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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____________ TO ____________
COMMISSION FILE NUMBER 1-3122
COVANTA ENERGY CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 13-5549268
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(State or Other Jurisdiction (I.R.S. Employee Identification No.)
of Incorporation or Organization)
40 LANE ROAD, FAIRFIELD, N.J. 07004
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (973) 882-9000
Securities registered pursuant to Section 12(b) of the Act:
Name of Each Exchange on
Title of each class Which Registered
------------------- ------------------------
None N/A
Securities registered pursuant to Section 12(g) of the Act: N/A
NOTE: ON MARCH 10, 2004, THE REGISTRANT'S COMMON STOCK, PAR VALUE $.50 PER
SHARE, AND ITS $1.875 CUMULATIVE CONVERTIBLE PREFERRED STOCK (SERIES A), BOTH OF
WHICH HAD BEEN REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT, WERE CANCELLED
UPON THE EFFECTIVENESS OF THE REGISTRANT'S PLAN OF REORGANIZATION PURSUANT TO
CHAPTER 11 OF THE UNITED STATES BANKRUPTCY CODE.
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendments to
this Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined by Exchange Act Rule 12b-2). Yes [ ] No [X]
The aggregate market value of the registrant's voting stock and preferred stock
held by non-affiliates of the registrant as of the last business day of the
registrant's most recently completed second fiscal quarter ended June 30, 2003,
based on the closing price of such stock on the National Quotation Bureau's Pink
Sheets was as follows:
Common Stock, par value $.50 per share $298,945.51
$1.875 Cumulative Convertible Preferred Stock (Series A) No reported trading.
The number of shares of the registrant's common stock outstanding as of February
1, 2004 was 49,824,251 shares.
PART I
ITEM 1. BUSINESS
GENERAL DEVELOPMENT OF BUSINESS
Covanta Energy Corporation ("Covanta") and its subsidiaries (together with
Covanta, the "Company") develop, construct, own and operate for others key
infrastructure for the conversion of waste to energy, independent power
production and the treatment of water and wastewater in the United States and
abroad. The Company owns or operates 55 power generation facilities, 40 of which
are in the United States and 15 of which are located outside of the United
States. The Company's power generation facilities use a variety of fuels,
including municipal solid waste, water (hydroelectric), natural gas, coal, wood
waste, landfill gas and heavy fuel oil. The Company operates 8 water or
wastewater treatment facilities, all of which are located in the United States.
Until September 1999, and under prior management, the Company was also actively
involved in the entertainment and aviation services industries.
Covanta Energy Corporation was known as Ogden Corporation prior to March 13,
2001. The Company was incorporated in Delaware as a public utility holding
company on August 4, 1939. In 1948, the Company registered with the Securities
and Exchange Commission (the "SEC") as a closed-end investment company.
Following several acquisitions, the Company no longer qualified as an investment
company and from 1953 until 1999 operated as a diversified holding company
operating through subsidiaries. In May 1966, Ogden Corporation was listed on the
New York Stock Exchange.
Prior to September 1999, the Company conducted its business through operating
groups in three principal business units: Energy, Entertainment and Aviation. In
September 1999, the Company adopted a plan to discontinue its Entertainment and
Aviation operations, pursue the sale or other disposition of these businesses,
pay down corporate debt and concentrate on businesses previously conducted
through its Covanta Energy Group, Inc. (f/k/a Ogden Energy Group, Inc.)
subsidiary. As of the date hereof, the Company's plan to sell discontinued
businesses has been largely completed.
The Company's current principal business units are Domestic Energy and Water,
International Energy and Other.
This Annual Report on Form 10-K includes forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. Actual results may
differ materially from those contained in such forward-looking statements. See
"Forward Looking Statements," below.
On April 1, 2002, the New York Stock Exchange, Inc. the "New York Stock
Exchange") suspended trading of the Company's common stock and $1.875 cumulative
convertible preferred stock and began processing an application to the SEC to
delist the Company from the New York Stock Exchange. By order dated May 16, 2002
the SEC granted the application of the New York Stock Exchange for removal of
the common stock and $1.875 Cumulative Convertible Preferred Stock of Covanta
Energy Corporation from listing and registration on the New York Stock Exchange
under the Securities Exchange Act of 1934. The removal from listing and
registration on the New York Stock Exchange of these classes of stock became
effective at the opening of the trading session of May 17, 2002 pursuant to the
order of the SEC.
All of the Company's outstanding common and preferred stock was cancelled and
extinguished on March 10, 2004, in accordance with the Company's bankruptcy plan
of reorganization.
Chapter 11 Reorganization and Related Dispositions of Assets
On March 10, 2004, Covanta and certain of its affiliates consummated a plan of
reorganization and emerged from their reorganization proceedings under chapter
11 of the Bankruptcy Code. As a result of the consummation of the plan (further
described below), Covanta is a wholly owned subsidiary of Danielson Holding
Corporation, a Delaware corporation ("Danielson"). The chapter 11 proceedings
commenced on April 1, 2002 (the "First Petition Date"), when Covanta and 123 of
its domestic subsidiaries filed voluntary petitions for relief under chapter 11
of the
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Bankruptcy Code in the United States Bankruptcy Court for the Southern District
of New York (the "Bankruptcy Court"). After the First Petition Date, thirty-two
additional subsidiaries filed their chapter 11 petitions for relief under the
Bankruptcy Code. Eight subsidiaries that had filed petitions on the First
Petition Date were sold as part of the Company's disposition of assets during
the bankruptcy cases and are no longer owned by the Company. All of the
bankruptcy cases (the "Chapter 11 Cases") were jointly administered under the
caption "In re Ogden New York Services, Inc., et al., Case Nos. 02-40826 (CB),
et al." The debtors under the Chapter 11 Cases (collectively, the "Debtors")
operated their business as debtors-in-possession pursuant to the Bankruptcy
Code.
Until September 1999, and under prior management, the Company had been actively
involved in the entertainment and aviation services industries. However, after
extensive study and evaluation, the Company determined that most of its earnings
were generated by the energy business, that the entertainment business was
substantially over-leveraged and that the focus on the entertainment and
aviation businesses had not proven successful. Accordingly, in September 1999,
the Company adopted a restructuring strategy in which it would concentrate on
its core energy business while seeking to sell its aviation and entertainment
businesses. During 2000 and 2001, the Company divested multiple entertainment
and aviation assets and significantly reduced overhead.
However, the Company required waivers of financial covenants under its numerous
credit agreements and new letter of credit facilities to be used by its core
energy business in the event of a downgrade by the credit rating agencies below
investment grade. The Company believed that, with a single master credit
agreement in place, it could seek access to the capital markets with which it
could raise equity or debt that, combined with additional cash from the sale of
its remaining entertainment and aviation assets, would meet its liquidity needs,
including the timely repayment of outstanding debentures maturing in 2002. By
the fall of 2000, the Company and its key banks reached an agreement in
principle on the terms of a new master credit facility that would include all
then-existing bank credit arrangements and a new revolving and letter of credit
facility. Due principally to intercreditor issues, the new Revolving Credit and
Participation Agreement (as amended, the "Master Credit Facility") was not
executed until March 14, 2001, at which time the Company paid down all
outstanding bank debt. With the Master Credit Facility in place, the Company
continued to dispose of entertainment and aviation assets and took steps to
access the capital markets. However, these efforts were thwarted in the spring
of 2001 by unanticipated events. The sale of the remaining assets from the
non-core businesses took longer and yielded fewer proceeds than anticipated. The
energy crisis in California (which led to the substantially delayed payment to
the Company of approximately $75 million by two California utilities) and the
perception that the independent power sector was overbuilt contributed to a
reduction in demand for energy company securities. The delayed payment by two
California utilities also caused the Company to seek cash flow covenant waivers
under the Master Credit Facility in June 2001. These waivers were granted, but
in consideration for the waivers the Company lost the capacity under the Master
Credit Facility to obtain letters of credit that it had intended to provide to
third parties in the event of a downgrade in the Company's credit rating. The
Company's ability to access the capital markets was further hampered first by a
sharp downturn in capital markets for energy companies in the middle of 2001,
subsequently by the events of September 11, 2001, which dampened the capital
markets generally, and the collapse of Enron, which brought the energy sector
further investor disfavor.
In December 2001, the Company publicly stated that it needed further covenant
waivers and that it was encountering difficulties in achieving access to
short-term liquidity. This resulted in a downgrade of the Company's credit
rating below investment grade. Consequently, under its contracts for two
waste-to-energy facilities the Company became obligated to provide credit
support in the amount of $50 million for each project. On March 1, 2002, the
Company availed itself of a grace period to defer for thirty days the payment of
approximately $4.6 million of interest on its $100 million principal amount
9.25% Debentures due 2022 (the "9.25% Debentures").
In March 2002, substantial amounts of fees under the Master Credit Facility came
due, but could not be paid without violating cash maintenance covenants under
that facility. In addition, draw notices totaling approximately $105.2 million
were presented on two letters of credit issued on behalf of the Company.
Although the bank lenders honored such letters of credit, the Company had
insufficient liquidity to reimburse the bank lenders as required under the
Master Credit Facility. Furthermore, approximately $148.7 million of the 6%
Convertible Subordinated Debentures and the 5.75% Convertible Subordinated
Debentures (collectively, the "Convertible Subordinated Debentures") were to
mature in 2002.
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Ultimately, the Company concluded that the commencement of the Chapter 11 Cases
was in the best interest of all creditors as the best means to protect the value
of the Company's core business, reorganize its capital structure and complete
the disposition of its remaining non-core entertainment and aviation assets.
As debtors-in-possession, the Debtors were authorized to continue to operate as
an ongoing business.
In order to obtain post-petition financing, with the approval of the Bankruptcy
Court the Debtors entered into a Debtor-in-Possession Credit Agreement dated as
of April 1, 2002 (as amended, the "DIP Financing Facility") with certain of the
Debtors' prepetition bank lenders (the "DIP Lenders"). The DIP Financing
Facility is described in Note 17 to the Consolidated Financial Statements.
After the First Petition Date, the Debtors continued their efforts to dispose of
non-core businesses. With approval of the Bankruptcy Court, the Debtors sold
their remaining aviation fueling assets, their interests in Casino Iguazu and La
Rural Fairgrounds and Exhibition Center in Argentina (together, the "Argentine
Assets"). They also transferred their remaining interests in the Corel Centre in
Ottawa, Canada (the "Corel Centre") and in the Ottawa Senators Hockey Club
Corporation (the "Team") and other miscellaneous assets related to the
entertainment business. The Debtors also closed a transaction pursuant to which
they have been released from their management obligations, and the Debtors have
realized and compromised their financial obligations, in connection with the
Arrowhead Pond Arena in Anaheim, California ("Arrowhead Pond," and with the
Corel Centre, the "Arenas"). See the discussion in "Other" below for a
description of material non-core business dispositions that occurred in 2003.
In addition, in order to enhance the value of the Company's core business, on
September 23, 2002, management announced a reduction in non-plant personnel,
closure of satellite development offices and reduction in all other costs not
directly related to maintaining operations at their current high levels. As part
of the reduction in force, waste-to-energy and domestic independent power
headquarters management were combined and numerous other structural changes were
instituted in order to improve management efficiency.
Over the course of the Chapter 11 Cases, the Debtors held discussions with the
Official Committee of Unsecured Creditors (the "Creditors Committee"),
representatives of the DIP Lenders, other pre-petition bank lenders and a
committee of the holders of the 9.25% Debentures with respect to possible
capital and debt structures for the Debtors and the formulation of a plan of
reorganization. (The DIP Lenders and the other pre-petition bank lenders are
referred to herein as the "Secured Bank Lenders".)
In August 2003, the Debtors, in consultation with the Secured Bank Lenders,
determined that it was desirable to sell the interests held by certain of the
Debtors and non-debtor affiliates in certain geothermal energy projects (each
project, a "Geothermal Project") located in Heber and Mammoth Lakes, California
(the "Geothermal Business") in order to fund the Reorganized Debtors' emergence
from Chapter 11. On December 18, 2003, Covanta and certain of its subsidiaries
sold the Geothermal Business to Ormat Nevada, Inc. for cash consideration of
$214 million, subject to working capital adjustments. The sale was effected
pursuant to a competitive bidding procedure conducted by the Bankruptcy Court
and a plan of reorganization for the six subsidiaries conducting the operation
of the Geothermal Business. In connection with the sale, the Company paid a
stalking horse bidder a break-up fee of approximately $5.4 million.
On December 2, 2003, Covanta and Danielson entered into an Investment and
Purchase Agreement (as amended, the "DHC Agreement"). The DHC Agreement provided
for:
- Danielson to purchase 100% of the equity in Covanta for $30
million as part of a plan of reorganization (the "DHC
Transaction");
- agreement as to new revolving credit and letter of credit
facilities for the Company's domestic and international
operations, provided by certain of the Secured Bank Lenders
and a group of additional lenders organized by Danielson; and
- execution and consummation of the Tax Sharing Agreement
between Danielson and Covanta (the "Tax Sharing Agreement"),
pursuant to which Covanta's share of Danielson's consolidated
group tax liability for
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taxable years ending after consummation of the DHC Transaction
will be computed taking into account net operating losses of
Danielson, and Danielson will have an obligation to indemnify
and hold harmless Covanta for certain excess tax liability.
The Company determined that the DHC Transaction was in the best interests of its
estate and its creditors, and was preferable to other alternatives under
consideration because it provided:
- a more favorable capital structure for the Company upon
emergence from Chapter 11;
- the injection of $30 million in equity from Danielson;
- enhanced access to capital markets through Danielson;
- diminished syndication risk in connection with the Company's
financing under the exit financing agreements; and
- reduced exposure of the Secured Bank Lenders as a result of
financing arranged by new lenders.
On March 5, 2004, the Bankruptcy Court entered an order confirming the Company's
plans of reorganization premised on the DHC Transaction and liquidation for
certain of those Debtors involved in non-core businesses. On March 10, 2004 both
Plans were effected upon the consummation of the DHC Transaction (the plans of
reorganization and liquidation collectively, the "Reorganization Plan"). The
following is a summary of material provisions of the Reorganization Plan. The
summary does not purport to be complete and is qualified in its entirety by
reference to all of the provisions of the Reorganization Plan, including those
exhibits and documents described therein, which have been filed with the
Bankruptcy Court. The Debtors owning or operating the Company's Warren County,
New Jersey, Lake County, Florida, and Tampa Bay, Florida projects remain
debtors-in-possession (the "Remaining Debtors"), and are not the subject of
either Plan.
The Reorganization Plan provides for, among other things, the following
distributions:
(i) Secured Bank Lender and 9.25% Debenture Holder Claims
On account of their allowed secured claims, the Secured Bank Lenders and the
9.25% Debenture holders received, in the aggregate, a distribution consisting
of:
- the cash available for distribution after payment by the
Company of exit costs necessary to confirm the Amended Plans
and establishment of required reserves pursuant to the
Reorganization Plan,
- new high-yield secured notes issued by Covanta and guaranteed
by its subsidiaries (other than Covanta Power International
Holdings, Inc. ("CPIH") and its subsidiaries) which are not
contractually prohibited from incurring or guaranteeing
additional debt (Covanta and such subsidiaries, the "Domestic
Borrowers") with a stated maturity of seven years (the "High
Yield Notes"), and
- a term loan of CPIH with a stated maturity of 3 years.
Additionally, the Reorganization Plan incorporates the terms of a pending
settlement of litigation that had been commenced during the Chapter 11 Cases by
the Creditors Committee challenging the validity of the lien asserted on behalf
of the holders of the 9.25% Debentures (the "9.25% Debenture Adversary
Proceeding"). Pursuant to the settlement, holders of general unsecured claims
against the Company are entitled to receive 12.5% of the value that would
otherwise be distributable to the holders of 9.25% Debenture claims that
participate in the settlement.
(ii) Unsecured Claims against Operating Company Subsidiaries
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The holders of allowed unsecured claims against any of the Company's operating
subsidiaries will receive new unsecured notes in a principal amount equal to the
amount of their allowed unsecured claims with a stated maturity of 8 years (the
"Unsecured Notes").
(iii) Unsecured Claims against Covanta and Holding Company Subsidiaries
The holders of allowed unsecured claims against Covanta or certain of its
holding company subsidiaries will receive, in the aggregate, a distribution
consisting of (i) $4 million in principal amount of Unsecured Notes, (ii) a
participation interest equal to 5% of the first $80 million in net proceeds
received in connection with the sale or other disposition of CPIH and its
subsidiaries, and (iii) the recoveries, if any, from avoidance actions not
waived under the plan that might be brought on behalf of the Company. As
described above, each holder of an allowed unsecured claim against Covanta or
certain of its holding company subsidiaries is entitled to receive its pro-rata
share of 12.5% of the value that would otherwise be distributable to the holders
of 9.25% Debenture claims that participate in the settlement of the 9.25%
Debenture Adversary Proceeding pursuant to the Reorganization Plan.
(iv) Subordinated Claims of Holders of Convertible Subordinated
Debentures
The holders of Covanta's Convertible Subordinated Debentures did not receive any
distribution or retain any property pursuant to the proposed Reorganization
Plan. The Convertible Subordinated Debentures were cancelled as of March 10,
2004, the effective date of the Reorganization Plan.
(v) Equity interests of common and preferred stockholders
The holders of Covanta's preferred and common stock outstanding immediately
before consummation of the DHC Transaction did not receive any distribution or
retain any property pursuant to the Reorganization Plan. The preferred stock and
common stock was cancelled as of March 10, 2004, the Effective Date of the
Reorganization Plan.
The Reorganization Plan provides for the complete liquidation of those of the
Company's subsidiaries that have been designated as liquidating entities.
Substantially all of the assets of these liquidating entities have already been
sold. Under the Reorganization Plan the creditors of the liquidating entities
will not receive any distribution other than those administrative creditors with
respect to claims against the liquidating entities that have been incurred in
the implementation of the Reorganization Plan and priority claims required to be
paid under the Bankruptcy Code.
As further set forth in this Part 1, Item 1. "Business" and Part II, Item 7
"Management's Discussion and Analysis," there are risks that might affect the
Company's ability to implement its business plan and pay the various debt
instruments to be issued pursuant to the Second Reorganization Plan.
As a result of the consummation of the DHC Transaction, the Company emerged from
bankruptcy with a new debt structure. Domestic Borrowers have two credit
facilities
- a letter of credit facility (the "First Lien Facility"), for
the issuance of a letter of credit in the amount up to $139
million required in connection with a waste-to-energy
facility, and
- a letter of credit and liquidity facility (the "Second Lien
Facility"), in the aggregate amount of $118 million, up to $10
million of which shall also be available for cash borrowings
on a revolving basis and the balance for letters of credit.
Both facilities have a term of five years, and are secured by the assets of the
Domestic Borrowers on which they are not prohibited from placing liens under
other prior agreements. The lien of the Second Lien Facility is junior to that
of the First Lien Facility.
The Domestic Borrowers also issued the High Yield Notes and issued or will issue
the Unsecured Notes. The High Yield Notes are secured by a third priority lien
in the same collateral securing the First Lien Facility and the Second Lien
Facility. The High Yield Notes were issued in the initial principal amount of
$205 million, which will accrete
7
to $230 million at maturity in 7 years. Unsecured Notes in a principal amount of
$4 million were issued on the effective date of the Reorganization Plan, and the
Company expects to issue additional Unsecured Notes in a principal amount of
between $30 and $35 million including additional Unsecured Notes that may be
issued to holders of allowed claims against the Remaining Debtors if and when
such Remaining Debtors emerge from bankruptcy. The final principal amount of all
Unsecured Notes will be equal to the amount of allowed unsecured claims against
the Company's operating subsidiaries which were Reorganizing Debtors, and such
amount will be determined at such time as the allowance of all such claims are
resolved through settlement or further proceedings in the Bankruptcy Court.
Notwithstanding the date on which Unsecured Notes are issued, interest on the
Unsecured Notes accrues from March 10, 2004. Under the Reorganization Plan, the
Company is authorized to issue up to $50 million in principal amount of
Unsecured Notes.
Also, CPIH and each of its domestic subsidiaries, which hold all of the assets
and operations of the Company's international businesses (the "CPIH Borrowers")
entered into two secured credit facilities:
- a revolving credit facility, secured by a first priority lien
on the stock of CPIH and substantially all of the CPIH
Borrowers' assets not otherwise pledged, consisting of
commitments for cash borrowings of up to $10 million for
purposes of supporting the international businesses and
- a term loan facility of up to $95 million, secured by a second
priority lien on the same collateral.
Both facilities will mature in three years. The debt of the CPIH Borrowers is
non-recourse to Covanta and its other domestic subsidiaries. For further
discussion, see Part II, Item 7, "Management's Discussion and Analysis."
In addition, in the Chapter 11 cases, the Debtors had the right, subject to
Bankruptcy Court approval and certain other limitations, to assume or reject
executory contracts and unexpired leases. As a condition to assuming a contract,
each Debtor must cure all existing defaults (including payment defaults). The
Company has paid or expects to pay approximately $9 million in cure amounts in
connection with assumed executory contracts and unexpired leases. There can be
no assurance that the cure amounts ultimately associated with assumed executory
contracts and unexpired leases will not be materially higher than the amounts
estimated by the Company.
The Company has reconciled recorded pre-petition liabilities with proofs of
claim filed by creditors with the Bankruptcy Court. Differences resulting from
that reconciliation process are recorded as adjustments to pre-petition
liabilities. The Company has not yet determined the reorganization adjustments.
In total, approximately 4,550 proofs of claim in aggregate amount of
approximately $13.3 billion were filed. Additional claims may be filed in
connection with the rejection of contracts and other matters. The Debtors
believe that many of the proofs of claim are invalid, duplicative, untimely,
inaccurate or otherwise objectionable. During the course of the bankruptcy
proceedings, the Debtors filed procedural objections to more than 3,000 claims,
primarily seeking to reclassify as general unsecured claims certain claims that
were filed as secured or priority claims. The Debtors have objected to and
intend to contest claims to the extent they materially exceed the amounts the
Debtors believe may be due.
See Note 30 to the Consolidated Financial Statements for financial information
about business segments.
See Note 30 to the Consolidated Financial Statements for financial information
about geographic areas.
DESCRIPTION OF DOMESTIC ENERGY AND WATER BUSINESS
The Company's domestic business is the design, construction and long-term
operation of key infrastructure for municipalities and others in
waste-to-energy, independent power production and water. The Company's largest
operations are in waste-to-energy projects, and it currently operates 25
waste-to-energy projects, the majority of which were developed and structured
contractually as part of competitive procurements conducted by municipal
entities. The waste-to-energy plants combust municipal solid waste as a means of
environmentally sound disposal and produce energy that is sold as electricity or
steam to utilities and other purchasers. The Company processes approximately
five percent of the municipal solid waste produced in the United States and
therefore represents a vital part of the nation's solid waste disposal industry.
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(i) Waste-to-Energy Projects.
The essential purpose of the Company's waste-to-energy projects is to provide
waste disposal services, typically to municipal clients who sponsor the projects
("Client Communities"). Generally, the Company provides these services pursuant
to long term service contracts ("Service Agreements"). The electricity or steam
is sold pursuant to long-term power purchase agreements ("PPAs") with local
utilities or industrial customers, with one exception, and most of the resulting
revenues reduce the overall cost of waste disposal services to the Client
Communities. Each Service Agreement is different to reflect the specific needs
and concerns of the Client Community, applicable regulatory requirements and
other factors. The original terms of the Service Agreements are each 20 or more
years, with the majority now in the second half of the applicable term.
The Company currently operates the waste-to-energy projects identified below
under "Domestic Project Summaries." Most of the Company's operating
waste-to-energy projects were developed and structured contractually as part of
competitive procurements conducted by municipal entities. As a result, these
projects have many common features, which are described in subsection (A) below.
Certain projects which do not follow this model, or have been or may be
restructured, are described in subsection (B) below.
The Company receives its revenue in the form of fees pursuant to Service
Agreements, and in some cases PPAs, at facilities it owns. The Company's Service
Agreements begin to expire in 2007, and PPAs at Company-owned projects generally
expire at or after the date on which that project's Service Agreement expires.
As the Company's contracts expire it will become subject to greater market risk
in maintaining and enhancing its revenues. As its Service Agreements at
municipally-owned facilities expire, the Company intends to seek to enter into
renewal or replacement contracts to operate several such facilities. The Company
also will seek to bid competitively in the market for additional contracts to
operate other facilities as similar contracts of other vendors expire. As the
Company's Service Agreements at facilities it owns begin to expire, it intends
to seek replacement or additional contracts, and because project debt on these
facilities will be paid off at such time the Company expects to be able to offer
rates that will attract sufficient quantities of waste while providing
acceptable revenues to the Company. At Company-owned facilities, the expiration
of existing PPAs will require the Company to sell its output either into the
local electricity grid at prevailing rates or pursuant to new contracts. There
can be no assurance that the Company will be able to enter into such renewals,
replacement or additional contracts, or that the terms available in the market
at the time will be favorable to the Company.
The Company's opportunities for growth by investing in new projects will be
limited by existing debt covenants, as well as by competition from other
companies in the waste disposal business. The Company intends to pursue
opportunities to expand the processing capacity where Client Communities have
encountered significantly increased waste volumes without corresponding
increases in competitively-priced landfill availability. Other than expansions
at existing waste-to-energy projects, the Company does not expect to engage in
material development activity which will require significant equity investment.
There can be no assurance that the Company will be able to implement expansions
at existing facilities.
(A) Structurally Similar Waste-to-Energy Projects.
Each Service Agreement is different to reflect the specific needs and concerns
of the Client Community, applicable regulatory requirements and other factors.
However, the following description sets forth terms that are generally common to
these agreements:
- The Company designs the facility, helps to arrange for
financing and then constructs and equips the facility on a
fixed price and schedule basis.
- The Company operates the facility and generally guarantees it
will meet minimum waste processing capacity and efficiency
standards, energy production levels and environmental
standards. The Company's failure to meet these guarantees or
to otherwise observe the material terms of the Service
Agreement (unless caused by the Client Community or by events
beyond its control ("Unforeseen Circumstances")) may result in
liquidated damages charged to the Company or, if the breach is
substantial, continuing and unremedied, the termination of the
Service Agreement. In the case of such Service Agreement
termination, the Company may be obligated
9
to pay material damages, including payments to discharge
project indebtedness. Covanta or an intermediate holding
company typically guarantees performance of the Service
Agreement.
- The Client Community is generally required to deliver minimum
quantities of municipal solid waste to the facility on a
put-or-pay basis and is obligated to pay a service fee for its
disposal, regardless of whether or not that quantity of waste
is delivered to the facility (the "Service Fee"). A put-or-pay
commitment means that the Client Community promises to deliver
a stated quantity of waste and pay an agreed amount for its
disposal. This payment is due even if the counterparty
delivers less than the full amount of waste promised. The
Service Fee escalates to reflect indices of inflation. In many
cases the Client Community must also pay for other costs, such
as insurance, taxes and transportation and disposal of the
residue to the disposal site. If the facility is owned by the
Company, the Client Community also pays as part of the Service
Fee an amount equal to the debt service due to be paid on the
bonds issued to finance the facility. Generally, expenses
resulting from the delivery of unacceptable and hazardous
waste on the site are also borne by the Client Community. In
addition, the contracts generally require that the Client
Community pay increased expenses and capital costs resulting
from Unforeseen Circumstances, subject to limits which may be
specified in the Service Agreement.
- The Client Community usually retains a portion of the energy
revenues (generally 90%) generated by the facility, and pays
the balance to the Company.
Financing for the Company's domestic waste-to-energy projects is generally
accomplished through tax-exempt and taxable revenue bonds issued by or on behalf
of the Client Community. If the facility is owned by a Covanta subsidiary, the
Client Community loans the bond proceeds to the subsidiary to pay for facility
construction and pays to the subsidiary amounts necessary to pay debt service.
For such facilities, project-related debt is included as "project debt (short
and long term)" in the Company's consolidated financial statements. Generally,
such debt is secured by the revenues pledged under the respective indentures and
is collateralized by the assets of Covanta's subsidiary and with the only
recourse to Covanta being related to construction and operating performance
defaults.
Covanta has issued instruments to its Client Communities and other parties which
guarantee that Covanta's operating subsidiaries will perform in accordance with
contractual terms including, where required, the payment of damages. Such
contractual damages could be material, and in circumstances where one or more
subsidiary's contract has been terminated for its default, such damages could
include amounts sufficient to repay project debt. For facilities owned by Client
Communities and operated by Covanta subsidiaries, Covanta's potential maximum
liability as of December 31, 2003 associated with the repayment of project debt
amounts was in aggregate approximately $1.3 billion. Additionally, damages
payable under such guarantees on Company owned waste to energy facilities could
expose Covanta to recourse liability on project debt with respect to such
facilities. If Covanta is asked to perform under one or more of such guarantees,
its liability for damages upon contract termination would be reduced by funds
held in trust and proceeds from sales of the facilities securing the project
debt and which is presently not estimable. To date, Covanta has not incurred
material liabilities under such guarantees.
(B) Other Waste-to-Energy Project Structures.
Haverhill, Massachusetts
The Company's Haverhill, Massachusetts waste-to-energy facility is not operated
pursuant to a Service Agreement with a Client Community. In this project, the
Company assumed the project debt and risks relating to waste availability and
pricing, risks relating to the continued performance of the electricity
purchaser, as well as risks associated with unforeseen circumstances. The
Company retains all of the energy revenues from sales of power and disposal fees
for waste accepted at this facility. Accordingly, the Company believes that this
project carries both greater risks and greater potential rewards than projects
in which there is a Client Community.
During 2003, US Gen New England, Inc. ("USGenNE"), the power purchaser for the
Haverhill project, filed a petition under Chapter 11 of the United States
Bankruptcy Code. The Company is closely monitoring these proceedings and is a
member of the USGenNE's Official Committee of Unsecured Creditors. The impact,
if any, of the USGenNE's bankruptcy on the Company's earnings, financial
position and liquidity will depend upon how USGenNE treats its contract to
purchase power from the Haverhill project, which would otherwise expire in 2019.
The Company believes that its contract provides for energy rates at or below
both current and projected market rates,
10
and that it is possible that the contract will remain in effect. If USGenNE
seeks to reject the contract, as it has the right to do under the Bankruptcy
Code, the Company's operating subsidiary would seek to sell power from the
Haverhill project in the applicable power pool or enter into a replacement
contract at then-available rates. In such a circumstance, unless the Company is
able to enter into a long term contract with a replacement power purchaser, the
Haverhill project will be subjected to greater market price risk for energy
sales than previously was the case.
(C) Restructurings
Warren County, New Jersey
The Covanta subsidiary ("Covanta Warren") which operates the Company's
waste-to-energy facility in Warren County, New Jersey (the "Warren Facility")
and the Pollution Control Financing Authority of Warren County ("Warren
Authority") have been engaged in negotiations for an extended time concerning a
potential restructuring of the parties' rights and obligations under various
agreements related to Covanta Warren's operation of the Warren Facility. Those
negotiations were in part precipitated by a 1997 federal court of appeals
decision invalidating certain of the State of New Jersey's waste-flow laws,
which resulted in significantly reduced revenues for the Warren Facility. Since
1999, the State of New Jersey has been voluntarily making all debt service
payments with respect to the project bonds issued to finance construction of the
Warren Facility, and Covanta Warren has been operating the Warren Facility
pursuant to an agreement with the Warren Authority which modifies the existing
Service Agreement for the Warren Facility.
Although discussions continue, to date Covanta Warren and the Warren Authority
have been unable to reach an agreement to restructure the contractual
arrangements governing Covanta Warren's operation of the Warren Facility. The
Warren Authority has indicated that a consensual restructuring of the parties'
contractual arrangements may be possible in 2004. In addition, the Warren
Authority has agreed to release approximately $1.2 million being held in escrow
to Covanta Warren so that Covanta Warren may perform an environmental retrofit
during 2004. Based upon the foregoing, the Company has determined not to propose
a plan of reorganization or plan of liquidation for Covanta Warren at this time,
and instead have determined that Covanta Warren should remain a
debtor-in-possession after the Reorganization Plan was consummated.
In order to emerge from bankruptcy without uncertainty concerning potential
claims against Covanta related to the Warren Facility, Covanta rejected its
guarantees of Covanta Warren's obligations relating to the operation and
maintenance of the Warren Facility. The Company anticipates that if a
restructuring is consummated, Covanta may at that time issue a new parent
guarantee in connection with that restructuring and emergence from bankruptcy.
In the event the parties are unable to timely reach agreement upon and
consummate a restructuring of the contractual arrangements governing Covanta
Warren's operation of the Warren Facility, the Company may, among other things,
elect to litigate with counterparties to certain agreements with Covanta Warren,
assume or reject one or more executory contracts related to the Warren Facility,
attempt to file a plan of reorganization on a non-consensual basis, or liquidate
Covanta Warren. In such an event, creditors of Covanta Warren may not receive
any recovery on account of their claims.
The Company expects that the outcome of this restructuring will not negatively
affect its ability to implement its business plan.
Onondaga County, New York
Shortly before the First Petition Date, the Onondaga County Resource Recovery
Agency ("OCRRA") purported to terminate the Service Agreement between OCRRA and
Covanta Onondaga, LP ("Covanta Onondaga") relating to the waste-to-energy
facility in Onondaga County, New York (the "Onondaga Facility"). The alleged
termination was based upon Covanta's failure to provide a letter of credit
following its downgrade by rating agencies. Covanta Onondaga challenged that
purported termination by OCRRA. The dispute between Covanta Onondaga and OCRRA
11
concerning that termination, as well as disputes concerning which court would
decide that dispute, was litigated in state court and several bankruptcy,
district and appellate federal courts.
The Company, OCRRA and certain bondholders and limited partners have reached an
agreement to resolve their disputes. The Bankruptcy Court entered an order
approving that compromise and restructuring on October 9, 2003. That agreement
provides for the continued operation of the Onondaga Facility by Covanta
Onondaga, as well as numerous modifications to agreements relating to the
Onondaga Facility, including: (i) the restructuring of the bonds issued to
finance development and construction of the Onondaga Facility; (ii) reduction in
the amount of the service fee payable to Covanta Onondaga; (iii) elimination of
the requirement that Covanta provide credit support, and a reduction in the
maximum amount of the parent company guarantee; and (iv) material amendments to
the agreements between Covanta Onondaga's third party limited partners and the
Company. The Onondaga restructuring was completed in October 2003.
Hennepin County, Minnesota
On June 11, 2003, the Company received Bankruptcy Court approval to restructure
certain agreements relating to the Company's waste-to-energy project at
Hennepin, Minnesota. The elements of the restructuring are: (i) the purchase by
Hennepin County of the ownership interests of General Electric Capital
Corporation and certain of its affiliates ("GECC") in the operating facility,
(ii) the termination of certain leases, the existing Service Agreement and
certain financing and other agreements; (iii) entry into a new Service Agreement
and related agreements, which reduces Hennepin County's payment obligations
under the Service Agreement to the Company's subsidiary operating the facility
and requires that subsidiary to provide a letter of credit in an initial amount
of $25 million and then declining after the Company emerges from the bankruptcy
process; (iv) the refinancing of bonds issued in connection with the development
and construction of the project; and (v) assumption and assignment to Hennepin
County of certain interests in the project's electricity sale agreement. The
Hennepin restructuring was completed in July 2003.
Union County, New Jersey
On June 19, 2003, Covanta Union, Inc. ("Covanta Union") received Bankruptcy
Court approval to restructure certain agreements relating to the Debtors'
waste-to-energy facility at Rahway, Union County, New Jersey (the "Union
Facility"), and to settle certain disputes with the Union County Utilities
Authority (the "Union Authority"). The restructuring facilitates the Union
Authority's implementation of a solid waste flow control program and accounts
for the impact of recent court decisions upon the agreements between Covanta
Union and the Union Authority. Key elements of the restructuring include: (i)
modifying the existing project agreements between Covanta Union and the Union
Authority and (ii) executing a settlement agreement and a release and waiver
with the Union Authority resolving disputes that had arisen between Covanta
Union and the Union Authority regarding unpaid fees. The Union restructuring was
completed in July 2003.
Babylon, New York
The Town of Babylon, New York ("Babylon") filed a proof of claim against Covanta
Babylon, Inc. ("Covanta Babylon") for approximately $13.4 million in prepetition
damages and $5.5 million in post-petition damages, alleging that Covanta Babylon
has accepted less waste than required under the Service Agreement between
Babylon and Covanta Babylon at the waste-to-energy facility in Babylon, and that
Covanta's Chapter 11 Cases imposed on Babylon additional costs for which Covanta
Babylon should be responsible. The Company filed an objection to Babylon's
claim, asserting that it is in full compliance with the express requirements of
the Service Agreement and was entitled to adjust the amount of waste it is
required to accept to reflect the energy content of the waste delivered. Covanta
Babylon also asserted that the costs arising from its chapter 11 proceeding are
not recoverable by Babylon. After lengthy discussions, Babylon and Covanta
Babylon reached a settlement pursuant to which, in part, (i) the parties amended
the Service Agreement to adjust Covanta Babylon's operational procedures for
accepting waste, reduce Covanta Babylon's waste processing obligations, increase
Babylon's additional waste service fee to Covanta Babylon, and reduce Babylon's
annual operating and maintenance fee to Covanta Babylon; (ii) Covanta Babylon
paid a specified amount to Babylon in consideration for a release of any and all
claims (other than its rights under the settlement documents) that Babylon may
hold against the Company and in satisfaction of Babylon's administrative expense
claims against Covanta Babylon; and (iii) the parties allocated additional costs
relating to the
12
swap financing as a result of Covanta Babylon's Chapter 11 proceedings until
such costs are eliminated. The restructuring became effective on March 12, 2004.
Lake County, Florida
In late 2000, Lake County, Florida ("Lake County") commenced a lawsuit in
Florida state court against Covanta Lake, Inc. ("Covanta Lake"), which also
refers to its merged successor, as defined below) relating to the
waste-to-energy facility operated by Covanta in Lake County, Florida (the "Lake
Facility"). In the lawsuit, Lake County sought to have its Service Agreement
with Covanta Lake declared void and in violation of the Florida Constitution.
That lawsuit was stayed by the commencement of the Chapter 11 Cases. Lake County
subsequently filed a proof of claim seeking in excess of $70 million from
Covanta Lake and Covanta.
On June, 20, 2003, Covanta Lake filed a motion with the Bankruptcy Court seeking
entry of an order (i) authorizing Covanta Lake to assume, effective upon
confirmation of a plan of reorganization for Covanta Lake, its Service Agreement
with Lake County, (ii) finding no cure amounts due under the Service Agreement,
and (iii) seeking a declaration that the Service Agreement is valid, enforceable
and constitutional, and remains in full force and effect. Contemporaneously with
the filing of the assumption motion, Covanta Lake filed an adversary complaint
asserting that Lake County is in arrears to Covanta Lake in the amount of more
than $8.5 million. Shortly before trial commenced in these matters, the Company
and Lake County reached a tentative settlement calling for a new agreement
specifying the parties' obligations and restructuring of the project. That
tentative settlement and the proposed restructuring will involve, among other
things, termination of the existing Service Agreement and the execution of a new
waste disposal agreement which shall provide for a put-or-pay obligation on Lake
County's part to deliver 163,000 tons per year of acceptable waste to the Lake
Facility and a different fee structure; a replacement guarantee from Covanta in
a reduced amount; the payment by Lake County of all amounts due as "pass
through" costs with respect to Covanta Lake's payment of property taxes; the
payment by Lake County of a specified amount in each of 2004, 2005 and 2006 in
reimbursement of certain capital costs; the settlement of all pending
litigation; and a refinancing of the existing bonds.
The Lake settlement is contingent upon, among other things, receipt of all
necessary approvals, as well as a favorable outcome to the Company's pending
objection to the proof of claims filed by F. Browne Gregg, a third-party
claiming an interest in the existing Service Agreement that would be terminated
under the proposed settlement. On November 3-5, 2003, the Bankruptcy Court
conducted a trial on Mr. Gregg's proofs of claim. At issue in the trial was
whether Mr. Gregg is entitled to damages as a result of Covanta Lake's proposed
termination of the existing Service Agreement and entry into a waste disposal
agreement with Lake County. As of March 22, 2004, the Bankruptcy Court had not
ruled on the Company's claims objections. Based on the foregoing, the Company
has determined not to propose a plan of reorganization or plan of liquidation
for Covanta Lake at this time, and instead that Covanta Lake should remain a
debtor-in-possession after the effective date of the Reorganization Plan.
To emerge from bankruptcy without uncertainty concerning potential claims
against Covanta related to the Lake Facility, Covanta has rejected its
guarantees of Covanta's obligations relating to the operation and maintenance of
the Lake Facility. The Company anticipates that if a restructuring is
consummated, Covanta may at that time issue new parent guarantees in connection
with that restructuring and emergence from bankruptcy.
Depending upon the ultimate resolution of these matters with Mr. Gregg and the
County, Covanta Lake may determine to assume or reject one or more executory
contracts related to the Lake Facility, terminate the Service Agreement with
Lake County for its breaches and default and pursue litigation against Lake
County and/or Mr. Gregg. Based on this determination, the Company may reorganize
or liquidate Covanta Lake. Depending on how Covanta Lake determines to proceed,
creditors of Covanta Lake may not receive any recovery on account of their
claims.
The Company expects that the outcome of these disputes will not affect its
ability to implement its business plan.
13
Tulsa, Oklahoma
Prior to October 2003, Covanta Tulsa, Inc. ("Covanta Tulsa") operated the
waste-to-energy facility located in Tulsa, Oklahoma (the "Tulsa Facility")
pursuant to a Service Agreement with the Tulsa Authority for Recovery of Energy
which expires in 2007. Covanta leased the facility from CIT Group/Capital
Finance, Inc. ("CIT") under a long-term lease expiring in 2012 (the "CIT
Lease"). Covanta Tulsa was unable to restructure its contractual arrangements
with CIT related to Covanta Tulsa's operation of the Tulsa Facility, which was
projected to become unprofitable for Covanta Tulsa absent such a restructuring.
As a result, the Company terminated business operations at the Tulsa Facility,
turned over the Tulsa Facility to CIT and rejected the CIT Lease and certain
other agreements relating to the Tulsa Facility. Covanta Tulsa is a liquidating
debtor under the Reorganization Plan.
(ii) Independent Power Projects
Since 1989, the Company has been engaged in developing, owning and/or operating
20 independent power production facilities utilizing a variety of energy sources
including water (hydroelectric), natural gas, coal, geothermal fluid, landfill
gas and heavy fuel oil. The electrical output from each facility, with one
exception, is sold to local utilities. The Company's revenue from the
independent power production facilities is derived primarily from the sale of
energy and capacity. During 2003, the Company sold its interests in its
Geothermal Business, as described above.
The regulatory framework for selling power to utilities from independent power
facilities (including waste-to-energy facilities) after current contracts expire
is in flux, given the energy crisis in California in 2000 and 2001, the
over-capacity of generation at the present time in many markets and the
uncertainty as to the adoption of new Federal energy legislation. Various states
and Congress are considering a wide variety of changes to regulatory frameworks,
but none has been established definitively at present.
(A) Independent Power Projects in operation.
Hydroelectric.
The Company owns a 50% equity interest in two run-of-river hydroelectric
facilities, Koma Kulshan and Weeks Falls, which have a combined gross capacity
of 17 MW. Both Koma Kulshan and Weeks Falls are located in Washington State and
both sell energy and capacity to Puget Sound Power & Light Company under long
term PPAs. A subsidiary of the Company provides operation and maintenance
services to the Koma Kulshan partnership under a cost plus fixed fee agreement.
The Company operates the New Martinsville facility in West Virginia, a 40 MW
run-of-river project pursuant to a short-term Interim Operations and Maintenance
Agreement which will expire March 31, 2004. The Company chose not to renew the
lease on the project, the term of which expired in October 2003.
Wood.
The Company owns 100% interests in Burney Mountain Power, Mt. Lassen Power, and
Pacific Oroville Power three wood-fired generation facilities in northern
California. A fourth facility, Pacific Ultra Power Chinese Station, is owned by
a partnership in which the Company holds a 50% interest. Fuel for the facilities
is procured from local sources primarily through short-term supply agreements.
The price of the fuel varies depending on time of year, supply and price of
energy. The four projects have a gross generating capacity of 67 MW. All four
projects sell energy and capacity to Pacific Gas & Electric under PPAs. Until
July 2001 the facilities were receiving Pacific Gas & Electric's short run
avoided cost for energy delivered. However, beginning in July 2001 the four
facilities entered into five-year fixed-price periods pursuant to PPA
amendments.
14
Landfill Gas.
The Company has interests in and operates eight landfill gas projects which
produce electricity by burning methane gas produced in landfills. The Otay,
Oxnard, Penrose, Salinas, Stockton, Santa Clara and Toyon projects are located
in California, and the Gude project is located in Maryland. The eight projects
have a total gross capacity of 36 MW. The Gude facility PPA has expired and the
facility is currently selling its output into the regional utility grid. The
Penrose and Toyon projects sell energy and delivered capacity to the local
utility. The remaining five projects sell energy and contracted capacity to
various California utilities. The Penrose and Toyon PPAs expire in 2006, and the
Salinas, Stockton and Santa Clara PPAs expire in 2007. The Otay and Oxnard PPAs
expire in 2011. Upon the expiration of the PPAs it is expected that these
projects will enter into new off take arrangements or the projects will be shut
down.
(B) Independent Power Projects Divestitures
Geothermal.
As discussed above in "Chapter 11 Reorganization and Related Dispositions of
Assets," the Company owned and operated the Geothermal Business, which consisted
of independent power production facilities that convert geothermal fluid into
energy. The Geothermal Business was composed of the following: (i) Second
Imperial Geothermal Company, L.P. ("SIGC"), which is the sole lessee of a
nominal 48-megawatt geothermal electric power plant located in Imperial County,
California; (ii) Heber Geothermal Company ("HGC") the owner of a nominal
52-megawatt geothermal electric power plant located in Imperial County,
California; (iii) Heber Field Company, which is owner of certain land and lessee
under more than 200 royalty leases providing it the right to extract geothermal
fluid which is sold to SIGC and HGC; and (iv) the interests of Covanta Power
Pacific, Inc., a non-debtor affiliate, in non-debtor affiliates Pacific
Geothermal Company and Mammoth Geothermal Company, which entities, in turn,
collectively own 50% of the partnership interests in Mammoth Pacific, L.P., an
entity which owns three geothermal electric power plants totaling 40 megawatts
located on the eastern slopes of the Sierra Nevada Mountains at Casa Diablo Hot
Springs in Mono County, California. The Company sold its interests in the
Geothermal Business to Ormat Nevada, Inc. on December 18, 2003.
(iii) Water Operations
The Company's water operations are composed of wastewater treatment and water
purification plants. The water operations are conducted through wholly-owned
subsidiaries, which design, construct, maintain, and/or operate water treatment
facilities and distribution and collection networks for municipalities in the
United States.
Currently, the Company operates and maintains seven water facilities in New York
State and has designed and built and now operates and maintains a water
treatment facility and associated transmission and pumping equipment in Alabama.
During 2003, the Company completed construction of a desalination project on
behalf of the Tampa Bay Water Authority ("TBW") in Florida.
The Company's water operations face an immature but developing domestic market
for private water and wastewater services. Growth of the privatized market has
not been consistent and is constrained by a number of factors, including water's
status as a most elemental and key community resource and the long history of
entrenched municipal operation with corresponding public sector employment.
(A) Water Projects in Construction
During 2003 Covanta Tampa Construction, Inc. ("CTC"), completed construction of
a 25 million gallon per day desalination-to-drinking water facility (the "Tampa
Water Facility") under a contract with TBW near Tampa, Florida. Covanta Energy
Group, Inc., guaranteed CTC's performance under its construction contract with
TBW. A separate subsidiary, Covanta Tampa Bay, Inc. ("CTB"), entered into a
contract with TBW to operate the Tampa Water Facility after construction and
testing is completed by CTC.
15
As construction of the Tampa Water Facility neared completion, the parties had
material disputes between them, primarily relating to (i) whether CTC has
satisfied acceptance criteria for the Tampa Water Facility; (ii) whether TBW has
obtained certain permits necessary for CTC to complete start-up and testing, and
for CTB to subsequently operate the Tampa Water Facility; (iii) whether influent
water provided by TBW for the Tampa Water Facility is of sufficient quality to
permit CTC to complete start-up and testing, or to permit CTB to operate the
Tampa Water Facility as contemplated and (iv) if and to the extent that the
Tampa Water Facility cannot be optimally operated, whether such shortcomings
constitute defaults under CTC's agreements with TBW.
In October 2003, TBW issued a default notice to CTC, indicated that it intended
to commence arbitration proceedings against CTC, and further indicated that it
intended to terminate CTC's construction agreement. As a result, on October 29,
2003, CTC filed a voluntary petition for relief under chapter 11 of the
Bankruptcy Code in order to, among other things, prevent attempts by TBW to
terminate the construction agreement between CTC and TBW. On November 14, 2003,
TBW commenced an adversary proceeding against CTC and filed a motion seeking a
temporary restraining order and preliminary injunction directing that possession
of the Tampa Water Facility be turned over to TBW. On November 25, 2003, the
Bankruptcy Court denied the motion for a temporary restraining order and
preliminary injunction and ordered, among other things, that the parties attempt
to resolve their disputes in a non-binding mediation.
In February 2004 the Company and TBW agreed to a compromise of their disputes
which has been approved by the Bankruptcy Court, subject to confirmation of an
acceptable plan of reorganization for CTC and CTB, which were not included in
the Reorganization Plan. Under this compromise, all contractual relationships
between the Company and TBW will be terminated, CTC will operate and maintain
the facility for a limited transition period, for which CTC will be compensated,
and the responsibility for optimization and operation of the Tampa Water
Facility will be transitioned to TBW or a new, non-affiliated operator. In
addition, TBW will pay $4.95 million to or for the benefit of CTC, of which up
to $550,000 is earmarked for the payment of claims under the subcontracts
previously assigned by the Company to TBW. The settlement funds ultimately would
be distributed to creditors and equity holders of CTC and CTB pursuant to a plan
of reorganization or liquidation for CTC and CTB.
Depending upon, among other things, whether the parties are able to successfully
effect the settlement described above, the Company may, among other things,
commence additional litigation against TBW, assume or reject one or more
executory contracts related to the Tampa Water Facility, or propose liquidating
plans and/or file separate plans of reorganization for CTB and/or CTC. In such
an event, creditors of CTC and CTB may not receive any recovery on account of
their claims.
The Company expects that the outcome of these disputes will not negatively
affect its ability to implement its business plan.
(B) Water Projects in Operation
The Company operates and maintains wastewater treatment facilities on behalf of
seven municipal and industrial customers in upstate New York. Some of these
contracts are short term agreements or may be terminated by the counterparty if
it no longer desires to continue receiving service from the Company.
The Company also designed, built and now operates and maintains a 24 mgd potable
water treatment facility and associated transmission and pumping equipment that
supplies water to residents and businesses in Bessemer, Alabama, a suburb of
Birmingham. Under a long term contract with the Governmental Services
Corporation of Bessemer, the Company received a fixed price for design and
construction of the facility, and it is paid a fixed fee plus pass-through costs
for delivering processed water to Bessemer's water distribution system.
Between 2000 and 2002, the Company was awarded contracts to supply its patented
DualSandTM micro-filtration system ("DSS") to twelve municipalities in upstate
New York as the one of the technological improvements necessary to upgrade their
existing water and wastewater treatment systems. Five of these upgrades were
made in connection with the United States Environmental Protection Agency and
New York City Department of Environmental Protection ("NYCDEP"), as part of a
$1.4 billion program to protect and enhance the drinking water supply, or
watershed, for New York City. The Company does not expect to enter into further
material contracts for such projects in the New York City Watershed.
16
DSS is a cost effective micro-filtration system for municipal water and
wastewater treatment, desalinization pre-treatment, re-use, recycling and
industrial applications. Its primary purpose is to effect the removal of
nutrient and pathogenic pollutants. The Company's obligations in connection with
DSS typically include equipment supply and installation and, in some cases,
construction.
DOMESTIC PROJECT SUMMARIES
Summary information with respect to the Company's domestic projects(1) that are
currently operating, or were under construction during 2003, is provided in the
following table:
DATE OF
ACQUISITION/
NATURE OF COMMENCEMENT
LOCATION SIZE INTEREST(1) OF OPERATIONS
A. MUNICIPAL SOLID WASTE
1. Marion County Oregon 13MW Owner/Operator 1987
2. Hillsborough County Florida 29MW Operator 1987
3. Bristol Connecticut 16.3MW Owner/Operator 1988
4. Alexandria/Arlington Virginia 22MW Owner/Operator 1988
5. Indianapolis Indiana N.A. Owner/Operator 1988
6. Hennepin County Minnesota 38.7MW Operator 1989
7. Stanislaus County California 22.5MW Owner/Operator 1989
8. Babylon(2) New York 16.8MW Owner/Operator 1989
9. Haverhill Massachusetts 46MW Owner/Operator 1989
10. Warren County(3) New Jersey 13MW Owner/Operator 1988
11. Kent County Michigan 18MW Operator 1990
12. Wallingford(3) Connecticut 11MW Owner/Operator 1989
13. Fairfax County Virginia 79MW Owner/Operator 1990
14. Huntsville Alabama N.A. Operator 1990
15. Lake County Florida 14.5MW Owner/Operator 1991
16. Lancaster County Pennsylvania 35.7MW Operator 1991
17. Pasco County Florida 31.2MW Operator 1991
18. Huntington(4) New York 24.3MW Owner/Operator 1991
19. Hartford(5) Connecticut 68.5MW Operator 1987
20. Detroit(6) Michigan 68MW Lessee/Operator 1991
17
21. Honolulu(6) Hawaii 57MW Lessee/Operator 1990
22. Union County(7) New Jersey 44MW Lessee/Operator 1994
23. Lee County Florida 39.7MW Operator 1994
24. Onondaga County(4) New York 39.5MW Owner/Operator 1995
25. Montgomery County Maryland 55MW Operator 1995
-------
SUBTOTAL 802.7MW
B. HYDROELECTRIC
1. New Martinsville(1) West Virginia 40MW Operator 1991
2. Koma Kulshan(8) Washington 12MW Part Owner/Operator 1997
3. Weeks Falls(8) Washington 5MW Part Owner 1997
-------
SUBTOTAL 57MW
C. WOOD
1. Burney Mountain California 11.4MW Owner/Operator 1997
2. Pacific Ultrapower California 25.6MW Part Owner 1997
Chinese Station(8)
3. Mount Lassen California 11.4MW Owner/Operator 1997
4. Pacific Oroville California 18.7MW Owner/Operator 1997
-------
SUBTOTAL 67.1MW
D. LANDFILL GAS
1. Gude Maryland 3MW Owner/Operator 1997
2. Otay California 3.7MW Owner/Operator 1997
3. Oxnard California 5.6MW Owner/Operator 1997
4. Penrose California 10MW Owner/Operator 1997
5. Salinas California 1.5MW Owner/Operator 1997
6. Santa Clara California 1.5MW Owner/Operator 1997
7. Stockton California 0.8MW Owner/Operator 1997
8. Toyon California 10MW Owner/Operator 1997
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SUBTOTAL 36.1MW
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18
TOTAL DOMESTIC MW IN OPERATION 962.9MW
E. WATER AND WASTEWATER
1. Bessemer Alabama 24 mgd Design/Build/Operate 2000
2. Clinton New York 2.5 mgd Operator 1995
3. Bristol/Myers Squibb New York 50 mgd Operator 2000
4. Chittenango New York 1.0 mgd Operator 1998
5. Canastata New York 2.5 mgd Operator 1998
6. Cortland New York 10 mgd Operator 1995
7. Mohawk New York 0.1 mgd Operator 1995
8. Kirkland New York 0.3 mgd Operator 1995
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TOTAL MGD IN OPERATION 90.4 mgd
DOMESTIC PROJECTS UNDER CONSTRUCTION DURING 2003:
1. Tampa Bay (9) Florida 25 mgd n/a
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NOTES
(1) The Company's ownership and/or operation interest in each facility
listed below extends at least into calendar year 2007 except: New
Martinsville, for which the initial term of the lease and operation
contract terminated in 2003 and is now being operated under a
short-term Interim Operation and Maintenance Agreement; Penrose, for
which the initial term of the operation contract terminates in 2006;
Toyon for which the initial term of the operation contract terminates
in 2006; Bristol/Meyers Squibb, for which the initial term of the
operation contract terminates in 2003; and Clinton, Mohawk and
Kirkland, for which the operation contracts are renewable annually.
(2) Facility has been designed to allow for the addition of another unit.
(3) Company subsidiaries were purchased after completion and use a
mass-burn technology that is not the Martin Technology.
(4) Owned by a limited partnership in which the limited partners are not
affiliated with the Company.
(5) Under contracts with the Connecticut Resource Recovery Authority, the
Company operates only the boiler and turbine for this facility.
(6) Operating contracts were acquired after completion. Facility uses a
refuse-derived fuel technology and does not employ the Martin
technology described below.
(7) The Union County facility is leased to a Company subsidiary.
(8) The Company has a 50% ownership interest in the project.
(9) The Company has tentatively agreed to transfer possession of the Tampa
Bay desalination facility to TBW , and will not operate this project.
19
DESCRIPTION OF INTERNATIONAL ENERGY BUSINESS
The Company conducts its international energy businesses through its
wholly-owned subsidiaries. Internationally, the largest element of the Company's
energy business is its 26.166% ownership in and operation of the 470 MW (net)
pulverized coal-fired electrical generating facility in Quezon Province, The
Philippines. The Company has interests in other fossil-fuel generating projects
in Asia, a waste-to-energy project in Italy, a natural gas project in Spain, and
two small hydroelectric projects in Costa Rica. In general, these projects
provide returns primarily from equity distributions and, to a lesser extent,
operating fees. The projects sell the electricity and steam they generate under
long-term contracts or market concessions to utilities, governmental agencies
providing power distribution, creditworthy industrial users, or local
governmental units. In select cases, such sales of electricity and steam may be
provided under short-term arrangements as well. Similarly, the Company seeks to
obtain long-term contracts for fuel supply from reliable sources.
The Company presently has interests in international power projects with an
aggregate generating capacity of approximately 1116 MW (gross). The Company's
ownership in these facilities is approximately 522 MW. In addition to its
headquarters in Fairfield, New Jersey, the Company's business is facilitated
through field offices in Shanghai, China; Chennai, India; Manila, The
Philippines; and Bangkok, Thailand.
(i) General Approach to International Projects
In developing its international businesses, the Company has employed the same
general approach to projects as is described above with respect to domestic
projects. Given its plan to refocus its business in domestic markets, no new
international project development is anticipated. The Company may consider
divesting itself from some or all of its international portfolio.
The ownership and operation of facilities in foreign countries in connection
with the Company's international business entails significant political and
financial uncertainties that typically are not involved in such activities in
the United States. Key international risk factors include
governmentally-sponsored efforts to renegotiate long-term contracts, non-payment
of fees and other monies owed to the Company, unexpected changes in electricity
tariffs, conditions in financial markets, currency exchange rates, currency
repatriation restrictions, currency convertibility, changes in laws and
regulations and political, economic or military instability, civil unrest and
expropriation. Such risks have the potential to cause material impairment to the
value of the Company's international businesses.
Many of the countries in which the Company operates are lesser developed
countries or developing countries. The political, social and economic conditions
in some of these countries are typically less stable than those in the United
States. The financial condition and creditworthiness of the potential purchasers
of power and services provided by the Company (which may be a governmental or
private utility or industrial consumer) or of the suppliers of fuel for projects
in these countries may not be as strong as those of similar entities in
developed countries. The obligations of the purchaser under the PPA, the service
recipient under the related service agreement and the supplier under the fuel
supply agreement generally are not guaranteed by any host country or other
creditworthy governmental agency. At the time it develops a project, the Company
undertakes a credit analysis of the proposed power purchaser or fuel supplier.
The Company's power projects in particular depend on reliable and predictable
delivery of fuel meeting the quantity and quality requirements of the project
facilities. The Company has typically sought to negotiate long term contracts
for the supply of fuel with creditworthy and reliable suppliers. However, the
reliability of fuel deliveries may be compromised by one or more of several
factors that may be more acute or may occur more frequently in developing
countries than in developed countries, including a lack of sufficient
infrastructure to support deliveries under all circumstances; bureaucratic
delays in the import, transportation and storage of fuel in the host country;
customs and tariff disputes; and local or regional unrest or political
instability. In most of the foreign projects in which the Company participates,
it has sought, to the extent practicable, to shift the consequences of
interruptions in the delivery of fuel, whether due to the fault of the fuel
supplier or due to reasons beyond the fuel supplier's control, to the
electricity purchaser or service recipient by securing a suspension of its
operating responsibilities under the applicable agreements and an extension of
its operating concession under such agreements and/or, in some instances, by
requiring the energy purchaser or service recipient to continue to make payments
in respect of fixed
20
costs. In order to mitigate the effect of short-term interruptions in the supply
of fuel, the Company has endeavored to provide on-site storage of fuel in
sufficient quantities to address such interruptions.
Payment for services that the Company provides will often be made in whole or
part in the domestic currencies of the host countries. Conversion of such
currencies into U.S. dollars generally is not assured by a governmental or other
creditworthy country agency, and may be subject to limitations in the currency
markets, as well as restrictions of the host country. In addition, fluctuations
in the value of such currencies against the value of the U.S. dollar may cause
the Company's participation in such projects to yield less return than expected.
Transfer of earnings and profits in any form beyond the borders of the host
country may be subject to special taxes or limitations imposed by host country
laws. The Company has sought to participate in projects in jurisdictions where
limitations on the convertibility and expatriation of currency have been lifted
by the host country and where such local currency is freely exchangeable on the
international markets. In most cases, components of project costs incurred or
funded in the currency of the United States are recovered without risk of
currency fluctuation through negotiated contractual adjustments to the price
charged for electricity or service provided. This contractual structure may
cause the cost in local currency to the project's power purchaser or service
recipient to rise from time to time in excess of local inflation, and
consequently there is risk in such situations that such power purchaser or
service recipient will, at least in the near term, be less able or willing to
pay for the project's power or service.
The Company has sought to manage and mitigate these risks through all means that
it deems appropriate, including: political and financial analysis of the host
countries and the key participants in each project; guarantees of relevant
agreements with creditworthy entities; political risk and other forms of
insurance; participation by international finance institutions, such as
affiliates of the World Bank, in financing of projects in which it participates;
and joint ventures with other international and regional companies to pursue the
development, financing and construction of these projects. The Company
determines which mitigation measurers to apply based on its balancing of the
risk presented, the availability of such measures and their cost.
In addition, the Company has generally participated in projects which provide
services that are treated as a matter of national or key economic importance by
the laws and politics of the host country. There is therefore a risk that the
assets constituting the facilities of these projects could be temporarily or
permanently expropriated or nationalized by a host country, or made subject to
local or national control.
Covanta has issued guarantees of its operating subsidiaries contractual
obligations to operate certain international power projects. The potential
damages owed under such arrangements for international projects may be material.
Depending upon the circumstances giving rise to such domestic and international
damages, the contractual terms of the applicable contracts, and the contract
counterparty's choice of remedy at the time a claim against a guarantee is made,
the amounts owed pursuant to one or more of such guarantees could be greater
than the Company's then-available sources of funds. To date, Covanta has not
incurred material liabilities under its guarantees on international projects.
The following is a description of the Company's international power projects, by
fuel type:
(i) Waste-to-Energy.
During 2000, the Company acquired a 13% equity interest in an 18 MW mass-burn
waste-to-energy project at Trezzo sull' Adda in the Lombardy Region of Italy
which burns up to 500 metric tons per day of municipal solid waste. The
remainder of the equity in the project is held by TTR Tecno Trattamento Rifiuti
S.r.l., a subsidiary of Falck S.p.A. and the municipality of Trezzo Sull'Adda.
The Trezzo project is operated by Ambiente 2000 S.r.l. an Italian special
purpose limited liability company of which the Company owns 40%. The solid waste
supply for the project comes from municipalities and privately owned waste
management organizations under long term contracts. The electrical output from
the Trezzo project is sold at governmentally established preferential rates
under a long term purchase contract to Italy's state-owned grid operator,
Gestore della Rete di Trasmissione Nazionale S.p.A. The project started
accepting waste in September 2002, successfully passed its performance tests in
early 2003 and reached full commercial operation in August 2003. The late
completion of the plant by the engineering, procurement and construction
contractor, Protecma, represents a non-compliance with the terms of the contract
with Protecma, and arbitration proceedings are currently underway with regard to
amounts withheld by the project company, Prima Srl, in respect of penalties for
late delivery of the plant. The original project debt facility provided
21
by a consortium of commercial banks was extinguished by Falck S.p.A. during the
third quarter of 2003. While this debt is currently being refinanced with a new
banking consortium, it is currently provided partially by Falck S.p.A. and
partially through a short-term commercial bank credit facility guaranteed by
Falck S.p.A.
In January 2001, Ambiente 2000 S.r.l. also entered into a 15-year operations and
maintenance agreement with E.A.L.L Energia Ambiente Litorale Laziale S.r.l., an
Italian limited liability company owned by Ener TAD to operate and maintain a 10
MW waste-to-energy facility capable of processing up to 300 metric tons per day
of refuse-derived fuel in the Municipality of San Vittore del Lazio (Frosinone),
Italy. The San Vittore project has a 15-year waste supply agreement with Reclas
S.p.A. (mostly owned by regional municipalities), and a long term power off-take
contract with GRTN. The project is now in its second year of operation, and is
being operated by its German construction contractor, Lurgi. There was a
significant delay in starting up the plant after construction was complete due
to a legal action by an environmental group that has subsequently been
overturned. The O&M Agreement provides that A2000 takes over the operation and
maintenance of the project at final acceptance under the terms of the
engineering, procurement and construction contract for the project, such final
acceptance requiring the plant to have performed over 12 months at specified
levels of output. Due to the partial loading of the plant in the early months of
operation resulting from delays in obtaining a construction permit for a new
transmission line to enable the plant to produce electricity at its full 10MW
capacity, operation and maintenance of the plant by A2000 has been delayed, and
is expected to take place in the second quarter of 2004.
(ii) Hydroelectric
The Company operates the Don Pedro project and the Rio Volcan facilities in
Costa Rica through an operating subsidiary pursuant to long term contracts. The
Company also has a nominal equity investment in each project. The electric
output from both of these facilities is sold to Instituto Costarricense de
Electricidad, a Costa Rica national electric utility.
(iii) Coal
A consortium, of which the Company is a 26% member, owns a 510 MW (gross)
coal-fired electric generating facility in The Philippines (the "Quezon
Project"). The project first generated electricity in October 1999, and full
commercial operation occurred during the second quarter of 2000. The other
members of the consortium are an affiliate of International Generating Company,
an affiliate of General Electric Capital Corporation, and PMR Limited Co., a
Philippines partnership. The consortium sells electricity to Manila Electric
Company ("Meralco"), the largest electric distribution company in The
Philippines, which serves the area surrounding and including metropolitan
Manila. Under a PPA expiring in 2025, Meralco is obligated to take or pay for
stated minimum annual quantities of electricity produced by the facility at an
all-in tariff which consists of capacity, operating, energy, transmission and
other fees adjusted to inflation, fuel cost and foreign exchange fluctuations.
The consortium has entered into two coal supply contracts expiring in 2015 and
2022. Under these supply contracts, cost of coal is determined using a base
energy price adjusted to fluctuations of specified international benchmark
prices. The Company is operating the project through a local subsidiary under a
long term agreement with the consortium. The financial condition of Meralco has
been recently stressed by the failure of regulators to grant tariff increases to
allow Meralco to achieve rates of return permitted by law. For further
discussion, see Item 7, "Management's Discussion and Analysis." The Company has
obtained political risk insurance for its equity investment in this project.
The Company has majority equity interests in three coal-fired cogeneration
facilities in three provinces in the People's Republic of China. Two of these
projects are operated by the project entity, in which the Company has a majority
interest. The third project is operated by an affiliate of the minority equity
shareholder. Parties holding minority positions in the projects include a
private company, a local government enterprise and affiliates of the local
municipal government. In connection with one of these projects, the municipal
government has enacted a resolution calling for the relocation of the
cogeneration facility from the city center to an industrial zone. The project
company is currently reviewing its options in this matter. While the steam
produced at each of the three projects is intended to be sold under long term
contracts to the industrial hosts, in practice, steam has been sold on either a
short term basis to local industries or the industrial host, in each case at
varying rates and quantities. For each of these projects, the electric power is
sold at "average grid rate" to a subsidiary of the Provincial Power Bureau as
well as industrial customers. The Company has obtained political risk insurance
for its equity investment in these projects.
22
(iv) Natural Gas
In 1998, the Company acquired an equity interest in a barge-mounted 120 MW
diesel/natural gas-fired facility located near Haripur, Republic of Bangladesh.
This project began commercial operation in June 1999, and is operated by a
subsidiary of the Company. The Company owns approximately 45% of the project
company equity. An affiliate of El Paso Energy Corporation owns 50% of such
equity, and the remaining interest is held by Wartsila North America, Inc. The
electrical output of the project is sold to the Bangladesh Power Development
Board pursuant to a PPA with minimum energy off-take provisions at a tariff
divided into a fuel component and an "other" component. The fuel component
reimburses the fuel cost incurred by the project up to a specified heat rate.
The "other" component consists of a pre-determined base rate adjusted to actual
load factor and foreign exchange fluctuations. The PPA also obligates the Board
to supply all the natural gas requirements of the project at a pre-determined
base cost adjusted to fluctuations on actual landed cost of the fuel in
Bangladesh. The Board's obligations under the agreement are guaranteed by the
Government of Bangladesh. In 1999, the project received $87 million in financing
and political risk insurance from the Overseas Private Investment Corporation.
The Company obtained separate political risk coverage for its equity interest in
this project. During 2002, the Company was unable to renew a letter of credit
related to this project in the approximate amount of $600,000, the purpose of
which was to partially backstop the project entity's obligations under the PPA.
As a result, El Paso agreed to temporarily provide this letter of credit until
the next renewal in June, 2003. In June 2003, the Company obtained a replacement
letter of credit.
The Company owns a 50% equity interest in a 15 MW natural gas-fired cogeneration
project in the province of Murcia, Spain. The Linasa project is operated by a
subsidiary of the Company. The electrical output of the Linasa project is being
sold under a long term purchase contract to the Spanish electrical utility,
Iberdrola, at governmentally-established preferential rates for cogeneration
projects (currently expected to extend until 2007) and at market rates
thereafter. The thermal output and a portion of the electrical output from the
Linasa Project are being sold to the Company's 50% partner, Industria Jabonera
LINA S.A., a soap and detergent manufacturer, under a long term energy Service
Agreement. The natural gas that fuels the project is supplied by BP Gas Espana,
S.A. under a five-year supply contract at a set discount off the Spanish
government's quarterly regulated maximum natural gas price.
(v) Heavy Fuel Oil
The Company owns interests in three heavy fuel oil fired diesel engine
facilities in The Philippines.
The Bataan Cogeneration project is a 58 MW facility that is owned and operated
by the Company and has a contract to sell its electrical output to the National
Power Corporation (with which it also has entered into a fuel management
agreement for fuel supply) and the Bataan Export Processing Zone Authority.
After this contract expires in 2004, the Company believes that the projects
revenues will not be sufficient to cover its costs. As a result, the Company
wrote off its investment in this project in 2002. The Company intends to shut
down this facility in 2004.
The Company owns a minority interest in the Island Power project, a 7 MW
facility that has a long-term power contract with the National Power
Corporation. The Company does not believe its equity interest in this project
has any value and in 1998 wrote off its investment. This project is not operated
by the Company. The Company is exploring means of divesting its interest in this
facility to the holders of the majority interest. It is uncertain at this time
whether the Company would realize any value from such a sale.
