45
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 20032004
Or
[_] TRANSITION REPORT PURSUANT 1TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission Registrant, State of Incorporation IRS Employer
File Number Address, and Telephone Number Identification No.
2-267201-2893 Louisville Gas and Electric Company 61-0264150
(A Kentucky Corporation)
220 West Main Street
P.O. Box 32010
Louisville, KY 40232
(502) 627-2000
1-3464 Kentucky Utilities Company 61-0247570
(A Kentucky and Virginia Corporation)
One Quality Street
Lexington, KY 40507-1428
(859) 255-2100
Indicate by check mark whether the 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 _.
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes No X
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date:
Louisville Gas and Electric Company
21,294,223 shares, without par value, as of July 31, 2003,2004,
all held by LG&E Energy Corp.LLC
Kentucky Utilities Company
37,817,878 shares, without par value, as of July 31, 2003,2004,
all held by LG&E Energy Corp.LLC
This combined Form 10-Q is separately filed by Louisville Gas and Electric
Company and Kentucky Utilities Company. Information contained herein
related to any individual registrant is filed by such registrant on its own
behalf. Each registrant makes no representation as to information related
to the other registrants.
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TABLE OF CONTENTS
PART I
Item 1 Consolidated Financial Statements
Louisville Gas and Electric Company and Subsidiary
Statements of Income 1
Statements of Retained Earnings 1
Balance Sheets 2
Statements of Cash Flow 4
Statements of Retained Earnings 5
Statements of Other Comprehensive Income 65
Kentucky Utilities Company and Subsidiary
Statements of Income 76
Statements of Retained Earnings 6
Balance Sheets 87
Statements of Cash Flow 10
Statements of Retained Earnings 119
Statements of Other Comprehensive Income 1210
Notes to Consolidated Financial Statements 1311
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations 2022
Item 3 Quantitative and Qualitative Disclosures About
Market Risk 3036
Item 4 Controls and Procedures 3237
PART II
Item 1 Legal Proceedings 3338
Item 6 Exhibits and Reports on Form 8-K 3339
Signatures 3540
Exhibits 3641
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Part I. Financial Information - Item 1. Financial Statements
Louisville Gas and Electric Company and Subsidiary
Consolidated Statements of Income
(Unaudited)
(Thousands of $)
Three Months Six Months
Ended Ended
June 30, June 30,
2004 2003 20022004 2003 2002
OPERATING REVENUES (Note 5 and Note 8)5):
Electric $192,566 $173,917 $185,225$390,815 $360,936
$346,111
Gas 43,646 41,456 30,938207,360 181,280 148,056
Total operating revenues 236,212 215,373 216,163598,175 542,216 494,167
OPERATING EXPENSES:
Fuel for electric generation 47,615 46,277 50,550100,139 95,754 94,657
Power purchased (Note 8)17,345 17,313 15,47646,233 41,440 33,697
Gas supply expenses 30,991 25,963 18,346161,747 132,070 101,813
Other operation expenses 57,110 53,379 54,807115,171 106,907
103,216
Maintenance 15,266 17,690 15,57226,807 29,583 27,573
Depreciation and amortization (Note 8)28,223 30,293 25,88955,722 57,437 51,167
Federal and state income taxes 9,374 4,714 8,33524,399 21,355
21,572
Property and other taxes 5,069 3,454 4,77810,140 8,189 9,314
Total operating expenses 210,993 199,083 193,753540,358 492,735 443,009
NET OPERATING INCOME 25,219 16,290 22,41057,817 49,481
51,158
Other expenseincome (expense) - net (1,394) (67) (330) (66)133 (1,395) (328) (335)
Other income from affiliated company
(Note 10) - 1 - 5
Interest chargesexpense (Note 3) 7,141 7,087 14,131 14,8935,236 5,849 10,013 12,104
Interest expense to affiliated
companies (Note 10) 2,976 1,292 6,117 2,027
NET INCOME $ 17,140 $ 7,755 $ 15,25641,359 $ 35,020
$ 36,199Consolidated Statements of Retained Earnings
(Unaudited)
(Thousands of $)
Three Months Six Months
Ended Ended
June 30, June 30,
2004 2003 2004 2003
Balance at beginning of period $521,204 $435,647 $497,441 $409,319
Net income 17,140 7,755 41,359 35,020
Subtotal 538,344 443,402 538,800 444,339
Cash dividends declared on stock:
5% cumulative preferred 269 269 538 538
Auction rate cumulative preferred 219 268 406 569
$5.875 cumulative preferred (Note 8) - 367 - 734
Common 21,000 - 21,000 -
Subtotal 21,488 904 21,944 1,841
Balance at end of period $516,856 $442,498 $516,856 $442,498
The accompanying notes are an integral part of these consolidated financial
statements.
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Louisville Gas and Electric Company and Subsidiary
Consolidated Balance Sheets
(Unaudited)
(Thousands of $)
ASSETS
June 30, December 31,
2004 2003 2002
UTILITY PLANT:
At original cost $3,730,273 $3,622,985$3,857,231 $3,804,183
Less: reserve for depreciation 1,507,498 1,463,6741,366,281 1,326,442
Net utility plant (Note 7) 2,222,775 2,159,3112,490,950 2,477,741
OTHER PROPERTY AND INVESTMENTS -
less reserve of $63 as of June 30, 20032004
and December 31, 2002 602 7642003 507 611
CURRENT ASSETS:
Cash 3,073 17,015and cash equivalents 13,984 1,706
Accounts receivable - less reserve of $2,125$3,515 as of
June 30, 20032004 and December 31, 20022003 (Note 4) 71,045
68,440114,072 84,585
Materials and supplies - at average cost:
Fuel (predominantly coal) 35,953 36,60032,843 25,260
Gas stored underground 21,745 50,26621,795 69,884
Other 23,493 25,65126,085 24,971
Prepayments and other 6,235 5,2982,981 5,281
Total current assets 161,544 203,270211,760 211,687
DEFERRED DEBITS AND OTHER ASSETS:
Unamortized debt expense 6,385 6,5328,653 8,753
Regulatory assets (Note 6) 154,520 153,446113,553 143,626
Long-term derivative asset (Note 3) 2,368 -
Other 33,079 37,75533,038 40,121
Total deferred debits and other assets 193,984 197,733157,612 192,500
Total assets $2,578,905 $2,561,078$2,860,829 $2,882,539
The accompanying notes are an integral part of these consolidated financial
statements.
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Louisville Gas and Electric Company and Subsidiary
Consolidated Balance Sheets
(Unaudited)
(Thousands of $)
CAPITALIZATION AND LIABILITIES
June 30, December 31,
2004 2003 2002
CAPITALIZATION:
Common stock, without par value -
Outstanding 21,294,223 shares $ 425,170 $ 425,170
Common stock expense (836) (836)
Additional paid-in capital 40,000 40,000
Retained earnings 442,498 409,319
Accumulated other comprehensive loss (42,063) (40,512)(34,444) (38,111)
Retained earnings 516,856 497,441
Total common equity 864,769 833,141946,746 923,664
Cumulative preferred stock 95,140 95,14070,425 70,425
Mandatorily redeemable preferred stock (Note 8) 22,500 22,500
Long-term debt (Note 9) 328,104 328,104
Long-term debt to associatedaffiliated company (Note 9) 100,000 -225,000 200,000
575,604 550,604
Total capitalization 1,388,013 1,256,3851,592,775 1,544,693
CURRENT LIABILITIES:
Current portion of mandatorily
redeemable preferred stock (Note 8) 1,250 1,250
Current portion of long-term debt 288,800 288,800246,200 246,200
Current portion of long-term debt to
affiliated company (Note 9) 50,000 -
Notes payable to parentaffiliated companies (Note 9) 171,732 193,05325,950 80,332
Accounts payable 96,699 122,77176,261 93,118
Accounts payable to affiliated companies (Note 10) 27,606 38,343
Accrued income taxes - 1,4502,605 11,472
Customer deposits 11,015 10,493
Accrued interest 2,146 1,999
Accrued interest to affiliated company (Note 10) 3,648 2,750
Other 20,077 19,53614,893 11,784
Total current liabilities 577,308 625,610461,574 497,741
DEFERRED CREDITS AND OTHER LIABILITIES:
Accumulated deferred income taxes - net 329,833 313,225344,337 337,704
Investment tax credit, in process of amortization 52,431 54,53647,535 50,329
Accumulated provision for pensions
and related benefits 134,096 224,703106,695 140,598
Customer advances for construction 9,835 10,26010,344 9,890
Asset retirement obligation (Note 8) 9,639 -10,064 9,747
Regulatory liabilities (Note 6) 44,719 52,424:
Accumulated cost of removal of utility plant 218,022 216,948
Other 49,511 51,822
Long-term derivative liability 19,700 17,115(Note 3) 12,198 15,966
Other 13,331 6,8207,774 7,101
Total deferred credits and other liabilities 613,584 679,083806,480 840,105
Total capital and liabilities $2,578,905 $2,561,078$2,860,829 $2,882,539
The accompanying notes are an integral part of these consolidated financial
statements.
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Louisville Gas and Electric Company and Subsidiary
Consolidated Statement of Cash Flows
(Unaudited)
(Thousands of $)
Six Months
Ended
June 30,
2004 2003 2002
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 35,02041,359 $ 36,19935,020
Items not requiring cash currently:
Depreciation and amortization 55,722 57,437 51,167
Deferred income taxes - net 4,909 12,876 9,507
Investment tax credit - net (2,794) (2,105)
(2,108)
Asset retirement obligationsValue Delivery Team (VDT) amortization (Note 8) 4,108 -6) 15,067 15,332
Mark-to-market financial instruments (6,136) 1,551
Other 22,332 20,9174,957 9,557
Changes in current assets and liabilities (19,580) 14,956 (21,917)
Changes in accounts receivable
securitization-net (Note 4) - (14,000) 16,100
Pension funding (83,100) -(Note 9 and 12) (34,492) (83,125)
Provision for post-retirement benefits (8,047) (4,201)
Gas supply clause (18,386) 13,7938,340 (19,834)
Earnings sharing mechanism 2,357 1,772
Combustion turbine litigation settlement 7,107 -
Other (501) (6,938)9,769 3,401
Net cash flows from operating activities 78,538 28,637 116,720
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of securities - (101)
Proceeds from sales of securities 103 163 -
Construction expenditures (64,958) (119,412) (69,524)
Net cash flows from investing activities (64,855) (119,249) (69,625)
CASH FLOWS FROM FINANCING ACTIVITIES:
Long-term borrowingborrowings from associatedaffiliated
company (Note 9) 125,000 100,000 -
Short-term borrowings from parentaffiliated
company (Note 9) 260,550 349,400
278,100Repayment of long-term borrowings from
affiliated company (50,000) -
Repayment of short-term borrowings from
parentaffiliated company (314,932) (370,737)
(280,744)
Issuance costs of pollution control bonds (133) - 119,067
Retirement of pollution control bonds - (120,000)
Payment of common dividends (21,000) -
Payment of preferred dividends (890) (1,993) (25,176)
Net cash flows from financing activities (1,405) 76,670 (28,753)
CHANGE IN CASH AND CASH EQUIVALENTS 12,278 (13,942)
18,342
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 1,706 17,015
2,112
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 3,07313,984 $ 20,4543,073
SUPPLEMENTAL DISCLOSURES:
Cash paid during the period for:
Income taxes $15,947 $ 16,68133,062 $ 15,947
Interest on borrowed money 8,539 10,705
13,019Interest to affiliated companies on
borrowed money 5,282 1,315
The accompanying notes are an integral part of these consolidated financial
statements.
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Louisville Gas and Electric Company and Subsidiary
Consolidated Statement of Retained Earnings
(Unaudited)
(Thousands of $)
Three Months Six Months
Ended Ended
June 30, June 30,
2003 2002 2003 2002
Balance at beginning of period $435,647 $413,514 $409,319 $393,636
Net income 7,755 15,256 35,020 36,199
Subtotal 443,402 428,770 444,339 429,835
Cash dividends declared on stock:
5% cumulative preferred 269 269 538 538
Auction rate cumulative preferred 268 413 569 842
$5.875 cumulative preferred 367 367 734 734
Common - 23,000 - 23,000
Subtotal 904 24,049 1,841 25,114
Balance at end of period $442,498 $404,721 $442,498 $404,721
The accompanying notes are an integral part of these consolidated financial
statements.
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Louisville Gas and Electric Company and Subsidiary
Consolidated Statements of Other Comprehensive Income
(Unaudited)
(Thousands of $)
Three Months Six Months
Ended Ended
June 30, June 30,
2004 2003 20022004 2003 2002
Net income $ 7,755 $15,256$17,140 $7,775 $41,359 $35,020
$36,199
LossesGains/(losses) on derivative instruments
and hedging activities (Note 3) (2,552) (3,939) (2,585) (2,430)
Income tax benefit related to items
of other comprehensive loss 1,021 1,576 1,034 973
Other comprehensive loss,- net of tax
benefit/(expense) of $(4,866), $1,021,
$(2,449) and $1,034, respectively
(Note 3) 7,299 (1,531) (2,363)3,667 (1,551) (1,457)
Other comprehensive income $ 6,224 $12,893(loss),
net of tax 7,299 (1,531) 3,667 (1,551)
Comprehensive income $24,439 $6,224 $45,026 $33,469 $34,742
The accompanying notes are an integral part of these consolidated financial
statements.
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Kentucky Utilities Company and Subsidiary
Consolidated Statements of Income
(Unaudited)
(Thousands of $)
Three Months Six Months
Ended Ended
June 30, June 30,
2004 2003 20022004 2003 2002
OPERATING REVENUES (Note 5 and Note 8)$232,369 $197,174 $196,020$479,755 $422,157 $405,044
OPERATING EXPENSES:
Fuel for electric generation 67,631 59,641 57,368137,515 125,964 115,639
Power purchased (Note 8)30,662 33,648 32,37671,969 74,848 67,292
Other operation expenses 36,536 38,130 36,20174,990 77,019
70,723
Maintenance 17,024 7,403 15,38628,908 36,369 26,945
Depreciation and amortization (Note 8)25,950 27,762 23,51551,199 51,912 46,574
Federal and state income taxes 17,461 7,467 7,36538,562 14,067 21,748
Property and other taxes 4,284 3,968 3,7628,537 8,163 7,876
Total operating expenses 199,548 178,019 175,973411,680 388,342 356,797
NET OPERATING INCOME 32,821 19,155 20,04768,075 33,815 48,247
Other income - net 2,694 1,6851,958 2,697 3,420 4,803
3,324Other income (expense) from
affiliated company (Note 10) 4 (3) 14 -
Interest chargesexpense (Note 3) 7,690 8,980 12,598 14,4623,682 6,582 4,417 11,113
Interest expense to affiliated
companies (Note 10) 3,536 1,108 7,083 1,485
NET INCOME $ 27,565 $ 14,159 $ 12,75260,009 $ 26,020
$ 37,109Consolidated Statements of Retained Earnings
(Unaudited)
(Thousands of $)
Three Months Six Months
Ended Ended
June 30, June 30,
2004 2003 2004 2003
Balance at beginning of period $623,050 $513,321 $591,170 $502,024
Net income 27,565 14,159 60,009 26,020
Subtotal 650,615 527,480 651,179 528,044
Cash dividends declared on stock:
4.75% cumulative preferred 237 237 475 475
6.53% cumulative preferred 327 327 653 653
Common 21,000 - 21,000 -
Subtotal 21,564 564 22,128 1,128
Balance at end of period $629,051 $526,916 $629,051 $526,916
The accompanying notes are an integral part of these consolidated financial
statements.
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Kentucky Utilities Company and Subsidiary
Consolidated Balance Sheets
(Unaudited)
(Thousands of $)
ASSETS
June 30, December 31,
2004 2003 2002
UTILITY PLANT:
At original cost $3,450,964 $3,280,762$3,645,814 $3,596,657
Less: reserve for depreciation 1,581,895 1,536,6581,377,302 1,355,055
Net utility plant (Note 7) 1,869,069 1,744,1042,268,512 2,241,602
OTHER PROPERTY AND INVESTMENTS -
less reserve of $130$131 as of June 30, 20032004 and
December 31, 2002 16,144 14,3582003 19,196 17,862
CURRENT ASSETS:
Cash 6,698 5,391and cash equivalents 9,792 4,869
Accounts receivable - less reserve of $939$673 and $800$672
as of June 30, 20032004 and December 31, 2002,2003,
respectively (Note 4) 46,251 49,58894,804 49,289
Materials and supplies - at average cost:
Fuel (predominantly coal) 41,438 46,09035,552 45,538
Other 27,888 26,40827,367 27,094
Prepayments and other 6,132 6,5849,866 13,100
Total current assets 128,407 134,061177,381 139,890
DEFERRED DEBITS AND OTHER ASSETS:
Unamortized debt expense 4,868 4,9914,349 4,481
Regulatory assets (Note 6) 61,398 65,40464,974 72,318
Long-term derivative asset 17,108 16,928(Note 3) 7,584 12,223
Other 16,973 18,53711,102 21,916
Total deferred debits and other assets 100,347 105,86088,009 110,938
Total assets $2,113,967 $1,998,383$2,553,098 $2,510,292
The accompanying notes are an integral part of these consolidated financial
statements.
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Kentucky Utilities Company and Subsidiary
Consolidated Balance Sheets (cont.)
