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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________.
Commission Registrant; State of Incorporation; IRS Employer
File Number Address; and Telephone Number Identification Number
----------- ---------------------------------- ---------------------
1-13739 UNISOURCE ENERGY CORPORATION 86-0786732
(An Arizona Corporation)
220 West Sixth Street
Tucson, AZ 85701
(520) 571-4000
1-5924 TUCSON ELECTRIC POWER COMPANY 86-0062700
(An Arizona Corporation)
220 West Sixth Street
Tucson, AZ 85701
(520) 571-4000
Securities registered pursuant to Section 12(b) of the Act:
Name of Each Exchange
Registrant Title of Each Class on Which Registered
---------- ------------------- ---------------------
UniSource Energy Common Stock, no par New York Stock
Corporation value and Preferred Exchange
Share Purchase Rights Pacific Stock
Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether each registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No
----- -----
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of each registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of UniSource Energy Corporation voting Common
Stock held by non-affiliates of the registrant was $430,762,120.88 based on
the last reported sale price thereof on the consolidated tape on February 24,
2000.
At February 24, 2000, 32,357,718 shares of UniSource Energy Corporation
Common Stock, no par value (the only class of Common Stock), were
outstanding.
UniSource Energy Corporation is the sole holder of the 32,139,434 shares
of the outstanding Common Stock of Tucson Electric Power Company.
Documents incorporated by reference: Specified portions of UniSource
Energy Corporation's Proxy Statement relating to the 2000 Annual Meeting of
Shareholders are incorporated by reference into PART III.
- -----------------------------------------------------------------------------
This combined Form 10-K is separately filed by UniSource Energy
Corporation and Tucson Electric Power Company. Information
contained in this document relating to Tucson Electric Power
Company is filed by UniSource Energy Corporation and separately by
Tucson Electric Power Company on its own behalf. Tucson Electric
Power Company makes no representation as to information relating to
UniSource Energy Corporation or its subsidiaries, except as it may
relate to Tucson Electric Power Company.
TABLE OF CONTENTS
Page
----
Definitions....................................................vi
- PART I -
Item 1. - Business
The Company................................................... 1
Electric Utility Operations
Peak Demand................................................. 3
Customers................................................... 3
Sales for Resale............................................ 4
Generating and Other Resources
TEP Generating Resources.................................. 5
Power Exchange Agreement.................................. 7
Other Purchases and Interconnections...................... 7
Future Generating Resources............................... 7
Rates and Regulation
General................................................... 8
ACC Holding Company Order................................. 8
TEP's Settlement Agreement and Retail Electric
Competition Rules........................................ 9
State and Federal Legislation on Retail Competition.......10
Transmission Access.......................................10
Other Rate Matters........................................11
Fuel Supply
Coal......................................................12
Springerville Coal Handling Facilities....................13
Natural Gas...............................................13
Water Supply................................................13
Environmental Matters.......................................13
Millennium Energy Businesses..................................14
Employees.....................................................15
TEP's Utility Operating Statistics............................16
Item 2. - Properties...........................................17
Item 3. - Legal Proceedings
Tax Assessments...............................................18
Litigation Related to ACC Orders and Retail Competition.......18
Item 4. - Submission of Matters to a Vote of Security Holders..18
- PART II -
Item 5. - Market for Registrant's Common Equity and Related
Stockholder Matters..................................19
Item 6. - Selected Consolidated Financial Data
UniSource Energy..............................................20
TEP...........................................................21
TABLE OF CONTENTS
(continued)
Page
----
Item 7. - Management's Discussion and Analysis of Financial
Condition and Results of Operations
Overview....................................................22
Factors Affecting Results of Operations
Competition
Retail....................................................23
Wholesale.................................................24
Regulatory Matters..........................................24
Market Risks................................................25
Impact of the Year 2000 on Computer Systems and
Applications................................................27
Results of Operations.........................................27
Contribution by Business Segment............................27
Utility Sales and Revenues..................................28
Expenses....................................................29
Other Income (Deductions)...................................30
Reversal of Loss Provision................................30
Interest Income...........................................30
Income (Losses) from Millennium Energy Businesses.........30
Interest Expense............................................31
Extraordinary Income - Net of Tax...........................31
Results of Millennium Energy Businesses.....................32
Dividends on Common Stock
UniSource Energy............................................33
TEP.........................................................33
Millennium..................................................34
Income Tax Position...........................................34
Liquidity and Capital Resources
Cash Flows
Overview of UniSource Energy Cash Flows and Liquidity.....34
TEP Cash Flows and Liquidity..............................35
Investing and Financing Activities
TEP - Electric Utility
Capital Expenditures.................................36
Bond Issuance and Redemption.........................36
TEP Bank Credit Agreement............................36
Springerville Common Facilities Leases...............37
Tax-Exempt Local Furnishing Bonds....................37
Restrictive Covenants................................38
Millennium - Unregulated Energy Businesses
Sale of NewEnergy, Inc...............................39
Capital Requirements.................................39
UniSource Energy - Parent Company Financing Activities
Promissory Note to TEP...............................40
Investment Plus Plan.................................40
Restrictions on Proceeds of Equity Issuance..........40
Safe Harbor for Forward-Looking Statements..................40
Item 7A. - Quantitative and Qualitative Disclosures about
Market Risk.........................................41
TABLE OF CONTENTS
(continued)
Page
----
Item 8. - Consolidated Financial Statements and
Supplementary Data...................................41
Independent Auditors' Report..................................42
Report of Independent Accountants.............................43
UniSource Energy Corporation
Consolidated Statements of Income...........................44
Consolidated Statements of Cash Flows.......................45
Consolidated Balance Sheets.................................46
Consolidated Statements of Capitalization...................47
Consolidated Statements of Changes in Stockholders' Equity..48
Tucson Electric Power Company
Consolidated Statements of Income...........................49
Consolidated Statements of Cash Flows.......................50
Consolidated Balance Sheets.................................51
Consolidated Statements of Capitalization...................52
Consolidated Statements of Changes in Stockholder's Equity..53
Notes to Consolidated Financial Statements
Note 1. Nature of Operations and Summary of Significant
Accounting Policies
Nature of Operations........................................54
Basis of Presentation.......................................54
Use of Accounting Estimates.................................55
Regulation..................................................55
TEP Utility Plant...........................................55
TEP Utility Plant Under Capital Leases......................55
Long-Term Debt..............................................56
Utility Operating Revenues..................................56
Fuel Costs..................................................56
Income Taxes................................................57
Emission Allowances.........................................57
New Accounting Standards....................................57
Reclassifications...........................................57
Note 2. Regulatory Matters
November 1999 ACC Approval of Settlement Agreement..........59
Accounting Implications.....................................60
Note 3. Segment and Related Information.......................62
Note 4. Millennium Energy Businesses..........................64
International Power Projects - Nations Energy Corporation...64
Energy Marketing - MEH Corporation..........................65
Photovoltaic Manufacturing - Advanced Energy
Technologies, Inc..........................................66
Note 5. TEP's Utility Plant and Jointly-Owned Facilities
Utility Plant...............................................66
Jointly-Owned Facilities....................................67
Note 6. Long-Term Debt and Capital Lease Obligations
TEP Long-Term Debt..........................................67
Bonds -- 1999.............................................67
Sale and Redemption of Bonds - 1998.......................67
TEP Other Long-Term Debt and Agreements
First and Second Mortgage...................................68
Bank Credit Agreement.......................................68
Capital Lease Obligations...................................68
Maturities and Sinking Fund Requirements....................69
TABLE OF CONTENTS
(concluded)
Note 7. Fair Value of TEP's Financial Instruments.............69
Note 8 Dividend Limitations...................................70
Note 9. Commitments and Contingencies
TEP Commitments - Fuel Purchase.............................70
TEP Commitments - Environmental Regulation..................71
Contingencies
Income Tax Assessments....................................71
Resolution of Contingency - Arizona Sales Tax
Assessments..............................................72
Note 10. Income Taxes.........................................73
Note 11. Employee Benefits Plans..............................75
Pension and Other Postretirement Benefit Plans..............75
Defined Contribution Plans..................................77
Stock Option Plans..........................................77
Note 12. Warrants.............................................79
Note 13. Shareholder Rights Plan..............................79
Note 14. Supplemental Cash Flow Information...................80
Note 15. Earnings Per Share (EPS).............................82
Note 16. Quarterly Financial Data (Unaudited).................83
Item 9. - Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure..................85
- PART III -
Item 10. - Directors and Executive Officers of the Registrants
Directors.....................................................85
Executive Officers............................................85
Item 11. - Executive Compensation..............................87
Item 12. - Security Ownership of Certain Beneficial Owners
and Management
General.......................................................87
Security Ownership of Certain Beneficial Owners...............87
Security Ownership of Management..............................87
Item 13. - Certain Relationships and Related Transactions......88
- PART IV -
Item 14. - Exhibits, Financial Statement Schedules, and
Reports on Form 8-K ..............................88
Signatures....................................................89
Exhibit Index.................................................93
DEFINITIONS
The abbreviations and acronyms used in the 1999 Form 10-K are
defined below:
- --------------------------------------------------------------------------
ACC........................ Arizona Corporation Commission.
AET........................ Advanced Energy Technologies, Inc., a
wholly-owned subsidiary of Millennium.
Affected Utilities......... Electric utilities regulated by the ACC,
including TEP, Arizona Public Service,
Citizens Utilities Company, and several
electric cooperatives.
APS........................ Arizona Public Service Company.
BTU........................ British Thermal Unit(s).
CAAA....................... Federal Clean Air Act Amendments.
Common Stock............... UniSource Energy's common stock, without par
value.
Company or UniSource Energy UniSource Energy Corporation.
Credit Agreement........... Credit Agreement between TEP and the
banks, dated as of December 30, 1997.
Emission Allowance(s)...... An EPA issued allowance which permits
emission of one ton of sulfur dioxide. Such
allowances can be sold.
EPA........................ The Environmental Protection Agency.
FAS 71..................... Statement of Financial Accounting Standards
No. 71: Accounting for the Effects of
Certain Types of Regulation.
FAS 101.................... Statement of Financial Accounting Standards
No. 101: Regulated Enterprises-Accounting for
the Discontinuation of FASB Statement No. 71.
FERC....................... Federal Energy Regulatory Commission.
First Collateral Trust Bonds Bonds issued under the First Collateral
Trust Indenture.
First Collateral Trust
Indenture................. The Indenture, dated as of August 1, 1998,
of Tucson Electric Power Company to Bank
of Montreal Trust Company of the City of
New York, as trustee.
