Residential............ $ 115,738 $ 96,400 $ 19,338
Commercial............. 36,156 29,928 6,228
Industrial............. 668 1,031 (363)
Transportation*........ 4,304 3,745 559
Other.................. 19,008 13,082 5,926
------------- ------------- --------------
$ 175,874 $ 144,186 $ 31,688
============= ============= ==============
Average customers...... 461,128 452,167 8,961
============= ============= ==============
*Customer-owned gas
50
The following table shows gas throughput by customer class:
Gas Throughput
Three Months Ended
March 31,
2004 2003 Variance
------------- ------------- --------------
(Thousands of decatherms)
Residential............ 14,014 12,206 1,808
Commercial............. 4,818 4,334 484
Industrial............. 104 186 (82)
Transportation*........ 7,720 8,635 (915)
Other.................. 3,058 1,943 1,115
------------- ------------- --------------
29,714 27,304 2,410
============= ============= ==============
*Customer-owned gas
Operating revenues increased $31.7 million or 22.0% over the prior year
period to $175.9 million primarily because of higher natural gas prices in 2004
as compared to 2003 and an increase in gas sales volumes of 8.8%, resulting from
customer growth of 2.0% and a normal winter heating season in 2004. The Company
purchases natural gas in the open market and resells it at that open market
price to its sales-service customers. As a result, increases or decreases in gas
revenues driven by gas costs do not impact the Company's consolidated gross
margin or earnings. In addition, revenues grew $1.0 million due to a cost of
service rate increase granted by the PRC in January 2004. The PRC approved a
rate increase, which will improve gas earnings by approximately $22 million
annually. The Company estimates that approximately two-thirds of this increase
will be realized in 2004 earnings due to a delay in implementing the residential
increase until April 2004.
The gross margin, or operating revenues minus cost of energy sold,
increased $5.4 million or 12.9% over the prior year period. This increase is due
mainly to customer growth and a normal winter heating season during the first
quarter 2004 compared to the prior year period and the PRC approved rate
increase.
Total non-fuel O&M expenses increased $0.5 million or 3.6% over the prior
year period. Administrative and general costs increased $0.5 million due to
higher benefit costs. Depreciation and amortization decreased $0.7 million or
13.1% due to the Company's customer billing system being fully amortized at the
end of 2003.
(Intentionally left blank)
51
Transmission
The table below sets forth the operating results for Transmission.
Three Months Ended
March 31,
---------------------------------
2004 2003 Variance
--------------- --------------- ---------------
(In thousands)
Operating revenues...................... $ 4,414 $ 4,557 $ (143)
Intersegment revenues................. 7,896 7,636 260
--------------- --------------- --------------
Total revenues........................ 12,310 12,193 117
Less: Cost of energy.................... 1,356 1,248 108
--------------- --------------- --------------
Gross margin............................ 10,954 10,945 9
--------------- --------------- --------------
Energy production costs................. 302 262 40
Transmission O&M........................ 2,691 4,014 (1,323)
Customer related expense................ 7 5 2
Administrative and general.............. 113 69 44
--------------- --------------- --------------
Total non-fuel O&M.................... 3,113 4,350 (1,237)
Corporate allocation.................... 1,400 997 403
Depreciation and amortization........... 2,708 2,321 387
Taxes other than income taxes........... 656 639 17
Income taxes............................ 634 486 148
--------------- --------------- --------------
Total non-fuel operating expenses..... 8,511 8,793 (282)
--------------- --------------- --------------
Operating income........................ $ 2,443 $ 2,152 $ 291
--------------- --------------- --------------
Operating revenues and gross margin remained stable compared to the prior
year period. Cost of energy represents purchased transmission to support
transmission offerings.
Total non-fuel O&M expenses decreased $1.2 million or 28.4% over the
prior year period as a result of lower transmission O&M, which decreased $1.3
million or 33.0% primarily due to a decrease in operating lease costs of $1.1
million for the EIP transmission line, a portion of which was purchased in April
2003.
(Intentionally left blank)
52
Wholesale
The table below sets forth the operating results for Wholesale.
Three Months Ended
March 31,
---------------------------------
2004 2003 Variance
-------------- --------------- ---------------
(In thousands)
Operating revenues......................... $ 133,772 $ 110,617 $ 23,155
Less: Cost of energy....................... 96,147 78,269 17,878
Intersegment energy transfer......... 13,413 12,382 1,031
--------------- --------------- ---------------
Gross margin............................... 24,212 19,966 4,246
--------------- --------------- ---------------
Energy production costs.................... 7,198 6,872 326
Transmission and distribution O&M.......... 13 10 3
Customer related expense................... 419 135 284
Administrative and general................. 1,563 2,419 (856)
--------------- --------------- ---------------
Total non-fuel O&M....................... 9,193 9,436 (243)
Corporate allocation....................... 1,132 865 267
Depreciation and amortization.............. 3,754 3,491 263
Taxes other than income taxes.............. 923 811 112
Income taxes............................... 2,302 719 1,583
--------------- --------------- ---------------
Total non-fuel operating expenses........ 17,304 15,322 1,982
--------------- --------------- ---------------
Operating income........................... $ 6,908 $ 4,644 $ 2,264
--------------- --------------- ---------------
The following table shows revenues by customer class:
Wholesale Revenues
Three Months Ended
March 31,
2004 2003 Variance
------------- ------------- --------------
(In thousands)
Long-term contracts*....... $ 37,545 $ 29,018 $ 8,527
Forward sales*............. 27,961 22,938 5,023
Short-term sales........... 68,266 58,661 9,605
------------- ------------- --------------
$133,772 $ 110,617 $ 23,155
============= ============= ==============
*Includes mark-to-market gains/(losses).
