1 FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 [ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 1996 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission Registrant; State of Incorporation; IRS Employer File Number Address; and Telephone Number Identification No. 1-9513 CMS ENERGY CORPORATION 38-2726431 (A Michigan Corporation) Fairlane Plaza South, Suite 1100 330 Town Center Drive Dearborn, Michigan 48126 (313)436-9200 1-5611 CONSUMERS POWER COMPANY 38-0442310 (A Michigan Corporation) 212 West Michigan Avenue Jackson, Michigan 49201 (517)788-0550 Indicate by check mark whether the Registrants (1) have 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 Registrants were required to file such reports), and (2) have been subject to such filing requirements for the past 90 days. Yes X No --- --- Number of shares outstanding of each of the issuer's classes of common stock at April 30, 1996: CMS Energy Corporation: CMS Energy Common Stock, $.01 par value 91,999,879 CMS Energy Class G Common Stock, no par value 7,700,919 Consumers Power Company, $10 par value, privately held by CMS Energy 84,108,789
2 CMS Energy Corporation and Consumers Power Company Quarterly reports on Form 10-Q to the Securities and Exchange Commission for the Quarter Ended March 31, 1996 This combined Form 10-Q is separately filed by CMS Energy Corporation and Consumers Power Company. Information contained herein relating to each individual registrant is filed by such registrant on its own behalf. Accordingly, except for its subsidiaries, Consumers Power Company makes no representation as to information relating to any other companies affiliated with CMS Energy Corporation. TABLE OF CONTENTS Page Glossary. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 PART I: CMS Energy Corporation Report of Independent Public Accountants. . . . . . . . . . . . . . . 6 Consolidated Statements of Income . . . . . . . . . . . . . . . . . . 7 Consolidated Statements of Cash Flows . . . . . . . . . . . . . . . . 8 Consolidated Balance Sheets . . . . . . . . . . . . . . . . . . . . . 9 Consolidated Statements of Common Stockholders' Equity. . . . . . . . 11 Condensed Notes to Consolidated Financial Statements. . . . . . . . . 12 Management's Discussion and Analysis. . . . . . . . . . . . . . . . . 21 Consumers Power Company Report of Independent Public Accountants. . . . . . . . . . . . . . . 34 Consolidated Statements of Income . . . . . . . . . . . . . . . . . . 35 Consolidated Statements of Cash Flows . . . . . . . . . . . . . . . . 36 Consolidated Balance Sheets . . . . . . . . . . . . . . . . . . . . . 37 Consolidated Statements of Common Stockholder's Equity. . . . . . . . 39 Condensed Notes to Consolidated Financial Statements. . . . . . . . . 40 Management's Discussion and Analysis. . . . . . . . . . . . . . . . . 47 PART II: Item 1. Legal Proceedings. . . . . . . . . . . . . . . . . . . . . . 57 Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . 59 Signatures. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60
3 GLOSSARY Certain terms used in the text and financial statements are defined below. ABATE . . . . . . . . . . . . . Association of Businesses Advocating Tariff Equity ABB . . . . . . . . . . . . . . Asea Brown Boveri Energy Ventures ALJ . . . . . . . . . . . . . . Administrative Law Judge Attorney General. . . . . . . . Michigan Attorney General bcf . . . . . . . . . . . . . . Billion cubic feet Big Rock. . . . . . . . . . . . Big Rock Point nuclear plant, owned by Consumers Board of Directors. . . . . . . Board of Directors of CMS Energy Class G Common Stock. . . . . . One of two classes of common stock of CMS Energy, no par value, which reflects the separate performance of the Consumers Gas Group Clean Air Act . . . . . . . . . Federal Clean Air Act as amended on November 15, 1990 CMS Electric Marketing. . . . . CMS Electric Marketing Company, a subsidiary of Enterprises CMS Energy. . . . . . . . . . . CMS Energy Corporation CMS Energy Common Stock . . . . One of two classes of common stock of CMS Energy, par value $.01 per share CMS Gas and Electric. . . . . . CMS Gas and Electric Company, a subsidiary of Enterprises CMS Gas Marketing . . . . . . . CMS Gas Marketing Company, a subsidiary of Enterprises CMS Gas Transmission. . . . . . CMS Gas Transmission and Storage Company, a subsidiary of Enterprises CMS Generation. . . . . . . . . CMS Generation Co., a subsidiary of Enterprises CMS Holdings. . . . . . . . . . CMS Midland Holdings Company, a subsidiary of Consumers CMS Midland . . . . . . . . . . CMS Midland Inc., a subsidiary of Consumers CMS NOMECO. . . . . . . . . . . CMS NOMECO Oil & Gas Co., a subsidiary of Enterprises Common Stock. . . . . . . . . . CMS Energy Common Stock and Class G Common Stock Consumers . . . . . . . . . . . Consumers Power Company, a subsidiary of CMS Energy Consumers Power Company Financing I . . . . . . . . . A wholly-owned Delaware business trust of Consumers Consumers Gas Group . . . . . . The gas distribution, storage and transportation businesses currently conducted by Consumers and Michigan Gas Storage Court of Appeals. . . . . . . . Michigan Court of Appeals Detroit Edison. . . . . . . . . The Detroit Edison Company DNR . . . . . . . . . . . . . . Michigan Department of Natural Resources DSM . . . . . . . . . . . . . . Demand-side management EDEER S. A. . . . . . . . . . . Empresa Distribuidora de Electricidad de Entre Rios S. A., an electric distribution utility in northeastern Argentina Enterprises . . . . . . . . . . CMS Enterprises Company, a subsidiary of CMS Energy FERC. . . . . . . . . . . . . . Federal Energy Regulatory Commission FMLP. . . . . . . . . . . . . . First Midland Limited Partnership GCR . . . . . . . . . . . . . . Gas cost recovery General Motors. . . . . . . . . General Motors Corporation GTNs. . . . . . . . . . . . . . CMS Energy General Term Notes, $250 million Series A and $125 million Series B HYDRA-CO. . . . . . . . . . . . HYDRA-CO Enterprises, Inc., a subsidiary of CMS Generation kWh . . . . . . . . . . . . . . Kilowatt-hour mcf . . . . . . . . . . . . . . Thousand cubic feet MCV Facility. . . . . . . . . . A natural gas-fueled, combined cycle cogeneration facility operated by the MCV Partnership MCV Partnership . . . . . . . . Midland Cogeneration Venture Limited Partnership MD&A. . . . . . . . . . . . . . Management's Discussion and Analysis Michigan Gas Storage. . . . . . Michigan Gas Storage Company, a subsidiary of Consumers Michigan Natural Resources and Environmental Protection Act. . . . . . . . . . . . . . Michigan Natural Resources and Environmental Protection Act Part 201 MHP . . . . . . . . . . . . . . Moss Bluff Hub Partners, L. P. MPSC. . . . . . . . . . . . . . Michigan Public Service Commission MW. . . . . . . . . . . . . . . Megawatts NEIL. . . . . . . . . . . . . . Nuclear Electric Insurance Ltd. NML . . . . . . . . . . . . . . Nuclear Mutual Ltd. NOPR. . . . . . . . . . . . . . Notice of Proposed Rulemaking NRC . . . . . . . . . . . . . . Nuclear Regulatory Commission Outstanding Shares. . . . . . . Outstanding shares of Class G Common Stock Palisades . . . . . . . . . . . Palisades nuclear plant, owned by Consumers PPA . . . . . . . . . . . . . . The Power Purchase Agreement between Consumers and the MCV Partnership with a 35-year term commencing in March 1990 PSCR. . . . . . . . . . . . . . Power supply cost recovery Retained Interest . . . . . . . The interest in the common stockholders' equity of the Consumers Gas Group that is retained by CMS Energy Retained Interest Shares. . . . Authorized but unissued shares of Class G Common Stock not held by holders of the Outstanding Shares and attributable to the Retained Interest SEC . . . . . . . . . . . . . . Securities and Exchange Commission Settlement Order. . . . . . . . MPSC Order issued March 31, 1993 in MPSC Case Nos. U-10127, U-8871 and others, and the rehearing order issued May 26, 1993 SFAS. . . . . . . . . . . . . . Statement of Financial Accounting Standards Superfund . . . . . . . . . . . Comprehensive Environmental Response, Compensation and Liability Act Terra . . . . . . . . . . . . . Terra Energy Ltd., an oil and gas exploration and production company located in Traverse City, Michigan TGN . . . . . . . . . . . . . . Transportadora de Gas del Norte S. A., a natural gas pipeline located in Argentina Walter. . . . . . . . . . . . . Walter International, Inc., an oil and gas exploration and production company located in Houston, Texas
6 ARTHUR ANDERSEN LLP Report of Independent Public Accountants ---------------------------------------- To CMS Energy Corporation: We have reviewed the accompanying consolidated balance sheets of CMS ENERGY CORPORATION (a Michigan corporation) and subsidiaries as of March 31, 1996 and 1995, and the related consolidated statements of income, common stockholders' equity and cash flows for the three-month and twelve-month periods then ended. These financial statements are the responsibility of the Company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the financial statements referred to above for them to be in conformity with generally accepted accounting principles. We have previously audited, in accordance with generally accepted auditing standards, the consolidated balance sheet and consolidated statement of preferred stock of CMS Energy Corporation and subsidiaries as of December 31, 1995, and the related consolidated statements of income, common stockholders' equity and cash flows for the year then ended (not presented herein), and, in our report dated January 26, 1996, we expressed an unqualified opinion on those statements. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 1995, is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived. Arthur Andersen LLP Detroit, Michigan, May 10, 1996.
7 <TABLE> CMS Energy Corporation Consolidated Statements of Income (Unaudited) <CAPTION> Three Months Ended Twelve Months Ended March 31 March 31 1996 1995 1996 1995 In Millions, Except Per Share Amounts <S> <C> <C> <C> <C> OPERATING REVENUE Electric utility $ 591 $ 540 $2,328 $2,185 Gas utility 546 482 1,259 1,105 Oil and gas exploration and production 31 32 107 94 Independent power production 21 23 94 60 Natural gas transmission, storage and marketing 83 38 241 140 Other 3 2 19 6 ------- ------- ------- ------- Total operating revenue 1,275 1,117 4,048 3,590 ------- ------- ------- ------- OPERATING EXPENSES Operation Fuel for electric generation 73 67 289 294 Purchased power - related parties 140 124 507 484 Purchased and interchange power 47 36 207 156 Cost of gas sold 410 308 923 721 Other 168 160 706 638 ------- ------- ------- ------- Total operation 838 695 2,632 2,293 Maintenance 40 46 180 194 Depreciation, depletion and amortization 124 114 426 390 General taxes 59 56 199 178 ------- ------- ------- ------- Total operating expenses 1,061 911 3,437 3,055 ------- ------- ------- ------- PRETAX OPERATING INCOME (LOSS) Electric utility 103 87 378 331 Gas utility 91 91 151 143 Oil and gas exploration and production 9 15 24 22 Independent power production 6 13 39 31 Natural gas transmission, storage and marketing 8 3 19 9 Other (3) (3) - (1) ------- ------- ------- ------- Total pretax operating income 214 206 611 535 ------- ------- ------- ------- INCOME TAXES 57 54 133 111 ------- ------- ------- ------- NET OPERATING INCOME 157 152 478 424 ------- ------- ------- ------- OTHER INCOME (DEDUCTIONS) Accretion income 3 3 11 12 Accretion expense (7) (8) (30) (34) Other income taxes, net 3 1 14 11 Other, net 2 5 7 19 ------- ------- ------- ------- Total other income 1 1 2 8 ------- ------- ------- ------- FIXED CHARGES Interest on long-term debt 57 56 225 203 Other interest 7 5 29 20 Capitalized interest (2) (1) (9) (6) Preferred stock dividends 7 7 28 28 Preferred securities distributions 1 - 1 - ------- ------- ------- ------- Net fixed charges 70 67 274 245 ------- ------- ------- ------- NET INCOME $ 88 $ 86 $ 206 $ 187 ======= ======= ======= ======= NET INCOME ATTRIBUTABLE TO COMMON STOCKS CMS Energy $ 76 $ 86 $ 191 $ 187 ======= ======= ======= ======= Class G $ 12 $ - $ 15 $ - ======= ======= ======= ======= AVERAGE COMMON SHARES OUTSTANDING CMS Energy 92 87 90 86 ======= ======= ======= ======= Class G 8 - 8 - ======= ======= ======= ======= EARNINGS PER AVERAGE COMMON SHARE CMS Energy $ .83 $ .99 $ 2.12 $ 2.17 ======= ======= ======= ======= Class G $ 1.50 $ - $ 1.90 $ - ======= ======= ======= ======= DIVIDENDS DECLARED PER COMMON SHARE CMS Energy $ .24 $ .21 $ .93 $ .81 ======= ======= ======= ======= Class G $ .28 $ - $ .84 $ - ======= ======= ======= ======= <FN> THE ACCOMPANYING CONDENSED NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE>
8 <TABLE> CMS Energy Corporation Consolidated Statements of Cash Flows (Unaudited) <CAPTION> Three Months Ended Twelve Months Ended March 31 March 31 1996 1995 1996 1995 In Millions <S> <C> <C> <C> <C> CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 88 $ 86 $ 206 $ 187 Adjustments to reconcile net income to net cash provided by operating activities Depreciation, depletion and amortization (includes nuclear decommissioning depreciation of $13, $13, $51 and $49, respectively) 124 114 426 390 Capital lease amortization 9 10 36 30 Debt discount amortization - 8 16 36 Deferred income taxes and investment tax credit 6 29 52 68 Accretion expense 7 8 30 34 Accretion income - abandoned Midland project (3) (3) (11) (12) Undistributed earnings of related parties (21) (12) (62) (33) MCV power purchases - settlement (Note 2) (12) (37) (112) (102) Other 7 - 14 4 Changes in other assets and liabilities 144 127 106 (45) ------ ------ ------ ------ Net cash provided by operating activities 349 330 701 557 ------ ------ ------ ------ CASH FLOWS FROM INVESTING ACTIVITIES Capital expenditures (excludes assets placed under capital lease) (110) (131) (514) (592) Investments in partnerships and unconsolidated subsidiaries (71) (11) (301) (41) Acquisition of companies, net of cash acquired (20) (156) (10) (156) Investments in nuclear decommissioning trust funds (13) (13) (51) (49) Cost to retire property, net (6) (9) (39) (41) Deferred demand-side management costs (2) (2) (10) (11) Other (3) (4) (12) (9) Proceeds from sale of property - - 22 20 ------ ------ ------ ------ Net cash used in investing activities (225) (326) (915) (879) ------ ------ ------ ------ CASH FLOWS FROM FINANCING ACTIVITIES Proceeds from bank loans, notes and bonds 339 208 464 869 Proceeds from preferred securities 97 - 97 - Issuance of common stock 8 9 159 26 Increase (decrease) in notes payable, net (303) (204) (97) 135 Repayment of bank loans (246) (9) (255) (427) Payment of common stock dividends (24) (18) (90) (70) Payment of capital lease obligations (9) (10) (36) (29) Retirement of bonds and other long-term debt - (11) (33) (181) Retirement of common stock - - (1) (1) ------ ------ ------ ------ Net cash provided by (used in) financing activities (138) (35) 208 322 ------ ------ ------ ------ NET INCREASE (DECREASE) IN CASH AND TEMPORARY CASH INVESTMENTS (14) (31) (6) - CASH AND TEMPORARY CASH INVESTMENTS, BEGINNING OF PERIOD 56 79 48 48 ------ ------ ------ ------ CASH AND TEMPORARY CASH INVESTMENTS, END OF PERIOD $ 42 $ 48 $ 42 $ 48 ====== ====== ====== ====== <FN> THE ACCOMPANYING CONDENSED NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE>
9 <TABLE> CMS Energy Corporation Consolidated Balance Sheets <CAPTION> March 31 March 31 1996 December 31 1995 (Unaudited) 1995 (Unaudited) In Millions ASSETS <S> <C> <C> <C> PLANT AND PROPERTY (At Cost) Electric $6,130 $6,103 $5,826 Gas 2,287 2,218 2,115 Oil and gas properties (full-cost method) 1,096 1,074 978 Other 86 105 55 ------ ------ ------ 9,599 9,500 8,974 Less accumulated depreciation, depletion and amortization 4,747 4,627 4,405 ------ ------ ------ 4,852 4,873 4,569 Construction work-in-progress 200 201 257 ------ ------ ------ 5,052 5,074 4,826 ------ ------ ------ INVESTMENTS Independent power production 297 275 262 Natural gas transmission, storage and marketing 231 193 41 First Midland Limited Partnership (Note 2) 226 225 219 Midland Cogeneration Venture Limited Partnership (Note 2) 104 103 83 Other 25 22 16 ------ ------ ------ 883 818 621 ------ ------ ------ CURRENT ASSETS Cash and temporary cash investments at cost, which approximates market 42 56 48 Accounts receivable and accrued revenue, less allowances of $3, $4 and $4, respectively (Note 7) 356 296 149 Inventories at average cost Gas in underground storage 39 184 80 Materials and supplies 85 83 79 Generating plant fuel stock 16 37 27 Deferred income taxes 22 24 37 Prepayments and other 190 230 178 ------ ------ ------ 750 910 598 ------ ------ ------ NON-CURRENT ASSETS Postretirement benefits 458 462 473 Nuclear decommissioning trust funds 323 304 236 Abandoned Midland project 126 131 143 Other 451 444 441 ------ ------ ------ 1,358 1,341 1,293 ------ ------ ------ TOTAL ASSETS $8,043 $8,143 $7,338 ====== ====== ====== </TABLE>
10 <TABLE> <CAPTION> March 31 March 31 1996 December 31 1995 (Unaudited) 1995 (Unaudited) In Millions STOCKHOLDERS' INVESTMENT AND LIABILITIES <S> <C> <C> <C> CAPITALIZATION (Note 7) Common stockholders' equity $1,541 $1,469 $1,209 Preferred stock of subsidiary 356 356 356 Company-obligated mandatorily redeemable preferred securities of Consumers Power Company Financing I (a) 100 - - Long-term debt 3,110 2,906 2,787 Non-current portion of capital leases 108 106 103 ------ ------ ------ 5,215 4,837 4,455 ------ ------ ------ CURRENT LIABILITIES Current portion of long-term debt and capital leases 97 207 180 Notes payable 38 341 135 Accounts payable 267 304 160 Accrued taxes 223 256 172 Power purchases - settlement (Note 2) 90 90 95 Accounts payable - related parties 60 53 54 Accrued interest 49 45 30 Accrued refunds 28 22 35 Other 187 192 166 ------ ------ ------ 1,039 1,510 1,027 ------ ------ ------ NON-CURRENT LIABILITIES Deferred income taxes 638 640 604 Postretirement benefits 539 533 549 Power purchases - settlement (Note 2) 215 221 295 Deferred investment tax credits 168 171 178 Regulatory liabilities for income taxes, net 53 44 29 Other 176 187 201 ------ ------ ------ 1,789 1,796 1,856 ------ ------ ------ COMMITMENTS AND CONTINGENCIES (Notes 2, 3, 4 and 5) TOTAL STOCKHOLDERS' INVESTMENT AND LIABILITIES $8,043 $8,143 $7,338 ====== ====== ====== <FN> (a) As described in Note 7 to the Consolidated Financial Statements, the primary asset of Consumers Power Company Financing I is $103 million principal amount of 8.36% subordinated interest notes due 2015 from Consumers. THE ACCOMPANYING CONDENSED NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE>
11 <TABLE> CMS Energy Corporation Consolidated Statements of Common Stockholders' Equity (Unaudited) <CAPTION> Three Months Ended Twelve Months Ended March 31 March 31 1996 1995 1996 1995 In Millions <S> <C> <C> <C> <C> COMMON STOCK At beginning and end of period $ 1 $ 1 $ 1 $ 1 ------- ------- ------- ------- OTHER PAID-IN CAPITAL At beginning of period 1,951 1,701 1,734 1,684 Common stock reacquired - - (1) (1) Common stock issued: CMS Energy 7 33 100 50 Class G 1 - 125 - Common stock reissued - - 1 1 ------- ------- ------- ------- At end of period 1,959 1,734 1,959 1,734 ------- ------- ------- ------- REVALUATION CAPITAL At beginning of period (8) - 1 1 Change in unrealized investment-gain (loss) - 1 (9) - ------- ------- ------- ------- At end of period (8) 1 (8) 1 ------- ------- ------- ------- RETAINED EARNINGS (DEFICIT) At beginning of period (475) (595) (527) (644) Net income 88 86 206 187 Common stock dividends declared: CMS Energy (22) (18) (84) (70) Class G (2) - (6) - ------- ------- ------- ------- At end of period (411) (527) (411) (527) ------- ------- ------- ------- TOTAL COMMON STOCKHOLDERS' EQUITY $1,541 $1,209 $1,541 $1,209 ======= ======= ======= ======= <FN> THE ACCOMPANYING CONDENSED NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE>
