7
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to .
------- -----
Exact name of registrants as specified in their charters, state of
Commission incorporation, address of principal executive offices, and telephone I.R.S. Employer
File Number number Identification Number
1-15929 Progress Energy, Inc. 56-2155481
410 South Wilmington Street
Raleigh, North Carolina 27601-1748
Telephone: (919) 546-6111
State of Incorporation: North Carolina
1-3382 Carolina Power & Light Company 56-0165465
d/b/a Progress Energy Carolinas, Inc.
410 South Wilmington Street
Raleigh, North Carolina 27601-1748
Telephone: (919) 546-6111
State of Incorporation: North Carolina
NONE
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrants (1) have 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
registrants were required to file such reports), and (2) have been subject to
such filing requirements for the past 90 days. Yes X No
Indicate by check mark whether Progress Energy, Inc. (Progress Energy) is an
accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes X No
Indicate by check mark whether Carolina Power & Light Company is an accelerated
filer (as defined in Rule 12b-2 of the Exchange Act). Yes __ No X
This combined Form 10-Q is filed separately by two registrants: Progress Energy
and Carolina Power & Light Company d/b/a Progress Energy Carolinas, Inc. (PEC).
Information contained herein relating to either individual registrant is filed
by such registrant solely on its own behalf. Each registrant makes no
representation as to information relating exclusively to the other registrant.
Indicate the number of shares outstanding of each of the issuers' classes of
common stock, as of the latest practicable date. As of July 31, 2004, each
registrant had the following shares of common stock outstanding:
Registrant Description Shares
---------- ----------- ------
Progress Energy Common Stock (Without Par Value) 246,793,015
PEC Common Stock (Without Par Value) 159,608,055 (all of which
were held by Progress Energy, Inc.)
PROGRESS ENERGY, INC. AND PROGRESS ENERGY CAROLINAS, INC.
FORM 10-Q - For the Quarter Ended June 30, 2004
Glossary of Terms
Safe Harbor For Forward-Looking Statements
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Interim Financial Statements:
Progress Energy, Inc.
--------------------------------------------------------------
Unaudited Consolidated Statements of Income
Unaudited Consolidated Balance Sheets
Unaudited Consolidated Statements of Cash Flows
Notes to Consolidated Interim Financial Statements
Carolina Power & Light Company
d/b/a Progress Energy Carolinas, Inc.
---------------------------------------------------------------
Unaudited Consolidated Statements of Income
Unaudited Consolidated Balance Sheets
Unaudited Consolidated Statements of Cash Flows
Notes to Consolidated Interim Financial Statements
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity
Securities
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
Signatures
2
GLOSSARY OF TERMS
The following abbreviations or acronyms used in the text of this combined Form
10-Q are defined below:
TERM DEFINITION
the Act Medicare Prescription Drug, Improvement and Modernization Act of 2003
AFUDC Allowance for funds used during construction
the Agreement Stipulation and Settlement Agreement
Bcf Billion cubic feet
CCO Competitive Commercial Operations business segment
Colona Colona Synfuel Limited Partnership, LLLP
the Company or Progress Progress Energy, Inc. and subsidiaries
Energy
CR3 Progress Energy Florida Inc.'s nuclear generating plant, Crystal River Unit No. 3
CVO Contingent value obligation
DIG Derivatives Implementation Group
DOE United States Department of Energy
DWM North Carolina Department of Environment and Natural Resources, Division of Waste
Management
EITF Emerging Issues Task Force
ENCNG Eastern North Carolina Natural Gas Company, formerly referred to as Eastern NC
EPA United States Environmental Protection Agency
FDEP Florida Department of Environment and Protection
Federal Circuit United States Circuit Court of Appeals
FERC Federal Energy Regulatory Commission
FIN No. 46 FASB Interpretation No. 46, "Consolidation of Variable Interest Entities - An
Interpretation of ARB No. 51"
Florida Progress or FPC Florida Progress Corporation
FPSC Florida Public Service Commission
Fuels Fuels business segment
Genco Progress Genco Ventures, LLC
Jackson Jackson County EMC
MACT Maximum Available Control Technology
Mesa Mesa Hydrocarbons, LLC
MGP Manufactured gas plant
NCNG North Carolina Natural Gas Corporation
NCUC North Carolina Utilities Commission
NOx Nitrogen oxide
NOx SIP Call EPA rule which requires 23 jurisdictions including North and South
Carolina and Georgia to further reduce nitrogen oxide emissions
NRC United States Nuclear Regulatory Commission
NSP Northern States Power
PCH Progress Capital Holdings, Inc.
PEC Progress Energy Carolinas, Inc., formerly referred to as Carolina Power & Light
Company
PEF Progress Energy Florida, Inc., formerly referred to as Florida Power Corporation
PFA IRS Prefiling Agreement
the Plan Revenue Sharing Incentive Plan
PLRs Private Letter Rulings
Progress Rail Progress Rail Services Corporation
PTC LLC Progress Telecom LLC
Progress Ventures Business unit of Progress Energy primarily made up of nonregulated
energy generation, gas, coal and synthetic fuel operations and energy
marketing
PUHCA Public Utility Holding Company Act of 1935, as amended
PVI Legal entity of Progress Ventures, Inc.
PWR Pressurized water reactor
Rail Services or Rail Rail Services business segment
RTO Regional Transmission Organization
3
SCPSC Public Service Commission of South Carolina
Section 29 Section 29 of the Internal Revenue Code
Service Company Progress Energy Service Company, LLC
SFAS No. 71 Statement of Financial Accounting Standards No. 71, "Accounting for the Effects of
Certain Types of Regulation"
SFAS No. 131 Statement of Financial Accounting Standards No. 131, "Disclosures about Segments
of an Enterprise and Related Information"
SFAS No. 133 Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
and Hedging Activities"
SFAS No. 142 Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets"
SFAS No. 143 Statement of Financial Accounting Standards No. 143, "Accounting for Asset
Retirement Obligations"
SFAS No. 148 Statement of Financial Accounting Standards No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure - An Amendment of FASB Statement No.
123"
SFAS No. 149 Statement of Financial Accounting Standards No. 149, "Amendment of Statement 133
on Derivative Instruments and Hedging Activities"
SMD NOPR Notice of Proposed Rulemaking in Docket No. RM01-12-000, Remedying Undue
Discrimination through Open Access Transmission and Standard Market Design
SO2 Sulfur dioxide
SRS Strategic Resource Solutions Corp.
the Trust FPC Capital I trust
Westchester Westchester Gas Company
4
SAFE HARBOR FOR FORWARD-LOOKING STATEMENTS
This combined report contains forward-looking statements within the meaning of
the safe harbor provisions of the Private Securities Litigation Reform Act of
1995. The matters discussed throughout this combined Form 10-Q that are not
historical facts are forward-looking and, accordingly, involve estimates,
projections, goals, forecasts, assumptions, risks and uncertainties that could
cause actual results or outcomes to differ materially from those expressed in
the forward-looking statements.
In addition, forward-looking statements are discussed in "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
including, but not limited to, statements under the sub-headings "Liquidity and
Capital Resources" and "Other Matters" about the effects of new environmental
regulations, nuclear decommissioning costs and the effect of electric utility
industry restructuring.
Any forward-looking statement speaks only as of the date on which such statement
is made, and neither Progress Energy, Inc. (Progress Energy or the Company) nor
Progress Energy Carolinas, Inc. (PEC) undertakes any obligation to update any
forward-looking statement or statements to reflect events or circumstances after
the date on which such statement is made.
Examples of factors that you should consider with respect to any forward-looking
statements made throughout this document include, but are not limited to, the
following: the impact of fluid and complex government laws and regulations,
including those relating to the environment; the impact of recent events in the
energy markets that have increased the level of public and regulatory scrutiny
in the energy industry and in the capital markets; deregulation or restructuring
in the electric industry that may result in increased competition and
unrecovered (stranded) costs; the uncertainty regarding the timing, creation and
structure of regional transmission organizations; weather conditions that
directly influence the demand for electricity; recurring seasonal fluctuations
in demand for electricity; fluctuations in the price of energy commodities and
purchased power; economic fluctuations and the corresponding impact on Progress
Energy, Inc. and its subsidiaries' commercial and industrial customers; the
ability of the Company's subsidiaries to pay upstream dividends or distributions
to it; the impact on the facilities and the businesses of the Company from a
terrorist attack; the inherent risks associated with the operation of nuclear
facilities, including environmental, health, regulatory and financial risks; the
ability to successfully access capital markets on favorable terms; the impact
that increases in leverage may have on the Company; the ability of the Company
to maintain its current credit ratings; the impact of derivative contracts used
in the normal course of business by the Company; investment performance of
pension and benefit plans and the ability to control costs; the availability and
use of Internal Revenue Code Section 29 (Section 29) tax credits by synthetic
fuel producers and the Company's continued ability to use Section 29 tax credits
related to its coal and synthetic fuel businesses; the impact to our financial
condition and performance in the event it is determined the Company is not
entitled to previously taken Section 29 tax credits; the Company's ability to
successfully integrate newly acquired assets, properties or businesses into its
operations as quickly or as profitably as expected; the Company's ability to
manage the risks involved with the operation of its nonregulated plants,
including dependence on third parties and related counter-party risks, and a
lack of operating history; the Company's ability to manage the risks associated
with its energy marketing operations; the outcome of any ongoing or future
litigation or similar disputes and the impact of any such outcome or related
settlements; and unanticipated changes in operating expenses and capital
expenditures. Many of these risks similarly impact the Company's subsidiaries.
