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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
DATE OF REPORT (DATE OF EARLIEST EVENT REPORTED): MAY 12, 2003
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CENTERPOINT ENERGY, INC.
(Exact name of registrant as specified in its charter)
TEXAS 1-31447 74-0694415
(State or other (Commission File Number) (IRS Employer
jurisdiction Identification No.)
of incorporation)
1111 LOUISIANA
HOUSTON, TEXAS 77002
(Address of principal executive (Zip Code)
offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:
(713) 207-1111
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ITEM 5. OTHER EVENTS
Exhibits 99.1 and 99.2 to this Current Report on Form 8-K, which are
incorporated by reference herein, give effect to the following items within
CenterPoint Energy's historical consolidated financial statements, Selected
Financial Data, and Management's Discussion and Analysis of Financial Condition
and Results of Operations as reported in its Annual Report on Form 10-K for the
year ended December 31, 2002:
- certain reclassifications necessary to present CenterPoint Energy's
remaining Latin America operations as discontinued operations in
accordance with Statement of Financial Accounting Standards (SFAS) No.
144, "Accounting for the Impairment or Disposal of Long-Lived Assets" as
a result of the sale of these operations subsequent to December 31, 2002;
- certain reclassifications necessary to present the extinguishment of debt
recorded in the fourth quarter of 2002 as interest expense in accordance
with SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64,
Amendment of FASB Statement No. 13, and Technical Corrections;"
- the retroactive effect of the adoption of Emerging Issues Task Force
Issue No. 02-03, "Issues Involved in Accounting for Derivative Contracts
Held for Trading Purposes and Contracts Involved in Energy Trading and
Risk Management Activities", as it relates to the disclosure in Note 2 of
revenues of Reliant Resources, Inc., which are included in discontinued
operations; and
- the pro-forma financial statement effect for each of the three years
ended December 31, 2002, as if the Company had adopted SFAS No. 143,
"Accounting for Asset Retirement Obligations" as of January 1, 2000.
The items discussed above did not affect net income for any of the five
years ended December 31, 2002.
The financial statement disclosures, management estimates and
forward-looking statements contained in this Current Report on Form 8-K have not
been updated to reflect current developments subsequent to December 31, 2002.
ITEM 7. FINANCIAL STATEMENTS AND EXHIBITS
(c) Exhibits.
99.1 Management's Discussion and Analysis of Financial Condition
and Results of Operations and Selected Financial Data
99.2 Financial Statements and Supplementary Data of the Company
99.3 Independent Auditors' Consent
2
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
CENTERPOINT ENERGY, INC.
By: /s/ JAMES S. BRIAN
------------------------------------
James S. Brian
Senior Vice President and
Chief Accounting Officer
Date: May 12, 2003
3
EXHIBIT INDEX
NUMBER DESCRIPTION
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99.1 Management's Discussion and Analysis of Financial Condition
and Results of Operations and Selected Financial Data
99.2 Financial Statements and Supplementary Data of the Company
99.3 Independent Auditors' Consent
EXHIBIT 99.1
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS AND SELECTED FINANCIAL DATA
The following discussion and analysis should be read in combination with
our consolidated financial statements included herein.
OVERVIEW
We are a public utility holding company, created on August 31, 2002 as part
of a corporate restructuring (Restructuring) of Reliant Energy, Incorporated
(Reliant Energy) in compliance with requirements of the Texas electric
restructuring law. We are the successor to Reliant Energy for financial
reporting purposes under the Securities Exchange Act of 1934. Our wholly owned
operating subsidiaries own and operate electric generation plants, electric
transmission and distribution facilities, natural gas distribution facilities
and natural gas pipelines. We are subject to regulation as a "registered holding
company" under the Public Utility Holding Company Act of 1935 (1935 Act). At
December 31, 2002, our wholly owned subsidiaries included:
- CenterPoint Energy Houston Electric, LLC (CenterPoint Houston), which
engages in our electric transmission and distribution business in the
Texas Gulf Coast area;
- Texas Genco Holdings, Inc. (Texas Genco), which owns and operates our
Texas generating plants; and
- CenterPoint Energy Resources Corp. (CERC Corp., and, together with its
subsidiaries, CERC), which owns and operates our local gas distribution
companies, gas gathering systems and interstate pipelines.
We distributed our 83%-ownership interest in Reliant Resources, Inc.
(Reliant Resources) to our shareholders on September 30, 2002 (the Reliant
Resources Distribution).
We distributed approximately 19% of the outstanding common stock of Texas
Genco to our shareholders on January 6, 2003.
In this section we discuss our results from continuing operations on a
consolidated basis and individually for each of our business segments. We also
discuss our liquidity, capital resources and critical accounting policies. Our
reportable business segments include the following:
- Electric Transmission & Distribution;
- Electric Generation;
- Natural Gas Distribution;
- Pipelines and Gathering; and
- Other Operations.
Effective with the full deregulation of sales of electric energy to retail
customers in Texas beginning in January 2002, power generators and retail
electric providers in Texas ceased to be subject to traditional cost-based
regulation. Since that date, we have sold generation capacity, energy and
ancillary services related to power generation at prices determined by the
market. Our transmission and distribution services remain subject to rate
regulation.
Beginning January 1, 2002, the basis of business segment reporting has
changed for our Texas electric operations. Although our former retail sales
business is no longer conducted by us, retail customers remained regulated
customers of our former integrated electric utility, Reliant Energy HL&P,
through the date of their first meter reading in 2002. Sales of electricity to
retail customers in 2002 prior to this meter reading are reflected in the
Electric Transmission & Distribution business segment. The Texas generation
operations of Reliant Energy HL&P are now a separate reportable business
segment, Electric Generation, whereas they previously had been part of the
Electric Operations business segment. The remaining transmission and
1
distribution function is now reported separately in the Electric Transmission &
Distribution business segment. In 2000, we sold certain Latin America equity
investments which have been included in Other Operations. Subsequent to December
31, 2002, we sold our remaining Latin America operations. The consolidated
financial statements present these Latin America operations as discontinued
operations in accordance with Statement of Financial Accounting Standards (SFAS)
No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" (SFAS
No. 144). Accordingly, the consolidated financial statements include the
necessary reclassifications to reflect these operations as discontinued
operations for each of the three years in the period ended December 31, 2002.
Reportable business segments from 2001 have been restated to conform to the 2002
presentation. For business segment reporting information, please read Notes 1
and 17 to our consolidated financial statements.
The consolidated financial statements have been prepared to reflect the
effects of the Reliant Resources Distribution on the CenterPoint Energy
financial statements. The consolidated financial statements present the Reliant
Resources businesses (previously reported as the Wholesale Energy, European
Energy and Retail Energy business segments and related corporate costs) as
discontinued operations, in accordance with SFAS No. 144. Accordingly, the
consolidated financial statements include the necessary reclassifications to
reflect these operations as discontinued operations for each of the three years
in the period ended December 31, 2002.
As a result of the Reliant Resources Distribution, CenterPoint Energy
recorded a non-cash loss on disposal of discontinued operations of $4.3 billion
in the third quarter of 2002. This loss represents the excess of the carrying
value of CenterPoint Energy's net investment in Reliant Resources over the
market value of Reliant Resources' common stock.
2
SELECTED FINANCIAL DATA
The following table presents selected financial data with respect to our
consolidated financial condition and consolidated results of operations and
should be read in conjunction with our consolidated financial statements and the
related notes.
The selected financial data presented below reflect certain
reclassifications necessary to present Reliant Resources as discontinued
operations as a result of the Reliant Resources Distribution and certain
reclassifications necessary to present the Company's remaining Latin America
operations as discontinued operations as a result of the sale of these
operations subsequent to December 31, 2002. Additionally, the selected financial
data below also reflect certain reclassifications necessary to present the
extraordinary loss on extinguishment of debt recorded in the fourth quarter of
2002 as interest expense in accordance with SFAS No. 145, "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and "Technical
Corrections" (SFAS No. 145). The selected financial data also gives effect to
the Restructuring. For additional information regarding the Reliant Resources
Distribution and our investments in Latin America, please read Note 2 to our
consolidated financial statements included herein.
YEAR ENDED DECEMBER 31,
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1998(1) 1999(2) 2000(3) 2001(4) 2002
------- ------- ------- ------- -------
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
Revenues............................................... $ 7,537 $ 7,511 $10,286 $10,564 $ 7,907
------- ------- ------- ------- -------
Income (loss) from continuing operations before
extraordinary item and cumulative effect of
accounting change.................................... (175) 1,630 243 496 366
Income from discontinued operations of Reliant
Resources, net of tax................................ 23 23 225 475 82
Income (loss) from discontinued operations of Latin
America, net of tax.................................. 11 12 (21) (50) 3
Loss on disposal of discontinued operations of Reliant
Resources............................................ -- -- -- -- (4,371)
Extraordinary item, net of tax......................... -- (183) -- -- --
Cumulative effect of accounting change, net of tax..... -- -- -- 59 --
------- ------- ------- ------- -------
Net income (loss) attributable to common
shareholders......................................... $ (141) $ 1,482 $ 447 $ 980 $(3,920)
======= ======= ======= ======= =======
Basic earnings (loss) per common share:
Income (loss) from continuing operations before
extraordinary item and cumulative effect of
accounting change.................................... $ (0.62) $ 5.72 $ 0.85 $ 1.71 $ 1.23
Income from discontinued operations of Reliant
Resources, net of tax.............................. 0.08 0.08 0.79 1.64 0.27
Income (loss) from discontinued operations of Latin
America, net of tax................................ 0.04 0.04 (0.07) (0.17) 0.01
Loss on disposal of discontinued operations of
Reliant Resources.................................. -- -- -- -- (14.67)
Extraordinary item, net of tax....................... -- (0.64) -- -- --
Cumulative effect of accounting change, net of tax... -- -- -- 0.20 --
------- ------- ------- ------- -------
Basic earnings (loss) per common share................. $ (0.50) $ 5.20 $ 1.57 $ 3.38 $(13.16)
======= ======= ======= ======= =======
3
YEAR ENDED DECEMBER 31,
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1998(1) 1999(2) 2000(3) 2001(4) 2002
------- ------- ------- ------- -------
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
Diluted earnings (loss) per common share:
Income (loss) from continuing operations before
extraordinary item and cumulative effect of
accounting change.................................. $ (0.62) $ 5.70 $ 0.84 $ 1.70 $ 1.22
Income from discontinued operations of Reliant
Resources, net of tax.............................. 0.08 0.08 0.79 1.62 0.27
Income (loss) from discontinued operations of Latin
America, net of tax................................ 0.04 0.04 (0.07) (0.17) 0.01
Loss on disposal of discontinued operations of
Reliant Resources.................................. -- -- -- -- (14.58)
Extraordinary item, net of tax....................... -- (0.64) -- -- --
Cumulative effect of accounting change, net of tax... -- -- -- 0.20 --
------- ------- ------- ------- -------
Diluted earnings (loss) per common share............... $ (0.50) $ 5.18 $ 1.56 $ 3.35 $(13.08)
======= ======= ======= ======= =======
Cash dividends paid per common share................... $ 1.50 $ 1.50 $ 1.50 $ 1.50 $ 1.07
Dividend payout ratio from continuing operations....... -- 26% 176% 88% 87%
Return from continuing operations on average common
equity............................................... (3.8)% 30.1% 4.5% 9.1% 9.0%
Ratio of earnings from continuing operations to fixed
charges.............................................. -- 5.38 1.79 2.18 1.70
At year-end:
Book value per common share.......................... $ 15.16 $ 18.70 $ 19.10 $ 22.77 $ 4.74
Market price per common share........................ $ 32.06 $ 22.88 $ 43.31 $ 26.52 $ 8.01
Market price as a percent of book value.............. 211% 122% 227% 116% 169%
Assets of discontinued operations.................... $ 1,798 $ 6,053 $14,309 $12,345 $ 15
Total assets......................................... $19,959 $28,658 $35,225 $31,266 $19,634
Short-term borrowings................................ $ 1,813 $ 3,015 $ 4,886 $ 3,529 $ 347
Long-term debt obligations, including current
maturities......................................... $ 7,195 $ 8,883 $ 5,756 $ 5,552 $10,005
Trust preferred securities........................... $ 342 $ 705 $ 705 $ 706 $ 706
Cumulative preferred stock........................... $ 10 $ 10 $ 10 $ -- $ --
Capitalization:
Common stock equity.............................. 36% 36% 46% 52% 12%
Trust preferred securities....................... 3% 5% 6% 5% 6%
Long-term debt, including current maturities..... 61% 59% 48% 43% 82%
Capital expenditures, excluding discontinued
operations....................................... $ 684 $ 865 $ 905 $ 1,213 $ 854
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(1) 1998 net income includes a non-cash, unrealized loss on our indexed debt
securities of $764 million (after-tax), or $2.69 loss per basic and diluted
share. For additional information on the indexed debt securities, please
read Note 7 to our consolidated financial statements. Fixed charges exceeded
earnings by $239 million in 1998.
(2) 1999 net income includes an aggregate non-cash, unrealized gain on our
indexed debt securities and our Time Warner, Inc. (now AOL Time Warner Inc.)
investment, of $1.2 billion (after-tax), or $4.09 earnings per basic share
and $4.08 earnings per diluted share. For additional information on the
indexed debt securities and AOL Time Warner investment, please read Note 7
to our consolidated financial statements. The extraordinary item in 1999 is
a loss related to an accounting impairment of certain generation related
regulatory assets of our Electric Generation business segment. For
additional information regarding the impairment, please read Note 4 to our
consolidated financial statements.
(3) 2000 net income includes an aggregate non-cash loss on our indexed debt
securities and our AOL Time Warner investment of $67 million (after-tax), or
$0.24 loss per basic share and $0.23 loss per diluted share. 2000 net income
also includes a $200 million (after-tax) charge (net of a tax benefit of
$108 million), or $0.69 loss per basic share and $0.68 loss per diluted
share, to reflect the loss on disposal of our Latin America equity
investments. For additional information on the indexed debt securities and
AOL Time Warner investment, please read Note 7 to our consolidated financial
statements. For additional information regarding our investments in Latin
America, please read Note 2 to our consolidated financial statements.
(4) 2001 net income includes the cumulative effect of an accounting change
resulting from the adoption of SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ($59 million after-tax gain, or $0.20
earnings per basic and diluted share). For additional information related to
the cumulative effect of accounting change, please read Note 5 to our
consolidated financial statements.
4
All dollar amounts in the tables that follow are in millions, except for
per share amounts.
CONSOLIDATED RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
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2000 2001 2002
------- ------- -------
Revenues.................................................... $10,286 $10,564 $ 7,907
Operating Expenses.......................................... (8,877) (9,245) (6,578)
------- ------- -------
Operating Income............................................ 1,409 1,319 1,329
Loss from Equity Investments in Unconsolidated
Subsidiaries.............................................. (29) -- --
Loss on AOL Time Warner Investment.......................... (205) (70) (500)
Gain on Indexed Debt Securities............................. 102 58 480
Impairment of Latin America equity investments.............. (131) -- --
Loss on Disposal of Latin America equity investments........ (176) -- --
Interest Expense and Distribution on Trust Preferred
Securities................................................ (564) (607) (765)
Other Income, net........................................... 72 53 19
------- ------- -------
Income From Continuing Operations Before Income Taxes,
Cumulative Effect of Accounting Change and Preferred
Dividends................................................. 478 753 563
Income Tax Expense.......................................... (235) (256) (197)
------- ------- -------
Income From Continuing Operations Before Cumulative Effect
of Accounting Change and Preferred Dividends.............. 243 497 366
Income From Discontinued Operations of Reliant Resources,
net of tax................................................ 225 475 82
Income (Loss) from Discontinued Operations of Latin America,
net of tax................................................ (21) (50) 3
Loss on Disposal of Discontinued Operations of Reliant
Resources................................................. -- -- (4,371)
Cumulative Effect of Accounting Change, net of tax.......... -- 59 --
Preferred Dividends......................................... -- (1) --
------- ------- -------
Net Income (Loss) Attributable to Common Shareholders..... $ 447 $ 980 $(3,920)
======= ======= =======
Basic Earnings Per Share:
Income From Continuing Operations Before Cumulative Effect
of Accounting Change...................................... $ 0.85 $ 1.71 $ 1.23
Income From Discontinued Operations of Reliant Resources,
net of tax................................................ 0.79 1.64 0.27
Income (Loss) from Discontinued Operations of Latin America,
net of tax................................................ (0.07) (0.17) 0.01
Loss on Disposal of Discontinued Operations of Reliant
Resources................................................. -- -- (14.67)
Cumulative Effect of Accounting Change, net of tax.......... -- 0.20 --
------- ------- -------
Net Income (Loss) Attributable to Common Shareholders..... $ 1.57 $ 3.38 $(13.16)
======= ======= =======
Diluted Earnings Per Share:
Income From Continuing Operations Before Cumulative Effect
of Accounting Change...................................... $ 0.84 $ 1.70 $ 1.22
Income From Discontinued Operations of Reliant Resources,
net of tax................................................ 0.79 1.62 0.27
Income (Loss) from Discontinued Operations of Latin America,
net of tax................................................ (0.07) (0.17) 0.01
Loss on Disposal of Discontinued Operations of Reliant
Resources................................................. -- -- (14.58)
Cumulative Effect of Accounting Change, net of tax.......... -- 0.20 --
------- ------- -------
Net Income (Loss) Attributable to Common Shareholders..... $ 1.56 $ 3.35 $(13.08)
======= ======= =======
5
The following discussion of consolidated results of operations and results
of operations by business segment is based on earnings from continuing
operations before interest expense, distribution on trust preferred securities,
income taxes, extraordinary item and cumulative effect of accounting change
(EBIT). EBIT, as defined, is shown because it is a financial measure we use to
evaluate the performance of our business segments and we believe it is a measure
of financial performance that may be used as a means to analyze and compare
companies on the basis of operating performance. We expect that some analysts
and investors will want to review EBIT when evaluating our company. EBIT is not
defined under accounting principles generally accepted in the United States
(GAAP), should not be considered in isolation or as a substitute for a measure
of performance prepared in accordance with GAAP and is not indicative of
operating income from operations as determined under GAAP. Additionally, our
computation of EBIT may not be comparable to other similarly titled measures
computed by other companies, because all companies do not calculate it in the
same fashion. We consider operating income to be a comparable measure under
GAAP. We believe the difference between operating income and EBIT on both a
consolidated and business segment basis is not material. We have provided a
reconciliation of consolidated operating income to EBIT and EBIT to net income
below as well as in the individual business segment discussion that follows.
YEAR ENDED DECEMBER 31,
-------------------------
2000 2001 2002
------ ------ -------
(IN MILLIONS)
RECONCILIATION OF OPERATING INCOME TO EBIT AND EBIT TO NET
INCOME (LOSS) ATTRIBUTABLE TO COMMON SHAREHOLDERS:
Operating income............................................ $1,409 $1,319 $ 1,329
Loss from equity investments in unconsolidated
subsidiaries.............................................. (29) -- --
Loss on AOL Time Warner investment.......................... (205) (70) (500)
Gain on indexed debt securities............................. 102 58 480
Impairment of Latin America equity investments.............. (131) -- --
Loss on disposal of Latin America equity investments........ (176) -- --
Other income, net........................................... 72 53 19
------ ------ -------
EBIT...................................................... 1,042 1,360 1,328
Interest expense and distribution on trust preferred
securities................................................ (564) (607) (765)
Income tax expense.......................................... (235) (256) (197)
------ ------ -------
Income from continuing operations before cumulative effect
of accounting change and preferred dividends........... 243 497 366
Income from discontinued operations of Reliant Resources,
net of tax................................................ 225 475 82
Income (loss) from discontinued operations of Latin America,
net of tax................................................ (21) (50) 3
Loss on disposal of discontinued operations of Reliant
Resources................................................. -- -- (4,371)
Cumulative effect of accounting change, net of tax.......... -- 59 --
Preferred dividends......................................... -- (1) --
------ ------ -------
Net income (loss) attributable to common
shareholders.......................................... $ 447 $ 980 $(3,920)
====== ====== =======
2002 COMPARED TO 2001
Income from Continuing Operations. We reported income from continuing
operations before the cumulative effect of accounting change and preferred
dividends of $366 million ($1.22 per diluted share) for 2002 compared to $497
million ($1.70 per diluted share) for 2001. Effective January 1, 2002, we
discontinued amortizing goodwill in accordance with SFAS No. 142, "Goodwill and
Other Intangibles" (SFAS No. 142). During 2001, we recognized $49 million of
goodwill amortization expense. The $131 million decrease in income from
continuing operations before the cumulative effect of accounting change and
preferred dividends
6
for the year ended December 31, 2002 as compared to the same period in 2001 was
primarily due to the following:
- a $160 million decrease in EBIT from our Electric business segments,
reflecting the movement of a portion of this business to Reliant
Resources' Retail Energy business segment and reduced rates of return on
these regulated operations effective January 2002;
- a $61 million increase in EBIT from our Natural Gas Distribution business
segment;
- a $20 million increase in EBIT from our Pipelines and Gathering business
segment;
- a $60 million increase in EBIT from our Other Operations business
segment;
- a $158 million increase in interest expense due to higher borrowing costs
and a $26 million loss resulting from the early extinguishment of debt
related to CenterPoint Houston's $850 million term loan and the
repurchase of $175 million of CenterPoint Energy's pollution control
bonds; and
- a $59 million decrease in income tax expense.
Income Tax Expense. The effective tax rates for 2002 and 2001 were 34.9%
and 34.0%, respectively. The increase in the effective tax rate for 2002
compared to 2001 was primarily due to an increase in state taxes and a reduced
benefit from the amortization of investment tax credits, offset by the
discontinuance of goodwill amortization in accordance with SFAS No. 142.
Cumulative Effect of Accounting Change. The 2001 results reflect a $59
million after-tax non-cash gain from the adoption of SFAS No. 133, "Accounting
for Derivative Instruments and Hedging Activities," as amended (SFAS No. 133).
For additional discussion of the adoption of SFAS No. 133, please read Note 5 to
our consolidated financial statements.
2001 COMPARED TO 2000
Income From Continuing Operations. We reported income from continuing
operations of $497 million ($1.70 per diluted share) for 2001, before a
cumulative effect of accounting change of $59 million, net of tax, related to
the adoption of SFAS No. 133, compared to $243 million ($0.84 per diluted share)
for 2000.
The increase in income from continuing operations of $254 million was
primarily due to the following:
- a $405 million decrease in loss before income and taxes from our Other
Operations business segment, primarily due to a $307 million decrease in
losses/impairments related to our Latin America equity investments and a
$91 million decrease in a non-cash loss on our AOL Time Warner investment
and our related indexed debt securities in 2001 as compared to 2000; and
- a $27 million increase in EBIT from our Natural Gas Distribution segment.
The above items were partially offset by:
- a $102 million decrease in EBIT from our Electric business segments
primarily due to the impact of milder weather, reduced rates charged to
certain governmental agencies as mandated by the Texas electric
restructuring law, fees paid for the early termination of an accounts
receivable factoring agreement and higher benefit expenses; and
- an increase in net interest expense of $43 million primarily related to
interest rate swaps entered into in 2001 and the issuance of the Series
2001-1 Transition Bonds in 2001.
Income Tax Expense. The effective tax rates for 2001 and 2000 were 34.0%
and 49.2%, respectively. The decrease in the effective tax rate in 2001 compared
to 2000 was primarily due to non-recurring increased tax expense arising from
the sale of our Latin America equity investments, including the write-off of
deferred tax assets related to the Latin America business segment in 2000 and a
decrease in state taxes in 2001 compared to 2000.
7
AOL TIME WARNER INVESTMENT AND INDEXED DEBT SECURITIES
In 2002, holders of approximately 16% of the 17.2 million 2.0% Zero-Premium
Exchangeable Subordinated Notes due 2029 (ZENS) originally issued exercised
their right to exchange their ZENS for cash, resulting in aggregate cash
payments by CenterPoint Energy of approximately $45 million.
One of our subsidiaries owns shares of AOL TW common stock (AOL TW Common)
and elected to liquidate a portion of such holdings to facilitate the company's
making the cash payments for the ZENS exchanged in 2002. In connection with the
exchanges in 2002, we received net proceeds of approximately $43 million from
the liquidation of approximately 4.1 million shares of AOL TW Common at an
average price of $10.56 per share. We now hold 21.6 million shares of AOL TW
Common which are classified as trading securities under SFAS No. 115 and are
expected to be held to facilitate our ability to meet our obligation under the
ZENS.
For additional information regarding our investment in AOL TW, our indexed
debt securities and the effect of adoption of SFAS No. 133 on January 1, 2001 on
our ZENS obligation, please read Note 7 to our consolidated financial
statements.
RESULTS OF OPERATIONS BY BUSINESS SEGMENT
The following table presents EBIT (in millions) for each of our business
segments for 2000, 2001 and 2002. Some amounts from the previous years have been
reclassified to conform to the 2002 presentation of the financial statements.
These reclassifications do not affect consolidated net income.
EBIT BY BUSINESS SEGMENT
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
(IN MILLIONS)
Electric Transmission & Distribution....................... $ 953 $ 906 $1,118
Electric Generation........................................ 331 267 (130)
Electric Eliminations...................................... (34) (25) --
------ ------ ------
Total Electric Business Segments......................... 1,250 1,148 988
Natural Gas Distribution................................... 122 149 210
Pipelines and Gathering.................................... 137 138 158
Other Operations........................................... (464) (59) 1
Eliminations............................................... (3) (16) (29)
------ ------ ------
Total Consolidated EBIT............................... $1,042 $1,360 $1,328
====== ====== ======
ELECTRIC BUSINESS SEGMENTS
Beginning in 2002, we are reporting two new business segments for what was
the former Electric Operations business segment:
- Electric Transmission & Distribution; and
- Electric Generation.
The Electric Transmission & Distribution business segment reports results
from two sources. This business segment includes the regulated electric
transmission and distribution operations as well as impacts of
generation-related stranded costs recoverable by the regulated utility. The
previously regulated generation operations in Texas are being reported in the
new Electric Generation business segment.
As a result of the implementation of deregulation and the corresponding new
business segments, the regulated transmission and distribution utility recovers
the cost of its service through an energy delivery
8
charge, and not as a component of the prior bundled rate, which included energy
and delivery charges. The design of the new energy delivery rate differs from
the prior bundled rate. The winter/summer rate differential for residential
customers has been eliminated and the energy component of the rate structure for
commercial and industrial customers has been removed, which will tend to lessen
some of the pronounced seasonal variation of revenues which has been experienced
in prior periods.
Although our former retail sales business is no longer conducted by us,
retail customers remained regulated customers of Reliant Energy HL&P through the
date of their first meter reading in 2002. Operations during this transition
period are reflected in the Electric Transmission & Distribution business
segment.
The new Electric Transmission & Distribution business segment, CenterPoint
Houston, reported EBIT of $1.1 billion for 2002, consisting of EBIT of $421
million for the regulated electric transmission and distribution business,
including retail sales during the transition period as discussed above, and
non-cash EBIT of $697 million of Excess Cost Over Market (ECOM) regulatory
assets associated with costs recorded pursuant to the Texas electric
restructuring law as explained below. Operating revenues were $1.5 billion,
excluding ECOM, and purchased power costs were $66 million in 2002. The
purchased power costs relate to operation of the regulated utility during the
transition period discussed above.
In the Electric Transmission & Distribution business segment, throughput
declined 2% during 2002 as compared to 2001. The decrease was primarily due to
reduced energy delivery in the industrial sector resulting from self-generation
by several major customers, partially offset by increased residential usage
primarily due to non-weather related factors. Additionally, despite a slowing
economy, total metered customers continued to grow at an annual rate of
approximately 2% during the year.
The new Electric Generation business segment, Texas Genco, is comprised of
over 14,000 megawatts of electric generation located entirely in the state of
Texas. This business segment reported a loss before interest and taxes of $130
million for 2002, primarily due to low natural gas prices and ample generating
capacity in Texas, which created a weak price environment when the capacity
auctions described below were conducted in late 2001 and early 2002. Operating
revenues were $1.5 billion and fuel and purchased power costs were $1.1 billion
in 2002.
Under the Texas electric restructuring law, each power generator that is
unbundled from an integrated electric utility in Texas has an obligation to
conduct state mandated capacity auctions of 15% of its capacity. In addition,
under a master separation agreement between CenterPoint Energy and Reliant
Resources, Texas Genco is contractually obligated to auction all capacity in
excess of the state mandated capacity auctions. The auctions conducted
periodically between September 2001 and January 2003 were consummated at prices
below those used in the ECOM model by the Texas Utility Commission. Under the
Texas electric restructuring law, a regulated utility, in our case, CenterPoint
Houston, may recover in a regulatory proceeding scheduled for 2004 any
difference between market prices received through the state mandated auctions
and the Texas Utility Commission's earlier estimates of those market prices.
This difference, recorded as a regulatory asset, produced $697 million of EBIT
in 2002.
9
The following tables provide summary data of our Electric Transmission &
Distribution and Electric Generation business segments for 2002 and our Electric
Operations business segment for 2000 and 2001 (in millions, except throughput,
power sales and electric sales data):
YEAR ENDED DECEMBER 31, 2002
---------------------------------------------------
ELECTRIC
TRANSMISSION ELECTRIC
& DISTRIBUTION GENERATION ELIMINATIONS TOTAL
-------------- ---------- ------------ ------
(IN MILLIONS)
Operating Revenues:
Electric revenues.............................. $ 1,525 $ 1,541 $ (48) $3,018
ECOM true-up................................... 697 -- -- 697
------- ------- ------ ------
Total operating revenues.................... 2,222 1,541 (48) 3,715
------- ------- ------ ------
Operating Expenses:
Fuel and purchased power....................... 66 1,083 (48) 1,101
Operation and maintenance...................... 575 391 -- 966
Depreciation and amortization.................. 271 157 -- 428
Taxes other than income taxes.................. 213 43 -- 256
------- ------- ------ ------
Total operating expenses.................... 1,125 1,674 (48) 2,751
------- ------- ------ ------
Operating Income (Loss).......................... 1,097 (133) -- 964
Other Income, net................................ 21 3 -- 24
------- ------- ------ ------
Earnings Before Interest and Income Taxes........ $ 1,118 $ (130) $ -- $ 988
======= ======= ====== ======
Throughput (in gigawatt-hours (GWh)):
Residential.................................... 23,025
Commercial..................................... 18,377
Industrial..................................... 28,027
Other.......................................... 156
-------
Total....................................... 69,585
=======
Generation Power Sales (in GWh).................. 51,463
=======
10
YEAR ENDED DECEMBER 31,
--------------------------
2000 2001 2002
------- ------- ------
Operating Revenues....................................... $ 5,494 $ 5,511 $3,715
------- ------- ------
Operating Expenses:
Fuel and purchased power............................... 2,397 2,527 1,101
Operation and maintenance.............................. 978 1,052 966
Depreciation and amortization.......................... 507 453 428
Taxes other than income taxes.......................... 382 376 256
------- ------- ------
Total operating expenses............................ 4,264 4,408 2,751
------- ------- ------
Operating Income......................................... 1,230 1,103 964
Other Income, net........................................ 20 45 24
------- ------- ------
Earnings Before Interest and Income Taxes................ $ 1,250 $ 1,148 $ 988
======= ======= ======
Electric Sales (in (GWh)):
Residential............................................ 22,727 21,371
Commercial............................................. 17,594 17,967
Industrial............................................. 33,249 31,059
Other.................................................. 1,724 928
------- -------
Total............................................... 75,294 71,325
======= =======
2002 Compared to 2001. During 2001, our Electric Operations business
segment reflected the regulated electric utility business, including generation,
transmission and distribution, and retail electric sales. As of January 1, 2002,
with the opening of the Texas market to full retail electric competition,
generation and retail sales are no longer subject to cost of service regulation.
Retail electric sales involve the sale of electricity and related services to
end users of electricity and were included as part of the bundled regulated
service prior to 2002. Beginning in January 2002, our operations no longer
include retail electricity sales. Accordingly, there are no meaningful
comparisons for these business segments against prior periods.
Operation and maintenance expenses for the Electric Transmission &
Distribution and Electric Generation segments decreased by $86 million in 2002
compared to those of the Electric Operations business segment in 2001. The
decrease was primarily due to:
- a $77 million decrease in factoring expense as a result of the
termination of an agreement under which the former Electric Operations
business segment had sold its customer accounts receivable;
- a $22 million decrease due to fewer plant outages in 2002;
- a $10 million decrease in transmission cost of service; and
- a $16 million decrease in transmission line losses in 2002 as this is now
a cost of retail electric providers.
These decreases were partially offset by a $40 million increase in benefits
expense, including severance costs of $23 million in connection with the
voluntary early retirement program resulting from the mothballing of generating
capacity by Texas Genco and the reduction in work force by CenterPoint Houston
in 2002.
In June 1998, the Texas Utility Commission issued an order approving a
transition to competition plan (Transition Plan) filed by Reliant Energy in
December 1997. In order to reduce Reliant Energy's exposure to potential
stranded costs related to generation assets, the Transition Plan permitted the
redirection of depreciation expense to generation assets that Reliant Energy
otherwise would apply to transmission, distribution and general plant assets. In
addition, the Transition Plan provided that all earnings above a stated overall
annual rate of return on invested capital be used to recover Reliant Energy's
investment in generation
11
assets. Reliant Energy implemented the Transition Plan effective January 1,
1998. For further discussion of the Transition Plan, please read Note 4(a) to
our consolidated financial statements.
Depreciation and amortization decreased $25 million in 2002, compared to
2001. The decrease was primarily due to a decrease in amortization of the book
impairment regulatory asset ($281 million) recorded in June 1999, which was
fully amortized in December 2001, offset by depreciation expense recorded in
2002 as a result of the discontinuance of redirection of depreciation expense
related to electric transmission and distribution assets ($217 million) and
increased amortization related to transition property associated with the
transition bonds issued in November 2001 ($35 million). For further discussion
related to the impairment recorded in June 1999, please read Note 4(a) to our
consolidated financial statements.
Taxes other than income taxes decreased $120 million compared to 2001. The
decrease was primarily due to lower property taxes due to lower tax valuations
of generation assets ($10 million), lower gross receipts taxes ($64 million),
which became the responsibility of the retail electric providers upon
deregulation, and lower franchise taxes ($46 million).
Other income, net decreased $21 million in 2002 compared to 2001. The
decrease was primarily due to a $37 million decrease in interest income from
under-recovery of fuel in 2002 as compared to 2001, partially offset by a $19
million increase in interest income from affiliated parties.
2001 Compared to 2000. Our Electric Operations business segment's EBIT for
2001 decreased $102 million compared to 2000. The decrease was primarily due to
milder weather, decreased customer demand, increased contract services and
benefit expenses and a charge recorded in the fourth quarter of 2001 resulting
from the early termination of an accounts receivable factoring agreement. The
decrease was also due to the implementation of the pilot program for Texas
deregulation in August 2001, reduced rates for certain governmental agencies and
increased administrative expenses related to the separation of our regulated and
unregulated businesses. These decreases were partially offset by decreased
amortization expense and customer growth.
Operating revenues increased $17 million in 2001. Base revenues decreased
$119 million in 2001 due to decreased customer demand as a result of the effect
of milder weather compared to 2000 and decreased customer usage on a weather
normalized basis. The weather impact represented approximately $84 million of
the decrease in base revenues in 2001 as compared to 2000. This decrease was
offset by increased reconcilable fuel revenue of $136 million. The 6% increase
in reconcilable fuel revenue in 2001 resulted primarily from increased fuel
costs as discussed below. The Texas Utility Commission provides for recovery of
certain fuel and purchased power costs through a fixed fuel factor included in
electric rates. Revenues collected through this factor are adjusted monthly to
equal expenses; therefore, these revenues and expenses have no effect on
earnings unless fuel costs are subsequently determined not to be recoverable.
The adjusted over/under recovery of fuel costs is recorded in our Consolidated
Balance Sheets as regulatory liabilities or regulatory assets, respectively.
Fuel and purchased power expenses in 2001 increased by $130 million, or 5%,
over 2000 expenses. This increase is due to increased purchased power volume
related to the load balancing requirements associated with ERCOT adapting to a
single control area, with a slightly higher cost for purchased power ($44.26 and
$44.42 per megawatt hour in 2000 and 2001, respectively). The purchased power
increase was partially offset by the decline in the volume of natural gas used
at a slightly higher rate ($3.98 and $4.23 per million British thermal units in
2000 and 2001, respectively).
Operation and maintenance expenses increased $74 million in 2001 compared
to 2000 primarily due to the following items:
- a $32 million increase in benefits expense primarily driven by medical
and pension costs;
- a $16 million increase in contract services due to additional major and
solid fuel outages at our generating plants in 2001 compared to shorter,
routine outages in 2000;
- an $11 million increase in administrative expenses related to the
separation of our regulated and unregulated businesses; and
12
- a $20 million charge recorded in the fourth quarter of 2001 resulting
from the early termination of an accounts receivable factoring agreement.
