<PAGE>
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
SEPTEMBER 30, 1998
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 1-9208
COGENERATION CORPORATION OF AMERICA
(Exact name of Registrant as Specified in Charter)
Delaware 59-2076187
(State or other jurisdiction (I.R.S. Employer
of incorporation) Identification No.)
___________
One Carlson Parkway, Suite 240
Minneapolis, Minnesota 55447-4454
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (612) 745-7900
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. X Yes No
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS
DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all
documents and reports required to be filed by Sections 12, 13 or
15(d) of the Securities Exchange Act of 1934 subsequent to the
distribution of securities under a plan confirmed by a court.
X Yes No
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's
classes of common stock as of the latest practicable date:
6,836,769 shares of common stock, $0.01 par value per share (the
"Common Stock"), as of November 9, 1998.
<PAGE>
COGENERATION CORPORATION OF AMERICA
FORM 10-Q
September 30, 1998
INDEX
Page
Part I - Financial Information:
Item 1. Financial Statements 3
Consolidated Balance Sheets -
September 30, 1998 and December 31, 1997 3
Consolidated Statements of Operations -
Three months and nine months ended September 30, 1998
and September 30, 1997 4
Consolidated Statements of Cash Flows -
Nine months ended September 30, 1998 and September 30, 1997 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk 23
Part II - Other Information
Item 1. Legal Proceedings 24
Item 6. Exhibits and Reports on Form 8-K 25
Signature 26
Index to Exhibits 27
2
<PAGE>
PART 1
FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
COGENERATION CORPORATION OF AMERICA
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
<TABLE>
<CAPTION>
ASSETS
September 30, December 31,
1998 1997
(Unaudited)
<S> <C> <C>
Current assets:
Cash and cash equivalents.................................... $ 3,417 $ 3,444
Restricted cash and cash equivalents......................... 11,178 8,527
Accounts receivable, net..................................... 13,155 11,099
Receivables from related parties............................. 146 87
Notes receivable, current.................................... 3 27
Inventories.................................................. 2,368 2,134
Other current assets......................................... 729 1,022
Total current assets....................................... 30,996 26,340
Property, plant and equipment, net of accumulated
depreciation of $50,388 and $44,517, respectively........... 123,518 127,574
Property under construction.................................... 92,853 46,247
Project development costs...................................... 731 129
Investments in equity affiliates............................... 17,638 13,381
Deferred financing costs, net.................................. 6,008 5,643
Deferred tax assets, net....................................... 7,996 7,996
Other assets................................................... 516 584
Total assets............................................... $ 280,256 $ 227,894
</TABLE>
<TABLE>
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
<S> <C> <C>
Current liabilities:
Current portion of loans and payables due NRG Energy, Inc..... $ 2,041 $ 2,864
Current portion of nonrecourse long-term debt................. 9,339 8,525
Current portion of recourse long-term debt.................... 408 495
Short-term borrowings......................................... 2,594 1,313
Accounts payable.............................................. 17,279 20,582
Prepetition liabilities....................................... 797 775
Other current liabilities..................................... 2,765 3,083
Total current liabilities................................... 35,223 37,637
Loans due NRG Energy, Inc....................................... 4,439 4,439
Nonrecourse long-term debt...................................... 212,463 165,020
Recourse long-term debt......................................... 25,000 25,000
Total liabilities........................................... 277,125 232,096
Stockholders' equity (deficit):
Preferred stock, par value $.01, 20,000,000 shares
authorized; none issued or outstanding...................... - -
New common stock, par value $.01, 50,000,000 shares
authorized, 6,871,069 shares issued,
6,836,769 shares outstanding as of
September 30, 1998 and December 31, 1997, respectively..... 68 68
Additional paid-in capital.................................... 65,715 65,715
Accumulated deficit........................................... (62,332) (69,592)
Accumulated other comprehensive income (loss)................. (320) (393)
Total stockholders' equity (deficit)........................ 3,131 (4,202)
Total liabilities and stockholders' equity (deficit)........ $ 280,256 $ 227,894
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE>
COGENERATION CORPORATION OF AMERICA
CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
(Dollars in thousands, except per share amounts)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30, September 30, September 30,
1998 1997 1998 1997
<S> <C> <C> <C> <C>
REVENUES:
Energy revenues....................... $ 11,153 $ 11,030 $ 32,954 $ 32,423
Equipment sales and services.......... 6,237 5,243 14,571 14,435
Rental revenues....................... 727 616 2,208 1,543
18,117 16,889 49,733 48,401
COST OF REVENUES:
Cost of energy revenues............... 4,205 3,462 11,905 10,694
Cost of equipment sales and services.. 5,229 4,425 12,697 11,986
Cost of rental revenues............... 585 419 1,759 1,242
10,019 8,306 26,361 23,922
Gross profit........................ 8,098 8,583 23,372 24,479
Selling, general and
administrative expenses.............. 1,387 2,080 5,923 5,996
Income from operations.............. 6,711 6,503 17,449 18,483
Interest and other income............. 215 160 684 549
Equity in earnings of affiliates...... 1,595 24 4,241 67
Interest and debt expense............. (3,504) (3,670) (10,543) (11,001)
Income before income taxes.......... 5,017 3,017 11,831 8,098
Provision for income taxes............. 1,809 224 4,571 747
Net income.......................... $ 3,208 $ 2,793 $ 7,260 $ 7,351
Basic earnings per share............... $ 0.47 $ 0.43 $ 1.06 $ 1.14
Diluted earnings per share............. $ 0.46 $ 0.41 $ 1.04 $ 1.12
Weighted average shares
outstanding (Basic)................... 6,837 6,441 6,837 6,441
Weighted average shares
outstanding (Diluted)................. 6,952 6,771 6,983 6,586
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
<PAGE>
COGENERATION CORPORATION OF AMERICA
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
(Dollars in thousands)
<TABLE>
<CAPTION>
Nine Months Ended
September 30, September 30,
1998 1997
<S> <C> <C>
Cash Flows from Operating Activities:
Net income................................................... $ 7,260 $ 7,351
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization............................ 6,343 5,722
Equity in earnings of affiliates......................... (4,241) (67)
(Gain) loss on disposition of property and equipment..... (137) 585
Other, net............................................... 57 (28)
Changes in operating assets and liabilities:
Accounts receivable, net............................... (2,056) (253)
Inventories............................................ (234) (280)
Receivables from related parties....................... (59) 120
Other assets........................................... 276 (59)
Accounts payable and other current liabilities......... 2,381 (2,164)
Net cash provided by operating activities............ 9,590 10,927
Cash Flows from Investing Activities:
Capital expenditures......................................... (48,971) (1,636)
Proceeds from disposition of property and equipment.......... 686 552
Investment in equity affiliates.............................. - (4,900)
Project development costs.................................... (602) (15)
Collections on notes receivable.............................. 24 1,152
Deposits into restricted cash accounts, net.................. (2,629) (2,505)
Net cash used in investing activities................ (51,492) (7,352)
Cash Flows from Financing Activities:
Proceeds from long-term debt................................. 47,625 4,900
Repayments of long-term debt................................. (6,280) (8,455)
Net proceeds (repayments) of short-term borrowings........... 1,281 (711)
Repayments of prepetition liabilities........................ - (1,665)
Deferred financing costs..................................... (751) -
Net cash provided by (used in) financing activities.. 41,875 (5,931)
Net decrease in cash and cash equivalents..................... (27) (2,356)
Cash and cash equivalents, beginning of period................ 3,444 3,187
Cash and cash equivalents, end of period...................... $ 3,417 $ 831
</TABLE>
<TABLE>
<CAPTION>
<S> <C> <C>
Supplemental disclosure of cash flow information:
Interest paid............................................... $ 10,622 $ 12,500
Income taxes paid........................................... 1,424 1,317
Transfer of construction payables into long-term debt....... 6,825 -
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
COGENERATION CORPORATION OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 1998
(Dollars in thousands)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Cogeneration Corporation of America ("CogenAmerica" or the "Company,"
formerly NRG Generating (U.S.) Inc.) and its subsidiaries develop and own
cogeneration projects which produce electricity and thermal energy for sale
to industrial and commercial users and public utilities. In addition, the
Company, through its subsidiaries, sells and rents power generation,
cogeneration and standby/peak shaving equipment and services.
