MGEE

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended September 30, 2002, for MGE Energy, Inc. and its principal subsidiary, Madison Gas and Electric Company (MGE). MGE Energy operates as a holding company formed on August 12, 2002, via a one-for-one share exchange. MGE provides regulated electric and natural gas services in Wisconsin. The financial statements reflect the holding company structure for all periods presented.

Key Financial Metrics (Nine Months Ended Sept. 30, 2002)

Capitalization Ratios (Sept. 30, 2002): Common Equity 55.2%, Short-term Debt 7.9%, Long-term Debt 36.9%.

Material Changes vs. Prior Period

• Profitability: Net income increased 24.1% year-over-year ($25.9M vs. $20.9M), driven by higher operating income despite a slight decline in total revenues.
• Revenues: Electric revenues increased 10.7% due to rate hikes and customer growth, offsetting a 22.8% decline in gas revenues caused by lower natural gas commodity costs and warmer winter weather in early 2002.
• Expenses: Purchased power costs surged $22.7M due to capacity purchases replacing sold nuclear generation. Conversely, fuel costs for electric generation decreased $3.0M, and depreciation dropped $6.7M following the sale of the Kewaunee Nuclear Power Plant interest.
• Cash Flow: Operating cash flow decreased $12.4M, primarily due to working capital changes and lower deferred tax benefits. Investing cash outflows increased significantly ($39.7M) due to higher plant additions ($40M) and the absence of prior-year capital distributions from American Transmission Company (ATC) and the Kewaunee sale.
• Debt Structure: Short-term debt increased $24M to cover a maturing long-term variable rate debt, while long-term debt remained relatively stable.

Guidance, Outlook, and Risks

• Capital Expenditures: MGE anticipates total 2002 capital expenditures of $64.5M. Major projects include an automated meter reading system, distribution upgrades, and emissions control at the Columbia plant.
• Rate Matters: A 6.5% electric and 6.4% gas rate increase request was filed in May 2002; an order is expected by year-end. A $4.5M electric surcharge was authorized effective October 24, 2002, to recover transmission costs.
• Regulatory & Environmental Risks: Potential future costs associated with EPA mercury emission rules and NOx compliance strategies. MGE is evaluating fuel switching and new control devices which may increase capital and operating expenses.
• Contingencies: MGE is a potentially responsible party for the Lenz Oil site and Demetral Landfill cleanup. Estimated future expenses range from $250,000 to $550,000, with $250,000 accrued.
• Market Risk: Exposure to interest rates (managed via swaps), commodity prices (mitigated by pass-through ratemaking), and weather volatility (managed via derivatives).

Investor Verification Checklist

• Rate Case Outcome: Verify the final approval and effective date of the requested 6.5% electric and 6.4% gas rate increases.
• Capital Project Costs: Monitor actual spending against the $64.5M 2002 capital budget, specifically for the West Campus Cogeneration Facility and automated metering.
• Environmental Compliance: Track the finalization of EPA mercury and NOx regulations and the associated capital cost estimates for MGE's Blount and Columbia plants.
• Debt Refinancing: Confirm the terms of the $20M Medium Term Notes issued in October 2002 and future refinancing needs for short-term commercial paper.
• Weather Sensitivity: Assess the impact of weather deviations on gas delivery volumes and electric sales in the upcoming quarters.