These and other risk factors are detailed from time to time in the Progress
Energy and PEC United States Securities and Exchange Commission (SEC) reports.
Many, but not all of the factors that may impact actual results are discussed in
the Risk Factors sections of Progress Energy's and PEC's annual report on Form
10-K for the year ended December 31, 2003, which were filed with the SEC on
March 12, 2004. These reports should be carefully read. All such factors are
difficult to predict, contain uncertainties that may materially affect actual
results and may be beyond the control of Progress Energy and PEC. New factors
emerge from time to time, and it is not possible for management to predict all
such factors, nor can it assess the effect of each such factor on Progress
Energy and PEC.
5
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
PROGRESS ENERGY, INC.
CONSOLIDATED INTERIM FINANCIAL STATEMENTS
June 30, 2004
UNAUDITED CONSOLIDATED STATEMENTS of INCOME
Three Months Ended Six Months Ended
June 30 June 30
- ----------------------------------------------------------------------------------------------------------
(in millions except per share data) 2004 2003 2004 2003
- ----------------------------------------------------------------------------------------------------------
Operating Revenues
Utility $ 1,721 $ 1,583 $ 3,406 $ 3,237
Diversified business 704 467 1,270 1,000
- ----------------------------------------------------------------------------------------------------------
Total Operating Revenues 2,425 2,050 4,676 4,237
- ----------------------------------------------------------------------------------------------------------
Operating Expenses
Utility
Fuel used in electric generation 468 394 961 805
Purchased power 219 210 402 413
Operation and maintenance 372 364 735 699
Depreciation and amortization 207 224 409 444
Taxes other than on income 109 94 214 197
Diversified business
Cost of sales 656 416 1,177 891
Depreciation and amortization 46 36 91 69
Other 45 38 88 88
- ----------------------------------------------------------------------------------------------------------
Total Operating Expenses 2,122 1,776 4,077 3,606
- ----------------------------------------------------------------------------------------------------------
Operating Income 303 274 599 631
- ----------------------------------------------------------------------------------------------------------
Other Income (Expense)
Interest income 4 3 7 6
Other, net - (9) (25) (15)
- ----------------------------------------------------------------------------------------------------------
Total Other Income (Expense) 4 (6) (18) (9)
- ----------------------------------------------------------------------------------------------------------
Interest Charges
Net interest charges 160 159 326 315
Allowance for borrowed funds used during construction (2) (2) (3) (5)
- ----------------------------------------------------------------------------------------------------------
Total Interest Charges, Net 158 157 323 310
- ----------------------------------------------------------------------------------------------------------
Income from Continuing Operations before Income Tax and 149 111 258 312
Cumulative Effect of Change in Accounting Principle
Income Tax Benefit (4) (43) (3) (49)
- ----------------------------------------------------------------------------------------------------------
Income from Continuing Operations before Cumulative Effect of 153 154 261 361
Change in Accounting Principle
Discontinued Operations, Net of Tax 1 3 1 14
- ----------------------------------------------------------------------------------------------------------
Income before Cumulative Effect of Change in Accounting 154 157 262 375
Principle
Cumulative Effect of Change in Accounting Principle, Net of
Tax - - - 1
- ----------------------------------------------------------------------------------------------------------
Net Income $ 154 $ 157 $ 262 $ 376
- ----------------------------------------------------------------------------------------------------------
Average Common Shares Outstanding 242 236 242 235
- ----------------------------------------------------------------------------------------------------------
Basic Earnings per Common Share
Income from Continuing Operations before Cumulative
Effect of Change in Accounting Principle $ 0.63 $ 0.65 $ 1.08 $ 1.54
Discontinued Operations, Net of Tax - 0.01 - 0.06
Net Income $ 0.63 $ 0.66 $ 1.08 $ 1.60
- ----------------------------------------------------------------------------------------------------------
Diluted Earnings per Common Share
Income from Continuing Operations before Cumulative
Effect of Change in Accounting Principle $ 0.63 $ 0.65 $ 1.08 $ 1.53
Discontinued Operations, Net of Tax - 0.01 - 0.06
Net Income $ 0.63 $ 0.66 $ 1.08 $ 1.59
- ----------------------------------------------------------------------------------------------------------
Dividends Declared per Common Share $ 0.575 $ 0.560 $ 1.150 $ 1.120
- ----------------------------------------------------------------------------------------------------------
See Notes to Progress Energy, Inc. Consolidated Interim Financial Statements.
6
PROGRESS ENERGY, INC.
UNAUDITED CONSOLIDATED BALANCE SHEETS
(in millions) June 30 December 31
ASSETS 2004 2003
- -------------------------------------------------------------------------------------------------------
Utility Plant
Utility plant in service $ 21,991 $ 21,675
Accumulated depreciation (8,240) (8,077)
Utility plant in service, net 13,751 13,598
Held for future use 13 13
Construction work in progress 643 634
Nuclear fuel, net of amortization 218 228
- -------------------------------------------------------------------------------------------------------
Total Utility Plant, Net 14,625 14,473
- -------------------------------------------------------------------------------------------------------
Current Assets
Cash and cash equivalents 78 273
Accounts receivable 854 798
Unbilled accounts receivable 245 217
Inventory 775 795
Deferred fuel cost 304 317
Prepayments and other current assets 352 375
- -------------------------------------------------------------------------------------------------------
Total Current Assets 2,608 2,775
- -------------------------------------------------------------------------------------------------------
Deferred Debits and Other Assets
Regulatory assets 645 612
Nuclear decommissioning trust funds 978 938
Diversified business property, net 2,197 2,158
Miscellaneous other property and investments 458 464
Goodwill 3,730 3,726
Prepaid pension costs 449 462
Intangibles, net 306 327
Other assets and deferred debits 239 253
- -------------------------------------------------------------------------------------------------------
Total Deferred Debits and Other Assets 9,002 8,940
- -------------------------------------------------------------------------------------------------------
Total Assets $ 26,235 $ 26,188
- -------------------------------------------------------------------------------------------------------
Capitalization and Liabilities
- -------------------------------------------------------------------------------------------------------
Common Stock Equity
Common stock without par value, 500 million shares authorized,
247 and 246 million shares issued and outstanding, respectively $ 5,339 $ 5,270
Unearned restricted shares (17) (17)
Unearned ESOP shares (76) (89)
Accumulated other comprehensive loss (56) (50)
Retained earnings 2,313 2,330
- -------------------------------------------------------------------------------------------------------
Total Common Stock Equity 7,503 7,444
- -------------------------------------------------------------------------------------------------------
Preferred Stock of Subsidiaries-Not Subject to Mandatory Redemption 93 93
Long-Term Debt, Affiliate 309 309
Long-Term Debt , Net 9,282 9,625
- -------------------------------------------------------------------------------------------------------
Total Capitalization 17,187 17,471
- -------------------------------------------------------------------------------------------------------
Current Liabilities
Current portion of long-term debt 343 868
Accounts payable 684 643
Interest accrued 189 209
Dividends declared 141 140
Short-term obligations 628 4
Customer deposits 172 167
Other current liabilities 836 580
- -------------------------------------------------------------------------------------------------------
Total Current Liabilities 2,993 2,611
- -------------------------------------------------------------------------------------------------------
Deferred Credits and Other Liabilities
Accumulated deferred income taxes 525 737
Accumulated deferred investment tax credits 184 190
Regulatory liabilities 3,053 2,977
Asset retirement obligations 1,306 1,271
Other liabilities and deferred credits 987 931
- -------------------------------------------------------------------------------------------------------
Total Deferred Credits and Other Liabilities 6,055 6,106
- -------------------------------------------------------------------------------------------------------
Commitments and Contingencies (Note 12)
- -------------------------------------------------------------------------------------------------------
Total Capitalization and Liabilities $ 26,235 $ 26,188
- -------------------------------------------------------------------------------------------------------
See Notes to Progress Energy, Inc. Consolidated Interim Financial Statements.
7
PROGRESS ENERGY, INC.
