<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2000
-------------------------------
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 1-13434
Edison Mission Energy
(Exact name of registrant as specified in its charter)
California 95-4031807
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
18101 Von Karman Avenue
Irvine, California 92612
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (949) 752-5588
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
-------- --------
Number of shares outstanding of the registrant's Common Stock as of
November 10, 2000: 100 shares (all shares held by an affiliate of the
registrant).
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Item Page
---- ----
PART I - Financial Information
<S> <C>
1. Financial Statements................................................... 1
2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.................................................. 18
3. Quantitative and Qualitative Disclosures About Market Risk............. 37
PART II - Other Information
6. Exhibits and Reports on Form 8-K....................................... 38
PART III
Signatures............................................................. 39
</TABLE>
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
----------------------------
EDISON MISSION ENERGY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands)
<TABLE>
<CAPTION>
(Unaudited) (Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ -------------------------
2000 1999 2000 1999
---------- --------- ---------- ----------
<S> <C> <C> <C> <C>
Operating Revenues
Electric revenues $ 949,410 $ 434,534 $2,328,200 $ 850,059
Equity in income from energy projects 88,847 82,672 165,250 178,671
Equity in income from oil and gas 13,044 9,486 31,601 19,246
Net losses from energy trading and price risk
management (10,852) (4,725) (44,641) (2,954)
Operation and maintenance services 9,813 10,416 30,003 28,260
---------- --------- ---------- ----------
Total operating revenues 1,050,262 532,383 2,510,413 1,073,282
---------- --------- ---------- ----------
Operating Expenses
Fuel 278,392 116,700 791,167 244,347
Plant operations 197,777 94,201 600,158 175,590
Operation and maintenance services 6,457 7,102 22,138 21,115
Depreciation and amortization 92,983 58,338 295,478 118,081
Long-term incentive compensation (54,440) 8,400 (54,440) 27,600
Administrative and general 39,582 29,659 113,431 79,523
---------- --------- ---------- ----------
Total operating expenses 560,751 314,400 1,767,932 666,256
---------- --------- ---------- ----------
Operating income 489,511 217,983 742,481 407,026
---------- --------- ---------- ----------
Other Income (Expense)
Interest and other income (expense) 17,090 2,435 41,180 21,248
Gain on sale of assets 8,452 - 25,442 -
Interest expense (177,227) (107,472) (531,374) (230,864)
Dividends on preferred securities (8,081) (7,010) (24,441) (14,388)
---------- --------- ---------- ----------
Total other income (expense) (159,766) (112,047) (489,193) (224,004)
---------- --------- ---------- ----------
Income before income taxes 329,745 105,936 253,288 183,022
Provision for income taxes 138,464 19,331 110,692 33,006
---------- --------- ---------- ----------
Income before change in accounting principle $ 191,281 $ 86,605 $ 142,596 $ 150,016
Cumulative effect on prior years of change
in accounting for major maintenance costs, net of tax - - 17,690 -
Cumulative effect on prior years of change
in accounting for start-up costs, net of tax - - - (13,840)
---------- --------- ---------- ----------
Net Income $ 191,281 $ 86,605 $ 160,286 $ 136,176
========== ========= ========== ==========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
1
<PAGE>
EDISON MISSION ENERGY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
<TABLE>
<CAPTION>
(Unaudited) (Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ -------------------------------
2000 1999 2000 1999
-------- -------- --------- --------
<S> <C> <C> <C> <C>
Net Income $191,281 $ 86,605 $160,286 $136,176
Other comprehensive income (loss), net of
tax:
Foreign currency translation
adjustments, net of income tax
expense (benefit) of $(1,008) and
$2,171 for the three months and
$(4,435) and $(623) for the nine
months ended September 30, 2000 and
1999, respectively (87,176) 47,311 (225,447) 5,654
-------- -------- -------- --------
Comprehensive Income (Loss) $104,105 $133,916 $(65,161) $141,830
======== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of these consolidateeed financial
statements.
2
<PAGE>
EDISON MISSION ENERGY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
<TABLE>
<CAPTION>
(Unaudited)
September 30, December 31,
2000 1999
----------- -----------
<S> <C> <C>
Assets
Current Assets
Cash and cash equivalents $ 832,720 $ 398,695
Accounts receivable - trade, net of allowance:
2000 and 1999, $1,126 486,835 254,538
Accounts receivable - affiliates 6,989 9,597
Inventory 294,323 258,864
Assets under energy trading and price risk
management 303,028 --
Prepaid expenses and other 52,670 35,665
----------- -----------
Total current assets 1,976,565 957,359
----------- -----------
Investments
Energy projects 1,991,350 1,891,703
Oil and gas projects 53,198 49,173
----------- -----------
Total investments 2,044,548 1,940,876
----------- -----------
Property, Plant and Equipment 10,347,046 12,533,413
Less accumulated depreciation and amortization 632,376 411,079
----------- -----------
Net property, plant and equipment 9,714,670 12,122,334
----------- -----------
Other Assets
Long-term receivables 266,928 7,767
Goodwill 286,220 290,695
Deferred financing costs 118,917 133,948
Restricted cash and other 71,434 81,242
----------- -----------
Total other assets 743,499 513,652
----------- -----------
Total Assets $14,479,282 $15,534,221
=========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE>
EDISON MISSION ENERGY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
<TABLE>
<CAPTION>
(Unaudited)
September 30, December 31,
2000 1999
----------- -----------
<S> <C> <C>
Liabilities and Shareholder's Equity
Current Liabilities
Accounts payable - affiliates $ 40,039 $ 7,772
Accounts payable and accrued liabilities 486,922 328,057
Liabilities under energy trading and price risk management 336,980 --
Interest payable 103,739 89,272
Short-term obligations 721,266 1,122,067
Current portion of long-term incentive compensation 75,000 --
Current maturities of long-term obligations 164,866 225,679
----------- -----------
Total current liabilities 1,928,812 1,772,847
----------- -----------
Long-Term Obligations - Affiliates 299,805 78,000
----------- -----------
Long-Term Obligations Net of Current Maturities 6,533,053 7,361,308
----------- -----------
Long-Term Deferred Liabilities
Deferred taxes and tax credits 1,505,994 1,520,490
Deferred revenue 447,575 534,531
Long-term incentive compensation 72,987 253,513
Other 324,215 468,161
----------- -----------
Total long-term deferred liabilities 2,350,771 2,776,695
----------- -----------
Total Liabilities 11,112,441 11,988,850
----------- -----------
Preferred Securities of Subsidiaries
Company-obligated mandatorily redeemable
security of partnership holding solely
parent debentures 150,000 150,000
Subject to mandatory redemption 161,680 208,840
Not subject to mandatory redemption 118,054 118,054
----------- -----------
Total preferred securities of subsidiaries 429,734 476,894
----------- -----------
Commitments and Contingencies (Note 5)
Shareholder's Equity
Common stock, no par value; 10,000 shares
authorized; 100 shares issued and outstanding 64,130 64,130
Additional paid-in capital 2,625,305 2,629,406
Retained earnings 462,612 364,434
Accumulated other comprehensive income (loss) (214,940) 10,507
----------- -----------
Total Shareholder's Equity 2,937,107 3,068,477
----------- -----------
Total Liabilities and Shareholder's Equity $14,479,282 $15,534,221
=========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
<PAGE>
EDISON MISSION ENERGY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
(Unaudited)
Nine Months Ended
September 30,
--------------------------------
2000 1999
----------- -----------
<S> <C> <C>
Cash Flows From Operating Activities
Net income $ 160,286 $ 136,176
Adjustments to reconcile net income to net cash provided
by operating activities:
Equity in income from energy projects (165,250) (178,671)
Equity in income from oil and gas (31,601) (19,246)
Distributions from energy projects 113,554 108,363
Dividends from oil and gas 20,600 7,613
Depreciation and amortization 295,478 118,081
Amortization of discount on short-term obligations 54,947 11,723
Deferred taxes and tax credits 65,542 13,596
Gain on sale of assets (25,442) --
Cumulative effect on prior years of change in accounting (17,690) 13,840
Increase in accounts receivable (170,733) (91,960)
Increase in inventory (15,654) (35,212)
Increase in prepaid expenses and other (18,874) (691)
Increase in accounts payable and accrued liabilities 142,433 232,509
Increase in interest payable 24,194 37,337
Decrease in long-term incentive compensation (105,526) (4,000)
Other, net 22,018 19,509
----------- -----------
Net cash provided by operating activities 348,282 368,967
----------- -----------
Cash Flows From Financing Activities
Borrowings on long-term obligations 2,307,168 2,831,975
Payments on long-term obligations (2,621,585) (181,447)
Short-term financing, net (453,632) 485,045
Capital contribution from parent -- 1,066,000
Dividends to parent (66,000) --
Issuance of preferred securities -- 277,632
----------- -----------
Net cash provided by (used in) financing activities (834,049) 4,479,205
----------- -----------
Cash Flows From Investing Activities
Investments in and loans to energy projects (153,388) (77,231)
Purchase of generating stations (16,895) (3,959,011)
Purchase of acquired companies (74,742) (635,301)
Capital expenditures (221,539) (196,388)
Proceeds from sale-leaseback transactions 1,667,000 --
Proceeds from sale of interest in projects 34,246 --
Decrease in restricted cash 13,196 30,654
Investments in other assets (255,674) 8,998
Other, net (27,203) (31,374)
----------- -----------
Net cash provided by (used in) investing activities 965,001 (4,859,653)
----------- -----------
Effect of exchange rate changes on cash (45,209) 3,080
----------- -----------
Net increase (decrease) in cash and cash equivalents 434,025 (8,401)
Cash and cash equivalents at beginning of period 398,695 459,178
----------- -----------
Cash and cash equivalents at end of period $ 832,720 $ 450,777
=========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
EDISON MISSION ENERGY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2000
NOTE 1. GENERAL
All adjustments, including recurring accruals, have been made that are
necessary to present fairly the consolidated financial position and results of
operations for the periods covered by this report. The results of operations
for the nine months ended September 30, 2000, are not necessarily indicative of
the operating results for the full year.
Our significant accounting policies are described in Note 2 to our
Consolidated Financial Statements as of December 31, 1999 and 1998, included in
our 1999 Annual Report on Form 10-K/A filed with the U.S. Securities and
Exchange Commission (SEC) effective March 30, 2000. We follow the same
accounting policies for interim reporting purposes, with the exception of the
change in accounting for major maintenance costs (see Note 2). This quarterly
report should be read in connection with such financial statements.
Certain prior period amounts have been reclassified to conform to the
current period financial statement presentation.
