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 JUNE 30, 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 file number 1-31449
TEXAS GENCO HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
TEXAS 76-0695920
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1111 LOUISIANA (713) 207-1111
HOUSTON, TEXAS 77002 (Registrant's telephone number,
(Address and zip code of principal including area code)
executive offices)
___________________________
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
As of August 1, 2004, Texas Genco Holdings, Inc., (Texas Genco) had
80,000,000 shares of common stock outstanding, including 64,764,240 shares which
were held by Utility Holding, LLC, a wholly owned subsidiary of CenterPoint
Energy, Inc.
TEXAS GENCO HOLDINGS, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 2004
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements................................................................... 1
Statements of Consolidated Income
Three Months and Six Months Ended June 30, 2003 and 2004 (unaudited).................... 1
Consolidated Balance Sheets
December 31, 2003 and June 30, 2004 (unaudited)......................................... 2
Statements of Consolidated Cash Flows
Six Months Ended June 30, 2003 and 2004 (unaudited)..................................... 3
Notes to Unaudited Consolidated Financial Statements....................................... 4
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.. 9
Item 3. Quantitative and Qualitative Disclosures About Market Risk............................. 16
Item 4. Controls and Procedures................................................................ 17
PART II. OTHER INFORMATION
Item 1. Legal Proceedings...................................................................... 18
Item 4. Submission of Matters to a Vote of Security Holders.................................... 18
Item 6. Exhibits and Reports on Form 8-K....................................................... 19
i
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
From time to time, we make statements concerning our expectations,
beliefs, plans, objectives, goals, strategies, future events or performance and
underlying assumptions and other statements that are not historical facts. These
statements are "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. Actual results may differ materially
from those expressed or implied by these statements. You can generally identify
our forward-looking statements by the words "anticipate," "believe," "continue,"
"could," "estimate," "expect," "forecast," "goal," "intend," "may," "objective,"
"plan," "potential," "predict," "projection," "should," "will," or other similar
words.
We have based our forward-looking statements on our management's beliefs
and assumptions based on information available to our management at the time the
statements are made. We caution you that assumptions, beliefs, expectations,
intentions and projections about future events may and often do vary materially
from actual results. Therefore, we cannot assure you that actual results will
not differ materially from those expressed or implied by our forward-looking
statements.
The following are some of the factors that could cause actual results to
differ materially from those expressed or implied in our forward-looking
statements:
- state and federal legislative and regulatory actions or
developments, including deregulation, re-regulation and
restructuring of the Electric Reliability Council of Texas (ERCOT)
market; and changes in, or application of, environmental or other
laws or regulations to which we are subject;
- the timing and extent of changes in commodity prices, particularly
natural gas;
- the effects of competition, including the extent and timing of the
entry of additional competitors in the ERCOT market;
- the results of our capacity auctions;
- weather variations and other natural phenomena;
- commercial bank and financial market conditions, and our access to
capital and credit;
- non-payment of our services due to financial distress of our
customers, including Reliant Energy, Inc. (formerly named Reliant
Resources, Inc.) (RRI);
- the successful consummation and timing of the sale of the company to
GC Power Acquisition LLC pursuant to the definitive agreement
described under "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Recent Events -- Definitive
Agreement for the Sale of the Company" in Item 2 of this Quarterly
Report on Form 10-Q;
- nonperformance by the counterparty to the master power purchase and
sale agreement our subsidiary, Texas Genco, LP, entered into in
connection with the execution of the definitive agreement for the
sale of the company to GC Power Acquisition LLC; and
- other factors we discuss in "Risk Factors" beginning on page 18 of
the Texas Genco Holdings, Inc. Annual Report on Form 10-K for the
year ended December 31, 2003.
Additional risk factors are described in other documents we file with the
Securities and Exchange Commission.
You should not place undue reliance on forward-looking statements. Each
forward-looking statement speaks only as of the date of the particular
statement.
ii
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
TEXAS GENCO HOLDINGS, INC.
STATEMENTS OF CONSOLIDATED INCOME
(THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
---------------------------- ----------------------------
2003 2004 2003 2004
--------- --------- --------- ---------
REVENUES ............................................. $ 578,511 $ 552,718 $ 937,098 $ 991,847
--------- --------- --------- ---------
EXPENSES:
Fuel costs ......................................... 349,318 263,992 557,307 450,307
Purchased power .................................... 22,974 18,098 34,968 26,368
Operation and maintenance .......................... 105,301 98,872 210,651 200,199
Depreciation and amortization ...................... 39,391 40,607 78,470 80,976
Taxes other than income taxes ...................... 11,483 12,122 22,774 24,378
--------- --------- --------- ---------
Total ......................................... 528,467 433,691 904,170 782,228
--------- --------- --------- ---------
OPERATING INCOME ..................................... 50,044 119,027 32,928 209,619
OTHER INCOME ......................................... 1,089 1,667 1,289 2,055
INTEREST EXPENSE, NET ................................ (2,822) (114) (5,625) (140)
--------- --------- --------- ---------
INCOME BEFORE INCOME TAXES AND CUMULATIVE EFFECT
OF ACCOUNTING CHANGE ............................... 48,311 120,580 28,592 211,534
INCOME TAX EXPENSE ................................... (15,018) (40,464) (6,181) (70,526)
--------- --------- --------- ---------
INCOME BEFORE CUMULATIVE EFFECT OF ACCOUNTING
CHANGE ............................................. 33,293 80,116 22,411 141,008
CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET OF TAX ... -- -- 98,910 --
--------- --------- --------- ---------
NET INCOME ........................................... $ 33,293 $ 80,116 $ 121,321 $ 141,008
========= ========= ========= =========
BASIC AND DILUTED EARNINGS PER SHARE:
Income Before Cumulative Effect of Accounting
Change .......................................... $ 0.42 $ 1.00 $ 0.28 $ 1.76
Cumulative Effect of Accounting Change, net of
tax ............................................. -- -- 1.24 --
--------- --------- --------- ---------
Net Income ......................................... $ 0.42 $ 1.00 $ 1.52 $ 1.76
========= ========= ========= =========
See Notes to the Company's Interim Financial Statements
1
TEXAS GENCO HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
DECEMBER 31, JUNE 30,
2003 2004
------------ -----------
ASSETS
CURRENT ASSETS:
Cash ........................................................................ $ 33 $ 38
Short-term investments ...................................................... 44,525 184,522
Short-term note receivable - affiliated companies, net ...................... -- 1,283
Customer accounts receivable ................................................ 78,122 103,139
Accounts receivable, other .................................................. 3,716 2,486
Materials and supplies ...................................................... 92,409 91,569
Fuel stock .................................................................. 77,283 76,315
Prepaid expenses and other current assets ................................... 2,304 3,484
----------- -----------
Total current assets ................................................... 298,392 462,836
----------- -----------
PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment ............................................... 9,834,904 9,899,135
Less accumulated depreciation and amortization .............................. (5,709,309) (5,804,711)
----------- -----------
Property, plant and equipment, net ........................................ 4,125,595 4,094,424
----------- -----------
OTHER ASSETS:
Nuclear decommissioning trust ............................................... 189,182 198,275
Other ....................................................................... 26,462 23,305
----------- -----------
Total other assets ..................................................... 215,644 221,580
----------- -----------
TOTAL ASSETS ........................................................ $ 4,639,631 $ 4,778,840
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable - affiliated companies, net ............................... $ 7,802 $ 11,517
Accounts payable, fuel ...................................................... 68,747 97,111
Accounts payable, other ..................................................... 40,165 48,188
Taxes and interest accrued .................................................. 107,605 62,358
Deferred capacity auction revenue ........................................... 86,853 109,566
Other ....................................................................... 17,579 13,870
----------- -----------
Total current liabilities .............................................. 328,751 342,610
----------- -----------
OTHER LIABILITIES:
Accumulated deferred income taxes, net ...................................... 844,545 836,702
Unamortized investment tax credit ........................................... 150,533 144,765
Nuclear decommissioning reserve ............................................. 187,997 222,958
Benefit obligations ......................................................... 18,399 20,715
Accrued reclamation costs ................................................... 6,000 6,220
Other ....................................................................... 70,245 70,701
----------- -----------
Total other liabilities ................................................ 1,277,719 1,302,061
----------- -----------
COMMITMENTS AND CONTINGENCIES (NOTE 4)
SHAREHOLDERS' EQUITY:
Common stock (80,000,000 shares outstanding at December 31, 2003 and
June 30, 2004, respectively) .............................................. 1 1
Additional paid-in capital .................................................. 2,917,444 2,917,444
Retained earnings ........................................................... 115,716 216,724
----------- -----------
Total shareholders' equity ............................................. 3,033,161 3,134,169
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY .......................... $ 4,639,631 $ 4,778,840
=========== ===========
See Notes to the Company's Interim Financial Statements
2
TEXAS GENCO HOLDINGS, INC.