Basis of Presentation
The consolidated financial statements include the accounts of all
majority-owned subsidiaries and all significant intercompany accounts and
transactions have been eliminated. Investments in companies, partnerships
and projects that are more than 20% but less than majority-owned are
accounted for by the equity method.
The accompanying unaudited consolidated financial statements and notes
should be read in conjunction with the Company's Report on Form 10-K for
the year ended December 31, 1997. In the opinion of management, the
consolidated financial statements reflect all adjustments necessary for a
fair presentation of the interim periods presented. Results of operations
for an interim period may not give a true indication of results for the
year.
Reclassifications
Certain reclassifications have been made to conform prior years' data
to the current presentation. These reclassifications had no impact on
previously reported net income or stockholders' deficit.
Net Earnings Per Share
Basic earnings per share is computed by dividing net income available
to common stockholders by the weighted average shares outstanding. Diluted
earnings per share is computed by dividing net income available to common
stockholders by the weighted average shares of common stock and dilutive
common stock equivalents outstanding. The Company's dilutive common stock
equivalents result from stock options and are computed using the treasury
stock method.
<TABLE>
<CAPTION>
Three Months Ended Three Months Ended
September 30, 1998 September 30, 1997
Income Shares Income Shares
(Numerator) (Denominator) EPS (Numerator) (Denominator) EPS
<S> <C> <C> <C> <C> <C> <C>
Net income:
Basic EPS $ 3,208 6,837 $ 0.47 $ 2,793 6,441 $ 0.43
Effect of dilutive
Stock options - 115 - 330
Diluted EPS $ 3,208 6,952 $ 0.46 $ 2,793 6,771 $ 0.41
</TABLE>
6
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
SEPTEMBER 30, 1998
(Dollars in thousands)
<TABLE>
<CAPTION>
Three Months Ended Three Months Ended
September 30, 1998 September 30, 1997
Income Shares Income Shares
(Numerator) (Denominator) EPS (Numerator) (Denominator) EPS
<S> <C> <C> <C> <C> <C> <C>
Net income:
Basic EPS $ 7,260 6,837 $ 1.06 $ 7,351 6,441 $ 1.14
Effect of dilutive
Stock options - 146 - 145
Diluted EPS $ 7,260 6,983 $ 1.04 $ 7,351 6,586 $ 1.12
</TABLE>
2. LOANS DUE NRG ENERGY, INC.
Of the September 30, 1998 loan balance of $4,439 due to NRG Energy,
Inc. ("NRG Energy"), $2,539 has a maturity date of April 30, 2001 and
$1,900 has a maturity date of July 1, 2005. Subsequent to September 30,
1998, additional borrowings from NRG Energy occurred. See Note 4 of the
Notes to Consolidated Financial Statements.
3. COMPREHENSIVE INCOME
Effective January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income" ("SFAS
130"), which established new rules for the reporting and display of
comprehensive income and its components in a full set of general-purpose
financial statements. Adoption of SFAS 130 had no impact on the Company's
net income or stockholders' equity. The Company's comprehensive income is
comprised of net income and other comprehensive income, which consists
solely of foreign currency translation adjustments. The components of
comprehensive income, net of related tax, for the third quarter and first
nine months of 1998 and 1997 were as follows:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30, September 30, September 30,
1998 1997 1998 1997
<S> <C> <C> <C> <C>
Net income $ 3,208 $ 2,793 $ 7,260 $ 7,351
Foreign currency translation
gain (loss) 47 (90) 73 (112)
Comprehensive income $ 3,255 $ 2,703 $ 7,333 $ 7,239
</TABLE>
4. SUBSEQUENT EVENTS
Acquisition of Pryor Project
On October 9, 1998, CogenAmerica Pryor Inc. ("CogenAmerica Pryor"), a
wholly-owned subsidiary of CogenAmerica, acquired from Mid-Continent Power
Company, LLC ("MCPC LLC") the entire interest in a 110 megawatt ("MW")
cogeneration project located in the Mid-America Industrial Park, in Pryor,
Oklahoma (the "Pryor Project"). MCPC LLC is owned 50% by NRG Energy and
50% by parties affiliated with Decker Energy International, Inc. NRG
Energy beneficially owns 47.6% of the Company's Common Stock, and five of
the Company's directors are executive officers of NRG Energy.
CogenAmerica Pryor acquired the Pryor Project by purchasing from MCPC
LLC all of the issued and outstanding stock of Oklahoma Loan Acquisition
Corporation ("OLAC") for a cash purchase price of approximately $23.9
million. The Mid-Continent Power Company, Inc.
7
<PAGE>
("MCPC") had transferred the Pryor Project to OLAC in December 1997 under
its bankruptcy reorganization plan. The Pryor Project sells 110 MW of
capacity and varying amounts of energy to Oklahoma Gas and Electric Company
under a contract through 2008 and steam to a number of industrial users
under contracts with various termination dates ranging from 1998 to 2007.
In addition, the Pryor Project sells varying amounts of energy to the
Public Service of Oklahoma at its avoided cost.
The acquisition will be accounted for as a purchase in the fourth
quarter. NRG Energy has loaned the Company and CogenAmerica Pryor
approximately $23.9 million to finance the acquisition. The loan is a six-
year term facility requiring interest and variable principal and interest
payments on a quarterly basis, based on project cash flows. The interest
rate on the note relating to such loan is currently set at the prime rate
plus 3.5%. The interest rate reduces by two percentage points upon the
occurrence of certain events related to elimination of default risk under
the loan. The Company is continuing to pursue alternative sources of
financing for either CogenAmerica Pryor or itself, which financing may
include a refinancing of any amounts borrowed under the loan agreement.
Sale of OES
On November 5, 1998 the Company sold O'Brien Energy Services Company
("OES"), a wholly-owned subsidiary of the Company, in a stock transaction
to an unrelated third party. The sales price was $2,000 and the Company
recorded a gain on the sale. During the quarter and nine-month period
ended September 30, 1998, the Company recorded revenue from OES of $1,728
and $5,184, respectively. The disposition of this business is not expected
to have a material impact on the Company's results of operations or
financial position.
Borrowings under Morris Project Loan
On October 30, 1998 the Company borrowed $8,902 from NRG Energy under
the Supplemental Loan Agreement to partially fund its equity commitment for
the Morris Project. It is expected that the Company will access the
Supplemental Loan Agreement up to the maximum commitment of $22,000 by the
end of the year to fully fund its equity commitment for the project. The
Supplemental Loan Agreement calls for an interest rate of prime plus 1.5%,
but until the possible event of default related to the Grays Ferry
Cogeneration Project (the "Grays Ferry Project") that has been waived by
MeesPierson has been eliminated, the loan will bear interest at the prime
rate plus 3.5%. The Company is continuing to pursue alternative sources of
financing for either CogenAmerica Funding or itself, which financing may
include a refinancing of any amounts borrowed under the Supplemental Loan
Agreement.
Expenses Related to Proxy Solicitation
As previously reported in the Company's Report on Form 8-K filed on
November 10, 1998, on October 8, 1998 NRG Energy filed definitive
solicitation materials (the "NRG Proxy Materials") with the Securities and
Exchange Commission (the "SEC") pursuant to Section 14(a) of the Securities
Exchange Act of 1934, as amended, relating to a proposed solicitation of
proxies and consents from the Company's stockholders to remove Robert T.
Sherman, Jr., then the Company's President and Chief Executive Officer,
from the Company's Board of Directors (the "NRG Proxy Solicitation"). On
October 26, 1998 NRG Energy delivered to the Company's registered agent
consents of the holders of in excess of 50% of the Company's outstanding
Common Stock in favor of Mr. Sherman's removal from the
8
<PAGE>
Company's Board of Directors. However, NRG Energy has stated that it
intends to proceed with a Special Meeting of the Company's stockholders
scheduled for November 12, 1998 to vote its shares and the shares for which
it holds a proxy on the removal of Mr. Sherman in order to eliminate
potential litigation over the validity of the consent action.
