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| EXC > SEC Filings for EXC > Form 10-Q on 24-Jul-2009 | All Recent SEC Filings |
24-Jul-2009
Quarterly Report
(Dollars in millions except per share data, unless otherwise noted)
EXELON CORPORATION
General
Exelon is a utility services holding company. It operates through subsidiaries in the following operating segments:
• Exelon Generation Company, LLC (Generation), whose business consists of its owned and contracted electric generating facilities, its wholesale energy marketing operations and competitive retail sales operations.
• Commonwealth Edison Company (ComEd), whose business consists of the purchase and regulated retail sale of electricity and the provision of transmission and distribution services in northern Illinois, including the City of Chicago.
• PECO Energy Company (PECO), whose business consists of the purchase and regulated retail sale of electricity and the provision of transmission and distribution services in southeastern Pennsylvania, including the City of Philadelphia, as well as the purchase and regulated retail sale of natural gas and the provision of distribution services in the Pennsylvania counties surrounding the City of Philadelphia.
See Note 16 of the Combined Notes to Consolidated Financial Statements for segment information.
Exelon's corporate operations, some of which are performed through its business services subsidiary, Exelon Business Services Company, LLC (BSC), provide Exelon's business segments with a variety of support services at cost. The costs of these services are directly charged or allocated to the applicable business segments. Additionally, the results of Exelon's corporate operations include costs for corporate governance and interest costs and income from various investment and financing activities.
Executive Overview
Financial Results. Exelon's net income was $657 million for the three months ended June 30, 2009, as compared to $748 million for the three months ended June 30, 2008, and diluted earnings per average common share were $0.99 for the three months ended June 30, 2009, as compared to $1.13 for the three months ended June 30, 2008.
Exelon's net income was $1,369 million for the six months ended June 30, 2009, as compared to $1,329 million for the six months ended June 30, 2008, and diluted earnings per average common share were $2.07 for the six months ended June 30, 2009, as compared to $2.01 for the six months ended June 30, 2008.
The decrease in net income for the three months ended June 30, 2009 compared to the three months ended June 30, 2008 was primarily due to the following:
• Lower energy gross margins at Generation due largely to revenue from certain long options in Generation's proprietary trading portfolio in 2008, the impact of gains related to the settlement of uranium supply agreements in 2008, unfavorable portfolio and market conditions and higher nuclear fuel costs;
• net mark-to-market losses in 2009 and gains in 2008 on economic hedging activities;
• increased depreciation and amortization expense due to increased scheduled competitive transition charge (CTC) amortization at PECO and increased depreciation across the operating companies due to ongoing capital expenditures; and
Partially offset by:
• increased electric distribution revenue at ComEd and gas distribution revenue at PECO in 2009 resulting from 2008 distribution rate case orders;
• unrealized gains in 2009 and unrealized losses in 2008 related to nuclear decommissioning trust fund investments; and
• the non-cash impacts in 2009 of tax uncertainty remeasurements and the reassessment of state deferred income taxes.
The increase in net income for the six months ended June 30, 2009 compared to the six months ended June 30, 2008 was primarily due to the following:
• increased electric distribution revenue at ComEd and gas distribution revenue at PECO in 2009 resulting from 2008 distribution rate case orders;
• unrealized gains in 2009 and unrealized losses in 2008 related to nuclear decommissioning trust fund investments;
• benefits associated with an Illinois Supreme Court decision granting Illinois Investment Tax Credits to Exelon and treating electricity as tangible personal property;
• the non-cash impacts in 2009 of tax uncertainty remeasurements and the reassessment of state deferred income taxes; and
• decreased operating and maintenance expense related to Exelon's ongoing cost savings initiative, decreased allowance for uncollectible accounts expense at PECO and decreased nuclear refueling outage costs associated with a lower number of planned refueling outage days during 2009 as compared to 2008;
Partially offset by:
• the 2009 impairment of certain of Generation's Texas plants;
• net mark-to-market gains on economic hedging activities in 2008; and
• increased depreciation and amortization expense due to increased scheduled CTC amortization at PECO and increased depreciation across the operating companies due to ongoing capital expenditures.
See Exelon Corporation - Results of Operations for further information regarding the changes in net income.