UNAUDITED CONSOLIDATED STATEMENTS of CASH FLOWS
Six Months Ended June 30
(in millions) 2004 2003
- --------------------------------------------------------------------------------------------------------
Operating Activities
Net income $ 262 $ 376
Adjustments to reconcile net income to net cash provided by operating
activities:
Income from discontinued operations (1) (14)
Cumulative effect of change in accounting principle - (1)
Depreciation and amortization 557 572
Deferred income taxes (210) (118)
Investment tax credit (6) (8)
Deferred fuel cost (credit) 13 (94)
Cash provided (used) by changes in operating assets and liabilities:
Accounts receivable (101) (80)
Inventories 13 31
Prepayments and other current assets (53) 15
Accounts payable 72 (5)
Income taxes, net 207 105
Other current liabilities 47 35
Other 115 93
- --------------------------------------------------------------------------------------------------------
Net Cash Provided by Operating Activities 915 907
- --------------------------------------------------------------------------------------------------------
Investing Activities
Gross utility property additions (483) (541)
Diversified business property additions (122) (367)
Nuclear fuel additions (47) (84)
Contributions to nuclear decommissioning trust (18) (18)
Investments in non-utility activities (7) (8)
Acquisition of intangibles - (191)
Proceeds from sales of investments and assets 92 1
Net decrease in restricted cash 5 17
Other (11) (4)
- --------------------------------------------------------------------------------------------------------
Net Cash Used in Investing Activities (591) (1,195)
- --------------------------------------------------------------------------------------------------------
Financing Activities
Issuance of common stock 58 172
Purchase of restricted shares (7) (7)
Issuance of long-term debt 1 655
Net increase in short-term indebtedness 624 163
Net decrease in cash provided by checks drawn in excess of bank balances (58) (44)
Retirement of long-term debt (865) (392)
Dividends paid on common stock (280) (268)
Other 8 (5)
- --------------------------------------------------------------------------------------------------------
Net Cash (Used in) Provided by Financing Activities (519) 274
- --------------------------------------------------------------------------------------------------------
Cash Used in Discontinued Operations - (1)
- --------------------------------------------------------------------------------------------------------
Net Decrease in Cash and Cash Equivalents (195) (15)
Cash and Cash Equivalents at Beginning of Period 273 61
- --------------------------------------------------------------------------------------------------------
Cash and Cash Equivalents at End of Period $ 78 $ 46
========================================================================================================
Supplemental Disclosures of Cash Flow Information
Cash paid during the year - interest (net of amount capitalized) $ 341 $ 305
income taxes (net of refunds) $ 43 $ 22
See Notes to Progress Energy, Inc. Consolidated Interim Financial Statements.
8
PROGRESS ENERGY, INC.
NOTES TO CONSOLIDATED INTERIM FINANCIAL STATEMENTS
1. ORGANIZATION AND BASIS OF PRESENTATION
A. Organization
Progress Energy, Inc. (Progress Energy or the Company) is a holding company
headquartered in Raleigh, North Carolina. The Company is registered under
the Public Utility Holding Company Act of 1935 (PUHCA), as amended and as
such, the Company and its subsidiaries are subject to the regulatory
provisions of PUHCA.
Through its wholly-owned subsidiaries, Carolina Power & Light Company d/b/a
Progress Energy Carolinas, Inc. (PEC) and Florida Power Corporation d/b/a
Progress Energy Florida, Inc. (PEF), the Company's PEC Electric and PEF
segments are primarily engaged in the generation, transmission,
distribution and sale of electricity in portions of North Carolina, South
Carolina and Florida. The Progress Ventures business unit consists of the
Fuels (Fuels) and the Competitive Commercial Operations (CCO) business
segments. The Fuels segment is involved in natural gas drilling and
production, coal terminal services, coal mining, synthetic fuel production,
fuel transportation and delivery. The CCO segment includes nonregulated
electric generation and energy marketing activities. Through the Rail
Services (Rail) segment, the Company is involved in nonregulated railcar
repair, rail parts reconditioning and sales, and scrap metal recycling.
Through its other business units, the Company engages in other nonregulated
business areas, including telecommunications and energy management and
related services. Progress Energy's legal structure is not currently
aligned with the functional management and financial reporting of the
Progress Ventures business unit. Whether, and when, the legal and
functional structures will converge depends upon regulatory action, which
cannot currently be anticipated.
B. Basis of Presentation
These financial statements have been prepared in accordance with accounting
principles generally accepted in the United States of America (GAAP) for
interim financial information and with the instructions to Form 10-Q and
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by GAAP for annual statements. Because the accompanying
consolidated interim financial statements do not include all of the
information and footnotes required by GAAP, they should be read in
conjunction with the audited financial statements for the period ended
December 31, 2003, and notes thereto included in Progress Energy's Form
10-K for the year ended December 31, 2003.
In accordance with the provisions of Accounting Principles Board Opinion
(APB) No. 28, "Interim Financial Reporting," GAAP requires companies to
apply a levelized effective tax rate to interim periods that is consistent
with the estimated annual effective tax rate. Income tax expense was
increased by $5 million for both the three months ended June 30, 2004 and
2003, in order to maintain an effective tax rate consistent with the
estimated annual rate. Income tax expense was increased by $43 million and
decreased by $5 million for the six months ended June 30, 2004 and 2003,
respectively. The income tax provisions for the Company differ from amounts
computed by applying the Federal statutory tax rate to income before income
taxes, primarily due to the recognition of synthetic fuel tax credits.
PEC and PEF collect from customers certain excise taxes, which include
gross receipts tax, franchise taxes, and other excise taxes, levied by the
state or local government upon the customers. PEC and PEF account for
excise taxes on a gross basis. For the three months ended June 30, 2004 and
2003, excise taxes of approximately $61 million and $51 million,
respectively, are included in taxes other than on income in the
accompanying Consolidated Statements of Income. For the six months ended
June 30, 2004 and 2003, excise taxes of approximately $114 million and $102
million, respectively, are included in taxes other than on income in the
accompanying Consolidated Statements of Income. These approximate amounts
are also included in utility revenues.
The amounts included in the consolidated interim financial statements are
unaudited but, in the opinion of management, reflect all normal recurring
adjustments necessary to fairly present the Company's financial position
and results of operations for the interim periods. Due to seasonal weather
variations and the timing of outages of electric generating units,
especially nuclear-fueled units, the results of operations for interim
periods are not necessarily indicative of amounts expected for the entire
year or future periods.
9
In preparing financial statements that conform with GAAP, management must
make estimates and assumptions that affect the reported amounts of assets
and liabilities, disclosure of contingent assets and liabilities at the
date of the financial statements and amounts of revenues and expenses
reflected during the reporting period. Actual results could differ from
those estimates. Certain amounts for 2003 have been reclassified to conform
to the 2004 presentation.
The results of operations of the Rail Services segment are reported one
month in arrears.
C. Subsidiary Reporting Period Change
In the fourth quarter of 2003, the Company ceased recording portions of
Fuels' segment operations, primarily synthetic fuel operations, one month
in arrears. As a result, earnings for the year ended December 31, 2003 as
reported in the Company's Form 10-K, included 13 months of results for
these operations. The 2003 quarterly results for periods ended March 31,
June 30 and September 30 have been restated for the above-mentioned
reporting period change. This resulted in four months of earnings in the
first quarter of 2003. The impact of the reclassification of earnings
between quarters is outlined for the first two quarters of 2003 in the
table below:
Three Months Ended June 30, 2003 As Previously Quarter As
(in millions, except per share data) Reported Reclassification Restated
---------------------------------------------------------------------------------------------------------
Income from Continuing Operations before Cumulative Effect $ 150 $ 4 $ 154
of Change in Accounting Principle
Net Income $ 153 $ 4 $ 157
Basic earnings per common share
Income from Continuing Operations before Cumulative
Effect of Change in Accounting Principle $ 0.64 $ 0.01 $ 0.65
Net Income $ 0.65 $ 0.01 $ 0.66
Diluted earnings per common share
Income from Continuing Operations before Cumulative
Effect of Change in Accounting Principle $ 0.63 $ 0.02 $ 0.65
Net Income $ 0.64 $ 0.02 $ 0.66
Six Months Ended June 30, 2003 As Previously Quarter As
(in millionas, except per share data) Reported Reclassification Restated
---------------------------------------------------------------------------------------------------------
Income from Continuing Operations before Cumulative Effect $ 346 $ 15 $ 361
of Change in Accounting Principle
Net Income $ 361 $ 15 $ 376
Basic earnings per common share
Income from Continuing Operations before Cumulative
Effect of Change in Accounting Principle $ 1.48 $ 0.06 $ 1.54
Net Income $ 1.54 $ 0.06 $ 1.60
Diluted earnings per common share
Income from Continuing Operations before Cumulative
Effect of Change in Accounting Principle $ 1.47 $ 0.06 $ 1.53
Net Income $ 1.53 $ 0.06 $ 1.59
D. Stock-Based Compensation
The Company measures compensation expense for stock options as the
difference between the market price of its common stock and the exercise
price of the option at the grant date. The exercise price at which options
are granted by the Company equals the market price at the grant date, and
accordingly, no compensation expense has been recognized for stock option
grants. For purposes of the pro forma disclosures required by SFAS No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure - an
Amendment of FASB Statement No. 123" the estimated fair value of the
Company's stock options is amortized to expense over the options' vesting
period. The following table illustrates the effect on net income and
earnings per share if the fair value method had been applied to all
outstanding and unvested awards in each period:
10
Three Months Ended Six Months Ended
June 30 June 30
----------------------- ---------------------
(in millions except per share data) 2004 2003 2004 2003
---------- ----------- --------- ----------
Net Income, as reported $ 154 $ 157 $ 262 $ 376
Deduct: Total stock option expense determined under
fair value method for all awards, net of related tax
effects 3 2 6 4
---------- ----------- --------- ----------
Pro forma net income $ 151 $ 155 $ 256 $ 372
========== =========== ========= ==========
Basic earnings per share
As reported $ 0.63 $ 0.66 $ 1.08 $ 1.60
Pro forma $ 0.62 $ 0.65 $ 1.06 $ 1.58
Fully diluted earnings per share
As reported $ 0.63 $ 0.66 $ 1.08 $ 1.59
Pro forma $ 0.62 $ 0.65 $ 1.05 $ 1.57
E. Consolidation of Variable Interest Entities
The Company consolidates all voting interest entities in which it owns a
majority voting interest and all variable interest entities for which it is
the primary beneficiary in accordance with FASB Interpretation No. 46R,
"Consolidation of Variable Interest Entities - an Interpretation of ARB No.