12 CMS Energy Corporation Condensed Notes to Consolidated Financial Statements These financial statements and their related condensed notes should be read along with the consolidated financial statements and notes contained in the 1995 Form 10-K of CMS Energy Corporation that includes the Report of Independent Public Accountants. In the opinion of management, the unaudited information herein reflects all adjustments necessary to assure the fair presentation of financial position, results of operations and cash flows for the periods presented. 1: Corporate Structure and Basis of Presentation CMS Energy is the parent holding company of Consumers and Enterprises. Consumers, a combination electric and gas utility company serving the Lower Peninsula of Michigan, is the principal subsidiary of CMS Energy. Consumers' customer base includes a mix of residential, commercial and diversified industrial customers, the largest segment of which is the automotive industry. Enterprises is engaged in several domestic and international energy-related businesses, including oil and gas exploration and production, development and operation of independent power production facilities, electric and gas marketing services to utility, commercial and industrial customers, and storage and transmission of natural gas. CMS Energy uses the equity method of accounting for investments in companies and partnerships where it has more than a 20 percent but less than a majority ownership interest and includes these results in operating income. For the three and twelve month periods ended March 31, 1996, undistributed equity earnings were $21 million and $62 million, respectively and $12 million and $33 million for the three and twelve month periods ended March 31, 1995. 2: The Midland Cogeneration Venture The MCV Partnership, which leases and operates the MCV Facility, contracted to sell electricity to Consumers for a 35-year period beginning in 1990 and to supply electricity and steam to The Dow Chemical Company. Consumers, through its subsidiaries, holds the following assets related to the MCV Partnership and MCV Facility: 1) CMS Midland owns a 49 percent general partnership interest in the MCV Partnership; and 2) CMS Holdings holds through the FMLP a 35 percent lessor interest in the MCV Facility. Power Purchases from the MCV Partnership: Consumers' annual obligation to purchase contract capacity from the MCV Partnership is 1,240 MW for 1996 and for each subsequent year through the end of the PPA. In 1993, the MPSC issued the Settlement Order that has allowed Consumers to recover substantially all of the payments for its ongoing purchase of 915 MW of contract capacity. The PPA provides that Consumers is to pay the MCV Partnership a minimum levelized average capacity charge of 3.77 cents per kWh, a fixed energy charge and a variable energy charge which is based primarily on Consumers' average cost of coal consumed. The Settlement Order permits Consumers to recover capacity charges averaging 3.62 cents per kWh for 915 MW of capacity, the fixed energy charge and the prescribed energy charges associated with the scheduled deliveries within certain hourly availability limits, whether or not those deliveries are scheduled on an economic basis. For all energy delivered on an economic basis above the availability limits to 915 MW, Consumers has been allowed to recover 1/2 cent per kWh capacity payment in addition to the variable energy charge. In 1992, Consumers recognized a loss for the present value of the estimated future underrecoveries of power costs under the PPA as a result of the Settlement Order. This loss was based, in part, on management's assessment of the future availability of the MCV Facility, and the effect of the future power market on the amount, timing and price at which various increments of the capacity, above the MPSC-authorized level, could be resold. Additional losses may occur if actual future experience materially differs from the 1992 estimates. As anticipated in 1992, Consumers continues to experience cash underrecoveries associated with the Settlement Order. If Consumers is unable to sell any capacity above the 1993 MPSC-authorized level, future additional after-tax losses and after- tax cash underrecoveries would be incurred. Consumers' estimates of its after-tax cash underrecoveries and possible losses for 1996 and the next four years are shown in the table below. After-tax, In Millions 1996 1997 1998 1999 2000 - -------------------------------------------------------------------------- Estimated cash underrecoveries $56 $55 $ 8 $ 9 $ 7 Possible additional underrecoveries and losses (a) 20 22 72 72 74 ========================================================================== (a) If unable to sell any capacity above the MPSC's 1993 authorized level. Under the Settlement Order, capacity and energy purchases from the MCV Partnership above the 915 MW level can be utilized to satisfy customers' power needs, but the MPSC will determine the levels of recovery from retail customers at a later date. The Settlement Order also provides Consumers the right to remarket to third parties the remaining contract capacity. The MCV Partnership did not object to the Settlement Order. ABATE and the Attorney General had appealed the Settlement Order to the Court of Appeals and in March 1996, the Court of Appeals affirmed the Settlement Order. In September 1995, Consumers and the MPSC staff reached a proposed settlement agreement that would potentially resolve several issues in three pending proceedings, including Consumers' electric rate case (see Note 3) and cost recovery for the entire 325 MW of MCV Facility capacity above the MPSC's currently authorized 915 MW level. Consumers does not anticipate the need for an additional loss to be recorded above the amount anticipated in 1992 if the settlement agreement is adopted as proposed. For further information regarding this proposed settlement, see Note 3. At March 31, 1996 and December 31, 1995, the after-tax present value of the Settlement Order liability totaled $198 million and $202 million, respectively. The reduction in the liability since December 31, 1995, reflects after-tax cash underrecoveries of $8 million, partially offset by after-tax accretion expense of $4 million. The undiscounted after-tax amount associated with the liability totaled $593 million at March 31, 1996. In 1994 and 1995, Consumers paid $44 million to terminate power purchase agreements with the developers of two proposed independent power projects totaling 109 MW. As part of the proposed settlement reached with the MPSC staff (see Note 3), Consumers is seeking to utilize less-expensive contract capacity from the MCV Facility which Consumers is currently not authorized to recover from retail customers. Cost recovery for this contract capacity would start in 1996. Even if Consumers is not allowed to substitute MCV Facility capacity for the capacity to be provided under the terminated agreements, Consumers believes that the MPSC would still approve recovery of the buyout costs due to the significant customer savings resulting from the terminated power purchase agreements. As a result, Consumers has recorded a regulatory asset of $44 million. PSCR Matters Related to Power Purchases from the MCV Partnership: As part of the 1993 and 1994 plan case orders, the MPSC confirmed the recovery of certain costs related to power purchases from the MCV Partnership. ABATE or the Attorney General appealed these plan case orders to the Court of Appeals. In February 1996, the Court of Appeals affirmed the MPSC's order in the 1993 plan case. As part of its decision in the 1993 PSCR reconciliation case issued February 23, 1995, the MPSC disallowed a portion of the costs related to purchases from the MCV Partnership, and instead assumed recovery of those costs from wholesale customers. Consumers believes this is contrary to the terms of the Settlement Order and has appealed the February 23 order on this issue. The MCV Partnership and ABATE have also filed separate appeals of this order. 3: Rate Matters Electric Rate Proceedings: In late 1994, Consumers filed a request with the MPSC to increase its retail electric rates. The request included provisions for ratemaking treatment of the 325 MW of MCV Facility contract capacity above 915 MW. Early in 1996, the MPSC issued a partial final order in this case, granting Consumers a $46 million annual increase in its electric retail rates. This order authorized a 12.25 percent return on common equity. However, it did not address cost recovery related to the 325 MW of MCV Facility contract capacity above 915 MW. The MPSC stated that this matter would be addressed in connection with its consideration of the proposed settlement agreement discussed below. Consumers also has a separate request before the MPSC to offer competitive special rates to certain large qualifying customers. In addition, Consumers filed a request with the MPSC, seeking to adjust its depreciation rates and to reallocate certain portions of its electric production plant to transmission accounts. For further information regarding these requests, see the Electric Rate Proceedings and Special Rates discussions in the Management's Discussion and Analysis. In September 1995, Consumers and the MPSC staff reached a proposed settlement agreement that, if approved by the MPSC, would resolve several outstanding regulatory issues currently before the MPSC in separate proceedings. Some of these issues were preliminarily addressed in February 1996 when the MPSC issued a partial final order in Consumers' electric rate case. If fully adopted, the settlement agreement would: provide for cost recovery of the entire 325 MW of uncommitted MCV Facility capacity; implement provisions for incentive ratemaking; resolve the special competitive services and depreciation rate cases; implement a limited direct access program; and accelerate recovery of nuclear plant investment. Consumers expects a final order by mid-1996. Gas Rates: As part of an agreement approved by the MPSC, Consumers filed a gas rate case in December 1994 that incorporated cost increases, including costs for postretirement benefits and costs related to Consumers' former manufactured gas plant sites (see Note 4). In March 1996, the MPSC issued a final order in this case, authorizing recovery of costs related to postretirement benefits and former manufactured gas plant sites. Overall however, the order decreased Consumers' gas rates by $11.7 million annually and authorized an 11.6 percent return on common equity, a decrease from the 13.25 percent previously authorized. Consumers has filed a petition for rehearing with the MPSC, requesting, among other things, recovery of certain gas losses, as well as reconsideration of issues in the order that Consumers believes provide disincentives to competition. The relief requested in the petition for rehearing, if granted in its entirety, would result in a $5.5 million annual rate reduction compared with the $11.7 million reduction. GCR Matters: In 1993, the MPSC issued an order favorable to Consumers regarding a gas pricing disagreement between Consumers and certain intrastate producers. In early 1995, management concluded that the intrastate producers' pending appeals of the order would not be successful and accordingly, reversed a previously accrued contingency and recorded a $23 million (pretax) benefit. The MPSC order was affirmed by the Court of Appeals in June 1995. The producers have petitioned the Michigan Supreme Court for review. In October 1995, the MPSC issued an order regarding a $44 million (excluding any interest) gas supply contract pricing dispute between Consumers and certain intrastate producers. The order stated that Consumers was not obligated to seek prior approval of market-based pricing provisions that were implemented under the contracts in question. The producers subsequently filed a claim of appeal of the MPSC order with the Court of Appeals. Consumers believes the MPSC order supports its position that the producers' theories are without merit and intends to vigorously oppose any claims they may raise but cannot predict the outcome of this issue. Resolution of the issues discussed in this note is not expected to have a material impact on CMS Energy's or Consumers' financial position or results of operations. 4: Commitments, Contingencies and Other Environmental Matters: Consumers is a so-called "potentially responsible party" at several sites being administered under Superfund. Superfund liability is joint and several and along with Consumers, there are numerous credit-worthy, potentially responsible parties with substantial assets cooperating with respect to the individual sites. Based upon past negotiations, Consumers estimates its total liability for the significant sites will average less than 4 percent of the estimated total site remediation costs, and such liability is expected to be less than $9 million. At March 31, 1996, Consumers has accrued a liability for its estimated losses. The Michigan Natural Resources and Environmental Protection Act was substantially amended in June 1995. This Michigan law bears some similarities to the federal Superfund law. Consumers expects that it will ultimately incur investigation and remedial action costs at a number of sites, including some of the 23 sites that formerly housed manufactured gas plant facilities, even those in which it has a partial or no current ownership interest. Consumers has prepared plans for remedial investigation/feasibility studies for several of these sites. Three of the four plans submitted by Consumers have been approved by the DNR or the Michigan Department of Environmental Quality. The findings for two remedial investigations indicate that the expenditures for remedial action at those sites are likely to be less than previously estimated; however, these findings may not be representative of all of the sites. Data available to Consumers and its continued internal review have resulted in an estimate for all costs related to investigation and remedial action for all 23 sites of between $48 million and $98 million. These estimates are based on undiscounted 1996 costs. At March 31, 1996, Consumers has accrued a liability of $48 million and has established a regulatory asset for approximately the same amount. Any significant change in assumptions such as remediation technique, nature and extent of contamination and legal and regulatory requirements, could effect the estimate of remedial action costs for the sites. In accordance with an MPSC rate order issued in early 1996, Consumers is deferring environmental clean-up costs incurred at these sites and amortizing these costs over 10 years. The order authorizes current recovery of $1 million annually. Consumers is continuing discussions with certain insurance companies regarding coverage for some or all of the costs which may be incurred for these sites. The federal Clean Air Act contains provisions that limit emissions of sulfur dioxide and nitrogen oxides and require emissions monitoring. Consumers' coal-fueled electric generating units burn low-sulfur coal and are presently operating at or near the sulfur dioxide emission limits which will be effective in the year 2000. The Clean Air Act's provisions required Consumers to make capital expenditures totaling $25 million to install equipment at certain generating units. Consumers estimates capital expenditures for in-process and possible modifications at other coal-fired units to be an additional $50 million by the year 2000. Management believes that Consumers' annual operating costs will not be materially affected. Capital Expenditures: CMS Energy estimates capital expenditures, including investments in unconsolidated subsidiaries and new lease commitments, of $965 million for 1996, $770 million for 1997 and $745 million for 1998. Other: As of March 31, 1996, CMS Energy or its subsidiaries have guaranteed up to $71 million in contingent obligations of unconsolidated affiliates and other parties. In August 1995 CMS Generation was served a complaint, which was filed in the U.S. District Court in Denver, alleging multiple claims relating to a business project in the Philippines. Plaintiffs have claimed approximately $85 million in direct damages, indirect damages in a like amount, plus punitive damages, interest, and attorney's fees. CMS Generation is vigorously contesting this action. Consumers has experienced a number of lawsuits filed against it relating to so-called stray voltage. Claimants contend that stray voltage results when small electrical currents present in grounded electrical systems are diverted from their intended path. Consumers maintains a policy of investigating all customer calls regarding stray voltage and working with customers to address their concerns including, when necessary, modifying the grounding of the customer's service. At March 31, 1996, Consumers had 33 separate stray voltage lawsuits awaiting trial court action. In addition to the matters disclosed in these notes, Consumers and certain other subsidiaries of CMS Energy are parties to certain lawsuits and administrative proceedings before various courts and governmental agencies, arising from the ordinary course of business involving personal injury and property damage, contractual matters, environmental issues, federal and state taxes, rates, licensing and other matters. Estimated losses for certain contingencies discussed in this note have been accrued. Resolution of these contingencies is not expected to have a material impact on CMS Energy's financial position or results of operations. 5: Nuclear Matters Consumers filed updated decommissioning information with the MPSC in 1995 which estimated decommissioning costs for Big Rock and Palisades. In April 1996, the MPSC issued an order in Consumers' nuclear decommissioning case, which fully supported Consumers' request and did not change the overall surcharge revenues collected from retail customers. The MPSC ordered that Consumers review and file estimated decommissioning costs with the MPSC in 1998. In 1993, the NRC approved the design of the spent fuel dry storage casks now being used by Consumers at Palisades. In order to address concerns raised subsequent to the initial cask loading, Consumers and the NRC each analyzed the effects of seismic and other natural hazards on the support pad on which the casks are placed, and confirmed that the pad location is acceptable to support the casks. As of March 31, 1996, Consumers had loaded 13 dry storage casks with spent nuclear fuel at Palisades. In 1996, Consumers plans to unload and replace one of the loaded casks. In a review of the cask manufacturer's quality assurance program, Consumers detected indications of minor flaws in welds in the steel liner of one of the loaded casks. Although the cask continues to safely store spent fuel and there is no requirement for its replacement, Consumers has nevertheless decided to remove the spent fuel and insert it in another cask. Consumers has examined radiographs for all of its casks and has found all other welds acceptable. Certain parties, including the Attorney General, have petitioned the NRC to suspend Consumers' general license to store spent fuel, claiming that Consumers' cask unloading procedure does not satisfy NRC regulations. The NRC staff is reviewing the petitions. Consumers maintains insurance coverage against property damage, debris removal, personal injury liability and other risks that are present at its nuclear generating facilities. This insurance includes coverage for replacement power costs for the major portion of prolonged accidental outages for 12 months after a 21 week exclusion with reduced coverage to approximately 80 percent for two additional years. If certain loss events occur at its own or other nuclear plants similarly insured, Consumers could be required to pay maximum assessments of: $30 million in any one year to NML and NEIL; $79 million per event under the nuclear liability secondary financial protection program, limited to $10 million per event in any one year; and $6 million in the event of nuclear workers claiming bodily injury from radiation exposure. Consumers considers the possibility of these assessments to be remote. As an NRC licensee, Consumers is required to make certain calculations and report to the NRC about the continuing ability of the Palisades reactor vessel to withstand postulated "pressurized thermal shock" events during its remaining license life, in light of the embrittlement of reactor vessel materials over time due to operation in a radioactive environment. Analysis of recent data from testing of similar materials indicates that the Palisades reactor vessel can be safely operated through late 1999. In April 1995, Consumers received a Safety Evaluation Report from the NRC concurring with this evaluation and requesting submittal of an action plan to provide for operation of the plant beyond 1999. Consumers is developing plans to anneal the reactor vessel in 1998 at an estimated cost of $20 million to $30 million. This repair would allow for operation of the plant to the end of its license life in the year 2007. Consumers cannot predict whether the studies being conducted as part of the development plans will support a future decision to anneal. 