STATEMENTS OF CONSOLIDATED CASH FLOWS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
SIX MONTHS ENDED JUNE 30,
------------------------------
2003 2004
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income .................................................. $ 121,321 $ 141,008
Cumulative effect of accounting change ...................... (98,910) --
--------- ---------
Income before cumulative effect of accounting change ........ 22,411 141,008
Adjustments to reconcile income before cumulative effect of
accounting change to net cash provided by operating
activities:
Depreciation and amortization ............................ 78,470 80,976
Fuel-related amortization ................................ 9,725 13,201
Amortization of deferred financing costs ................. -- 549
Deferred income taxes .................................... (10,121) (5,357)
Investment tax credit .................................... (6,073) (5,769)
Changes in other assets and liabilities:
Accounts receivable .................................... (105,921) (23,787)
Taxes receivable ....................................... 4,368 --
Inventory .............................................. (14,073) 1,808
Accounts payable ....................................... 79,862 36,387
Accounts payable, affiliate ............................ (11,378) 3,715
Taxes and interest accrued ............................. (1,105) (45,247)
Accrued reclamation costs .............................. 3,898 220
Benefit obligations .................................... 1,335 2,316
Deferred revenue from capacity auctions ................ 40,287 22,713
Other current assets ................................... (5,485) (1,180)
Other current liabilities .............................. (4,565) (3,709)
Other long-term assets ................................. (2,962) 2,204
Other long-term liabilities ............................ (6,861) (2,305)
--------- ---------
Net cash provided by operating activities ........... 71,812 217,743
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures and other .............................. (74,706) (36,342)
Increase in note receivable, affiliate ...................... -- (1,283)
--------- ---------
Net cash used in investing activities ............... (74,706) (37,625)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payment of common stock dividends ........................... (40,000) (40,000)
Debt issuance costs ......................................... -- (116)
Increase in short-term notes payables, affiliate ............ 42,459 --
Increase in long-term notes payables, affiliate ............. 11 --
--------- ---------
Net cash provided by (used in) financing activities . 2,470 (40,116)
--------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS .......... (424) 140,002
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD .............. 578 44,558
--------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD .................... $ 154 $ 184,560
========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash Payments:
Interest .................................................... $ 5,432 $ 673
Income taxes ................................................ -- 52,732
See Notes to the Company's Interim Financial Statements
3
TEXAS GENCO HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(1) BACKGROUND AND BASIS OF PRESENTATION
General. Included in this Quarterly Report on Form 10-Q (Form 10-Q) of
Texas Genco Holdings, Inc. (Texas Genco or the Company) are the Company's
consolidated interim financial statements and notes (Interim Financial
Statements) including its wholly owned subsidiaries. The Interim Financial
Statements are unaudited, omit certain financial statement disclosures and
should be read with the Annual Report on Form 10-K of Texas Genco for the year
ended December 31, 2003 (Texas Genco Form 10-K.
Background. The Company is an 81% owned subsidiary of CenterPoint Energy,
Inc. (CenterPoint Energy). CenterPoint Energy is subject to regulation by the
Securities and Exchange Commission (SEC) as a registered public utility holding
company under the Public Utility Holding Company Act of 1935, as amended (1935
Act). Texas Genco, LP, a wholly owned subsidiary of the Company that owns and
operates the Company's electric generating plants, is an exempt wholesale
generator pursuant to an order of the Federal Energy Regulatory Commission
(FERC). As a result, Texas Genco, LP is exempt from all provisions of the 1935
Act so long as it remains an exempt wholesale generator, and the Company is no
longer a public utility holding company under the 1935 Act. SEC approval would
be required, however, for CenterPoint Energy to issue and sell securities for
the purpose of funding the Company's operations, or for CenterPoint Energy to
guarantee the Company's securities. Also, SEC policy precludes the Company from
borrowing from CenterPoint Energy's utility subsidiaries.
Basis of Presentation. The Interim Financial Statements include the
operations of Texas Genco Holdings, Inc. and its subsidiaries, which manage and
operate the Company's electric generation operations.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America (GAAP) requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
The Company's Interim Financial Statements reflect all normal recurring
adjustments that are, in the opinion of management, necessary to present fairly
the financial position and results of operations for the respective periods.
Amounts reported in the Company's Statements of Consolidated Income are not
necessarily indicative of amounts expected for a full-year period due to the
effects of, among other things, (a) seasonal variations in energy consumption,
(b) timing of maintenance and other expenditures and (c) acquisitions and
dispositions of assets and other interests.
Note 2(f) (Long-Lived Assets and Intangibles) and Note 8 (Commitments and
Contingencies) to the consolidated annual financial statements included in the
Texas Genco Form 10-K relate to certain contingencies. These notes, as updated
herein, are incorporated herein by reference.
For information regarding certain environmental matters and legal
proceedings, see Note 4 to the Interim Financial Statements.
(2) NEW ACCOUNTING PRONOUNCEMENTS
In January 2003, the Financial Accounting Standards Board (FASB) issued
FASB Interpretation No. (FIN) 46 "Consolidation of Variable Interest Entities,
an Interpretation of Accounting Research Bulletin No. 51" (FIN 46). FIN 46
requires certain variable interest entities to be consolidated by the primary
beneficiary of the entity if the equity investors in the entity do not have the
characteristics of a controlling financial interest or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties. On December 24, 2003, the
FASB issued a revision to FIN 46 (FIN 46-R). For special-purpose entities
(SPE's) created before February 1, 2003, the Company applied the provisions of
FIN 46 or FIN 46-R as of
4
December 31, 2003. The revised FIN 46-R is effective for all other entities for
financial periods ending after March 15, 2004. The Company evaluated two
purchase power contracts with qualifying facilities as defined in the Public
Utility Regulatory Policies Act of 1978 and concluded that it was not required
to consolidate the entities that own the qualifying facilities.
On December 23, 2003, the FASB issued Statement of Financial Accounting
Standards (SFAS) No. 132 (Revised 2003), "Employer's Disclosures about Pensions
and Other Postretirement Benefits" (SFAS No. 132 (R)) which increases the
existing disclosure requirements by requiring more details about pension plan
assets, benefit obligations, cash flows, benefit costs and related information.
Companies are required to segregate plan assets by category, such as debt,
equity and real estate, and to provide certain expected rates of return and
other informational disclosures. SFAS No. 132 (R) also requires companies to
disclose various elements of pension and postretirement benefit costs in
interim-period financial statements for quarters beginning after December 15,
2003. The Company has adopted the disclosure requirements of SFAS No. 132 (R) in
Note 5 to these Interim Financial Statements.
On May 19, 2004, the FASB issued a FASB Staff Position (FSP) addressing
the appropriate accounting and disclosure requirements for companies that
sponsor a postretirement health care plan that provides prescription drug
benefits. The new guidance from the FASB was deemed necessary as a result of the
2003 Medicare prescription law which includes a federal subsidy for qualifying
companies. FSP FAS 106-2, "Accounting and Disclosure Requirements Related to the
Medicare Prescription Drug, Improvement and Modernization Act of 2003 (FAS
106-2)," requires that the effects of the federal subsidy be considered an
actuarial gain and treated like similar gains and losses and requires certain
disclosures for employers that sponsor postretirement heath care plans that
provide prescription drug benefits. The FASB's related existing guidance, FSP
FAS 106-1, "Accounting and Disclosure Requirements Related to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003," will be
superseded upon the effective date of FAS 106-2. The effective date of the new
FSP is the first interim or annual period beginning after June 15, 2004, except
for certain nonpublic entities which have until fiscal years beginning after
December 15, 2004. The Company does not expect the adoption of FAS 106-2 to have
a material effect on its results of operations or financial condition.
