NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Nature of Business

Avista Corp. is an energy company engaged in the generation, transmission and distribution of energy, as well as other energy-related businesses. Avista Utilities is an operating division of Avista Corp., comprising the regulated utility operations. Avista Utilities generates, transmits and distributes electricity in parts of eastern Washington and northern Idaho. In addition, Avista Utilities has electric generating facilities in Montana and northern Oregon. Avista Utilities also provides natural gas distribution service in parts of eastern Washington and northern Idaho, as well as parts of northeast and southwest Oregon. Avista Capital, Inc. (Avista Capital), a wholly owned subsidiary of Avista Corp., is the parent company of all of the subsidiary companies in the non-utility businesses, except Spokane Energy, LLC (Spokane Energy). Avista Capital’s subsidiaries include Ecova, Inc. (Ecova), a 79.0 percent owned subsidiary as of September 30, 2012. Ecova is a provider of energy efficiency and other facility information and cost management programs and services for multi-site customers and utilities throughout North America. See Note 12 for business segment information.

Basis of Reporting

The condensed consolidated financial statements include the assets, liabilities, revenues and expenses of the Company and its subsidiaries, including Ecova and other majority owned subsidiaries and variable interest entities for which the Company or its subsidiaries are the primary beneficiaries. Intercompany balances were eliminated in consolidation. The accompanying condensed consolidated financial statements include the Company’s proportionate share of utility plant and related operations resulting from its interests in jointly owned plants.

Taxes Other Than Income Taxes

Taxes other than income taxes include state excise taxes, city occupational and franchise taxes, real and personal property taxes and certain other taxes not based on net income. These taxes are generally based on revenues or the value of property. Utility related taxes collected from customers (primarily state excise taxes and city utility taxes) are recorded as operating revenue and expense and totaled the following amounts for the three and nine months ended September 30 (dollars in thousands):


	Three months ended September 30,				Nine months ended September 30,
	2012		2011		2012		2011
Utility taxes	$	10,741	$	10,270	$	41,353	$	41,551

Other Expense - Net

Other expense - net consisted of the following items for the three and nine months ended September 30 (dollars in thousands):


	Three months ended September 30,						Nine months ended September 30,
	2012			2011			2012			2011
Interest income	$	(166	)	$	(455	)	$	(804	)	$	(1,029	)
Interest on regulatory deferrals		(19	)		(15	)		(43	)		(83	)
Equity-related AFUDC		(1,127	)		(421	)		(2,875	)		(1,655	)
Net loss on investments		2,430			560			2,957			597
Other expense		2,877			1,957			7,040			5,466
Other income		(186	)		—			(1,169	)		(235	)

Total	$	3,809		$	1,626		$	5,106		$	3,061

Included in net loss on investments for the three months and nine months ended September 30, 2012 are impairment losses of $2.4 million related to the impairment of the Company’s investment in a fuel cell business and the write-off of the Company’s investment in a solar energy company.

Investments and Funds Held for Clients and Client Fund Obligations

In connection with the bill paying services, Ecova collects funds from its clients and remits the funds to the appropriate utility or other service provider. Some of the funds collected are invested by Ecova and classified as investments and funds held for clients and a related liability for client fund obligations is recorded. Investments and funds held for clients include cash and cash equivalent investments and investment securities classified as available for sale. Investments and funds held for clients as of September 30, 2012 are as follows (dollars in thousands):


	Amortized Cost		Unrealized Gain		Fair Value
Cash and cash equivalents	$	31,874	$	—	$	31,874
Securities available for sale:
U.S. government agency		63,207		251		63,458
Municipal		5,049		133		5,182
Corporate fixed income – financial		6,544		90		6,634
Corporate fixed income – industrial		4,905		94		4,999
Corporate fixed income – utility		1,035		33		1,068
Certificates of deposit		1,000		11		1,011

Total securities available for sale		81,740		612		82,352

Total investments and funds held for clients	$	113,614	$	612	$	114,226

Investments and funds held for clients as of December 31, 2011 were as follows (dollars in thousands):