6: Supplemental Cash Flow Information For purposes of the Statement of Cash Flows, all highly liquid investments with an original maturity of three months or less are considered cash equivalents. Other cash flow activities and non-cash investing and financing activities for the periods ended March 31 were: In Millions Three Months Ended Twelve Months Ended 1996 1995 1996 1995 - ------------------------------------------------------------------------- Cash transactions Interest paid (net of amounts capitalized) $ 56 $ 60 $ 203 $ 170 Income taxes paid (net of refunds) 2 - 36 39 Non-cash transactions Nuclear fuel placed under capital lease $ - $ 7 $ 20 $ 25 Other assets placed under capital leases 1 2 4 15 Common Stock issued to acquire companies - 24 66 24 Assumption of debt - 16 4 16 Capital leases refinanced - - 21 - ========================================================================== 7: Short-Term And Long-Term Financings, Capitalization and Other CMS Energy In the first quarter of 1996, CMS Energy filed a shelf-registration with the SEC for the issuance and sale of up to $125 million of GTNs, Series B, with net proceeds to be used for general corporate purposes. As of April 30, 1996, CMS Energy had issued and outstanding approximately $250 million of Series A and $30 million of Series B GTNs with a weighted-average interest rates of 7.7 and 8.0 percent, respectively. Consumers Consumers has FERC authorization to issue or guarantee up to $900 million of short-term debt through December 31, 1996. Consumers has an unsecured $425 million facility and unsecured, committed lines of credit aggregating $145 million that are used to finance seasonal working capital requirements. At March 31, 1996, a total of $38 million was outstanding at a weighted-average interest rate of 6.2 percent, compared with $133 million outstanding at March 31, 1995, at a weighted-average interest rate of 7.0 percent. Consumers has an established $500 million trade receivables purchase and sale program. At March 31, 1996 and 1995, receivables sold under the agreement totaled $280 million and $300 million, respectively. Accounts receivable and accrued revenue in the Consolidated Balance Sheets have been reduced to reflect receivables sold. In January 1996, 4 million shares of 8.36 percent Trust Originated Preferred Securities were issued and sold through Consumers Power Company Financing I, a business trust wholly owned by Consumers. Net proceeds from the sale totaled $97 million. The business trust was formed for the sole purpose of issuing preferred securities and the primary asset of the trust is $103 million of 8.36 percent unsecured subordinated deferrable interest notes issued by Consumers. The obligations of Consumers with respect to the preferred securities under the notes that mature in 2015, the indenture under which the notes are issued, Consumers' guarantee of the preferred securities and the Declaration of Trust, taken together, constitute a full and unconditional guarantee by Consumers of the trust's obligations under the Trust Originated Preferred Securities. CMS NOMECO In March 1996, CMS NOMECO refinanced its $140 million revolving credit agreement with a $225 million revolving credit agreement. As of March 31, 1996, $120 million remains outstanding, under the new agreement, with a weighted-average interest rate of 6.0 percent. CMS Generation In January 1996, CMS Generation refinanced a one year $118 million bridge credit facility for the HYDRA-CO acquisition with a $110 million, five- year term loan. As of March 31, 1996, $107 million remains outstanding with a weighted-average interest rate of 7.5 percent. 8: Earnings Per Share and Dividends Earnings per share attributable to Common Stock, for the twelve month period ended March 31, 1996 reflect the performance of the Consumers Gas Group since initial issuance of Class G Common Stock during the third quarter of 1995. The Class G Common Stock participates in earnings and dividends from the issue date. The earnings (loss) attributable to each class of common stock and the related amounts per share are computed by considering the weighted-average number of shares outstanding. Earnings (loss) attributable to outstanding Class G Common Stock are equal to the Consumers Gas Group net income (loss) multiplied by a fraction, the numerator is the weighted-average number of Outstanding Shares during the period and the denominator represents the weighted-average number of Outstanding Shares and Retained Interest Shares during the period. The earnings attributable to Class G Common Stock on a per share basis, for the three months ended March 31, 1996, are based on 23.72 percent of the income of the Consumers Gas Group. Earnings per share for Class G Common Stock are omitted from the statements of income for the periods reported prior to the periods ended September 30, 1995, since the Class G Common Stock was not part of the equity structure of CMS Energy. For purpose of analysis, following are pro forma data for the three months ended March 31, 1995 and the year ended December 31, 1995 which give effect to the issuance and sale of 7.52 million shares of Class G Common Stock (representing 23.50 percent of the equity attributable to the Consumers Gas Group) on January 1, 1994, and actual data for the three months ended March 31, 1996. In Millions, Except Per Share Amounts Actual Pro Forma Pro Forma Three Months Ended Three Months Ended Year Ended ------------------ ------------------ ---------- March 31 March 31 December 31 1996 1995 1995 - -------------------------------------------------------------------------- Net Income $ 88 $ 86 $ 204 Net Income attributable to CMS Energy Common Stock $ 76 $ 74 $ 189 Net Income attributable to outstanding Class G Common Stock $ 12 $ 12 $ 15 Average shares outstanding: CMS Energy Common Stock 91.664 86.918 88.810 Class G Common Stock 7.627 7.520 7.536 Earnings per share attributable to CMS Energy Common Stock $ 0.83 $ 0.86 $ 2.14 Earnings per share attributable to outstanding Class G Common Stock $ 1.50 $ 1.55 $ 1.93 ========================================================================== In April 1996, the Board of Directors declared quarterly dividends of $.24 per share on CMS Energy Common Stock and $.28 per share on Class G Common Stock.
21 CMS Energy Corporation Management's Discussion and Analysis This MD&A should be read along with the MD&A in the 1995 Form 10-K of CMS Energy. This Form 10-Q contains "forward-looking statements" as defined by the Private Securities Litigation Reform Act of 1995, including (without limitation) discussions as to expectations, beliefs, plans, objectives and future financial performance, or assumptions underlying or concerning matters discussed in this document. These discussions, and any other discussions contained in this Form 10-Q that are not historical facts, are forward-looking and, accordingly, involve estimates, assumptions and uncertainties which could cause actual results or outcomes to differ materially from those expressed in the forward-looking information. In addition to certain contingency matters (and their respective cautionary statements) discussed elsewhere in this Form 10-Q, the Forward-Looking Information section of this MD&A indicates some important factors that could cause actual results or outcomes to differ materially from those addressed in the forward-looking discussions. CMS Energy is the parent holding company of Consumers and Enterprises. Consumers, a combination electric and gas utility company serving the Lower Peninsula of Michigan, is the principal subsidiary of CMS Energy. Consumers' customer base includes a mix of residential, commercial and diversified industrial customers, the largest segment of which is the automotive industry. Enterprises is engaged in several domestic and international energy-related businesses, including oil and gas exploration and production, development and operation of independent power production facilities, electric and gas marketing services to utility, commercial and industrial customers, and storage and transmission of natural gas. Consolidated earnings for the quarters ended March 31, 1996 and 1995 Consolidated net income totaled $88 million or $.83 per CMS Energy Common share for the first quarter of 1996, compared to net income of $86 million or $.99 per CMS Energy Common share for the first quarter of 1995. The $2 million increase reflects increased electric utility sales resulting from Michigan's continuing economic growth, the impact of a 1996 electric utility rate increase and higher gas utility deliveries due to increased growth and colder weather experienced in the first quarter of 1996. Partially offsetting this increase in net income was the reversal of a gas contract contingency which benefited the 1995 period (see Note 3). The decrease in earnings per share attributable to CMS Energy Common Stock for the first quarter of 1996 compared to the first quarter of 1995, primarily reflects comparatively lower net income (reflecting the above 1995 non- recurring item) and the net income attributable to Class G Common stock. Class G Common stock was issued in the third quarter of 1995. Consolidated earnings for the 12 months ended March 31, 1996 and 1995 Consolidated net income totaled $206 million or $2.12 per CMS Energy Common share for the 12 months ended March 31, 1996, compared to $187 million or $2.17 per CMS Energy Common share for the 12 months ended March 31, 1995. The $19 million increase reflects both higher electric utility sales and gas utility deliveries and the impact of increased electric utility rates which became effective in early 1996. Partially offsetting this increase was the recognition of DSM incentive revenue and the reversal of previously recorded gas contingencies (see Note 3) in the 1995 period, and increased operating expenses in the 1996 period. The decrease in CMS Energy Common Stock earnings per share for the 12 months ended March 31, 1996, compared to the corresponding period in the prior year, primarily reflects comparatively lower net income (reflecting the above 1995 non-recurring items) and the net income attributable to Class G Common stock. Class G Common stock was issued in the third quarter of 1995. Cash Position, Financing and Investing CMS Energy's primary ongoing source of operating cash is dividends from its subsidiaries. CMS Energy's consolidated operating cash requirements are met by its operating and financing activities. CMS Energy's consolidated cash from operations is derived mainly from Consumers' sale and transportation of natural gas, its generation, transmission, and sale of electricity and CMS NOMECO's sale of oil and natural gas. Consolidated cash from operations totaled $349 million and $330 million for the first quarters of 1996 and 1995, respectively. Increased cash resulting from higher sales of utility electricity, improved gas utility deliveries, lower cash losses associated with the PPA, and CMS NOMECO's increased sale of oil and natural gas was partially offset by the timing of cash payments related to Consumers' operations. CMS Energy primarily uses its operating cash to expand its international businesses, maintain and expand its electric and gas utility systems, retire portions of its long-term debt and pay dividends. Financing Activities: Net cash used in financing activities totaled $138 million and $35 million for the first quarters of 1996 and 1995, respectively. The increase of $103 million reflects a decrease in notes payable and refinancing of bank loans offset by increased cash of $97 million from the sale of Trust Originated Preferred Securities through Consumers Power Company Financing I (see Note 7). In October 1995, CMS NOMECO filed a registration statement with the SEC for an initial public offering of not more than 20 percent of CMS NOMECO common stock. CMS Energy will continue to evaluate market conditions for a possible offering of CMS NOMECO common stock. In the first quarter of 1996, CMS Energy filed a shelf-registration statement with the SEC for the issuance and sale of up to $125 million of GTNs, Series B, with net proceeds to be used for general corporate purposes. As of April 30, 1996, CMS Energy had issued and outstanding approximately $250 million of GTNs, Series A and $30 million of GTNs, Series B with weighted-average interest rates of 7.7 percent and 8.0 percent, respectively. In the first quarter of 1996, CMS Generation refinanced its $118 million bridge credit facility for the acquisition of HYDRA-CO with a $110 million, five-year term loan. As of March 31, 1996, $107 million remains outstanding with a weighted-average interest rate of 7.5 percent. In the first quarter of 1996, CMS NOMECO refinanced its $140 million revolving credit agreement with a $225 million revolving credit agreement. As of March 31, 1996, $120 million remains outstanding, under the new agreement, with a weighted-average interest rate of 6.0 percent. In February 1996, CMS Energy paid $22 million in cash dividends to holders of CMS Energy Common Stock and $2 million in cash dividends to holders of Class G Common Stock. In April 1996, the Board of Directors declared quarterly dividends $.24 per share on CMS Energy Common Stock and $.28 per share on Class G Common Stock. In April 1996, Consumers declared a $75 million common dividend to be paid in May 1996. Consumers had temporarily suspended its common dividends in mid-1995 to improve the equity portion of its capital structure. Investing Activities: Net cash used in investing activities totaled $225 million and $326 million for the first quarters of 1996 and 1995, respectively. The decrease of $101 million primarily reflects the acquisition of HYDRA-CO in the first quarter of 1995 partially offset by an increase in 1996 in investments in partnerships and unconsolidated subsidiaries. CMS Energy's expenditures for its utility and international businesses were $86 million and $117 million, respectively. Financing and Investing Outlook: CMS Energy has available, unsecured, committed lines of credit totaling $105 million and a $450 million credit facility. At March 31, 1996, CMS Energy has utilized a total of $242 million under these facilities. CMS Energy will continue to evaluate the capital markets in 1996 as a source of financing its subsidiaries' investing activities and required debt retirements. Consumers has several available, unsecured, committed lines of credit totaling $145 million and a $425 million working capital facility. At March 31, 1996, Consumers had a total of $38 million outstanding under these facilities. Consumers has FERC authorization to issue or guarantee up to $900 million in short-term debt through December 31, 1996. Consumers uses short-term borrowings to finance working capital and gas in storage, and to pay for capital expenditures between long-term financings. Consumers has an agreement permitting the sales of certain accounts receivable for up to $500 million. At March 31, 1996 and 1995, receivables sold totaled $280 million and $300 million, respectively. Electric Utility Results of Operations In Millions Pretax Operating Income Quarter ended 12 months ended 1996 compared 1996 compared with 1995 with 1995 Sales $ 9 $ 66 Rate increases and other regulatory issues 9 8 Operations and maintenance 4 2 General taxes and depreciation (6) (29) ------- ------- Total change $16 $ 47 ======= ======= Electric Sales: Electric sales during the first quarter of 1996 were 9.0 billion kWh, a 4.0 percent increase from 1995 levels. The increase included a 2.6 percent increase in sales to Consumers' ultimate customers. Residential and commercial sales increased 7.3 percent and 5.6 percent, respectively, while industrial sales decreased 3.1 percent, compared with the corresponding period in 1995. Industrial sales were adversely impacted by the General Motors strike which was resolved in late March 1996. Electric sales during the 12 months ended March 31, 1996 were 35.9 billion kWh, a 3.7 percent increase from 1995 levels. The increase included a 4.6 percent increase in sales to Consumers' ultimate customers. During the period, residential, commercial and industrial sales increased 7.7 percent, 5.8 percent and .9 percent, respectively. Power Costs: Power costs totaled $260 million and $227 million for the three-month periods ending March 31, 1996 and 1995, respectively. The $33 million increase primarily reflects greater power purchases from outside sources to meet increased sales demand. Power costs totaled $1,003 million and $934 million during the 12-month periods ending March 31, 1996 and 1995, respectively. The $69 million increase primarily reflects greater power purchases from outside sources to meet increased sales demand. Electric Utility Issues Power Purchases from the MCV Partnership: Consumers' annual obligation to purchase contract capacity from the MCV Partnership is 1,240 MW for 1996 and for each subsequent year through the end of the PPA. In 1993, the MPSC issued the Settlement Order that has allowed Consumers to recover substantially all payments for 915 MW of contract capacity purchased from the MCV Partnership. ABATE and the Attorney General had appealed the Settlement Order to the Court of Appeals and in March 1996, the Court of Appeals affirmed the Settlement Order. The market for the remaining 325 MW of contract capacity was assessed at the end of 1992. This assessment, along with the Settlement Order, resulted in Consumers recognizing a loss for the present value of the estimated future underrecoveries of power purchases from the MCV Partnership. Additional losses may occur if actual future experience materially differs from the 1992 estimates. As anticipated in 1992, Consumers continues to experience cash underrecoveries associated with the Settlement Order. These after-tax cash underrecoveries totaled $8 million for the first three months of 1996. Estimated after-tax cash underrecoveries and possible losses for 1996 and the next four years are shown in the table below. After-tax, In Millions 1996 1997 1998 1999 2000 ---- ---- ---- ---- ---- Estimated cash underrecoveries $56 $55 $ 8 $ 9 $ 7 Possible additional underrecoveries and losses (a) 20 22 72 72 74 (a) If unable to sell any capacity above the MPSC's 1993 authorized level. In September 1995, Consumers and the MPSC staff reached a proposed settlement agreement that would potentially resolve several issues in three pending proceedings, including the electric rate case (discussed below) and cost recovery for the entire 325 MW of MCV Facility capacity above the MPSC's currently authorized 915 MW level. Consumers does not anticipate the need for an additional loss to be recorded above the amount anticipated in 1992 if the settlement agreement is adopted as proposed. For further information regarding the settlement, see Note 3. In 1994 and 1995, Consumers terminated power purchase agreements with the developers of a proposed 65 MW coal-fired cogeneration facility and a proposed 44 MW wood and chipped-tire plant. To replace this capacity, 109 MW of less expensive contract capacity from the MCV Facility which Consumers is currently not authorized to recover from retail customers would be used. For further information, see Note 2. Electric Rate Proceedings: Consumers filed a request with the MPSC in late 1994 to increase its retail electric rates. In early 1996, the MPSC granted Consumers authority to increase its annual electric retail rates by $46 million. This partial final order did not address cost recovery related to the 325 MW of MCV Facility contract capacity above 915 MW. The MPSC stated that this matter would be addressed in connection with its consideration of the proposed settlement agreement discussed below. In September 1995, Consumers and the MPSC staff reached a proposed settlement agreement that, if approved by the MPSC, would resolve several outstanding regulatory issues. One of these issues, Consumers' electric rate case, was addressed, in part, by the order discussed above. If fully adopted, the