(Unaudited)
(Thousands of $)
CAPITALIZATION AND LIABILITIES
June 30, December 31,
2004 2003 2002
CAPITALIZATION:
Common stock, without par value -
Outstanding 37,817,878 shares $ 308,140 $ 308,140
Common stock expense (322) (322)
Additional paid-in capital 15,000 15,000
Retained earnings 526,916 502,024
Accumulated other comprehensive loss (10,462) (10,462)(6,045) (6,031)
Retained earnings 629,051 591,170
Total common equity 839,272 814,380945,824 907,957
Cumulative preferred stock 39,727 39,727
Long-term debt 348,758 346,562(Note 9) 307,940 312,646
Long-term debt to associatedaffiliated company (Note 9) 100,000 -333,000 283,000
640,940 595,646
Total capitalization 1,327,757 1,200,6691,626,491 1,543,330
CURRENT LIABILITIES:
Current portion of long-term debt 87,130 91,930 153,930
Notes payable to parentaffiliated company (Note 9) 146,430 119,49053,181 43,231
Accounts payable 85,963 95,37448,356 69,947
Accounts payable to affiliated companies (Note 10) 15,727 26,426
Accrued income taxes 8,696 4,95510,454 7,104
Customer deposits 13,867 13,453
Accrued interest 1,972 2,024
Accrued interest to affiliated company (Note 10) 3,493 2,454
Other 24,779 21,44217,019 9,767
Total current liabilities 357,798 395,191251,199 266,336
DEFERRED CREDITS AND OTHER LIABILITIES:
Accumulated deferred income taxes - net 250,948 241,184275,860 261,258
Investment tax credit, in process of amortization 7,179 8,5004,832 5,859
Accumulated provision for pensions and
related benefits 104,376 110,92763,140 103,101
Customer advances for construction 1,624 1,564
Asset retirement obligation (Note 8) 19,087 -20,339 19,698
Regulatory liabilities (Note 6) 21,623 29,876:
Accumulated cost of removal of utility plant 266,218 261,942
Other 25,199 12,03630,908 38,027
Other 12,487 9,177
Total deferred credits and other liabilities 428,412 402,523675,408 700,626
Total capital and liabilities $2,113,967 $1,998,383$2,553,098 $2,510,292
The accompanying notes are an integral part of these consolidated financial
statements.
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Kentucky Utilities Company and Subsidiary
Consolidated Statement of Cash Flows
(Unaudited)
(Thousands of $)
Six Months
Ended
June 30,
2004 2003 2002
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 26,02060,009 $ 37,10926,020
Items not requiring cash currently:
Depreciation and amortization 51,199 51,912 46,574
Deferred income taxes - net 13,346 1,485 (3,106)
Investment tax credit - net (1,027) (1,321)
(1,478)
Asset retirement obligationsValue Delivery Team (VDT) amortization (Note 8) 9,460 -6) 5,877 6,153
Mark-to-market financial instruments (67) 2,016
Other 13,257 13,2371,632 14,548
Changes in current assets and liabilities (52,855) 4,628 (24,551)
Changes in accounts receivable securitization-net
(Note 4) - 2,300
Pension funding (Note 9 and 12) (43,409) (3,515)
Provision for post-retirement benefits (3,372) (3,036)
Earnings sharing mechanism 344 4,464
Combustion turbine litigation settlement 11,595 -
Other 12,862 8,2086,296 11,434
Net cash flows provided byfrom operating activities 49,568 114,788 78,293
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of securities (1,334) (1,786) -
Construction expenditures (76,338) (175,507) (47,844)
Net cash flows from investing activities (77,672) (177,293) (47,844)
CASH FLOWS FROM FINANCING ACTIVITIES:
Long-term borrowings from associatedaffiliated
company (Note 9) 50,000 100,000 -
Short-term borrowings from parentaffiliated
company (Note 9) 255,000 360,640 505,938
Repayment of short-term borrowings from
parentaffiliated company (245,050) (333,700) (534,138)
Issuance of pollution control bonds - 37,027
Retirement of pollution control bonds (4,800) (62,000)
(37,930)Refund of issuance costs of pollution
control bonds 5 -
Payment of common dividends (21,000) -
Payment of preferred dividends (1,128) (1,128)
Net cash flows from financing activities 33,027 63,812 (30,231)
CHANGE IN CASH AND CASH EQUIVALENTS 4,923 1,307
218
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 4,869 5,391
3,295
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 6,6989,792 $ 3,5136,698
SUPPLEMENTAL DISCLOSURES:
Cash paid during the period for:
Income taxes $13,763 $27,905$ 21,264 $ 13,763
Interest on borrowed money $11,045 $16,1207,562 11,045
Interest to affiliated companies on
borrowed money 6,070 724
The accompanying notes are an integral part of these consolidated financial
statements.
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Kentucky Utilities Company and Subsidiary
Consolidated Statement of Retained Earnings
(Unaudited)
(Thousands of $)
Three Months Six Months
Ended Ended
June 30, June 30,
2003 2002 2003 2002
Balance at beginning of period $513,321 $434,689 $502,024 $410,896
Net income 14,159 12,752 26,020 37,109
Subtotal 527,480 447,441 528,044 448,005
Cash dividends declared on stock:
4.75% cumulative preferred 237 237 475 475
6.53% cumulative preferred 327 327 653 653
Subtotal 564 564 1,128 1,128
Balance at end of period $526,916 $446,877 $526,916 $446,877
The accompanying notes are an integral part of these consolidated financial
statements.
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Kentucky Utilities Company and Subsidiary
Consolidated Statements of Other Comprehensive Income
(Unaudited)
(Thousands of $)
Three Months Six Months
Ended Ended
June 30, June 30,
2004 2003 20022004 2003 2002
Net income $27,565 $14,159 $12,752$60,009 $26,020
$37,109
GainsLosses on derivative instruments
and hedging activities (Note 3) - 1,828 - 1,828
Income tax expense related to items of
other comprehensive income - (731) - (731)
Other comprehensive gain, net of tax
benefit/(expense) of $18 and $5
respectively (Note 3) (27) - 1,097(14) - 1,097
Other comprehensive loss, net of tax (27) - (14) -
Comprehensive income $27,538 $14,159 $13,849$59,995 $26,020 $38,206
The accompanying notes are an integral part of these consolidated financial
statements.
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Louisville Gas and Electric Company and Subsidiary
Kentucky Utilities Company and Subsidiary
Notes to Consolidated Financial Statements
(Unaudited)
1. General
The unaudited consolidated financial statements include the accounts of
Louisville Gas and Electric Company and Subsidiary and Kentucky
Utilities Company and Subsidiary ("LG(each "LG&E" and "KU", or the
"Companies"). The common stock of each of LG&E and KU is wholly-owned
by LG&E Energy Corp.LLC ("LG&E Energy"). In the opinion of management, the
unaudited interim data includesfinancial statements include all adjustments,
consisting only of normal recurring adjustments, necessary for a fair
statement of consolidated financial position, results of operations,
comprehensive income and cash flows for the periods indicated. Certain
information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to Securities and
Exchange Commission ("SEC") rules and regulations, although the
Companies believe that the disclosures are adequate to make the
information presented not misleading.
See LG&E's and KU's Annual Reports on Form 10-K for the year ended
December 31, 20022003, for information relevant to the accompanying
financial statements, including information as to the significant
accounting policies of the Companies.
The accompanying financial statements for the three months and six
months ended June 30, 2002,2003, have been revised to conform withto certain
reclassifications in the current three months and six months ended June
30, 2003.2004. These reclassifications had no effectimpact on the balance sheet
net income, total assets or total capital and liabilitiesnet income, as previously reported.
2. On December 11, 2000,Mergers and Acquisitions
LG&E Energy was acquired by Powergen plc, now
known asand KU are each subsidiaries of LG&E Energy. In July 2002, E.ON
AG ("E.ON"), a German company, completed its acquisition of Powergen
Limited ("Powergen") for cash of approximately $3.2
billion or $24.85 per share and, the assumption of allformer parent company of LG&E Energy's
debt.Energy. As a
result, of the acquisition, LG&E Energy became a wholly-
owned indirect subsidiary of Powergen and LG&E and KU became indirect subsidiaries of Powergen.E.ON. E.ON had
announced its pre-conditional cash offer of 5.1 billion pounds sterling
($7.3 billion) for Powergen in April 2001.
Following the purchase of Powergen by E.ON, E.ON became a registered
holding company under the Public Utility Holding Company Act of 1935
("PUHCA"). As a result, E.ON, its utility subsidiaries, including LG&E
and KU, and certain of its non-utility subsidiaries are subject to
extensive regulation by the SEC under PUHCA with respect to issuances
and sales of securities, acquisitions and sales of certain utility
properties, and intra-system sales of certain goods and services. In
addition, PUHCA generally limits the ability of registered holding
companies to acquire additional public utility systems and to acquire
and retain businesses unrelated to the utility operations of the
holding company. LG&E and KU believe that they have adequate authority
(including financing authority) under existing SEC orders and
regulations to conduct their business. LG&E and KU will seek
additional authorization when necessary.
As contemplated in their regulatory filings in connection with the E.ON
acquisition, E.ON, Powergen and LG&E Energy completed an administrative
reorganization to move the LG&E Energy group from an indirect Powergen
subsidiary to an indirect E.ON subsidiary. This reorganization was
effective in March 2003. In early 2004, LG&E Energy began direct
reporting arrangements to E.ON.
- - New Page -
The utility operations (LG&E and KU) of LG&E Energy have continued
their separate identities and continue to serve customers in Kentucky,
Virginia and Tennessee under their existing names. The preferred stock
and debt securities of the utility
operationsLG&E and KU were not affected by this transaction resulting in the
utility operations' obligations tothese
transactions and LG&E and KU continue to file SEC reports.
Following the acquisition, Powergen became a registered holding company
under the Public Utility Holding Company Act of 1935 ("PUHCA"), and
LG&E and KU, as subsidiaries of a registered holding company, became
subject to additional regulation under PUHCA.
As a result of the Powergen acquisition and in order to comply with
PUHCA,Effective December 30, 2003, LG&E Energy Services Inc. ("LG&E Services") was formed as a
subsidiaryLLC became the successor, by
assignment and subsequent merger, to all the assets and liabilities of
LG&E Energy and became operational on January 1, 2001.Corp. Following the conversion, LG&E Services provides certain services to affiliated entities,
including LG&E and KU, at cost, as required under PUHCA. On January 1,
2001, approximately 1,000 employees, primarily from LG&E Energy LG&E
and KU, were moved to LG&E Services.
On July 1, 2002, a German company, E.ON AG ("E.ON"), completed its
acquisition of Powergen. E.ON had announced its pre-conditional cash
offer of 5.1 billion pounds sterling ($7.3 billion) for Powergen on
April 9, 2001. Following the acquisition, LG&E and KU became indirect
subsidiaries of E.ON and E.ON became a
registered holding company under PUHCA.
As contemplated in their regulatory filings in connection with
the E.ON acquisition, E.ON, Powergen and LG&E Energy have completed an
administrative reorganization to move the LG&E Energy group from an
indirect Powergen subsidiary to an indirect E.ON subsidiary. This
reorganization was effective March 2003.
- Page 13 -
No costs associated with the Powergen acquisition or the E.ON
acquisition nor any of the effects of purchase accounting have been
reflected in the financial statements of LG&E or KU.
3. Financial Instruments
The Companies use interest rate swaps to hedge exposure to market
fluctuations in certain of their debt instruments. Pursuant to the
Companies' policies, use of these financial instruments is intended to
mitigate risk, earnings and earningscash flow volatility and is not speculative
in nature. Management has designated all of the Companies' interest
rate swaps as hedge instruments. Financial instruments designated as
cash flow hedges have resulting gains and losses recorded within other
comprehensive income and stockholders' equity. To the extent a
financial instrument designated as a cash flow hedge or the underlying
item being hedged is prematurely terminated or the hedge becomes
ineffective, the resulting gains or losses are reclassified from other
comprehensive income to net income. Financial instruments designated
as fair value hedges and the underlying hedged items are periodically
marked to market with the resulting net gains and losses recorded
directly into net income to correspond with
incomeincome. Upon termination of any fair value hedges,
the resulting gain or expense recognized from changes in market value of the items
being hedged.loss is recorded into net income.
As of June 30, 2003,2004, LG&E had fixedwas party to various interest rate swaps covering $100.3 million
inswap
agreements with aggregate notional amounts of variable rate debt and with$228.3 million. Under
these swap agreements, LG&E paid fixed rates ranging
from 4.309% to 5.495%. The averageaveraging 4.38% and
received variable raterates based on LIBOR or the debt during
the three months and six months endedBond Market Association's
municipal swap index averaging 1.01% at June 30, 2003 was 1.13% and
1.16%, respectively.2004. The swapsswap
agreements in effect at June 30, 2004 have been designated as cash flow
hedges and expiremature on various dates ranging from February 2005 through November 2020.to 2033. The hedges werehave
been deemed to be fully effective resulting in a pretax lossgain of $12.2
million and $6.1 million for the three months and six months ended June
30, 2003 of $2.6 million
and $2.6 million,2004, respectively, recorded in other comprehensive income. Upon
expiration of these hedges, the amount recorded in other comprehensive
income will be reclassified into earnings. The amountamounts expected to be
reclassified from other comprehensive income to earnings in the next
twelve months is immaterial due to the long-term nature of
the swaps.are immaterial.
As of June 30, 2003,2004, KU had variablewas party to various interest rate swaps covering $153
million inswap
agreements with aggregate notional amounts of $103.0 million. Under
these swap agreements, KU paid variable rates based on either LIBOR or
the Bond Market Association's municipal swap index averaging 2.23%, and
received fixed rate debt. The average variable
rate on these swaps during the three months and six months endedrates averaging 7.74% at June 30, 2003 was 1.93% and 1.94%, respectively.2004. The underlying debt has
fixed rates ranging from 5.75% to 7.92%. The swapsswap
agreements in effect at June 30, 2004 have been designated as fair
value hedges and expiremature on various dates ranging from May
2007 through Juneto 2025. During the
three months and six months ended June 30, 2003,2004, the effect of marking
these financial instruments and the underlying debt to market resulted
in a net pretax lossgain/(loss) of $2.2$(0.5) million and $2.0$0.7 million
(representing the hedges' ineffectiveness), respectively, recorded as an increasea
decrease/(increase) in interest expense.
Interest rate swaps hedge interest rate risk on the underlying debt.
Under SFAS No. 133, Accounting for Derivative Instruments and Hedging
Activities, in addition to swaps being marked to market, the item being
hedged using a fair value hedge must also be marked to market.
Consequently at June 30, 2004, KU's debt reflects an increase by a
$10.0 million mark-to-market adjustment.
- - New Page -
In February 2004, KU terminated the swap it had in place related to
its Series 9 pollution control bonds. The notional amount of the
terminated swap was $50 million and KU received a payment of $2.0
million as part of the termination, resulting in a gain of $0.8
million.
4. Accounts Receivable Securitization Programs
In February 2001, LG&E and KU participate inimplemented accounts receivable
securitization programs. The purpose of these programs iswas to enable
the utilitiesLG&E and KU to accelerate the receipt of cash from the collection of
retail accounts receivable, thereby reducing dependence upon more
costly sources of working capital.
The
securitization programs allow for a percentage of eligible receivables to
be sold. Eligible receivables are generally all receivables associated
with retail sales that have standard terms and are not past due.In January 2004, LG&E and KU are able to terminate these programs at any time without penalty. If
there is a significant deterioration in the payment record of the
receivables by retail customers or if the Companies fail to meet certain
covenants of the programs, the programs may terminate at the election of
the financial institutions. In this case, payments from retail customers
would first be used to repay the financial institutions participating in
theterminated their accounts receivable
securitization programs and would then be available for use by the Companies.
As part of these programs,replaced them with intercompany loans from
an E.ON affiliate. In May 2004, LG&E and KU sold retaildissolved their inactive
accounts receivables
to wholly ownedreceivable securitization-related subsidiaries, LG&E
Receivables LLC ("LG&E R") and KU Receivables LLC ("KU R"). Simultaneously, LG&E R and KU R entered into
two separate three-yearLLC. The accounts receivable
securitization facilities
with two financial institutions and their affiliates whereby LG&E R and
- - Page 14 -
KU R can sell, on a revolving basis, an undivided interest in certainsecuritization-related subsidiaries were the only subsidiaries of their receivables and receive up to $75 million and $50 million,
especttively, from an unrelated third party purchaser. The effective
cost of the receivables programs is comparable to the Companies' lowest
cost source of capital, and is based on prime rated commercial paper.
LG&E and KU retain servicing rights of the sold receivables through
separate servicing agreements with the third party purchasers. LG&E
and KU have obtained opinions from independent legal counsel indicating
these transactions qualify as true sales of receivables. As of June
30, 2003 and December 31, 2002, LG&E's outstanding program balances
were $49.2 million and $63.2 million, respectively, and KU's balance
for both periods was $49.3 million.
The allowance for doubtful accounts associated with the eligible
securitized receivables was $2.1 million and $1.8 million for LG&E at
June 30, 2003 and December 31, 2002 and $0.7 million and $0.5 million
for KU at June 30, 2003 and December 31, 2002. Charge offs were
immaterial for LG&E
and KU.
Management believes that the risk5. Segment of uncollectibility associated with the sold receivables is minimal.
