-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, G8YptY1F6UQ3n0UNScHT45z35und+vNXrICc0dJ+q9KqIiwcklNctQbXKQ2tbLc9 4LgwnT6BV9LltYGBuAuIzA== 0000897069-98-000229.txt : 19980416 0000897069-98-000229.hdr.sgml : 19980416 ACCESSION NUMBER: 0000897069-98-000229 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980415 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: WPL HOLDINGS INC CENTRAL INDEX KEY: 0000352541 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRIC & OTHER SERVICES COMBINED [4931] IRS NUMBER: 391380265 STATE OF INCORPORATION: WI FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 001-09894 FILM NUMBER: 98594408 BUSINESS ADDRESS: STREET 1: 222 W WASHINGTON AVE CITY: MADISON STATE: WI ZIP: 53703 BUSINESS PHONE: 6082523311 MAIL ADDRESS: STREET 1: P O BOX 2568 CITY: MADISON STATE: WI ZIP: 53701-2568 10-K405 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1997 or [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ______ to _______ Name of Registrant, State of IRS Employer Commission Incorporation, Address of Principal Identification File Number Executive Offices and Telephone Number Number 1-9894 WPL HOLDINGS, INC. 39-1380265 (a Wisconsin corporation) 222 West Washington Avenue Madison, Wisconsin 53703 Telephone (608)252-3311 Securities registered pursuant to Section 12 (b) of the Act: Name of Each Exchange on Title of Class Which Registered Common Stock, $.01 Par Value New York Stock Exchange Common Stock Purchase Rights New York Stock Exchange Securities registered pursuant to Section 12 (g) of the Act: None Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past (90) days. Yes X No _____ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of the Form 10-K or any amendment to this Form 10-K. [ X] The aggregate market value of the voting stock held by nonaffiliates as of February 28, 1998: $976.1 million Number of shares outstanding of each class of common stock as of February 28, 1998: Common Stock, $.01 par value, 30,788,593 shares outstanding DOCUMENTS INCORPORATED BY REFERENCE Portions of the Proxy Statement relating to the registrant's 1998 Annual Meeting of Shareowners will, upon filing with the Securities and Exchange Commission, be incorporated by reference into Part III hereof. TABLE OF CONTENTS Page Part I Number Item 1. Business 3 Item 2. Properties 19 Item 3. Legal Proceedings 22 Item 4. Submission of Matters to a Vote of 24 Security Holders Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters 25 Item 6. Selected Financial Data 26 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 27 Item 7A. Quantitative and Qualitative Disclosures 52 About Market Risk Item 8. Financial Statements and Supplementary Data 52 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures 74 Part III Item 10. Directors and Executive Officers of the Registrant 74 Item 11. Executive Compensation 74 Item 12. Security Ownership of Certain Beneficial Owners and Management 74 Item 13. Certain Relationships and Related Transactions 74 Part IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 75 Signatures 89 Report of Independent Public Accountants on Schedules 90 FORWARD-LOOKING STATEMENTS Refer to the "Forward-Looking Statements" section in Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations" (MD&A) for information and disclaimers regarding forward-looking statements contained in this Annual Report on Form 10-K. PART I As described below, WPL Holdings, Inc. (WPLH) is a party to a proposed three-way merger (Merger) involving IES Industries Inc. (IES) and Interstate Power Company (IPC). Management of WPLH currently expects the Merger to be consummated in the second quarter of 1998. As a result, and to enhance the reader's understanding of the combined company following the Merger, certain information relating to IES and IPC and their respective operations, as well as to the combined company, has been included in this Annual Report on Form 10-K. Information relating to IES and IPC was supplied by the respective companies for inclusion herein. This information has been provided for reference only and is not intended to imply that the operations of WPLH included the operations of IES or IPC prior to the effective time of the Merger. The portions of Items 1 through 3 of Part I which are prospective in nature, generally reflect a discussion of operations on a post-merger basis. The portions of Items 1 through 3 of Part I that are historical in nature focus primarily on WPLH. ITEM 1. BUSINESS A. MERGER WPLH, IES and IPC are in the process of completing a Merger forming Interstate Energy Corporation (Merged Company). In connection with the Merger, IES will be merged with and into WPLH forming the Merged Company and IPC will become a subsidiary of the Merged Company. In addition, following the Merger, the holding companies for the nonregulated businesses of the former WPLH and IES (Heartland Development Corporation (HDC) and IES Diversified Inc. (Diversified), respectively) will be merged into each other. The resulting company from this merger is referred to as New Diversified. As a result of the Merger, the first tier subsidiaries of the Merged Company will include: Wisconsin Power and Light Company (WP&L), IES Utilities Inc. (IESU), IPC, New Diversified and Alliant Services Company. Among various other regulatory constraints, the Merged Company will operate as a registered public utility holding company subject to the limitations imposed by the Public Utility Holding Company Act of 1935. For additional information regarding the terms of the Merger, see Note 2 of the "Notes to Consolidated Financial Statements." The merger partners currently anticipate cost savings resulting from the Merger of approximately $749 million over a ten-year period, net of transaction costs and costs to achieve the savings of approximately $78 million. Approximately $22 million of these costs had been incurred through December 31, 1997. Upon consummation of the Merger, the merger partners estimate the Merged Company will expense approximately $40 million of additional merger-related costs (e.g., required payments to or for financial advisors, employee retirements and separations, attorneys, accountants, etc.). The estimate of potential cost savings constitutes a forward-looking statement and actual results may differ materially from this estimate. The estimate is necessarily based upon various assumptions that involve judgments with respect to, among other things, future national and regional economic and competitive conditions, technological developments, inflation rates, regulatory treatments, weather conditions, financial market conditions, future business decisions and other uncertainties. No assurance can be given that the entire amount of estimated costs savings will actually be realized. In addition, the allocation between WPLH, IES and IPC and their customers of the estimated cost savings of approximately $749 million over ten years resulting from the Merger, net of costs incurred to achieve such savings, will be subject to regulatory review and approval. As part of the approval process for the Merger, the Merged Company has agreed to various rate freezes and rate caps to be implemented in certain jurisdictions for periods not to exceed four years commencing on the effective date of the Merger (see "Liquidity and Capital Resources - Rates and Regulatory Matters" in Item 7. MD&A for a further discussion). Assuming capture of the anticipated merger-related synergies and no significant legislative or regulatory changes affecting the Merged Company, the Merged Company does not expect the merger-related electric and natural gas price freezes to have a material adverse effect on its financial position or results of operations. A brief description of the three merger partners is as follows: WPLH WPLH was incorporated under the laws of the State of Wisconsin in 1981, and operates as a holding company with both utility and nonutility businesses. It is the parent company of a public utility, WP&L and its related subsidiaries and of HDC, the parent corporation for the nonutility businesses. Refer to Note 13 of the "Notes to Consolidated Financial Statements" for financial information related to WPLH's business segments. IES IES is a holding company which was incorporated as IE Industries in 1986 under the laws of the State of Iowa. IES's wholly-owned subsidiaries are IESU and Diversified. IESU is primarily an electric and natural gas utility company operating in the State of Iowa. Diversified is a holding company for nonutility subsidiaries which are primarily engaged in the energy-related, transportation and real estate development businesses. Diversified also has an investment in an Iowa-based telecommunications company, among other miscellaneous investments. IPC IPC is a public utility incorporated in 1925 under the laws of the State of Delaware. IPC is primarily an electric and natural gas utility company operating in the States of Iowa, Minnesota and Illinois. At December 31, 1997, IPC provided electric and gas service to approximately 166,000 and 50,000 customers, respectively. In 1997, 1996 and 1995, IPC had no single customer for which electric and/or gas sales accounted for 10% or more of IPC's consolidated revenues. IPC's largest gas transportation customer, which represents 36% of IPC's total gas throughput, is committed by contract for the next four years. The revenue associated with this customer is immaterial. WP&L and HDC are currently the primary first-tier subsidiaries of WPLH. Assuming that the Merger is consummated, the first-tier subsidiaries of the Merged Company would be as follows: 1) WP&L WP&L, incorporated in Wisconsin in 1917 as the Eastern Wisconsin Electric Company, is a public utility predominately engaged in the transmission and distribution of electric energy and the generation and bulk purchase of electric energy for sale. WP&L also transports, distributes and sells natural gas purchased from gas suppliers. Nearly all of WP&L's customers are located in south and central Wisconsin. WP&L operates in municipal- ities pursuant to permits of indefinite duration which are regulated by Wisconsin law. At December 31, 1997, WP&L supplied electric and gas service to approximately 393,000 and 155,000 customers, respectively. WP&L also has approximately 32,000 water customers. The water operations are immaterial to WP&L overall. In 1997, 1996 and 1995, WP&L had no single customer for which electric and/or gas sales accounted for 10% or more of WP&L's consolidated revenues. WP&L owns all of the outstanding capital stock of South Beloit Water, Gas and Electric Company (South Beloit), a public utility supplying electric, gas and water service, principally in Winnebago County, Illinois, which was incorporated in 1908. WP&L also owns varying interests in several other subsidiaries and investments which are not material to WP&L's operations. 2) IESU IESU was incorporated in Iowa in 1925 as Iowa Railway and Light Corporation and is currently a first-tier subsidiary of IES. IESU is primarily a public utility operating company engaged in providing electric energy, natural gas and, to a limited extent, steam used for industrial and heating purposes, in the State of Iowa. At December 31, 1997, IESU supplied electric and gas service to approximately 339,000 and 178,000 customers, respectively. In 1997, 1996 and 1995, IESU had no single customer for which electric and/or gas sales accounted for 10% or more of IESU's consolidated revenues. IESU also owns varying interests in several other subsidiaries and investments which are not material to IESU's operations. 3) IPC See above. 4) HDC Incorporated in 1988, HDC is the parent company of all nonutility businesses for WPLH. HDC and its principal subsidiaries are engaged in business development in three major areas: (1) environmental and engineering services; (2) affordable housing; and (3) energy services. Following the consummation of the Merger, it is anticipated that HDC and Diversified will be merged to form New Diversified. 5) DIVERSIFIED Other than IESU's nonregulated investments, the non-utility operations of IES are organized under Diversified. Diversified is a holding company whose wholly-owned subsidiaries include IES Transportation Inc. (IES Transportation), IES Energy Inc. (IES Energy), IES Investments Inc. (IES Investments) and IES International Inc. (IES International). 6) ALLIANT SERVICES COMPANY Upon consummation of the Merger, Alliant Services Company will be the subsidiary formed to provide administrative services as required under the Public Utility Holding Company Act of 1935. B. INFORMATION RELATING TO THE MERGED COMPANY AS A WHOLE EMPLOYEES As of December 31, 1997, the parties to the Merger and their affiliates had the following full-time employees: Number of Number of Number of Bargaining Bargaining Employees Employees Agreements WP&L 2,175 1,490 1 IESU 2,045 1,089 6 IPC 872 559 3 HDC 642 - - Diversified 255 84 5 IES 148 - - ----- ----- ----- Total 6,137 3,222 15 ===== ===== ===== There are several bargaining agreements at IESU expiring in 1998 but the number of employees covered under these agreements is relatively small. CAPITAL EXPENDITURE AND INVESTMENT AND FINANCING PLANS Refer to the "Liquidity and Capital Resources" section in Item 7. MD&A for a discussion of anticipated construction and acquisition expenditures for 1998-2002 and the assumptions in financing future capital requirements. REGULATION Assuming the Merger is consummated, the Merged Company will operate as a registered public utility holding company subject to the limitations imposed by the Public Utility Holding Company Act of 1935. WP&L is subject to regulation by the Public Service Commission of Wisconsin (PSCW) as to retail utility rates and service, accounts, issuance and use of proceeds of securities, certain additions and extensions to facilities and in other respects. The PSCW is comprised of three commissioners appointed by the Governor of Wisconsin and ratified by the State Senate. WP&L is generally required to file a rate case with the PSCW every two years with requests for rate relief based on a forward- looking test year period. However, as one of the conditions of the Merger, the PSCW has required WP&L to freeze on a post-merger basis retail electric, natural gas, and water rates for a period of four years. The PSCW also regulates the type and amount of investments in non-utility businesses. IESU and IPC operate pursuant to the laws of the State of Iowa and are thereby subject to the jurisdiction of the Iowa Utilities Board (IUB). The IUB has authority to regulate rates and standards of service, to prescribe accounting requirements and to approve the location and construction of electric generating facilities having a capacity in excess of 25,000 Kw. The IUB is comprised of three commissioners appointed by the Governor of Iowa and ratified by the State Senate. Requests for price relief are based on historical test periods, adjusted for certain known and measurable changes. The IUB must decide on requests for price relief within 10 months of the date of the application for which relief is filed or the interim prices granted become permanent. Interim prices, if allowed, are permitted to become effective, subject to refund, no later than 90 days after the price increase application is filed. IESU and IPC have agreed to a four-year price cap effective with the Merger as part of the Merger approval process. In Iowa, non-exclusive franchises, which cover the use of streets and alleys for public utility facilities in incorporated communities, are granted for a maximum of twenty-five years by a majority vote of local qualified residents. In addition, the IUB defines the boundaries of mutually exclusive service territories for all electric utilities. The IUB has jurisdiction and grants franchises for the use of public highway rights-of-way for electric and gas facilities outside corporate limits. IPC is also subject to regulation by the Minnesota Public Utilities Commission (MPUC). The MPUC is comprised of five commissioners appointed by the Governor of Minnesota and confirmed by the Senate. Requests for price relief can be based on either historical or projected data. The MPUC must reach a final decision within 10 months. Interim rates are permitted. The MPUC also has jurisdiction to approve IPC's capital structure on an annual basis. South Beloit and IPC are subject to regulation by the Illinois Commerce Commission (ICC) for retail utility rates and service, accounts, issuance and use of proceeds of securities, certain additions and extensions to facilities and in other respects. The ICC is comprised of five commissioners appointed by the Governor of Illinois. Requests for rate relief must be decided within 11 months. The Federal Energy Regulatory Commission (FERC) has jurisdiction under the Federal Power Act over certain of the electric utility facilities and operations, wholesale rates and accounting practices of WP&L, IESU and IPC, and in certain other respects. In addition, certain natural gas facilities and operations of the companies are subject to the jurisdiction of the FERC under the Natural Gas Act. With respect to environmental matters, the United States Environmental Protection Agency administers certain federal statutes and has delegated the administration of other environmental initiatives to the applicable state environmental agencies. In addition, the state agencies have jurisdiction over air and water quality standards associated with fossil fuel fired electric generation and the level and flow of water, safety and other matters pertaining to hydroelectric generation. WP&L and IESU are subject to the jurisdiction of the Nuclear Regulatory Commission (NRC), with respect to the Kewaunee Nuclear Power Plant (Kewaunee) in the case of WP&L and the Duane Arnold Energy Center (DAEC) in the case of IESU, and to the jurisdiction of the United States Department of Energy (DOE) with respect to the disposal of nuclear fuel and other radioactive wastes from Kewaunee and the DAEC. Effective with the consummation of the Merger, the Merged Company will be subject to regulation by the PSCW, as WP&L is currently. The PSCW regulates, among other things, the type and amount of investments in non- utility businesses. Refer to Item 7. MD&A for additional information regarding regulation. YEAR 2000 Refer to the "Other Matters - Year 2000" section in Item 7. MD&A for a discussion of Year 2000 system conversion initiatives. C. INFORMATION RELATING TO UTILITY OPERATIONS On a combined basis, the merger partners realized 54%, 41%, 3% and 2% of their electric utility revenues in 1997 in Iowa, Wisconsin, Minnesota and Illinois, respectively. Approximately 87% of the electric revenues were regulated by the respective state commissions while the other 13% were regulated by the FERC. On a combined basis, the parties realized 56%, 38%, 3% and 3% of their gas utility revenues in Iowa, Wisconsin, Minnesota and Illinois, respectively. UTILITY INDUSTRY OUTLOOK Refer to the "Utility Industry Outlook" section in Item 7. MD&A for a discussion of various competitive issues impacting utility operations. ELECTRIC OPERATIONS WP&L WP&L provides electricity in a service territory of approximately 16,000 square miles in 35 counties in southern and central Wisconsin and four counties in northern Illinois. As of December 31, 1997, WP&L provided retail electric service to approximately 393,000 customers in 615 cities, villages and towns, and wholesale service to 25 municipal utilities, one privately owned utility, three rural electric cooperatives, one Native American nation and to the Wisconsin Public Power, Inc. system for the provision of retail service to 14 communities. Electric operations represented 79.8% of WP&L's total operating revenues and 90.5% of WP&L's total operating income for the year ended December 31, 1997. Electric sales are seasonal to some extent with the yearly peak normally occurring in the summer months. WP&L also experiences a smaller winter peak in December or January. The maximum net hourly peak load on the electric system was 2,253 megawatts and occurred on July 16, 1997. Refer to Item 2. "Properties" for additional information regarding electric facilities. Fuel In 1997, approximately 86% of WP&L's net kilowatthour generation of electricity by company-owned and jointly-owned facilities was fueled by coal and 10% by nuclear fuel (provided by WP&L's 41% ownership interest in Kewaunee). The remaining electricity generated was produced by hydro- electric, oil-fired and natural gas generation. The 1997 WP&L coal percentage was higher than anticipated due to the outage at the Kewaunee plant as discussed in Item 7. MD&A. As a result, the coal portion of generation is expected to be slightly lower in future years. In 1997, approximately 64% of IESU's net kilowatthour generation of electricity by company-owned and jointly-owned facilities was fueled by fossil fuel (primarily coal) and 34% by nuclear fuel through ownership in the DAEC. The 1997 IESU fossil percentage was lower than anticipated because of several maintenance outages at various fossil-fueled generating facilities and attempts to conserve coal due to rail transportation problems. As a result, the fossil fuel portion of generation is expected to be slightly higher in future years. In 1997, approximately 94% of IPC's electricity was fueled by coal and the remainder was primarily from natural gas. Future sources of generation are expected to be in similar proportions. Coal WP&L's primary fuel source is coal. To ensure an adequate supply of coal, WP&L has entered into certain long-term coal contracts. These contracts include a demand or take-or-pay clause under which payments are required if contracted quantities are not purchased. Refer to Note 11a in "Notes to Consolidated Financial Statements" for details relating to these long- term coal purchase commitments. WP&L anticipates that its average fuel costs will likely increase in the future, due to cost escalation provisions in existing coal and transportation contracts. Present coal supply contracts and transportation contracts (excluding extension options) cover approximately 34% and 42%, respectively, of WP&L's estimated coal requirements for the years 1998 through 2002. WP&L will seek renewals of existing contracts or additional sources of supply and negotiate new or additional transportation contracts to satisfy these requirements and to comply with environmental regulations. IESU estimates that it has the capability to purchase approximately half of its 1998 through 2002 coal requirements under its current coal contracts and will meet the remainder of its requirements from either future contracts or purchases in the spot market. Many of the current contracts have provisions allowing IESU to purchase additional tons of coal. IESU believes that an ample supply of coal is available in the spot market to meet its needs. Approximately 75% to 80% of IPC's 1998 coal requirements will be met from long-term contracts. These contracts have expiration dates ranging through August 31, 1999. Future coal requirements will be met from either future contracts or purchases in the spot market. Purchased Power During the year ended December 31, 1997, about 36.7% of WP&L's total kilowatthour requirements were met through purchased power. Refer to Note 11b in "Notes to Consolidated Financial Statements" for details relating to long-term purchase power commitments. Approximately 24.6% and 38.6% of IESU's and IPC's total kilowatthour requirements, respectively, were met through purchased power during the year ended December 31, 1997. General Assuming consummation of the Merger, WP&L, IESU and IPC expect to realize reduced electric production costs through the joint dispatch of systems and increased marketing opportunities in the wholesale and interchange markets through electric interconnections with other utilities. The facilities of the merger partners are interconnected with certain neighboring utilities and WP&L, IESU and IPC participate as members of the Mid-Continent Area Power Pool (MAPP). This pool is comprised of 20 utilities which are Transmission Owning Members (TOMs) and 51 energy- related companies providing services in the upper midwest region of the United States, and operates pursuant to an agreement which provides for the interchange of electric energy, the sharing of responsibilities for production capacity and reserve and the supply of electric energy. Nuclear General Assuming the Merger is consummated, the Merged Company will own interests in two nuclear facilities, Kewaunee and the DAEC. Kewaunee, a 535- megawatt (nameplate capacity) pressurized water reactor plant, is operated by Wisconsin Public Service Corporation (WPSC) and is jointly owned by WPSC (41.2%), WP&L (41.0%), and Madison Gas & Electric Company (MG&E) (17.8%). The Kewaunee operating license expires in 2013. DAEC, a 520- megawatt boiling water reactor plant, is operated by IESU and IESU has a 70% ownership interest in the plant. The DAEC operating license expires in 2014. As co-owners of nuclear generating units, IESU and WP&L are subject to the jurisdiction of the NRC. The NRC has broad supervisory and regulatory jurisdiction over the construction and operation of nuclear reactors, particularly with regard to public health, safety and environmental considerations. The operation and design of nuclear power plants is under constant review by the NRC. IESU and WP&L have complied with and are currently complying with all NRC requests for data relating to these reviews. As a result of such reviews, further changes in operations or modifications of equipment may be required, the cost of which cannot currently be estimated. IESU's and WP&L's anticipated nuclear-related construction expenditures for 1998- 2002 are approximately $46 million and $43 million, respectively. Refer to "Liquidity and Capital Resources - Capital Requirements" in Item 7. MD&A for a further discussion. The DAEC received the highest score possible (1 on a 3-point scale) in the areas of plant operations, engineering and plant support and a "good" rating (2) in the area of maintenance during the NRC's last Systematic Assessment of Licensee Performance (SALP) report in 1997. Kewaunee received the highest score possible (1) in the area of maintenance and a "good" rating (2) in the areas of plant operations, engineering and plant support during the NRC's last SALP report which was also received in 1997. Under the Price-Anderson Amendments Act of 1988 (1988 Act), IESU and WP&L currently have the benefit of public liability coverage which would compensate the public in the event of an accident at a commercial nuclear power plant. The 1988 Act permits such coverage to rise with increased availability of nuclear insurance and the changing number of operating nuclear plants subject to retroactive premium assessments. The 1988 Act provides for inflation indexing (Consumer Price Index every fifth year) of the retroactive premium assessments. As an outgrowth of the Three Mile Island Nuclear Power Plant (TMI) experience, nuclear plant owners have initiated a cooperative insurance program designed to help cover business interruption expenses for participating utilities arising from a possible nuclear plant event. IESU and WP&L are participants in this program. This type of insurance is an industry response intended to lessen the cost burden on customers in the event of a lengthy plant shutdown. In the unlikely event of a catastrophic loss at Kewaunee or the DAEC, the amount of insurance available may not be adequate to cover property damage, decontamination and premature decommissioning. Uninsured losses, to the extent not recovered through rates, would be borne by WP&L or IESU and could have a material adverse effect on their financial position and results of operations. Refer to Note 11f of the "Notes to Consolidated Financial Statements" for a further discussion of insurance matters relating to Kewaunee. Kewaunee WPSC purchases uranium concentrates, conversion services, enrichment services, and fabrication services for nuclear fuel assemblies at Kewaunee. New fuel assemblies replace used assemblies that are removed from the reactor every 18 months and placed in storage at the plant site pending removal by the DOE. Uranium concentrates, conversion services, and enrichment services are purchased at spot market prices, through a bid process, or using existing contracts. A uranium inventory policy requires that sufficient inventory exist for up to two reactor reloads of fuel. As of December 31, 1997, 960,000 pounds of yellowcake or its equivalent were held in inventory for Kewaunee. Two contracts are in place to provide conversion services for Kewaunee nuclear fuel for reloads in 1998 and 2000. A contract with Cogema, Inc. provides a fixed quantity of enrichment services through the year 2001. Additional enrichment services will be acquired under a contract with the United States Enrichment Corporation which is in effect for the life of Kewaunee or by purchases on the spot market. A contract with Siemens Power Corporation provides fuel fabrication services through March 15, 2001, for Kewaunee. This contract contains force majeure and termination provisions. If, for any reason, Kewaunee was forced to suspend operations permanently, fuel-related obligations are as follows: (1) there are no financial penalties associated with the present uranium supply, conversion service, and enrichment agreements, and (2) the fuel fabrication contract contains force majeure and termination provisions. As of the end of 1997, the maximum exposure would not be expected to exceed $550,000. Uranium inventories could be sold on the spot market. DAEC A contract for enrichment services and enriched uranium product was signed with the United States Enrichment Corporation (USEC) in 1995, which has reduced IESU's enrichment and uranium costs. This contract will be effective through 2001 and may extend beyond 2001 if certain conditions occur. Fabrication of the nuclear fuel is being performed by General Electric Company for fuel through the 2008 refueling of the DAEC. IESU believes that an ample supply of uranium and enrichment services will be available in the future and intends to purchase such uranium and enrichment services as necessary on the spot market and/or via medium length (less than five years) contracts to supplement its current contracts and meet its generation requirements. Refer to "Other Matters - Environmental" and "Liquidity and Capital Resources - Capital Requirements" in Item 7. MD&A for a discussion of various other nuclear issues relating to Kewaunee and the DAEC. Power Supply Refer to "Other Matters - Power Supply" in Item 7. MD&A for a discussion of power supply concerns in the State of Wisconsin. Electric Environmental Matters WPLH is regulated in environmental protection matters by a number of federal, state and local agencies. Such regulations are the result of a number of environmental protection laws passed by the U.S. Congress, state legislatures and local governments and enforced by federal, state and county agencies. The laws impacting WPLH's operations include the Clean Water Act; Clean Air Act, as amended by the Clean Air Act Amendments of 1990; National Environmental Policy Act; Resource Conservation and Recovery Act; Comprehensive Environmental Response, Compensation and Liability Act of 1980 (CERCLA), as amended by the Superfund Amendments and Reauthorization Act of 1986; Occupational Safety and Health Act; National Energy Policy Act of 1992 and a number of others. WPLH regularly secures and renews federal, state and local permits to comply with the environmental protection laws and regulations. Costs associated with such compliance have increased in recent years and are expected to increase moderately in the future. Refer to "Other Matters - Environmental" in Item 7. MD&A for a further discussion of electric environmental matters.