Trading and Price Risk Management Activities
On September 1, 2000, we acquired the trading operations of Citizens Power
LLC. As a result of this acquisition, we have expanded our trading operations
beyond the traditional marketing of our electric power. Our energy trading
activities are accounted for using the fair value method under EITF 98-10,
"Accounting for Contracts Involved in Energy Trading and Risk Management
Activities". Under such method, forwards, futures, options, swaps and other
financial instruments with third parties are reflected at market value and are
included in the balance sheet as assets or liabilities from energy trading
activities. In the absence of quoted value, financial instruments are valued at
fair value, considering time value, volatility of the underlying commodity, and
other factors as we determine appropriate. Resulting gains and losses are
recognized in the profit and loss account in the period of change. Assets from
energy trading and price risk management activities include the fair value of
open financial positions related to trading activities and the present value of
net amounts receivable from structured transactions. Liabilities from energy
trading and price risk management activities include the fair value of open
financial positions related to trading activities and the present value of net
amounts payable from structured transactions.
6
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NOTE 2. CHANGES IN ACCOUNTING
Through December 31, 1999 we have accrued for major maintenance costs
during the period between turnarounds (referred to as "accrue in advance"
accounting method). Such accounting policy has been widely used by independent
power producers as well as several other industries. In March 2000, the SEC
issued a letter to the Accounting Standards Executive Committee, stating its
position that the SEC Staff does not believe it is appropriate to use an "accrue
in advance" method for major maintenance costs. The Accounting Standards
Executive Committee agreed to add accounting for major maintenance costs as part
of an existing project and to issue authoritative guidance by August 2001. Due
to the position taken by the SEC Staff, we voluntarily decided to change our
accounting policy to record major maintenance costs as an expense as incurred.
Such change in accounting policy is considered preferable based on the recent
guidance provided by the SEC. In accordance with Accounting Principles Board
Opinion No. 20, "Accounting Changes", we have recorded $17.7 million, after tax,
as a cumulative change in the accounting for major maintenance costs during the
quarter ended March 31, 2000. Pro forma data has not been provided for prior
periods, as the impact would not be material.
In April 1998, the American Institute of Certified Public Accountants
issued Statement of Position (SOP) 98-5, "Reporting on the Costs of Start-Up
Activities", which became effective in January 1999. The Statement requires that
certain costs related to start-up activities be expensed as incurred and that
certain previously capitalized costs be expensed and reported as a cumulative
change in accounting principle. The impact of adopting SOP 98-5 on our net
income in 1999 was an expense of $13.8 million, after-tax.
NOTE 3. INVENTORY
Inventory is stated at the lower of weighted average cost or market.
Inventory at September 30, 2000 and December 31, 1999 consisted of the
following:
(In millions)
(Unaudited)
September 30, December 31,
2000 1999
---- ----
Coal and fuel oil $224.4 $190.1
Spare parts, materials and supplies 69.9 68.8
------ ------
Total $294.3 $258.9
====== ======
7
<PAGE>
NOTE 4. ACQUISITIONS, DISPOSITIONS AND SALE-LEASEBACK TRANSACTIONS
Acquisitions
On March 15, 2000, we completed a transaction with UPC International
Partnership CV II to acquire Edison Mission Wind Power Italy B.V., formerly
known as Italian Vento Power Corporation Energy 5 B.V., which owns a 50%
interest in a series of power projects that are in operation or under
development in Italy. All of the projects use wind to generate electricity from
turbines which is sold under fixed-price, long-term tariffs. Assuming all of
the projects under development are completed, currently scheduled for 2002, the
total capacity of these projects will be 283 megawatts (MW). The total purchase
price is 90 billion Italian Lira (approximately $43 million at September 30,
2000), with equity contribution obligations of up to 33 billion Italian Lira
(approximately $16 million at September 30, 2000), depending on the number of
projects that are ultimately developed. As of September 30, 2000, payments
included $27 million towards the purchase price and $13 million in equity
contributions.
On September 1, 2000, we completed a transaction with P&L Coal Holdings
Corporation and Gold Fields Mining Corporation (Peabody) to acquire the trading
operations of Citizens Power LLC and a minority interest in certain structured
transaction investments. The purchase price of $44.9 million is based on the
sum of: (a) fair market value of the trading portfolio and the structured
transaction investments, and (b) $25 million. The acquisition was funded from
cash. By the end of the third quarter of 2000, the Citizens' trading operations
was merged into our own trading operations, Edison Mission Marketing & Trading,
Inc., and trading is currently being conducted out of Boston, MA.
Dispositions
On June 30, 2000, we completed the sale of our 50% interest in the
Auburndale project to the existing partner. Proceeds from the sale were $22
million. We recorded a gain on the sale of $17.0 million ($10.5 million after
tax).
On August 16, 2000, we completed the sale of 30% of our interest in the
Kwinana cogeneration plant to SembCorp Energy. We will retain the remaining 70%
ownership interest in the plant. Proceeds from the sale were $12 million. We
recorded a gain on the sale of $8.5 million ($4.3 million after tax).
Sale-Leaseback Transactions
On July 10, 2000, one of our subsidiaries entered into a sale-leaseback of
certain equipment, primarily Illinois peaker power units, to a third party
lessor for $300 million. Under the terms of the 5-year lease, we have a fixed
price purchase option at the end of the lease term of $300 million. We guarantee
the monthly payments under the lease. In connection with the sale-leaseback, a
subsidiary of ours purchased $255 million of notes
8
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issued by the lessor which accrue interest at LIBOR plus 0.65% to 0.95%,
depending on the investment rating. The notes are due and payable in five years.
No gain or loss was recorded on the sale of the equipment.
On August 24, 2000, we entered into a sale-leaseback transaction for the
Powerton and Joliet power facilities located in Illinois to third party lessors
for an aggregate purchase price of $1.367 billion. Under the terms of the
leases (33.75 years for Powerton and 30 years for Joliet), we make semi-annual
lease payments on each January 2 and July 2, beginning January 2, 2001. Edison
Mission Energy guarantees the payments under the leases. If a lessor intends to
sell its interest in the Powerton or Joliet power facility, we have a right of
first refusal to acquire the interest at fair market value. Minimum lease
payments during the next five years are $31.2 million in 2000; $83.3 million for
2001; $97.3 million for 2002; $97.3 million for 2003; $97.3 million for 2004 and
a total of $1,989.3 million for the remaining term of the leases. Lease costs of
these power facilities will be levelized over the terms of the respective
leases. No gain or loss was recorded on the sale of the power plants.
NOTE 5. COMMITMENTS AND CONTINGENCIES
Firm Commitment for Asset Purchase
Project Local Currency U.S. ($ in millions)
------- -------------- --------------------
Italian Wind Projects (i) 36 billion Italian Lira $16
(i) Italian Wind Projects are a series of power projects that are in operation
or under development in Italy. A wholly owned subsidiary of Edison Mission
Energy owns a 50% interest. Purchase payments will continue through 2002,
depending on the number of projects that are ultimately developed.
Firm Commitments to Contribute Project Equity
Projects Local Currency U.S. ($ in millions)
-------- -------------- --------------------
Italian Wind Projects (i) 6 billion Italian Lira $3
(i) Italian Wind Projects are a series of power projects that are in operation
or under development in Italy. A wholly owned subsidiary of Edison Mission
Energy owns a 50% interest. Equity will be contributed depending on the
number of projects that are ultimately developed.
Firm commitments to contribute project equity could be accelerated due to
certain events of default as defined in the non-recourse project financing
facilities. Management does not believe that these events of default will occur
to require acceleration of the firm commitments.
9
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Contingent Obligations to Contribute Project Equity
Projects Local Currency U.S. ($ in millions)
-------- -------------- --------------------
Paiton (i) - $47
ISAB (ii) 86 billion Italian Lira 39
(i) Contingent obligations to contribute additional project equity will be
based on events principally related to insufficient cash flow to cover
interest on project debt and operating expenses, project cost overruns
during the plant construction, specified partner obligations or events of
default. Our obligation to contribute contingent equity will not exceed
$141 million, of which $94 million has been contributed as of September 30,
2000.
As more fully described below under the caption "Other Commitments and
Contingencies," PT PLN (Persero) (PLN), formerly referred to as PT
Perusahaan Listrik Negara, the main source of revenue for the project, has
failed to pay the project in respect of its invoices through February 2000
(with the exception of a partial payment made in June 1999). In February
2000, Paiton Energy entered into an Interim Agreement with PLN which called
for a termination of all legal actions by both parties, interim monthly
payments through the end of 2000 (total payments US $115 million), dispatch
of the facility at partial load and, in addition to the fixed monthly
payments, payment for energy actually delivered. To date, PLN has made all
fixed monthly payments (March through September) on time and in full, and
has paid all invoices for energy delivered. Paiton Energy will continue to
invoice PLN for capacity payments at the rate determined under the power
purchase agreement. These invoices (minus the fixed monthly payments
received under the Interim Agreement) will accrue and will be dealt with
under the overall tariff restructuring negotiations.
In October 1999, in response to PLN's failure to pay, Paiton Energy entered
into an interim agreement with its lenders (the Lender Interim Agreement)
which modified the contingent equity provisions of the Paiton debt
documents related to the authorized usage of the monies during the agreed
interim period, which extended from October 15, 1999 through July 31, 2000.
In July, the Lenders voted to extend the term of the Lender Interim
Agreement through December 31, 2000 to coincide with the US-EXIM take-out
date and the time period of the Interim Agreement with PLN. The Lender
Interim Agreement provides, among other things, that contingent equity from
us and the other Paiton Energy shareholders shall be contributed from time
to time as needed to enable Paiton Energy to pay interim project costs.
Interim project costs include interest on project debt and operating costs
which become due and payable during the term of the Lender Interim
Agreement and specific other costs related to the construction of the
project. The Lender Interim Agreement provides that a portion of the
contingent equity (originally $206 million, of which our current unfunded
share is $32 million), will become due and payable by the shareholders in
the event that certain events of default, other than those specifically
waived under the
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Lender Interim Agreement, occur. The Lender Interim Agreement further
provides that all unfunded contingent equity (originally $300 million, of
which our current unfunded share is $47 million), will become due and
payable by the shareholders in the event that Paiton Energy fails to make
any interest payment during the pendency of the Lender Interim Agreement.
As of September 30, 2000, Paiton Energy's shareholders have contributed to
Paiton $201 million of contingent equity, of which our share was $94
million.
The contractor for the Paiton project and Paiton Energy reached a global
settlement in principal. The global settlement deals with all claims,
including contractor claims for retention, costs relating to a dispute
involving a slope adjacent to the Paiton site and other cost overruns
related to delays in the completion of the construction of the project and
Paiton Energy's claims under the construction contract. Terms and
conditions of this settlement will require the approval of Paiton Energy's
lenders. Paiton Energy is presently discussing this settlement agreement
with its lenders and contractor, and expects that an accommodation of
lender requirements can be achieved, and therefore that the required lender
approval can be obtained. Payment of the settlement amount, if approved by
lenders, will be met through funds that may be made available to the
project and ultimately will be paid out of revenues received as a result of
the renegotiation of the power purchase agreement and the project's debt
agreements, as more fully discussed under the caption, "Other Commitments
and Contingencies."
