-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, QBt7glr6J4kDnQU64flbveaV+APXW6z4+hAUk8mDFS4MszzI2xfD92gO6hul4j5H dxXFM0AWWg0ouInNv+R/aw== 0000912057-96-006054.txt : 19960408 0000912057-96-006054.hdr.sgml : 19960408 ACCESSION NUMBER: 0000912057-96-006054 CONFORMED SUBMISSION TYPE: U-1 PUBLIC DOCUMENT COUNT: 5 FILED AS OF DATE: 19960405 SROS: CSX SROS: NYSE SROS: PSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: WISCONSIN ENERGY CORP CENTRAL INDEX KEY: 0000783325 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRIC & OTHER SERVICES COMBINED [4931] IRS NUMBER: 391391525 STATE OF INCORPORATION: WI FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: U-1 SEC ACT: 1935 Act SEC FILE NUMBER: 070-08833 FILM NUMBER: 96544752 BUSINESS ADDRESS: STREET 1: 231 W MICHIGAN ST CITY: MILWAUKEE STATE: WI ZIP: 53201 BUSINESS PHONE: 4142212345 MAIL ADDRESS: STREET 1: PO BOX 2949 CITY: MILWAUKEE STATE: WI ZIP: 53201 U-1 1 U-1 As filed with the Securities and Exchange Commission on April 5, 1996 File No. 70- --------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------------------------------------------------------- FORM U-1 APPLICATION-DECLARATION UNDER THE PUBLIC UTILITY HOLDING COMPANY ACT OF 1935 ----------------------------------------------------------------- Northern States Power Company 414 Nicollet Mall Minneapolis, Minnesota 55401 Wisconsin Energy Corporation 231 West Michigan Street Milwaukee, Wisconsin 53203 (Name of companies filing this statement and address of principal executive offices) None (Name of top registered holding company parent to be Primergy Corporation) James J. Howard Richard A. Abdoo Chairman of the Board, President and Chairman of the Board, President and Chief Executive Officer Chief Executive Officer Northern States Power Company Wisconsin Energy Corporation 414 Nicollet Mall 231 West Michigan Street Minneapolis, Minnesota 55401 Milwaukee, Wisconsin 53203 (Name and addresses of agents for service) The Commission is requested to send copies of all notices, orders and communications in connection with this Application-Declaration to: Gary R. Johnson Walter T. Woelfle Vice President, General Counsel Director, Legal Services Department and Secretary Wisconsin Electric Power Company Northern States Power Company 231 West Michigan Street 414 Nicollet Mall Milwaukee, Wisconsin 53203 Minneapolis, Minnesota 55401 Peter D. Clarke Gary W. Wolf Gardner, Carton & Douglas Cahill Gordon & Reindel 321 North Clark Street 80 Pine Street Suite 3400 New York, New York 10005 Chicago, Illinois 60610G TABLE OF CONTENTS Item 1. Description of Proposed Transaction . . . . . . . . . . . . . . . .1 A. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . .1 1. General Request . . . . . . . . . . . . . . . . . . . . . . . .2 2. Overview of the Transaction . . . . . . . . . . . . . . . . . .3 B. Description of the Parties to the Transaction. . . . . . . . . . . .4 1. General Description . . . . . . . . . . . . . . . . . . . . . .4 (a) NSP. . . . . . . . . . . . . . . . . . . . . . . . . . . .4 (b) WEC. . . . . . . . . . . . . . . . . . . . . . . . . . . .7 (c) New NSP. . . . . . . . . . . . . . . . . . . . . . . . . 10 (d) WEC Sub. . . . . . . . . . . . . . . . . . . . . . . . . 10 (e) Primergy Services/Additional Services Companies. . . . . 10 (f) Primergy Hold. . . . . . . . . . . . . . . . . . . . . . 11 2. Description of Energy Sales and Facilities. . . . . . . . . . 12 (a) NSP and NSP-W. . . . . . . . . . . . . . . . . . . . . . 12 (i) Energy Sales. . . . . . . . . . . . . . . . . . . 12 (ii) Electric Generating Facilities. . . . . . . . . . 12 (iii) Electric Transmission and Other Facilities. . . . 14 (iv) Fuel Sources. . . . . . . . . . . . . . . . . . . 15 (v) Gas Facilities. . . . . . . . . . . . . . . . . . 15 (b) WEPCO . . . . . . . . . . . . . . . . . . . . . . . . . 16 (i) Energy Sales. . . . . . . . . . . . . . . . . . . 16 (ii) Electric Generating Facilities. . . . . . . . . . 16 (iii) Electric Transmission and Other Facilities. . . . 17 (iv) Fuel Sources. . . . . . . . . . . . . . . . . . . 18 (v) Gas Facilities. . . . . . . . . . . . . . . . . . 18 3. Electric Coordination . . . . . . . . . . . . . . . . . . . . 18 4. Gas Coordination. . . . . . . . . . . . . . . . . . . . . . . 20 5. Non-Utility Interests of NSP, NSP-W and WEC . . . . . . . . . 22 (a) NSP and NSP-W. . . . . . . . . . . . . . . . . . . . . . 22 (b) WEC. . . . . . . . . . . . . . . . . . . . . . . . . . . 25 C. Description of Transaction and Statement as to Consideration . . . 28 1. Background. . . . . . . . . . . . . . . . . . . . . . . . . . 28 2. Merger Agreement. . . . . . . . . . . . . . . . . . . . . . . 31 3. Management of Primergy following the Merger . . . . . . . . . 32 4. Related Agreements. . . . . . . . . . . . . . . . . . . . . . 33 D. Dividend Reinvestment Plan . . . . . . . . . . . . . . . . . . . . 33 1. Dividend Reinvestment Plan. . . . . . . . . . . . . . . . . . 33 (a) Eligibility of Participants and Purposes of the DRIP . . 33 -i- (b) Sources of Common Stock and Use of Proceeds. . . . . . . 34 2. Stock Incentive Plan. . . . . . . . . . . . . . . . . . . . . 34 E. Other NSP and WEC Stock Based Plans/Other Post-Transaction Financings. . . . . . . . . . . . . . . . . . . . 37 Item 2. Fees, Commissions and Expenses . . . . . . . . . . . . . . . . . . 38 Item 3. Applicable Statutory Provisions. . . . . . . . . . . . . . . . . . 39 A. Transaction . . . . . . . . . . . . . . . . . . . . . . . . . 41 1. Section 10(b) . . . . . . . . . . . . . . . . . . . . . . . . 42 (a) Section 10(b)(1) . . . . . . . . . . . . . . . . . . . . 43 (i) Interlocking Relationships. . . . . . . . . . . . 43 (ii) Concentration of Control. . . . . . . . . . . . . 43 (b) Section 10(b)(2) . . . . . . . . . . . . . . . . . . . . 47 (i) Reasonableness of Consideration . . . . . . . . . 47 (ii) Reasonableness of Fees. . . . . . . . . . . . . . 49 (c) Section 10(b)(3) . . . . . . . . . . . . . . . . . . . . 52 2. Section 10(c) . . . . . . . . . . . . . . . . . . . . . . . . 54 (a) Section 10(c)(1) . . . . . . . . . . . . . . . . . . . . 54 (b) Retention of Gas Operations. . . . . . . . . . . . . . . 55 (i) Retention is Appropriate Under Sections 8 and 11 . . . . . . . . . . . . . . . . 57 (ii) Retention is also Appropriate Under Section 11(b)(1). . . . . . . . . . . . . . . . . 62 (c) Retention of Other Businesses. . . . . . . . . . . . . . 70 (d) Section 10 (c)(2). . . . . . . . . . . . . . . . . . . . 87 (i) Efficiencies and Economies. . . . . . . . . . . . 87 (ii) Integrated Public Utility System. . . . . . . . . 90 (a) Electric System . . . . . . . . . . . . . . 90 (b) Gas Utility System. . . . . . . . . . . . . 94 3. Section 10(f) . . . . . . . . . . . . . . . . . . . . . . . . 96 4. Temporary exception to permit the holding of NSP-W as a subsidiary of NSP for a short period of time following the NSP Merger. . . . . . . . . . . . . . . . . . . 97 5. Section 9(a)(1) . . . . . . . . . . . . . . . . . . . . . . . 97 6. Other Applicable Provisions-Sections 6, 7 and 12. . . . . . . 99 B. Intra-system Financing . . . . . . . . . . . . . . . . . . . . . . 99 C. Primergy Services/Additional Services Companies. . . . . . . . . .101 D. Other Services . . . . . . . . . . . . . . . . . . . . . . . . . .108 Item 4. Regulatory Approvals . . . . . . . . . . . . . . . . . . . . . . .109 A. Antitrust . . . . . . . . . . . . . . . . . . . . . . . . . . . .109 B. Federal Power Act . . . . . . . . . . . . . . . . . . . . . . . .109 -ii- C. Natural Gas Act . . . . . . . . . . . . . . . . . . . . . . . . .110 D. Atomic Energy Act. . . . . . . . . . . . . . . . . . . . . . . . .110 E. State Public Utility Regulation. . . . . . . . . . . . . . . . . .111 Item 5. Procedure . . . . . . . . . . . . . . . . . . . . . . . . . . . .111 Item 6. Exhibits and Financial Statements. . . . . . . . . . . . . . . . .111 A. Exhibits . . . . . . . . . . . . . . . . . . . . . . . . . . . . .111 B. Financial Statements . . . . . . . . . . . . . . . . . . . . . . .113 Item 7. Information as to Environmental Effects. . . . . . . . . . . . . .115 ANNEX A - Domestic Operations of NRG ANNEX B - International Operations of NRG ANNEX C - Names of Inactive NRG Subsidiaries ANNEX D - WMIC Investments ANNEX E - WISPARK Investments ANNEX F - WISVEST Investments ANNEX G - WITECH Investments ANNEX H - Affiliate Contracts -iii- Item 1. Description of Proposed Transaction A. Introduction This Application-Declaration seeks approvals relating to the proposed combination of Northern States Power Company, a Minnesota corporation ("NSP"), and Wisconsin Energy Corporation, a Wisconsin corporation ("WEC"), by which WEC will acquire 100% of the issued and outstanding common stock of NSP and by which WEC's public utility subsidiary, Wisconsin Electric Power Company, a Wisconsin corporation ("WEPCO"), will acquire substantially all of the assets of Northern States Power Company, a Wisconsin corporation ("NSP-W") and a public utility subsidiary of NSP (the "Transaction"). Following the consummation of the Transaction, WEC (which will be renamed Primergy Corporation ("Primergy") prior to such time) will register with the Securities and Exchange Commission (the "Commission") as a holding company under the Public Utility Holding Company Act of 1935, as amended (the "Act"). NSP is currently a public-utility company and an exempt holding company under the Act, WEC is an exempt holding company under the Act, and NSP-W and WEPCO are public-utility companies under the Act. The Transaction is expected to produce substantial benefits to the public, investors and consumers and will meet all applicable standards of the Act. Among other things, NSP and WEC believe that the Transaction offers significant strategic and financial benefits to each company and to their respective shareholders, as well as to their employees, customers and the communities in which they do business. These benefits include, among others: (i) Maintenance of competitive rates that will improve Primergy's ability to meet the challenges of the increasingly competitive environment in the utility industry; (ii) Integration of corporate and administrative functions, including the elimination of duplicate positions, limiting capital expenditures for administrative facilities and information systems, and savings in areas such as legal, auditing and consulting fees; (iii) Expanded management resources and ability to select leadership from a larger and more diverse management pool; (iv) Centralized management, supervision, and operation of nuclear generating facilities; (v) Greater purchasing power for items such as fuel and transportation services, and streamlining of inventories; (vi) More efficient pursuit of diversification into non-utility areas; (vii) Increased geographic diversity of service territories, reducing exposure to local changes in economic, competitive, or climatic conditions; and (viii) Continued ability to play a strong role in the economic development efforts of the communities NSP, NSP-W and WEPCO now serve. In this regard, NSP and WEC believe that synergies created by the Transaction will generate substantial cost savings which would not be available absent the Transaction. NSP and WEC have estimated the dollar value of certain synergies from the Transaction to be approximately $2.0 billion over the 10-year period from 1997 to 2006. The expected Transaction benefits are discussed in further detail in Item 3.A.2.d.(i). below. The Transaction has been approved by the shareholders of NSP and WEC. Various aspects of the Transaction are also subject to the approval of: (i) the Federal Energy Regulatory Commission (the "FERC"), (ii) the Nuclear Energy Regulatory Commission (the "NRC"), (iii) the Minnesota Public Utilities Commission ("MPUC"), (iv) the North Dakota Public Service Commission ("NDPSC"), (v) the Public Service Commission of Wisconsin ("PSCW"), (vi) the Michigan Public Service Commission ("MPSC"), (vii) the expiration of the waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended (the "HSR Act") and (viii) the receipt of a private letter ruling from the Internal Revenue Service (the "IRS") providing certain assurances regarding the federal income tax consequences of the Transaction. The requested private letter ruling from the IRS has been obtained. An application for disclaimer of jurisdiction over the transaction has been filed with the South Dakota Public Utilities Commission ("SDPUC") and the SDPUC has issued an order acknowledging that it does not have jurisdiction over the Transaction. FERC approval will also be required to transfer hydroplants from NSP-W to WEPCO and to transfer certificates for liquefied natural gas ("LNG") facilities from NSP-W to WEPCO. In addition, NSP and NSP-W possess various franchises, permits and licenses granted by local and state authorities that may need to be renewed or replaced as a result of the Transaction. Apart from the approval of the Commission under the Act, the foregoing approvals are the only governmental approvals required for the Transaction. In order to permit timely consummation of the Transaction and the realization of the substantial benefits it is expected to produce, the applicants request that the Commission's review of this Application-Declaration commence and proceed as expeditiously as practicable. 1. General Request Pursuant to Sections 9(a) and 10 of the Act, the applicants hereby request authorization and approval of the Commission for Primergy to acquire, by means of the mergers described below, all of the issued and outstanding common stock of NSP and for WEPCO to acquire substantially all of the assets of NSP-W. The applicants also hereby request that the Commission approve (i) the establishment of Primergy Services, Inc. ("Primergy Services") and one or more other service companies as subsidiary service companies (the "Additional Services Companies") in accordance with Rule 88 of the Act and the acquisition by Primergy of all of the outstanding voting securities of Primergy Services and of all Additional Services Companies, (ii) the Service Agreement filed as Exhibit B-4 hereto and the form of Non-Utility Service Agreement filed as Exhibit B-5 hereto as a basis for Primergy Services and the Additional Services Companies to comply with Section 13 of the Act and the Commission's rules thereunder, (iii) the establishment of, and acquisition by Primergy of all the outstanding voting securities of, a new Primergy subsidiary to serve as a holding company for certain of the Primergy system's non-utility -2- interests ("Primergy Hold") or, if Primergy Hold is not formed, the acquisition by Primergy of the direct non-utility subsidiaries of NSP, (iv) the issuance of shares of Primergy common stock ("Primergy Common Stock") in connection with the Transaction, (v) authority through a period ending five years from the date of the Order issued by the Commission approving the matters requested hereby for Primergy to issue (and/or acquire in open-market transactions) up to 18.2 million shares of Primergy Common Stock under a Primergy shareholder dividend reinvestment and stock purchase plan and under the Primergy Stock Incentive Plan, (vi) the retention by Primergy of the gas properties of NSP and WEPCO and the continuation of NSP and WEPCO as combination gas and electric utilities, (vii) the retention by Primergy of the non-utility businesses of NSP and WEC and of the non-utility affiliates of NSP and WEC, (viii) all outstanding intra-system debt and guarantees and (ix) exemption from the at-cost standards of certain transactions. The applicants also request an order under the Act temporarily exempting New NSP from the registration requirements of the Act during the limited period following the NSP Merger (as defined below) that New NSP (as defined below) owns NSP-W. 2. Overview of the Transaction NSP, WEC, New NSP and WEC Sub (as defined below) have entered into an Agreement and Plan of Merger, dated as of April 28, 1995, as amended and restated as of July 26, 1995 (the "Merger Agreement"), which provides for a strategic business combination involving NSP and WEC in a "merger-of-equals" transaction. The Transaction will be accomplished through a three stage process. In the first stage, NSP will reincorporate in Wisconsin by merging into Northern Power Wisconsin Corp., a Wisconsin corporation and a wholly-owned subsidiary of NSP ("New NSP"). Immediately prior to this merger and for state regulatory reasons, NSP-W will transfer the gas utility assets necessary to furnish gas utility services to the communities of LaCrosse and Hudson, Wisconsin to New NSP (the "Designated Gas Utility Assets"). In the second stage, WEC Sub Corp., a wholly-owned subsidiary of WEC ("WEC Sub"), will merge with and into New NSP, with New NSP left as the surviving corporation. In the third stage, NSP-W will merge into WEPCO and ownership of all other NSP subsidiaries will be transferred from NSP to WEC, which, as noted above, will be renamed Primergy. Also in connection with the Transaction, WEPCO will be renamed Wisconsin Energy Company (for purposes of clarity, in this Application such entity will hereinafter be referred to as WEPCO). Upon completion of the Transaction, Primergy will own two combination electric and gas public utility companies: NSP and WEPCO. NSP will continue to own and operate the same utility facilities at the same locations outside Wisconsin as prior to the Transaction, along with the Designated Gas Utility Assets formerly owned by NSP-W. WEPCO will own and operate the same utility facilities at the same locations as prior to the Transaction, along with the balance of the gas utility and all electric assets of NSP-W. See Exhibit E-12 for the resulting corporate structure. New NSP and WEC Sub are shell corporations formed by NSP and WEC to effect the Transaction. Specifically, the Merger Agreement provides for: (i) the merger of NSP with and into New NSP (the "Reincorporation Merger") pursuant to which (a) each issued and outstanding share of common stock, par value $2.50 per share, of NSP ("NSP Common Stock") (except shares held by NSP shareholders who perfect dissenters' rights with respect thereto ("NSP -3- Dissenting Shares")) will be canceled and converted into one share of common stock, par value $2.50 per share, of New NSP ("New NSP Common Stock"), and (b) each issued and outstanding share of cumulative preferred stock, par value $100.00 per share, of NSP ("NSP Preferred Stock") (except NSP Dissenting Shares) will be canceled and converted into one share of cumulative preferred stock, par value $100.00 per share, of New NSP ("New NSP Preferred Stock") with terms (including dividend rates and general voting rights) and designations under New NSP's Articles of Incorporation (the "New NSP Articles") identical to those of the canceled shares of NSP Preferred Stock under NSP's existing Restated Articles of Incorporation (the "NSP Articles"), and (ii) the merger of WEC Sub with and into New NSP (the "NSP Merger," together with the Reincorporation Merger, the "Mergers") pursuant to which (a) each issued and outstanding share of New NSP Common Stock will be canceled and converted into 1.626 (the "Ratio") shares of common stock, par value $.01 per share, of Primergy ("Primergy Common Stock") and (b) each issued and outstanding share of New NSP Preferred Stock will remain outstanding and shall be unchanged thereby (except for any shares of New NSP Common Stock and New NSP Preferred Stock owned directly or indirectly by New NSP or WEC, which will be canceled and will not be converted or remain outstanding). Each issued and outstanding share of common stock, par value $.01 per share, of WEC ("WEC Common Stock") will remain outstanding and unchanged, as one share of Primergy Common Stock. Based upon the capitalization of WEC and NSP on April 28, 1995 (the date the Merger Agreement was initially signed) and the Ratio, holders of WEC Common Stock and NSP Common Stock would each have held 50% of the aggregate number of shares of Primergy Common Stock that would have been outstanding if the Mergers had been consummated as of such date. Following the Mergers and upon consummation of the Transaction, WEC (which, as noted above, will be renamed Primergy Corporation) intends and requests all requisite authorization of the Commission to realign certain non-utility subsidiaries and to establish and acquire all of the capital stock of Primergy Hold which will serve as a holding company and which will acquire the outstanding capital stock of certain of the non-utility subsidiaries of NSP and WEC. See Exhibit E-13 for the resulting corporate structure. Although NSP and WEC currently contemplate the establishment of Primergy Hold, no decision has yet been reached. Therefore, the non-utility subsidiaries of NSP and WEC will be held by Primergy either directly and/or indirectly through Primergy Hold. A copy of the Merger Agreement is incorporated by reference as Exhibit B-1. B. Description of the Parties to the Transaction 1. General Description (a) NSP NSP was incorporated under the laws of the State of Minnesota in 1909. It is a public-utility company and a holding company exempt from regulation by the Commission under the Act (except for Section 9(a)(2) thereof) pursuant to Section 3(a)(2) of the Act and by order of the Commission in Northern States Power Company, Release No. 35-22334 (December 23, 1981). -4- NSP owns all of the outstanding common stock of NSP-W, a Wisconsin corporation, which is a public-utility company under the Act. Maps of the electric and gas service areas of NSP and NSP-W are filed as Exhibits E-4 and E-5. NSP is engaged primarily in the generation, transmission and distribution of electricity throughout a 30,000 square mile service area. NSP also purchases, distributes and sells natural gas to retail customers, and transports customer-owned gas, in approximately 100 communities within this area. NSP provides electric utility service in South Dakota and electric and gas utility service in Minnesota and North Dakota. Of the more than 2.5 million people served by NSP, the majority are concentrated in the Minneapolis-St. Paul metropolitan area. In 1995, more than 60% of the electric retail revenue of NSP was derived from sales in the Minneapolis-St. Paul metropolitan area and more than 55% of its retail gas revenue was derived from sales in the St. Paul metropolitan area. As of December 31, 1995, NSP provided electric utility service to approximately 1,100,000 customers and gas utility service to approximately 330,000 customers. NSP-W is engaged in the generation, transmission, and distribution of electricity to approximately 208,000 retail customers in an area of approximately 18,900 square miles in northwestern Wisconsin, to approximately 9,100 electric retail customers in an area of approximately 300 square miles in the western portion of the Upper Peninsula of Michigan, and to 10 wholesale customers in the same general area. NSP-W purchases, distributes and sells to retail customers or transports customer-owned natural gas, in the same service territory to approximately 68,200 customers in Wisconsin and 4,700 customers in Michigan. In 1995, NSP-W provided approximately 15.1% of NSP's consolidated revenues. The Designated Gas Utility Assets consist of all gas utility assets necessary to provide gas utility service to the communities of LaCrosse, Wisconsin and Hudson, Wisconsin, representing 4.7% of NSP's consolidated gas utility assets and 6.6% of NSP's consolidated gas utility revenues. Retail sales rates, services and other aspects of NSP's retail operations are subject to the jurisdiction of the MPUC, the NDPSC, and the SDPUC within their respective states. The MPUC also possesses regulatory authority over aspects of NSP's financial activities including security issuances, property transfers when the asset value is in excess of $100,000, mergers with other utilities, and transactions between NSP and affiliates. In addition, the MPUC reviews and approves NSP's electric resource and gas supply capacity plans for meeting customers' future energy needs. NSP-W is subject to regulation of similar scope by the PSCW and the MPSC, except that the MPSC does not regulate NSP-W's issuances of securities. In addition, before facilities may be sited and built, a state commission generally must certify the need for new generating plants and transmission lines of designated capacities to be located within such state. Wholesale rates for electric energy sold in interstate commerce, wheeling rates for energy transmission in interstate commerce, and certain other activities of NSP and NSP-W (including its hydro-electric facilities) are subject to the jurisdiction of the FERC. The operation and construction of NSP's Prairie Island and Monticello nuclear facilities are subject to regulation by the NRC. Non-utility businesses conducted directly by NSP consist of: (i) an appliance warranty program for its residential customers, (ii) construction of natural gas distribution systems for -5- third parties (primarily end-users and municipal gas systems), (iii) sale and installation of power quality instruments primarily to protect equipment of customers from electric surges and (iv) sale of steam to Liberty Paper Inc., which is an industrial customer in NSP's service territory. While NSP-W is the only public-utility subsidiary of NSP under the Act, NSP has seven other directly-owned subsidiaries that are engaged in various non- utility businesses. The activities of these subsidiaries are more fully described under Item 1.B.5.a. below. For the year-ended December 31, 1995, approximately 10.2% of NSP's consolidated operating revenues and 12.6% of its consolidated net income were derived from the non-utility businesses. As of December 31, 1995, approximately 10.1% of NSP's consolidated assets were invested in nonutility businesses. NSP Common Stock is listed on the New York Stock Exchange, Inc. ("NYSE") and the Chicago and Pacific Stock Exchanges. As of December 31, 1995, there were 68,175,934 shares of NSP Common Stock and 2,400,000 shares of NSP cumulative preferred stock outstanding. NSP's principal executive office is located at 414 Nicollet Mall, Minneapolis, Minnesota 55401. NSP-W does not have any preferred stock outstanding and all of its common stock is owned by NSP. Copies of the Articles of Incorporation of NSP and NSP-W are incorporated by reference as Exhibit A-1 and Exhibit A-2. On a consolidated basis, NSP's operating revenues for the twelve months ended December 31, 1995, were $3.146 billion, consisting of the following (before intercompany eliminations)(1):
($ in millions) Electric Utility Gas Utility Other ---------------- ----------- ----- NSP $2,020 $336 $19 NSP-W 381 78(2) - Non-Utility Subsidiaries - - 312
Consolidated assets of NSP and its subsidiaries as of December 31, 1995 were approximately $6.229 billion, consisting of $3.681 billion in net electric utility property, plant and equipment ($3.135 billion for NSP and $546 million for NSP-W); $376 million in net gas utility property, - --------------- (1) In the following table, Electric Utility revenues are the revenues derived by NSP and NSP-W from their operations as an "electric utility company" as defined in Section 2(a)(3) under the Act; Gas Utility revenues are the revenues derived by NSP and NSP-W from their operations as a "gas utility company" under Section 2(a)(4) of the Act; and Non-Utility Subsidiaries revenues include all other revenues of consolidated subsidiaries of NSP. These amounts do not conform to NSP's consolidated financial reports, as NSP reports in its consolidated financial statements: (i) the revenues of its wholly-owned regulated natural gas interstate pipeline (Viking Gas Transmission Company) as part of Gas Utility revenues, (ii) the revenues of its other consolidated subsidiaries as part of "Other Income (Deductions)" and (iii) the results of the operations of its non-consolidated subsidiaries under "Equity in Earnings of Unconsolidated Affiliates." (2) For the year ended December 31, 1995 revenues from the Designated Gas Utility Assets were approximately $29 million. -6- plant and equipment ($320 million for NSP and $56 million for NSP-W); and $2.172 billion in other corporate assets. More detailed information concerning NSP and its subsidiaries is contained in NSP's Annual Report on Form 10-K and Annual Report to Shareholders for the year ended December 31, 1995, which are incorporated by reference as Exhibits H- 1 and H-4, respectively, and in NSP-W's Annual Report on Form 10-K for the year ended December 31, 1995, which is incorporated by reference as Exhibit H-6. (b) WEC WEC, incorporated under the laws of the State of Wisconsin in 1981, is a holding company exempt from regulation by the Commission under the Act (except for Section 9(a)(2) of the Act) pursuant to Section 3(a)(1) of the Act and by order of the Commission in Wisconsin Energy Corporation, Release No. 35-24267 (December 18, 1986). As explained above, WEC will change its name to Primergy Corporation prior to the consummation of the Transaction. WEC has one utility subsidiary, WEPCO, which is a public-utility company under the Act. On January 1, 1996, Wisconsin Natural Gas Company ("WNG"), a gas utility company under the Act and a subsidiary of WEC, was merged into WEPCO in accordance with an order from the PSCW dated May 9, 1995 in Docket Nos. 6630- GM100 and 6670-GM100. Accordingly, WEPCO is now a combination electric and gas utility company. Unless the context requires otherwise, references herein to WEPCO are to WEPCO as a combination electric and gas company. A map of the gas and electric service areas of WEPCO is filed as Exhibit E-3. WEPCO is engaged in the business of generating, transmitting, distributing and selling electric energy to approximately 955,616 customers as of December 31, 1995 in a service area of approximately 12,000 square miles with a population estimated at over 2,200,000 in southeastern (including the Milwaukee area), central and northern Wisconsin and in the Upper Peninsula of Michigan. WEPCO also distributes and sells steam supplied by its Valley Power Plant to approximately 473 space heating and processing customers in downtown and near southside Milwaukee as of December 31, 1995. WEPCO also purchases, distributes and sells natural gas to retail customers and transports customer-owned natural gas to approximately 357,030 customers as of December 31, 1995 in three distinct service areas in Wisconsin: west and south of the City of Milwaukee, the Appleton area and the Prairie du Chien area. The gas service territory, which has an estimated population of over 1,100,000, is largely within the electric service area of WEPCO. WEPCO is subject to the regulation of the PSCW as to retail electric, gas and steam rates in Wisconsin, issuance of securities, construction of new facilities, transactions with affiliates, levels of short-term debt obligations, and various other matters. WEPCO is also subject to the regulation of the MPSC as to the various matters associated with retail electric service in Michigan to the same extent that it is regulated by the PSCW as noted above, except as to construction of certain new facilities, issuance of securities, levels of short- term debt obligations and advance approval of transactions with affiliates. Wholesale rates for electric energy sold in -7- interstate commerce, wheeling rates for energy transmission in interstate commerce, hydro-electric facilities, and certain other activities of WEPCO are subject to the jurisdiction of the FERC. The operation of WEPCO's Point Beach nuclear facilities are subject to regulation by the NRC. WEC also owns all of the issued and outstanding common stock of seven corporations and 50% of one limited liability company engaged, directly or indirectly through subsidiaries or affiliates, in non-utility businesses, which are described in more detail in Item 1.B.5.b. below. For the year ended December 31, 1995, approximately one-half of 1% of WEC's consolidated operating revenues were derived from its non-utility businesses. As of December 31, 1995, approximately 5% of WEC's consolidated assets were invested in nonutility businesses. WEC, as a public utility holding company (a "holding company") under the Wisconsin Holding Company Act (the "Wisconsin Act"), is subject to the jurisdiction of, and regulation by, the PSCW. The following is a brief summary of certain provisions of the Wisconsin Act that currently apply to WEC and will apply to Primergy. The PSCW, if it finds the capital of any public utility affiliate will be impaired by payment of a dividend, may order the utility affiliate to limit or cease payment of dividends to the holding company. Various transactions by a public utility affiliate with others in the holding company system are prohibited, including: lending money, guaranteeing obligations, combining advertising, providing utility service on terms different from those for other consumers in the same class, and, without PSCW approval after establishing that the utility affiliate will be paid at fair market value, selling or leasing certain real property and using the services of utility employees. The Wisconsin Act prohibits (i) any public utility affiliate from providing any non- utility product or service in a manner or at a price that unfairly discriminates against any competing provider, (ii) any non-utility activity from being subsidized materially by the customers of any public utility in the system, (iii) the operation of the system in any way which materially impairs any public utility affiliate in the system's credit, ability to acquire capital on reasonable terms, or ability to provide safe, reasonable, reliable and adequate utility service, (iv) any transfer by a public utility affiliate to any other system company of any confidential public utility information, including customer lists, for any non-utility purpose, unless the PSCW has approved the transfer, and (v) any termination of the system's interest in a public utility affiliate without PSCW approval. The Wisconsin Act also limits non-utility diversification, such that, stated generally, the net book value of the assets (other than investment in system affiliates) of all non-utility affiliates may not exceed the sum of 25% of the net book value of all electric utility affiliates and a percentage, to be determined by the PSCW (but not less than 25%), of the net book value of all other public utility affiliates (the PSCW has fixed that percentage at 25% for book value of WEPCO's gas utility business). In order to ensure that Primergy is within the foregoing prescribed limits at the time NSP becomes a subsidiary of Primergy, NSP must first become a Wisconsin corporation owning public utility assets in Wisconsin. It is because of this requirement that NSP will be merged into New NSP pursuant to the Reincorporation Merger and New NSP will acquire the Designated Gas Utility Assets from NSP-W. Further, the Wisconsin Act requires the PSCW to periodically investigate the impact of the operation of every -8- holding company system on every public utility affiliate in the system and to determine whether each non-utility affiliate does, or can reasonably be expected to do, at least one of the following: (a) substantially retain, attract or promote business activity or employment or provide capital to businesses within the service territory of any public utility affiliate or certain other businesses, (b) increase or promote energy conservation or develop, produce or sell renewable energy products or equipment, (c) conduct a business that is functionally related to providing utility service or to developing or acquiring energy resources and (d) develop or operate commercial or industrial parks in the service territory of any public utility affiliate. The PSCW is also authorized to order a holding company to terminate its interest in a public utility affiliate if the PSCW finds that, based upon clear and convincing evidence, termination of the interest is necessary to protect the interests of utility investors in a financially healthy utility and the interests of consumers in reasonably adequate utility service at a just and reasonable price. WEC Common Stock is listed on the NYSE. As of December 31, 1995, there were 110,819,337 shares of WEC Common Stock outstanding. WEC has no shares of preferred stock outstanding. As of December 31, 1995, there were 304,508 shares of WEPCO preferred stock outstanding. WEPCO's outstanding preferred stock will not be impacted by the Mergers. WEC's principal executive office is located at 231 West Michigan Street, Milwaukee, Wisconsin 53203. Copies of the amended Articles of Incorporation of WEC and WEPCO are incorporated by reference as Exhibit A-4 and Exhibit A-5. For the year ended December 31, 1995, WEC's operating revenues on a consolidated basis were approximately $1.779 billion, consisting of the following:
($ in millions) Company Electric Utility Gas Utility Steam Other(3) - ------- ---------------- ----------- ----- ----- WEPCO(4) $1,437 $318 $15 - Non-Utility - - - $9
Consolidated assets of WEC and its subsidiaries as of December 31, 1995, were approximately $4.561 billion, consisting of $3.907 billion in net electric utility property, plant and equipment, $387 million in net gas utility property, plant and equipment, $25 million in net steam utility property, plant and equipment and $242 million in non-utility assets. - --------------- (3) In this table, electric revenues are the revenues derived by WEPCO from its operations as an "electric utility company" as defined in Section 2(a)(3) under the Act; gas revenues are the revenues derived by WEPCO from its operations as a "gas utility company" as defined in Section 2(a)(4) under the Act; steam revenues are revenues derived by WEPCO from its steam operations; and non-utility revenues include all other revenues of WEC and its consolidated subsidiaries. These amounts do not conform to WEC's consolidated financial reports, as WEC reports revenues of its non-utility businesses in its consolidated financial statements as part of "Other Income and Deductions." (4) Reflects the January 1, 1996 merger of WNG, the former wholly-owned gas utility subsidiary of WEC, into WEPCO. -9- More detailed information concerning WEC and WEPCO is contained in the Annual Reports of WEC and WEPCO on Form 10-K for the year ended December 31, 1995, which are incorporated by reference as Exhibits H-2 and H-3, respectively, and in WEC's 1995 Annual Report to Shareholders, which is incorporated by reference as Exhibit H-5. (c) New NSP New NSP was incorporated under the laws of the State of Wisconsin in April 1995 solely for the purpose of facilitating the Transaction. New NSP has, and prior to the consummation of the Transaction will have, no operations other than those contemplated by the Merger Agreement to accomplish the Transaction. The authorized capital stock of New NSP consists of 160 million shares of common stock, par value $2.50 per share, and 7,000,000 shares of Preferred Stock, par value $100 per share. At present, the outstanding common stock of New NSP, which consists of 100 issued and outstanding shares, is owned by NSP. A copy of the Amended Articles of Incorporation of New NSP is attached as Exhibit A-3. Pursuant to the Merger Agreement, prior to the consummation of the Mergers, New NSP or NSP will acquire the Designated Gas Utility Assets from NSP-W to enable compliance with the Wisconsin Act. The New NSP Articles will be amended, effective upon the consummation of the Mergers, to change the name of New NSP to "Northern States Power Company." The principal executive office of New NSP is located at 414 Nicollet Mall, Minneapolis, Minnesota 55401 (d) WEC Sub WEC Sub was incorporated under the laws of the State of Wisconsin on April 26, 1995 solely for the purpose of facilitating the Transaction. The authorized capital stock of WEC Sub consists of 9,000 shares, 8,000 of such shares being designated as Common Stock, $.01 par value per share, (the "WEC Sub Common Stock") and 1,000 of such shares being designated as Preferred Stock, $.01 par value per share. Of its authorized capitalization, 1,000 shares of WEC Sub Common Stock are issued and outstanding, all of which are owned by WEC. WEC Sub has, and prior to the closing of the Transaction will have, no operations other than the activities contemplated by the Merger Agreement necessary to accomplish the merger of WEC Sub into New NSP as described herein. The principal executive office of WEC Sub is located at 231 West Michigan Street, Milwaukee, Wisconsin 53203. (e) Primergy Services/Additional Services Companies Prior to the consummation of the Transaction, Primergy Services will be incorporated in Wisconsin to serve as the service company for the Primergy system after the consummation of the Transaction. Primergy Services will provide NSP and WEPCO, and the other companies of the Primergy system, with a variety of administrative, management and support services. NSP and WEC are currently considering the establishment of two other service companies, which companies, if formed, may provide various operating services for non-nuclear, steam and/or chilled water system or nuclear generating facilities (the "Additional Services Companies"). -10- Such subsidiaries would be known as Primergy Generation Corporation ("Primergy GC") and Primergy Nuclear Corporation ("Primergy NC"). Promptly upon the obtaining of the requisite regulatory authorizations, Primergy GC may undertake responsibility for one or more of the following: the operation, maintenance, repair and rehabilitation of all non-nuclear generation and steam and/or chilled water system facilities owned and/or operated by NSP and WEPCO (collectively, the "Primergy Companies") and Primergy NC may undertake responsibility through an operating agreement for the operation, maintenance, repair and rehabilitation of all nuclear generation facilities owned and/or operated by the Primergy Companies. Primergy GC and Primergy NC may also undertake responsibility through their respective operating agreements for the design, construction, start-up and testing of any new generation facilities which the Primergy Companies may need in the future. Neither Primergy GC nor Primergy NC would take title to any material amounts of equipment or property or become obligated under any material contracts with its affiliates (except for an operating agreement). Rather, Primergy GC and Primergy NC would employ the facilities and properties of their respective affiliates in carrying out their responsibilities, and agreements with unaffiliated entities will be entered into either directly by the owners of the generation facilities involved or by Primergy GC or Primergy NC, as the case may be, as agent for such owners. In addition, Primergy GC and Primergy NC may provide services to unaffiliated entities. The authorized capital stock of Primergy Services and any Additional Services Companies formed would consist of 1,000 shares of common stock, par value $.01 per share. Upon consummation of the Transaction, all issued and outstanding shares of Primergy Services and the Additional Services Companies will be held by Primergy. Primergy Services will enter into a service agreement with NSP and WEPCO (the "Service Agreement"). (A copy of the form of Service Agreement as well as an appendix entitled "Description of Services and Determination of Charges for Services" is filed as Exhibit B-4.) For the direct, and certain of the indirect, non-utility affiliates of Primergy, Primergy Services may enter into one or more separate service agreements (the "Non-Utility Service Agreement"). (A copy of the form of Non- Utility Service Agreement as well as an appendix entitled "Description of Services and Determination of Charges for Services" is filed as Exhibit B-5.) (f) Primergy Hold As noted in Item 1.A.2. above, NSP and WEC are currently considering whether Primergy Hold will be formed. If formed, Primergy Hold will be incorporated in Wisconsin to serve as a holding company for, and to acquire the outstanding capital stock of, certain non-utility subsidiary companies of NSP and WEC. The non-utility subsidiary companies are described below in Item 1.B.5. The resulting corporate structure if Primergy Hold is formed is set forth in Exhibit E-13. The authorized capital stock of Primergy Hold will consist of 1,000 -11- shares of common stock, par value $.01 per share. Upon consummation of the Transaction, all issued and outstanding shares of Primergy Hold will be held by Primergy. If Primergy Hold is not formed, it is contemplated that the direct non- utility subsidiaries of NSP and WEC will become direct subsidiaries of Primergy. The resulting corporate structure if Primergy Hold is not formed is set forth in Exhibit E-12. 2. Description of Energy Sales and Facilities (a) NSP and NSP-W (i) Energy Sales For the year ended December 31, 1995, NSP and NSP-W sold the following amounts of electric energy (at retail or wholesale) and distributed the following amounts of natural or manufactured gas at retail:
Year-ended December 31, 1995 ----------------- NSP Kwh of electric energy sold 35,498,513,000 (including amounts delivered in interchange) Mcf of gas distributed at retail (including 85,406,859 natural and manufactured gas) NSP-W Kwh of electric energy sold 5,501,716,000 (including amounts delivered in interchange) Mcf of gas distributed at retail (including 18,951,421(5) natural and manufactured gas)
(ii) Electric Generating Facilities As of December 31, 1995, NSP and NSP-W had a total net generating capability of 7,937 Mw and NSP had a total summer net generating capacity of 6,261 Mw available primarily from the following Units: Sherburne County ("Sherco"): NSP owns two coal-fired generating units and shares a third unit at its Sherco station in Minnesota with a combined net capability of 1,424 Mw. NSP owns a 59% undivided interest in the third unit at the station ("Sherco 3"), of which NSP's share of the net capability of this unit is 514 Mw. - --------------- (5) Approximately 5,970,049 Mcf was attributable to the Designated Gas Utility Assets. -12- Prairie Island: NSP owns two nuclear generating units at its Prairie Island station in Minnesota with a combined net capability of 1,027 Mw. Monticello: NSP owns one nuclear generating unit at its Monticello station in Minnesota with a net capability of 544 Mw. King: NSP owns one coal-fired generating unit at its King station in Minnesota with a net capability of 567 Mw. Black Dog: NSP owns four coal-fired generating units at its Black Dog station in Minnesota with a combined net capability of 461 Mw. High Bridge: NSP owns two coal-fired generating units at its High Bridge station in Minnesota with a combined net capability of 262 Mw. Riverside: NSP owns two coal-fired generating units at its Riverside station in Minnesota with a combined net capability of 366 Mw. Anson: NSP owns two oil/gas-fired combustion turbine electric generating units at its Angus Anson station in Sioux Falls, South Dakota, with an aggregate net generating capability of 232 Mw. Inver Hills: NSP owns five oil/gas-fired combustion turbine electric generating units at its Inver Hills station located in Inver Grove Heights, Minnesota, with an aggregate net generating capability of 343 Mw. NSP also owns numerous smaller generating units fueled with natural gas, oil or waste, wind and one hydro-electric generating facility, with an aggregate net capability of 521 Mw. As of December 31, 1995, NSP-W had a total net summer generating capability of 838 Mw from the following Units. All of the electric generating assets of NSP-W will be transferred to WEPCO as part of the Transaction. Bay Front: NSP-W owns three steam electric generating units at its Bay Front station in Ashland, Wisconsin that are fueled with coal, wood and gas, with a combined net capability of 75 Mw. French Island: NSP-W owns two steam electric generating units, fueled with wood and refuse derived fuel, and two oil-fired combustion turbine generating units at its French Island generating station in LaCrosse, Wisconsin with a combined net capability of 171 Mw. Flambeau: NSP-W owns a gas/oil-fired combustion turbine electric generating unit at its Flambeau station in Park Falls, Wisconsin with a summer net generating capability of 12 Mw. Wheaton: NSP-W owns six oil-fired combustion turbine electric generating units at its Wheaton station in Eau Claire, Wisconsin with a combined net capability of 332 Mw. -13- Hydro Plants: NSP-W also owns and operates 19 hydro-electric generating stations throughout northwestern Wisconsin with an aggregate net capability of 248 Mw. NSP-W presently relies primarily on NSP for base load generation and purchases of power to meet the needs of NSP-W's customers. The electric operations of NSP and NSP-W are fully integrated and all generating units are centrally dispatched by NSP. The electric production and transmission costs of NSP and NSP-W are shared by the companies under an agreement which is called the "Agreement to Coordinate Planning and Operation and Interchange Power and Energy Between Northern States Power Company (Minnesota) and Northern States Power Company (Wisconsin)" ("Interchange Agreement"). The Interchange Agreement was approved by the FERC in Docket No. ER84-690-000, dated August 21, 1985. On July 10, 1995, NSP and WEC filed an amendment to the Interchange Agreement with FERC to substitute WEPCO for NSP-W. For the year ended December 31, 1995, the combined energy (Kwh) production and power purchases of NSP and NSP-W were produced 50% by coal-fired generation, 30% by nuclear generation, 18% by hydroelectric generation and 2% from other generation. The 1995 electric system peak load for NSP and NSP-W was 7,519 Mw and occurred on July 13, 1995, exclusive of off-system transactions. For the year ended December 31, 1995, approximately 45% of the combined Kwh sales of NSP and NSP-W was obtained from coal-fired generation, approximately 30% from nuclear generation, 21% from purchases and approximately 4.0% from renewable resources. (iii) Electric Transmission and Other Facilities As of December 31, 1995, NSP's electric transmission system included 265 circuit miles of 500 Kv line, 751 circuit miles of 345 Kv line, 287 circuit miles of 230 Kv line, 59 circuit miles of 161 Kv line, 1,206 circuit miles of 115 Kv line and 1,875 circuit miles of transmission line under 115 Kv. The bulk of NSP's high voltage transmission system is located in the State of Minnesota. As of December 31, 1995, NSP's transmission substations had a combined capacity of approximately 25,100 thousand KVA and the distribution substations totaled approximately 12,300 thousand KVA. Manitoba Hydro-Electric Board, Minnesota Power Company and NSP completed the construction of a 500 Kv transmission interconnection between Winnipeg, Manitoba, Canada, and the Minneapolis-St. Paul, Minnesota, area in May 1980. NSP has a contract with Manitoba Hydro- Electric Board for 500 Mw of firm power utilizing this transmission line. In addition, the Company is interconnected with Manitoba Hydro through a 230 Kv transmission line completed in 1970. A map of NSP's major electric transmission lines is filed as Exhibit E-8. As of December 31, 1995, NSP-W's electric transmission system included 166 circuit miles of 345 Kv line, 280 circuit miles of 161 Kv line, 521 circuit miles of 115 Kv line and 1,541 circuit miles of transmission line under 115 Kv. As of December 31, 1995, NSP-W's transmission substations had a combined capacity of approximately 4,100 thousand KVA and the distribution substations totaled approximately 1,930 thousand KVA. A map of NSP-W's major electric transmission lines is filed as Exhibit E-6. Other assets owned by NSP and NSP-W include electric distribution systems located throughout its service area, and property, plant and equipment owned or leased supporting their -14- electric and gas utility functions. NSP and NSP-W also own or lease other physical properties, including real property, and other facilities necessary to conduct their operations. See Item 1.B.3. for information on present electric coordination. All of the above referenced facilities of NSP-W will be transferred to WEPCO as part of the Transaction. (iv) Fuel Sources NSP's and NSP-W's electric power generation by fuel type during each of the three calendar years ended December 31, 1995, as well as the average cost of such fuels to NSP and NSP-W per million BTUs, are set forth in the NSP and NSP-W Annual Reports on Form 10-K for the year ended December 31, 1995, which are incorporated by reference as Exhibits H-1 and H-6. (v) Gas Facilities NSP provides natural gas service at retail in the St. Paul metropolitan area and portions of southeast, northwest and central Minnesota, as well as eastern North Dakota. NSP-W provides natural gas service in western and central Wisconsin as well as Ironwood in Michigan's Upper Peninsula. Both NSP and NSP-W are directly connected to various interstate pipelines and have separate contractual supply portfolios for transportation through pipelines and with suppliers of natural gas. The gas delivery operations of NSP and NSP-W are managed out of St. Paul, Minnesota, pursuant to a Supervisory Control and Data Acquisition Agreement among NSP, NSP-W and Viking Gas Transportation Company (a wholly-owned interstate pipeline subsidiary of NSP). Under this agreement, NSP manages the pressures of the various pipelines owned by these companies and the inflow and outflow of natural gas from these pipelines. This agreement was approved by the MPUC in Docket No. G002/AI-94-831 and by the PSCW in Docket No. 4220-AU-117. The gas properties of NSP include 6,357 miles of natural gas distribution and transmission mains, the Westcott LNG plant with a storage capacity of 2 Bcf equivalent and three propane-air plants with a storage capacity of .7 Bcf equivalent to help meet the peak requirements of its firm residential, commercial and industrial customers. NSP-W's gas properties include approximately 1,399 miles of natural gas distribution mains, the Eau Claire LNG plant with a storage capacity of .3 Bcf equivalent and no operating propane-air plants. All of NSP-W's gas utility assets in Wisconsin, except the Designated Gas Utility Assets, will be transferred to WEPCO as part of the Transaction. As noted above, the Designated Gas Utility Assets will consist of all gas utility assets necessary to serve Hudson, Wisconsin and LaCrosse, Wisconsin, which service territories border the existing gas operations of NSP in Minnesota. NSP and NSP-W provide each other with certain wholesale LNG liquefaction, storage and vaporization service under certificate authority granted by FERC. NSP and NSP-W will seek FERC authorization to abandon the certificated services by assignment of the contractual obligations to New NSP and WEC. NSP and NSP-W are also authorized to make certain sales of natural gas for resale under blanket authority granted by the FERC under 18 CFR 284.402. -15- (b) WEPCO (i) Energy Sales For the year ended December 31, 1995, WEPCO sold the following amounts of electric energy (at retail or wholesale) and distributed the following amounts of natural or manufactured gas at retail:
Year-ended December 31, 1995 ----------------- Kwh of electric energy sold 27,283,869,000 (including amounts delivered in interchange) Mcf of gas distributed at retail 88,673,000 (including natural and manufactured gas)
(ii) Electric Generating Facilities As of December 31, 1995, WEPCO had a total net generating capability of 5,712 Mw from the following units. Point Beach Power Plant: WEPCO wholly owns two nuclear electric generating units at its Point Beach nuclear power plant with a combined net capability of 947 Mw. Oak Creek Power Plant: WEPCO owns four coal-fired electric generating units at its Oak Creek power plant with a combined net capability of 1,141 Mw. Presque Isle: WEPCO owns nine coal-fired electric generating units at its Presque Isle power plant with a combined net capability of 612 Mw. Pleasant Prairie: WEPCO owns two coal-fired electric generating units at its Pleasant Prairie power plant with a combined net capability of 1,210 Mw. Port Washington: WEPCO owns four coal-fired electric generating units at its Port Washington power plant with a combined net capability of 324 Mw. Valley: WEPCO owns two coal-fired electric generating units at its Valley power plant with a combined net capability of 227 Mw. -16- Edgewater: WEPCO owns a 25% undivided interest in one coal-fired unit at the Edgewater power plant, operated by a nonaffiliated utility. WEPCO's 25% interest equates to a net capability of 98 Mw. Concord: WEPCO owns the four gas/oil fired combustion turbine generating units at its Concord power plant with a combined net capability of 332 Mw. Paris: WEPCO owns the four gas/oil fired combustion turbine generating units at its Paris power plant with a combined net capability of 332 Mw. Germantown: WEPCO owns the four oil-fired combustion turbine generating units at its Germantown power plant with a combined net capability of 252 Mw. Hydro-Plants: WEPCO owns 16 hydro-plants with an aggregate net capability of 75 Mw. Combustion Turbine and Other: WEPCO owns 4 smaller combustion turbines and diesel units with a combined net capability of 162 Mw. The 1995 electric system peak load for WEPCO was 5,368 Mw and occurred on July 31, 1995. For the year ended December 31, 1995, approximately 70.3% of Kwh production of WEPCO was obtained from coal-fired generation, approximately 26.9% from nuclear generation, approximately 1.6% from hydroelectric generation and approximately 1.2% from other generation. WEPCO also operates a district steam system for space heating and processing in downtown and near southside Milwaukee. The system consists of approximately 30 miles of high and low pressure mains and related regulating equipment. Steam for the system is supplied by WEPCO's Valley Power Plant. As of December 31, 1995, there were 473 customers on the system. (iii) Electric Transmission and Other Facilities As of December 31, 1995, WEPCO's electric transmission system included 639 circuit miles of 345 Kv lines, 123 circuit miles of 230 Kv lines, 1,605 circuit miles of 138 Kv lines and 394 circuit miles of lines at less than 138 kilovolts. As of December 31, 1995, WEPCO's transmission substations had a combined capacity of 13,107,789 KVA and the distribution substations had a combined capacity of 13,727,473 KVA. These facilities are located within the states of Wisconsin and Michigan. A map of WEPCO's major electric transmission lines is attached as Exhibit E-7. Other assets owned by WEPCO include an electric distribution system. WEPCO also owns or leases other physical properties, including real property, and other facilities necessary or appropriate to conduct its operations. See Item 1.B.3. for information on electric coordination. -17- (iv) Fuel Sources WEPCO's electric power generation by fuel type during each of the three calendar years ended December 31, 1995, as well as the average cost to WEPCO per million BTUs, is set forth in its Annual Report on Form 10-K for the year ended December 31, 1995, which is incorporated by reference as Exhibit H-3. (v) Gas Facilities WEPCO provides natural gas service in three distinct service areas in Wisconsin: west and south of the City of Milwaukee, the Appleton area and the Prairie du Chien area. WEPCO is directly connected to various interstate pipelines and has contracts with these pipelines and others for firm gas transportation. The gas properties of WEPCO include 7,040 miles of natural gas distribution mains, a LNG plant with a storage capacity of 0.25 Bcf equivalent and three propane-air plants with a storage capacity of .05 Bcf equivalent to help meet the peak requirements of its firm, residential, commercial and industrial customers. WEPCO is also authorized to make certain sales of natural gas for resale under blanket certificate authority granted by FERC under 18 CFR 294.402. 3. Electric Coordination The following table sets forth certain information with respect to the electric operations of Primergy pro forma as of December 31, 1995, adjusted to give effect to the Transaction (before intercompany eliminations).
Electric Operating Kwh of Electric Energy Sales Revenues (including amounts delivered ($ in millions) in interchange) --------------- --------------- NSP $2,020 35,498,513,000 WEPCO $1,818 32,785,585,000 ------ -------------- TOTAL $3,838 68,284,098,000
NSP, NSP-W and WEPCO are already physically interconnected. As explained previously, as part of the Transaction, WEPCO will acquire all of the electric operations of NSP-W through a merger of NSP-W into WEPCO. NSP and NSP-W are directly connected through numerous transmission lines that they own, including one 345 Kv transmission line, two 115 Kv transmission lines and two 69 Kv transmission lines. NSP-W and WEPCO are directly interconnected by a transmission system consisting of a 345 Kv transmission system and lower voltage facilities. NSP-W and WEPCO own the direct connection at 345 Kv, which is located at the Rocky Run substation in central Wisconsin. This 345 Kv interconnection and others form the border between the Mid-Continent Area Power Pool ("MAPP") and the Mid-American Interconnected Network ("MAIN") called the MAPP/MAIN border. WEPCO is located in the -18- Wisconsin, Upper Michigan (WUMS) portion of MAIN. NSP and NSP-W own 83% of the transmission capacity located to the west of the MAPP/WUMS border while WEPCO, under an allocation agreement, is entitled to the use of 52% of the MAPP/WUMS interconnection capability on the east side of the interconnection. NSP and WEPCO intend to operate Primergy as a single system, economically dispatched, although they also intend to continue to operate separate control areas, one within MAIN and one within MAPP. This method of operation may change in the future should the borders of MAPP and/or MAIN change. NSP, NSP-W and WEPCO are also each directly interconnected to numerous other neighboring utilities. In addition to its direct interconnection with NSP and NSP-W, WEPCO is also directly interconnected with six neighboring utilities- - -Commonwealth Edison, Madison Gas & Electric Company ("MGE"), Marquette Board of Light & Power ("Marquette"), Upper Peninsula Power Company ("UPP"), Wisconsin Power and Light Company ("WP&L"), and Wisconsin Public Service Corporation ("WPS"). In addition to their direct interconnection with WEPCO, NSP and NSP-W are directly interconnected with eighteen neighboring utilities-Basin Electric Power Cooperative ("Basin"), Cooperative Power Association ("Coop Power"), Central Power Electric Cooperative ("Central Coop"), Dairyland Power Cooperative ("Dairyland"), Heartland Consumers Power District ("Heartland"), Interstate Power Company ("Interstate"), Manitoba Hydro-Electric Board ("Manitoba"), Minnesota Power & Light Company ("MPL"), Minnkota Power Cooperative ("Minnkota"), Missouri Basin Municipal Power Agency ("Mo Basin"), North Central Power ("North Central"), Northwestern Public Service Company ("Northwestern"), Otter Tail Power Company ("Otter Tail"), Southern Minnesota Municipal Power Agency ("So. Minn. MPA"), United Power Association ("UPA"), the federal Western Area Power Administration ("WAPA"), WP&L and WPS. NSP also participates in two 345 Kv lines that give it limited purpose contractual interconnections with six additional utilities. The "East 345 Line" runs between Minneapolis-St. Paul and St. Louis and includes as participants IES Utilities Inc., Interstate, MidAmerican Energy Company ("MidAmerican") and Union Electric ("UE"). The "West 345 Line" runs between Minneapolis-St. Paul and Kansas City and includes as participants Kansas City Power and Light ("KCPL"), Interstate, MidAmerican, Omaha Public Power District ("OPPD") and St. Joseph Light and Power ("SJLP"). All of the above interconnections are depicted on maps attached as Exhibit E-2. -19- 4. Gas Coordination. The following table sets forth certain information with respect to the gas operations of Primergy pro forma as of December 31, 1995, adjusted to give effect to the Transaction (before intercompany eliminations).