settlement agreement would resolve Consumers' depreciation and special competitive service cases (discussed below) and cost recovery of the entire 325 MW of uncommitted MCV Facility capacity. Consumers expects a final order by mid-1996. For more information regarding the electric rate order and the settlement, see Note 3. In 1995, Consumers filed a request with the MPSC, seeking approval to increase its traditional depreciation expense by $21 million and reallocate certain portions of its utility plant from production to transmission, resulting in a $28 million decrease. If both aspects to the request are approved, the net result would be a decrease in electric depreciation expense of $7 million for ratemaking purposes. The ALJ issued a proposal for decision in this case that recommended the MPSC reject Consumers' position regarding the reallocation of Consumers' depreciation reserve and plant investment. This case is currently part of the proposed settlement. In the settlement proposal, Consumers requested that depreciation of certain plants (including nuclear plants) be accelerated while holding overall depreciation rates level. Special Rates: Consumers currently has a request before the MPSC that, would allow Consumers a certain level of rate-pricing flexibility to respond to customers' alternative energy options. This request has also been consolidated into the settlement proceeding discussed above. Electric Capital Expenditures: In April 1996, a seven company consortium in which CMS Gas and Electric holds a 40 percent interest, acquired a 90 percent ownership interest in EDSEER S.A., an electric distribution utility serving northeastern Argentina's Entre Rios Province for $161 million. EDEER S.A., with 1995 revenue of $105 million and electric sales of 1.1 billion kWh, serves over 200,000 customers, primarily residential and commercial, in a 55,000 square kilometer area. CMS Gas and Electric, as lead operator, anticipates taking over operation of the utility in May 1996. CMS Energy and Consumers estimate capital expenditures, including new lease commitments, related to electric utility operations of $380 million for 1996, $285 million for 1997 and $290 million for 1998. These amounts include an attributed portion of Consumers' anticipated capital expenditures for plant and equipment common to both the electric and gas utility businesses and CMS Energy's capital expenditures relating to its international energy distribution operations. Electric Environmental Matters: The 1990 amendment of the federal Clean Air Act significantly increased the environmental constraints that utilities will operate under in the future. While the Clean Air Act's provisions require Consumers to make certain capital expenditures in order to comply with the amendments for nitrogen oxide reductions, Consumers' generating units are presently operating at or near the sulfur dioxide emission limits which will be effective in the year 2000. Final acid rain program nitrogen oxide regulations are expected to be issued in 1996. Management believes that Consumers' annual operating costs will not be materially affected. The Michigan Natural Resources and Environmental Protection Act was substantially amended in 1995 and bears some similarities to the Federal Superfund law. Consumers expects that it will ultimately incur costs at a number of sites. Consumers believes costs incurred for both investigation and required remedial actions are properly recoverable in rates. Consumers is a so-called "potentially responsible party" at several sites being administered under Superfund. Along with Consumers, there are numerous credit-worthy, potentially responsible parties with substantial assets cooperating with respect to the individual sites. Based on current information, management believes it is unlikely that Consumers' liability at any of the known Superfund sites, individually or in total, will have a material adverse effect on its financial position, liquidity or results of operations. For further information regarding electric environmental matters, see Note 7. Nuclear Matters: In 1995, the NRC issued its Systematic Assessment of Licensee Performance report for Palisades. The report recognized improved performance at the plant, specifically in the areas of Engineering and Plant Operations. In the report, the NRC noted areas which continue to require management's attention, but also recognized the development and implementation of plans for corrective action designed to address previously identified weak areas. The report noted that performance in the areas of Maintenance and Plant Support was good and remained unchanged. Consumers' on-site storage pool for spent nuclear fuel at Palisades is at capacity. Consequently, Consumers is using NRC-approved dry casks, which are steel and concrete vaults, for temporary on-site storage. In 1996, Consumers plans to unload and replace one of the casks where a minor flaw has been detected. For further information, see Note 8. Consumers is required to make certain calculations and report to the NRC about the continuing ability of the Palisades reactor vessel to withstand postulated "pressurized thermal shock" events during its remaining license life. Analysis of recent data from testing of similar materials indicates that the Palisades reactor vessel can be safely operated through late 1999. Consumers is developing plans to anneal the reactor vessel in 1998 at an estimated cost of $20 million to $30 million. This repair would allow for operation of the plant to the end of its license life in the year 2007. Consumers cannot predict whether the studies being conducted as a part of the development plans will support a future decision to anneal. Stray Voltage: Consumers has experienced a number of lawsuits relating to the effect of so-called stray voltage on certain livestock. At March 31, 1996, Consumers had 33 separate stray voltage lawsuits awaiting trial court action. CMS Energy believes that the resolution of these lawsuits will not have a material impact on its financial position or results of operations. Consumers Gas Group Results of Operations In Millions Pretax Operating Income Quarter ended 12 months ended 1996 compared 1996 compared with 1995 with 1995 Sales $ 22 $ 53 Reversal of gas contingencies (23) (34) Recovery of gas costs and other regulatory issues 2 6 Operations and maintenance 3 (6) General taxes and depreciation (4) (11) ----- ----- Total change $ - $ 8 ===== ===== Gas Deliveries: Gas sales during the first quarter of 1996 totaled 126 bcf, a 15.7 percent increase from 1995 levels, and total system deliveries, excluding transport to the MCV Facility, increased 14.8 percent from 1995 levels. On a weather-adjusted basis, total system deliveries increased 8.5 percent, reflecting significant growth resulting from customer additions and conversions to natural gas from alternative fuels. For the 12 months ended March 31, 1996, gas sales totaled 271 bcf, a 19.0 percent increase from the corresponding period ended March 31, 1995, and total system deliveries, excluding transport to the MCV Facility, increased 17.8 percent. Cost of Gas Sold: Cost of gas sold totaled $345 million and $281 million for the first quarters of 1996 and 1995, respectively. The increase of $64 million was the result of increased sales. The increased costs also reflect the reversal of a $23 million gas supplier contingency during the first quarter of 1995. The cost of gas sold totaled $735 million and $608 million for the 12 months ended March 31, 1996 and 1995, respectively. The increase of $127 million was also the result of increased sales offset by the reversal of the gas supplier contingency of $23 million in the 1995 period. Consumers Gas Group Issues Gas Rate Proceedings: In early 1996, the MPSC issued a final order in Consumers' gas rate case, decreasing Consumers' gas rates by $11.7 million annually. The MPSC order authorized an 11.6 percent return on common equity. Consumers has filed a petition for rehearing with the MPSC, requesting, among other things, recovery of certain gas losses, as well as reconsideration of issues in the order that Consumers believes provide disincentives to competition. The relief requested in the petition, if granted in its entirety, would result in a $5.5 million annual rate reduction compared with the $11.7 million reduction. Consumers entered into a special natural gas transportation contract with one of its transportation customers in response to the customer's proposal to by-pass Consumers' system in favor of a competitive alternative. The contract provides for discounted gas transportation rates in an effort to induce the customer to remain on Consumers' system. In February 1995, the MPSC approved the contract but stated that the revenue shortfall created by the difference between the contract's discounted rate and the floor price of one of Consumers' MPSC authorized gas transportation rates must be borne by Consumers' shareholders. In March 1995, Consumers filed an appeal with the Court of Appeals claiming that the MPSC decision denies Consumers the opportunity to earn its authorized rate of return and is therefore unconstitutional. GCR Matters: In October 1995, the MPSC issued an order regarding a $44 million (excluding any interest) gas supply contract pricing dispute between Consumers and certain intrastate producers. The order stated that Consumers was not obligated to seek prior approval of market-based pricing provisions that were implemented under the contracts in question. The producers subsequently filed a claim of appeal of the MPSC order with the Court of Appeals. Consumers believes the MPSC order supports its position that the producers' theories are without merit and intends to vigorously oppose any claims they may raise but cannot predict the outcome of this issue. Gas Capital Expenditures: Consumers estimates capital expenditures, including new lease commitments, related to its gas utility operations of $130 million for 1996, $110 million for 1997 and $105 million for 1998. These amounts include an attributed portion of Consumers' anticipated capital expenditures for plant and equipment common to both the electric and gas utility businesses. Gas Environmental Matters: Consumers expects that it will ultimately incur investigation and remedial action costs at a number of sites, including some that formerly housed manufactured gas plant facilities. Data available to Consumers and its continued internal review of these former manufactured gas plant sites have resulted in an estimate for all costs related to investigation and remedial action of between $48 million and $98 million. These estimates are based on undiscounted 1996 costs. At March 31, 1996, Consumers has accrued a liability for $48 million and has established a regulatory asset for approximately the same amount. Any significant change in assumptions such as remediation technique, nature and extent of contamination and regulatory requirements, could effect the estimate of remedial action costs for the sites. In accordance with an MPSC rate order, Consumers is deferring environmental clean-up costs and amortizing these costs over 10 years. The order authorizes current recovery of $1 million annually. Consumers is continuing discussions with certain insurance companies regarding coverage for some or all of the costs which may be incurred for these sites. For further information, see Note 7. Oil and Gas Exploration and Production Pretax Operating Income: Pretax operating income for the three months ended March 31, 1996 decreased $6 million from the same period in 1995, primarily due to recognition of a gain from assignment and novation of a gas supply contract recorded in the first quarter of 1995 partially offset by higher oil and gas prices and volumes in the first quarter of 1996. Pretax operating income for the 12 months ended March 31, 1996 increased $2 million from the 12 months ended March 31, 1995, primarily due to higher sales volumes and oil prices partially offset by lower average market prices for gas and the gains from the assignment and novation of a gas supply contracts in 1995. Capital Expenditures: Capital expenditures for the three months ended March 31, 1996 totaled $27 million, primarily for development of existing oil and gas reserves. CMS Energy currently plans to invest $405 million from 1996 to 1998 in its oil and gas exploration and production operations. These capital expenditures will be concentrated in North and South America and offshore west Africa. Independent Power Production Pretax Operating Income: Pretax operating income for the three months ended March 31, 1996 decreased $7 million from 1995 levels, primarily reflecting lower capacity sales by the MCV Partnership. Pretax operating income for the 12 months ended March 31, 1996 increased $8 million from the 12 months ended March 31, 1995, primarily reflecting additional generating capacity and improved equity earnings. Capital Expenditures and Other: In April 1996, CMS Generation and ABB signed agreements with Morocco's national utility, Office National de l'Electricite, for the privatization, expansion and operation of the Jorf Lasfar coal-fueled power plant located southwest of Casablanca. The agreements cover purchase and operation of two existing 330 MW units and construction and operation of another two 330 MW units by CMS Generation and ABB. CMS Energy posted a $30 million conditional letter of credit to ensure performance under the agreements. CMS Generation and ABB each will hold 50 percent interest in the transaction. Financial closing is expected by year end, with construction of the second two units to begin shortly thereafter. In the first quarter of 1996, CMS Generation increased its ownership interest from 51 percent to 78 percent in its Centrales Termicas Mendoza electric generating plant in western Argentina's Mendoza Province. CMS Generation currently plans to invest $185 million in the Mendoza plant to refurbish and repower the facility resulting in an increase in its capacity from 260 MW to over 400 MW. Capital expenditures for the three months ended March 31, 1996 totaled $15 million related to expanding ownership in existing facilities. CMS Energy currently plans to invest $515 million relating to its independent power production operations from 1996 to 1998. CMS Generation will pursue acquisitions and development of electric generating plants in the United States, Latin America, southern Asia, the Pacific Rim region and North Africa. Natural Gas Transmission, Storage and Marketing Pretax Operating Income: Pretax operating income for the three and 12 months ended March 31, 1996 increased $5 million and $10 million, respectively, over the same periods ended March 31, 1995, primarily reflecting earnings from new pipeline investments and the continued growth of existing projects and gas marketed to end-users. Capital Expenditures and Other: In April 1996, CMS Gas Transmission signed a purchase agreement to sell its 50 percent ownership interest in Moss Bluff Gas Storage Systems, a partnership that owns a gas storage facility, to its partner, MHP, and MHP will sell its 50 percent ownership interest to CMS Gas Transmission in the Grands Lacs Limited Partnership, a marketing center for natural gas. CMS Gas Transmission will receive a net cash payment of approximately $26 million. The transaction is anticipated to close no later than June 30, 1996. In January 1996, CMS Gas Transmission acquired Petal Gas Storage Company, a natural gas storage facility located in Forrest County, Mississippi. The salt dome storage cavern provides up to 3.2 bcf per day of 10-day storage service and has the capability of being refilled in 20 days. In February 1996, CMS Gas Transmission acquired an ownership interest in Nitrotec Corporation, a proprietary gas technology company. Nitrotec specializes in the development and commercialization of advanced carbon- based adsorption gas separation technologies. Nitrotec recently received approval of patent applications covering its helium removal process and nitrogen rejection process. Capital expenditures for the three months ended March 31, 1996 totaled $76 million for acquisitions, expansion of existing facilities and construction of new facilities. CMS Energy currently plans to invest $260 million from 1996 to 1998 relating to its non-utility gas operations, and will continue to pursue development of natural gas storage, gathering and pipeline operations both domestically and internationally. CMS Energy also plans to work toward the development of U.S. regional "market centers" for natural gas through strategic alliances and asset acquisition and development. Forward-Looking Information Capital Expenditures: CMS Energy estimates that capital expenditures, including new lease commitments and investments in partnerships and unconsolidated subsidiaries, will total approximately $2.5 billion over the next three years. Cash generated by operations is expected to satisfy a substantial portion of capital expenditures. Additionally, CMS Energy will continue to evaluate capital markets in 1996 as a potential source of financing its subsidiaries' investing activities. In Millions Years Ended December 31 1996 1997 1998 ---- ---- ---- Electric utility $380 $285 $290 Gas utility 130 110 105 Oil and gas exploration and production 120 135 150 Independent power production 190 175 150 Natural gas transmission, storage and marketing 145 65 50 ---- ---- ---- $965 $770 $745 ==== ==== ==== These capital expenditures are estimates prepared for planning purposes and are subject to revision. For a breakdown of projected capital expenditures see the individual capital expenditures sections within this MD&A. Electric Outlook, Sales and Competition: Consumers currently expects approximately 2 percent average annual growth in electric system sales over the next five years. Actual electric sales in future periods may be affected by abnormal weather, changing economic conditions or the developing competitive market for electricity as discussed below. Consumers' retail service is affected by competition in several areas, including: the installation of cogeneration or other self-generation facilities by Consumers' larger industrial customers; the formation of municipal utilities which would displace retail service by Consumers to an entire community; and competition from neighboring utilities which offer flexible rate arrangements designed to encourage movement to their respective service areas. Consumers continues to work toward retaining its current retail service customers. In an effort to meet the challenge of competition, Consumers has signed long-term sales contracts with some of its largest industrial customers, including its largest customer, General Motors Corporation. Under the General Motors contract, Consumers will serve certain facilities at least five years and other facilities at least 10 years in exchange for competitively discounted electric rates. Certain facilities will have the option of taking retail wheeling service (if available) after the first three years of the contract. The MPSC approved this contract in 1995. This MPSC order and other MPSC orders approving special long-term sales contracts have been appealed by the Attorney General. As part of an order issued in early 1996, the MPSC significantly reduced the rate subsidization of residential customers by industrial and large commercial customers. In addition to offering electric rates that are competitive with other energy providers, Consumers is pursuing other strategies to retain its "at-risk" customers. These strategies include: minimizing outages for each customer, promptly responding to customer inquiries, and providing consulting services to help customers use energy efficiently. In 1994, the MPSC approved a framework for a five-year experimental retail wheeling program for Consumers and Detroit Edison. Under the experiment, up to 60 MW of Consumers' additional load requirements could be met by retail wheeling. The program becomes effective upon Consumers' next solicitation for capacity. In June 1995, the MPSC issued an order that set rates and charges for retail delivery service under the experiment. Consumers, ABATE and The Dow Chemical Company filed claims of appeal of the MPSC's retail wheeling orders. The Court of Appeals subsequently consolidated these appeals with those previously filed by Detroit