A subsidiary of Covanta owns and operates the Magellan cogeneration project
("Magellan"), a 63 MW diesel fired electric generating facility in the province
of Cavite, The Philippines. This project sells a portion of its energy and
capacity to the National Power Corporation and a portion to the Philippine
Economic Zone Authority pursuant to long term PPAs. On January 3, 2002, the
Authority, the main power off-taker for this project, served the project with
notice of termination of the PPA for alleged non-performance by the project. The
Company has sought a court injunction against termination of the PPA and to
require arbitration of the dispute which involves alleged non-reliable
operations and alleged improper substitution of National Power Corporation power
for Magellan production. On February 6, 2002, The Regional Trial Court, National
Capital Judicial Region, Branch 115, Pasay City issued a temporary restraining
order barring the Authority from terminating the PPA. On April 5, 2002 after a
series of hearings, such Court replaced such temporary restraining order with a
preliminary injunction. Such preliminary
23
injunction restrains the Authority from terminating the PPA until such time as
the merits of the case are resolved. If such case were ultimately to be decided
in favor of the Authority, the project would lose not only the PPA but also that
portion of the plant site under lease from the Authority as such lease is tied
to the PPA. Under current high fuel pricing and low tariff conditions, the
Company believes that the project revenues will be insufficient to cover both
operating costs and debt service beyond the second quarter of 2004. CPIH is
continuing to evaluate its options regarding the Magellan project including
among others restructuring the project, effecting a sale and or entering into
corporate rehabilitation. Given the uncertainties regarding Magellan, the
Company wrote-off its investment in the project in 2002.
In 1999, the Company acquired an equity interest in a 105 MW heavy fuel
oil-fired generating facility located near Samalpatti, Tamil Nadu, India. This
project achieved commercial operation during the first quarter of 2001. The
project is operated by a subsidiary of Covanta. The Company owns a 60% interest
in the project company. Shapoorji Pallonji Infrastructure Capital Co. Ltd. and
its affiliates own 29% of such equity with the remainder of 11% being held by
Wartsila India Power Investment, LLC. The electrical output of the project is
sold to the Tamil Nadu Electricity Board pursuant to a long term agreement with
full pass-through tariff at a specified heat rate, operation and maintenance
cost, and return on equity. The Board's obligations are guaranteed by the
government of the State of Tamil Nadu. Bharat Petroleum Corporation, Ltd.
supplies the oil requirements of the project through a fifteen-year fuel supply
agreement based on market prices.
In 2000, the Company acquired a controlling interest in a second project in
India, the 106 MW Madurai project located at Samayanallur in the State of Tamil
Nadu, India. The project began commercial operation in the fourth quarter of
2001. The Company owns approximately 76.6% of the project equity, and operates
the project through a subsidiary. The balance of the project ownership interest
is held by an Indian company controlled by the original project developer. The
electrical output of the project is sold to the Tamil Nadu Electricity Board
pursuant to a long term agreement with under which the project company is
reimbursed its fuel costs based upon the assumption that it operates at a
specified heat rate as well as operation and maintenance cost, and return on
equity. The Electricity Board's obligations are guaranteed by the government of
the state of Tamil Nadu. Indian Oil Corporation, Ltd. supplies the oil
requirements of the project through a fifteen-year fuel supply agreement based
on market prices.
Due to a lack of funds and generally poor financial condition, the Electricity
Board has failed to pay the full amount due under the PPAs for both the
Samalpatti and Madurai projects. To date, the Electricity Board has paid that
portion of its payment obligations (approximately 92% with respect to each of
Samalpatti, and Madurai) representing each project's operating costs, fuel costs
and debt service. The Board has indicated a desire to renegotiate tariffs for
both projects.
INTERNATIONAL PROJECT SUMMARIES.
Summary information with respect to the Company's projects(1) that are currently
operating is provided in the following table:
24
DATE OF
ACQUISITION/
NATURE OF COMMENCEMENT
LOCATION SIZE INTEREST(1) OF OPERATIONS
A. WASTE TO ENERGY
1. Trezzo (2) Italy 18MW Part Owner/Operator 2003
2. San Vittore (3) Italy 10MW Operator 2004 (est.)
-------
SUBTOTAL 28MW
B. HYDROELECTRIC
1. Rio Volcan (4) Costa Rica 17MW Part Owner/Operator 1997
2. Don Pedro(4) Costa Rica 14MW Part Owner/Operator 1996
-------
SUBTOTAL 31MW
C. COAL
1. Quezon(5) The Philippines 490MW Part Owner/Operator 2000
2. Lin'an(6) China 24MW Part Owner/Operator 1997
3. Huantai(7) China 36MW Part Owner 1997
4. Yanjiang(8) China 24MW Part Owner/Operator 1997
-------
SUBTOTAL 574MW
D. NATURAL GAS
1. Haripur(9) Bangladesh 128MW Part Owner/Operator 1999
2. Linasa(10) Spain 15MW Part Owner/Operator 2000
-------
SUBTOTAL 143MW
E. DIESEL/HEAVY FUEL OIL
1. Island Power The Philippines 7MW Part Owner 1996
Corporation(11)
2. Bataan Cogeneration The Philippines 58MW Owner/Operator 1996
3. Magellan Cogeneration The Philippines 63MW Owner/Operator 1999
25
4. Samalpatti(6) India 106MW Part Owner/Operator 2001
5. Madurai(12) India 106MW Part Owner/Operator 2001
-------
SUBTOTAL 340MW
TOTAL INTERNATIONAL MW
IN OPERATION 1116MW
NOTES
(1) The Company's ownership and/or operation interest in each facility
listed below extends at least into calendar year 2007.
(2) The Company has a 40% interest in the operator Ambiente 2000 S.r.l. ("A
2000").
(3) Operation by A2000 begins one year after the project begins commercial
operation provided certain criteria are satisfied. It is estimated that
A2000 will begin operation in the third quarter of 2004.
(4) The Company has a less than 1% interest in this project.
(5) The Company has an approximate 26% ownership interest in this project.
(6) The Company has a 60% ownership interest in this project.
(7) The Company has a 63.85% interest in this project.
(8) The Company has a 96% ownership interest in this project.
(9) The Company has an approximate 45% interest in this project. This
project is capable of operating through combustion of heavy fuel oil in
addition to natural gas.
(10) The Company has a 50% ownership interest in the project.
(11) The Company has a 19.6% ownership interest in this project.
(12) The Company has an approximate 76.6% interest in this project.
DESCRIPTION OF OTHER BUSINESS
Since the First Petition Date, the Company, with the approval of the Bankruptcy
Court, has sold or otherwise disposed of its interests in the Argentine Assets,
its interests in the Arenas and the Team, the remaining aviation fueling and
fuel facility management business related to three airports operated by the Port
Authority of New York and New Jersey, and other miscellaneous assets related to
the entertainment businesses.
MARKETS, COMPETITION AND BUSINESS CONDITIONS
(A) General Business Conditions.
The Company's business can be adversely affected by general economic conditions,
war, inflation, adverse competitive conditions, governmental restrictions and
controls, change in law, natural disasters, energy shortages, fuel cost and
availability, weather, the adverse financial condition of customers and
suppliers, various technological changes and other factors over which the
Company has no control.
26
The Company expects in the foreseeable future that competition for new projects
will be intense in all domestic markets in which the Company conducts or intends
to conduct its businesses, and its businesses will be subject to a variety of
competitive and market influences.
Once a project is financed and constructed, the Company's business can be
impacted by a variety of risk factors which can affect profitability over the
life of a project. Some of these risks are at least partially within the
Company's control, such as successful operation in compliance with law and the
presence or absence of labor difficulties or disturbances. Other risk factors
are largely out of the Company's control and may have an adverse impact on a
project over a long term operation. These risks include changes in law, severe
weather and related casualty events, and the emergence of technologies that
offer less expensive means of generating electricity or of providing water or
wastewater treatment services.
(B) Technology.
(i) Waste-to-Energy
The Company has the exclusive right to market in the United States the
proprietary mass-burn technology of Martin GmbH fur Umwelt und Energietechnik
("Martin"). All of the waste-to-energy projects that the Company has constructed
use the Martin technology, although the Company does own and/or operate some
projects using other technologies. The principal feature of the Martin
technology is the reverse-reciprocating stoker grate upon which the waste is
burned. The patent for the basic stoker grate technology used in the Martin
technology expired in 1989, and there are various other expired and unexpired
patents relating to the Martin technology. The Company believes that it is
Martin's know-how and worldwide reputation in the waste-to-energy field, and the
Company's know-how in designing, constructing and operating waste-to-energy
facilities, rather than the use of patented technology, that is important to the
Company's competitive position in the waste-to-energy industry in the United
States. The Company does not believe that the expiration of the patent covering
the basic stoker grate technology or patents on other portions of the Martin
technology will have a material adverse effect on the Company's financial
condition or competitive position.
The Company believes that mass-burn technology is now the predominant technology
used for the combustion of solid waste. The Company believes that the Martin
technology is a proven and reliable mass-burn technology, and that its
association with Martin has created significant name recognition and value for
the Company's domestic waste-to-energy business.
The Company's rights to the Martin technology are provided pursuant to a
cooperation agreement between Martin and the Company. The cooperation agreement
gives the Company exclusive rights to market, and distribute parts and equipment
for, the Martin technology in the United States, Canada, Mexico, Bermuda, and
certain Caribbean countries. Martin is obligated to assist the Company in
installing, operating and maintaining facilities incorporating the Martin
technology. The 10-year term of the cooperation agreement renews automatically
each year unless notice of termination is given, in which case the cooperation
agreement would terminate 10 years after such notice. Termination would not
affect the rights of the Company to design, construct, operate, maintain or
repair waste-to-energy facilities for which contracts have been entered into or
proposals made prior to the date of termination.
(ii) Water and Wastewater
During 1999, the Company purchased a controlling interest in DSS Environmental,
Inc., which owns the patent for the DualSand(TM) filtration technology. The
Company believes that this technology offers superior performance at a
competitive cost, and that it will have wide application for both water and
wastewater projects.
EMPLOYEE LABOR RELATIONS
As of December 31, 2003, the Company employed approximately 2,400 full-time
employees worldwide, of which approximately 2,000 were employed in the United
States. During 2003, the Company effected a reduction in workforce affecting
approximately 100 employees in connection with the sale of the Geothermal
Business, its sale of various non-core assets, as well as the Company's decision
in September 2002, within its core energy business, to
27
reduce the number of non-plant personnel and close satellite development offices
in order to enhance its value. As part of this reduction in force,
waste-to-energy, water and domestic independent power project headquarters
management were combined and numerous other structural changes were instituted
to improve management efficiency.
Of the Company's employees in the United States, approximately 20% are
unionized. Currently, the Company is a party to eight (8) collective bargaining
agreements: three (3) of these agreements are scheduled to expire in 2004, one
(1) in 2005 and one (1) in 2006. With respect to the remaining three (3)
agreements, each of which has recently expired, the Company is currently in
negotiations with the applicable collective bargaining representatives and the
Company currently expects to reach agreement with each such representative to
extend each such agreement on its current or similar terms.
Covanta considers relations with its employees to be good and does not
anticipate any material labor disputes in 2004.
ENVIRONMENTAL REGULATORY LAWS
(a) Domestic.
The Company's business activities in the United States are pervasively regulated
pursuant to federal, state and local environmental laws. Federal laws, such as
the Clean Air Act and Clean Water Act, and their state counterparts, govern
discharges of pollutants to air and water. Other federal, state and local laws
comprehensively govern the generation, transportation, storage, treatment and
disposal of solid and hazardous waste, and also regulate the storage and
handling of chemicals and petroleum products (such laws and the regulations
thereunder, "Environmental Regulatory Laws").
Other federal, state and local laws, such as the Comprehensive Environmental
Response Compensation and Liability Act ("CERCLA") (collectively, "Environmental
Remediation Laws") make the Company potentially liable on a joint and several
basis for any onsite or offsite environmental contamination which may be
associated with the Company's activities and the activities at sites, including
but not limited to landfills that the Company's subsidiaries have owned,
operated or leased or at which there has been disposal of residue or other waste
generated, handled or processed by such subsidiaries. Some state and local laws
also impose liabilities for injury to persons or property caused by site
contamination. Some Service Agreements provide for indemnification of the
operating subsidiaries from some such liabilities. In addition, other
subsidiaries involved in landfill gas projects have access rights to landfill
sites pursuant to certain leases that permit the installation, operation and
maintenance of landfill gas collection systems. A portion of these landfill
sites is and has been a federally-designated "Superfund" site. Each of these
leases provide for indemnification of the Company subsidiary from some
liabilities associated with these sites.
The Environmental Regulatory Laws require that many permits be obtained before
the commencement of construction and operation of any waste-to-energy,
independent power project or water facility, and further require that permits be
maintained throughout the operating life of the facility. There can be no
assurance that all required permits will be issued or re-issued, and the process
of obtaining such permits can often cause lengthy delays, including delays
caused by third-party appeals challenging permit issuance. Failure to meet
conditions of these permits or of the Environmental Regulatory Laws and the
corresponding regulations can subject an operating subsidiary to regulatory
enforcement actions by the appropriate governmental unit, which could include
fines, penalties, damages or other sanctions, such as orders requiring certain
remedial actions or limiting or prohibiting operation. To date, the Company has
not incurred material penalties, been required to incur material capital costs
or additional expenses, nor been subjected to material restrictions on its
operations as a result of violations of Environmental Regulatory Laws or permit
requirements.
Although the Company's operations are occasionally subject to proceedings and
orders pertaining to emissions into the environment and other environmental
violations, which may result in fines, penalties, damages or other sanctions,
the Company believes that it is in substantial compliance with existing
environmental laws and regulations. The Company may be identified, along with
other entities, as being among parties potentially responsible for contribution
to costs associated with the correction and remediation of environmental
conditions at disposal sites subject to CERCLA and/or analogous state laws. In
certain instances the Company may be exposed to
28
joint and several liability for remedial action or damages. The Company's
ultimate liability in connection with such environmental claims will depend on
many factors, including its volumetric share of waste, the total cost of
remediation, the financial viability of other companies that also sent waste to
a given site and, in the case of divested operations, its contractual
arrangement with the purchaser of such operations.
The Environmental Regulatory Laws are subject to revision. New technology may be
required or stricter standards may be established for the control of discharges
of air or water pollutants for storage and handling of petroleum products or
chemicals or for solid or hazardous waste or ash handling and disposal. Thus, as
new technology is developed and proven, it may be required to be incorporated
into new facilities or major modifications to existing facilities. This new
technology may often be more expensive than that used previously.
The Environmental Remediation Laws prohibit disposal of regulated hazardous
waste at the Company's municipal solid waste facilities. The Service Agreements
recognize the potential for improper deliveries of hazardous wastes and specify
procedures for dealing with hazardous waste that is delivered to a facility.
Although certain Service Agreements require the Company's subsidiary to be
responsible for some costs related to hazardous waste deliveries, to date no
operating subsidiary has incurred material hazardous waste disposal costs.
Domestic drinking water facilities are subject to regulation of water quality by
state and federal agencies under the federal Safe Drinking Water Act and by
similar state laws. Domestic wastewater facilities are subject to regulation
under the federal Clean Water Act and by similar state laws. These laws provide
for the establishment of uniform minimum national water quality standards, as
well as governmental authority to specify the type of treatment processes to be
used for public drinking water. Under the federal Clean Water Act, the Company
may be required to obtain and comply with National Pollutant Discharge
Elimination System permits for discharges from its treatment stations.
Generally, under its current contracts, the Client Community is responsible for
fines and penalties resulting from the delivery to the Company's treatment
facilities of water not meeting standards set forth in those contracts.
(b) International.
The Company aims to provide energy generating and other infrastructure through
environmentally protective project designs, regardless of the location of a
particular project. This approach is consistent with the increasingly stringent
environmental requirements of multilateral financing institutions, such as the
World Bank, and also with the Company's experience in domestic waste-to-energy
projects, where environmentally protective facility design and performance is
required. Compliance with environmental standards comparable to those of the
United States may be conditions to the provision of credit by multilateral
banking agencies as well as other lenders or credit providers. The laws of other
countries also may require regulation of emissions into the environment, and
provide governmental entities with the authority to impose sanctions for
violations, although these requirements are generally not as rigorous as those
applicable in the United States. As with domestic project development, there can
be no assurance that all required permits will be issued, and the process can
often cause lengthy delays.
ENERGY AND WATER REGULATIONS
The Company's businesses are subject to the provisions of federal, state and
local energy laws applicable to the development, ownership and operation of
their domestic facilities and to similar laws applicable to their foreign
operations. Federal laws and regulations applicable to many of the Company's
domestic energy businesses impose limitations on the types of fuel used,
prescribe the degree to which these businesses are subject to federal and state
utility-type regulation and restrict the extent to which these businesses may be
owned by one or more electric utilities. State regulatory regimes govern rate
approval and the other terms and conditions pursuant to which utilities purchase
electricity from independent power producers, except to the extent such
regulation is governed by federal law.
Pursuant to the federal Public Utility Regulatory Policies Act ("PURPA"), the
Federal Energy Regulatory Commission (the "FERC") has promulgated regulations
that exempt qualifying facilities ("QFs") (facilities meeting certain size, fuel
and ownership requirements) from compliance with certain provisions of the
Federal Power Act (the "FPA"), the Public Utility Holding Company Act of 1935
("PUHCA"), and certain state laws regulating the rates charged by, or the
financial and organizational activities of, electric utilities. PURPA was
enacted in 1978 to
29
encourage the development of cogeneration facilities and other facilities making
use of non-fossil fuel power sources, including waste-to-energy facilities. The
exemptions afforded by PURPA to QFs from regulation under the FPA and PUHCA and
most aspects of state electric utility regulation are of great importance to the
Company and its competitors in the waste-to-energy and independent power
industries.
Except with respect to waste-to-energy facilities with a net power production
capacity in excess of 30 MW (where rates are set by the FERC), state public
utility commissions must approve the rates, and in some instances other contract
terms, by which public utilities purchase electric power from QFs. PURPA
requires that electric utilities purchase electric energy produced by QFs at
negotiated rates or at a price equal to the incremental or "avoided" cost that
would have been incurred by the utility if it were to generate the power itself
or purchase it from another source. PURPA does not expressly require public
utilities to enter into long term contracts to purchase the output supplied by
QFs. Many state public utility commissions have approved longer-term PPAs as
part of their implementation of PURPA.
Under PUHCA, any entity owning or controlling 10% or more of the voting
securities of a "public utility company" or company which is a "holding company"
of a public utility company is subject to registration with the SEC and
regulation by the SEC unless exempt from registration. Under PURPA, most
projects that satisfy the definition of a "qualifying facility" are exempt from
regulation under PUHCA. Under the Energy Policy Act of 1992, projects that are
not QFs under PURPA but satisfy the definition of an "exempt wholesale
generator" are not deemed to be public utility companies under PUHCA. Finally,
projects that satisfy the definition of "foreign utility companies" are exempt
from regulation under PUHCA. The Company believes that all of its operating
projects involved in the generation, transmission and/or distribution of
electricity, both domestically and internationally, qualify for an exemption
from PUHCA and that it is not and will not be required to register with the SEC
under PUHCA.
Congress continues to consider the enactment of comprehensive energy
legislation, including the Energy Policy Act of 2003 which was passed by the
House of Representatives but failed to be voted on by the Senate last year, that
would include provisions to prospectively eliminate the mandatory purchase and
sale obligation of PURPA under certain circumstances and to repeal PUHCA. Repeal
of PUHCA would allow both independent power producers and vertically integrated
utilities to acquire electric assets throughout the United States that are
geographically widespread, eliminating the current requirement that the
utility's electric assets be capable of physical integration. Also, registered
holding companies would be free to acquire non-utility businesses, which they
may not do now, with certain limited exceptions. With the repeal of PURPA or
PUHCA, competition for independent power generators from utilities would likely
increase. This is likely to have little or no impact on the Company's existing
projects, but may mean additional competition from highly capitalized companies
seeking to develop projects in the United States.
In addition, the FERC, many state public utility commissions and Congress have
implemented or are considering a series of proposals to restructure the electric
utility industry in the United States to permit utility customers to choose
their utility supplier in a competitive electric energy market. The FERC has
issued a series of orders requiring utilities to offer wholesale customers and
suppliers open access on their transmission lines on a comparable basis to the
utilities' own use of the line. All public utilities have already filed "open
access" tariffs to implement this requirement. Future U.S. electric rates may be
deregulated in a restructured U.S. electric utility industry and increased
competition may result in lower rates and less profit for U.S. electricity
sellers developing new projects. Falling electricity prices and uncertainty as
to the future structure of the industry can be expected to inhibit U.S.
utilities from entering into long term power purchase contracts. On the other
hand, deregulation could open up markets for the sale of electricity, including
retail markets, previously available only to regulated utilities. While the
impact of the problems California experienced in 2001 and 2002 cannot be
predicted, it has led some states and their public service commissions to
re-examine the timing, nature and desirability of electric utility
restructuring.
The Company presently has ownership and operating interests in electric
generating projects outside the United States. Most countries have expansive
systems for the regulation of the power business. These generally include
provisions relating to ownership, licensing, rate setting and financing of
generating and transmission facilities.
Covanta's water and wastewater business may be subject to the provisions of
state and local utility laws applicable to the development, ownership and
operation of water supply and wastewater facilities. Whether such laws apply
30
depends upon the local regulatory scheme as well as the manner in which the
Company provides its services. Where such regulations apply, they may relate to
rates charged, services provided, accounting procedures, acquisitions and other
matters. In the United States, rate regulations have typically been structured
to provide a predetermined return on the regulated entities' investments. The
regulated entity benefits from efficiencies achieved during the period for which
the rate is set.
AVAILABLE INFORMATION
The Company files annual reports, quarterly reports, current reports and other
information with the Securities and Exchange Commission. Copies of such
materials can be read and copied from the Public Reference Room of the
Securities and Exchange Commission at 450 Fifth Street, N.W., Washington, D.C.
20549. You may obtain information on the operation of the Public Reference Room
by calling the Securities and Exchange Commission at 1-800-SEC-0330. You can
access our filings electronically by visiting the Securities and Exchange
Commission's website at http://www.sec.gov. Filings are also available on
Company's website at www.covantaenergy.com or free of charge by writing to Lou
Walters at 40 Lane Road, Fairfield, N.J. 07004.
ITEM 2. PROPERTIES
During 2000, Covanta moved its executive offices from New York City to
Fairfield, New Jersey. The Company's executive offices are now located at 40
Lane Road, Fairfield, New Jersey, in an office building located on a 5.4 acre
site owned by a subsidiary. In 2004, the Company will close its office in
Fairfax, Virginia and City of Industry California.
The following table summarizes certain information relating to the locations of
the properties owned or leased by Covanta Energy Group, Inc. or its
subsidiaries:
APPROXIMATE SITE
SIZE
(IN ACRES, EXCEPT
AS OTHERWISE NATURE OF
LOCATION NOTED) SITE USE (1) INTEREST (2)
- --------------------------------------------------------------------------------------------------------------------
1. Fairfield, New Jersey 5.4 Office space Own
2. Fairfax, Virginia 4800 sq ft. Office space Lease
3. Redding, California 3600 sq. ft. Office space Lease
4. City of Industry, California 953 sq. ft. Office space Lease
5. Marion County, Oregon 15.2 Waste-to-energy facility Own
6. Alexandria/Arlington, Virginia 3.3 Waste-to-energy facility Lease
7. Bristol, Connecticut 18.2 Waste-to-energy facility Own
8. Indianapolis, Indiana 23.5 Waste-to-energy facility Lease
9. Stanislaus County, California 16.5 Waste-to-energy facility Lease
10. Babylon, New York 9.5 Waste-to-energy facility Lease
11. Haverhill, Massachusetts 12.7 Waste-to-energy facility Lease
31
APPROXIMATE SITE
SIZE
(IN ACRES, EXCEPT
AS OTHERWISE NATURE OF
LOCATION NOTED) SITE USE (1) INTEREST (2)
- ------------------------------------------------------------------------------------------------------------
12. Haverhill, Massachusetts 16.8 Landfill Expansion Lease
13. Haverhill, Massachusetts 20.2 Landfill Lease
14. Lawrence, Massachusetts 11.8 RDF power plant (closed) Own
15. Lake County, Florida 15 Waste-to-energy facility Own
16. Wallingford, Connecticut 10.3 Waste-to-energy facility Lease
17. Fairfax County, Virginia 22.9 Waste-to-energy facility Lease
18. Union County, New Jersey 20 Waste-to-energy facility Lease
19. Huntington, New York 13 Waste-to-energy facility Lease
20. Warren County, New Jersey 19.8 Waste-to-energy facility Lease
21. Hennepin County, Minnesota 14.6 Waste-to-energy facility Lease
22. Onondaga County, New York 12 Waste-to-energy facility Lease
23. Bataan, The Philippines 3,049 sq. m. Diesel power plant Lease
24. Zhejiang Province, 33,303 sq. m. Coal-fired Land Use Right
cogeneration facility reverts to China
Joint Venture
People's Republic of China Partner upon
termination of
Joint Venture
Agreement
25. Shandong Province, 33,303 sq. m. Coal-fired Land Use Right
cogeneration facility reverts to China
Joint Venture
People's Republic of China Partner upon
termination of
Joint Venture
Agreement
26. Jiangsu Province, 65,043.33 sq. m. Coal-fired co-generation Land Use Right
facility reverts to China
Joint Venture
People's Republic of China Partner upon
termination of
Joint Venture
Agreement
32
APPROXIMATE SITE
SIZE
(IN ACRES, EXCEPT
AS OTHERWISE NATURE OF
LOCATION NOTED) SITE USE (1) INTEREST (2)
- ------------------------------------------------------------------------------------------------------------
27. Rockville, Maryland N/A Landfill gas project Lease
28. San Diego, California N/A Landfill gas project Lease
29. Oxnard, California N/A Landfill gas project Lease
30. Sun Valley, California N/A Landfill gas project Lease
31. Salinas, California N/A Landfill gas project Lease
32. Santa Clara, California N/A Landfill gas project Lease
33. Stockton, California N/A Landfill gas project Lease
34. Los Angeles, California N/A Landfill gas project Lease
35. Burney, California 40 Wood waste project Lease
36. Jamestown, California 26 Wood waste project Own (50%)
37. Westwood, California 60 Wood waste project Own
38. Oroville, California 43 Wood waste project Own
39. Whatcom County, Washington N/A Hydroelectric project Own (50%)
40. Weeks Falls, Washington N/A Hydroelectric project Lease
41. Cavite, The Philippines 13,122 sq. m. Heavy fuel oil project Lease
42. Cavite, The Philippines 10,200 sq. m. Heavy fuel oil project Lease
43. Manila, The Philippines 468 sq. m. Office space Lease
44. Bangkok, Thailand 675.63 sq. m. Office space Lease
45. Chennai, India 1797 sq. ft. Office space Lease
46. Samalpatti, India 2,546 sq. ft. Office space Lease
47. Samayanallur, India 1,300 sq. ft. Office space Lease
48. Samayanallur, India 17.09 Heavy fuel oil project Lease
49. Samayanallur, India 2.3153 Heavy fuel oil project Lease
50. Samalpatti, India 30.3 Heavy fuel oil project Lease
33
APPROXIMATE SITE
SIZE
(IN ACRES, EXCEPT
AS OTHERWISE NATURE OF
LOCATION NOTED) SITE USE (1) INTEREST (2)
- ------------------------------------------------------------------------------------------------------------
51. Shanghai, China 144.7 sq. m. Office space Lease
52. Imperial County, California 83 Undeveloped Desert Land Own
- ----------------------
(1) All ownership or leasehold interests relating to projects are subject
to material liens in connection with the financing of the related
project, except those listed above under item 11, 23-25, 27-34. In
addition, all leasehold interests existed at least as long as the term
of applicable project contracts, and several of the leasehold interests
are subject to renewal and/or purchase options.
ITEM 3. LEGAL PROCEEDINGS
On the First Petition Date, Covanta and 123 of its domestic subsidiaries filed
voluntary petitions for relief under Chapter 11 of the Bankruptcy Code in the
Bankruptcy Court. Since the First Petition Date, 32 additional subsidiaries
filed their petitions for relief under Chapter 11 of the Bankruptcy Code. In
addition, eight subsidiaries that had filed petitions on the First Petition Date
have been sold as part of the Company's disposition of non-core assets, and are
no longer owned by the Company or part of the bankruptcy proceeding. The Chapter
11 Cases were jointly administered for procedural purposes only during which the
Company operated its business as debtors in possession pursuant to the
Bankruptcy Code. Except for the Remaining Debtors which remain in bankruptcy and
those subsidiaries that are being liquidated under the Reorganization Plan, the
Company emerged from Chapter 11 on March 10, 2004 upon consummation of the DHC
Transaction, as further described in Item 1.
The Company is party to a number of other claims, lawsuits and pending actions,
most of which are routine and all of which are incidental to its business. The
Company assesses the likelihood of potential losses on an ongoing basis and when
losses are considered probable and reasonably estimable, records as a loss an
estimate of the ultimate outcome. If the Company can only estimate the range of
a possible loss, an amount representing the low end of the range of possible
outcomes is recorded. The final consequences of these proceedings are not
presently determinable with certainty. Generally claims and lawsuits against
each Debtor emerging from bankruptcy upon consummation of the DHC Transaction
arising from events occurring prior to its respective Petition Date will be
resolved pursuant to the Reorganization Plan. However, to the extent that claims
are not dischargeable in bankruptcy, claims arising from events prior to the
Petition Date may not be so resolved. For example, persons who were personally
injured prior to the Petition Date but whose injury only became manifest
thereafter will not be resolved pursuant to the Reorganization Plan.
Environmental Matters
The Company's operations are subject to the Environmental Regulatory Laws and
the Environmental Remediation Laws. Although the Company's operations are
occasionally subject to proceedings and orders pertaining to emissions into the
environment and other environmental violations, which may result in fines,
penalties, damages or other sanctions, the Company believes that it is in
substantial compliance with existing environmental laws and regulations.
The Company may be identified, along with other entities, as being among parties
potentially responsible for contribution to costs associated with the correction
and remediation of environmental conditions at disposal sites subject to CERCLA
and/or analogous state laws. In certain instances, the Company may be exposed to
joint and several liability for remedial action or damages. The Company's
ultimate liability in connection with such environmental claims will depend on
many factors, including its volumetric share of waste, the total cost of
remediation, the financial viability of other companies that also sent waste to
a given site and, in the case of divested
34
operations, its contractual arrangement with the purchaser of such operations.
Generally such claims arising prior to the Petition Date will be resolved in and
discharged by the Chapter 11 Cases.
On December 31, 2002, the Company divested its remaining aviation assets,
consisting of fueling operations at three airports. Ogden New York Services,
Inc., a subsidiary of Covanta, retained certain environmental liabilities
relating to the John F. Kennedy International Airport, as described below. In
addition, the Company agreed to indemnify the buyer for various other
liabilities, including certain environmental matters; however, the buyer's sole
recourse is an offset right against payments it owes the Company under a $2.6
million promissory note delivered as part of the consideration for this sale.
Because this indemnity arose after the Petition Date, it is not affected by the
Debtors' discharge in bankruptcy.
Prior to the First Petition Date, the Company agreed to indemnify various other
transferees of its divested airport operations with respect to certain known and
potential liabilities that may arise out of such operations and in certain
instances has agreed to remain liable for certain potential liabilities that
were not assumed by the transferee. To date, such indemnification has been
sought with respect to alleged environmental damages at the Miami Dade
International Airport, as described below. Because the Company did not provide
fueling services at that airport, it does not believe it will have significant
obligations with respect to this matter. The Company believes that these
indemnities are pre-petition unsecured liabilities of a liquidating Debtor
treated under the Liquidation Plan, and that therefore the Company would have no
further financial responsibility regarding these matters.
The Martin County Coal Corporation and others have as third party plaintiffs
joined Ogden Environmental and Energy Services Co., Inc. ("Ogden
Environmental"), a liquidating Debtor subsidiary of the Company, as a third
party defendant to several pending litigations in the Circuit Court in Martin
County, Kentucky arising from an October 2000 failure of a mine waste
impoundment that resulted in the release of approximately 250 million gallons of
coal slurry. The third party plaintiffs allege that Ogden Environmental is
liable in an unspecified amount for contribution and/or indemnification arising
from an independent contractor agreement to perform engineering and
technological services with respect to the impoundment from 1994 to 1996. Prior
to being joined, Ogden Environmental had not been a party to the underlying
litigation, some of which had been pending for two years. Plaintiffs in the
underlying action, have also indicated that they will seek to join Ogden
Environmental to the litigation. On April 30, 2003, the Bankruptcy Court entered
an agreed-upon order by which Third Party Plaintiffs may liquidate their claims
(if any) against Ogden Environmental, but may not recover or execute judgment
against Ogden Environmental. To date, First Party Plaintiffs have not sought
similar relief from the Bankruptcy Court and thus the automatic stay continues
to bar joinder of Ogden Environmental as a direct defendant. Because the
Reorganization Plan does not contemplate that creditors of liquidated entities
will receive any distribution and the Company should have no further financial
responsibility regarding these matters, Ogden Environmental has informed counsel
to the other parties to these actions that Ogden Environmental does not intend
to participate in the litigation or otherwise defend against the claims against
it. Because the extent to which Ogden Environmental is responsible for the
impoundment failure will be a determinate of the amount that other defendants
are ultimately responsible for damages due to injured parties, Ogden
Environmental's liability is likely to be contested by the other parties to the
case, regardless of Ogden Environmental's non-participation.
On September 15, 2003, the Environmental Protection Agency (the "EPA") issued a
"General Notice Letter" identifying Covanta as among 41 potentially responsible
parties ("PRPs") with respect to the Diamond Alkali Superfund Site/"Lower
Passaic River Project." The EPA alleges that the PRPs are liable for releases or
potential releases of hazardous substances to a 17 mile segment of the Passaic
River, located in northern New Jersey, and requests the PRPs' participation as
"cooperating parties" with respect to the funding of a five to seven year study
to determine an environmental remedial and restoration program. The EPA
currently estimates the cost of this study at $20 million. The study also will
be used in determining the PRPs' respective shares of liability for costs
associated with implementation of the selected cleanup program, as well as
potential damages for injury to, destruction of, or loss of natural resources.
As a result of uncertainties regarding the source and scope of contamination,
the number of PRPs that ultimately may be named in this matter, and the varying
degrees of responsibility among classes of PRPs, the Company's share of
liability, if any, cannot be determined at this time. Covanta was a Debtor and
consequently its liability, if any, should be discharged in accordance with the
Chapter 11 process. On March 5, 2004, one PRP filed a motion in the Bankruptcy
Court for leave to file a late proof of claim; no other proofs of claim have
been filed relating to this matter. The allegations as to Covanta relate to
discontinued, non-energy operations.
35
In 1985, Covanta sold its interests in several manufacturing subsidiaries, some
of which allegedly used asbestos in their manufacturing processes, and one of
which was Avondale Shipyards, now a subsidiary of Northrop Grumman Corporation.
Some of these former subsidiaries have been and continue to be parties to
asbestos-related litigation. In 2001, Covanta was named a party, with 45 other
defendants, to one such case. Before the First Petition Date, Covanta had
filed for its dismissal from the case. Also, eleven proofs of claim seeking
unliquidated amounts have been filed against Covanta in the Chapter 11 Cases
based on what appears to be purported asbestos-related injuries that may relate
to the operations of former Covanta subsidiaries. Covanta believes that these
claims lack merit and has filed objections to them, and plans to object
vigorously to such claims if necessary to resolve them.
The potential costs related to all of the following matters and the possible
impact on future operations are uncertain due in part to the complexity of
governmental laws and regulations and their interpretations, the varying costs
and effectiveness of cleanup technologies, the uncertain level of insurance or
other types of recovery and the questionable level of the Company's
responsibility. Although the ultimate outcome and expense of any litigation,
including environmental remediation, is uncertain, the Company believes that the
following proceedings will not have a material adverse effect on the Company's
consolidated financial position or results of operations.
1. On June 8, 2001, the EPA named the Company's wholly-owned
subsidiary, Ogden Martin Systems of Haverhill, Inc., now known
as Covanta Haverhill, Inc., as one of 2,000 PRPs at the Beede
Waste Oil Superfund Site, Plaistow, New Hampshire in
connection with alleged waste disposal by PRPs on this site.
On January 9, 2004, the EPA signed its Record of Decision with
respect to the cleanup of the site. According to the EPA, the
costs of response actions incurred as of January 2004 by the
EPA and the State of New Hampshire total approximately $19
million, and the estimated cost to implement the remedial
alternative selected in the Record of Decision is an
additional $48 million. Covanta Haverhill, Inc. is
participating in PRP group discussions towards settlement of
the EPA's claims and will continue to seek a negotiated
resolution of this matter. Although Covanta Haverhill, Inc.'s
share of liability, if any, cannot be determined at this time
as a result of uncertainties regarding the source and scope of
contamination, the large number of PRPs and the varying
degrees of responsibility among various classes of PRPs, the
Company believes that based on the amount of materials Covanta
Haverhill, Inc. sent to the site, any liability will not be
material. Covanta Haverhill, Inc. was not a Debtor.
2. On April 9, 2001, Ogden Ground Services, Inc. and Ogden
Aviation, Inc., together with approximately 250 other parties,
were named by Metropolitan Dade County, Florida as PRPs,
pursuant to the Environmental Remediation Laws, with respect
to an environmental cleanup at the Miami Dade International
Airport. Dade County alleges that it has expended over $200
million in response and investigation costs and expects to
spend an additional $250 million to complete necessary
response actions. The lawsuit is currently subject to a
tolling agreement between PRPs and Dade County. The Company's
liability, if any, arose from its pre-petition unsecured
obligation to indemnify the transferee of Ogden Ground
Services, which obligation has been extinguished by means of
the mutual settlement, waiver and release agreement between
Covanta and the transferee approved by the Bankruptcy Court on
December 23, 2003. Ogden Aviation, Inc. is a liquidating
Debtor and the above matter is expected to have no impact on
the Company.
3. On May 25, 2000 the California Regional Water Quality Control
Board, Central Valley Region, issued a cleanup and abatement
order to Pacific-Ultrapower Chinese Station, a general
partnership in which one of Covanta's subsidiaries owns 50%
and which owns and operates an independent power project in
Jamestown, California which uses waste wood as a fuel. The
order is in connection with the partnership's neighboring
property owner's use of ash generated by Chinese Station's
plant. Chinese Station completed the cleanup in mid-2001 and
submitted its Clean Closure Report to the Water Quality
Control Board on November 2, 2001. The Board and other state
agencies continue to investigate alleged civil and criminal
violations associated with the management of the material. The
partnership believes it has valid defenses, and a petition for
review of the order is pending. Settlement discussions in this
matter are underway. Based on penalties proposed by the Board,
the Company believes that this matter can be resolved in
amounts that will not be material to the Company taken as a
whole. Chinese Station and Covanta's subsidiary that owns a
partnership interest in Chinese station were not Debtors.
4. On January 4, 2000 and January 21, 2000, United Air Lines,
Inc. and American Airlines, Inc., respectively, named Ogden
New York Services, Inc., in two separate lawsuits
(collectively, the "Airlines Lawsuits")
36
filed in the Supreme Court of the State of New York, which
have been consolidated for joint trial. The lawsuits seek a
judgment declaring that Ogden New York Services is responsible
for petroleum contamination at airport terminals formerly or
currently leased by United and American at John F. Kennedy
International Airport in New York City. United seeks
approximately $1.9 million in remediation costs and legal
expenses, as well as certain declaratory relief, against Ogden
New York Services and four airlines, including American
Airlines. American seeks approximately $74.5 million in
remediation costs and legal fees from Ogden New York Services
and United Air Lines. Ogden New York Services has filed
counter-claims and cross-claims against United and American
for contribution. American filed a proof of claim against
Ogden New York Services in the Chapter 11 Case, alleging an
unsecured claim of approximately $74 million. Ogden New York
Services disputes the allegations and believes that the
damages sought are overstated in view of the airlines'
responsibility for the alleged contamination and that Ogden
New York Services has defenses under its respective leases and
its permits with the Port Authority of New York and New Jersey
which operates the airport. This litigation was stayed as to
Ogden New York as a result of the Chapter 11 Cases. Ogden New
York Services believes that the claims asserted by United and
American are prepetition unsecured obligations of Ogden New
York (a liquidating Debtor) under the Liquidation Plan, and
that therefore the Company should have no further financial
responsibility regarding those matters beyond the assets of
Ogden New York Services, which may include its rights as an
insured under the Company. In connection with this litigation,
prior to the Petition Date, Ogden New York Services commenced
an action against Zurich Insurance Company. This litigation
sought, among other things, a declaratory judgment that Zurich
was obligated to defend and indemnify Ogden New York Services
in the litigation under certain environmental impairment
liability policies. In April 2003, in order to avoid the
uncertainty and continued costs of the litigation, Ogden New
York Services and Zurich reached a settlement whereby Zurich
agreed to pay to Ogden New York $1.8 million for environmental
impairments allegedly resulting from the Ogden New York's
fueling operations at JFK Airport. American Airlines maintains
it is entitled to a portion of the insurance proceeds and in
connection with obtaining Bankruptcy Court approval of the
settlement with Zurich, American and Ogden New York Services
agreed that the Bankruptcy Court's approval would provide that
(i) Ogden New York Services preserved its rights to argue that
American was not entitled to any amount of the settlement
proceeds, (ii) American preserved its rights to assert a claim
for the amount received by Ogden New York Services in the
settlement, and (iii) Ogden New York Services agreed not to
distribute this amount to any other party interest on account
of any purported interests in such proceeds without prior
Bankruptcy Court order and without prior notice to American's
counsel. Although American has asserted its rights to the
settlement proceeds in its objections to the settlement with
Zurich, it has not to date filed an adversary proceeding in
Ogden New York Services' bankruptcy case or taken any other
action seeking a determination of its rights to the settlement
proceeds. Under the Reorganization Plan, the settlement
proceeds, as will be transferred to the Company and will not
be available for distribution to any of Ogden New York's
unsecured creditors, including American. The Company and
American Airlines have reached a tentative agreement pursuant
to which the Company would pay American Airlines $500,000 with
respect to the Company's recovery from Zurich, American
Airlines would be allowed a $15 million claim against Ogden
New York Services, Inc, a liquidating Debtor, and American
Airlines would be assigned the Company's rights against its
insurers with respect to American Airlines' claims. The
settlement is subject to definitive documentation and
Bankruptcy Court approval.
5. On December 23, 1999, an aviation subsidiary of Covanta was
named as a third-party defendant in an action filed in the
Superior Court of the State of New Jersey alleging that the
aviation subsidiary generated hazardous substances at a
reclamation facility known as the Swope Oil and Chemical
Company Site. Third-party plaintiffs seek contribution and
indemnification from the aviation subsidiary and over 90 other
third parties, as PRPs, for costs incurred and to be incurred
in the cleanup. This action was stayed pending the outcome of
first- and second-party claims. The aviation subsidiary's
share of liability, if any, cannot be determined at this time
because of uncertainties regarding the source and scope of
contamination, the large number of PRPs and the varying
degrees of responsibility among various classes of PRPs. The
aviation subsidiary is a liquidating Debtor and this matter is
expected to have no impact on the Company.
37
Other Matters
1. As discussed in "Developments in Project Restructurings",
prior to the Petition Date, Covanta Onondaga commenced
litigation challenging an effort by OCRRA to terminate its
service agreement with Covanta Onondaga. All of this
litigation, including the above mentioned appeals, has been
resolved pursuant to the settlement between OCRRA and the
Debtors, and is in the process of being dismissed following
the effective date of the Reorganization Plan.
2. As discussed above in "Developments in Project
Restructurings", the Town of Babylon, New York filed a proof
of claim against Covanta Babylon for approximately $13.4
million in pre-petition damages and $5.5 million in
post-petition damages, alleging that Covanta Babylon has
accepted less waste than required under the service agreement
between the Babylon and Covanta Babylon at the waste to energy
facility in Babylon. The Company and the Town have reached a
settlement of their disputes and associated litigation in
Bankruptcy Court has been dismissed. See Item 1.
3. In late 2000, Lake County, Florida commenced a lawsuit in
Florida state court against Covanta Lake, Inc. which also
refers to its merged successor, as defined below) relating to
the waste-to-energy facility operated by Covanta in Lake
County, Florida (the "Lake Facility"). In the lawsuit, Lake
County sought to have its Service Agreement with Covanta Lake
declared void and in violation of the Florida Constitution.
That lawsuit was stayed by the commencement of the Chapter 11
Cases. Lake County subsequently filed a proof of claim seeking
in excess of $70 million from Covanta Lake and Covanta.
On June, 20, 2003, Covanta Lake filed a motion with the
Bankruptcy Court seeking entry of an order (i) authorizing
Covanta Lake to assume, effective upon confirmation of a plan
of reorganization for Covanta Lake, its Service Agreement with
Lake County, (ii) finding no cure amounts due under the
Service Agreement, and (iii) seeking a declaration that the
Service Agreement is valid, enforceable and constitutional,
and remains in full force and effect. Contemporaneously with
the filing of the assumption motion, Covanta Lake filed an
adversary complaint asserting that Lake County is in arrears
to Covanta Lake in the amount of more than $8.5 million.
Shortly before trial commenced in these matters, the Company
and Lake County reached a tentative settlement calling for a
new agreement specifying the parties' obligations and
restructuring of the project. That tentative settlement and
the proposed restructuring will involve, among other things,
termination of the existing Service Agreement and the
execution of a new waste disposal agreement which shall
provide for a put-or-pay obligation on Lake County's part to
deliver 163,000 tons per year of acceptable waste to the Lake
Facility and a different fee structure; a replacement
guarantee from Covanta in a reduced amount; the payment by
Lake County of all amounts due as "pass through" costs with
respect to Covanta Lake's payment of property taxes; the
payment by Lake County of a specified amount in each of 2004,
2005 and 2006 in reimbursement of certain capital costs; the
settlement of all pending litigation; and a refinancing of the
existing bonds.
The Lake settlement is contingent upon, among other things,
receipt of all necessary approvals, as well as a favorable
outcome to the Company's pending objection to the proof of
claims filed by F. Browne Gregg, a third-party claiming an
interest in the existing Service Agreement that would be
terminated under the proposed settlement. On November 3-5,
2003, the Bankruptcy Court conducted a trial on Mr. Gregg's
proofs of claim. At issue in the trial was whether Mr. Gregg
is entitled to damages as a result of Covanta Lake's proposed
termination of the existing Service Agreement and entry into a
waste disposal agreement with Lake County. As of March 22,
2004, the Bankruptcy Court had not ruled on the Company's
claims objections. Based on the foregoing, the Company has
determined not to propose a plan of reorganization or plan of
liquidation for Covanta Lake at this time, and instead that
Covanta Lake should remain a debtor-in-possession after the
effective date of the Reorganization Plan.
To emerge from bankruptcy without uncertainty concerning
potential claims against Covanta related to the Lake Facility,
Covanta has rejected its guarantees of Covanta's obligations
relating to the operation and maintenance of the Lake
Facility. The Company anticipates that if a restructuring is
consummated, Covanta may at that time issue new parent
guarantees in connection with that restructuring and emergence
from bankruptcy.
38
Depending upon the ultimate resolution of these matters with
Mr. Gregg and the County, Covanta Lake may determine to assume
or reject one or more executory contracts related to the Lake
Facility, terminate the Service Agreement with Lake County for
its breaches and default and pursue litigation against Lake
County and/or Mr. Gregg. Based on this determination, the
Company may reorganize or liquidate Covanta Lake. Depending on
how Covanta Lake determines to proceed, creditors of Covanta
Lake may not receive any recovery on account of their claims.
The Company expects that the outcome of these disputes will
not affect its ability to implement its business plan.
4. During 2003 Covanta Tampa Construction, Inc. completed
construction of a 25 million gallon per day
desalination-to-drinking water facility under a contract with
TBW near Tampa, Florida. Covanta Energy Group, Inc.,
guaranteed CTC's performance under its construction contract
with TBW. A separate subsidiary, Covanta Tampa Bay, Inc
entered into a contract with TBW to operate the Tampa Water
Facility after construction and testing is completed by CTC.
As construction of the Tampa Water Facility neared completion,
the parties had material disputes between them, primarily
relating to (i) whether CTC has satisfied acceptance criteria
for the Tampa Water Facility; (ii) whether TBW has obtained
certain permits necessary for CTC to complete start-up and
testing, and for CTB to subsequently operate the Tampa Water
Facility; (iii) whether influent water provided by TBW for the
Tampa Water Facility is of sufficient quality to permit CTC to
complete start-up and testing, or to permit CTB to operate the
Tampa Water Facility as contemplated and (iv) if and to the
extent that the Tampa Water Facility cannot be optimally
operated, whether such shortcomings constitute defaults under
CTC's agreements with TBW.
In October 2003, TBW issued a default notice to CTC, indicated
that it intended to commence arbitration proceedings against
CTC, and further indicated that it intended to terminate CTC's
construction agreement. As a result, on October 29, 2003, CTC
filed a voluntary petition for relief under chapter 11 of the
Bankruptcy Code in order to, among other things, prevent
attempts by TBW to terminate the construction agreement
between CTC and TBW. On November 14, 2003, TBW commenced an
adversary proceeding against CTC and filed a motion seeking a
temporary restraining order and preliminary injunction
directing that possession of the Tampa Water Facility be
turned to TBW. On November 25, 2003, the Bankruptcy Court
denied the motion for a temporary restraining order and
preliminary injunction and ordered, among other things, that
the parties attempt to resolve their disputes in a non-binding
mediation.
In February 2004 the Company and TBW reached a tentative
compromise of their disputes which has been approved by the
Bankruptcy Court, subject to definitive documentation, and
confirmation of an acceptable plan of reorganization for CTC
and CTB, which were not included in the Reorganization Plan.
Under that tentative compromise, all contractual relationships
between the Company and TBW will be terminated, CTC will
operate the facility in "hot stand-by" for a limited period of
time, and the responsibility for optimization and operation of
the Tampa Water Facility will be transitioned to a new,
non-affiliated operator. In addition, TBW will pay $4.95
million to or for the benefit of CTC, of which up to $550,000
is earmarked for the payment of claims under the subcontracts
previously assigned by the Company to TBW. The settlement
funds ultimately would be distributed to creditors and equity
holders of CTC and CTB pursuant to a plan of reorganization
for CTC.
If the parties are unable to resolve their differences
consensually, and depending upon, among other things, whether
the parties are able to successfully effect the settlement
described above, the Company may, among other things, commence
additional litigation against TBW, assume or reject one or
more executory contracts related to the Tampa Water Facility,
or propose liquidating plans and/or file separate plans of
reorganization for CTB and/or CTC. In such an event, creditors
of CTC and CTB may not receive any recovery on account of
their claims.
The Company expects that the outcome of these disputes will
not negatively affect its ability to implement its business
plan.
39
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the security holders of Covanta during
the fourth quarter of 2003.
40
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
PRICE RANGE OF STOCK AND DIVIDEND DATA
2003 2002
- ------------------------------------------------------------------------
High Low High Low
Common:
First Quarter .............. 0.02 0.01 $ 5.49 $ 0.56
Second Quarter ............. 0.02 0.005 0.09 0.015
Third Quarter .............. 0.01 0.006 0.028 0.008
Fourth Quarter ............. 0.009 0.003 0.015 0.005
--------------------------------------
Preferred:
First Quarter .............. N/A* N/A $16.10 $ 15.00
Second Quarter ............. N/A N/A 2.50 0.25
Third Quarter .............. N/A N/A 0.35 0.35
Fourth Quarter ............. N/A N/A 0.25 0.25
--------------------------------------
* No closing or bid prices were available.
The information above reflects the high and low closing sale price for the
shares of the Company's common and $1.875 cumulative convertible preferred stock
on the New York Stock Exchange (the "Exchange") for the first quarter of 2002,
and the high and low bid prices for such stock on the National Quotation
Bureau's Pink Sheets for the last three quarters of 2002 and all four quarters
of 2003. Such over-the-counter quotations reflect inter-dealer prices without
retail mark up, mark down or commission and may not represent actual
transactions.
On April 1, 2002, Covanta Energy Corporation and several of its domestic
subsidiaries filed for reorganization under Chapter 11 of the Bankruptcy Code.
On the same day, the New York Stock Exchange suspended trading of the Company's
common stock and $1.875 cumulative convertible preferred stock and began
processing an application to the SEC to delist the Company from the Exchange.
The SEC granted the application for the removal by Order dated May 16, 2002 and
issued an order removing the Company's stock from listing and registration on
the Exchange effective May 17, 2002. Since this date, the Company's shares are
traded on the National Quotation Bureau's Pink Sheets.
On March 10, 2004, all then outstanding preferred and common stock was cancelled
and extinguished in accordance with the Reorganization Plan. Holders of
preferred and common stock received no distributions or other consideration on
account of their securities cancelled and extinguished under the Reorganization
Plan.
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
See "ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT -
Equity Compensation Plan Information" of this Form 10-K.
41
ITEM 6. SELECTED FINANCIAL DATA
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
- ---------------------------------------------------------------------------------------------------------------------------------
DECEMBER 31, 2003 2002 2001 2000 1999
- ---------------------------------------------------------------------------------------------------------------------------------
(In thousands of dollars, except per -share amounts)
TOTAL REVENUES FROM CONTINUING OPERATIONS ...............$ 790,468 $ 825,781 $ 917,646 $ 856,434 $ 899,618
-------------- -------------- ----------- ----------- ----------
Loss from continuing operations before
cumulative effect of change in accounting principles (26,764) (127,698) (205,686) (103,132) (49,860)
Income (loss) from discontinued operations .............. 78,814 (43,355) (25,341) (126,153) (28,281)
Cumulative effect of change in accounting principles .... (8,538) (7,842) -- -- (3,820)
-------------- -------------- ----------- ----------- ----------
Net income (loss) ....................................... 43,512 (178,895) (231,027) (229,285) (81,961)
-------------- -------------- ----------- ----------- ----------
BASIC EARNINGS (LOSS) PER SHARE:
Loss from continuing operations before
cumulative effect of change in accounting principles (0.54) (2.56) (4.14) (2.08) (1.02)
Income (loss) from discontinued operations .............. 1.58 (0.88) (0.51) (2.55) (0.57)
Cumulative effect of change in accounting principles .... (0.17) (0.16) -- -- (0.08)
-------------- -------------- ----------- ----------- ----------
Total ................................................... 0.87 (3.60) (4.65) (4.63) (1.67)
-------------- -------------- ----------- ----------- ----------
DILUTED EARNINGS (LOSS) PER SHARE:
Loss from continuing operations before
cumulative effect of change in accounting principles (0.54) (2.56) (4.14) (2.08) (1.02)
Income (loss) from discontinued operations .............. 1.58 (0.88) (0.51) (2.55) (0.57)
Cumulative effect of change in accounting principles .... (0.17) (0.16) -- -- (0.08)
-------------- -------------- ----------- ----------- ----------
Total ................................................... 0.87 (3.60) (4.65) (4.63) (1.67)
-------------- -------------- ----------- ----------- ----------
TOTAL ASSETS ............................................ 2,613,580 2,840,107 3,247,152 3,298,828 3,728,658
-------------- -------------- ----------- ----------- ----------
LONG-TERM DEBT (LESS CURRENT PORTION AND
LIABILITIES SUBJECT TO COMPROMISE) .................. 935,335 1,151,996 1,600,983 1,749,164 1,884,427
-------------- -------------- ----------- ----------- ----------
SHAREHOLDERS' EQUITY (DEFICIT) ......................... (128,034) (172,313) 6,244 231,556 442,001
-------------- -------------- ----------- ----------- ----------
SHAREHOLDERS' EQUITY (DEFICIT) PER COMMON SHARE ........ (2.57) (3.47) 0.11 4.65 8.92
-------------- -------------- ----------- ----------- ----------
CASH DIVIDENDS DECLARED PER COMMON SHARE ................ -- -- -- -- 0.625
-------------- -------------- ----------- ----------- ----------
Net income in 2003 includes net after-tax gain on discontinued operations of
$78.8 million or $1.58 per diluted share, $83.3 million or $1.67 per diluted
share of reorganization expenses, net charges of $16.7 million, or $0.34 per
diluted share, reflecting the write-down of and obligations related to held for
use, and $8.5 million or $0.17 per diluted share for the cumulative effect of
change in accounting principle related to asset retirement obligations.
Net loss in 2002 includes net charges of $84.9 million, or $1.70 per diluted
share, reflecting the write-down of and obligations related to assets held for
use and $49.1 million, or $1.00 per diluted share, of reorganization costs, both
within continuing operations, $43.4 million or $0.88 per diluted share, for
discontinued operations and a $7.8 million or $0.16 per diluted share for the
cumulative effect of change in accounting principle related to the write-off of
goodwill.
Net loss in 2001 includes net charges of $186.5 million, or $3.75 per diluted
share, reflecting the write-down of and obligations related to assets held for
sale and loss from discontinued operations of $25.3 million, or $0.51 per
diluted share.
Net loss in 2000 includes net charges of $56.0 million, or $1.13 per diluted
share, reflecting the write-down of assets held for sale and $60.4 million, or
$1.22 per diluted share, reflecting costs associated with non-energy businesses,
and organizational streamlining costs composed of $45.5 million, or $0.92 per
diluted share, for continuing operations and $126.2 million, or $2.55 per
diluted share, for loss from discontinued operations.
Net loss in 1999 includes net charges of $97.8 million, or $1.99 per diluted
share, reflecting costs associated with then existing non-core businesses and
impairment of certain assets, composed of $62.5 million, or $1.27 per diluted
share, for continuing operations and $28.3 million, or $0.57 per diluted share,
for loss from discontinued operations and a $3.8 million or $0.08 per diluted
share for the cumulative effect of change in accounting principle related to the
write-off of start up costs.
42
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD LOOKING STATEMENTS
This report may contain forward looking statements relating to future events and
future performance of the Company within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934
including, without limitation, statements regarding the Company's expectations,
beliefs, intentions or future strategies that are signified by the words
"expects," "anticipates," "intends," "believes" or similar language. Actual
results could differ materially from those anticipated in such forward looking
statements. All forward-looking statements included in this document are based
on information available to the Company on the date hereof, and the Company
assumes no obligation to update any forward-looking statements. The Company
cautions investors that its business and financial performance are subject to
very substantial risks and uncertainties. The factors that could cause actual
results to differ materially from those suggested by any such statements
include, but are not limited to, those discussed or identified from time to time
in the Company's public filings with the SEC and, more generally, the Company's
reorganization and ability to continue as a going concern, general economic
conditions, including changes in interest rates and the performance of the
financial markets; changes in domestic and foreign laws, regulations, and taxes;
changes in competition and pricing environments; and regional or general changes
in asset valuations.
The following discussion and analysis also should be read in conjunction with
the Company's Consolidated Financial Statements and Notes thereto.
REORGANIZATION
On March 10, 2004, Covanta and certain of its affiliates consummated its
Reorganization Plan and emerged from its reorganization proceeding under Chapter
11 of the Bankruptcy Code. As a result of the consummation of the Reorganization
Plan, Covanta is a wholly owned subsidiary of Danielson. The Chapter 11 Cases
commenced on the First Petition Date, when Covanta and 123 of its domestic
subsidiaries filed voluntary petitions for relief under Chapter 11 of the
Bankruptcy Code in the United States Bankruptcy Court for the Southern District
of New York . After the First Petition Date, thirty-two additional subsidiaries
filed their Chapter 11 petitions for relief under the Bankruptcy Code. Eight
subsidiaries that had filed petitions on the First Petition Date were sold as
part of the Company's disposition of assets during the Chapter 11 Cases and are
no longer owned by the Company.
All of the Chapter 11 Cases were jointly administered under the caption "In re
Ogden New York Services, Inc., et al., Case Nos. 02-40826 (CB), et al." The
debtors under the Chapter 11 Cases (collectively, the "Debtors") operated their
business as debtors-in-possession pursuant to the Bankruptcy Code. The pending
Chapter 11 Cases were jointly administered for procedural purposes only.
International operations and certain other subsidiaries and joint venture
partnerships were not included in the filing. (See Note 2 to the Consolidated
Financial Statements for a more detailed discussion of these Chapter 11 Cases.)
The Financial Statements have been prepared on a "going concern" basis in
accordance with accounting principles generally accepted in the United States of
America. The "going concern" basis of presentation assumes that the Company will
continue in operation for the foreseeable future and will be able to realize its
assets and discharge its liabilities in the normal course of business. The
Company's ability to continue as a "going concern" is subject to substantial
doubt and is dependent upon, among other things, (i) the Company's ability to
utilize the net operating loss carry forwards ("NOLs") of Danielson, and (ii)
the Company's ability to generate sufficient cash flows from operations, asset
sales and financing arrangements to meet its obligations. There can be no
assurances that this can be accomplished and if it were not, the Company's
ability to realize the carrying value of its assets and discharge its
liabilities would be subject to uncertainty. Therefore, if the "going concern"
basis were not used for the Consolidated Financial Statements, significant
adjustments could be necessary to the carrying values of assets and liabilities,
the revenues and expenses reported, and the balance sheet classifications used.
See Note 2 to the Consolidated Financial Statements, for additional information
about the Company's Reorganization Plan.
The Company's Consolidated Financial Statements also have been prepared in
accordance with The American Institute of Certified Public Accountants Statement
of Position 90-7, "Financial Reporting by Entities in Reorganization under the
Bankruptcy Code", ("SOP 90-7"). Accordingly, all pre-petition liabilities
believed to be subject to compromise have
43
been segregated in the Consolidated Balance Sheets and classified as Liabilities
subject to compromise, at the estimated amount of allowable claims. Liabilities
not believed to be subject to compromise are separately classified as current
and non-current. Revenues, expenses, including professional fees, realized gains
and losses, and provisions for losses resulting from the reorganization are
reported separately as Reorganization Items. Also, interest expense is reported
only to the extent that it will be paid during the Chapter 11 Cases or that it
is probable that it will be an allowed claim. Cash used for reorganization items
is disclosed separately in the Consolidated Statements of Cash Flows.
At December 31, 2003, the Company had classified as discontinued operations the
following businesses: the geothermal companies which were sold on December 18,
2003, the Tulsa waste-to-energy operations, and the Arrowhead Pond operations.
At December 31, 2002, the Company classified as discontinued operations two
Thailand subsidiaries which were sold in 2002. The statements of Consolidated
Operations and Comprehensive Income (Loss) for December 31, 2002 and 2001 were
reclassified to reflect these discontinued operations. See Note 3 to the
Consolidated Financial Statements for additional information regarding these
assets.
As indicated below under Critical Accounting Policies, the discussion is based
on historical financial information and does not reflect fresh start accounting
changes at the effective date of the Company's emergence from bankruptcy. The
Company's unaudited pro-forma balance sheet as of December 31, 2003, which
reflects fresh start adjustments, is included in Item 8 as an unaudited note to
the Consolidated Financial Statements. Because of the application of fresh start
accounting effective upon emergence and the Company's new financial structure,
the Consolidated Financial Statements of the Company after emergence are not
presented on a comparable basis with the historical Consolidated Financial
Statements of the Company.
EXECUTIVE SUMMARY
The Company has three business segments: Domestic energy and water,
International energy, and Other. Domestic energy and water designs, constructs,
and operates key infrastructure for municipalities and others in
waste-to-energy, independent power production and water. Its principal business
is the operation and, in some cases, ownership of waste-to-energy facilities.
Waste-to-energy facilities combust municipal solid waste as a means of
environmentally sound disposal and produce energy that is sold as electricity or
steam to utilities and other purchasers. The International energy segment has
ownership interests in, and/or operates, independent power production facilities
in Asia, Spain, and Costa Rica, and one waste-to-energy facility in Italy. The
Other segment consisted primarily of the entertainment and aviation businesses,
which have been liquidated and will not be part of the reorganized business upon
the Company's emergence from bankruptcy.
The Company entered bankruptcy on April 1, 2002. Since that time, the Company
disposed of its non-core businesses and focused its efforts on the effective
management of the core domestic energy and water business. On December 2, 2003,
the Company announced that it had entered into an agreement with Danielson
pursuant to which Danielson agreed to acquire 100% of Covanta for a purchase
price of $30.0 million, and on December 18, 2003 filed the Reorganization Plan
based on the Danielson purchase and a debt structure for Covanta's domestic and
international businesses. On March 5, 2004, the Bankruptcy Court entered an
order confirming the Reorganization Plan, and on March 10, 2004, the Company
consummated its Reorganization Plan, closed on the Danielson transaction, and
emerged from bankruptcy.
As further explained below, Covanta emerged from its Chapter 11 proceeding as a
highly leveraged entity, with several series of debt which will be serviced
solely from the cash generated from its domestic operations. Additional debt was
issued by Covanta's subsidiary, CPIH. CPIH similarly emerged from bankruptcy as
a highly leveraged entity, with its own series of debt which will be serviced
solely from the cash generated from the international operations. Covanta will
continue to provide guarantees of some of its subsidiaries' operating
obligations with respect to international projects, and will continue to
maintain existing letters of credit relating to international projects.
Covanta's ability to service its domestic corporate indebtedness after it
emerges from bankruptcy will depend upon:
o the availability of the NOLs (as described below);
o its ability to continue to operate and maintain its facilities
consistent with historical performance levels;
o its ability to maintain compliance with its debt covenants;
o its ability to avoid increases in overhead and operating expenses in
view of the largely fixed nature of its revenues;
o its ability to refinance its debt on more favorable terms;
44
o its ability to maintain or enhance revenue from renewals or
replacement of existing contracts (which begin to expire in October,
2007), and from new contracts to expand existing facilities or operate
additional facilities;
o market conditions affecting waste disposal and energy pricing, as well
as competition from other companies for contract renewals, expansions,
and additional contracts, particularly after its existing contracts
expire.
Covanta's ability to grow by investing in new projects will be limited by debt
covenants in its principal financing agreements, and from potentially fewer
market opportunities for new waste-to-energy facilities.
CPIH also emerged from bankruptcy as a highly leveraged entity. CPIH's ability
to service its debt after it emerges from bankruptcy will depend upon:
o its ability to continue to operate and maintain its facilities
consistent with historical performance levels;
o stable foreign political environments that do not resort to
expropriation, contract renegotiations or currency changes;
o the financial ability of the electric and steam purchasers to pay the
full contractual tariffs on a timely basis;
o the ability of its international project subsidiaries to maintain
compliance with their respective project debt covenants in order to
make equity distributions to CPIH;
o its ability to sell existing projects in an amount sufficient to repay
CPIH indebtedness at or prior to its maturity in three years, or to
refinance its indebtedness at or prior to such maturity.
CPIH's ability to grow by investing in new projects will be limited by debt
covenants in its principal financing agreements.
2003 VS. 2002
CONSOLIDATED RESULTS
Service revenues for 2003 were $499.2 million, an increase of $5.2 million
compared to $494.0 million in 2002. The increase was due to a $14.6 million
increase in Domestic energy and water segment service revenue primarily related
to annual contractual service fee escalations and increased waste tonnage
processed, and a $2.4 million increase in the International segment primarily
related to an increase in operator bonuses earned by an operations and
maintenance company, partially offset by a $11.7 million decrease in Other
segment service revenues related to the wind-down and sale of non-energy
businesses.
Electricity and steam sales revenues for 2003 were $277.8 million, a decrease of
$11.5 million compared to $289.3 million in 2002. The decrease was primarily due
to a $14.5 million decrease in electricity sales at the Company's two plants in
India combined with a reduction in electricity sales of $1.5 million at two of
the Company's energy facilities in The Philippines resulting from rate
reductions. These decreases were partially offset by a $4.8 million increase in
electricity and steam sales in Domestic energy and water, primarily related to
higher electric rates received by two plants due to increased market rates.
Construction revenues for 2003 were $13.4 million, a decrease of $28.9 million
compared to $42.3 million in 2002 primarily due to a $28.5 million decrease as a
result of the Company's substantial completion of construction of the
desalination project in Tampa, Florida.
Other revenues-net for 2003 were comparable to 2002.
Plant operating expenses were $500.6 million for 2003, an increase of $4.2
million compared to $496.4 million in 2002 primarily due to a $7.0 million
increase in parts and labor related to pay increases and higher costs for
routine maintenance and overhaul at several domestic energy facilities. In
addition, plant operating expenses were reduced in 2002 by a $4.4 million
adjustment to operating accruals in 2002. These changes were partially offset by
a $6.4 million reversal in 2003 of bad debt reserves related to two Indian
facilities.
Construction costs for 2003 were $20.5 million, a decrease of $22.2 million
compared to $42.7 million in 2002. The decrease is primarily attributable to the
Company's substantial completion of the desalination project in Tampa, Florida.
A charge of $9.1 million is included in 2003 consisting of $5.0 million for
reserve against retainage receivables and $4.1 million in additional costs
associated with termination of the Company's activities relating to the Tampa
Bay desalination project. (See Note 2 to Consolidated Financial Statements for
further discussion).
45
Debt service charges-net for 2003 were $76.8 million, a decrease of $9.6 million
compared to $86.4 million in 2002. The decrease is primarily the result of a
reduction in project debt and the restructuring of Hennepin.
Depreciation and amortization was $71.9 million for 2003, a decrease of $5.5
million compared to $77.4 million for 2002. The decrease is primarily related to
the Hennepin restructuring in 2003, and an asset impairment adjustment at two
international facilities in 2002.
Other operating costs and expenses were $2.2 million for 2003, a decrease of
$13.0 million compared to $15.2 million in 2002 primarily due to the wind-down
of many non-energy businesses.
Net loss on sale of businesses in 2003 of $7.2 million is primarily related to
the sale of the equity investee included in the geothermal business offset by
additional proceeds received from businesses sold in prior years. The remaining
geothermal businesses disposed of in 2003 have been recorded as discontinued
operations, in accordance with generally accepted accounting principles. See
further discussion below. Net loss on sale of businesses in 2002 of $1.9 million
was primarily related to a loss on the sale of an investment in an energy
project in Thailand of $6.5 million in 2002, and a $4.6 million gain on the sale
of assets in 2002. (See Note 4 to the Consolidated Financial Statements for
further discussion.)
Selling, general and administrative expenses were $35.6 million for 2003, a
decrease of $18.7 million compared to $54.3 million in 2002 primarily due to a
$8.3 million reduction in professional fees, and $7.4 million in reduced costs
related to headquarter staff reductions.
Project development costs for 2003 were zero, a decrease of $3.8 million
compared to $3.8 million in 2002, due to no new project development in 2003.
Other expenses - net for 2003 were $(1.1) million, a decrease of $17.1 million
compared to $16.0 in 2002 primarily due to a reduction in fees related to the
Master Credit Facility of $24.0 million in 2002.
The write-down of and obligations related to assets held for use of $16.7
million in 2003 relates to an increase in the Ottawa obligations (Note 4 to
Consolidated Financial Statements). The 2002 amount of $84.9 million consists of
a $6.0 million pre-tax charge related to Ottawa obligations and a $78.9 million
pre-tax charge related to two international energy projects. The charges were
the result of a 2002 review.
Equity in income from unconsolidated investments for 2003 was $29.9 million, an
increase of $4.8 million compared to $25.1 million in 2002 resulting primarily
from a $3.5 million increase at an International energy project due to favorable
operating costs.
Interest expense-net for 2003 was $37.0 million, a decrease of $4.6 million from
$41.6 million in 2002 primarily due to contract restructuring at two domestic
energy projects. (See Note 2 to Consolidated Financial Statements for further
discussion).
Reorganization items for 2003 were $83.3 million, an increase of $34.2 million
compared to $49.1 million in 2002. In accordance with SOP 90-7, certain income
and expenses are classified as reorganization items. The 2003 amount primarily
consists of legal and professional fees and charges for the Hennepin
restructuring and worker's compensation insurance. The 2002 amount primarily
consists of legal and professional fees, severance, retention and office closure
costs, and bank fees. See Note 2 to the Consolidated Financial Statements for
further discussion.
Minority interests for 2003 were comparable to 2002.
The effective tax rate in 2003 was 41.2% compared to 0.2% for 2002. This
increase in the effective rate is primarily due to deductions and foreign losses
included in the pre-tax book loss in the prior year period for which certain tax
benefits were not recognized compared to pre-tax book loss in the current period
for which certain tax benefits were recorded.
