Business Context and Reporting Period
This Form 10-K covers the fiscal year ended December 31, 2002, for MGE Energy, Inc. and its principal subsidiary, Madison Gas and Electric Company (MGE). MGE Energy became the holding company for MGE on August 12, 2002, via a share exchange with no accounting effect on assets or liabilities. The company operates two regulated segments in Wisconsin: Electric operations (generating and distributing electricity to ~130,000 customers) and Gas operations (purchasing and distributing natural gas to ~126,000 customers). MGE Energy's nonutility operations, primarily a cogeneration project for the University of Wisconsin, are currently insignificant.
Key Financial Metrics
| Metric (in thousands, except per share) | 2002 | 2001 |
|---|---|---|
| Total Operating Revenues | $347,096 | $333,711 |
| Operating Income | $58,130 | $48,507 |
| Net Income | $29,193 | $27,245 |
| Earnings Per Share (Basic & Diluted) | $1.69 | $1.62 |
| Cash Provided by Operating Activities | $56,729 | $74,684 |
| Total Assets | $628,895 | $544,074 |
| Long-Term Debt | $192,149 | $157,600 |
| Short-Term Debt | $34,298 | $9,500 |
| Common Shareholders' Equity | $227,370 | $216,292 |
Margins: Operating margin improved to approximately 16.7% in 2002 from 14.5% in 2001. The effective income tax rate increased to 39.1% in 2002 from 36.8% in 2001.
Material Changes vs. Prior Period
- Revenue Growth: Total revenues increased 4.0% to $347.1 million. Electric revenues rose 10.7% driven by a 5.5% increase in retail sales (due to warmer summer temperatures) and rate increases. Gas revenues declined 6.5% despite a 10.2% increase in deliveries, primarily due to lower commodity costs passed through to customers.
- Profitability: Net income increased 7.2% to $29.2 million. Operating income grew 20.0% to $58.1 million, aided by lower operations and maintenance costs following the sale of the Kewaunee nuclear plant interest in 2001.
- Cost Structure: Purchased power expenses surged 143.6% to $44.6 million as MGE purchased 90 MW of capacity to replace generation lost from the Kewaunee sale. Conversely, natural gas purchased costs dropped 14.7% due to lower wellhead prices.
- Capital Structure: Short-term debt increased significantly by $24.8 million to fund capital expenditures, including the West Campus Cogeneration Facility (WCCF). Long-term debt increased by $34.5 million due to new issuances in late 2002.
Guidance, Outlook, and Risks
- Outlook: Management anticipates electric and gas sales growth of 1.0% to 2.0% compounded annually through 2007. Peak demand is expected to grow 3.0% annually. Capital expenditures for 2003 are estimated at $51.6 million.
- Regulatory Environment: The Public Service Commission of Wisconsin (PSCW) authorized a 9.1% electric rate increase and a 5.4% gas rate increase effective March 1, 2003, to cover rising fuel costs and system upgrades. A 2% electric rate surcharge was authorized in late 2002 to recover ATC formation costs.
- Environmental Risks: MGE faces potential capital expenditures for compliance with stricter EPA regulations regarding NOx, mercury, and particulate matter. The company is evaluating emission control options for its Blount and Columbia plants. A Notice of Violation regarding water quality at the Columbia plant was received in February 2003, though management does not anticipate a material adverse effect.
- Project Contingencies: The WCCF project ($180 million estimated cost) requires state and PSCW approvals. Failure to obtain these could result in the write-off of $18.9 million in costs incurred to date. MGE also holds an option to invest $150-$175 million in the "Power the Future" coal plant project, pending regulatory approval.
- Pension Risks: Market declines in 2002 resulted in a significant minimum pension liability adjustment, reducing comprehensive income. The assumed return on plan assets was reduced to 9.0% for 2003.
Investor Verification Checklist
- WCCF Project Status: Verify the timeline and likelihood of PSCW and State of Wisconsin approvals for the West Campus Cogeneration Facility to assess the risk of capital write-offs.
- Environmental Compliance Costs: Monitor EPA and Wisconsin DNR rulings on NOx and mercury emissions to estimate future capital expenditures for the Blount and Columbia plants.
- Rate Case Outcomes: Confirm the implementation and customer acceptance of the March 2003 rate increases to ensure revenue recovery for fuel and infrastructure costs.
- Pension Funding: Track the funded status of pension plans and the impact of the reduced assumed return on assets (9.0%) on future operating expenses.
- Counterparty Risk: Review the financial stability of counterparties in purchased power agreements, as some have experienced liquidity issues.