Depreciation and amortization expense decreased $54 million primarily due
to a decrease in amortization of the book impairment regulatory asset recorded
in June 1999 and decreased amortization expense due to regulatory assets related
to cancelled projects being fully amortized in June 2000, partially offset by
accelerated amortization of certain regulatory assets related to energy
conservation management as required by the Texas Utility Commission.
Other income, net increased $25 million in 2001 compared to 2000. The
increase was primarily due to an increase in interest income from under-recovery
of fuel in 2001 compared to 2000.
NATURAL GAS DISTRIBUTION
Our Natural Gas Distribution business segment's operations consist of
intrastate natural gas sales to, and natural gas transportation for,
residential, commercial and industrial customers in Arkansas, Louisiana,
Minnesota, Mississippi, Oklahoma and Texas. This business segment's operations
also include non-rate regulated natural gas sales to and transportation services
for commercial and industrial customers in the six states listed above as well
as several other Midwestern states.
The following table provides summary data of our Natural Gas Distribution
business segment for 2000, 2001 and 2002 (in millions, except throughput data):
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
Operating Revenues......................................... $4,504 $4,742 $3,960
------ ------ ------
Operating Expenses:
Natural gas.............................................. 3,590 3,814 2,995
Operation and maintenance................................ 553 541 539
Depreciation and amortization............................ 145 147 126
Taxes other than income taxes............................ 98 110 102
------ ------ ------
Total operating expenses.............................. 4,386 4,612 3,762
------ ------ ------
Operating Income........................................... 118 130 198
Other Income, net.......................................... 4 19 12
------ ------ ------
Earnings Before Interest and Income Taxes.................. $ 122 $ 149 $ 210
====== ====== ======
Throughput (in billion cubic feet (Bcf)):
Residential and commercial sales......................... 320 310 324
Industrial sales......................................... 57 50 47
Transportation........................................... 50 49 57
Non-rate regulated commercial and industrial............. 565 445 471
------ ------ ------
Total Throughput...................................... 992 854 899
====== ====== ======
Generally, the utility operations of our Natural Gas Distribution business
segment are allowed to flow through the cost of natural gas to our customers
through purchased gas adjustment provisions in tariffs adopted pursuant to
regulations of the states in which they operate. Differences between actual gas
costs and the amount collected from customers are deferred on the balance sheet
so that there is no material impact on EBIT.
2002 Compared to 2001. Our Natural Gas Distribution business segment's
EBIT increased $61 million for the year ended December 31, 2002 as compared to
the same period in 2001. Operating margins (revenues less fuel costs) in 2002
were $37 million higher than in 2001 primarily as a result of improved margins
from
13
rate increases in 2002, a 5% increase in throughput and changes in estimates of
unbilled revenues and deferred gas costs, which reduced operating margins in
2001.
Operation and maintenance expenses decreased $2 million in 2002 as compared
to 2001 primarily due to a reduction in bad debt expense in 2002 as a result of
improved collections and lower gas prices, offset by higher benefits expense and
administrative expenses.
Depreciation and amortization expense decreased approximately $21 million
for the year ended December 31, 2002 primarily as a result of the discontinuance
of goodwill amortization in accordance with SFAS No. 142 as further discussed in
Note 3(d) to our consolidated financial statements. Goodwill amortization was
$31 million for the year ended December 31, 2001. This was partially offset by
an increase in depreciation expense due to an increased asset base.
Taxes other than income taxes decreased $8 million for the year ended
December 31, 2002 as compared to the same period in 2001, due primarily to
reduced franchise fees as a result of decreased revenues.
2001 Compared to 2000. Our Natural Gas Distribution business segment's
EBIT increased $27 million in 2001 from 2000. Operating margins (revenues less
fuel costs) in 2001 were $14 million higher than in 2000 primarily due to
increased volumes in the first quarter of 2001 due to the effect of colder
weather, partially offset by changes in estimates of unbilled revenues and
recoverability of deferred gas accounts and other items.
Operation and maintenance expenses decreased $12 million in 2001 as
compared to 2000 primarily due to expenses totaling approximately $31 million
incurred in 2000 in connection with exiting certain non-rate regulated natural
gas business activities outside our established market areas offset by the
following items:
- increased bad debt expense due to higher natural gas prices in the first
quarter of 2001; and
- higher employee benefit costs.
Other income, net increased $15 million in 2001 compared to 2000. The
increase was primarily due to a $12 million increase in interest income from
affiliated parties.
14
PIPELINES AND GATHERING
Our Pipelines and Gathering business segment operates two interstate
natural gas pipelines and provides gathering and pipeline services.
The following table provides summary data of our Pipelines and Gathering
business segment for 2000, 2001 and 2002 (in millions, except throughput data):
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
Operating Revenues......................................... $ 384 $ 415 $ 374
------ ------ ------
Operating Expenses:
Natural gas.............................................. 76 79 32
Operation and maintenance................................ 100 121 130
Depreciation and amortization............................ 56 58 41
Taxes other than income taxes............................ 15 20 18
------ ------ ------
Total operating expenses.............................. 247 278 221
------ ------ ------
Operating Income........................................... 137 137 153
Other Income, net.......................................... -- 1 5
------ ------ ------
Earnings Before Interest and Income Taxes.................. $ 137 $ 138 $ 158
====== ====== ======
Throughput (Bcf):
Natural gas sales........................................ 14 18 14
Transportation........................................... 845 819 845
Gathering................................................ 288 300 287
Elimination(1)........................................... (12) (9) (9)
------ ------ ------
Total Throughput...................................... 1,135 1,128 1,137
====== ====== ======
- ---------------
(1) Elimination of volumes both transported and sold.
2002 Compared to 2001. Our Pipelines and Gathering business segment's EBIT
increased $20 million in 2002 from 2001 as discussed below.
Operation and maintenance expenses increased $9 million for the year ended
December 31, 2002 compared to 2001 primarily due to project work consisting of
construction management, material acquisition, engineering, project planning and
other services as well as increased employee benefit costs. Project work
expenses are offset by revenues billed for these services.
Depreciation and amortization expense decreased $17 million in 2002 as
compared to 2001 primarily as a result of the discontinuance of goodwill
amortization in accordance with SFAS No. 142 as further discussed in Note 3(d)
to our consolidated financial statements.
Other income increased $4 million in 2002 as compared to 2001 primarily due
to interest accrued on a fuel-related sales tax refund.
2001 Compared to 2000. Our Pipelines and Gathering business segment's EBIT
for 2001 was consistent with 2000 results. Increased gas gathering and
processing revenues were offset by increased operating expenses associated with
a rate case which began in 2001, higher employee benefit costs and increased
franchise taxes.
OTHER OPERATIONS
Our Other Operations business segment consists primarily of certain Latin
America equity investments, office buildings and other real estate used in our
business operations, district cooling in the central business
15
district in downtown Houston, energy management services and other corporate
operations which support all of our business operations.
The following table shows EBIT of our Other Operations business segment for
the 2000, 2001 and 2002:
YEAR ENDED DECEMBER 31,
-------------------------
2000 2001 2002
------- ------ ------
Operating Revenues.......................................... $ 9 $ 9 $ 17
Operating Expenses.......................................... 86 60 2
----- ---- ----
Operating Income (Loss)..................................... (77) (51) 15
Other Expense, net.......................................... (387) (8) (14)
----- ---- ----
Earnings (Loss) Before Interest and Income Taxes............ $(464) $(59) $ 1
===== ==== ====
2002 Compared to 2001. Our Other Operations business segment's EBIT
increased by $60 million in 2002 compared to 2001. The increase was primarily
due to reductions in unallocated corporate costs of $34 million and reductions
in corporate accruals, primarily benefits, of $27 million.
2001 Compared to 2000. Other Operations' loss before interest and taxes
decreased by $405 million in 2001 compared to 2000. This decrease was primarily
due to a $307 million pre-tax decrease in losses/ impairments related to our
Latin America equity investments in 2000 and a $91 million pre-tax decrease in a
non-cash loss on our AOL TW investment and related indexed debt securities in
2001 as compared to 2000.
DISCONTINUED OPERATIONS
On September 30, 2002, CenterPoint Energy distributed all of the shares of
Reliant Resources common stock owned by CenterPoint Energy on a pro rata basis
to shareholders of CenterPoint Energy common stock. The consolidated financial
statements have been prepared to reflect the effect of the Reliant Resources
Distribution as described above on the CenterPoint Energy consolidated financial
statements. The consolidated financial statements present the Reliant Resources
businesses (Wholesale Energy, European Energy, Retail Energy and related
corporate costs) as discontinued operations for each of the years in the two
year period ended December 31, 2001 and for the nine months ended September 30,
2002. We also recorded a $4.4 billion non-cash loss on disposal of these
discontinued operations. This loss represents the excess of the carrying value
of our net investment in Reliant Resources over the market value of Reliant
Resources common stock.
Subsequent to December 31, 2002, we sold our remaining Latin America
operations. The consolidated financial statements present these Latin America
operations as discontinued operations in accordance with SFAS No. 144.
Accordingly, the consolidated financial statements include the necessary
reclassifications to reflect these operations as discontinued operations for
each of the three years in the period ended December 31, 2002.
FLUCTUATIONS IN COMMODITY PRICES AND DERIVATIVE INSTRUMENTS
For information regarding our exposure to risk as a result of fluctuations
in commodity prices and derivative instruments, please read "Quantitative and
Qualitative Disclosures About Market Risk" in Item 7A of this report.
CERTAIN FACTORS AFFECTING FUTURE EARNINGS
Our past earnings and results of operations are not necessarily indicative
of our future earnings and results of operations. The magnitude of our future
earnings and results of our operations will depend on numerous factors
including:
- state and federal legislative and regulatory actions or developments,
including deregulation, re-regulation and restructuring of the electric
utility industry, constraints placed on our activities or
16
business by the 1935 Act, changes in or application of laws or
regulations applicable to other aspects of our business and actions with
respect to:
- approval of stranded costs;
- allowed rates of return;
- rate structures;
- recovery of investments; and
- operation and construction of facilities;
- non-payment for our services due to financial distress of our customers,
including Reliant Resources;
- the successful and timely completion of our capital projects;
- industrial, commercial and residential growth in our service territory
and changes in market demand and demographic patterns;
- changes in business strategy or development plans;
- the timing and extent of changes in commodity prices, particularly
natural gas;
- changes in interest rates or rates of inflation;
- unanticipated changes in operating expenses and capital expenditures;
- weather variations and other natural phenomena;
- commercial bank and financial market conditions, our access to capital,
the cost of such capital, receipt of certain approvals under the 1935
Act, and the results of our financing and refinancing efforts, including
availability of funds in the debt capital markets;
- actions by rating agencies;
- legal and administrative proceedings and settlements;
- changes in tax laws;
- inability of various counterparties to meet their obligations with
respect to our financial instruments;
- any lack of effectiveness of our disclosure controls and procedures;
- changes in technology;
- significant changes in our relationship with our employees, including the
availability of qualified personnel and the potential adverse effects if
labor disputes or grievances were to occur;
- significant changes in critical accounting policies;
- acts of terrorism or war, including any direct or indirect effect on our
business resulting from terrorist attacks such as occurred on September
11, 2001 or any similar incidents or responses to those incidents;
- the availability and price of insurance;
- the outcome of the pending securities lawsuits against us, Reliant Energy
and Reliant Resources;
- the outcome of the Securities and Exchange Commission investigation
relating to the treatment in our consolidated financial statements of
certain activities of Reliant Resources;
- the ability of Reliant Resources to satisfy its indemnity obligations to
us;
- the reliability of the systems, procedures and other infrastructure
necessary to operate the retail electric business in our service
territory, including the systems owned and operated by the ERCOT ISO;
- political, legal, regulatory and economic conditions and developments in
the United States; and
- other factors discussed in Item 1 of this report under "Risk Factors."
17
LIQUIDITY AND CAPITAL RESOURCES
HISTORICAL CASH FLOWS
The net cash provided by/used in operating, investing and financing
activities for 2000, 2001 and 2002 is as follows (in millions):
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------- -----
Cash provided by (used in):
Operating activities..................................... $ 954 $ 1,731 $ 303
Investing activities..................................... (219) (1,199) (755)
Financing activities..................................... 1,353 (1,045) 723
CASH PROVIDED BY OPERATING ACTIVITIES
Net cash provided by operations in 2002 decreased $1.4 billion compared to
2001. This decrease primarily resulted from a $1.0 billion increase in net
regulatory assets and liabilities due primarily to refunds of excess mitigation
credits to ratepayers in 2002 ($224 million) and an increase in non-cash revenue
related to the ECOM true-up, which resulted in a $697 million increase in
regulatory assets in 2002, as well as $156 million paid in connection with the
settlement of forward-starting interest rate swaps with an aggregate notional
amount of $1.5 billion. Other changes in working capital also contributed to
this decrease.
Net cash provided by operations in 2001 increased $777 million compared to
2000. This increase primarily resulted from:
- significant reductions in accounts receivable, partially offset by
reductions in accounts payable, during 2001 compared to 2000 as a result
of higher natural gas prices experienced in late 2000; and
- an increase in recovered fuel costs by our Electric business segments.
This increase was partially offset by other changes in working capital.
CASH USED IN INVESTING ACTIVITIES
Net cash used in investing activities decreased $444 million during 2002
compared to 2001 due primarily to decreased environmental-related capital
expenditures in our electric business segments.
Net cash used in investing activities increased $980 million during 2001
compared to 2000. This increase was primarily due to additional capital
expenditures in 2001 of $305 million primarily related to our Electric business
segments and net proceeds of $729 million received in 2000 from the sale of our
Latin America assets, net of investments and advances.
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
Cash flows provided by financing activities increased $1.8 billion in 2002
compared to 2001, primarily due to an increase in short-term borrowings of $668
million as compared to a decrease in short-term borrowings of $1.4 billion in
2001.
Cash flows used in financing activities increased $2.4 billion in 2001
compared to 2000, primarily due to a decline in short term borrowings, partially
offset by an increase in proceeds from long-term debt.
FUTURE SOURCES AND USES OF CASH
We believe that our borrowing capability combined with cash flows from
operations will be sufficient to meet the operational capital and debt service
needs of our businesses for the next twelve months.
18
Our liquidity and capital requirements will be affected by:
- capital expenditures;
- debt service requirements;
- various regulatory actions; and
- working capital requirements.
The following table sets forth our capital requirements for 2002, and
estimates of our capital requirements for 2003 through 2007 (in millions):
2002 2003 2004 2005 2006 2007
---- ---- ---- ---- ---- ----
Electric Transmission & Distribution............... $261 $258 $300 $300 $295 $300
Electric Generation (with nuclear fuel)(1)......... 280 150 96 68 51 64
Natural Gas Distribution........................... 196 204 216 213 210 210
Pipelines and Gathering............................ 70 60 63 48 44 42
Other Operations................................... 47 12 25 21 15 9
---- ---- ---- ---- ---- ----
Total............................................ $854 $684 $700 $650 $615 $625
==== ==== ==== ==== ==== ====
- ---------------
(1) It is anticipated that Reliant Resources will purchase the majority interest
in Texas Genco held by CenterPoint Energy in early 2004 pursuant to the
terms of an option that Reliant Resources holds or that this interest or
individual generating assets will otherwise be sold to one or more other
parties.
The following table sets forth estimates of our contractual obligations to
make future payments for 2003 through 2007 and thereafter (in millions):
2008 AND
CONTRACTUAL OBLIGATIONS TOTAL 2003 2004 2005 2006 2007 THEREAFTER
- ----------------------- ------- ------ ---- ------ ---- ---- ----------
Long-term debt(1)................... $ 9,985 $ 703 $ 42 $5,574 $206 $ 66 $3,394
Capital leases...................... 20 3 5 5 4 2 1
Short-term borrowing, including
credit facilities................. 347 347 -- -- -- -- --
Trust preferred securities.......... 706 -- -- -- -- -- 706
Operating lease payments(2)......... 263 31 28 26 24 23 131
Non-trading derivative
liabilities....................... 27 26 1 -- -- -- --
Other commodity commitments(3)...... 1,410 292 165 169 174 167 443
------- ------ ---- ------ ---- ---- ------
Total contractual cash
obligations.................... $12,758 $1,402 $241 $5,774 $408 $258 $4,675
======= ====== ==== ====== ==== ==== ======
- ---------------
(1) On February 28, 2003, CenterPoint Energy extended the termination date of
its $3.85 billion credit facility to June 30, 2005 as discussed further
below. As a result of this extension, the $3.85 billion credit facility has
been classified as long-term debt as of December 31, 2002 in the
Consolidated Balance Sheet.
(2) For a discussion of operating leases, please read Note 13(b) to our
consolidated financial statements.
(3) For a discussion of other commodity commitments, please read Note 13(a) to
our consolidated financial statements.
Long-Term Debt. Our long-term debt consists of our obligations and
obligations of our subsidiaries, including transition bonds issued by an
indirect wholly owned subsidiary (transition bonds).
On February 28, 2003, we reached agreement with a syndicate of banks on a
second amendment to our $3.85 billion bank facility (the "Second Amendment").
Under the Second Amendment, the maturity date of the bank facility was extended
from October 2003 to June 30, 2005, and the $1.2 billion in mandatory
prepayments that would have been required this year (including $600 million due
on February 28, 2003) were
19
eliminated. The facility consists of a $2.35 billion term loan and a $1.5
billion revolver. The revolver was fully drawn as of February 28, 2003.
Borrowings bear interest based on the London interbank offered rate (LIBOR)
under a pricing grid tied to our credit rating. At our current credit ratings,
the pricing for loans remains the same. The drawn cost for the facility at our
current ratings is LIBOR plus 450 basis points. We have agreed to pay the banks
an extension fee of 75 basis points on the amounts outstanding under the bank
facility on October 9, 2003. We also paid $41 million in fees that were due on
February 28, 2003, along with $20 million in fees that had been due on June 30,
2003.
In addition, the interest rates will be increased by 25 basis points
beginning May 28, 2003 if we do not grant the banks a security interest in our
81% stock ownership of Texas Genco. Granting the security interest in the stock
of Texas Genco requires approval from the SEC under the 1935 Act, which is
currently being sought. That security interest would be released when we sell
Texas Genco, which is expected to occur in 2004. Proceeds from the sale will be
used to reduce the bank facility.
Also under the Second Amendment, on or before May 28, 2003, we expect to
grant to the banks warrants to purchase up to 10%, on a fully diluted basis, of
our common stock at a price equal to the greater of $6.56 per share or 110% of
the closing price on the New York Stock Exchange on the date the warrants are
issued. The warrants would not be exercisable for a year after issuance but
would remain outstanding for four years; provided, that if we reduce the bank
facility during 2003 by specified amounts, the warrants will be extinguished. To
the extent that we reduce the bank facility by up to $400 million on or before
May 28, 2003, up to half of the warrants will be extinguished on a basis
proportionate to the reduction in the credit facility. To the extent such
warrants are not extinguished on or before May 28, 2003, they will vest and
become exercisable in accordance with their terms. Whether or not we are able to
extinguish warrants on or before May 28, 2003, the remaining 50% of the warrants
will be extinguished, again on a proportionate basis, if we reduce the bank
facility by up to $400 million by the end of 2003. We plan to eliminate the
warrants entirely before they vest by accessing the capital markets to fund the
total payments of $800 million during 2003; however, because of current
financial market conditions and uncertainties regarding such conditions over the
balance of the year, there can be no assurance that we will be able to
extinguish the warrants or to do so on favorable terms.
The warrants and the underlying common stock would be registered with the
SEC and could be exercised either through the payment of the purchase price or
on a "cashless" basis under which we would issue a number of shares equal to the
difference between the then-current market price and the warrant exercise price.
Issuance of the warrants is also subject to obtaining SEC approval under the
1935 Act, which is currently being sought. If that approval is not obtained on
or before May 28, 2003, we will provide the banks equivalent cash compensation
over the term that our warrants would have been exercisable to the extent they
are not otherwise extinguished.
In the Second Amendment, we also agreed that our quarterly common stock
dividend will not exceed $0.10 per share. If we have not reduced the bank
facility by a total of at least $400 million by the end of 2003, of which at
least $200 million has come from the issuance of capital stock or securities
linked to capital stock (such as convertible debt), the maximum dividend payable
during 2004 and for the balance of the term of the facility is subject to an
additional test. Under that test the maximum permitted quarterly dividend will
be the lesser of (i) $0.10 per share or (ii) 12.5% of our net income per share
for the 12 months ended on the last day of the previous quarter.
The Second Amendment provides that proceeds from capital stock or
indebtedness issued or incurred by us must be applied (subject to a $200 million
basket for CERC and another $250 million basket for borrowings by us and other
limited exceptions) to repay bank loans and reduce the bank facility. Similarly,
cash proceeds from the sale of assets of more than $30 million or, if less, a
group of sales aggregating more than $100 million, must be applied to repay bank
loans and reduce the bank facility, except that proceeds of up to $120 million
can be reinvested in our businesses.
On November 12, 2002, CenterPoint Houston entered into a $1.3 billion
collateralized term loan maturing November 2005. The interest rate on the loan
is LIBOR plus 9.75%, subject to a minimum rate of 12.75%. The loan is secured by
CenterPoint Houston's general mortgage bonds. Proceeds from the loan were
20
used (1) to repay CenterPoint Houston's $850 million term loan, (2) to repay
$300 million of debt that matured on November 15, 2002, (3) to purchase $100
million of pollution control bonds on December 2, 2002, and (4) to pay costs of
issuance. The loan agreement contains various business and financial covenants,
including a covenant restricting CenterPoint Houston's debt, excluding
transition bonds, as a percent of its total capitalization to 68%. The loan
agreement also limits incremental secured debt that may be issued by CenterPoint
Houston to $300 million.
One of our indirect finance subsidiaries, CenterPoint Energy Transition
Bond Company, LLC, has $736 million aggregate principal amount of outstanding
transition bonds that were issued in 2001 in accordance with the Texas electric
restructuring law. Classes of the transition bonds have final maturity dates of
September 15, 2007, September 15, 2009, September 15, 2011 and September 15,
2015 and bear interest at rates of 3.84%, 4.76%, 5.16% and 5.63%, respectively.
The transition bonds are secured by "transition property," as defined in the
Texas electric restructuring law, which includes the irrevocable right to
recover, through non-bypassable transition charges payable by retail electric
customers, qualified costs provided in the Texas electric restructuring law. The
transition bonds are reported as our long-term debt, although the holders of the
transition bonds have no recourse to any of our assets or revenues, and our
creditors have no recourse to any assets or revenues (including, without
limitation, the transition charges) of the transition bond company. CenterPoint
Houston has no payment obligations with respect to the transition bonds except
to remit collections of transition charges as set forth in a servicing agreement
between CenterPoint Houston and the transition bond company and in an
intercreditor agreement among CenterPoint Houston, our indirect transition bond
subsidiary and other parties.
We purchased $175 million principal amount of outstanding pollution control
bonds in the fourth quarter of 2002 at 100% of their principal amount. If market
conditions permit, we expect to remarket the $175 million principal amount of
pollution control bonds in the first half of 2003.
Long-term debt maturities in 2003 include $150 million principal amount of
medium-term notes maturing in April 2003 and $16.6 million principal amount of
pollution control bonds maturing in December 2003. In addition, CERC Corp. has
$500 million principal amount of Term Enhanced Remarketable Securities that must
be repaid or remarketed in November 2003.
We have $840 million of outstanding ZENS that may be exchanged for cash at
any time. Holders of ZENS submitted for exchange are entitled to receive a cash
payment equal to 95% of the market value of the reference shares of AOL TW
Common. There are 1.5 reference shares of AOL TW Common for each of the 17.2
million ZENS units originally issued (of which approximately 16% were exchanged
for cash of approximately $45 million in 2002). The exchange market value is
calculated using the average closing price per share of AOL TW Common on the New
York Stock Exchange on one or more trading days following the notice date for
the exchange. One of our subsidiaries owns the reference shares of AOL TW Common
and generally liquidates such holdings to the extent of ZENS exchanged. Cash
proceeds from such liquidations are used to fund ZENS exchanged for cash.
Although proceeds from the sale of AOL TW Common offset the cash paid on
exchanges, ZENS exchanges result in a cash outflow because of our current tax
obligations. Current tax obligations in 2002 increased by $58 million as a
result of the 2002 exchanges of ZENS having a principal amount of $160 million
and the related sale of 4.1 million shares of AOL TW Common.
CenterPoint Houston has issued approximately $1.2 billion aggregate
principal amount of first mortgage bonds and approximately $1.8 billion
aggregate principal amount of general mortgage bonds, of which approximately
$1.1 billion combined aggregate principal amount of first mortgage bonds and
general mortgage bonds collateralizes debt of CenterPoint Energy. The general
mortgage bonds are issued under the General Mortgage Indenture dated as of
October 10, 2002. The lien of the general mortgage indenture is junior to that
of the Mortgage, pursuant to which the first mortgage bonds are issued. The
aggregate amount of additional general mortgage bonds and first mortgage bonds
that could be issued is approximately $900 million based on estimates of the
value of property encumbered by the General Mortgage, the cost of such property
and the 70% bonding ratio contained in the General Mortgage. The issuance of
additional first mortgage and general mortgage bonds is currently contractually
limited to an additional $300 million of general mortgage bonds.
21
Short-Term Debt and Receivables Facility. During 2003, the following bank
and receivables facilities are scheduled to terminate on the dates indicated.
BORROWER/ SELLER AMOUNT OF FACILITY TERMINATION DATE TYPE OF FACILITY
- ---------------- ------------------ ----------------- ----------------
(IN MILLIONS)
CERC Corp.......................... $350 March 31, 2003 Revolver
CERC Corp.......................... 150 November 14, 2003 Receivables
CenterPoint Houston................ 75 April 30, 2003 Revolver
----
Total............................ $575
====
As of December 31, 2002, there was $347 million borrowed under CERC's $350
million revolving credit facility. On February 28, 2003, CERC executed a
commitment letter with a major bank for a $350 million, 180-day bridge facility,
which is subject to the satisfaction of various closing conditions. This
facility will be available for repaying borrowings under CERC's existing $350
million revolving credit facility that expires on March 31, 2003 in the event
sufficient proceeds are not raised in the capital markets to repay such
borrowings on or before March 31, 2003. Final terms for the bridge facility have
not been established, but it is anticipated that the rates for borrowings under
the facility will be LIBOR plus 450 basis points. CERC paid a commitment fee of
25 basis points on the commitment amount and will be required to pay a facility
fee of 75 basis points on the amount funded and an additional 100 basis points
on the amount funded and outstanding for more than two months. In connection
with this facility, CERC expects to provide the lender with collateral in the
form of a security interest in the stock it owns in its interstate natural gas
pipeline subsidiaries.
On December 31, 2002, CERC Corp. had received proceeds from the sale of
receivables of approximately $107 million under its $150 million receivables
facility and its $350 million bank facility was fully drawn or utilized in the
form of letters of credit. Advances under the $150 million receivables facility
are not recorded as a financing because the facility provides for the sale of
receivables to third parties as discussed in Note 3(i) to the consolidated
financial statements.
In February 2003, CenterPoint Houston obtained a $75 million revolving
credit facility that terminates on April 30, 2003. A condition precedent to
utilizing the facility is that security in the form of general mortgage bonds
must be delivered to the lender. Rates for borrowings under this facility,
including the facility fee, will be LIBOR plus 250 basis points.
On December 31, 2002, we had $265 million of temporary investments.
Refunds to CenterPoint Houston Customers. An order issued by the Texas
Utility Commission on October 3, 2001 established the transmission and
distribution rates that became effective in January 2002. The Texas Utility
Commission determined that CenterPoint Houston had overmitigated its stranded
costs by redirecting transmission and distribution depreciation and by
accelerating depreciation of generation assets (an amount equal to earnings
above a stated overall rate of return on rate base that was used to recover our
investment in generation assets) as provided under the 1998 transition plan and
the Texas electric restructuring law. In this final order, CenterPoint Houston
is required to reverse the amount of redirected depreciation and accelerated
depreciation taken for regulatory purposes as allowed under the transition plan
and the Texas electric restructuring law. Per the October 3, 2001 order,
CenterPoint Houston recorded a regulatory liability to reflect the prospective
refund of the accelerated depreciation. CenterPoint Houston began refunding
excess mitigation credits with the January 2002 unbundled bills, to be refunded
over a seven-year period. The annual refund of excess earnings is approximately
$237 million. Under the Texas electric restructuring law, a final settlement of
these stranded costs will occur in 2004.
Cash Requirements in 2003. Our liquidity and capital requirements are
affected primarily by our results of operations, capital expenditures, debt
service requirements, and working capital needs.
Our principal cash requirements during 2003 include the following:
- $167 million of maturing long-term debt;
- approximately $684 million of capital expenditures;
22
- an estimated $237 million which we are obligated to return to customers
as a result of the Texas Utility Commission's findings of over-mitigation
of stranded costs;
- remarketing or refinancing of $500 million of CERC Corp. debt, plus the
possible payment of option termination costs (currently estimated to be
$61 million) as discussed in "Quantitative and Qualitative Disclosures
About Market Risk -- Interest Rate Risk" in Item 7A;
- payments expected to aggregate $350 million in connection with the
termination of bank facilities unless replacement facilities or
extensions are arranged; and
- dividend payments on CenterPoint Energy common stock.
We expect to meet our capital requirements through cash flows from
operations, short-term borrowings and proceeds from debt and/or equity
offerings. We believe that our current liquidity, along with anticipated cash
flows from operations and proceeds from short-term borrowings, including the
renewal, extension or replacement of existing bank facilities, and anticipated
sales of securities in the capital markets will be sufficient to meet our cash
needs. However, disruptions in our ability to access the capital markets on a
timely basis could adversely affect our liquidity. Limits on our ability to
issue secured debt, as described in this report, may adversely affect our
ability to issue debt securities. In addition, the recent cost of our secured
debt issuances has been very high. A similar cost with regard to additional
issuances could significantly impact our debt service. Please read "Risk
Factors -- Risk Factors Associated with Financial Condition and Other
Risks -- If we are unable to arrange future financings on acceptable terms, our
ability to fund future capital expenditures and refinance existing indebtedness
could be limited" in Item 1 of this report.
At December 31, 2002, CenterPoint Energy had a shelf registration statement
for 15 million shares of common stock and CERC Corp. had a shelf registration
statement covering $50 million of debt securities. The amount of any debt
security or any security having equity characteristics that we can issue,
whether registered or unregistered, or whether debt is secured or unsecured, is
expected to be affected by the market's perception of our creditworthiness,
general market conditions and factors affecting our industry. Proceeds from the
sales of securities are expected to be used primarily to refinance debt.
Principal Factors Affecting Cash Requirements in 2004 and 2005. We
anticipate selling our 81% ownership interest in Texas Genco in 2004. Should
Reliant Resources decline to exercise its option to purchase our interest in
Texas Genco, we will explore other alternatives to monetize Texas Genco's
assets, including possible sale of our ownership interest in Texas Genco or of
its individual generating assets, which may significantly affect the timing of
any cash proceeds. Proceeds from that sale, plus proceeds from the
securitization in 2004 or 2005 of stranded costs related to generating assets of
Texas Genco and generation related regulatory assets, are expected to aggregate
in excess of $5 billion.
We expect to issue securitization bonds in 2004 or 2005 to monetize and
recover the balance of stranded costs relating to electric generation assets and
other qualified costs as determined in the 2004 true-up proceeding. The issuance
will be done pursuant to a financing order to be issued by the Texas Utility
Commission. As with the debt of our existing transition bond company, payments
on these new securitization bonds would also be made from funds obtained through
non-bypassable charges assessed to retail electric customers required to take
delivery service from CenterPoint Houston. The holders of the securitization
bonds would not have recourse to any of our assets or revenues, and our
creditors would not have recourse to any assets or revenues of the entity
issuing the securitization bonds. All or a portion of the proceeds from the
issuance of securitization bonds remaining after repayment of CenterPoint
Houston's $1.3 billion collateralized term loan are expected to be utilized to
retire other existing debt.
Impact on Liquidity of a Downgrade in Credit Ratings. As of March 4, 2003,
Moody's Investors Service, Inc. (Moody's), Standard & Poor's Ratings Services, a
division of The McGraw Hill Companies
23
(S&P), and Fitch, Inc. (Fitch) had assigned the following credit ratings to
senior debt of CenterPoint Energy and certain subsidiaries:
MOODY'S S&P FITCH
------------------- ------------------- -------------------
RATING OUTLOOK(1) RATING OUTLOOK(2) RATING OUTLOOK(3)
------ ---------- ------ ---------- ------ ----------
COMPANY/INSTRUMENT
CenterPoint Energy
Senior Unsecured Debt.............. Ba1 Negative BBB- Stable BBB- Negative
CenterPoint Houston
Senior Secured Debt (First Mortgage
Bonds).......................... Baa2 Stable BBB Stable BBB+ Negative
CERC Corp.
Senior Debt........................ Ba1 Negative BBB Stable BBB Negative
- ---------------
(1) A "negative" outlook from Moody's reflects concerns over the next 12 to 18
months which will either lead to a review for a potential downgrade or a
return to a stable outlook. A "stable outlook" from Moody's indicates that
Moody's does not expect to put the rating on review for an upgrade or
downgrade within 18 months from when the outlook was assigned or last
affirmed.
(2) A "stable" outlook from S&P indicates that the rating is not likely to
change over the intermediate to longer term.
(3) A "negative" outlook from Fitch encompasses a one- to two-year horizon as to
the likely rating direction.
We cannot assure you that these ratings will remain in effect for any given
period of time or that one or more of these ratings will not be lowered or
withdrawn entirely by a rating agency. We note that these credit ratings are not
recommendations to buy, sell or hold our securities and may be revised or
withdrawn at any time by the rating agency. Each rating should be evaluated
independently of any other rating. Any future reduction or withdrawal of one or
more of our credit ratings could have a material adverse impact on our ability
to obtain short- and long-term financing, the cost of such financings and the
execution of our commercial strategies.
A decline in credit ratings would increase facility fees and borrowing
costs under our existing bank credit facilities. A decline in credit ratings
would also increase the interest rate on long-term debt to be issued in the
capital markets and would negatively impact our ability to complete capital
market transactions.
Our bank facilities contain "material adverse change" clauses that could
impact our ability to make new borrowings under these facilities. The "material
adverse change" clauses in most of our bank facilities relate to an event,
development or circumstance that has or would reasonably be expected to have a
material adverse effect on (a) the business, financial condition or operations
of the borrower and its subsidiaries taken as a whole, or (b) the legality,
validity or enforceability of the loan documents.
The $150 million receivables facility of CERC Corp. requires the
maintenance of credit ratings of at least BB from S&P and Ba2 from Moody's.
Receivables would cease to be sold in the event a credit rating fell below the
threshold.
Each ZENS note is exchangeable at the holder's option at any time for an
amount of cash equal to 95% of the market value of the reference shares of AOL
TW Common attributable to each ZENS note. If our creditworthiness were to drop
such that ZENS note holders thought our liquidity was adversely affected or the
market for the ZENS notes were to become illiquid, some ZENS holders might
decide to exchange their ZENS for cash. Funds for the payment of cash upon
exchange could be obtained from the sale of the AOL TW Common that we own or
from other sources. We own shares of AOL TW Common equal to 100% of the
reference shares used to calculate our obligation to the holders of the ZENS
notes. ZENS exchanges result in a cash outflow because deferred tax liabilities
related to the ZENS and AOL TW Common become current tax obligations when ZENS
are exchanged and AOL TW Common is sold.
24
CenterPoint Energy Gas Resources Corp., a wholly owned subsidiary of CERC
Corp., provides comprehensive natural gas sales and services to industrial and
commercial customers who are primarily located within or near the territories
served by our pipelines and distribution subsidiaries. In order to hedge its
exposure to natural gas prices, CenterPoint Energy Gas Resources Corp. has
agreements with provisions standard for the industry that establish credit
thresholds and require a party to provide additional collateral on two business
days' notice when that party's rating or the rating of a credit support provider
for that party (CERC Corp. in this case) falls below those levels. As of March
4, 2003, the senior unsecured debt of CERC Corp. was rated BBB by S&P and Ba1 by
Moody's. Based on these ratings, we estimate that unsecured credit limits
extended to CenterPoint Energy Gas Resources Corp. by counterparties could
aggregate $25 million; however, utilized credit capacity is significantly lower.
Cross Defaults. Under our bank facility, a payment default by us or any of
our significant subsidiaries on any indebtedness exceeding $50 million will
cause a default.
Pension Plan. As discussed in Note 11 to the consolidated financial
statements, we maintain a non-contributory pension plan covering substantially
all employees. Employer contributions are based on actuarial computations that
establish the minimum contribution required under the Employee Retirement Income
Security Act of 1974 (ERISA) and the maximum deductible contribution for income
tax purposes. During 2001, we contributed from treasury stock $107 million of
CenterPoint Energy common stock to the plan. No contributions were made to the
plan during 2002.
Under the terms of our pension plan, we reserve the right to change, modify
or terminate the plan. Our funding policy is to review amounts annually and
contribute an amount at least equal to the minimum contribution required under
ERISA.
Plan assets used to satisfy pension obligations have been adversely
impacted by the recent decline in equity market values. However, based on
current estimates, we will not be required to make pension contributions until
2005.
