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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002
OR
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
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Commission Registrant; State of Incorporation; IRS Employer
File Number Address; and Telephone Number Identification No.
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1-5611 CONSUMERS ENERGY COMPANY 38-0442310
(A Michigan Corporation)
212 West Michigan Avenue, Jackson, Michigan 49201
(517)788-0550
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
Name of Each Exchange
Registrant Title of Class on Which Registered
---------- -------------- -----------------------
CONSUMERS ENERGY COMPANY Preferred Stocks, $100 par value: $4.16 Series, $4.50 Series New York Stock Exchange
CONSUMERS POWER
COMPANY FINANCING I 8.36% Trust Originated Preferred Securities New York Stock Exchange
CONSUMERS ENERGY
COMPANY FINANCING II 8.20% Trust Originated Preferred Securities New York Stock Exchange
CONSUMERS ENERGY
COMPANY FINANCING III 9.25% Trust Originated Preferred Securities New York Stock Exchange
CONSUMERS ENERGY
COMPANY FINANCING IV 9.00% Trust Originated Preferred Securities New York Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: None
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether Registrant is an accelerated filer (as defined
in Exchange Act Rule 12b-2). Yes No X
--- ---
As of June 28, 2002 and March 15, 2003, CMS Energy held all voting and
non-voting common equity of Consumers.
Documents incorporated by reference: Consumers' information statement relating
to the 2003 annual meeting of shareholders to be held May 23, 2003, is
incorporated by reference in Part III, except for the organization and
compensation committee report and audit committee report contained therein.
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CONSUMERS ENERGY COMPANY
Annual Report on Form 10-K to the Securities and Exchange Commission
for the Year Ended December 31, 2002
TABLE OF CONTENTS
Page
Glossary ............................................................................................. 3
PART I:
Item 1. Business..................................................................................... 7
Item 2. Properties................................................................................... 20
Item 3. Legal Proceedings............................................................................ 20
Item 4. Submission of Matters to a Vote of Security Holders.......................................... 20
PART II:
Item 5. Market for Consumers' Common Equity and Related Stockholder Matters.......................... 21
Item 6. Selected Financial Data...................................................................... 21
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations................................................................... 21
Item 7A. Quantitative and Qualitative Disclosures About Market Risk................................... 21
Item 8. Financial Statements and Supplementary Data.................................................. 22
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure.................................................................... 104
PART III:
Item 10. Directors and Executive Officers of Consumers................................................ 105
Item 11. Executive Compensation....................................................................... 105
Item 12. Security Ownership of Certain Beneficial Owners and Management............................... 105
Item 13. Certain Relationships and Related Transactions............................................... 105
Item 14. Controls and Procedures...................................................................... 105
PART IV:
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K.............................. 106
-2-
GLOSSARY
Certain terms used in the text and financial statements are defined below.
ABATE..................................... Association of Businesses Advocating Tariff Equity
Accumulated Benefit Obligation............ The liabilities of a pension plan based on service and pay to date.
This differs from the Projected
Benefit Obligation that is typically
disclosed in that it does not reflect
expected future salary increases
AEP....................................... American Electric Power Co.
ALJ....................................... Administrative Law Judge
Alliance.................................. Alliance Regional Transmission Organization
AMT....................................... Alternative minimum tax
APB....................................... Accounting Principles Board
APB Opinion No. 25........................ APB Opinion No. 25, "Accounting for Stock Issued to Employees"
APB Opinion No. 30........................ APB Opinion No. 30, "Reporting Results of Operations -- Reporting the
Effects of Disposal of a Segment of a Business"
Arthur Andersen........................... Arthur Andersen, LLP
Articles.................................. Articles of Incorporation
Attorney General.......................... Michigan Attorney General
bcf....................................... Billion cubic feet
Big Rock.................................. Big Rock Point nuclear power plant, owned by Consumers
Board of Directors........................ Board of Directors of CMS
Bookouts.................................. Unplanned netting of transactions from multiple contracts
Btu....................................... British thermal unit
CEO....................................... Chief Executive Officer
CFO....................................... Chief Financial Officer
Clean Air Act............................. Federal Clean Air Act, as amended
CMS Energy................................ CMS Energy Corporation, the parent of Consumers and Enterprises
CMS Energy Common Stock................... Common stock of CMS Energy, par value $.01 per share
CMS Holdings.............................. CMS Midland Holdings Company, a subsidiary of Consumers
CMS Midland............................... CMS Midland Inc., a subsidiary of Consumers
CMS MST................................... CMS Marketing, Services and Trading Company, a subsidiary of
Enterprises
CMS Oil and Gas........................... CMS Oil and Gas Company, formerly a subsidiary of Enterprises
Common Stock.............................. All classes of Common Stock of CMS Energy and each of its
subsidiaries, or any of them individually, at the time of an award or
grant under the Performance Incentive Stock Plan
Consumers................................. Consumers Energy Company, a subsidiary of CMS Energy
Consumers Campus Holdings................. Consumers Campus Holdings, L.L.C., a wholly owned subsidiary of
Consumers
Consumers Funding......................... Consumers Funding, L.L.C., a special consolidated subsidiary of
Consumers
Consumers Receivables Funding............. Consumers Receivables Funding, L.L.C., a wholly owned subsidiary of
Consumers
Court of Appeals.......................... Michigan Court of Appeals
Customer Choice Act....................... Customer Choice and Electricity Reliability Act, a Michigan statute enacted in
June 2000 that allows all retail customers choice of alternative
electric suppliers no later than January 1, 2002, provides for full
recovery of net stranded costs and implementation costs, establishes a
five percent reduction in residential rates, establishes rate freeze and
rate cap, and allows for Securitization
-3-
Detroit Edison............................ The Detroit Edison Company, a non-affiliated company
DOE....................................... U.S. Department of Energy
Dow....................................... The Dow Chemical Company, a non-affiliated company
DSM....................................... Demand-side management
EISP...................................... Executive Incentive Separation Plan
EITF...................................... Emerging Issues Task Force
EITF No. 97-4............................. EITF 97-4, "Deregulation of the Pricing of Electricity"
Enterprises............................... CMS Enterprises Company, a subsidiary of CMS Energy
EPA....................................... U. S. Environmental Protection Agency
EPS....................................... Earnings per share
ERISA..................................... Employee Retirement Income Security Act
Ernst & Young............................. Ernst & Young LLP
FASB...................................... Financial Accounting Standards Board
FERC...................................... Federal Energy Regulatory Commission
FMLP...................................... First Midland Limited Partnership, a partnership which holds a lessor
interest in the MCV facility
GCR....................................... Gas cost recovery
Health Care Plan.......................... The medical, dental, and prescription drug programs offered to
eligible employees of Panhandle, Consumers and CMS Energy
IPP....................................... Independent Power Producer
ISO....................................... Independent System Operator
ITC....................................... Investment tax credit
kWh....................................... Kilowatt-hour
LIBOR..................................... London Inter-Bank Offered Rate
Ludington................................. Ludington pumped storage plant, jointly owned by Consumers and Detroit
Edison
MACT...................................... Maximum Achievable Control Technology
Massachusetts Formula..................... A widely used and FERC accepted method of allocating general and
administrative expenses, based on three factors: property, sales and payroll
mcf....................................... Thousand cubic feet
MCV Facility.............................. A natural gas-fueled, combined-cycle cogeneration facility operated by
the MCV Partnership
MCV Partnership........................... Midland Cogeneration Venture Limited Partnership in which Consumers
has a 49 percent interest through CMS Midland
MD&A...................................... Management's Discussion and Analysis
METC...................................... Michigan Electric Transmission Company, a former subsidiary of
Consumers Energy, and now an indirect subsidiary of Trans-Elect, Inc.
Michigan Gas Storage...................... Michigan Gas Storage Company, a former subsidiary of Consumers that
merged into Consumers in November 2002
MISO...................................... Midwest Independent System Operator
Moody's................................... Moody's Investors Service, Inc.
MPSC...................................... Michigan Public Service Commission
MTH....................................... Michigan Transco Holdings, Limited Partnership
MW........................................ Megawatts
-4-
NEIL...................................... Nuclear Electric Insurance Limited, an industry mutual insurance
company owned by member utility companies
NMC....................................... Nuclear Management Company, a Wisconsin company, formed in 1999 by
Northern States Power Company (now Xcel Energy Inc.), Alliant Energy,
Wisconsin Electric Power Company, and Wisconsin Public Service Company to
operate and manage nuclear generating facilities owned by the four
utilities
NRC....................................... Nuclear Regulatory Commission
NYMEX..................................... New York Mercantile Exchange
OATT...................................... Open Access Transmission Tariff
OPEB...................................... Postretirement benefit plans other than pensions for retired employees
Palisades................................. Palisades nuclear power plant, owned by Consumers
Panhandle................................. Panhandle Eastern Pipe Line Company, including its subsidiaries
Trunkline, Pan Gas Storage, Panhandle Storage, and Trunkline LNG.