Gas Operating Mcf of Gas Distributed Revenues (including natural and ($ in millions) manufactured gas) --------------- ----------------- NSP $365 91,376,908 WEPCO $367 101,654,372 ---- ----------- TOTAL $732 193,031,280
NSP presently provides natural gas service at retail in Minnesota and North Dakota. NSP-W provides gas service in western Wisconsin (near Eau Claire and the Minnesota border), northwestern Wisconsin and Michigan's Upper Peninsula. WEPCO presently provides gas service in southern Wisconsin. Upon completion of the Transaction, the NSP and WEPCO gas operations will continue to serve this contiguous four state area. The combined gas service territories of NSP and WEPCO after the Transaction are shown in Exhibit E-9. The gas systems of NSP and NSP-W, on the one hand, and WEPCO, on the other, each presently operate as a single coordinated system. While the NSP and WEPCO gas systems are not physically interconnected, they will functionally perform as a coordinated system through purchase of natural gas from common sources of supply, delivery through common interstate pipelines (all of which are open access transportation-only pipelines under FERC Order 636) and storage of gas in common underground storage facilities. NSP, NSP-W and WEPCO are served through a "grid" of interstate pipelines that serve the four state region. Underground storage providers are also attached to such grid. A map of this grid is shown as Exhibit E-14. This grid allows the coordination of gas purchases and delivery in a manner analogous to the coordination created by the electric generation and transmission grid. -20- NSP, NSP-W and WEPCO purchase interstate gas transmission and storage service from the following: PROVIDER NSP NSP-W WEPCO - -------- --- ----- ----- ANR Pipeline Company X X X Northern Natural Gas Company X X X Viking Gas Transmission Company X X X Great Lakes Gas Transmission Company X X Northern Border Pipeline Company X X TransCanada Pipeline Ltd. X X ANR Storage Company X Llano, Inc. X Williston Basin Interstate Pipeline X KN Westex Gas Services Company X Moss Bluff Gas Storage System X Natural Gas Pipeline Company of America X Texaco Natural Gas Company, Inc. X As a result of FERC Order 636 regarding restructuring, NSP, NSP-W and WEPCO are now able to directly purchase wholesale natural gas at the wellhead (or processing plant outlet, hub, or gathering system outlet) from numerous independent "third party" suppliers. However, NSP, NSP-W and WEPCO purchase significant quantities of natural gas from common supply fields. NSP, NSP-W and WEPCO purchase gas in the following major supply fields or basins: FIELD/BASIN NSP NSP-W WEPCO ----------- --- ----- ----- Hugoton X X X Permian X X X Andarko X X X Rocky Mountain X X Williston X Arkoma X Gulf Coast X Alberta, Canada X X X The three companies procure some gas supplies from common producers. However, there are hundreds of natural gas producers available in the marketplace. Since restructuring of gas supply under FERC Order 636 was designed to allow local distribution companies ("LDCs") to directly contract with any producers they wish, and allow the three companies to use competitive bidding procedures to select their respective suppliers, the fact that NSP, NSP-W and WEPCO purchase -21- supplies from different suppliers within the common pools simply indicates that FERC's policy objective of robust supply competition is being achieved. 5. Non-Utility Interests of NSP, NSP-W and WEC (a) NSP and NSP-W NSP has seven direct operating non-utility subsidiaries, all of which are wholly-owned: Viking Gas Transmission Company ("Viking"), Cenerprise, Inc. ("Cenerprise"), Eloigne Company ("Eloigne"), First Midwest Auto Park, Inc. ("FMAP"), Cormorant Corporation ("Cormorant"), United Power & Land Company ("UP&L"), and NRG Energy, Inc. ("NRG"). NSP-W has two wholly-owned subsidiaries, Clearwater Investments, Inc. ("Clearwater") and NSP Lands, Inc. ("NSP Lands") and a 78% owned subsidiary, Chippewa & Flambeau Improvement Company ("C&F"). A corporate chart of NSP and its subsidiaries, showing their non-utility interests, is filed as Exhibit E-10. The 1995 consolidated revenues and net income and consolidated assets as of December 31, 1995 of NSP's and NSP-W's direct non-utility subsidiaries before intercompany eliminations were as follows:
($ Thousands) Company Revenue Net Income Assets ------- ------- ---------- ------ Cormorant $-- $16 $683 UP&L 3,578 588 15,192 FMAP 1,627 234 7,064 Viking 16,328 1,658 49,421 Cenerprise 223,615 (1,590) 53,011 Eloigne 1,339 1,610 46,267 NRG 64,180 31,201 452,334 NSP Lands 1,284 575 587 Clearwater (63) 546 3,453 C&F 593 40 813
Together, NSP's and NSP-W's non-utility subsidiaries and investments constituted approximately 10.1% of NSP's consolidated assets as of December 31, 1995. NSP's and NSP-W's non-utility subsidiaries and investments also provided approximately 10.2% of NSP's total revenues and approximately 12.6% of NSP's consolidated net income for the year ended December 31, 1995. NSP's aggregate investment in EWGs as of December 31, 1995 is within the limits of Rule 53. NSP's aggregate investment in other non-utility subsidiaries and affiliates as of December 31, 1995 is within the limits on such investments contained in proposed Rule 58. VIKING. Viking owns and operates a 500 mile interstate natural gas pipeline serving portions of Minnesota, Wisconsin and North Dakota with a capacity of 400,000 Mcf per day. -22- Viking is a regulated natural gas company under the Natural Gas Act of 1938, as amended (the "Natural Gas Act"). The Viking pipeline currently serves 10% of NSP's gas distribution system needs. Approximately 75% of NSP's gas customers are located within 40 miles of the Viking pipeline. Viking currently operates exclusively as a transporter of natural gas for third-party shippers under FERC rate and tariff jurisdiction. Viking has agreements with NSP, NSP-W and WEC for natural gas transportation services in interstate commerce under the rate and tariff jurisdiction of the FERC and all such agreements have been approved by the FERC. CENERPRISE, INC. Cenerprise, formerly Cenergy, Inc., commenced operations in October 1993 through the acquisition from bankruptcy of selected assets of Centran Corporation, a natural gas marketing company. As part of its natural gas marketing services, Cenerprise has agreements with Viking for natural gas transportation services in interstate commerce under the rate and tariff jurisdiction of the FERC and such agreements have been approved by the FERC. As such, Cenerprise is a "marketing affiliate" of Viking under FERC rules (18 CFR Part 161). On December 1, 1994, the FERC approved Cenerprise's application to market and broker electric power, other than power generated by NSP and NSP-W. Cenerprise, in addition to marketing electricity and natural gas, provides customized value-added energy conservation and management services to retail customers, both inside NSP's service territory and on a national basis through its offices in Houston, Texas; Louisville, Kentucky; Chesapeake, Virginia; Corpus Christi, Texas; Chicago, Illinois; Milwaukee, Wisconsin and Pittsburgh, Pennsylvania. Cenerprise offers customers energy products and services including: performance contracting, end-use electric and gas marketing, risk management, construction and energy consulting and administrative services. The MPUC has approved an affiliate transaction contract whereby Cenerprise may sell natural gas at market based rates (determined by competitive bids) to NSP for resale to retail gas customers. (MPUC Docket No. G002/AI-94-433). As of December 31, 1995, NSP's investment in Cenerprise (including undistributed earnings or loss) was $18.6 million. On September 1, 1995, a non-regulated subsidiary of NSP merged with Kansas City-based Energy Masters Corporation ("EMC") which resulted in the purchase of an 80% ownership interest in EMC by NSP. NSP subsequently assigned its interest in EMC to Cenerprise. Cenerprise has an option to acquire the remaining 20% of EMC in three years. EMC has offices in seven states nationwide and specializes in energy efficiency improvement services for commercial, industrial and institutional customers. In 1995 Cenerprise and Atlantic Energy Enterprises established Atlantic CNRG Services LLC ("ACNRG"). Each company owns 50% of the new venture that markets new and expanded natural gas products and services in the Northeast region of the United States. ACNRG competes with other independent marketing companies for the sale of natural gas and related energy services to end-use customers or LDCs. In February 1996, ACNRG purchased the gas marketing assets of Interstate Gas Marketing, Inc., a natural gas end-user sales company with offices in Scranton and Pittsburgh, Pennsylvania. These assets, primarily natural gas end user contracts, were merged into ACNRG after the acquisition. Cenerprise also holds a majority working interest in two separate producing fields located in South Texas. The fields produce primarily natural gas, with some associated oil. The -23- leaseholds comprise a combined total of approximately 3,985 acres. Minor override and working interest properties are held in Oklahoma and Kentucky. These reserves are utilized to fill Cenerprise's natural gas sales commitments. ELOIGNE COMPANY. In 1993, NSP established Eloigne to identify and develop affordable housing investment opportunities. Eloigne's principal business is the acquisition of a broadly diversified portfolio of rental housing projects which qualify for low income housing tax credits under federal tax law. Although operating income from Eloigne projects is immaterial, tax credits recognized from the projects were $3.2 million in 1995. As of December 31, 1995, NSP's investment in Eloigne (including undistributed earnings or loss) was $25.2 million. CLEARWATER INVESTMENTS, INC. Clearwater was established to identify and develop affordable housing investment opportunities for NSP-W. Clearwater's principal business is the acquisition of a broadly diversified portfolio of rental housing projects which qualify for low income housing tax credits under federal tax law. Tax credits recognized from the projects are estimated to be $750,000 in 1995. Clearwater has invested in the following housing projects: Woodsedge Eau Claire Limited Liability Partnership in Eau Claire, Wisconsin; Plover Limited Liability Company in Plover, Wisconsin; and Shoe Factory Holding LLC in Chippewa Falls, Wisconsin. As of December 31, 1995, NSP-W's investment in Clearwater (including undistributed earnings or loss) was $857,000. FIRST MIDWEST AUTO PARK, INC. FMAP owns and operates a parking garage. NSP has a lease agreement with FMAP for 92 parking spaces on the basement level of FMAP's garage and two agreements to lease storage and office space in FMAP's garage, which agreements were approved by the MPUC in Docket Nos. E002/AI-94- 1042 and E002/AI-94-1043. The parking garage is located next to NSP's headquarters in Minneapolis and is primarily used by NSP's employees. It provides secure, close parking for NSP employees. As of December 31, 1995, NSP's investment in FMAP (including undistributed earnings or loss) was $1.9 million. CORMORANT CORPORATION. Cormorant was established for the principal purpose of acquiring fuel resources and has historically engaged in oil, gas, coal lignite and uranium exploration. As of December 31, 1995, NSP's investment in Cormorant (including undistributed earnings or loss) was $0.7 million. UNITED POWER AND LAND COMPANY. UP&L owns and holds real property typically surrounding or adjacent to property owned and used by NSP in its regulated operations. UP&L's land holdings consist of 12 parcels located in Minnesota and Wisconsin, including the Renaissance Square office facility adjacent to NSP's corporate headquarters. The majority of UP&L's land consists of property adjacent to land owned and used for NSP's Sherco and Monticello plant sites. UP&L receives rental revenue for some of the land which is leased to third parties for agricultural purposes. UP&L provides a direct benefit to NSP. Real property needed by NSP for its utility operations can often only be obtained as part of purchases of larger tracts. In these cases, UP&L may acquire the property, transfer the useful portion to NSP, hold any potential useful portion for future use by NSP, and resell the remainder. Since UP&L is not subject to NSP's first mortgage indenture, it is easier to transfer real property through UP&L than to obtain a separate release from the mortgagee for each transaction. Besides acquiring, holding -24- and disposing of real estate, UP&L also leases virtually all of its Renaissance Square office building to NSP pursuant to two separate agreements. These agreements were approved by the MPUC in Docket Nos. E002-AI-90-845 and E002-AI- 94-1056. NSP conducts various utility operations at the Renaissance Square facility, including customer service operations. NSP achieved substantial cost savings by having UP&L purchase the building rather than NSP, as NSP was able to avoid the requirement of Minnesota law that a purchaser of a building who has eminent domain power pay the relocation expenses of outgoing tenants. Pursuant to a property management agreement, NSP manages this building on behalf of UP&L. This agreement was approved as an affiliate transaction by the MPUC in Docket No. E002/AI-94-1188. As of December 31, 1995, NSP's investment in UP&L (including undistributed earnings or loss) was $6.1 million. NSP LANDS, INC. NSP Lands was created to develop and sell land owned by NSP-W adjacent to Lake Arbutus, a hydro-electric generating facility previously owned by NSP-W. NSP Lands has no other activities in process at this time. As of December 31, 1995, NSP-W's investment in NSP Lands (including undistributed earnings or loss) was $490,000. CHIPPEWA & FLAMBEAU IMPROVEMENT COMPANY. C&F was created in 1911 for the purpose of building, maintaining, and operating dams and reservoirs on the Chippewa and Flambeau Rivers in Wisconsin and is 75.86% owned by NSP-W; the balance is owned by unaffiliated entities. C&F owns and operates the Flambeau Reservoir. In addition, C&F leases and operates the Chippewa Reservoir pursuant to a lease agreement with NSP-W. This lease was approved by the PSCW as an affiliate transaction in an order dated December 17, 1987 in Docket No. 4220-AE- 100. C&F controls water leases from the Flambeau and Chippewa Reservoirs to provide a uniform flow of water on the Chippewa and Flambeau Rivers. The flow benefits the downstream hydro plants. NRG ENERGY, INC. NRG is a wholly owned subsidiary of NSP that develops, builds, acquires, owns and operates several non-regulated energy-related businesses as described in Annex A and Annex B hereto. NRG directly owns and operates certain resource recovery businesses and steam and chilled water businesses. Through subsidiaries and affiliates, NRG is involved in numerous independent power projects, energy-related services and fuel enhancement and related projects. The domestic operations of NRG are described in Annex A hereto and its international operations are described in Annex B hereto. As of December 31, 1995, NSP's investment in NRG (including undistributed earnings or loss) was approximately $317,000,000. NRG also has numerous other subsidiaries that are inactive and are in the process of being dissolved. These subsidiaries (which are listed in Annex C) were formed in connection with actual or potential projects that did not materialize. (b) WEC WEC has seven wholly owned non-utility subsidiaries devoted primarily to stimulating economic growth in WEPCO's service area and to capitalizing on diversified investment opportunities for stockholders: (i) Badger Service Company, (ii) Minergy Corp., (iii) WEC Generation International Inc, (iv) Wisconsin Michigan Investment Corporation, -25- (v) WISPARK Corporation, (vi) WISVEST Corporation and (vii) WITECH Corporation. In addition, WEC holds a 50% interest in Custometrics LLC. A corporate chart of WEC, showing its non-utility interests, is filed as Exhibit E11. (i) Badger Service Company ("Badger") holds coal rights in Indiana. WEC's estimates indicate that 40 million tons of coal could be recovered from this property with conventional mining techniques; however, there are no current plans to develop the property. Badger Service Company may sell or develop these rights in the future as conditions warrant. (ii) Minergy Corp. ("Minergy") is engaged in the business of developing and marketing proprietary technologies designed to convert high volume industrial and municipal wastes into value-added products and provides various consulting, operation, maintenance and other services related to the installation, operation and maintenance of thermal sand reclamation facilities. Minergy is proposing to build a $45 million facility in Neenah, Wisconsin that would recycle paper sludge from area paper mills into two usable and salable products: glass aggregate and steam. The plant will also provide substantial environmental and economic benefits to the area by providing a beneficial alternative to landfilling paper sludge. (iii) WEC Generation International Inc ("WEC Generation") was formed in February, 1996 to provide a vehicle through which WEC may investigate investment opportunities. WEC Generation has acquired 100% of the equity interest of two offshore Dutch companies, Valace Investments B.V. and Scotloc Holding B.V. Each of these entities is currently inactive. (iv) Wisconsin Michigan Investment Corporation ("WMIC") engages in investment and financing activities. Activities include advances to affiliated companies and investments in financial instruments and in partnerships developing low and moderate-income housing projects. Other investments may be made from time to time. WMIC's subsidiary, WMF Corp., engages in financing activities; any funds obtained by WMF Corp. through financing arrangements are advanced to WMIC. WMIC's and WISPARK's investments are detailed in Annexes D and E, respectively. Although operating income from WMIC and WISPARK from low and moderate-income housing projects was immaterial, tax credits from their projects in 1995 were approximately $2.6 million. (v) WISPARK Corporation ("WISPARK") is a real estate development subsidiary of WEC engaging in all aspects of real estate development including the acquisition, construction, financing, management, leasing and disposition of real estate. WISPARK's ownership positions in its subsidiaries and affiliates are listed in Annex E. (vi) WISVEST Corporation ("WISVEST") invests in energy-related activities. Currently, it is an investor in a company which provides strategic energy management services with a focus on natural gas management. WISVEST is also an investor in a company which markets an advanced energy information system to utilities which gives them the ability to communicate directly with their customers. WISVEST's investments are set forth in Annex F. -26- (vii) WITECH Corporation ("WITECH") is a venture capital subsidiary of WEC. WITECH provides long-term capital to companies located in Wisconsin and Michigan's Upper Peninsula in exchange for equity and other positions in such companies. WITECH currently has investments in the companies listed in Annex G. (viii) Custometrics LLC ("Custometrics") is a joint venture formed by WEC and Marshall & Ilsley Corp. Custometrics will provide system solutions related to billing and other aspects of the customer service segment of the energy services industry. The 1995 operating revenues and net income and assets as of December 31, 1995 of WEC's direct non-utility subsidiaries (before inter-company eliminations) were as follows:
($ Thousands) Company Revenue Net Income (Loss) Assets - ------- ------- ----------------- ------ Badger $64 $24 $3,072 Minergy -- (734) 1,953 WEC Corporate 627 614 42,742 WEC Sub. -- -- 1 WEC Generation -- -- -- WMIC (5) 6,164 2,740 135,367 WISPARK (6) 9,974 429 159,500 WISVEST (7) (940) (719) 1,768 WITECH (8) 1,198 (6,987) 51,447 Custometrics 18 (454) 545 ------ ----- ------- Subtotal 17,105 (5,087) 396,395 Less: Adjustments and Eliminations (8,217) (343) (154,442) ------ ----- ------- Total Non Utility 8,888 (5,430) 241,953
WEC non-utility subsidiaries and investments constituted approximately 5% of WEC's assets on a consolidated basis as of December 31, 1995. Operating revenues from WEC's non-utility subsidiaries and investments were approximately one-half of 1% of WEC's consolidated total operating revenues for the year ended December 31, 1995. - --------------- (5) WMIC's carrying value of its investments in affiliates range in size from $13,000 to $3,209,000. (6) WISPARK's carrying value of its investment in affiliates range in size from $144,000 to $7,814,000. (7) WISVEST's carrying value of its investments in affiliates range in size from $1 to $175,000. (8) WITECH's carrying value of its investments in affiliates range in size from $1 to $12,930,000. -27- C. Description of Transaction and Statement as to Consideration 1. Background WEC and NSP both believe that fundamental changes in the regulatory structure of the electric utility industry are inevitable and that such changes will likely occur in the near future. Recently enacted federal laws and recent actions by federal and state regulatory commissions are facilitating the changes to bring more competition to various segments of the industry. The Energy Policy Act of 1992 (the "1992 Act") granted the FERC authority to order electric utilities to provide transmission service to certain other utilities and to other buyers and sellers of electricity in the wholesale market. The 1992 Act also created a new class of power producers, exempt wholesale generators ("EWGs"), which are exempt from regulation under the Act. The exemption from regulation under the Act of EWGs has increased the number of entrants into the wholesale electric generation market, thus increasing competition in the wholesale segment of the electric utility industry. Commencing in December 1993, pursuant to its authority under the 1992 Act, FERC issued a number of orders in specific cases directing utilities to provide transmission services. Under FERC's evolving transmission policies, utilities are being required to offer transmission services to third parties on a basis comparable to services that the utilities provide themselves. In April 1995, FERC issued a notice of proposed rulemaking under which it proposed to implement, on a comprehensive basis, the comparable transmission service policies it has set forth in specific cases. FERC's actions to date and its transmission rulemaking proceeding have increased the availability of transmission services, thus creating greater competition in the wholesale power supply market. In addition, state regulatory bodies in certain states, including, among others, California, Minnesota and Wisconsin, have initiated proceedings to review the basic structure of the electric industry. These bodies are considering proposals to require some measure of competition in the retail portion of the industry. Prior to NSP and WEC entering into the Merger Agreement, the PSCW requested comments regarding how the industry might be restructured in order to create a more competitive environment. Following receipt of responses, the PSCW created a task force to analyze how the industry might be restructured in Wisconsin to allow consumers to receive the benefits of increased competition. It was the view of NSP's and WEC's managements that such proceedings would result in some measure of increased competition in the retail electric supply segment of the business. For an update on the PSCW's proceedings, see footnote 30 under Item 3.A.2.b.(ii). The changes to the electric industry that have occurred and that are occurring are bringing increased competition to various sectors of the business and are putting pressure on utilities to lower their costs. Both NSP and WEC recognized that a combination with another financially strong utility would enable the combined entity to generate and deliver energy more cheaply and efficiently and thereby enable such combined entity to remain a premier supplier of energy in an increasingly competitive industry. -28- Beginning in the spring of 1994, the management of NSP analyzed various potential strategic options that might be available to NSP, including possible business combinations with other utilities. Beginning in late summer of 1994, management was assisted in this process by the Management Consulting Division of Deloitte & Touche LLP ("Deloitte & Touche"). The NSP Board was briefed at its August 1994 meeting with respect to the work that had been done by NSP management in assessing the industry environment and analyzing various potential merger partners and possible legal structures. The management of NSP looked at substantially all of the utilities of significant size with service areas proximate to the main service areas of NSP. None of the other utilities offered synergistic opportunities of the magnitude that could be realized through a merger with WEC. The physical proximity of the service areas of WEC, the compatibility of and similarity between NSP's and WEC's operations and the excellent reputation of WEC's management made WEC the natural first choice for a combination partner for NSP. No alternative merger scenarios were seriously considered at or after this time. In September 1994, at the suggestion of Mr. James J. Howard, Chairman and Chief Executive Officer of NSP, Mr. Edwin Theisen, then-President and Chief Operating Officer of NSP, raised the concept of a combination of NSP and WEC with Mr. Richard A. Abdoo, Chairman, President and Chief Executive Officer of WEC. That led to a series of discussions between Messrs. Abdoo and Theisen which ultimately resulted in a meeting at the end of October 1994 between Messrs. Howard, Abdoo and Theisen, at which the two companies' views of the future of the utility industry were discussed. The three men discussed in a very preliminary fashion the concept of a business combination, structured as a merger of equals, between NSP and WEC. They also identified the issues of management succession, board composition and location of the headquarters as significant points to be agreed upon. Shortly after the October 1994 meeting, NSP engaged the law firms of Gardner, Carton & Douglas and Wachtell, Lipton, Rosen & Katz to advise it with respect to the potential transaction. Shortly after the October 1994 meeting, WEC management reviewed possible strategic alternatives for WEC, including: a business combination with NSP, the possibility of remaining an independent company and the possibility of a combination with another Midwestern utility. No alternative merger scenarios were seriously considered by WEC management. There was also a review of the consequences of WEC remaining an independent company. WEC sought advice from the investment banking firm of Barr Devlin Associates, Inc. ("Barr Devlin") and the law firms of Quarles & Brady and Skadden, Arps, Slate, Meagher & Flom with respect to strategic alternatives. The WEC Board was briefed at its November 1994 meeting with respect to the fact that WEC management was reviewing various strategic alternatives, including a possible business combination with NSP, and that management would report back to the WEC Board. In late November 1994, representatives of WEC advised representatives of NSP that WEC management was interested in exploring the possibility of a combination of the two companies, but WEC felt that it needed to perform additional internal analysis of the potential benefits of the transaction before it further engaged NSP in any substantive discussions. -29- In December 1994, NSP management briefed the NSP Board with respect to its analysis of various strategic alternatives, the potential synergies that could be achieved by a combination with WEC or other utilities (such as cost savings from economies of scale and decreased fuel costs, reduction in operational and maintenance expenses, integration of nuclear facilities and elimination of duplicative administrative expenditures), and the legal and regulatory implications of alternative combination structures. Representatives of WEC contacted representatives of NSP in early January 1995 and indicated that WEC was interested in proceeding with discussions concerning a possible merger of equals. Messrs. Howard and Abdoo met on January 6, 1995, at which meeting Mr. Abdoo indicated that WEC was interested in proceeding with the discussions. The parties agreed that it was desirable to arrange an introductory meeting of the parties' respective management teams and advisors to discuss, among other things, the due diligence and negotiation process. On January 10, 1995, NSP engaged Goldman, Sachs & Co. ("Goldman Sachs") as its financial advisor in connection with the possible transaction. An introductory meeting was held on January 12, 1995, attended by representatives of WEC and NSP and their respective counsel, financial advisors and consultants. Working groups composed of representatives of both companies were formed to examine various issues including structure, financial modeling, regulatory considerations, integration of employee benefit plans, communications and an analysis of synergies. Shortly after the meeting, the companies entered into a confidentiality agreement, pursuant to which the parties agreed to exchange non-public information with a view toward exploring a possible business combination. Deloitte & Touche was engaged to assist the senior managements of NSP and WEC and certain employees designated by them (collectively, the "Synergies Working Group") in identifying and quantifying the potential cost savings from synergies resulting from the proposed merger. During the following months, the various task forces continued their work with respect to the synergistic analysis, business plans, legal structures, regulatory plans, due diligence and employee benefits. In addition, discussions continued between NSP management and Goldman Sachs on the one hand, and WEC management and Barr Devlin on the other hand, with respect to negotiation of the exchange ratio, and between counsel for WEC and counsel for NSP, with respect to the terms of drafts of the merger and stock option agreements. Numerous briefings were also made by management and the outside advisors to the respective Boards of Directors of NSP and WEC. Prior to April 28, 1995, the advisors for both parties agreed on the proposed structure for the Transaction and negotiated the terms of the Merger Agreement, including the conditions to closing, the termination provisions, the break-up fees, the covenants which would govern the operations of NSP and WEC prior to the completion of the transaction and various other matters, such as employee benefits and workforce matters, which would govern the operations of Primergy after the NSP Merger. Goldman Sachs and Barr Devlin held further -30- discussions with respect to the exchange ratio and agreed to recommend to their clients a ratio which would result in each company's common shareholders as a group owning 50% of the surviving company's common equity. On April 28, 1995, the Boards of Directors of NSP and WEC each unanimously approved the Merger Agreement, and certain related agreements and the transactions contemplated thereby. Additional information regarding the background of the Transaction is set forth in the Joint Registration Statement on Form S-4 of WEC and New NSP, which is filed as Exhibit C-1 hereto (the "Joint Registration Statement"). 2. Merger Agreement The Merger Agreement provides for NSP to be merged with and into New NSP pursuant to the Reincorporation Merger. In order for NSP to become a Wisconsin corporation, NSP will not be the survivor of the merger with New NSP. Also, prior to the merger, NSP-W will transfer the Designated Gas Utility Assets to New NSP, so that New NSP will be a "public utility" under Wisconsin law. Absent these transactions, it might be possible that the utility assets of NSP would not be considered in determining the amount of permitted non-utility investments of Primergy under Wisconsin law. See Item 1.B.1.b. above. Immediately after the Reincorporation Merger, WEC Sub will be merged into New NSP pursuant to the NSP Merger, with New NSP being the survivor. Soon thereafter, New NSP is expected to dividend the shares of NSP-W to Primergy and, immediately thereafter, NSP-W will merge into WEPCO. The Merger Agreement is incorporated by reference as Exhibit B-1. Under the terms of the Merger Agreement, upon consummation of the Transaction: (i) each issued and outstanding share of NSP Common Stock (other than shares owned directly or indirectly by NSP or WEC and NSP Dissenting Shares) will be canceled and ultimately converted into the right to receive 1.626 shares of Primergy Common Stock, (ii) each issued and outstanding share of NSP Preferred Stock (other than shares owned directly or indirectly by NSP or WEC and NSP Dissenting Shares) will be canceled and converted into the right to receive one share of New NSP Preferred Stock with terms (including dividend rates and general voting rights) and designations under the New NSP Articles identical to those of the canceled shares of NSP Preferred Stock under the NSP Articles and (iii) each issued and outstanding share of WEC Common Stock will be unchanged as a result of the NSP Merger and will remain outstanding thereafter as a share of Primergy Common Stock, so that the common shareholders of WEC and NSP immediately prior to the Mergers (except for the holders of NSP Dissenting Shares) will all be common shareholders of Primergy immediately upon the consummation of the Mergers. The Transaction is expected to be tax-free to NSP and WEC shareholders (except as to dissenters' rights and fractional shares). Based on the capitalization of WEC and NSP on April 28, 1995, and the Ratio, the shareholders of WEC and NSP would each own securities representing approximately 50% of the outstanding voting power of Primergy. -31- Except as set forth below, if any holder of NSP Common Stock would be entitled to receive a number of shares of Primergy Common Stock that includes a fraction, then in lieu of a fractional share, such holder will be entitled to receive a cash payment determined by multiplying the fractional share interest by the average of the last reported sales price, regular way, per share of WEC Common Stock on the NYSE Composite Tape for the ten business days prior to and including the last business day on which WEC Common Stock was traded on the NYSE, without any interest thereon. Because each share of WEC Common Stock will become a share of Primergy Common Stock at a 1:1 ratio, fractional shares will not result from the conversion of whole shares of WEC Common Stock. Fractional shares of NSP Common Stock held in accounts under the dividend reinvestment plans and employee benefit plans of NSP will be converted into the applicable number of shares (or fractional shares) of Primergy Common Stock under corresponding plans of Primergy, in accordance with the Ratio. The Transaction is subject to customary closing conditions, including the receipt of the requisite shareholder approvals of WEC and NSP (which have been obtained) and all necessary governmental approvals, including the approval of the Commission. The Transaction is designed to qualify as a tax-free reorganization under Section 368(a) of the Internal Revenue Code of 1986, as amended. NSP and WEC believe the Transaction will be treated as a "pooling of interests" for accounting purposes. The Merger Agreement contains certain covenants relating to the conduct of business by the parties pending the consummation of the Transaction. Generally, the parties must carry on their businesses in the ordinary course consistent with past practice, may not increase common stock dividends beyond specified levels, and may not issue capital stock except as specified. The Merger Agreement also contains restrictions on, among other things, charter and bylaw amendments, capital expenditures, acquisitions, dispositions, incurrence of indebtedness, certain increases in employee compensation and benefits and affiliate transactions. 3. Management of Primergy following the Merger The Merger Agreement provides that, after the effectiveness of the Mergers, Primergy's principal corporate office will be located in Minneapolis, Minnesota. Primergy's board of directors, which will be classified into three classes, will consist of a total of twelve directors, six of whom will be designated by NSP and six of whom will be designated by WEC. As of the date hereof, NSP and WEC have not determined which individuals, in addition to Messrs. Howard and Abdoo, will serve as officers of Primergy following consummation of the Transaction. Mr. James Howard, the current Chairman, Chief Executive Officer and President of NSP, will be entitled to serve as Chairman and Chief Executive Officer of Primergy until the later of the date of the Annual Meeting of Primergy that occurs in 1998 or the last day of the sixteenth month following the effectiveness of the Mergers (the "Initial Period"), and as Chairman of the Board of Primergy until the later of July 1, 2000, or the second anniversary of the last day of the Initial Period. Mr. Richard Abdoo as Chairman and Chief Executive Officer of WEC, will be entitled to serve as Vice Chairman of the Board, President and Chief Operating Officer of Primergy until Mr. Howard ceases to be Chief Executive Officer, and thereafter will -32- serve as Vice Chairman, President and Chief Executive Officer of Primergy. Mr. Abdoo will assume the position of Chairman when Mr. Howard ceases to be Chairman. 4. Related Agreements In connection with the Merger Agreement, NSP and WEC also entered into reciprocal stock option agreements (the "Option Agreements") (Exhibits B-2 and B-3 hereto) giving each company the right to acquire shares of the other's common stock under specified circumstances. The Option Agreements provide that no option may be exercised until all necessary regulatory approvals (including any required approval of the Commission) have been obtained for the acquisition of shares pursuant to such option. D. Dividend Reinvestment Plan and Stock Incentive Plan Primergy proposes, from time to time through a period five years from the date of an Order issued by the Commission to issue and/or acquire in open market transactions up to 18.2 million shares of Primergy Common Stock (the "Additional Common Stock") under Primergy's dividend reinvestment plan and stock incentive plan. 1. Dividend Reinvestment Plan NSP currently has in place the NSP Dividend Reinvestment and Stock Purchase Plan (the "NSP Plan") and WEC has in place the WEC Stock Plus Investment Plan (the "WEC Plan"). Upon completion of the Mergers, the NSP Plan will cease and participants in the NSP Plan will become participants in the WEC Plan, which is referred to below as the "DRIP" and which will become the Primergy plan. Set forth below is a description of the principal terms of the DRIP. (a) Eligibility of Participants and Purposes of the DRIP All holders of record of shares of (i) Primergy Common Stock and (ii) any WEC Preferred Stock, WEPCO Preferred Stock or NSP Cumulative Preferred Stock (collectively, the "Preferred Stock," and together with Primergy Common Stock, the "Eligible Securities") may participate in the DRIP. The DRIP will also permit other investors who are not shareholders of any of these companies and may permit beneficial owners of the companies' stock held by brokers and other custodial institutions of such brokers and other custodial institutions that have established procedures which permit their customers to participate, to make an original purchase of Primergy Common Stock, whereupon they will become shareholders of Primergy and will be entitled to participate in the DRIP like other shareholders. The purpose of the DRIP will be, among other things, to provide holders of Eligible Securities and other investors with a simple, convenient and economical method of purchasing shares of Primergy Common Stock through reinvestment of dividends and cash investments. The DRIP is designed to encourage and facilitate broader ownership of Primergy Common Stock. Full investment of funds will be possible under the DRIP, subject to minimum and maximum purchase limits, because the DRIP will permit fractional as well as whole shares to be credited to a participant's account. The DRIP -33- will also provide Primergy with a means to raise equity capital and to increase ownership by small, long-term investors. (b) Sources of Common Stock and Use of Proceeds Any shares of Additional Common Stock purchased under the DRIP with optional cash payments and reinvested dividends may be, at the discretion of Primergy, authorized but unissued shares, treasury shares or shares purchased on the open market by the DRIP's independent plan administrator (the "Administrator"). As of the date of this Application, the WEC Administrator is purchasing shares in the open market for the WEC Plan. The decision as to whether shares are to be purchased directly from Primergy, or in the open market or in privately negotiated transactions, will be based on Primergy's need for common equity and any other factors considered by Primergy to be relevant. Any determination by Primergy to alter the manner in which shares will be purchased for the DRIP, and implementation of any such change, will comply with applicable law and Commission interpretations then in effect. Net proceeds from new issue or treasury shares received by Primergy will be added to Primergy's general funds to be available for general corporate purposes. Primergy will not receive any proceeds from shares acquired by the Administrator in the open market or in privately negotiated transactions. Primergy will not use any proceeds from new issue or treasury shares to acquire the securities of or any interest in any EWG or foreign utility companies (as those terms are defined in Sections 32(e) and 33(a) of the Act, as amended by the Energy Policy Act of 1992), until such time as such use shall be approved by regulation or order of the Commission, to the extent such approval is required under the Act. A full statement of the provisions of the DRIP is included in WEC's Registration Statement on Form S-3 (Exhibit C-3 hereto). 2. Stock Incentive Plan Pursuant to the Merger Agreement, it was agreed that Primergy would adopt a stock compensation plan to replace the NSP Long-Term Incentive Award Stock Plan (the "NSP LTIASP") and the WEC 1993 Omnibus Stock Incentive Plan (the "WEC OSIP") (except with respect to obligations incurred thereunder prior to the NSP Merger) subject to approval by shareholders. The Primergy Stock Incentive Plan was approved by shareholders, will become effective at the effective time of the Mergers and will terminate ten years thereafter. The purpose of the Primergy Stock Incentive Plan is to enable Primergy and its subsidiaries and other affiliates (as defined in the Primergy Stock Incentive Plan) to attract, retain and motivate officers and employees and to provide Primergy and its affiliates with the ability to provide incentives directly linked to the profitability of Primergy's businesses, increases in shareholder value and the enhancement of customer service. -34- The Primergy Stock Incentive Plan has been designed to comply with recent tax law changes which impose limits on the ability of a public company to claim tax deductions for compensation paid to certain highly compensated executives. Section 162(m) of the Code generally denies a corporate tax deduction for annual compensation exceeding $1,000,000 paid to the Chief Executive Officer and the four other most highly compensated officers of a public company. Certain types of compensation, including performance-based compensation, are generally excluded from this deduction limit. While NSP and WEC believe compensation payable pursuant to the Primergy Stock Incentive Plan will be deductible for federal income tax purposes under most circumstances, compensation not qualified under Section 162(m) of the Code may be payable under certain circumstances such as death, disability and change in control (all as defined in the Primergy Stock Incentive Plan). Set forth below is a summary of certain important features of the Primergy Stock Incentive Plan, which summary is qualified in its entirety by reference to the actual plan (Exhibit C-4 hereto): The Primergy Stock Incentive Plan will be administered by the Primergy Compensation Committee, or such other committee of the Primergy Board as the Primergy Board may from time to time designate, and will be composed solely of not less than two "disinterested persons," as defined in Rule 16b-3, who also qualify as "outside directors" for purposes of Section 162(m) of the Code. Officers and salaried employees of Primergy and its affiliates designated by the Primergy Compensation Committee who are responsible for or who contribute to the management, growth and profitability of Primergy are eligible to be granted awards under the Primergy Stock Incentive Plan. No grant will be made under the Primergy Stock Incentive Plan to a director who is not an officer or a salaried employee. The Primergy Stock Incentive Plan authorizes the issuance of up to 12,000,000 shares of Primergy Common Stock pursuant to the grant or exercise of stock options, including incentive stock options ("ISOs"), nonqualified stock options, stock appreciation rights, restricted stock and performance units. However, no more than 3,000,000 shares may be issued as restricted stock. No single participant may be granted awards pursuant to the Primergy Stock Incentive Plan covering in excess of 100,000 shares of Primergy Common Stock in any one calendar year, and no participant may be granted performance units in any one calendar year, payable in cash in an amount that would exceed $1,000,000. Subject to the foregoing limits, the shares available under the Primergy Stock Incentive Plan can be divided among the various types of awards and among the participants as the Primergy Compensation Committee sees fit. The shares subject to grant under the Primergy Stock Incentive Plan are to be made available from authorized but unissued shares or from treasury shares as determined from time to time by the Primergy Board. Awards may be granted for such terms as the Primergy Compensation Committee may determine, except that the term of an ISO may not exceed ten years from its date of grant. The Primergy Compensation Committee will have broad authority to fix the terms and conditions of individual agreements with participants. -35- The exercise price of any stock option will not be less than 100% of the fair market value of such stock on the date of grant. A stock appreciation right ("SAR," and stock appreciation rights "SARs") may be granted in conjunction with a contemporaneously granted ISO or a previously or contemporaneously granted nonqualified option. Since the exercise of a SAR is an alternative to the exercise of an option, the option will be cancelled to the extent that the SAR is exercised, and the SAR will be cancelled to the extent the option is exercised. With respect to restricted stock, the Primergy Compensation Committee may, prior to granting shares of restricted stock, designate certain participants as "Covered Employees" upon determining that such participants are, or are expected to be, "Covered Employees" within the meaning of Section 162(m)(3) of the Code. The Primergy Compensation Committee will also provide that restricted stock awards to these Covered Employees cannot vest unless applicable performance goals established by the Primergy Compensation Committee within the time period prescribed by Section 162(m) of the Code are satisfied. These performance goals must be based on the attainment of specified levels of earnings per share, market share, stock price, sales, costs, net operating income, cash flow, retained earnings, return on equity, results of customer satisfaction surveys, aggregate product price and other product price measures, safety record, service reliability, demand-side management (including conservation and load management), operating and maintenance cost management, energy production availability and individual performance measures. Such performance goals may also be based on the attainment of specified levels of Primergy's performance under one or more of the measures described above relative to the performance of other corporations. Performance goals based on the foregoing factors are hereinafter referred to as "Performance Goals." With respect to Covered Employees, all Performance Goals must be objective performance goals satisfying the requirements for "performance-based compensation" within the meaning of Section 162(m)(4) of the Code. The Primergy Compensation Committee may also condition the vesting of restricted stock awards to participants who are not Covered Employees upon the satisfaction of these or other applicable performance goals. The provisions of restricted stock awards (including any applicable Performance Goals) need not be the same with respect to each participant. During the restriction period, the Primergy Compensation Committee may require that the stock certificates evidencing restricted shares be held by Primergy. Restricted stock may not be sold, assigned, transferred, pledged or otherwise encumbered. As to performance units, they may be denominated in shares of Primergy Common Stock or cash, or may represent the right to receive dividend equivalents with respect to shares of Primergy Common Stock, as determined by the Primergy Compensation Committee. Performance units will be payable in cash or shares of Primergy Common Stock if applicable Performance Goals (based on one or more of the measures described above regarding restricted stock awards) determined by such committee are achieved during an award cycle. An award cycle will consist of a period of consecutive fiscal years or portions thereof designated by the Primergy Compensation Committee over which performance units are to be earned. At the conclusion of a particular award cycle, the Primergy Compensation Committee will determine the number of performance units to be granted to a participant which have been earned in view of applicable Performance Goals and shall deliver to such participant (i) the number of shares of Primergy Common Stock equal to the value of performance units determined by the Primergy Compensation Committee to have been earned and/or (ii) cash equal to the value of such earned -36- performance units. The Primergy Compensation Committee may, in its discretion, permit participants to defer the receipt of performance units on terms and conditions established by the Primergy Compensation Committee. The Primergy Compensation Committee will have the authority to determine the officers and employees to whom and the time or times at which performance units shall be awarded, the number of performance units to be awarded to any participant, the duration of the award cycle and any other terms and conditions of an award. The Primergy Stock Incentive Plan provides that, in the event of any change in corporate capitalization, such as a stock split, or a corporate transaction such as any merger, consolidation, share exchange, separation, spin-off or other distribution of stock or property of Primergy, or any reorganization or partial or complete liquidation of Primergy, the Primergy Compensation Committee or the Primergy Board may make such substitutions or adjustments in the aggregate number and kind of shares reserved for issuance under the Primergy Stock Incentive Plan, in the number, kind and option price of shares subject to outstanding stock options and SARs, and in the number and kind of shares subject to other outstanding awards granted under the Primergy Stock Incentive Plan as may be determined to be appropriate by either the Primergy Compensation Committee or the Primergy Board, in its sole discretion. The Primergy Stock Incentive Plan also provides that in the event of a change in control (as defined in the Plan) of Primergy (i) any SARs and stock options outstanding as of the date of the change of control which are not then exercisable and vested will become fully exercisable and vested, (ii) the restrictions applicable to restricted stock will lapse and such restricted stock shall become free of all restrictions and fully vested and (iii) all performance units will be considered to be earned and payable in full, any restrictions will lapse and such performance units will be settled in cash as promptly as practicable. The holders of options (other than options of holders subject to Section 16(b) of the Exchange Act that were granted not more than six months before the change in control) will have the right, for a period of 60 days after such date, to surrender such options in exchange for a cash payment based on the change in control price (as defined in the Primergy Stock Incentive Plan). However, if settlement in cash would disqualify a transaction from pooling-of-interests accounting treatment, the Primergy Compensation Committee may substitute stock. E. Other NSP and WEC Stock Based Plans/Other Post-Transaction Financings NSP and WEC currently have one and two plans, respectively, in addition to the NSP LTIASP and the WEC OSIP which involve the issuance of shares of the companies' common stock to participating employees. Pursuant to the Merger Agreement, Primergy intends to adopt such stock-based plans (the "Primergy Other Stock-Based Benefit Plans") prior to consummation of the Transaction. Primergy will seek authorization from the Commission, as required, in connection with the Primergy shares to be issued under the Primergy Other Stock-Based Benefit Plans and in connection with other security issuances (including intra-system financings). It is intended that the authorization to be sought will follow an approach similar to that set forth in Consolidated -37- Natural Gas Company, Release No. 35-26467 (February 1, 1996) (proposed five year financing authorization). Item 2. Fees, Commissions and Expenses The fees, commissions and expenses to be paid or incurred, directly or indirectly, in connection with the Transaction, including the solicitation of proxies, registration of securities of Primergy under the Securities Act of 1933, and other related matters, are estimated as follows: Commission filing fee relating to Application-Declaration on Form U-1. . . . . . . . . . $2,000.00 Commission filing fee for the Joint Registration Statement on Form S-4 . . . . . . . . $1,065,569.75 Accountant's fees. . . . . . . . . . . . . . . . . . . . . . . (9) Legal fees and expenses relating to the Act. . . . . . . . . . (9) Other legal fees and expenses. . . . . . . . . . . . . . . . . (9) Other. . . . . . . . . . . . . . . . . . . . . . . . . . . . . (9) Shareholder communication and proxy solicitation . . . . . . . (9) NYSE listing fee . . . . . . . . . . . . . . . . . . . . . . . (9) Exchanging, printing, and engraving of stock certificates. . . . . . . . . . . . . . . . . . . . . (9) Investment bankers' fees and expenses Barr Devlin. . . . . . . . . . . . . . . . . . . . . . . . . (9) Goldman Sachs. . . . . . . . . . . . . . . . . . . . . . . . (9) Consulting fees related to human resource issues, public relations, regulatory support, and other matters relating to the Transaction. . . . . . . . . (9) Expenses related to integrating the operations of the merged company and miscellaneous . . . . . . . . . . . . . . . (9) TOTAL. . . . . . . . . . . . . . . . . . . . . . . . . . . . . (9) - ------------------------ (9) To be filed by Amendment. -38- Item 3. Applicable Statutory Provisions" The following sections of the Act and the Commission's rules thereunder are or may be directly or indirectly applicable to the proposed transaction:
Transactions to which section Section of the Act or rule is or may be applicable - ------------------- ------------------------------- 2(b), 3(a)(2) Temporary exemption of NSP from registration requirements pending merger of NSP-W into WEPCO. 4, 5 Registration of Primergy as a holding company following consummation of the Transaction. 6(a), 7 Issuance of Primergy Common Stock in the Transaction in exchange for shares of NSP Common Stock; issuance of Primergy Common Stock under Primergy Stock Incentive Plan and Primergy Dividend Reinvestment Plan; issuance of Stock by Primergy Hold to Primergy; issuance of stock of Primergy Services and the Additional Services Companies to Primergy; approval of all outstanding intra-system debt, including guarantees. 9(a)(1), 10 Acquisitions of Primergy Common Stock in open-market transactions under Primergy Stock Incentive Plan and Primergy Dividend Reinvestment Plan; acquisition by Primergy of stock of Primergy Hold, Primergy Services and the Additional Services Companies; acquisition by Primergy Hold of stock of certain non-utility subsidiaries of NSP and WEC and/or acquisition by Primergy of non-utility subsidiaries of NSP; acquisition by WEPCO of NSP-W. 9(a)(2), 10(a), Acquisition by Primergy of common stock of NSP and (b), (c) and (f) NSP-W. 8, 9(c)(3), 11(b), 21 Retention by Primergy of NSP's and WEC's gas operations and other businesses of NSP and WEC and their direct and indirect subsidiaries. 12(b) Approval of all outstanding intra-system debt, including guarantees. 13 Approval of the Service Agreement and services provided to utility affiliates thereunder by Primergy Services and the Additional Services Companies; incidental services -39- between NSP and WEPCO; approval of the Non-Utility Agreement and services provided to non-utility affiliates thereunder by Primergy Services and the Additional Services Companies; approval of the performance of certain services between Primergy system companies. 13(b)(1) Exemption from at-cost standards with respect to certain services. 32 Retention of EWGs. 33 Retention of FUCOS. Rules - ----- 42 Open-market purchases of Primergy Common Stock pursuant to the Primergy Dividend Reinvestment Plan and Stock Incentive Plan. 80-92 Primergy Services and the Additional Services Companies charges to Primergy system companies; NSP charges to WEPCO and WEPCO charges to NSP; charges for services among Primergy system companies. 83(a) Exemption from at-cost standards with respect to certain services. 87(a)(3) Incidental Services between NSP and WEPCO and among the Primergy System Companies. 88 Approval of Primergy Services and the Additional Services Companies as subsidiary service companies.
To the extent that other sections of the Act or the Commission's rules thereunder are deemed to be applicable to the Transaction, such sections and rules should be considered to be set forth in this Item 3. -40- A. Transaction Section 9(a)(2) makes it unlawful, without approval of the Commission under Section 10, "for any person...to acquire, directly or indirectly, any security of any public-utility company, if such person is an affiliate...of such company and of any other public-utility or holding company, or will by virtue of such acquisition become such an affiliate." Under the definition set forth in Section 2(a)(11)(A), an "affiliate" of a specified company means "any person that directly or indirectly owns, controls, or holds with power to vote, 5 per centum or more of the outstanding voting securities of such specified company," and "any company 5 per centum or more of whose outstanding voting securities are owned, controlled, or held with power to vote, directly or indirectly, by such specified company...." NSP, WEPCO and NSP-W are public-utility companies as defined in Section 2(a)(5) of the Act. Since WEC currently owns more than five percent of the voting securities of WEPCO and will acquire more than five percent of the voting securities of NSP (and, indirectly, NSP-W) as a result of the Transaction, and because NSP will become an "affiliate" of WEC as a result of the Transaction, WEC must obtain the approval of the Commission for the Transaction under Sections 9(a)(2) and 10 of the Act. Moreover, following the acquisition of NSP, WEC will need Commission approval under Section 9(a) to consummate the merger of NSP-W into WEPCO. The statutory standards to be considered by the Commission in evaluating the Transaction are set forth in Sections 10(b), 10(c) and 10(f) of the Act. As set forth more fully below, the Transaction complies with all of the applicable provisions of Section 10 of the Act and should be approved by the Commission. Thus: - The consideration to be paid in the Transaction is fair and reasonable; - The Transaction will not create detrimental interlocking relations or concentration of control; - The Transaction will not result in an unduly complicated capital structure for the Primergy system; - The Transaction is in the public interest and the interests of investors and consumers; - The Transaction is consistent with Sections 8 and 11 of the Act; - The Transaction tends toward the economical and efficient development of an integrated electric utility system; and - The Transaction will comply with all applicable state laws. Furthermore, this Transaction also provides an opportunity for the Commission to follow certain of the interpretive recommendations made by the Division of Investment Management (the "Division") in the report issued by the Division in June 1995 entitled "The Regulation of Public Utility Holding Companies" (the "1995 Report"). While the Transaction and the requests contained in this Application/Declaration are well within the precedent of transactions approved by the Commission as consistent with the Act prior to the 1995 Report and thus could be approved without any reference to the 1995 Report, a number of the recommendations contained therein serve to strengthen the applicants' analysis and would facilitate the creation of a new holding company better able to compete in the rapidly evolving utility industry. The Division's -41- overall recommendation that the Commission "act administratively to modernize and simplify holding company regulation...and minimize regulatory overlap, while protecting the interests of consumers and investors,"(10) should be used in reviewing this Application/Declaration since, as demonstrated below, the Transaction will benefit both consumers and shareholders of Primergy and since the other federal and state regulatory authorities with jurisdiction over this Transaction will have approved it as in the public interest. In addition, although discussed in more detail in each applicable item below, the specific recommendations of the Division with regard to financing transactions,(11) utility ownership(12) and diversification(13) are applicable to this Transaction. 1. Section 10(b) Section 10(b) provides that, if the requirements of Section 10(f) are satisfied, the Commission shall approve an acquisition under Section 9(a) unless: (1) such acquisition will tend towards interlocking relations or the concentration of control of public-utility companies, of a kind or to an extent detrimental to the public interest or the interest of investors or consumers; (2) in case of the acquisition of securities or utility assets, the consideration, including all fees, commissions, and other remuneration, to whomsoever paid, to be given, directly or indirectly, in connection with such acquisition is not reasonable or does not bear a fair relation to the sums invested in or the earning capacity of the utility assets to be acquired or the utility assets underlying the securities to be acquired; or (3) such acquisition will unduly complicate the capital structure of the holding-company system of the applicant or will be detrimental to the public interest or the interest of investors or consumers or the proper functioning of such holding-company system. - --------------- (10) Letter of the Division of Investment Management to the Securities and Exchange Commission, 1995 Report. (11) E.G., the reduced regulatory burdens associated with routine financings. 1995 Report at 50. (12) E.G., the Commission should apply a more flexible interpretation of the integration requirements under the Act; the Commission's analysis should focus on whether the resulting system will be subject to effective regulation; the Commission should liberalize its interpretation of the "A-B-C" clauses and permit combination systems where the affected states agree, and the Commission should "watchfully defer" to the work of other regulators. 1995 Report at 71-77. (13) E.G., the Commission should promulgate rules to reduce the regulatory burdens associated with energy-related diversification and the Commission should adopt a more flexible approach in considering all other requests to enter into diversified activities. 1995 Report at 88-90. -42- (a) Section 10(b)(1) (i) Interlocking Relationships By its nature, any merger results in new links between previously unrelated companies. However, these links are not the types of interlocking relationships targeted by Section 10(b)(1), which was primarily aimed at preventing business combinations unrelated to operating synergies. The Merger Agreement provides for the Board of Directors of Primergy to consist of twelve members, six designated by NSP and six designated by WEC.(14) In addition, each of the subsidiaries of Primergy is expected to enter into a service agreement with Primergy Services and/or the Additional Services Companies. These actions are necessary to integrate NSP and WEC fully into the Primergy system and will therefore be in the public interest and the interest of investors and consumers. Forging such relationships is beneficial to the protected interests under the Act and thus is not prohibited by Section 10(b)(1). Moreover, the benefits that will accrue to the public, investors and consumers from the combination of NSP and WEC make clear that whatever interlocking relationships may arise from the combination are not detrimental. (ii) Concentration of Control Section 10(b)(1) is intended to prevent utility acquisitions that would result in "huge, complex, and irrational holding company systems at which the Act was primarily aimed." American Electric Power Company, Inc., 46 SEC 1299, 1307 (1978). In applying Section 10(b)(1) to utility acquisitions, the Commission must determine whether the acquisition will create "the type of structures and combinations at which the Act was specifically directed." Vermont Yankee Nuclear Power Corp. et al., 43 SEC 693, 700 (1968). The NSP-WEC strategic alliance will not create a "huge, complex and irrational system," but rather will afford the opportunity to achieve economies of scale and efficiencies which are expected to benefit investors and consumers. Size: While the combination of NSP and WEC will result in a large utility system, it certainly will not be one that exceeds the economies of scale of current electric generation and transmission technology. If approved, the Primergy system will serve approximately 2.3 million electric customers and 750,000 gas customers in a 61,600-square mile area in five states. As of December 31, 1995, the combined assets of NSP and WEC totaled approximately $10.649 billion and, for the year ended December 31, 1995, combined operating revenues totaled approximately $4.339 billion. As of December 31, 1995 the combined owned summer generating capacity of NSP, NSP-W and WEPCO totaled 13,093 Mw. The Commission has approved a number of acquisitions involving larger and similarly-sized operating utilities. See, e.g., CINergy Corp., Release No. 26146 (October 21, 1994) (combination of Cincinnati Gas Electric Co. and PSI Resources; combined assets at time of - --------------- (14) The applicants acknowledge the requirements of Section 17(c) of the Act and Rule 70 thereunder with respect to limitations upon directors and officers of registered holding companies and subsidiary companies thereof having affiliations with commercial banking institutions and investment bankers, and undertake that, upon completion of the Mergers, they will be in compliance with the applicable provisions thereof. -43- acquisition of approximately $7.9 billion); Entergy Corporation, Release No. 35-25952 (December 17, 1993) (acquisition of Gulf States Utilities; combined assets at time of acquisition in excess of $22 billion); Northeast Utilities, Release No. 35-25221 (December 21, 1990) (acquisition of Public Service Company of New Hampshire; combined assets at time of acquisition of approximately $9 billion); Centerior Energy Corp., Release No. 35-24073 (April 29, 1986) (combination of Cleveland Electric Illuminating and Toledo Edison; combined assets at time of acquisition of approximately $9.1 billion); American Electric Power Company, Inc., 46 SEC 1299 (1978) (acquisition of Columbus and Southern Ohio Electric; combined assets at time of acquisition of close to $9 billion).(15) As the following table demonstrates, five of the twelve registered electric utility holding company systems--Southern, Entergy, Central and South West, Northeast and AEP--will be larger--and in some cases significantly larger--than Primergy in terms of assets, operating revenues, customers and/or sales of electricity:(16)
TOTAL OPERATING ELECTRIC SALES IN ASSETS REVENUES CUSTOMERS KWH SYSTEM TOTAL ($ MILLIONS) ($ MILLIONS) (THOUSANDS) (MILLIONS) - ------------ ------------ ------------ ----------- ---------- Southern 27,042 8,297 3,507 139,991 Entergy 22,613 5,798 2,360 97,452 AEP 15,713 5,505 2,773 114,080 CSW 10,909 3,623 1,661 57,334 Northeast 10,585 3,643 1,680 40,159 Primergy 10,649 4,339 2,352 68,284
Primergy will be a mid-size registered holding company, and its operations will not exceed the economies of scale of current electric generation and transmission technology or provide undue power or control to Primergy in the region in which it will provide service. Efficiencies and economies: As noted above, the Commission has rejected a mechanical size analysis under Section 10(b)(1) in favor of assessing the size of the resulting system with reference to the efficiencies and economics that can be achieved through the integration and coordination of utility operations. As the Commission stated in American Electric Power Company, although the framers of the Act were concerned about "the evils of bigness, they were - --------------- (15) These numbers are unadjusted for inflation. The AEP-Columbus number in particular would be considerably higher in current dollars. (16) Except for Primergy amounts which are as of December 31, 1995 or for the year ended December 31, 1995, amounts are as of December 31, 1994 or for the year ended December 31, 1994. -44- also aware that the combination of isolated local utilities into an integrated system afforded opportunities for economies of scale, the elimination of duplicate facilities and activities, the sharing of production capacity and reserves and generally more efficient operations...[and][t]hey wished to preserve these opportunities...." 46 SEC at 1309. More recent pronouncements of the Commission confirm that size is not determinative. Thus, in Centerior Energy Corp., Release No. 35-24073 (April 29, 1986), the Commission stated flatly that a "determination of whether to prohibit enlargement of a system by acquisition is to be made on the basis of all the circumstances, not on the basis of size alone." See also Entergy Corporation, et al., Release No. 35-25952 (December 17, 1993). In addition, in the 1995 Report, the Division recommended that the Commission approach its analysis on merger and acquisition transactions in a flexible manner with emphasis on whether the transaction creates an entity subject to effective regulation and is beneficial for shareholders and customers as opposed to focusing on rigid, mechanical tests.(17) By virtue of the Transaction, Primergy will be in a position to realize the "opportunities for economies of scale, the elimination of duplicate facilities and activities, the sharing of production capacity and reserves and generally more efficient operations" described by the Commission in American Electric Power Company, 46 SEC 1299, 1309. Among other things, the Transaction is expected to yield labor cost savings, corporate and administrative and purchasing savings, fuel and purchased gas savings, and savings associated with nuclear operations. These expected economies and efficiencies from the combined utility operations are described in greater detail in Item 3.A.2.d.(i). below and are projected to result in savings of approximately $2.0 billion over the first ten years alone. A portion of these savings will result in direct energy cost savings to electric and gas customers through lower rates. Competitive Effects: Section 10(b)(1) also requires the Commission to consider possible anticompetitive effects of a proposed combination. See Entergy Corporation, supra at 2041, citing MUNICIPAL ELECTRIC ASS'N OF MASSACHUSETTS, ET AL. V. SEC, 413 F. 2d 1052, 1056-1058 (D.C. Cir. 1969). As the Commission noted in Northeast Utilities, Release No. 35-25221 (December 21, 1990), the "antitrust ramifications of an acquisition must be considered in light of the fact that the public utilities are regulated monopolies and that federal and state administrative agencies regulate the rates charged to customers." NSP and WEC will file Notification and Report Forms with the Department of Justice and the Federal Trade Commission pursuant to the HSR Act describing the effects of the Transaction on competition in the relevant market and it is a condition to the consummation of the Transaction that the applicable waiting period under the HSR Act shall have expired. In addition, the competitive impact of the Transaction will be fully considered by the FERC, and is the one issue the FERC has set for hearing. A detailed explanation of the reasons why the Transaction will not threaten competition in even the most narrowly drawn geographic and product markets is set forth in the prepared testimony of Dr. Joe D. Pace, filed with the FERC on behalf of NSP and WEC, a copy of which is filed as Exhibit D-1.2. The application filed by NSP and WEC with the FERC is filed as Exhibit D-1.1. The Commission may - --------------- (17) 1995 Report at 73-74. -45- appropriately rely upon the FERC with respect to such matters. Entergy Corporation, supra at 2042 citing CITY OF HOLYOKE GAS & ELECTRIC DEPARTMENT, ET AL. V. SEC, 972 F.2d 358, 363-64 quoting WISCONSIN'S ENVIRONMENTAL DECADE, INC. V. SEC, 882 F.2d 523,527 (D.C. Cir. 1989). As summarized in the testimony and exhibits of Dr. Pace, there are three potential markets that could be impacted: (1) the long-term power supply market, (2) the short-term capacity market and (3) the non-firm energy market. With respect to the long-term power supply market, neither entity would control barriers to entry such as generating sites or fuel sources. Hence, neither NSP, WEPCO nor the combined Primergy would have any market dominance over building new generating facilities. With respect to the short-term capacity markets, the exhibits to Dr. Pace's testimony indicate that the combined Primergy system would be short of capacity commencing in 1997. Hence, from a supply standpoint, the combined Primergy system will be a net purchaser in the short-term capacity market in the immediate future. Thus, it would have no market power in that market. Finally, with respect to the non-firm energy market, Dr. Pace's testimony and exhibits discuss a robust competitive market. The impact of the merger will have a pro-competitive impact insofar as it makes available to a number of potential purchasers in the non-firm energy market, at a single transmission rate, a number of additional potential suppliers. To illustrate, utilities that are presently interconnected only with WEPCO will gain access, via the merger and the single system Primergy tariff rate, to an additional sixteen entities for the same transmission price, for purposes of accessing non-firm energy supplies. Dr. Pace's exhibits also show that neither NSP, WEPCO nor Primergy in combination could have a dominant market position in the non-firm energy markets. To the extent that transmission constraints prevent the import of additional energy at times from MAPP to MAIN (or to the WUMS area of MAIN), the commitments which the applicants have made before FERC alleviate any potential anticompetitive effects of such constraints. Those commitments include the two commitments described below under Item 3.A.2.(d).