(3) RELATED PARTY TRANSACTIONS AND MAJOR CUSTOMERS
As of December 31, 2003 and June 30, 2004, the Company had net accounts
payable to affiliates of $8 million and $12 million, respectively.
As of June 30, 2004, the Company had short-term notes receivable from
affiliates of $1 million, which represented funds invested in CenterPoint
Energy's money pool for unregulated subsidiaries.
During the three months ended June 30, 2003 and 2004, the sales and
services by the Company to Reliant Energy, Inc., (formerly named Reliant
Resources, Inc.) (RRI) and its subsidiaries totaled $415 million and $340
million, respectively. During the six months ended June 30, 2003 and 2004, the
sales and services by the Company to RRI and its subsidiaries totaled $659
million and $594 million, respectively. During the three months and six months
ended June 30, 2003 and 2004, there were no sales and services by the Company to
CenterPoint Energy and its affiliates. During the three months ended June 30,
2003 and 2004, the sales and services by the Company to another major customer,
totaled $56 million and $107 million, respectively. During the six months ended
June 30, 2003 and 2004, the sales and services by the Company to that customer,
totaled $93 million and $189 million, respectively.
During the three months ended June 30, 2003 and 2004, purchases of natural
gas by the Company from CenterPoint Energy and its affiliates were $4 million
and $10 million, respectively. During the six months ended June 30, 2003 and
2004, purchases of natural gas by the Company from CenterPoint Energy and its
affiliates were $9 million and $16 million, respectively.
CenterPoint Energy provides some corporate services to the Company. The
costs of services have been directly charged to the Company using methods that
management believes are reasonable. These methods include negotiated usage
rates, dedicated asset assignment, and proportionate corporate formulas based on
assets, operating expenses and employees. These charges are not necessarily
indicative of what would have been incurred had the Company not been an
affiliate. Amounts charged to the Company for these services were $7 million and
$6 million for the three months ended June 30, 2003 and 2004, respectively, and
are included primarily in operation and maintenance
5
expenses. Amounts charged to the Company for these services were $17 million and
$12 million for the six months ended June 30, 2003 and 2004, respectively, and
are included primarily in operation and maintenance expenses.
(4) COMMITMENTS AND CONTINGENCIES
Clean Air Standards. The 1999 Texas Electric Choice Law (Texas electric
restructuring law) and regulations adopted by the Texas Commission on
Environmental Quality (TCEQ) in 2001 require substantial reductions in emission
of oxides of nitrogen (NOx) from electric generating units. The Company is
currently installing cost-effective controls at its generating plants to comply
with these requirements. Through June 30, 2004, the Company has invested $686
million for NOx emission control, and plans to make additional expenditures of
up to approximately $109 million during the remainder of 2004 through 2007.
Further revisions to these NOx requirements may result from the EPA's ongoing
review of these TCEQ rules and from the TCEQ's future rules, expected by 2007,
implementing the more stringent federal eight-hour ozone standard.
Asbestos. The Company has been named, along with numerous others, as a
defendant in several lawsuits filed by a large number of individuals who claim
injury due to exposure to asbestos while working at sites along the Texas Gulf
Coast. Most of these claimants have been workers who participated in
construction of various industrial facilities, including power plants, and some
of the claimants have worked at locations owned by the Company. The Company
anticipates that additional claims like those received may be asserted in the
future and intends to continue vigorously contesting claims which it does not
consider to have merit.
Texas Antitrust Action. In July 2003, Texas Commercial Energy filed in
federal court in Corpus Christi, Texas a lawsuit against Reliant Energy,
Incorporated (Reliant Energy), RRI, Reliant Electric Solutions, LLC, several
other RRI subsidiaries and a number of other participants in the Electric
Reliability Council of Texas (ERCOT) power market. The plaintiff, a retail
electricity provider in the Texas market served by ERCOT, alleged that the
defendants conspired to illegally fix and artificially increase the price of
electricity in violation of state and federal antitrust laws and committed fraud
and negligent misrepresentation. The lawsuit sought damages in excess of $500
million, exemplary damages, treble damages, interest, costs of suit and
attorneys' fees. In February 2004, this complaint was amended to add CenterPoint
Energy and CenterPoint Energy Houston Electric, LLC (CenterPoint Houston), as
successors to Reliant Energy, and Texas Genco, LP as defendants. The plaintiff's
principal allegations had previously been investigated by the Texas Utility
Commission and found to be without merit. In June 2004, the federal court
dismissed the plaintiff's claims and in July 2004, the plaintiff filed a notice
of appeal. The Company intends to contest the appeal. The ultimate outcome of
this matter cannot be predicted at this time.
Nuclear Insurance. The Company and the other owners of the South Texas
Project maintain nuclear property and nuclear liability insurance coverage as
required by law and periodically review available limits and coverage for
additional protection. The owners of the South Texas Project currently maintain
$2.75 billion in property damage insurance coverage, which is above the legally
required minimum, but is less than the total amount of insurance currently
available for such losses.
Under the Price Anderson Act, the maximum liability to the public of
owners of nuclear power plants was $10.8 billion as of June 30, 2004. Owners are
required under the Price Anderson Act to insure their liability for nuclear
incidents and protective evacuations. The Company and the other owners currently
maintain the required nuclear liability insurance and participate in the
industry retrospective rating plan under which the owners of the South Texas
Project are subject to maximum retrospective assessments in the aggregate per
incident of up to $100.6 million per reactor. The owners are jointly and
severally liable at a rate not to exceed $10 million per incident per year.
6
There can be no assurance that all potential losses or liabilities
associated with the South Texas Project will be insurable, or that the amount of
insurance will be sufficient to cover them. Any substantial losses not covered
by insurance would have a material effect on the Company's financial condition,
results of operations and cash flows.
Nuclear Decommissioning. CenterPoint Houston contributed $2.9 million in
2003 to trusts established to fund the Company's share of the decommissioning
costs for the South Texas Project, and expects to contribute $2.9 million in
2004. There are various investment restrictions imposed upon the Company by the
Public Utility Commission of Texas and the United States Nuclear Regulatory
Commission (NRC) relating to the Company's nuclear decommissioning trusts. The
Company and CenterPoint Energy have each appointed two members to the Nuclear
Decommissioning Trust Investment Committee which establishes the investment
policy of the trusts and oversees the investment of the trusts' assets. The
securities held by the trusts for decommissioning costs had an estimated fair
value of $198 million as of June 30, 2004, of which approximately 36% were
fixed-rate debt securities and the remaining 64% were equity securities. In May
2004, an outside consultant estimated the Company's portion of decommissioning
costs to be approximately $456 million. While the funding levels currently
exceed minimum NRC requirements, no assurance can be given that the amounts held
in trust will be adequate to cover the actual decommissioning costs of the South
Texas Project. Such costs may vary because of changes in the assumed date of
decommissioning and changes in regulatory requirements, technology and costs of
labor, materials and equipment. Pursuant to the Texas electric restructuring
law, costs associated with nuclear decommissioning that have not been recovered
as of January 1, 2002, will continue to be subject to cost-of-service rate
regulation and will be included in a charge to transmission and distribution
customers of CenterPoint Houston or its successor.
Joint Operating Agreement with City of San Antonio. The Company has a
joint operating agreement with the City Public Service Board of San Antonio to
share savings from the joint dispatching of each party's generating assets.
Dispatching the two generating systems jointly results in savings of fuel and
related expenses due to a more efficient utilization of each party's lowest cost
resources. The two parties currently share equally the savings resulting from
joint dispatch. The agreement terminates in 2009.
