APS 2012 Annual Report Download - page 116

PINNACLE WEST CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
91
The use of models and other valuation methods to determine fair market value often requires
subjective and complex judgment. Actual results could differ from the results estimated through
application of these methods.
See Note 14 for additional information about fair value measurements.
Derivative Accounting
We are exposed to the impact of market fluctuations in the commodity price and transportation
costs of electricity, natural gas, coal, emission allowances and in interest rates. We manage risks
associated with market volatility by utilizing various physical and financial instruments including
futures, forwards, options and swaps. As part of our overall risk management program, we may use
derivative instruments to hedge purchases and sales of electricity and fuels. The changes in market
value of such contracts have a high correlation to price changes in the hedged transactions. We also
enter into derivative instruments for economic hedging purposes. Contracts that have the same terms
(quantities, delivery points and delivery periods) and for which power does not flow are netted, which
reduces both revenues and fuel and purchased power expenses in our Consolidated Statements of
Income, but does not impact our financial condition, net income or cash flows.
We account for our derivative contracts in accordance with derivatives and hedging guidance,
which requires all derivatives not qualifying for a scope exception to be measured at fair value on the
balance sheet as either assets or liabilities. Transactions with counterparties that have master netting
arrangements are reported net on the balance sheet. See Note 18 for additional information about our
derivative instruments.
Loss Contingencies and Environmental Liabilities
Pinnacle West and APS are involved in certain legal and environmental matters that arise in the
normal course of business. Contingent losses and environmental liabilities are recorded when it is
determined that it is probable that a loss has occurred and the amount of the loss can be reasonably
estimated. When a range of the probable loss exists and no amount within the range is a better estimate
than any other amount, Pinnacle West and APS record a loss contingency at the minimum amount in the
range. Unless otherwise required by GAAP, legal fees are expensed as incurred.
Retirement Plans and Other Benefits
Pinnacle West sponsors a qualified defined benefit and account balance pension plan for the
employees of Pinnacle West and its subsidiaries. We also sponsor another postretirement benefit plan
for the employees of Pinnacle West and our subsidiaries that provide medical and life insurance benefits
to retired employees. Pension and other postretirement benefit expense are determined by actuarial
valuations, based on assumptions that are evaluated annually. See Note 8 for additional information on
pension and other postretirement benefits.
Nuclear Fuel
APS amortizes nuclear fuel by using the unit-of-production method. The unit-of-production
method is based on actual physical usage. APS divides the cost of the fuel by the estimated number of
thermal units it expects to produce with that fuel. APS then multiplies that rate by the number of