Our contingent equity obligations for the Paiton project are to be
cancelled, if unused, as of the date of term financing by the Export-Import
Bank of the United States. Term financing by the Export-Import Bank of the
United States is the subject of a comprehensive set of conditions. The
obligation of the Export-Import Bank of the United States to provide term
financing was initially scheduled to terminate on October 15, 1999. The
Export-Import Bank of the United States agreed to extend the term financing
commitment through December 31, 2000 and has determined that the project
will need to meet additional terms and conditions for take-out of the
construction lenders.
(ii) ISAB is a 512-MW integrated gasification combined cycle power plant near
Siracusa in Sicily, Italy. A wholly owned subsidiary of Edison Mission
Energy owns a 49% interest. Commercial operations commenced in April 2000.
Contingent obligations to contribute additional equity to the project
relate specifically to an agreement to provide equity assurances to the
project's lenders depending on the outcome of the contractor claim
arbitration.
Other than as noted above, we are not aware, at this time, of any other
contingent obligations or obligations to contribute project equity.
11
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Other Commitments and Contingencies
Subsidiary Indemnification Agreements
Some of our subsidiaries have entered into indemnification agreements,
under which the subsidiaries agreed to repay capacity payments to the projects'
power purchasers in the event the projects unilaterally terminate their
performance or reduce their electric power producing capability during the term
of the power contracts. Obligations under these indemnification agreements as of
September 30, 2000, if payment were required, would be $265 million. We do not
believe that the projects will either terminate their performance or reduce
their electric power producing capability during the term of the power
contracts.
Paiton
Paiton is a 1,230-MW coal-fired power plant in operation in East Java,
Indonesia. A wholly owned subsidiary of Edison Mission Energy owns a 40%
interest and has a $482 million investment at September 30, 2000. The project's
tariff is higher in the early years and steps down over time. The tariff for
the Paiton project includes infrastructure to be used in common by other units
at the Paiton complex. The plant's output is fully contracted with the state-
owned electricity company, PLN. Payments are in Indonesian Rupiah, with the
portion of such payments intended to cover non-Rupiah project costs, including
returns to investors, indexed to the Indonesian Rupiah/U.S. dollar exchange rate
established at the time of the power purchase agreement in February 1994. The
project received substantial finance and insurance support from the Export-
Import Bank of the United States, the Japan Bank of International Cooperation
(formerly known as The Export-Import Bank of Japan), the U.S. Overseas Private
Investment Corporation and the Ministry of International Trade and Industry of
Japan. PLN's payment obligations are supported by the Government of Indonesia.
The projected rate of growth of the Indonesian economy and the exchange rate of
Indonesian Rupiah into U.S. dollars have deteriorated significantly since the
Paiton project was contracted, approved and financed. The Paiton project's
senior debt ratings have been reduced from investment grade to speculative grade
based on the rating agencies' determination that there is increased risk that
PLN might not be able to honor the electricity sales contract with Paiton
Energy. The Government of Indonesia has arranged to reschedule sovereign debt
owed to foreign governments and has entered into discussions about rescheduling
sovereign debt owed to private lenders. Specified events, including those
discussed in the paragraph below, which, with the passage of time or upon
notice, may mature into defaults of the project's debt agreements have occurred.
On October 15, 1999, the project entered into an interim agreement with its
lenders pursuant to which the lenders waived such defaults until July 31, 2000.
In July, the Lenders voted to extend the term of the Lender Interim Agreement
through December 31, 2000 to coincide with the US-EXIM take-out date and the
time period of the Interim Agreement with PLN. However, this waiver may expire
on an earlier date if additional defaults, other than those specifically waived,
or other specified events occur.
12
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In May 1999, Paiton Energy notified PLN that Unit 7 of the Paiton project
achieved commercial operation under terms of the power purchase agreement and,
in July 1999, that Unit 8 of the Paiton project had similarly achieved such
commercial operation. Because of the economic downturn, PLN is experiencing low
electricity demand and PLN had, through February of this year, been dispatching
the Paiton plant to zero; however, under the terms of the power purchase
agreement, PLN is required to continue to pay for capacity and fixed operating
costs once each unit and the plant achieve commercial operation. PLN has not
paid invoices amounting to $659.4 million for capacity charges and fixed
operating costs under the power purchase agreement. In addition, PLN filed a
lawsuit contesting the validity of its agreement to purchase electricity from
the project. The lawsuit was withdrawn by PLN on January 20, 2000.
On February 21, 2000, Paiton Energy and PLN executed an Interim Agreement
pursuant to which the power purchase agreement will be administered pending a
long-term restructuring of the power purchase agreement. Among other things, the
Interim Agreement provides for dispatch of the project, fixed monthly capacity
payments to Paiton Energy by PLN, and the standstill of any further legal
proceedings by either party during the term of the Interim Agreement, which runs
through December 31, 2000 and may be extended by mutual agreement. To date, PLN
has made timely payments of the fixed capacity totaling $84 million. Invoicing
under the power purchase agreement will continue to accrue (minus the fixed
monthly capacity payments under the Interim Agreement) and will be dealt with
under the overall tariff restructuring negotiations. PLN and Paiton Energy
entered into negotiations on a long-term restructuring of the tariff, but no
final agreement has been reached to date. Any material modifications of the
power purchase agreement could also require a renegotiation of the Paiton
project's debt agreements. The impact of any such renegotiations with PLN, the
Government of Indonesia or the project's creditors on our expected return on our
investment in Paiton Energy is uncertain at this time; however, we believe that
we will ultimately recover our investment in the project.
Brooklyn Navy Yard
Brooklyn Navy Yard is a 286-MW gas-fired cogeneration power plant in
Brooklyn, New York. Our wholly owned subsidiary owns 50% of the project. In
February 1997, the construction contractor asserted general monetary claims
under the turnkey agreement against Brooklyn Navy Yard Cogeneration Partners,
L.P. for damages in the amount of $136.8 million. Brooklyn Navy Yard
Cogeneration Partners has asserted general monetary claims against the
contractor. In connection with a $407 million non-recourse project refinancing
in 1997, we agreed to indemnify Brooklyn Navy Yard Cogeneration Partners and its
partner from all claims and costs arising from or in connection with the
contractor litigation, which indemnity has been assigned to Brooklyn Navy Yard
Cogeneration Partners' lenders. At the present time, we cannot reasonably
estimate the amount that would be due, if any, related to this litigation.
Additional amounts, if any, which would be due to the contractor with respect to
completion of construction of the power plant would be accounted for as an
additional part of its power plant investment. Furthermore, our partner has
executed a reimbursement agreement with us that provides
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recovery of up to $10 million over an initial amount, including legal fees,
payable from its management and royalty fees. At September 30, 2000, no accrual
has been recorded in connection with this litigation. We believe that the
outcome of this litigation will not have a material adverse effect on our
consolidated financial position or results of operations.
Litigation
We are routinely involved in litigation arising in the normal course of
business. While the results of such litigation cannot be predicted with
certainty, we, based on advice of counsel, do not believe that the final outcome
of any pending litigation will have a material adverse effect on our financial
position or results of operations.
Other
In support of the businesses of our subsidiaries, we have made, from time
to time, guarantees, and have entered into indemnity agreements with respect to
our subsidiaries' obligations like those for debt service, fuel supply or the
delivery of power, and have entered into reimbursement agreements with respect
to letters of credit issued to third parties to support our subsidiaries'
obligations.
We may incur additional guaranty, indemnification, and reimbursement
obligations, as well as obligations to make equity and other contributions to
projects in the future. We believe that we will have sufficient liquidity on
both a short- and long-term basis to fund pre-financing project development
costs, make equity contributions to project subsidiaries, pay our debt
obligations and pay other administrative and general expenses as they are
incurred from (1) distributions from energy projects and dividends from
investments in oil and gas, (2) proceeds from the repayment of loans made by us
to our project subsidiaries, and (3) funds available from our revolving credit
facility.
Environmental Matters or Regulations
We are subject to environmental regulation by federal, state, and local
authorities in the United States and foreign regulatory authorities with
jurisdiction over projects located outside the United States. We believe that
as of the filing date of this report, we are in substantial compliance with
environmental regulatory requirements and that maintaining compliance with
current requirements will not materially affect our financial position or
results of operations.
We expect that the implementation of Clean Air Act Amendments will result
in increased capital expenditures and operating expenses. For example, we expect
to spend approximately $49 million for the remainder of 2000 and $46 million in
2001 to install upgrades to the environmental controls at the Homer City plant
to control sulfur dioxide and nitrogen oxide emissions. Similarly, we anticipate
upgrades to the environmental controls at the Illinois Plants to control
nitrogen oxide emissions to result in expenditures of approximately $21 million
for the remainder of 2000 and $344 million for the 2001-
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2004 period. In addition, at the Ferrybridge and Fiddler's Ferry plants, we are
committed to incur environmental costs arising from plant modification, totaling
approximately $32 million for the remainder of 2000 and $257 million for the
2001-2004 period. We do not expect these increased capital expenditures and
operating expenses to have a material effect on our financial position or
results of operation.
NOTE 6. BUSINESS SEGMENTS
We operate predominately in one line of business, electric power
generation, with reportable segments organized by geographic region: United
States, Asia Pacific and Europe, Central Asia, Middle East and Africa. Our
plants are located in different geographic areas, which tends to mitigate the
effects of regional markets, economic downturns or unusual weather conditions.
