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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
( X ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2004
-- OR --
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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Commission File Number 1-11668
TXU US Holdings Company
Texas 75-1837355
(State of Incorporation) (I.R.S. Employer Identification No.)
1601 Bryan Street, Dallas TX, 75201-3411 (214) 812-4600
(Address of Principal Executive Offices) (Registrant's Telephone Number)
(Zip 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 whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes No X
--- ----
Common Stock outstanding at May 12, 2004: 2,062,768 Class A shares, without
par value and 39,192,594 Class B shares, without par value.
TABLE OF CONTENTS
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PAGE
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Glossary .......................................................................................... ii
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Statements of Consolidated Income and Comprehensive Income-
Three Months Ended March 31, 2004 and 2003................................... 1
Condensed Statements of Consolidated Cash Flows -
Three Months Ended March 31, 2004 and 2003................................... 2
Condensed Consolidated Balance Sheets -
March 31, 2004 and December 31, 2003......................................... 3
Notes to Condensed Financial Statements...................................... 4
Independent Accountants' Report.............................................. 20
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................................... 21
Item 3. Quantitative and Qualitative Disclosures About Market Risk................... 47
Item 4. Controls and Procedures...................................................... 49
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K ............................................ 50
SIGNATURE.......................................................................................... 51
Periodic reports on Form 10-K and Form 10-Q and current reports on Form 8-K that
contain financial information of TXU US Holdings Company and its subsidiaries
are made available to the public, free of charge, on the TXU Corp. website at
http://www.txucorp.com, shortly after they have been filed with the Securities
and Exchange Commission. TXU US Holdings Company will provide copies of current
reports not posted on the website upon request.
i
GLOSSARY
When the following terms and abbreviations appear in the text of this report, they have the meanings indicated below.
1999 Restructuring Legislation................. Legislation that restructured the electric utility industry
in Texas to provide for competition
2003 Form 10-K................................. US Holdings' Annual Report on Form 10-K for the year ended
December 31, 2003
Bcf............................................ billion cubic feet
Commission..................................... Public Utility Commission of Texas
EITF........................................... Emerging Issues Task Force
EITF 02-3 ..................................... EITF Issue No. 02-3, "Issues Involved in Accounting for
Derivative Contracts Held for Trading Purposes and Contracts
Involved in Energy Trading and Risk Management Activities"
EITF 98-10 .................................... EITF Issue No. 98-10, "Accounting for Contracts Involved in
Energy Trading and Risk Management Activities"
ERCOT.......................................... Electric Reliability Council of Texas, the Independent
System Operator and the regional reliability coordinator
of various electricity systems within Texas
FASB........................................... Financial Accounting Standards Board, the designated
organization in the private sector for establishing
standards for financial accounting and reporting
FERC........................................... Federal Energy Regulatory Commission
FIN............................................ Financial Accounting Standards Board Interpretation
FIN 46......................................... FIN No. 46, "Consolidation of Variable Interest Entities -
An Interpretation of ARB No. 51"
FIN 46R........................................ FIN No. 46 (Revised 2003), "Consolidation of Variable
Interest Entities - An Interpretation of ARB 51"
Fitch.......................................... Fitch Ratings, Ltd.
GWh............................................ Gigawatt-hours
historical service territory................... US Holdings' historical service territory, largely in north
Texas, at the time of entering competition on January 1, 2002
Moody's........................................ Moody's Investors Services, Inc.
MW............................................. megawatts
NRC............................................ United States Nuclear Regulatory Commission
Oncor.......................................... refers to Oncor Electric Delivery Company, a subsidiary of
US Holdings, or Oncor and its consolidated bankruptcy remote
financing subsidiary, TXU Electric Delivery Transition
Bond Company LLC (formerly Oncor Electric Delivery Transition
Bond Company LLC), depending on context
price-to-beat rate............................. residential and small business customer electricity rates
established by the Commission in the restructuring of the
Texas market that are required to be charged in a REP's
historical service territories until January 1, 2005 or when
40% of the electricity consumed by such customer classes is
supplied by competing REPs, adjusted periodically for
changes in fuel costs, and required to be available to those
customers until January 1, 2007
ii
REP............................................ retail electric provider
S&P............................................ Standard & Poor's, a division of The McGraw Hill Companies
Sarbanes-Oxley................................. Sarbanes - Oxley Act of 2002
SEC............................................ United States Securities and Exchange Commission
SFAS........................................... Statement of Financial Accounting Standards issued by the
FASB
SFAS 133....................................... SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities"
SFAS 140....................................... SFAS No. 140, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities, a
replacement of FASB Statement 125"
SFAS 143....................................... SFAS No. 143, "Accounting for Asset Retirement Obligations"
SFAS 150....................................... SFAS No. 150, "Accounting for Certain Financial Instruments
with Characteristics of Both Liabilities and Equity"
SG&A........................................... selling, general and administrative
TXU Business Services.......................... TXU Business Services Company, a subsidiary of TXU Corp.
TXU Corp....................................... refers to TXU Corp., a holding company, and/or its
consolidated subsidiaries, depending on context
TXU Gas........................................ TXU Gas Company, a subsidiary of TXU Energy
TXU Energy..................................... refers to TXU Energy Company LLC, a subsidiary of US
Holdings, and/or its consolidated subsidiaries, depending on
context
TXU Mining..................................... TXU Mining Company LP, a subsidiary of TXU Energy
TXU Portfolio Management....................... TXU Portfolio Management Company LP, a subsidiary of TXU
Energy
US............................................. United States of America
US GAAP........................................ accounting principles generally accepted in the US
US Holdings.................................... refers to TXU US Holdings Company, a subsidiary of TXU
Corp., and /or its consolidated subsidiaries, depending on
context
iii
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
TXU US HOLDINGS COMPANY
CONDENSED STATEMENTS OF CONSOLIDATED INCOME
(Unaudited)
Three Months Ended
March 31,
---------------------
2004 2003
------ ------
(millions of dollars)
Operating revenues............................................................ $2,135 $1,917
Costs and expenses:
Cost of energy sold and delivery fees...................................... 910 837
Operating costs........................................................... 343 355
Depreciation and amortization.............................................. 185 182
Selling, general and administrative expenses............................... 192 191
Franchise and revenue-based taxes.......................................... 85 93
Other income............................................................... (2) (9)
Other deductions........................................................... 19 1
Interest income............................................................ (1) (5)
Interest expense and related charges....................................... 145 151
----- -----
Total costs and expenses............................................... 1,876 1,796
----- -----
Income from continuing operations before income taxes and cumulative effect
of changes in accounting principles....................................... 259 121
Income tax expense............................................................ 81 33
----- -----
Income from continuing operations before cumulative effect
of changes in accounting principles........................................ 178 88
Income (loss) from discontinued operations, net of tax effect (Note 3)........ (2) 1
Cumulative effect of changes in accounting principles, net of tax benefit
(Note 2)................................................................... - (58)
----- ------
Net income ................................................................... $ 176 $ 31
Preferred stock dividends .................................................... - 2
----- -----
Net income available for common stock......................................... $ 176 $ 29
----- -----
CONDENSED STATEMENTS OF CONSOLIDATED COMPREHENSIVE INCOME
(Unaudited)
Three Months Ended
March 31,
--------------------
2004 2003
------ ------
(millions of dollars)
Net income ................................................................... $ 176 $ 31
Other comprehensive income (loss), net of tax effects:
Cash flow hedge activity-
Net change in fair value of derivatives (net of tax benefit of
$31 and $42)........................................................ (58) (78)
Amounts realized in earnings during the period (net of tax expense of
$3 and $26) ........................................................ 5 49
------ -----
Total............................................................. (53) (29)
------- ------
Comprehensive income.......................................................... $ 123 $ 2
====== =====
See Notes to Financial Statements.
1
TXU US HOLDINGS COMPANY
CONDENSED STATEMENTS OF CONSOLIDATED CASH FLOWS
(Unaudited)
Three Months Ended
March 31,
------------------
2004 2003
------ ------
(millions of
dollars)
Cash flows - operating activities:
Income from continuing operations before cumulative effect of
changes in accounting principles.............................................. $ 178 $ 88
Adjustments to reconcile income from continuing operations before cumulative
effect of changes in accounting principles to cash provided by operating
activities:
Depreciation and amortization ............................................... 202 201
Deferred income taxes and investment tax credits - net ...................... 63 50
Net gain from sale of assets................................................ - (6)
Net effect of unrealized mark-to-market valuations of commodity contracts.... 18 17
Increase (reduction) in regulatory liability................................. 1 (42)
Changes in operating assets and liabilities..................................... (26) (134)
------ ------
Cash provided by operating activities.................................... 436 174
------ ------
Cash flows - financing activities:
Issuances of securities......................................................... - 1,294
Retirements/repurchases of securities:
Long-term debt............................................................... (8) (294)
Preferred stock of subsidiaries.............................................. - (4)
Change in advances - affiliates................................................. (622) 702
Dividends paid to parent........................................................ (212) (250)
Change in notes payable - banks................................................. 175 (1,304)
Preferred stock dividends paid.................................................. - (2)
Redemption deposits applied to debt retirements................................. - 138
Debt premium, discount, financing and reacquisition expenses.................... (2) (32)
------ ------
Cash provided by (used in) financing activities.......................... (669) 248
------ ------
Cash flows - investing activities:
Capital expenditures............................................................ (146) (182)
Nuclear fuel.................................................................... (47) -
Proceeds from sale of assets.................................................... - 13
Other........................................................................... 11 13
------ ------
Cash used in investing activities........................................ (182) (156)
------ ------
Cash contributions to discontinued operations..................................... (1) -
------ ------
Net change in cash and cash equivalents........................................... (416) 266
Cash and cash equivalents - beginning balance..................................... 806 1,508
------ ------
Cash and cash equivalents - ending balance........................................ $ 390 $1,774
====== ======
See Notes to Financial Statements.
2
TXU US HOLDINGS COMPANY AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
March 31, December 31,
2004 2003
-------- ---------
(millions of dollars)
ASSETS
Current assets:
Cash and cash equivalents.................................................. $ 390 $ 806
Restricted cash............................................................ 9 12
Advances to affiliates..................................................... 143 -
Accounts receivable-- trade................................................ 1,044 1,001
Inventories................................................................ 378 416
Commodity contract assets.................................................. 1,057 959
Other current assets....................................................... 222 258
------- -------
Total current assets.................................................. 3,243 3,452
Investments:
Restricted cash............................................................ 10 13
Other investments.......................................................... 521 510
Property, plant and equipment-- net........................................... 16,685 16,714
Goodwill...................................................................... 558 558
Regulatory assets-- net....................................................... 1,863 1,872
Commodity contract assets..................................................... 134 121
Cash flow hedges and other derivative assets.................................. 36 88
Assets held for sale.......................................................... 12 14
Other noncurrent assets....................................................... 144 151
------- -------
Total assets....................................................... $23,206 $23,493
======= =======
LIABILITIES, PREFERRED INTERESTS AND SHAREHOLDERS' EQUITY
Current liabilities:
Advances from affiliates................................................... $ - $ 691
Notes payable-- banks...................................................... 175 -
Long-term debt due currently............................................... 261 249
Accounts payable-- trade................................................... 932 775
Commodity contract liabilities............................................. 997 913
Accrued taxes.............................................................. 344 414
Other current liabilities.................................................. 739 786
------- -------
Total current liabilities............................................. 3,448 3,828
Accumulated deferred income taxes............................................. 3,385 3,403
Investment tax credits........................................................ 424 428
Commodity contract liabilities................................................ 101 59
Cash flow hedges and other derivative liabilities............................. 194 140
Other noncurrent liabilities and deferred credits............................. 1,504 1,601
Long-term debt, less amounts due currently.................................... 7,206 7,217
Exchangeable preferred membership interests of TXU Energy, net of
discount of $249 and $253................................................... 501 497
------- -------
Total liabilities..................................................... 16,763 17,173
Contingencies (Note 6)
Shareholders' equity and preferred interests (Note 5):
Preferred stock - not subject to mandatory redemption (Note 5).............. 38 38
Common stock without par value (Note 5):
Class A - Authorized shares: -- 9,000,000
Outstanding shares: -- 2,062,768...................................... 102 102
Class B - Authorized shares-- 171,000,000, Outstanding shares-- 39,192,594 1,949 1,949
Retained earnings........................................................... 4,542 4,366
Accumulated other comprehensive loss........................................ (188) (135)
------- -------
Total common stock equity................................................ 6,405 6,282
------- -------
Total shareholders' equity and preferred interests..................... 6,443 6,320
------- -------
Total liabilities, preferred interests and shareholders' equity...... $23,206 $23,493
======= =======
See Notes to Financial Statements.
3
TXU US HOLDINGS COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
1. SIGNIFICANT ACCOUNTING POLICIES AND BUSINESS
Description of Business -- US Holdings engages in power production
(electricity generation), retail and wholesale sales of electricity and natural
gas, and the transmission and distribution of electricity. In the competitive
energy operations, US Holdings engages in hedging and risk management
activities. US Holdings is a holding company that conducts its principal
operations through TXU Energy and Oncor. (See Note 7 for more information on
business segments.) All the common stock of US Holdings is held by TXU Corp.
Strategic Initiatives - As previously reported, on February 23, 2004, C.
John Wilder was named president and chief executive of TXU Corp. Mr. Wilder was
formerly executive vice president and chief financial officer of Entergy
Corporation. Mr. Wilder has been reviewing the operations of TXU Corp. and has
formulated certain strategic initiatives and continues to develop others.
Areas to be reviewed include:
o Performance in competitive markets, including profitability in new
markets
o Cost structure, including organizational alignments and headcount
o Management of natural gas price risk and cost effectiveness of the
generation fleet
o Non-core business activities
On April 26, 2004, TXU Corp. announced a series of transactions, as well
as various performance improvement initiatives including:
o TXU Energy agreed to sell the assets of TXU Fuel Company, the gas
transportation subsidiary of TXU Energy, to Energy Transfer Partners,
L.P. for $500 million in cash. As part of the transaction, TXU Energy
will have an eight-year transportation agreement with the new owner to
transport gas to TXU Energy's generation plants. The transaction is
expected to close on June 1, 2004, subject to review under the
Hart-Scott-Rodino Act.
o On April 26, 2004, TXU Corp. purchased from the holders all $750
million outstanding principal amount of TXU Energy's Exchangeable
Preferred Membership Interests. US Holdings' carrying amount of the
security, which remains outstanding, is the $750 million principal
amount less an approximate $249 million remaining unamortized discount.
o US Holdings anticipates performance improvements as a result of various
strategic initiatives, including reduced administrative support costs,
increased base load (nuclear and coal-fired) generation plant output
and improved operating results in markets outside the historical
service territory. In the first quarter of 2004, TXU Energy recorded a
$17 million ($11 million after-tax) charge, reported in other
deductions, consisting of $16 million for accrued severance benefits
and $1 million in asset writedowns related to these initiatives.
The review of US Holdings' operations and formulation of strategic
initiatives is ongoing. The phases of the plan expected to result in unusual
charges are anticipated to be largely completed within one year. Upon completion
of each phase of the plan that will affect it, US Holdings expects to fully
describe the actions intended to improve the financial performance of its
operations.
Facility Closings -- On March 29, 2004, TXU Energy announced it will
permanently retire eight gas-fired operating units due to electric industry
market conditions in Texas. TXU Energy will also temporarily close four other
gas-fired units and place them under evaluation for retirement. The 12 units
represent a total of 1,471 MW, or more than 13 percent, of TXU Energy's
gas-fired generation capacity in Texas. A majority of the 12 units were
designated as "peaking units" and operated only during the summer for many years
and have operated only sparingly during the last two years. Most of the units
were built in the 1950s. TXU Energy also determined that it will close its
Winfield North Monticello lignite mine in Texas later this year as it is no
longer economical to operate. The mine closure will result in the need to
purchase coal to fuel the adjacent generation facility. A total charge of $8
million ($5 million after-tax) was recorded in the first quarter for production
employee severance costs and impairments related to the various facility
closures.
4
Discontinued Businesses - In December 2003, TXU Energy finalized a formal
plan to sell its strategic retail services business, which is engaged
principally in providing energy management services.
The consolidated financial statements for all periods presented reflect
the reclassification of the results of this business as discontinued operations.
See Note 3 for more detailed information about discontinued operations.
Basis of Presentation -- The condensed consolidated financial statements
of US Holdings have been prepared in accordance with US GAAP and on the same
basis as the audited financial statements included in its 2003 Form 10-K, except
for the changes in estimates of depreciable lives of assets discussed below. In
the opinion of management, all other adjustments (consisting of normal recurring
accruals) necessary for a fair presentation of the results of operations and
financial position have been included therein. All intercompany items and
transactions have been eliminated in consolidation. Certain information and
footnote disclosures normally included in annual consolidated financial
statements prepared in accordance with US GAAP have been omitted pursuant to the
rules and regulations of the SEC. Because the condensed consolidated interim
financial statements do not include all of the information and footnotes
required by US GAAP, they should be read in conjunction with the audited
financial statements and related notes included in the 2003 Form 10-K. The
results of operations for an interim period may not give a true indication of
results for a full year.
All dollar amounts in the financial statements and tables in the notes are
stated in millions of dollars unless otherwise indicated.