First Mortgage Bonds....... First mortgage bonds issued under the General
First Mortgage.
Four Corners............... Four Corners Generating Station.
GAAP....................... Generally Accepted Accounting Principles.
General First Mortgage..... The Indenture, dated as of April 1, 1941,
of Tucson Gas, Electric Light and Power
Company to The Chase National Bank of the
City of New York, as trustee, as supplemented
and amended.
General Second Mortgage.... The Indenture, dated as of December 1,
1992, of Tucson Electric Power Company to
Bank of Montreal Trust Company of the City of
New York, as trustee, as supplemented.
Global Solar............... Global Solar Energy, L.L.C., a corporation
which is 50% owned by AET and 50% owned by
ITN.
Holding Company Act........ The Public Utility Holding Company Act of
1935, as amended.
IDBs....................... Industrial development revenue or pollution
control revenue bonds.
ION........................ ION International, Inc. a wholly-owned
subsidiary of Millennium.
IRS........................ Internal Revenue Service.
Irvington.................. Irvington Generating Station.
Irvington Lease........... The leveraged lease arrangement relating to
Irvington Unit 4.
ISO........................ Independent System Operator.
ITC........................ Investment tax credit.
ITN........................ ITN Energy Systems, Inc., an unaffiliated
company which owns 50% of Global Solar.
kW......................... Kilowatt(s).
kWh........................ Kilowatt-hour(s).
kV......................... Kilovolt(s).
kVA........................ Kilovoltampere(s).
LOC........................ Letter of Credit.
MEH........................ MEH Corporation, a wholly-owned subsidiary
of Millennium.
DEFINITIONS
(continued)
Millennium................. Millennium Energy Holdings, Inc., a wholly-
owned subsidiary of UniSource Energy.
MSR........................ Modesto, Santa Clara and Redding Public Power
Agency.
MW......................... Megawatt(s).
MWh........................ Megawatt-hour(s).
Nations Energy............. Nations Energy Corporation, a wholly-owned
subsidiary of Millennium.
Navajo..................... Navajo Generating Station.
NewEnergy.................. NewEnergy, Inc., formerly New Energy
Ventures, Inc., a company in which a 50%
interest was owned by MEH.
NOL........................ Net Operating Loss carryforward for income tax
purposes.
NTUA....................... Navajo Tribal Utility Authority.
PNM........................ Public Service Company of New Mexico.
Rate Settlement............ TEP's Rate Settlement agreement approved
by the ACC in August 1998, which provides
retail base price decreases over a two-year
period.
Revolving Credit........... $100 million revolving credit facility
entered into under the Credit Agreement
between a syndicate of banks and TEP.
RTO........................ Regional Transmission Organization.
Rules...................... Retail Electric Competition Rules.
San Carlos................. San Carlos Resources Inc., a wholly-owned
subsidiary of TEP.
San Juan San Juan Generating Station.
Second Mortgage Bonds...... TEP's second mortgage bonds issued under the
General Second Mortgage.
SES........................ Southwest Energy Solutions, Inc., a wholly-
owned subsidiary of Millennium.
Settlement Agreement....... TEP's Settlement Agreement approved by the
ACC in November 1999 provided for electric
retail competition and transition recovery
asset recovery.
Springerville.............. Springerville Generating Station.
Springerville Coal Handling
Facilities Leases.......... Leveraged lease arrangements relating to
the coal handling facilities serving
Springerville.
Springerville Common
Facilities............... Facilities at Springerville used in common
with Springerville Unit 1 and Springerville
Unit 2.
Springerville Common
Facilities Leases........ Leveraged lease arrangements relating to
an undivided one-half interest in certain
Springerville Common Facilities.
Springerville Unit 1....... Unit 1 of the Springerville Generating
Station.
Springerville Unit 1 Leases Leveraged lease arrangement relating
to Springerville Unit 1 and an undivided one-
half interest in certain Springerville Common
Facilities.
Springerville Unit 2....... Unit 2 of the Springerville Generating
Station.
SRP........................ Salt River Project Agricultural Improvement
and Power District.
TEP........................ Tucson Electric Power Company, the
principal subsidiary of UniSource Energy.
TEP Warrants............... Warrants for the purchase of TEP Common
Stock which were issued in 1992.
UniSource Energy........... UniSource Energy Corporation.
UniSource Energy Warrants.. Warrants for the purchase of UniSource
Energy Common Stock which were issued in
exchange for TEP Warrants, pursuant to an
exchange offer which expired October 23,
1998.
WSCC....................... Western Systems Coordinating Council.
PART I
This Annual Report on Form 10-K contains forward-looking
statements as defined by the Private Securities Litigation Reform
Act of 1995. You should read forward-looking statements with the
cautionary statements and important factors included in this Form 10-
K. (See Item 7. - Management's Discussion and Analysis of Financial
Condition and Results of Operations, Safe Harbor for Forward-Looking
Statements.) Forward-looking statements include statements
concerning plans, objectives, goals, strategies, future events or
performance and underlying assumptions. Forward-looking statements
are not statements of historical facts. Forward-looking statements
may be identified by the use of words such as "anticipates,"
"estimates," "expects," "intends," "plans," "predicts," and
"projects." We express our expectations, beliefs and projections in
good faith and believe them to have a reasonable basis. However, we
cannot assure you that these expectations, beliefs or projections
will be achieved or realized.
ITEM 1. - BUSINESS
- --------------------------------------------------------------------
THE COMPANY
- -----------
Overview of Consolidated Business
- ---------------------------------
UniSource Energy Corporation (UniSource Energy) is a holding
company which owns all of the outstanding common stock of Tucson
Electric Power Company (TEP) and Millennium Energy Holdings, Inc.
(Millennium). UniSource Energy was incorporated in the State of
Arizona on March 8, 1995 and obtained regulatory approval to form a
holding company in November 1997. On January 1, 1998, TEP and
UniSource Energy completed a transaction by which all outstanding
shares of TEP common stock were exchanged, on a share-for-share
basis, for shares of UniSource Energy common stock. Following the
share exchange, TEP transferred the stock of its subsidiary
Millennium (formerly MEH Corporation) to UniSource Energy in
exchange for a $95 million promissory note. (See Note 1 of Notes to
Consolidated Financial Statements).
TEP was incorporated in the State of Arizona on December 16,
1963. TEP is the successor by merger as of February 20, 1964, to a
Colorado corporation which was incorporated on January 25, 1902.
We conduct our business in two primary business segments-the
Electric Utility Segment (TEP), and the Millennium Energy Businesses
Segment comprised of the unregulated subsidiaries owned by
Millennium.
Overview of Electric Utility
- ----------------------------
TEP is a vertically integrated utility which provides regulated
electric service to over 330,000 retail customers in its retail
service territory. This service territory consists of a 1,155
square mile area of Southeastern Arizona with a population of
approximately 840,000 in the greater Tucson metropolitan area in
Pima County, as well as parts of Cochise County. TEP holds a
franchise to provide electric service to customers in the City of
Tucson. This franchise expires in 2001. TEP is negotiating a
renewal of the franchise. However, expiration of the franchise
would not have a material effect on the ability of TEP to serve
customers in the City of Tucson. (See Customers, Franchise below).
TEP also engages in the wholesale marketing of electricity,
primarily in the Western U. S.
Beginning in 2000, the Arizona Corporation Commission's (ACC)
Retail Electric Competition Rules (Rules) require TEP to unbundle
its retail electric services into separate generation, transmission
and distribution services with open retail competition for
generation services. Pursuant to the Rules, TEP will serve as the
local distribution company providing electric distribution services
to all retail customers in its service territory and will be the
integrated electric service supplier to customers who cannot or do
not choose an alternate electric generation supplier. See Rates and
Regulation and Competition, Retail below for additional information
on the implementation of deregulation.
The ACC approved TEP's Settlement Agreement with certain
customer groups relating to recovery of transition recovery assets
and unbundling of tariffs in November 1999. This Settlement
Agreement provides the framework for transition to a fully
competitive generation market. In November 1999, TEP discontinued
the use of regulatory accounting in its financial statements for its
electric generation activities. In connection with this change, TEP
recognized $23 million in after-tax extraordinary net income in
1999. It also reclassified certain assets as transition recovery
assets and changed the method by which certain expenses are
recognized. See Note 2 of Notes to Consolidated Financial
Statements, Regulatory Matters and Management's Discussion and
Analysis of Financial Condition and Results of Operations for
additional information.
TEP owns all of the outstanding stock of San Carlos Resources
Inc. (San Carlos), which owns Springerville Unit 2.
We describe our electric utility business further in the
Electric Utility Operations and TEP Utility Operating Statistics
sections.
Overview of Millennium Energy Businesses
- ----------------------------------------
Millennium owns 100% of the common stock of five subsidiaries.
We established these subsidiaries to pursue various unregulated
energy-related investment opportunities:
(i) Advanced Energy Technologies, Inc. (AET) which holds a 50%
interest in Global Solar Energy, L.L.C. (Global Solar), a
manufacturer of thin-film photovoltaic cells. In November 1999,
Millennium and ITN Energy Systems, Inc. (ITN), the other 50% owner,
entered into an agreement in which Millennium's share of Global
Solar will increase to 67%. See Note 4 of Notes to Consolidated
Financial Statements, Millennium Energy Businesses.
(ii) ION International, Inc. (ION) which intends to provide
technology applications to commerce, health care and industry
organizations to help them more efficiently manage their energy
needs.
(iii) MEH Corporation (MEH) which held a 50% interest in NewEnergy,
Inc. Our interest in NewEnergy, a provider of various services
including the purchase and aggregation of electricity on behalf of
retail purchasers of electric energy, was sold in 1999. MEH now
holds secured notes from NewEnergy in the aggregate amount of $23
million.
(iv) Nations Energy Corporation (Nations Energy) which develops
independent power projects.
(v) Southwest Energy Solutions, Inc. (SES) which provides energy
support services to electric consumers.
We describe Millennium's unregulated energy businesses in more
detail in the Millennium Energy Businesses section.
Competition and Response to Regulatory Change
- ---------------------------------------------
The electric utility industry is undergoing significant
regulatory change designed to encourage competition in the sale of
electric generation services. We believe that TEP's Settlement
Agreement resolves a significant amount of uncertainty and provides
TEP with the opportunity to recover 100 percent of its transition
recovery assets. We continually evaluate our position to develop
strategies to remain competitive in this changing environment. In
November 1998, TEP realigned its utility business into two separate
business units: (1) generation and (2) transmission and
distribution, and in January 1999, we formed a third business unit
which provides administrative services to the utility business
units. By the terms of its Settlement Agreement, TEP is required to
transfer its generation and competitive electric service assets to a
separate TEP subsidiary by December 31, 2002. In addition, we may
pursue other strategies in the future which include one or more of
the following:
-- creation of separate affiliates for our transmission and
distribution businesses,
-- sale of generation assets,
-- acquisition of transmission assets, and
-- investments by unaffiliated parties in, or sales of portions of,
Millennium's unregulated energy businesses.