<TABLE>
<CAPTION>
(In millions) Europe,
(Unaudited) Central Asia,
Three Months Ended Asia Middle East Corporate/
September 30, 2000 Americas Pacific and Africa Other/(i)/ Total
------------------ -------- ------- ---------- ---------- -----
<S> <C> <C> <C> <C> <C>
Operating revenues $ 733.1 $ 51.2 $ 266.0 $ -- $ 1,050.3
Net income (loss) 201.1 2.9 32.6 (45.3) 191.3
Total assets $7,003.5 $2,666.2 $4,809.6 $ -- $14,479.3
September 30, 1999
------------------
Operating revenues $ 249.1 $ 57.7 $ 225.6 $ -- $ 532.4
Net income (loss) 75.2 (2.6) 31.3 (17.3) 86.6
Total assets $3,318.5 $3,289.7 $4,580.9 $ -- $11,189.1
<CAPTION>
(In millions) Europe,
(Unaudited) Central Asia,
Nine Months Ended Asia Middle East Corporate/
September 30, 2000 Americas Pacific and Africa Other/(i)/ Total
------------------ -------- ------- ---------- ---------- -----
<S> <C> <C> <C> <C> <C>
Operating revenues $1,430.7 $ 148.7 $ 931.0 $ -- $ 2,510.4
Net income (loss) 174.0 (14.1) 113.6 (113.2) 160.3
Total assets $7,003.5 $2,666.2 $4,809.6 $ -- $14,479.3
September 30, 1999
------------------
Operating revenues $ 458.1 $ 164.0 $ 451.2 $ -- $ 1,073.3
Net income (loss) 121.9 (15.3) 62.8 (33.2) 136.2
Total assets $3,318.5 $3,289.7 $4,580.9 $ -- $11,189.1
</TABLE>
(i) Includes corporate net interest expense
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NOTE 7. INVESTMENTS
The following table presents summarized financial information of the
significant subsidiary investments in energy projects accounted for by the
equity method. The significant subsidiary investments include the Cogeneration
Group. The Cogeneration Group consists of Kern River Cogeneration Company,
Sycamore Cogeneration Company and Watson Cogeneration Company, of which we own
50 percent, 50 percent and 49 percent interests in, respectively.
(In millions)
(Unaudited) (Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ -----------------------
2000 1999 2000 1999
-------- -------- ---------- ----------
Operating Revenues $298,466 $206,033 $592,272 $468,474
Income from Operations 126,162 108,810 214,878 209,269
Net Income 118,700 108,891 214,347 209,634
NOTE 8. LONG-TERM INCENTIVE PLAN
As disclosed in our Annual Report on Form 10-K/A for the year ended
December 31, 1999 and our Quarterly Report on Form 10-Q for the first quarter of
2000, Edison International and Edison Mission Energy considered an exchange
offer of cash and stock equivalent units, relating to Edison International
Common Stock, for outstanding Edison Mission Energy phantom stock options. Such
an exchange offer was reviewed and approved by the Edison International Board of
Directors at its meetings in January and February 2000, subject to final
approval by the Edison International Compensation and Executive Personnel
Committee of the offer terms and documentation. The Compensation and Executive
Personnel Committee and the Edison International Board of Directors subsequently
concluded that, in view of unexpected events adversely impacting the earnings
from merchant plants in the United Kingdom and the price of Edison International
stock, it was not advisable to make an exchange offer to the holders of Edison
Mission Energy's phantom stock options at that time. During June 2000, the
Compensation and Executive Personnel Committee and the Board of Directors
considered the advisability of a revised exchange offer and on July 3, 2000, a
revised exchange offer was made to holders of Edison Mission Energy phantom
stock options. 100% of the holders of Edison Mission Energy phantom stock
options accepted the revised exchange offer and on August 8, 2000, all
conditions for completion of the exchange offer were satisfied and the exchange
offer was completed. The exchange offer is principally for cash, with a portion
exchanged for stock equivalent units relating to Edison International Common
Stock. The vested cash payment will occur on March 13, 2001, and will accrue
interest from August 8, 2000. The number of stock equivalent units was
determined on the basis of a price of $20.50 per share, and the stock equivalent
units will receive dividend equivalents. Participants may elect to cash their
vested stock
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equivalent units on either the first or third anniversary of the exchange offer
date (August 8, 2000) for an amount equal to the daily average of Edison
International common stock on the New York Stock Exchange for the twenty trading
days preceding the elected payment date. Some of the affiliate option holders
have elected to defer payments of the cash and stock equivalent units, and the
payment schedules for them will be different from that described above. Since
all of the outstanding affiliate options have been terminated through the
exchange offer, there will be no future exercises of the affiliate options.
Due to the lower valuation of the revised exchange offer compared to the
values previously considered, in the third quarter Edison Mission Energy reduced
the liability for accrued incentive compensation by approximately $60 million.
Subsequent to the exchange offer, compensation expense under this plan totaled
$4.9 million, including interest on accrued compensation, additional
compensation from vesting of participants based on continued service, and
increase in value of the stock equivalent units.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion contains forward-looking statements that reflect
Edison Mission Energy's current expectations and projections about future events
based on our knowledge of present facts and circumstances and our assumptions
about future events. In this discussion, the words "expects," "believes,"
"anticipates," "estimates," "intends," "plans" and variations of these words and
similar expressions are intended to identify forward-looking statements. These
statements necessarily involve risks and uncertainties that could cause actual
results to differ materially from those anticipated. Factors that could cause
different results may include actions by state and federal regulatory bodies
implementing the restructuring of the electric utility industry; the effects of
new laws and regulations or new interpretations of existing laws and regulation;
the effects of increased competition in energy-related businesses; changes in
prices of electricity and fuel costs; changes in financial market conditions;
risks of doing business in foreign countries, such as political changes and
currency devaluations; power plant construction and operation risks; new or
increased environmental liabilities; weather conditions and other unforeseen
events. The information contained in this discussion is subject to change
without notice. Unless otherwise indicated, the information presented in this
section is with respect to Edison Mission Energy and its consolidated
subsidiaries.
General
-------
We are an independent power producer engaged in the business of developing,
acquiring, owning and operating electric power generation facilities worldwide.
Our current investments include 75 projects totaling 28,484 megawatts (MW) of
generation capacity, of which our share is 22,852 MW. 28,201 MW are in operation
and our share is 22,710 MW. 283 MW are under construction of which our share is
142 MW.
Our operating revenues are derived primarily from electric revenues and
equity in income from energy projects. Consolidated operating revenues also
include equity in income from oil and gas investments and revenues attributable
to operation and maintenance services.
Electric revenues are derived from our majority owned domestic and
international entities. Equity in income from energy projects relates to energy
projects where our ownership interest is 50% or less in the projects. The
equity method of accounting is generally used to account for the operating
results of entities over which we have a significant influence but in which we
do not have a controlling interest. With respect to entities accounted for
under the equity method, we recognize our proportional share of the income or
loss of such entities.
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Acquisitions, Dispositions and Sale-Leaseback Transactions
----------------------------------------------------------
Acquisitions
On March 15, 2000, we completed a transaction with UPC International
Partnership CV II to acquire Edison Mission Wind Power Italy B.V., formerly
known as Italian Vento Power Corporation Energy 5 B.V., which owns a 50%
interest in a series of power projects that are in operation or under
development in Italy. All of the projects use wind to generate electricity from
turbines which is sold under fixed-price, long-term tariffs. Assuming all of
the projects under development are completed, currently scheduled for 2002, the
total capacity of these projects will be 283 MW. The total purchase price is 90
billion Italian Lira (approximately $43 million at September 30, 2000), with
equity contribution obligations of up to 33 billion Italian Lira (approximately
$16 million at September 30, 2000), depending on the number of projects that are
ultimately developed. As of September 30, 2000, payments included $27 million
towards the purchase price and $13 million in equity contributions.
On September 1, 2000, we completed a transaction with P&L Coal Holdings
Corporation and Gold Fields Mining Corporation (Peabody) to acquire the trading
operations of Citizens Power LLC and a minority interest in certain structured
transaction investments. The purchase price of $44.9 million is based on the
sum of: (a) fair market value of the trading portfolio and the structured
transaction investments, and (b) $25 million. The acquisition was funded from
cash. By the end of the third quarter of 2000, the Citizens' trading operations
was merged into our own trading operations, Edison Mission Marketing & Trading,
Inc., and trading is currently being conducted out of Boston, MA.
Dispositions
On June 30, 2000, we completed the sale of our 50% interest in the
Auburndale project to the existing partner. Proceeds from the sale were $22
million. We recorded a gain on the sale of $17.0 million ($10.5 million after
tax).
On August 16, 2000, we completed the sale of 30% of our interest in the
Kwinana cogeneration plant to SembCorp Energy. We will retain the remaining 70%
ownership interest in the plant. Proceeds from the sale were $12 million. We
recorded a gain on the sale of $8.5 million ($4.3 million after tax).
Sale-Leaseback Transactions
On July 10, 2000, one of our subsidiaries entered into a sale-leaseback of
certain equipment, primarily Illinois peaker power units, to a third party
lessor for $300 million. Under the terms of the 5-year lease, we have a fixed
price purchase option at the end of the lease term of $300 million. We guarantee
the monthly payments under the lease. In connection with the sale-leaseback, a
subsidiary of ours purchased $255 million of notes issued by the lessor which
accrue interest at LIBOR plus 0.65% to 0.95%, depending on
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the investment rating. The notes are due and payable in five years. No gain or
loss was recorded on the sale of the equipment.
On August 24, 2000, we entered into a sale-leaseback transaction for the
Powerton and Joliet power facilities located in Illinois to third party lessors
for an aggregate purchase price of $1.367 billion. Under the terms of the
leases (33.75 years for Powerton and 30 years for Joliet), we make semi-annual
lease payments on each January 2 and July 2, beginning January 2, 2001. Edison
Mission Energy guarantees the payments under the leases. If a lessor intends to
sell its interest in the Powerton or Joliet power facility, we have a right of
first refusal to acquire the interest at fair market value. Minimum lease
payments during the next five years are $31.2 million in 2000; $83.3 million for
2001; $97.3 million for 2002; $97.3 million for 2003; $97.3 million for 2004 and
a total of $1,989.3 million for the remaining term of the leases. Lease costs of
these power facilities will be levelized over the terms of the respective
leases. No gain or loss was recorded on the sale of the power plants.
Results of Operations
---------------------
Operating Revenues
Electric revenues increased $514.9 million and $1,478.1 million for the
third quarter and nine months ended September 30, 2000, compared with the
corresponding periods of 1999. The increase for the third quarter of 2000 was
primarily due to acquisitions of the Ferrybridge and Fiddler's Ferry plants
(July 1999), the Illinois Plants (December 1999) and the start of commercial
operation of the Doga project in May 1999. The increase for the nine months
ended September 30, 2000 also included the acquisition of the Homer City plant
(March 1999). Equity in income from energy projects increased $6.2 million
during the third quarter of 2000 and decreased $13.4 million during the nine
months ended September 30, 2000, compared with the corresponding periods of
1999. The increase for the third quarter of 2000 was primarily the result of
higher revenues from cogeneration projects due to higher energy pricing. The
decrease for the nine months ended September 30, 2000 was primarily due to
higher revenues during the first quarter of 1999 as a result of a final
settlement on energy prices tied to short-term avoided costs with applicable
public utilities and, second, from one cogeneration project as a result of a
gain on termination of a power sales agreement. Equity income from oil and gas
projects increased $3.6 million and $12.4 million for the third quarter and nine
months ended September 30, 2000, compared with the corresponding periods of 1999
as a result of higher oil and gas prices.
