Dominion Power 2006 Annual Report Download - page 100

Loans Related to the CDO Entity
Presented below are the significant accounting policies associated
with loans receivable reflected on our balance sheet due to con-
solidation of the CDO entity:
LOANS RECEIVABLE
Loans receivable are recorded at cost and valued at the lowerof
cost or realizable value. Aloan is considered non-performing if it
meets the definition of either a(i)Defaulted Security, or (ii) PIK
Security, where interest has been deferred or paid-in-kind for
three months (or 6months in the case of a security that is only
required to payinterest on a quarterly basis).
In general, a Defaulted Security is: 1) aloan where adefaultas
to the payment of principal and/or interest has occurred and is
continuing, 2) aloan that has a Standard &Poor’s Rating of
“D” or “SD” or has a Moody’sRating of “Ca” or lower;and,
3) a loan that in the reasonable business judgment of the
CDO entity’s collateral manager, is aDefaulted Security.
In general, a PIK Security is aloan with respect towhich the
obligor has the right to defer or capitalize all or aportionof
the interest due on such loan as principal,unless such asset is
required on each payment date to payincash a spread of at
least the LIBOR plus 2.50%.
The CDO entity’s loans receivable balance at December 31, 2006
is summarized as follows:
Performing Non-performing Total
(millions)
Loansreceivable(1) $394 $16 $410
Allowance for loan losses (2) (5) (7)
Loansreceivable, net $392 $11 $403
(1) Current portion: Performing—$28 million; Non-performing—$8 million
The notional value of the non-performing portfolio at
December 31, 2006 was $148 million. During 2006, the CDO
entity recorded a$7million provision forloan losses and recorded
direct write-offs, net of recoveries amounting to $20 million. The
interest income earned in 2006 from cash collections on
non-performing loans was $1 million. There were no loans held
forsale at December 31, 2006.
ALLOWANCE FOR LOAN LOSSES
The allowance forloan losses is a significant estimate that repre-
sents the CDO entity’s estimate of probablelossesinherent in the
loan portfolio and equity investments as determined by the CDO
entity’s collateral manager.
In calculatingtheallowance for loan losses, the CDO entity’s
collateral manager appliesasystematic and consistent approach
that considers among other factors: historical payment experience,
past-due status, current financial information, ability of the debt-
ors to generate cash flows and realizable value of collateral on a
loan by loan basis. Each material non-performing loan and
material equity investment is reviewedon a quarterly basis. A
range of probablelossesis estimated for each loan after which a
probableloss is determined.
Aloan is written off when it is considered fullyuncollectible
and of such little value that its continuance as an asset is not war-
ranted. Aloan or equity investment is alsowritten offif the bor-
rower has ceased operations, the majority of the borrower’s assets
have been liquidated or sold, or the remaining collections of the
loans are speculative and expected to be minimal or highly con-
tingent.
LOAN ORIGINATION FEES AND COSTS
Loan origination fees and costs are deferred and recorded as part
of loans receivable and then amortized over the life of the loan as
an adjustmenttotheyield in interest income.
DEFERRED FINANCING CLOSING
Costs incurred to refinance debt are deferred and amortized over
the life of the notes. All costs associated with any notes that are
paid in full are expensed at the date of the payoff.
Key Economic Assumptions and Sensitivity Analyses
The loans receivable held by the CDO entity are subject tocredit
loss and interest rate risk. Adverse changes of up to 20% in credit
losses and interest rates are estimated in each case to have less than
an $80 million pre-tax impact on future results of operations.
Retained interests in CMOs are subject tocredit loss, prepay-
ment and interest rate risk. Given the declining residual balances
and the lower weighted-average livesdueto the passage of time,
adverse changes of up to 20% in assumed prepayment speeds,
credit losses and interest rates are estimated in each case to have
less than a $2 million pre-tax impact on future results of oper-
ations.
Impairment Losses
The table below presents asummary of asset impairment losses
associated with DCI operations.
Year Ended December 31, 2006 2005 2004
(millions)
Retained interests from CMOsecuritizations(1) $— $25 $46
Retained interests from CDOsecuritizations(1) 85 —13
Venture capital andother equityinvestments(2) 610 26
Total $91 $35 $85
(1) Reflects the result of economic conditions and historically low interest rates
and the resulting impact on credit losses and prepayment speeds. We
recorded impairments of our retained interests from CMO and CDO securitiza-
tions in 2006, 2005 and 2004. We updatedourcredit loss and prepayment
assumptions to reflect our recent experience.
(2) Other impairments were recorded primarily due to asset dispositions.
NOTE 28. OPERATING SEGMENTS
During the fourth quarter of 2004, we performed an evaluation
of our Dominion Clearinghouse (Clearinghouse) tradingand
marketing operations, which resulted in adecision to exit certain
energy trading activities and instead focus on the optimization of
company assets. Beginning in 2005, the financial impact of the
Clearinghouse’s optimization of company assets is reported as part
of the results of the business segments operatingthe related assets,
in order to better reflect the performance of the underlying assets.
As such,activities such as fuel management, hedging, selling the
output of, contracting and optimizing the Dominion Generation
assets are reported in the Dominion Generation segment. Activ-
ities related to corporate-wide commodity risk management that
are not focused on any particular business segment are reported in
the Corporate segment. Aggregation of gas supply and associated
gas tradingand marketing activities, as well as 2004 results of
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