The NRG Proxy Solicitation was opposed by Mr. Sherman and the members
of the Independent Directors Committee of the Board, and expenses of
approximately $200 were incurred after September 30, 1998, on behalf of the
Company in that effort. In addition, in the NRG Proxy Materials, NRG
Energy stated that if it was successful with the NRG Proxy Solicitation it
intended to seek reimbursement from the Company for its expenses of
preparing, assembling, printing and mailing the NRG Proxy Materials and the
accompanying proxy and consent cards and its costs of soliciting proxies
and consents. NRG Energy further indicated in the NRG Proxy Materials that
it estimated that it would incur an aggregate of approximately $300 of such
expenses.
5. INVESTMENT IN GRAYS FERRY
CogenAmerica Schuylkill Inc., a wholly-owned subsidiary ("CSI"), has a
one-third partnership interest in the Grays Ferry Cogeneration Partnership
("Grays Ferry Partnership"). The other partners are affiliates of PECO
Energy Company ("PECO") and Trigen Energy Corporation ("Trigen"). Grays
Ferry has constructed a 150 MW cogeneration facility located in
Philadelphia. Grays Ferry has a 25-year contract to supply all the steam
produced by the project to an affiliate of Trigen through January 2023 and
a 20-year contract to supply all the electricity produced by the project to
PECO through January 2018.
The Company accounts for its investment in Grays Ferry by the equity
method. The investment in Grays Ferry was $17,060 and $12,845 at September
30, 1998 and December 31, 1997, respectively. The Company's equity in the
earnings of Grays Ferry was $1,583 and $4,215 for the quarter and nine
months ended September 30, 1998. Grays Ferry commenced commercial
operations in January 1998 and therefore had no earnings in 1997.
Summarized income statement information of Grays Ferry for 1998 is
presented below.
GRAYS FERRY
Three Months Nine Months
Ended Ended
September 30, September 30,
1998 1998
Net revenues $ 20,665 $ 58,128
Cost of sales 11,257 33,866
Operating income 7,923 20,647
Partnership net income 4,531 12,646
6. LITIGATION
Grays Ferry Litigation. The Company's wholly-owned subsidiary through
which it owns a one-third interest in the Grays Ferry Partnership, filed
suit as one of three Plaintiffs (including the Grays Ferry Partnership) in
an action brought against PECO on March 9, 1998, in the United States
District Court for the Eastern District of Pennsylvania, seeking relief for
PECO's refusal to pay the partnership the electricity rates set forth in
the power purchase agreements. On March 19, 1998, the federal district
court dismissed the federal lawsuit for lack of subject matter
jurisdiction. On March 27, 1998, the Plaintiffs filed a motion for
reconsideration and leave to file an amended complaint. On
9
<PAGE>
April 13, 1998 the federal district court judge denied the Plaintiffs'
motion. The Plaintiffs thereafter filed a new lawsuit in state court in
Pennsylvania seeking, among other things, to enjoin PECO from terminating
its power purchase agreements with the partnership and to compel PECO to
pay the electricity rates set forth in the agreements. On May 5, 1998, the
Grays Ferry Partnership obtained a preliminary injunction enjoining PECO
from terminating the power purchase agreements and ordering PECO to comply
with the terms of the power purchase agreements pending the outcome of the
litigation. The Court of Common Pleas in Philadelphia also ordered PECO to
abide by all of the terms and conditions of the power purchase agreements
and pay the rates set forth in the agreements. The Plaintiffs were
required to post a bond in the amount of $50 in connection with the
preliminary injunction. On May 8, 1998, PECO filed a motion to stay the
preliminary injunction order. On May 13, 1998, the Grays Ferry Partnership
filed an emergency petition for contempt to compel PECO to pay the amounts
due and owing under the power purchase agreements. On May 20, 1998, the
Court of Common Pleas granted the motion for civil contempt and ordered
PECO to pay $50 for each day that PECO failed to comply with the court's
order. The power purchaser, in response to the preliminary injunction, has
made all past due payments under protest and continues to make payments to
the Grays Ferry Partnership under protest according to the terms of the
power purchase agreements. On July 7, 1998 PECO withdrew its appeal of the
preliminary injunction. The trial date of March 29, 1999 has been
established and the discovery phase of the litigation is progressing. The
Grays Ferry Partnership is vigorously pursuing the litigation and expects
to achieve a favorable result.
As a result of the power purchaser's actions, the Grays Ferry
Partnership is currently in default of its project financing credit
agreement. The debt under the credit agreement is secured only by the
partnership's assets and the partners' ownership interests in the
partnership. The lenders have not accelerated the debt as a result of the
default. However, the Grays Ferry Partnership is currently prohibited from
making certain distributions to its owners and other parties. At September
30, 1998 the Company's investment in the Grays Ferry Partnership, which is
accounted for by the equity method, was $17.1 million. While it is
possible that the Company's investment could become impaired, the Company
does not believe that is likely and no provision for loss has been
recorded.
7. REVOLVING CREDIT FACILITY
On December 17, 1997, the Company entered into a credit agreement
providing for a $30,000 reducing revolving credit facility. The facility
reduces by $2,500 on the first and second anniversaries of the agreement
and repayment of the outstanding balance is due on the third anniversary of
the agreement. At September 30, 1998, borrowings of $25,000 were
outstanding. The facility is secured by the assets and cash flows of the
Philadelphia PWD Project as well as the distributable cash flows of the
Parlin and Newark Projects and the Grays Ferry Partnership.
The credit agreement includes cross-default provisions that cause
defaults to occur in the event certain defaults or other adverse events
occur under certain other instruments or agreements (including financing
and other project documents) to which the Company or one or more of its
subsidiaries or other entities in which it owns an ownership interest is a
party. In the absence of a waiver, the actions taken by the power
purchaser from the Grays Ferry Project would have resulted in a cross
default under the revolving credit facility. Repayment of the revolving
credit facility has not been accelerated and the lender has waived such
default through July 1, 1999. The Company has agreed not to draw any
additional amounts under the revolving credit facility.
10
<PAGE>
Item 2.MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The information contained in this Item 2 updates, and should be read
in conjunction with, the information set forth in Part II, Item 7, of the
Company's Report on Form 10-K for the year ended December 31, 1997.
Capitalized terms used in this Item 2 which are not defined herein have the
meaning ascribed to such terms in the Notes to the Company's consolidated
financial statements included in Part I, Item 1 of this Report on Form 10-
Q. All dollar amounts (except per share amounts) set forth in this Report
are in thousands.
Except for the historical information contained in this Report, the
matters reflected or discussed in this Report which relate to the Company's
beliefs, expectations, plans, future estimates and the like are forward-
looking statements within the meaning of Section 27A of the Securities Act
of 1933, as amended, and Section 21E of the Securities Exchange Act of
1934, as amended. Without limiting the generality of the foregoing, the
words "believe," "anticipate," "estimate," "expect," "intend," "plan,"
"seek" and similar expressions, when used in this Report and in such other
statements, are intended to identify forward-looking statements. Such
forward-looking statements are subject to risks, uncertainties and other
factors that may cause the actual results, performance or achievements of
the Company to differ materially from historical results or from any
results expressed or implied by such forward-looking statements. Such
factors include, without limitation, uncertainties inherent in predicting
the outcome of litigation and other factors discussed in this Report and
the Company's Report on Form 10-K for the year ended December 31, 1997
entitled "Item 1. Business - Risk Factors." Many of such factors are
beyond the Company's ability to control or predict, and readers are
cautioned not to put undue reliance on such forward-looking statements. By
making these forward-looking statements, the Company does not undertake to
update them in any manner except as may be required by the Company's
disclosure obligations in filings it makes with the Securities and Exchange
Commission under the Federal securities laws.
General
The Company is engaged primarily in the business of developing, owning
and operating cogeneration projects, which produce electricity and thermal
energy for sale under long-term contracts with industrial and commercial
users and public utilities. In addition to its energy business, the
Company sells and rents power generation and cogeneration equipment through
subsidiaries located in the United States and the United Kingdom.