(Intentionally left blank)
53
The following table shows sales by customer class:
Wholesale Sales
Three Months Ended
March 31,
2004 2003 Variance
------------- ------------- --------------
(Megawatt hours)
Long-term contracts...... 714,421 555,673 158,748
Forward sales............ 623,160 588,080 35,080
Short-term sales......... 1,643,685 1,430,858 212,827
------------- ------------- --------------
2,981,266 2,574,611 406,655
============= ============= ==============
Operating revenues increased $23.2 million or 20.9% over the prior year
period to $133.8 million. This increase in wholesale electric sales primarily
reflects additional long-term contract sales and wholesale electric price
improvements. In the first quarter of 2004, new long-term contracts added
134,320 MWhs, or $6.0 million in revenues. These contracts support the Company's
long-term growth plans and net asset-backed strategy, as described above. In
addition, the Company's forward sales increased 6.0% compared to the first
quarter of 2003. As market liquidity increased in the current quarter compared
to the earlier year period, the Company was able to increase transaction volumes
and take advantage of higher market prices. Accordingly, the Company's velocity
ratio increased 8.0%. The Company sold wholesale (bulk) power of 3.0 million MWh
of electricity for the three months ended March 31, 2004 compared to 2.6 million
MWh for the same period in 2003.
The gross margin, or operating revenues minus cost of energy sold and
intersegment energy transfer, increased $4.2 million or 21.3% over the prior
year period. Long-term contracts added $2.5 million or 59.8% of the total gross
margin increase for 2004 primarily due to additional long-term sales under new
and existing contracts. Forward sales margin increased $2.0 million or 46.3% of
the total gross margin increase reflecting higher volumes and prices. Short-term
sales margin decreased $0.2 million primarily due to the dilutive effect of less
available lower cost generation resulting from unplanned outages at the
Company's facilities and higher purchase volumes, partially offset by higher
sales volumes and higher market prices. The average price on the Company's
realized forward and short-term sales was $42 per MWh in 2004, compared to $41
per MWh in 2003. The Company had a favorable change in the unrealized
mark-to-market position of $2.7 million period over period ($1.4 million gain in
2004 versus $1.3 million loss in 2003). In addition, Wholesale margin increased
$1.7 million from sales of pollution credits.
As discussed above, adjustments of $0.6 million for the three months
ended March 31, 2004 related to EITF Issue 03-11, which requires a net
presentation of trading gains and losses and realized gains and losses for
certain non-trading derivatives, are included in Corporate and Other in the
Company's segment presentation. Management evaluates wholesale operations on a
gross presentation basis due to its net asset-backed marketing strategy.
Administrative and general decreased $0.9 million or 35.4% primarily due
to decreased benefits costs of $0.5 million at PVNGS caused by lower pension and
benefits. In addition in 2003, the Company recognized transportation costs of
$0.5 million for turbines that will be utilized in future construction for
wholesale plant growth, which did not recur in 2004.
54
Corporate and Other
Corporate administrative and general expenses, which represent costs that
are driven primarily by corporate-level activities, are allocated to the
business segments and presented in the corporate allocation line item in the
segment statements. These costs increased $6.3 million or 27.5% over the prior
year period to $29.3 million. The increase in these costs was due to a net
increase in pension and benefit costs of $2.6 million due to increased 401(k)
plan and health insurance costs of $4.2 million, partially offset by decreased
pension/retirement expense of $1.6 million, resulting from higher returns on
pension plan assets and lower retiree medical costs. In addition, computer
maintenance costs increased $1.8 million and labor costs increased $1.4 million
over the prior year period due to increased costs associated with short-term and
long-term incentive based compensation plans.
Consolidated
Other Income and Deductions
Other deductions decreased $14.5 million over the prior year period due
to the write-off of transition costs of $16.7 million in 2003, offset by lower
short-term cash investment income in 2004.
Interest Expense
Interest expense decreased $4.4 million or 24.2% over the prior year
period primarily due to refinancing of the Company's senior unsecured note and
pollution control bonds as well as lower interest costs on short-term debt. In
addition, allowance for funds used during construction ("AFUDC") and capitalized
interest increased $0.6 million in 2004 compared to 2003, reducing interest
expense further.
Income Taxes
The Company's consolidated income tax expense was $14.3 million for the
three months ended March 31, 2004, compared to $6.5 million for the three months
ended March 31, 2003. The Company's effective income tax rates for the three
months ended March 31, 2004 and 2003 were 36.5% and 37.3%, respectively. The
decrease in the effective tax rate was due to an increase in permanent tax
differences resulting from AFUDC.