(ii)., namely, the commitment to sell only at incremental cost and the waiver of priority rights for the import of non-firm energy. In addition, NSP and WEPCO have agreed to operate under an Independent Tariff Administrator to alleviate any concerns over their potential ability to exercise transmission market power. See Item 4.B. below. For these reasons, the Transaction will not "tend toward interlocking relations or the concentration of control" of public utility companies, of a kind or to the extent detrimental to the public interest or the interests of investors or customers within the meaning of Section 10(b)(1). -46- (b) Section 10(b)(2) As noted above, the Commission may not approve the proposed combination of NSP and WEC under Section 10(b)(2) if it finds that the consideration to be paid in connection with the combination, including all fees, commissions and other remuneration, is "not reasonable or does not bear a fair relation to the sums invested in or the earning capacity of...the utility assets underlying the securities to be acquired...." (i) Reasonableness of Consideration NSP and WEC believe that standards of Section 10(b)(2) regarding consideration are satisfied in the present case for the following reasons. First, the Transaction is a pure stock-for-stock exchange and qualifies for treatment as a pooling of interests(18). As set forth more fully above, each share of NSP Common Stock will be converted into the right to receive 1.626 shares of Primergy Common Stock, each share of NSP Preferred Stock will be converted into a share of New NSP Stock having terms under the New NSP Articles identical to the terms in the NSP Articles, and each share of WEC Common Stock will continue as a share of Primergy Common Stock. The Transaction will therefore involve no "acquisition adjustment" or other write-up of the assets of WEC or NSP. The only difference for a NSP preferred shareholder is that they will own shares in a Wisconsin corporation (i.e., New NSP), rather than a Minnesota corporation, (i.e., NSP), which differences are explained in the Joint Registration Statement (Exhibit C-1 hereto). - --------------- (18) Twelve specific conditions must be met to qualify as a pooling. The Transaction should meet those criteria as follows: (1) Both NSP and WEC were autonomous and were not a subsidiary or division of another corporation within two years before the plan of combination was initiated; (2) At the date of the merger initiation and at the date of consummation NSP and WEC are independent of each other; (3) NSP and WEC will undertake a course of action which will attempt to complete the transaction within one year in accordance with a specific plan, or completed in a single transaction. Litigation or proceedings of a governmental authority that delay the completion of a plan are excepted from the one-year rule, provided they are beyond the control of the combining companies; (4) At the consummation date of the plan, Primergy will offer and issue its majority class of stock (voting rights) for no less than 90% of the voting common stock interests of NSP and WEC. The 90% or more of the voting common stock interests being acquired is determined at the date the plan is consummated; (5) No changes in the equity interests of the voting common stock of NSP or WEC were to be made in contemplation of a pooling of interests. This restriction is for a period beginning two years prior to the initiation date of the plan of combination and for the period between the initiation date and the consummation date; (6) NSP and WEC will not reacquire any of its voting common stock in substance or form to effect a business combination. Any reacquisition must be a normal amount as evidenced by both companies' patterns of reacquisition prior to the merger; (7) Each NSP and WEC common stockholder will receive a voting common stock interest exactly in proportion to his or her voting common stock interest prior to the combination; (8) The NSP and WEC common shareholders will receive the rights they are entitled to and will not be deprived or restricted in any way from exercising those rights; (9) The entire merger agreement will be effected on the date of consummation; (10) Subsequent to consummation the combined corporation, Primergy will not agree to reacquire or retire any of the stock which was issued to effect the transaction; (11) Primergy will not enter into any agreements to the benefit of the former shareholders of NSP or WEC, such as loan guarantees; (12) Primergy will not plan to dispose of substantial amounts of the assets of NSP or WEC within two years of the date of the combination other than routine transactions in the ordinary course of business or to eliminate excess capacity. -47- Second, the Transaction was submitted to, and approved by, the affected public shareholders, i.e., the common shareholders of WEC and NSP and the preferred shareholders of NSP. Holders of approximately 97.3% of WEC's common stock represented at the meeting approved the Transaction and holders of approximately 96.2% of NSP's common and preferred stock represented at the meeting approved the Transaction. Third, the Ratio is the product of extensive and vigorous arms-length negotiations between WEC and NSP. These negotiations were preceded by extensive due diligence, analysis and evaluation of the assets, liabilities and business prospects of each of the respective companies. See "Background of the Mergers" at pages 33-38 of the Joint Registration Statement (Exhibit C-1 hereto). As recognized by the Commission in Ohio Power Co., 44 SEC 340, 346 (1970), prices arrived at through arms-length negotiations are particularly persuasive evidence that Section 10(b)(2) is satisfied. Finally, nationally-recognized investment bankers for WEC and NSP have reviewed extensive information concerning the companies, analyzed the Ratio employing a variety of valuation methodologies and have opined that the Ratio is fair to the respective holders of WEC Common Stock and NSP Common Stock. The investment bankers' analyses and opinions are described in detail on pages 41 to 51 of the Joint Registration Statement (Exhibit C-1 hereto). The assistance of independent consultants in setting considerations has been recognized by the Commission as evidence that the requirements of Section 10(b)(2) have been met. The Southern Company; SV Ventures, Inc., Release No. 35-24579 (February 12, 1988). In rendering their fairness opinions, NSP's investment banker (Goldman Sachs) and WEC's investment banker (Barr Devlin) performed a number of analyses relevant to the reasonableness of the Ratio and the analyses' relation to the investment in, and earning capacity of, the utility assets of NSP and WEC. These analyses considered, among other things, the pro forma effect of the Transaction on Primergy's earnings, dividends and cash flow, and the respective contributions of NSP and WEC to Primergy in terms of assets, earnings, dividends, cash flow and businesses. Both Barr Devlin and Goldman Sachs considered both public and non-public historical and projected financial information and forecasts related to the earnings, assets, business, dividends, cash flow, and prospects of NSP and WEC; historical market prices and trading activities of NSP Common Stock and WEC Common Stock and certain publicly traded companies deemed similar; and other information, as more fully described on pages 41 to 51 of the Joint Registration Statement. It is noteworthy that the pro forma analyses conducted by both Goldman Sachs and Barr Devlin indicated that the Transaction would be accretive. Specifically, Goldman Sachs' pro forma earnings analysis suggested that the Transaction would be accretive to NSP shareholders (based on earnings projections by NSP and WEC management for the years 1995 through 1999), and Barr Devlin's analysis indicated that, on a pro forma basis, WEC shareholders would experience accretion in earnings, dividends and book value per share (based on projections by WEC management for 1995 through 1999). -48- In light of these opinions and an analysis of all relevant factors, including the benefits that may be realized as a result of the Transaction, the Ratio falls within the range of reasonableness, and the consideration for the Transaction bears a fair relation to the sums invested in, and the earning capacity of, the utility assets of NSP and WEC. (ii) Reasonableness of Fees WEC and NSP believe that the overall fees, commissions and expenses incurred and to be incurred in connection with the Transaction are reasonable and fair in light of the size and complexity of the Transaction relative to other transactions and the anticipated benefits of the Transaction to the public, investors and consumers, are consistent with recent precedent, and meet the standards of Section 10(b)(2). As set forth in Item 2 of this Application-Declaration, NSP and WEC together expect to incur a combined total of approximately $30 million in fees, commissions and expenses in connection with the Transaction. By contrast, The Cincinnati Gas and Electric Company and PSI Resources, Inc. together incurred $47.1 million in fees, commissions and expenses in connection with their combination into CINergy Corp., Northeast Utilities alone incurred $46.5 million in fees and expenses in connection with its acquisition of Public Service Company of New Hampshire and Entergy alone incurred $38 million in fees in connection with its recent acquisition of Gulf States Utilities--all of which amounts were approved as reasonable by the Commission. See CINergy Corp., Release No. 35-26146 (October 21, 1994); Northeast Utilities, et al., Release No. 35-25548 (June 3, 1992); Entergy Corporation, et al., Release No. 35-25952 (December 17, 1993). With respect to financial advisory fees, NSP and WEC believe that the fees payable to their investment bankers are fair and reasonable for similar reasons. In January 1995, NSP engaged Goldman Sachs as a financial advisor to assist the senior management of NSP in exploring the possibility of a business combination with WEC. The Board of Directors of NSP selected Goldman Sachs as a financial advisor in connection with the proposed business combination because Goldman Sachs, as part of its investment banking business, is continually engaged in the valuation of businesses and their securities in connection with mergers and acquisitions, negotiated underwritings, competitive biddings, secondary distributions of listed and unlisted securities, private placements and valuations for estate, corporate and other purposes. Goldman Sachs is familiar with NSP, having acted as its financial advisor in connection with, and having participated in certain of the negotiations leading to, the Merger Agreement. Goldman Sachs has also provided certain investment banking services to NSP from time to time, including acting as managing underwriter of certain public offerings of debt securities of NSP. Pursuant to the terms of an engagement letter, dated January 10, 1995, between NSP and Goldman Sachs (the "Goldman Sachs Engagement Letter"), NSP has paid Goldman Sachs, through December 31, 1995, approximately $5.5 million for rendering its fairness opinion and for advice and assistance with respect to strategic matters relating to the Transaction, valuation analyses and structuring and planning the business combination of WEC and NSP and has reimbursed certain of its expenses in connection with the Merger Agreement. -49- Pursuant to the terms of the Goldman Sachs Engagement Letter, Goldman Sachs will be paid a fee of $8.1 million if a business combination between NSP and WEC is concluded, against which any advisory fees, and any amount paid by NSP under the Goldman Sachs Engagement Letter, will be credited. NSP has also agreed to reimburse Goldman Sachs for its reasonable out-of-pocket expenses, including all reasonable fees and disbursements of legal counsel, and to indemnify Goldman Sachs and certain related persons against certain liabilities in connection with Goldman Sachs' engagement, including certain liabilities under the federal securities laws. On January 12, 1995, WEC entered into an engagement letter with Barr Devlin pursuant to which Barr Devlin was retained to act as WEC's financial advisor in connection with a potential business combination with NSP. Barr Devlin was selected as WEC's financial advisor because Barr Devlin and principals of Barr Devlin have a long history of association in the investment banking and electric and gas utility industries. Barr Devlin is a privately-held investment banking firm specializing in strategic and merger advisory services to the electric and gas utility industries, the energy industry and selected other industries. In this capacity, Barr Devlin and principals of Barr Devlin have been involved as advisors in numerous transactions and advisory assignments in the electric, gas and energy industries and are constantly engaged in the valuation of businesses and securities within such industries. Pursuant to the terms of Barr Devlin's engagement, WEC has agreed to pay Barr Devlin for its services in connection with the Mergers (i) a financial advisory retainer fee of $50,000 per quarter (which is the same retainer fee required by a 1993 letter agreement between WEC and Barr Devlin for ongoing financial advisory services, quarterly payment under such earlier agreement constitutes payment of the quarterly retainer fee due for services rendered in connection with the Mergers); (ii) an initial financial advisory progress fee of $1,500,000 payable upon execution of the Merger Agreement; (iii) an additional financial advisory progress fee of $1,500,000 payable upon WEC shareholders' approval of the Merger Agreement and related matters; (iv) if the Mergers are consummated, a transaction fee based on the aggregate consideration (i.e., the fair market value at the closing date of the Mergers of the Primergy Common Stock issued pursuant to the Merger Agreement) to be paid in connection with the Mergers, ranging from 0.45% of the aggregate consideration (for a transaction with an aggregate consideration of $1,000,000,000) to 0.35% of the aggregate consideration (for a transaction with an aggregate consideration of $4,000,000,000) and (v) if WEC were to receive a termination fee pursuant to the Merger Agreement and/or the NSP Stock Option Agreement, a breakup fee in an amount which is equal to 20% of the excess of the aggregate amount of all such termination fees over the direct out-of-pocket expenses incurred by WEC in connection with the Mergers. If the Merger had been consummated as of December 31, 1995, the transaction fee payable to Barr Devlin would have been approximately $12.5 million. All retainer fees payable during the term of the engagement, all financial advisory progress fees and an additional $750,000 would be credited against any transaction fee payable to Barr Devlin, reducing the actual fee to approximately $11.8 million. If a transaction fee is paid by WEC, Barr Devlin has agreed to waive its rights to the four subsequent quarterly retainer fee payments otherwise payable pursuant to the 1993 letter agreement following the date such transaction fee becomes payable. WEC has agreed to reimburse Barr Devlin for its out-of-pocket expenses, including fees and expenses of legal counsel and other advisors engaged with the -50- consent of WEC, and to indemnify Barr Devlin against certain liabilities, including liabilities under the federal securities laws, relating to or arising out of its engagement. Pursuant to terms of the January 12, 1995 engagement letter, WEC has paid Barr Devlin through December 31, 1995 approximately $3.3 million for rendering its fairness opinion and for advice and assistance with respect to strategic matters relating to the transaction, valuation analysis and structuring and planning the business combination of WEC and NSP and reimbursed expenses in connection with the Merger Agreement. In connection with Barr Devlin's engagement, WEC has also agreed to consider Barr Devlin as one of the potential candidates to act as WEC's financial advisor in future transactions of a specified nature, if any, for a period of three years following the date any transaction fee becomes payable. If Barr Devlin were to be so engaged, the consideration to be paid to Barr Devlin for any such successful future transaction would be at a discount from its normal fee scale. If WEC were to engage a financial advisor other than Barr Devlin for such a future transaction, the discounted fee schedule would not apply to any subsequent engagement of Barr Devlin. In the instant case, the aggregate fees to be paid to both companies' investment bankers in connection with the Transaction--approximately $19.9 million described above--constitute approximately 0.29% of the companies' combined market value. These fees are generally in accord with the fees approved by the Commission in recent cases. In one recent case, the Commission approved investment banking fees equal to 0.96% of the aggregate value of the acquisition, The Southern Company; SV Ventures, Inc., Release No. 35-24579 (December 12, 1988), or more than three times the investment banking fee here on a percentage basis. In Centerior Energy Corp., Release No. 35-24073 (April 29, 1986), relating to the affiliation of two utility companies under a new common holding company, the Commission approved combined investment banking fees amounting to 0.275% of the combined market value of the two companies' common stock. In its order approving the acquisition by Northeast Utilities of Public Service Company of New Hampshire, the Commission approved approximately $10.6 million in financial advisory fees for Northeast alone, representing in excess of 0.35% of the value placed by the bankruptcy court on the assets to be acquired. Northeast Utilities, et al., Release No. 35-25548 (June 3, 1992). In the Entergy-Gulf States decision, the Commission approved financial advisory fees of $8.3 million by Entergy to its investment bankers, representing 0.36% of the market value of the transaction. Entergy Corporation, et al., Release No. 35-25952 (December 17, 1993). Finally, in CINergy, the Commission approved investment banking and financial advisory fees of approximately $13.1 million, amounting to 0.31% of the aggregate combined market value of the two companies' common stock. CINergy Corp., Release No. 35-26146 (October 21, 1994). The estimated financial advisory fees to be paid by NSP and WEC in connection with the Transaction are smaller on a percentage basis than those approved in Southern, Northeast Utilities, Entergy and CINergy, and are comparable on a percentage basis to those approved in Centerior Energy. Finally, the investment banking fees of NSP and WEC reflect the competition in the marketplace, in which investment banking firms actively compete with each other to act as financial advisors to merger partners. - -------------- (19) Based on the number of shares of NSP Common Stock and WEC Common Stock outstanding as of December 31, 1995 and their closing prices on December 31, 1995 of $49.125 and $30.625 per share, respectively. -51- (c) Section 10(b)(3) Section 10(b)(3) requires the Commission to determine whether the Transaction will "unduly complicate the capital structure" of the Primergy system or will be "detrimental to the public interest or the interest of investors or consumers or the proper functioning" of the Primergy system. Capital structure: The corporate capital structure of Primergy after the Transaction will not be unduly complicated and will be substantially similar to capital structures approved by the Commission in other orders. See, e.g., Centerior Corp., Release No. 35-24073 (April 29, 1986); Midwest Resources, Inc., et al., Release No. 35-25159 (September 26, 1990); CINergy Corp., Release No. 35-26146 (October 21, 1994). Primergy's capital structure will also be similar to the capital structures of existing registered holding company systems. In the Transaction, the shareholders of WEC and NSP will receive Primergy Common Stock. Primergy will own 100% of the common stock of NSP and WEPCO and there will be no minority common stock interest remaining in either company. Each outstanding share of NSP and WEPCO preferred stock will remain outstanding without change, except that, as explained above, NSP preferred stock will be converted into New NSP preferred stock having terms under New NSP's Articles identical to the terms of NSP's Articles. The outstanding New NSP preferred stock will consist of 2.4 million shares, consisting of 10 series. Each share of New NSP preferred stock (like the existing preferred stock of NSP) is entitled to one vote per share on all matters presented to stockholders, other than the $3.60 series consisting of 275,000 shares, which is entitled to three votes per shares. If the Transaction were consummated December 31, 1995, the outstanding New NSP preferred stock would have represented 4.1% of the total voting power of the New NSP preferred and common stock, 5.7% of the total capital of New NSP (including long-term and short-term debt) and 10.6% of the book equity which comprises common and preferred stock and retained earnings. For the year ended December 31, 1995, NSP's combined fixed charges and preferred dividend requirements were covered 3.41 times before provision for taxes. In addition, due to the obligations imposed by the states in which New NSP will operate and the substantial financial commitment of Primergy in New NSP, there is virtually no likelihood that New NSP's assets or businesses will be permitted to deteriorate to an extent that would jeopardize the interests of the New NSP preferred stock. The Commission has found previously that the existence of preferred stock under facts similar to those of New NSP does not violate the standards of Sections 10(b)(3), 10(c)(1) or 11(b)(2) of the Act. Illinois Power Company, 44 SEC 140 (1970). See also Niagara Mohawk Power Corporation, SEC No-Action Letter (January 24, 1991) and Texas Utilities Co., 31 SEC 367 (1950). The existing debt securities of WEPCO, NSP and NSP-W will likewise remain outstanding without change, except that, with the merger of NSP-W into WEPCO, the debt of NSP-W will become the debt of WEPCO. The only voting securities of Primergy which will be publicly held after the Transaction will be Primergy Common Stock. Primergy will have the ability to issue, subject to the approval of the Commission, preferred stock, the terms of which, including any voting rights, may be set by Primergy's Board of Directors as has been authorized by the Commission with regard to other registered holding -52- companies. See, e.g., The Columbia Gas System, Inc., Release No. 35-26361 (August 25, 1995) (approving restated charter, including preferred stock whose terms, including voting rights, can be established by the board of directors). The only class of voting securities of Primergy's or Primergy Hold's direct non-utility subsidiaries will be common stock and, in each case, all issued and outstanding shares of such common stock will be held by Primergy or by Primergy Hold (other than as noted above for C&F, which is 75.86% owned, and Custometrics, which is 50% owned). Set forth below are summaries of the historical capital structures of NSP and WEC as of December 31, 1995, and the pro forma consolidated capital structure of Primergy (assuming the transactions proposed herein occurred on December 31, 1995): NSP and WEC Historical Capital Structures (dollars in millions) NSP WEC --------------- --------------- Common stock equity $2,028 48.3% $1,871 53.8% Preferred stock 240 5.7 30 0.9 Long-term debt 1,542 36.8 1,368 39.3 Short-term debt (20) 383 9.2 209 6.0 ------ ------ ------ ------ Total $4,193 100.0% $3,478 100.0% Primergy Pro Forma Consolidated Capital Structure (dollars in millions) (unaudited) Common stock equity $3,899 50.8% Preferred stock 270 3.5 Long-term debt 2,910 37.9 Short-term debt (21) 592 7.8 ------ ----- Total $7,671 100.0% Primergy's pro forma consolidated common equity to total capitalization ratio of 50.8% is significantly higher than Northeast Utilities' 27.6% common equity position and comfortably exceeds the "traditionally acceptable 30% level." Northeast Utilities, Release No. 35-25221 (December 21, 1990). Protected interests: Section 10(b)(3) also requires the Commission to determine whether the proposed combination will be detrimental to the public interest, the interests of investors or consumers or the proper functioning of the Primergy system. The combination of NSP and WEC is entirely consistent with the proper functioning of a registered holding company system. NSP's and WEPCO's utility operations will be fully integrated. Further, the combination will result in - -------------- (20) Including long-term debt due currently. (21) Including long-term debt due currently. -53- substantial, otherwise unavailable, savings and benefits to the public and to consumers and investors of both companies and the integration of NSP and WEPCO will improve the efficiency of their respective systems. The integration of NSP and WEPCO is described below in Item 3.A.2.d.(ii) and the benefits and savings are described in Item 3.A.2.d.(i). Moreover, as noted by the Commission in Entergy Corporation, Release No. 35-25952 (December 17, 1993), "concerns with respect to investors' interests have been largely addressed by developments in the federal securities laws and the securities market themselves." Primergy, WEPCO and NSP will be reporting companies subject to the continuous disclosure requirements of the Securities Exchange Act of 1934 (the "1934 Act") following the completion of the Transaction. The various reports previously filed by NSP and WEC under the 1934 Act contain readily available information concerning the Transaction. For these reasons, the applicants believe that the Transaction will be in the public interest and the interest of investors and consumers, and will not be detrimental to the proper functioning of the resulting holding company system. 2. Section 10(c) Section 10(c) of the Act provides that, notwithstanding the provisions of Section 10(b), the Commission shall not approve: (1) an acquisition of securities or utility assets, or of any other interest, which is unlawful under the provisions of Section 8 or is detrimental to the carrying out of the provisions of Section 11 (22); or (2) the acquisition of securities or utility assets of a public-utility or holding company unless the Commission finds that such acquisition will serve the public interest by tending towards the economical and the efficient development of an integrated public utility system.... (a) Section 10(c)(1) Section 10(c)(1) requires that the proposed acquisition be lawful under Section 8. Section 8 prohibits registered holding companies from acquiring, owning interests in or operating both a gas and an electric utility serving substantially the same area if state law prohibits it. Following the Transaction, NSP will provide electric and gas utility services in Minnesota and North Dakota and WEPCO will provide electric and gas utility services in Wisconsin and Michigan. In addition, NSP will continue to provide electric, but not gas, utility services in South Dakota and, through the acquisition of the Designated Gas Utility Assets, will provide gas service in Wisconsin. Since Wisconsin, Minnesota, Michigan and North Dakota law all permit combination gas and electric utilities serving the same area, the Transaction does not raise any issue under Section 8 or, accordingly, the first clause of Section 10(c)(1). Indeed, Section 8 - -------------- (22) By their terms, Sections 8 and 11 only apply to registered holding companies and are therefore inapplicable at present to WEC or NSP, since neither is now a registered holding company. The following discussion of Sections 8 and 11 is included only because, under the present transaction structure, Primergy will register as a holding company after consummation of the Transaction. -54- indicates that a registered holding company may own both gas and electric utilities where, as here, the relevant state utility commissions support such an arrangement. Section 10(c)(1) also requires that transactions not be detrimental to carrying out the provisions of Section 11. Section 11(a) of the Act requires the Commission to examine the corporate structure of registered holding companies to ensure that unnecessary complexities are eliminated and voting powers are fairly and equitably distributed. As described above in Item 3.A.1.c., the Transaction will not result in unnecessary complexities or unfair voting powers. Although Section 11(b)(1) generally requires a registered holding company system to limit its operations "to a single integrated public-utility system, and to such other businesses as are reasonably incidental, or economically necessary or appropriate to the operations of such integrated public-utility system," a combination integrated gas and electric system within a registered holding company is permissible under Section 8. Additionally, Section 11(b)(1) provides that "one or more additional integrated public utility systems" may be retained if, as here, certain criteria are met. Section 11(b)(2) directs the Commission "to ensure that the corporate structure or continued existence of any company in the holding company system does not unduly or unnecessarily complicate the structure, or unfairly or inequitably distribute voting power among security holders, of such holding-company system." As detailed below, the Transaction will not be detrimental to the carrying out of the provisions of Section 11. (b) Retention of Gas Operations NSP and NSP-W have provided retail gas distribution service for more than 70 years. Initially, this service was provided from coal through local manufactured gas or "town gas" plants. From the late 1940's to the early 1960's, interstate natural gas pipelines (primarily Northern Natural Gas Company and Midwestern Gas Transmission Company (renamed Viking in 1989)) were constructed to provide natural gas delivery to NSP and NSP-W gas distribution systems in each significant city served by NSP or NSP-W. NSP and NSP-W also operated certain propane-air LPG peak shaving plants to meet firm customer demand during extreme peak winter weather conditions. During the gas supply shortages of the 1970's, NSP and NSP-W constructed the Westcott and Eau Claire LNG plants to provide needed peak supply reliability for firm customers. NSP and NSP-W also responded to FERC's efforts from 1983 to 1993 to restructure the interstate pipeline industry. In 1984, NSP and NSP-W were among the first LDCs in the United States to convert from firm pipeline "full requirements" sales service to firm transportation-only service, when FERC approved this conversion on Midwestern. FERC Docket No. CP83-73. In 1987, NSP and NSP-W began offering "open access" retail transportation service to eligible large customers. NSP and NSP-W currently purchase transportation only service from six United States pipeline carriers and one Canadian pipeline carrier and storage from four underground storage -55- service providers. NSP and NSP-W procure natural gas supplies from numerous suppliers located in every significant supply basin in North America. The LNG and LPG peak shaving plants provide significant delivery capability without incurring additional year-round pipeline fixed charges. As a result of this "grid" approach to gas supply acquisition, NSP and NSP-W have retail gas rates which are among the lowest in the region and well below the national average, and the diversity of supply and delivery routes provide for increased reliability for firm customers. Approximately 10.1% of the gas delivered by NSP and NSP-W is third party gas purchased directly by large industrial retail customers. Under rate designs approved by the various regulatory agencies, NSP and NSP-W are financially indifferent to whether a customer purchases sales or transportation only service. WEPCO and its predecessor gas distribution companies have provided gas service to customers in Wisconsin for more than 140 years. From 1855 to 1950 "town gas" was manufactured from coal and delivered to customers. Beginning in 1950, Michigan Wisconsin Pipeline Co. (now ANR Pipeline) extended facilities to the WEPCO service territory and customers were converted to natural gas. WEPCO also operated several propane-air peak shaving facilities to meet customer requirements in extremely cold weather. In 1965, WEPCO constructed a LNG peak shaving plant to further meet customer demand during very cold weather. This was the first successful utility-owned above ground LNG plant in the country. Over the years, the LNG plant has saved customers millions of dollars by replacing contracted services from the pipeline. WEPCO also responded to FERC's efforts in the mid 1980's to restructure the interstate pipeline industry. In 1985, WEPCO offered open access transportation to eligible customers on its distribution system when ANR Pipeline allowed transportation on the interstate pipeline system. At the same time, WEPCO began purchasing a portion of its natural gas from suppliers other than ANR and used the pipeline for transportation only. In 1988, WEPCO successfully completed connections to two additional pipelines, Natural Gas Pipeline of America and Northern Natural Gas Company. WEPCO currently purchases transportation services on four interstate pipelines and storage services from three pipelines. Natural gas is procured from a number of different suppliers located in the mid-continent, Gulf Coast and Canadian production areas. The LNG and propane-air peak shaving plants continue to provide gas service to customers on the coldest days of the year while reducing pipeline demand charges. WEPCO continues to offer competitively priced natural gas sales service to customers who prefer delivered gas service. WEPCO also provides transportation and balancing services to a number of commercial and industrial customers who prefer to purchase their own gas and transport their gas on pipelines and through the WEPCO distribution system. Under this transportation service, approximately one third of all gas delivered by WEPCO is third party gas owned by customers. Under rate designs approved by the various regulatory agencies, WEPCO is financially indifferent to whether a customer purchases sales or transportation only service. For more general information regarding the gas operations of NSP, NSP-W, and WEPCO, see Items 1.B.2.a.(v)., and 1.B.2.b.(v). As part of the Transaction, the Designated Gas Utility Assets of NSP-W will be transferred to New NSP. The Designated Gas Utility Assets are located in western Wisconsin and -56- border the existing gas operations of NSP in Minnesota. As a result, following the Transaction, NSP will be an electric and gas utility whose gas utility business will consist of its current gas utility business plus the small portion transferred to it by NSP-W, and WEPCO will be an electric and gas utility whose gas utility business will consist of its current gas utility business and the remaining gas utility business of NSP-W. For the reasons set forth below, Primergy's retention of such gas operations would not be unlawful under Section 8 of the Act or detrimental to the carrying out of Section 11 of the Act. Today NSP and WEC are exempt holding companies, primarily engaged in the energy services business. Following consummation of the Transaction, NSP and WEPCO will continue to be energy services companies. In today's changing energy markets, consumers and regulators must be--and are--more careful with limited energy resources than was ever contemplated in 1935. Increasingly, customers select among different forms of energy to perform the same or similar tasks depending upon environmental and economic factors. As energy service companies, NSP and WEPCO offer, and the Primergy system will offer, diverse forms of energy to customers, thereby allowing choices among different forms of energy, which, in turn, fosters efficiency and conservation. By providing such choices, energy companies assist in the allocation of scarce national resources, under the supervision of local regulators who are most familiar with the needs of the local constituencies. This modern energy business, with a high level of state scrutiny, is a far cry from the marketplace and regulatory situation perceived by the drafters of the Act and the then-perceived abuses that arose from combination companies. The fears expressed at that time, the "favoring of one of these competing forms of energy over the other," SEC V. NEW ENGLAND ELECTRIC SYSTEM, 384 U.S. 176, 183 (1966), are no longer realistic in today's market. For the reasons set forth below, and in the accompanying memorandum attached to the Application as Exhibit J-4, retention of all of the gas properties currently owned by NSP and WEPCO under the Transaction should be approved by the Commission. The retention of these properties is totally consistent with the Congressional intent behind Section 8 of the Act. Moreover, the loss of economies that would result from divestiture meets all the criteria set forth in prior pronouncements by the Commission for retention of such properties under Section 11(b)(1)(A) and Sections 11(b)(1)(B) and (C). (i) Retention is Appropriate Under Sections 8 and 11 Section 8 of the Act provides that "[w]henever a State law prohibits, or requires approval or authorization of, the ownership or operation by a single company of the utility assets of an electric utility company and a gas utility company serving substantially the same territory, it shall be unlawful for a registered holding company, or any subsidiary company thereof...(1) to take any step, WITHOUT THE EXPRESS APPROVAL OF THE STATE COMMISSION OF SUCH STATE, which results in its having a direct or indirect interest in an electric utility company and a gas utility company serving substantially the same territory; or (2) if it already has any such interest, to acquire, WITHOUT THE EXPRESS APPROVAL OF THE STATE COMMISSION, any direct or indirect interest in an electric utility company or gas utility company serving substantially the same territory as that served by such companies in which it already has an interest." (emphasis added) -57- On its face, Section 8 indicates that, with the approval of the relevant state utility commissions, registered holding company systems can include both electric and gas utility systems. A careful reading of the section indicates that the thrust of the section is to preclude the use of the registered holding company form to circumvent any state law restrictions on the ownership of gas and electric assets by the same company. Thus, registered holding companies, or a registered holding company system that includes combination companies, are implicitly acceptable under the statute absent an objection by the affected state. NSP and WEC believe that a reemphasis by the Commission on Section 8, which would allow registered combination companies if, as is the case here, they are permitted by the affected states, is consistent both with the Act and its policy objectives. Indeed, over time the Commission has emphasized different aspects of Section 8 and its interplay with Section 11--initially allowing registered holding companies to own both gas and electric systems under Section 8, then focusing solely on Section 11 as controlling determinations regarding combination companies and requiring the second system to meet a strict interpretation of the requirements set forth in clauses A, B and C of Section 11(b)(1). See discussion of Section 11(b)(1) below. In its early decisions, the Commission adhered to the concept that the decision of whether or not to allow combination companies was one that states should make (although the Commission might have to implement it in certain cases) and, where such systems were permissible, the role of the Commission was to ensure that both such systems were integrated as defined in the Act. Therefore, if a combination company did not violate state policy, there was no need for the Commission to exercise jurisdiction to implement state policy. By the early 1940's, however, the Commission, faced with further perceived abuses, switched its focus to Section 11 and adopted a narrow interpretation of the standards contained therein as the controlling factor with regard to combination registered holding companies.(23) In connection with its analysis of combination companies under Section 11, the Commission frequently noted a policy concern existing at that time which advocated separating the management of gas and electric utilities based on the belief that the gas utility business tended to be overlooked by combination company management who focused on the electric business. Therefore, it was believed that gas utilities would benefit from having separate management focused entirely on the gas utility business.(24) Both the legislative history of the Act and recent changes in the utility industry indicate that it is now, not only appropriate, but absolutely necessary, for the Commission to reemphasize the provisions of Section 8 of the Act and allow - -------------- (23) See, e.g., IN THE MATTER OF COLUMBIA GAS & ELECTRIC CORPORATION, 8 SEC 443 at 463 (1941); IN THE MATTER OF UNITED GAS IMPROVEMENT COMPANY, 9 SEC 52 (1941); SECURITIES AND EXCHANGE COMMISSION V. NEW ENGLAND ELECTRIC SYSTEM, 384 U.S. 175 (1966). It should be noted that the Commission continued to give primacy to state utility commission determinations in making decisions regarding combination exempt holding companies. See, e.g., IN THE MATTER OF NORTHERN STATES POWER COMPANY, 36 SEC 1 (1954); DELMARVA POWER & LIGHT CO., 46 SEC 710 (1976); WPL HOLDINGS, Release No. 35-24590 (February 26, 1988). (24) See, e.g., IN THE MATTER OF THE PHILADELPHIA COMPANY, 28 SEC 35, 48 (1948); IN THE MATTER OF THE NORTH AMERICAN COMPANY, 11 SEC 196, 197-90 (1942); IN THE MATTER OF ILLINOIS POWER COMPANY, Release No. 11 SEC 140 (1970). -58- combination registered holding companies where, as in this case, they are permitted under relevant state law. A review of the legislative history of Section 8 clarifies its purpose. The Senate Committee on Interstate Commerce in its report on the Act noted that the provision in Section 8 concerning combination companies "is concerned with competition in the field of distribution of gas and electric energy--a field which is essentially a question of State policy, but which becomes a proper subject of Federal action where the extra-State device of a holding company is used to circumvent State policy." The Report of the Committee on Interstate Commerce, S. Rep. No. 621 at 31 (1935). In addition, attached to the committee report is the Report of the National Power Policy Committee on Public-Utility Holding Companies, which sets forth a recommended policy that: "Unless approval of a State commission can be obtained the commission would not permit the use of the holding-company form to combine a gas and electric utility serving the same territory where local law prohibits their combination in a single entity." Nothing in this history suggests a Congressional desire to prohibit outright all combination companies where state approvals can be obtained. Much more recently, as discussed in more detail below, in the 1995 Report the Division recommended that the Commission interpret Section 11(b)(1) of the Act to allow registered holding companies to hold both gas and electric operations as long as each affected state utility regulatory commission approves of the existence of such a company.(25) Local regulators are in the best position to assess the needs of their communities. The Act was never intended to supplant local regulation but, rather, was intended to create conditions under which local regulation was possible. Section 21 of the Act, which codifies this legislative intent, states: Nothing in [the Act] shall affect...the jurisdiction of any other commission, board, agency, or officer of...any State, or political subdivision of any State, over any person, security, or contract, insofar as such jurisdiction does not conflict with any provision of [the Act].... The legislative history reveals that Section 21 of the Act was further intended "to insure the autonomy of State commissions [and]nothing in the [Act] shall exempt any public utility company from obedience to the requirements of State regulatory law." S. Rep. No. 621, 74th Cong., 1st Sess. (1935) p. 10. The Act should not be used as a tool to override state policy, particularly when the holding company involved is subject to both state and federal regulation and when the affected state regulatory commissions have supported the combined electric and gas operations in one holding company system. Finally, reemphasis on Section 8 fits within the overall regulatory scheme of the Act. Section 11 of the Act is flexible and was designed to change as the policy concerns over the - -------------- (25) 1995 Report at 70. -59- regulation of utility holding companies changed.(26) As discussed below, the electric and gas utility industries and the regulation of those industries have changed dramatically in recent years. It is competitive forces (the very thing that the Act was designed to promote) that are pushing energy companies, including registered holding companies unless they are to be prevented from competing, to offer alternative forms of energy. Moreover, a registered holding company would still be required to demonstrate that any acquisition or transaction by which it would become a combination company would not be detrimental to the carrying out of the provisions of Section 11 of the Act. In other words, its electric system would have to constitute an integrated electric system and its gas system would have to constitute an integrated gas system and both systems would have to be capable of being operated efficiently. Thus, the standards of Section 11 would still have to be met, but the application of those standards should take into account the fundamental policy of the Act and allow local regulators to make the threshold determination with regard to combination companies. Each of NSP and WEPCO as a combination company is permissible pursuant to the terms of Section 8 of the Act because the affected states are expected to approve the continued combined activities, and each is in the public interest. In addition, as part of retail merger approvals, the MPUC and the PSCW will both review and approve NSP's, WEC's and WEPCO's acquisition of parts of the NSP-W gas system. Furthermore, as required by Section 11, in addition to the fact that NSP's and WEPCO's electric systems constitute an integrated electric system, the gas systems of each together will constitute an integrated gas system as explained in detail below under Item 3.A.2.d.(ii). With respect to Section 8, the combination of electric and gas operations is lawful under all applicable state laws for each of NSP and WEPCO and has been considered and approved indirectly on numerous occasions by Wisconsin, Minnesota, North Dakota and Michigan regulators who have, and will continue to have, direct jurisdiction over the Primergy gas operations. The use of Primergy as a holding company for two combination companies will not circumvent any state regulations, since the gas utility operations of each of NSP and WEPCO individually will continue to be regulated by the relevant jurisdictions. In addition, in their applications for approval of the Transaction by the Minnesota, Wisconsin, Michigan and North Dakota regulatory commissions--who have, and will continue to have, direct jurisdiction over the Primergy system's gas utility operations located in their respective states--NSP and WEC expect these commissions to either order or express approval for NSP and WEPCO to continue as combination electric and gas utility companies through the retention of NSP's and WEPCO's gas operations and of Primergy as a holding company of NSP and WEPCO. Such actions will reflect the recognition by these commissions that the existence of both gas and electric systems in the Primergy holding company system will allow Primergy's customers greater choice to meet their energy needs, especially given the fact that the electric and gas systems operate in substantially the same territory, while sharing in the synergies that result from the Transaction. Moreover, the prior fear that a holding company such as Primergy would be able to greatly emphasize one form of energy over the other based on its own agenda has dissipated both because of the competitive - -------------- (26) Mississippi Valley Generating Co., 36 SEC 159 (1955) (noting that Congress intended the concept of integration to be flexible); UNITIL Corporation, Release No. 35-25524 (April 24, 1992) (noting that Section 11 contains a flexible standard designed to accommodate changes in the industry). -60- nature of the energy market, which requires utilities to meet customer energy supply requirements or risk losing the customer to a competing supplier, and because state regulators will have sufficient control over, and would be unlikely to approve, a combination company that attempts to undertake such practices. Furthermore, the Commission has had the opportunity to review the gas utility operations of NSP and WEC in prior orders. See Northern States Power Company, 36 SEC 118 (1954), Northern States Power Company, Release No. 35-22334 (December 23, 1981) and Wisconsin Energy Corporation, Release No. 35-24267 (December 18, 1986). The decision of the Commission in Northern States Power Company, 36 SEC 1, 8 (1954) is noteworthy for the Commission's grant of an exemption to NSP under Section 3(a)(2) despite the Staff's strenuous objections to NSP retaining its gas utility properties in St. Paul, Minnesota. In this regard, the Commission noted: Before considering the Division's contentions, it should be observed that the continuance of combined gas and electric service by Northern States in St. Paul not only does not circumvent state law or policy but is affirmatively desired by the local authorities concerned. The State of Minnesota has home-rule legislation and the City of St. Paul has authorized and actively favors the continuance by Northern States of combined gas and electric service, and urges that the exemption be granted. The report of the Senate Committee on Interstate Commerce pointed out in connection with its comments on Section 8 of the Act that competition in the field of distribution of gas and electric energy is "essentially a question of State policy."(27) The considered conclusion of the local authorities, deriving their power from specific State legislation, should be given great weight in determining whether the public interest would in fact be adversely affected by the retention of combined operations. In the absence of a compelling showing in the record to the contrary, we would not be warranted in rejecting the appraisal of such authorities that the local public interest, which is the public interest that is significantly affected by the gas and electric combination in St. Paul, is served by retention of the combined operation. In Northern States Power Company, Release No. 35-22334 (December 23, 1981), the Commission continued NSP's Section 3(a)(2) exemption virtually without discussion. In Wisconsin Energy Corporation, Release No. 35-24267 (December 18, 1986), the Commission reviewed at length its prior decisions on ownership of electric and gas utility operations by exempt holding companies and noted the extensive regulation by the PSCW of holding companies. The Commission granted WEC an exemption under Section 3(a)(1) and reserved jurisdiction over its retention of the gas utility operations of WNG. For all of these reasons, the Commission should approve the retention by NSP and WEPCO of their respective gas properties as contemplated by the Transaction. No policy would be furthered by requiring divestiture, and, indeed, state policy would be thwarted by such a requirement. - -------------- (27) S. Rep. No. 671, 74th Cong., 1st Sess. (1935), p. 29. -61- -62- (ii) Retention is also Appropriate Under Section 11(b)(1) Even if the Act were not interpreted as generally permitting combination gas and electric systems upon state approval, Section 11 contains other provisions that permit the retention by NSP and WEPCO of their respective gas systems. Section 11(b)(1) of the Act permits a registered holding company to control one or more additional integrated public utility systems--i.e., gas as well as electric--if: (A) Each of such additional systems cannot be operated as an independent system without the loss of substantial economies which can be secured by the retention of control by such holding company of such system; (B) All of such additional systems are located in one State, or in adjoining States, or in a contiguous foreign country; and (C) The continued combination of such systems under the control of such holding company is not so large (considering the state of the art and the area or region affected) as to impair the advantages of localized management, efficient operation, or the effectiveness of regulation. Each of these requirements is satisfied in this Transaction, and retention is, therefore, appropriate on the basis of Section 11(b)(1). CLAUSE A OF SECTION 11(B)(1) IS SATISFIED. In the 1995 Report, the Division recommended that the Commission "liberalize its interpretation of the `A-B-C' clauses.(28) Historically, however, as a "guide" to determining whether lost economies are "substantial" under Section 11(b)(1)(A), under its previous narrow interpretation of this section, the Commission had given consideration to four ratios, which measure the projected loss of economies as a percentage of: (1) total gas operating revenues; (2) total gas expense or "operating revenue deductions;" (3) gross gas income and (4) net gas income or net gas utility operating income. Although the Commission has declined to draw a bright-line numerical test under Section 11(b)(1)(A), it has indicated that cost increases resulting in a 6.78% loss of operating revenues, a 9.72% increase in operating revenue deductions, a 25.44% loss of gross gas income and a 42.46% loss of net income would afford an "impressive basis for finding a loss of substantial economies." Engineers Public Service Co., 12 SEC 41, 59 (1942). DIRECT LOSS OF ECONOMIES. NSP and WEPCO have each prepared separate studies of their respective gas utility operations that analyze the lost economies that their gas utility operations would suffer upon divestiture when compared to their retention pursuant to the Transaction. These studies are attached to this Application as Exhibit J-1 and Exhibit J-2 (the "Gas Studies"). As set forth in the Gas Studies, if the gas operations of NSP and WEC were operated on a stand-alone basis, lost economies from the need to replicate services, the loss of economies of scale, the costs of reorganization, and other factors would be immediate and - -------------- (28) 1995 Report at 74. -63- substantial. In the absence of rate relief, those lost economies would substantially injure the shareholders of NSP and WEC upon the divestiture of those gas operations. As the studies further show, if rate relief were granted with respect to the lost economies, then consumers would bear those substantial costs over what they would have to pay if the properties were retained as contemplated by the Transaction. As set forth in the Gas Studies, divestiture of the gas operations of WEPCO, NSP and NSP-W into stand-alone companies would result in lost economies of $36,426,393 for WEPCO, $30,102,000 for NSP and $9,289,000 for NSP-W. The table below shows the gas operating revenues, gas operating revenue deductions, gas gross income and gas net income of NSP, NSP-W and WEPCO. COMPANY GAS OPERATING GAS OPERATING GAS GAS - ------- REVENUES REVENUE GROSS NET -------- DEDUCTIONS INCOME INCOME ---------- ------ ------ NSP $336,082,000 $300,024,000 $36,058,000 $26,655,000 NSP-W $78,015,000 $69,771,000 $8,244,000 $5,543,000 WEPCO $318,261,433 $271,238,964 $47,022,469 $31,944,293 On a percentage basis, the lost economies amount to 112.62% of 1995 gas net income in the case of WEPCO, 110.20% of gas net income in the case of NSP and 165.16% of gas net income in the case of NSP-W--far in excess of the loss of net income in UNITIL, where the Commission allowed the retention of gas utility operations, and the 30% loss in NEW ENGLAND ELECTRIC SYSTEM that the Commission has described as the highest loss of net income in any past divestiture order.(29) As a percentage of 1995 gas operating revenues, these lost economies described in the Gas Studies amount to 11.30% in the case of WEPCO, 8.74% in the case of NSP and 11.73% in the case of NSP-W--losses substantially higher than the losses in any past divestiture order.(30) As a percentage of 1995 expenses or operating revenue deductions, the lost - -------------- (29) See UNITIL Corp., Release No. 35-25524 (April 24, 1992) ("The Commission has required divestment where the anticipated loss of income of the stand-alone company was approximately 30%..." or "29.9% of net income before taxes") citing SEC v. NEW ENGLAND ELECTRIC SYSTEM, 390 U.S. 207, 214 n. 11 (1968). (30) The highest loss of operating revenues in any case ordering divestiture is commonly said to be 6.58%. See, e.g., UNITIL CORP., Release No. 35-25524 (April 24, 1992). ("[o]f cases in which the Commission has required divestment, the highest estimated loss of operating revenues of a stand-alone company was 6.58%..."), citing IN RE ENGINEERS PUBLIC SERVICE CO., 12 SEC 41 (1942). In fact, however, the 6.58% ratio is not cited in Engineers and is a post hoc calculation derived from claimed cost increases which the Commission had found were "overstated" and "doubtful" in a number of respects. IN RE ENGINEERS PUBLIC SERVICE CO., 12 SEC 41, 80-81 (1942). See ALSO IN RE PHILADELPHIA CO., 28 SEC 35, 51 n. 26 (1949) (Engineers' "estimate...of increased expenses...was overstated in several respects."). While the SEC made no finding as to actual cost increases or ratio for the Gulf States gas properties, it found that Engineers' estimate of divestiture-related ratios cost increases or ratio for certain sister gas properties in Virginia were also overstated and cut them and the resulting ratios in half. IN RE ENGINEERS PUBLIC SERVICE CO., 12 SEC 41, 60 (1942). If the same 50% discount were applied to Engineers' Gulf States gas properties, the loss of operating revenues would have been 3.29%, the increase in expenses would have been 4.73%, the loss of gross income would have been 10.43%, and the loss of net income would have been 12.63%. Disregarding the 6.58% ratio incorrectly attributed to the Engineers/Gulf States case, the highest loss of operating revenues in any past divestiture order was 5.85%. See table of ratios in NEW ENGLAND ELECTRIC SYSTEM, 41 SEC 888, 905 app. (1964) (The North American Company). This figure would be even lower if adjusted for the increases in purchased gas costs since the 1940's. -64- economies described in the Gas Studies would amount to 13.26% in the case of WEPCO, 9.79% in the case of NSP, and 13.12% in the case of NSP-W, higher than the losses in any past divestiture order and, in ENTERGY, another case in which the Commission authorized the retention of gas operations. As a percentage of 1995 gross income, the lost economies described in the Gas Studies amount to 76.51% in the case of WEPCO, 81.46% in the case of NSP and 111.05% in the case of NSP-W, far in excess of the highest loss of gross income in any divestiture order. In order to recover these lost economies, WEPCO's gas division would need to increase rate revenue by $36,426,393 or 11.45%, NSP would have to increase revenues by $30,102,000 or 8.96% and NSP-W would have to increase rate revenue by $9,289,000 or 11.91%. These increases in rate revenues would have a direct and immediate negative impact on the rates charged to customers for gas services. In addition, the customers of WEPCO and NSP gas business who are also customers of their respective electric utility businesses will experience a doubling of their postage costs to pay separate bills. The total estimated increase in such postage costs is $3.84 per customer per year or $1,631,000 in the aggregate ($1,356,000 for NSP gas customers and $275,000 for NSP-W gas customers). LOSS OF "ENERGY SERVICE COMPANY ECONOMIES." Divestiture would also result in the loss to consumers of the economies offered by the "energy services" approach of NSP and WEC to the utility business. While the losses cannot now be fully quantified, they are substantial. At the center of the energy services company concept is the idea that providing gas and electric products is only the start of the utility's job. In addition, the utility must provide enhanced service to the consumer by providing an entire package of both energy products and services. In this area, NSP's and WEC's efforts are part of a trend by utilities to organize themselves as energy service companies, that is, as providers of a total package of energy services rather than merely suppliers of gas and electric products. The goal of an energy service company is to retain its current customers and obtain new customers in an increasingly competitive environment by meeting customers' needs better than the competition. An energy service company can provide the customer with a low cost energy (i.e., gas, electricity or conservation) option without inefficient subsidies. Through the adoption of the energy services concept, combination utilities benefit all utility stockholders. For customers, a service company provides the convenience and efficiency of service by a single energy provider and reduces transaction costs incurred in gathering and analyzing information, contacting energy suppliers, negotiating terms of services and paying bills. For the communities in which an energy service company operates, combining gas and electric operations simplifies community planning on energy-related matters. For society, an energy service company is best able to ensure an environmentally efficient allocation of energy. For utility shareholders and employees, an energy service company is better able to -65- respond to a competitive environment and to remain an attractive investment opportunity for shareholders and an appealing employer for utility employees. THE A-B-C ANALYSIS SHOULD BE LIBERALIZED. Since 1968, in interpreting clause (A) of Section 11(b)(1), the Commission has historically looked to the Supreme Court decisions in SEC V. NEW ENGLAND ELECTRIC SYSTEM, ET AL., 384 U.S. 176 (1966) ("NEES I") and 390 U.S. 207 (1968) ("NEES II"). In NEES I, the Supreme Court accepted the Commission's interpretation of the "loss of substantial economies" language of clause (A) to require an applicant seeking to own an electric and gas utility system to show that the additional system, if separated from the principal system, would be incapable of independent economic operation. The Court in NEES I accepted the Commission's then-current interpretation of clause (A), despite earlier SEC interpretations permitting the Commission to use business judgment and expertise to apply the statutory phrase "loss of substantial economies." In NEES I, the Court specifically recognized that the language of clause (A) was "admittedly not crystal clear" and deferred to the agency's "EXPERTISE on the total competitive situation." 384 U.S. at 185 (emphasis in original). In NEES II, the Court reiterated and strengthened its earlier statement of deference to the Commission. 390 U.S. at 219. The Division recognized in the 1995 Report that the Commission was no longer bound by the narrow interpretation of Clause (A) under the NEES decisions. In so doing, the Division stated: As discussed above, the SEC has generally required electric registered holding companies that seek to own gas utility properties to satisfy the requirements of the A-B-C clauses concerning additional integrated systems. In contrast, exempt holding companies have generally been permitted to retain or acquire combination systems so long as combined ownership of gas and electric operations is permitted by state law and is supported by the interested regulatory authorities. In the past, the SEC has construed the A-B-C clauses narrowly to permit retention only where the additional system, if separated from the principal system, would be incapable of independent economic operations. Although the Supreme Court upheld the SEC's reading, two justices dissented, contending that the "serious impairment" standard was at odds with the wording of the Act, had little basis in the statutory history or aims of the Act, and could not be sustained by agency or judicial precedent. The dissenting justices believed that the statutory language "called for a business judgment of what would be a significant loss." Applicants in recent matters have argued that, in a competitive utility environment, any loss of economies threatens a utility's competitive position, and even a "small" loss of economies may render a utility vulnerable to significant erosion of its competitive position. There is general support for a more relaxed standard. A number of commenters emphasize that these are essentially state issues. It does not appear that the SEC's precedent concerning additional systems precludes the SEC from relaxing its interpretation of section 11(b)(1)(A). Indeed, the SEC has recognized that section 11 does not impose "rigid concepts" but -66- rather creates a "flexible" standard designed "to accommodate changes in the electric utility industry." Congress, in 1935, recognized that competition in the field of distribution of gas and electric energy is essentially a question of state policy. The Act was intended to ensure compliance with state law in this regard. Moreover, it appears that the utility industry is evolving toward the creation of one-source energy companies that will provide their customers with whatever type of energy supply they want, whether electricity or gas. Accordingly, the Division believes it is appropriate to reconcile the treatment of registered and exempt companies in this regard, and so recommends that the SEC permit registered holding companies to own gas and electric utility systems pursuant to the A-B-C clauses of section 11(b)(1), where the affected states agree.(31) In NEES I (and NEES II), the Court accepted the Commission's interpretation of Clause A as a "construction well within the permissible range given to those who are charged with the task of giving an intricate statutory scheme practical sense and application." 384 U.S. at 185. However, there is strong support in Supreme Court case law for the Commission's application in this case of its current interpretation of Clause A, based upon current competitive facts and current policy, as stated in the Division's 1995 Report. In CHEVRON USA, INC. V. NATIONAL RESOURCES DEFENSE COUNCIL, INC., 467 U.S. 837 (1984), the Court outlined the parameters for changing agency interpretations of statutory language based on policy considerations and agency expertise: When a court reviews an agency's construction of the statute which it administers, it is confronted with two questions. First, always, is the question whether Congress has directly spoken to the precise question at issue. If the intent of Congress is clear, that is the end of the matter; for the court, as well as the agency, must give effect to the unambiguously expressed intent of Congress. If, however, the court determines Congress has not directly addressed the precise question at issue, the court does not simply impose its own construction on the statute, as would be necessary in the absence of an administrative interpretation. RATHER, IF THE STATUTE IS SILENT OR AMBIGUOUS WITH RESPECT TO THE SPECIFIC ISSUE, THE QUESTION FOR THE COURT IS WHETHER THE AGENCY'S ANSWER IS BASED ON A PERMISSIBLE CONSTRUCTION OF THE STATUTE. 467 U.S. at 842 (citations omitted; emphasis added). Justice Scalia, the present dean of Supreme Court interpretations of administrative law, pointed out that the Court's CHEVRON opinion clearly "announced the principle that the courts will accept an agency's reasonable interpretation of the ambiguous terms of a statute that the agency administers." The Honorable Antonin Scalia, "Judicial Deference to Administrative Interpretations of Law," 1989 Duke L.J. 511. - -------------- (31) Division Report at 74, 75, 76. Footnotes omitted. -67- In the NEES I opinion, the Supreme Court specifically pointed out that "[t]he phrase 'without the loss of substantial economies' is admittedly not crystal clear." 384 U.S. at 185. Thus, the first prong of the analysis under CHEVRON is clearly met. As Justice Scalia pointed out, under CHEVRON: "the agency is free to give the statute whichever of several possible meanings it thinks most conducive to accomplishment of the statutory purpose. Under the latter regime, there is no apparent justification for holding the agency to its first answer, or penalizing it for a change of mind." 1989 Duke L.J. at 516. Justice Scalia convincingly argues that a primary point of CHEVRON is to allow agencies flexibility to change their statutory interpretations based upon current economic (and even political) considerations. Under CHEVRON, it is entirely appropriate for the Commission to interpret Clause A based on its CURRENT "EXPERTISE on the total competitive situation." (NEES I at 185.) Applicants believe that the Division's recommendation would represent sound policy by the Commission. From a policy perspective, the Commission's historic concern underpinning its 1964 NEES decision and a host of earlier decisions where the retainability of gas properties by registered electric systems was at issue--namely, of fostering competition between electric and gas--is simply no longer valid given the current "state of the art" in the electric and gas utility industries. In the generation since the Commission decided the NEES case, profound economic and regulatory factors have wrought a fundamental transformation in the gas supply and electric generation industry, rendering obsolete the Commission's earlier premises regarding the primacy of competition between gas and electric service and the lack of competition within electric and gas service. In the gas area, regulatory changes have introduced competition into what was formerly a monopoly and have expanded the availability of non-utility "transportation-only service" as an alternative to sales services from the local gas utility company. The NSP, NSP-W and WEPCO gas operations all have "open access" transportation-only service tariffs on file with their respective state commissions, and approximately 20.1% of the gas delivered by them in 1995 was directly purchased by customers. Combination utilities therefore have less ability than they did in 1935 to "favor" electric--the principal policy concern in decisions ordering the separation of gas and electric systems--by curtailing the availability or increasing the price of gas.(32) Combination utilities also have less incentive to favor electric over gas in light of the increasing importance of demand-side management, the costs and risks involved in the construction of new generating capacity and the incentives to avoid such construction, and, as noted in the June 1994 issue of THE ELECTRICITY JOURNAL, the emergence of integrated resource planning involving both gas and electric service. - -------------- (32) See, E.G., SEC V. NEW ENGLAND ELECTRIC SYSTEM, ET AL., 384 U.S. 176, 183-184 (1966). It is important to note that this issue--basically an anti-trust issue--was the principal concern in previous decisions ordering the separation of gas and electric systems and clearly is no longer applicable to the changed utility competitive environment. -68- In the electric area, the Energy Policy Act of 1992 and the Public Utility Regulatory Policies Act of 1978 have introduced competition into the electric utility business. As the chairman of the Senate Banking Committee stated recently: "[The Act] was substantially changed by the Energy Policy Act of 1992. That law restructured the utility industry to promote greater competition for the benefit of ENERGY customers. The Energy Policy Act of 1992 was the product of a cooperative effort on the part of the Banking Committee and the Energy Committee to create a more market-oriented regulatory framework for the ENERGY industry." Hearing on S. 182, The Communications Act of 1994 before the Comm. on Commerce, Science and Transportation, 103rd Cong. 2nd Sess. 344-345 (1994) (Prepared Statement of Senator Riegle) (emphasis added). In addition, many states have "retail wheeling" measures under discussion which are likely to have the effect of extending electric supply competition to the retail level. Minnesota, Wisconsin, Michigan and North Dakota are each in the process of evaluating various options that could increase electric supply competition at the retail level.(33) Instead of relying on the blunt instrument of competition BETWEEN gas and electric, national policy has now created direct competition WITHIN the gas and electric utility industries. Thus, combination ownership does not eliminate competition, since a combination utility now has competitors for both gas and electric service. Moreover, competition is not an end in itself, but is merely a means to the end of efficient, cost-effective service. Since combination ownership creates efficiencies and no longer has the effect of eliminating competition, there is no reason for the Commission to prohibit combination ownership, at least under the circumstances presented here. Nothing in the Supreme Court's NEES decisions compels a different result. First, as the Commission noted in its UNION ELECTRIC decision, the Supreme Court's NEES decisions attached "great weight ...to [the Commission's] expertise in the administration of the Act." 45 SEC 489, 509, N.77. (1974). The NEES decisions and the Court's reasoning in CHEVRON therefore leave the Commission free to apply its expertise to administer the Act in light of changes in legal, regulatory and economic circumstances which were not foreseen at the time of the NEES - -------------- (33) On December 12, 1995, the PSCW announced a determination outlining the general direction of electric utility regulation in Wisconsin. It includes a restructuring of the industry providing choice of electricity provider for all consumers by the year 2000 as well as establishment of a competitive generation business. The transmission and distribution functions would remain regulated. In a February 22, 1996 Report to the Wisconsin Legislature, the PSCW identified a 32 step workplan that it would follow for Electric Utility Restructuring in Wisconsin. In the plan, the PSCW indicated that during 1996 it will begin activities on 12 of these steps, some of which would seek changes in applicable administrative rules under its jurisdiction, including affiliated interest standards and quality of service standards. The PSCW expects to present an electric utility restructuring plan to the Wisconsin Legislature in 1997. The PSCW also continued a generic investigation of the natural gas industry in Wisconsin and addressed the extent to which traditional regulation should be replaced with a different approach. In conjunction with this generic investigation, the PSCW staff is reviewing the use of the current purchased gas adjustment ("PGA") mechanism which is designed to pass on to gas customers increases or decreases in the cost of natural gas purchased for resale. A separate docket has been established to review the PGA. -69- decisions, including federal legislation which has "substantially changed" the Act. See CHEVRON, 476 U.S. at 842. Second, as noted by the Commission in UNION ELECTRIC and later decisions, the NEES decisions are based on premises and policies that are no longer operative. SEE DELMARVA POWER & LIGHT CO., ET AL., 46 SEC 710, 716 (1976) ("the objective of promoting retail competition between gas and electricity, which was stressed in the NEES opinions is less critical now."); UNION ELECTRIC CO., 45 SEC 489, 510 (1974), CITY OF CAPE GIRARDEAU, MISSOURI V. SEC, 521 F.2d 324 (D.C. Cir. 1974) (describing as "outmoded" the Commissions' previous policy to "promot[e] the wider...use of gas and electric energy" and to "foster...variegated competition between gas and electricity and the attendant promotion of the use of each;" holding that "the maximization of energy use seems a questionable public policy objective" and that "[i]n today's world the public interest and the long-run consumer interest seem to call for prudent conservation and rational allocation" of resources). CLAUSES (B) AND (C) OF SECTION 11(B)(1) ARE SATISFIED. The remaining requirements of Section 11(b)(1) are met because the gas operations of WEPCO, NSP and NSP-W are located in the adjoining states of Wisconsin, Minnesota, Michigan (Upper Peninsula), and North Dakota and because the continued combination of the gas operations under Primergy is not so large, considering the state of the art and the area or region affected, as to impair the advantages of localized management, efficient operation or the effectiveness of regulation. The gas systems are confined to a relatively small area and are not as large as other gas systems in the same area and will preserve the advantages of localized management, efficient operation and effectiveness of regulation. Moreover, as the Commission has recognized elsewhere, the determinative consideration is not size alone or size in an absolute sense, either big or small, but size in relation to its effect, if any, on localized management, efficient operation and effective regulation. From these perspectives, it is clear that the continued combination of the gas operations under Primergy is not too large. Even after the combination, the gas operations of NSP and WEPCO, with some 750,000 customers combined in four states, will be smaller than NorAm (the parent of Minnegasco which has 2,700,000 customers, 630,000 of which are in Minnesota), Northern Illinois Gas Company (1,769,800 customers) and People's Gas Light and Coke Company (842,510 customers). These three gas utilities are NSP and WEPCO's primary competitors in the region. With respect to localized management, this issue is discussed for the Transaction as a whole under Item 3.A.2.d.(ii).(a). below. Applied solely to the gas operations, the current NSP, NSP-W and WEPCO gas systems enhance localized management within the larger corporate structure and will continue to do so after the Transaction is completed. As a result of the Transaction, the gas utility operations of NSP-W (other than the Designated Gas Utility Assets) will become part of WEPCO and the Designated Gas Utility Assets (i.e. the distribution systems servicing towns of LaCrosse and Hudson, Wisconsin) will become part of NSP. The centralized functions of NSP (including the Designated Gas Utility Assets) will be managed from St. Paul, Minnesota, and the local functions will continue to be handled from regional offices, including offices in or near LaCrosse and Hudson. Similarly, the -70- central gas utility functions for WEPCO (including the gas utility business acquired from NSP-W) will continue to be run from Milwaukee and local matters will be handled by regional offices. No reduction in customer service or support crews is expected. Management will therefore remain geographically close to the gas operations, thereby preserving the advantages of localized management. From the standpoint of regulatory effectiveness, NSP already operates a multi-jurisdictional (Minnesota and North Dakota) gas utility, as does NSP-W (Wisconsin and Michigan). In addition, several other gas utilities in the region serve customers in several states. Thus, the regulatory agencies in the four states are currently regulating multi-jurisdictional gas utilities and will be able to effectively regulate the gas utility operations of Primergy. In addition, it is expected that: (i) the Wisconsin and Michigan regulatory authorities will indicate their support for or order the retention of the existing gas system by WEPCO and will approve WEPCO's acquisition of NSP-W's gas utility business, (ii) that the North Dakota and Minnesota regulatory authorities will support the retention of the existing gas system of NSP and (iii) the Wisconsin Commission will approve NSP's acquisition of the Designated Gas Utility Assets, thereby indicating that they can regulate these systems effectively. With respect to efficient operation, as described below, as part of the Primergy System, the gas operations of NSP and WEPCO are expected to reduce purchased gas costs by $102 million from 1997 to 2000 and 100% of these savings will be passed on directly to customers. Far from impairing the advantages of efficient operation, the combination of the gas operations under Primergy will facilitate and enhance the efficiency of gas operations. For a more detailed discussion of Section 11(b)(1)(c), see the legal memorandum filed as Exhibit J-3 hereto. (c) Retention of Other Businesses As a result of the Transaction, the non-utility businesses and interests of NSP and WEC described in Item 1.B.5. above will become businesses and interests of Primergy. Certain of such businesses will be held directly by Primergy Hold, if formed, and if Primergy Hold is not formed, will be held directly by Primergy. In addition, the subsidiaries, affiliates and associates of the foregoing companies will become indirect subsidiaries, affiliates and associates, respectively, of Primergy. Corporate charts showing the subsidiaries, including non-utility subsidiaries of NSP and WEC, are filed as Exhibits E-10 and E-11. A corporate chart showing the projected arrangement of these subsidiaries under Primergy is filed as Exhibit E-12. Standard for retention: Section 11(b)(1) permits a registered holding company to retain "such other businesses as are reasonably incidental, or economically necessary or appropriate, to the operations of [an] integrated public utility system." Under the cases interpreting Section 11, an interest is retainable if (1) there is an operating or functional relationship between the operations of the utility system and the non-utility business sought to be retained, and retention is in the public interest,(34) or if (2) the business evolved out of the system's utility business, the investment is not significant in relation to the system's total financial resources, and the - -------------- (34) See, e.g., Michigan Consolidated Gas Co., 44 SEC 361, 365 (1970), aff'd, 444 F.2d 913 (D.C. Cir. 1971) (quoting General Public Utilities Corp., 32 SEC 807, 839 (1951)); United Light and Railways Co., 35 SEC 516, 519 (1954). -71- investment has the potential to produce benefits for investors and/or consumers.(35) In addition, the Commission has stated that "retainable non-utility interests should occupy a clearly subordinate position to the integrated system constituting the primary business of the registered holding company."(36) The vast majority of Primergy's non-utility business would be exempt from the Act. In addition, of the remainder, almost all of NSP's and certain of WEC's non-utility businesses that are not EWGs or FUCOs would be energy-related companies under the Commission's proposed Rule 58. Under proposed Rule 58, an energy-related company is a company that derives or will derive substantially all of its revenues (exclusive of revenues from temporary investments) from one of the twelve businesses described in the Rule and from such other activities and investments as the Commission may approve under Section 10. In the 1995 Report, in addition to the proposed Rule 58 safe harbor for energy-related diversification, the Division suggested the adoption of a DE MINIMUS "budget approach" for limited investments in activities which do not fit within previous orders of the Commission, yet appear to be within the meaning of the "other businesses" clauses of Section 11. The Division suggested that this approach would allow registered holding companies to make minimal investments without regard to the identity of each investment up to a certain authorized amount, provided certain structural considerations were observed which limited the potential losses to the amount of the investment and insulated the other system assets by isolating the activity in a separate subsidiary.(37) Furthermore, under the provisions of Section 9(c)(3), the Commission may permit investments which it determines are "appropriate in the ordinary course of business" and "not detrimental to the public interest or the interest of investors or consumers." Upon the consummation of the Transaction, each of the non-utility investments retained by Primergy from WEC and those to be acquired by Primergy from NSP will become subject to the jurisdiction of, and regulation by, the PSCW pursuant to the Wisconsin Act as described above in Item 1.B.1.b. The policy of the Wisconsin Act is set forth in its preamble, which explicitly recognizes that the financial health of a public utility depends upon the economic well-being of its service area and encourages the conduct of substantial business by the utility within the service area by, among other things, providing investment capital for new ventures. To foster these objectives, and to ensure safe and reliable service at competitive rates, the Wisconsin Act contains provisions concerning oversight by the PSCW of the diversification and community investment permitted and encouraged by the statute.