-----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, Iq9qMKvhXJoY62rYxsvxgmqICSGgD/VNsRqfuFDrpcRwcy4P03sWTI/Zq705PCMx 2cxHoTpGNN6XvfDUCL9PVQ== 0000941138-99-000014.txt : 19990623 0000941138-99-000014.hdr.sgml : 19990623 ACCESSION NUMBER: 0000941138-99-000014 CONFORMED SUBMISSION TYPE: 10-Q/A PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990331 FILED AS OF DATE: 19990524 FILER: COMPANY DATA: COMPANY CONFORMED NAME: UNISOURCE ENERGY CORP CENTRAL INDEX KEY: 0000941138 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRIC SERVICES [4911] IRS NUMBER: 860786732 STATE OF INCORPORATION: AZ FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q/A SEC ACT: SEC FILE NUMBER: 001-13739 FILM NUMBER: 99632928 BUSINESS ADDRESS: STREET 1: 220 WEST SIXTH STREET STREET 2: P O BOX 711 CITY: TUCSON STATE: AZ ZIP: 85702 BUSINESS PHONE: 5205714000 MAIL ADDRESS: STREET 1: 220 WEST SIXTH STREET STREET 2: P O BOX 711 CITY: TUCSON STATE: AZ ZIP: 85702 10-Q/A 1 BODY OF REPORT The following items were the subject of a Form 12b-25 and are included herein: Certain financial information in Note 3 -- Unregulated Energy Businesses, of Item 1.-- Financial Statements, for New Energy Ventures, Inc., an affiliate which is not consolidated and which is 50 percent owned by the Registrant. - --------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q/A (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For The Quarterly Period Ended March 31, 1999 OR [X] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________. Registrant;State of Commission Incorporation; Address IRS Employer File Number and Telephone Number Identification Number ----------- ---------------------- --------------------- 1-13739 UNISOURCE ENERGY CORPORATION 86-0786732 (An Arizona Corporation) 220 West Sixth Street Tucson, AZ 85701 (520) 571-4000 Indicate by check mark whether each registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No _____ At May 7, 1999, 32,303,281 shares of UniSource Energy Corporation's Common Stock, no par value (the only class of Common Stock) were outstanding. UniSource Energy Corporation is the sole holder of the 32,162,167 shares of the outstanding Common Stock of Tucson Electric Power Company. - --------------------------------------------------------------------------- REVIEW REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of UniSource Energy Corporation We have reviewed the accompanying condensed consolidated balance sheets and the related condensed consolidated statements of loss and of cash flows of UniSource Energy Corporation and its subsidiaries (the Company) as of March 31, 1999 and for the three-month periods ended March 31, 1999 and 1998. This financial information is the responsibility of the Company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the accompanying financial information for it to be in conformity with generally accepted accounting principles. We previously audited in accordance with generally accepted auditing standards, the consolidated balance sheet and statement of capitalization as of December 31, 1998, and the related consolidated statements of income, of changes in stockholders' equity, and of cash flows for the year then ended (not presented herein); and in our report dated February 4, 1999 we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying condensed consolidated balance sheet as of December 31, 1998, is fairly stated, in all material respects in relation to the consolidated balance sheet from which it has been derived. PricewaterhouseCoopers LLP Los Angeles, California May 20, 1999 PART I - FINANCIAL INFORMATION Item 1. FINANCIAL STATEMENTS - ----------------------------------------------------------------------------- The weather causes seasonal fluctuations in UniSource Energy's sales. As a result, quarterly results are not indicative of annual operating results. The quarterly financial statements that follow are unaudited but reflect all normal recurring accruals and other adjustments which we believe are necessary for a fair presentation of the results for the interim periods presented. Also see Item 2. - Management's Discussion and Analysis of Financial Condition and Results of Operations. This quarterly report should be reviewed in conjunction with the Company's 1998 Form 10-K. UNISOURCE ENERGY CORPORATION COMPARATIVE CONDENSED CONSOLIDATED STATEMENTS OF LOSS Three Months Ended March 31, 1999 1998 (Unaudited) -Thousands of Dollars- Operating Revenues Retail Customers $128,651 $138,087 Sales for Resale 31,859 22,854 --------- --------- Total Operating Revenues 160,510 160,941 --------- --------- Operating Expenses Fuel and Purchased Power 54,919 48,400 Capital Lease Expense 25,461 25,778 Amortization of Springerville Unit 1 Allowance (8,729) (7,631) Other Operations 23,623 26,298 Maintenance and Repairs 9,637 10,724 Depreciation and Amortization 23,081 22,563 Taxes Other Than Income Taxes 12,154 12,926 Income Taxes (2,559) (1,937) --------- --------- Total Operating