MGEE

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended June 30, 2004, for MGE Energy, Inc. (MGE Energy) and its wholly-owned subsidiary, Madison Gas and Electric Company (MGE). MGE Energy is a holding company, while MGE operates as a regulated electric and gas utility serving approximately 132,000 electric and 129,000 gas customers in south-central Wisconsin. The report includes unaudited consolidated financial statements for both entities.

Key Financial Metrics (Six Months Ended June 30, 2004)

Note: Working capital is calculated as Current Assets ($91,619) less Current Liabilities ($103,556).

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 4.5% year-over-year. Electric revenues rose 5.8% due to rate increases and higher retail volumes, while gas revenues increased 1.6% despite a 6.4% drop in deliveries caused by warmer weather (fewer heating degree days).
• Profitability: Net income increased 27.1% to $19.3 million, driven by higher operating income and a reduction in interest expense due to lower variable rates.
• Cost Structure: Fuel costs for electric generation increased 14.9% due to higher internal generation volumes. However, purchased power expenses decreased 8.1% due to lower volumes.
• Capital Projects: Significant capital expenditures were directed toward the West Campus Cogeneration Facility (WCCF), with $29.3 million incurred in the first half of 2004. Construction work in progress increased by $29.4 million compared to year-end 2003.
• Accounting Changes: MGE consolidated MGE Power West Campus (a Variable Interest Entity) effective December 31, 2003, which increased reported assets and liabilities but had no material impact on income for the period.

Guidance, Outlook, and Risks

• Regulatory Matters: MGE filed a request on May 5, 2004, to increase electric rates by 8.5% and decrease gas rates by 1.0%. An order is expected in early 2005. The Public Service Commission of Wisconsin (PSCW) also reopened a docket in July 2004 to determine if a fuel credit is required for 2004; the financial impact is currently unestimable.
• Capital Requirements: MGE Energy anticipates needing additional equity capital in 2004 beyond amounts raised through its Dividend Reinvestment Plan. The company plans to issue debt and equity securities to fund WCCF construction and reduce short-term borrowings.
• Environmental Risks: The company faces potential costs related to new EPA regulations (Clean Air Interstate Rule, Mercury Reduction Rule) and state-level ozone standards. A settlement regarding water quality violations at the Columbia plant (in which MGE owns a 22% share) was reached for $150,000.
• Project Risks: The WCCF project carries risks regarding construction delays and liquidated damages. MGE Energy guarantees the obligations of the EPC contractor.
• Market Risks: The company is exposed to commodity price fluctuations (gas, coal, oil) and weather variability, though these are partially mitigated by regulatory pass-through mechanisms and risk management policies.

Investor Verification Checklist

• WCCF Construction Status: Verify the timeline and cost adherence for the West Campus Cogeneration Facility, given the $185 million total estimated cost and the risk of liquidated damages.
• Regulatory Rate Orders: Monitor the outcome of the May 2004 rate case filing and the July 2004 fuel credit proceeding, as these directly impact future revenue streams.
• Environmental Compliance Costs: Assess the potential capital impact of pending EPA rules (NOx, SO2, Mercury) on the Blount and Columbia generating units.
• Liquidity Position: Review the company's ability to refinance its $33.9 million in short-term debt and the $11.9 million working capital deficit as planned.
• Power the Future Option: Track the decision timeline (mid-2005) regarding the option to acquire an 8.33% interest in WE Energies' coal-fired plants, which could require an estimated $183 million in capital.