In its role as a developer and owner of energy projects, the Company
has ownership interests in the following projects:
(a) The 58 MW Newark Boxboard Project (the "Newark Project"),
located in Newark, New Jersey, began operations in November 1990,
and is owned by the Company's wholly-owned subsidiary
CogenAmerica Newark Inc. ("Newark"). The output of the facility
increased from 52MW to 58MW in September 1998 due to the
completion of the installation of an air inlet chiller for the
combustion turbine;
(b) The 122 MW E.I. du Pont de Nemours Parlin Project (the
"Parlin Project"), located in Parlin, New Jersey, began
operations in June 1991, and is owned by the Company's wholly-
owned subsidiary CogenAmerica Parlin Inc. ("Parlin");
11
<PAGE>
(c) The 22 MW Philadelphia Cogeneration Project (the
"Philadelphia PWD Project"), located in Philadelphia,
Pennsylvania, began operations in May 1993. The principal
project agreements relating to the Philadelphia PWD Project are
held by an 83%-owned subsidiary of the Company;
(d) The 150 MW Grays Ferry Project, located in Philadelphia,
Pennsylvania, began operations in January 1998. The Company owns
a one-third interest in the Grays Ferry Partnership, which owns
the Grays Ferry Project; and
(e) The 110 MW Pryor Project, located in Pryor, Oklahoma, which
was purchased in October 1998, and is owned by the Company's
wholly-owned subsidiary CogenAmerica Pryor. The Company is
presently in the process of evaluating a capital improvements
program for the facility that could cost in the range of $5,000
to $10,000 over a three-year period. The purpose of the capital
improvements program is to improve the operating conditions and
reliability of the facility.
In December 1997, the Company acquired from NRG Energy a 117 MW steam
and electricity cogeneration project located in Morris, Illinois (the
"Morris Project"). The Morris Project is currently under construction with
completion expected to occur during the fourth quarter of 1998. The
Company owns 100% of the Morris Project at September 30, 1998.
The Company's power purchase agreements ("PPAs") with utilities have
typically contained, and may in the future contain, price provisions which
in part are linked to the utilities' cost of generating electricity. In
addition, the Company's fuel supply prices, with respect to future
projects, may be fixed in some cases or may be linked to fluctuations in
energy prices. These circumstances can result in high volatility in gross
margins and reduced operating income, either of which could have a material
adverse effect on the Company's financial position or results of
operations. Effective April 30, 1996, the Company renegotiated its PPAs
with Jersey Central Power and Light Company ("JCP&L"), the primary
electricity purchaser from its Parlin and Newark Projects. Under the
amended PPAs, JCP&L is responsible for all natural gas supply and delivery.
Management believes that this change in these PPAs has reduced its
historical volatility in gross margins on revenues from such projects by
eliminating the Company's exposure to fluctuations in the price of natural
gas that must be paid by its Parlin and Newark Projects.
As a part of the negotiation of new agreements in 1996, the Parlin and
Newark PPAs also contain provisions allowing JCP&L to curtail delivery of
electricity supply for a certain number of hours each year. These
curtailments are called by JCP&L and are primarily driven by weather
conditions. As a result, these curtailments may have a seasonal effect on
revenues from the Parlin and Newark facilities. Historically, JCP&L has
exercised its maximum economic generation curtailment each year, thus
fluctuations in annual revenues due to curtailment provisions have been
minimal.
All of the Company's facilities have long-term contracts for the sale
of electricity and steam, and the pricing for these products are an
integral part of these agreements. In each case these contracts are for
the sale of all or most of the output of the facility in question. Certain
of the company's facilities have the physical and contractual ability to
make sales of electric energy and/or capacity in excess of amounts sold
under long term contracts. The Company will market and implement sales of
excess capacity and energy from these facilities when it is economically
advantageous to do so.
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Both the Parlin and Newark Projects were previously certified as
qualifying facilities ("QFs") by the Federal Energy Regulatory Commission
("FERC") under the Public Utility Regulatory Policies Act of 1978
("PURPA"). The effect of QF status is generally to exempt a project's
owners from relevant provisions of the Federal Power Act, the Public
Utility Holding Company Act of 1935 ("PUHCA"), and state utility-type
regulation. However, as permitted under the terms of its renegotiated PPA,
Parlin has chosen to file rates with FERC as a public utility under the
Federal Power Act. The effect of this filing was to relinquish the Parlin
Project's claim to QF status. The FERC approved Parlin's rates effective
April 30, 1996 and has determined Parlin to be an exempt wholesale
generator ("EWG"). As an EWG, Parlin is exempt from PUHCA, and the
ownership of Parlin by the Company does not subject the Company to
regulation under PUHCA. Finally, as a seller of power exclusively at
wholesale, Parlin is not generally subject to state regulation and, in any
case, management believes that Parlin complies with all applicable
requirements of state utility law.
Morris LLC may be subject to regulation by the Illinois Commerce
Commission ("ICC" or "Commission") with respect to its retail sales of
electric power from the Morris Project as a result of the enactment by the
Illinois legislature of the Electric Service Customer Choice and Rate
Relief Law of 1997 ("Customer Choice Act"). The Customer Choice Act
created a new type of retail seller known as an "alternative retail
electric supplier" ("ARES"), which is defined to include "every person .
that offers electric power or energy for sale . to one or more retail
customers", subject to certain exclusions. The Company believes that Morris
LLC qualifies under one of the exclusions from the ARES definition and thus
is not required to obtain Commission certification.
On September 10, 1998, Morris LLC filed a request for declaratory
ruling with the ICC requesting the Commission's determination that Morris
LLC will not require certification as an ARES by virtue of its development
of the Morris Project and provision of electricity to Equistar Chemicals,
LP ("Equistar"), the purchaser of power produced by the Morris Project
under a long term agreement. On October 13, 1998 a hearing on Morris LLC's
declaratory request was concluded. A proposed order granting Cogen Morris'
request for declaratory ruling has been forwarded by the hearing examiner
in the case for a vote by the full Commission. The Company believes
Morris LLC will receive a favorable ruling on its request from the
Commission in the near future.
If Morris LLC's request for a declaratory ruling is denied it will be
required under the Customer Choice Act to obtain ARES certification from
the ICC. As an ARES, Morris LLC would not be subject to rate regulation by
the ICC but would be subject to certain other regulatory requirements that
the Company believes would not have a material adverse effect on Morris LLC
or the Company. The Customer Choice Act requires the Commission to act on
applications for ARES certification within 45 days of proper filing and
publication of notice. In the event that Morris LLC's request for
declaratory ruling is denied and Morris LLC is unable to obtain
certification as an ARES, the Company believes that Morris LLC and the
Company would be materially adversely affected because Morris LLC would not
be legally entitled to sell power to Equistar or any other retail
purchaser.
In addition to the energy business, the Company sells and rents power
generation and cogeneration equipment and provides related services. The
Company has operated its equipment sales, rentals and services business
principally through two subsidiaries. In the United States, the equipment
sales, rentals and services business operated under the name of O'Brien
Energy Services Company. NRG Generating Limited, a wholly-owned United
Kingdom subsidiary, is the holding company for a number of subsidiaries
that operate in
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the United Kingdom under the common name of Puma ("Puma"). The Company
determined in 1997 that OES and Puma were no longer part of its strategic
plan.
The Company completed the sale of OES on November 5, 1998 and is
continuing to pursue alternatives for the disposition of Puma. The
disposition of these businesses is not expected to have a material impact
on the Company's results of operations or financial position.