(38) As previously described, among other - -------------- (35) CSW Credit, Inc., Release No. 25995 (March 2, 1994); Jersey Central Power & Light Co., Release No. 24348 (March 18, 1987). (36) United Light and Railway Co., 35 SEC at 519. (37) 1995 Report at 89-90. The Division also recommended a flexible approach with respect to investments which neither met the energy-related test of proposed Rule 58 and exceeded the DE MINIMUS amount. (38) In the 1995 Report, the Division noted a comment by Wisconsin Electric Power Company regarding the scope of the Wisconsin Act. 1995 Report at 91. -72- things, the Wisconsin Act provides for 1) a cap on amounts invested in diversified non-utility businesses; 2) annual reporting requirements with respect to the total amount of assets held by non-utility affiliates, amounts located within the state and number of employees; and 3) periodic investigations by the state commission at least every three years. Furthermore, the state commission is required to consider whether the non-utility affiliates 1) substantially retain, attract or promote business activities or employment or provide capital to businesses being formed or operating in the service territory of any public utility affiliate; or 2) develop or operate commercial or industrial parks in the service territory of any public utility affiliate. Each non-utility investment retained by Primergy from WEC has been subject to analysis by the PSCW in accordance with these requirements, and each non-utility investment retained (including those obtained from NSP) will be subject to ongoing regulation under the Wisconsin Act. Because the extensive regulation to which these investments will be subject ensures such investments are and will be in the best interests of investors and consumers, the Commission should allow retention under Section 11's "other businesses" clause or as permitted investments authorized by Section 9(c)(3). As set forth more fully below, the non-utility business interests that Primergy will hold directly or through Primergy Hold meet the Commission's standards for retention. - -- BROKERING OF ENERGY, GAS, AND RELATED PRODUCTS AND SERVICES (Cenerprise, WISVEST and ACNRG): Cenerprise and ACNRG engage in natural gas and electric marketing and brokering activities. WISVEST holds a 50% interest in Blackhawk Energy Services, LLC ("Blackhawk"), a company which provides strategic energy management and brokering services with a focus on natural gas management. The marketing and brokering activities engaged in by Cenerprise, Blackhawk and ACNRG are substantially similar to those engaged in by numerous utility companies engaged in non-utility brokering and marketing transactions, and in particular, their activities are similar to those approved by the Commission and engaged in by the registered systems. See., e.g., Northeast Utilities Services Co., et al., Release No. 35-26359 (August 18, 1995) (authorizing subsidiary to engage in electric powering brokering and marketing transactions and fuel-for-power transactions within and outside the service areas of affiliated public-utility companies); Consolidated Natural Gas Co., Release No. 35-24329 (February 27, 1987) (authorizing establishment of subsidiary under name CNG Trading to compete with independent gas marketing companies and maintain and increase system gas sales to LDCs and their end-users which could not be retained or secured under existing utility tariffs); Entergy Corporation, et al., Release No. 35-25848 (July 8, 1993) (authorizing subsidiary to provide consulting services to non-associated companies, including expertise relating to brokering of power resources); UNITIL Corp., et al., Release No. 35-25816 (May 24, 1993) (authorizing establishment of subsidiary under the name UNITIL Resources to serve as a power brokering agent for the sale of client-owned bulk power purchaser clients). The retention of Cenerprise, WISVEST's interest in Blackhawk and ACNRG and the continuance of their operations thus should be permitted to continue. Such activities would also be permitted under proposed Rule 58. -73- - -- ENERGY CONSERVATION, MANAGEMENT AND RELATED SERVICES (Cenerprise, ACNRG, EMC, Primergy GC, Primergy NC and O'Brien Management Services Subsidiaries): The Commission has authorized numerous registered holding companies to engage in a variety of energy conservation, demand side management and related services. See, e.g., Allegheny Power System, Inc., Release 35-26401 (October 27, 1995) (authorizing non-utility subsidiaries to provide energy management services, including identification of energy cost reduction and efficiency opportunities, design of facility and process modifications to realize such efficiencies; management of or the direct construction of energy conservation equipment; maintenance of energy systems; training of client personnel; operation of equipment; design, management, construction and installation of energy management systems and structures; reporting system results and other similar or related energy management activities); Central and South West Corporation, Release No. 35-26367 (September 1, 1995) (authorizing EnerShop, a non-utility subsidiary, to provide a range of energy-related products and services to commercial and industrial customers of both associate and non-associate companies, including consulting and energy analysis, project management, design and construction, and energy efficient equipment installation and maintenance); Entergy Corporation, et al., Release No. 35-26342 (July 27, 1995) (authorizing Entergy Systems and Service, Inc. to provide energy consulting services worldwide, with a focus on lighting efficiency, and removing former 50% limitation on energy management services business); Northeast Utilities, et al., Release No. 35-26335 (July 19, 1995) (authorizing subsidiaries of Northeast Utilities to provide, without a 50% limitation, energy management services and demand-side management services and to enter into joint ventures with utilities to provide such services). As previously mentioned, Cenerprise, ACNRG, EMC and O'Brien Management Services Subsidiaries provide retail customers within and outside NSP's service areas energy conservation and management services including utility billing analysis, end-use gas marketing, risk management, construction and energy consulting, and administrative services. Cenerprise's construction and energy consulting services and energy analysis are similar to EnerShop's design, construction, consulting and administrative services, and Northeast Utilities' demand side management services. Furthermore, Cenerprise's energy consulting service is similar to the energy consulting service offered by Entergy. ACNRG provides services similar to those provided by Enershop. EMC performs services similar to those provided by Allegheny's non-utility subsidiaries, and services provided by Entergy Systems and Services, Inc. If Primergy GC and/or Primergy NC are formed, they may perform services for unaffiliated utilities similar to those services to be performed for NSP and WEPCO. Such services, described in more detail in Item 1.B.1.e. above, may include the operation, maintenance, repair, rehabilitation, design, construction and testing of generation facilities. Thus, Primergy should be able to retain these businesses. All of such activities would also be permitted under proposed Rule 58. -74- - -- PROVIDING FUEL PROCUREMENT SERVICES (Cormorant, Badger, Cenerprise, and O'Brien Coalbed Subsidiaries): As previously mentioned, Cormorant was established for the principal purpose of acquiring fuel resources. Cormorant engages in oil, gas, coal lignite and uranium exploration and holds rights to such resources. O'Brien Coalbed Subsidiaries have interests in various gas wells, Cenerprise has interests in various gas wells that it utilizes to meet its national gas requirements and Badger owns coal rights in Indiana. The Commission has approved the acquisition of coal and mineral rights by registered holding company systems. See e.g., Alabama Power Company, 31 SEC 821 (1950) and Youghiogeny and Ohio Coal Company, Release No. 35-19587 (June 21, 1976). In Consolidated Natural Gas Company, Release No. 35-22845 (February 7, 1983), the Commission approved the establishment of CNG Development, a subsidiary of Consolidated Natural Gas Company, a registered holding company, to engage in natural gas and oil exploration. See also New England Energy Incorporated, Release No. 35-23988 (January 13, 1986) and New England Energy Incorporated, Release No. 35-21862 (December 13, 1980). Furthermore, in Allegheny Power System, Inc., Release No. 35-26401 (October 27, 1995), the Commission authorized AYP Capital, Inc., a subsidiary of the registered holding company Allegheny Power System, Inc., to "facilitate the exploitation of resources contained on or in real estate." As the activities of Cormorant, Badger, Cenerprise and O'Brien Coalbed Subsidiaries, whether they engage in exploration of natural resources or hold rights to others' exploration of such resources, are substantially similar to those permitted by the Commission in other orders, Primergy should be allowed to retain its interest in these businesses. The exploration of natural resources or the holding of rights to such resources also appears to be authorized under clause (ix) of paragraph (b) of proposed Rule 58. - -- PRODUCTION AND DISTRIBUTION OF THERMAL ENERGY (Steam heating division of WEPCO; chilled water facility of WISVEST or other WEC affiliate; Minergy; NRG's ownership and operation of several steam operations that provide thermal energy; NRG Energy Center; NATS; TVI Joint Venture; PTLP; SFTLP and the sale and delivery of steam from NSP to Liberty Paper Inc.): The steam heating business of WEPCO, which is located exclusively in its service territory and primarily in downtown and near southside Milwaukee, serves the needs of 473 space heating and processing customers and has annual revenues, under rates approved by the PSCW, of approximately $15 million for the year ended December 31, 1995. The steam is supplied by WEPCO's Valley Power Plant. WEPCO has entered into an agreement, subject to PSCW approval, to acquire the steam heating and chilled water cooling system at Milwaukee County regional medical facility. Steam would be sold under rates approved by the PSCW. Chilled water facilities would be owned by WISVEST or other non-utility affiliate of WEC and sold at market rates not subject to PSCW regulation. Minergy also intends to supply the steam produced during the ordinary course of the operation of its proposed Neenah paper sludge recycling facility to area paper mills. NRG (through its Waldorf, Washco and Grand Forks operations), NRG Energy Center, NATS, TVI, PTLP and SFTLP are engaged in providing thermal energy -75- heating and cooling services. NSP is engaged in supplying steam to Liberty Paper Inc. The retention of these businesses will further Primergy's ability to be an energy service company providing consumers with additional options to meet their energy needs, thereby allowing Primergy to compete more effectively in the energy-services business. The Commission has previously approved the retention of such businesses. See, e.g., General Public Utility Corp., 32 SEC 807, 840-841 (1951) (Commission authorized retention of steam heating systems. Steam from such systems was used to generate electricity and sold to customers for heating purposes.) See also In re The North American Company, 11 SEC 194 (April 14, 1942) (Commission authorized retention of steam heating operations which provided steam heat to customers and was used in the generation of electricity.) As the Commission has determined that steam heating operations, whether used for internal generation purposes or for direct sale to customers, are reasonably incidental to the operation of an electric utility system, the thermal energy heating and cooling services of WEPCO, WISVEST or another non-utility affiliate of WEC, Minergy, NRG, NRG Energy Center, NATS, NSP, TVI Joint Venture, PTLP and SFTLP may be retained. The production, conversion and distribution of thermal energy products, including process steam and chilled water, is also permitted by proposed Rule 58. Thus, the production and distribution of thermal energy is reasonably incidental to Primergy's utility operations and may be retained. - -- SALES OF APPLIANCE WARRANTY PROGRAMS AND SURGE PROTECTORS AND GENERATOR AND ASSOCIATED EQUIPMENT (NSP and O'Brien Equipment Subsidiaries): As previously mentioned, NSP directly conducts several non-utility businesses including providing an appliance warranty and repair program for its residential customers (known as "Advantage Service") and selling and installing power quality instruments to protect customers' equipment from electric surges (known as "Ultra Power"). The sale of warranties for residential customers' appliances and the sale of surge protection equipment were approved by the Commission in Mississippi Power and Light Company, Release No. 35-25140 (August 30, 1990). In that order, the Commission allowed Mississippi Power and Light ("MP&L"), a subsidiary of a registered holding company, to create a "Space Conditioning Program" to market and sell "manufacturer's warranties or other maintenance agreements for space conditioning equipment such as water heaters and heat pumps and related weatherization, ductwork and wiring improvements." In addition, the Commission also approved the creation of a "Premium Power" program to market, sell, lease and finance "the acquisition and installation of surge supressors." NSP's warranties for customers' appliances are substantially similar to the types of warranties offered by MP&L. Furthermore, NSP's power quality instruments achieve the same result as MP&L's surge supressors--protecting customers' equipment from sudden power surges. Thus, NSP should be allowed to retain these businesses. The sale of warranties and surge protectors for customers' appliances are also allowed under proposed Rule 58. The O'Brien Equipment Subsidiaries sell, rent and manufacture gas, steam and engine generator sets and associated equipment. Such activities were approved by the Commission in CINergy Corp., Release No. 35-26146 (October 21, 1994). In that order, -76- the Commission allowed CINergy to acquire PSI Resources, Inc. ("PSI"). PSI, through PSI Investments, bought, brokered and sold equipment from generating plants. As the equipment sold by the O'Brien Equipment Subsidiaries is substantially similar to that sold by PSI, Primergy should be able to retain these subsidiaries. - -- CONSTRUCTION OF GAS PIPELINES (NSP): As previously mentioned, NSP directly constructs natural gas distribution systems for third parties, primarily end-users and municipal gas systems. Construction of gas pipelines for third parties was approved in National Fuel Gas Company, Release No. 35-24381 (May 1, 1987), in which the Commission authorized Utility Constructors, Inc., a subsidiary of a registered holding company, to provide "pipeline construction and replacement...and related and auxiliary services" to subsidiaries and to non-associate companies. As NSP's natural gas distribution systems include gas pipelines, NSP should also be allowed to retain this business. Construction of gas pipelines for third parties is also allowed under proposed Rule 58. - -- RESOURCE RECOVERY OPERATIONS (NRG's ownership and operation of the Newport RDF facility, NRG's operation of the Elk River facility, Becker Ash Landfill, Minnesota Waste Processing and O'Brien Biogas Subsidiaries): NRG and Minnesota Waste Processing are involved in the collection and processing of municipal solid waste into RDF. The O'Brien Biogas Subsidiaries are engaged in the sale of biogas. Such activities are similar to investments in resource recovery facilities and technologies, including RDF facilities, approved in The Southern Company, et al., Release No. 35-26221 (January 25, 1995) (Commission authorized Development, a subsidiary of Southern Company, to "explore and conduct market, technical and financial tests and studies of...waste to energy projects and biomass technology applications; environmental systems and equipment; alternative fuels; improved fuel utilization; and alternative energy technologies.") Furthermore, the Commission in prior orders has authorized the sale of fuel from subsidiary companies to utilities. The North American Company, 11 SEC 194 (April 14, 1942) (Commission authorized retention of coal mining subsidiary that supplied the majority of its output to the registered holding company's utility operations.) Minnesota Waste Processing sells municipal solid waste to NRG for NRG's Newport facility. The Newport facility in turn, converts the municipal solid waste to RDF and sells such fuel to NSP. As RDF is used to generate electricity, the sale of municipal solid waste by Minnesota Waste Processing to Newport, and the subsequent sale by Newport of RDF to NSP is similar to the sale of fuel to a utility. Similarly, biogas is also used to generate electricity. Such activities are thus reasonably necessary for the operation of Primergy's electric utility system, and should be allowed to be retained. The ownership and operation of RDF facilities also appears to be authorized under clauses (vi) and (ix) of paragraph (b) of proposed Rule 58. -77- - -- INVESTIGATION OF NEW BUSINESS OPPORTUNITIES (WEC Generation): WEC Generation was formed to provide a vehicle through which WEC may investigate new business opportunities. WEC Generation has acquired 100% of the equity interest of two offshore Dutch companies, Valace Investments B.V. and Scotloc Holding B.V. These investments will be exempt investments or will be otherwise allowable by the Commission. Primergy will request authorization to the extent required prior to making any of these investments. The Commission has previously allowed the formation of subsidiaries to explore potential permitted investment opportunities. See Middle South Utilities, Inc., Release No. 35-22818 (January 11, 1983) (authorizing the creation of a non-utility subsidiary to investigate new business opportunities). Thus, these entities are retainable. - -- OWNERSHIP OF, OPERATION OF, AND PROVIDING SERVICES TO FOREIGN EWGS AND FUCOS (NRG, SSP, SSP2, NRGenerating, Gunwale, NRG International, NRG Gladstone, NRG Operating, NRG Gladstone Superannuation Pty. Ltd., Saale Energie, KS, MIBRAG, MIBRAG BV, Lambique Beheer BV, MIB GmbH, MIV GmbH & Co., KG, MIVB GmbH, Saale Energie Services, SLAP I-P, SLAP I-C, Kladno, ECKG, Kladno 1, Kladno 2, NRG CZ, NRG No. 1, NRG Collinsville, Sachsen, NRG Australia Ltd., KSB, NRG Energy Development GmbH and NRGenerating 2): With the exception of NRG, each of the above entities is engaged exclusively in the business of owning, operating or providing services to foreign EWGs or to entities that, upon making the necessary filings under Section 32 or Section 33, would be foreign EWGs or FUCOs.(39) As noted above, NRG is engaged in other businesses. However, with respect to the entities listed above, NRG's only interest is through its investments in such entities and NRG does not provide services for a fee to any such entity.(40) Ownership of EWGs and FUCOs is exempted from the Act by the Energy Policy Act of 1992. The applicants are in compliance with the Commission's rules concerning investments in EWGs. Also, with respect to the obligations of the various entities listed above, there is no recourse to NSP, and there will be no recourse to Primergy, with respect to the investments in any of these projects. - --------------- (39) Primergy will make all necessary filings to establish such entities as FUCOs immediately after it becomes a registered holding company, except with respect to the MIBRAG project. Technically, the entities listed above that are involved in the MIBRAG project also own interests in businesses that are not EWGs and that, absent a major restructuring of the project, would not be a FUCO. NRG invested in the MIBRAG project in order to obtain an interest in its generation assets and to obtain coal supply for the Schkopau facility. However, in order to facilitate investment in the MIBRAG project, the generation assets were put in a separate entity which obtained EWG status upon filing with FERC, in lieu of leaving the generation assets in MIBRAG and seeking the requisite state commission approvals for FUCO status. Primergy proposes to leave the current structure for the MIBRAG project in place and to treat all of its investments in the MIBRAG project as an investment in a FUCO for all purposes of the Act instead of attempting to restructure the project in order to obtain FUCO status for all of the MIBRAG project. (40) NRG does receive a management fee regarding its indirect investment in SLAP I-P and SLAP I-C. However, each of the other investors receives a fee equal to the fee paid to NRG, causing such fee in substance to be a return on their investments in SLAP I-P and SLAP I-C. -78- With respect to the various entities listed above that hold indirect interests in EWGs or projects that will become FUCOs or EWGs, they are similar to the New Special Purpose Subsidiaries established by CINergy, and approved by the Commission in CINergy Corporation et al., Release No. 35-26376 (September 21, 1995). In that order, the Commission authorized the organization of New Special Purpose Subsidiaries for the "purpose of engaging, directly or indirectly, and exclusively, in the business of acquiring, owning and holding the securities of exempt wholesale generators." Under Rule 5b, such interests in FUCOs are specifically permitted. With respect to services to EWGs or entities that will become FUCOs, the Commission has authorized subsidiaries of registered holding companies to provide consulting, operations and management services to an EWG or FUCO if it derives no part of its income, directly or indirectly, from the generation, transmission, or distribution of electric energy for sale within the United States. See, e.g., Entergy Corporation, et al., Release No. 35-26322 (June 30, 1995) (authorizing Enterprises, a wholly owned non-utility subsidiary company, to provide consulting, operating and management services to associate companies, including EWGs, FUCOs and QFs); CINergy Corporation, et al., Release No. 35-26376 (September 21, 1995) (authorizing Special Purpose Subsidiaries to provide EWGs and FUCOs all services necessary or requested for their operation). None of the above projects derives any part of its income from the generation, transmission or distribution of electric energy within the United States. Accordingly, Primergy should be permitted to retain the businesses. - -- OWNERSHIP AND OPERATION OF QFS AND FACILITIES RELATED THERETO (San Joaquin Valley Energy I, Inc., San Joaquin Valley Energy IV, Inc., NRG Energy Jackson Valley I, Inc., NRG Energy Jackson Valley II, Inc., NRG, NRG Sunnyside Inc., NEO, Minnesota Methane, Landfill Power, STS Hydropower, Northbrook Energy L.L.C., SOA, SCA, NRG Sunnyside Operations GP Inc., NRG Sunnyside Operations LP Inc., SJVEP I, SJVEP IV, JVEP, Suncook Energy Corporation, Four Hills, L.P., Four Hills, Inc., Northbrook Acquisition Corp., Bioconversion, AE Fourteen, NRG Hartford, CDECCA(41) and O'Brien Cogeneration Subsidiaries): Registered holding companies are permitted under the Act to own QFs. Through the entities described above, Primergy will own interests in and operate several QFs. The Commission has authorized subsidiaries of registered holding companies to provide administrative, operational and management services to QFs. See, e.g., Entergy Corporation, et al., Release No. 35-26322 (September 21, 1995); CINergy Corporation, et al., Release No. 35-26376 (September 21, 1995). These orders typically involved instances in which the QF was not selling power to an associate company that was a public utility. In the present case, the QF facility at Eden Prairie, Minnesota, the QF facility at Inver Grove, Minnesota, (each of which is 25% owned by NRG through Landfill Power) and the QF facility at Burnsville, Minnesota (which is 50% owned by - --------------- (41) Information on the seventeen joint ventures of NEO, each of which would be a QF, will be supplied by Amendment. -79- NRG through Minnesota Methane) sell power to NSP. These contracts were entered into by NSP pursuant to PURPA and have been approved by the MPUC. Through NRG Energy Jackson Valley I, Inc. and NRG Energy Jackson Valley II, Inc., Primergy will also own a montan wax plant--which is the thermal host for the Jackson Valley power generation facility and Bioconversion, a supplier of biomass to the San Joaquin QF. Through SCA, Primergy will own a 8.7 million ton waste coal pile. The acquisition of ancillary facilities such as a thermal host facility was approved by the Commission in Central and South West Corp., Release No. 35-25399 (November 1, 1991). Bioconversion supplies the biomass for the San Joaquin QF facilities and is clearly necessary to the operations of the QFs. Similarly, the waste coal pile of SCA is necessary, as it is the fuel supply for the facility. The Commission has approved the acquisition of fuel handling, fuel supplier and transportation facilities. Energy Initiatives, Inc., Release No. 35-25991 (February 22, 1994). Accordingly, Primergy should be permitted to retain the foregoing businesses. Such businesses would also be permitted under proposed Rule 58. - -- DEVELOPMENT AND COMMERCIALIZATION OF FUEL TECHNOLOGIES (Scoria, Graystone, LES, RSCP and Le Paz): Scoria and RSCP are engaged in the production of a synthetic coal. Graystone, Le Paz and LES are engaged in the development of a uranium enrichment facility which will provide a less expensive source of fuel for nuclear operations.Under the rationale of Jersey Central Power Co., Release No. 35-24348 (March 18, 1987), a business which evolves in connection with a holding company system's utility business, requires an investment that is insignificant in relation to the holding company system's total financial resources, and has the potential to produce benefits for investors and/or consumers, may be retained. The businesses of Graystone, Le Paz and Scoria grew out of the utility business of NSP, involve expertise related to the utility business and would be considered to be energy related under proposed Rule 58. NSP's investments in Graystone, Le Paz and Scoria are not significant in relation to the total financial resources of the Primergy System. Moreover, these investments have the potential to produce profits for investors and a variety of benefits for consumers. Furthermore, in New England Electric System, et al., Release No. 35-26277 (April 26, 1995), the Commission authorized NEERI, a wholly owned non-utility subsidiary of NEES, to enter into a joint venture to perform research to further refine the process for separating unburned carbon from coal ash. The SynCoal process used by the Scoria venture produces dryer, cleaner burning coal and causes ash and pyrite particles to be easily separated from the coal. Thus, the purposes of the NEERI joint venture and the Scoria venture are substantially similar as they achieve the same end result--the development of coal that, when burned, is less injurious to the environment. As a result, Primergy should be permitted to retain these businesses. These businesses also are substantially similar to several businesses permitted under proposed Rule 58. -80- - -- GAS-RELATED ACTIVITIES (Viking): As discussed previously, Viking, a gas pipeline subsidiary, ensures access to natural gas supplies for the gas utility operations of NSP, NSP-W and WEC and, thus, is functionally related to utility operations. The Commission's decisions recognize the functional relationship of gas pipelines to the gas utility business and the retainability of gas transmission interests in connection with gas utility operations. See, e.g., CNG Transmission Corp., Release No. 25239, (January 9, 1991); Gas Related Activities Act of 1990, Sec.2(a). Since Viking's pipeline functions are used in much the same way as in CNG Transmission Corp., Viking should be retained. Such activities are also allowed under proposed Rule 58. In addition, continued Primergy ownership of Viking will enhance competition for natural gas supply and transportation in the region. The states of Minnesota, Wisconsin and North Dakota are predominantly served by Northern Natural Gas Company and ANR Pipeline Company and Williston Basin Interstate Pipeline Company, respectively. The other major interstate natural gas pipelines serving the region--Great Lakes Gas Transmission Limited Partnership and Northern Border Pipeline Company--are affiliates of ANR and Northern Natural, respectively. All major markets served by Viking--the Twin Cities metropolitan area, central Wisconsin, and Fargo, North Dakota--are served by alternative pipelines. In addition, the majority of Viking's transportation capacity is held under contract by parties not affiliated with NSP (Minnegasco, ANR, and various Wisconsin and Minnesota LDCs.) Primergy's ownership of Viking actually increases market competition for natural gas supply and transportation services by keeping a third pipeline operating in the market in competition with Northern, ANR and their affiliates. Viking will provide an alternative "open access" provider of natural gas transportation service not only for NSP and WEPCO, but also for other local distribution companies and industrial customers in the region. The opportunity for direct connection to Viking creates competition for the existing pipelines, benefiting customers through lower total gas rates. Divestiture of Viking could reduce competition in the interstate natural gas transportation market, potentially harming consumers. - -- LAND OWNERSHIP (FMAP, UP&L and NSP Lands): As previously mentioned, FMAP owns and operates a parking garage. NSP leases from FMAP parking spaces as well as storage and office space. The garage is located next to NSP's headquarters, and is primarily used by NSP employees. It is anticipated that in the event that additional facilities at NSP headquarters are necessary, the parking garage will be razed and the site will be used for such expansion. UP&L's land holdings including the Renaissance Square office facility adjacent to NSP's corporate headquarters, which NSP uses for utility business. NSP has long-term agreements to lease virtually all of the Renaissance Square facility. -81- In previous orders, the Commission has approved the purchase of real estate which is incidentally related to the operations of a registered holding company. See American Electric Power Service Co., Release No. 35-19981 (April 12, 1977) (Commission allowed a subsidiary of American Electric Power to purchase employees' homes in conjunction with their transfer to a new position in a different geographical area.) Furthermore, FMAP's ownership of a parking garage and NSP's lease of the Renaissance Square facility can be distinguished from ownership of a commercial building brought into question in In re The North American Company, 11 SEC 194 (April 14, 1942). In North American, a registered holding company owned a twenty-five floor office building in downtown New York. However, only two whole floors and part of three other floors were occupied by North American, and the building was not within close proximity to the company's headquarters. Given the proximity of the parking garage to NSP's headquarters, the benefits to employees it currently provides, and its potential for future use, ownership of the garage is reasonably necessary to the operation of the utility business. FMAP should be allowed to retain its interest in the parking facility. Similarly, since virtually all of the Renaissance Square facility is used by NSP in its utility operations, UP&L should be allowed to retain its interest in the facility. UP&L and NSP Lands also own and hold real property typically surrounding or adjacent to property owned and used by NSP and NSP-W in their regulated operations. The majority of such land consists of property adjacent to land owned and used for NSP's Sherco and Monticello plant sites and land adjacent to Lake Arbutus. In UNITIL Corporation et al, Release No. 35-25524 (April 24, 1992), the Commission noted that UNITIL Realty Corporation, a subsidiary of the registered holding company, UNITIL, which acquired real estate to support utility operations, engaged in activities which were within the confines of the Act. UP&L's ownership of land adjacent to the Sherco and Monticello plant sites are necessary to support such plants' future operations. As stated previously, the land held by NSP Lands surrounded a hydro-electric generation facility previously owned by NSP-W and is in the process of being sold. Consequently, as the real estate held by UP&L and NSP Lands is substantially similar to that owned by UNITIL Realty Corporation, UP&L and NSP Lands should be allowed to retain its interest in such property. - -- OPERATION OF RESERVOIRS (C&F): As previously stated, C&F builds, maintains and operates dams and reservoirs on the Chippewa and Flambeau Rivers and leases and operates the reservoirs from such rivers. By providing a uniform flow of water to the downstream hydroplants, C&F helps ensure the consistent operation of the plants, including plants owned by NSP-W. Such leasing and operating activities are necessary to the operation of the plants and thus should be retained. The Commission, in In Re Wisconsin River Power Company, et. al., 27 SEC 539 (1948), noted that the activities of the River Company, a subsidiary of a registered holding company whose business consisted of "acquiring real estate and flowage rights necessary for the construction and operation of dams and hydroelectric plants...and making other preparations for such developments," did not violate any sections of the Act. As C&F's leasing and operation of reservoirs are significantly similar -82- to the River Company's activities, and building, maintaining, and operating dams and reservoirs on the Chippewa and Flambeau Rivers are part of the preparations for operating hydroelectric plants, C&F should be retained. - -- METERING, BILLING, AND COLLECTING SERVICES (WISVEST and Custometrics): WISVEST holds a 45% interest in Quantum Controls, LLC (d/b/a Energy Oasys) ("Quantum"), a company which researches, markets, develops, creates, distributes and sells utility industry software, automated billing systems and devices and related products and services. Quantum markets an advanced energy information system to utilities which gives them the ability to communicate directly with their customers. WEC also has another affiliate, Custometrics LLC ("Custometrics") which is a joint venture formed by WEC and Marshall & Ilsley Corp. Custometrics will provide system solutions related to billing and other aspects of the customer service segment of the energy services industry. Custometrics will provide these services to affiliated and unaffiliated utilities. These services are similar to those in which other registered holding company subsidiaries have been authorized to engage and thus should be retained. Central and South West Corporation, Release No. 35-26251 (March 14, 1995) (authorizing provisions of metering, billing and collecting services to unaffiliated water and gas utilities); The Southern Co., Release No. 35-26221 (January 25, 1995) (authorizing subsidiary to offer automated billing services to nonaffiliate utilities). These services would also be permitted under proposed Rule 58 and may be retained. - -- DEVELOPMENT AND COMMERCIALIZATION OF COAL WASTE, SLUDGE AND SAND PROCESSING (WEPCO, Minergy): Minergy is engaged in the business of developing and marketing proprietary technologies designed to convert high volume industrial and municipal wastes into value-added products. Minergy owns the rights to develop and market a technology developed and currently used by WEPCO to process fly-ash and sludge into salable, more environmentally friendly products. It also provides various consulting, operation, installation, maintenance and other services related to thermal sand reclamation facilities and is also proposing to build a $45 million facility in Neenah, Wisconsin that would recycle paper sludge from area paper mills into two usable and salable products: glass aggregate and steam. The plant will also provide substantial environmental and economic benefits to the area by providing a beneficial alternative to landfilling paper sludge. This activity is similar to that previously permitted by the Commission. See, New England Electric System, Release No. 35-26277 (April 26, 1995). The development and commercialization of coal waste by-products is also an energy related activity under proposed Rule 58. Additionally, some of the technology utilized in these services was developed in connection with utility operations and the Commission has previously permitted registered holding company subsidiaries to market to third parties technology developed in the course of the operation of affiliated utilities. See The Southern Co., Release No. -83- 35-26211 (December 30, 1994) (allowing marketing to third parties of communications network capacity initially developed for utility subsidiaries); Jersey Central Power & Light Co., Release No. 35-24348 (March 18, 1987) (allowing licensing to third party utilities of computer theft prevention technology initially developed for company's own use). This type of business would also be permitted under proposed Rule 58 and accordingly may be retained. - -- COMMUNITY INVESTMENTS (Eloigne, Clearwater, WMIC, WISPARK and WITECH): As part of their attempts to further the public interest and invest in the communities in which they provide service (and with respect to WEC, pursuant to and in furtherance of the objectives of the Wisconsin Act), NSP and WEC have invested in various local businesses and in low and moderate-income housing projects through their non-utility subsidiaries, Eloigne, Clearwater, WISPARK, WITECH and WMIC. These non-utility investments are clearly DE MINIMUS, representing less than 1% of Primergy's 1995 pro forma assets and less than 1% of Primergy's 1995 pro forma revenues. These investments are part of continuing programs intended to promote local business, develop industrial parks and provide affordable housing in various areas primarily within NSP's and WEPCO's service territories. Descriptions of these investments are set out in Item 1.B.5. and in Annexes D, E and G to this application. As discussed in more detail below, there are several bases for concluding that the retention of these businesses by Primergy is justified under the Act and should be permitted. First, Section 11(b)(1) provides that the Commission "may permit as reasonably incidental or economically necessary or appropriate...the retention of an interest in any business...which the Commission shall find NECESSARY OR APPROPRIATE IN THE PUBLIC INTEREST ...and not detrimental to the proper functioning of [the registered holding company] system or systems." (emphasis added) In the 1995 Report, the Division recommended that registered companies be permitted to invest DE MINIMUS amounts in diversified activities without regard to the specific identity of each investment in order to greatly increase the flexibility of registered companies desirous of diversifying. Second, under Section 9(c)(3) of the Act, the Commission has the authority, and should in this case grant, an exception by order for the retention of these investments by Primergy since they were made in the ordinary course of NSP's and WEC's business, are in the public interest and will not be detrimental to the public interest or the interests of investors or consumers. In addition, each of these community-oriented investments were made initially in accordance with, and in furtherance of the objectives of, both state and federal policy. Furthermore, WEC's investments were made in accordance with the rigorous statutory limitations of the Wisconsin Act applicable to non-utility diversification, and, since having been made, continue to be subject to periodic audits by the PSCW under the Wisconsin Act. When held by Primergy, all of the investments will remain subject to such review. -84- Finally, state holding company regulation has developed (such as the Wisconsin Act) which dictates what investments are "necessary or appropriate in the public interest" and are "not detrimental to the proper functioning" of a holding company. Twenty-five years ago, in a very different regulatory and competitive environment, the Commission denied the application of a public utility subsidiary company of a registered holding company to invest through a wholly owned non-utility subsidiary in low and moderate-income housing projects in MICHIGAN CONSOLIDATED GAS CO., 44 SEC 361, AFF'D, 444 F.2d 913 (D.C. Cir. 1971) ("MICHIGAN CONSOLIDATED"). The Commission determined and the court agreed that such an investment could not be authorized under the "other businesses" clause of Section 11(b)(1) because it was not "functionally related" to the operation of an integrated public utility system. Since this decision, however, the definition of "functionally related" has developed and been liberalized as the competitive environment has changed.(42) Additional competitive pressures on registered holding companies have arisen as exempt holding companies have been allowed to diversify,(43) and have engaged in many of the activities previously considered not deemed "functionally related." In the 1995 Report, the Division suggested additional relaxation of this standard. Noting that the Commission must continue to respond flexibly to changes in the utility industry, it advocated the adoption of a "budget approach" for registered holding companies to make DE MINIMUS investments in diversified activities which do not fit within previous orders of the Commission, yet appear to be within the meaning of the "other businesses" clauses of Section 11, and to otherwise adopt a "flexible approach" toward other diversification activities.(44) The Division suggested that this approach would allow registered holding companies to make minimal investments up to a certain authorized amount, provided certain structural considerations are observed which limit the potential losses to the amount of the investment and insulate other system assets by isolating the activity in a separate subsidiary.(45) In MICHIGAN CONSOLIDATED the Commission also declined to use Section 9(c)(3) as a means to provide an exemption. In affirming this decision, the Court of Appeals did - -------------- (42) See, e.g., JERSEY CENTRAL POWER & LIGHT CO., Release No. 35-24348 (March 18, 1987) (authorizing sale of computer programs); CNG ENERGY CO., Release No. 35-23963 (December 26, 1985) (authorizing sale of radio-dispatch system). (43) See, e.g., PACIFIC LIGHTING CORPORATION, 45 SEC 152 (1973) (diversification of a holding company exempt under 3(a)(1) is not necessarily detrimental to the public interest). (44) This recommendation is in addition to proposed Rule 58, which would provide a safe harbor for certain "energy related" activities. The Division recommended the "budget approach" for use "without regard to the specific identity of each investment." 1995 Report at 90. (45) 1995 Report at 89-90. It must be emphasized that for investments which neither meet the energy-related test of proposed rule 58 and exceed the DE MINIMUS amount, the Division nonetheless recommends a flexible approach which would allow registered holding companies to engage in nonutility businesses that "are economically appropriate and in the public interest, regardless of whether such activities are ancillary to the utility business." 1995 Report at 91. -85- not directly address the Commission's interpretation of Section 9(c)(3), but merely concluded that because the investment exceeded certain limits, relief under 9(c)(3) was not available. 444 F.2d at 918. It is important to note, however, that the statute itself does not contain any such limitations. Rather, under the provisions of Section 9(c)(3), the Commission may permit investments which it determines are "appropriate in the ordinary course of business" and "not detrimental to the public interest or the interest of investors or consumers." The Commission may use this authority to grant an exception in this case. Although the Commission has set forth criteria in Rule 40(a)(5) for which an exception from 9(c)(3) will routinely be granted, nothing in the statute dictates that this rule be the sole permitted exception. Over the years, the Commission has amended the rule to adjust the criteria to reflect the changing environment, and even after MICHIGAN CONSOLIDATED, has considered situations which did not fall within the criteria set forth in the rule on a case by case basis, revealing its willingness to be flexible even prior to the 1995 Report.(46) Because the aggregate annual limitations provided for in the rule do not apply in a situation where, as here, the investments have already been made, the Commission should consider the applicants' application for retention on its own merits and grant an exception based on its statutory authority in light of the unusual circumstances of this case discussed below. Finally, as previously discussed, the Division has recently recommended a "budget approach" and a generally more flexible approach. Although the Division suggested this policy under Section 11, it would serve equally well for the Commission to use such an approach under Section 9, especially, where, as here, "unusual or exceptional circumstances" apply and the concerns of the Commission are met. LOW AND MODERATE-INCOME HOUSING: Primergy's non-utility low-income housing investments to be acquired from NSP and WEC are retainable under both 11(b)(1) and 9(c)(3) because they are both DE MINIMUS in amount and will be segregated from its operating utilities. Primergy will acquire from NSP and WEC the non-utility subsidiaries Eloigne, Clearwater, WMIC and WISPARK. As described above in Item 1.B.5.a. and 1.B.5.b. and Annexes D and E, Eloigne, Clearwater, and WMIC invest in low and moderate-income housing projects, and WISPARK is a general partner in several projects in which WMIC is a limited partner. The combined value of Primergy's interests in the low and moderate-income housing investments of Eloigne, Clearwater, WISPARK and WMIC is less than $70 million, which represents less than 0.7% of the total assets of Primergy at December 31, 1995 on a pro forma basis. Each of Eloigne, Clearwater, WISPARK and WMIC will either be direct subsidiaries of Primergy or indirect subsidiaries through Primergy Hold. As such, these investments will be separate and distinct from Primergy's utility assets and will not have any financial effect on these assets whatsoever. - --------------- (46) See E.G. CONSOLIDATED NATURAL GAS CO., Release No. 35-23799 (August 20, 1995) (authorizing investment in excess of the then $50,000 limitation under Rule 40(a)(5); EAST OHIO GAS CO., Release No. 35-25046 (February 27, 1990) (approving an investment in real estate projects larger than the maximum per investment limit then permitted by Rule 40(a)(5)). -86- Applicants believe that the Commission should grant an exception and allow the retention of Eloigne, Clearwater, WISPARK, and WMIC under Section 11(b)(1) and/or under Section 9(c)(3) because: (i) of the exceptional and unusual circumstances surrounding the initial acquisition of these investments by NSP and WEC, (ii) under the Wisconsin Act, they are appropriate and in the public interest and (iii) the continuing oversight of these investments by the PSCW under the Wisconsin Act assures that the investments will continue to meet those standards. First, each of WEC's non-utility investments retained by Primergy from WEC initially was made in furtherance of the policy of the Wisconsin Act as set forth in its preamble and described above. Furthermore, all of the low-income housing investments of Eloigne, Clearwater, WMIC, and WISPARK qualify for federal low income housing tax credits, which are designed to promote such investments. As retained by Primergy, all of these investments, including those by Eloigne and Clearwater, will come under the provisions of the Wisconsin Act. The reporting requirements of the Wisconsin Act and the public policy determinations enforced by the PSCW will serve to ensure the protection of the public interest. This extensive supervision is a circumstance which favors retention. These investments were made while NSP and WEC were exempt holding companies. It would be anomalous to allow NSP and WEC to hold these investments as exempt holding companies, indeed to encourage such investments by state and federal policy, but to require divestiture as a consequence of these companies taking steps to become more competitive. If, as required by the Wisconsin Act, these investments were not, and may not be detrimental to, the proper functioning of a holding company system, they certainly should not be considered by the Commission to be detrimental to a larger, more competitive company, especially given the ongoing state oversight and regulation. Accordingly, these investments should be permitted and the businesses may be retained. ADDITIONAL NON-UTILITY INVESTMENTS. Primergy will also acquire from WEC subsidiaries primarily engaged in providing venture capital to local businesses and developing industrial parks and other real estate primarily within WEPCO's service area. As described in Item 1.B.5.b. and Annexes E and G, WISPARK and WITECH were created to further the policies of the Wisconsin Act, and engage in development of local industrial parks and other real estate, and invest in and provide venture capital to businesses primarily located in WEPCO's service area. As argued above, it would undermine the trend toward flexibility and contravene a strong state policy to compel divestiture of these subsidiaries. The Commission has recognized the value to the public interest in similar circumstances,(47) and should grant an exception in this case to maintain the beneficial effects on local communities of these investments. Each of these - --------------- (47) See, E.G., GEORGIA POWER CO., Release No. 35-25949 (December 15, 1993) (limited partnership formed to provide venture capital to high-technology companies within utility's service territory); HOPE GAS, INC., Release No. 35-25739 (January 26, 1993) (venture capital partnership designed to provide venture capital to local business); THE POTOMAC EDISON CO., Release No. 35-25312, (May 14, 1991) (risky, for-profit, economic development corporation created to stimulate and promote growth and retain jobs). -87- investments is individually, and in aggregate, DE MINIMUS, is segregated from the utility assets of Primergy, was made in furtherance of public policy as being appropriate in the public interest, and will be subject to the continuing regulation under the Wisconsin Act. Accordingly, these investments should be permitted under Sections 11(b)(1) and 9(c)(3) of the Act and the businesses are retainable. Rule 53 requires that aggregate investments in EWGs and FUCOs not exceed 50% of the system's consolidated retained earnings. As of December 31, 1995, the aggregate investment of NSP and WEC in EWGs and FUCOs was less than 15% of combined retained earnings, well within the amount permitted. The applicants acknowledge and commit to comply with the standards of Rule 53 following Primergy becoming a registered holding company. Proposed Rule 58 would require that the aggregate investment in "energy related" companies not exceed 15% of the consolidated capitalization of a registered holding company. As of December 31, 1995, the aggregate investment in "energy related" companies of NSP and WEC would come within that limitation and would constitute less than 5% of their combined capitalization. (d) Section 10 (c)(2) Because the Transaction is expected to result in substantial cost savings and synergies, it will tend toward the economical and efficient development of an integrated public utility system, thereby serving the public interest, as required by Section 10(c)(2) of the Act. (i) Efficiencies and Economies The Transaction will produce economies and efficiencies more than sufficient to satisfy the standards of Section 10(c)(2) of the Act. Although some of the anticipated economies and efficiencies will be fully realizable only in the longer term, they are properly considered in determining whether the standards of Section 10(c)(2) have been met. See American Electric Power Co., 46 SEC 1299, 1320-1321 (1978). Some potential benefits cannot be precisely estimated, nevertheless they too are entitled to be considered. "[S]pecific dollar forecasts of future savings are not necessarily required; a demonstrated potential for economies will suffice even when these are not precisely quantifiable." Centerior Energy Corp., Release No. 35-24073 (April 29, 1986). NSP and WEC have estimated the nominal dollar value of synergies from the Transaction to be approximately $2.0 billion over the 10-year period from 1997-2006. The Transaction is expected to yield several types of presently quantifiable benefits and savings, which are identified by area below: (1) corporate and operations labor costs; (2) facilities consolidation; (3) corporate and administration programs; (4) purchasing economies (nonfuel); (5) nuclear; (6) fuel procurement; (7) production dispatch and (8) gas supply. The total amount of savings currently estimated in each of these categories, on a nominal dollar basis is summarized in the table below: -88- Transaction Synergies in Nominal Dollars - ------------------------------------------------------------------------------- Category Nominal Amount - ------------------------------------------------------------------------------- Corporate and Operations Labor $1,205 million Facilities Consolidation $46 million Corporate and Administrative $313 million Programs Purchasing Economies (Nonfuel) $263 million Nuclear $113 million Fuel Procurement $100 million Production Dispatch $42 million Gas Supply $102 million - ------------------------------------------------------------------------------- Total Savings $2,184 million Less: Costs to Achieve ($122 million) Pre-merger Initiatives ($96 million) Transaction Costs ($30 million) - ------------------------------------------------------------------------------- Net Savings $1,936 million These expected savings far exceed the anticipated savings in a number of recent acquisitions approved by the Commission. See, e.g., Entergy Corporation, et al., Release No. 35-25952 (December 17, 1993) (expected savings of $1.67 billion over ten years); Northeast Utilities, Release No. 35-25221 (December 21, 1990) (estimated savings of $837 million over 11 years); Kansas Power and Light Co., Release No. 35-25465 (February 5, 1992) (expected savings of $140 million over five years); IE Industries, Release No. 35-25325 (June 3, 1991) (expected savings of $91 million over ten years); Midwest Resources, Release No. 35-25159 (September 26, 1990) (estimated savings of $25 million over five years); CINergy Corp. Release No. 35-26146 (October 21, 1994) (estimated savings of approximately $1.5 billion over ten years). These savings categories are described in greater detail below. Corporate and Operations Labor Costs Savings: WEC and NSP estimate that a net reduction in labor costs of approximately $1.205 billion can be achieved as a result of the Transaction through elimination of approximately 1,223 full time equivalent duplicative positions in certain corporate functions, with 1,003 occurring in 1997 and 220 in 1998. -89- Facilities Consolidation: NSP and WEC estimate that the combination and elimination of existing facilities will result in savings of approximately $46 million. These savings will be attributable generally to having only one primary energy management system (rather than two) and transferring operations of NSP-W to existing facilities and leasing the vacated buildings of NSP-W at market rates. Corporate and Administrative Programs: NSP and WEC estimate a reduction in corporate and administrative programs through the consolidation of overlapping or duplicative programs and expenses of $313 million. Specific areas in which savings are expected to occur include information systems, professional services, demand-side management administration, benefits administration, insurance, regulatory expenses, advertising and shareholder services. Purchasing Economies (Nonfuel): NSP and WEC estimate savings of $263 million through the combined procurement of material and supplies, inventory reduction from standardization and limited sharing of parts and components and from economies of scale from the aggregation of related work activities and increased purchasing power over service providers. Nuclear: WEC and NSP estimate savings of $113 million in connection with the operation of their nuclear generation facilities. These savings will arise from a number of different areas, including maintenance, purchasing and warehousing, licensing and engineering. Fuel Procurement: NSP and WEC estimate fuel cost savings of approximately $100 million. These savings are expected to be primarily attributable to the combined procurement of coal, nuclear fuel and rail services for the transportation of coal. Production Dispatch Savings: NSP and WEC estimate that production dispatch savings of approximately $42 million will result from the integrated economic dispatch of both electric systems. NSP and WEC currently commit and dispatch their respective systems on an "economic dispatch" basis, that is, each company commits and dispatches its generating system to meet the load in such manner as to minimize production costs. Currently, energy transactions between the companies occur when it is economically beneficial to do so. However, there are differences in incremental cost between the two systems. Primergy will be able to take advantage of these factors by committing and dispatching the lower cost generation from NSP and WEPCO to serve the total load of Primergy at a cost that is lower than the combined cost of the two systems on a stand-alone basis. Gas Supply: WEC and NSP estimate savings in natural gas supply procurement and transportation of approximately $102 million. Major areas of savings are expected to result from optimizing transportation capacity on various pipelines, improving utilization of no-notice services resulting from additional load diversity, shortening storage withdrawal periods to provide greater peak day delivery and shifting purchases among various producers. Through the purchased gas adjustment clauses ("PGA") of NSP and WEPCO, 100% of these savings will be reflected in gas rates to customers if all of the system gas costs continue to receive PGA treatment as at present. -90- Additional Expected Benefits: In addition to the benefits described above, there are other benefits which, while presently difficult to quantify, are nonetheless substantial. These other benefits include maintenance of competitive rates, expanded management resources, more diverse service territory and continued community involvement. Maintenance of Competitive Rates: Primergy will be able to meet the challenges of the increasingly competitive environment in the utility industry more effectively than either WEC or NSP standing alone. The Mergers will create the opportunity for strategic, financial and operational benefits for customers in the form of lower rates over the long term and for shareholders in the form of greater financial strength and financial flexibility. WEPCO and NSP have proposed, in their filings with the numerous state jurisdictions to which they are subject, a reduction of approximately 1.5% in retail electric rates beginning on or about January 1997 (assuming that the Mergers are then effective) and a rate freeze through the year 2000, subject to certain exceptions regarding matters beyond NSP's or WEPCO's control, such as an increase in the federal corporate tax rate. Subject to the same type of exceptions, NSP and WEPCO have agreed to a freeze in their wholesale rates for the same period. Expanded Management Resources: A combined WEC and NSP entity will be able to draw on a larger and more diverse mid and senior-level management pool to lead Primergy forward in an increasingly competitive environment for the delivery of energy, and should be better able to attract and retain the most qualified employees. The employees of Primergy should also benefit from new opportunities in the expanded organization. More Diverse Service Territory: The combined service territories of NSP and WEPCO will be larger and more diverse than either of the service territories of NSP or WEPCO as independent entities. This increased geographical diversity will mitigate the risk of changes in economic, competitive or climatic conditions in any given sector of the combined service territory. Community Involvement: Primergy will continue to play a strong role in the economic development efforts of the communities NSP and WEC now serve. The philanthropic and volunteer programs currently maintained by the two companies will be continued. (ii) Integrated Public Utility System (a) ELECTRIC SYSTEM As applied to electric utility companies, the term "integrated public utility system" is defined in Section 2(a)(29)(A) of the Act as: a system consisting of one or more units of generating plants and/or transmission lines and/or distributing facilities, whose utility assets, whether owned by one or more electric utility companies, are physically interconnected or capable of -91- physical interconnection and which under normal conditions may be economically operated as a single interconnected and coordinated system confined in its operations to a single area or region, in one or more states, not so large as to impair (considering the state of the art and the area or region affected) the advantages of localized management, efficient operation, and the effectiveness of regulation. On the basis of this statutory definition, the commission has established four standards that must be met before the commission will find that an integrated electric system will result from a proposed acquisition of securities: (1) the utility assets of the system are physically interconnected or capable of physical interconnection; (2) the utility assets, under normal conditions, may be economically operated as a single interconnected and coordinated system; (3) the system must be confined in its operations to a single area or region; and (4) the system must not be so large as to impair (considering the state of the art and the area or region affected) the advantages of localized management, efficient operation, and the effectiveness of regulation. Environmental Action, Inc. v. SEC, 895 F.2d 1255, 1263 (9th Cir. 1990) (citing In re Electric Energy, Inc., et al., 38 SEC 658, 668 (1958)). In the 1995 Report, the Division recommended that the Commission "respond realistically to the changes in the utility industry and interpret more flexibly each piece of the integration requirement."(48) The Transaction satisfies all four of these requirements. First, NSP, NSP-W and WEPCO are already physically interconnected. NSP-W and WEPCO are connected by a transmission system consisting of 345 Kv and lower voltage facilities. NSP-W and WEPCO currently own the direct connection at 345 Kv. NSP is directly connected to NSP-W through numerous transmission lines that they own, including one 345 Kv transmission line, two 115 Kv transmission lines and two 69 Kv transmission lines. See Exhibit E-2 hereto. Second, NSP and WEPCO will be economically operated as a single interconnected and coordinated system. The two companies are interconnected by a transmission system which will allow the transfer of power between NSP and WEPCO to achieve the production cost savings of $42 million expected over the next 10 years described in this Application-Declaration in Item 3.A.2.d.(i). above. The 345 Kv interconnection and others form the border between the Mid-Continent Area Power Pool and the Mid-American Interconnected Network called the MAPP/MAIN border. WEPCO is located in the Wisconsin, Upper Michigan (WUMS) portion - --------------- (48) 1995 report at 71. -92- of MAIN. NSP and NSP-W own 83% of the transmission capacity located to the west of the MAPP/WUMS border while WEPCO, under an allocation agreement, is entitled to the use of 52% of the MAPP/WUMS interconnection capability on the east side of the interconnection. NSP and WEPCO intend to operate Primergy as a single system, economically dispatched, although they also intend to continue to operate separate control areas, one within MAIN and one within MAPP. Since NSP already supplies a significant amount of economy energy to WEPCO, the parties do not believe that anticipated power flows after the transaction will change significantly from flows prior to the transaction. Thus, they believe that the anticipated power flows between the companies after the transaction should not have any adverse effect on the systems of neighboring utilities. Moreover, under FERC's rules governing open access transmission service and under the specific transmission tariffs being filed by Primergy, there is an obligation to expand constrained facilities if there is a sufficient demand for transmission service to justify doing so. In addition, the applicants, in various pleadings before the FERC, have made commitments, extending over several years, which will result in the expansion of the current level of interconnection capability. They have also made various commitments which would remove any incentive the applicants might arguably have to manipulate the interface to constrain power flows between MAPP and MAIN. These commitments include: (1) a commitment that any energy they sell on the west side of the interface during periods of constraint will be sold only at primergy's incremental cost (thus removing any profit incentive associated with deliberately constraining the interface) and (2) a commitment to waive their priority (under FERC precedent) associated with non-firm economy energy imports used to serve native load during periods of constraint. See exhibit D-1.2, hereto. Both of such commitments are for a period of approximately six years. NSP and WEPCO also have agreed to operate under an Independent Tariff Administrator to alleviate any concerns over their potential ability to exercise transmission market power. See Item 4.B. below. For integration purposes under the act, what is relevant is that: (i) Primergy will have sufficient internal transmission capacity to accommodate the anticipated transfers between the NSP and WEPCO systems under central economic dispatch, and will obtain transmission service from neighboring utilities to accommodate any transfers that might exceed the capabilities of its system; and (ii) Primergy's production cost savings can be achieved without the need for contracting for transmission service with others. The scheduled transfers to achieve the production cost savings can be achieved without exceeding the capability of the 345 Kv line, a transmission facility owned by the Primergy System. Third, this single integrated system will operate in a single area or region, the area delineated on Exhibit E-1, covering portions of Minnesota, Wisconsin, Michigan, North Dakota and South Dakota. in the 1995 report, the division has stated that the evaluation of the "single area or region" portion of the integration requirement "should be made...in light of the effect of technological advances on the ability to transmit electric energy economically over longer distances, and other developments in the industry, such as brokers and marketers, that affect the -93- concept of geographic integration."(49) The 1995 Report also recommends primacy be given to "demonstrated economies and efficiencies to satisfy the integration requirements."(50) As set forth in item 3.a.2.d.(i)., the Transaction will result in economies and efficiencies for the utilities and, in turn, their customers. Fourth, the system is not so large as to impair the advantages of localized management, efficient operations, and the effectiveness of regulation. The Commission's past decisions on "localized management" show that the Transaction fully preserves the advantages of localized management. In these cases, the Commission has evaluated localized management in terms of: (i) responsiveness to local needs, see American Electric Power Co., Fed. Sec. L. Rep. PARA 81, 647 at 80,602 (1978) (advantages of localized management evaluated in terms of whether an enlarged system could be "responsive to local needs"), General Public Utilities Corp., 37 SEC 28, 36 (1956) (localized management evaluated in terms of "local problems and matters involving relations with consumers"); (ii) whether management and directors were drawn from local utilities, see Centerior Energy Corp., Release No. 35-24073 (April 29, 1986) (advantages of localized management would not be compromised by the affiliation of two electric utilities under a new holding company because the new holding company's "management [would be] drawn from the present management" of the two utilities); Northeast Utilities, Release No. 35-25221 (December 21, 1990) (advantages of localized management would be preserved in part because the board of New Hampshire Utility, which was to be acquired by an out-of-state holding company, included "four New Hampshire residents"); (iii) the preservation of corporate identities, see Northeast Utilities, Release No. 35-25221 (December 21, 1990) (utilities "will be maintained as separate New Hampshire corporations...[t] herefore the advantages of localized management will be preserved"); Columbia Gas System, Inc., Release No. 35-24599 (March 15, 1988) (benefits of local management maintained where the utility to be added would be a separate subsidiary); and (iv) the ease of communications, see American Electric Power Co., Fed. Sec. L. Rep PARA 81,647 at 80,602 (1978) (distance of corporate headquarters from local management was a "less important factor in determining what is in the public interest" given the "present-day ease of communications and transportation"). The Transaction satisfies all of these factors. NSP and WEPCO will continue to operate through numerous regional offices with local service personnel and line crews available to respond to customers' needs. Moreover, as part of the Merger Agreement, Primergy has committed to provide charitable contributions and community support within the service areas of NSP, NSP-W and WEPCO at levels substantially comparable to the levels of charitable contributions and community support provided by the parties within the two-year period prior to the NSP Merger. In addition, the new management and Board of Directors of Primergy is expected to be drawn solely from the existing management and boards of NSP, WEC and WEPCO. After the transaction, NSP and WEPCO will maintain their current headquarters as subsidiary headquarters and as local operating headquarters for the areas they presently serve, while Primergy will maintain the system headquarters. Although the location of the corporate headquarters of Primergy will add distance from people who are served by WEPCO, this - --------------- (49) 1995 report at 72-74. (50) 1995 report at 73. -94- distance is, as noted by the Commission in the American Electric Power case, a relatively unimportant factor given the present ease of transportation and communications and the retention of WEPCO headquarters at its present location. Thus, the Transaction will preserve all the benefits of localized management of NSP and WEPCO. As described earlier, the system will facilitate efficient operation. Finally, the Primergy system will not impair the effectiveness of state regulation. NSP and WEPCO will continue their separate existence as before and their utility operations will remain subject to the same regulatory authorities by which they are presently regulated, namely the MPUC, PSCW, MPSC, NDPUC, SDPUC and the FERC. In addition, NSP, through the acquisition of the Designated Gas Utility Assets, will become subject to the jurisdiction of PSCW. NSP and WEC are working closely with the MPUC, PSCW, MPSC, NDPUC, and SDPUC as well as the FERC and the NRC to ensure they are well informed about this transaction. This Transaction will not be consummated unless all required regulatory approvals are obtained. (b) GAS UTILITY SYSTEM Section 2(a)(29)(B) defines an "integrated public utility system" as applied to gas utility companies as: a system consisting of one or more gas utility companies which are so located and related that substantial economies may be effectuated by being operated as a single coordinated system confined in its operation to a single area or region, in one or more states, not so large as to impair (considering the state of the art and the area or region affected) the advantages of localized management, efficient operation, and the effectiveness of regulation: provided, that gas utility companies deriving natural gas from a common source of supply may be deemed to be included in a single area or region. The Primergy gas utility system will meet the standard set forth in Section 2(a)(29)(B) and, therefore, will satisfy the requirements of sections 10(c)(1) and (2) and should be approved by the Commission. First, both the Commission's limited precedent and current technological realities indicate that the Primergy gas utility system will operate as a coordinated system confined in its operation to a single area or region because it will derive natural gas from common sources of supply, transportation and storage. The gas utility operations of NSP and WEPCO will operate in a single area or region covering portions of Wisconsin, Minnesota, Michigan and North Dakota. See Exhibit E-9 hereto. The Commission has not traditionally required that the pipeline facilities of an integrated system be physically interconnected,(51) and instead has looked to such issues as from whom the distribution companies within the system receive much, although not all, of their - --------------- (51) See, IN THE MATTER OF PENZOIL COMPANY, 43 SEC 709 (1968) (finding an integrated system where facilities both connected with an unaffiliated transmission company but not each other). See, ALSO AMERICAN NATURAL GAS COMPANY, 43 SEC 203 (1966) ("It is clear the integrated or coordinated operations of a gas system under the Act may exist in the absence of such interconnection"). -95- gas supply.(52) The Commission also has considered obtaining gas from a common pipeline(53) as well as from different pipelines when the gas originates from the same gas field in determining a common source of supply.(54) Since the time of most of these decisions, the state of the art in the industry has developed to allow efficient operation of systems whose gas supplies derive from many sources. Because natural gas is made up of naturally occurring elements found in geologic formations, and is not a refined energy product produced from other fuels, the natural gas and electricity industries developed in different structures. The gas industry developed in three separate segments: FUNCTION OWNERSHIP Production Independent Producers Transmission/Storage Interstate Pipelines/Storage Companies Distribution/Retail Sales Local Distribution Companies (LDCs) While the NSP and WEPCO gas systems are not physically interconnected, they will functionally perform as a coordinated system through the purchase of natural gas from common sources of supply, delivery through common interstate pipelines (all of which are open access transportation only pipelines under FERC order 636) and storage of gas in common underground storage facilities. This coordination will also result in greater, not lesser, efficiency. As explained previously under Item 1.B.4.: (i) NSP, NSP-W and WEPCO all contract for interstate pipeline transportation services from Northern Natural Gas Company, ANR Pipeline Company, and Viking Gas Transmission Company; (ii) all contract for underground storage services from ANR Pipeline Company and Northern Natural Gas Company; (iii) all procure transportation services from certain non-common pipelines (Great Lakes Gas Transmission Company, Northern Border Pipeline Company, Williston Basin Interstate Pipeline and Natural Gas Pipeline Company of America) and non-common storage providers (ANR Storage Company, KN Westex Gas Services Company, Moss Bluff Gas Storage System, Natural Gas Pipeline Company of America, Llano, Inc. Gas and Texaco Natural Gas Company, Inc.) and (iv) all three operations procure natural gas supplies from producers in several common supply areas: the Texas/Oklahoma/Kansas region and Canadian regions. Less significant volumes are purchased from non-common supply areas like the Rocky Mountain and Williston Basin regions. - --------------- (52) See, E.G., IN THE MATTER OF PHILADELPHIA COMPANY AND STANDARD POWER AND LIGHT COMPANY, 28 SEC 35 (1948) ("most of the gas used by these companies in their operations is obtained from common sources of supply"); CONSOLIDATED NATURAL GAS COMPANY, Release No. 35-25040 (February 14, 1990) (finding integrated system where each company derived natural gas from two transmission companies, although one such company also received gas from other sources). (53) IN THE MATTER OF NORTH AMERICAN COMPANY, 31 SEC 463 (1950) (finding Panhandle Eastern pipeline to be a common source of supply). (54) See, IN THE MATTER OF CENTRAL POWER COMPANY AND NORTHWESTERN PUBLIC SERVICE COMPANY, 8 SEC 425 (1941), in which the Commission declared an integrated system to exist where two entities purchase from different pipeline companies since "both pipelines run out of the Otis field, side by side, and are interconnected at various points in their transmission system; and that they are within two miles of each other at Kearney." -96- NSP, NSP-W and WEPCO all use a "supply grid" approach to gas supply procurement described in more detail in Item 1.B.4. Integrated NSP and WEPCO gas operations would present opportunities to use an expanded supply grid and more consolidated gas supply procurement to increase competition among suppliers, transporters and storage providers to capture approximately $102 million in delivered gas cost savings. One hundred percent of these savings will flow directly through to customers under the PGA clauses in NSP and WEPCO's tariffs if all of the system gas costs continue to receive PGA treatment as at present. Integrated gas operations could also offer opportunities for more efficient utilization of NSP and WEPCO peak shaving operations and more efficient reserve margins. With the cooperation of the common pipeline interconnections, the ability to engage in swap transactions will also exist. Finally, the system will not be so large as to impair the advantages of localized management or the effectiveness of regulation. As set forth in Item 3.A.2.b.(ii)., localized management will be preserved. The centralized functions of NSP will be managed from St. Paul, Minnesota, and the local functions will continue to be handled from several regional offices. Similarly, the central gas functions for WEPCO will continue to be run from Milwaukee, Wisconsin, and local matters will be handled by several regional offices. Management will, accordingly, remain close to the gas operations, thereby preserving the advantages of local management. As also set forth in Item 3.A.2.(b).(ii)., from a regulatory standpoint, there will be no impairment of regulatory effectiveness. The same regulators currently overseeing these gas operations will continue to have jurisdiction after the Transaction. Those same four states are already regulating multi-jurisdictional gas utilities as several other gas utilities currently operate in several states, and, indeed, NSP and NSP-W currently operate gas utilities in multiple states. For all of these reasons, the post-Transaction gas operations satisfy the integration requirements of Section 2(A)(29)(B). 