We cannot predict whether any transactions of the types
described above may actually occur, nor can we predict what their
effect on our financial condition or competitive position might be.
We discuss competition in our electric utility business in more
detail in Rates and Regulation and in Item 7. - Management's
Discussion and Analysis of Financial Condition and Results of
Operations, Competition.
ELECTRIC UTILITY OPERATIONS
- ---------------------------
PEAK DEMAND
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Peak Demand - MW -
Retail Customers-Net One Hour 1,754 1,786 1,659 1,619 1,617
Firm Sales to Other Utilities 178 179 177 177 223
----- ----- ----- ----- -----
Non-Coincident Peak Demand (A) 1,932 1,965 1,836 1,796 1,840
Total Generating Resources 1,904 1,896 1,992 1,952 1,952
Other Resources 235 235 235 133 133
----- ----- ----- ----- -----
Total TEP Resources (B) 2,139 2,131 2,227 2,085 2,085
Total Reserves (B) - (A) 207 166 391 289 245
Reserve Margin (% of Non-Coincident
Peak Demand) 11% 8% 21% 16% 13%
- ---------------------------------------------------------------------------
The peak demand for TEP's retail service area occurs during the
summer months due to the cooling requirements of our retail
customers. TEP's local peak demand has grown at an average annual
rate of about 2.0% during the past five years. The peak demand for
firm sales to other utilities generally does not coincide with TEP's
retail peak demand.
The chart above shows the relationship over a five-year period
between TEP's peak demand and its energy resources. In addition to
TEP's generating resources, total resources include firm capacity
purchases and interruptible retail load. TEP's reserves are the
difference between energy resources and peak demand, and the reserve
margin is the ratio of reserves to peak demand. For planning
purposes, TEP monitors its reserve margin in accordance with
guidelines set by the WSCC equal to its largest single hazard plus
5% of its non-coincident peak demand. For 1999, this planning
reserve margin equaled 302 MW or 16% of non-coincident peak demand.
TEP's actual reserve margin in 1999 was 11%, compared with 8% in
1998. The higher actual reserve margin in 1999 resulted from a
reduction in the peak demand. TEP purchased additional firm energy
as needed to ensure it had adequate operating reserve margins
throughout the year in accordance with the operating requirements of
the Southwest Reserve Sharing Group.
TEP expects to meet near-term demand growth with existing
resources, purchases, and additional resources as discussed in
Future Generating Resources below. See TEP Generating Resources for
information regarding our need for new resources.
CUSTOMERS
The average number of TEP's retail customers increased by 2.8%
in 1999 to 329,779. TEP expects the number of its retail
distribution customers, and the amount of energy consumed by those
customers, each to grow at an average annual rate of approximately
2.0% through 2004. Retail peak demand in TEP's service territory is
expected to grow by about 2.5% annually over the same period. TEP
expects energy consumed by its residential, commercial, non-mining
industrial and mining customers to comprise approximately 36%, 18%,
28% and 15%, respectively, of total energy consumption during that
period.
TEP uses population and demographic studies prepared by
unrelated third parties to forecast the growth in the number of
customers, peak demand and retail sales. TEP also uses assumptions
about the weather, the economy and competitive conditions. The
forecasts do not take into account the source or price of energy.
Certain of TEP's retail customers are eligible to choose
alternative energy providers. See TEP's Settlement Agreement and
Retail Electric Competition Rules for a discussion of these
customers and the competition phase-in period. Even though some of
TEP's retail customers may choose other energy suppliers, the
forecasted growth rates in the number of customers referred to above
would continue to apply to TEP's distribution business.
Franchise
TEP holds a franchise to provide electric service to customers
in the City of Tucson. This franchise expires in 2001. Under the
franchise, TEP pays to the city 2% of revenues derived from service
provided within the city limits. This payment is passed through to
customers as a line item on the customer's bill. TEP is negotiating
a renewal of the franchise with the City of Tucson. Any such
renewal will have to be approved by vote of the population of Tucson
in a general or special election. If the franchise expires and TEP
is unable to negotiate a renewal, we do not believe it will have a
material adverse impact on the ability of TEP to provide electric
service within the City of Tucson.
Sales to Large Industrial Customers
TEP provides electric utility service to a diversified group of
commercial, industrial, and public sector customers. Major
industries served include copper mining, defense, health care,
education and governmental entities. Two of TEP's largest retail
customers are in the copper mining industry. In 1999, sales to
these customers totaled about 15% of TEP's total retail energy
sales, and their contract demands totaled almost 11% of the 1999
retail peak demand. Revenues from sales to mining customers
accounted for approximately 8% of TEP's retail revenues in 1999 and
in 1998. Sales to mining customers depend on a variety of factors
including changes in supply and demand factors in the world copper
market and the economics of self-generation. During 1998 and the
first half of 1999, market prices for copper were very low compared
to historical prices. During the second half of 1999 market prices
for copper increased but still remained low compared to historical
prices. As a result of low prices for copper, our mining customers
have curtailed operations to reduce costs of electricity. Should
copper prices return to or fall below the low price levels of 1999,
TEP may experience lower sales to, and lower revenues from, mining
customers. Both of these mining customers merged with other copper
companies in 1999. We cannot predict the effect these mergers may
have on our mining customers' operations.
TEP has contracts with its two principal mining customers to
provide them electric power at specified non-tariffed rates. These
contracts expire between 2003 and 2006. However, with advance
notice to TEP, the mines can cancel all or part of their contracts.
To date, TEP has not received any termination notices. Whether
these contracts are extended or terminated will depend, in part, on
market conditions and available alternatives.
SALES FOR RESALE
TEP's electric utility operations include the wholesale
marketing of electricity to other utilities and power marketers.
These transactions, termed sales for resale, are made on both a firm
basis and an interruptible basis. A firm basis means that
contractually, TEP must supply the power (except under limited
emergency circumstances), while an interruptible basis means that
TEP may stop supplying power under various circumstances. See Other
Purchases and Interconnections.
TEP's sales for resale consist primarily of three types of
sales, which are listed below, along with the percentage
contribution to total revenues from sales for resale in 1999:
-- sales of firm capacity under long-term contracts (26%);
-- forward contracts to sell energy for periods of up to one year
(36%); and
-- sales in the hourly and daily markets (35%).
KWh sales for resale increased by 16% in 1999 while revenues from
these sales grew by 20%. This increase in sales and revenues was
mainly due to increased trading activity in the forward markets and
higher market prices in the wholesale energy markets. See Item 7. -
Management's Discussion and Analysis of Financial Condition and
Results of Operations, Market Risks, for a discussion of TEP's
wholesale marketing activities.
TEP currently has long-term contracts to sell firm capacity as
follows:
Minimum
Contract
Company Demand MW Contract Term
- ------- --------- -------------
Salt River Project 100 June 1, 1991 - May 31, 2011
NTUA 40/50 (1) June 1, 1999 - December 31, 2009
- ---------------
(1) TEP will provide 40 MW of firm power in the summer months (May -
September)50 MW of firm power in the winter months (October - April).
TEP cannot predict whether the contracts described above will be
replaced when terminated or extended in the future.
We expect strong competition to sell capacity and energy to
continue during the next few years due to:
-- surplus generating capacity in the Southwestern United States
during non-summer months;
-- restructuring of the electric utility industry in Arizona,
California and other western states;
-- an active spot market in the Western United States.
See Item 7. - Management's Discussion and Analysis of Financial
Condition and Results of Operations, Competition, Wholesale.
GENERATING AND OTHER RESOURCES
------------------------------
TEP GENERATING RESOURCES
At December 31, 1999, TEP owned or leased 1,904 MW of net
generating capability as set forth in the following table:
Net TEP's Share
Unit Fuel Owned/ Capability Operating
Generating Source No. Location Type Leased MW Agent % MW
- ----------------- ---- -------- ---- ------ ---------- --------- ------------
Springerville Station 1 Springerville, AZ Coal Leased 380 TEP 100.0 380
Springerville Station 2 Springerville, AZ Coal Owned 380 TEP 100.0 380
San Juan Station 1 Farmington, NM Coal Owned 327 PNM 50.0 164
San Juan Station 2 Farmington, NM Coal Owned 316 PNM 50.0 158
Navajo Station 1 Page, AZ Coal Owned 750 SRP 7.5 56
Navajo Station 2 Page, AZ Coal Owned 750 SRP 7.5 56
Navajo Station 3 Page, AZ Coal Owned 750 SRP 7.5 56
Four Corners Station 4 Farmington, NM Coal Owned 784 APS 7.0 55
Four Corners Station 5 Farmington, NM Coal Owned 784 APS 7.0 55
Irvington Station 1 Tucson, AZ Gas/Oil Owned 81 TEP 100.0 81
Irvington Station 2 Tucson, AZ Gas/Oil Owned 81 TEP 100.0 81
Irvington Station 3 Tucson, AZ Gas/Oil Owned 104 TEP 100.0 104
Irvington Station 4 Tucson, AZ Coal/Gas Leased 156 TEP 100.0 156
Internal Combustion Tucson, AZ Gas/Oil Owned 122 TEP 100.0 122
Turbines -----
Total Company Capacity (1) 1,904
-----
- ---------------
(1) Excludes 235 MW of additional resources, which consists of
certain capacity purchases and interruptible retail load. At
December 31, 1999, total owned capacity was 1,368 MW and leased
capacity was 536 MW.
TEP is the operator of the Springerville and Irvington
Generating Stations, which are wholly-owned or leased by TEP. TEP
has ownership interests in the San Juan, Navajo and Four Corners
Generating Stations, which are operated by others. As a result of
pollution control capital improvements, on May 1, 1999 the
generation capability increased by 11 MW to 327 MW at San Juan Unit
1 and by 4 MW to 316 MW at San Juan Unit 2. TEP's net generating
capability increased by 7.5 MW as a result of our 50% ownership
interest in these units. We provide additional information below on
those units operated by TEP, including details on the capital lease
obligations for Springerville Unit 1, Springerville Common
Facilities, and Irvington Unit 4.
Under terms of its Settlement Agreement, TEP will transfer its
generation and other competitive assets to a TEP subsidiary by
December 31, 2002.