Depreciation of Energy Production Facilities -- Effective January 1, 2004,
the estimates of the depreciable lives of lignite-fired generation facilities
were extended an average of nine years to better reflect the useful lives of the
assets, and depreciation rates for the Comanche Peak nuclear generating plant
were decreased as a result of an increase in the estimated lives of boiler and
turbine generator components of the plant by an average of five years. The net
impact of these changes was a reduction in depreciation expense of $12 million
($8 million after-tax) in the three months ended March 31, 2004.
Effective April 1, 2003, the estimates of the depreciable lives of the
Comanche Peak nuclear generating plant and several gas generation plants were
extended to better reflect the useful lives of the assets. At the same time,
depreciation rates were increased on lignite and gas generation facilities to
reflect additional investments in equipment. The net impact of these changes was
an additional reduction in depreciation expense of $12 million ($8 million
after-tax) in the three months ended March 31, 2004.
Changes in Accounting Standards -- FIN 46R was issued in December 2003 and
replaced FIN 46, which was issued in January 2003. FIN 46R expands and clarifies
the guidance originally contained in FIN 46, regarding consolidation of variable
interest entities. FIN 46R did not impact results of operations or financial
position for the first quarter of 2004.
The Medicare Prescription Drug, Improvement and Modernization Act of 2003
(the Medicare Act) was enacted in December 2003. FASB Staff Position 106-1,
issued in January 2004, allowed for, but did not require, deferral of the
accounting for the effects of the Medicare Act. TXU Corp. elected not to defer
accounting for the federal subsidy under the Medicare Act and recognized a $1.9
million net reduction in postretirement benefit expense in the 2003 financial
statements. For the three months ended March 31, 2004, the effect of adoption of
the Medicare Act was a reduction of approximately $6 million in US Holding's
allocated postretirement benefit costs.
5
2. CUMULATIVE EFFECT OF CHANGES IN ACCOUNTING PRINCIPLES
The following summarizes the effect on results for 2003 of changes in
accounting principles effective January 1, 2003:
Charge from rescission of EITF 98-10, net of tax effect of $34 million.... $(63)
Credit from adoption of SFAS 143, net of tax effect of $3 million......... 5
----
Total net charge..................................................... $(58)
====
On October 25, 2002, the EITF, through EITF 02-3, rescinded EITF 98-10,
which required mark-to-market accounting for all trading activities. Pursuant to
this rescission, only financial instruments that are derivatives under SFAS 133
are subject to mark-to-market accounting. Financial instruments that may not be
derivatives under SFAS 133, but were marked-to-market under EITF 98-10, consist
primarily of gas transportation and storage agreements, power tolling, full
requirements and capacity contracts. This new accounting rule was effective for
new contracts entered into after October 25, 2002. Non-derivative contracts
entered into prior to October 26, 2002, continued to be accounted for at fair
value through December 31, 2002; however, effective January 1, 2003, such
contracts were required to be accounted for on a settlement basis. Accordingly,
a charge of $97 million ($63 million after-tax) was reported as a cumulative
effect of a change in accounting principles in the first quarter of 2003. Of the
total, $75 million reduced net commodity contract assets and liabilities and $22
million reduced inventory that had previously been marked-to-market as a trading
position. The cumulative effect adjustment represents the net gains previously
recognized for these contracts under mark-to-market accounting.
SFAS 143 became effective on January 1, 2003. SFAS 143 requires entities
to record the fair value of a legal liability for an asset retirement obligation
in the period of its inception. For US Holdings, such liabilities primarily
relate to nuclear generation plant decommissioning, land reclamation related to
lignite mining and removal of lignite plant ash treatment facilities. The
liability is recorded at its net present value with a corresponding increase in
the carrying value of the related long-lived asset. The liability is accreted
each period, representing the time value of money, and the capitalized cost is
depreciated over the remaining useful life of the related asset.
As the new accounting rule required retrospective application to the
inception of the liability, the effects of the adoption reflect the accretion
and depreciation from the liability inception date through December 31, 2002.
Further, the effects of adoption take into consideration liabilities of $215
million (previously reflected in accumulated depreciation) US Holdings had
previously recorded as depreciation expense and $26 million (reflected in other
noncurrent liabilities) of unrealized net gains associated with the
decommissioning trusts.
The following table summarizes the impact as of January 1, 2003 of
adopting SFAS 143:
Increase in property, plant and equipment - net................... $488
Increase in other noncurrent liabilities and deferred credits..... (528)
Increase in accumulated deferred income taxes..................... (3)
Increase in regulatory assets - net............................... 48
----
Cumulative effect of change in accounting principles.............. $ 5
====
The asset retirement liability at March 31, 2004 was $605 million,
comprised of a $599 million liability as of December 31, 2003, $10 million of
accretion during the three months ended March 31, 2004, reduced by $4 million in
reclamation payments.
With respect to nuclear decommissioning costs, for US Holdings the
adoption of SFAS 143 results in timing differences in the recognition of asset
retirement costs that are being recovered through the regulatory process.
6
3. DISCONTINUED OPERATIONS
In December 2003, TXU Energy finalized a formal plan to sell its strategic
retail services business. TXU Energy is in the process of negotiating sales of
these operations to various parties.
The following summarizes the historical consolidated financial information
of the strategic retail services business reported as discontinued operations:
Three Months Ended March 31,
----------------------------
2004 2003
------ ------
(millions of dollars)
Operating revenues........................................................... $ 5 $ 15
Operating costs and expenses................................................. 5 14
Other deductions (income) - net.............................................. (1) -
-------- ------
Income before income taxes................................................... 1 1
Income tax expense........................................................... 1 -
Charge related to exit (after-tax)........................................... 2 -
------- ------
Income (loss) from discontinued operations.............................. $ (2) $ 1
------- -----
Balance sheet - The following details the assets held for sale at March
31, 2004:
Current assets........................................ $ 3
Investments........................................... 6
Property, plant and equipment......................... 3
-------
Assets held for sale.............................. $ 12
=======
4. FINANCING ARRANGEMENTS
Short-term Borrowings -- At March 31, 2004, US Holdings had outstanding
short-term borrowings consisting of bank borrowings of $175 million at a
weighted average interest rate of 2.67%. At December 31, 2003, US Holdings had
outstanding short-term advances from affiliates of $691 million at a weighted
average interest rate of 2.92%.
Credit Facilities -- At March 31, 2004, credit facilities available to TXU
Corp. and its US subsidiaries were as follows:
At March 31, 2004
----------------------------------------------
Expiration Authorized Facility Letters of Cash
Facility Date Borrowers Limit Credit Borrowings Availability
- ----------------------------- ------------- ------------- ------- ---------- ---------- ------------
Five-Year Revolving Credit
Facility February 2005 US Holdings $ 1,400 $ -- $ -- $1,400
Revolving Credit Facility February 2005 TXU Energy, Oncor 450 -- 75 375
Three-Year Revolving Credit
Facility May 2005 US Holdings 400 -- 100 300
Five-Year Revolving Credit
Facility August 2008 TXU Corp. 500 462 -- 38
------- ------ ------ ------
Total $ 2,750 $ 462 $ 175 $2,113
======= ====== ====== ======
TXU Corp.'s $500 million 5-year revolving credit facility provides for up
to $500 million in letters of credit or up to $250 million of loans ($500
million in the aggregate). To the extent capacity is available under this
facility, it may be made available to US Holdings, TXU Energy or Oncor for
borrowings, letters of credit or other purposes.
The US Holdings, TXU Energy and Oncor facilities provide back-up for any
future issuance of commercial paper by TXU Energy or Oncor. At March 31, 2004,
there was no such outstanding commercial paper.
7
On April 26, 2004, a new $1.0 billion, 364-day facility was established
for TXU Energy. Borrowings of $785 million under this new facility were advanced
to affiliates. Amounts borrowed and repaid under the facility may not be
re-borrowed.
In April 2004, the $175 million borrowings under the Revolving Credit
Facility and the Three Year Revolving Credit Facility were repaid with proceeds
from TXU Corp.'s sale of its telecommunications business.
Sale of Receivables -- TXU Corp. has established an accounts receivable
securitization program. The activity under this program is accounted for as a
sale of accounts receivable in accordance with SFAS 140. Under the program, US
subsidiaries of TXU Corp. (originators) sell trade accounts receivable to TXU
Receivables Company, a consolidated wholly-owned bankruptcy remote direct
subsidiary of TXU Corp., which sells undivided interests in the purchased
accounts receivable for cash to special purpose entities established by
financial institutions (the funding entities). As of March 31, 2004, the maximum
amount of undivided interests that could be sold by TXU Receivables Company was
$600 million.
All new trade receivables under the program generated by the originators
are continuously purchased by TXU Receivables Company with the proceeds from
collections of receivables previously purchased. Changes in the amount of
funding under the program, through changes in the amount of undivided interests
sold by TXU Receivables Company, are generally due to seasonal variations in the
level of accounts receivable and changes in collection trends. TXU Receivables
Company has issued subordinated notes payable to the originators for the
difference between the face amount of the uncollected accounts receivable
purchased, less a discount, and cash paid to the originators that was funded by
the sale of the undivided interests.
The discount from face amount on the purchase of receivables principally
funds program fees paid by TXU Receivables Company to the funding entities, as
well as a servicing fee paid by TXU Receivables Company to TXU Business Services
Company, a direct subsidiary of TXU Corp. The program fees (losses on sale),
which consist primarily of interest costs on the underlying financing, were
approximately $3 million for each of the three-month periods ending March 31,
2004 and 2003 and approximated 2.1% and 3.6% for the first quarter of 2004 and
2003, respectively, of the average funding under the program on an annualized
basis; these fees represent the net incremental costs of the program to US
Holdings and are reported in SG&A expenses. The servicing fee, which totaled
approximately $1 million for the first quarters of 2004 and 2003, compensates
TXU Business Services Company for its services as collection agent, including
maintaining the detailed accounts receivable collection records.
The March 31, 2004 balance sheet reflects $915 million face amount of
trade accounts receivable of TXU Energy and Oncor, reduced by $497 million of
undivided interests sold by TXU Receivables Company. Funding under the program
decreased $50 million for the three months ended March 31, 2004, primarily due
to the effect of seasonal fluctuations. Funding under the program for the three
months ended March 31, 2003 decreased $144 million. Funding increases or
decreases under the program are reflected as operating cash flow activity in the
statement of cash flows. The carrying amount of the retained interests in the
accounts receivable approximated fair value due to the short-term nature of the
collection period.
8
Activities of TXU Receivables Company related to US Holdings for the three
months ended March 31, 2004 and 2003 were as follows:
Three Months Ended March 31,
----------------------------
2004 2003
------ ------
(millions of dollars)
Cash collections on accounts receivable...................................... $ 1,683 $1,616
Face amount of new receivables purchased..................................... (1,584) (1,276)
Discount from face amount of purchased receivables........................... 4 4
Program fees paid............................................................ (3) (3)
Servicing fees paid.......................................................... (1) (1)
Increase (decrease) in subordinated notes payable............................ (49) (196)
-------- -------
US Holdings' operating cash flows (provided) used under the program..... $ 50 $ 144
====== =====
Upon termination of the program, cash flows to US Holdings would be
delayed as collections of sold receivables would be used by TXU Receivables
Company to repurchase the undivided interests sold instead of purchasing new
receivables. The level of cash flows would normalize in approximately 16 to 31
days.
Contingencies Related to Sale of Receivables Program -- Although TXU
Receivables Company expects to be able to pay its subordinated notes from the
collections of purchased receivables, these notes are subordinated to the
undivided interests of the funding entities in those receivables, and
collections might not be sufficient to pay the subordinated notes. The program
may be terminated if either of the following events occurs:
1) all of the originators cease to maintain their required fixed charge
coverage ratio and debt to capital (leverage) ratio;
2) the delinquency ratio (delinquent for 31 days) for the sold
receivables, the default ratio (delinquent for 91 days or
deemed uncollectible), the dilution ratio (reductions for discounts,
disputes and other allowances) or the days collection outstanding
ratio exceed stated thresholds and the funding entities do not waive
such event of termination. The thresholds apply to the entire
portfolio of sold receivables, not separately to the receivables of
each originator.
The delinquency and dilution ratios exceeded the relevant thresholds
during the first four months of 2003, but waivers were granted. These ratios
were affected by issues related to the transition to competition. Certain
billing and collection delays arose due to implementation of new systems and
processes within TXU Energy and ERCOT for clearing customers' switching and
billing data. The billing delays have been largely resolved. Strengthened credit
and collection policies and practices have brought the ratios into consistent
compliance with the program requirement.
Under terms of the receivables sale program, all the originators are
required to maintain specified fixed charge coverage and leverage ratios (or
supply a parent guarantor that meets the ratio requirements). The failure by an
originator or its parent guarantor, if any, to maintain the specified financial
ratios would prevent that originator from selling its accounts receivable under
the program. If all the originators and the parent guarantor, if any, fail to
maintain the specified financial ratios so that there are no eligible
originators, the facility would terminate.
9
Long-Term Debt -- At March 31, 2004 and December 31, 2003, the long-term
debt of US Holdings and its consolidated subsidiaries consisted of the
following:
March 31, December 31,
2004 2003
-------- ------------
TXU Energy
----------
Pollution Control Revenue Bonds:
Brazos River Authority:
3.000% Fixed Series 1994A due May 1, 2029, remarketing date May 1, 2005(a)....... $ 39 $ 39
5.400% Fixed Series 1994B due May 1, 2029, remarketing date May 1, 2006(a)....... 39 39
5.400% Fixed Series 1995A due April 1, 2030, remarketing date May 1, 2006(a)..... 50 50
5.050% Fixed Series 1995B due June 1, 2030, remarketing date June 19, 2006(a).... 118 118
7.700% Fixed Series 1999A due April 1, 2033...................................... 111 111
6.750% Fixed Series 1999B due September 1, 2034, remarketing date April 1,
2013(a).......................................................................... 16 16
7.700% Fixed Series 1999C due March 1, 2032...................................... 50 50
4.950% Fixed Series 2001A due October 1, 2030, remarketing date April 1, 2004(a). 121 121
4.750% Fixed Series 2001B due May 1, 2029, remarketing date November 1, 2006(a).. 19 19
5.750% Fixed Series 2001C due May 1, 2036, remarketing date November 1, 2011(a).. 274 274
1.100% Floating Series 2001D due May 1, 2033..................................... 271 271
1.110% Floating Taxable Series 2001I due December 1, 2036(b)..................... 63 63
1.120% Floating Series 2002A due May 1, 2037(b).................................. 61 61
6.750% Fixed Series 2003A due April 1, 2038, remarketing date April 1, 2013(a)... 44 44
6.300% Fixed Series 2003B due July 1, 2032....................................... 39 39
6.750% Fixed Series 2003C due October 1, 2038.................................... 72 72
5.400% Fixed Series 2003D due October 1, 2029, remarketing date October 1,
2014(a).......................................................................... 31 31
Sabine River Authority of Texas:
6.450% Fixed Series 2000A due June 1, 2021....................................... 51 51
5.500% Fixed Series 2001A due May 1, 2022, remarketing date November 1, 2011(a).. 91 91
5.750% Fixed Series 2001B due May 1, 2030, remarketing date November 1, 2011(a).. 107 107
5.800% Fixed Series 2003A due July 1, 2022....................................... 12 12
6.150% Fixed Series 2003B due August 1, 2022..................................... 45 45
Trinity River Authority of Texas:
6.250% Fixed Series 2000A due May 1, 2028........................................ 14 14
5.000% Fixed Series 2001A due May 1, 2027, remarketing date November 1, 2006(a).. 37 37
Other:
6.875% Fixed Senior Notes - TXU Mining due August 1, 2005........................ 30 30
6.125% Fixed Senior Notes due March 15, 2008..................................... 250 250
7.000% Fixed Senior Notes due March 15, 2013(c).................................. 1,000 1,000
Capital lease obligations........................................................ 12 13
Other............................................................................ 2 8
Fair value adjustments related to interest rate swaps............................ 22 11
Unamortized discount............................................................. -- (2)
------- ------
Total TXU Energy ............................................................ 3,091 3,085
Oncor
- -----
8.250% Fixed First Mortgage Bonds due April 1, 2004.............................. 100 100
6.250% Fixed First Mortgage Bonds due October 1, 2004............................ 121 121
6.750% Fixed First Mortgage Bonds due July 1, 2005............................... 92 92
7.625% Fixed First Mortgage Bonds due July 1, 2025............................... 215 215
7.375% Fixed First Mortgage Bonds due October 1, 2025............................ 178 178
6.375% Fixed Senior Secured Notes due May 1, 2012................................ 700 700
7.000% Fixed Senior Secured Notes due May 1, 2032................................ 500 500
6.375% Fixed Senior Secured Notes due January 15, 2015........................... 500 500
7.250% Fixed Senior Secured Notes due January 15, 2033........................... 350 350
5.000% Fixed Debentures due September 1, 2007.................................... 200 200
7.000% Fixed Debentures due September 1, 2022.................................... 800 800
Unamortized discount............................................................. (26) (30)
10
March 31, December 31,
2004 2003
-------- ------------
TXU Electric Delivery Transition Bond Company LLC (e)
- ------------------------------------------------------
2.260% Fixed Series 2003 Bonds due in bi-annual installments through
February 15, 2007.............................................................. 95 103
4.030% Fixed Series 2003 Bonds due in bi-annual installments through
February 15, 2010.............................................................. 122 122
4.950% Fixed Series 2003 Bonds due in bi-annual installments through
February 15, 2013.............................................................. 130 130
5.420% Fixed Series 2003 Bonds due in bi-annual installments through
August 15, 2015................................................................ 145 145
------- -------
Total Oncor.................................................................. 4,222 4,226
US Holdings
- -----------
7.170% Fixed Senior Debentures due August 1, 2007................................ 10 10
9.580% Fixed Notes due in bi-annual installments through December 4, 2019........ 70 70
8.254% Fixed Notes due in quarterly installments through December 31, 2021....... 65 66
1.910% Floating Rate Junior Subordinated Debentures, Series D due January 30,
2037(d).......................................................................... 1 1
8.175% Fixed Junior Subordinated Debentures, Series E due January 30, 2037....... 8 8
------- -------
Total US Holdings ........................................................... 154 155
Total US Holdings consolidated...................................................... 7,467 7,466
Less amount due currently........................................................... 261 249
------- -------
Total long-term debt................................................................ $ 7,206 $ 7,217
======= =======
- -----------------
(a) These series are in the multiannual mode and are subject to mandatory
tender prior to maturity on the mandatory remarketing date. On such date,
the interest rate and interest rate period will be reset for the bonds.