Net Income and Earnings Per Share
Pre-tax earnings for the 1998 third quarter were $5,017 compared to
$3,017 in the prior year comparable quarter. Pre-tax earnings for the
first nine months of 1998 were $11,831 compared to $8,098 in the prior year
comparable period. Net income for the 1998 third quarter was $3,208, or
diluted earnings per share of $0.46, compared to third quarter 1997 net
income of $2,793, or diluted earnings per share of $0.41. Net income for
the first nine months of 1998 was $7,260, or diluted earnings per share of
$1.04, compared to net income of $7,351 in the prior year comparable
period, or diluted earnings per share of $1.12. The increase in net income
for the third quarter was primarily due to earnings from the Grays Ferry
Project and lower selling, general and administrative expenses, offset by
lower earnings due to higher income tax expenses. Net income for the first
nine months of 1998 was lower than the prior year period primarily due to
lower earnings from the equipment sales, rental and services segment and
higher depreciation and income tax expense, offset by the positive impact
of earnings from the Grays Ferry Project. Diluted earnings per share for
the 1998 third quarter increased from the prior comparable quarter due to
higher net income, offset by an increase in the weighted average shares
outstanding. Diluted earnings per share for the first nine months of 1998
decreased from the prior year comparable period due to lower net income and
an increase in the weighted average shares outstanding. Weighted average
shares outstanding increased primarily due to the conversion by NRG Energy
in October 1997 of $3,000 of borrowings to the Company into 396,255 shares
of the Company's Common Stock pursuant to an agreement entered into as a
part of the bankruptcy plan.
During the 1997 fourth quarter, the Company recorded an income tax
benefit by reducing the valuation allowance previously established for
federal and state net operating loss carryforwards and other deferred tax
assets. Consequently, although the net operating loss carryforwards
continue to reduce income taxes currently payable, 1998 earnings are
generally fully-taxed. In the quarter and nine months ended September 30,
1997, which was prior to reversal of the valuation allowance, net operating
loss carryforwards were recognized each period as a reduction of income tax
expense based on pretax income. On a comparable basis, net income for the
quarter and nine months ended September 30, 1997 would have been $1,929 and
$4,969, or diluted earnings per share of $0.28 and $0.75, respectively,
assuming the same effective tax rate as in the 1998 periods.
Revenues
Energy revenues for the third quarter 1998 of $11,153 increased from
revenues of $11,030 for the comparable period in 1997. Energy revenues for
the first nine months of 1998 of $32,954 increased from $32,423 for the
comparable period in 1997. Energy revenues primarily reflect billings
associated with the Newark, Parlin and Philadelphia PWD Projects. The
increases in energy revenues were primarily attributable to lower
curtailment hours at the Newark Project.
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Revenues recognized at Parlin and Newark were $6,022 and $4,070 for
the third quarter 1998 and $6,170 and $3,791 for the comparable period in
1997, respectively. Revenues recognized at Parlin and Newark were $16,535
and $13,258 for the first nine months of 1998 and $16,776 and $12,500 for
the comparable period in 1997, respectively. The increases were primarily
due to lower curtailment hours at the Newark Project.
Energy revenues from the Philadelphia PWD Project for the third
quarter 1998 of $1,061 decreased slightly from revenues of $1,069 for the
comparable period in 1997. Energy revenues from this project for the first
nine months of 1998 of $3,161 increased slightly from the $3,147 of
revenues for the comparable period in 1997.
Equipment sales and services revenues for the third quarter 1998 of
$6,237 increased from revenues of $5,243 for the comparable period in 1997.
Equipment sales and services revenues for the first nine months of 1998 of
$14,571 increased from the $14,435 of revenues for the comparable period in
1997. The increases were primarily attributable to higher sales volume in
the third quarter 1998.
OES equipment sales and services revenues for the third quarter 1998
of $1,728 increased from revenues of $1,538 for the comparable period in
1997. OES equipment sales and services revenues for the first nine months
of 1998 of $5,184 increased from the $4,266 of revenues for the comparable
period in 1997. The increases were primarily due to higher sales volume.
Puma equipment sales and services revenues for the third quarter 1998 of
$4,509 increased from revenues of $3,705 for the comparable period in 1997.
Puma equipment sales and services revenues for the first nine months of
1998 of $9,387 decreased from the $10,169 of revenues for the comparable
period in 1997. The increase for the third quarter was primarily due to
higher sales volume. The decrease for the first nine months of 1998 was
primarily due to lower sales volume.
Rental revenues for the third quarter 1998 of $727 increased from
revenues of $616 for the comparable period in 1997. Rental revenues for
the first nine months of 1998 of $2,208 increased from the $1,543 of
revenues for the comparable period in 1997. The increases were due
primarily to higher sales volume due in part to ice storms in the
northeastern United States and Canada in the first quarter 1998.
Costs and Expenses
Cost of energy revenues for the third quarter 1998 of $4,205 increased
from costs of $3,462 for the comparable period in 1997. Cost of energy
revenues for the first nine months of 1998 of $11,905 increased from the
$10,694 of costs for the comparable period in 1997. The increases were
primarily the result of depreciation associated with equipment capitalized
at the Parlin and Newark facilities in periods subsequent to the second
quarter of 1997 and increased operating costs due to maintenance and
repairs during scheduled overhauls.
Cost of equipment sales and services for the third quarter 1998 of
$5,229 increased from costs of $4,425 for the comparable period in 1997.
Cost of equipment sales and services for the first nine months of 1998 of
$12,697 increased from the $11,986 of costs for the comparable period in
1997. The increases were primarily due to higher sales volume.
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Cost of rental revenues for the third quarter 1998 of $585 increased
from costs of $419 for the comparable period in 1997. Cost of rental
revenues for the first nine months of 1998 of $1,759 increased from the
$1,242 of costs for the comparable period in 1997. The increases were
primarily due to increased sales volume due in part to ice storms in the
northeastern United States and Canada in the first quarter 1998.
The Company's gross profit for the third quarter 1998 of $8,098 (44.7%
of sales) decreased from the third quarter 1997 gross profit of $8,583
(50.8% of sales). Gross profit for the first nine months of 1998 of
$23,372 (47.0% of sales) decreased from gross profit of $24,479 (50.6% of
sales) for the first nine months of 1997. The gross profit decrease for
the third quarter was primarily attributable to higher energy segment
depreciation and operating costs. The gross profit decrease for the first
nine months of 1998 was primarily due to higher depreciation and operating
costs in the energy segment and higher equipment sales costs.
Selling, General and Administrative Expenses
Selling, general and administrative expenses ("SG&A") for the third
quarter 1998 of $1,387 decreased from third quarter 1997 SG&A expenses of
$2,080. The decrease for the third quarter was primarily due to lower
legal expenses, lower insurance costs and the reversal of legal costs of
$426 expensed in the second quarter 1998 related to the acquisition of the
Pryor Project. These legal costs were capitalized as project development
costs in the third quarter 1998. SG&A for the first nine months of 1998 of
$5,923 decreased from SG&A of $5,996 for the comparable period in 1997.
The decrease for the first nine months of 1998 was primarily due to lower
legal expenses and lower insurance costs. The Company anticipates that
SG&A for the fourth quarter 1998 will increase due to costs and expenses
related to the recent proxy contest. See Note 4 of the Notes to
Consolidated Financial Statements.
Interest and Other Income
Interest and other income for the third quarter 1998 of $215 increased
from interest and other income of $160 for the comparable period in 1997.
Interest and other income for the first nine months of 1998 of $684
increased from interest and other income of $549 for the comparable period
in 1997. The increase for the nine month period was primarily attributable
to a gain on the disposal of equipment.
Equity in Earnings of Affiliates
Equity in earnings of affiliates for the third quarter 1998 of $1,595
increased from third quarter 1997 equity in earnings of affiliates of $24.
Equity in earnings of affiliates for the first nine months of 1998 of
$4,241 increased from equity in earnings of affiliates of $67 for the
comparable period in 1997. The increases were primarily due to earnings
from the Grays Ferry Project, which commenced operations in January 1998,
of $1,583 and $4,215 for the third quarter and first nine months of 1998,
respectively. The earnings of the Grays Ferry Project reflect the contract
price of electricity under the terms of the power purchase agreements. The
electric power purchaser has asserted that such power purchase agreements
are not effective and that the power purchaser is not obligated to pay the
rates set forth in the agreements. The Company and the Grays Ferry
Partnership are in litigation with the power purchaser over that issue.
For additional information see Note 6 of the Notes to Consolidated
Financial Statements.
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Interest and Debt Expense
Interest and debt expense for the third quarter 1998 of $3,504
decreased from interest and debt expense of $3,670 for the comparable
period in 1997. Interest and debt expense for the first nine months of 1998
of $10,543 decreased from interest and debt expense of $11,001 for the
comparable period in 1997. The decrease was primarily attributable to
lower average outstanding debt at Parlin and Newark as well as reduced
interest rates on the Company's borrowings.