DISCONTINUED OPERATIONS: For 2003, the gain from discontinued operations totaled
$78.8 million, due to the sale of the Geothermal Business, the rejection of a
waste-to-energy lease, and the final disposition of the Arrowhead Pond
46
interests. The gain before income taxes and minority interests from discontinued
operations was $95.0 million. For 2002, the loss from discontinued operations
totaled $43.4 million. The loss before income taxes and minority interests from
discontinued operations was $56.7 million, due to the sale of two international
energy subsidiaries in 2002 and reclassification of operations of the businesses
disposed of in 2003 discussed above. (See Note 3 to the Consolidated Financial
Statements for further discussion).
Cumulative effect of change in accounting principles was $8.5 million in 2003,
an increase of $0.7 million compared to $7.8 million in 2002. The Company
adopted Statement of Financial Accounting Standard ("SFAS") No. 143, "Accounting
for Asset Retirement Obligations" ("SFAS No. 143") effective January 1, 2003.
Under SFAS No. 143, entities are required to record the fair value of a legal
liability for an asset retirement obligation in the period in which it is
incurred. The Company's adoption of SFAS No. 143 resulted in the cumulative
effect of a change in accounting principle of $8.5 million. The Company adopted
SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142") in 2002.
In connection with its adoption of SFAS No. 142, the Company completed the
required impairment evaluation of goodwill, which resulted in a cumulative
effect of a change in accounting principle of $7.8 million at January 1, 2002.
See Note 1 to the Consolidated Financial Statements for further discussion.
Property, plant and equipment - net: A decrease of $208.5 million for 2003 was
due mainly to depreciation expense of $68.0 million for the year, a reduction of
$69.7 million for the sale of the Geothermal Business, and a reduction of $84.2
million for the Hennepin restructuring (See Note 2 to the Consolidated Financial
Statements for further discussion) offset by capital additions of $22.1 million
and $3.6 million related to amounts capitalized upon the adoption of Statement
of Financial Accounting Standards No. 143, "Accounting for Asset Retirement
Obligations".
DOMESTIC ENERGY AND WATER SEGMENT
Total revenues for 2003 for the Domestic energy and water segment were $619.1
million, a decrease of $9.1 million compared to $628.2 million in 2002. This
decline resulted primarily from the reduction in construction revenue of $28.5
million due to the Company's substantial completion of construction of the
desalination project in Tampa, Florida, which was offset by increases in service
revenues and electricity and steam sales. Service revenues increased by $14.6
million or 3.1% as a result of annual contractual service fee escalations, and
increased tonnage processed. In addition there was a $4.8 million increase in
electricity and steam sales, primarily related to higher electric rates received
by two plants from local electricity purchasers at which the output is sold at
market rates.
Income from operations for 2003 for the Domestic energy and water segment was
$61.4 million, an increase of $7.7 million compared to $53.7 million for 2002
primarily due to a decrease in total costs and expenses of $16.3 million offset
by the $9.1 million decrease in revenue discussed above. The decrease in total
costs and expenses is a function of the $21.9 million decrease in construction
expenses resulting from the Company's substantial completion of construction of
the desalination project in Tampa, Florida and the $11.9 million increase in
loss on sale of businesses, which includes the loss on the sale of the equity
investee included in the geothermal business. These decreases were partially
offset by a $7.0 million increase in parts and labor related to pay increases,
and higher costs for routine maintenance and overhaul at several domestic energy
facilities. In addition, plant operating expenses were reduced in 2002 by a $4.4
million adjustment to operating accruals. Construction expense in 2003 includes
a charge of $9.1 million consisting of $5.0 million for reserve against
retainage receivables and $4.1 million in additional costs associated with
completion of the desalination project.
INTERNATIONAL ENERGY SEGMENT
Total revenues for 2003 for the International energy segment were $171.4
million, a decrease of $14.0 million compared to $185.4 million in 2002,
primarily due to a $14.5 million decrease in electricity sales at the Company's
two plants in India resulting from reduced demand from the contractual
purchaser, combined with a reduction in electricity sales of $1.5 million at two
of the Company's energy facilities in The Philippines as a result of government
imposed rate reductions.
Income from operations for 2003 for the International energy segment was $50.0
million, an increase of $94.0 million compared to a loss of $44.0 million in
2002 primarily due to a $78.9 million pre-tax impairment charge in 2002 related
to two Philippine energy projects. The decrease in revenue of $14.0 million
discussed above was offset by a $13.5 million decrease in plant operating costs.
The increase in income from operations in 2003 was also due to a loss on the
sale of an equity investment in an energy project in Thailand of $6.5 million in
2002.
47
OTHER SEGMENT
Total revenues for 2003 for the Other segment were $0.0 million, a decrease of
$12.1 million compared to $12.1 million in 2002. This decrease was due to the
wind-down and sale of non-core businesses.
Loss from operations for 2003 for the Other segment was $5.7 million, a decrease
of $10.1 million compared to $15.8 million in 2002, primarily due to a decrease
in operating costs of $15.9 million and a $10.4 million reduction in selling,
general and administrative costs consisting of a $2.3 million reduction in
professional fees and reduced costs related to headquarter staff reductions of
$6.5 million combined with a $6.0 million charge related to Ottawa commitments
in 2002. This decrease was partially offset by a $16.8 million increase in
provision for Ottawa commitments in 2003, in addition to the decrease in revenue
of $12.1 million discussed above.
2002 VS. 2001
Service revenues were $494.0 in 2002, a decrease of $66.8 million compared to
$560.8 in 2001. This change resulted from the decline in domestic energy and
water service revenues in 2002 of $7.6 million primarily related to a $6.8
million decrease at California energy facilities due to decreased rates. Also,
other service revenues decreased $58.5 million due to the wind-down of many
non-energy businesses.
Electricity and steam sales revenue were $289.3 million in 2002, an increase of
$57.7 million compared to $231.6 million in 2001, attributable mainly to a $45.4
million increase due to the completion of an energy facility in India which came
online during the fourth quarter of 2001 and a $12.9 million increase due to the
completion of another energy facility in India which came online during the
second quarter of 2001.
Construction revenues were $42.3 million in 2002 a decrease of $20.8 million
compared to $63.1 million in 2001 due to the substantial completion of various
projects offset by a $12.8 million increase attributable to the Company's
construction of the desalination project in Tampa, Florida.
Other sales - net were zero for 2002, a decrease of $31.3 million compared to
$31.3 million in 2001 due mainly to the sale of the Datacom business in November
2001. This business had been included in the Other segment.
Other revenues- net were $0.3 million for 2002, a decrease of $30.6 million
compared to $30.9 million in 2001 due mainly to revenues in 2001 including $21.0
million of insurance settlements and other matters related to two domestic
energy facilities for business interruption, $5.7 million of development fees
and other matters related to an international energy plant and insurance
proceeds of $2.8 million related to aviation businesses.
Plant operating expenses were $496.4 million for 2002, an increase of $60.7
million compared to $435.7 million in 2001 primarily due to a $30.0 million
increase in plant operating expenses related to the completion of an energy
facility in India which came online during the fourth quarter of 2001, a $10.1
million increase due to the completion of another energy facility in India which
came online during the second quarter of 2001, and a $8.0 million increase in
operating costs, mainly due to a $5.1 million increase in overhaul and
maintenance expenses at several domestic energy facilities.
Construction costs were $42.7 million for 2002, a decrease of $27.4 million
compared to $70.1 million in 2001. The decrease is mainly attributable to the
substantial completion of various projects and termination of one project offset
by a $13.2 million increase attributable to the Company's construction of the
desalination project in Tampa, Florida.
Depreciation and amortization and debt service charges for 2002 were comparable
to the same period in 2001.
Other operating costs and expenses were $15.2 million a decrease of $47.7
million compared to $62.9 in 2001 due to the wind-down of many non-energy
businesses.
Net loss on sale of businesses in 2002 of $1.9 million was primarily related to
a loss on the sale of an investment in an energy project in Thailand of $6.5
million, offset by a $4.0 million gain on the sale of assets (see Note 4 to the
Consolidated Financial Statements for further discussion) and a $0.6 million
gain on the sale of an investment in Bolivia (see Note 4 to the Consolidated
Financial Statements for further discussion). Net loss on sale of businesses for
the year
48
ended December 31, 2001 of $2.8 million related to the sale of non-core assets
(see Note 4 to the Consolidated Financial Statements for further discussion).
Costs of goods sold were zero in 2002, a decrease of $37.2 million compared to
the same period of 2001 due to the sale of the Datacom business in November
2001.
Selling, general and administrative expenses were $54.3 million in 2002, a
decrease of $24.5 million compared to $78.8 million in 2001 primarily due to the
wind-down of many non-energy businesses.
Project development expenses were $3.8 million in 2002, a decrease of $29.5
million compared to $33.3 million in 2001 primarily due to the write-off of
$24.5 million in development costs related to an energy project in California
that was terminated in 2001.
Other expenses net were $16.0 million in 2002, a decrease of $13.9 million
compared to $29.9 million in 2001 primarily due to a $13.4 million decrease
related to the reversal of a pre-petition severance accrual during the year
ended December 31, 2002. (See Note 25 to the Consolidated Financial Statements
for further discussion.)
The Company recorded pre-tax charges for write-down and obligations related to
assets held for use of $84.9 million during 2002 and a pre-tax charge for assets
held for sale of $186.5 million during 2001. (See Note 4 to the Consolidated
Financial Statements for further discussion.)
Equity in income from unconsolidated investments was $25.1 million in 2002, an
increase of $7.4 million compared to $17.7 million in 2001. The increase is
primarily attributable to an increase in earnings from the Company's investment
in international energy projects mainly due to improved operating performance.
Interest expense-net was $41.6 million in 2002, an increase of $2.3 million
compared to $39.3 million in 2001 mainly due to decreased interest income as a
result of a lower interest rate environment for investments.
Reorganization items for 2002 were $49.1 million, an increase of $49.1 million
compared to zero in 2001. In accordance with SOP 90-7, certain income and
expenses are classified as reorganization items. The 2002 amount primarily
consists of legal and professional fees, severance, retention and office closure
costs, and bank fees. See Note 2 to the Consolidated Financial Statements for
further discussion.
Minority interests were $9.1 million in 2002, an increase of $3.0 million
compared to $6.1 million in 2001 due mainly to the two international energy
facilities in India that became operational during 2001.
The effective tax rate in 2002 was 0.2% compared to 2.9% for the same period of
2001.
In 2002, the loss from discontinued operations totaled $43.4 million. The loss
before income taxes and minority interests from discontinued operations was
$56.7 million, including the sale of two international energy subsidiaries in
2002. (See Note 3 to the Consolidated Financial Statements for further
discussion.) In 2001, the loss from these discontinued operations totaled $25.3
million. The 2001 loss before income taxes and minority interests from
discontinued operations was $34.9 million.
Cumulative effect of change in accounting principles was $7.8 million in 2002,
an increase of $7.8 million compared to zero in 2001. The Company adopted SFAS
No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142") in 2002. In
connection with its adoption of SFAS No. 142, the Company completed the required
impairment evaluation of goodwill, which resulted in a cumulative effect of a
change in accounting principle of $7.8 million at January 1, 2002. See Note 1 to
the Consolidated Financial Statements for further discussion.
Property, plant and equipment - net decreased $239.4 million during 2002 due
mainly to the sale of $82.5 million of Thailand fixed assets on March 28, 2002,
a $78.9 million pre-tax impairment charge against fixed assets (see Note 9 to
the Consolidated Financial Statements for further discussion) and depreciation
expense of $83.6 million for the period offset by capital additions of $21.3
million.
DOMESTIC ENERGY AND WATER SEGMENT
49
Total revenues for 2002 for the Domestic energy and water segment were $628.2
million, a decrease of $30.4 million compared to $658.6 million in 2001. This
decrease was mainly due to the receipt of insurance settlements and other
matters related to two domestic energy facilities in 2001 and a decrease at
California energy facilities due to decreased energy rates in 2002.
Income from operations for 2002 for the Domestic energy and water segment was
$53.7 million, a decrease of $36.8 million compared to $90.5 million in 2001. As
discussed above, this decrease was mainly due to a decrease in proceeds from
insurance settlements and other matters related to two domestic energy
facilities in 2001 and a decrease in revenue during 2002 at California energy
facilities due to decreased energy rates combined with an increase in overhaul
and maintenance expenses at several domestic energy facilities.
INTERNATIONAL ENERGY SEGMENT
Total revenues for the International energy segment were $185.4 million, an
increase of $52.8 million compared to $132.6 million in 2001. As discussed
above, this increase was mainly due to the completion of an energy facility in
India which came online during the fourth quarter of 2001 and the completion of
another energy facility in India which came online during the second quarter of
2001.
Loss from operations for 2002 for the International energy segment was $44.0
million, a decrease of $70.8 million compared to income from operations of $26.8
million in 2001. This decrease was a result of a pre-tax impairment charge at
two of the energy facilities and an increase in plant operating costs, related
to the completion of an energy facility in India which came online during the
fourth quarter of 2001 and the completion of another energy facility in India
which came online during the second quarter of 2001. These decreases were
partially offset by an increase in equity earnings of investees and joint
ventures and an increase in operating revenue.
OTHER SEGMENT
Total revenues for the Other segment were $12.3 million, a decrease of $114.2
million compared to $126.5 million in 2001. As discussed above, this decrease
was due to the wind-down and sale of non-energy businesses.
Loss from operations for 2002 for the Other segment was $15.8 million, a
decrease of $232.4 million compared to $248.2 million in 2001. As discussed
above, this decrease was mainly due to a reduction in revenue related to the
wind down and sale of non-energy business combined with a reduction in pretax
impairment charges for assets held for sale.
CAPITAL INVESTMENTS AND COMMITMENTS: For the year ended December 31, 2003,
capital investments for continuing operations amounted to $22.2 million, of
which $13.9 million related to domestic energy and water investments and $8.3
million related to international energy investments. These investments were
largely for planned capital expenditures at existing facilities.
Financing for the Company's domestic waste-to-energy projects is generally
accomplished through tax-exempt and taxable revenue bonds issued by or on behalf
of the Client Community. If the facility is owned by a Covanta subsidiary, the
Client Community loans the bond proceeds to the subsidiary to pay for facility
construction and pays to the subsidiary amounts necessary to pay debt service.
For such facilities, project-related debt is included as "project debt (short
and long term)" in the Company's consolidated financial statements. Generally,
such project debt, is secured by the revenues generated by the project and other
project assets. The only recourse to Covanta relates to construction and
operating performance defaults; in addition the Company has several operating
leases that are non-recourse to Covanta. Such project debt and operating leases
of Covanta subsidiaries are described in the table below as non-recourse to the
parent entity Covanta ("Non-recourse").
The following table summarizes the Company's gross contractual obligations
including: project debt, debt, leases, purchase commitments and other
contractual obligations as of December 31, 2003. (Amounts expressed in thousands
of dollars. Note references are to the Notes to the Consolidated Financial
Statements):
50
PAYMENTS DUE BY PERIOD
Less than After
TOTAL ONE YEAR 1 TO 3 YEARS 4 TO 5 YEARS 5 YEARS
----------- ----------- ------------ ------------ -----------
Total Debt excluding $78 of Capital lease
obligations (Notes 15 and 16) $ 1,043,965 $ 108,687 $ 214,046 $ 207,211 $ 514,021
Total Operating Leases (Note 27) 355,137 19,045 37,338 38,588 260,166
Total Capital Leases (Note 15) 78 21 50 7 --
Other Long-Term Obligations (Note 18) 78,358 1,235 11,945 12,219 52,959
Purchase Commitments and contractual
obligations (Notes 2 and 29) 25,060 14,369 -- -- 10,691
----------- ----------- ----------- ----------- -----------
Total Contractual Obligations of the Company 1,502,598 143,357 263,379 258,025 837,837
Less:
Non-recourse Project Debt (Note 16) (1,032,401) (99,216) (211,953) (207,211) (514,021)
Non-recourse Operating Leases (Note 27) (317,345) (15,207) (30,812) (34,968) (236,358)
----------- ----------- ----------- ----------- -----------
Total Non-recourse Obligations (1,349,746) (114,423) (242,765) (242,179) (750,379)
----------- ----------- ----------- ----------- -----------
Net Contractual Obligations of Covanta $ 152,852 $ 28,934 $ 20,614 $ 15,846 $ 87,458
=========== =========== =========== =========== ===========
The table above excludes $956.1 million of Liabilities subject to compromise at
December 31, 2003 that were stayed by the Company's bankruptcy filing on April
1, 2002. The ultimate amount and timing of payments of Liabilities subject to
compromise is addressed in the Reorganization Plan (see Note 2 to the
Consolidated Financial Statements for further discussion.)
The Company's other commitments as of December 31, 2003 are as follows
(expressed in thousands of dollars. Note references are to the Notes to the
Consolidated Financial Statements):
COMMITMENTS EXPIRING BY PERIOD
Less than More than
TOTAL ONE YEAR ONE YEAR
--------- --------- ---------
Standby Letters of Credit (Note 17) $ 193,699 $ 193,699 $ --
Less: Obligations included in the
Consolidated Balance Sheet (38,027) (38,027) --
Surety Bonds 76,767 30,757 46,010
Additional guarantees 16,879 1,300 15,579
--------- --------- ---------
Total Other Commitments - net $ 249,318 $ 187,729 $ 61,589
========= ========= =========
The Standby Letters of Credit were issued to secure the Company's performance
under various contractual undertakings related to its domestic and international
projects, or in connection with financings related to international projects.
Each letter of credit is required to be maintained in effect during the term of
applicable project contracts, and generally may be drawn if it is not renewed
prior to expiration of its term. At the effective date of the Reorganization
Plan, existing letters of credit issued pursuant to the DIP Financing Facility
were replaced with new letters of credit pursuant to the First Lien Facility and
Second Lien Facility, described below. One such letter of credit related to a
waste-to-energy project, currently in the amount of approximately $138 million,
reduces semi-annually until 2009, when it is no longer contractually required to
be maintained. Another such letter of credit related to a waste-to-energy
project, currently in the amount of $17 million, will be reduced annually
beginning in 2010 through 2016. In addition, one contract for a waste-to-energy
facility requires a new $50 million letter of credit, which will similarly
secure performance under applicable project contracts, and is required to be
maintained as long as Covanta does not have an investment grade rating. The
Company believes that it will be able to fully perform on its contracts and that
it is unlikely that letters of credit would be drawn upon because of its
performance. The First Lien Facility and the Second Lien Facility, each of which
is secured, provide commitments for all letters of credit required to be
provided by the Company, except one letter of credit related to an international
project, in the amount of approximately $2.6 million. Such letter of credit is
issued pursuant to a separate, unsecured , arrangement. Were any of the
Company's letters of credit to be drawn, under the Company's debt facilities,
the amount drawn would be immediately repayable to the issuing bank.
The surety bonds relate to the Tampa Water Facility construction contract ($29.6
million), performance under its waste water treatment operating contracts ($12.7
million), possible closure costs for various energy projects when such projects
cease operating ($10.8 million) and performance of contracts related to
non-energy businesses ($23.7 million). Were these bonds to be drawn upon, the
Company would have a contractual obligation to indemnify the surety company. As
these indemnity obligations arose prior to April 2, 2002, they are expected to
be treated as pre-petition
51
debt in the Company's bankruptcy case, unless the Company otherwise agrees to
enter into replacement indemnity obligations.
Additional guarantees include approximately $16.9 million of guarantees related
to international energy projects. Two of the guarantees totaling approximately
$15.1 million relate to the construction of two power plants in India. The
guarantees are not expected to be called upon as the construction of both power
plants was completed in 2001 and the Company is awaiting release from the
guarantees upon acceptance of the power plants. The Company also has a guarantee
to contribute an additional $1.3 million in capital to an investment in a
waste-to-energy facility in Italy.
Covanta and certain of its subsidiaries have issued or are party to performance
guarantees and related contractual obligations undertaken mainly pursuant to
agreements to construct and operate certain energy and water facilities. With
respect to its domestic businesses, Covanta has issued guarantees to Client
Communities and other parties that Covanta's operating subsidiaries will perform
in accordance with contractual terms, including, where required, the payment of
damages. Such contractual damages could be material, and in circumstances where
one or more subsidiary's contract has been terminated for its default, such
damages could include amounts sufficient to repay project debt. For facilities
owned by Client Communities and operated by the Company, Covanta's potential
maximum liability as of December 31, 2003 associated with the repayment of the
municipalities' debt on such facilities, amounts in aggregate to approximately
$1.3 billion. This amount is not recorded as a liability in the Company's
Consolidated Balance Sheet as of December 31, 2003 as Covanta believes that it
has not incurred such liability at the date of the financial statements.
Additionally, damages payable under such guarantees on Company-owned waste to
energy facilities could expose Covanta to recourse liability on Project Debt
shown on the foregoing table. Covanta also believes that it has not incurred
such damages at the date of the financial statements. If Covanta is asked to
perform under one or more of such guarantees, its liability for damages upon
contract termination would be reduced by funds held in trust and proceeds from
sales of the facilities securing the project debt, which is presently not
estimable.
With respect to its international businesses, Covanta has issued guarantees of
its operating subsidiaries contractual obligations to operate power projects.
The potential damages owed under such arrangements for international projects
may be material. Depending upon the circumstances giving rise to such domestic
and international damages, the contractual terms of the applicable contracts,
and the contract counterparty's choice of remedy at the time a claim against a
guarantee is made, the amounts owed pursuant to one or more of such guarantees
could be greater than the Company's then-available sources of funds. To date,
the Company has not incurred material liabilities under its guarantees, either
on domestic or international projects.
In the normal course of business, the Company and its subsidiaries also are
involved in legal proceedings in which damages and other remedies are sought.
LIQUIDITY/CASH FLOW: At December 31, 2003, the Company had approximately $289.4
million in cash and cash equivalents, of which $39.7 million related to cash
held in foreign bank accounts that could be difficult to transfer to the U.S. A
significant amount of such cash has been paid or is committed to payment of
creditors and expenses under the Reorganization Plan. As of March 10, 2004, the
Company had approximately $44 million in cash excluding reserves dedicated to
pay costs associated with emergence. In addition, as of the same date, CPIH had
approximately $5 million in its domestic accounts.
Net cash provided by operating activities for 2003 was $34.4 million compared to
$67.5 million for 2002. The decrease of $33.1 was primarily due to a $15.8
million decrease in accrued project debt service charges and an $18.5 million
decrease in accrued selling, general and administrative expenses for the year.
Net cash provided by investing activities for 2003 was $24.0 million compared to
$26.8 million for 2002. The decrease of $2.8 million was primarily due to a
$16.4 million decrease in funds received from equity investees as a result of
variation in the cash generated by such projects and a $3.0 million increase in
investments in energy facilities, partially offset by a $14.3 million increase
in proceeds from sale of business.
Net cash used in financing activities for 2003 was $102.6 million compared to
$128.5 million for 2002. The decrease of $25.9 million was primarily due to the
application of amounts then held in restricted accounts to pay down bonds in
connection with the restructuring of the agreements related to the Onondaga
waste-to-energy facility. See Note 2 to the Consolidated Financial Statements
for further discussion.
52
All obligations under the DIP Credit Facility and the pre-petition Master Credit
Facility were discharged on March 10, 2004, the effective date of the
Reorganization Plan. On the same date and pursuant to the Reorganization Plan,
the Company entered into new credit facilities and issued secured and unsecured
notes, as described below.
(A) DOMESTIC FACILITIES
The Domestic Borrowers entered into two credit facilities to provide letters of
credit and liquidity in support of the Company's domestic operations and to
maintain existing letters of credit in support of its international operations.
The Domestic Borrowers entered into the First Lien Facility, secured by a first
priority lien on substantially all of the assets of the Domestic Borrowers not
subject to prior liens (the "Collateral"). The First Lien Facility provides
commitments for the issuance of letters of credit in the initial aggregate face
amount of up to $138 million with respect to a waste-to-energy facility. The
First Lien Facility will reduce semi-annually as the amount of the letter of
credit requirement for this facility reduces. Additionally, the Domestic
Borrowers entered into the Second Lien Facility, secured by a second priority
lien on the Collateral. The Second Lien Facility is a letter of credit and
liquidity facility in the aggregate amount of $118 million up to $10 million of
which may be used for cash borrowings on a revolving basis for general corporate
purposes. Among other things, the Second Lien Facility will provide the Company
with the ability to obtain new letters of credit as may be required with respect
to various domestic waste-to-energy facilities, as well as to maintain existing
letters of credit with respect to international projects. Both the First Lien
Facility and the Second Lien Facility have a term of five years from the
Effective Date of the Reorganization Plan.
Pursuant to the Reorganization Plan, Covanta issued or will issue Reorganization
Plan Notes for distribution to holders of Allowed Claims. The material terms of
the Reorganization Plan Notes are as follows:
HIGH YIELD NOTES: Covanta issued High Yield Notes in an aggregate principal
amount of $205 million accreting to an aggregate principal amount of $230
million upon maturity in seven years. Interest will be paid semi-annually in
arrears on the principal amount at stated maturity of the outstanding High Yield
Notes at a rate of 8.25% per annum. The High Yield Notes are secured by a third
priority lien on the Collateral. The High Yield Notes are guaranteed by the
other Domestic Borrowers.
UNSECURED NOTES: Covanta issued or will issue Unsecured Notes to holders of
allowed unsecured claims against Covanta's operating subsidiaries which were
reorganizing Debtors. Unsecured Notes in a principal amount of $4 million were
issued on the effective date of the Reorganization Plan, and the Company expects
to issue additional Unsecured Notes in a principal amount of between $30 and $35
million, including additional Unsecured Notes that may be issued to holders of
allowed claims against Remaining Debtors if and when they emerge from
bankruptcy. The final principal amount of all Unsecured Notes will be equal to
the amount of allowed unsecured claims against the Company's operating
subsidiaries which were reorganized Debtors, and such amount will be determined
when all such claims are resolved through settlement or further proceedings in
the Bankruptcy Court. Notwithstanding the date on which Unsecured Notes are
issued, interest on the Unsecured Notes accrues from March 10, 2004. Under the
Reorganization Plan, the Company is authorized to issue up to $50 million in
principal amount of Unsecured Notes. Unsecured Notes mature eight years after
the Effective Date, and interest thereon will be payable semi-annually at an
interest rate of 7.5%. Annual amortization payments of approximately $3.9
million will be paid beginning in year 2006, with the balance due on maturity.
The Unsecured Notes are subordinated in right of payment to all senior
indebtedness of Covanta including, the First Lien Facility, the Second Lien
Facility, the High Yield Notes, and the Unsecured Notes will otherwise rank
equal with, or be senior to, all other indebtedness of Covanta.
The First Lien Facility, Second Lien Facility, High Yield Notes and the
Unsecured Notes are referred to herein as the "Domestic Facilities".
TAX NOTES: Covanta may issue Tax Notes in an aggregate principal amount equal to
the aggregate amount of allowed priority tax claims with a maturity six years
after the date of assessment. Interest will be payable semi-annually at the rate
of four percent. Under the Reorganization Plan, the Company may pay the amount
of such claims in cash.
The Domestic Borrowers also entered into the Domestic Intercreditor Agreement,
with the respective lenders under the First Lien Facility and Second Lien
Facility and the trustee under the indenture for the High Yield Notes. It
provides for certain provisions regarding the application of payments made by
the Domestic Borrowers among the respective creditors and certain matters
relating to priorities upon the exercise of remedies with respect to the
Collateral.
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MATERIAL TERMS OF FIRST AND SECOND LIEN FACILITIES: Both the First Lien Facility
and the Second Lien Facility provide for mandatory prepayments of all or a
portion of amounts funded by the lenders under letters of credit and the
revolving loan upon the sales of assets, incurrence of additional indebtedness,
availability of annual cash flow, or cash on hand above certain base amounts,
and change of control transactions. To the extent that no amounts have been
funded under the revolving loan or letters of credit, Covanta is obligated to
apply excess cash to collateralize its reimbursement obligations with respect to
outstanding letters of credit, until such time as such collateral equals 105% of
the maximum amount that may at any time be drawn under outstanding letters of
credit.
The terms of both of these facilities require Covanta to furnish the lenders
with periodic financial, operating and other information. In addition, these
facilities further restrict, without a consent of its lenders under these
facilities, Covanta's ability to, among others:
o incur indebtedness, or incur liens on its property, subject to
specific exceptions
o pay any dividends on or repurchase any of its outstanding securities,
subject to specific exceptions;
o make new investments, subject to specific exceptions
o deviate from specified financial ratios and covenants, including those
pertaining to consolidated net worth, adjusted EBITDA, and capital
expenditures;
o sell any material amount of assets, enter into a merger transaction,
liquidate or dissolve;
o enter into any material transactions with shareholders and affiliates;
amend its organization documents; and
o engage in a new line of business.
All unpaid principal of and accrued interest on the revolving loan, and an
amount equal to 105% of the maximum amount that may at any time be drawn under
outstanding letters of credit, would become immediately due and payable in the
event that Covanta or certain of its affiliates (including DHC) become subject
to specified events of bankruptcy or insolvency. Such amounts shall also become
immediately due and payable, upon action taken by a certain specified percentage
of the lenders, in the event that any of the following occurs after the
expiration of applicable cure periods:
o a failure by Covanta to pay amounts due under the Domestic Facilities
or other debt instruments;
o breaches of representations, warranties and covenants under the
Domestic Facilities;
o a judgment or judgments are rendered against Covanta that involve an
amount in excess of $5 million, to the extent not covered by
insurance;
o any event that has caused a material adverse effect on Covanta;
o a change in control;
o the Intercreditor Agreement or any security agreement pertaining to
the Domestic Facilities ceases to be in full force and effect;
o certain terminations of material contracts; or
o any securities issuance or equity contribution which is reasonably
expected to have a material adverse effect on the availability of net
operating losses.
MATERIAL TERMS OF HIGH YIELD NOTES: Interest is due semi-annually in arrears on
the principal amount of the outstanding High Yield Notes at a rate of 8.25% per
annum. The High Yield Notes will be secured by a third priority lien on
Covanta's domestic assets. In addition, all or part of the High Yield Notes are
pre-payable by Covanta at par of 100% of the accreted value during the first two
years and at a premium starting at 104.625% of par and decreasing during the
remainder of the term of the High Yield Notes. There are no mandatory sinking
fund provisions. Upon the occurrence of a change of control event and certain
sales of assets, Covanta is obligated to offer to repurchase all or any part of
the High Yield Notes at 101% of par on the accreted value.
Covanta must comply with certain covenants, including among others:
o restrictions on the payment of dividends, the repurchase of stock, the
incurrence of indebtedness and liens and the repayment of subordinated
debt, unless certain specified financial and other conditions are met;
54
o restrictions on the sale of certain material amounts of assets or
securities, unless certain specified conditions are met;
o restrictions on material transactions with affiliates;
o limitations on engaging in new lines of business; and
o preserving its corporate existence and its material rights and
franchises.
The High Yield Notes shall become immediately due and payable in the event that
Covanta or certain of its affiliates become subject to specified events of
bankruptcy or insolvency, and shall become immediately due and payable, upon
action taken by the trustee under the indenture or holders of a certain
specified percentage of principal under outstanding High Yield Notes, in the
event that any of the following occurs after expiration of applicable cure
periods:
o a failure by Covanta to pay amounts due under the High Yield Notes or
certain other debt instruments;
o a judgment or judgments are rendered against Covanta that involve an
amount in excess of $10 million, to the extent not covered by
insurance; and
o a failure by Covanta to comply with its obligations under the
indenture relating to the High Yield Notes.
MATERIAL TERMS OF UNSECURED NOTES: Covanta has authorized the issuance of up to
$50 million in principal of Unsecured Notes. Interest will be payable
semi-annually at a rate of 7.5%. Annual amortization payments of approximately
$3.9 million will be paid beginning in 2006, with the balance due on maturity.
There are no mandatory sinking fund provisions and Covanta may redeem the
Unsecured Notes at any time without penalty or premium. Upon the occurrence of a
change of control event and certain sales of assets, Covanta is obligated to
offer to repurchase all or any part of the Unsecured Notes at 101% of par on the
accreted value.
Covanta must comply with certain covenants, including among others:
o restrictions on the payment of dividends, the repurchase of stock, the
incurrence of indebtedness and liens and the repayment of subordinated
debt, unless certain specified financial and other conditions are met;
o restrictions on the sale of certain material amounts of assets or
securities, unless certain specified conditions are met;
o restrictions on material transactions with affiliates; and
o preserving its corporate existence and its material rights and
franchises.
The Unsecured Notes shall become immediately due and payable in the event that
Covanta or certain of its affiliates become subject to specified events of
bankruptcy or insolvency, and shall become immediately due and payable, upon
action taken by the trustee under the indenture or holders of a certain
specified percentage or principal under outstanding Unsecured Notes, in the
event that any of the following occurs after expiration of applicable cure
periods:
o a failure by Covanta to pay amounts due under the High Yield Notes or
certain other debt instruments; and
o a failure by Covanta to comply with its obligations under the
indenture pertaining to the Unsecured Notes.
The Company believes its cash, together with cash generated from its domestic
businesses, will provide sufficient liquidity to meet its domestic operational
cash need and to pay scheduled debt service prior to maturity. The Company
believes that the Second Lien Facility will provide a secondary source of
liquidity. The Company believes that it will need to refinance its High Yield
Notes at maturity in seven years. There can be no assurance that such
refinancing can be achieved.
(B) CPIH FACILITIES
The CPIH Borrowers entered into two credit facilities. They entered into a new
revolving credit facility, which is secured by a pledge of the stock of CPIH and
a first priority lien on substantially all of the CPIH Borrowers' assets not
otherwise pledged. The revolver provides commitments for cash borrowings of up
to $10 million for purposes of supporting the international independent power
business. CPIH also entered into a term loan facility which is secured by a
second priority lien on the same collateral junior only the lien with respect to
the revolver. The CPIH term debt will be
55
in the original aggregate principal amount of $95 million, with a maturity date
of three years after the Effective Date.
The CPIH Borrowers also entered into the International Intercreditor Agreement,
with the respective lenders under the revolver and the term debt, and
Reorganized Covanta, that sets forth, among other things, certain provisions
regarding the application of payments made by the CPIH Borrowers among the
respective lenders and Reorganized Covanta and certain matters relating to the
exercise of remedies with respect to the collateral pledged under the loan
documents.
Certain Domestic Borrowers are guarantors of performance obligations of some
international projects or are the reimbursement parties with respect to letters
of credit issued to secure obligations relating to some international projects.
The International Intercreditor Agreement provides that the Domestic Borrowers
will be entitled to reimbursements of operating expenses incurred by the
Domestic Borrowers on behalf of the CPIH Borrowers and payments, if any, made
with respect to the above mentioned guarantees and reimbursement obligations.
MATERIAL TERMS OF THE CPIH FACILITIES: The CPIH revolving credit facility bears
interest at the rate of either (i) 7% over a base rate or (ii) 8% over a formula
Eurodollar rate, the applicable rate to be determined by CPIH (increasing by 2%
over the then applicable rate in specified default situations). CPIH also paid a
2% upfront fee ($200,000) upon entering into the revolving credit facility, and
will pay (i) a commitment fee equal to 0.5% per annum of the daily calculation
of available credit, and (ii) an annual agency fee of $30,000.
The CPIH term loan bears interest at 10.5%, 6.0% of such interest to be paid in
cash and the remaining 4.5% to be paid in cash to the extent available and
otherwise payable by adding it to the outstanding principal balance. The
interest rate increases to 12.5% in specified default situations.
The mandatory prepayment provisions, affirmative covenants, negative covenants
and events of default under the two international credit facilities are similar
to those found in the First Lien Facility and the Second Lien Facility.
The Company believes cash available to CPIH and its subsidiaries, together with
borrowing under the CPIH revolver will provide CPIH with sufficient liquidity to
meet its operational needs and pay required debt service due prior to maturity.
The Company believes that CPIH will need to refinance its indebtedness at
maturity in three years unless asset sales effected prior to such time are
sufficient to repay all CPIH indebtedness. There can be no assurance that CPIH
will be able to refinance such indebtedness at maturity or that such assets
sales will be sufficient to repay CPIH indebtedness prior to its maturity
(C) RELATIONSHIP BETWEEN DOMESTIC FACILITIES AND CPIH FACILITIES
The Domestic Facilities provide commitments to, and are obligations of, the
Domestic Borrowers and are without recourse to, the CPIH Borrowers. Similarly,
the CPIH Facilities provide commitments to, and are obligations of, the CPIH
Borrowers and are without recourse to the Domestic Borrowers. The Company will
establish separate cash management systems for its domestic and international
businesses. Cash distributions from CPIH are not available to Covanta or its
other domestic subsidiaries. Thus, until the CPIH Facilities or any replacement
thereof are paid in full, the assets and cash flow of CPIH is not available to
repay the Domestic Facilities.
OTHER:
HAVERHILL
The Company's Haverhill, Massachusetts waste-to-energy facility sells
electricity to USGenNE. On July 7, 2003, USGenNE and certain of its affiliates
filed a petition for relief under Chapter 11 of the United States Bankruptcy
Code. USGenNE owed approximately $1.3 million to the Company at the time of
USGenNE's petition. A reserve has been established for the entire receivable as
of December 31, 2003. The Company is closely monitoring this proceeding and is a
member of USGenNE's Official Committee of Unsecured Creditors. The impact, if
any, of the USGenNE bankruptcy on the Company's earnings, financial position,
and liquidity will depend upon how USGenNE treats its contract to purchase power
from the Haverhill project, which would otherwise expire in 2019. The Company
believes
56
that its contract provides for energy rates at or below both current and
projected market rates, and that it is possible that the contract will remain in
effect. Were the contract assumed or assumed and assigned on its current terms,
USGenNE would have to pay the current receivable and honor its contracted
obligations in the future. Thus, assumption on these terms would not have a
material impact on the Company. However, it is also possible that USGenNE would
seek to reject the contract or renegotiate it on less favorable terms to the
Company. If the contract were rejected, the Company's potential liability to
refund a prepayment made by USGenNE would be eliminated, and the Company would
seek to sell the project's electricity to a new purchaser at rates higher than
those paid by USGenNE. In such a circumstance, unless the Company is able to
enter into a long term contract with a new purchaser, the Haverhill project will
be subjected to greater market price risk for energy prices than previously was
the case. During the first quarter of 2004, the Company recognized a $138.3
million gain for tax purposes as a result of the termination of the tax
partnership holding the contract.
QUEZON POWER
Manila Electric Company ("Meralco"), the power purchaser for the Company's
Quezon Project, is engaged in discussions and legal proceedings with the
government of The Philippines relating to Meralco's financial condition. The
Quezon Project is currently in negotiations with Meralco to amend the Power
Purchase Agreement to address concerns about Meralco's ability to meet its
off-take obligations under that Agreement. Lenders to the Quezon Project have
expressed concern about the resolution of those matters, as well as compliance
with the Quezon Project operational parameters and the Quezon Project's failure
to obtain required insurance coverage, as these matters relate to requirements
under the applicable debt documents and have limited distributions from the
project pending resolutions of these matters. The Company, the Quezon project
participants, and the Quezon Project lenders have reached a tentative agreement
on amendments to the Quezon Project documents which address the issues relating
to operational matters and insurance coverage. The agreement is subject to
definitive documentation. Adverse developments in Meralco's financial condition
and with respect to finalization of the tentative agreement with the project
participants is not expected to adversely affect Covanta's liquidity, although
it may have a material affect on CPIH's ability to repay its debt described
above.
INSURANCE
The Company has obtained or is in the process of renewing insurance for its
assets and operations that provide coverage for what the Company believes are
probable maximum losses, subject to self-insured retentions, policy limits and
premium costs which the Company believes to be appropriate. However, the
insurance obtained does not cover the Company for all possible losses.
OFF BALANCE SHEET ARRANGEMENTS
During 2003, the Company was party to several lease arrangements with unrelated
parties under which it rents energy generating facilities. The Company generally
uses operating lease treatment for these arrangements. (See Note 27 to the
Consolidated Financial Statements for additional information regarding these
leases.)
The Company has investments in several investees and joint ventures accounted
for under the equity and cost method and therefore does not consolidate the
financial information of those companies. (See Note 5 to the Consolidated
Financial Statements for summarized financial information for those investees
and joint ventures.)
CRITICAL ACCOUNTING POLICIES
The Company prepares its Consolidated Financial Statements in accordance with
accounting principles generally accepted in the United States of America. The
preparation of financial statements requires management to make estimates and
assumptions that affect the reported amounts and classification of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Critical accounting policies are defined as those that are reflective of
significant judgments and uncertainties, and potentially could result in
materially different results under different conditions. The Company's critical
accounting policies include liabilities subject to compromise, revenue
recognition, management's estimated useful lives of long-lived assets, pension
plans, liabilities for
57
restructuring, litigation and other claims against the Company, and the
estimated fair value of the Company's assets and liabilities, including
guarantees. (See Note 33 to the Consolidated Financial Statements).
The Company's Consolidated Financial Statements also have been prepared in
accordance with The American Institute of Certified Public Accountants Statement
of Position 90-7 ("SOP 90-7"), "Financial Reporting by Entities in
Reorganization under the Bankruptcy Code." Accordingly, all pre-petition
liabilities believed to be subject to compromise have been segregated in the
Consolidated Balance Sheet and classified as Liabilities subject to compromise,
at the estimated amount of allowable claims. Revenues, expenses, including
professional fees, realized gains and losses, and provisions for losses
resulting from the reorganization are reported separately as Reorganization
Items. The amount of allowable claims may differ significantly from the amounts
for which these claims may be settled and settlement or resolution of disputed
claims are expected to occur during 2004.
SERVICE REVENUES: The Company's revenues are generally earned under contractual
arrangements. Service revenues include:
1) Fees earned under contract to operate and maintain waste to energy,
independent power and water facilities;
2) Fees earned to service Project debt (principal and interest) where
such fees are expressly included as a component on the service fee
paid by the Client Community pursuant to applicable waste to energy
Service Agreements. Regardless of the timing of amounts paid by Client
Communities relating to Project debt principal, the Company records
service revenue with respect to this principal component on a
levelized basis over the term of the Service Agreement. Long-term
unbilled service receivables related to waste to energy operations are
discounted in recognizing the present value for services performed
currently in order to service the principal component of the Project
debt;
3) Fees earned for processing waste in excess of Service Agreement
requirements;
4) Tipping fees earned under waste disposal agreements;
5) Other miscellaneous fees such as revenue for scrap metal recovered and
sold.
ELECTRICITY AND STEAM SALES: Revenues from the sale of electricity and steam are
earned at energy facilities and are recorded based upon output delivered and
capacity provided at rates specified under contract terms or prevailing market
rates net of amounts due to client communities under applicable Service
Agreements.
CONSTRUCTION REVENUES: Revenues under fixed-price contracts, including
construction, are recognized on the basis of the estimated percentage of
completion of services rendered. Anticipated losses are recognized as soon as
they become known.
A significant change in these revenue recognition policies, or a change in
accounting principles generally accepted in the United States could have an
impact on the Company's recorded operating results and financial condition.
ESTIMATED LIFE OF LONG-LIVED ASSETS: The Company evaluates long-lived assets
based on its projection of undiscounted cash flows whenever events or changes in
circumstances indicate that their carrying amounts may not be recoverable. The
projection of future undiscounted cash flows used to test recoverability of
long-lived assets is based on expected cash flows from the use and eventual
disposition of those long-lived assets. If the carrying value of such assets is
greater than the future undiscounted cash flows of those assets, the Company
would measure the impairment amount as the difference between the carrying value
of the assets and the discounted present value of the cash flows to be generated
by those assets. Long-lived assets to be disposed of are evaluated in relation
to the estimated fair value of such assets less costs to sell. A significant
reduction in actual cash flows and estimated cash flows could have a material
adverse effect on the carrying value of those assets and on the Company's
operating results and financial condition.
Property, plant and equipment is recorded at cost and is depreciated over its
estimated useful life. The estimated useful life of the Company's energy
generation facilities is up to 50 years. A significant decrease in the estimated
useful life of any individual facility or group of facilities could have a
material adverse impact on the Company's operating results in the period in
which the estimated useful life is revised and subsequent periods.
PENSION AND POSTRETIREMENT PLANS: The Company has pension and post-retirement
obligations and costs that are developed from actuarial valuations. Inherent in
these valuations are key assumptions including discount rates, expected
58
return on plan assets and medical trend rates. Changes in these assumptions can
result in different expense and liability amounts, and future actual experience
can differ from the assumptions. Changes are primarily influenced by factors
outside the Company's control and can have a significant effect on the amounts
reported in the financial statements.
LITIGATION: The Company is party to a number of claims, lawsuits and pending
actions, most of which are routine and all of which are incidental to its
businesses. The Company assesses the likelihood of potential losses on an
ongoing basis and when they are considered probable and reasonably estimable,
records an estimate of the ultimate outcome. If there is no single point
estimate of loss that is considered more likely than others, an amount
representing the low end of the range of possible outcomes is recorded.
See Note 1 to the Consolidated Financial Statements for a summary of additional
accounting policies and new accounting pronouncements.
CONTRACT STRUCTURES AND DURATION
The Company attempts to structure contracts related to its domestic
waste-to-energy projects as fixed price operating contracts which escalate in
accordance with indices the Company believes appropriate to reflect price
inflation, so that its revenue is relatively stable for the contract term. The
Company's returns will be similarly stable if it does not incur material
unexpected operation and maintenance or other expense. In addition, most of the
Company's waste-to-energy project contracts are structured so that contract
counterparties generally bear the costs associated with events or circumstances
not within the Company's control, such as uninsured force majeure events and
changes in legal requirements. The stability of the Company's domestic revenue
and returns could be affected by its ability to continue to enforce these
obligations. Also, at some of the Company's waste-to-energy facilities,
commodity price risk is further mitigated by passing through commodity costs to
contract counterparties. With respect to its domestic and international
independent power projects, such structural features generally do not exist
because either the Company operates and maintains such facilities for its own
account or does so on a cost-plus rather than a fixed fee basis.
Certain PPAs related to domestic projects provide for energy sales prices linked
to the "avoided costs" of producing such energy and, therefore, energy revenues
fluctuate with various economic factors. In most of the Company's waste to
energy projects, the operating subsidiary retains only a fraction of the energy
revenues (generally 10%) with the balance used to provide a credit to the Client
Community against its disposal costs. Therefore, the Client Community derives
most of the benefit and risk of changing energy prices. One of the Company's
waste-to-energy facilities sells electricity to the regional electricity grid
without a contract and is therefore subject to energy market price fluctuation.
At some of the Company's domestic and international independent power projects,
the Company's operating subsidiary purchases fuel in the open markets. The
Company is exposed to fuel price risk at these projects. At other plants, fuel
costs are contractually included in the Company's electricity revenues, or fuel
is provided by the Company's customers. In some of the Company's international
projects, the project entity (which in some cases is not a subsidiary of the
Company) has entered into long term fuel purchase contracts that protect the
project from changes in fuel prices, provided counterparties to such contracts
perform their commitments.
The Company's Service Agreements for domestic waste-to-energy projects begin to
expire in 2007, and energy sales contracts at Covanta-owned waste-to-energy
projects generally expire at or after the date on which that project's Service
Agreement expires. Expiration of these contracts will subject the Company to
greater market risk in maintaining and enhancing its revenues. As its Service
Agreements at municipally-owned projects expire, the Company will seek to enter
into renewal or replacement contracts to continue operating such projects. As
its Service Agreements at facilities it owns begin to expire, Covanta intends to
seek replacement or additional contracts for waste supplies, and because project
debt on these facilities will be paid off at such time, Covanta believes it will
be able to offer disposal services at rates that will attract sufficient
quantities of waste and provide acceptable revenues. The Company will seek to
bid competitively in the market for additional contracts to operate other
facilities as similar contracts of other vendors expire. At the Company's
domestic facilities, the expiration of existing energy sales contracts will
require the Company to sell project energy output either into the electricity
grid or pursuant to new contracts. There can be no assurance that Covanta will
be able to enter into such renewals, replacement or additional contracts, or
that the terms available in the market at the time will be favorable to the
Company.
The Company's opportunities for growth by investing in new domestic projects
will be limited by existing debt covenants, as well as by competition from other
companies in the waste disposal business. The Company intends to
59
pursue opportunities to expand the processing capacity where Client Communities
have encountered significantly increased waste volumes without corresponding
competitively-priced landfill availability. Other than expansions at existing
waste-to-energy projects, the Company does not expect to engage in material
development activity which will require significant equity investment. There can
be no assurance that the Company will be able to implement expansions at
existing facilities.
DANIELSON NOLS AVAILABILITY
The Company cannot be certain that the net operating loss carryforwards ("NOLs")
of Danielson will be available to offset the tax liability of Covanta and its
domestic subsidiaries. CPIH and its subsidiaries will not be consolidated with
the balance of the Company for federal income tax purposes. If the NOLs were not
available to offset the tax liability of the Company (other than CPIH), the
Company does not expect to have sufficient cash flow available to pay debt
service on the Domestic Facilities described above under Liquidity/Cash Flow.
Danielson expects, based on the Danielson Form 10-K for the fiscal year ended
December 31, 2003 filed with the SEC, to have NOLs estimated to be approximately
$652 million for federal income tax purposes as of the end of 2003. The NOLs
will expire in various amounts beginning on December 31, 2004 through December
31, 2023, if not used. The amount of NOLs available to Covanta will be reduced
by any taxable income generated by current members of Danielson's tax
consolidated group.
The existence and availability of Danielson's NOLs is dependent on factual and
substantive tax issues, including issues in connection with a 1990 restructuring
by Danielson. The Internal Revenue Service ("IRS") has not audited any of
Danielson's tax returns for the years in which the losses giving rise to the
NOLs were reported, and it could challenge any past and future use of the NOLs.
If the IRS were successful in challenging Danielson's NOLs, the NOLs would not
be available to offset future income of the Company. The Company has neither
requested nor received a ruling from the IRS or an opinion of tax counsel with
respect to the use and availability of the NOLs.
Under applicable tax law, the use and availability of Danielson's NOLs could be
limited if there is a more than 50% increase in stock ownership during a 3-year
testing period by stockholders owning 5% or more of Danielson's stock.
Danielson's Certificate of Incorporation contains stock transfer restrictions
that were designed to help preserve Danielson's NOLs by avoiding such an
ownership change. Danielson expects that they will remain in-force as long as
Danielson has NOLs. There can be no assurance, however, that these restrictions
will prevent such an ownership change.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In the normal course of business, the Company is party to financial instruments
that are subject to market risks arising from changes in interest rates, foreign
currency exchange rates, and commodity prices. The Company's use of derivative
instruments is very limited and it does not enter into derivative instruments
for trading purposes. The following analysis provides quantitative information
regarding the Company's exposure to financial instruments with market risks. The
Company uses a sensitivity model to evaluate the fair value or cash flows of
financial instruments with exposure to market risk that assumes instantaneous,
parallel shifts in exchange rates and interest rate yield curves. There are
certain limitations inherent in the sensitivity analysis presented, primarily
due to the assumption that exchange rates change in a parallel manner and that
interest rates change instantaneously. In addition, the fair value estimates
presented herein are based on pertinent information available to management as
of December 31, 2003. Further information is included in Note 33 to the
Consolidated Financial Statements.
INTEREST RATE RISK
The Company has long-term debt and Project debt outstanding bearing interest at
floating rates that could subject it to the risk of increased interest expense
due to rising market interest rates, or an adverse change in fair value due to
declining interest rates on fixed rate debt. Of the Company's total long-term
debt, approximately $11.6 million was floating rate at December 31, 2003. Of the
Project debt, approximately $263.1 million was floating rate at December 31,
2003. However, of that floating rate Project debt, $130.3 million related to
waste-to-energy projects where, because of their contractual structure, interest
rate risk is borne by Client Communities because debt service is passed through
to those clients. The Company had only one interest rate swap outstanding at
December 31, 2003 in the notional amount
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of $80.2 million related to floating rate project debt. Gains and losses on this
swap are for the account of the Client Community.
For floating rate debt, a 20 percent hypothetical increase in the underlying
December 31, 2003 market interest rates would result in a potential loss to
twelve month future earnings of $2.1 million. For fixed rate debt, the potential
reduction in fair value from a 20 percent hypothetical decrease in the
underlying December 31, 2003 market interest rates would be approximately $37.5
million. The fair value of the Company's fixed rate debt (including $764.1
million in fixed rate debt related to revenue bonds in which debt service is an
explicit component of the service fees billed to the Client Communities) was
$824.2 million at December 31, 2003, and was determined using average market
quotations of price and yields provided by investment banks.
FOREIGN CURRENCY EXCHANGE RATE RISK
The Company has investments in energy projects in various foreign countries,
including The Philippines, China, India and Bangladesh, and to a much lesser
degree, Italy, Spain, and Costa Rica. The Company does not enter into currency
transactions to hedge its exposure to fluctuations in currency exchange rates.
Instead, the Company attempts to mitigate its currency risks by structuring its
project contracts so that its revenues and fuel costs are denominated in U.S.
dollars. As a result, the U.S. dollar is the functional currency at most of the
Company's international projects. Therefore, only local operating expenses and
project debt denominated in other than a project entity's functional currency
are exposed to currency risks.
At December 31, 2003, the Company had $114.7 million of project debt related to
two diesel engine projects in India. Exchange rate fluctuations on $21.6 million
of the debt (related to a project entity whose functional currency is in the
U.S. dollar) are recorded as adjustments to the recorded amount of the debt and
foreign currency transaction gains and losses are included in Other-net in the
Statements of Consolidated Operations. For $61.9 million of the debt (related to
project entities whose functional currency is the Indian Rupee), exchange rate
fluctuations are recorded as translation adjustments to the cumulative
translation adjustment account within stockholders' deficit in the Company's
Consolidated Balance Sheets. The remaining $31.2 million of debt is denominated
in U.S. dollars.
The potential loss in fair value for such financial instruments from a 10%
adverse change in December 31, 2003 quoted foreign currency exchange rates would
be approximately $9.0 million.
Upon consummation of the Second Plan of Reorganization and the Danielson
transaction, these risks will be borne primarily by the CPIH Borrowers to the
extent they affect the cash flow available to the CPIH Borrowers to repay CPIH
indebtedness. These risks will continue to affect items reflected on the
Company's consolidated financial statements.
At December 31, 2003, the Company also had net investments in foreign
subsidiaries and projects. See Note 9 to the Consolidated Financial Statements
for further discussion.
COMMODITY PRICE RISK AND CONTRACT REVENUE RISK
The Company has not entered into futures, forward contracts, swaps or options to
hedge purchase and sale commitments, fuel requirements, inventories or other
commodities. Alternatively, the Company attempts to mitigate the risk of energy
and fuel market fluctuations by structuring contracts related to its energy
projects in the manner described above under Management's Discussion and
Analysis, Contract Structures and Duration.
Generally, the Company is protected against fluctuations in the waste disposal
market, and thus its ability to charge acceptable fees for its services, through
existing long-term disposal contracts ("Service Agreements") at its
waste-to-energy facilities. At three of its waste-to-energy facilities,
differing amounts of waste disposal capacity are not subject to long-term
contracts and, therefore, the Company is partially exposed to the risk of market
fluctuations in the waste disposal fees it may charge. The Company's Service
Agreements begin to expire in 2007, and energy sales contracts at Company-owned
projects generally expire at or after the date on which that project's Service
Agreement expires. Expiration of these contracts will subject the Company to
greater market risk in maintaining and enhancing its revenues. As its Service
Agreements at municipally-owned projects expire, the Company will seek to enter
into renewal or replacement contracts to continue operating such projects. As
the Company's Service Agreements at facilities it owns begin to expire, the
Company intends to seek replacement or additional contracts for waste supplies,
and because project debt on these facilities will be paid off at such time, the
Company expects to be able to offer disposal services at rates
61
that will attract sufficient quantities of waste and provide acceptable
revenues. The Company will seek to bid competitively in the market for
additional contracts to operate other facilities as similar contracts of other
vendors expire. At Company-owned facilities, the expiration of existing energy
sales contracts will require the Company to sell its output either into the
local electricity grid or pursuant to new contracts. There can be no assurance
that the Company will be able to enter into such renewals, replacement or
additional contracts, or that the terms available in the market at the time will
be favorable to the Company.
The Company's opportunities for growth by investing in new projects will be
limited by existing debt covenants, as well as by competition from other
companies in the waste disposal business. The Company intends to pursue
opportunities to expand the processing capacity where municipal clients have
encountered significantly increased waste volumes without corresponding
competitively-priced landfill availability. Other than expansions at existing
waste-to-energy projects, the Company does not expect to engage in material
development activity which will require significant equity investment. There can
be no assurance that the Company will be able to implement expansions at
existing facilities.
62
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA INDEX
Statements of Consolidated Operations and Comprehensive Income (Loss) for the
Years ended December 31, 2003, 2002, and 2001
Consolidated Balance Sheets - December 31, 2003 and 2002
Statements of Shareholders' Equity (Deficit) for the Years
ended December 31, 2003, 2002, and 2001
Statements of Consolidated Cash Flows
for the Years ended December 31, 2003, 2002 and 2001
Notes to Consolidated Financial Statements
Independent Auditors' Report
Report of Management
Quarterly Results of Operations
63
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED OPERATIONS
AND COMPREHENSIVE INCOME (LOSS)
- --------------------------------------------------------------------------------------------------------------------------
FOR THE YEARS ENDED DECEMBER 31, 2003 2002 2001
- --------------------------------------------------------------------------------------------------------------------------
(In Thousands of Dollars, Except Per Share Amounts)
Service revenues $ 499,245 $ 493,960 $ 560,771
Electricity and steam sales 277,766 289,281 231,603
Construction revenues 13,448 42,277 63,052
Other sales-net -- -- 31,343
Other revenues-net 9 263 30,877
----------- ----------- -----------
Total revenues 790,468 825,781 917,646
----------- ----------- -----------
Plant operating expenses 500,627 496,443 435,692
Construction costs 20,479 42,698 70,124
Depreciation and amortization 71,932 77,368 78,487
Debt service charges-net 76,770 86,365 85,924
Other operating costs and expenses 2,209 15,163 62,850
Net loss on sale of businesses and equity investments 7,246 1,943 2,768
Cost of goods sold -- -- 37,173
Selling, general and administrative expenses 35,639 54,329 78,805
Project development costs -- 3,844 33,326
Other expense-net (1,119) 16,008 29,914
Write-down of and obligations related to assets held for use 16,704 84,863 --
Write-downs and obligations related to assets held for sale -- -- 186,513
----------- ----------- -----------
Total costs and expenses
730,487 879,024 1,101,576
----------- ----------- -----------
Equity in income from unconsolidated investments 29,941 25,076 17,665
----------- ----------- -----------
Operating income (loss) 89,922 (28,167) (166,265)
Interest expense (net of interest income of $2,948, $2,472 and $8,164,
respectively, and
excluding post-petition contractual interest of $970 and $3,607 in 2003
and 2002, respectively) (36,990) (41,587) (39,306)
Reorganization items (83,346) (49,106) --
----------- ----------- -----------
Loss from continuing operations before income taxes, minority interests,
discontinued
operations and the cumulative effect of changes in accounting principles (30,414) (118,860) (205,571)
Income tax benefit 12,555 266 5,959
Minority interests
(8,905) (9,104) (6,074)
----------- ----------- -----------
Loss from continuing operations before discontinued
operations and change in accounting principles (26,764) (127,698) (205,686)
Gain (loss) from discontinued operations (net of income tax benefit
(expense) of ($16,147), $13,165 and $11,071, respectively) 78,814 (43,355) (25,341)
Cumulative effect of change in accounting principles (net of
income tax benefit of $5,532, zero and zero, respectively) (8,538) (7,842) --
----------- ----------- -----------
Net income (loss) 43,512 (178,895) (231,027)
----------- ----------- -----------
Other comprehensive income (loss), net of income tax:
Foreign currency translation adjustments (net of income
taxes of zero, $415 and $1,443, respectively) 2,743 (1,485) (3,976)
Less: reclassification adjustments for translation adjustments included in:
continuing operations (2,753) 1,233 7,048
discontinued operations -- 297 --
Unrealized holding gains (losses) arising during the year (net of income tax
(expense) benefit of ($262) and $112 in 2003 and 2002, respectively) 392 (167) --
Minimum pension liability adjustment -- 88 409
----------- ----------- -----------
Other comprehensive income (loss) 382 (34) 3,481
----------- ----------- -----------
Comprehensive income (loss) $ 43,894 $ (178,929) $ (227,546)
=========== =========== ===========
Basic income (loss) per share:
Loss from continuing operations $ (0.54) $ (2.56) $ (4.14)
Income (loss) from discontinued operations 1.58 (0.88) (0.51)
Cumulative effect of change in accounting principles
(0.17) (0.16) --
----------- ----------- -----------
Net income (loss) $ 0.87 $ (3.60) $ (4.65)
=========== =========== ===========
Diluted income (loss) per share:
Loss from continuing operations $ (0.54) $ (2.56) $ (4.14)
Income (loss) from discontinued operations 1.58 (0.88) (0.51)
Cumulative effect of change in accounting principles
(0.17) (0.16) --
----------- ----------- -----------
Net income (loss) $ 0.87 $ (3.60) $ (4.65)
=========== =========== ===========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
64
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
- ------------------------------------------------------------------------------------------
DECEMBER 31, 2003 2002
- ------------------------------------------------------------------------------------------
(In Thousands of Dollars, Except Share and Per Share
Amounts)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 289,424 $ 115,815
Restricted funds held in trust 79,404 92,039
Receivables (less allowances of $27,893 and $20,476, in 2003 230,093 259,082
and 2002 )
Deferred income taxes 9,763 11,200
Prepaid expenses and other current assets (less allowances
of $5,000 and zero in 2003 and 2002) 82,115 85,997
----------- -----------
TOTAL CURRENT ASSETS 690,799 564,133
Property, plant and equipment-net 1,453,354 1,661,863
Restricted funds held in trust 119,480 169,995
Unbilled service and other receivables (less allowances of
$5,026 and $2,957 in 2003 and 2002) 125,363 147,640
Unamortized contract acquisition costs-net 27,073 60,453
Other intangible assets-net 7,073 7,631
Investments in and advances to investees and joint ventures 137,374 166,465
Other assets 53,064 61,927
----------- -----------
TOTAL ASSETS $ 2,613,580 $ 2,840,107
=========== ===========
LIABILITIES AND SHAREHOLDERS' DEFICIT
LIABILITIES:
CURRENT LIABILITIES:
Current portion of long-term debt $ 9,492 $ 16,450
Current portion of project debt 99,216 115,165
Accounts payable 23,584 23,593
Accrued expenses 208,342 294,781
Deferred income 37,431 41,402
----------- -----------
TOTAL CURRENT LIABILITIES 378,065 491,391
Long-term debt 2,150 23,779
Project debt 933,185 1,128,217
Deferred income taxes 195,059 209,783
Deferred income 129,304 151,000
Other liabilities 78,358 80,369
Liabilities subject to compromise 956,095 892,012
----------- -----------
TOTAL LIABILITIES 2,672,216 2,976,551
----------- -----------
MINORITY INTERESTS 69,398 35,869
----------- -----------
SHAREHOLDERS' DEFICIT:
Serial cumulative convertible preferred stock, par value
$1.00 per share,
authorized, 4,000,000 shares; shares outstanding: 33,049
in 2003 2002 and 2002, net of treasury shares of 29,820
in 2003 and 2002 33 33
Common stock, par value $.50 per share; authorized,
80,000,000 shares;
outstanding: 49,824,251 in 2003 and 2002, net of treasury
shares of 4,125,350 in 2003 and 2002 24,912 24,912
Capital surplus 188,156 188,156
Notes receivable from key employees for common stock issuance (451) (870)
Unearned restricted stock compensation -- (54)
Deficit (340,661) (384,173)
Accumulated other comprehensive loss (23) (317)
----------- -----------
TOTAL SHAREHOLDERS' DEFICIT (128,034) (172,313)
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIT $ 2,613,580 $ 2,840,107
=========== ===========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
65
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
- -----------------------------------------------------------------------------------------------------------------------------------
FOR THE YEARS ENDED DECEMBER 31, 2003 2002 2001
- -----------------------------------------------------------------------------------------------------------------------------------
(In Thousands of Dollars, Except Share
and Per Share Amounts) SHARES AMOUNTS SHARES AMOUNTS SHARES AMOUNTS
SERIAL CUMULATIVE CONVERTIBLE PREFERRED
STOCK,
PAR VALUE $1.00 PER SHARE,
AUTHORIZED 4,000,000 SHARES:
Balance at beginning of year 62,869 $ 63 63,300 $ 64 65,402 $ 66
Shares converted into common stock -- -- (431) (1) (2,102) (2)
---------- ------------ ------------ ------------ ---------- ------------
Total 62,869 63 62,869 63 63,300 64
Treasury shares (29,820) (30) (29,820) (30) (29,820) (30)
---------- ------------ ------------ ------------ ---------- ------------
Balance at end of year (aggregate
involuntary liquidation value 2003, $666) 33,049 33 33,049 33 33,480 34
---------- ------------ ------------ ------------ ---------- ------------
COMMON STOCK, PAR VALUE $.50 PER SHARE,
AUTHORIZED, 80,000,000 SHARES:
Balance at beginning of year 53,949,601 26,975 53,947,026 26,974 53,910,574 26,956
Exercise of stock options -- -- -- -- 23,898 12
Conversion of preferred shares -- -- 2,575 1 12,554 6
---------- ------------ ------------ ------------ ---------- ------------
Total 53,949,601 26,975 53,949,601 26,975 53,947,026 26,974
---------- ------------ ------------ ------------ ---------- ------------
Treasury shares at beginning of year 4,125,350 2,063 4,111,950 2,056 4,265,115 2,133
Exercise of stock options -- -- -- -- (38,966) (20)
Issuance (cancellation) of restricted stock -- -- 13,400 7 (114,199) (57)
---------- ------------ ------------ ------------ ---------- ------------
Treasury shares at end of year 4,125,350 2,063 4,125,350 2,063 4,111,950 2,056
---------- ------------ ------------ ------------ ---------- ------------
Balance at end of year 49,824,251 24,912 49,824,251 24,912 49,835,076 24,918
---------- ------------ ------------ ------------ ---------- ------------
CAPITAL SURPLUS:
Balance at beginning of year 188,156 188,371 185,681
Exercise of stock options -- -- 776
Conversion of preferred shares -- -- (4)
Issuance (cancellation) of restricted stock (215) 1,918
------------ ------------ ------------
Balance at end of year 188,156 188,156 188,371
------------ ------------ ------------
NOTES RECEIVABLE FROM KEY EMPLOYEES FOR
COMMON STOCK ISSUANCE:
Balance at beginning of year (870) (870) (870)
Settlement 419 -- --
------------ ------------ ------------
Balance at end of year (451) (870) (870)
------------ ------------ ------------
UNEARNED RESTRICTED STOCK COMPENSATION:
Balance at beginning of year (54) (664) --
Issuance (cancellation) of restricted common stock -- 222 (1,567)
Amortization of unearned restricted stock compensation 54 388 903
------------ ------------ ------------
Balance at end of year -- (54) (664)
--------- --------- ---------
EQUITY (DEFICIT):
Balance at beginning of year (384,173) (205,262) 25,829
Net income (loss) 43,512 (178,895) (231,027)
------------ ------------ ------------
Total (340,661) (384,157) (205,198)
------------ ------------ ------------
Preferred dividends-per share of zero, $.46875,
and $1.875, respectively 16 64
------------ ------------ ------------
Balance at end of year (340,661) (384,173) (205,262)
------------ ------------ ------------
CUMULATIVE TRANSLATION ADJUSTMENT:
Balance at beginning of year (238) (283) (3,355)
Foreign currency translation adjustments 2,743 (1,485) (3,976)
Less reclassification adjustments for translation
adjustments included in:
gain (loss) from continuing operations (2,753) 1,233 7,048
gain from discontinued operations -- 297 --
------------ ------------ ------------
Balance at end of year (248) (238) (283)
------------ ------------ ------------
MINIMUM PENSION LIABILITY ADJUSTMENT:
Balance at beginning of year 88 -- (409)
Minimum pension liability adjustment (88) 88 409
------------ ------------ ------------
Balance at end of year -- 88 --
------------ ------------ ------------
NET UNREALIZED GAIN (LOSS) ON SECURITIES
AVAILABLE FOR SALE:
Balance at beginning of year (167) -- --
Gain (loss) for year 392 (167) --
------------ ------------ ------------
Balance at end of year 225 (167) --
------------ ------------ ------------
ACCUMULATED OTHER COMPREHENSIVE LOSS (23) (317) (283)
------------ ------------ ------------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT) $(128,034) $(172,313) $ 6,244
============ ============ ============
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
66
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
STATEMENTS OF CONSOLIDATED CASH FLOWS
- --------------------------------------------------------------------------------------------------------------------
FOR THE YEARS ENDED DECEMBER 31, 2003 2002 2001
- --------------------------------------------------------------------------------------------------------------------
(In Thousands of Dollars)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 43,512 $(178,895) $(231,027)
Adjustments to Reconcile Net Income (Loss) to Net Cash
Provided by Operating Activities of Continuing Operations:
Loss (gain) from discontinued operations (78,814) 43,355 25,341
Reorganization items 83,346 49,106 --
Payment of reorganization items (57,034) (26,928) --
Depreciation and amortization 71,932 77,368 78,487
Deferred income taxes (17,909) 3,376 (20,749)
Provision for doubtful accounts 10,241 20,013 14,212
Bank fees -- 23,685 14,684
Write-down of and obligations related to assets held for sale -- -- 186,513
Write-downs and obligations related to assets held for use 16,704 84,863 --
Equity in income from unconsolidated investments (29,941) (25,076) (17,665)
Cumulative effect of change in accounting principles, net of income taxes 8,538 7,842 --
Other 15,279 (13,003) 37,208
Management of Operating Assets and Liabilities:
Decrease (Increase) in Assets:
Receivables 866 24,215 (56,207)
Other assets 10,803 (504) (20,087)
Increase (Decrease) in Liabilities:
Accounts payable 23,150 33,571 (15,749)
Accrued expenses (73,240) 853 32,235
Deferred income (693) (2,815) (15,349)
Other liabilities 7,662 (53,543) 17,495
--------- --------- ---------
Net cash provided by operating activities
of continuing operations 34,402 67,483 29,342
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sale of businesses 33,171 18,871 34.904
Proceeds from sale of property, plant, and equipment 406 988 915
Proceeds from sale of marketable securities available for sale 564 646 584
Proceeds from sale of investment 493 -- --
Investments in facilities (21,174) (18,164) (51,951)
Other capital expenditures (980) (3,103) (9,442)
Increase in other receivables -- -- 2,011
Distributions from investees and joint ventures 11,511 27,863 31,182
Increase in investments in and advances to investees and joint ventures -- (296) (18,576)
--------- --------- ---------
Net cash provided by (used in) investing activities of continuing operations 23,991 26,805 (10,373)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings for facilities 3,768 -- --
New borrowings 6,794 6,102 18,174
Decrease (increase) in restricted funds held in trust 42,092 (9,549) (6,925)
Decrease in restricted cash -- -- 194,118
Proceeds from exercise of stock options -- -- 808
Payment of debt (149,956) (120,924) (271,867)
Dividends paid -- (16) (64)
Other (5,265) (4,087) (4,075)
--------- --------- ---------
Net cash used in financing activities of continuing operations (102,567) (128,474) (69,831)
--------- --------- ---------
Net cash provided by discontinued operations 217,783 63,228 56,992
--------- --------- ---------
NET INCREASE IN CASH AND CASH EQUIVALENTS 173,609 29,042 6,130
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 115,815 86,773 80,643
--------- --------- ---------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 289,424 $ 115,815 $ 86,773
========= ========= =========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
67
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION: The Consolidated Financial Statements include the
accounts of Covanta Energy Corporation (Debtor in Possession) ("Covanta") and
its subsidiaries (collectively, "the Company"). In March 2001, Covanta changed
its name from Ogden Corporation to Covanta Energy Corporation. The Company
develops, constructs, owns and operates for others key infrastructure for the
conversion of waste to energy, independent power production and the treatment of
water and waste water in the United States and abroad. Companies in which the
Company has equity investments of 20% to 50% are accounted for using the equity
method since the Company has the ability to exercise significant influence over
their operating and financial policies. Those companies in which the Company
owns less than 20% are accounted for using the cost method. All intercompany
transactions and balances have been eliminated.