(5) EMPLOYEE BENEFIT PLANS
The Company's employees participate in CenterPoint Energy's postretirement
benefit plan. Net periodic cost in each of the three month periods ended June
30, 2003 and 2004 was $1 million. Net periodic cost in each of the six month
periods ended June 30, 2003 and 2004 was $2 million. The Company expects to
contribute $1 million to CenterPoint Energy's postretirement benefits plan in
2004. As of June 30, 2004, $0.5 million has been contributed.
(6) PURCHASE OF ADDITIONAL SOUTH TEXAS PROJECT INTEREST
On May 28, 2004, the Company announced that its Board of Directors had
voted to exercise its right of first refusal to purchase up to the entire 25.2
percent interest in the South Texas Project that is currently owned by American
Electric Power (AEP). In addition to AEP and the Company, the 2,500 megawatt
nuclear plant is owned by two other co-owners. AEP had previously announced that
it had received an offer of $333 million, subject to certain adjustments, to
purchase its 630 megawatt interest. Under the South Texas Project Participation
Agreement, co-owners wishing to acquire AEP's interest are entitled to do so at
the proposed sale price. One co-owner did not exercise its right of first
refusal, while the other co-owner exercised its right to purchase at least 12
percent, or 300 megawatts. Accordingly, the Company should be entitled to
purchase a 13.2 percent interest, or 330 megawatts from AEP at an estimated
price of $175 million. The Company expects to fund the purchase of its share of
AEP's interest with internally generated funds and, if and to the extent
required, a new bank credit facility. The Company expects to complete this
transaction by the first quarter of 2005.
(7) SUBSEQUENT EVENTS
On July 21, 2004, CenterPoint Energy and the Company announced a
definitive agreement for GC Power Acquisition LLC, a newly formed entity owned
in equal parts by affiliates of The Blackstone Group, Hellman & Friedman LLC,
Kohlberg Kravis Roberts & Co. L.P. and Texas Pacific Group, to acquire the
Company for approximately $3.65 billion in cash.
7
The transaction will be accomplished in two steps. In the first step,
expected to be completed in the fourth quarter of 2004, the Company will
purchase the approximately 19% of its shares owned by the public in a cash-out
merger at a price of $47 per share. Prior to its public shareholder buy-out, the
Company will file with the SEC a Rule 13e-3 transaction statement and a Schedule
14C information statement relating to CenterPoint Energy's adoption of the
transaction agreement and approval of the transactions it contemplates.
Following the cash-out merger of the publicly owned shares, a subsidiary of the
Company that will own the Company's coal, lignite and gas-fired generation
plants will merge with a subsidiary of GC Power Acquisition. The closing of the
first step of the transaction is subject to several conditions, including the
mailing of the information statement described above, the receipt of debt
financing under the financing commitments described below, the expiration or
termination of any applicable waiting period under the antitrust laws (including
the Hart Scott Rodino Antitrust Improvement Act of 1976) and the FERC's
certification of the entity that will own Texas Genco's coal, lignite and
gas-fired generation plants as an "exempt wholesale generator" under the 1935
Act.
In the second step of the transaction, expected to take place in the first
quarter of 2005 following receipt of approval by the NRC, the Company, the
principal remaining asset of which, at that time, will be the Company's interest
in the South Texas Project nuclear facility, will merge with another subsidiary
of GC Power Acquisition.
Cash proceeds to CenterPoint Energy will be approximately $2.2 billion
from the first step of the transaction and $700 million from the second step of
the transaction, for total cash proceeds of approximately $2.9 billion, or
$45.25 per share for CenterPoint Energy's 81% interest. CenterPoint Energy
intends to use the net after-tax proceeds of approximately $2.5 billion to pay
down outstanding debt, including senior debt under its bank credit facility that
is secured in part by CenterPoint Energy's 81% ownership interest in the
Company.
GC Power Acquisition has entered into a commitment letter with financing
sources, including Goldman Sachs, providing for up to $2.5 billion in the
aggregate in debt financing for the transaction and a separate overnight loan of
$717 million to the Company to fund its public shareholder buy-out in the first
step of the transaction, each subject to customary closing conditions. This
overnight loan will be repaid with the proceeds of the merger of the Company's
coal, lignite and gas-fired generation plants with a subsidiary of GC Power
Acquisition. In addition, GC Power Acquisition's sponsor firms have committed
upon closing of the transaction to provide up to $1.08 billion in the aggregate
in equity funding for the transaction.
The transaction has been approved by the board of directors of CenterPoint
Energy and by the board of directors of the Company acting upon the unanimous
recommendation of a special committee composed of independent members of the
Company's board. CenterPoint Energy has signed a written consent that satisfies
all state law voting requirements applicable to the transaction.
In connection with the transaction, a subsidiary of the Company, Texas
Genco, LP, entered into a master power purchase and sale agreement with a member
of the Goldman Sachs group. Under that agreement, the Company has sold forward a
substantial quantity of its available base-load capacity through 2008 and
pledged $175 million of its first mortgage bonds as collateral for its
obligations. The Company's obligations under the power purchase agreement will
continue regardless of whether the transaction is completed.
On July 23, 2004, two plaintiffs, both shareholders of the Company, filed
virtually identical lawsuits in Harris County, Texas district court. The suits,
purportedly brought on behalf of holders of the Company's common stock, name the
Company and each of its directors as defendants. Both plaintiffs allege, among
other things, self-dealing and breach of fiduciary duty by the defendants in
entering into the July 2004 agreement to sell the Company. Plaintiffs seek to
enjoin the transaction or, alternatively, rescind the transaction and/or recover
damages in the event that the transaction is consummated. The Company expects
the cases to be consolidated. The Company believes both lawsuits to be without
merit and intends to vigorously defend against them.
On August 5, 2004, the Company's board of directors declared a dividend of
$0.25 per share of common stock payable September 20, 2004 to shareholders of
record as of the close of business on August 26, 2004.
8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis should be read in combination with the
Company's Interim Financial Statements and notes contained in Item 1 of this
Form 10-Q.
OVERVIEW
We are a wholesale electric power generating company that owns 60
generating units at 11 electric power generation facilities located in Texas. We
also own a 30.8% interest in the South Texas Project Electric Generating Station
(South Texas Project), a nuclear generating station with two 1,250 megawatt (MW)
nuclear generating units. As of June 30, 2004, the aggregate net generating
capacity of our portfolio of assets was 14,153 megawatts (MW), of which 2,585 MW
of gas-fired capacity was then mothballed. In May 2004, 403 MW of previously
mothballed gas-fired capacity was returned to service. The gas-fired capacity
that is currently mothballed is expected to remain mothballed through April
2005. We sell electric generation capacity, energy and ancillary services in the
Electric Reliability Council of Texas (ERCOT) market, which is the largest power
market in the State of Texas and encompasses the majority of the population
centers in the State of Texas. ERCOT facilitates reliable grid operations for
approximately 85% of the demand for power in the state.
We are an 81% owned subsidiary of CenterPoint Energy, Inc. (CenterPoint
Energy). CenterPoint Energy is a registered public utility holding company under
the Public Utility Holding Company Act of 1935, as amended (1935 Act). The 1935
Act and related rules and regulations impose a number of restrictions on the
activities of CenterPoint Energy and its subsidiaries. Texas Genco, LP, our
wholly owned subsidiary that owns and operates our electric generating plants,
is an exempt wholesale generator (EWG) pursuant to an order of the Federal
Energy Regulatory Commission (FERC). As a result, Texas Genco, LP is exempt from
all provisions of the 1935 Act so long as it remains an EWG, and we are no
longer a public utility holding company under the 1935 Act.
EXECUTIVE SUMMARY
RECENT EVENTS
DEFINITIVE AGREEMENT FOR THE SALE OF THE COMPANY
On July 21, 2004, we and CenterPoint Energy announced a definitive
agreement for GC Power Acquisition LLC, a newly formed entity owned in equal
parts by affiliates of The Blackstone Group, Hellman & Friedman LLC, Kohlberg
Kravis Roberts & Co. L.P. and Texas Pacific Group, to acquire us for
approximately $3.65 billion in cash.
The transaction will be accomplished in two steps. In the first step,
expected to be completed in the fourth quarter of 2004, we will purchase the
approximately 19% of our shares owned by the public in a cash-out merger at a
price of $47 per share. Prior to our public shareholder buy-out, we will file
with the SEC a Rule 13e-3 transaction statement and a Schedule 14C information
statement relating to CenterPoint Energy's adoption of the transaction agreement
and approval of the transactions it contemplates. Following the cash-out merger
of the publicly owned shares, a subsidiary of ours that will own our coal,
lignite and gas-fired generation plants will merge with a subsidiary of GC Power
Acquisition. The closing of the first step of the transaction is subject to
several conditions, including the mailing of the information statement described
above, the receipt of debt financing under the financing commitments described
below, the expiration or termination of any applicable waiting period under the
antitrust laws (including the Hart Scott Rodino Antitrust Improvement Act of
1976) and the FERC's certification of the entity that will own our coal, lignite
and gas-fired generation plants as an "exempt wholesale generator" under the
1935 Act.
In the second step of the transaction, expected to take place in the first
quarter of 2005 following receipt of approval by the Nuclear Regulatory
Commission, the company, the principal remaining asset of which, at that time,
will be our interest in the South Texas Project nuclear facility, will merge
with another subsidiary of GC Power Acquisition.