During the fourth quarter 1999, TEP's Settlement Agreement with
the ACC resulted in the discontinuation of regulatory accounting for
its generation operations under FAS 71. We now account for our
generation operation as would an unregulated company. As a result,
certain financial statement line items related to capital lease
assets and obligations have changed.
Springerville Station
The Springerville Station, located in northeast Arizona,
consists of two coal-fired units. Springerville Unit 1 began
commercial operation in 1985 and is leased and operated by TEP.
Springerville Unit 2 started commercial operation in June 1990 and
is owned by San Carlos and operated by TEP. These units are rated
at 380 MW for continuous operation, but may be operated for up to
eight hours at a net capacity of 400 MW each.
The initial terms of the Springerville Unit 1 Leases, which
includes a 50% interest in the Springerville Common Facilities,
expire on January 1, 2015. At the end of the initial terms, TEP may
exercise fair market value purchase and renewal options. The annual
cash cost of lease payments for the Springerville Unit 1 Leases will
range from $33 million to $176 million, averaging approximately $81
million.
In December 1985, TEP sold and leased back a 50% interest in
the Springerville Common Facilities. The initial lease term for the
Springerville Common Facilities Leases expires in 2017 for one owner
participant and 2021 for the other two owner participants, subject
to optional fair market value renewal and purchase options. Annual
lease payments under these leases vary with changes in the interest
rate on the underlying debt. These lease payments totaled about $10
million in 1999 and $12 million per year in 1998 and 1997. The
secured notes underlying these leases were refinanced in December
1999 to avoid a special event of loss (see Investing and Financing
Activities). As a result of refinancing at a higher rate of interest,
we recorded an additional $26 million of capital lease obligations
and capital lease assets. Based on an assumed interest rate of 8.5%,
annual lease payments will range from $7 million to $20 million and
average approximately $12 million.
See Fuel Supply, Springerville Coal Handling Facilities, for
information regarding the Springerville Coal Handling Facilities
Leases.
IRVINGTON STATION
Irvington is a four-unit generating station located in Tucson,
AZ. Units 1, 2, and 3 are gas or oil burning units. In January
1988, TEP began coal-fired commercial operation of Irvington Unit 4.
The unit was initially sold and then leased back under the Irvington
Lease. Annual lease payments range from approximately $11 million to
$14 million and average about $13 million. The initial lease term
expires in 2011, but the lease has optional fair market value
renewal and purchase provisions.
Irvington Unit 4 (156 MW capability) has the flexibility to
operate on coal or gas. Coal has been the primary fuel and natural
gas the secondary fuel. In 1999 this unit began burning small
amounts of land fill gas.
The Irvington Station, along with the internal combustion
turbines located in Tucson, are designated as "must-run generation"
facilities. Must-run generating units are those which are required
to run in certain circumstances in order to maintain distribution
system reliability and meet load requirements.
POWER EXCHANGE AGREEMENT
As part of a 1992 litigation settlement, TEP and Southern
California Edison (SCE) agreed to a ten-year power exchange
agreement. The agreement began in May 1995 and requires SCE to
provide firm system capacity of 110 MW to TEP during summer months.
TEP pays an annual charge of approximately $1 million, increasing
annually after the year 2000, to a maximum of approximately $2
million annually for this agreement. TEP is entitled to schedule
firm energy deliveries from SCE during the summer (May 15 to
September 15) of up to 36,300 MWh per month, and is obligated to
return to SCE on an interruptible basis the same amount of energy
the following winter season (November 1 to February 28). The energy
provided under the exchange is expensed based on the estimated cost
of interruptible energy to be provided to SCE. Under this exchange
agreement, TEP received 119,525 MWh from SCE in 1999, and returned
93,462 MWh to SCE as of December 31, 1999.
OTHER PURCHASES AND INTERCONNECTIONS
TEP participates in a number of interchange agreements by which
it can purchase additional electric energy from other utilities.
The amount of energy purchased from other utilities and power
marketers varies substantially from time to time depending on demand
for energy, cost of purchased energy compared with TEP's cost of
generating energy, and the availability of such energy. TEP may also
sell its surplus electric energy through these agreements. See also
Item 7. - Management's Discussion and Analysis of Financial
Condition and Results of Operations, Market Risks.
TEP has transmission access and power transaction arrangements
with over 180 electric systems or suppliers, including the
California Power Exchange. TEP is a member of the following
organizations:
- --Southwest Reserve Sharing Group - A group of utilities serving
customers in portions of the southwestern United States. The group
provides emergency assistance and reserve sharing among members to
enhance system reliability in the Southwest region;
- --Western Systems Coordinating Council (WSCC) - A group of western
electric systems and suppliers working cooperatively to assure the
reliability of the region's interconnected generation and
transmission systems; and
- --Western Systems Power Pool - A voluntary power pooling
arrangement designed to achieve more efficient use of electric
generation and transmission facilities among its members.
See Rates and Regulation, Transmission Access for a discussion
of possible changes in transmission issues.
FUTURE GENERATING RESOURCES
In the past, TEP assessed its need for future generating
resources based on the premise of a continued regulatory requirement
to serve customers in TEP's retail service area. However, the
obligation to provide generation services to all customers has been
modified by the ACC's electric competition rules. Further, the need
for future resources will be affected by these rules and TEP's
ability to retain and attract customers. Under the Retail
Competition Rules as adopted, some of TEP's retail customers are
eligible to choose alternative energy providers. For those
customers who do not or cannot choose other energy providers, TEP
remains obligated to supply energy. However, TEP is not obligated
to supply this energy from TEP-owned generating assets. The energy
may be acquired from other sources through purchases in the
wholesale markets. See Rates and Regulation, TEP's Settlement
Agreement and Retail Electric Competition Rules below and Item 7. -
Management's Discussion and Analysis of Financial Condition and
Results of Operations, Competition.
To improve local system reliability TEP believes additional
peaking resources are needed in Tucson by 2001. To address this
need, in the third quarter of 1999, TEP entered into an agreement to
purchase a 75 MW gas turbine. This peaking unit will be designated
as a must-run generation facility. We expect this unit will be in
operation by the third quarter of 2001.
RATES AND REGULATION
- --------------------
GENERAL
TEP is regulated by the FERC and by the ACC. The FERC
regulates the terms and prices of TEP's sales to other utilities and
resellers. The ACC has authority over certain rates charged to
retail customers, accounting classifications, and the issuance of
securities. The ACC also has authority to approve affiliate
transactions and the establishment of holding companies and
subsidiaries under its Affiliated Interest Rules.
The ACC consists of three commissioners, each serving a six-
year term. One of the three is elected at each general election.
Commissioners cannot serve consecutive terms and can be elected to
another term only after the passing of six years after the end of
their previous term as commissioners. The present commissioners
are:
-- Carl J. Kunasek (Republican), Chairman, began his term in 1995.
His term expires in 2001.
-- Jim Irvin (Republican) started his term in 1997. His term
expires in 2003.
-- William A. Mundell (Republican) started his term in 1999. Since
he was appointed by the governor his term expires in 2001. Mr.
Mundell may stand for election for the remaining four years of the
original six-year term at the expiration of his current term.
Historically, the ACC has determined TEP's rates for retail
sales of electric energy on a "cost of service" basis, which was
designed to provide, after recovery of allowable operating expenses,
an opportunity to earn a reasonable rate of return on "fair value
rate base". Fair value rate base was generally determined by
reference to the original cost and the reproduction cost (in each
case, net of depreciation) of utility plant in service to the extent
deemed used and useful, and to various adjustments for deferred
taxes and other items, plus a working capital component. Over time,
rate base was increased by additions to utility plant in service and
reduced by depreciation and retirements of utility plant.
With the introduction of retail electric competition in TEP's
service territory in 2000, the Rules and TEP's Settlement Agreement
require the unbundling of electric services, with separate rates for
generation, transmission, distribution, metering, meter reading,
billing and collection, and ancillary services. Generation services
at market prices may be provided by Energy Service Providers (ESPs)
licensed by the ACC. Transmission and distribution services will
remain subject to regulation on a cost of service basis. However,
certain conditions must be met before competitive electricity will
be sold in TEP's service territory, such as ACC approval of TEP's
direct access tariffs, certification of ESPs by the ACC and
execution of direct access service agreements by ESPs and TEP.
The FERC regulates TEP's rates for wholesale power sales and
transmission services. In general, these rates may not exceed rates
determined on a cost of service basis. In the fall of 1997, TEP was
granted a tariff to sell at market based rates. The FERC has
historically set rates in formal rate application proceedings. With
respect to new wholesale power sales, TEP's wholesale rates are
generally substantially below rates determined on a fully allocated
cost of service basis, but, in all instances, rates exceed the level
necessary to recover fuel and other variable costs.
ACC HOLDING COMPANY ORDER
In November 1997, the ACC allowed TEP to form a holding
company. The ACC order approving the holding company contained a
number of conditions which impact the activities of UniSource
Energy, TEP, and TEP's "sister companies" (i.e., other companies
owned by UniSource Energy or its affiliates). Some of these
conditions were waived or modified by the Settlement Agreement. Key
conditions, as modified include:
-- UniSource Energy and its subsidiaries will only conduct business
activities that are part of the electric energy business (as
defined in the order).
-- During its first five years of operations, UniSource Energy must
provide to TEP 30% of the proceeds of any public equity issuance by
UniSource Energy. TEP will use the proceeds to reduce debt or add
to its equity accounts.
-- TEP may not pay dividends to UniSource Energy in excess of 75% of
its earnings until TEP's equity ratio equals 37.5% of total capital
(excluding capital lease obligations).
TEP'S SETTLEMENT AGREEMENT AND RETAIL ELECTRIC COMPETITION RULES
In December 1996, the ACC adopted Rules that provided a
framework for the introduction of retail electric competition in
Arizona. The Rules, as well as other ACC orders, contain references
to the "Affected Utilities". These are the utilities, including
TEP, which are regulated by the ACC. These Rules, as amended and
modified, were approved by the ACC in September 1999.
In November 1999, the ACC approved the Settlement Agreement
that was entered into between TEP and certain customer groups
relating to recovery of TEP's transition recovery assets and
unbundling of tariffs. For TEP, the Rules became effective in
January 2000, 60 days after the effective date of the Settlement
Agreement. However, certain conditions must be met before
competitive electricity will be sold in TEP's service territory,
such as ACC approval of TEP's direct access tariffs, certification
of ESPs by the ACC and execution of direct access service agreements
by ESPs and TEP.
The major provisions of the Settlement Agreement, as approved,
are:
- --Consumer choice for energy supply beginning in 2000 will be
phased in as required by the ACC's retail competition rules.