51" (FIN No. 46R). During the first six months of 2004 and 2003, the
Company did not participate in the creation of, or obtain a significant new
variable interest in, any variable interest entity.
The Company is the primary beneficiary of a limited partnership which
invests in 17 low-income housing partnerships that qualify for federal and
state tax credits. The Company has requested but has not received all the
necessary information to determine the primary beneficiary of the limited
partnership's underlying 17 partnership investments, and has applied the
information scope exception in FIN No. 46R, paragraph 4(g) to the 17
partnerships. The Company has no direct exposure to loss from the 17
partnerships; the Company's only exposure to loss is from its investment of
approximately $1 million in the consolidated limited partnership. The
Company will continue its efforts to obtain the necessary information to
fully apply FIN No. 46R to the 17 partnerships. The Company believes that
if the limited partnership is determined to be the primary beneficiary of
the 17 partnerships, the effect of consolidating the 17 partnerships would
not be significant to the Company's Consolidated Balance Sheets.
The Company has variable interests in two power plants resulting from
long-term power purchase contracts. The Company has requested the necessary
information to determine if the counterparties are variable interest
entities or to identify the primary beneficiaries. Both entities declined
to provide the Company with the necessary financial information, and the
Company has applied the information scope exception in FIN No. 46R,
paragraph 4(g). The Company's only significant exposure to variability from
these contracts results from fluctuations in the market price of fuel used
by the two entities' plants to produce the power purchased by the Company.
The Company is able to recover these fuel costs under PEC's fuel clause.
Total purchases from these counterparties were approximately $21 million
and $19 million in the first six months of 2004 and 2003, respectively. The
Company will continue its efforts to obtain the necessary information to
fully apply FIN No. 46R to these contracts. The combined generation
capacity of the two entities' power plants is approximately 880 MW. The
Company believes that if it is determined to be the primary beneficiary of
these two entities, the effect of consolidating the entities would result
in increases to total assets, long-term debt and other liabilities, but
would have an insignificant or no impact on the Company's common stock
equity, net earnings, or cash flows. However, as the Company has not
received any financial information from these two counterparties, the
impact cannot be determined at this time.
The Company also has interests in several other variable interest entities
for which the Company is not the primary beneficiary. These arrangements
include investments in approximately 28 limited partnerships, limited
liability corporations and venture capital funds and two building leases
with special-purpose entities. The aggregate maximum loss exposure at June
30, 2004, that the Company could be required to record in its income
statement as a result of these arrangements totals approximately $38
million. The creditors of these variable interest entities do not have
recourse to the general credit of the Company in excess of the aggregate
maximum loss exposure.
11
2. NEW ACCOUNTING STANDARDS
In December 2003, the Medicare Prescription Drug, Improvement and
Modernization Act of 2003 (the Act) was signed into law. In accordance with
guidance issued by the FASB in FASB Staff Position FAS 106-1, the Company
has elected to defer accounting for the effects of the Act due to
uncertainties regarding the effects of the implementation of the Act and
the accounting for certain provisions of the Act. Therefore, OPEB
information presented in the financial statements does not reflect the
effects of the Act. The FASB recently issued definitive accounting guidance
for the Act in FASB Staff Position 106-2, which is effective for the
Company in the third quarter of 2004. FASB Staff Position 106-2 will result
in the recognition of lower OPEB costs to reflect prescription drug-related
federal subsidies to be received under the Act. The Company is in the
process of quantifying the impact of the Act on OPEB costs.
3. DIVESTITURES
A. Divestiture of Synthetic Fuel Partnership Interests
In June 2004, the Company through its subsidiary, Progress Fuels sold, in
two transactions, a combined 49.8 percent partnership interest in Colona
Synfuel Limited Partnership, LLLP, one of its synthetic fuel facilities.
Substantially all proceeds from the sales will be received over time, which
is typical of such sales in the industry. Gain from the sales will be
recognized on a cost recovery basis. The Company's book value of the
interests sold totaled approximately $5 million. Based on projected
production levels, the Company anticipates receiving total gross proceeds
of approximately $30 million per year, on an annualized basis. Under the
agreements, the buyers have a right to unwind the transactions if an IRS
reconfirmation private letter ruling (PLR) is not received by October 15,
2004. Therefore, no gain would be recognized prior to the expiration of
that right.
B. Railcar Ltd. Divestiture
In December 2002, the Progress Energy Board of Directors adopted a
resolution approving the sale of Railcar Ltd., a subsidiary included in the
Rail Services segment. In March 2003, the Company signed a letter of intent
to sell the majority of Railcar Ltd. assets to The Andersons, Inc., and the
transaction closed in February 2004. Proceeds from the sale were
approximately $82 million before transaction costs and taxes of
approximately $13 million. The assets of Railcar Ltd. were grouped as
assets held for sale and are included in other current assets on the
Consolidated Balance Sheets at June 30, 2004 and December 31, 2003. The
assets were recorded at approximately $6 million and $75 million at June
30, 2004 and December 31, 2003, respectively, which reflects the Company's
estimates of the fair value expected to be realized from the sale of these
assets less costs to sell. In July 2004, the Company sold the remaining
assets classified as held for sale to a third-party for net proceeds of $6
million.
C. NCNG Divestiture
In October 2002, the Company announced the Board of Directors' approval to
sell North Carolina Natural Gas Corporation (NCNG) and the Company's equity
investment in Eastern North Carolina Natural Gas Company (ENCNG) to
Piedmont Natural Gas Company, Inc. On September 30, 2003, the Company
completed the sale. The 2003 net income of these operations is reported as
discontinued operations in the Consolidated Statements of Income. Interest
expense of $3 million and $7 million for the three and six months ended
June 30, 2003, respectively, has been allocated to discontinued operations
based on the net assets of NCNG, assuming a uniform debt-to-equity ratio
across the Company's operations. Results of discontinued operations were as
follows:
(in millions) Three Months Ended Six Months Ended
June 30, 2003 June 30, 2003
-------------------------------------------
Revenues $ 71 $ 225
===================== ====================
Earnings before income taxes $ 4 $ 23
Income tax expense 1 9
--------------------- --------------------
Net earnings from discontinued operations $ 3 $ 14
===================== ====================
12
During the three months ended June 30, 2004, the Company recorded an
additional gain after taxes of approximately $1 million related to deferred
taxes on the loss from the NCNG sale.
4. REGULATORY MATTERS
A. Retail Rate Matters
PEC has exclusively utilized external funding for its decommissioning
liability since 1994. Prior to 1994, PEC retained funds internally to meet
its decommissioning liability. A North Carolina Utilities Commission (NCUC)
order issued in February 2004 found that by January 1, 2008, PEC must begin
transitioning these amounts to external funds. The transition of $131
million must be completed by December 31, 2017, and at least 10% must be
transitioned each year.
PEC filed with the Public Service Commission of South Carolina (SCPSC)
seeking permission to defer expenses incurred from the first quarter 2004
winter storm. The SCPSC approved PEC's request to defer the costs and
amortize them ratably over five years beginning in January 2005.
Approximately $10 million related to storm costs incurred during the first
quarter of 2004 was deferred in that quarter.
During the first quarter of 2004, PEC met the requirements of both the NCUC
and the SCPSC for the implementation of a depreciation study which allowed
the utility to reduce the rates used to calculate depreciation expense. As
a result, depreciation expense decreased $10 million for the three months
ended June 30, 2004 compared to the prior year quarter and decreased $18
million for the six months ended June 30, 2004 compared to the prior year
six month period.
On June 29, 2004, the FPSC approved a Stipulation and Settlement Agreement,
executed on April 29, 2004, by PEF, the Office of Public Counsel and the
Florida Industrial Power Users Group. The stipulation and settlement
resolved the issue pending before the FPSC regarding the costs PEF will be
allowed to recover through its Fuel and Purchased Power Cost Recovery
clause in 2004 and beyond for waterborne coal deliveries by the Company's
affiliated coal supplier, Progress Fuels Corporation. The settlement sets
fixed per ton prices based on point of origin for all waterborne coal
deliveries in 2004, and establishes a market-based pricing methodology for
determining recoverable waterborne coal transportation costs through a
competitive solicitation process or market price proxies beginning in 2005
and thereafter. The settlement reduces the amount that PEF will charge to
the Fuel and Purchased Power Cost Recovery clause for waterborne
transportation by approximately $13 million beginning in 2004. This
concludes the FPSC's investigation of PEF's recoverable waterborne coal
transportation costs.
B. Regional Transmission Organizations
In 2000, the Federal Energy Regulatory Commission (FERC) issued Order 2000
regarding regional transmission organizations (RTOs). This Order set
minimum characteristics and functions that RTOs must meet, including
independent transmission service. In July 2002, the FERC issued its Notice
of Proposed Rulemaking in Docket No. RM01-12-000, Remedying Undue
Discrimination through Open Access Transmission Service and Standard
Electricity Market Design (SMD NOPR). If adopted as proposed, the rules set
forth in the SMD NOPR would materially alter the manner in which
transmission and generation services are provided and paid for. In April
2003, the FERC released a White Paper on the Wholesale Market Platform. The
White Paper provides an overview of what the FERC currently intends to
include in a final rule in the SMD NOPR docket. The White Paper retains the
fundamental and most protested aspects of SMD NOPR, including mandatory
RTOs and the FERC's assertion of jurisdiction over certain aspects of
retail service. The FERC has not yet issued a final rule on SMD NOPR. The
Company cannot predict the outcome of these matters or the effect that they
may have on the GridSouth and GridFlorida proceedings currently ongoing
before the FERC. It is unknown what impact the future proceedings will have
on the Company's earnings, revenues or prices.