Expenses 137,587 137,121 --------- --------- Operating Income 22,923 23,820 --------- --------- Other Income (Deductions) Income Taxes (232) (631) Interest Income 1,638 1,716 Unregulated Energy Businesses - Net (2,793) (4,036) Other 658 810 --------- --------- Total Other Income (Deductions) (729) (2,141) --------- --------- Interest Expense Long-Term Debt 16,325 17,111 Interest Imputed on Losses Recorded at Present Value 8,748 8,545 Other 2,649 3,058 --------- --------- Total Interest Expense 27,722 28,714 --------- --------- Net Loss $ (5,528) $ (7,035) ========= ========= Average Shares of Common Stock Outstanding (000) 32,287 32,139 ========= ========= Basic and Diluted Loss per Share $ (0.17) $ (0.22) ========= ========= See Notes to Condensed Consolidated Financial Statements. UNISOURCE ENERGY CORPORATION COMPARATIVE CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS Three Months Ended March 31, 1999 1998 (Unaudited) -Thousands of Dollars- Cash Flows from Operating Activities Cash Receipts from Retail Customers $147,388 $146,532 Cash Receipts from Sales for Resale 31,511 27,000 Fuel and Purchased Power Costs Paid (58,132) (42,978) Wages Paid, Net of Amounts Capitalized (15,857) (21,925) Payment of Other Operations and Maintenance Costs (25,501) (23,593) Capital Lease Interest Paid (44,505) (41,319) Taxes Paid, Net of Amounts Capitalized (11,110) (11,519) Interest Paid, Net of Amounts Capitalized (24,004) (17,198) Contract Termination Fee Paid - (10,000) Income Taxes Paid (4,819) - Emission Allowance Inventory Sales - 29 Interest Received 2,222 2,361 Other 1,294 1,907 --------- --------- Net Cash Flows - Operating Activities (1,513) 9,297 --------- --------- Cash Flows from Investing Activities Capital Expenditures (16,729) (18,443) Investments in and Loans to Unregulated Energy Businesses (5,050) (6,000) Distributions from Unregulated Energy Businesses 500 - Other 85 193 --------- --------- Net Cash Flows - Investing Activities (21,194) (24,250) --------- --------- Cash Flows from Financing Activities Proceeds from Issuance of Long-Term Debt 255 1,105 Payments to Retire Long-Term Debt (1,225) - Payments to Retire Capital Lease Obligations (16,552) (8,737) Other 837 (1,876) --------- --------- Net Cash Flows - Financing Activities (16,685) (9,508) --------- --------- Net Decrease in Cash and Cash Equivalents (39,392) (24,461) Cash and Cash Equivalents, Beginning of Year 145,167 146,256 --------- --------- Cash and Cash Equivalents, End of Period $105,775 $121,795 ========= ========= UNISOURCE ENERGY CORPORATION SUPPLEMENTAL CONDENSED CONSOLIDATED CASH FLOW INFORMATION Three Months Ended March 31, 1999 1998 (Unaudited) -Thousands of Dollars- Net Loss $ (5,528) $ (7,035) Adjustments to Reconcile Net Loss to Net Operating Cash Flows Depreciation and Amortization Expense 23,081 22,563 Deferred Income Taxes and Investment Tax Credit (8,459) (4,117) Lease Payments Deferred (16,404) (12,616) Amortization of Regulatory Assets & Liabilities, Net of Interest Imputed on Losses Recorded at Present Value 18 914 Deferred Contract Termination Fee 962 (9,038) Unremitted (Earnings) Losses of Unconsolidated Subsidiaries 1,385 6,591 Other 3,083 (123) Changes in Assets and Liabilities which Provided (Used) Cash Exclusive of Changes Shown Separately Accounts Receivable 6,379 987 Materials and Fuel (3,146) 251 Accounts Payable (7,805) 508 Taxes Accrued 8,311 11,961 Other Current Assets and Liabilities (2,578) (1,928) Other Deferred Assets and Liabilities (812) 379 --------- --------- Net Cash Flows - Operating Activities $ (1,513) $ 9,297 ========= ========= Non-Cash Financing Activities (these activities do not affect the statements of cash flows): The proceeds from the issuance of $200 million of Pollution Control Revenue Bonds in March 1998 were held in trust and used in May 1998 to redeem $200 million of previously issued bonds. See Notes to Condensed Consolidated Financial Statements. UNISOURCE ENERGY CORPORATION COMPARATIVE CONDENSED CONSOLIDATED BALANCE SHEETS March 31, December 31, 1999 1998 (Unaudited) - Thousands of Dollars - ASSETS Utility Plant Plant in Service $2,250,056 $2,263,871 Utility Plant Under Capital Leases 886,902 886,902 Construction Work in Progress 82,007 74,050 ----------- ----------- Total Utility Plant 3,218,965 3,224,823 Less Accumulated Depreciation and Amortization (1,048,456) (1,051,994) Less Accumulated Amortization of Capital Leases (90,624) (85,826) Less Springerville Unit 1 Allowance (171,431) (171,413) ----------- ----------- Total Utility Plant - Net 1,908,454 1,915,590 ----------- ----------- Investments and Other Property 116,070 110,318 ----------- ----------- Current Assets Cash and Cash Equivalents 105,775 145,167 Accounts Receivable 66,388 72,767 Materials and Fuel 40,025 37,040 Deferred Income Taxes - Current 9,594 14,820 Other 21,587 24,950 ----------- ----------- Total Current Assets 243,369 294,744 ----------- ----------- Deferred Debits - Regulatory Assets Income Taxes