WPL Holdings, Inc. 1997 1996 1995 1994 1993 Electric Operating Information (Utility Only) Operating Revenues ('000s): Residential $199,633 $201,690 $199,850 $194,242 $184,176 Commercial 107,132 105,319 102,129 101,382 95,977 Industrial 152,073 143,734 140,562 140,487 132,903 ------- ------- ------- ------- ------- Total from ultimate customers 458,838 450,743 442,541 436,111 413,056 Sales for resale 160,917 131,836 97,350 86,400 78,955 Other 14,388 6,903 6,433 9,236 11,176 ------- ------- ------- ------- ------- Total $634,143 $589,482 $546,324 $531,747 $503,187 ======= ======= ======= ======= ======= Electric Sales ('000s MWH) : Residential 2,974 2,980 2,938 2,777 2,751 Commercial 1,878 1,814 1,773 1,688 1,630 Industrial 4,256 3,986 3,873 3,765 3,540 -------- ------- -------- ------- ------- Total from ultimate customers 9,108 8,780 8,584 8,230 7,921 Sales for resale 5,824 5,246 3,109 2,574 2,388 Other 60 57 54 55 52 ------- ------- ------- ------- ------- Total 14,992 14,083 11,747 10,859 10,361 ======= ======= ======= ======= ======= Customers (End of Period): Residential 343,637 336,933 329,643 322,924 316,870 Commercial 46,823 45,669 44,730 43,793 42,884 Industrial 855 815 795 776 714 Other 1,875 1,820 1,342 1,298 1,275 ------- ------- ------- ------- ------- Total 393,190 385,237 376,510 368,791 361,743 ======= ======= ======= ======= ======= Other Selected Electric Data: System capacity at time of peak demand (MW): Company-owned 2,337 2,300 2,176 2,193 2,019 Firm purchases and sales (net) 145 68 57 40 83 ------- ------- ------- ------- ------- Total 2,482 2,368 2,233 2,233 2,102 ======= ======= ======= ======= ======= Maximum peak hour demand (MW) 2,253 2,124 2,197 2,002 1,971 Sources of electric energy ('000s MWH): Steam 8,587 8,687 8,323 7,821 7,616 Nuclear 970 1,301 1,555 1,625 1,565 Hydroelectric 234 244 222 228 276 Purchases 5,744 4,494 2,227 1,786 1,488 Other 121 59 86 24 6 ------- ------- ------- ------- ------- Total 15,656 14,785 12,413 11,484 10,951 Cooling degree days 369 408 982 637 630 Revenue per KWH from ultimate customers (in cents) 5.04 5.13 5.16 5.30 5.21
GAS OPERATIONS With the advent of Order 636 as promulgated by FERC, the nature of WP&L, IESU and IPC's gas supply portfolios have changed. Order 636, among other things, eliminated the interstate pipelines' obligation to serve and now requires WP&L, IESU and IPC to purchase virtually 100% of their gas supply requirements from non-pipeline suppliers. In addition, Order 636 has enhanced access to competitively-priced gas supply and more flexible transportation services. WP&L General As of December 31, 1997, WP&L provided retail natural gas service to approximately 155,000 customers in 243 cities, villages and towns in 22 counties in southern and central Wisconsin and one county in northern Illinois. Gas operations represented 19.6% of WP&L's total operating revenues and 9.8% of WP&L's total operating income for the year ended December 31, 1997. WP&L's gas sales follow a seasonal pattern. There is an annual base load of gas used for heating, cooking, water heating and other purposes, with a large peak occurring during the heating season. WP&L Gas Supplies Prior to 1995, WP&L passed on its costs incurred from natural gas suppliers and pipeline companies on a dollar-for-dollar basis to its customers. In 1995, the PSCW approved implementation of a performance- based rate mechanism for Wisconsin gas customers. Under this mechanism, fluctuations in the commodity cost of gas above or below a prescribed commodity price index will increase or decrease WP&L's margin on gas sales. Both benefits and exposures are subject to customer sharing provisions. Effective with the UR-110 rate order on April 29, 1997, to the extent WP&L purchases its gas supply below the index price, WP&L will retain 40% of the savings. The balance of the savings is returned to customers. The same sharing mechanism exists for gas that is purchased at a cost above the index price. In providing gas commodity service to retail gas customers, WP&L administers a diversified portfolio of transportation contracts with ANR Pipeline (ANR) and Northern Natural Gas Company (NNG) allowing access to gas supplies from the states of Oklahoma, Louisiana, Texas, and the province of Alberta, Canada. WP&L's transportation contracts provide a maximum daily delivery capability of 242,580 dekatherms (Dth) per day of natural gas as follows: ANR NNG Non-Traditional 122,124 Dth 75,056 Dth 45,400 Dth Two non-traditional arrangements provide WP&L with gas delivered directly to its "city gate" using the vendors' transportation contract with ANR Pipeline. WP&L's contracts also allow access to gas stored in underground storage fields in the states of Michigan, New Mexico and Oklahoma. Gas purchased in the summer and delivered in the winter comprise approximately 24% of WP&L's annual gas requirements. WP&L maintains purchase agreements with over 50 suppliers of natural gas from all gas producing regions of the U.S. and Canada. These include six contracts providing for long-term gas deliveries (i.e., with terms ranging from six months to ten years). These contracts provided 54% of WP&L's annual gas purchases in 1997. In addition to its direct purchase and sales of natural gas, WP&L provided transportation service to 178 customers who purchased their own gas, pursuant to WP&L's transportation tariffs. These customers represent approximately 40% of total gas moved through WP&L's natural gas distribution pipe. Refer to Note 11b of the "Notes to Consolidated Financial Statements" for a discussion of WP&L's long-term purchase gas commitments. IESU Gas Supplies Contracts with the pipelines subsequent to Order 636 are comprised primarily of firm transportation, firm storage and no-notice service. Firm transportation contracts grant IESU access to firm pipeline capacity which is used to transport gas supplies from non-pipeline suppliers on peak day. Firm storage service allows IESU to purchase gas during off- peak periods and place this gas in an account with the pipelines. When the gas is needed for peak day deliveries, IESU requests and the pipelines deliver the gas back on a firm basis. No-notice service grants IESU the right to take more or less gas than is actually scheduled up to the level of no-notice service. No-notice service takes the form of transportation balancing or storage service depending on the pipeline. IESU's portfolio of firm transportation, firm storage and no-notice service from pipelines is as follows: Firm Firm Transportation Storage No-Notice NNG: Volume (Dth/day) 143,996 60,706 10,000 Expiration date 10/31/99 10/31/99 10/31/99 Natural Gas Pipeline Co. of America (NGPL): Volume (Dth/day) 28,605 34,014 996 Expiration date 11/30/2000 11/30/98 11/30/98 ANR: Volume (Dth/day) 60,737 19,180 5,000 Expiration date 10/31/2003 10/31/2003 10/31/2003 Gas supply is purchased from a variety of non-pipeline suppliers located in the United States and Canada having access to virtually all major natural gas producing regions. IESU has firm gas supply agreements with various non-pipeline suppliers. These gas supply agreements have maximum and minimum obligations and will be delivered through gas transmission pipelines as follows: Maximum Minimum Daily Quantity Daily Quantity (Dth/day) (Dth/day) NNG 96,486 73,545 NGPL 38,575 25,575 ANR 25,000 20,000 These gas supply contracts have expiration dates ranging from a few months to almost four years. Rates charged by IESU's suppliers are subject to regulation by the FERC. IESU's tariffs provide for subsequent adjustments to its natural gas rates for changes in the cost of natural gas purchased for resale. IPC Gas Supplies IPC purchases pipeline transportation capacity from NNG, NGPL and Northern Border Pipeline Company (NBPL). During 1997, IPC purchased gas from non- traditional suppliers, i.e. producers, brokers and marketers, at market responsive rates. Order 636 unbundled pipeline supply from its capacity. Subsequent to Order 636, FERC continues to approve the tariffs of NNG and NGPL, but only with regard to capacity and storage rates, subject to change as rate cases are filed. Gas for IPC's Mason City, Albert Lea and Savanna service areas is transported by NNG under capacity contracts for 36,338 Dth per day, and for an additional 15,657 Dth in the November to March time frame. The majority, 26,999 Dth, of the above capacities is from the producing areas of Oklahoma and Texas, etc. These contracts expire in October 1999. Gas is supplied by producers, marketers and brokers, as well as from storage services, to meet the peak heating season requirements. Gas for IPC's Clinton service area is transported by NGPL under capacity contracts for 17,750 Dth annually, with expiration dates of November 30, 1998, February 28, 1999, and two as of November 30, 2001. This gas is supplied by producers, marketers and brokers. IPC supplements this capacity with storage gas, which has the pipeline capacity embedded in its FERC approved rate. IPC owns propane-air mix gas plants in Albert Lea, Minnesota and Clinton and Mason City, Iowa. The daily output capacities are: 5,000 Dth, 4,000 Dth and 9,600 Dth, respectively. IPC's tariffs provide for subsequent adjustments to its natural gas rates for changes in the cost of natural gas purchased for resale. Gas Environmental Matters Refer to "Other Matters - Environmental" in Item 7. MD&A for a discussion of gas environmental matters as well as Item 3. "Legal Proceedings" for additional information related to manufactured gas plant (MGP) sites.
WPL Holdings, Inc. 1997 1996 1995 1994 1993 Gas Operating Information (Utility Only) Operating Revenues ('000s): Residential $84,513 $90,382 $70,382 $71,555 $71,632 Commercial 45,456 46,703 35,411 38,516 37,993 Industrial 8,378 11,410 17,984 22,629 23,196 Transportation and other 17,536 17,132 15,388 6,946 4,449 ------- ------- ------- ------- ------- Total $155,883 $165,627 $139,165 $139,646 $137,270 ======= ======= ======= ======= ======= Gas Sales ('000s Dekatherms): Residential 12,770 14,297 12,690 11,956 12,001 Commercial 8,592 9,167 8,245 8,128 7,994 Industrial 1,714 1,997 2,144 3,113 3,497 Transportation and other 17,595 18,567 16,870 9,279 8,487 ------- ------- ------- ------- ------- Total 40,671 44,028 39,949 32,476 31,979 ======= ======= ======= ======= ======= Customers at End of Period (Excluding Transportation and Other): Residential 137,827 133,580 129,576 124,938 120,829 Commercial 16,653 16,083 15,724 15,270 14,826 Industrial 488 529 566 561 549 ------- ------- ------- ------- ------- Total 154,968 150,192 145,866 140,769 136,204 ======= ======= ======= ======= ======= Other Selected Gas Data: Heating degree days 7,350 8,124 7,431 7,170 7,351 Revenue per dekatherm sold (excluding transportation and other) $6.00 $5.83 $5.36 $5.72 $5.65 Purchased gas costs per dekatherm sold (excluding transportation and other) $4.30 $4.12 $3.64 $3.82 $3.85
D. INFORMATION RELATING TO NONREGULATED OPERATIONS A description of HDC's businesses at December 31, 1997 is as follows: Environmental and Engineering Consulting Heartland Environmental Holding Company (HEHC), a wholly-owned subsidiary of HDC, is the holding company for HDC's environmental and engineering services activities. HEHC's primary subsidiary is RMT, Inc. (RMT). RMT is a Madison, Wisconsin based environmental and engineering consulting company that serves clients nationwide in a variety of industrial market segments. The most significant of these markets are chemical companies, pulp and paper processors, oil and gas providers, foundries and other manufacturers. RMT specializes in solid and hazardous waste management, ground water quality protection, industrial design and hygiene engineering, and air and water pollution control. Affordable Housing Formed by HDC in 1988, Heartland Properties, Inc. (HPI) is responsible for performing asset management, facilitating the development of and financing high quality, affordable housing in Wisconsin and the Midwest. HPI has a majority ownership interest in 60 such properties. As of December 31, 1997, HPI's investment in affordable housing properties was $100 million, net of depreciation. To facilitate HPI's development and financing efforts in the affordable housing market, HDC incorporated Capital Square Financial Corporation in 1992 to provide mortgage banking services. Heartland Capital Company LLC, which was formed in 1994 to provide construction financing services, was liquidated during 1997. Energy Services Heartland Energy Group, Inc (HEG) was formed in 1995 as the parent company for HDC's energy services businesses. The two most significant components of HEG prior to 1997 were Heartland Energy Services, Inc. (HES) and ENSERV, Inc. HES, formed in 1993, provided energy supplies to industrial and wholesale customers. Beginning in 1994, HES actively bought and sold natural gas. In January 1997, HES's natural gas business was combined in a joint venture with Industrial Energy Applications, Inc. (IEA), the energy marketing subsidiary of IES. HES received federal marketing authority for electricity in September 1994. HES continued to buy and sell electricity through 1997. In July 1997, WPLH announced a joint venture with Cargill Incorporated to market electricity and risk management services to wholesale buyers. This joint venture, in which the Merged Company has a 50% ownership interest, is named Cargill-Alliant. HES's electricity business was part of WPLH's initial capital contribution to the joint venture. ENSERV offered turnkey project development and implementation for customer energy supply initiatives. In January 1997, ENSERV was part of HDC's contribution to the joint venture with IEA. In the event the Merger is consummated, the nonregulated businesses of IES, for which Diversified is the parent corporation, will become part of the Merged Company. A description of Diversified's businesses at December 31, 1997 is as follows: IES Transportation is a holding company whose wholly-owned subsidiaries at December 31, 1997, included the Cedar Rapids and Iowa City Railway Company (CRANDIC) and IES Transfer Services Inc. (Transfer). CRANDIC is a short-line railway which renders freight service between Cedar Rapids and Iowa City. Transfer's operations include transloading and storage services. IES Transportation also has a 75% equity investment in IEI Barge Services, Inc. (Barge) which provides barge terminal and hauling service on the Mississippi River. In addition, IES Transportation has investments in two Iowa railroad companies. IES Energy is a holding company whose wholly-owned subsidiaries at December 31, 1997, included IEA and Whiting Petroleum Corporation (Whiting). IEA offers commodities-based and facilities-based energy services for customers, including supplying natural gas and electricity, standby generation, cogeneration, steam production and propane air systems. Whiting is organized to purchase, develop and produce crude oil and natural gas. IES Investments is a holding company whose primary wholly-owned subsidiaries at December 31, 1997, included Iowa Land and Building Company (Iowa Land), IES Investco Inc. (Investco) and Village Lakeshares, Inc. (Lakeshares). Iowa Land is organized to pursue real estate and economic development activities in Utilities' service territory. Investco is a holding company for certain equity investments. Lakeshares is a holding company for resort properties in Iowa. IES Investments also has direct and indirect equity interests in various real estate ventures, primarily concentrated in Cedar Rapids, and holds other passive investments. At December 31, 1997, IES Investments held an investment in the stock of McLeodUSA Inc. (McLeod), a telecommunications company, valued at $327 million (as compared to a cost basis of $29 million). Pursuant to the applicable accounting rules, the carrying value of the investment is adjusted to the estimated fair value each quarter based on the closing price at the end of the quarter. The adjustment does not impact earnings as the unrealized gain or loss, net of taxes, is recorded directly to the common equity section of the balance sheet. In addition, any such gain or loss is reflected in current earnings only at the time it is realized through a sale. IES Investments has entered into an agreement with McLeod which restricts the sale or disposal of its shares without the consent of the McLeod Board of Directors until September 1998. IES International is a holding company whose wholly-owned subsidiaries are IES New Zealand Limited (IES New Zealand), Interstate Energy Corporation Pte Ltd. (IECP) and IES Brazil Inc. IES New Zealand has equity investments in two New Zealand electric distribution entities. IECP has a 50% equity investment in two individual cogeneration facilities in China: JIES Heat and Power Ltd. and TIES Heat and Power Ltd. None of the investments under IES International are consolidated, therefore IES International has no operating revenues. IES Brazil Inc. has been formed for the purposes of potential future investments in Brazil. IES Investments also has several investments in foreign entities, including a loan to a New Zealand company and an investment in an international venture capital fund. These investments are considered international investments for management purposes. Refer to "Other Matters - Environmental" in Item 7. MD&A for a discussion of an environmental matter at Whiting. ITEM 2. PROPERTIES WP&L WP&L's principal electric generating stations at December 31, 1997, were as follows:
Name and Location Major Fuel 1997 Summer Capability of Station Type in Kilowatts Kewaunee Nuclear Power Plant, Kewaunee, WI Nuclear 211,200 (1) Rock River Generating Station, Janesville, WI Coal 161,000 Nelson Dewey Generating Station, Cassville, WI Coal 226,000 Edgewater Generating Station #3, Sheboygan, WI Coal 74,000 Edgewater Generating Station #4, Sheboygan, WI Coal 233,200 (2) Edgewater Generating Station #5, Sheboygan, WI Coal 301,500 (3) Columbia Energy Center, Portage, WI Coal 485,100 (4) -------- Total Coal 1,480,800 Blackhawk Generating Station, Beloit, WI Gas 60,000 Rock River Combustion Turbine, Janesville, WI Gas and Oil 151,400 South Fond du Lac Combustion Turbine Units 2 and 3, Fond du Lac, WI Gas and Oil 169,700 Sheepskin Combustion Turbine, Edgerton, WI Gas and Oil 36,700 ------- Total Gas and Oil 417,800 Kilbourn Hydro Plant, Wisconsin Dells, WI Hydro 9,500 Prairie du Sac Hydro Plant, Prairie du Sac, WI Hydro 30,000 Petenwell/Castle Rock Hydro Plants, Wisconsin Rapids, WI Hydro 13,300 (5) 4 small units at various locations Hydro 2,070 -------- Total Hydro 54,870 --------- Total generating capability 2,164,670 ========= (1) Represents WP&L's 41% ownership interest in this 515,000 Kw generating station. The plant is operated by WPSC. (2) Represents WP&L's 68.2% ownership interest in this 342,000 Kw generating station. The plant is operated by WP&L. (3) Represents WP&L's 75% ownership interest in this 402,000 Kw generating station. The plant is operated by WP&L. (4) Represents WP&L's 46.2% ownership interest in this 1,050,000 Kw generating station. The plant is operated by WP&L. (5) Represents WP&L's 33.3% ownership interest in this 40,000 Kw hydro plant. The plant is operated by Wisconsin River Power Company.
WP&L owns 2,701 miles of electric transmission lines and 362 substations located adjacent to the communities served. Substantially all of WP&L's facilities are subject to the lien of its first mortgage bond indenture. IESU IESU's principal electric generating stations at December 31, 1997, were as follows:
Name and Location Major Fuel 1997 Summer Capability of Station Type in Kilowatts Duane Arnold Energy Center, Palo, Iowa Nuclear 364,000 (1) Ottumwa Generating Station, Ottumwa, Iowa Coal 343,440 (2) Prairie Creek Station, Cedar Rapids, Iowa Coal 207,750 Sutherland Station, Marshalltown, Iowa Coal 143,000 Sixth Street Station, Cedar Rapids, Iowa Coal 65,000 Burlington Generating Station, Burlington, Iowa Coal 211,800 George Neal Unit 3, Sioux City, Iowa Coal 144,200 (3) ------- Total Coal 1,115,190 Peaking Turbines, Marshalltown, Iowa Oil 159,600 Centerville Combustion Turbines, Centerville, Iowa Oil 49,400 Diesel Stations, all in Iowa Oil 8,300 ------- Total Oil 217,300 Grinnell Station, Grinnell, Iowa Gas 46,400 Agency Street Combustion Turbines, West Burlington, Iowa Gas 58,400 Burlington Combustion Turbines, Burlington, Iowa Gas 57,000 Red Cedar Combustion Turbine, Cedar Rapids, IA Gas 18,800 ------- Total Gas 180,600 --------- Total generating capability 1,877,090 ========= (1) Represents IESU's 70% ownership interest in this 520,000 Kw generating station. The plant is operated by IESU. (2) Represents IESU's 48% ownership interest in this 715,500 Kw generating station. The plant is operated by IESU. (3) Represents IESU's 28% ownership interest in this 515,000 Kw generating station which is operated by an unaffiliated utility.
At December 31, 1997, the transmission lines of IESU, operating from 34,000 to 345,000 volts, approximated 4,440 circuit miles (substantially all located in Iowa). IESU owned 579 substations (substantially all located in Iowa). IESU's principal properties are suitable for their intended use and are held subject to liens of indentures relating to its bonds. IPC IPC's principal electric generating stations at December 31, 1997, were as follows:
Name and Location Major Fuel 1997 Summer Capability of Station Type in Kilowatts Dubuque Units 2, 3 and 4, Dubuque, IA Coal 78,000 M. L. Kapp Plant Units 1 and 2, Clinton, IA Coal 235,000 Lansing Units 1, 2, 3 and 4, Lansing, IA Coal 320,000 Fox Lake Plant Units 1, 2 and 3, Sherburn, MN Coal 108,000 George Neal Unit 4, Sioux City, IA Coal 134,300 (1) Louisa Unit 1, Louisa, IA Coal 28,000 (2) ------- Total Coal 903,300 Montgomery Unit 1, Montgomery, MN Gas 22,200 Fox Lake Plant Unit 4, Sherburn, MN Gas 21,300 Lime Creek Plant Units 1 and 2, Mason City, IA Gas 70,000 ------- Total Gas 113,500 Dubuque Units 1 and 2, Dubuque, IA Oil 4,600 Hills Units 1 and 2, Hills, MN Oil 4,000 Lansing Units 1 and 2, Lansing, IA Oil 2,000 New Albin Unit 1, New Albin, IA Oil 700 ------- Total Oil 11,300 --------- Total generating capability 1,028,100 ========= (1) Represents IPC's 21.5% ownership interest in this 640,000 Kw generating station. The plant is operated by MidAmerican Energy Company. (2) Represents IPC's 4% ownership interest in this 738,000 Kw generating station. The plant is operated by MidAmerican Energy Company.
IPC owns 2,545 miles of electric transmission lines and 224 substations located in Iowa, Illinois and Minnesota. Substantially all of IPC's facilities are subject to the lien of its bond indenture securing IPC's outstanding first mortgage bonds. HDC The following table gives information as of December 31, 1997 with respect to rental properties associated with HDC's affordable housing project developments, through its HPI subsidiary. Location Housing Development Resident Type Property: Antigo, WI The Depot Families Appleton, WI Lincoln Mills Families/Elderly Appelton, WI Ravine Mills Families/Elderly Appelton, WI The Mills II Families/Elderly Beloit, WI Beloit Water Tower Place Families Chisholm, MN Lincoln Square Families DePere, WI Lawton Foundry Families Madison, WI The Avenue Disabled/Families Marinett, WI Dunlap Square Families/Elderly Marshfield, WI The Woodlands Families/Elderly Mc Farland, WI The Cottages Families/Elderly Sheboygan Falls,WI Brickner Woolen Mills Families/Elderly Sheboygan, WI Jung Apartments Families Sheboygan, WI Sunnyside Townhouses Families Sun Prairie, WI Vandenburg Heights Families Verona, WI Sugar Creek Senior Housing Elderly Madison, WI YWCA Women & Homeless Various Other Families, Elderly, Singles, Disabled & Homeless Occupancy rates in the 60 properties/investments owned by HPI averaged 91% during 1997. HPI also maintains a minor equity ownership in development properties where the majority interest was subsequently sold to outside investors. This equity ownership is not considered material in relation to WPLH's consolidated financial statements. HPI remains contingently liable for minimum property financial performance guarantees for a period of time on many of the properties sold. Those contingent obligations have been accrued for or are otherwise not considered likely to have a material effect on WPLH's consolidated financial statements. Diversified Diversified also owns property which primarily represents investments in transportation, energy-related, telecommunications and real estate properties. ITEM 3. LEGAL PROCEEDINGS WP&L On July 20, 1995, the City of Beloit (Beloit) filed a suit against WP&L in the Circuit Court of Rock County, Wisconsin alleging that, based on negligence, nuisance and trespass, WP&L caused damage to Beloit through the contamination of property owned by Beloit as a result of the historical operation of manufactured gas plants on the property prior to Beloit's acquisition of the property. The suit seeks damages equal to the cost of cleaning up the property, for decrease in the value of the property, and to compensate Beloit for lost development opportunities for the property as well as consequential damages and costs of the action. Beloit and WP&L entered into a settlement agreement whereby WP&L will pay $3.3 million of the expected $3.8 million cost of remediating the property. Costs in excess of $3.8 million will be split between WP&L and Beloit on a 90%/10% basis with WP&L paying the 90%. WP&L currently believes that these costs will be recoverable in rates. In addition, WP&L intends to seek to recover the payment from insurers. In management's judgment, the probability is remote that this action will have a material adverse impact on WPLH's financial condition. IES On April 30, 1996, IESU filed suit, IES Utilities Inc. v. Home Ins. Co., et al., No. 4-96-CV-10343 (S.D. Iowa filed Apr. 30, 1996), against various insurers who had sold comprehensive general liability policies to Iowa Southern Utilities Company (ISU) and Iowa Electric Light and Power Company (IE) (IESU was formed as the result of a merger of ISU and IE). The suit seeks judicial determination of the respective rights of the parties, a judgment that each defendant is obligated under its respective insurance policies to pay in full all sums that IESU has become or may become obligated to pay in connection with its defense against allegations of liability for property damage at and around MGP sites, and indemnification for all sums that it has or may become obligated to pay for the investigation, mitigation, prevention, remediation and monitoring of environmental impacts to property, including natural resources like groundwater, at and around the MGP sites. Settlement discussions are proceeding between IESU and its insurance carriers regarding the recovery of these MGP-related costs. Settlement has been reached with sixteen carriers thus far. Any amounts received from insurance carriers are being deferred pending a determination of the regulatory treatment of such recoveries. IES, Diversified, IES Energy, MicroFuel Corporation (the Corporation) now known as Ely, Inc. in which IES Energy has a 69.40% equity ownership, and other parties have been sued in Linn County District Court in Cedar Rapids, Iowa, by Allen C. Wiley. Mr. Wiley claims money damages on various tort and contract theories arising out of the 1992 sale of the assets of the Corporation, of which Mr. Wiley was a director and shareholder. All of the defendants in Mr. Wiley's suit answered the complaint and denied liability. IES and Diversified were dismissed from the suit in a motion for summary judgment. In addition, a grant of summary judgment has reduced Mr. Wiley's claims against the remaining parties to breach of fiduciary duty. A separate motion for summary judgment, which was filed seeking dismissal of the remaining claims against the remaining parties, was overruled on September 20, 1996, and the trial has been set for May 1998. All of the defendants are vigorously contesting the claims. The Corporation commenced a separate suit to determine the fair value of Mr. Wiley's shares under Iowa Code section 490. A decision was issued on August 31, 1994, by the Linn County District Court ruling that the value of Mr. Wiley's shares was $377,600 based on a 40 cents per share valuation. The Corporation contended that the value of Mr. Wiley's shares was 2.5 cents per share. The Decision was appealed to the Iowa Supreme Court by the Corporation on a number of issues, including the Corporation's position that the trial court erred as a matter of law in discounting the testimony of the Corporation's expert witness. The Iowa Supreme Court assigned the case to the Iowa Court of Appeals. On February 2, 1996, the Iowa Court of Appeals reversed the District Court ruling after determining the District Court erred in discounting the expert testimony. The case was remanded back to the District Court for consideration of the expert testimony, but with no additional evidence taken. The District Court re-affirmed its original decision on August 28, 1996, and the Corporation has again appealed to the Iowa Supreme Court. The case has been reassigned to the Iowa Court of Appeals without oral argument. On October 3, 1996, Lambda Energy Marketing Company, L. C. (Lambda) filed a request with the IUB that the IUB initiate formal complaint proceedings against IESU. Lambda alleged that IESU was discriminating against it by refusing to enter into contracts with it for remote displacement service and by favoring IEA, a subsidiary of IES, in such matters. On October 17, 1996, IESU filed a Response which denied the allegations, and alleged, inter alia, that Lambda was unlawfully attempting to provide retail electrical services in IESU's exclusive service territory. On August 25, 1997, the IUB issued its Final Decision and Order rejecting Lambda's complaint. On October 10, 1997, the IUB issued its rehearing order which again rejected Lambda's complaint. On October 9, 1996, the IES filed a civil suit in the Iowa District Court in and for Linn County against Lambda, Robert Latham, Louie Ervin, and David Charles (three former employees of IES and/or its subsidiaries), collectively the "Defendants", alleging, inter alia, violations of Iowa's trade secret act and interference with existing and prospective business advantage. On November 1, 1996, the Defendants filed their Answer and Counterclaims alleging, inter alia, violation of Iowa competition law, tortious interference and commercial disparagement. The Defendants therewith also filed a Third-Party Petition against IESU, IEA and Lee Liu, Chairman of the Board & Chief Executive Officer of IES and IESU, alleging, inter alia, tortious interference and commercial disparagement. IPC There are no material pending legal proceedings, or proceedings known to be contemplated by governmental authorities, other than ordinary routine litigation incidental to the business, to which IPC is a party or of which any of IPC's property is the subject. Environmental Matters The information required by Item 3 is included in this Annual Report on Form 10-K under Item 8. "Notes to Consolidated Financial Statements," Note 11c and "Other Matters - Environmental" in Item 7. MD&A. Rate Matters The information required by Item 3 is included in "Liquidity and Capital Resources - Rates and Regulatory Matters" in Item 7. MD&A. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS WPLH's Common Stock trades on the New York Stock Exchange. Quarterly Price Ranges and Dividends with respect to the Common Stock were as follows:
1997 1996 Quarter High Low Dividend High Low Dividend First $28 7/8 $27 3/8 $0.50 $32 $29 7/8 $0.4925 Second 28 1/4 26 3/4 0.50 32 7/8 28 5/8 0.4925 Third 29 27 0.50 32 7/8 28 7/8 0.4925 Fourth 34 7/16 28 3/8 0.50 29 5/8 27 1/2 0.4925 Year $34 7/16 $26 3/4 $2.00 $32 7/8 $27 1/2 $1.97
Stock price at December 31, 1997: $33 1/8 At December 31, 1997, there were approximately 35,677 holders of record of WPLH's stock including underlying holders in WPLH's Shareowner Direct Plan. WPLH is the sole common shareowner of all 13,236,601 shares of WP&L Common Stock currently outstanding. Cash dividends paid per share of WP&L's Common Stock during 1997 and 1996 to WPLH were $4.41 and $4.99, respectively. In the retail rate order effective April 29, 1997, the PSCW ordered that it must approve the payment of dividends by WP&L to its parent company that are in excess of the level forecasted in the rate order ($58.3 million), if such dividends would reduce WP&L's average common equity ratio below 52.00% of total capitalization. Based on a 13-month average for 1997, WP&L's common equity ratio was 52.56%. In accordance with the terms of the Merger (refer to Item 1. "Business - Merger" above), WPLH is not permitted to declare or pay any dividends on any of its capital stock other than the obligations that exist with respect to WP&L's Cumulative Preferred Stock, and regular quarterly dividends on WPLH's Common Stock may not exceed 105% of the common stock dividends from the prior year.