Cash proceeds to CenterPoint Energy will be approximately $2.2 billion
from the first step of the transaction and $700 million from the second step of
the transaction, for total cash proceeds of approximately $2.9 billion, or
$45.25 per share for CenterPoint Energy's 81% interest. CenterPoint Energy
intends to use the net after-tax proceeds of approximately $2.5 billion to pay
down outstanding debt, including senior debt under its bank credit facility that
is secured in part by CenterPoint Energy's 81% ownership interest in us.
GC Power Acquisition has entered into a commitment letter with financing
sources, including Goldman Sachs, providing for up to $2.5 billion in the
aggregate in debt financing for the transaction and a separate overnight loan of
$717 million to us to fund our public shareholder buy-out in the first step of
the transaction, each subject to customary closing conditions. This overnight
loan will be repaid with the proceeds of the merger of our coal, lignite and
gas-fired generation plants with a subsidiary of GC Power Acquisition. In
addition, GC Power Acquisition's sponsor firms have committed upon closing of
the transaction to provide up to $1.08 billion in the aggregate in equity
funding for the transaction.
9
The transaction has been approved by the board of directors of CenterPoint
Energy and by our board of directors acting upon the unanimous recommendation of
a special committee composed of independent members of our board. CenterPoint
Energy has signed a written consent that satisfies all state law voting
requirements applicable to the transaction.
In connection with the transaction, our subsidiary, Texas Genco, LP,
entered into a master power purchase and sale agreement with a member of the
Goldman Sachs group. Under that agreement, we have sold forward a substantial
quantity of our available base-load capacity through 2008 and pledged $175
million of our first mortgage bonds as collateral for our obligation. Our
obligations under the power purchase agreement will continue regardless of
whether the transaction is completed.
On July 23, 2004, two plaintifs, both shareholders of the company, filed
virtually identical lawsuits in Harris County, Texas district court. The suits,
purportedly brought on behalf of holders of our common stock, name us and each
of our directors as defendants. Both plaintiffs allege, among other things,
self-dealing and breach of fiduciary duty by the defendants in entering into the
July 2004 agreement to sell the company. Plaintiffs seek to enjoin the
transaction or, alternatively, rescind the transaction and/or recover damages in
the event that the transaction is consummated. We expect the cases to be
consolidated. We believe both lawsuits to be without merit and intend to
vigorously defend against them.
SOUTH TEXAS PROJECT RIGHT OF FIRST REFUSAL
On May 28, 2004, we announced that our Board of Directors had voted to
exercise our right of first refusal to purchase up to the entire 25.2 percent
interest in the South Texas Project that is currently owned by American Electric
Power (AEP). In addition to AEP and Texas Genco, the 2,500 megawatt nuclear
plant is owned by two other co-owners. AEP had previously announced that it had
received an offer of $333 million, subject to certain adjustments, to purchase
its 630 megawatt interest. Under the South Texas Project Participation
Agreement, co-owners wishing to acquire AEP's interest are entitled to do so at
the proposed sale price. One co-owner did not exercise its right of first
refusal, while the other co-owner exercised its right to purchase at least 12
percent, or 300 megawatts. Accordingly, we should be entitled to purchase a 13.2
percent interest, or 330 megawatts from AEP at an estimated price of $175
million. We expect to fund the purchase of our share of AEP's interest with
internally generated funds and, if and to the extent required, a new bank credit
facility. Our purchase of a share of AEP's interest in the South Texas Project
and the acquisition of the company by GC Power Acquisition described below are
not dependent on each other. We expect to complete this transaction by the first
quarter of 2005.
2ND QUARTER 2004 HIGHLIGHTS
In the second quarter of 2004, we reported net income of $80 million
($1.00 per diluted share) as compared to $33 million ($0.42 per diluted share)
in the second quarter of 2003. The improvement was primarily related to higher
capacity revenue for base-load products driven by continued high natural gas
prices and their effect on wholesale electricity prices in the ERCOT market.
Operation and maintenance expenses decreased due to a reduction in planned and
unplanned outages in the second quarter of 2004 compared to the second quarter
of 2003.
2004 OUTLOOK
In our capacity auctions held through July 2004, we have sold forward
approximately 98% of our available firm base-load capacity for 2004,
representing over $880 million of firm capacity revenue under contract. In
addition, we have sold gas-fired and non-firm base-load capacity bringing the
total 2004 contracted capacity revenues to over $1.08 billion. Available
base-load capacity is defined as our total base-load capacity less planned
outages and less up to 750 megawatts of operating reserves. For 2005, we have
sold forward in our capacity auctions approximately 66% of our available firm
base-load capacity, which represents over $560 million of contracted firm
base-load capacity revenue. In addition, we have sold non-firm base-load
capacity with revenues of approximately $60 million, bringing the total 2005
contracted capacity revenues to over $620 million. In August 2004, we plan to
conduct additional auctions in which we will offer the remaining portion of our
2004 available capacity. These amounts do not include forward sales of base-load
capacity under the master power purchase and sale agreement described above. In
addition to capacity sales, we have sold approximately $10 million of surplus
emission allowances in the first six months of 2004, and will evaluate future
sales of emissions allowances as opportunities develop. Financial performance in
2004 and beyond is highly dependent on the operating performance of our
base-load generating units.
10
CONSOLIDATED RESULTS OF OPERATIONS
The following table sets forth our consolidated results of operations for
the three months and six months ended June 30, 2003 and 2004, followed by a
discussion of our consolidated results of operations.
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
---------------------------- ----------------------------
2003 2004 2003 2004
------------ ------------ ------------ ------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
REVENUES ..................................................... $ 578,511 $ 552,718 $ 937,098 $ 991,847
------------ ------------ ------------ ------------
EXPENSES:
Fuel costs ................................................. 349,318 263,992 557,307 450,307
Purchased power ............................................ 22,974 18,098 34,968 26,368
Operation and maintenance .................................. 105,301 98,872 210,651 200,199
Depreciation and amortization .............................. 39,391 40,607 78,470 80,976
Taxes other than income taxes .............................. 11,483 12,122 22,774 24,378
------------ ------------ ------------ ------------
Total ................................................. 528,467 433,691 904,170 782,228
------------ ------------ ------------ ------------
OPERATING INCOME ............................................. 50,044 119,027 32,928 209,619
OTHER INCOME ................................................. 1,089 1,667 1,289 2,055
INTEREST EXPENSE, NET ........................................ (2,822) (114) (5,625) (140)
------------ ------------ ------------ ------------
INCOME BEFORE INCOME TAXES AND CUMULATIVE EFFECT
OF ACCOUNTING CHANGE ....................................... 48,311 120,580 28,592 211,534
INCOME TAX EXPENSE ........................................... (15,018) (40,464) (6,181) (70,526)
------------ ------------ ------------ ------------
INCOME BEFORE CUMULATIVE EFFECT OF ACCOUNTING
CHANGE ..................................................... 33,293 80,116 22,411 141,008
CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET OF TAX ........... -- -- 98,910 --
------------ ------------ ------------ ------------
NET INCOME.................................................... $ 33,293 $ 80,116 $ 121,321 $ 141,008
============ ============ ============ ============
BASIC AND DILUTED EARNINGS PER SHARE:
Income Before Cumulative Effect of Accounting
Change .................................................. $0.42 $ 1.00 $ 0.28 $ 1.76
Cumulative Effect of Accounting Change, net of
tax ..................................................... -- -- 1.24 --
------------ ------------ ------------ ------------
Net Income ................................................. $ 0.42 $ 1.00 $ 1.52 $ 1.76
============ ============ ============ ============
Sales (MWH) .................................................. 12,517,492 11,962,375 21,793,836 22,683,153
Generation (MWH) ............................................. 12,077,631 11,542,226 21,072,384 21,691,416
11
THREE MONTHS ENDED JUNE 30, 2004 COMPARED TO THREE MONTHS ENDED JUNE 30, 2003
In the second quarter of 2004, we reported net income of $80 million
($1.00 per diluted share) as compared to $33 million ($0.42 per diluted share)
in the second quarter of 2003 primarily due to higher capacity revenue for
base-load products driven by continued high natural gas prices and their effect
on wholesale electricity prices in the ERCOT market. Most of these base-load
products were sold in capacity auctions held when natural gas prices were higher
than when we sold our capacity for 2003. Additionally, the sale of surplus air
emission allowances contributed $6 million to revenues. Energy revenues and fuel
and purchased power costs declined in the second quarter of 2004 as compared to
the same period in 2003 reflecting a reduction in planned and unplanned outages
and therefore an increase in availability of our lower-cost base-load units in
2004 as well as lower demand for gas-fired generation products. Operation and
maintenance expenses decreased $6 million primarily due to the reduction in
planned and unplanned outages in the second quarter of 2004 as compared to the
same period in 2003.