Panhandle is a wholly owned subsidiary of CMS Gas Transmission
PCB....................................... Polychlorinated biphenyl
Pension Plan.............................. The trusteed, non-contributory, defined benefit pension plan of
Panhandle, Consumers and CMS Energy
PJM....................................... Pennsylvania-Jersey-Maryland
PPA....................................... The Power Purchase Agreement between Consumers and the MCV Partnership
with a 35-year term commencing in March 1990
Price-Anderson Act........................ Price-Anderson Act, enacted in 1957 as an amendment to the Atomic
Energy Act of 1954, as revised and extended over the years. This act
stipulates between nuclear licensees and the U.S. government the
insurance, financial responsibility, and legal liability for nuclear
accidents
PSCR...................................... Power supply cost recovery
PURPA..................................... Public Utility Regulatory Policies Act
RTO....................................... Regional Transmission Organization
SEC....................................... U.S. Securities and Exchange Commission
Securitization............................ A financing authorized by statute in which a MPSC approved flow of
revenues from a portion of the rates charged by a utility to its customers
is set aside and pledged as security for the repayment of Securitization
bonds issued by a special purpose entity affiliated with such utility
SERP...................................... Supplemental Executive Retirement Plan
SFAS...................................... Statement of Financial Accounting Standards
SFAS No. 5................................ SFAS No. 5, "Accounting for Contingencies"
SFAS No. 13............................... SFAS No. 13, "Accounting for Leases"
SFAS No. 71............................... SFAS No. 71, "Accounting for the Effects of Certain Types of
Regulation"
SFAS No. 87............................... SFAS No. 87, "Employers' Accounting for Pensions"
SFAS No. 106.............................. SFAS No. 106, "Employers' Accounting for Postretirement Benefits Other
Than Pensions"
SFAS No. 109.............................. SFAS No. 109, "Accounting for Income Taxes"
SFAS No. 115.............................. SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities"
SFAS No. 121.............................. SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed Of"
-5-
SFAS No. 123.............................. SFAS No. 123, "Accounting for Stock-Based Compensation"
SFAS No. 133.............................. SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities, as amended and interpreted"
SFAS No. 141.............................. SFAS No. 141, "Business Combinations"
SFAS No. 142.............................. SFAS No. 142, "Goodwill and Other Intangible Assets"
SFAS No. 143.............................. SFAS No. 143, "Accounting for Asset Retirement Obligations"
SFAS No. 144.............................. SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets"
SFAS No. 145.............................. SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64,
Amendment of FASB Statement No. 13, and Technical Corrections"
SFAS No. 146.............................. SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal
Activities"
SFAS No. 147.............................. SFAS No. 147, "Acquisitions of Certain Financial Institutions"
SFAS No. 148.............................. SFAS No. 148 "Accounting for Stock-Based Compensation -- Transition
and Disclosure"
Special Committee......................... A special committee of independent directors, established by CMS
Energy's Board of Directors, to investigate matters surrounding
round-trip trading
Stranded Costs............................ Costs incurred by utilities in order to serve their customers in a
regulated monopoly environment, but which may not be recoverable in a
competitive environment because of customers leaving their systems and
ceasing to pay for their costs. These costs could include owned and
purchased generation and regulatory assets.
Superfund................................. Comprehensive Environmental Response, Compensation and Liability Act
Trunkline................................. Trunkline Gas Company, a subsidiary of Panhandle Eastern Pipe Line
Company
Trust Preferred Securities................ Securities representing an undivided beneficial interest in the assets
of statutory business trusts, which interests have a preference with
respect to certain trust distributions over the interests of either
CMS Energy or Consumers, as applicable, as owner of the common
beneficial interests of the trusts
Union..................................... Utility Workers of America, AFL-CIO
VEBA Trusts............................... VEBA (voluntary employees' beneficiary association) Trusts are
tax-exempt accounts established to specifically set aside employer
contributed assets to pay for future expenses of the OPEB plan
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PART I
ITEM 1. BUSINESS
GENERAL
CMS ENERGY
CMS Energy, formed in Michigan in 1987, is an energy holding company
operating, through subsidiaries, in the United States and in selected markets
around the world. Its two principal subsidiaries are Consumers and Enterprises.
Consumers is a public utility that provides natural gas and/or electricity to
almost 6 million of Michigan's 10 million residents and serves customers in all
68 of the state's Lower Peninsula counties. Enterprises, through subsidiaries,
is engaged in several energy businesses in the United States and in selected
international markets.
In 2002, CMS Energy's consolidated operating revenue was approximately $8.7
billion.
CONSUMERS
Consumers, formed in Michigan in 1968, is the successor to a corporation
organized in Maine in 1910 that conducted business in Michigan from 1915 to
1968. In 1997, Consumers, formerly named Consumers Power Company, changed its
name to Consumers Energy Company to better reflect its integrated electricity
and gas businesses.
Consumers' service areas include automotive, metal, chemical, food and wood
products and a diversified group of other industries. Consumers' consolidated
operations account for a majority of CMS Energy's total assets and income, as
well as a substantial portion of its operating revenue. At year-end 2002,
Consumers' customer base and operating revenues were as follows:
Customers Operating 2002 vs. 2001
Served Revenue Operating Revenue
(millions) (millions) % Increase/(Decrease)
---------- ---------- ---------------------
Electric Utility Business.................... 1.73 $2,648 0.57%
Gas Utility Business......................... 1.65 1,519 13.53
Other........................................ --- 55(a) 27.91
Total........................................ 3.38 $4,222 5.18%
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(a) Primarily represents earnings attributable to Consumers' interest in the MCV
Partnership and MCV Facility.
Consumers' rates and certain other aspects of its business are subject to
the jurisdiction of the MPSC and FERC, as described in CONSUMERS REGULATION
later in this Item 1.
CONSUMERS PROPERTIES -- GENERAL: The principal properties of Consumers and
its subsidiaries are owned in fee, except that most electric lines and gas mains
are located, pursuant to easements and other rights, in public roads or on land
owned by others. Substantially all of Consumers' properties are subject to the
lien of its First Mortgage Bond Indenture. For additional information on
Consumers' properties see BUSINESS SEGMENTS -- Consumers Electric Utility
Operations -- Electric Utility Properties, and -- Consumers Gas Utility
Operations -- Gas Utility Properties, below.
For information on capital expenditures, see ITEM 7. CONSUMERS' MANAGEMENT'S
DISCUSSION AND ANALYSIS -- OUTLOOK and ITEM 8. FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA -- NOTE 10 OF CONSUMERS' NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS.
-7-
BUSINESS SEGMENTS
For information with respect to the operating revenue, net operating income,
identifiable assets and liabilities attributable to Consumers' business
segments, see ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA -- SELECTED
FINANCIAL INFORMATION AND CONSUMERS' CONSOLIDATED FINANCIAL STATEMENTS AND NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS.
CONSUMERS' ELECTRIC UTILITY OPERATIONS
Based on the average number of customers, Consumers' electric utility
operations, if independent, would be the thirteenth largest electric utility
company in the United States. Consumers' electric utility operations include the
generation, purchase, distribution and sale of electricity. At year-end 2002, it
served customers in 61 of the 68 counties of Michigan's lower peninsula.
Principal cities served include Battle Creek, Flint, Grand Rapids, Jackson,
Kalamazoo, Midland, Muskegon and Saginaw. Consumers' electric utility customer
base includes a mix of residential, commercial and diversified industrial
customers, the largest segment of which is the automotive industry. Consumers'
electric utility operations are not dependent upon a single customer, or even a
few customers, and the loss of any one or even a few of such customers is not
reasonably likely to have a material adverse effect on its financial condition.
Consumers' electric utility operations are seasonal. The summer months
usually increase demand for electric energy, principally due to the use of air
conditioners and other cooling equipment, thereby affecting revenues. In 2002
and 2001, total electric deliveries were 39 billion kWh and 40 billion kWh,
respectively. In 2002, electric sales totaled 37 billion kWh and retail open
access deliveries totaled 2 billion kWh. In 2001, electric sales totaled 39
billion kWh and retail open access deliveries totaled 1 billion kWh.
Excluding retail open access loads, Consumers experienced a 2002 summer
peak demand of 7,697 MW. In 2002, the winter peak demand was 5,573 MW for the
winter 2001-02 period and 5,862 MW for the winter 2002-03 period. In 2002, based
on the actual summer peak, Consumers' power reserve, also called a reserve
margin, was 20.6 percent compared to 11.1 percent in 2001. Based on its summer
2002 forecast, Consumers carried a 15.0 percent reserve margin. In recent years,
Consumers has planned for a reserve margin of approximately 15 percent from a
combination of its owned electric generating plants and electricity purchase
contracts or options, as well as other arrangements. However, in light of
various factors, including the addition of new generating capacity in Michigan
and throughout the Midwest region and additional transmission import capability,
Consumers is continuing to evaluate the appropriate reserve margin for 2003 and
beyond. Currently, Consumers has an estimated reserve margin of approximately 11
percent for summer 2003 or 111 percent of projected summer peak load. Of the 111
percent, approximately 101 percent is met from owned electric generating plants
and long-term power purchase contracts and 10 percent from short-term contracts
and options for physical deliveries and other agreements. The ultimate use of
the reserve margin needed will depend primarily on summer weather conditions,
the level of retail open access requirements being served by others during the
summer, and any unscheduled plant outages.
Including retail open access loads, Consumers experienced a 2002 summer peak
demand of 7,984 MW. Winter peak demand for 2002, including retail open access
loads, was 5,694 MW for the winter 2001-02 period and 6,140 MW for the winter
2002-03 period.
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ELECTRIC UTILITY PROPERTIES: At December 31, 2002, Consumers' electric
generating system consists of the following:
2002 Net
2002 Summer Net Generation
Size and Year Demonstrated (Thousands
Name and Location (Michigan) Entering Service Capability (KWs) of kWHs)
-------------------- -------------------- --------------
Coal Generation
J H Campbell 1 & 2 -- West Olive................ 2 Units, 1962-1967 615,000 4,406,940
J H Campbell 3 - West Olive..................... 1 Unit, 1980 765,140(a) 4,511,713
D E Karn -- Essexville.......................... 2 Units, 1959-1961 515,000 3,824,249
B C Cobb -- Muskegon ........................... 2 Units, 1956-1957 312,000 2,150,510
J R Whiting -- Erie............................. 3 Units, 1952-1953 326,000 2,262,509
J C Weadock -- Essexville....................... 2 Units, 1955-1958 310,000 2,205,575
-------------------- --------------
Total coal generation............................. 2,843,140 19,361,496
-------------------- --------------
Oil/Gas Generation
B C Cobb -- Muskegon............................ 3 Units, 1999-2000 183,000 38,035
D E Karn -- Essexville.......................... 2 Units, 1975-1977 1,276,000 650,008
-------------------- --------------
Total oil/gas generation.......................... 1,459,000 688,043
-------------------- --------------
Hydroelectric
Conventional Hydro Generation................... 13 Plants, 1906-1949 73,540 386,691
Ludington Pumped Storage........................ 6 Units, 1973 954,700(b) (486,322)(c)
-------------------- --------------
Total Hydroelectric............................... 1,028,240 (99,631)
-------------------- --------------
Nuclear Generation
Palisades -- South Haven........................ 1 Unit, 1971 767,000 6,357,962
-------------------- --------------
Gas/Oil Combustion Turbine
Generation...................................... 7 Plants, 1966-1971 346,800(d) 12,743
-------------------- --------------
Total owned generation............................ 6,444,180 26,320,613
-------------------- ==============
Purchased and Interchange Power
Capacity........................................ 1,766,180(e)
Total............................................. 8,210,360
====================
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(a) Represents Consumers' share of the capacity of the J H Campbell 3, net of
6.69 percent (ownership interests of the Michigan Public Power Agency and
Wolverine Power Supply Cooperative, Inc.).