Initially, 377 megawatts of load, representing over 20 percent of
TEP's retail customers, will be eligible to choose competitive
energy suppliers. Customers initially eligible for choice include:
-- Large customers whose average usage/load is 1 megawatt (MW) or
above, such as mines, refineries, factories and resorts;
-- Smaller commercial customers that can aggregate with similar
sized entities to reach a total load of one MW also are eligible.
Examples include convenience stores, small fast-food restaurants and
large retail stores; and
-- A percentage of TEP's residential customers. Every three months,
an additional one and one-quarter percent of residential customers
will have the opportunity to choose.
By January 1, 2001, consumer choice will be available to all
customers. Under the ACC's electric competition rules, TEP will
be required to provide energy to any distribution customer who
does not choose another energy service provider.
- --In accordance with the Rate Settlement Agreement approved by the
ACC in 1998, TEP decreased rates to retail customers by 1.1% on July
1, 1998, 1% on July 1, 1999 and will decrease rates an additional 1%
on July 1, 2000. These reductions apply to all retail customers
except for certain customers that have negotiated non-standard
rates. The Settlement approved in November 1999 provides that,
after these reductions, TEP's retail rates will be frozen until
December 31, 2008, except under certain circumstances. TEP will
recover the costs of transmission and distribution under regulated
unbundled rates.
- --TEP's frozen rates will include two Competition Transition Charge
(CTC) components which are designated for the recovery of its
transition recovery assets.
-- A Fixed CTC component will equal a fixed charge per kilowatt-hour
sold. It will terminate when $450 million has been recovered, or on
December 31, 2008, whichever occurs first. When the Fixed CTC
terminates, TEP's retail rates will decrease by the Fixed CTC
amount.
-- A Floating CTC component will equal the amount of the frozen
retail rate less the estimated market price of retail electric
service. The estimated market price of retail electric service will
include TEP's transmission and distribution charge and an energy
component based on the Palo Verde Futures Index for electric energy.
Because TEP's total retail rate will be frozen, the Floating CTC is
expected to allow TEP to recoup the balance of transition recovery
assets not otherwise recovered through the Fixed CTC. The Floating
CTC will terminate no later than December 31, 2008.
- -- By June 1, 2004, TEP will be required to file a general rate case
including an updated cost-of-service study. Any rate change
resulting from this rate case would be effective no sooner than June
1, 2005 and would not result in a net rate increase.
- -- By December 31, 2002, TEP will transfer its generation and other
competitive assets to a subsidiary of TEP. TEP, as a utility
distribution company (UDC), will acquire energy in the wholesale
market for its retail customer energy requirements through a
competitive bidding process. TEP's generation subsidiary will sell
energy into the wholesale market.
- -- TEP will dismiss all pending litigation brought by TEP against
the ACC once the ACC order approving the Settlement Agreement is no
longer subject to appeal.
Approval of the Settlement Agreement caused TEP to discontinue
regulatory accounting for its generation operations using FAS 71 in
November 1999. See Note 2 of Notes to Consolidated Financial
Statements, Regulatory Matters.
A consumer group has filed a lawsuit challenging the ACC's
order approving TEP's Settlement Agreement and also filed an appeal
of the competition rules. The consumer group contends that allowing
marketplace competition to determine rates violates the ACC's
constitutional duty to set rates. We cannot predict the outcome of
these actions.
See Item 7. - Management's Discussion and Analysis of Financial
Condition and Results of Operations, Tax Exempt Local Furnishing
Bonds for a discussion of the possible effect of the transfer of
TEP's generating assets, referred to above, on TEP's capital
structure and refinancing requirements.
STATE AND FEDERAL LEGISLATION ON RETAIL COMPETITION
In May 1999 the Arizona State Legislature approved legislation
regulating retail electric competition for public service
corporations. The Governor vetoed the legislation. We expect the
Arizona Legislature will propose new retail electric competition
legislation in the 2000 legislative session.
Additionally, federal legislators introduced several retail
competition initiatives in Congress which, if passed, could modify
the actions taken by the ACC or the Arizona Legislature. Congress
has yet to enact any legislation at this time. We are unable to
predict when Congress will act or the ultimate impact of such
federal legislative initiatives.
TRANSMISSION ACCESS
In April 1996, the FERC issued two orders pertaining to
wholesale transmission access. FERC Order No. 888 requires all
public utilities that own, control, or operate interstate
transmission facilities to offer transmission service to others
under a single tariff. This tariff must incorporate certain minimum
terms and conditions of transmission service established by the FERC
and must also be used by public utilities for their own wholesale
market transactions. Transmission and generation services for new
wholesale service are to be unbundled and priced separately. FERC
Order No. 889 requires transmission service providers to establish
or participate in an Open Access Same-time Information System
(OASIS) that provides information on the availability of
transmission capacity to wholesale market participants. The order
also establishes standards of conduct to prevent employees of a
public utility engaged in marketing functions from obtaining
preferential access to OASIS-related information or from engaging in
discriminatory business practices. TEP is in compliance with the
requirements of FERC Orders 888 and 889.
In December 1999, the FERC issued FERC Order No. 2000. This
requires all public utilities that are transmission owners to file
by October 15, 2000 a proposal for a Regional Transmission
Organization (RTO), an organization or institution which is
envisioned by FERC to operate an electric transmission system on a
regional basis, enhance operational transmission efficiencies and
reliability and remove remaining discriminatory transmission
practices. FERC has not dictated a specific structure for an RTO
but has instead adopted a flexible approach to considering proposed
organizational structures, including the possibility of a
transmission company which would own and operate all of the
transmission assets in a particular region. As an alternative to an
RTO proposal, transmission-owning public utilities must file a
description of any efforts made by the utility to participate in an
RTO, the reasons for not participating and any obstacles to
participation, and any plans for further work toward participation.
This order is a culmination of FERC's efforts to promote the
regional development of transmission system operation and
contemplates that RTOs will be operational by December 15, 2001.
While FERC Order 2000 takes a voluntary approach to participation in
RTOs, FERC has indicated that it will take any action it considers
necessary, including requiring RTO formation, to address any undue
market power that may exist on the part of transmission owners.
TEP, along with other transmission owners and users located in
the southwestern United States, is continuing to investigate the
feasibility of forming an Independent System Operator (ISO) for the
region. An ISO, which could potentially satisfy the requirements of
an RTO, would be responsible for ensuring transmission reliability
and nondiscriminatory access to the regional transmission grid.
Over 50 parties participated in a Development Agreement to
investigate the feasibility of an ISO in this region. As a result
of this development effort, a non-profit corporation has been formed
to move this effort forward. Over 125 entities have paid membership
dues and become members of Desert STAR, Inc. Work is underway to
determine the operational and financial aspects of this
organization. The formation of an ISO would be subject to approval
by the FERC and state regulatory authorities in the region. The
financial aspects of forming an ISO, including the potential effects
on TEP's future results of operations, will be examined as part of
the developmental work.
The ACC Retail Electric Competition Rules require the formation
and implementation of an Arizona Independent Scheduling
Administrator Association (AISA). The purpose of the AISA, which is
anticipated to be a temporary organization until the formation of an
ISO or RTO, is to:
-- calculate available transmission capacity for Arizona
transmission facilities that belong to the Affected Utilities or
other participants;
-- develop and operate an OASIS which covers all participants'
transmission systems;
-- implement and oversee the nondiscriminatory application of
protocols to ensure statewide consistency for transmission access;
and
-- provide dispute resolution processes and receive all requests for
reservation and scheduling of Arizona transmission facilities.
TEP, as an Affected Utility, participated in the creation of
the AISA. This includes its incorporation as a not-for-profit
entity, the filing (when complete) at the FERC for approval of its
proposed structure, rates and procedures, and drafting of its
protocols for operation. Currently, AISA participants are
attempting to reach a consensus on operating protocols that, once
finalized and filed with the ACC, will then be filed with the FERC.
TEP continues to participate with the other Affected Utilities in
developing the AISA's structure and protocols in response to retail
competition. See TEP's Settlement Agreement and Retail Electric
Competition Rules.
See Item 7. - Management's Discussion and Analysis of Financial
Condition and Results of Operations, Tax Exempt Local Furnishing
Bonds for a discussion of the possible effect of the establishment
of a RTO, ISO and/or an AISA on TEP's capital structure and
refinancing requirements.
OTHER RATE MATTERS
See Electric Utility Operations, Customers and Item 7. -
Management's Discussion and Analysis of Financial Condition and
Results of Operations, Competition, Retail for a discussion of TEP's
contracts and negotiations with certain of its mining customers.
FUEL SUPPLY
- -----------
TEP's principal fuel for electric generation is low-sulfur
coal. Fuel cost information for the years 1999 -1997 is provided
below:
Cost Per Million BTU Consumed Percentage of Total BTU Consumed
----------------------------- --------------------------------
1999 1998 1997 1999 1998 1997
---- ---- ---- ---- ---- ----
Coal (A) $1.66 1.65 $1.66 96% 97% 97%
Gas 2.94 2.67 2.74 4 3 3
---- ---- ----
All Fuels 1.73 1.69 1.68 100% 100% 100%
- --------------------
(A) The average cost per ton of coal for each of the last three
years (1999 - 1997) was $31.64, $31.33 and $31.33 respectively.
COAL
Information concerning TEP's coal contracts is detailed below:
Year Average
Contract Sulfur Coal Obtained
Station Coal Supplier Terminates Content From (A)
------- ------------- ---------- ------- -------------
Four Corners BHP Minerals International, Inc. 2005 0.8% Navajo Indian Tribe
San Juan San Juan Coal Company 2017 0.8% Federal and State Agencies
Navajo Peabody Western Coal Company 2011 0.6% Navajo and Hopi Indian Tribes
Springeville Peabody Coalsales Company 2010 0.7% Lee Ranch Coal Company
Irvington The Pittsburg & Midway Coal Mining 2015 0.4% Federal and State Agencies
Company
- --------------------
(A) Substantially all of the suppliers' leases extend at least as
long as coal is being mined in economic quantities.
TEP-Operated Generating Facilities
TEP is the sole owner (or lessee) and operator of the
Springerville and Irvington Generating Stations. The coal supplies
for these plants are transported from northwestern New Mexico and
Colorado by railroad.
In June 1997, TEP terminated its existing coal supply contract
for the Springerville Generating Station for a $50 million fee and
entered into a new contract with the same supplier. The new coal
contract ends in 2010, with an option to extend the term for another
ten years. The Springerville rail contract expires in 2009. See
Notes 2 and 9 of Notes to Consolidated Financial Statements,
Deferred Springerville Generation Costs and Commitments and
Contingencies, TEP Commitments - Fuel Purchase. The coal supply and
rail contracts termination date for the Irvington station is the
earlier of 2015 or the remaining life of Unit 4.