SIX MONTHS ENDED JUNE 30, 2004 COMPARED TO SIX MONTHS ENDED JUNE 30, 2003
In the first six months of 2004, we reported net income of $141 million
($1.76 per diluted share) as compared to income of $22 million ($0.28 per
diluted share) in the first six months of 2003 before the cumulative effect of
an accounting change. Revenues increased $55 million in the first six months of
2004 as compared to the same period in 2003 due to higher capacity revenue for
base-load products driven by continued high natural gas prices and their effect
on wholesale electricity prices in the ERCOT market. Most of these base-load
products were sold in capacity auctions held when natural gas prices were higher
than when we sold our capacity for 2003. Additionally, the sale of surplus air
emission allowances contributed $10 million to the increase in revenues. Fuel
and purchased power costs declined $115 million in the first six months of 2004
as compared to the same period in 2003 reflecting a reduction in planned and
unplanned outages and therefore an increase in availability of our lower-cost
base-load units in 2004 as well as lower demand for gas-fired generation
products. Operation and maintenance expenses decreased $11 million primarily due
to the reduction in planned and unplanned outages in the first six months of
2004 as compared to the same period in 2003.
In connection with the adoption of Statement of Financial Accounting
Standards (SFAS) No. 143, "Accounting for Asset Retirement Obligations" (SFAS
No. 143), we completed an assessment of the applicability and implications of
SFAS No. 143. As a result of the assessment, we identified retirement
obligations for nuclear decommissioning at the South Texas Project and for
lignite mine operations at the Jewett mine supplying the Limestone electric
generation facility. The net difference between the amounts determined under
SFAS No. 143 and the previous method of accounting for estimated mine
reclamation costs was $37 million and has been recorded as a cumulative effect
of accounting change. Upon adoption of SFAS No. 143, we reversed $115 million of
previously recognized removal costs as a cumulative effect of accounting change.
The first quarter 2003 results include a $99 million after-tax ($152 million
pre-tax) non-cash gain ($1.24 per diluted share) from the adoption of SFAS No.
143.
RELATED PARTY TRANSACTIONS
We have entered into a number of agreements with CenterPoint Energy that
govern our interim and ongoing relationships with CenterPoint Energy, including
providing various interim services to us. Pursuant to the requirements of the
1935 Act, CenterPoint Energy has formed a service company through which these
services are delivered. For information regarding our agreements and other
relationships with CenterPoint Energy, please read Note 3 to our Interim
Financial Statements and "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Related Party Transactions" in the Texas
Genco Form 10-K.
CERTAIN FACTORS AFFECTING FUTURE EARNINGS
For information on other developments, factors and trends that may have an
impact on our future earnings, please read the factors listed under "Cautionary
Statement Regarding Forward-Looking Information" on Page ii of this Form 10-Q,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Certain Factors Affecting Future Earnings" in Item 7 of Part II of
the Texas Genco Form 10-K and "Risk Factors" in Item 1 of Part I of the Texas
Genco Form 10-K, each of which is incorporated herein by reference.
12
LIQUIDITY AND CAPITAL RESOURCES
HISTORICAL CASH FLOWS
The net cash provided by/used in our operating, investing and financing
activities for the six months ended June 30, 2003 and 2004 is as follows (in
millions):
SIX MONTHS ENDED JUNE 30,
-------------------------
2003 2004
---- ----
Cash provided by (used in):
Operating activities.......................... $ 72 $218
Investing activities.......................... (75) (38)
Financing activities.......................... 2 (40)
CASH PROVIDED BY OPERATING ACTIVITIES
Net cash provided by operating activities increased $146 million for the
six months ended June 30, 2004 as compared to the same period in 2003 primarily
as a result of higher capacity auction prices, which were driven by continued
high natural gas prices.
CASH USED IN INVESTING ACTIVITIES
Net cash used in investing activities decreased $37 million for the six
months ended June 30, 2004 as compared to the same period in 2003 primarily
related to a planned reduction in NOx emissions control expenditures.
CASH PROVIDED BY FINANCING ACTIVITIES
Cash provided by financing activities decreased $42 million for the six
months ended June 30, 2004 as compared to the same period in 2003. We had
borrowed this amount from CenterPoint Energy in the first quarter of 2003.
FUTURE SOURCES AND USES OF CASH
Our liquidity and capital requirements will be affected by our:
- capital requirements related to environmental compliance and other
projects;
- purchase of an additional interest in the South Texas Project
pursuant to the exercise of our right of first refusal as described
above under " -- Executive Summary -- Recent Events";
- dividend policy;
- debt service requirements; and
- working capital requirements.
As of June 30, 2004, we had temporary investments of $185 million. As of
June 30, 2004, we had investments of $1 million in CenterPoint Energy's money
pool for unregulated subsidiaries.
In December 2003, Texas Genco, LP, one of our subsidiaries, entered into a
364-day $75 million bank credit facility with a seven-bank syndicate. Proceeds
from the revolving credit facility will be used to meet ongoing working capital
requirements and for general corporate purposes. Borrowings under the facility
may be made at the London interbank offered rate (LIBOR) plus 150 basis points.
The facility is secured by a series of first mortgage bonds in an aggregate
principal amount of $75 million under a First Mortgage Indenture (the Mortgage)
dated December 23, 2003 between JPMorgan Chase Bank, as trustee, and Texas
Genco, LP. All of our real and tangible properties, subject to certain
exclusions, are currently subject to the lien of the Mortgage. Under the terms
of the facility, if CenterPoint Energy ceases to own, directly or indirectly, at
least a 50% voting and economic interest in
13
Texas Genco, LP, an event of default will occur and any borrowings thereunder
may become immediately due and payable. We believe that our cash flows from
operations, including sales of available base-load capacity under the master
power purchase and sale agreement described above under " -- Executive Summary
-- Recent Events -- Definitive Agreement for the Sale of the Company," and our
external borrowing capability will be sufficient to meet the operational needs
of our business for the next twelve months. As of June 30, 2004, there were no
borrowings outstanding under the revolving credit facility.
CenterPoint Energy's $2.3 billion bank facility limits our incurrence of
indebtedness for borrowed money to an aggregate principal amount not to exceed
$250 million outstanding at any time and requires that proceeds from the sale of
any material portion of our assets, proportionate to CenterPoint Energy's
ownership interest in us and subject to certain other requirements, be used to
prepay indebtedness under such credit facility. Our credit facility also limits
our incurrence of additional secured indebtedness for borrowed money to a
maximum of $175 million aggregate principal amount. Although we are not
contractually bound by the limitations in CenterPoint Energy's bank facility, we
expect that CenterPoint Energy would likely cause its representatives on our
board of directors to direct our business so as not to breach the terms of its
facility.