ITEM 6. SELECTED FINANCIAL DATA WPL Holdings, Inc. 1997 1996 1995 1994 1993 Financial Information (Dollars in thousands except for per share data) Income Statement Data: Operating revenues $919,255 $932,844 $807,255 $795,717 $738,604 Operating expenses 790,648 789,794 660,702 666,537 610,660 Operating income 128,607 143,050 146,553 129,180 127,944 Income from continuing operations 61,254 73,205 71,618 66,424 63,685 Discontinued operations - (1,297) (13,186) (1,174) (1,162) Net income 61,254 71,908 58,432 65,250 62,523 -------- ------- -------- -------- --------- Common Stock Data: Weighted average common shares outstanding ('000s) 30,782 30,790 30,774 30,671 29,681 Return on average common equity 10.1% 11.9% 9.8% 11.1% 11.7% Per Share Data: Income from continuing operations $1.99 $2.38 $2.33 $2.17 $2.15 Discontinued operations - ($0.04) ($0.43) ($0.04) ($0.04) Earnings per average common share (basic and diluted) $1.99 $2.34 $1.90 $2.13 $2.11 Dividends declared per common share $2.00 $1.97 $1.94 $1.92 $1.90 Book value at year-end $19.73 $19.73 $19.41 $19.43 $19.15 Market value at year-end $33.13 $28.13 $30.63 $27.38 $32.88 ------- ------ ------- ------- ------- Other Selected Financial Data: Construction and acquisition expenditures $129,833 $144,205 $129,698 $144,072 $171,134 Total assets at year-end $1,861,807 $1,900,531 $1,872,414 $1,805,901 $1,761,899 Long-term obligations, net $526,023 $487,165 $490,734 $507,917 $482,862 Times interest earned before income taxes 3.19X 3.82X 3.55X 3.81X 3.45X Capitalization Ratios: Common stock 54% 59% 55% 54% 54% Preferred and preference stock 5% 6% 5% 5% 6% Long-term debt 41% 35% 40% 41% 40% ------ ------ ------ ------ ------- Total 100% 100% 100% 100% 100% ====== ====== ====== ====== =======
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (MD&A) MERGER WPL Holdings, Inc. (WPLH), IES Industries Inc. (IES) and Interstate Power Company (IPC) are in the process of completing a three-way merger (Merger) forming Interstate Energy Corporation (Merged Company). In connection with the Merger, IES will be merged with and into WPLH forming the Merged Company and IPC will become a subsidiary of the Merged Company. In addition, following the Merger, the holding companies for the nonregulated businesses of the former WPLH and IES (Heartland Development Corporation (HDC) and IES Diversified Inc. (Diversified), respectively) will be merged into each other. The resulting company from this merger is referred to as New Diversified. As a result of the Merger, the first tier subsidiaries of the Merged Company will include: Wisconsin Power & Light Company (WP&L), IES Utilities Inc. (IESU), IPC, New Diversified and Alliant Services Company (the subsidiary formed to provide administrative services as required under the Public Utility Holding Company Act of 1935). Among various other regulatory constraints, the Merged Company will operate as a registered public utility holding company subject to the limitations imposed by the Public Utility Holding Company Act of 1935. For additional information regarding the terms of the Merger, see Note 2 of the "Notes to Consolidated Financial Statements" of WPLH included elsewhere in this Annual Report on Form 10-K. The merger partners currently anticipate cost savings resulting from the Merger of approximately $749 million over a ten-year period, net of transaction costs and costs to achieve the savings of approximately $78 million. Approximately $22 million of these costs had been incurred through December 31, 1997. Upon consummation of the Merger, the merger partners estimate the Merged Company will expense approximately $40 million of additional merger-related costs (e.g., required payments to or for financial advisors, employee retirements and separations, attorneys, accountants, etc.). The estimate of potential cost savings constitutes a forward-looking statement and actual results may differ materially from this estimate. The estimate is necessarily based upon various assumptions that involve judgments with respect to, among other things, future national and regional economic and competitive conditions, technological developments, inflation rates, regulatory treatments, weather conditions, financial market conditions, future business decisions and other uncertainties. No assurance can be given that the entire amount of estimated cost savings will actually be realized. In addition, the allocation between WPLH, IES and IPC and their customers of the estimated cost savings of approximately $749 million over ten years resulting from the Merger, net of costs incurred to achieve such savings, will be subject to regulatory review and approval. As part of the approval process for the Merger, the Merged Company has agreed to various rate freezes and rate caps to be implemented in certain jurisdictions for periods not to exceed four years commencing on the effective date of the Merger (see "Liquidity and Capital Resources - Rates and Regulatory Matters" for a further discussion). Assuming capture of the anticipated merger-related synergies and no significant legislative or regulatory changes affecting the Merged Company, the Merged Company does not expect the merger-related electric and natural gas price freezes to have a material adverse effect on its financial position or results of operations. Given that management believes the Merger will be consummated in the second quarter of 1998, additional information has been included below regarding WPLH's merger partners, IES and IPC. The information regarding IES and IPC as well as the Merged Company is generally prospective in nature and has been included to enhance the reader's understanding of the Merged Company. FORWARD-LOOKING STATEMENTS Statements contained in this Annual Report on Form 10-K (including MD&A) that are not of historical fact are forward-looking statements intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. From time to time, WPLH may make other forward-looking statements within the meaning of the federal securities laws that involve judgments, assumptions and other uncertainties beyond the control of WPLH. These forward-looking statements may include, among others, statements concerning revenue and cost trends, cost recovery, cost reduction strategies and anticipated outcomes, pricing strategies, changes in the utility industry, planned capital expenditures, financing needs and availability, statements of WPLH's expectations, beliefs, future plans and strategies, anticipated events or trends and similar comments concerning matters that are not historical facts. Investors and other users of the forward-looking statements are cautioned that such statements are not a guarantee of future performance of WPLH and that such forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those expressed in, or implied by, such statements. Some, but not all, of the risks and uncertainties include weather effects on sales and revenues, competitive factors, general economic conditions in WPLH's service territory, federal and state regulatory or government actions, the operations of WPLH's nuclear facilities, the potential that the Merger will not be consummated, the ability of the parties to successfully integrate the operations of WPLH, IES and IPC assuming the Merger is consummated and changes in the rate of inflation. UTILITY INDUSTRY OUTLOOK The merger partners compete in an ever-changing utility industry. Set forth below is an overview of this evolving marketplace. Electric energy generation, transmission, and distribution are in a period of fundamental change in the manner in which customers obtain, and energy suppliers provide, energy services. As legislative, regulatory, economic and technological changes occur, electric utilities are faced with increasing pressure to become more competitive. Such competitive pressures could result in loss of customers and an incurrence of stranded costs (i.e., assets and other costs rendered unrecoverable as the result of competitive pricing). To the extent stranded costs cannot be recovered from customers, they would be borne by security holders. On a combined basis, the merger partners realized 54%, 41%, 3% and 2% of their electric utility revenues in 1997 in Iowa, Wisconsin, Minnesota and Illinois, respectively. Approximately 87% of the electric revenues were regulated by the respective state commissions while the other 13% were regulated by the Federal Energy Regulatory Commission (FERC). On a combined basis, the merger partners realized 56%, 38%, 3% and 3% of their gas utility revenues in Iowa, Wisconsin, Minnesota and Illinois, respectively. Federal Regulation IESU, IPC and WP&L are all subject to regulation by the FERC. The National Energy Policy Act of 1992 addresses several matters designed to promote competition in the electric wholesale power generation market. In 1996, the FERC issued final rules (FERC Orders 888 and 889) requiring electric utilities to open their transmission lines to other wholesale buyers and sellers of electricity. In March 1997, FERC issued orders on rehearing for Orders 888 and 889 (Orders 888-A and 889-A). In response to FERC Orders 888 and 888-A, IESU, WP&L and IPC have on file with the FERC pro forma open access transmission tariffs. In response to FERC Orders 889 and 889-A, each of the three utility subsidiaries is participating in a regional Open Access Same-Time Information System. The utility subsidiaries cannot predict the long-term consequences of these rules on their results of operations or financial condition. FERC Order 888 permits utilities to seek recovery of legitimate, prudent and verifiable stranded costs associated with providing open access and transmission services. FERC does not have jurisdiction over retail distribution and, consequently, the final FERC rules do not provide for the recovery of stranded costs resulting from retail competition. The various states retain jurisdiction over the question of whether to permit retail competition, the terms of such retail competition, and the recovery of any portion of stranded costs that are ultimately determined to have resulted from retail competition. State Regulation Iowa IESU and IPC are subject to regulation by the Iowa Utilities Board (IUB). The IUB initiated a Notice of Inquiry (Docket No. NOI-95-1) in early 1995 on the subject of "Emerging Competition in the Electric Utility Industry" to address all forms of competition in the electric utility industry and to gather information and perspectives on electric competition from all persons or entities with an interest or stake in the issues. The IUB staff's report in this docket was accepted by the IUB, finding, in part, that there is no compelling reason to move quickly into restructuring the electric utility industry in Iowa, based upon the existing level of relative prices. However, the IUB is continuing the analysis and debate on restructuring and retail competition in Iowa. On August 18, 1997, the IUB issued an order that promulgated draft principles for an Independent System Operator (ISO) and invited public comment. On September 10, 1997, the IUB issued an order adopting an "Action Plan to Develop a Competitive Model for the Electric Industry in Iowa." The IUB states in this action plan that while "the IUB has not determined retail competition in the electric industry is in the best interests of Iowa's consumers...", the State of Iowa is likely to be affected by federal or neighboring states' actions so there is a need for the IUB to design a model that suits Iowa's needs. The priority concerns in the plan are public interest issues (an Iowa-specific pilot project, customer information and assessment, environmental impacts, public benefits and transition costs/benefits) and transmission-related issues (transmission and distribution system reliability and transmission system operations). There is no timetable in the action plan. On October 2, 1997, the IUB staff sent to the advisory group (of which IESU and IPC are members) for written comment a set of proposed guidelines for an Iowa- specific electric pilot project that would allow retail access to a "subset of all customer classes." IESU has indicated to the IUB its interest in pursuing such a pilot program. The IUB has also issued an order covering unbundling of natural gas rates for all Iowa customers to be effective in 1999. Wisconsin WP&L is subject to regulation by the Public Service Commission of Wisconsin (PSCW). The PSCW's inquiries into the future structure of the natural gas and electric utility industries are ongoing. The stated goal of the PSCW in the natural gas docket is "to accommodate competition but not create it." The PSCW has followed a measured approach to restructuring the natural gas industry in Wisconsin. The PSCW has determined that customer classes will be deregulated (i.e., the gas utility would no longer have an obligation to procure gas commodity for customers, but would still have a delivery obligation) in a step-wise manner, after each class has been demonstrated to have a sufficient number of gas suppliers available. In 1997, a number of working groups were established by the PSCW and these working groups are addressing numerous subjects which need to be resolved before deregulation may proceed. The short-term goals of the electric restructuring process are to ensure reliability of the state's electric system and development of a robust wholesale electric market. The longer-term goal is to establish prerequisite safeguards to protect customers prior to allowing retail customer choice. The PSCW is following a timetable to make this latter determination on allowing customer choice in 1999-2000. On September 26, 1996, the PSCW issued an order which establishes the minimum standards for a Wisconsin ISO. The standards will be applied by the PSCW in Advance Plan proceedings, merger review cases, transmission construction cases and other proceedings as appropriate. The order provides that the standards will be reviewed and revised as necessary in light of ongoing regional and national events, such as FERC requirements or policy, regional institutions, or relevant actions of neighboring states. In approving the Merger, the PSCW gave the merger partners a choice of either filing their own ISO proposal, giving notice of their intent to join a regional ISO or spinning off existing transmission assets and operations into a separate independent transmission company. IESU, IPC and WP&L developed an ISO proposal of their own. However, the PSCW did not believe it met the PSCW's ISO guidelines. IESU, IPC and WP&L subsequently asked the PSCW to permit them to join the Midwest ISO, a regional ISO that has been filed with FERC. The member companies of the ISO would retain ownership of the facilities, but the ISO would assume control of the facilities, set rates for access and assure fair treatment for all companies seeking access. Various other proposals for ISOs, which are being monitored by the merger partners, have been proposed by other entities. In addition to the ISO proceedings, the PSCW has issued an order outlining its policies and principles for Public Benefits (low-income assistance, energy efficiency, renewable generation and environmental research and development) including funding levels, administration of the funds and how funds should be collected from customers. The PSCW has proposed increasing funding levels through utility rates by $50 to $75 million statewide. Legislation to implement this proposal is being developed and likely will be introduced in 1998. The PSCW has also initiated a Service Quality administrative rulemaking process to establish measurement and reporting requirements for reliability of service, call center answering times, safety, tree trimming, generation, transmission and distribution inspection and maintenance plans, etc. A hearing was held on these issues in March 1998. Minnesota IPC is subject to regulation by the Minnesota Public Utilities Commission (MPUC). The MPUC established an Electric Competition Working Group in April 1995. On October 28, 1997, the Working Group issued a report and recommendations on retail competition. The MPUC reviewed the report and directed its staff to develop an electric utility restructuring plan and timeline. The Minnesota legislature had established a joint legislative task force on electric utility restructuring in 1995. This joint task force has generally been inactive the past year. It appears the earliest restructuring legislation could be introduced is in 1999. Illinois IPC and WP&L are subject to regulation by the Illinois Commerce Commission. The State of Illinois has passed electric deregulation legislation requiring customer choice of electric supplier for all customers by May 1, 2002. Summary Each of the utilities complies with the provisions of Statement of Financial Accounting Standards No. 71 (SFAS 71) "Accounting for the Effects of Certain Types of Regulation." SFAS 71 provides that rate- regulated public utilities record certain costs and credits allowed in the ratemaking process in different periods than for nonregulated entities. These are deferred as regulatory assets or regulatory liabilities and are recognized in the consolidated statements of income at the time they are reflected in rates. If a portion of the utility subsidiaries' operations becomes no longer subject to the provisions of SFAS 71 as a result of competitive restructurings or otherwise, a write-down of related regulatory assets and possibly other charges would be required, unless some form of transition cost recovery is established by the appropriate regulatory body that would meet the requirements under generally accepted accounting principles for continued accounting as regulatory assets during such recovery period. In addition, each utility subsidiary would be required to determine any impairment of other assets and write-down any impaired assets to their fair value. The utility subsidiaries believe they meet the requirements of SFAS 71. IESU, IPC and WP&L cannot currently predict the long-term consequences of the competitive and restructuring issues described above on their results of operations or financial condition. The major objective is to allow the utilities to better prepare for a competitive, deregulated utility industry. The strategy for dealing with these emerging issues includes seeking growth opportunities, continuing to offer quality customer service, ongoing cost reductions and productivity enhancements. WPLH RESULTS OF OPERATIONS - 1997 COMPARED WITH 1996 Overview WPLH reported consolidated net income from continuing operations of $61.3 million or $1.99 per share for 1997, as compared to $73.2 million or $2.38 per share for 1996. Earnings per share for 1997 and 1996 were $1.99 and $2.34, respectively, reflecting the impact of discontinued operations. All references to earnings per share throughout MD&A refer to both basic and diluted earnings per share. The decrease in 1997 earnings versus 1996 was primarily the result of lower operating income at WP&L and the impact of non-recurring gains which contributed 5 cents per share to earnings in 1997 compared to 19 cents in 1996. Gas and electric margins were down $4.2 and $2.0 million, respectively, in 1997 as compared to 1996. The decrease in gas margin was primarily due to lower weather-driven sales to residential customers as well as a 2.2% average retail gas rate decrease which went into effect on April 29, 1997. The lower electric margin was the result of a 2.4% average retail electric rate decrease effective April 29, 1997, as well as higher purchased power expense due to an extended outage at the Kewaunee Nuclear Power Plant (Kewaunee). Sales to other utilities and continued economic strength in WP&L's service territory partially offset the impact of the decline in margin. In addition, income in 1997 was also lower than 1996 due to increased expenses for plant maintenance, depreciation and interest. HDC, parent company of WPLH's nonregulated operations, reported a loss from continuing operations of $2.8 million for 1997 compared with a loss from continuing operations of $3.5 million for 1996. HDC's 1997 results reflect improved performance of the energy marketing business. In 1997, HDC recognized an after-tax loss of $1.1 million as a result of a write- off of nonproductive assets in its environmental and engineering services business. In 1996, HDC recognized an after-tax gain of $2.5 million related to the sale of HDC's investment in assisted living properties. WPLH also recognized a 1996 after-tax loss of $1.3 million resulting from additional fees and expenses related to discontinued operations which is discussed in Note 12 of "Notes to Consolidated Financial Statements." WPLH Electric Operations
Revenues and Costs kWhs Sold Customers at (In Thousands) Change (In Thousands) Change Year End Change 1997 1996 1997 1996 1997 1996 Residential $199,633 $201,690 (1%) 2,973,932 2,979,826 - 343,637 336,933 2% Commercial 107,132 105,319 2% 1,877,640 1,814,324 3% 46,823 45,669 3% Industrial 152,073 143,734 6% 4,255,637 3,985,672 7% 855 815 5% Sales for resale 160,917 131,836 22% 5,823,521 5,245,812 11% 122 90 36% Other 14,388 6,903 108% 61,330 57,757 6% 1,753 1,730 1% -------- -------- ---------- ---------- -------- -------- Total 634,143 589,482 8% 14,992,060 14,083,391 6% 393,190 385,237 2% ========== ========== ==== ======== ======== ==== Electric Production Fuels 116,812 114,470 2% Purchased Power 125,438 81,108 55% -------- -------- Margin $391,893 $393,904 (1%) ======== ======== ====
Electric revenues increased $44.7 million, or 8%, in 1997 as compared with 1996. Continued customer growth, economic strength in the service area and increased sales to other utilities offset the impact of cooler summer weather and warmer weather during the winter months of 1997. Revenues were also affected by an average retail rate decrease of 2.4% effective April 29, 1997. Other revenues increased in 1997 compared with 1996 due to increases in conservation services. Refer to the "Liquidity and Capital Resources - Rates and Regulatory Matters" section below for further discussion of these rate modifications. Despite higher electric revenues, electric margin decreased $2.0 million, or 1%, as compared with 1996. The decline in margin reflects the impact of the shutdown at Kewaunee throughout most of the first half of 1997 for steam generator tube repairs as well as several temporary, routine outages at WP&L's coal-fired plants through the first five months of 1997. These outages caused a greater reliance on more costly purchased power to meet customer requirements. The PSCW ordered a temporary customer surcharge effective April 29, 1997 through July 1, 1997, to allow WP&L to recover a portion of the higher purchased power costs associated with the Kewaunee outage. Refer to the "Liquidity and Capital Resources - Capital Requirements" section below for further discussion of the Kewaunee plant outage. The Kewaunee outage and increased sales to other utilities resulted in a 55% increase in the cost of purchased power. For a discussion of electric capacity and reliability refer to "Other Matters - Power Supply" section below. WPLH Gas Operations
Revenues and Costs Therms Sold Customers at (In Thousands) Change (In Thousands) Change Year End Change 1997 1996 1997 1996 1997 1996 Residential $ 84,513 $ 90,382 (6%) 127,704 142,974 (11%) 137,827 133,580 3% Commercial 45,456 46,703 (3%) 85,917 91,665 (6%) 16,653 16,083 4% Industrial 8,378 11,410 (27%) 17,144 19,974 (14%) 488 529 (8%) Transportation and other 17,536 17,132 2% 175,943 185,671 (5%) 358 252 42% -------- -------- -------- -------- -------- -------- Total 155,883 165,627 (6%) 406,708 440,284 (8%) 155,326 150,444 3% ======== ======== ===== ======== ======== ===== Purchased Gas 99,267 104,830 (5%) -------- -------- Margin $ 56,616 $ 60,797 (7%) ======== ======== =====
Gas revenues decreased $9.7 million, or 6%, in 1997 as compared with 1996. The decline in revenues and margin reflected an average retail rate decrease of 2.2%, effective April 29, 1997, and lower sales. Therm sales declined by 8% due to warmer weather in the winter months of 1997. This decrease was directly reflected in the decline in revenues and corresponding $4.2 million, or 7%, decrease in margin. WP&L realized favorable contributions to gas margin of $0.6 million and $1.1 million for 1997 and 1996, respectively, through its gas incentive program. Refer to the "Liquidity and Capital Resources - Rates and Regulatory Matters" section below for further discussion of this adjustment mechanism. Fees, Rents, Non-Utility Energy Sales and Other Revenues Fees, rents, non-utility energy sales and other revenues primarily reflect sales and revenues of WPLH's nonregulated subsidiaries, consolidated under HDC. Revenues of the principal businesses of HDC were as follows: 1997 1996 Environmental and engineering services $78.1 $84.8 Energy marketing 30.8 73.8 Other 15.6 14.9 ------- ------- $124.5 $173.5 ======= ======= Contributing to the decrease in these revenues for 1997 was the formation of a joint venture, effective January 1, 1997, between the gas marketing business of the energy marketing subsidiary and Industrial Energy Applications, Inc. (IEA), the energy marketing subsidiary of IES. HDC owns 50% of this joint venture and for the year ended December 31, 1997, accounted for the investment under the equity method. Therefore, HDC's share of revenues and expenses related to this joint venture have been included with "Interest Expense and Other." Revenues for 1996 included $26.4 million related to gas marketing sales now associated with the joint venture. In addition, the softening market for the environmental and engineering services business and the transfer of the power marketing business to a joint venture formed with Cargill Incorporated contributed to the decline in revenues for 1997. See Note 14 of "Notes to Consolidated Financial Statements" for a further discussion of this joint venture. In addition to the revenues of the nonregulated businesses, other revenues also include the water operations of WP&L. These revenues were $4.7 million in 1997 and $4.2 million in 1996. Other Operation and Cost of Non-Utility Energy Other operation and cost of non-utility energy expense includes expenses related to WP&L, WPLH and the nonregulated businesses of HDC. The distribution of other operations expense was as follows: 1997 1996 WP&L $131.4 $140.3 Nonregulated businesses and parent company operations 123.4 177.3 ------ ------ $254.8 $317.6 ====== ====== Contributing to the decrease in other operation and cost of non-utility energy was the recording of HDC's share of the expenses associated with the gas marketing joint venture under "Interest Expense and Other," as discussed above. Operating expenses at the nonregulated businesses for the year ended December 31, 1996, included $30.8 million related to gas marketing sales now associated with the joint venture. In 1997, these expenses were included with "Interest Expense and Other", as previously discussed under "Fees, Rents, Non-Utility Energy Sales and Other Revenues." In addition, the softening market for the environmental and engineering services business and the reduced activity in the electric power area of the energy marketing subsidiary also contributed to the decline in other operations expense for 1997. Conservation expense at WP&L was reduced significantly under the retail rate order, effective April 29, 1997. This reduction decreased WP&L's operating expenses by $8.8 million in 1997 compared with the same period in 1996. Partially offsetting this decrease was an additional $3.0 million of operating expense in the fourth quarter of 1997, associated with an early retirement program for eligible bargaining unit employees. Maintenance Expense Maintenance expense increased as a result of higher plant maintenance expenses at Kewaunee and several of WP&L's coal-fired plants, as discussed above under "WPLH Electric Operations." Depreciation and Amortization Depreciation expense increased due to higher depreciation rates at WP&L approved by the PSCW, effective January 1, 1997, and property additions. The increases approved by the PSCW included higher depreciation expense for Kewaunee, based on the use of an accelerated plant end-of-life, increased contributions to the nuclear decommissioning trust fund and other items. (See "Liquidity and Capital Resources - Capital Requirements" for additional information). In 1997, HDC recognized an after-tax loss of $1.1 million as a result of a write-off of nonproductive assets in its environmental and engineering services business. Interest Expense and Other The increase in interest expense and other is primarily the result of non- recurring gains which contributed 5 cents per share in 1997 and 19 cents per share in 1996. Income Taxes The decrease in income taxes between periods reflects lower taxable income, an adjustment of prior period taxes and increased affordable housing and historical tax credits. WPLH RESULTS OF OPERATIONS - 1996 COMPARED WITH 1995 Overview WPLH reported consolidated net income from continuing operations of $73.2 million or $2.38 per share for 1996, as compared to $71.6 million or $2.33 per share for 1995. Earnings per share for 1996 and 1995 were $2.34 and $1.90, respectively, reflecting the impact of the discontinued operations. The increase in earnings in 1996 primarily reflects the operations of WPLH's utility subsidiary, WP&L. Continued customer growth in the service territory and increased power marketing activity contributed to a $9 million increase in electric margin in 1996 as compared with 1995. The 1996 gas margin also increased due primarily to higher weather-driven sales. (See "WPLH Electric Operations" and "WPLH Gas Operations" below). In addition, a $3.4 million after-tax gain on the sale of a combustion turbine was recognized during 1996. These events were partially offset by higher plant maintenance and depreciation expenses in 1996. HDC, parent company of WPLH's nonregulated operations, reported a loss from continuing operations of $3.5 million for 1996 compared with a loss from continuing operations of $1.5 million for 1995. HDC's 1996 results were adversely impacted by contract losses early in 1996 associated with the start-up of the energy marketing business as well as a softening market for the environmental and engineering services business. Partially offsetting these losses was an after-tax gain of $2.5 million in 1996, related to the sale of HDC's investment in assisted living properties. WPLH also recognized a 1996 after-tax loss of $1.3 million resulting from additional fees and expenses related to the discontinued operations which is discussed in Note 12 of "Notes to Consolidated Financial Statements." WPLH Electric Operations
Revenues and Costs kWhs Sold Customers at (In Thousands) Change (In Thousands) Change Year End Change 1996 1995 1996 1995 1996 1995 Residential $201,690 $199,850 1% 2,979,826 2,937,825 1% 336,933 329,643 2% Commercial 105,319 102,129 3% 1,814,324 1,773,406 2% 45,669 44,730 2% Industrial 143,734 140,562 2% 3,985,672 3,872,520 3% 815 795 3% Sales for resale 131,836 97,350 35% 5,245,812 3,109,385 69% 90 48 88% Other 6,903 6,433 7% 57,757 54,042 7% 1,730 1,294 34% -------- -------- ---------- ---------- -------- -------- Total 589,482 546,324 8% 14,083,391 11,747,178 20% 385,237 376,510 2% ========== ========== ==== ======== ======== ==== Electric Production Fuels 114,470 116,488 (2%) Purchased Power 81,108 44,940 80% -------- -------- Margin $393,904 $384,896 2% ======== ======== ====
Electric margin increased $9.0 million, or 2%, during 1996 compared with 1995 primarily due to higher sales to commercial and industrial customers as well as other utilities combined with reduced costs per kWh for electric production fuels and purchased power. Although fuel and purchased power costs declined on a per kWh basis, purchased power expense increased by 80%. This increase was due to WP&L's higher level of sales to other utilities as well as a $5.0 million increase in purchased power related to the purchase of replacement power during the extended 1996 refueling outage at Kewaunee. Partially offsetting increased purchased power costs were slightly lower delivered coal and nuclear fuel costs per kWh. WPLH Gas Operations
Revenues and Costs Therms Sold Customers at (In Thousands) Change (In Thousands) Change Year End Change 1996 1995 1996 1995 1996 1995 Residential $90,382 $70,382 28% 142,974 126,903 13% 133,580 129,576 3% Commercial 46,703 35,411 32% 91,665 82,448 11% 16,083 15,724 2% Industrial 11,410 17,984 (37%) 19,974 21,435 (7%) 529 566 (7%) Transportation and other 17,132 15,388 11% 185,671 168,702 10% 252 227 11% -------- -------- -------- -------- -------- -------- Total 165,627 139,165 19% 440,284 399,488 10% 150,444 146,093 3% ======== ======== ==== ======== ======== ==== Purchased Gas 104,830 84,002 25% -------- -------- Margin $60,797 $55,163 10% ======== ======== ====