Economic Environment. As the economic environment remains challenging, the Registrants have continued to perform assessments to determine the impact, if any, of market developments, including the bankruptcy, restructuring or merging of certain financial and energy companies, on the Registrants' financial statements. The Registrants' assessments have included a review of macroeconomic conditions, access to liquidity in the capital and credit markets, counterparty creditworthiness, value of the Registrants' investments (particularly in the employee benefit plans and nuclear decommissioning trust funds) and exposure to other risks. The unprecedented volatility in the economy may create additional risks in the upcoming months and possibly years.
• Macroeconomic conditions
The U.S. and global economic recession continued through the second quarter of 2009. Central banks have supported their respective financial systems by increasing liquidity, and governments have increased spending to
stimulate economic growth. While financial markets have begun to stabilize and credit spreads have narrowed, there is only preliminary data showing manufacturing, and job losses have slowed their rate of decline. Although signs of stabilization are encouraging, growth forecasts remain negative with positive economic growth not expected until the first half of 2010.
A weak domestic economy has sharply decreased U.S. energy demand and prices. A fundamentally oversupplied natural gas market has resulted in prices below $4 per million British Thermal Units, the lowest price since 2002. U.S. coal use is down year-over-year as demand from power generation and exports remain low. Eastern coal prices are currently trading below $50 per ton after reaching more than $140 per ton last spring.
Exelon has been challenged by current economic conditions as electricity demand has been low in the ComEd and PECO service territories. In addition to weak demand, bill collection has become more difficult as customers may have less ability to pay, or may delay payment. Management has taken steps to mitigate this risk through heightened collection efforts. Additionally, lower demand for electricity may lead to lower margins for Exelon's wholesale generation fleet. While Exelon's hedging policies have helped protect Exelon's earnings as markets have declined, prolonged depressed electricity prices would adversely impact Exelon's and Generation's results of operations in the future.
• Liquidity in the capital and credit markets
The Registrants believe they have sufficient liquidity despite the continuing challenges of the capital and credit markets. The Registrants fund liquidity needs for capital investment, working capital, energy hedging and other financial commitments through cash flow from continuing operations, public debt offerings, commercial paper markets and large, diversified credit facilities ($7.3 billion in aggregate total commitments with $6.8 billion available as of June 30, 2009, of which no financial institution has more than 10% of the aggregate commitments for Exelon, Generation and PECO and 12% for ComEd). Generation also has additional letter of credit facilities used solely to enhance tax-exempt variable rate debt. Approximately $307 million of these letters of credit will expire in the third quarter of 2009. Generation plans to remarket certain of this tax-exempt debt as unenhanced with different interest rate terms and refinance the remainder with new unenhanced tax-exempt bonds. See "Variable-Rate Debt" within Liquidity and Capital Resources for further detail on these credit facilities.
While not significant to the Registrants to date, the uncertainty in capital and credit markets may result in increased borrowing costs associated with short-term and long-term debt. With the exception of debt to unconsolidated financing affiliates, the Registrants have $12 million of debt at Generation maturing for the remainder of 2009 and $613 million of debt maturing in 2010 ($400 million and $213 million at Exelon Corporate and ComEd, respectively). The debt to unconsolidated financing affiliates at PECO is repaid through the collection of competitive transition charges from customers as allowed by restructuring legislation that was adopted in Pennsylvania in 1996.
The Registrants routinely review the sufficiency of their liquidity position, including appropriate sizing of credit facility commitments, by performing various stress test scenarios, such as commodity price movements, increases in margin-related transactions, changes in hedging levels, and the impacts of hypothetical credit downgrades. Management continues to closely monitor events and the financial institutions associated with its credit facilities, including monitoring credit ratings and outlooks, credit default swap levels, capital raising and merger activity. See PART I. ITEM 1A. Risk Factors of Exelon's 2008 Annual Report on Form 10-K for information regarding the effects of longer-term uncertainty in the capital and credit markets or significant bank failures.