(b) Represents Consumers' share of the capacity of Ludington. Consumers and
Detroit Edison have 51 percent and 49 percent undivided ownership,
respectively, in the plant.
(c) Represents Consumers' share of net pumped storage generation. This facility
electrically pumps water during off-peak hours for storage to later
generate electricity during peak-demand hours.
(d) Includes 1.8 MW of distributed diesel generation.
(e) Includes 1,240 MW of purchased contract capacity from the MCV Facility.
In 2002, Consumers purchased, through long-term purchase contracts, options,
spot market and other seasonal purchases, up to 2,683 MW of net capacity from
other power producers, which amounted to 34.9 percent of Consumers' total system
requirements, the largest of which was the MCV Partnership.
-9-
A high voltage transmission system interconnects Consumers' electric
generating plants at many locations with transmission facilities of unaffiliated
systems including those of other utilities in Michigan and Indiana. The
interconnections permit a sharing of the reserve capacity of the connected
systems. This allows mutual assistance during emergencies and substantially
reduces investment in utility plant facilities. Consumers owns: a) 338 miles of
high voltage distribution radial lines operating at 120 kilovolts and above; b)
4,159 miles of high voltage distribution overhead lines operating at 23
kilovolts and 46 kilovolts; c) 16 subsurface miles of high voltage distribution
underground lines operating at 23 kilovolts and 46 kilovolts; d) 54,681 miles of
electric distribution overhead lines; e) 8,201 subsurface miles of underground
distribution lines and f) substations having an aggregate transformer capacity
of 20,596,240 kilovoltamperes.
On April 1, 2001, Consumers transferred its investment in electric
transmission lines and substations to a wholly owned subsidiary, Michigan
Electric Transmission Company (METC). On May 1, 2002, Consumers transferred its
interest in METC to a third party, Michigan Transco Holdings, LLC (MTH), and
Consumers no longer owns or controls transmission facilities either directly or
indirectly. MTH owns the former Consumers transmission assets through a new
transmission company called Michigan Electric Transmission Company, LLC. For
additional information on the sale of the transmission assets, see ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA -- NOTE 2 OF CONSUMERS' NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS -- ELECTRIC RATE MATTERS -- TRANSMISSION.
FUEL SUPPLY: Consumers has four generating plant sites that use coal as a
fuel source and that constitute 73.6 percent of its baseload supply, the
capacity used to serve a constant level of customer demand. In 2002, these
plants produced a combined total of 19,361 million kWhs of electricity and
required 9.7 million tons of coal. On December 31, 2002, Consumers' coal
inventory amounted to approximately 30 days' supply. For additional information
on future sources of coal, see ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY
DATA -- NOTE 2 OF CONSUMERS' NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- OTHER
ELECTRIC UNCERTAINTIES -- COAL SUPPLY.
Consumers owns two nuclear power plants, Big Rock, located near Charlevoix,
Michigan and Palisades, located near South Haven, Michigan. In 1997, Consumers
ceased operating Big Rock. In May 2001, with the approval of the NRC, Consumers
transferred its authority to operate Palisades to the Nuclear Management Company
(NMC). The Palisades nuclear fuel supply responsibilities are under the control
of NMC acting as agent for Consumers. During 2002, Palisades' net generation was
6,358 million kWhs, constituting 24.2 percent of Consumers' baseload supply. New
fuel contracts are being written as NMC Agreements. Consumers/NMC currently have
sufficient contracts for uranium concentrates to provide up to 100 percent of
its fuel supply requirements for the 2003 and 2004 period. Consumers/NMC also
have contracts for conversion services and enrichment services with quantity
flexibility ranging up to 100 percent. If spot market prices are below the
contract price, NMC will purchase only the minimum amount of nuclear fuel
required by the contracts. Conversely, if spot market prices are above the
contract prices, Consumers will purchase the maximum amount of nuclear fuel
allowed by the contracts to meet its requirements.
For the spring 2003 refueling outage, Consumers has purchased all of its
fuel supply requirements. NMC also has contracts for nuclear fuel services and
for fabrication of nuclear fuel assemblies. The fabrication contract for
Palisades remains in effect for the next two reloads with options to extend the
contract for an additional two reloads. The fuel contracts are with major
private industrial suppliers of nuclear fuel and related services and with
uranium producers, converters and enrichers who participate in the world nuclear
fuel marketplace.
As shown below, Consumers generates electricity principally from coal and
nuclear fuel.
MILLIONS OF KWHS
-----------------------------------------------------
POWER GENERATED 2002 2001 2000 1999 1998
--------------- ---------- -------- -------- -------- --------
Coal 19,361 19,203 17,926 19,085 17,959
Nuclear 6,358 2,326(a) 5,724 5,105 5,364
Oil 347 331 645 809 520
Gas 354 670 400 441 302
Hydro 387 423 351 365 395
Net pumped storage (486) (553) (541) (476) (480)
------- -------- ------- -------- -------
Total net generation....................... 26,321 22,400 24,505 25,329 24,060
======= ======== ======= ======== =======
- ----------
(a) On June 20, 2001, the Palisades reactor was shut down so
technicians could inspect a small steam leak on a control rod drive assembly.
The defective components were replaced and the plant returned to service on
January 21, 2002.
-10-
The cost of all fuels consumed, shown below, fluctuates with the mix of
fuel burned.
COST PER MILLION BTU
-------------------------------------------------
FUEL CONSUMED 2002 2001 2000 1999 1998
------------- ------- ------- ------- ------- -------
Coal.......................................... $1.34 $ 1.38 $ 1.34 $ 1.38 $ 1.45
Oil........................................... 3.49 4.02 3.30 2.69 2.73
Gas........................................... 3.98 4.05 4.80 2.74 2.66
Nuclear ...................................... 0.35 0.39 0.45 0.52 0.50
All Fuels(a).................................. 1.19 1.44 1.27 1.28 1.28
- ----------
(a) Weighted average fuel costs.
Pursuant to the Nuclear Waste Policy Act of 1982, the federal government
became responsible for the permanent disposal of spent nuclear fuel and
high-level radioactive waste by 1998. To date, the DOE has been unable to
arrange for storage facilities to meet this obligation and it does not expect
that in 2003 it will be able to receive spent nuclear fuel for storage. For
additional information on disposal of nuclear fuel see ITEM 8. FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA -- NOTE 2 OF CONSUMERS' NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS. The amount of spent nuclear fuel discharged from the
reactor to date exceeds Palisades' temporary on-site storage pool capacity, and
Consumers is currently storing spent nuclear fuel in NRC-approved steel and
concrete vaults, known as "dry casks". Currently, three dry casks are available
for future storage. For a discussion relating to the NRC approval of dry casks
and Consumers' use of the dry casks, see ITEM 8. FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA -- NOTE 2 OF CONSUMERS' NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS -- UNCERTAINTIES -- OTHER ELECTRIC UNCERTAINTIES.
CONSUMERS' GAS UTILITY OPERATIONS
Based on the average number of customers, Consumers' gas utility operations,
if independent, would be the 6th largest gas utility company in the United
States. Consumers' gas utility operations purchase, transport, store, distribute
and sell natural gas. As of December 31, 2002, it was authorized to provide
service in 54 of the 68 counties in Michigan's lower peninsula. Principal cities
served include Bay City, Flint, Jackson, Kalamazoo, Lansing, Pontiac and
Saginaw, as well as the suburban Detroit area, where nearly 900,000 of the gas
customers are located. Consumers' gas utility operations are not dependent upon
a single customer, or even a few customers, and the loss of any one or even a
few of such customers is not reasonably likely to have a material adverse effect
on its financial condition.
Consumers' gas utility operations are seasonal. Consumers injects natural
gas into storage during the summer months of the year for use during the winter
months when the demand for natural gas is higher. Peak demand usually occurs in
the winter due to colder temperatures and the resulting increased demand for
heating fuels. In 2002, total deliveries of natural gas sold by Consumers and by
other sellers who deliver natural gas through Consumers' pipeline and
distribution network to ultimate customers, including the MCV Partnership,
totaled 376.4 bcf.
Due to prolonged colder than normal weather during the winter months of
2002-2003, Consumers' gas storage fields were drawn down to unexpected and
unusually low levels. This caused withdrawal of the entire amount of working
storage gas from some fields. As a result, some salt water has entered
Consumers' pipelines and distribution lines that may increase future maintenance
problems and costs resulting from pipe corrosion.
GAS UTILITY PROPERTIES: Consumers' gas distribution and transmission system
consists of 25,218 miles of distribution mains and 1,624 miles of transmission
lines throughout Michigan's lower peninsula. It owns and operates seven
compressor stations with a total of 162,000 installed horsepower. Consumers has
14 gas storage fields located across Michigan with an aggregate storage capacity
of 330.8 bcf.
In February 2002, the FERC approved Michigan Gas Storage's application for a
declaration of exemption from provisions of the National Gas Act. This allowed
Consumers to file with the MPSC for approval to merge with Michigan Gas Storage.
The merger was approved and completed in November 2002.
GAS SUPPLY: Total 2002 purchases included 58 percent from United States
producers outside Michigan, 22 percent from Canadian producers and 6 percent
from Michigan producers. Authorized suppliers in the permanent gas customer
choice pilot program, which started in April 2001, supplied the remaining 14
percent of gas delivered by Consumers.
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Consumers' firm transportation agreements are with ANR Pipeline Company,
Great Lakes Gas Transmission, L.P., Trunkline and Panhandle Eastern Pipe Line.