Edison and the Attorney General. Consumers does not expect this short-term experiment to have a material impact on its financial position, liquidity or results of operations. In April 1996, the FERC issued two orders which require utilities to provide open access to the interstate transmission grid. The first order requires public utilities owning, controlling, or operating transmission lines in interstate commerce to file non-discriminatory open access tariffs that contain minimum terms and conditions of non-discriminatory service, allows utilities to charge their current conforming transmission rates or apply for new rates, and provides for the full recovery of stranded costs. The order also requires power pools to restructure their ongoing operations and open up to non-utility members. The second order requires utilities to establish electronic systems to share information about available transmission capacity and to separate their wholesale power marketing and transmission operations functions by implementing standards of conduct. These orders will become effective in July 1996. In addition, the FERC issued a NOPR on April 24, 1996, which proposes for consideration a new system for utilities to use in reserving capacity on their own and others' transmission lines. This would replace certain tariffs included in the first order with a capacity reservation tariff in which participants would reserve firm rights to transfer power between designated receipt and delivery points. Consumers is evaluating these developments and has not determined the impact of the FERC's Orders on its financial position, liquidity or results of operations. The Governor of the State of Michigan has requested that the MPSC review the existing statutory and regulatory framework governing Michigan utilities in light of increasing competition in the utility industry. The MPSC has directed Consumers (and Detroit Edison) to file applications by May 15, 1996, addressing the recommendation of the Michigan Jobs Commission to allow a choice of power suppliers for new industrial and commercial electric load. The Michigan Jobs Commission's recommendations also include related matters, such as the full recovery of utility stranded costs. No new legislation has been introduced. However, Consumers anticipates additional MPSC orders during 1996 which will further define a new electric and gas utility regulatory framework for Michigan. SFAS 71 allows the deferral of certain costs and the recording of regulatory assets. Management has evaluated Consumers' current regulatory position and believes it continues to support the recognition of Consumers' electric-related regulatory assets. If changes in the industry were to lead to Consumers discontinuing the application of SFAS 71, for all or part of its business, Consumers may be required to write off the portion of any regulatory asset for which no regulatory assurance of recovery continued to exist. Consumers does not believe that there is any current evidence that supports the write-off of any of its electric- related regulatory assets. Consumers Gas Group Outlook, Competition and Deliveries: Consumers currently anticipates gas deliveries to grow approximately 2 percent per year (excluding transportation to the MCV Facility and off-system deliveries) over the next five years, assuming a steadily growing customer base. Additionally, Consumers has several strategies which will support increased load requirements in the future. These strategies include increased efforts to promote natural gas to both current and potential customers that are using other fuels for space and water heating. The emerging use of natural gas vehicles also provides Consumers with sales growth opportunities. In addition, as air quality standards continue to become more stringent, management believes that greater opportunities exist for converting industrial boiler load and other processes to natural gas. Consumers also plans additional capital expenditures to construct new gas mains that are expected to expand Consumers' system. Actual gas deliveries in future periods may be affected by abnormal weather, alternative energy prices, changes in competitive conditions and the level of natural gas consumption. In 1995, the Low Income Home Energy Assistance Program provided approximately $71 million in heating assistance to about 400,000 Michigan households, with approximately 18 percent of funds going to Consumers' customers. In late 1995, federal legislative approval provided Michigan residents with approximately $60 million of funding for 1996. Consumers cannot predict what level of funding will be approved for 1997. In January 1996, the MPSC issued a Notice of legislative-type hearings to be held in 1996, to assess whether it is appropriate to allow all natural gas customers access to gas transportation service. The MPSC notice designated all eight local distribution companies whose rates are regulated by the MPSC as parties to this proceeding. Consumers has filed its comments with the MPSC, indicating that the MPSC should only direct local distribution companies to file pilot programs designed to test the feasibility of expanded transportation service. Consumers also expressed its position that it is premature to expand transportation service to residential customers. Under SFAS 71, Consumers is allowed to defer certain costs to the future and record regulatory assets, based on the recoverability of those costs through the MPSC's approval. Consumers has evaluated its regulatory assets related to its gas business, and believes that sufficient regulatory assurance exists to provide for the recovery of these deferred costs. Other Forward-Looking Information: Some important factors that could cause actual results or outcomes to differ materially from those discussed in the forward-looking statements include prevailing governmental policies and regulatory actions both domestically and internationally (including those of the FERC and the MPSC) with respect to rates, industry and rate structure, operation of nuclear power facilities, acquisition and disposal of assets and facilities, operation and construction of plant facilities, natural gas pipeline and storage facilities, recovery of purchased power, decommissioning costs, and present or prospective wholesale and retail competition, among others. The business and profitability of CMS Energy is also influenced by economic and geographic factors including political and economic risks(particularly those associated with international development and operations, including currency fluctuation), changes in compliance with environmental laws and policies, weather conditions, competition for retail and wholesale customers, pricing and transportation of commodities, market demand for energy from plants or facilities, inflation, capital market conditions, unanticipated development project delays or changes in project costs, and the ability to secure agreement concerning pending negotiations (particularly for projects in development), among other important factors. All such factors are difficult to predict, contain uncertainties which may materially affect actual results, and are beyond the control of CMS Energy. Forward-looking information is included throughout this Form 10-Q. CMS Energy's material contingencies are also described in the Condensed Notes to Consolidated Financial Statements and should be read accordingly. (This page intentionally left blank)
34 ARTHUR ANDERSEN LLP Report of Independent Public Accountants ---------------------------------------- To Consumers Power Company: We have reviewed the accompanying consolidated balance sheets of CONSUMERS POWER COMPANY (a Michigan corporation and wholly owned subsidiary of CMS Energy Corporation) and subsidiaries as of March 31, 1996 and 1995, and the related consolidated statements of income, common stockholder's equity and cash flows for the three-month and twelve-month periods then ended. These financial statements are the responsibility of the Company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the financial statements referred to above for them to be in conformity with generally accepted accounting principles. We have previously audited, in accordance with generally accepted auditing standards, the consolidated balance sheet and consolidated statements of long-term debt and preferred stock of Consumers Power Company and subsidiaries as of December 31, 1995, and the related consolidated statements of income, common stockholder's equity and cash flows for the year then ended (not presented herein), and, in our report dated January 26, 1996, we expressed an unqualified opinion on those statements. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 1995, is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived. Arthur Andersen LLP Detroit, Michigan, May 10, 1996.
35 <TABLE> Consumers Power Company Consolidated Statements of Income (Unaudited) <CAPTION> Three Months Ended Twelve Months Ended March 31 March 31 1996 1995 1996 1995 In Millions <S> <C> <C> <C> <C> OPERATING REVENUE Electric $ 591 $ 540 $2,328 $2,185 Gas 546 482 1,259 1,105 Other 4 10 33 25 ---------------------------------------------- Total operating revenue 1,141 1,032 3,620 3,315 ---------------------------------------------- OPERATING EXPENSES Operation Fuel for electric generation 73 67 289 294 Purchased power - related parties 140 124 507 484 Purchased and interchange power 47 36 207 156 Cost of gas sold 345 281 735 608 Other 136 137 591 573 ---------------------------------------------- Total operation 741 645 2,329 2,115 Maintenance 39 45 178 190 Depreciation, depletion and amortization 108 101 364 342 General taxes 56 54 191 172 ---------------------------------------------- Total operating expenses 944 845 3,062 2,819 ---------------------------------------------- PRETAX OPERATING INCOME Electric 103 87 378 331 Gas 91 91 151 143 Other 3 9 29 22 ---------------------------------------------- Total pretax operating income 197 187 558 496 INCOME TAXES 61 56 150 124 ---------------------------------------------- NET OPERATING INCOME 136 131 408 372 ---------------------------------------------- OTHER INCOME (DEDUCTIONS) Dividends from affiliates 4 4 16 17 Accretion income 3 3 11 12 Accretion expense (7) (8) (30) (34) Other income taxes, net 3 2 13 11 Other, net - 2 4 12 ---------------------------------------------- Total other income 3 3 14 18 ---------------------------------------------- INTEREST CHARGES Interest on long-term debt 35 35 140 137 Other interest 3 5 22 19 Capitalized interest (1) - (3) (1) ---------------------------------------------- Net interest charges 37 40 159 155 ---------------------------------------------- Net Income 102 94 263 235 Preferred Stock Dividends 7 7 28 28 Preferred Securities Distributions 1 - 1 - ---------------------------------------------- NET INCOME AFTER DIVIDENDS ON PREFERRED STOCK AND DISTRIBUTIONS ON PREFERRED SECURITIES $ 94 $ 87 $ 234 $ 207 ============================================== <FN> THE ACCOMPANYING CONDENSED NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE>
36 <TABLE> Consumers Power Company Consolidated Statements of Cash Flows (Unaudited) <CAPTION> Three Months Ended Twelve Months Ended March 31 March 31 1996 1995 1996 1995 In Millions <S> <C> <C> <C> <C> CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 102 $ 94 $ 263 $ 235 Adjustments to reconcile net income to net cash provided by operating activities Depreciation, depletion and amortization (includes nuclear decommissioning depreciation of $13, $13, $51 and $49, respectively) 108 101 364 342 Capital lease and other amortization 9 11 36 29 Deferred income taxes and investment tax credit 3 23 37 65 Accretion expense 7 8 30 34 Accretion income - abandoned Midland project (3) (3) (11) (12) Undistributed earnings of related parties (4) (10) (30) (24) MCV power purchases - settlement (Note 2) (12) (37) (112) (102) Other 3 2 6 2 Changes in other assets and liabilities 95 120 58 (34) ------ ------ ------ ------ Net cash provided by operating activities 308 309 641 535 ------ ------ ------ ------ CASH FLOWS FROM INVESTING ACTIVITIES Capital expenditures (excludes assets placed under capital lease) (83) (74) (422) (438) Investments in nuclear decommissioning trust funds (13) (13) (51) (49) Cost to retire property, net (6) (9) (39) (41) Deferred demand-side management costs (2) (2) (10) (11) Other 1 (4) 1 (4) Proceeds from sale of property - - 1 13 ------ ------ ------ ------ Net cash used in investing activities (103) (102) (520) (530) ------ ------ ------ ------ CASH FLOWS FROM FINANCING ACTIVITIES Increase (decrease) in notes payable, net (303) (204) (97) 135 Payment of capital lease obligations (9) (10) (36) (28) Payment of preferred stock dividends (7) (7) (28) (21) Retirement of bonds and other long-term debt (1) (1) (1) (27) Preferred securities distributions (1) - (1) - Proceeds from preferred securities 97 - 97 - Contribution from stockholder 13 - 13 100 Payment of common stock dividends - - (70) (160) Repayment of bank loans - - - (422) Proceeds from bank loans - - - 400 ------ ------ ------ ------ Net cash used in financing activities (211) (222) (123) (23) ------ ------ ------ ------ NET DECREASE IN CASH AND TEMPORARY CASH INVESTMENTS (6) (15) (2) (18) CASH AND TEMPORARY CASH INVESTMENTS, BEGINNING OF PERIOD 14 25 10 28 ------ ------ ------ ------ CASH AND TEMPORARY CASH INVESTMENTS, END OF PERIOD $ 8 $ 10 $ 8 $ 10 ====== ====== ====== ====== <FN> THE ACCOMPANYING CONDENSED NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE>
37 <TABLE> Consumers Power Company Consolidated Balance Sheets <CAPTION> March 31 March 31 1996 December 31 1995 (Unaudited) 1995 (Unaudited) In Millions ASSETS <S> <C> <C> <C> PLANT (At original cost) Electric $6,130 $6,103 $5,826 Gas 2,207 2,169 2,078 Other 26 30 30 ----------------------------------- 8,363 8,302 7,934 Less accumulated depreciation, depletion and amortization 4,195 4,090 3,893 ----------------------------------- 4,168 4,212 4,041 Construction work-in-progress 199 190 249 ----------------------------------- 4,367 4,402 4,290 ----------------------------------- INVESTMENTS Stock of affiliates 336 337 318 First Midland Limited Partnership (Note 2) 226 225 219 Midland Cogeneration Venture Limited Partnership (Note 2) 104 103 83 Other 9 7 8 ----------------------------------- 675 672 628 ----------------------------------- CURRENT ASSETS Cash and temporary cash investments at cost, which approximates market 8 14 10 Accounts receivable and accrued revenue, less allowances of $3, $3 and $4, respectively (Note 7) 173 137 63 Accounts receivable - related parties 12 10 11 Inventories at average cost Gas in underground storage 39 184 80 Materials and supplies 74 72 76 Generating plant fuel stock 16 37 27 Postretirement benefits 25 25 25 Deferred income taxes 23 26 39 Prepayments and other 143 181 133 ----------------------------------- 513 686 464 ----------------------------------- NON-CURRENT ASSETS Postretirement benefits 458 462 473 Nuclear decommissioning trust funds 323 304 236 Abandoned Midland Project 126 131 143 Other 309 297 322 ----------------------------------- 1,216 1,194 1,174 ----------------------------------- TOTAL ASSETS $6,771 $6,954 $6,556 =================================== </TABLE>
38 <TABLE> <CAPTION> March 31 March 31 1996 December 31 1995 (Unaudited) 1995 (Unaudited) In Millions STOCKHOLDERS' INVESTMENT AND LIABILITIES <S> <C> <C> <C> CAPITALIZATION Common stockholder's equity Common stock $ 841 $ 841 $ 841 Paid-in-capital 504 491 491 Revaluation capital 29 29 17 Retained earnings since December 31, 1992 331 237 167 ----------------------------------- 1,705 1,598 1,516 Preferred stock 356 356 356 Company-obligated mandatorily redeemable preferred securities of Consumers Power Company Financing I (a) 100 - - Long-term debt 1,923 1,922 1,954 Non-current portion of capital leases 96 104 103 ----------------------------------- 4,180 3,980 3,929 ----------------------------------- CURRENT LIABILITIES Current portion of long-term debt and capital leases 89 90 48 Notes payable 38 341 135 Accrued taxes 201 225 134 Accounts payable 165 207 125 Power purchases - settlement (Note 2) 90 90 95 Accounts payable - related parties 64 56 56 Accrued refunds 28 22 35 Accrued interest 26 32 25 Other 166 178 153 ----------------------------------- 867 1,241 806 ----------------------------------- NON-CURRENT LIABILITIES Deferred income taxes 599 605 585 Postretirement benefits 520 517 537 Power purchases - settlement (Note 2) 215 221 295 Deferred investment tax credit 166 169 177 Regulatory liabilities for income taxes, net 53 44 29 Other (Note 4) 171 177 198 ----------------------------------- 1,724 1,733 1,821 ----------------------------------- COMMITMENTS AND CONTINGENCIES (Notes 2, 3, 4 and 5) TOTAL STOCKHOLDERS' INVESTMENT AND LIABILITIES $6,771 $6,954 $6,556 =================================== <FN> (a) As described in Note 7 to the Consolidated Financial Statements, the primary asset of Consumers Power Company Financing I is $103 million principal amount of 8.36% subordinated interest notes due 2015 from Consumers. THE ACCOMPANYING CONDENSED NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE>
39 <TABLE> Consumers Power Company Consolidated Statements of Common Stockholder's Equity (Unaudited) <CAPTION> Three Months Ended Twelve Months Ended March 31 March 31 1996 1995 1996 1995 In Millions <S> <C> <C> <C> <C> COMMON STOCK At beginning and end of period $ 841 $ 841 $ 841 $ 841 --------------------------------------------------- OTHER PAID-IN CAPITAL At beginning of period 491 491 491 391 Stockholder's contribution 13 - 13 100 --------------------------------------------------- At end of period 504 491 504 491 --------------------------------------------------- REVALUATION CAPITAL At beginning of period 29 15 17 15 Change in unrealized investment-gain - 2 12 2 --------------------------------------------------- At end of period 29 17 29 17 --------------------------------------------------- RETAINED EARNINGS At beginning of period 237 80 167 120 Net income 102 94 263 235 Common stock dividends declared - - (70) (160) Preferred stock dividends declared (7) (7) (28) (28) Preferred securities distributions (1) - (1) - --------------------------------------------------- At end of period 331 167 331 167 --------------------------------------------------- TOTAL COMMON STOCKHOLDER'S EQUITY $1,705 $1,516 $1,705 $1,516 =================================================== <FN> THE ACCOMPANYING CONDENSED NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE>