Recoverable Through Future Revenues 148,244 152,111 Deferred Springerville Generation Costs 98,316 102,211 Deferred Lease Expense 9,523 9,877 Other Regulatory Assets 18,210 18,886 Deferred Debits - Other 30,468 30,443 ----------- ----------- Total Deferred Debits 304,761 313,528 ----------- ----------- Total Assets $2,572,654 $2,634,180 =========== =========== See Notes to Condensed Consolidated Financial Statements. UNISOURCE ENERGY CORPORATION COMPARATIVE CONDENSED CONSOLIDATED BALANCE SHEETS March 31, December 31, 1999 1998 (Unaudited) - Thousands of Dollars - CAPITALIZATION AND OTHER LIABILITIES Capitalization Common Stock $ 641,089 $ 640,640 Accumulated Deficit (399,522) (393,994) ----------- ----------- Common Stock Equity 241,567 246,646 Capital Lease Obligations 869,649 889,543 Long-Term Debt 1,183,198 1,184,423 ----------- ----------- Total Capitalization 2,294,414 2,320,612 ----------- ----------- Current Liabilities Current Obligations Under Capital Leases 14,989 11,647 Current Maturities of Long-Term Debt 1,725 1,725 Accounts Payable 26,313 34,118 Interest Accrued 42,765 70,771 Taxes Accrued 35,478 27,167 Accrued Employee Expenses 17,388 15,207 Other 6,011 6,705 ----------- ----------- Total Current Liabilities 144,669 167,340 ----------- ----------- Deferred Credits and Other Liabilities Deferred Income Taxes - Noncurrent 49,992 62,028 Deferred Investment Tax Credits Regulatory Liability 9,736 10,436 Emission Allowance Gain Regulatory Liability 31,324 31,335 Other 42,519 42,429 ----------- ----------- Total Deferred Credits and Other Liabilities 133,571 146,228 ----------- ----------- Total Capitalization and Other Liabilities $2,572,654 $2,634,180 =========== =========== See Notes to Condensed Consolidated Financial Statements. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------- NOTE 1. ACCOUNTING FOR THE EFFECTS OF REGULATION Accounting Implications The ACC regulates TEP's retail utility business. TEP generally uses the same accounting policies and practices used by unregulated companies for financial reporting under generally accepted accounting principles. However, sometimes these principles, such as FAS 71, require special accounting treatment for regulated companies to show the effect of regulation. For example, in setting TEP's retail rates, the ACC may not allow TEP to charge its customers currently to recover certain expenses but; instead, require that these expenses be recovered from customers in the future. In this situation, FAS 71 requires that TEP capitalize and report these expenses as regulatory assets on the balance sheet until TEP is allowed to charge its customers. TEP then amortizes these items to the income statement as those amounts are recovered from customers. Similarly, certain items of revenue may be deferred as regulatory liabilities, which are also eventually amortized to the income statement. We have recorded regulatory assets and liabilities in our balance sheets in accordance with FAS 71. A regulated company must satisfy certain conditions to apply the accounting policies and practices of FAS 71. These conditions include: - an independent regulator sets rates; - the regulator sets the rates to cover specific costs of delivering service; and - the service territory lacks competitive pressures to reduce rates below the rates set by the regulator. We periodically assess whether we continue to meet these conditions. If we were required to stop applying FAS 71 to all or a portion of TEP's regulated utility operations, we would write off the related balances of TEP's regulatory assets and liabilities as a charge in our income statement. In that event, our earnings would be reduced by the net amount of regulatory assets and liabilities, after applicable deferred income taxes. Based on the balances of TEP's regulatory assets and liabilities at March 31, 1999, if we ceased applying FAS 71 to all of TEP's regulated operations, we would record an extraordinary loss of approximately $140 million, net of the related deferred income tax benefit of $93 million. Approximately 60% of TEP's net regulatory assets on the balance sheet relate to electric generation. While our cash flows may be affected by regulatory orders and market conditions, our cash flows would not be affected if we ceased to apply FAS 71. If we stop applying FAS 71, we would need to evaluate the likelihood that we could recover the cost of TEP's electric plant in the marketplace. If undiscounted cash flows are less than the carrying value of those plant assets that we continue to own, then we would need to write off as an expense a portion of those plant assets to reflect their current market value. Plant assets to be disposed of would be written down to fair value if it is less than carrying value. We cannot predict if we would write off any plant assets as a result of these evaluations. Recent Events That May Impact TEP's Application of FAS 71 In December 1996, the ACC adopted retail electric competition rules (Rules) that provided a framework for the phase-in of retail electric competition in Arizona beginning in January 1999. The Rules were amended and adopted on an emergency basis in August 1998. The Rules, as originally adopted, assumed a competition start date of January 1, 1999. On January 5, 1999, the ACC delayed implementation of the Rules. On April 14, 1999, the ACC approved a modified order that provides affected utilities with five options for stranded cost recovery. The following recovery options are provided by the ACC's written order: 1. Net Revenues Lost Methodology -- Stranded costs would be determined by comparing generation revenues under competition to revenues under regulation. Using growth as a mitigating factor, the amount of recovery would be reduced over a five-year period. 2. Divestiture/Auction Methodology -- Stranded costs would be determined by auctioning non-essential generation assets. The amount of stranded costs would be the difference between the assets' market value and their book value. Recovery of stranded costs would occur over a maximum 10-year period. 3. Financial Integrity Methodology -- The ACC would provide sufficient revenues necessary to maintain financial integrity, such as avoiding default under currently existing financial instruments for a period of ten years, at which time there would be no remaining stranded costs. 4. Settlement Methodology -- This option provides for some combination of the three preceding methods, submitted as a settlement option. 5. Alternative Methodology -- This option approved by the ACC would allow affected utilities to file an alternative plan. Under this option, utilities would be required to demonstrate how an alternative plan would be in the best interests of all stakeholders. TEP and other affected utilities have until June 14, 1999 to amend their previously filed stranded cost recovery plans. TEP's original stranded cost plan filed on August 21, 1998, specified divestiture of generation assets as the preferred method for recovery given the then- available options. TEP expects to file an amended plan in accordance with the April 14 order. Also on April 14, 1999, the ACC approved amendments to the electric competition rules that require a phase-in to a competitive market, ensuring all customers will have access to competitive generation by January 1, 2001. Retail electric competition in Arizona had been scheduled to begin on January 1, 1999, but the ACC delayed the opening of the market by staying the previous Competition Rules pending further review. Under the amendments, consumer choice will be available to all customers by January 1, 2001. TEP, as the regulated local distribution company, will continue to provide delivery of electricity over existing power lines to homes and businesses and will continue to provide operation and maintenance of the lines. Under these rules, competitive electric service will be available in each affected utility's service territory after the affected utility's stranded cost plan is approved by the ACC. In addition, the proposed rules replace certain affiliated interest rules with a code of conduct to be filed by each utility. The amended rules will be submitted to the Secretary of State's Office for publication in the Arizona Administrative Register. It is anticipated that public comment sessions will be held in June, and the Rules will be resubmitted to the ACC for their final approval in July or August 1999. TEP will stop accounting for its generation operations using FAS 71 when the ACC approves a cost recovery plan specific to TEP which includes the amount of stranded costs (including regulatory assets, net of regulatory liabilities) that TEP can recover and a cost recovery method. The amount and method of recovery that the ACC approves for TEP will determine whether write-offs or other adjustments will occur at that time. Until the ACC approves the amount and recovery method, we are unable to predict the amount of write-offs or other adjustments, if any, which would be recorded at that time. We cannot predict the outcome of the ACC's retail competition rules. Additionally, federal legislators introduced several retail competition initiatives in Congress which, if passed, could modify or override the actions taken by the ACC. We will continue to monitor the progress of the legislation and assess it's impact on retail electric competition in Arizona. NOTE 2. SEGMENT AND RELATED INFORMATION In 1998, we adopted Statement of Financial Accounting Standards No.131 (FAS 131), Disclosures about Segments of an Enterprise and Related Information, which requires that we report financial and descriptive information about our operating segments. These segments are determined based on the way we organize our operations and evaluate performance. UniSource Energy's principal business segment is the regulated electric utility business of TEP. The other reportable business segment is the unregulated energy businesses of