3. Section 10(f) Section 10(f) provides that: The Commission shall not approve any acquisition as to which an application is made under this section unless it appears to the satisfaction of the Commission that such State laws as may apply in respect of such acquisition have been complied with, except where the Commission finds that compliance with such State laws would be detrimental to the carrying out of the provisions of section 11. As described below under Item 4, Regulatory Approvals, and as evidenced by the applications before the MPUC, PSCW, MPSC, NDPUC and SDPUC, Primergy intends to comply with all applicable state laws related to the proposed transaction. -97- 4. Temporary exception to permit the holding of NSP-W as a subsidiary of NSP for a short period of time following the NSP Merger For state tax reasons, the merger of NSP-W into WEPCO may not occur for up to twelve months after the NSP Merger. During this twelve month period, New NSP will own NSP-W. As previously stated, NSP is currently exempt from regulation under the Act (except for Section 9(a)(2) thereof) pursuant to Section 3(a)(2). As New NSP will be for all intents and purposes the same entity as NSP, it should continue to be exempt from registration under the Act as a registered holding company, pending its dividending the shares of NSP-W to Primergy. A similar result was reached in Kansas Power and Light Company, Release No. 35-25465 (February 5, 1992). In that order, Kansas Power and Light Company ("KPL") agreed to acquire all of the capital stock of Kansas Gas and Electric Company ("KGE"), a public utility and a public utility holding company exempt from registration under the Act pursuant to Section 3(a)(2). For various tax reasons, it was implausible to merge KGE directly into KPL. Therefore, pursuant to the merger agreement, KGE was merged first into an existing subsidiary of KPL, KCA Corporation ("KCA"). KCA would subsequently be merged into KPL. The Commission granted KCA an exemption under Section 3(a)(2) until the earlier of the date on which KCA ceased to be a subsidiary, or January 1, 1995, the date set by the Kansas Commission for consummation of the merger of KCA into KPL. The same facts are present here. NSP-W will remain a subsidiary of NSP to avoid adverse state tax consequences. Yet, it will cease to be a subsidiary of NSP no later than twelve months after the NSP Merger. For these reasons, applicants request that New NSP be exempt pursuant to Section 3(a)(2) from registration as a registered holding company under the Act until the earlier to occur of NSP-W ceasing to be a subsidiary of NSP or twelve months after the effective date of the NSP Merger. Furthermore, the Commission has in previous instances not required compliance with the Act's registration and related requirements in situations where a strict interpretation of the Act would require such registration if in a short period of time the situation would change so that registration would no longer be required. IN THE MATTER OF UNITED PUBLIC UTILITIES CORP. 21 SEC 67 (1945). The Commission has acted similarly where the purchase of outstanding securities of a public utility company which would require registration was to be superseded shortly by a merger of the acquired company into the acquiring company. IN THE MATTER OF CRESCENT PUBLIC SERVICE CO. 22 SEC 426 (1946). Similarly, the holding for a short period of time of NSP-W as a subsidiary of NSP to avoid adverse tax consequences, with the merger of NSP-W into WEPCO to take place shortly thereafter, should not require compliance with the registration or related provisions of the Act. 5. Section 9(a)(1) Primergy is also requesting authorization from the Commission under Section 9(a)(1) of the Act for the acquisition by it of the voting securities of Primergy Services, the Additional Services Companies and, if formed, Primergy Hold as part of the Transaction. Section 9(a)(1) of the Act requires a registered holding company or any subsidiary thereof to obtain authorization from the Commission before acquiring "any securities or utility assets or any other interest in any -98- business." In order to approve an acquisition under Section 9(a)(1), the Commission must find that such acquisition meets the standards of Section 10 of the Act, which in turn requires compliance with Sections 8 and 11 of the Act. Although Primergy will not become a registered holding company until consummation of the Transaction and thus Section 9(a)(1) is not applicable to it until that time, because Primergy will become subject to Section 9(a)(1) and whether and/or when Primergy Services, the Additional Services Companies or Primergy Hold will be formed have not been determined, Primergy is requesting the Commission's authorization for these transactions. The acquisition by Primergy of the common stock of Primergy Services or the Additional Services Companies, making them wholly-owned subsidiaries of Primergy, will allow Primergy to create specialized subsidiary service companies and capture economies of scale from the centralization of administrative and general services to be provided to system companies. Since the cost of such services are considered in rate cases, the benefits realized as a result of Primergy Services and the Additional Services Companies will accrue to Primergy's ratepayers. Virtually every registered holding company has one or more subsidiary service companies performing many of the same functions as Primergy Services and the Additional Services Companies will perform. The acquisition of Primergy Services and the Additional Services Companies is in the public interest, will not unduly complicate the capital structure of Primergy and will not cause the Primergy system to violate any other provision of the Act. Primergy Services and the Additional Services Companies will each have only one class of authorized stock, which will be its common stock, all of which will be owned by Primergy. The operation of Primergy Services and the Additional Services Companies, and the allocation of cost for their respective operations, are discussed in detail in Item 3.C. below. Primergy is also requesting authorization to acquire all of the issued and outstanding common stock of Primergy Hold, which, if formed, will serve as an intermediate holding company for certain of the system's non-utility subsidiaries. Primergy may form such an intermediate holding company to provide a clearer separation between the system's utility and non-utility operations and to allow for centralization of the operation of the non-utility operations. If it is formed, Primergy Hold will have a board of directors, appointed officers and, possibly, employees, and also will receive services from Primergy Services and, to the extent applicable, from the Additional Services Companies. Costs for any work performed for Primergy Hold by Primergy Services and the Additional Services Companies will be charged to Primergy Hold in accordance with the appropriate allocation method set forth in the Non-Utility Service Agreement. Finally, Primergy requests authorization under Section 9(a)(1) of the Act for Primergy Hold, if formed, to acquire all of the issued and outstanding common stock of several of the first-tier subsidiaries of NSP and WEC (other than WEPCO and NSP-W) and for Primergy to acquire all of the issued and outstanding common stock of the remaining first-tier subsidiaries of NSP and WEC (other than WEPCO and NSP-W) or, if not formed, for Primergy to acquire all such stock. As discussed in Item 3.A.2.c. above, each of these businesses may be retained by the Primergy system under the Act. -99- 6. Other Applicable Provisions-Sections 6, 7 and 12. As noted in Item 1.D., the Merger Agreement provides for Primergy to adopt the Primergy Stock Incentive Plan. In addition, Primergy intends to continue the WEC dividend reinvestment plan (which will replace the NSP dividend reinvestment plan), and to amend the stock provisions of their other employee plans to provide for the acquisition or issuance of shares of Primergy Common Stock in place of NSP Common Stock. Additional information concerning the anticipated terms of the DRIP and the Primergy Stock Incentive Plan is set forth in Item 1.D. To provide for the operation of these plans after the consummation of the Transaction and the registration of Primergy as a holding company under the Act, it is estimated that up to 18.2 million shares of Primergy Common Stock may need to be issued or acquired in open-market transactions through December 31, 2001 to fund the DRIP and the Stock Incentive Plan. The issuance by Primergy of shares of its common stock pursuant to such plans and to effect the Transaction will comply with the standards of Section 7 of the Act. With reference to Sections 7(c) and 7(d) of the Act, Primergy Common Stock has a par value of $0.01 per share, will be Primergy's only outstanding voting security and will not be preferred as to dividends or distributions over any other security of Primergy. Primergy Common Stock is reasonably adapted to Primergy's security structure (common stock being the cornerstone of a registered holding company's capital structure). B. Intra-system Financing. In the ordinary course of business, there have been and will continue to be intercompany loans among WEC and its direct and indirect non-utility subsidiaries. As previously noted in Item 1.B.5.b., one of the business purposes of WMIC is to engage in financing activities. Generally, if at any time during the year any of WEC, WITECH, WISPARK, WISVEST, Badger, Minergy or WMIC's subsidiary, WMF Corp., has excess cash, such excess is loaned to WMIC. These borrowed funds, as well as any funds borrowed under a $35 million line of credit available to WMIC or other bank lines, are used by WMIC to finance its own activities or are loaned by WMIC to the affiliates referenced above. WMIC is seeking a second line of credit of $30 million to replace a line that expired in March 1996. Such affiliates will borrow funds from WMIC, to the extent available, to finance their own activities or to finance the activities of entities in which they have an equity investment. These intercompany loans bear interest at a rate slightly above the applicable lender's cost of borrowing, the increase intended to cover the various costs borne in administering the loan. The loans are generally short-term in nature or due on demand. In addition, WMIC has a medium term note program for the issuance of up to $100 million of notes outstanding at any one time pursuant to which it borrows funds from unaffiliated third parties through the issuance of notes with maturities generally ranging from five to ten years. Such funds are generally loaned by WMIC to WEC's other non-utility subsidiaries to finance specific activities of such borrower, but may be used by WMIC for its own business purposes or may be loaned by WMIC to one of its subsidiaries or other affiliates. As with the intercompany loans discussed above, the proceeds of the medium term notes that are 100 loaned by WMIC to its affiliates bear interest at a rate slightly above the rate paid by WMIC on the medium term notes, the increase intended to cover the various costs borne in administering the loan. The maturity of the intercompany loan corresponds with the maturity of the medium term notes issued to obtain the funds. To support the business activities of the entities in which they invest, WITECH and WISPARK make loans and/or extend lines of credit to such entities from time to time and WEC's other direct subsidiaries may make such loans or extend credit to their respective investments in the future. At December 31, 1995, the intercompany loans among WEC and its direct subsidiaries were approximately $150 million. WITECH and WISPARK have made loans to affiliates of approximately $54 million at December 31, 1995. A portion of the $54 million loaned by WITECH and WISPARK was obtained by them from WMIC and is included in the $150 million referenced above. In addition to loans or extensions of credit made to various subsidiaries and affiliates, WISPARK and WMIC guarantee debt incurred by entities in which they have an equity investment. As of December 31, 1995, such guarantees were approximately $11 million. WEC loaned WMIC excess capacity funds, but has not guaranteed the debt of any affiliated company. However, WEC has entered into support agreements with WMIC and WMF Corp., which require WEC to ensure that the net worth of the other party to such agreement is continuously maintained at not less than $1.00. Certain debt holders of WMIC and WMF Corp. have the right to enforce performance by WEC under these support agreements. With respect to NSP, there have been and, while NSP-W continues after the NSP Merger as a subsidiary of NSP, will continue to be intra-company loans and advances in the ordinary course of business by NSP to NSP-W. The interest rate on such advances is equal to the average daily rate paid by NSP during the previous month on its short-term borrowings. Except as set forth below, NSP and NSP-W have not loaned money to, borrowed money from, or guaranteed the debt of any affiliated company. NSP has guaranteed approximately $4 million of FMAP's outstanding debt. This debt was incurred by FMAP in its acquisition of its primary asset, the parking garage next to NSP's headquarters. NSP also has agreed, in connection with the $8.5 million of outstanding 7.62% Notes of UP&L, to cause UP&L's cash flow to be at least 1.05 times its interest expense and mandatory debt retirement. The notes were issued in connection with UP&L's acquisition of the Renaissance Square building. As part of the purchase price for the acquisition of the Newport RDF facilities, NRG issued a note to NSP, of which approximately $9.5 million was outstanding on December 31, 1995 and which bears interest at a varying rate. NSP had outstanding bank loans aggregating approximately $9.9 million at December 31, 1995, relating to the NSP Employee Stock Ownership Plan (the "ESOP"). NSP loans the proceeds of these loans to the ESOP with interest rates and payment terms identical to NSP's obligations under the bank loans. In connection with the various non-utility projects conducted by NRG through subsidiaries, the debt incurred to finance such projects and obligations related to such projects has been non-recourse to NRG except as follows. As explained in Appendix B, NRG Gladstone (a wholly-owned subsidiary of NRG) operates the Gladstone Power Station in Queensland, 101 Australia pursuant to an Operation and Maintenance Agreement. NRG Gladstone's obligations under the Operation and Maintenance Agreement are guaranteed by NRG, subject to an aggregate liability cap of $25 million (Australian) indexed in accordance with the Australian consumer price index (approximately $20 million, based on exchange rates and the Australian consumer price index in effect on December 31, 1995.) Also, in connection with the acquisition of the Gladstone Power Station, NRG guaranteed that its subsidiaries involved in the project would pay Australian taxes. NRG has guaranteed the commitments of NRGenerating and NRG International to invest $25 million in the Latin Power investment funds. With respect to the acquisition of the Sunnyside cogeneration facility, NRG has guaranteed a note of SCA (the entity that owns the facility) and the outstanding principal amount of such note was approximately $1.75 million on December 31, 1995. NRG loaned $2 million to Minnesota Waste Processing in connection with Minnesota Waste Processing's acquisition of its warehouse to store RDF. As explained in Annex A under the caption "O'Brien," NRG is in the final stages of acquiring 42% of the equity interests of O'Brien Environmental Energy, Inc. The United States Bankruptcy Court for New Jersey approved the acquisition in February 1996. NRG has made various financial commitments in connection with its acquisition of 42% of O'Brien, consisting of the following: (i) a $35 million loan to O'Brien, (ii) the provision of a $100 million letter of credit, which O'Brien can make draws under, (iii) an agreement to provide financing to Reorganized O'Brien in connection with the Co-Investment Agreement described in Annex A under the caption "O'Brien." NSP and WEC hereby request that the Commission approve the continuance of all outstanding and committed intercompany loans and guarantees of indebtedness. C. Primergy Services/Additional Services Companies As described more fully in Item 1.B.1.e., Primergy Services and the Additional Services Companies may provide NSP and WEPCO, pursuant to the Service Agreement and the non-utility subsidiaries of the Primergy system pursuant to the Non-Utility Service Agreement, with one or more of the following: administrative, management and support services, including services relating to information systems, meters and transportation, electric and gas system maintenance, marketing and customer relations, transmission and distribution, engineering and construction, power engineering and construction, human resources, materials management, facilities, accounting, power planning, public affairs, legal, rates, finance, rights of way, internal auditing, environmental affairs, fuels, investor relations, strategic and operations planning, and general administrative and executive management services. In accordance with the Service Agreement, services provided by Primergy Services and the Additional Services Companies will be directly assigned, distributed or allocated by activity, project, program, work order or other appropriate basis. To accomplish this, employees of Primergy Services and the Additional Services Companies will record transactions utilizing the existing data capture and accounting systems of each client company. Costs of Primergy Services and the Additional Services Companies will be accumulated in accounts of each such service company and directly assigned, distributed and allocated to the appropriate client company in accordance with the guidelines set forth in the Service Agreement. NSP and WEC are currently developing the system and procedures necessary to implement the Service Agreement. It is anticipated that Primergy Services and the Additional Services Companies will be staffed primarily by transferring 102 personnel from the current employee rosters of NSP, WEPCO and their subsidiaries. Each service company's accounting and cost allocation methods and procedures are structured so as to comply with the Commission's standards for service companies in registered holding company systems and are described in Exhibit B-5.1 hereto. Each service company's billing system will use the "Uniform System of Accounts for Mutual Service Companies and Subsidiary Service Companies" established by the Commission for service companies of registered holding company systems. As compensation for services, the Service Agreement will provide for the client companies to: "pay to [Primergy Services or any Additional Services Company] all costs which reasonably can be identified and related to particular services performed by Primergy Services or any Additional Services Companies for or on its behalf." Where more than one company is involved in or has received benefits from a service performed, the Service Agreement will provide that "costs will be directly assigned, distributed or allocated, between or among such companies on a basis reasonably related to the service performed to the extent reasonably practicable," in accordance with the methods set forth in Appendix A to the Service Agreement. Thus, charges for all services provided by Primergy Services and any Additional Services Companies to affiliated utility companies will be on an "at cost" basis as determined under Rules 90 and 91 of the Act. The Non-Utility Service Agreement will contain provisions similar to those of the Service Agreement, except as set forth in detail below in this Item 3.C. The Non-Utility Service Agreement also will permit charges for certain services to be at fair market value to the extent authorized by the Commission. Thus, except for the requested exceptions discussed below, services provided by Primergy Services and any Additional Services Companies to non-utility affiliates pursuant to the Non-Utility Service Agreement will also be charged on an "at cost" basis as determined under Rules 90 and 91 of the Act. Section 13(b) of the Act allows the Commission to exempt transactions, by rule, regulation or order, from the provisions of Section 13(b) and the rules promulgated thereunder if such transactions: (1) are with any associate company which does not derive, directly or indirectly, any material part of its income from sources within the United States and which is not a public utility company operating within the United States; or (2) involve special or unusual circumstances or are not in the ordinary course of business. The Commission has utilized this exemptive power in the past under certain circumstances (55) and recently with some frequency to generally allow non-utility subsidiaries of registered holding - --------------- (55) See, e.g., New England Electric System, Release No. 35-22309 (December 9,1981) (utility permitted to enter into lease with affiliated joint venture with lease payments based on market price); EUA Cogenex Corporation, Release No. 263731 (September 14, 1995) (authorizing service companies of two registered holding companies to provide services to affiliated joint venture at market based rates in certain circumstances). 103 companies to provide services to certain FUCOs, EWGs and QFs at market-based rates. (56) In addition, in the 1995 Report, the Division recommended that "the SEC should also issue exemptive orders under Section 13 allowing more non-utility subsidiaries to charge market rates to non-utility affiliates." (57) The Commission's principal concern under Section 13 of the Act is to protect the utility companies in a holding company system from abusive cross-subsidization transactions with affiliates. Exemptions from Rules 90 and 91 for purely non-utility transactions will not interfere with this mandate as all services to utility subsidiaries will be at cost in accordance with Rules 90 and 91, but will benefit the holding company system by allowing it to offer competitively priced services based on market considerations. In fact, pursuant to Section 13(b)(1), the Commission has adopted Rule 83(a), which provides that a service company "which subsidiary is or is about to become engaged in the performance of any service, sales, or construction contract for any associate company which does not derive, directly or indirectly, a material part of its income from sources within the United States and which is not a public-utility company operating within the United States may obtain an "exemption....from the standards established by Section 13(b) of the Act, and the [Commission's] rules and regulations promulgated thereunder, relating to the performance of any service, sales or construction contract for such associate companies." Thus, Primergy Services and the Additional Services Companies hereby request that the Commission grant an exemption from the provisions of Rules 90 and 91, and the at-cost requirement contained therein, for the following transactions: Services provided to FUCOs, EWGs and associate companies (the "Primergy Foreign Associate Companies") (58) that derive no part of their income, directly or indirectly, from the generation, transmission or distribution of electric energy for sale or the distribution of natural gas at retail in the United States and services provided to an associated EWG or QF or IPP, provided that the purchaser of the electricity sold by such entity is not an associate company of Primergy. No services will be provided at market-based rates to a QF or EWG or IPP selling electricity to NSP or WEPCO unless authorized by the Act or the Commission. No change in the organization of Primergy Services or any Additional Services Company, the type and character of the companies to be serviced, the methods of allocating costs to associate companies, or in the scope or character of the services to be rendered subject to Section 13 of the Act, or any rule, regulation or order thereunder, shall be made unless and until Primergy Services or the applicable Additional Services Company, as the case may be, shall first have given the Commission written notice of the proposed change not less than 60 days prior to the proposed effectiveness of any such change. If, upon the receipt of any such notice, the Commission shall notify Primergy Services or the applicable Additional Services Company, as the case may be, within the 60-day period that a question exists as to whether the proposed change is consistent with the provisions of Section 13 of the Act, or of any rule, regulation or order thereunder, then the proposed change shall not become effective unless and until Primergy - --------------- (56) See, e.g., Entergy Corporation, Release No. 35-26322 (June 30, 1995); General Public Utilities Corporation, Release No. 35-26307 (June 14, 1995) and The Southern Company, Release No. 35-26212 (December 30, 1994). (57) 1995 Report at 102. (58) The companies that currently are Primergy Foreign Associate Companies are those entities (other than NRG) listed in Item 3.A.2.(c). under the caption "OWNERSHIP OF, OPERATION OF, AND PROVIDING SERVICES TO FOREIGN EWGS AND FUCOS." 104 Services or the applicable Additional Services Company, as the case may be, shall have filed with the Commission an appropriate declaration regarding such proposed change and the Commission shall have permitted such declaration to become effective. Primergy will structure the Service Agreement and the Non-Utility Service Agreement so as to comply with Section 13 of the Act and the Commission's rules and regulations thereunder. Rule 88: Rule 88(b) provides that "[a] finding by the Commission that a subsidiary company of a registered holding company...is so organized and conducted, or to be so conducted, as to meet the requirements of Section 13(b) of the Act with respect to reasonable assurance of efficient and economical performance of services or construction or sale of goods for the benefit of associate companies, at cost fairly and equitably allocated among them (or as permitted by [Rule] 90), will be made only pursuant to a declaration filed with the Commission on Form U-13-1, as specified in the instructions for that form, by such company or the persons proposing to organize it." Notwithstanding the foregoing language, the Commission has on at least two recent occasions made findings under Section 13(b) based on information set forth in an Application-Declaration on Form U-1, without requiring the formal filing of a Form U-13-1. See UNITIL Corp., et al., Release No. 35-25524 (April 24, 1992); CINergy Corp., Release No. 35-26146 (October 21, 1994). In this Application-Declaration, Primergy has submitted substantially the same application information as would have been submitted in a Form U-13-1. Accordingly, it is submitted that it is appropriate to find that Primergy Services and the Additional Services Companies will be so organized and shall be so conducted as to meet the requirements of Section 13(b), and that the filing of a Form U-13-1 is unnecessary, or, alternatively, that this Application-Declaration should be deemed to constitute a filing on Form U-13-1 for purposes of Rule 88. As explained previously under Item 1.B.5.a., NSP has various subsidiaries and affiliates, including the Primergy Foreign Associate Companies (59) (collectively, the "Exempt Companies") that currently are providing services (including operation and maintenance) and selling goods to EWGs and QFs or to entities that will qualify as EWGs or FUCOs following the Transaction. The applicants request that the Commission permit the Exempt Companies to continue such transactions without compliance with the at cost provisions of Section 13(b) and the rules and regulations thereunder. The Commission has previously granted affiliates of registered holding companies authority to provide goods and services to existing and future EWGs, QFs and FUCOs without compliance with the at cost provisions that fall within one of the following categories: "1) the project is a FUCO or an EWG that derives no part of its income, directly or indirectly, from the generation, transmission, or distribution of electric energy for sale within the United States; - --------------- (59) These companies and entities (the "Exempt Companies") are listed in Item 3.A.2.(c). under the captions "OWNERSHIP OF, OPERATION OF, AND PROVIDING SERVICES TO FOREIGN EWGS AND FUCOS" and "OWNERSHIP AND OPERATION OF QFS AND FACILITIES RELATED THERETO." 105 2) the project is an EWG that sells electricity at market-based rates which have been approved by the FERC or the appropriate state public utility commission, provided that the purchaser is not an Excepted Company; (60) 3) the project is a QF that sells electricity exclusively at rates negotiated at arm's length to one or more industrial or commercial customers purchasing such electricity for their use and not for resale, or to an electric utility company other than an Excepted Company; or 4) the power project is an EWG or a QF that sells electricity at rates based upon its cost of service, as approved by FERC or any state public utility commission having jurisdiction, provided that the purchaser is not an Excepted Company." Entergy Corp. et al., Release No. 35-26322 (June 30, 1995). In the above Entergy order, the Commission granted Entergy Enterprises, a wholly owned subsidiary of Entergy, authority to provide consulting services to associate companies, including EWGs, FUCOs and QFs and operations and management services, either directly, or through newly-established subsidiaries of Entergy or Entergy Enterprises, to associate companies, including EWGs, FUCOs or QFs, without complying with the at cost provisions of Section 13(b) and the rules and regulations thereunder. Also, in CINergy Corp. et al, Release No. 35-26376 (September 21, 1995), the Commission authorized CINergy and CINergy Investments, a wholly-owned subsidiary of CINergy, to acquire securities of new special purpose subsidiaries ("NSPS") and to make additional investments in existing special purpose subsidiaries ("ESPS"). ESPS and NSPS acquire, own or hold securities of, and provide services to, FUCOs or EWGs. The Commission also authorized ESPS and NSPS and CINergy Services to provide administrative, management and support services to other ESPS and NSPS and their subsidiaries without complying with the at cost provisions of Section 13(b) and the rules and regulations thereunder. See also General Public Utilities Corp. et al., Release No. 35-26457 (January 18, 1996), (Pending completion of the record, the Commission reserved jurisdiction over whether subsidiaries formed to directly or indirectly acquire the securities of EWGs and FUCOs ("Subsidiary Companies") could sell goods and services to associate EWGs, FUCOs and associate Subsidiary Companies without complying with the at cost provisions of Section 13(b) and the rules and regulations thereunder). The applicants request that the Commission permit the Exempt Companies to provide services or sell goods to EWGs, to QFs and to entities that will qualify as QFs, EWGs or FUCOs following the Transaction to the same extent permitted by the Commission in the above-cited orders. In addition, the applicants request an exception with respect to Landfill Power and Minnesota Methane which, as explained in Item 1.B.5.a., are affiliates of NSP that own portions of QF facilities that sell power to NSP pursuant to PURPA contracts approved by the MPUC. - --------------- (60) An Excepted Company was defined as any subsidiary whose activities and operations were primarily related to the domestic sale of electric energy at retail or at wholesale to affiliates or providing goods and services to such affiliates. 106 The exception being requested by applicants is that the Commission permit the Exempt Companies to provide services or goods to Landfill Power and Minnesota Methane without compliance with the at cost standards. The power purchase contracts of Landfill Power and Minnesota Methane with NSP do not contain any provisions that would affect the price NSP pays for power as a result of the price charged by the Exempt Companies in providing services or goods to Landfill Power or Minnesota Methane. Applicants also request that the Commission exempt from the at cost standards various existing contracts among affiliates of NSP that are not EWGs, QFs or entities that will become EWGs or FUCOs following the Transaction. Each of these contracts (including the parties to each contract) is described in Annex H and each was approved by the MPUC and/or the PSCW. Under Minnesota law, "[N]o contract or arrangement, including any general or continuing arrangement, providing for the furnishing of management, supervisory, construction, engineering, accounting, legal, financial or similar services and no contract or arrangement for the purchase, sale, lease or exchange of any property, right or thing, or for the furnishing of any service, property, right or thing, other than those above enumerated, made or entered into after January 1, 1975, between a public utility and any affiliated interest...is valid or effective unless and until the contract or arrangement has received the written approval of the [Minnesota Public Utilities] commission." (61) An "affiliated interest" includes every subsidiary of a public utility. Furthermore the statute provides that "the [Minnesota Public Utilities] Commission shall approve the contract or arrangement...only if it shall clearly appear and be established upon investigation that it is reasonable and consistent with the public interest...," with the utility bearing the burden of proving that it is in the public interest. (62) Also, under a policy statement issued in Docket No. EG-999/CI-90-1008 (1994), the MPUC had adopted extensive guidelines on the allocation of costs for transactions with non-regulated affiliates. The Policy Statement docket initially arose from an investigation of non-regulated utility appliance sales and service programs. However, the MPUC later expanded the scope of the docket, and the Policy Statement applies to all utility arrangements with non-regulated affiliates. (63) The Policy Statement provides that costs should be assigned between the utility and non-regulated function using the following four step hierarchy: - --------------- (61) Section 216B.48, subdivision 3 (Supp. 1993). (62) Id. (63) In MPUC Docket No. G002/M-94-831, the MPUC again expanded the scope of the Policy Statement, indicating it would be applied to assign costs between NSP utility operations and regulated affiliates (such as Viking). 107 1. Tariffed rates shall be used to value tariffed services provided to the non-regulated activity. 2. Costs shall be directly assigned to either regulated or non-regulated activities whenever possible. 108 3. Costs which cannot be directly assigned are common costs which shall be grouped into cost categories. Each cost category shall be allocated based on direct analysis of the origin of costs wherever possible. If direct analysis is not possible, common costs shall be allocated based upon an indirect cost-causative linkage to another cost category or group of cost categories for which direct assignment or allocation is available. 4. When neither direct nor indirect measures of cost causation can be found, the cost category shall be allocated based upon a general allocator computed by the ratio of all expenses directly assigned or attributed to regulated and non-regulated activities, excluding the cost of fuel, gas, purchased power, and the cost of goods sold. Under this hierarchy, costs are allocated to non-regulated or regulated affiliates on a "fully allocated cost" basis, in order to prevent any subsidy of non-utility operations by the regulated utility operations and its customers. The contracts listed in Annex H between associate companies are considered contracts between a public utility and an affiliated interest under Minnesota and Wisconsin law. However, for each contract, the MPUC (and in some cases the PSCW) has determined that the contract is reasonable and is in the public's interest. The Commission's principal concern under Section 13 of the Act is to protect utility companies in a holding company system from abusive cross-subsidization transactions between associate companies. Since the MPUC or the PSCW has found that all the aforementioned contracts are reasonable and are in the public interest, these contracts are devoid of such cross-subsidization and should be permitted to continue. Also, the contracts listed in Annex H under Natural Gas and Gas Related Services are exempt from the at cost standards of the Act under Rule 81. Applicants also request that the Commission exempt from the at cost standards the management and administrative services to be provided by NRG to Reorganized O'Brien, which services are described in Annex A under the caption "O'Brien." These services are to be provided at cost and such contract was approved by the Bankruptcy Court as part of the reorganization. None of the entities to be acquired by NRG in this transaction, or to which NRG will be providing such services, will be a "public-utility company" under the Act. Accordingly, the provision of these services is devoid of the cross-subsidization at which the Act is directed and should be permitted. D. Other Services In addition to the services to be provided by Primergy Services, NSP and WEPCO may provide one another with certain services incidental to their utility businesses, such as meter reading, materials management, gas purchasing, transportation, and services of linemen and gas trouble crews. These services will be provided at cost in accordance with the standards of the Act and the Commission's rules and regulations thereunder. 109 Item 4. Regulatory Approvals Set forth below is a summary of the regulatory approvals that Primergy expects to obtain in connection with the Transaction. It is a condition to the consummation of the Mergers that final orders approving the Mergers be obtained from the SEC under the Act and from the various federal and state commissions described below on terms and conditions which would not have, or would not be reasonably likely to have, a material adverse effect on the business, assets, financial condition or results of operations of Primergy and its prospective subsidiaries taken as a whole, or on Primergy's prospective utility subsidiary located in the State of Minnesota taken as a whole, or on its prospective utility subsidiary located in the State of Wisconsin or which would be materially inconsistent with the agreements of the parties contained in the Merger Agreement. A. Antitrust The HSR Act and the rules and regulations thereunder provide that certain transactions (including the Transaction) may not be consummated until certain information has been submitted to the Department of Justice ("DOJ") and Federal Trade Commission ("FTC") and the specified HSR Act waiting period requirements have been satisfied. NSP and WEC will submit the Notification and Report Forms and all required information to the DOJ and FTC. The expiration of the HSR Act waiting period does not preclude the Antitrust Division or the FTC from challenging the Transaction on antitrust grounds; however, applicants believe that the Transaction will not violate Federal antitrust laws. If the Transaction is not consummated within twelve months after the expiration or earlier termination of the initial HSR Act waiting period, NSP and WEC will be required to submit new information to the Antitrust Division and the FTC, and a new HSR Act waiting period would have to expire or be terminated before the Transaction could be consummated. B. Federal Power Act Section 203 of the Federal Power Act provides that no public utility shall sell or otherwise dispose of its jurisdictional facilities or directly or indirectly merge or consolidate such facilities with those of any other person or acquire any security of any other public utility, without first having obtained authorization from the FERC. On July 10, 1995, an application was filed with the FERC for approval of the Transaction under Section 203 and Part 33 of the FERC's regulations. WEPCO, NSP and NSP-W also filed on July 10, 1995 a Network Integration Service Tariff and a Point-to-Point Transmission Service Tariff under Section 205. Finally, on that same date, the applicants filed under Section 205 an amendment to the interchange agreement between NSP and NSP-W to substitute WEPCO for NSP-W. In addition, NSP and NSP-W hold certain hydroelectric project licenses, as well as certificates of public convenience and necessity under Section 7 of the Natural Gas Act. The mergers of NSP into New NSP and NSP-W into WEPCO will constitute transfers of the hydroelectric project licenses and the certificates of public convenience and necessity, requiring approval of the FERC. Furthermore, prior to the mergers of NSP into New NSP and NSP-W into WEPCO, the approval of the FERC under Section 204 of the Federal Power Act is required for New NSP and WEC to assume the debt of NSP and NSP, respectively. 110 In the pleadings filed in the proceedings before the FERC, the applicants committed to FERC that they would operate under an independent tariff administrator ("ITA") after the Mergers, to alleviate any concerns over their potential ability to exercise transmission market power. As proposed by the applicants, the ITA would be an independent body governed by an independent board of directors. The ITA would administer the tariff by providing service on a comparable basis to all users, determining available transmission capacity, proposing additions to transmission facilities, scheduling transactions over the transmission system, and receiving and accounting for transmission revenues. For reasons of safety and liability, applicants propose to retain actual operational control over their transmission system including operating breakers and transmission facilities maintenance. The manner in which the ITA would operate is explained in detail in the supplemental testimony of Jose M. Delgado before the FERC, which is filed as Exhibit D-1.3 hereto. FERC is currently examining whether variants of the applicants' ITA proposal should be imposed on all utilities across the nation. Applicants, of course, are committed to accepting whatever proposals regarding comparable transmission access eventually emanate from the FERC. FERC has established that all potential users of a transmission system should receive comparable access. The applicants, of course, will comply with whatever rules and regulations FERC issues to further this goal. Thus, the applicants will not be able to exercise any market power because of their transmission facilities. In an order issued January 31, 1996, FERC set only the competitive impact of the Mergers for hearing and ordered an initial decision to be issued before August 30, 1996. FERC also said that it would not set for hearing issues regarding the potential savings from the Mergers, provided NSP and WEPCO agreed to a four-year rate freeze for wholesale customers. Subject to exceptions regarding matters outside of NSP's and WEPCO's control (such as an increase in taxes), NSP and WEPCO have accepted the rate freeze. C. Natural Gas Act NSP and NSP-W perform LNG services under certificates of public convenience and necessity issued by FERC under Section 7(c) of the Natural Gas Act. NSP provides certain LNG liquefaction and redelivery service for NSP-W under a 1985 agreement approved by FERC in Docket No. CP81-522-005, 45 FERC PARA 62, 013 (1988). NSP-W provides certain LNG storage and vaporization services for NSP under a 1985 agreement approved by FERC in Docket No. CP76-84-002, 37 FERC PARA 61, 302 (1986). As part of the Transaction, NSP and NSP-W will seek FERC authorization to abandon the certificated services by assignment of the contractual obligations to New NSP and WEPCO. NSP and NSP-W anticipate submitting the abandonment requests later in 1996. The abandonments will transfer the authority to the successor corporations of NSP and NSP-W, but will not affect the form or level of LNG services provided or the costs or revenues to the respective successor companies. 111 D. Atomic Energy Act NSP holds NRC operating licenses in connection with its ownership and operation of the Prairie Island and Monticello nuclear generating facilities. The operating licenses authorize NSP to own and operate the facilities. The Atomic Energy Act provides that such a license or any rights thereunder may not be transferred or in any manner disposed of, directly or indirectly, to any person through transfer of control unless the NRC finds that such transfer is in accordance with the Atomic Energy Act and consents to the transfer. Pursuant to the Atomic Energy Act, NSP and WEC will seek approval from the NRC to reflect the fact that after the Mergers, New NSP, although continuing to own and operate the Prairie Island and Monticello facilities, will become an operating company subsidiary of Primergy. E. State Public Utility Regulation The MPUC, PSCW, NDPSC and MPSC have jurisdiction over various aspects of the Transaction and an application for disclaimer of jurisdiction has been filed with the SDPUC. By order dated September 8, 1995, the SDPUC agreed that it did not have jurisdiction. Reference is made to Exhibits D-2.1 through D-6.1 with respect to the applications before those commissions. Except as set forth above, no other state or local regulatory body or agency and no other Federal commission or agency has jurisdiction over the transactions proposed herein. Item 5. Procedure The Commission is respectfully requested to issue and publish not later than April 15, 1996, the requisite notice under Rule 23 with respect to the filing of this Application-Declaration, such notice to specify a date not later than May 9, 1996 by which comments may be entered and a date on or after May 9, 1996, as the date when an order of the Commission granting and permitting this Application-Declaration to become effective may be entered by the Commission. It is submitted that a recommended decision by a hearing or other responsible officer of the Commission is not needed for approval of the proposed Transaction. The Division of Investment Management may assist in the preparation of the Commission's decision. There should be no waiting period between this issuance of the Commission's order and the date on which it is to become effective. Item 6. Exhibits and Financial Statements A. Exhibits A-1 Amended and Restated Articles of Incorporation of NSP (filed as Exhibit 3.01 to Form 10-Q of NSP for the quarter ended March 31, 1992, File No. 1-3034, and incorporated herein by reference) 112 A-2 Amended Articles of Incorporation of NSP-W (filed as Exhibit 30.01 to Form 10-K of NSP-W for the year ended December 31, 1987, File No. 10-3140, and incorporated herein by reference) A-3 Amended Articles of Incorporation of New NSP (filed as Annex J to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) A-4 Amended and Restated Articles of Incorporation of WEC (filed as Exhibit (3)-1 to Form 10-Q of WEC for the quarter ended June 30, 1995, File No. 1-9057, and incorporated herein by reference) A-5 Amended and Restated Articles of Incorporation of WEPCO (filed as Exhibit (3)-1 to Form 10-K of WEPCO for the year ended December 31, 1994, File No. 1-1245 and incorporated herein by reference) B-1 Agreement and Plan of Merger (Merger Agreement) (filed as Annex A to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) B-2 WEC Stock Option Agreement (filed as Annex C to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) B-3 NSP Stock Option Agreement (filed as Annex B to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) B-4 Form of Service Agreement between Primergy Services, Inc. and utility affiliates (to be filed by Amendment) B-5 Form of Service Agreement between Primergy Services, Inc. and non-utility affiliates (to be filed by Amendment) B-5.1 Primergy Services, Inc. Accounting and Cost Assignment Procedures (to be filed by Amendment) C-1 Registration Statement of WEC on Form S-4 (as amended) (filed as Registration Statement No. 33-61619 and incorporated herein by reference) C-2 Joint Proxy Statement and Prospectus (included in Exhibit C-1) C-3 Registration Statement of WEC on Form S-3 relating to the WEC Dividend Reinvestment Plan (filed as Registration Statement No. 33-57765 and incorporated herein by reference) C-4 Primergy Stock Incentive Plan (filed as Annex K to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) D-1.1 Original and supplemental testimony of Dr. Joe D. Pace to the FERC (to be filed by Amendment) D-1.2 Supplemental testimony of Jose M. Delgado before the FERC (to be filed by Amendment) D-1.3 Application of NSP, WEC and WEPCO before the FERC (to be filed by Amendment) D-2.1 Application of NSP before the MPUC (to be filed by Amendment) D-3.1 Application of NSP, WEC, NSP-W and WEPCO before PSCW (to be filed by Amendment) D-4.1 Application of NSP before NDPSC (to be filed by Amendment) D-5.1 Application of NSP, WEC, NSP-W and WEPCO before MPSC (to be filed by Amendment) D-6.1 Application of NSP before SDPUC (to be filed by Amendment) E-1 Map of service areas of NSP, NSP-W and WEPCO 113 E-2 Map showing interconnections of NSP, NSP-W and WEPCO E-3 Map of WEPCO electric and gas service areas E-4 Map of NSP electric and gas service areas E-5 Map of NSP-W electric and gas service areas E-6 Map of NSP-W transmission system E-7 Map of WEPCO transmission system E-8 Map of NSP transmission system E-9 Map of Primergy gas utility system E-10 NSP corporate chart E-11 WEC corporate chart E-12 Primergy corporate chart without Primergy Hold E-13 Map of "grid" of interstate pipelines serving Primergy's four state area F-1 Preliminary opinion of counsel (to be filed by Amendment) F-2 Past-tense opinion of counsel (to be filed by Amendment) G-1 Opinion of Goldman, Sachs & Co. (filed as Annex F to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) G-2 Opinion of Barr Devlin Associates, Inc. (filed as Annex G to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) H-1 Annual Report of NSP on Form 10-K for the year ended December 31, 1995 (File No. 1-3034 and incorporated herein by reference) H-2 Annual Report of WEC on Form 10-K for the year ended December 31, 1995 (File No. 1-9057 and incorporated herein by reference) H-3 Annual Report of WEPCO on Form 10-K for the year ended December 31, 1995 (File No. 1-1245 and incorporated herein by reference) H-4 NSP 1995 Annual Report to Shareholders (to be filed by Amendment) H-5 WEC 1995 Annual Report to Shareholders and Proxy Statement Relating to the May 27, 1996 Annual Meeting of Stockholders (including Annual Financial Statements) (to be filed by Amendment) H-6 Annual Report on Form 10-K of NSP-W for the year ended December 31, 1995 (File No. 10-3140 and incorporated herein by reference) I-1 Proposed Form of Notice J-1 NSP and NSP-W Analysis of the Economic Impact of a Divestiture of the Gas Operations of NSP and NSP-W J-2 WEC analysis of the Economic Impact of a Divestiture of WEPCO's Gas Operations J-3 Table of Estimated Losses of Economies in Prior Decisions on Divestiture and Retention of Gas Operations (to be filed by Amendment) J-4 Legal Memorandum of Cahill, Gordon & Reindel B. Financial Statements FS-1 Primergy Unaudited Pro Forma Condensed Consolidated Balance Sheet as of December 31, 1995 (included in Form 10-K for the year ended December 31, 1995 of WEC (Exhibit H-2 hereto) at p. 98) 114 FS-2 Primergy Unaudited Pro Forma Condensed Consolidated Statements of Income for the year ended December 31, 1995 (included in Form 10-K for the year ended December 31, 1995 of WEC (Exhibit H-2 hereto) at p. 99) FS-3 WEC Consolidated Balance Sheet as of December 31, 1995 (see Annual Report of WEC on Form 10-K for the year ended December 31, 1995 (Exhibit H-2 hereto), at p. 63 and 64) FS-4 WEC Consolidated Statements of Income for its last three fiscal years (see Annual Report of WEC on Form 10-K for the year ended December 31, 1995 (Exhibit H-2 hereto), at p. 61) FS-5 WEPCO Consolidated Balance Sheet as of December 31, 1995 (see Annual Report of WEPCO on Form 10-K for the year ended December 31, 1995 (Exhibit H-3 hereto), at p. 59 and 60) FS-6 WEPCO Consolidated Statements of Income for its last three fiscal years (see Annual Report of WEPCO on Form 10-K for the year ended December 31, 1995 (Exhibit H-3 hereto), at p. 58) FS-7 NSP Consolidated Balance Sheet as of December 31, 1995 (see Annual Report of NSP on Form 10-K for the year ended December 31, 1995 (Exhibit H-1 hereto), at p. 65) FS-8 NSP Consolidated Statements of Income for its last three fiscal years (see Annual Report of NSP on Form 10-K for the year ended December 31, 1995 (Exhibit H-1 hereto), at p. 64) 115 Item 7. Information as to Environmental Effects The Transaction neither involves "major federal actions" nor "significantly [affects] the quality of the human environment" as those terms are used in Section (2)(C) of the National Environmental Policy Act, 42 U.S.C. Sec. 4332. The only federal actions related to the Transaction pertain to the Commission's declaration of the effectiveness of the Joint Registration Statement, the approvals and actions described under Item 4 and Commission approval of this Application-Declaration. Consummation of the Transaction will not result in changes in the operations of NSP, NSP-W, or WEPCO that would have any impact on the environment. No federal agency is preparing an environmental impact statement with respect to this matter. 116 SIGNATURE Pursuant to the requirements of the Public Utility Holding Company Act of 1935, each of the undersigned companies has duly caused this Application-Declaration to be signed on its behalf by the undersigned thereunto duly authorized. NORTHERN STATES POWER COMPANY WISCONSIN ENERGY CORPORATION BY: /S/ E. J. McIntyre BY: /s/ Calvin H. Baker ------------------------------ ------------------------------- E. J. McIntyre Calvin H. Baker Vice President and Vice President - Finance Chief Financial Officer Date: April 5, 1996 117 Index of Exhibits EXHIBIT - DESCRIPTION - TRANSMISSION METHOD Method Exhibit Description of Filing Number ----------- - --------- ------ A-1 Amended and Restated Articles of Incorporation of NSP (filed as Exhibit 3.01 to Form 10-Q of NSP for the quarter ended March 31, 1992, File No. 1-3034, and incorporated herein by reference) A-2 Amended Articles of Incorporation of NSP-W (filed as Exhibit 30.01 to Form 10-K of NSP-W for the year ended December 31, 1987, File No. 10-3140, and incorporated herein by reference) A-3 Amended Articles of Incorporation of New NSP (filed as Annex J to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) A-4 Amended and Restated Articles of Incorporation of WEC (filed as Exhibit (3)-1 to Form 10-Q of WEC for the quarter ended June 30, 1995, File No. 1-9057, and incorporated herein by reference) A-5 Amended and Restated Articles of Incorporation of WEPCO (filed as Exhibit (3)-1 to Form 10-K of WEPCO for the year ended December 31, 1994, File No. 1-1245 and incorporated herein by reference) B-1 Agreement and Plan of Merger (Merger Agreement) (filed as Annex A to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) B-2 WEC Stock Option Agreement (filed as Annex C to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) B-3 NSP Stock Option Agreement (filed as Annex B to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) B-4 Form of Service Agreement between Primergy Services, Inc. and utility affiliates (to be filed by Amendment) B-5 Form of Service Agreement between Primergy Services, Inc. and non-utility affiliates(to be filed by Amendment) B-5.1 Primergy Services, Inc. Accounting and Cost Assignment Procedures (to be filed by Amendment) C-1 Registration Statement of WEC on Form S-4 (as amended) (filed as Registration Statement No. 33-61619 and incorporated herein by reference) 118 C-2 Joint Proxy Statement and Prospectus (included in Exhibit C-1) C-3 Registration Statement of WEC on Form S-3 relating to the WEC Dividend Reinvestment Plan (filed as Registration Statement No. 33-57765 and incorporated herein by reference) C-4 Primergy Stock Incentive Plan (filed as Annex K to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) D-1.1 Original and supplemental testimony of Dr. Joe D. Pace to the FERC (to be filed by Amendment) D-1.2 Supplemental testimony of Jose M. Delgado before the FERC (to be filed by Amendment) D-1.3 Application of NSP, WEC and WEPCO before the FERC (to be filed by Amendment) D-2.1 Application of NSP before the MPUC (to be filed by Amendment) D-3.1 Application of NSP, WEC, NSP-W and WEPCO before PSCW (to be filed by Amendment) D-4.1 Application of NSP before NDPSC (to be filed by Amendment) D-5.1 Application of NSP, WEC, NSP-W and WEPCO before MPSC (to be filed by Amendment) D-6.1 Application of NSP before SDPUC (to be filed by Amendment) P E-1 Map of service areas of NSP, NSP-W and WEPCO P E-2 Map showing interconnections of NSP, NSP-W and WEPCO P E-3 Map of WEPCO electric and gas service areas P E-4 Map of NSP electric and gas service areas (Portions shown in Wisconsin and Michigan are NSP-W territory) P E-5 Map of NSP-W electric and gas service areas E-6 Map of NSP-W transmission system (Included in Exhibit E-2) P E-7 Map of WEPCO transmission system E-8 Map of NSP transmission system (Included in Exhibit E-2) P E-9 Map of Primergy gas utility system P E-10 NSP corporate chart P E-11 WEC corporate chart P E-12 Primergy corporate chart without Primergy Hold P E-13 Map of "grid" of interstate pipelines serving Primergy's four state area F-1 Preliminary opinion of counsel (to be filed by Amendment) F-2 Past-tense opinion of counsel (to be filed by Amendment) 119 G-1 Opinion of Goldman, Sachs & Co. (filed as Annex F to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) G-2 Opinion of Barr Devlin Associates, Inc. (filed as Annex G to Registration Statement No. 33-61619 on Form S-4 and incorporated herein by reference) H-1 Annual Report of NSP on Form 10-K for the year ended December 31, 1995 (File No. 1-3034 and incorporated herein by reference) H-2 Annual Report of WEC on Form 10-K for the year ended December 31, 1995 (File No. 1-9057 and incorporated herein by reference) H-3 Annual Report of WEPCO on Form 10-K for the year ended December 31, 1995 (File No. 1-1245 and incorporated herein by reference) H-4 NSP 1995 Annual Report to Shareholders (to be filed by Amendment) H-5 WEC 1995 Annual Report to Shareholders and Proxy Statement Relating to the May 27, 1996 Annual Meeting of Stockholders (including Annual Financial Statements) (to be filed by Amendment) H-6 Annual Report on Form 10-K of NSP-W for the year ended December 31, 1995 (File No. 10-3140 and incorporated herein by reference) DT I-1 Proposed Form of Notice DT J-1 NSP and NSP-W Analysis of the Economic Impact of a Divestiture of the Gas Operations of NSP and NSP-W DT J-2 WEC analysis of the Economic Impact of a Divestiture of WEPCO's Gas Operations DT J-3 Table of Estimated Losses of Economies in Prior Decisions on Divestiture and Retention of Gas Operations (to be filed by Amendment) DT J-4 Legal Memorandum of Cahill, Gordon & Reindel FS-1 Primergy Unaudited Pro Forma Condensed Consolidated Balance Sheet as of December 31, 1995 (included in Form 10-K for the year ended December 31, 1995 of WEC (Exhibit H-2 hereto) at p. 98) FS-2 Primergy Unaudited Pro Forma Condensed Consolidated Statements of Income for the year ended December 31, 1995 (included in Form 10-K for the year ended December 31, 1995 of WEC (Exhibit H-2 hereto) at p. 99) FS-3 WEC Consolidated Balance Sheet as of December 31, 1995 (see Annual Report of WEC on Form 10-K for the year ended December 31, 1995 (Exhibit H-2 hereto), at p. 63 and 64) FS-4 WEC Consolidated Statements of Income for its last three fiscal years (see Annual Report of WEC on Form 10-K for the year ended December 31, 1995 (Exhibit H-2 hereto), at p. 61) 120 FS-5 WEPCO Consolidated Balance Sheet as of December 31, 1995 (see Annual Report of WEPCO on Form 10-K for the year ended December 31, 1995 (Exhibit H-3 hereto), at p.59 and 60) FS-6 WEPCO Consolidated Statements of Income for its last three fiscal years (see Annual Report of WEPCO on Form 10-K for the year ended December 31, 1995 (Exhibit H-3hereto), at p. 58) FS-7 NSP Consolidated Balance Sheet as of December 31, 1995 (see Annual Report of NSP on Form 10-K for the year ended December 31, 1995 (Exhibit H-1 hereto), at p. 65) FS-8 NSP Consolidated Statements of Income for its last three fiscal years (see Annual Report of NSP on Form 10-K for the year ended December 31, 1995 (Exhibit H-1 hereto), at p. 64) 121 ANNEX A DOMESTIC OPERATIONS OF NRG SAN JOAQUIN. San Joaquin Valley Energy Partners I, L.P. ("SJVEP I") owns the Chowchilla II, El Nido and Madera power generation facilities in San Joaquin Valley, California with capacity of 10 Mw, 10 Mw and 25 Mw, respectively. San Joaquin Valley Energy Partners IV, L.P. ("SJVEP IV") owns the Chowchilla I power generation facility in San Joaquin Valley, California with capacity of 10 Mw. Both SJVEP I and SJVEP IV are QFs. SAN JOAQUIN VALLEY ENERGY I, INC., a wholly- owned subsidiary of NRG, is a 2% general partner and NRG ENERGY JACKSON VALLEY II, INC., another wholly-owned subsidiary of NRG is a 43% limited partner in SJVEP I. SAN JOAQUIN VALLEY ENERGY IV, INC., a wholly-owned subsidiary of NRG, is a 2% general partner and NRG ENERGY JACKSON VALLEY II, INC. is a 43% limited partner in SJVEP IV. The other partnership interests are owned by partnerships formed by two individuals and by an individual investor, none of whom are affiliates or associates of NSP or WEC. SJVEP I and SJVEP IV are both managed by a management committee composed of two members from NRG and two from the other general partner. NRG does not receive a fee for such services. The four San Joaquin facilities commenced commercial operations between 1988 and 1990 and each facility burns biomass fuel. The fuel for Chowchilla I is supplied by Bioconversion Partners, L.P. ("BIOCONVERSION") pursuant to contracts with SJVEP I and SJVEP IV. SAN JOAQUIN VALLEY ENERGY IV, INC. is a 2% general partner and NRG ENERGY JACKSON VALLEY II, INC. is a 43% limited partner of Bioconversion. The balance of the ownership interests in Bioconversion are owned by entities that are not affiliates or associates of NSP or WEC. The Bioconversion facility is a multi-hearth plant that gasifies biomass, producing a low heat content gas that is used by the Chowchilla I plant as fuel for power generation. A by-product of the Chowchilla I gasification process is a charcoal-like substance that is used as one of the several biomass fuels at Chowchilla II. SJVEP I and SJVEP IV have agreed with Pacific Gas and Electric Co. ("PG&E") to a buy-out by PG&E of the power purchase agreements for the Chowchilla I, Chowchilla II, El Nido and Madera facilities. Under the terms of the buyout, the SJVEP partnerships have agreed to terminate the power purchase agreements with PG&E in exchange for a termination payment by PG&E. In addition, PG&E has a one-time right of first refusal with respect to sales by SJVEP I or SJVEP IV to any third party of capacity and energy from the facilities. As a result of the buy-out of the PG&E power purchase agreements, the San Joaquin facilities have been taken out of service until the SJVEP partnerships enter into replacement power purchase agreements, with either PG&E or a third party, or locate a purchaser for the facilities. JACKSON VALLEY. The Jackson Valley cogeneration facility, located near Ione, California approximately 45 miles east of Sacramento, is a 16 Mw fluidized bed power generation facility fueled by waste lignite. The Jackson Valley facility is owned and operated by Jackson Valley Energy Partners, L.P., a California limited partnership ("JVEP"). NRG ENERGY JACKSON VALLEY I, INC. and NRG ENERGY JACKSON VALLEY II, INC., each a wholly owned subsidiary of NRG, own, respectively, a 2% general partnership interest and a 48% limited partnership interest in A-1 JVEP. The remaining partnership interests are owned by partnerships formed by two individuals who are not affiliates or associates of NSP or WEC. The facility, which is a QF, began operation in 1987. JVEP and PG&E are party to a long-term energy and capacity purchase agreement for the sale of facility output that expires in 2017. JVEP and PG&E are currently negotiating the buy-out of such agreement by PG&E, pursuant to which the agreement would be terminated in exchange for a) a termination payment by PG&E to JVEP, b) an agreement on a new long-term energy and capacity purchase agreement, and c) restart of the plant under the new contract on May 1, 1997. Pending agreement on the terms of the buy-out, JVEP and PG&E have executed a bridging agreement, pursuant to which the Jackson Valley facility has suspended operations. If agreement is not reached, the existing purchase agreement with PG&E will remain in effect. JVEP acquired the Jackson Valley facility in July 1991. In connection with its acquisition of the facility, JVEP also acquired a montan wax manufacturing plant, three mineral leases and rights to mine lignite on property near the facility. The property includes mines that are estimated to contain an aggregate of more than 38 million tons of lignite, a residue lignite pile and approximately 300 acres of undeveloped real property. The montan wax plant is the thermal host for the power generation facility and, because of its use of steam from the power facility, provides the power facility its QF status. The wax plant extracts wax from mined lignite material, which creates, as a by- product, waste lignite used to fuel the Jackson Valley power generation facility. The use of waste fuel provides an additional basis for the power generating facility's QF status. Montan wax is a hard, high-melting point fossilized vegetable wax sold to unaffiliated third-parties for certain industrial and commercial applications. All of the lignite mined by JVEP is used for internal consumption by the wax plant and the power generation facility. SUNNYSIDE. The Sunnyside facility, located in Carbon County, Utah, is a 58 Mw waste coal-fired facility that utilizes circulating fluidized bed technology and is a QF. The Sunnyside facility is owned by Sunnyside Cogeneration Associates ("SCA"), a Utah joint venture, 50% of which is owned by NRG SUNNYSIDE INC. (a wholly-owned subsidiary of NRG), and 50% of which is owned by an affiliate of Babcock & Wilcox. Sunnyside Operations Associates L.P. ("SOA"), a Delaware limited partnership in which wholly-owned subsidiaries of NRG (NRG SUNNYSIDE OPERATIONS GP INC. AND NRG SUNNYSIDE OPERATIONS LP INC.) and a Babcock & Wilcox affiliate each hold 50% interests, performs operation and maintenance services on behalf of SCA. SCA and SOA are both managed by a management committee composed of two members from NRG and two members from Babcock & Wilcox. NRG is not compensated for such services. PacificCorp purchases the energy and capacity generated by the Sunnyside facility pursuant to a power purchase agreement with an initial term expiring in 2023. SCA also owns an 8.7 million ton waste-coal pile located on property adjacent to the facility site. The waste-coal is delivered to the facility fuel handling system by an unaffiliated material handling contractor under a 25-year material handling contract at prices escalated according to a schedule of indices. The 8.7 million ton waste-coal pile is expected to provide sufficient fuel for facility operations until 2013. A-2 O'BRIEN. In February, 1996, the United States Bankruptcy Court for New Jersey approved the acquisition by NRG of an approximately 42% interest in O'Brien Environmental Services, Inc. upon the effective date of NRG's proposed plan of reorganization for O'Brien (expected to be in April 1996). O'Brien owns interests in several operating projects which are QFs and one development project, which will be a QF ("O'Brien Cogeneration Subsidiaries"). Jersey Central Power & Light, Co., the utility purchaser under the power purchase agreements for two of the operating projects, has agreed to allow the relevant facilities to become EWGs at the option of NRG. At this time, no applications for EWG status have been filed with respect to such projects, but filings are expected to be made shortly. O'Brien also holds, through O'Brien Fuels, Inc., coalbed methane subsidiaries which own interests in gas rights ("O'Brien Coalbed Subsidiaries"). O'Brien also owns several subsidiaries which sell, rent and manufacture gas, steam and engine generator sets and associated equipment ("O'Brien Equipment Subsidiaries"), several subsidiaries which engage in demand side management services ("O'Brien Management Services Subsidiaries") and several subsidiaries that supply biogas ("O'Brien Biogas Subsidiaries"). Pursuant to the plan of reorganization, approximately $107 million is currently expected to be made available to O'Brien's creditors, at least $81 million of which will be provided by NRG as follows: (i) a $28 million payment by NRG for its 42% of the equity of O'Brien; (ii) a $7.5 million payment by NRG for all of O'Brien's interest in certain biogas projects; and (iii) a $45 million unsecured loan from NRG to O'Brien. NRG is currently negotiating with an unaffiliated lender to refinance the Newark Boxboard project in the amount of $56 million, of which approximately $26 million would be applied for distribution to O'Brien's creditors in reduction of NRG's approximately $107 million obligation. If this financing is not obtained concurrently with the closing of the O'Brien transaction, NRG would be obligated to make a loan to Reorganized O'Brien in the amount of $26 million. Upon closing of the transaction, NRG would provide Reorganized O'Brien with management and administrative services in connection with day to day operations at cost. NRG employees also would serve as NRG's designees on the board of directors of Reorganized O'Brien and may serve as certain executive officers of Reorganized O'Brien. NRG and Reorganized O'Brien would also enter into a "Co-Investment Agreement," pursuant to which NRG would grant Reorganized O'Brien a right of first offer to acquire from NRG each energy development project first developed or acquired by NRG for which a co-investor is required because of federal or state regulatory restrictions on NRG's ownership. NRG has agreed that, within the three-year period following the closing date of the acquisition of O'Brien, a minimum of one or more such projects, having an aggregate equity value of at least $60 million or a minimum power generation capacity of 150 Mw, will be so offered. To facilitate Reorganized O'Brien's ability to acquire projects under the Co-Investment Agreement, NRG is obligated to provide financing to Reorganized O'Brien to the extent funds are unavailable to Reorganized O'Brien on comparable terms from other sources. In connection with its bid for O'Brien, on January 3, 1996, NRG obtained a $100 million letter of credit from Canadian Imperial Bank of Commerce, which it delivered to O'Brien on A-3 January 18, 1996. NRG's reimbursement obligation under the letter of credit is secured by a pledge by NRG of $60.9 million of cash provided by NSP to NRG, NRG's right to receive $27.3 million in connection with the San Joaquin project termination settlements and the stock of NRG Energy Center, Inc., the NRG subsidiary that owns Minneapolis Energy Center. O'Brien has the right to draw upon the letter of credit upon satisfaction of the conditions to closing under the acquisition agreement between NRG and O'Brien that is part of the plan of reorganization. NRG would be obligated to repay any draw on the letter of credit within five business days. NEO. NRG owns NEO Corporation ("NEO"), a wholly-owned subsidiary formed to develop small power generation facilities in the United States. NEO is currently involved in landfill gas-fired power generation projects, which are based on the abatement of emissions of methane gas from landfills, and small hydroelectric projects, all of which are QFs. Minnesota Methane LLC ("MINNESOTA METHANE"), which is 50% owned by NEO and 50% owned by Ziegler Inc., is the primary vehicle for participation in the landfill gas-fueled power generation and on-site power generation projects undertaken by NEO. Minnesota Methane currently owns and operates a 3.3 Mw facility located in Burnsville, Minnesota, which has been in operation since May 1993 and which is being expanded to 4 Mw. Power from this facility is sold to NSP pursuant to a twenty-year agreement approved by the MPUC in Docket No. E002/AI-94-378. In March 1996, Minnesota Methane commenced commercial operation of a 3 Mw facility in Nashua, New Hampshire. The generation assets for the Nashua project are owned by SUNCOOK ENERGY CORPORATION, a wholly-owned subsidiary of Minnesota Methane. The landfill gas collection system for the Nashua project is owned by FOUR HILLS, L.P., of which FOUR HILLS, INC. (a 50%- owned subsidiary of NEO) is the 1% general partner and Ziegler Inc. and NEO are each 49.5% limited partners. In addition, joint ventures of NEO and Ziegler Inc. are pursuing seventeen additional projects in the United States. NEO's interest in the seventeen new projects will be held through the following project companies: LFG Partners, L.L.C.; MM Yolo Power LLC; NEO Albany, L.L.C.; NEO Billerica, Limited Partnership; NEO Chautauqua, L.L.C.; NEO Fitchburg, Limited Partnership; NEO Hartford, LLC; NEO Lopez Canyon LLC; NEO Lowell, Limited Partnership; NEO Manconn, L.L.C.; NEO Phoenix LLC; NEO Prima Deschecha LLC; NEO San Antonio LLC; NEO South Chollas LLC; NEO Spokane LLC; NEO Tacoma, L.L.C.; NEO Tajiguas LLC; NEO Taunton, Limited Partnership; NEO Tomoka Farms LLC; NEO Tulare LLC; NEO West Covina LLC; NEO Yolo LLC; Neomass Billerica, Inc.; Neomass Fitchburg, Inc.; Neomass Lowell, Inc. and Neomass Taunton, Inc. Landfill Power LLC ("LANDFILL POWER"), which is 50% owned by Minnesota Methane and 50% owned by a subsidiary of Browning-Ferris Industries, owns and operates a 4.6 Mw landfill gas-fired power generation facility located in Eden Prairie, Minnesota that commenced commercial operation in December 1994. Power from this facility is sold to NSP pursuant to a 30-year contract that was approved by the MPUC in Docket No. E002/AI-95-371. Landfill Power also owns a 15.7 Mw landfill gas-fired power generation facility in Inver Grove Heights, Minnesota that commenced commercial operation in March 1996. Power from this facility is sold to NSP pursuant to a 30-year contract approved by the MPUC in Docket No. E002/AI-95-2570. A-4 NORTHBROOK ENERGY, L.L.C., which is 50% owned by NEO and 50% owned by Omega Energy Partners L.L.C. ("Omega Energy"), is the primary vehicle for participation in hydroelectric power projects undertaken by NEO. NEO entered the hydroelectric power generation market through the acquisition of STS Hydropower Ltd. ("STS HYDROPOWER") in December 1994, which is a wholly-owned subsidiary of NORTHBROOK ACQUISITION CORP., which is in turn a wholly-owned subsidiary of Northbrook Energy, L.L.C. Omega Energy is owned by the two principal officers of STS Hydropower. STS Hydropower owns and operates ten facilities throughout the United States with total generating power capacity of 21 Mw. None of the electricity from these facilities is sold to NSP, NSP-W, WEC or any of their affiliates or associates. In addition, STS Hydropower operates an additional facility on a cost plus fee basis. In February 1996, STS Hydropower expects to commence commercial operation of a 3 Mw facility in Dixon, Illinois. SYNCOAL. Since 1991, through its wholly owned subsidiary, Scoria Incorporated ("SCORIA"), NRG has been a 50% partner in the Rosebud SynCoal Partnership ("RSCP"), a general partnership. RSCP's other 50% partner is Western SynCoal, a subsidiary of Entech, a wholly-owned subsidiary of Montana Power Company. RSCP manufactures SynCoal, with its Advanced Coal Conversion Process ("ACCP"), a patented process owned by Western SynCoal and Scoria, at RSCP's Colstrip Coal Beneficiation Plant located in Colstrip, Montana. The plant began commercial operations in August 1993. Western Energy, a subsidiary of Montana Power Company, operates the plant pursuant to an operation agreement with the partnership. The ACCP process upgrades low quality, high moisture lignite and sub-bituminous coals to clean, stable, high quality, low moisture bituminous coals. The partnership's long-term goal is to develop an economical process that produces a stable, pure SynCoal. As of December 31, 1995, an investment of $2.7 million remains on NRG's books for RSCP. LOUISIANA ENERGY. In 1991, NRG formed, with eight other U.S. and European companies, Louisiana Energy Services, L.P. ("LES"), a Delaware limited partnership that will develop a privately owned uranium enrichment facility in the U.S. NRG owns a 6.73% interest in LES through two wholly-owned subsidiaries, GRAYSTONE CORPORATION--a 0.54% general partner of LES and LE PAZ INCORPORATED--a 6.19% limited partner of LES. LES plans to build an enrichment plant, the Claiborne Enrichment Center ("CEC"), on a site it selected and purchased in Claiborne Parish, Louisiana. LES is seeking to obtain a license to construct and operate the facility from the Nuclear Regulatory Commission. NRG has written off its $2.7 million investment in LES and currently has no net investment in LES. NSP has a contract with LES to purchase up to 30% of its uranium enrichment services from LES. This contract was approved by the MPUC in Docket No. E-002/AI-92-1164. If licensed, the CEC would be the first privately owned, federally licensed, commercial uranium enrichment facility in the U.S. The plant would employ advanced gas centrifuge technology, which is more energy-efficient than gas diffusion technology and which has been used reliably for over 20 years in other commercial scale enrichment plants. No nuclear reactions or chemical conversions would take place at the CEC. Furthermore, if the license is issued, prior to proceeding with construction, LES would be required to negotiate the necessary construction agreements, complete the remaining pre-construction engineering and discuss the A-5 sale of the plant's output with potential customers. Construction would take approximately three years from the commencement of construction until the plant is fully operational. RESOURCE RECOVERY OPERATIONS. NRG owns 100% of and operates a resource recovery facility in Newport, Minnesota and operates a resource recovery facility owned jointly by NSP and United Power Association in Elk River, Minnesota and a related ash landfill in Becker, Minnesota. Together these facilities can process an aggregate of nearly 3,000 tons of municipal sold waste ("MSW") per day into refuse derived fuel ("RDF") and currently process over 800,000 tons of MSW per year. As of December 31, 1995, NRG's investment in the Newport facility was approximately $10 million. RDF from the Newport facility is sold to NSP pursuant to an agreement expiring on December 31, 2001, with automatic renewals of five years until written notice to terminate is delivered by either party, which was approved by the MPUC in Docket No. E002/AI-93-770. Minnesota Waste Processing Company, L.L.C. ("MINNESOTA WASTE PROCESSING"), a limited liability company 50% owned by NRG and 50% owned by LJP Enterprises, Inc., collects MSW from several cities in southern Minnesota that is processed at the Newport facility and at an unaffiliated RDF facility. Additionally, NRG uses Minnesota Waste Processing's primary asset, a large warehouse, as a temporary RDF storage facility to enable more efficient utilization of RDF as a feedstock to NSP's generating plants. The $2 million storage and transfer warehouse owned by Minnesota Waste Processing has been financed through a loan from NRG to Minnesota Waste Processing. The RDF storage warehouse is located on property adjacent to NSP's Wilmarth generating station in Mankato, Minnesota. The property is leased by Minnesota Waste Processing from NSP pursuant to an agreement approved by the MPUC in Docket No. E002/GR-92-1185. Since 1989, NRG has operated the Elk River resource recovery facility located in Elk River, Minnesota and a related ash landfill in Becker, Minnesota. This facility can process over 1,500 tons of MSW per day, 90% of which is recovered and re-used in NSP's power generation facilities in Elk River and Mankato, Minnesota. NSP owns 85% of the Elk River facility, and United Power Association owns the remaining 15%. NSP also owns an ash landfill in Becker, Minnesota which receives ash from the burning of RDF, pursuant to agreements with Anoka County, Hennepin County and Sherburne County. Pursuant to agreements between NSP and the counties of Anoka, Hennepin and Sherburne in Minnesota and the Tri-County Solid Waste Management Commission in Minnesota, all of which expire in 2009, NSP is obligated to process a maximum of 450,000 tons of MSW per year and is entitled to receive service fees based on the amount of waste processed, pass-through costs, revenues credited to the counties and certain other factors. NSP also is entitled to an operation and maintenance fee, which is designed to recover fixed costs and to provide NSP a guaranteed amount for operating and maintaining the facility for the processing of 214,900 tons of waste, whether or not the counties deliver such waste for processing. NRG has agreed to operate the Elk River facility and the Becker ash landfill on behalf of NSP and receives compensation for its services. Currently there is no written agreement between NRG and NSP for the operation of the Elk River facility. NRG and NSP are in the process of negotiating an A-6 agreement that will govern NRG's operation of the Elk River facility, including NRG's compensation. Such agreement will be subject to review by, and will require the approval of, the MPUC. The compensation and exchange of services between NRG and NSP has been pursuant to the Administrative Services Agreement between the parties that was approved by the MPUC in Docket No. E002/AI-92-148. STEAM AND CHILLED WATER PRODUCTION, TRANSMISSION AND RELATED SERVICES. NRG, through its wholly-owned subsidiary NRG Energy Center, Inc. ("NRG ENERGY CENTER"), acquired the Minneapolis Energy Center in August 1993 for approximately $110 million. NRG Energy Center provides steam and chilled water to customers in downtown Minneapolis, Minnesota. NRG Energy Center currently provides 86 customers with 1.3 billion pounds of steam per year and 29 customers with 35.7 million tons of chilled water per year. NRG Energy Center's assets include the main downtown steam and chilled water plant, the First Avenue chilled water plant, the North Riverfront steam and chilled water plant, the Soo Line steam plant, the Baker Building steam plant, the Minneapolis Convention Center chilled water plant, the Foster House Hotel chilled water plant, the Fairview steam plant, six miles of steam distribution lines and two miles of chilled water distribution lines. The NRG Energy Center plants have a combined steam capacity of 1.17 Mcf per hour (343 Mwt) and a cooling capacity of 32,900 tons per hour. NRG Energy Center's steam and chilled water rates are not subject to the jurisdiction of the MPUC. NATS. In August 1995, NRG formed a joint venture (the "TVI JOINT VENTURE") with Thermal Ventures, Inc. ("TVI"), a company owned by two individuals, for the purpose of acquiring an interest in district heating and cooling companies. Both NRG and TVI will hold limited partnership interests in district heating and cooling companies acquired through the TVI Joint Venture. In addition, NRG and TVI have established North American Thermal Systems Limited Liability Company ("NATS") for the purpose of jointly owning their respective general partnership interests in such district heating and cooling companies. NRG and TVI each participate equally in the TVI Joint Venture and each owns 50% of the membership interests in NATS. In August 1995, Thermal Ventures LP ("TVLP"), a limited partnership owned by the principals of TVI, transferred 48.9% of the limited partnership interests in both the Pittsburgh Thermal, Limited Partnership ("PTLP") and the San Francisco Thermal, Limited Partnership ("SFTLP") to NRG for $3.5 million. On February 23, 1996, the California Public Utility Commission approved the sale and transfer of SFTLP's 1% general partnership interest from TVI to NATS. The related sale and transfer of PTLP's 1% general partnership interest from TVI to NATS was approved by the Pennsylvania Public Utility Commission on March 13, 1996. NRG has agreed to pay $1.4 million to TVLP and make a capital contribution to NATS of $250,000 as consideration for each general partner's transfer. Both PTLP and SFTLP are regulated utilities that operate under tariffs and are rate-regulated. PTLP owns and operates a district heating and cooling system that serves part of downtown Pittsburgh and has a peak capacity of 240,000 pounds of steam per hour and 11,000 tons of chilled water per year (106 Mwt). PTLP serves 24 customers with 300 million pounds of steam per year and 21 million tons of chilled water per year. A-7 SFTLP is the sole supplier of steam to downtown San Francisco. It serves the area through its district heating system which has a capacity of 490,000 pounds of steam per hour (144 Mwt). SFTLP serves approximately 210 customers with