Cumulative Effect of a Change in Accounting Principle
Effective January 1, 2003, the Company adopted SFAS 143. The effect of
the initial application of the new standard is reported as a cumulative effect
of a change in accounting principle. As a result, the Company recorded
additional earnings, net of taxes, of approximately $37.4 million, or $0.95 per
diluted common share, representing amounts expensed in prior years in excess of
legal obligations related to fossil-fuel and nuclear generation plants.
55
CRITICAL ACCOUNTING POLICIES
As of March 31, 2004, there have been no significant changes with regard
to the critical accounting policies disclosed in the Company's Annual Report on
Form 10-K for the year ended December 31, 2003. The policies disclosed included
the accounting for: revenue recognition; regulatory assets and liabilities;
asset impairment; pension plan; self-insurance; contingent liabilities and
environmental issues.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2004, the Company had cash and cash equivalents of $2.5
million compared to $12.7 million at December 31, 2003.
Cash provided by operating activities for the three months ended March
31, 2004 was $54.2 million compared to $6.1 million for the three months ended
March 31, 2003. This increase in cash flows was due to increased sales and
profitability in the Company's wholesale power operations and gas operations as
well as lower interest costs. Contributing to this increase was the recovery of
the cost of purchased gas from utility customers and an increase in accounts
receivable in the first quarter of 2003 due to increased demand for wholesale
energy, which has remained constant in the first quarter of 2004. n addition,
the Company contributed $1.5 million in 2004 compared to $20.0 million in 2003
to the trusts for the Company's pension and other post-retirement benefits.
Cash used for investing activities was $13.4 million in 2004 compared to
cash provided by investing activities of $33.0 million in 2003. Cash used in
2004 was primarily for construction expenditures. Cash provided by investing
activities in 2003 included the redemption of short-term investments of $79.4
million at the Holding Company level. These redemptions were primarily used for
the Company's repayment of the Eastern Interconnect Project ("EIP") long-term
debt, repayment of short-term debt, debt refinancing and pension funding. Cash
used for investing activities in 2003 included payments for combustion turbines
of $11.1 million and the repurchase of the Company's EIP bonds in the open
market for $7.4 million.
Cash used for financing activities was $51.0 million in 2004 compared to
cash generated by financing activities of $10.5 million in 2003. Financing
activities in 2004 primarily consisted of short-term debt repayments of $35.4
million. In 2003, the Company used short-term borrowings of $20.0 million for
short-term liquidity needs.
Capital Requirements
Total capital requirements include construction expenditures as well as
other major capital requirements and cash dividend requirements for both common
and preferred stock. The main focus of the Company's current construction
program is upgrading generation systems, upgrading and expanding the electric
and gas transmission and distribution systems and purchasing nuclear fuel. To
preserve a strong financial position, the Company announced in 2002 its plans to
delay capital expenditures for previously planned generation expansion.
Projections for total capital requirements for 2004 are $172 million and
projections for construction expenditures for 2004 are $154 million. Total
capital requirements are projected to be $720 million and construction
expenditures are projected to be $624 million for 2004-2008. These estimates are
56
under continuing review and subject to on-going adjustment. The Company
continues to look for appropriately priced generation acquisition and expansion
opportunities to support retail electric load growth, the continued expansion of
its long-term contract business and to supplement its natural transmission
position in the Southwest and West.
At March 31, 2004, the Company analyzed three turbines, which are
currently in storage, with a combined carrying value of approximately $79.1
million. These assets were intended for planned build-outs that have been
delayed or canceled. Based on the Company's various plans to make these turbines
operational, the Company concluded that it will fully recover its investment.
The Company expects to begin construction utilizing these assets over the next
several years. If the Company were unable to realize these plans, the Company
would be forced to recognize a loss with respect to the carrying value of these
assets depending on prevailing market conditions. The Company will continue to
analyze the turbines for impairment in accordance with SFAS 144.
In the three months ended March 31, 2004, the Company utilized cash
generated from operations and cash on hand, as well as its liquidity
arrangements, to cover its construction commitments. The Company anticipates
that internal cash generation and current debt capacity will be sufficient to
meet all of its capital requirements for the years 2004 through 2008. To cover
the difference in the amounts and timing of cash generation and cash
requirements, the Company intends to use short-term borrowings under its current
and future liquidity arrangements.
Liquidity
As of April 30, 2004, PNM had $413.0 million of liquidity arrangements.
The liquidity arrangements consist of $300.0 million from an unsecured revolving
credit facility ("Credit Facility"), $90.0 million from an accounts receivable
securitization program ("AR Securitization") and $23.0 million in local lines of
credit. As of April 30, 2004, there were no borrowings against the Credit
Facility, PNM was using $40.0 million of the AR Securitization capacity and no
borrowings under its local lines of credit. PNM had $50.0 million of commercial
paper outstanding as of April 30, 2004. In addition, the Holding Company has
$15.0 million in local lines of credit with no usage at April 30, 2004.
On April 23, 2004, the Company entered into a new rated commercial paper
program for up to $300 million. The Company will use borrowings under the new
program to repay borrowings under the previous unrated program, retirement of
other short-term borrowings and other short-term cash management needs. As of
April 30, 2004, the Company had borrowings of $44.6 million under its old
unrated program and $34.0 million under its new rated program.
