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| TVC > SEC Filings for TVC > Form 10-Q on 4-May-2012 | All Recent SEC Filings |
4-May-2012
Quarterly Report
Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") explains the results of operations and general financial condition of the Tennessee Valley Authority ("TVA"). The MD&A should be read in conjunction with the accompanying unaudited consolidated financial statements and TVA's Annual Report on Form 10-K for the fiscal year ended September 30, 2011 (the "Annual Report").
Executive Overview
Sales of electricity for the quarter ended March 31, 2012, were lower than expected due in large part to milder than normal weather. During this period, the southeastern United States experienced the fourth warmest winter on record and sales of electricity decreased seven percent, as compared to the same period of the prior year. This decline in sales was primarily the result of a nine percent decrease in demand from municipalities and cooperatives. Customers of municipalities and cooperatives are largely residential customers whose usage of electricity is typically more temperature-sensitive than that of industrial customers. Sales to municipalities and cooperatives represent 78 percent of TVA's total electricity sales for the three and six month periods ended March 31, 2012. Total electricity sales for the six month period ended March 31, 2012, decreased six percent as compared to the same period of the prior year. See Results of Operations - Sales of Electricity.
TVA had a net loss for the three months ended March 31, 2012, of $94 million as compared to net income of $253 million for the three months ended March 31, 2011. Lower base revenue accounted for 63 percent of the decrease in revenues, while fuel cost recovery accounted for 37 percent. TVA had a net loss for the six months ended March 31, 2012, of $267 million as compared to net income of $205 million for the same period of 2011 also primarily due to lower revenues.
TVA's operating expenses for the three and six months ended March 31, 2012, were $43 million and $170 million lower, respectively, than in the same periods of 2011 primarily because of lower coal-fired generation. Due to economic dispatch of units, demand was met by units using lower-cost fuels and/or lower-cost purchased power, primarily as a result of historically low natural gas prices.
TVA projected revenue to be $12.1 billion in 2012, including the estimated impact of fuel cost recovery. During the first six months of 2012, revenues were 11 percent below estimates, and TVA has revised its 2012 sales forecast downward for the remainder of 2012. TVA now expects 2012 revenues to be seven percent less than originally planned and as a result expects to incur a net loss for the year.
The lower sales and revenues pose operating challenges for TVA. TVA plans to focus on capital project prioritization and management and, given the recent Nuclear Regulatory Commission ("NRC") findings, to focus on improving the operation of its nuclear plants. Nuclear plants comprise a major part of TVA's power system, and improving their operation is important to TVA's clean, low-cost energy strategy. See 2012 Challenges and Key Initiatives - Regulatory Compliance below. TVA is also making changes to improve cost controls. Actions being taken include reductions in discretionary spending, deferring program spending, and identifying productivity enhancements to improve the overall cost effectiveness of existing programs and projects.
The TVA Board of Directors ("TVA Board") approved two new optional rate structures at its April 2012 Board meeting that will revise the seasonal demand energy structure and provide for an enhanced time-of-use ("TOU") structure. The two optional rate structures will be effective in October 2012 and it is anticipated that the rate structures will be revenue neutral.
2012 Challenges and Key Initiatives
Generation Resources
Watts Bar Nuclear Plant Unit 2. After experiencing lower than expected productivity, TVA management established a team in October 2011 to develop an Estimate to Completion ("ETC") detailing work remaining and duration to complete Watts Bar Nuclear Plant ("Watts Bar") Unit 2. In conjunction with the ETC effort, an analysis to identify those factors contributing to schedule delay and higher costs of the project was also initiated.
Findings of the seven-month ETC detailing cost and time estimates to complete the unit anticipate additional funding of $1.5 billion to $2.0 billion to complete Watts Bar Unit 2, putting the total estimated cost of completion in the range of $4.0 billion to $4.5 billion. The estimated time to complete Watts Bar Unit 2 is between September and December of 2015. The conclusions of the review were confirmed by two outside, independent reviews. The new estimate also adds an allowance for addressing impacts associated with events in Fukushima and other potential emergent risks.
An incorrect initial estimate, insufficient project planning, inadequate project leadership, and lack of effective monitoring tools and oversight were identified as the key causes for the performance problems leading to the project's extended schedule and higher costs. A new organizational structure, including contractual changes, which provides a more direct line-of-sight to top management, has been established. TVA continues to believe that the completion of Watts Bar Unit 2 is the correct option.