Due to warmer weather during the summer months, electric revenues generated
from the Homer City plant are usually higher during the third quarter of each
year. In addition, our third quarter revenues from energy projects are
materially higher than other quarters of the year due to a significant number of
our domestic energy projects located on the West Coast and the Illinois Plants,
which have power sales contracts that provide for higher payments during the
summer months. The First Hydro plant and Ferrybridge and Fiddler's Ferry plants
provide for higher electric revenues during the winter months.
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On September 1, 2000, we acquired the trading operations of Citizens Power
LLC. As a result of this acquisition, we have expanded our trading operations
beyond the traditional marketing of our electric power. Our energy trading
activities are accounted for using the fair value method under EITF 98-10,
"Accounting for Contracts Involved in Energy Trading and Risk Management
Activities". Net losses from energy trading activities since the date of this
acquisition were $1.4 million due primarily to changes in energy prices in the
West Coast. Our price risk management activities included hedge transactions
that required mark to market accounting. Total losses from energy trading and
price risk management activities for the three and nine months ended September
30, 2000 were $10.9 million and $44.6 million compared to $4.7 million and $3
million for the three and nine months ended September 30, 1999. The increase in
losses was primarily due to realized and unrealized losses for a gas swap
entered into as an economic hedge of a portion of our gas price risk related to
our share of gas production in Four Star (an oil and gas company in which we
have a minority interest and which we account for under the equity method).
Although we believe the gas swap hedges our gas price risk, hedge accounting is
not permitted for transactions of our equity method. Accordingly, to the extent
that gas prices are greater than the gas swap hedge, our share of future
earnings from this investment will be higher.
Operating Expenses
Operating expenses increased $246.4 million and $1,101.7 million for the
third quarter and nine months ended September 30, 2000, compared with the
corresponding periods of the prior year. The increase was due primarily to
higher fuel, plant operations and depreciation and amortization expenses
partially offset by a decrease in compensation expense with respect to phantom
stock options. The higher fuel, plant operations and depreciation and
amortization expense was as a result of there being no comparable third quarter
and nine month prior year expenses for the Illinois Plants (acquired in the
fourth quarter of 1999) and to a lesser extent the Ferrybridge and Fiddler's
Ferry plants (acquired in July 1999), the Homer City plant (acquired in March
1999) and the Doga project, which commenced commercial operation in May 1999.
The decrease in compensation expense was primarily due to a reduction in
the liability for accrued incentive compensation by approximately $60 million
due to the lower valuation of the revised exchange offer compared to the values
previously considered. As disclosed in our Annual Report on Form 10-K/A for the
year ended December 31, 1999 and our Quarterly Report on Form 10-Q for the first
quarter of 2000, Edison International and Edison Mission Energy considered an
exchange offer of cash and stock equivalent units, relating to Edison
International Common Stock, for outstanding Edison Mission Energy phantom stock
options. Such an exchange offer was reviewed and approved by the Edison
International Board of Directors at its meetings in January and February 2000,
subject to final approval by the Edison International Compensation and Executive
Personnel Committee of the offer terms and documentation. The Compensation and
Executive Personnel Committee and the Edison International Board of Directors
subsequently concluded that, in view of unexpected events adversely impacting
the earnings from merchant plants in the United Kingdom and the price of
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Edison International stock, it was not advisable to make an exchange offer to
the holders of Edison Mission Energy's phantom stock options at that time.
During June 2000, the Compensation and Executive Personnel Committee and the
Board of Directors considered the advisability of a revised exchange offer and
on July 3, 2000, a revised exchange offer was made to holders of Edison Mission
Energy phantom stock options. 100% of the holders of Edison Mission Energy
phantom stock options accepted the revised exchange offer and on August 8, 2000,
all conditions for completion of the exchange offer were satisfied and the
exchange offer was completed. The exchange offer is principally for cash, with a
portion exchanged for stock equivalent units relating to Edison International
Common Stock. The vested cash payment will occur on March 13, 2001, and will
accrue interest from August 8, 2000. The number of stock equivalent units was
determined on the basis of a price of $20.50 per share, and the stock equivalent
units will receive dividend equivalents. Participants may elect to cash their
vested stock equivalent units on either the first or third anniversary of the
exchange offer date (August 8, 2000) for an amount equal to the daily average of
Edison International common stock on the New York Stock Exchange for the twenty
trading days preceding the elected payment date. Some of the affiliate option
holders have elected to defer payments of the cash and stock equivalent units,
and the payment schedules for them will be different from that described above.
Since all of the outstanding affiliate options have been terminated through the
exchange offer, there will be no future exercises of the affiliate options.
Administrative and general expenses increased $9.9 million and $33.9
million for the third quarter and nine months ended September 30, 2000, compared
with the corresponding periods of the prior year. The increase in administrative
and general expenses is primarily due to additional salaries and facilities
costs incurred to support the 1999 acquisitions. We recorded a pretax charge of
approximately $6 million against third quarter earnings for severance and other
related costs which contributed to the increase in both periods. The charge
resulted from a series of actions undertaken by us designed to reduce
administrative and general operating costs, including reductions in management
and administrative personnel.
Operating Income
Operating income increased $271.5 million and $335.5 million for the third
quarter and nine months ended September 30, 2000, compared with the
corresponding periods of the prior year. The increase during the third quarter
from the prior year was primarily due to operating income from the Illinois
Plants and the decrease in compensation expense with respect to phantom stock
options discussed above. The increase in the nine month period ended September
30, 2000 from the prior year was primarily due to operating income from the
Illinois Plants, Ferrybridge and Fiddler's Ferry plants, the Homer City plant
and the Doga project partially offset by lower compensation expense discussed
above. The operating income from Ferrybridge and Fiddler's Ferry, which is
expected to be higher during the winter months, was adversely affected by lower
energy prices during the first quarter in 2000 due to warmer than average
weather and regulatory uncertainty regarding planned changes in the electricity
trading arrangements. Operating
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losses from the Illinois Plants during the first quarter were due primarily to
lower non-summer electricity prices under the power purchase agreements with
Commonwealth Edison and lower non-summer generation.
During May 2000, we experienced a major outage due to extensive damage to
the generator at one of our two 500 MW Units at the Loy Yang B power plant
complex in Australia. The Unit was restored to operation in September 2000.
Under our insurance program we are obligated for the property damage insurance
deductible of $2 million and for loss of profits during the first 15 days
following the insurable event. The repair costs in excess of the deductible
amount together with the loss of profits after the first 15 days and until the
unit was back in operation are expected to be recovered from insurance. During
the period ended September 30, 2000, we recorded after-tax losses of $5.9
million related to this outage.
Other Income (Expense)
Interest and other income (expense) increased $14.7 million during the
third quarter of 2000 and $19.9 million for the nine months ended September 30,
2000, compared with the corresponding periods of the prior year. The increase
was primarily due to higher interest income and foreign exchange gains on
intercompany loans denominated in foreign currency. Interest income increased
primarily resulting from interest earned on higher cash balances in 2000.
On June 30, 2000, we completed the sale of our 50% interest in the
Auburndale project to the existing partner. Proceeds from the sale were $22
million. We recorded a gain on the sale of $17.0 million ($10.5 million after
tax).
On August 16, 2000, we completed the sale of 30% of our interest in the
Kwinana cogeneration plant to SembCorp Energy. We will retain the other 70%
ownership interest in the plant. Proceeds from the sale were $12 million. We
recorded a gain on the sale of $8.5 million ($4.3 million after tax).
Interest expense increased $69.8 million and $300.5 million for the third
quarter and nine months ended September 30, 2000, compared with the
corresponding periods of the prior year. The increase was primarily the result
of additional debt financing associated with the acquisition of the Illinois
Plants, the Ferrybridge and Fiddler's Ferry plants and the Homer City plant.
Provision (Benefit) for Income Taxes
During the nine months ended September 30, 2000 and 1999, we recorded an
income tax expense based on projected income for the year and benefits under the
tax sharing agreement. The annual effective tax rate for the nine months ended
September 30, 1999 was 18%. The annual effective tax rate in 1999 was below the
Federal statutory rate of 35% due to lower foreign income taxes that result from
the permanent reinvestment of earnings from foreign affiliates located in
different tax jurisdictions. The annual effective
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tax rate for the nine months ended September 30, 2000 was 43%. The annual
effective tax rate is expected to increase from the prior year due to a higher
foreign income tax expense from 1999 and higher state income taxes due to the
Homer City plant and Illinois Plants.
We are, and may in the future be, under examination by tax authorities in
varying tax jurisdictions with respect to positions we take in connection with
the filing of our tax returns. Matters raised upon audit may involve
substantial amounts, which, if resolved unfavorably, an event not currently
anticipated, could possibly be material. However, in our opinion, it is
unlikely that the resolution of any such matters will have a material adverse
effect upon our financial condition or results of operations.
Cumulative Effect of Change in Accounting Principle
Through December 31, 1999 we have accrued for major maintenance costs
during the period between turnarounds (referred to as "accrue in advance"
accounting method). Such accounting policy has been widely used by independent
power producers as well as several other industries. In March 2000, the SEC
issued a letter to the Accounting Standards Executive Committee, stating its
position that the SEC Staff does not believe it is appropriate to use an "accrue
in advance" method for major maintenance costs. The Accounting Standards
Executive Committee agreed to add accounting for major maintenance costs as part
of an existing project and to issue authoritative guidance by August 2001. Due
to the position taken by the SEC Staff, we voluntarily decided to change our
accounting policy to record major maintenance costs as an expense as incurred.
Such change in accounting policy is considered preferable based on the recent
guidance provided by the SEC. In accordance with Accounting Principles Board
Opinion No. 20, "Accounting Changes", we have recorded $17.7 million, after tax,
as a cumulative change in the accounting for major maintenance costs during the
quarter ended March 31, 2000.
In April 1998, the American Institute of Certified Public Accountants
issued Statement of Position (SOP) 98-5, "Reporting on the Costs of Start-Up
Activities", which became effective in January 1999. The Statement requires that
certain costs related to start-up activities be expensed as incurred and that
certain previously capitalized costs be expensed and reported as a cumulative
change in accounting principle. The impact of adopting SOP 98-5 on our net
income in 1999 was an expense of $13.8 million, after-tax.
Liquidity and Capital Resources
-------------------------------
For the nine months ended September 30, 2000, net cash provided by
operating activities decreased to $348.3 million from $369 million for the same
period in 1999. The 2000 decrease primarily reflects higher working capital
requirements including payments of accrued incentive compensation.
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Net cash used in financing activities totaled $834 million during the nine
months ended September 30, 2000, compared to net cash provided by financing
activities of $4,479.2 million for the corresponding period of the prior year.