In accordance with SFAS No. 87, "Employers' Accounting for Pensions," (SFAS
87) changes in pension obligations and assets may not be immediately recognized
as pension costs in the income statement, but generally are recognized in future
years over the remaining average service period of plan participants. As such,
significant portions of pension costs recorded in any period may not reflect the
actual level of benefit payments provided to plan participants.
In 2000, we recorded a pension benefit of $39 million. Pension costs were
$39 million and $35 million for 2001 and 2002, respectively. Included in the net
pension benefit cost in 2001 was $45 million of expense related to Reliant
Resources' participants. For 2002, a pension benefit of $4 million was recorded
related to Reliant Resources' participants. Pension benefit and expense for
Reliant Resources' participants are reflected in the Statement of Consolidated
Operations as discontinued operations.
The calculation of pension expense and related liabilities requires the use
of assumptions. Changes in these assumptions can result in different expense and
liability amounts, and future actual experience can differ from the assumptions.
Two of the most critical assumptions are the expected long-term rate of return
on plan assets and the assumed discount rate.
As of December 31, 2002, the expected long-term rate of return on plan
assets was changed from 9.5% to 9.0%. The change in the assumption was developed
by reviewing the plan's targeted asset allocation and asset class return
expectations. We believe that our long-term asset allocation on average will
approximate the targeted allocation. We regularly review our actual asset
allocation and periodically rebalance plan assets as appropriate.
As of December 31, 2002, the projected benefit obligation was calculated
assuming a discount rate of 6.75%, which is a .5% decline from the 7.25%
discount rate assumed in 2001. The discount rate was determined by reviewing
yields on high-quality bonds that receive one of the two highest ratings given
by a recognized rating agency and the expected duration of pension obligation
specific to the characteristics of our plan.
25
Pension expense for 2003 is estimated to be $90 million based on an
expected return on plan assets of 9.0% and a discount rate of 6.75% as of
December 31, 2002. If the expected return assumption was lowered by .5% (from
9.0% to 8.5%), 2003 pension expense would increase by approximately $5 million.
Similarly, if the discount rate was lowered by .5% (from 6.75% to 6.25%), this
assumption change would increase our projected benefit obligation, pension
liabilities and 2003 pension expense by approximately $98 million, $88 million
and $8 million, respectively. In addition, the assumption change would result in
an additional charge to comprehensive income during 2002 of $57 million, net of
tax.
Primarily due to the decline in the market value of the pension plan's
assets and increased benefit obligations associated with a reduction in the
discount rate, the value of the plan's assets is less than our accumulated
benefit obligation. As a result, we recorded a non-cash minimum liability
adjustment, which resulted in a charge to other comprehensive income during the
fourth quarter of 2002 of $414 million, net of tax. Recording a minimum
liability adjustment did not affect our results of operations during 2002 nor
our ability to meet any financial covenants related to our debt facilities.
Future changes in plan asset returns, assumed discount rates and various
other factors related to the pension will impact our future pension expense and
liabilities. We cannot predict with certainty what these factors will be in the
future.
Other Factors that Could Affect Cash Requirements. In addition to the
above factors, our liquidity and capital resources could be affected by:
- the need to provide cash collateral in connection with certain contracts;
- acceleration of payment dates on certain gas supply contracts under
certain circumstances;
- increases in fees and interest expense in connection with debt
refinancings;
- various regulatory actions; and
- the ability of Reliant Resources and its subsidiaries to satisfy its
obligations as a principal customer of CenterPoint Houston and Texas
Genco and in respect of its indemnity obligations to us.
Money Pool. We have a "money pool" through which we and our participating
subsidiaries can borrow or invest on a short-term basis. Funding needs are
aggregated and external borrowing or investing is based on the net cash
position. The money pool's net funding requirements are expected to be met with
bank loans. The terms of the money pool are in accordance with requirements
applicable to registered public utility holding companies under the 1935 Act.
Capitalization. Factors affecting our capitalization include:
- covenants in our and our subsidiaries' bank facilities and other
borrowing agreements; and
- limitations imposed on us as a registered public utility holding company.
The bank facilities of CenterPoint Houston and CERC Corp. restrict debt as
a percentage of total capitalization. Our $3.85 billion credit agreement limits
dividend payments as described above, contains a debt to earnings before
interest, taxes, depreciation and amortization (EBITDA) covenant, an EBITDA to
interest covenant and restrictions on the use of proceeds from debt issuances
and asset sales.
In connection with our registration as a public utility holding company
under the 1935 Act, the SEC has placed the following limitations on our external
debt:
- the aggregate amount of CenterPoint Houston's external borrowings has
been limited to $3.55 billion;
- the aggregate amount of CERC Corp.'s external borrowings has been limited
to $2.7 billion; and
- the aggregate amount of Texas Genco's external borrowings has been
limited to $500 million.
Additionally, the SEC has placed limitations on our dividends and the
dividends of our subsidiaries that require common equity as a percentage of
total capitalization for CenterPoint Houston, CERC Corp. and Texas Genco to be
at least 30% after the payment of such dividends. The order issued by the SEC
that
26
authorizes our financing program expires on June 30, 2003, and we must seek a
new financing order before that date. Any new order may contain restrictions or
authorizations different from those described above.
OFF BALANCE SHEET FINANCING
In connection with the November 2002 amendment and extension of CERC
Corp.'s $150 million receivables facility, CERC Corp. formed a bankruptcy remote
subsidiary for the sole purpose of buying and selling receivables created by
CERC. This transaction is accounted for as a sale of receivables under the
provisions of SFAS No. 140, "Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities", and, as a result, the related
receivables are excluded from our Consolidated Balance Sheets. For additional
information regarding this transaction, please read Note 3(i) to our
consolidated financial statements.
CRITICAL ACCOUNTING POLICIES
A critical accounting policy is one that is both important to the
presentation of our financial condition and results of operations and requires
management to make difficult, subjective or complex accounting estimates. An
accounting estimate is an approximation made by management of a financial
statement element, item or account in the financial statements. Accounting
estimates in our historical consolidated financial statements measure the
effects of past business transactions or events, or the present status of an
asset or liability. The accounting estimates described below require us to make
assumptions about matters that are highly uncertain at the time the estimate is
made. Additionally, different estimates that we could have used or changes in an
accounting estimate that are reasonably likely to occur could have a material
impact on the presentation of our financial condition or results of operations.
The circumstances that make these judgments difficult, subjective and/or complex
have to do with the need to make estimates about the effect of matters that are
inherently uncertain. Estimates and assumptions about future events and their
effects cannot be predicted with certainty. We base our estimates on historical
experience and on various other assumptions that we believe to be reasonable
under the circumstances, the results of which form the basis for making
judgments. These estimates may change as new events occur, as more experience is
acquired, as additional information is obtained and as our operating environment
changes. We believe the following accounting policies involve the application of
critical accounting estimates. Accordingly, these accounting estimates have been
reviewed and discussed with the audit committee of the board of directors.
ACCOUNTING FOR RATE REGULATION
SFAS No. 71, "Accounting for the Effects of Certain Types of Regulation"
(SFAS No. 71), provides that rate-regulated entities account for and report
assets and liabilities consistent with the recovery of those incurred costs in
rates if the rates established are designed to recover the costs of providing
the regulated service and if the competitive environment makes it probable that
such rates can be charged and collected. Application of SFAS No. 71 to the
electric generation portion of our business was discontinued as of June 30,
1999. Our Electric Transmission & Distribution business continues to apply SFAS
No. 71 which results in our accounting for the regulatory effects of recovery of
"stranded costs" and other "regulatory assets" resulting from the unbundling of
the transmission and distribution business from our electric generation
operations in our consolidated financial statements. Certain expenses and
revenues subject to utility regulation or rate determination normally reflected
in income are deferred on the balance sheet and are recognized in income as the
related amounts are included in service rates and recovered from or refunded to
customers. Regulatory assets reflected in our Consolidated Balance Sheets
aggregated $3.3 billion and $4.0 billion as of December 31, 2001 and 2002,
respectively. Significant accounting estimates embedded within the application
of SFAS No. 71 with respect to our Electric Transmission & Distribution business
segment relate to $2.0 billion of recoverable electric generation plant
mitigation assets (stranded costs) and $697 million of ECOM true-up. The
stranded costs are comprised of $1.1 billion of previously recorded accelerated
depreciation and $841 million of previously redirected depreciation. These
stranded costs are recoverable under the provisions of the Texas electric
restructuring law. The ultimate amount of stranded cost recovery is subject to a
final determination which will occur in 2004 and is contingent upon the market
value of Texas Genco. Any
27
significant changes in our accounting estimate of stranded costs as a result of
current market conditions or changes in the regulatory recovery mechanism
currently in place could result in a material write-down of all or a portion of
these regulatory assets. Regulatory assets related to ECOM true-up represent the
regulatory assets associated with costs incurred as a result of mandated
capacity auctions conducted beginning in 2002 by our Electric Generation
business being consummated at market-based prices that have been substantially
below the estimate of those prices made by the Texas Utility Commission in the
spring of 2001. Any significant changes in our estimate of our regulatory asset
associated with ECOM true-up could have a significant effect on our financial
condition and results of operations. Additionally, any significant changes in
our estimated stranded costs or ECOM true-up recovery could significantly affect
our liquidity subsequent to the final true-up proceedings conducted by the Texas
Utility Commission which are expected to conclude in late 2004.
IMPAIRMENT OF LONG-LIVED ASSETS
Long-lived assets recorded in our Consolidated Balance Sheets primarily
consist of property, plant and equipment (PP&E). Net PP&E comprises $11.4
billion or 58% of our total assets as of December 31, 2002. We make judgments
and estimates in conjunction with the carrying value of these assets, including
amounts to be capitalized, depreciation and amortization methods and useful
lives. We evaluate our PP&E for impairment whenever indicators of impairment
exist. Accounting standards require that if the sum of the undiscounted expected
future cash flows from a company's asset is less than the carrying value of the
asset, an asset impairment must be recognized in the financial statements. The
amount of impairment recognized is calculated by subtracting the fair value of
the asset from the carrying value of the asset.
As a result of the distribution of approximately 19% of Texas Genco's
common stock to our shareholders on January 6, 2003, we re-evaluated our
electric generation assets for impairment as of December 31, 2002. This analysis
required us to make long-term estimates of future cash receipts associated with
the operation or sale of these electric generation assets and related cash
outflows. These forecasts require assumptions about demand for electricity
within the ERCOT market, future ERCOT market conditions, commodity prices and
regulatory developments. As of December 31, 2002, no impairment had been
indicated because the estimated cash flows associated with the operations of
their assets exceeded their carrying value. However the effects of competition
within the ERCOT market, the results of our capacity auctions, and the timing
and extent of changes in commodity prices, particularly natural gas prices,
could have a significant effect on our future cash flows and therefore affect
any future determination of asset impairment.
IMPAIRMENT OF GOODWILL AND INDEFINITE-LIVED INTANGIBLE ASSETS
We evaluate our goodwill and other indefinite-lived intangible assets for
impairment at least annually and more frequently when indicators of impairment
exist. Accounting standards require that if the fair value of a reporting unit
is less than its carrying value, including goodwill, a charge for impairment of
goodwill must be recognized. To measure the amount of the impairment loss, we
would compare the implied fair value of the reporting unit's goodwill with its
carrying value.
We recorded goodwill associated with the acquisition of our Natural Gas
Distribution and Pipelines and Gathering operations in 1997. We reviewed our
goodwill for impairment as of January 1, 2002. We computed the fair value of the
Natural Gas Distribution and the Pipelines and Gathering operations as the sum
of the discounted estimated net future cash flows applicable to each of these
operations. We determined that the fair value for each of the Natural Gas
Distribution operations and the Pipelines and Gathering operations exceeded
their corresponding carrying value, including unallocated goodwill. We also
concluded that no interim impairment indicators existed subsequent to this
initial evaluation. As of December 31, 2002 we had recorded $1.7 billion of
goodwill. Future evaluations of the carrying value of goodwill could be
significantly impacted by our estimates of cash flows associated with our
Natural Gas Distribution and Pipelines and Gathering operations, regulatory
matters, and estimated operating costs.
28
UNBILLED ENERGY REVENUES
Revenues related to the sale and/or delivery of electricity or natural gas
(energy) are generally recorded when energy is delivered to customers. However,
the determination of energy sales to individual customers is based on the
reading of their meters, which is performed on a systematic basis throughout the
month. At the end of each month, amounts of energy delivered to customers since
the date of the last meter reading are estimated and the corresponding unbilled
revenue is estimated. Unbilled electric delivery revenue is estimated each month
based on daily supply volumes, applicable rates and analyses reflecting
significant historical trends and experience. Unbilled natural gas sales are
estimated based on estimated purchased gas volumes, estimated lost and
unaccounted for gas and tariffed rates in effect. Accrued unbilled revenues
recorded in the Consolidated Balance Sheet as of December 31, 2001 were $33
million related to our Electric Operations business segment and $269 million
related to our Natural Gas Distribution business segment. Accrued unbilled
revenues recorded in the Consolidated Balance Sheet as of December 31, 2002 were
$70 million related to our Electric Transmission & Distribution business segment
and $284 million related to our Natural Gas Distribution business segment.
NEW ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 141, "Business Combinations" (SFAS No. 141). SFAS No. 141 requires business
combinations initiated after June 30, 2001 to be accounted for using the
purchase method of accounting and broadens the criteria for recording intangible
assets separate from goodwill. Recorded goodwill and intangibles will be
evaluated against these new criteria and may result in certain intangibles being
transferred to goodwill, or alternatively, amounts initially recorded as
goodwill may be separately identified and recognized apart from goodwill. We
adopted the provisions of the statement that apply to goodwill and intangible
assets acquired prior to June 30, 2001 on January 1, 2002. The adoption of SFAS
No. 141 did not have any impact on our historical results of operations or
financial position.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations" (SFAS No. 143). SFAS No. 143 requires the fair value of
an asset retirement obligation to be recognized as a liability is incurred and
capitalized as part of the cost of the related tangible long-lived assets. Over
time, the liability is accreted to its present value each period, and the
capitalized cost is depreciated over the useful life of the related asset.
Retirement obligations associated with long-lived assets included within the
scope of SFAS No. 143 are those for which a legal obligation exists under
enacted laws, statutes and written or oral contracts, including obligations
arising under the doctrine of promissory estoppel. SFAS No. 143 is effective for
fiscal years beginning after June 15, 2002, with earlier application encouraged.
SFAS No. 143 requires entities to record a cumulative effect of change in
accounting principle in the income statement in the period of adoption. We
adopted SFAS No. 143 on January 1, 2003.
We have completed an assessment of the applicability and implications of
SFAS No. 143. As a result of the assessment, we have identified retirement
obligations for nuclear decommissioning at the South Texas Project and for
lignite mine operations at the Jewett mine supplying the Limestone electric
generation facility. Nuclear decommissioning and the lignite mine have recorded
liabilities under our previous method of accounting. Liabilities recorded for
estimated nuclear decommissioning obligations were $138 million and $140 million
at December 31, 2001 and 2002, respectively. Liabilities recorded for estimated
lignite mine reclamation costs were $28 million and $40 million at December 31,
2001 and 2002, respectively. We have also identified other asset retirement
obligations that cannot be calculated because the assets associated with the
retirement obligations have an indeterminate life. We used an expected cash flow
approach to measure our asset retirement obligations under SFAS No. 143.
29
The following amounts represent our asset retirement obligations on a
pro-forma basis as if SFAS No. 143 had been applied during all respective
periods.
DECEMBER 31, 2001
-----------------------
AS REPORTED PRO-FORMA
----------- ---------
(IN MILLIONS)
Nuclear decommissioning..................................... $137.5 $178.2
Jewett lignite mine......................................... 28.4 2.2
------ ------
Total..................................................... $165.9 $180.4
====== ======
DECEMBER 31, 2002
-----------------------
AS REPORTED PRO-FORMA
----------- ---------
(IN MILLIONS)
Nuclear decommissioning..................................... $139.7 $186.7
Jewett lignite mine......................................... 39.7 3.8
------ ------
Total..................................................... $179.4 $190.5
====== ======
The net difference between the amounts determined under SFAS No. 143 and
our previous method of accounting for estimated nuclear decommissioning costs of
$16 million will be recorded as a liability. The net difference between the
amounts determined under SFAS No. 143 and our previous method of accounting for
estimated mine reclamation costs of $37 million will be recorded as a cumulative
effect of accounting change.
Our rate-regulated businesses have previously recognized removal costs as a
component of depreciation expense in accordance with regulatory treatment. As of
December 31, 2002, these previously recognized removal costs of $618 million do
not represent SFAS No. 143 asset retirement obligations, but rather embedded
regulatory liabilities. Our non-rate regulated businesses have also previously
recognized removal costs as a component of depreciation expense. Upon adoption
of SFAS No. 143, we will reverse $115 million of previously recognized removal
costs with respect to these non-rate regulated businesses as a cumulative effect
of accounting change.
The following represents the pro-forma effect on our operations for 2002 as
if we had adopted SFAS No. 143 on January 1, 2002. The adoption of SFAS No. 143
would have had no income statement effect in 2000 and 2001 due to the regulatory
recovery of the costs in those years. Amounts are expressed in thousands except
per share data.
2002
-----------
Income from Continuing Operations as reported............... $ 366,327
Pro-forma Income from Continuing Operations................. $ 374,062
Net loss as reported........................................ $(3,920,234)
Pro-forma net loss.......................................... $(3,912,499)
DILUTED EARNINGS PER SHARE:
Income from Continuing Operations as reported............... $ 1.22
Pro-forma Income from Continuing Operations................. $ 1.25
Net loss as reported........................................ $ (13.08)
Pro-forma net loss.......................................... $ (13.06)
In August 2001, the FASB issued SFAS No. 144. SFAS No. 144 provides new
guidance on the recognition of impairment losses on long-lived assets to be held
and used or to be disposed of and also broadens the definition of what
constitutes a discontinued operation and how the results of a discontinued
operation are to be measured and presented. SFAS No. 144 supercedes SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of" and Accounting Principles Board (APB) Opinion No. 30,
"Reporting the Results of Operations -- Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions",
30
while retaining many of the requirements of these two statements. Under SFAS No.
144, assets held for sale that are a component of an entity will be included in
discontinued operations if the operations and cash flows will be or have been
eliminated from the ongoing operations of the entity and the entity will not
have any significant continuing involvement in the operations prospectively.
SFAS No. 144 was effective for fiscal years beginning after December 15, 2001,
with early adoption encouraged. SFAS No. 144 did not materially change the
methods we use to measure impairment losses on long-lived assets, but may result
in additional future dispositions being reported as discontinued operations than
was previously permitted. Adoption of SFAS No. 144 also resulted in the
retroactive reclassification of our Latin America operations as discussed in
Note 2 to our consolidated financial statements. We adopted SFAS No. 144 on
January 1, 2002.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections" (SFAS No. 145). SFAS No. 145 eliminates the current requirement
that gains and losses on debt extinguishment must be classified as extraordinary
items in the income statement. Instead, such gains and losses will be classified
as extraordinary items only if they are deemed to be unusual and infrequent.
SFAS No. 145 also requires that capital leases that are modified so that the
resulting lease agreement is classified as an operating lease be accounted for
as a sale-leaseback transaction. The changes related to debt extinguishment are
effective for fiscal years beginning after May 15, 2002, and the changes related
to lease accounting are effective for transactions occurring after May 15, 2002.
We have applied this guidance prospectively as it relates to lease accounting
and will apply the accounting provisions related to debt extinguishment in 2003.
During 2002, we recorded a $26 million loss on the early extinguishment of debt
related to CenterPoint Houston's $850 million term loan and the repurchase of
$175 million of CenterPoint Energy's pollution control bonds.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities" (SFAS No. 146). SFAS No. 146
nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)" (EITF No. 94-3).
The principal difference between SFAS No. 146 and EITF No. 94-3 relates to the
requirements for recognition of a liability for costs associated with an exit or
disposal activity. SFAS No. 146 requires that a liability be recognized for a
cost associated with an exit or disposal activity when it is incurred. A
liability is incurred when a transaction or event occurs that leaves an entity
little or no discretion to avoid the future transfer or use of assets to settle
the liability. Under EITF No. 94-3, a liability for an exit cost was recognized
at the date of an entity's commitment to an exit plan. In addition, SFAS No. 146
also requires that a liability for a cost associated with an exit or disposal
activity be recognized at its fair value when it is incurred. SFAS No. 146 is
effective for exit or disposal activities that are initiated after December 31,
2002 with early application encouraged. We will apply the provisions of SFAS No.
146 to all exit, or disposal activities initiated after December 31, 2002.
In November 2002, the FASB issued FASB Interpretation No. (FIN) 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others" (FIN 45). FIN 45 requires that a
liability be recorded in the guarantor's balance sheet upon issuance of certain
guarantees. In addition, FIN 45 requires disclosures about the guarantees that
an entity has issued. The provision for initial recognition and measurement of
the liability will be applied on a prospective basis to guarantees issued or
modified after December 31, 2002. The disclosure provisions of FIN 45 are
effective for financial statements of interim or annual periods ending after
December 15, 2002. The adoption of FIN 45 is not expected to materially affect
our consolidated financial statements. We have adopted the additional disclosure
provisions of FIN 45 in our consolidated financial statements as of December 31,
2002.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation, Transition and Disclosure -- an Amendment of SFAS No. 123" (SFAS
No. 148). SFAS No. 148 provides alternative methods of transition for a
voluntary change to the fair value based method of accounting for stock-based
employee compensation. SFAS No. 148 also requires that disclosures of the pro
forma effect of using the fair value method of accounting for stock-based
employee compensation be displayed more prominently and in a tabular format.
Additionally, SFAS No. 148 requires disclosure of the pro forma effect in
interim financial statements. The transition and annual disclosure requirements
of SFAS No.148 are effective for
31
fiscal years ending after December 15, 2002. We currently account for our
stock-based compensation awards to employees and directors under the accounting
prescribed by APB Opinion No. 25 and provide the disclosures required by SFAS
No. 123. We will continue to account for our stock-based compensation awards to
employees and directors under the accounting prescribed by APB Opinion No. 25
and have adopted the additional disclosure provisions of SFAS No. 148 in our
consolidated financial statements as of December 31, 2002.
In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable
Interest Entities, an Interpretation of Accounting Research Bulletin No. 51"
(FIN 46). FIN 46 requires certain variable interest entities to be consolidated
by the primary beneficiary of the entity if the equity investors in the entity
do not have the characteristics of a controlling financial interest or do not
have sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support from other parties. FIN 46 is
effective for all new variable interest entities created or acquired after
January 31, 2003. For variable interest entities created or acquired prior to
February 1, 2003, the provisions of FIN 46 must be applied for the first interim
or annual period beginning after June 15, 2003. We do not expect the adoption of
FIN 46 to have a material impact on our results of operations and financial
condition.
See Note 5 to our consolidated financial statements for a discussion of our
adoption of SFAS No. 133 on January 1, 2001 and adoption of subsequent cleared
guidance. See Note 3(d) to our consolidated financial statements for a
discussion of our adoption of SFAS No. 142, "Goodwill and Other Intangible
Assets."
32
EXHIBIT 99.2
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA OF THE COMPANY
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED OPERATIONS
YEAR ENDED DECEMBER 31,
------------------------------------------
2000 2001 2002
------------ ------------ ------------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
REVENUES.................................................... $10,285,665 $10,563,918 $ 7,906,685
----------- ----------- -----------
EXPENSES:
Fuel and cost of gas sold................................. 5,227,324 5,085,167 3,883,416
Purchased power........................................... 755,924 1,223,437 94,749
Operation and maintenance................................. 1,685,100 1,759,820 1,595,835
Depreciation and amortization............................. 719,801 664,686 615,770
Taxes other than income taxes............................. 488,203 511,599 387,806
----------- ----------- -----------
Total................................................... 8,876,352 9,244,709 6,577,576
----------- ----------- -----------
OPERATING INCOME............................................ 1,409,313 1,319,209 1,329,109
----------- ----------- -----------
OTHER INCOME (EXPENSE):
Unrealized loss on AOL Time Warner investment............. (204,969) (70,215) (499,704)
Unrealized gain on indexed debt securities................ 101,851 58,033 480,027
Loss from equity investments in unconsolidated
subsidiaries............................................ (28,813) -- --
Impairment of Latin America equity investments............ (130,842) -- --
Loss on disposal of Latin America equity investments...... (176,400) -- --
Interest expense.......................................... (509,773) (551,298) (709,177)
Distribution on trust preferred securities................ (54,358) (55,598) (55,545)
Other, net................................................ 72,156 53,345 18,865
----------- ----------- -----------
Total................................................... (931,148) (565,733) (765,534)
----------- ----------- -----------
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES,
CUMULATIVE EFFECT OF ACCOUNTING CHANGE AND PREFERRED
DIVIDENDS................................................. 478,165 753,476 563,575
INCOME TAX EXPENSE.......................................... 234,891 256,206 197,248
----------- ----------- -----------
INCOME FROM CONTINUING OPERATIONS BEFORE CUMULATIVE EFFECT
OF ACCOUNTING CHANGE AND PREFERRED DIVIDENDS.............. 243,274 497,270 366,327
INCOME FROM DISCONTINUED OPERATIONS OF RELIANT RESOURCES,
NET OF TAX................................................ 225,458 475,078 82,157
INCOME (LOSS) FROM DISCONTINUED OPERATIONS OF LATIN AMERICA,
NET OF TAX................................................ (21,232) (50,345) 2,746
LOSS ON DISPOSAL OF DISCONTINUED OPERATIONS OF RELIANT
RESOURCES................................................. -- -- (4,371,464)
CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET OF TAX.......... -- 58,556 --
----------- ----------- -----------
INCOME (LOSS) BEFORE PREFERRED DIVIDENDS.................... 447,500 980,559 (3,920,234)
PREFERRED DIVIDENDS......................................... 389 858 --
----------- ----------- -----------
NET INCOME (LOSS) ATTRIBUTABLE TO COMMON SHAREHOLDERS....... $ 447,111 $ 979,701 $(3,920,234)
=========== =========== ===========
BASIC EARNINGS PER SHARE:
Income from Continuing Operations Before Cumulative Effect
of Accounting Change.................................... $ 0.85 $ 1.71 $ 1.23
Income from Discontinued Operations of Reliant Resources,
net of tax.............................................. 0.79 1.64 0.27
Income (Loss) from Discontinued Operations of Latin
America, net of tax..................................... (0.07) (0.17) 0.01
Loss on Disposal of Discontinued Operations of Reliant
Resources............................................... -- -- (14.67)
Cumulative Effect of Accounting Change, net of tax........ -- 0.20 --
----------- ----------- -----------
Net Income (Loss) Attributable to Common Shareholders..... $ 1.57 $ 3.38 $ (13.16)
=========== =========== ===========
DILUTED EARNINGS PER SHARE:
Income from Continuing Operations Before Cumulative Effect
of Accounting Change.................................... $ 0.84 $ 1.70 $ 1.22
Income from Discontinued Operations of Reliant Resources,
net of tax.............................................. 0.79 1.62 0.27
Income (Loss) from Discontinued Operations of Latin
America, net of tax..................................... (0.07) (0.17) 0.01
Loss on Disposal of Discontinued Operations of Reliant
Resources............................................... -- -- (14.58)
Cumulative Effect of Accounting Change, net of tax........ -- 0.20 --
----------- ----------- -----------
Net Income (Loss) Attributable to Common Shareholders..... $ 1.56 $ 3.35 $ (13.08)
=========== =========== ===========
See Notes to the Company's Consolidated Financial Statements
1
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED COMPREHENSIVE INCOME
YEAR ENDED DECEMBER 31,
----------------------------------
2000 2001 2002
-------- --------- -----------
(IN THOUSANDS OF DOLLARS)
Net income (loss) attributable to common shareholders..... $447,111 $ 979,701 $(3,920,234)
-------- --------- -----------
Other comprehensive income (loss), net of tax:
Additional minimum pension liability adjustment (net of
tax of $9,918, $6,873 and $223,060).................. (18,419) 12,764 (414,254)
Cumulative effect of adoption of SFAS No. 133 (net of
tax of $20,511)...................................... -- 38,092 --
Net deferred loss from cash flow hedges (net of tax of
$23,794 and $25,192)................................. -- (15,549) (69,615)
Reclassification of deferred loss (gain) from cash flow
hedges realized in net income (net of tax of $18,978
and $13,539)......................................... -- (59,055) 39,705
Other comprehensive income (loss) from discontinued
operations (net of tax of $47,940, $84,576 and
$86,787)............................................. 89,031 (157,069) 161,176
-------- --------- -----------
Other comprehensive income (loss)......................... 70,612 (180,817) (282,988)
-------- --------- -----------
Comprehensive income (loss)............................... $517,723 $ 798,884 $(4,203,222)
======== ========= ===========
See Notes to the Company's Consolidated Financial Statements
2
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................. $ 18,440 $ 305,420
Investment in AOL Time Warner common stock................ 826,609 283,486
Accounts receivable, net.................................. 509,689 559,366
Accrued unbilled revenues................................. 302,879 354,497
Inventory................................................. 405,638 351,816
Non-trading derivative assets............................. 6,996 27,275
Current assets of discontinued operations................. 4,690,171 10,162
Prepaid expense and other current assets.................. 32,098 71,304
----------- -----------
Total current assets.................................. 6,792,520 1,963,326
----------- -----------
PROPERTY, PLANT AND EQUIPMENT, NET.......................... 11,199,505 11,409,369
----------- -----------
OTHER ASSETS:
Goodwill, net............................................. 1,740,510 1,740,510
Other intangibles, net.................................... 62,294 65,880
Regulatory assets......................................... 3,283,492 4,000,646
Non-trading derivative assets............................. 2,234 3,866
Non-current assets of discontinued operations............. 7,655,367 4,997
Other..................................................... 530,441 445,883
----------- -----------
Total other assets.................................... 13,274,338 6,261,782
----------- -----------
TOTAL ASSETS........................................ $31,266,363 $19,634,477
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Short-term borrowings..................................... $ 3,528,614 $ 347,000
Current portion of long-term debt......................... 636,987 810,325
Indexed debt securities derivative........................ 730,225 224,881
Accounts payable.......................................... 519,320 623,317
Taxes accrued............................................. 285,924 120,865
Interest accrued.......................................... 111,487 197,274
Non-trading derivative liabilities........................ 72,744 26,387
Regulatory liabilities.................................... 154,783 168,173
Accumulated deferred income taxes, net.................... 322,186 285,214
Current liabilities of discontinued operations............ 3,751,723 --
Other..................................................... 341,083 286,750
----------- -----------
Total current liabilities............................. 10,455,076 3,090,186
----------- -----------
OTHER LIABILITIES:
Accumulated deferred income taxes, net.................... 2,353,375 2,449,206
Unamortized investment tax credits........................ 247,407 230,037
Non-trading derivative liabilities........................ 9,825 873
Benefit obligations....................................... 415,936 834,989
Regulatory liabilities.................................... 1,210,888 959,421
Non-current liabilities of discontinued operations........ 3,630,255 --
Other..................................................... 584,697 747,355
----------- -----------
Total other liabilities............................... 8,452,383 5,221,881
----------- -----------
LONG-TERM DEBT.............................................. 4,915,237 9,194,320
----------- -----------
COMMITMENTS AND CONTINGENCIES (NOTES 1 AND 13)
COMPANY OBLIGATED MANDATORILY REDEEMABLE PREFERRED
SECURITIES OF SUBSIDIARY TRUSTS HOLDING SOLELY JUNIOR
SUBORDINATED DEBENTURES OF THE COMPANY.................... 705,744 706,140
----------- -----------
SHAREHOLDERS' EQUITY........................................ 6,737,923 1,421,950
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY............ $31,266,363 $19,634,477
=========== ===========
See Notes to the Company's Consolidated Financial Statements
3
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
YEAR ENDED DECEMBER 31,
---------------------------------------
2000 2001 2002
----------- ----------- -----------
(IN THOUSANDS)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) attributable to common shareholders..... $ 447,111 $ 979,701 $(3,920,234)
Less: Income from discontinued operations of Reliant
Resources, net of tax................................... (225,458) (475,078) (82,157)
Less: Loss (income) from discontinued operations of Latin
America, net of tax..................................... 21,232 50,345 (2,746)
Add: Loss on disposal of discontinued operations of
Reliant Resources....................................... -- -- 4,371,464
----------- ----------- -----------
Income from continuing operations and cumulative effect of
accounting change, less extraordinary item.............. 242,885 554,968 366,327
Adjustments to reconcile income from continuing operations
to net cash provided by operating activities:
Depreciation and amortization........................... 719,801 664,817 615,770
Fuel-related amortization............................... 44,645 29,410 12,729
Deferred income taxes................................... (3,306) (86,969) 321,558
Investment tax credit................................... (18,330) (18,330) (17,370)
Cumulative effect of accounting change, net............. -- (58,556) --
Unrealized loss on AOL Time Warner investment........... 204,969 70,215 499,704
Unrealized gain on indexed debt securities.............. (101,851) (58,033) (480,027)
Undistributed losses of unconsolidated subsidiaries..... 41,482 -- --
Loss on impairment/disposal of Latin America equity
investments........................................... 241,587 -- --
Changes in other assets and liabilities:
Accounts receivable and unbilled revenues, net........ (1,029,170) 1,124,118 (253,736)
Inventory............................................. (66,301) (15,550) 53,822
Accounts payable...................................... 1,053,983 (1,121,200) 103,997
Federal tax refund.................................... 86,155 -- --
Fuel cost over (under) recovery/surcharge............. (480,895) 422,672 250,191
Interest and taxes accrued............................ (195,941) 270,084 (79,397)
Net regulatory assets and liabilities................. (15,962) (49,523) (1,058,439)
Non-trading derivatives, net.......................... -- 14,781 (108,478)
Other current assets.................................. 22,288 (16,661) (39,206)
Other current liabilities............................. 156,592 (99,741) (82,600)
Other assets.......................................... (24,373) 91,168 18,644
Other liabilities..................................... 71,907 (49,237) 151,950
Other, net.............................................. 3,947 62,828 27,966
----------- ----------- -----------
Net cash provided by operating activities........... 954,112 1,731,261 303,405
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures...................................... (905,151) (1,213,475) (854,376)
Proceeds from sale of AOL Time Warner investment.......... -- -- 43,419
Investments in unconsolidated subsidiaries................ (60,799) -- --
Proceeds from sale of Latin America equity investments.... 790,166 -- --
Other, net................................................ (43,390) 14,919 55,995
----------- ----------- -----------
Net cash used in investing activities............... (219,174) (1,198,556) (754,962)
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from long-term debt.............................. 329,475 1,296,779 1,320,723
Increase (decrease) in short-term borrowings, net......... 1,905,271 (1,356,162) 668,386
Payments of long-term debt................................ (493,286) (632,116) (696,218)
Debt issuance costs....................................... (8,684) (10,608) (196,830)
Payment of common stock dividends......................... (426,859) (433,918) (324,682)
Proceeds from issuance of common stock, net............... 53,809 100,430 12,994
Purchase of treasury stock................................ (27,306) -- --
Redemption of preferred stock............................. -- (10,227) --
Increase in restricted cash related to securitization
financing............................................... -- (6,775) --
Redemption of indexed debt securities..................... -- -- (45,085)
Other, net................................................ 20,933 7,678 (16,525)
----------- ----------- -----------
Net cash provided by (used in) financing
activities........................................ 1,353,353 (1,044,919) 722,763
----------- ----------- -----------
NET CASH PROVIDED BY (USED IN) DISCONTINUED OPERATIONS...... (2,055,805) 445,260 15,774
----------- ----------- -----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS........ 32,486 (66,954) 286,980
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR.............. 52,908 85,394 18,440
----------- ----------- -----------
CASH AND CASH EQUIVALENTS AT END OF YEAR.................... $ 85,394 $ 18,440 $ 305,420
=========== =========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash Payments:
Interest................................................ $ 737,217 $ 534,812 $ 584,595
Income taxes............................................ 447,658 321,927 82,516
See Notes to the Company's Consolidated Financial Statements
4
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED SHAREHOLDERS' EQUITY
2000 2001 2002
-------------------- -------------------- ---------------------
SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT
------- ---------- ------- ---------- ------- -----------
(THOUSANDS OF DOLLARS AND SHARES)
PREFERENCE STOCK, NONE OUTSTANDING.......................... -- $ -- -- $ -- -- $ --
CUMULATIVE PREFERRED STOCK, $0.01 PAR VALUE; AUTHORIZED
20,000,000 SHARES
Balance, beginning of year................................ 97 9,740 97 9,740 -- --
Redemption of preferred stock............................. -- -- (97) (9,740) -- --
------- ---------- ------- ---------- ------- -----------
Balance, end of year...................................... 97 9,740 -- -- -- --
------- ---------- ------- ---------- ------- -----------
COMMON STOCK, $0.01 PAR VALUE; AUTHORIZED 1,000,000,000
SHARES
Balance, beginning of year................................ 297,612 2,976 299,914 2,999 302,944 3,029
Issuances related to benefit and investment plans......... 2,302 23 3,030 30 2,073 21
------- ---------- ------- ---------- ------- -----------
Balance, end of year...................................... 299,914 2,999 302,944 3,029 305,017 3,050
------- ---------- ------- ---------- ------- -----------
ADDITIONAL PAID-IN-CAPITAL
Balance, beginning of year................................ -- 3,179,775 -- 3,254,191 -- 3,894,272
Issuances related to benefit and investment plans......... -- 74,424 -- 130,630 -- 11,866
Gain (loss) on issuance of subsidiaries' stock............ -- -- -- 509,499 -- (12,835)
Distribution of Reliant Resources......................... -- -- -- -- -- (847,200)
Other..................................................... -- (8) -- (48) -- (60)
------- ---------- ------- ---------- ------- -----------
Balance, end of year...................................... -- 3,254,191 -- 3,894,272 -- 3,046,043
------- ---------- ------- ---------- ------- -----------
TREASURY STOCK
Balance, beginning of year................................ (3,625) (93,296) (4,811) (120,856) -- --
Shares acquired........................................... (1,184) (27,306) -- -- -- --
Contribution to pension plan.............................. -- -- 4,512 113,336 -- --
Other..................................................... (2) (254) 299 7,520 -- --
------- ---------- ------- ---------- ------- -----------
Balance, end of year...................................... (4,811) (120,856) -- -- -- --
------- ---------- ------- ---------- ------- -----------
UNEARNED ESOP STOCK
Balance, beginning of year................................ (10,679) (199,226) (8,639) (161,158) (7,070) (131,888)
Issuances related to benefit plan......................... 2,040 38,068 1,569 29,270 2,154 53,839
------- ---------- ------- ---------- ------- -----------
Balance, end of year...................................... (8,639) (161,158) (7,070) (131,888) (4,916) (78,049)
------- ---------- ------- ---------- ------- -----------
RETAINED EARNINGS (DEFICIT)
Balance, beginning of year................................ 2,500,181 2,520,350 3,176,533
Net income (loss)......................................... 447,111 979,701 (3,920,234)
Common stock dividends -- $1.50 per share in 2000, $1.125
per share in 2001 and $1.07 per share in 2002........... (426,942) (323,518) (318,382)
---------- ---------- -----------
Balance, end of year...................................... 2,520,350 3,176,533 (1,062,083)
---------- ---------- -----------
ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
Balance, beginning of year................................ (93,818) (23,206) (204,023)
---------- ---------- -----------
Other comprehensive income (loss), net of tax:
Additional minimum pension liability adjustment........... (18,419) 12,764 (414,254)
Cumulative effect of adoption of SFAS No. 133............. -- 38,092 --
Net deferred gain from cash flow hedges................... -- (15,549) (69,615)
Reclassification of deferred loss (gain) from cash flow
hedges realized in net income........................... -- (59,055) 39,705
Other comprehensive income (loss) from discontinued
operations.............................................. 89,031 (157,069) 161,176
---------- ---------- -----------
Other comprehensive income (loss)......................... 70,612 (180,817) (282,988)
---------- ---------- -----------
Balance, end of year...................................... (23,206) (204,023) (487,011)
---------- ---------- -----------
Total Shareholders' Equity.............................. $5,482,060 $6,737,923 $ 1,421,950
========== ========== ===========
See Notes to the Company's Consolidated Financial Statements
5
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) BACKGROUND AND BASIS OF PRESENTATION
RESTRUCTURING
CenterPoint Energy, Inc. (CenterPoint Energy or the Company) is a public
utility holding company, created on August 31, 2002 as part of a corporate
restructuring of Reliant Energy, Incorporated (Reliant Energy) that implemented
certain requirements of the Texas electric restructuring law described below. In
December 2000, Reliant Energy transferred a significant portion of its
unregulated businesses to Reliant Resources, Inc. (Reliant Resources), which, at
the time, was a wholly owned subsidiary of Reliant Energy. Reliant Resources
conducted an initial public offering of approximately 20% of its common stock in
May 2001 (the Reliant Resources Offering). In December 2001, Reliant Energy's
shareholders approved an agreement and plan of merger pursuant to which the
following steps occurred on August 31, 2002 (the Restructuring):
- CenterPoint Energy became the holding company for the Reliant Energy
group of companies;
- Reliant Energy and its subsidiaries became subsidiaries of CenterPoint
Energy; and
- Each share of Reliant Energy common stock was converted into one share of
CenterPoint Energy common stock.