Gas margins increased $5.6 million, or 10%, during 1996 compared with 1995 primarily as a result of higher sales. Therm sales increased 10% due to a combination of colder weather during the first five months of 1996 as compared to 1995, and customer growth of 3%. The 19% increase in gas revenues reflects not only the higher therm sales but also the pass through of higher natural gas costs to WP&L's customers. WP&L realized favorable contributions to gas margins of $1.1 million and $0.8 million for 1996 and 1995, respectively, due to favorable gas procurement activities. Refer to the "Liquidity and Capital Resources - Rates and Regulatory Matters" section below for further discussion of this adjustment mechanism. Fees, Rents, Non-Utility Energy Sales and Other Revenues Fees, rents, non-utility energy sales and other revenues primarily reflect sales and revenues of WPLH's nonregulated subsidiaries, consolidated under HDC, as adjusted for discontinued operations. Revenues of the principal businesses of HDC were as follows: 1996 1995 Environmental and engineering $84.8 $88.6 Energy marketing 73.8 12.6 Other 14.9 16.4 ------ ------ $173.5 $117.6 ====== ====== Energy marketing revenues were higher due to an increase in the volume of electric power and natural gas sales by the energy marketing subsidiary. The subsidiary meets these sales commitments through spot market purchases and short-term purchase contracts. (See "Other Operation and Cost of Non- Utility Energy"). Revenues at the environmental and engineering services business were lower in 1996 due to a softening market for environmental services. In addition to the revenues of the nonregulated businesses, other revenues also include the water operations of WP&L. These revenues were $4.2 million in both 1996 and 1995. Other Operation and Cost of Non-Utility Energy Other operation and cost of non-utility energy expense includes expenses related to WP&L, the parent company and the nonregulated businesses of HDC. The distribution of other operations expense was as follows: 1996 1995 WP&L $140.3 $139.3 Nonregulated businesses and parent company operations 177.3 113.4 ------ ------ $317.6 $252.7 ====== ====== The increase in operations expense associated with the nonregulated businesses is primarily a result of increased volume at the energy marketing subsidiary. Several commitments made in early 1996 resulted in substantial losses. On a comparative basis, the non-utility energy marketing business incurred net losses of 17 cents per share in 1996 and 3 cents per share in 1995. The environmental and engineering services business also incurred higher contract related costs which were partially offset by labor and benefit savings. The environmental and engineering services business lost 4 cents per share in 1996 as compared to a 7 cent per share contribution in 1995. Operating expenses in the affordable housing business were significantly reduced in 1996 as operations support was outsourced and development activity was curtailed. After adjusting for the tax benefits and credits associated with this business, the affordable housing business contributed approximately 8 cents per share in 1996 including 2 cents per share related to the sale of two properties. In 1995, the affordable housing business contributed 4 cents per share. Maintenance Maintenance expense increased due to higher plant maintenance and the extended 1996 refueling outage at Kewaunee (See "Liquidity and Capital Resources - Capital Requirements" below). Depreciation and Amortization Depreciation and amortization expense increased $4.4 million as a result of property additions and greater amortization of contributions in aid of construction (a reduction of expense) in 1995. Interest Expense and Other The $9.1 million increase in other income is the result of two significant gains recognized in 1996. The sale of a combustion turbine by WP&L resulted in other income of $5.7 million. In addition, HDC recognized a gain of $4.2 million on the sale of its investment in assisted living properties. Interest expense was lower in 1996 as compared to 1995 as a result of less short-term debt outstanding and a slight decrease in interest rates. Income Taxes Income taxes increased for 1996 as a result of higher taxable income. The effective tax rate on continuing operations was 35.4% and 32.5% for 1996 and 1995, respectively. The lower rate in 1995 was the result of prior years' tax contingencies resolved favorably in 1995 and increased non-deductible Merger expenses in 1996. PRO FORMA EARNINGS PER SHARE INFORMATION AND HISTORICAL IES AND IPC DATA Set forth below is information regarding pro forma earnings per share (basic and diluted) of the Merged Company and certain historical financial information regarding IES and IPC for the years ended December 31, 1997, 1996 and 1995. 1997 versus 1996 The earnings per average common share for the Merged Company on a pro forma basis and for each of WPLH, IES and IPC for the years ended December 31, 1997 and 1996 were as follows: 1997 1996 Merged Company pro forma combined * $2.02 $2.10 WPLH 1.99 2.34 IES 2.18 2.04 IPC 2.74 2.69 The growth in IES's earnings per share in 1997 as compared with 1996 was primarily the result of: a 3.8% increase in electric sales (excluding off- system sales), a lower effective income tax rate, and increased operating income from IES's non-utility operations. The increased earnings were partially offset by higher interest expense, higher utility operating expenses, and start-up expenses in international and domestic growth areas. Expenses incurred defending an unsuccessful hostile takeover bid for IES reduced 1996 earnings per share by 15 cents. The growth in IPC's earnings per share in 1997 as compared with 1996 was primarily the result of: electric and gas rate increases, a favorable court ruling regarding the recovery of manufactured gas plant costs (see "Liquidity and Capital Resources - Rates and Regulatory Matters"), and the continued control of operation and maintenance costs. Partially offsetting the increase in earnings were slightly depressed sales due to milder weather and the loss of eight municipal customers to other energy suppliers. 1996 versus 1995 The earnings per average common share for the Merged Company on a pro forma basis and for each of WPLH, IES and IPC for the years ended December 31, 1996 and 1995 were as follows: 1996 1995 Merged Company pro forma combined * $2.10 $1.98 WPLH 2.34 1.90 IES 2.04 2.20 IPC 2.69 2.63 The decrease in IES's earnings was primarily due to costs incurred in 1996 defending an unsuccessful takeover bid for IES which decreased earnings per share by 15 cents. Increased sales, electric and gas rate increases, and continuing efforts to control costs contributed to the increased earnings for IPC. * The pro forma earnings per share reflect the impact of the discontinued operations recorded by WPLH in 1996 and 1995. For additional information regarding the derivation of the pro forma earnings per share data, see "Interstate Energy Corporation Unaudited Pro Forma Combined Financial Statements" included elsewhere in this Annual Report on Form 10-K. LIQUIDITY AND CAPITAL RESOURCES Historical WPLH Analysis Cash flows from operating activities at WPLH decreased to $151 million in 1997 compared with $191 million in 1996 primarily due to a reduction in net income and working capital. Cash flows used for financing were $2.2 million in 1997 as compared to $72.4 million in 1996 resulting from a net increase in the amount of debt outstanding. Cash flows used for financing activities increased to $72.4 million in 1996 from $31.0 million in 1995 due to the net change in short-term debt. Cash flows used for investing activities were significantly lower in 1996 as compared with 1997 and 1995 due to the proceeds received in 1996 from both the sale of other property and equipment and the sale of a subsidiary and investments. Times interest earned before income taxes for WPLH for 1997, 1996 and 1995 was 3.19, 3.82 and 3.55, respectively. Prospective Considerations Assuming the Merger is consummated, the capital requirements of the Merged Company will be primarily attributable to its utility subsidiaries' construction and acquisition programs, its debt maturities and business opportunities of New Diversified. It is anticipated that future capital requirements of the Merged Company will be met by cash generated from operations and external financing. The level of cash generated from operations is partially dependent upon economic conditions, legislative activities, environmental matters and timely regulatory recovery of utility costs. The Merged Company's liquidity and capital resources will be affected by costs associated with environmental and regulatory issues. Emerging competition in the utility industry could also impact the Merged Company's liquidity and capital resources, as discussed previously in the "Utility Industry Outlook" section. The Merged Company will have interests in the international arena. At December 31, 1997, IES had approximately $57 million of investments in foreign entities. At December 31, 1997, WPLH and IPC did not have material foreign investments. It is expected that the Merged Company will continue to explore additional international investment opportunities. Such investments may carry a higher level of risk than the Merged Company's traditional domestic utility investments or New Diversified's domestic investments. Such risks could include foreign government actions, foreign economic and currency risks and others. The Merged Company is expected to pursue various potential business development opportunities, including international as well as domestic investments, and is devoting resources to such efforts. It is anticipated that the Merged Company will strive to select investments where the international and other risks are both understood and manageable. At December 31, 1997, IES and IPC had investments in the stock of McLeodUSA Inc. (McLeod), a telecommunications company, valued at $327 million and $1.4 million (as compared to a cost basis of $29 million and $0.1 million), respectively. Pursuant to the applicable accounting rules, the carrying value of the investments are adjusted to the estimated fair value each quarter based on the closing price at the end of the quarter. The adjustments do not impact earnings as the unrealized gains or losses, net of taxes, are recorded directly to the common equity section of the balance sheet. In addition, any such gains or losses are reflected in current earnings only at the time they are realized through a sale. IES and IPC have entered into agreements with McLeod which restricts the sale or disposal of its shares without the consent of the McLeod Board of Directors until September and June 1998, respectively. The merger partners had certain financial guarantees and commitments outstanding at December 31, 1997 which are not reflected in the pro forma Consolidated Financial Statements. They generally consist of third-party borrowing arrangements and lending commitments as well as guarantees of financial performance of syndicated affordable housing properties. Management believes the possibility of the Merged Company having to make any material cash payments under these agreements is remote. Financing and Capital Structure Access to the long-term and short-term capital and credit markets, and costs of external financing, are dependent on creditworthiness. The debt ratings of the Merged Company and certain subsidiaries are as follows: Standard Moody's & Poor's (As of (As of 3/26/98) 3/2/98) IESU - Secured long-term debt A2 A+ - Corporate credit rating (a) N/A A+ - Unsecured long-term debt A3 A WP&L - Secured long-term debt Aa2 AA - Corporate credit rating (a) N/A AA- - Unsecured long-term debt Aa3 A+ IPC - Secured long-term debt A1 A+ - Corporate credit rating N/A A+ - Unsecured long-term debt A2 A New Diversified - Commercial paper P2 A1 Merged Company - Corporate credit rating (a) N/A A+ - Commercial paper (b) P1 A1 (a) The "Corporate credit rating" is the overall rating of the parent company and is used by Standard & Poor's but not by Moody's. (b) Upon consummation of the Merger, IESU, WP&L and IPC expect to participate in a utility money pool which will be funded, as needed, by the Merged Company through the issuance of commercial paper. This utility money pool is expected to replace the commercial paper programs previously in place at IESU, WP&L and IPC. The following material long-term debt financing activities involving the merger partners and their subsidiaries took place in 1997 - - On April 28, 1997, WP&L entered into an interest rate forward contract to hedge interest rate risk related to the anticipated issuance of $105 million of long-term debt securities. The securities were issued on June 30, 1997 (7.00% interest rate, maturing in 2007) and the forward contract was settled which resulted in a cash payment of $3.8 million by WP&L. This payment is being recognized as an adjustment to interest expense over the life of the new debt securities to approximate the interest rate implicit in the forward contract. - WP&L utilized the net proceeds from the issuance of the $105 million of debt securities described above to repay maturing short-term debt, finance utility construction expenditures and to repay at maturity $55 million of WP&L's First Mortgage Bonds, Series Z, 6.125%. - In October 1997, Diversified entered into a 3-Year Credit Agreement with various banking institutions which replaced its variable rate credit facility. The agreement extends through October 2000, with one- year extensions available upon agreement by the parties. Unused borrowing availability under this agreement is also used to support Diversified's commercial paper program. A combined maximum of $450 million of borrowings under this agreement and the commercial paper program may be outstanding at any one time. Interest rates and maturities are set at the time of borrowing. The rates are based upon quoted market prices and the maturities are less than one year. At December 31, 1997, Diversified had $182 million of borrowings outstanding under this facility with interest rates ranging from 6.05%- 7.30%. New Diversified intends to continue borrowing under the renewal options of this facility and no conditions exist at December 31, 1997 that would prevent such borrowings. Accordingly, this debt is classified as long-term. In addition, Diversified also entered into a $150 million 364-Day Credit Agreement as discussed later. - In August 1997, IESU issued $135 million of 6.625% Senior Debentures, due 2009. The proceeds from these debentures were used to reduce IESU's short-term borrowings. - IESU repaid at maturity $8 million of 6.125% First Mortgage Bonds during the second quarter of 1997. - Also in the second quarter of 1997, IESU issued $55 million of Collateral Trust Bonds, 6.875%, due 2007. Holders thereof may elect to have their Collateral Trust Bonds redeemed, in whole but not in part, on May 1, 2002, at 100% of the principal amount thereof, plus accrued interest. The proceeds from the Collateral Trust Bonds were used to refinance $15 million of Series L, 7.875% First Mortgage Bonds, $30 million of Series M, 7.625% First Mortgage Bonds and $10 million of 7.375% First Mortgage Bonds. - IPC repaid at maturity $17 million of 6.125% First Mortgage Bonds in May 1997. Other than periodic sinking fund requirements, which will not require additional cash expenditures, the following long-term debt (in millions) will mature prior to December 31, 2002: IESU $185.1 IPC 8.1 WP&L 10.8 New Diversified 207.6 ------ Merged Company $411.6 ====== Depending upon market conditions, it is currently anticipated that a majority of the maturing debt will be refinanced with the issuance of long-term securities. IESU, IPC and WP&L currently have no authority from their applicable federal/state regulatory commissions or the Securities and Exchange Commission (SEC) to issue additional long-term debt. The companies are evaluating their future financing needs and will make the necessary regulatory filings as needed. Under the most restrictive terms of their respective indentures, WP&L, IESU and IPC could have issued at least $276 million, $234 million and $200 million of long-term debt at December 31, 1997, respectively. The various charter provisions of the entities identified below authorize and limit the aggregate amount of additional shares of Cumulative Preferred Stock and Cumulative Preference Stock that may be issued. At December 31, 1997, the companies could have issued the following additional shares of Cumulative Preferred or Preference Stock: IESU IPC WP&L IES Cumulative Preferred - 1,238,619 2,700,775 5,000,000 Cumulative Preference 700,000 2,000,000 - - The capitalization ratios of WPLH, IES and IPC at year-end were as follows: Pro Forma Combined WPLH IES IPC 1997 1997 1996 1997 1996 1997 1996 Common equity 51% 54% 59% 49% 47% 52% 50% Preferred stock 3 5 6 1 1 8 8 Long-term debt 46 41 35 50 52 40 42 ----- ---- ---- ---- ---- ---- ---- 100% 100% 100% 100% 100% 100% 100% For interim financing, WP&L, IESU and IPC are authorized by the applicable federal or state regulatory agency to issue short-term debt as follows (in millions) at December 31, 1997: WP&L IESU IPC Regulatory authorization $138 $200 $75 Short-term debt outstanding $81 - $34 WPLH also had $42 million of short-term debt outstanding at December 31, 1997. In addition to providing for ongoing working capital needs, this availability of short-term financing provides the companies flexibility in the issuance of long-term securities. The level of short-term borrowing fluctuates based on seasonal corporate needs, the timing of long-term financing, and capital market conditions. To maintain flexibility in its capital structure and to take advantage of favorable short-term rates, WP&L and IESU also use proceeds from the sale of accounts receivable and unbilled revenues to finance a portion of their long-term cash needs. The merger partners anticipate that short-term debt will continue to be available at reasonable costs due to current ratings by independent utility analysts and rating services. WPLH, IES and IPC had the following bank lines of credit (in millions) at December 31, 1997 available to support its borrowings: WPLH IES IPC Bank lines of credit $170 $45 $53 Amount utilized - $11 $34 Commitment fees are paid to maintain these lines and there are no conditions which restrict the unused lines of credit. From time to time, the Merged Company, assuming the Merger is consummated, may borrow from banks and other financial institutions in lieu of commercial paper, and has agreements with several financial institutions for such borrowings. There are no commitment fees associated with these agreements and there were no borrowings outstanding under these agreements at December 31, 1997. In October 1997, Diversified entered into a 364-Day Credit Agreement with various banking institutions. The agreement extends through October 20, 1998, with 364 day extensions available upon agreement by the parties. The unborrowed portion of this agreement is also used to support Diversified's commercial paper program. A combined maximum of $150 million of borrowings under this agreement and the commercial paper program may be outstanding at any one time. Interest rates and maturities are set at the time of borrowing. The rates are based upon quoted market prices and the maturities are less than one year. There were no borrowings under this facility at December 31, 1997. Given the above financing flexibility, management believes it has the necessary financing capabilities in place to adequately finance its capital requirements for the foreseeable future. Capital Requirements General Capital expenditure and investment and financing plans are subject to continual review and change. The capital expenditure and investment programs may be revised significantly as a result of many considerations, including changes in economic conditions, variations in actual sales and load growth compared to forecasts, requirements of environmental, nuclear and other regulatory authorities, acquisition and business combination opportunities, the availability of alternate energy and purchased power sources, the ability to obtain adequate and timely rate relief, escalations in construction costs and conservation and energy efficiency programs. Assuming the Merger is consummated, the Merged Company's anticipated construction and acquisition expenditures for 1998 are estimated to be approximately $630 million, consisting of approximately $277 million in its utility operations, $190 million for energy-related international investments and $163 million for new business development initiatives at New Diversified. The level of 1998 domestic and international investments could vary significantly from the estimates noted here dependent on actual investment opportunities as well as the timing of the opportunities. Assuming the Merger is consummated, it is expected that the Merged Company will spend approximately $1.2 billion on utility construction and acquisition expenditures during 1999-2002. The strategy related to the construction and acquisition program for New Diversified during 1999-2002 is currently being finalized. Assuming the Merger is consummated, it is expected that New Diversified will invest in energy products and services in domestic and international markets, industrial services initiatives and other strategic initiatives. One of the post-merger objectives is to finance utility construction expenditures through internally generated funds supplemented, when required, by outside financing. The Merged Company is expected to fund the large majority of its utility construction expenditures during 1998- 2002 through internally generated funds, supplemented by external financings as needed. Funding of a majority of the New Diversified construction and acquisition expenditures is expected to be completed with external financings. Nuclear Facilities Assuming the Merger is consummated, the Merged Company will own interests in two nuclear facilities, Kewaunee and the Duane Arnold Energy Center (DAEC). Set forth below is a discussion of certain matters impacting these facilities. Kewaunee, a 535-megawatt (nameplate capacity) pressurized water reactor plant, is operated by Wisconsin Public Service Corporation (WPSC) and is jointly owned by WPSC (41.2%), WP&L (41.0%), and Madison Gas & Electric Company (MG&E) (17.8%). The Kewaunee operating license expires in 2013. Kewaunee returned to service on June 12, 1997 after having been out of service since September 21, 1996 for refueling, routine maintenance, and repair of the two steam generators. The original Kewaunee steam generator tubes are susceptible to corrosion. Tubes are repaired by inserting sleeves (tubes within tubes) in the original steam generator tubes. The most recent repair was undertaken when previously repaired tubes failed. The repair consisted of removing old sleeves and inserting new slightly longer sleeves which cover the areas of concern in the original steam generator tubes. The new sleeves will be inspected during the next refueling and maintenance outage which is scheduled for the Fall of 1998. As of this filing, Kewaunee had remained in continuous operation since the plant was returned to service with the exception of a one-week outage for replacement of a reactor coolant pump seal. Kewaunee is operating at 97% of rated capacity because certain steam generator tubes have been removed from service rather than repaired. In accordance with the PSCW authorization, WP&L had deferred $3.1 million at December 31, 1997, associated with Kewaunee steam generator repair costs. In March 1998, the PSCW approved recovery of these costs through a customer surcharge effective April 1, 1998 through May 31, 1998. The total cost of replacing the two steam generators would be approximately $89.0 million of which WP&L's share would be $36.5 million. Because of work already completed, the elapsed time from placing a firm order for steam generators to receiving delivery has been shortened to approximately 22 months. The owners of Kewaunee have differing views on the desirability of proceeding with the steam generator replacement project. Although the new resleeving repair technology may allow the plant to remain in service for an extended period of time, WPSC favors replacement at the earliest possible date because of reliability and cost concerns related to steam generator repairs. WP&L and MG&E have been unwilling to support replacement. In March 1996, WPSC filed an application with the PSCW for permission to replace the Kewaunee steam generators. This application was approved in April 1998. The issues related to the continued operation and future ownership still need to be resolved before steam generator replacement can proceed. The joint owners continue to analyze and discuss other options related to the future of Kewaunee including various ownership transfer alternatives. If it should become necessary to retire Kewaunee permanently, WP&L would replace the Kewaunee generation through a combination of purchased power, increased generation at existing WP&L generating units and new generating unit additions, if necessary. The PSCW has directed the owners of Kewaunee to develop depreciation and decommissioning cost levels based on an expected plant end-of-life of 2002 versus a license end-of-life of 2013. This was prompted by the uncertainty regarding the expected useful life of the plant without steam generator replacement. At December 31, 1997, the net carrying amount of WP&L's investment in Kewaunee was approximately $45.7 million. The current cost of WP&L's share of the estimated costs to decommission Kewaunee is $181.3 million and exceeds the trust assets at December 31, 1997 by $68.9 million. The costs of decommissioning are assumed to escalate at an annual rate of 5.83%. WP&L's retail customers in the Wisconsin jurisdiction are responsible for approximately 80% of WP&L's share of Kewaunee costs. As a result of accelerating the recovery of WP&L's share of Kewaunee related costs, depreciation expense and decommissioning funding will increase approximately $3.0 million (from $4.8 million to $7.8 million) and $5.4 million (from $10.7 million to $16.1 million), respectively, on an annualized basis. During 1997, $6.5 million of depreciation expense related to unrecovered plant investment was recognized compared to $4.8 million which was recognized in 1996. During 1997, decommissioning expense associated with funding increased to $14.3 million from $10.7 million in 1996. The $14.3 million represents a combination of the annual funding levels in accordance with UR-109 through April 29, 1997 and UR-110 post-April 29, 1997. Customer rates, which became effective in Wisconsin on April 29, 1997, are designed to recover the accelerated Kewaunee depreciation and decommissioning costs. DAEC, a 520-megawatt boiling water reactor plant, is operated by IESU and IESU has a 70% ownership interest in the plant. The DAEC operating license expires in 2014. Pursuant to the most recent electric rate case order, the IUB allows IESU to recover $6.0 million annually for the cost to decommission the DAEC. The current recovery figures are based on an assumed cost to decommission the DAEC of $252.8 million, which is IESU's 70% portion in 1993 dollars, based on the Nuclear Regulatory Commission (NRC) minimum formula (which exceeds the amount in the current site-specific study completed in 1994). At December 31, 1997, IESU had $77.9 million invested in external decommissioning trust funds and also had an internal decommissioning reserve of $21.7 million recorded as accumulated depreciation. Refer to the "Other Matters - Environmental" section for a discussion of various issues impacting the Merged Company's future capital requirements. Rates and Regulatory Matters In November 1997, as part of its merger approval, FERC accepted a proposal by IESU, WP&L, and IPC, which provides for a four-year freeze on wholesale electric prices beginning with the effective date of the Merger. WP&L In connection with its approval of the Merger, the PSCW accepted a WP&L proposal to freeze rates for four years following the date of the Merger. A re-opening of an investigation into WP&L's rates during the rate freeze period, for both cost increases and decreases, may occur only for single events that are not Merger-related and have a revenue requirement impact of $4.5 million or more. In rate order UR-110, the PSCW approved new rates effective April 29, 1997 through 1998. On average, WP&L's retail electric rates declined by 2.4% and retail gas rates declined by 2.2%. Other items included in the rate order were: authorization of a surcharge to collect replacement power costs while Kewaunee remained out of service for the period effective April 29, 1997 through July 1, 1997; authorization of an increase in the return on equity to 11.7% from 11.5%; reinstatement of the electric fuel adjustment clause; continuation of a modified gas performance based ratemaking incentive mechanism; and a modified SO2 incentive. In addition, the PSCW ordered that it must approve the payment of dividends by WP&L to its parent company that are in excess of the level forecasted in the rate order ($58.3 million), if such dividends would reduce WP&L's average common equity ratio below 52.00% of total capitalization. Based on a 13-month average for 1997, WP&L's common equity ratio was 52.56%. The retail electric rates are based in part on forecasted fuel and purchase power costs. Under PSCW rules, Wisconsin utilities can seek emergency rate increases if these costs are more than three percent higher than the estimated costs used to establish rates. In WP&L's case, actual fuel costs since May 1997 have been higher than estimated and are expected to remain well above the estimated levels in 1998. As a result, WP&L has asked the PSCW to approve a rate increase. It is expected that the PSCW will issue a decision in the second quarter of 1998. Any increase approved by the PSCW will be implemented on a prospective basis. The gas performance incentive was modified to eliminate the maximum gain or loss to be recognized by WP&L. Previously, this incentive was limited to $1.1 million to WP&L. The incentive includes a sharing mechanism, whereby 40% of all gains and losses relative to current commodity prices as well as other benchmarks are recognized by WP&L rather than refunded to or recovered from customers. IESU In September 1997, IESU agreed with the IUB to provide Iowa customers a four-year retail electric and gas price freeze commencing on the effective date of the Merger. The agreement excluded price changes due to government-mandated programs, such as energy efficiency cost recovery or unforeseen dramatic changes in operations. In addition, the price freeze does not preclude a review by either the IUB or Office of Consumer Advocate (OCA) into whether IESU is exceeding a reasonable return on common equity. Under provisions of the IUB rules, IESU is currently recovering the costs it has incurred for its energy efficiency programs. There have been several cost recovery filings made and approved by the IUB over the course of the last few years. Generally, the costs incurred through July 1997 are being recovered over various four-year periods. The IUB commenced a rulemaking in January 1997 to implement statutory changes allowing concurrent recovery and a final order in this proceeding was issued in April 1997. The new rules allowed IESU to begin concurrent recovery of its prospective expenditures on August 1, 1997. The implementation of these changes will gradually eliminate the regulatory asset that was created under the prior rate making mechanism as these costs are recovered. IESU has the following amounts of energy efficiency costs included in regulatory assets on its Consolidated Balance Sheets (in thousands): Four-Year Recovery December 31, December 31, Beginning 1997 1996 Costs incurred through 1993 6/95 $7,779 $12,834 Costs incurred in 1994 -1995 8/97 30,924 33,161 Costs incurred from 1/96 - 7/97 8/97 19,847 15,087 Under collection of concurrent recovery N/A 850 - ------- ------- $59,400 $61,082 ======= ======== IPC In September 1997, IPC agreed with the IUB to provide Iowa customers a four-year retail electric and gas price freeze commencing on the effective date of the Merger. The agreement excluded price changes due to government-mandated programs, such as energy efficiency cost recovery, or unforeseen dramatic changes in operations. In addition, the price freeze does not preclude a review by either the IUB or OCA into whether IPC is exceeding a reasonable return on common equity. IPC also agreed with the MPUC and Illinois Commerce Commission to four-year and three-year rate freezes, respectively, commencing on the effective date of the Merger. On September 30, 1997, the IUB approved a settlement between IPC and the OCA which provided for an electric rate reduction of approximately $3.2 million annually. The reduction applied to all bills rendered on and after October 7, 1997. In May 1995, IPC filed an application with the MPUC for an increase in gas rates in an annual amount of $2.4 million. Increased interim rates in an annual amount of $1.5 million were placed in effect in June 1995. On February 29, 1996, MPUC issued an order allowing an increase in gas rates of $2.1 million. Rates reflecting the increase were implemented in September 1996. The Department of Public Service and the Office of Attorney General appealed the MPUC's decision. The appeal was denied by the Minnesota Court of Appeals on February 18, 1997. On March 21, 1997, the Department of Public Service and the Office of Attorney General appealed the decision of the Court of Appeals (and the MPUC) to the Minnesota Supreme Court. On January 8, 1998, the Minnesota Supreme Court upheld the MPUC's initial decision allowing IPC to recover $4.9 million of manufactured gas plant clean-up expenses over a 10 year period. IPC is also recovering its energy efficiency costs in Iowa in a similar manner as IESU and began its concurrent cost recovery in October 1997. IPC has the following amounts of energy efficiency costs to be recovered in Iowa included in regulatory assets on its Balance Sheets (in thousands): Four-Year Recovery December 31, December 31, Beginning 1997 1996 Costs incurred through 1992 10/94 $912 $2,128 Costs incurred in 1993 - 1995 5/97 16,576 19,193 Costs incurred from 1/96 - 9/97 10/97 9,796 6,042 ------- ------- $27,284 $27,363 ======= ======= In addition, IPC had $2.7 million and $2.5 million at December 31, 1997 and December 31, 1996, respectively, included in regulatory assets for energy efficiency recoveries in Minnesota. Assuming consummation of the Merger and capture of the Merger-related synergies described under the caption "Merger" above and no significant legislative or regulatory changes affecting its utility subsidiaries, the merger partners do not expect the Merger-related electric and gas price freezes to have a material adverse effect on the financial position or results of operations of the Merged Company. OTHER MATTERS Year 2000 Each of the merger partners utilize software, embedded systems and related technologies throughout its businesses that will be affected by the date change in the Year 2000. An internal task force has been assembled to review and develop the full scope, work plan and cost estimates to ensure that the systems of the merger partners continue to meet their internal and customer needs. Phase I of the project, which encompassed a review of the necessary software modifications that will need to be made to the merger partners' financial and customer systems, has been completed. The merger partners currently estimate that the remaining costs to be incurred on this phase of the project will be approximately $4 million to $8 million in the aggregate. The task force has also begun Phase II of the project which is an extensive review of the embedded systems for Year 2000 conversion issues. The task force has inventoried critical embedded operating systems and is working with the system vendors to ascertain Year 2000 compliance of these systems. The task force is also developing detailed plans for testing and remediating critical systems (i.e., systems whose failure could affect employee safety or business operations). As part of an awareness effort, the merger partners have also notified their utility customers of their Year 2000 project efforts. Key suppliers are also being contacted to confirm their Year 2000 readiness plans. Efforts are also underway to develop contingency plans for critical embedded operating systems. Management is currently unable to estimate the costs to be incurred on this phase of the project but believes that the costs will be significant. An estimate of the expenses to be incurred on this phase of the project is expected to be available by the third quarter of 1998. The goal of the merger partners is to have all the material Year 2000 conversions made sufficiently in advance of December 31, 1999 to allow for unanticipated issues. At this time, management is unable to determine if the Year 2000 issue will have a material adverse effect on the financial position or results of operations of the merger partners. In April 1998, WP&L filed a request with the PSCW requesting deferral treatment of Year 2000 costs in excess of $4 million. Currently, management cannot predict the action the PSCW may take regarding this request. Labor Issues The status of the collective bargaining agreements at each of the utilities is as follows: IESU WP&L IPC Number of collective bargaining agreements 6 1 3 Percentage of workforce covered by agreements 53 69 64 There are two agreements at IESU expiring in 1998 and the number of employees covered under these agreements is relatively small. Financial Instruments WPLH has historically had only limited involvement with derivative financial instruments and has not used them for trading purposes. They have been used to manage well-defined interest rate and commodity price risks. WP&L historically has entered into interest rate swap agreements to reduce the impact of changes in interest rates on its floating-rate long-term debt, short-term debt and the sales of its accounts receivable. The total notional amount of interest rate swaps outstanding was $40 million at December 31, 1997. WPLH has used swaps, futures and options to hedge the price risks associated with the purchase and sale of stored gas at WP&L and with the purchases and sales of gas and electric power at the energy marketing subsidiary. On April 28, 1997, WP&L entered into an interest rate forward contract to hedge interest rate risk related to the anticipated issuance of $105 million of long-term debt securities. See Note 8 of the "Notes to Consolidated Financial Statements" for additional information. IES historically had a policy that derivative financial instruments were to be used only to mitigate business risks and not for speculative purposes. Derivatives were used on a very limited basis. At December 31, 1997, IES did not have any material derivatives outstanding. IPC had no derivatives outstanding at December 31, 1997. The Merged Company is in the process of developing its policy for the use of derivative financial instruments. Accounting Pronouncements Statement of Financial Accounting Standards No. 130 (SFAS 130), Reporting Comprehensive Income, was issued by the Financial Accounting Standards Board (FASB) in the second quarter of 1997. SFAS 130 establishes standards for reporting of comprehensive income and its components in a full set of general purpose financial statements. SFAS 130 will require reporting a total for comprehensive income which includes: (a) unrealized holding gains/losses on securities classified as available-for-sale under SFAS 115, (b) foreign currency translation adjustments accounted for under SFAS 52, and (c) minimum pension liability adjustments made pursuant to SFAS 87. SFAS 130 is effective for periods beginning after December 15, 1997. Statement of Financial Accounting Standards No. 131 (SFAS 131), Disclosures About Segments of an Enterprise and Related Information, was issued by the FASB in the second quarter of 1997. SFAS 131 requires disclosures for each business segment in a manner consistent with how management disaggregates and evaluates the company, with the addition of quarterly disclosure requirements and a finer partitioning of geographic disclosures. SFAS 131 is effective for periods beginning after December 15, 1997. Accounting for Obligations Associated with the Retirement of Long-Lived Assets The staff of the Securities and Exchange Commission has questioned certain of the current accounting practices of the electric utility industry, including IESU and WP&L, regarding the recognition, measurement and classification of decommissioning costs for nuclear generating stations in financial statements of electric utilities. In response to these questions, the FASB is reviewing the accounting for closure and removal costs, including decommissioning of nuclear power plants. If current electric utility industry accounting practices for nuclear power plant decommissioning are changed, the annual provision for decommissioning could increase relative to 1997, and the estimated cost for decommissioning could be recorded as a liability (rather than as accumulated depreciation), with recognition of an increase in the cost of the related nuclear power plant. Assuming no significant regulatory shift, IESU and WP&L do not believe that such changes, if required, would have an adverse effect on its financial position or results of operations due to its ability to recover decommissioning costs through rates. Inflation The merger partners do not expect the effects of inflation at current levels to have a significant effect on their financial position or results of operations. Environmental The pollution abatement programs of IESU, IPC, WP&L, HDC and Diversified are subject to continuing review and are revised from time to time due to changes in environmental regulations, changes in construction plans and escalation of construction costs. While management cannot precisely forecast the effect of future environmental regulations on its operations, it has taken steps to anticipate the future while also meeting the requirements of current environmental regulations. IESU, IPC and WP&L all have current or previous ownership interests in properties previously associated with the production of gas at manufactured gas plants (MGP) for which they may be liable for investigation, remediation and monitoring costs relating to the sites. A summary of information relating to the sites is as follows: IESU IPC WP&L Number of known sites for which liability may exist 34 9 14 Liability recorded at December 31, 1997 (millions) $33.2 $5.8 $9.2 Regulatory asset recorded at December 31, 1997 (millions) $33.2 $6.2 $16.3 The companies are working pursuant to the requirements of various federal and state agencies to investigate, mitigate, prevent and remediate, where necessary, the environmental impacts to property, including natural resources, at and around the sites in order to protect public health and the environment. The companies each believe that they have completed the remediation at various sites, although they are still in the process of obtaining final approval from the applicable environmental agencies for some of these sites. Each company has recorded environmental liabilities related to the MGP sites; such amounts are based on the best current estimate of the amount to be incurred for investigation, remediation and monitoring costs for those sites where the investigation process has been or is substantially completed, and the minimum of the estimated cost range for those sites where the investigation is in its earlier stages. Management currently estimates the