The Company has $33 million and $4 million invested in GridSouth and
GridFlorida, respectively, related to startup costs at June 30, 2004. The
Company expects to recover these startup costs in conjunction with the
GridSouth and GridFlorida original structures or in conjunction with any
alternate combined transmission structures that emerge.
13
C. Implementation of SFAS No. 143
In connection with the implementation of SFAS No. 143 in 2003, PEC filed a
request with the NCUC requesting deferral of the difference between expense
pursuant to SFAS No. 143 and expense as previously determined by the NCUC.
The NCUC granted the deferral of the January 1, 2003 cumulative adjustment.
Because the clean air legislation discussed in Note 10 under "Air Quality"
contained a prohibition against cost deferrals unless certain criteria are
met, the NCUC denied the deferral of the ongoing effects. Since the NCUC
order denied deferral of the ongoing effects, PEC ceased deferral of the
ongoing effects during the second quarter for the six months ended June 30,
2003 related to its North Carolina retail jurisdiction. Pre-tax income for
the three and six months ended June 30, 2003 increased by approximately $14
million, which represents a decrease in non-ARO cost of removal expense,
partially offset by an increase in decommissioning expense. The Company
provided additional information to the NCUC that demonstrated that deferral
of the ongoing effects should also be allowed. In August of 2003, the NCUC
revised its decision and approved the deferral of the ongoing effects of
SFAS No. 143 at which time the $14 million was reversed.
D. FERC Market Power Mitigation
A FERC order issued in November 2001 on certain unaffiliated utilities'
triennial market based wholesale power rate authorization updates required
certain mitigation actions that those utilities would need to take for
sales/purchases within their control areas and required those utilities to
post information on their websites regarding their power systems' status.
As a result of a request for rehearing filed by certain market
participants, FERC issued an order delaying the effective date of the
mitigation plan until after a planned technical conference on market power
determination. In December 2003, the FERC issued a staff paper discussing
alternatives and held a technical conference in January 2004. In April
2004, the FERC issued two orders concerning utilities' ability to sell
wholesale electricity at market based rates. In the first order, the FERC
adopted two new interim screens for assessing potential generation market
power of applicants for wholesale market based rates, and described
additional analyses and mitigation measures that could be presented if an
applicant does not pass one of these interim screens. In July 2004, the
FERC issued an order on rehearing affirming its conclusions in the April
order. In the second order, the FERC initiated a rulemaking to consider
whether the FERC's current methodology for determining whether a public
utility should be allowed to sell wholesale electricity at market-based
rates should be modified in any way. Management is unable to predict the
outcome of these actions by the FERC or their effect on future results of
operations and cash flows. However, the Company does not anticipate that
the current operations of PEC or PEF would be impacted materially if they
were unable to sell power at market-based rates in their respective control
areas.
5. GOODWILL AND OTHER INTANGIBLE ASSETS
The Company performed the annual goodwill impairment test in accordance
with FASB Statement No. 142, Goodwill and Other Intangible Assets, for the
CCO segment in the first quarter of 2004, and the annual goodwill
impairment test for the PEC Electric and PEF segments in the second quarter
of 2004, each of which indicated no impairment. The first annual impairment
test for the Other segment will be performed in the fourth quarter 2004,
since the goodwill was acquired in 2003.
The changes in the carrying amount of goodwill for the periods ended June
30, 2004 and December 31, 2003, by reportable segment, are as follows:
(in millions) PEC Electric PEF CCO Other Total
-----------------------------------------------------------
Balance as of January 1, 2003 $ 1,922 $ 1,733 $ 64 $ - $ 3,719
Acquisitions - - - 7 7
-----------------------------------------------------------
Balance as of December 31, 2003 $ 1,922 $ 1,733 $ 64 $ 7 $ 3,726
Purchase accounting adjustment - - - 4 4
-----------------------------------------------------------
Balance as of June 30, 2004 $ 1,922 $ 1,733 $ 64 $ 11 $ 3,730
===========================================================
14
The gross carrying amount and accumulated amortization of the Company's
intangible assets at June 30, 2004 and December 31, 2003, are as follows:
June 30, 2004 December 31, 2003
----------------------------------- -------------------------------
(in millions) Gross Gross
Carrying Accumulated Carrying Accumulated
Amount Amortization Amount Amortization
--------------- ----------------- -------------- ----------------
Synthetic fuel intangibles $ 134 $ (71) $ 140 $ (64)
Power agreements acquired 221 (29) 221 (20)
Other 64 (13) 62 (12)
--------------- ----------------- -------------- ----------------
Total $ 419 $ (113) $ 423 $ (96)
=============== ================= ============== ================
In June 2004, the Company sold, in two transactions, a combined 49.8
percent partnership interest in Colona Synfuel Limited Partnership, LLLP,
one of its synthetic fuel operations. Approximately $6 million in synthetic
fuel intangibles and $4 million in related accumulated amortization were
included in the sale of the partnership interest.
All of the Company's intangibles are subject to amortization. Synthetic
fuel intangibles represent intangibles for synthetic fuel technology. These
intangibles are being amortized on a straight-line basis until the
expiration of tax credits under Section 29 of the Internal Revenue Code
(Section 29) in December 2007. The intangibles related to power agreements
acquired are being amortized based on the economic benefits of the
contracts. Other intangibles are primarily acquired customer contracts and
permits that are amortized over their respective lives.
Amortization expense recorded on intangible assets for the three months
ended June 30, 2004 and 2003 was $12 million and $9 million, respectively.
Amortization expense recorded on intangible assets for the six months ended
June 30, 2004 and 2003 was $21 million and $16 million, respectively. The
estimated annual amortization expense for intangible assets for 2004
through 2008, in millions, is approximately $41, $34, $35, $35 and $17,
respectively.
6. EQUITY
A. Earnings Per Common Share
A reconciliation of the weighted-average number of common shares
outstanding for basic and dilutive earnings per share purposes is as
follows:
(in millions) Three Months Ended Six Months Ended
June 30 June 30
------------------------- -----------------------
2004 2003 2004 2003
----------- ---------- ---------- --------
Weighted-average common shares - basic 242 236 242 235
Restricted stock awards 1 1 1 1
----------- ---------- ---------- --------
Weighted-average shares - fully dilutive 243 237 243 236
----------- ---------- ---------- --------
B. Comprehensive Income
Comprehensive income for the three months ended June 30, 2004 and 2003 was
$159 million and $154 million, respectively. Comprehensive income for the
six months ended June 30, 2004 and 2003 was $256 million and $373 million,
respectively. Changes in other comprehensive income for the periods
consisted primarily of changes in the fair value of derivatives used to
hedge cash flows related to interest on long-term debt and gas sales.
7. FINANCING ACTIVITIES
Progress Energy took advantage of favorable market conditions and entered
into a new $1.1 billion five year line of credit, effective August 5, 2004,
and expiring August 4, 2009. This facility replaces Progress Energy's $250
million 364 day line of credit and its three year $450 million line of
credit, which were set to expire in November 2004.
15
On July 28, 2004, PEC extended its $165 million 364-day line of credit,
which was to expire on July 29, 2004. The line of credit will expire on
July 27, 2005.
On April 30, 2004, PEC redeemed $34.7 million of Darlington County 6.6%
Series Pollution Control Bonds at 102.5% of par, $1.795 million of New
Hanover County 6.3% Series Pollution Control Bonds at 101.5% of par, and
$2.58 million of Chatham County 6.3% Series Pollution Control Bonds at
101.5% of par with cash from operations.
On March 1, 2004, Progress Energy used available cash and proceeds from the
issuance of commercial paper to pay at maturity $500 million 6.55% senior
unsecured notes. Cash and commercial paper capacity for this retirement was
created primarily from proceeds of the sale of assets and early long-term
debt financings in 2003.
On February 9, 2004, Progress Capital Holdings, Inc. paid at maturity $25
million 6.48% medium term notes with excess cash.
On January 15, 2004, PEC paid at maturity $150 million 5.875% First
Mortgage Bonds with commercial paper proceeds. On April 15, 2004, PEC also
paid at maturity $150 million 7.875% First Mortgage Bonds with commercial
paper proceeds and cash from operations.
For the three months ended June 30, 2004, the Company issued approximately
0.6 million shares of its common stock for approximately $29 million in
proceeds from its Investor Plus Stock Purchase Plan and its employee
benefit plans. For the six months ended June 30, 2004, the Company issued
approximately 1.3 million shares of its common stock for approximately $58
million in proceeds from its Investor Plus Stock Purchase Plan and its
employee benefit plans. For the six months ended June 30, 2004 and 2003,
the dividends paid on common stock were approximately $280 million and $268
million, respectively.
8. BENEFIT PLANS
The Company and some of its subsidiaries have a non-contributory defined
benefit retirement (pension) plan for substantially all full-time
employees. The Company also has supplementary defined benefit pension plans
that provide benefits to higher-level employees. In addition to pension
benefits, the Company and some of its subsidiaries provide contributory
other postretirement benefits (OPEB), including certain health care and
life insurance benefits, for retired employees who meet specified criteria.