Consumers uses these agreements to deliver gas to Michigan for ultimate
deliveries to market. In total, Consumers' firm transportation and city gate
arrangements are capable of delivering over 95 percent of Consumers' total gas
supply requirements. As of December 31, 2002, Consumers' portfolio of firm
transportation from pipelines to Michigan is as follows:
VOLUME
(DEKATHERMS/DAY) EXPIRATION
---------------- --------------------
ANR Pipeline Company.................................... 84,113 October 2003
Great Lakes Gas Transmission, L.P....................... 85,092 April 2004
Trunkline............................................... 336,375 October 2005
Panhandle Eastern Pipe Line (starting April 1, 2003).... 60,000 October 2003
ANR Pipeline Company.................................... 10,000 December 2002
Consumers purchases the balance of its required gas supply under firm city
gate contracts and as needed, interruptible contracts. The amount of
interruptible transportation service and its use varies primarily with the price
for such service and the availability and price of the spot supplies being
purchased and transported. Consumers' use of interruptible transportation is
generally in off-peak summer months and after Consumers has fully utilized the
services under the firm transportation agreements.
CONSUMERS REGULATION
Consumers and its subsidiaries are subject to regulation by various
federal, state and local governmental agencies, including those specifically
described below.
MICHIGAN PUBLIC SERVICE COMMISSION
Consumers is subject to the MPSC's jurisdiction, which regulates public
utilities in Michigan with respect to retail utility rates, accounting, utility
services, certain facilities and various other matters. The Attorney General,
ABATE, and the MPSC staff typically intervene in MPSC electric and gas related
proceedings concerning Consumers. For many years, almost every significant MPSC
order affecting Consumers has been appealed. Certain appeals from the MPSC
orders are pending in the Court of Appeals.
RATE PROCEEDINGS: In 1996, the MPSC issued an order that established the
electric authorized rate of return on common equity at 12.25 percent. In 2002,
the MPSC issued an order that established the gas authorized rate of return on
common equity at 11.4 percent.
MPSC REGULATORY AND MICHIGAN LEGISLATIVE CHANGES: State regulation of the
retail electric and gas utility businesses is in the process of undergoing
significant changes. In 2000, the Michigan Legislature enacted the Customer
Choice Act. Pursuant to the Customer Choice Act, as of January 2002, all
electric customers have their choice of buying generation service from an
alternative electric supplier. The Customer Choice Act also imposes rate
reductions, rate freezes and rate caps. For a description and additional
information regarding the Customer Choice Act, see ITEM 8. FINANCIAL STATEMENTS
AND SUPPLEMENTARY DATA -- NOTE 2 OF CONSUMERS' NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS.
As a result of regulatory changes in the natural gas industry, Consumers
transports the natural gas commodity that is sold to some customers by
competitors like gas producers, marketers and others. From April 1, 1998, to
March 31, 2001, Consumers' implemented a statewide experimental gas customer
choice pilot program that allowed up to 300,000 residential, commercial and
industrial retail gas sales customers to choose their gas supplier and froze the
rates Consumers was permitted to charge for the service of distributing gas to
its customers.
Beginning April 1, 2001, Consumers established a permanent gas customer
choice program that allows up to 600,000 of Consumers' gas customers to select
an alternative gas commodity supplier. By April 2003, all of Consumers' gas
customers will be eligible to select an alternative gas commodity supplier. As
of December 31, 2002, 178,000 of Consumers' gas customers had elected an
alternate gas commodity supplier. Also on April 1, 2001, pursuant to the
permanent gas customer choice program, Consumers returned to a GCR mechanism
that allows it to recover from its customers all prudently incurred costs to
purchase the natural gas commodity and transport it to Consumers' facilities.
For additional information on gas customer choice programs see ITEM 8. FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA -- NOTE 2 OF CONSUMERS' NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS.
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FEDERAL ENERGY REGULATORY COMMISSION
Some of Consumers' gas business is also subject to regulation by FERC,
including a blanket transportation tariff pursuant to which Consumers can
transport gas in interstate commerce. FERC also regulates certain aspects of
Consumers' electric operations including: compliance with FERC accounting rules;
wholesale rates; transfers of certain facilities; and corporate mergers and
issuance of securities. For a discussion of the effect of certain FERC orders on
Consumers, see ITEM 7. CONSUMERS' MANAGEMENT'S DISCUSSION AND ANALYSIS --
OUTLOOK -- ELECTRIC BUSINESS OUTLOOK.
NUCLEAR REGULATORY COMMISSION
Under the Atomic Energy Act of 1954, as amended, and the Energy
Reorganization Act of 1974, Consumers is subject to the jurisdiction of the NRC
with respect to the design, construction, operation and decommissioning of its
nuclear power plants. Consumers is also subject to NRC jurisdiction with respect
to certain other uses of nuclear material. These and other matters concerning
Consumers' nuclear plants are more fully discussed in ITEM 8. FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA -- NOTES 1 AND 2 OF CONSUMERS' CONSOLIDATED
FINANCIAL STATEMENTS.
OTHER REGULATION
The Secretary of Energy regulates the importation and exportation of natural
gas and has delegated various aspects of this jurisdiction to FERC and the DOE's
Office of Fossil Fuels. Consumers is also subject to the Hazardous Liquid
Pipeline Safety Act of 1979, which regulates oil and petroleum pipelines.
CONSUMERS ENVIRONMENTAL COMPLIANCE
Consumers and its subsidiaries are subject to various federal, state and
local regulations for environmental quality, including air and water quality,
waste management, zoning and other matters. For additional information
concerning environmental matters, see ITEM 8. FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA -- NOTE 2 OF CONSUMERS' NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS -- UNCERTAINTIES -- ELECTRIC CONTINGENCIES.
Consumers has installed and is currently installing modern emission controls
at its electric generating plants and has converted and is converting electric
generating units to burn cleaner fuels. Consumers expects that the cost of
future environmental compliance, especially compliance with clean air laws, will
be significant because of EPA regulations regarding nitrogen oxide and
particulate-related emissions. These regulations will require Consumers to make
significant capital expenditures. For the preliminary estimates of these capital
expenditures to reduce nitrogen oxide-related emissions see NOTE 2 OF CONSUMERS'
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- UNCERTAINTIES --ELECTRIC
CONTINGENCIES.
Consumers is in the process of closing older ash disposal areas at two
plants. Construction, operation, and closure of a modern solid waste disposal
area for ash can be expensive, because of strict federal and state requirements.
In order to significantly reduce ash field closure costs, Consumers has worked
with others to use bottom ash and fly ash as part of temporary and final cover
for ash disposal areas instead of native materials in cases where such use of
bottom ash and fly ash is compatible with environmental standards. To reduce
disposal volumes, Consumers sells coal ash for use as a filler for asphalt, for
incorporation into concrete products and for other environmentally compatible
uses. The EPA has announced its intention to develop new nationwide standards
for ash disposal areas. Consumers intends to work through industry groups to
help ensure that any such regulations require only the minimum cost necessary to
adhere to standards that are consistent with protection of the environment.
Consumers has PCB in some of its electrical equipment, as do most electric
utilities. During routine maintenance activities, Consumers identified PCB as a
component in certain paint, grout and sealant materials at the Ludington Pumped
Storage facility. Consumers removed and replaced part of the PCB material.
Consumers has proposed a plan to the EPA to deal with the remaining materials
and is waiting on a response from the EPA.
Certain environmental regulations affecting Consumers include, but are not
limited to, the Clean Air Act Amendments of 1990 and Superfund. Superfund can
require any individual or entity that may have owned or operated a disposal
site, as well as transporters or generators of hazardous substances that were
sent to such site, to share in remediation costs for the site.
Consumers' current insurance coverage does not extend to certain
environmental clean-up costs, such as claims for air pollution, some past PCB
contamination and for some long-term storage or disposal of pollutants.
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CONSUMERS COMPETITION
ELECTRIC COMPETITION
Consumers' electric utility business experiences competition, actual and
potential, from many sources, both in the wholesale and retail markets, and in
electric generation, electric delivery, and retail services.
In the wholesale electricity markets, Consumers competes with other
wholesale suppliers, marketers and brokers. Electric competition in the
wholesale markets increased significantly since 1996 due to FERC Order 888.
Whereas Consumers is still active in wholesale electricity markets, wholesale
for retail transactions by Consumers generated an immaterial amount of
Consumers' 2002 revenues from electric utility operations. Consumers does not
believe future loss of wholesale for retail sales to be significant.
A significant increase in retail electric competition is now possible with
the passage of the Customer Choice Act and the availability of retail open
access. The Customer Choice Act of June 2000 required Consumers to open
progressive tiers of its electric customer power supply requirement such that a
total of 750 MW was open to competition in 2001. As of January 1, 2002, the
Consumer Choice Act also gave all electric customers the right to buy generation
service from an alternative electric supplier. The Michigan Public Service
Commission has adopted a mechanism pursuant to the Customer Choice Act to
provide for recovery of stranded costs. The company cannot predict the total
amount of electric supply load that may be lost to competitor suppliers, nor
whether the stranded cost recovery method adopted by the MPSC will be applied in
a manner that will fully offset any associated margin loss.
In addition to retail electric customer choice, Consumers also has
competition or potential competition from: 1) the threat of customers relocating
outside Consumers' service territory; 2) the possibility of municipalities
owning or operating competing electric delivery systems; 3) customer
self-generation; and 4) adjacent municipal utilities that extend lines to
customers near service territory boundaries. Consumers addresses this
competition primarily through offering rate discounts, providing additional
services and insistence upon compliance with MPSC and FERC rules.
Consumers offers non-commodity retail services to electric customers in an
effort to offset costs. Consumers faces competition from many sources, including
energy management services companies, other utilities, contractors, and retail
merchandisers.
For additional information concerning electric competition, see ITEM 7.
CONSUMERS' MANAGEMENT'S DISCUSSION AND ANALYSIS -- OUTLOOK -- ELECTRIC BUSINESS
OUTLOOK.