Under the terms of the definitive transaction agreement for the sale of
the company to GC Power Acquisition LLC, we have agreed to certain restrictions
on our ability to incur indebtedness. Under these restrictions, prior to closing
of the sale transaction we and our subsidiaries may not repurchase, repay or
incur any indebtedness, issue any securities in respect of indebtedness or
assume, guarantee, endorse or otherwise become responsible for the obligations
or indebtedness of any person, other than:
- as otherwise contemplated by the transaction agreement;
- as required by applicable law;
- items for which GC Power Acquisition has given its prior written
consent (which cannot be unreasonably withheld or delayed);
- repayments in the ordinary course of business consistent with past
practice under our existing $75 million revolving credit agreement;
- borrowings of up to $75 million under our existing $75 million
revolving credit agreement;
- borrowings under the $717 million overnight bridge loan financing
commitment relating to the anticipated public shareholder buy-out in
the first step of the sale transaction;
- borrowings under any new or amended credit agreement not containing
prepayment penalties and on customary terms:
- to fund the purchase price for an additional interest in the
South Texas Project pursuant to the exercise of the right of
first refusal described under " -- Recent Events -- South
Texas Project Right of First Refusal";
- to fund dividends or distributions allowed under the terms of
the transaction agreement, including regular quarterly cash
dividends not in excess of $0.25 per share per quarter; and
- of up to $75 million to fund working capital requirements to
meet operating cash needs (less any amount borrowed for
working capital purposes under our existing $75 million
revolving credit agreement).
Cash Flows From Operations -- Reliant Energy, Inc. (formerly named Reliant
Resources, Inc. (RRI)) as a Significant Customer. To date, we have sold a
substantial portion of our auctioned capacity entitlements to subsidiaries of
RRI. Pursuant to a Master Power Purchase and Sale Agreement with a subsidiary of
RRI related to power sales in the ERCOT market, we have been granted a security
interest in accounts receivable and/or notes associated with the accounts
receivable of certain subsidiaries of RRI to secure up to $250 million in
purchase
14
obligations. For more information regarding the impact that RRI's financial
condition may have on our cash flows, please read "Our Business -- Risk Factors
" in Item 1 of the Texas Genco Form 10-K.
Intercompany Borrowings. As a result of Texas Genco, LP's certification by
the FERC as an EWG under the 1935 Act, CenterPoint Energy has established a
money pool in which we, CenterPoint Energy and certain other unregulated
subsidiaries of CenterPoint Energy can participate. Except in an emergency
situation (in which CenterPoint Energy could provide funding pursuant to
applicable SEC rules), CenterPoint Energy would be required to obtain approval
from the SEC to issue and sell securities for purposes of funding our operations
or for CenterPoint Energy to guarantee any of our securities. There is no
assurance that CenterPoint Energy will have sufficient funds to meet our cash
needs.
Pension Plan. As discussed in Note 6(b) to the consolidated annual
financial statements included in the Texas Genco Form 10-K (Texas Genco Notes),
we participate in CenterPoint Energy's qualified non-contributory pension plan
covering substantially all our employees. Pension expense for 2004 is estimated
to be $12 million based on an expected return on plan assets of 9.0% and a
discount rate of 6.25% as of December 31, 2003. Future changes in plan asset
returns, assumed discount rates and various other factors related to the pension
will impact our future pension expense and liabilities. We cannot predict with
certainty what these factors will be in the future. Additionally, a separate
pension plan will be established for us in the third quarter of 2004. We will
receive an allocation of assets from the CenterPoint Energy pension plan
pursuant to rules and regulations under the Employee Retirement Income Security
Act of 1974 and record our pension obligations in accordance with SFAS No. 87,
"Employer's Accounting for Pensions". It is anticipated that a plan established
for us will be under-funded and that a pension liability of approximately $68
million will be transferred to us from CenterPoint Energy. Changes in interest
rates and the market values of the securities held by the CenterPoint Energy
pension plan during 2004 could materially, positively or negatively, change the
funding status of a plan established for us.
OFF-BALANCE SHEET FINANCING
Other than operating leases, we have no off-balance sheet financing
arrangements.
CRITICAL ACCOUNTING POLICIES
A critical accounting policy is one that is both important to the
presentation of our financial condition and results of operations and requires
management to make difficult, subjective or complex accounting estimates. An
accounting estimate is an approximation made by management of a financial
statement element, item or account in the financial statements. Accounting
estimates in our historical consolidated financial statements measure the
effects of past business transactions or events, or the present status of an
asset or liability. The accounting estimates described below require us to make
assumptions about matters that are highly uncertain at the time the estimate is
made. Additionally, different estimates that we could have used or changes in an
accounting estimate that are reasonably likely to occur could have a material
impact on the presentation of our financial condition or results of operations.
The circumstances that make these judgments difficult, subjective and/or complex
have to do with the need to make estimates about the effect of matters that are
inherently uncertain. Estimates and assumptions about future events and their
effects cannot be predicted with certainty. We base our estimates on historical
experience and on various other assumptions that we believe are reasonable under
the circumstances, the results of which form the basis for making judgments.
These estimates may change as new events occur, as more experience is acquired,
as additional information is obtained and as our operating environment changes.
Our significant accounting policies are discussed in Note 2 of the Texas Genco
Notes. We believe the following accounting policy involves the application of
critical accounting estimates. Accordingly, these accounting estimates have been
reviewed and discussed with the audit committee of the board of directors.
IMPAIRMENT OF LONG-LIVED ASSETS
We review the carrying value of our long-lived assets, including
identifiable intangibles, whenever events or changes in circumstances indicate
that such carrying values may not be recoverable. Unforeseen events and changes
in circumstances and market conditions and material differences in the value of
long-lived assets and intangibles due to changes in estimates of future cash
flows, regulatory matters and operating costs could negatively affect the fair
value of our assets and result in an impairment charge.
15
Fair value is the amount at which the asset could be bought or sold in a
current transaction between willing parties and may be estimated using a number
of techniques, including quoted market prices or valuations by third parties,
present value techniques based on estimates of cash flows, or multiples of
earnings or revenue performance measures. The fair value of the asset could be
different using different estimates and assumptions in these valuation
techniques. Changes in any of these assumptions could result in an impairment
charge.
The fair value of our assets could be materially affected by a change in
the estimated future cash flows for these assets. We estimate future cash flows
using a probability-weighted approach based on the fair value of our common
stock, operating projections and estimates of how long we will retain these
assets.
NEW ACCOUNTING PRONOUNCEMENTS
See Note 2 to the Interim Financial Statements for a discussion of new
accounting pronouncements that affect us.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE RISK
As discussed in Note 4 to the Interim Financial Statements, CenterPoint
Energy Houston Electric, LLC (CenterPoint Houston) contributed $2.9 million in
2003 to trusts established to fund our share of the decommissioning costs for
the South Texas Project. The securities held by the trusts for decommissioning
costs had an estimated fair value of $198 million as of June 30, 2004, of which
approximately 36% were debt securities that subject us to risk of loss of fair
value with movements in market interest rates. If interest rates were to
increase by 10% from their levels at June 30, 2004, the fair value of the
fixed-rate debt securities would decrease by approximately $1 million.
EQUITY MARKET VALUE RISK
As discussed above under " -- Interest Rate Risk," CenterPoint Houston
contributes to trusts established to fund our share of the decommissioning costs
for the South Texas Project, which held debt 36% and equity 64% securities as of
June 30, 2004. The equity securities expose us to losses in fair value. If the
market prices of the individual equity securities were to decrease by 10% from
their levels at June 30, 2004, the resulting loss in fair value of these
securities would be approximately $13 million.
16
COMMODITY PRICE RISK
Our gross margins (revenues less fuel and purchase power costs) related to
unsold base-load capacity are dependent upon the market price for power in the
ERCOT market. Our gross margins are primarily derived from the sale of capacity
entitlements associated with our large, solid fuel base-load generating units,
including our Limestone and W.A. Parish facilities and our interest in the South
Texas Project. The gross margins generated from payments associated with the
capacity of these units are directly impacted by natural gas prices. Since the
fuel costs for our base-load units are largely fixed under long-term contracts,
they are generally not subject to significant daily and monthly fluctuations.
However, the market price for power in the ERCOT market is directly affected by
the price of natural gas. Because natural gas is the marginal fuel of facilities
serving the ERCOT market during most hours, its price has a significant
influence on the price of electric power. As a result, the price customers are
willing to pay for entitlements to our solid fuel base-load capacity generally
rises and falls with natural gas prices.