In 1999, financings related to the acquisition of three new projects in 1999
contributed to the net cash provided by financing activities. A term loan
facility of $1.3 billion related to the Ferrybridge and Fiddler's Ferry plants,
senior secured bonds totaling $830 million related to the Homer City plant, $120
million Flexible Money Market Cumulative Preferred Stock and $74 million Retail
Redeemable Preference Shares and $84 million Class A Redeemable Preferred Shares
related to Contact Energy. In addition, we also received $1.066 billion in
equity contributions from Edison International, our parent company, to finance
our 1999 acquisitions. During the nine month period ended September 30, 2000, we
paid dividends of $66 million to Edison International. In addition, payments
made on our credit facilities and commercial paper facilities totaling $1.1
billion and the $500 million payment on our floating rate notes were the primary
contributors of the net cash used in financing activities during 2000. In
February 2000, Edison Mission Midwest Holdings Co. issued $1.7 billion of
commercial paper under its credit facility and repaid a similar amount of
outstanding bank borrowings for the Illinois Plants. In January 2000, one of our
foreign subsidiaries borrowed $242.7 million from Edison Capital, an indirect
affiliate. As of September 30, 2000, we had recourse debt of $1.7 billion, with
an additional $6.0 billion of non-recourse debt (debt which is recourse to
specific assets or subsidiaries) on our consolidated balance sheet.
Net cash provided by investing activities totaled $965 million for the nine
months ended September 30, 2000, compared to net cash used in investing
activities of $4,859.7 million for the nine months ended September 30, 1999. In
1999, cash used in investing activities was primarily due to the purchase of the
Homer City plant, Ferrybridge and Fiddler's Ferry generating facilities and our
ownership interest in Contact Energy. In 2000, net cash provided by investing
activities was primarily due to proceeds of $1.367 billion and $300 million
received from the sale leaseback transactions with respect to the Powerton and
Joliet power facilities in August 2000 and the Illinois peaker power units in
July 2000, respectively. Through September 30, 2000, $27 million was paid
towards the purchase price and $13 million in equity contributions for the
Italian Wind Projects and $44.9 million for the Citizens' trading portfolio and
certain structured transaction investments. In addition, $33.5 million, $21.2
million and $20 million was made in equity contributions for the EcoElectrica
project (June 2000), the Tri Energy project (July 2000) and the ISAB project
(September 2000), respectively. We invested $221.5 million and $196.4 million
during the nine month period ended September 30, 2000 and 1999, respectively, in
new plant equipment principally related to the Homer City plant and Illinois
Plants in 2000 and the Doga project in 1999.
Capital expenditures, including environmental expenditures disclosed under
the caption "Environmental Matters or Regulations," in 2000 are expected to
approximate $349 million. In addition, we have entered into a reservation
agreement with a turbine equipment manufacturer to obtain the right to purchase
nine turbines at specified delivery dates in 2002 and 2003. We plan to use this
equipment in connection with expansion of our gas-fired generation projects in
the United States.
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At September 30, 2000, we had cash and cash equivalents of $832.7 million
and had available $542.8 million of borrowing capacity under a $500 million
revolving credit facility that expires in 2001 and a $300 million senior credit
facility that expires in 2001. The $300 million senior credit facility was
entered into in May 2000 to fund for general corporate purposes. The borrowing
capacity under our credit facilities may be reduced by borrowings for firm
commitments to contribute project equity. We had no borrowing capacity under a
$700 million commercial paper facility that expires in 2001.
Recent Developments
On October 9, 2000, we executed a memorandum of understanding with a third
party to purchase a proposed 560 megawatt gas fired combined cycle project to be
located in Kern County, CA. The estimated construction costs of this project is
approximately $400 million. The acquisition would include all rights, title and
interest held by the third party in the project and an option to acquire two gas
turbines which we would utilize in the project. As part of the memorandum of
understanding, we paid a $2 million development fee which provides the right to
complete due diligence on the project. Completion of the acquisition of the
project, which is expected during the fourth quarter, is subject to satisfactory
completion of due diligence and a number of conditions, including negotiating an
acceptable sale and purchase agreement.
Firm Commitment for Asset Purchase
Project Local Currency U.S. ($ in millions)
------- -------------- --------------------
Italian Wind Projects (i) 36 billion Italian Lira $16
(i) Italian Wind Projects are a series of power projects that are in operation
or under development in Italy. A wholly owned subsidiary of Edison Mission
Energy owns a 50% interest. Purchase payments will continue through 2002,
depending on the number of projects that are ultimately developed.
Firm Commitments to Contribute Project Equity
Projects Local Currency U.S. ($ in millions)
-------- -------------- --------------------
Italian Wind Projects (i) 6 billion Italian Lira $3
(i) Italian Wind Projects are a series of power projects that are in operation
or under development in Italy. A wholly owned subsidiary of Edison Mission
Energy owns a 50% interest. Equity will be contributed depending on the
number of projects that are ultimately developed.
Firm commitments to contribute project equity could be accelerated due to
certain events of default as defined in the non-recourse project financing
facilities. Management has no reason to believe that these events of default
will occur to require acceleration of the firm commitments.
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Contingent Obligations to Contribute Project Equity
Projects Local Currency U.S. ($ in millions)
-------- -------------- --------------------
Paiton (i) - $47
ISAB (ii) 86 billion Italian Lira 39
(i) Contingent obligations to contribute additional project equity will be based
on events principally related to insufficient cash flow to cover interest on
project debt and operating expenses, project cost overruns during the plant
construction, specified partner obligations or events of default. Our
obligation to contribute contingent equity will not exceed $141 million, of
which $94 million has been contributed as of September 30, 2000.
As more fully described below under the caption "Other Commitments and
Contingencies," PT PLN (Persero) (PLN), formerly referred to as PT
Perusahaan Listrik Negara, the main source of revenue for the project, has
failed to pay the project in respect of its invoices through February 2000
(with the exception of a partial payment made in June 1999). In February
2000, Paiton Energy entered into an Interim Agreement with PLN which called
for a termination of all legal actions by both parties, interim monthly
payments through the end of 2000 (total payments US $115 million), dispatch
of the facility at partial load and, in addition to the fixed monthly
payments, payment for energy actually delivered. To date, PLN has made all
fixed monthly payments (March through September) on time and in full, and
has paid all invoices for energy delivered. Paiton Energy will continue to
invoice PLN for capacity payments at the rate determined under the power
purchase agreement. These invoices (minus the fixed monthly payments
received under the Interim Agreement) will accrue and will be dealt with
under the overall tariff restructuring negotiations.
In October 1999, in response to PLN's failure to pay, Paiton Energy entered
into an interim agreement with its lenders (the Lender Interim Agreement)
which modified the contingent equity provisions of the Paiton Energy debt
documents related to the authorized usage of the monies during the agreed
interim period, which extended from October 15, 1999 through July 31, 2000.
In July, the Lenders voted to extend the term of the Lender Interim
Agreement through December 31, 2000 to coincide with the US-EXIM take-out
date and the time period of the Interim Agreement with PLN. The Lender
Interim Agreement provides, among other things, that contingent equity from
us and the other Paiton Energy shareholders shall be contributed from time
to time as needed to enable Paiton Energy to pay interim project costs.
Interim project costs include interest on project debt and operating costs
which become due and payable during the term of the Lender Interim Agreement
and specific other costs related to the construction of the project. The
Lender Interim Agreement provides that a portion of the contingent equity
(originally $206 million, of which our current unfunded share is $32
million), will become due and payable by the shareholders in the event that
certain events of default, other than those specifically waived under the
Lender Interim Agreement, occur. The Lender Interim Agreement further
provides
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that all unfunded contingent equity (originally $300 million, of which our
current unfunded share is $47 million), will become due and payable by the
shareholders in the event that Paiton Energy fails to make any interest
payment during the pendency of the Lender Interim Agreement. As of
September 30, 2000, Paiton Energy's shareholders have contributed to Paiton
$201 million of contingent equity, of which our share was $94 million.
The contractor for the Paiton project and Paiton Energy reached a global
settlement in principal. The global settlement deals with all claims,
including contractor claims for retention, costs relating to a dispute
involving a slope adjacent to the Paiton site and other cost overruns
related to delays in the completion of the construction of the project and
Paiton Energy's claims under the construction contract. Terms and
conditions of this settlement will require the approval of Paiton Energy's
lenders. Paiton Energy is presently discussing this settlement agreement
with its lenders and contractor, and expects that an accommodation of
lender requirements can be achieved, and therefore that the required lender
approval can be obtained. Payment of the settlement amount, if approved by
lenders, will be met through funds that may be made available to the
project and ultimately will be paid out of revenues received as a result of
the renegotiation of the power purchase agreement and the project's debt
agreements, as more fully discussed under the caption, "Other Commitments
and Contingencies."
Our contingent equity obligations for the Paiton project are to be
cancelled, if unused, as of the date of term financing by the Export-Import
Bank of the United States. Term financing by the Export-Import Bank of the
United States is the subject of a comprehensive set of conditions. The
obligation of the Export-Import Bank of the United States to provide term
financing was initially scheduled to terminate on October 15, 1999. The
Export-Import Bank of the United States agreed to extend the term financing
commitment through December 31, 2000 and has determined that the project
will need to meet additional terms and conditions for take-out of the
construction lenders.
(ii) ISAB is a 512-MW integrated gasification combined cycle power plant near
Siracusain Sicily, Italy. A wholly owned subsidiary of Edison Mission
Energy owns a 49% interest. Commercial operations commenced in April 2000.
Contingent obligations to contribute additional equity to the project
relate specifically to an agreement to provide equity assurances to the
project's lenders depending on the outcome of the contractor claim
arbitration.
Other than as noted above, we are not aware, at this time, of any other
contingent obligations or obligations to contribute project equity.
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Other Commitments and Contingencies
Subsidiary Indemnification Agreements
Some of our subsidiaries have entered into indemnification agreements,
under which the subsidiaries agreed to repay capacity payments to the projects'
power purchasers in the event the projects unilaterally terminate their
performance or reduce their electric power producing capability during the term
of the power contracts. Obligations under these indemnification agreements as of
September 30, 2000, if payment were required, would be $265 million. We have no
reason to believe that the projects will either terminate their performance or
reduce their electric power producing capability during the term of the power
contracts.
Paiton
Paiton is a 1,230-MW coal-fired power plant in operation in East Java,
Indonesia. A wholly owned subsidiary of Edison Mission Energy owns a 40%
interest and has a $482 million investment at September 30, 2000. The project's
tariff is higher in the early years and steps down over time. The tariff for the
Paiton project includes infrastructure to be used in common by other units at
the Paiton complex. The plant's output is fully contracted with the state-owned
electricity company, PLN. Payments are in Indonesian Rupiah, with the portion of
such payments intended to cover non-Rupiah project costs, including returns to
investors, indexed to the Indonesian Rupiah/U.S. dollar exchange rate
established at the time of the power purchase agreement in February 1994. The
project received substantial finance and insurance support from the Export-
Import Bank of the United States, the Japan Bank of International Cooperation
(formerly known as The Export-Import Bank of Japan), the U.S. Overseas Private
Investment Corporation and the Ministry of International Trade and Industry of
Japan. PLN's payment obligations are supported by the Government of Indonesia.