(b) Interest rates in effect at March 31, 2004. These series are in a
flexible or weekly rate mode and are classified as long-term as they are
supported by long-term irrevocable letters of credit. Series in the
flexible mode will be remarketed for periods of less than 270 days.
(c) Interest rates swapped to floating on $100 million principal amount.
(d) Interest rates in effect at March 31, 2004.
(e) These bonds are nonrecourse to Oncor.
In April 2004, the Brazos River Authority Series 2001A pollution control
revenue bonds (aggregate principal amount of $121 million) were repurchased upon
mandatory tender and will be remarketed.
Fair Value Hedges -- In March 2004, fixed-to-variable interest rate swaps
related to $400 million of debt were settled for a gain of $18 million ($12
million in cash received as of March 31, 2004). The gain will be amortized to
offset interest expense over the remaining life of the debt.
Transactions in April 2004 included settlement of fixed-to-variable
interest rate swaps related to $100 million of debt for a gain of $3.5 million,
which will be amortized over the remaining life of the debt, and the effective
conversion of $750 million of fixed rate debt to variable rates through swaps
expiring through 2013.
Exchangeable Preferred Membership Interests of TXU Energy -- In July 2003,
TXU Energy exercised its right to exchange its $750 million 9% Exchangeable
Subordinated Notes issued in November 2002 and due November 2012 for
exchangeable preferred membership interests with identical economic and other
terms. The preferred membership interests bear distributions at the annual rate
of 9% and permit the deferral of such distributions. The preferred membership
interests may be exchanged at the option of the holders, subject to certain
restrictions, at any time for up to approximately 57 million shares of TXU Corp.
common stock at an exchange price of $13.1242 per share. The number of shares of
TXU Corp. common stock that may be issuable upon the exercise of the exchange
right is determined by dividing the aggregate liquidation value of preferred
membership interests to be exchanged by the exchange price. The exchange price
and the number of shares to be issued are subject to anti-dilution adjustments.
At issuance of the notes that were exchanged for the preferred membership
interests, TXU Energy recognized a capital contribution from TXU Corp. and a
corresponding discount on the securities of $266 million, which represented the
value of the exchange right as TXU Corp. granted an irrevocable right to
exchange the securities for TXU Corp. common stock. This discount is being
amortized to interest expense and related charges over the term of the
securities. As a result, the effective distribution rate on the preferred
membership interests is 16.2%. On April 26, 2004, TXU Corp. repurchased these
securities as discussed in Note 1 to Financial Statements.
11
5. SHAREHOLDERS' EQUITY
At March 31, 2004, US Holdings had 379,000 shares of cumulative, preferred
stock without par value outstanding with dividend rates ranging from $4.00 to
$5.08 per share. The preferred stock can be redeemed at prices ranging from
$101.70 per share to $112.00 per share. The preferred stock is not mandatorily
redeemable.
The holders of preferred stock of US Holdings have no voting rights except
for changes to the articles of incorporation that would change the rights or
preferences of such stock, authorize additional shares of stock or create an
equal or superior class of stock. They have the right to vote for the election
of directors only if certain dividend arrearages exist.
The legal form of cash distributions to TXU Corp. has been both common
stock repurchases and the payment of dividends. For accounting purposes, the
cash distributions in the form of share repurchases are recorded as a return of
capital.
Certain debt instruments and preferred securities of US Holdings contain
provisions that restrict payment of dividends during any interest or
distribution payment deferral period or while any payment default exists. An
Oncor mortgage restricts the payment of dividends to the amount of Oncor's
retained earnings. At March 31, 2004, US Holdings was in compliance with these
provisions.
US Holdings declared a cash dividend of $212 million to TXU Corp. in
November 2003 which was paid in January 2004. On February 23, 2004, US Holdings
declared a dividend of $212.5 million payable to TXU Corp. on April 1, 2004.
6. CONTINGENCIES
Request from CFTC - In October 2003, TXU Corp. received an informal
request for information from the US Commodity Futures Trading Commission (CFTC)
seeking voluntary production of information concerning disclosure of price and
volume information furnished by TXU Portfolio Management to energy industry
publications. The request seeks information for the period from January 1, 1999
to October 2003. TXU Corp. has cooperated with the CFTC, and is in the process
of completing its response to such information request. TXU Corp. believes that
TXU Portfolio Management has not engaged in any reporting of price or volume
information that would in any way justify any action by the CFTC.
In a similar, but unrelated matter, on April 13, 2004, the CFTC issued a
subpoena requiring TXU Corp. to produce information about storage of natural
gas, including TXU Corp.'s weekly and monthly storage report submissions to the
Energy Information Administration. This request seeks information for the period
of October 31, 2003 through January 2, 2004. TXU Corp. intends to cooperate with
the CFTC, and believes that TXU Gas and TXU Fuel Company have not engaged in any
activity that would justify action by the CFTC.
Guarantees -- US Holdings has entered into contracts that contain
guarantees to outside parties that could require performance or payment under
certain conditions. These guarantees have been grouped based on similar
characteristics and are described in detail below.
Project development guarantees -- In 1990, US Holdings repurchased an
electric co-op's minority ownership interest in the Comanche Peak nuclear
generation plant and assumed the co-op's indebtedness to the US government for
the facilities. US Holdings is making principal and interest payments to the
co-op in an amount sufficient for the co-op to make payments on its
indebtedness. US Holdings guaranteed the co-op's payments, and in the event that
the co-op fails to make its payments on the indebtedness, the US government
would assume the co-op's rights under the agreement, and such payments would
then be owed directly by US Holdings. At March 31, 2004, the balance of the
indebtedness was $136 million with maturities of principal and interest
extending to December 2021. The indebtedness is secured by a lien on the
purchased facilities.
12
Residual value guarantees in operating leases -- US Holdings is the lessee
under various operating leases, entered into prior to January 1, 2003 that
obligate it to guarantee the residual values of the leased facilities. At March
31, 2004, the aggregate maximum amount of residual values guaranteed was
approximately $257 million with an estimated residual recovery of approximately
$155 million. The average life of the lease portfolio is approximately eight
years.
Debt obligations of the parent-- TXU Energy has provided a guarantee of
the obligations under TXU Corp.'s finance lease (approximately $125 million at
March 31, 2004) for its headquarters building.
Shared saving guarantees -- As part of the operations of the strategic
retail services business, that TXU Energy intends to sell (see Note 3), TXU
Energy has guaranteed that certain customers will realize specified annual
savings resulting from energy management services it has provided. In aggregate,
the average annual savings have exceeded the annual savings guaranteed. The
maximum potential annual payout is approximately $8 million and the maximum
total potential payout is approximately $56 million. No guarantees were issued
during the three months ended March 31, 2004 that required recording a
liability. The fair value of guarantees recorded as of March 31, 2004 was $1.8
million with a maximum potential payout of $42 million. The average remaining
life of the portfolio is approximately nine years. These guarantees will be
transferred or eliminated as part of expected transactions for the sale of the
strategic retail services business.
Letters of credit -- TXU Energy has entered into various agreements that
require letters of credit for financial assurance purposes. Approximately $403
million of letters of credit were outstanding at March 31, 2004 to support
existing floating rate pollution control revenue bond debt of approximately $395
million. The letters of credit are available to fund the payment of such debt
obligations. These letters of credit have expiration dates through 2008.
US Holdings has outstanding letters of credit in the amount of $12 million
for miscellaneous credit support requirements. Although the average life of the
letters of credit is for approximately one year, the obligation to provide
guarantees is ongoing.
TXU Energy has outstanding letters of credit in the amount of $33 million
to support hedging and risk management margin requirements in the normal course
of business. As of March 31, 2004, approximately 82% of the obligations
supported by these letters of credit mature within one year, and substantially
all of the remainder mature in the next six years.
Surety bonds -- US Holdings has outstanding surety bonds of approximately
$52 million to support performance under various subsidiary contracts and legal
obligations in the normal course of business. The term of the surety bond
obligations is approximately one year.
Other -- US Holdings has entered into contracts with public agencies to
purchase cooling water for use in the generation of electric energy and has
agreed, in effect, to guarantee the principal, $12 million at March 31, 2004,
and interest on bonds issued by the agencies to finance the reservoirs from
which the water is supplied. The bonds mature at various dates through 2011 and
have interest rates ranging from 5.50% to 7%. US Holdings is required to make
periodic payments equal to such principal and interest, including amounts
assumed by a third party and reimbursed to US Holdings. In addition, US Holdings
is obligated to pay certain variable costs of operating and maintaining the
reservoirs. US Holdings has assigned to a municipality all its contract rights
and obligations in connection with $8 million remaining principal amount of
bonds at March 31, 2004, issued for similar purposes, which had previously been
guaranteed by US Holdings. US Holdings is, however, contingently liable in the
event of default by the municipality.
Legal Proceedings - On July 7, 2003, a lawsuit was filed by Texas
Commercial Energy (TCE) in the United States District Court for the Southern
District of Texas, Corpus Christi Division, against TXU Energy and certain of
its subsidiaries, as well as various other wholesale market participants doing
business in ERCOT, claiming generally that defendants engaged in market
manipulation, in violation of antitrust and other laws, primarily during the
period of extreme weather conditions in late February 2003. An amended complaint
was filed in February 2004 that joined additional, unaffiliated defendants.
Three retail electric providers have filed motions for leave to intervene in the
13
action alleging claims substantially identical to TCE's. In addition,
approximately 25 purported former customers of TCE have filed a motion to
intervene in the action alleging claims substantially identical to TCE's, both
on their own behalf and on behalf of a putative class of all former customers of
TCE. A hearing on these motions is scheduled for May 20, 2004. US Holdings
believes that it has not committed any violation of the antitrust laws and the
Commission's investigation of the market conditions in late February 2003 has
not resulted in any findings adverse to TXU Energy. Accordingly, US Holdings
believes that TCE's and the interveners' claims against TXU Energy and its
subsidiary companies are without merit and TXU Energy and its subsidiaries
intend to vigorously defend the lawsuit. US Holdings is unable to estimate any
possible loss or predict the outcome of this action.
On April 28, 2003, a lawsuit was filed by a former employee of TXU
Portfolio Management in the United States District Court for the Northern
District of Texas, Dallas Division, against TXU Corp., TXU Energy and TXU
Portfolio Management. Plaintiff asserts claims under Section 806 of
Sarbanes-Oxley arising from plaintiff's employment termination and claims for
breach of contract relating to payment of certain bonuses. Plaintiff seeks back
pay, payment of bonuses and alternatively, reinstatement or future compensation,
including bonuses. TXU Corp. believes the plaintiff's claims are without merit.
The plaintiff was terminated as the result of a reduction in force, not as a
reaction to any concerns the plaintiff had expressed, and plaintiff was not in a
position with TXU Portfolio Management such that he had knowledge or information
that would qualify the plaintiff to evaluate TXU Corp.'s financial statements or
assess the adequacy of TXU Corp.'s financial disclosures. Thus, TXU Corp. does
not believe that there is any merit to the plaintiff's claims under
Sarbanes-Oxley. Accordingly, TXU Corp., TXU Energy and TXU Portfolio Management
intend to vigorously defend the litigation. While TXU Corp., TXU Energy and TXU
Portfolio Management dispute the plaintiff's claims, they are unable to predict
the outcome of this litigation or the possible loss in the event of an adverse
judgment.
On March 10, 2003, a lawsuit was filed by Kimberly P. Killebrew in the
United States District Court for the Eastern District of Texas, Lufkin Division,
against TXU Corp. and TXU Portfolio Management, asserting generally that
defendants engaged in manipulation of the wholesale electric market, in
violation of antitrust and other laws. This case was transferred to the Beaumont
Division of the Eastern District of Texas and subsequently transferred on March
24, 2004 to the Northern District of Texas, Dallas Division. This action is
brought by an individual, alleged to be a retail consumer of electricity, on
behalf of herself and as a proposed representative of a putative class of retail
purchasers of electricity that are similarly situated. On September 15, 2003,
defendants filed a motion to dismiss the lawsuit which is pending before the
court. TXU Corp. believes that the plaintiff lacks standing to assert any
antitrust claims against TXU Corp. or TXU Portfolio Management, and that
defendants have not violated antitrust laws or other laws as claimed by the
plaintiff. Therefore, TXU Corp. believes that plaintiff's claims are without
merit and plans to vigorously defend the lawsuit. TXU Corp. is unable to
estimate any possible loss or predict the outcome of this action.
General -- In addition to the above, US Holdings and its subsidiaries are
involved in various other legal and administrative proceedings in the normal
course of business the ultimate resolution of which, in the opinion of each,
should not have a material effect upon their financial position, results of
operations or cash flows.
7. SEGMENT INFORMATION
US Holdings has two reportable business segments: TXU Energy and Oncor.
TXU Energy - consists of operations, which are principally in the
competitive Texas market, involving power production (electricity generation),
retail and wholesale energy sales and portfolio management, which includes
hedging and risk management activities.
Oncor - consists of operations, which are largely regulated, involving the
transmission and distribution of electricity in Texas.
The accounting policies of the segments are the same as those described in
the summary of significant accounting policies. US Holdings evaluates
performance based on income from continuing operations before extraordinary
items and cumulative effect of changes in accounting principles. US Holdings
accounts for intersegment sales and transfers as if the sales or transfers were
to third parties, that is, at current market prices.
14
The business segments provide services or sell products to each other.
Such sales are made at prices comparable with those received from nonaffiliated
customers for similar products or services. No customer provided more than 10%
of consolidated revenues.
Three Months Ended
March 31,
--------------------
2004 2003
------ ------
Operating revenues:
TXU Energy........................................................ $ 1,964 $1,791
Oncor............................................................. 523 506
Eliminations...................................................... (352) (380)
-------- -------
Consolidated................................................... $ 2,135 $1,917
======= ======
Regulated revenues included in operating revenues:
TXU Energy ....................................................... $ - $ -
Oncor............................................................. 523 506
Eliminations...................................................... (349) (377)
-------- -------
Consolidated................................................... $ 174 $ 129
======= ======
Affiliated revenues included in operating revenues:
TXU Energy ....................................................... $ 3 $ 3
Oncor ............................................................ 349 377
Eliminations...................................................... (352) (380)
-------- -------
Consolidated................................................... $ - $ -
======= ======
Income from continuing operations before cumulative effect of changes
in accounting principles:
TXU Energy ....................................................... $ 117 $ 34
Oncor............................................................. 66 61
Other............................................................. (5) (7)
-------- -------
Consolidated................................................... $ 178 $ 88
======= ======
15
8. SUPPLEMENTARY FINANCIAL INFORMATION
Regulated Versus Unregulated Operations --
Three Months Ended
March 31,
-------------------
2004 2003
------ ------
Operating revenues:
Regulated...................................................................... $ 523 $ 506
Unregulated.................................................................... 1,964 1,791
Intercompany sales eliminations - regulated.................................... (349) (377)
Intercompany sales eliminations - unregulated ................................. (3) (3)
------ -------
Total operating revenues.................................................. 2,135 1,917
----- ------
Costs and operating expenses:
Cost of energy sold and delivery fees - unregulated*........................... 910 837
Operating costs - regulated.................................................... 175 173
Operating costs - unregulated.................................................. 168 182
Depreciation and amortization - regulated...................................... 87 69
Depreciation and amortization - unregulated.................................... 98 113
Selling, general and administrative expenses - regulated....................... 48 49
Selling, general and administrative expenses - unregulated..................... 144 142
Franchise and revenue-based taxes - regulated.................................. 59 60
Franchise and revenue-based taxes - unregulated................................ 26 33
Other income................................................................... (2) (9)
Other deductions............................................................... 19 1
Interest income................................................................ (1) (5)
Interest expense and related charges........................................... 145 151
----- ------
Total costs and expenses.................................................. 1,876 1,796
----- ------
Income from continuing operations before income taxes and
cumulative effect of changes in accounting principles.......................... $ 259 $ 121
===== ======
--------------
*Includes cost of fuel consumed of $221 million and $413 million for
the three months ended March 31, 2004 and 2003, respectively. The
balance in each period represents energy purchased for resale and
delivery fees.
The operations of the TXU Energy segment are included above as
unregulated, as the Texas market is open to competition. However, retail pricing
to residential customers in its historical service territory continues to be
subject to transitional regulatory provisions.