range of costs to be incurred for the investigation, remediation and monitoring of the sites to be approximately $36 million to $83 million. It is possible that future cost estimates will be greater than the current estimates as the investigation process proceeds and as additional facts become known. WP&L completed a comprehensive review of its MGP liability in the third quarter of 1997. This review resulted in a $65 million reduction in the recorded MGP liability, largely due to the approval by the Wisconsin Department of Natural Resources (WDNR) of less costly containment and control strategies as an alternative to excavation processes at various sites. See Note 11 c. of the "Notes to Consolidated Financial Statements" for additional information. Under the current rate making treatment approved by the PSCW, the MGP expenditures, net of any insurance proceeds, are deferred and collected from gas customers over a five-year period after new rates are implemented. The MPUC also allows the deferral of MGP-related costs applicable to the Minnesota sites and IPC has been successful in obtaining approval to recover such costs in rates in Minnesota. While the IUB does not allow for the deferral of MGP-related costs, it has permitted utilities to recover its prudently incurred costs. As a result, regulatory assets have been recorded by each company which reflect the probable future rate recovery, where applicable. Considering the current rate treatment, and assuming no material change therein, each of IESU, IPC and WP&L believes that the clean-up costs incurred for these MGP sites will not have a material adverse effect on their respective financial positions or results of operations. In April 1996, IESU filed a lawsuit against certain of its insurance carriers seeking reimbursement for its MGP-related costs. Settlement discussions are proceeding with its insurance carriers regarding the recovery of these costs. Settlement has been reached with sixteen carriers. In 1994, IPC filed a lawsuit against certain of its insurance carriers to recover its MGP-related costs. Settlements have been reached with eight carriers. Both companies are continuing their pursuit of additional recoveries. Amounts received from insurance carriers are being deferred by IESU and IPC pending a determination of the regulatory treatment of such recoveries. WP&L has settled with twelve carriers and is also continuing to pursue additional recoveries from other carriers. The three companies are unable to predict the amount of any additional insurance recoveries they may realize. The Clean Air Act Amendments of 1990 (Act) require emission reductions of sulfur dioxide (SO2), nitrogen oxides (NOx) and other air pollutants to achieve reductions of atmospheric chemicals believed to cause acid rain. IESU, IPC and WP&L have met the provisions of Phase I of the Act and are in the process of meeting the requirements of Phase II of the Act (effective in the year 2000). The Act also governs SO2 allowances, which are defined as an authorization for an owner to emit one ton of SO2 into the atmosphere. The companies are reviewing their options to ensure they will have sufficient allowances to offset their emissions in the future. The companies believe that the potential costs of complying with these provisions of Title IV of the Act will not have a material adverse impact on their financial position or results of operations. The Act and other federal laws also require the United States Environmental Protection Agency (EPA) to study and regulate, if necessary, additional issues that potentially affect the electric utility industry, including emissions relating to ozone transport, mercury and particulate control as well as modifications to the Polychlorinated Biphenyl (PCB) rules. In July 1997, the EPA issued final rules that would tighten the National Ambient Air Quality Standards (NAAQS) for ozone and particulate matter emissions. IESU, IPC and WP&L are currently reviewing the rules to determine what impact they may have on their operations. In October 1997, the EPA issued a proposed rule to require 22 states, including Wisconsin, to modify their State Implementation Plans (SIPs) to address the ozone transport issue. The proposed rule would require WP&L to reduce its NOx emissions at all of its plants to .15 lbs/mmbtu. WP&L cannot presently predict the final outcome of this proposal but believes that, under the terms of the proposed rule, it would be required to install controls at its plants and that the costs related thereto would be significant. In 1995, the EPA published the Sulfur Dioxide Network Design Review for Cedar Rapids, Iowa, which, based on the EPA's assumptions and worst-case modeling method suggested that the Cedar Rapids area could be classified as "nonattainment" for the NAAQS standards established for SO2. The worst-case modeling suggested that two of IESU's generating facilities contributed to the modeled exceedences. As a result of exceedences at a monitor near one of IESU's generating facilities, the EPA issued a letter to the Iowa Governor's office directing the state to develop a plan of action. In this regard, IESU entered into a consent order with the Iowa Department of Natural Resources (IDNR) in the third quarter of 1997 on this issue. IESU agreed to limit the SO2 emissions from the two noted generating facilities and to install a new stack (potential aggregate capital cost of up to $2.5 million over the next two years) at one of the facilities. The IDNR approved the consent order in the fourth quarter of 1997 and it is expected to be approved by the EPA in the second quarter of 1998. Pursuant to a routine internal review of documents, IESU determined that certain changes undertaken during previous years at one of its generating facilities may have required a federal Prevention of Significant Deterioration (PSD) permit. IESU initiated discussions with its regulators on the matter, resulting in the submittal of a PSD permit application in February 1997. IESU expects to receive the permit in the second quarter of 1998. IESU may be subject to a penalty for not having obtained the permit previously; however, IESU believes that any likely actions resulting from this matter will not have a material adverse effect on its financial position or results of operation. Pursuant to a separate routine internal review of plant operations, IESU determined that certain permit limits were exceeded in 1997 at one of its generating facilities in Cedar Rapids. IESU has initiated discussions with its regulators on the matter and has proposed a compliance plan which contemplates operational changes. In addition, IESU will be submitting a PSD permit application in the second quarter of 1998. IESU may be subject to a penalty for exceeding permit limits established for this facility; however, management believes that any likely actions resulting from this matter will not have a material adverse effect on IESU's financial position or results of operations. A global treaty has been negotiated that could require reductions of greenhouse gas emissions from utility plants. Negotiators left significant implementation and compliance questions open to resolution at meetings to be held starting in November 1998. At this time, management is unable to predict whether Congress will ratify the treaty. Given the uncertainty of the treaty ratification and the ultimate terms of the final regulations, management cannot currently estimate the impact the implementation of the treaty would have on its operations. The Nuclear Waste Policy Act of 1982 (NWPA) assigned responsibility to the U.S. Department of Energy (DOE) to establish a facility for the ultimate disposition of high level waste and spent nuclear fuel and authorized the DOE to enter into contracts with parties for the disposal of such material beginning in January 1998. IESU and WP&L entered into such contracts and have made the agreed payments to the Nuclear Waste Fund (NWF) held by the U.S. Treasury. The companies were subsequently notified by the DOE that it was not able to begin acceptance of spent nuclear fuel by January 31, 1998. Furthermore, DOE has experienced significant delays in its efforts and material acceptance is now expected to occur no earlier than 2010 with the possibility of further delay being likely. IESU and WP&L are evaluating and pursuing multiple options, including litigation and legislation to protect its customers and its contractual and statutory rights that are diminished by delays in the DOE program. The NWPA assigns responsibility for interim storage of spent nuclear fuel to generators of such spent nuclear fuel, such as IESU and WP&L. In accordance with this responsibility, IESU and WP&L have been storing spent nuclear fuel on site at DAEC and Kewaunee, respectively, since plant operations began. DAEC has current on-site capability to store spent fuel until 2001. IESU is currently reviewing its options to expand on-site storage capability. To provide assurance that both the operating and post-shutdown storage needs are satisfied, a combination of expanding the capacity of the existing fuel pool and construction of a dry cask modular facility are being contemplated. With minor modifications, Kewaunee would have sufficient fuel storage capacity to the end of the license life in 2013. Legislation is being considered on the federal level to provide for the establishment of an interim storage facility as early as 2002. The Low-Level Radioactive Waste Policy Amendments Act of 1985 mandates that each state must take responsibility for the storage of low-level radioactive waste produced within its borders. The States of Iowa and Wisconsin are members of the six-state Midwest Interstate Low-Level Radioactive Waste Compact (Compact) which is responsible for development of any new disposal capability within the Compact member states. In June 1997, the Compact commissioners voted to discontinue work on a proposed waste disposal facility in the State of Ohio because the expected cost of such a facility was comparably higher than other options currently available. Dwindling waste volumes and continued access to existing disposal facilities were also reasons cited for the decision. A disposal facility located near Barnwell, South Carolina continues to accept the low-level waste and IESU and WP&L currently ship the waste each produces to such site, thereby minimizing the amount of low-level waste stored on- site. In addition, given technological advances, waste compaction and the reduction in the amount of waste generated, DAEC and Kewaunee each have on-site storage capability sufficient to store low-level waste expected to be generated over at least the next ten years, with continuing access to the Barnwell disposal facility extending that on-site storage capability indefinitely. The National Energy Policy Act of 1992 requires owners of nuclear power plants to pay a special assessment into a "Uranium Enrichment Decontamination and Decommissioning Fund." The assessment is based upon prior nuclear fuel purchases. IESU is recovering the costs associated with this assessment through its electric fuel adjustment clauses over the period the costs are assessed. IESU's 70% share of the future assessment at December 31, 1997 was $8.9 million and has been recorded as a liability with a related regulatory asset for the unrecovered amount. WP&L is also recovering these costs from its customers and at December 31, 1997 had a regulatory asset and a liability of $5.9 million and $5.1 million recorded, respectively. Whiting Petroleum Corporation (Whiting), a wholly-owned subsidiary of Diversified, is responsible for certain dismantlement and abandonment costs related to various off-shore oil and gas platforms (and related on- shore plants and equipment), the most significant of which is located off the coast of California. Whiting estimates the total costs for these properties to be approximately $14 million and the expenditures are not expected to be incurred for approximately five years. Whiting accrues these costs as reserves are extracted, resulting in a recorded liability of $8.6 million at December 31, 1997. Power Supply The power supply concerns of 1997 have raised awareness of the electric system reliability challenges facing Wisconsin and the Midwest region. WP&L was among an 11-member group of Wisconsin energy suppliers that, on October 1, 1997, recommended to the Governor of Wisconsin a series of recommendations to improve electric reliability in the state. The recommendations included additional transmission system capacity to substantially increase Wisconsin's ability to import electricity from other states in the region and additional power plant capacity in eastern Wisconsin. As a result, WP&L and other Wisconsin-based utilities are advocating faster PSCW approval of needed transmission projects. On September 24, 1997, the PSCW ordered WP&L and two other Wisconsin utilities to arrange for additional electric capacity to help maintain reliable service for their customers. In response to this order, WP&L has issued a Request for Proposal (RFP) for contracts to provide WP&L with an additional 150 megawatts of electric capacity beginning as early as June 1, 1999. WP&L anticipates its RFP will result in a purchased power arrangement with a contract period of three to eight years and contract extension or "rollover" options. WP&L expects to award the contract at the end of the second quarter of 1998. Utility officials noted that it will take time to get new transmission and power plant projects approved and built. While utility officials fully expect to meet customer demands in 1998 and 1999, problems still could arise if there are unexpected power plant outages, transmission system outages or extended periods of extremely hot weather. WPLH SELECTED CONSOLIDATED QUARTERLY FINANCIAL DATA (Unaudited) The following unaudited consolidated quarterly data of WPLH, in the opinion of management, include adjustments which are normal and recurring in nature necessary for the fair presentation of the results of operations and financial position. WP&L's results of operations are a significant portion of the consolidated results. The quarterly amounts were affected by, among other items, WP&L's rate activities, seasonal weather conditions and changes in sales and operating expenses. Refer to "Management's Discussion and Analysis of Financial Condition and Results of Operations" for a discussion of these items. Net income in both the first and second quarter of 1997 was lower than the first and second quarter of 1996 primarily due to lower electric and gas margins. The lower margins resulted from warmer weather and several temporary plant outages during the first five months of 1997. In addition, a $3.4 million after-tax gain was recognized on the sale of a combustion turbine in the second quarter of 1996. Earnings per Share Operating Operating Net (basic and Revenues Income Income diluted) Quarter Ended (in thousands except per share data) 1997: March 31 $261,688 $40,637 $21,827 $0.71 June 30 206,681 19,900 9,007 0.29 September 30 214,412 31,877 13,953 0.45 December 31 236,474 36,193 16,467 0.54 1996: March 31 $260,877 $54,012 $31,680 $1.03 June 30 208,293 30,361 16,539 0.54 September 30 212,263 28,417 12,596 0.41 December 31 251,411 30,260 11,093 0.36 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not Applicable. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA INDEX TO FINANCIAL STATEMENTS Page Number Report of Management 53 Report of Independent Public Accountants 54 Consolidated Statements of Income for the Years Ended December 31, 1997, 1996 and 1995 55 Consolidated Balance Sheets, December 31, 1997 and 1996 56 Consolidated Statements of Cash Flows for the Years Ended December 31, 1997, 1996 and 1995 57 Consolidated Statements of Capitalization, December 31, 1997 and 1996 58 Consolidated Statements of Common Shareowners' Investment for the Years Ended December 31, 1997, 1996 and 1995 59 Notes to Consolidated Financial Statements 60 The supplementary data required by this Item are included in Item 7. under the heading "Selected Consolidated Quarterly Financial Data (Unaudited)." WPLH REPORT ON THE FINANCIAL INFORMATION WPL Holdings, Inc. management is responsible for the information and representations contained in the financial statements and in certain other sections of this Annual Report. The consolidated financial statements that follow have been prepared in accordance with generally accepted accounting principles. In addition to selecting appropriate accounting principles, management is responsible for the manner of presentation and for the reliability of the financial information. In fulfilling that responsibility, it is necessary for management to make estimates based on currently available information and judgments of current conditions and circumstances. Through a well-developed system of internal controls, management seeks to ensure the integrity and objectivity of the financial information presented in this report. This system of internal control is designed to provide reasonable assurance that the assets of the company are safeguarded and that the transactions are executed according to management's authorizations and are recorded in accordance with the appropriate accounting principles. The Board of Directors participates in the financial information reporting process through its Audit Committee. Erroll B. Davis Jr. President and Chief Executive Officer WPL Holdings, Inc. Edward M. Gleason Vice President, Treasurer and Corporate Secretary Principal Financial Officer WPL Holdings, Inc. January 30, 1998 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Shareowners of WPL Holdings, Inc.: We have audited the accompanying consolidated balance sheets and statements of capitalization of WPL Holdings, Inc. (a Wisconsin corporation) and subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of income, cash flows and common shareowners' investment for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of WPL Holdings, Inc. and subsidiaries as of December 31, 1997 and 1996, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. ARTHUR ANDERSEN LLP Milwaukee, Wisconsin, January 30, 1998 WPL HOLDINGS, INC. CONSOLIDATED STATEMENTS OF INCOME Year Ended December 31, 1997 1996 1995 (in thousands except for per share data) Operating revenues: Electric $634,143 $589,482 $546,324 Gas 155,883 165,627 139,165 Fees, rents, non-utility energy sales and other 129,229 177,735 121,766 ------- ------- ------- 919,255 932,844 807,255 ------- ------- ------- Operating expenses: Electric production fuels 116,812 114,470 116,488 Purchased power 125,438 81,108 44,940 Purchased gas 99,267 104,830 84,002 Other operation and cost of non-utility energy 254,796 317,608 252,722 Maintenance 48,058 46,492 42,043 Depreciation and amortization 111,289 90,683 86,319 Taxes other than income 34,988 34,603 34,188 ------- ------- ------- 790,648 789,794 660,702 ------- ------- ------- Operating income 128,607 143,050 146,553 ------- ------- ------- Interest expense and other: Interest expense 42,535 42,027 43,559 Allowance for funds used during construction (2,775) (3,208) (2,088) Miscellaneous, net (4,432) (14,098) (5,954) ------- ------- ------- 35,328 24,721 35,517 ------- ------- ------- Income before income taxes and preferred dividend requirement of subsidiary 93,279 118,329 111,036 Income taxes 28,715 41,814 36,108 Preferred dividend requirement of subsidiary 3,310 3,310 3,310 ------- ------- ------- Income from continuing operations 61,254 73,205 71,618 ------- ------- ------- Discontinued operations: Loss from operation of discontinued subsidiary, net of applicable tax benefits of $1,451 - - 2,212 Loss on disposal of subsidiary, net of applicable tax benefit of $575 and tax expense of $3,271 - 1,297 10,974 ------- ------- ------- - 1,297 13,186 ------- ------- ------- Net income $61,254 $71,908 $58,432 ======= ======= ======= Earnings per common share (basic and diluted): Income from continuing operations $1.99 $2.38 $2.33 Discontinued operations - (0.04) (0.43) ----- ----- ----- Net income $1.99 $2.34 $1.90 ===== ===== ===== Weighted average number of shares of common stock outstanding 30,782 30,790 30,774 Cash dividends paid per common share $2.00 $1.97 $1.94 ===== ===== ===== The accompanying notes are an integral part of the consolidated financial statements. WPL HOLDINGS, INC. CONSOLIDATED BALANCE SHEETS December 31, 1997 1996 ASSETS (in thousands) Utility plant: Plant in service-- Electric $1,790,641 $1,729,311 Gas 237,856 227,809 Water 24,864 23,905 Common 195,815 152,093 --------- --------- 2,249,176 2,133,118 Less-accumulated provision for depreciation 1,065,726 967,436 --------- --------- 1,183,450 1,165,682 Construction work in progress 42,312 55,519 Nuclear fuel, net 19,046 19,368 --------- --------- 1,244,808 1,240,569 --------- --------- Other property and equipment: Rental, net 101,835 112,913 Other, net 9,424 16,350 --------- --------- 111,259 129,263 --------- --------- Investments: Nuclear decommissioning trust funds 112,356 90,671 Other investments 28,289 15,408 --------- --------- 140,645 106,079 --------- --------- Current assets: Cash and equivalents 13,987 11,070 Net accounts receivable and unbilled revenue, less allowance for doubtful accounts of $1,104 and $1,524, respectively 78,082 88,798 Coal, at average cost 18,857 15,841 Materials and supplies, at average cost 19,274 19,915 Gas in storage, at average cost 12,504 9,992 Prepaid gross receipts tax 22,153 19,389 Prepayments and other 8,151 7,397 --------- --------- 173,008 172,402 --------- --------- Restricted cash 8,146 6,848 --------- --------- Deferred charges: Regulatory assets 91,314 160,877 Other 92,627 84,493 --------- --------- 183,941 245,370 --------- --------- TOTAL ASSETS $1,861,807 $1,900,531 ========= ========= The accompanying notes are an integral part of the consolidated financial statements. WPL HOLDINGS, INC. CONSOLIDATED BALANCE SHEETS (Continued) December 31, 1997 1996 CAPITALIZATION AND LIABILITIES (in thousands) Capitalization (See Consolidated Statements of Capitalization): Common shareowners' investment $607,583 $607,355 Subsidiary preferred stock not mandatorily redeemable 59,963 59,963 Long-term debt, net 457,520 362,564 --------- --------- 1,125,066 1,029,882 --------- --------- Current liabilities: Current maturities of long-term debt 11,528 67,626 Variable rate demand bonds 56,975 56,975 Short-term debt 123,095 102,779 Accounts payable and accruals 91,175 106,486 Accrued payroll and vacation 16,030 14,500 Accrued income taxes 412 4,669 Accrued interest 8,229 9,085 Other 31,728 45,218 --------- --------- 339,172 407,338 --------- --------- Other credits: Accumulated deferred income taxes 253,519 245,686 Accumulated deferred investment tax credits 35,039 36,931 Accrued environmental remediation costs 9,238 74,075 Deferred credits and other 99,773 106,619 --------- --------- 397,569 463,311 --------- --------- Commitments and contingencies (Note 11) TOTAL CAPITALIZATION AND LIABILITIES $1,861,807 $1,900,531 ========= ========= The accompanying notes are an integral part of the consolidated financial statements. WPL HOLDINGS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS Year Ended December 31, 1997 1996 1995 Cash flows generated from (used for) operating activities: (in thousands) Net income $61,254 $71,908 $58,432 Adjustments to reconcile net income to net cash generated from operating activities: Depreciation and amortization 111,289 90,683 86,319 Deferred income taxes 4,957 7,078 9,908 Investment tax credit restored (1,892) (1,911) (1,916) Amortization of nuclear fuel 4,444 6,057 7,787 Allowance for equity funds used during construction (2,033) (2,270) (1,425) (Gain) loss on sale of subsidiary and investment - (4,149) 10,974 (Gain) loss on disposition of other property and equipment 710 (5,676) - Changes in assets and liabilities: Restricted cash (1,298) (3,582) (49) Net accounts receivable and unbilled revenue 10,716 5,850 (23,183) Inventories (4,887) (4,081) 3,750 Prepayments and other (3,518) 1,201 2,292 Accounts payable and accruals (14,637) 11,661 19,966 Accrued taxes (4,257) (1,814) 88 Other, net (9,625) 19,764 12,974 ------- ------- ------- Net cash from (used for) operating activities 151,223 190,719 185,917 ------- ------- ------- Cash flows generated from (used for) financing activities: Common stock cash dividends (61,562) (60,656) (59,701) Proceeds from issuance of long-term debt 105,000 1,370 756 Reduction of long-term debt (65,921) (5,000) (18,000) Net change in short-term debt 20,316 (6,746) 45,024 Other, net - (1,367) 941 ------- ------- ------- Net cash from (used for) financing activities (2,167) (72,399) (30,980) ------- ------- ------- Cash flows generated from (used for) investing activities: Proceeds from sale of other property and equipment 9,700 36,264 - Additions to utility plant, excluding AFUDC (116,457) (120,732) (99,746) Additions to nuclear fuel (4,123) (6,558) (7,258) Allowance for borrowed funds used during construction (742) (938) (663) Dedicated nuclear decommissioning trust funds (21,685) (17,314) (21,566) Proceeds from sale of subsidiary and investments - 24,930 - Purchase of other property and equipment (2,855) (20,824) (26,696) Contribution to nonutility joint venture (5,000) - - Other, net (4,977) (13,464) 5,105 ------- ------- ------- Net cash from (used for) investing activities (146,139) (118,636) (150,824) ------- ------- ------- Net increase (decrease) in cash and equivalents 2,917 (316) 4,113 Cash and equivalents at beginning of year 11,070 11,386 7,273 ------- ------- ------- Cash and equivalents at end of year $13,987 $11,070 $11,386 ======= ======= ======= Supplemental disclosures of cash flow information: Cash paid during the year: Interest on debt $42,706 $35,855 $39,984 Preferred stock dividends of subsidiary $3,310 $3,310 $3,310 Income taxes $23,662 $39,795 $29,499 The accompanying notes are an integral part of the consolidated financial statements. WPL HOLDINGS, INC. CONSOLIDATED STATEMENTS OF CAPITALIZATION December 31, 1997 1996 (in thousands except for share data) Common shareowners' investment: Common stock $.01 par value, authorized 100,000,000 shares, issued and outstanding--30,788,593 and 30,773,735 shares, respectively $308 $308 Additional paid-in capital 304,392 303,856 Reinvested earnings 302,883 303,191 ------- ------- 607,583 607,355 ------- ------- Preferred stock: Wisconsin Power and Light Company-- Cumulative, without par value, authorized 3,750,000 shares, maximum aggregate stated value $150,000,000: Preferred stock without mandatory redemption, $100 stated value-- 4.50% series, 99,970 shares outstanding 9,997 9,997 4.80% series, 74,912 shares outstanding 7,491 7,491 4.96% series, 64,979 shares outstanding 6,498 6,498 4.40% series, 29,957 shares outstanding 2,996 2,996 4.76% series, 29,947 shares outstanding 2,995 2,995 6.20% series, 150,000 shares outstanding 15,000 15,000 Cumulative, without par value, $25 stated value-- 6.50% series, 599,460 shares outstanding 14,986 14,986 ------- ------- 59,963 59,963 ------- ------- Long-term debt: Wisconsin Power and Light Company-- First mortgage bonds: Series L, 6.25%, due 1998 8,899 8,899 1984 Series A, variable rate, due 2014 (3.80% at 12/31/97) 8,500 8,500 1988 Series A, variable rate, due 2015 (3.80% at 12/31/97) 14,600 14,600 1990 Series V, 9.3%, due 2025 27,000 27,000 1991 Series A, variable rate, due 2015 (5.05% at 12/31/97) 16,000 16,000 1991 Series B, variable rate, due 2005 (5.05% at 12/31/97) 16,000 16,000 1991 Series C, variable rate, due 2000 (5.05% at 12/31/97) 1,000 1,000 1991 Series D, variable rate, due 2000 (5.05% at 12/31/97) 875 875 1992 Series W, 8.6%, due 2027 90,000 90,000 1992 Series X, 7.75%, due 2004 62,000 62,000 1992 Series Y, 7.6%, due 2005 72,000 72,000 1992 Series Z, 6.125%, repaid 1997 - 55,000 Debentures, 7%, due 2007 105,000 - ------- ------- 421,874 371,874 ------- ------- Heartland Development Corporation-- Multifamily Housing Revenue Bonds issued by various housing and community development authorities, due 2004-2024, 2.00% - 7.55% 36,503 37,445 Other mortgage notes payable, due 1998- 2042, 0% - 10.75% 45,106 45,086 ------- ------- 81,609 82,531 ------- ------- WPL Holdings, Inc.-- 8.96% Senior notes, repaid 1997 - 10,000 8.59% Senior notes, due 2004 24,000 24,000 ------- ------- 24,000 34,000 ------- ------- Less-- Current maturities (11,528) (67,626) Variable rate demand bonds (56,975) (56,975) Unamortized discount and premium, net (1,460) (1,240) --------- --------- 457,520 362,564 --------- --------- TOTAL CAPITALIZATION $1,125,066 $1,029,882 ========= ========= The accompanying notes are an integral part of the consolidated financial statements. WPL HOLDINGS, INC. CONSOLIDATED STATEMENTS OF COMMON SHAREOWNERS' INVESTMENT Year Ended December 31, 1997 1996 1995 (in thousands except for per share data) Common stock: Balance at beginning of year $308 $308 $308 ------- ------- ------- Balance at end of year 308 308 308 ------- ------- ------- Additional paid-in capital: Balance at beginning of year 303,856 305,223 304,442 Other 536 (1,367) 781 ------- ------- ------- Balance at end of year 304,392 303,856 305,223 ------- ------- ------- Reinvested earnings: Balance at beginning of year 303,191 291,939 293,048 Net income 61,254 71,908 58,432 Cash dividends ($2.00 per share, $1.97 per share and $1.94 per share, respectively) (61,562) (60,656) (59,701) Expense of issuing stock and other - - 160 -------- -------- -------- Balance at end of year 302,883 303,191 291,939 -------- -------- -------- TOTAL COMMON SHAREOWNERS' INVESTMENT $607,583 $607,355 $597,470 ======== ======== ======== The accompanying notes are an integral part of the consolidated financial statements. WPL HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (dollars in millions except as otherwise indicated) NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES a. General The consolidated financial statements include the accounts of WPL Holdings, Inc. (WPLH) and its consolidated subsidiaries (collectively, the Company). WPLH is an investor-owned holding company whose primary operating company, Wisconsin Power & Light Company (WP&L), is engaged principally in the generation, transmission, distribution and sale of electric energy and the purchase, distribution, transportation and sale of natural gas primarily in the state of Wisconsin. WP&L's principal consolidated subsidiary is South Beloit Water, Gas and Electric Co. The Company also has various non-utility subsidiaries which are primarily engaged in the environmental and engineering service, affordable housing and energy marketing businesses. All subsidiaries for which the Company owns directly or indirectly more than 50% of the voting stock are included as consolidated subsidiaries. All significant intercompany balances and transactions have been eliminated from the consolidated financial statements. Unconsolidated investments for which the Company has at least a 20% interest are generally accounted for under the equity method of accounting. These investments are stated at acquisition cost, increased or decreased for the Company's equity in net income or loss, which is included in "Miscellaneous, net" in the consolidated statements of income and decreased for any dividends received. Investments that do not meet the criteria for consolidation or the equity method of accounting are accounted for under the cost method. Certain reclassifications have been made to the prior years financial statements to conform with the current year presentation. b. Regulation WP&L's financial records are maintained in accordance with the uniform system of accounts prescribed by its regulators. The Public Service Commission of Wisconsin (PSCW) and the Illinois Commerce Commission (ICC) have jurisdiction over retail electric and gas revenues. The Federal Energy Regulatory Commission (FERC) has jurisdiction over wholesale electric revenues. c. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. d. Cash and Equivalents The Company considers all short-term liquid investments with a maturity of three months or less to be cash equivalents. e. Utility Plant and Other Property and Equipment Utility plant and other property and equipment are recorded at original cost. Utility plant costs include financing costs that are capitalized using the FERC method for allowance for funds used during construction (AFUDC). The AFUDC capitalization rates for 1997, 1996 and 1995 were 6.22%, 10.23% and 6.68%, respectively. These capitalized costs are recovered in rates as the cost of the utility plant is depreciated. Normal repairs, maintenance and minor items of utility plant and other property and equipment are expensed. Ordinary utility plant retirements, including removal costs less salvage value, are charged to accumulated depreciation upon removal from utility plant accounts, and no gain or loss is recognized. Upon retirement or sale of other property and equipment, the cost and related accumulated depreciation are removed from the accounts and any gain or loss is included in other income and deductions. f. Depreciation The Company uses the straight-line method of depreciation. For utility plant, straight-line depreciation is computed on the average balance of depreciable property at individual straight-line regulatory-approved rates that consider the estimated useful life and removal cost or salvage value as follows: 1997 1996 1995 Electric 3.6% 3.3% 3.3% Gas 3.8% 3.7% 3.7% Water 2.7% 2.6% 2.5% Common 11.9% 8.1% 7.9% Depreciation expense related to WP&L's share of the decommissioning of the Kewaunee Nuclear Power Plant (Kewaunee) is discussed in Note 11 "Commitments and Contingencies." WP&L implemented higher depreciation rates effective January 1, 1997. Estimated useful lives related to other property and equipment are from 4 to 12 years for equipment and 31.5 to 40 years for buildings. g. Nuclear Fuel Nuclear fuel is recorded at its original cost and is amortized to expense based upon the quantity of heat produced for the generation of electricity. This accumulated amortization assumes spent nuclear fuel will have no residual value. Estimated future disposal costs of such fuel are expensed based on kilowatthours generated. h. Regulatory Assets and Liabilities Statement of Financial Accounting Standards No. 71 (SFAS 71), "Accounting for the Effects of Certain Types of Regulation," provides that rate- regulated public utilities, such as WP&L, record certain costs and credits allowed in the ratemaking process in different periods than for unregulated entities. These are deferred as regulatory assets or regulatory liabilities and are recognized in the consolidated statements of income at the time they are reflected in rates. If a portion of WP&L's operations becomes no longer subject to the provisions of SFAS 71 as a result of competitive restructuring or otherwise, a write-down of related regulatory assets would be required, unless some form of transition cost recovery is established by the appropriate regulatory body that would meet the requirements under generally accepted accounting principles for continued accounting as regulatory assets during such recovery period. In addition, WP&L would be required to determine any impairment to other assets and write-down such assets to their fair value. As of December 31, 1997 and 1996, regulatory-created assets included the following: 1997 1996 Environmental remediation costs (Note 11) $16.3 $81.4 Tax related 52.2 57.2 Jurisdictional plant differences 7.9 7.6 Decontamination and decommissioning costs of federal enrichment facilities 5.9 6.1 Other 9.0 8.6 ----- ----- $91.3 $160.9 ===== ===== As of December 31, 1997 and 1996, WP&L had recorded regulatory-related liabilities of $39.6 and $33.9, respectively. These liabilities are primarily tax related. i. Revenue The Company accrues revenues for services provided but not yet billed at month-end. j. Income Taxes The Company follows the liability method of accounting for deferred income taxes, which requires the establishment of deferred tax assets and liabilities, as appropriate, for all temporary differences between the tax basis of assets and liabilities and the amounts reported in the financial statements using currently enacted tax rates as shown in Note 6. Investment tax credits are accounted for on a deferred basis and reflected in income ratably over the life of the related utility plant. As part of the affordable housing business, the Company is eligible to claim affordable housing and historic rehabilitation credits. These tax credits reduce current federal taxes to the extent the Company has consolidated taxes payable. k. Common Shares Outstanding The weighted average common shares outstanding used in the calculation of basic earnings per share were 30,781,998; 30,789,813 and 30,773,588 for 1997, 1996 and 1995, respectively. The common stock shares used for calculating diluted earnings per share were 30,784,136; 30,793,555 and 30,775,965 for 1997, 1996 and 1995, respectively. NOTE 2. PROPOSED MERGER OF THE COMPANY On November 10, 1995, WPLH, IES Industries Inc. (IES), and Interstate Power Company (IPC) entered into an Agreement and Plan of Merger, as amended (Merger Agreement), providing for: a) IPC becoming a subsidiary of WPLH, and b) the merger of IES with and into WPLH, which merger will result in the combination of IES and WPLH as a single holding company (collectively, the Proposed Merger). The new holding company will be named Interstate Energy Corporation (Merged Company). The Proposed Merger, which will be accounted for as a pooling of interests and is intended to be tax-free for federal income tax purposes, has been approved by the respective Boards of Directors, shareowners, state regulatory agencies and most of the federal agencies. It is still subject to approval by the Securities and Exchange Commission (SEC). The companies expect to receive SEC approval in the second quarter of 1998. The summary below contains selected unaudited pro forma financial data for the year ended December 31, 1997. The financial data should be read in conjunction with the historical consolidated financial statements and related notes thereto of WPLH and in conjunction with the unaudited pro forma combined financial statements and related notes of the Merged Company included elsewhere in this Annual Report on Form 10-K. The pro forma combined earnings per share reflect the issuance of shares associated with the exchange ratios discussed below.