Millennium: - Advanced Energy Technologies, Inc. (Advanced Energy) which owns 50 percent of Global Solar Energy, L.L.C., a developer and manufacturer of photovoltaic materials; - MEH Corporation (MEH) which holds a 50 percent interest in New Energy Ventures, Inc. (NEV), an energy buyer representative; and - Nations Energy Corporation (Nations) which is an independent power developer. See Note 3 for more information on our unregulated energy businesses. Intersegment revenues are not material. We disclose selected financial data for our business segments in the following table: - ---------------------------------------------------------------------- Segments ---------------------- TEP: Millennium: Regulated Unregulated UniSource Electric Energy Reconciling Energy Utility Businesses Adjustments Consolidated - ---------------------------------------------------------------------- - Thousands of Dollars - Income Statement - ---------------- Three months ended March 31, 1999: Operating Revenues $160,636 $ 1,627 $ (1,753) $ 160,510 - ---------------------------------------------------------------------- Net Income (Loss): Advanced Energy (374) MEH (577) Nations (1,942) Other Entities 100 -------- Total Net Income (Loss) (1,320) (2,793) (1,415) (5,528) - ---------------------------------------------------------------------- Three months ended March 31, 1998: Operating Revenues 161,003 341 (403) 160,941 - ---------------------------------------------------------------------- Net Income (Loss): Advanced Energy 170 MEH (4,050) Nations (204) Other Entities 48 -------- Total Net Income (Loss) (1,607) (4,036) (1,392) (7,035) - ---------------------------------------------------------------------- The reconciling adjustments include the following: - Elimination of the revenues of Millennium's unregulated energy businesses to show this activity in Unregulated Energy Businesses - Net in the Other Income (Deductions) section of UniSource Energy's income statements, and - Elimination of intercompany activity and balances. NOTE 3. UNREGULATED ENERGY BUSINESSES Loans and Guarantees for NEV Effective September 1, 1997, MEH (formerly Millennium) acquired a 50% ownership in NEV and made a $0.8 million capital contribution. In December 1997, MEH committed to provide NEV with $20 million of funding. At March 31, 1999, NEV had received $19 million in debt funding under the commitment, resulting in a remaining commitment amount available of $1 million at March 31, 1999. Additionally, in September 1998, NEV issued a $4.8 million promissory note to MEH for a $3 million loan MEH extended to NEV in September 1997 as well as a preferred operating return due MEH under the terms of NEV's original operating agreement. In December 1998, UniSource Energy committed $30 million in credit to NEV. NEV has drawn $15 million on the credit commitment at March 31, 1999. NEV also had accrued interest and other accounts payable to MEH of $2.3 million at March 31, 1999 which also reduces the amount available under this credit commitment. Under the terms of the commitment, NEV must provide collateral prior to any amounts being drawn under this credit commitment. In addition to providing funding, UniSource Energy provides credit to NEV in the form of guarantees and surety bonds to support NEV's wholesale and retail electricity purchases and sales activities. As of March 31, 1999, UniSource Energy had extended guarantees and surety bonds aggregating $41.6 million, of which $21.7 million was outstanding. UniSource Energy issued additional guarantees of $13.5 million subsequent to March 31, 1999. In addition, UniSource Energy has guaranteed repayment of a $10 million note that NEV obtained from an unrelated party. This note is callable any time after May 28, 1999. UniSource Energy's guarantees and borrowings under the $30 million credit facility are secured by various NEV accounts receivable and other assets. NEV has incurred a total loss in excess of approximately $49 million for the period September 1997 through March 31, 1999. In 1998 and 1997, MEH recorded $16 million and $7.8 million, respectively, of NEV's losses. These losses, totaling $23.8 million, equal the total funds and unsecured commitments provided by MEH and UniSource Energy to NEV. Our accounting policy limits the amount of NEV's loss to be recorded by MEH to the total amount invested and committed by MEH and UniSource Energy on an unsecured basis. Should MEH or UniSource Energy provide additional unsecured funding to NEV or should the value of existing collateral decline, the unsecured amounts provided would be immediately expensed up to the lesser of the amount of unsecured funding provided or the amount of NEV's cumulative losses in excess of the $23.8 million already recorded by MEH. While we do not currently have plans to extend additional unsecured amounts, there can be no assurance that additional funding will not be necessary. In the first quarter of 1999, ownership of New Energy Ventures