Other Income and Deductions --
Three Months Ended
March 31,
-------------------
2004 2003
------ ------
Other income:
Net gain on sale of businesses.................................................. $ 1 $ 6
Allowance for funds used during construction.................................... - 1
Other........................................................................... 1 2
---- ----
Total other income......................................................... $ 2 $ 9
==== ====
Other deductions:
Employee severance and asset writedowns related to performance improvement
plan.......................................................................... $ 17 $ -
Expenses related to canceled construction projects.............................. 2 1
---- ----
Total other deductions..................................................... $ 19 $ 1
==== ====
16
Interest Expense and Related Charges --
Three Months
Ended March 31,
-------------------
2004 2003
------ ------
Interest (a)..................................................................... $ 123 $ 146
Distributions on preferred membership interest in TXU Energy (a)................. 17 -
Amortization of debt discounts, premiums and issuance cost....................... 8 8
Allowance for borrowed funds used during construction
and capitalized interest...................................................... (3) (3)
------- -------
Total interest expense and related charges................................. $ 145 $ 151
====== ======
(a) Included in interest for the three months ended March 31, 2003 is $17
million related to the exchangeable subordinated notes that were exchanged
for preferred membership interests in July 2003.
Retirement Plan And Other Postretirement Benefits - US Holdings is a
participating employer in the TXU Retirement Plan, a defined benefit pension
plan sponsored by TXU Corp. US Holdings also participates with TXU Corp. and
other affiliated subsidiaries of TXU Corp. to offer health care and life
insurance benefits to eligible employees and their eligible dependents upon the
retirement of such employees. The allocated net periodic pension cost and net
periodic postretirement benefits cost other than pensions applicable to US
Holdings were $30 million and $27 million for the three months ended March 31,
2004 and 2003, respectively.
At March 31, 2004, US Holdings estimates that its total contributions to
the pension plan and other postretirement benefit plans for the remainder of
2004 will not be materially different than previously disclosed in the 2003 Form
10-K.
Regulatory Assets and Liabilities --
March 31, December 31,
2004 2003
----------- ------------
Regulatory Assets
Generation-related regulatory assets recoverable by securitization bonds.... $1,644 $1,654
Securities reacquisition costs.............................................. 123 121
Recoverable deferred income taxes-- net..................................... 97 96
Other regulatory assets..................................................... 94 95
----- -----
Total regulatory assets................................................. 1,958 1,966
Regulatory Liabilities
Investment tax credit and protected excess deferred taxes................... 86 88
Over-collection of transition bond (securitization) revenues................ 9 6
----- -----
Total regulatory liabilities............................................ 95 94
----- -----
Net regulatory assets................................................. $1,863 $1,872
====== ======
Included in net regulatory assets are assets of $121 million at March 31,
2004 and December 31, 2003 that are earning a return. The regulatory assets,
other than those subject to securitization, have a remaining recovery period of
15 to 47 years.
Included in other regulatory assets as of March 31, 2004 was $29 million
related to nuclear decommissioning liabilities.
Restricted Cash -- At March 31, 2004, TXU Electric Delivery Transition
Bond Company LLC had $9 million of restricted cash, representing collections
from customers that secure its securitization bonds and may be used to service
its debt and pay its expenses.
17
Affiliate Transactions -- The following represent significant affiliate
transactions of US Holdings:
o Average daily short-term advances from affiliates during the first
three months of 2004 and 2003 were $474 million and $869 million,
respectively, and interest expense incurred on the advances was $3
million and $5 million, respectively. The average interest rate was
2.86% and 2.33% for the first three months of 2004 and 2003,
respectively.
o TXU Business Services charges US Holdings for certain financial,
accounting, information technology, environmental, procurement and
personnel services and other administrative services at cost. For the
first three months of 2004 and 2003, these costs totaled $79 million
and $89 million, respectively, and are included in SG&A expenses.
o US Holdings charges TXU Gas for customer and administrative services.
For the first three months of 2004 and 2003, these charges totaled $12
million and $15 million, respectively, and are largely reported as a
reduction in operation and maintenance expenses.
Accounts Receivable -- At March 31, 2004 and December 31, 2003, accounts
receivable of $1.0 billion are stated net of allowance for uncollectible
accounts of $46 million and $53 million, respectively. During the three months
ended March 31, 2004, bad debt expense was $26 million, account write-offs were
$41 million and other activity decreased the allowance for uncollectible
accounts by $8 million. During the three months ended March 31, 2003, bad debt
expense was $12 million, account write-offs were $12 million and other activity
decreased the allowance for uncollectible accounts by $5 million. Allowances
related to receivables sold are reported in current liabilities and totaled $32
million and $40 million at March 31, 2004 and December 31, 2003, respectively.
Accounts receivable included $366 million and $411 million of unbilled
revenues at March 31, 2004 and December 31, 2003, respectively.
Intangible Assets -- Intangible assets other than goodwill are comprised
of the following:
As of March 31, 2004 As of December 31, 2003
------------------------------- ----------------------------
Gross Gross
Carrying Accumulated Carrying Accumulated
Amount Amortization Net Amount Amortization Net
--------- ------------- ----- -------- ------------ -----
Intangible assets subject to amortization
included in property, plant and equipment:
Capitalized software...................... $ 417 $ 204 $ 213 $ 400 $ 184 $ 216
Land easements............................ 179 67 112 176 66 110
Mineral rights and other.................. 31 21 10 31 22 9
----- ----- ----- ----- ----- -----
Total................................... $ 627 $ 292 $ 335 $ 607 $ 272 $ 335
===== ===== ===== ===== ===== =====
Aggregate US Holdings amortization expense for intangible assets for the
three months ended March 31, 2004 and 2003 was $21 million and $15 million,
respectively. At March 31, 2004, the weighted average useful lives of
capitalized software, land easements and mineral rights and other were 6 years,
69 years and 40 years, respectively.
At March 31, 2004 and December 31, 2003, goodwill of $558 million was
stated net of previously recorded accumulated amortization of $67 million.
Commodity Contracts -- At March 31, 2004 and December 31, 2003, current
and noncurrent commodity contract assets, arising largely from mark-to-market
accounting, totaling $1.2 billion and $1.1 billion, respectively, and are stated
net of applicable credit (collection) and performance reserves totaling $19
million and $18 million, respectively. Performance reserves are provided for
direct, incremental costs to settle the contracts. Current and non-current
commodity contract liabilities totaled $1.1 billion and $972 million at March
31, 2004 and December 31, 2003, respectively.
18
Inventories by Major Category --
March 31, December 31,
2004 2003
--------- ------------
Materials and supplies......................................................... $ 255 $ 254
Fuel stock..................................................................... 83 79
Gas stored underground......................................................... 40 83
------ ------
Total inventories.......................................................... $ 378 $ 416
====== ======
Property, Plant and Equipment -- As of March 31, 2004 and December 31,
2003, property, plant and equipment of $16.7 billion is stated net of
accumulated depreciation and amortization of $10.0 billion and $9.9 billion,
respectively.
As of March 31, 2004, substantially all of Oncor's electric utility
property, plant and equipment (with a net book value of $6.4 billion) was
pledged as collateral for Oncor's first mortgage bonds and senior secured notes.
Derivatives and Hedges -- US Holdings experienced net hedge
ineffectiveness of $12 million, reported as a loss in revenues, for the three
months ended March 31, 2004. For the three months ended March 31, 2003, no net
hedge ineffectiveness was reported in revenues. These losses related primarily
to hedges of anticipated power sales.
The net effect of unrealized mark-to-market ineffectiveness accounting,
which includes the above amounts as well as the effect of reversing unrealized
gains and losses recorded in previous periods to offset realized gains and
losses in the current period, totaled $15 million in net losses for the three
months ended March 31, 2004 and $6 million in net gains for the three months
ended March 31, 2003.
As of March 31, 2004, it is expected that $58 million of after-tax net
losses accumulated in other comprehensive income will be reclassified into
earnings during the next twelve months. Of this amount, $51 million relates to
commodities hedges and $7 million relates to financing-related hedges. This
amount represents the projected value of the hedges over the next twelve months
relative to what would be recorded if the hedge transactions had not been
entered into. The amount expected to be reclassified is not a forecasted loss
incremental to normal operations, but rather it demonstrates the extent to which
volatility in earnings and cash flows (which would otherwise exist) is mitigated
through the use of cash flow hedges.
Supplemental Cash Flow Information --
See Note 2 for the effects of adopting SFAS 143, which were noncash in
nature.
19
INDEPENDENT ACCOUNTANTS' REPORT
TXU US Holdings Company:
We have reviewed the accompanying condensed consolidated balance sheet of TXU US
Holdings Company and subsidiaries (US Holdings) as of March 31, 2004, and the
related condensed statements of consolidated income, comprehensive income and
cash flows for the three-month periods ended March 31, 2004 and 2003. These
financial statements are the responsibility of US Holdings' management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit in accordance with
auditing standards generally accepted in the United States of America, the
objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to such condensed consolidated financial statements for them to be in
conformity with accounting principles generally accepted in the United States of
America.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the consolidated balance sheet of US
Holdings as of December 31, 2003, and the related statements of consolidated
income, comprehensive income, cash flows and shareholders' equity for the year
then ended (not presented herein); and in our report (which includes an
explanatory paragraph related to the rescission of Emerging Issues Task Force
Issue No. 98-10) dated March 11, 2004, we expressed an unqualified opinion on
those consolidated financial statements. In our opinion, the information set
forth in the accompanying condensed consolidated balance sheet as of
December 31, 2003, is fairly stated in all material respects in relation to the
consolidated balance sheet from which it has been derived.
DELOITTE & TOUCHE LLP
Dallas, Texas
May 14, 2004
20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
BUSINESS
US Holdings engages in power production (electricity generation), retail
and wholesale sales of electricity and natural gas, and the transmission and
distribution of electricity. In the competitive energy operations, US Holdings
engages in hedging and risk management activities. US Holdings is a company that
conducts its principal operations through TXU Energy and Oncor.
US Holdings has two reportable segments: TXU Energy and Oncor. (See Note 7
to Financial Statements for further information concerning reportable business
segments.
TXU Corp. is considering various alternatives in evaluating the results of
operations of TXU Energy, and accordingly expects to disaggregate the business
into two or more business segments effective with reporting for the second
quarter of 2004.
Strategic Initiatives - As previously reported, on February 23, 2004, C.
John Wilder was named president and chief executive of TXU Corp. Mr. Wilder was
formerly executive vice president and chief financial officer of Entergy
Corporation. Mr. Wilder has been reviewing the operations of TXU Corp. and has
formulated certain strategic initiatives and continues to develop others.
Areas to be reviewed include:
o Performance in competitive markets, including profitability in new
markets
o Cost structure, including organizational alignments and headcount
o Management of natural gas price risk and cost effectiveness of the
generation fleet
o Non-core business activities
On April 26, 2004, TXU Corp. announced a series of transactions, as well
as various performance improvement initiatives including:
o TXU Energy agreed to sell the assets of TXU Fuel Company, the gas
transportation subsidiary of TXU Energy, to Energy Transfer Partners,
L.P. for $500 million in cash. As part of the transaction, TXU Energy
will have an eight-year transportation agreement with the new owner to
transport gas to TXU Energy's generation plants. The transaction is
expected to close on June 1, 2004, subject to review under the
Hart-Scott-Rodino Act. The estimated pre-tax gain related on the sale
is approximately $390 million, which is expected to be recognized over
eight years.
o On April 26, 2004, TXU Corp. purchased from the holders all $750
million outstanding principal amount of TXU Energy's Exchangeable
Preferred Membership Interests. US Holdings' carrying amount of the
security, which remains outstanding, is the $750 million principal
amount less an approximate $249 million remaining unamortized discount.
o US Holdings anticipates performance improvements as a result of various
strategic initiatives, including reduced administrative support costs,
increased base load (nuclear and coal-fired) generation plant output
and improved operating results in markets outside the historical
service territory. Management preliminarily estimates the
implementation of these strategic initiatives will result in unusual
charges of approximately $350 million ($228 million after-tax) in 2004,
including costs related to employee severance and asset impairments and
write-offs. These unusual charge amounts are subject to change and
other charges may be identified in the future. In the first quarter
of 2004, TXU Energy recorded a $17 million ($11 million after-tax)
charge, reported in other deductions, consisting of $16 million for
accrued severance benefits and $1 million in asset writedowns related
to these initiatives.
The review of US Holdings' operations and formulation of strategic
initiatives is ongoing. The phases of the plan expected to result in the unusual
charges discussed above are anticipated to be largely completed within one year.
21
Upon completion of each phase of the plan, US Holdings expects to fully describe
the actions intended to improve the financial performance of its operations. In
addition to the strategic initiatives described above and in "Facility Closings"
below, other new strategic initiatives are expected to be undertaken, which
could materially affect US Holdings' financial results.
On March 29, 2004, TXU Energy announced it will permanently retire eight
gas-fired operating units due to electric industry market conditions in Texas.
TXU Energy will also temporarily close four other gas-fired units and place them
under evaluation for retirement. The 12 units represent a total of 1,471 MW, or
more than 13 percent, of TXU Energy's gas-fired generation capacity in Texas. A
majority of the 12 units were designated as "peaking units" and operated only
during the summer for many years and have operated only sparingly during the
last two years. Most of the units were built in the 1950s. TXU Energy also
determined that it will close its Winfield North Monticello lignite mine in
Texas later this year as it is no longer economical to operate. The mine closure
will result in the need to purchase coal to fuel the adjacent generation
facility. A total charge of $8 million ($5 million after-tax) was recorded in
the first quarter for production employee severance costs and impairments
related to the various facility closures.
Discontinued Businesses - In December 2003, TXU Energy finalized a formal
plan to sell its strategic retail services business, which is engaged
principally in providing energy management services.
The consolidated financial statements for all periods presented reflect
the reclassification of the results of this business (for the periods it was
consolidated) as discontinued operations.
See Note 3 to Financial Statements for more detailed information about
discontinued operations.
Issuance of Securitization Bonds -- Upon issuance of the remaining $790
million in securitization bonds, expected in the second quarter of 2004, under a
financing order issued by the Commission, US Holdings expects to record an
estimated extraordinary gain of approximately $10 million after-tax. The gain
would arise because of an increase in the carrying value of the regulatory asset
subject to securitization due to the effect of higher interest rates on amounts
to be recovered from REPs through delivery fee surcharges.
RESULTS OF OPERATIONS
All dollar amounts in Management's Discussion and Analysis of Financial
Condition and Results of Operations and the tables therein are stated in
millions of US dollars unless otherwise indicated.
The results of operations and the related management's discussion of those
results for all periods presented reflect the discontinuance of certain
operations of US Holdings (see Note 3 to Financial Statements regarding
discontinued operations).
Consolidated US Holdings
- ------------------------
Three Months Ended March 31, 2004 Compared to Three Months Ended March 31, 2003
- -------------------------------------------------------------------------------
Reference is made to comparisons of results by business segment following
the discussion of consolidated results presented below. The business segment
comparisons provide additional detail and quantification of items affecting
financial results.
US Holdings' operating revenues increased $218 million, or 11%, to $2.1
billion in 2004. Operating revenues rose $173 million, or 10%, to $2.0 billion
in the TXU Energy segment reflecting higher retail and wholesale pricing,
partially offset by the effect of a mix shift to lower-price wholesale sales.
Revenues in the Oncor segment increased $17 million, or 3%, to $523 million
reflecting increased electricity transmission and distribution tariffs and
higher disconnect/reconnect fees, partially offset by lower volumes delivered.
Consolidated revenue growth also reflected a $28 million reduction in the
intercompany sales elimination, primarily reflecting lower sales by Oncor to TXU
Energy as sales to nonaffiliated REPs increased.
22
Net results from hedging and risk management activities, which are
reported in revenues and include both realized and unrealized gains and losses
declined $93 million to a net loss of $12 million in 2004. Changes in these
results reflect market price movements on commodity positions held to hedge
gross margin; the comparison to 2003 also reflects a decline of $18 million due
to a favorable settlement with a counterparty in 2003. Results from these
activities include net unrealized losses arising from mark-to-market accounting
of $18 million in 2004 and $17 million in 2003.
Gross Margin
Three Months Ended
March 31,
------------------------------------------------
% of % of
2004 Revenue 2003 Revenue
---- ------- ---- -------
Operating revenues..................................... $ 2,135 100% $ 1,917 100%
Costs and expenses:
Cost of energy sold and delivery fees............. 910 43% 837 44%
Operating costs................................... 343 16% 355 18%
Depreciation and amortization related to operating
assets........................................ 166 8% 168 9%
------- ----- ------- ------
Gross margin........................................... $ 716 33% $ 557 29%
======= ===== ======= ======
Gross margin is considered a key operating metric as it measures the
effect of changes in sales volumes and pricing versus the variable and fixed
costs of energy sold, whether generated or purchased, as well as the costs to
deliver energy.
The depreciation and amortization expense included in gross margin
excludes $19 million and $14 million of such expense for the three months ended
March 31, 2004 and 2003, respectively, related to assets that are not directly
used in the generation and delivery of energy.
Gross margin increased $159 million, or 29%, to $716 million in 2004. The
TXU Energy segment's gross margin increased $162 million, or 56%, to $452
million reflecting higher sale prices, which were partially offset by the effect
of lower results from hedging and risk management activities and more effective
management of gas-fired generation versus purchased power supply sourcing as
well as increased base load (nuclear and coal-fired) production, partially
offset by the effect of a mix shift from higher-margin retail sales to wholesale
sales and higher delivery fees. Lower depreciation and amortization and
operating costs also contributed to the TXU Energy segment's gross margin
improvement. The Oncor segment's gross margin decreased $2 million, or 1%, to
$265 million reflecting a slight increase in operating costs.