PRO FORMA WPLH IES IPC PRO FORMA COMBINED (as reported) (as reported) (as reported) Adjustments (Unaudited) Operating revenues $919.3 $930.7 $331.8 $118.8 $2,300.6 Income from continuing operations $61.3 $66.3 $26.7 $- $154.3 Earnings per share from continuing operations (basic and diluted) $1.99 $2.18 $2.74 $- $2.02 Assets at December 31, 1997 $1,861.8 $2,457.2 $638.7 ($6.0) $4,951.7 Long-term obligations, net at December 31, 1997 $526.0 $882.4 $195.9 $- $1,604.3
Under the terms of the Merger Agreement, the outstanding shares of WPLH's common stock will remain unchanged and outstanding as shares of the Merged Company's common stock, each outstanding share of IES common stock will be converted to 1.14 shares of the Merged Company's common stock and each share of IPC common stock will be converted to 1.11 shares of the Merged Company's common stock. It is anticipated that the Merged Company will retain WPLH's common share dividend payment level as of the effective time of the Proposed Merger. On January 16, 1998, the Board of Directors of WPLH declared a quarterly dividend of $0.50 per share. This represents an annual rate of $2.00 per share. IES is a holding company headquartered in Cedar Rapids, Iowa, and is the parent company of IES Utilities Inc. (IESU) and IES Diversified Inc. (Diversified). IESU supplies electric and gas service to approximately 339,000 and 178,000 customers, respectively, in Iowa. Diversified and its principal subsidiaries are primarily engaged in the energy-related, transportation and real estate development businesses. IPC, an operating public utility headquartered in Dubuque, Iowa, supplies electric and gas service to approximately 166,000 and 50,000 customers, respectively, in northeast Iowa, northwest Illinois and southern Minnesota. The Merged Company will be the parent company of WP&L, IESU and IPC and will be registered under the Public Utility Holding Company Act of 1935, as amended (1935 Act). The Merger Agreement provides that these operating utility companies will continue to operate as separate entities for a minimum of three years after the effective date of the Proposed Merger. In addition, the non-utility operations of WPLH and IES will be combined shortly after the effective date of the Proposed Merger under one entity to manage the diversified operations of the Merged Company. The corporate headquarters of the Merged Company will be in Madison, Wisconsin. NOTE 3. JOINTLY-OWNED UTILITY PLANTS WP&L participates with other Wisconsin utilities in the construction and operation of several jointly- owned utility generating plants. Each of the respective owners is responsible for the financing of its portion of the construction costs. Kilowatthour generation and operating expenses are divided on the same basis of ownership with each owner reflecting its respective costs in its consolidated statements of income. The chart below represents WP&L's proportionate share of such plants as reflected in the consolidated balance sheets at December 31, 1997 and 1996.
1997 1996 Accumulated Plant Provision Accumulated Ownership Inservice MW Plant in for Plant in Provision for Interest % Date Capacity Service Depreciation CWIP Service Depreciation CWIP Coal: Columbia Energy 1975 & Center 46.2 1978 1,023 $161.4 $89.2 $0.8 $161.8 $86.4 $1.6 Edgewater Unit 4 68.2 1969 330 51.5 29.5 1.0 50.8 28.0 0.7 Edgewater Unit 5 75.0 1985 380 229.4 79.8 0.1 228.8 73.7 0.0 Nuclear: Kewaunee Nuclear Power Plant 41.0 1974 535 132.0 86.6 0.3 131.2 80.6 0.8 ----- ----- ---- ----- ----- ---- Total $574.3 $285.1 $2.2 $572.6 $268.7 $3.1 ===== ===== ==== ===== ===== ====
NOTE 4. UTILITY ACCOUNTS RECEIVABLE WP&L has a contract with a financial organization to sell, with limited recourse, certain accounts receivable and unbilled revenues. These receivables include customer receivables, sales to other public utilities and billings to the co-owners of the jointly-owned electric generating plants that WP&L operates. The contract allows WP&L to sell up to $150.0 of receivables at any time. Expenses related to the sale of receivables are paid to the financial organization under this contract, and include, along with various other fees, a monthly discount charge on the outstanding balance of receivables sold that approximated a 5.83% annual rate during 1997. These costs are recovered in retail utility rates as an operating expense. All billing and collection functions remain the responsibility of WP&L. The contract expires August 16, 1998, unless extended by mutual agreement. As of December 31, 1997 and 1996, the balance of sold accounts receivable that had not been collected totaled $91.0 and $86.5, respectively. During 1997, the monthly proceeds from the sale of accounts receivable averaged $92.1, compared with $86.6 in 1996. As of December 31, 1997, the amount of sold receivables subject to recourse was $8.2. The Company does not have any significant concentrations of credit risk in the December 31, 1997 and 1996 utility accounts receivable balances. In June 1996, the Financial Accounting Standards Board (FASB) issued SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," which establishes standards for asset and liability recognition when transfers occur. This statement, effective January 1, 1997, specifies conditions when control has been surrendered which determines if sale treatment of the receivables would be allowed. This standard has not had any impact on the Company's financial position or results of operations. NOTE 5. EMPLOYEE BENEFIT PLANS a. Pension Plans WP&L has noncontributory, defined benefit retirement plans covering substantially all employees. The benefits are based upon years of service and levels of compensation. The projected unit credit actuarial cost method was used to compute net pension costs and the accumulated and projected benefit obligations. WP&L's policy is to fund the pension cost in an amount that is at least equal to the minimum funding requirements mandated by the Employee Retirement Income Security Act of 1974, as amended (ERISA), and that does not exceed the maximum tax deductible amount for the year. The following table sets forth the funded status of the plans and amounts recognized in the Company's consolidated balance sheets at December 31, 1997 and 1996: 1997 1996 Accumulated benefit obligation Vested benefits ($173.4) ($161.0) Non-vested benefits (6.1) (3.3) ------ ------ Total (179.5) (164.3) Projected benefit obligation (205.1) (189.6) Plan assets at fair value 244.4 218.9 ------ ------ Plan assets in excess of projected benefit obligation 39.3 29.3 Unrecognized net transition asset (12.0) (14.5) Unrecognized prior service cost 7.8 3.7 Unrecognized net loss 0.8 15.0 ----- ----- Prepaid pension costs $35.9 $33.5 ===== ===== Assumed rate of return on plan assets 9.00% 9.00% ===== ===== Discount rate of projected benefit obligation 7.25% 7.50% ===== ===== Range of assumed rate increases for future compensation levels 3.50-4.50% 3.50-4.50% ========== ========== The net pension cost (benefit) recognized in the consolidated statements of income for 1997, 1996 and 1995 included the following components: 1997 1996 1995 Service cost $4.8 $5.1 $3.9 Interest cost on projected benefit obligation 13.8 13.6 12.9 Actual return on assets (36.2) (25.0) (31.6) Amortization and deferrals 15.1 5.5 15.1 ----- ----- ----- Net pension cost (benefit) ($2.5) ($0.8) $0.3 ===== ===== ===== During 1997, WP&L expensed $1.3 for an early retirement program for eligible bargaining unit employees. b. Other Postretirement Benefits WP&L accrues for the expected cost of postretirement health-care and life insurance benefits during the employees' years of service based on actuarial methodologies that closely parallel pension accounting requirements. WP&L elected delayed recognition of the transition obligation in accordance with current accounting principles and is amortizing the discounted present value of the transition obligation to expense over 20 years. For WP&L, the cost of providing postretirement benefits, including the transition obligation, is being recovered in retail rates under current regulatory practices. WP&L's policy is to fund the postretirement cost in an amount that is at least equal to the minimum funding requirements mandated by ERISA and that does not exceed the maximum tax deductible amount for the year. The following table sets forth the funded status of the plans and amounts recognized in the Company's consolidated balance sheets at December 31, 1997 and 1996: 1997 1996 Accumulated benefit obligation Retirees ($31.4) ($32.2) Fully eligible active plan participants (4.4) (5.0) Other active plan participants (11.3) (9.4) ----- ----- Total (47.1) (46.6) Plan assets at fair value 16.1 13.8 ----- ----- Accumulated benefit obligation in excess of plan assets (31.0) (32.8) Unrecognized transition obligation 21.0 23.5 Unrecognized prior service cost (0.3) (0.3) Unrecognized net gain (8.3) (5.0) ----- ----- Accrued postretirement benefits liability ($18.6) ($14.6) ===== ===== Assumed rate of return on plan assets 9.00% 9.00% ===== ===== Discount rate of projected benefit obligation 7.25% 7.50% ===== ===== Medical cost trend on paid charges: Initial trend rate 8.00% 9.00% ===== ===== Ultimate trend rate 5.00% 5.00% ===== ===== The net postretirement benefits cost recognized in the consolidated statements of income for 1997, 1996 and 1995 included the following components: 1997 1996 1995 Service cost $1.8 $1.8 $1.5 Interest cost on projected benefit obligation 3.3 3.4 3.6 Actual return on assets (1.9) (1.3) (2.1) Amortization of transition obligation 1.5 1.5 1.5 Amortization and deferrals 0.5 0.3 1.3 ---- ---- ---- Net postretirement benefits cost $5.2 $5.7 $5.8 ==== ==== ==== Increasing the assumed health-care cost trend rate by one percentage point in each year would increase the accumulated postretirement benefit obligation as of December 31, 1997 by $2.7 and the aggregate of the service and interest cost components of the net periodic postretirement benefit cost for the year by $0.4. During 1997, WP&L expensed $1.7 for an early retirement program for eligible bargaining unit employees. c. Long-Term Equity Incentive Plan WPLH has a long-term equity incentive plan which permits the grant of non- qualified stock options, incentive stock options, restricted stock, performance shares and performance units to key employees. As of December 31, 1997, only non-qualified stock options and equivalent performance units had been granted to key employees. The maximum number of shares of common stock that may be issued under the plan may not exceed one million. Options granted to date become exercisable after three years. Options outstanding will expire no later than 10 years after the grant date. The first options were granted in 1995 and will become exercisable in January 1998. No options have been canceled or exercised to date. The options granted and the value of those options using the Black-Scholes model is as follows: 1997 1996 1995 Options granted 77,650 72,250 41,900 Weighted average Black- Scholes value of options $2.15 $2.23 $2.71 Volatility 0.15 0.16 0.16 Risk free interest rate 6.13% 5.26% 7.84% Expected life 3 years 3 years 3 years Annual dividend rate 7.0% 7.0% 7.0% WPLH follows APB Opinion 25, "Accounting for Stock Issued to Employees," to account for stock options. No compensation cost is recognized because the option exercise price is equal to the market price of the underlying stock on the date of grant. Had compensation cost for the plan been determined based on the Black-Scholes value at the grant dates for awards as prescribed by SFAS No. 123 "Accounting for Stock-Based Compensation," pro forma net income and earnings per share would have been: 1997 1996 1995 Pro forma net income $61.1 $71.7 $58.3 Pro forma earnings per share (basic and diluted) $1.98 $2.33 $1.90 The performance units granted under the plan to date are expensed over the three-year vesting period based on the current dividend rate. In 1997, 1996 and 1995, WPLH recognized expense of $0.4, $0.2 and $0.1, respectively. NOTE 6. INCOME TAXES The following table reconciles the statutory federal income tax rate to the effective income tax rate on continuing operations: 1997 1996 1995 35.0% 35.0% Statutory federal income tax rate 35.0% State income taxes, net of federal benefit 7.0 6.8 6.0 Investment tax credits restored (2.0) (1.6) (1.7) Amortization of excess deferred taxes (1.6) (1.4) (1.5) Affordable housing and historical tax credits (6.7) (5.0) (4.5) Adjustment of prior period taxes (2.6) - - Other differences, net 1.7 1.6 (0.8) ----- ----- ----- Effective income tax 30.8% 35.4% 32.5% ===== ===== ===== The breakdown of income tax expense as reflected in the consolidated statements of income is as follows: 1997 1996 1995 Current federal $25.2 $32.8 $25.9 Current state 6.6 9.7 7.2 Deferred 5.0 7.1 9.9 Investment tax credit restored (1.9) (1.9) (1.9) Affordable housing and historical tax credits (6.2) (5.9) (5.0) ---- ---- ---- $28.7 $41.8 $36.1 ==== ==== ==== The temporary differences that resulted in accumulated deferred income tax (assets) and liabilities as of December 31, 1997 and 1996, are as follows: 1997 1996 Property related $295.4 $282.0 Investment tax credit related (23.5) (19.9) Decommissioning related (16.0) (14.5) Other (2.4) (1.9) ---- ---- $253.5 $245.7 ==== ==== NOTE 7. SHORT-TERM DEBT AND LINES OF CREDIT WPLH and its subsidiaries maintain committed bank lines of credit, most of which are at the bank prime rates, to obtain short-term borrowing flexibility, including pledging lines of credit as security for any commercial paper outstanding. Amounts available under these lines of credit totaled $170.0 as of December 31, 1997. Information regarding short-term debt and lines of credit is as follows: 1997 1996 1995 As of year end-- Lines of credit borrowings - - - Commercial paper outstanding $81.0 $59.5 $56.5 Notes payable outstanding $42.1 $43.3 $53.0 Discount rates on commercial paper 5.48-5.90% 5.35-5.65% 5.73-5.77% Interest rates on notes payable 5.00-5.90% 5.28-6.31% 5.80-6.42% For the year ended-- Maximum month-end amount of short-term debt $140.0 $103.5 $117.0 Average amount of short-term debt (based on daily outstanding balances) $94.5 $60.8 $68.7 Average interest rate on short-term debt 5.65% 5.72% 5.95% NOTE 8. DERIVATIVE FINANCIAL INSTRUMENTS The Company has only limited involvement with derivative financial instruments and does not use them for trading purposes. They are used to manage well-defined interest rate and commodity price risks. Interest rate swaps and forward contracts: WP&L enters into interest rate swap agreements to reduce the impact of changes in interest rates on its floating-rate debt and fees associated with the sale of its accounts receivable. The notional principal amount of interest rate swaps outstanding as of December 31, 1997, was $40.0. Average variable rates are based on rates implied in the forward yield curve at the reporting date. The average pay and receive rates associated with these agreements are 4.11% and 3.61%, respectively. The swap agreements have contract maturities from three months to two years. It is not WP&L's intent to terminate these contracts; however, the total cost to WP&L if it had terminated all of the agreements existing at December 31, 1997 would have been $0.2. In 1995, WP&L entered into an interest rate forward contract related to the anticipated issuance of $60.0 of long-term debt securities. The securities were not issued in 1996 and the forward contract was closed which resulted in a gain of $0.8 to WP&L. The gain was deferred and was recognized as an adjustment to interest expense over the life of the debt securities issued during 1997 as discussed in Note 10(b). On April 28, 1997, WP&L entered into an interest rate forward contract to hedge interest rate risk related to the anticipated issuance of $105.0 of long-term debt securities. The securities were issued in June 1997 and the forward contract was settled which resulted in a cash payment of $3.8 by WP&L. This payment was recognized as an adjustment to interest expense over the life of the new debt securities to approximate the interest rate implicit in the forward contract. Gas Swaps: WP&L uses gas commodity swaps to reduce the impact of price fluctuations on gas purchased and injected into storage during the summer months and withdrawn and sold at current market prices during the winter months. The notional amount of gas commodity swaps outstanding as of December 31, 1997 was 4.8 million dekatherms. Variances between underlying commodity prices and financial contracts on these agreements are deferred and recognized as increases or decreases in the cost of gas at the time the storage gas is sold. It is not WP&L's intent to terminate these contracts; however, the total cost to WP&L if it had terminated all of the agreements existing at December 31, 1997 would have been a gain of $1.0. Other: The Company's non-utility energy marketing business periodically uses commodity futures contracts, options and swaps to hedge the impact of natural gas and electric power price fluctuations on its purchase and sale commitments. Gains and losses on these instruments are deferred and recognized in income as adjustments to the costs of energy when the related transaction being hedged is finalized. At December 31, 1997 and 1996, the instruments outstanding were immaterial. NOTE 9. FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used to estimate the fair value of each class of financial instruments: Current Assets and Current Liabilities - The carrying amount approximates fair value due to the short maturities of these financial instruments. Nuclear Decommissioning Trust Funds - As of December 31, 1997 and 1996, the investments in the nuclear decommissioning trust fund are carried at fair value, as reported by the trustee. The balance as shown on the consolidated balance sheets included a net unrealized gain of $16.4 and $9.4 as of December 31, 1997 and 1996, respectively. Preferred Stock of WP&L - Based on quoted market prices for the same or similar issues. Long-Term Debt - Based upon the market yield of similar securities and quoted market prices on the current rates for debt of the same remaining maturities. The estimated fair values of financial instruments at December 31, 1997 and 1996: 1997 1996 Carrying Fair Carrying Fair Value Value Value Value Nuclear decommissioning trust funds $112.4 $112.4 $90.7 $90.7 Preferred stock 60.0 51.7 60.0 47.7 Long-term debt, including current portion 526.0 555.7 487.2 503.5 Since WP&L is subject to regulation, any gains or losses related to the difference between the carrying amount and the fair value of WP&L's nuclear decommissioning trust funds and long-term debt may not be realized by the Company's shareowners. NOTE 10. CAPITALIZATION a. Common Shareowners' Investment During 1997, 1996 and 1995, the Company did not issue any new shares of common stock through either its Shareowner Direct Plan or 401(k) Savings Plan. In February 1989, the Board of Directors of the Company declared a dividend distribution of one common stock purchase right (right) on each outstanding share of the Company's common stock. Each right would initially entitle shareowners to buy one-half of one share of the Company's common stock at an exercise price of $60.00 per share, subject to adjustment. The rights are not currently exercisable, but would become exercisable if certain events occurred related to a person or group acquiring or attempting to acquire 20% or more of the outstanding shares of common stock. The rights expire on February 22, 1999, unless redeemed or exchanged earlier by the Company. A retail rate order effective April 29, 1997 requires WP&L to maintain a utility common equity level of 52.00% of total utility capitalization. In addition, the PSCW ordered that it must approve the payment of dividends by WP&L to the Company that are in excess of the level forecasted in the rate order ($58.3), if such dividends would reduce WP&L's average common equity ratio below 52.00% of total capitalization. Based on a 13-month average for 1997, WP&L's common equity ratio was 52.56%. b. Long-Term Debt Substantially all of WP&L's utility plant is secured by its first mortgage bonds. In addition, the Company's long-term debt includes unsecured debentures, notes payable and revenue bonds related to its affordable housing properties. Current maturities of long-term debt of the Company are as follows: $11.5 in 1998, $4.5 in 1999, $4.1 in 2000, $2.6 in 2001 and $2.7 in 2002. In June 1997, WP&L issued $105.0 of 7% Debentures due June 15, 2007. Approximately $50.0 of the net proceeds was used to repay maturing short- term debt and finance utility construction expenditures. The balance of the proceeds was used to retire the $55.0 of WP&L's First Mortgage Bonds, Series Z, 6.125%, due July 15, 1997. NOTE 11. COMMITMENTS AND CONTINGENCIES a. Coal Contract Commitments To ensure an adequate supply of coal, WP&L has entered into certain long-term coal contracts. These contracts include a demand or take-or-pay clause under which payments are required if contracted quantities are not purchased. Purchase obligations on these coal and related rail contracts total approximately 12.5 million tons through December 31, 2002. WP&L's management believes it will meet minimum coal and rail purchase obligations under the contracts. Minimum purchase obligations on these contracts over the next five years are estimated to be $36.0 in 1998, $29.0 in 1999, $9.0 in 2000, $9.0 in 2001 and $4.0 in 2002. b. Purchased Power and Gas Under firm purchased power and gas contracts, the Company is obligated as follows: Power Gas 1998 $72.0 $37.0 1999 76.3 32.7 2000 86.5 27.1 2001 38.1 22.4 2002 28.0 18.0 Thereafter 58.0 29.6 c. Manufactured Gas Plant Sites WP&L has a current or previous ownership interest in 11 properties, consisting of 14 individual sites, associated in the past with the production of manufactured gas. Some of these sites contain coal tar waste products which may present an environmental hazard. WP&L owns six of these sites, three are currently owned by municipalities and the remaining five are all or partially owned by private companies. WP&L conducted a comprehensive review in the third quarter of 1997 of its liability at each of the 14 sites. This comprehensive review considered several recent significant developments and resulted in a reduction in the estimate of the probable liability for cleanup. At December 31, 1997, the liability is $9.2. In addition, management believes it is possible, but not likely, that an additional $3.2 of remediation costs may be incurred. In 1996, the Wisconsin Department of Natural Resources (DNR) approved less costly containment and control strategies as an alternative to excavation processes at two sites. The decline in the liability of approximately $65.0 from December 31, 1996 to December 31, 1997, is due to the successful implementation of these strategies at those two sites and several additional sites. Further reductions in the liability resulted from WP&L receiving an additional close out letter from the DNR, bringing the total number of sites with close out letters to four. The cleanup estimate discussed above includes the costs of feasibility studies, data collection, soil and groundwater remediation activities, and ongoing monitoring activities through 2027. The estimate is based on a number of factors including the estimated extent and volume of contaminated soil and/or groundwater. Changes in the estimate are reasonably possible in the near term. Changes in the liability do not immediately impact the earnings of WP&L. Under the current rate making treatment approved by the PSCW, the costs expended in the environmental remediation of these sites, net of any insurance proceeds, are deferred and collected from gas customers over a five-year period after new rates are implemented. Although no assurance can be given, management currently believes future costs will also be recovered in rates. The associated regulatory asset is $16.3 as of December 31, 1997. d. Spent Nuclear Fuel and Decommissioning Costs The current cost of WP&L's share of the estimated costs to decommission Kewaunee ($181.3), assuming early retirement, exceeds the trust assets at December 31, 1997 ($112.4) by $68.9. The costs of decommissioning are assumed to escalate at an annual rate of 5.83%. As required by the PSCW and FERC, WP&L makes annual contributions to qualified and nonqualified external trust funds to provide for decommissioning of Kewaunee. The Company's annual contribution was $14.3 for 1997 and $10.7 for 1996 and 1995. These amounts are fully recovered in rates. The after-tax income of the external trust funds was $3.2 , $2.7 and $2.8 for 1997, 1996 and 1995, respectively. Decommissioning costs, which include the annual contribution to external trust funds and earnings on the assets of these trusts, are recorded as depreciation expense in the consolidated statements of income with the cumulative amount included in the accumulated provision for depreciation on the consolidated balance sheets. As of December 31, 1997, the total decommissioning costs included in the accumulated provision for depreciation were $112.4 . Under the Nuclear Waste Policy Act of 1982, the U.S. Department of Energy (DOE) is responsible for the ultimate storage and disposal of spent nuclear fuel removed from nuclear reactors. Interim storage space for spent nuclear fuel is currently provided at Kewaunee. Currently, there is on-site storage capacity for spent fuel through the year 2001. An investment of approximately $2.5 could provide additional storage sufficient to meet spent fuel storage needs until the expiration of the current operating license. The following summarizes the Company's investment in nuclear fuel at December 31, 1997 and 1996: 1997 1996 Original cost of nuclear fuel $169.6 $166.4 Less-Accumulated amortization 150.5 147.0 ----- ----- Nuclear fuel, net $19.1 $ 19.4 ===== ===== e. Nuclear Performance WP&L has a 41% ownership interest in Kewaunee. Kewaunee resumed operations on June 12, 1997 after being out of service since September 21, 1996 for refueling and repairs to the steam generator tubes. The joint owners continue to analyze and discuss other options related to the future of Kewaunee, including various ownership transfer alternatives. f. Nuclear Insurance The Price Anderson Act provides for the payment of funds for public liability claims arising from a nuclear incident. Accordingly, in the event of a nuclear incident, WP&L, as a 41% owner of Kewaunee, is subject to an overall assessment of approximately $32.5 per incident, not to exceed $4.1 payable in any given year. Through its membership in Nuclear Mutual Limited and Nuclear Electric Insurance Limited, WP&L has obtained property damage and decontamination insurance totaling $1.8 billion for loss from damage at Kewaunee. In addition, WP&L maintains outage and replacement power insurance coverage totaling $101.4 in the event an outage exceeds 21 weeks. g. Planned Capital Expenditures Plans for the construction and financing of future additions to utility plant can be found elsewhere in this report under "Management's Discussion and Analysis of Financial Condition and Results of Operations." h. Loan Commitments As of December 31, 1997, HDC had extended commitments to provide $15.7 in nonrecourse, fixed rate, permanent financing to developers which are secured by affordable housing properties. The Company anticipates other lenders will ultimately finance these properties. NOTE 12. DISCONTINUED OPERATIONS The Company's financial statements reflect the discontinuance of operations of its utility energy and marketing consulting business in 1995. The discontinuance of this business resulted in a pre-tax loss in the fourth quarter of 1995 of $7.7. The after tax loss on disposition was $11.0 reflecting the associated tax expense on disposition due to the non- deductibility of the carrying value of goodwill at sale. During 1996, the Company recognized an additional loss of $1.3, net of applicable income tax benefit, associated with the final disposition of the business. Operating revenues, operating expenses, other income and expense and income taxes for the discontinued operations for the time periods presented have been excluded from income from continuing operations. Interest expense has been adjusted for the amounts associated with direct obligations of the discontinued operations. NOTE 13. SEGMENT INFORMATION The following table sets forth certain information relating to the Company's consolidated continuing operations: 1997 1996 1995 Operation information: Customer revenues-- Electric-utility $634.1 $589.5 $546.3 Gas-utility 155.9 165.6 139.2 Environmental and engineering services 78.1 84.8 88.6 Other 51.1 92.9 33.2 Operating income (loss)-- Electric-utility $125.9 $136.3 $134.2 Gas-utility 13.7 18.9 17.0 Environmental and engineering services (2.0) 0.1 3.7 Other (a) (9.0) (12.2) (8.3) Investment information: Identifiable assets, including allocated common plant at December 31-- Electric-utility $1,245.2 $1,225.3 $1,226.8 Gas-utility 193.6 262.1 250.6 Environmental and engineering services 26.6 33.5 38.1 Other 396.4 379.6 356.9 Other information: Construction, decommissioning and nuclear fuel-- Electric-utility $123.8 $125.9 $122.3 Gas-utility 15.3 18.0 16.9 Other 14.2 22.5 14.6 Depreciation and amortization expense-- Electric-utility $91.2 $74.5 $71.4 Gas-utility 12.3 9.8 9.6 Other 7.8 6.4 5.3 (a) Excludes the effects of affordable housing and historical tax credits of $6.2, $5.9 and $5.0 in 1997, 1996 and 1995, respectively. NOTE 14. CARGILL JOINT VENTURE In July 1997, the Company announced a joint venture with Cargill Incorporated to market electricity and risk management services to wholesale buyers. This joint venture, in which the Company has a 50% interest, is named Cargill-Alliant. The joint venture is accounted for using the equity method. As of December 31, 1997, the carrying amount of the investment was $4.7. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required by Item 10 relating to directors and nominees for election of directors at the 1998 Annual Meeting of Shareowners will be incorporated herein by reference to the relevant information in WPLH's Proxy Statement for the 1998 Annual Meeting of Shareowners (the 1998 Proxy Statement) upon the filing of the 1998 Proxy Statement with the Securities and Exchange Commission. The executive officers of the registrant as of the date of this filing are as follows (figures following the names represent the officer's age as of December 31, 1997): Executive Officers of WPL Holdings, Inc. Erroll B. Davis, Jr., 53, was elected President effective January 1990 and Chief Executive Officer effective July 1990 and has been a board member since March 1988. Edward M. Gleason, 57, was elected Corporate Secretary effective December 1993 and Vice President-Treasurer effective October 1993. He has also served as Controller, Treasurer, and Corporate Secretary of WP&L since 1996, Corporate Secretary of WP&L from 1993 to 1996 and Vice President- Finance and Treasurer of WP&L from 1986 to 1993. Mr. Gleason functions as principal financial officer of WPL Holdings, Inc. and WP&L. Steven F. Price, 45, was elected Assistant Corporate Secretary and Assistant Treasurer effective April 1992. NOTE: None of the executive officers listed above is related to any member of the Board of Directors or nominee for director. Executive officers have no definite terms of office and serve at the pleasure of the Board of Directors. ITEM 11. EXECUTIVE COMPENSATION The information required by Item 11 will be incorporated herein by reference to the relevant information in the 1998 Proxy Statement upon the filing of the 1998 Proxy Statement with the Securities and Exchange Commission. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by Item 12 will be incorporated herein by reference to the relevant information in the 1998 Proxy Statement upon the filing of the 1998 Proxy Statement with the Securities and Exchange Commission. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by Item 13 will be incorporated herein by reference to the relevant information in the 1998 Proxy Statement upon filing of the 1998 Proxy Statement with the Securities and Exchange Commission. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) (1) Consolidated Financial Statements Refer to Index to Financial Statements at Item 8 "Financial Statements and Supplementary Data." (a) (2) Financial Statement Schedules Report of Independent Public Accountants on Schedules Schedule I. Parent Company Financial Statements Schedule II. Valuation and Qualifying Accounts and Reserves NOTE: All other schedules are omitted because they are not applicable or not required, or because that required information is shown either in the consolidated financial statements or in the notes thereto. (a) (3) Exhibits Required by Securities and Exchange Commission Regulation S-K The following Exhibits are filed herewith or incorporated herein by reference. Documents indicated by an asterisk (*) are incorporated herein by reference. 2A* Agreement and Plan of Merger, dated as of November 10, 1995, by and among WPL Holdings, Inc., IES industries Inc., Interstate Power Company and AMW Acquisition, Inc. (incorporated by reference to Exhibit 2.1 to WPLH's Current Report on Form 8-K, dated November 10, 1995) 2B* Amendment No. 1 to Agreement and Plan of Merger and Stock Option Agreements, dated May 22, 1996, by and among WPL Holdings, Inc., IES Industries Inc., Interstate Power Company, a Delaware Corporation, AMW Acquisition, Inc., WPLH Acquisition Co. and Interstate Power Company, a Wisconsin Corporation (incorporated by reference to Exhibit 2.1 to WPLH's Current Report on Form 8- K, dated May 22, 1996) 2C* Amendment No. 2 to Agreement and Plan of Merger, dated August 16, 1996, by and among WPL Holdings, Inc., IES Industries Inc., Interstate Power Company, a Delaware Corporation, WPLH Acquisition Co. and Interstate Power Company, a Wisconsin Corporation (incorporated by reference to Exhibit 2.1 to WPLH's Current Report on Form 8-K, dated August 15, 1996) 2D* Option Grantor/Option Holder Stock Option and Trigger Payment Agreement, dated as of November 10, 1995, by and among WPL Holdings, Inc. and IES Industries Inc. (incorporated by reference to Annex B to WPL Holdings, Inc.'s Registration Statement on Form S-4 (No. 333-07931)) 2E* Option Grantor/Option Holder Stock Option and Trigger Payment Agreement, dated as of November 10, 1995, by and among WPL Holdings, Inc. and Interstate Power Company. (incorporated by reference to Annex C to WPL Holdings, Inc.'s Registration Statement on Form S-4 (No. 333-07931)) 2F* Option Grantor/Option Holder Stock Option and Trigger Payment Agreement, dated as of November 10, 1995, by and among IES Industries Inc. and WPL Holdings, Inc. (incorporated by reference to Annex D to WPL Holdings, Inc.'s Registration Statement on Form S-4 (No. 333-07931)) 2G* Option Grantor/Option Holder Stock Option and Trigger Payment Agreement, dated as of November 10, 1995, by and among IES Industries, Inc. and Interstate Power Company. (incorporated by reference to Annex E to WPL Holdings, Inc.'s Registration Statement on Form S-4 (No. 333-07931)) 2H* Option Grantor/Option Holder Stock Option and Trigger Payment Agreement, dated as of November 10, 1995, by and among Interstate Power Company and WPL Holdings, Inc. (incorporated by reference to Annex F to WPL Holdings, Inc.'s Registration Statement on Form S-4 (No. 333-07931)) 2I* Option Grantor/Option Holder Stock Option and Trigger Payment Agreement, dated as of November 10, 1995, by and among Interstate Power Company and IES Industries Inc. (incorporated by reference to Annex G to WPL Holdings, Inc.'s Registration Statement on Form S-4 (No. 333-07931)) 3A* Restated Articles of Incorporation of WPL Holdings, Inc. (incorporated by reference to Exhibit 4.1 to WPL Holdings, Inc.'s Form S-3 Registration Statement No. 33-59972) 3B* Form of Amendment of the Restated Articles of Incorporation of WPL Holdings, Inc. (incorporated by reference to Exhibit 4.2 to WPL Holdings, Inc.'s Registration Statement on Form S-4 (No. 333-07931)) 3C* By-Laws of WPL Holdings, Inc. as Amended (incorporated by reference to Exhibit 3B to WPL Holdings, Inc.'s Quarterly Report on Form 10-Q for the quarter ended June 30, 1996) 4A* Indenture of Mortgage or Deed of Trust dated August 1, 1941, between WP&L and First Wisconsin Trust Company and George B. Luhman, as Trustees, filed as Exhibit 7(a) in File No. 2-6409, and the indentures supplemental thereto dated, respectively, January 1, 1948, September 1, 1948, June 1, 1950, April 1, 1951, April 1, 1952, September 1, 1953, October 1, 1954, March 1, 1959, May 1, 1962, August 1, 1968, June 1, 1969, October 1, 1970, July 1, 1971, April 1, 1974, December 1, 1975, May 1, 1976, May 15, 1978, August 1, 1980, January 15, 1981, August 1, 1984, January 15, 1986, June 1, 1986, August 1, 1988, December 1, 1990, September 1, 1991, October 1, 1991, March 1, 1992, May 1, 1992, June 1, 1992 and July 1, 1992 (Second Amended Exhibit 7(b) in File No. 2-7361; Amended Exhibit 7(c) in File No. 2-7628; Amended Exhibit 7.02 in File No. 2-8462; Amended Exhibit 7.02 in File No. 2-8882; Second Amendment Exhibit 4.03 in File No. 2-9526; Amended Exhibit 4.03 in File No. 2-10406; Amended Exhibit 2.02 in File No. 2-11130; Amended Exhibit 2.02 in File No. 2-14816; Amended Exhibit 2.02 in File No. 2-20372; Amended Exhibit 2.02 in File No. 2-29738; Amended Exhibit 2.02 in File No. 2-32947; Amended Exhibit 2.02 in File No. 2-38304; Amended Exhibit 2.02 in File No. 2-40802; Amended Exhibit 2.02 in File No. 2-50308; Exhibit 2.01(a) in File No. 2-57775; Amended Exhibit 2.02 in File No. 2-56036; Amended Exhibit 2.02 in File No. 2-61439; Exhibit 4.02 in File No. 2-70534; Amended Exhibit 4.03 File No. 2-70534; Exhibit 4.02 in File No. 33-2579; Amended Exhibit 4.03 in File No. 33-2579; Amended Exhibit 4.02 in File No. 33-4961; Exhibit 4B to WP&L's Form 10-K for the year ended December 31, 1988, Exhibit 4.1 to WP&L's Form 8-K dated December 10, 1990, Amended Exhibit 4.26 in File No. 33-45726, Amended Exhibit 4.27 in File No.33-45726, Exhibit 4.1 to WP&L's Form 8-K dated March 9, 1992, Exhibit 4.1 to WP&L's Form 8-K dated May 12, 1992, Exhibit 4.1 to WP&L's Form 8-K dated June 29, 1992 and Exhibit 4.1 to WP&L's Form 8-K dated July 20, 1992) 4B* Rights Agreement, dated February 22, 1989, between WPL Holdings, Inc. and Morgan Shareholder Services Trust Company (incorporated by reference to Exhibit 4 to WPL Holdings, Inc.'s Current Report on Form 8-K dated February 27, 1989) 4C* Indenture, dated as of June 20, 1997, between WP&L and Firstar Trust Company, as Trustee, relating to debt securities (incorporated by reference to Exhibit 4.33 to Amendment No. 2 to WP&L's Registration Statement on Form S-3 (Registration No. 33- 60917)) 4D* Officers' Certificate, dated as of June 25, 1997, creating the 7% debentures due June 15, 2007 of WP&L (incorporated by reference to Exhibit 4 to WP&L's Current Report on Form 8-K, dated June 25, 1997) 10A*# Executive Tenure Compensation Plan as revised November 1992 (incorporated by reference to Exhibit 10A to WPL Holdings, Inc.'s Form 10-K for the year ended December 31, 1992) 10B*# Form of Supplemental Retirement Plan, as revised November 1992 (incorporated by reference to Exhibit 10B to WPL Holdings, Inc.'s Form 10-K for the year ended December 31, 1992) 10C*# Forms of Deferred Compensation Plans, as amended June, 1990 (incorporated by reference to Exhibit 10C to WPL Holdings, Inc.'s Form 10-K for the year ended December 31, 1990) 10C.1*# Officer's Deferred Compensation Plan II, as adopted September 1992 (incorporated by reference to Exhibit 10C.1 to WPL Holdings, Inc.'s Form 10-K for the year ended December 31, 1992) 10C.2*# Officer's Deferred Compensation Plan III, as adopted January 1993 (incorporated by reference to Exhibit 10C.2 to WPL Holdings, Inc.'s Form 10-K for the year ended December 31, 1993) 10F*# Pre-Retirement Survivor's Income Supplemental Plan, as revised November 1992 (incorporated by reference to Exhibit 10F to WPL Holdings, Inc.'s Form 10-K for the year ended December 31, 1992) 10H*# Wisconsin Power and Light Company Management Incentive Plan (incorporated by reference to Exhibit 10H to WPL Holdings, Inc.'s Form 10-K for the year ended December 31, 1992) 10I*# Deferred Compensation Plan for Directors, as amended January 17, 1995 (incorporated by reference to Exhibit 10I to WPL Holdings, Inc.'s Form 10-K for the year ended December 31, 1995) 10J*# WPL Holdings, Inc. Long-Term Equity Incentive Plan (incorporated by reference to Exhibit 4.1 to WPL Holdings, Inc.'s Quarterly Report on Form 10-Q for the quarter ended June 30, 1994) 10K*# Key Executive Employment and Severance Agreement by and between WPL Holdings, Inc. and E.B. Davis, Jr. (incorporated by reference to Exhibit 4.2 to WPL Holdings, Inc.'s Quarterly Report on Form 10-Q for the quarter ended June 30, 1994) 10L*# Key Executive Employment and Severance Agreement by and between WPL Holdings, Inc. and each of L.W. Ahearn, W.D. Harvey, E.G. Protsch, and A.J. Amato (incorporated by reference to Exhibit 4.3 to WPL Holdings, Inc.'s Quarterly Report on Form 10-Q for the quarter ended June 30, 1994) 10M*# Key Executive Employment and Severance Agreement by and between WPL Holdings, Inc. and each of E.M. Gleason, B.J. Swan, D.A. Doyle, N.E. Boys, D.E. Ellestad, P.J. Wegner, and K.K. Zuhlke (incorporated by reference to Exhibit 4.4 to WPL Holdings, Inc.'s Quarterly Report on Form 10-Q for the quarter ended June 30, 1994) 10N# Severance Agreement by and between WPL Holdings, Inc. and Lance W. Ahearn 21 Subsidiaries of WPL Holdings, Inc. 23 Consent of Independent Public Accountants 27 Financial Data Schedule Pursuant to Item 601(b)(4)(iii) of Regulation S-K, the registrant agrees to furnish to the Securities and Exchange Commission, upon request, any instrument defining the rights of holders of unregistered long-term debt not filed as an exhibit to this Form 10-K. No such instrument authorizes securities in excess of 10% of the total assets of the company. Documents incorporated by reference to filings made by WP&L under the Securities Exchange Act of 1934, as amended, are under File No. 0-337. Documents incorporated by reference to filings made by WPL Holdings, Inc. under the Securities Exchange Act of 1934, as amended, are under File No. 1-9894. # - A management contract or compensatory plan or arrangement. (a) (4) Unaudited Pro Forma Combined Financial Information of Interstate Energy Corporation: Page Numbers Unaudited Pro Forma Combined Balance Sheet at December 31, 1997 80-81 Unaudited Pro Forma Combined Statements of Income for the years ended December 31, 1997, 1996 and 1995 82-84 Notes to Unaudited Pro Forma Combined Financial Statements 85-88 (b) Reports on Form 8-K None INTERSTATE ENERGY CORPORATION (doing business as Alliant Corporation) UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS The unaudited pro forma combined financial statements for Interstate Energy Corporation (Merged Company) combine the historical consolidated balance sheets and statements of income of IES Industries Inc. (IES), Interstate Power Company (IPC) and WPL Holdings, Inc. (WPLH) as adjusted by various pro forma adjustments identified in Note 1. All material adjustments known at this time which impact the reporting periods shown have been included. The combination of WPLH, IES and IPC is referred to herein as the "Merger." These pro forma combined financial statements set forth the restated combined financial data that will be presented for future comparative financial data for the Merged Company. The pro forma balance sheet that will be filed with the Securities and Exchange Commission following consummation of the Merger will also include an additional pro forma adjustment for certain merger-related costs to be recorded upon completion of the Merger. These statements are prepared on the basis of accounting for the Merger as a pooling of interests and are based on the assumptions set forth in the notes thereto. The historical data for WPLH have been adjusted to reflect the restatement of such data to account for certain discontinued operations as discussed in Note 6. The following information is not necessarily indicative of the financial position or operating results that would have occurred had the Merger been consummated on the date, or at the beginning of the periods, for which the Merger is being given effect nor is it necessarily indicative of future operating results or financial position. INTERSTATE ENERGY CORPORATION UNAUDITED PRO FORMA COMBINED BALANCE SHEET December 31, 1997 (In thousands)
Pro Forma ASSETS WPLH IES IPC Adjustments Pro Forma (As Reported) (As Reported) (As Reported) (See Note 1) Combined UTILITY PLANT Electric $1,790,641 $2,072,866 $869,715 $ - $4,733,222 Gas 237,856 187,098 70,201 - 495,155 Other 220,679 145,716 - - 366,395 --------- --------- --------- ------- --------- Total 2,249,176 2,405,680 939,916 - 5,594,772 Less: Accumulated provision for depreciation 1,065,726 1,115,261 450,595 - 2,631,582 Construction work in progress 42,312 38,923 5,276 - 86,511 Nuclear fuel--net 19,046 36,731 - - 55,777 --------- --------- --------- --------- --------- Net utility plant 1,244,808 1,366,073 494,597 - 3,105,478 OTHER PROPERTY, PLANT AND EQUIPMENT ---NET AND OTHER INVESTMENTS 139,548 319,657 4,746 (125) 463,826 CURRENT ASSETS Cash and cash equivalents 13,987 10,143 2,897 302 27,329 Accounts receivable ---net 78,082 52,295 27,061 12,489 169,927 Fossil fuel inventories, at average cost 18,857 10,579 11,220 - 40,656 Materials and supplies, at average cost 19,274 24,274 6,297 - 49,845 Prepayments and other 42,808 69,920 15,035 (3,278) 124,485 --------- --------- --------- --------- --------- Total current assets 173,008 167,211 62,510 9,513 412,242 EXTERNAL DECOMMISSIONING FUND 112,356 77,882 - - 190,238 INVESTMENT IN MCLEODUSA INC. 0 326,582 1,440 - 328,022 DEFERRED CHARGES AND OTHER 192,087 199,814 75,456 (15,442) 451,915 --------- --------- ------- ------- --------- TOTAL ASSETS $1,861,807 $2,457,219 $638,749 ($6,054) $4,951,721 ========= ========= ======= ======= =========
See accompanying Notes to Unaudited Pro Forma Combined Financial Statements. INTERSTATE ENERGY CORPORATION UNAUDITED PRO FORMA COMBINED BALANCE SHEET (Continued) December 31, 1997 (In thousands) CAPITALIZATION AND Pro Forma LIABILITIES WPLH IES IPC Adjustments Pro Forma (As Reported) (As Reported) (As Reported) (See Note 1) Combined CAPITALIZATION Common Stock Equity: Common stock $308 $ - $34,163 ($33,706) $765 Other stockholders' equity 607,275 818,133 181,457 38,404 1,645,269 --------- --------- --------- -------- --------- Total common stock equity 607,583 818,133 215,620 4,698 1,646,034 Preferred stock not mandatorily redeemable 59,963 18,320 10,819 0 89,102 Preferred stock mandatory sinking fund 0 0 24,267 0 24,267 Long-term debt---net 457,520 845,189 165,194 0 1,467,903 --------- --------- --------- --------- --------- Total capitalization 1,125,066 1,681,642 415,900 4,698 3,227,306 CURRENT LIABILITIES Current maturities, sinking funds, and capital lease obligations 11,528 13,684 6,314 0 31,526 Commercial paper, notes payable and other 123,095 0 33,500 0 156,595 Variable rate demand bonds 56,975 0 0 0 56,975 Accounts payable and accruals 91,175 78,702 13,208 9,549 192,634 Taxes accrued 412 62,432 16,014 65 78,923 Other accrued liabilities 55,987 67,174 12,445 (2,468) 133,138 --------- --------- --------- --------- --------- Total current liabilities 339,172 221,992 81,481 7,146 649,791 OTHER LIABILITIES Deferred income taxes 253,519 372,837 104,670 0 731,026 Deferred investment tax credits 35,039 31,838 15,985 0 82,862 Accrued environmental remediation costs 9,238 46,989 5,794 0 62,021 Capital lease obligations 0 23,548 86 0 23,634 Other liabilities and deferred credits 99,773 78,373 14,833 (17,898) 175,081 --------- --------- --------- --------- --------- Total other liabilities 397,569 553,585 141,368 (17,898) 1,074,624 --------- --------- --------- --------- --------- TOTAL CAPITALIZATION AND LIABILITIES $1,861,807 $2,457,219 $638,749 ($6,054) $4,951,721 ========= ========= ========= ========= =========
See accompanying Notes to Unaudited Pro Forma Combined Financial Statements. INTERSTATE ENERGY CORPORATION UNAUDITED PRO FORMA COMBINED STATEMENTS OF INCOME FOR THE YEAR ENDED DECEMBER 31, 1997 (In thousands, except per share amounts)
Pro Forma WPLH IES IPC Adjustments Pro Forma (As Reported) (As Reported) (As Reported) (See Note 1) Combined Operating Revenues Electric utility $634,143 $604,270 $277,340 $ - $1,515,753 Gas utility 155,883 183,517 54,507 - 393,907 Other 129,229 142,912 - 118,826 390,967 --------- --------- --------- --------- --------- Total operating revenues 919,255 930,699 331,847 118,826 2,300,627 Operating Expenses Electric and steam production fuels 116,812 108,344 55,402 - 280,558 Purchased power 125,438 74,098 56,770 - 256,306 Cost of gas sold 99,267 126,631 33,324 - 259,222 Other operation 254,796 231,481 64,685 119,306 670,268 Maintenance 48,058 57,185 17,782 96 123,121 Depreciation and amortization 111,289 114,122 31,676 245 257,332 Taxes other than income taxes 34,988 51,701 16,708 - 103,397 --------- --------- --------- --------- --------- Total operating expenses 790,648 763,562 276,347 119,647 1,950,204 --------- --------- --------- --------- --------- Operating Income 128,607 167,137 55,500 (821) 350,423 Other Income (Expense) Allowance for funds used during construction 2,775 2,309 190 - 5,274 Other income and deductions, net 4,432 1,850 6,772 856 13,910 --------- -------- --------- --------- --------- Total other income (expense) 7,207 4,159 6,962 856 19,184 Interest Charges 42,535 64,383 15,610 35 122,563 --------- --------- --------- --------- --------- Income from Continuing Operations before Income Taxes and Preferred Dividends 93,279 106,913 46,852 - 247,044 Income Taxes 28,715 39,662 17,684 - 86,061 Preferred Dividends of Subsidiaries (Note 2) 3,310 914 2,469 - 6,693 --------- --------- --------- --------- --------- Income from Continuing Operations $61,254 $66,337 $26,699 $ - $154,290 ========= ========= ========= ======== ========= Average Common Shares Outstanding 30,782 30,380 9,725 5,323 76,210 Earnings per Share of Common Stock from Continuing Operations (Basic and diluted) $1.99 $2.18 $2.74 N/A $2.02 ====== ====== ====== ====== ======
See accompanying Notes to Unaudited Pro Forma Combined Financial Statements. INTERSTATE ENERGY CORPORATION UNAUDITED PRO FORMA COMBINED STATEMENTS OF INCOME FOR THE YEAR ENDED DECEMBER 31, 1996 (In thousands, except per share amounts)
Pro Forma WPLH IES IPC Adjustments Pro Forma (As Reported) (As Reported) (As Reported) (See Note 1) Combined Operating Revenues Electric utility $589,482 $574,273 $276,620 $ - $1,440,375 Gas utility 165,627 273,979 49,464 (113,115) 375,955 Other 177,735 125,660 - 113,115 416,510 --------- --------- --------- --------- --------- Total operating revenues 932,844 973,912 326,084 - 2,232,840 Operating Expenses Electric and steam production fuels 114,470 84,579 57,560 - 256,609 Purchased power 81,108 88,350 61,556 - 231,014 Cost of gas sold 104,830 217,351 31,617 (113,474) 240,324 Other operation 317,608 212,501 51,707 113,474 695,290 Maintenance 46,492 49,001 16,164 - 111,657 Depreciation and amortization 90,683 107,393 31,087 - 229,163 Taxes other than income taxes 34,603 48,171 16,064 - 98,838 --------- --------- --------- --------- --------- Total operating expenses 789,794 807,346 265,755 - 1,862,895 --------- --------- --------- --------- --------- Operating Income 143,050 166,566 60,329 - 369,945 Other Income (Expense) Allowance for funds used during construction 3,208 2,103 263 - 5,574 Other income and deductions, net 14,098 (4,591) 2,336 - 11,843 --------- --------- -------- -------- --------- Total other income (expense) 17,306 (2,488) 2,599 - 17,417 Interest Charges 42,027 54,822 16,472 - 113,321 --------- --------- -------- -------- --------- Income from Continuing Operations before Income Taxes and Preferred Dividends 118,329 109,256 46,456 - 274,041 Income Taxes 41,814 47,435 18,133 - 107,382 Preferred Dividends of Subsidiaries (Note 2) 3,310 914 2,463 - 6,687 --------- --------- --------- --------- --------- Income from Continuing Operations (Notes 3 and 6) $73,205 $60,907 $25,860 $ - $159,972 ========= ========= ========= ========= ========= Average Common Shares Outstanding 30,790 29,861 9,594 5,236 75,481 Earnings per Share of Common Stock from Continuing Operations (Basic and diluted) $2.38 $2.04 $2.69 N/A $2.12 ===== ===== ===== ======= =====
See accompanying Notes to Unaudited Pro Forma Combined Financial Statements. INTERSTATE ENERGY CORPORATION UNAUDITED PRO FORMA COMBINED STATEMENTS OF INCOME FOR THE YEAR ENDED DECEMBER 31, 1995 (In thousands, except per share amounts)
Pro Forma WPLH IES IPC Adjustments Pro Forma (As Reported) (As Reported) (As Reported) (See Note 1) Combined Operating Revenues Electric utility $546,324 $560,471 $274,873 $ - $1,381,668 Gas utility 139,165 190,339 43,669 (53,047) 320,126 Other 121,766 100,200 - 53,047 275,013 --------- --------- --------- -------- --------- Total operating revenues 807,255 851,010 318,542 - 1,976,807 Operating Expenses Electric and steam 116,488 96,256 62,164 - 274,908 production fuels Purchased power 44,940 66,874 57,566 - 169,380 Cost of gas sold 84,002 141,716 25,888 (50,519) 201,087 Other operation 252,722 199,768 44,581 50,519 547,590 Maintenance 42,043 46,093 14,881 - 103,017 Depreciation and 86,319 97,958 29,560 - 213,837 amortization Taxes other than income taxes 34,188 49,011 15,990 - 99,189 --------- --------- --------- -------- --------- Total operating expenses 660,702 697,676 250,630 - 1,609,008 --------- --------- --------- -------- --------- Operating Income 146,553 153,334 67,912 - 367,799 Other Income (Expense) Allowance for funds used during construction 2,088 3,424 341 - 5,853 Other income and deductions, net 5,954 1,548 (4,008) - 3,494 --------- -------- --------- --------- --------- Total other income (expense) 8,042 4,972 (3,667) - 9,347 Interest Charges 43,559 50,727 17,136 - 111,422 --------- --------- --------- --------- --------- Income from Continuing Operations before Income Taxes and Preferred Dividends 111,036 107,579 47,109 - 265,724 Income Taxes 36,108 42,489 19,453 - 98,050 Preferred Dividends of Subsidiaries (Note 2) 3,310 914 2,458 - 6,682 --------- -------- --------- --------- --------- Income from Continuing Operations (Note 6) $71,618 $64,176 $25,198 $ - $160,992 Average Common Shares ========= ========= ========= ========= ========= Outstanding 30,774 29,202 9,564 5,140 74,680 Earnings per Share of Common Stock from Continuing Operations (Basic and diluted) $2.33 $2.20 $2.63 N/A $2.16 ===== ===== ===== ===== =====
See accompanying Notes to Unaudited Pro Forma Combined Financial Statements INTERSTATE ENERGY CORPORATION NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS 1. Pro Forma Adjustments
December 31, 1997 BALANCE SHEET Merged Consolidation Eliminations Company IPC IES of for Common Stock Unbilled Pension Total IEA-HES LLC IEA-HES LLC Adjustment Revenues Liability Pro Forma ASSETS (Note 1 (a)) (Note 1 (b)) (Note 1 (c)) (Note 1 (d)) (Note 1 (e)) Adjustments OTHER PROPERTY, PLANT AND EQUIP ---NET AND OTHER INVESTMENTS $3,458 ($3,583) $ - $ - $ - ($125) CURRENT ASSETS Cash and cash equivalents 3,308 (3,006) - - - 302 Accounts receivable ---net 8,932 (1,965) - 5,522 - 12,489 Prepayments and other 2 - - (3,280) - (3,278) ------ ------- ------ ------- -------- ------- Total current assets 12,242 (4,971) - 2,242 - 9,513 DEFERRED CHARGES AND OTHER - - - 2,456 (17,898) (15,442) ------ ------- ------ ------- -------- ------- TOTAL ASSETS $15,700 ($8,554) $ - $4,698 ($17,898) ($6,054) ====== ======= ====== ======= ======== ======= CAPITALIZATION AND LIABILITIES CAPITALIZATION Common Stock Equity: Common stock $ - $ - ($33,706) $ - $ - ($33,706) Other stockholders' equity 3,583 (3,583) 33,706 4,698 - 38,404 ------ ------- ------ ------- -------- ------- Total common stock equity 3,583 (3,583) - 4,698 - 4,698 CURRENT LIABILITIES Accounts payable and accruals 11,514 (1,965) - - - 9,549 Taxes accrued 65 - - - - 65 Other accrued liabilities 538 (3,006) - - - (2,468) ------ ------- ------ ------- -------- ------- Total current liabilities 12,117 (4,971) - - - 7,146 OTHER LIABILITIES Other liabilities and deferred credits - - - - (17,898) (17,898) ------ ------- ------ ------- -------- ------- Total other liabilities - - - - (17,898) (17,898) ------ ------- ------ ------- -------- ------- TOTAL CAPITALIZATION AND LIAB. $15,700 ($8,554) $ - $4,698 ($17,898) ($6,054) ====== ======= ====== ======= ======== ======= Merged 1997 INCOME STATEMENT Consolidation Eliminations Company of for Common Stock Total IEA-HES LLC IEA-HES LLC Adjustment Pro Forma (Note 1 (a)) (Note 1 (b)) (Note 1 (c)) Adjustments OPERATING REVENUES: Gas utility $ - $ - $ - $ - Other 118,826 - - 118,826 Total operating revenues 118,826 - - 118,826 -------- -------- --------- -------- OPERATING EXPENSES: Cost of gas sold - - - - Other operation 119,306 - - 119,306 Maintenance 96 - - 96 Depreciation and amortization 245 - - 245 -------- -------- -------- -------- Total operating expenses 119,647 - - 119,647 OPERATING INCOME (821) - - (821) OTHER INCOME (EXPENSE) Other income and deductions, net 61 795 - 856 -------- -------- -------- -------- Total other income (expense) 61 795 - 856 INTEREST CHARGES 35 - - 35 -------- -------- -------- -------- INCOME FROM CONTINUING OPER. ($795) $795 $ - $ - ======== ======== ======== ======== AVERAGE COMMON SHARES - - 5,323 5,323 1996 INCOME STATEMENT Merged Company Common Stock IEA Total Adjustment Gas Activity Pro Forma (Note 1 (c)) (Note 1 (f)) Adjustments OPERATING REVENUES: Gas utility $ - ($113,115) ($113,115) Other - 113,115 113,115 ------- ------- ------- Total operating revenues - - - OPERATING EXPENSES: Cost of gas sold - (113,474) (113,474) Other operation - 113,474 113,474 ------- ------- ------- Total operating expenses - - - ------- ------- ------- INCOME FROM CONTINUING OPERATIONS $ - $ - $ - ======= ======= ======= AVERAGE COMMON SHARES 5,236 - 5,236 1995 INCOME STATEMENT Merged Company Common Stock IEA Total Adjustment Gas Activity Pro Forma (Note 1 (c)) (Note 1 (f)) Adjustments OPERATING REVENUES: Gas utility $ - ($53,047) ($53,047) Other - 53,047 53,047 ------- ------- ------- Total operating revenues - - - OPERATING EXPENSES: Cost of gas sold - (50,519) (50,519) Other operation - 50,519 50,519 ------- ------- ------- Total operating expenses - - - ------- ------- ------- INCOME FROM CONTINUING OPERATIONS $ - $ - $ - ======= ======= ======= AVERAGE COMMON SHARES 5,140 - 5,140
(a) Consolidation of IEA-HES L.L.C. In January 1997, IES and WPLH formed a gas marketing joint venture named IEA-HES L.L.C. Pursuant to the applicable accounting rules, IES and WPLH each accounted for this joint venture in 1997 under the equity method of accounting with their investment recorded on the balance sheet in "Other Property, Plant and Equipment -- Net and Other Investments" and their allocated portion of earnings on the income statement in "Other Income and Deductions, Net". This pro forma adjustment reflects the financial results of IEA-HES L.L.C. as a consolidated subsidiary. (b) Eliminations for IEA-HES L.L.C. This pro forma adjustment reflects the elimination of intercompany balances of IEA-HES L.L.C. and also eliminates the equity investments of IES and WPLH and their allocated portion of revenues and expenses. (c) Merged Company Common Stock Adjustment The pro forma combined financial statements reflect the conversion of each share of IES Common Stock (no par value) outstanding into 1.14 shares of Merged Company Common Stock ($.01 par value) and the conversion of each share of IPC Common Stock ($3.50 par value) into 1.11 shares of Merged Company Common Stock ($.01 par value), and the continuation of each share of WPLH Common Stock ($.01 par value) outstanding as one share of Merged Company Common Stock, as provided in the Merger Agreement. The pro forma adjustment to common stock equity restates the common stock account to equal par value for all shares to be issued ($.01 par value per share of Merged Company Common Stock) and reclassifies the excess to other stockholders' equity. The average number of shares of common stock used for calculating per share amounts is based on the exchange ratios shown below.