On September 5, 2002, CenterPoint Energy announced that its board of
directors had declared a distribution of all of the shares of Reliant Resources
common stock owned by CenterPoint Energy to its common shareholders on a pro
rata basis (the Reliant Resources Distribution). The Reliant Resources
Distribution was made on September 30, 2002 to shareholders of record of
CenterPoint Energy common stock as of the close of business on September 20,
2002.
CenterPoint Energy is the successor to Reliant Energy for financial
reporting purposes under the Securities Exchange Act of 1934. The Company's
indirect wholly owned operating subsidiaries own and operate electric
transmission and distribution facilities, natural gas distribution facilities,
natural gas pipelines and electric generating plants. The Company is subject to
regulation as a "registered holding company" under the Public Utility Holding
Company Act of 1935 (1935 Act). As of December 31, 2002, the Company's indirect
wholly owned subsidiaries include:
- CenterPoint Energy Houston Electric, LLC (CenterPoint Houston), which
engages in Reliant Energy's former electric transmission and distribution
business in a 5,000-square mile area of the Texas Gulf Coast that
includes Houston;
- CenterPoint Energy Resources Corp. (CERC Corp., and together with its
subsidiaries, CERC), formerly Reliant Energy Resources Corp. (RERC Corp.,
and, together with its subsidiaries, RERC), which owns gas distribution
systems that together form one of the United States' largest natural gas
distribution operations in terms of number of customers served. Through
wholly owned subsidiaries, CERC owns two interstate natural gas pipelines
and gas gathering systems and provides various ancillary services; and
- Texas Genco Holdings, Inc. (Texas Genco), which owns and operates the
Texas generating plants formerly belonging to the integrated electric
utility that was a part of Reliant Energy. The Company distributed
approximately 19% of the 80 million outstanding shares of common stock of
Texas Genco to the Company's shareholders on January 6, 2003. As a result
of the distribution of Texas Genco common stock, CenterPoint Energy
recorded an impairment charge of $396 million, which will be reflected as
a regulatory asset representing stranded costs in the Consolidated
Balance Sheet in the first quarter of 2003. This impairment charge
represents the excess of the carrying value of CenterPoint Energy's net
investment in Texas Genco over the market value of Texas Genco's common
stock. Additionally, in connection with the distribution, CenterPoint
Energy will record minority interest ownership in Texas Genco of $146
million in its Consolidated Balance Sheet in the first quarter of 2003.
6
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
CERTAIN RECLASSIFICATIONS AND OTHER ITEMS
The consolidated financial statements presented herein have been revised to
give effect to the following items within CenterPoint Energy's historical
consolidated financial statements as reported in its Annual Report on Form 10-K
for the year ended December 31, 2002:
- certain reclassifications necessary to present CenterPoint Energy's
remaining Latin America operations as discontinued operations in
accordance with Statement of Financial Accounting Standards (SFAS) No.
144, "Accounting for the Impairment or Disposal of Long-Lived Assets"
(SFAS No. 144) as a result of the sale of these operations subsequent to
December 31, 2002;
- certain reclassifications necessary to present the extinguishment of debt
recorded in the fourth quarter of 2002 as interest expense in accordance
with SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64,
Amendment of FASB Statement No. 13, and Technical Corrections" (SFAS No.
145);
- the retroactive effect of the adoption of Emerging Issues Task Force
Issue No. 02-03, "Issues Involved in Accounting for Derivative Contracts
Held for Trading Purposes and Contracts Involved in Energy Trading and
Risk Management Activities", as it relates to the disclosure in Note 2 of
revenues of Reliant Resources which are included in discontinued
operations; and
- the pro-forma effect on the financial statements for each of the three
years ended December 31, 2002, as if the Company had adopted SFAS No.
143, "Accounting for Asset Retirement Obligations" as of January 1, 2000.
The items discussed above did not affect net income for any of the three
years ended December 31, 2002.
BASIS OF PRESENTATION
The consolidated financial statements have been prepared to reflect the
effect of the Reliant Resources Distribution on the CenterPoint Energy financial
statements. The consolidated financial statements present the Reliant Resources
businesses (Wholesale Energy, European Energy, Retail Energy and related
corporate costs) as discontinued operations, in accordance with SFAS No. 144.
Accordingly, the consolidated financial statements for each of the two years in
the period ended December 31, 2001 and for the nine months ended September 30,
2002 reflect these operations as discontinued operations.
The Company's reportable business segments include the following: Electric
Transmission & Distribution, Electric Generation, Natural Gas Distribution,
Pipelines and Gathering and Other Operations. Effective with the deregulation of
the Texas electric industry beginning January 1, 2002, the basis of business
segment reporting has changed for the Company's electric operations. The Texas
generation operations of CenterPoint Energy's former integrated electric
utility, Reliant Energy HL&P (Texas Genco), are now a separate reportable
business segment, Electric Generation, whereas they previously had been part of
the Electric Operations business segment. The remaining transmission and
distribution function (CenterPoint Houston) is now reported separately in the
Electric Transmission & Distribution business segment. Natural Gas Distribution
consists of intrastate natural gas sales to, and natural gas transportation and
distribution for, residential, commercial, industrial and institutional
customers and non-rate regulated retail gas marketing operations to commercial
and industrial customers. Pipelines and Gathering includes the interstate
natural gas pipeline operations and the natural gas gathering and pipeline
services businesses. Other Operations consists primarily of certain Latin
America equity investments, office buildings and other real estate used in our
business operations, district cooling in the central business district in
downtown Houston, energy management services and other corporate operations
which support all of the Company's business operations.
7
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(2) DISCONTINUED OPERATIONS
DISCONTINUED OPERATIONS -- RELIANT RESOURCES
On September 30, 2002, CenterPoint Energy distributed to its shareholders
240 million shares of Reliant Resources common stock, which represented
CenterPoint Energy's approximately 83% ownership interest in Reliant Resources,
by means of a tax-free spin-off in the form of a dividend. Holders of
CenterPoint Energy common stock on the record date received 0.788603 shares of
Reliant Resources common stock for each share of CenterPoint Energy stock that
they owned on the record date. The total value of the Reliant Resources
Distribution, after the impairment charge discussed below, was $847 million.
As a result of the spin-off of Reliant Resources, CenterPoint Energy
recorded a non-cash loss on disposal of discontinued operations of $4.4 billion
in 2002. This loss represents the excess of the carrying value of CenterPoint
Energy's net investment in Reliant Resources over the market value of Reliant
Resources' common stock. CenterPoint Energy's financial statements reflect the
reclassifications necessary to present Reliant Resources as discontinued
operations for all periods shown. Through the date of the spin-off, Reliant
Resources' assets and liabilities are shown in CenterPoint Energy's Consolidated
Balance Sheets as current and non-current assets and liabilities of discontinued
operations.
Reliant Resources' revenues for the years ended December 31, 2000 and 2001
and the nine months ended September 30, 2002 included in discontinued operations
were $3.5 billion, $6.5 billion and $9.5 billion, respectively as reported in
Reliant Resources' Annual Report on Form 10-K/A, Amendment No. 1, filed April
30, 2003 with the Securities and Exchange Commission (SEC). Income from
discontinued operations for the years ended December 31, 2000 and 2001 and the
nine months ended September 30, 2002 is reported net of income tax expense of
$84.3 million, $271.6 million and $290.1 million, respectively. These amounts
have been restated to reflect Reliant Resources' adoption of Emerging Issues
Task Force (EITF) Issue No. 02-3, "Recognition and Reporting Gains and Losses on
Energy Trading Contracts under Issues No. 98-10 and 00-17" during the third
quarter of 2002.
Reliant Resources' energy trading, marketing, power origination and risk
management services activities and contracted sales of electricity to large
commercial, industrial and institutional customers are accounted for under
mark-to-market accounting. Under the mark-to-market method of accounting,
financial instruments and contractual commitments are recorded at fair value in
revenues upon contract execution. The net changes in their fair values are
reported as revenues in the period of change. Trading and marketing revenues
related to the physical sale of natural gas, electric power and other energy
related commodities are recorded on a gross basis in the delivery period.
Reliant Resources' gains and losses related to financial instruments and
contractual commitments qualifying and designated as hedges related to the sale
of electric power and sales and purchases of natural gas are recognized in the
same period as the settlement of the underlying physical transaction. These
realized gains and losses are included in income from discontinued operations.
8
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Summarized balance sheet information related to discontinued operations of
Reliant Resources is as follows as of December 31, 2001:
DECEMBER 31,
2001
--------------
(IN MILLIONS)
CURRENT ASSETS:
Accounts and notes receivable, principally customer....... $ 1,182,140
Trading and marketing assets.............................. 1,611,393
Other current assets...................................... 1,863,654
------------
Total current assets................................... 4,657,187
------------
PROPERTY, PLANT AND EQUIPMENT, NET.......................... 4,558,393
------------
OTHER ASSETS:
Goodwill.................................................. 891,060
Other noncurrent assets................................... 2,192,823
------------
Total other assets..................................... 3,083,883
------------
TOTAL ASSETS........................................... 12,299,463
------------
CURRENT LIABILITIES:
Accounts payable, principally trade....................... 1,002,326
Trading and marketing liabilities......................... 1,478,336
Other current liabilities................................. 1,256,974
------------
Total current liabilities.............................. 3,737,636
------------
OTHER LONG-TERM LIABILITIES................................. 2,748,304
------------
LONG-TERM DEBT.............................................. 868,194
------------
TOTAL LIABILITIES...................................... 7,354,134
------------
NET ASSETS OF DISCONTINUED OPERATIONS....................... $ 4,945,329
============
DISCONTINUED OPERATIONS -- LATIN AMERICA
Effective December 1, 2000, the Company's board of directors approved a
plan to dispose of its Latin America operations through sales of its assets.
Accordingly, in the Company's 2000 consolidated financial statements, the
Company reported the results of its Latin America operations as discontinued
operations in accordance with Accounting Principles Board (APB) Opinion No. 30
"Reporting the Results of Operations -- Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions" (APB Opinion No. 30) for each of the three years in the
period ended December 31, 2000.
In the fourth quarter of 2000, the Latin America business segment sold its
equity investments in El Salvador, Colombia and Brazil for an aggregate $790
million in after-tax proceeds. The Company recorded a $294 million loss in
connection with the sale of these investments.
In the fourth quarter of 2000 and in the first quarter of 2001, the Company
recorded additional impairments related to its remaining Latin America
operations of $41 million and $6 million, respectively, based on the expected
net realizable value of the businesses upon their disposition.
On December 20, 2001, negotiations for the sale of the remaining Latin
America investments were terminated as a result of adverse economic developments
in Argentina.
9
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
During December 2001, the Company concluded there were indicators of
impairment related to the remaining assets in this business segment, and
accordingly, an impairment evaluation was conducted at the end of the fourth
quarter under the guidelines of SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed of" (SFAS No. 121).
This evaluation resulted in an impairment charge of $74 million, representing
the excess of book value over estimated net realizable value. The fair value of
the remaining net assets was determined using a net discounted cash flows
approach. The charge was included as a component of operating income with
respect to consolidated subsidiaries and other income with respect to equity
investments in unconsolidated subsidiaries. The impairment was primarily related
to the economic deterioration in Argentina.
Revenues from the Company's remaining Latin America operations for each of
the three years ended December 31, 2002 included in discontinued operations were
$88 million, $92 million and $15 million, respectively. Loss from Latin America
discontinued operations for the years ended December 31, 2000 and 2001 is
reported net of income tax benefit of $1 million and $28 million, respectively.
Income from Latin America discontinued operations for the year ended December
31, 2002 is reported net of income tax expense of $2 million.
Subsequent to December 31, 2002, the Company sold its remaining Latin
America operations. The consolidated financial statements present these Latin
America operations as discontinued operations in accordance with SFAS No. 144.
Accordingly, the consolidated financial statements include the necessary
reclassifications to reflect these operations as discontinued operations for
each of the three years in the period ended December 31, 2002.
Summarized balance sheet information related to discontinued operations of
Latin America is as follows as of December 31, 2001 and 2002:
DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS)
CURRENT ASSETS:
Cash...................................................... $17,060 $ 6,291
Other receivables......................................... 13,483 3,611
Other current assets...................................... 2,441 260
------- -------
Total current assets................................... 32,984 10,162
------- -------
OTHER NON-CURRENT ASSETS.................................... 13,091 4,997
------- -------
TOTAL ASSETS........................................... 46,075 15,159
------- -------
CURRENT LIABILITIES:
Accounts payable, principally trade....................... 7,438 --
Other current liabilities................................. 6,649 --
------- -------
Total current liabilities.............................. 14,087 --
------- -------
OTHER LONG-TERM LIABILITIES................................. 9,258 --
------- -------
LONG-TERM DEBT.............................................. 4,500 --
------- -------
TOTAL LIABILITIES...................................... 27,845 --
------- -------
NET ASSETS OF DISCONTINUED OPERATIONS....................... $18,230 $15,159
======= =======
10
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(3) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(A) RECLASSIFICATIONS AND USE OF ESTIMATES
In addition to the items discussed in Note 2, some amounts from the
previous years have been reclassified to conform to the 2002 presentation of
financial statements. These reclassifications do not affect net income.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
(B) PRINCIPLES OF CONSOLIDATION
The accounts of CenterPoint Energy and its wholly owned and majority owned
subsidiaries are included in the consolidated financial statements. All
significant intercompany transactions and balances are eliminated in
consolidation. The Company uses the equity method of accounting for investments
in entities in which the Company has an ownership interest between 20% and 50%
and exercises significant influence. Other investments, excluding marketable
securities, are generally carried at cost.
(C) REVENUES
The Company records revenue for electricity and natural gas sales and
services to retail customers under the accrual method and these revenues are
generally recognized upon delivery. The Pipelines and Gathering business segment
records revenues as transportation services are provided. Energy sales and
services not billed by month-end are accrued based upon estimated energy and
services delivered.
(D) LONG-LIVED ASSETS AND INTANGIBLES
The Company records property, plant and equipment at historical cost. The
Company expenses repair and maintenance costs as incurred. Property, plant and
equipment includes the following:
DECEMBER 31,
ESTIMATED USEFUL -----------------
LIVES (YEARS) 2001 2002
---------------- ------- -------
(IN MILLIONS)
Electric transmission & distribution............. 5-75 $ 6,211 $ 5,960
Electric generation.............................. 5-60 9,356 9,610
Natural gas distribution......................... 5-50 1,980 2,151
Pipelines and gathering.......................... 5-75 1,633 1,686
Other property................................... 3-40 146 494
------- -------
Total.......................................... 19,326 19,901
Accumulated depreciation and amortization........ (8,126) (8,492)
------- -------
Property, plant and equipment, net.......... $11,200 $11,409
======= =======
In July 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 142, "Goodwill and Other Intangible Assets" (SFAS No. 142), which provides
that goodwill and certain intangibles with indefinite lives will not be
amortized into results of operations, but instead will be reviewed periodically
for impairment and written down and charged to results of operations only in the
periods in which the recorded value of goodwill and certain intangibles with
indefinite lives is more than its fair value. On January 1, 2002,
11
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
the Company adopted the provisions of the statement that apply to goodwill and
intangible assets acquired prior to June 30, 2001.
With the adoption of SFAS No. 142, the Company ceased amortization of
goodwill as of January 1, 2002. A reconciliation of previously reported net
income and earnings per share to the amounts adjusted for the exclusion of
goodwill amortization follows:
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
(IN MILLIONS, EXCEPT PER
SHARE)
Reported income from continuing operations before cumulative
effect of accounting change............................... $ 243 $ 496 $ 366
Add: Goodwill amortization, net of tax...................... 50 49 --
----- ----- -----
Adjusted income from continuing operations before cumulative
effect of accounting change............................... $ 293 $ 545 $ 366
===== ===== =====
Basic Earnings Per Share:
Reported income from continuing operations before cumulative
effect of accounting change............................... $0.85 $1.71 $1.23
Add: Goodwill amortization, net of tax...................... 0.18 0.17 --
----- ----- -----
Adjusted income from continuing operations before cumulative
effect of accounting change............................... $1.03 $1.88 $1.23
===== ===== =====
Diluted Earnings Per Share:
Reported income from continuing operations before cumulative
effect of accounting change............................... $0.84 $1.70 $1.22
Add: Goodwill amortization, net of tax...................... 0.18 0.17 --
----- ----- -----
Adjusted income from continuing operations before cumulative
effect of accounting change............................... $1.02 $1.87 $1.22
===== ===== =====
The components of the Company's other intangible assets consist of the
following:
DECEMBER 31, 2001 DECEMBER 31, 2002
----------------------- -----------------------
CARRYING ACCUMULATED CARRYING ACCUMULATED
AMOUNT AMORTIZATION AMOUNT AMORTIZATION
-------- ------------ -------- ------------
(IN MILLIONS)
Land Use Rights.......................... $59 $(11) $61 $(12)
Other.................................... 16 (2) 19 (2)
--- ---- --- ----
Total.................................. $75 $(13) $80 $(14)
=== ==== === ====
The Company recognizes specifically identifiable intangibles, including
land use rights and permits, when specific rights and contracts are acquired.
The Company has no intangible assets with indefinite lives recorded as of
December 31, 2002. The Company amortizes other acquired intangibles on a
straight-line basis over the lesser of their contractual or estimated useful
lives that range from 40 to 75 years for land rights and 4 to 25 years for other
intangibles.
12
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Amortization expense for other intangibles for 2000, 2001 and 2002 was $1.3
million, $1.2 million and $1.9 million, respectively. Estimated amortization
expense for the five succeeding fiscal years is as follows (in millions):
2003........................................................ $ 2
2004........................................................ 2
2005........................................................ 2
2006........................................................ 2
2007........................................................ 2
---
Total..................................................... $10
===
Goodwill by reportable business segment is as follows (in millions):
DECEMBER 31,
2001 AND 2002
-------------
Natural Gas Distribution.................................... $1,085
Pipelines and Gathering..................................... 601
Other Operations............................................ 55
------
Total..................................................... $1,741
======
The Company completed its review during the second quarter of 2002 pursuant
to SFAS No. 142 for its reporting units in the Natural Gas Distribution,
Pipelines and Gathering and Other Operations business segments. No impairment
was indicated as a result of this assessment.
The Company periodically evaluates long-lived assets, including property,
plant and equipment, goodwill and specifically identifiable intangibles, when
events or changes in circumstances indicate that the carrying value of these
assets may not be recoverable. The determination of whether an impairment has
occurred is based on an estimate of undiscounted cash flows attributable to the
assets, as compared to the carrying value of the assets. An impairment analysis
of generating facilities requires estimates of possible future market prices,
load growth, competition and many other factors over the lives of the
facilities. A resulting impairment loss is highly dependent on these underlying
assumptions.
During the fourth quarter of 2001, the Reliant Resources Distribution was
deemed to be a probable event. As Reliant Resources has an option to purchase
the Company's 81% interest in its generation subsidiary, Texas Genco, in 2004
(see Note 4(b)), the Company was required to evaluate Texas Genco's assets for
potential impairment in accordance with SFAS No. 121, due to an expected
decrease in the number of years the Company expects to hold and operate these
assets. As of December 31, 2001, no impairment had been indicated. As a result
of the distribution of approximately 19% of Texas Genco's common stock to
CenterPoint Energy's shareholders on January 6, 2003, the Company re-evaluated
these assets for impairment as of December 31, 2002 in accordance with SFAS No.
144. As of December 31, 2002, no impairment had been indicated. The Company
anticipates that future events, such as a change in the estimated holding period
of Texas Genco's generation assets, will require the Company to re-evaluate
these assets for impairment between now and 2004. If an impairment is indicated,
it could be material and will not be fully recoverable through the 2004 true-up
proceeding calculations (see Note 4(a)).
The Texas electric restructuring law provides the Company recovery of the
regulatory book value of its Texas generating assets for the amount the net
regulatory book value exceeds the estimated market value. If the Company's 81%
interest in Texas Genco is sold to Reliant Resources or to a third party in the
future, a loss on sale of these assets, or an impairment of the recorded
recoverable electric generation plant mitigation regulatory asset (see Note
3(e)), will occur to the extent the recorded book value of the Texas generating
13
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
assets exceeds the regulatory book value. As of December 31, 2002, the recorded
book value was $649 million in excess of the regulatory book value. This amount
declines each year as the recorded book value is depreciated and increases by
the amount of capital expenditures. For further discussion of the difference
between the regulatory book value and the recorded book value, see Note 4.
(E) REGULATORY ASSETS AND LIABILITIES
The Company applies the accounting policies established in SFAS No. 71,
"Accounting for the Effects of Certain Types of Regulation" (SFAS No. 71) to the
accounts of the Electric Transmission & Distribution business segment and the
utility operations of the Natural Gas Distribution business segment and to some
of the accounts of the Pipelines and Gathering business segment. For information
regarding Texas Genco's discontinuance of the application of SFAS No. 71 in 1999
and the effect on its regulatory assets and the Texas electric restructuring
law, see Note 4(a).
The following is a list of regulatory assets/liabilities reflected on the
Company's Consolidated Balance Sheets as of December 31, 2001 and 2002:
DECEMBER 31,
----------------
2001 2002
------- ------
(IN MILLIONS)
Excess cost over market (ECOM) true-up...................... $ -- $ 697
Recoverable electric generation related regulatory assets,
net....................................................... 160 100
Securitized regulatory asset................................ 740 706
Regulatory tax asset, net................................... 111 178
Unamortized loss on reacquired debt......................... 62 58
Recoverable electric generation plant mitigation............ 1,967 2,051
Excess mitigation liability................................. (1,126) (969)
Other long-term assets/liabilities.......................... 4 52
------- ------
Total..................................................... $ 1,918 $2,873
======= ======
If events were to occur that would make the recovery of these assets and
liabilities no longer probable, the Company would be required to write off or
write down these regulatory assets and liabilities. In addition, the Company
would be required to determine any impairment of the carrying costs of plant and
inventory assets.
Through December 31, 2001, the Public Utility Commission of Texas (Texas
Utility Commission) provided for the recovery of most of the Company's fuel and
purchased power costs from customers through a fixed fuel factor included in
electric rates. Included in the above table in recoverable electric generation
related regulatory assets, net are $126 million and $66 million of net
regulatory assets related to the recovery of fuel costs as of December 31, 2001
and 2002, respectively. For additional information regarding CenterPoint
Houston's fuel filings, see Note 4(c).
Texas Genco sells, through auctions, entitlements to substantially all of
its installed electric generation capacity, excluding reserves for planned and
forced outages. In September, October and December 2001, and March, July,
October and November 2002, Texas Genco conducted auctions as required by the
Texas Utility Commission and by the master separation agreement with Reliant
Resources.
The capacity auctions were consummated at market-based prices that are
substantially below the estimate of those prices made by the Texas Utility
Commission in the spring of 2001. The Texas electric restructuring law provides
for the recovery in a "true-up" proceeding in 2004 of any difference between
market power prices and the earlier estimates of those prices by the Texas
Utility Commission, using the prices received in the auctions required by the
Texas Utility Commission as the measure of market prices (ECOM
14
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
true-up). In 2002, CenterPoint Energy recorded approximately $697 million in
non-cash revenue related to the cost recovery of the difference between the
market power prices and the Texas Utility Commission's earlier estimates. For
additional information regarding the capacity auctions and the related true-up
proceeding, see Note 4(a).
In 2001, the Company monetized $738 million of regulatory assets in a
securitization financing authorized by the Texas Utility Commission pursuant to
the Texas electric restructuring law. The securitized regulatory assets are
being amortized ratably as transition charges are collected over the life of the
outstanding transition bonds. For additional information regarding the
securitization financing, see Note 4(a).
For additional information regarding recoverable impaired plant costs and
recoverable electric generation related assets and the related amortization
during 2000 and 2001, see Notes 3(g) and 4(a).
(F) DEPRECIATION AND AMORTIZATION EXPENSE
Depreciation is computed using the straight-line method based on economic
lives or a regulatory mandated recovery period. Other amortization expense
includes amortization of regulatory assets and other intangibles. See Notes 3(f)
and 4(a) for additional discussion of these items.
The following table presents depreciation, goodwill amortization and other
amortization expense for 2000, 2001 and 2002.
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
(IN MILLIONS)
Depreciation expense........................................ $279 $284 $539
Goodwill amortization expense............................... 50 49 --
Other amortization expense.................................. 391 332 77
---- ---- ----
Total depreciation and amortization expense............... $720 $665 $616
==== ==== ====
(G) CAPITALIZATION OF INTEREST AND ALLOWANCE FOR FUNDS USED DURING CONSTRUCTION
Allowance for funds used during construction (AFUDC) represents the
approximate net composite interest cost of borrowed funds and a reasonable
return on the equity funds used for construction. Although AFUDC increases both
utility plant and earnings, it is realized in cash through depreciation
provisions included in rates for subsidiaries that apply SFAS No. 71. Interest
and AFUDC for subsidiaries that apply SFAS No. 71 are capitalized as a component
of projects under construction and will be amortized over the assets' estimated
useful lives. During 2000, 2001 and 2002, the Company capitalized interest and
AFUDC related to debt of $11 million, $9 million and $12 million, respectively.
(H) INCOME TAXES
The Company files a consolidated federal income tax return and follows a
policy of comprehensive interperiod income tax allocation. The Company uses the
liability method of accounting for deferred income taxes and measures deferred
income taxes for all significant income tax temporary differences. Investment
tax credits were deferred and are being amortized over the estimated lives of
the related property. Unremitted earnings from the Company's foreign operations
are deemed to be permanently reinvested in foreign operations. For additional
information regarding income taxes, see Note 12.
(I) ACCOUNTS RECEIVABLE AND ALLOWANCE FOR DOUBTFUL ACCOUNTS
Accounts receivable are net of an allowance for doubtful accounts of $46
million and $24 million at December 31, 2001 and 2002, respectively. The
provision for doubtful accounts in the Company's Statements
15
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
of Consolidated Operations for 2000, 2001 and 2002 was $38 million, $59 million
and $26 million, respectively.
During 2000 and 2001, substantially all of the customer accounts receivable
of the Company's integrated electric utility were sold. Receivables aggregating
$4.9 billion and $5.8 billion were sold in 2000 and 2001, respectively. In
December 2001, the Company terminated the agreement under which it sold electric
customer accounts receivable and recorded an early termination charge of $20
million in the Statements of Consolidated Operations. Proceeds for the
repurchase of receivables, which occurred in January 2002, were obtained from a
combination of bank loans and the sale of commercial paper. Net proceeds from
the sale of accounts receivable were $523 million at December 31, 2001. Such
proceeds were not reflected as debt in the Consolidated Balance Sheets.
In the first quarter of 2002, CERC reduced its trade receivables facility
from $350 million to $150 million. During 2001 and 2002, CERC sold its customer
accounts receivable and utilized $346 million of its $350 million receivables
facility at December 31, 2001 and $107 million of its $150 million receivables
facility at December 31, 2002. The amount of receivables sold will fluctuate
based on the amount of receivables created by CERC.
In connection with CERC's November 2002 amendment and extension of its
receivables facility, CERC Corp. formed a bankruptcy remote subsidiary for the
sole purpose of buying and selling receivables created by CERC. This transaction
is accounted for as a sale of receivables under the provisions of SFAS No. 140,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities", and, as a result, the related receivables are excluded from the
Consolidated Balance Sheet.
(J) INVENTORY
Inventory consists principally of materials and supplies, coal and lignite
and natural gas. Inventories used in the production of electricity and in the
retail natural gas distribution operations are valued at the lower of average
cost or market except for coal and lignite, which are valued under the last-in,
first-out method.
DECEMBER 31,
-------------
2001 2002
----- -----
(IN MILLIONS)
Materials and supplies...................................... $208 $185
Coal and lignite............................................ 58 43
Natural gas................................................. 131 119
Other....................................................... 9 5
---- ----
Total inventory........................................... $406 $352
==== ====
(K) INVESTMENT IN OTHER DEBT AND EQUITY SECURITIES
In accordance with SFAS No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" (SFAS No. 115), the Company reports
"available-for-sale" securities at estimated fair value within other long-term
assets in the Company's Consolidated Balance Sheets and any unrealized gain or
loss, net of tax, as a separate component of shareholders' equity and
accumulated other comprehensive income. In accordance with SFAS No. 115, the
Company reports "trading" securities at estimated fair value in the Company's
Consolidated Balance Sheets, and any unrealized holding gains and losses are
recorded as other income (expense) in the Company's Statements of Consolidated
Operations.
As of December 31, 2001 and 2002, the Company held debt and equity
securities in its nuclear decommissioning trust, which is reported at its fair
value of $169 million and $163 million, respectively, in the Company's
Consolidated Balance Sheets in other long-term assets. Any unrealized losses or
gains are
16
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
accounted for as a long-term asset/liability as the Company will not benefit
from any gains, and losses will be recovered through the rate-making process.
As of December 31, 2001 and 2002, the Company held an investment in AOL
Time Warner Inc. (AOL TW) common stock (AOL TW Common), which was classified as
a "trading" security. For information regarding the Company's investment in AOL
TW Common, see Note 7.
(L) ENVIRONMENTAL COSTS
The Company expenses or capitalizes environmental expenditures, as
appropriate, depending on their future economic benefit. The Company expenses
amounts that relate to an existing condition caused by past operations, and that
do not have future economic benefit. The Company records undiscounted
liabilities related to these future costs when environmental assessments and/or
remediation activities are probable and the costs can be reasonably estimated.
Subject to SFAS No. 71, a corresponding regulatory asset is recorded in
anticipation of recovery through the rate making process by subsidiaries that
apply SFAS No. 71.
(M) FOREIGN CURRENCY ADJUSTMENTS
Local currencies are the functional currency of the Company's foreign
operations. Foreign subsidiaries' assets and liabilities have been translated
into U.S. dollars using the exchange rate in effect at the balance sheet date.
Revenues, expenses, gains and losses have been translated using the weighted
average exchange rate for each month prevailing during the periods reported.
Cumulative adjustments resulting from translation have been recorded as a
component of accumulated other comprehensive loss in shareholders' equity.
(N) STATEMENTS OF CONSOLIDATED CASH FLOWS
For purposes of reporting cash flows, the Company considers cash
equivalents to be short-term, highly liquid investments with maturities of three
months or less from the date of purchase. In connection with the issuance of
transition bonds in October 2001, the Company was required to establish
restricted cash accounts to collateralize the bonds that were issued in this
financing transaction. These restricted cash accounts are classified as
long-term as they are not available for withdrawal until the maturity of the
bonds. Cash and Cash Equivalents does not include restricted cash. For
additional information regarding the securitization financing, see Note 4(a).
(O) NEW ACCOUNTING PRONOUNCEMENTS
In July 2001, the FASB issued SFAS No. 141, "Business Combinations" (SFAS
No. 141). SFAS No. 141 requires business combinations initiated after June 30,
2001 to be accounted for using the purchase method of accounting and broadens
the criteria for recording intangible assets separate from goodwill. Recorded
goodwill and intangibles will be evaluated against these new criteria and may
result in certain intangibles being transferred to goodwill, or alternatively,
amounts initially recorded as goodwill may be separately identified and
recognized apart from goodwill. The Company adopted the provisions of the
statement which apply to goodwill and intangible assets acquired prior to June
30, 2001 on January 1, 2002. The adoption of SFAS No. 141 did not have any
impact on the Company's historical results of operations or financial position.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations" (SFAS No. 143). SFAS No. 143 requires the fair value of
an asset retirement obligation to be recognized as a liability is incurred and
capitalized as part of the cost of the related tangible long-lived assets. Over
time, the liability is accreted to its present value each period, and the
capitalized cost is depreciated over the useful life of the related asset.
Retirement obligations associated with long-lived assets included within the
scope of SFAS No. 143 are those for which a legal obligation exists under
enacted laws, statutes and written or oral contracts, including obligations
arising under the doctrine of promissory estoppel. SFAS No. 143 is effective for
fiscal years beginning after June 15, 2002, with earlier application encouraged.
SFAS No. 143 requires entities to
17
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
record a cumulative effect of change in accounting principle in the income
statement in the period of adoption. The Company adopted SFAS No. 143 on January
1, 2003.
The Company has completed an assessment of the applicability and
implications of SFAS No. 143. As a result of the assessment, the Company has
identified retirement obligations for nuclear decommissioning at the South Texas
Nuclear Project (South Texas Project) and for lignite mine operations at the
Jewett mine supplying the Limestone electric generation facility. Nuclear
decommissioning and the lignite mine have recorded liabilities under the
Company's previous method of accounting. Liabilities recorded for estimated
nuclear decommissioning obligations were $138 million and $140 million at
December 31, 2001 and 2002, respectively. Liabilities recorded for estimated
lignite mine reclamation costs were $28 million and $40 million at December 31,
2001 and 2002, respectively. The Company has also identified other asset
retirement obligations that cannot be calculated because the assets associated
with the retirement obligations have an indeterminate life. The Company used an
expected cash flow approach to measure its asset retirement obligations under
SFAS No. 143.