approximately 700 million pounds of steam per year that is primarily used for space and domestic heating and absorption air-conditioning. WALDORF. The Waldorf process steam operation, which is owned and operated by NRG, consists of a five-mile closed-loop steam/condensation line that delivers steam to the Waldorf Corporation, a paper manufacturer in St. Paul, Minnesota. NRG purchases steam for its Waldorf line from NSP's High Bridge power generation facility pursuant to an agreement for the sale of thermal energy that expires in 2002 and that was approved by the MPUC in Docket No. E002/CI-82-523. NRG and NSP are currently negotiating amendments to the agreement, including an extension of the term, which will require MPUC approval in 1996. The Waldorf steam/condensation line was placed in service in 1983 and is the longest buried high pressure steam line in the United States designated for a single user. Under its agreement for the sale of thermal energy with NRG, NSP is obligated to provide a minimum of 2.64 MMBtu and a maximum of 4 MMBtu of usable steam during each fiscal year at a steam flow rate of between 250,000 pounds per hour to 430,000 pounds per hour. NRG is obligated to pay all of NSP's incremental costs associated with the sale of steam to NRG, including the incremental cost of coal (as delivered to the High Bridge facility), maintenance, auxiliary electrical power usage, ash disposal and replacement energy. WASHCO. NRG's Washco steam operation primarily consists of two steam lines and a back-up boiler facility. Washco's steam assets were placed in service in 1986. In addition to steam produced by NRG's boiler facility, NRG also purchases steam for its Washco operation from NSP pursuant to an agreement expiring in December 2006, which was approved by the MPUC in Docket No. E-002/M-86-775. The contract provides for the recovery by NSP of all its incremental costs plus a user fee. NRG sells the steam from its Washco operation to Andersen Corporation and to a Minnesota state correctional facility. Pursuant to a contract with NSP, Washco also sells waste wood (which NRG obtains primarily from Anderson Corporation) to NSP for use as a boiler fuel, at NSP's average cost for solid fuels burned at the NSP plant providing steam to Washco, which contract, as part of the order approving the sale of steam by NSP, also was approved by the MPUC in Docket No. E002/M-86-775. GRAND FORKS. NRG's Grand Forks boiler plant facility consists of seven boilers located in Grand Forks, North Dakota that were acquired from NSP on March 1, 1991. As of December 31, 1995, NRG's investment in its Grand Forks facility was approximately $1 million. The Grand Forks facility buys or transports gas under contract with NSP, which was approved by the MPUC. The Grand Forks facility provides a minimum of 400,000 MMBtus of high temperature water annually to the Grand Forks Air Force Base pursuant to an agreement that expires in September 2000. A-8 NRG Energy Center's steam operations and NRG's Waldorf, Washco and Grand Forks steam operations are not regulated by the MPUC. CDECCA. Subject to receipt of the consents of Connecticut Light & Power ("CL&P"), Coastal Corp. and the project lenders, NRG has agreed to acquire, through the acquisition of 100% of the stock of AE FOURTEEN, a wholly owned subsidiary of Aetna Corp., a 50% interest in the 56 Mw CDECCA natural gas-fired cogeneration facility in Hartford, Connecticut. NRG is acquiring the stock of AE Fourteen for approximately $10.2 million. The CDECCA facility is a QF and sells up to 45 Mw of power to CL&P under a power purchase agreement that expires in 2008, with the remaining 11 Mw paid for by Aetna under a long-term power purchase agreement that expires in 2008. Aetna and Energy Networks, Inc. are the thermal hosts for the facility. Affiliates of Coastal Corp., which own the remaining 50% interest in the facility, operate the facility and supply gas to the facility under agreements that expire in 2000 (subject to extension at the option of such affiliates to 2008). NRG HARTFORD, INC., a wholly-owned subsidiary of NRG, will hold the real estate on which the facility is located and will be the lessor of the lease to CDECCA. Approximately $49 million of project financing for the CDECCA facility is outstanding under a credit facility that matures in 2003. Under the terms of the stock purchase agreement between NRG and Aetna, either party has the right to terminate the agreement if the transaction has not been consummated by January 1, 1996. NRG and Aetna have orally agreed to extend this date to April 30, 1996. This extension has not been memorialized in a formal written agreement. A-9 ANNEX B INTERNATIONAL OPERATIONS OF NRG NRG has developed a complex legal structure involving foreign holding companies, corporations, partnerships and joint ventures through which NRG holds interests in its international projects. These entities are organized to maximize available cash flows (by reducing and deferring foreign and U.S. taxes) and to minimize global tax provisions for accounting purposes. As part of NRG's global tax strategy, NRG intends to maintain offshore, for permanent reinvestment in other projects, its dividends and distributions from foreign investments. Any repatriation of dividends from foreign investments may result in adverse U.S. income tax consequences. GLADSTONE. NRG, through the subsidiaries described below, is the operator of, and a 37.5% joint venture equity participant in, the Gladstone Power Station in Queensland, Australia. Each participant in the joint venture owns an undivided interest in the Gladstone Power Station equal to its percentage interest in the joint venture and is responsible for taking and selling a proportionate amount of energy and capacity generated by the Gladstone Power Station. The Gladstone facility is a six unit conventionally designed coal- fired power generation facility with a total design capacity of 1,680 Mw. The Gladstone facility provides electricity for the Boyne Island Aluminum Smelter and the Queensland Transmission and Supply Corporation ("QTSC") under long-term power purchase agreements. The remaining interests in the Gladstone facility are owned by investors that also own interests in the Boyne Island Aluminum Smelter. The Gladstone Power Station is located in Queensland, Australia, approximately 540 km north of Brisbane. The Gladstone Power Station consists of six units, each with a capacity of 280 Mw, which were placed in service between 1975 and 1982. NRG owns its interest in the Gladstone Power Station through its wholly owned subsidiaries, Sunshine State Power B.V. ("SSP"), which owns 20% and Sunshine State Power (No. 2) B.V. ("SSP2"), which owns 17.5%. SSP and SSP2 are each 99% owned by NRGenerating International B.V. ("NRGENERATING") and 1% owned by Gunwale B.V. ("GUNWALE"), both of which are wholly owned by NRG International, Inc. ("NRG INTERNATIONAL"), which is wholly-owned by NRG. The FERC has determined that both SSP and SSP2 are exempt wholesale generators ("EWGs") under Section 32(a)(1) of the Act. Sunshine State Power B.V., 67 FERC PARA61, 186 (May 16, 1994); Sunshine State Power (No. 2) B.V., 67 FERC PARA61,185 (May 16, 1994). NRG Gladstone Operating Services Pty. Ltd. ("NRG GLADSTONE") operates the Gladstone Power Station under an operation and maintenance agreement expiring in 2011. NRG Gladstone is 99% owned by NRG Operating Services, Inc. ("NRG OPERATING") and 1% owned by NRG INTERNATIONAL; both NRG Operating and NRG International are wholly-owned by NRG. The FERC has determined that NRG Gladstone is an EWG. NRG Gladstone Operating Services Pty. Ltd., 67 FERC PARA61, 187 (May 16, 1994). NRG Gladstone also performs certain administrative services on behalf of the participants in connection with the administration of the sale of each participant's percentage share of capacity and energy under the long-term power purchase agreements. B-1 NRG GLADSTONE SUPERANNUATION PTY. LTD. holds the pension assets for the employees of the Gladstone Power Station. It is wholly owned by NRG Gladstone, which is 99% owned by NRG Operating and 1% owned by NRG International; both of which are wholly owned by NRG. NRG continues to pursue business development opportunities in Australia through NRG AUSTRALIA, LTD., which is wholly-owned by NRG. SCHKOPAU. Saale Energie GmbH ("SAALE ENERGIE") is a German limited liability company owned equally by NRG and PowerGen plc ("PowerGen"). NRG, through the subsidiaries described below, owns a 20.5% equity ownership in, and rights to the output of 400 Mw of the capacity of, the 960 Mw Schkopau lignite- fired power generation facility under construction near Leipzig, Germany. NRG's 50% interest in Saale Energie is owned by NRGENERATING, which is wholly owned by NRG INTERNATIONAL, which is wholly owned by NRG. The Schkopau facility will consist of two 425 Mw turbines, one 110 Mw turbine and two boiler units. Construction of the first 425 Mw unit and the 110 Mw unit is complete and these units commenced commercial operation in early 1996. The second 425 Mw unit is scheduled to commence commercial operation in July 1996. VEBA Kraftwerke Ruhr AG ("VKR"), a German company engaged in the business of developing, owning and operating power generation facilities, owns the remaining interest in and will operate the Schkopau facility. Saale Energie will sell its 400 Mw share of output from the Schkopau facility to Vereinigte Energiewerke AG ("VEAG"), a major German utility under a 25-year power purchase agreement. The Schkopau facility is owned by Kraftwerke Schkopau GbR ("KS"), a partnership between Saale Energie and VKR. Saale Energie and VKR hold interests of 41.1% and 58.9%, respectively, in KS. Since NRG and PowerGen each own 50% of Saale Energie, NRG effectively has a 20.5% interest in the Schkopau facility. PowerGen is one of the two largest privately held generating companies formed from the divestiture of the United Kingdom electric system and is a large independent power producer. The FERC has determined that KS is an EWG. 73 FERC PARA 61,318 (December 15, 1995). VKR will operate and maintain the Schkopau facility under a 25-year operation and maintenance contract with Kraftwerke Schkopau Betriebsgesellschaft mbH ("KSB"), a German limited liability company, in which Saale Energie and VKR hold interests of 44.4% and 55.6%, respectively (providing NRG an effective 22% interest), and which is responsible for the operation and maintenance of the facility pursuant to certain agreements with Saale Energie and VKR. The FERC has determined that KSB is an EWG. 73 FERC PARA 61,314 (December 15, 1995). Fuel for the facility will be provided by MIBRAG's Profen lignite mine, which coal supply agreement is described below under MIBRAG. NRG's business development activities in Germany are conducted through NRG ENERGY DEVELOPMENT GMBH, which is wholly-owned by NRGenerating, which is wholly- owned by NRG International, which is wholly-owned by NRG. B-2 MIBRAG. A consortium of NRG, PowerGen and Morrison Knudsen Corporation together own Mitteldeutsche Braunkohlengesellschaft mbH ("MIBRAG"), a former state-owed industrial complex located near Leipzig, Germany. MIBRAG owns two open-cast lignite (brown coal) mines, and leases a third lignite mine with total estimated reserves of approximately 789 million metric tons. MIBRAG also operates, through MIB GmbH, three power generation facilities with a total capacity of 200 Mw referred to below. The FERC has determined that MIB GmbH is an EWG. See 67 FERC PARA 61,391 (June 29, 1994). MIBRAG also directly owns and operates two plants that manufacture briquettes for residential and industrial heating. In addition to providing fuel for the MIBRAG power generation facilities and other customers, MIBRAG will also provide lignite to the Schkopau facility and to a 1,600 Mw power generation facility to be constructed by VEAG and various other German companies. MIBRAG will provide virtually all of the coal needed by the Schkopau facility and, until the 1,600 Mw facility becomes operational in 1999, over 50% of MIBRAG's coal sales will be to Schkopau. A 99% interest in MIBRAG is owned by MIBRAG BV in which NRG, PowerGen and Morrison Knudsen Corporation each own a one-third interest. NRG's 33% interest is owned as described below. The remaining 1% interest in MIBRAG is owned separately by affiliates of NRG and its partners in equal proportions, providing NRG and each of its partners an effective one-third interest in MIBRAG. MIBRAG is 99% owned by MIBRAG BV, which is 33.3% owned by LAMBIQUE BEHEER B.V., which is 99% owned by NRGENERATING and 1% by GUNWALE; each of which is wholly-owned by NRG INTERNATIONAL, which is wholly-owned by NRG. MIBRAG's cogeneration operations include the 100 Mw Mumsdorf facility, the 60 Mw Deuben facility and the 40 Mw Wahlitz facility. The Wahlitz facility is a fluidized bed cogeneration plant that commenced operations within the last two years. The Mumsdorf and Deuben facilities are in the process of being retrofitted to meet European Union environmental regulations. MIBRAG, through MIB GmbH, operates these cogeneration facilities under a 13-year agreement pursuant to which MIBRAG has operating control of, and a 1% interest in, the facilities. These facilities provide power and thermal energy for MIBRAG's coal mining operations and its briquette manufacturing plants. All power and thermal energy not consumed by MIBRAG's internal operations is sold under a ten-year power purchase agreement with Westsaechsische Energie Aktiengesellschaft ("WESAG"), a recently privatized German electric utility. As stated above, these generation facilities are operated by MIB GMBH, which is 99% owned by third party limited partners and 1% owned by MIBRAG BV. MIB GmbH operates the facilities for MIV GMBH & CO. KG, which is 99% owned by third party limited partners and 1% owned by MIVB GMBH, a general partner, which in turn is 100% owned by MIBRAG. The FERC has determined that MIV GmbH & Co. KG is an EWG. See 67 FERC PARA61,391 (June 29, 1994). B&I Vermogensverwaltungs GmbH, 67 FERC PARA61,391 (June 29, 1994). Under a power consultancy services agreement with MIBRAG for the life of the facilities, NRG (through Saale Energie GmbH Services ("SAALE ENERGIE SERVICES") and PowerGen jointly provide consulting services, for a fee, for the operation of the MIBRAG steam and power generation facilities, the associated electrical and thermal transmission, the distribution system and the briquette manufacturing plants. Saale Energie Services is 98% owned by Saale Energie (which is 50% B-3 owned by NRGenerating) and 1% owned by NRGenerating; NRGenerating is wholly- owned by NRG International, which is wholly-owned by NRG. In addition to providing approximately 3 million tons of lignite annually for MIBRAG's three cogeneration facilities and two briquette facilities, output from MIBRAG's mines is expected to be sold pursuant to three long-term coal supply agreements. Pursuant to a long-term coal supply agreement with Saale Energie and VKR, MIBRAG expects to supply lignite to the Schkopau facility at a forecasted base-load level of approximately 5.5 million tons per year upon completion of the Schkopau facility (anticipated in 1996). The price for lignite sales to Schkopau is based on the heating content of the lignite supplied, adjusted quarterly based on imported coal prices. As long as the price is linked to imported hard coal, the German government and MIBRAG have agreed to provide MIBRAG with revenues from sales to Schkopau based upon a fixed escalation factor rather than imported hard coal prices. MIBRAG also supplies coal to various other facilities. In addition to its power generation and coal mining operations, MIBRAG owns and operates two briquette manufacturing plants at Deuben and Phoenix (Mumsdorf) and a coal dust plant at Deuben that dries coal and grinds up the dried coal for sale to certain manufacturers for fuel. Operations at the Deuben briquette plant are being phased out due to reduced market demand for briquettes. MIBRAG also partially owns and is the principal customer of a transportation company, an insurance brokerage firm, a briquette marketer, a waste management company, a ground water consulting company and an environmental consulting company, all of which provide services related to MIBRAG's activities. LATIN POWER. Latin Power is an investment fund for equity investments in independent power projects in Latin America and the Caribbean. NRG, through NRGENERATING (which is wholly-owned by NRG International, which is wholly-owned by NRG) and NRG INTERNATIONAL (which is wholly-owned by NRG), is one of the four lead investors in Latin Power, which currently has investor commitments of $100 million. The other lead investors include the International Finance Corporation (a member of the Word Bank Group), Corporation Andina de Fomento (a multilateral institution for the Andean region headquartered in Caracas, Venezuela) and CMS Generation Company (the independent power subsidiary of CMS Energy Corporation). Each of the four lead investors has committed $25 million and has designated Scudder, Stevens & Clark, Inc. ("Scudder") as the investment manager of the fund. NRG has guaranteed the investment commitments of NRGenerating and NRG International. As of December 31, 1995, NRG had invested $8.6 million of its $25 million commitment. Latin Power is organized as two limited duration Cayman Island companies, Scudder Latin America Power I-P L.D.C. ("SLAP I-P") and Scudder Latin American Power I-C L.D.C. ("SLAP I-C"), to permit the tax efficient allocation of foreign source income. NRG, through NRGenerating and NRG International, and each of the other lead investors in the fund, own 25% of the Class A shares of SLAP I-P and SLAP I-C, and each is entitled to an equal management fee. B-4 Latin Power currently holds investments in three projects. The Mamonal project is a 100 Mw combined-cycle natural gas-fired power generation facility plant operating near Cartagena, Colombia. The facility is 30% owned by Latin Power. The facility is leased by the owners to a group of local industrial firms under a 14-year lease. As of December 31, 1995, NRG's proportionate share of Latin Power's investment in the Mamonal facility was $1.9 million. The FERC has determined that this project is an EWG. Latin Power owns a 31% interest in the ELCOSA power generation facility in Puerto Cortes, Honduras. ELCOSA is an oil-fired facility with 80 Mw of generating capacity, which the facility sells pursuant to a 15-year power purchase agreement to Empresa Nacional de Energia Electrica. The Honduran government has guaranteed the utility's obligations under the power purchase agreement. As of December 31, 1995, NRG's proportionate share of Latin Power's investment in the facility was $2.6 million. The FERC has determined that this project is an EWG. Latin Power owns a 35% interest in Jamaica Energy Partners, which owns the 74 Mw Dr. Bird floating diesel-fired power generation facility. The facility is located at Old Harbor near Kingston. Jamaica Public Service Company, Ltd. has signed a 20-year power purchase agreement with Jamaica Energy Partners. NRG's proportionate share of Latin Power's investment was $3.1 million at December 31, 1995. The FERC has determined that this project is an EWG. The Latin Power project committee recently approved a $23 million investment in exchange for an 18% interest in a 140 Mw gas turbine plant located near Pucallpa, Peru. This project will use existing wells and drill seven new wells to develop an estimated 302 Bcf of gas in the Aguaytia gas field. The project will be an EWG and will sell its electric output to the wholesale electricity market at the spot price. NRG is obligated to contribute approximately $6 million to this project. KLADNO. Through a joint venture, NRG owns an 18.3% interest in Energeticke Centrum Kladno, s.r.o. ("KLADNO"), a Czech company that owns and operates a coal-fired power and thermal energy generation facility in Kladno, Czech Republic with 28 Mw of power generating capacity and 150 MWt of thermal energy generating capacity. NRG's interest in Kladno is held by Kladno Power (No. 1) B.V. ("KLADNO 1"). This is part of a development project in which NRG with other joint venturers (including the regional power distribution company) would upgrade Kladno and would explore developing a new power generation facility, which would supply back-up steam to the district heating system and sell electricity to the principal regional electric distribution company in Prague (via an existing transmission line owned by Kladno). It is anticipated that Kladno would sell or lease the existing facility to ECK Generating CZ, s.r.o. ("ECKG"), in which NRG and two partners would each own a one-third interest. ECKG would modernize the existing facility and would construct and own the new facility. NRG, through Kladno Power (No. 2) B.V. ("KLADNO 2") and its partners would operate both facilities. Kladno 1 and Kladno 2 are each owned 99% by NRGENERATING and 1% by GUNWALE; each of which is wholly-owned by NRG INTERNATIONAL, which is wholly owned by NRG. NRG has not sought EWG or FUCO status in connection with its ownership interest in Kladno, as NRG's interest B-5 currently represents less than 5% of the voting power of Kladno. Primergy will seek EWG or FUCO status for the project immediately after it becomes a registered holding company under the Act. NRG also has another wholly-owned subsidiary, NRG Energy CZ, s.r.o ("NRG CZ"), which is engaged solely in project development activities in the Czech Republic. COLLINSVILLE. An unincorporated joint venture has been formed between NRGenerating Holdings (No. 1) B.V. ("NRG NO. 1"), which is 99% owned by NRGENERATING and 1% owned by GUNWALE, and Transfield Collinsville Pty. Limited to own the 180 Mw coal-fired Collinsville Power Station in Queensland, Australia. The owners, along with the related companies, NRG, NRG Australia Ltd., Transfield Holdings Pty. Ltd. and Transfield Corporate Pty. Ltd. signed an 18 year power purchase agreement and an acquisition agreement with the Queensland Transmission and Supply Corporation for the acquisition and refurbishment of the Collinsville coal-fired generation facility. COLLINSVILLE OPERATIONS PTY. LTD., the operator of the power station, is a company owned in equal shares by NRG Collinsville Operating Services Pty. Ltd. ("NRG COLLINSVILLE"), which is owned by NRG INTERNATIONAL and Transfield Infrastructure Investments Pty. Ltd. Transfield Technologies Pty. Ltd. will perform the facility refurbishment and environmental remediation under the turnkey contract and perform facility maintenance under a subcontract with Collinsville Operations Pty. Ltd. NRG expects that its total investment in the project will be approximately $12 million. Since the Collinsville generation facility is not currently operating, NRG has not obtained EWG or FUCO status for its interests in the facility or the entities that will refurbish the facility. Primergy will seek EWG or FUCO status for the facility immediately after it becomes a registered holding company under the Act. WEST JAVA. NRG, through Sachsen Holding B.V. ("SACHSEN"), is involved in a joint venture to develop a 432 Mw coal-fired power generation facility in West Java, Indonesia. Sachsen is owned 99% by NRGENERATING and 1% by GUNWALE; each of which is wholly-owned by NRG International, which is wholly-owned by NRG. The joint venture has negotiated a power purchase contract with an instrumentality of the Indonesian Government and the Government instrumentality has an option to purchase the project from the joint venture. Sachsen would be the operator of the project and would have an initial ownership interest of 45%. If the project is developed, NRG expects that its total investment would be approximately $65 million. Since the West Java project is still under development, NRG has not sought EWG or FUCO status for the project. While the project would qualify for EWG status, Primergy will seek EWG or FUCO status for the facility immediately after it becomes a registered holding company under the Act if the project proceeds through development and construction. RUPALI. NRG through NRGenerating Rupali B.V. ("NRGENERATING 2"), is developing a 472 Mw oil-fired power generation facility near Lahore, Pakistan. NRGenerating 2 is owned 99% by NRGENERATING and 1% by GUNWALE; NRGenerating and Gunwale are each wholly owned by NRG International, which is wholly-owned by NRG. If the project is developed, NRG would own a 30-50% interest in, and would operate, the facility. NRG expects that its total investment in the project would be approximately $35-$50 million. Since this project is under B-6 construction, NRG has not sought EWG or FUCO status for the project. Primergy will seek EWG or FUCO status for the project immediately after it becomes a registered holding company. B-7 ANNEX C NAMES OF INACTIVE NRG SUBSIDIARIES Center SynCoal Partnership, L.P. Cypress Energy Partners, Limited Partnership Elk River Resource Recovery, Inc. Gasco 29, Inc. 1* Golden Gate Energy I, Inc. Golden Gate Energy II, Inc. Golden Gate Energy Partners, L.P. Hanford Cogeneration Partners, L.P. Hanford Energy I, Inc. Indian Nation Illuminating Company (Unical)* Interenergy Limited Kiksis B.V. Kissimee Power Partners, Limited Partnership Matra Powerplant Holding B.V. Michigan Cogeneration Partners Limited Partnership Minnesota Farm Company, L.L.C. Miramar Landfill Gas LLC NEO Chicopee, Limited Partnership NEO Colonie, L.L.C. NEO Granby, Limited Partnership NEO Haverhill, Limited Partnership NEO Manchester, LLC NEO Marion LLC NEO Memphis, L.L.C. NEO Pine Grove, L.L.C. Neomass Chicopee, Inc. Neomass Granby, Inc. Neomass Haverhill, Inc. NRG Construction Services, Inc. NRG Energy Ltd. NRG Yallourn Operations I, Inc. NRG Yallourn Operations II, Inc. NRGenerating Holdings (No. 3) B.V. NRGenerating Holdings (No. 4) B.V. NRGenerating Holdings (No. 5) B.V. NRGenerating Holdings (No. 6) B.V. O'Brien (Antioch) Cogen, Inc.* O'Brien (Riverdale) Cogeneration, Inc.* * Would be Acquired Through O'Brien C-1 O'Brien (South Lee) Cogeneration, Inc.* O'Brien Biogas, Inc. III* O'Brien Biogas, Inc. VII* O'Brien Cogeneration (Hartford) Inc.* O'Brien Salinas, Inc.* O'Brien Salinas Supply Corporation* O'Brien Salinas Supply Corporation, I* O'Brien Standby Power Energy, Inc.* O'Brien Supply Inc. I* O'Brien Supply Inc. II* Okeechobee Power I, Inc. Okeechobee Power II, Inc. Okeechobee Power III, Inc. Philadelphia Ventures, Inc.* Powder River SynCoal Partnership, L.P. Powerent, Inc.* Power Property Consultants, Inc.* Power Service Company* Prairie Wind Energy, Inc. Prairie Wind Energy Partners, L.P. SDN Power, Inc.* STS Heislers, Inc. Wolverine Energy I, Inc. Wolverine Energy II, Inc. * Would be Acquired Through O'Brien C-2 ANNEX D WMIC INVESTMENTS - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- APPLETON COURT A PARTNERSHIP WHICH OWNS, LIMITED 99.00% LIMITED LEASES AND OPERATES 64 LOW- PARTNERSHIP PARTNERSHIP INCOME HOUSING UNITS IN INTEREST APPLETON, WI. - -------------------------------------------------------------------------------- ASSISI HOMES A PARTNERSHIP WHICH OWNS, LIMITED 49.50% LIMITED LEASES AND OPERATES 24 LOW- PARTNERSHIP PARTNERSHIP II INCOME HOUSING UNITS IN INTEREST MILWAUKEE, WI. - -------------------------------------------------------------------------------- CHATHAM COURT A PARTNERSHIP FORMED TO LIMITED 99.00% APARTMENTS CONSTRUCT 120 LOW-INCOME PARTNERSHIP LIMITED HOUSING UNITS IN ROCKFORD, INTEREST PARTNERSHIP IL. - -------------------------------------------------------------------------------- CORCORAN LIMITED A PARTNERSHIP WHICH OWNS, LIMITED 1.00% PARTNERSHIP LEASES AND OPERATES A MIXED PARTNERSHIP USE FACILITY IN MILWAUKEE, INTEREST WI. - -------------------------------------------------------------------------------- CURRY-PRICE A PARTNERSHIP WHICH OWNS, LIMITED 99.00% LIMITED LEASES AND OPERATES A PARTNERSHIP PARTNERSHIP HISTORIC OFFICE/RETAIL INTEREST BUILDING IN MILWAUKEE, WI. - -------------------------------------------------------------------------------- GLENBROOK A PARTNERSHIP WHICH OWNS, LIMITED 99.00% ASSOCIATES OF LEASES AND OPERATES 72 LOW- PARTNERSHIP MILWAUKEE INCOME HOUSING UNITS IN INTEREST LIMITED MILWAUKEE, WI. PARTNERSHIP - -------------------------------------------------------------------------------- HISTORIC KING A PARTNERSHIP WHICH OWNS, LIMITED 49.50% PLACE LIMITED LEASES AND OPERATES 40 LOW- PARTNERSHIP PARTNERSHIP INCOME HOUSING UNITS AND INTEREST 15,000 SQUARE FEET OF GENERAL .34% COMMERCIAL OFFICE SPACE IN PARTNERSHIP MILWAUKEE, WI. INTEREST - -------------------------------------------------------------------------------- HOUSING EQUITY A PARTNERSHIP INVESTING IN LIMITED 19.98% FUND 1989 LIMITED PARTNERSHIPS PARTNERSHIP PARTNERSHIP REHABILITATING OR INTEREST CONSTRUCTING LOW-INCOME HOUSING IN MILWAUKEE, WI. - -------------------------------------------------------------------------------- HOUSING EQUITY A PARTNERSHIP INVESTING IN LIMITED 7.99% FUND 1990 LIMITED PARTNERSHIPS PARTNERSHIP PARTNERSHIP REHABILITATING OR INTEREST CONSTRUCTING LOW-INCOME HOUSING IN MILWAUKEE, WI. - -------------------------------------------------------------------------------- HOUSING EQUITY A PARTNERSHIP INVESTING IN LIMITED 7.26% FUND 1992 LIMITED PARTNERSHIPS PARTNERSHIP PARTNERSHIP REHABILITATING OR INTEREST CONSTRUCTING LOW-INCOME HOUSING IN MILWAUKEE, WI. - -------------------------------------------------------------------------------- KENOSHA A PARTNERSHIP WHICH OWNS, LIMITED 53.78% AFFORDABLE LEASES AND OPERATES 120 PARTNERSHIP HOUSING HOUSING UNITS; 74 UNITS ARE INTEREST ASSOCIATES, A LOW-INCOME UNITS, IN WISCONSIN KENOSHA, WI. LIMITED PARTNERSHIP - -------------------------------------------------------------------------------- LINCOLN SCHOOL A PARTNERSHIP WHICH OWNS, LIMITED 65.13% HISTORIC LEASES AND OPERATES 64 LOW- PARTNERSHIP APARTMENTS, A INCOME HOUSING UNITS IN INTEREST WISCONSIN RACINE, WI. LIMITED PARTNERSHIP - -------------------------------------------------------------------------------- D-1 ANNEX D WMIC INVESTMENTS - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- MEADOWOOD A PARTNERSHIP WHICH OWNS, LIMITED 99.00% APARTMENTS LEASES AND OPERATES 136 PARTNERSHIP LIMITED LOW-INCOME HOUSING UNITS IN INTEREST PARTNERSHIP KENOSHA, WI. - -------------------------------------------------------------------------------- MERRILL CITY A PARTNERSHIP WHICH OWNS, LIMITED 99.00% HALL ASSOCIATES LEASES AND OPERATES 16 LOW- PARTNERSHIP LIMITED INCOME HOUSING UNITS IN INTEREST PARTNERSHIP MERRILL, WI. - -------------------------------------------------------------------------------- MILWAUKEE WEST A PARTNERSHIP WHICH OWNS, LIMITED 24.75% DEVELOPMENT LEASES AND OPERATES 179 PARTNERSHIP LIMITED LOW-INCOME HOUSING UNITS IN INTEREST PARTNERSHIP MILWAUKEE, WI. - -------------------------------------------------------------------------------- NEENAH HOUSING A LIMITED LIABILITY COMPANY MEMBER IN 99.00% ASSOCIATES OF WHICH OWNS, LEASES AND A LLC WISCONSIN, LLC OPERATES 70 LOW-INCOME HOUSING UNITS IN NEENAH, WI. - -------------------------------------------------------------------------------- NORTH EAST A PARTNERSHIP WHICH OWNS, LIMITED 10.95% COMMUNITY LEASES AND OPERATES 49 LOW- PARTNERSHIP LIMITED INCOME HOUSING UNITS IN INTEREST PARTNERSHIP III MILWAUKEE, WI. - -------------------------------------------------------------------------------- PARADISE PLACE A PARTNERSHIP WHICH OWNS, LIMITED 99.00% ASSOCIATES LEASES AND OPERATES 64 LOW- PARTNERSHIP LIMITED INCOME HOUSING UNITS IN INTEREST PARTNERSHIP WEST BEND, WI. - -------------------------------------------------------------------------------- SAUKVILLE A PARTNERSHIP WHICH OWNS, LIMITED 99.00% ASSOCIATES LEASES AND OPERATES 63 LOW- PARTNERSHIP LIMITED INCOME HOUSING UNITS IN INTEREST PARTNERSHIP SAUKVILLE, WI. - -------------------------------------------------------------------------------- SOUTHSIDE A PARTNERSHIP WHICH OWNS, LIMITED 99.00% HOUSING PARTNERS LEASES AND OPERATES 14 LOW- PARTNERSHIP I LIMITED INCOME HOUSING UNITS IN INTEREST PARTNERSHIP MILWAUKEE, WI. - -------------------------------------------------------------------------------- SOUTHSIDE A PARTNERSHIP WHICH OWNS, LIMITED 99.00% HOUSING PARTNERS LEASES AND OPERATES 12 LOW- PARTNERSHIP II LIMITED INCOME HOUSING UNITS IN INTEREST PARTNERSHIP MILWAUKEE, WI. - -------------------------------------------------------------------------------- TCR/MCR LAND A PARTNERSHIP WHICH OWNS LIMITED 0.00%* LIMITED LAND FOR FUTURE PARTNERSHIP PARTNERSHIP DEVELOPMENT. THE LAND IS INTEREST ADJACENT TO EAST POINTE COMMONS, A HOUSING AND RETAIL COMPLEX IN MILWAUKEE, WI. - -------------------------------------------------------------------------------- TCR/MCR PHASE I A PARTNERSHIP WHICH OWNS, LIMITED 0.00%* LIMITED LEASES AND OPERATES EAST PARTNERSHIP PARTNERSHIP POINTE COMMONS, A 168 UNIT INTEREST HOUSING PROJECT IN MILWAUKEE, WI. - -------------------------------------------------------------------------------- THOMPSON MEADOWS, A LIMITED LIABILITY COMPANY MEMBER IN A 99% LLC FORMED TO CONSTRUCT 100 LLC LOW-INCOME HOUSING UNITS IN ST. FRANCIS, WI. - -------------------------------------------------------------------------------- - ---------------------- * WMIC has 0% ownership in these partnerships but has entered into them in case WISPARK cannot meet its financial contribution commitments. WISPARK has made its capital contribution. D-2 ANNEX D WMIC INVESTMENTS - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- WCC VENTURES II A PARTNERSHIP WHICH OWNS, LIMITED 49.50% LIMITED LEASES AND OPERATES 14 LOW- PARTNERSHIP PARTNERSHIP INCOME HOUSING UNITS IN INTEREST MILWAUKEE, WI. - -------------------------------------------------------------------------------- WISPARK LAKEVIEW A PARTNERSHIP WHICH OWNS LIMITED 1.00% LIMITED AND LEASES TWO MULTI-TENANT PARTNERSHIP PARTNERSHIP BUILDINGS IN KENOSHA, WI. INTEREST - -------------------------------------------------------------------------------- CAMPUS A CORPORATION WHICH OWNS MORTGAGE N/A NEIGHBORHOOD AND LEASES RESIDENTIAL NOTE ASSOCIATES, INC. HOUSING IN MILWAUKEE, WI. RECEIVABLE - -------------------------------------------------------------------------------- D-3 ANNEX E WISPARK INVESTMENTS - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- CHATHAM COURT A PARTNERSHIP FORMED TO GENERAL 1.00% APARTMENTS CONSTRUCT 120 LOW-INCOME PARTNERSHIP LIMITED HOUSING UNITS IN ROCKFORD, INTEREST PARTNERSHIP IL. NOTE RECEIVABLE N/A - -------------------------------------------------------------------------------- CORCORAN LIMITED A PARTNERSHIP WHICH OWNS, GENERAL & LIMITED 99.00% PARTNERSHIP LEASES AND OPERATES A MIXED PARTNERSHIP USE FACILITY IN MILWAUKEE, INTEREST NOTES N/A WI. RECEIVABLE - -------------------------------------------------------------------------------- EAST POINTE A PARTNERSHIP WHICH OWNS LIMITED 81.00% MARKETPLACE AND LEASES A MULTI-TENANT PARTNERSHIP LIMITED RETAIL STRIP MALL AND AN INTEREST PARTNERSHIP UPGRADE GROCERY STORE IN NOTE RECEIVABLE N/A MILWAUKEE, WI. - -------------------------------------------------------------------------------- FRED-GERMANTOWN A PARTNERSHIP WHICH IS LIMITED 49.50% LAND DEVELOPMENT DEVELOPING A RESIDENTIAL PARTNERSHIP LIMITED SUBDIVISION IN GERMANTOWN, INTEREST PARTNERSHIP WI. - -------------------------------------------------------------------------------- GLENBROOK A PARTNERSHIP WHICH OWNS, GENERAL 1.00% ASSOCIATES OF LEASES AND OPERATES 72 LOW- PARTNERSHIP MILWAUKEE INCOME HOUSING UNITS IN INTEREST LIMITED MILWAUKEE, WI. MORTGAGE N/A PARTNERSHIP NOTE RECEIVABLE - -------------------------------------------------------------------------------- HARBOURWALK A PARTNERSHIP WHICH OWNS LIMITED 30.00% HOTEL LIMITED AND MANAGES A RADISSON PARTNERSHIP PARTNERSHIP HOTEL IN RACINE, WI. INTEREST MORTGAGE NOTE N/A RECEIVABLE - -------------------------------------------------------------------------------- LEASEHOLD CAPITAL A FINANCING COMPANY WHICH COMMON STOCK 80.00% CORPORATION PROVIDES HIGH YIELDING NOTES RECEIVABLE N/A FINANCING TO REAL ESTATE OWNERS TO FUND THE LEASING AND TENANT IMPROVEMENT COSTS ASSOCIATED WITH SPACE LEASES. - -------------------------------------------------------------------------------- MEADOWOOD A PARTNERSHIP WHICH OWNS, GENERAL 1.00% APARTMENTS LEASES AND OPERATES 136-LOW PARTNERSHIP LIMITED INCOME HOUSING UNITS IN INTEREST MORTGAGE N/A PARTNERSHIP KENOSHA, WI. NOTE RECEIVABLE - -------------------------------------------------------------------------------- MIDLAND/WP, LLC A DEVELOPER OF AN MEMBER IN A LLC 75.00% INDUSTRIAL PARK IN NOTE RECEIVABLE N/A MILWAUKEE, WI. - -------------------------------------------------------------------------------- MILWAUKEE WEST A PARTNERSHIP WHICH OWNS, MORTGAGE NOTE N/A(1) DEVELOPMENT LEASES AND OPERATES 179 RECEIVABLE LIMITED LOW-INCOME HOUSING UNITS PARTNERSHIP IN MILWAUKEE, WI. - -------------------------------------------------------------------------------- - ---------------------- (1) WMIC owns a limited partnership interest in this equity. E-1 ANNEX E WISPARK INVESTMENTS - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- NAC CORP. A CORPORATION WHICH OWNS COMMON STOCK 45.00% AND LEASES SPACE IN A MORTGAGE NOTE N/A RETAIL SHOPPING MALL IN RECEIVABLE APPLETON, WI. - -------------------------------------------------------------------------------- NEENAH HOUSING A LIMITED LIABILITY COMPANY MANAGING MEMBER 1.00% ASSOCIATES OF WHICH OWNS, LEASES AND IN A LLC WISCONSIN, LLC OPERATES 70 LOW-INCOME MORTGAGE NOTE N/A HOUSING UNITS IN NEENAH, WI. RECEIVABLE - -------------------------------------------------------------------------------- PARADISE PLACE A PARTNERSHIP WHICH OWNS, MORTGAGE NOTE N/A(1) ASSOCIATES LEASES AND OPERATES 64 LOW- RECEIVABLE LIMITED INCOME HOUSING UNITS IN PARTNERSHIP WEST BEND, WI. - -------------------------------------------------------------------------------- RIVERWORKS A DEVELOPER OF AN INDUSTRIAL GENERAL 57.97% PARTNERS PARK IN MILWAUKEE, WI. PARTNERSHIP INTEREST - -------------------------------------------------------------------------------- SAUKVILLE A PARTNERSHIP WHICH OWNS, MORTGAGE NOTES N/A(1) ASSOCIATES LEASES AND OPERATES 63 LOW- RECEIVABLE LIMITED INCOME HOUSING UNITS IN PARTNERSHIP SAUKVILLE, WI. - -------------------------------------------------------------------------------- SOUTHSIDE HOUSING PARTNERSHIPS WHICH OWN, MORTGAGE NOTE N/A(1) PARTNERS I & II LEASE AND OPERATE 26 LOW- RECEIVABLE LIMITED INCOME HOUSING UNITS IN PARTNERSHIP MILWAUKEE, WI. - -------------------------------------------------------------------------------- SYNDESIS A DEVELOPER OF REAL ESTATE COMMON STOCK 100.00% DEVELOPMENT IN RACINE, WI. REDEEMABLE 100.00% CORPORATION PREFERRED STOCK - -------------------------------------------------------------------------------- TCR/MCR LAND A PARTNERSHIP WHICH OWNS LIMITED 91.30% LIMITED LAND FOR FUTURE DEVELOPMENT. PARTNERSHIP PARTNERSHIP THE LAND IS ADJACENT TO EAST INTEREST POINTE COMMONS, A HOUSING AND RETAIL COMPLEX IN MILWAUKEE, WI. - -------------------------------------------------------------------------------- TCR/MCR PHASE I A PARTNERSHIP WHICH OWNS, LIMITED 99.99% LIMITED LEASES AND OPERATES EAST PARTNERSHIP PARTNERSHIP POINTE COMMONS, A 188 UNIT INTEREST HOUSING PROJECT IN MILWAUKEE, WI. - -------------------------------------------------------------------------------- THOMPSON MEADOWS, A LIMITED LIABILITY COMPANY MANAGING MEMBER 1.00% LLC FORMED TO CONSTRUCT 100 LOW- IN A LLC INCOME HOUSING UNITS IN ST. FRANCIS, WI. - -------------------------------------------------------------------------------- WESTON PINES A PARTNERSHIP WHICH OWNS, GENERAL 1.00% LIMITED LEASES AND OPERATES 72 LOW- PARTNERSHIP PARTNERSHIP INCOME HOUSING UNITS IN INTEREST WAUSAU, WI. - -------------------------------------------------------------------------------- E-2 ANNEX E WISPARK INVESTMENTS - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- WISCONSIN EQUITY A JOINT VENTURE FORMED MEMBER IN A LLC 33.00% REAL ESTATE, LLC WITHIN THE STATE OF WISCONSIN INVESTMENT BOARD TO INVEST IN VARIOUS REAL ESTATE PROJECTS IN WISCONSIN - -------------------------------------------------------------------------------- WISPARK LAKEVIEW A PARTNERSHIP WHICH OWNS GENERAL & LIMITED 99.00% LIMITED AND LEASES TWO MULTI-TENANT PARTNERSHIP PARTNERSHIP BUILDINGS IN KENOSHA INTEREST MORTGAGE NOTE N/A RECEIVABLE - -------------------------------------------------------------------------------- E-3 OTHER ITEMS - NOTES RECEIVABLE - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- CORUM ZELLER MORTGAGE NOTE N/A PHASE I RECEIVABLE - -------------------------------------------------------------------------------- CORUM ZELLER - MORTGAGE NOTE N/A PARCEL 35 RECEIVABLE - -------------------------------------------------------------------------------- CORUM ZELLER MORTGAGE NOTE N/A PHASE I RECEIVABLE EQUIP. NOTE - -------------------------------------------------------------------------------- OCENCO CORP. MORTGAGE NOTE N/A RECEIVABLE - -------------------------------------------------------------------------------- CORUM ZELLER- MORTGAGE NOTE N/A NITROBAR RECEIVABLE - -------------------------------------------------------------------------------- FORM CORP. MORTGAGE NOTE N/A RECEIVABLE - -------------------------------------------------------------------------------- CITY OF KENOSHA MORTGAGE NOTE N/A RECEIVABLE - -------------------------------------------------------------------------------- CHANCERY EQUIPMENT NOTE N/A - -------------------------------------------------------------------------------- AMERICAN STEEL MORTGAGE NOTE N/A RECEIVABLE - -------------------------------------------------------------------------------- AA METRO CENTER MORTGAGE NOTE N/A RECEIVABLE - -------------------------------------------------------------------------------- MANDEL GROUP UNSECURED NOTE N/A RECEIVABLE - -------------------------------------------------------------------------------- MANDEL GROUP PHASE I UNSECURED NOTE N/A RECEIVABLE - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- OTHER ITEMS - INVESTMENT IN LEASE - -------------------------------------------------------------------------------- INVESTMENT IN FINANCING EQUIPMENT UNDER N/A LEASE FINANCING LEASE - -------------------------------------------------------------------------------- INVESTMENT IN JANJO - ASSIGNMENT OF N/A LEASE (TENANT IMPROVE.) LEASE INVEST. - -------------------------------------------------------------------------------- E-4 ANNEX F WISVEST INVESTMENTS - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- QUANTUM CONTROLS, A COMPANY WHICH PROVIDES MEMBER IN A LLC 45.00% LLC D/B/A ENERGY STRATEGIC ENERGY MANAGEMENT OASYS SERVICES WITH A FOCUS ON NATURAL GAS MANAGEMENT. - -------------------------------------------------------------------------------- BLACKHAWK ENERGY A COMPANY WHICH MARKETS AN MEMBER IN A LLC 50.00% SERVICES, LLC ADVANCED ENERGY INFORMATION SYSTEM TO UTILITIES WHICH GIVES THEM THE ABILITY TO COMMUNICATE DIRECTLY WITH ITS CUSTOMERS. - -------------------------------------------------------------------------------- F-1 ANNEX G WITECH INVESTMENTS - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- AMTEL SYSTEMS MANUFACTURER OF TELEPHONE COMMON STOCK 10.0% CORPORATION MESSAGING EQUIPMENT THAT INCREASES PRODUCTIVITY. - -------------------------------------------------------------------------------- ARI NETWORK PROVIDER OF ELECTRONIC DATA COMMON SHARES 22.1% SERVICES, INC. INTERCHANGE AND OTHER LINE OF CREDIT N/A COMPUTERIZED NETWORK AND INFORMATION SERVICES TO TARGETED SECTORS OF THE U.S. AGRIBUSINESS INDUSTRY. - -------------------------------------------------------------------------------- DELTA GROUP, INC. ALUMINUM SMELTER THAT BUYS CONVERTIBLE 49.0% SCRAP ALUM. AND TURNS IT PREFERRED STOCK INTO ALUM. INGOTS ACCORDING WARRANTS FOR TO CUSTOMER SPECIFICATIONS. PREFERRED STOCK - -------------------------------------------------------------------------------- DOME CORPORATION REAL ESTATE INVESTMENT COMMON SHARES 8.8% COMPANY LEASING REAL ESTATE AND EQUIP. TO GRAHAM CO. - -------------------------------------------------------------------------------- EMMBER FOODS, INC. VERTICALLY-INTEGRATED MEAT COMMON SHARES 11.0% PROCESSOR. - -------------------------------------------------------------------------------- FLORENCE EISEMAN, MANUFACTURER OF HIGH-END CONVERTIBLE 51.0% INC. CHILDREN'S CLOTHING. PREFERRED STOCK LINE OF CREDIT N/A NOTES RECEIVABLE N/A - -------------------------------------------------------------------------------- GRAY-SOFT, INC. DEVELOPER OF SOFTWARE USED COMMON STOCK 23.0% IN PROGRAMMABLE LOGIC NOTE RECEIVABLE N/A CONTROLLERS ("PLC'S"). PLC'S ARE USED IN FACTORIES TO CONTROL AUTOMATED MACHINERY. - -------------------------------------------------------------------------------- MARKWELL MEDICAL A RESEARCH COMPANY WHICH CONVERTIBLE 7.0% INSTITUTE, INC. HAS DEVELOPED A GLUCOSE PREFERRED STOCK MONITORING DEVICE. - -------------------------------------------------------------------------------- MATENAER A COMPANY WHICH STAMPS CONVERTIBLE 85.0% CORPORATION STEEL INTO WASHERS OF PREFERRED SHARES VARIOUS SIZES AND GRADES. NOTE RECEIVABLE N/A - -------------------------------------------------------------------------------- MATERIAL SUPPLIER AND MANAGER OF LOW OPTIONS FOR 28.0% MANAGEMENT COST (CLASS C) PARTS ON THE SHARES OF COMMON GROUP, INC. FACTORY FLOOR. STOCK NOTE RECEIVABLE N/A - -------------------------------------------------------------------------------- MICROELECTRONIC A COMPANY WHICH DESIGNS, COMMON SHARES 55.0% MODULES MANUFACTURES AND SELLS NOTE RECEIVABLE N/A CORPORATION THICK FILM HYBRID CIRCUITS AND NETWORKS. - -------------------------------------------------------------------------------- G-1 ANNEX G WITECH INVESTMENTS - -------------------------------------------------------------------------------- NAME OF ENTITY NATURE OF BUSINESS DESCRIPTION OWNERSHIP OF PERCENTAGE INVESTMENT - -------------------------------------------------------------------------------- MILWAUKEE BRUSH MANUFACTURER OF INDUSTRIAL CUMULATIVE 33.0% MANUFACTURING WIRE BRUSHES PREFERRED STOCK COMPANY, INC. COMMON SHARES WARRANTS FOR COMMON STOCK NOTES RECEIVABLE N/A - -------------------------------------------------------------------------------- MILWAUKEE SIGN MANUFACTURER OF INDOOR AND CONVERTIBLE 35.0% COMPANY, INC. AND OUTDOOR DISPLAY SIGNS. PREFERRED STOCK - -------------------------------------------------------------------------------- ROMANCE FOODS, A COMPANY WHICH PRODUCES CONVERTIBLE 22.0% INC. AND MARKETS A LINE OF FRESH, PREFERRED STOCK MICROWAVEABLE PASTAS AND SAUCES. - -------------------------------------------------------------------------------- SERIGRAPH, INC. A HIGH-TECH, SPECIALTY CUMULATIVE 11.0% PRINTER PREFERRED STOCK COMMON STOCK WARRANTS FOR COMMON STOCK - -------------------------------------------------------------------------------- STEELTECH MANUFACTURER OF LARGE COMMON SHARES 7.0% MANUFACTURING, FABRICATED STEEL WELDMENTS NOTE RECEIVABLE N/A INC. - -------------------------------------------------------------------------------- THOR TECHNOLOGY DESIGNER & MANUFACTURER OF COMMON SHARES 95.0% CORPORATION MOTOR CONTROLS. LINES OF CREDIT N/A - -------------------------------------------------------------------------------- WISCONSIN MANUFACTURER OF CUSTOM COMMON & 100.00% FURNITURE FURNITURE. PREFERRED SHARES INDUSTRIES, INC. NOTE RECEIVABLE N/A SUBORD. LINE OF N/A CREDIT - -------------------------------------------------------------------------------- WORLD CLASS A MACHINE SHOP THAT CUTS, REDEEMABLE 72.0% MANUFACTURING DRILLS AND EXTRUDES RAW PREFERRED STOCK GROUP, INC. METAL PARTS INTO VARIOUS OPTIONS FOR PRODUCTS. COMMON STOCK NOTES RECEIVABLE N/A LINE OF CREDIT N/A - -------------------------------------------------------------------------------- FUTURE VALUE A COMPANY ENGAGED IN COMMON SHARES 49.0% VENTURES VENTURE CAPITAL. CLASS C PREFERRED SHARES - -------------------------------------------------------------------------------- VENTURE INVESTORS A COMPANY ENGAGED IN COMMON SHARES 1.0% OF WISCONSIN VENTURE CAPITAL. - -------------------------------------------------------------------------------- WISCONSIN VENTURE A COMPANY ENGAGED IN COMMON SHARES 5.0% CAPITAL FUND VENTURE CAPITAL. - -------------------------------------------------------------------------------- G-2 ANNEX H SALE OF FUEL LES has an agreement with NSP to provide the Company with uranium enrichment services. As previously mentioned, NSP has three nuclear reactors. In the past, NSP obtained 70% of its uranium enrichment services for these reactors from the Department of Energy (pursuant to a contract which expired in September 30, 1995) and the remainder from the spot market. Under the terms of the LES agreement, from October 1, 1995 through September 30, 2005, NSP will acquire 30% of its uranium enrichment services from LES. NSP will acquire the remaining 70% on the spot market. No services are currently being provided under this contract and none are expected in the near future as the LES facility is not operational. This contract was approved by the MPUC in Docket No. E002/AI-92-1164. Washco sells wood by-product purchased from Andersen Corporation to NSP for use as fuel in generating facilities. The price for the wood by-product equals the average cost per Mcf of solid fuel delivered to a NSP generating plant during the calendar year. This contract was approved by the MPUC in Docket No. E002/M-86-775. NSP purchases RDF from the Newport facility. This contract was approved by the MPUC in Docket No. E002/AI-93-821. OPERATIONAL SERVICES NSP manages the Renaissance Square Office Building for UP&L. NSP provides this service in exchange for two percent (2%) of the building's gross annual rents. This contract was approved by the MPUC in Docket No. E002/AI-94-1188. NRG operates a municipal solid waste transfer station and Minnesota Waste Processing's RDF storage facility. The facility collects and distributes municipal solid waste and stores RDF for distribution to generating facilities. This contract was approved by the MPUC in Docket No. E002/AI-94-950. NRG also operates the Elk River RDF facility and the Becker ash landfill on behalf of NSP. This contract was approved by the MPUC in Docket No. E002/AI-93-770 and in Docket No. E002/AI-92-148. CONTROL AND DATA ACQUISITION AND GAS DISPATCHING SERVICES NSP supplies NSP-W and Viking with gas dispatching services and other services associated with supervisory control and data acquisition for their gas businesses (SCADA). This contract was approved by the MPUC in Docket No. G002/AI-94-831 and by the PSCW. SCADA and gas dispatching are among the functions a local distribution company (LDC) such as NSP or an interstate pipeline company like Viking must perform in order to ensure reliable delivery of natural gas to customers. A SCADA system electronically communicates gas flow, gas pressure, and gas equipment set point data for the delivery system and records the data in a computerized data storage system for monitoring and control purposes. Gas dispatching includes H-1 monitoring and controlling the flow, pressures and operating conditions of a natural gas delivery system through the use of a SCADA. Absent this agreement, NSP, NSP-W and Viking could each need to own and operate a SCADA system. The agreement enables the companies to share the costs. The three companies are each allocated and billed a share of the actual costs incurred by NSP on a monthly basis. The costs are shared based on the number of metering points monitored for each company. NATURAL GAS AND GAS RELATED SERVICES NSP has authority to release to Cenerprise its firm transportation rights on both unaffiliated pipelines, and on Viking. This contract was approved by the MPUC in Docket No. G002/AI-94-433. NSP-W has a similar agreement with Cenerprise to release pipeline capacity or to purchase pipeline capacity from one another pursuant to rules and tariff provisions approved by the FERC. (Docket No. 4220-AU-118). In addition, under an umbrella gas sales agreement, NSP may purchase interruptible spot gas supplies from Cenerprise. This contract was approved by the MPUC in Docket No. G002/AI-94-433. Historically, WEPCO has received a portion of its gas from ANR Pipeline ("ANR") via Viking, an upstream pipeline to ANR. As part of the unbundling under FERC Order 636, ANR was ordered to and has released a portion of its Viking capacity to WEPCO starting in November 1995. As a result of this release, WEPCO has a contract for pipeline capacity with Viking. This agreement is to be in place until 2003 and is exempt from the at cost standard of the Act under Rule 81. SALE OF STEAM NSP sells steam to NRG for its Wascho operations for resale to Andersen Corporation and to a Minnesota correctional facility. This contract was approved by the MPUC in Docket No. E002/M-86-775. NRG purchases steam for its Waldorf process steam operation from NSP's High Bridge power generation facility. This contract was approved by the MPUC in Docket No. E002/CI-82-523. LEASING OF LAND NSP leases land adjacent to its Wilmarth steam generating facility to Minnesota Waste Processing. Such land is used to house a solid waste storage and transfer facility. The storage facility collects and distributes MSW and stores and distributes RDF to generating stations, including the Wilmarth facility. This contract was approved by the MPUC in Docket No. E002/AI-94-950. UP&L leases office space on floors two through eleven of the Renaissance Square office building to NSP. This contract was approved by the MPUC in Docket No. E002/AI-90-845. UP&L also leases office space on the first floor and in the basement of the Renaissance Square office building to NSP. This contract was approved by the MPUC in Docket No. E002/AI-94-1056. FMAP leases 14,000 square feet of unimproved storage area in the first and second floors of the parking garage adjacent to NSP's headquarters. This contract was approved by the MPUC in Docket No. E002/AI-94-1043. FMAP also leases 92 parking spaces in the parking facility to NSP. This contract was approved by the MPUC in Docket No. E002/AI-94-1042. H-2 SALE OF ELECTRICITY Minnesota Methane sells power from its QF facility in Burnsville, Minnesota to NSP pursuant to a power purchase agreement approved by the MPUC in Docket No. E002/AI-94-378. Similarly, Landfill Power sells power to NSP from its QF facilities in Eden Prairie, Minnesota and Inver Grove Heights, Minnesota pursuant to power purchase agreements approved by the MPUC in Docket Nos. E002/AI-95-371 and E002/AI-95-570, respectively. NSP entered into these contracts in accordance with PURPA. SALE OF HOME AUTOMATION EQUIPMENT WEPCO has an agreement to purchase home automation equipment from Quantum, an affiliate of WISVEST. This affiliated interest agreement was approved by the PSCW on March 6, 1995 in Docket No. 6630-AU-106. This agreement is exempt from the at cost standards of the Act under Rule 90(d)(2). H-3 EX-99.I(1) 2 EXHIBIT 99.I(1) EXHIBIT I-1 SECURITIES AND EXCHANGE COMMISSION (RELEASE NO. 35- ) FILING UNDER THE PUBLIC UTILITY HOLDING COMPANY ACT OF 1935 APRIL 15, 1996 NORTHERN STATES POWER COMPANY WISCONSIN ENERGY CORPORATION Northern States Power Company ("NSP"), 414 Nicollet Mall, Minneapolis, Minnesota 55401, a Minnesota combination electric and gas public-utility company and a holding company exempt from regulation by the Commission under the Act (except for Section 9(a)(2) thereof) pursuant to Section 3(a)(2) of the Act and by order of the Commission and Wisconsin Energy Corporation ("WEC," and together with NSP, the "Applicants"), 231 West Michigan Street, Milwaukee, Wisconsin 53203, a Wisconsin holding company exempt from regulation by the Commission under the Act (except for Section 9(a)(2) of the Act) pursuant to Section 3(a)(1) of the Act and by order of the Commission, have jointly filed an application-declaration under sections 2(b), 3(a)(2), 4, 5, 6(a), 7, 8, 9, 10, 11, 12(b), 13, 21, 32 and 33 and rules 42, 80-92 thereunder. The application-declaration seeks approval relating to the proposed combination (the "Transaction") of NSP and WEC by which WEC will acquire 100% of the issued and outstanding common stock of NSP and by which WEC's combination electric and gas public-utility subsidiary, Wisconsin Electric Power Company, a Wisconsin corporation ("WEPCO"), will acquire substantially all of the assets of Northern States Power Company, a Wisconsin corporation ("NSP-W") and a public utility subsidiary of NSP. Following the Transaction, WEC (which will be renamed Primergy Corporation ("Primergy") prior to such time) will register with the Commission under section 5 of the Act. The Applicants also seek approvals in connection with the establishment of Primergy Services, Inc. ("Primergy Services") and possibly one or more other service companies as subsidiary service companies as well as the services to be rendered by Primergy Services and such other service companies. Applicants also seek approval with regard to the possible formation of a new subsidiary which may hold certain of the Primergy system's non-utility subsidiaries ("Primergy Hold"), all requisite authority to realign certain non- utility subsidiaries, and the issuance of common stock to Primergy by all such service and holding company subsidiaries. The Applicants also request approval for the issuance by Primergy of shares Primergy Common Stock in connection with the Transaction, as well as the issuance or acquisition by Primergy of shares of Primergy Common Stock under its shareholder dividend reinvestment and stock purchase plans and stock incentive plan. The Applicants seek approval for the retention by Primergy of the gas operations of NSP, NSP-W and WEPCO and the various 1 non-utility investments and businesses of NSP, NSP-W and WEC and their direct and indirect subsidiaries and affiliates, the continuation of certain non- utility activities conducted by NSP and WEPCO, and all existing and outstanding intra system debt, guarantees of debt, and contracts. The Applicants also seek certain exemptions from the at-cost provisions of Rules 90-91 under the Act. In addition, the Applicants request an order under the Act temporarily exempting New NSP (as defined below) from the registration requirements of the Act during the limited period following the NSP Merger (as defined below) that New NSP owns NSP-W. NSP is engaged primarily in the generation, transmission and distribution of electricity throughout a 30,000 square mile service area in Minnesota, North Dakota and South Dakota. NSP also purchases, distributes and sells natural gas to retail customers, and transports customer-owned gas, in approximately 100 communities in this area. Of the more than 2.5 million people served by NSP, the majority are concentrated in the Minneapolis-St. Paul metropolitan area. As of December 31, 1995, NSP provided electric utility service to approximately 1,100,000 customers and gas utility service to approximately 330,000 customers. NSP-W is engaged in the generation, transmission, and distribution of electricity to approximately 208,000 retail customers in an area of approximately 18,900 square miles in northwestern Wisconsin, to approximately 9,100 electric retail customers in an area of approximately 300 square miles in the western portion of the Upper Peninsula of Michigan, and to 10 wholesale customers in the same general area. NSP-W purchases, distributes and sells to retail customers or transports customer-owned gas, in the same service territory to approximately 68,200 customers in Wisconsin and 4,700 customers in Michigan. NSP Common Stock is listed on the New York Stock Exchange, Inc. ("NYSE") and the Chicago and Pacific Stock Exchange. As of December 31, 1995, there were 68,175,934 shares of NSP Common Stock and 2,400,000 shares of NSP cumulative preferred stock outstanding. NSP's principal executive office is located at 414 Nicollet Mall, Minneapolis, Minnesota 55401. NSP-W does not have any preferred stock outstanding and all of its common stock is owned by NSP. On a consolidated basis, for the year ended December 31, 1995, NSP's operating revenues were approximately $3.146 billion, of which approximately $2.401 billion were derived from electric operations, approximately $414 million from gas operations, and approximately $331 million from other operations. In 1995, NSP-W provided approximately 15.1% of NSP's consolidated revenues. Consolidated assets of NSP and its subsidiaries as of December 31, 1995 were approximately $6.229 billion, consisting of $3.681 billion in net electric utility property, plant and equipment ($3.135 billion for NSP and $546 million for NSP-W); $376 million in net gas utility property, plant and equipment ($320 million for NSP and $56 million for NSP-W); and $2.172 billion in other corporate assets. NSP has seven direct wholly owned subsidiaries that are engaged in non-utility businesses. These are: Viking Gas Transmission Company, a natural gas transmission company operating in Minnesota, Wisconsin and North Dakota; Cenerprise, Inc., a natural gas and electric 2 power marketing and brokering company which also provides energy conservation and management services and energy products and services and which has several energy related businesses; Eloigne Company, an affordable housing investment and development company which has investments in a variety of low-income housing and other projects; First Midwest Auto Park, Inc., a company which owns and operates a parking garage located next to NSP's headquarters; Cormorant Corporation, a company which engages in oil, gas, lignite and uranium exploration and the acquisition of fuel resources; United Power & Land Company, a company which owns and holds and sometimes leases real property which is generally surrounding or adjacent to property owned and used by NSP in its regulated operations; and NRG Energy, Inc., a company that develops, builds, acquires, owns and operates several non-regulated energy related businesses, owns and operates certain resource recovery businesses and steam and chilled water businesses, and through subsidiaries and affiliates, is involved in a variety of independent power projects, energy-related services and fuel enhancement and related projects and other non-utility businesses both domestic and international. NSP-W has two wholly owned subsidiaries. These are: Clearwater Investment, Inc., an affordable housing investment and development company which has investments in a variety of low-income housing and other projects; and NSP Lands, Inc., a company which is currently developing for sale land owned by NSP- W. It also has a 78% owned subsidiary, Chippewa & Flambeau Improvement Company, a company which builds, maintains and operates dams and reservoirs on the Chippewa and Flambeau Rivers in Wisconsin. WEC, which will change its name to Primergy Corporation at the time of the consummation of the Transaction, has one public utility subsidiary, WEPCO. WEPCO is engaged in the business of generating, transmitting, distributing and selling electric energy to approximately 955,616 customers as of December 31, 1995 in a service area of approximately 12,000 square miles with a population estimated at over 2,200,000 in southeastern (including the Milwaukee area), central and northern Wisconsin and in the Upper Peninsula of Michigan. WEPCO also purchases, distributes and sells to retail customers or transports customer-owned gas to approximately 357,030 customers as of December 31, 1995 in three distinct service areas in Wisconsin: west and south of the City of Milwaukee, the Appleton area and the Prairie du Chien area. The gas service territory, which has an estimated population of over 1,100,000, is largely within the electric service area of WEPCO. WEPCO also distributes and sells steam supplied by its Valley Power Plant to approximately 473 space heating and processing customers as of December 31, 1995 in downtown and near southside Milwaukee. WEC Common Stock is listed on the NYSE. As of December 31, 1995, there were 110,819,337 shares of WEC Common Stock outstanding. WEC has no shares of preferred stock outstanding. WEC's principal executive office is located at 231 West Michigan Street, Milwaukee, Wisconsin 53203. All of WEPCO's common stock is owned by WEC. As of December 31, 1995, there were 304,508 shares of WEPCO preferred stock outstanding. WEPCO's outstanding preferred stock will not be impacted by the Transaction. On a 3 consolidated basis, for the year ended December 31, 1995, WEC's operating revenues were approximately $1.779 billion, of which approximately $1.437 billion were derived from electric operations, approximately $318 million from gas operations, approximately $15 million from steam operation and approximately $9 million from other operations. Consolidated assets of WEC and its subsidiaries as of December 31, 1995, were approximately $4.561 billion, consisting of $3.907 billion in net electric utility property, plant and equipment, $387 million in net gas utility property, plant and equipment, $25 million in net steam utility property, plant and equipment and $242 million in non-utility assets. WEC has seven wholly owned non-utility subsidiaries devoted primarily to stimulating economic growth in WEPCO's service areas and to capitalizing on diversified investment opportunities all of which have been formed under and pursuant to the requirements and policies of the Wisconsin Holding Company Act. These are: Badger Service Company, a company which holds coal rights in Indiana; Minergy Corp., a company engaged in the business of developing and marketing proprietary technologies designed to convert high volume industrial and municipal wastes into value-added products and which will build and operate a paper-sludge recycling facility; WEC Generation International Inc, a company which will investigate investment opportunities and which has two, currently inactive, international subsidiaries; Wisconsin Michigan Investment Corporation, a company which engages in investment and financing activities which include advances to affiliated companies and investments in financial instruments and partnerships developing affordable housing and other businesses; WISPARK Corporation, a real estate development company which engages in all aspects of real-estate development and which holds investment and ownership positions in a variety of real estate projects; WISVEST Corporation, a company which invests in energy-related activities and holds investments in several energy-related companies; and WITECH Corporation, a company which provides venture capital and holds equity and other positions in a variety of businesses. In addition, WEC holds a 50% interest in Custometrics LLC, a joint venture which will provide systems solutions relating to billing and other aspects of the customer service segment of the energy services industry. Pursuant to an Agreement and Plan of Merger, dated as of April 28, 1995, as amended and restated as of July 26, 1995 (the "Merger Agreement"), entered into by NSP, WEC, Northern Power Wisconsin Corp. ("New NSP")1 and WEC Sub Corp. ("WEC Sub")2, the - ---------------------- 1 New NSP, a Wisconsin corporation and a wholly owned subsidiary of NSP has not had, and prior to the consummation of the Transaction will not have, any operations other than the activities contemplated by the Merger Agreement necessary to accomplish the combination of New NSP and NSP. 2 WEC Sub, a Wisconsin corporation and wholly owned subsidiary of WEC has not had, and prior to the consummation of the Transaction will not have, any operations other than the activities contemplated by the Merger Agreement necessary to accomplish the combination of WEC Sub and New NSP. 4 Transaction will be accomplished through a three-stage process. In the first stage, NSP will reincorporate in Wisconsin by merging into New NSP. Immediately prior to this merger and for state regulatory reasons, NSP-W will transfer the gas utility assets necessary to furnish gas utility services to the communities of LaCrosse and Hudson, Wisconsin to New NSP (the "Designated Gas Utility Assets"). In the second stage, WEC Sub will merge with and into New NSP, with New NSP left as the surviving corporation. In the third stage, NSP-W will merge into WEPCO and ownership of all other NSP subsidiaries will be transferred from NSP to Primergy or to Primergy Hold if it is formed. Also in connection with the Transaction, WEPCO will be renamed Wisconsin Energy Company. Specifically, the Merger Agreement provides for: (i) the merger of NSP with and into New NSP (the "Reincorporation Merger") pursuant to which (a) each issued and outstanding share of common stock, par value $2.50 per share, of NSP ("NSP Common Stock") (except shares held by NSP shareholders who perfect dissenters' rights with respect thereto ("NSP Dissenting Shares")) will be canceled and converted into one share of common stock, par value $2.50 per share, of New NSP ("New NSP Common Stock"), and (b) each issued and outstanding share of cumulative preferred stock, par value $100.00 per share, of NSP ("NSP Preferred Stock") (except NSP Dissenting Shares) will be canceled and converted into one share of cumulative preferred stock, par value $100.00 per share, of New NSP ("New NSP Preferred Stock") with terms (including dividend rates and general voting rights) and designations under New NSP's Articles of Incorporation identical to those of the canceled shares of NSP Preferred Stock under NSP's existing Restated Articles of Incorporation, and (ii) the merger of WEC Sub with and into New NSP (the "NSP Merger," together with the Reincorporation Merger , the "Mergers") pursuant to which (a) each issued and outstanding share of New NSP Common Stock will be canceled and converted into 1.626 (the "Ratio") shares of common stock, par value $.01 per share, of Primergy ("Primergy Common Stock") and (b) each issued and outstanding share of New NSP Preferred Stock will remain outstanding and shall be unchanged thereby (except for any shares of New NSP Common Stock and New NSP Preferred Stock owned directly or indirectly by New NSP or WEC, which will be canceled and will not be converted or remain outstanding). Each issued and outstanding share of common stock, par value $.01 per share, of WEC ("WEC Common Stock") will remain outstanding and unchanged, as one share of Primergy Common Stock. Based upon the capitalization of NSP and WEC on April 28, 1995 (the date the Merger Agreement was initially signed) and the Ratio, holders of NSP Common Stock and WEC Common Stock would each have held 50% of the aggregate number of shares of Primergy Common Stock that would have been outstanding if the Mergers had been consummated as of such date. The Applicants state that the proposed Transaction qualifies for treatment as a pooling of interests. Upon completion of the Transaction, Primergy will own two combination electric and gas utility companies, NSP and WEPCO. NSP will continue to operate and own the same utility facilities at the same locations outside Wisconsin as prior to the Transaction, along with the Designated Gas Utility Assets formerly owned by NSP-W. WEPCO will own and operate 5 the same utility facilities at the same locations as prior to the Transaction, along with the balance of the gas and electric utility assets of NSP-W. The Merger Agreement provides that Primergy's principal corporate offices will be in Minneapolis, Minnesota. NSP and WEC will retain offices in Minneapolis and Milwaukee respectively as their regional headquarters. Primergy's board of directors will consist of a total of 12 directors, 6 of whom will be designated by NSP and 6 of whom will be designated by WEC. The Applicants also request authorization with respect to the activities of Primergy Services and, if formed, certain other additional service companies. Primergy Services and the additional services companies may provide NSP and WEPCO pursuant to a Service Agreement and the non-utility subsidiaries of the Primergy system pursuant to a Non-utility Service Agreement with one or more of the following: administrative, management and support services, including services relating to information systems, meters and transportation, electric and gas system maintenance, marketing and customer relations, transmission and distribution, engineering and construction, power engineering and construction, human resources, materials management, facilities, accounting, power planning, public affairs, legal, rates, finance, rights of way, internal auditing, environmental affairs, fuels, investor relations, strategic and operations planning, and general administrative and executive management services. It is anticipated that such service companies will be staffed primarily by transferring personnel from the current employee rosters of NSP, WEPCO, and their subsidiaries. The Applicants state that the accounting and cost allocation methods and procedures of all such service companies which are formed including Primergy Services will comply with the Commission's standards for service companies in registered holding-company systems, and that the billing systems of all such service companies including Primergy Services will use the Commission's "Uniform System of Accounts for Mutual Service Companies and Subsidiary Service Companies." Except as permitted under the Act or by the Commission, all services provided by such service companies to affiliated companies will be on an "at cost" basis as determined by Rules 90 and 91 of the Act. The Applicants have requested an exemption from Rules 90 and 91 in connection with the provision of services by Primergy Services and such other service companies as may be formed to certain affiliated Qualifying Facilities ("QFs"), Independent Power Projects ("IPPs"), Exempt Wholesale Generators ("EWGs") and Foreign Utility Companies ("FUCOs") as well as certain other affiliated and associated companies. The Applicants also request authorization with respect to certain subsidiaries and associates which provide services, including operation and maintenance, and sell goods to certain foreign EWGs, FUCOs, EWGs and QFs or to entities which will qualify as EWGs, FUCOs or QFs following the Transaction. The Applicants request that the Commission permit these companies and certain other companies to continue such transactions without compliance with the at cost provisions of Section 13(b) and the rules and regulations thereunder. In addition, the Applicants request an exemption with respect to the provision of services to certain affiliates that own interests in QFs that sell power to NSP pursuant to PURPA contracts approved by the Minnesota Public Utility Commission ("MPUC") and with respect to various additional existing 6 contracts, and outstanding and committed intercompany loans and guarantees of indebtedness among affiliates following the Transaction which have previously been approved by the MPUC or the Public Service Commission of Wisconsin. For the Commission, by the Division of Investment Management, pursuant to delegated authority. 7 EX-99.J(1) 3 EXHIBIT 99.J(1) EXHIBIT J.1 NORTHERN STATES POWER COMPANY (MINNESOTA) [NSP(M)] NORTHERN STATES POWER COMPANY (WISCONSIN) [NSP(W)] ANALYSIS OF THE ECONOMIC IMPACT OF A DIVESTITURE OF THE GAS OPERATIONS OF NSP(M) AND ITS NSP(W) SUBSIDIARY This Study was undertaken by the management and staff of Northern States Power Company ("NSPM") and its wholly-owned subsidiary Northern States Power Company (Wisconsin) ("NSPW"). The objective of the study is to quantify the economic impact on shareholders and customers of divesting NSPM of its natural gas utility assets and business in the States of Minnesota and North Dakota, and of divesting NSPW of its natural gas utility assets and business in the States of Wisconsin and Michigan. March 18, 1996 TABLE OF CONTENTS Page ---- I. EXECUTIVE SUMMARY 1 II. CONCLUSIONS 3 III. SPIN-OFF ASSUMPTIONS 6 IV. GENERAL STUDY ASSUMPTIONS 7 V. GAS COMPANY OF MINNESOTA ANALYSIS 9 VI. GAS COMPANY OF WISCONSIN ANALYSIS 17 VII. OTHER CUSTOMER IMPACTS 25 VIII. BILL COMPARISON OF GAS COMPANY OF MINNESOTA AND GAS COMPANY OF WISCONSIN 26 IX. EFFECT ON REMAINING ELECTRIC COMPANIES 27 APPENDIX A. COMPARISON OF NSP(M) AND NSP(W) GAS TO REGIONAL GAS UTILITIES APPENDIX B. ORGANIZATION CHART NEW GAS COMPANY OF MINNESOTA APPENDIX C. ORGANIZATION CHART NEW GAS COMPANY OF WISCONSIN I. EXECUTIVE SUMMARY Northern States Power Company (NSP) management and staff have undertaken this Analysis of the Economic Impact of a Divestiture of the Gas Operations of Northern States Power Company (Minnesota) ("NSP(M)") and its Northern States Power Company (Wisconsin) ("NSP(W)") (Study). The purpose of the Study is to quantify the economic impact on its shareholders and its customers of spinning off NSP(M)'s and NSP(W)'s natural gas assets and businesses. NSP is currently an exempt holding company under the Public Utility Holding Company Act of 1935 (PUHCA) providing electric and natural gas service in a major portion of the States of Minnesota, North Dakota and South Dakota. NSP(W) is a wholly-owned subsidiary of NSP providing electric and natural gas service in and around Eau Claire, Wisconsin, and the Upper Peninsula of Michigan. The Study quantifies the economic impacts of operating the following two entities as independent, stand-alone companies if they were dis-aggregated from NSP's combined utility businesses: - - The Minnesota and North Dakota portion of NSP(M)'s gas business spun-off into a new organization called, for the purpose of this Study, Gas Company of Minnesota and - - NSP(W)'s gas business spun-off into a new organization called, for the purpose of this Study, Gas Company of Wisconsin. The Study evaluates the increased costs or "Lost Economies" associated with divestiture of these businesses from two perspectives - shareholders and customers. The effect on shareholders is the direct result of the increased costs or lost economies resulting from a spin-off or divestiture, absent regulatory rate relief to recoup these lost economies. The effect on customers assumes recovery of these lost economies through rate increases, and is divided into two parts. The potential effects on customers have first been evaluated in terms of increased revenue requirements and rates, and, second in terms of the impact of other quantifiable and non-quantifiable costs. The projected impacts on the shareholders of the lost economies resulting from the spin-off of NSP's gas business into Gas Company of Minnesota and the spin- off of NSP(W)'s gas business into Gas Company of Wisconsin, assuming no rate adjustments to recover the lost economies and associated incomes taxes, are shown in Table I-1. TABLE I-I ANNUAL SHAREHOLDER IMPACT OF LOST ECONOMIES
LOST ECONOMIES AS GAS COMPANY GAS COMPANY A PERCENT OF: OF MINNESOTA OF WISCONSIN Total Gas Operating Revenue 8.74% 11.73% Total Gas Operating Rev Deductions 9.79% 13.12% Gross Gas Income 81.46% 111.05% Net Gas Income 110.20% 165.16%
In Table I-1, Total Gas Operating Revenue is the sum of rate and other revenue for the 12 months ending December 31, 1995 (Base Case)(1). Total Gas Operating Revenue Deductions includes all operation and maintenance expenses, administrative and general expenses, depreciation and all taxes, except income taxes. Gross Gas Income is the difference between Total Gas Operating Revenue and Total Gas Opt rating Revenue Deductions. Net Gas Income is Gross Gas Income minus Income Taxes. Alternatively, and assuming that each organization is allowed to increase its rate revenue to recover these lost economies and attendant income taxes through rate increases, the projected impact on NSP(M)'s and NSP(W)'s gas customers is shown in Table I-2. TABLE I-2 ANNUAL GAS CUSTOMER IMPACT OF LOST ECONOMIES
GAS COMPANY GAS COMPANY RATE REVENUE: OF MINNESOTA OF WISCONSIN Pre Spin-off $336,082,000 $78,015,000 Post Spin-off $366,184,000 $87,304,000 Increase $30,102,000 $9,289,000 Percent Increase 8.96% 11.91%
- -------------------- (1) The dollar amounts contained in the study are expressed in 1995 dollars. In addition to the foregoing impacts, the following table sets forth the impact on the remaining electric companies (comprised of NSP(M)'s and NSP(W)'s current electric businesses). This impact is primarily due to the expense of additional employees required to perform the multitude of functions accomplished by employees who currently work for both the electric and gas businesses and assumes that pass through of the lost economies and attendant income taxes is allowed by the appropriate regulatory agencies. TABLE I-3 ANNUAL ELECTRIC CUSTOMER IMPACT OF LOST ECONOMIES
RATE REVENUE: NSP(M) REMAINING NSP(W) REMAINING ELECTRIC ELECTRIC Pre Spin-off $2,019,831,000 $310,790,000 Post Spin-off $2,036,690,000 $3 15,140,000 Increase $16,859,000 $4,350,000 Percent Increase 0.8% 1.4%
Finally, both NSP(M)'s and NSP(W)'s gas customers would incur increased personal costs such as postage on a separate envelope and additional check costs to mail payments to two utilities rather than one. This does not include additional customer confusion resulting from doing business with two utilities rather than one. The increased postage expense alone of $3.84 per customer per year for all customers is shown in Table I-4. TABLE I-4 OTHER ANNUAL CUSTOMER IMPACTS
NSP(M) POSTAGE NSP(W) POSTAGE $1,356,000 $275,000