GAS COMPETITION
Competition has existed for the past decade, and is likely to increase, in
various aspects of Consumers' gas utility business. Competition traditionally
comes from alternate fuels and energy sources, such as propane, oil, and
electricity. Competition has also been introduced through the gas customer
choice program which allows residential, commercial and industrial retail gas
sales customers to choose an alternative gas commodity supplier in direct
competition with Consumers. Consumers would continue to transport and distribute
gas to these customers.
For additional information concerning gas competition, see ITEM 7.
CONSUMERS' MANAGEMENT'S DISCUSSION AND ANALYSIS -- OUTLOOK -- GAS BUSINESS
OUTLOOK.
INSURANCE
Consumers maintains insurance coverage similar to other comparable companies
in the same lines of business. The insurance policies are subject to term,
conditions, limitations and exclusions that might not fully compensate Consumers
for all losses. Furthermore, as Consumers renews its policies it is possible
that full insurance coverage may not be obtainable on commercially reasonable
terms due to the recent increasingly restrictive insurance markets.
For additional information regarding Insurance, see ITEM 8. FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA -- NOTE 2 OF CONSUMERS' NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS -- OTHER ELECTRIC UNCERTAINTIES -- INSURANCE.
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EMPLOYEES
As of December 31, 2002, Consumers and its subsidiaries had 8,311 full-time
equivalent employees of whom 8,238 are full-time employees and 73 full-time
equivalent employees associated with the part-time work force. Included in the
total are 3,630 full-time operating, maintenance and construction employees of
Consumers who are represented by the Utility Workers Union of America. Consumers
and the Union negotiated a collective bargaining agreement that became effective
as of June 1, 2000 and will continue in full force and effect until June 1,
2005. Consumers is currently negotiating with the Union for a collective
bargaining agreement for its Call Center employees.
CONSUMERS FORWARD-LOOKING STATEMENTS CAUTIONARY FACTORS AND UNCERTAINTIES.
UNCERTAINTIES
Specific uncertainties are described in ITEM 8. FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA -- NOTE 2 OF CONSUMERS' NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS. Certain risks are described in ITEM 7. CONSUMERS' MANAGEMENT'S
DISCUSSION AND ANALYSIS -- OUTLOOK -- LIQUIDITY AND CAPITAL RESOURCES.
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements to encourage such disclosures without the
threat of litigation, if those statements are identified as forward-looking and
are accompanied by meaningful, cautionary statements identifying important
factors that could cause the actual results to differ materially from those
projected in the statements. Forward-looking statements give our expectations or
forecasts of future events. You can identify these statements by the fact that
they do not relate strictly to historical or current facts. Forward-looking
statements have been and will be made in this Form 10-K and in our other written
documents (such as press releases, visual presentations, and securities
disclosure documents) and oral presentations (such as analyst conference calls).
Such statements are based on management's beliefs as well as assumptions made
by, and information currently available to, management. When used in our
documents or oral presentations, we intend the words "anticipate", "believe",
"estimate", "expect", "forecast", "intend", "objective", "plan", "possible",
"potential", "project", "projection" and variations of such words and similar
expressions to target forward-looking statements that involve risk and
uncertainty.
Any or all of our forward-looking statements in oral or written statements
or in other publications may turn out to be wrong. They can be affected by
inaccurate assumptions or by known or unknown risks and uncertainties. Many such
factors will be important in determining our actual future results.
Consequently, we cannot guarantee any forward-looking statement.
In addition to any assumptions and other factors referred to specifically in
connection with such forward-looking statements, there are numerous factors that
could cause our actual results to differ materially from those contemplated in
any forward-looking statements. Such factors include our inability to predict
and/or control:
- Achievement of capital expenditure reductions and cost savings;
- Capital and financial market conditions, including current price of CMS
Energy Common Stock and the effect on the Pension Plan, interest rates
and availability of financing to CMS Energy, Consumers, Panhandle or
any of their affiliates and the energy industry;
- Market perception of the energy industry, CMS Energy, Consumers,
Panhandle or any of their affiliates;
- CMS Energy's, Consumers', Panhandle's or any of their affiliates'
securities ratings;
- Ability to successfully access the capital markets;
- Factors affecting utility and diversified energy operations such as
unusual weather conditions, catastrophic weather-related damage,
unscheduled generation outages, maintenance or repairs, unanticipated
changes to fossil fuel, nuclear fuel or gas supply costs or
availability due to higher demand, shortages, transportation problems
or other developments, environmental incidents, or electric
transmission or gas pipeline system constraints;
- Electric transmission or gas pipeline system constraints;
-15-
- National, regional and local economic, competitive and regulatory
conditions and developments;
- Adverse regulatory or legal decisions, including environmental laws and
regulations;
- Federal regulation of electric sales and transmission of electricity
including re-examination by Federal regulators of the market-based
sales authorizations by which our affiliates participate in wholesale
power markets without price restrictions and proposals by FERC to
change the way it currently lets Consumers and other public utilities
and natural gas companies interact with each other;
- Energy markets, including the timing and extent of unanticipated
changes in commodity prices for oil, coal, natural gas, natural gas
liquids, electricity and certain related products due to lower or
higher demand, shortages, transportation problems or other
developments;
- Nuclear power plant performance, decommissioning, policies, procedures,
incidents, and regulation, including the availability of spent nuclear
fuel storage;
- Technological developments in energy production, delivery and usage;
- Changes in financial or regulatory accounting principles or policies;
- Outcome, cost, and other effects of legal and administrative
proceedings, settlements, investigations and claims;
- Disruptions in the normal commercial insurance and surety bond markets
that may increase costs or reduce traditional insurance coverage,
particularly terrorism and sabotage insurance and performance bonds;
- Other business or investment considerations that may be disclosed from
time to time in CMS Energy's, Consumers' or Panhandle's SEC filings or
in other publicly disseminated written documents; and
- Other uncertainties, which are difficult to predict and many of which
are beyond our control.
Consumers and its affiliates undertake no obligation to update or revise any
forward-looking statements, whether as a result of new information, future
events or otherwise. The foregoing review of factors pursuant to the Private
Securities Litigation Reform Act should not be construed as exhaustive or as any
admission regarding the adequacy of our disclosures. Certain risk factors are
detailed from time to time in our various public filings. You are advised,
however to consult any further disclosures we make on related subjects in our
reports to the SEC. In particular, you should read the discussion in the section
entitled "Forward-Looking Statements and Risk Factors" in our most recent
reports to the SEC on Form 10-Q or Form 8-K filed subsequent to this Form 10-K.
-16-
EXECUTIVE OFFICERS
NAME AGE POSITION PERIOD
---- --- -------- ------
Kenneth Whipple................................. 68 Chairman of the Board, Chief Executive 2002-Present
Officer of CMS Energy
Chairman of the Board, Chief Executive 2002-Present
Officer of Consumers
Chairman of the Board of Enterprises 2002-Present
Director of CMS Energy 1993-Present
Director of Consumers 1993-Present
Chairman and Chief Executive Officer of
Ford Credit Company 1997-1999
Executive Vice President and President of 1989-1999
Ford Financial Services Group
S. Kinnie Smith, Jr. ........................... 72 Vice Chairman of the Board of CMS Enterprises 2003-Present
Vice Chairman of the Board and General 2002-Present
Counsel of CMS Energy
Vice Chairman of the Board of Consumers 2002-Present
Executive Vice President of Enterprises 2002-Present
Director of CMS Energy 2002-Present
Director of Consumers 2002-Present
Vice Chairman of Trans-Elect, Inc. 2002
Senior Counsel at Skadden, Arps, Slate, 1995-2002
Meagher & Flom LLP
David W. Joos................................... 49 Chairman of the Board and Chief Executive 2003-Present
Officer of CMS Enterprises
President and Chief Operating Officer of 2001-Present
CMS Energy
President and Chief Operating Officer 2001-Present
of Consumers
President and Chief Operating Officer of 2001-2003
CMS Enterprises
Director of CMS Energy 2001-Present
Director of Consumers 2001-Present
Executive Vice President and Chief Operating 2000-2001
Officer -- Electric of Enterprises
Executive Vice President and Chief Operating 2000-2001
Officer -- Electric of CMS Energy
Executive Vice President and President and 1997-2001
Chief Executive Officer -- Electric of
Consumers
Thomas J. Webb.................................. 50 Executive Vice President and Chief Financial 2002-Present
Officer of CMS Energy
Executive Vice President and Chief Financial 2002-Present
Officer of Consumers
Executive Vice President and Chief Financial 2002-Present
Officer of Enterprises
Executive Vice President and Chief Financial 2002-Present
Officer of Panhandle Eastern Pipe Line
Executive Vice President and Chief Financial 1999-2002
Officer of Kellogg Company
Vice President and Chief Financial Officer of 1996-1999
Visteon, a division of Ford Motor Company
Thomas W. Elward................................ 54 President and Chief Operating Officer of 2003-Present
CMS Enterprises
President and Chief Executive Officer of 2002-Present
CMS Generation Company
Senior Vice President of CMS Enterprises 2002
Senior Vice President of CMS Generation 1998
Company
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NAME AGE POSITION PERIOD
---- --- -------- ------
Carl L. English................................. 56 Executive Vice President and President and 1999-Present
Chief Executive Officer -- Gas of Consumers
Vice President of Consumers 1990-1999
John G. Russell**............................... 45 Executive Vice President and President and 2001-Present
Chief Executive Officer - Electric of
Consumers
Senior Vice President of Consumers 2000-2001
Vice President of Consumers 1999-2000
John F. Drake.................................. 54 Senior Vice President of CMS Enterprises 2003-Present
Senior Vice President of CMS Energy 2002-Present
Senior Vice President of Consumers 2002-Present
Vice President of CMS Energy 1997-2002
Vice President of Consumers 1998-2002
David G. Mengebier*............................. 45 Senior Vice President of CMS Enterprises 2003-Present
Senior Vice President of CMS Energy 2001-Present
Senior Vice President of Consumers 2001-Present
Vice President of CMS Energy 1999-2001
Vice President of Consumers 1999-2001
Robert A. Fenech................................ 55 Senior Vice President of Consumers 1997-Present
Vice President of Consumers 1994-1997
Preston D. Hopper............................... 52 Senior Vice President of CMS Enterprises 2003-Present
Senior Vice President of CMS Energy 2003-Present
Senior Vice President of Consumers 2003-Present
Senior Vice President and Chief Accounting 1997-2003
Officer of Enterprises
Senior Vice President, Chief Accounting 1996-2003
Officer and Controller of CMS Energy
Senior Vice President and Controller of 1996-1997
Enterprises
Frank Johnson................................... 55 Senior Vice President of Consumers 2001-Present
President and Chief Executive Officer of CMS 2000-2002
Electric and Gas
Vice President and Chief Operating Officer of 2000
CMS Electric and Gas
Vice President of CMS Electric and Gas 1996-2000
David A. Mikelonis.............................. 54 Senior Vice President and General Counsel of 1988-Present
Consumers
Paul N. Preketes................................ 53 Senior Vice President of Consumers 1999-Present
Vice President of Consumers 1994-1999
Glenn P. Barba.................................. 37 Vice President and Chief Accounting
Officer of CMS Enterprises 2003-Present
Vice President, Controller and Chief 2003-Present
Accounting Officer of CMS Energy
Vice President, Controller and Chief 2003-Present
Accounting Officer of Consumers
Vice President and Controller of Consumers 2001-2003
Controller of CMS Generation 1997-2001
- ---------
* Mr. Mengebier has served as Senior Vice President of CMS Energy and
Consumers since 2001, after receiving a promotion from his position in both
companies as Vice President, which he had held since 1999. From 1997 to
1999, Mr. Mengebier served as Executive Director of Federal Governmental
Affairs for CMS Enterprises.