The components of the net periodic benefit cost for the three and six
months ended June 30 are:
Three Months Ended June 30 Other Postretirement
Pension Benefits Benefits
--------------------- ----------------------
(in millions) 2004 2003 2004 2003
--------------------- ----------------------
Service cost $ 13 $ 13 $ 4 $ 3
Interest cost 28 27 8 8
Expected return on plan assets (37) (36) (1) (1)
Amortization of actuarial (gain) loss 5 5 1 1
Other amortization, net - - 1 1
--------------------- ----------------------
Net periodic cost $ 9 $ 9 $ 13 $ 12
Additional cost / (benefit) recognition (a) (4) (4) 1 1
--------------------- ----------------------
Net periodic cost recognized $ 5 $ 5 $ 14 $ 13
===================== ======================
16
Six Months Ended June 30 Other Postretirement
Pension Benefits Benefits
---------------------- -----------------------
(in millions) 2004 2003 2004 2003
---------------------- -----------------------
Service cost $ 27 $ 26 $ 8 $ 7
Interest cost 55 54 17 15
Expected return on plan assets (75) (72) (2) (2)
Amortization of actuarial (gain) loss 11 9 2 2
Other amortization, net - - 1 2
---------------------- -----------------------
Net periodic cost $ 18 $ 17 $ 26 $ 24
Additional cost / (benefit) recognition (a) (8) (7) 1 1
---------------------- -----------------------
Net periodic cost recognized $ 10 $ 10 $ 27 $ 25
====================== =======================
(a) Due to the acquisition of FPC. See Note 16B of Progress Energy's
Form 10-K for year ended December 31, 2003.
9. RISK MANAGEMENT ACTIVITIES AND DERIVATIVE TRANSACTIONS
Progress Energy and its subsidiaries are exposed to various risks related
to changes in market conditions. The Company has a risk management
committee that includes senior executives from various business groups. The
risk management committee is responsible for administering risk management
policies and monitoring compliance with those policies by all subsidiaries.
Under its risk management policy, the Company may use a variety of
instruments, including swaps, options and forward contracts, to manage
exposure to fluctuations in commodity prices and interest rates. Such
instruments contain credit risk if the counterparty fails to perform under
the contract. The Company minimizes such risk by performing credit reviews
using, among other things, publicly available credit ratings of such
counterparties. Potential nonperformance by counterparties is not expected
to have a material effect on the consolidated financial position or
consolidated results of operations of the Company.
Progress Energy uses interest rate derivative instruments to adjust the
fixed and variable rate debt components of its debt portfolio and to hedge
interest rates with regard to future fixed rate debt issuances.
As of June 30, 2004, Progress Energy had $1 billion of fixed rate debt
swapped to floating rate debt by executing interest rate derivative
agreements. Under terms of these swap rate agreements, Progress Energy will
receive a fixed rate and pay a floating rate based on 3-month LIBOR. These
agreements expire between March 2006 and March 2011. During the year,
Progress Energy has entered into $350 million notional of open interest
rate fair value hedges. In March 2004, two interest rate swap agreements
totaling $200 million were terminated. These swaps were associated with
Progress Energy 5.85% Notes due in 2008. The loss on the agreements was
deferred and is being amortized over the life of the bonds as these
agreements had been designated as fair value hedges for accounting
purposes.
As of June 30, 2004, PEC had $70 million notional of pay fixed forward
starting swaps, entered into in March 2004, to hedge its exposure to
interest rates with regard to a future issuance of debt and $26 million
notional of pay fixed forward starting swaps, entered into in April 2004,
to hedge its exposure to interest rates with regard to an upcoming railcar
lease. In July 2004, PEC entered into an additional $30 million notional
pay fixed forward swap related the future issuance of debt, increasing the
total notional of pay fixed forward starting swaps to $126 million. These
agreements have a computational period of ten years.
In May 2004, the Company terminated interest rate cash flow hedges, with a
total notional amount of $400 million, related to projected outstanding
balances of commercial paper. Amounts in accumulated other comprehensive
income related to these terminated hedges will be reclassified to earnings
as the hedged interest payments occur.
The Company holds interest rate collars with a varying notional amount
(currently at the maximum of $195 million) to hedge floating rate exposure
associated with variable rate long-term debt at Progress Ventures. The
Company is required to hedge 50% of the amount outstanding under its bank
facility through March 2007.
17
The notional amounts of interest rate derivatives are not exchanged and do
not represent exposure to credit loss. In the event of default by a
counterparty, the risk in the transaction is the cost of replacing the
agreements at current market rates. Progress Energy only enters into
interest rate derivative agreements with banks with credit ratings of
single A or better.
PEF has entered into derivative instruments to hedge its exposure to price
fluctuations on fuel oil purchases. These instruments did not have a
material impact on the Company's consolidated financial position or results
of operations.
Progress Fuels Corporation, through Progress Ventures, Inc. (PVI),
periodically enters into derivative instruments to hedge its exposure to
price fluctuations on natural gas sales. As of June 30, 2004, Progress
Fuels Corporation is hedging exposures to the price variability of portions
of its natural gas production through December 2005. These instruments did
not have a material impact on the Company's consolidated financial position
or results of operations.
Nonhedging derivatives, primarily electricity and natural gas contracts,
are entered into for trading purposes and for economic hedging purposes.
While management believes the economic hedges mitigate exposures to
fluctuations in commodity prices, these instruments are not designated as
hedges for accounting purposes and are monitored consistent with trading
positions.
The Company 's July 2004 forward mark-to-market losses were $7 million for
the first quarter of 2004 and $3 million for the second quarter of 2004 .
These mark-to-market losses are reflected in diversified business revenues
and were related to an agreement to provide energy needed to fulfill a
contract obligation and economic hedges used to mitigate exposures to
fluctuations in commodity prices.
10. FINANCIAL INFORMATION BY BUSINESS SEGMENT
The Company currently provides services through the following business
segments: PEC Electric, PEF, Fuels, CCO, Rail Services and Other.
PEC Electric and PEF are primarily engaged in the generation, transmission,
distribution and sale of electric energy in portions of North Carolina,
South Carolina and Florida. These electric operations are subject to the
rules and regulations of the FERC, the NCUC, the SCPSC, the FPSC and the
United States Nuclear Regulatory Commission (NRC). These electric
operations also distribute and sell electricity to other utilities,
primarily on the east coast of the United States.
Fuels' operations, which are located throughout the United States, are
involved in natural gas drilling and production, coal terminal services,
coal mining, synthetic fuel production, fuel transportation and delivery.
CCO's operations, which are located in the southeastern United States,
include nonregulated electric generation operations and marketing
activities.
Rail Services' operations include railcar repair, rail parts reconditioning
and sales, and scrap metal recycling. These activities include maintenance
and reconditioning of salvageable scrap components of railcars, locomotive
repair and right-of-way maintenance. Rail Services' operations are located
in the United States, Canada and Mexico.
The Other segment, whose operations are in the United States, is composed
of other nonregulated business areas including telecommunications and
energy service operations and other nonregulated subsidiaries that do not
separately meet the disclosure requirements of SFAS No. 131, "Disclosures
about Segments of an Enterprise and Related Information."
In addition to these reportable operating segments, the Company has other
corporate activities that include holding company operations, service
company operations and eliminations. The profit or loss of the identified
segments plus the loss of Corporate represents the Company's total income
from continuing operations before cumulative effect of change in accounting
principle.