BASIS OF ACCOUNTING: On March 10, 2004, the Company consummated a plan of
reorganization and except for six subsidiaries, emerged from its reorganization
proceeding under Chapter 11 of the United States Bankruptcy Code (the
"Bankruptcy Code"). As a result of the consummation of the plan (further
described below), Covanta is a wholly owned subsidiary of Danielson Holding
Corporation, a Delaware corporation ("Danielson"). The Chapter 11 proceedings
commenced on April 1, 2002 (the "First Petition Date"), when Covanta and 123 of
its domestic subsidiaries filed voluntary petitions for relief under Chapter 11
of the Bankruptcy Code in the United States Bankruptcy Court for the Southern
District of New York (the "Bankruptcy Court"). After the First Petition Date,
thirty-two additional subsidiaries filed their Chapter 11 petitions for relief
under the Bankruptcy Code. Eight subsidiaries that had filed petitions on the
First Petition Date were sold as part of the Company's disposition of assets
during the bankruptcy cases and are no longer owned by the Company. All of the
bankruptcy cases (the "Chapter 11 Cases") were jointly administered under the
caption "In re Ogden New York Services, Inc., et al., Case Nos. 02-40826 (CB),
et al." During the Chapter 11 Cases, the debtors in the proceeding
(collectively, the "Debtors") operated their business as debtors-in-possession
pursuant to the Bankruptcy Code. International operations and certain other
subsidiaries and joint venture partnerships were not included in the bankruptcy
filings.
The Financial Statements have been prepared on a "going concern" basis in
accordance with accounting principles generally accepted in the United States of
America. The "going concern" basis of presentation assumes that the Company will
continue in operation for the foreseeable future and will be able to realize its
assets and discharge its liabilities in the normal course of business. The
Company's ability to continue as a "going concern" is subject to substantial
doubt and is dependent upon, among other things, (i) the Company's ability to
utilize the net operating loss carry forwards ("NOLs") of Danielson, and (ii)
the Company's ability to generate sufficient cash flows from operations, asset
sales and financing arrangements to meet its obligations. There can be no
assurances that this can be accomplished and if it were not, the Company's
ability to realize the carrying value of its assets and discharge its
liabilities would be subject to uncertainty. Therefore, if the "going concern"
basis were not used for the Consolidated Financial Statements, significant
adjustments could be necessary to the carrying values of assets and liabilities,
the revenues and expenses reported, and the balance sheet classifications used.
See Note 2, for additional information about the Company's Reorganization Plan.
The Company's Consolidated Financial Statements also have been prepared in
accordance with The American Institute of Certified Public Accountants Statement
of Position 90-7 ("SOP 90-7"), "Financial Reporting by Entities in
Reorganization under the Bankruptcy Code." Accordingly, all pre-petition
liabilities believed to be subject to compromise have been segregated in the
Consolidated Balance Sheets and classified as Liabilities subject to compromise,
at the estimated amount of allowable claims. Liabilities not believed to be
subject to compromise are separately classified as current and non-current.
Revenues, expenses, including professional fees, realized gains and losses, and
provisions for losses resulting from the reorganization are reported separately
as Reorganization Items. Also, interest expense is reported only to the extent
that it will be paid during the Chapter 11 Cases or that it is probable that it
will be an allowed claim. Cash used for reorganization items is disclosed
separately in the Statements of Consolidated Cash Flows. The consolidated
financial statements do not reflect fresh start adjustments which will be
adopted on the emergence date.
68
USE OF ESTIMATES: The preparation of financial statements requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the consolidated financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates. Significant estimates include estimated useful lives of long-lived
assets, liabilities for restructuring, litigation and other claims against the
Company and the fair value of the Company's assets and liabilities, including
guarantees.
CASH AND CASH EQUIVALENTS: Cash and cash equivalents include all cash balances
and highly liquid investments having original maturities of three months or
less.
MARKETABLE SECURITIES: Marketable securities are classified as available for
sale and recorded at current market value. Net unrealized gains and losses on
marketable securities available for sale are credited or charged to Other
Comprehensive Income (Loss) (see Note 6).
SERVICE REVENUES: The Company's revenues are generally earned under contractual
arrangements. Service revenues include:
1) Fees earned under contract to operate and maintain waste to energy,
independent power and water facilities;
2) Fees earned to service Project debt (principal and interest) where
such fees are expressly included as a component on the service fee
paid by the Client Community pursuant to applicable waste to energy
Service Agreements. Regardless of the timing of amounts paid by Client
Communities relating to Project debt principal, the Company records
service revenue with respect to this principal component on a
levelized basis over the term of the Service Agreement. Long-term
unbilled service receivables related to waste to energy operations are
discounted in recognizing the present value for services performed
currently in order to service the principal component of the Project
debt. Such unbilled receivables amounted to $115.3 million and $134.9
million at December 31, 2003 and 2002, respectively;
3) Fees earned for processing waste in excess of Service Agreement
requirements;
4) Tipping fees earned under waste disposal agreements;
5) Other miscellaneous fees such as revenue for scrap metal recovered and
sold.
ELECTRICITY AND STEAM SALES: Revenue from the sale of electricity and steam are
earned at energy facilities and are recorded based upon output delivered and
capacity provided at rates specified under contract terms or prevailing market
rates net amounts due to Client Communities under applicable Service Agreements.
CONSTRUCTION REVENUES: Revenues under fixed-price contracts, including
construction, are recognized on the basis of the estimated percentage of
completion of services rendered. Anticipated losses are recognized as soon as
they become known.
OTHER SALES-NET: Other sales-net in 2001 included the sale of product by
subsidiaries, mainly a contract computer equipment manufacturer, in the Other
segment. Sales were recognized when goods were shipped to customers and title
and risk of loss for such goods passed to those customers. No goods were shipped
on consignment.
OTHER REVENUES-NET: Other revenues-net for 2001 primarily included amounts
related to insurance proceeds resulting from the settlement of certain legal
matters related to a policy which insured that an energy facility purchased by
the Company would produce minimum quantities of steam.
PROPERTY, PLANT AND EQUIPMENT: Property, plant, and equipment is stated at cost.
For financial reporting purposes, depreciation is calculated by the
straight-line method over the estimated useful lives of the assets, which range
generally from three years for computer equipment to 50 years for
waste-to-energy facilities. Accelerated depreciation is generally used for
Federal income tax purposes. Leasehold improvements are amortized by the
straight-line method over the terms of the leases or the estimated useful lives
of the improvements as appropriate. Landfill costs are amortized based on the
quantities deposited into each landfill compared to the total estimated capacity
of such landfill.
CONTRACT ACQUISITION COSTS: Contract acquisition costs are capitalized for
external costs incurred to acquire the rights to design, construct and operate
waste-to-energy and water treatment facilities and are amortized over the life
of the contracts. Contract acquisition costs are presented net of accumulated
amortization of $46.6 million and $55.1 million at December 31, 2003 and 2002,
respectively.
69
BOND ISSUANCE COSTS: Costs incurred in connection with the issuance of bonds are
amortized using the effective interest rate method over the terms of the
respective debt issues. Unamortized bond issuance costs are included in Other
assets on the Consolidated Balance Sheets.
RESTRICTED FUNDS: Restricted funds held in trust are primarily amounts received
by third party trustees relating to projects owned by the Company, and which may
be used only for specified purposes. The Company generally does not control
these accounts. They include debt service reserves for payment of principal and
interest on project debt, deposits of revenues received with respect to projects
prior to their disbursement as provided in the relevant indenture or other
agreements, lease reserves for lease payments under operating leases, and
proceeds received from financing the construction of energy facilities. Such
funds are invested principally in United States Treasury bills and notes and
United States government agencies securities.
DEFERRED FINANCING COSTS: Costs incurred in connection with obtaining financing
are capitalized and amortized straight line over the terms of the related
financings. Unamortized deferred financing costs are included in Other assets on
the Consolidated Balance Sheets.
PROJECT DEVELOPMENT COSTS: The Company capitalizes project development costs
once it is determined that it is probable that such costs will be realized
through the ultimate construction of a plant. These costs include outside
professional services, permitting expense and other third party costs directly
related to the development of a specific new project. Upon the start-up of plant
operations or the completion of an acquisition, these costs are generally
transferred to property, plant and equipment and are amortized over the
estimated useful life of the related project or charged to construction costs in
the case of a construction contract for a facility owned by a municipality.
Capitalized project development costs are charged to expense when it is
determined that the related project is impaired.
PENSION AND POSTRETIREMENT PLANS: The Company has pension and post-retirement
obligations and costs that are developed from actuarial valuations. Inherent in
these valuations are key assumptions including discount rates, expected return
on plan assets and medical trend rates. Changes in these assumptions are
primarily influenced by factors outside the Company's control and can have a
significant effect on the amounts reported in the financial statements.
OTHER INTANGIBLE ASSETS: These assets are amortized by the straight-line method
over periods ranging from 15 to 25 years. Intangibles of $7.1 million and $7.6
million at December 31, 2003 and 2002, respectively, are net of accumulated
amortization of $1.9 million and $1.4 million, respectively (see Note 11). Also
see Changes in Accounting Principles and New Accounting Pronouncements below
regarding the change in accounting for goodwill and other intangible assets.
INTEREST RATE SWAP AGREEMENTS: The fair value of interest rate swap agreements
are recorded as assets and liabilities, with changes in fair value during the
year credited or charged to debt service revenue or debt service charges, as
appropriate.
INCOME TAXES: During the periods covered by the Consolidated Financial
Statements, the Company filed a consolidated Federal income tax return, which
included all eligible United States subsidiary companies. Foreign subsidiaries
were taxed according to regulations existing in the countries in which they do
business. Provision has not been made for United States income taxes on income
earned by foreign subsidiaries as the income is considered to be permanently
invested overseas.
LONG-LIVED ASSETS: The Company accounts for the impairment of long-lived assets
to be held and used by evaluating the carrying value of its long-lived assets in
relation to the operating performance and future undiscounted cash flows of the
underlying businesses when indications of impairment are present. If the
carrying value of such assets is greater than the anticipated future
undiscounted cash flows of those assets, the Company would measure and record
the impairment amount, if any, as the difference between the carrying value of
the assets and the fair value of those assets.
FOREIGN CURRENCY TRANSLATION: For foreign operations, assets and liabilities are
translated at year-end exchange rates and revenues and expenses are translated
at the average exchange rates during the year. Gains and losses resulting from
foreign currency translation are included in the Statements of Consolidated
Operations and Comprehensive Income (Loss) as a component of other comprehensive
income (loss). For subsidiaries whose functional currency is deemed to be other
than the U.S. dollar, translation adjustments are included as a separate
component of other comprehensive
70
income (loss) and shareholders' equity (deficit). Currency transaction gains and
losses are recorded in Other-net in the Statements of Consolidated Operations
and Comprehensive Income (Loss).
EARNINGS PER SHARE: Basic Earnings (Loss) per Share is represented by net income
(loss) available to common shareholders divided by the weighted-average number
of common shares outstanding during the period. Diluted earnings (loss) per
share reflects the potential dilution that could occur if securities or stock
options were exercised or converted into common stock during the period, if
dilutive (see Note 28).
CHANGES IN ACCOUNTING PRINCIPLES AND NEW ACCOUNTING PRONOUNCEMENTS:
In May 2003, the Financial Accounting Standards Board (the "FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 150, "Accounting for
Certain Financial Instruments with Characteristics of both Liabilities and
Equity" ("SFAS No. 150"). SFAS No. 150 establishes standards for how an issuer
classifies and measures in its statement of financial position certain financial
instruments with characteristics of both liabilities and equity. It requires
that an issuer classify a financial instrument that is within its scope as a
liability because that financial instrument embodies an obligation of the
issuer. The requirements of SFAS No. 150 are effective for financial instruments
entered into or modified after May 31, 2003. For financial instruments created
prior to the issuance date of SFAS No. 150, transition shall be achieved by
reporting the cumulative effect of a change in accounting principle. The Company
adopted the provisions of SFAS No. 150 on July 1, 2003, without impact on its
financial position or results of operations.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities" ("SFAS No. 149"). SFAS No. 149
amends and clarifies the accounting and reporting for derivative instruments,
including certain derivatives embedded in other contracts, and for hedging
activities under SFAS No. 133, "Accounting for Derivatives Instruments and
Hedging Activities" ("SFAS No. 133"). The amendments in SFAS No. 149 require
that contracts with comparable characteristics be accounted for similarly. SFAS
No. 149 clarifies under what circumstances a contract with an initial net
investment meets the characteristics of a derivative according to SFAS No. 133
and when a derivative contains a financing component that warrants special
reporting in the statement of cash flows. In addition, SFAS No. 149 amends the
definition of an "underlying" to conform it to language used in FIN No. 45 (see
below) and amends certain other existing pronouncements. The provisions of SFAS
No. 149 that relate to SFAS No. 133 "Implementation Issues" that have been
effective for periods that began prior to June 15, 2003, should continue to be
applied in accordance with their respective effective dates. The requirements of
SFAS No. 149 are effective for contracts entered into or modified after June 30,
2003 and for hedging relationships designated after June 30, 2003. The Company
adopted the provisions of SFAS No. 149 on July 1, 2003 without impact on its
financial position or results of operations.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN No. 46"). FIN No. 46 clarifies the application
of Accounting Research Bulletin No. 51, "Consolidated Financial Statements," and
applies immediately to any variable interest entities created after January 31,
2003 and to variable interest entities in which an interest is obtained after
that date. FIN No. 46 was revised in December 2003 and is applicable for the
Company on January 1, 2004 for interests acquired in variable interest entities
prior to February 1, 2003. The Company does not expect the adoption of FIN No.
46 to have an impact on its financial position or results of operations.
The Company adopted SFAS No. 143, "Accounting for Asset Retirement Obligations"
("SFAS No. 143"), effective January 1, 2003. Under SFAS No. 143, entities are
required to record the fair value of a legal liability for an asset retirement
obligation in the period in which it is incurred. The Company's legal
liabilities include capping and post-closure costs of landfill cells and site
restoration at certain waste-to-energy and power producing sites. When a new
liability for asset retirement obligations is recorded, the entity capitalizes
the costs of the liability by increasing the carrying amount of the related
long-lived asset. The liability is accreted to its present value each period,
and the capitalized cost is depreciated over the useful life of the related
asset. At retirement, an entity settles the obligation for its recorded amount
or incurs a gain or loss. The Company adopted SFAS No. 143 on January 1, 2003
and recorded a cumulative effect of change in accounting principle of $ 8.5
million, net of a related tax benefit of $ 5.5 million.
71
The following table summarizes the impact on the Company's Balance Sheet
following the adoption of SFAS No. 143 (in thousands):
Change
Balance at resulting from Balance at
December 31, application of January 1,
2002 SFAS NO. 143 2003
----------- ------------ -----------
Property, plant and equipment $ 2,378,672 $ 6,509 $ 2,385,181
Less: Accumulated depreciation (716,809) (2,935) (719,744)
----------- ----------- -----------
Net property, plant and equipment $ 1,661,863 $ 3,574 $ 1,665,437
Investments in and advances to investees and joint ventures
$ 166,465 $ (1,223) $ 165,242
Deferred income tax liability $ 249,600 $ (5,532) $ 244,068
Non-current asset retirement obligation $ -- $ 19,136 $ 19,136
Non-current other liabilities $ 80,369 $ (2,536) $ 77,833
Minority interest $ 35,869 $ (179) $ 35,690
The change to the non-current asset retirement obligation for 2003 is as follows
(in thousands):
Non-current
asset retirement
obligation
Balance at December 31, 2002 $ --
Asset retirement obligation
as of January 1, 2003 19,136
Accretion expense 1,345
Less obligation related to assets sold (See Note 3) (2,094)
--------
Balance at December 31, 2003 $ 18,387
========
The asset retirement obligation is included in other liabilities on the
consolidated balance sheet. The following table summarizes the pro forma impact
to net income (loss) and income (loss) per common share for the years ended
December 31, 2003, 2002, and 2001 as if the Company adopted SFAS No. 143 as of
January 1 (in thousands of dollars, except per share amounts):
YEAR ENDED DECEMBER 31,
2003 2002 2001
- -------------------------------------------------------------------------------------------------------------------
Loss from continuing operations before discontinued operations
and the change in accounting principles, as reported $ (26,764) $ (127,698) $ (205,686)
Gain (loss) from discontinued operations 78,814 (43,355) (25,341)
Cumulative effect of change in accounting principles -- (7,842) --
Deduct:
SFAS No. 143 depreciation and accretion expense -- (1,356) (1,356)
----------- ----------- -----------
Pro forma income (loss) $ 52,050 $ (180,251) $ (232,383)
=========== =========== ===========
Basis income (loss) per share:
Loss from continuing operations before discontinued
operations and the change in accounting principles, per share $ (0.54) $ (2.56) $ (4.14)
=========== =========== ===========
Income (loss) from discontinued operations $ 1.58 $ (0.87) $ (0.51)
=========== =========== ===========
Cumulative effect of change in accounting principles $ -- $ (0.16) $ --
=========== =========== ===========
Net income (loss) pro forma $ 1.04 $ (3.62) $ (4.68)
=========== =========== ===========
Diluted income (loss) per share:
Loss from continuing operations before discontinued
operations and the change in accounting principles, per share $ (0.54) $ (2.56) $ (4.14)
=========== =========== ===========
Income (loss) from discontinued operations $ 1.58 $ (0.87) $ (0.51)
=========== =========== ===========
Cumulative effect of change in accounting principles $ -- $ (0.16) $ --
=========== =========== ===========
Net income (loss) pro forma $ 1.04 $ (3.62) $ (4.68)
=========== =========== ===========
72
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. In addition, SFAS No. 148 amends the disclosure requirements of
SFAS No. 123 "Accounting for Stock-Based Compensation" (SFAS No. 123), to
require prominent disclosures in annual and interim financial statements about
the method of accounting for stock-based employee compensation and the effect in
measuring compensation expense. The disclosure requirements of SFAS No. 148 are
effective for periods beginning after December 15, 2002. At December 31, 2003,
the Company has three stock-based employee compensation plans, which are
described more fully in Note 20. The Company accounts for those plans under the
recognition and measurement provision of APB Opinion No. 25, "Accounting for
Stock Issued to Employees", and related Interpretations. No stock-based employee
compensation cost is reflected in 2003, 2002 and 2001 net income (loss), as all
options granted under those plans had an exercise price equal to the market
value of the underlying common stock on the date of grant. No options were
granted in 2003 or 2002. Awards under the Company's plans vest over periods
ranging from three to five years. Therefore, the cost related to stock-based
employee compensation included in the determination of net income (loss) for
2003, 2002 and 2001 is less than that which would have been recognized if the
fair value based method had been applied to all awards since the original
effective date of SFAS No. 123.
The following table summarizes the pro forma impact on net income (loss) and
income (loss) per common share for the years ended December 31, 2003, 2002, and
2001 including the effect on net income (loss) and income (loss) per share if
the fair value based method had been applied to all outstanding and unvested
awards in each period (in thousands, except per share amounts):
YEAR ENDED DECEMBER 31,
2003 2002 2001
----------- ----------- -----------
Net income (loss), as reported $ 43,512 $ (178,895) $ (231,027)
Deduct:
SFAS No. 123 total stock based employee
compensation expense determined under the fair value
method for all awards, net of related tax effects (2,975) (4,933) (3,772)
----------- ----------- -----------
Pro forma net income (loss) $ 40,537 $ (183,828) $ (234,799)
=========== =========== ===========
Basic income (loss), per share:
Basic - as reported $ 0.87 $ (3.60) $ (4.65)
=========== =========== ===========
Basic - pro forma $ 0.81 $ (3.69) $ (4.73)
=========== =========== ===========
Diluted income (loss), per share:
Diluted - as reported $ 0.87 $ (3.60) $ (4.65)
=========== =========== ===========
Diluted - pro forma $ 0.81 $ (3.69) $ (4.73)
=========== =========== ===========
As noted above, no options were granted in 2003 or 2002. Compensation expense,
under the fair value method shown in the table above has been determined
consistent with the provisions of SFAS No. 123 using the binomial option-pricing
model with the following assumptions: dividend yield of 0% in 2001; volatility
of 42.47% in 2001, risk-free interest rate of 5.8% in 2001; and weighted average
expected life of 6.5 years in 2001.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others - an interpretation of FASB Statements No. 5, 57, and 107
and rescission of FASB Interpretation No. 34" ("FIN No. 45"). FIN No. 45
elaborates on the disclosures to be made by a guarantor in its interim and
annual financial statements about its obligations under certain guarantees that
it has issued. FIN No. 45 also clarifies that a guarantor is required to
recognize, at the inception of a guarantee covered by FIN No. 45, a liability
for the fair value of the obligation undertaken in issuing the guarantee. FIN
No. 45 does not prescribe a specific approach for subsequently measuring the
guarantor's recognized liability over the term of the related guarantee. FIN No.
45 also incorporates, without change, the guidance in FASB Interpretation No.
34, "Disclosure of Indirect Guarantees of Indebtedness of Others," which is
superseded. The initial recognition and initial
73
measurement provisions of FIN No. 45 are applicable on a prospective basis to
guarantees issued or modified after December 31, 2002, irrespective of the
guarantor's fiscal year-end. The requirements in FIN No. 45 are effective for
financial statements of interim or annual periods ending after December 15,
2002. The Company has adopted the requirements of FIN No. 45 which did not have
an effect on the Company's financial position or results of operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities" ("SFAS No. 146"). SFAS No. 146 addresses
financial accounting and reporting for costs associated with exit or disposal
activities and 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)". The
provisions of SFAS No. 146 are effective for exit or disposal activities
initiated after December 31, 2002. Previously issued financial statements shall
not be restated. The provisions of EITF Issue No. 94-3 shall continue to apply
for an exit activity initiated under an exit plan that met the criteria of that
issue prior to the initial application of SFAS No. 146. The adoption on January
1, 2003 of SFAS No. 146 did not have an effect on the Company's financial
position or results of operations.
On June 30, 2002, the Company completed the required impairment evaluation of
goodwill in conjunction with its adoption of SFAS No. 142, "Goodwill and Other
Intangible Assets" ("SFAS No. 142"). As a result of the risks and other
conditions in its energy business and based upon the expected present value of
future cash flows, the Company determined that $7.8 million of goodwill related
to its energy business was impaired and was therefore written-off. As required
by SFAS No. 142, this adjustment has been accounted for as a cumulative effect
of a change in accounting principle as of January 1, 2002, and had no tax
impact. (See Note 11).
In April 2002, the FASB issued SFAS No. 145, "Rescission of SFAS No. 4
("Reporting Gains and Losses from Extinguishment of Debt"), No. 44 ("Accounting
for Intangible Assets of Motor Carriers") and No. 64 ("Extinguishments of Debt
Made to Satisfy Sinking-Fund Requirements"), Amendment of SFAS No. 13
("Accounting for Leases") and Technical Corrections" ("SFAS No. 145"). The
provisions of SFAS No. 145 related to the rescission of SFAS No. 4 require
application in fiscal years beginning after May 15, 2002. Any gain or loss on
extinguishment of debt that was classified as an extraordinary item in prior
periods presented that does not meet the current criteria for classification as
an extraordinary item shall be reclassified. The provisions of this statement
related to SFAS No. 13 and the technical corrections are effective for
transactions occurring after May 15, 2002. All other provisions of SFAS No. 145
shall be effective for financial statements issued on or after May 15, 2002. The
Company adopted the provisions of SFAS No. 145 on December 1, 2002, without
impact on its financial position or results of operations.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets" ("SFAS No. 144"). The Company adopted SFAS No.
144 on January 1, 2002. SFAS No. 144 replaces SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of,"
and establishes accounting and reporting standards for long-lived assets,
including assets held for sale. SFAS No. 144 requires that assets held for sale
be measured at the lower of carrying amount or fair value less associated
selling expenses. It also broadens this reporting to include all components of
an entity with operations that can be distinguished from the rest of the entity
that will be eliminated from the ongoing operations of the entity in a disposal
transaction. SFAS No. 144 did not have a material effect at the date of
adoption.
On January 1, 2001, the Company adopted SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS No. 133"), which as amended and
interpreted, establishes accounting and reporting standards for derivative
instruments, including certain derivatives embedded in other contracts, and for
hedging activities. All derivatives are required to be recorded in the
Consolidated Balance Sheet as either an asset or liability measured at fair
value, with changes in fair value recognized currently in earnings unless
specific hedge accounting criteria are met. Special accounting for qualifying
hedges allows derivative gains and losses to offset related results on the
hedged items in the Statements of Consolidated Operations and Comprehensive
Income (Loss), and requires that a company must formally document, designate,
and assess the effectiveness of derivatives that receive hedge accounting.
The Company's policy is to enter into derivatives only to protect the Company
against fluctuations in interest rates and foreign currency exchange rates as
they relate to specific assets and liabilities. The Company's policy is to not
enter into derivative instruments for speculative purposes.
The Company identified all derivatives within the scope of SFAS No. 133. The
adoption of SFAS No. 133 did not have a material impact on the results of
operations of the Company and increased both assets and liabilities recorded on
the
74
balance sheet by approximately $12.3 million on January 1, 2001. The $12.3
million relates to the Company's interest rate swap agreement that economically
fixes the interest rate on $80.2 million of adjustable rate revenue bonds
reported in the Project Debt category "Revenue Bonds Issued by and Prime
Responsibility of Municipalities." The asset and liability recorded on January
1, 2001 were increased by $6.8 million during the years ended December 31, 2002
and 2001 to adjust for an increase in the swap's fair value to $19.1 million at
December 31, 2002. The carrying value of this asset and liability decreased to
$16.7 million at December 31, 2003. (See Notes 10 and 18.)
In June 2001, the FASB issued SFAS No. 141, "Business Combinations" ("SFAS No.
141"). SFAS No. 141 requires the use of the purchase method of accounting for
business combinations initiated after June 30, 2001 and prohibits the use of the
pooling-of-interests method. The adoption of SFAS No. 141 had no impact on the
Company's financial position or results of operations.
RECLASSIFICATION: Certain prior year amounts have been reclassified in the
Consolidated Financial Statements to conform with the current year presentation.
2. REORGANIZATION
REORGANIZATION:
Prior to the Effective Date of the Company's Reorganization Plan,, the Debtors
acted as debtors-in-possession and were authorized to continue to operate as an
ongoing business, but could not engage in transactions outside the ordinary
course of business without the approval of the Bankruptcy Court. The Debtors
obtained numerous orders from the Bankruptcy Court that were intended to enable
the Debtors to operate in the normal course of business during the Chapter 11
Cases. Among other things, these orders authorized: (i) the retention of
professionals to represent and assist the Debtors in the Chapter 11 Cases, (ii)
the use and operation of the Debtors' consolidated cash management system during
the Chapter 11 Cases in substantially the same manner as it was operated prior
to the commencement of the Chapter 11 Cases, (iii) the payment of prepetition
employee salaries, wages, health and welfare benefits, retirement benefits and
other employee obligations, (iv) the payment of prepetition obligations to
certain critical vendors to aid the Debtors in maintaining the operation of
their businesses, (v) the use of cash collateral and the grant of adequate
protection to creditors in connection with such use, (vi) the adoption of
certain employee benefit plans, and (vii) the obtaining of post-petition
financing.
With respect to post-petition financing, the Debtors entered into the DIP
Financing Facility with the DIP Lenders as of April 1, 2002. On April 5, 2002,
the Bankruptcy Court issued an interim order approving the DIP Financing
Facility and on May 15, 2002, a final order approving the DIP Financing
Facility. On August 2, 2002, the Court issued an order that overruled objections
by holders of minority interests in two Debtor limited partnerships who disputed
the inclusion of the limited partnerships in the DIP Financing Facility.
Although the holders of such interests at one of the limited partnerships
appealed the order, they reached an agreement with the Company that in effect
deferred the appeal. The DIP Financing Facility is described in Note 17 to the
Consolidated Financial Statements.
Pursuant to the Bankruptcy Code, pre-petition obligations of the Debtors,
including obligations under debt instruments, generally could not be enforced
against the Debtors, and any actions to collect pre-petition indebtedness were
automatically stayed, unless the stay was lifted by the Bankruptcy Court. The
obligations of, and the ultimate payments by, the Debtors under pre-petition
commitments were substantially altered in the course of the Chapter 11 cases.
This resulted in claims being liquidated in Chapter 11 Cases at less than their
face value or being paid other than in cash. However, as authorized by the
Bankruptcy Court, debt service continued to be paid on the Company's Project
debt throughout the Chapter 11 Case.
After the First Petition Date, the Debtors disposed of their non-core
businesses. With approval of the Bankruptcy Court, the Debtors sold the
remaining aviation fueling assets, their interests in Casino Iguazu and La Rural
Fairgrounds and Exhibition Center in Argentina (together, the "Argentine
Assets"). The Debtors have also closed a transaction pursuant to which they have
been released from their management obligations, and the Debtors have realized
and compromised their financial obligations, in connection with the Arrowhead
Pond Arena in Anaheim, California ("Arrowhead Pond," and with the Corel Centre,
the "Arenas"). See the discussion in Note 3 for a description of material
non-core business dispositions that occurred.
75
In addition, in order to enhance the value of the Company's core business, on
September 23, 2002, management announced a reduction in non-plant personnel,
closure of satellite development offices and reduction in all other costs not
directly related to maintaining operations at their current high levels. As part
of the reduction in force, waste-to-energy and domestic independent power
headquarters management were combined and numerous other structural changes were
instituted in order to improve management efficiency (see Note 25).
DEVELOPMENTS IN PROJECT RESTRUCTURINGS
The Debtors and contract parties have reached agreement with respect to material
restructuring of their mutual obligations in connection with the waste-to-energy
projects and the water project described below. The Debtors were also involved
in material disputes and/or litigation with respect to the waste-to-energy
projects in Warren County, New Jersey and Lake County, Florida. Please see the
discussions below for possible ramifications if agreement is not reached in
these restructurings.
1. WARREN COUNTY, NEW JERSEY
The Covanta subsidiary ("Covanta Warren") which operates the Company's
waste-to-energy facility in Warren County, New Jersey (the "Warren Facility")
and the Pollution Control Financing Authority of Warren County ("Warren
Authority") have been engaged in negotiations for an extended time concerning a
potential restructuring of the parties' rights and obligations under various
agreements related to Covanta Warren's operation of the Warren Facility. Those
negotiations were in part precipitated by a 1997 federal court of appeals
decision invalidating certain of the State of New Jersey's waste-flow laws,
which resulted in significantly reduced revenues for the Warren Facility. Since
1999, the State of New Jersey has been voluntarily making all debt service
payments with respect to the project bonds issued to finance construction of the
Warren Facility, and Covanta Warren has been operating the Warren Facility
pursuant to an agreement with the Warren Authority which modifies the existing
Service Agreement for the Warren Facility. During the fourth quarter of 2003
Covanta Warren filed an election with the Internal Revenue Service to be treated
for tax purposes as a C Corporation. By doing this taxable income was recognized
and a stepped up tax basis in the underlying assets was achieved.
Although discussions continue, to date Covanta Warren and the Warren Authority
have been unable to reach an agreement to restructure the contractual
arrangements governing Covanta Warren's operation of the Warren Facility. The
Warren Authority has indicated that a consensual restructuring of the parties'
contractual arrangements may be possible in 2004. In addition, the Warren
Authority has agreed to release approximately $1.2 million being held in escrow
to Covanta Warren so that Covanta Warren may perform an environmental retrofit
during 2004. Based upon the foregoing and internal projections which indicate
that Covanta Warren may not operate at a loss next year, the Debtors have
determined not to propose a plan of reorganization or plan of liquidation for
Covanta Warren at this time, and instead have determined that Covanta Warren
should remain a debtor-in-possession after the Second Plans are confirmed.
In order to emerge from bankruptcy without uncertainty concerning potential
claims against Covanta related to the Warren Facility, Covanta will reject its
guarantees of Covanta Warren's obligations relating to the operation and
maintenance of the Warren Facility. The Debtors anticipate that if a
restructuring is consummated, reorganized Covanta may at that time issue a new
parent guarantee in connection with that restructuring and emergence from
bankruptcy.
In the event the parties are unable to timely reach agreement upon and
consummate a restructuring of the contractual arrangements governing Covanta
Warren's operation of the Warren Facility, the Debtors may, among other things,
elect to litigate with counterparties to certain agreements with Covanta Warren,
assume or reject one or more executory contracts related to the Warren Facility,
attempt to file a plan of reorganization on a non-consensual basis, or liquidate
Covanta Warren. In such an event, creditors of Covanta Warren may not receive
any recovery on account of their claims.
The Company expects that the outcome of this restructuring will not negatively
affect its ability to implement its business plan.
2. ONONDAGA COUNTY, NEW YORK
76
Shortly before the First Petition Date, the Onondaga County Resource Recovery
Agency ("OCRRA") purported to terminate the Service Agreement between OCRRA and
Covanta Onondaga, LP ("Covanta Onondaga") relating to the waste-to-energy
facility in Onondaga County, New York (the "Onondaga Facility"). The alleged
termination was based upon Covanta's failure to provide a letter of credit
following its downgrade by rating agencies. Covanta Onondaga challenged that
purported termination by OCRRA. The dispute between Covanta Onondaga and OCRRA
concerning that termination, as well as disputes concerning which court would
decide that dispute, was litigated in state court and several bankruptcy,
district and appellate federal courts.
The Company, OCRRA and certain bondholders and limited partners have reached an
agreement to resolve their disputes. The Bankruptcy Court entered an order
approving that compromise and restructuring on October 9, 2003. That agreement
provides for the continued operation of the Onondaga Facility by Covanta
Onondaga, as well as numerous modifications to agreements relating to the
Onondaga Facility, including: (i) the restructuring of the bonds issued to
finance development and construction of the Onondaga Facility; (ii) reduction in
the amount of the service fee payable to Covanta Onondaga; (iii) elimination of
the requirement that Covanta provide credit support, and a reduction in the
maximum amount of the parent company guarantee; and (iv) material amendments to
the agreements between Covanta Onondaga's third party limited partners and the
Company. The Onondaga restructuring was completed in October 2003, resulting in
the refinancing of $134.0 million of Project debt and a net gain of $3.9 million
was classified as a Reorganization item.
3. CITY OF TULSA, OKLAHOMA
Prior to October 2003, Covanta Tulsa, Inc. ("Covanta Tulsa") operated the
waste-to-energy facility located in Tulsa, Oklahoma (the "Tulsa Facility")
pursuant to a Service Agreement with the Tulsa Authority for Recovery of Energy
which expires in 2007. Covanta leased the facility from CIT Group/Capital
Finance, Inc. ("CIT") under a long-term lease expiring in 2012 (the "CIT
Lease"). Covanta Tulsa sought to restructure its contractual arrangements with
CIT related to Covanta Tulsa's operation of the Tulsa Facility, which was
projected to become unprofitable for Covanta Tulsa absent such a restructuring,
but those negotiations failed. As a result, the Debtors terminated business
operations at the Tulsa Facility, turned over the Tulsa Facility to CIT and
rejected the CIT Lease and certain other agreements relating to the Tulsa
Facility.
CIT has asserted a material claim against Covanta, as guarantor of Covanta
Tulsa's obligations and it may attempt to assert material administrative claims
against Covanta Tulsa. Other than the administrative claim of CIT, the Debtors
are not anticipating that any other claims will be filed with respect to Covanta
Tulsa. Covanta Tulsa is a liquidating Debtor under the Reorganization Plan.
Covanta Tulsa has been reported as discontinued operations and includes a net
loss of $38.6 million on the termination of the Service Agreement, which is
primarily due to CIT's unsecured claim of $57.9 million for the rejection of the
lease.
4. HENNEPIN COUNTY, MINNESOTA
On June 11, 2003, the Company received Bankruptcy Court approval to restructure
certain agreements relating to the Company's waste-to-energy project at
Hennepin, Minnesota. The elements of the restructuring are: (i) the purchase by
Hennepin County of the ownership interests of General Electric Capital
Corporation and certain of its affiliates ("GECC") in the operating facility,
(ii) the termination of certain leases, the existing Service Agreement and
certain financing and other agreements; (iii) entry into a new Service Agreement
and related agreements, which reduces Hennepin County's payment obligations
under the Service Agreement to the Company's subsidiary operating the facility
and requires that subsidiary to provide a letter of credit in an initial amount
of $25 million and then declining after the Company emerges from the bankruptcy
process; (iv) the refinancing of bonds issued in connection with the development
and construction of the project; and (v) assumption and assignment to Hennepin
County of certain interests in the project's electricity sale agreement. The
Hennepin restructuring was completed in July 2003, resulting in a restructuring
charge of $15.4 million.
5. UNION COUNTY, NEW JERSEY
On June 19, 2003, Debtor Covanta Union, Inc. ("Covanta Union") received
Bankruptcy Court approval to restructure certain agreements relating to the
Debtors' waste-to-energy facility at Rahway, Union County, New Jersey (the
"Union Facility"), and to settle certain disputes with the Union County
Utilities Authority (the "Union Authority") related to Covanta Union's operation
of the Union Facility. The restructuring facilitates the Union Authority's
implementation of
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a solid waste flow control program and accounts for the impact of recent court
decisions upon the agreements between Covanta Union and the Union Authority. Key
elements of the restructuring include: (i) modifying the existing project
agreements between Covanta Union and the Union Authority and (ii) executing a
settlement agreement and a release and waiver with the Union Authority resolving
disputes that had arisen between Covanta Union and the Union Authority regarding
unpaid fees. The Union restructuring was completed in July 2003.
6. TOWN OF BABYLON, NEW YORK
The Town of Babylon, New York ("Babylon") filed a proof of claim against Covanta
Babylon, Inc. ("Covanta Babylon") for approximately $13.4 million in
pre-petition damages and $5.5 million in post-petition damages, alleging that
Covanta Babylon has accepted less waste than required under the Service
Agreement between Babylon and Covanta Babylon, and that Covanta's Chapter 11
proceeding imposed on Babylon additional costs for which Covanta Babylon should
be responsible. The Company filed an objection to Babylon's claim, asserting
that it is in full compliance with the express requirements of the Service
Agreement and was entitled to adjust the amount of waste it is required to
accept to reflect the energy content of the waste delivered. Covanta Babylon
also asserted that the costs arising from its Chapter 11 proceeding are not
recoverable by Babylon. After lengthy discussions, Babylon and Covanta Babylon
reached a settlement in principle pursuant to which, in part, (i) the parties
shall amend the Service Agreement to adjust Covanta Babylon's operational
procedures for accepting waste, reduce Covanta Babylon's waste processing
obligations, increase Babylon's additional waste service fee to Covanta Babylon,
and reduce Babylon's annual operating and maintenance fee to Covanta Babylon;
(ii) Covanta Babylon will pay a specified amount to Babylon in consideration for
a release of any and all claims (other than its rights under the settlement
documents) that Babylon may hold against the Company and in satisfaction of
Babylon's administrative expense claims against Covanta Babylon; and (iii)
allocates additional costs relating to the swap financing as a result of Covanta
Babylon's Chapter 11 proceedings until such costs are eliminated. The
restructuring became effective on March 12, 2004. A settlement charge of $2.7
million was recorded in reorganization items for 2003.
7. LAKE COUNTY, FLORIDA
In late 2000, Lake County, Florida ("Lake County") commenced a lawsuit in
Florida state court against Covanta Lake, Inc. ("Covanta Lake") relating to the
waste-to-energy facility operated by Covanta in Lake County, Florida (the "Lake
Facility"). In the lawsuit, Lake County sought to have its Service Agreement
with Covanta Lake declared void and in violation of the Florida Constitution.
That lawsuit was stayed by the commencement of the Chapter 11 Cases. Lake County
subsequently filed a proof of claim seeking in excess of $80 million from
Covanta Lake and Covanta.
After months of negotiations that failed to produce a settlement between Covanta
Lake and Lake County, on June 20, 2003, Covanta Lake filed a motion with the
Bankruptcy Court seeking entry of an order (i) authorizing Covanta Lake to
assume, effective upon confirmation of a plan of reorganization for Covanta
Lake, its Service Agreement with Lake County, (ii) finding no cure amounts due
under the Service Agreement, and (iii) seeking a declaration that the Service
Agreement is valid, enforceable and constitutional, and remains in full force
and effect. Contemporaneously with the filing of the assumption motion, Covanta
Lake filed an adversary complaint asserting that Lake County is in arrears to
Covanta Lake in the amount of more than $8.5 million. Shortly before trial
commenced in these matters, the Debtors and Lake County reached a tentative
settlement calling for a new agreement specifying the parties' obligations and
restructuring of the project. That tentative settlement and the proposed
restructuring will involve, among other things, termination of the existing
Service Agreement and the execution of a new waste disposal agreement which
shall provide for a put-or-pay obligation on Lake County's part to deliver
163,000 tons per year of acceptable waste to the Lake Facility and a different
fee structure; a replacement guarantee from Covanta in a reduced amount; the
payment by Lake County of all amounts due as "pass through" costs with respect
to Covanta Lake's payment of property taxes; the payment by Lake County of a
specified amount in each of 2004, 2005 and 2006 in reimbursement of certain
capital costs; the settlement of all pending litigation; and a refinancing of
the existing bonds.
The Lake settlement is contingent upon, among other things, receipt of all
necessary approvals, as well as a favorable outcome to the Debtors' pending
objection to the proof of claims filed by F. Browne Gregg, a third-party
claiming an interest in the existing Service Agreement that would be terminated
under the proposed settlement. On November 3-5, 2003, the Bankruptcy Court
conducted a trial on Mr. Gregg's proofs of claim. At issue in the trial was
whether Mr. Gregg is entitled to damages as a result of Covanta Lake's proposed
termination of the existing Service Agreement and entry into a waste disposal
agreement with Lake County. As of March 22, 2004, the Bankruptcy Court has not
ruled on the Debtors' claims objections. Based on the foregoing and internal
projections which indicate that Covanta Lake likely
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will not operate at a loss next year, the Debtors have determined not to propose
a plan of reorganization or plan of liquidation for Covanta Lake at this time,
and instead that Covanta Lake should remain a debtor-in-possession after the
effective date of the Reorganization Plan.
To emerge from bankruptcy without uncertainty concerning potential claims
against Covanta related to the Lake Facility, Covanta has rejected its
guarantees of Covanta's obligations relating to the operation and maintenance of
the Lake Facility. The Debtors anticipate that if a restructuring is
consummated, reorganized Covanta may at that time issue new parent guarantees in
connection with that restructuring and emergence from bankruptcy.
Depending upon the ultimate resolution of these matters with Mr. Gregg and the
County, Covanta Lake may determine to assume or reject one or more executory
contracts related to the Lake Facility, terminate the Service Agreement with
Lake County for its breaches and default and pursue litigation against Lake
County and/or Mr. Gregg. Depending on how Covanta Lake determines to proceed,
creditors of Covanta Lake may not receive any recovery on account of their
claims.
8. TAMPA WATER FACILITY
During 2003 Covanta Tampa Construction, Inc. ("CTC"), completed construction of
a 25 million gallon per day desalination-to-drinking water facility (the "Tampa
Water Facility") under a contract with TBW near Tampa, Florida. Covanta Energy
Group, Inc., guaranteed CTC's performance under its construction contract with
TBW. A separate subsidiary, Covanta Tampa Bay, Inc. ("CTB"), entered into a
contract with TBW to operate the Tampa Water Facility after construction and
testing is completed by CTC.
As construction of the Tampa Water Facility neared completion, the parties had
material disputes between them, primarily relating to (i) whether CTC has
satisfied acceptance criteria for the Tampa Water Facility; (ii) whether TBW has
obtained certain permits necessary for CTC to complete start-up and testing, and
for CTB to subsequently operate the Tampa Water Facility; (iii) whether influent
water provided by TBW for the Tampa Water Facility is of sufficient quality to
permit CTC to complete start-up and testing, or to permit CTB to operate the
Tampa Water Facility as contemplated and (iv) if and to the extent that the
Tampa Water Facility cannot be optimally operated, whether such shortcomings
constitute defaults under CTC's agreements with TBW.
In October 2003, TBW issued a default notice to CTC, indicated that it intended
to commence arbitration proceedings against CTC, and further indicated that it
intended to terminate CTC's construction agreement. As a result, on October 29,
2003, CTC filed a voluntary petition for relief under chapter 11 of the
Bankruptcy Code in order to, among other things, prevent attempts by TBW to
terminate the construction agreement between CTC and TBW. On November 14, 2003,
TBW commenced an adversary proceeding against CTC and filed a motion seeking a
temporary restraining order and preliminary injunction directing that possession
of the Tampa Water Facility be turned over to TBW. On November 25, 2003, the
Bankruptcy Court denied the motion for a temporary restraining order and
preliminary injunction and ordered, among other things, that the parties attempt
to resolve their disputes in a non-binding mediation.
In February 2004 the Company and TBW agreed to a compromise of their disputes
which has been approved by the Bankruptcy Court, subject to confirmation of an
acceptable plan of reorganization for CTC and CTB, which were not included in
the Reorganization Plan. Under this compromise, all contractual relationships
between the Company and TBW will be terminated, CTC will operate and maintain
the facility for a limited transition period, for which CTC will be compensated,
and the responsibility for optimization and operation of the Tampa Water
Facility will be transitioned to TBW or a new, non-affiliated operator. In
addition, TBW will pay $4.95 million to or for the benefit of CTC, of which up
to $550,000 is earmarked for the payment of claims under the subcontracts
previously assigned by the Company to TBW. The settlement funds ultimately would
be distributed to creditors and equity holders of CTC and CTB pursuant to a plan
of reorganization or liquidation for CTC and CTB.
Depending upon, among other things, whether the parties are able to successfully
effect the settlement described above, the Company may, among other things,
commence additional litigation against TBW, assume or reject one or more
executory contracts related to the Tampa Water Facility, or propose liquidating
plans and/or file separate plans of reorganization for CTB and/or CTC. In such
an event, creditors of CTC and CTB may not receive any recovery on account of
their claims.
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A charge of $9.1 million was recorded in construction costs which consists of
$5.0 million for reserve against retainage receivables and $4.1 million in
additional costs associated with the termination.
The Company expects that the outcome of these disputes will not negatively
affect its ability to implement its plan of reorganization.
DEVELOPMENTS IN PLAN OF REORGANIZATION
Over the course of the Chapter 11 Cases, the Company held discussions with the
Official Committee of Unsecured Creditors (the "Creditors Committee"),
representatives of certain of the Company's prepetition bank lenders and other
lenders (the "DIP Lenders" and together with the Company's pre-petition bank
lenders, the "Secured Bank Lenders") under the DIP Financing Facility, as
discussed below, and the holders of the 9.25% Debentures with respect to
possible capital and debt structures for the Debtors and the formulation of a
plan of reorganization
On December 2, 2003, Covanta and Danielson entered into an Investment and
Purchase Agreement (as amended, the "DHC Agreement"). The DHC Agreement provided
for:
o Danielson to purchase 100% of the equity in Covanta for $30 million as part
of a plan of reorganization (the "DHC Transaction");
o agreement as to new revolving credit and letter of credit facilities for
the Company's domestic and international operations, provided by certain of
the Secured Bank Lenders and a group of additional lenders organized by
Danielson; and
o execution and consummation of the Tax Sharing Agreement between Danielson
and Covanta (the "Tax Sharing Agreement"), pursuant to which Covanta's
share of Danielson's consolidated group tax liability for taxable years
ending after consummation of the DHC Transaction will be computed taking
into account net operating losses of Danielson, and Danielson will have an
obligation to indemnify and hold harmless Covanta for certain excess tax
liability.
The Company determined that the DHC Transaction was in the best interests of
their estates and their creditors, and was preferable to other alternatives
under consideration because it provided:
o a more favorable capital structure for the Company upon emergence from
Chapter 11;
o the injection of $30 million in equity from Danielson;
o enhanced access to capital markets through Danielson;
o diminished syndication risk in connection with the Company's financing
under the exit financing agreements; and
o reduced exposure of the Secured Bank Lenders as a result of financing
arranged by new lenders.
On March 5, 2004, the Bankruptcy Court entered an order confirming the Company's
plan of reorganization premised on the DHC Transaction (the "Reorganization
Plan") and liquidation for certain of those Debtors involved in non-core
businesses (the "Liquidation Plan"). On March 10, 2004 both plans were effected
upon the consummation of the DHC Transaction (the plans of reorganization and
liquidation collectively, the "Reorganization Plan") . The following is a
summary of material provisions of the Reorganization Plan. The Debtors owning or
operating the Company's Warren County, New Jersey, Lake County, Florida, and
Tampa Bay, Florida projects remain debtors-in-possession (the "Remaining
Debtors"), and are not the subject of either Plan.
The Reorganization Plan provides for, among other things, the following
distributions:
(i) Secured Lender and 9.25% Debenture Holder Claims
On account of their allowed secured claims, the Secured Lenders and the 9.25%
Debenture holders received, in the aggregate, a distribution consisting of:
o the cash available for distribution after payment by the Company of exit
costs necessary to confirm the Amended Plans and establishment of required
reserves pursuant to the Reorganization Plan,
o new high-yield secured notes issued by Covanta and guaranteed by its
subsidiaries (other than Covanta Power International Holdings, Inc.
("CPIH") and its subsidiaries) which are not contractually prohibited from
incurring or
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guaranteeing additional debt (Covanta and such subsidiaries, the "Domestic
Borrowers") with a stated maturity of seven years (the "High Yield Notes"), and
o a term loan of CPIH with a stated maturity of 3 years.
Additionally, the Reorganization Plan incorporates the terms of a pending
settlement of litigation that had been commenced during the Chapter 11 Cases by
the Creditors Committee challenging the validity of the lien asserted on behalf
of the holders of the 9.25% Debentures (the "9.25% Debenture Adversary
Proceeding"). Pursuant to the settlement, holders of general unsecured claims
against the Company are entitled to receive 12.5% of the value that would
otherwise be distributable to the holders of 9.25% Debenture claims that
participate in the settlement.
(ii) Unsecured Claims against Operating Company Subsidiaries
The holders of allowed unsecured claims against any of the Company's operating
subsidiaries will receive new unsecured notes in a principal amount equal to the
amount of their allowed unsecured claims with a stated maturity of 8 years (the
"Unsecured Notes").
(iii) Unsecured Claims against Covanta and Holding Company Subsidiaries
The holders of allowed unsecured claims against Covanta or certain of its
holding company subsidiaries will receive, in the aggregate, a distribution
consisting of (i) $4 million in principal amount of Unsecured Notes, (ii) a
participation interest equal to 5% of the first $80 million in net proceeds
received in connection with the sale or other disposition of CPIH and its
subsidiaries, and (iii) the recoveries, if any, from avoidance actions not
waived under the Reorganization Plan that might be brought on behalf of the
Company. As described above, each holder of an allowed unsecured claim against
Covanta or certain of its holding company subsidiaries is entitled to receive
its pro-rata share of 12.5% of the value that would otherwise be distributable
to the holders of 9.25% Debenture claims that participate in the settlement of
the 9.25% Debenture Adversary Proceeding pursuant to the Reorganization Plan.
(iv) Subordinated Claims of Holders of Convertible Subordinated Debentures
The holders of Covanta's Convertible Subordinated Debentures did not receive any
distribution or retain any property pursuant to the proposed Reorganization
Plan. The Convertible Subordinated Debentures were cancelled as of March 10,
2004, the Effective Date of the Reorganization Plan.
(v) Equity interests of common and preferred stockholders
The holders of Covanta's preferred and common stock outstanding immediately
before consummation of the DHC Transaction did not receive any distribution or
retain any property pursuant to the Reorganization Plan. The preferred stock and
common stock was cancelled as of March 10, 2004, the effective date of the
Reorganization Plan.
The Reorganization Plan provides for the complete liquidation of those of the
Company's subsidiaries that have been designated as liquidating entities.
Substantially all of the assets of these liquidating entities have already been
sold. Under the Reorganization Plan the creditors of the liquidating entities
will not receive any distribution other than those administrative creditors with
respect to claims against the liquidating entities that have been incurred in
the implementation of the Reorganization Plan and priority claims required to be
paid under the Bankruptcy Code.
As a result of the consummation of the DHC Transaction, the Company emerged from
bankruptcy with a new debt structure. Domestic Borrowers have two credit
facilities:
o a letter of credit facility (the "First Lien Facility"), for the issuance
of a letter of credit in the amount up to $139 million required in
connection with a waste-to-energy facility, and
o a letter of credit and liquidity facility (the "Second Lien Facility"), in
the aggregate amount of $118 million, up to $10 million of which shall also
be available for cash borrowings on a revolving basis and the balance for
letters of credit.
Both facilities have a term of five years, and are secured by the assets of the
Domestic Borrowers not otherwise pledged. The lien of the Second Lien Facility
is junior to that of the First Lien Facility.
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The Domestic Borrowers also issued the High Yield Notes and issued or will issue
the Unsecured Notes. The High Yield Notes are secured by a third priority lien
in the same collateral securing the First Lien Facility and the Second Lien
Facility. The High Yield Notes were issued in the initial principal amount of
$205 million, which will accrete to $230 million at maturity in seven years.
Unsecured Notes in a principal amount of $4 million were issued on the effective
date of the Reorganization Plan, and the Company expects to issue additional
Unsecured Notes in a principal amount of between $30 and $35 million including
additional Unsecured Notes that may be issued to holders of allowed claims
against the Remaining Debtors if and when they emerge from bankruptcy. The final
principal amount of all Unsecured Notes will be equal to the amount of allowed
unsecured claims against the Company's operating subsidiaries which were
reorganizing Debtors, and such amount will be determined when such claims are
resolved through settlement or further proceedings in the Bankruptcy Court.
Notwithstanding the date on which Unsecured Notes are issued, interest on the
Unsecured Notes accrues from March 10, 2004. Covanta may issue Tax Notes in an
aggregate principal amount equal to the aggregate amount of allowed priority tax
claims with a maturity six years after the date of assessment. Interest will be
payable semi-annually at the rate of four percent. Under the Reorganization
Plan, the Company may pay the amount of such claims in cash.
Also, CPIH and each of its subsidiaries, which hold all of the assets and
operations of the Company's international businesses (the "CPIH Borrowers")
entered into two secured credit facilities:
o a revolving credit facility, secured by a first priority lien on the CPIH
stock and substantially all of the CPIH Borrowers' assets not otherwise
pledged, consisting of commitments for cash borrowings of up to $10 million
for purposes of supporting the international businesses and
o a term loan facility of up to $95 million, secured by a second priority
lien on the same collateral.
Both facilities will mature in three years. The debt of the CPIH Borrowers is
non-recourse to Covanta and its other domestic subsidiaries.
Danielson expects, based on the Danielson Form 10-K for the fiscal year ended
December 31, 2003 filed with the SEC, to have NOLs estimated to be approximately
$652 million for federal income tax purposes as of the end of 2003. The NOLs
will expire in various amounts beginning on December 31, 2004 through December
31, 2023, if not used. The amount of NOLs available to Covanta will be reduced
by any taxable income generated by current members of Danielson's tax
consolidated group. The existence and availability of Danielson's NOLs is
dependent on factual and substantive tax issues, including issues in connection
with a 1990 restructuring by Danielson. The Internal Revenue Service ("IRS") has
not audited any of Danielson's tax returns for the years in which the losses
giving rise to the NOLs were reported, and it could challenge any past and
future use of the NOLs. There can be no assurance that Danielson would prevail
if the IRS were to challenge the use of the NOLs and therefore, there is
uncertainty regarding the availability of the NOLs. If the IRS were successful
in challenging Danielson's NOLs, the NOLs would not be available to offset
future income of the Company. The Company has neither requested nor received a
ruling from the IRS or an opinion of tax counsel with respect to the use and
availability of the NOLs.
If Danielson were to undergo, an "ownership change" as such term is used in
Section 382 of the Internal Revenue Code, the use of its NOLs would be limited.
Danielson will be treated as having had an "ownership change" if there is a more
than 50% increase in stock ownership during a 3-year "testing period" by "5%
stockholders". For this purpose, stock ownership is measured by value, and does
not include so-called "straight preferred" stock. Danielson's Certificate of
Incorporation contains stock transfer restrictions that were designed to help
preserve Danielson's NOLs by avoiding an ownership change. The transfer
restrictions were implemented in 1990, and Danielson expects that they will
remain in-force as long as Danielson has NOLs. Danielson cannot be certain,
however, that these restrictions will prevent an ownership change.
If Danielson's NOLs cannot be used to offset the consolidated group's taxable
income and Danielson does not have the ability to pay the consolidated group's
tax liability, the Company does not expect to have sufficient cash flows
available to pay debt service on the Domestic Borrowers obligations.
Also in connection with the Chapter 11 Cases, in September 2003, Covanta and
certain of its debtor and non-debtor subsidiaries (collectively, the "Sellers")
executed an ownership interest purchase agreement (as amended, the "Original
Agreement") with certain affiliates of ArcLight Energy Partners Fund I, L.P. and
Caithness Energy, L.L.C. (collectively, the "Original Geothermal Buyers")
providing for the sale of the Sellers' interests in the Geothermal Business,
subject to higher or better offers. The Original Agreement entitled the Original
Geothermal Buyers to a
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break-up fee of $5,375,000 (the "Break-Up Fee") in the event that a higher or
better offer was chosen in an auction held in the Bankruptcy Court. The purchase
price under the Original Agreement was $170,000,000, subject to adjustment.
On September 8, 2003, certain of the Debtors (the "Heber Debtors") filed a
reorganization plan and relating disclosure statement in connection with the
proposed sale (as amended, the "Heber Plan"). On September 29, 2003, the Court
entered an order approving the competitive bidding and auction procedures,
including the Break-Up Fee (the "Break-Up Fee"), for the purpose of obtaining
the highest or best offer for the Geothermal Business (the "Bidding Procedures
Order"). On November 19, 2003, the Bankruptcy Court held an auction to consider
bids for the Geothermal Business pursuant to the Bidding Procedures Order.
Following the auction, Covanta, with the consent of its creditor
representatives, determined that the bid submitted by certain affiliates of
Ormat Nevada, Inc. ("Ormat"), which offered a purchase price of $214,000,000,
subject to adjustment, represented the highest or best offer for the Geothermal
Business. On November 21, 2003, the Court entered an order confirming the Heber
Plan and approving the sale of the Geothermal Business to Ormat pursuant to a
purchase agreement that was executed on November 21, 2003. On December 18, 2003
Covanta sold the Geothermal Business to Ormat for cash consideration of
$214,000,000, subject to a working capital adjustment. The Company paid the
Original Geothermal Buyers the Break-Up Fee.
In addition, as debtors-in-possession, Covanta had the right during the Chapter
11 Cases, subject to Bankruptcy Court approval and certain other limitations, to
assume or reject executory contracts and unexpired leases. The Company completed
a review of their executory contracts and unexpired leases and have determined,
with limited exceptions, which executory contracts and unexpired leases they
will assume or reject. As a condition to assuming a contract, the Company must
cure all existing defaults (including payment defaults). The Company has paid or
expects to pay approximately $9 million in cure amounts associated with assumed
executory contracts and unexpired leases. Several counterparties have indicated
that they believe that actual cure amounts are greater than the amounts
specified in the Company's notices, and there can be no assurance that the cure
amounts ultimately associated with assumed executory contracts and unexpired
leases will not be materially higher than the amounts estimated by the Company.
On June 14, 2002, the Debtors filed with the Bankruptcy Court their schedules
and statements of financial affairs setting forth, among other things, their
assets and liabilities, including a schedule of claims against the Debtors (the
"Schedules"). Since that time, the Debtors have filed an amendment to the
schedules and may file additional amendments in the future. The Bankruptcy Court
established in a series of orders the following deadlines for filing claims
against the Debtors:
o August 9, 2002 as the last day to file proofs of claim against the
Debtors, subject to exceptions stated in the order and the other dates
listed below.
o September 30, 2002 as the last date to file proofs of claims by
governmental units.
o November 15, 2002 as the last date to file certain proofs of claims by
current or former company employees.
o June 27, 2003 as the last date for filing proofs of claims against
Covanta Concerts Holdings, Inc. and for holders of Covanta's
Convertible Subordinated Debentures to file proofs of claim against
Covanta.
o August 18, 2003 as the last date for filing proofs of claim against
certain Debtors whose Petition Date was after the First Petition Date.
o December 5, 2003 as the last date by which governmental units may file
proofs of claim against the Debtors whose Petition Date was after the
First Petition Date.
o December 15, 2003 as the last date for filing proofs of claims other
than governmental claims against Covanta Tampa Construction, Inc.
o April 1, 2004 as the last date for filing proofs of claims by
governmental agencies against Covanta Tampa Construction, Inc.
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In addition, pursuant to the Bankruptcy Court's order, the last date to file
proofs of claims in respect of amended schedules is 30 days after the Debtors
served notice of such amended schedule to the affected creditor.
The Company is continuing the process of reconciling recorded pre-petition
liabilities with proofs of claim filed by creditors with the Bankruptcy Court.
Differences resulting from that reconciliation process are recorded as
adjustments to pre-petition liabilities. The Company has not yet determined the
reorganization adjustments. In total, approximately 4,550 proofs of claim in
aggregate amount of approximately $13.3 billion have been filed to date. The
Company believes that many of the proofs of claim are invalid, duplicative,
untimely, inaccurate or otherwise objectionable. During the course of the
bankruptcy proceedings, the Company has filed procedural objections to more than
3,000 claims, primarily seeking to reclassify as general unsecured claims
certain claims that were filed as secured or priority claims. The Company is
continuing the process of reviewing all claims, and are preparing to object to
claims on substantive grounds. The Company intends to contest claims to the
extent they materially exceed the amounts the Company believes may be due.
The Company believes that the Reorganization Plan will not be followed by a need
for further financial reorganization and that non-accepting holders within each
class under the Reorganization Plan will receive distributions at least as great
as would be received following a liquidation pursuant to Chapter 7 of the
Bankruptcy Code when taking into consideration all administrative claims and
costs associated with any such Chapter 7 case.
REORGANIZATION DISCLOSURE
On October 30, 2003, the Bankruptcy Court authorized Covanta to enter into an
agreement (the "Mackin Agreement") between the Company and Scott G. Mackin, the
then President/Chief Executive Officer of Covanta . Pursuant to the Mackin
Agreement, Mr. Mackin resigned as President/CEO of Covanta on November 5, 2003.
In order to retain the critical knowledge and insight of the waste-to-energy
business which Mr. Mackin possesses and to further strengthen Covanta, the
Mackin Agreement provides that Covanta shall engage Mr. Mackin as a consultant
to the Company immediately upon his resignation date for a term ending on the
second anniversary of his resignation. Also, Mr. Mackin remained a member of the
Board of Directors of Covanta until the effective date of the Reorganization
Plan. Additionally, pursuant to the Mackin Agreement, Mr. Mackin has agreed to a
three-year non-compete with the Company's waste-to-energy business and has
agreed not to work directly or indirectly for a competitor or Client Communities
of the Company's waste-to-energy business for three years following his
resignation date. Pursuant to the terms of the Mackin Agreement, Mr. Mackin was
paid in 2003 the amounts due in respect of the Bankruptcy Court-approved
Retention and, Severance Plans and $1.0 million in consulting fees. In 2004 he
was paid the balance due under the Retention Plan, approximately $2.1 million
due under the Bankruptcy Court-approved Long Term Incentive Plan and his bonus
for year 2003. Mr. Mackin was paid an additional $750,000 in consulting fees and
vested retirement benefits in accordance with the Mackin Agreement following his
resignation. An expense of $3.6 million was recorded in 2003 for Mr. Mackin's
severance costs.
In accordance with SOP 90-7, the Company has segregated and classified certain
income and expenses as reorganization items. The following reorganization items
were incurred during the periods ended December 31, 2003 and 2002, (in Thousands
of Dollars):
For the Period
For the Year Ended April 1, 2002 through
DECEMBER 31, 2003 DECEMBER 31, 2002
------------------ -----------------
Legal and professional fees $48,246 $31,561
Severance, retention and office closure costs 2,536 7,380
Bank fees related to DIP Credit Facility 1,833 7,487
Hennepin restructuring 15,436 --
Worker's compensation insurance 6,963 --
Babylon Settlement 2,700 --
Other 5,632 2,678
------- -------
Total $83,346 $49,106
======= =======
Legal and professional fees consist primarily of fees paid to professionals for
work associated with the bankruptcy of the Company.
84
Severance, retention and office closure costs include costs related to the
restructurings discussed in Note 25 and other severance charges. It also
includes a charge of $0.3 million for the announced closing of the Company's
Fairfax office facility. See Note 25 for further discussion.
Hennepin restructuring charges of $15.4 million related primarily to the
reduction in the fixed monthly service fee for the remainder of the operating
agreement and the termination of the Company's lease obligations at the Hennepin
waste-to-energy facility (see further discussion above).
Worker's compensation insurance charge of $7.0 million primarily relates to the
unanticipated funding of a letter of credit related to casualty insurance
obligations, which were previously carried as a liability at its net present
value on the Company's financial statements.
The Babylon settlement charge of $2.7 million is discussed in Developments in
Project Restructurings above.
Lease rejection expenses of $0.6 million in other in 2002, primarily relates to
the lease of office space in New York City that was rejected pursuant to an
order entered by the Bankruptcy Court on July 26, 2002. The lease rejection
claim was treated as a general unsecured claim in the Company's bankruptcy
proceedings.
The write-off of deferred financing costs of $2.1 million included in other in
2002, relate almost equally to unamortized costs incurred in connection with the
issuance of the Company's (i) adjustable rate revenue bonds and (ii)
subordinated convertible debentures. The adjustable rate revenue bonds were
secured by letters of credit. Beginning in April 2002, as a result of the
Company's failure to renew these letters of credit, the trustees for those bonds
declared the principal and accrued interest on such bonds due and payable
immediately. Accordingly, letters of credit supporting these bonds have been
drawn in the amount of $125.1 million. The bonds were redeemed and the proceeds
of the letters of credit were used to repay the bonds. Covanta's Convertible
Subordinated Debentures were cancelled under the Reorganization Plan and their
holders received no distribution.
Also in accordance with SOP 90-7, interest expense of $1.0 and $3.6 million for
the year ended December 31, 2003 and 2002, respectively, has not been recognized
on the Company's Convertible Subordinated Debentures that matured in 2002 and
approximately $10.2 million of other unsecured debt due to the seller of certain
independent power projects because the Company currently believes this interest
will not ultimately be paid.
Pursuant to SOP 90-7, the Company has segregated and classified certain
pre-petition obligations as Liabilities subject to compromise. Liabilities
subject to compromise have been recorded at the likely allowed claim amount. The
following table sets forth the estimated liabilities of the Company subject to
compromise as of December 31, 2003 and 2002, (in Thousands):
DECEMBER 31, 2003 DECEMBER 31, 2002
----------------- -----------------
Debt (See Note 15) $110,485 $138,908
Debt under credit arrangement (See Notes 4 and 17) 125,091 125,091
Accounts payable 66,117 44,030
Other liabilities 232,691 184,135
Obligations related to the Centre and the Team 182,517 146,000
Obligations related to Arrowhead Pond (See Note 3) 90,544 105,198
Convertible Subordinated Debentures (See Note 12) 148,650 148,650
-------- --------
Total $956,095 $892,012
======== ========
As also required by SOP 90-7, below are the condensed combined financial
statements of the Debtors since the date of the bankruptcy filing ("the Debtors'
Statements") to the end of the 2003 fiscal year. The Debtors' Statements have
been prepared on the same basis as the Company's Financial Statements.
85
DEBTORS' CONDENSED COMBINED STATEMENTS OF OPERATIONS
(In Thousands of Dollars)
For the period
For the year ended April 1, 2002 through
DECEMBER 31, 2003 DECEMBER 31, 2002
----------------- -----------------
Total revenues $ 475,744 $ 351,370
Operating costs and expenses 406,137 284,471
Cost allocation (to) from non-Debtor subsidiaries (23,724) 7,382
Write down of assets held for use -- 153
Obligations related to assets held for use -- (6,000)
Equity in earnings of non-Debtor Subsidiaries (net of tax benefit of $17,821 and
$11,142, in 2003 and 2002, respectively (5,476) (63,416)
--------- ---------
Operating income (loss) 87,855 (9,746)
Reorganization items (83,346) (49,106)
Interest expense, net (33,272) (23,495)
--------- ---------
Loss before income taxes (excluding taxes applicable to non-Debtor subsidiaries),
minority interests, discontinued operations and cumulative effect of changes in
accounting principles (28,763) (82,347)
Income tax expense (1,098) (1,676)
Minority interests (3,378) (2,768)
Loss before discontinued operations and cumulative effect of changes in accounting
principles (33,239) (86,791)
Discontinued operations (net of income tax (expense) benefit of ($16,147) and $3,966) 78,814 (33,310)
Cumulative effect of change in accounting principles (net of tax benefit of $1,364 and
zero) (2,063) --
--------- ---------
Net income (loss) $ 43,512 $(120,101)
========= =========
DEBTORS' CONDENSED COMBINED BALANCE SHEETS
(In Thousands of Dollars)
DECEMBER 31, 2003 DECEMBER 31, 2002
----------------- -----------------
Assets:
Current assets $ 533,638 $ 414,907
Property, plant and equipment-net 1,014,476 1,173,222
Investments in and advances to investees and joint ventures 6,533 3,815
Other assets 288,453 358,753
Investments in and advances to non-debtor
subsidiaries, net 201,924 84,678
----------- -----------
Total Assets $ 2,045,024 $ 2,035,375
=========== ===========
Liabilities:
Current liabilities $ 216,962 $ 201,725
Long-term debt -- 34,969
Project debt 752,228 931,568
Deferred income taxes 146,179 96,681
Other liabilities 70,793 49,474
Liabilities subject to compromise 956,095 892,012
----------- -----------
Total liabilities 2,142,257 2,206,429
Minority interests 30,801 1,259
----------- -----------
Shareholders' Deficit (128,034) (172,313)
----------- -----------
Total Liabilities and Shareholders' Deficit $ 2,045,024 $ 2,035,375
=========== ===========
DEBTORS' CONDENSED COMBINED STATEMENTS OF CASH FLOWS
(In Thousands of Dollars)
For the period April 1,
For the year ended 2002 through
DECEMBER 31, 2003 DECEMBER 31, 2002
----------------- -----------------
Net cash provided by operating activities $ 38,086 $ 59,649
Net cash used in investing activities (7,030) (14,728)
Net cash used in financing activities (80,840) (54,576)
Net cash provided by discontinued operations 217,783 24,677
--------- ---------
Net increase in Cash and Cash Equivalents 167,999 15,022
Cash and Cash Equivalents at Beginning of Period 80,813 65,791
--------- ---------
Cash and Cash Equivalents at End of Period $ 248,812 $ 80,813
========= =========
86
The Debtors' Statements present the non-Debtor subsidiaries on the equity
method. Under this method, the net investments in and advances to non-Debtor
subsidiaries are recorded at cost and adjusted for the Debtors' share of the
subsidiaries' cumulative results of operations, capital contributions,
distributions and other equity changes. The Debtors' Statements include an
allocation of $7.4 million of costs incurred by the non-Debtor subsidiaries that
provide significant support to the Debtors for the period ended December 31,
2002. The Debtor's Statements also include an allocation of $23.7 million of
costs incurred by the Debtors that provide significant support to the non-Debtor
subsidiaries for the year ended December 31, 2003. All the assets and
liabilities of the Debtors and non-Debtors are subject to revaluation upon
emergence from bankruptcy.
3. DISCONTINUED OPERATIONS
Revenues and income (loss) from discontinued operations (expressed in thousands
of dollars) for the years ended December 31, 2003, 2002 and 2001 were as
follows:
2003 2002 2001
--------- --------- ---------
Revenues $ 90,812 $ 105,462 $ 150,224
--------- --------- ---------
Gain (loss) on sale of businesses 109,776 (17,110) --
Operating income (loss) (10,813) (34,489) (29,923)
Interest expense - net (4,002) (5,134) (4,965)
--------- --------- ---------
Income (loss) before income taxes
and minority interests 94,961 (56,733) (34,888)
Income tax (expense) benefit (16,147) 13,165 11,071
Minority interests -- 213 (1,524)
--------- --------- ---------
Income (loss) from discontinued operations $ 78,814 $ (43,355) $ (25,341)
========= ========= =========
On December 18, 2003, following the approval of the Bankruptcy Court, the
Company sold its Geothermal Business to Ormat. The total price for three of the
Geothermal Businesses was $184.8 million, and the Company realized a net gain of
$92.8 million on this sale after deducting costs relating to the sale. In
addition, the subsidiary holding companies which owned the subsidiaries
conducting the Geothermal Business and three related operations and maintenance
companies no longer have operations as a result of the sale, and therefore are
included in discontinued operations
Prior to October 2003, Covanta Tulsa operated the waste-to-energy Tulsa
Facility. The facility was leased from CIT under a long-term lease. Covanta
Tulsa was unable to restructure its arrangement with CIT on a more profitable
basis. As a result, in October 2003 the Company terminated operations at the
Tulsa Facility. Therefore, its results of operations have been reclassified as
discontinued operations. A net loss of $38.6 million was recorded on the
disposal of Covanta Tulsa.