The Company's ability, if required, to access the capital markets at a
reasonable cost and to provide for other capital needs is largely dependent upon
its ability to earn a fair return on equity, its results of operations, its
credit ratings, obtaining required regulatory approvals and financial and
wholesale market conditions. Financing flexibility is enhanced by providing a
high percentage of total capital requirements from internal sources and having
the ability, if necessary, to issue long-term securities and to obtain
short-term credit.
57
PNM's credit outlook is considered stable by Moody's Investor Services,
Inc. ("Moody's") and Standard and Poor's Ratings Services ("S&P"). The Company
is committed to maintaining or improving its investment grade ratings. As of
March 31, 2004, S&P rated PNM's business position as five, its senior unsecured
notes ("SUNs") as "BBB" with a stable outlook and its preferred stock as "BB+".
As of March 31, 2004, Moody's rated PNM's SUNs, senior unsecured pollution
control revenue bonds as "Baa2" and its preferred stock as "Ba1". On April 12,
2004, S&P assigned its `A-2' corporate credit and short-term debt ratings to
PNM's new commercial paper program. On April 23, 2004, Moody's assigned its
`P-2' corporate credit and short-term debt ratings to PNM's new commercial paper
program. Investors are cautioned that a security rating is not a recommendation
to buy, sell or hold securities, that it is subject to revision or withdrawal at
any time by the assigning rating organization, and that each rating should be
evaluated independently of any other rating.
Contingent Provisions of Certain Obligations
The Holding Company and PNM have a number of debt obligations and other
contractual commitments that contain contingent provisions. Some of these, if
triggered, could affect the liquidity of the Company. The Holding Company or PNM
could be required to provide security, immediately pay outstanding obligations
or be prevented from drawing on unused capacity under certain credit agreements
if the contingent requirements were to be triggered. The most significant
consequences resulting from these contingent requirements are detailed in the
discussion below.
PNM's master purchase agreement for the procurement of gas for its retail
customers contains a contingent requirement that could require PNM to provide
security for its gas purchase obligations if the seller were to reasonably
believe that PNM was unable to fulfill its payment obligations under the
agreement.
The master agreement for the sale of electricity in the Western Systems
Power Pool ("WSPP") contains a contingent requirement that could require PNM to
provide security if its debt were to fall below investment grade rating. The
WSPP agreement also contains a contingent requirement, commonly called a
material adverse change ("MAC") provision, which could require PNM to provide
security if a material adverse change in its financial condition or operations
were to occur.
PNM's committed Credit Facility contains a "ratings trigger," for pricing
purposes only. If PNM is downgraded or upgraded by the ratings agencies, the
result would be an increase or decrease in interest cost, respectively. PNM's
committed Credit Facility contains a MAC provision, which, if triggered, could
prevent PNM from drawing on its unused capacity under the Credit Facility. On
April 16, 2004, the Company amended the MAC provision of the credit agreement to
allow drawing to repay commercial paper. In addition, the Credit Facility
contains a contingent requirement that requires PNM to maintain a
debt-to-capital ratio, inclusive of off-balance sheet debt, of less than 65% as
well as maintenance of an earnings before interest, taxes, depreciation and
amortization ("EBITDA")/interest coverage ratio of three times. If PNM's
debt-to-capital ratio, inclusive of off-balance sheet debt, were to exceed 65%
or its interest coverage ratio falls below 3.0, PNM could be required to repay
all borrowings under the Credit Facility, be prevented from drawing on the
unused capacity under the Credit Facility, and be required to provide security
for all outstanding letters of credit issued under the Credit Facility.
58
If a contingent requirement were to be triggered under the Credit
Facility resulting in an acceleration of the outstanding loans under the Credit
Facility, a cross-default provision in the PVNGS leases could occur if the
accelerated amount is not paid. If a cross-default provision is triggered, the
lessors have the ability to accelerate their rights under the leases, including
acceleration of all future lease payments.
Financing Activities
On April 1, 2004, the Company repriced $146.0 million of tax exempt
pollution control bonds, with a previous interest rate of 2.75%. The new
interest rate is 2.10% for a term of 2 years. These bonds will reprice next on
April 1, 2006. The Company will reprice $36.0 million of tax exempt pollution
control bonds by July 1, 2004.
On April 23, 2004, the Company entered into a rated commercial paper
program. The Company may issue up to $300 million in commercial paper for up to
365 days. The commercial paper is unsecured and the proceeds will be used to
retire borrowings under the previous unrated commercial paper program,
retirement of other short-term borrowings and other short-term cash management
needs. The Company's Credit Facility serves as a backstop for the outstanding
commercial paper.
On April 29, 2004, the Company entered into three fixed to floating
interest rate swaps. The notional principal amount is $150 million. The Company
will receive a 4.40% fixed interest payment on a semi-annual basis and pay 6
month LIBOR plus 58.15 basis points through September 15, 2008. The initial
floating rate is 1.95% and the first reset date is September 15, 2004.
The Company could enter into long-term financings for the purpose of
strengthening its balance sheet, funding growth and reducing its cost of
capital. The Company continues to evaluate its investment and debt retirement
options to optimize its financing strategy and earnings potential. No additional
first mortgage bonds may be issued under PNM's mortgage. The amount of SUNs that
may be issued is not limited by the SUNs indenture. However, debt-to-capital
requirements in certain of PNM's financial instruments and regulatory agreements
would ultimately limit the amount of additional debt PNM would issue.