Income Taxes
During the 1997 fourth quarter, the Company reduced the valuation
allowance established for tax benefits attributable to net operating loss
carryforwards and other deferred tax assets, resulting in recognition of
most remaining operating loss carryforwards in 1997 fourth quarter
earnings. Consequently, beginning with the 1998 first quarter, income
taxes are generally charged against pre-tax earnings without any reduction
for operating loss carryforwards that continue to be used to reduce income
taxes currently payable. Prior to the 1997 fourth quarter, net operating
loss carryforwards were recognized each period as a reduction of income tax
expense based on pre-tax income.
The consolidated effective tax rate for the quarters ended September
30, 1998 and 1997 was 36.1% and 7.4%, respectively. The consolidated
effective tax rate for the nine months ended September 30, 1998 and 1997
was 38.6% and 9.2%, respectively. The higher effective rates in 1998 were
due to the above-mentioned reduction in the valuation allowance.
Liquidity and Capital Resources
In May 1996, the Company's wholly-owned subsidiaries Parlin and Newark
entered into a Credit Agreement (the "Credit Agreement") which established
provisions for a $155,000 fifteen-year loan (of which $137,059 was
outstanding at September 30, 1998) and a $5,000 five-year debt service
reserve line of credit. The loan is secured by all of Newark's and Parlin's
assets and a pledge of the capital stock of such subsidiaries. The Company
has guaranteed repayment of up to $25,000 of the amount outstanding under
the Loan. The interest rate on the outstanding principal is variable based
on, at the option of Parlin and Newark, LIBOR plus a 1.125% margin or a
defined base rate plus a 0.375% margin, with nominal margin increases in
the sixth and eleventh year. For any quarterly period where the debt
service coverage ratio is in excess of 1.4:1, both margins are reduced by
0.125%. Concurrently with entering into the Credit Agreement, Parlin and
Newark entered into an interest rate swap agreement with respect to 50% of
the principal amount outstanding under the Credit Agreement. This interest
rate swap agreement fixes the interest rate on such principal amount
($68,529 at September 30, 1998) at 6.9% plus the margin.
CSI, a wholly-owned subsidiary of the Company, owns a one-third
partnership interest in the Grays Ferry Project. In March 1996, the Grays
Ferry Partnership entered into a credit agreement with The Chase Manhattan
Bank N.A. to finance the project. The credit agreement obligated each of
the project's three partners to make a $10,000 capital contribution prior
to the commercial operation of the facility. The Company made its required
capital contribution in 1997. NRG Energy entered into a loan commitment to
provide CSI the funding, if needed, for the CSI capital contribution
obligation to the Grays Ferry Partnership. CSI borrowed $10,000 from NRG
Energy under this loan agreement in 1997, of which $1,900 remained
outstanding to NRG Energy at September 30, 1998, and
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contributed the proceeds to the Grays Ferry Partnership as part of the
above-referenced capital contribution. In connection with this loan
commitment for the Grays Ferry Project, the Company granted NRG Energy the
right to convert $3,000 of borrowings under the commitment into 396,255
shares of Common Stock of the Company. In October 1997, NRG Energy
exercised such conversion right in full.
In connection with its acquisition of the Morris Project, CogenAmerica
Funding Inc. (a wholly-owned subsidiary of the Company) ("CogenAmerica
Funding") assumed all of the obligations of NRG Energy to provide future
equity contributions to the Morris Project, which obligations are limited
to the lesser of 20% of the total project cost or $22,000 and are expected
to be required to be funded starting in October 1998.
On September 15, 1997, Morris LLC entered into a $91,000 construction
and term loan agreement (the "Agreement") to provide nonrecourse project
financing for a major portion of the Morris Project. The Agreement
provides $85,600 of 20-month construction loan commitments and $5,400 in
letter of credit commitments (the "LOC Commitment"). Upon completion of
the project, the Construction Loan is due and payable or, if certain
criteria are satisfied, may be converted to a five year term loan based on
a 25-year amortization with a balloon payment at maturity. At September
30, 1998, $84,305 was outstanding under the Construction Loan and no
amounts were pledged under the LOC Commitment. Interest on the Construction
Loan is based, at the Company's option, either on the base rate, as defined
in the Agreement, or LIBOR plus 0.75%. The interest rate resets based on
the Company's selection of the borrowing period ranging from one to six
months. The interest rate was 6.4375% at September 30, 1998. Borrowings
are secured by CogenAmerica Funding's ownership interest in Morris LLC,
cash flows, dividends and any other property that CogenAmerica Funding may
be entitled to as an owner in Morris LLC. At September 30, 1998 and
December 31, 1997, accounts payable included $8,620 and $15,446,
respectively, directly related to the construction of the Morris Project.
NRG Energy has guaranteed to the Morris Project's lenders that
CogenAmerica Funding will make these future equity contributions, and the
Company has guaranteed to NRG Energy the obligation of CogenAmerica Funding
to make these future equity contributions (which guarantee is secured by a
second priority lien on the Company's interest in the Morris Project). NRG
Energy has committed in a Supplemental Loan Agreement between the Company,
CogenAmerica Funding and NRG Energy to loan CogenAmerica Funding and the
Company (as co-borrower) the full amount of such equity contributions by
CogenAmerica Funding, subject to certain conditions precedent, at
CogenAmerica Funding's option. On October 30, 1998, CogenAmerica Funding
and the Company borrowed $8,902 from NRG Energy under the Supplemental Loan
Agreement to partially fund its equity commitment for the project. The
note under the Supplemental Loan Agreement bears interest at the prime rate
plus 3.5% and may be reduced to the prime rate plus 1.5% upon the
occurrence of certain events. Such loan is secured by a second priority
lien on all of the membership interests of the project and is recourse to
CogenAmerica Funding and the Company.
On December 17, 1997, the Company entered into a credit agreement
providing for a $30,000 reducing revolving credit facility with an
unaffiliated lender. The facility is secured by the assets and cash flows
of the Philadelphia PWD Project as well as the distributable cash flows of
the Parlin and Newark Projects, and the Grays Ferry Partnership. On
December 19, 1997 the Company borrowed $25,000 under this facility. The
proceeds were used to repay $16,949 to NRG Energy, to repay $6,551 of
obligations of the Philadelphia PWD Project and $1,500 for general
corporate purposes. As a consequence of the pending Grays Ferry
Partnership litigation, however, the Company has agreed not to
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draw additional funds under this facility. In the absence of a waiver
which the Company has obtained, the actions taken by the power purchaser
from the Grays Ferry Project would have resulted in cross-defaults under
this facility. The Company is unable to predict whether or when additional
funds may become available under this facility. The $30,000 facility
reduces by $2,500 on the first and second anniversaries of the agreement
and repayment of the outstanding balance is due on the third anniversary of
the agreement. Interest is based, at the Company's option, on LIBOR plus a
margin ranging from 1.50% to 1.875% or the prime rate plus a margin ranging
from 0.75% to 1.125%. The interest rate resets on a monthly basis. The
interest rate was 7.25% at September 30, 1998. On October 1, 1998, the
interest rate on this facility increased to 9.25% pursuant to the terms of
a waiver obtained by the Company in connection with the actions taken by
the power purchaser at the Grays Ferry Project. The facility provides for
commitment fees of 0.375% on the unused facility.
The electric power purchaser from the Grays Ferry Project has asserted
that its power purchase agreements are not effective and that the power
purchaser is not obligated to pay the rates set forth in the agreements.
The Company and the Grays Ferry Partnership are in litigation with the
power purchaser over its obligations under such agreements. After
initially refusing to pay the rates set forth in the power purchase
agreements, the power purchaser has been ordered by the court in which the
litigation is pending to comply with the power purchase agreements pending
the outcome of the litigation. As a consequence of such order, the power
purchaser is currently paying the contracted rates for electric power under
protest, but there can be no assurance that the power purchaser will
continue to make such payments. The case has been set for trial on March
29, 1999 and there can be no assurance that the Company ultimately will
prevail at trial.