The Springerville and Irvington contracts have various
adjustment clauses that will affect the future cost of coal
delivered. We expect coal reserves to be sufficient to supply the
estimated requirements of Springerville and Irvington for their
presently estimated remaining lives.
The Springerville and Irvington coal contracts combined require
TEP to take 2.1 million tons of coal per year through 2009 at an
estimated annual cost of $49 million for the next five years. The
Springerville and Irvington rail contracts combined require TEP to
transport 1.9 million tons of coal per year through 2015 at an
estimated cost of $13 million for the next five years. The coal
supply contracts require TEP to pay a take-or-pay charge if minimum
quantities of coal are not purchased. TEP's present fuel
requirements are in excess of the take-or-pay minimums. However,
TEP has purchased coal and natural gas in the spot market, and
switches fuel burn from one generating station to another in order
to reduce overall fuel costs, despite incurring take-or-pay minimum
charges. TEP incurred take-or-pay charges of $3.6 million in 1999,
$3.5 million in 1998 and none in 1997.
Generating Facilities Operated by Others
TEP also participates in jointly owned generating facilities
where coal supplies are under long-term contracts entered into by
the operating agents. Coal supplies are surface-mined in northern
Arizona and northwestern New Mexico. The coal supply for the San
Juan Station, a mine-mouth operation, is partially contracted
through the year 2017. The coal contract for Four Corners terminates
in 2005. The coal quantities under contract for the Navajo mine-
mouth coal fired generating station are expected to be sufficient
for the remaining life of the station. The contracts to purchase
coal, including rail transportation, for use at the jointly-owned
facilities require TEP to take 1.5 million tons of coal per year
through 2005 at an estimated annual cost of $45 million for the next
five years.
SPRINGERVILLE COAL HANDLING FACILITIES
TEP is the lessee of the coal-handling facilities at
Springerville under a capital lease. The Springerville Coal
Handling Facilities Leases have a remaining initial lease term
through 2015 with fair market value renewal and purchase options.
Annual rental payments range from approximately $10 million to $28
million but average $20 million.
Through October 31, 1999, TEP allocated portions of the costs
of its Springerville Coal Handling Facilities Leases to deferred
expense for future recovery through rates. See Note 2 of Notes to
Consolidated Financial Statements, Deferred Lease Expense, for a
description of the accounting for the Springerville Coal Handling
Facilities Leases. Approximately half of the expenses of the coal
handling facilities, including lease costs and other operating and
maintenance expenses, were charged to fuel expense in 1999, 1998 and
1997 and amounted to $12 million, $13 million, and $13 million,
respectively. Effective November 1, 1999, lease interest expense is
no longer charged to fuel expense.
NATURAL GAS
In June 1998, TEP entered into a one-year agreement to purchase
gas from Southwest Gas for power generation. This agreement was
renewed for an additional one-year term in 1999. During 1999, TEP
received natural gas sufficient to meet all of its needs. TEP also
burns small amounts of land fill gas at Irvington Unit 4.
WATER SUPPLY
------------
TEP believes there will be sufficient water to supply the
requirements of existing and planned electric generating stations in
which TEP has an interest for their estimated lives. A federal
contract for water at San Juan expires in 2005, and Public Service
Company of New Mexico is overseeing negotiations for an extension of
the contract.
ENVIRONMENTAL MATTERS
---------------------
TEP is subject to environmental regulation by federal, state
and local authorities. Air and water quality are under the most
stringent regulations. Resource extraction, waste disposal
operations and land use are also regulated. TEP spent $3 million in
1999 and $14 million in 1998 for construction costs to comply with
environmental requirements. TEP believes that all existing
generating facilities are or will be in compliance with all existing
or expected environmental regulations, except as described below.
Clean Air
Arizona and New Mexico have adopted emission regulations
restricting the emissions from both existing and future coal, oil
and gas-fired plants. These regulations are in some instances more
stringent than those adopted by the EPA. The principal generating
units of TEP are located relatively close to national parks,
monuments, wilderness areas and Indian reservations. Since these
areas have relatively high air quality, TEP could be subject to
control standards that relate to the "prevention of significant
deterioration" of visibility and tall stack limitation rules.
The 1990 Federal Clean Air Act Amendments (CAAA) require
reductions of sulfur dioxide (SO2) and nitrogen oxide (NOx)
emissions in two phases, more complex facility permits and other
requirements. TEP is subject only to Phase II of the SO2 and NOx
emission reductions which was effective January 1, 2000. All of
TEP's generating facilities (except existing internal combustion
turbines) are affected. TEP spent approximately $1 million in each
of 1999, 1998 and 1997 and expects to spend approximately $1 million
annually in 2000 and 2001 complying with these requirements.
In 1993, TEP's generating units affected by Phase II were
allocated SO2 Emission Allowances based on past operational history.
Beginning in the year 2000, Phase II generating units must hold
Emission Allowances equal to the level of emissions in the
compliance year or pay penalties and offset excess emissions in
future years. Due to increased energy output, TEP may have to
purchase additional Emission Allowances to comply with the Phase II
SO2 regulations. Based on current estimates, TEP believes that it
will purchase additional Emission Allowances and that such purchases
will not have a material effect on TEP.
In 1991, the EPA adopted a rule to reduce SO2 emissions at the
Navajo Station by 90% to improve visibility at Grand Canyon National
Park. TEP's share of the required capital expenditures remaining as
of December 31, 1999 is approximately $1 million.
Title V of the CAAA requires that all of TEP's generating
facilities obtain more complex air quality permits. All TEP
facilities (including those jointly owned and operated by others)
have applied for these permits and TEP does not anticipate any
material problems in obtaining the required permits. In 1999 TEP
received Title V permits for the Springerville and Irvington
generating stations. These permits are valid for five years. TEP
must pay an annual emission-based fee for each generating facility
subject to a Title V permit. These emission-based fees are included
in the CAAA compliance expenses discussed above.
The CAAA also require multi-year studies of visibility
impairment in specified areas and studies of hazardous air
pollutants. The results of these studies will impact the
development of future regulations of electric utility generating
units. Since these activities involve the gathering of information
not currently available, TEP cannot predict the outcome of these
studies.
TEP may incur additional costs to comply with recent and future
changes in federal and state environmental laws, regulations and
permit requirements at existing electric generating facilities.
Compliance with these changes may result in a reduction in operating
efficiency. Failure to comply with any EPA or state compliance
requirements may result in substantial penalties or fines.
MILLENNIUM ENERGY BUSINESSES
----------------------------
Millennium owns 100% of the common stock of five subsidiaries,
AET, ION, MEH, Nations Energy, and SES (described below).
Millennium's assets comprise approximately 4% of the
consolidated assets of UniSource Energy. Millennium recorded net
income of $10.9 million for the year ended December 31,1999 related
to these investments. These results are included in the Other
Income (Deductions) section on UniSource Energy's income statement.
We discuss these results in Item 7. Management's Discussion and
Analysis of Financial Condition and Results of Operations, Results
of Operations, Results of Millennium Energy Businesses.
AET and Global Solar
Advanced Energy Technologies, Inc. was established in May 1996.
This subsidiary of Millennium develops renewable energy and
distributed generation technologies. In 1996 AET acquired from ITN
a 50% ownership interest in Global Solar Energy, L.L.C., an Arizona
corporation which develops and manufactures flexible thin-film
photovoltaic cells. In November 1999, Millennium and ITN entered
into an agreement in which Millennium's share of Global Solar will
increase to 67%. Under the agreement, ITN agreed to transfer its
rights to certain assets and proprietary and intellectual property,
including thin-film battery technology, to Global Solar. In
addition, Millennium will contribute to Global Solar up to $14
million in additional equity upon the occurrence of certain agreed-
upon production and business milestones. Millennium and ITN
are in the process of finalizing the structure of the
transaction. As of December 31, 1999, Millennium had funded $2
million under this agreement.
Global Solar began limited commercial production of
photovoltaic cells in 1999. Target markets for its products include
military, space and home applications. We expect Global Solar's
manufacturing facility to produce approximately 1.5 MW or 255,000
square feet of the product in 2000.
ION
ION International, Inc., a wholly owned subsidiary of
Millennium, was established in January 2000. ION intends to provide
technology applications to commerce, health care and industry
organizations to help them more efficiently manage their energy
needs.
MEH and NewEnergy
MEH sold its 50% ownership interest in NewEnergy (formerly New
Energy Ventures, Inc.) to The AES Corporation on July 23, 1999.
NewEnergy is a provider of electricity, energy products, services
and technology based energy solutions to customers in deregulating
energy markets. MEH recorded an after-tax gain of $20.8 million on
the sale of NewEnergy in the third quarter of 1999. MEH received
$50 million in consideration for the sale, consisting of $27.2
million in AES common stock, and secured promissory notes issued by
NewEnergy totaling $22.8 million, payable over two years. MEH has
sold the AES common stock and still retains the promissory notes
which are secured by AES common stock.
Nations Energy
Nations Energy Corporation was established in 1995 to develop
and invest in independent power projects worldwide. Nations Energy
is involved in the following projects:
- --In 1996, Nations Energy acquired an interest in the development
of a 340 MW power project in the Czech Republic, consisting of the
upgrade and expansion of a cogeneration facility located in the city
of Kladno. In January 2000, Nations Energy sold its interest in
this project to another partner of the project resulting in a $3
million pre-tax gain.
- --In 1996, Nations Energy acquired an interest in the development
of a 167 MW power plant on the Island of Curacao, Venezuela.
Customers will be the ISLA refinery and the Island of Curacao. This
project is scheduled for completion in 2002.
- --In the second quarter 1998, Nations Energy agreed to develop a
110 MW cogeneration plant with Chalmette Refining, L.L.C., a
Louisiana refinery located near New Orleans. The on-site facility
will be 50% owned and managed by Nations Energy. This project is
scheduled for completion in late 2001.
- --In the third quarter 1998, Nations Energy purchased a 39%
interest in Corporation Panamena de Energia, S.A. (COPESA) for $7.6
million. COPESA is an independent power producer which owns and
operates a 43 MW power plant near Panama City.
Currently, we do not intend to make any material investments in
new projects through Nations Energy and we continue to review
options for the sale of Nations Energy's remaining assets.