Southwest was transferred from MEH to NEV. MEH recorded $0.9 million of losses for NEV Southwest during the first three months of 1999. NEV Summarized Financial Information Quarters Ended March 31, Income Statement 1999 1998 ----------------- - Millions of Dollars- Retail Customer Revenue $ 92 $ 1 Utility Distribution Company Payments (45) - Cost of Goods Sold (47) (1) ---- ---- Gross Margin - - Proprietary Purchases and Sales, Net 8 (2) Other Operating Expenses (9) (5) ---- ---- Income (Loss) from Operations (1) (7) Other Income (Expense) (2) - Cumulative Effect of Change in Accounting Principle 1 - ---- ---- Net Loss $(2) $(7) ==== ==== As of January 1, 1999, NEV adopted EITF 98-10 which provides guidance on accounting for energy trading activities. As a result of the adoption, NEV recorded a cumulative effect gain of approximately $1 million during the first quarter of 1999. Purchase of Generating Assets by Nations Energy In March 1999, Nations Energy funded $3.3 million of equity in a Curacao refinery project. The investment was made through a special purpose company, Curacao Energy Company, Ltd., which will own a controlling interest in the project. The project is a 167MW cogeneration facility that will supply power, steam, water and compressed air to Refineria di Korsou. Construction is planned to begin later this year. Nations Energy Holland Holding increased its minority equity interest in a power project located in the Czech Republic with an $0.8 million payment in the first quarter of 1999. The $400 million, 340 MW project is scheduled for completion in late 1999. Once completed, the generating facility will sell power to a regional distribution company and to an adjacent industrial complex. NOTE 4. TAX ASSESSMENTS Ruling on Arizona Sales Tax Assessments - Coal Sales We received from the ADOR and are protesting, sales tax assessments which allege that a former TEP subsidiary is liable for sales tax on gross income from coal sales, transportation and coal- handling services provided to TEP from November 1985 through May 1996. Arizona law generally requires payment of an assessment prior to pursuing the appellate process. We have previously paid, under protest, a total of $23 million of the disputed sales tax assessments. In September 1996, the Arizona Court of Appeals upheld the validity of the assessment issued for the period November 1985 through March 1990. However, in May 1998, the Arizona Supreme Court remanded the case back to the Arizona Tax Court to be reheard. The case is set for trial in the first week of June 1999. The payments previously made will be refunded if we are successful in the appeal. TEP has recorded an expense and a related liability for the sales taxes and interest for the period November 1985 through May 1996 that we believe are probable of incurrence. On May 31, 1996, the former subsidiary was merged into TEP. Because TEP now acquires coal directly from unaffiliated companies, we do not believe we are liable for sales tax computed on a basis similar to the assessments described above after May 31, 1996. For periods prior to May 31, 1996, we continue to record an estimated interest expense on the disputed assessments. Arizona Sales Tax Assessments - Leases The ADOR has issued sales tax assessments to some of the lessors of TEP's generation-related facilities and equipment. The assessments allege sales tax liability on a component of rents we paid on the Springerville Unit 1 Leases, the Springerville Common Facilities Leases, the Irvington Lease and the Springerville Coal Handling Facilities Lease from August 1, 1988 to June 30, 1997. Under the indemnification provisions in the lease agreements, if the ADOR prevails, we would be required to reimburse the lessors for the sales taxes that they pay. We filed an appeal of the assessments in the Arizona Tax Court in February 1998. In July 1998, the Arizona Tax Court upheld the assessment issued on the Irvington lease for the period August 1988 through September 1990, and we have appealed the decision. Oral argument on the appeal is scheduled to begin on May 25, 1999. Arizona law generally requires payment of an assessment prior to pursuing the appellate process. Under protest, we paid a total of $2 million of the disputed assessments. These payments will be refunded if we are successful in the appeals process. We have recorded a liability for the probable amount of sales taxes and interest due as of March 31, 1999. If the ADOR prevails, we would need to record an additional expense and related liability. Even though it is reasonably possible that the resolution of this issue could result in approximately $23 million of additional sales tax expense, we do not believe this outcome is likely. We do not expect that the resolution of this assessment will have a material negative impact on the financial statements. We believe that the ultimate resolution of this issue could occur between two to four years from now. INCOME TAX ASSESSMENTS In