Depreciation and amortization (including amounts shown in the gross margin
table above) increased $3 million, or 2%, to $185 million in 2004, reflecting
investments in delivery facilities to support growth and normal replacements of
equipment and the start of amortization of regulatory assets associated with
securitization bonds issued in 2003. These effects were partially offset by a
$24 million impact of lower depreciation related to TXU Energy's generation
fleet due primarily to extensions of estimated depreciable lives to better
reflect useful lives. (See Note 1 to Financial Statements.)
SG&A expense increased $1 million, or 1%, to $192 million in 2004. The
increase primarily reflected an increase in bad debt expense, partially offset
by lower staffing and related administrative expenses, both in the TXU Energy
segment.
Franchise and revenue-based taxes decreased $8 million, or 9%, to $85
million due primarily to decreased Texas state franchise taxes.
Other income decreased $7 million to $2 million in 2004 largely reflecting
a net $6 million gain on the sale of retail commercial and industrial gas
operations in 2003.
Other deductions increased $18 million to $19 million in 2004. The 2004
amount includes $17 million in charges for employee severance and asset
writedowns associated with the performance improvement initiatives discussed
23
above under "Business." Because of the scope and magnitude of the significant
strategic initiatives underway and contemplated, TXU Energy expects to record
significant unusual charges in 2004, including asset writedowns and employee
severance costs. These charges will be classified as other deductions. The
charges described immediately above represent the effects of an initial phase of
those initiatives.
Interest income decreased $4 million to $1 million in 2004 reflecting
higher cash balances on hand in 2003 as credit facilities were drawn down in the
fourth quarter of 2002.
Interest expense and related charges decreased $6 million, or 4%, to $145
million in 2004. The decrease was driven by $17 million due to lower average
debt levels partially offset by $11 due to higher average interest rates. Higher
average rates reflected replacement of short-term borrowings with higher rate
long-term debt.
The effective income tax rate was 31.3% in 2004 compared to 27.3% in 2003.
The increase was driven by the effect of comparable (to 2003) tax benefit
amounts of depletion allowances and amortization of investment tax credits on a
higher income base in 2004.
Income from continuing operations before cumulative effect of changes in
accounting principles increased $90 million, or 102%, to $178 million in 2004.
Earnings in the TXU Energy segment rose $83 million to $117 million in 2004
driven by higher gross margin. Results in the TXU Energy segment reflected $17
million ($11 million after-tax) in charges related to the performance
improvement plan, reported in other deductions discussed above. Earnings in the
Oncor segment rose $5 million, or 8%, to $66 million in 2004, reflecting higher
disconnect/reconnect fees and lower net interest expense. Net pension and
postretirement benefit costs, reported in operating costs and SG&A expenses,
reduced income from continuing operations by $14 million in 2004 and 2003.
Loss from discontinued strategic retail services operations (see Note 3 to
Financial Statements) was $2 million in 2004 compared to income of $1 million in
2003. The decline reflected the writedown of a customer receivable in 2004.
A cumulative effect of changes in accounting principles, representing an
after-tax charge of $58 million in 2003, reflects the impact on commodity
contract mark-to-market accounting from rescission of EITF 98-10 and the
recording of asset obligations under SFAS 143. (See Note 2 to Financial
Statements.)
The accounting policies of the segments are the same as those described in
the summary of significant accounting policies. US Holdings evaluates
performance based on income from continuing operations before extraordinary
items and cumulative effect of changes in accounting principles. US Holdings
accounts for intersegment sales and transfers as if the sales or transfers were
to third parties, that is, at current market prices.
24
COMMODITY CONTRACTS AND MARK-TO-MARKET ACTIVITIES
The table below summarizes the changes in commodity contract assets and
liabilities for the three months ended March 31, 2004. The net change in these
assets and liabilities, excluding "other activity" as described below,
represents the net effect of recording unrealized gains/(losses) under
mark-to-market accounting for positions in the commodity contract portfolio.
These positions consist largely of economic hedge transactions, with speculative
trading representing a small fraction of the activity.
Three Months
Ended
March 31, 2004
----------------
Balance of net commodity contract assets at beginning of period............... $ 108
Settlements of positions included in the opening balance (1).................. (30)
Unrealized mark-to-market valuations of positions held at end of period (2)... 27
Other activity (3)............................................................ (12)
------
Balance of net commodity contract assets at end of period..................... $ 93
=====
--------------------------
(1) Represents unrealized mark-to-market valuations of these positions
recognized in earnings as of the beginning of the period.
(2) There were no significant changes in fair value attributable to
changes in valuation techniques.
(3) Includes initial values of positions involving the receipt or
payment of cash or other consideration, such as option premiums
and the amortization of such values. These activities have no
effect on unrealized mark-to-market valuations.
In addition to the net effect of recording unrealized mark-to-market gains
and losses that are reflected in changes in commodity contract assets and
liabilities, similar effects arise in the recording of unrealized
ineffectiveness mark-to-market gains and losses associated with
commodity-related cash flow hedges that are reflected in changes in cash flow
hedges and other derivative assets and liabilities. The total net effect of
recording unrealized gains and losses under mark-to-market accounting is
summarized as follows:
Three Months
Ended March 31,
-------------------
2004 2003
------ ------
Unrealized gains/(losses) related to commodity contract portfolio................ $ (3) $ (23)
Ineffectiveness gains/(losses) related to cash flow hedges....................... (15) 6
------- ------
Total unrealized gains/(losses).................................................. $ (18) $ (17)
======= =======
These amounts are included in the "hedging and risk management activities"
component of revenues.
25
Maturity Table -- Of the net commodity contract asset balance above at
March 31, 2004, the amount representing unrealized mark-to-market net gains that
have been recognized in current and prior years' earnings is $118 million. The
offsetting net liability of $25 million included in the March 31, 2004 balance
sheet is comprised principally of amounts representing current and prior years'
net receipts of cash or other consideration, including option premiums,
associated with contract positions, net of any amortization. The following table
presents the unrealized mark-to-market balance at March 31, 2004, scheduled by
contractual settlement dates of the underlying positions.
Maturity dates of unrealized net mark-to-market balances at March 31, 2004
---------------------------------------------------------------------------
Maturity less Maturity in
than Maturity of Maturity of Excess of
Source of fair value 1 year 1-3 years 4-5 years 5 years Total
- --------------------------------- ------------- ----------- ----------- ----------- -----
Prices actively quoted........... $ 72 $ - $ - $ - $ 72
Prices provided by other
external sources............. - 35 2 (2) 35
Prices based on models........... 12 (1) - - 11
---- ----- --- ---- -----
Total............................ $ 84 $ 34 $ 2 $ (2) $ 118
==== ==== === ===== =====
Percentage of total fair value... 71% 29% 2% (2)% 100%
As the above table indicates, essentially all of the unrealized
mark-to-market valuations at March 31, 2004 mature within three years. This is
reflective of the terms of the positions and the methodologies employed in
valuing positions for periods where there is less market liquidity and
visibility. The "prices actively quoted" category reflects only exchange traded
contracts with active quotes available. The "prices provided by other external
sources" category represents forward commodity positions at locations for which
over-the-counter broker quotes are available. Over-the-counter quotes for power
and natural gas generally extend through 2005 and 2010, respectively. The
"prices based on models" category contains the value of all non-exchange traded
options, valued using industry accepted option pricing models. In addition, this
category contains other contractual arrangements which may have both forward and
option components. In many instances, these contracts can be broken down into
their component parts and modeled as simple forwards and options based on prices
actively quoted. As the modeled value is ultimately the result of a combination
of prices from two or more different instruments, it has been included in this
category.
26
TXU Energy
- ----------
Financial Results
- -----------------
Three Months Ended March 31,
----------------------------
2004 2003 (a)
-------- ---------
Operating revenues............................................................... $1,964 $ 1,791
Costs and expenses:
Cost of energy sold and delivery fees....................................... 1,261 1,217
Operating costs............................................................. 168 182
Depreciation and amortization............................................... 98 113
Selling, general and administrative expenses................................ 144 142
Franchise and revenue-based taxes........................................... 26 28
Other income ............................................................... (1) (8)
Other deductions............................................................ 20 2
Interest income............................................................. (2) (2)
Interest expense and related charges ....................................... 79 77
------ -------
Total costs and expenses................................................ 1,793 1,751
------ -------
Income from continuing operations before income taxes and cumulative effect of
changes in accounting principles............................................... 171 40
Income tax expense............................................................... 54 6
------ -------
Income from continuing operations before cumulative effect of changes in
accounting principles.......................................................... $ 117 $ 34
====== =======
- -----------------
The segment includes the electricity generation, wholesale and retail energy
sales, and hedging and risk management operations of TXU Energy, operating
principally in the competitive Texas market.
(a) Prior year amounts have been restated to reflect the strategic retail
services business as discontinued operations (see Note 3 to Financial
Statements).
27
TXU Energy
- ----------
Operating Data
- --------------
Three Months Ended March 31,
----------------------------
2004 2003
------ ------
Operating statistics - volumes:
Retail electricity (GWh):
Historical service territory (a):
Residential................................................................. 7,119 8,171
Small business (b).......................................................... 2,533 3,243
------- -------
Total historical service territory........................................ 9,652 11,414
Other territories (a):
Residential................................................................. 518 362
Small business (b).......................................................... 61 71
------- -------
Total other territories................................................... 579 433
Large business and other customers.......................................... 6,709 7,551
------- -------
Total retail electricity.................................................. 16,940 19,398
Wholesale electricity (GWh).................................................... 12,936 7,451
------- -------
Total retail and wholesale electricity.................................... 29,876 26,849
======= =======
Production and purchased power (GWh):
Nuclear (base load)......................................................... 4,854 4,740
Lignite/coal (base load).................................................... 10,203 8,687
Gas/oil..................................................................... 910 3,662
Purchased power............................................................. 14,346 10,515
------- -------
Total energy supply....................................................... 30,313 27,604
Less line loss and other.................................................... 437 755
------- -------
Net energy supply......................................................... 29,876 26,849
======= =======
Base load capacity factors (%):
Nuclear..................................................................... 97.0 95.4
Lignite/coal................................................................ 83.8 73.2
Customer counts:
Retail electricity customers (end of period & in thousands - based on number of
meters):
Historical service territory (a):
Residential................................................................. 2,054 2,184
Small business (b).......................................................... 316 324
------- -------
Total historical service territory........................................ 2,370 2,508
Other territories (a):
Residential................................................................. 163 112
Small business (b).......................................................... 5 5
------- -------
Total other territories................................................... 168 117
Large business and other customers.......................................... 78 76
------- -------
Total retail electricity customers........................................ 2,616 2,701
======= =======
(a) Breakouts of historical service and other territory data are best estimates.
(b) Customers with demand of less than 1 MW annually.
28
Three Months Ended March 31,
----------------------------
2004 2003
------ ------
Operating revenues (millions of dollars):
Retail electricity revenues:
Historical service territory (a):
Residential................................................................. $ 650 $ 653
Small business (b).......................................................... 256 294
------- -------
Total historical service territory........................................ 906 947
Other territories (a):
Residential................................................................. 43 31
Small business (b).......................................................... 6 6
------- -------
Total other territories................................................... 49 37
Large business and other customers.......................................... 453 448
------- -------
Total retail electricity revenues.............................................. 1,408 1,432
Wholesale electricity revenues................................................. 475 237
Hedging and risk management activities......................................... (12) 81
Other revenues................................................................. 93 41
------- -------
Total operating revenues.................................................. $ 1,964 $ 1,791
======= =======
Weather (average for service territory) (c)
Percent of normal:
Heating degree days....................................................... 88.6% 106.6%
(a) Breakouts of historical service and other territory data are best
estimates.
(b) Customers with demand of less than 1 MW annually.
(c) Weather data is obtained from Meteorlogix, an independent company that
collects weather data from reporting stations of the National Oceanic and
Atmospheric Administration (a federal agency under the US Department of
Commerce).
29
Three Months Ended March 31,
----------------------------
2004 2003
------ ------
Fuel and Purchased Power Costs ($/MWh)
Nuclear generation....................................................... $ 4.41 $ 4.32
Lignite/coal generation.................................................. $ 13.28 $ 13.05
Gas/Oil generation and purchased power................................... $ 43.99 $ 48.17
Average total electricity supply....................................... $ 27.32 $ 29.59
Average Retail Volume (KWh)/Customer
(calculated using average no. of customers for period)
Residential.............................................................. 3,452 3,692
Small business........................................................... 8,084 10,000
Large business and other customers....................................... 91,240 98,126
Average Revenues ($/MWh)
Residential.............................................................. $ 90.70 $ 80.14
Small business........................................................... $100.83 $ 90.43
Large business and other customers....................................... $ 67.53 $ 59.38
Average Delivery Fees ($/MWh)................................................. $ 22.34 $ 19.77
Average Contribution Margin (a) ($/MWh)
Residential.............................................................. $ 41.04 $ 30.78
Small business........................................................... $ 51.17 $ 41.07
Large business........................................................... $ 17.87 $ 10.02
Estimated Share of ERCOT Retail Markets
Residential (b).......................................................... 46% 48%
Small business (b)....................................................... 32% 34%
Large business and other customers (c)................................... 41% 38%
Hedging and Risk Management Activities
Net unrealized mark to market losses..................................... $ (18) $ (17)
Realized gains........................................................... 6 98
----- ------
Total.................................................................. $ (12) $ 81
==== ======
(a) Operating revenues less cost of energy sold and delivery fees.
(b) Estimated market share is based on the number of customers that have choice.
(c) Estimated market share is based on the annualized consumption for this
overall market.
30
Energy
- ------
Three Months Ended March 31, 2004 compared to Three Months Ended March 31, 2003
- -------------------------------------------------------------------------------
Operating revenues increased $173 million, or 10%, to $2.0 billion in
2004. Total retail and wholesale electricity revenues rose $214 million, or 13%,
to $1.9 billion. This growth reflected higher retail and wholesale pricing,
partially offset by the effects of a mix shift to lower-price wholesale sales
and warmer winter weather. Total volumes increased 11%, but the effect of higher
wholesale volumes was largely offset by a decline in higher-price retail
volumes. Retail electricity revenues decreased $24 million, or 2%, to $1.4
billion reflecting a $181 million decline attributable to a 13% drop in sales
volumes, driven by the effect of competitive activity, largely offset by a $157
million increase due to higher pricing. Higher pricing reflected increased
price-to-beat rates, due to approved fuel factor increases, and higher contract
pricing in the competitive large business market, both resulting from higher
natural gas prices. Retail electricity customer counts at March 31, 2004
declined 3% from March 31, 2003 but have increased 1% from December 31, 2003.
Wholesale electricity revenues grew $238 million, or 100% to $475 million
reflecting a $174 million increase attributable to a 74% rise in sales volumes
and a $64 million increase due to the effect of increased natural gas prices on
wholesale prices. Higher wholesale electricity sales volumes reflected the
establishment of the new northeast zone in ERCOT. Because TXU Energy has a
generation plant in the new zone, wholesale sales have increased. Wholesale
power purchases also increased as a result of the establishment of the new zone.
The increase in wholesale sales volumes also reflected a partial shift in the
customer base from retail to wholesale services, particularly in the business
market.
Net results from hedging and risk management activities, which are
reported in revenues and include both realized and unrealized gains and losses,
declined $93 million from a net gain of $81 million in 2003 to a net loss of $12
million in 2004. Changes in these results reflect market price movements on
commodity positions held to hedge gross margin; the comparison to 2003 also
reflects a decline of $18 million due to a favorable settlement with a
counterparty in 2003. Because the hedging activities are intended to mitigate
the risk of commodity price movements on revenues and cost of energy sold, the
changes in such results should not be viewed in isolation, but rather taken
together with the effects of pricing and cost changes on gross margin. Results
from these activities include net unrealized losses arising from mark-to-market
accounting of $18 million in 2004 and $17 million in 2003. The majority of TXU
Energy's natural gas physical sales and purchases are in the wholesale markets
and essentially represent hedging activities. These activities are accounted for
on a net basis with the exception of retail sales to business customers, which
effective October 1, 2003 are reported gross in accordance with new accounting
rules and totaled $46 million in revenues for the first quarter of 2004. The
increase in other revenues of $52 million to $93 million in 2004 was primarily
driven by this change.
Gross Margin
Three Months Ended
March 31,
--------------------------------------------------
% of % of
2004 Revenue 2003 Revenue
------ ------- ------ -------
Operating revenues..................................... $ 1,964 100% $ 1,791 100%
Costs and expenses:
Cost of energy sold and delivery fees............. 1,261 64% 1,217 68%
Operating costs................................... 168 9% 182 10%
Depreciation and amortization related to operating
assets........................................ 83 4% 102 6%
------- ----- ------- ------
Gross margin........................................... $ 452 23% $ 290 16%
======= ===== ======= ======
The depreciation and amortization expense reported in the gross margin
amounts above excludes $15 million and $11 million of such expense for the three
months ended March 31, 2004 and 2003, respectively, related to assets that are
not directly used in the generation of electricity.
Gross margin increased $162 million, or 56%, to $452 million in 2004
reflecting higher sales prices, which were partially offset by the effect of
lower results from hedging and risk management activities, and more effective
31
management of gas-fired generation versus purchased power supply sourcing as
well as increased base load (nuclear and coal-fired) production, partially
offset by the effect of a mix shift from higher-margin retail sales to wholesale
sales and higher delivery fees. Lower depreciation and amortization and
operating costs also contributed to the gross margin improvement.