5. ExternalBusiness
LG&E's revenues and intersegment revenues (related party transactions between
LG&E and KU) andnet income by business segment for the three and
six months ended June 30, 2004 and 2003, follow (in thousands of $):follow:
Three Months Ended June 30, 2003
External Intersegment
Revenues Revenues Net Income (Loss)
LG&E electric $163,067 $10,850 $ 9,457
LG&E gas 41,456 - (1,682)
Total $204,523 $10,850 $ 7,775
KU electric $187,963 $ 9,211 $14,159 Six Months Ended
June 30, June 30,
(in thousands) 2004 2003 External Intersegment
Revenues Revenues Net Income2004 2003
LG&E electric $333,116 $27,820 $27,489Electric
Revenues 192,566 173,917 390,815 360,936
Net income 20,441 9,457 36,384 27,489
LG&E gasGas
Revenues 43,646 41,456 207,360 181,280
-Net income (3,301) (1,682) 4,975 7,531
Total
$514,396 $27,820 $35,020
KU electric $398,482 $23,675 $26,020
ExternalRevenues 236,212 215,373 598,175 542,216
Net income 17,140 7,775 41,359 35,020
6. Regulatory Assets and intersegment revenues (related party transactions between
LG&E and KU) and income by business segment for the three and six
months ended June 30, 2002, follow (in thousands of $):
Three Months Ended June 30, 2002
External Intersegment
Revenues Revenues Net Income (Loss)
LG&E electric $175,375 $ 9,850 $17,658
LG&E gas 30,938 - (2,402)
Total $206,313 $ 9,850 $15,256
KU electric $187,925 $ 8,095 $12,752
- - Page 15 -
Six Months Ended June 30, 2002
External Intersegment
Revenues Revenues Net Income
LG&E electric $323,208 $22,903 $28,750
LG&E gas 148,056 - 7,449
Total $471,264 $22,903 $36,199
KU electric $382,168 $22,876 $37,109
6.Liabilities
The following regulatory assets and liabilities were included in
theLG&E's balance sheet of LG&E and KUsheets as of June 30, 20032004 and December 31, 2002 (in
thousands of $):2003:
Louisville Gas and Electric
(Unaudited)
June 30, December 31,
(in thousands) 2004 2003 2002
REGULATORY ASSETS:
VDT costs $ 82,87052,743 $ 98,044
Unamortized loss on bonds 18,267 18,84367,810
Gas supply adjustments due from customers 32,100 13,71411,930 22,077
Unamortized loss on bonds 20,802 21,333
Earnings sharing mechanism (ESM) provision 10,728 12,50010,002 12,359
Merger surcredit 5,529 6,220
Asset retirement obligation 5,589 -
LG&E/KU merger costs - 1,815
One(ARO) 6,480 6,015
Gas performance-based ratemaking (PBR) 3,378 5,480
Other (including fuel adjustment clause (FAC),
demand side management (DSM), etc.) 2,689 2,332
Total regulatory assets $ 113,553 $ 143,626
Accumulated cost of removal of
utility costs 141 954
Manufactured gas sites 1,605 1,757
Other 3,220 5,819
Total $154,520 $153,446
REGULATORY LIABILITIES:plant $(218,022) $(216,948)
Deferred income taxes - net $ 41,804 $ 45,536(39,457) (41,180)
Gas supply adjustments due to customers 1,555 3,154(4,999) (6,805)
DSM (2,904) (1,706)
Other 1,360 3,734(including environmental cost recovery
(ECR), ARO, FAC and ESM) (2,151) (2,131)
Total $ 44,719 $ 52,424regulatory liabilities $(267,533) $(268,770)
- New Page -
LG&E currently earns a return on all regulatory assets except for gas
supply adjustments, ESM, gas performance-based ratemaking and FAC, all
of which are separate rate mechanisms with recovery within twelve
months. Additionally, no current return is earned on the ARO
regulatory asset. This regulatory asset will be offset against the
associated regulatory liability, ARO asset, and ARO liability at the
time the underlying asset is retired.
The following regulatory assets and liabilities were included in KU's
balance sheets as of June 30, 2004 and December 31, 2003:
Kentucky Utilities
(Unaudited)
June 30, December 31,
(in thousands) 2004 2003 2002
REGULATORY ASSETS:
VDT costs $ 32,322 $38,37520,574 $ 26,451
Unamortized loss on bonds 9,018 9,456
Earnings sharing mechanism10,127 10,511
ESM provision 9,036 13,500
Asset retirement obligation 9,714 -
LG&E/KU merger costs - 2,046
One12,038 12,382
Merger surcredit 4,280 4,815
ARO 12,095 11,322
FAC 2,865 4,298
Other 2,995 2,539
Total regulatory assets $ 64,974 $ 72,318
Accumulated cost of removal of
utility costs - 873
Other 1,308 1,154
Total $ 61,398 65,404
REGULATORY LIABILITIES:plant $(266,218) $(261,942)
Deferred income taxes - net $ 20,575 28,854(22,802) (24,058)
ARO (1,288) (1,162)
Spare parts (1,071) (1,055)
ECR (3,671) (9,189)
Other 1,048 1,022(including FAC and DSM) (2,076) (2,563)
Total $ 21,623 $29,876regulatory liabilities $(297,126) $(299,969)
KU currently earns a return on all regulatory assets except for ESM and
FAC, both of which are separate recovery mechanisms with recovery
within twelve months. Additionally, no current return is earned on the
ARO regulatory asset. This regulatory asset will be offset against the
associated regulatory liability, ARO asset, and ARO liability at the
time the underlying asset is retired.
7. Utility Plant
KU retired two steam generating units, Green River Units 1 and 2, in
the amount of $17.2 million, from its books as of March 31, 2004.
Approximately $4 million in common assets, which are shared by Green
River Units 3 and 4, remain on KU's books. The common assets will
remain on KU's books until the final retirement of Green River Units 3
and 4. The gross book value of Green River Units 1 and 2 was charged
to the accumulated reserve for depreciation in accordance with FERC
regulations and no gain or loss was recorded. A partial redemption of
pollution control Series 14 bonds totaling $4.8 million was required in
the second quarter as a result of the retirement (see Note 9).
- - New Page 16 -
7.
The following data represent shares of jointly ownedjointly-owned additions to the
Trimble County plant for four combustion turbines ("CT's") as of June
30, 2003:2004. Trimble County CT Units 7 and 8 began commercial operation
on June 1, 2004. The addition to LG&E plant in service was $37.0
million and for KU the addition was $63.2 million. Trimble County CT
Units 9 and 10 began commercial operation on July 1, 2004.
($ in millions) LG&E KU Total
Trimble CT 7
Ownership % 37% 63% 100%
Mw capacity 237 403 640
Plant under construction $52 $92 $144
Depreciation - - -59 101 160
Net book value $52 $92 $144$18.7 $32.1 $50.8
Trimble CT 8
Ownership % 37% 63% 100%
Mw capacity 59 101 160
Net book value $18.6 $31.9 $50.5
Trimble CT 9
Ownership % 37% 63% 100%
Mw capacity 59 101 160
Net book value
(in construction work in progress) $18.7 $32.0 $50.7
Trimble CT 10
Ownership % 37% 63% 100%
Mw capacity 59 101 160
Net book value
(in construction work in progress) $18.6 $32.0 $50.6
8. Statement of FinancialNew Accounting Standard (SFAS) No. 143, Accounting
for Asset Retirement Obligations, was issued in 2001. SFAS No. 143
establishes accounting and reporting standards for obligations associated
with the retirement of tangible long-lived assets and the associated asset
retirement costs.
The effective implementation date for SFAS No. 143 wasPronouncements
FIN 46
In January 1, 2003.
Management has calculated the impact of SFAS No. 143 and the recently
released FERC final rule, Accounting, Financial Reporting, and Rate
Filing Requirements for Asset Retirement Obligations. As of June 30,
2003, LG&E recorded asset retirement obligation (ARO) assets in the
amount of $4.5 million and liabilities of $9.6 million. LG&E recorded
offsetting regulatory assets of $5.6 million, pursuant to regulatory
treatment prescribed under SFAS No. 71, Accounting for the Effects of
Certain Types of Regulation. As of June 30, 2003, KU recorded ARO
assets in the amount of $8.6 million and liabilities of $19.1 million.
KU recorded offsetting regulatory assets of $9.7 million, pursuant to
regulatory treatment prescribed under SFAS No. 71. LG&E and KU AROs
are primarily related to final retirement of generating units. Assets
with associated AROs will no longer include a cost of removal component
within their depreciation rate. Assets without associated AROs will
continue to be depreciated including a cost of removal component
within the depreciation rate.
Had SFAS No. 143 been in effect for the 2002 reporting period, the
Companies would have established asset retirement obligations as
described in the following table (in thousands of $):
LG&E KU
Provision at January 1, 2002 $8,752 $17,331
Accretion expense 578 1,146
Provision at December 31, 2002 $9,330 $18,477
For the three months and six months ended June 30, 2003, LG&E recorded
ARO accretion expense of $154,000 and $308,000, respectively, ARO
depreciation expense of $29,000 and $58,000, respectively, and an
offsetting regulatory credit in the income statement of $183,000 and
$366,000, respectively. For the three months and six months ended June
30, 2003, KU recorded ARO accretion expense of $306,000 and $612,000,
respectively, ARO depreciation expense of $44,000 and $88,000,
respectively, and an offsetting regulatory credit in the income
statement of $350,000 and $700,000, respectively. The recording of the
regulatory credit is pursuant to regulatory treatment prescribed under
SFAS No. 71, Accounting for the Effects of Certain Types of Regulation.
SFAS No. 143 has no impact on the results of the operation of the
Companies.
The Companies adopted EITF No. 98-10, Accounting for Energy Trading and
Risk Management Activities, effective January 1, 1999. This
pronouncement required that energy trading contracts be marked to
market on the balance sheet, with the gains and losses shown net in the
income statement.
Effective January 1, 2003, the Companies adopted EITF No. 02-03, Issues
Involved in Accounting for Derivative Contracts Held for Trading
Purposes and Contracts Involved in Energy Trading and Risk Management
Activities. EITF No. 02-03 established the following:
- Rescinded EITF No. 98-10,
- Contracts that do not meet the definition of a derivative under
SFAS No.133 should not be marked to fair market value, and
- - Page 17 -
- Revenues should be shown in the income statement net of costs
associated with trading activities, whether or not the trades
are physically settled.
With the rescission of EITF No. 98-10, energy trading contracts that do
not also meet the definition of a derivative under SFAS No. 133 must be
accounted for as executory contracts. Contracts previously recorded at
fair value under EITF No. 98-10 that are not also derivatives under
SFAS No. 133, Accounting for Derivative Instruments and Hedging
Activities, must be restated to historical cost through a cumulative
effect adjustment. The rescission of this standard had no impact on
financial position or results of operations of the Companies since all
contracts marked to market under EITF No. 98-10 are also within the
scope of SFAS No. 133.
As a result of EITF No. 02-03, the Companies have netted the power
purchased expense for trading activities against electric operating
revenue to reflect this accounting change. The Companies applied this
guidance to all prior periods, which had no impact on previously
reported net income or common equity.
Three Months Six Months
Ended Ended
June 30, June 30,
2003 2002 2003 2002
LG&E:
Gross electric operating revenues $180,637 $191,813 $375,930 $358,059
Less costs reclassified
from power purchased 6,720 6,588 14,994 11,948
Net electric operating
revenues reported $173,917 $185,225 $360,936 $346,111
KU:
Gross electric operating revenues $204,675 $203,555 $438,822 $418,723
Less costs reclassified
from power purchased 7,501 7,535 16,665 13,679
Net electric operating
revenues reported $197,174 $196,020 $422,157 $405,044
Three Months Six Months
Ended Ended
June 30, June 30,
2003 2002 2003 2002
LG&E:
Gross power purchased $ 24,033 $ 22,064 $ 56,434 $ 45,645
Less costs reclassified to revenues 6,720 6,588 14,994 11,948
Net power purchased reported $ 17,313 $ 15,476 $ 41,440 $ 33,697
KU:
Gross power purchased $ 41,149 $ 39,911 $ 91,513 $ 80,971
Less costs reclassified to revenues 7,501 7,535 16,665 13,679
Net power purchased reported $ 33,648 $ 32,376 $ 74,848 $ 67,292
In May 2003, the Financial Accounting Standards Board ("FASB")
issued Financial Accounting Standards Board Interpretation No. 46,
Consolidation of Variable Interest Entities, an Interpretation of ARB
No. 51 ("FIN 46"). FIN 46 required certain variable interest entities
to be consolidated by the primary beneficiary of the entity if the
equity investors in the entity do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk
for the entity to finance its activities without additional
subordinated financial support from other parties. FIN 46 was
effective immediately for all new variable interest entities created or
acquired after January 31, 2003.
In December 2003, FIN 46 was revised, delaying the effective dates for
certain entities created before February 1, 2003, and making other
amendments to clarify application of the guidance. For potential
variable interest entities other than special purpose entities, the
revised FIN 46 ("FIN 46R") is now required to be applied no later than
the end of the first fiscal year or interim reporting period ending
after March 15, 2004. For all special purpose entities created prior
to February 1, 2003, FIN 46R is now required to be applied at the end
of the first interim or annual reporting period ending after December
15, 2003. FIN 46R may be applied prospectively with a cumulative-
effect adjustment as of the date it is first applied, or by restating
previously issued financial statements with a cumulative-effect
adjustment as of the beginning of the first year restated. FIN 46R
also requires certain disclosures of an entity's relationship with
variable interest entities.
Both LG&E and KU hold investment interests in Ohio Valley Electric
Corporation ("OVEC"), and KU holds an investment interest in Electric
Energy, Inc. ("EEI"). Neither LG&E nor KU are the primary beneficiary
of OVEC or EEI, and thus neither are consolidated into the financial
statements of LG&E or KU.
- New Page -
LG&E, KU and ten other electric utilities are participating owners of
OVEC, located in Piketon, Ohio. OVEC owns and operates two power
plants that burn coal to generate electricity, Kyger Creek Station in
Ohio and Clifty Creek Station in Indiana. LG&E's share is 7%,
representing approximately 155 Mw of generation capacity and KU's share
is 2.5%, approximately 55 Mw of generation capacity.
LG&E's and KU's original investments in OVEC were made in 1952. LG&E's
investment in OVEC is the equivalent of 4.9% of OVEC's common stock and
KU's investment is the equivalent of 2.5% of OVEC's common stock.
LG&E's and KU's investments in OVEC are accounted for under the cost
method of accounting. As of June 30, 2004, LG&E's and KU's investments
in OVEC totaled $0.5 million and $0.3 million, respectively. LG&E's
and KU's maximum exposure to loss as a result of their involvement with
OVEC is limited to the value of their investments. In the event of the
inability of OVEC to fulfill its power provision requirements, LG&E and
KU would substitute such power supply with either owned generation or
market purchases and would generally recover associated incremental
costs through regulatory rate mechanisms. See Note 11 and Part II,
Item 1, for further discussion of developments regarding LG&E's and
KU's ownership interests and power purchase rights.
KU owns 20% of the common stock of EEI, which owns and operates a 1,000-
Mw generating station in southern Illinois. KU is entitled to take 20%
of the available capacity of the station. Purchases from EEI are made
under a contractual formula which has resulted in costs which were and
are expected to be comparable to the cost of other power purchased or
generated by KU. Such power equated to approximately 9% of KU's net
generation system output in 2003.
KU's original investment in EEI was made in 1953. KU's investment in
EEI is accounted for under the equity method of accounting and, as of
June 30, 2004, totaled $11.9 million. KU's maximum exposure to loss as
a result of its involvement with EEI is limited to the value of its
investment. In the event of the inability of EEI to fulfill its power
provision requirements, KU would substitute such power supply with
either owned generation or market purchases and would generally recover
associated incremental costs through regulatory rate mechanisms.
SFAS No. 150
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and
Equity. SFAS No. 150 iswas effective immediately for financial
instruments entered into or modified after May 31, 2003, and otherwise
iswas effective for interim reporting periods beginning after June 15,
2003.
- - Page 18 -As of June 30, 2004, LG&E has existinghad 237,500 shares of $5.875 series
mandatorily redeemable preferred stock
with 250,000 shares outstanding having a current
redemption price of $100 per share. The preferred stock has a sinking
fund requirement sufficient to retire a minimum of 12,500 shares on
July 15th15 of each year commencing with July 15, 2003, and a minimum ofthe remaining
187,500 shares on July 15, 2008 at $100 per share. LG&E redeemed 12,500 shares in
accordance with these provisions on July 15, 2003. Beginning with the
three months ended September 30, 2003, LG&E will reclassify, at fair
value,reclassified its $5.875
series preferred stock as long-term debt with the minimum shares
mandatorily redeemable within one year classified as current portion of long-term debt.current.
Dividends accrued beginning July 1, 2003 will beare charged as interest
expense. On July 15, 2004, LG&E redeemed 12,500 shares as required at
a price of $100 per share.
KU has no financial instruments that fall within the scope of SFAS No.
150.
FSP 106-2
In May 2004, the FASB finalized FASB Staff Position ("FSP") 106-2,
Accounting and Disclosure Requirements Related to the Medicare
- - New Page -
Prescription Drug, Improvement and Modernization Act of 2003 ("Medicare
Act") with guidance on accounting for subsidies provided under the
Medicare Act which became law in December 2003. FSP 106-2 is effective
for the first interim or annual period beginning after June 15, 2004.
KU will adopt FSP 106-2 in the third quarter of 2004. LG&E's medical
plan does not provide a benefit that is actuarially equivalent to
Medicare Part D; therefore, FSP 106-2 is not expected to have an impact
on LG&E.
On the basis of actuarial estimates, the Medicare Act will result in an
overall reduction of the accumulated postretirement benefit obligation
("APBO") for postretirement health and life insurance benefits for KU
amounting to approximately $5.0 million as of January 1, 2004.
Accordingly, KU's net periodic postretirement benefit cost for 2004
will be reduced by approximately $0.7 million. The APBO and the net
periodic postretirement benefit cost as of and for the periods ending
June 30, 2004 and 2003 do not reflect amounts associated with the
subsidies provided by the Medicare Act.
9. OnShort-Term and Long-Term Debt
Under the provisions for LG&E's variable-rate pollution control bonds,
Series S, T, U, BB, CC, DD and EE, and KU's variable-rate pollution
control bonds Series 10, 12, 13, 14 and 15, the bonds are subject to
tender for purchase at the option of the holder and to mandatory tender
for purchase upon the occurrence of certain events, causing the bonds
to be classified as current portion of long-term debt in the
Consolidated Balance Sheets. The average annualized interest rate for
these bonds during the three months ending June 30, 2004 was 1.11% for
the LG&E bonds and 1.18% for the KU bonds.
In January 2004, LG&E entered into two long-term notes from Fidelia
Corporation ("Fidelia"), an E.ON financing subsidiary, one totaling $25
million with an interest rate of 4.33% that matures in January 2012,
and a one-year note totaling $100 million with an interest rate of
1.53%. The loans are secured by a lien subordinated to the first
mortgage bond lien. The proceeds were used to fund a pension
contribution and to repay other debt obligations. In April 2004, LG&E
prepaid $50 million of the $100 million 1.53% note payable to Fidelia.