The following amounts represent the Company's asset retirement obligations
on a pro-forma basis as if SFAS No. 143 had been applied during all respective
periods.
DECEMBER 31, 2001
-----------------------
AS REPORTED PRO-FORMA
----------- ---------
(IN MILLIONS)
Nuclear decommissioning..................................... $137.5 $178.2
Jewett lignite mine......................................... 28.4 2.2
------ ------
Total..................................................... $165.9 $180.4
====== ======
DECEMBER 31, 2002
-----------------------
AS REPORTED PRO-FORMA
----------- ---------
(IN MILLIONS)
Nuclear decommissioning..................................... $139.7 $186.7
Jewett lignite mine......................................... 39.7 3.8
------ ------
Total..................................................... $179.4 $190.5
====== ======
The net difference between the amounts determined under SFAS No. 143 and
the Company's previous method of accounting for estimated nuclear
decommissioning costs of $16 million will be recorded as a liability. The net
difference between the amounts determined under SFAS No. 143 and the Company's
previous method of accounting for estimated mine reclamation costs of $37
million will be recorded as a cumulative effect of accounting change.
The Company's rate-regulated businesses have previously recognized removal
costs as a component of depreciation expense in accordance with regulatory
treatment. As of December 31, 2002, these previously recognized removal costs of
$618 million do not represent SFAS No. 143 asset retirement obligations, but
rather embedded regulatory liabilities. The Company's non-rate regulated
businesses have also previously recognized removal costs as component of
depreciation expense. Upon adoption of SFAS No. 143, the Company will reverse
$115 million of previously recognized removal costs with respect to these
non-rate regulated businesses as a cumulative effect of accounting change.
18
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following represents the pro-forma effect on the Company's operations
for 2002 as if the Company had adopted SFAS No. 143 on January 1, 2002. The
adoption of SFAS No. 143 would have had no income statement effect in 2000 and
2001 due to the regulatory recovery of the costs in those years. Amounts are
expressed in thousands except per share data.
2002
-----------
Income from Continuing Operations as reported............... $ 366,327
Pro-forma Income from Continuing Operations................. $ 374,062
Net loss as reported........................................ $(3,920,234)
Pro-forma net loss.......................................... $(3,912,499)
DILUTED EARNINGS PER SHARE:
Income from Continuing Operations as reported............... $ 1.22
Pro-forma Income from Continuing Operations................. $ 1.25
Net loss as reported........................................ $ (13.08)
Pro-forma net loss.......................................... $ (13.06)
In August 2001, the FASB issued SFAS No. 144. SFAS No. 144 provides new
guidance on the recognition of impairment losses on long-lived assets to be held
and used or to be disposed of and also broadens the definition of what
constitutes a discontinued operation and how the results of a discontinued
operation are to be measured and presented. SFAS No. 144 supercedes SFAS No. 121
and APB Opinion No. 30, while retaining many of the requirements of these two
statements. Under SFAS No. 144, assets held for sale that are a component of an
entity will be included in discontinued operations if the operations and cash
flows will be or have been eliminated from the ongoing operations of the entity
and the entity will not have any significant continuing involvement in the
operations prospectively. SFAS No. 144 did not materially change the methods
used by the Company to measure impairment losses on long-lived assets but may
result in more future dispositions being reported as discontinued operations
than would previously have been permitted. The Company adopted SFAS No. 144 on
January 1, 2002. Adoption of SFAS No. 144 also resulted in the retroactive
reclassification of the Company's Latin America operations as discussed in Note
2.
In April 2002, the FASB issued SFAS No. 145. SFAS No. 145 eliminates the
current requirement that gains and losses on debt extinguishment must be
classified as extraordinary items in the income statement. Instead, such gains
and losses will be classified as extraordinary items only if they are deemed to
be unusual and infrequent. SFAS No. 145 also requires that capital leases that
are modified so that the resulting lease agreement is classified as an operating
lease be accounted for as a sale-leaseback transaction. The changes related to
debt extinguishment are effective for fiscal years beginning after May 15, 2002,
and the changes related to lease accounting are effective for transactions
occurring after May 15, 2002. The Company has applied this guidance
prospectively as it relates to lease accounting and will apply the accounting
provision related to debt extinguishment in 2003. During 2002, the Company
recorded a $26 million loss on the early extinguishment of debt related to
CenterPoint Houston's $850 million term loan and the repurchase of $175 million
of the Company's pollution control bonds.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities" (SFAS No. 146). SFAS No. 146
nullifies EITF Issue No. 94-3, "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring)" (EITF No. 94-3). The principal difference
between SFAS No. 146 and EITF No. 94-3 relates to the requirements for
recognition of a liability for costs associated with an exit or disposal
activity. SFAS No. 146 requires that a liability be recognized for a cost
associated with an exit or disposal activity when it is incurred. A liability is
incurred when a transaction or event occurs that leaves an entity little or no
discretion to avoid the future transfer or use of assets to settle the
liability. Under EITF No. 94-3, a liability
19
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
for an exit cost was recognized at the date of an entity's commitment to an exit
plan. In addition, SFAS No. 146 also requires that a liability for a cost
associated with an exit or disposal activity be recognized at its fair value
when it is incurred. SFAS No. 146 is effective for exit or disposal activities
that are initiated after December 31, 2002 with early application encouraged.
The Company will apply the provisions of SFAS No. 146 to all exit or disposal
activities initiated after December 31, 2002.
In November 2002, the FASB issued FASB Interpretation No. (FIN) 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others" (FIN 45). FIN 45 requires that a
liability be recorded in the guarantor's balance sheet upon issuance of certain
guarantees. In addition, FIN 45 requires disclosures about the guarantees that
an entity has issued. The provision for initial recognition and measurement of
the liability will be applied on a prospective basis to guarantees issued or
modified after December 31, 2002. The disclosure provisions of FIN 45 are
effective for financial statements of interim or annual periods ending after
December 15, 2002. The adoption of FIN 45 is not expected to materially affect
the Company's consolidated financial statements. The Company has adopted the
additional disclosure provisions of FIN 45 in its consolidated financial
statements as of December 31, 2002.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation, Transition and Disclosure -- an Amendment of SFAS No. 123" (SFAS
No. 148). SFAS No. 148 provides alternative methods of transition for a
voluntary change to the fair value based method of accounting for stock-based
employee compensation. SFAS No. 148 also requires that disclosures of the pro
forma effect of using the fair value method of accounting for stock-based
employee compensation be displayed more prominently and in a tabular format.
Additionally, SFAS No. 148 requires disclosure of the pro forma effect in
interim financial statements. The transition and annual disclosure requirements
of SFAS No. 148 are effective for fiscal years ending after December 15, 2002.
The Company currently accounts for its stock-based compensation awards to
employees and directors under the accounting prescribed by APB Opinion No. 25
and provides the disclosures required by SFAS No. 123. The Company will continue
to account for its stock-based compensation awards to employees and directors
under the accounting prescribed by APB Opinion No. 25 and has adopted the
additional disclosure provisions of SFAS No. 148 in its consolidated financial
statements as of December 31, 2002. (See Note 11).
In January 2003, the FASB issued FIN 46 "Consolidation of Variable Interest
Entities, an Interpretation of Accounting Research Bulletin No. 51" (FIN 46).
FIN 46 requires certain variable interest entities to be consolidated by the
primary beneficiary of the entity if the equity investors in the entity do not
have the characteristics of a controlling financial interest or do not have
sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support from other parties. FIN 46 is
effective for all new variable interest entities created or acquired after
January 31, 2003. For variable interest entities created or acquired prior to
February 1, 2003, the provisions of FIN 46 must be applied for the first interim
or annual period beginning after June 15, 2003. The Company does not expect the
adoption of FIN 46 to have a material impact on its results of operations and
financial condition.
See Note 5 for a discussion of the Company's adoption of SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities" (SFAS No. 133) on
January 1, 2001 and adoption of subsequent cleared guidance. See Note 3(d) for a
discussion of the Company's adoption of SFAS No. 142 on January 1, 2002.
20
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(4) REGULATORY MATTERS
(A) TEXAS ELECTRIC RESTRUCTURING LAW AND DISCONTINUANCE OF SFAS NO. 71 FOR
ELECTRIC GENERATION OPERATIONS
In June 1999, the Texas legislature adopted the Texas electric
restructuring law, which substantially amended the regulatory structure
governing electric utilities in Texas in order to allow retail electric
competition. Retail pilot projects allowing competition for up to 5% of each
utility's load in all customer classes began in the third quarter of 2001, and
retail electric competition for all other customers began in January 2002. In
preparation for competition, the Company made significant changes in the
electric utility operations it conducts through its former electric utility
division, Reliant Energy HL&P (now CenterPoint Houston). In addition, the Texas
Utility Commission issued a number of new rules and determinations in
implementing the Texas electric restructuring law.
The Texas electric restructuring law defined the process for competition
and created a transition period during which most utility rates were frozen at
rates not in excess of their then-current levels. The Texas electric
restructuring law provided for utilities to recover their generation related
stranded costs and regulatory assets (as defined in the Texas electric
restructuring law).
Unbundling. As of January 1, 2002, electric utilities in Texas such as
CenterPoint Houston unbundled their businesses in order to separate power
generation, transmission and distribution, and retail activities into different
units. Pursuant to the Texas electric restructuring law, the Company submitted a
plan in January 2000 that was later amended and updated to accomplish the
required separation (the business separation plan). The transmission and
distribution business continues to be subject to cost-of-service rate regulation
and is responsible for the delivery of electricity to retail customers. The
Company transferred the Texas generation facilities that were formerly part of
Reliant Energy HL&P (Texas generation business) to Texas Genco in connection
with the Restructuring. As a result of these changes, the Company's Texas
generation operations are no longer conducted as part of an integrated utility
and comprise a new business segment, Electric Generation. Additionally, these
operations will not be part of the Company's business if they are acquired in
2004 by Reliant Resources pursuant to an option agreement described below or
they are otherwise sold.
Generation. Power generators began selling electric energy to wholesale
purchasers, including retail electric providers, at unregulated prices on
January 1, 2002. To facilitate a competitive market, each power generation
company affiliated with a transmission and distribution utility is required to
sell at auction 15% of the output of its installed generating capacity. The
first auction was held in September 2001 for power delivered beginning January
1, 2002. This obligation continues until January 1, 2007 unless before that date
the Texas Utility Commission determines that at least 40% of the quantity of
electric power consumed in 2000 by residential and small commercial load in the
electric utility's service area is being served by retail electric providers
other than an affiliated or formerly affiliated retail electric provider. Texas
Genco plans to auction all of its remaining capacity (less approximately 10%
withheld to provide for unforeseen outages) during the time period prior to
Reliant Resources' exercise of the Texas Genco Option discussed below. Pursuant
to the business separation plan, Reliant Resources is entitled to purchase, at
prices established in these auctions, 50% (but no less than 50%) of the
remaining capacity, energy and ancillary services auctioned by Texas Genco.
Sales to Reliant Resources represented approximately 66% of Texas Genco's total
revenues in 2002.
Transmission and Distribution Rates. All retail electric providers in
CenterPoint Houston's service area pay the same rates and other charges for
transmission and distribution services.
CenterPoint Houston's distribution rates charged to retail electric
providers are generally based on amounts of energy delivered. Transmission rates
charged to other distribution companies are based on amounts of energy
transmitted under "postage stamp" rates that do not vary with the distance the
energy is being transmitted. All distribution companies in ERCOT pay CenterPoint
Houston the same rates and other charges for transmission services. The
transmission and distribution rates for CenterPoint Houston have been
21
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
in effect since January 1, 2002, when electric competition began. This regulated
delivery charge includes the transmission and distribution rate (which includes
costs for nuclear decommissioning and municipal franchise fees), a system
benefit fund fee imposed by the Texas electric restructuring law, a transition
charge associated with securitization of regulatory assets and an excess
mitigation credit imposed by the Texas Utility Commission.
Stranded Costs. CenterPoint Houston will be entitled to recover its
stranded costs (the excess of net regulatory book value of generation assets (as
defined by the Texas electric restructuring law) over the market value of those
assets) and its regulatory assets related to generation. The Texas electric
restructuring law prescribes specific methods for determining the amount of
stranded costs and the details for their recovery. During the transition period
to deregulation (the Transition Period), which included 1998 and the first six
months of 1999, and extending through the base rate freeze period from July 1999
through 2001, the Texas electric restructuring law provided that earnings above
a stated overall annual rate of return on invested capital be used to recover
the Company's investment in generation assets (Accelerated Depreciation). In
addition, during the Transition Period, the redirection of depreciation expense
to generation assets that CenterPoint Houston would otherwise apply to
transmission, distribution and general plant assets was permitted for regulatory
purposes (Redirected Depreciation). Please read the discussion of the accounting
treatment for depreciation for financial reporting purposes below under
"-- Accounting." The Company cannot predict the amount, if any, of these costs
that may not be recovered.
In accordance with the Texas electric restructuring law, beginning on
January 1, 2002, and ending December 31, 2003, any difference between market
power prices received in the generation capacity auctions mandated by the Texas
electric restructuring law and the Texas Utility Commission's earlier estimates
of those prices will be included in the 2004 stranded cost true-up proceeding,
as further discussed below. This component of the true-up is intended to ensure
that neither the customers nor the Company is disadvantaged economically as a
result of the two-year transition period by providing this pricing structure.
On October 24, 2001, CenterPoint Energy Transition Bond Company, LLC (Bond
Company), a Delaware limited liability company and direct wholly owned
subsidiary of CenterPoint Houston, issued $749 million aggregate principal
amount of its Series 2001-1 Transition Bonds pursuant to a financing order of
the Texas Utility Commission. Classes of the bonds have final maturity dates of
September 15, 2007, September 15, 2009, September 15, 2011 and September 15,
2015, and bear interest at rates of 3.84%, 4.76%, 5.16% and 5.63%, respectively.
Scheduled payments on the bonds are from 2002 through 2013. Net proceeds to the
Bond Company from the issuance were $738 million. The Bond Company paid
CenterPoint Houston $738 million for the transition property. Proceeds were used
for general corporate purposes, including the repayment of indebtedness.
The Transition Bonds are secured primarily by the "transition property,"
which includes the irrevocable right to recover, through non-bypassable
transition charges payable by certain retail electric customers, the qualified
costs of CenterPoint Houston authorized by the financing order. The holders of
the Bond Company's bonds have no recourse to any assets or revenues of
CenterPoint Houston, and the creditors of CenterPoint Houston have no recourse
to any assets or revenues (including, without limitation, the transition
charges) of the Bond Company. CenterPoint Houston has no payment obligations
with respect to the Transition Bonds except to remit collections of transition
charges as set forth in a servicing agreement between CenterPoint Houston and
the Bond Company and in an intercreditor agreement among CenterPoint Houston,
the Bond Company and other parties.
The non-bypassable transition charges are required by the financing order
to be trued-up annually, effective November 1, for the term of the transition
charge. CenterPoint Houston filed an annual true-up with the Texas Utility
Commission on August 2, 2002 for transition charges that became effective
November 1, 2002.
22
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Costs associated with nuclear decommissioning will continue to be subject
to cost-of-service rate regulation and are included in a charge to transmission
and distribution customers. For further discussion of the effect of the business
separation plan on funding of the nuclear decommissioning trust fund, see Note
4(b).
True-Up Proceeding. The Texas electric restructuring law and current Texas
Utility Commission implementation guidance provide for a true-up proceeding to
be initiated in or after January 2004. The purpose of the true-up proceeding is
to quantify and reconcile the amount of stranded costs, the capacity auction
true-up, unreconciled fuel costs (see Note 3(e)), and other regulatory assets
associated with CenterPoint Houston's former electric generating operations that
were not previously securitized through the Transition Bonds. The 2004 true-up
proceeding will result in either additional charges being assessed on or credits
being issued to certain retail electric customers. The Company appealed the
Texas Utility Commission's true-up rule on the basis that there are no negative
stranded costs, that the Company should be allowed to collect interest on
stranded costs, and that the premium on the partial stock valuation applies to
only the equity of Texas Genco, not equity plus debt. The Texas court of appeals
issued a decision on February 6, 2003 upholding the rule in part and reversing
in part. The court ruled that there are no negative stranded costs and that the
premium on the partial stock valuation applies only to equity. The court upheld
the Texas Utility Commission's rule that interest on stranded costs begins upon
the date of the final true-up order. On February 21, 2003, the Company filed a
motion for rehearing on the issue that interest on amounts determined in the
true-up proceeding should accrue from an earlier date . The Company has not
accrued interest in its consolidated financial statements, but estimates that
interest could be material. If the court of appeals denies the Company's motion,
then the Company will have 45 days to appeal to the Texas Supreme Court. The
Company has not decided what action, if any, it will take if the motion for
rehearing is denied.
Accounting. Historically, the Company has applied the accounting policies
established in SFAS No. 71. Effective June 30, 1999, the Company applied SFAS
No. 101 to Texas Genco.
In 1999, the Company evaluated the effects that the Texas electric
restructuring law would have on the recovery of its generation related
regulatory assets and liabilities. The Company determined that a pre-tax
accounting loss of $282 million existed because it believes only the economic
value of its generation related regulatory assets (as defined by the Texas
electric restructuring law) will be recoverable. Therefore, the Company recorded
a $183 million after-tax extraordinary loss in the fourth quarter of 1999.
Pursuant to EITF Issue No. 97-4 "Deregulation of the Pricing of
Electricity -- Issues Related to the Application of FASB Statements No. 71 and
No. 101" (EITF No. 97-4), the remaining recoverable regulatory assets are now
associated with the transmission and distribution portion of the Company's
electric utility business. For details regarding the Company's regulatory
assets, see Note 3(e).
At June 30, 1999, the Company performed an impairment test of its
previously regulated electric generation assets pursuant to SFAS No. 121 on a
plant specific basis. Under SFAS No. 121, an asset is considered impaired, and
should be written down to fair value, if the future undiscounted net cash flows
expected to be generated by the use of the asset are insufficient to recover the
carrying amount of the asset. For assets that are impaired pursuant to SFAS No.
121, the Company determined the fair value for each generating plant by
estimating the net present value of future cash flows over the estimated life of
each plant. The difference between fair value and net book value was recorded as
a reduction in the current book value. The Company determined that $797 million
of electric generation assets were impaired in 1999. Of this amount, $745
million related to the South Texas Project and $52 million related to two
gas-fired generation plants. The Texas electric restructuring law provides for
recovery of this impairment through regulated cash flows during the transition
period and through charges to transmission and distribution customers. As such,
a regulatory asset was recorded for an amount equal to the impairment loss and
was included on the Company's Consolidated Balance Sheets as a regulatory asset.
The Company recorded amortization expense related to the
23
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
recoverable impaired plant costs and other assets created from discontinuing
SFAS No. 71 of $221 million during the six months ended December 31, 1999, $329
million in 2000 and $247 million in 2001.
The impairment analysis requires estimates of possible future market
prices, load growth, competition and many other factors over the lives of the
plants. The resulting impairment loss is highly dependent on these underlying
assumptions. In addition, after January 10, 2004, CenterPoint Houston must
finalize and reconcile stranded costs (as defined by the Texas electric
restructuring law) in a filing with the Texas Utility Commission. Any positive
difference between the regulatory net book value and the fair market value of
the generation assets (as defined by the Texas electric restructuring law) will
be collected through future charges. Any overmitigation of stranded costs may be
refunded by a reduction in future charges. This final reconciliation allows
alternative methods of third party valuation of the fair market value of these
assets, including outright sale, stock valuations and asset exchanges.
In order to reduce potential exposure to stranded costs related to
generation assets, CenterPoint Houston recognized Redirected Depreciation of
$195 million and $99 million in 1998 and for the six months ended June 30, 1999,
respectively, for regulatory and financial reporting purposes. This redirection
was in accordance with the Company's Transition Plan. Subsequent to June 30,
1999, Redirected Depreciation expense could no longer be recorded by the
Company's electric generation business for financial reporting purposes as these
operations are no longer accounted for under SFAS No. 71. During the six months
ended December 31, 1999 and during 2000 and 2001, $99 million, $218 million and
$230 million in depreciation expense, respectively, was redirected from
transmission and distribution for regulatory and financial reporting purposes
and was established as an embedded regulatory asset included in transmission and
distribution related plant and equipment balances. As of December 31, 2001, the
cumulative amount of Redirected Depreciation for regulatory purposes was $841
million, prior to the effects of the October 3, 2001 order discussed below.
Additionally, as allowed by the Texas Utility Commission, in an effort to
further reduce potential exposure to stranded costs related to generation
assets, CenterPoint Houston recorded Accelerated Depreciation of $194 million
and $104 million in 1998 and for the six months ended June 30, 1999,
respectively, for regulatory and financial reporting purposes. Accelerated
Depreciation expense was recorded in accordance with the Company's Transition
Plan during this period. Subsequent to June 30, 1999, Accelerated Depreciation
expense could no longer be recorded by the Company's electric generation
business for financial reporting purposes, as these operations are no longer
accounted for under SFAS No. 71. During the six months ended December 31, 1999
and during 2000 and 2001, $179 million, $385 million and $264 million,
respectively, of Accelerated Depreciation was recorded for regulatory reporting
purposes, reducing the regulatory book value of the Company's electric
generation assets.
The Texas Utility Commission issued a final order on October 3, 2001
(October 3, 2001 Order) that established the transmission and distribution
utility rates that became effective in January 2002. In this Order, the Texas
Utility Commission found that CenterPoint Houston had overmitigated its stranded
costs by redirecting transmission and distribution depreciation and by
accelerating depreciation of generation assets as provided under the Transition
Plan and Texas electric restructuring law. As a result of the October 3, 2001
Order, CenterPoint Houston was required to reverse the $841 million embedded
regulatory asset related to Redirected Depreciation, thereby reducing the net
book value of transmission and distribution assets. CenterPoint Houston was
required to record a regulatory liability of $1.1 billion related to Accelerated
Depreciation. The October 3, 2001 Order requires this amount to be refunded
through excess mitigation credits to certain retail electric customers during a
seven-year period which began in January 2002.
As of December 31, 2002, in contemplation of the 2004 true-up proceeding,
CenterPoint Houston has recorded a regulatory asset of $2.0 billion representing
the estimated future recovery of previously incurred stranded costs, which
includes $1.1 billion of previously recorded Accelerated Depreciation plus
Redirected Depreciation, both reversed in 2001. Offsetting this regulatory asset
is a $969 million regulatory liability to refund the excess mitigation to
ratepayers. This estimated recovery is based upon current projections of the
24
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
market value of the Company's Texas generation assets to be covered by the 2004
true-up proceeding calculations. The regulatory liability reflects a current
refund obligation arising from prior mitigation of stranded costs deemed
excessive by the Texas Utility Commission. CenterPoint Houston began refunding
excess mitigation credits with January 2002 bills. These credits are to be
refunded over a seven-year period. Because accounting principles generally
accepted in the United States of America require CenterPoint Houston to estimate
fair market values in advance of the final reconciliation, the financial impacts
of the Texas electric restructuring law with respect to the final determination
of stranded costs in the 2004 true-up proceeding are subject to material
changes. Factors affecting such changes may include estimation risk, uncertainty
of future energy and commodity prices and the economic lives of the plants. If
events were to occur that made the recovery of some of the remaining generation
related regulatory assets no longer probable, the Company would write off the
unrecoverable balance of such assets as a charge against earnings.
(B) AGREEMENTS RELATED TO TEXAS GENERATING ASSETS
Pursuant to the business separation plan, on January 6, 2003, the Company
distributed approximately 19% of Texas Genco's 80 million outstanding shares of
common stock to its shareholders in order to establish a public market value for
shares of that stock which will be used in 2004 to calculate how much
CenterPoint Houston will be able to recover as stranded costs. Reliant Resources
has an option to purchase the Company's remaining 81% interest in Texas Genco
(Texas Genco Option). The Texas Genco Option may be exercised between January
10, 2004 and January 24, 2004. The per share exercise price under the option
will be the average daily closing price on the applicable national exchange for
publicly held shares of common stock of Texas Genco for the 30 consecutive
trading days with the highest average closing price during the 120 trading days
immediately preceding January 10, 2004, plus a control premium, up to a maximum
of 10%, to the extent a control premium is included in the valuation
determination made by the Texas Utility Commission relating to the market value
of Texas Genco's common stock equity. The exercise price is also subject to
adjustment based on the difference between the cash dividends paid during the
period there is a public ownership interest in Texas Genco and Texas Genco's
earnings during that period. Reliant Resources has agreed that if it exercises
the Texas Genco Option and purchases the shares of Texas Genco common stock,
Reliant Resources will also purchase all notes and other receivables from Texas
Genco then held by CenterPoint Energy, at their principal amount plus accrued
interest. Similarly, if Texas Genco holds notes or receivables from the Company,
Reliant Resources will assume those obligations in exchange for a payment to
Reliant Resources by the Company of an amount equal to the principal plus
accrued interest. Exercise of the Texas Genco Option by Reliant Resources will
be subject to various regulatory approvals, including Hart-Scott-Rodino
antitrust clearance and United States Nuclear Regulatory Commission (NRC)
license transfer approval.
Texas Genco is the beneficiary of the decommissioning trust that has been
established to provide funding for decontamination and decommissioning of a
nuclear electric generation station in which Texas Genco owns a 30.8% interest
(see Note 6). CenterPoint Houston collects through rates or other authorized
charges to its electric utility customers amounts designated for funding the
decommissioning trust, and pays the amounts to Texas Genco. Texas Genco in turn
deposits these amounts into the decommissioning trust. Upon decommissioning of
the facility, in the event funds from the trust are inadequate, CenterPoint
Houston or its successor will be required to collect through rates or other
authorized charges to customers as contemplated by the Texas Utilities Code all
additional amounts required to fund Texas Genco's obligations relating to the
decommissioning of the facility. Following the completion of the
decommissioning, if surplus funds remain in the decommissioning trust, the
excess will be refunded to the ratepayers of CenterPoint Houston or its
successor.
(C) CENTERPOINT HOUSTON REGULATORY FILINGS
CenterPoint Houston and Texas Genco filed their joint application to
reconcile fuel revenues and expenses with the Texas Utility Commission on July
1, 2002. This final fuel reconciliation filing covers
25
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
reconcilable fuel revenue, fuel expense and interest of approximately $8.5
billion incurred from August 1, 1997 through January 30, 2002. Also included in
this amount is an under-recovery of $94 million, which was the balance at July
31, 1997 as approved in CenterPoint Houston's last fuel reconciliation. On
January 28, 2003, a settlement agreement was reached under which it was agreed
that certain items totaling $24 million were written off during the fourth
quarter of 2002 and items totaling $203 million will be carried forward for
resolution by the Texas Utility Commission in late 2003 or early 2004.
(D) ARKLA RATE CASE
In November 2001, CenterPoint Energy Arkla (Arkla) filed a rate request in
Arkansas seeking rates to yield approximately $47 million in additional annual
gross revenue. In August 2002, a settlement was approved by the Arkansas Public
Service Commission (APSC) that is expected to result in an increase in base
rates of approximately $32 million annually. In addition, the APSC approved a
gas main replacement surcharge that is expected to provide $2 million of
additional gross revenue in 2003 and additional amounts in subsequent years. The
new rates included in the final settlement were effective with all bills
rendered on and after September 21, 2002.
(E) OKLAHOMA RATE CASE
In May 2002, Arkla filed a request in Oklahoma to increase its base rates
by $13.7 million annually. In December 2002, a settlement was approved by the
Oklahoma Corporation Commission that is expected to result in an increase in
base rates of approximately $7.3 million annually. The new rates included in the
final settlement were effective with all bills rendered on and after December
29, 2002.
(5) DERIVATIVE INSTRUMENTS
Effective January 1, 2001, the Company adopted SFAS No. 133, which
establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts, and for
hedging activities. This statement requires that derivatives be recognized at
fair value in the balance sheet and that changes in fair value be recognized
either currently in earnings or deferred as a component of other comprehensive
income, depending on the intended use of the derivative instrument as hedging
(a) the exposure to changes in the fair value of an asset or liability (Fair
Value Hedge) or (b) the exposure to variability in expected future cash flows
(Cash Flow Hedge) or (c) the foreign currency exposure of a net investment in a
foreign operation. For a derivative not designated as a hedging instrument, the
gain or loss is recognized in earnings in the period it occurs.
Adoption of SFAS No. 133 on January 1, 2001 resulted in an after-tax
increase in net income of $59 million and a cumulative after-tax increase in
accumulated other comprehensive income of $38 million. The adoption also
increased current assets, long-term assets, current liabilities and long-term
liabilities by approximately $88 million, $5 million, $53 million and $2
million, respectively, in the Company's Consolidated Balance Sheet.
The Company is exposed to various market risks. These risks arise from
transactions entered into in the normal course of business. The Company utilizes
derivative financial instruments such as physical forward contracts, swaps and
options (Energy Derivatives) to mitigate the impact of changes and cash flows of
its natural gas businesses on its operating results and cash flows.
(A) NON-TRADING ACTIVITIES.
Cash Flow Hedges. To reduce the risk from market fluctuations associated
with purchased gas costs, the Company enters into energy derivatives in order to
hedge certain expected purchases and sales of natural gas (non-trading energy
derivatives). The Company applies hedge accounting for its non-trading energy
26
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
derivatives utilized in non-trading activities only if there is a high
correlation between price movements in the derivative and the item designated as
being hedged. The Company analyzes its physical transaction portfolio to
determine its net exposure by delivery location and delivery period. Because the
Company's physical transactions with similar delivery locations and periods are
highly correlated and share similar risk exposures, the Company facilitates
hedging for customers by aggregating physical transactions and subsequently
entering into non-trading energy derivatives to mitigate exposures created by
the physical positions.
During 2002, no hedge ineffectiveness was recognized in earnings from
derivatives that are designated and qualify as Cash Flow Hedges. No component of
the derivative instruments' gain or loss was excluded from the assessment of
effectiveness. If it becomes probable that an anticipated transaction will not
occur, the Company realizes in net income the deferred gains and losses
recognized in accumulated other comprehensive loss. During the year ended
December 31, 2002, there was a $0.9 million deferred loss recognized in earnings
as a result of the discontinuance of cash flow hedges because it was no longer
probable that the forecasted transaction would occur. Once the anticipated
transaction occurs, the accumulated deferred gain or loss recognized in
accumulated other comprehensive loss is reclassified and included in the
Company's Statements of Consolidated Operations under the caption "Natural Gas
and Purchased Power." Cash flows resulting from these transactions in
non-trading energy derivatives are included in the Statements of Consolidated
Cash Flows in the same category as the item being hedged. As of December 31,
2002, the Company expects $1 million in accumulated other comprehensive loss to
be reclassified into net income during the next twelve months.
The maximum length of time the Company is hedging its exposure to the
variability in future cash flows for forecasted transactions on existing
financial instruments is primarily two years with a limited amount of exposure
up to five years. The Company's policy is not to exceed five years in hedging
its exposure.
Interest Rate Swaps. As of December 31, 2002, the Company had outstanding
interest rate swaps with an aggregate notional amount of $750 million to fix the
interest rate applicable to floating rate short-term debt. These swaps do not
qualify as cash flow hedges under SFAS No. 133, and are marked to market in the
Company's Consolidated Balance Sheets with changes reflected in interest expense
in the Statements of Consolidated Operations. During the year ended December 31,
2002, the Company settled its forward-starting interest rate swaps having an
aggregate notional amount of $1.5 billion at a cost of $156 million. The Company
has designated and accounted for the forward-interest rate swaps as a cash flow
hedge of the Company's exposure to variability in future interest payments on
fixed rate debt the Company anticipates issuing. Accordingly, the Company
recorded the $156 million cost in other comprehensive income, which will be
amortized into interest expense in the same period during which the forecasted
interest payments affect earnings. The Company assesses and measures the hedging
relationship on a quarterly basis by comparing the critical terms of the forward
starting interest rate swaps with the expected terms of the forecasted debt
issuance as well as evaluating the probability of the underlying interest
payments occurring. The Company reclassified approximately $36 million in 2002
as a result of interest payments it believes are no longer probable of occurring
for certain periods.
(B) CREDIT RISKS.
In addition to the risk associated with price movements, credit risk is
also inherent in the Company's non-trading derivative activities. Credit risk
relates to the risk of loss resulting from non-performance of
27
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
contractual obligations by a counterparty. The following table shows the
composition of the non-trading derivative assets of the Company as of December
31, 2001 and 2002:
DECEMBER 31, 2001 DECEMBER 31, 2002
------------------- -----------------------
INVESTMENT INVESTMENT
NON-TRADING DERIVATIVE ASSETS GRADE(1)(2) TOTAL GRADE(1)(2) TOTAL (3)
- ----------------------------- ----------- ----- ----------- ---------
(IN MILLIONS)
Energy marketers..................................... $ 9 $ 9 $ 7 $22
Financial institutions............................... -- -- 9 9
--- --- --- ---
Total.............................................. $ 9 $ 9 $16 $31
=== === === ===
- ---------------
(1) "Investment Grade" is primarily determined using publicly available credit
ratings along with the consideration of credit support (such as parent
company guarantees) and collateral, which encompass cash and standby letters
of credit.
(2) For unrated counterparties, the Company performs financial statement
analysis, considering contractual rights and restrictions and collateral, to
create a synthetic credit rating.
(3) The $22 million non-trading derivative asset includes a $15 million asset
due to trades with Reliant Energy Services, Inc. (Reliant Energy Services)
an affiliate until the date of the Reliant Resources Distribution. As of
December 31, 2002, Reliant Energy Services did not have an Investment Grade
rating.
(C) GENERAL POLICY.
The Company has established a Risk Oversight Committee comprised of
corporate and business segment officers that oversees all commodity price and
credit risk activities, including the Company's trading, marketing, risk
management services and hedging activities. The committee's duties are to
establish the Company's commodity risk policies, allocate risk capital within
limits established by the Company's board of directors, approve trading of new
products and commodities, monitor risk positions and ensure compliance with the
Company's risk management policies and procedures and trading limits established
by the Company's board of directors.
The Company's policies prohibit the use of leveraged financial instruments.
A leveraged financial instrument, for this purpose, is a transaction involving a
derivative whose financial impact will be based on an amount other than the
notional amount or volume of the instrument.
(6) JOINTLY OWNED ELECTRIC UTILITY PLANT
Texas Genco owns a 30.8% interest in the South Texas Project, which
consists of two 1,250 MW nuclear generating units and bears a corresponding
30.8% share of capital and operating costs associated with the project. The
South Texas Project is owned as a tenancy in common among Texas Genco and three
other co-owners, with each owner retaining its undivided ownership interest in
the two generating units and the electrical output from those units. Texas Genco
is severally liable, but not jointly liable, for the expenses and liabilities of
the South Texas Project. Texas Genco and the three other co-owners organized the
STP Nuclear Operating company (STPNOC) to operate and maintain the South Texas
Project. STPNOC is managed by a board of directors comprised of one director
appointed by each of the four co-owners, along with the chief executive officer
of STPNOC. Texas Genco's share of direct expenses of the South Texas Project is
included in the corresponding operating expense categories in the accompanying
consolidated financial statements. As of December 31, 2001, the total utility
plant in service and construction work in progress for the total South Texas
Project was $5.8 billion and $120 million, respectively. As of December 31,
2002, the total utility plant in service and construction work in progress for
the total South Texas Project was $5.8 billion and
28
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
$158 million, respectively. As of December 31, 2001 and 2002, Texas Genco's
investment in the South Texas Project was $316 million and $323 million,
respectively, (net of $2.2 billion accumulated depreciation which includes an
impairment loss recorded in 1999 of $745 million). For additional information
regarding the impairment loss, see Note 4(a). As of December 31, 2001 and 2002,
Texas Genco's investment in nuclear fuel was $35 million (net of $286 million
amortization) and $42 million (net of $302 million amortization), respectively.
(7) INDEXED DEBT SECURITIES (ACES AND ZENS) AND AOL TIME WARNER SECURITIES
(A) ORIGINAL INVESTMENT IN TIME WARNER SECURITIES
In 1995, the Company sold a cable television subsidiary to Time Warner
Inc.(TW) and received TW convertible preferred stock (TW Preferred) as
consideration. On July 6, 1999, the Company converted its 11 million shares of
TW Preferred into 45.8 million shares of Time Warner common stock (TW Common).
Prior to the conversion, the Company's investment in the TW Preferred was
accounted for under the cost method at a value of $990 million in the Company's
Consolidated Balance Sheets. The TW Preferred which was redeemable after July 6,
2000, had an aggregate liquidation preference of $100 per share (plus accrued
and unpaid dividends), was entitled to annual dividends of $3.75 per share until
July 6, 1999 and was convertible by the Company. Effective on the conversion
date, the shares of TW Common were classified as trading securities under SFAS
No. 115 and an unrealized gain was recorded in the amount of $2.4 billion ($1.5
billion after-tax) to reflect the cumulative appreciation in the fair value of
the Company's investment in Time Warner securities. Unrealized gains and losses
resulting from changes in the market value of the TW Common (now AOL TW Common)
are recorded in the Company's Statements of Consolidated Operations.
