Eversource 2002 Annual Report Download - page 21

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These unavoidable congestion and RMR costs are part of the prudent
cost of providing regulated electric service in Connecticut. A DPUC
regulatory proceeding is expected to be initiated soon to determine the
appropriate recovery mechanism for these costs. If these costs are
incurred before the final recovery mechanism is established by the
DPUC, CL&P expects to record a regulatory asset for those costs
incurred. See Critical Accounting Policies and Estimates – Regulatory
Accounting and Assets included in management’s discussion and
analysis for further information.
Competitive Energy Subsidiaries: The implementation of SMD in New
England will create challenges and opportunities for Select Energy.
The impact of SMD on its wholesale marketing business could be
significant. The determination of the energy delivery points in many
wholesale marketing contracts and the location of sources of supply
could have a significant effect. As more information regarding the
timing and impact of SMD becomes available, there could be additional
adverse effects that management cannot determine at this time.
Competitive Energy Subsidiaries
Subsidiaries: NU’s competitive energy subsidiaries include HWP and
NUEI, which is the parent company of Select Energy and its subsidiary
Select Energy New York, Inc. (SENY), NGC, SESI, and NGS. Select
Energy engages in wholesale and retail energy marketing activities
and energy trading activities.
NU’s competitive energy subsidiaries own 1,438 MW of generation
capacity, consisting of 1,291 MW at NGC and 147 MW at HWP, which
are used to support Select Energy’s wholesale marketing business.
SESI performs energy management services for large industrial, commercial
and institutional facilities, including the United States Department of
Defense, and engages in energy related construction services. NGS
operates and maintains NGC’s and HWP’s generation assets and provides
third-party electrical, mechanical, and engineering contracting services.
Outlook: NU is taking a number of steps to return the competitive energy
businesses to profitability in 2003 from the loss of $54.1 million in
2002. NU has acquired additional energy services businesses and
expects that after essentially break-even earnings in 2002, they will be
profitable in 2003.
Select Energy engages in energy trading activities primarily for price
discovery and risk management purposes. Select Energy has considerably
reduced its speculative trading activities and the amount of capital at
risk in the trading operation to a daily average of approximately $0.4
million from up to $6 million in early 2002, and projects that the after-tax
loss of approximately $24 million in 2002 will turn into modest profits
in 2003. The 2002 results were negatively impacted by an increase in
natural gas prices during March and April 2002.
Significant contributing factors to the 2002 loss in the retail marketing
business were unprofitable energy contracts and unusually mild weather
which significantly reduced natural gas sales. Many of the unprofitable
contracts expired in 2002. Select Energy plans to size the retail marketing
organization to fit the expected level of business and expects to better
manage volumetric risk, particularly in the winter heating months. As a
result, management expects to break-even in the retail marketing business
in 2003, compared with a loss of approximately $28 million in 2002.
To achieve this result in 2003, Select Energy must obtain new retail
business and successfully manage its portfolio of retail contracts.
In the wholesale marketing business, Select Energy, including NGC
and HWP, expects to be profitable in 2003, compared with essentially
break-even performance in 2002. Select Energy expects significant
improvement to come from improved results on its contract with
CL&P, improved management of power supply contracts, and a return
to normal river conditions around NGC’s conventional hydroelectric
plants. Select Energy expects the CL&P contract to be between
breakeven and a loss of $10 million in 2003 compared to a loss of
$47 million in 2002. Near drought conditions in New England,
particularly in the first three quarters of 2002, lowered pre-tax earnings
by approximately $6 million in 2002. This earnings projection also
assumes that Select Energy will be successful in securing a significant
amount of new business at acceptable margins and managing its
wholesale marketing portfolio. NGC owns 1,291 MW of primarily
hydroelectric generation capacity in Massachusetts and Connecticut
and earned $30.4 million in 2002 and $42.3 million in 2001. HWP owns
a 147 megawatt coal-fired plant in Holyoke, Massachusetts and lost
$0.9 million in 2002 following earnings of $4.4 million in 2001. Select
Energy has wholesale contracts with NGC and HWP to purchase all of
the output of their generation assets. Accordingly, the results of these
companies are included in Select Energy’s wholesale marketing business.
CL&P’s standard offer service purchases from Select Energy represented
approximately $501 million of total competitive energy subsidiaries’
revenues for 2002, compared with approximately $497 million for 2001.
Other transactions between CL&P and Select Energy amounted to
approximately $130 million in revenues for Select Energy for 2002,
compared with approximately $151 million in 2001. These amounts are
eliminated in consolidation.
Additionally, WMECO’s purchases from Select Energy represented
approximately $14 million and $4 million of total competitive energy
subsidiaries’ revenues in 2002 and 2001, respectively.
In 2002, the competitive energy subsidiaries concluded a study of the
depreciable lives of certain generation assets. The impact of this study
was to lengthen the useful lives of those generation assets by 32 years
to an average of 70 remaining years. In addition, the useful lives of certain
software was revised and shortened to reflect a remaining life of 1.5
years. As a result of these studies, NU’s operating expenses decreased
by approximately $5.1 million in 2002 and are expected to decrease by
approximately $9.4 million for 2003.
Competitive Energy Subsidiaries’ Market and Other Risks
Overview: NU’s competitive energy subsidiaries are exposed to certain
market risks inherent in their business activities. Certain competitive
energy subsidiaries, primarily Select Energy, enter into contracts of
varying lengths of time to buy and sell energy commodities, including
electricity, natural gas and oil. Market risk represents the risk of loss
that may impact Select Energy’s financial results due to adverse
changes in commodity market prices.
Risk management within the competitive energy subsidiaries, including
Select Energy, is organized by management to address the market,
credit and operational exposures arising from the company’s primary
business segments including wholesale marketing, retail marketing
and trading. The framework and degree to which these risks are managed
and controlled is consistent with the limitations imposed by NU’s
Board of Trustees as established and communicated in NU’s overall risk
management policies and procedures. As a means to monitor and