• Counterparty creditworthiness
The Registrants are subject to credit risk, which relates to the ability of counterparties to meet their contractual payment obligations or the potential non-performance of counterparties to deliver contracted
commodities or services at the contracted price. Generation's power-marketing activities are governed by risk management policies limiting transactions to a diversified group of high quality counterparties. During 2008, the bankruptcy of Lehman Brothers Holdings Inc. and the weakening of companies within the energy industry have underscored the importance of these risk management practices. Although Generation's credit exposure was predominately with investment grade companies at June 30, 2009, changes in forward market prices could have a disproportionate impact to the percentage of credit exposure with non-investment grade companies. As of June 30, 2009, the net exposure after credit collateral for Generation's commodity contracts of $1,073 million included $1,046 million of exposure to investment-grade companies and $27 million of exposure to non-investment grade companies, primarily in the coal supply industry. See "Competitive Markets" below for a discussion regarding risks, including prices, associated with Generation's uranium concentrate contracts. Management continues to closely monitor the status of Generation's counterparties and will take action, as appropriate, to further manage its counterparty credit risk.
Under the Illinois Settlement Legislation, ComEd procures power through supplier forward contracts, standard block energy purchases and spot market purchases. Collateral postings are required only from suppliers, including Generation, for the supplier forward contracts. Beginning in June 2009, the standard block energy purchases only require collateral postings from the suppliers, including Generation, should exposures between forward market prices and benchmark price levels exceed established unsecured credit limits outlined in the contracts. In the event the counterparties fail to perform, ComEd might be forced to purchase power through a request for proposal (RFP) process or in the spot markets at less favorable prices and credit terms. As of June 30, 2009, there was no cash collateral or letters of credit posted from suppliers to ComEd. The potential failure of energy suppliers to perform is mitigated by ComEd's ability to recover its actual costs to procure power as stipulated in the Illinois Settlement Legislation as well as the Illinois Commerce Commission (ICC) approved procurement tariff.
PECO has counterparty credit risk related to its electricity and natural gas suppliers. Generation provides 100% of PECO's electric energy under a purchase power agreement (PPA), which expires December 31, 2010. There are no collateral posting provisions included in the PPA with Generation. In anticipation of the expiration of the PPA, PECO has begun to procure through load following, full requirements contracts (full requirements contracts), forward energy purchase block contracts (block contracts) and spot market purchases in accordance with its Pennsylvania Public Utility Commission (PAPUC) approved default service provider program (DSP Program). The full requirement contracts and block contracts entered into on June 18, 2009 are subject to the collateral requirements in the supplier master agreements, which only require collateral postings from suppliers when PECO's exposure between the forward price curve for energy and the initial market price is greater than the defined thresholds that include the supplier's unsecured credit limit. As of June 30, 2009, there was no requirement to obtain collateral postings from suppliers. The price risk related to the potential failure of electric suppliers to perform is mitigated by PECO's ability to seek recovery of its actual costs to procure electricity through the generation supply adjustment included in the DSP Program settlement. PECO procures natural gas from suppliers under both short-term and long-term contracts. PECO does not obtain collateral from suppliers under its natural gas supplier agreements. The potential failure of natural gas suppliers to perform is mitigated by PECO's ability to seek recovery of its actual costs to procure natural gas through the PAPUC's purchased gas cost clause, subject to PAPUC review. A further discussion of counterparty risk is included in ITEM 3. Quantitative and Qualitative Disclosures about Market Risk.
• Value of investments (particularly in employee benefit plan trusts and nuclear decommissioning trust funds)
Pension and Postretirement Benefit Plans. Exelon sponsors defined benefit pension and postretirement benefit plans for the employees of the Registrants. The Registrants believe that the oversight of the investments held under Exelon's employee benefit plans is rigorous and that the investment strategies are prudent. During 2008, Exelon's unfunded status increased significantly, to $6.38 billion at December 31, 2008, primarily due to lower than expected asset returns. For financial reporting purposes, the unfunded status of the plans is updated annually, at December 31. Exelon has continued to monitor the performance of the plans during the first and
second quarters of 2009, including the impact of the financial markets on the unfunded status of the defined benefit pension and other postretirement benefit plans. If the unfunded status of the plans increases at December 31, 2009 from the levels at December 31, 2008, expected future contributions to the plans could increase or be accelerated to earlier periods than previously estimated. Conversely, improvement in the unfunded status could have the effect of reducing expected future contributions. The U.S. Treasury Department issued guidance on March 31, 2009 that provides some relief from 2009 funding requirements. Exelon is determining whether to elect the options available under that guidance, as well as monitoring other legislative pension funding relief proposals currently being discussed. See Liquidity and Capital Resources for additional information.