Moreover, as a result of the power purchaser's actions, the Grays
Ferry Partnership is in default of its principal credit agreement, and the
lenders thereunder have the ability to prevent the Grays Ferry Partnership
from distributing or otherwise disbursing cash held or generated by the
Grays Ferry Project. Such rights, if exercised by such lenders, could
prevent the Grays Ferry Partnership from meeting its obligations to
suppliers and others and from distributing cash to its partners during the
pendency of the litigation. Any such actions by the Grays Ferry
Partnership's lenders could materially disrupt the Grays Ferry
Partnership's relations with its suppliers and could have other potentially
material adverse effects on its operations and profitability and on the
Company. The Company believes that as long as the Grays Ferry Partnership
continues to receive the contracted amounts due under the power purchase
agreements, such lenders are unlikely to cause such adverse effects to
occur.
While the Grays Ferry Partnership's lenders have allowed the
partnership to meet its obligations to suppliers, the partnership received
a notice of default from the lenders on June 22, 1998, for the failure to
timely convert the loan used for construction purposes to a term loan.
Such failure occurred due to the Event of Default created by the alleged
termination of the power purchase agreements by the electric power
purchaser and due to the inability of the Grays Ferry Partnership to
declare either provisional or final acceptance of the Grays Ferry Project
due to the endurance of certain unresolved issues between the Grays Ferry
Partnership and Westinghouse Electric Corporation ("Westinghouse")
regarding completion and testing of the Grays Ferry Project, which issues
are the subject of an ongoing arbitration proceeding between the
partnership and Westinghouse. Based on discussions with representatives of
the lenders to the Grays Ferry Partnership, the Company believes that until
there is a satisfactory resolution of the two litigation matters the
lenders will continue to fund the operations of the project but will not
allow
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distributions for the payment of subordinated fees, payments to the
subordinated debt lender or equity distributions to the partners. In lieu
of permitting these payments, the lenders applied available cash to repay
the debt starting in the third quarter. In addition, the lenders
implemented the default rate under the credit agreement which increased the
interest rate by 200 basis points. The Company further expects that at the
time the litigation is resolved the loan will be restructured.
The Company believes that the Grays Ferry Partnership is likely either
to prevail in the pending litigation with its electric power purchaser or
otherwise to achieve a favorable resolution of this dispute. However, the
Company believes that if the power purchaser's position ultimately were to
be sustained, the Grays Ferry Partnership would cease to be economically
viable as currently structured and the Company's earnings and financial
position could be materially adversely affected. In addition, the Company
could incur other material costs associated with such litigation, which
would not be recovered and could suffer cross-defaults under one or more of
its credit agreements. While the Company intends to continue to pursue a
rapid and favorable resolution of the litigation with the power purchaser,
there can be no assurance that such an outcome will be obtained.
During the third quarter the Company incurred approximately $700 of
third-party expenses related to an anticipated capital markets financing
which has been temporarily delayed due to market conditions. These
expenses have been appropriately deferred and are included in the balance
sheet as "Deferred financing costs, net". The Company intends to continue
to pursue the capital markets financing when market conditions improve.
However, the Company is continuing to evaluate its financing alternatives,
including the commercial bank market. If the Company elects to pursue an
alternative financing or if the financing currently contemplated for the
capital markets is discontinued or indefinitely delayed, it will have to
expense the financing costs that have been deferred.
On October 9, 1998, CogenAmerica Pryor Inc. ("CogenAmerica Pryor"), a
wholly-owned subsidiary of CogenAmerica, acquired from Mid-Continent Power
Company, LLC ("MCPC LLC") the entire interest in a 110 megawatt ("MW")
cogeneration project located in the Mid-America Industrial Park, in Pryor,
Oklahoma (the "Pryor Project"). MCPC LLC is owned 50% by NRG Energy and
50% by parties affiliated with Decker Energy International, Inc.
CogenAmerica Pryor acquired the Pryor Project by purchasing from MCPC
LLC all of the issued and outstanding stock of Oklahoma Loan Acquisition
Corporation ("OLAC") for a cash purchase price of approximately $23.9
million. The Mid-Continent Power Company, Inc. ("MCPC") had transferred the
Pryor Project to OLAC in December 1997 under its bankruptcy reorganization
plan. The Pryor Project sells 110 MW of capacity and varying amounts of
energy to Oklahoma Gas and Electric Company under a contract through 2008
and steam to a number of industrial users under contracts with various
termination dates ranging from 1998 to 2007. In addition, the Pryor
Project sells varying amounts of energy to the Public Service of Oklahoma
at its avoided cost.
The acquisition will be accounted for as a purchase in the fourth
quarter. NRG Energy has loaned the Company and CogenAmerica Pryor
approximately $23.9 million to finance the acquisition. The loan is a six-
year term facility calling for principal and interest payments on a
quarterly basis, based on project cash flows. The interest rate on the
note relating to such loan is currently set at prime rate plus 3.5% and
such rate reduces by two percentage points upon the occurrence of certain
events related to elimination of default risk under the loan. The Company
is continuing to pursue alternative sources of financing
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for either CogenAmerica Pryor or itself, which financing may include a
refinancing of any amounts borrowed under the Supplemental Loan Agreement.
Year 2000
The Year 2000 issue refers generally to the data structure problem
that may prevent systems from properly recognizing dates after the year
1999. The Year 2000 issue affects information technology ("IT") systems,
such as computer programs and various types of electronic equipment that
process date information by using only two digits rather than four digits
to define the applicable year, and thus may recognize a date using "00" as
the year 1900 rather than the year 2000. The issue also affects some non-
IT systems, such as devices which rely on a microcontroller to process date
information. The Year 2000 issue could result in system failures or
miscalculations, causing disruptions of a company's operations. Moreover,
even if a company's systems are Year 2000 compliant, a problem may exist to
the extent that the data that such systems process is not.
The following discussion contains forward-looking statements
reflecting management's current assessment and estimates with respect to
the Company's Year 2000 compliance efforts and the impact of Year 2000
issues on the Company's business and operations. Various factors, many of
which are beyond the control of the Company, could cause actual plans and
results to differ materially from those contemplated by such assessments,
estimates and forward-looking statements. Some of these factors include,
but are not limited to, representations by the Company's vendors and
counterparties, technological advances, economic considerations and
consumer perceptions. The Company's Year 2000 compliance program is an
ongoing process involving continual evaluation and may be subject to change
in response to new developments.
The Company's State of Readiness
The Company has implemented a Year 2000 compliance program designed to
ensure that the Company's computer systems and applications will function
properly beyond 1999. The Company believes that it has allocated adequate
resources for this purpose and expects its Year 2000 conversions to be
completed on a timely basis. In light of its compliance efforts, the
Company does not believe that the Year 2000 issue will materially adversely
affect operations or results of operations, and does not expect
implementation to have a material impact on the Company's financial
statements. However, there can be no assurance that the Company's systems
will be Year 2000 compliant prior to December 31, 1999, or that the failure
of any such system will not have a material adverse effect on the Company's
business, operating results and financial condition. In addition, to the
extent the Year 2000 problem has a material adverse effect on the business,
operations or financial condition of third parties with whom the Company
has material relationships, such as venders, suppliers and customers, the
Year 2000 problem could have a material adverse effect on the Company's
business, results of operations and financial condition.
IT systems. The Company has reviewed and continues to review all of
its IT systems as they relate to the Year 2000 issue. The Company's
accounting system is currently in the process of being upgraded to
alleviate any potential Year 2000 issues. This will include the
installation of additional software at a minimal cost to the Company and
will be completed by December 31, 1999. The Company outsources its human
resource and payroll systems and is in the process of working with the
outside vendor to identify and correct any potential Year 2000 issues.
This process will be complete and any changes implemented by December 31,
1999. The Company's billing systems are either provided by the customer
21
<PAGE>
or are done internally on microcomputer systems. In these cases, the
collection of data is the important feature and any impact from a Year 2000
issue would be immaterial.
Non-IT systems. As indicated above, the Company is dependent upon
some of its customers for billing data related to the amount of electricity
and steam sold and delivered during the month. The collection of this data
also occurs within the control systems of the Company's various facilities.