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** Mr. Russell has served as Executive Vice President and President and Chief
Executive Officer - Electric of Consumers since October 2001. From December
2000 until October 2001, Mr. Russell served as Senior Vice President of
Consumers. From October 1999 until December 2000, Mr. Russell served as Vice
President of Consumers. From July 1997 until October 1999, Mr. Russell
served as Manager -- Electric Customer Operations of Consumers.
There are no family relationships among executive officers and directors of
Consumers.
The present term of office of each of the executive officers extends to the
first meeting of the Board of Directors after the next annual election of
Directors of Consumers (scheduled to be held on May 23, 2003).
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ITEM 2. PROPERTIES.
A description of Consumers' properties is contained in ITEM 1. BUSINESS --
Consumers -- Consumers Properties -- General; BUSINESS -- BUSINESS SEGMENTS --
Consumers' Electric Utility Operations -- Electric Utility Properties;
Consumers' Gas Utility Operations -- Gas Utility Properties--all of which are
incorporated by reference herein.
ITEM 3. LEGAL PROCEEDINGS
Consumers and some of its subsidiaries and affiliates are parties to certain
routine lawsuits and administrative proceedings incidental to their businesses
involving, for example, claims for personal injury and property damage,
contractual matters, various taxes, and rates and licensing. Reference is made
to ITEM 1. BUSINESS -- CONSUMERS REGULATION, as well as ITEM 7. MANAGEMENT'S
DISCUSSION AND ANALYSIS and Consumers' ITEM 8. FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA -- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS included herein
for additional information regarding various pending administrative and judicial
proceedings involving regulatory, operating and environmental matters.
EMPLOYMENT RETIREMENT INCOME SECURITY ACT CLASS ACTION LAWSUITS
Consumers is a named defendant, along with CMS Energy, CMS MST and certain named
and unnamed officers and directors, in two lawsuits brought as purported class
actions on behalf of participants and beneficiaries of the CMS Employee's
Savings and Incentive Plan (the "Plan"). The two cases, filed in July 2002 in
the U.S. District Court, were consolidated by the trial judge and an amended
consolidated complaint has been filed. Plaintiffs allege breaches of fiduciary
duties under ERISA and seek restitution on behalf of the Plan with respect to a
decline in value of the shares of CMS Energy Common Stock held in the Plan.
Plaintiffs also seek other equitable relief and legal fees. These cases will be
vigorously defended. Consumers cannot predict the outcome of this litigation.
SECURITIES CLASS ACTION LAWSUITS
Beginning on May 17, 2002, a number of securities class action complaints have
been filed against CMS Energy, Consumers and certain officers and directors of
CMS Energy and its affiliates. The complaints have been filed in the United
States District Court for the Eastern District of Michigan as purported class
actions by individuals who allege that they purchased CMS Energy's securities
during a purported class period. At least two of the complaints contain
purported class periods beginning on August 3, 2000 and running through May 10,
2002 or May 14, 2002. These complaints generally seek unspecified damages based
on allegations that the defendants violated United States securities laws and
regulations by making allegedly false and misleading statements about the
company's business and financial condition. The cases have been consolidated
into a single lawsuit and an amended and consolidated complaint is due to be
filed by May 1, 2003. CMS Energy and Consumers intend to vigorously defend
against this action. Consumers cannot predict the outcome of this litigation.
ENVIRONMENTAL MATTERS: Consumers and its subsidiaries and affiliates are
subject to various federal, state and local laws and regulations relating to the
environment. Several of these companies have been named parties to various
actions involving environmental issues. Based on their present knowledge and
subject to future legal and factual developments, Consumers believes that it is
unlikely that these actions, individually or in total, will have a material
adverse effect on their financial condition. See ITEM 7. MANAGEMENT'S DISCUSSION
AND ANALYSIS; and ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA -- NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
During the fourth quarter of 2002, Consumers did not submit any matters to
vote of security holders.
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PART II
ITEM 5. MARKET FOR CONSUMERS' COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS.
Consumers' common stock is privately held by its parent, CMS Energy, and does
not trade in the public market. In February, May, June, November and December
2002, Consumers paid $55 million, $43 million, $56 million, $52 million and $25
million in cash dividends, respectively, on its common stock. In February, May,
August, and November 2001, Consumers paid $66 million, $30 million, $39 million
and $55 million in cash dividends, respectively, on its common stock. Pursuant
to restrictive covenants in its debt facilities, Consumers is limited to
dividend payments that will not exceed $300 million in any calendar year.
ITEM 6. SELECTED FINANCIAL DATA.
Selected financial information is contained in ITEM 8. FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA -- CONSUMERS' SELECTED FINANCIAL INFORMATION, which is
incorporated by reference herein.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Management's discussion and analysis of financial condition and results of
operations is contained in ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA -
CONSUMERS' MANAGEMENT'S DISCUSSION AND ANALYSIS, which is incorporated by
reference herein.
ITEM 7A. QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
Quantitative and Qualitative Disclosures About Market Risk is contained in ITEM
8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA - CONSUMERS' MANAGEMENT'S
DISCUSSION AND ANALYSIS - CRITICAL ACCOUNTING POLICIES - ACCOUNTING FOR
DERIVATIVE AND FINANCIAL INSTRUMENTS AND MARKET RISK INFORMATION, which is
incorporated by reference herein.
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Index to Financial Statements: Page
----
CONSUMERS ENERGY
Selected Financial Information.......................................................... 24
Management's Discussion and Analysis.................................................... 25
Consolidated Statements of Income....................................................... 51
Consolidated Statements of Cash Flows................................................... 52
Consolidated Balance Sheets............................................................. 53
Consolidated Statements of Long-Term Debt............................................... 55
Consolidated Statements of Preferred Stock.............................................. 56
Consolidated Statements of Common Stockholder's Equity.................................. 57
Notes to Consolidated Financial Statements.............................................. 59
Reports of Independent Auditors......................................................... 100
Quarterly Financial Information......................................................... 103
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[CONSUMERS ENERGY LOGO]
2002 FINANCIAL STATEMENTS
-23-
SELECTED FINANCIAL INFORMATION CONSUMERS ENERGY COMPANY
2002 2001 2000 1999 1998
- -----------------------------------------------------------------------------------------------------------------
Operating revenue (in millions) ($) 4,222 4,014 3,935 3,874 3,709
Income before cumulative effect of change
in accounting principle (in millions) ($) 363 199 284 340 306
Net income (in millions) (b) ($) 381 188 284 340 349
Net income available to common
stockholder (in millions) ($) 335 145 248 313 312
Cash from operations (in millions) ($) 769 518 515 791 637
Capital expenditures, excluding capital
lease additions and DSM (in millions) ($) 559 745 498 444 369
Total assets (in millions) ($) 8,700 8,321 7,776 7,170 7,163
Long-term debt, excluding current
maturities (in millions) ($) 2,442 2,472 2,110 2,006 2,007
Non-current portion of capital
leases (in millions) ($) 116 72 49 85 100
Total preferred stock (in millions) ($) 44 44 44 44 238
Total preferred securities (in millions) ($) 490 520 395 395 220
Number of preferred shareholders at year-end 2,132 2,220 2,365 2,534 5,649
Book value per common share at year-end ($) 22.46 22.81 23.85 23.87 21.94
Return on average common equity (%) 17.6 7.4 12.4 16.2 17.5
Return on average assets (%) 5.9 3.9 5.4 6.4 6.6
Number of full-time equivalent
employees at year-end (d)
Consumers 8,547 8,477 8,748 8,736 8,456
Michigan Gas Storage (c) - 62 57 63 65
ELECTRIC STATISTICS
Sales (billions of kWh) 39.3 39.6 41.0 41.0 40.0
Customers (in thousands) 1,734 1,712 1,691 1,665 1,640
Average sales rate per kWh (cents) 6.88 6.65 6.56 6.54 6.50
GAS STATISTICS
Sales and transportation deliveries (bcf) 376 367 410 389 360
Customers (in thousands) (a) 1,652 1,630 1,611 1,584 1,558
Average sales rate per mcf ($) 5.67 5.34 4.39 4.52 4.56
- -----------------------------------------------------------------------------------------------------------------
(a) Excludes off-system transportation customers.
(b) See Notes 1 and 2 in the notes to the consolidated financial statements.
(c) Effective November 2002, Michigan Storage Company was merged into
Consumers.
(d) Includes employees on workers compensation and temporary employees at
December 31, 2002.