II. CONCLUSIONS The spin-off of NSP(M)'s and NSP(W)'s current gas businesses into two stand-alone companies is estimated to result in a substantial increase in costs and therefore a substantial decrease in earnings to NSP shareholders absent rate relief to recoup these decreased earnings. Without an increase in rates, the immediate negative effect on shareholders' earnings would be substantial. For example, the earnings contribution relating to NSP(M)'s and NSP(W)'s gas businesses would be decreased by approximately 110 percent and 165 percent, respectively, as shown in Table I-1. Such a decline would make ownership of shares in these stand-alone companies unattractive. The pass-through of these cost increases to gas customers in Minnesota, North Dakota, Wisconsin and Michigan will result in a significant increase in the level of cost borne by these customers with no attendant increase in the level or quality of service. The rate increases required to provide the level of revenue needed to cover costs to operate Gas Company of Minnesota and Gas Company of Wisconsin will be significant, amounting to approximately $39.4 million, as shown in Table 1-2. Such rate increases would make the new gas companies less competitive at a time when competition in the energy industry is rapidly increasing due to Federal Energy Regulatory Commission (FERC) Order 636 and other FERC and state regulatory restructuring initiatives. By comparison, retention of the gas businesses would allow rate reductions to consumers. The potential by-pass of Local Distribution Companies (LDCS) is becoming a reality that LDCs must face daily, along with the commensurate possibility of a decreasing customer base, resultant rate increases, and potential stranded costs. The FERC has sanctioned the bypass of LDC systems by interstate pipelines in recent years in the interest of competition. In addition, natural gas service continues to compete with alternative files. The focus on competition is beginning to require the unbundling of LDC services. This trend is occurring as state commissions, LDCS, and their customers, call for a change in the way LDCs do business. While the objectives of these groups are not always consistent, the result will likely be the same-increased competition. LDCs already face fierce price competition, and must remain competitive to avoid shareholder losses and a reduced customer base. As a result of the increased costs discussed herein, bundled or unbundled services may become uncompetitive as the pass through of these increases could potentially result in rates that few customers would pay when compared to other competitive options they may have. In addition, the FERC's ongoing electric Notice of Proposed Rulemaking Promoting Wholesale Competition Through Open Access Nondiscriminatory Transmission Services by Public Utilities (RM95-8-000, et al.) and state retail wheeling initiatives are expected to increase competition in the electric industry. The lost economies estimated for NSP(M)'s and NSP(W)'s remaining electric companies, if divestiture of gas operations were required, would also have an adverse impact on their ability to successfully compete in the electric industry. A forced divestiture as a result of the proposed merged company would result in the remaining companies becoming less competitive than they would be as part of a merged company. A graphic comparison of typical residential and commercial gas bills in Minnesota, North Dakota, Wisconsin and Michigan, illustrating the loss of each new Gas Company's relative position resulting from a spin-off, as compared to other utilities, is contained in Table VII-1 of Exhibit J.2-Wisconsin Energy Corporation "Analysis of Economic Impact of a Divestiture of Wisconsin Energy Corporation's Gas Operations." As opposed to the negative results of the economic impact, two positive conclusions were noted. - - First, it is expected that after divestiture, the two segments of NSP(M) and NSP(W)'s business analyzed in this Study would continue to be managed locally, as they currently are. NSP(M)'s gas business would continue to be managed from and based in St. Paul, Minnesota, and from other local/regional parts of North Dakota and Minnesota where management is currently based. NSP(W)'s gas business would continue to be locally based in the City of Eau Claire, Wisconsin. Therefore, the benefits and costs of localized management will continue to be realized. - - Second, it is expected that after divestiture the Minnesota Public Utilities Commission (MPUC), North Dakota Public Service Commission (NDPSC), the Wisconsin Public Service Commission (PSCW), and Michigan Public Service Commission (MPSC) would continue to have and exercise the same jurisdictional authority over the regulated businesses as they do today. NSP(M)'s gas business would continue to be regulated primarily by the MPUC and NDPSC, and NSP(W)'s gas business would continue to be regulated primarily by the PSCW and MPSC. Therefore, the state commissions will continue as the primary agencies responsible for the regulation of the LDCS. However, it should be noted that these same conditions (continued local management and state regulatory jurisdiction) would exist if the gas businesses remain with the new merged entity. As previously discussed in the Executive Summary, there is a combination of approximately $39.4 million in revenue increases needed for the New Gas Companies, shown in Table I-2, and an additional $21.2 million in revenue increases as a result of lost economies, including income taxes, that will impact the remaining NSP(M) and NSP(W) electric companies, and potentially their customers shown in Table I-3. Therefore, the total revenue increases that would be required is approximately $60.6 million. Based on the foregoing conclusions, NSP believes that spinning off the gas businesses would adversely impact NSP's shareholders and both electric and gas customers. Therefore, NSP recommends that it is in the best interest of its shareholders and customers that NSP(M) and NSP(W) retain their existing gas assets and businesses. III. SPIN-OFF ASSUMPTIONS The Study assumes that two segments of NSP's current business can, in fact, be spun-off into stand-alone companies. These two potential stand-alone businesses are currently part of the combined companies as described below.(2) - -------------------- (2) For a comparison of NSP(M) and NSP(W) gas operations relative to other utilities based on 1994 data, see Appendix A of Exhibit J.2 - Wisconsin Energy Corporation "Analysis of Economic Impact of a Divestiture of Wisconsin Energy Corporation's Gas Operations." Within Minnesota, North Dakota and South Dakota, NSP(M) is primarily a combination electric and gas utility, engaged in the generation, purchase, transmission, distribution and sale of electricity, and in the purchase, transmission, distribution, sale and transportation of natural gas. (NSP presently provides only electric service in South Dakota; NSP does not presently provide gas service in South Dakota). NSP(M)'s gas business includes an extensive distribution system serving numerous communities throughout Minnesota and North Dakota. NSP(M)'s gas system serves over 353,000 residential, commercial, industrial, and transportation customers. Total annual gas revenues are approximately $336 million. Annual gas deliveries are nearly 96 billion cubic feet (Bcf). The Study assumes that the gas portion of NSP(M) is spun-off into a stand-alone gas company-New Gas Company of Minnesota. NSP(M)'s electric business, which includes generation, transmission, and distribution facilities located statewide, provides service to nearly 1.2 million customers throughout a large portion of Minnesota, North Dakota and South Dakota. Total annual electric revenues are approximately $2.0 billion and annual sales are nearly 36 million megawatt hours (Mwh). NSP's wholly-owned subsidiary, NSP(W), operates a combination electric and gas business in Wisconsin and the Upper Peninsula of Michigan. NSP(W) is engaged in the generation, transmission, distribution and sale of electricity, and in the purchase, distribution, sale and transportation of natural gas. The NSP(W) gas distribution system serves over 71,550 customers. Total annual gas revenues are approximately 78.0 million. Annual gas deliveries are nearly 19 billion cubic feet (Bcf). The Study assumes that the gas portion of NSP(W) is spun-off into a stand-alone gas company: New Gas Company of Wisconsin. The NSP(W) electric system consists of generation, transmission and distribution facilities and serves over 211,550 customers. Total annual electric revenues are approximately $310.8 million and annual sales are approximately 5.5 million megawatt hours (Mwh). The Study assumes that it would be possible to spin-off NSP(M)'s gas business and its NSP(W)'s gas business from their respective combined gas and electric businesses for the following reasons: - - The electric and gas systems are physically separate; - - A large number of personnel who are directly involved in the day-to-day operations of the electric and gas physical plant ("systems") are dedicated electric-only or gas-only; - - The regulatory treatment of the respective electric and gas revenue requirements, rate design, and tariff filings is, for the most part, handled separately; and, - - In other parts of the country, stand-alone electric and gas companies routinely share overlapping service territories. In addition, the Study analyzes the Gas Company of Minnesota and Gas Company of Wisconsin organizations as two stand-alone companies rather than one combined-gas-company for the following reasons: - - NSP(W) is a wholly-owned subsidiary of NSP(M) with existing separate management and its own Board of Directors: Two separate corporations would need to be merged to effectuate a single combined gas company. - - NSP(M)'s gas business and NSP(W)'s gas business are currently regulated by different State commissions. NSP(M) is regulated by the MPUC and NDPSC, while NSP(W) is regulated by the PSCW and MPSC (3) - - The NSP(M) and NSP(W) gas systems can be operated independently; and, (4) - - A significant number of personnel who oversee and maintain the operation of the two systems are employees of NSP(M) only or NSP(W) only. IV. GENERAL STUDY ASSUMPTIONS The assumptions, information and data utilized in the analyses undertaken in this Study are based on the energy industry expertise and experience possessed by the management and staff of NSP(M) and NSP(W). Employees with experience in all major facets of the operations of NSP(M) and NSP(W) were consulted and provided input. The Study's aggregate conclusions are the result of many independent inputs and analyses from highly qualified individuals throughout the companies. The Base Cases for the Study are founded upon actual sales, revenues, costs, and rates of return from the 1995 gas utility of NSP(M) and NSP(W). NSP made an exhaustive analysis of the major cost components that may be associated with a divestiture. As a result of discussions with numerous personnel at NSP(M) and NSP(W), the - -------------------- (3) Both NSP(M) and NSP(W) are regulated to a minor extent by the FERC under the provisions of limited jurisdiction certificates pursuant to Section 7(C) of the Natural Gas Act of 1938. (4) As discussed in the Application/Declaration on Form U-1 of Primergy to which this study is an exhibit, the NSP(M) and NSP(W) gas systems together constitute an "integrated public utility system" within the meaning of Section 2(a) (29) of the Public Utility Holding Company Act of 1935. major cost components that may be associated with a divestiture were identified, quantified, and included in the Study results. A more exhaustive analysis would probably produce additional costs and diseconomies from divestiture of NSP(M) and NSP(W) gas operations. The remainder of this section discusses the major assumptions that were employed in developing the Study. A. For the purposes of developing the impacts of a spin-off on the various organizations, it is assumed that each of the organizations to be spun-off will operate as an independent, stand-alone company Therefore, they will have all of the necessary management and personnel, along with the computer systems, facilities, equipment, materials and supplies required to operate as stand-alone companies. B. For the purpose of determining the staffing requirements of each stand- alone company, the guiding principle was that a sufficient number of employees be included in order to assure that all present functions applicable to the stand-alone organization are performed, and that the present level and quality of service remain unchanged. C. Labor costs are based on an assessment of straight-time, overtime, and pension and benefit costs for each employee of the stand-alone organizations. Benefit levels will remain unchanged in the New Gas Companies. D. Unless otherwise discussed, the non-labor costs would remain essentially unchanged from those costs allocated to the organization to be spun-off. All gas related costs, such as the cost of gas, have been included in each gas organization's costs. E. Annual facility costs relating to the additional employees required to maintain the current levels of service have been incorporated into the analyses. F. For the purpose of showing the final impact on each company's customers, it is assumed that full pass-through of all of the lost economies, including income taxes, will be allowed in a formal rate proceeding after divestiture, and that the current rate levels remain unchanged until that time. G. For the purposes of developing the impact of the spin-off on each organization, a comparison is made to a Base Case. The Base Case for each company is the actual results of gas operations for NSP(M) and NSP(W), for the twelve months ended December 31, 1995, as discussed earlier, including all currently approved regulatory cost of service allowances. H. It is assumed that each organization will be subject to the regulation of the same state & federal agencies that presently regulate each organization. I. If there currently exists a contract for services from independent third- parties, the contract will continue for the spun-off organizations. J. Only the categories of costs that are expected to change significantly were analyzed. Clearly many other costs beyond those presented in this Study will be impacted by a divestiture. K. Incentive compensation for management and executive employees has not been included when determining the new gas companies labor costs. However, it is assumed that a plan similar to the present NSP plan would be developed. L. At the time of divestiture of NSP(M) and NSP(W) gas businesses, a release of all gas properties from the existing bond indentures from Harris Trust & Savings Bank and Firstar Trust Company would be required. New bond indentures would be written for the two new gas companies. V. GAS COMPANY OF MINNESOTA A detailed study has been undertaken to analyze the potential impact on both the shareholders and customers of NSP(M) if it were ordered to divest its Minnesota and North Dakota gas business. In order to accomplish that study, the management of NSP(M) provided estimates of the staffing levels of a Gas Company of Minnesota, as well as any other operational and administrative changes that would have to be made in order to maintain the same level and quality of service to its customers after a spin-off of the gas business. A. Specific Assumptions In addition to the General Study Assumptions cited earlier, the following specific assumptions have been incorporated into the analysis of the spin-off of the gas operations of NSP(M) into Gas Company of Minnesota. Labor Assumptions a. The NSP(M) organization as of December 31, 1995 was used as the template for developing the Gas Company of Minnesota organization structure. b. Where practical, some management positions were combined, eliminated or replaced with non-management positions. Some further consolidation of management positions may be possible, particularly within the staff organizations. However, the overall span of control (the ratio of nonmanagement employees to management employees) for Gas Company of Minnesota is greater than the span of control in the NSP(M) organization. As of December 31, 1995, NSP(M) had 691 management and 5,531 nonmanagement employees, yielding a span of control of 8.0 employees per manager. Gas Company of Minnesota would have 47 management and 789 non-management employees, resulting in a span of control of 16.8 (i.e., less managers per non management employee than the organization). This higher span of control is due to the following: 1) Management employees required in the operations areas, but with a higher non-management employee count due to the elimination of electric and corporate resources that are currently providing both electric and gas services, and, 2) The number of management personnel required in the staff organization, but with some increases in non-management staff size due to the elimination of support for electric and corporate functions that were currently providing both electric and gas services. C. To provide an equivalent quality of customer service an analysis was made of the Customer Service Area to determine the number of employees required for Gas Company of Minnesota. The staffing levels required in the Gas Company of Minnesota compared to the current combined company for the following functional areas of Customer Service are as follows: Meter Reading 69 Additional (39% over current levels) Customer Service 114 Additional (39% over current levels) Billing/Statements 2 Additional (33% over current levels) Payment Processing 10 Additional (40% over current levels) These functions are accomplished by a relatively small number of personnel and a spin off of gas responsibilities would not significantly affect the employees required to accomplish electric only functions. d. The Customer Service cost for Gas Company of Minnesota was based on the current cost of providing customer service (meter reading, customer service, billing and payment processing) for both electric and gas customers. This amount was multiplied by the number of current gas customers as of December 31, 1995. The staffing levels were based on an employee per customer ratio. This ratio was applied to the gas customers to determine the required staff size per Customer Service function. e. Executive salaries were based on a composite industry service data from Mercer, American Gas Association (AGA), Towers Perrin, Edison Electric Institute (EEI), and Wyatt. f. All non-executive salaries were based on the current compensation levels for the functional areas. g. Pensions and benefits were estimated as a percent of the labor cost. Currently, pension and benefits are approximately 37 percent above the base cost of labor. Therefore, after the base cost of labor was determined, an additional 37 percent was added to include pension and benefit costs. 2. Operations & Maintenance (O&M) and Administrative and General (A&G) Assumptions: a. Annual facility costs relating to the additional employees and building needs for the trucks, trailers backhoes required to operate the stand-alone companies have been incorporated into the Study. b. Separate arrangements would be made for external auditing of the books and accounts of Gas Company of Minnesota. c. Executive and administrative support from NSP(M) would cease upon any divestiture, and these functions have been provided for in the Gas Company of Minnesota organizational structure. d. Separate gas bills would be provided to customers of Gas Company of Minnesota. e. Specific shared activities such as locating and customer support were examined and included in the analysis. f. The Customer Service center needed for a Gas Company of Minnesota will be leased at an annual cost of $625,000. 3. Capital Expenditure and Cost Assumptions a. With the exception of Information Technology computer hardware to handle the various accounting and operating systems, estimated at $3.0 million, and facilities costs related to work stations, estimated at $1.6 million, no additional capital expenditures will be made by Gas Company of Minnesota as a direct consequence of spinning of the gas facilities from NSP(M). This, of course, does not include planned capital expenditures to be made in the normal course of business in order to maintain existing levels of service and provide service to new customers. b. In the event NSP(M) is required to divest its gas operations, and assuming the assets are spin-off into a new stand-alone corporation, the requirements of the existing indentures would result in the need to recapitalize at market rates in effect at the time of the spin-off. Additionally, costs associated with the issuance of securities would be incurred and ultimately included in the Gas Company of Minnesota cost of service. The current capital structure of NSP(M) is used for the purpose of analyzing capital costs for Gas Company of Minnesota. This structure is equal to the capital structure approved by the MPUC in NSP(M)'s most recent gas rate proceeding, Docket No. GOO2/GR-92-1186. As of December 31, 1995, NSP(M)'s gas rate base was capitalized as follows:
RATIO COST COMPOSITE COST ----- ---- -------------- Long/Short Term Debt 43.35% 7.61% 3.30% Preferred Stock 8.26% 5.57% 0.46% Common Equity 48.39% 11.47% 5.55% ------ ------ ----- Total: 100.00% 9.31%
This Study assumes that Gas Company of Minnesota would have access to capital at a cost similar to that of NSP(M). The difference expected from the rates listed above would result from an increased equity ratio. The study assumes that gas utilities have an equity ratio about 3% higher, than electric utilities.(5) NSP(M)'s electric business encompasses about 90% of the combined rate base. The study assumes the capital structure is really a function of the electric business and therefore a capital structure for an electric only NSP(M) would be the same as the current combined capital structure. The cost of debt was not changed because the marginal cost of debt for a double-A utility should be about the same as the embedded rate. - ---------------------- (5) Regulatory Research Associates Major Rates Cases for 1995, page 5. The cost of common equity is 11.47 percent which was established by the MPUC, Docket No G002/GR-92-1186. Common equity would require the sale of new securities, as new stock certificates would be issued to future shareholders of Gas Company of Minnesota. Gas Company of Minnesota would capitalize through an initial public offering (IPO) of 20% of the equity value and spinning off 80% to existing NSP shareholders, and debt issuance in the above reference capital structure ratios at an aggregated cost of $4.4 million. Annual cost over 30 years would be $145,000. This cost would be charged as a transition cost to be recovered over 30 years. 4. Transition Cost Assumptions. In addition to the increased amount of equity discussed above, the new gas companies of Minnesota and Wisconsin would incur transition costs associated with the new separate gas utilities being formed. Gas franchises would be assigned to the new gas companies by providing notice to the cities at minimal or zero cost. 5. Foregone Merger Savings. The Primergy merger filing includes anticipated merger savings for the gas utilities. The Study assumed these savings would be lost as a result of divestiture. The levied annual impact is $7.9 million. B. ORGANIZATION OF GAS COMPANY OF MINNESOTA The functional organization chart of Gas Company of Minnesota is contained in Appendix B. DESIGN OF GAS COMPANY OF MINNESOTA ORGANIZATION - The NSP(M) organization at December 31, 1995, was used as the pattern for developing the Gas Company of Minnesota organization structure. In order to develop the new structure for the stand-alone company, management was contacted for input regarding staffing levels. BOARD OF DIRECTORS -The Board of Directors is assumed to consist of twelve directors based on the size and scope of Gas Company of Minnesota. CHIEF EXECUTIVE OFFICER(CEO) - The CEO reports to the Board of Directors and is responsible for overseeing the entire Company. The CEO oversees five direct-report executives (Chief Operating Officer; Chief Financial Officer, Customer Service Vice President, Human Resources Vice President, and General Counsel) and is responsible for Corporate Communications and Audit Services. The Executive Organization totals 29 employees, and is composed of 6 executives, 2 managers, 15 non-management, and 6 executive assistants. CHIEF OPERATING Officer (COO) - The COO reports directly to the CEO and is responsible for the overall operating activities of the Company. The COO oversees the work of three directors (Operations; Gas Supply, Gas Control and Engineering; and Supply and Operational Services). The organization managed by the COO totals 457 employees, and is composed of 22 managers, and 435 non-management personnel. DIRECTOR SUPPLY, CONTROL AND ENGINEERING - The Director of Gas Supply, Gas Control and Engineering is responsible for measurement, acquiring interstate gas transportation capacity, forecasting requirements, making gas purchases, system design (pipelines, storage reservoirs, and compressors), LNG and propane plants; and gas system control coordination. Supply, Control and Engineering totals 71 employees, composed of 4 management and 67 non-management personnel. DIRECTOR, OPERATIONS - The Director of Operations is responsible for all major distribution functions such as safety, environmental training, regional management, pipeline construction, and distribution system support services. Operations totals 346 employees, composed of 14 management and 322 non-management personnel. DIRECTOR, SUPPLY & OPERATIONAL SERVICES(SOS) - The Director of Supply and Operational Services is responsible for facilities maintenance, purchasing, transportation, contracts and material management. Supply and Operational Services total 40 employees, composed of 4 management and 36 non-management personnel. CHIEF FINANCIAL OFFICER (CFO) - The CFO reports directly to the CEO and is responsible for rates and regulatory relations, finance, treasury, information technology, and accounting functions. The CFO oversees the work of six managers (Rates & Regulatory Relations; Investor Relations; Treasury; Information Technology; Risk Management; and the Controller.) The organization managed by the CFO totals 84 employees, and is composed of 6 management and 78 non-management personnel. GENERAL COUNSEL - The General Counsel reports directly to the CEO and oversees the Legal Affairs and the Governmental Affairs Group. The General Counsel is responsible for federal, state and metro public affairs, environmental compliance, SEC compliance, litigation, regulatory, tariffs, labor and benefit legal matters, contracts and corporate governance. The organization managed by the General Counsel totals 10 employees, and is composed of 2 management and 8 non-management personnel. HUMAN RESOURCES VICE PRESIDENT - The Human Resources Vice President reports directly to the CEO and oversees company staffing, compensation, training, benefits, health services, employee services and security. The organization managed by the Human Resources Vice President totals 16 employees, and is composed of 5 management and I I non-management personnel. CUSTOMER SUPPORT VICE PRESIDENT - The Customer Support Vice President reports directly to the CEO and is responsible for the day-to-day interface with customers, customer accounts, meter reading, credit, billing and customer information service. The Vice President is also responsible for marketing, sales, market research, conservation programs, program development and evaluation. Two non-regulated positions also report to the Customer Support Vice President. Distribution Management Services provides engineering, operational and technical support to communities that want natural gas but are outside NSP's service territory. Advantage Service is a non-regulated appliance service business. Customer Support totals 240 employees and is composed of 4 management and 236 non-management personnel. C. ANNUAL COST INCREASES Based upon the foregoing general and specific assumptions, and the staffing requirements of the organizational structure, the following increased annual costs have been developed for Gas Company of Minnesota:
1. Chief Financial Officer $8,543,000 2. Customer Support $6,010,000 3. Chief Operating Officer $3,495,000 4. General Counsel $1,137,000 5. Chief Executive Officer, Audit Services $ 668,000 and Communication 6. Human Resources $ 422,000 7. Board of Directors Fees $ 108,000 ---------- Total: $20,383,000
D. CAPITALIZATION COST INCREASES Using the allowed cost of equity as discussed earlier, and recasting the cost of capitalizing the gas assets using NSP(M)'s existing capital structure as a proxy for Gas Company of Minnesota results in the following:
RATIO COST COMPOSITE COST ----- ---- -------------- Long/Short Term Debt 40.35% 7.58% 3.06% Preferred Stock 8.26% 5.57% 0.46% Common Equity 51.39% 11.47% 5.89% ------ ------ ----- Total: 100.00% 9.41%
The actual interest rates and preferred stock yields in effect at the time of divestiture could be substantially higher or lower than the forecasts employed here. Applying the Foregoing capital cost to Gas Company of Minnesota results in the following increased annual capital costs: 1. Capitalized Cost $915,000 E. TRANSITION COST INCREASES The following is a summary of the principal transition costs that will be incurred as a result of a spin-off of the gas business of NSPM and their annual costs: ANNUAL COST INCREASE ------------- 1. IPO and Debt Issuance Cost $145,000 F. FOREGONE MERGER SAVINGS The following is a summary of the foregone merger savings lost if the spin- off occurs: 1. Foregone Merger Savings $7,931,000 G. TOTAL LOST ECONOMIES Summarizing the foregoing increased annual costs, capital costs, foregone merger savings, and amortized transition costs which were developed in the Base Case Study yields the following total lost economies before the effect of income taxes: TOTAL LOST ECONOMIES: $29,374,000 H. INCOME TAXES Recovery of the foregoing lost economies in a general rate proceeding would also require an increase to recover income taxes associated with the lost economies. The following is a summary of the revenue effect of income taxes: TOTAL INCOME TAXES: $728,000 I. BASE CASE - 12 MONTHS ENDED DECEMBER 31, 1995 The following is a summary of the key components of the Base Case (the definition of each item is the same as in the Executive Summary): 1. Total Gas Operating Revenue $336,082,000 2. Total Gas Operating Revenue Deductions $300,024,000 3. Gross Gas Income $ 36,058,000 4. Net Gas Income $ 26,655,000 J. COMPARISON OF THE TOTAL LOST ECONOMIES OF GAS COMPANY OF MINNESOTA TO THE BASE CASE The Total Lost Economies, before the effect of income taxes as a percent of the key components of the Base Case are: 1. Percent of Total Gas Operating Revenue 8.74% 2. Percent of Total Gas Operating Revenue Deductions 9.79% 3 Percent of Gross Gas Income 81.46% 4. Percent of Net Gas Income 110.20% K. COMPARISON OF RATES OF RETURN ON RATE BASE The following is a comparison of the rates of return on rate base for the gas operations before and after an assumed spin-off: 1. Rate of Return - Base Case 8.86% 2. Pro Forma Rate of Return after Spin-off 3.07% 3. Required Rate of Return based on Gas Company 9.41% of Minnesota Cost of Capital VI. GAS COMPANY 0F WISCONSIN ANALYSIS As was the case with NSP(M) a detailed study has been undertaken to analyze the potential impact on both the shareholders and customers of NSP(W) if it were ordered to divest its gas business. In order to accomplish that study, the management of NSP(W) provided estimates of the staffing levels of a Gas Company of Wisconsin, as well as any other operational and administrative changes that would have to be made in order to maintain the same level and quality of service to its gas customers after a spin-off of the gas properties. A. SPECIFIC ASSUMPTIONS In addition to the General Study Assumptions cited earlier, the following specific assumptions have been incorporated into the analysis of the spin- off of the gas operations of NSP(W) into a Gas Company of Wisconsin. 1. Labor Assumptions: a. As was the case with Gas Company of Minnesota, the NSP(W) organization at December 31, 1995, was used as the template for developing the Gas Company of Wisconsin organization structure. b. Where practical, some management positions were combined, eliminated or replaced with non-management positions. Some further consolidation of management positions may be possible, particularly within the staff organizations. However, the overall span of control (the ratio of nonmanagement employees to management employees) for Gas Company of Wisconsin is less than the span of control in the NSP(W) organization. As of December 3 1, 1995, NSP(W) had 112 management and 838 nonmanagement employees, yielding a span of control of 7.5 employees per manager. Gas Company of Wisconsin has 24 management and 138 nonmanagement employees, resulting in a span of control of 5.8 (i.e., more managers per non management employee than the organization). This lower span of control is due to the following: 1) A duplicate executive organization due to the need of having a separate set of executives for the new organization; 2) Additional management employees required in the operations areas due to the elimination of electric resources that are currently providing both electric and as supervision, and, 3) Additional management personnel required in the staff organization due to the elimination of support for electric functions that were currently providing both electric and gas supervision. c. To provide an equivalent quality of customer service an analysis was made of the Customer Service Area to determine the number of employees required for Gas Company of Wisconsin. The staffing levels in the Gas Company of Wisconsin requires 40 employees, approximately 33% of the combined company customer service level. These functions are accomplished by a relatively small number of personnel and a spin-off of gas responsibilities would not affect the number of employees required to accomplish electric only functions. d. The Customer Service cost for Gas Company of Wisconsin was based on the current cost of providing customer service from the Gas Company of Minnesota Study (meter reading, customer service, billing and payment processing) for both electric and gas customers. This amount was multiplied by the number of current gas customers as of December 31, 1995, The staffing levels were based on an employee per customer ratio. This ratio was applied to the gas customers to determine the required staff size per Customer Service function. e. Executive salaries are based on national survey data. Since the size of the organization is smaller than Gas Company of Minnesota, the executive salaries are assumed to be less for Gas Company of Wisconsin. f. All non-executive salaries are based on current average compensation for the appropriate job level. g. After the base cost of labor was determined, an additional 30 percent was added to determine pension and benefit costs. This percent is based on NSP(W)'s approximate current percentage in order to keep benefits similar for Gas Company of Wisconsin. 2. Operation & Maintenance and Administrative and General Assumptions: a. In addition to the General Study Assumptions cited earlier, it is assumed that certain minor administrative functions now performed by employees of NSP(M) and billed to NSP(W) would be performed by Gas Company of Wisconsin. For example, audit services and investor relations functions are currently being performed by NSP(M), and if divestiture of NSP(W)'s gas operations were ordered, Gas Company of Wisconsin would perform those functions. b. Annual facility costs relating to the additional employees and building needs for trucks, trailers and backhoes required to operate the Gas Company of Wisconsin have been incorporated into the Study. c. Separate arrangements would be made for external auditing of the books and accounts of Gas Company of Wisconsin. d. In like manner, legal assistance, billing and record-keeping assistance would be required, and it is assumed that Gas Company of Wisconsin would be able to acquire these services for substantially the same fees as it is now incurring. e. Executive and administrative support from NSP(W) would cease upon any divestiture, and these functions have been provided for in the Gas Company of Wisconsin organizational structure. f. Separate gas bills would be provided the customers of Gas Company of Wisconsin. 3 Capital Expenditure and Cost Assumptions a. No additional capital expenditures will be made by Gas Company of Wisconsin as a direct consequence of spinning off the gas facilities from NSP(W). This, of course, does not include planned capital expenditures to be made in the normal course of business in order to maintain existing levels of service and provide service to new customers. b. In the event NSP(W) is required to divest its operations, and assuming the assets are spun-off into a new stand-alone corporation, the requirements of the existing indentures would result in the need to recapitalize at market rates in effect at the time of the spin-off. Additionally, costs associated with the issuance of securities would be incurred and ultimately included in the Gas Company of Wisconsin cost of service. The current capital structure of NSP(W) is used for the purpose of analyzing capital costs for Gas Company of Wisconsin. This structure is equal to the capital structure approved by the PSCW and NSP(W)'s Docket No. 4220-UR-107. As of December 23, 1993, NSP(W)'s gas rate base was capitalized as follows:
RATIO COST COMPOSITE COST ----- ---- -------------- Long/Short Term Debt 45.09% 7.41% 3.34% Common Equity 54.91% 11.40% 6.26% ------ ------ ----- Total: 100.00% 9.60%
This Study assumes that Gas Company of Wisconsin would have access to capital at a cost similar to that of NSP(W). The difference expected from the rates listed above would result from an increased equity ratio. The study assumes that gas utilities have an equity ratio about 3% higher than electric utilities. NSP(W)'s electric business encompasses about 90% of the combined rate base, the study assumes that the capital structure is really a function of the electric business and therefore a capital structure for an electric only NSP(W) would be the same as the current combined capital structure. The cost of debt was not changed because the marginal cost of debt for a double-A utility should be about the same as the embedded rate. The cost of common equity is 11.40 percent which was established by the PSCW on December 23, 1993, in NSP(W)'s Docket No. 4220-UR-107. Common equity would require the sale of new securities, as new stock certificates would be issued to future shareholders of Gas Company of Wisconsin. Gas Company of Wisconsin would capitalize through an initial public offering (IPO) of 20% of the equity value and spinning off 80% to existing NSP shareholders, and debt issuance in the above reference capital structure ratios at an aggregated cost of $838,000. Annual cost over 30 years would be $28,000. This cost would be charged as a transition cost to be recovered over 30 years. 4. Transition Cost Assumptions. Transition costs for Gas Company of Wisconsin have been previously discussed, and would be amortized over the appropriate life of the asset. 5. Foregone Merger Savings. The Primergy merger filing includes anticipated merger savings for the gas utilities. The Study assumed these savings would be lost as a result of divestiture. The levelized annual impact is $2.4 million. B. ORGANIZATION OF GAS COMPANY OF WISCONSIN The functional organization chart of Gas Company of Wisconsin is contained in Appendix C. DESIGN OF GAS COMPANY OF WISCONSIN ORGANIZATION - The NSP(W) organization at December 31, 1995, was used as the pattern for developing the Gas Company of Wisconsin organization structure. In order to develop the new structure for the stand-alone company, management was contacted for input regarding staffing levels. BOARD OF DIRECTORS -The Board of Directors is assumed to consist of six directors based on the size and scope of Gas Company of Wisconsin. CHIEF EXECUTIVE OFFICER(CEO) - The CEO reports to the Board of Directors and is responsible for overseeing the entire Company. The CEO oversees five direct-report executives (Chief Operating Officer; Chief Financial Officer; Customer Service Vice President; Human Resources Vice President; and General Counsel) and is responsible for Corporate Communications and Audit Services. The Executive Organization totals 13 employees, and is composed of 6 executives, 2 managers, 3 non-management, and 2 executive assistants. CHIEF OPERATING OFFICER (COO) -The COO reports directly to the CEO and is responsible for the overall operating activities of the Company. The COO oversees the work of two directors (Operations; Gas Supply, Gas Control, Engineering, and Supply and Operational Services). The organization managed by the COO totals 61 employees, and is composed of 9 managers, and 52 non-management personnel. DIRECTOR SUPPLY, CONTROL, ENGINEERING AND SOS - The Director of Gas Supply, Gas Control. Engineering, and SOS is responsible for measurement, acquiring interstate gas transportation capacity, forecasting gas requirements, making gas purchases, system design (pipelines, storage reservoirs, and compressors), gas system control coordination, facilities, warehousing, and purchasing. The organization totals 25 employees, composed of 2 management and 23 non-management personnel. DIRECTOR, OPERATIONS - The Director of Operations is responsible for all major distribution functions such as safety, environmental training, regional management, pipeline construction, and distribution system support services. Support totals 36 employees, composed of 7 management and 29 non-management personnel. CHIEF FINANCIAL OFFICER (CFO) - The CFO reports directly to the CEO and is responsible for regulatory relations, finance, treasury, information technology, and accounting functions. The CFO oversees the work of three managers (Treasury, Information Technology; and the Controller. The organization managed by the CFO totals 23 employees, and is composed of 3 management and 20 non-management personnel. GENERAL COUNSEL - The General Counsel reports directly to the CEO and oversees legal and the governmental affairs group. The General Counsel is responsible for federal, state and metro public affairs, environmental compliance, SEC compliance, litigation, regulatory affairs, labor and benefit legal matters, contracts and corporate governance. The organization managed by the General Counsel totals 2 employees, and is composed of 2 non-management personnel. HUMAN RESOURCES VICE PRESIDENT - The Human Resources Vice President reports directly to the CEO and oversees company staffing, compensation, training, benefits, health services, employee services and security. The organization managed by the Human Resources Vice President totals 3 employees, and is composed of 2 management and 1 non-management personnel. CUSTOMER SUPPORT VICE PRESIDENT - The Customer Support Vice President reports directly to the CEO and is responsible for the day-to-day interface with customers, customer accounts, meter reading, credit, billing and customer information service. The Vice President is also responsible for marketing, sales, market research, conservation programs, program development and evaluation. Customer Support totals 60 employees and is composed of 2 management and 58 non-management personnel. C. ANNUAL COST INCREASES Based upon the foregoing general and specific assumptions, and the staffing requirements of the organizational structure, the following increased annual costs have been developed for Gas Company of Wisconsin:
1. Chief Financial Officer $3,795,000 2. Customer Support $ 946,000 3. Chief Executive Officer, Audit Services $ 631,000 and Communication 4. Chief Operating Officer $ 539,000 5. General Counsel $ 333,000 6. Board of Directors' Fees $ 190,000 7. Human Resources $ 105,000 ---------- Total: $6,539,000
D. CAPITAL COST INCREASES Using the capital structure, allowed cost of equity and debt costs for Gas Company of Wisconsin discussed earlier, the resulting weighted composite cost of capital for the stand-alone gas company would be:
RATIO COST COMPOSITE COST ----- ---- -------------- Long/Short Term Debt 42.09% 7.39% 3.11% Common Equity 57.91% 11.40% 6.60% ------ ----- Total: 100.00% 9.71%
The actual interest rates in effect at the time of divestiture could be substantially higher or lower than the forecasts employed here. Applying the foregoing capital cost to Gas Company of Wisconsin results in the following increased capital costs: Capitalized Cost $171,000 E. TRANSITION COST INCREASES The following is a summary of the principal transition costs that will be incurred as a result of a spin-off of the gas business of NSP(W) and their annual costs: ANNUAL COST INCREASE ------------- IPO and Debt Issuance Costs $28,000 F. FOREGONE MERGER SAVINGS The following is a summary of the foregone merger savings lost if the spin- off occurs: Foregone Merger Savings $2,417,000 G. TOTAL LOST ECONOMIES Summarizing the foregoing increased annual costs, capital costs, and amortized transition costs as developed in the Base Case Study, yields the following total lost economies before the effect of income taxes: Total Lost Economies: $9,155,000 H. INCOME TAXES Recovery of the foregoing, lost economies in a general rate proceeding would also require an increase to recover income taxes associated with the lost economies. The following is a summary of the revenue effect of income taxes: Total Income Taxes: $134,000 I. BASE CASE - 12 MONTHS ENDED DECEMBER 31, 1995 The following is a summary of the key components of the Base Case (the definition of each item is the same as in the Executive Summary): 1. Total Gas Operating Revenue $78,015,000 2. Total Gas Operating Revenue Deductions $69,771,000 3. Gross Gas Income $ 8,244,000 4. Net Gas Income $ 5,543,000 J. COMPARISON OF THE LOST ECONOMIES OF GAS COMPANY OF WISCONSIN TO THE BASE CASE The Total Lost Economies, before the effect of income taxes as a percent of the key components of the Base Case are: 1. Percent of Total Gas Operating Revenue 11.73% 2. Percent of Total Gas Operating- Revenue Deductions 13.12% 3. Percent of Gross Gas Income 111.05% 4. Percent of Net Gas Income 165.16% K. COMPARISON OF RATES OF RETURN ON RATE BASE The following is a comparison of the rates of return on rate base for the gas operations before and after an assumed spin-off-. 1. Rate of Return - Base Case 9.85% 2. Pro Forma Rate of Return after Spin-off 0.12% 3. Required Rate of Return based on Gas Company 9.71% of Wisconsin Cost of Capital VII. OTHER CUSTOMER IMPACTS A. QUANTIFIABLE POSTAGE COSTS Customers who currently pay their monthly bill with one check and one stamp will be required to use two separate checks and two separate stamps in paying the remaining electric company and the two new gas companies. For the gas and electric customers of the existing NSP(M) and NSP(W) companies, the doubling of postage cost alone, not counting check and envelope costs, will result in a total annual out-of-pocket cost increase to customers of over $1.6 million. These annual postage costs are broken downs as follows: POSTAGE COSTS ------------- Gas Company of Minnesota Customers $1,356,000 Gas Company of Wisconsin Customers $ 275,000 ---------- Total: $1,631,000 B. NON-QUANTIFIABLE In addition to the quantifiable increased costs or lost economies which have been evaluated and included in the Study, there are other non- quantifiable costs which have not been included. The reason for not attempting to quantify these costs is that a meaningful estimate of these costs is beyond the scope of NSP's present analysis. However these costs do exist, and the following are a few examples of these non-quantifiable costs. - - The cost of additional regulation for both the MPUC, NDPSC, PSCW and MPSC. The staffs of these agencies would undoubtedly experience additional duties and responsibilities as a result of dealing with an additional utility. - - The cost to customers as a result of doing business with two utilities instead of one, including additional telephone calls for service questions or bill inquiries. - - The cost to customers of providing access to meters and other facilities for two utilities. - - The cost to customers, especially contractors and builders, of dealing with two utilities rather than one. VIII BELL COMPARISON OF GAS COMPANY OF MINNESOTA AND GAS COMPANY OF WISCONSIN TO OTHER UTILITIES For a comparison of average annual bills for various utilities with which NSP competes see Table VII-1 of Exhibit J.2 - Wisconsin Energy Corporation "Analysis of the Economic Impact of a Divestiture of Wisconsin Energy Corporation's Gas Operations." IX. EFFECT ON REMAINING ELECTRIC COMPANIES - A. NSP(M) As a result of any divestiture, the remaining Electric Company of Minnesota would experience increased costs in addition to those experienced by Gas Company of Minnesota. These increased costs, as outlined earlier, are largely the result of increased labor costs associated with the additional personnel required to replace those who are currently working in both gas and electric operations and additional postage costs incurred since electric billings would no longer share postage with the gas billings is $16.9 million. The total of these additional costs equates to approximately 0.8 percent of electric rate revenues. A summary of the increased annual costs applicable to Electric Company of Minnesota is as follows: 1. Customer Service $5,990,000 2. Chief Financial Officer $4,465,000 3. Human Resources $2,748,000 4. Chief Operating Officer $1,962,000 5. Chief Executive Officer, Audit $ 912,000 6, General Counsel $ 496,000 7. Board of Directors Fees $ 286,000 ---------- Total $16,859,000 B. NSP(W) Similarly, the remaining Electric Company of Wisconsin would experience additional costs due to labor and postage. The additional labor is due to replacing those personnel who currently work in both gas and electric operations and additional postage costs incurred since electric billings would no longer share postage with the gas billings. The total of these additional costs Is $4.3) million, which is approximately 1.4 percent of electric rate revenues. A summary of the increased annual costs applicable to Electric Company of Wisconsin is as follows: 1. Customer Service $1,576,000 2. Chief Operating Officer $ 976,000 3. Chief Financial Officer $ 887,000 4. Chief Executive Officer (Includes BOD Fees) $ 512,000 5. Human Resources $ 300,000 6. General Counsel $ 99,000 ---------- Total $4,350,000 APPENDIX A COMPARISON OF NSP(M) AND NSP(W) GAS TO REGIONAL GAS UTILITIES See Appendix A of Exhibit J.2 - Wisconsin Energy Corporation "Analysis of the Economic Impact of a Divestiture of Wisconsin Energy Corporation's Gas Operations." EX-99.J(2) 4 EXHIBIT 99.J(2) WISCONSIN ENERGY CORPORATION ANALYSIS OF THE ECONOMIC IMPACT OF A DIVESTITURE OF WISCONSIN ELECTRIC POWER COMPANY'S GAS OPERATIONS EXHIBIT J-2 This Study was undertaken by the management and staff of Wisconsin Electric Power Company. The objective of the Study is to quantify the economic impact on shareholders and customers of divesting Wisconsin Electric Power of its natural gas assets and business. April 2, 1996 TABLE OF CONTENTS - -------------------------------------------------------------------------------- I: Executive Summary 1 II: Conclusions 3 III: Spin-off Assumptions 5 IV: General Study Assumptions 6 V: NewGasCo-WE Analysis 8 VI: Other Customer Impacts 14 VII: Bill Comparison to Other Utilities 15 VIII: Effect on Remaining Electric Company 16 APPENDIX A: Comparison of WE and NSP Gas Operations to other Regional Gas Utilities APPENDIX B: Organization Chart for NewGasCo-WE - -------------------------------------------------------------------------------- I: EXECUTIVE SUMMARY Wisconsin Electric Power Company's (WE) management and staff have undertaken this "Analysis of the Economic Impact of a Divestiture of Wisconsin Electric Power Company's Gas Operations" (Study) in order to quantify the economic impact on its shareholders and its customers of spinning off its natural gas assets and businesses. WE is a public utility subsidiary of Wisconsin Energy Corporation, which is currently an exempt holding company under the Public Utility Holding Act of 1935 (PUHCA). WE provides electric and natural gas service in a major portion of the State of Wisconsin and the upper peninsula of Michigan. The Study quantifies the economic impacts of operating the gas entity as an independent, stand-alone company if the gas business and assets were disaggregated from WE's combined business: - - The WE gas business would be spun-off into a new organization called, for the purpose of this Study, NewGasCo-WE The Study evaluates the increased costs, or "lost economies," associated with divestiture of this business from two perspectives--shareholders and customers. The effect on shareholders is the direct result of the increased costs or lost economies resulting from a spin-off or divestiture, absent regulatory rate relief to recoup these lost economies. The effect on customers assumes recovery of these lost economies through rate increases, and is divided into two parts. The potential effects on customers have first been evaluated in terms of increased revenue requirements and rates, and second in terms of the impact of other non-quantifiable costs. The projected impacts on the shareholders of the lost economies resulting from the spin-off of WE's gas business into NewGasCo-WE assuming no rate adjustments to recover the lost economies and associated income taxes, are shown in Table I-1.
- -------------------------------------------------------------------------------- TABLE I-1 ANNUAL SHAREHOLDER IMPACT OF LOST ECONOMIES - -------------------------------------------------------------------------------- LOST ECONOMIES AS A PERCENT OF: NEWGASCO-WE - -------------------------------------------------------------------------------- Total Gas Operating Revenue 11.30% - -------------------------------------------------------------------------------- Total Gas Operating Revenue Deductions 13.26% - -------------------------------------------------------------------------------- Gross Gas Income 76.51% - -------------------------------------------------------------------------------- Net Gas Income 112.62% - --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- PAGE 1 In Table I-1, Total Gas Operating Revenue is the sum of rate and other revenues for the 12 months ending December 31, 1995 (Base Case).(1) Total Gas Operating Revenue Deductions includes all operation and maintenance expenses, administrative and general expenses, depreciation and all taxes, except income taxes. Gross Gas Income is the difference between Total Gas Operating Revenue and Total Gas Operating Revenue Deductions. Net Gas Income is Gross Gas Income minus income taxes. Alternatively, and assuming that NewGasCo-WE is allowed to recover these lost economies and attendant taxes through rate increases, the projected impact on WE's gas customers is shown in Table I-2.
- -------------------------------------------------------------------------------- TABLE I-2 ANNUAL GAS CUSTOMER IMPACT OF LOST ECONOMIES - -------------------------------------------------------------------------------- RATE REVENUE NEWGASCO-WE - -------------------------------------------------------------------------------- Pre-spin-off $318,261,433 - -------------------------------------------------------------------------------- Post-spin-off $354,687,826 - -------------------------------------------------------------------------------- Increase $36,426,393 - -------------------------------------------------------------------------------- Percent Increase 11.45% - --------------------------------------------------------------------------------
In addition to the foregoing impacts, Table I-3 sets forth the impact of a gas divestiture on WE's remaining electric business. This impact is primarily due to the expenses of additional employees required to perform the multitude of functions accomplished by employees who currently work for both the electric and gas businesses and assumes that pass through of the lost economies and attendant taxes is allowed by the appropriate regulatory agencies.
- -------------------------------------------------------------------------------- TABLE I-3 ANNUAL ELECTRIC CUSTOMER IMPACT OF LOST ECONOMIES - -------------------------------------------------------------------------------- RATE REVENUE REMAINING ELECTRIC - -------------------------------------------------------------------------------- Pre-spin-off $1,437,480,000 - -------------------------------------------------------------------------------- Post-spin-off $1,440,252,971 - -------------------------------------------------------------------------------- Increase $2,772,971 - -------------------------------------------------------------------------------- Percent Increase 0.19% - --------------------------------------------------------------------------------
- ---------------------- (1)The dollar amounts contained in this study are expressed in 1995 dollars. - -------------------------------------------------------------------------------- PAGE 2 II: CONCLUSIONS The spin-off of WE's current gas business into one stand-alone company is estimated to result in a substantial increase in costs and therefore a substantial decrease in earnings to WE shareholders, absent rate relief to recoup these decreased earnings. Without an increase in rates, the immediate negative effect on shareholders earnings would be substantial. For example, the earnings contribution relating to WE's gas business would be decreased by approximately 113%, as shown in Table I-1. Such a decline would make ownership of shares in this company unattractive. The pass through of these cost increases to customers in Wisconsin will result in a significant increase in the level of cost borne by these customers with no attendant increase in the level or quality of service. The rate increase required to provide the level of revenue needed to cover costs to operate NewGasCo-WE will be significant, amounting to approximately $36.4 million as show in Table I-2. Such a rate increase would make NewGasCo-WE less competitive at a time when competition in the energy industry is rapidly increasing due to Federal Energy Regulatory Commission (FERC) Order 636 and other FERC and state regulatory initiatives. WE, like all other gas companies, will continue to face significant competition. For example, the threat of by-pass and alternative fuels continues to apply downward pressure on gas rates. The focus on competition is beginning to require the unbundling of Local Distribution Company (LDC) services. This trend is occurring as state commissions, LDCs, and their customers, call for a change in the way LDCs do business. While the objectives of these groups are not always consistent, the result will likely be the same--increased competition. LDCs already face price competition, and must remain competitive to avoid shareholder losses and a reduced customer base. As a result of the increased costs discussed in this Study, both bundled and unbundled gas services will become less competitive in comparison to other alternatives. In addition, the FERC's ongoing electric Notice of Proposed Rulemaking Promoting Wholesale Competition Through Open Access Nondiscriminatory Transmission Services by Public Utilities (RM 95-8-000, et. al.) and state retail wheeling initiatives are expected to increase competition in the electric industry. The lost economies estimated for WE's remaining electric company, if divestiture of gas operations were required, would also have an adverse impact on their ability to successfully compete in the electric industry. A forced divestiture as a result of the proposed merged company would result in the remaining company becoming less competitive than it would be as part of a merged company. A comparison of typical residential and commercial gas bills in Wisconsin illustrating the loss of NewGasCo-WE's relative position resulting from a spin- off as compared to other utilities is contained in Section VII. - -------------------------------------------------------------------------------- PAGE 3 As opposed to the negative results of the economic impact, two positive conclusions were noted. - First, it is expected that after divestiture, NewGasCo-WE's gas business analyzed in this Study would continue to be managed locally as is currently the case. NewGasCo-WE would be managed from and based in Lake Geneva, WI and other local/regional parts of Wisconsin where management is currently based. Local/regional areas would be primarily southeastern Wisconsin with other facilities in the Appleton and Prairie du Chien areas. - Second, it is expected that after divestiture, the Public Service Commission of Wisconsin (PSCW) would continue to have and exercise the same jurisdictional authority over the regulated businesses as they do today. Therefore, the state commission will continue as the primary agency responsible for the regulation of the LDCs. However, it should be noted that these same conditions (continued local management and state regulatory jurisdiction) would exist if the gas business remains with the new merged entity. As previously discussed in the Executive Summary, there is a combination of approximately $36.4 million in revenue increases needed for NewGasCo-WE, shown in Table I-2 and an additional $2.8 million in revenue increases as a result of lost economies, including income taxes, that will impact the remaining Wisconsin Electric Power Company and potentially their customers shown in Table I-3. Therefore, the total revenue increases that would be required is approximately $39.2 million. Based on the foregoing conclusions, WE believes that spinning off the gas business would adversely impact WE's shareholders and both gas and electric customers. Therefore, WE recommends that it is in the best interests of its shareholders and customers that WE retain its existing gas assets and business. - -------------------------------------------------------------------------------- PAGE 4 III: SPIN-OFF ASSUMPTIONS The Study assumes that the gas segment of WE's current business can, in fact, be spun-off into one stand-alone company. This potential stand-alone business is currently part of the combined company as described below:(2) - Within Wisconsin, WE is primarily a combination electric and gas utility engaged in the generation, purchase, transmission, distribution, and sale of electricity, and in the purchase, transmission, distribution, sale, and transportation of natural gas. - WE's gas business includes an extensive pipeline system serving numerous communities throughout Wisconsin. WE's gas system services over 357,000 residential, commercial, industrial, and transportation customers. Total annual gas revenues are approximately $318 million. Annual gas deliveries are nearly 887 million therms. The Study assumes that the gas portion of WE is spun-off into a stand-alone gas company--NewGasCo-WE. - WE's electric business, which includes generation, transmission, and distribution facilities located statewide, provides service to approximately 956,000 customers throughout southeastern Wisconsin, areas surrounding Appleton, Wisconsin and in the upper peninsula of Michigan. Total annual electric revenues are approximately $1.4 billion and annual sales are nearly 27 million megawatt hours (MWh). The Study assumes that it would be possible to spin-off WE's gas business from the combined Wisconsin Electric Power Company gas and electric business for the following reasons: - The electric and gas systems are physically separate; - A large number of personnel who are directly involved in the day-to- day operations of the electric and gas physical plant ("systems") are dedicated electric-only or gas-only employees; - The regulatory treatment of the respective electric and gas revenue requirements and tariff filings is, for the most part, handled separately; - In other parts of the country, stand-alone electric and gas companies routinely share overlapping service territories; and, - WE's gas system can be operated independently. - ---------------------- (2)For a comparison of WE's gas operations relative to other utilities based on 1994 data, see Appendix A. - -------------------------------------------------------------------------------- PAGE 5 IV: GENERAL STUDY ASSUMPTIONS The assumptions, information, and data used in the analyses undertaken in this Study are based primarily on the energy industry expertise and experience possessed by the management and staff of WE. Employees with experience in all major facets of the operations of the company were consulted and provided input. The Study's aggregate conclusions are the result of many independent inputs and analyses from area experts throughout WE and external to the company. As a result of discussions with these area experts, the major cost components associated with a divestiture were identified, quantified and incorporated in the study results. A more detailed analysis would likely produce additional costs and lost economies associated with a divestiture of WE's gas operations. The remainder of this section discusses the major assumptions that were employed in developing the Study. A. For the purposes of developing the impacts of the spin-off, it is assumed that the spun-off organization will operate as an independent, stand-alone company. Therefore, it will have all of the necessary management and personnel, along with the computer systems, facilities, equipment, materials and supplies required to operate as a stand-alone company. B. For the purpose of determining staffing requirements, the guiding principle used was that a sufficient number of employees be included in order to assure that all present functions applicable to the stand- alone organization are performed, and that the present level and quality of service to customers remain unchanged. C. Staffing levels are based on an analysis of the requirements within each department within NewGasCo-WE. D. Average salaries were applied after accounting for the average percent of labor that is capitalized. E. O&M labor costs for each department within NewGasCo-WE were compared against the 1995 actual O&M labor cost allocated to the WE gas business to determine the incremental O&M labor costs. F. An overhead rate of 44.9% was applied to the incremental O&M labor costs to capture the additional costs of health benefits, pensions, and materials and supplies. G. Facility costs were analyzed separately to determine the incremental office and other space costs associated with the additional employees required. H. - -------------------------------------------------------------------------------- PAGE 6 All services that are currently provided by organizations outside of WE (i.e., outsourced) will continue to be provided by those organizations at a cost, based on the scope of services required by NewGasCo-WE. I. Transaction costs to cover the expenses associated with the spin-off (e.g., financial advisory fees, legal fees, etc.) were included and amortized over a thirty-year period even though we believe such period is much too long. Other one-time transition costs (e.g. hiring, training, etc.) were amortized over a four- year period. J. The merger benefits that would have accrued to the WE gas customers over a ten-year period were present valued and levelized to determine the annual impact. K. For the purpose of showing the final impact on customers, it is assumed that full pass-through of all of the lost economies, including the Wisconsin gross receipts tax of 0.97%, will be allowed. L. It is assumed that each organization will be subject to the regulation of the same state and federal agencies that presently regulate each organization. - -------------------------------------------------------------------------------- PAGE 7 V: NEWGASCO-WE ANALYSIS A detailed study has been undertaken to analyze the potential impact on both the shareholders and customers of WE if it were ordered to divest its Wisconsin gas business. In order to accomplish that study, the management of WE provided estimates of the staffing levels of a NewGasCo-WE, as well as any other operational and administrative changes that would have to be made in order to maintain the same level and quality of service to its gas customers after a spin-off of the gas business. SPECIFIC ASSUMPTIONS In addition to the General Study Assumptions cited earlier, the following specific assumptions have been incorporated into the analysis of the spin-off of the gas operations of WE into a NewGasCo-WE. 1. Labor Assumptions a) The WE organization as of December 31, 1995 was used as the template for developing the NewGasCo-WE organization structure. b) O&M labor costs were calculated by applying an average salary and then determining the amount of labor that is expensed versus capitalized. This amount was compared with 1995 actual labor costs to determine the incremental O&M labor cost. c) An overhead burden of 44.9% was applied to each incremental O&M dollar to capture the cost of pensions, benefits, materials and supplies, etc. d) Executive salaries were based on American Gas Association (A.G.A.) and Edison Electric Institute (EEI) compensation studies. e) Non-executive salaries are based on current WE average compensation by functional area. Incentive compensation for management and executive employees has not been included when determining the NewGasCo-WE labor costs. Note, however, that it is estimated that a plan similar to the present WE plan would result in the following additional annual costs:
--------------------------------------------------------------- Management Percent of Base Salary --------------------------------------------------------------- Executive Incentive Plan (STPP) 10.0% --------------------------------------------------------------- Management Incentive Plan (VIPP) 7.5% ---------------------------------------------------------------
- -------------------------------------------------------------------------------- PAGE 8 2. Operations & Maintenance (O&M) and Administrative and General Assumptions (A&G) a) The additional cost of office space required for NewGasCo-WE was determined on a case-by-base basis. Additional space was determined to be needed at the Appleton, Watertown, and Fort Atkinson service centers. In addition, space will be required for a new call center. All space was assumed to be leased. b) All information systems that are required for NewGasCo-WE to provide the same level of service were identified. The cost of providing these systems and the hardware to operate the systems was estimated. 3. Spin-off Transition Assumptions a) In the event that WE would be required to divest its gas operations and assuming the assets were spun-off into a new stand-alone corporation, new debt would be obtained to finance long-term debt related to the gas business. Additionally, costs associated with the issuance of securities would be incurred and ultimately included in the NewGasCo-WE cost of service. b) The costs associated with the divestiture transaction were also determined. These include legal and financial advisory fees. These expenses were amortized over 30 years. Other one-time transition costs (e.g. hiring, training, etc.) were amortized over a four-year period. While we have used the 30 year period for amortization of these costs for purposes of this study, we believe such a period is unrealistically long and should divestiture be required we would seek to amortize such costs over a significantly shorter period. ORGANIZATION OF NEWGASCO-WE The functional organization chart of NewGasCo-WE is contained in Appendix B. DESIGN OF NEWGASCO-WE ORGANIZATION--The organization at December 31, 1995 was used as the pattern for developing NewGasCo-WE's organizational structure. In order to develop the new structure for the stand-alone company, management representing each organization provided input regarding functions/activities performed and resource requirements needed to provide the same level of service. BOARD OF DIRECTORS--The Board of Directors is assumed to consist of 12 directors based on the size and scope of NewGasCo-WE. EXECUTIVE OFFICER--The CEO reports to the Board of Directors and is responsible for overseeing the entire Company. The CEO oversees six direct-report executives; the Chief Financial Officer; Vice President, Customer Operations; Vice President, Customer Service; Vice President, Corporate Support; General Counsel; and the General Auditor. The Executive organization, including the legal and auditing departments, is comprised of 25 employees. - -------------------------------------------------------------------------------- PAGE 9 GENERAL COUNSEL--The General Counsel reports directly to the CEO and is responsible for governmental affairs, legal services, and liability risk management. The organization managed by the General Counsel is comprised of 8 employees. GENERAL AUDITOR--The General Auditor reports directly to the CEO and is responsible for ensuring the company meets procedural, operational and regulatory requirements. The Audit area is comprised of 5 employees. VICE PRESIDENT, CUSTOMER OPERATIONS--The Vice President (VP) of Customer Operations reports directly to the CEO and is responsible for the management of the gas supply and forecasting, acquisition, dispatching and delivery of services to customers, including new service installations, pipeline construction and maintenance, field service to customers and asset/inventory management. The VP of Customer Operations oversees two executives, Director of Operations and Director of Gas Supply. The organization managed by the VP of Customer Operations is comprised of 430 employees. VICE PRESIDENT, CUSTOMER SERVICE--The Vice President (VP) of Customer Service is responsible for day to day interface with customers. Specifically, this includes activities relating to the development of new business and servicing customer accounts. Included are the functions of residential and wholesale marketing, sales to large commercial and industrial customers, market research, new product development, market/economic development, customer service, meter reading, and customer accounting. The Customer Services area is comprised of 196 employees. VICE PRESIDENT, CORPORATE SUPPORT--The Vice President (VP) of Corporate Support is responsible for services needed by the business areas including Human Resources, Information Resources, Facilities Management, Environmental, and Corporate Communications. The Corporate Support area is comprised of 91 employees. CHIEF FINANCIAL OFFICER (CFO)--The CFO reports directly to the CEO and is responsible for six key areas; Planning, Treasury, Controller, Regulatory Relations, Investor Relations, and Risk Management. The organization managed by the CFO is comprised of 46 employees. OTHER CONSIDERATIONS: The Information Resources group is responsible for acquiring/developing, managing and maintaining all PC and mainframe-based systems for NewGasCo-WE. As is currently the case, mainframe related resources (equipment and staff to run NewGasCo-WE's applications) will continue to be outsourced to a third party provider. As a result, NewGasCo-WE will not have to purchase any mainframe computing capabilities. The costs associated with the outsourcing contract is anticipated to increase by approximately 5% due to the loss of economies of scale. - -------------------------------------------------------------------------------- PAGE 10 Although not included in this analysis, if WE's gas business were divested, both NewGasCo-WE and the remaining WE electric business would have to independently pursue the development of a number of critical information systems that currently need to be replaced. These systems are outdated and no longer provide the needed functionality to operate in an increasingly competitive environment. For example, WE is currently in various stages of replacing its Customer Information System, Field Operation System and Financial/Administration Systems. ANNUAL COST INCREASES Based upon the foregoing general and specific assumptions, and the staffing requirements of the organizational structure, the following incremental annualized costs have been identified for NewGasCo-WE:
INCREMENTAL ANNUALIZED COST LABOR AND OVERHEAD EXPENSES INCREASE - Executive Office $1,276,158 - Customer Operations $725,948 - Customer Service $2,718,891 - Corporate Support $6,071,067 - Chief Financial Officer $1,731,966 ---------- TOTAL LABOR EXPENSE $12,524,031 NON-LABOR O&M EXPENSES $4,733,614 ---------- TOTAL $17,257,645 ----------- -----------
FOREGONE MERGER BENEFITS As a result of the merger of Wisconsin Energy and Northern States Power, significant savings are expected to accrue to both the electric and gas operations of WE. If the gas business was divested, the gas customers of NewGasCo-WE would not have the opportunity to benefit from their share of these savings. The annualized, levelized present value of these savings is estimated to be $17,678,000. CAPITAL COST INCREASES Issuance of new debt securities by NewGasCo-WE would be required at the time of divestiture because, under the Wisconsin Electric Power Company First Mortgage and Deed of Trust, dated October 28, 1938, the gas property of the former Wisconsin Natural Gas Company became subject to the lien of the WE Mortgage upon the merger of Wisconsin Natural Gas Company into WE. As a result, NewGasCo-WE will require financing of $67,000,000 of long-term debt. This new debt would be expected to be issued at then prevailing market rates, which are assumed to be at 7.72%. The current embedded cost rate - -------------------------------------------------------------------------------- PAGE 11 for long-term debt is 7.17%. This increase in debt cost would result in an annual cost increase of $380,000. TRANSITION COST INCREASES The following is a summary of the principal transition and divestiture costs that would be incurred as the result of a spin-off of WE's gas business to form NewGasCo-WE:
- -------------------------------------------------------------------------------- TOTAL COSTS ANNUALIZED COSTS - -------------------------------------------------------------------------------- Initial Public Offering and Related Fees(1) $4,539,360 $151,312 - -------------------------------------------------------------------------------- Employee Related Transition Costs(2) (hiring, training and pension/benefits plans) $2,595,200 $648,800 - -------------------------------------------------------------------------------- Information Systems Transition(2) $957,000 $239,250 - -------------------------------------------------------------------------------- TOTAL $8,091,560 $1,039,362 - --------------------------------------------------------------------------------
1) 30 YEAR AMORTIZATION 2) 4 YEAR AMORTIZATION TOTAL LOST ECONOMIES Summarizing the foregoing increased annual costs, capital costs, and amortized transition costs which were developed in the Base Case Study yields the following total lost economies before the effect of income taxes: Total Lost Economies: $35,975,007 INCOME TAXES Recovery of the foregoing lost economies in a general rate proceeding would also require an increase to recover income taxes associated with the lost economies. The following is a summary of the revenue effect of income taxes: Total Income Taxes: $101,444 - -------------------------------------------------------------------------------- PAGE 12 GROSS RECEIPTS TAX The State of Wisconsin levies a gross receipts tax of 0.97% on gross revenues. Recovery of lost economies would result in additional gross receipts tax charged to customers. The effect of this would be to increase revenue requirements by: Total Gross Receipts Tax: $349,942 BASE CASE--12 MONTHS ENDED DECEMBER 31, 1995 The following is a summary of the key components of the Base Case (the definition of each item is the same as in the Executive Summary): Total Gas Operating Revenue $318,261,433 Total Gas Operating Revenue Deductions $271,238,964 Gross Gas Income $47,022,469 Net Gas Income $31,944,293 COMPARISON OF THE TOTAL LOST ECONOMIES OF NEWGASCO-WE TO THE BASE CASE The Total Lost Economies, before the effect of income and gross receipts taxes as a percent of the key components of the Base Case are: Percent of Total Gas Operating Revenue 11.30% Percent of Total Gas Operating Revenue Deductions 13.26% Percent of Gross Gas Income 76.51% Percent of Net Gas Income 112.62% COMPARISON OF RATES OF RETURN ON RATE BASE The following is a comparison of the rates of return on rate base for the gas operations before and after an assumed spin-off: 1995 Actual Rate of Return 12.68% Pro Forma Rate of Return after Spin-off 4.11% Currently Authorized Rate of Return based on 10.29% WE Cost of Capital - -------------------------------------------------------------------------------- PAGE 13 VI: OTHER CUSTOMER IMPACTS NON-QUANTIFIABLE In addition to the quantifiable increased costs or lost economies which have been evaluated and included in the Study, there are other non-quantifiable costs which have not been included. The reason for not attempting to quantify these costs is that a meaningful estimate of these costs is beyond the scope of WE's present analysis. However, these costs do exist, and the following are a few examples of these non-quantifiable costs: - The cost of additional regulation for the PSCW. The staff of this agency would undoubtedly experience additional duties and responsibilities as a result of dealing with an additional utility. - The cost to customers as a result of doing business with two utilities instead of one, including additional telephone calls for service questions or bill inquiries. - The cost to customers of providing access to meters and other facilities for two utilities. - The cost to customers, especially contractors and builders, of dealing with two separate utilities rather than one. - -------------------------------------------------------------------------------- PAGE 14 VII: BILL COMPARISON TO OTHER UTILITIES The following is a comparison of average annual bills for various regional utilities. The average bills are based on the total annual revenues per customer class divided by the average number of customers.