The prepayment was paid out of cash balances and there was no
prepayment fee.
In January 2004, KU entered into an unsecured long-term loan from
Fidelia totaling $50 million with an interest rate of 4.39% that
matures in January 2012. The proceeds were used to fund a pension
contribution and to repay other debt obligations.
In May 2004, KU redeemed $4.8 million of its Series 14 pollution
control bonds which were initially issued in the amount of $7.2
million.
LG&E maintains five bilateral lines of credit totaling $185 million
that mature in 2005. There was no outstanding balance under these
facilities at June 30, 2003,2004. Management expects to renew these
facilities as they expire.
LG&E and KU each borrowed $100 million fromparticipate in an E.ON
affiliate. The termintercompany money pool agreement wherein
LG&E Energy and KU make funds available to LG&E at market-based rates
(based on an index of each loan is ten years andhighly rated commercial paper issues as of the
interest rate is
4.55%. KU had a first mortgage bond of $62 million that matured in
June 2003prior month end) up to $400 million. Likewise, LG&E Energy and LG&E
has a first mortgage bond of $42.6 million maturing
in August 2003. The Companies expect to refinance these bonds, along
with a portion of the notes payable to parent, with additional long-
term intercompany loans.
The Companies participate in a money pool whereby LG&E Energy can make funds available to KU at market-based rates up to $400 million.
- - New Page -
LG&E had $26.0 million in money pool loans from LG&E Energy (included
in "Notes payable to affiliated companies") at an average rate of 1.04%
at June 30, 2004, and $171.7 million at market-based rates for eachan average rate of 1.21% at
June 30, 2003. The balance of the money pool loans from LG&E Energy to
KU (included in "Notes payable to affiliated companies") was $53.2
million at an average rate of 1.04% and KU.$146.4 million at an average
rate of 1.21% at June 30, 2004 and 2003, respectively. The amount
available to LG&E under the money pool agreement at June 30, 2004 was
$374.0 million. The amount available to KU under the money pool
agreement at June 30, 2004 was $346.8 million. LG&E Energy maintains
facilities of $200 million with a Powergen subsidiary andrevolving credit facility totaling $150 million with an E.ON
affiliate to ensure funding availability for the money pool. There was $82LG&E
Energy had an outstanding balance of $69.7 million outstandingat an average rate
of 1.79% under the Powergen line of credit and the balance under
E.ON affiliates' line totaled $74.9 millionthis facility as of June 30, 2003.2004 and availability of
$80.3 million remained.
10.Related Party Transactions
LG&E, KU, certain subsidiaries of LG&E Energy has provided loansand other subsidiaries of
E.ON engage in related-party transactions. Transactions among LG&E, KU
and LG&E Energy subsidiaries are eliminated upon consolidation of LG&E
Energy subsidiaries. Transactions between LG&E or KU and E.ON
subsidiaries are eliminated upon consolidation of E.ON subsidiaries.
These transactions are generally performed at cost and are in
accordance with the SEC regulations under the PUHCA and the applicable
Kentucky Public Service Commission ("Kentucky Commission") regulations.
Accounts payable to and receivable from related parties are netted and
presented as accounts payable to affiliated companies on the balance
sheets of LG&E and KU, as allowed due to the right of offset.
Obligations related to intercompany debt arrangements with LG&E Energy
and Fidelia are presented as separate line items on the balance sheet,
as appropriate. The significant related-party transactions are
disclosed below.
Electric Purchases
LG&E and KU intercompany electric revenues and purchased power expense
(including LG&E Energy Marketing Inc. ("LEM")) for the three months and
six months ended June 30, 2004 and 2003 were as follows:
Three months ended Six months ended
June 30, June 30,
(in thousands) 2004 2003 2004 2003
LG&E
Electric operating revenues
from KU $8,426 $10,850 $30,504 $27,820
Electric operating revenues
from LEM 622 1,077 1,350 8,226
Purchased power from KU 9,114 9,211 30,699 23,675
KU
Electric operating revenues
from LG&E $9,114 $9,211 $30,699 $23,675
Electric operating revenues
from LEM 390 318 550 2,100
Purchased power from LG&E 8,426 10,850 30,504 27,820
Interest Charges
LG&E intercompany interest income and expense for the three months and
six months ended June 30, 2004 and 2003 were as follows:
Three months ended Six months ended
June 30, June 30,
(in thousands) 2004 2003 2004 2003
Interest to affiliate
(money pool) $ (13) $ 536 $ 35 $1,269
Interest to affilitate
(Fidelia loans) 2,986 758 6,069 758
Interest to affiliate (KU) 4 (3) 14 -
Interest from affiliate (KU) - 1 - 5
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KU intercompany interest income and expense for the three months and
six months ended June 30, 2004 and 2003 were as follows:
Three months ended Six months ended
June 30, June 30,
(in thousands) 2004 2003 2004 2003
Interest to affiliate
(money pool) $ 75 $349 $ 219 $722
Interest to affiliate
(Fidelia loans) 3,461 758 6,864 758
Interest to affiliate (LG&E) - 1 - 5
Interest from affiliate (LG&E) 4 (3) 14 -
Other Intercompany Billings
Other intercompany billings (including LG&E Energy Services Inc. ("LG&E
Services")) related to LG&E and KU throughfor the money pool that
total $171.7 millionthree months and $146.4 million, respectively, as ofsix months
ended June 30, 2003. These borrowings carried an interest rate2004 and 2003 were as follows:
Three months ended Six months ended
June 30, June 30,
(in thousands) 2004 2003 2004 2003
LG&E Services billings to LG&E $60,390 $61,404 $98,552 $88,034
LG&E Services billings to KU 44,613 64,915 75,188 86,409
LG&E billings to LG&E Services 1,490 1,281 4,525 6,143
LG&E billings to KU 33,796 39,111 94,509 91,760
KU billings to LG&E 31,683 22,203 83,516 55,795
KU billings to LG&E Services 1,097 770 3,915 7,864
11.Commitments and Contingencies
Except as discussed in this Quarterly Report on Form 10-Q, material
changes have not occurred in the current status of various commitments
or contingent liabilities from that discussed in the Companies' Annual
Report on Form 10-K for the year ended December 31, 2003 (including in
Notes 3 and 11 to the financial statements of LG&E and KU contained
therein and incorporated herein by reference) or Quarterly Report on
Form 10-Q for the quarter ended March 31, 2004.
Electric and Gas Rates Cases
In December 2003, LG&E and KU filed applications with the Kentucky
Commission requesting increases in LG&E's and KU's electric rates and
LG&E's gas rates. The Companies requested general adjustments in
electric rates and LG&E requested general adjustments in gas rates
based on the twelve-month test year ended September 30, 2003. The
revenue increases requested by LG&E were $63.8 million for electric and
$19.1 million for gas. The revenue increase requested by KU was $58.3
million.
On June 30, 2004, the Kentucky Commission issued an indexorder approving
increases in the base electric and gas rates of highly rated commercial paper issuers asLG&E and the base
electric rates of KU. The Kentucky Commission's order largely accepted
proposed settlement agreements filed in May 2004 by LG&E, KU and a
majority of the prior month endparties to the rate case proceedings. The rate
increases took effect on July 1, 2004.
In the Kentucky Commission's order, (a) LG&E was granted increases in
annual base electric rates of 1.21% at June 30,approximately $43.4 million (7.7%) and in
annual base gas rates of approximately $11.9 million (3.4%) and (b) KU
was granted an increase in annual base electric rates of approximately
$46.1 million (6.8%). Other provisions of the order include decisions
on certain depreciation, gas supply clause, ECR and VDT amounts or
mechanisms and a termination of the ESM with respect to all periods
after 2003. 10.InThe order also provided for a recovery before March 31,
2005 by the normal courseCompanies of business, lawsuits, claims, environmental
actions, and various non-ratemaking governmental proceedings arise
againstpreviously requested amounts relating to the
ESM during 2003.
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During July 2004, the Attorney General of Kentucky ("AG") served
subpoenas on LG&E and KU. ToKU, as well as on the extentKentucky Commission and its
staff, requesting information regarding allegedly improper
communications between the Companies and the Kentucky Commission,
particularly during the period covered by the rate cases. The Kentucky
Commission has procedurally reopened the rate cases for the limited
purpose of taking evidence, if any, as to the communication issues.
Subsequently, the AG filed pleadings with the Kentucky Commission
requesting rehearing of the rate cases on certain computational
components of the increased rates, including income tax, cost of
removal and depreciation amounts. In August 2004, the Kentucky
Commission denied the AG's rehearing request on the cost of removal
and depreciation issues, with the effect that damages are assessedthe rate increase order
is final as to these matters, subject to the parties' rights to
judicial appeals. The Kentucky Commission further agreed to hold
in any of
these lawsuits,abeyance until mid-October 2004 its further proceedings regarding
the AG's concerns about alleged improper communications until the
AG could file with the Kentucky Commission an investigative report
regarding the latter issue. In addition, the Kentucky Commission
granted a rehearing on the income tax component once the abeyance
discussed above is lifted.
LG&E and KU believe thatno improprieties have occurred in their
insurance coverage is
adequate. Management,communications with the Kentucky Commission and are cooperating with
the proceedings before the AG and the Kentucky Commission. The
Companies are currently unable to determine the ultimate impact, if
any, of the AG's investigation on the recently concluded rate case
or their operations generally.
Earnings Sharing Mechanism
The Companies filed their final 2003 ESM calculations with the Kentucky
Commission on March 1, 2004, and applied for recovery of $13.0 million
related to LG&E and $16.2 million related to KU. Based upon estimates,
the Companies previously accrued $8.9 million at LG&E and $9.3 million
at KU for the 2003 ESM as of December 31, 2003.
On June 30, 2004, the Kentucky Commission issued an order largely
accepting proposed settlement agreements by the Companies and all
intervenors regarding the ESM mechanisms of LG&E and KU. Under the ESM
settlements, LG&E and KU will continue to collect approximately $13.0
million and $16.2 million, respectively, of previously requested 2003
ESM revenue amounts through March 2005. As part of the settlement, the
parties agreed to a termination of the ESM mechanism relating to all
periods after consultation with legal counsel,2003.
As a result of the settlement, the Company accrued an additional $4.1
million at LG&E and based$6.9 million at KU in June 2004 related to 2003 ESM
revenue.
OVEC Power Agreement and Share Purchase
On April 30, 2004, OVEC and its shareholders, including LG&E and KU,
entered into an Amended and Restated Inter-Company Power Agreement, to
be effective beginning March 2006, upon the present status of these items, does not anticipate that
liabilities arising out of other currently pending or threatened
lawsuits and claimsexpiration of the type referenced abovecurrent
power contract among the parties. Under the new contract, which has a
20-year term from its effective date, LG&E and KU have purchase rights
for 5.63% and 2.5%, respectively, of OVEC power at marginal cost-based
rates. LG&E and KU are entitled to 7% and 2.5% of OVEC power,
respectively, under the current contract.
- New Page -
LG&E's estimated future minimum annual demand payments under the
Amended and Restated Inter-Company Power Agreement are as follows:
(in thousands)
2006 $ 10,098
2007 9,726
2008 9,932
2009 10,144
2010 10,361
Thereafter 170,646
Total $220,907
In addition, LG&E will havepurchase from American Electric Power Company
Inc. ("AEP") an additional 0.73% interest in OVEC for a material
adverse effect on LG&E's or KU's consolidated financial position or
resultspurchase price
of operations.approximately $104,000, resulting in an increase in LG&E Employment Discrimination Case
As previously reported,ownership
in October 2001,OVEC from 4.9% to 5.63%. The share purchase transaction is
anticipated to be completed during the fourth quarter of 2004, subject
to receipt of certain regulatory approvals.
Owensboro Contract Litigation
In May 2004, the City of Owensboro, Kentucky and Owensboro Municipal
Utilities (collectively "OMU"), filed suit in Davies County, Kentucky
District Court against KU concerning a long-term power supply contract
(the "OMU Agreement") with KU. The dispute involves interpretational
differences regarding certain issues under the OMU Agreement, including
various payments or charges between KU and OMU and rights concerning
excess power, termination and emissions allowances, respectively. The
complaint seeks approximately 30 employees or
former employees filed$6 million in damages for historical
periods, as well as injunctive and other relief, including a
complaint against LG&E claiming past and
current instances of employment discrimination against LG&E. LG&Edeclaration that KU is in material breach. KU has removed the casethis
litigation to the U.S. District Court for the Western District of
Kentucky and filed an answer in that court denying the OMU claims and
presenting certain counterclaims. KU has also initiated a proceeding
at the FERC to obtain the FERC's ruling on certain of the issues in
dispute.
Environmental Matters
In September 1998, the EPA announced its final "NOx SIP Call" rule
requiring states to impose significant additional reductions in NOx
emissions by May 2003, in order to mitigate alleged ozone transport
impacts on the Northeast region. The Commonwealth of Kentucky SIP,
which was approved by EPA June 24, 2003, required reductions in NOx
emissions from coal-fired generating units to the 0.15 lb./Mmbtu level
on a system-wide basis. In related proceedings in response to
petitions filed by various Northeast states, in December 1999, EPA
issued a final rule pursuant to Section 126 of the Clean Air Act
directing similar NOx reductions from a number of specifically targeted
generating units including all plaintiffs' claims. Discovery
has commenced in the matter. The court has ordered mediationLG&E and certain plaintiffs have settled for non-material amounts asKU units. As a result of
that process. In addition, certain other plaintiffs have sought
administrative review beforeappeals to both rules, the U.S. Equal Employment Opportunity
Commission which has,compliance date was extended to date, declined to proceed to litigation on any
claims reviewed. Previously amended pleadings, while reducing the size
of the plaintiff and defendant groups and eliminating certain prior
demands, contain a claimed damage amount of $100 million as well as
requests for injunctive relief. During mediation in the first quarter
2003, additional settlements were reached with a number of plaintiffs,
including a settlement with the lead plaintiff, which reduced the
number of remaining plaintiffs to approximately nine. LG&E intends to
continue to defend itself vigorously in the action and management does
not anticipate that the outcome will have a material impact on LG&E's
operations or financial condition.
- - Page 19 -
Combustion Turbine LitigationMay 2004.
LG&E and KU have filedcomplied with these NOx emissions reduction rules by
adding significant additional NOx controls to their generating units.
Installation of additional NOx controls have been performed on a lawsuitphased
basis, commencing in late 2000 and continuing through the U.S. District Court for the
Eastern Districtfinal
compliance date.
As of Kentucky against Alstom Power, Inc. (formerly ABB
Power Generation, Inc.) ("Alstom") regarding two combustion turbines
supplied by Alstom during 1999. These units are installed at KU's E.W.
Brown generating plant and beneficial ownership of the combustion
turbines is jointly vested inJune 30, 2004, LG&E and KU. The original purchase price
for the turbines washas incurred total capital costs of
approximately $91.8 million. The suit presents
warranty, negligence, misrepresentation, fraud and other claims
relating$182 million to numerous operational defects or deficiencies of the
turbines. LG&E and KU have requested rescission of the contract and
recovery of all expenditures relatingreduce its NOx emissions to the turbines. Recently,0.15
lb./Mmbtu level on a company-wide basis. As of June 30, 2004, KU has
incurred total capital costs of approximately $193 million to reduce
its NOx emissions to the court ruled that LG&E and KU cannot pursue rescission0.15 lb./Mmbtu level on the breach of
contract claim, but has not ruled on whether they can seek rescission
on the fraud count.a company-wide basis.
In addition, LG&E and KU seek punitive damages.
As an alternative to rescission,have begun incurring additional operation and
maintenance costs in operating new NOx controls. LG&E and KU have requested reliefbelieve
their costs in this regard to be comparable to those of similarly
situated utilities with like generation assets. In April 2001, the
Kentucky Commission granted recovery of these costs under the
environmental surcharge mechanism for amounts incurred or expendedLG&E and KU.
LG&E and KU are also monitoring several other air quality issues which
may potentially impact coal-fired power plants, including EPA's revised
air quality standards for ozone and particulate matter, measures to
date- - New Page -
implement EPA's regional haze rule, EPA's December 2003 proposals to
regulate mercury emissions from steam electric generating units and to
further reduce emissions of sulfur dioxide and nitrogen oxides under
the Clean Air Interstate Rule. In addition, LG&E is currently working
with local regulatory authorities to review the effectiveness of
remedial measures aimed at controlling particulate matter emissions
from its Mill Creek Station. LG&E previously settled a number of
property damage claims from adjacent residents and completed
significant remedial measures as part of its ongoing capital
construction program. LG&E has converted the Mill Creek Station to a
wet stack operation in connection with operational
repairs, cover damages or liquidated damagesan effort to resolve all outstanding issues
related to particulate matter emissions.
12. Pension and Other Post-retirement Benefit Plans
The following table provides the components of net periodic benefit
cost for pension and other costs, with
possiblebenefit plans:
Three Months Ended Year to Date
June 30, 2004 June 30, 2004
(in thousands) LG&E KU LG&E KU
Components of net periodic benefit cost:
Service cost $ 934 $ 1,103 $ 3,022 $ 3,490
Interest cost 4,709 3,538 15,233 11,187
Expected return on plan assets (4,289) (3,195) (13,874) (10,104)
Amortization of prior service cost (2) 148 (7) 467
Amortization of transition
obligation 897 269 2,900 853
Recognized actuarial loss 494 388 1,599 1,227
$ 2,743 $ 2,251 $ 8,873 $ 7,120
In January 2004, LG&E and KU made discretionary contributions to their
pension plans in the amounts of $34.5 million and $43.4 million,
respectively. No contributions are required for 2004 for either LG&E
or KU and no further damagesdiscretionary contributions are planned.