The Company has requested that the control system vendors audit their
software to identify any potential Year 2000 issues and provide
recommendations for alleviating any potential problems. This process has
been completed for all of the Company's facilities and the various
solutions are being implemented and will be complete by December 31, 1998.
The Company does not believe that any of the upgrades required will be
material to the financial statements.
Year 2000 issues relating to third parties. As described above the
Company, in some cases, is dependent upon certain customers to provide
billing data. However, the Company also captures and processes this data
as a redundancy. The Company's control systems are being upgraded as
described above and the Company does not believe that any loss of data will
occur due to a Year 2000 issue. The Company has participated in numerous
vendor surveys to distill the readiness of various Company systems for any
potential Year 2000 issues. In addition, the Company has obtained written
disclosure from a number of vendors relating to their Year 2000
preparedness.
Costs to Address the Company's Year 2000 Issues
The Company's costs to review and assess the Year 2000 issue have not
been material. The Company believes that its future costs to implement
Year 2000 solutions will also be immaterial to the financial statements.
The Risks of the Company's Year 2000 Issues
The Company believes that its Year 2000 worst case scenario would
include the loss of billing data for the sale of electricity and steam to
the utilities and industrial companies that are customers of the company.
This billing information, as explained above, is also captured by the
Company's control systems at its various facilities.
The Company's Contingency Plans
As described above, the contingency plan for the loss of billing data
is to use the data provided by the Company's internal control systems which
are in the process of being upgraded to eliminate any Year 2000 issues.
New Accounting Standards
On June 15, 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 is
required to be adopted for fiscal years beginning after June 15, 1999
(fiscal year 2000 for the Company). SFAS 133 requires that all derivative
instruments be recorded on the balance sheet at their fair value. Changes
in the fair value of derivatives are to be recorded each period in current
earnings or other comprehensive income, depending on whether a derivative
is designated as part of a hedge transaction and, if it is, the type of
hedge transaction. Management has not yet
22
<PAGE>
determined the impact that adoption of SFAS 133 will have on its earnings
or financial position.
In June 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 131, Disclosures about
Segments of an Enterprise and Related Information ("SFAS 131"). SFAS 131,
which supersedes SFAS No. 14, "Financial Reporting for Segments of a
Business Enterprise," establishes standards for the way that public
companies report information about operating segments in annual financial
statements and requires reporting of selected information about operating
segments in interim financial statements issued to the public. It also
establishes standards for disclosures regarding products and services,
geographic areas and major customers. The Company is required to first
adopt the provisions of SFAS 131 in its financial statements for the year
ending December 31, 1998, and provide comparative information for earlier
years. Management believes that adoption of SFAS 131 will require minimal,
if any, additional disclosures in its annual financial statements.
Item 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not applicable.
23
<PAGE>
PART II
OTHER INFORMATION
ITEM 1. Legal Proceedings.
All dollar amounts are in thousands.
NRG Energy Arbitration. On January 30, 1998, the Company gave notice
to NRG Energy of a dispute to be arbitrated pursuant to the terms of its Co-
Investment Agreement with the Company. With certain exceptions, the Co-
Investment Agreement obligates NRG Energy to offer to sell to the Company
"eligible projects," which are defined in the Co-Investment Agreement as
certain facilities, which generate electricity for sale through the
combustion of natural gas, oil or any other fossil fuel. The Co-Investment
Agreement provides that if NRG Energy offers to sell an eligible project to
the Company and the Company declines to purchase the project, NRG Energy
then has the right to sell the project to a third party at a price which
equals or exceeds that offered to the Company. See "Business - Project
Development Activities - Co-Investment Agreement with NRG Energy." In the
arbitration proceeding, the Company contended that NRG Energy breached the
Co-Investment Agreement by, among other things, agreeing to sell to OGE
Energy Corp., an affiliate of Oklahoma Gas and Electric Company, a 110 MW
cogeneration project in Oklahoma without offering the project to the
Company at the same price. The Company requested specific performance of
NRG Energy's obligations under the Co-Investment Agreement. NRG Energy
argued that it had no obligation to offer the project to the Company. On
June 8, 1998, the arbitration panel reviewing the matter issued a
preliminary injunction prohibiting NRG Energy from closing the sale of the
project to OGE Energy Corp., pending the outcome of the arbitration and
subject to the Company's posting of a $500 bond, which the Company posted.
On July 31, 1998 the arbitration panel held that NRG Energy was
required to reoffer the project to CogenAmerica under the terms of the Co-
Investment Agreement and ordered NRG Energy to do so. Specifically the
order provided for a permanent injunction enjoining the closing of the sale
of the project to OGE Energy Corp., replacing the preliminary injunction
issued on June 8, 1998. In addition, the bond that CogenAmerica posted for
the preliminary injunction was released and no additional bond or security
was required.
On August 4, 1998 NRG Energy made an offer to sell the facility to
CogenAmerica. CogenAmerica closed its acquisition of the Pryor Project on
October 9, 1998, and the Company considers the arbitration proceeding to be
concluded. The purchase price was approximately $23,900, all of which
CogenAmerica borrowed from NRG Energy. The interest rate of the note
relating to such loan is currently set at prime rate plus 3.5% and such
rate reduces by two percentage points upon the occurrence of certain events
related to elimination of default risk under the loan.
This legal proceeding was described in the Company's Annual Report on
Form 10-K for the year ended December 31, 1997 and was further updated by
the Company's Quarterly Reports on Form 10-Q for the quarters ended March
31, 1998 and June 30, 1998.
24
<PAGE>
ITEM 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
The "Index to Exhibits" following the signature page is
incorporated herein by reference.
(b) Reports on Form 8-K
None.
25
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this Report to be signed on its behalf by
the undersigned hereunto duly authorized.
Cogeneration Corporation of America
Registrant
Date: November 12, 1998 By: /s/ Timothy P. Hunstad
Timothy P. Hunstad
Vice President and Chief Financial Officer
(Principal Financial Officer and Duly Authorized
Officer)
26
<PAGE>
INDEX TO EXHIBITS
3.1 Amended and Restated Certificate of Incorporation of the Company filed
as Exhibit 3.1 to the Company's Quarterly Report on Form 10-Q for the
fiscal quarter ended June 30, 1998 and incorporated herein by this
reference.
3.2 Preferred Stock Certificate of Designation of the Company filed as
Exhibit 3.3 to the Company's Current Report on Form 8-K dated April
30, 1996 and incorporated herein by this reference.
3.3 Restated Bylaws of the Company filed as Exhibit 3.3 to the Company's
Annual Report on Form 10-K for the fiscal year ended December 31, 1997
and incorporated herein by this reference.
27 Financial Data Schedule for the nine months ended September 30, 1998
(for SEC filing purposes only).
27
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND> THIS SCHEDULE CONTAINS SUMMARY FINANCIAL
INFORMATION EXTRACTED FROM THE REGISTRANT'S
FINANCIAL STATEMENTS FOR ITS THIRD QUARTER
YEAR-TO-DATE OF FISCAL YEAR 1998 AND IS QUALIFIED
IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS
<CAPTION>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> Dec-31-1998
<PERIOD-END> Sep-30-1998
<CASH> 14,595
<SECURITIES> 0
<RECEIVABLES> 13,155
<ALLOWANCES> 0
<INVENTORY> 2,368
<CURRENT-ASSETS> 30,996
<PP&E> 123,518
<DEPRECIATION> 0
<TOTAL-ASSETS> 280,256
<CURRENT-LIABILITIES> 35,223
<BONDS> 0
<COMMON> 68
0
0
<OTHER-SE> 3,063
<TOTAL-LIABILITY-AND-EQUITY> 280,256
<SALES> 49,733
<TOTAL-REVENUES> 49,733
<CGS> 26,361
<TOTAL-COSTS> 26,361
<OTHER-EXPENSES> 998
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 10,543
<INCOME-PRETAX> 11,831
<INCOME-TAX> 4,571
<INCOME-CONTINUING> 7,260
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 7,260
<EPS-PRIMARY> 1.06
<EPS-DILUTED> 1.04
</TABLE>