40 Consumers Power Company Condensed Notes to Consolidated Financial Statements These financial statements and their related condensed notes should be read along with the consolidated financial statements and notes contained in the 1995 Form 10-K of Consumers Power Company that includes the Report of Independent Public Accountants. In the opinion of management, the unaudited information herein reflects all adjustments necessary to assure the fair presentation of financial position, results of operations and cash flows for the periods presented. 1: Corporate Structure Consumers is a combination electric and gas utility company serving the Lower Peninsula of Michigan, and is the principal subsidiary of CMS Energy, an energy holding company. Consumers' customer base includes a mix of residential, commercial and diversified industrial customers, the largest segment of which is the automotive industry. 2: The Midland Cogeneration Venture The MCV Partnership, which leases and operates the MCV Facility, contracted to sell electricity to Consumers for a 35-year period beginning in 1990 and to supply electricity and steam to The Dow Chemical Company. Consumers, through its subsidiaries, holds the following assets related to the MCV Partnership and MCV Facility: 1) CMS Midland owns a 49 percent general partnership interest in the MCV Partnership; and 2) CMS Holdings holds through the FMLP a 35 percent lessor interest in the MCV Facility. Power Purchases from the MCV Partnership: Consumers' annual obligation to purchase contract capacity from the MCV Partnership is 1,240 MW for 1996 and for each subsequent year through the end of the PPA. In 1993, the MPSC issued the Settlement Order that has allowed Consumers to recover substantially all of the payments for its ongoing purchase of 915 MW of contract capacity. The PPA provides that Consumers is to pay the MCV Partnership a minimum levelized average capacity charge of 3.77 cents per kWh, a fixed energy charge and a variable energy charge which is based primarily on Consumers' average cost of coal consumed. The Settlement Order permits Consumers to recover capacity charges averaging 3.62 cents per kWh for 915 MW of capacity, the fixed energy charge and the prescribed energy charges associated with the scheduled deliveries within certain hourly availability limits, whether or not those deliveries are scheduled on an economic basis. For all energy delivered on an economic basis above the availability limits to 915 MW, Consumers has been allowed to recover 1/2 cent per kWh capacity payment in addition to the variable energy charge. In 1992, Consumers recognized a loss for the present value of the estimated future underrecoveries of power costs under the PPA as a result of the Settlement Order. This loss was based, in part, on management's assessment of the future availability of the MCV Facility, and the effect of the future power market on the amount, timing and price at which various increments of the capacity, above the MPSC-authorized level, could be resold. Additional losses may occur if actual future experience materially differs from the 1992 estimates. As anticipated in 1992, Consumers continues to experience cash underrecoveries associated with the Settlement Order. If Consumers is unable to sell any capacity above the 1993 MPSC-authorized level, future additional after-tax losses and after- tax cash underrecoveries would be incurred. Consumers' estimates of its after-tax cash underrecoveries and possible losses for 1996 and the next four years are shown in the table below. After-tax, In Millions 1996 1997 1998 1999 2000 ---- ---- ---- ---- ---- Estimated cash underrecoveries $56 $55 $ 8 $ 9 $ 7 Possible additional underrecoveries and losses (a) 20 22 72 72 74 (a) If unable to sell any capacity above the MPSC's 1993 authorized level. Under the Settlement Order, capacity and energy purchases from the MCV Partnership above the 915 MW level can be utilized to satisfy customers' power needs, but the MPSC will determine the levels of recovery from retail customers at a later date. The Settlement Order also provides Consumers the right to remarket to third parties the remaining contract capacity. The MCV Partnership did not object to the Settlement Order. ABATE and the Attorney General had appealed the Settlement Order to the Court of Appeals and in March 1996, the Court of Appeals affirmed the Settlement Order. In September 1995, Consumers and the MPSC staff reached a proposed settlement agreement that would potentially resolve several issues in three pending proceedings, including Consumers' electric rate case (see Note 3) and cost recovery for the entire 325 MW of MCV Facility capacity above the MPSC's currently authorized 915 MW level. Consumers does not anticipate the need for an additional loss to be recorded above the amount anticipated in 1992 if the settlement agreement is adopted as proposed. For further information regarding this proposed settlement, see Note 3. At March 31, 1996 and December 31, 1995, the after-tax present value of the Settlement Order liability totaled $198 million and $202 million, respectively. The reduction in the liability since December 31, 1995, reflects after-tax cash underrecoveries of $8 million, partially offset by after-tax accretion expense of $4 million. The undiscounted after-tax amount associated with the liability totaled $593 million at March 31, 1996. In 1994 and 1995, Consumers paid $44 million to terminate power purchase agreements with the developers of two proposed independent power projects totaling 109 MW. As part of the proposed settlement reached with the MPSC staff (see Note 3), Consumers is seeking to utilize less-expensive contract capacity from the MCV Facility which Consumers is currently not authorized to recover from retail customers. Cost recovery for this contract capacity would start in 1996. Even if Consumers is not allowed to substitute MCV Facility capacity for the capacity to be provided under the terminated agreements, Consumers believes that the MPSC would still approve recovery of the buyout costs due to the significant customer savings resulting from the terminated power purchase agreements. As a result, Consumers has recorded a regulatory asset of $44 million. PSCR Matters Related to Power Purchases from the MCV Partnership: As part of the 1993 and 1994 plan case orders, the MPSC confirmed the recovery of certain costs related to power purchases from the MCV Partnership. ABATE or the Attorney General appealed these plan case orders to the Court of Appeals. In February 1996, the Court of Appeals affirmed the MPSC's order in the 1993 plan case. As part of its decision in the 1993 PSCR reconciliation case issued February 23, 1995, the MPSC disallowed a portion of the costs related to purchases from the MCV Partnership, and instead assumed recovery of those costs from wholesale customers. Consumers believes this is contrary to the terms of the Settlement Order and has appealed the February 23 order on this issue. The MCV Partnership and ABATE have also filed separate appeals of this order. 3: Rate Matters Electric Rate Proceedings: In late 1994, Consumers filed a request with the MPSC to increase its retail electric rates. The request included provisions for ratemaking treatment of the 325 MW of MCV Facility contract capacity above 915 MW. Early in 1996, the MPSC issued a partial final order in this case, granting Consumers a $46 million annual increase in its electric retail rates. This order authorized a 12.25 percent return on common equity. However, it did not address cost recovery related to the 325 MW of MCV Facility contract capacity above 915 MW. The MPSC stated that this matter would be addressed in connection with its consideration of the proposed settlement agreement discussed below. Consumers also has a separate request before the MPSC to offer competitive special rates to certain large qualifying customers. In addition, Consumers filed a request with the MPSC, seeking to adjust its depreciation rates and to reallocate certain portions of its electric production plant to transmission accounts. For further information regarding these requests, see the Electric Rate Proceedings and Special Rates discussions in the Management's Discussion and Analysis. In September 1995, Consumers and the MPSC staff reached a proposed settlement agreement that, if approved by the MPSC, would resolve several outstanding regulatory issues currently before the MPSC in separate proceedings. Some of these issues were preliminarily addressed in February 1996 when the MPSC issued a partial final order in Consumers' electric rate case. If fully adopted, the settlement agreement would: provide for cost recovery of the entire 325 MW of uncommitted MCV Facility capacity; implement provisions for incentive ratemaking; resolve the special competitive services and depreciation rate cases; implement a limited direct access program; and accelerate recovery of nuclear plant investment. Consumers expects a final order by mid-1996. Gas Rates: As part of an agreement approved by the MPSC, Consumers filed a gas rate case in December 1994 that incorporated cost increases, including costs for postretirement benefits and costs related to Consumers' former manufactured gas plant sites (see Note 4). In March 1996, the MPSC issued a final order in this case, authorizing recovery of costs related to postretirement benefits and former manufactured gas plant sites. Overall however, the order decreased Consumers' gas rates by $11.7 million annually and authorized an 11.6 percent return on common equity, a decrease from the 13.25 percent previously authorized. Consumers has filed a petition for rehearing with the MPSC, requesting, among other things, recovery of certain gas losses, as well as reconsideration of issues in the order that Consumers believes provide disincentives to competition. The relief requested in the petition for rehearing, if granted in its entirety, would result in a $5.5 million annual rate reduction compared with the $11.7 million reduction. GCR Matters: In 1993, the MPSC issued an order favorable to Consumers regarding a gas pricing disagreement between Consumers and certain intrastate producers. In early 1995, management concluded that the intrastate producers' pending appeals of the order would not be successful and accordingly, reversed a previously accrued contingency and recorded a $23 million (pretax) benefit. The MPSC order was affirmed by the Court of Appeals in June 1995. The producers have petitioned the Michigan Supreme Court for review. In October 1995, the MPSC issued an order regarding a $44 million (excluding any interest) gas supply contract pricing dispute between Consumers and certain intrastate producers. The order stated that Consumers was not obligated to seek prior approval of market-based pricing provisions that were implemented under the contracts in question. The producers subsequently filed a claim of appeal of the MPSC order with the Court of Appeals. Consumers believes the MPSC order supports its position that the producers' theories are without merit and intends to vigorously oppose any claims they may raise but cannot predict the outcome of this issue. Resolution of the issues discussed in this note is not expected to have a material impact on Consumers' financial position or results of operations. 4: Commitments and Contingencies Environmental Matters: Consumers is a so-called "potentially responsible party" at several sites being administered under Superfund. Superfund liability is joint and several and along with Consumers, there are numerous credit-worthy, potentially responsible parties with substantial assets cooperating with respect to the individual sites. Based upon past negotiations, Consumers estimates its total liability for the significant sites will average less than 4 percent of the estimated total site remediation costs, and such liability is expected to be less than $9 million. At March 31, 1996, Consumers has accrued a liability for its estimated losses. The Michigan Natural Resources and Environmental Protection Act was substantially amended in June 1995. This Michigan law bears some similarities to the federal Superfund law. Consumers expects that it will ultimately incur investigation and remedial action costs at a number of sites, including some of the 23 sites that formerly housed manufactured gas plant facilities, even those in which it has a partial or no current ownership interest. Consumers has prepared plans for remedial investigation/feasibility studies for several of these sites. Three of the four plans submitted by Consumers have been approved by the DNR or the Michigan Department of Environmental Quality. The findings for two remedial investigations indicate that the expenditures for remedial action at those sites are likely to be less than previously estimated; however, these findings may not be representative of all of the sites. Data available to Consumers and its continued internal review have resulted in an estimate for all costs related to investigation and remedial action for all 23 sites of between $48 million and $98 million. These estimates are based on undiscounted 1996 costs. At March 31, 1996, Consumers has accrued a liability of $48 million and has established a regulatory asset for approximately the same amount. Any significant change in assumptions such as remediation technique, nature and extent of contamination and legal and regulatory requirements, could effect the estimate of remedial action costs for the sites. In accordance with an MPSC rate order issued in early 1996, Consumers is deferring environmental clean-up costs incurred at these sites and amortizing these costs over 10 years. The order authorizes current recovery of $1 million annually. Consumers is continuing discussions with certain insurance companies regarding coverage for some or all of the costs which may be incurred for these sites. The federal Clean Air Act contains provisions that limit emissions of sulfur dioxide and nitrogen oxides and require emissions monitoring. Consumers' coal-fueled electric generating units burn low-sulfur coal and are presently operating at or near the sulfur dioxide emission limits which will be effective in the year 2000. The Clean Air Act's provisions required Consumers to make capital expenditures totaling $25 million to install equipment at certain generating units. Consumers estimates capital expenditures for in-process and possible modifications at other coal-fired units to be an additional $50 million by the year 2000. Management believes that Consumers' annual operating costs will not be materially affected. Capital Expenditures: Consumers estimates capital expenditures, including new lease commitments, of $445 million for 1996, $395 million for 1997 and $395 million for 1998. Other: Consumers has experienced a number of lawsuits filed against it relating to so-called stray voltage. Claimants contend that stray voltage results when small electrical currents present in grounded electrical systems are diverted from their intended path. Consumers maintains a policy of investigating all customer calls regarding stray voltage and working with customers to address their concerns including, when necessary, modifying the grounding of the customer's service. At March 31, 1996, Consumers had 33 separate stray voltage lawsuits awaiting trial court action. In addition to the matters disclosed in these notes, Consumers and certain of its subsidiaries are parties to certain lawsuits and administrative proceedings before various courts and governmental agencies, arising from the ordinary course of business involving personal injury and property damage, contractual matters, environmental issues, federal and state taxes, rates, licensing and other matters. Estimated losses for certain contingencies discussed in this note have been accrued. Resolution of these contingencies is not expected to have a material impact on Consumers' financial position or results of operations. 5: Nuclear Matters Consumers filed updated decommissioning information with the MPSC in 1995 which estimated decommissioning costs for Big Rock and Palisades. In April 1996, the MPSC issued an order in Consumers' nuclear decommissioning case, which fully supported Consumers' request and did not change the overall surcharge revenues collected from retail customers. The MPSC ordered that Consumers review and file estimated decommissioning costs with the MPSC in 1998. In 1993, the NRC approved the design of the spent fuel dry storage casks now being used by Consumers at Palisades. In order to address concerns raised subsequent to the initial cask loading, Consumers and the NRC each analyzed the effects of seismic and other natural hazards on the support pad on which the casks are placed, and confirmed that the pad location is acceptable to support the casks. As of March 31, 1996, Consumers had loaded 13 dry storage casks with spent nuclear fuel at Palisades. In 1996, Consumers plans to unload and replace one of the loaded casks. In a review of the cask manufacturer's quality assurance program, Consumers detected indications of minor flaws in welds in the steel liner of one of the loaded casks. Although the cask continues to safely store spent fuel and there is no requirement for its replacement, Consumers has nevertheless decided to remove the spent fuel and insert it in another cask. Consumers has examined radiographs for all of its casks and has found all other welds acceptable. Certain parties, including the Attorney General, have petitioned the NRC to suspend Consumers' general license to store spent fuel, claiming that Consumers' cask unloading procedure does not satisfy NRC regulations. The NRC staff is reviewing the petitions. Consumers maintains insurance coverage against property damage, debris removal, personal injury liability and other risks that are present at its nuclear generating facilities. This insurance includes coverage for replacement power costs for the major portion of prolonged accidental outages for 12 months after a 21-week exclusion with reduced coverage to approximately 80 percent for two additional years. If certain loss events occur at its own or other nuclear plants similarly insured, Consumers could be required to pay maximum assessments of: $30 million in any one year to NML and NEIL; $79 million per event under the nuclear liability secondary financial protection program, limited to $10 million per event in any one year; and $6 million in the event of nuclear workers claiming bodily injury from radiation exposure. Consumers considers the possibility of these assessments to be remote. As an NRC licensee, Consumers is required to make certain calculations and report to the NRC about the continuing ability of the Palisades reactor vessel to withstand postulated "pressurized thermal shock" events during its remaining license life, in light of the embrittlement of reactor vessel materials over time due to operation in a radioactive environment. Analysis of recent data from testing of similar materials indicates that the Palisades reactor vessel can be safely operated through late 1999. In April 1995, Consumers received a Safety Evaluation Report from the NRC concurring with this evaluation and requesting submittal of an action plan to provide for operation of the plant beyond 1999. Consumers is developing plans to anneal the reactor vessel in 1998 at an estimated cost of $20 million to $30 million. This repair would allow for operation of the plant to the end of its license life in the year 2007. Consumers cannot predict whether the studies being conducted as part of the development plans will support a future decision to anneal. 6: Supplemental Cash Flow Information For purposes of the Statement of Cash Flows, all highly liquid investments with an original maturity of three months or less are considered cash equivalents. Other cash flow activities and non-cash investing and financing activities for the periods ended March 31 were: In Millions Three Months Ended Twelve Months Ended 1996 1995 1996 1995 ---- ---- ---- ----- Cash transactions Interest paid (net of amounts capitalized) $ 41 $ 50 $149 $147 Income taxes paid (net of refunds) 5 - 48 31 Non-cash transactions Nuclear fuel placed under capital lease $ - $ 7 $ 20 $ 25 Other assets placed under capital leases 1 2 4 15 Capital leases refinanced - - 21 - 7: Short-Term and Long-Term Financings and Capitalization Consumers has FERC authorization to issue or guarantee up to $900 million of short-term debt through December 31, 1996. Consumers has an unsecured $425 million facility and unsecured, committed lines of credit aggregating $145 million that are used to finance seasonal working capital requirements. At March 31, 1996, a total of $38 million was outstanding at a weighted-average interest rate of 6.2 percent, compared with $133 million outstanding at March 31, 1995, at a weighted-average interest rate of 7.0 percent. Consumers has an established $500 million trade receivables purchase and sale program. At March 31, 1996 and 1995, receivables sold under the agreement totaled $280 million and $300 million, respectively. Accounts receivable and accrued revenue in the Consolidated Balance Sheets have been reduced to reflect receivables sold. In January 1996, 4 million shares of 8.36 percent Trust Originated Preferred Securities were issued and sold through Consumers Power Company Financing I, a business trust wholly owned by Consumers. Net proceeds from the sale totaled $97 million. The business trust was formed for the sole purpose of issuing preferred securities and the primary asset of the trust is $103 million of 8.36 percent unsecured subordinated deferrable interest notes issued by Consumers. The obligations of Consumers with respect to the preferred securities under the notes that mature in 2015, the indenture under which the notes are issued, Consumers' guarantee of the preferred securities and the Declaration of Trust, taken together, constitute a full and unconditional guarantee by Consumers of the trust's obligations under the Trust Originated Preferred Securities. In April 1996, Consumers declared a $75 million common dividend to be paid in May 1996.