Capital Structure
The Company's capitalization, including current maturities of long-term
debt, is shown below:
March 31, December 31,
2004 2003
------------------- -----------------
Common Equity.................. 52.1% 51.9%
Preferred Stock................ 0.6 0.6
Long-term Debt................. 47.3 47.5
------------------- -----------------
Total Capitalization*....... 100.0% 100.0%
=================== =================
* Total capitalization does not include as debt the present value of
PNM's operating lease obligations for PVNGS Units 1 and 2, EIP and
the Delta operating lease which was $178.6 million as of March 31,
2004 and $179.4 million as of December 31, 2003.
59
OTHER ISSUES FACING THE COMPANY
See Note 6 - "Commitments and Contingencies" in the Notes to Consolidated
Financial Statements.
NEW AND PROPOSED ACCOUNTING STANDARDS
See Note 9 - "New and Proposed Accounting Standards" in the Notes to
Consolidated Financial Statements.
DISCLOSURE REGARDING FORWARD LOOKING STATEMENTS
Statements made in this filing that relate to future events or the
Company's expectations, projections, estimates, intentions, goals, targets and
strategies are made pursuant to the Private Securities Litigation Reform Act of
1995. Readers are cautioned that all forward-looking statements are based upon
current expectations and are subject to risks and uncertainties. The Company
assumes no obligation to update this information.
Because actual results may differ materially from those expressed or
implied by these forward-looking statements, the Company cautions readers not to
place undue reliance on these forward-looking statements. Future financial
results will be affected by a number of factors, including interest rates,
weather, water supply, fuel costs, seasonability and other changes in supply and
demand in the market for electric power, wholesale power prices, market
liquidity, the competitive environment in the electric and natural gas
industries, the performance of generating units and transmission system, state
and federal regulatory and legislative decisions and actions, the recoverability
of regulatory assets, the cost and outcome of legal proceedings and labor
negotiations with union employees, changes in applicable accounting principles
and the performance of state, regional and national economies. See also Item 3
below for information about the risks associated with the Company's use of
derivative financial instruments.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company uses derivative financial instruments to manage risk as it
relates to changes in natural gas and electric prices, changes in interest rates
and, historically, adverse market changes for investments held by the Company's
various trusts. Additionally, the Company uses derivative instruments based on
certain financial composite indices as part of its enhanced cash management
program. The Company also uses certain derivative instruments for wholesale
power marketing transactions in order to take advantage of favorable price
movements and market timing activities in the wholesale power markets. The
following additional information is provided.
Risk Management
The Company controls the scope of its various forms of risk through a
comprehensive set of policies and procedures and oversight by senior level
management and the Holding Company Board of Directors. The Board's Finance
Committee sets the risk limit parameters. The Risk Management Committee ("RMC"),
60
comprised of corporate and business segment officers and other managers,
oversees all of the activities, which include commodity price, credit, equity,
interest rate and business risks. The RMC has oversight for the ongoing
evaluation of the adequacy of the risk control organization and policies. The
Company has a risk control organization, headed by the Director of Financial
Risk Management ("Risk Manager"), which is assigned responsibility for
establishing and enforcing the policies, procedures and limits and evaluating
the risks inherent in proposed transactions, on an enterprise-wide basis.
The RMC's responsibilities specifically include: establishment of a
general policy regarding risk exposure levels and activities in each of the
business segments; recommendation of the types of instruments permitted;
authority to establish a general policy regarding counterparty exposure and
limits; authorization and delegation of transaction limits; review and approval
of controls and procedures; review and approval of models and assumptions used
to calculate mark-to-market and risk exposure; authority to approve and open
brokerage and counterparty accounts; review of hedging and risk activities; and
quarterly reporting to the Finance Committee and the Board of Directors on these
activities.
The RMC also proposes Value at Risk ("VAR") limits to the Finance
Committee. The Finance Committee ultimately sets the aggregate VAR limits.
It is the responsibility of each business segment to create its own
control procedures and policies within the parameters established by the Finance
Committee. The RMC reviews and approves these policies, which are created with
the assistance of the Corporate Controller, Director of Internal Audit and the
Risk Manager. Each business segment's policies address the following controls:
authorized risk exposure limits; authorized instruments and markets; authorized
personnel; policies on segregation of duties; policies on mark-to-market
accounting; responsibilities for deal capture; confirmation procedures;
responsibilities for reporting results; statement on the role of derivative
transactions; and limits on individual transaction size (nominal value).
To the extent an open position exists, fluctuating commodity prices can
impact financial results and financial position, either favorably or
unfavorably. As a result, the Company cannot predict with certainty the impact
that its risk management decisions may have on its businesses, operating results
or financial position.
Commodity Risk
Marketing and procurement of energy often involves market risks
associated with managing energy commodities and establishing open positions in
the energy markets, primarily on a short-term basis. These risks fall into three
different categories: price and volume volatility, credit risk of counterparties
and adequacy of the control environment. PNM routinely enters into forward
contracts and options to hedge purchase and sale commitments, fuel requirements
and to enhance returns and minimize the risk of market fluctuations on the
Wholesale Operations.