ITEM 4. CONTROLS AND PROCEDURES
In accordance with Exchange Act Rules 13a-15 and 15d-15, we carried out an
evaluation, under the supervision and with the participation of management,
including our principal executive officer and principal financial officer, of
the effectiveness of our disclosure controls and procedures as of the end of the
period covered by this report. Based on that evaluation, our principal executive
officer and principal financial officer concluded that our disclosure controls
and procedures were effective as of June 30, 2004 to provide assurance that
information required to be disclosed in our reports filed or submitted under the
Exchange Act is recorded, processed, summarized and reported within the time
periods specified in the Securities and Exchange Commission's rules and forms.
There has been no change in our internal controls over financial reporting
that occurred during the three months ended June 30, 2004 that has materially
affected, or is reasonably likely to materially affect, our internal controls
over financial reporting.
17
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are, from time to time, a party to litigation arising in the normal
course of our business, most of which involves contract disputes or claims for
personal injury and property damage incurred in connection with our operations.
For a description of a number of lawsuits involving claims of asbestos exposure
at properties owned by us, please read "Our Business -- Environmental Matters --
Asbestos" in Item 1 of the Texas Genco Form 10-K, which is incorporated herein
by reference. For a description of a lawsuit involving alleged violations of
state and federal antitrust laws, please read "Texas Antitrust Action" in Note 4
to our Interim Financial Statements, which is incorporated herein by reference.
For a description of two lawsuits against the company and its directors
involving alleged self dealing and breach of fiduciary duty, please read Note 7
to our Interim Financial Statements, which is incorporated herein by reference.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
At the annual meeting of our shareholders held on May 13, 2004, the
matters voted upon and the number of votes cast for, against or withheld, as
well as the number of abstentions and broker non-votes as to such matters
(including a separate tabulation with respect to each nominee for office), were
as stated below:
The following nominees for director were elected to serve one-year terms
expiring at the 2005 annual meeting of shareholders (there were no broker
non-votes):
Nominees For Withhold
-------- ---------- ---------
J. Evans Attwell 78,565,917 283,087
Donald R. Campbell 78,368,848 480,156
Robert J. Cruikshank 78,552,458 296,546
Patricia A. Hemingway Hall 78,367,056 481,948
David M. McClanahan 75,884,748 2,964,256
Scott E. Rozzell 75,886,732 2,962,272
David G. Tees 75,830,073 3,018,931
Gary L. Whitlock 75,904,656 2,944,348
The appointment of Deloitte & Touche LLP as independent accountants and
auditors for Texas Genco for 2004 was ratified with 78,656,146 votes for,
177,426 votes against, 15,432 abstentions and no broker non-votes.
18
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
The following exhibits are filed herewith:
Exhibits not incorporated by reference to a prior filing are designated by
a cross (+); all exhibits not so designated are incorporated by reference
to a prior filing as indicated. Pursuant to Item 601(b)(2) of Regulation
S-K, Texas Genco has not filed the exhibits and schedules to Exhibit 2.1.
Texas Genco hereby agrees to furnish a copy of any such exhibit or
schedule to the SEC upon request.
SEC FILE
OR
EXHIBIT REPORT OR REGISTRATION EXHIBIT
NUMBER DESCRIPTION REGISTRATION STATEMENT NUMBER REFERENCE
------ ----------- ---------------------- ------ ---------
2.1 -- Transaction Agreement dated Texas Genco's Current Report 1-31449 10.1
July 21, 2004 among on Form 8-K dated July 21,
CenterPoint Energy, Inc., 2004
Utility Holding, LLC, NN
Houston Sub, Inc., Texas
Genco Holdings, Inc., HPC
Merger Sub, Inc. and GC
Power Acquisition LLC
(excluding exhibits and
schedules thereto)
3.1 -- Amended and Restated Texas Genco Holdings, Inc.'s 1-31449 3.1
Articles of Incorporation ("Texas Genco") Form 10-K
for the year ended December
31, 2002
3.2 -- Amended and Restated Bylaws Texas Genco's Form 10-K for 1-31449 3.2
the year ended December 31,
2002
4.1 -- Specimen Stock Certificate Texas Genco's registration 1-31449 4.1
statement on Form 10
+31.1 -- Rule 13a-14(a)/15d-14(a)
Certification of David G.
Tees
+31.2 -- Rule 13a-14(a)/15d-14(a)
Certification of Gary L.
Whitlock
+32.1 -- Section 1350 Certification
of David G. Tees
+32.2 -- Section 1350 Certification
of Gary L. Whitlock
+99.1 -- Items incorporated by
reference from the Texas
Genco Form 10-K: "Risk
Factors" in Item 1, "Our
Business -- Environmental
Matters -- Asbestos" in Item
1, "Management's Discussion
and Analysis of Financial
Condition and Results of
Operations -- Certain
Factors Affecting Future
Earnings" in Item 7, and
Notes 2(f) and 8 to the
Texas Genco Notes
(b) Reports on Form 8-K.
On April 1, 2004, we filed a Current Report on Form 8-K dated April 1,
2004 to furnish under Item 9 of that form a slide presentation we expect will be
presented to various members of the financial and investment community from time
to time.
On April 22, 2004, we filed a Current Report on Form 8-K dated April 22,
2004, in which we reported certain first quarter 2004 earnings information and
furnished a press release under Item 12 of that form.
19
On June 2, 2004, we filed a Current Report on Form 8-K dated May 28, 2004,
in which we reported that our Board of Directors had voted to exercise our right
of first refusal to purchase up to the entire 25.2 percent interest in the South
Texas Project Electric Generating Station that is currently owned by American
Electric Power.
On July 22, 2004, we filed a Current Report on Form 8-K dated July 21,
2004, in which we reported that CenterPoint Energy and we had entered into a
definitive agreement for GC Power Acquisition LLC to acquire the company.
On August 6, 2004, we filed a Current Report on Form 8-K dated August 6,
2004, in which we reported certain second quarter 2004 earnings information and
furnished a press release under Item 12 of that form.
20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
TEXAS GENCO HOLDINGS, INC.
By: /s/ James S. Brian
--------------------------------------------
James S. Brian
Senior Vice President and Chief Accounting Officer
Date: August 6, 2004
21
INDEX TO EXHIBITS
Exhibits not incorporated by reference to a prior filing are designated by a
cross (+); all exhibits not so designated are incorporated by reference to a
prior filing as indicated. Pursuant to Item 601(b)(2) of Regulation S-K, Texas
Genco has not filed the exhibits and schedules to Exhibit 2.1. Texas Genco
hereby agrees to furnish a copy of any such exhibit or schedule to the SEC upon
request.
SEC FILE
OR
EXHIBIT REPORT OR REGISTRATION EXHIBIT
NUMBER DESCRIPTION REGISTRATION STATEMENT NUMBER REFERENCE
------ ----------- ---------------------- ------ ---------
2.1 -- Transaction Agreement dated Texas Genco's Current Report 1-31449 10.1
July 21, 2004 among on Form 8-K dated July 21,
CenterPoint Energy, Inc., 2004
Utility Holding, LLC, NN
Houston Sub, Inc., Texas
Genco Holdings, Inc., HPC
Merger Sub, Inc. and GC
Power Acquisition LLC
(excluding exhibits and
schedules thereto)
3.1 -- Amended and Restated Texas Genco Holdings, Inc.'s 1-31449 3.1
Articles of Incorporation ("Texas Genco") Form 10-K
for the year ended December
31, 2002
3.2 -- Amended and Restated Bylaws Texas Genco's Form 10-K for 1-31449 3.2
the year ended December 31,
2002
4.1 -- Specimen Stock Certificate Texas Genco's registration 1-31449 4.1
statement on Form 10
+31.1 -- Rule 13a-14(a)/15d-14(a)
Certification of David G.
Tees
+31.2 -- Rule 13a-14(a)/15d-14(a)
Certification of Gary L.
Whitlock
+32.1 -- Section 1350 Certification
of David G. Tees
+32.2 -- Section 1350 Certification
of Gary L. Whitlock
+99.1 -- Items incorporated by
reference from the Texas
Genco Form 10-K: "Risk
Factors" in Item 1, "Our
Business -- Environmental
Matters -- Asbestos" in Item
1, "Management's Discussion
and Analysis of Financial
Condition and Results of
Operations -- Certain
Factors Affecting Future
Earnings" in Item 7, and
Notes 2(f) and 8 to the
Texas Genco Notes