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Consumers Energy Company
CONSUMERS ENERGY COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS
Consumers, a subsidiary of CMS Energy, a holding company, is an electric and gas
utility company that provides service to customers in Michigan's Lower
Peninsula. Consumers' customer base includes a mix of residential, commercial
and diversified industrial customers, the largest segment of which is the
automotive industry.
FORWARD-LOOKING STATEMENTS AND RISK FACTORS
This MD&A refers to, and in some sections specifically incorporates by
reference, Consumers' Notes to Consolidated Financial Statements and should be
read in conjunction with such Consolidated Financial Statements and Notes. This
Annual Report and other written and oral statements that Consumers may make
contain forward--looking statements as defined by the Private Securities
Litigation Reform Act of 1995. Consumers' intentions with the use of the words,
"anticipates," "believes," "estimates," "expects," "intends," and "plans," and
variations of such words and similar expressions, are solely to identify
forward-looking statements that involve risk and uncertainty. These
forward-looking statements are subject to various factors that could cause
Consumers' actual results to differ materially from the results anticipated in
such statements. Consumers has no obligation to update or revise forward-looking
statements regardless of whether new information, future events or any other
factors affect the information contained in such statements. Consumers does,
however, discuss certain risk factors, uncertainties and assumptions in this
MD&A and in Item 1 of this Form 10-K in the section entitled "Forward-Looking
Statements Cautionary Factors" and in various public filings it periodically
makes with the SEC. Consumers designed this discussion of potential risks and
uncertainties, which is by no means comprehensive, to highlight important
factors that may impact Consumers' business and financial outlook. This Annual
Report also describes material contingencies in Consumers' Notes to Consolidated
Financial Statements, and Consumers encourages its readers to review these
Notes. All note references within this MD&A refer to Consumers' Notes to
Consolidated Financial Statements.
CRITICAL ACCOUNTING POLICIES
Presenting financial statements in accordance with accounting principles
generally accepted in the United States requires using estimates, assumptions,
and accounting methods that are often subject to judgment. Presented below, are
the accounting policies and assumptions that Consumers believes are most
critical to both the presentation and understanding of its financial statements.
Applying these accounting policies to financial statements can involve very
complex judgments. Accordingly, applying different judgments, estimates or
assumptions could result in a different financial presentation.
USE OF ESTIMATES IN ACCOUNTING FOR CONTINGENCIES
The principles in SFAS No. 5 guide the recording of estimated liabilities for
contingencies within the financial statements. SFAS No. 5 requires a company to
record estimated liabilities in the financial statements when a current event
has caused a probable future loss payment of an amount that can be reasonably
estimated. Consumers has used this accounting principle to record or disclose
estimated liabilities for the following significant events.
ELECTRIC ENVIRONMENTAL ESTIMATES: Consumers is subject to costly and
increasingly stringent environmental regulations. Consumers expects to incur
significant costs for future environmental compliance, especially compliance
with clean air laws.
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Consumers Energy Company
The EPA has issued final regulations regarding nitrogen oxide emissions from
certain generators, including some of Consumers' electric generating facilities.
These regulations will require Consumers to make significant capital
expenditures estimated to be $770 million. As of December 31, 2002, Consumers
has incurred $405 million in capital expenditures to comply with these
regulations and anticipates that the remaining capital expenditures will be
incurred between 2003 and 2009. Additionally, Consumers expects to supplement
its compliance plan with the purchase of nitrogen oxide emissions credits in the
years 2005 through 2008. The cost of these credits based on the current market
is estimated to average $6 million per year; however, the market for nitrogen
oxide emissions credits is volatile and the price could change significantly. At
some point, if new environmental standards become effective, Consumers may need
additional capital expenditures to comply with the standards. These and other
required environmental expenditures, if not recovered in Consumers' rates, may
have a material adverse effect upon Consumers' financial condition and results
of operations. For further information see Note 2, Uncertainties, "Electric
Contingencies - Electric Environmental Matters."
GAS ENVIRONMENTAL ESTIMATES: Under the Michigan Natural Resources and
Environmental Protection Act, Consumers expects that it will incur investigation
and remedial action costs at a number of sites. Consumers estimates the costs
for 23 former manufactured gas plant sites will be between $82 million and $113
million, using the Gas Research Institute-Manufactured Gas Plant Probabilistic
Cost Model. These estimates are based on discounted 2001 costs and follow EPA
recommended use of discount rates between three and seven percent. Consumers
expects to recover a significant portion of these costs through MPSC-approved
rates charged to its customers. Any significant change in assumptions, such as
remediation techniques, nature and extent of contamination, and legal and
regulatory requirements, could change the remedial action costs for the sites.
For further information see Note 2, Uncertainties, "Gas Contingencies - Gas
Environmental Matters."
MCV UNDERRECOVERIES: The MCV Partnership, which leases and operates the MCV
Facility, contracted to sell electricity to Consumers for a 35-year period
beginning in 1990 and to supply electricity and steam to Dow. Consumers, through
two wholly owned subsidiaries, holds a 49 percent partnership interest in the
MCV Partnership, and a 35 percent lessor interest in the MCV Facility.
Consumers' annual obligation to purchase capacity from the MCV Partnership is
1,240 MW through 2025. The PPA requires Consumers to pay, based on the MCV
Facility's availability, a levelized average capacity charge of 3.77 cents per
kWh, a fixed energy charge, and a variable energy charge based primarily on
Consumers' average cost of coal consumed for all kWh delivered. Consumers has
not been allowed full recovery of the capacity charges in rates. After September
2007, the PPA's terms obligate Consumers to pay the MCV Partnership only those
capacity and energy charges that the MPSC has authorized for recovery from
electric customers.
In 1992, Consumers recognized a loss and established a PPA liability for the
present value of the estimated future underrecoveries of power supply costs
under the PPA based on MPSC cost recovery orders. Primarily as a result of the
MCV Facility's actual availability being greater than management's original
estimates, the PPA liability has been reduced at a faster rate than originally
anticipated. At December 31, 2002, 2001 and 2000, the remaining after-tax
present value of the estimated future PPA liability associated with the loss
totaled $34 million, $50 million and $64 million, respectively. The PPA
liability is expected to be depleted in late 2004.
In March 1999, Consumers and the MCV Partnership reached a settlement agreement
effective January 1, 1999, that addressed, among other things, the ability of
the MCV Partnership to count modifications increasing the capacity of the
existing MCV Facility for purposes of computing the availability of contract
capacity under the PPA for billing purposes. That settlement agreement capped
availability payments that may be billed by the MCV Partnership at a 98.5
percent level.
When Consumers returns, as expected, to unfrozen rates beginning in 2004,
Consumers will recover from customers, on-peak and off-peak capacity, so long as
availability does not exceed an average 88.7 percent established in previous
MPSC orders. For availability payments billed by the MCV Partnership after
September 15, 2007, and not recovered from customers, Consumers would expect to
claim a regulatory out under the PPA. If the MCV Facility's generating
availability remains at the maximum 98.5 percent level during the next five
years, Consumers' after-tax cash underrecoveries associated with the PPA could
be as follows:
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Consumers Energy Company
In Millions
- -------------------------------------------------------------------------------------------------------------------
2003 2004 2005 2006 2007
- -------------------------------------------------------------------------------------------------------------------
Estimated cash underrecoveries at 98.5%, net of tax $37 $36 $36 $36 $25
===================================================================================================================
It is currently estimated that 51 percent of the actual cash underrecoveries for
the years 2003 and 2004 will be charged to the PPA liability, with the remaining
portion charged to operating expense as a result of Consumers' 49 percent
ownership in the MCV Partnership. All cash underrecoveries will be expensed
directly to income once the PPA liability is depleted.
For further information see Note 2, Uncertainties, "Other Electric Uncertainties
- - The Midland Cogeneration Venture."
ACCOUNTING FOR DERIVATIVE AND FINANCIAL INSTRUMENTS AND MARKET RISK INFORMATION
DERIVATIVE INSTRUMENTS: Consumers uses SFAS No. 133 criteria to determine which
contracts must be accounted for as derivative instruments. These rules, however,
are numerous and complex. As a result, significant judgment is required, and
similar contracts can sometimes be accounted for differently.
Consumers currently accounts for the following contracts as derivative
instruments: interest rate swaps, certain electric call options, fixed priced
weather-based gas supply call options and fixed price gas supply put options.
Consumers does not account for the following contracts as derivative
instruments: electric capacity and energy contracts, gas supply contracts
without embedded options, coal and nuclear fuel supply contracts, and purchase
orders for numerous supply items.
Consumers believes that certain of its electric capacity and energy contracts
are not derivatives due to the lack of an active energy market in the state of
Michigan, as defined by SFAS No. 133, and the transportation cost to deliver the
power under the contracts to the closest active energy market at the Cinergy hub
in Ohio. If a market develops in the future, Consumers may be required to
account for these contracts as derivatives. The mark-to-market impact on
earnings related to these contracts, particularly related to the PPA, could be
material to the financial statements.
If a contract is accounted for as a derivative instrument, it is recorded in the
financial statements as an asset or a liability, at the fair value of the
contract. Any difference between the recorded book value and the fair value is
reported either in earnings or other comprehensive income, depending on certain
qualifying criteria. The recorded fair value of the contract is then adjusted
quarterly to reflect any change in the market value of the contract.
In order to fair value the contracts that are accounted for as derivative
instruments, Consumers uses a combination of market quoted prices and
mathematical models. Option models require various inputs, including forward
prices, volatilities, interest rates and exercise periods. Changes in forward
prices or volatilities could significantly change the calculated fair value of
the call option contracts. At December 31, 2002, Consumers assumed a
market-based interest rate of 4.5 percent and a volatility rate of 70 percent in
calculating the fair value of its electric call options.
In order for derivative instruments to qualify for hedge accounting under SFAS
No. 133, the hedging relationship must be formally documented at inception and
be highly effective in achieving offsetting cash flows or offsetting changes in
fair value, attributable to the risk being hedged. If hedging a forecasted
transaction, the forecasted transaction must be probable. If a derivative
instrument, used as a cash flow hedge, is terminated early because it is
probable that a forecasted transaction will not occur, any gain or loss as of
such date is immediately recognized in earnings. If a derivative instrument,
used as a cash flow hedge, is terminated
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Consumers Energy Company
early for other economic reasons, any gain or loss as of the termination date is
deferred and recorded when the forecasted transaction affects earnings.