SES
Southwest Energy Solutions, Inc., a wholly-owned subsidiary of
Millennium, was established in January 1997. SES provides energy
support services to retail electric consumers including lighting
equipment, service restoration, and design, engineering and
construction services.
EMPLOYEES
---------
As of December 31, 1999, TEP had 1,142 employees and the
subsidiaries of Millennium had 60 employees. The International
Brotherhood of Electrical Workers (IBEW) 1116 represents about 60%
of TEP's employees. A new collective bargaining agreement between
the IBEW and TEP was ratified in March 1999 and extends until
January 2003. The new agreement resulted in a wage increase of 3%
for 1999 and an additional 3% increase for 2000.
TEP's UTILITY OPERATING STATISTICS
For Years Ended December 31,
1999 1998 1997 1996 1995
- ------------------------------------------------------------------------------------------------------
Generation and Purchased Power-kWh (000)
Remote Generation (Coal) 10,000,401 10,002,250 9,694,152 9,784,918 8,716,513
Local Generation (Oil, Gas & Coal) 1,115,277 720,515 806,819 723,232 500,958
Purchased Power 2,712,570 2,227,773 1,222,970 925,394 692,769
- ------------------------------------------------------------------------------------------------------
Total Generation and Purchased Power 13,828,248 12,950,538 11,723,941 11,433,544 9,910,240
Less Losses and Company Use 814,945 810,117 824,072 776,436 661,901
- ------------------------------------------------------------------------------------------------------
Total Energy Sold 13,013,303 12,140,421 10,899,869 10,657,108 9,248,339
======================================================================================================
Sales-kWh (000)
Residential 2,736,837 2,662,598 2,608,515 2,516,282 2,330,191
Commercial 1,383,756 1,355,319 1,316,360 1,306,826 1,280,752
Industrial 2,220,900 2,139,464 2,115,332 2,080,763 1,979,317
Mining 1,200,214 1,230,259 1,193,094 1,164,140 1,147,281
Public Authorities 247,361 242,845 237,113 228,800 204,746
- ------------------------------------------------------------------------------------------------------
Total - Retail Customers 7,789,068 7,630,485 7,470,414 7,296,811 6,942,287
Sales for Resale 5,224,235 4,509,936 3,429,455 3,360,297 2,306,052
- ------------------------------------------------------------------------------------------------------
Total Sales 13,013,303 12,140,421 10,899,869 10,657,108 9,248,339
======================================================================================================
Operating Revenues (000)
Residential $253,352 $248,821 $246,251 $237,569 $218,208
Commercial 148,039 146,269 146,377 143,623 138,294
Industrial 160,963 157,735 158,266 154,547 146,409
Mining 49,399 51,965 53,231 56,240 54,948
Public Authorities 18,148 17,950 17,531 16,949 14,952
Other 2,963 2,981 2,565 2,636 2,114
- ------------------------------------------------------------------------------------------------------
Total - Retail Customers 632,864 625,721 624,221 611,564 574,925
Amortization of MSR Option Gain
Regulatory Liability - - 8,105 20,053 20,053
Sales for Resale 171,219 143,269 97,567 84,256 75,591
- ------------------------------------------------------------------------------------------------------
Total Operating Revenues $804,083 $768,990 $729,893 $715,873 $670,569
======================================================================================================
Customers (End of Period)
Residential 303,653 295,469 287,857 282,060 273,976
Commercial 29,714 28,648 28,309 28,199 27,858
Industrial 705 684 664 626 620
Mining 4 4 4 4 4
Public Authorities 61 61 61 61 59
- ------------------------------------------------------------------------------------------------------
Total Retail Customers 334,137 324,866 316,895 310,950 302,517
======================================================================================================
Average Revenue per kWh Sold (cents)
Residential 9.3 9.3 9.4 9.4 9.4
Commercial 10.7 10.8 11.1 11.0 10.8
Industrial and Mining 6.1 6.2 6.4 6.5 6.4
Average Retail Revenue per kWh Sold 8.1 8.2 8.4 8.4 8.3
Average Revenue per Residential Customer $845 $855 $865 $854 $809
Average kWh Sales per Residential Customer 9,132 9,144 9,159 9,050 8,641
ITEM 2. - PROPERTIES
- --------------------------------------------------------------------
TEP's transmission facilities, located in Arizona and New
Mexico, transmit electricity from TEP's remote electric generating
stations at Four Corners, Navajo, San Juan and Springerville to the
Tucson area for use by TEP's retail customers (see Item 1, Business,
Generating and Other Resources for the location of TEP's plants).
The transmission system is directly interconnected with systems
operated by the following utilities:
Utility Location
------- --------
Arizona Public Service Co. Arizona
Arizona Electric Power Cooperative Arizona
El Paso Electric Co. New Mexico, Texas
Public Service Co. of New Mexico New Mexico
Salt River Project Arizona
TEP has arrangements with approximately 180 companies,
including the five listed above, to interchange generation capacity
and transmission of energy.
As of December 31, 1999, TEP owned, or participated in, an
overhead electric transmission and distribution system consisting
of:
-- 511 circuit-miles of 500 kV lines;
-- 1,122 circuit-miles of 345 kV lines;
-- 363 circuit-miles of 138 kV lines;
-- 435 circuit-miles of 46 kV lines; and
-- 10,466 circuit-miles of lower voltage primary lines.
The underground transmission and distribution system was comprised
of 5,593 cable-miles. TEP owns approximately 77% of the poles on
which the lower voltage lines are located. Electric substation
capacity consisted of 179 substations with a total installed
transformer capacity of 5,433,105 kVA.
The electric generating stations (except as noted below), TEP's
general office building, operating headquarters and warehouse and
service center are located on land owned by TEP. The electric
distribution and transmission facilities owned by TEP are located:
-- on property owned by TEP;
-- under or over streets, alleys, highways and other public places,
the public domain and national forests and state lands under
franchises, easements or other rights which are generally subject
to termination;
-- under or over private property as a result of easements obtained
primarily from the record holder of title; and
-- over Indian reservations under grant of easement by the Secretary
of Interior or lease by Indian tribes.
It is possible that some of the easements, and the property over
which the easements were granted, may have title defects or may be
subject to mortgages or liens existing at the time the easements
were acquired.
Springerville is located on land parcels held by TEP under a
long-term surface ownership agreement with the State of Arizona.
Four Corners and Navajo are located on properties held under
easements from the United States and under leases from the Navajo
Indian Tribe. TEP, individually and in conjunction with PNM in
connection with San Juan, has acquired easements and leases for
transmission lines and a water diversion facility located on the
Navajo Indian Reservation. TEP has also acquired easements for
transmission facilities, related to San Juan and Navajo, across the
Zuni, Navajo and Tohono O'odham Indian Reservations.
TEP's rights under these various easements and leases may be
subject to defects such as:
-- possible conflicting grants or encumbrances due to the absence of
or inadequacies in the recording laws or record systems of the
Bureau of Indian Affairs and the Indian tribes;
-- possible inability of TEP to legally enforce its rights against
adverse claimants and the Indian tribes without Congressional
consent; and
-- failure or inability of the Indian tribes to protect TEP's
interests in the easements and leases from disruption by the U.S
Congress, Secretary of the Interior, or other adverse claimants.
However, these possible defects have not and are not expected to
materially interfere with TEP's interest in and operation of its
facilities.
TEP, under separate sale and leaseback arrangements, leases the
following generation facilities (which do not include land):
-- coal handling facilities at Springerville;
-- a 50% undivided interest in the Springerville Common Facilities;
-- Springerville Unit 1 and the remaining 50% undivided interest in
Springerville Common Facilities; and
-- Irvington Unit 4 and related common facilities.
See Note 6 of Notes to Consolidated Financial Statements, Long-Term
Debt and Capital Lease Obligations for additional information on
TEP's capital lease obligations.
Substantially all of the utility assets owned by TEP are
subject to the lien of the General First Mortgage and the General
Second Mortgage. Springerville Unit 2, which is owned by San
Carlos, is not subject to those liens.
ITEM 3. - LEGAL PROCEEDINGS
- --------------------------------------------------------------------
TAX ASSESSMENTS
---------------
See Contingencies in Note 9 of Notes to Consolidated Financial
Statements.
LITIGATION RELATED TO ACC ORDERS AND RETAIL COMPETITION
-------------------------------------------------------
See RATES AND REGULATION.
ITEM 4. - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- --------------------------------------------------------------------
Not Applicable.
PART II
ITEM 5. - MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
- --------------------------------------------------------------------
STOCKHOLDER MATTERS
- --------------------------------------------------------------------
The common stock of UniSource Energy is listed on the New York
and Pacific Stock Exchanges, and began trading under the symbol of
UNS on January 2, 1998. The closing price of the common stock on
February 24, 2000 was $13.3125, with 23,389 shareholders of record.
The table below lists the high and low sale prices of UniSource
Energy's common stock on the consolidated tape as reported by Dow
Jones. No dividends were paid on UniSource Energy common stock
during these periods.
Market Price per
Quarter Share of Common Stock
------- ---------------------
1999 High Low
---- ---- ---
First $13.94 $10.38
Second 12.75 10.38
Third 12.44 11.56
Fourth 12.69 10.88
Market Price per
Quarter Share of Common Stock
------- ---------------------
1998 High Low
---- ---- ---
First $18.69 $16.56
Second 18.94 15.31
Third 16.06 12.25
Fourth 17.50 12.50
On December 3, 1999 UniSource Energy declared a cash dividend
in the amount of $0.08 per share on its common stock. The dividend
is the first declared by UniSource Energy and is payable March 10,
2000 to shareholders of record at the close of business February 15,
2000.
TEP declared and paid cash dividends to its sole shareholder,
UniSource Energy, of $34 million and $30 million in the fourth
quarters of 1999 and 1998, respectively.
See Item 7. - Management's Discussion and Analysis of Financial
Condition and Results of Operations, Dividends on Common Stock.