The projected rate of growth of the Indonesian economy and the exchange rate of
Indonesian Rupiah into U.S. dollars have deteriorated significantly since the
Paiton project was contracted, approved and financed. The Paiton project's
senior debt ratings have been reduced from investment grade to speculative grade
based on the rating agencies' determination that there is increased risk that
PLN might not be able to honor the electricity sales contract with Paiton
Energy. The Government of Indonesia has arranged to reschedule sovereign debt
owed to foreign governments and has entered into discussions about rescheduling
sovereign debt owed to private lenders. Specified events, including those
discussed in the paragraph below, which, with the passage of time or upon
notice, may mature into defaults of the project's debt agreements have occurred.
On October 15, 1999, the project entered into an interim agreement with its
lenders pursuant to which the lenders waived such defaults until July 31, 2000.
In July, the Lenders voted to extend the term of the Lender Interim Agreement
through December 31, 2000 to coincide with the US-EXIM take-out date and the
time period of the Interim Agreement with PLN. However, this waiver may expire
on an earlier date if additional defaults, other than those specifically waived,
or other specified events occur.
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In May 1999, Paiton Energy notified PLN that Unit 7 of the Paiton project
achieved commercial operation under terms of the power purchase agreement and,
in July 1999, that Unit 8 of the Paiton project had similarly achieved such
commercial operation. Because of the economic downturn, PLN is experiencing low
electricity demand and PLN had, through February of this year, been dispatching
the Paiton plant to zero; however, under the terms of the power purchase
agreement, PLN is required to continue to pay for capacity and fixed operating
costs once each unit and the plant achieve commercial operation. PLN has not
paid invoices amounting to $659.4 million for capacity charges and fixed
operating costs under the power purchase agreement. In addition, PLN filed a
lawsuit contesting the validity of its agreement to purchase electricity from
the project. The lawsuit was withdrawn by PLN on January 20, 2000.
On February 21, 2000, Paiton Energy and PLN executed an Interim Agreement
pursuant to which the power purchase agreement will be administered pending a
long-term restructuring of the power purchase agreement. Among other things, the
Interim Agreement provides for dispatch of the project, fixed monthly capacity
payments to Paiton Energy by PLN, and the standstill of any further legal
proceedings by either party during the term of the Interim Agreement, which runs
through December 31, 2000 and may be extended by mutual agreement. To date, PLN
has made timely payments of the fixed capacity totaling $84 million. Invoicing
under the power purchase agreement will continue to accrue (minus the fixed
monthly capacity payments under the Interim Agreement) and will be dealt with
under the overall tariff restructuring negotiations. PLN and Paiton Energy have
entered into negotiations on a long-term restructuring of the tariff, but no
final agreement has been reached to date. Any material modifications of the
power purchase agreement could also require a renegotiation of the Paiton
project's debt agreements. The impact of any such renegotiations with PLN, the
Government of Indonesia or the project's creditors on our expected return on our
investment in Paiton Energy is uncertain at this time; however, we believe that
we will ultimately recover our investment in the project.
Brooklyn Navy Yard
Brooklyn Navy Yard is a 286-MW gas-fired cogeneration power plant in
Brooklyn, New York. Our wholly owned subsidiary owns 50% of the project. In
February 1997, the construction contractor asserted general monetary claims
under the turnkey agreement against Brooklyn Navy Yard Cogeneration Partners,
L.P. for damages in the amount of $136.8 million. Brooklyn Navy Yard
Cogeneration Partners has asserted general monetary claims against the
contractor. In connection with a $407 million non-recourse project refinancing
in 1997, we agreed to indemnify Brooklyn Navy Yard Cogeneration Partners and its
partner from all claims and costs arising from or in connection with the
contractor litigation, which indemnity has been assigned to Brooklyn Navy Yard
Cogeneration Partners' lenders. At the present time, we cannot reasonably
estimate the amount that would be due, if any, related to this litigation.
Additional amounts, if any, which would be due to the contractor with respect to
completion of construction of the power plant would be accounted for as an
additional part of its power plant investment. Furthermore, our partner has
executed a reimbursement agreement with us that provides
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recovery of up to $10 million over an initial amount, including legal fees,
payable from its management and royalty fees. At September 30, 2000, no accrual
has been recorded in connection with this litigation. We believe that the
outcome of this litigation will not have a material adverse effect on our
consolidated financial position or results of operations.
Litigation
We are routinely involved in litigation arising in the normal course of
business. While the results of such litigation cannot be predicted with
certainty, we, based on advice of counsel, do not believe that the final outcome
of any pending litigation will have a material adverse effect on our financial
position or results of operations.
Other
In support of the businesses of our subsidiaries, we have made, from time
to time, guarantees, and have entered into indemnity agreements with respect to
our subsidiaries' obligations like those for debt service, fuel supply or the
delivery of power, and have entered into reimbursement agreements with respect
to letters of credit issued to third parties to support our subsidiaries'
obligations.
We may incur additional guaranty, indemnification, and reimbursement
obligations, as well as obligations to make equity and other contributions to
projects in the future. We believe that we will have sufficient liquidity on
both a short- and long-term basis to fund pre-financing project development
costs, make equity contributions to project subsidiaries, pay our debt
obligations and pay other administrative and general expenses as they are
incurred from (1) distributions from energy projects and dividends from
investments in oil and gas, (2) proceeds from the repayment of loans made by us
to our project subsidiaries, and (3) funds available from our revolving credit
facility.
MARKET RISK EXPOSURES
---------------------
Edison Mission Energy's primary market risk exposures arise from changes in
interest rates, changes in oil and gas prices and electricity pool pricing and
fluctuations in foreign currency exchange rates. We manage these risks by using
derivative financial instruments in accordance with established policies and
procedures.
Interest Rate Risk
Interest rate changes affect the cost of capital needed to finance the
construction and operation of our projects. We have mitigated the risk of
interest rate fluctuations by arranging for fixed rate financing or variable
rate financing with interest rate swaps or other hedging mechanisms for a number
of our project financings. Interest expense included $13.3 million and $19.1
million of additional interest expense for the nine months ended September 30,
2000 and 1999, respectively, as a result of interest rate hedging mechanisms.
We have entered into several interest rate swap agreements under
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which the maturity date of the swaps occurs prior to the final maturity of the
underlying debt.
Commodity Price Risk
Electric power generated at our uncontracted plants is generally sold under
bilateral arrangements with utilities and power marketers under short-term
contracts with terms of two years or less, or in the case of the Homer City
plant, to the Pennsylvania-New Jersey-Maryland power market (PJM) or the New
York independent system operator (NYISO). We hedge a portion of the electric
output of our merchant plants, whose output is not committed to be sold under
long term contracts, in order to lock in desirable outcomes. When appropriate,
we manage the "spark spread" or margin, which is the spread between electric
prices and fuel prices, and use forward contracts, swaps, futures, or options
contracts to achieve those objectives.
United States
On September 1, 2000, we acquired the trading operations of Citizens Power
LLC. As a result of this acquisition, we have expanded our trading operations
beyond the traditional marketing of our electric power. Our energy trading and
price risk management activities give rise to market risk, which represents the
potential loss that can be caused by a change in the market value of a
particular commitment. Market risks are actively monitored to ensure compliance
with the risk management policies of Edison Mission Energy. Policies are in
place which limit the amount of total net exposure we may enter into at any
point in time. Procedures exist which allow for monitoring of all commitments
and positions with daily reporting to senior management. Edison Mission Energy
performs a "value at risk" analysis in our daily business to measure, monitor
and control our overall market risk exposure. The use of value at risk allows
management to aggregate overall risk, compare risk on a consistent basis and
identify the drivers of the risk. Value at risk measures the worst expected
loss over a given time interval, under normal market conditions, at a given
confidence level. Given the inherent limitations of value at risk and relying
on a single risk measurement tool, we supplement this approach with industry
"best practice" techniques including the use of stress testing and worst-case
scenario analysis, as well as stop limits and counterparty credit exposure
limits.
Electric power generated at the Homer City plant is sold under bilateral
arrangements with domestic utilities and power marketers under short-term
contracts with terms of two years or less, or to the PJM or the NYISO. These
pools have short-term markets, which establish an hourly clearing price. The
Homer City plant is situated in the PJM control area and is physically connected
to high-voltage transmission lines serving both the PJM and NYISO markets. The
Homer City plant can also transmit power to the Midwestern United States.
Electric power generated at the Illinois Plants is sold under power
purchase agreements with Commonwealth Edison, in which Commonwealth Edison will
purchase capacity and have the right to purchase energy generated by the
Illinois Plants. The
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agreements, which began on December 15, 1999, and have a term of up to five
years, provide for capacity and energy payments. Commonwealth Edison is
obligated to make a capacity payment for the plants under contract and an energy
payment for the electricity produced by these plants and taken by Commonwealth
Edison. The capacity payment provides the Illinois Plants revenue for fixed
charges, and the energy payment compensates the Illinois Plants for variable
costs of production. If Commonwealth Edison does not fully dispatch the plants
under contract, the Illinois Plants may sell, subject to specified conditions,
the excess energy at market prices to neighboring utilities, municipalities,
third party electric retailers, large consumers and power marketers on a spot
basis. A bilateral trading infrastructure already exists with access to the Mid-
America Interconnected Network and the East Central Area Reliability Council.
United Kingdom
Our plants in the United Kingdom (UK) sell their electrical energy and
capacity through a centralized electricity pool, which establishes a half-hourly
clearing price, also referred to as the pool price, for electrical energy. The
pool price is extremely volatile and can vary by as much as a factor of ten or
more over the course of a few hours, due to the large differentials in demand
according to the time of day. The First Hydro and Ferrybridge and Fiddler's
Ferry plants mitigate a portion of the market risk of the pool by entering into
contracts for differences, which are electricity rate swap agreements, related
to either the selling or purchasing price of power. These contracts specify a
price at which the electricity will be traded, and the parties to the agreement
make payments calculated based on the difference between the price in the
contract and the pool price for the element of power under contract. These
contracts are sold in various structures and act to stabilize revenues or
purchasing costs by removing an element of their net exposure to pool price
volatility.