TVA plans to continue to fund the Watts Bar Unit 2 construction following its financial guiding principles. In accordance with these principles, TVA plans to cover operating costs, debt service and maintenance of its power system from power revenues, while new generation investments are planned to be funded with debt or other forms of financing. Following the principles, financing entered into for the construction of Watts Bar Unit 2 is expected to be paid off before the end of the unit's life.
For legal proceedings related to Watts Bar Unit 2, see Note 17 - Administrative Proceedings Regarding Watts Bar Nuclear Plant Unit 2.
Delays in the schedule for the completion of Watts Bar Unit 2 will affect the timing of the commencement of construction of Bellefonte Nuclear Plant ("Bellefonte") Unit 1 which, as provided in the TVA Board's approval of the Bellefonte Unit 1 project in August 2011, will not begin until after initial fuel loading at Watts Bar Unit 2. However, TVA does not anticipate that delays to Watts Bar Unit 2 will have a significant adverse impact on TVA's ability to provide for the power needs of its customers, due to factors such as the lower forecasted outlook for electricity demand as well as the impacts of energy efficiency and demand response initiatives.
Browns Ferry Nuclear Plant. A new cooling tower for Browns Ferry Nuclear Plant ("Browns Ferry") had been scheduled to go into operation in the summer of 2011. Completion of the project has been delayed, and TVA now expects the new cooling tower to be completed in 2012. The additional cooling capacity provided by the new cooling tower is expected to be available during the summer of 2012 and it is expected that the cooling tower will help keep TVA from having to reduce generation at Browns Ferry due to thermal issues it has encountered in the past.
Idling of Coal-Fired Units. Consistent with the environmental agreements entered into with the Environmental Protection Agency ("EPA") and other parties in 2011 (the "Environmental Agreements"), and in an effort to address operational challenges and reduce costs, TVA has announced the idling of several coal-fired units. TVA idled Johnsonville Fossil Plant ("Johnsonville") Units 7, 8, 9 and 10 on March 1, 2012, and plans to idle Johnsonville Units 5 and 6 and Colbert Fossil Plant ("Colbert") Unit 5 by October 1, 2012. Additionally, two units at John Sevier Fossil Plant ("John Sevier") will be retired by December 31, 2012, the remaining two units at John Sevier will be idled by December 31, 2012, and Johnsonville Units 1-4 will be retired by December 31, 2017. Several of these idle dates are earlier than the retirement dates required by the Environmental Agreements as well as earlier than the expected date for coal-fired plant compliance with the Mercury and Air Toxics Standards ("MATS"). See Note 1 - Depreciation.
Status of Other Generation Units. TVA had several other hydroelectric and combustion turbine units removed from service at March 31, 2012. Due to the lower demand for electricity and availability of other power sources, it is not expected that the loss of generation from these units will cause reliability issues.
A planned inspection of the Raccoon Mountain Pumped-Storage Plant ("Raccoon Mountain") Unit 2 turbine in March 2012 found cracking in the rotor poles and the rotor rim. Repairs or replacement must be done before the unit can be returned to service. Because the same type of cracking led to the catastrophic failure of a similar unit in Europe, Units 1 and 4 were also taken out of service during March 2012 for inspections. Similar conditions were found on Units 1 and 4. These three units, with a net summer dependable capacity of 1,212 MW, which are utilized to balance the transmission system as well as generate power, are not expected to return to service for several months. TVA plans to dispatch generation from other TVA units and purchase power to compensate for the loss in generating capacity. No unusual findings were detected during an inspection of Unit 3 last year and this unit remains in service. Unit 3 will be reinspected at an appropriate time in the future. The net summer dependable capability of the four units at Raccoon Mountain is 1,616 MW.
Effective May 1, 2012, four simple cycle combustion turbine units at TVA's Allen Fossil Plant, with a total net summer dependable capability of 64 MW, and two simple cycle combustion turbine units at Gallatin Fossil Plant, with a total net summer dependable capability of 130 MW, have temporarily been designated as unavailable for operation until repairs are performed. Restoration projects to return the units to active service are being planned for the fall of 2012 through the spring of 2014.
John Sevier Combined Cycle Facility. TVA is in the process of completing the John Sevier Combined Cycle Facility ("John Sevier CCF") in northeastern Tennessee. John Sevier CCF was connected to the TVA electrical grid for the first time on December 17, 2011. This event marked the beginning of the startup testing for the project by transitioning the project from full construction to pre-commercial testing. John Sevier CCF began commercial operations on April 30, 2012. See Note 7.