18
Revenues
---------------------------------------
Income from
Continuing
(in millions) Unaffiliated Intersegment Total Operations Assets
------------ ------------ ---------- ------------- -----------
FOR THE THREE MONTHS
ENDED
JUNE 30, 2004
PEC Electric $ 861 $ - $ 861 $ 97 $ 10,711
PEF 860 - 860 84 7,457
Fuels 325 68 393 56 1,156
CCO 72 - 72 5 1,784
Rail Services 285 - 285 4 532
Other 22 1 23 (30) 312
Corporate - (69) (69) (63) 4,283
------------ ------------ ---------- ------------- -----------
Consolidated totals $ 2,425 $ - $ 2,425 $ 153 $ 26,235
------------ ------------ ---------- ------------- -----------
FOR THE THREE MONTHS
ENDED
JUNE 30, 2003
PEC Electric $ 816 $ - $ 816 $ 89
PEF 767 - 767 61
Fuels 206 88 294 58
CCO 33 - 33 2
Rail Services 214 - 214 2
Other 14 3 17 -
Corporate - (91) (91) (58)
------------ ------------ ---------- -------------
Consolidated totals $ 2,050 $ - $ 2,050 $ 154
------------ ------------ ---------- -------------
Revenues
---------------------------------------
Income from
Continuing
(in millions) Unaffiliated Intersegment Total Operations
------------ ------------ ---------- -------------
FOR THE SIX MONTHS
ENDED JUNE 30, 2004
PEC Electric $ 1,762 $ - $ 1,762 $ 213
PEF 1,644 - 1,644 133
Fuels 598 151 749 104
CCO 105 - 105 (3)
Rail Services 523 - 523 9
Other 44 1 45 (31)
Corporate - (152) (152) (164)
------------ ------------ ---------- -------------
Consolidated totals $ 4,676 $ - $ 4,676 $ 261
------------ ------------ ---------- -------------
FOR THE SIX MONTHS
ENDED JUNE 30, 2003
PEC Electric $ 1,742 $ - $ 1,742 $ 223
PEF 1,495 - 1,495 132
Fuels 510 169 679 97
CCO 71 - 71 11
Rail Services 392 - 392 (1)
Other 27 8 35 1
Corporate - (177) (177) (102)
------------ ------------ ---------- -------------
Consolidated totals $ 4,237 $ - $ 4,237 $ 361
------------ ------------ ---------- -------------
11. OTHER INCOME AND OTHER EXPENSE
Other income and expense includes interest income and other income and
expense items as discussed below. The components of other, net as shown on
the accompanying Consolidated Statements of Income are as follows:
19
Three Months Ended Six Months Ended
June 30 June 30
(in millions) 2004 2003 2004 2003
Other income
Net financial trading gain (loss) $ 4 $ (1) $ 5 $ (1)
Nonregulated energy and delivery services income 5 5 11 11
Investment gains 3 - - -
AFUDC equity 2 4 4 6
Other 3 9 8 9
---------- ---------- ---------- ----------
Total other income $ 17 $ 17 $ 28 $ 25
---------- ---------- ---------- ----------
Other expense
Nonregulated energy and delivery services expenses $ 5 $ 5 $ 9 $ 10
Donations 2 3 10 7
Investment losses - 9 - 8
Contingent value obligations unrealized loss 5 2 13 -
Loss from equity investments 1 - 2 3
Write-off of non-trade receivable - - 7 -
Other 4 7 12 12
---------- ---------- ---------- ----------
Total other expense $ 17 $ 26 $ 53 $ 40
---------- ---------- ---------- ----------
Other, net $ - $ (9) $ (25) $ (15)
--------------------------------------------------------------------------------------------------------
Net financial trading gains and losses represent non-asset-backed trades of
electricity and gas. Nonregulated energy and delivery services include
power protection services and mass-market programs such as surge
protection, appliance services and area light sales, and delivery,
transmission and substation work for other utilities.
12. COMMITMENTS AND CONTINGENCIES
Contingencies and significant changes to the commitments discussed in Note
21 of the Company's 2003 Annual Report on Form 10-K are described below.
A. Guarantees
As a part of normal business, Progress Energy and certain subsidiaries
enter into various agreements providing financial or performance assurances
to third parties. Such agreements include guarantees, standby letters of
credit and surety bonds. These agreements are entered into primarily to
support or enhance the creditworthiness otherwise attributed to Progress
Energy and subsidiaries on a stand-alone basis, thereby facilitating the
extension of sufficient credit to accomplish the subsidiaries' intended
commercial purposes. At June 30, 2004, management does not believe
conditions are likely for significant performance under the guarantees of
performance issued by or on behalf of affiliates discussed herein.
Guarantees at June 30, 2004, are summarized in the table below and
discussed more fully in the subsequent paragraphs.
(in millions)
Guarantees issued on behalf of affiliates
Guarantees supporting nonregulated portfolio and energy marketing
activities issued by Progress Energy $ 405
Guarantees supporting nuclear decommissioning 181
Guarantee supporting power supply agreements 457
Standby letters of credit 54
Surety bonds 132
Guarantees supporting nonregulated portfolio and energy marketing
activities issued by subsidiaries of Progress Energy 82
Guarantees issued on behalf of third parties
Other guarantees 24
-----------
Total $ 1,335
===========
20
Guarantees Supporting Nonregulated Portfolio and Energy Marketing
Activities Issued by Progress Energy
Progress Energy has issued approximately $404 million of guarantees on
behalf of Progress Ventures (the business unit) and its subsidiaries for
obligations under tolling agreements, transmission agreements, gas
agreements, construction agreements, fuel procurement agreements and
trading operations. Approximately $19 million and $57 million of these
guarantees were issued during the second three and six months ended June
30, 2004, respectively, to support Fuels and energy-marketing activities.
The majority of the marketing contracts supported by the guarantees contain
provisions that trigger guarantee obligations based on downgrade events,
ratings triggers, monthly netting of exposure and/or payments and offset
provisions in the event of a default. Based upon current business levels at
June 30, 2004, if the Company's ratings were to decline below investment
grade, the Company estimates that it may have to deposit cash or provide
letters of credit or other cash collateral of approximately $115 million
for the benefit of the Company's counterparties to support ongoing
operations within a 90-day period. The remaining $1 million in guarantees
issued by Progress Energy on behalf of affiliates is primarily related to
performance and payments subject to other contingencies.
Guarantees Supporting Nuclear Decommissioning
In 2003, PEC determined that its external funding levels did not fully meet
the nuclear decommissioning financial assurance levels required by the NRC.
Therefore, PEC met the financial assurance requirements by obtaining
guarantees from Progress Energy in the amount of $276 million. On May 12,
2004, PEC sent notice to the NRC informing them that due to the Renewed
Facility Operating License for Robinson 2, the parent guarantee related to
Robinson, would be cancelled as of June 30, 2004. As a result, the total
parent guarantees for decommissioning decreased from $276 million to $181
million during the second quarter.
Guarantees Supporting Power Supply Agreements
In March 2003, PVI entered into a definitive agreement with Williams Energy
Marketing and Trading, a subsidiary of The Williams Companies, Inc., to
acquire a long-term full-requirements power supply agreement at fixed
prices with Jackson County EMC (Jackson). The power supply agreement
included a performance guarantee by Progress Energy. The transaction closed
during the second quarter of 2003. The Company issued a payment and
performance guarantee to Jackson related to the power supply agreement of
$280 million. In the event that Progress Energy's credit ratings fall below
investment grade, Progress Energy may be required to provide additional
security for this guarantee in form and amount (not to exceed $280 million)
acceptable to Jackson.
During the third quarter of 2003, PVI entered into an agreement with Morgan
Stanley Capital Group Inc. (Morgan Stanley) to fulfill Morgan Stanley's
obligations to schedule resources and supply energy to Oglethorpe Power
Corporation of Georgia through March 31, 2005. The Company issued a payment
and performance guarantee to Morgan Stanley related to the power supply
agreement. In the event that Progress Energy's credit ratings fall below
investment grade, Progress Energy estimates that it may have to deposit
cash or provide letters of credit or other cash collateral of approximately
$27 million for the benefit of Morgan Stanley as of June 30, 2004.
In June 2004, PVI entered into a definitive agreement with five electric
cooperatives in Georgia to provide long term full requirements power. The
transaction closed during the second quarter of 2004. The Company issued a
payment and performance guarantee to the cooperatives related to the power
supply agreement totaling $150 million. In the event that Progress Energy's
credit ratings fall below investment grade, Progress Energy would be
required to provide additional security for this guarantee in form and
amount acceptable to the cooperatives. The Company would immediately be
required to deposit cash or provide letters of credit or other cash
collateral up to 50% of the coverage amount of the guarantees issued (for a
maximum of $75 million) in the event of a downgrade. Beyond that
requirement, additional security requirements would be determined based
upon a calculation of mark-to-market exposure, not to exceed $150 million.
21
Standby Letters of Credit
As of June 30, 2004, financial institutions have issued $54 million of
standby letters of credit to financial institutions for the Company for the
benefit of third parties that have extended credit to the Company and
certain subsidiaries. These letters of credit have been issued primarily
for the purpose of supporting payments of trade payables, securing
performance under contracts and lease obligations and self-insurance for
workers' compensation. If a subsidiary does not pay amounts when due under
a covered contract, the counterparty may present its claim for payment to
the financial institution, which will in turn request payment from the
Company. Any amounts owed by the Company's subsidiaries are reflected in
the accompanying Consolidated Balance Sheets.
Surety Bonds
At June 30, 2004, the Company had $132 million in surety bonds purchased
primarily for purposes such as providing workers' compensation coverage,
obtaining licenses, permits, rights-of-way and project performance. To the
extent liabilities are incurred as a result of the activities covered by
the surety bonds, such liabilities are included in the accompanying
Consolidated Balance Sheets.
Guarantees Supporting Nonregulated Portfolio and Energy Marketing
Activities Issued by Subsidiaries of Progress Energy
Subsidiaries of Progress Energy have issued approximately $82 million of
guarantees for obligations under tolling agreements, transmission
agreements, gas agreements, construction agreements, fuel procurement
agreements and trading operations.
Other Guarantees
The Company has other guarantees outstanding of approximately $24 million.
Included in the $24 million are $10 million of guarantees issued on behalf
of third parties, which is in support of synthetic fuel operations at a
third-party plant. The remaining $14 million in affiliate guarantees is
related primarily to prompt performance payments and other payments subject
to contingencies.
In connection with the sale of partnership interests in Colona (see Note
3.A), Progress Fuels indemnified the buyers against any claims related to
Colona resulting from violations of any environmental laws. Although the
terms of the agreement provide for no limitation to the maximum potential
future payments under the indemnification, the Company has estimated that
the maximum total of such payments would be insignificant.