ITEM 6. - SELECTED CONSOLIDATED FINANCIAL DATA
- --------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------
UniSource Energy
(In thousands - except per share 1999 1998 1997 1996 1995
data and ratios) ---- ---- ---- ---- ----
Summary of Operations
- ----------------------------------------------------------------------------------------------
Operating Revenues $803,812 $768,676 $729,893 $715,873 $670,569
Income Tax Benefit Recognition
Related to Prior Period NOLs -
Part of Income Taxes - - $43,443 $88,638 $23,282
Gain on Sale of New Energy $34,651 - - - -
Net Losses of Millennium
Energy Businesses $(11,276) $(11,884) $(8,182) $(2,218) $(1,327)
Income from Continuing Operations $56,510 $28,032 $83,572 $120,852 $54,905
Extraordinary Income - Net of Tax $22,597 - - - -
Net Income $79,107 $28,032 $83,572 $120,852 $54,905
Basic Earnings per Share
from Continuing Operations $1.75 $0.87 $2.60 $3.76 $1.71
Diluted Earnings per Share
from Continuing Operations $1.74 $0.87 $2.59 $3.75 $1.70
Shares of Common Stock Outstanding
Average 32,321 32,177 32,138 32,136 32,138
End of Year 32,349 32,258 32,139 32,139 32,138
Book Value per Share $10.02 $7.65 $6.75 $4.15 $0.39
Cash Dividends Declared per share $0.08 - - - -
- -----------------------------------------------------------------------------------------------
Financial Position
- -----------------------------------------------------------------------------------------------
Total Utility Plant - Net $1,729,856 $1,915,590 $1,935,513 $1,953,904 $1,978,126
Investments and Other Property 114,483 110,289 79,471 69,289 52,116
Total Assets 2,656,255 2,634,049 2,634,409 2,568,541 2,563,461
Long-Term Debt 1,135,820 1,184,423 1,215,120 1,223,025 1,207,460
Non-Current Capital
Lease Obligations 880,427 889,543 890,257 895,867 897,958
Common Stock Equity 324,248 246,646 216,878 133,288 12,488
------------------------------------------------------------
Total Capitalization $2,340,495 2,320,612 $2,322,255 $2,252,180 $2,117,906
- -----------------------------------------------------------------------------------------------
Selected Cash Flow Data
- -----------------------------------------------------------------------------------------------
Net Cash Flows from Operating
Activities $113,228 $160,933 $126,283 $152,932 $119,390
Capital Expenditures 92,808 81,147 72,475 68,272 59,097
- -----------------------------------------------------------------------------------------------
- -- Net Losses from Millennium Energy Businesses are before income
taxes and do not include the 1999 Gain on Sale of NewEnergy.
- -- For years prior to 1998, UniSource Energy's operations and those
of TEP are the same.
See Item 7, Management's Discussion and Analysis of Financial Condition
and Results of Operations.
ITEM 6. - SELECTED CONSOLIDATED FINANCIAL DATA
- ------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------
TEP
(In thousands) 1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Summary of Operations
- ----------------------------------------------------------------------------------------------
Operating Revenues $804,083 $768,990 $729,893 $715,873 $670,569
Income Tax Benefit Recognition
Related to Prior Period NOLs -
Part of Income Taxes - - $43,443 $88,638 $23,282
Net Losses of Millennium
Energy Businesses - - $(8,182) $(2,218) $(1,327)
Income from Continuing Operations $50,878 $41,676 $83,572 $120,852 $54,905
Extraordinary Income - Net of Tax $22,597 - - - -
Net Income $73,475 $41,676 $83,572 $120,852 $54,905
- -----------------------------------------------------------------------------------------------
Financial Position
- -----------------------------------------------------------------------------------------------
Total Utility Plant - Net $1,729,856 $1,915,590 $1,935,513 $1,953,904 $1,978,126
Investments and Other Property 67,838 62,978 79,471 69,289 52,116
Total Assets 2,600,508 2,628,588 2,634,409 2,568,541 2,563,461
Long-Term Debt 1,135,820 1,184,423 1,215,120 1,223,025 1,207,460
Non-Current Capital
Lease Obligations 880,111 889,543 890,257 895,867 897,958
Common Stock Equity 270,134 229,861 216,878 133,288 12,488
------------------------------------------------------------
Total Capitalization $2,286,065 $2,303,827 $2,322,255 $2,252,180 $2,117,906
- -----------------------------------------------------------------------------------------------
Selected Cash Flow Data
- -----------------------------------------------------------------------------------------------
Net Cash Flows from Operating
Activities $139,957 $180,487 $126,283 $152,932 $119,390
Capital Expenditures 90,940 81,011 72,475 68,272 59,097
- -----------------------------------------------------------------------------------------------
Ratio of Earnings to Fixed Charges 1.45 1.35 1.39 1.25 1.21
- -----------------------------------------------------------------------------------------------
- -- For years prior to 1998, UniSource Energy's operations and those
of TEP are the same.
- -- Disclosure of earnings per share information for TEP is not
presented as TEP has only debt securities outstanding.
See Item 7, Management's Discussion and Analysis of Financial
Condition and Results of Operations.
ITEM 7. - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
- --------------------------------------------------------------------
CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------
Management's Discussion and Analysis explains the general
financial condition and the results of operations for UniSource
Energy and its two primary business segments-the electric utility
business of TEP and the unregulated energy businesses of Millennium,
and includes the following:
-- operating results during 1999 compared with 1998 and 1998
compared with 1997,
-- changes in liquidity and capital resources during 1999, and
-- expectations of identifiable material trends which may affect our
business in the future.
TEP is the principal operating subsidiary of UniSource Energy
and accounts for substantially all of its assets and revenues.
Income and losses from Millennium's energy-related businesses have
had a significant impact on earnings reported by UniSource Energy
for the years ended December 31, 1999, 1998 and 1997.
OVERVIEW
- --------
UniSource Energy recorded net income of $79.1 million in 1999,
compared with $28.0 million in 1998 and $83.6 million in 1997. The
primary factors contributing to the higher net income in 1999 were:
-- improved operating performance at TEP;
-- $22.6 million after-tax extraordinary income from changes in
accounting for TEP's generation operations;
-- $20.8 million net gain on the sale of NewEnergy, one of our
unregulated energy subsidiaries; and
-- $9.0 million in tax benefits attributable to the improved
likelihood of favorable resolution of tax matters.
The reduction in reported income tax benefits related to prior
period net operating losses from $43.4 million in 1997 to zero in
1998 contributed to the decline in earnings in 1998. See Results of
Operations, Other Income (Deductions) below. Common stock equity
was $324 million as of December 31, 1999, compared with $247 million
as of December 31, 1998.
In addition to the items described above, other factors
impacting results for 1999 were:
-- $5.8 million lower long-term debt interest expense as a result of
refinancings and prepayments;
-- $3.0 million write-off of investments at Nations Energy
subsidiaries in 1999;
-- increase in capital lease depreciation and interest expense
related to the change in accounting for our generation operations;
and
-- a 1.0% retail rate decrease effective July 1, 1999.
Our financial prospects are subject to significant competitive,
regulatory, economic and other uncertainties. The approval of TEP's
Settlement Agreement resolved a significant amount of regulatory
uncertainty and provides TEP with a reasonable opportunity to
recover 100 percent of its transition recovery assets. However, we
cannot predict with certainty the full impact of retail competition
on TEP's future operating results or financial condition. Some of
the factors which may affect our future financial results include
weather variations which may affect customer usage, load growth and
demand levels in the current TEP service territory, and market
prices for wholesale and retail energy. See Competition, Retail
below.
Other uncertainties include the extent to which, in response to
industry changes or unanticipated economic downturns, TEP can alter
operations and reduce costs, which may be limited due to high
financial and operating leverage. Future results will depend, in
part, on our ability to contain and/or reduce the costs of serving
retail customers and the level of sales to such customers.
We are addressing the uncertainties discussed above by
positioning our subsidiaries to benefit from the changing regulatory
and energy market environment. In November 1998, TEP organized its
utility business activities into two separate business units: (1)
generation and (2) transmission and distribution, and in January
1999, formed a third business unit which provides administrative
services to the utility business units. We are improving cost
measurement and management techniques at TEP. We have also extended
contracts, where appropriate, for large wholesale and retail
customers. We are investing in our unregulated affiliates to
provide energy products and services to markets both within and
beyond TEP's retail service territory. See Competition, Retail;
Results of Millennium Energy Businesses; and Results of Operations
below.
Our financial prospects are also subject to uncertainties relating
to the start-up and developmental activities of the Millennium
Energy Businesses segment. At December 31, 1999, Millennium's
unregulated energy-related affiliates comprised approximately 4% of
total assets, but at times have had a significant impact on our
consolidated net income and cash flows. We continue to evaluate
these affiliates for opportunities to realize value from our
investments. In the third quarter of 1999, we sold our ownership
interest in affiliate NewEnergy and recorded a gain on the
transaction. In January 2000, we sold our interest in a power
project in which Nations Energy had invested, recording a gain on
the transaction. See Results of Millennium Energy Businesses.
Our consolidated capital structure remains highly leveraged.
Since April 1997, however, we have made significant progress in our
financial strategy to reduce refinancing risk by extending
maturities of long-term debt and letters of credit and by reducing
exposure to variable interest rates by refinancing over $475 million
in variable rate debt with fixed interest rate securities. With a
more stabilized regulatory outlook and with ongoing improvements in
our capital structure, UniSource Energy declared its first dividend
to common shareholders in December 1999. TEP, now the principal
operating subsidiary of UniSource Energy, had not paid a common
dividend to public shareholders since 1989. See Dividends on Common
Stock and Investing and Financing Activities, Bond Issuance and
Redemption, below.
TEP's capital requirements include construction expenditures
and scheduled maturities of debt and capital lease obligations.
During the next twelve months, TEP expects to be able to fund
operating activities and construction expenditures with internal
cash flows, existing cash balances, and, if necessary, borrowings
under the Revolving Credit Facility. While some of Millennium's
unregulated energy businesses have required significant amounts of
capital and credit, management currently expects to make limited
investments in these businesses. We expect to use existing cash
balances to fulfill these needs, or if necessary, we may seek
investments by unaffiliated parties to meet the ongoing capital
requirements of some of these businesses. See Liquidity and Capital
Resources, Investing and Financing Activities, below.
FACTORS AFFECTING RESULTS OF OPERATIONS
- ---------------------------------------
COMPETITION
-----------
RETAIL
The electric utility industry is undergoing significant
regulatory change designed to encourage competition in the sale of
electricity and related services. When retail competition for
electric generation supply begins in TEP's retail service territory
approximately 20% of TEP's retail customers will become eligible to
choose an alternate energy supplier. However, no competitors are
currently providing electric service to customers in our retail
service area nor has TEP lost any significant customers to self-
generation. It is likely that, with open access in our retail
service territory, some customers will elect to purchase their
energy requirements from other energy suppliers when available. TEP
competes against gas service suppliers and others who provide energy
services and also markets customized energy-related services.
Certain large retail customers will continue to be served by
TEP under contracts negotiated by TEP. During 1999, TEP entered
into a new contract with a major mining customer which extends the
term to 2006. The contract includes reduced pricing that will lower
TEP's annual revenues by approximately $4 - $5 million depending on
the price of copper during the next four years but will assure
continue