The Company's Wholesale Operations, including long-term contracts,
forward sales and short-term sales, are managed through a net asset-backed
marketing strategy, whereby PNM's aggregate net open forward contract position
is covered by its forecasted excess generation capabilities. PNM is exposed to
61
market risk if its generation capabilities were disrupted or if its retail load
requirements were greater than anticipated. If PNM were required to cover all or
a portion of its net open contract position, it would have to meet its
commitments through market purchases.
Under the derivative accounting rules and the related accounting rules
for energy contracts, the Company accounts for its various financial derivative
instruments for the purchase and sale of energy differently based on
management's intent when entering into the contract. Energy contracts which meet
the definition of a derivative under SFAS 133 and do not qualify for a normal
purchase or sale designation are recorded on the balance sheet at fair market
value at each period end. The changes in fair market value are recognized in
earnings unless specific hedge accounting criteria are met. Should an energy
transaction qualify as a hedge under SFAS 133, fair market value changes from
year to year are recognized on the balance sheet with a corresponding charge to
other comprehensive income. Gains or losses are recognized when the hedged
transaction settles. Derivatives that meet the normal sales and purchases
exceptions within SFAS 133 as amended, are not marked to market but rather
recorded in results of operations when the underlying transaction settles.
The following table shows the net fair value of mark-to-market energy
contracts included in the balance sheet:
March 31, December 31,
2004 2003
------------- -------------
(In thousands)
Mark-to-Market Energy Contracts:
Current asset...................................... $6,365 $2,098
Long-term asset.................................... 2,089 1,359
------------- -------------
Total mark-to-market assets................... 8,454 3,457
------------- -------------
Current liability.................................. (5,023) (1,941)
Long-term liability................................ (1,238) (1,083)
------------- -------------
Total mark-to-market liabilities.............. (6,261) (3,024)
------------- -------------
Net fair value of mark-to-market energy contracts.... $2,193 $ 433
============= =============
The mark-to-market energy portfolio positions represent net assets at
March 31, 2004 and December 31, 2003 after netting all applicable open purchase
and sale contracts.
The market prices used to value PNM's mark-to-market energy portfolio are
based on closing exchange prices and broker quotations. As of March 31, 2004 and
December 31, 2003, PNM did not have any outstanding contracts that were valued
using methods other than quoted prices. The Company did not change its methods
for valuing its mark-to-market energy portfolio in 2004 as compared to 2003.
62
The following table provides detail of changes in the Company's
mark-to-market energy portfolio net asset or liability balance sheet position
from one period to the next:
Three Months Ended
March 31,
2004 2003
------------- -------------
(In thousands)
Sources of Fair Value Gain/(Loss)
Fair value at beginning of year.............. $ 433 $ (927)
Amount realized on contracts delivered
during period............................. 411 841
Changes in fair value........................ 1,349 (1,259)
------------- -------------
Net fair value at end of period.............. $ 2,193 $(1,345)
============= =============
Net change recorded as mark-to-market........ $ 1,760 $ (418)
============= =============
The following table provides the maturity of the net assets/(liabilities)
of the Company, giving an indication of when these mark-to-market amounts will
settle and generate/(use) cash. The following values were determined using
broker quotes:
Fair Value at March 31, 2004
Maturities
------------------------------------------------------
Less than
1 year 1-3 Years Total
------------------ --------------- ----------------
(In thousands)
$ 1,323 $ 870 $ 2,193
As of March 31, 2004, a decrease in market pricing of PNM's
mark-to-market energy portfolio by 10% would have resulted in a decrease in net
earnings of less than 1%. Conversely, an increase in market pricing of this
portfolio by 10% would have resulted in an increase in net earnings of less than
1%.
The Company assesses the risk of these long-term contracts and wholesale
sales activities using the VAR method to maintain the Company's total exposure
within management-prescribed limits. The Company utilizes the
variance/covariance model of VAR, which is a probabilistic model that measures
the risk of loss to earnings in market sensitive instruments. The
variance/covariance model relies on statistical relationships to analyze how
changes in different markets can affect a portfolio of instruments with
different characteristics and market exposure. VAR models are relatively
sophisticated. The quantitative risk information, however, is limited by the
parameters established in creating the model. The instruments being evaluated
may trigger a potential loss in excess of calculated amounts if changes in
commodity prices exceed the confidence level of the model used. The VAR
methodology employs the following critical parameters: volatility estimates,
market values of open positions, appropriate market-oriented holding periods and
seasonally adjusted correlation estimates. The Company's portfolio VAR
calculation considers the Company's forward position for the preceding eighteen
months. The mark-to-market VAR is calculated through the contract periods. The
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Company uses a holding period of three days as the estimate of the length of
time that will be needed to liquidate the positions. The volatility and the
correlation estimates measure the impact of adverse price movements both at an
individual position level as well as at the total portfolio level. The
two-tailed confidence level established is 99%. For example, if VAR is
calculated at $10.0 million, it is estimated at a 99% confidence level that if
prices move against PNM's positions, the Company's pre-tax gain or loss in
liquidating the portfolio would not exceed $10.0 million in the three days that
it would take to liquidate the portfolio.