	Amortized Cost		Unrealized Gain (Loss)			Fair Value
Cash and cash equivalents	$	21,957	$	—		$	21,957
Securities available for sale:
U.S. government agency		74,721		172			74,893
Municipal		425		—			425
Corporate fixed income – financial		11,139		15			11,154
Corporate fixed income – industrial		6,495		23			6,518
Corporate fixed income – utility		2,088		4			2,092
Certificates of deposit		1,500		(3	)		1,497

Total securities available for sale		96,368		211			96,579

Total investments and funds held for clients	$	118,325	$	211		$	118,536

Investments and funds held for clients are classified as a current asset since these funds are held for the purpose of satisfying the client fund obligations. Approximately 93 percent and 88 percent of the investment portfolio was rated AA or higher as of September 30, 2012 and December 31, 2011, respectively, by nationally recognized statistical rating organizations. All fixed income securities were rated at least investment grade as of September 30, 2012 and December 31, 2011.

Proceeds from sales, maturities and calls of securities available for sale were $103.5 million for the nine months ended September 30, 2012 with gross realized gains of $0.3 million and there were not any gross realized losses. Proceeds from sales, maturities and calls of securities available for sale were $32.0 million for the three months ended September 30, 2012 with gross realized gains of $0.1 million and there were not any gross realized losses. There were no sales, maturities and calls of securities available for sale during the first nine months of 2011.

Contractual maturities of securities available for sale (at fair value) as of September 30, 2012 and December 31, 2011 are as follows (dollars in thousands):


	Due within 1 year		After 1 but within 5 years		After 5 but within 10 years		After 10 years		Total
September 30, 2012	$	2,455	$	17,109	$	55,789	$	6,999	$	82,352
December 31, 2011		425		55,126		41,028		—		96,579

Actual maturities may differ due to call or prepayment rights and the effective duration was 1.8 years as of September 30, 2012 and 1.3 years as of December 31, 2011.

Goodwill

Goodwill arising from acquisitions represents the excess of the purchase price over the estimated fair value of net assets acquired. The Company evaluates goodwill for impairment using a discounted cash flow model on at least an annual basis or more frequently if impairment indicators arise. The Company completed its annual evaluation of goodwill for potential impairment as of November 30, 2011 for the other businesses and as of December 31, 2011 for Ecova and determined that goodwill was not impaired at that time. The changes in the carrying amount of goodwill are as follows (dollars in thousands):


	Ecova		Other		Accumulated Impairment Losses			Total
Balance as of December 31, 2011	$	33,799	$	12,979	$	(7,733	)	$	39,045
Goodwill acquired during the period		33,484		—		—			33,484
Adjustments		1,254		—		—			1,254

Balance as of the September 30, 2012	$	68,537	$	12,979	$	(7,733	)	$	73,783

Accumulated impairment losses are attributable to the other businesses. The goodwill acquired in 2012 was related to Ecova’s acquisition of LPB Energy Management (LPB) effective January 31, 2012. The adjustment to goodwill recorded represents purchase accounting adjustments for Ecova’s acquisition of Prenova based upon further review of the fair market values of relevant assets and liabilities identified as of the acquisition date.

Other Intangibles

Other Intangibles represent the amounts assigned to client relationships related to the Ecova acquisition of Cadence Network in 2008 (estimated amortization period of 12 years), Ecos in 2009 (estimated amortization period of 3 years), Loyalton in 2010 (estimated amortization period of 6 years), Prenova in 2011 (estimated amortization period of 9 years) and LPB in 2012 (estimated amortization period of 3 to 10 years), software development costs (estimated amortization period of 3 to 7 years) and other. Other Intangibles are included in other intangibles, property and investments - net on the Condensed Consolidated Balance Sheets. Amortization expense related to Other Intangibles was as follows for the three and nine months ended September 30 (dollars in thousands):


	Three months ended September 30,				Nine months ended September 30,
	2012		2011		2012		2011
Other intangible amortization	$	2,436	$	1,145	$	7,091	$	3,298

The following table details the future estimated amortization expense related to Other Intangibles for each of the five years ending December 31 (dollars in thousands):