In July 1998, the UK Director General of Electricity Supply proposed to the
Minister for Science, Energy and Industry that the current structure of
contracts for differences and compulsory trading via the pool at half-hourly
clearing prices bid a day ahead be abolished. The UK Government accepted the
proposals in October 1998 subject to certain reservations. Following this,
further proposals were published by the Regulator in July and October 1999. The
proposals include, among other things, the establishment of voluntary long-term
forwards and futures markets, organized by independent market operators and
evolving in response to demand; voluntary short-term power exchanges operating
from 24 to 4-hours before a trading period; a balancing mechanism to enable the
system operator to balance generation and demand and resolve any transmission
constraints; a mandatory settlement process for recovering imbalances between
contracted and metered volumes with stronger incentives for being in balance;
and a Balancing and Settlement Code Panel to oversee governance of the balancing
mechanism. It is difficult at this stage to evaluate the future impact of the
proposals. However, a key feature of the new trading arrangements is to move to
firm physical delivery which means that a generator must deliver, and a consumer
take delivery, against their contracted positions or face the uncertain
consequences of the system operator buying or selling in the balancing
mechanism, on their behalf, and passing the
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costs back to them. A consequence of this will be to increase greatly the
motivation of parties to contract in advance. Recent experience has been that
this has placed a significant downward pressure on forward contract prices.
Legislation in the form of a Utilities Bill, which was approved July 28, 2000,
allows for the implementation of new trading arrangements and the necessary
amendments to generators' licenses. Various key documents were designated by the
Secretary of State and signed onto by participants on August 14, 2000 (Go-Active
Date); however, due to difficulties encountered during testing, implementation
of the new trading arrangements has been delayed until March 27, 2001.
A warmer than average winter, the entry of new operations into the
generation market, the introduction of the new electricity trading arrangements
coupled with uncertainties surrounding the new Utilities Bill and a proposed
"good behavior" clause, discussed below, contributed to a drop in energy prices
during the first seven months of 2000 and depressed forward prices for winter
2000/2001. We have entered into contracts for differences for the majority of
our forecasted generation through the winter 2000/2001, and accordingly, have
mitigated the downside risks to further decreases in energy prices. Despite
improvement in capacity prices during August and September 2000, and a slight
firming of forward prices, the short-term prices for energy continue to be below
prior years. As a result of the foregoing, we continue to expect lower revenues
from our Ferrybridge and Fiddler's Ferry plants.
The core of the Utilities Bill is a fair deal for consumers through the
provision of proper incentives to innovate and improve efficiency, growth of
competition, protection for consumers and contribution of the utilities to a
better environment. While the UK Government recognizes the need to strike a
balance between consumer and shareholder interest, the proposals have far
reaching implications for the utilities sector.
In December 1999, the UK Director General of Electricity Supply gave notice
of an intention to introduce a new condition into the licenses of a number of
generators to curb the perceived exercise of market power in the determination
of wholesale electricity prices which is called the Market Abuse License
Condition. The majority of the major generators have accepted the new clauses,
including Edison Mission Energy, which has sought and received specific
assurances from the Regulator on the definition of market abuse and the way the
clauses will be interpreted in the future. However, subsequent experience of
investigations under the clause and a referral to the Competition Commission of
non-signatories has raised questions about the need for the condition once the
new trading arrangements are in place. The Competition Commission is scheduled
to report its findings in December 2000. In the meantime, further consultation
is in progress on guidelines relating to the Market Abuse License Condition
under the new electricity trading arrangements.
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Australia
The Loy Yang B plant sells its electrical energy through a centralized
electricity pool, which provides for a system of generator bidding, central
dispatch and a settlements system based on a clearing market for each half-hour
of every day. The National Electricity Market Management Company, operator and
administrator of the pool, determines a system marginal price each half-hour.
To mitigate exposure to price volatility of the electricity traded into the
pool, the Loy Yang B plant has entered into a number of financial hedges. From
May 8, 1997 to December 31, 2000, approximately 53% to 64% of the plant output
sold is hedged under vesting contracts with the remainder of the plant capacity
hedged under the State Hedge described below. Vesting contracts were put into
place by the State Government of Victoria, Australia, between each generator
and each distributor, prior to the privatization of electric power distributors
in order to provide more predictable pricing for those electricity customers
that were unable to choose their electricity retailer. Vesting contracts set
base strike prices at which the electricity will be traded. The parties to the
vesting contracts make payments, which are calculated based on the difference
between the price in the contract and the half-hourly pool clearing price for
the element of power under contract. Vesting contracts are sold in various
structures and are accounted for as electricity rate swap agreements. In
addition, the Loy Yang B plant has entered into a State Hedge agreement with the
State Electricity Commission of Victoria. The State Hedge is a long-term
contractual arrangement based upon a fixed price commencing May 8, 1997 and
terminating October 31, 2016. The State Government of Victoria, Australia
guarantees the State Electricity Commission of Victoria's obligations under the
State Hedge.
Our electric revenues were increased by $31.4 million and decreased by $5.5
million for the nine months ended September 30, 2000 and 1999, respectively as a
result of electricity rate swap agreements and other hedging mechanisms. An
electricity rate swap agreement is an exchange of a fixed price of electricity
for a floating price. As a seller of power, we receive the fixed price in
exchange for a floating price, like the index price associated with electricity
pools.
Foreign Exchange Rate Risk
Fluctuations in foreign currency exchange rates can affect, on a United
States dollar equivalent basis, the amount of our equity contributions to, and
distributions from, our international projects. As we continue to expand into
foreign markets, fluctuations in foreign currency exchange rates can be expected
to have a greater impact on our results of operations in the future. At times,
we have hedged a portion of our current exposure to fluctuations in foreign
exchange rates through financial derivatives, offsetting obligations denominated
in foreign currencies, and indexing underlying project agreements to United
States dollars or other indices reasonably expected to correlate with foreign
exchange movements. In addition, we have used statistical forecasting techniques
to help assess foreign exchange risk and the probabilities of various outcomes.
There can be no assurance, however, that fluctuations in exchange rates will be
fully offset by hedges or that currency movements and the relationship between
certain macro economic variables
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will behave in a manner that is consistent with historical or forecasted
relationships. Foreign exchange considerations for three major international
projects, other than Paiton which was discussed earlier, are discussed below.
The First Hydro and Ferrybridge and Fiddler's Ferry plants in the United
Kingdom and the Loy Yang B plant in Australia have been financed in their local
currency, pound sterling and Australian dollars, respectively, thus hedging the
majority of their acquisition costs against foreign exchange fluctuations.
Furthermore, we have evaluated the return on the remaining equity portion of
these investments with regard to the likelihood of various foreign exchange
scenarios. These analyses use market derived volatilities, statistical
correlations between specified variables, and long-term forecasts to predict
ranges of expected returns. Based upon these analyses, we believe that the
investment returns for the First Hydro, Ferrybridge and Fiddler's Ferry, and Loy
Yang B plants are adequately insulated from a broad range of foreign exchange
scenarios at this time.
We will continue to monitor our foreign exchange exposure and analyze the
effectiveness and efficiency of hedging strategies in the future.
Other
The electric power generated by some of our domestic operating projects,
excluding the Homer City plant and the Illinois Plants, is sold to electric
utilities under long-term (typically with terms of 15 to 30-years) power
purchase agreements and is expected to result in consistent cash flow under a
wide range of economic and operating circumstances. To accomplish this, we
structure our long-term contracts so that fluctuations in fuel costs will
produce similar fluctuations in electric and/or steam revenues and enter into
long-term fuel supply and transportation agreements. The degree of linkage
between these revenues and expenses varies from project to project, but
generally permits the projects to operate profitably under a wide array of
potential price fluctuation scenarios.
ENVIRONMENTAL MATTERS OR REGULATIONS
------------------------------------
We are subject to environmental regulation by federal, state, and local
authorities in the United States and foreign regulatory authorities with
jurisdiction over projects located outside the United States. We believe that
as of the filing date of this report, we are in substantial compliance with
environmental regulatory requirements and that maintaining compliance with
current requirements will not materially affect our financial position or
results of operations.
We expect that the implementation of Clean Air Act Amendments will result
in increased capital expenditures and operating expenses. For example, we expect
to spend approximately $49 million for the remainder of 2000 and $46 million in
2001 to install upgrades to the environmental controls at the Homer City plant
to control sulfur dioxide and nitrogen oxide emissions. Similarly, we anticipate
upgrades to the environmental
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controls at the Illinois Plants to control nitrogen oxide emissions to result in
expenditures of approximately $21 million for the remainder of 2000 and $344
million for the 2001-2004 period. In addition, at the Ferrybridge and Fiddler's
Ferry plants, we are committed to incur environmental costs arising from plant
modifications, totaling approximately $32 million for the remainder of 2000 and
$257 million for the 2001-2004 period. We do not expect these increased capital
expenditures and operating expenses to have a material effect on our financial
position or results of operation.
STATEMENT OF FINANCIAL ACCOUNTING STANDARDS NO. 133 and NO. 138
---------------------------------------------------------------
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities". The Statement establishes accounting and
reporting standards requiring that every derivative instrument be recorded in
the balance sheet as either an asset or liability measured at its fair value.
In June 2000, the Financial Accounting Standards Board issued SFAS No. 138,
"Accounting for Certain Derivative Instruments and Certain Hedging Activities."
This statement addresses a limited number of issues causing implementation
difficulties for entities applying SFAS No. 133. If certain conditions are met,
a derivative may be specifically designated as (i) a hedge of the exposure to
changes in the fair value of a recognized asset or liability or an unrecognized
firm commitment, (ii) a hedge of the exposure to variable cash flows of a
forecasted transaction, or (iii) a hedge of the foreign currency exposure of a
net investment in a foreign operation, an unrecognized firm commitment, an
available-for-sale security, or a foreign-currency-denominated forecasted
transaction. The accounting for changes in the fair value of a derivative
depends on the intended use of the derivative and the resulting designation.
This Statement is effective for all fiscal quarters of fiscal years beginning
after June 15, 2000. Edison Mission Energy is currently evaluating the effects
of this Statement.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For a complete discussion of market risk sensitive instruments, refer to
"Market Risk Exposures" in Item 7. of Edison Mission Energy's 1999 Form 10-K/A.
Refer to "Market Risk Exposures - Commodity Price Risk" in Item 2. for an update
to that disclosure.
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PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit No. Description
----------- -----------
2.9 Purchase and Sale Agreement, dated May 10, 2000, between Edison
Mission Energy, P&L Coal Holdings Corporation and Gold Fields
Mining Corporation.
27 Financial Data Schedule
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the quarter ended September 30,
2000.
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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.
Edison Mission Energy
---------------------
(Registrant)
Date: November 10, 2000 /s/ KEVIN M. SMITH
----------------------- ------------------
KEVIN M. SMITH
Senior Vice President and
Chief Financial Officer
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