Stewardship Properties
When TVA acquired Blue Ridge Dam ("Blue Ridge") in 1939, there was known damage to the water inlet piping to a hydroelectric turbine housed in the powerhouse on the downstream side of the dam. Since that time, TVA has periodically lowered the elevation of the reservoir to inspect this piping. Due to the frequency of these inspections and the need to upgrade Blue Ridge to meet current industry dam safety standards, TVA initiated a rehabilitation project in 2009. TVA completed replacing the inlet piping and corrected other safety issues including the stabilization of the intake tower, and repair and stabilization of the upstream face of the dam. Work to repair and stabilize the downstream side of the dam was nearly complete when, on March 7, 2012, monitoring surveys indicated slight ground movement. In addition, TVA found a 160-foot long surface
crack developed on the downstream face of the dam. Precautionary measures were taken to ensure that the downstream slope was safe from a large scale slide which included holding the water level of the reservoir below normal winter operating guidelines to reduce the variable of changing pressures on the dam. The lower water level also allows for more consistent instrumentation readings in an effort to identify the cause of the ground movement. Additional monitoring instrumentation was also installed. After completing engineering analyses, TVA initiated raising the elevation of the reservoir on April 20, 2012.
On April 22, 2012, a second crack approximately 30 feet long by one-half inch wide was identified on the downstream face of the dam. Raising the elevation of the reservoir was stopped immediately. To date, no movement outside of the instrumentation tolerances has been observed as a result of the second crack. TVA is performing additional engineering analysis of the dam. The dam houses one generating unit with a summer net dependable capacity of 16 MWs.
Cost Containment Efforts
Cost Control. TVA is facing cost pressures for the remainder of 2012 as a consequence of diminished power demand, which has resulted in a decrease in revenues during the six-month period ended March 31, 2012. During this time, revenue was 11 percent lower than the same period of 2011 and 11 percent lower than planned. Revenue projections for 2012 are now seven percent less than originally planned. The lower revenue in 2012 is primarily due to record or near-record weather variations in the Tennessee Valley region. TVA is seeking to reduce costs to meet the challenges of lower revenue and maintain financial health in the near-term, while improving competitiveness over the longer-term. TVA is evaluating activities which are not core to its operations to determine what activities may be reduced, changed or eliminated, and is seeking to change behavior to sustain efficiency gains over time. The cost reduction program is focused on making changes within major cost areas, including non-fuel inventory, employee overtime, vacancies, use of consultants, and staff augmentation contractors. It is anticipated that the program evaluation efforts will provide some immediate savings or cost reductions in 2012. TVA may continue to face cost pressures beyond 2012.
Fuel Inventories. Fuel inventories fluctuate from time to time depending on various factors, including, but not limited to, demand for electricity, unit outages, transportation infrastructure limitations, plant coal consumption rates, and weather conditions which may interrupt production or deliveries. Additionally, inventory levels may also be affected by plans for, and the timing of, idling of coal-fired units and installation of emission control equipment.
Fuel inventories have increased $114 million since September 30, 2011, due primarily to lower-than-planned coal-fired generation. This lower coal-fired generation is the result of lower overall generation due to the weather and lower than expected economic growth as well as a shift in generation source due to lower gas prices.
Regulatory Compliance
Nuclear Regulatory Commission Safety Improvements Orders. On March 9, 2012, the NRC issued three new safety orders stemming from lessons learned from the 2011 Japanese Fukushima Daiichi accident. The orders include the development of strategies for dealing with emergency situations that may interrupt off-site power, the addition of more reliable instruments to measure water levels at cooling pools where spent nuclear fuel is stored, and the installation of hardened venting systems to prevent hydrogen buildup and explosions. The two orders relating to emergency equipment and spent fuel pools will apply to every nuclear reactor in the United States ("U.S."). The order requiring reliable hardened containment venting systems applies only to certain U.S. boiling water reactors, including TVA's Browns Ferry. These reactors are required to improve their containment venting systems to protect containment structures from overpressurization such as occurred at Fukushima which subsequently resulted in the inability to adequately cool the reactor core. TVA has until December 2016 to fully implement the requirements of these three orders. In addition to these orders, the NRC issued requests for information to US nuclear operators with regard to the subjects of earthquakes and flood risk and emergency planning. Based on the information provided in response to these requests, the NRC will determine if additional regulatory requirements are needed for these subjects. Watts Bar Unit 2 will likely be required to comply with these orders prior to its initial fuel load.