13.Subsequent Events
July Storms
In July 2004 violent thunderstorms swept through Kentucky, causing
significant damage and interestwidespread power outages. At the height of the
storms, 115,000 LG&E customers and 22,700 KU customers were without
power. The cost to repair the damage incurred in the LG&E service
territory as a result of these storms is estimated to be proven at trial.$8.4 million
in operations and maintenance expense and $2.1 million in capital
expenditures. The mattercost to repair the damage incurred in the KU service
territory as a result of these storms is currentlyestimated to be $0.5 million
in discovery withoperations and maintenance expense and $0.1 million in capital
expenditures.
Rate Cases Update
During July 2004, the AG requested a trial re-scheduled forrehearing of the fourth quarterLG&E and KU rate
cases. For a description of 2003.developments in these cases, see Note 11
of the Notes to Consolidated Financial Statements in Part 1, Item 1, of
this Quarterly Report on Form 10-Q.
Trimble County Combustion Turbines Units 9 & 10
Trimble County Combustion Turbines Units 9 and 10 began commercial
operation on July 1, 2004. See Note 7 of the Notes to Consolidated
Financial Statements on Part 1, Item 1 of this Quarterly Report on Form
10-Q.
- - New Page -
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
General
The following discussion and analysis by management focuses on those
factors that had a material effect on LG&E's and KU's financial results of
operations and financial condition during the three and six month periods
ended June 30, 2003,2004, and should be read in connection with the financial
statements and notes thereto.
Some of the following discussion may contain forward-looking statements
that are subject to certain risks, uncertainties and assumptions. Such
forward-looking statements are intended to be identified in this document
by the words "anticipate," "expect," "estimate," "objective," "possible,"
"potential" and similar expressions. Actual results may vary materially.
Factors that could cause actual results to differ materially include:
general economic conditions; business and competitive conditions in the
energy industry; changes in federal or state legislation; unusual weather;
actions by state or federal regulatory agencies; and other factors
described from time to time in LG&E's and KU's reports to the Securities
and Exchange Commission,SEC,
including the reportAnnual Reports on Form 10-K for the year ended December 31,
2002.2003.
Executive Summary
LG&E's net income for the three months ended June 30, 2004 was $17.1
million ($9.4 million higher than the three months ended June 30, 2003).
The increase was primarily related to higher electric revenues. Retail
sales volumes increased due to warmer weather, while gas volumes decreased.
KU's net income for the three months ended June 30, 2004, was $27.6 million
($13.4 million higher than the three months ended June 30, 2003). The
increase was primarily due to higher electric revenues due to higher retail
sales volumes resulting from warmer weather, partially offset by higher
maintenance expense.
LG&E's net income for the six months ended June 30, 2004 was $41.4 million
($6.4 million higher than the six months ended June 30, 2003). The
increase was primarily related to higher electric revenues due to warmer
weather. KU's net income for the six months ended June 30, 2004, was $60.0
million ($34.0 million higher than the six months ended June 30, 2003).
The increase was primarily due to higher electric revenues and lower
maintenance expense.
As regulated utilities, LG&E and KU's financial performance is greatly
impacted by regulatory proceedings. On June 30, 2004, the Kentucky
Commission issued an order approving increases in the base rates of LG&E
and KU. The rate increase took effect on July 1, 2004. In July 2004, the
AG commenced an investigation examining communications between the Kentucky
Commission and the Companies and separately, filed for a rehearing of the
rate cases on such issue and certain calculation components of the
increased rates. The Kentucky Commission ordered a reopening of the rate
cases to take evidence in the communications issue. For a description of
developments in these cases, see Note 11 of the Notes to Consolidated
Financial Statements in Part 1, Item 1 of this Quarterly Report on Form 10-
Q.
Results of Operations
The results of operations for LG&E and KU are affected by seasonal fluctuations in
temperature and other weather-related factors. Because of these and other
factors, the results of one interim period are not necessarily indicative of
results or trends to be expected for the full
year.another period.
- - New Page -
Three Months Ended June 30, 2003,2004, Compared to
Three Months Ended June 30, 20022003
LG&E Results:
LG&E's net income decreased $7.5increased $9.4 million (49%(121%) for the three months ended
June 30, 2003,2004, as compared to the three months ended June 30, 2002,2003,
primarily because of a decrease in sales to electric retail consumers due to milder weather experienced in 2003 and a decrease in the price ofhigher retail electric sales andrevenues, partially offset by
higher depreciation and maintenanceother operation expenses.
- - Page 20 -
A comparison of LG&E's revenues for the three months ended June 30, 2003,2004,
with the three months ended June 30, 2002,2003, reflects increases and
(decreases) which have been segregated by the following principal causes
(in thousands of $):causes:
Cause Electric Gas
Cause(in thousands) Revenues Revenues
Retail sales:
Fuel and gas supply adjustments $ (5,438)1,159 $ 8,7337,751
Environmental cost recovery surcharge (89)5,513 -
Demand side management cost recovery 279 (51)Earnings sharing mechanism 518 -
LG&E/KU merger surcredit 227(947) -
Value delivery surcredit (731) (186)
Weather normalization - 588
Variation in sales volume and other (8,286) 1,94417,303 (5,777)
Total retail sales (14,038) 11,02823,546 1,974
Wholesale sales 1,527 (428)
Gas transportation(4,026) 279
Provision for rate collections 1,017 -
net - (28)
Other 1,203 (54)(1,888) (63)
Total $(11,308) $10,518$ 18,649 $ 2,190
Electric revenues increased $18.6 million primarily as the result of an
increase in sales volumes to ultimate consumers of 9.2%. The retail sales
volume increase was due to warmer weather than the prior year as cooling
degree days increased 89%. However, overall volumes decreased primarily due to lower
fuel costs billed to
customers and a decrease in retail volumes sold due to a 42% decrease in
cooling degree days. These decreases were partially offset by an increase
in wholesale sales volumes.sales. Gas revenues increased $2.2 million primarily as a result
of higher natural gas supply costsprices billed to customers through the gas supply
clause and increased volumes sold, partially offset by lower sales volumes to ultimate consumers due to
warmer weather.
The provision for rate collections increased $1.0 million, including a decrease in volume of
wholesale sales.$3.4
million higher provision for the earnings sharing mechanism, offset by a
$2.4 million lower provision for the environmental cost recovery surcharge.
Fuel for electric generation and gas supply expenses comprise a large
component of LG&E's total operating expenses. LG&E's electric and gas
rates contain a fuel adjustment clause and a gas supply clause,
respectively, whereby increases or decreases in the cost of fuel and gas
supply are reflected in retail rates, subject to the approval of the
Kentucky Public Service Commission (Kentucky Commission).Commission. Fuel for electric generation decreased $4.3increased $1.3 million
(8%(3%) for the three months ended due to a decrease in generation ($2.5 million) and a decreasean increase in the cost of coal
burned ($1.82.0 million), partially offset by a decrease in generation ($0.7
million). Gas supply expenses increased $7.6$5.0 million (42%(19%) due to an
increase in net gas supply cost ($9.76.7 million), partially offset by a decrease in the
volume of retail gas delivered to the
distribution systemsold ($2.11.7 million).
Power purchasedOther operation expenses increased $1.8$3.7 million (12%) due to an increase in the
price of power purchased.
Other operations expenses decreased $1.4 million (3%(7%), as compared to 2002,
primarily due2003.
An estimated $7.4 million was recorded in the second quarter of 2004 for
costs incurred related to May 2004 storms. Results for 2003 included $1.1
million in cost to achieve amortization related to the KU/LG&E merger and
the One Utility initiative, which ended June 30, 2003, and September 30,
2003, respectively. In addition, pension expense was $1.3 million lower
injury and damage liability claims from third
parties, $1.9 million.bad debt expense was $0.5 million lower in 2004.
Maintenance expenses increased $2.1decreased $2.4 million (14%) primarily due to
increased maintenance. A write-off of gas distribution mainsobsolete
inventory of $1.1 million was included in 2003 and maintenance of electric
distribution lines, $1.9 million.steam power generation
was $0.7 million lower in 2004.
Depreciation and amortization increased $4.4decreased $2.1 million (17%(7%) becausedue to a
depreciation adjustment in the second quarter of additional utility plant2003 related to assets
capitalized in service.that period.
- - New Page 21 -
Property and other taxes increased $1.6 million (47%). In June 2003,
property taxes reflected a $1.2 million coal incentive tax credit.
Variations in income tax expense are largely attributable to changes in pre-
tax income.
Three Months Three Months
Ended Ended
June 30, 20032004 June 30, 20022003
Effective Rate
Statutory federal income tax rate 35.0% 35.0%
State income taxes net of federal benefit 5.8 6.5 4.3
Amortization of investment tax credit & R&D (6.6) (9.5) (4.5)
Other differences 0.6 (2.2) (0.4)
Effective income tax rate 34.8% 29.8% 34.4%
The amortization of investment tax credit and other differences were
approximately the same in both periods, but lower pretax income for the
three months ended June 30, 2003, caused the percentage changes to be
greater in the 2003 period.
Interest charges decreased $0.6 million (10%) primarily due to the $ 1.0
million savings on interest expense realized from the refinancing of fixed-
rate Series V and Series W pollution control bonds to the variable-rate
Series GG pollution control bonds in November 2003.
Interest expense to affiliated companies increased $1.7 million (130%)
primarily due to a $2.2 million increase in interest expense to Fidelia
related to new notes issued in August 2003 and January 2004. Offsetting
this increase is a $0.5 million decrease in interest expense on borrowings
from the money pool due to lower borrowing levels.
The weighted average interest rate on variable-rate bonds for the three
months ended June 30, 2004, was 1.07% and the corresponding rate for the
three months ended June 30, 2003, was 1.15%.
KU Results:
KU's net income increased $1.4$13.4 million (11%(95%) for the three months ended
June 30, 2003,2004, as compared to the three months ended June 30, 2002.2003. The
increase was mainlyprimarily due to decreased maintenance expenses duehigher revenues related to insurance
recovery for expenses associated with a severe ice storm experienced in
February 2003higher sales
volumes, partially offset by increases in depreciation, other
operation expenses, power purchased, and fuel.higher maintenance expense.
A comparison of KU's revenues for the three months ended June 30, 2003,2004,
with the three months ended June 30, 2002,2003, reflects increases and
(decreases) which have been segregated by the following principal causescauses:
Cause
(in thousands of $):thousands)
Retail sales:
Fuel supply adjustments $ (116)$(2,503)
Environmental cost recovery surcharge (826)1,615
Earnings sharing mechanism 1,395
LG&E/KU merger surcredit 76
Value delivery surcredit (403)
Earnings sharing mechanism 1,109(1,071)
Variation in sales volume and other 28216,967
Total retail sales 12216,403
Wholesale sales 2,9625,362
Provision for rate collections 11,694
Other (1,930)1,736
Total $ 1,154$35,195
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Electric revenuerevenues increased $35.2 million primarily due toas the result of an
increase in sales volumes to ultimate consumers of 11.3%. The sales volume
increase was due to warmer weather than last year as cooling degree days
increased 73%. Also contributing to higher revenues for the quarter were
increases in the provision for rate collections and wholesale sales
volume.sales. The
provision for rate collections included a $3.8 million higher provision for
the earnings sharing mechanism, a $5.4 million higher provision related to
the environmental cost recovery surcharge, and a $2.4 million higher
provision related to the fuel adjustment clause.
Fuel for electric generation comprises a large component of KU's total
operating expenses. KU's electric rates contain a fuel adjustment clause,
whereby increases or decreases in the cost of fuel are reflected in retail
rates, subject to the approval of the Kentucky Commission, the Virginia
State Corporation Commission, and the Federal Energy Regulatory Commission.
Fuel for electric generation increased $2.3$8.0 million (4%(13%) for the quarter
because of an increase in generation ($8.1 million), partially offset by a
slight decrease in the cost of coal burned ($4.40.1 million) partially
offset by a decrease in generation ($2.1 million) due to temporary plant
outages..
Power purchased increased $1.3decreased $3.0 million (4%(8%) due to an increasea decrease in the price
of power purchased ($.31.7 million) and an increasea decrease in the volume purchased
($1.01.3 million).
- - Page 22 -
Other operation expenses increased $1.9decreased $1.6 million (5%(4%) as compared to 2002,
due2003.
Cost to achieve amortization for the KU/LG&E merger, which ended in June
2003, was $1.0 million in 2003.
Maintenance expenses increased pension (the market value of plan assets has been affected
by declines in the equity market) and post-retirement medical expenses
($1.2 million), and increased property insurance ($.5 million)$9.6 million (130%). Maintenance expenses
decreased $8.0in 2003 were reduced by an $8.9 million (52%) primarily due to an insurance reimbursement of costs incurredreceived in
the firstsecond quarter of 2003 for repairs to electric distribution equipment due to an ice stormcosts incurred in a February 2003 ($8.9 million).ice storm.
Depreciation and amortization increased $4.3decreased $1.8 million (18%(7%) because of additional utility planta
depreciation adjustment in service.the second quarter of 2003 related to assets
capitalized that quarter.
Variations in income tax expense are largely attributable to changes in
pretax income.
Three Months Three Months
Ended Ended
June 30, 20032004 June 30, 20022003
Effective Rate
Statutory federal income tax rate 35.0% 35.0%
State income taxes net of federal benefit 6.0 6.5 6.8
Amortization of investment tax credit & R&D (1.2) (3.1) (3.9)
Other differences (1.8) (4.6) (4.5)
Effective income tax rate 38.0% 33.8%
33.4%
OtherThe amortization of the investment tax credit and other differences were
approximately the same in both periods, but lower pretax income - net increased $1.0 million (60%) in 2003 primarily due to an
increase in subsidiary earnings, $.6 million, and a decrease in benefit
costs, $0.2 million, partially offset by taxes.
Interest charges decreased $1.3 million (14%) for the
three months ended June 30, 2003, as comparedcaused the percentage change to be
greater in the three months ended 20022003 period.
Interest expense decreased $2.9 million (44%) primarily due to $1.6 million
in interest expense savings from the redemption of pollution control bonds
Series Q at 6.32% and Series P at 8.55% redeemed in June and November of
2003, respectively. Additionally, interest rate swaps yielded a $1.2
million decrease in related interest expenses resulting primarily from the
termination of a swap in February 2004 and better performance of the
remaining swaps.
Interest expense to affiliated companies increased $2.4 million (219%)
primarily due to a $2.7 million increase in interest expense to Fidelia
related to new notes issued in August 2003 through January 2004.
Offsetting this increase is a $0.3 decrease in interest expense on
borrowings from the money pool due to lower interest rates on variable rate debt.borrowing levels.
The weighted average interest rate on variable-rate bonds for the three
months ended June 30, 2003,2004, was 1.14%1.11% and the corresponding rate for the
three months ended June 30, 2002,2003, was 1.64%1.14%.
- - New Page 23 -
Six Months Ended June 30, 2003,2004, Compared to
Six Months Ended June 30, 20022003
LG&E Results:
LG&E's net income decreased $1.2increased $6.4 million (3%(18%) for the six months ended
June 30, 2003,2004, as compared to the six months ended June 30, 2002,2003, primarily
because of an increase in operations, maintenance,due to higher electric and depreciation
expensesgas revenues, partially offset by an increase in sales to gas retail consumers,
due to the colder winter experienced in 2003,higher other
operations expenses and increased electric
wholesale sales.higher interest expense.
A comparison of LG&E's revenues for the six months ended June 30, 2003,2004,
with the six months ended June 30, 2002,2003, reflects increases and (decreases)
which have been segregated by the following principal causes (in thousands
of $):causes:
Cause Electric Gas
Cause(in thousands) Revenues Revenues
Retail sales:
Fuel and gas supply adjustments $ 611 $24,834$(1,646) 45,381
Environmental cost recovery surcharge 1,2787,911 -
Demand side management cost recovery 671 397Earnings sharing mechanism 3,774 -
LG&E/KU merger surcredit (449)(1,418) -
Value delivery surcredit (1,517) (830)
Weather normalization - (2,262)2,419
Variation in sales volume and other (825) 17,37415,998 (22,275)
Total retail sales (231) 39,51324,619 25,525
Wholesale sales 13,596 (6,141)
Gas transportation8,091 1,034
Provision for rate refunds (2,982) -
net - (12)
Other 1,460 (136)151 (479)
Total $14,825 $33,224$29,879 $ 26,080
Electric revenues increased $29.9 million primarily because of anincreased
sales volumes to ultimate consumers of 4.4% due to warmer weather than
prior year as cooling degrees days increased 94%. Increased wholesale
revenues and environmental cost recovery also contributed to the increase
in wholesale
sales prices ($14.4 million), partially offset by a decrease in wholesale
sales volumes ($.8 million).revenues. Gas revenues increased $26.1 million primarily as a result of
higher natural gas supply costsprices billed to customers, through the gas supply
clause and increased volumes sold due to an increase in heating degree days
(19%), partially offset by lower
sales volumes to ultimate consumers due to warmer weather.
The provision for rate refunds decreased $3.0 million, primarily due to a
decrease in volume of wholesale sales.$3.9 million lower provision related to the environmental cost recovery
surcharge.
Fuel for electric generation increased $1.1$4.4 million (1%(5%) for the six months
because ofdue to an increase in the cost of coal burned ($1.14.4 million). while
generation volume was flat. Gas supply expenses increased $30.3$29.7 million
(30%(22%) due to an increase in net gas supply cost ($21.540.8 million) and an increase, offset by
a decrease in the volume of retail gas delivered to the distribution system
($13.6 million), partially offset by
decreased wholesale gas expenses ($4.811.1 million).
Power purchased increased $7.7$4.8 million (23%(12%) because ofdue to an increase in the
price of power purchased ($9.01.0 million) partially offset by a decreaseand an increase in the volume of
the purchases ($1.33.8 million).