(B) ACES
In July 1997, in order to monetize a portion of the cash value of its
investment in TW Preferred, the Company issued 22.9 million of its unsecured 7%
Automatic Common Exchange Securities (ACES) having an original principal amount
of $1.052 billion and maturing July 1, 2000. The market value of ACES was
indexed to the market value of TW Common. On the July 1, 2000 maturity date, the
Company tendered 37.9 million shares of TW Common to fully settle its
obligations in connection with its unsecured 7% ACES having a value of $2.9
billion.
(C) ZENS
On September 21, 1999, the Company issued approximately 17.2 million of its
2.0% Zero-Premium Exchangeable Subordinated Notes due 2029 (ZENS) having an
original principal amount of $1.0 billion. The principal amount per ZENS will
increase each quarter to the extent that the sum of the quarterly cash dividends
and the interest paid during a quarter on the reference shares attributable to
one ZENS is less than $.045, so that the annual yield to investors is not less
than 2.309%. At December 31, 2002, 14.4 million ZENS were outstanding. At
maturity the holders of the ZENS will receive in cash the higher of the original
principal amount of the ZENS (subject to adjustment as discussed above) or an
amount based on the then-current market value of AOL TW Common, or other
securities distributed with respect to AOL TW Common (1.5 shares of AOL TW
Common and such other securities, if any, are referred to as reference shares).
Each ZENS has a principal amount of $58.25, and is exchangeable at any time at
the option of the holder for cash equal to 95% (100% in some cases) of the
market value of the reference shares attributable to one ZENS. The Company pays
interest on each ZENS at an annual rate of 2% plus the amount of any quarterly
cash dividends paid in respect of the quarterly interest period on the reference
shares attributable to each ZENS. Subject to some conditions, the Company has
the right to defer interest payments from time to time on the ZENS for up to 20
consecutive quarterly periods. As of December 31, 2002, no interest payments on
the ZENS had been deferred.
29
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In 2002, holders of approximately 16% of the 17.2 million ZENS originally
issued exercised their right to exchange their ZENS for cash, resulting in
aggregate cash payments by CenterPoint Energy of approximately $45 million.
A subsidiary of the Company owns shares of AOL TW Common and elected to
liquidate a portion of such holdings to facilitate the Company's making the cash
payments for the ZENS exchanged in 2002. In connection with the exchanges in
2002, the Company received net proceeds of approximately $43 million from the
liquidation of approximately 4.1 million shares of AOL TW Common at an average
price of $10.56 per share. The Company now holds 21.6 million shares of AOL TW
Common which are classified as trading securities under SFAS No. 115 and are
expected to be held to facilitate the Company's ability to meet its obligation
under the ZENS.
Prior to January 1, 2001, an increase in the market value per share of TW
Common above $58.25 (subject to some adjustments) resulted in an increase in the
Company's liability for the ZENS. However, as the market value per share of TW
Common declined below $58.25 (subject to some adjustments), the liability for
the ZENS did not decline below the original principal amount. Upon adoption of
SFAS No. 133 effective January 1, 2001, the ZENS obligation was bifurcated into
a debt component and a derivative component (the holder's option to receive the
appreciated value of AOL TW Common at maturity). The derivative component was
valued at fair value and determined the initial carrying value assigned to the
debt component ($121 million) as the difference between the original principal
amount of the ZENS ($1.0 billion) and the fair value of the derivative component
at issuance ($879 million). Effective January 1, 2001 the debt component was
recorded at its accreted amount of $122 million and the derivative component was
recorded at its fair value of $788 million, as a current liability, resulting in
a transition adjustment pre-tax gain of $90 million ($59 million net of tax).
The transition adjustment gain was reported in the first quarter of 2001 as the
effect of a change in accounting principle. Subsequently, the debt component
accretes through interest charges at 17.5% annually up to the minimum amount
payable upon maturity of the ZENS in 2029 (approximately $915 million) which
reflects exchanges and adjustments to maintain a 2.309% annual yield, as
discussed above. Changes in the fair value of the derivative component are
recorded in the Company's Statements of Consolidated Operations. During 2001 and
2002, the Company recorded a loss of $70 million and $500 million, respectively,
on the Company's investment in AOL TW Common. During 2001 and 2002, the Company
recorded a gain of $58 million and $480 million, respectively, associated with
the fair value of the derivative component of the ZENS obligation. Changes in
the fair value of the AOL TW Common held by the Company are expected to
substantially offset changes in the fair value of the derivative component of
the ZENS.
30
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table sets forth summarized financial information regarding
the Company's investment in AOL TW securities and the Company's ACES and ZENS
obligations (in millions).
DEBT DERIVATIVE
AOL TW COMPONENT COMPONENT
INVESTMENT ACES OF ZENS OF ZENS
---------- ------- --------- ----------
Balance at December 31, 1999....................... $ 3,979 $ 2,738 $1,241 $ --
Loss (gain) on indexed debt securities............. -- 139 (241) --
Loss on TW Common.................................. (205) -- -- --
Settlement of ACES................................. (2,877) (2,877) -- --
------- ------- ------ -----
Balance at December 31, 2000....................... 897 -- 1,000 --
Transition adjustment from adoption of SFAS No.
133.............................................. -- -- (90) --
Bifurcation of ZENS obligation..................... -- -- (788) 788
Accretion of debt component of ZENS................ -- -- 1 --
Gain on indexed debt securities.................... -- -- -- (58)
Loss on AOL TW Common.............................. (70) -- -- --
------- ------- ------ -----
Balance at December 31, 2001....................... 827 -- 123 730
Accretion of debt component of ZENS................ -- -- 1 --
Gain on indexed debt securities.................... -- -- -- (480)
Loss on AOL TW Common.............................. (500) -- -- --
Liquidation of AOL TW Common....................... (43) -- -- --
Liquidation of ZENS, net of gain................... -- -- (20) (25)
------- ------- ------ -----
Balance at December 31, 2002....................... $ 284 $ -- $ 104 $ 225
======= ======= ====== =====
(8) EQUITY
(A) CAPITAL STOCK
Effective with the Restructuring, all outstanding shares of Reliant Energy
no par value common stock were exchanged for shares of CenterPoint Energy common
stock with a par value of $0.01 per share. The capital accounts of CenterPoint
Energy have been restated as of December 31, 2000 and 2001 to give effect to the
change in par value per share. CenterPoint Energy has 1,020,000,000 authorized
shares of capital stock, comprised of 1,000,000,000 shares of $0.01 par value
common stock and 20,000,000 shares of $0.01 par value preferred stock.
(B) PREFERRED STOCK
On December 14, 2001, Reliant Energy redeemed all outstanding shares of its
$4.00 Preferred Stock at $105 per share plus accrued dividends of $0.478 per
share for a total redemption payment of $10.3 million. At December 31, 2001,
Reliant Energy had 10,000,000 authorized shares of cumulative preferred stock,
none of which was outstanding. At December 31, 2002, CenterPoint Energy had
20,000,000 authorized shares of preferred stock, none of which was outstanding.
(C) PREFERENCE STOCK
At December 31, 2001, Reliant Energy had 10,000,000 authorized shares of
preference stock, none of which was outstanding for financial reporting
purposes. At December 31, 2001, Reliant Energy had issued and outstanding shares
of preference stock that were held by various financing subsidiaries of the
Company to
31
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
support debt obligations of the subsidiaries to third party lenders. The
aggregate amount of debt outstanding at these subsidiaries at December 31, 2001
was $2.9 billion. These shares of preference stock were cancelled in 2002
effective with the extinguishment of debt by the financing subsidiaries.
(D) SHAREHOLDER RIGHTS PLAN
The Company has a Shareholder Rights Plan that states that each share of
its common stock includes one associated preference stock purchase right (Right)
which entitles the registered holder to purchase from the Company a unit
consisting of one-thousandth of a share of Series A Preference Stock. The
Rights, which expire on December 11, 2011, are exercisable upon some events
involving the acquisition of 20% or more of the Company's outstanding common
stock. Upon the occurrence of such an event, each Right entitles the holder to
receive common stock with a current market price equal to two times the exercise
price of the Right. At anytime prior to becoming exercisable, the Company may
repurchase the Rights at a price of $0.005 per Right. There are 700,000 shares
of Series A Preference Stock reserved for issuance upon exercise of the Rights.
(9) LONG-TERM DEBT AND SHORT-TERM BORROWINGS
DECEMBER 31, 2001 DECEMBER 31, 2002
------------------- -------------------
LONG- LONG-
TERM CURRENT(1) TERM CURRENT(1)
------ ---------- ------ ----------
(IN MILLIONS)
Short-term borrowings:
Commercial paper and bank loans..................... $2,792 $ 347
Receivables facility(2)............................. 346 --
Other(3)............................................ 391 --
------ ------
Total short-term borrowings...................... 3,529 347
------ ------
Long-term debt:
CenterPoint Energy:
ZENS(4)............................................. $ -- $ 123 $ -- $ 104
Debentures 7.88% due 2002........................... -- 100 -- --
Medium-term notes and pollution control bonds 4.90%
to 6.70% due 2003 to 2027(5)(8).................. 547 -- 380 167
Pollution control bonds 4.70% to 5.95% due 2011 to
2030(6).......................................... 1,046 100 871 --
Bank loan due 2005(7)............................... -- -- 3,850 --
CenterPoint Houston:
First mortgage bonds 7.50% to 9.15% due 2021 to
2023(8).......................................... 615 -- 615 --
Series 2001-1 Transition Bonds 3.84% to 5.63% due
2002 to 2013(9).................................. 736 13 717 19
Term loan, LIBOR plus 9.75%, due 2005(10)........... -- -- 1,310 --
Debentures 7.40% due 2002........................... -- 300 -- --
CERC Corp.:(11)
Convertible debentures 6.00% due 2012............... 82 -- 76 --
Debentures 6.38% to 8.90% due 2003 to 2011.......... 1,833 -- 1,331 500
Other................................................. 51 1 52 7
Unamortized discount and premium...................... 5 -- (8) 13
------ ------ ------ ------
Total long-term debt............................. 4,915 637 9,194 810
------ ------ ------ ------
Total borrowings................................. $4,915 $4,166 $9,194 $1,157
====== ====== ====== ======
32
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
- ---------------
(1) Includes amounts due or exchangeable within one year of the date noted.
(2) In the first quarter of 2002, CERC reduced its trade receivables facility
from $350 million to $150 million. Advances under the receivables facility
aggregating $196 million were repaid in January 2002 with proceeds from the
issuance of commercial paper and from the liquidation of short-term
investments. For further discussion of the receivables facility, see Note
3(i).
(3) The $391 million of other short-term borrowings at December 31, 2001
reflects a note payable to Reliant Resources, which was repaid in 2002.
(4) Upon adoption of SFAS No. 133 effective January 1, 2001, the Company's ZENS
obligation was bifurcated into a debt component and an embedded derivative
component. For additional information regarding ZENS, see Note 7(c). As ZENS
are exchangeable for cash at any time at the option of the holders, these
notes are classified as a current portion of long-term debt.
(5) These series of debt are secured by first mortgage bonds of CenterPoint
Houston.
(6) $527 million of these series of debt is secured by general mortgage bonds
of CenterPoint Houston.
(7) On February 28, 2003, CenterPoint Energy amended and extended the
termination date of its $3.85 billion credit facility to June 30, 2005 as
discussed further below. As a result of this extension, the $3.85 billion
credit facility has been classified as long-term debt as of December 31,
2002 in the Consolidated Balance Sheet.
(8) The December 31, 2001 debt balances have been reclassified to give effect
to the Restructuring, which occurred on August 31, 2002.
(9) For further discussion of the securitization financing, see Note 4(a).
(10) London inter-bank offered rate (LIBOR) has a minimum rate of 3%. This term
loan is secured by general mortgage bonds of CenterPoint Houston.
(11) Debt acquired in business acquisitions is adjusted to fair market value as
of the acquisition date. Included in long-term debt is additional
unamortized premium related to fair value adjustments of long-term debt of
$9 million and $7 million at December 31, 2001 and 2002, respectively,
which is being amortized over the respective remaining term of the related
long-term debt.
During 2002, the Company recorded a $26 million loss on the early
extinguishment of debt related to CenterPoint Houston's $850 million term loan
and the repurchase of $175 million of the Company's pollution control bonds.
(A) SHORT-TERM BORROWINGS
Credit Facilities. As of December 31, 2002, CenterPoint Energy and its
subsidiaries had credit facilities that provided for an aggregate of $4.2
billion in committed credit. As of December 31, 2002, such credit facilities
were fully utilized in the form of letters of credit aggregating $2.5 million
and loans. The weighted average interest rate on short-term borrowings at
December 31, 2001 and December 31, 2002 was 2.9% and 5.4%, respectively. These
interest rates exclude facility fees and other fees paid in connection with the
arrangement of the bank facilities. As of December 31, 2002, cash aggregating
$265 million was invested in a money market fund.
In July 2002, the termination dates of facilities aggregating $4.7 billion
were extended from July 12, 2002 to October 10, 2002. Upon the Restructuring,
CenterPoint Energy became the borrower under facilities aggregating $4.3
billion, CenterPoint Houston remained the borrower under its $400 million
facility and CERC Corp. remained both the borrower under its $350 million
revolver and the seller under its $150 million receivables facility. The $150
million receivables facility is not recorded as a financing as it provides for
the sale of receivables to third parties as discussed in Note 3(i) to the
consolidated financial statements.
33
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
On October 10, 2002, the agreements relating to $4.3 billion of bank
facilities at CenterPoint Energy and $400 million of bank facilities at
CenterPoint Houston were amended and extended. On November 12, 2002, $850
million of bank facilities were terminated with the proceeds of CenterPoint
Houston's $1.3 billion collateralized term loan as discussed below. The
remaining $3.85 billion of CenterPoint Energy's outstanding bank facilities were
originally scheduled to expire on October 9, 2003, with two $600 million
mandatory principal reduction payments under the facilities due on or prior to
June 30, 2003. On February 28, 2003, the $3.85 billion bank facility was amended
and extended as discussed below. Accordingly, the $3.85 billion of outstanding
bank loans as of December 31, 2002 have been reclassified as long-term debt in
the Consolidated Balance Sheet.
As of December 31, 2002, there was $347 million borrowed under CERC's $350
million revolving credit facility. On February 28, 2003, CERC executed a
commitment letter with a major bank for a $350 million, 180-day bridge facility,
which is subject to the satisfaction of various closing conditions. This
facility will be available for repaying borrowings under CERC's existing $350
million revolving credit facility that expires on March 31, 2003 in the event
sufficient proceeds are not raised in the capital markets to repay such
borrowings on or before March 31, 2003. Final terms for the bridge facility have
not been established, but it is anticipated that the rates for borrowings under
the facility will be LIBOR plus 450 basis points. CERC paid a commitment fee of
25 basis points on the commitment amount and will be required to pay a facility
fee of 75 basis points on the amount funded and an additional 100 basis points
on the amount funded and outstanding for more than two months. In connection
with this facility, CERC expects to provide the lender with collateral in the
form of a security interest in the stock it owns in its interstate natural gas
pipeline subsidiaries.
In February 2003, CenterPoint Houston obtained a $75 million revolving
credit facility that terminates on April 30, 2003. A condition precedent to
utilizing the facility is that security in the form of general mortgage bonds
must be delivered to the lender. Rates for borrowings under this facility,
including the facility fee, will be LIBOR plus 250 basis points.
The bank facilities contain various business and financial covenants. The
borrowers are currently in compliance with the covenants under the applicable
credit agreements.
At the beginning of 2002, commercial paper programs aggregated $5 billion.
A reduction in the size of the commercial paper programs occurred in the third
and fourth quarters of 2002 as revolving credit facilities were converted to
term loan facilities. The maximum amount of each issuer's outstanding commercial
paper was limited to the amount of its revolving credit facility less any direct
loans or letters of credit obtained under its revolver. In October 2002, all
commercial paper was repaid with proceeds from bank loans. The extent to which
commercial paper is issued in lieu of bank loans depends, in part, on market
conditions and the credit ratings of the commercial paper issuer. The commercial
paper programs were terminated in December 2002.
(B) LONG-TERM DEBT
On February 28, 2003, the Company reached agreement with a syndicate of
banks on a second amendment to its $3.85 billion bank facility (the "Second
Amendment"). Under the Second Amendment, the maturity date of the bank facility
was extended from October 2003 to June 30, 2005, and the $1.2 billion in
mandatory prepayments that would have been required this year (including $600
million due on February 28, 2003) were eliminated. The facility consists of a
$2.35 billion term loan and a $1.5 billion revolver. Borrowings bear interest
based on LIBOR rates under a pricing grid tied to the Company's credit rating.
At our current credit ratings, the pricing for loans remains the same. The drawn
cost for the facility at our current ratings is LIBOR plus 450 basis points. The
Company has agreed to pay the banks an extension fee of 75 basis points on the
amounts outstanding under the bank facility on October 9, 2003. The Company also
paid $41 million in fees that were due on February 28, 2003, along with $20
million in fees that had been due on June 30, 2003.
34
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In addition, the interest rates will be increased by 25 basis points
beginning May 28, 2003 if the Company does not grant the banks a security
interest in our 81% stock ownership of Texas Genco. Granting the security
interest in the stock of Texas Genco requires approval from the Securities and
Exchange Commission (SEC) under the 1935 Act, which is currently being sought.
That security interest would be released when the Company sells Texas Genco,
which is expected to occur in 2004. Proceeds from the sale will be used to
reduce the bank facility.
Also under the Second Amendment, on or before May 28, 2003, the Company
expects to grant to the banks warrants to purchase up to 10%, on a fully diluted
basis, of our common stock at a price equal to the greater of $6.56 per share or
110% of the closing price on the New York Stock Exchange on the date the
warrants are issued. The warrants would not be exercisable for a year after
issuance but would remain outstanding for four years; provided, that if the
Company reduces the bank facility during 2003 by specified amounts, the warrants
will be extinguished. To the extent that the Company reduces the bank facility
by up to $400 million on or before May 28, 2003, up to half of the warrants will
be extinguished on a basis proportionate to the reduction in the credit
facility. To the extent such warrants are not extinguished on or before May 28,
2003, they will vest and become exercisable in accordance with their terms.
Whether or not the Company is able to extinguish warrants on or before May 28,
2003, the remaining 50% of the warrants will be extinguished, again on a
proportionate basis, if the Company reduces the bank facility by up to $400
million by the end of 2003. The Company plans to eliminate the warrants entirely
before they vest by accessing the capital markets to fund the total payments of
$800 million during 2003; however, because of current financial market
conditions and uncertainties regarding such conditions over the balance of the
year, there can be no assurance that the Company will be able to extinguish the
warrants or to do so on favorable terms.
The warrants and the underlying common stock would be registered with the
SEC and could be exercised either through the payment of the purchase price or
on a "cashless" basis under which the Company would issue a number of shares
equal to the difference between the then-current market price and the warrant
exercise price. Issuance of the warrants is also subject to obtaining SEC
approval under the 1935 Act, which is currently being sought. If that approval
is not obtained on or before May 28, 2003, the Company will provide the banks
equivalent cash compensation over the term that its warrants would have been
exercisable to the extent they are not otherwise extinguished.
In the Second Amendment, the Company also agreed that its quarterly common
stock dividend will not exceed $0.10 per share. If the Company has not reduced
the bank facility by a total of at least $400 million by the end of 2003, of
which at least $200 million has come from the issuance of capital stock or
securities linked to capital stock (such as convertible debt), the maximum
dividend payable during 2004 and for the balance of the term of the facility is
subject to an additional test. Under that test the maximum permitted quarterly
dividend will be the lesser of (i) $0.10 per share or (ii) 12.5% of the
Company's net income per share for the 12 months ended on the last day of the
previous quarter.
The Second Amendment provides that proceeds from capital stock or
indebtedness issued or incurred by the Company must be applied (subject to a
$200 million basket for CERC and another $250 million basket for borrowings by
the Company and other limited exceptions) to repay bank loans and reduce the
bank facility. Similarly, cash proceeds from the sale of assets of more than $30
million or, if less, a group of sales aggregating more than $100 million, must
be applied to repay bank loans and reduce the bank facility, except that
proceeds of up to $120 million can be reinvested in the Company's businesses.
On November 12, 2002, CenterPoint Houston entered into a $1.3 billion
collateralized term loan maturing November 2005. The interest rate on the loan
is LIBOR plus 9.75%, subject to a minimum rate of 12.75%. The loan is secured by
CenterPoint Houston's general mortgage bonds. Proceeds from the loan were used
to (1) repay CenterPoint Houston's $850 million term loan, (2) pay costs of
issuance, (3) repay $300 million of debt that matured on November 15, 2002 and
(4) to purchase $100 million of pollution control bonds on December 1, 2002. The
loan agreement contains various business and financial covenants
35
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
including a covenant restricting CenterPoint Houston's debt, excluding
transition bonds, as a percent of its total capitalization to 68%. The loan
agreement also limits incremental secured debt that may be issued by CenterPoint
Houston to $300 million.
Maturities. The Company's maturities of long-term debt and sinking fund
requirements, excluding the ZENS obligation, are $706 million in 2003 (of which
$500 million may be remarketed by an option holder to a maturity of 2013), $47
million in 2004, $5.6 billion in 2005, $210 million in 2006 and $68 million in
2007. The 2003 and 2004 amounts are net of sinking fund payments that can be
satisfied with bonds that had been acquired and retired as of December 31, 2002.
Liens. CenterPoint Houston's assets are subject to liens securing
approximately $1.2 billion of first mortgage bonds. Sinking or improvement fund
and replacement fund requirements on the first mortgage bonds may be satisfied
by certification of property additions. Sinking fund and replacement fund
requirements for 2000, 2001 and 2002 have been satisfied by certification of
property additions. The replacement fund requirement to be satisfied in 2003 is
approximately $347 million, and the sinking fund requirement to be satisfied in
2003 is approximately $15 million. The Company expects CenterPoint Houston to
meet these 2003 obligations by certification of property additions. CenterPoint
Houston's assets are subject to liens securing approximately $1.8 billion of
general mortgage bonds which are junior to the liens of the first mortgage
bonds.
Securitization. For a discussion of the securitization financing completed
in October 2001, see Note 4(a).
Purchase of Pollution Control Bonds. In the fourth quarter of 2002, the
Company purchased $175 million of pollution control bonds issued on its behalf.
The Company expects to remarket the bonds during the first half of 2003.
Purchase of Convertible Debentures. At December 31, 2001 and 2002, CERC
Corp. had issued and outstanding $86 million and $79 million, respectively,
aggregate principal amount ($82 million and $76 million, respectively, carrying
amount) of its 6% Convertible Subordinated Debentures due 2012 (Subordinated
Debentures). The holders of the Subordinated Debentures receive interest
quarterly and, prior to the Restructuring, had the right at any time on or
before the maturity date thereof to convert each $50 principal amount of
Subordinated Debentures into 0.65 shares of Reliant Energy common stock and
$14.24 in cash. After the Restructuring, but prior to the Reliant Resources
Distribution, each $50 principal amount of Subordinated Debentures was
convertible into 0.65 shares of CenterPoint Energy common stock and $14.24 in
cash. The Reliant Resources Distribution and the Texas Genco stock distribution
changed the conversion rights for each $50 principal amount of Subordinated
Debentures as follows:
SHARES OF
CENTERPOINT ENERGY
DATE EVENT CASH COMMON STOCK
- ----------------------------------- ---------------------- ------ ------------------
October 1, 2002.................... Distribution of $14.24 1.02
Reliant
Resources common stock
December 21, 2002.................. Distribution of Texas $14.24 1.11
Genco common stock
During 2002, CERC Corp. purchased $6.6 million aggregate principal amount
of its Subordinated Debentures.
TERM Notes. CERC Corp.'s $500 million aggregate principal amount of 6 3/8%
Term Enhanced ReMarketable Securities (TERM Notes) provide an investment bank
with a call option, that gives it the right to have the TERM Notes tendered to
it by the holders on November 1, 2003 and then remarketed if it chooses to
exercise the option. The TERM Notes are unsecured obligations of CERC Corp. that
bear interest at an annual rate of 6 3/8% through November 1, 2003. On November
1, 2003, the holders of the TERM Notes are required to tender their notes at
100% of their principal amount. The portion of the proceeds attributable to
36
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
the call option premium will be amortized over the stated term of the
securities. If the option is not exercised by the investment bank, CERC Corp.
will repurchase the TERM Notes at 100% of their principal amount on November 1,
2003. If the option is exercised, the TERM Notes will be remarketed on a date,
selected by CERC Corp., within the 52-week period beginning November 1, 2003.
CERC Corp. may elect into this 52-week remarketing window only if its senior
unsecured debt securities are rated at least Baa3 by Moody's Investors Service,
Inc. and BBB- by Standard & Poor's Ratings Services, a division of The McGraw
Hill Companies (unless the investment banker waives that requirement). During
this period and prior to remarketing, the TERM Notes will bear interest at
rates, adjusted weekly, based on an index selected by CERC Corp. CERC Corp. may
elect to redeem the TERM Notes in whole, but not in part, from the investment
bank prior to remarketing. If the TERM Notes are remarketed, the final maturity
date of the TERM Notes will be November 1, 2013, subject to adjustment, and the
effective interest rate on the remarketed TERM Notes will be 5.66% plus CERC
Corp.'s applicable credit spread at the time of such remarketing.
Transportation Agreement. A subsidiary of CERC Corp. had an agreement (ANR
Agreement) with ANR Pipeline Company (ANR) that contemplated that this
subsidiary would transfer to ANR an interest in some of CERC Corp.'s pipeline
and related assets. In 2001, this subsidiary was transferred to Reliant
Resources as a result of CenterPoint Energy's planned divestiture of certain
unregulated business operations. However, CERC retained the pipelines covered by
the ANR Agreement. Therefore, the subsequent divestiture of Reliant Resources by
CenterPoint Energy on September 30, 2002, resulted in a conversion of CERC's
obligation to ANR into an obligation to Reliant Resources. As of December 31,
2001, the Company had recorded $41 million in long-term debt and as of December
31, 2002, the Company had recorded $5 million and $36 million in current portion
of long-term debt and long-term debt, respectively, in its Consolidated Balance
Sheets to reflect this obligation for the use of 130 million cubic feet
(Mmcf)/day of capacity in some of CERC's transportation facilities. The volume
of transportation will decline to 100 Mmcf/day in the year 2003 with a refund by
CERC of $5 million to Reliant Resources. The ANR Agreement will terminate in
2005 with a refund of $36 million to Reliant Resources.
(10) TRUST PREFERRED SECURITIES
In February 1997, two Delaware statutory business trusts created by
CenterPoint Energy (HL&P Capital Trust I and HL&P Capital Trust II) issued to
the public (a) $250 million aggregate amount of preferred securities and (b)
$100 million aggregate amount of capital securities, respectively. In February
1999, a Delaware statutory business trust created by CenterPoint Energy (REI
Trust I) issued $375 million aggregate amount of preferred securities to the
public. CenterPoint Energy accounts for REI Trust I, HL&P Capital Trust I and
HL&P Capital Trust II as wholly owned consolidated subsidiaries. Each of the
trusts used the proceeds of the offerings to purchase junior subordinated
debentures issued by CenterPoint Energy having interest rates and maturity dates
that correspond to the distribution rates and the mandatory redemption dates for
each series of preferred securities or capital securities.
The junior subordinated debentures are the trusts' sole assets and their
entire operations. CenterPoint Energy considers its obligations under the
Amended and Restated Declaration of Trust, Indenture, Guaranty Agreement and,
where applicable, Agreement as to Expenses and Liabilities, relating to each
series of preferred securities or capital securities, taken together, to
constitute a full and unconditional guarantee by CenterPoint Energy of each
trust's obligations with respect to the respective series of preferred
securities or capital securities.
The preferred securities and capital securities are mandatorily redeemable
upon the repayment of the related series of junior subordinated debentures at
their stated maturity or earlier redemption. Subject to some limitations,
CenterPoint Energy has the option of deferring payments of interest on the
junior subordinated debentures. During any deferral or event of default,
CenterPoint Energy may not pay dividends on its capital
37
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
stock. As of December 31, 2002, no interest payments on the junior subordinated
debentures had been deferred.
The outstanding aggregate liquidation amount, distribution rate and
mandatory redemption date of each series of the preferred securities or capital
securities of the trusts described above and the identity and similar terms of
each related series of junior subordinated debentures are as follows:
AGGREGATE
LIQUIDATION
AMOUNTS AS OF MANDATORY
DECEMBER 31, DISTRIBUTION REDEMPTION
2001 AND 2002 RATE/ DATE/
TRUST (IN MILLIONS) INTEREST RATE MATURITY DATE JUNIOR SUBORDINATED DEBENTURES
- ----- ------------- ------------- ------------- ------------------------------
REI Trust I............... $375 7.20% March 2048 7.20% Junior Subordinated
Debentures
HL&P Capital Trust I...... $250 8.125% March 2046 8.125% Junior Subordinated
Deferrable Interest Debentures
Series A
HL&P Capital Trust II..... $100 8.257% February 2037 8.257% Junior Subordinated
Deferrable Interest Debentures
Series B
In June 1996, a Delaware statutory business trust created by CERC Corp.
(CERC Trust) issued $173 million aggregate amount of convertible preferred
securities to the public. CERC Corp. accounts for CERC Trust as a wholly owned
consolidated subsidiary. CERC Trust used the proceeds of the offering to
purchase convertible junior subordinated debentures issued by CERC Corp. having
an interest rate and maturity date that correspond to the distribution rate and
mandatory redemption date of the convertible preferred securities. The
convertible junior subordinated debentures represent CERC Trust's sole asset and
its entire operations. CERC Corp. considers its obligation under the Amended and
Restated Declaration of Trust, Indenture and Guaranty Agreement relating to the
convertible preferred securities, taken together, to constitute a full and
unconditional guarantee by CERC Corp. of CERC Trust's obligations with respect
to the convertible preferred securities.
The convertible preferred securities are mandatorily redeemable upon the
repayment of the convertible junior subordinated debentures at their stated
maturity or earlier redemption. Effective January 7, 2003, the convertible
preferred securities are convertible at the option of the holder into $33.62 of
cash and 2.34 shares of CenterPoint Energy common stock for each $50 of
liquidation value. As of December 31, 2001 and 2002, $0.4 million liquidation
amount of convertible preferred securities were outstanding. The securities, and
their underlying convertible junior subordinated debentures, bear interest at
6.25% and mature in June 2026. Subject to some limitations, CERC Corp. has the
option of deferring payments of interest on the convertible junior subordinated
debentures. During any deferral or event of default, CERC Corp. may not pay
dividends on its common stock to CenterPoint Energy. As of December 31, 2002, no
interest payments on the convertible junior subordinated debentures had been
deferred.
(11) STOCK-BASED INCENTIVE COMPENSATION PLANS AND EMPLOYEE BENEFIT PLANS
(a) INCENTIVE COMPENSATION PLANS
The Company has long-term incentive compensation plans (LICP) that provide
for the issuance of stock-based incentives, including performance-based shares,
performance-based units, restricted shares, stock options and stock appreciation
rights to key employees of the Company, including officers. As of December 31,
2002, 344 current and 443 former employees of the Company participate in the
plans. A maximum of approximately 37 million shares of CenterPoint Energy common
stock may be issued under these plans.
38
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Performance-based shares, performance-based units and restricted shares are
granted to employees without cost to the participants. The performance shares
and units vest three years after the grant date based upon the performance of
the Company over a three-year cycle, except as discussed below. The restricted
shares vest at various times ranging from immediately to at the end of a
three-year period. Upon vesting, the shares are issued to the plan participants.
During 2000, 2001 and 2002, the Company recorded compensation expense of
$22 million, $6 million and $2 million, respectively, related to
performance-based shares, performance-based units and restricted share grants.
Included in these amounts is $7 million and $5 million in compensation expense
for 2000 and 2001, respectively, related to Reliant Resources' participants. In
addition, compensation benefit of $1 million was recorded in 2002 related to
Reliant Resources' participants. Amounts for Reliant Resources' participants are
reflected in discontinued operations in the Statements of Consolidated
Operations.
The following table summarizes the Company's performance-based units,
performance-based shares and restricted share grant activity for the years 2000
through 2002:
NUMBER OF NUMBER OF
PERFORMANCE-BASED PERFORMANCE-BASED NUMBER OF
UNITS SHARES RESTRICTED SHARES
----------------- ----------------- -----------------
Outstanding at December 31, 1999............. -- 928,467 270,623
Granted.................................... -- 394,942 206,395
Canceled................................... -- (81,541) (13,060)
Released to participants................... -- (174,001) (5,346)
------ ---------- ---------
Outstanding at December 31, 2000............. -- 1,067,867 458,612
Granted.................................... 83,670 -- 2,623
Canceled................................... -- (17,154) (2,778)
Released to participants................... -- (424,623) (249,895)
------ ---------- ---------
Outstanding at December 31, 2001............. 83,670 626,090 208,562
Granted.................................... -- 451,050 --
Canceled................................... (5,625) (176,258) (41,892)
Released to participants................... (120) (447,060) (78,768)
------ ---------- ---------
Outstanding at December 31, 2002............. 77,925 453,822 87,902
====== ========== =========
Weighted average fair value granted for
2000....................................... $ 25.19 $ 28.03
========== =========
Weighted average fair value granted for
2001....................................... $ -- $ 38.13
========== =========
Weighted average fair value granted for
2002....................................... $ 12.00 $ --
========== =========
The maximum value associated with the performance-based units granted in
2001 was $150 per unit.
Effective with the Reliant Resources Distribution which occurred on
September 30, 2002, the Company's compensation committee authorized the
conversion of outstanding CenterPoint Energy performance-based shares for the
performance cycle ending December 31, 2002 to a number of time-based restricted
shares of CenterPoint Energy's common stock equal to the number of
performance-based shares that would have vested if the performance objectives
for the performance cycle were achieved at the maximum level for substantially
all shares. These time-based restricted shares vested if the participant holding
the shares remained employed with the Company or with Reliant Resources and its
subsidiaries through December 31, 2002. On the date of the Reliant Resources
Distribution, holders of these time-based restricted shares received shares of
Reliant Resources common stock in the same manner as other holders of
CenterPoint Energy common stock, but
39
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
these shares of common stock were subject to the same time-based vesting
schedule, as well as to the terms and conditions of the plan under which the
original performance shares were granted. Thus, following the Reliant Resources
Distribution, employees who held performance-based shares under the LICP for the
performance cycle ending December 31, 2002 held time-based restricted shares of
CenterPoint Energy common stock and time-based restricted shares of Reliant
Resources common stock, which vested following continuous employment through
December 31, 2002.
Effective with the Reliant Resources Distribution, the Company converted
all outstanding CenterPoint Energy stock options granted prior to the Reliant
Resources Offering to a combination of adjusted CenterPoint Energy stock options
and Reliant Resources stock options. For the converted stock options, the sum of
the intrinsic value of the CenterPoint Energy stock options immediately prior to
the record date of the Reliant Resources Distribution equaled the sum of the
intrinsic values of the adjusted CenterPoint Energy stock options and the
Reliant Resources stock options granted immediately after the record date of the
Reliant Resources Distribution. As such, Reliant Resources employees who do not
work for the Company hold stock options of the Company. Both the number and the
exercise price of all outstanding CenterPoint Energy stock options that were
granted on or after the Reliant Resources Offering were adjusted to maintain the
total intrinsic value of the grants.
During January 2003, due to the distribution of Texas Genco stock, the
Company granted additional CenterPoint Energy shares to participants with
performance-based and time-based shares that had not yet vested as of the record
date of December 20, 2002. These additional shares are subject to the same
vesting schedule and the terms and conditions of the plan under which the
original shares were granted. Also in connection with this distribution, both
the number and the exercise price of all outstanding CenterPoint Energy stock
options were adjusted to maintain the total intrinsic value of the stock option
grants.