	2012		2013		2014		2015		2016
Estimated amortization expense	$	2,268	$	8,899	$	7,929	$	5,633	$	4,687

The gross carrying amount and accumulated amortization of Other Intangibles as of September 30, 2012 and December 31, 2011 are as follows (dollars in thousands):


	September 30,			December 31,
	2012			2011
Client relationships	$	32,959		$	18,859
Software development costs		32,935			29,327
Other		5,672			3,065

Total other intangibles		71,566			51,251

Client relationships accumulated amortization		(6,871	)		(3,623	)
Software development costs accumulated amortization		(15,392	)		(12,016	)
Other accumulated amortization		(1,480	)		(990	)

Total accumulated amortization		(23,743	)		(16,629	)

Total other intangibles - net	$	47,823		$	34,622

Derivative Assets and Liabilities

Derivatives are recorded as either assets or liabilities on the Condensed Consolidated Balance Sheets measured at estimated fair value. In certain defined conditions, a derivative may be specifically designated as a hedge for a particular exposure. The accounting for derivatives depends on the intended use of the derivatives and the resulting designation.

The Washington Utilities and Transportation Commission (WUTC) and the Idaho Public Utilities Commission (IPUC) issued accounting orders authorizing Avista Utilities to offset commodity derivative assets or liabilities with a regulatory asset or liability. This accounting treatment is intended to defer the recognition of mark-to-market gains and losses on energy commodity transactions until the period of settlement. The orders provide for Avista Utilities to not recognize the unrealized gain or loss on utility derivative commodity instruments in the Condensed Consolidated Statements of Income. Realized gains or losses are recognized in the period of settlement, subject to approval for recovery through retail rates. Realized gains and losses, subject to regulatory approval, result in adjustments to retail rates through purchased gas cost adjustments, the Energy Recovery Mechanism (ERM) in Washington, the Power Cost Adjustment (PCA) mechanism in Idaho, and periodic general rates cases. Regulatory assets are assessed regularly and are probable for recovery through future rates.

Substantially all forward contracts to purchase or sell power and natural gas are recorded as derivative assets or liabilities at estimated fair value with an offsetting regulatory asset or liability. Contracts that are not considered derivatives are accounted for on the accrual basis until they are settled or realized, unless there is a decline in the fair value of the contract that is determined to be other than temporary.

Fair Value Measurements

Fair value represents the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. Energy commodity derivative assets and liabilities, investments and funds held for clients, deferred compensation assets, as well as derivatives related to interest rate swap agreements and foreign currency exchange contracts, are reported at estimated fair value on the Condensed Consolidated Balance Sheets. See Note 9 for the Company’s fair value disclosures.

Regulatory Deferred Charges and Credits

The Company prepares its condensed consolidated financial statements in accordance with regulatory accounting practices because:

•

rates for regulated services are established by or subject to approval by independent third-party regulators,

•

the regulated rates are designed to recover the cost of providing the regulated services, and

•

in view of demand for the regulated services and the level of competition, it is reasonable to assume that rates can be charged to and collected from customers at levels that will recover costs.

Regulatory accounting practices require that certain costs and/or obligations (such as incurred power and natural gas costs not currently included in rates, but expected to be recovered or refunded in the future) are reflected as deferred charges or credits on the Condensed Consolidated Balance Sheets. These costs and/or obligations are not reflected in the Condensed Consolidated Statements of Income until the period during which matching revenues are recognized. If at some point in the future the Company determines that it no longer meets the criteria for continued application of regulatory accounting practices for all or a portion of its regulated operations, the Company could be:

•

required to write off its regulatory assets, and

•

precluded from the future deferral of costs not recovered through rates at the time such costs are incurred, even if the Company expected to recover such costs in the future.

Contingencies

The Company has unresolved regulatory, legal and tax issues which have inherently uncertain outcomes. The Company accrues a loss contingency if it is probable that a liability has been incurred and the amount of the loss or impairment can be reasonably estimated. The Company also discloses losses that do not meet these conditions for accrual, if there is a reasonable possibility that a loss may be incurred.