February 1998, the IRS issued an income tax assessment for the 1992 and 1993 tax years. The IRS is challenging our treatment of various items relating to a 1992 financial restructuring, including the amount of NOL and ITC generated before December 1991 that may be used to reduce taxes in future periods. Due to a financial restructuring, a change in TEP's ownership occurred for tax purposes in December 1991. As a result, our use of the NOL and ITC generated before 1992 may be limited under the tax code. The IRS is challenging our calculation of this limitation. At March 31, 1999, pre-1992 federal NOL and ITC carryforwards were approximately $200 million and $23 million, respectively. In addition to the pre-1992 NOL and ITC which are subject to the limitation, $203 million of federal NOL at March 31, 1999, is not subject to the limitation. We do not expect the resolution of these issues to have a material adverse impact on the financial statements. NOTE 5. SPRINGERVILLE COMMON FACILITIES LEASE Under the terms of the Springerville Common Facilities lease agreement, we must ensure that $70 million of secured notes underlying this lease are refinanced by December 31, 1999 in order to avoid a special event of loss under the lease. This special event of loss would require us to repurchase the Springerville Common Facilities at the higher of a specified price or the fair market value of the facilities. TEP has intends, and believes it has the ability, to refinance the underlying debt on these leases in 1999. NOTE 6. INCOME TAXES The differences between the income tax expense (benefit) and the amount obtained by multiplying income before income taxes by the U.S. statutory federal income tax rate are as follows: UniSource Energy TEP ------------------ ------------------ Three Months Ended Three Months Ended March 31, March 31, 1999 1998 1999 1998 - -------------------------------------------------------------------- -Thousands of Dollars - Federal Income Tax Benefit at Statutory Rate $ (3,040) $ (3,903) $ (949) $ (694) State Income Tax Benefit, Net of Federal Benefit (422) (601) (132) (107) Depreciation Differences (Flow Through Basis) 326 1,040 326 1,040 Investment Tax Credit Amortization (700) (573) (700) (573) Adjustment for Unregulated Energy Businesses - (276) - - Foreign Operations of Unregulated Energy Businesses 613 238 - - Other 65 (42) 65 (43) - -------------------------------------------------------------------- Total Benefit for Federal and State Income Taxes $ (3,158) $ (4,117) $ (1,390) $ (377) ==================================================================== Income taxes are included in the income statements as follows: UniSource Energy TEP ------------------- ----------------- Three Months Ended Three Months Ended March 31, March 31, 1999 1998 1999 1998 - -------------------------------------------------------------------- -Thousands of Dollars - Operating (Benefits) $ (2,559) $ (1,937) $ (2,559) $ (1,937) Other Deductions 232 631 1,169 1,560 Unregulated Energy Businesses - Net (831) (2,811) - - - -------------------------------------------------------------------- Total Income Tax Benefit $ (3,158) $ (4,117) $ (1,390) $ (377) ==================================================================== As of December 31, 1997 both UniSource Energy and TEP had recorded the amount of prior period NOL benefit that we expect to use on future income tax returns. At the present time, we are not able to estimate future additional amounts of NOL benefit that we may recognize in the income statements of either UniSource Energy or TEP. This is because there are still open tax years for which there may be additional assessments and because federal and state NOL carryforwards have varying expiration dates. We do not expect to recognize additional amounts of NOL benefit until such items are resolved. NOTE 7. NEW ACCOUNTING STANDARDS In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133 (FAS 133), Accounting for Derivative Instruments and Hedging Activities. A derivative financial instrument or other contract derives its value from another investment or designated benchmark. This Statement requires all derivative instruments to be recognized as either assets or liabilities in the balance sheet. Some derivative instruments offset, or hedge, exposure to a specific risk. If the derivative is not a hedging instrument, measurement is at fair value and changes in fair value (i.e., gains and losses) are recognized in earnings in the period of change. If a derivative qualifies as a hedge, the accounting for changes in fair value will depend on the specific exposure being hedged. We are required to adopt FAS 133 in the first quarter of 2000. We are still in the process of quantifying the effect, if any, that the adoption of FAS 133 will have on our financial statements. In November 1998, the Emerging Issues Task Force issued guidance on accounting for energy trading activities (EITF 98-10). Energy trading activities are intended