Operating costs decreased $14 million, or 8%, to $168 million in 2004. The
decline reflected the timing of repair and maintenance activities. Depreciation
and amortization related to generation assets decreased $19 million, or 19%, to
$83 million, due primarily to extensions of estimated average depreciable lives
of nuclear and lignite generation facilities' assets to better reflect their
useful lives. (See Note 1 to Financial Statements).
SG&A expenses increased $2 million, or 1%, to $144 million in 2004 largely
due to a $14 million increase in bad debt expense, partially offset by lower
staffing and related administrative expenses. The increase in bad debt expense
reflects $8 million in higher provisions in 2004 due to higher charge-offs and a
$6 million credit in 2003 related to a favorable settlement with a counterparty.
Other deductions increased $18 million to $20 million in 2004. The 2004
amount includes $17 million ($11 million after-tax) in charges for employee
severance and asset writedowns associated with the performance improvement
initiatives.
The effective income tax rate increased to 31.6% in 2004 from 15.0% in
2003. The increase was driven by the effects of comparable (to 2003) tax benefit
amounts of depletion allowances and amortization of investment tax credits on a
higher income base in 2004.
Income from continuing operations before cumulative effect of changes in
accounting principles increased $83 million to $117 million in 2004, reflecting
the higher gross margin partially offset by higher other deductions expense. Net
pension and postretirement benefit costs reduced net income by $10 million in
2004 and by $9 million in 2003.
32
Oncor
- -----
Financial Results
- -----------------
Three Months Ended March 31,
----------------------------
2004 2003
------ ------
Operating revenues............................................................. $ 523 $ 506
Costs and expenses:
Operating costs............................................................ 175 173
Depreciation and amortization.............................................. 87 69
Selling, general and administrative expenses............................... 49 49
Franchise and revenue-based taxes ......................................... 59 60
Other income .............................................................. (2) (2)
Interest income ........................................................... (12) (15)
Interest expense and related charges ...................................... 71 80
------ -------
Total costs and expenses............................................... 427 414
------ -------
Income before income taxes..................................................... 96 92
Income tax expense............................................................. 30 31
------ -------
Net Income..................................................................... $ 66 $ 61
====== =======
- ------------------------
Includes the electricity transmission and distribution business of Oncor,
which is subject to regulation by Texas authorities.
33
Oncor
- -----
Operating Data
- --------------
Three Months Ended March 31,
----------------------------
2004 2003
------ ------
Operating statistics - volumes:
Electric energy delivered (GWh)................................................... 23,631 23,908
Reliability statistics:
System Average Interruption Duration Index (SAIDI) (non-storm) (a)................ 86.28 86.90
System Average Interruption Frequency Index (SAIFI) (non-storm) (a)............... 1.26 1.32
Customer Average Interruption Duration Index (CAIDI) (non-storm) (a).............. 68.46 65.66
Electricity points of delivery (end of period and in thousands):
Electricity distribution points of delivery (based on number of meters)(b).. 2,942 2,914
Operating revenues (millions of dollars):
Electricity transmission and distribution:
Affiliated (TXU Energy)...................................................... $ 349 $ 377
Non-affiliated............................................................... 174 129
------ -------
Total operating revenues.......................................................... $ 523 $ 506
====== =======
- --------------------------
(a) SAIDI is the number of minutes the average customer is out of electric
service in a year. SAIFI is the number of times a year that the average
customer experiences an interruption to electric service. CAIDI is the
duration in minutes of the average interruption to electric service.
(b) Includes lighting sites, principally guard lights, for which TXU Energy is
the REP but are not included in TXU Energy's customer count. Such sites
totaled 99,591 and 104,851at March 31, 2004 and 2003, respectively.
Oncor
- -----
Three Months Ended March 31, 2004 compared to Three Months Ended March 31, 2003
- -------------------------------------------------------------------------------
Operating revenues increased $17 million, or 3%, to $523 million in 2004.
Higher tariffs provided $29 million of this increase, reflecting delivery fee
surcharges associated with the issuance of securitization bonds in August 2003
($14 million), transmission rate increases approved in 2003 ($9 million) and an
increase in distribution tariffs to recover higher transmission costs ($6
million). Revenue growth also included $5 million in increased
disconnect/reconnect fees, reflecting disconnections initiated by REPs on
uncollected accounts and increased consumer switching due to competitive
activity. A 1% decline in electricity volumes delivered in 2004 resulted in a
$17 million decrease in revenue, reflecting lower consumption by residential
end-users due to weather, usage efficiencies and other factors.
Gross Margin
Three Months Ended March 31,
--------------------------------------------
% of % of
2004 Revenue 2003 Revenue
------ ------- ------ -------
Operating revenues..................................... $ 523 100% $ 506 100%
Costs and expenses:
Operating costs................................... 175 33% 173 34%
Depreciation and amortization related to delivery assets 83 16% 66 13%
------- ----- ------- ------
Gross margin........................................... $ 265 51% $ 267 53%
======= ===== ======= ======
34
The depreciation and amortization expense included in gross margin
excludes $4 million and $3 million of such expense for the year ended March 31,
2004 and 2003, respectively, related to assets that are not directly used in the
delivery of energy.
Gross margin decreased $2 million, or 1%, to $265 million in 2004, as the
increase in revenues was largely offset by an increase in depreciation and
amortization expense driven by increased amortization of regulatory assets. The
effect on revenues of the delivery fee surcharges associated with the issuance
of securitization bonds is offset by the related amortization expense.
The effective income tax rate decreased to 31.2% in 2004 from 33.7% in
2003. The decrease primarily reflected the effect on postretirement benefit
expense of a non-taxable Medicare subsidy in 2004 ($6 million for the quarter).
Net income increased $5 million, or 8%, to $66 million in 2004, primarily
reflecting lower interest expense due to lower average interest rates. Net
pension and postretirement benefit costs reduced net income by $4 million in
2004 and $5 million in 2003.
COMPREHENSIVE INCOME
Cash flow hedge activity reported in other comprehensive income from
continuing operations included:
Three Months Ended March 31,
----------------------------
2004 2003
------ ------
Cash flow hedge activity (net of tax):
Net change in fair value of hedges - gains/(losses):
Commodities................................................................. $ (58) $ (78)
-------- --------
(58) (78)
Losses realized in earnings (net of tax):
Commodities................................................................. 3 48
Financing - interest rate swaps............................................. 2 1
------- -------
5 49
Net income (loss) effect of cash flow hedges reported in other
comprehensive income........................................................ $ (53) $ (29)
======== ========
FINANCIAL CONDITION
LIQUIDITY AND CAPITAL RESOURCES
Cash Flows - Cash flows provided by operating activities for the three
months ended March 31, 2004 were $436 million compared to $174 million for the
three months ended March 31, 2003. The increase of $262 million in cash flows
provided by operating activities reflected improved cash earnings (net income
adjusted for the significant noncash items identified in the statement of cash
flows) of $154 million and favorable working capital (accounts receivable,
accounts payable and inventories) changes of $102 million. The $102 million
change in working capital was driven by favorable changes in inventory levels,
improved collections of accounts receivable and timing of payments to
affiliates.
Cash flows used in financing activities were $669 million in 2004 compared
to cash flows provided by financing activities of $248 million in 2003. The
activity in 2004 primarily reflected repayments of advances from affiliates of
$622 million and the payment of $212 million in cash distributions to TXU Corp.,
partially offset by $175 million in bank borrowings. The activity in 2003
reflected issuance of $1.3 billion of long-term debt to refinance a comparable
amount of borrowings on credit facilities. Increased advances from affiliates of
$702 million were partially offset by $250 million in cash distributions to TXU
Corp. and other net debt reductions of $156 million.
35
Cash flows used in investing activities totaled $182 million and $156
million during 2004 and 2003, respectively. Capital expenditures, including
nuclear fuel, were $193 million in 2004 and $182 million in 2003. Proceeds from
the sale of certain retail commercial and industrial gas operations provided $13
million in 2003.
Depreciation and amortization expense reported in the statement of cash
flows exceeds the amount reported in the statement of income by $17 million for
2004. This difference represents amortization of nuclear fuel, which is reported
as cost of energy sold in the statement of income consistent with industry
practice, and amortization of certain regulatory assets, which is reported as
operating costs in the statement of income.
Financing Activities
Over the next twelve months, US Holdings and its subsidiaries will need to
fund ongoing working capital requirements and maturities of debt. US Holdings
and its subsidiaries have funded or intend to fund these requirements through
cash on hand, cash flows from operations, the sale of assets, short-term credit
facilities and the issuance of long-term debt or other securities.
Long-Term Debt Activity -- During the three months ended March 31, 2004,
US Holdings and its subsidiaries issued, redeemed, reacquired or made scheduled
principal payments on long-term debt as follows:
Issuances Retirements
--------- -----------
Oncor:
Transition bonds................................ $ - $ 8
------ ------
Total........................................... $ - $ 8
====== ======
See Notes 4 and to Financial Statements for further detail of debt
issuance and retirements, financing arrangements and capitalization.
Fair Value Hedges -- In March 2004, fixed-to-variable interest rate swaps
related to $400 million of debt were settled for a gain of $18 million ($12
million in cash received as of March 31, 2004). The gain will be amortized to
offset interest expense over the remaining life of the debt.
Transactions in April 2004 included settlement of fixed-to-variable
interest rate swaps related to $100 million of debt for a gain of $3.5 million,
which will be amortized over the remaining life of the debt, and the effective
conversion of $750 million of fixed rate debt to variable rates through swaps
expiring through 2013.
The mortgage of Oncor restricts its payment of dividends to the amount of
its retained earnings. Certain other debt instruments and preferred securities
of TXU Corp. and its subsidiaries contain provisions that restrict payment of
dividends during any interest or distribution payment deferral period or while
any payment default exists. At March 31, 2004, there were no restrictions on the
payment of dividends under these provisions.
Capitalization -- The capitalization ratios of US Holdings at March 31,
2004, consisted of long-term debt (less amounts due currently) of 50.9%,
exchangeable preferred membership interests (net of unamortized discount balance
of $249 million) of 3.5%, preferred stock of 0.3% and common stock equity of
45.3%.
Short-term Borrowings -- At March 31, 2004, US Holdings had outstanding
short-term borrowings consisting of advances from affiliates of $175 million at
a weighted average interest rate of 2.67%. At December 31, 2003, US Holdings had
outstanding short-term advances from affiliates of $691 million at a weighted
average interest rate of 2.92%. See Note 4 to Financial Statements for
borrowings under arrangements entered into in April 2004.
Credit Facilities -- At March 31, 2004, TXU Corp. and its US subsidiaries
had credit facilities totaling $2.8 billion and expiring in 2005 and 2008, of
which $2.1 billion was unused. These credit facilities support issuances of
letters of credit and are available to TXU Energy and Oncor for borrowings. (See
Note 4 to Financial Statements for details of arrangements.)
On April 26, 2004, a new $1.0 billion, 364-day credit facility was
established for TXU Energy. Borrowings of $785 million under this new facility
were advanced to affiliates. Amounts borrowed and repaid under the facility may
not be re-borrowed.
36
Sale of Receivables -- TXU Corp. has established an accounts receivable
securitization program. The activity under this program is accounted for as a
sale of accounts receivable in accordance with SFAS 140. Under the program, US
subsidiaries of TXU Corp. (originators) sell trade accounts receivable to TXU
Receivables Company, a consolidated wholly-owned bankruptcy remote direct
subsidiary of TXU Corp., which sells undivided interests in the purchased
accounts receivable for cash to special purpose entities established by
financial institutions. All new trade receivables under the program generated by
the originators are continuously purchased by TXU Receivables Company with the
proceeds from collections of receivables previously purchased. Funding to US
Holdings under the program at March 31, 2004 and December 31, 2003 totaled $497
million and $547 million, respectively. The decrease of $50 million primarily
reflects seasonality. See Note 4 to Financial Statements for a more complete
description of the program including the financial impact on earnings and cash
flows for the periods presented and the contingencies that could result in
termination of the program.
Registered Financing Arrangements -- US Holdings and other subsidiaries of
TXU Corp. may issue and sell additional debt and equity securities as needed,
including issuances by US Holdings of up to $25 million of cumulative preferred
stock and up to an aggregate of $924 million of additional cumulative preferred
stock, debt securities and/or preferred securities of subsidiary trusts all of
which are currently registered with the Securities and Exchange Commission for
offering pursuant to Rule 415 under the Securities Act of 1933.
Cash and Cash Equivalents -- Cash on hand totaled $390 million and $806
million at March 31, 2004 and December 31, 2003, respectively.
Credit Ratings of TXU Corp. and its US Subsidiaries-- The current credit
ratings for TXU Corp. and certain of its US subsidiaries are presented below:
TXU Corp. US Holdings Oncor TXU Energy
------------------ ----------------- ------- ---------------
(Senior Unsecured) (Senior Unsecured)(Secured)(Senior Unsecured)
S&P......................... BBB- BBB- BBB BBB
Moody's..................... Ba1 Baa3 Baa1 Baa2
Fitch....................... BBB- BBB- BBB+ BBB
Moody's and Fitch currently maintain a stable outlook for TXU Corp., US
Holdings, TXU Energy and Oncor. S&P currently maintains a negative outlook for
each such entity.
These ratings are investment grade, except for Moody's rating of TXU
Corp.'s senior unsecured debt, which is one rating level below investment grade.
A rating reflects only the view of a rating agency, and is not a
recommendation to buy, sell or hold securities. Any rating can be revised upward
or downward at any time by a rating agency if such rating agency decides that
circumstances warrant such a change.
Financial Covenants, Credit Rating Provisions and Cross Default Provisions
- -- The terms of certain financing arrangements of US Holdings and its
subsidiaries contain financial covenants that require maintenance of specified
fixed charge coverage ratios, shareholders' equity to total capitalization
ratios and leverage ratios and/or contain minimum net worth covenants. TXU
Energy's exchangeable preferred membership interests also limit its incurrence
of additional indebtedness unless a leverage ratio and interest coverage test
are met on a pro forma basis. See Note 1 to Financial Statements for discussion
of subsequent events. As of March 31, 2004, US Holdings and its subsidiaries
were in compliance with all such applicable covenants.
Certain financing and other arrangements of US Holdings and its
subsidiaries contain provisions that are specifically affected by changes in
credit ratings and also include cross default provisions. The material credit
rating and cross default provisions are described below.
Other agreements of US Holdings, including some of the credit facilities
discussed above, contain terms pursuant to which the interest rates charged
under the agreements may be adjusted depending on the credit ratings of US
Holdings or its subsidiaries.
37
Credit Rating Covenants
- -----------------------
TXU Energy has provided a guarantee of the obligations under TXU Corp.'s
lease (approximately $125 million at March 31, 2004) for its headquarters
building. In the event of a downgrade of TXU Energy's credit rating to below
investment grade, a letter of credit would need to be provided within 30 days of
any such ratings decline.
TXU Energy has entered into certain commodity contracts and lease
arrangements that in some instances give the other party the right, but not the
obligation, to request TXU Energy to post collateral in the event that its
credit rating falls below investment grade.
Based on its current commodity contract positions, if TXU Energy were
downgraded below investment grade by any specified rating agency, counterparties
would have the option to request TXU Energy to post additional collateral of
approximately $174 million.
In addition, TXU Energy has a number of other contractual arrangements
where the counterparties would have the right to request TXU Energy post
collateral. The amount TXU Energy would post under these transactions depends in
part on the value of the contracts at that time and TXU Energy's rating by each
of the three rating agencies. As of March 31, 2004, based on current contract
values, the maximum TXU Energy would post for these transactions is $253
million. Of this amount, $233 million relates to one specific counterparty that
requires all three rating agencies to downgrade TXU Energy to below investment
grade.
TXU Energy is also the obligor on leases aggregating $160 million. Under
the terms of those leases, if TXU Energy's credit rating were downgraded to
below investment grade by any specified rating agency, TXU Energy could be
required to sell the assets, assign the leases to a new obligor that is
investment grade, post a letter of credit or defease the leases.
ERCOT also has rules in place to assure adequate credit worthiness for
parties that schedule power on the ERCOT System. Under those rules, if TXU
Energy's credit rating were downgraded to below investment grade by any
specified rating agency, TXU Energy could be required to post collateral of
approximately $16 million.
Cross Default Provisions
- ------------------------
Certain financing arrangements of US Holdings contain provisions that
would result in an event of default if there were a failure under other
financing arrangements to meet payment terms or to observe other covenants that
would result in an acceleration of payments due. Such provisions are referred to
as "cross default" provisions.
A default by US Holdings or any subsidiary thereof on financing
arrangements in excess of $50 million would result in a cross default under the
$1.4 billion US Holdings five-year revolving credit facility, the $400 million
US Holdings credit facility and $30 million of TXU Mining senior notes (which
have a $1 million cross default threshold).
A default by TXU Energy or Oncor or any subsidiary thereof in respect of
indebtedness in a principal amount in excess of $50 million would result in a
cross default for such party under the TXU Energy/Oncor $450 million revolving
credit facility. Under this credit facility, a default by TXU Energy or any
subsidiary thereof would cause the maturity of outstanding balances under such
facility to be accelerated as to TXU Energy, but not as to Oncor. Also, under
this credit facility, a default by Oncor or any subsidiary thereof would cause
the maturity of outstanding balances under such facility to be accelerated as to
Oncor, but not as to TXU Energy.