47 Consumers Power Company Management's Discussion and Analysis This MD&A should be read along with the MD&A in the 1995 Form 10-K of Consumers. This Form 10-Q contains "forward-looking statements" as defined by the Private Securities Litigation Reform Act of 1995, including (without limitation) discussions as to expectations, beliefs, plans, objectives and future financial performance, or assumptions underlying or concerning matters discussed in this document. These discussions, and any other discussions contained in this Form 10-Q that are not historical facts, are forward-looking and, accordingly, involve estimates, assumptions and uncertainties which could cause actual results or outcomes to differ materially from those expressed in the forward-looking information. In addition to certain contingency matters (and their respective cautionary statements) discussed elsewhere in this Form 10-Q, the Forward-Looking Information section of this MD&A indicates some important factors that could cause actual results or outcomes to differ materially from those addressed in the forward-looking discussions. Consumers is a combination electric and gas utility company serving the Lower Peninsula of Michigan, and is the principal subsidiary of CMS Energy, an energy holding company. Consumers' customer base includes a mix of residential, commercial and diversified industrial customers, the largest segment of which is the automotive industry. Consolidated earnings for the quarters ended March 31, 1996 and 1995 Consolidated net income after dividends and distributions on preferred securities totaled $94 million and $87 million for the first quarters of 1996 and 1995, respectively. The $7 million increase reflects increased electric sales resulting from Michigan's continuing economic growth, the impact of a 1996 electric rate increase and higher gas deliveries due to increased growth and colder weather experienced in the first quarter of 1996. Partially offsetting this increase in net income was the reversal of a gas contract contingency which benefited the 1995 period (see Note 3). Consolidated earnings for the 12 months ended March 31, 1996 and 1995 Consolidated net income after dividends and distributions on preferred securities totaled $234 million and $207 million for the 12 months ended March 31, 1996 and March 31, 1995, respectively. The $27 million increase reflects both higher electric sales and gas deliveries and the impact of increased electric rates which became effective in early 1996. Partially offsetting this increase was the recognition of DSM incentive revenue and the reversal of previously recorded gas contingencies (see Note 3) in the 1995 period, and increased operating expenses in the 1996 period. Cash Position, Financing and Investing Cash from operations is derived from the sale and transportation of natural gas and the generation, transmission, and sale of electricity. Cash from operations totaled $308 million and $309 million for the first quarters of 1996 and 1995, respectively. Increased cash resulting from higher sales of electricity, improved gas deliveries and lower cash losses associated with the PPA, was essentially offset by the timing of cash payments related to Consumers' operations. Consumers primarily uses its operating cash to maintain and expand its electric and gas systems, retire portions of its long-term debt and pay dividends. Financing Activities: Net cash used in financing activities totaled $211 million and $222 million for the first quarters of 1996 and 1995, respectively. The decrease of $11 million reflects increased cash from a $13 million equity investment from CMS Energy and $97 million from the sale of Trust Originated Preferred Securities (see Note 7). During the first quarter of 1996, cash was used to reduce short-term borrowings by an additional $99 million, as compared to the 1995 period. In April 1996, Consumers declared a $75 million common dividend to be paid in May 1996. Consumers had temporarily suspended its common dividends in mid-1995 to improve the equity portion of its capital structure. Investing Activities: Net cash used in investing activities totaled $103 million and $102 million for the first quarters of 1996 and 1995, respectively. Cash used for increased capital expenditures was principally offset by the reduced costs to retire property. Financing and Investing Outlook: Consumers has several available, unsecured, committed lines of credit totaling $145 million and a $425 million working capital facility. At March 31, 1996, Consumers had a total of $38 million outstanding under these facilities. Consumers has FERC authorization to issue or guarantee up to $900 million in short-term debt through December 31, 1996. Consumers uses short-term borrowings to finance working capital and gas in storage, and to pay for capital expenditures between long-term financings. Consumers has an agreement permitting the sales of certain accounts receivable for up to $500 million. At March 31, 1996 and 1995, receivables sold totaled $280 million and $300 million, respectively. Electric Utility Results of Operations Electric Pretax Operating Income for the quarters ended March 31, 1996 and 1995: Electric pretax operating income totaled $103 million and $87 million for the first quarters of 1996 and 1995, respectively. The $16 million increase primarily resulted from increased electric sales, an increase in electric rates in early 1996, and lower operation and maintenance costs during the first quarter of 1996. Partially offsetting this increase were decreased revenue from special contract discounts given to large industrial customers and higher depreciation and general taxes in 1996. Electric Pretax Operating Income for the 12 months ended March 31, 1996 and 1995: Electric pretax operating income totaled $378 million and $331 million for the 12 months ended March 31, 1996 and 1995, respectively. The $47 million increase is primarily the result of increased electric sales and an increase in electric rates effective in early 1996. These increases were partially offset by higher electric depreciation and property tax expenses in the 1996 period, decreased revenue from special contract discounts given to large industrial customers, and the impact of recognizing DSM incentive revenue in the 1995 period. The following table quantifies the impact of the major reasons for the changes in electric pretax operating income for the periods ended March 31: In Millions Impact on Pretax Operating Income Quarter ended 12 months ended 1996 compared 1996 compared with 1995 with 1995 --------- --------- Sales $ 9 $ 66 Rate increases and other regulatory issues 9 8 Operations and maintenance 4 2 General taxes and depreciation (6) (29) ---- ---- Total change $16 $ 47 ==== ==== Electric Sales: Electric sales during the first quarter of 1996 were 9.0 billion kWh, a 4.0 percent increase from 1995 levels. The increase included a 2.6 percent increase in sales to Consumers' ultimate customers. Residential and commercial sales increased 7.3 percent and 5.6 percent, respectively, while industrial sales decreased 3.1 percent, compared with the corresponding period in 1995. Industrial sales were adversely impacted by the General Motors strike which was resolved in late March 1996. Electric sales during the 12 months ended March 31, 1996 were 35.9 billion kWh, a 3.7 percent increase from 1995 levels. The increase included a 4.6 percent increase in sales to Consumers' ultimate customers. During the period, residential, commercial and industrial sales increased 7.7 percent, 5.8 percent and .9 percent, respectively. Power Costs: Power costs totaled $260 million and $227 million for the three-month periods ending March 31, 1996 and 1995, respectively. The $33 million increase primarily reflects greater power purchases from outside sources to meet increased sales demand. Power costs totaled $1,003 million and $934 million during the 12-month periods ending March 31, 1996 and 1995, respectively. The $69 million increase primarily reflects greater power purchases from outside sources to meet increased sales demand. Electric Utility Issues Power Purchases from the MCV Partnership: Consumers' annual obligation to purchase contract capacity from the MCV Partnership is 1,240 MW for 1996 and for each subsequent year through the end of the PPA. In 1993, the MPSC issued the Settlement Order that has allowed Consumers to recover substantially all payments for 915 MW of contract capacity purchased from the MCV Partnership. ABATE and the Attorney General had appealed the Settlement Order to the Court of Appeals and in March 1996, the Court of Appeals affirmed the Settlement Order. The market for the remaining 325 MW of contract capacity was assessed at the end of 1992. This assessment, along with the Settlement Order, resulted in Consumers recognizing a loss for the present value of the estimated future underrecoveries of power purchases from the MCV Partnership. Additional losses may occur if actual future experience materially differs from the 1992 estimates. As anticipated in 1992, Consumers continues to experience cash underrecoveries associated with the Settlement Order. These after-tax cash underrecoveries totaled $8 million for the first three months of 1996. Estimated after-tax cash underrecoveries and possible losses for 1996 and the next four years are shown in the table below. After-tax, In Millions 1996 1997 1998 1999 2000 ---- ---- ---- ---- ---- Estimated cash underrecoveries $56 $55 $ 8 $ 9 $ 7 Possible additional underrecoveries and losses (a) 20 22 72 72 74 (a) If unable to sell any capacity above the MPSC's 1993 authorized level. In September 1995, Consumers and the MPSC staff reached a proposed settlement agreement that would potentially resolve several issues in three pending proceedings, including the electric rate case (discussed below) and cost recovery for the entire 325 MW of MCV Facility capacity above the MPSC's currently authorized 915 MW level. Consumers does not anticipate the need for an additional loss to be recorded above the amount anticipated in 1992 if the settlement agreement is adopted as proposed. For further information regarding the settlement, see Note 3. In 1994 and 1995, Consumers terminated power purchase agreements with the developers of a proposed 65 MW coal-fired cogeneration facility and a proposed 44 MW wood and chipped-tire plant. To replace this capacity, 109 MW of less expensive contract capacity from the MCV Facility which Consumers is currently not authorized to recover from retail customers would be used. For further information, see Note 2. Electric Rate Proceedings: Consumers filed a request with the MPSC in late 1994 to increase its retail electric rates. In early 1996, the MPSC granted Consumers authority to increase its annual electric retail rates by $46 million. This partial final order did not address cost recovery related to the 325 MW of MCV Facility contract capacity above 915 MW. The MPSC stated that this matter would be addressed in connection with its consideration of the proposed settlement agreement discussed below. In September 1995, Consumers and the MPSC staff reached a proposed settlement agreement that, if approved by the MPSC, would resolve several outstanding regulatory issues. One of these issues, Consumers' electric rate case, was addressed, in part, by the order discussed above. If fully adopted, the settlement agreement would resolve Consumers' depreciation and special competitive service cases (discussed below) and cost recovery of the entire 325 MW of uncommitted MCV Facility capacity. Consumers expects a final order by mid-1996. For more information regarding the electric rate order and the settlement, see Note 3. In 1995, Consumers filed a request with the MPSC, seeking approval to increase its traditional depreciation expense by $21 million and reallocate certain portions of its utility plant from production to transmission, resulting in a $28 million decrease. If both aspects to the request are approved, the net result would be a decrease in electric depreciation expense of $7 million for ratemaking purposes. The ALJ issued a proposal for decision in this case that recommended the MPSC reject Consumers' position regarding the reallocation of Consumers' depreciation reserve and plant investment. This case is currently part of the proposed settlement. In the settlement proposal, Consumers requested that depreciation of certain plants (including nuclear plants) be accelerated while holding overall depreciation rates level. Special Rates: Consumers currently has a request before the MPSC that, would allow Consumers a certain level of rate-pricing flexibility to respond to customers' alternative energy options. This request has also been consolidated into the settlement proceeding discussed above. Electric Capital Expenditures: Consumers estimates capital expenditures, including new lease commitments, related to its electric utility operations of $315 million for 1996, $285 million for 1997 and $290 million for 1998. These amounts include an attributed portion of Consumers' anticipated capital expenditures for plant and equipment common to both the electric and gas utility businesses. Electric Environmental Matters: The 1990 amendment of the federal Clean Air Act significantly increased the environmental constraints that utilities will operate under in the future. While the Clean Air Act's provisions require Consumers to make certain capital expenditures in order to comply with the amendments for nitrogen oxide reductions, Consumers' generating units are presently operating at or near the sulfur dioxide emission limits which will be effective in the year 2000. Final acid rain program nitrogen oxide regulations are expected to be issued in 1996. Management believes that Consumers' annual operating costs will not be materially affected. The Michigan Natural Resources and Environmental Protection Act was substantially amended in 1995 and bears some similarities to the Federal Superfund law. Consumers expects that it will ultimately incur costs at a number of sites. Consumers believes costs incurred for both investigation and required remedial actions are properly recoverable in rates. Consumers is a so-called "potentially responsible party" at several sites being administered under Superfund. Along with Consumers, there are numerous credit-worthy, potentially responsible parties with substantial assets cooperating with respect to the individual sites. Based on current information, management believes it is unlikely that Consumers' liability at any of the known Superfund sites, individually or in total, will have a material adverse effect on its financial position, liquidity or results of operations. For further information regarding electric environmental matters, see Note 4. Nuclear Matters: In 1995, the NRC issued its Systematic Assessment of Licensee Performance report for Palisades. The report recognized improved performance at the plant, specifically in the areas of Engineering and Plant Operations. In the report, the NRC noted areas which continue to require management's attention, but also recognized the development and implementation of plans for corrective action designed to address previously identified weak areas. The report noted that performance in the areas of Maintenance and Plant Support was good and remained unchanged. Consumers' on-site storage pool for spent nuclear fuel at Palisades is at capacity. Consequently, Consumers is using NRC-approved dry casks, which are steel and concrete vaults, for temporary on-site storage. In 1996, Consumers plans to unload and replace one of the casks where a minor flaw has been detected. For further information, see Note 5. Consumers is required to make certain calculations and report to the NRC about the continuing ability of the Palisades reactor vessel to withstand postulated "pressurized thermal shock" events during its remaining license life. Analysis of recent data from testing of similar materials indicates that the Palisades reactor vessel can be safely operated through late 1999. Consumers is developing plans to anneal the reactor vessel in 1998 at an estimated cost of $20 million to $30 million. This repair would allow for operation of the plant to the end of its license life in the year 2007. Consumers cannot predict whether the studies being conducted as a part of the development plans will support a future decision to anneal. Stray Voltage: Consumers has experienced a number of lawsuits relating to the effect of so-called stray voltage on certain livestock. At March 31, 1996, Consumers had 33 separate stray voltage lawsuits awaiting trial court action. Consumers believes that the resolution of these lawsuits will not have a material impact on its financial position or results of operations. Gas Utility Results of Operations Gas Pretax Operating Income for the quarters ended March 31, 1996 and 1995: Gas pretax operating income totaled $91 million for both the first quarters of 1996 and 1995. Pretax operating income reflected a 15 percent increase in gas deliveries resulting from customer additions and load conversions to natural gas from alternative fuels and colder temperatures during the first quarter of 1996. However, when compared to 1995, the strong increases were offset by the benefit achieved in 1995 with the reversal of a previously recorded gas contract contingency (see Note 3) and higher depreciation and general taxes. Gas Pretax Operating Income for the 12 months ended March 31, 1996 and 1995: Gas pretax operating income totaled $151 million and $143 million for the 12 months ended March 31, 1996 and 1995, respectively. The $8 million increase reflects higher gas deliveries and higher operating expenses. However, the increase was partially offset by the reversal in the 1995 period, of previously recorded gas contingencies. The following table quantifies the impact of the major reasons for the changes in gas pretax operating income for the periods ended March 31: In Millions Impact on Pretax Operating Income Quarter ended 12 months ended 1996 compared 1996 compared with 1995 with 1995 --------- --------- Sales $ 22 $ 53 Reversal of gas contingencies (23) (34) Recovery of gas costs and other regulatory issues 2 6 Operations and maintenance 3 (6) General taxes and depreciation (4) (11) ----- ----- Total change $ - $ 8 ===== ===== Gas Deliveries: Gas sales during the first quarter of 1996 totaled 126 bcf, a 15.7 percent increase from 1995 levels, and total system deliveries, excluding transport to the MCV Facility, increased 14.8 percent from 1995 levels. On a weather-adjusted basis, total system deliveries increased 8.5 percent, reflecting significant growth resulting from customer additions and conversions to natural gas from alternative fuels. For the 12 months ended March 31, 1996, gas sales totaled 271 bcf, a 19.0 percent increase from the corresponding period ended March 31, 1995, and total system deliveries, excluding transport to the MCV Facility, increased 17.8 percent. Cost of Gas Sold: Cost of gas sold totaled $345 million and $281 million for the first quarters of 1996 and 1995, respectively. The increase of $64 million was the result of increased sales. The increased costs also reflect the reversal of a $23 million gas supplier contingency during the first quarter of 1995. The cost of gas sold totaled $735 million and $608 million for the 12 months ended March 31, 1996 and 1995, respectively. The increase of $127 million was also the result of increased sales offset by the reversal of the gas supplier contingency of $23 million in the 1995 period. Gas Utility Issues Gas Rate Proceedings: In early 1996, the MPSC issued a final order in Consumers' gas rate case, decreasing Consumers' gas rates by $11.7 million annually. The MPSC order authorized an 11.6 percent return on common equity. Consumers has filed a petition for rehearing with the MPSC, requesting, among other things, recovery of certain gas losses, as well as reconsideration of issues in the order that Consumers believes provide disincentives to competition. The relief requested in the petition, if granted in its entirety, would result in a $5.5 million annual rate