to generate profits from changes in the market prices for energy-related commodities such as electricity, natural gas and coal. These activities include certain purchase power and transmission contracts. This guidance would require us to measure the difference between cost and market value for our energy contracts and include any resulting gains or losses in earnings. We adopted this guidance in the first quarter of 1999. TEP does engage in some forms of energy trading but does not engage in the type of energy purchases and sales defined in EITF 98-10 as energy trading; therefore the adoption of this guidance had no effect on our financial statements. NOTE 8. REVIEW BY INDEPENDENT PUBLIC ACCOUNTANTS With respect to the unaudited consolidated financial information of UniSource Energy for the three-month periods ended March 31, 1999 and 1998, PricewaterhouseCoopers LLP reported that they have applied limited procedures in accordance with professional standards for a review of such information. However, their separate report dated May 20, 1999, appearing herein, states that they did not audit and they do not express an opinion on that unaudited consolidated financial information. Accordingly, the degree of reliance on their report on such information should be restricted in light of the limited nature of the review procedures applied. PricewaterhouseCoopers LLP is not subject to the liability provisions of section 11 of the Securities Act of 1933 for their report on the unaudited consolidated financial information because that report is not a "report" or a "part" of a registration statement prepared or certified by PricewaterhouseCoopers LLP within the meaning of sections 7 and 11 of the Act. With respect to the unaudited consolidated financial information of TEP for the three-month periods ended March 31, 1999 and 1998, PricewaterhouseCoopers LLP reported that they have applied limited procedures in accordance with professional standards for a review of such information. However, their separate report dated May 17, 1999, appearing herein, states that they did not audit and they do not express an opinion on that unaudited consolidated financial information. Accordingly, the degree of reliance on their report on such information should be restricted in light of the limited nature of the review procedures applied. PricewaterhouseCoopers LLP is not subject to the liability provisions of section 11 of the Securities Act of 1933 for their report on the unaudited consolidated financial information because that report is not a "report" or a "part" of a registration statement prepared or certified by PricewaterhouseCoopers LLP within the meaning of sections 7 and 11 of the Act. NOTE 9. RECLASSIFICATIONS Minor reclassifications have been made to the prior year financial statements to conform to the current year's presentation. insert financials and notes to statements PART II - OTHER INFORMATION ITEM 6. -- Exhibits and Reports on Form 8-K - ------------------------------------------- (a) Exhibits. -- See Exhibit Index. (b) Reports on Form 8-K. The Company and TEP filed the following current reports on Form 8-K during the quarter ended March 31, 1999: UniSource Energy Corporation and Tucson Electric Power Company -------------------------------------------------------------- -- Form 8-K dated January 4, 1999 (filed January 8, 1999), reporting on the delay of retail electric competition in Arizona. -- Form 8-K dated February 5, 1999 (filed February 16, 1999), reporting on Proposed Orders by ACC Hearing Officer and 1998 Earnings. UniSource Energy Corporation ---------------------------- -- Form 8-K dated March 5, 1999 (filed March 15, 1999), reporting on adoption of a shareholder rights plan. Signature Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. UNISOURCE ENERGY CORPORATION (Registrant) Date: May 24, 1999 Ira R. Adler -------------------------------- Ira R. Adler Executive Vice President and Principal Financial Officer EXHIBIT INDEX 11 - Statement re computation of per share earnings - UniSource Energy. 12 - Computation of Ratio of Earnings to Fixed Charges - TEP. 15 - Letter regarding unaudited interim financial information. 27a - Financial Data Schedule - UniSource Energy. 27b - Financial Data Schedule - TEP. EX-15 2 EXHIBIT 15 Exhibit 15 May 20, 1999 Securities and Exchange Commission 450 Fifth Street, N.W. Washington, D.C. 20549 Commissioners: We are aware that our report dated May 20, 1999 on our review of interim financial information of UniSource Energy Corporation (the Company) as of and for the period ended March 31, 1999 and included in the Company's quarterly report on Form 10-Q for the quarter then ended is incorporated by reference in the Company's Registration Statements on Form S-8 (Nos. 333-43765, 333-43767 and 333- 43769, 333-53309, 333-53333 and 333-53337), on Form S-3 (No. 333-31043), and on Form S-4 (No. 333-60809). Yours very truly, PricewaterhouseCoopers LLP -----END PRIVACY-ENHANCED MESSAGE-----