Other operations expenses increased $3.7$8.3 million (4%(8%) in 2003,2004, as compared
to 2002,2003, due to higher transmission expense of $3.5 million, primarily due
to higher costs of customer assistance programs
($1.5 million),MISO-related expense, and increased pension (the market value of plan assets has
been affected$7.5 million higher electric
distribution expense, due to the May 2004 storms. These higher expenses
were partially offset by declines in$2.9 million lower cost to achieve amortization
related to the equity market), post-retirementKU/LG&E merger and medicalOne Utility initiative, and $1.5 million
lower benefits ($2.2 million).expense.
Maintenance expenses increased $2.0decreased $2.8 million (7%(9%) primarily due to increased
maintenance of gas distribution mains and maintenance of electric
distribution lines, $1.7 million.. In 2003, $2.1 million in
obsolete inventory was written off.
- - New Page -
Depreciation and amortization increased $6.3decreased $1.7 million (12%(3%) because of additional utility planta
depreciation adjustment in service.
- -Page 24 -the second quarter of 2003, related to assets
capitalized in that period.
Variations in income tax expense are largely attributable to changes in pre-
tax income.
Six Months Ended Six Months Ended
June 30, 20032004 June 30, 20022003
Effective Rate
Statutory federal income tax rate 35.0% 35.0%
State income taxes net of federal benefit 5.7 5.8 5.0
Amortization of investment tax credit & R&D (4.3) (3.8) (3.7)
Other differences 0.2 (0.8) (0.2)
Effective income tax rate 36.6% 36.2%
36.1%Property and other taxes increased $2.0 million (24%). Property taxes in
2003 reflected a $1.2 million coal incentive tax credit.
Interest charges decreased $.8$2.1 million (5%(17%) primarily due to the $2.9
million savings of interest expense realized from the refinancing of fixed-
rate Series V and Series W pollution control bonds into the variable-rate
Series GG. Also, the redemption of the first mortgage bond in August 2003
contributed to the decrease in interest expense by $1.3 million.
Offsetting these decreases is an increase of $1.9 million from interest
rate swaps.
Interest expense to affiliated companies increased $4.1 million (202%)
primarily due to a $5.3 million increase in interest expense to Fidelia
related to new notes issued in August 2003 and January 2004. Offsetting
this increase is a $1.2 million decrease in interest expense on borrowings
from the money pool due to lower interest
rates on variable rate debt.borrowing levels.
The weighted average interest rate on variable-rate bonds for the six
months ended June 30, 20032004 was 1.19%1.06%, compared to 1.61%1.19% for the comparable
period in 2002.2003.
KU Results:
KU's net income decreased $11.1increased $34.0 million (30%(131%) for the six months ended
June 30, 2003,2004, as compared to the six months ended June 30, 2002.2003. The
decreaseincrease was mainlyprimarily due to expenses associated with a severe ice storm experienced
in February 2003, in excess of insurance reimbursements received in June
2003, timing of the performance of annual steam productionhigher electric revenues and lower
maintenance and
depreciation expense.
A comparison of KU's revenues for the six months ended June 30, 2003,2004, with
the six months ended June 30, 2002,2003, reflects increases and (decreases)
which have been segregated by the following principal causescauses:
Cause
(in thousands
of $):thousands)
Retail sales:
Fuel supply adjustments $ 7,147
Environmental cost recovery surcharge (889)
Demand side management cost recovery 337$ 2,067
Earnings sharing mechanism 5,304
LG&E/KU merger surcredit (366)
Value delivery surcredit (860)
Earnings sharing mechanism (1,900)(1,829)
Variation in sales volume and other 11,67719,541
Total retail sales 15,14625,083
Wholesale sales 51011,918
Provision for rate collections 15,863
Other 1,4574,734
Total $17,113$57,598
- - New Page -
Electric revenues increased $57.6 million primarily due to an increase in retailincreased sales
volumes soldto ultimate consumers of 6.1% due to a 13% increase in heatingwarmer weather than last year
as cooling degree days increased 75%. Also contributing to the overall
revenue increase were increases in the provision for rate collections,
wholesale revenues, and earnings sharing mechanism recoveries. The
provision for rate collections included higher provisions for the
environmental cost recovery ($10.4 million), the earngins sharing mechanism
($3.5 million) and the fuel costs
billed to customers.adjustment clause ($2.0 million).
Fuel for electric generation increased $10.3$11.6 million (9%) for the six
months due to an increase in the cost of coal burned ($11.53.5 million),
offset by and an
increase in generation ($8.1 million).
Power purchased decreased $2.9 million (4%) due to a decrease in generation ($1.2 million).
Power purchased increased $7.6 million (11%) due to an increase inthe price
of power purchased ($2.85.4 million) and, partially offset by an increase in
volumevolumes purchased ($4.82.5 million) partially as a result of temporary plant outages.
- - Page 25 -.
Other operation expenses increased $6.3decreased $2.0 million (9%(3%), primarily. Cost to achieve
amortization of $3.2 million related to the KU/LG&E merger and One Utility
initiative was recorded in 2003 and was fully amortized as of June 2003.
In 2004, benefits expense decreased $1.5 million and distribution expense
decreased $0.7 million due to costs associated with anthe February 2003 ice storm ($2.5 million), increased pension (the
market valuestorm. These decreases
were offset by higher emission allowance expense of plan assets has been affected by declines in the equity
market) and post-retirement medical expenses ($2.6 million), increased
property insurance ($.9 million),$2.3 million and higher
electric transmission costs
resulting from increased Midwest Independent System Operator (MISO) costs
($.3 million).expense of $1.1 million.
Maintenance expenses increased $9.4decreased $7.5 million (35%(21%) primarily. Steam power maintenance
expense decreased $5.5 million; Ghent Unit 3, Green River Unit 4 and Tyrone
Unit 3 all had major overhauls in 2003. Distribution maintenance decreased
$1.3 million and transmission overhead line maintenance decreased $0.6
million in 2004 due to repairs
to electric distribution equipment due to anthe February 2003 ice storm ($4.1 million, net
of $8.9 million in insurance reimbursements), and timing of annual
maintenance of steam production equipment ($5.7 million).
Depreciation and amortization increased $5.3 million (11%) because of
additional utility plant in service.storm.
Variations in income tax expense are largely attributable to changes in
pretax income.
Six Months Ended Six Months Ended
June 30, 20032004 June 30, 20022003
Effective Rate
Statutory federal income tax rate 35.0% 35.0%
State income taxes net of federal benefit 5.9 6.7 6.3
Amortization of investment tax credit & R&D (1.1) (3.4) (3.5)
Other differences (1.7) (4.4) (3.0)
Effective income tax rate 38.1% 33.9%
34.8%
OtherThe amortization of the investment tax credit and other differences were
approximately the same in both periods, but lower pretax income for the six
months ended June 30, 2003, caused the percentage changes to be greater in
the 2003 period.
Interest expense decreased $6.7 million (60%) due primarily to the
redemption of pollution control bonds Series P at 8.55% and Series Q at
6.32% redeemed in November and June of 2003, respectively. Additionally,
interest rate swaps yielded a $2.8 million decrease in related interest
expenses resulting primarily from the February termination of a swap
related to the Series 9 pollution control bonds and better performance of
remaining swaps.
- net- New Page -
Interest expense to affiliated companies increased $1.5$5.6 million (45%(377%)
primarily due to ana $6.1 million increase in subsidiary earnings, $.5interest expense to Fidelia
related to new notes issued in August 2003 through January 2004.
Offsetting this increase is a $0.5 million decreased benefit costs, $.4
million, and gaindecrease in interest expense on
energy trading contracts marked to market $.5 million,
partially offset by an increase in taxes.
Interest charges decreased $1.9 million (13%)borrowings from the money pool due primarily to lower interest rates on variable rate debt.borrowing levels.
The weighted average interest rate on variable-rate bonds for the six
months ended June 30, 2003,2004, was 1.16%1.08% and the corresponding rate for the
six months ended June 30, 2002,2003, was 1.57%1.16%.
Liquidity and Capital Resources
LG&E and KU's needneeds for capital funds are largely related to the
construction of plant and equipment necessary to meet the needs of electric
and gas utility customers. Internal and external lines of credit the
accounts receivable securitization programs, and commercial paper programs
are
maintained to fund short-term capital requirements. LG&E and KU believe
that such sources of funds will be sufficient to meet the needs of the
business in the foreseeable future.
As of June 30, 2004, LG&E and KU are in a negative working capital
position. The Companies expect to cover any deficiencies with cash flow
from operations, money pool borrowings, and borrowings from Fidelia, an
E.ON financing subsidiary.
Construction expenditures for the six months ended June 30, 20032004 for LG&E
and KU amounted to $119.4$64.9 million and $175.5$76.3 million, respectively. Such
expenditures related primarily toinclude construction to meet nitrogen oxide (NOx) emission
standards and the acquisition of combustion turbines to meet peak power
demands. LG&E and KU combustion turbine expendituresExpenditures for the six months ended June 30, 2003,2004, by LG&E and
KU for NOx construction were $53.3$5.6 million and $90.9$21.9 million, respectively.
Expenditures for the six months ended June 30, 2004, for Trimble County
combustion turbines, Units 7 through 10, by LG&E and KU were $5.5 million
and $9.5 million, respectively. In addition, LG&E construction
expenditures include $8.4 million for distribution overhead line
construction, $5.8 million for Mill Creek Unit 3 ductwork installation
related to the flue gas desulfurization ("FGD") project, and $5.3 million
for gas main replacements. At KU, construction expenditures include $6.4
million for E.W. Brown Unit 3 cooling tower and precipitator rebuild and
$6.0 million for distribution construction in the Lexington area. The
expenditures were financed with internally generated funds and intercompany
loans from affiliates, and accounts receivable
securitization program funds. See Note 4 of Notes to Financial Statements
concerning accounts receivable securitization.affiliates.
LG&E's cash balance decreased $13.9increased $12.3 million during the six months ended
June 30, 2003,2004, primarily due to ahigher net income and increased net
borrowings from affiliated companies, partially offset by pension contributionfunding,
construction expenditures, and the purchasepayment of an interest in four combustion turbines financed with intercompany loans.common dividends to its parent
company. KU's cash balance increased $1.3$4.9 million during the six months
ended June 30, 2003.2004. The increase reflects cash flowshigher net income and increased
net borrowings from operations and
intercompany loans,affiliated companies, partially offset by pension
funding, construction expenditures includingand the purchasepayment of an interest in four combustion turbines.
- - Page 26 -common dividends to
its parent company.
Variations in accounts receivable, accounts payable and materials and
supplies are generally not significant indicators of LG&E's and KU's
liquidity. SuchIn general, such variations are primarilyusually attributable to
seasonal fluctuations in weather, which have a direct effect on sales of
electricity and natural gas. However, the increase in accounts receivable
at LG&E and KU, as of June 30, 2004, was primarily due to the termination
of the accounts receivable securitization programs in January 2004.
Discontinuing the accounts receivable securitizations programs resulted in
an increase in accounts receivable of $58.0 million at LG&E and by $50.0
million at KU. (LG&E and KU maintained a fully funded reserve for
uncollectible accounts related to receivables sold during the
securitization program.) The increase in accounts receivable at LG&E resulted
primarily from timingas of
payments. The decreaseJune 30, 2004 was somewhat offset by the impact of decreased gas sales in
accounts receivable for
KU resulted primarily from timing of payments.June 2004 compared to December 2003. The decrease in LG&E's gas stored
underground relates to seasonal usageuses of gas.
The decrease in the
fuel inventory atInterest rate swaps are used to hedge LG&E resulted from seasonal fluctuations partially offset
by increased pricing. The decrease in fuel inventory at KU resulted from
seasonal fluctuations.
The Companies participate in a money pool whereby LG&E Energy can make
funds available up to $400 million at market-based rates for each of LG&E&E's and KU. LG&E Energy maintains facilities of $200 millionKU's underlying variable-
rate debt obligations. These swaps hedge specific debt issuances and,
consistent with a Powergen
subsidiary and $150 million with an E.ON affiliate to ensure funding
availability for the money pool. There was $82 million outstanding under
the Powergen line of credit and the balance under E.ON affiliates' line
totaled $74.9 million asmanagement's designation, are accorded hedge accounting
treatment. As of June 30, 2003.2004, LG&E Energy has provided loans
to LG&Ehad swaps with a combined notional
value of $228.3 million and KU throughhad swaps with a combined notional value of
$103.0 million. LG&E's swaps exchange floating-rate interest payments for
fixed-rate interest payments to reduce the money pool that total $171.7impact of interest rate changes
on LG&E's pollution control bonds. KU's swaps effectively convert fixed-
rate obligations on KU's first mortgage bonds Series P and R to variable-
rate obligations.
In February 2004, KU terminated the swap it had in place at December 31,
2003 related to its Series 9 pollution control bonds. The notional amount
of the terminated swap was $50 million and $146.4KU received a payment of $2.0
million respectively, as part of the termination, resulting in a gain of $0.8 million.
- - New Page -
At June 30, 2003. These borrowings carried an2004, variable rate debt, including the impact of interest rate
based on an indexswaps, was 36.9% of highly rated commercial paper issuers asLG&E's total debt at $331.9 million and 45.7% of KU's
total debt at $352.2 million. At December 31, 2003, variable rate debt,
including the prior month endimpact of 1.21% at June 30, 2003.
During July 2003, LG&E entered into five 364 day revolving lines of credit
that total $185 million. The facilities mature in June and July 2004.
On April 30, 2003, a $250 million line of credit of LG&E Energy with an
E.ON affiliate expired and was not renewed.
On April 30, 2003, LG&E and KU each borrowed $100 million from an E.ON
affiliate. The term of each loan is ten years and the interest rate is
4.55%. KU had a first mortgage bondswaps, was 44.0% of $62LG&E's total debt
at $386.3 million that matured in June
2003 and LG&E has a first mortgage bond55.5% of $42.6 million maturing in August
2003. The Companies expect to refinance these bonds, along with a portion
of the notes payable to parent, with additional long-term intercompany
loans.KU's total debt at $397.1 million.
Under the provisions of LG&E's variable-rate pollution control bonds,
totaling
$246.2 million for LG&ESeries S, T, U, BB, CC, DD and $91.9 million for KU,EE, and KU's variable-rate pollution control
bonds Series 10, 12, 13, 14 and 15, the bonds are subject to tender for
purchase at the option of the holder and to mandatory tender for purchase
upon the occurrence of certain events, causing the bonds to be classified
as current portion of long-term debt. Should anydebt in the Consolidated Balance Sheets.
The average annualized interest rate for these bonds during the six months
ending June 30, 2004, was 1.10% for the LG&E bonds and 1.13% for the KU
bonds.
In January 2004, LG&E entered into two long-term notes with Fidelia, one
totaling $25 million with an interest rate of 4.33% that matures in January
2012, and a one-year note totaling $100 million with an interest rate of
1.53%. The loans are secured by a lien subordinated to the first mortgage
bond lien. The proceeds were used to fund a pension contribution and to
repay other debt obligations. In April 2004, LG&E prepaid $50 million of
the bonds
be put$100 million 1.53% note payable to Fidelia. The prepayment was paid
out of cash balances and there was no prepayment fee.
In January 2004, KU entered into an unsecured long-term loan from Fidelia
totaling $50 million with an interest rate of 4.39% that matures in January
2012. The proceeds were used to fund a pension contribution and to repay
other debt obligations.
LG&E maintains five bilateral lines of credit with banks totaling $185
million that mature in 2005. There was no outstanding balance under these
facilities at June 30, 2004. Management expects to renew these facilities
as they expire.
LG&E and KU participate in an intercompany money pool agreement wherein
LG&E Energy and KU make funds available to LG&E orat market-based rates
(based on an index of highly rated commercial paper issues as of the prior
month end) up to $400 million. Likewise, LG&E Energy and LG&E make funds
available to KU fundsat market-based rates up to $400 million. LG&E had $26.0
million in money pool loans from LG&E Energy (included in "Notes payable to
affiliated companies") at an average rate of 1.04% at June 30, 2004, and
$171.7 million at an average rate of 1.21% at June 30, 2003. The balance
of the money pool could be usedloans from LG&E Energy to reacquireKU (included in "Notes payable
to affiliated companies") was $53.2 million at an average rate of 1.04% and
$146.4 million at an average rate of 1.21% at June 30, 2004 and 2003,
respectively. The amount available to LG&E under the bonds.money pool agreement
at June 30, 2004 was $374.0 million. The amount available to KU under the
money pool agreement at June 30, 2004 was $346.8 million. LG&E Energy
maintains a revolving credit facility totaling $150 million with an
affiliate to ensure funding availability for the money pool. LG&E Energy
had an outstanding balance of $69.7 million at an average rate of 1.79%
under this facility as of June 30, 2004 and availability of $80.3 million
remained.
In January 2004, LG&E and KU made discretionary contributions to their
pension plans of $34.5 million and $43.4 million, respectively. No
contributions are required for 2004 and no further discretionary
contributions are planned.
LG&E's security ratings as of August 4, 2003,June 30, 2004, were:
Moody's S&P Fitch
First mortgage bonds A1 A-
A+
Preferred stock Baa1 BBB-
A-
Commercial paper P-1 A-2
F-1- - New Page -
KU's security ratings as of August 4, 2003,June 30, 2004, were:
Moody's S&P Fitch
First mortgage bonds A1 A
A+
Preferred stock Baa1 BBB-
A-
Commercial paper P-1 A-2 F-1
- - Page 27 -
These ratings reflect the views of Moody's S&P and Fitch.S&P. A security rating is
not a recommendation to buy, sell or hold securities and is subject to
revision or withdrawal at any time by the rating agency.