In 2002, the Company reviewed the recoverability of its long-lived assets. As a
result of the review based on future cash flows, an impairment was recorded for
the Tulsa waste-to-energy project resulting from the Company's inability as
determined at that time, to improve the operations of, or restructure, the
project in order to meet substantial future lease payments. This impairment
charge was $22.3 million and resulted in a tax benefit of $7.7 million.
On December 16, 2003 the Company and Ogden Facility Management Corporation of
Anaheim ("OFM") closed a transaction with the City of Anaheim (the "City")
pursuant to which they have been released from their management obligations and
the Company and OFM have realized and compromised their financial obligations,
in connection with the Arrowhead Pond Arena in Anaheim, California ("Arrowhead
Pond"). As a result of the transaction, OFM no longer has continuing operations
and therefore its results of operations have been reclassified as discontinued
operations. A net gain of $17.0 million was recorded on the disposal of OFM as a
result of impairment charges of $98.0 million previously recorded and payments
made to settle the transaction of $46.9 million offset by draw-downs on a letter
of credit of $115.8 million, a charge of $10.6 million related to an interest
rate swap, and the net settlement of a lease-in/lease-out transaction of $1.6
million. See below for further discussion.
The income (loss) from discontinued operations includes impairment charges
related to the Arrowhead Pond of $40.0 million in 2002 and $74.4 million in
2001. During 2003, the Company's limited ability to fund short-term working
87
capital needs at the Arrowhead Pond under the DIP credit facility and the need
to resolve its bankruptcy case created the need to dispose of the management
contract for the Arrowhead Pond at a time when building revenues were not at
levels consistent with past experience. Based upon all the then currently
available information, including a valuation and certain assumptions as to the
future use, the Company recorded an impairment charge as of December 31, 2001 of
$74.4 million related to the Company's interest in the Arrowhead Pond.
The $74.4 million charge (before tax benefit of $20.9 million) represents the
write-off of the $16.4 million previous carrying amount at that date and the
Company's $58.0 million estimate of the net cost to sell its interests in the
long-term management agreement discussed in the following paragraph.
OFM was the manager of the Arrowhead Pond under a long-term management
agreement. Covanta and the City of Anaheim were parties to a reimbursement
agreement to the financial institution, which issued a letter of credit in the
amount of approximately $117.2 million which provided credit support for
Certificates of Participation issued to finance the Arrowhead Pond project. As
part of its management agreement, the manager was responsible for providing
working capital to pay operating expenses and debt service (including interest
rate swap exposure of $10.4 million at December 31, 2002 and reimbursement of
the lender for draws under the letter of credit including draws related to an
acceleration by the lender of all amounts payable under the reimbursement
agreement) if the revenues of Arrowhead Pond were insufficient to cover these
costs. Covanta had guaranteed the obligations of the manager. The City of
Anaheim had given the manager notice of default under the management agreement.
In such notice, the City indicated that it did not propose to exercise its
remedies at such time and was stayed from doing so as a result of the Company's
Chapter 11 filing.
Covanta was also the reimbursement party on a $26.0 million letter of credit and
a $1.5 million letter of credit relating to a lease transaction for Arrowhead
Pond. The $26.0 million letter of credit, which was security for the lease
investor, could be drawn upon the occurrence of an event of default. The $1.5
million letter of credit was security for certain indemnification payments under
the lease transaction documents, the amount of which could not be determined at
that time. The lease transaction documents required Covanta to provide
additional letter of credit coverage from time to time. The additional amount
required for 2002 was estimated to be approximately $6.7 million. Notices of
default were delivered in 2002 under the lease transaction documents. As a
result of the default, Covanta's counterparties could have exercised remedies,
including drawing on letters of credit related to lease transactions and
recovering fees to which the manager was entitled for managing the Arrowhead
Pond.
The Company recorded in 2002 a $40.0 million charge (before tax benefit of $14.0
million) which is included in Liabilities subject to compromise in the December
31, 2003 Consolidated Balance Sheet, in order to reflect its estimated total
exposure with respect to the Arrowhead Pond, including exercise of remedies by
the parties to the lease transaction as a result of the occurrence of an event
of default.
In March 2003, the underlying swap agreement related to the Company's interest
rate swap exposure was terminated resulting in a fixed obligation of $10.6
million.
On December 16, 2003 the Company made a payment of $45.4 million to Credit
Suisse First Boston ("CSFB") which offset the CSFB claim of $115.8 million. At
that time, as described above, the agreement to terminate the management
agreement and the release of the Company and OFM from all obligations relating
to the management of the Arrowhead Pond (except for the residual secured
reimbursement claim of CSFB against the Company of $70.4 million) was completed.
The termination of the lease-in/lease-out transaction (after a net payment of
$1.6 million) and a municipal bond financing transaction was also completed.
The results of operations and cash flows of the Geothermal Business, OFM and
Covanta Tulsa for 2002 and 2001 have been reclassified in the Statements of
Consolidated Operations and Comprehensive Income (Loss) and Statements of
Consolidated Cash Flows, respectively, to conform with the 2003 presentation.
On March 28, 2002, two of the Company's subsidiaries sold their interests in a
power plant and an operating and maintenance contractor based in Thailand. The
total sale price for both interests was approximately $27.8 million, and the
Company realized a net loss of approximately $17.1 million on this sale after
deducting costs relating to the sale.
88
4. GAIN (LOSS) ON SALE OF BUSINESSES AND WRITE-DOWNS AND OBLIGATIONS
The following is a list of assets sold or impaired during the years ended
December 31, 2003, 2002, and 2001 the gross proceeds from those sales, the
realized gain or (loss) on those sales and the write-down of or recognition of
liabilities related to those assets (in thousands of dollars).
WRITEDOWN OR
RECOGNITION OF
DESCRIPTION OF BUSINESS PROCEEDS GAIN (LOSS) OBLIGATIONS
- ----------------------- --------- ----------- -------------
2003
Equity investment in Mammoth Pacific Plant $ 30,404 $ (10,983) $ --
Metropolitan 254 254 --
Aeropuertos Argentina 2000 S.A 2,601 2,601 --
Transair 417 417 --
The Centre and The Team -- -- (16,704)
Asia Pacific Australia 465 465 --
--------- --------- ---------
Total $ 34,141 $ (7,246) $ (16,704)
========= ========= =========
2002
Port Authority of New York and
New Jersey Fueling $ 5,700 $ 3,510 $ --
Non Port Authority Fueling 1,000 1,000 --
Metropolitan 2,308 248 --
Casino Iguazu 3,439 -- --
La Rural 500 500 --
Rojana Power Plant 7,100 (6,500) --
Empressa Valle Hermoso Project 900 600 --
Magellan Cogeneration, Inc. (Note 9) -- -- (41,651)
Edison Bataan Cogeneration Corp. (Note 9) -- -- (37,212)
Compania General De Sondeos -- (1,708) --
The Centre and The Team -- -- (6,000)
Other 407 407 --
--------- --------- ---------
Total $ 21,354 $ (1,943) $ (84,863)
========= ========= =========
2001
Non-Port Authority Fueling $ 15,200 $ (4,026) $ --
Colombia Airport Privatization 9,660 1,404 --
Rome, Italy Aviation Ground Operations 9,947 1,855 --
Spain Aviation Ground Operations 1,753 (261) --
Aviation Fixed Base Operations 2,098 777 --
Metropolitan -- -- (5,369)
Casino Iguazu -- -- (4,491)
La Rural -- -- (16,616)
Compania General De Sondeos -- -- (358)
IFC Australia -- -- (1,978)
The Centre and The Team -- -- (140,000)
Datacom -- -- (16,810)
Other 197 (2,517) (891)
--------- --------- ---------
Total $ 38,855 $ (2,768) $(186,513)
========= ========= =========
The Company's interests in the Corel in Ottawa, Canada (the "Centre") and the
Ottawa Senators Hockey Club Corporation (the "Team") were materially adversely
affected by events occurring at the end of 2001 and beginning of 2002. On
December 21, 2001 the Company announced that its inability to access the capital
markets, the continuing delays in payment of remaining California energy
receivables and delays in the sale of aviation and entertainment assets had
adversely impacted Covanta's ability to meet cash flows covenants under its
Revolving Credit and Participation Agreement (the "Master Credit Facility"). The
Company also stated that the banks had provided a waiver for the covenants only
through January of 2002, had not agreed to provide the additional short-term
liquidity the Company had sought and that the Company was conducting a
comprehensive review of its strategic alternatives.
On December 27, 2001 and January 11, 2002 the Company's credit ratings were
reduced by Moody's and Standard &
89
Poor's, respectively. The downgrades triggered requirements to post in excess of
$100 million in performance and other letters of credit for energy projects and
for which the Company no longer had available in commitments under its Master
Credit Facility.
The Company required further waivers from its cash flows covenants under its
Master Credit Facility for the period after January 2002. On January 31, 2002
the Company announced that it had obtained waivers through the end of March
2002, subject, however, to its meeting stringent cash balance requirements set
by its banks.
Among other things, these cash balance requirements prevented the Company from
paying interest due on March 1, 2002 on its 9.25% Debentures (the "9.25%
Debentures"). In addition, the restrictions prevented contributions to the
working capital needs of the Team, the prime tenant of the Centre.
These events resulted in draws during March 2002 on the letters of credit for
the $19.0 million and $86.2 million guarantees discussed below with respect to
the Team and the Centre, respectively. As a result of drawing on the letters of
credit, the Company obtained an interest in the loans that had been secured by
the letters of credit that had been drawn.
On April 1, 2002, the Company filed for relief under Chapter 11 of the
Bankruptcy Code. (See Note 2.)
The events leading up to the bankruptcy filing and the filing itself materially
adversely affected the Company's ability to manage the timing and terms on which
to dispose of its interests and related obligations with respect to the Centre
and the Team as described below.
With respect to the Centre and the Team, these events led to the termination, in
early 2002, of a pending sale of limited partnership interests and related
recapitalization of the Team that, if completed as contemplated, would have been
expected to stabilize the finances of the Centre and the Team for a considerable
period. Given the Company's inability to fund short-term working capital needs
of the Team, and given the events described above, the Company was not in a
position to manage the timing and terms of disposition of the Centre and the
Team in a manner most advantageous to the Company.
Based upon all available information, including an initial offer to purchase
dated June 20, 2002 and certain assumptions as to the future use, and
considering the factors listed above, the Company recorded a pre-tax impairment
charge as of December 31, 2001 of $140.0 million related to the Centre and the
Team. As a result of the Team filing for protection under the Canadian Company's
Creditor Arrangement Act ("CCAA") on January 9, 2003 and the status of the
Company's current negotiations to dispose of these interests, an additional $6.0
million pre-tax charge was recorded as of December 31, 2002 in the write-down of
and obligations related to assets held for use.
The 2002 charges represented the Company's estimate of the additional net cost
to sell its interests in the Centre and Team and to be discharged of all related
obligations and guarantees that are included in Liabilities subject to
compromise in the December 31, 2002 Consolidated Balance Sheet. The resulting
tax benefit of $22.8 million has been included in the deferred income taxes
liability at December 31, 2002.
The Company's guarantees at December 31, 2001 were comprised of a: (1) $19.0
million guarantee of the Team's subordinated loan payable; (2) $86.2 million
guarantee of the senior term debt of the Centre; (3) $45.8 million guarantee of
the senior subordinated debt of the Centre for which $6.3 million in cash
collateral had been posted by the borrower; (4) $3.1 million guarantee of senior
secured term debt of the team; (5) guarantee of the interest payments on $37.7
million of senior secured term debt of the Team; (6) guarantee to make working
capital advances to the Centre from time to time in amounts necessary to cover
any shortfall between certain operating cash flows, operating expenses and debt
service of the Centre; and (7) $17.5 million cost for terminated foreign
exchange currency swap agreements. The swap agreements had a notional amount of
$130.6 million and were entered into by the Centre related to the $86.2 million
senior term and $45.8 million senior subordinated debt. These swap agreements
had extended originally through December 23, 2002 but were terminated by the
counter-parties in May 2002.
The Company's guarantees arose during 1994, when a subsidiary of Covanta entered
into a 30-year facility management contract at the Centre pursuant to which it
agreed to advance funds to the Team, and if necessary, to assist the Centre's
refinancing of senior secured debt incurred in connection with the construction
of the Centre. In compliance with these
90
guarantees, the Company entered into agreements pursuant to which it was
required to purchase the $19.0 million and $86.2 million series of debt referred
to above if such debt was not timely refinanced or upon the occurrences of
certain defaults. In March 2002, the holders of the subordinated debt of the
Team required the Company to purchase such debt in the total amount (together
with accrued and unpaid dividends) of $19.0 million and were paid that amount
under a letter of credit for which the Company was the reimbursement party. In
addition, in March, as the result of defaults occurring in 2002, the holders of
the senior debt relating to the Centre required the Company to purchase such
debt in the total amount (together with accrued and unpaid dividends) of $86.2
million and were paid that amount under a letter of credit for which the Company
was the reimbursement party. The subordinated secured debt of the Centre in the
amount of $45.8 million is also subject to a put right pursuant to the terms of
the underlying agreements. Such subordinated secured debt has not been put to
the Company, although the holder has the right to do so. The obligation to
purchase such debt is not secured by a letter of credit.
In addition to the above charges, and following the termination of the pending
sale of limited partnership interests, the Company also recorded a charge of
$5.5 million at December 31, 2001 to fully reserve against receivables due from
the Team. The $5.5 million charge was included in Other Operating Costs and
Expenses in the 2001 Statement of Consolidated Operations and Comprehensive
Income (Loss).
On January 9, 2003, the Team filed for protection with the Ontario Superior
Court of Justice ("Canadian Court"), and was granted protection under Canada's
CCAA. A monitor was appointed under the CCAA to supervise the selling of the
Team's franchise. On April 25, 2003, the monitor entered into an asset purchase
agreement for the purchase of the Team's franchise and certain related assets,
which the Canadian Court approved on May 9, 2003. On May 27, 2003, the Canadian
Court appointed an interim receiver of the owner of the Corel Centre. On June 4,
2003, the interim receiver entered into an asset purchase agreement for the
purchase of the Corel Centre and certain related assets, which was approved on
June 20, 2003. The transactions to purchase the team and the Corel Centre were
consummated on August 26, 2003. Upon closing, Covanta received $19.7 million and
obtained releases from certain guarantees provided to lenders of the Team. An
additional charge of $16.8 million was recorded in 2003 in write-down and
obligations related to assets held for use.
5. INVESTMENTS IN AND ADVANCES TO INVESTEES AND JOINT VENTURES
The Company is party to joint venture agreements through which the Company has
equity investments in several operating projects. The joint venture agreements
generally provide for the sharing of operational control as well as voting
percentages. The Company records its share of earnings from its equity investees
on a pre-tax basis and records the Company's share of the investee's income
taxes in income tax expense (benefit).
In 2000, the Company acquired an ownership interest in a 106 MW low sulfur heavy
fuel oil based diesel engine power plant located in India. Through a share
purchase agreement the Company's ownership interest reached 74.8% in 2001. Also
in 2000, the Company acquired a 49% interest in a heavy fuel oil based diesel
engine power plant also located in India. Upon the plant's achieving commercial
operation in February 2001, the Company obtained an additional 11% stake in the
plant. As of December 31, 2000, the Company accounted for these investments on
the equity method. Because the increased ownership interests gave the Company
control, the Company began to consolidate these project companies in the first
quarter of 2001.
The Company is a party to a joint venture formed to design, construct, own and
operate a coal-fired electricity generation facility in the Quezon Province, The
Philippines ("Quezon Joint Venture"). The Company owns 26.125% of, and has
invested 27.5% of the total equity in, the Quezon Joint Venture. This project
commenced commercial operations in 2000.
Manila Electric Company ("Meralco"), the power purchaser for the Company's
Quezon Joint Venture is engaged in discussions and legal proceedings with the
government of The Philippines relating to Meralco's financial condition. The
Quezon Joint Venture is currently in negotiations with Meralco to amend the
Power Purchase Agreement to address concerns about Meralco's ability to meet its
off-take obligations under that Agreement. Lenders to the Quezon Joint Venture
have expressed concern about the resolution of those matters, as well as
compliance with the Quezon Joint Venture operational parameters and the Quezon
Joint Venture's failure to obtain required insurance coverage, as these matters
relate to requirements under the applicable debt documents and have limited
distributions from the project pending resolution of these matters. Although the
Company believes that the facility is operated in accordance with applicable
requirements, it has implemented certain operational changes and is discussing
amendments to the Quezon
91
Joint Venture documents with the Quezon Joint Venture participants to address
those concerns. The Quezon Joint Venture is also seeking the extension of an
existing waiver permitting it to continue to forego obtaining the insurance
coverage in question on the grounds that this coverage is not commercially
available. The Company and the Quezon Joint Venture lenders have reached a
tentative agreement on amendments to the Quezon Joint Venture documents that
address the issues relating to operational matters and insurance coverage. The
agreement is subject to definitive documentation. Adverse developments in
Meralco's financial condition and with respect to finalization of the tentative
agreement with the project participants is not expected to adversely affect
Covanta's liquidity, although it may have a material affect on CPIH's ability to
repay its debt described above.
In March of 2002, the Company sold its equity interest in the Rojana Power Plant
in Thailand contemporaneously with the sale of the Saha Cogeneration Plant. The
gross proceeds from this sale were $7.1 million, which resulted in a loss of
$6.5 million after selling expenses which were recorded in net loss on sale of
businesses.
On December 18, 2003, following approval of the Heber Plan by the Bankruptcy
Court, the Company sold its equity interests in the Geothermal Business as part
of the Heber Plan for gross proceeds of $215.2 million of which $29.4 million is
allocated to the equity investment and the Company realized a net loss of
approximately $11.0 million on this sale after deducting costs relating to the
sale of $1.0 million. The total equity investment included in the sale was $40.4
million.
In addition, the Company owns interests of up to 50% in 11 other affiliates
which principally own and operate, or are developing, energy facilities.
The December 31, 2003 aggregate carrying value of the investments in and
advances to investees and joint ventures of $137.4 million is less than the
Company's equity in the underlying net assets of these investees by
approximately $9.4 million. The carrying value of $166.5 million at December 31,
2002 was $1.7 million less than the Company's equity in the underlying net
assets. These differences of cost over acquired net assets are mainly related to
property, plant, and equipment and power purchase agreements of several
investees.
At December 31, 2003 and 2002, investments in and advances to investees and
joint ventures accounted for under the equity and cost method were comprised as
follows (expressed in thousands of dollars):
Ownership Interest at December 31,
December 31, 2003 2003 2002
- ----------------------------------------------------------------------------
Mammoth Pacific Plant (U.S.) 50%(A) $ -- $ 41,796
Ultrapower Chinese Station Plant (U.S.) 50% 8,137 8,756
South Fork Plant (U.S.) 50% 1,027 1,041
Koma Kulshan Plant (U.S.) 50% 4,524 4,161
Linasa Plant (Spain) 50% 2,714 2,511
Haripur Barge Plant (Bangladesh) 45% 22,153 18,870
Quezon Power (Philippines) 26% 92,492 82,935
Trezzo Power Plant (Italy) 13%(B) 3,819 3,815
Other various 2,508 2,580
-------- --------
Total Investments in Power Plants $137,374 $166,465
======== ========
(A) Sold in December 2003
(B) Carried on the cost method
The combined results of operations and financial position of the Company's
equity method affiliates excluding companies using the cost method are
summarized below (expressed in thousands of dollars).
2003 2002 2001
- -------------------------------------------------------------------------------
CONDENSED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31:
Revenues $ 299,214 $ 305,835 $ 333,277
Gross profit 149,589 169,954 158,487
Net income 93,211 82,892 56,172
Company's share of net income 29,941 25,076 17,665
CONDENSED BALANCE SHEETS AT DECEMBER 31:
Current assets $ 183,080 $ 171,069
Non-current assets 893,477 1,082,948
Total assets 1,076,557 1,254,017
Current liabilities 81,438 86,345
Non-current liabilities 576,769 695,789
Total liabilities 658,207 782,134
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6. INVESTMENTS IN MARKETABLE SECURITIES AVAILABLE FOR SALE
At December 31, 2003 and 2002, marketable equity and debt securities held for
noncurrent uses, such as nonqualified pension liabilities and a deferred
compensation plan, are classified as long-term assets (see Note 10).
Marketable securities at December 31, 2003 and 2002 (expressed in thousands of
dollars), include the following:
2003 2002
Market Value Carrying Value Market Value Carrying Value
- ------------------------------------------------------------------------------------------------
Classified as Noncurrent Assets:
Mutual and bond funds $ 2,460 $ 2,460 $ 2,353 $ 2,353
======= ======= ======= =======
- ------------------------------------------------------------------------------------------------
Proceeds, realized gains and realized losses from the sales of securities
classified as available for sale for the years ended December 31, 2003, 2002 and
2001, were $0.6 million, $0.1 million, and $0.2 million; $0.6 million, zero, and
$0.3 million; and $0.6 million, zero, and $0.1 million, respectively. For the
purpose of determining realized gains and losses, the cost of securities sold
was based on specific identification.
7. UNBILLED SERVICE AND OTHER RECEIVABLES
Unbilled service and other receivables (expressed in thousands of dollars)
consisted of the following:
2003 2002
- --------------------------------------------------
Unbilled service receivables $121,803 $139,378
Notes receivable 1,097 4,335
Other 2,463 3,927
-------- --------
Total $125,363 $147,640
======== ========
Long-term unbilled service receivables are for services that have been performed
for municipalities and payment is due by contract at a later date and are
discounted in recognizing the present value of such services. Current unbilled
service receivables, which are included in Receivables on the Consolidated
Balance Sheet, amounted to $63.3 million and $65.9 million at December 31, 2003
and 2002, respectively.
8. RESTRICTED FUNDS HELD IN TRUST
Restricted funds held in trust are primarily amounts received and held by third
party trustees relating to projects owned by the Company, and which may be used
only for specified purposes. The Company generally does not control these
accounts. They include debt service reserves for payment of principal and
interest on project debt, deposits of revenues received with respect to projects
prior to their disbursement as provided in the relevant indenture or other
agreements, lease reserves for lease payments under operating leases, and
proceeds received from financing the construction of energy facilities. Such
funds are invested principally in United States Treasury bills and notes and
United States government agencies securities.
93
Fund balances (expressed in thousands of dollars) were as follows:
2003 2002
- -----------------------------------------------------------------
CURRENT NON-CURRENT CURRENT NON-CURRENT
-------------------------------------------
Debt service funds $ 45,352 $113,441 $ 53,948 $133,300
Revenue funds 13,636 -- 12,382 --
Lease reserve funds 3,771 -- 3,548 15,731
Construction funds 159 -- 187 --
Other funds 16,486 6,039 21,974 20,964
-------- -------- -------- --------
Total $ 79,404 $119,480 $ 92,039 $169,995
======== ======== ======== ========
9. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment (expressed in thousands of dollars) consisted of
the following:
2003 2002
- ---------------------------------------------------------------------------
Land $ 5,270 $ 5,323
Energy facilities 1,804,895 2,075,949
Buildings and improvements 188,942 194,395
Machinery and equipment 79,776 79,541
Landfills 16,543 13,842
Construction in progress 6,689 9,622
----------- -----------
Total 2,102,115 2,378,672
Less accumulated depreciation and amortization (648,761) (716,809)
----------- -----------
Property, plant, and equipment - net $ 1,453,354 $ 1,661,863
=========== ===========
Depreciation and amortization for continuing operations related to property,
plant and equipment amounted to $68.0 million, $72.7 million and $71.2 million
for the years ended December 31, 2003, 2002 and 2001, respectively.
In light of its Chapter 11 bankruptcy filing and proceedings, the Company
reviewed the recoverability of its long-lived assets as of June 30, 2002. As a
result of the review based upon the future cash flows, the Company recorded, in
write-down of assets held for use in the 2002 Consolidated Statement of
Operations and Comprehensive Loss, a pre-tax impairment charge totaling $78.9
million. The charge related to two international projects, the Magellan
Cogeneration Energy project and the Bataan Cogeneration Energy project which are
both located in The Philippines.
The impairment related to the Magellan Cogeneration Energy project was due to a
substantial 2002 second quarter governmental imposed reduction of national
electricity tariffs, the duration of which is impossible to estimate then and at
this time. The Company recorded a pre-tax impairment charge of $41.7 million
related to the net book value of the assets of this project at June 30, 2002.
Although this project had $32.1 million of non-recourse debt at June 30 2002, in
accordance with SFAS No.144, the Company based the impairment loss upon the
measurement of the assets at their fair market value. Accordingly, in the future
if there were a foreclosure on or sale of the project, a significant book gain
could be recognized on the extinguishment of the remaining non-recourse debt of
$28.4 and $30.3 million at December 31, 2003 and 2002, respectively.
The impairment related to the Bataan Cogeneration Energy project results from
the fact that the plant sells a portion of its power at a discount to the
regional grid tariff. Based on the current operating environment, including the
tariff reduction described above, the Company no longer expects the contract for
the Bataan project to be extended beyond its current term or to be able to
recover the project's current carrying value. Therefore, a pre-tax impairment
charge of $37.2 million related to the net book value of the assets of this
project was recorded.
The Company will continue to consider alternatives to maximize the value of
these projects.
On March 28, 2002, following approval from the Master Credit Facility lenders,
three of the Company's subsidiaries sold their interests in two power plants and
an operating and maintenance contractor based in Thailand. The total sale price
for the power plant and maintenance contractor was approximately $27.8 million,
and the Company realized a net loss of approximately $17.1 million on this sale
after deducting costs relating to the sale (see Note 3). The total fixed assets
included in the sale was $82.5 million.
On December 18, 2003, following approval of the Heber Plan by the Bankruptcy
Court, the Company sold the Geothermal Business for gross proceeds of $184.8
million excluding it's equity investments (see Note 5), subject to a
94
working capital adjustment, and the Company realized a net gain of approximately
$92.8 million on this sale (see Note 3). The total net fixed assets included in
the sale was $69.7 million.
10. OTHER ASSETS
Other assets (expressed in thousands of dollars) consisted of the following:
2003 2002
- --------------------------------------------------------------------------
Unamortized bond issuance costs $25,559 $31,389
Deferred financing costs 7,011 7,980
Non-current securities available for sale (see Note 6) 2,460 2,353
Interest rate swap 16,728 19,137
Other 1,306 1,068
------- -------
Total $53,064 $61,927
======= =======
11. GOODWILL AND INTANGIBLES ASSETS
The following tables present the Company's intangible assets (excluding
goodwill) as of December 31, 2003 and 2002 (in thousands of dollars):
Accumulated
December 31, 2003 Gross Amortization Net
- ------------------------------------------------------------------------------
Land rights and other intangibles $ 3,062 $ (862) $ 2,200
Deferred development costs 5,921 (1,048) 4,873
-------- -------- --------
Sub-total 8,983 (1,910) 7,073
Contract acquisition costs 71,804 (44,731) 27,073
-------- -------- --------
Total $ 80,787 $(46,641) $ 34,146
======== ======== ========
Accumulated
December 31, 2002 Gross Amortization Net
- ------------------------------------------------------------------------------
Land rights and other intangibles $ 3,062 $ (698) $ 2,364
Deferred development costs 5,921 (654) 5,267
-------- -------- --------
Sub-total 8,983 (1,352) 7,631
Contract acquisition costs 115,516 (55,063) 60,453
-------- -------- --------
Total $124,499 $(56,415) $ 68,084
======== ======== ========
Amortization expense related to intangibles amounted to $5.9 million, $6.7
million and $7.2 million for the years ended December 31, 2003, 2002 and 2001,
respectively. In December, 2003, the Company wrote-off $27.4 million in contract
acquisition costs associated with the sale of the Geothermal Business.
The estimated future amortization expense of intangible assets as of December
31, 2003 is as follows (in thousands of dollars)
FOR THE YEAR ENDED AMOUNT
2004 4,056
2005 4,056
2006 4,056
2007 4,056
2008 3,891
Thereafter 14,031
--------
Total $ 34,146
========
95
The following table presents the changes in goodwill allocated to the company's
reportable segments during fiscal 2002 and 2003 (in thousands of dollars):
Balance at Impairment Balance at Balance at
December 31,2001 Sold Adjustments December 31,2002 December 31,2003
- ---------------------------------------------------------------------------------------------------------------
Domestic energy and water $ 4,517 $ -- $(4,517) $ -- $ --
International energy 5,361 (2,264) (3,097) -- --
Other 228 -- (228) -- --
------- ------- ------- ----- -----
Total $10,106 $(2,264) $(7,842) $ -- $ --
======= ======= ======= ===== =====
On June 30, 2002, the Company completed the required impairment evaluation of
goodwill in conjunction with its adoption of SFAS No. 142. As a result of
current risks and other conditions in its energy business and based upon the
expected present value of future cash flows, the Company determined that $7.8
million of goodwill related to its energy business was impaired and was
therefore written-off. As required by SFAS No. 142, this adjustment has been
accounted for as a cumulative effect of a change in accounting principle as of
January 1, 2002, which had no tax impact.
FOR THE YEAR ENDED DECEMBER 31,
(In thousands of dollars, except per share amounts) 2003 2002 2001
----------- ----------- -----------
Net income (loss) $ 43,512 $ (178,895) $ (231,027)
Add back: goodwill amortization, net of tax -- -- 542
----------- ----------- -----------
Adjusted net income (loss) $ 43,512 $ (178,895) $ (230,485)
----------- ----------- -----------
BASIC EARNINGS (LOSS) PER COMMON SHARE:
Reported net income (loss) $ 0.87 $ (3.60) $ (4.65)
Goodwill amortization -- -- 0.01
----------- ----------- -----------
Adjusted net income (loss) $ 0.87 $ (3.60) $ (4.64)
=========== =========== ===========
DILUTED EARNINGS (LOSS) PER COMMON SHARE:
Reported net income (loss) $ 0.87 $ (3.60) $ (4.65)
Goodwill amortization -- -- 0.01
----------- ----------- -----------
Adjusted net income (loss) $ 0.87 $ (3.60) $ (4.64)
=========== =========== ===========
12. CONVERTIBLE SUBORDINATED DEBENTURES
Convertible subordinated debentures (expressed in thousands of dollars)
consisted of the following:
2003 2002
- ----------------------------------------------------------------
6% debentures due June 1, 2002 $ 85,000 $ 85,000
5.75% debentures due October 20, 2002 63,650 63,650
--------- ---------
Total 148,650 148,650
Less: Liabilities subject to compromise (148,650) (148,650)
--------- ---------
Total $ -- $ --
========= =========
The 6% convertible subordinated debentures were convertible into Covanta common
stock at the rate of one share for each $39.077 principal amount of debentures.
These debentures were redeemable at Covanta's option at 100% face value. The
5.75% convertible subordinated debentures were convertible into Covanta common
stock at the rate of one share for each $41.772 principal amount of debentures.
These debentures were redeemable at Covanta's option at 100% of face value. By
their terms, both series of bonds were subordinated in right of payment to the
prior payment in full of the indebtedness of Covanta. Indebtedness was defined
to include all obligations, contingent or otherwise, which in accordance with
generally accepted accounting principles should be classified as liabilities and
in any event all obligations secured by liens on the issuer's property and
guarantees and other contingent obligations of the issuer in respect of the
indebtedness of others. In accordance with SOP 90-7, since April 1, 2002
interest expense has not been accrued on the subordinated debentures as it is
not likely to be paid. As of December 31, 2003 and December 31, 2002 both of
these debentures have been included in Liabilities subject to compromise. The
holders of these debentures did not participate in the new capital structure or
receive any value following under the Reorganization Plan.
13. ACCRUED EXPENSES
96
Accrued expenses (expressed in thousands of dollars) consisted of the following:
2003 2002
- --------------------------------------------------------------
Operating expenses $ 40,418 $ 58,886
Severance 2,305 13,797
Insurance 14,954 9,205
Debt service charges and interest 15,257 31,047
Municipalities' share of energy revenues 29,737 35,166
Payroll 21,589 29,459
Payroll and other taxes 51,867 59,544
Lease payments 67 13,898
Pension and profit sharing 16,839 15,837
Other 15,309 27,942
-------- --------
Total $208,342 $294,781
======== ========
14. DEFERRED INCOME
Deferred income (expressed in thousands of dollars) consisted of the following:
2003 2002
CURRENT NON-CURRENT CURRENT NON-CURRENT
-------- ----------- -------- -----------
Power sales agreement prepayment $ 9,001 $129,304 $ 9,001 $138,305
Sale and leaseback arrangements -- -- 1,524 12,695
Advance billings to municipalities 10,555 -- 13,262 --
Other 17,875 -- 17,615 --
-------- -------- -------- --------
Total $ 37,431 $129,304 $ 41,402 $151,000
======== ======== ======== ========
In 1998, the Company received a payment for future energy deliveries required
under a power sales agreement. This prepayment is being amortized straight-line
over the life of the agreement, which expires in 2019. The gains from sale and
leaseback transactions consummated in 1986 and 1987 were deferred and were being
amortized as a reduction of rental expense over the respective lease terms. The
leases which resulted in these gains were terminated in 2003. (See Note 2 for
further discussion.) Advance billings to various customers are billed one or two
months prior to performance of service and are recognized as income in the
period the service is provided.
15. LONG-TERM DEBT
Long-term debt (expressed in thousands of dollars) consisted of the following:
2003 2002
- ---------------------------------------------------------------
9.25% debentures due 2022 $ 100,000 $ 100,000
Other long-term debt 22,127 79,137
--------- ---------
Total 122,127 179,137
Less amounts subject to compromise (110,485) (138,908)
Less current portion of long term debt (9,492) (16,450)
--------- ---------
Total $ 2,150 $ 23,779
========= =========
The Company's 9.25% Debentures, were prior to the effective date of the
Reorganization Plan, to the extent required by their terms, equally and ratably
secured by the security interests granted under the Company's Revolving Credit
and Participation Agreement (see Note 17). On March 1, 2002, the Company availed
itself of the 30-day grace period provided under the terms of its 9.25%
Debentures due March 2022, and did not make the interest payment due on March 1,
2002 at that time. Following the commencement of the Chapter 11 Cases in April
2002, the Company did not make interest payments on the 9.25% Debentures. As of
December 31, 2003 and 2002 the 9.25% Debentures have been included in
Liabilities subject to compromise. See note 2 for a description of the treatment
of the 9.25% Debentures under the Reorganization Plan.
97
Other long-term debt included the following obligations at December 31, 2003 and
2002:
$0.9 million at December 31, 2003, due to a financial
institution, which relates to the construction of a second heavy
fuel oil fired diesel engine power plant in India. The U.S.
dollar denominated amount bears interest at an adjustable rate
that is the three-month LIBOR rate plus 4.0% (5.64% at December
31, 2003). The debt extends through 2005.
$1.2 and $1.8 million at December 31, 2003 and 2002, respectively
due to a financial institution, which relates to the construction
of a coal fired power plant in China. The U.S. dollar denominated
amount bears interest at an adjustable rate 5.49% and 5.49% at
December 31, 2003 and 2002, respectively. The debt extends
through 2006.
$22.5 million resulting from the sale of limited partnership
interests in and related tax benefits of the Onondaga facility,
which has been accounted for as a financing for accounting
purposes. This obligation had an effective interest rate of 10%
and extended through 2015. This waste-to-energy project was
restructured in October, 2003, as part of the restructuring this
financing was converted to Minority interest on the Consolidated
Balance Sheet as of December 31, 2003. (See Note 2 for further
discussion).
$28.4 million, related to a sale and leaseback arrangement
relating to an energy facility in Hennepin, Minnesota. This
arrangement was accounted for as a financing, had an effective
interest rate of approximately 5%, and extended through 2017. As
of December 31, 2002, this obligation was included in Liabilities
subject to compromise. This waste-to-energy project was
restructured in July, 2003, as part of the restructuring this
financing was reclassified as an Other liability on the
Consolidated Balance Sheet as of December 31, 2003. (See Note 2
for further discussion.)
$12.5 million relating to the buyout of operating leases at a
geothermal plant and a fluid field. On February 11, 2002 the
Company restructured these notes extending their maturity from
April 2002 to July 2003, and, therefore, these notes were
classified as current maturities of long-term debt in the
December 31, 2002 Consolidated Balance Sheet. These notes bore
interest at the three-month Eurodollar rate plus 4.75% (6.15% at
December 31, 2002). These notes were to be paid from
substantially all available cash generated by the related plant
and the fluid field. This debt was secured by all the Company's
assets relating to the geothermal plant and fluid field. This
liability was paid off with the completion of the sale of the
Geothermal Business on December 18, 2003. (See Note 3 for further
discussion).
$1.5 million note associated with the acquisition of energy
assets. The note bears interest at 6.0% and matures in 2009. As
of December 31, 2003 and 2002, this note is included in
Liabilities subject to compromise.
The maturities on long-term debt including capital lease obligations, net of
liabilities subject to compromise, (expressed in thousands of dollars) at
December 31, 2003 were as follows:
2004 $ 9,492
2005 909
2006 1,235
2007 6
-----------
Total 11,642
Less current portion (9,492)
-----------
Total long-term debt $ 2,150
==========
See Note 17 for a description of the credit arrangements of the Company.
16. PROJECT DEBT
98
Project debt (expressed in thousands of dollars) consisted of the following:
2003 2002
- -----------------------------------------------------------------------------------------------------
Revenue Bonds Issued by and Prime Responsibility of Municipalities:
3.625-6.75% serial revenue bonds due 2005 through 2011 $ 287,320 $ 334,965
5.0-7.0% term revenue bonds due 2005 through 2015 221,644 302,230
Adjustable-rate revenue bonds due 2006 through 2013 126,665 130,330
---------- ----------
Total 635,629 767,525
---------- ----------
Revenue Bonds Issued by Municipal Agencies with Sufficient Service Revenues
Guaranteed by Third Parties:
5.25-8.9% serial revenue bonds due 2005 through 2008 47,260 58,620
---------- ----------
Other Revenue Bonds:
4.7-5.5% serial revenue bonds due 2005 through 2015 71,820 79,390
5.5-6.7% term revenue bonds due 2014 through 2019 68,020 68,020
---------- ----------
Total 139,840 147,410
---------- ----------
Other project debt 110,456 154,662
---------- ----------
Total long-term project debt $ 933,185 $1,128,217
========== ==========
Project debt associated with the financing of waste-to-energy facilities is
generally arranged by municipalities through the issuance of tax-exempt and
taxable revenue bonds. The category, "Revenue Bonds Issued by and Prime
Responsibility of Municipalities," includes bonds issued with respect to
projects owned by the Company for which debt service is an explicit component of
the Client Community's obligation under the related service agreement. In the
event that a municipality is unable to satisfy its payment obligations, the
bondholders' recourse with respect to the Company is limited to the
waste-to-energy facilities and restricted funds pledged to secure such
obligations.
The category "Revenue Bonds Issued by Municipal Agencies with Sufficient Service
Revenues Guaranteed by Third Parties" includes municipal bonds issued to finance
two facilities for which contractual obligations of third parties to deliver
waste ensure sufficient revenues to pay debt service, although such debt service
is not an explicit component of the third parties' service fee obligations.
The category "Other Revenue Bonds" includes bonds issued to finance one facility
for which current contractual obligations of third parties to deliver waste
provide sufficient revenues to pay debt service related to that facility through
2011, although such debt service is not an explicit component of the third
parties' service fee obligations. The Company anticipates renewing such
contracts prior to 2011.
Payment obligations for the project debt associated with waste-to-energy
facilities owned by the Company are limited recourse to the operating subsidiary
and non-recourse to the Company, subject to construction and operating
performance guarantees and commitments. These obligations are secured by the
revenues pledged under various indentures and are collateralized principally by
a mortgage lien and a security interest in each of the respective
waste-to-energy facilities and related assets. At December 31, 2003, such
revenue bonds were collateralized by property, plant and equipment with a net
carrying value of $1,180.8 million and restricted funds held in trust of
approximately $198.9 million.
The interest rates on adjustable-rate revenue bonds are adjusted periodically
based on current municipal-based interest rates. The average adjustable rate for
such revenue bonds was 1.16% and 1.54% at December 31, 2003 and 2002,
respectively, and the average adjustable rate for such revenue bonds was 1.05%
and 1.35% during 2003 and 2002, respectively.
Other project debt includes the following obligations for 2003 and 2002:
$0.5 and $4.0 million at December 31, 2003 and 2002,
respectively, due to a financial institution as part of the
refinancing of project debt in the category "Revenue Bonds Issued
by and Prime Responsibility of Municipalities." The debt service
associated with this loan is included as an explicit component of
the Client Community's obligation under the related service
agreement. A portion of the funds was retained in the Company's
restricted funds and is loaned to the Client Community each month
to cover the Client Community's monthly service fees. The
Company's repayment for the other part of the loan is limited to
the
99
extent repayment is received from the Client Community. This
obligation has an effective interest rate of 7.06% at December
31, 2003 and 2002 and extends through 2005.
$8.4 million due to financial institutions which amount bears
interest at an adjustable rate that was the three-month LIBOR
rate plus 1.4% (2.83% at December 31, 2002). The debt did extend
through 2005 and was secured by substantially all the assets of a
subsidiary that owns various power plants in the United States,
which had a carrying value of approximately $86.0 million at
December 31, 2002, and $5.0 million funded into an escrow
account. This liability was paid off with the sale of the
Geothermal Business on December 18, 2003. (See Note 3 for further
discussion).
$19.8 and $25.8 million at December 31, 2003 and 2002,
respectively, due to financial institutions for the purchase of
the Magellan Cogeneration Inc. power plant in The Philippines.
This debt bears interest at rates equal to the three-month LIBOR
plus spreads that increase from plus 4.5% until June 2005, to
plus 4.875% from June 2005 to June 2007. The rate all in was
5.68% and 5.92% at December 31, 2003 and 2002, respectively. This
debt is non-recourse to Covanta and is secured by all assets of
the project, which had no net carrying value at December 31,
2003, and all revenues and contracts of the project and by a
pledge of the Company's ownership in the project.
$46.0 and $48.0 million due to financial institutions, of which
$27.2 and $28.7 million is denominated in U.S. dollars and $18.8
and $19.3 million is denominated in Indian, rupees at December
31, 2003 and 2002, respectively. During 2003, an additional $3.6
million was drawn representing the final disbursement on the
debt. This debt relates to the construction of a heavy fuel oil
fired diesel engine power plant in India. The U.S. dollar debt
bears interest at the three-month LIBOR, plus 4.5% (5.65% and
6.31% at December 31, 2003 and 2002, respectively). The Indian
rupee debt bears interest at rates ranging from 16.0% to 16.5% at
December 31, 2003 and 2002. The debt extends through 2011, is
non-recourse to Covanta, and is secured by the project assets,
which had a net carrying value of approximately $94.2 and $86.4
million at December 31, 2003 and 2002, respectively.
$44.1 and $48.7 million at December 31, 2003 and 2002,
respectively due to a financial institution which relates to the
construction of a second heavy fuel oil fired diesel engine power
plant in India. It is denominated in Indian rupees and bears
interest at rates ranging from 11.75% to 16.15%. The debt extends
through 2010, is non-recourse to Covanta and is secured by the
project assets, which had a net book value at December 31, 2003
and 2002, of approximately $79.3 and $75.8 million, respectively.
$19.7 million obligation, at December 31, 2002, of a limited
partnership acquired by subsidiaries of Covanta and represents
the lease of a geothermal power plant, which had been accounted
for as a financing, had an effective interest rate of 5.3% and
extended into 2008 with options to renew for additional periods
and has a fair market value purchase option at the conclusion of
the initial lease term. Payment obligations under this lease
arrangement were limited to assets of the limited partnership and
revenues derived from a power sales agreement with a third party,
which were expected to provide sufficient revenues to make rental
payments. Such payment obligations were secured by all the
assets, revenues, and other benefits derived from the geothermal
power plant, which had a net carrying value of approximately
$59.7 million at December 31, 2002. Revenues of the limited
partnership were contractually required by the lessor to be
deposited into a series of escrow accounts administered by an
independent escrow agent. A letter agreement with the lessor, as
amended on December 20, 2000, also required that if Covanta's
senior debt rating fell below investment grade, the limited
partnership would commence depositing funds into a lease reserve
account pursuant to the existing project document until
$7,500,000 was in the account. On January 16, 2002, Covanta's
senior debt rating fell below investment grade, as defined. On
May 13, 2002, the Bankruptcy Court issued a final order (the
"Final Order") approving certain changes to the existing lease
documents negotiated as a result of the limited partnership's
bankruptcy filing on April 1, 2002. Under the Final Order, the
limited partnership agreed to make all lease payments due after
the Petition Date. The Final Order did not authorize the limited
partnership to pay any lease amounts due prior to April 1, 2002,
but instead ordered the limited partnership to place that amount
in escrow and accrue interest. The pre-petition lease payments
being held in escrow would be paid to the lessor with interest if
the limited partnership assumed the lease. If the limited
partnership rejected the lease the escrowed funds and interest
would be returned to the limited partnership. Pursuant to the
Final Order, the limited partnership was not required to fund the
lease reserve account until the earliest of (1) the effective
date of a plan of reorganization, (2) expiration of the debtor in
possession facility, but no later than October 1, 2003,
100
and (3) a default arising after the Petition Date. On June 27,
2002 and in compliance with the Final Order, the Bankruptcy Court
approved an Order Authorizing Assumption of Certain Inter-company
Agreements authorizing the limited partnership to assume
executory contracts and agreements with related parties. This
liability was paid off with the completion of the sale of the
Geothermal Business on December 18, 2003. (See Note 3 for further
discussion).
At December 31, 2003, the Company had one interest rate swap agreement that
economically fixes the interest rate on certain adjustable-rate revenue bonds.
The swap agreement was entered into in September 1995 and expires in January
2019. This swap agreement relates to adjustable rate revenue bonds in the
category "Revenue Bonds Issued by and Prime Responsibility of Municipalities."
Any payments made or received under the swap agreement, including fair value
amounts upon termination, are included as an explicit component of the Client
Community's obligation under the related service agreement. Therefore, all
payments made, or received under the swap agreement are a passthrough to the
Client Community. Under the swap agreement, the Company will pay an average
fixed rate of 9.8% for 2002 through January 2005, and 5.18% thereafter through
January 2019, and will receive a floating rate equal to the rate on the
adjustable rate revenue bonds, unless certain triggering events occur (primarily
credit events), which results in the floating rate converting to either a set
percentage of LIBOR or a set percentage of the BMA Municipal Swap Index, at the
option of the swap counterparty, (see Note 1). In the event the Company
terminates the swap prior to its maturity, the floating rate used for
determination of settling the fair value of the swap would also be based on a
set percentage of one of these two rates at the option of the counterparty. For
the years ended December 31, 2003, 2002 and 2001, the floating rate on the swap
averaged 1.09%, 1.41% and 2.46%, respectively. The notional amount of the swap
at December 31, 2003 was $80.2 million and is reduced in accordance with the
scheduled repayments of the applicable revenue bonds. The counterparty to the
swap is a major financial institution. The Company believes the credit risk
associated with nonperformance by the counterparty is not significant. The swap
agreement resulted in increased debt service expense of $3.7 million, $3.4
million and $2.2 million for 2003, 2002 and 2001, respectively. The effect on
Covanta's weighted-average borrowing rate of the project debt was an increase of
0.32%, 0.25% and 0.17%, for 2003, 2002 and 2001, respectively.
The maturities on long-term project debt (expressed in thousands of dollars) at
December 31, 2003 were as follows:
2004 $ 99,216
2005 101,058
2006 110,895
2007 108,219
2008 98,992
Later years 514,021
----------
Total $1,032,401
Less current portion (99,216)
----------
Total long-term project debt $ 933,185
===========
See Note 17 for a description of the credit arrangements of the Company.
17. CREDIT ARRANGEMENTS
The Company entered into the Master Credit Facility as of March 14, 2001. The
Master Credit Facility was secured by substantially all of the Company's assets
and was scheduled to mature on May 31, 2002 but was not fully discharged by the
Debtor In Possession Credit Agreement (as amended, the "DIP Credit Facility")
discussed below. This, as well as the non-compliance with required financial
ratios and possible other items, has caused the Company to be in default under
its Master Credit Facility. However, as previously discussed, on April 1, 2002,
the Company and 123 of its subsidiaries filed voluntary petitions for relief
under Chapter 11 of the Bankruptcy Code that, among other things, act as a stay
of enforcement of any remedies under the Master Credit Facility against any
debtor company. For 2002, bank fees of $24.0 million relate to the Company's
Master Credit Facility. These fees were recognized as Other expenses-net and
were payable in March 2002 but remain unpaid and were resolved through the
Company's bankruptcy proceedings. The Master Credit Facility was discharged upon
the effectiveness of the Reorganization Plan (see Note 2).
101
In connection with the bankruptcy petition, Covanta and most of its subsidiaries
entered into the DIP Credit Facility with the DIP Lenders. On April 5, 2002, the
Bankruptcy Court issued its interim order approving the DIP Credit Facility and
on May 15, 2002, a final order approving the DIP Credit Facility. On August 2,
2002, the Bankruptcy Court issued an order that overruled objections by holders
of minority interests in two limited partnerships who disputed the inclusion of
the limited partnerships in the DIP Credit Facility. Although the holders of
such interests at one of the limited partnerships have appealed the order, they
have reached an agreement with the Company that in effect deferred the appeal.
The DIP Credit Facility's terms are described below.
The DIP Credit Facility was largely for the continuation of existing letters of
credit and was secured by all of the Company's domestic assets not subject to
liens of others and generally 65% of the stock of its foreign subsidiaries held
by domestic subsidiaries. Obligations under the DIP Credit Facility were senior
in status to other pre-petition secured claims, and the DIP Credit Facility was
the operative debt agreement with the Company's banks. The Master Credit
Facility remained in effect during the Chapter 11 Cases to determine the rights
of the lenders who are a party to it with respect to obligations not continued
under the DIP Credit Facility. The DIP Credit Facility was discharged upon the
effectiveness of the Reorganization Plan (see Note 2).
As of March 31, 2002, letters of credit had been issued under the Master Credit
Facility for the Company's benefit to secure performance under certain energy
contracts (totaling $203.6 million); to secure obligations relating to the
entertainment businesses (totaling $153.0 million) largely with respect to the
Anaheim and Ottawa projects described in Notes 3 and 4, in connection with the
Company's insurance program (totaling $38.4 million); and for credit support of
the Company's adjustable rate revenue bonds (totaling $127.0 million). Of these
letters of credit issued under the Master Credit Facility, only $240.8 million
of the outstanding letters of credit, principally in connection with energy
facilities and the Company's insurance program, were replaced with letters of
credit issued under the DIP Credit Facility. As of December 31, 2003, the Master
Credit Facility had $3.0 million in letters of credit that had previously been
issued and are still outstanding.
Beginning in April 2002 and as a result of the Company's Chapter 11 filing,
trustees for the Company's adjustable rate revenue bonds declared the principal
and accrued interest on such bonds due and payable immediately. Accordingly,
letters of credit supporting these bonds have been drawn in the amount of $125.1
million. In addition, letters of credit in the amounts of $2.1 million, relating
to the entertainment businesses, were drawn in December 2002. In December 2003
$113.7 million in letters of credit were drawn and a payment of $45.4 million
was made against the drawn amount from a third party. The balance of $68.9
million was already accrued on the Company's books as a liability subject to
compromise. An additional letter of credit in the amount of $27.5 million was
released as part of the settlement of Arrowhead Pond (see Note 3 - Discontinued
Operations for further discussion).
The DIP Credit Facility when originally issued provided for approximately $289.1
million in financing and comprised of is two tranches. The Tranche A Facility
(the "Tranche A Facility"), originally provided the Company with a credit line
of approximately $48.2 million in commitments for the issuance of letters of
credit and for cash borrowings under a revolving credit line. The Tranche A
Facility was reduced by amendment over time as the need for additional letters
of credit were reduced. At December 31, 2003, the Tranche A Facility was $7.2
million all of which was outstanding in letters of credit. The Tranche A
Facility was thereafter reduced by an additional $0.2 million each month, in
commitments for letters of credit as a result of the reduced need for a letter
of credit in connection with the Company's Hennepin project
The Tranche B Facility (the "Tranche B Facility"), originally provided the
Company with a credit line of approximately $240.8 million in commitments for
the continuation of existing letters of credit, which were previously issued
under the Master Credit Facility as discussed above. The Tranche B Facility was
reduced to approximately $183.6 million in commitments at December 31, 2003 as
the need for letters of credit was reduced. The reductions in the Tranche B
Facility are as follows: in December, 2002, a $3.0 million reduction when the
Company sold its remaining interest in the aviation business, in October and
November, 2003, a $30.0 million reduction when the Company closed its
relationship with the prior workers' compensation carrier and issued $5.6
million in new letters of credit under the Tranche A Facility for a new carrier,
and a $24.3 million reduction in the letter of credit issued in support of lease
payments made by the lessee at a waste-to-energy facility over the period of the
DIP Credit Facility.
Of the outstanding letters of credit at December 31, 2003, approximately $38.0
million secures indebtedness that is included in the Condensed Consolidated
Balance Sheet and approximately $155.6 million principally secured the Company's
obligations under energy contracts to pay damages in the event of
non-performance by the Company which
102
the Company believes to be unlikely. These
letters of credit were generally available for drawing upon if the Company
defaulted on the obligations secured by the letters of credit or failed to
provide replacement letters of credit as the current ones expire.
Borrowings under the Tranche A Facility were subject to compliance with monthly
and budget limits. The Company could utilize the amount available for cash
borrowings under the Tranche A Facility to reimburse the issuers of letters of
credit issued under the Tranche A Facility if and when such letters of credits
were drawn. The Company could also utilize the Tranche A Facility to fund
working capital requirements and for general corporate purposes of the Company
relating to the Company's post-petition operations and other expenditures in
accordance with a monthly budget and applicable restrictions typical of a
Chapter 11 debtor in possession financing.
On April 8, 2002, under its DIP Credit Facility, the Company paid a facility fee
of approximately $1.0 million, equal to 2% of the amount of the Tranche A
commitments, $2.5 million of agent fees and $0.5 million of lender advisor fees.
During 2002 the Company paid additional amendment fees and agent fees of $1.1
million and $0.8 million, respectively.
In addition, the Company paid a commitment fee based on utilization of the
facility of .75% of the unused Tranche A commitments. The Company also paid a
fronting fee for each Tranche A and Tranche B letter of credit equal to the
greater of $500 and 0.25% of the daily amount available to be drawn under such
letter of credit, as well as letter of credit fees of 3.25% on Tranche A letters
of credit and 2.50% on Tranche B letters of credit, calculated over the daily
amount available for drawings thereunder.
Outstanding loans under the Tranche A Facility and the Tranche B Facility bore
interest at the Company's option at either the prime rate plus 2.50% or the
Eurodollar rate plus 3.50%.
The DIP Credit Facility contained covenants which restrict (1) the incurrence of
additional debt, (2) the creation of liens, (3) investments and acquisitions,
(4) incurrence of contingent obligations and performance guarantees, and (5)
disposition of assets.
In addition, the DIP Credit Facility, as amended, included the following
reporting covenants:
(1) Cash flow: (a) provide biweekly operating and variance reports and
monthly compliance reports for total and specific expenditures and (b)
provide monthly budget and 13-week forecast updates;
(2) Financial statements: (a) provide quarterly financial statements
within 60 days of the end of each of the Company's first three fiscal
quarters, or in lieu thereof, a copy of its Quarterly Report on Form
10-Q, (b) provide annual audited financial statements within 120 days
of the end of the Company's fiscal year or in lieu thereof, a copy of
its Annual Report on Form 10-K, and (c) achieve quarterly minimum
cumulative consolidated operating income targets for April 1, 2003
through March 31, 2004.
(3) Other: (a) deliver, when available, the Chapter 11 restructuring plan
and (b) provide other information as reasonably requested by the DIP
Lenders.
As of December 31, 2003 and the effective date of the Reorganization Plan the
Company was in material compliance with all of the covenants of the DIP Credit
Facility, as amended.
The Company did not make any cash borrowings under its DIP Credit Facility, as
amended, but approximately $7.2 million in new letters of credit were issued
under Tranche A of the DIP Credit facility as of December 31, 2003.
The DIP Credit Facility initially was scheduled to mature on April 1, 2003. On
March 28, 2003 the DIP Credit Facility was extended through October 1, 2003 and
on September 15, 2003 was extended through April 1, 2004. On March 25, 2003, an
extension fee of $0.1 million was paid by the Company to the DIP Lenders. In
addition, on April 1, 2003, the Company paid an annual administrative fee of
$0.4 million.
18. OTHER LIABILITIES
103
Other liabilities (expressed in thousands of dollars) consisted of the
following:
2003 2002
- -----------------------------------------------
Interest rate swap $16,728 $19,137
Accrued interest -- 7,270
Project lease reserves -- 30,071
Post-retirement reserves -- 12,190
Deferred revenue 24,670 --
Asset retirement obligation 18,387 --
Other 18,573 11,701
------- -------
Total $78,358 $80,369
======= =======
The project lease reserves of $30.1 million in 2002 were associated with a
hydro-project lease which expired in 2003 and a waste-to-energy lease which was
rejected in 2003.
Deferred revenue of $24.7 million in 2003 is a result of the Hennepin
restructuring (see Notes 2 and 15).
19. PREFERRED STOCK
The outstanding Series A $1.875 Cumulative Convertible Preferred Stock was
convertible at any time at the rate of 5.97626 common shares for each preferred
share. Covanta could redeem the outstanding shares of preferred stock at $50 per
share, plus all accrued dividends. These preferred shares were entitled to
receive cumulative annual dividends at the rate of $1.875 per share, plus an
amount equal to 150% of the amount, if any, by which the dividend paid or any
cash distribution made on the common stock in the preceding calendar quarter
exceeded $.0667 per share. With the filing of voluntary petitions for
reorganization under Chapter 11 on April 1, 2002 (see Note 1) dividend payments
were suspended. The holders of the preferred shares did not participate in the
new capital structure of Covanta or receive any value under the Reorganization
Plan.
20. COMMON STOCK AND STOCK OPTIONS
The plans described in this note were terminated, together with all options and
rights there-under with the Reorganization Plan.
In 1986, Covanta adopted a nonqualified stock option plan (the "1986 Plan").
Under this plan, options and/or stock appreciation rights were granted to key
management employees to purchase Covanta common stock at prices not less than
the fair market value at the time of grant, which became exercisable during a
five-year period from the date of grant. Options were exercisable for a period
of ten years after the date of grant. As adopted and as adjusted for stock
splits, the 1986 Plan called for up to an aggregate of 2,700,000 shares of
Covanta common stock to be available for issuance upon the exercise of options
and stock appreciation rights, which were granted over a ten-year period ending
March 10, 1996.
In October 1990, Covanta adopted a nonqualified stock option plan (the "1990
Plan"). Under this plan, nonqualified options, incentive stock options, and/or
stock appreciation rights and stock bonuses could be granted to key management
employees and outside directors to purchase Covanta common stock at an exercise
price to be determined by the Covanta Compensation Committee, which become
exercisable during the five-year period from the date of grant. These options
were exercisable for a period of ten years after the date of grant. Pursuant to
the 1990 Plan, which was amended in 1994 to increase the number of shares
available by 3,200,000 shares, an aggregate of 6,200,000 shares of Covanta
common stock were available for grant over a ten-year period which ended October
11, 2000.
In 1999, Covanta adopted a nonqualified stock option plan (the "1999 Plan").
Under this plan, nonqualified options, incentive stock options, limited stock
appreciation rights ("LSAR's") and performance-based cash awards could be
granted to employees and outside directors to purchase Covanta common stock at
an exercise price not less than 100% of the fair market value of the common
stock on the date of grant which become exercisable over a three-year period
from the date of grant. These options were exercisable for a period of ten years
after the date of grant. In addition, performance-based cash awards could also
be granted to employees and outside directors. As adopted, the 1999 Plan called
for up to an aggregate of 4,000,000 shares of Covanta common stock to be
available for issuance upon the exercise of such options and LSAR's, which could
be granted over a ten-year period ending May 19, 2009. At December 31, 2003,
2,042,032 shares were available for grant.
104
Effective January 1, 2000, the 1999 Plan was amended and restated to change the
name of the plan to the "1999 Stock Incentive Plan" and to include the award of
restricted stock to key employees based on the attainment of pre-established
performance goals. The maximum number of shares of common stock that is
available for awards of restricted stock is 1,000,000.
Under the foregoing plans, Covanta issued 3,952,900 LSAR's between 1990 and 2001
in conjunction with the stock options granted. These LSAR's were exercisable
only during the period commencing on the first day following the occurrence of
any of the following events and terminate 90 days after such date: the
acquisition by any person of 20% or more of the voting power of Covanta's
outstanding securities; the approval by Covanta shareholders of an agreement to
merge or to sell substantially all of its assets; or the occurrence of certain
changes in the Company's Board of Directors. The exercise of these limited
rights entitled participants to receive an amount in cash with respect to each
share subject thereto, equal to the excess of the market value of a share of
Covanta common stock on the exercise date or the date these limited rights
became exercisable, over the related option price.
In February 2000, Covanta adopted (through an amendment to the 1999 Stock
Incentive Plan) the Restricted Stock Plan for Key Employees (the "Key Employees
Plan") and the Restricted Stock Plan for Non-Employee Directors (the "Directors
Plan"). The Plans, as amended, called for up to 500,000 shares and 160,000
shares, respectively, of restricted Covanta common stock to be available for
issuance as awards. Awards of restricted stock were to be made from treasury
shares of Covanta common stock, par value $.50 per share. The Company accounted
for restricted shares at their market value on their respective dates of grant.
Restricted shares awarded under the Directors Plan vested 100% at the end of
three months from the date of award. Shares of restricted stock awarded under
the Key Employees Plan were subject to a two-year vesting schedule, 50% one year
following the date of award and 50% two years following the date of award. As of
December 31, 2003, an aggregate of 169,198 shares of restricted stock had been
awarded under the Key Employees Plan and an aggregate of 95,487 shares of
restricted stock had been awarded under the Directors Plan. The total
compensation cost recorded by the Company in 2003, 2002 and 2001 relating to the
restricted stock plans was zero, zero and $2.2 million, respectively.
Information regarding the Company's stock option plans is summarized as follows:
Option Price Weighted-Average
Per Share Outstanding Exercisable Exercise Price
- ------------------------------------------------------------------------------------------
1986 Plan:
December 31, 2000, balance $ 22.50 95,500 95,500 $ 22.50
Cancelled $ 22.50 (85,500) (85,500) $ 22.50
------------- --------- --------- ----------
December 31, 2001, balance $ 22.50 10,000 10,000 $ 22.50
December 31, 2002, balance $ 22.50 10,000 10,000 $ 22.50
December 31, 2003, balance $ 22.50 10,000 10,000 $ 22.50
------------- --------- --------- ----------
1990 Plan:
December 31, 2000, balance $9.97-$29.38 2,368,500 1,511,200 $ 23.56
Became exercisable $9.97-$29.38 268,600
Cancelled $20.06-$26.78 (559,500) (436,800) $ 23.51
------------- --------- --------- ----------
December 31, 2001, balance $9.97-$29.38 1,809,000 1,343,000 $ 23.51
Became exercisable $9.97-$29.38 200,000
Cancelled $20.06-$26.78 (272,000) (235,000) $ 23.03
------------- --------- --------- ----------
December 31, 2002, balance $9.97-$29.38 1,537,000 1,308,000 $ 23.43
Became exercisable $9.97-$29.38 152,000
Cancelled $20.06-$26.78 (133,500) (130,500) $ 23.45
------------- --------- --------- ----------
December 31, 2003, balance $9.97-$29.38 1,403,500 1,329,500 $ 23.63
------------- --------- --------- ----------
1999 Plan:
December 31, 2000, balance $8.66-$26.59 1,488,900 471,533 $ 13.12
Granted $16.18-$20.23 685,100 $ 17.29
Exercised $11.28-$14.73 (62,863) (62,863) $ 12.85
Became exercisable $8.66-$26.59 443,509
Cancelled $11.28-$17.59 (153,169) (20,500) $ 13.52
------------- --------- --------- ----------
December 31, 2001, balance $8.66-$26.59 1,957,968 831,679 $ 14.68
Became exercisable $8.66-$26.59 613,280
Cancelled $11.28-$20.23 (181,633) (52,399) $ 14.23
------------- --------- --------- ----------
December 31, 2002, balance $8.66-$26.59 1,776,335 1,392,560 $ 13.76
Became exercisable $9.97-$17.93 205,880
Cancelled $11.78-$17.93 (99,467) (65,338) $ 16.00
------------- --------- --------- ----------
December 31, 2003, balance $8.66-$26.59 1,676,868 1,533,102 $ 14.14
Total December 31, 2003 $8.66-$29.38 3,090,368 2,872,602 $ 18.56
============= ========== ========== ==========
105
The following table summarizes information about stock options outstanding at
December 31, 2003:
Options Outstanding Options Exercisable
- --------------------------------------------------------------------------------------------------------------------
Range of Number of Weighted-Average Weighted-Average Number of Weighted-Average
Exercise Shares Remaining Exercise Shares Exercise
Prices Outstanding Contractual Life Price Outstanding Price
$8.66-$12.98 792,800 5.9 Years $11.51 773,633 $11.55
$14.10-$20.19 1,175,568 5.5 Years $17.25 1,030,969 $17.20
$21.50-$29.38 1,122,000 3.0 Years $25.04 1,068,000 $24.95
$8.66-$29.38 3,090,368 4.7 Years $18.60 2,872,602 $18.56
The weighted-average exercise prices for all exercisable options at December 31,
2003, 2002 and 2001 were $18.56, $18.46, and $19.34, respectively.
At December 31, 2003, there were 5,865,576 shares of common stock reserved for
the exercise of stock options, the issuance of restricted stock and the
conversion of preferred shares and debentures.
In 1998, Covanta's Board of Directors authorized the purchase of shares of the
Company's common stock in an amount up to $200 million. From 1998 through
February 22, 1999, 2,223,000 shares of common stock were purchased at a total
cost of $58.9 million. No shares were purchased during 2003, 2002 and 2001.
Existing common stock and stock option holders did not participate in the new
capital structure or receive any value under the Reorganization Plan (see Note
2).
21. SHAREHOLDERS' RIGHTS AGREEMENT
In 1990, the Board of Directors declared a dividend of one preferred stock
purchase right ("Right") on each outstanding share of common stock pursuant to a
Rights Agreement. In 2000, the Board of Directors amended and extended the
Rights Agreement. Among other provisions, each Right could be exercised to
purchase a one one-hundredth share of a new series of cumulative participating
preferred stock at an exercise price of $80, subject to adjustment. The Rights
could only be exercised after a party has acquired 15% or more of the Company's
common stock or commenced a tender offer to acquire 15% or more of the Company's
common stock. The Rights did not have voting rights, would have expired on
October 2, 2010, and could be redeemed by the Company at a price of $.01 per
Right at any time prior to the acquisition of 15% of the Company's common stock.
In the event a party acquires 15% or more of the Company's outstanding common
stock in accordance with certain defined terms, each Right would then entitle
its holders (other than such party) to purchase, at the Right's then-current
exercise price, a number of the Company's common shares having a market value of
twice the Right's exercise price. At December 31, 2003, 49,824,251 Rights were
outstanding. The Rights Agreement and the rights issued under it were terminated
under the Reorganization Plan. Holders of the Rights did not participate in the
new capital structure or receive any value under the Reorganization Plan.
22. FOREIGN EXCHANGE
Foreign exchange translation adjustments net of tax for 2003, 2002 and 2001,
amounting to $2.7 million, $(1.5) million, and $(4.0) million, respectively,
have been charged directly to Other Comprehensive Income (Loss). In 2003, $2.8
million was reclassified to income from continuing operations, in 2002, $1.2
million was reclassified to loss on sale of businesses and $0.3 million was
reclassified to loss from discontinued operations. Foreign exchange transaction
adjustments, amounting to zero, $0.3 million, and $0.7 million, have been
charged directly to net income (loss) for 2003, 2002 and 2001, respectively.
106
23. DEBT SERVICE CHARGES
Debt service charges for Covanta's Project Debt (expressed in thousands of
dollars) consisted of the following:
2003 2002 2001
- ----------------------------------------------------------------------------------------------
Interest incurred on taxable and
tax-exempt borrowings $ 77,046 $ 86,954 $ 93,460
Interest earned on temporary investment
of certain restricted funds (276) (589) (1,551)
-------- -------- --------
Net interest incurred 76,770 86,365 91,909
Interest capitalized during construction in property, plant
and equipment -- -- (5,985)
-------- -------- --------
Debt service charges--net $ 76,770 $ 86,365 $ 85,924
======== ======== ========
24. PENSIONS AND OTHER POSTRETIREMENT BENEFITS
Covanta has defined benefit and defined contribution retirement plans that cover
substantially all of its employees. The defined benefit plans provide benefits
based on years of service and either employee compensation or a fixed benefit
amount. Covanta's funding policy for those plans is to contribute annually an
amount no less than the minimum funding required by ERISA. Contributions are
intended to provide not only benefits attributed to service to date but also for
those expected to be earned in the future. The Company expects to make
contributions to its defined benefit plans of $7.8 million during 2004.
As of January 1, 2002, a defined contribution plan for approximately 1,200
employees was frozen and the employees were transferred to the Company's
qualified defined benefit plan. The following table sets forth the details of
Covanta's defined benefit plans' and other postretirement benefit plans' funded
status (using a December 31 measurement date) and related amounts recognized in
Covanta's Consolidated Balance Sheets (expressed in thousands of dollars):
PENSION BENEFITS OTHER BENEFITS
-------------------- ---------------------
2003 2002 2003 2002
-------- -------- -------- --------
CHANGE IN BENEFIT OBLIGATION:
Benefit obligation at beginning of year $ 38,907 $ 36,600 $ 21,125 $ 10,869
Service cost 5,986 4,187 -- 53
Interest cost 2,717 2,111 1,389 1,409
Amendments -- (2,143) -- 2,143
Actuarial loss 8,120 5,325 1,370 8,061
Benefits paid (621) (285) (1,367) (634)
Aviation fueling sale (see Note 4) -- (6,888) (180) (776)
-------- -------- -------- --------
Benefit obligation at end of year 55,109 38,907 22,337 21,125
-------- -------- -------- --------
CHANGE IN PLAN ASSETS:
Plan assets at fair value
at beginning of year 14,879 26,211 -- --
Actual return on plan assets 5,251 (2,741) -- --
Company contributions 6,534 1,367 634
Benefits paid (621) (285) (1,367) (634)
Aviation fueling sale -- (8,306) -- --
-------- -------- -------- --------
Plan assets at fair value at end of year 26,043 14,879 -- --
-------- -------- -------- --------
RECONCILIATION OF ACCRUED BENEFIT LIABILITY AND NET AMOUNT RECOGNIZED:
Funded status of the plan (29,066) (24,028) (22,337) (21,125)
Unrecognized:
Prior service cost (1,712) (1,897)
Net loss 14,605 12,020 9,729 8,935
-------- -------- -------- --------
Net amount recognized $(16,173) $(13,905) $(12,608) $(12,190)
======== ======== -------- --------
ACCUMULATED BENEFIT OBLIGATION $ 38,060 $ 25,959 $ 22,337 $ 21,125
-------- -------- -------- --------
AMOUNTS RECOGNIZED IN THE CONSOLIDATED BALANCE SHEETS CONSIST OF:
Accrued benefit liability $(16,173) $(13,905) $(12,608) $(12,190)
-------- -------- -------- --------
Net amount recognized $(16,173) $(13,905) $(12,608) $(12,190)
-------- -------- -------- --------
NET PERIODIC BENEFIT EXPENSE
WEIGHTED AVERAGE ASSUMPTIONS
AS OF PRIOR DECEMBER 31:
Discount rate 6.75% 7.25% 6.75% 7.25%
Expected return on plan assets 8.00% 8.00% -- --
Rate of compensation increase 4.50% 4.50% -- --
PROJECTED BENEFIT OBLIGATIONS
WEIGHTED AVERAGE ASSUMPTIONS
AS OF DECEMBER 31:
Discount rate 6.25% 6.75% 6.25% 6.75%
Rate of compensation increase 4.50% 4.50% -- --
107
Plan assets had a fair value of $26.0 million and $14.9 million at December 31,
2003 and 2002. The allocation of plan assets at December 31 was as follows:
2003 2002
--- ---
Equities 75% 74%
U.S. Debt Securities 24% 26%
Other 1% --
--- ---
Total 100% 100%
=== ===
The Company's expected return on plan assets assumption is based on historical
experience and by evaluating input from the trustee managing the plan's assets.