B. Insurance
Both PEC and PEF are insured against public liability for a nuclear
incident up to $10.76 billion per occurrence. Under the current provisions
of the Price Anderson Act, which limits liability for accidents at nuclear
power plants, each company, as an owner of nuclear units, can be assessed a
portion of any third-party liability claims arising from an accident at any
commercial nuclear power plant in the United States. In the event that
public liability claims from an insured nuclear incident exceed $300
million (currently available through commercial insurers), each company
would be subject to assessments of up to $101 million for each reactor
owned per occurrence. Payment of such assessments would be made over time
as necessary to limit the payment in any one year to no more than $10
million per reactor owned. Congress is considering revisions to the Price
Anderson Act during 2004 that could include increased limits and
assessments per reactor owned. The final outcome of this matter cannot be
predicted at this time.
PEC and PEF self-insure their transmission and distribution lines against
loss due to storm damage and other natural disasters. PEF accrues $6
million annually to a storm damage reserve pursuant to a regulatory order
and may defer losses in excess of the reserve.
22
C. Claims and Uncertainties
The Company is subject to federal, state and local regulations addressing
hazardous and solid waste management, air and water quality and other
environmental matters.
Hazardous and Solid Waste Management
Various organic materials associated with the production of manufactured
gas, generally referred to as coal tar, are regulated under federal and
state laws. The principal regulatory agency that is responsible for a
specific former manufactured gas plant (MGP) site depends largely upon the
state in which the site is located. Both electric utilities and other
potentially responsible parties (PRPs) are participating in, investigating
and, if necessary, remediating former MGP sites with several regulatory
agencies, including, but not limited to, the U.S. Environmental Protection
Agency (EPA), the Florida Department of Environmental Protection (FDEP) and
the North Carolina Department of Environment and Natural Resources,
Division of Waste Management (DWM). In addition, the Company and its
subsidiaries are periodically notified by regulators such as the EPA and
various state agencies of their involvement or potential involvement in
sites, other than MGP sites, that may require investigation and/or
remediation. A discussion of these sites by legal entity follows.
PEC, PEF and Progress Fuels Corporation have filed claims with the
Company's general liability insurance carriers to recover costs arising out
of actual or potential environmental liabilities. Some claims have been
settled and others are still pending. While the Company cannot predict the
outcome of these matters, the outcome is not expected to have a material
effect on the consolidated financial position or results of operations.
The Company is also currently in the process of assessing potential costs
and exposures at other environmentally impaired sites. As the assessments
are developed and analyzed, the Company will accrue costs for the sites to
the extent the costs are probable and can be reasonably estimated.
PEC There are nine former MGP sites and other sites associated with PEC
that have required or are anticipated to require investigation and/or
remediation costs. PEC received insurance proceeds to address costs
associated with environmental liabilities related to its involvement with
some sites. All eligible expenses related to these are charged against a
specific fund containing these proceeds. At June 30, 2004, approximately $8
million remains in this centralized fund with a related accrual of $8
million recorded for the associated expenses of environmental issues. PEC
is unable to provide an estimate of the reasonably possible total
remediation costs beyond what is currently accrued due to the fact that
investigations have not been completed at all sites. This accrual has been
recorded on an undiscounted basis. PEC measures its liability for these
sites based on available evidence including its experience in investigating
and remediating environmentally impaired sites. The process often involves
assessing and developing cost-sharing arrangements with other PRPs. PEC
will accrue costs for the sites to the extent its liability is probable and
the costs can be reasonably estimated. Presently, PEC cannot determine the
total costs that may be incurred in connection with the remediation of all
sites.
In September 2003, the Company sold NCNG to Piedmont Natural Gas Company,
Inc. As part of the sales agreement, the Company retained responsibility to
remediate five former NCNG MGP sites, all of which also are associated with
PEC, to state standards pursuant to an Administrative Order on Consent.
These sites are anticipated to have investigation or remediation costs
associated with them. NCNG had previously accrued approximately $2 million
for probable and reasonably estimable remediation costs at these sites.
These accruals have been recorded on an undiscounted basis. At the time of
the sale, the liability for these costs and the related accrual was
transferred to PEC. PEC does not believe it can provide an estimate of the
reasonably possible total remediation costs beyond the accrual because
investigations have not been completed at all sites. Therefore, PEC cannot
currently determine the total costs that may be incurred in connection with
the investigation and/or remediation of all sites.
23
PEF At June 30, 2004, PEF has accrued $27 million for probable and
estimable costs related to various environmental sites. Of this accrual,
$17 million is for costs associated with the remediation of distribution
and substation transformers for which PEF has received approval from the
FPSC for recovery through the Environmental Cost Recovery Clause (ECRC).
For the six months ended June 30, 2004, PEF accrued an additional $8
million related to the remediation of transformers and a regulatory asset
for the probable recovery through the ECRC. The remaining $10 million is
related to two former MGP sites and other sites associated with PEF that
have required or are anticipated to require investigation and/or
remediation costs. PEF is unable to provide an estimate of the reasonably
possible total remediation costs beyond what is currently accrued.
These accruals have been recorded on an undiscounted basis. PEF measures
its liability for these sites based on available evidence including its
experience in investigating and remediating environmentally impaired sites.
This process often includes assessing and developing cost-sharing
arrangements with other PRPs. Presently, PEF cannot determine the total
costs that may be incurred in connection with the remediation of all sites.
As more activity occurs at these sites, PEF will assess the need to adjust
the accruals.
Florida Progress Corporation (FPC) In 2001, FPC sold its Inland Marine
Transportation business operated by MEMCO Barge Line, Inc. to AEP
Resources, Inc. FPC established an accrual to address indemnities and
retained an environmental liability associated with the transaction. FPC
estimates that its contractual liability to AEP Resources, Inc., associated
with Inland Marine Transportation, is $4 million at June 30, 2004 and has
accrued such amount. The previous accrual of $10 million was reduced in
2003 based on a change in estimate. This accrual has been determined on an
undiscounted basis. FPC measures its liability for this site based on
estimable and probable remediation scenarios.
Certain historical sites exist that are being addressed voluntarily by FPC.
An immaterial accrual has been established to address investigation
expenses related to these sites. The Company cannot determine the total
costs that may be incurred in connection with these sites.
Rail Rail Services is voluntarily addressing certain historical waste
sites. The Company cannot determine the total costs that may be incurred in
connection with these sites.
Air Quality
There has been and may be further proposed legislation requiring reductions
in air emissions for NOx, SO2, carbon dioxide and mercury. Some of these
proposals establish nationwide caps and emission rates over an extended
period of time. This national multi-pollutant approach to air pollution
control could involve significant capital costs which could be material to
the Company's consolidated financial position or results of operations.
Control equipment that will be installed on North Carolina fossil
generating facilities as part of the North Carolina legislation discussed
below may address some of the issues outlined above. However, the Company
cannot predict the outcome of this matter.
The EPA is conducting an enforcement initiative related to a number of
coal-fired utility power plants in an effort to determine whether
modifications at those facilities were subject to New Source Review
requirements or New Source Performance Standards under the Clean Air Act.
Both PEC and PEF were asked to provide information to the EPA as part of
this initiative and cooperated in providing the requested information. The
EPA initiated civil enforcement actions against other unaffiliated
utilities as part of this initiative. Some of these actions resulted in
settlement agreements calling for expenditures by these unaffiliated
utilities, ranging from $1.0 billion to $1.4 billion. A utility that was
not subject to a civil enforcement action settled its New Source Review
issues with the EPA for $300 million. These settlement agreements have
generally called for expenditures to be made over extended time periods,
and some of the companies may seek recovery of the related cost through
rate adjustments or similar mechanisms. The Company cannot predict the
outcome of this matter.
24
In 2003, the EPA published a final rule addressing routine equipment
replacement under the New Source Review program. The rule defines routine
equipment replacement and the types of activities that are not subject to
New Source Review requirements or New Source Performance Standards under
the Clean Air Act. The rule was challenged in the Federal Appeals Court and
its implementation stayed. In July 2004, the EPA announced it will
reconsider certain issues arising from the final routine equipment
replacement rule. Reconsideration does not impact the court-approved stay.
The agency plans to issue a final decision on these reconsidered issues by
year end. The Company cannot predict the outcome of this matter.
In 1998, the EPA published a final rule at Section 110 of the Clean Air Act
addressing the regional transport of ozone (NOx SIP Call). The EPA's rule
requires 23 jurisdictions, including North Carolina, South Carolina and
Georgia, but not Florida, to further reduce NOx emissions in order to
attain a preset emission level during each year's "ozone season," beginning
May 31, 2004. The EPA rule allows credit to companies taking early action
to meet the May 31, 2004 deadline. PEC is currently installing controls
necessary to comply with the rule and, with the use of early action
credits, expects to be in compliance as required by the final rule. Total
capital expenditures to meet these measures in North and South Carolina
could reach approximately $370 million, which has not been adjusted for
inflation. The Company has spent approximately $265 million to date related
to these expenditures. Increased operation and maintenance costs relating
to the NOx SIP Call are not expected to be material to the Company's
results of operations. Further controls are anticipated as electricity
demand increases.
In 1997, the EPA issued final regulations establishing a new 8-hour ozone
standard. In 1999, the District of Columbia Circuit Court of Appeals ruled
against the EPA with regard to the federal 8-hour ozone standard. The U.S.
Supreme Court has upheld, in part, the District of Columbia Circuit Court
of Appeals' decision. In April 2004, the EPA identified areas that do not
meet the standard. The states with identified areas, including North and
South Carolina are proceeding with the implementation of the federal 8-hour
ozone standard. Both states promulgated final regulations, which will
require PEC to install NOx controls under the states' 8-hour standard. The
costs of tho