LG&E's capitalization ratios at June 30, 2003,2004, and December 31, 2002,2003,
follow:
June 30, Dec.December 31,
2004 2003 2002
Long-term debt (including current portion) 38.8% 35.5%31.2% 31.9%
Long-term debt to affiliated company
(including current portion) 14.3 10.7
Notes payable 9.3 11.1to affiliated companies 1.4 4.3
Preferred stock 5.1 5.53.7 3.8
Common equity 46.8 47.949.4 49.3
Total 100.0% 100.0%
KU's capitalization ratios at June 30, 2003,2004, and December 31, 2002,2003, follow:
June 30, Dec.December 31,
2004 2003 2002
Long-term debt (including current portion) 34.5% 34.0%22.4% 24.1%
Long-term debt to affiliated company
(including current portion) 18.8 16.8
Notes payable 9.4 8.1to affiliated companies 3.0 2.6
Preferred stock 2.5 2.72.3 2.4
Common equity 53.6 55.253.5 54.1
Total 100.0% 100.0%
New Accounting Pronouncements
SFAS No. 143, Accounting for Asset Retirement Obligations, was issued in
2001. SFAS No. 143 establishes accounting and reporting standards for
obligations associated with the retirement of tangible long-lived assets
and the associated asset retirement costs.
The effective implementation date for SFAS No. 143 wasFIN 46
In January 1, 2003.
Management has calculated the impact of SFAS No. 143 and the recently
released FERC final rule, Accounting, Financial Reporting, and Rate Filing
Requirements for Asset Retirement Obligations. As of June 30, 2003, LG&E
recorded asset retirement obligation (ARO) assets in the amount of $4.5
million and liabilities of $9.6 million. LG&E recorded offsetting
regulatory assets of $5.6 million, pursuant to regulatory treatment
prescribed under SFAS No. 71, Accounting for the Effects of Certain Types
of Regulation. As of June 30, 2003, KU recorded ARO assets in the amount
of $8.6 million and liabilities of $19.1 million. KU recorded offsetting
regulatory assets of $9.7 million, pursuant to regulatory treatment
prescribed under SFAS No. 71. LG&E and KU AROs are primarily related to
final retirement of generating units. Assets with associated AROs will no
longer include a cost of removal component within their depreciation rate.
Assets without associated AROs will continue to be depreciated including a
cost of removal component within the depreciation rate.
Had SFAS No. 143 been in effect for the 2002 reporting period, the
Companies would have established asset retirement obligations as described
in the following table ($000):
LG&E KU
Provision at January 1, 2002 $8,752 $17,331
Accretion expense 578 1,146
Provision at December 31, 2002 $9,330 $18,477
The Companies adopted EITF No. 98-10, Accounting for Energy Trading and
Risk Management Activities, effective January 1, 1999. This pronouncement
required that energy trading contracts be marked to market on the balance
sheet, with the gains and losses shown net in the income statement.
- - Page 28 -
Effective January 1, 2003, the Companies adopted EITF No. 02-03, Issues
Involved in Accounting for Derivative Contracts Held for Trading Purposes
and Contracts Involved in Energy Trading and Risk Management Activities.
EITF No. 02-03 established the following:
- Rescinded EITF No. 98-10,
- Contracts that do not meet the definition of a derivative under
SFAS No. 133 should not be marked to fair market value, and
- Revenues should be shown in the income statement net of costs
associated with trading activities, whether or not the trades
are physically settled.
With the rescission of EITF No. 98-10, energy trading contracts that do not
also meet the definition of a derivative under SFAS No. 133 must be
accounted for as executory contracts. Contracts previously recorded at
fair value under EITF No. 98-10 that are not also derivatives under SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities, must
be restated to historical cost through a cumulative effect adjustment. The
rescission of this standard had no impact on financial position or results
of operations of the Companies since all contracts marked to market under
EITF No. 98-10 are also within the scope of SFAS No. 133.
As a result of EITF No. 02-03, the Companies have netted the power
purchased expense for trading activities against electric operating revenue
to reflect this accounting change. The Companies applied this guidance to
all prior periods, which had no impact on previously reported net income or
shareholders' equity. The following tables present the impact of this
reclassification (in thousands of $):
Three Months Six Months
Ended Ended
June 30, June 30,
2003 2002 2003 2002
LG&E:
Gross electric operating revenues$180,637 $191,813 $375,930 $358,059
Less costs reclassified 6,720 6,588 14,994 11,948
Net electric operating
revenues reported $173,917 $185,225 $360,936 $346,111
KU:
Gross electric operating revenues$204,675 $203,555 $438,822 $418,723
Less costs reclassified 7,501 7,535 16,665 13,679
Net electric operating
revenues reported $197,174 $196,020 $422,157 $405,044
Three Months Six Months
Ended Ended
June 30, June 30,
2003 2002 2003 2002
LG&E:
Gross power purchased $ 24,033 $ 22,064 $ 56,434 $ 45,645
Less costs reclassified 6,720 6,588 14,994 11,948
Net power purchased reported $ 17,313 $ 15,476 $ 41,440 $ 33,697
KU:
Gross power purchased $ 41,149 $ 39,911 $ 91,513 $ 80,971
Less costs reclassified 7,501 7,535 16,665 13,679
Net power purchased reported $ 33,648 $ 32,376 $ 74,848 $ 67,292
In May 2003, the Financial Accounting Standards Board ("FASB") issued
StatementFinancial Accounting Standards Board Interpretation No. 46, Consolidation
of Variable Interest Entities, an Interpretation of ARB No. 51 ("FIN 46").
FIN 46 required certain variable interest entities to be consolidated by
the primary beneficiary of the entity if the equity investors in the entity
do not have the characteristics of a controlling financial interest or do
not have sufficient equity at risk for the entity to finance its activities
without additional subordinated financial support from other parties. FIN
46 was effective immediately for all new variable interest entities created
or acquired after January 31, 2003.
In December 2003, FIN 46 was revised, delaying the effective dates for
certain entities created before February 1, 2003, and making other
amendments to clarify application of the guidance. For potential variable
interest entities other than special purpose entities, the revised FIN 46
("FIN 46R") is now required to be applied no later than the end of the
first fiscal year or interim reporting period ending after March 15, 2004.
For all special purpose entities created prior to February 1, 2003, FIN 46R
is now required to be applied at the end of the first interim or annual
reporting period ending after December 15, 2003. FIN 46R may be applied
prospectively with a cumulative-effect adjustment as of the date it is
first applied, or by restating previously issued financial statements with
a cumulative-effect adjustment as of the beginning of the first year
restated. FIN 46R also requires certain disclosures of an entity's
relationship with variable interest entities.
- - New Page -
Both LG&E and KU hold investment interests in OVEC and KU holds an
investment interest in EEI. Neither LG&E nor KU are the primary
beneficiary of OVEC or EEI, and thus neither are consolidated into the
financial statements of LG&E or KU.
LG&E, KU and ten other electric utilities are participating owners of OVEC,
located in Piketon, Ohio. OVEC owns and operates two power plants that
burn coal to generate electricity, Kyger Creek Station in Ohio and Clifty
Creek Station in Indiana. LG&E's share is 7%, representing approximately
155 Mw of generation capacity and KU's share is 2.5%, approximately 55 Mw
of generation capacity.
LG&E's and KU's original investments in OVEC were made in 1952. LG&E's
investment in OVEC is the equivalent of 4.9% of OVEC's common stock and
KU's investment is the equivalent of 2.5% of OVEC's common stock. LG&E's
and KU's investments in OVEC are accounted for on the cost method of
accounting. As of June 30, 2004, LG&E's and KU's investments in OVEC
totaled $0.5 million and $0.3 million, respectively. LG&E's and KU's
maximum exposure to loss as a result of their involvement with OVEC is
limited to the value of their investment. In the event of the inability of
OVEC to fulfill its power provision requirements, LG&E and KU would
substitute such power supply with either owned generation or market
purchases and would generally recover associated incremental costs through
regulatory rate mechanisms. See Part II, Item 1, for further discussion of
developments regarding LG&E's and KU's ownership interests and power
purchase rights.
KU owns 20% of the common stock of EEI, which owns and operates a 1,000-Mw
generating station in southern Illinois. KU is entitled to take 20% of the
available capacity of the station. Purchases from EEI are made under a
contractual formula which has resulted in costs which were and are expected
to be comparable to the cost of other power purchased or generated by KU.
Such power equated to approximately 9% of KU's net generation system output
in 2003.
KU's original investment in EEI was made in 1953. KU's investment in EEI
is accounted for on the equity method of accounting. As of June 30, 2004,
KU's investment in EEI totaled $11.9 million. KU's maximum exposure to
loss as a result of its involvement with EEI is limited to the value of its
investment. In the event of the inability of EEI to fulfill its power
provision requirements, KU would substitute such power supply with either
owned generation or market purchases and would generally recover associated
incremental costs through regulatory rate mechanisms.
SFAS No. 150
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity. SFAS No.
150 iswas effective immediately for financial instruments entered into or
modified after May 31, 2003, and otherwise iswas effective for interim
reporting periods beginning after June 15, 2003.
- - Page 29 -As of June 30, 2004, LG&E has existinghad 237,500 shares of $5.875 series mandatorily
redeemable preferred stock with
250,000 shares outstanding having a current redemption price of
$100 per share. The preferred stock has a sinking fund requirement
sufficient to retire a minimum of 12,500 shares on July 15th15 of each year
commencing with July 15, 2003, and a minimum ofthe remaining 187,500 shares on July 15,
2008 at $100 per share. Beginning with the three months ended September
30, 2003, LG&E will
reclassify, at fair value,reclassified its $5.875 series preferred stock as long-term
debt with the minimum shares mandatorily redeemable within one year
classified as current portion of long-term debt.current. Dividends accrued beginning July 1, 2003 will beare
charged as interest expense.
KU has no financial instruments that fall within the scope of SFAS No. 150.
- - New Page -
FSP 106-2
In May 2004, the FASB finalized FASB Staff Position ("FSP") 106-2,
Accounting and Disclosure Requirements Related to the Medicare Prescription
Drug, Improvement and Modernization Act of 2003 ("Medicare Act") with
guidance on accounting for subsidies provided under the Medicare Act which
became law in December 2003. FSP 106-2 is effective for the first interim
or annual period beginning after June 15, 2004. KU will adopt FSP 106-2 in
the third quarter of 2004. LG&E's medical plan does not provide a benefit
that is actuarially equivalent to Medicare Part D; therefore, FSP 106-2 is
not expected to have an impact on LG&E.
On the basis of actuarial estimates, the Medicare Act will result in an
overall reduction of the accumulated postretirement benefit obligation
("APBO") for postretirement health and life insurance benefits for KU
amounting to approximately $5.0 million as of January 1, 2004.
Accordingly, KU's net periodic postretirement benefit cost for 2004 will be
reduced by approximately $0.7 million. The APBO and the net periodic
postretirement benefit cost as of and for the periods ending June 30, 2004
and 2003 do not reflect amounts associated with the subsidies provided by
the Medicare Act.
Contingencies
For a description of significant contingencies that may affect LG&E and KU,
reference is made to Part I, Item 3, Legal Proceedings and Note 11 to the
financial statements contained in LG&E's and KU's
Annual Reports on Form 10-
K10-K for the year ended December 31, 20022003; Quarterly
Report on Form 10-Q for the quarter ended March 31, 2004; and to Part II -
Item 1, Legal Proceedings herein.
Electric and Gas Rates Cases
On June 30, 2004, the Kentucky Commission issued an order approving
increases in the base electric and gas rates of LG&E and the base electric
rates of KU. In July 2004, the AG commenced an investigation examining
communications between the Kentucky Commission and the Companies and
separately filed for a rehearing of the rate cases on such issue and
certain calculation components of the increased rates. The Kentucky
Commission ordered a procedural reopening of the rate cases for the limited
purpose of taking evidence, if any, as to the communication issue. For a
description of developments in these cases, see Note 11 of the Notes to
Consolidated Financial Statements in Part 1, Item 1 of this Quarterly
Report on Form 10-Q.
Earnings Sharing Mechanism
The Companies filed their final 2003 ESM calculations with the Kentucky
Commission on March 1, 2004, and applied for recovery of $13.0 million
related to LG&E and $16.2 million related to KU. Based upon estimates, the
Companies previously accrued $8.9 million at LG&E and $9.3 million at KU
for the 2003 ESM as of December 31, 2003.
On June 30, 2004, the Kentucky Commission issued an order largely accepting
proposed settlement agreements by the Companies and all intervenors
regarding the ESM mechanisms of LG&E and KU. Under the ESM settlements,
LG&E and KU will continue to collect approximately $13.0 million and $16.2
million, respectively, of previously requested 2003 ESM revenue amounts
through March 2005. As part of the settlement, the parties agreed to a
termination of the ESM mechanism relating to all periods after 2003.
As a result of the settlement, the Company accrued an additional $4.1
million at LG&E and $6.9 million at KU in June 2004 related to 2003 ESM
revenue.
- - New Page -
OVEC Power Agreement and Share Purchase
On April 30, 2004, OVEC and its shareholders, including LG&E and KU,
entered into an Amended and Restated Inter-Company Power Agreement, to be
effective beginning March 2006, upon the expiration of the current power
contract among the parties. Under the new contract, which has a 20-year
term from its effective date, LG&E and KU have purchase rights for 5.63%
and 2.5%, respectively, of OVEC power at marginal cost-based rates. LG&E
and KU are entitled to 7% and 2.5% of OVEC power, respectively, under the
current contract.
LG&E's estimated future minimum annual demand payments under the Amended
and Restated Inter-Company Agreement are as follows:
(in thousands)
2006 $ 10,098
2007 9,726
2008 9,932
2009 10,144
2010 10,361
Thereafter 170,646
Total $220,907
In addition, LG&E will purchase from American Electric Power Company Inc.
("AEP") an additional 0.73% interest in OVEC for a purchase price of
approximately $104,000, resulting in an increase in LG&E ownership in OVEC
from 4.9% to 5.63%. The share purchase transaction is anticipated to be
completed during the fourth quarter of 2004, subject to receipt of certain
regulatory approvals.
Owensboro Contract Litigation
In May 2004, the City of Owensboro, Kentucky and Owensboro Municipal
Utilities (collectively "OMU"), filed suit in Davies County, Kentucky
District Court against KU concerning a long-term power supply contract (the
"OMU Agreement") with KU. The dispute involves interpretational
differences regarding certain issues under the OMU Agreement, including
various payments or charges between KU and OMU and rights concerning excess
power, termination and emissions allowances, respectively. The complaint
seeks approximately $6 million in damages for historical periods, as well
as injunctive and other relief, including a declaration that KU is in
material breach. KU has removed this litigation to the U.S. District Court
for the Western District of Kentucky and filed an answer in that court
denying the OMU claims and presenting certain counterclaims. KU has also
initiated a proceeding at the FERC to obtain the FERC's ruling on certain
of the issues in dispute.
Environmental Matters
In September 1998, the EPA announced its final "NOx SIP Call" rule
requiring states to impose significant additional reductions in NOx
emissions by May 2003, in order to mitigate alleged ozone transport impacts
on the Northeast region. The Commonwealth of Kentucky SIP, which was
approved by EPA June 24, 2003, required reductions in NOx emissions from
coal-fired generating units to the 0.15 lb./Mmbtu level on a system-wide
basis. In related proceedings in response to petitions filed by various
Northeast states, in December 1999, EPA issued a final rule pursuant to
Section 126 of the Clean Air Act directing similar NOx reductions from a
number of specifically targeted generating units including all LG&E and KU
units. As a result of appeals to both rules, the compliance date was
extended to May 2004. LG&E and KU have complied with these NOx emissions
reduction rules.
LG&E and KU have added significant additional NOx controls to their
generating units. Installation of additional NOx controls have been
performed on a phased basis, with installation of controls which commenced
in late 2000 and continued through the final compliance date. As of June
30, 2004, LG&E has incurred total capital costs of approximately $191
million to reduce its NOx emissions to the 0.15 lb./Mmbtu level on a
company-wide basis. As of June 30, 2004, KU has incurred total capital
costs of approximately $252 million to reduce its NOx emissions to the 0.15
lb./Mmbtu level on a company-wide basis. In addition, LG&E and KU have
begun incurring additional operation and maintenance costs in operating new
NOx controls. LG&E and KU believe their costs in this regard to be
comparable to those of similarly situated utilities with like generation
assets. In April 2001, the Kentucky Commission granted recovery of these
costs under the environmental surcharge mechanism for LG&E and KU.
- - New Page -
LG&E and KU are also monitoring several other air quality issues which may
potentially impact coal-fired power plants, including EPA's revised air
quality standards for ozone and particulate matter, measures to implement
EPA's regional haze rule, EPA's December 2003 proposals to regulate mercury
emissions from steam electric generating units and to further reduce
emissions of sulfur dioxide and nitrogen oxides under the Clean Air
Interstate Rule. In addition, LG&E is currently working with local
regulatory authorities to review the effectiveness of remedial measures
aimed at controlling particulate matter emissions from its Mill Creek
Station. LG&E previously settled a number of property damage claims from
adjacent residents and completed significant remedial measures as part of
its ongoing capital construction program. LG&E has converted the Mill
Creek Station to a wet stack operation in an effort to resolve all
outstanding issues related to particulate matter emissions.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
LG&E and KU, and their respective ratepayers, are exposed to market risks.
Both operations are exposed to
market risks fromMarket risk exposures include changes in interest rates and commodity
prices. To mitigate changes in cash flows attributable to these exposures,
the Companies have entered into various derivative instruments. Derivative
positions are monitored using techniques that include market value and
sensitivity analysis.
The Companies use interest rate swaps to hedge exposure to market
fluctuations in certain of their debt instruments. Pursuant to the
Companies' policies, use of these financial instruments is intended to
mitigate risk and earnings volatility and is not speculative in nature.
Management has designated all of the Companies' interest rate swaps as
hedge instruments. Financial instruments designated as cash flow hedges
have resulting gains and losses recorded within other comprehensive income
and stockholders' equity. To the extent a financial instrument or the
underlying item being hedged is prematurely terminated or the hedge becomes
ineffective, the resulting gains or losses are reclassified from other
comprehensive income to net income. Financial instruments designated as
fair value hedges are periodically marked to market with the resulting
gains and losses recorded directly into net income to correspond with
income or expense recognized from changes in market value of the items
being hedged.