Browns Ferry. In October 2010, while Browns Ferry Unit 1 was shut down for a scheduled refueling outage, TVA discovered a low pressure coolant injection valve that had experienced an unanticipated failure. TVA performed repairs to the valve prior to returning Unit 1 to operation in late 2010. In addition, TVA performed a root cause evaluation and determined the failure was due to a manufacturing defect. In response to the issue, the US NRC performed an inspection of the valve failure and its causes. On May 9, 2011, the NRC notified TVA that it had concluded that the valve failure was an issue of "high safety significance" (which is termed a "red" finding under the NRC's Reactor Oversight Process). Subsequently, the NRC designated Browns Ferry in the "multiple/repetitive degraded cornerstone" category in its performance assessment process. As a result of this designation, Browns Ferry is subjected to a substantially elevated level of NRC oversight. This heightened level of oversight includes a series of intensive inspections and assessments that commenced in the fall of 2011 and TVA anticipates being subject to the heightened level of oversight through 2012. TVA anticipates spending between $75 million and $120 million during 2012 related to the acceleration of material improvements at Browns Ferry.
Watts Bar Greater than Green Finding. The NRC notified TVA in December 2011 of its final determination of a "greater than green" inspection finding associated with the Nuclear Security organization at Watts Bar. A "green finding" indicates a finding of very low safety significance. The NRC greater than green finding was identified during an inspection of the plant's
physical security (fences, cameras, detection and intrusion systems, etc.) held in early 2012. Upon receiving notification of the NRC's finding. TVA took immediate compensatory action to address the issue. TVA has completed a root cause analysis and is implementing a series of corrective actions to resolve the issue. The NRC is scheduled to conduct a supplemental inspection in June 2012 to evaluate TVA's root cause analysis and corrective actions.
Sequoyah Nuclear Plant Unit 1 NRC Performance Indicator Returned to Green. Sequoyah Nuclear Plant ("Sequoyah") Unit 1 experienced an unplanned reactor shutdown in July of 2011. This was the fourth unplanned shutdown in a rolling 12- month period dating back to 2010. During the first quarter of 2012, Sequoyah Unit 1's performance indicator related to unplanned reactor shutdowns in a seven thousand hour period moved from green to white. The "white" band indicates that although performance remains acceptable, it is outside of the nominal expected range and can be characterized as of low to moderate safety significance. The NRC did not place any operating restrictions on the plant, but, as a result of the white performance indicator, the NRC conducted an inspection of Sequoyah Unit 1 during the second quarter of 2012 to ensure that TVA has developed a detailed root cause for the reactor shutdowns and that TVA has put in place the right corrective actions to ensure improved performance. The root cause of the shutdowns was found to be inadequate identification of single point vulnerabilities ("SPVs") on balance of plant equipment. These SPVs are components on essential equipment that, if it were to fail, would cause the plant to shut down. A significant number of corrective actions are being implemented, including installation of design changes to reduce known SPVs, scheduling a series of reviews to identify SPVs and develop appropriate strategies to mitigate or eliminate these SPVs, and development of a life cycle management plan including very significant plant modifications in the next three years to make Sequoyah Unit 1 more stable and less prone to unplanned reactor shutdowns. The NRC reviewed the corrective actions, inspected projects in progress, and interviewed site personnel and determined that Sequoyah had appropriately responded to the white finding. Based on this review and evaluation in March 2012, the NRC approved moving Sequoyah Unit 1 back to green status, which means Sequoyah Unit 1 no longer requires increased monitoring.
Hydrology Issues for Nuclear Plants. Updates to the TVA analytical hydrology model have indicated increased flood levels for the design flood, termed "probable maximum flood", for Watts Bar, Sequoyah and upstream reservoirs. TVA implemented interim dam modifications in the fourth quarter of calendar year 2009 by installing engineered, interconnected, fabric-lined containers filled with compacted sand to protect four upstream dams from embankment overtopping. Compensatory measures were also put into place at Sequoyah nuclear plant. TVA is conducting an Environmental Impact Statement in accordance with the National Environmental Policy Act to identify permanent solutions to replace the sand-filled containers which were intended only for temporary use by TVA. TVA is also actively evaluating permanent modifications at Sequoyah and Watts Bar nuclear plants to protect against the increased flood levels and to gain additional margin against the probable maximum flood.
The sand containers chosen have been successfully used to protect during flood events in other areas. The NRC notified TVA on January 25, 2012, that the sand containers installed to protect the nuclear plants from a probable maximum flood are adequate for interim purposes but are not adequate as a long-term solution. Since the permanent solution is expected to take several years for the process of selection, design and implementation, the NRC has requested that TVA provide an updated status at least annually or after any major changes are made to the plan.
