DUK

Business Context and Reporting Period

This Form 10-K covers Duke Energy Corporation for the fiscal year ended December 31, 2006. The reporting period is defined by two major structural events: the April 3, 2006, merger with Cinergy Corp., which combined regulated franchises and deregulated generation in the Midwest, and the January 2, 2007, spin-off of its natural gas businesses into a new entity, Spectra Energy Corp. Consequently, the 2006 financial results reflect the combined operations of Old Duke Energy and Cinergy, while the natural gas segments (Natural Gas Transmission and Field Services) are expected to be reported as discontinued operations in future periods.

Key Financial Metrics

Note: The decrease in EPS despite flat net income is primarily due to the issuance of approximately 313 million shares in connection with the Cinergy merger.

Material Changes Versus Prior Period

• Revenue Decline: Operating revenues decreased by $1,113 million (7%) compared to 2005. This was driven by the deconsolidation of DCP Midstream, LLC (DEFS) effective July 1, 2005, and the deconsolidation of Crescent Resources effective September 7, 2006. These decreases were partially offset by a $3,891 million revenue increase from the Cinergy merger.
• Operating Income: Operating income decreased by $438 million. Key factors included the absence of the $575 million gain on the DEFS disposition transaction recorded in 2005 and $190 million in costs related to the Cinergy merger and the planned natural gas spin-off.
• Discontinued Operations: The company reported a net loss of $156 million from discontinued operations in 2006, a significant improvement from the $701 million loss in 2005. The 2005 loss was heavily impacted by a $550 million non-cash impairment charge related to the exit of former Duke Energy North America (DENA) assets.
• Segment Performance: U.S. Franchised Electric and Gas EBIT increased by $316 million due to the Cinergy acquisition. Conversely, Field Services EBIT dropped significantly due to the deconsolidation of DEFS, shifting its results to equity earnings.

Guidance, Outlook, and Risks

Outlook and Strategy: Post-spin-off, Duke Energy is positioned as a lower-risk business focused on U.S. Franchised Electric and Gas, Commercial Power, International Energy, and the Crescent JV. Management anticipates 2007 earnings to be reduced due to the spin-off but expects growth from a full year of Cinergy Midwest operations and the phase-out of merger-related rate reductions.

Capital Expenditures: The company projects annual capital expenditures of approximately $3.5 billion for 2007–2009 ($10 billion total). Major projects include the Cliffside coal unit in North Carolina (estimated cost ~$3 billion) and an Integrated Gasification Combined Cycle (IGCC) plant in Indiana. Costs for these projects are rising due to inflation in materials and labor.

Key Risks and Contingencies:

• Regulatory Risk: Earnings are dependent on state regulatory commissions approving cost recovery for new generation and environmental compliance. The Ohio Supreme Court remanded the Rate Stabilization Plan (RSP) order in November 2006, creating uncertainty for Ohio operations.
• Environmental Compliance: Significant capital is required for Clean Air Act compliance (SO2 and NOx reductions). Future federal greenhouse gas regulations could impose additional costs.
• Nuclear Operations: Risks include decommissioning costs, spent fuel storage liabilities (DOE contract dispute), and potential safety incidents. The company maintains a $1.775 billion Nuclear Decommissioning Trust Fund.
• Market Risk: Exposure to commodity price fluctuations (coal, natural gas) and foreign currency exchange rates (primarily Brazilian Real) impacts unregulated segments.

Investor Verification Checklist

• Spin-off Impact: Verify the specific allocation of assets, liabilities, and debt transferred to Spectra Energy to understand the standalone balance sheet of the new Duke Energy.
• Ohio RSP Status: Monitor the outcome of the Ohio Supreme Court remand regarding the Rate Stabilization Plan, as this affects revenue certainty for the Midwest operations.
• Capital Project Costs: Track the final approved costs and regulatory recovery mechanisms for the Cliffside and IGCC projects, as cost overruns could impact earnings if not fully recoverable.
• Discontinued Operations: Confirm the final accounting treatment and any remaining liabilities associated with the former DENA and Cinergy trading businesses.
• Dividend Policy: Review the new dividend policy for the post-spin-off entity, as total dividends are expected to be lower than the 2006 level of $1.26 per share.