The potential change in interest expense associated with a 1% change in
base interest rates of LG&E's and KU's unswapped debt is estimated at $5.3$3.3
million and $5.5$3.5 million, respectively, at June 30, 2003.2004. LG&E's exposure
to floating interest rates decreased $18.3$1.1 million and KU's exposure to
floating interest rates increased $4.3decreased $1.0 million during the first six months
of 2003.2004.
The potential changesloss in the fair valuesvalue of the Companies'
interest-rateLG&E's interest rate swaps resulting
from changesa hypothetical 1% change in base interest rates andis estimated at
approximately $23.6 million as of June 30, 2004. The potential loss in
fair value of KU's interest rate swaps resulting from a hypothetical 1%
change in base interest rates is estimated at approximately $4.3 million as
of June 30, 2004. These estimates are derived from third-party valuations.
Changes in the yield
curve also did not change materially during the first six monthsmarket values of 2003.these swaps, if held to maturity, will have
no effect on LG&E's or KU's net income or cash flow.
Pension Risk
LG&E's and KU's costs of providing defined-benefit pension retirement plans
areis dependent upon a number of factors, such as the rates of return on plan
assets, discount rate, and contributions made to the plans. The market
value ofplan. At June 30,
2004, LG&E and KU plan assets has been affected by declines in the
equity market. Ashave a result, at December 31, 2002, LG&E and KU were
required to recognize an additional minimum pension liability as prescribed by SFAS
No. 87, Employers' Accounting for Pensions.Pensions, in the pre-tax amounts of $47.6
- - New Page -
and $9.9 million, respectively. The liability wasliabilities are recorded as a
reduction to other comprehensive income, and diddo not affect net income for
2002.income. The
amount of the liability dependedliabilities depends upon the asset returns experienced in
20022003 and contributions made by LG&E and KU to the plan during 2002. Also, pension cost and cash contributions to the plans could
increase in future years without a substantial recovery in the equity
markets.2003. If the
fair value of the plansplan assets exceeds the accumulated benefit obligation,
the recorded liability will be reduced and other comprehensive income will
be restored in the consolidated balance sheet.
- - Page 30 -
During 2002, the combination of poor market performance and historically
low corporate bond rates created a divergenceConsolidated Balance Sheets.
A 1% increase or decrease in the potential value ofassumed discount rate could have an
approximate $41 million positive or negative impact to the
pension liability and the actual value of the pension assets. However,
year-to-date 2003 market performance has been quite strong. Should poor
market conditions return these conditions could result in an increase in
LG&E's and KU's funded accumulated
benefit obligation and future pension
expense. The primary assumptions that driveof LG&E. A 1% increase or decrease in the value ofassumed
discount rate could have an approximate $27 million positive or negative
impact to the unfunded accumulated benefit obligation are the discount rate and expected return on
plan assets.of KU.
In January 2003,2004, LG&E and KU made contributions to thetheir pension planplans of
$83.1$34.5 million and $3.5$43.4 million, respectively.
Energy Trading & Risk Management Activities
LG&E and KU conduct energy trading and risk management activities to
maximize the value of power sales from physical assets they own, in
addition to the wholesale sale of excess asset capacity. Certain energy
trading activities are accounted for on a mark-to-market basis in
accordance with SFAS No. 133, Accounting for Derivative Instruments and
Hedging Activities, and SFAS No. 138, Accounting for Certain Derivative
Instruments and Certain Hedging Activities. Wholesale sales of excess
asset capacity are treated as normal sales under SFAS No. 133 and SFAS No.
138 and are not marked to market.
The rescission of EITF No. 98-10 for fiscal periods ending after December
15, 2002, had no impact on LG&E's or KU's energy trading and risk
management reporting as all contracts marked to market under EITF No. 98-10
are also within the scope of SFAS No. 133.
The table below summarizes each LG&E's and KU's energy trading and risk
management activities for the three months and six months ended June 30,
2003,2004, and 2002(2003(in thousands of $). Trading volumes are evenly divided
between LG&E and KU.
Three Months Six Months
Ended Ended
June 30, June 30,
2004 2003 20022004 2003 2002
Fair value of contracts at beginning of
period, net asset/(liability) $ 603 $ 403 $ 12 $ (156) $(186)572 $(156)
Fair value of contracts when entered
into during the period (5) - 104(5) 2,620 (57)
Contracts realized or otherwise
settled during the period (82) (226) (31)(232) (283) 335
Changes in fair value due to changes
in assumptions 25 141 (59)206 (1,863) (66)
Fair value of contracts at end of period,
net asset/(liability)asset $ 541 $ 318 $ 26541 $ 318 $ 26
No changes to valuation techniques for energy trading and risk management
activities occurred during 20032004 or 2002.2003. Changes in market pricing,
interest rate and volatility assumptions were made during all periods. All
contracts outstanding at June 30, 2003,2004, have a maturity of less than one
year and are valued using prices actively quoted for proposed or executed
transactions or quoted by brokers.
LG&E and KU maintain policies intended to minimize credit risk and revalue
credit exposures daily to monitor compliance with those policies. As of
June 30, 2003, 100%2004, 98.9% of the trading and risk management commitments were
with counterparties rated BBB-/Baa3 equivalent or better.
- - Page 31 -
Deregulation
The electricity industry in Virginia is currently undergoing deregulation
which will enable customers to choose their own energy suppliers after
January 2004. On March 19, 2003, the Governor of Virginia signed House
Bill 2367, the "Electric Utility Restructuring Suspension," which suspends
Kentucky Utilities/Old Dominion Power from Virginia electric utility
restructuring until such time as retail choice is offered to other
customers in the United States.
Item 4. Controls and Procedures.
LG&E and KU maintain a system of disclosure controls and procedures
designed to ensure that information required to be disclosed by the
Companies in reports they file or submit under the Securities Exchange Act
of 1934 is recorded, processed, summarized and reported, within the time
periods specified in the Securities and Exchange Commission rules and
forms. LG&E and KU conducted an evaluation of such controls and procedures
under the supervision and with the participation of the Companies'
- - New Page -
management, including the Chairman, President and Chief Executive Officer
("CEO") and the Chief Financial Officer ("CFO"). Based upon that
evaluation, the CEO and CFO are of the conclusionhave concluded that the Companies' disclosure
controls and procedures are effective as of the end of the period covered
by this report. There has been no change in the Companies' internal
control over financial reporting that occurred during the fiscal quarter
ended June 30, 2003,2004, that has materially affected, or is reasonably likely
to materially affect, the Companies' internal control over financial
reporting.
- - Page 32 -
Part II. Other Information
Item 1. Legal Proceedings.
For a description of the significant legal proceedings involving LG&E and
KU, reference is made to the information under the following items and
captions of (a) LG&E's and KU's (A) respective combined Annual Report on Form
10-K for the year ended December 31, 2002:2003: Item 1, Business; Item 3, Legal
Proceedings; Item 7, Management's Discussion and Analysis of Financial
Condition and Results of Operations; Notes 3Operations, and 11 of LG&E's Notes toItem 8, Financial Statements under Item 8 and
Notes 3Supplementary Data and 11 of(b) LG&E's and KU's Notes to
Financial Statements under Item 8; and (B) respective combined Quarterly Report on Form 10Q10-Q
for the quarterperiod ended March 31, 2003:2004: Item 1 of Part III, Legal Proceedings. Except as
described herein, to date, the proceedings reported in LG&E's and KU's
respective combined Annual Report on Form 10-K or Quarterly Reports on Form
10-Q have not changed materially.
Electric and Gas Rates Cases
On June 30, 2004, the Kentucky Commission issued an order approving
increases in the base electric and gas rates of LG&E Employment Discrimination Case
As previously reported,and the base electric
rates of KU. In July 2004, the AG commenced an investigation examining
communications between the Kentucky Commission and the Companies and
separately filed for a rehearing of the rate cases on such issue and
certain calculation components of the increased rates. The Kentucky
Commission ordered a procedural reopening of the rate cases for the limited
purpose of taking evidence, if any, as to the communication issue. For a
description of developments in October 2001,these cases, see Note 11 of the Notes to
Consolidated Financial Statements in Part 1, Item 1 of this Quarterly
Report on Form 10-Q.
MISO
During March and April 2004, the Kentucky Commission held hearings in the
proceedings examining the cost and benefits of MISO membership. In July
2004, the Kentucky Commission reopened the matter for further testimony and
hearings on recently-filed MISO energy market tariffs and analysis of
potential membership in other Regional Transmission Organizations.
Proceedings in this matter are anticipated to continue into 2005.
OVEC Power Agreement and Share Purchase
On April 30, 2004, OVEC and its shareholders, including LG&E and KU,
entered into an Amended and Restated Inter-Company Power Agreement, to be
effective beginning March 2006, upon the expiration of the current power
contract among the parties. Under the new contract, which has a 20-year
term from its effective date, LG&E and KU have purchase rights for 5.63%
and 2.5%, respectively, of OVEC power at marginal cost-based rates. LG&E
and KU are entitled to 7% and 2.5% of OVEC power, respectively, under the
current contract.
In addition, LG&E will purchase from American Electric Power Company Inc.
("AEP") an additional 0.73% interest in OVEC for a purchase price of
approximately 30 employees$104,000, resulting in an increase in LG&E ownership in OVEC
from 4.9% to 5.63%. The share purchase transaction is anticipated to be
completed during the fourth quarter of 2004, subject to receipt of certain
regulatory approvals.
- - New Page -
Owensboro Contract Litigation
In May 2004, the City of Owensboro, Kentucky and Owensboro Municipal
Utilities (collectively "OMU"), filed suit in Davies County, Kentucky
District Court against KU concerning a long-term power supply contract (the
"OMU Agreement") with KU. The dispute involves interpretational
differences regarding certain issues under the OMU Agreement, including
various payments or former employees filedcharges between KU and OMU and rights concerning excess
power, termination and emissions allowances, respectively. The complaint
seeks approximately $6 million in damages for historical periods, as well
as injunctive and other relief, including a complaint against LG&E claiming past and current
instances of employment discrimination against LG&E. LG&Edeclaration that KU is in
material breach. KU has removed the
casethis litigation to the U.S. District Court
for the Western District of Kentucky and filed an answer in that court
denying all plaintiffs' claims. Discoverythe OMU claims and presenting certain counterclaims. KU has commenced inalso
initiated a proceeding at the matter. The court has ordered mediation andFERC to obtain the FERC's ruling on certain plaintiffs have
settled for non-material amounts as a result of that process. In addition,
certain other plaintiffs have sought administrative review before the U.S.
Equal Employment Opportunity Commission which has, to date, declined to
proceed to litigation on any claims reviewed. Previously amended
pleadings, while reducing the size
of the plaintiffissues in dispute.
Item 6. Exhibits and defendant groups
and eliminating certain prior demands, contain a claimed damage amount of
$100 million as well as requests for injunctive relief. During mediation
in the first quarter 2003, additional settlements were reached with a
number of plaintiffs, including a settlement with the lead plaintiff, which
reduced the number of remaining plaintiffs to approximately nine. LG&E
intends to continue to defend itself vigorously in the action and
management does not anticipate that the outcome will have a material impactReports on LG&E's operations or financial condition.
Combustion Turbine Litigation
LG&E and KU have filed a lawsuit in the U.S. District Court for the Eastern
District of Kentucky against Alstom Power, Inc. (formerly ABB Power
Generation, Inc.) ("Alstom") regarding two combustion turbines supplied by
Alstom during 1999. These units are installed at KU's E.W. Brown generating
plant and beneficial ownership of the combustion turbines is vested in LG&E
and KU. The original purchase price for the turbines was approximately
$91.8 million. The suit presents warranty, negligence, misrepresentation,
fraud and other claims relating to numerous operational defects or
deficiencies of the turbines. LG&E and KU have requested rescission of the
contract and recovery of all expenditures relating to the turbines.
Recently, the court ruled that LG&E and KU cannot pursue rescission on the
breach of contract claim, but has not ruled on whether they can seek
rescission on the fraud count. In addition, LG&E and KU seek punitive
damages. As an alternative to rescission, LG&E and KU have requested
relief for amounts incurred or expended to date in connection with
operational repairs, cover damages or liquidated damages and other costs,
with possible further damages and interest to be proven at trial. The
matter is currently in discovery with a trial re-scheduled for the fourth
quarter of 2003.
- - Page 33 -
ItemForm 8-K.
6(a). Exhibits. Applicable to Form
10-Q of
Exhibit
No. LG&E KU Description
10.01 X X Copy of Amended and restated inter-company power
agreement dated as of March 13, 2006, among Ohio Valley
Electric Corporation and sponsoring companies, including
LG&E and KU.
10.02 X X Copy of Fourth Amendment dated as of February 1,
2004 to Employment and Severance Agreement dated as of
February 25, 2000 by and among E.ON AG, LG&E Energy,
Powergen and Victor A. Staffieri.
10.03 X X Copy of Modification No. 15, dated as of April 30,
2004, to Inter-Company Power Agreement dated July 10, 1953
among Ohio Valley Electric Corporation and Sponsoring
Companies.
31 X X Certification - Section 302 of Sarbanes-Oxley Act of 2002
31.1 X Certification of Chairman of the Board, President and Chief
Executive Officer, pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
31.2 X Certification of Chief Financial Officer, pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
31.3 X Certification of Chairman of the Board, President and Chief
Executive Officer, pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
31.4 X Certification of Chief Financial Officer, pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
32 X X Certification pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002
ItemCertain instruments defining the rights of holders of certain long-term
debt of LG&E and KU have not been filed with the SEC but will be furnished
to the SEC upon request.
6(b). Reports on Form 8-K.
On May 14, 2003,July 1, 2004, LG&E and KU filed a Current Report on Form 8-K submitting
certificationsdescribing
the June 30, 2004, order of the Chairman, President and Chief Executive Officer and
the Chief Financial Officer of each company, respectively, pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002Kentucky Commission regarding the Companies'
Quarterly Reports on Form 10-Q for the period ended March 31, 2003.increases in
their base rates.
- - New Page 34 -
SIGNATURES
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.
Louisville Gas and Electric Company
Registrant
Date: August 13, 20032004 /s/ S. Bradford Rives
S. Bradford Rives
Senior Vice President, Finance and
ControllerChief Financial Officer
(On behalf of the registrant in his
capacitycapacities as Principal Financial Officer
and Principal
Accounting Officer)
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.
Kentucky Utilities Company
Registrant
Date: August 13, 20032004 /s/ S. Bradford Rives
S. Bradford Rives
Senior Vice President, Finance and
ControllerChief Financial Officer
(On behalf of the registrant in his
capacitycapacities as Principal Financial Officer
and Principal
Accounting Officer)
- - New Page 35 -
Exhibit 31 - CERTIFICATIONS
Exhibit 31.1
Louisville Gas and Electric Company
I, Victor A. Staffieri, Chairman of the Board, President and Chief
Executive Officer, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Louisville
Gas and Electric Company;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other
financial information included in this report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
report;
4. The registrant's other certifying officer(s) and I are responsible
for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant
and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our conclusions
about the effectiveness of the disclosure controls and procedures, as
of the end of the period covered by this report based on such
evaluation; and
(c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: August 13, 2003
____________________2004
/s/ Victor A. Staffieri
Victor A. Staffieri
Chairman of the Board, President and Chief Executive Officer
- - New Page 36 -
Exhibit 31.2
Louisville Gas and Electric Company
I, Richard Aitken-Davies,S. Bradford Rives, Chief Financial Officer, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Louisville
Gas and Electric Company;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other
financial information included in this report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
report;
4. The registrant's other certifying officer(s) and I are responsible
for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant
and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: August 13, 2003
___________________
Richard Aitken-Davies2004
/s/ S. Bradford Rives
S. Bradford Rives
Chief Financial Officer
- - New Page 37 -
Exhibit 31.3
Kentucky Utilities Company
I, Victor A. Staffieri, Chairman of the Board, President and Chief
Executive Officer, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Kentucky
Utilities Company;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other
financial information included in this report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
report;
4. The registrant's other certifying officer(s) and I are responsible
for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant
and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: August 13, 2003
_____________________2004
/s/ Victor A. Staffieri
Victor A. Staffieri
Chairman of the Board, President and Chief Executive Officer
- - New Page 38 -
Exhibit 31.4
Kentucky Utilities Company
I, Richard Aitken-Davies,S. Bradford Rives, Chief Financial Officer, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Kentucky
Utilities Company;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other
financial information included in this report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
report;
4. The registrant's other certifying officer(s) and I are responsible
for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant
and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: August 13, 2003
____________________
Richard Aitken-Davies2004
/s/ S. Bradford Rives
S. Bradford Rives,
Chief Financial Officer
- - New Page 39 -
Exhibit 32
Certification Pursuant to 18 U.S.C. Section 1350
As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
In connection with the Quarterly Report of Louisville Gas and
Electric Company and Kentucky Utilities Company (the "Companies") on Form
10-Q for the period ended June 30, 2003,2004, as filed with the Securities and
Exchange Commission (the "Report"), each of the undersigned does hereby
certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002, that, to such officer's knowledge,
1) The Report fully complies with the requirements of Section 13(a) or
15(d) of the Securities Exchange Act of 1934; and
2) The information contained in the Report fairly presents, in all
material respects, the financial condition and results of operations of the
Companies as of the dates and for the period expressed in the Report.
August 13, 20032004
/s/ Victor A. Staffieri
Chairman of the Board, President
and Chief Executive Officer
Louisville Gas and Electric Company
Kentucky Utilities Company
/s/ Richard Aitken-DaviesS. Bradford Rives
Chief Financial Officer
Louisville Gas and Electric Company
Kentucky Utilities Company
The foregoing certification is being furnished solely pursuant to 18 U.S.C.
Section 1350 and is not being filed as part of the Report or as a separate
disclosure document.
- - Page 40 -