The expected return on the plan assets is also impacted by the target allocation
of assets, which is based on the company's goal of earning the highest rate of
return while maintaining risk at acceptable levels. The plan strives to have
assets sufficiently diversified so that adverse or unexpected results from one
security class will not have an unduly detrimental impact on the entire
portfolio. The target ranges of allocation of assets are as follows:
Equities 40 - 95%
U.S. Debt Securities 25 - 70%
Other 0 - 50%
The Company anticipates that the long-term asset allocation on average will
approximate the targeted allocation. Actual asset allocations are reviewed and
the pension plans' investments are rebalanced to reflect the targeted allocation
when considered appropriate.
For management purposes, an annual rate of increase of 12.0% in the per capita
cost of health care benefits was assumed for 2003 for covered employees. The
rate was assumed to decrease gradually to 5.5% in 2010 and remain at that level.
For the pension plans with accumulated benefit obligations in excess of plan
assets the projected benefit obligation, accumulated benefit obligation, and
fair value of plan assets were $55.1 million, $38.1 million, and $26.0 million,
respectively as of December 31, 2003 and $38.9 million, $26.0 million and $14.9
million, respectively as of December 31, 2002.
Contributions and costs for defined contribution plans are determined by benefit
formulas based on percentage of compensation as well as discretionary
contributions and totaled $3.2 million, $3.3 million and $1.5 million, in 2003,
2002, and 2001, respectively. Plan assets at December 31, 2003, 2002 and 2001,
primarily consisted of common stocks, United States government securities, and
guaranteed insurance contracts.
With respect to union employees, the Company is required under contracts with
various unions to pay retirement, health and welfare benefits, generally based
on hours worked. These multi-employer defined contribution plans are not
controlled or administered by the Company and primarily related to businesses
sold by the Company in 2002. The
108
amount charged to expense for such plans during 2003, 2002 and 2001 was zero,
$1.7 million and $3.0 million, respectively.
Pension costs for Covanta's defined benefit plans and other post-retirement
benefit plans included the following components (expressed in thousands of
dollars):
PENSION BENEFITS OTHER BENEFITS
- -----------------------------------------------------------------------------------------------------------
2003 2002 2001 2003 2002 2001
- -----------------------------------------------------------------------------------------------------------
COMPONENTS OF NET PERIODIC BENEFIT COST:
Service Cost $ 5,986 $ 4,187 $ 2,275 $ -- $ 53 $ 64
Interest Cost 2,717 2,111 2,270 1,389 1,409 713
Expected return on plan assets (1,360) (1,421) (2,027) -- -- --
Amortization of unrecognized:
Net transition (asset) obligation -- -- (53) -- -- --
Prior service cost (185) (185) 37 -- -- --
Net (gain) loss 1,644 195 (102) 591* 527* (117)
------- ------- ------- ------- ------- -------
Net periodic benefit cost $ 8,802 $ 4,887 $ 2,400 $ 1,980 $ 1,989 $ 660
======= ======= ======= ======= ======= =======
* Excludes gains of $196 and $842 in 2003 and 2002 respectively, related to the
sale of non-core businesses.
Assumed health care cost trend rates have a significant effect on the amounts
reported for the health care plan. A one-percentage point change in the assumed
health care trend rate would have the following effects (expressed in thousands
of dollars):
One-Percentage One-Percentage
POINT INCREASE POINT DECREASE
Effect on total service and interest cost components $ 102 $ (90)
Effect on postretirement benefit obligation $ 1,518 $(1,328)
On December 8, 2003, the Medicare Prescription Drug, Improvement and
Modernization Act of 2003 (the Act) was signed into Law. The Act introduces a
prescription drug benefit under Medicare as well as a federal subsidy to
sponsors of retiree health care benefit plans that provide a prescription drug
benefit that is at least actuarially equivalent to Medicare Part D. In
accordance with FASB Staff Position 106-1, the accumulated post-retirement
benefit obligation and net periodic post-retirement benefit cost in the
Company's Consolidated Financial Statements and this note do not reflect the
effects of the Act on the plans. Specific authoritative guidance on the
accounting for federal subsidy is pending, and the guidance, when issued, could
require the Company to change previously reported information.
25. SPECIAL CHARGES
As a result of the decisions discussed below, the Company has incurred various
expenses, described as special charges, which have been recognized in its
continuing and discontinued operations.
In September 1999, the Company's Board of Directors approved a plan to dispose
of its aviation and entertainment businesses and close its New York
headquarters, and in December 1999 approved a plan to exit other non-energy
businesses so that the Company could focus its resources on its core energy
business. Of the New York employees, 24, 139, 29, 14, and 6 employees were
terminated in 1999, 2000, 2001, 2002 and 2003, respectively. As of December 31,
2003, 4 such employees remained and the Company intends to terminate them at
various dates throughout 2004.
In December 2000, the Company approved a plan to reorganize its development
office in Hong Kong and its New Jersey headquarters. As a result, the Company
implemented a reduction in its workforce of approximately 80 employees, both
domestically and internationally, in connection with the refocusing of the
Company's energy development activities and streamlining its organizational
structure. This plan included closure of the Company's Hong Kong office and
consolidation of its waste to energy regional organizational structure. The plan
was completed as of December 31, 2001. However certain remaining termination
claims will be resolved through the Company's bankruptcy proceeding.
In December 2003, the Company announced a reduction in force of approximately 13
domestic energy non-plant employees and closure of the Fairfax office, which is
expected to be completed in the second quarter of 2004. The
109
reduction in force was primarily a result of the sale of the geothermal business
in December 2003. These employees are entitled to aggregate severance and
employee benefit payments of $0.7 million in accordance with the severance and
retention plan approved by the Bankruptcy Court on September 20, 2002. In the
fourth quarter of 2003, $0.3 million of the $0.7 million in one-time termination
benefits was recorded as reorganization items in the Statement of Consolidated
Operations and Comprehensive Income (Loss), in accordance with SFAS No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities". No costs
were paid or otherwise settled during 2003.
On September 23, 2002, the Company announced a reduction in force of
approximately 60 energy non-plant employees and closure of various satellite
offices (see Note 2). In accordance with the severance and retention plan
approved by the Bankruptcy Court on September 20, 2002, these employees and the
remaining New York City employees may be entitled to aggregate severance
payments of approximately $5.0 million. In the third quarter of 2002 and in
accordance with EITF 94-3, this amount was recognized as reorganization items in
the 2002 Statement of Consolidated Operations and Comprehensive Income (Loss)
and the prior severance accrual was reduced by $13.4 million as a credit to
operating expense. In addition, the Company accrued office closure and
outplacement costs of $0.7 million that were recognized as Reorganization items.
Pursuant to the key employee retention plan approved by the Bankruptcy Court on
September 20, 2002, retention payments of approximately $3.6 million in the
aggregate for approximately 72 key employees began to be recognized during the
third quarter of 2002 and were recognized as Reorganization items. The first
payment of $1.1 million was made on September 30, 2002. The second payment of
$1.1 million was made on September 30, 2003. Payments in the aggregate of
approximately $1.4 million were paid to eligible key employees remaining with
the Company upon emergence of the Company from bankruptcy.
In 2001, the Company re-characterized $2.1 million of lease buy-out costs as
severance cost. This reflects the fact that in 2001 the Company negotiated
certain lease buy-outs at terms that were more favorable than anticipated;
however, the terms with some severed employees were worse than anticipated. The
net effect of these negotiations was favorable and resulted in a reduction of
total special charges of $0.4 million.
The following is a summary of the principal special charges (both cash and
non-cash charges) recognized in the years ended December 31, 2003, 2002 and 2001
(expressed in thousands of dollars):
Transferred to
Balance at Amounts Liabilities Balance at
January Charges for Paid In subject to December
1, 2003 Operations 2003 compromise 31, 2003
----------------------------------------------------------------------------
2003
Severance for approximately
216 New York city employees $ 1,600 $ -- $ (130) $ -- $ 1,470
Severance for approximately
80 energy employees 2,500 -- (704) (1,796) --
Severance for approximately
60 Employees terminated post petition 4,350 (316) (3,200) -- 834
Key employee retention plan 700 1,800 (1,075) -- 1,425
Contract termination settlement 400 (400) -- -- --
Office closure costs 1,200 (317) (365) -- 518
------- ------- ------- ------- -------
Total $10,750 $ 767 $(5,474) $(1,796) $ 4,247
======= ======= ======= ======= =======
Balance at Amounts Balance at
January Charges for Paid In December
1, 2002 Operations 2002 31, 2002
--------------------------------------------------------
2002
Severance for approximately $ 17,500 $(15,100) $ (800) $ 1,600
216 New York city employees
Severance for approximately
80 energy employees 3,800 -- (1,300) 2,500
Severance for approximately
60 Employees terminated post petition -- 5,000 (650) 4,350
Key employee retention plan -- 1,800 (1,100) 700
Contract termination settlement 400 -- -- 400
Office closure costs 600 730 (130) 1,200
-------- -------- -------- --------
Total $ 22,300 $ (7,570) $ (3,980) $ 10,750
======== ======== ======== ========
110
Balance at Amounts Balance at
January Charges for Paid In December
1, 2001 Operations 2001 31, 2001
--------------------------------------------------------
2001
Severance for approximately
216 New York city employees $ 27,500 $ -- $(10,000) $ 17,500
Severance for approximately
80 energy employees 10,300 1,700 (8,200) 3,800
Contract termination settlement 400 -- 400
Office closure costs 4,000 (2,100) (1,300) 600
Professional services relating to
energy reorganization 1,500 -- (1,500) --
-------- -------- -------- --------
Total $ 43,700 $ (400) $(21,000) $ 22,300
======== ======== ======== ========
The amount accrued for severance is based upon the Company's written severance
policy and the positions eliminated. The accrued severance does not include any
portion of the employees' salaries through their severance dates.
26. INCOME TAXES
The components of the benefit for income taxes for continuing operations
(expressed in thousands of dollars) were as follows:
2003 2002 2001
- ----------------------------------------------------
Current:
Federal $ -- $(10,488) $ --
State 1,926 1,469 8,358
Foreign 4,835 5,377 6,432
-------- -------- --------
Total current
expense (benefit) 6,761 (3,642) 14,790
-------- -------- --------
Deferred:
Federal (22,701) 5,283 (12,692)
State (779) (888) (7,059)
Foreign 4,164 (1,019) (998)
-------- -------- --------
Total deferred (19,316) 3,376 (20,749)
-------- -------- --------
Total expense
(benefit) for
income taxes $(12,555) $ (266) $ (5,959)
======== ======== ========
The benefit for income taxes (expressed in thousands of dollars) varied from the
Federal statutory income tax rate due to the following:
2003 2002 2001
- --------------------------------------------------------------------------------------------------------------------------
Amount Percent of Loss Amount Percent of Loss Amount Percent of Loss
of Tax Before Taxes of Tax Before Taxes of Tax Before Taxes
Taxes at statutory rate $(10,645) 35.0% $(41,601) 35.0% $(71,950) 35.0%
State income taxes, net of
Federal tax benefit 746 (2.4) 381 (0.3) (1,945) 1.0
Taxes on foreign earnings (4,389) 14.4 24,323 (20.5) 2,576 (1.3)
Subpart F income and foreign dividends
1,732 (5.7) 350 (0.3) 3,755 (1.8)
Amortization of goodwill -- -- 47 -- 56 --
Write-down of goodwill 767 (0.4)
Reorganization items 6,300 (20.7) 5,600 (4.7)
Valuation allowance (3,449) 11.3 11,648 (9.8) 59,210 (28.8)
Other--net (2,850) 9.3 (1,014) 0.8 1,572 (0.8)
-------- -------- -------- -------- -------- --------
Benefit for
income taxes $(12,555) 41.2% $ (266) 0.2% $ (5,959) 2.9%
======== ======== ======== ======== ======== ========
111
The components of the net deferred income tax liability (expressed in thousands
of dollars) as of December 31, 2003 and 2002, were as follows:
2003 2002
- ------------------------------------------------------------------
Deferred Tax Assets:
Accrued expenses $ 68,066 $ 61,828
Other liabilities 33,725 17,807
Non energy assets and related obligations 51,626 138,965
Net operating losses 45,239 64,068
Valuation allowance (79,492) (101,571)
Investment tax credits 26,073 26,073
Alternative minimum tax credits 18,624 18,257
--------- ---------
Total deferred tax assets 163,861 225,427
--------- ---------
Deferred Tax Liabilities:
Unbilled accounts receivable 75,886 79,924
Property, plant, and equipment 272,745 343,561
Other 526 526
--------- ---------
Total deferred tax liabilities 349,157 424,011
--------- ---------
Net deferred tax liability $ 185,296 $ 198,584
========= =========
Deferred tax assets and liabilities (expressed in thousands of dollars) are
presented as follows in the balance sheets:
2003 2002
- ---------------------------------------------------------------
Net deferred tax liability--noncurrent $ 195,059 $ 209,783
Less net deferred tax asset--current (9,763) (11,200)
--------- ---------
Net deferred tax liability $ 185,296 $ 198,583
========= =========
A valuation allowance of $53.4 million, has been recorded because the Company
does not believe it is more likely than not that certain of the losses resulting
from the sales and write-downs of and obligations related to discontinued
operations and assets held for sale will be realized for tax purposes. At
December 31, 2003, for Federal income tax purposes, the Company had net
operating loss carry-forwards of approximately $120.9 million, which will expire
between 2021 and 2023, investment and energy tax credit carry-forwards of
approximately $26.1 million, which will expire in 2004 through 2009, and
alternative minimum tax credit carry-forwards of approximately $18.6 million,
which have no expiration date. A valuation allowance of $26.1 million was
recorded against the investment and energy tax credit carry-forwards because the
Company does not believe it is more likely than not that those credits will be
realized for tax purposes. The Company is currently under an IRS audit for the
periods 1983 through 2001. An agreement has been reached with the IRS related to
this period and is currently being reviewed by the Joint Committee of Congress.
The Company believes they have adequately provided tax reserves related to this
examination.
27. LEASES
Total rental expense amounted to $24.8 million, $30.2 million, and $30.1 million
(net of sublease income of $2.7 million, $3.5 million, and $1.9 million) for
2003, 2002 and 2001, respectively. Principal leases are for leaseholds, sale and
leaseback arrangements on waste-to-energy facilities and independent power
projects, trucks and automobiles, and machinery and equipment. Some of these
operating leases have renewal options. Some leases relating to sale and
leaseback transactions were terminated during 2003 (see Note 2 for further
discussion).
The following is a schedule (expressed in thousands of dollars), by year, of
future minimum rental payments required under operating leases that have initial
or remaining non-cancelable lease terms in excess of one year as of December 31,
2003:
112
2004 $ 19,045
2005 18,667
2006 18,671
2007 17,575
2008 21,013
Later years 260,166
---------
Total $ 355,137
=========
These future minimum rental payment obligations include $317.3 million of future
non-recourse rental payments that relate to energy facilities. Of this amount
$182.0 million is supported by third-party commitments to provide sufficient
service revenues to meet such obligations. The remaining $135.3 million related
to a waste-to-energy facility at which the Company serves as operator and
directly markets one half of the facility's disposal capacity. This facility
currently generates sufficient revenues from short-, medium-, and long-term
contracts to meet rental payments. The Company anticipates renewing the
contracts or entering into new contracts to generate sufficient revenues to meet
remaining future rental payments. These non-recourse rental payments (in
thousands of dollars) are due as follows:
2004 $ 15,207
2005 15,325
2006 15,487
2007 15,619
2008 19,349
Later years 236,358
---------
Total $ 317,345
=========
28. INCOME (LOSS) PER SHARE
Basic income (loss) per share was computed by dividing net income (loss) reduced
by preferred stock dividend requirements, by the weighted average of the number
of shares of common stock outstanding during each year.
Diluted income (loss) per share was computed on the assumption that all
convertible debentures, convertible preferred stock, restricted stock, and stock
options converted or exercised during each year or outstanding at the end of
each year were converted at the beginning of each year or at the date of
issuance or grant, if dilutive. This computation provided for the elimination of
related convertible debenture interest and preferred dividends.
The reconciliation of the income (loss) from continuing operations and common
shares included in the computation of basic loss per common share and diluted
earnings per common share for the years ended December 31, 2003, 2002 and 2001,
is as follows (in thousands, except per share amounts):
2003 2002
- -------------------------------------------------------------------------------------------------------------------------
Income
(Loss) Shares Per-Share Income (Loss) Shares Per-Share Income (Loss)
(NUMERATOR) (DENOMINATOR) AMOUNt (NUMERATOR) (DENOMINATOR) AMOUNT (NUMERATOR)
BASIC EARNINGS (LOSS)
PER SHARE:
Loss from continuing
operations $ (26,764) $ (127,698) $(205,686)
Less: Preferred stock
Dividend 16 64
Loss to common stockholders $ (26,764) 49,819 $(0,54) $ (127,714) 49,794 $(2.56) $ (205,750)
Income (loss) from
discontinued operations $ 78,814 49,819 $ 1.58 $ (43,355) 49,794 $(0.88) $ (25,341)
Loss from cumulative effect
of change in accounting
principle $ (8,538) 49,819 $(0.17) $ (7,842) 49,794 $(0,16)
DILUTED LOSS
PER SHARE:
Loss to common stockholders $ (26,764) 49,819 $(0.54) $ (127,714) 49,794 $(2.56) $ (205,750)
Income (loss) from
discontinued operations $ 78,814 49,819 $ 1.58 $ (43,355) 49,794 $(0.88) $ (25,341)
Loss from cumulative effect
of change in accounting
principle $ (8,538) 49,819 $(0.17) $ (7,842) 49,794 $(0.16)
2001
- -------------------------------------------------------
Shares Per-Share
(DENOMINATOR) AMOUNT
BASIC EARNINGS (LOSS)
PER SHARE:
Loss from continuing
operations
Less: Preferred stock
Dividend
Loss to common stockholders 49,674 $ (4.14)
Income (loss) from
discontinued operations 49,674 $ (0.51)
Loss from cumulative effect
of change in accounting
principle
DILUTED LOSS
PER SHARE:
Loss to common stockholders 49,674 $ (4.14)
Income (loss) from
discontinued operations 49,674 $ (0.51)
Loss from cumulative effect
of change in accounting
principle
Outstanding stock options to purchase common stock with an exercise price
greater than the average market price of common stock were not included in the
computation of diluted earnings per share. The balance of such options was
3,121,000 in 2003, 3,609,000 in 2002, and 2,466,000 in 2001. Shares of common
stock to be issued, assuming conversion of convertible preferred shares, the 6%
convertible debentures, the 5.75% convertible debentures, and unvested
restricted stock issued to employees were not included in computations of
diluted earnings per share as to do
113
so would have been antidilutive. The common shares excluded from the calculation
were zero, 908,000 and 2,175,000 in 2003, 2002 and 2001 for the 6% convertible
debentures; zero, 1,228,000 and 1,524,000 in 2003, 2002 and 2001 for the 5.75%
convertible debentures; 198,000, 198,000 and 209,000 in 2003, 2002 and 2001,
respectively for convertible preferred stock and 5,600, 25,000 and 110,000 in
2003, 2002 and 2001 for unvested restricted stock issued to employees,
respectively.
29. COMMITMENTS AND CONTINGENT LIABILITIES
At December 31, 2003, capital commitments for continuing operations amounted to
$11.0 million for normal replacement and growth in Domestic energy and water.
Other capital commitments for Domestic energy and water and International energy
as of December 31, 2003 amounted to approximately $11.9 million. This amount
includes a commitment to pay $10.6 million in 2009 for a service contract
extension at an energy facility. In addition, this amount includes a commitment
to contribute an additional $1.3 million in capital to an investment in a
waste-to-energy facility in Italy, of which $0.3 million was contributed in
January 2004 and the remainder is expected to be contributed in late 2004.
Covanta and certain of its subsidiaries have issued or are party to performance
bonds and guarantees and related contractual obligations undertaken mainly
pursuant to agreements to construct and operate certain energy facilities.
Surety bonds relate to the Company's Tampa Bay desalination construction
contract ($29.6 million), performance under its waste water treatment operating
contracts ($12.7 million), possible closure costs for various energy projects
when such projects cease operating in the future ($10.8 million) and performance
of contracts related to non-energy businesses ($23.7 million).
The Company is party to a number of other claims, lawsuits and pending actions,
most of which are routine and all of which are incidental to its business. The
Company assesses the likelihood of potential losses on an ongoing basis and when
losses are considered probable and reasonably estimable, records as a loss an
estimate of the ultimate outcome. If the Company can only estimate the range of
a possible loss, an amount representing the low end of the range of possible
outcomes is recorded. The final consequences of these proceedings are not
presently determinable with certainty. Generally claims and lawsuits against the
Debtors emerging from bankruptcy upon consummation of the DHC Transaction
arising from events occurring prior to its respective Petition Date will be
resolved pursuant to the Reorganization Plan. However, to the extent that claims
are not dischargeable in bankruptcy, claims arising from events prior to the
Petition Date may not be so resolved. For example, persons who were personally
injured prior to the Petition Date but whose injury only became manifest
thereafter will not be resolved pursuant to the Reorganization Plan.
ENVIRONMENTAL MATTERS
The Company's operations are subject to the Environmental Regulatory Laws and
the Environmental Remediation Laws. Although the Company's operations are
occasionally subject to proceedings and orders pertaining to emissions into the
environment and other environmental violations, which may result in fines,
penalties, damages or other sanctions, the Company believes that it is in
substantial compliance with existing environmental laws and regulations.
The Company may be identified, along with other entities, as being among parties
potentially responsible for contribution to costs associated with the correction
and remediation of environmental conditions at disposal sites subject to CERCLA
and/or analogous state laws. In certain instances, the Company may be exposed to
joint and several liability for remedial action or damages. The Company's
ultimate liability in connection with such environmental claims will depend on
many factors, including its volumetric share of waste, the total cost of
remediation, the financial viability of other companies that also sent waste to
a given site and, in the case of divested operations, its contractual
arrangement with the purchaser of such operations. Generally such claims arising
prior to the Petition Date will be resolved in and discharged by the Chapter 11
Cases.
On December 31, 2002, the Company divested its remaining aviation assets,
consisting of fueling operations at three airports. Ogden New York Services,
Inc., a subsidiary of Covanta, retained certain environmental liabilities
relating to the John F. Kennedy International Airport, as described below. In
addition, the Company agreed to indemnify the buyer for various other
liabilities, including certain environmental matters; however, the buyer's sole
recourse is an offset right against payments it owes the Company under a $2.6
million promissory note delivered as part of the consideration
114
for this sale. Because this indemnity arose after the Petition Date, it is not
affected by the Debtors' discharge in bankruptcy.
Prior to the First Petition Date, the Company agreed to indemnify various other
transferees of its divested airport operations with respect to certain known and
potential liabilities that may arise out of such operations and in certain
instances has agreed to remain liable for certain potential liabilities that
were not assumed by the transferee. To date, such indemnification has been
sought with respect to alleged environmental damages at the Miami Dade
International Airport, as described below. Because the Company did not provide
fueling services at that airport, it does not believe it will have significant
obligations with respect to this matter. The Company believes that these
indemnities are pre-petition unsecured liabilities of a liquidating Debtor
treated under the Liquidation Plan, and that therefore the Company would have no
further financial responsibility regarding these matters.
The Martin County Coal Corporation and others have as third party plaintiffs
joined Ogden Environmental and Energy Services Co., Inc. ("Ogden
Environmental"), a liquidating Debtor subsidiary of the Company, as a third
party defendant to several pending litigations in the Circuit Court in Martin
County, Kentucky arising from an October 2000 failure of a mine waste
impoundment that resulted in the release of approximately 250 million gallons of
coal slurry. The third party plaintiffs allege that Ogden Environmental is
liable in an unspecified amount for contribution and/or indemnification arising
from an independent contractor agreement to perform engineering and
technological services with respect to the impoundment from 1994 to 1996. Prior
to being joined, Ogden Environmental had not been a party to the underlying
litigation, some of which had been pending for two years. Plaintiffs in the
underlying action, have also indicated that they will seek to join Ogden
Environmental to the litigation. On April 30, 2003, the Bankruptcy Court entered
an agreed-upon order by which Third Party Plaintiffs may liquidate their claims
(if any) against Ogden Environmental, but may not recover or execute judgment
against Ogden Environmental. To date, First Party Plaintiffs have not sought
similar relief from the Bankruptcy Court and thus the automatic stay continues
to bar joinder of Ogden Environmental as a direct defendant. Because the
Reorganization Plan does not contemplate that creditors of liquidated entities
will receive any distribution and the Company should have no further financial
responsibility regarding these matters, Ogden Environmental has informed
counsel to the other parties to these actions that Ogden Environmental does not
intend to participate in the litigation or otherwise defend against the claims
against it. Because the extent to which Ogden Environmental is responsible for
the impoundment failure will be a determinate of the amount that other
defendants are ultimately responsible for damages due to injured parties, Ogden
Environmental's liability is likely to be contested by the other parties to the
case, regardless of Ogden Environmental's non-participation.
On September 15, 2003, the Environmental Protection Agency (the "EPA") issued a
"General Notice Letter" identifying Covanta as among 41 potentially responsible
parties ("PRPs") with respect to the Diamond Alkali Superfund Site/"Lower
Passaic River Project." The EPA alleges that the PRPs are liable for releases or
potential releases of hazardous substances to a 17 mile segment of the Passaic
River, located in northern New Jersey, and requests the PRPs' participation as
"cooperating parties" with respect to the funding of a five to seven year study
to determine an environmental remedial and restoration program. The EPA
currently estimates the cost of this study at $20 million. The study also will
be used in determining the PRPs' respective shares of liability for costs
associated with implementation of the selected cleanup program, as well as
potential damages for injury to, destruction of, or loss of natural resources.
As a result of uncertainties regarding the source and scope of contamination,
the number of PRPs that ultimately may be named in this matter, and the varying
degrees of responsibility among classes of PRPs, the Company's share of
liability, if any, cannot be determined at this time. Covanta was a Debtor and
consequently its liability, if any, should be discharged in accordance with the
Chapter 11 process. On March 5, 2004, one PRP filed a motion in the Bankruptcy
Court for leave to file a late proof of claim; no other proofs of claim have
been filed relating to this matter. The allegations as to Covanta relate to
discontinued, non-energy operations.
In 1985, Covanta sold its interests in several manufacturing subsidiaries, some
of which allegedly used asbestos in their manufacturing processes, and one of
which was Avondale Shipyards, now a subsidiary of Northrop Grumman Corporation.
Some of these former subsidiaries have been and continue to be parties to
asbestos-related litigation. In 2001, Covanta was named a party, with 45 other
defendants, to one such case. Before the First Petition Date, Covanta had
filed for its dismissal from the case. Also, eleven proofs of claim seeking
unliquidated amounts have been filed against Covanta in the Chapter 11 Cases
based on what appears to be purported asbestos-related injuries that may relate
to the operations of former Covanta subsidiaries. Covanta believes that these
claims lack merit and has filed objections to them, and plans to object
vigorously to such claims if necessary to resolve them.
115
The potential costs related to all of the following matters and the possible
impact on future operations are uncertain due in part to the complexity of
governmental laws and regulations and their interpretations, the varying costs
and effectiveness of cleanup technologies, the uncertain level of insurance or
other types of recovery and the questionable level of the Company's
responsibility. Although the ultimate outcome and expense of any litigation,
including environmental remediation, is uncertain, the Company believes that the
following proceedings will not have a material adverse effect on the Company's
consolidated financial position or results of operations.
1. On June 8, 2001, the EPA named the Company's wholly-owned subsidiary,
Ogden Martin Systems of Haverhill, Inc., now known as Covanta
Haverhill, Inc., as one of 2,000 PRPs at the Beede Waste Oil Superfund
Site, Plaistow, New Hampshire in connection with alleged waste
disposal by PRPs on this site. On January 9, 2004, the EPA signed its
Record of Decision with respect to the cleanup of the site. According
to the EPA, the costs of response actions incurred as of January 2004
by the EPA and the State of New Hampshire total approximately $19
million, and the estimated cost to implement the remedial alternative
selected in the Record of Decision is an additional $48 million.
Covanta Haverhill, Inc. is participating in PRP group discussions
towards settlement of the EPA's claims and will continue to seek a
negotiated resolution of this matter. Although Covanta Haverhill,
Inc.'s share of liability, if any, cannot be determined at this time
as a result of uncertainties regarding the source and scope of
contamination, the large number of PRPs and the varying degrees of
responsibility among various classes of PRPs, the Company believes
that based on the amount of materials Covanta Haverhill, Inc. sent to
the site, any liability will not be material. Covanta Haverhill, Inc.
was not a Debtor.
2. On April 9, 2001, Ogden Ground Services, Inc. and Ogden Aviation,
Inc., together with approximately 250 other parties, were named by
Metropolitan Dade County, Florida as PRPs, pursuant to the
Environmental Remediation Laws, with respect to an environmental
cleanup at the Miami Dade International Airport. Dade County alleges
that it has expended over $200 million in response and investigation
costs and expects to spend an additional $250 million to complete
necessary response actions. The lawsuit is currently subject to a
tolling agreement between PRPs and Dade County. The Company's
liability, if any, arose from its pre-petition unsecured obligation to
indemnify the transferee of Ogden Ground Services, which obligation
has been extinguished by means of the mutual settlement, waiver and
release agreement between Covanta and the transferee approved by the
Bankruptcy Court on December 23, 2003. Ogden Aviation, Inc. is a
liquidating Debtor and the above matter is expected to have no impact
on the Company.
3. On May 25, 2000 the California Regional Water Quality Control Board,
Central Valley Region, issued a cleanup and abatement order to
Pacific-Ultrapower Chinese Station, a general partnership in which one
of Covanta's subsidiaries owns 50% and which owns and operates an
independent power project in Jamestown, California which uses waste
wood as a fuel. The order is in connection with the partnership's
neighboring property owner's use of ash generated by Chinese Station's
plant. Chinese Station completed the cleanup in mid-2001 and submitted
its Clean Closure Report to the Water Quality Control Board on
November 2, 2001. The Board and other state agencies continue to
investigate alleged civil and criminal violations associated with the
management of the material. The partnership believes it has valid
defenses, and a petition for review of the order is pending.
Settlement discussions in this matter are underway. Based on penalties
proposed by the Board, the Company believes that this matter can be
resolved in amounts that will not be material to the Company taken as
a whole. Chinese Station and Covanta's subsidiary that owns a
partnership interest in Chinese station were not Debtors.
4. On January 4, 2000 and January 21, 2000, United Air Lines, Inc. and
American Airlines, Inc., respectively, named Ogden New York Services,
Inc., in two separate lawsuits (collectively, the "Airlines Lawsuits")
filed in the Supreme Court of the State of New York, which have been
consolidated for joint trial. The lawsuits seek a judgment declaring
that Ogden New York Services is responsible for petroleum
contamination at airport terminals formerly or currently leased by
United and American at John F. Kennedy International Airport in New
York City. United seeks approximately $1.9 million in remediation
costs and legal expenses, as well as certain declaratory relief,
against Ogden New York Services and four airlines, including American
Airlines. American seeks approximately $74.5 million in remediation
costs and legal fees from Ogden New York Services and United Air
Lines. Ogden New York Services has filed counter-claims and
cross-claims against United and American for contribution. American
filed a proof of claim against Ogden New York Services in the Chapter
11 Case, alleging an unsecured claim of approximately $74 million.
Ogden New York Services disputes the allegations and believes that the
damages sought are overstated in view of the airlines'
116
responsibility for the alleged contamination and that Ogden New York
Services has defenses under its respective leases and its permits with
the Port Authority of New York and New Jersey which operates the
airport. This litigation was stayed as to Ogden New York as a result
of the Chapter 11 Cases. Ogden New York Services believes that the
claims asserted by United and American are prepetition unsecured
obligations of Ogden New York (a liquidating Debtor) under the
Liquidation Plan, and that therefore the Company should have no
further financial responsibility regarding those matters beyond the
assets of Ogden New York Services, which may include its rights as an
insured under the Company. In connection with this litigation, prior
to the Petition Date, Ogden New York Services commenced an action
against Zurich Insurance Company. This litigation sought, among other
things, a declaratory judgment that Zurich was obligated to defend and
indemnify Ogden New York Services in the litigation under certain
environmental impairment liability policies. In April 2003, in order
to avoid the uncertainty and continued costs of the litigation, Ogden
New York Services and Zurich reached a settlement whereby Zurich
agreed to pay to Ogden New York $1.8 million for environmental
impairments allegedly resulting from the Ogden New York's fueling
operations at JFK Airport. American Airlines maintains it is entitled
to a portion of the insurance proceeds and in connection with
obtaining Bankruptcy Court approval of the settlement with Zurich,
American and Ogden New York Services agreed that the Bankruptcy
Court's approval would provide that (i) Ogden New York Services
preserved its rights to argue that American was not entitled to any
amount of the settlement proceeds, (ii) American preserved its rights
to assert a claim for the amount received by Ogden New York Services
in the settlement, and (iii) Ogden New York Services agreed not to
distribute this amount to any other party interest on account of any
purported interests in such proceeds without prior Bankruptcy Court
order and without prior notice to American's counsel. Although
American has asserted its rights to the settlement proceeds in its
objections to the settlement with Zurich, it has not to date filed an
adversary proceeding in Ogden New York Services' bankruptcy case or
taken any other action seeking a determination of its rights to the
settlement proceeds. Under the Reorganization Plan, the settlement
proceeds, as will be transferred to the Company and will not be
available for distribution to any of Ogden New York's unsecured
creditors, including American. The Company and American Airlines have
reached a tentative agreement pursuant to which the Company would pay
American Airlines $500,000 with respect to the Company's recovery from
Zurich, American Airlines would be allowed a $15 million claim against
Ogden New York Services, Inc, a liquidating Debtor, and American
Airlines would be assigned the Company's rights against its insurers
with respect to American Airlines' claims. The settlement is subject
to definitive documentation and Bankruptcy Court approval.
5. On December 23, 1999, an aviation subsidiary of Covanta was named as a
third-party defendant in an action filed in the Superior Court of the
State of New Jersey alleging that the aviation subsidiary generated
hazardous substances at a reclamation facility known as the Swope Oil
and Chemical Company Site. Third-party plaintiffs seek contribution
and indemnification from the aviation subsidiary and over 90 other
third parties, as PRPs, for costs incurred and to be incurred in the
cleanup. This action was stayed pending the outcome of first- and
second-party claims. The aviation subsidiary's share of liability, if
any, cannot be determined at this time because of uncertainties
regarding the source and scope of contamination, the large number of
PRPs and the varying degrees of responsibility among various classes
of PRPs. The aviation subsidiary is a liquidating Debtor and this
matter is expected to have no impact on the Company.
OTHER MATTERS
1. As discussed in "Developments in Project Restructurings", prior
to the Petition Date, Covanta Onondaga commenced litigation
challenging an effort by OCRRA to terminate its service agreement
with Covanta Onondaga. All of this litigation, including the
above mentioned appeals, has been resolved pursuant to the
settlement between OCRRA and the Debtors, and is in the process
of being dismissed following the effective date of the
Reorganization Plan.
2. As discussed above in "Developments in Project Restructurings",
the Town of Babylon, New York filed a proof of claim against
Covanta Babylon for approximately $13.4 million in pre-petition
damages and $5.5 million in post-petition damages, alleging that
Covanta Babylon has accepted less waste than required under the
service agreement between the Babylon and Covanta Babylon at the
waste to energy facility in Babylon. The Company and the Town
have reached a settlement of their disputes and associated
litigation in Bankruptcy Court has been dismissed. See Item 1.
117
3. In late 2000, Lake County, Florida commenced a lawsuit in Florida
state court against Covanta Lake, Inc. which also refers to its
merged successor, as defined below) relating to the
waste-to-energy facility operated by Covanta in Lake County,
Florida (the "Lake Facility"). In the lawsuit, Lake County sought
to have its Service Agreement with Covanta Lake declared void and
in violation of the Florida Constitution. That lawsuit was stayed
by the commencement of the Chapter 11 Cases. Lake County
subsequently filed a proof of claim seeking in excess of $70
million from Covanta Lake and Covanta.
On June, 20, 2003, Covanta Lake filed a motion with the
Bankruptcy Court seeking entry of an order (i) authorizing
Covanta Lake to assume, effective upon confirmation of a plan of
reorganization for Covanta Lake, its Service Agreement with Lake
County, (ii) finding no cure amounts due under the Service
Agreement, and (iii) seeking a declaration that the Service
Agreement is valid, enforceable and constitutional, and remains
in full force and effect. Contemporaneously with the filing of
the assumption motion, Covanta Lake filed an adversary complaint
asserting that Lake County is in arrears to Covanta Lake in the
amount of more than $8.5 million. Shortly before trial commenced
in these matters, the Company and Lake County reached a tentative
settlement calling for a new agreement specifying the parties'
obligations and restructuring of the project. That tentative
settlement and the proposed restructuring will involve, among
other things, termination of the existing Service Agreement and
the execution of a new waste disposal agreement which shall
provide for a put-or-pay obligation on Lake County's part to
deliver 163,000 tons per year of acceptable waste to the Lake
Facility and a different fee structure; a replacement guarantee
from Covanta in a reduced amount; the payment by Lake County of
all amounts due as "pass through" costs with respect to Covanta
Lake's payment of property taxes; the payment by Lake County of a
specified amount in each of 2004, 2005 and 2006 in reimbursement
of certain capital costs; the settlement of all pending
litigation; and a refinancing of the existing bonds.
The Lake settlement is contingent upon, among other things,
receipt of all necessary approvals, as well as a favorable
outcome to the Company's pending objection to the proof of claims
filed by F. Browne Gregg, a third-party claiming an interest in
the existing Service Agreement that would be terminated under the
proposed settlement. On November 3-5, 2003, the Bankruptcy Court
conducted a trial on Mr. Gregg's proofs of claim. At issue in the
trial was whether Mr. Gregg is entitled to damages as a result of
Covanta Lake's proposed termination of the existing Service
Agreement and entry into a waste disposal agreement with Lake
County. As of March 22, 2004, the Bankruptcy Court had not ruled
on the Company's claims objections. Based on the foregoing, the
Company has determined not to propose a plan of reorganization or
plan of liquidation for Covanta Lake at this time, and instead
that Covanta Lake should remain a debtor-in-possession after the
effective date of the Reorganization Plan.
To emerge from bankruptcy without uncertainty concerning
potential claims against Covanta related to the Lake Facility,
Covanta has rejected its guarantees of Covanta's obligations
relating to the operation and maintenance of the Lake Facility.
The Company anticipates that if a restructuring is consummated,
Covanta may at that time issue new parent guarantees in
connection with that restructuring and emergence from bankruptcy.
Depending upon the ultimate resolution of these matters with Mr.
Gregg and the County, Covanta Lake may determine to assume or
reject one or more executory contracts related to the Lake
Facility, terminate the Service Agreement with Lake County for
its breaches and default and pursue litigation against Lake
County and/or Mr. Gregg. Based on this determination, the Company
may reorganize or liquidate Covanta Lake. Depending on how
Covanta Lake determines to proceed, creditors of Covanta Lake may
not receive any recovery on account of their claims.
The Company expects that the outcome of these disputes will not
affect its ability to implement its plan of reorganization.
4. During 2003 Covanta Tampa Construction, Inc. completed
construction of a 25 million gallon per day
desalination-to-drinking water facility under a contract with TBW
near Tampa, Florida. Covanta Energy Group, Inc., guaranteed CTC's
performance under its construction contract with TBW. A separate
subsidiary, Covanta Tampa Bay, Inc entered into a contract with
TBW to operate the Tampa Water Facility after construction and
testing is completed by CTC. As construction of the Tampa Water
Facility neared completion, the parties had material disputes
between them, primarily relating to (i) whether CTC has satisfied
acceptance criteria for the Tampa Water Facility; (ii)
118
whether TBW has obtained certain permits necessary for CTC to
complete start-up and testing, and for CTB to subsequently
operate the Tampa Water Facility; (iii) whether influent water
provided by TBW for the Tampa Water Facility is of sufficient
quality to permit CTC to complete start-up and testing, or to
permit CTB to operate the Tampa Water Facility as contemplated
and (iv) if and to the extent that the Tampa Water Facility
cannot be optimally operated, whether such shortcomings
constitute defaults under CTC's agreements with TBW.
In October 2003, TBW issued a default notice to CTC, indicated
that it intended to commence arbitration proceedings against CTC,
and further indicated that it intended to terminate CTC's
construction agreement. As a result, on October 29, 2003, CTC
filed a voluntary petition for relief under chapter 11 of the
Bankruptcy Code in order to, among other things, prevent attempts
by TBW to terminate the construction agreement between CTC and
TBW. On November 14, 2003, TBW commenced an adversary proceeding
against CTC and filed a motion seeking a temporary restraining
order and preliminary injunction directing that possession of the
Tampa Water Facility be turned to TBW. On November 25, 2003, the
Bankruptcy Court denied the motion for a temporary restraining
order and preliminary injunction and ordered, among other things,
that the parties attempt to resolve their disputes in a
non-binding mediation.
In February 2004 the Company and TBW reached a tentative
compromise of their disputes which has been approved by the
Bankruptcy Court, subject to definitive documentation, and
confirmation of an acceptable plan of reorganization for CTC and
CTB, which were not included in the Reorganization Plan. Under
that tentative compromise, all contractual relationships between
the Company and TBW will be terminated, CTC will operate the
facility in "hot stand-by" for a limited period of time, and the
responsibility for optimization and operation of the Tampa Water
Facility will be transitioned to a new, non-affiliated operator.
In addition, TBW will pay $4.95 million to or for the benefit of
CTC, of which up to $550,000 is earmarked for the payment of
claims under the subcontracts previously assigned by the Company
to TBW. The settlement funds ultimately would be distributed to
creditors and equity holders of CTC and CTB pursuant to a plan of
reorganization for CTC.
If the parties are unable to resolve their differences
consensually, and depending upon, among other things, whether the
parties are able to successfully effect the settlement described
above, the Company may, among other things, commence additional
litigation against TBW, assume or reject one or more executory
contracts related to the Tampa Water Facility, or propose
liquidating plans and/or file separate plans of reorganization
for CTB and/or CTC. In such an event, creditors of CTC and CTB
may not receive any recovery on account of their claims.
In such an event, creditors of CTC and CTB may not receive any
recovery on account of their claims.
The Company expects that the outcome of these disputes will not
negatively affect its ability to implement its plan of
reorganization.
See Notes 2, 17 and 33 for additional information regarding commitments and
contingent liabilities.
30. BUSINESS SEGMENTS
As a result of the management restructuring and overhead reduction (see Note 2)
effective October 1, 2002 the Company's three reportable segments are: Domestic
energy and water, International energy and Other.
Covanta's two energy segments develop, operate and in some cases own, domestic
and international energy generating facilities that utilize a variety of fuels,
as well as water and wastewater facilities that will serve communities on a
long-term basis.
For the years ended December 31, 2003, 2002 and 2001 segment and corporate
results were as follows (expressed in thousands of dollars):
119
2003 2002 2001
- -----------------------------------------------------------------------------------------------
Revenues:
Domestic energy and water $ 619,097 $ 628,165 $ 658,565
International energy 171,367 185,363 132,575
Other 4 12,253 126,506
--------- --------- ---------
Total revenue 790,468 825,781 917,646
--------- --------- ---------
Income (Loss) from Operations:
Domestic energy and water 61,333 53,725 90,517
International energy 50,031 34,881 26,834
Other, including writedown of assets held for sale 11,040 (9,779) (248,230)
Writedown of assets held for use
International energy -- (78,863) --
Other (16,704) (6,000) --
Corporate unallocated income
and expenses-net (15,778) (22,131) (35,386)
--------- --------- ---------
Operating income (loss) 89,922 (28,167) (166,265)
Interest expense - net (36,990) (41,587) (39,306)
Reorganization items (83,346) (49,106) --
--------- --------- ---------
Loss from continuing operations before income taxes,
minority interests, discontinued operations and the
cumulative effect of changes in accounting principles $ (30,414) $(118,860) $(205,571)
========= ========= =========
Covanta's revenues include $0.5 million, $1.2 million, and $0.9 million from
United States government contracts for the years ended December 31, 2003, 2002
and 2001, respectively.
Total revenues by segment reflect sales to unaffiliated customers. In computing
income (loss) from operations, none of the following have been added or
deducted: unallocated corporate expenses, non-operating interest expense,
interest income and income taxes.
For the years ended December 31, 2003 and 2002 segment and corporate assets and
results are as follows (expressed in thousands of dollars):
Identifiable Depreciation and Capital
Assets Amortization Additions
- -------------------------------------------------------------------------
2003
Domestic energy and water $1,890,321 $ 54,279 $ 15,068
International energy 400,930 16,601 6,852
Other 322,329 1,052 234
---------- ---------- ----------
Consolidated $2,613,580 71,932 $ 22,154
========== ========== ==========
2002
Domestic energy and water $2,307,159 $ 57,939 $ 18,884
International energy 412,713 18,410 1,941
Other 120,235 1,019 442
---------- ---------- ----------
Consolidated $2,840,107 $ 77,368 $ 21,267
========== ========== ==========
2001
Domestic energy and water $ 58,711 $ 46,497
International energy 15,713 14,098
Other 4,063 798
----------- ----------
Consolidated $ 78,487 $ 61,393
=========== ==========
120
Covanta's areas of operations are principally in the United States. Operations
outside of the United States are primarily in Asia, with some projects in Latin
America and Europe. No single foreign country or geographic area is significant
to the consolidated operations. A summary of revenues by geographic area for the
years ended December 31, 2003, 2002 and 2001 (expressed in thousands of dollars)
is as follows:
2003 2002 2001
- ----------------------------------------------
Revenues:
United States $619,101 $640,045 $767,919
Asia 170,357 184,130 107,595
Latin America 692 553 29,215
Europe 318 146 9,155
Other -- 907 3,762
-------- -------- --------
Total $790,468 $825,781 $917,646
======== ======== ========
A summary of identifiable assets by geographic area for the years ended December
31, 2003 and 2002 (expressed in thousands of dollars) is as follows:
- ----------------------------------------------
2003 2002
- ----------------------------------------------
Identifiable Assets:
United States $2,205,702 $2,458,758
Asia 280,242 272,556
Latin America 537 394
Europe 28,260 24,309
Other 98,839 84,090
---------- ----------
Total $2,613,580 $2,840,107
========== ==========
31. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
(Expressed in thousands of dollars) 2003 2002 2001
- ------------------------------------------------------------------------------------
Cash Paid for Interest and Income Taxes:
Interest (net of amounts capitalized) $ 91,718 $ 93,139 $ 123,052
Income taxes paid (refunded) 11,112 11,485 (4,929)
Noncash Investing and Financing Activities:
Conversion of preferred shares for common shares -- 1 2
Reduction of notes receivable from key employees 419 -- 179
32. RELATED PARTY TRANSACTIONS
In 1999, four officers of the Company were extended loans for the purpose of
paying the exercise price and withholding taxes in connection with their
exercise of certain stock options. In 1999, following the termination of his
employment the loans of the former Chairman of the Company were forgiven as part
of the settlement of litigation brought by him to enforce payment of his
severance.
On November 26, 2001 the remaining notes receivable and accrued interest from
other officers were restructured as a settlement of a dispute surrounding the
circumstances under which the loans were originally granted. That settlement
changed the notes from a fixed principal amount which accrued interest to a
variable amount equal to the market value, from time to time, of the Covanta
common shares purchased by the officers when exercising the above-mentioned
stock options. At that time, the notes receivable and accrued interest recorded
by the Company were adjusted to the $0.9 million market value of the Company's
common shares underlying those notes. Also, the subsequent indexing to the
Company's stock price of the balance due under the notes is marked to fair value
each reporting period, with the change in fair value recorded in earnings and as
an asset or liability. As of December 31, 2003 Notes receivable from key
employees for common stock issuance were ,as a result of the resignation of one
of the officers reduced by $0.4 million, the original amount recorded on such
note.. The notes remaining are due upon the sale of the stock. Through December
31, 2003, none of the stock has been sold.
121
In addition, one member of the Company's previous Board of Directors was a
partner in a major law firm, and another member is an employee of another major
law firm. From time to time, the Company sought legal services and advice from
those two law firms. During 2003, 2002 and 2001, the Company paid those two law
firms approximately $0.5 million, $1.4 million and $1.0 million, and zero, $2.7
million and $2.7 million, respectively, for services rendered.
33. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following disclosure of the estimated fair value of financial instruments is
made in accordance with the requirements of SFAS No. 107, "Disclosures About
Fair Value of Financial Instruments." The estimated fair-value amounts have been
determined using available market information and appropriate valuation
methodologies. However, considerable judgment is necessarily required in
interpreting market data to develop estimates of fair value. Accordingly, the
estimates presented herein are not necessarily indicative of the amounts that
Covanta would realize in a current market exchange.
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate that
value.
For cash and cash equivalents, restricted cash, and marketable securities, the
carrying value of these amounts is a reasonable estimate of their fair value.
The fair value of long-term unbilled receivables is estimated by using a
discount rate that approximates the current rate for comparable notes. The fair
value of non-current receivables is estimated by discounting the future cash
flows using the current rates at which similar loans would be made to such
borrowers based on the remaining maturities, consideration of credit risks, and
other business issues pertaining to such receivables. The fair value of
restricted funds held in trust is based on quoted market prices of the
investments held by the trustee. Other assets, consisting primarily of insurance
and escrow deposits, and other miscellaneous financial instruments used in the
ordinary course of business are valued based on quoted market prices or other
appropriate valuation techniques.
Fair values for debt were determined based on interest rates that are currently
available to the Company for issuance of debt with similar terms and remaining
maturities for debt issues that are not traded on quoted market prices. The fair
value of project debt is estimated based on quoted market prices for the same or
similar issues. Other liabilities are valued by discounting the future stream of
payments using the incremental borrowing rate of the Company. The fair value of
the Company's interest rate swap agreements is the estimated amount the Company
would receive or pay to terminate the agreement based on the net present value
of the future cash flows as defined in the agreement.
The fair-value estimates presented herein are based on pertinent information
available to management as of December 31, 2003 and 2002. However, such amounts
have not been comprehensively revalued for purposes of these financial
statements since December 31, 2003 and current estimates of fair value may
differ significantly from the amounts presented herein.
The estimated fair value (expressed in thousands of dollars) of financial
instruments at December 31, 2003 and 2002, is summarized as follows:
2003 2002
- --------------------------------------------------------------------------------------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
- --------------------------------------------------------------------------------------------------
ASSETS:
Cash and cash equivalents $ 289,424 $ 289,424 $ 115,815 $ 115,815
Marketable securities 2,460 2,460 2,353 2,353
Receivables 355,456 356,549 406,722 419,862
Restricted funds 198,884 198,904 262,034 262,400
Interest rate swap receivable 16,728 16,728 19,137 19,137
LIABILITIES:
Debt 11,642 11,642 40,229 40,789
Project debt 1,032,401 1,068,565 1,243,382 1,260,948
Interest rate swap payable 16,728 16,728 19,137 19,137
Liabilities subject to compromise 956,095 (b) 892,012 (b)
122
OFF BALANCE-SHEET FINANCIAL INSTRUMENTS:
Guarantees (a)
- -------------------------
(a) additionally guarantees include approximately $16.9 million primarily of
guarantees related to international energy projects.
(b) see Note 2
Effective with the adoption of SFAS No. 133 on January 1, 2001, the interest
rate swap is recorded in other noncurrent assets and other noncurrent
liabilities in the Consolidated Balance Sheets (see Note 1).
34. FRESH START ACCOUNTING (UNAUDITED)
The Company's emergence from Chapter 11 proceedings on March 10, 2004 will
result in a new reporting entity and adoption of fresh start accounting as of
that date, in accordance with SOP 90-7. The consolidated financial statements as
of December 31, 2003 do not give effect to any adjustments in the carrying
values of assets or liabilities that will be recorded upon implementation of the
Company's plan of reorganization.
The following unaudited pro forma financial information reflects the
implementation of the Plan as if the Plan had been effective on December 31,
2003. Reorganization adjustments have been estimated in the pro forma financial
information to reflect the discharge of debt and the adoption of fresh start
reporting in accordance with SOP 90-7. The pro forma value allocated to the
assets and liabilities of the Company in proportion to their relative fair
values is in conformity with SFAS No. 141 "Business Combinations".
Estimated reorganization adjustments in the Pro Forma Balance Sheet result
primarily from the:
(i) reduction of property, plant and equipment carrying values;
(ii) increase in the carrying value of the Company's various operation and
maintenance agreements and power purchase agreements;
(iii) forgiveness of the Company's pre-petition debt;
(iv) issuance of New Common Stock and Notes pursuant to the Plan;
(v) payment of various administrative and other claims associated with the
Company's emergence from Chapter 11; and
(vi) distribution of cash of $235.5 million to the Company's pre-petition
secured lenders.
These adjustments were based upon the preliminary work of the Company and
financial consultants, as well as other valuation estimates to determine the
relative fair values of the Company's assets and liabilities. The allocation of
the reorganization value to individual assets and liabilities will change based
upon facts present at the actual effective date of the Company's plan of
reorganization and will result in differences to the fresh start adjustments and
allocated values estimated in this pro forma information.
123
UNAUDITED PROFORMA BALANCE SHEET
- -------------------------------------------------------------------------------------------------------------------
DECEMBER 31, LIQUIDATING DISCHARGE OF ISSUANCE OF
2003 ENTITIES (A) INDEBTEDNESS NOTES
- -------------------------------------------------------------------------------------------------------------------
(In Thousands of Dollars)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 289,424 $ (1,097) $ (235,473)(b) $ 30,000(d)
Restricted funds held in trust 79,404 -- 98,000(b) --
Receivables 230,093 (2,828) -- --
Deferred income taxes 9,763 (21) -- --
Prepaid expenses and other current assets 82,115 -- -- --
----------- ----------- ----------- -----------
TOTAL CURRENT ASSETS 690,799 (3,946) (137,473) 30,000
Property, plant and equipment-net 1,453,354 -- -- --
Restricted funds held in trust 119,480 -- -- --
Unbilled service and other receivables 125,363 -- -- --
Unamortized contract acquisition costs-net 27,073 -- -- --
Other intangible assets-net 7,073 -- -- --
Service contracts -- -- -- --
Energy contracts -- -- -- --
Investments in and advances to investees and
joint ventures 137,374 (23) -- --
Other assets 53,064 (2,056) -- --
Reorganization value in excess of net assets -- -- (647,924)(l) 353,800(l)
----------- ----------- ----------- -----------
TOTAL ASSETS $ 2,613,580 $ (6,025) $ (785,397) $ 383,800
=========== =========== =========== ===========
LIABILITIES AND SHAREHOLDERS' DEFICIT
LIABILITIES:
CURRENT LIABILITIES:
Current portion of long-term debt $ 9,492 $ (147) $ -- $ --
Current portion of project debt 99,216 -- -- --
Accounts payable 23,584 (3,100) -- --
Accrued expenses 208,342 (13,313) 51,674(b) --
Deferred income 37,431 -- -- --
----------- ----------- ----------- -----------
TOTAL CURRENT LIABILITIES 378,065 (16,560) 51,674 --
Long-term debt 2,150 -- -- 336,500(e)
Project debt 933,185 -- -- --
Deferred income taxes 195,059 (2,185) -- --
Deferred income 129,304 -- -- --
Other liabilities 78,358 -- -- --
Liabilities subject to compromise 956,095 (128,024) (824,361)(c) --
----------- ----------- ----------- -----------
TOTAL LIABILITIES 2,672,216 (146,769) (772,687) 336,500
----------- ----------- ----------- -----------
MINORITY INTERESTS 69,398 -- -- 175(d)
----------- ----------- ----------- -----------
SHAREHOLDERS' DEFICIT:
Serial cumulative convertible preferred stock 33 -- (33)(c) --
Common stock 24,912 -- (24,912)(c) -(d)
Capital surplus 188,156 (132,096) (56,060)(c) 47,125(d)
Notes receivable from key employees for common
stock issuance (451) -- 451 (c) --
Deficit (340,661) 272,718 67,943(c) --
Accumulated other comprehensive income (loss) (23) 122 (99)(c) --
----------- ----------- ----------- -----------
TOTAL SHAREHOLDERS' DEFICIT (128,034) 140,744 (12,710) 47,125
----------- ----------- ----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIT $ 2,613,580 $ (6,025) $ (785,397) $ 383,800
=========== =========== =========== ===========
UNAUDITED PROFORMA BALANCE SHEET
- ----------------------------------------------------------------------------------
FRESH START PRO-FORMA DECEMBER
ADJUSTMENTS 31, 2003
- ----------------------------------------------------------------------------------
(In Thousands of Dollars)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ -- $ 82,854(k)
Restricted funds held in trust -- 177,404
Receivables -- 227,265
Deferred income taxes (9,742)(j) --
Prepaid expenses and other current assets -- 82,115
----------- -----------
TOTAL CURRENT ASSETS (9,742) 569,638
Property, plant and equipment-net (214,819)(f) 1,238,535
Restricted funds held in trust -- 119,480
Unbilled service and other receivables -- 125,363
Unamortized contract acquisition costs-net (27,073)(g) --
Other intangible assets-net (7,073)(g) --
Service contracts 407,222(f) 407,222
Energy contracts 36,586(f) 36,586
Investments in and advances to investees and
joint ventures (37,724)(f) 99,627
Other assets (26,491)(g) 24,517
Reorganization value in excess of net assets 294,124(l) --
----------- -----------
TOTAL ASSETS $ 415,010 $ 2,620,968
=========== ===========
LIABILITIES AND SHAREHOLDERS' DEFICIT
LIABILITIES:
CURRENT LIABILITIES:
Current portion of long-term debt $ -- $ 9,345
Current portion of project debt -- 99,216
Accounts payable 20,484
Accrued expenses 30,759(j) 277,462
Deferred income -- 37,431
----------- -----------
TOTAL CURRENT LIABILITIES 30,759 443,938
Long-term debt -- 338,650
Project debt 38,870(h) 972,055
Deferred income taxes 320,956(j) 513,830
Deferred income -- 129,304
Other liabilities 51,403(i) 129,761
Liabilities subject to compromise 3,710
----------- -----------
TOTAL LIABILITIES 441,988 2,531,248
----------- -----------
MINORITY INTERESTS (26,978)(f) 42,595
----------- -----------
SHAREHOLDERS' DEFICIT:
Serial cumulative convertible preferred stock -- --
Common stock -- --
Capital surplus -- 47,125
Notes receivable from key employees for common
stock issuance -- --
Deficit --
Accumulated other comprehensive income (loss) -- --
----------- -----------
TOTAL SHAREHOLDERS' DEFICIT -- 47,125
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIT $ 415,010 $ 2,620,968
=========== ===========
(a) Pro Forma Balance Sheet excludes entities not purchased by Danielson.
These entities will be liquidated as part of the bankruptcy process.
(b) Reflects the reclassification of $98,000 in cash to Restricted Cash to
pay for accrued exit costs; $46,326 was already accrued for in the
December 31, 2003 consolidated balance sheet and an additional $51,674
is accrued for in the Pro Forma Balance Sheet.
(c) Reflects the payment of $137,473 in payments for exit costs and
payments to the Company's pre-petition secured creditors. Reflects the
discharge of pre-petition indebtedness, except for those related to
the Warren, Lake, and Tampa Bay facilities which remain in bankruptcy
but are part of the emerging entity purchased,
124
by Danielson. Additional reflects the cancellation of all outstanding
shares of Old Common Stock, Old Preferred Stock, additional paid-in
capital, and accumulated other comprehensive loss.
(d) Reflects the issuance of 200 shares of $1 par value Common Stock to
Danielson for $30,000 in cash. In addition, Danielson's purchase price
includes $6,000 in closing costs and a fair value of $11,300 for the
right of certain pre-petition creditors to participate in Danielson
Rights offering expected to occur later in 2004. Danielson had
purchased 25% of the Lake facility prior to emergence and it is
accounted for as a minority interest.
(e) Reflects the issuance of $205,000 principal amount of New High Yield
Secured Notes, $36,500 principal amount of New Reorganization Plan
Unsecured Notes, and $95,000 in new CPIH Funded Debt.
(f) Reflects the adjustment of property, plant and equipment to an
estimated fair value of $1,238,535, investments in joint ventures to
an estimated fair value of $99,627, and minority interests to an
estimated fair value of $42,595. In addition, two new asset classes
were allocated estimated fair values: $407,222 for services contracts,
which the reflects the value of the operating services provided to
municipally-owned waste-to-energy facilities, and $36,586 for energy
contracts in excess of market.
(g) Reflects the write down to an estimated fair value of $0 for
unamortized contract acquisition costs, prepaid financing costs, and
goodwill.
(h) Reflects the adjustment of project debt to a fair value of $972,055.
(i) Reflects additional accrued pension liabilities of $29,066 and
accrued post-retirement benefits of $22,337.
(j) Reflects an adjustment to deferred tax liabilities to reflect the new
fair value of the Company's fixed and intangible assets.
(k) Pro Forma cash and cash equivalents consists of $40 million in
domestic cash, $5 million in CPIH cash, and $37.9 million in cash held
at international project companies.
(l) Reorganization value in excess of net assets represents goodwill.
Negative goodwill has been allocated, after all the fresh start
adjustments as a reduction to property, plant and equipment and to
intangible assets.
125
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of Covanta Energy Corporation (Debtor
in Possession)
We have audited the accompanying Consolidated Balance Sheets of Covanta Energy
Corporation (Debtor in Possession) and its subsidiaries (the "Company") as of
December 31, 2003 and 2002, and the related Statements of Consolidated
Operations and Comprehensive Income (Loss), Shareholders' Equity (Deficit) and
Consolidated Cash Flows for each of the three years in the period ended December
31, 2003. Our audits also included the financial statement schedules listed in
the Index at Item 15. These financial statements and schedules are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements and schedules based on our audits. We did
not audit the financial statements of Quezon Power, Inc. ("Quezon") for the year
ended December 31, 2003, the Company's investment in which is accounted for by
use of the equity method. The Company's equity of $92,492,179 in Quezon's net
assets at December 31, 2003 and of $20,880,840 in that company's net income for
the year then ended is included in the accompanying financial statements. The
financial statements of Quezon were audited by other auditors whose report has
been furnished to us, and our opinion, insofar as it relates to the amounts
included for such company, is based solely on the report of such other auditors.
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 and the report of
the other auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the report of the other auditors, such
financial statements present fairly, in all material respects, the financial
position of the Company at December 31, 2003 and 2002, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2003 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, present fairly in all material respects the
information set forth therein.
As discussed in Notes 1 and 2, the Company and various domestic subsidiaries
filed voluntary petitions for reorganization under Chapter 11 of the Federal
Bankruptcy Code. The accompanying financial statements do not purport to reflect
or provide for the consequences of the bankruptcy proceedings. In particular,
such financial statements do not purport to show (a) as to assets, their
realizable value on a liquidation basis or their availability to satisfy
liabilities; (b) as to prepetition liabilities, the amounts that may be allowed
for claims or contingencies, or the status and priority thereof; (c) as to
stockholder accounts, the effect of any changes that may be made in the
capitalization of the Company; or (d) as to operations, the effect of any
changes that may be made in their businesses. On March 3, 2004, the Bankruptcy
Court entered an order confirming the Company's plan of reorganization which
became effective after the close of business on March 10, 2004.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Notes 1 and 2, the
Company's dependence upon, among other things, the Company's ability to utilize
the net operating loss carry forwards of Danielson Holding Corporation and the
Company's ability to generate sufficient cash flows from operations, asset sales
and financing arrangements to meet its obligations, raise substantial doubt
about the Company's ability to continue as a going concern. Management's plans
concerning these matters are also discussed in Notes 1 and 2. The financial
statements do not include adjustments that might result from the outcome of this
uncertainty.
126
As discussed in Note 1, on January 1, 2003 the Company adopted Statement of
Financial Accounting Standards No. 143, "Accounting for Asset Retirement
Obligations", on January 1, 2002, the Company adopted Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets" and
Statement of Financial Accounting Standards No. 144, "Accounting for the
Impairment or Disposal of Long-Lived-Assets" and on January 1, 2001 the Company
adopted Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities", as amended.
/s/ DELOITTE & TOUCHE LLP
Parsippany, New Jersey
March 26, 2004
127
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
REPORT OF MANAGEMENT
Covanta's management is responsible for the information and representations
contained in this annual report. Management believes that the financial
statements have been prepared in conformity with accounting principles generally
accepted in the United States of America appropriate in the circumstances to
reflect in all material respects the substance of events and transactions that
should be included and that the other information in the annual report is
consistent with those statements. In preparing the financial statements,
management makes informed judgments and estimates of the expected effects of
events and transactions currently being accounted for.
On April 1, 2002, Covanta Energy Corporation and various domestic subsidiaries
filed voluntary petitions for reorganization under Chapter 11 of the United
States Bankruptcy Code. The Company's Consolidated Financial Statements have
been prepared on a "going concern" basis in accordance with accounting
principles generally accepted in the United States of America. The "going
concern" basis of presentation assumes that Covanta will continue in operation
for the foreseeable future and will be able to realize its assets and discharge
its liabilities in the normal course of business. The Company's ability to
continue as a "going concern" is subject to substantial doubt and is dependent
upon, among other things, the Company's ability to utilize the net operating
loss carry forwards of Danielson Holding Corporation and the Company's ability
to generate sufficient cash flows from operations, asset sales and financing
arrangements to meet its obligations. There can be no assurances this can be
accomplished and if it were not, the Company's ability to realize the carrying
value of its assets and discharge its liabilities would be subject to
uncertainty. Therefore, if the "going concern" basis were not used
for the Company's Consolidated Financial Statements, significant adjustments
could be necessary to the carrying value of assets and liabilities, the revenues
and expenses reported, and the balance sheet classifications used.
The Company's Consolidated Financial Statements have also been prepared in
accordance with the American Institute of Certified Public Accountants'
Statement of Position No. 90-7, "Financial Reporting by Entities in
Reorganization Under the Bankruptcy Code" ("SOP 90-7"). Substantially all
unsecured liabilities as of the Petition Date were subject to compromise or
other treatment under the Reorganization Plan. For financial reporting purposes,
those liabilities and obligations whose treatment and satisfaction is dependent
on the outcome of the Chapter 11 Cases are segregated and classified as
Liabilities Subject to Compromise in the Consolidated Balance Sheet.
In meeting its responsibility for the reliability of the financial statements,
management depends on the Corporation's internal control structure. This
structure is designed to provide reasonable assurance that assets are
safeguarded and transactions are executed in accordance with management's
authorization and recorded properly to permit the preparation of financial
statements in accordance with accounting principles generally accepted in the
United States of America. In designing control procedures, management recognizes
that errors or irregularities may nevertheless occur. Also, estimates and
judgments are required to assess and balance the relative cost and expected
benefits of such controls. Management believes that the Company's internal
control structure provides reasonable assurance that errors or irregularities
that could be material to the financial statements are prevented and would be
detected within a timely period by employees in the normal course of performing
their assigned functions.
Through the Company's emergence from bankruptcy, its Board of Directors pursued
its oversight role for these financial statements through its Audit Committee,
which is composed solely of nonaffiliated directors. The Audit Committee, in
this oversight role, met periodically with management to monitor their
responsibilities. The Audit Committee also met periodically with the independent
auditors and the internal auditors, both of whom have free access to the Audit
Committee without management present. Upon the Effective Date of the Company's
Reorganization Plan, the Audit Committee of the Company's parent, Danielson
Holding Corporation, functions as the Company's Audit Committee.
The independent auditors express an opinion on our financial statements. Their
opinion is based on procedures they consider to be sufficient to enable them to
reach a conclusion as to the fairness of the presentation of the financial
statements.
Anthony J. Orlando
President and Chief Executive Officer
128
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES QUARTERLY
RESULTS OF OPERATIONS (UNAUDITED) (IN THOUSANDS OF DOLLARS, EXCEPT PER-SHARE
AMOUNTS)
The 2003 and 2002 quarterly results of operations have been reclassified to
reflect discontinued operations (see Note 3 for further discussion).
The following table summarizes the 2003 quarterly results of operations:
2003 QUARTER ENDED MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
- ------------------------------------------------------------------------------------------------------
Total revenues from continuing operations $ 196,411 $ 211,596 $ 192,055 $ 190,406
----------- ----------- ----------- -----------
Operating income from continuing operations $ 21,801 $ 37,872 $ 13,935 $ 16,314
----------- ----------- ----------- -----------
Loss from continuing operations $ (2,781) $ 6,588 $ (18,328) $ (12,243)
----------- ----------- ----------- -----------
Income from discontinued operations 1,789 4,902 8,068 64,055
----------- ----------- ----------- -----------
Loss from cumulative effect of change
in accounting principle (8,538) -- -- --
----------- ----------- ----------- -----------
Net income (loss) $ (9,530) $ 11,490 $ (10,260) $ 51,812
=========== =========== =========== ===========
Basic earnings (loss) per common share:
Loss from continuing operations $ (0.06) $ 0.13 $ (0.37) $ (0.25)
Income from discontinued operations 0.04 0.10 0.16 1.29
Loss from cumulative effect of change -- -- --
In accounting principles (0.17)
----------- ----------- ----------- -----------
Total $ (0.19) $ 0.23 $ (0.21) $ 1.04
=========== =========== =========== ===========
Diluted earnings (loss) per common share
Loss from continuing operations $ (0.06) $ 0.13 $ (0.37) $ (0.25)
Income from discontinued operations 0.04 0.10 0.16 1.29
Loss from cumulative effect of change
in accounting principle (0.17) -- -- --
----------- ----------- ----------- -----------
Total $ (0.19) $ 0.23 $ (0.21) $ 1.04
=========== =========== =========== ===========
The following table summarizes the 2002 quarterly results of operations:
2002 QUARTER ENDED MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
- ------------------------------------------------------------------------------------------------------
Total revenues from continuing operations $ 203,203 $ 213,893 $ 205,312 $ 203,373
----------- ----------- ----------- -----------
Operating income (loss) from continuing
operations $ (27,771) $ (53,732) $ 35,571 $ 17,765
----------- ----------- ----------- -----------
Income (loss) from continuing operations $ (40,906) $ (78,892) $ 4,388 $ (12,288)
----------- ----------- ----------- -----------
Income (loss) from discontinued operations (10,046) (62,675) 13,071 16,295
----------- ----------- ----------- -----------
Loss from cumulative effect of change
in accounting principle (7,842) -- -- --
----------- ----------- ----------- -----------
Net income (loss) $ (58,794) $ (141,567) $ 17,459 $ 4,007
=========== =========== =========== ===========
Basic earnings (loss) per common share:
Income (loss) from continuing operations $ (0.82) $ (1.58) $ 0.09 $ (0.25)
Loss from discontinued operations (0.20) (1.26) 0.26 0.33
Loss from cumulative effect of change
in accounting principle (0.16) -- -- --
----------- ----------- ----------- -----------
Total $ (1.18) $ (2.84) $ 0.35 $ 0.08
=========== =========== =========== ===========
Diluted earnings (loss) per common share
Income (loss) from continuing operations $ (0.82) $ (1.58) $ 0.09 $ (0.25)
Loss from discontinued operations (0.20) (1.26) 0.26 0.33
Loss from cumulative effect of change -- --
in accounting principles (0.16) -- -- --
----------- ----------- ----------- -----------
Total $ (1.18) $ (2.84) $ 0.35 $ 0.08
=========== =========== =========== ===========
See Note 2, 3, 4, 5, 9, 11, 17 and 25 to the Consolidated Financial Statements
for information regarding reorganization items, write-offs and special charges
during the years ended December 31, 2003 and 2002.