The Company's VAR is regularly monitored by the Company's RMC. The RMC
has put in place procedures designed to ensure that increases in VAR are
reviewed and, if deemed necessary, acted upon to reduce exposures. The VAR
represents an estimate of the potential gains or losses that could be recognized
on PNM's wholesale power marketing portfolios given current volatility in the
market, and is not necessarily indicative of actual results that may occur,
since actual future gains and losses will differ from those estimated. Actual
gains and losses may differ due to actual fluctuations in market rates,
operating exposures, and the timing thereof, as well as changes to PNM's
wholesale power marketing portfolios during the year.
The Company accounts for the sale of electric generation in excess of its
retail needs or the purchase of power for retail needs as normal purchases and
sales under SFAS 133. Transactions that do not meet the normal purchase or sale
exception or the definition of a hedge under SFAS 133 are accounted for as
energy marketing contracts and comprise PNM's mark-to-market portfolio. The VAR
for the mark-to-market portfolio was $112 thousand at March 31, 2004. The
Company also calculates a portfolio VAR for the preceding 18 months, which in
addition to its mark-to-market portfolio includes all contracts designated as
normal sales and purchases, hedges, and its estimated excess generation assets.
This excess is determined using average peak forecasts for the respective block
of power in the forward market. The Company's portfolio VAR was $16.7 million at
March 31, 2004.
The following table shows the high, average and low market risk as
measured by VAR on the Company's mark-to-market portfolio:
Three Months Ended
March 31, 2004
Period
High Average Low End
-------- -------- ------ --------
(In thousands)
Three day holding period, 99%
two-tailed confidence level....... $206 $ 93 $ - $112
One day holding period, 99%
two-tailed confidence level....... $119 $ 53 $ - $ 65
Ten day holding period, 95%
two-tailed confidence level....... $287 $129 $ - $156
Credit Risk
PNM is exposed to credit losses in the event of non-performance or
non-payment by counterparties. The Company uses a credit management process to
assess and monitor the financial conditions of counterparties. Credit exposure
is also regularly monitored by the RMC. The Company provides for losses due to
market and credit risk. PNM's credit risk with its largest counterparty as of
March 31, 2004 was $29.5 million.
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The following table provides information related to PNM's credit exposure
as of March 31, 2004. The Company does not hold any credit collateral as of
March 31, 2004. The table further delineates that exposure by the credit
worthiness (credit rating) of the counterparties and provides guidance as to the
concentration of credit risk to individual counterparties PNM may have. Also
provided is an indication of the maturity of a company's credit risk by credit
ratings of the counterparties.
Schedule of Wholesale Operations Credit Risk Exposure
March 31, 2004
Net
(b) Number Exposure
Net of of
Credit Counter- Counter-
Risk parties parties
Rating (a) Exposure >10% >10%
- ----------------------------- -------------- ------------ --------------
(In thousands)
Investment grade............. $49,207 1 $29,514
Non-investment grade......... 86 -
Split rating................. 4,686 -
Internal ratings
Investment grade.......... - -
Non-investment grade...... 15,585 1 7,166
-------------- --------------
Total................ $69,564 $36,680
============== ==============
(a) Rating - Included in "Investment Grade" are counterparties with a minimum
S&P rating of BBB- or Moody's rating of Baa3. If the counterparty has
provided a guarantee by a higher rated entity (e.g., its parent),
determination is based on the rating of its guarantor. The "Internal
Ratings - Investment Grade" includes those counterparties that are
internally rated as investment grade in accordance with the guidelines
established in the Company's credit policy.
(b) The Net Credit Risk Exposure is the net credit exposure to PNM from its
Wholesale Operations. This includes long-term contracts, forward sales
and short-term sales. The exposure captures the net amounts due to PNM
from receivables/payables for realized transactions, delivered and
unbilled revenues, and mark-to-market gains/losses (pursuant to contract
terms). Exposures are offset according to legally enforceable netting
arrangements and reduced by credit collateral. Credit collateral includes
cash deposits, letters of credit and performance bonds received from
counterparties. Amounts are presented before those reserves that are
determined on a portfolio basis.
65
Maturity of Credit Risk Exposure
As of March 31, 2004
Less than Total Net
Rating 2 Years 2-5 Years Exposure
- ------------------------------ -------------- -------------- --------------
(In thousands)
Investment grade.............. $35,028 $14,179 $49,207
Non-investment grade.......... 86 - 86
Split rating.................. 4,686 - 4,686
Internal ratings
Investment grade........... - - -
Non-investment grade....... 15,585 - 15,585
-------------- -------------- --------------
Total................. $55,385 $14,179 $69,564
============== ============== ==============
Natural Gas Supply Contracts
PNM hedges certain portions of natural gas supply contracts in order to
protect its retail customers from adverse price fluctuations in the natural gas
market. The financial impact of all hedge gains and losses, including the
related costs of the program, is recoverable through the purchased gas
adjustment clause. As a result, earnings are not affected by gains and losses
generated by these instruments.
Interest Rate Risk
As of March 31, 2004 the Company had liquidated its investment portfolio
of fixed-rate government obligations and corporate securities.