A default by TXU Corp. on indebtedness in excess of $50 million would
result in a cross default under its $500 million five-year revolving credit
facility and under its new $700 million credit facility.
A default by TXU Energy or its subsidiaries on indebtedness of $50 million
or more would result in a cross default under its new $1 billion 364-day credit
facility.
38
A default or similar event under the terms of the TXU Energy exchangeable
preferred membership interests that results in the acceleration (or other
mandatory repayment prior to the mandatory redemption date) of such security or
the failure to pay such security at the mandatory redemption date would result
in a default under TXU Energy's $1.25 billion senior unsecured notes. See
subsequent event discussion in Note 1 to Financial Statements.
TXU Energy has entered into certain mining and equipment leasing
arrangements aggregating $113 million that would terminate upon the default of
any other obligations of TXU Energy owed to the lessor. In the event of a
default by TXU Mining, a subsidiary of TXU Energy, on indebtedness in excess of
$1 million, a cross default would result under the $31 million TXU Mining
leveraged lease and the lease could terminate.
The accounts receivable program also contains a cross default provision
with a threshold of $50 million applicable to each of the originators under the
program. TXU Receivables Company and TXU Business Services each have a cross
default threshold of $50,000. If either an originator, TXU Business Services or
TXU Receivables Company defaults on indebtedness of the applicable threshold,
the facility could terminate.
TXU Energy enters into energy-related contracts, the master forms of which
contain provisions whereby an event of default would occur if TXU Energy were to
default under an obligation in respect of borrowings in excess of thresholds
stated in the contracts, which thresholds vary.
US Holdings and its subsidiaries have other arrangements, including leases
with cross default provisions, the triggering of which would not result in a
significant effect on liquidity.
Long-term Contractual Obligations and Commitments -- There have been no
significant changes in contractual cash obligations of US Holdings, since
December 31, 2003 as disclosed in the 2003 Form 10-K.
OFF BALANCE SHEET ARRANGEMENTS
See discussion above under Sale of Receivables and in Note 4 to Financial
Statements.
COMMITMENTS AND CONTINGENCIES
Guarantees -- See Note 6 to Financial Statements for details of
contingencies, including guarantees.
REGULATION AND RATES
Price-to-Beat Rates - Under the 1999 Restructuring Legislation, TXU Energy
is required to continue to charge a "price-to-beat" rate established by the
Commission to residential customers in the historical service territory. TXU
Energy must continue to make price-to-beat rates available to small business
customers, however, it may offer rates other than price-to-beat, since it met
the requirements of the 40% threshold target calculation in December 2003. The
price-to-beat rate can be adjusted upward or downward twice a year, subject to
approval by the Commission, for changes in the market price of natural gas. TXU
Energy filed a request with the Commission on March 25, 2004 to change the
company's price-to-beat electricity prices for North Texas customers. The filing
reflects the significant increase in the market price of natural gas since last
summer. TXU Energy expects that the proposed increase will be approved by the
Commission and implemented in the second quarter of 2004. This adjustment would
raise an average monthly residential electric bill of a customer using 1,000
kilowatt hours by 3.4 percent or $3.39 per month. The Nymex index used to
represent the market price of natural gas futures increased 7.9 percent between
July 23, 2003 and March 25, 2004.
Transmission Rates --On March 3, 2004, Oncor filed an annual request for
interim update of its wholesale transmission rate. Oncor requested a total
annualized revenue increase of $14 million. Approximately $8.5 million of this
increase would be recovered from wholesale customers, with the remaining $5.5
million to be recovered from REPs through the retail transmission cost recovery
factor (TCRF) of Oncor's distribution rate. Oncor's new wholesale transmission
rate was approved by the Commission and became effective on April 15, 2004.
39
In March 2004, the Commission approved an estimated annualized increase of
$9 million in the TCRF component of Oncor's distribution rates charged to REPs.
The effect of Oncor's wholesale transmission rate increase described in the
preceding paragraph will be included in Oncor's September 2004 TCRF update. With
respect to the impact on US Holdings' consolidated results, the higher TCRF
results in reduced margin on TXU Energy's sales to those retail customers with
pricing that does not provide for recovery of higher delivery fees, principally
price-to-beat customers.
Summary -- Although US Holdings cannot predict future regulatory or
legislative actions or any changes in economic and securities market conditions,
no changes are expected in trends or commitments, other than those discussed in
this report, which might significantly alter its basic financial position,
results of operations or cash flows.
CHANGES IN ACCOUNTING STANDARDS
See Note 1 to Financial Statements for discussion of changes in accounting
standards.
RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
The following risk factors are being presented in consideration of
industry practice with respect to disclosure of such information in filings
under the Securities Exchange Act of 1934, as amended.
Some important factors, in addition to others specifically addressed in
this MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS, that could have a material impact on US Holdings' operations,
financial results and financial condition, and could cause TXU Corp.'s actual
results or outcomes to differ materially from any projected outcome contained in
any forward-looking statement in this report, include:
The implementation of performance improvement initiatives identified by
Mr. Wilder may not produce the desired results and may result in disruptions
arising from employee displacements and the rapid pace of changes to
organizational structure and operating practices and processes. The borrowing on
short-term credit facilities entered into in April 2004 will need to be
refinanced on a long-term basis if various strategic initiatives undertaken by
TXU Corp. are not consummated.
ERCOT is the independent system operator that is responsible for
maintaining reliable operation of the bulk electric power supply system in the
ERCOT region. Its responsibilities include the clearing and settlement of
electricity volumes and related ancillary services among the various
participants in the deregulated Texas market. Because of new processes and
systems associated with the opening of the market to competition, which continue
to be improved, there have been delays in finalizing these settlements. As a
result, US Holdings is subject to settlement adjustments from ERCOT related to
prior periods, which may result in charges or credits impacting future reported
results of operations.
US Holdings' businesses operate in changing market environments influenced
by various legislative and regulatory initiatives regarding deregulation,
regulation or restructuring of the energy industry, including deregulation of
the production and sale of electricity. US Holdings will need to adapt to these
changes and may face increasing competitive pressure.
US Holdings' businesses are subject to changes in laws (including the
Texas Public Utility Regulatory Act, as amended, the Federal Power Act, as
amended, the Atomic Energy Act, as amended, the Public Utility Regulatory
Policies Act of 1978, as amended, and the Public Utility Holding Company Act of
1935, as amended) and changing governmental policy and regulatory actions
(including those of the Commission, the FERC and the NRC) with respect to
matters including, but not limited to, operation of nuclear power facilities,
construction and operation of other power generation facilities, construction
and operation of transmission facilities, acquisition, disposal, depreciation,
and amortization of regulated assets and facilities, recovery of purchased gas
costs, decommissioning costs, and return on invested capital for US Holdings'
regulated businesses, and present or prospective wholesale and retail
competition.
40
US Holdings believes that the electricity market in ERCOT is workably
competitive. US Holdings is the largest owner of generation and has the largest
retail position in ERCOT, and, along with other market participants, is subject
to oversight by the Commission. In that connection, US Holdings and other market
participants may be subject to various competition-related rules and
regulations, including but not limited to possible price-mitigation rules, as
well as rules related to market behavior.
Existing laws and regulations governing the market structure in Texas
could be reconsidered, revised or reinterpreted, or new laws or regulations
could be adopted.
US Holdings is not guaranteed any rate of return on its capital
investments in unregulated businesses. US Holdings markets and trades power,
including power from its own production facilities, as part of its wholesale
energy sales business and portfolio management operation. US Holdings' results
of operations are likely to depend, in large part, upon prevailing retail rates,
which are set, in part, by regulatory authorities, and market prices for
electricity, gas and coal in its regional market and other competitive markets.
Market prices may fluctuate substantially over relatively short periods of time.
Demand for electricity can fluctuate dramatically, creating periods of
substantial under- or over-supply. During periods of over-supply, prices might
be depressed. Also, at times there may be political pressure, or pressure from
regulatory authorities with jurisdiction over wholesale and retail energy
commodity and transportation rates, to impose price limitations, bidding rules
and other mechanisms to address volatility and other issues in these markets.
US Holdings' regulated businesses are subject to cost-of-service
regulation and annual earnings oversight. This regulatory treatment does not
provide any assurance as to achievement of earnings levels. Oncor's rates are
regulated by the Commission based on an analysis of Oncor's costs, as reviewed
and approved in a regulatory proceeding. While rate regulation is premised on
the full recovery of prudently incurred costs and a reasonable rate of return on
invested capital, there can be no assurance that the Commission will judge all
of US Holdings' costs to have been prudently incurred or that the regulatory
process in which rates are determined will always result in rates that will
produce full recovery of US Holdings' costs and the return on invested capital
allowed by the Commission.
Some of the fuel for TXU Energy's power production facilities is purchased
under short-term contracts or on the spot market. Prices of fuel, including
natural gas, may also be volatile, and the price TXU Energy can obtain for power
sales may not change at the same rate as changes in fuel costs. In addition, TXU
Energy markets and trades natural gas and other energy related commodities, and
volatility in these markets may affect TXU Energy's costs incurred in meeting
its obligations.
Volatility in market prices for fuel and electricity may result from:
o severe or unexpected weather conditions,
o seasonality,
o changes in electricity usage,
o illiquidity in the wholesale power or other markets,
o transmission or transportation constraints, inoperability or
inefficiencies,
o availability of competitively priced alternative energy sources,
o changes in supply and demand for energy commodities,
o changes in power production capacity,
o outages at TXU Energy's power production facilities or those of its
competitors,
o changes in production and storage levels of natural gas, lignite,
coal and crude oil and refined products,
o natural disasters, wars, sabotage, terrorist acts, embargoes and other
catastrophic events, and
o federal, state, local and foreign energy, environmental and other
regulation and legislation.
All but one of TXU Energy's facilities for power production are located in
the ERCOT region, a market with limited interconnections to other markets.
Electricity prices in the ERCOT region are correlated to gas prices because
gas-fired plant is the marginal cost unit during the majority of the year in the
ERCOT region. Accordingly, the contribution to earnings and the value of TXU
Energy's base load power production is dependent in significant part upon the
price of gas. TXU Energy cannot fully hedge the risk associated with dependency
on gas because of the expected useful life of TXU Energy's power production
assets and the size of its position relative to market liquidity.
41
To manage its near-term financial exposure related to commodity price
fluctuations, TXU Energy routinely enters into contracts to hedge portions of
its purchase and sale commitments, weather positions, fuel requirements and
inventories of natural gas, lignite, coal, crude oil and refined products, and
other commodities, within established risk management guidelines. As part of
this strategy, TXU Energy routinely utilizes fixed-price forward physical
purchase and sales contracts, futures, financial swaps and option contracts
traded in the over-the-counter markets or on exchanges. However, TXU Energy can
normally cover only a small portion of the exposure of its assets and positions
to market price volatility, and the coverage will vary over time. To the extent
TXU Energy has unhedged positions, fluctuating commodity prices can materially
impact TXU Energy's results of operations and financial position, either
favorably or unfavorably.
Although TXU Energy devotes a considerable amount of management time and
effort to the establishment of risk management procedures as well as the ongoing
review of the implementation of these procedures, the procedures it has in place
may not always be followed or may not always function as planned and cannot
eliminate all the risks associated with these activities.
US Holdings might not be able to satisfy all of its guarantees and
indemnification obligations, including those related to hedging and risk
management activities, if they were to come due at the same time.
TXU Energy's hedging and risk management activities are exposed to the
risk that counterparties that owe TXU Energy money, energy or other commodities
as a result of market transactions will not perform their obligations. The
likelihood that certain counterparties may fail to perform their obligations has
increased due to financial difficulties, brought on by various factors including
improper or illegal accounting and business practices, affecting some
participants in the industry. Some of these financial difficulties have been so
severe that certain industry participants have filed for bankruptcy protection
or are facing the possibility of doing so. Should the counterparties to these
arrangements fail to perform, TXU Energy might be forced to acquire alternative
hedging arrangements or honor the underlying commitment at then-current market
prices. In such event, TXU Energy might incur losses in addition to amounts, if
any, already paid to the counterparties. ERCOT market participants are also
exposed to risks that another ERCOT market participant may default in its
obligations to pay ERCOT for power taken in the ancillary services market, in
which case such costs, to the extent not offset by posted security and other
protections available to ERCOT, may be allocated to various non-defaulting ERCOT
market participants.
The current credit ratings for US Holdings' and its subsidiaries'
long-term debt are investment grade. A rating reflects only the view of a rating
agency, and it is not a recommendation to buy, sell or hold securities. Any
rating can be revised upward or downward at any time by a rating agency if such
rating agency decides that circumstances warrant such a change. If S&P, Moody's
or Fitch were to downgrade US Holdings' and/or its subsidiaries' long-term
ratings, particularly below investment grade, borrowing costs would increase and
the potential pool of investors and funding sources would likely decrease. If
the downgrade were below investment grade, liquidity demands would be triggered
by the terms of a number of commodity contracts, leases and other agreements.
Most of US Holdings' large customers, suppliers and counterparties require
sufficient creditworthiness in order to enter into transactions. If US Holdings'
subsidiaries' ratings were to decline to below investment grade, costs to
operate the power and gas businesses would increase because counterparties may
require the posting of collateral in the form of cash-related instruments, or
counterparties may decline to do business with US Holdings' subsidiaries.
In addition, as discussed in the 2003 Form 10-K and elsewhere in this
report, the terms of certain financing and other arrangements contain provisions
that are specifically affected by changes in credit ratings and could require
the posting of collateral, the repayment of indebtedness or the payment of other
amounts.
42
The operation of power production and energy transportation facilities
involves many risks, including start up risks, breakdown or failure of
facilities, lack of sufficient capital to maintain the facilities, the
dependence on a specific fuel source or the impact of unusual or adverse weather
conditions or other natural events, as well as the risk of performance below
expected levels of output or efficiency, the occurrence of any of which could
result in lost revenues and/or increased expenses. A significant portion of US
Holdings' facilities was constructed many years ago. In particular, older
generating equipment, even if maintained in accordance with good engineering
practices, may require significant capital expenditures to keep it operating at
peak efficiency. The risk of increased maintenance and capital expenditures
arises from (a) increased starting and stopping of generation equipment due to
the volatility of the competitive market, (b) any unexpected failure to produce
power, including failure caused by breakdown or forced outage, and (c) repairing
damage to facilities due to storms, natural disasters, wars, terrorist acts and
other catastrophic events. Further, US Holdings' ability to successfully and
timely complete capital improvements to existing facilities or other capital
projects is contingent upon many variables and subject to substantial risks.
Should any such efforts be unsuccessful, US Holdings could be subject to
additional costs and/or the write-off of its investment in the project or
improvement.
Insurance, warranties or performance guarantees may not cover all or any
of the lost revenues or increased expenses, including the cost of replacement
power. Likewise, US Holdings' ability to obtain insurance, and the cost of and
coverage provided by such insurance, could be affected by events outside its
control.
The ownership and operation of nuclear facilities, including TXU Energy's
ownership and operation of the Comanche Peak generation plant, involve certain
risks. These risks include: mechanical or structural problems; inadequacy or
lapses in maintenance protocols; the impairment of reactor operation and safety
systems due to human error; the costs of storage, handling and disposal of
nuclear materials; limitations on the amounts and types of insurance coverage
commercially available; and uncertainties with respect to the technological and
financial aspects of decommissioning nuclear facilities at the end of their
useful lives. The following are among the more significant of these risks:
o Operational Risk - Operations at any nuclear power production plant
could degrade to the point where the plant would have to be shut down.
If this were to happen, the process of identifying and correcting the
causes of the operational downgrade to return the plant to operation
could require significant time and expense, resulting in both lost
revenue and increased fuel and purchased power expense to meet supply
commitments. Rather than incurring substantial costs to restart the
plant, the plant may be shut down. Furthermore, a shut-down or failure
at any other nuclear plant could cause regulators to require a
shut-down or reduced availability at Comanche Peak.
o Regulatory Risk - The NRC may modify, suspend or revoke licenses and
impose civil penalties for failure to comply with the Atomic Energy
Act, the regulations under it or the terms of the licenses of nuclear
facilities. Unless extended, the NRC operating licenses for Comanche
Peak Unit 1 and Unit 2 will expire in 2030 and 2033, respectively.
Changes in regulations by the NRC could require a substantial increase
in capital expenditures or result in increased operating or
decommissioning costs.
o Nuclear Accident Risk - Although the safety record of Comanche Peak and
other nuclear reactors generally has been very good, accidents and
other unforeseen problems have occurred both in the US and elsewhere.
The consequences of an accident can be severe and include loss of life
and property damage. Any resulting liability from a nuclear accident
could exceed US Holdings' resources, including insurance coverage.
US Holdings is subject to extensive environmental regulation by
governmental authorities. In operating its facilities, US Holdings is required
to comply with numerous environmental laws and regulations, and to obtain
numerous governmental permits. US Holdings may incur significant additional
costs to comply with these requirements. If US Holdings fails to comply with
these requirements, it could be subject to civil or criminal liability and
fines. Existing environmental regulations could be revised or reinterpreted, new
laws and regulations could be adopted or become applicable to US Holdings or its
facilities, and future changes in environmental laws and regulations could
occur, including potential regulatory and enforcement developments related to
air emissions.