- -------------------------------------------------------------------------------- TABLE VII-1 BILL COMPARISON TO OTHER UTILITIES 1994 DATA UTILITIES ARE RANKED IN ASCENDING ORDER OF TOTAL ANNUAL RESIDENTIAL CHARGE - -------------------------------------------------------------------------------- TOTAL AVERAGE ANNUAL CHARGE - -------------------------------------------------------------------------------- NAME OF UTILITY STATE RESIDENTIAL COMMERCIAL - -------------------------------------------------------------------------------- Mid-American Energy* IA $519.73 $2,827.23 - -------------------------------------------------------------------------------- Northwestern Public Service Co. SD $528.35 $1,746.74 - -------------------------------------------------------------------------------- Wisconsin Electric Power - -------------------------------------------------------------------------------- Company (Wisconsin Natural Gas) WI $563.45 $3,178.41 - -------------------------------------------------------------------------------- Montana-Dakota Utilities Co. ND $568.84 $3,373.01 - -------------------------------------------------------------------------------- Interstate Power Co. IA $588.74 $3,461.32 - -------------------------------------------------------------------------------- Central Illinois Public Service Co. IL $593.38 $2,569.27 - -------------------------------------------------------------------------------- Wisconsin Public Service Company WI $593.40 $3,704.21 - -------------------------------------------------------------------------------- Minnegasco MN $611.36 $3,069.80 - -------------------------------------------------------------------------------- Northern States Power-WI WI $612.79 $2,610.03 - -------------------------------------------------------------------------------- Northern States Power-MN MN $613.23 $3,334.10 - -------------------------------------------------------------------------------- Wisconsin Fuel and Light Co. WI $617.96 $5,137.16 - -------------------------------------------------------------------------------- NewGasCo-WE WI $627.97 $3,542.34 - -------------------------------------------------------------------------------- Gas Company of Minnesota MN $668.17 $3,632.83 - -------------------------------------------------------------------------------- Wisconsin Gas Company WI $684.85 $2,629.48 - -------------------------------------------------------------------------------- Gas Company of Wisconsin WI $685.78 $2,920.89 - --------------------------------------------------------------------------------
Source: Resource Data International *Sum of Iowa-Illinois Gas & Electric Company and IES Industries, Inc. - -------------------------------------------------------------------------------- PAGE 15 VIII: EFFECT ON REMAINING ELECTRIC COMPANY WISCONSIN ELECTRIC POWER COMPANY As a result of any divestiture, the remaining NewElectricCo-WE would experience increased costs in addition to those experienced by NewGasCo-WE. These increased costs, as outlined earlier, are largely the result of increased labor costs associated with the additional personnel required to replace those who are currently working in both gas and electric operations. The total of these additional costs is $2.8 million, which is approximately 0.19% of electric rate revenues. - -------------------------------------------------------------------------------- PAGE 16 APPENDIX A COMPARISON OF WE AND NSP TO REGIONAL GAS UTILITIES 1994 DATA
- --------------------------------------------------------------------------------------------------------------------------------- 1994 OPERATING OPERATING OPERATING NET PLANT NAME OF UTILITY NUMBER OF GAS SALES REVENUES REVENUES INCOME AT12/31/94 (ALPHABETICAL ORDER) CUSTOMERS (MMCF) ($000) ($/MCF) ($000) ($000) - --------------------------------------------------------------------------------------------------------------------------------- Central Illinois Public Service Co. 165,500 23,559 $138,418 $5.88 $8,052 $131,582 - --------------------------------------------------------------------------------------------------------------------------------- Interstate Power Co. 48,095 1,014 $53,709 $5.36 $575 $38,534 - --------------------------------------------------------------------------------------------------------------------------------- Mid-American Energy* 244,110 40,236 $199,129 $4.95 $9,353 $138,526 - --------------------------------------------------------------------------------------------------------------------------------- Minnegasco 603,654 128,982 $573,901 $4.45 $32,784 $358,859 - --------------------------------------------------------------------------------------------------------------------------------- Montana-Dakota Utilities Co. 192,150 30,113 $155,319 $5.16 $3,948 $83,434 - --------------------------------------------------------------------------------------------------------------------------------- Northern States Power-MN 340,000 83,000 $331,000 $3.99 $20.483 $293,641 - --------------------------------------------------------------------------------------------------------------------------------- Northern States Power-WI 68,210 17,000 $77,000 $4.53 $4,820 $52,783 - --------------------------------------------------------------------------------------------------------------------------------- Northwestern Public Service Co. 74,982 13,770 $62,141 $4.51 $1,931 $39,090 - --------------------------------------------------------------------------------------------------------------------------------- Wisconsin Electric Power 347,080 57,058 $324,349 $5.68 $22,715 $248,031 - --------------------------------------------------------------------------------------------------------------------------------- Company (Wisconsin Natural Gas) 45,891 10,177 $47,598 $4.68 $2,465 $24,631 Wisconsin Fuel and Light Co. - --------------------------------------------------------------------------------------------------------------------------------- Wisconsin Gas Company 495,129 107,728 $556,587 $5.17 $44,364 $182,995 - --------------------------------------------------------------------------------------------------------------------------------- Wisconsin Public Service Company 196,549 34,710 $182,058 $5.25 $8,018 $106,017 - ---------------------------------------------------------------------------------------------------------------------------------
SOURCE: Pipeline & Gas Journal, SEPTEMBER 1995 *Sum of Iowa-Illinois Gas & Electric Company and IES Industries, Inc. Appendix B NewGasCo - WE
CEO --- General Audit Counsel ------- ----- Customer Customer CFO Corporate Operations Service Support ---------- -------- --- --------- Operations Gas Marketing/ Meter Customer Tres. Cont. Reg. Risk Inv. Plan. Fac. HR IR Env. Comm. Supply Sales Reading Service Ref. Mgt. Rel. Mgt. - ---------- ------ ---------- ------- -------- ---- ---- ---- ---- ---- ----- ---- -- -- ---- -----
EXHIBIT J-1 APPENDIX B The following is a description of the organizational chart contained in Annex B. The Board of Directors of Gas Company of Minnesota has three functional areas which report directly to it, including the offices of Corporate Communications, Chief Executive Officer and Audit Services. Five executives report directly to the Chief Executive Officer, including the Chief Operating Officer, Chief Financial Officer, General Counsel, Vice President of Customer Support and the Vice President of Human Resources. Five managers report directly to the Vice President of Human Resources, including the managers for Security, Employee and Labor Relations, Health and Safety, Compensation & Benefits, and Staffing & Diversity. Four managers report directly to the Vice President of Customer Support, including the managers of Gas Sales & Marketing, Customer Service, Distribution Management Service and Advantage Service. Two managers report directly to the General Counsel, including the manager of Government Affairs and the manager of Legal Affairs. Six managers report directly to the Chief Financial Officer, including managers of Rates & Regulatory Relations, Investor Relations, Information Technology, Controller, Treasury and Risk Management. Three directors report directly to the Chief Operating Officer, including the directors of Operations; Gas, Gas Control, Engineering and Supply and Operational Services. Three managers report to the director of Supply and Operational Services, including the manager of Facilities Services, the manager of Material Services and the manager of Procurement & Fleet Services. Three managers report directly to the director of Supply, Control and Engineering, including the manager of Gas Supply & Regulatory Affairs, the manager of Gas Control & Plants and the manager of Gas Engineering. Thirteen managers report to the director of Operations, including the managers of Wyoming, White Bear, St.. Paul, Newport, Northwest, Southeast, Lakes Area, Safety & Training, Operations Development, Operations Support, Cont/Locators, Disp/Trouble and North Dakota. EXHIBIT J-1 APPENDIX C The following is a description of the organizational chart contained in Annex C. The Board of Directors of Gas Company of Wisconsin has three functional areas that directly report to it, including the offices of Corporate Communications, Chief Executive Officer and Audit Services. Five executives report to the Chief Executive Officer, including the Chief Operating Officer, the Chief Financial Officer, the General Counsel, the Vice President of Customer Support and the Vice President of Human Resources. Two managers report directly to the Vice President of Human Resources, including the manager of Employee Relations, Health & Safety and the manager of Compensation, Benefits and Staffing. Two managers report directly to the Vice President of Customer Support, including the manager of Gas Sales & Marketing, and the Manager of Customer Service. The General Counsel oversees the activities of the Government Affairs and Legal department. Three managers report directly to the Chief Financial Officer, including the Controller, the manager of Information Technology and the manager of Treasury, Investor Relations and Risk Management. The Chief Operating Officer oversees the work of two directors: the director of Operations and the director of Supply, Control, Engineering and Supply and Operational Services. Five managers report directly to the director of Operations, including the managers of Northern, Central, Southern, Metro and Operational Support. Two managers report directly to the director of Supply, Control, Engineering and Supply and Operational Services, including the manager of Gas Supply, Control, Engineering and Supply and Operational Services and the manager of Supply and Operational Services. EX-99.J(4) 5 EXHIBIT 99.J(4) EXHIBIT J-4 LEGAL MEMORANDUM ON THE RETENTION OF GAS DIVISION BY PRIMERGY CORPORATION EXHIBIT J-4 LEGAL MEMORANDUM ON THE RETENTION OF GAS DIVISION BY PRIMERGY CORPORATION INTRODUCTION The combination of Northern States Power Company ("NSP") and Wisconsin Energy Corporation ("WEC"), both of which currently are exempt holding companies under the Act, in a merger transaction (the "Transaction") will result in NSP and WEC becoming wholly owned subsidiaries of Primergy Corporation ("Primergy"), a holding company which will be registered under the Public Utility Holding Company Act of 1935 (the "Act"). Primergy has filed an Application/Declaration on Form U-1 ("U-1" or the "Application") seeking the approval of the Securities and Exchange Commission (the "Commission") under the Act for the Transaction and related matters. In addition, the Application seeks the Commission's authorization for NSP and WEC to retain their gas utility systems following the consummation of the Transaction. This memorandum supplements the Application with respect to legal issues related to Primergy's request for authority to retain these gas systems following its registration as a holding company under the Act. SUMMARY Both the legislative history of the Act as well as the Commission's early interpretation of the Act indicate that the purpose of the Act was to facilitate the process by which state utility regulatory commissions determine whether or not registered combination gas and electric holding company systems are permissible, and not to impose a federal ban on such systems. As the Commission noted in a number of early decisions, the Act was intended to provide for a flexible regulatory scheme that would be capable of adapting to changes in the utility industry as the industry evolved. That evolution has consistently progressed and the industry is in the process of its most radical change (from regulation to competition) since that which occurred as a result of the adoption of the Act. It is clear that the industry is currently evolving in a direction that requires utility company systems to offer their customers a range of energy options in order to remain competitive. Thus, the Commission should analyze the retention of NSP's and WEC's gas systems by focusing on those sections of the Act (Sections 8 and 21) that give primacy to state utility commission decisions with regard to combination registered holding companies and should "watchfully defer" to such local decision-makers who are in the optimum position to regulate the combination utility. Under such analysis, Primergy must be allowed to retain the gas systems of NSP and WEC as long as the Minnesota Public Utilities Commission (the "MPUC"), the Public Service Commission -2- of Wisconsin (the "PSCW"), the North Dakota Public Service Commission ("NDPSC") and the Michigan Public Service Commission ("MPSC"), who have, and will continue to have, direct jurisdiction over Primergy's gas operations in their respective states, permit the continued existence of a combination system. SEE U-1 at Item 3.A.2.(b).(i). Even if the Commission chooses not to focus on state commission determinations, Section 11 of the Act contains additional provisions that permit the retention of NSP's and WEC's gas systems -- namely, the case-specific A-B-C clauses (the "A-B-C Clauses") of Section 11(b)(1) under which the Commission in the past has permitted retention of an additional gas or electric utility system in addition to the larger electric utility system within a particular registered holding company system. Again, the standards set forth in this section should be read in light of the current changes in the utility industry and Primergy without a doubt meets these standards with regard to the retention of the gas operations discussed herein and in the U-1 at Item 3.A.2.(b)(ii). DISCUSSION I. SECTION 8 1. GENERAL Section 8 of the Act states: Whenever a state law prohibits, or requires approval or authorization of, the ownership or operation by a single company of the utility assets of an electric utility company and a gas utility company serving substantially the same territory, it shall be unlawful for a registered holding company, or any subsidiary thereof . . . (1) to take any step, without the express approval of the State commission of such State, which results in its having a direct or indirect interest in an electric utility company and a gas utility company serving substantially the same territory; or (2) if it already has any such interest, to acquire, without the express approval of the State commission, any direct or indirect interest in an electric utility company or gas utility company serving substantially the same territory as that served by such companies in which it already has an interest. On its face, this section indicates that, with approval of the relevant state utility commissions, a registered holding company can include a combination of electric and gas utility systems. A careful reading of the section indicates that the thrust of the section is to preclude the use of the registered holding company form to circumvent any state law restrictions on the -3- ownership of gas and electric assets by the same company. NSP and WEC believe that a re-emphasis by the Commission on Section 8, which would allow registered combination companies if, as is the case here, they are permitted by the affected states, is consistent both with the Act and its policy objectives. Indeed, over time the Commission has emphasized different aspects of Section 8 and its interplay with Section 11 -- initially allowing registered holding companies to own both gas and electric systems under Section 8, then focusing on Section 11 as controlling determinations regarding combination companies and requiring the second system to meet a strict interpretation of the A-B-C Clauses of Section 11(b)(1). 2. EARLY CASES In its early decisions, the Commission adhered to the concept that the decision as to whether or not to allow combination companies was one that the states should make (although the Commission might have to implement it in certain cases) and, where such systems were permissible, the role of the Commission was to ensure that both such systems were integrated as defined in the Act. The Commission's most notable decision in this line is AMERICAN WATER WORKS AND ELECTRIC CO., HCAR No. 949, 2 S.E.C. 972 (Dec. 30, 1937). In that case, the Commission approved the applicant's voluntary reorganization plan under Section 11(e) of the Act and permitted the newly reorganized registered holding company to retain both its electric and its gas operations. While specifically noting that the Act does not contain a definition of single integrated utility in the context of a combination company, the Commission stated that: We believe, however, that it is proper to regard such a combined property as a single integrated system, provided that all of the electric properties are integrated and all of the properties, both gas and electric, are in fairly close geographic proximity and are so related that substantial economies may be effectuated by their coordination under common control. The question of public policy as to the common ownership of gas and electric facilities in the same territory is apparently left by the statute to the decision of the states. ID. at 983 & n.3. Thus, since the combination company did not violate state policy, there was no need for the Commission to exercise jurisdiction to implement state policy by requiring divestiture of gas and electric operations. In that case the Commission's concern under the Act was that each system was an integrated system and otherwise met the standards of Section 11 of the Act. -4- 3. OTHER CASES By the 1940s the Commission, faced with further perceived abuses, de-emphasized its role as the implementer of state policy on combination companies and focused on a narrow interpretation of the standards of Section 11 as the basis for a policy, adopted and implemented in simplification proceedings, that the Commission should not allow registered holding companies to own both gas and electric companies unless the smaller system qualified for retention under the A-B-C Clauses. The Commission revisited and reinterpreted its AMERICAN WATER WORKS decision by noting that the case would have reached the same result under the A-B-C Clauses.(1) Thus, most Section 11 proceedings involving the question of combination companies from that time forward discussed retention of the gas system solely in the context of whether or not it was a permissible "additional system" meeting the requirements of the A-B-C Clauses.(2) In connection with this analysis, the Commission noted a policy concern existing at that time that favored separating the management of gas utility operations from the management of electric utility operations. This policy originated in the belief that gas utilities benefited from having a separate management focusing their entire efforts on the gas business, as opposed to being part of a combination company where management might focus on electric utility operations at the expense of the gas utility operations.(3) In other words, there was a perception of competition in internal management between gas and electric operations that could be detrimental to the gas operations and, in turn, to consumers. The Supreme Court addressed the interplay between Sections 8 and 11 of the Act in its decision S.E.C. v. NEW ENGLAND ELECTRIC SYSTEM ("NEES I"), 384 U.S. 176 (1966). In NEES I, the Court noted: To some extent, local policy was expected to govern, with Section 8 serving to prevent circumvention of that policy . . . . At the same time, Section 11 was expected to assist in imposing restrictions with regard to the combination of - ------------------ (1) SEE, E.G., COLUMBIA GAS & ELECTRIC CORP., HCAR No. 2477, 8 S.E.C. 443, 463 (Jan. 10, 1941); UNITED GAS IMPROVEMENT CO., HCAR No. 2692, 9 S.E.C. 52 (Apr. 24, 1941). (2) SEE, E.G., NORTH AMERICAN CO., HCAR No. 3446, 11 S.E.C. 194, 216 (Apr. 14, 1942); ENGINEERS PUBLIC SERVICE CO., HCAR No. 3796, 12 S.E.C. 41, 56 (Sept. 16, 1942); UNITIL CORP., HCAR NO. 25524, 51, S.E.C. Docket 562 (Apr. 24, 1992). (3) SEE PHILADELPHIA CO., HCAR No. 8242, 28 S.E.C. 35, 48 (June 1, 1948); NORTH AMERICAN CO., HCAR No. 10320, 32 S.E.C. 169, 179-80 (Dec. 28, 1950); ILLINOIS POWER CO., HCAR No. 16574, 44 S.E.C. 140 (Jan. 2, 1970). -5- gas and electricity in one system. Discussing the interplay between Section 8 and Section 11, the Senate Committee noted that Section 8 only applied to future acquisitions [and] "the policy upon which this section was based was essential in the formulation of any Federal legislation on utility holding companies, it did not think that the section should make it unlawful to retain (up to the time that Section 11 may require divestment) interests in businesses in which the companies were lawfully engaged on the date of enactment of the title." ID. at 183 n.14.(4) The Commission's policy with regard to exempt combination holding companies, however, gave, and continues to give, primacy to state determinations. In prior cases, the Commission has considered whether or not it could approve transactions and grant exemptions to combination holding companies under the Act as being in the public interest in light of the dictates of Section 11(b)(1) and its single integrated utility requirement. In a 1954 decision granting an exemption from the Act to NSP, the Commission considered whether or not the holding company was eligible for the exemption because it conducted both gas and electric utility operations and such operations could be considered detrimental to the public interest as violative of Section 11(b)(1). In this case the Commission first decided that "the mere existence of the combined electric and gas operations does not of itself require the denial of an exemption." NORTHERN STATES POWER CO., HCAR No. 12655, 36 S.E.C. 1, 8 (Sept. 16, 1954). The final decision on whether or not the combined system was in the public interest was based on the concept that: competition in the field of distribution of gas and electric energy is "essentially a question of state policy." The considered conclusions of the local authorities, deriving their power from specific State legislation, should be given great weight in determining whether the public interest would be adversely affected - ------------------- (4) The dissenting opinion in NEES I specifically disputed this conclusion, noting that "the House and Senate Committees in identical language expressly stated that common ownership of competing forms of energy was 'a field which is essentially a question of state policy'; the present Section 8 was enacted to support this approach by using federal power to limit common ownership only where it is contrary to state law." ID. at 190 (Harlan, J., dissenting). -6- by the retention of combined operations. In the absence of a compelling showing in the record to the contrary, we would not be warranted in rejecting the appraisal of such authorities that the local public interest . . . is served by retention of the combined operation. ID. at 8 (citations omitted). The Commission made a number of similar determinations in subsequent decisions relating to exempt holding companies, including WEC.(5) For example, in a 1988 case involving Section 9(a)(2) approval of an acquisition and subsequent exemption, the Commission reviewed its precedent and determined: the judgment of a state's legislature and public service commission as to what will benefit their constituents is entitled to considerable deference . . . . [W]e do not believe that the pro-competitive thrust of the Act expresses an absolute Federal policy against combination gas and electric operations . . . . Neither the Act nor the NEES decisions require that the [S.E.C.] adopt such an inflexible rule.(6) 4. LEGISLATIVE HISTORY AND RECENT DEVELOPMENTS A review of the legislative history of the Act together with the recent evolution of the utility industry and the regulatory environment in which it operates, indicates that now is a propitious time for the Commission to revisit its interpretations and allow combination registered holding companies where permitted under relevant state law without violating the letter or the spirit of the remaining sections of the Act. As embodied throughout Section 1 of the Act, one of the principal "evils" that the Act was designed to remedy was that multistate holding companies with activities "extending over many States are not susceptible of effective control by any State and make difficult, if not impossible, effective State regulation of public utility companies." Thus, the Act attempts to simplify the corporate structures of holding company systems to enable states to regulate the production and distribution of energy. In general, the Act is not concerned with those types of holding companies that can indeed be effectively regulated on the state - --------------------- (5) SEE, E.G., DELMARVA POWER & LIGHT CO., HCAR No. 19717, 46 S.E.C. 7(Oct. 19, 1976); WISCONSIN ENERGY CORP., HCAR No. 24267, 37 S.E.C. Docket 296 (Dec. 18, 1986). (6) WPL HOLDINGS, INC., HCAR No. 24590, 40 S.E.C. Docket 491, 497, 498 (Feb. 26, 1988). -7- level and provides exemptions for them in Sections 3(a)(1)(7) and Section 3(a)(2).(8) The Act creates federal jurisdiction to regulate those holding companies that could otherwise escape state and local regulation, but there is no indication in the Act that it should be used to override effective state policy.(9) Section 8 in particular provides for the use of the Act as a tool to further state policy with regard to combination companies within registered holding company systems by prohibiting such companies where state law prohibits them and, implicitly, allowing such companies where state law and state regulatory officials do not object. A review of the legislative history of Section 8 clarifies this intent. In its 1935 report, the Senate Committee on Interstate Commerce noted that the provision in Section 8 concerning combination gas and electric companies "is concerned with competition in the field of distribution of gas and electric energy -- a field which is essentially a question of State policy, but which becomes a proper subject of Federal action where the extra-State device of a holding company is used to circumvent state policy."(10) Conversely, when the holding company is not attempting to circumvent state policy, there does not appear to be any need for the federal government to exercise its jurisdiction. As noted in the report of the National Power Policy Committee on Public-Utility Holding Companies, which is attached to the Senate report cited above, the policy of Section 8 is: Unless approval of a State commission can be obtained, the [S.E.C.] should not permit the use of the holding-company form to combine a gas and an electric utility servicing the same territory where local law prohibits their combination in a single entity. - ------------------------- (7) This exemption applies where the holding company and all material utility subsidiaries are incorporated in and operate predominantly in the same state. (8) This exemption applies where the holding company is predominantly a utility company whose operations do not extend beyond the state in which it is incorporated and states contiguous thereto. (9) Indeed, Section 21 of the Act specifically indicates that "nothing in [the Act] shall affect . . . the jurisdiction of an other commission, board, agency, or officer of . . . any State . . . insofar as such jurisdiction does not conflict with any provision of [the Act]." (10) S. Rep. No. 2796, 74th Cong., 1st Sess., pt. 1 (Report of Sen. Wheeler from the Committee on Interstate Commerce) (the "1935 Senate Report") at 29-30 (1935). -8- 1935 Senate Report at 59. Nothing in this history suggests a congressional desire to prohibit outright all combination companies where such approval can be obtained. Recent changes in the competitive nature of the utility industry indicate that any perceived need for regulation by the Commission due to a concern that the managements of combination companies may emphasize one form of energy over the other has been eliminated by market forces providing customers the ability to select the form and supplier of their energy needs, which in turn mandates that utility companies offer a range of options to compete effectively. As the division of investment management indicated in its recent report entitled THE REGULATION OF PUBLIC-UTILITY HOLDING COMPANIES, "[T]he utility industry is evolving toward the creation of one-source energy companies that will provide their customers with whatever type of energy supply they want, whether electricity or gas."(11) Thus, now that the fundamental restructuring of holding company systems has been completed(12) and the industry is undergoing structural changes that will shift control over certain matters from utilities to consumers able to choose services offered by competing utilities, the Commission should reemphasize the provisions of Section 8 and the initial policy impetus of the Act by allowing combination registered holding companies to compete in the market as long as they can be regulated effectively on the state level. The Commission should again use the Act as a tool to implement state policy rather than as a device to impose additional unneeded and burdensome protections against evils that no longer exist and are not threatened to recur. This re-emphasis on Section 8 fits within the overall regulatory scheme of the Act. Section 11 is flexible and was designed to change as the policy concerns over the regulation of utility holding companies changed.(13) The utility industry and the regulation of that industry has changed dramatically in recent years and it is competitive forces (the very thing that the Act was designed to promote) that are pushing holding companies to offer - ------------- (11) The Division of Investment Management, U.S. Securities and Exchange Commission, THE REGULATION OF PUBLIC-UTILITY HOLDING COMPANIES (the "1995 Report") at 75-6 (1995). (12) 1995 Report at 63 (citing the SEC ANNUAL REPORT OF 1952 reporting that the simplification proceedings required under the Act were nearly completed). (13) MISSISSIPPI VALLEY GENERATING CO., HCAR No. 12794, 36 S.E.C. 159 (Feb. 9, 1955) (noting that Congress intended the concept of integration to be flexible); UNITIL CORP., SUPRA note 2 (noting that Section 11 contains a flexible standard designed to accommodate changes in the industry). -9- alternative forms of energy.(14) Moreover, a registered holding company would still be required to demonstrate that any acquisition or transaction by which it would become a combination company would not be detrimental to the carrying out of the provisions of Section 11 of the Act. In other words, its electric system would have to constitute an integrated electric system and its gas system would have to constitute an integrated gas system and both systems would have to be capable of efficient operation. Thus, the standards of Section 11 would still have to be met, but the application of those standards should take into account the fundamental policy of the Act to allow local regulations to make the threshold determination with regard to combination companies. Each of NSP and WEPCO as a combination company is permissible pursuant to the terms of Section 8 of the Act because the affected states are expected to approve the continued combined activities, and each is in the public interest. Furthermore, as required by Section 11, in addition to the fact that NSP's and WEPCO's electric systems constitute an integrated electric system, the gas systems of each together will constitute an integrated gas system as explained in detail under Item 3.A.2.d.(ii) of the Application. With respect to Section 8, the combination of electric and gas operations is lawful under all applicable state laws for each of NSP and WEPCO and has been considered and approved indirectly on numerous occasions by Wisconsin, Minnesota, North Dakota and Michigan regulators who have, and will continue to have, direct jurisdiction over the Primergy gas operations. The use of Primergy as a holding company for two combination companies will not circumvent any state regulations by the relevant jurisdictions. In addition, in their applications for approval of the Transaction by the Minnesota, Wisconsin, Michigan and North Dakota regulatory commissions -- who have, and will continue to have, direct jurisdiction over the Primergy system's gas utility operations located in their respective states -- NSP and WEC expect these commissions to either order or express approval for NSP and WEPCO to continue as combination electric and gas utility companies through the retention of NSP's and WEPCO's gas operations and of Primergy as a holding company of NSP and WEPCO. Such actions will reflect the recognition by these commissions that the existence of both gas and electric systems in the Primergy holding company system will allow Primergy's customers greater choice to meet their energy needs, especially given the fact that the electric and gas systems operate in substantially the same territory, while sharing in the synergies that result from the Transaction. Moreover, the prior fear that a holding company such as Primergy would be able to greatly emphasize one form of energy over the other based on its own agenda has dissipated both because of the competitive nature of the energy market, which - ---------------- (14) SEE GENERALLY the 1995 Report for a discussion of the recent changes in the industry and the regulation thereof. -10- requires utilities to meet customer energy supply requirements or risk losing the customer to a competing supplier, and because state regulators will have sufficient control over, and would be unlikely to approve, a combination company that attempts to undertake such actions. Furthermore, the Commission has had the opportunity to review the gas utility operations of NSP and WEC in prior orders. SEE NORTHERN STATES POWER CO., SUPRA, 36 S.E.C. 1 (1954); NORTHERN STATES POWER CO., HCAR No. 22334, 24 S.E.C. Docket 405 (Dec. 23, 1981). The 1954 NORTHERN STATES POWER CO. decision, SUPRA, is noteworthy for the Commission's grant of an exemption to NSP under Section 3(a)(2) despite the Staff's strenuous objections to NSP retaining its gas utility properties in St. Paul, Minnesota. In this regard, the Commission noted: Before considering the Division's contentions, it should be observed that the continuance of combined gas and electric service by Northern States in St. Paul not only does not circumvent state law or policy but is affirmatively desired by the local authorities concerned. The State of Minnesota has home-rule legislation and the City of St. Paul has authorized and actively favors the continuance by Northern States of combined gas and electric service, and urges that the exemption be granted. The report of the Senate Committee on Interstate Commerce pointed out in connection with its comments on Section 8 of the Act that competition in the field of distribution of gas and electric energy is "essentially a question of State policy."(15) In the 1981 NORTHERN STATES POWER CO. decision, SUPRA, the Commission continued NSP's Section 3(a)(2) exemption virtually without discussion. In WISCONSIN ENERGY CORP., HCAR No. 24267, 37 S.E.C. Docket 296 (Dec. 18, 1986), the Commission reviewed at length its prior decisions on ownership of electric and gas utility operations by exempt holding companies and noted the extensive regulation by the PSCW of holding companies. The Commission granted WEC an exemption under Section 3(a)(1) and reserved jurisdiction over its retention of the gas utility operations of WNG. For all of these reasons, the Commission should approve the retention by NSP and WEPCO of their respective gas properties as contemplated by the Transaction. No policy would be furthered by requiring divestiture, and, indeed, state policy would be thwarted by such a requirement. II. SECTION 11(B)(1) IS SATISFIED - ----------------------- (15) 1935 Senate Report at 29. -11- Primergy meets the standards for retention of the gas operations of NSP and WEC pursuant to Section 11(b)(1) of the Act as well. Under the A-B-C Clauses, a registered holding company is entitled to retain one or more additional integrated public utility systems if: (A) each of such additional systems cannot be operated as an independent system without the loss of substantial economies which can be secured by the retention of control by such holding company of such system; (B) all of such additional systems are located in one state, adjoining states, or a contiguous foreign country; and (C) the continued combination of such systems under the control of such holding company is not so large (considering the state of the art and the area or region so affected) as to impair the advantages of localized management, efficient operation, or the effectiveness of regulation. In fact, the Commission has held that the retention of existing gas properties is governed by less stringent standards than the acquisition of new gas properties,(16) and has allowed at least two registered electric systems to retain long-standing gas utility properties without a showing of compliance with the A-B-C clauses, subject to re-examination by the commission when more information became available. - ------------- (16) SEE, E.G., WISCONSIN'S ENVIRONMENTAL DECADE, INC. v. SEC, 882 F.2d 523, 527-28 (D.C. Cir. 1989); DELMARVA POWER & LIGHT CO., SUPRA note 5, at 715 (distinguishing between stricter standards applicable to the acquisition of new combination properties and the mere "continued existence of a combination company which had been in operation for thirty years"); COLUMBIA GAS & ELECTRIC CORP., SUPRA note 1, at 462-63; UNION ELECTRIC CO., HCAR No. 18368, 45 S.E.C. 489, 503-06 (Apr. 10, 1974) ("Acquisitions are measured by standards more stringent than those governing retainability of existing properties."), AFF'D WITHOUT OP. SUB NOM. CITY OF CAPE GIRARDEAU v. S.E.C., 521 F.2d 324 (D.C. Cir. 1975); AMERICAN GAS AND ELECTRIC CO., HCAR No. 6639, 22 S.E.C. 808 (May 17, 1946). (17) SEE MIDDLE SOUTH UTILITIES, INC., HCAR No. 11782, 35 S.E.C. 1, 14-15 (Mar. 20, 1953) (gas properties retained by New Orleans Public Service Inc.); NORTH AMERICAN CO., SUPRA note 3 and UNION ELECTRIC COMPANY OF MISSOURI, HCAR No. 12262, 35 S.E.C. 483 (Dec. 15, 1953) (retention by Union Electric Company of Missouri of gas properties of Missouri Power & Light Company and Missouri Edison Company, respectively). -12- In its Application and supporting exhibits, NSP and WEC have shown that clause (A) above will be satisfied because the gas divisions of NSP and of WEC will both suffer substantial losses of economy if they are separated from the Primergy system and forced to operate on a stand-alone basis. This evidence is presented in the "Analysis of the Economic Impact of A Divestiture of the Gas Operations of NSP(M) and its NSP(W) Subsidiary" conducted by management of NSP (the "NSP Divestiture Study"), Exhibit J-1 to the Application, and in the "Analysis of the Economic Impact of a Divestiture of Wisconsin Energy Corporation's Gas Operations conducted by the management of WEC (the "WEC Divestiture Study"), Exhibit J-2 to the Application. These studies are referred to collectively as the "Gas Studies." In addition, following the effectiveness of the transaction, Primergy will satisfy the criteria of clause (B) as its gas utility operations will be confined to the contiguous states of Wisconsin, Minnesota, Michigan and North Dakota. Finally, the Primergy gas system will not be so large as to impair local management, efficient operation or effective regulation under clause (C). A. THE A-B-C ANALYSIS SHOULD BE LIBERALIZED. Since 1968, in interpreting clause (A) of Section 11(b), the Commission has historically looked to the Supreme Court decisions in NEES I, SUPRA, and S.E.C. v. NEW ENGLAND ELECTRIC SYSTEM, 390 U.S. 207 (1968) ("NEES II") (collectively the "NEES decisions"). In NEES I, the Supreme Court accepted the Commission's interpretation of the "loss of substantial economies" language of clause (A) to require an applicant seeking to own an electric and gas utility system to show that the additional system, if separated from the principal system, would be incapable of independent economic operation. The Court in NEES I accepted the Commission's then-current interpretation of clause (A), despite earlier S.E.C. interpretations permitting the Commission to use business judgment and expertise to apply the statutory phrase "loss of substantial economies." In NEES I, the Court specifically recognized that the language of clause (A) was "admittedly not crystal clear" and deferred to the agency's "EXPERTISE on the total competitive situation." NEES I, 384 U.S. at 185 (emphasis in original). In NEES II, the Court reiterated and strengthened its earlier statement of deference to the Commission. NEES II, 390 U.S. at 219. The Division recognized in the 1995 Report that the Commission was no longer bound by the narrow interpretation of clause (A) under the NEES decisions. In so doing, the Division stated: As discussed above, the S.E.C. has generally required electric registered holding companies that seek to own gas utility properties to satisfy the requirements of the A-B-C clauses concerning additional integrated systems. -13- In contrast, exempt holding companies have generally been permitted to retain or acquire combination systems so long as combined ownership of gas and electric operations is permitted by state law and is supported by the interested regulatory authorities. In the past, the S.E.C. has construed the A-B-C clauses narrowly to permit retention only where the additional system, if separated from the principal system, would be incapable of independent economic operations. Although the Supreme Court upheld the S.E.C.'s reading, two justices dissented, contending that the "serious impairment" standard was at odds with the wording of the Act, had little basis in the statutory history or aims of the Act, and could not be sustained by agency or judicial precedent. The dissenting justices believed that the statutory language "called for a business judgment of what would be a significant loss." Applicants in recent matters have argued that, in a competitive utility environment, any loss of economies threatens a utility's competitive position, and even a "small" loss of economies may render a utility vulnerable to significant erosion of its competitive position. There is general support for a more relaxed standard. A number of commenters emphasize that these are essentially state issues. It does not appear that the S.E.C.'s precedent concerning additional systems precludes the S.E.C. from relaxing its interpretation of section 11(b)(1)(A). Indeed, the S.E.C. has recognized that section 11 does not impose "rigid concepts" but rather creates a "flexible" standard designed "to accommodate changes in the electric utility industry." Congress, in 1935, recognized that competition in the field of distribution of gas and electric energy is essentially a question of state policy. The Act was intended to ensure compliance with state law in this regard. Moreover, it appears that the utility industry is evolving toward the creation of one-source energy companies that will provide their customers with whatever type of energy supply they want, whether electricity or gas. Accordingly, the Division believes it is appropriate to reconcile the treatment of registered and exempt companies in this regard, and so recommends that the S.E.C. permit registered holding companies to own gas and electric utility systems pursuant to the A-B-C clauses of section 11(b)(1), where the affected states agree.(18) - ---------------------- (18) 1995 Report at 74-76 (footnotes omitted). -14- In NEES I (and NEES II), the Court accepted the Commission's interpretation of clause (A) as a "construction . . . well within the permissible range given to those who are charged with the task of giving an intricate statutory scheme practical sense and application." NEES I, 384 U.S. at 185. However, there is strong support in Supreme Court case law for the Commission's application in this case of its current interpretation of clause (A), based upon current competitive facts and current policy, as stated in the 1995 Report. In CHEVRON USA, INC. v. NATIONAL RESOURCES DEFENSE COUNCIL, INC., 467 U.S. 837 (1984), the Court outlined the parameters for changing agency interpretations of statutory language based on policy considerations and agency expertise: When a court reviews an agency's construction of the statute which it administers, it is confronted with two questions. First, always, is the question whether Congress has directly spoken to the precise question at issue. If the intent of Congress is clear, that is the end of the matter; for the court, as well as the agency, must give effect to the unambiguously expressed intent of Congress. If, however, the court determines Congress has not directly addressed the precise question at issue, the court does not simply impose its own construction on the statute, as would be necessary in the absence of an administrative interpretation. RATHER, IF THE STATUTE IS SILENT OR AMBIGUOUS WITH RESPECT TO THE SPECIFIC ISSUE, THE QUESTION FOR THE COURT IS WHETHER THE AGENCY'S ANSWER IS BASED ON A PERMISSIBLE CONSTRUCTION OF THE STATUTE. 467 U.S. at 842-43 (citations omitted; emphasis added). Justice Scalia, the present dean of Supreme Court interpretations of administrative law, pointed out that the Court's CHEVRON opinion clearly "announced the principle that the courts will accept an agency's reasonable iNTERPRETATION OF THE AMBIGUOUS TERMS OF A STATUTE THAT THE AGENCY ADMINISTERS." THE HONORABLE ANTONIN SCALIA, JUDICIAL DEFERENCE TO ADMINISTRATIVE INTERPRETATIONS OF LAW, 1989 Duke L.J. 511, 511 (1989). In the NEES I opinion, the Supreme Court specifically pointed out that "[t]he phrase 'without the loss of substantial economies' is admittedly not crystal clear." NEES I, 384 U.S. at 185. Thus, the first prong of the analysis under CHEVRON is clearly met. As Justice Scalia pointed out, under CHEVRON: the agency is free to give the statute whichever of several possible meanings it thinks most conducive to accomplishment of the statutory purpose. Under the latter regime, there is no apparent justification for holding the agency to its first answer, or penalizing it for a change of mind. -15- Scalia, SUPRA, 1989 Duke L.J. at 516. Justice Scalia convincingly argues that a primary point of CHEVRON is to allow agencies flexibility to change their statutory interpretations based upon current economic (and even political) considerations. Under CHEVRON, it is entirely appropriate for the Commission to interpret clause (A) based on its CURRENT "expertise on the total competitive situation." NEES I, 384 U.S. at 185. Applicants believe that the Division's recommendation would represent sound policy by the Commission. From a policy perspective, the Commission's historic concern underpinning NEW ENGLAND ELECTRIC SYSTEM, HCAR No. 15035, 41 S.E.C. 888 (Mar. 19, 1964), and a host of earlier decisions where the retainability of gas properties by registered electric systems was at issue -- namely, of fostering competition between electric and gas -- is simply no longer valid given the current "state of the art" in the electric and gas utility industries. In the generation since the Commission decided the NEES case, profound economic and regulatory factors have wrought a fundamental transformation in the gas supply and electric generation industry, rendering obsolete the Commission's earlier premises regarding the primacy of competition between gas and electric service and the lack of competition within electric and gas service. In the gas area, regulatory changes have introduced competition into what was formerly a monopoly and have expanded the availability of non-utility "transportation-only service" as an alternative to sales services from the local gas utility company. The NSP, NSP-W and WEPCO gas operations all have "open access" transportation-only service tariffs on the file with their respective state commissions, and approximately 20.1% of the gas delivered by them in 1995 was directly purchased by customers. Combination utilities therefore have less ability than they did in 1935 to "favor" electric -- the principal policy concern in decisions ordering the separation of gas and electric systems -- by curtailing the availability or increasing the price of gas.(19) Combination utilities also have less incentive to favor electric over gas in light of the increasing importance of demand-side management, the costs and risks involved in the construction of new generating capacity and the incentives to avoid such construction, and, as noted in the June 1994 issue of THE ELECTRICITY JOURNAL, the emergence of integrated resource planning involving both gas and electric service. - ------------------ (19) SEE, E.G., NEES I. It is important to note that this issue -- basically an anti-trust issue -- was the principal concern in previous decisions ordering the separation of gas and electric systems and clearly is no longer applicable to the changed utility competitive environment. -16- In the electric area, the Energy Policy Act of 1992 and the Public Utility Regulatory Policies Act of 1978 have introduced competition into the electric utility business. As the chairman of the Senate Banking Committee stated recently: [The Act] was substantially changed by the Energy Policy Act of 1992. That law restructured the utility industry to promote greater competition for the benefit of ENERGY customers. The Energy Policy Act of 1992 was the product of a cooperative effort on the part of the Banking Committee and the Energy Committee to create a more market- oriented regulatory framework for the ENERGY industry. Hearing on S. 182, The Communications Act of 1994 Before the Comm. on Commerce, Science and Transportation, 103d Cong., 2d Sess., 34-345 (1994) (Prepared Statement of Senator Riegle) (emphasis added). In addition, many states have "retail wheeling" measures under discussion which are likely to have the effect of extending electric supply competition to the retail level. Minnesota, Wisconsin, Michigan and North Dakota are each in the process of evaluating various options that could increase electric supply competition at the retail level.(20) - --------------- (20) On December 12, 1995, the PSCW announced a determination outlining the general direction of electric utility regulation in Wisconsin. It includes a restructuring of the industry providing choice of electricity provider for all consumers by the year 2000 as well as establishment of a competitive generation business. The transmission and distribution functions would remain regulated. In a February 22, 1996 Report to the Wisconsin Legislature, the PSCW identified a 32-step workplan that it would follow for Electric Utility Restructuring in Wisconsin. In the plan, the PSCW indicated that during 1996 it will begin activities on 12 of these steps, some of which would seek changes in applicable administrative rules under its jurisdiction, including affiliated interest standards and quality of service standards. The PSCW experts are to present an electric utility restructuring plan to the Wisconsin Legislature in 1997. The PSCW also continued a generic investigation of the natural gas industry in Wisconsin and addressed the extent to which traditional regulation should be replaced with a different approach. In conjunction with this generic investigation, the PSCW staff is reviewing the use of the current purchased gas adjustment ("PGA") mechanism which is designed to pass on to gas customers increases or decreases in the cost natural gas purchased for resale. A separate docket has been established to review the PGA. -17- Instead of relying on the blunt instrument of competition BETWEEN gas and electric, national policy has now created direct competition WITHIN the gas and electric utility industries. Thus, combination ownership does not eliminate competition, since a combination utility now has competitors for both gas and electric service. Moreover, competition is not an end in itself, but is merely a means to the end of efficient, cost-effective service. Since combination ownership creates efficiencies and no longer has the effect of eliminating competition, there is no reason for the Commission to prohibit combination ownership, at least under the circumstances presented here. Nothing in the Supreme Court's NEES decisions compels a different result. First, as the Commission noted in its UNION ELECTRIC decision, the Supreme Court's NEES decisions attached "great weight . . . to [the Commission's] expertise in the administration of the Act." UNION ELECTRIC CO., HCAR No. 16368, 45 S.E.C. 489, 509 n.77 (Apr. 10, 1974). The NEES decisions and the Court's reasoning in CHEVRON therefore leave the Commission free to apply its expertise to administer the Act in light of changes in legal, regulatory and economic circumstances which were not foreseen at the time of the NEES decisions, including federal legislation which has "substantially changed" the Act. SEE CHEVRON, 467 U.S. at 842. Second, as noted by the Commission in UNION ELECTRIC and later decisions, the NEES decisions are based on premises and policies that are no longer operative. SEE DELMARVA POWER & LIGHT CO., HCAR No. 19717, 46 S.E.C. 710, 716 (Oct. 19, 1976) ("[T]he objective of promoting retail competition between gas and electricity, which was stressed in the NEES opinions is less critical now."); UNION ELECTRIC CO., SUPRA, 45 S.E.C. at 510 (describing as "outmoded" the Commissions' previous policy to "promot[e] the 'wider . . . use of gas and electric energy'" and to "foster . . . variegated competition between gas and electricity and the attendant promotion of the use of each"; holding that "the maximization of energy use seems a questionable public policy objective" and that "[i]n today's world the public interest and the long-run consumer interest seem to call for prudent conservation and rational allocation" of resources), AFF'D WITHOUT OP. SUB NOM. CITY OF CAPE GIRARDEAU v. S.E.C., 521 F.2d 324 (D.C. Cir. 1975). B. CLAUSE A OF SECTION 11(B)(1) IS SATISFIED. Historically, assuming no liberalization, as a "guide" to determining whether lost economies are "substantial" under Section 11(b)(1)(A), under its previous narrow interpretation of this section, the Commission had given consideration to four ratios, which measure the projected loss of economies as a percentage of: (1) total gas operating revenues; (2) total gas expense or "operating revenue deductions"; (3) gross gas income and (4) net gas income or net gas utility operating income. Although the Commission has declined to draw a -18- bright-line numerical test under Section 11(b)(1)(A), it has indicated that cost increases resulting in a 6.78% loss of operating revenues, a 9.72% increase in operating revenue deductions, a 25.44% loss of gross gas income and a 42.46% loss of net income would afford an "impressive basis for finding a loss of substantial economies." ENGINEERS PUBLIC SERVICE CO., HCAR No. 3796, 12 S.E.C. 41, 59 (Sept. 16, 1942). DIRECT LOSS OF ECONOMIES. As noted above, NSP and WEPCO have each prepared separate studies of their respective gas utility operations that analyze the lost economies that their gas utility operations would suffer upon divestiture when compared to their retention pursuant to the Transaction. As set forth in the Gas Studies, if the gas operations of NSP and WEC were operated on a stand-alone basis, lost economies from the need to replicate services, the loss of economies of scale, the costs of reorganization, and other factors would be immediate and substantial. In the absence of rate relief, those lost economies would substantially injure the shareholders of NSP and WEC upon the divestiture of those gas operations. As the studies further show, if rate relief were granted with respect to the lost economies, then consumers would bear those substantial costs over what they would have to pay if the properties were retained as contemplated by the Transaction. As set forth in the Gas Studies, divestiture of the gas operations of WEPCO, NSP and NSP-W into stand-alone companies would result in lost economies of $36.4 million for WEPCO, $30.1 million for NSP and $9.3 million for NSP-W. The lost economies compare with gas operating revenues of $318 million for WEPCO, $336 million for NSP and $78 million for NSP-W; gas operating revenue deductions of $271 million for WEPCO, $300 million for NSP and $69.7 million for NSP-W; gas gross income of $47 million for WEPCO, $36 million for NSP and $8.2 million for NSP-W; and gas net income of $31.9 million for WEPCO, $26.6 million for NSP and $5.5 million for NSP-W. On a percentage basis, the lost economies amount to 112.62% of 1995 gas net income in the case of WEPCO, 110.20% of gas net income in the case of NSP and 165.16% of gas net income in the case of NSP-W -- far in excess of the loss of net income in UNITIL, where the Commission allowed the retention of gas utility operations, and the 30% loss in NEW ENGLAND ELECTRIC SYSTEM that the Commission has described as the highest loss of net income in any past divestiture order.(21) As a percentage of 1995 gas operating revenues, these lost economies described in the Gas Studies amount to 11.30% in the case of WEPCO, 8.74% - --------------- (21) SEE UNITIL CORP., SUPRA note 2, at 567 n.42 ("The Commission has required divestment where the anticipated loss of income of the stand-alone company was approximately 30% . . ." or "29.9% of net income before taxes," citing S.E.C. v. NEW ENGLAND ELECTRIC SYSTEM, 390 U.S. 214 n.11 (1968)). -19- in the case of NSP and 11.73% in the case of NSP-W -- losses substantially higher than the losses in any past divestiture order.(22) As a percentage of 1995 gas operating revenue deductions, the lost economies described in the Gas Studies would amount to 13.26% in the case of WEPCO, 9.79% in the case of NSP, and 13.12% in the case of NSP-W, higher than the losses in any past divestiture order and, in ENTERGY, another case in which the Commission authorized the retention of gas operations. As a percentage of 1995 gross income, the lost economies described in the Gas Studies amount to 76.51% in the case of WEPCO, 81.46% in the case of NSP and 111.05% in the case of NSP-W, far in excess of the highest loss of gross income in any divestiture order. In order to recover these lost economies, WEPCO's gas division would need to increase rate revenue by $36.4 million or 11.45%, NSP would have to increase revenues by $30.1 million or 8.96% and NSP-W would have to increase rate revenue by $9.3 million or 11.91%. These increases in rate revenues would have a direct and immediate negative impact on the rates charged to customers for gas services. In addition, the customers of WEPCO and NSP gas utility businesses who are also customers of their respective electric utility businesses will experience a doubling of their postage costs to pay separate bills. The total - --------------- (22) The highest loss of operating revenues in any case ordering divestiture is commonly said to be 6.58%. SEE, E.G., UNITIL CORP., SUPRA note 2, at 567 ("[o]f cases in which the Commission has required divestment, the highest estimated loss of operating revenues of a stand-alone company was 6.58% . . . ," citing ENGINEERS PUBLIC SERVICE CO., SUPRA note 2). In fact, however, the 6.58% ratio is not cited in ENGINEERS and is a post hoc calculation derived from claimed cost increases which the Commission had found were "overstated" and "doubtful" in a number of respects. ENGINEERS PUBLIC SERVICE CO., SUPRA note 2, at 80-81. SEE ALSO PHILADELPHIA CO., SUPRA note 3, at 51 n.26 (June 1, 1949) (Engineers' "estimate . . . of increased expenses . . . was overstated in several respects."). While the Commission made no finding as to actual cost increases or ratio for the Gulf States gas properties, it found that Engineers' estimate of divestiture-related ratios cost increases or ratio for certain sister gas properties in Virginia were also overstated and cut them and the resulting ratios in half. ENGINEERS PUBLIC SERVICE CO., SUPRA, note 2, at 60. If the same 50% discount were applied to Engineers's Gulf States gas properties, the loss of operating revenues would have been 10.43%, and the loss of net income would have been 12.63%. Disregarding the 6.58% ratio incorrectly attributed to the Engineers/Gulf State case, the highest loss of operating revenues in any past divestiture order was 5.8%. SEE table of ratios in NEW ENGLAND ELECTRIC SYSTEM, HCAR No. 15035, 41 S.E.C. 888, app. at 905 (Mar. 19, 1964) (The North American Company). This figure would be even lower if adjusted for the increases in purchased gas costs since the 1940s. -20- estimated increase in such postage costs is $3.84 per customer per year or $1,631,000 in the aggregate ($1,356,000 for NSP gas customers and $275,000 for NSP-W gas customers). LOSS OF "ENERGY SERVICE COMPANY ECONOMIES." Divestiture would also result in the loss to consumers of the economies offered by the "energy services" approach of NSP and WEC to the utility business. While the losses cannot now be fully quantified, they are substantial. At the center of the energy services company concept is the idea that providing gas and electric products is only the start of the utility's job. In addition, the utility must provide enhanced service to the consumer by providing an entire package of both energy products and services. In this area, NSP's and WEC's efforts are part of a trend by utilities to organize themselves as energy service companies, that is, as providers of a total package of energy services rather than merely suppliers of gas and electric products. The goal of an energy service company is to retain its current customers and obtain new customers in an increasingly competitive environment by meeting customers' needs better than the competition. An energy service company can provide the customer with a low cost energy (I.E., gas, electricity, or conservation) option without inefficient subsidies. Through the adoption of the energy services concept, combination utilities benefit all utility stockholders. For customers, a service company provides the convenience and efficiency of service by a single energy provider and reduces transaction cost incurred in gathering and analyzing information, contacting energy suppliers, negotiating terms of services and paying bills. For the communities in which an energy service company operates, combining gas and electric operations simplifies community planning on energy-related matters. For society, an energy service company is best able to ensure an environmentally efficient allocation of energy. For utility shareholders and employees, an energy service company is better able to respond to a competitive environment and to remain an attractive investment opportunity for shareholders and an appealing employer for utility employees. C. CLAUSES (B) AND (C) OF SECTION 11(B)(1) ARE SATISFIED. The remaining requirements of Section 11(b)(1) are met because the gas operations of WEPCO, NSP and NSP-W are located in adjoining states Wisconsin, Minnesota, Michigan (Upper Peninsula), and North Dakota and because the continued combination of the gas operations under Primergy is not so large, considering the state of the art and the area or region affected, as to impair the advantages of localized management, efficient operation or the effectiveness of regulation. The gas systems are confined to a relatively small area and are not as large as other gas systems in the same area and will preserve the advantages of localized management, efficient operation and effectiveness of regulation. Moreover, as the Commission has recognized elsewhere, the determinative consideration is not size alone or size in an absolute sense, either big or small, but size in -21- relation to its effect, if any, on localized management, efficient operation and effective regulation.(23) The Commission must "exercise its best judgment as to the maximum size of a holding company in a particular area, considering the state of the art and the area or region affected.(24) From these perspectives, it is clear that the continued combination of the gas operations under Primergy is not too large. Even after the combination, the gas operations of NSP and WEPCO, with some 750,000 customers combined, will be smaller than Northern Illinois Gas Company (1,769,800 customers) and People's Gas Light and Coke Company (842,510 customers), primary competitors in the region. The Commission's past decisions on "localized management" have evaluated localized management in terms of such factors as responsiveness to local needs,(25) whether management and directors were drawn from local utilities, the preservation of corporate identities,(26) the preservation of corporate identities,(27) the ease of communication,(28) and other factors. - --------------- (23) SEE, E.G., ENTERGY CORP., HCAR No. 25952, 55 S.E.C. Docket 2035, 2040 (Dec. 17, 1993); CENTERIOR ENERGY CORP., HCAR No. 24073, 35 S.E.C. Docket 769, 771 (Apr. 29, 1986); AMERICAN ELECTRIC POWER CO., HCAR No. 20633, 15 S.E.C. Docket 375, 383-4 (July 21, 1978). (24) AMERICAN ELECTRIC POWER CO., SUPRA note 23, at 381. (25) ENTERGY CORP., SUPRA note 23, at 2046 n.83; AMERICAN ELECTRIC POWER CO., SUPRA note 23, at 383 (advantages of localized management evaluated in terms of whether an enlarged system could be "responsive to local needs"); GENERAL PUBLIC UTILITIES CORP., HCAR No. 13116, 37 S.E.C. 28, 36 (Mar. 2, 1956) (localized management evaluated in terms of "local problems and matters involving relations with consumers"). (26) SEE CENTERIOR ENERGY CORP., SUPRA note 23, 35 S.E.C. Docket at 775 (advantages of localized management would not be compromised by the affiliation of two electric utilities under a new holding company because the new holding company's "management [would be] drawn from the present management" of the two utilities); NORTHEAST UTILITIES, HCAR No. 25221, 47 S.E.C. Docket 1270, 1285 (Dec. 21, 1990) (advantages of localized management would be preserved in part because the board of New Hampshire utility, which was to be acquired by an out-of-state holding company, included "four New Hampshire residents"). (27) SEE NORTHEAST UTILITIES, SUPRA note 26, at 1285 (utilities "will be maintained as separate New Hampshire corporations . . . . [t]herefore the advantages of localized management will be preserved"); COLUMBIA GAS SYSTEM, INC., HCAR No. 24599, 40 S.E.C. Docket -22- In addition, the Commission has held that so long as there is evidence as to the local nature of important policy determinations, the advantages of localized management are not necessarily impaired by central control. NORTH AMERICAN CO., HCAR No. 3446, 11 S.E.C. 194, 237 (Apr. 14, 1992). The localization of policy determinations can be effectively achieved where management's time and efforts are concentrated in the area served by the principal system (here, the electric system). SOUTHERN UNION GAS CO., HCAR No. 3802, 12 S.E.C. 116, 142 (Sept. 19, 1942). It can also be achieved where the systems are in close proximity to each other. ENGINEERS PUBLIC SERVICE CO., SUPRA, 12 S.E.C. at 66 (Sept. 16, 1942). The retention of the gas properties under Primergy satisfies all of these considerations. As a result of the Transaction, the gas utility operations of NSP-W (other than the Designated Gas Utility Assets) will become part of WEPCO and the Designated Gas Utility Assets (I.E. the distribution systems servicing towns of LaCrosse and Hudson, Wisconsin) will become part of NSP. The centralized functions of NSP (including the Designated Gas Utility Assets) will be managed from St. Paul, Minnesota, and the local functions will continue to be handled from regional offices, including offices in or near LaCrosse and Hudson. Similarly, the central gas utility functions for WEPCO (including the gas utility business acquired from NSP-W) will continue to be run from Milwaukee and local matters will be handled by regional offices. No reduction in customer service or support crews is expected. Management will therefore remain geographically close to the gas operations, thereby preserving the advantages of localized management. From the standpoint of regulatory effectiveness, NSP already operates a multi-jurisdictional (Minnesota and North Dakota) gas utility, as does NSP-W (Wisconsin and Michigan). In addition, several other gas utilities in the region serve customers in several states. Thus, the regulatory agencies in the four states are currently regulating multi-jurisdictional gas utilities and will be able to effectively regulate the gas utility operations of Primergy. In addition, it is expected that: (i) the Wisconsin and Michigan regulatory authorities will indicate their support for or order the retention of the existing gas system by WEPCO and will approve WEPCO's acquisition of NSP-W's gas utility business, (ii) that the North Dakota and Minnesota regulatory authorities will support the retention of the existing gas system of NSP and (iii) the Wisconsin Commission will approve NSP's acquisition of the Designated Gas Utility Assets, thereby indicating that they can regulate these systems effectively. With respect to efficient operation, (..continued) 654, 656 (March 15, 1988) (benefits of local management maintained where the utility to be added would be a separate subsidiary). (28) SEE AMERICAN ELECTRIC POWER CO., SUPRA note 23, at 383-84 (distance of corporate headquarters from local management was a "less important factor in determining what is in the public interest" given the "present-day ease of communication and transportation"). as described above, as part of the Primergy System, the gas operations of NSP and WEPCO are expected to reduce purchased gas costs by $102 million from 1997 to 2000 and 100% of these savings will be passed on directly to customers. Far from impairing the advantages of efficient operation, the combination of the gas operations under Primergy will facilitate and enhance the efficiency of gas operations. CONCLUSION For the reasons set forth above, and in Primergy's Application and supporting exhibits, it is respectfully submitted that the Commission should allow Primergy to retain the gas utility operations of NSP and WEC following the consummation of the Transaction and the registration of Primergy as a holding company under the Act. Cahill Gordon & Reindel -----END PRIVACY-ENHANCED MESSAGE-----