PNM has long-term debt which subjects it to the risk of loss associated
with movements in market interest rates. The majority of the Company's long-term
debt is fixed-rate debt, and therefore, does not expose the Company's earnings
to a major risk of loss due to adverse changes in market interest rates.
However, the fair value of all long-term debt instruments would increase by
approximately 3.25% or $33.5 million if interest rates were to decline by 50
basis points from their levels at March 31, 2004. As of March 31, 2004, the fair
value of PNM's long-term debt was $1,030 million as compared to a book value of
$987 million. In general, an increase in fair value would impact earnings and
cash flows if PNM were to re-acquire all or a portion of its debt instruments in
the open market prior to their maturity.
During the three months ended March 31, 2004, PNM contributed cash of
$1.5 million to external trusts for other post-retirement benefits for plan year
2004. The securities held by the trusts had an estimated fair value of $578.1
million as of March 31, 2004, of which approximately 29.1% were fixed-rate debt
securities that subject the Company to risk of loss of fair value with movements
in market interest rates. If rates were to increase by 50 basis points from
their levels at March 31, 2004, the decrease in the fair value of the securities
would be 2.7% or $4.5 million. PNM does not currently recover or return through
rates any losses or gains on these securities; therefore, the Company is at risk
for shortfalls in its funding of its obligations due to investment losses. The
66
Company does not believe that long-term market returns over the period of
funding will be less than required for the Company to meet its obligations.
However, this belief is based on assumptions about future returns that are
inherently uncertain.
Equity Market Risk
PNM contributes to trusts established to fund its share of the
decommissioning costs of PVNGS and pension and other post-retirement benefits.
The trusts hold certain equity securities as of March 31, 2004. These equity
securities also expose the Company to losses in fair value. Approximately 58.8%
of the securities held by the various trusts were equity securities as of March
31, 2004. The Company is currently implementing a change in the asset allocation
in the pension portfolio, which will reduce the domestic equity exposure from
55.0% to 47.5%. Similar to the debt securities held for funding decommissioning
and certain pension and other post-retirement costs, PNM does not recover or
earn a return through rates on any losses or gains on these equity securities.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of disclosure controls and procedures.
The Company's principal executive officer and principal financial officer
have concluded that the Company's disclosure controls and procedures, based on
their evaluation of these disclosure controls and procedures, as of the end of
the period covered by this report, are effective to ensure that material
information relating to the Company, including its consolidated subsidiaries,
was made known to them by others within those entities, particularly during the
period in which the periodic reports are being prepared. There was no change in
the Company's internal control over financial reporting that occurred during the
Company's most recent fiscal quarter that has materially affected, or is
reasonably likely to materially affect, the Company's internal control over
financial reporting.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Santa Fe Generating Station ("Santa Fe Station")
See Note 6 - "Commitments and Contingencies - Santa Fe Generating
Station" in the Notes to Consolidated Financial Statements.
Natural Gas Royalties Qui Tam Litigation
See Note 6 - "Commitments and Contingencies - Natural Gas Royalties Qui
Tam Litigation" in the Notes to Consolidated Financial Statements.
Citizen Suit Under the Clean Air Act
See Note 6 - "Commitments and Contingencies - Citizen Suit Under the
Clean Air Act" in the Notes to Consolidated Financial Statements.
67
California Attorney General Complaint
See Note 6 - "Commitments and Contingencies - Western United States
Wholesale Power Market - California Attorney General Complaint" in the Notes to
Consolidated Financial Statements.
California Antitrust Litigation
See Note 6 - "Commitments and Contingencies - Western United States
Wholesale Power Market - California Antitrust Litigation" in the Notes to
Consolidated Financial Statements.
San Angelo Electric Service Company ("SESCO") Matter
See Note 6 - "Commitments and Contingencies - San Angelo Electric Service
Company ("SESCO") Matter" in the Notes to Consolidated Financial Statements.
(Intentionally left blank)
68
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits:
10.24.1 Officer Life Insurance Plan Effective January 1, 2004
10.52.1 First Amendment to PNM Resources, Inc. Executive Spending Account
Plan effective January 1, 2004.
15.1 Letter Re: Unaudited Interim Financial Information for PNM
Resources, Inc. and Subsidiaries.
15.2 Letter Re: Unaudited Interim Financial Information for Public
Service Company of New Mexico.
31.1 Chief Executive Officer Certification Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
31.2 Chief Financial Officer Certification Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
32.1 Chief Executive Officer Certification Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.
32.2 Chief Financial Officer Certification Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.
b. Reports on Form 8-K:
Report dated and filed January 14, 2004 pursuant to Item 5 of Form 8-K reporting
that the New Mexico Public Regulation Commission approved a $22 million increase
in revenues for the PNM Resources gas utility.
(Intentionally left blank)
69
Signature
- ---------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrants have duly caused this report to be signed on their behalf by the
undersigned thereunto duly authorized.
PNM RESOURCES, INC. AND
PUBLIC SERVICE COMPANY OF NEW MEXICO
---------------------------------------------
(Registrants)
Date: May 7, 2004 /s/ Thomas G. Sategna
---------------------------------------------
Thomas G. Sategna
Vice President and Corporate Controller
(Officer duly authorized to sign this report)
70