Transmission Reliability Standards. North American Electric Reliability Corporation is in the process of amending certain of its transmission reliability planning standards and the amended standards, if approved by the Federal Energy Regulatory Commission ("FERC"), will result in more stringent transmission planning criteria being applicable in the future. FERC may also make other changes to transmission reliability standards. Any changes to the reliability standards would result in increased expenditures by TVA.
Renewable Power
The contracts for 535 megawatts of renewable power from four wind power contracts with third-party providers began in January 2012. These newly added wind power sources are among contracts TVA has entered into with eight wind farms from a 2008 Request for Proposals ("RFP") for more renewable and clean energy, bringing the maximum capacity to 950 megawatts. In the three and six months ended March 31, 2012, TVA received 891 million kilowatt-hours ("kWh") and 1,243 million kWh, respectively, under all of these agreements.
Customers/Counterparties Risk
USEC, Inc. In March 2012, TVA extended its current contract with USEC, Inc. ("USEC"), its largest directly served customer which was to have expired in May 2012. The contract will now continue in effect through September 30, 2012. TVA and USEC have been discussing a further renewal of the contract to extend operations of its facility past that date. Power sales to USEC represented six percent of TVA's total operating revenues for the six months ended March 31, 2012, and 2011. See Note 13 - Counterparty Credit Risk.
USEC is also a supplier of enrichment services for uranium for fueling TVA's nuclear units. Currently USEC is giving the required notices to be able to discontinue operation of the facility at the end of its power contract and turn the facility back over to the United States Department of Energy. TVA has sufficient nuclear fuel inventory available to mitigate near-term supply risks.
From a supply risk perspective, TVA contracts with other suppliers and has sufficient inventory to cover near-term fuel needs. TVA expects to be able to procure material at reasonable rates in the liquid market for nuclear fuel in case USEC is not able to deliver.
MF Global. On October 31, 2011, MF Global Holding Ltd. and its subsidiary MF Global Finance USA Inc. filed for bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code. On the same date, a Securities Investor Protection Act ("SIPA") proceeding was filed against MF Global Inc. ("MF Global"). TVA had used MF Global to clear certain trades and had posted $33 million cash collateral with MF Global at the time of the bankruptcy filing. TVA has recovered $7 million of this balance from the trustee appointed in the SIPA proceeding. TVA has filed claims to recover the remaining funds that TVA deposited with MF Global. It is not clear that TVA will recover all of these funds.
Government Accountability Office Audit Findings
The U.S. Government Accountability Office ("GAO") released a report on December 1, 2011, regarding TVA's energy efficiency and capital expenditures planning. The report was requested by the chairman of the U.S. Senate Committee on Environment and Public Works. The GAO stated that TVA could benefit from a consultant's study on regional energy efficiency potential to ensure that TVA is making the most cost-effective resource decisions to meet its vision of leadership in energy efficiency improvements. TVA agreed with the GAO and commissioned a study by an outside firm. The results of the study have been received and show that TVA's energy efficiency plans are within the achievable range of potential energy savings for the region. Its findings are consistent with TVA's Integrated Resource Plan, the agency's 20-year energy roadmap, and TVA's plans for energy efficiency and demand response programs. TVA will continue to analyze the details of the study and incorporate them into future energy efficiency and demand response planning.
The GAO also recommended that TVA develop a written capital expenditure plan that includes the full costs of the assets in which TVA plans to invest and the sources of funding for acquiring those assets. Although TVA already has a number of interrelated and coordinated planning processes for capital expenditures, it understands the GAO recommendation for a more formal process which has the potential to promote greater effectiveness in the financial planning processes. TVA is continuously working to refine and improve these processes.
Pension Fund
As of September 30, 2011, TVA's qualified pension plan had assets of $6.6 billion compared with liabilities of $11.3 billion. TVA's plan remained underfunded at March 31, 2012. Assets in the plan at March 31, 2012 were approximately $7.1 billion. The ability of the plan's funded status to quickly improve is limited because of the significant amount of benefits paid each year to plan beneficiaries. The plan currently has approximately 23,000 participants. Benefits of approximately $600 million were paid to participants in 2011.
Liquidity and Capital Resources
Sources of Liquidity
To meet cash needs and contingencies, TVA depends on various sources of liquidity. TVA's primary sources of liquidity are cash from operations and proceeds from the issuance of short-term and long-term debt. Current liabilities may exceed current assets from time to time in part because TVA uses short-term debt to fund short-term cash needs as well as to pay scheduled maturities and other redemptions of long-term debt. The daily balance of cash and cash . . .
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