Under the Company's plans, stock options generally become exercisable in
one-third increments on each of the first through third anniversaries of the
grant date. The exercise price is the average of the high and low sales price of
the common stock on the New York Stock Exchange on the grant date. The Company
applies APB Opinion No. 25, "Accounting for Stock Issued to Employees" (APB
Opinion No. 25), and related interpretations in accounting for its stock option
plans. Accordingly, no compensation expense has been recognized for these fixed
stock options. The following table summarizes stock option activity related to
the Company for the years 2000 through 2002:
NUMBER OF WEIGHTED AVERAGE
SHARES EXERCISE PRICE
---------- ----------------
Outstanding at December 31, 1999......................... 6,462,971 $25.99
Options granted........................................ 5,936,510 22.14
Options exercised...................................... (1,061,169) 25.01
Options canceled....................................... (1,295,877) 23.96
----------
Outstanding at December 31, 2000......................... 10,042,435 24.13
Options granted........................................ 1,887,668 46.23
Options exercised...................................... (1,812,022) 24.11
Options canceled....................................... (289,610) 27.38
----------
40
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NUMBER OF WEIGHTED AVERAGE
SHARES EXERCISE PRICE
---------- ----------------
Outstanding at December 31, 2001......................... 9,828,471 28.34
Options granted........................................ 3,115,399 7.12
Options converted at Reliant Resources Distribution.... 742,636 29.01
Options exercised...................................... (71,273) 20.59
Options canceled....................................... (1,155,351) 16.11
----------
Outstanding at December 31, 2002......................... 12,459,882 $18.26
========== ======
Options exercisable at December 31, 2000................. 2,258,397 $25.76
========== ======
Options exercisable at December 31, 2001................. 3,646,228 $25.38
========== ======
Options exercisable at December 31, 2002................. 6,854,910 $19.78
========== ======
Exercise prices for CenterPoint Energy stock options outstanding held by
Company employees ranged from $5.00 to $40.00. The following tables provide
information with respect to outstanding CenterPoint Energy stock options held by
the Company's employees on December 31, 2002:
REMAINING AVERAGE
OPTIONS AVERAGE CONTRACTUAL LIFE
OUTSTANDING EXERCISE PRICE (YEARS)
----------- -------------- -----------------
Ranges of Exercise Prices:
$5.00-$15.00.............................. 6,330,830 $11.40 8.0
$15.01-$20.00............................. 2,981,020 19.05 5.9
$20.01-$30.00............................. 731,891 23.07 6.9
$30.01-$40.00............................. 2,416,141 33.80 8.3
----------
Total.................................. 12,459,882 18.26 7.5
==========
The following table provides information with respect to CenterPoint Energy
stock options exercisable at December 31, 2002:
OPTIONS AVERAGE
EXERCISABLE EXERCISE PRICE
----------- --------------
Ranges of Exercise Prices:
$5.00-$15.00.............................................. 2,446,317 $14.82
$15.01-$20.00............................................. 2,929,020 19.09
$20.01-$30.00............................................. 598,556 22.76
$30.01-$40.00............................................. 881,017 33.81
---------
Total.................................................. 6,854,910 19.78
=========
In accordance with SFAS No. 123, "Accounting for Stock-Based Compensation"
(SFAS No. 123), and SFAS No. 148, the Company applies the guidance contained in
APB Opinion No. 25 and discloses the required pro forma effect on net income of
the fair value based method of accounting for stock compensation. The weighted
average fair values at date of grant for CenterPoint Energy options granted
during 2000, 2001
41
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
and 2002 were $5.07, $9.25 and $1.40, respectively. The fair values were
estimated using the Black-Scholes option valuation model with the following
weighted-average assumptions:
2000 2001 2002
------ ------ ------
Expected life in years..................................... 5 5 5
Interest rate.............................................. 6.57% 4.87% 2.83%
Volatility................................................. 24.00% 31.91% 48.95%
Expected common stock dividend............................. $ 1.50 $ 1.50 $ 0.64
Pro forma information for 2000, 2001 and 2002 is provided to take into
account the amortization of stock-based compensation to expense on a
straight-line basis over the vesting period. Had compensation costs been
determined as prescribed by SFAS No. 123, the Company's net income and earnings
per share would have been as follows:
2000 2001 2002
----- ----- -------
(IN MILLIONS, EXCEPT
PER SHARE AMOUNTS)
Net Income (loss):
As reported............................................... $ 447 $ 980 $(3,920)
Pro forma................................................. $ 437 $ 968 $(3,929)
Basic Earnings Per Share:
As reported............................................... $1.57 $3.38 $(13.16)
Pro forma................................................. $1.54 $3.34 $(13.16)
Diluted Earnings Per Share:
As reported............................................... $1.56 $3.35 $(13.08)
Pro forma................................................. $1.52 $3.31 $(13.08)
(B) PENSION AND POSTRETIREMENT BENEFITS
The Company maintains a pension plan which is a non-contributory defined
benefit plan covering substantially all employees using a cash balance formula.
Under the cash balance formula, participants accumulate a retirement benefit
based upon 4% of eligible earnings and accrued interest. Prior to 1999, the
pension plan accrued benefits based on years of service, final average pay and
covered compensation. As a result, certain employees participating in the plan
as of December 31, 1998 are eligible to receive the greater of the accrued
benefit calculated under the prior plan through 2008 or the cash balance
formula.
The Company's funding policy is to review amounts annually in accordance
with applicable regulations in order to achieve adequate funding of projected
benefit obligations. The assets of the pension plans consist principally of
common stocks and interest bearing obligations. Included in such assets are
approximately 4.5 million shares of CenterPoint Energy common stock contributed
from treasury stock during 2001. As of December 31, 2002, the fair value of
CenterPoint Energy common stock was $38 million or 4.7% of the pension plan
assets.
The Company provides certain healthcare and life insurance benefits for
retired employees on a contributory and non-contributory basis. Employees become
eligible for these benefits if they have met certain age and service
requirements at retirement, as defined in the plans. Under plan amendments
effective in early 1999, health care benefits for future retirees were changed
to limit employer contributions for medical coverage.
42
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Such benefit costs are accrued over the active service period of employees.
The net unrecognized transition obligation, resulting from the implementation of
accrual accounting, is being amortized over approximately 20 years.
The Company is required to fund a portion of its obligations in accordance
with rate orders. All other obligations are funded on a pay-as-you-go basis.
The Company's net periodic cost (benefit) includes the following components
relating to pension and postretirement benefits:
YEAR ENDED DECEMBER 31,
---------------------------------------------------------------------------------
2000 2001 2002
------------------------- ------------------------- -------------------------
PENSION POSTRETIREMENT PENSION POSTRETIREMENT PENSION POSTRETIREMENT
BENEFITS BENEFITS BENEFITS BENEFITS BENEFITS BENEFITS
-------- -------------- -------- -------------- -------- --------------
(IN MILLIONS)
Service cost..................... $ 31 $ 6 $ 35 $ 5 $ 32 $ 5
Interest cost.................... 88 27 99 31 104 32
Expected return on plan assets... (146) (11) (138) (13) (126) (13)
Net amortization................. (12) 11 (3) 14 16 13
Curtailment...................... -- -- (23) 40 -- --
Benefit enhancement.............. -- -- 69 -- 9 3
Settlement....................... -- -- -- -- -- (18)
----- ---- ----- ---- ----- ----
Net periodic cost (benefit)...... $ (39) $ 33 $ 39 $ 77 $ 35 $ 22
===== ==== ===== ==== ===== ====
Above amounts reflect the
following net periodic cost
(benefit) related to
discontinued operations........ $ -- $ -- $ 45 $ 42 $ (4) $(16)
===== ==== ===== ==== ===== ====
The following table displays the change in the benefit obligation, the fair
value of plan assets and the amounts included in the Company's Consolidated
Balance Sheets as December 31, 2001 and 2002 for the Company's pension and
postretirement benefit plans:
DECEMBER 31,
-----------------------------------------------------
2001 2002
------------------------- -------------------------
PENSION POSTRETIREMENT PENSION POSTRETIREMENT
BENEFITS BENEFITS BENEFITS BENEFITS
-------- -------------- -------- --------------
(IN MILLIONS)
CHANGE IN BENEFIT OBLIGATION
Benefit obligation, beginning of year.......... $ 1,317 $ 425 $ 1,485 $ 456
Service cost................................... 35 5 32 5
Interest cost.................................. 99 31 104 32
Participant contributions...................... -- 5 -- 7
Benefits paid.................................. (92) (17) (136) (26)
Actuarial loss................................. 69 7 56 20
Curtailment, benefit enhancement and
settlement................................... 57 -- 9 (15)
-------- ----- -------- -----
Benefit obligation, end of year................ $ 1,485 $ 456 $ 1,550 $ 479
======== ===== ======== =====
43
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DECEMBER 31,
-----------------------------------------------------
2001 2002
------------------------- -------------------------
PENSION POSTRETIREMENT PENSION POSTRETIREMENT
BENEFITS BENEFITS BENEFITS BENEFITS
-------- -------------- -------- --------------
(IN MILLIONS)
CHANGE IN PLAN ASSETS
Plan assets, beginning of year................. $ 1,417 $ 122 $ 1,376 $ 139
Employer contributions......................... 107 40 -- 30
Participant contributions...................... -- 5 -- 7
Benefits paid.................................. (92) (17) (136) (26)
Actual investment return....................... (56) (11) (186) (19)
-------- ----- -------- -----
Plan assets, end of year....................... $ 1,376 $ 139 $ 1,054 $ 131
======== ===== ======== =====
RECONCILIATION OF FUNDED STATUS
Funded status.................................. $ (109) $(317) $ (496) $(348)
Unrecognized actuarial loss.................... 470 (25) 811 27
Unrecognized prior service cost................ (93) 65 (84) 60
Unrecognized transition (asset) obligation..... (2) 94 -- 87
-------- ----- -------- -----
Prepaid (accrued) pension cost................. $ 266 $(183) $ 231 $(174)
======== ===== ======== =====
AMOUNTS RECOGNIZED IN BALANCE SHEETS
Other assets-Other............................. $ 266 $ -- $ -- $ --
Benefits obligations........................... -- (183) (392) (174)
Accumulated other comprehensive income......... -- -- 623 --
-------- ----- -------- -----
Prepaid (accrued) pension cost................. $ 266 $(183) $ 231 $(174)
======== ===== ======== =====
ACTUARIAL ASSUMPTIONS
Discount rate.................................. 7.25% 7.25% 6.75% 6.75%
Expected return on plan assets................. 9.5% 9.5% 9.0% 9.0%
Rate of increase in compensation levels........ 3.5-5.5% -- 3.5-5.5% --
For the year ended December 31, 2001, the assumed health care cost trend
rates were 7.5% for participants under age 65 and 8.5% for participants age 65
and over. For the year ended December 31, 2002, the assumed health cost trend
rate was increased to 12% for all participants. The health care cost trend rates
decline by .75% annually to 5.5% by 2011.
If the health care cost trend rate assumption were increased by 1%, the
accumulated postretirement benefit obligation as of December 31, 2002 would
increase by 2.9%. The annual effect of a 1% increase on the sum of service and
interest cost would be an increase of approximately 2.4%. If the health care
cost trend rate assumption were decreased by 1%, the accumulated postretirement
benefit obligation as of December 31, 2002 would decrease approximately 2.8%.
The annual effect of a 1% decrease on the sum of service and interest cost would
be a decrease of 2.4%.
In addition to the non-contributory pension plans discussed above, the
Company maintains a non-qualified pension plan which allow participants to
retain the benefits to which they would have been entitled under the Company's
non-contributory pension plan except for the federally mandated limits on these
benefits or on the level of compensation on which these benefits may be
calculated. The expense associated with this non-qualified plan was $25 million,
$25 million and $9 million in 2000, 2001 and 2002, respectively. Included in the
net benefit cost in 2001 and 2002 is $17 million and $3 million, respectively,
of expense related to
44
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Reliant Resources' participants, which is reflected in discontinued operations
in the Statements of Consolidated Operations. The accrued benefit liability for
the non-qualified pension plan was $99 million and $83 million at December 31,
2001 and 2002, respectively. In addition, these accrued benefit liabilities
include the recognition of minimum liability adjustments of $20 million as of
December 31, 2001 and $23 million as of December 31, 2002, which are reported as
a component of other comprehensive income, net of income tax effects. Included
in these amounts is $30 million of accrued benefit liabilities for Reliant
Resources' participants as of December 31, 2001. Of these liabilities, $11
million represents the recognition of minimum liability adjustments, which are
reported as discontinued operations on the Statements of Consolidated
Comprehensive Income, net of income tax effects.
(C) SAVINGS PLAN
The Company has an employee savings plan that includes a cash or deferred
arrangement under Section 401(k) of the Internal Revenue Code of 1986, as
amended (the Code). Under the plan, participating employees may contribute a
portion of their compensation, on a pre-tax or after-tax basis, generally up to
a maximum of 16% of compensation. The Company matches 75% of the first 6% of
each employee's compensation contributed. The Company may contribute an
additional discretionary match of up to 50% of the first 6% of each employee's
compensation contributed. These matching contributions are fully vested at all
times. A substantial portion of the Company's match is initially invested in
CenterPoint Energy common stock.
Participating employees may elect to invest all or a portion of their
contributions to the plan in CenterPoint Energy common stock, to have dividends
reinvested in additional shares or to receive dividend payments in cash on any
investment in CenterPoint Energy common stock, and to transfer all or part of
their investment in CenterPoint Energy common stock to other investment options
offered by the plan.
The Company's savings plan includes an Employee Stock Ownership Plan
(ESOP), which contains company stock, a portion of which is encumbered by a
loan. Upon the release from the encumbrance of the loan, the Company may use
released shares to satisfy its obligation to make matching contributions under
the Company's savings plan. Generally, debt service on the loan is paid using
all dividends on shares currently or formerly encumbered by the loan, interest
earnings on funds held in trust and cash contributions by the Company. Shares of
CenterPoint Energy common stock are released from the encumbrance of the loan
based on the proportion of debt service paid during the period.
The Company recognizes benefit expense equal to the fair value of the
shares committed to be released. The Company credits to unearned shares the
original purchase price of shares committed to be released to plan participants
with the difference between the fair value of the shares and the original
purchase price recorded to common stock. Dividends on allocated shares are
recorded as a reduction to retained earnings. Dividends on unallocated shares
are recorded as a reduction of principal or accrued interest on the loan.
45
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Share balances currently or formerly encumbered by a loan at December 31,
2001 and 2002 were as follows:
DECEMBER 31,
--------------------------
2001 2002
------------ -----------
Allocated shares transferred/distributed from the savings
plan...................................................... 2,740,328 5,943,297
Allocated shares............................................ 8,951,967 8,734,810
Unearned shares(1).......................................... 7,069,889 4,915,577
------------ -----------
Total ESOP shares(1)...................................... 18,762,184 19,593,684
============ ===========
Fair value of unearned ESOP shares.......................... $187,493,456 $41,782,405
============ ===========
- ---------------
(1) During 2002, unearned shares and total shares were increased by 831,500
shares. This is due to additional shares purchased with proceeds from the
sale of Reliant Resources common stock, which was received in connection
with the Reliant Resources Distribution.
As a result of the ESOP, the savings plan has significant holdings of
CenterPoint Energy common stock. As of December 31, 2002, an aggregate of
32,099,870 shares of CenterPoint Energy's common stock were held by the savings
plan, which represented 30% of its investments. Given the concentration of the
investments in CenterPoint Energy's common stock, the savings plan and its
participants have market risk related to this investment.
The Company's savings plan benefit expense was $52 million, $51 million and
$47 million in 2000, 2001 and 2002, respectively. Included in these amounts are
$5 million $16 million and $6 million of savings plan benefit expense for 2000,
2001 and 2002, respectively, related to Reliant Resources' participants, which
is reflected as discontinued operations in the Statements of Consolidated
Operations.
(D) POSTEMPLOYMENT BENEFITS
Net postemployment benefit costs for former or inactive employees, their
beneficiaries and covered dependents, after employment but before retirement
(primarily health care and life insurance benefits for participants in the
long-term disability plan) were $2 million, $6 million and $12 million in 2000,
2001 and 2002, respectively.
The Company's postemployment obligation is presented as a liability in the
Consolidated Balance Sheets under the caption "Benefit Obligations."
(E) OTHER NON-QUALIFIED PLANS
The Company has in effect deferred compensation plans which permit eligible
participants to elect each year to defer a percentage of that year's salary and
up to 100% of that year's annual bonus. In general, employees who attain the age
of 60 during employment and participate in the Company's deferred compensation
plans may elect to have their deferred compensation amounts repaid in (a)
fifteen equal annual installments commencing at the later of age 65 or
termination of employment or (b) a lump-sum distribution following termination
of employment. Interest generally accrues on deferrals at a rate equal to the
average Moody's Long-Term Corporate Bond Index plus 2%, determined annually
until termination when the rate is fixed at the rate in effect for the plan year
immediately prior to that in which a participant attains age 65. During 2000,
2001 and 2002, the Company recorded interest expense related to its deferred
compensation obligation of $14 million, $17 million and $11 million,
respectively. Included in these amounts are $1 million, $4 million and $0.2
million of interest expense for 2000, 2001 and 2002, respectively, related to
Reliant Resources' participants, which is reflected as discontinued operations
in the Statements of Consolidated
46
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Operations. The discounted deferred compensation obligation recorded by the
Company was $161 million and $132 million as of December 31, 2001 and 2002,
respectively.
The Company's obligations under other non-qualified plans are presented as
a liability in the Consolidated Balance Sheets under the caption "Benefit
Obligations."
(F) OTHER EMPLOYEE MATTERS
As of December 31, 2002, approximately 38% of the Company's employees are
subject to collective bargaining agreements. Three of these agreements, covering
approximately 24% of the Company's employees, will expire in 2003.
(12) INCOME TAXES
The components of income from continuing operations before income taxes are
as follows:
YEAR ENDED DECEMBER 31,
------------------------
2000 2001 2002
------ ------ ------
(IN MILLIONS)
United States............................................... $514 $753 $563
Foreign..................................................... (36) -- --
---- ---- ----
Income from continuing operations before income taxes..... $478 $753 $563
==== ==== ====
The Company's current and deferred components of income tax expense
(benefit) were as follows:
YEAR ENDED DECEMBER 31,
-------------------------
2000 2001 2002
------ ------ -------
(IN MILLIONS)
Current:
Federal................................................... $207 $364 $(116)
State..................................................... 9 (3) 9
Foreign................................................... 41 -- --
---- ---- -----
Total current.......................................... 257 361 (107)
---- ---- -----
Deferred:
Federal................................................... (23) (105) 293
State..................................................... 1 -- 11
---- ---- -----
Total deferred......................................... (22) (105) 304
---- ---- -----
Income tax expense.......................................... $235 $256 $ 197
==== ==== =====
47
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
A reconciliation of the federal statutory income tax rate to the effective
income tax rate is as follows:
2000 2001 2002
---- ---- ----
(IN MILLIONS)
Income from continuing operations before income taxes....... $478 $753 $563
Federal statutory rate...................................... 35% 35% 35%
---- ---- ----
Income taxes at statutory rate.............................. 167 264 197
---- ---- ----
Net addition (reduction) in taxes resulting from:
State income taxes, net of valuation allowances and
federal income tax benefit............................. 6 (2) 13
Capital loss benefit...................................... -- -- (72)
Amortization of investment tax credit..................... (18) (18) (13)
Excess deferred taxes..................................... (4) (5) (3)
Goodwill amortization..................................... 17 16 --
Latin America equity investments.......................... 63 -- --
Valuation allowance, capital loss......................... -- -- 72
Other, net................................................ 4 1 3
---- ---- ----
Total.................................................. 68 (8) --
---- ---- ----
Income tax expense.......................................... $235 $256 $197
==== ==== ====
Effective rate.............................................. 49.2% 34.0% 34.9%
Following are the Company's tax effects of temporary differences between
the carrying amounts of assets and liabilities in the financial statements and
their respective tax bases:
DECEMBER 31,
----------------
2001 2002
------ ------
(IN MILLIONS)
Deferred tax assets:
Current:
Allowance for doubtful accounts........................ $ 14 $ 9
Non-trading derivative assets, net..................... 19 35
Current portion of capital loss........................ -- 8
------ ------
Total current deferred tax assets.................... 33 52
------ ------
Non-current:
Employee benefits...................................... 127 374
Disallowed plant cost, net............................. 53 --
Operating and capital loss carryforwards............... 29 86
Contingent liabilities associated with discontinuance
of SFAS No. 71........................................ 74 108
Foreign exchange gains................................. 16 16
Impairment of foreign asset............................ 52 51
Other.................................................. 74 90
Valuation allowance.................................... (15) (83)
------ ------
Total non-current deferred tax assets................ 410 642
------ ------
Total deferred tax assets............................ 443 694
------ ------
48
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DECEMBER 31,
----------------
2001 2002
------ ------
(IN MILLIONS)
Deferred tax liabilities:
Current:
Unrealized gain on indexed debt securities............. 113 276
Unrealized gain on AOL Time Warner investment.......... 244 61
------ ------
Total current deferred tax liabilities............... 357 337
------ ------
Non-current:
Depreciation........................................... 2,237 2,397
Regulatory assets, net................................. 403 634
Deferred gas costs..................................... 47 3
Other.................................................. 75 57
------ ------
Total non-current deferred tax liabilities........... 2,762 3,091
------ ------
Total deferred tax liabilities....................... 3,119 3,428
------ ------
Accumulated deferred income taxes, net............ $2,676 $2,734
====== ======
Tax Attribute Carryforwards. At December 31, 2002, the Company had $7
million and $387 million of federal and state net operating loss carryforwards,
respectively. The losses are available to offset future respective federal and
state taxable income through the year 2022.
In conjunction with the Reliant Resources Distribution, the Company
realized a previously unrecorded capital loss attributable to the excess of the
tax basis over the book carrying value in former subsidiaries sold to Reliant
Resources. The tax benefit of this excess tax basis is recorded under SFAS No.
109, "Accounting for Income Taxes," when realizable under the facts, such as a
loss from a previously deferred taxable disposition that is triggered by a
spin-off. This loss is a capital loss which may be used in the three taxable
years preceding the year of the loss, or the five taxable years following the
year of the loss. Federal tax law only allows utilization of capital losses to
offset capital gains. A valuation allowance is provided against 100% of the
expected benefit due to the uncertainty in the Company's ability to generate
capital gains during the utilization period.
The valuation allowance reflects a net decrease of $32 million in 2001 and
a net increase of $68 million in 2002. These net changes resulted from a
reassessment of the Company's future ability to use federal capital loss
carryforwards and state tax net operating loss carryforwards.
Tax Refunds. In 2000, the Company received refunds from the Internal
Revenue Service totaling $126 million in taxes and interest following audits of
tax returns and refund claims for CenterPoint Energy's 1985, 1986 and 1990
through 1995 tax years, and CERC Corp.'s 1979 through 1993 tax years. The
pre-tax income statement effect of $40 million ($26 million after-tax) was
recorded in 2000 in other income in the Company's Statements of Consolidated
Operations. Of the refunds, $26 million was recorded as a reduction in goodwill.
CenterPoint Energy's consolidated federal income tax returns have been audited
and settled through the 1996 tax year. All of CERC Corp.'s consolidated federal
income tax returns for tax years ending on or prior to CenterPoint Energy's
acquisition of CERC Corp. have been audited and settled.
49
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(13) COMMITMENTS AND CONTINGENCIES
(a) COMMITMENTS AND GUARANTEES
Environmental Capital Commitments. CenterPoint Energy anticipates
investing up to $131 million in capital and other special project expenditures
between 2003 and 2007 for environmental compliance. CenterPoint Energy
anticipates expenditures to be as follows (in millions):
2003........................................................ $ 98
2004........................................................ 33
2005........................................................ --
2006(1)..................................................... --
2007(1)..................................................... --
----
Total $131
====
- ---------------
(1) NOx control estimates for 2006 and 2007 have not been finalized.
Fuel and Purchased Power. Fuel commitments include several long-term coal,
lignite and natural gas contracts related to Texas power generation operations,
which have various quantity requirements and durations that are not classified
as non-trading derivatives assets and liabilities in the Company's Consolidated
Balance Sheets as of December 31, 2002 as these contracts meet the SFAS No. 133
exception to be classified as "normal purchases contracts" or do not meet the
definition of a derivative. Minimum payment obligations for coal and
transportation agreements that extend through 2012 are approximately $292
million in 2003, $165 million in 2004, $169 million in 2005, $174 million in
2006 and $167 million in 2007. Purchase commitments related to lignite mining
and lease agreements and purchased power are not material to CenterPoint
Energy's operations. Prior to January 1, 2002, CenterPoint Houston was allowed
recovery of these costs through rates for electric service. As of December 31,
2002, some of these contracts are above market. CenterPoint Energy anticipates
that stranded costs associated with these obligations will be recoverable
through the stranded cost recovery mechanisms contained in the Texas electric
restructuring law. For information regarding the Texas electric restructuring
law, see Note 4(a).
CenterPoint Energy's other long-term fuel supply commitments, which have
various quantity requirements and durations, are not considered material either
individually or in the aggregate to its results of operations or cash flows.
(b) LEASE COMMITMENTS
The following table sets forth information concerning the Company's
obligations under non-cancelable long-term operating leases at December 31,
2002, which primarily consist of rental agreements for building space, data
processing equipment and vehicles, including major work equipment (in millions).
2003........................................................ $ 31
2004........................................................ 28
2005........................................................ 26
2006........................................................ 24
2007........................................................ 23
2008 and beyond............................................. 131
----
Total..................................................... $263
====
50
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Total lease expense for all operating leases was $46 million, $45 million
and $43 million during 2000, 2001 and 2002, respectively.
(C) LEGAL, ENVIRONMENTAL AND OTHER REGULATORY MATTERS
Legal Matters
The Company's predecessor, Reliant Energy, and certain of its former
subsidiaries are named as defendants in several lawsuits described below. Under
a master separation agreement between Reliant Energy and Reliant Resources, the
Company and its subsidiaries are entitled to be indemnified by Reliant Resources
for any losses arising out of the lawsuits described under "California Class
Actions and Attorney General Cases," "Long-Term Contract Class Action,"
"Washington and Oregon Class Actions," "Bustamante Price Reporting Class Action"
and "Trading and Marketing Activities," including attorneys' fees and other
costs. Pursuant to the indemnification obligation, Reliant Resources is
defending the Company and its subsidiaries to the extent named in these
lawsuits. The ultimate outcome of these matters cannot be predicted at this
time.
California Class Actions and Attorney General Cases. Reliant Energy,
Reliant Resources, Reliant Energy Services, Inc.(Reliant Energy Services),
Reliant Energy Power Generation, Inc. (REPG) and several other subsidiaries of
Reliant Resources, as well as two former officers and one present officer of
some of these companies, have been named as defendants in class action lawsuits
and other lawsuits filed against a number of companies that own generation
plants in California and other sellers of electricity in California markets.
While the plaintiffs allege various violations by the defendants of antitrust
laws and state laws against unfair and unlawful business practices, each of the
lawsuits is grounded on the central allegation that the defendants conspired to
drive up the wholesale price of electricity. In addition to injunctive relief,
the plaintiffs in these lawsuits seek treble the amount of damages alleged,
restitution of alleged overpayments, disgorgement of alleged unlawful profits
for sales of electricity, costs of suit and attorneys' fees. All of these suits
originally were filed in state courts in San Diego, San Francisco and Los
Angeles Counties. The suits in San Diego and Los Angeles Counties were
consolidated and removed to the federal district court in San Diego, but on
December 13, 2002, that court remanded the suits to the state courts. Prior to
the remand, Reliant Energy was voluntarily dismissed from two of the suits.
Several parties, including the Reliant defendants, have appealed the judge's
remand decision. The United States court of appeals has entered a briefing
schedule that could result in oral arguments by summer of 2003. Proceedings
before the state court are expected to resume during the first quarter of 2003.
In March and April 2002, the California Attorney General filed three
complaints, two in state court in San Francisco and one in the federal district
court in San Francisco, against Reliant Energy, Reliant Resources, Reliant
Energy Services and other subsidiaries of Reliant Resources alleging, among
other matters, violations by the defendants of state laws against unfair and
unlawful business practices arising out of transactions in the markets for
ancillary services run by the California independent systems operator, charging
unjust and unreasonable prices for electricity, in violation of antitrust laws
in connection with the acquisition in 1998 of electric generating facilities
located in California. The complaints variously seek restitution and
disgorgement of alleged unlawful profits for sales of electricity, civil
penalties and fines, injunctive relief against unfair competition, and undefined
equitable relief. Reliant Resources has removed the two state court cases to the
federal district court in San Francisco where all three cases are now pending.
Following the filing of the Attorney General cases, seven additional class
action cases were filed in state courts in Northern California. Each of these
purports to represent the same class of California ratepayers, assert the same
claims as asserted in the other California class action cases, and in some
instances repeat as well the allegations in the Attorney General cases. All of
these cases have been removed to federal district court in San Diego. Reliant
Resources has not filed an answer in any of these cases. The plaintiffs have
agreed to a stipulated order that would require the filing of a consolidated
complaint by early March 2003 and the filing of the defendants' initial response
to the complaint within 60 days after the consolidated complaint is
51
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
filed. In all of these cases filed before the federal and state courts in
California, the Reliant defendants have filed or intend to file motions to
dismiss on grounds that the claims are barred by federal preemption and the
filed rate doctrine.
Long-Term Contract Class Action. In October 2002, a class action was filed
in state court in Los Angeles against Reliant Energy and several subsidiaries of
Reliant Resources. The complaint in this case repeats the allegations asserted
in the California class actions as well as the Attorney General cases and also
alleges misconduct related to long-term contracts purportedly entered into by
the California Department of Water Resources. None of the Reliant entities,
however, has a long-term contract with the Department of Water Resources. This
case has been removed to federal district court in San Diego.
Washington and Oregon Class Actions. In December 2002, a lawsuit was filed
in Circuit Court of the State of Oregon for the County of Multnomah on behalf of
a class of all Oregon purchasers of electricity and natural gas. Reliant Energy,
Reliant Resources and several Reliant Resources subsidiaries are named as
defendants, along with many other electricity generators and marketers. Like the
other lawsuits filed in California, the plaintiffs claim the defendants
manipulated wholesale power prices in violation of state and federal law. The
plaintiffs seek injunctive relief and payment of damages based on alleged
overcharges for electricity. Also in December 2002, a nearly identical lawsuit
on behalf of consumers in the State of Washington was filed in federal district
court in Seattle. Reliant Resources has removed the Oregon suit to federal
district court in Portland. It is anticipated that before answering the
lawsuits, the defendants will file motions to dismiss on the grounds that the
claims are barred by federal preemption and by the filed rate doctrine.
Bustamante Price Reporting Class Action. In November 2002, California
Lieutenant Governor Cruz Bustamante filed a lawsuit in state court in Los
Angeles on behalf of a class of purchasers of gas and power alleging violations
of state antitrust laws and state laws against unfair and unlawful business
practices based on an alleged conspiracy to report and publish false and
fraudulent natural gas prices with an intent to affect the market prices of
natural gas and electricity in California. Reliant Energy, Reliant Resources and
several Reliant Resources subsidiaries are named as defendants, along with other
market participants and publishers of some of the price indices. The complaint
seeks injunctive relief, compensatory and punitive damages, restitution of
alleged overpayment, disgorgement of all profits and funds acquired by the
alleged unlawful conduct, costs of suit and attorneys' fees. The parties have
stipulated to a schedule that would require the defendants to respond to the
complaint by March 31, 2003. The Reliant defendants intend to deny both their
alleged violation of any laws and their alleged participation in any conspiracy.
Trading and Marketing Activities. Reliant Energy has been named as a party
in several lawsuits and regulatory proceedings relating to the trading and
marketing activities of its former subsidiary, Reliant Resources.
In June 2002, the SEC advised Reliant Resources and Reliant Energy that it
had issued a formal order in connection with its investigation of Reliant
Resources' financial reporting, internal controls and related matters. The
Company understands that the investigation is focused on Reliant Resources'
same-day commodity trading transactions involving purchases and sales with the
same counterparty for the same volume at substantially the same price and
certain structured transactions. These matters were previously the subject of an
informal inquiry by the SEC. Reliant Resources and the Company are cooperating
with the SEC staff.
In connection with the Texas Utility Commission's industry-wide
investigation into potential manipulation of the ERCOT market on and after July
31, 2001, Reliant Energy and Reliant Resources have provided information to the
Texas Utility Commission concerning their scheduling and trading activities.
Fifteen class action lawsuits filed in May, June and July 2002 on behalf of
purchasers of securities of Reliant Resources and/or Reliant Energy have been
consolidated in federal district court in Houston. Reliant Resources and certain
of its executive officers are named as defendants. Reliant Energy is also named
as a
52
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
defendant in seven of the lawsuits. Two of the lawsuits also name as defendants
the underwriters of the Reliant Resources Offering. One lawsuit names Reliant
Resources' and Reliant Energy's independent auditors as a defendant. The
consolidated amended complaint seeks monetary relief purportedly on behalf of
three classes: (1) purchasers of Reliant Energy common stock from February 3,
2000 to May 13, 2002; (2) purchasers of Reliant Resources common stock on the
open market from May 1, 2001 to May 13, 2002; and (3) purchasers of Reliant
Resources common stock in the Reliant Resources Offering or purchasers of shares
that are traceable to the Reliant Resources Offering. The plaintiffs allege,
among other things, that the defendants misrepresented their revenues and
trading volumes by engaging in round-trip trades and improperly accounted for
certain structured transactions as cash-flow hedges, which resulted in earnings
from these transactions being accounted for as future earnings rather than being
accounted for as earnings in fiscal year 2001.
In February 2003, a lawsuit was filed by three individuals in federal
district court in Chicago against CenterPoint Energy and certain former and
current officers of Reliant Resources for alleged violations of federal
securities laws. The plaintiffs in this lawsuit allege that the defendants
violated federal securities laws by issuing false and misleading statements to
the public, and that the defendants made false and misleading statements as part
of an alleged scheme to inflate artificially trading volumes and revenues. In
addition, the plaintiffs assert claims of fraudulent and negligent
misrepresentation and violations of Illinois consumer law. The defendants expect
to file a motion to transfer this lawsuit to the federal district court in
Houston and to consolidate this lawsuit with the consolidated lawsuits described
above.
The Company believes that none of these lawsuits has merit because, among
other reasons, the alleged misstatements and omissions were not material and did
not result in any damages to any of the plaintiffs.
In May 2002, three class action lawsuits were filed in federal district
court in Houston on behalf of participants in various employee benefits plans
sponsored by Reliant Energy. Reliant Energy and its directors are named as
defendants in all of the lawsuits. Two of the lawsuits have been dismissed
without prejudice. The remaining lawsuit alleges that the defendants breached
their fiduciary duties to various employee benefits plans, directly or
indirectly sponsored by Reliant Energy, in violation of the Employee Retirement
Income Security Act. The plaintiffs allege that the defendants permitted the
plans to purchase or hold securities issued by Reliant Energy when it was
imprudent to do so, including after the prices for such securities became
artificially inflated because of alleged securities fraud engaged in by the
defendants. The complaints seek monetary damages for losses suffered by a
putative class of plan participants whose accounts held Reliant Energy or
Reliant Resources securities, as well as equitable relief in the form of
restitution.
In October 2002, a derivative action was filed in the federal district
court in Houston, against the directors and officers of the Company. The
complaint sets forth claims for breach of fiduciary duty, waste of corporate
assets, abuse of control and gross mismanagement. Specifically, the shareholder
plaintiff alleges that the defendants caused the Company to overstate its
revenues through so-called "round trip" transactions. The plaintiff also alleges
breach of fiduciary duty in connection with the spin-off and the Reliant
Resources Offering. The complaint seeks monetary damages on behalf of the
Company as well as equitable relief in the form of a constructive trust on the
compensation paid to the defendants. The defendants have filed a motion to
dismiss this case on the ground that the plaintiff did not make an adequate
demand on the Company before filing suit.
A Special Litigation Committee appointed by the Company's board of
directors is investigating similar allegations made in a June 28, 2002 demand
letter sent on behalf of a Company shareholder. The letter states that the
shareholder and other shareholders are considering filing a derivative suit on
behalf of the Company and demands that the Company take several actions in
response to alleged round-trip trades occurring in 1999, 2000, and 2001. The
Special Litigation Committee is reviewing the demands made by the shareholder to
determine if these proposed actions are in the best interests of the Company.
53
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Reliant Energy Municipal Franchise Fee Lawsuits. In February 1996, the
cities of Wharton, Galveston and Pasadena filed suit, for themselves and a
proposed class of all similarly situated cities in Reliant Energy's electric
service area, against Reliant Energy and Houston Industries Finance, Inc.
(formerly a wholly owned subsidiary of Reliant Energy) alleging underpayment of
municipal franchise fees. The plaintiffs claim that they are entitled to 4% of
all receipts of any kind for business conducted within these cities over the
previous four decades. A jury trial of the original claimant cities (but not the
class of cities) in the 269th Judicial District Court for Harris County, Texas,
ended in April 2000 (the Three Cities case). Although the jury found for Reliant
Energy on many issues, it found in favor of the original claimant cities on
three issues, and assessed a total of $4 million in actual and $30 million in
punitive damages. However, the jury also found in favor of Reliant Energy on the
affirmative defense of laches, a defense similar to a statute of limitations
defense, due to the original claimant cities having unreasonably delayed
bringing their claims during the 43 years since the alleged wrongs began. The
trial court in the Three Cities case granted most of Reliant Energy's motions to
disregard the jury's findings. The trial court's rulings reduced the judgment to
$1.7 million, including interest, plus an award of $13.7 million in legal fees.
In addition, the trial court granted Reliant Energy's motion to decertify the
class. Following this ruling, 45 cities filed individual suits against Reliant
Energy in the District Court of Harris County.
On February 27, 2003, the state court of appeals in Houston rendered an
opinion reversing the judgment against the Company and rendering judgment that
the Three Cities take nothing by their claims. The court of appeals found that
the jury's finding of laches barred all of the Three Cities' claims and that the
Three Cities were not entitled to recovery of any attorneys' fees. The judgment
of the court of appeals is subject to motions for rehearing and an appeal to the
Texas Supreme Court.