Nuclear Decommissioning Trust Fund Investments. Nuclear decommissioning trust funds have been established on a unit-by-unit basis to satisfy Generation's nuclear decommissioning obligations. Currently, Generation is making contributions only to the trust funds of the former PECO units based on amounts being collected by PECO from its customers and remitted to Generation. While Generation has recourse to collect additional amounts from PECO customers (subject to certain limitations and thresholds) with respect to the former PECO units, it has no recourse to collect additional amounts from ComEd customers for the former ComEd units or from the previous owners of the Clinton, Oyster Creek and Three Mile Island nuclear plants (the former AmerGen Energy Company, LLC (AmerGen) units) if there is a shortfall of funds necessary for decommissioning. Generation believes that its oversight of these trust funds is rigorous and the investment strategy is prudent. At June 30, 2009, approximately 50% of the funds were invested in equity and 50% were invested in fixed income securities, with limitations related to concentration and investment grade ratings. See Note 12 of the Combined Notes to Consolidated Financial Statements for the amounts of unrealized losses on the trust funds during the three and six months ended June 30, 2009.
Nuclear Regulatory Commission (NRC) regulations require that licensees of nuclear generating facilities demonstrate reasonable assurance that funds will be available in certain minimum amounts at the end of the life of the facility to decommission the facility. Generation is required to provide to the NRC a biennial report by unit (annually for units that have been retired or are within five years of the current approved license life), based on values as of December 31, addressing Generation's ability to meet the NRC minimum funding levels. Depending on the value of the trust funds, Generation may be required to take steps, such as providing financial guarantees through letters of credit or parent company guarantees or making additional contributions to the trusts, which could be significant, to ensure that the trusts are adequately funded and that the NRC minimum funding requirements are met. As a result, Exelon's and Generation's cash flows and financial positions may be significantly adversely affected.
Generation's most recent report was filed with the NRC on March 31, 2009, based on trust fund values and estimated decommissioning obligations as of December 31, 2008. The estimated decommissioning obligations for the NRC report were calculated in accordance with NRC regulations and may differ from the ARO recorded on Generation's and Exelon's balance sheet at December 31, 2008, primarily due to differences in assumptions regarding the decommissioning alternatives to be used and potential license renewals. In its NRC filing, Generation stated that it is evaluating the remedy to be utilized to address the underfunded status and such remedy will be in accordance with NRC regulations and guidance.
On July 13, 2009, the NRC published a summary of decommissioning trust fund shortfalls at industry nuclear units, which for Generation's nuclear generating stations set forth an aggregate underfunded position of approximately $1.0 billion. The NRC calculation assumes one scenario where decommissioning activities are completed within seven years after the cessation of plant operations. Under NRC regulations, nuclear unit owners have up to 60 years to complete decommissioning after the cessation of operations, during which time decommissioning funds would continue to grow. The NRC did not publish any calculations for alternative scenarios where decommissioning activities are completed at a later time during the 60-year window. Consistent with studies approved by the NRC and assuming that decommissioning activities are completed within the permissible 60 year regulatory time period, Generation believes that six units at three nuclear generating stations were in an underfunded position by approximately $185 million in total relative to the NRC minimum funding
requirement as of December 31, 2008. Over 90% of this total is attributable to Generation's four units at Braidwood and Byron, where Generation has not yet filed for license extensions. Although the NRC does not allow for potential license extensions to be credited in calculating NRC minimum funding requirements, to the extent that license extensions are granted for these units, decommissioning funds will continue to grow for an additional 20-year period. Generation presently anticipates that it will file for license extensions for these units consistent with its ongoing business plan.
Generation and other industry members are engaged in ongoing discussions with the NRC regarding the NRC's calculations. By July 31, 2009, Generation is required to submit to the NRC a plan for remediating the underfunded position of its units. The time frame for implementing this plan is subject to further discussion with the NRC.
As the future values of trust funds change due to market conditions, the NRC minimum funding status of Generation's units will change. In addition, if changes occur to the regulatory agreement with the PAPUC that currently allows amounts to be collected from PECO customers for decommissioning the former PECO nuclear plants, the NRC minimum funding status of those plants could change at subsequent NRC filing dates. At present, subject to board of directors approval, Generation anticipates that it will remedy any underfunded position remaining after full implementation of its funding assurance plan as submitted to and approved by the NRC through the issuance of some form of financial guarantee rather than through cash contributions to the decommissioning trust funds.