129
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
ITEM 9A. CONTROLS AND PROCEDURES
The Company has carried out an evaluation under the supervision and with the
participation of the Company's management, including the Chief Executive
Officer, who also presently performs the functions of principal financial
officer, of the effectiveness of the design and operation of the Company's
disclosure controls and procedures. There are inherent limitations to the
effectiveness of any system of disclosure controls and procedures, including the
possibility of human error and the circumvention or overriding of the controls
and procedures. Accordingly, even effective disclosure controls and procedures
can only provide reasonable assurance of achieving their control objectives.
Based upon the Company's evaluation, the Chief Executive Officer, who also
presently performs the functions of principal financial officer, has concluded
that, as of December 31, 2003, the disclosure controls and procedures are
effective to provide reasonable assurance that information required to be
disclosed in the reports the Company files and submits under the Exchange Act is
recorded, processed, summarized and reported as and when required.
There has been no change in the Company's internal control over financial
reporting during the Company's three month period ended December 31, 2003 that
has materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting.
130
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF COVANTA
DIRECTORS OF COVANTA
NAME AND AGE(1) PRINCIPAL FIRST BECAME
OCCUPATION A DIRECTOR TERM EXPIRES
- ---------------------------------------------------------------------------------------------------------------------------
Anthony J. Orlando, 44 President and Chief Executive 2004 2005
Officer of Covanta
Philip Tinkler, 39 Chief Financial Officer of Danielson 2004 2005
Joseph P. Sullivan, 70 Retired Chairman of IMC Global; Director of Danielson 2004 2005
(1) All information is as of March 18, 2004.
Mr. Orlando was named President and Chief Executive Officer of Covanta in
November 2003. From March 2003 to November 2003 he served as Senior Vice
President, Business and Financial Management of Covanta. From January 2001 until
March 2003, Mr. Orlando served as Covanta's Senior Vice President, Waste to
Energy. Previously he served as Executive Vice President of Covanta Energy
Group, Inc., a Covanta subsidiary. Mr. Orlando joined Covanta in 1987.
Mr. Tinkler was named Chief Financial Officer of Danielson on January 27, 2003.
Mr. Tinkler is also Chief Financial Officer of Equity Group Investments, L.L.C.
("EGI") and has served in various other capacities for EGI or its predecessors
since 1990. Mr. Tinkler has been Vice President--Finance and Treasurer of First
Capital Financial, LLC a sponsor of public limited real estate partnerships,
since April 2001.
Mr. Sullivan has been a Director of Danielson since July 2002. Mr. Sullivan is a
private investor and is currently retired after serving as the Chairman of the
Board of IMC Global from July 1999 to November 2000, and as a Member of its
Board of Directors and Executive Committee from March 1996 through December
2000.
EXECUTIVE OFFICERS OF COVANTA
Set forth below are the names, ages, current positions and terms of office of
Covanta's current executive officers. With the exception of Messrs. Myones,
Sarkar and Whitney, each executive officer listed below was an executive officer
of Covanta at the time it filed for relief under Chapter 11 of the United States
Bankruptcy Code.
131
CONTINUALLY
POSITION AND AGE AS OF AN EXECUTIVE
NAME OFFICE HELD March 10, 2004 OFFICER SINCE
- --------------------------------------------------------------------------------------------------------------------------
Anthony J. Orlando President and Chief 44 2001(1)
Executive Officer
John M. Klett Senior Vice President, 57 1987(1)
Operations
Timothy J. Simpson Senior Vice President, General Counsel and Secretary 45 2001(1)
Seth Myones Senior Vice President, Business Management 45 2004(1)
Scott Whitney Senior Vice President, Business Development 46 2004(1)
Stephen M. Gansler Senior Vice President, 49 2001(2)
Human Resources
Jeffrey R. Horowitz Senior Vice President 54 2001(2)
Paul B. Clements Senior Vice President 47 2001(2)
Louis M. Walters Vice President 51 2001(1)
and Treasurer
Ashish Sarkar Chief Executive Officer of CPIH 55 2004(3)
(1) Except as described below, the term of office of each of these
officers shall continue at the discretion of Covanta's Board of
Directors.
(2) Covanta and Messrs. Horowitz and Clements have agreed that these
executive's employment with Covanta will terminate effective April 30,
2004 and April 9, 2004, respectively. Covanta and Mr. Gansler have
agreed that Mr. Gansler's employment with Covanta will terminate
effective sixty (60) days following the date on which his successor is
retained, but in no event later than August 1, 2004.
(3) Mr. Sarkar serves as Chief Executive Officer of CPIH, a Covanta
subsidiary, pursuant to a contract that provides for an employment
term of two years, subject to extension. Mr. Sarkar's employment may
be terminated prior to the end of the term of his agreement by the
unanimous vote of CPIH's Board of Directors, of which two directors
are elected by Covanta and one by the holder of CPIH's preferred
stock.
The following briefly describes the business experience, principal occupation
and employment of the foregoing executive officers during the past five years:
Anthony J. Orlando was named President and Chief Executive Officer of Covanta in
November 2003. From March 2003 to November 2003, he served as Senior Vice
President, Business and Financial Management of Covanta. From January 2001 until
March 2003, Mr. Orlando served as Covanta's Senior Vice President, Waste to
Energy. Previously he served as Executive Vice President of Covanta Energy
Group, Inc., a Covanta subsidiary. Mr. Orlando joined the Company in 1987.
132
John M. Klett was named Senior Vice President, Operations of Covanta in March
2003. Prior thereto he served as Executive Vice President of Covanta Waste to
Energy, Inc. for more than five years. Mr. Klett joined the Company in 1986.
Timothy J. Simpson was named Senior Vice President, General Counsel and
Secretary of Covanta in March 2004. From June 2001 to March 2004, Mr. Simpson
served as Vice President, Associate General Counsel and Assistant Secretary of
Covanta. Prior thereto he served as Senior Vice President, Associate General
Counsel and Assistant Secretary of Covanta Energy Group, Inc., a Covanta
subsidiary. Mr. Simpson joined the Company in 1992.
Seth Myones was named Senior Vice President, Business Management of Covanta in
January 2004. From September 2001 until January 2004, Mr. Myones served as Vice
President, Waste-to-Energy Business Management for Covanta Projects, Inc., a
Covanta subsidiary. Previously he served as Regional Vice President, Business
Management. Mr. Myones joined the Company in 1989.
Scott Whitney was named Senior Vice President, Business Development of Covanta
in February 2004. Previously he served as Vice President, Business Development
for Covanta Energy Group, Inc., a Covanta subsidiary. Mr. Whitney joined the
Company in 1987.
Stephen M. Gansler was named Senior Vice President, Human Resources of Covanta
in March 2003. From March 2001 to March 2003, Mr. Gansler served as Vice
President, Human Resources of Covanta. From 1998 to March 2001, Mr. Gansler was
Worldwide Vice President, Human Resources, at a Johnson & Johnson affiliate.
Prior to that time, Mr. Gansler held various positions in Human Resources with
Johnson & Johnson for more than 20 years.
Jeffrey R. Horowitz was named Senior Vice President of Covanta in March 2004.
From August 2001 to March 2004, Mr. Horowitz served as Senior Vice President,
General Counsel and Secretary of Covanta. From June 2001 to August 2001, Mr.
Horowitz served as Senior Vice President for Legal Affairs and Secretary and
prior to that time as Executive Vice President, General Counsel and Secretary of
Covanta Energy Group, Inc, a Covanta subsidiary. Mr. Horowitz joined the Company
in 1991.
Paul B. Clements was named Senior Vice President of Covanta in March 2004. From
March 2003 to March 2004, Mr. Clements served as Senior Vice President,
International Business Management and Operations of Covanta. From January 2001
until March 2003, Mr. Clements served as Covanta's Senior Vice President,
Independent Power Operations. Mr. Clements previously served as Executive Vice
President of Covanta Energy Group, Inc., and President of Covanta Energy West,
Inc., both of which are Covanta subsidiaries. Mr. Clements joined the Company in
1988.
Louis M. Walters was named Vice President and Treasurer of Covanta in 2001.
Prior to that time and since January 2000, Mr. Walters served as Treasurer of
Covanta Energy Group, Inc. Prior to joining Covanta, Mr. Walters was Treasurer
at Conectiv from 1998 to January 2000 and prior thereto was Treasurer at
Atlantic Energy for more than five years
Ashish Sarkar was named Chief Executive Officer of CPIH in March 2004. From
January 2002 until February 2004, Mr. Sarkar was President and Chief Executive
Officer of Global Infrastructure Company, a consulting firm. He was President of
Ogden Energy Asia Pacific Limited, a subsidiary of Covanta, from March 1995
until April 2001.
AUDIT COMMITTEE FINANCIAL EXPERT
Covanta, a wholly owned subsidiary of Danielson, is not subject to the listing
requirements of a national exchange. As a result, Covanta is not required to
have a separately-designated audit committee. Rather, the mandate of the Audit
Committee of the Board of Directors of Danielson, which is an American Stock
Exchange listed company, extends to Danielson's consolidated subsidiaries.
Therefore, the Audit Committee of Danielson serves as Covanta's audit committee.
Danielson has advised Covanta that Joseph P. Sullivan qualifies as an audit
committee financial expert and is independent within the meaning of applicable
SEC and American Stock Exchange rules and regulations.
133
CODE OF ETHICS
The Company has adopted its Senior Executive Code of Ethics which applies to
Covanta's chief executive officer, chief financial officer or controller and
other executive officers that may be designated by the Board of Directors. The
Senior Executive Code of Ethics, is available on Covanta's website at
WWW.COVANTAENERGY.COM or free of charge by writing to Louis M. Walters at 40
Lane Road, Fairfield, N.J. 07004. Covanta will also post on its website any
waiver under the Senior Executive Code of Ethics granted to any of its executive
officers.
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Securities Exchange Act of 1934, as amended (the "Exchange
Act") requires Covanta's directors, officers and persons who beneficially own
more than 10% of any class of Covanta's equity securities registered under
Section 12 of the Exchange Act to file certain reports concerning their
beneficial ownership and changes in their beneficial ownership of Covanta's
equity securities. As a result of the cancellation of the then outstanding
equity securities of Covanta on March 10, 2004 and the issuance of new equity
securities to Danielson pursuant to the Reorganization Plan Covanta's equity
securities are no longer required to be registered under Section 12 of the
Exchange Act.. Covanta believes that during fiscal year 2003 all persons who
were required to file reports did so on a timely basis.
ELECTION OF DIRECTORS
As a result of the consummation of the Reorganization Plan all of the common
stock of Covanta, the sole class of securities entitled to vote in the election
of directors, is held by Danielson.
134
ITEM 11. EXECUTIVE COMPENSATION
The following Summary Compensation Table sets forth the aggregate cash and
non-cash compensation for each of the last three fiscal years paid to each
individual who served as CEO of Covanta during fiscal year 2003 and each of
Covanta's four other most highly compensated executive officers whose salary and
bonus exceeded $100,000 for fiscal year 2003:
SUMMARY COMPENSATION TABLE(1)
ANNUAL COMPENSATION LONG TERM COMPENSATION
ALL OTHER COMPENSATION
OTHER ANNUAL DISPUTE
NAME AND PRINCIPAL POSITION YEAR SALARY BONUS(6) COMPENSATION(7) RESOLUTION (7) OTHER
- --------------------------------------------------------------------------------------------------------------------
Anthony J. Orlando 2003 $ 375,000 $ 408,750 $ 0 $ 0 $ 75,348(4)
President and Chief Executive Officer(2) 2002 245,000 337,345 0 0 75,348
2001 245,000 260,000 0 0 23,110
Bruce W. Stone 2003 $ 325,000 $ 245,131 $ 0 $ 0 $ 95,800(4)
Senior Vice President, 2002 325,000 379,935 0 0 95,800
Business Development and Construction 2001 325,000 240,000 212,626 184,657 28,610
Jeffrey R. Horowitz 2003 $ 267,800 $ 192,836 $ 0 $ 0 $ 78,867(4)
Senior Vice President, General Counsel 2002 260,000 290,525 0 0 78,867
and Secretary 2001 260,000 250,000 0 0 24,360
Paul B. Clements 2003 $ 257,500 $ 198,314 0 0 $ 75,688(4)
Senior Vice President, 2002 250,000 291,165 0 0 75,880
International Business Management
and Operations 2001 250,000 235,000 0 0 24,434
John M. Klett 2003 $ 268,290 $ 225,000 $ 0 $ 0 $ 53,333(4)
Senior Vice President, Operations 2002 260,479 262,740 0 0 55,884
2001 260,479 244,500 0 0 19,739
Scott G. Mackin 2003 $ 643,750 $ 675,938 $ 0 $ 0 $2,496,635(5)
Former President and Chief Executive
Officer(3) 2002 625,000 973,755 0 0 209,135
2001 625,000 650,000 254,146 212,212 62,860
135
(1) Includes annual compensation awarded to, earned by or paid to the
individual during the last three fiscal years, or any portion thereof
that the named individual was employed by Covanta. The preceding table
indicates the principal position in which the named executive officer
served during fiscal year 2003, except as noted below.
(2) Mr. Orlando was promoted from the position of Senior Vice President,
Business and Financial Manager of Covanta to President and Chief
Executive Officer of Covanta effective November 6, 2003.
(3) Mr. Mackin resigned from the office of President and Chief Executive
Officer of Covanta effective November 6, 2003.
(4) Includes, for the fiscal year ending December 31, 2003: (i)
contributions in the amount of $8,000 credited to the account balances
of each of Messrs. Orlando, Stone, Horowitz, Clements and Klett under
the Company's 401(k) Savings Plan; (ii) a cash payment to Messrs.
Orlando, Stone, Horowitz, Clements and Klett in the amount of $12,681,
$15,133, $12,867, $11,688 and $12,665, respectively, representing the
excess of the contribution that could have been made to each such
individual's Covanta 401(k) Savings Plan account pursuant to the
formula applicable to all employees over the maximum contribution to
such plan permitted by the Internal Revenue Code of 1976, as amended,
and (iii) amounts paid pursuant to the Retention Bonus Plan (as
described below) to Messrs. Orlando, Stone, Horowitz, Clements and
Klett of $54,667, $72,667, $58,000, $56,000 and $32,667, respectively.
(5) Includes, for the fiscal year ending December 31, 2003: (i) a
contribution in the amount of $8,000 credited to the account balance
of Mr. Mackin under the Company's 401(k) Savings Plan; (ii) a cash
payment to Mr. Mackin in the amount of $44,802, representing the
excess of the contribution that could have been made to Mr. Mackin's
Covanta 401(k) Savings Plan account pursuant to the formula applicable
to all employees over the maximum contribution to such plan permitted
by the Internal Revenue Code, (iii) an amount of $156,333 paid to Mr.
Mackin pursuant to the Retention Bonus Plan; (iv) an amount of
$1,000,000, representing a partial consulting fee, paid to Mr. Mackin
pursuant to the terms and conditions of the Mackin Agreement described
below; and (v) a severance payment of $1,287,500 paid to Mr. Mackin
pursuant to the terms and conditions of the Mackin Agreement.
(6) The amounts shown represent the full amount of the annual bonuses
attributable to each year, which were generally paid in the first
fiscal quarter of the following year.
(7) For fiscal year ending December 31, 2001, the amounts set forth under
Dispute Resolution for Messrs. Mackin and Stone represent loan
forgiveness in settlement of a dispute. On August 6, 1999, Covanta
made loans to Messrs. Mackin and Stone for the purpose of paying the
exercise price and withholding taxes in connection with their exercise
of Covanta stock options which were expiring on August 9, 1999. Both
loans were evidenced by demand notes with interest accruing thereon at
the short-term applicable federal rate compounded annually. In 2001,
as settlement of a dispute surrounding the circumstances under which
the loans were originally granted, Covanta forgave a portion of the
loan and reduced the amount of the loan to the then fair market value
of the stock. The settlement of the dispute provides that from the
date of the settlement, the balance of each note would fluctuate with
the fair market value of the stock and no interest would be payable.
Upon any sale of the stock, the executive would be required to pay the
net proceeds to Covanta. Also as part of the settlement, Covanta
agreed to reimburse the executives for taxes resulting from the debt
forgiveness on a grossed up basis. Amounts under Other Annual
Compensation represent for fiscal year ending December 31, 2001 the
reimbursement of such taxes.
136
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FY-END OPTIONS VALUES
Number of Securities Underlying Value of Unexercised In-the- Money
Unexercised Options at FY-End(1) Options at FY-End(1)
SHARES ACQUIRED EXERCISABLE/ EXERCISABLE/
NAME ON EXERCISE (#) VALUE REALIZED UNEXERCISABLE (#) UNEXERCISABLE
---- --------------- -------------- ----------------- -------------
Anthony J. Orlando 0 $0 130,000/0 $0/$0
Bruce W. Stone 0 $0 95,000/0 $0/$0
Jeffrey R. Horowitz 0 $0 120,000/0 $0/$0
Paul B. Clements 0 $0 165,000/0 $0/$0
John M. Klett 0 $0 75,000/0 $0/$0
Scott G. Mackin 0 $0 772,000/0 $0/$0
1. All options were cancelled as of March 10, 2004 pursuant to the
Reorganization Plan
COVANTA ENERGY GROUP PENSION PLAN
Messrs. Orlando, Stone, Horowitz, Clements, Klett and Mackin participate in
Covanta's Energy Group Pension Plan, a tax-qualified defined benefit plan
subject to the provisions of ERISA. Under the Energy Group Pension Plan each
participant who meets the plan's vesting requirements will be provided with an
annual benefit at or after age 65 equal to 1.5% of the participant's average
compensation during the five consecutive calendar years of employment out of the
ten consecutive calendar years immediately preceding his retirement date or
termination date during which such average is the highest, multiplied by his
total years of service prior to January 1, 2002. For years of service after
December 31, 2001, the benefit formula has been reduced to coordinate with
Social Security. The reduced benefit is equal to 0.95% of the participant's
average compensation, up to the average of the Social Security annual wage bases
in effect during the 35 year period ending on the last day of the calendar year
in which the participant's Social Security Normal Retirement age is reached,
plus 1.5% of the participant's average compensation in excess of such 35 year
average for each year of service completed after December 31, 2001, not to
exceed 35 years of service. For each year of service exceeding 35 years
completed after December 31, 2001, an additional benefit of 0.95% of Final
Average Compensation will be provided. Compensation includes salary and other
compensation received during the year and deferred income earned, but does not
include imputed income, severance pay, special discretionary cash payments or
other non-cash compensation. The relationship of the covered compensation to the
annual compensation shown in the Summary Compensation Table would be the Salary
and Bonus columns. A plan participant who is at least age 55 and who retires
after completion of at least five years of employment receives a benefit equal
to the amount he would have received if he had retired at age 65, reduced by an
amount equal to 0.5% of the benefit multiplied by the number of months between
the date the participant commences receiving benefits and the date he would have
commenced to receive benefits if he had not retired prior to age 65.
Messrs. Orlando, Horowitz, Stone, Clements, Klett and Mackin also participate in
Covanta's Energy Group Supplementary Benefit Plan, a deferred compensation plan
that is not qualified for federal income tax purposes. The Energy Group
Supplementary Benefit Plan provides that, in the event that the annual
retirement benefit of any participant in the Energy Group Pension Plan,
determined pursuant to such plan's benefit formula, cannot be paid because of
certain limits on annual benefits and contributions imposed by the Internal
Revenue Code, the amount by
137
which such benefit must be reduced represents an
unfunded liability and will be paid to the participant from the general assets
of Covanta.
The following table shows the estimated annual retirement benefits payable in
the form of a life annuity at age 65 under the Energy Group Pension Plan and the
Energy Group Supplemental Benefit Plan, without reduction for Social Security
benefits with respect to credited service after December 31, 2001. Benefits
payable under the Energy Group Supplemental Benefit Plan are paid in the form of
a lump sum. Mr. Orlando has 16.7 years, Mr. Horowitz has 12.5 years, Mr. Stone
has 27.8 years, Mr. Clements has 15.8 years, Mr. Klett has 17.7 years and Mr.
Mackin has 16.5 years of credited service- under the Energy Group Pension Plan
as of December 31, 2003 and had annual average earnings for the last five years
of $416,772, $406,705, $530,524, $420,547, $445,504 and $1,149,994 respectively.
Pursuant to the Mackin Agreement described below, Covanta has agreed to pay to
Mr. Mackin an amount equal to $594,470, on November 6, 2005, the second
anniversary of the date of his resignation, in full settlement of Mr. Mackin's
accrued benefit under the SERP. In February 2004 the Company paid to Mr. Stone
an amount equal to $510,370 in full settlement of his accrued benefit under the
SERP.
AVERAGE ANNUAL
EARNINGS IN 5
CONSECUTIVE
HIGHEST
PAID YEARS
OUT OF
LAST 10
YEARS
PRECEDING
RETIREMENT ESTIMATED ANNUAL RETIREMENT BENEFITS BASED ON YEARS OF SERVICE
5 10 15 20 25 30 35 40
410,000 30,750 61,500 92,250 123,000 153,750 184,500 215,250 246,000
420,000 31,500 63,000 94,500 126,000 157,500 189,000 220,500 252,000
430,000 32,250 64,500 96,750 129,000 161,250 193,500 225,750 258,000
440,000 33,000 66,000 99,000 132,000 165,000 198,000 231,000 264,000
450,000 33,750 67,500 101,250 135,000 168,750 202,500 236,250 270,000
475,000 35,625 71,250 106,875 142,500 178,125 213,750 249,375 285,000
500,000 37,500 75,000 112,500 150,000 187,500 225,000 262,500 300,000
530,000 39,750 79,500 119,250 159,000 198,750 238,500 278,250 318,000
600,000 45,000 90,000 135,000 180,000 225,000 270,000 315,000 360,000
650,000 48,750 97,500 146,250 195,000 243,750 292,500 341,250 390,000
700,000 52,500 105,000 157,500 210,000 262,500 315,000 367,500 420,000
750,000 56,250 112,500 168,750 225,000 281,250 337,500 393,750 450,000
800,000 60,000 120,000 180,000 240,000 300,000 360,000 420,000 480,000
850,000 63,750 127,500 191,250 255,000 318,750 382,500 446,250 510,000
900,000 67,500 135,000 202,500 270,000 337,500 405,000 472,500 540,000
950,000 71,250 142,500 213,750 285,000 356,250 427,500 498,750 570,000
1,000,000 75,000 150,000 225,000 300,000 375,000 450,000 525,000 600,000
1,050,000 78,750 157,500 236,250 315,000 393,750 472,500 551,250 630,000
1,100,000 82,500 165,000 247,500 330,000 412,500 495,000 577,500 660,000
1,150,000 86,250 172,500 258,750 345,000 431,250 517,500 603,750 690,000
1,200,000 90,000 180,000 270,000 360,000 450,000 540,000 630,000 720,000
1,250,000 93,750 187,500 281,250 375,000 468,750 562,500 656,250 750,000
1,300,000 97,500 195,000 292,500 390,000 487,500 585,000 682,500 780,000
1,350,000 101,250 202,500 303,750 405,000 506,250 607,500 708,750 810,000
1,400,000 105,000 210,000 315,000 420,000 525,000 630,000 735,000 840,000
138
DIRECTOR COMPENSATION
(a) Director's Fees
The current members of Covanta's Board of Directors will not be compensated for
their service as directors.
EMPLOYMENT CONTRACTS, TERMINATION OF EMPLOYMENT AND CHANGE IN CONTROL
ARRANGEMENTS
EMPLOYMENT CONTRACTS
Prior to the Company's emergence from the Chapter 11 cases, it formally rejected
all of the prepetition employment contracts covering the executive officers
named in the compensation table. Such rejection was authorized by the
Compensation Committee of Covanta's Board of Directors during the Chapter 11
cases.
TERMINATION OF EMPLOYMENT AND CHANGE-IN-CONTROL ARRANGEMENTS
RETENTION PROGRAM. Effective September 18, 2002, Covanta adopted a Key Employee
Retention Program (the "Key Employee Retention Program") in the form approved by
the Bankruptcy Court on that date. The Key Employee Retention Program consists
of three components: the Key Employee Severance Plan (the "Severance Plan"), the
Key Employee Retention Bonus Plan (the "Retention Bonus Plan") and the Long-Term
Incentive Plan (the "LTIP"). Each of the named executive officers participates
or participated in the Key Employee Retention Program.
SEVERANCE PLAN. In general, under the terms of the Severance Plan, in the event
of a participant's termination by Covanta without cause or resignation for
mutual benefit, such participant is eligible to receive cash severance benefits,
payable in a lump sum, equal to 200%, in the case of the Chief Executive Officer
as of September 18, 2002, and 150%, in the case of the other four named
executive officers, of such individual's base salary and continued coverage
under Covanta's medical and dental plans for eighteen months following
termination. Severance benefits are reduced, however, to the extent that any
portion would not be deductible under the provisions of the Code relating to
excess parachute payments. A participant is required to provide a general
release of claims to Covanta and to comply with certain other covenants as a
condition to receipt of any severance benefits under the Severance Plan.
RETENTION BONUS PLAN. Under the Retention Bonus Plan, a participant, including
each of the named executive officers, was eligible to receive a cash retention
bonus equal to a percentage of such participant's base salary, payable in three
equal installments, generally provided the participant was continuously employed
until the applicable payment date for each such installment. Upon approval of
the Retention Bonus Plan by the Bankruptcy Court, Mr. Mackin became eligible to
receive a cash retention bonus equal to 75% of his base salary, in the
aggregate, and Messrs. Orlando, Stone, Horowitz, Clements were each eligible to
receive a cash retention bonus equal to 67% of such officer's base salary, in
the aggregate and Mr. Klett was eligible to receive a cash retention bonus equal
to 37.6% of his base salary. The first installment amount vested and was paid to
eligible participants, including each of the named executive officers, in
September, 2002. The second installment vested and was paid to eligible
participants, including the named executive officers, in September 2003 and the
third installment became vested and was paid to eligible participants, including
the named executive officers, in March 2004.
139
LTIP. A participant in the LTIP will generally be eligible to receive a lump sum
cash incentive bonus award in the event that, prior to the first anniversary of
the date on which the Bankruptcy Court confirmed a plan of reorganization for
Covanta, such participant's employment is terminated by Covanta without cause or
such participant resigns for mutual benefit. Any incentive bonus award that
becomes payable to an eligible participant will equal a specified percentage of
an LTIP bonus pool established under the LTIP. Amounts will be credited to the
LTIP Pool based on the Value Realized (as defined in the LTIP) by Covanta and
its affiliates in connection with any asset sales or eliminations of
pre-petition letters of credit during the bankruptcy proceedings and the
enterprise value of Covanta and its affiliates upon emergence from bankruptcy.
Upon the consummation of the Reorganization Plan, the LTIP Pool was equal to
approximately $7,500,000. Prior to the Company's reorganization, each
participant's percentage interest in the LTIP pool was established by the
Compensation Committee of Covanta's Board of Directors, in consultation with the
Chief Executive Officer, within a range provided under the LTIP. Such percentage
interests as stated in the LTIP for each of Messrs. Orlando, Horowitz, Stone,
Clements, Klett and Mackin are 13%, 12%, 12%, 9.5%, 9% and 35%, respectively.
THE MACKIN AGREEMENT. On October 30, 2003, the Bankruptcy Court issued an order
authorizing and approving an agreement between Covanta and Mr. Mackin providing
for the payments described below upon Mr. Mackin's resignation from the Company,
effective November 5, 2003 (the "Mackin Agreement"). In addition, in order to
retain the critical knowledge and insight of the waste-to-energy business that
Mr. Mackin possesses, the Mackin Agreement provides that Mr. Mackin will serve
as a consultant to Covanta for a term ending on November 6, 2005. Pursuant to
the Mackin Agreement, Mr. Mackin continued to serve as a member of the Board of
Directors of Covanta until the effective date of the Reorganization Plan.
Pursuant to the Mackin Agreement, the following payments have been paid to Mr.
Mackin: (i) $1,287,500 on November 6, 2003 under the Severance Plan; (ii)
$675,938 on February 13, 2004 representing the annual bonus to which he would
have been entitled had he continued to serve as Chief Executive Officer of the
Company until December 31, 2003 at 100% of his target bonus; (iii) $156,646 on
the effective date of the Reorganization Plan under the Retention Bonus Plan;
and (iv) $2,055,000 on the effective date of the Reorganization Plan under the
LTIP. The last amount was calculated on the basis of the LTIP pool that would
have been created under a prior plan of reorganization. As a consequence, Mr.
Mackin received a payment on account of the LTIP that was less than he would
have received with respect to the LTIP pool created pursuant to the
Reorganization Plan. In addition, pursuant to Mr. Mackin's consulting
arrangement he is entitled to a consulting fee of $1,750,000, $1,000,000 of
which was paid to him on November 6, 2003 and the balance of which was paid to
him on the effective date of the Reorganization Plan. The Company must also pay
to Mr. Mackin, on November 6, 2005, an amount equal to $594,470 which represents
his vested benefit under the Supplementary Benefit Plan. Until the fourth
anniversary of his date of resignation, Mr. Mackin will also be entitled to
receive family coverage pursuant to Covanta's medical, dental and life insurance
programs at the Company's expense.
In the event the Company terminates Mr. Mackin's engagement as a consultant
prior to the expiration of its stated term without cause (including as a result
of Mr. Mackin's death or disability), Mr. Mackin (or his estate in the event of
his death) will still be entitled to all of the benefits and compensation set
forth in the Mackin Agreement, on the same terms and conditions, as if such
termination had not occurred.
Additionally, pursuant to the Mackin Agreement, Mr. Mackin and the Company
executed a mutual release of claims and Mr. Mackin agreed to a three-year
non-compete with Covanta's waste-to-energy business and has also agreed not to
work directly or indirectly for client communities of Covanta's waste-to-energy
business for the three year period following November 6, 2003.
PAYMENTS UNDER THE PLANS DESCRIBED ABOVE. Messrs. Stone, Horowitz and Clements
have been or will be paid $487,500, $413,745 and $392,039, respectively, under
the Severance Plan as a result of the termination of their employment with
Covanta. In addition, Messrs. Stone, Horowitz and Clements have been or will be
paid $904,000, $904,000 and $716,000, respectively, under the LTIP.
Generally, the Severance Plan provides that coverage under the welfare plans
maintained by the Company shall cease as of each executive's termination date,
provided that each executive shall have the right to receive continued medical
coverage under COBRA, the cost of which shall be subsidized by Covanta for a
period of eighteen months
140
or, if earlier, until the end of the month in which such executive becomes
eligible for the medical coverage of another employer.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
Because Covanta is a wholly-owned subsidiary of Danielson, since the effective
date of the Reorganization Plan, the Compensation Committee of Danielson serves
as Covanta's compensation committee. Danielson has advised Covanta that, with
respect to Covanta, all members of its Compensation Committee are "non-employee
directors" within the meaning of revised Rule 16b-3 promulgated under Section
16(b) of the Exchange Act and "outside directors" within the meaning of Section
162(m) of the Code who are not employees or members of management of Covanta or
any of its subsidiaries. During the last fiscal year, the Compensation Committee
of Covanta's pre-emergence Board of Directors consisted of Norman G. Einspruch,
Jeffrey F. Friedman, Veronica M. Hagen, Homer A. Neal and Robert R. Womack. None
of these directors were past or present officers or employees of the Company,
nor did they have any relationships with the Company disclosure under Item 13 of
this Report.
Covanta's pre-emergence Compensation Committee did not prepare a compensation
committee report with respect to its last fiscal year in view of its limited
discretion in making compensation decisions during the Chapter 11 proceeding
pursuant to the Bankruptcy Code and the orders of the Bankruptcy Court.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
As a result of the consummation of the Reorganization Plan, on March 10, 2004,
all of the then outstanding common stock and preferred stock of Covanta was
cancelled and Danielson became the sole shareholder of Covanta. As of such date,
all of the equity compensation plans discussed below terminated.
SECURITY OWNERSHIP BY MANAGEMENT
Information about the Common Stock of Covanta beneficially owned as of March 18,
2004, by each director, each executive officer named in the summary compensation
table and all directors and executive officers of Covanta as a group is set
forth as follows:
141
NAME OF BENEFICIAL OWNER AMOUNT AND NATURE OF
- ------------------------ BENEFICIAL OWNERSHIP
Paul B. Clements 0
Jeffrey R. Horowitz 0
John M. Klett 0
Scott G. Mackin 0
Anthony J. Orlando 0(1)
Philip Tinkler 0(1)
Joseph Sullivan 0(1)
Bruce W. Stone 0
All executive officers and directors as a group
(16 persons) including those named above 0(1)
- ---------------------------------------
(1) Messrs. Tinkler and Orlando are executive officers and Mr. Sullivan is a
Director of Danielson, the owner of all the common stock of Covanta.
EQUITY COMPENSATION PLAN INFORMATION
The following table includes information as of December 31, 2003 with respect to
Covanta's equity compensation plans. These plans include the Ogden Corporation
1990 Stock Option Plan, as Amended and Restated September 18, 1997 (the "Ogden
Stock Option Plan"), the Ogden Corporation 1999 Stock Incentive Plan, as Amended
and Restated January 1, 2000 (the "Ogden Stock Incentive Plan"), the Covanta
Energy Corporation Restricted Stock Unit Plan for Non-Employee Directors, as
Amended and Restated May 23, 2001 (the "Non-Employee Director Restricted Stock
Unit Plan"), and the Ogden Corporation Restricted Stock Plan adopted February
10, 2000 (the "Restricted Stock Plan").
- ----------------------------------------------------------------------------------------------------------------------------------
Plan Category Number of securities then Weighted-average exercise Number of securities then
subject to issuance upon price of outstanding remaining available for
exercise of outstanding options, warrants and future issuance under
options, warrants and rights rights (b) equity compensation plans
(a) (excluding securities
reflected in column (a))
(c)
- ----------------------------------------------------------------------------------------------------------------------------------
Equity compensation plans APPROVED by 2,923,699 18.60 5,016,001
stockholders(1)
- ----------------------------------------------------------------------------------------------------------------------------------
Equity compensation plans NOT APPROVED by 0 0 528,633(3)
stockholders(2)
- ----------------------------------------------------------------------------------------------------------------------------------
Total 2,923,699 18.60 5,544,634
- ----------------------------------------------------------------------------------------------------------------------------------
- -------------------
(1) Consisted of the Ogden Stock Option Plan and the Ogden Stock Incentive
Plan.
(2) Consisted of the Non-Employee Director Restricted Stock Unit Plan and the
Restricted Stock Plan.
(3) Up to 160,000 shares under the Non-Employee Director Restricted Stock Unit
Plan were subject to issuance in connection with restricted stock units or
pursuant to unrestricted stock grants. Up to 500,000 shares were subject to
issuance in connection with restricted stock awards under the Restricted
Stock Plan.
The following two equity compensation plans had not been approved by Covanta's
stockholders.
142
THE NON-EMPLOYEE DIRECTOR RESTRICTED STOCK UNIT PLAN
The Non-Employee Director Restricted Stock Unit Plan is an amendment and
restatement of the Ogden Corporation Restricted Stock Plan for Non-Employee
Directors. The Plan provides for (i) the automatic grant of restricted stock
units to non-employee directors of Covanta with respect to fifty percent of
their annual retainer fees, (ii) the automatic grant of common stock to
non-employee directors with respect to fifty percent of their meeting fees, and
(iii) non-employee directors to elect to receive restricted stock units in lieu
of common stock and cash with respect to the retainer and meeting fees not
automatically paid in restricted stock units. On January 21, 2002, the Board of
Directors voted to pay all non-employee director compensation in the form of
cash rather than 50% cash and 50% restricted stock, as had been the practice.
Retainer Fees. The restricted stock units respecting fifty percent of the
non-employee director's annual retainer fees were granted on the first Board
meeting of Covanta's fiscal year. These restricted stock units vested on the
earliest to occur of the first anniversary of the grant date, the non-employee
director's attainment of age 72, the non-employee director's disability, or the
non-employee director's death. Prior to vesting, non-employee directors had no
rights as shareholders with respect to their restricted stock units. Upon
vesting, shares of Covanta common stock were issued to the non-employee
directors, unless the non-employee director elected to defer receipt of the
shares. The remaining fifty percent of a non-employee director's retainer was
paid in cash or, if a deferral election was made by the non-employee director,
in restricted stock units payable in shares of common stock upon the director's
termination of service on the Board or on the date or dates elected by the
non-employee director. Notwithstanding the foregoing, the Chairman of the Board
received his retainer fee in four equal quarterly installments. Fifty percent of
the Chairman's retainer fee was paid in common stock or, in the case of a
deferral election, in restricted stock units, and the remaining fifty percent
was paid in cash or, in the case of a deferral election, in restricted stock
units.
Meeting Fees. Fifty percent of each non-employee director's meeting fees, which
were paid quarterly, were paid in the form of Covanta common stock or, in the
case of a deferral election, in restricted stock units. Unless otherwise
determined by the Board, the Chairman was not entitled to meeting fees.
In the event of a change in control as defined in the Non-Employee Director
Restricted Stock Unit Plan of Covanta, unvested restricted stock units would
have become immediately vested, deferred amounts would have been paid, and fees
that otherwise would be paid for the quarter in which the change in control
occurs would have been paid at the time of the change in control.
Only shares of common stock reacquired by Covanta and held in treasury could be
issued under the Plan. The aggregate number of shares of common stock which
could be issued under the plan could not exceed 160,000 shares, subject to
antidilution adjustments in the event of certain recapitalizations,
reorganizations, of other changes in Covanta's capital structure. Covanta had no
obligation to issue shares under the plan unless and until Covanta's shares were
listed on a national securities exchange or system sponsored by a national
securities association. As of December 31, 2003, 0 restricted stock unit awards
were outstanding and 107,533 shares of Covanta common stock had been issued
under the plan pursuant to vested restricted unit awards and common stock
grants. The Board could amend, suspend, or terminate the plan at any time,
provided such action did not impair the rights of plan participants without
their consent.
THE RESTRICTED STOCK PLAN
The Restricted Stock Plan was adopted by Covanta effective February 10, 2000.
The plan provided for the issuance of restricted stock awards to key employees
of the Company and its affiliates. The Plan was administered by a committee (the
"Committee") comprised of members of Covanta's Board of Directors. The Committee
determined the terms and conditions of restricted stock awards made under the
plan, including which key employees were eligible to receive awards, the number
of restricted shares subject to the awards, vesting schedules and acceleration
thereof. The Committee had authority to amend the terms restricted stock awards
prospectively or retroactively, provided such amendment did not impair the
rights of any holder without his or her consent. No more than 500,000 shares
could be issued pursuant to restricted stock awards under the plan, subject to
antidilution adjustments in the event of certain recapitalizations,
reorganizations, of other changes in Covanta's capital structure. Restricted
shares were subject to forfeiture and transfer limitations. Upon vesting, shares
of unrestricted common stock were issued to the participant. During the
restricted period, unless otherwise determined by the Committee, holders of
restricted
143
shares had all of the rights of a holder of shares of Covanta common stock
including the right to receive dividends and the right to vote such shares. Upon
a change in control of Covanta, all restricted stock awards would have become
immediately vested and shares of unrestricted common stock would have been
issued to the participant. The Board or the Committee could amend, suspend, or
terminate the plan at any time, provided such action did not impair the rights
of plan participants without their consent.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
A loan was made by Covanta in 1989 to Lynde H. Coit, a former executive officer
of Covanta, to assist Mr. Coit in the purchase of a home in connection with his
relocation. Mr. Coit's employment with the Company terminated as of March 12,
2004. The loan is evidenced by a demand note, bearing interest at the rate of 8%
per annum and is secured by a second mortgage on the premises. The maximum
amount outstanding under the loan during 2003 was $168,200. As of December 31,
2003, the outstanding balance was $11,300. In 1990, a loan was made by Covanta
Energy to Bruce W. Stone, an executive officer of Covanta, for the purpose of
assisting him in the purchase of his home. The loan is evidenced by a demand
note bearing interest at the rate 8% per annum. As of December 31, 2003, there
was no outstanding balance. The maximum amount outstanding during 2003 was
$95,999. This loan was repaid in full on February 27, 2003.
Robert E. Smith, a Covanta director prior to emergence, is counsel to the law
firm of Katten Muchin Zavis Rosenman which during 2003 rendered legal services
to Covanta principally in the area of litigation management.
Joseph A. Tato, a Covanta director prior to emergence, is a partner of the law
firm of LeBoeuf, Lamb, Greene & MacRae, LLP which rendered legal services during
2003 to Covanta Energy Group, Inc., a Covanta subsidiary.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The following information presents the fees for services rendered by Deloitte &
Touche LLP for the years ended December 31, 2003 and 2002. The Company's Audit
Committee approved all of the services related to the fees set forth below.
AUDIT FEES
The aggregate fees of Deloitte & Touche LLP for professional services rendered
for each of the years ended December 31, 2003 and 2002 for the audits of the
consolidated financial statements of the Company and review of financial
statements included in the Company's Form 10-Qs or for services that are
normally provided by the independent auditor in connection with statutory and
regulatory filings or engagements for each of the referenced years were
$1,879,405 and $2,297,467, respectively.
AUDIT-RELATED FEES
The aggregate fees of Deloitte & Touche LLP for each of the years ended December
31, 2003 and 2002 for assurance and related services that are reasonably related
to the performance of the audit or review of the Company's financial statements
and are not included in the audit fees listed above were $79,219 and $558,416,
respectively. These fees were primarily related to employee benefit plan
reports, tip fee reports, reports related to dispositions, consultations on
financial accounting matters and Sarbanes-Oxley Section 404 assistance.
TAX FEES
The aggregate fees billed by Deloitte & Touche LLP for each of the years ended
December 31, 2003 and 2002 for tax compliance, tax advice and tax planning were
$1,977,083 and $3,230,253, respectively. These fees were primarily related to
general advisory services, and assistance with the federal, state, local and
benefit plan tax returns.
ALL OTHER FEES
144
The aggregate fees of Deloitte & Touche LLP for the years ended December 31,
2003 and 2002 for products and services other than services described in the
sections captioned "Audit Fees," "Audit-Related Fees," and "Tax Fees" were
$39,453 and $343,609, respectively. These fees were primarily related to
business insurance advisory services.
POLICY ON AUDIT COMMITTEE PRE-APPROVAL OF AUDIT AND PERMISSIBLE NON-AUDIT
SERVICES OF INDEPENDENT AUDITOR
As a member of the Danielson consolidated reporting group, Danielson's Audit
Committee will retain Covanta's independent accountants for 2004, pursuant to
Danielson's policies. Under Covanta's and Danielson's policies Covanta may not
retain its independent accountants to provide non-audit services unless such
services are approved in advance by Danielson's Audit Committee. During 2003,
Covanta's Audit Committee approved all audit and non-audit services performed by
Deloitte & Touche LLP in accordance with such policies.
145
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as a part of this report:
(1) All financial statements: see Index to Financial Statements, see
Part II, Item 8.
(2) Financial Statement Schedules.
(b) The Company filed the following current reports on Form 8-K during the
fourth quarter of 2003:
The Company filed a Current Report on Form 8-K on October 23, 2003,
announcing that on October 17, 2003 the Debtors mailed solicitation
packages to claimholders and other parties in interest which included the
Debtors' First Amended Joint Plan of Reorganization, the Debtors' First
Amended Joint Plan of Liquidation, the Heber Debtors' Second Amended Joint
Plan of Reorganization under Chapter 11 of the Bankruptcy Code and a
related Disclosure Statement and a Short-Form Disclosure Statement.
The Company filed a Current Report on Form 8-K on November 26, 2003 to
report that the Bankruptcy Court confirmed the Heber Debtors' Third
Amended Joint Plan of Reorganization under Chapter 11 of the Bankruptcy
Code and approved the sale of the Geothermal Assets to Ormat pursuant to a
purchase agreement executed on November 21, 2003.
The Company filed a Current Report on Form 8-K on December 3, 2003 to
report that the Company issued a press release on December 2, 2003
announcing that the Company signed a definitive agreement with Danielson
Holding Corporation under which Danielson Holding Corporation will acquire
the Company's energy and water businesses in connection with the Company's
emergence from bankruptcy.
The Company filed a Current Report on Form 8-K on December 23, 2003 to
report that on December 18, 2003 the Company sold the Geothermal Business
to Ormat for cash consideration of $214,000,000, subject to a working
capital adjustment.
(c) Those exhibits required to be filed by Item 601 of Regulation S-K are
listed in the Exhibit Index included on this Form 10-K.
(d) Separate financial statements of fifty percent or less owned persons. See
Appendix F-1 through F-32.
146
SCHEDULE II
ITEM 15. (A) (2). FINANCIAL STATEMENT SCHEDULES
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
(Amounts in thousands of dollars)
FOR THE YEAR ENDED DECEMBER 31, 2003
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
ADDITIONS
-----------------------------
BALANCE AT CHARGED TO
BEGINNING CHARGED TO COSTS OTHER BALANCE AT
DESCRIPTION OF PERIOD AND EXPENSES ACCOUNTS DEDUCTIONS END OF PERIOD
----------- ---------- ---------------- ---------- ---------- -------------
ALLOWANCES DEDUCTED IN THE BALANCE SHEET
FROM THE ASSETS TO WHICH THEY APPLY:
DOUBTFUL RECEIVABLES - CURRENT $ 20,476 $ 5,241 $ 8,368 $ 6,192(A) $ 27,893
RETENTION RECEIVABLES -CURRENT 5,000 5,000
DOUBTFUL RECEIVABLES - NON-CURRENT 2,957 3,270 1,201(B) 5,026
---------- ---------- --------- -------- ---------
TOTAL $ 23,433 $ 10,241 $ 11,638 $ 7,393 $ 37,919
========== ========== ========= ======== =========
ALLOWANCES NOT DEDUCTED:
RESERVES RELATING TO TAX INDEMNIFICATION AND
OTHER CONTINGENCIES IN CONNECTION WITH THE
SALE OF LIMITED PARTNERSHIP INTERESTS IN AND
RELATED TAX BENEFITS OF A WASTE-TO-ENERGY FACILITY $ 300 $ 300
---------- ---------- --------- -------- ---------
TOTAL $ 300 $ 300
========== ========== ========= ======== =========
NOTES:
(A) WRITE-OFFS OF RECEIVABLES CONSIDERED UNCOLLECTIBLE
(B) SETTLEMENT OF RECEIVABLE ON COMPANY SOLD
147
SCHEDULE II
ITEM 15. (A) (2). FINANCIAL STATEMENT SCHEDULES
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
(Amounts in thousands of dollars)
FOR THE YEAR ENDED DECEMBER 31, 2002
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
ADDITIONS
-----------------------------
BALANCE AT CHARGED TO
BEGINNING CHARGED TO COSTS OTHER BALANCE AT
DESCRIPTION OF PERIOD AND EXPENSES ACCOUNTS DEDUCTIONS END OF PERIOD
----------- ---------- ---------------- ---------- ---------- -------------
ALLOWANCES DEDUCTED IN THE BALANCE SHEET
FROM THE ASSETS TO WHICH THEY APPLY:
DOUBTFUL RECEIVABLES - CURRENT $ 16,444 $ 17,056 $ 12,789(A) $ 20,476
235(B)
DOUBTFUL RECEIVABLES - NON-CURRENT 2,957 2,957
-------- -------- -------- -------- --------
TOTAL $ 16,444 $ 20,013 $ 13,024 $ 23,433
======== ======== ======== ======== ========
ALLOWANCES NOT DEDUCTED:
RESERVES RELATING TO TAX INDEMNIFICATION AND
OTHER CONTINGENCIES IN CONNECTION WITH THE
SALE OF LIMITED PARTNERSHIP INTERESTS IN AND
RELATED TAX BENEFITS OF A WASTE-TO-ENERGY FACILITY $ 300 $ 300
-------- -------- -------- -------- --------
TOTAL $ 300 $ 300
======== ======== ======== ======== ========
NOTES:
(A) WRITE-OFFS OF RECEIVABLES CONSIDERED UNCOLLECTIBLE
(B) COMPANY SOLD
148
SCHEDULE II
ITEM 15. (A) (2). FINANCIAL STATEMENT SCHEDULES
COVANTA ENERGY CORPORATION (DEBTOR IN POSSESSION) AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
(Amounts in thousands of dollars)
FOR THE YEAR ENDED DECEMBER 31, 2001
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
ADDITIONS
------------------------------
BALANCE AT CHARGED TO
BEGINNING CHARGED TO COSTS OTHER BALANCE AT
DESCRIPTION OF PERIOD AND EXPENSES ACCOUNTS DEDUCTIONS END OF PERIOD
----------- ---------- ---------------- ---------- ---------- -------------
ALLOWANCES DEDUCTED IN THE BALANCE SHEET
FROM THE ASSETS TO WHICH THEY APPLY:
DOUBTFUL RECEIVABLES - CURRENT $ 19,234 $ 14,212 $ 1,215 (B) $ 6,026(A) $ 16,444
12,191(C)
--------- --------- -------- --------- --------
TOTAL $ 19,234 $ 14,212 $ 1,215 $ 18,217 $ 16,444
========= ========= ======== ========= ========
ALLOWANCES NOT DEDUCTED:
RESERVES RELATING TO TAX INDEMNIFICATION AND
OTHER CONTINGENCIES IN CONNECTION WITH THE
SALE OF LIMITED PARTNERSHIP INTERESTS IN AND
RELATED TAX BENEFITS OF A WASTE-TO-ENERGY FACILITY $ 300 $ 300
--------- --------- -------- --------- --------
TOTAL $ 300 $ 300
========= ========= ======== ========= ========
NOTES:
(A) WRITE-OFFS OF RECEIVABLES CONSIDERED UNCOLLECTIBLE
(B) TRANSFER FROM OTHER ACCOUNTS
(C) RECLASSIFICATION TO ASSETS HELD FOR SALE
149
COVANTA 2003 FORM 10-K
EXHIBIT INDEX
Exhibit
Number Exhibit Description
- ------ -------------------
Plan of acquisition, reorganization, arrangement, liquidation or succession.
2.1 Debtors' First Amended Joint Plan of Reorganization (previously
filed as Exhibit 2.1 to Covanta's Current Report on Form 8-K
dated October 22, 2003 and incorporated herein by reference)
2.2 Debtors' First Amended Joint Plan of Liquidation (previously
filed as Exhibit 2.2 to Covanta's Current Report on Form 8-K
dated October 22, 2003 and incorporated herein by reference)
2.3 Heber Debtors' Second Amended Joint Plan of Reorganization
(previously filed as Exhibit 2.3 to Covanta's Current Report on
Form 8-K dated October 22, 2003 and incorporated herein by
reference)
2.4 Disclosure Statement with Respect to Reorganizing Debtors' Joint
Plan of Reorganization, Heber Debtors' Joint Plan of
Reorganization and Liquidating Debtors' Joint Plan of Liquidation
(previously filed as Exhibit 2.4 to Covanta's Current Report on
Form 8-K dated October 22, 2003 and incorporated herein by
reference)
2.5 Short-Form Disclosure Statement with Respect to Reorganizing
Debtors' Joint Plan of Reorganization, Heber Debtors' Joint Plan
of Reorganization and Liquidating Debtors' Joint Plan of
Liquidation (previously filed as Exhibit 2.5 to Covanta's Current
Report on Form 8-K dated October 22, 2003 and incorporated herein
by reference)
2.6 Reorganizing Debtors' Second Joint Plan of Reorganization
(previously filed as Exhibit T3E-1 to the Company's Form T-3/A
(Amendment No. 3) dated January 26, 2004 and incorporated herein
by reference).
2.7 Liquidating Debtors' Second Joint Plan of Liquidation (previously
filed as Exhibit T3E-2 to the Company's Form T-3/A (Amendment No.
3) dated January 26, 2004 and incorporated herein by reference).
2.8 Second Disclosure Statement with Respect to the Second Joint Plan
of Reorganization and Second Joint Plan of Liquidation
(previously filed as Exhibit T3E-3 to the Company's Form T-3/A
(Amendment No. 3) dated January 26, 2004 and incorporated herein
by reference).
2.9 Investment and Purchase Agreement between Danielson Holding
Corporation and Covanta Energy Corporation, dated December 2,
2003.*
*All schedules (or similar attachments) to this Exhibit 2.9 have
been omitted in accordance with Item 601(b)(2) of Regulation S-K.
A list of the omitted schedules appears at the end of this
Exhibit 2.9. The Company will supplementally furnish a copy of
any omitted schedule to the Commission upon request.
Articles of Incorporation and By-Laws
3.1 The Company's Restated Certificate of Incorporation as amended
(previously filed as Exhibit 3(a) to the Company's Annual Report
on Form 10-K for the
150
fiscal year ended December 31, 1988 and incorporated herein by
reference).
3.2 Certificate of Ownership and Merger, merging Ogden-Covanta, Inc.
into Ogden Corporation, dated March 7, 2001 (previously filed as
Exhibit 3.1(b) to the Company's Annual Report on Form 10-K for
the fiscal year ended December 31, 2000 and incorporated herein
by reference).
3.3 The Company's By-Laws, as amended through April 8, 1998
(previously filed as Exhibit 3.2 to Ogden's 10-Q for the
Quarterly Period ended March 31, 1998 and incorporated herein by
reference).
3.4 The Company's By-Laws, as amended through March 10, 2004.
Instruments Defining Rights of Security Holders, including Indentures
4.1 Fiscal Agency Agreement between Covanta and Bankers Trust
Company, dated as of June 1, 1987, and Offering Memorandum dated
June 12, 1987, relating to U.S. $85 million Ogden 6% Convertible
Subordinated Debentures, Due 2002 (previously filed as Exhibits
(C)(3) and (C)(4) to the Company's Form 8-K dated July 7, 1987
and incorporated herein by reference)
4.2 Fiscal Agency Agreement between the Company and Bankers Trust
Company, dated as of October 15, 1987, and Offering Memorandum,
dated October 15, 1987, relating to U.S. $75 million Ogden 5-3/4%
Convertible Subordinated Debentures, Due 2002 (previously filed
on December 4, 1987 as Exhibit 4 to the Company's Registration
Statement on Form S-3 Registration No. 33-18875 and incorporated
herein by reference)
4.3 Indenture dated as of March 1, 1992 from the Company Corporation
to Wells Fargo Bank Minnesota, National Association, as Trustee
(as successor in such capacity to The Bank of New York, Trustee),
relating to the Company's $100 million debt offering (previously
filed as Exhibit 4(c) to the Company's Annual Report on Form 10-K
for the fiscal year ended December 31, 1991 and incorporated
herein by reference)
4.4 Form of Indenture for 8.25% Senior Secured Notes due 2011 between
Covanta and the Trustee (previously filed as Exhibit T3C-1 to the
Company's Form T-3/A (Amendment No. 3) dated January 26, 2004 and
incorporated herein by reference).
4.4(i) Cross-reference sheet showing the location in the Indenture for
8.25% Senior Secured Notes due 2011 of the provisions inserted
therein pursuant to Sections 310 through 318(a), inclusive, of
the Trust Indenture Act of 1939 (previously filed as Exhibit
T3F-1 to the Company's Form T-3/A (Amendment No. 3) dated January
26, 2004 and incorporated herein by reference).
4.5 Form of Indenture for 7.5% Unsecured Subordinated Notes due 2012
between Covanta and the Trustee (previously filed as Exhibit
T3C-2 to the Company's Form T-3/A (Amendment No. 6) dated March
9, 2004 and incorporated herein by reference).
151
4.5(i) Cross-reference sheet showing the location in the Indenture for
7.5% Senior Secured Notes due 2012 of the provisions inserted
therein pursuant to Sections 310 through 318(a), inclusive, of
the Trust Indenture Act of 1939 (previously filed as Exhibit
T3F-2 to the Company's Form T-3/A (Amendment No. 6) dated March
9, 2004 and incorporated herein by reference).
Material Contracts
152
10.1(a) Termination Agreement by and between Ogden Facility Management
Corporation of Anaheim, Covanta Energy Corporation and the City
of Anaheim, California dated November 5, 2003.
10.1(b) Ownership Interest Purchase Agreement by and among Covanta Heber
Field Energy, Inc., Heber Field Energy II, Inc., ERC Energy,
Inc., ERC Energy II, Inc., Heber Loan Partners, Covanta Power
Pacific, Inc., Pacific Geothermal Co., Mammoth Geothermal Co.,
AMOR 14 Corporation, Covanta SIGC Energy II, Inc. and Covanta
Energy Americas, Inc. (the Sellers) and Covanta Energy
Corporation and Or Heber 1 Inc., Or Heber 2 Inc., Or Heber 3 Inc.
and Or Mammoth Inc. (the Buyers) dated as of November 21, 2003
10.1(c) Debtor In Possession Credit and Participation Agreement, dated as
of April 1, 2002, among the Company, the Company's U.S.
Subsidiaries listed therein, the Lenders listed therein, Bank of
America, NA, as Administrative Agent, Co-Arranger and Co-Book
Runner and Deutsche Bank AG, New York Branch, as Documentation
Agent, Co-Arranger and Co-Book Runner (previously filed as
Exhibit 10.1(j) to Covanta's Annual Report on Form 10-K dated
July 17, 2002 and incorporated herein by reference)
10.1(d) Security Agreement, dated as of April 1, 2002, by and among the
Company, each of the other Borrowers listed on the signature
pages thereof, each of the Subsidiary Guarantors listed on the
signature pages thereof and each Additional Subsidiary Guarantor
and Borrower that may become a party thereto after the date
thereof, and Bank of America, N.A., in its capacity as
administrative agent for and representative of Lenders from time
to time party to the Credit Agreement (previously filed as
Exhibit 10.1(k) to Covanta's Annual Report on Form 10-K dated
July 17, 2002 and incorporated herein by reference)
10.1(e) First Amendment to Debtor In Possession Credit Agreement and
Security
153
Agreement, dated as of April 3, 2002, by and among the Company,
the Subsidiaries of the Company listed on the signature pages
thereof as Borrowers, the Subsidiaries of the Company listed on
the signature pages thereof as Subsidiary Guarantors, the Lenders
party thereto, Bank of America, N.A., as Administrative Agent for
the Lenders, and Deutsche Bank AG, New York Branch, as
Documentation Agent for the Lenders (previously filed as Exhibit
10.1(l) to Covanta's Annual Report on Form 10-K dated July 17,
2002 and incorporated herein by reference)
10.1(f) Second Amendment to Debtor in Possession Credit Agreement, dated
as of May 10, 2002, among the Company, the Subsidiaries listed on
the signature pages thereof as Borrowers, the Subsidiaries listed
on the signature pages thereof as Subsidiary Guarantors, the
Lenders listed therein, Bank of America, N.A., as Administrative
Agent, and Deutsche Bank AG, New York Branch, as Documentation
Agent (previously filed as Exhibit 10.1(a) to Covanta's Quarterly
Report on Form 10-Q dated November 13, 2002 and incorporated
herein by reference)
10.1(g) Third Amendment and Limited Waiver to Debtor in Possession Credit
Agreement, dated as of October 4, 2002, among the Company, the
Subsidiaries listed on the signature pages thereof as Borrowers,
the Subsidiaries listed on the signatures pages thereof as
Subsidiary Guarantors, the Lenders listed therein, Bank of
America, N.A., as Administrative Agent, and Deutsche Bank AG, New
York Branch as Documentation Agent (previously filed as Exhibit
10.1(b) to Covanta's Quarterly Report on Form 10-Q dated November
13, 2002 and incorporated herein by reference)
10.1(h) Fourth Amendment to the Debtor-in-Possession Credit Agreement and
Limited Consent, dated as of December 10, 2002, by and among the
Company, the Subsidiaries of the Company listed on the signature
page thereof as Borrowers, the Subsidiaries of the Company listed
on the signature page thereof as Subsidiary Guarantors, the
Lenders party thereto, Bank of America, N.A. as Administrative
Agent for the Lenders, and Deutsche Bank AG, New York Branch, as
Documentation Agent for the Lenders (previously filed as Exhibit
10.1(o) to Covanta's Annual Report on Form 10-K dated March 31,
2003 and incorporated herein by reference)
10.1(i) Fifth Amendment to the Debtor-in-Possession Credit Agreement and
Limited Consent, dated as of December 18, 2002, by and among the
Company, the Subsidiaries of the Company listed on the signature
page thereof as Borrowers, the Subsidiaries of the Company listed
on the signature page thereof as Subsidiary Guarantors, the
Lenders party thereto, Bank of America, N.A. as Administrative
Agent for the Lenders, and Deutsche Bank AG, New York Branch, as
Documentation Agent for the Lenders (previously filed as Exhibit
10.1(p) to Covanta's Annual Report on Form 10-K dated March 31,
2003 and incorporated herein by reference)
10.1(j) Sixth Amendment to the Debtor-in-Possession Credit Agreement and
Limited Consent and Amendment to Security Agreement, dated as of
March 25, 2003, by and among the Company, the Subsidiaries of the
Company listed on the signature page thereof as Borrowers, the
Subsidiaries of the Company listed on the signature page thereof
as Subsidiary Guarantors, the
154
Lenders party thereto, Bank of America, N.A. as Administrative
Agent for the Lenders, and Deutsche Bank AG, New York Branch, as
Documentation Agent for the Lenders (previously filed as Exhibit
10.1(q) to Covanta's Annual Report on Form 10-K dated March 31,
2003 and incorporated herein by reference)
10.1(k) Seventh Amendment to Debtor-in-Possession Credit Agreement and
Limited Consent, dated as of May 23, 2002, among the Company, the
Subsidiaries listed on the signature pages thereof as Borrowers,
the Subsidiaries listed on the signatures pages thereof as
Subsidiary Guarantors, the Lenders party thereto, Bank of
America, N.A., as Administrative Agent, and Deutsche Bank AG, New
York Branch as Documentation Agent (previously filed as Exhibit
10.1(t) to Covanta's Quarterly Report on Form 10-Q dated August
7, 2003 and incorporated herein by reference)
10.1(l) Eighth Amendment to the Debtor-in-Possession Credit Agreement and
Limited Consent, dated as of August 22, 2003, by and among the
Company, the Subsidiaries of the Company listed on the signature
page thereof as Subsidiary Guarantors, the Lenders party thereto,
Bank of America, N.A. as Administrative Agent for the Lenders,
and Deutsche Bank AG, New York Branch, as Documentation Agent for
the Lenders (previously filed as Exhibit 10.1 to Covanta's
Quarterly Report on Form 10-Q dated November 14, 2003 and
incorporated herein by reference)
10.1(m) Ninth Amendment to the Debtor-in-Possession Credit Agreement and
Limited Consent, dated as of September 15, 2003, by and among the
Company, the Subsidiaries of the Company listed on the signature
page thereof as Subsidiary Guarantors, the Lenders party thereto,
Bank of America, N.A. as Administrative Agent for the Lenders,
and Deutsche Bank AG, New York Branch, as Documentation Agent for
the Lenders (previously filed as Exhibit 10.2 to Covanta's
Quarterly Report on Form 10-Q dated November 14, 2003 and
incorporated herein by reference)
10.1(n) Tenth Amendment to the Debtor-in-Possession Credit Agreement
dated as of November 3, 2003 and entered into by and among the
Company, the Subsidiaries of the Company listed on the signature
page thereof as Borrowers, the Subsidiaries of the Company listed
on the signature page thereof as Subsidiary Guarantors, the
Lenders party thereto, Bank of America, N.A., as Administrative
Agent for the Lenders, and Deutsche Bank AG, New York branch, as
Documentation Agent for the Lenders.
10.1(o) Eleventh Amendment to the Debtor-in-Possession Credit Agreement
and Limited Consent dated as of December 15, 2003 and entered
into by and among the Company, the Subsidiaries of the Company
listed on the signature page thereof as Borrowers, the
Subsidiaries of the Company listed on the signature page thereof
as Subsidiary Guarantors, the Lenders party thereto, Bank of
America, N.A., as Administrative Agent for the Lenders, and
Deutsche Bank AG, New York branch, as Documentation Agent for the
Lenders.
10.1(p) First Amendment to Intercreditor Agreement, dated as of April 1,
2002, by and among the Company, the Subsidiaries of the Company
listed on the signature pages thereof as Borrowers, the
Subsidiaries of the Company listed on the signature pages thereof
as Subsidiary Guarantors, the financial
155
institutions party thereto, Bank of America, N.A., as
Administrative Agent for the Lenders, and Deutsche Bank AG, New
York Branch, as Documentation Agent for the Lenders (previously
filed as Exhibit 10.1(m) to Covanta's Annual Report on Form 10-K
dated July 17, 2002 and incorporated herein by reference)
10.1(q) Subsidiary Guaranty, entered into as of April 1, 2002, by the
Guarantors signatories thereto in favor of and for the benefit of
Bank of America, N.A., as Administrative Agent for and
representative of the Lenders from time to time party to the
Credit Agreement referred to therein (previously filed as Exhibit
10.1(n) to Covanta's Annual Report on Form 10-K dated July 17,
2002 and incorporated herein by reference)
10.1(r) Credit Agreement dated as of March 10, 2004 among Covanta Energy
Corporation, certain of its subsidiaries, certain lenders, Bank
of America, N.A., as Administrative Agent, Deutsche Bank
Securities, Inc. as Documentation Agent and Bank of America, N.A.
and Deutsche Bank Securities, Inc. as Co-Lead Arrangers
10.11(s) Credit Agreement dated as of March 10, 2004 among Covanta Energy
Corporation, certain of its subsidiaries, certain lenders and
Bank One, N.A. as Administrative Agent
10.1(t) Credit Agreement dated as of March 10, 2004 among Covanta Power
International Holdings, Inc. and certain of its subsidiaries,
certain lenders, Bank of America, N.A., as Administrative Agent,
and Deutsche Bank Securities, Inc. as Documentation Agent and
Bank of America, N.A. and Deutsche Bank Securities, Inc. as
Co-Lead Arrangers
10.11(u) Credit Agreement dated as of March 10, 2004 among Covanta Power
International Holdings, Inc. and certain of its subsidiaries and
certain lenders and Deutsche Bank AG, New York Branch as
Administrative Agent
10.1(v) Intercreditor Agreement dated as of March 10, 2004 among Covanta
Energy Corporation and certain of its subsidiaries and certain
lenders and Bank of America, N.A. as Administrative Agent, Bank
One, NA as Adminstrative Agent, Deutsche Bank Securities, Inc. as
Documentation Agent, and Danielson Holding Corporation.
10.1(w) Intercreditor Agreement dated as of March 10, 2004 among Covanta
Power International Holdings Inc. and certain of its subsidiaries
and certain affiliates and certain lenders and Covanta Energy
Americas, Inc., Bank of America, N.A. as Adminstrative Agent, and
Deutsche Bank Securities, Inc. as Documentation Agent.
Management Contracts
10.3(a) Ogden Corporation 1990 Stock Option Plan as Amended and Restated
as of January 19, 1994 (previously filed as Exhibit 10.6(b)(i) to
the Company's Quarterly Report on Form 10-Q for the quarterly
period ended September 30, 1994 and incorporated herein by
reference)
10.3(a)(i) Amendment to Ogden Corporation 1990 Stock Option Plan adopted and
effective as of September 18, 1997 (previously filed as Exhibit
10.7(a)(ii) to the Company's Annual Report on Form 10-K for the
fiscal year ended December 31, 1997 and incorporated herein by
reference)
10.3(b) Ogden Corporation 1999 Stock Incentive Plan Amended and Restated
as of January 1, 2000 (previously filed as Exhibit 10.3(b)(i) to
the Company's Annual Report on Form 10-K for the fiscal year
ended December 31, 1999 and incorporated herein by reference)
10.3(c) Ogden Energy Select Plan, dated January 1, 2000 (previously filed
as Exhibit 10.3(c) to the Company's Quarterly Report on Form 10-Q
for the quarter
156
ended September 30, 1999 and incorporated herein by reference)
10.3(d)(i) Ogden Corporation Restricted Stock Plan and Restricted Stock
Agreement (previously filed as Exhibit 10.3(e)(i) to the
Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 1999 and incorporated herein by reference)
10.3(d)(ii) Ogden Corporation Restricted Stock Plan for Non-Employee
Directors and Restricted Stock Agreement (previously filed as
Exhibit 10.3(e)(ii) to the Company's Annual Report on Form 10-K
for the fiscal year ended December 31, 1999 and incorporated
herein by reference)
10.3(d)(iii) Covanta Energy Corporation Restricted Stock Unit Plan for
Non-Employee Directors, as Amended and Restated on May 23, 2001
(previously filed as Exhibit 10.3(d)(iii) to Covanta's Annual
Report on Form 10-K dated July 17, 2002 and incorporated herein
by reference)
10.3(e) Ogden Corporation Profit Sharing Plan as Amended and Restated
effective as of January 1, 1995 (previously filed as Exhibit
10.7(p)(ii) to the Company's Annual Report on Form 10-K for the
fiscal year ended December 31, 1994 and incorporated herein by
reference)
10.3(f) Ogden Corporation Core Executive Benefit Program (previously
filed as Exhibit 10.8(q) to the Company's Form 10-K for the
fiscal year ended December 31, 1992 and incorporated herein by
reference)
10.3(g) Ogden Projects Pension Plan (previously filed as Exhibit 10.8(r)
to the Company's Form 10-K for the fiscal year ended December 31,
1992 and incorporated herein by reference)
10.3(g)(i) Covanta Energy Pension Plan, as amended and restated and
effective January 1, 2001 (previously filed as Exhibit 10.3(g)(i)
to Covanta's Annual Report on Form 10-K dated July 17, 2002 and
incorporated herein by reference)
10.3(h) Ogden Projects Profit Sharing Plan (previously filed as Exhibit
10.8(s) to the Company's Form 10-K for the fiscal year ended
December 31, 1992 and incorporated herein by reference)
10.3(h)(i) Covanta Energy Profit Sharing Plan, as amended and restated
December 18, 2001 and effective January 1, 1998 (previously filed
as Exhibit 10.3(h)(i) to Covanta's Annual Report on Form 10-K
dated July 17, 2002 and incorporated herein by reference)
10.3(i) The Supplementary Benefit Plan of Ogden Projects Inc. (previously
filed as Exhibit 10.8(t) to the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 1992 and incorporated
herein by reference)
10.3(j) Ogden Projects Core Executive Benefit Program (previously filed
as Exhibit 10.8(v) to the Company's Annual Report on Form 10-K
for the fiscal year ended December 31, 1992 and incorporated
herein by reference)
10.3(k)(i) Form of Amended Ogden Projects, Inc. Profit Sharing Plan,
effective as of January 1, 1994 (previously filed as Exhibit
10.7(w)(i) to the Company's Annual Report on Form 10-K for the
fiscal year ended December 31, 1994 and incorporated herein by
reference)
10.3(k)(ii) Form of Amended Ogden Projects, Inc. Pension Plan, effective as
of January 1, 1994 (previously filed as Exhibit 10.7(w)(ii) to
the Company's Annual Report on Form 10-K for the fiscal year
ended December 31, 1994 and
157
incorporated herein by reference)
10.3(l) Ogden Executive Performance Incentive Plan (previously filed as
Exhibit 10.3(m) to the Company's Annual Report on Form 10-K for
the fiscal year ended December 31, 1999 and incorporated herein
by reference)
10.3(m) Ogden Key Management Incentive Plan (previously filed as Exhibit
10.7(p) to the Company's Annual Report on Form 10-K for the
fiscal year ended December 31, 1997 and incorporated herein by
reference)
10.3(n) Covanta Energy Corporation Key Employee Severance Plan
(previously filed as Exhibit 10.3(n) to the Company's Annual
Report on Form 10-K for the fiscal year ended December 31, 2002
and incorporated herein by reference)
10.3(o) Covanta Energy Corporation Key Employee Retention Bonus Plan
(previously filed as Exhibit 10.3(o) to the Company's Annual
Report on Form 10-K for the fiscal year ended December 31, 2002
and incorporated herein by reference)
10.3(p) Covanta Energy Corporation Long-Term Incentive Plan (previously
filed as Exhibit 10.3(p) to the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 2002 and incorporated
herein by reference)
Employment Agreements
158
10.4(a) Employment Status and Consulting Agreement, effective November 5,
2003, by and between Covanta Energy Corporation and Scott Mackin
10.4(b) Agreement between Covanta Energy Corporation and Bruce W. Stone
dated January 8, 2004.