43
US Holdings may not be able to obtain or maintain all required
environmental regulatory approvals. If there is a delay in obtaining any
required environmental regulatory approvals or if US Holdings fails to obtain,
maintain or comply with any such approval, the operation of its facilities could
be stopped or become subject to additional costs. Further, at some of TXU
Energy's older facilities, including base load lignite and coal plants, it may
be uneconomical for TXU Energy to install the necessary equipment, which may
cause TXU Energy to shut down those facilities.
In addition, US Holdings may be responsible for any on-site liabilities
associated with the environmental condition of facilities that it has acquired
or developed, regardless of when the liabilities arose and whether they are
known or unknown. In connection with certain acquisitions and sales of assets,
US Holdings may obtain, or be required to provide, indemnification against
certain environmental liabilities. Another party could fail to meet its
indemnification obligations to US Holdings.
TXU Energy is obligated to offer the price-to-beat rate to requesting
residential and small business customers in the historical service territory of
its incumbent utility through January 1, 2007. TXU Energy is not permitted to
offer electricity to the residential customers in the historical service
territory at a price other than the price-to-beat rate until January 1, 2005,
unless before that date the Commission determines that 40% or more of the amount
of electric power consumed by residential customers in that area is committed to
be served by REPs other than TXU Energy. Because TXU Energy will not have the
same level of residential customer price flexibility as competitors in the
historical service territory, TXU Energy could lose a significant number of
these customers to other providers. In addition, at times, during this period,
if the market price of power is lower than TXU Energy's cost to produce power,
TXU Energy would have a limited ability to mitigate the loss of margin caused by
its loss of customers by selling power from its power production facilities.
The initial price-to-beat rates for the affiliated REPs, including US
Holdings', were established by the Commission on December 7, 2001. Pursuant to
Commission regulations, the initial price-to-beat rate for each affiliated REP
was 6% less than the average rates in effect for its incumbent utility on
January 1, 1999, adjusted to take into account a new fuel factor as of December
31, 2001.
Other REPs are allowed to offer electricity to US Holdings' residential
customers at any price. The margin or "headroom" available in the price-to-beat
rate for any REP equals the difference between the price-to-beat rate and the
sum of delivery charges and the price that REP pays for power. Headroom may be a
positive or a negative number. The higher the amount of positive headroom for
competitive REPs in a given market, the more incentive those REPs would have to
compete in providing retail electric services in that market, which may result
in US Holdings losing customers to competitive REPs.
The results of US Holdings' retail electric operations in the historical
service territory is largely dependent upon the amount of headroom available to
US Holdings and the competitive REPs in US Holdings' price-to-beat rate. Since
headroom is dependent, in part, on power production and purchase costs, US
Holdings does not know nor can it estimate the amount of headroom that it or
other REPs will have in US Holdings' price-to-beat rate or in the price-to-beat
rate for the affiliated REP in each of the other Texas retail electric markets.
There is no assurance that future adjustments to US Holdings'
price-to-beat rate will be adequate to cover future increases in its costs of
electricity to serve its price-to-beat rate customers or that US Holdings'
price-to-beat rate will not result in negative headroom in the future.
In most retail electric markets outside the historical service territory,
US Holdings' principal competitor may be the retail affiliate of the local
incumbent utility company. The incumbent retail affiliates have the advantage of
long-standing relationships with their customers. In addition to competition
from the incumbent utilities and their affiliates, US Holdings may face
competition from a number of other energy service providers, or other energy
industry participants, who may develop businesses that will compete with US
Holdings and nationally branded providers of consumer products and services.
Some of these competitors or potential competitors may be larger and better
capitalized than US Holdings. If there is inadequate margin in these retail
electric markets, it may not be profitable for US Holdings to enter these
markets.
44
US Holdings depends on transmission and distribution facilities owned and
operated by other utilities, as well as its own such facilities, to deliver the
electricity it produces and sells to consumers, as well as to other REPs. If
transmission capacity is inadequate, US Holdings' ability to sell and deliver
electricity may be hindered, it may have to forgo sales or it may have to buy
more expensive wholesale electricity that is available in the
capacity-constrained area. In particular, during some periods transmission
access is constrained to some areas of the Dallas-Fort Worth metroplex. US
Holdings expects to have a significant number of customers inside these
constrained areas. The cost to provide service to these customers may exceed the
cost to provide service to other customers, resulting in lower headroom. In
addition, any infrastructure failure that interrupts or impairs delivery of
electricity to US Holdings' customers could negatively impact the satisfaction
of its customers with its service.
US Holdings offers its customers a bundle of services that include, at a
minimum, the electric commodity itself plus transmission, distribution and
related services. The prices US Holdings charges for this bundle of services or
for the various components of the bundle, either of which may be fixed by
contract with the customer for a period of time, could differ from US Holdings'
underlying cost to obtain the commodities or services.
The information systems and processes necessary to support risk
management, sales, customer service and energy procurement and supply in
competitive retail markets in Texas and elsewhere are new, complex and
extensive. US Holdings is refining these systems and processes, and they may
prove more expensive to refine than planned and may not work as planned.
Research and development activities are ongoing to improve existing and
alternative technologies to produce electricity, including gas turbines, fuel
cells, microturbines and photovoltaic (solar) cells. It is possible that
advances in these or other alternative technologies will reduce the costs of
electricity production from these technologies to a level that will enable these
technologies to compete effectively with electricity production from traditional
power plants like US Holdings'. While demand for electric energy services is
generally increasing throughout the US, the rate of construction and development
of new, more efficient power production facilities may exceed increases in
demand in some regional electric markets. The commencement of commercial
operation of new facilities in the regional markets where US Holdings has
facilities will likely increase the competitiveness of the wholesale power
market in those regions. In addition, the market value of US Holdings' power
production and/or energy transportation facilities may be significantly reduced.
Also, electricity demand could be reduced by increased conservation efforts and
advances in technology, which could likewise significantly reduce the value of
US Holdings' facilities. Changes in technology could also alter the channels
through which retail electric customers buy electricity.
US Holdings is a holding company and conducts its operations primarily
through wholly-owned subsidiaries. Substantially all of US Holdings'
consolidated assets are held by these subsidiaries. Accordingly, US Holdings'
cash flows and ability to meet its obligations and to pay dividends are largely
dependent upon the earnings of its subsidiaries and the distribution or other
payment of such earnings to US Holdings in the form of distributions, loans or
advances, and repayment of loans or advances from US Holdings. The subsidiaries
are separate and distinct legal entities and have no obligation to provide US
Holdings with funds for its payment obligations, whether by dividends,
distributions, loans or otherwise.
Because US Holdings is a holding company, its obligations to its creditors
are structurally subordinated to all existing and future liabilities and
existing and future preferred stock of its subsidiaries. Therefore, US Holdings'
rights and the rights of its creditors to participate in the assets of any
subsidiary in the event that such a subsidiary is liquidated or reorganized are
subject to the prior claims of such subsidiary's creditors and holders of its
preferred stock. To the extent that US Holdings may be a creditor with
recognized claims against any such subsidiary, its claims would still be subject
to the prior claims of such subsidiary's creditors to the extent that they are
secured or senior to those held by US Holdings.
The inability to raise capital on favorable terms, particularly during
times of uncertainty in the financial markets, could impact US Holdings' ability
to sustain and grow its businesses, which are capital intensive, and would
increase its capital costs. US Holdings relies on access to financial markets as
a significant source of liquidity for capital requirements not satisfied by cash
on hand or operating cash flows. US Holdings' access to the financial markets
could be adversely impacted by various factors, such as:
45
o changes in credit markets that reduce available credit or the ability
to renew existing liquidity facilities on acceptable terms;
o inability to access commercial paper markets;
o a deterioration of US Holdings' credit or a reduction in US Holdings'
credit ratings or the credit ratings of its subsidiaries;
o extreme volatility in US Holdings' markets that increases margin or
credit requirements;
o a material breakdown in US Holdings' risk management procedures;
o prolonged delays in billing and payment resulting from delays in
switching customers from one REP to another; and
o the occurrence of material adverse changes in US Holdings' businesses
that restrict US Holdings' ability to access its liquidity facilities.
A lack of necessary capital and cash reserves could adversely impact the
evaluation of US Holdings' credit worthiness by counterparties and rating
agencies. Further, concerns on the part of counterparties regarding US Holdings'
liquidity and credit could limit its portfolio management activities.
As a result of the energy crisis in California during 2001, the recent
volatility of natural gas prices in North America, the bankruptcy filing by
Enron Corporation, accounting irregularities of public companies, and
investigations by governmental authorities into energy trading activities,
companies in the regulated and non-regulated utility businesses have been under
a generally increased amount of public and regulatory scrutiny. Accounting
irregularities at certain companies in the industry have caused regulators and
legislators to review current accounting practices and financial disclosures.
The capital markets and ratings agencies also have increased their level of
scrutiny. Additionally, allegations against various energy trading companies of
"round trip" or "wash" transactions, which involve the simultaneous buying and
selling of the same amount of power at the same price and delivery location and
provide no true economic benefit, power market manipulation and inaccurate power
and commodity price reporting have had a negative effect on the industry. US
Holdings believes that it is complying with all applicable laws, but it is
difficult or impossible to predict or control what effect these events may have
on US Holdings' financial condition or access to the capital markets.
Additionally, it is unclear what laws and regulations may develop, and US
Holdings cannot predict the ultimate impact of any future changes in accounting
regulations or practices in general with respect to public companies, the energy
industry or its operations specifically.
The issues and associated risks and uncertainties described above are not
the only ones US Holdings may face. Additional issues may arise or become
material as the energy industry evolves.
FORWARD-LOOKING STATEMENTS
This report and other presentations made by US Holdings and its
subsidiaries (collectively, US Holdings) contain forward-looking statements
within the meaning of Section 21E of the Securities Exchange Act of 1934, as
amended. Although US Holdings believes that in making any such statement its
expectations are based on reasonable assumptions, any such statement involves
uncertainties and is qualified in its entirety by reference to the risks
discussed above under "RISK FACTORS THAT MAY AFFECT FUTURE RESULTS" and factors
contained in the Forward-Looking Statements section of Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations in US
Holdings' 2003 Form 10-K, that could cause the actual results of US Holdings to
differ materially from those projected in such forward-looking statements.
Any forward-looking statement speaks only as of the date on which it is
made, and US Holdings undertakes no obligation to update any forward-looking
statement to reflect events or circumstances after the date on which it is made
or to reflect the occurrence of unanticipated events. New factors emerge from
time to time, and it is not possible for US Holdings to predict all of them; nor
can US Holdings assess the impact of each such factor or the extent to which any
factor, or combination of factors, may cause results to differ materially from
those contained in any forward-looking statement.
46
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Except as discussed below, the information required hereunder is not
significantly different from the information set forth in Item 7A. Quantitative
and Qualitative Disclosures About Market Risk included in the 2003 Form 10-K and
is therefore not presented herein.
COMMODITY PRICE RISK
VaR for Energy Contracts Subject to Mark-to-Market Accounting -- This
measurement estimates the potential loss in value, due to changes in market
conditions, of all energy-related contracts subject to mark-to-market
accounting, based on a specific confidence level and an assumed holding period.
Assumptions in determining this VaR include using a 95% confidence level and a
five-day holding period. A probabilistic simulation methodology is used to
calculate VaR, and is considered by management to be the most effective way to
estimate changes in a portfolio's value based on assumed market conditions for
liquid markets.
March 31, December 31,
2004 2003
---------- ------------
Period-end MtM VaR..................................................... $ 29 $ 15
Average Month-end MtM VaR:............................................. $ 21 $ 25
Portfolio VaR -- Represents the estimated potential loss in value, due to
changes in market conditions, of the entire energy portfolio, including owned
generation assets, estimates of retail sales load and all contractual positions
(the portfolio assets). The Portfolio VaR calculations represent a ten year view
of owned assets based on the nature of their particular markets. If the life of
an asset extends beyond the ten year duration period, the VaR calculation does
not measure the associated risk inherent in the asset over its full life.
Assumptions in determining the total Portfolio VaR include using a 95%
confidence level and a five-day holding period and includes both mark-to-market
and accrual positions.
March 31 December 31,
2004 2003
--------- ------------
Period-end Portfolio VaR............................................ $ 177 $ 199
Average Month-end Portfolio VaR..................................... $ 189 $ 181
Other Risk Measures -- The metrics appearing below provide information
regarding the effect of changes in energy market conditions on earnings and cash
flow of TXU Energy.
Earnings at Risk (EaR) -- EaR measures the estimated potential loss of
expected pretax earnings for the year presented due to changes in market
conditions. EaR metrics include the owned generation assets, estimates of retail
load and all contractual positions except for accrual positions expected to be
settled beyond the fiscal year. Assumptions include using a 95% confidence level
over a five-day holding period under normal market conditions.
47
Cash Flow at Risk (CFaR) -- CFaR measures the estimated potential loss of
expected cash flow over the next six months, due to changes in market
conditions. CFaR metrics include all owned generation assets, estimates of
retail load and all contractual positions that impact cash flow during the next
six months. Assumptions include using a 99% confidence level over a six-month
holding period under normal market conditions.
March 31, December 31,
2004 2003
--------- ------------
EaR .............................................................. $ 31 $ 15
CFaR ............................................................. $ 83 $ 67
INTEREST RATE RISK
See Note 4 to Financial Statements for a discussion of the issuance and
retirement of debt since December 31, 2003.
CREDIT RISK
Concentration of Credit Risk -- The exposure to credit risk from large
business customers and hedging counterparties, excluding credit collateral, as
of March 31, 2004, is $980 million net of standardized master netting contracts
and agreements that provide the right of offset of positive and negative credit
exposures with individual customers and counterparties. When considering
collateral currently held by US Holdings (cash, letters of credit and other
security interests), the net credit exposure is $836 million. Of this amount,
approximately 81% of the associated exposure is with investment grade customers
and counterparties, as determined using publicly available information including
major rating agencies' published ratings and US Holdings' internal credit
evaluation process. Those customers and counterparties without an S&P rating of
at least BBB- or similar rating from another major rating agency are rated using
internal credit methodologies and credit scoring models to estimate an S&P
equivalent rating. US Holdings routinely monitors and manages its credit
exposure to these customers and counterparties on this basis.
The following table presents the distribution of credit exposure as of
March 31, 2004, for trade accounts receivable from large business customers,
commodity contract assets and other derivative assets that arise primarily from
hedging activities, by investment grade and noninvestment grade, credit quality
and maturity.
Exposure by Maturity
Exposure -----------------------------------------
before Greater
Credit Credit 2 years or Between than 5
Collateral Collateral Net Exposure less 2-5 years years Total
---------- ---------- ------------ ---- --------- ----- -----
Investment grade $ 721 $ 43 $ 678 $ 559 $ 66 $ 53 $ 678
Noninvestment grade 259 101 158 139 11 8 158
------- ------ ----- ----- ---- ----- -----
Totals $ 980 $ 144 $ 836 $ 698 $ 77 $ 61 $ 836
======= ====== ===== ===== ==== ===== =====
Investment grade 74% 30% 81%
Noninvestment grade 26% 70% 19%
US Holdings had no exposure to any one customer or counterparty greater
than 10% of the net exposure of $836 million at March 31, 2004. Additionally,
approximately 83% of the credit exposure, net of collateral held, has a maturity
date of two years or less. US Holdings does not anticipate any material adverse
effect on its financial position or results of operations as a result of
non-performance by any customer or counterparty.
48
ITEM 4. CONTROLS AND PROCEDURES
An evaluation was performed under the supervision and with the
participation of US Holdings' management, including the principal executive
officer and principal financial officer, of the effectiveness of the design and
operation of the disclosure controls and procedures in effect as of the end of
the current period included in this quarterly report. Based on the evaluation
performed, US Holdings' management, including the principal executive officer
and principal financial officer, concluded that the disclosure controls and
procedures were effective. During the most recent fiscal quarter covered by this
quarterly report, there has been no change in US Holdings' internal control over
financial reporting that has materially affected, or is reasonably likely to
materially affect, US Holdings' internal control over financial reporting.
49
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits provided as part of Part II are:
Exhibits Previously Filed*
-------- ---------------- As
With File Exhibit
Number -------
------
15 -- Letter from independent accountants as to unaudited interim
financial information.
(31) Rule 13a - 14(a)/15d - 14(a) Certifications.
31(a) -- Certification of C. John Wilder, principal executive officer
of TXU US Holdings Company, pursuant to Rule
13a-14(a)/15d-14(a) of the Securities Act of 1934, as
adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
31(b) -- Certification of H. Dan Farell, principal financial officer
of TXU US Holdings Company, pursuant to Rule
13a-14(a)/15d-14(a) of the Securities Act of 1934, as
adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
(32) Section 1350 Certifications.
32(a) -- Certification of C. John Wilder, principal executive officer
of TXU US Holdings Company, pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32(b) -- Certification of H. Dan Farell, principal financial officer
of TXU US Holdings Company, pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(99) Additional Exhibits
99 Condensed Statements of Consolidated Income -
Twelve Months Ended March 31, 2004.
- --------------------------
* Incorporated herein by reference.
(b) Reports on Form 8-K furnished or filed since December 31, 2003:
Date of Report Item Reported
-------------- -------------
March 30, 2004 Item 5. Other Events and Regulation FD Disclosure
April 26, 2004 Item 5. Other Events and Regulation FD Disclosure
50
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
TXU US HOLDINGS COMPANY
By /s/ David H. Anderson
--------------------------------
David H. Anderson
Vice President and Controller
Date: May 14, 2004
51