See PART I. ITEM 1A. Risk Factors of Exelon's 2008 Annual Report on Form 10-K for information regarding the effects of a longer-term disruption in the capital and credit markets or significant bank failures.
Based on a regulatory agreement with the ICC that applies to the former ComEd nuclear generating units on a unit-by-unit basis, as long as funds held in the nuclear decommissioning trust funds exceed the total estimated decommissioning obligation, decommissioning-related activities recognized in the Consolidated Statement of Operations, including realized and unrealized income and losses of the trust funds and accretion of the decommissioning obligation, are generally offset within Exelon's and Generation's Consolidated Statements of Operations. Should the trust funds for the former ComEd units continue to experience declines in market value such that the value of the trust funds for any unit falls below the amount of the estimated decommissioning obligation for that unit, the accounting to offset decommissioning-related activities in the Consolidated Statement of Operations for that unit would be discontinued, the decommissioning-related activities would be recognized in the Consolidated Statements of Operations and the adverse impact to Exelon's and Generation's results of operations and financial positions could be material. At June 30, 2009, the trust fund investment values for each of the former ComEd units exceeded the related decommissioning obligation for each of the units. For the purposes of making this determination, the decommissioning obligation referred to is the obligation reflected on Generation's Consolidated Balance Sheet at June 30, 2009 calculated in accordance with FASB Statement No. 143, "Accounting for Asset Retirement Obligations" (SFAS No. 143), and is different from the calculation used in the NRC minimum funding obligation filings based on NRC guidelines. See Note 12 of the Combined Notes to Consolidated Financial Statements for additional information regarding the accounting for the former ComEd nuclear generating units as a result of the ICC order.
Securities Lending Program. The Registrants engage in a securities lending program with respect to the investments within their employee benefit plan trusts and nuclear decommissioning trust funds. In connection with this program, the securities loaned are supported by collateral posted by the borrowers, which the Registrants invest in a short-term collateral fund or in assets with maturities matching, or approximating, the duration of the loan of the related securities. The Registrants bear the risk of loss with respect to their invested cash collateral. Such losses may result from a decline in fair value of specific investments or liquidity impairments resulting from current market conditions. Losses recognized by the Registrants have not been significant to date. Under its lending agreements, Exelon had a fair value of invested collateral of $268 million and $660 million as of June 30, 2009 and December 31, 2008, respectively. Management continues to monitor the performance of the invested collateral and to work closely with the trustees to limit any potential further
losses. Exelon, the trustees and the borrowers have the right to terminate the lending agreement at their discretion, upon which borrowers would return securities to Exelon in exchange for their cash collateral. If the short-term collateral funds do not have adequate liquidity, the Registrants may incur losses upon the withdrawal of amounts from the funds to repay the borrowers' collateral. In the fourth quarter of 2008, the Registrants decided to end their participation in the securities lending program and have chosen to initiate a gradual withdrawal of their participation in the securities lending program in order to avoid potential losses on invested cash collateral due to the lack of liquidity in the market. Currently, the weighted average maturity of the securities within the collateral pools is approximately 6 months. At December 31, 2008, Exelon had $649 million of loaned securities outstanding. At June 30, 2009, Exelon had $265 million of loaned securities outstanding under its lending agreements, representing a decrease in loaned securities outstanding since December 31, 2008 of $384 million primarily due to the return of loaned securities. Of the balance of loaned securities outstanding at June 30, 2009 (in terms of value), approximately 60% is expected to be returned by the end of 2009, with the remainder expected to be returned primarily in 2010.
• Other risks
The Registrants regularly evaluate the carrying value of their long-lived assets for impairment, including goodwill and generating plants. During the six months ended June 30, 2009, Generation recorded an impairment charge of $223 million related to its Texas plants. See Notes 4 and 6 of the Combined Notes to Consolidated Financial Statements for further information on Generation's plant impairment. Further declines in the economic environment may impact market-related assumptions, resulting in a decrease of the estimated fair value of long-lived assets.
In addition, the Registrants have reviewed their exposure to insurance risk and have concluded that there have been no material changes related to the . . .
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