Agreements with Affiliates
10.5(a) Tax Sharing Agreement between Danielson Holding Corporation and
Covanta Energy Corporation dated March 8, 2004.
Subsidiaries
21. Subsidiaries of Covanta, transmitted herewith as Exhibit 21.
159
Rule 13a-14(a)/15d-14(a) Certifications
31.1 Rule 13a-14(a)/15d-14(a) Certifications - Chief Executive Officer
31.2 Rule 13a-14(a)/15d-14(a) Certifications - Principal Financial
Officer
Section 1350 Certifications
32.1 Section 1350 Certifications - Chief Executive Officer
32.2 Section 1350 Certifications - Principal Financial Officer
160
SIGNATURES [UPDATE]
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
COVANTA ENERGY CORPORATION
DATE: March 29, 2004 /s/ Anthony J. Orlando
-----------------------------------------
Anthony J. Orlando
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities indicated.
SIGNATURE TITLE DATE
- --------- ----- ----
/s/ ANTHONY J. ORLANDO
- ------------------------
ANTHONY J. ORLANDO President, Chief Executive Officer, March 29, 2004
Principal Financial Officer & Director
/s/ JAMES A. REDDINGTON
- -----------------------
JAMES A. REDDINGTON Controller March 29, 2004
/s/ PHILIP TINKLER
- -----------------------
PHILIP TINKLER Director March 29, 2004
/s/ JOSEPH P. SULLIVAN
- -----------------------
JOSEPH P. SULLIVAN Director March 29, 2004
161
REPORT OF INDEPENDENT AUDITORS
To the Management Committee of
Quezon Power, Inc.
We have audited the accompanying consolidated balance sheets of Quezon Power,
Inc. (incorporated in the Cayman Islands, British West Indies) and subsidiary as
of December 31, 2003 and 2002, and the related consolidated statements of
operations, changes in stockholders' equity and cash flows for the years then
ended. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits. The consolidated statements of operations,
changes in stockholders' equity and cash flows of Quezon Power, Inc. for the
year ended December 31, 2001 were audited by other auditors whose report dated
February 4, 2002 expressed an unqualified opinion on those statements. Those
auditors have ceased operations.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. 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, the financial statements referred to above present fairly, in
all material respects, the financial position of Quezon Power, Inc. and
subsidiary as of December 31, 2003 and 2002, and the results of their operations
and their cash flows for the years then ended in conformity with accounting
principles generally accepted in the United States.
/s/ Sycip Gorres Velayo & Co.
A Member Practice of Ernst & Young Global
Makati City, Philippines
February 14, 2004
F-1
QUEZON POWER, INC.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31
-------------------------------
2003 2002
---- ----
ASSETS
CURRENT ASSETS
Cash $ 92,034,651 $ 64,312,475
Accounts receivable - net of allowance for bad debts of
$7,908,586 in 2003 and 2002 (Note 8) 30,219,419 26,080,654
Fuel inventories 2,813,418 6,674,073
Spare parts 7,862,712 7,246,918
Due from affiliated companies (Note 6) 671,632 560,923
Prepaid expenses and other current assets 5,993,842 6,283,984
-------------- --------------
Total Current Assets 139,595,674 111,159,027
PROPERTY, PLANT AND EQUIPMENT - net (Notes 3, 6 and 8) 701,661,466 716,702,967
DEFERRED FINANCING COSTS - net (Note 5) 33,739,900 40,734,901
DEFERRED INCOME TAX (Note 4) 9,805,585 7,633,244
PREPAID INPUT VALUE-ADDED TAXES - net (Note 12) 6,025,658 3,447,669
-------------- --------------
$ 890,828,283 $ 879,677,808
============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and accrued expenses (Note 8) $ 27,866,072 $ 25,540,941
Due to affiliated companies (Note 6) 2,315,331 915,363
Current portion of (Note 5):
Long-term loans payable 38,598,480 37,595,744
Bonds payable 6,450,000 5,375,000
Income taxes payable 54,465 -
-------------- --------------
Total Current Liabilities 75,284,348 69,427,048
LONG-TERM LOANS PAYABLE - net of current portion (Note 5) 296,755,016 335,353,496
BONDS PAYABLE - net of current portion (Note 5) 196,725,000 203,175,000
ASSET RETIREMENT OBLIGATION (Note 2) 3,298,498 -
MINORITY INTEREST 6,626,965 5,523,919
STOCKHOLDERS' EQUITY (Note 7) 312,138,456 266,198,345
-------------- --------------
$ 890,828,283 $ 879,677,808
============== ==============
See accompanying Notes to Consolidated Financial Statements.
F-2
QUEZON POWER, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2003 AND 2002
(WITH COMPARATIVE FIGURES FOR 2001)
2003 2002 2001
---- ---- ----
OPERATING REVENUES (Note 8) $ 217,869,232 $ 208,132,957 $ 189,014,327
-------------- -------------- --------------
OPERATING EXPENSES
Fuel costs 36,002,310 35,800,748 31,014,067
Operations and maintenance 29,479,164 35,559,352 25,790,733
Depreciation and amortization 18,776,557 18,750,151 18,830,694
General and administrative 18,095,761 15,414,227 19,690,910
-------------- -------------- --------------
102,353,792 105,524,478 95,326,404
-------------- -------------- --------------
INCOME FROM OPERATIONS 115,515,440 102,608,479 93,687,923
-------------- -------------- --------------
OTHER INCOME (CHARGES)
Interest income 702,954 937,337 917,357
Foreign exchange gain - net 94,789 384,772 316,734
Interest expense (Note 5) (42,321,405) (45,180,633) (48,577,213)
Amortization of deferred financing costs (6,995,001) (7,705,161) (9,960,712)
Other income (charges) - net (Note 5) (281,928) 3,903,685 3,919,998
-------------- -------------- --------------
(48,800,591) (47,660,000) (53,383,836)
-------------- -------------- --------------
INCOME BEFORE INCOME TAX, MINORITY
INTEREST AND CUMULATIVE EFFECT
OF CHANGE IN ACCOUNTING PRINCIPLE 66,714,849 54,948,479 40,304,087
-------------- -------------- --------------
BENEFIT FROM (PROVISION FOR) INCOME TAX
Current (220,889) - -
Deferred 2,005,684 2,864,359 2,790,160
-------------- -------------- --------------
1,784,795 2,864,359 2,790,160
-------------- -------------- --------------
INCOME BEFORE MINORITY INTEREST
AND CUMULATIVE EFFECT OF CHANGE
IN ACCOUNTING PRINCIPLE 68,499,644 57,812,838 43,094,247
MINORITY INTEREST (1,606,129) (1,355,518) (1,010,416)
-------------- -------------- --------------
INCOME BEFORE CUMULATIVE EFFECT
OF CHANGE IN ACCOUNTING
PRINCIPLE 66,893,515 56,457,320 42,083,831
CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE - net of
benefit from income tax - deferred, branch
profits remittance tax and minority interest
amounting to $166,657, $52,060, and $7,083
respectively (Note 2) (295,004) - -
-------------- -------------- --------------
NET INCOME $ 66,598,511 $ 56,457,320 $ 42,083,831
============== ============== ==============
See accompanying Notes to Consolidated Financial Statements.
F-3
QUEZON POWER, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2003 AND 2002
(WITH COMPARATIVE FIGURES FOR 2001)
2003 2002 2001
---- ---- ----
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 66,598,511 $ 56,457,320 $ 42,083,831
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 18,776,557 18,750,151 18,830,694
Amortization of deferred financing costs 6,995,001 7,705,161 9,960,712
Minority interest 1,606,129 1,355,518 1,010,416
Cumulative effect of change in accounting
principle 295,004 - -
Accretion on asset retirement obligation 167,508 - -
Unrealized foreign exchange loss (gain) - net 88,480 (317,254) (384,480)
Deferred income taxes (2,005,684) (2,864,359) (2,790,160)
Gain on sale of property, plant and equipment (16,793) - -
Noncash gain from:
Reversal of inventory allowance - (1,130,000) -
Reversal of deferred financing cost and the
related liability - - (3,254,857)
Provisions for:
Bad debts - - 7,908,586
Inventory losses - - 1,130,000
Changes in operating assets and liabilities:
Decrease (increase) in:
Accounts receivable (4,319,426) (4,549,548) (9,745,075)
Fuel inventories 3,860,655 3,858,559 567,006
Spare parts (615,794) (836,189) (1,596,513)
Prepaid expenses and other current
assets 2,230 (281,766) (4,449,379)
Prepaid input value-added taxes (2,577,989) (2,506,902) 7,884,190
Increase (decrease) in:
Accounts payable and accrued expenses 2,716,764 13,214,673 (26,612,711)
Income taxes payable 54,465 - -
-------------- -------------- -------------
Net cash from operating activities 91,625,618 88,855,364 40,542,260
-------------- -------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sale of property, plant and equipment 16,806 - -
Additions to property, plant and equipment (1,124,883) (933,912) (3,861,421)
-------------- -------------- -------------
Net cash used in investing activities (1,108,077) (933,912) (3,861,421)
-------------- -------------- -------------
(Forward)
F-4
2003 2002 2001
---- ---- ----
CASH FLOWS FROM FINANCING ACTIVITIES
Net changes in accounts with affiliated companies $ 1,298,863 $ 1,459,967 ($ 6,545,303)
Payments of:
Term loan (35,389,726) (35,389,726) (35,389,726)
Bonds payable (5,375,000) (4,300,000) (2,150,000)
Long-term loans payable (2,206,018) (601,642) (358,278,775)
Dividends paid (20,658,400) (26,789,000) (35,069,000)
Minority interest (496,000) (660,000) (650,612)
Proceeds from term loan - - 424,676,712
Additional contributions from stockholders - - 10,469,412
Financing costs - - (41,955,095)
-------------- -------------- -------------
Net cash used in financing activities (62,826,281) (66,280,401) (44,892,387)
-------------- -------------- -------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH 30,916 71,672 (9,141)
-------------- -------------- -------------
NET INCREASE (DECREASE) IN CASH 27,722,176 21,712,723 (8,220,689)
CASH AT BEGINNING OF YEAR 64,312,475 42,599,752 50,820,441
-------------- -------------- -------------
CASH AT END OF YEAR $ 92,034,651 $ 64,312,475 $ 42,599,752
============== ============== =============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest $ 40,819,139 $ 43,585,195 $ 46,132,283
Income taxes 166,424 - 84,475
Noncash investing and financing activity:
Recognition of asset retirement
obligation 2,747,564 - -
============== ============== =============
See accompanying Notes to Consolidated Financial Statements.
F-5
QUEZON POWER, INC.
CONSOLIDATED STATEMENT OF CHANGES IN
STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2003 AND 2002
(WITH COMPARATIVE FIGURES FOR 2001)
Additional
Capital Stock Paid-in Retained
(Note 7) Capital Earnings Total
------------- ---------- -------- -----
Balance at December 31, 2000 $ 1,001 $ 197,171,854 $ 21,872,927 $ 219,045,782
Additional contribution - 10,469,412 - 10,469,412
Cash dividends - - (35,069,000) (35,069,000)
Net income for the year - - 42,083,831 42,083,831
----------- -------------- -------------- --------------
Balance at December 31, 2001 1,001 207,641,266 28,887,758 236,530,025
Cash dividends - - (26,789,000) (26,789,000)
Net income for the year - - 56,457,320 56,457,320
----------- -------------- -------------- --------------
Balance at December 31, 2002 1,001 207,641,266 58,556,078 266,198,345
Cash dividends - - (20,658,400) (20,658,400)
Net income for the year - - 66,598,511 66,598,511
----------- -------------- -------------- --------------
Balance at December 31, 2003 $ 1,001 $ 207,641,266 $ 104,496,189 $ 312,138,456
=========== ============== ============== ==============
See accompanying Notes to Consolidated Financial Statements.
F-6
QUEZON POWER, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND BUSINESS
(a) Organization
Quezon Power, Inc. (the Company; formerly Ogden Quezon Power, Inc.),
an exempted company with limited liability, was incorporated in the
Cayman Islands, British West Indies on August 4, 1995 primarily: (i)
to be a promoter, a general or limited partner, member, associate, or
manager of any general or limited partnership, joint venture, trust or
other entity, whether established in the Republic of the Philippines
or elsewhere and (ii) to engage in the business of power generation
and transmission and in any development or other activity related
thereto; provided that the Company shall only carry on the business
for which a license is required under the laws of the Cayman Islands
when so licensed under the terms of such laws. The Philippine Branch
(the Branch) was registered with the Philippine Securities and
Exchange Commission on March 15, 1996 to carry out the Company's
business in the Republic of the Philippines to the extent allowed by
law including, but not limited to, developing, designing and arranging
financing for a 447-megawatt (net) base load pulverized coal-fired
power plant and related electricity transmission line (the Project)
located in Quezon Province, Republic of the Philippines. In addition,
the Branch is responsible for the organization and is the sole general
partner of Quezon Power (Philippines), Limited Co. (the Partnership),
a limited partnership in the Philippines. The Partnership is
responsible for financing, constructing, owning and operating the
Project.
The Branch is the legal and beneficial owner of (i) the entire general
partnership interest in the Partnership representing 21% of the
economic interest in the Partnership and (ii) a limited partnership
interest representing 77% of the economic interest in the Partnership.
The remaining 2% economic interest in the Partnership is in the form
of a limited partnership interest held by PMR Limited Co. (PMRL). The
accompanying financial statements include the consolidated results of
the Company and the Partnership.
Ultimately, 100% of the aggregate capital contributions of the Company
to the Partnership were indirectly made by Quezon Generating Company,
Ltd. (QGC), a Cayman Islands limited liability company, and Covanta
Power Development - Cayman, Inc. (CPD; formerly Ogden Power
Development - Cayman, Inc.), an indirect wholly owned subsidiary of
Covanta Energy Group, Inc. (formerly Ogden Energy Group, Inc.), a
Delaware corporation. The shareholders of QGC are QGC Holdings, Ltd.
and Global Power Investment, L.P. (GPI), both Cayman Islands
companies. QGC Holdings, Ltd. is a wholly owned subsidiary of InterGen
N.V. (formerly InterGen), a joint venture between Bechtel Enterprises,
Inc. (Bechtel) and Shell Generating Limited (Shell). The ultimate
economic ownership percentages among QGC, CPD and PMRL in the
Partnership are 71.875%, 26.125% and 2%, respectively.
The equity commitment of the Company, up to $207.7 million, was made
pursuant to an equity contribution agreement and is supported by
letters of credit provided by ABN AMRO. These letters of credit were
obtained with the financial backing of InterGen N.V. and Covanta
Corporation (formerly Ogden Corporation). PMRL does not have any
equity funding obligation.
F-7
(b) Allocation of Earnings
Each item of income and loss of the Partnership for each fiscal year
(or portion thereof) shall be allocated 21% to the Company, as general
partner; 77% to the Company, as a limited partner; and 2% to PMRL, as
a limited partner.
(c) The Project
The Project is a 470-megawatt (net) base load pulverized coal-fired
electricity generation facility and related transmission line. The
Project receives substantially all of its revenue from a 25-year
take-or-pay Power Purchase Agreement (PPA) and a Transmission Line
Agreement with the Manila Electric Company (Meralco). Construction on
the Project commenced in December 1996 and the Project started
commercial operations on May 30, 2000. The total cost of the Project
was $895.4 million.
(d) Principal Business Risks
The principal risks associated with the Project include operating
risks, dependence on one customer (Meralco), environmental matters,
permits, political and economic factors and fluctuations in currency.
The risks associated with operating the Project include the breakdown
or failure of equipment or processes and the performance of the
Project below expected levels of output or efficiency due to operator
fault and/or equipment failure. Meralco is subject to regulation by
the Energy Regulatory Board of the Philippines [ERB; now known as the
Energy Regulatory Commission (ERC) created under the Electric Power
Industry Reform Act of 2001 (EPIRA); see Note 11(a)] with respect to
sales charged to consumers. In addition, pursuant to the Philippine
Constitution, the Philippine government at any time may purchase
Meralco's property upon payment of just compensation. If the
Philippine government were to purchase Meralco's property or the ERC
ordered any substantial disallowance of costs, Meralco would remain
obligated under the PPA to make the firm payments to the Partnership.
Such purchase or disallowance, however, could result in Meralco being
unable to fulfill its obligations under the PPA, which would have
material adverse effect on the ability of the Partnership to meet its
obligations under the credit facilities [see Notes 5, 8(a), 8(c) and
11(f)].
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The financial statements of the Company include the financial position and
results of operations of the Partnership and have been prepared in
accordance with accounting principles generally accepted in the United
States of America (U.S. GAAP).
F-8
Principles of Consolidation
The consolidated financial statements include the accounts of the Company
and the Partnership, a 98%-owned and controlled limited partnership. All
significant intercompany transactions have been eliminated.
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP
requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the
reported amounts of revenue and expenses during the reporting period.
Actual results could differ from those estimates.
Inventories
Fuel inventories and spare parts are valued at the lower of cost or market
value, net of provision for inventory losses. Cost is determined using the
moving average cost method.
Property, Plant and Equipment
Property, plant and equipment are carried at cost less accumulated
depreciation and amortization. Cost includes the fair value of asset
retirement obligation, capitalized interest and amortized deferred
financing costs incurred in connection with the construction of the
Project. Capitalization of interest and amortization of deferred financing
costs ceased upon completion of the Project.
Depreciation and amortization are computed using the straight-line method
over the estimated useful lives of the assets. The estimated useful lives
of the assets are as follows:
Category Number of years
-------- ---------------
Power plant 50
Transmission lines 25
Others 3 to 5
The cost of routine maintenance and repairs is charged to income as
incurred; significant renewals and betterments are capitalized. When assets
are retired or otherwise disposed of, both the cost and related accumulated
depreciation and amortization are removed from the accounts; and any
resulting gain or loss is credited or charged to current operations.
Deferred Financing Costs
Deferred financing costs represent the costs incurred to obtain project
financing and are amortized, using the effective interest rate method, over
the lives of the related loans.
F-9
Derivative Instruments and Hedging Activities
The Company adopted Statement of Financial Accounting Standards (SFAS) No.
133 (subsequently amended by SFAS No. 138 and No. 149), Accounting for
Derivative Instruments and Hedging Activities. This statement, as amended,
establishes certain accounting and reporting standards requiring all
derivative instruments to be recorded as either assets or liabilities
measured at fair value. Changes in derivative fair values are recognized
currently in earnings unless specific hedge accounting criteria are met.
Special accounting treatment for qualifying hedges allows a derivative's
gains and losses to offset related results on the hedged item in the
statement of operations, and requires the Company to formally document,
designate and assess the effectiveness of transactions that receive hedge
accounting. The Company adopted SFAS No. 133 effective January 1, 2001. The
Company periodically reviews its existing contracts to determine the
existence of any embedded derivatives. As of December 31, 2003, there are
no significant embedded derivatives that exist.
Prepaid Input Value Added-Taxes
Prepaid input value-added taxes (VAT) represent VAT imposed on the
Partnership by its suppliers for the acquisition of goods and services
required under Philippine taxation laws and regulations.
The input VAT is recognized as an asset and will be used to offset the
Partnership's current VAT liabilities [see Notes 11(a) and 12] and any
excess will be claimed as tax credits. Input taxes are stated at their
estimated net realizable values.
Revenue Recognition
Revenue is recognized when electric capacity and energy is delivered to
Meralco [see Note 8(a)]. Commencing on the Commercial Operations Date and
continuing throughout the term of the PPA, the Partnership receives payment
net of penalty obligation for each kilowatt hour (kWh) of shortfall
deliveries consisting of a Monthly Capacity Payment, Monthly Operating
Payment and Monthly Energy Payment as defined in the PPA.
Revenue from transmission lines consists of Capital Cost Recovery Payment
and the Transmission Line Monthly Operating Payment as defined in the
Transmission Line Agreement. Transmission Line Monthly Operating Payment is
recognized as revenue in the period it is intended for.
Income Taxes
The Partnership is registered with the Philippine Board of Investments as a
pioneer enterprise under a statutory scheme designed to promote investments
in certain industries (including power generation). As such, the
Partnership benefits from a six-year income tax holiday starting on January
1, 2000. Under Philippine taxation laws, a corporate tax rate of 32% is
levied against Philippine taxable income. Net operating losses, on the
other hand, can be carried forward for three immediately succeeding years.
The Partnership accounts for corporate income taxes in accordance with SFAS
No. 109, Accounting for Income Taxes, which requires an asset and liability
approach in determining income tax liabilities. The standard recognizes
deferred tax assets and liabilities for the future tax consequences
attributable to differences between the financial reporting bases of assets
and liabilities and their related tax bases. Deferred tax assets and
liabilities are measured using the tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. Deferred tax assets and deferred tax liabilities that
will reverse during the income tax holiday period are not recognized.
F-10
The Company is not subject to income taxes as a result of the Company's
being incorporated in the Cayman Islands. However, the Philippine branch
profit remittance tax of 15% will be levied against the total profit
applied or earmarked for remittance by the Branch to the Company.
Functional Currency
The functional currency of the Company and the Partnership has been
designated the U.S. dollar because borrowings under the credit facilities
are made and repaid in U.S. dollars. In addition, all major agreements are
primarily denominated in U.S. dollars or are U.S. dollar linked.
Consequently, the consolidated financial statements and transactions of the
Company and the Partnership have been recorded in U.S. dollars.
Valuation of Long-lived Assets
Effective January 1, 2002, long-lived assets are accounted for in
accordance with SFAS No. 144, Accounting for the Impairment or Disposal of
Long-lived Assets. The statement supersedes, among others, SFAS No. 121,
Accounting for the Impairment of Long-lived Assets and for Long-lived
Assets to be Disposed Of. The Partnership periodically evaluates its
long-lived assets for events or changes in circumstances that might
indicate that the carrying amount of the assets may not be recoverable. The
Partnership assesses the recoverability of the assets by determining
whether the amortization of such long-lived assets over their estimated
lives can be recovered through projected undiscounted future cash flows.
The amount of impairment, if any, is measured based on the fair value of
the assets. As of December 31, 2003, 2002 and 2001, no such impairment was
recorded in the accompanying consolidated statements of operations.
Asset Retirement Obligation
Effective January 1, 2003, the Partnership adopted SFAS No. 143, Accounting
for Asset Retirement Obligations. Previously, the Partnership had not been
recognizing amounts related to asset retirement obligations. Under the new
accounting method, the Partnership now recognizes asset retirement
obligations in the period in which they are incurred if a reasonable
estimate of a fair value can be made. In estimating fair value, the
Partnership did not use a market risk premium since a reliable estimate of
the premium is not obtainable given that the retirement activities will be
performed many years into the future and the Partnership has insufficient
information on how much a third party contractor would charge to assume the
risk that the actual costs will change in the future. The associated asset
retirement costs are capitalized as part of the carrying amount of the
Power Plant.
The cumulative effect of the change in prior years resulted in a charge to
income of $295,004 (net of benefit from income tax - deferred, branch
profits remittance tax and minority interest amounting to $166,657, $52,060
and $7,083 respectively), which is included in net income for the year
ended December 31, 2003. The effect of the accounting change on the year
ended December 31, 2003 was to decrease income before cumulative effect of
a change in accounting principle by $126,010. The pro forma effects of the
application of SFAS No. 143 as if the statement has been adopted on January
1, 2001 (rather than January 1, 2003) follow:
2003 2002 2001
---- ---- ----
Pro forma amounts assuming the
accounting change is applied
retroactively net of tax
Net income $ 66,893,515 $ 56,336,129 $ 41,967,213
F-11
On May 30, 2000, the Project started commercial operations. The Partnership
recognized the fair value of decommissioning and dismantlement cost of the
Power Plant and the corresponding liability for asset retirement in 2003.
The cost was capitalized as part of the cost basis of the Power Plant and
the Partnership depreciates it on a straight-line basis over 50 years.
The following table describes all changes to the Partnership's asset
retirement obligation liability as of December 31, 2003:
Asset retirement obligation at beginning of year $ -
Liability recognized in transition 3,130,990
Accretion expense for the year 167,508
-----------
Asset retirement obligation at end of year $ 3,298,498
===========
No payments of asset retirement obligation were made in 2003 and 2002. The
pro forma asset retirement obligation liability balances as if SFAS No. 143
had been adopted on January 1, 2001 (rather than January 1, 2003) follow:
2003 2002
---- ----
Pro forma amounts of liability for asset
retirement obligation at beginning of year $ 3,130,990 $ 2,971,989
Pro forma amounts of liability for asset
retirement obligation at end of year 3,298,498 3,130,990
3. PROPERTY, PLANT AND EQUIPMENT
2003 2002
---- ----
Power plant $ 676,929,577 $ 673,212,895
Transmission lines 86,593,717 86,593,717
Furniture and fixtures 4,035,677 3,991,923
Transportation equipment 336,602 246,143
Leasehold improvements 184,033 184,033
-------------- --------------
768,079,606 764,228,711
Less accumulated depreciation and amortization 66,418,140 47,525,744
-------------- --------------
$ 701,661,466 $ 716,702,967
============== ==============
Approximately $99.0 million of interest on borrowings and $11.8 million of
amortization of deferred financing costs have been capitalized as part of
the cost of property, plant and equipment and depreciated over the
estimated useful life of the Power Plant. No interest on borrowings and
amortization of deferred financing costs were capitalized to property,
plant and equipment in 2003 and 2002 since the Project started commercial
operations on May 30, 2000.
Total depreciation and amortization related to property, plant and
equipment charged to operations amounted to $18,776,557, $18,750,151 and
$18,830,694 in 2003, 2002 and 2001, respectively.
F-12
4. INCOME TAXES
The significant components of the Company' s deferred tax assets at
December 31, 2003 and 2002 are as follows:
2003 2002
---- ----
Noncurrent:
Deferred financing costs $ 7,376,376 $ 5,506,559
Unrealized foreign exchange losses 2,191,365 2,126,685
Asset retirement obligation 237,844 -
------------ ------------
$ 9,805,585 $ 7,633,244
============ ============
Deferred income tax provision is provided for the temporary differences of
financial reporting between Philippine GAAP and U.S. GAAP on deferred
financing costs, capitalized unrealized foreign exchange losses and
accretion and depreciation expenses related to asset retirement obligation.
Under Philippine GAAP, deferred financing costs and foreign exchange losses
were capitalized and depreciated as part of the cost of property, plant and
equipment. Under U.S. GAAP, the deferred financing costs were treated as a
deferred asset and amortized, using the effective interest rate method,
over the lives of the related loans whereas the foreign exchange losses
were charged to current operations.
Income from nonregistered operations of the Partnership is not covered by
its income tax holiday incentives. The current provision for income tax in
2003 pertains to income tax due on interest income from offshore bank
deposits and certain miscellaneous income. There was no current provision
for income tax in 2002 and 2001 because of the Partnership' s net taxable
loss position from its unregistered activities.
As of December 31, 2003, the Partnership has available net operating loss
carryover (NOLCO) amounting to $3,453,743, of which $641,951 and $2,811,792
will expire in 2004 and 2005, respectively. The carryforward benefit of
NOLCO will expire during the income tax holiday period; accordingly, the
corresponding deferred tax assets were not recognized.
There was no valuation allowance as of December 31, 2003 and 2002.
A reconciliation of the statutory income tax rate to the effective income
tax rates as a percentage of income before income taxes is as follows:
2003 2002 2001
---- ---- ----
Statutory income tax rate 32% 32% 32%
Tax effects of:
The Company's operations 5 6 6
Partnership's operations under income
tax holiday (40) (44) (53)
Others - 1 8
-- -- --
Effective tax rates (3%) (5%) (7%)
== == ==
F-13
5. DEBT FINANCING AGREEMENTS
The Partnership was financed through the collective arrangement of the
Common Agreement, Eximbank-Supported Construction Credit Facility, Trust
Agreement, Uninsured Alternative Credit Agreement, Indenture, Bank Notes,
Bank Letters of Credit, Bonds, Interest Hedge Contracts, Eximbank Political
Risk Guarantee, OPIC Political Risk Insurance Policy, Eximbank Term Loan
Agreement, Intercreditor Agreement, Side Letter Agreements, Security
Documents and Equity Documents.
The Common Agreement contains affirmative and negative covenants including,
among other items, restrictions on the sale of assets, modifications to
agreements, certain transactions with affiliates, incurrence of additional
indebtedness, capital expenditures and distributions and collateralization
of Project assets. The debt is collateralized by substantially all of the
assets of the Partnership and a pledge of the Company's and certain
affiliated companies' shares of stock. The Partnership has complied with
the provisions of the debt financing agreements, in all material respects,
or has obtained a waiver for noncompliance from the lenders [see Notes
11(d), 11(e) and 13(a)].
(a) Eximbank-Supported Construction Credit Facility
The Eximbank-Supported Construction Credit Facility provided for up to
$405 million of construction loans commitment guaranteed against
political risk by Eximbank with a term of up to 60 months. The
proceeds of the facility were used to finance a portion of the costs
of goods and services meeting certain U.S. content requirements, the
guarantee fees payable to Eximbank in respect of the Eximbank
Political Risk Guarantee and interest during construction applicable
to the eligible costs.
The Partnership paid interest on the unpaid principal amount of the
Eximbank-Supported Construction Loans (i) with respect to base rate
advances, at a rate per annum equal to the base rate plus 0.375% and
(ii) with respect to Eurodollar rate advances, at a rate equal to
LIBOR plus 1.375%.
The Eximbank-Supported Construction Credit Facility incorporates by
reference the conditions precedent, representations and warranties,
covenants, events of default and remedies set forth in the Common
Agreement. In addition, as a condition precedent to all disbursements
by the Eximbank-Supported Construction Lenders, the Partnership must
comply with the Eximbank utilization procedures.
In April 2001, the Partnership repaid the outstanding principal amount
of the Eximbank-Supported Construction Loans with the proceeds of the
Private Export Funding Corporation (PEFCO) Term Loan [see Note 5(b)].
F-14
(b) Term Loan Agreement
The debt financing agreements contemplated that the outstanding
principal amount of the Eximbank-Supported Construction Loans will be
repaid on the Eximbank Conversion Date with the proceeds of a loan
from Eximbank under the Eximbank Term Loan.
Under the Eximbank Term Loan Agreement, Eximbank was to provide for a
$442.1 million direct term loan, the proceeds of which could only be
used to refinance the outstanding Eximbank-Supported Construction
Credit Facility and to pay the Eximbank Construction Exposure Fee to
Eximbank. This term loan, which would have had interest at a fixed
rate of 7.10% per annum, would have had a 12-year term and would have
been amortized in 24 approximately equal semi-annual payments during
such term.
In April 2001, in lieu of the Eximbank Term Loan, the Partnership
availed the alternative refinancing of the Eximbank-Supported
Construction Loans allowed under the Eximbank Option Agreement through
an Export Credit Facility guaranteed by Eximbank and financed by
PEFCO. Under the terms of the agreement, PEFCO established credit in
an aggregate amount of $424.7 million which bears interest at a fixed
rate of 6.20% per annum and payable under the payment terms identical
with the Eximbank Term Loan. Upon compliance of the conditions
precedent as set forth in the Term Loan Agreement, the PEFCO Term Loan
was drawn and the proceeds were applied to the Eximbank-Supported
Construction Loans.
As a consequence of the replacement of the term loan, deferred
financing costs relating to the Eximbank Term Loan amounting to $32.8
million were charged to Other charges account in the 2001 consolidated
statement of operations whereas the related accrual amounting to $36.0
million was written-off. Amendments to the Omnibus Agreement were made
to include, among other things, PEFCO as a party to the Agreement in
the capacity of a lender.
Annual future amortization payments for the next five years ending
December 31 are as follows:
2004 $ 35,389,726
2005 35,389,726
2006 35,389,726
2007 35,389,726
2008 and thereafter 176,948,630
(c) Uninsured Alternative Credit Agreement
The Uninsured Alternative Credit Agreement provides for the
arrangement of Construction Loans, Refunding Loans and Cost Overrun
Loans (collectively, the Uninsured Alternative Credit Facility Loans)
as well as the issuance of the PPA Letter of Credit and the Coal
Supply Letter of Credit. In July 1997, the Partnership terminated
commitments in excess of $30 million in respect of the Construction
Loans in connection with the issuance of the bonds. Interest will
accrue on (i) the Construction Loans at a rate equal to LIBOR plus a
margin of 2.75% to 3.25%; (ii) the Refunding Loans at a rate equal to
LIBOR plus 2.50%; and (iii) the Cost Overrun Loans at a rate equal to
LIBOR plus a margin of 2.75% to 3.25%.
F-15
The Construction Loans will have a seven-year term and will be
amortized in 14 semi-annual payments during such term commencing on
January 15, 2001. Repayment of principal in respect of each Refunding
Loan will be made in four equal semi-annual installments. Repayment of
the Cost Overrun Loans will be made in ten equal semi-annual
installments.
There were no outstanding balances at December 31, 2003 and 2002 for
the Refunding Loans and Cost Overrun Loans. As of December 31, 2003
and 2002, approximately $16.8 million and $19.1 million, respectively,
were outstanding with respect to the Construction Loans.
Annual future amortization payments of the Construction Loans for the
next four years ending December 31 are as follows:
2004 $ 3,208,754
2005 4,612,584
2006 5,615,320
2007 3,409,304
(d) Trust and Retention Agreement
The Trust and Retention Agreement provides, among others, for (i) the
establishment, maintenance and operation of one or more U.S. dollar
and Philippine peso accounts into which power sales revenues and other
project-related cash receipts of the Partnership will be deposited and
from which all operating and maintenance disbursements, debt service
payments and equity distributions will be made; and (ii) the sharing
by the Lenders on a pari passu basis of the benefit of certain
security.
(e) Bonds Payable
Bonds payable represents the proceeds from the issuance of the $215.0
million in aggregate principal amount of the Partnership's 8.86%
Senior Secured Bonds Due 2017 (the Series 1997 Bonds). The interest
rate is 8.86% per annum and is payable quarterly on March 15, June 15,
September 15 and December 15 of each year (each, a Bond Payment Date),
with the first Bond Payment Date being September 15, 1997. The
principal amount of the Series 1997 Bonds is payable in quarterly
installments on each Bond Payment Date occurring on or after September
15, 2001 with the Final Maturity Date on June 15, 2017. The proceeds
of the Series 1997 Bonds were applied primarily by the Partnership to
the payment of a portion of the development, construction and certain
initial operating costs of the Project.
F-16
The Series 1997 Bonds are treated as senior secured obligations of the
Partnership and rank pari passu in right of payment with all other
credit facilities, as well as all other existing and future senior
indebtedness of the Partnership (other than a working capital facility
of up to $15.0 million), and senior in right of payment to all
existing and future indebtedness of the Partnership that is designated
as subordinate or junior in right of payment to the Series 1997 Bonds.
The Series 1997 Bonds are subject to redemption by the Partnership in
whole or in part, beginning five years from the date of issuance, at
par plus a make-whole premium, calculated using a discount rate equal
to the applicable U.S. Treasury rate plus 0.75%.
Annual future amortization payments for the next five years ending
December 31 are as follows:
2004 6,450,000
2005 6,450,000
2006 7,525,000
2007 10,750,000
2008 and thereafter 172,000,000
6. RELATED PARTY TRANSACTIONS
Due to the nature of the ownership structure, the majority of the
transactions were among the Company, the Partnership and the Partners,
their affiliates or related entities.
The following approximate amounts were paid to affiliates of the Partners
for the development and construction, operation and maintenance and
management of the Project under the agreements discussed in Note 8:
2003 2002 2001
---- ---- ----
Covanta $ 18,483,011 $ 20,266,893 $ 21,444,929
InterGen 1,731,011 3,216,152 3,761,995
Bechtel - - 11,213,600
In 1996, QGC, CPD and Bechtel provided services to the Company, the costs
of which were capitalized as construction-in-progress. On December 1, 1996,
the Partnership assumed virtually all assets and liabilities of the
Company, including construction-in-progress. Certain indirect controlled
subsidiaries of the ultimate owners are currently engaged by the
Partnership to provide operation and maintenance and management services to
the Project (see Note 8).
As of December 31, 2003 and 2002, the net amounts due to affiliated
companies related to costs and expenses incurred by and cash advanced to
affiliated companies pertaining to the Project were $1,643,699 and
$354,440, respectively.
F-17
7. CAPITAL STOCK
Capital stock consists of:
Number of
Shares Amount
--------- ------
Class A, $0.01 par value:
Authorized 1,000,000
Issued 26,151 $ 262
Class B, $0.01 par value:
Authorized 1,000,000
Issued 2,002 20
Class C, $0.01 par value:
Authorized 1,000,000
Issued 71,947 719
-------
$ 1,001
=======
Class A and Class C shares have an aggregate 100% beneficial economic
interest and 98% voting interest in the Company divided among the holders
of the Class A and Class C shares. Class B shares have a 2% voting interest
in the Company.
8. COMMITMENTS AND CONTINGENCIES
The Partnership has entered into separate site lease, construction, energy
sales, electric transmission, coal supply and transportation, operations
and maintenance and project management agreements.
In connection with the construction and operation of the Project, the
Partnership is obligated under the following agreements:
(a) PPA
The Partnership and Meralco are parties to the PPA, as amended on
December 1, 1996. The PPA provides for the sale of electricity from
the Project to Meralco.
The term extends 25 years from the Commercial Operations Date, defined
in the PPA as the date designated in writing by the Partnership to
Meralco as the date on which the Project has been completed,
inspected, tested and is ready to commence operations.
The PPA provides that commencing on the Commercial Operations Date,
the Partnership is required to deliver to Meralco, and Meralco is
required to take and pay for, in each year commencing on the
Commercial Operations Date and ending on each anniversary thereof
(each such year, a Contract Year), a minimum number of kWhs of net
electric output.
F-18
The PPA provides that commencing on the Commercial Operations Date and
continuing throughout the term of the PPA, Meralco will pay to the
Partnership on each calendar month a monthly payment consisting of the
following: (i) a Monthly Capacity Payment, (ii) a fixed Monthly
Operating Payment, (iii) a variable Monthly Operating Payment and (iv)
a Monthly Energy Payment. Under the PPA, Meralco is allowed to make
all of its payments to the Partnership in Philippine pesos. However,
the Monthly Capacity Payment, the Monthly Energy Payment and portions
of the Monthly Operating Payments are denominated in U.S. dollars and
the Philippine peso amounts are adjusted to reflect changes in the
foreign exchange rates.
Under the terms of the PPA, the Partnership is obligated to provide
Meralco with the PPA Letter of Credit for $6.5 million. The PPA Letter
of Credit serves as security for the performance of the Partnership's
obligation to Meralco pursuant to the PPA.
The Plant failed to meet its monthly delivery obligations to Meralco
from May 2000 through the third quarter of 2001. Under the existing
PPA, Meralco is obligated to make full Monthly Capacity Payments and
Monthly Fixed Operating Payments, notwithstanding plant availability.
However, in the event of a shortfall, the Partnership is required to
make a payment to Meralco for each kWh of shortfall that is less than
the per kWh tariff of the Monthly Capacity Payment and Monthly Fixed
Operating Payment.
In mid-2001, Meralco requested that the Partnership renegotiate
certain terms of the PPA and increase the amount of shortfall payments
made to Meralco when the Project is unable to meet certain performance
standards. Meralco was also seeking compensation for prior Project
performance shortfalls. The Partnership rejected the payment of any
compensation related to past performance. However, the Partnership
agreed to give Meralco a rebate over the next six years. Meralco
withheld payments of approximately $10.7 million during 2001 ($2.2
million of which was withheld in accordance with the terms of the PPA
as shortfall penalties). A provision had already been provided in the
December 31, 2001 financial statements for $7.9 million representing
the amount management believes is adequate to cover any possible
losses while the negotiations were ongoing.
On February 22, 2002, the Partnership and Meralco signed Amendment No.
3 to the PPA (Original Amendment) that was to become effective
following approval of the ERC and the Partnership's Lenders but with
retroactive effect. The Original Amendment primarily relates to the
reallocation of risks relating to the performance and dispatch of the
Plant. Under the amended terms of the PPA, Meralco would, in general,
bear risks relating to the dispatch of the Plant while the
Partnership, in general, would bear risks relating to the technical
performance of the Plant. To accomplish this risk reallocation, the
Original Amendment provided for, among other things, the following:
(i) Payment by the Partnership of higher shortfall penalties in the
event the Partnership fails to meet the minimum guaranteed
electrical quantity (MGEQ) due to the fault or negligence of the
Partnership;
(ii) Recovery from and payment by Meralco to the Partnership of
certain variable operating, maintenance and fuel costs incurred
by the Partnership due to the Plant being dispatched at partial
load;
F-19
(iii) Payment of rebates by the Partnership to Meralco subject to the
satisfaction of certain conditions;
(iv) Sharing with Meralco revenues earned for deliveries in excess of
the MGEQ;
(v) Payment by Meralco of U.S. dollar-denominated portions of fixed
and variable payments in U.S. dollars; and
(vi) The Partnership will be deemed to have delivered electricity
under circumstances where the Plant is declared available but is
not dispatched at the load declared as available.
In addition to the Original Amendment, on February 22, 2002, Meralco
and the Partnership signed a Settlement and Release Agreement (SRA) to
become effective at the same time as the Original Amendment. The SRA
was to cover, among others, the payment to Meralco of an amount equal
to $8.5 million in consideration of Meralco's agreement to execute
and perform the SRA. Such amount was to be offset against the payments
which have been withheld by Meralco.
As a result, the Partnership recorded the lower of the income that
would have been recognized under the existing PPA, and the Original
Amendment together with the SRA for the year ended December 31, 2002.
The net effect of the provisions of the Original Amendment and the SRA
was to decrease the revenues that would have been recognized under the
existing PPA by $3.2 million in 2002.
In 2003, Meralco indicated to the Partnership that Meralco intended to
negotiate certain "refinements" to the terms of the Original
Amendment. Meralco formally withdrew its petition for the approval of
the Original Amendment from the ERC on March 5, 2003.
The Partnership and Meralco have agreed in principle on the major
terms of the refinements to the 3rd PPA Amendment (Refined Amendment)
and continue to negotiate minor points.
The Refined Amendment provides for changes in the Original Amendment
on the following areas:
(i) Deemed generation revenue;
(ii) Excess generation;
(iii) Rebate program;
(iv) MGEQ credits against excess generation;
(v) Local business taxes;
(vi) Community development;
(vii) Variable operating payments;
(viii) Generation shortfall recovery mechanisms;
(ix) Start-up and stand-by compensation; and
(x) Effectivity date of the amendment.
F-20
The Partnership has prepared and submitted a draft of the Refined
Amendment to Meralco for Meralco's review and comments. However, the
Partnership and Meralco agreed to defer the approval of the Refined
Amendment pending the ERC's decision on the Transmission Line issue
[See Note 8(c)]. The Partnership expects to reach an agreement with
Meralco on the Refined Amendment by the first quarter of 2004. The
Partnership does not currently intend to agree to any terms in the
Refined Third Amendment that would give it retroactive effect and it
will therefore become effective on a date following approval by the
ERC and the Partnership's Lenders. The Partnership also does not
intend to become bound by the Original Amendment and will, if
necessary, exercise its rights to termination for convenience. A term
of the Refined Third Amendment is that the Original Amendment will be
formally terminated by the parties on the date that the Refined
Amendment becomes effective.
The Refined Amendment will not have a retroactive date of
effectiveness that is earlier than January 1, 2004. As a result, the
liability recognized as of December 31, 2002 amounting to about $4.7
million to recognize the lower income in accordance with the Original
Amendment was reversed during 2003.
The effectiveness of the Refined Amendment is subject to the approval
of the lenders, the Board of Directors (BOD) of the respective parties
and the ERC. In the event that these approvals are not obtained, the
Refined Amendment will not become effective. Consequently, the
existing PPA would remain effective.
(b) Engineering, Procurement and Construction Management (EPCM) Agreements
The Partnership has entered into an Engineering and Procurement
Contract, dated as of August 1, 1996 (as amended, the Engineering and
Procurement Contract) with Overseas Bechtel, Incorporated (OBI), an
affiliate of an ultimate shareholder, and a Project Management
Agreement, dated as of August 1, 1996 (as amended, the Construction
Management Agreement) with Bechtel Overseas Corporation (BOC; and
together with OBI, the EPCM Contractors), another affiliate of an
ultimate shareholder, for the design, engineering, procurement,
installation, construction, start-up, testing and warranty of the
Project. The total amount of the Project, under the EPCM Contracts, is
$447.2 million, subject to certain adjustments. In general, under the
Engineering and Procurement Contract, OBI is primarily responsible for
the engineering, equipment procurement and performance guarantees for
the Project and under the Construction Management Agreement, BOC is
primarily responsible for, among others, the direct management of
construction and testing of the Project.
The Partnership, Bechtel Power Corporation (BPC), BOC and OBI have
also entered into the EPCM Contract Guarantee Agreement and Amendment,
dated as of August 1, 1996 (the EPCM Contract Guarantee and Amendment,
and together with the Engineering and Procurement Contract and the
Construction Management Agreement, the EPCM Contracts), in order to,
among other things, facilitate, coordinate and administer the
Engineering and Procurement Contract and the Construction Management
Agreement. In addition, under the EPCM Contract Guarantee and
Amendment, BPC has guaranteed the payment and performance of all
obligations and liabilities of the EPCM Contractors under the EPCM
Contracts.
F-21
(c) Transmission Line Agreement
Pursuant to the PPA and the Transmission Line Agreement dated as of
June 13, 1996 (as amended on December 1, 1996; the Transmission Line
Agreement) between the Partnership and Meralco, the Partnership
accepted responsibility for obtaining all necessary rights-of-way for,
and the siting, design, construction, operation and maintenance of,
the Transmission Line. The construction of the Transmission Line was
part of the EPCM Contractor's scope of work under the EPCM Contracts.
Meralco is obligated to pay all costs and expenses incurred by the
Partnership in connection with the siting, design, construction,
operation and maintenance of the Transmission Line (including
unforeseen cost increases, such as those due to new regulations or
taxes) through the payment of periodic transmission charges.
The term of the Transmission Line Agreement will extend for the
duration of the term of the PPA, commencing on the date of execution
of the Transmission Line Agreement and expiring on the 25th
anniversary of the Commercial Operations Date. The term of the
Transmission Line Agreement is subject to renewal on mutually
acceptable terms in conjunction with the renewal of the term of the
PPA. Under the Transmission Line Agreement, Meralco is obligated to
make a Monthly Capital Cost Recovery Payment (CCRP) and a Monthly
Operating Payment to the Partnership.
In its decision dated March 20, 2003, the ERC disallowed Meralco from
collecting from its consumers a portion of the Partnership's CCRP
amounting to about $646,000 per month pending the ERC's thorough
review of these charges. Consequently, at Meralco's request, the
Partnership agreed to defer the collection of this portion until ERC
resolves the issue or until the Partnership notifies Meralco
otherwise. As of December 31, 2003, the portion of CCRP deferred for
collection amounted to $5.8 million.
As of February 14, 2004, ERC has not reached a decision on this issue.
The Partnership believes that any amount being deferred collection
will be fully recoverable. Accordingly, the Partnership has made no
provision for these deferred amounts.
(d) Coal Supply Agreements
In order to ensure that there is an adequate supply of coal to operate
the Generation Facility, the Partnership has entered into two coal
supply agreements (CSA) with the intent to purchase approximately 67%
of its coal requirements from PT Adaro Indonesia (Adaro) and the
remainder of its coal requirements from PT Kaltim Prima Coal (Kaltim
Prima, and together with Adaro, the Coal Suppliers). The agreement
with Adaro (the Adaro CSA) will continue to be in effect until October
1, 2022. If the term of the Coal Cooperation Agreement between Adaro
and the Ministry of Mines and Energy of the Government of the Republic
of Indonesia is extended beyond October 1, 2022, the Partnership may
elect to extend the Adaro CSA until the earlier of the expiration of
the PPA or the expiration of the extended Coal Cooperation Agreement,
subject to certain conditions. The agreement with Kaltim Prima (the
Kaltim Prima CSA) has a scheduled termination date 15 years after the
Commercial Operations Date. The Partnership may renew the Kaltim Prima
CSA for two additional five-year periods by giving not less than one
year prior written notice. The second renewal period will be subject
to the parties agreeing to the total base price to be applied during
that period.
F-22
Under the Coal Supply Agreements, the Partnership is subject to
minimum take obligations of 900,000 Metric Tonnes (MT) for Adaro and
360,000 MT for Kaltim Prima. The Partnership was not able to meet the
minimum take obligations for Kaltim Prima by 80,000MT in 2002 and for
Adaro by 335,000MT and 267,000MT in 2003 and 2002, respectively.
However, the Partnership was able to secure waivers from both Kaltim
Prima and Adaro for these shortfalls.
In 2003, the Partnership and its coal suppliers started discussions on
the use of an alternative to the Australian-Japanese benchmark price,
which is the basis for adjusting the energy-base price under the
Partnership's CSA. The Partnership and Adaro agreed in principle to
use the six-month rolling average of the ACR Asia Index with a certain
discount applied retroactively to April 1, 2003.
The Partnership has started a similar discussion with Kaltim Prima. As
of February 14, 2004, discussions with Kaltim Prima are still ongoing.
(e) Operations and Maintenance Agreement
The Partnership and Covanta Philippines Operating, Inc. (the Operator;
formerly Ogden Philippines Operating, Inc.), a Cayman Islands
corporation and a wholly owned subsidiary of Covanta Projects, Inc.
(CPI; formerly Ogden Projects, Inc.), a subsidiary of Covanta Energy
Group, Inc. (formerly Ogden Energy Group, Inc.), have entered into the
Plant Operation and Maintenance Agreement dated December 1, 1995 (as
amended, the O&M Agreement) under which the Operator has assumed
responsibility for the operation and maintenance of the Project
pursuant to a cost-reimbursable contract. The obligations of the
Operator are guaranteed by CPI pursuant to an O&M Agreement Guarantee.
The initial term of the O&M Agreement extends 25 years from the
Commercial Operations Date. Two automatic renewals for successive five
year periods are available to the Operator, provided that (i) the PPA
has been extended; (ii) no default by the Operator exists; and (iii)
the O&M Agreement has not been previously terminated by either party.
The Partnership is obligated to compensate the Operator for services
under the O&M Agreement, to reimburse the Operator for all
reimbursable costs one month in advance of the incurrence of such
costs and to pay the Operator a base fee and certain bonuses. In
certain circumstances, the Operator could be required to pay
liquidated damages depending on the operating performance of the
Project, subject to contractual limitations. Beginning on Provisional
Acceptance, as defined, the Partnership is obligated to pay the
Operator a monthly fee of $160,000, subject to escalation.
Under the O&M Agreement, the Operator may earn a bonus as a result of:
(i) higher than expected net electrical output (NEO) generated during
the year, (ii) the Operator's contributions to the community, and
(iii) reductions in operating costs below budget. The target NEO is
defined as the lesser of (a) MGEQ and (b) the average NEO achieved
over the immediately preceding two contract years and adjusted to
consider significant non-recurring events and significant maintenance
activities undertaken other than the annual major maintenance.
F-23
A claim for bonuses was submitted by the operator amounting to $4.1
million for the Third Contract Year as defined under the O&M
Agreement. However, the Partnership's management is not fully in
agreement with the interpretations of the Operator in defining "target
NEO" used in the calculation of their claim due to the existence of
significant nonrecurring events in prior years. As a result, no
provisions have been recorded in the Partnership's books for the O&M
bonuses.
Deficiencies were also noted by management in certain internal control
processes of the Operator that could expose the Project to potential
losses. To mitigate the exposure, Operator's fees amounting to $1.3
million had been withheld by the Partnership as of December 31, 2003
to compensate for the potential losses that could have occurred from
these issues.
In 2003, other operational issues were likewise noted in an operations
and maintenance audit commissioned by Eximbank. Eximbank asked that
these issues be addressed and that certain adjustments be made to the
Shareholders Agreement and O&M Agreement. Failure of the Project to
address any of these items could have caused a declaration of default
by Eximbank. The Partnership and its shareholders have taken proactive
steps to address the issues raised by Eximbank and as a result,
remedial efforts to address these issues have been applied and are
currently being applied by the Operator. The most recent audit by the
Bank engineers, R.W. Beck, has indicated that most of the operating
issues have been resolved.
The BOD likewise agreed in an Omnibus Settlement Agreement to take
into consideration the issues noted by Eximbank and to settle the
claims mentioned above. Discussions among the BOD are concluding and
the final terms of the Omnibus Settlement Agreement have essentially
been agreed. As of February 14, 2004, the Partnership, in an agreement
in principle that has been reached, has agreed that the $1.3 million
in withheld fees will be paid and that a payment in lieu of a bonus,
negotiated to $1.8 million, is expected to be paid out upon signing of
the Terms of Reference of the Omnibus Agreement.
(f) Management Services Agreement
The Partnership has entered into the Project Management Services
Agreement, dated as of September 20, 1996 (as amended, the Management
Services Agreement), with InterGen Management Services (Philippines),
Ltd. (as assignee of International Generating Company, Inc.), an
affiliate of InterGen N.V., (the General Manager), pursuant to which,
the General Manager is providing management services for the Project.
Pursuant to the Management Services Agreement, the General Manager,
acting on behalf of the Partnership, is responsible for the day-to-day
management of the Project. The initial term of the Management Services
Agreement extends for a period ending 25 years after the Commercial
Operations Date, unless terminated earlier, with provisions for
extension upon mutually acceptable terms and conditions. The
obligations of the General Manager are guaranteed by InterGen N.V.
pursuant to a Project Management Services Agreement Guarantee dated as
of December 10, 1996 (the Management Services Agreement Guarantee).
The Partnership is obligated to pay the General Manager an annual fee
equal to $400,000 subject to escalation after the first year relative
to an agreed-upon index payable in 12 equal monthly installments.
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(g) Project Site Lease and Foreshore Agreements
Due to Philippine legal requirements that limit the ownership
interests in real properties and foreshore piers and utilities to
Philippine nationals and in order to facilitate the exercise by
Meralco of its power of condemnation should it be obligated to
exercise such powers on the Partnership's behalf, Meralco owns the
Project Site and leases the Project Site to the Partnership. Meralco
has also agreed in the Foreshore Lease Agreement dated January 1,
1997, as amended, to lease from the Philippine government the
foreshore property on which the Project piers were constructed, to
apply for and maintain in effect the permits necessary for the
construction and operation of the Project piers and to accept
ownership of the piers.
The Company has obtained rights-of-way for the Transmission line for a
majority of the sites necessary to build, operate and maintain the
Transmission line.
Meralco has agreed, pursuant to a letter agreement dated December 19,
1996, that notwithstanding the provisions of the Transmission Line
Agreement which anticipate that Meralco would be the lessor of the
entire Transmission Line Site, Meralco will only be the Transmission
Line Site Lessor with respect to rights-of-way acquired through the
exercise of its condemnation powers.
The Company, as lessor, and the Partnership, as lessee, have entered
into the Transmission Line Site Leases, dated as of December 20, 1996,
with respect to real property required for the construction, operation
and maintenance of the Transmission line other than rights-of-way to
be acquired through the exercise of Meralco's condemnation powers.
The initial term of each of the Project Site Leases and each of the
Transmission Line Site Leases (collectively, the Site Leases) extends
for the duration of the PPA, commencing on the date of execution of
such Site Lease and expiring 25 years following the Commercial
Operations Date. The Partnership has the right to extend the term of
any Site Lease for consecutive periods of five years each, provided
that the extended term of such Site Lease may not exceed 50 years in
the aggregate.
(h) Community Memorandum of Agreement
The Partnership has entered into a Community Memorandum of Agreement
(MOA) with the Province of Quezon, the Municipality of Mauban, the
Barangay of Cagsiay and the Department of Environmental and Natural
Resources (DENR) of the Philippines. Under the MOA, the Partnership is
obligated to consult with local officials and residents of the
Municipality and Barangay and other affected parties about Project
related matters and to provide for relocation and compensation of
affected families, employment and community assistance funds. The
funds include an electrification fund, development and livelihood fund
and reforestation, watershed, management health and/or environmental
enhancement fund. Total estimated amount to be contributed by the
Partnership over the 25-year life is approximately $16 million. In
accordance with the MOA, a certain portion of this amount will be in
the form of advance financial assistance to be given during the
construction period.
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In addition, the Partnership is obligated to design, construct,
maintain and decommission the Project in accordance with existing
rules and regulations. The Partnership will make contributions in the
amount of approximately $130,000 to an Environmental Guarantee Fund
for rehabilitation of areas affected by damage in the environment,
monitoring compensation for parties affected and education activities.
9. FAIR VALUE OF FINANCIAL INSTRUMENTS
The required disclosures under SFAS No. 107, Disclosure about Fair Value of
Financial Instruments, follow:
The financial instruments recorded in the consolidated balance sheets
include cash, accounts receivable, accounts payable and accrued expenses,
due from (to) affiliated companies and debt. Because of their short
maturity, the carrying amounts of cash, accounts receivable and accounts
payable and accrued expenses approximate fair value. It is not practical to
determine the fair value of the amounts due from (to) affiliated companies.
Long-term debt - Fair value was based on the following:
Debt Type Fair Value Assumptions
--------- ----------------------
Term loan Estimated fair value is based on the discounted
value of future cash flows using the applicable
risk free rates for similar types of loans plus a
certain margin.
Bonds payable Estimated fair value is based on the discounted
value of future cash flows using the latest
available yield percentage of the Partnership's
bonds prior to balance sheet dates.
Other variable rate loans The carrying value approximates fair value because
of recent and frequent repricing based on market
conditions.
Following is a summary of the estimated fair value (in millions) as of
December 31, 2003 and 2002 of the Partnership's financial instruments other
than those whose carrying amounts approximate their fair values:
2003 2002
---- ----
Term loan - $318.5 million in 2003 and
$353.9 million in 2002 $ 274.8 $ 291.1
Bonds payable - $203.2 million in 2003 and
$208.6 million in 2002 170.2 172.5
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10. NEW ACCOUNTING PRONOUNCEMENTS
(a) In June 2001, the American Institute of Certified Public Accountants
released an exposure draft on the proposed Statement of Position (SOP)
entitled, Accounting for Certain Costs and Activities Related to
Property, Plant and Equipment, which discussed, among others,
component accounting for property, plant and equipment. Under the SOP,
a component with an expected useful life that differs from the
expected useful life of the property, plant and equipment asset to
which it relates should be accounted for separately and depreciated or
amortized over its separate expected useful life. The Accounting
Standards Executive Committee has continued deliberation of certain
aspects of the SOP and expects to have a final draft of the SOP in the
second quarter of 2004. The Partnership's practice is to depreciate
its entire Power Plant over 50 years. The Partnership believes the
adoption of the proposed SOP would increase depreciation expense, and
thereby decrease operating income, by approximately $1.5 million per
annum.
(b) In January 2003 the Financial Accounting Standards Board (FASB) issued
FASB Interpretation No. 46, Consolidation of Variable Interest
Entities. The interpretation defines variable interest entities as
those in which equity investment at risk is not sufficient to permit
the entity to finance its activities without additional subordinated
financial support from other parties, or entities in which equity
investors lack certain essential characteristics of a controlling
financial interest. The primary beneficiary of a variable interest
entity is the party that absorbs a majority of the entity's expected
losses, receives a majority of its expected residual returns, or both,
as a result of holding variable interests, which are the ownership,
contractual, or other pecuniary interests in an entity. The primary
beneficiary is required to consolidate the financial position and
results of operations of the variable interest entity. In December
2003, the FASB, issued revisions to FASB Interpretation No. 46,
resulting in multiple effective dates based on the characteristics as
well as the creation dates of the variable interest entities, however
with no effective date later than the Company's first quarter of 2004.
The Company does not believe that adoption of this statement will have
a material effect on its consolidated financial statements.
11. OTHER MATTERS
(a) EPIRA
Republic Act No. 9136, the EPIRA was signed into law on June 8, 2001
and became effective on June 26, 2001. The covering Implementing Rules
and Regulations (IRR) were promulgated by the Joint Congressional
Power Commission (JCPC) on February 27, 2002 and became effective on
March 22, 2002. The EPIRA provides for significant changes in the
power sector, such as:
(i) The unbundling of the generation, transmission, distribution and
supply and other disposable assets of the Partnership, including
its contracts with independent power producers (IPP) and
electricity rates;
(ii) Creation of the ERC to regulate the electric power industry;
(iii) Creation of Power Sector Assets and Liabilities Management
Corporation (PSALM) to take over the ownership of assets and
liabilities of the National Power Corporation (NPC) and to
manage the optimal and orderly sale, disposal/settlement and
privatization of these assets and liabilities;
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(iv) Creation of the National Transmission Corporation (TRANSCO)
where NPC's transmission and sub-transmission assets have been
transferred, including the nationwide franchise to operate the
transmission and grid system;
(v) Creation of a Wholesale Electricity Spot Market (WESM) within
one year;
(vi) Open and non-discriminatory access to transmission and
distribution systems;
(vii) Mandated rate reduction;
(viii) Lifeline rate for marginalized end-users; and
(ix) Reorganization of the Department of Energy (DOE) to ensure the
continuity of policy reforms required for the industry and
additional mandates for the National Electrification
Administration (NEA) under the EPIRA.
The law also requires public listing of not less than 15% of common
shares of generation and distribution companies within 5 years from
the effectivity of the EPIRA. It provides cross ownership restrictions
between transmission and generation companies and between transmission
and distribution companies, and a cap of 50% of its demand that a
distribution utility is allowed to source from an associated company
engaged in generation except for contracts entered into prior to the
effectivity of the EPIRA.
The electricity rates will have regulated elements for transmission
and distribution, and competitive components for the generation and
retail, and for ancillary or support services. Accordingly on June 26,
2002, the ERC issued its decision in setting the unbundled NPC
generation rates and the transmission rates of the TRANSCO. The
unbundling of rates is intended to make these components of
electricity rates more transparent and understandable to electricity
consumers.
The Philippine Grid Code and Distribution Code were promulgated in
December 2001 to provide the basic rules, procedures and standards
that govern the operation, maintenance and development of the
high-voltage backbone Transmission System and Distribution System,
respectively. These codes are to be used with the Market Rules of the
WESM to ensure the safe, reliable and efficient operation of the grid.
The WESM rules were promulgated on June 28, 2002. The rules will
govern the operation of the electricity market to ensure sustainable
and economical electricity supply. The Philippine Electricity Market
Corporation was incorporated in November 2003 with equitable
representation from electric power industry participants and will
undertake the preparatory work and initial operation of the WESM. It
will eventually act as the WESM governing body. In December 2003, the
financing of the WESM was approved by a foreign bank. TRANSCO expects
to put in place the Market Management System Software and Hardware
that will operationalize the trading of electricity as envisioned by
the EPIRA with trial operation targeted to commence by the middle of
2004.
There are also certain sections of the EPIRA, specifically relating to
generation companies, which provide for:
(i) A cap on the concentration of ownership to only 30% of the
installed capacity of the grid and/or 25% of the national
installed generating capacity;
(ii) VAT zero-rating of sale of generated power; and
(iii) Review of IPP contracts with NPC by a designated Inter-Agency
Committee for any provision onerous or disadvantageous to the
Philippine Government.
F-28
The privatization of IPP contracts shall be assumed from NPC by the
newly created PSALM, taking into consideration buy out provisions,
Philippine Government performance undertakings and, with the consent
of both contracting parties, possible bilateral renegotiations. These
are intended to assure NPC's compliance with its long-term financial
commitments to the IPPs under its various project agreements. The
review of the IPP contracts with NPC was completed on July 3, 2002 and
has been submitted to PSALM for appropriate action. PSALM has
renegotiated most of these IPP contracts, with a few remaining
contracts in the final stages of renegotiation.
The privatization of the transmission assets shall be realized by an
award of a concession contract through international competitive
bidding. The JCPC endorsed the privatization of TRANSCO on March 13,
2002 for presidential approval. Bidding was conducted in July and
August 2003 with only one party submitting a letter of interest to
TRANSCO due to the need to legislate the transfer of the transmission
franchise to the concessionaire. Todate, the Senate has not passed the
bill on the transmission franchise. Although the original intention
was to identify a concessionaire for the transmission assets before
the sale of the generating assets, PSALM is now pursuing the
privatization of generation assets due to difficulties encountered in
the privatization process of the transmission assets. TRANSCO has also
started to initiate the sale of sub-transmission assets beginning
2004.
Based on the assessment of the Partnership, it has complied, or is in
the process of complying, with the applicable provisions of the EPIRA
and its IRR.
(b) Clean Air Act
On November 25, 2000, the IRR of the Clean Air Act took effect. The
IRR contain provisions that have an impact on the industry as a whole,
and on the Project in particular, that need to be complied with within
44 months from the effectivity date or by July 2004, subject to
approval by the DENR. Based on the initial assessment made on the
Project's existing facilities, the Partnership believes it complies
with the provisions of this IRR of the Clean Air Act.
(c) Claims and Litigation
The Partnership had a dispute with the Province of Mauban regarding
the start of the commercial operations, the correct valuation of the
fair market value of the Plant and the amount of property tax it owed
for years 2000 and 2001. Management and the Partnership's legal and
tax counsels believe that the assessment had no legal basis.
Consequently, the Partnership had initiated legal action against the
relevant provincial and municipal government departments and officers
challenging the validity of the assessment, and had elevated the
dispute to the Department of Finance (DOF) and the Regional Trial
Court (RTC) for resolution.
The DOF, which agreed to arbitrate the dispute between the Partnership
and the Province of Quezon, issued two resolutions that are favorable
to the Partnership in all material respects. However, the RTC
examining the suit for consignation filed by the Partnership against
the provincial government related to the real property tax dispute
dismissed the suit citing the trial court's alleged lack of
jurisdiction over the issue.
F-29
The Partnership's real property tax payments for the third and fourth
quarters of 2002 were accepted by the Provincial Government of Quezon.
However, prior to the third quarter of 2002, the Partnership had been
paying real property taxes it believed to be the correct tax by way of
consignation with a local court. With the RTC's dismissal of the suit
for consignation, the RTC ordered the consigned payments to be
remitted to the Provincial Government.
During 2003, the Provincial Government eventually accepted the
consigned payment, and the Partnership received the revised Tax
Declaration and Notice of Assessment from the Provincial Assessor and
Municipal Treasurer, which are consistent with the DOF's resolution
and did not include surcharge or interest on late payments. In
accordance with the revised assessment, the Partnership paid the
Provincial Government of Quezon an additional $0.5 million (P26.0
million) in taxes in 2003.
(d) Insurance Coverage
The Partnership has been unable to obtain insurance coverage in
amounts required by the lenders in the financing agreements. The
Partnership is taking the necessary steps to obtain a waiver from the
lenders for insurance coverage shortfalls for 2003 [see Note 13(a)].
(e) Technical Default Under the Existing PPA
Section 5.1(d) of the Common Agreement provides for, among others, the
prompt billing and collection from Meralco for energy sold and
services rendered by the Project pursuant to the PPA and the
Transmission Line Agreement. In this regard, the Partnership was in
technical default under the financing documents as a result of the
withholding by Meralco of its payment obligations under the PPA
amounting to $8.5 million. In the light of the delay of the ERC's
approval on the Amendment [See Note 8(a)], the Partnership sought a
waiver from its lenders to permit the Partnership to waive, on an
interim basis, the timely payment by Meralco of the withheld amount
pursuant to the terms of the Common Agreement. The waiver was granted
by the lenders and the Partnership issued an interim waiver to Meralco
in November 2002. The waiver is in effect until the amendment to the
PPA becomes effective.
(f) Impact of the Decision of the Supreme Court (SC) of the Philippines
On November 15, 2002, the Third Division of the SC rendered a decision
ordering Meralco, the largest power distribution company in the
country, to refund to its customers $0.003/kWh (P0.167/kWh) starting
with Meralco's billing cycles beginning February 1994 or
correspondingly credit this in their favor for future consumption. The
SC sustained the then ERB's disallowance of income tax as an
operating expense, which results in Meralco's rate of return
exceeding 12%, the maximum allowed.
F-30
On December 5, 2002, Meralco filed a Motion for Reconsideration with
the SC. The motion is based mainly on the following grounds: (i) the
disallowance of income tax is contrary to jurisprudence; (ii) the
decision modifies SC decisions recognizing 12% as the reasonable
return a utility is entitled to (if income tax is disallowed for rate
making, the return is reduced to about 8%); and (iii) even the
successor of the then ERB, the ERC, adheres to the principle that
income tax is part of operating expenses as set forth in the Uniform
Rate Filing Requirements, which embody the detailed guidelines to be
followed with respect to the rate unbundling applications of
distribution companies.
On January 27, 2003, Meralco filed with the SC a motion seeking the
referral of the case to the SC en banc. The motion was denied by the
SC in a resolution which Meralco received on March 17, 2003. On April
1, 2003, Meralco filed a Motion for Reconsideration of this
resolution.
On April 9, 2003, the SC denied with finality the Motion for
Reconsideration filed by Meralco with the SC ordering Meralco to
refund to its consumers the excess charges in electricity billings
from 1994 to 1998 amounting to about $542.7 million (P30 billion).
Meralco is completing the first two phases of its refund scheme
totaling to about $121.7 million (P6.6 billion). The ERC approved on
November 19, 2003 the third phase of the Meralco refund scheme
totaling to about $88.2 million (P4.9 billion) to be finished within
six months starting January 2004. If Meralco is unable to generate
resources to satisfy its refund obligations, it may not meet its
obligations under the PPA [See Note 1 (d)].
12. RECLASSIFICATIONS
As mentioned in Note 11(a), the sale of generated power is subject to
zero-rated VAT under the EPIRA. As a result, the Partnership has no VAT
liabilities arising from the sale of generated power to offset against
prepaid input VAT. The balance of the prepaid input VAT will be converted
to tax credits through a tax refund process which management estimates to
be greater than one year. Accordingly, prepaid input VAT for 2003 was
reclassified as noncurrent since management estimates that the tax credits
will not be realized within one year of the balance sheet date. The prepaid
input VAT for 2002 has been reclassified as noncurrent to conform with the
2003 presentation.
13. SUBSEQUENT EVENTS
(a) In February 12, 2004, the lenders issued a temporary waiver effective
up to March 1, 2004. Management is continuing its efforts to obtain an
extension of the temporary waiver and obtain the required insurance
coverage for the succeeding period beginning November 2004. In the
event that additional insurance coverage is not available, the
Partnership will take the necessary steps to obtain a new waiver that
reflects insurance coverage shortfalls at that time. The Partnership
has successfully obtained insurance waivers many times in the past and
does not reasonably expect that the level of insurance coverage
currently maintained will trigger materially adverse actions by the
Partnership's Lenders.
(b) On February 13, 2004, the Company distributed dividends amounting to
$24.0 million.
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[ANDERSEN LOGO]
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Management Committee of
Quezon Power (Philippines), Limited Co.:
We have audited the accompanying balance sheets of Quezon Power (Philippines),
Limited Co. (a Philippine limited partnership) as of December 31, 2001 and 2000,
and the related statements of operations, partners' capital and cash flows for
the years then ended. These financial statements are the responsibility of the
Partnership's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. 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.
As discussed in Note 1 to the financial statements, construction on the Project
commenced in December 1996 and the Project started commercial operations on May
30, 2000.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Quezon Power (Philippines),
Limited Co. as of December 31, 2001 and 2000, and the results of its operations
and its cash flows for the years then ended in conformity with accounting
principles generally accepted in the United States.
/s/ Arthur Andersen LLP
Boston, Massachusetts
February 4, 2002 (except for the matters
discussed in Note 10, as to which the
date is February 22, 2002)
Readers of these consolidated financial statements should be aware that this
report is a copy of a previously issued Arthur Andersen LLP and that this report
has not been reissued by Arthur Andersen LLP. Furthermore, this report has not
been updated since February 22, 2002.
F-32