FINANCIAL INSTRUMENTS: Consumers accounts for its debt and equity investment
securities in accordance with SFAS No. 115. As such, debt and equity securities
can be classified into one of three categories: held-to-maturity, trading, or
available-for-sale securities. Consumers' investments in equity securities,
including its investment in CMS Energy Common Stock, are classified as
available-for-sale securities. They are reported at fair value, with any
unrealized gains or losses from changes in fair value reported in equity as part
of other comprehensive income and excluded from earnings unless such changes in
fair value are other than temporary. In 2002, Consumers determined that the
decline in value related to its investment in CMS Energy Common Stock was other
than temporary as the fair value was below the cost basis for a period greater
than six months. As a result, Consumers recognized a loss on its investment in
CMS Energy Common Stock through earnings of $12 million in the fourth quarter of
2002. As of December 31, 2002, Consumers held 2.4 million shares of CMS Energy
Common Stock with a fair value of $22 million; as of March 14, 2003 the fair
value was $8 million. Unrealized gains or losses from changes in the fair value
of Consumers' nuclear decommissioning investments are reported in accumulated
depreciation. The fair value of these investments is determined from quoted
market prices.
MARKET RISK INFORMATION: Consumers is exposed to market risks including, but not
limited to, changes in interest rates, commodity prices, and equity security
prices. Consumers' market risk, and activities designed to minimize this risk,
are subject to the direction of an executive oversight committee consisting of
designated members of senior management and a risk committee, consisting of
certain business unit managers. The role of the risk committee is to review the
corporate commodity position and ensure that net corporate exposures are within
the economic risk tolerance levels established by Consumers' Board of Directors.
Established policies and procedures are used to manage the risks associated with
market fluctuations.
Consumers uses various contracts, including swaps, options, and forward
contracts to manage its risks associated with the variability in expected future
cash flows attributable to fluctuations in interest rates and commodity prices.
When management uses these instruments, it intends that an opposite movement in
the value of the at-risk item would offset any losses incurred on the contracts.
Contracts used to manage interest rate and commodity price risk may be
considered derivative instruments that are subject to derivative and hedge
accounting pursuant to SFAS No. 133. Consumers enters into all risk management
contracts for purposes other than trading.
These instruments contain credit risk if the counterparties, including financial
institutions and energy marketers, fail to perform under the agreements.
Consumers minimizes such risk by performing financial credit reviews using,
among other things, publicly available credit ratings of such counterparties.
In accordance with SEC disclosure requirements, Consumers performs sensitivity
analyses to assess the potential loss in fair value, cash flows and earnings
based upon a hypothetical 10 percent adverse change in market rates or prices.
Management does not believe that sensitivity analyses alone provide an accurate
or reliable method for monitoring and controlling risks. Therefore, Consumers
relies on the experience and judgment of its senior management to revise
strategies and adjust positions, as it deems necessary. Losses in excess of the
amounts determined in sensitivity analyses could occur if market rates or prices
exceed the 10 percent shift used for the analyses.
INTEREST RATE RISK: Consumers is exposed to interest rate risk resulting from
the issuance of fixed-rate financing and variable-rate financing, and from
interest rate swap agreements. Consumers uses a combination of these instruments
to manage and mitigate interest rate risk exposure when it deems it appropriate,
based upon market conditions. These strategies attempt to provide and maintain
the lowest cost of capital. As of December 31, 2002, Consumers had outstanding
$1.268 billion of variable-rate financing, including variable-rate swaps. At
December 31, 2002, assuming a hypothetical 10 percent adverse change in market
interest rates, Consumers' before tax earnings exposure on its variable-rate
financing would be $2 million. As of December 31, 2002,
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Consumers Energy Company
Consumers had entered into floating-to-fixed interest rate swap agreements for a
notional amount of $75 million. These swaps exchange variable-rate interest
payment obligations for fixed-rate interest payment obligations in order to
minimize the impact of potential adverse interest rate changes. As of December
31, 2002, Consumers had outstanding fixed-rate financing, including fixed-rate
swaps, of $2.760 billion, with a fair value of $2.677 billion. As of December
31, 2002, assuming a hypothetical 10 percent adverse change in market rates,
Consumers would have an exposure of $137 million to the fair value of these
instruments if it had to refinance all of its fixed-rate financing. As discussed
below in Electric Business Outlook -- Securitization, Consumers has filed an
application with the MPSC to securitize certain costs. If approved, Consumers
will use the proceeds from the securitization for refinancing or retirement of
debt, which could include a portion of its current fixed-rate financing.
Consumers does not believe that any adverse change in debt price and interest
rates would have a material adverse effect on either its consolidated financial
position, results of operation or cash flows.
COMMODITY MARKET RISK: For purposes other than trading, Consumers enters into
electric call options, fixed price gas supply contracts containing embedded put
options, fixed priced weather-based gas supply call options and fixed priced gas
supply put options. The electric call options are used to protect against risk
due to fluctuations in the market price of electricity and to ensure a reliable
source of capacity to meet customers' electric needs. The gas supply contracts
containing embedded put options, the weather-based gas supply call options, and
the gas supply put options are used to purchase reasonably priced gas supply.
As of December 31, 2002, the fair value based on quoted future market prices of
electricity-related call option contracts was $9 million. At December 31, 2002,
assuming a hypothetical 10 percent adverse change in market prices, the
potential reduction in fair value associated with these contracts would be $2
million. As of December 31, 2002, Consumers had incurred $37 million, of
premiums for electric call option contracts. Consumers' maximum exposure
associated with the call option contracts is limited to the premiums incurred.
As of December 31, 2002, the fair value based on quoted future market prices of
gas supply-related call and put option contracts was $1 million. At December 31,
2002, a hypothetical 10 percent adverse change in market prices would be
immaterial.
EQUITY SECURITY PRICE RISK: Consumers owns less than 20 percent of the
outstanding shares of CMS Energy Common Stock. Consumers recognized a loss on
this investment through earnings of $12 million in the fourth quarter of 2002,
because the loss was other than temporary as the fair value was below the cost
basis for a period greater than six months. As of December 31, 2002, Consumers
held 2.4 million shares of CMS Energy Common stock at a fair value of $22
million, as of March 14, 2003 the fair value was $8 million. Consumers believes
that any further adverse change in the market price of this investment would not
have a material effect on its consolidated financial position, results of
operation or cash flows.
For further information on market risk and derivative activities, see Note 5,
Financial and Derivative Instruments.
ACCOUNTING FOR THE EFFECTS OF INDUSTRY REGULATION
Because Consumers is involved in a regulated industry, regulatory decisions
affect the timing and recognition of revenues and expenses. Consumers uses SFAS
No. 71 to account for the effects of these regulatory decisions. As a result,
Consumers may defer or recognize revenues and expenses differently than a
non-regulated entity.
For example, items that a non-regulated entity would normally expense, Consumers
may capitalize as regulatory assets if the actions of the regulator indicate
such expenses will be recovered in future rates. Conversely, items that
non-regulated entities may normally recognize as revenues, Consumers may record
as regulatory liabilities if the actions of the regulator indicate they will
require such revenues to later be refunded
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Consumers Energy Company
to customers. Judgment is required to discern the recoverability of items
recorded as regulatory assets and liabilities. As of December 31, 2002,
Consumers had $1.072 billion recorded as regulatory assets and $313 million
recorded as regulatory liabilities.
In March 1999, Consumers received MPSC electric restructuring orders which,
among other things, identified the terms and timing for implementing electric
restructuring in Michigan. Consistent with these orders and EITF No. 97-4,
Consumers discontinued the application of SFAS No. 71 for the energy supply
portion of its business because Consumers expected to implement retail open
access at competitive market-based rates for its electric customers. Since 1999,
there has been a significant legislative and regulatory change in Michigan that
has resulted in: 1) electric supply customers of utilities remaining on
cost-based rates and 2) utilities being given the ability to recover Stranded
Costs associated with electric restructuring, from customers who choose an
alternative electric supplier. During 2002, Consumers re-evaluated the criteria
used to determine if an entity or a segment of an entity meets the requirements
to apply regulated utility accounting, and determined that the energy supply
portion of its business could meet the criteria if certain regulatory events
occurred. In December 2002, Consumers received a MPSC Stranded Cost order that
allowed Consumers to re-apply regulatory accounting standard SFAS No. 71 to the
energy supply portion of its business. Re-application of SFAS No. 71 will have
no effect on the prior discontinuation accounting, but will allow Consumers to
apply regulatory accounting treatment to the energy supply portion of its
business on a prospective basis, including regulatory accounting treatment of
costs required to be recognized in accordance with SFAS No. 143.
ACCOUNTING FOR PENSION AND OPEB
Consumers provides postretirement benefits under its Pension Plan, and
postretirement health and life benefits under its OPEB plans to substantially
all its retired employees. Consumers uses SFAS No. 87 to account for pension
costs and uses SFAS No. 106 to account for other postretirement benefit costs.
These statements require liabilities to be recorded on the balance sheet at the
present value of these future obligations to employees net of any plan assets.
The calculation of these liabilities and associated expenses require the
expertise of actuaries and are subject to many assumptions including life
expectancies, present value discount rates, expected long-term rate of return on
plan assets, rate of compensation increase and anticipated health care costs.
Any change in these assumptions can significantly change the liability and
associated expenses recognized in any given year. The Pension Plan includes
amounts for employees of CMS Energy and non-utility affiliates, including
Panhandle, which were not distinguishable from the Pension Plan's total assets.
On December 21, 2002, a definitive agreement was executed to sell Panhandle. The
sale is expected to close in 2003. No portion of the Pension Plan will be
transferred with the sale of Panhandle. At the closing of the sale, none of the
employees of Panhandle will be eligible to accrue additional benefits. The
Pension Plan will retain pension payment obligations for Panhandle emp