reduction compared with the $11.7 million reduction. Consumers entered into a special natural gas transportation contract with one of its transportation customers in response to the customer's proposal to by-pass Consumers' system in favor of a competitive alternative. The contract provides for discounted gas transportation rates in an effort to induce the customer to remain on Consumers' system. In February 1995, the MPSC approved the contract but stated that the revenue shortfall created by the difference between the contract's discounted rate and the floor price of one of Consumers' MPSC-authorized gas transportation rates must be borne by Consumers' shareholders. In March 1995, Consumers filed an appeal with the Court of Appeals claiming that the MPSC decision denies Consumers the opportunity to earn its authorized rate of return and is therefore unconstitutional. GCR Matters: In October 1995, the MPSC issued an order regarding a $44 million (excluding any interest) gas supply contract pricing dispute between Consumers and certain intrastate producers. The order stated that Consumers was not obligated to seek prior approval of market-based pricing provisions that were implemented under the contracts in question. The producers subsequently filed a claim of appeal of the MPSC order with the Court of Appeals. Consumers believes the MPSC order supports its position that the producers' theories are without merit and intends to vigorously oppose any claims they may raise but cannot predict the outcome of this issue. Gas Capital Expenditures: Consumers estimates capital expenditures, including new lease commitments, related to its gas utility operations of $130 million for 1996, $110 million for 1997 and $105 million for 1998. These amounts include an attributed portion of Consumers' anticipated capital expenditures for plant and equipment common to both the electric and gas utility businesses. Gas Environmental Matters: Consumers expects that it will ultimately incur investigation and remedial action costs at a number of sites, including some that formerly housed manufactured gas plant facilities. Data available to Consumers and its continued internal review of these former manufactured gas plant sites have resulted in an estimate for all costs related to investigation and remedial action of between $48 million and $98 million. These estimates are based on undiscounted 1996 costs. At March 31, 1996, Consumers has accrued a liability for $48 million and has established a regulatory asset for approximately the same amount. Any significant change in assumptions such as remediation technique, nature and extent of contamination and regulatory requirements, could effect the estimate of remedial action costs for the sites. In accordance with an MPSC rate order, Consumers is deferring environmental clean-up costs and amortizing these costs over 10 years. The order authorizes current recovery of $1 million annually. Consumers is continuing discussions with certain insurance companies regarding coverage for some or all of the costs which may be incurred for these sites. For further information, see Note 4. Forward-Looking Information Capital Expenditures: Consumers estimates that capital expenditures, including new lease commitments, related to its electric and gas utility operations will total approximately $1.2 billion over the next three years. In Millions Years Ended December 31 1996 1997 1998 ---- ---- ---- Consumers Construction $396 $368 $335 Nuclear fuel lease 34 5 41 Capital leases other than nuclear fuel 6 19 16 Michigan Gas Storage 9 3 3 ---- ---- ---- $445 $395 $395 ==== ==== ==== These capital expenditures are estimates prepared for planning purposes and are subject to revision. For a breakdown of projected capital expenditures by electric and gas utility, see the Electric Capital Expenditures and Gas Capital Expenditures sections within this MD&A. Electric Outlook, Sales and Competition: Consumers currently expects approximately 2 percent average annual growth in electric system sales over the next five years. Actual electric sales in future periods may be affected by abnormal weather, changing economic conditions or the developing competitive market for electricity as discussed below. Consumers' retail service is affected by competition in several areas, including: the installation of cogeneration or other self-generation facilities by Consumers' larger industrial customers; the formation of municipal utilities which would displace retail service by Consumers to an entire community; and competition from neighboring utilities which offer flexible rate arrangements designed to encourage movement to their respective service areas. Consumers continues to work toward retaining its current retail service customers. In an effort to meet the challenge of competition, Consumers has signed long-term sales contracts with some of its largest industrial customers, including its largest customer, General Motors Corporation. Under the General Motors contract, Consumers will serve certain facilities at least five years and other facilities at least 10 years in exchange for competitively discounted electric rates. Certain facilities will have the option of taking retail wheeling service (if available) after the first three years of the contract. The MPSC approved this contract in 1995. This MPSC order and other MPSC orders approving special long-term sales contracts have been appealed by the Attorney General. As part of an order issued in early 1996, the MPSC significantly reduced the rate subsidization of residential customers by industrial and large commercial customers. In addition to offering electric rates that are competitive with other energy providers, Consumers is pursuing other strategies to retain its "at-risk" customers. These strategies include: minimizing outages for each customer, promptly responding to customer inquiries, and providing consulting services to help customers use energy efficiently. In 1994, the MPSC approved a framework for a five-year experimental retail wheeling program for Consumers and Detroit Edison. Under the experiment, up to 60 MW of Consumers' additional load requirements could be met by retail wheeling. The program becomes effective upon Consumers' next solicitation for capacity. In June 1995, the MPSC issued an order that set rates and charges for retail delivery service under the experiment. Consumers, ABATE and The Dow Chemical Company filed claims of appeal of the MPSC's retail wheeling orders. The Court of Appeals subsequently consolidated these appeals with those previously filed by Detroit Edison and the Attorney General. Consumers does not expect this short-term experiment to have a material impact on its financial position, liquidity or results of operations. In April 1996, the FERC issued two orders which require utilities to provide open access to the interstate transmission grid. The first order requires public utilities owning, controlling, or operating transmission lines in interstate commerce to file non-discriminatory open access tariffs that contain minimum terms and conditions of non-discriminatory service, allows utilities to charge their current conforming transmission rates or apply for new rates, and provides for the full recovery of stranded costs. The order also requires power pools to restructure their ongoing operations and open up to non-utility members. The second order requires utilities to establish electronic systems to share information about available transmission capacity and to separate their wholesale power marketing and transmission operations functions by implementing standards of conduct. These orders will become effective in July 1996. In addition, the FERC issued a NOPR on April 24, 1996, which proposes for consideration a new system for utilities to use in reserving capacity on their own and others' transmission lines. This would replace certain tariffs included in the first order with a capacity reservation tariff in which participants would reserve firm rights to transfer power between designated receipt and delivery points. Consumers is evaluating these developments and has not determined the impact of the FERC's Orders on its financial position, liquidity or results of operations. The Governor of the State of Michigan has requested that the MPSC review the existing statutory and regulatory framework governing Michigan utilities in light of increasing competition in the utility industry. The MPSC has directed Consumers (and Detroit Edison) to file applications by May 15, 1996, addressing the recommendation of the Michigan Jobs Commission to allow a choice of power suppliers for new industrial and commercial electric load. The Michigan Jobs Commission's recommendations also include related matters, such as the full recovery of utility stranded costs. No new legislation has been introduced. However, Consumers anticipates additional MPSC orders during 1996 which will further define a new electric and gas utility regulatory framework for Michigan. SFAS 71 allows the deferral of certain costs and the recording of regulatory assets. Management has evaluated Consumers' current regulatory position and believes it continues to support the recognition of Consumers' electric-related regulatory assets. If changes in the industry were to lead to Consumers discontinuing the application of SFAS 71, for all or part of its business, Consumers may be required to write off the portion of any regulatory asset for which no regulatory assurance of recovery continued to exist. Consumers does not believe that there is any current evidence that supports the write-off of any of its electric- related regulatory assets. Gas Outlook, Competition and Deliveries: Consumers currently anticipates gas deliveries to grow approximately 2 percent per year (excluding transportation to the MCV Facility and off-system deliveries) over the next five years, assuming a steadily growing customer base. Additionally, Consumers has several strategies which will support increased load requirements in the future. These strategies include increased efforts to promote natural gas to both current and potential customers that are using other fuels for space and water heating. The emerging use of natural gas vehicles also provides Consumers with sales growth opportunities. In addition, as air quality standards continue to become more stringent, management believes that greater opportunities exist for converting industrial boiler load and other processes to natural gas. Consumers also plans additional capital expenditures to construct new gas mains that are expected to expand Consumers' system. Actual gas deliveries in future periods may be affected by abnormal weather, alternative energy prices, changes in competitive conditions and the level of natural gas consumption. In 1995, the Low Income Home Energy Assistance Program provided approximately $71 million in heating assistance to about 400,000 Michigan households, with approximately 18 percent of funds going to Consumers' customers. In late 1995, federal legislative approval provided Michigan residents with approximately $60 million of funding for 1996. Consumers cannot predict what level of funding will be approved for 1997. In January 1996, the MPSC issued a Notice of legislative-type hearings to be held in 1996, to assess whether it is appropriate to allow all natural gas customers access to gas transportation service. The MPSC notice designated all eight local distribution companies whose rates are regulated by the MPSC as parties to this proceeding. Consumers has filed its comments with the MPSC, indicating that the MPSC should only direct local distribution companies to file pilot programs designed to test the feasibility of expanded transportation service. Consumers also expressed its position that it is premature to expand transportation service to residential customers. Under SFAS 71, Consumers is allowed to defer certain costs to the future and record regulatory assets, based on the recoverability of those costs through the MPSC's approval. Consumers has evaluated its regulatory assets related to its gas business, and believes that sufficient regulatory assurance exists to provide for the recovery of these deferred costs. Other Forward-Looking Information: Some important factors that could cause actual results or outcomes to differ materially from those discussed in the forward-looking statements include prevailing governmental policies and regulatory actions (including those of the FERC and the MPSC) with respect to rates, industry and rate structure, operation of nuclear power facilities, acquisition and disposal of assets and facilities, operation and construction of plant facilities, natural gas pipeline and storage facilities, recovery of purchased power, decommissioning costs, and present or prospective wholesale and retail competition, among others. The business and profitability of Consumers is also influenced by economic and geographic factors including political and economic risks, changes in compliance with environmental laws and policies, weather conditions, competition for retail and wholesale customers, pricing and transportation of commodities, market demand for energy from plants or facilities, inflation, capital market conditions, and the ability to secure agreement concerning pending negotiations (particularly for projects in development), among other important factors. All such factors are difficult to predict, contain uncertainties which may materially affect actual results, and are beyond the control of Consumers. Forward-looking information is included throughout this Form 10-Q. Consumers' material contingencies are also described in the Condensed Notes to Consolidated Financial Statements and should be read accordingly.
PART II. OTHER INFORMATION Item 1. Legal Proceedings The discussion below is limited to an update of developments that have occurred in various judicial and administrative proceedings, many of which are more fully described in CMS Energy's and Consumers' 1995 Forms 10-K for the year ended December 31, 1995. Reference is made to the Notes to the Consolidated Financial Statements included herein for additional information regarding various pending administrative and judicial proceedings involving rate, operating and environmental matters. RATE CASE PROCEEDINGS Appeal of MPSC Orders Related to the Abandoned Midland Nuclear Plant Investment In proceedings before the MPSC docketed as Case No. U-7830, Step 3A, the MPSC reviewed Consumers' compliance with the financial stabilization order conditions. In 1991, the MPSC issued an order finding that Consumers was not in compliance with certain financial stabilization orders. Upon appeal by several parties, including the Attorney General, the Court of Appeals affirmed the MPSC determinations in Step 3A in an order issued in April 1995. In May 1995, ABATE filed an application for leave to appeal this decision with the Michigan Supreme Court, which was denied by that court in March 1996. This proceeding is now closed. 1994 Gas Rate Case Filing Consumers filed a general gas rate case in December 1994. Consumers' final position in this case requested an increase in its gas rates of $6.7 million annually and a 12.25 percent return on equity. The MPSC issued a final order in this case in March 1996. In this order, the MPSC reduced Consumers' general gas rates by $11.7 million annually based on a return on common equity of 11.6 percent. In April 1996, Consumers filed a petition for rehearing of this order with the MPSC. The Company cannot predict the outcome of this matter. MCV - RELATED PROCEEDINGS In March 1993, the MPSC approved, with modifications, a contested settlement agreement among Consumers, the MPSC staff and 10 independent cogenerators which resolved certain regulatory issues and allowed Consumers to recover from electric customers a substantial portion of the cost of 915 MW of contract capacity from the MCV Facility. After their requests for rehearing were denied by the MPSC, ABATE and the Attorney General appealed the orders approving the settlement to the Court of Appeals. In March 1996, the Court of Appeals affirmed the March 1993 MPSC order settling the electric rate issues involving Consumers and the MCV Facility, and rejected claims by ABATE and the Attorney General which contested the rates being charged electric customers since January 1993 for 915 MW of capacity and related energy being provided by the MCV Facility. This proceeding is now closed. STRAY VOLTAGE LAWSUITS Consumers has a number of lawsuits relating to so-called stray voltage, which results when small electrical currents present in grounded electric systems are diverted from their intended path. Several recent lawsuits allege personal injury as well as damage to livestock. Consumers believes these claims to be without merit and intends to vigorously oppose all claims the plaintiffs may raise but cannot predict the outcome of this matter. At March 31, 1996, Consumers had 33 separate stray voltage cases awaiting action at the trial court level. INDEPENDENT POWER PRODUCTION PROJECT LITIGATION In August 1995, William R. Williams and two of his corporations, Altresco Philippines, Inc. and WRW Corporation (formerly Altresco International, Inc.) filed a lawsuit against CMS Generation in the Denver County District Court, State of Colorado, in connection with a project to be developed in Bantangas, Philippines by Luzon Power Associates, Inc. in which CMS Generation purchased a 50% ownership interest. Luzon Power Associates, Inc. has an agreement to supply power to the Manila Electric Company. The complaint alleges, breach of a confidentiality agreement, breach of fiduciary duty, intentional interference with a contract, breach of implied covenant of good faith and fair dealing, and unfair competition. The claims primarily relate to a confidentiality agreement between the parties, and CMS Generation's alleged pursuit of another project to sell power directly to the Manila Electric Company, known as the Magellan project, in alleged violation of a restrictive covenant in the confidentiality agreement. The plaintiffs claim direct damages of approximately $85 million and indirect damages in a like amount from loss of future business, plus punitive damages, interest, and attorney's fees. CMS Generation removed the case to the United States District Court for the District of Colorado in September 1995, and in January 1996, that court denied CMS Generation's motion to dismiss the suit or to transfer the case based on improper venue. A trial date of July 1997 has been set by the court. CMS Generation believes the plaintiff's position is without merit and intends to vigorously oppose any claims they may raise but cannot predict the outcome of this matter.
59 Item 6. Exhibits and Reports on Form 8-K (a) List of Exhibits (4) CMS Energy: Second Supplemental Indenture dated as of March 19, 1996 between CMS Energy Corporation and The Chase Manhattan Bank (National Association), as Trustee (10) CMS Energy: Employment Agreement dated March 20, 1996 between CMS Energy Corporation and Preston D. Hopper (12) CMS Energy: Statements regarding computation of Ratio of Earnings to Fixed Charges (15) CMS Energy: Letter of Independent Public Accountant (27)(a) CMS Energy: Financial Data Schedule (27)(b) Consumers: Financial Data Schedule (99) CMS Energy: Consumers Gas Group Financials (b) Reports on Form 8-K Current Reports on Form 8-K dated January 18, 1996 (Consumers), February 23, 1996 (CMS Energy) and April 23, 1996 (CMS Energy and Consumers) covering matters pursuant to "Item 5. Other Events."
60 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, each registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. The signature for each undersigned company shall be deemed to relate only to matters having reference to such company or its subsidiary. CMS ENERGY CORPORATION (Registrant) Date: May 15, 1996 By A M Wright ------------------------ Alan M. Wright Senior Vice President, Chief Financial Officer and Treasurer CONSUMERS POWER COMPANY (Registrant) Date: May 15, 1996 By A M Wright ------------------------ Alan M. Wright Senior Vice President and Chief Financial Officer