The extent to which issues in the Three Cities case may affect the claims
of the other cities served by Reliant Energy cannot be assessed until judgments
are final and no longer subject to appeal. However, the court of appeals' ruling
appears to be consistent with Texas Supreme Court opinions. The Company
estimates the range of possible outcomes for recovery by the plaintiffs in the
Three Cities case to be between $-0- and $18 million inclusive of interest and
attorneys' fees.
Natural Gas Measurement Lawsuits. In 1997, a suit was filed under the
Federal False Claims Act against RERC Corp. (now CERC Corp.) and certain of its
subsidiaries alleging mismeasurement of natural gas produced from federal and
Indian lands. The suit seeks undisclosed damages, along with statutory
penalties, interest, costs, and fees. The complaint is part of a larger series
of complaints filed against 77 natural gas pipelines and their subsidiaries and
affiliates. An earlier single action making substantially similar allegations
against the pipelines was dismissed by the federal district court for the
District of Columbia on grounds of improper joinder and lack of jurisdiction. As
a result, the various individual complaints were filed in numerous courts
throughout the country. This case has been consolidated, together with the other
similar False Claims Act cases, in the federal district court in Cheyenne,
Wyoming.
In addition, CERC Corp., CenterPoint Energy Gas Transmission Company,
CenterPoint Energy Field Services, Inc., and CenterPoint Energy-Mississippi
River Transmission Corporation are defendants in a class action filed in May
1999 against approximately 245 pipeline companies and their affiliates. The
plaintiffs in the case purport to represent a class of natural gas producers and
fee royalty owners who allege that they have been subject to systematic gas
mismeasurement by the defendants for more than 25 years. The plaintiffs seek
compensatory damages, along with statutory penalties, treble damages, interest,
costs and fees. The action is currently pending in state court in Stevens
County, Kansas. Motions to dismiss and class certification issues have been
briefed and argued.
City of Tyler, Texas, Gas Costs Review. By letter to CenterPoint Energy
Entex (Entex) dated July 31, 2002, the City of Tyler, Texas, forwarded various
computations of what it believes to be excessive costs ranging from $2.8 million
to $39.2 million for gas purchased by Entex for resale to residential and small
commercial customers in that city under supply agreements in effect since 1992.
Entex's gas costs for its Tyler
54
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
system are recovered from customers pursuant to tariffs approved by the city and
filed with both the city and the Railroad Commission of Texas (the Railroad
Commission). Pursuant to an agreement, on January 29, 2003, Entex and the city
filed a Joint Petition for Review of Charges for Gas Sales (Joint Petition) with
the Railroad Commission. The Joint Petition requests that the Railroad
Commission determine whether Entex has properly and lawfully charged and
collected for gas service to its residential and commercial customers in its
Tyler distribution system for the period beginning November 1, 1992, and ending
October 31, 2002. The Company believes that all costs for Entex's Tyler
distribution system have been properly included and recovered from customers
pursuant to Entex's filed tariffs and that the city has no legal or factual
support for the statements made in its letter.
Gas Cost Recovery Suits. In October 2002, a suit was filed in state
district court in Wharton County, Texas against the Company, CERC, Entex Gas
Marketing Company, and others alleging fraud, violations of the Texas Deceptive
Trade Practices Act, violations of the Texas Utility Code, civil conspiracy and
violations of the Texas Free Enterprise and Antitrust Act. The plaintiffs seek
class certification, but no class has been certified. The plaintiffs allege that
defendants inflated the prices charged to residential and small commercial
consumers of natural gas. In February 2003, a similar suit was filed against
CERC in state court in Caddo Parish, Louisiana purportedly on behalf of a class
of residential or business customers in Louisiana who allegedly have been
overcharged for gas or gas service provided by CERC. The plaintiffs in both
cases seek restitution for the alleged overcharges, exemplary damages and
penalties. The Company denies that CERC has overcharged any of its customers for
natural gas and believes that the amounts recovered for purchased gas have been
in accordance with what is permitted by state regulatory authorities.
Other Proceedings. The Company is involved in other proceedings before
various courts, regulatory commissions and governmental agencies regarding
matters arising in the ordinary course of business. The Company's management
currently believes that the disposition of these matters will not have a
material adverse effect on the Company's financial condition, results of
operations or cash flows.
Environmental Matters
Clean Air Standards. Based on current limitations of the Texas Commission
on Environmental Quality regarding NOx emissions in the Houston area, the
Company anticipates it will have invested at least $682 million for emission
control equipment through 2005, including $551 million expended from January 1,
1999 through December 31, 2002, with possible additional expenditures after
2005. NOx control estimates for 2006 and 2007 have not been finalized.
The Texas electric restructuring law provides for stranded cost recovery
for expenditures incurred before May 1, 2003 to achieve the NOx reduction
requirements. Incurred costs include costs for which contractual obligations
have been made. The Texas Utility Commission has determined that the Company's
emission control plan is the most effective control option and that up to $699
million is eligible for cost recovery, the exact amount to be determined in the
2004 true-up proceeding. In addition, the Company is required to provide $16.2
million in funding for certain NOx reduction projects associated with East Texas
pipeline companies. These funds are also eligible for cost recovery.
Hydrocarbon Contamination. On August 24, 2001, 37 plaintiffs filed suit
against REGT, Reliant Energy Pipeline Services, Inc., RERC Corp., Reliant Energy
Services, other Reliant Energy entities and third parties in the 1st Judicial
District Court, Caddo Parish, Louisiana. The petition has now been supplemented
seven times. As of November 21, 2002, there were 695 plaintiffs, a majority of
whom are Louisiana residents. In addition to the Reliant Energy entities, the
plaintiffs have sued the State of Louisiana through its Department of
Environmental Quality, several individuals, some of whom are present employees
of the State of Louisiana, the Bayou South Gas Gathering Company, L.L.C., Martin
Timber Company, Inc., and several trusts. Additionally on April 4, 2002, two
plaintiffs filed a separate suit with identical allegations against the same
parties in the same court. More recently, on January 6, 2003, two other
plaintiffs filed a third suit of
55
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
similar allegations against the Company, as well as other defendants, in Bossier
Parish (26th Judicial District Court).
The suits allege that, at some unspecified date prior to 1985, the
defendants allowed or caused hydrocarbon or chemical contamination of the Wilcox
Aquifer, which lies beneath property owned or leased by certain of the
defendants and which is the sole or primary drinking water aquifer in the area.
The primary source of the contamination is alleged by the plaintiffs to be a gas
processing facility in Haughton, Bossier Parish, Louisiana known as the "Sligo
Facility." This facility was purportedly used for gathering natural gas from
surrounding wells, separating gasoline and hydrocarbons from the natural gas for
marketing, and transmission of natural gas for distribution. This site was
originally leased and operated by predecessors of REGT in the late 1940s and was
operated until Arkansas Louisiana Gas Company ceased operations of the plant in
the late 1970s.
Beginning about 1985, the predecessors of certain Reliant Energy defendants
engaged in a voluntary remediation of any subsurface contamination of the
groundwater below the property they own or lease. This work has been done in
conjunction with and under the direction of the Louisiana Department of
Environmental Quality. The plaintiffs seek monetary damages for alleged damage
to the aquifer underlying their property, unspecified alleged personal injuries,
alleged fear of cancer, alleged property damage or diminution of value of their
property, and, in addition, seek damages for trespass, punitive, and exemplary
damages. The quantity of monetary damages sought is unspecified. As of December
31, 2002, the Company is unable to estimate the monetary damages, if any, that
the plaintiffs may be awarded in these matters.
Manufactured Gas Plant Sites. CERC and its predecessors operated
manufactured gas plants (MGP) in the past. In Minnesota, remediation has been
completed on two sites, other than ongoing monitoring and water treatment. There
are five remaining sites in CERC's Minnesota service territory, two of which
CERC believes were neither owned or operated by CERC, and for which CERC
believes it has no liability.
At December 31, 2001 and 2002, CERC had accrued $23 million and $19
million, respectively, for remediation of the Minnesota sites. At December 31,
2002, the estimated range of possible remediation costs was $8 million to $44
million based on remediation continuing for 30 to 50 years. The cost estimates
are based on studies of a site or industry average costs for remediation of
sites of similar size. The actual remediation costs will be dependent upon the
number of sites to be remediated, the participation of other potentially
responsible parties (PRP), if any, and the remediation methods used. CERC has an
environmental expense tracker mechanism in its rates in Minnesota. CERC has
collected $12 million at December 31, 2002 to be used for future environmental
remediation.
CERC has received notices from the United States Environmental Protection
Agency and others regarding its status as a PRP for other sites. Based on
current information, the Company has not been able to quantify a range of
environmental expenditures for potential remediation expenditures with respect
to other MGP sites.
Mercury Contamination. The Company's pipeline and distribution operations
have in the past employed elemental mercury in measuring and regulating
equipment. It is possible that small amounts of mercury may have been spilled in
the course of normal maintenance and replacement operations and that these
spills may have contaminated the immediate area with elemental mercury. This
type of contamination has been found by the Company at some sites in the past,
and the Company has conducted remediation at these sites. It is possible that
other contaminated sites may exist and that remediation costs may be incurred
for these sites. Although the total amount of these costs cannot be known at
this time, based on experience by the Company and that of others in the natural
gas industry to date and on the current regulations regarding remediation of
these sites, the Company believes that the costs of any remediation of these
sites will not be material to the Company's financial condition, results of
operations or cash flows.
56
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Other Environmental. From time to time the Company has received notices
from regulatory authorities or others regarding its status as a PRP in
connection with sites found to require remediation due to the presence of
environmental contaminants. In addition, the Company has been named as a
defendant in litigation related to such sites and in recent years has been
named, along with numerous others, as a defendant in several lawsuits filed by a
large number of individuals who claim injury due to exposure to asbestos while
working at sites along the Texas Gulf Coast. Most of these claimants have been
workers who participated in construction of various industrial facilities,
including power plants, and some of the claimants have worked at locations owned
by the Company. The Company anticipates that additional claims like those
received may be asserted in the future and intends to continue vigorously
contesting claims which it does not consider to have merit. Although their
ultimate outcome cannot be predicted at this time, the Company does not believe,
based on its experience to date, that these matters, either individually or in
the aggregate, will have a material adverse effect on the Company's financial
condition, results of operations or cash flows.
Department of Transportation
In December 2002, Congress enacted the Pipeline Safety Improvement Act of
2002. This legislation applies to the Company's interstate pipelines as well as
its intra-state pipelines and local distribution companies. The legislation
imposes several requirements related to ensuring pipeline safety and integrity.
It requires companies to assess the integrity of their pipeline transmission and
distribution facilities in areas of high population concentration and further
requires companies to perform remediation activities, in accordance with the
requirements of the legislation, over a 10-year period.
In January 2003, the U.S. Department of Transportation published a notice
of proposed rulemaking to implement provisions of the legislation. The
Department of Transportation is expected to issue final rules by the end of
2003.
While the Company anticipates that increased capital and operating expenses
will be required to comply with the requirements of the legislation, it will not
be able to quantify the level of spending required until the Department of
Transportation's final rules are issued.
Other Matters
The Company is involved in other legal, environmental, tax and regulatory
proceedings before various courts, regulatory commissions and governmental
agencies regarding matters arising in the ordinary course of business. Some of
these proceedings involve substantial amounts. The Company's management
regularly analyzes current information and, as necessary, provides accruals for
probable liabilities on the eventual disposition of these matters. The Company's
management believes that the disposition of these matters will not have a
material adverse effect on the Company's financial condition, results of
operations or cash flows.
(d) OPERATIONS AGREEMENT WITH CITY OF SAN ANTONIO
Texas Genco has a joint operating agreement with the City Public Service
Board of San Antonio (CPS) to share savings from the joint dispatching of each
party's generating assets. Dispatching the two generating systems jointly
results in savings of fuel and related expenses because there is a more
efficient utilization of each party's lowest cost resources. The two parties
equally share the savings resulting from joint dispatch. The agreement
terminates in 2009.
(e) NUCLEAR INSURANCE
Texas Genco and the other owners of the South Texas Project maintain
nuclear property and nuclear liability insurance coverage as required by law and
periodically review available limits and coverage for additional protection. The
owners of the South Texas Project currently maintain $2.75 billion in property
57
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
damage insurance coverage, which is above the legally required minimum, but is
less than the total amount of insurance currently available for such losses.
Pursuant to the Price Anderson Act, the maximum liability to the public of
owners of nuclear power plants was $9.3 billion as of December 31, 2002. Owners
are required under the Price Anderson Act to insure their liability for nuclear
incidents and protective evacuations. Texas Genco and the other owners of the
South Texas Project currently maintain the required nuclear liability insurance
and participate in the industry retrospective rating plan.
There can be no assurance that all potential losses or liabilities will be
insurable, or that the amount of insurance will be sufficient to cover them. Any
substantial losses not covered by insurance would have a material effect on the
Company's financial condition, results of operations and cash flows.
(f) NUCLEAR DECOMMISSIONING
Texas Genco contributed $14.8 million per year in 2000 and 2001 to trusts
established to fund its share of the decommissioning costs for the South Texas
Project. In 2002, Texas Genco contributed $2.9 million to these trusts. There
are various investment restrictions imposed upon Texas Genco by the Texas
Utility Commission and the NRC relating to Texas Genco's nuclear decommissioning
trusts. Additionally, Texas Genco's board of directors and CenterPoint Energy's
board of directors have each appointed two members to the Nuclear
Decommissioning Trust Investment Committee which establishes the investment
policy of the trusts and oversees the investment of the trusts' assets. The
securities held by the trusts for decommissioning costs had an estimated fair
value of $163 million as of December 31, 2002, of which approximately 49% were
fixed-rate debt securities and the remaining 51% were equity securities. For a
discussion of the accounting treatment for the securities held in the nuclear
decommissioning trust, see Note 3(k). In July 1999, an outside consultant
estimated Texas Genco's portion of decommissioning costs to be approximately
$363 million. While the funding levels currently exceed minimum NRC
requirements, no assurance can be given that the amounts held in trust will be
adequate to cover the actual decommissioning costs of the South Texas Project.
Such costs may vary because of changes in the assumed date of decommissioning
and changes in regulatory requirements, technology and costs of labor, materials
and equipment. Pursuant to the Texas electric restructuring law, costs
associated with nuclear decommissioning that have not been recovered as of
January 1, 2002, will continue to be subject to cost-of-service rate regulation
and will be included in a charge to transmission and distribution customers.
CenterPoint Energy is contractually obligated to indemnify Texas Genco from and
against any obligations relating to the decommissioning not otherwise satisfied
through collections by CenterPoint Houston. For information regarding the effect
of the business separation plan on funding of the nuclear decommissioning trust
fund, see Note 4(b).
(14) ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair values of cash and cash equivalents, investments in debt and
equity securities classified as "available-for-sale" and "trading" in accordance
with SFAS No. 115, and short-term borrowings are estimated to be approximately
equivalent to carrying amounts and have been excluded from the table below. The
fair values of non-trading derivative assets and liabilities are recognized in
the Consolidated Balance
58
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Sheets at December 31, 2001 and 2002 (see Note 5). Therefore, these financial
instruments are stated at fair value and are excluded from the table below.
DECEMBER 31, 2001
-----------------
CARRYING FAIR
AMOUNT VALUE
-------- ------
(IN MILLIONS)
Financial liabilities:
Long-term debt (excluding capital leases)................. $5,541 $5,546
Trust preferred securities................................ 706 664
DECEMBER 31, 2002
-----------------
CARRYING FAIR
AMOUNT VALUE
-------- ------
(IN MILLIONS)
Financial liabilities:
Long-term debt (excluding capital leases)................. $6,135 $6,349
Trust preferred securities................................ 706 476
(15) EARNINGS PER SHARE
The following table reconciles numerators and denominators of the Company's
basic and diluted earnings per share (EPS) calculations:
FOR THE YEAR ENDED DECEMBER 31,
---------------------------------------------------
2000 2001 2002
--------------- --------------- ---------------
(IN MILLIONS, EXCEPT PER SHARE AND SHARE AMOUNTS)
Basic EPS calculation:
Income from continuing operations before
cumulative effect of accounting change........ $ 243 $ 496 $ 366
Income from discontinued operations of Reliant
Resources, net of tax......................... 225 475 82
Income (loss) from discontinued operations of
Latin America, net of tax..................... (21) (50) 3
Loss on disposal of discontinued operations of
Reliant Resources............................. -- -- (4,371)
Cumulative effect of accounting change, net of
tax........................................... -- 59 --
------------ ------------ ------------
Net income (loss) attributable to common
shareholders.................................. $ 447 $ 980 $ (3,920)
============ ============ ============
Weighted average shares outstanding................ 284,652,000 289,776,000 297,997,000
Basic EPS:
Income from continuing operations before
cumulative effect of accounting change........ $ 0.85 $ 1.71 $ 1.23
Income from discontinued operations of Reliant
Resources, net of tax......................... 0.79 1.64 0.27
Income (loss) from discontinued operations of
Latin America, net of tax..................... (0.07) (0.17) 0.01
Loss on disposal of discontinued operations of
Reliant Resources............................. -- -- (14.67)
Cumulative effect of accounting change, net of
tax........................................... -- 0.20 --
------------ ------------ ------------
Net income (loss) attributable to common
shareholders.................................. $ 1.57 $ 3.38 $ (13.16)
============ ============ ============
59
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
FOR THE YEAR ENDED DECEMBER 31,
---------------------------------------------------
2000 2001 2002
--------------- --------------- ---------------
(IN MILLIONS, EXCEPT PER SHARE AND SHARE AMOUNTS)
Diluted EPS calculation:
Net income (loss) attributable to common
shareholders.................................. $ 447 $ 980 $ (3,920)
Plus: Income impact of assumed conversions:
Interest on 6 1/4% convertible trust preferred
securities.................................. -- -- --
------------ ------------ ------------
Total earnings effect assuming dilution.......... $ 447 $ 980 $ (3,920)
============ ============ ============
Weighted average shares outstanding................ 284,652,000 289,776,000 297,997,000
Plus: Incremental shares from assumed
conversions(1)
Stock options................................. 1,652,000 1,650,000 846,000
Restricted stock.............................. 955,000 754,000 784,000
6 1/4% convertible trust preferred
securities.................................. 14,000 13,000 17,000
------------ ------------ ------------
Weighted average shares assuming dilution........ 287,273,000 292,193,000 299,644,000
============ ============ ============
Diluted EPS:
Income from continuing operations before
cumulative effect of accounting change........ $ 0.84 $ 1.70 $ 1.22
Income from discontinued operations of Reliant
Resources, net of tax......................... 0.79 1.62 0.27
Income (loss) from discontinued operations of
Latin America, net of tax..................... (0.07) (0.17) 0.01
Loss on disposal of discontinued operations of
Reliant Resources............................. -- -- (14.58)
Cumulative effect of accounting change, net of
tax........................................... -- 0.20 --
------------ ------------ ------------
Net income (loss) attributable to common
shareholders.................................. $ 1.56 $ 3.35 $ (13.08)
============ ============ ============
- ---------------
(1) Options to purchase 442,385, 2,074,437 and 9,709,272 shares were outstanding
for the years ended December 31, 2000, 2001 and 2002, respectively, but were
not included in the computation of diluted EPS because the options' exercise
price was greater than the average market price of the common shares for the
respective years.
60
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(16) UNAUDITED QUARTERLY INFORMATION
The consolidated financial statements have been prepared to reflect the
effect of the Reliant Resources Distribution and the sale of the Company's
remaining Latin America operations subsequent to December 31, 2002 as described
in Note 2. The consolidated financial statements present the Reliant Resources
businesses (previously reported as the Wholesale Energy, European Energy and
Retail Energy business segments and related corporate costs) and the Company's
Latin America operations as discontinued operations, in accordance with SFAS No.
144. Accordingly, the consolidated financial statements reflect these operations
as discontinued operations for each of the three years in the period ended
December 31, 2002.
Summarized quarterly financial data is as follows:
YEAR ENDED DECEMBER 31, 2001
-----------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
Revenues................................................... $3,814 $2,485 $2,279 $1,986
Operating income........................................... 345 321 435 218
Income from continuing operations before cumulative effect
of accounting change..................................... 129 122 183 62
Income from discontinued operations of Reliant Resources,
net of tax............................................... 82 194 172 27
Loss from discontinued operations of Latin America, net of
tax...................................................... (7) -- -- (43)
Cumulative effect of accounting change, net of tax......... 59 -- -- --
Net income attributable to common shareholders............. 263 316 355 46
Basic earnings per share:(1)
Income from continuing operations before cumulative
effect of accounting change........................... $ 0.45 $ 0.42 $ 0.63 $ 0.22
Income from discontinued operations of Reliant Resources,
net of tax............................................ 0.28 0.67 0.59 0.09
Loss from discontinued operations of Latin America, net
of tax................................................ (0.02) -- -- (0.15)
Cumulative effect of accounting change, net of tax....... 0.20 -- -- --
------ ------ ------ ------
Net income attributable to common shareholders........... $ 0.91 $ 1.09 $ 1.22 $ 0.16
====== ====== ====== ======
Diluted earnings per share:(1)
Income from continuing operations before cumulative
effect of accounting change........................... $ 0.44 $ 0.42 $ 0.63 $ 0.22
Loss from discontinued operations of Reliant Resources,
net of tax............................................ 0.28 0.66 0.58 0.09
Loss from discontinued operations of Latin America, net
of tax................................................ (0.02) -- -- (0.15)
Cumulative effect of accounting change, net of tax....... 0.20 -- -- --
------ ------ ------ ------
Net income attributable to common shareholders........... $ 0.90 $ 1.08 $ 1.21 $ 0.16
====== ====== ====== ======
61
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
YEAR ENDED DECEMBER 31, 2002
-----------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
Revenues.................................................. $2,079 $1,795 $ 1,919 $2,113
Operating income.......................................... 351 289 431 259
Income (loss) from continuing operations.................. 145 86 161 (25)
Income (loss) from discontinued operations of Reliant
Resources, net of tax................................... (114) 148 48 --
Income from discontinued operations of Latin America, net
of tax.................................................. -- 2 -- --
Loss on disposal of discontinued operations of Reliant
Resources............................................... -- -- (4,333) (38)
Net income (loss) attributable to common shareholders..... 31 236 (4,124) (63)
Basic earnings (loss) per share:(1)
Income (loss) from continuing operations................ $ 0.49 $ 0.29 $ 0.54 $(0.09)
Income (loss) from discontinued operations of Reliant
Resources, net of tax................................ (0.38) 0.50 0.16 --
Income from discontinued operations of Latin America,
net of tax........................................... -- -- -- --
Loss on disposal of discontinued operations of Reliant
Resources............................................ -- -- (14.50) (0.12)
------ ------ ------- ------
Net (loss) income attributable to common shareholders... $ 0.11 $ 0.79 $(13.80) $(0.21)
====== ====== ======= ======
Diluted (loss) earnings per share:(1)
Income (loss) from continuing operations................ $ 0.49 $ 0.28 $ 0.54 $(0.09)
Income (loss) from discontinued operations of Reliant
Resources, net of tax................................ (0.38) 0.50 0.16 --
Income from discontinued operations of Latin America,
net of tax........................................... -- 0.01 -- --
Loss on disposal of discontinued operations of Reliant
Resources............................................ -- -- (14.47) (0.12)
------ ------ ------- ------
Net income (loss) attributable to common shareholders... $ 0.11 $ 0.79 $(13.77) $(0.21)
====== ====== ======= ======
- ---------------
(1) Quarterly earnings per common share are based on the weighted average number
of shares outstanding during the quarter, and the sum of the quarters may
not equal annual earnings per common share.
(17) REPORTABLE BUSINESS SEGMENTS
The Company's determination of reportable business segments considers the
strategic operating units under which the Company manages sales, allocates
resources and assesses performance of various products and services to wholesale
or retail customers in differing regulatory environments. The accounting
policies of the business segments are the same as those described in the summary
of significant accounting policies except that some executive benefit costs have
not been allocated to business segments. Effective with the deregulation of the
Texas electric industry beginning January 1, 2002, the basis of business segment
reporting has changed for the Company's electric operations. The Texas
generation operations of CenterPoint Energy's former integrated electric
utility, Reliant Energy HL&P, are now a separate reportable business segment,
Electric Generation, whereas they previously had been part of the Electric
Operations business segment. The remaining transmission and distribution
function is now reported separately in the Electric Transmission & Distribution
business segment In 2001, Latin America was a separate business segment, but
beginning in 2002, equity investments in Latin America are reported in the Other
Operations business segment. The
62
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Company's remaining Latin America operations were sold subsequent to December
31, 2002, and are reported as discontinued operations. Reportable business
segments for all prior periods presented have been restated to conform to the
2002 presentation. Reportable business segments presented herein do not include
Wholesale Energy, European Energy, Retail Energy and related corporate costs as
these business segments operated within Reliant Resources which is presented as
discontinued operations within these consolidated financial statements. Note
that certain estimates and allocations have been used to separate historical,
(pre-January 1, 2002) Electric Generation business segment data from the
Electric Transmission & Distribution segment data.
Beginning in the first quarter of 2002, the Company began to evaluate
business segment performance on an earnings (loss) before interest expense,
distribution on trust preferred securities, income taxes, extraordinary item and
cumulative effect of accounting change (EBIT) basis. Prior to 2002, the Company
evaluated performance based upon operating income. EBIT, as defined, is shown
because it is a measure we use to evaluate the performance of our business
segments and the Company believes it is a measure of financial performance that
may be used as a means to analyze and compare companies on the basis of
operating performance. The Company expects that some analysts and investors will
want to review EBIT when evaluating the Company. EBIT is not defined under
accounting principles generally accepted in the United States of America (GAAP),
should not be considered in isolation or as a substitute for a measure of
performance prepared in accordance with GAAP and is not indicative of operating
income from operations as determined under GAAP. Additionally, the Company's
computation of EBIT may not be comparable to other similarly titled measures
computed by other companies, because all companies do not calculate it in the
same fashion.
Long-lived assets include net property, plant and equipment, net goodwill
and other intangibles and equity investments in unconsolidated subsidiaries and
are all within the United States. The Company accounts for intersegment sales as
if the sales were to third parties, that is, at current market prices.
The Company has identified the following reportable business segments:
Electric Transmission & Distribution, Electric Generation, Natural Gas
Distribution, Pipelines and Gathering and Other Operations. For a description of
the financial reporting business segments, see Note 1. Financial data for
business segments, products and services and geographic areas are as follows:
ELECTRIC OPERATIONS
---------------------------
ELECTRIC NATURAL PIPELINES
TRANSMISSION & ELECTRIC GAS AND OTHER DISCONTINUED
DISTRIBUTION GENERATION DISTRIBUTION GATHERING OPERATIONS OPERATIONS
-------------- ---------- ------------ --------- ---------- ------------
(IN MILLIONS)
AS OF AND FOR THE YEAR ENDED
DECEMBER 31, 2000:
Revenues from external customers... $ 2,160 $ 3,334 $4,503 $ 280 $ 9 $ --
Intersegment revenues.............. -- -- 1 104 -- --
Depreciation and amortization...... 356 151 145 56 12 --
EBIT............................... 953 331 122 137 (464) --
Total assets....................... 6,659 4,032 4,518 2,358 4,327 14,309
Equity investments in
unconsolidated subsidiaries...... -- -- -- -- 13 --
Expenditures for long-lived
assets........................... 391 252 195 61 6 --
RECONCILING
ELIMINATIONS CONSOLIDATED
------------ ------------
(IN MILLIONS)
AS OF AND FOR THE YEAR ENDED
DECEMBER 31, 2000:
Revenues from external customers... $ -- $10,286
Intersegment revenues.............. (105) --
Depreciation and amortization...... -- 720
EBIT............................... (37) 1,042
Total assets....................... (978) 35,225
Equity investments in
unconsolidated subsidiaries...... -- 13
Expenditures for long-lived
assets........................... -- 905
63
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ELECTRIC OPERATIONS
---------------------------
ELECTRIC NATURAL PIPELINES
TRANSMISSION & ELECTRIC GAS AND OTHER DISCONTINUED
DISTRIBUTION GENERATION DISTRIBUTION GATHERING OPERATIONS OPERATIONS
-------------- ---------- ------------ --------- ---------- ------------
(IN MILLIONS)
AS OF AND FOR THE YEAR ENDED
DECEMBER 31, 2001:
Revenues from external customers... 2,100 3,411 4,737 307 9 --
Intersegment revenues.............. -- -- 5 108 -- --
Depreciation and amortization...... 299 154 147 58 7 --
EBIT............................... 906 267 149 138 (59) --
Total assets....................... 7,689 4,323 3,732 2,361 1,192 12,345
Expenditures for long-lived
assets........................... 527 409 209 54 14 --
AS OF AND FOR THE YEAR ENDED
DECEMBER 31, 2002:
Revenues from external customers... 2,222(1) 1,488(2) 3,927 253 17 --
Intersegment revenues.............. -- 5 33 121 -- --
Depreciation and amortization...... 271 157 126 41 21 --
EBIT............................... 1,118 (130) 210 158 1 --
Total assets....................... 9,098 4,416 4,051 2,481 1,393 15
Expenditures for long-lived
assets........................... 261 280 196 70 47 --
RECONCILING
ELIMINATIONS CONSOLIDATED
------------ ------------
(IN MILLIONS)
AS OF AND FOR THE YEAR ENDED
DECEMBER 31, 2001:
Revenues from external customers... -- 10,564
Intersegment revenues.............. (113) --
Depreciation and amortization...... -- 665
EBIT............................... (41) 1,360
Total assets....................... (376) 31,266
Expenditures for long-lived
assets........................... -- 1,213
AS OF AND FOR THE YEAR ENDED
DECEMBER 31, 2002:
Revenues from external customers... -- 7,907
Intersegment revenues.............. (159) --
Depreciation and amortization...... -- 616
EBIT............................... (29) 1,328
Total assets....................... (1,820) 19,634
Expenditures for long-lived
assets........................... -- 854
- ---------------
(1) Sales to Reliant Resources represented approximately $940 million of
CenterPoint Houston's transmission and distribution revenues since
deregulation began in 2002.
(2) Sales to Reliant Resources represented approximately 66% of Texas Genco's
total revenues in 2002.
64
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
YEAR ENDED DECEMBER 31,
---------------------------
2000 2001 2002
------- ------- -------
(IN MILLIONS)
RECONCILIATION OF OPERATING INCOME TO EBIT AND EBIT TO NET
INCOME (LOSS) ATTRIBUTABLE TO COMMON SHAREHOLDERS:
Operating income............................................ $ 1,409 $ 1,319 $ 1,329
------- ------- -------
Loss from equity investments in unconsolidated
subsidiaries.............................................. (29) -- --
Loss on AOL Time Warner investment.......................... (205) (70) (500)
Gain on indexed debt securities............................. 102 58 480
Impairment on Latin America equity investments.............. (131) -- --
Loss on disposal of Latin America equity investments........ (176) -- --
Other income, net........................................... 72 53 19
------- ------- -------
EBIT...................................................... 1,042 1,360 1,328
Interest expense and other charges.......................... (564) (607) (765)
Income tax expense.......................................... (235) (256) (197)
------- ------- -------
Income from continuing operations before income taxes,
cumulative effect of accounting change and preferred
dividends.............................................. 243 497 366
Income from discontinued operations, net of tax............. 225 475 82
Income (loss) from discontinued operations of Latin America,
net of tax................................................ (21) (50) 3
Loss on disposal of discontinued operations................. -- -- (4,371)
Cumulative effect of accounting change, net of tax.......... -- 59 --
Preferred dividends......................................... -- (1) --
------- ------- -------
Net income (loss) attributable to common
shareholders......................................... $ 447 $ 980 $(3,920)
======= ======= =======
REVENUES BY PRODUCTS AND SERVICES:
Retail electricity sales.................................... $ 5,495 $ 5,511 $ --
Wholesale electricity sales................................. -- -- 1,488
Electric delivery sales..................................... -- -- 1,525
ECOM true-up................................................ -- -- 697
Retail gas sales............................................ 4,416 4,645 3,832
Gas transport............................................... 280 307 253
Energy products and services................................ 95 101 112
------- ------- -------
Total.................................................. $10,286 $10,564 $ 7,907
======= ======= =======
(18) GUARANTOR DISCLOSURES
CenterPoint Energy Gas Resources Corp., CenterPoint Energy Gas Marketing
Company and other wholly owned subsidiaries of CERC Corp. provide comprehensive
natural gas sales and services to industrial and commercial customers who are
primarily located within or near the territories served by the Company's
pipelines and distribution subsidiaries. In order to hedge their exposure to
natural gas prices, these CERC Corp. subsidiaries have entered standard purchase
and sale agreements with various counterparties. CenterPoint Energy and CERC
Corp. have guaranteed the payment obligations of these subsidiaries under
certain of these agreements, typically for one-year terms. As of December 31,
2002, CenterPoint Energy had delivered 14 such guarantees with an aggregate
maximum potential exposure of $133.5 million and an aggregate carrying amount of
$12.1 million. As of December 31, 2002, CERC Corp. had delivered 43 such
65
CENTERPOINT ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
guarantees with an aggregate maximum potential exposure of $410 million and an
aggregate carrying amount of $53.7 million.
As part of its normal business operations, Texas Genco, LP, a wholly owned
indirect subsidiary of Texas Genco, has also entered into power purchase and
sale agreements to buy less expensive power than Texas Genco's marginal cost of
generation or to sell power to another party who is willing to pay more than
Texas Genco's marginal cost of generation. Texas Genco has guaranteed the
payment obligations of Texas Genco, LP under certain of these agreements,
typically for a one-year term. As of December 31, 2002, Texas Genco had
delivered 7 such guarantees with an aggregate maximum potential exposure of
$28.2 million and an aggregate carrying amount of $-0-.
CenterPoint Energy has delivered guarantees in support of Texas Genco's
obligations to ERCOT under qualified scheduling entity and transmission
congestion rights agreements. These guarantees expire in October, 2003 and as of
December 31, 2002, have an aggregate maximum potential exposure of $45 million
and an aggregate carrying amount of $-0-.
CenterPoint Energy has delivered a guarantee in favor of the Tennessee
Board for Licensing Contractors to support the contracting activities of
CenterPoint Energy Pipeline Services, Inc. in Tennessee. The term of this
guarantee runs with the two-year license granted by the Tennessee Board and
provides for a maximum potential exposure of $15 million.
CenterPoint Energy has entered standard indemnification agreements with
various surety companies to support the issuance of surety bonds on behalf of
CenterPoint Energy and its subsidiaries. These indemnification agreements vary
in duration to coincide with the term of the bonds issued. As of December 31,
2002, these agreements covered surety bonds in the aggregate amount of $14.5
million. In addition, CenterPoint Energy has provided $8.9 million in cash
deposits to secure its indemnity to one surety company.
66
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of CenterPoint Energy, Inc. and
Subsidiaries:
We have audited the accompanying consolidated balance sheets of CenterPoint
Energy, Inc. and its subsidiaries (the Company) as of December 31, 2001 and
2002, and the related consolidated statements of income, shareholders' equity,
comprehensive income and cash flows for each of the three years in the period
ended December 31, 2002. Our audits also included the financial statement
schedules listed in the Index at Item 15(a)(2). These financial statements and
the financial statement schedules are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and the financial statement schedules based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of the Company at December 31,
2001 and 2002, and the results of its operations and its cash flows for each of
the three years in the period ended December 31, 2002 in conformity with
accounting principles generally accepted in the United States of America. Also,
in our opinion, such financial statement schedules, when considered in relation
to the basic consolidated financial statements taken as a whole, presents fairly
in all material respects the information set forth therein.
As discussed in Note 2 to the consolidated financial statements, the
Company distributed its 83% ownership interest in Reliant Resources, Inc. on
September 30, 2002. The loss on distribution and the results of operations for
Reliant Resources, Inc. for periods prior to the distribution are included in
discontinued operations in the accompanying consolidated financial statements.
As discussed in Note 3(d) to the consolidated financial statements, on
January 1, 2002, the Company changed its method of accounting for goodwill and
certain intangible assets to conform to Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets."
DELOITTE & TOUCHE LLP
Houston, Texas
February 28, 2003
(May 9, 2003 as to the "Certain Reclassifications and Other Items" described in
Note 1)
67
EXHIBIT 99.3
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in CenterPoint Energy, Inc.'s
(i) Registration Statement No. 333-101202 on Form S-8; (ii) Post-Effective
Amendment No. 1 to Registration Statement Nos. 333-33301, 333-33303, 333-58433,
333-81119 and 333-68290 on Form S-3; (iii) Post-Effective Amendment No. 1 to
Registration Statement Nos. 333-32413, 333-49333, 333-38188, 333-60260 and
333-98271 on Form S-8; and (iv) Post-Effective Amendment No. 5 to Registration
Statement No. 333-11329 on Form S-8 of our report dated February 28, 2003, May
9, 2003 as to "Certain Reclassifications and Other Items", described in Note 1,
(which report expresses an unqualified opinion and includes explanatory
paragraphs relating to the distribution of Reliant Resources, Inc. and the
change in method of accounting for goodwill and certain intangible assets)
appearing in this Current Report on Form 8-K of CenterPoint Energy, Inc. dated
May 12, 2003.
Houston, Texas
May 12, 2003