Exchange As reported Pro forma As reported Pro forma As reported Pro forma Ratio 12/31/97 12/31/97 12/31/96 12/31/96 12/31/95 12/31/95 WPLH N/A 30,782 30,782 30,790 30,790 30,774 30,774 IES 1.14 30,380 34,633 29,861 34,042 29,202 33,290 IPC 1.11 9,725 10,795 9,594 10,649 9,564 10,616
The number of shares of common stock at December 31, 1997 used for calculating the par value of common stock is based on the exchange ratios shown below. Exchange As reported Pro forma Ratio 12/31/97 12/31/97 WPLH N/A 30,789 30,789 IES 1.14 30,577 34,858 IPC 1.11 9,761 10,835 (d) IPC Unbilled Revenues The financial results of IPC do not include accrued revenues for services rendered but unbilled at month-end. The pro forma adjustment reflects the impact of adopting unbilled revenues, including the tax impact of the adoption. The change is being implemented to conform to the method currently utilized by WPLH and IES. (e) IES Pension Liability The accrued pension liability (and offsetting regulatory asset), included in the financial results of IES, was calculated using a five-year smoothed method of recognizing deferred asset gains. The pro forma adjustment reflects a change to the straight market value method which recognizes deferred asset gains sooner. The change is being implemented to conform to the method currently utilized by WPLH and IPC. (f) IEA Gas Activity The gas revenues and cost of gas sold of Industrial Energy Applications, Inc. (IEA), a subsidiary of IES, for 1996 and 1995 have been reclassed into "Other" operating revenues and "Other operation" expenses, respectively, consistent with the 1997 presentation. 2. Preferred Stock Dividends of IPC The Preferred Stock Dividends of IPC have been reclassified in the unaudited pro forma combined statements as "Preferred Dividends of Subsidiaries" and deducted in the determination of income from continuing operations which reflects the holding company structure of the Merged Company. 3. Nonrecurring Material Items Included in Historical Financial Results IES's income from continuing operations for the year ended December 31, 1996 included costs incurred relating to its successful defense of a hostile takeover attempt mounted by MidAmerican Energy Company. The after-tax impact on income from continuing operations was a decrease of $4.6 million. Nonrecurring items affecting WPLH's performance for the year ended December 31, 1996 included the impact of the sale of a combustion turbine and the sale of WPLH's assisted-living real estate investments. The after-tax impact of these items on continuing operations was an increase of $5.9 million. 4. Estimated Costs and Cost Savings of Proposed Merger The allocation between WPLH, IES and IPC and their customers of the estimated cost savings of approximately $749 million over ten years resulting from the merger, net of the costs incurred to achieve such savings, will be subject to regulatory review and approval. Costs arising from the Merger are currently estimated to be approximately $78 million. Approximately $22 million of these costs had been incurred through December 31, 1997 and are reflected in results of operations. The estimate of potential cost savings constitutes a forward-looking statement and actual results may differ materially from this estimate. The estimate is necessarily based upon various assumptions that involve judgments with respect to, among other things, future national and regional economic and competitive conditions, technological developments, inflation rates, regulatory treatment, weather conditions, financial market conditions, future business decisions and other uncertainties. No assurance can be given that the estimated cost savings will actually be realized. None of the estimated cost savings, or costs to be incurred subsequent to December 31, 1997 to achieve such savings, have been reflected in the unaudited pro forma combined financial statements. 5. Intercompany Transactions Intercompany transactions (including purchased and exchange power transactions) between WPLH, IES and IPC during the periods presented were included in the determination of regulated rates and/or were not material. Accordingly, no pro forma adjustments were made to eliminate such transactions. 6. Discontinued Operations The financial statements of WPLH reflect the discontinuance of operations of its utility energy and marketing consulting business in 1995. The discontinuance of this business resulted in a pre-tax loss in the fourth quarter of 1995 of $7.7 million. The after-tax loss on disposition was $11.0 million reflecting the associated tax expense on disposition due to the non-deductibility of the carrying value of goodwill at sale. During 1996, WPLH recognized an additional loss of $1.3 million, net of applicable income tax benefit, associated with the final disposition of the business. Operating revenues, operating expenses, other income and expense and income taxes for the discontinued operations for the time periods presented have been excluded from income from continuing operations. Interest expense has been adjusted for the amounts associated with direct obligations of the discontinued operations. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized on the 14th day of April 1998. WPL HOLDINGS, INC. By: /s/ Erroll B. Davis, Jr. Erroll B. Davis, Jr. President and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on the 14th day of April 1998. /s/ Erroll B. Davis, Jr. President, Chief Executive Officer and Erroll B. Davis, Jr. Director (Principal Executive Officer) /s/ Edward M. Gleason Vice President, Treasurer and Corporate Edward M. Gleason Secretary (Principal Financial and Accounting Officer) Director /s/ Milton E. Neshek Director L. David Carley Milton E. Neshek /s/ Rockne G. Flowers Director Director Rockne G. Flowers Henry C. Prange Director /s/ Judith D. Pyle Director Donald R. Haldeman Judith D. Pyle /s/ Katharine C. Lyall Director _____________________ Director Katharine C. Lyall Carol T. Toussaint /s/ Arnold M. Nemirow Director Arnold M. Nemirow REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULES To the Shareowners of WPL Holdings, Inc.: We have audited, in accordance with generally accepted auditing standards, the consolidated financial statements in the 1997 Form 10-K of WPL Holdings, Inc. and have issued our report thereon dated January 30, 1998. Our audit was made for the purpose of forming an opinion on those statements taken as a whole. Supplemental Schedules I and II are the responsibility of management and are presented for purposes of complying with the Securities and Exchange Commission's rules and are not part of the basic consolidated financial statements. These schedules have been subjected to the auditing procedures applied in the audit of the basic consolidated financial statements and, in our opinion, fairly state in all material respects the financial data required to be set forth therein in relation to the basic consolidated financial statements taken as a whole. ARTHUR ANDERSEN LLP Milwaukee, Wisconsin January 30, 1998 SCHEDULE I - CONDENSED PARENT COMPANY FINANCIAL STATEMENTS WPL HOLDINGS, INC. (Parent Company Only) Supplemental Notes to Parent Company Only Financial Statements The following are supplemental notes to the WPL Holdings, Inc. (the Company) Parent Company Financial Statements and should be read in conjunction with the Consolidated Financial Statements and Notes thereto included in WPL Holdings, Inc. 1997 Annual Report, which are hereby incorporated by reference. Note A. The parent company files a consolidated federal income tax return with its subsidiaries. Note B. Net amounts due to (due from) affiliates result from intercompany transactions including loans and an administrative allowance. Note C. Information regarding short term debt is as follows: 1997 1996 (in thousands) As of end of year: Notes payable $42,000 $28,500 Interest rates on notes payable 5.00-5.90% 5.28-6.31% For the year ended: Maximum month-end amount of short-term debt $63,000 $34,000 Average amount of short-term debt $45,266 $26,899 Average interest rate on short-term debt 5.66% 5.55% Note D. During 1997, 1996 and 1995, Wisconsin Power and Light Company allocated and billed certain administrative and general expenses to the Company using an allocation method approved by the Public Service Commission of Wisconsin. These expenses totaled $1,830,549; $1,516,585 and $2,005,000 during 1997, 1996 and 1995, respectively. Note E. Certain reclassifications have been made to prior years financial statements to conform with the current year presentation. SCHEDULE I - CONDENSED PARENT COMPANY FINANCIAL STATEMENTS WPL HOLDINGS, INC. (Parent Company Only) STATEMENTS OF INCOME AND REINVESTED EARNINGS For the years ended December 31, 1997 1996 1995 (in thousands) Income: Equity in earnings of subsidiaries after dividends $2,982 $4,952 $994 Cash dividends from subsidiaries 62,164 69,155 59,701 Investment income and other 149 1,081 250 ------ ------ ------ 65,295 75,188 60,945 ------ ------ ------ Expenses: Operating (Note D) 5,568 2,136 2,443 Interest and other 595 1,437 1,248 ------ ------ ------ 6,163 3,573 3,691 ------ ------ ------ Income before income tax benefit 59,132 71,615 57,254 Income tax benefit (expense): Current 2,135 627 1,178 Deferred (13) (334) - ------ ------ ------ 2,122 293 1,178 ------ ------ ------ Net income 61,254 71,908 58,432 ------ ------ ------ Reinvested earnings, beginning of year 303,191 291,939 293,048 Cash dividends (61,562) (60,656) (59,701) Other - - 160 ------- ------- ------- Reinvested earnings, end of year $302,883 $303,191 $291,939 ======= ======= ======= SCHEDULE I - CONDENSED PARENT COMPANY FINANCIAL STATEMENTS WPL HOLDINGS, INC. (Parent Company Only) BALANCE SHEETS December 31, 1997 1996 ASSETS: (in thousands) Current Assets Cash and equivalents $6,632 $3,817 Notes receivable - affiliates (Note B) 30,471 47,308 ------ ------ 37,103 51,125 ------ ------ Accounts receivable from WPL Holdings DRIP 150 150 ------ ------ Tax benefit receivable 644 507 ------ ------ Property and equipment, net 999 999 ------ ------ Investments and other 558 1,948 ------ ------ Investments in subsidiaries, at equity: Wisconsin Power and Light Company 585,739 576,158 Heartland Development Corporation 53,903 41,115 ------- ------- 639,642 617,273 ------- ------- Deferred income taxes 39 52 ------- ------- Total assets $679,135 $672,054 ======= ======= LIABILITIES AND CAPITALIZATION: Current Liabilities: Short term debt (Note C) $42,000 $28,500 Current maturities of long-term debt - 10,000 Accounts payable - affiliates (Note B) 4,752 1,723 Accrued interest and other 264 107 Dividends payable 252 308 ------- ------- 47,268 40,638 Long-term debt 24,000 24,000 Deferred credit and other 284 61 ------- ------- 71,552 64,699 ------- ------- Capitalization: Common stock, $.01 par value, authorized 100,000,000 shares; issued and outstanding- 30,788,593 and 30,773,735 shares, respectively 308 308 Additional paid-in capital 304,392 303,856 Reinvested earnings 302,883 303,191 ------- ------- 607,583 607,355 ------- ------- Total Liabilities and Capitalization $679,135 $672,054 ======= ======= SCHEDULE I - CONDENSED PARENT COMPANY FINANCIAL STATEMENTS WPL HOLDINGS, INC. (Parent Company Only) STATEMENTS OF CASH FLOWS For the years ended December 31, 1997 1996 1995 (in thousands) Cash flows generated from (used for) operating activities: Net income $61,254 $71,908 $58,432 Equity in earnings of subsidiaries after dividends (2,982) (4,952) (994) Equity investments in subsidiaries (19,387) (106) 119 Depreciation - - 10 Deferred income taxes 13 335 (288) Changes in assets and liabilities: Receivables 16,837 6,190 (24,028) Investments 1,390 (1,748) 67 Accounts payable 3,029 1,740 129 Accrued taxes - 1,170 (258) Accrued interest and other 157 (141) 28 Dividends payable (56) 54 26 Other 86 (376) (778) ------- ------- ------- Net cash from (used for) operating activities 60,341 74,074 32,465 Cash flows generated from (used for) financing activities: Long-term debt maturities (10,000) - - Net change in short term debt 13,500 (8,500) 25,500 Common stock cash dividends (61,562) (60,656) (59,701) Other 536 (1,367) 941 ------- ------- ------- Net cash from (used for) investing activities (57,526) (70,523) (33,260) Net increase (decrease) in cash and equivalents 2,815 3,551 (795) Cash and equivalents at beginning of year 3,817 266 1,061 ------- ------- ------- Cash and equivalents at end of year $6,632 $3,817 $266 ======= ======= ======= SCHEDULE II WPL HOLDINGS, INC. AND SUBSIDIARIES VALUATION AND QUALIFYING ACCOUNTS AND RESERVES (in thousands)
Additions Balance at charged to Balance at beginning costs and end of Description of period expenses Deductions period Year ended December 31, 1997 Allowance for doubtful accounts $1,524 $649 $1,069 [1] $1,104 ====== ==== ====== ====== Year ended December 31, 1996 Allowance for doubtful accounts $1,735 $928 $1,139 [1] $1,524 ====== ==== ====== ====== Year ended December 31, 1995 Allowance for doubtful accounts $1,964 $966 $1,195 [1] $1,735 ====== ==== ====== ====== [1] Uncollectible accounts written off, net of recoveries
EX-21 2 EXHIBIT 21 WPL HOLDINGS, INC. SUBSIDIARIES OF THE REGISTRANT The following are deemed to be significant subsidiaries of WPL Holdings, Inc. as of December 31, 1997: Name of Subsidiary State of Incorporation Wisconsin Power and Light Company Wisconsin Heartland Development Corporation Wisconsin EX-10 3 SEVERANCE AGREEMENT AND RELEASE OF CLAIMS This SEVERANCE AGREEMENT AND RELEASE OF CLAIMS ("Agreement") is made and entered into by and between Lance Ahearn ("Ahearn") and WPL Holdings, Inc., a Wisconsin Corporation, ("Company") to extinguish all obligations and claims between the parties arising out of the employment of Ahearn by Company and his termination from said employment. NOW, THEREFORE, for and in consideration of the mutual promises set forth herein, the adequacy and sufficiency of which is hereby expressly acknowledged by each of the parties hereto, the parties mutually agree as follows: 1. Preliminary Statement. Ahearn's employment with Company shall terminate effective November 21, 1997 (hereinafter the "Termination Date"). The parties agree that, pursuant to Paragraph 2 of the Key Executive Employment and Severance Agreement between Ahearn and Company entered into on June 25, 1994 (hereinafter the "KEESA," attached hereto as Exhibit A), the termination of Ahearn's employment with Company is a termination or cancellation prior to a change in control of Company. Accordingly, the KEESA is of no further force and effect and this Agreement supersedes and extinguishes all of the parties' rights and obligations under the KEESA, or any other letter agreement or oral promise. 2. Communications to Third Parties . Ahearn hereby agrees that except to the extent necessary required to comply with this Agreement, he shall not directly or indirectly disclose, publicize, or publish the terms or conditions of this Agreement to anyone other than his spouse, attorney, and tax-preparer. The parties mutually agree that any communications to third parties regarding the termination of Ahearn's employment shall state only that Ahearn's employment terminated with the mutual agreement of the parties. 3. Financial Obligations. Company shall pay to Ahearn his salary and benefits to and including the Termination Date specified in Paragraph 1. Company further shall pay Ahearn's performance bonus for 1997 on a pro-rated basis to the extent that performance criteria for the Heartland Development Corporation bonus are met. Within the (10) days after the Effective Date of this Agreement (see Paragraph 9), Company shall pay Ahearn, a severance payment of Seven Hundred Sixty Eight Thousand, Nine Hundred Dollars ($768,900). Additionally, Company shall make three installment payments in the amount of Two Hundred and Four Thousand, One Hundred Ninety Dollars ($204,190) according to the following payment schedule: First Payment of Sixty Eight Thousand, Sixty Three Dollars ($68,063) on January 9, 1998; Second Payment of Sixty Eight Thousand, Sixty Three Dollars ($68,063) on January 8, 1999; and a Third Payment of Sixty Eight Thousand, Sixty Four Dollars ($68,064) on January 7, 2000. The parties agree that all amounts discussed in this Paragraph 3 are gross amounts which are subject to appropriate tax withholding. The parties further agree that the payments discussed in this Paragraph 3 constitute the entire financial obligation of Company to Ahearn. 4. Release and Covenant Not to Sue. In consideration for the promises made by Company contained in this Agreement, Ahearn hereby releases and discharges Company, its subsidiaries, affiliates, agents, employees, officers, directors, shareholders, successors, and assigns from all claims, liabilities, demands and causes of action whether known or unknown, fixed or contingent, arising out of or in any way connected with Ahearn's employment with Company or the termination thereof, and does hereby covenant not to file a lawsuit to assert such claims. This Agreement includes, but is not limited to, all matters in law, in equity, in contract, or in tort, pursuant to statute, including any claim for discrimination arising under the Age Discrimination in Employment Act, Title VII of the Civil Rights Act of 1964, the Americans with Disabilities Act, or any other federal, state, or local law or ordinance. This agreement does not apply to: (1) any claim or rights that may arise under the Age Discrimination in Employment Act after the date this Agreement is executed; (2) to any claim or rights that may arise under the Consolidated Omnibus Budget Reconciliation Act of 1985 or the Health Insurance Portability Protection Act; or (3) to any claims resulting from any duty to indemnify Ahearn assumed by Company during the course of Ahearn's employment. It is expressly agreed Ahearn will not institute, or cause to be instituted, any action, lawsuit, complaint, charge, or proceeding against Company which relates to, or arises out of Ahearn's employment with Company or the termination thereof, and will pay Company's costs in the event that any such action is brought. However, this provision shall not prohibit either party from taking such steps as are necessary to enforce the terms and conditions of this Agreement. 5. No Competition. In further consideration for the promises made by Company contained in this Agreement, Ahearn agrees that he will not, for a period expiring one year after the Termination Date, without the prior written approval of Company's Board of Directors, participate in the management of, be employed by, or own any business enterprise at a location within the United States that engages in substantial competition with Company or its subsidiaries, where such enterprise's revenues from any competitive activities amount to 10% or more of such enterprise's net revenues and sales for its most recently completed fiscal year; provided, however, that nothing in this Paragraph 4 shall prohibit Ahearn from owning stock or other securities of a competitor amounting to less than five percent of outstanding capital stock of such competitor. 6. Confidentiality. In further consideration for the promises made by Company contained in this Agreement, Ahearn agrees to hold in strictest of confidence, and not use to compete with Company or disclose to anyone except as expressly authorized in writing by the Board of Directors of Company, any proprietary or confidential information of Company or other information and data pertaining to the activities and operations of Company and not made available to the general public by Company or with Company's consent. Proprietary and confidential information includes, but is not limited to, trade secrets, information relating to the business, financial, legal, and personnel matters of Company, information relating to the internal operations of Company such as operations methods, equipment, and quality control procedures, information relating to development projects, information relating to actual or potential customers or suppliers, marketing plans, price and cost data, and proprietary information of other companies or individuals which has been disclosed to Company under a requirement of secrecy. Proprietary and confidential information may or may not be in documentary form and includes computer software programs, drawings, plans, letters, and databases. This obligation shall remain in effect for so long as Ahearn has knowledge or possession of information that remains confidential and secret. Ahearn shall promptly return to Company, and not deliver to anyone else, all documents and materials containing proprietary and confidential information, including the original and all copies and summaries of such documents and materials. 7. Entire Agreement. This Agreement contains the entire agreement between the parties, and there are no other understandings or terms, either express or implied, that are not expressly stated herein. This Agreement shall be amended only by a written agreement signed by both parties. 8. Voluntary Agreement; Advice of Counsel; 21-Day Period. Ahearn acknowledges and states that: a. He has read this Agreement, understands its legal and binding effect, and is acting voluntarily and freely in executing this Agreement. b. He has had an opportunity to seek, and was advised in writing to seek, legal counsel prior to signing this Agreement. c. He was given at least 21 days to consider the terms of this Agreement prior to signing it. 9. Revocation. The eighth day following Ahearn's execution of this Agreement will be the Effective Date of this Agreement. Ahearn and Company expressly agree that Ahearn may revoke this Agreement within seven (7) days after he signs it, and that this Agreement shall not become effective or enforceable if revoked. 10. Severability. The provisions of this Agreement shall be deemed severable, and the invalidity or unenforceability of any term or provision hereof shall not affect the validity or enforceability of any other term or provision hereof, and this Agreement shall be treated as though such invalid or unenforceable provision had never been a part of this Agreement. 11. Choice of Law. This Agreement shall be construed under the laws of the State of Wisconsin. The venue of any action necessary under this Agreement shall be Madison, Wisconsin. In the event of any necessary action, the prevailing party shall be entitled to reasonable costs and attorney's fees as the court may adjudge reasonable. 12. Binding Effect. This Agreement shall be binding upon and inure to the benefit of each of the parties hereto, and their respective subsidiaries, affiliates, legal and personal representatives, estates, purchasers, successors, assigns, heirs, executors, and administrators. IN WITNESS WHEREOF, the parties have caused this Agreement to be executed as of the date(s) written below. Date: By: Lance Ahearn WPL Holdings, Inc. Date: By: Erroll B. Davis, Jr. President & CEO EX-23 4 EXHIBIT 23 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation of our reports on the consolidated financial statements of WPL Holdings, Inc. included in this WPL Holdings, Inc. Form 10-K into WPL Holdings, Inc.'s previously filed Registration Statements on Form S-8 (Nos. 33- 52215, 333-41485 and 333-46735) and Form S-3 (Nos. 33-21482 and 333- 26627). ARTHUR ANDERSEN LLP Milwaukee, Wisconsin April 14, 1998 EX-27 5
UT 1,000 YEAR DEC-31-1997 JAN-01-1997 DEC-31-1997 PER-BOOK 1244808 251904 173008 183941 8146 1861807 308 304392 302883 607583 0 59963 457520 42095 56975 81000 11528 0 0 0 545143 1861807 919255 28715 254796 790648 128607 4432 104324 39760 64564 3310 61254 61562 42706 151223 1.99 1.99
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