FAIR VALUE

9 Months Ended

Sep. 30, 2013

Fair Value Disclosures [Abstract]

FAIR VALUE

FAIR VALUE

Fair Value Measurements

A fair value measurement is required to reflect the assumptions market participants would use in pricing an asset or liability based on the best available information. These assumptions include the risks inherent in a particular valuation technique (such as a pricing model) and the risks inherent in the inputs to the model.

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). We use a mid-market pricing convention (the mid-point price between bid and ask prices) as a practical measure for valuing certain derivative assets and liabilities.

Fair value accounting rules provide a fair value hierarchy that prioritizes the inputs used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurement) and the lowest priority to unobservable inputs (Level 3 measurement). The three levels of the fair value hierarchy are defined as follows:

Level 1 - Quoted prices are available in active markets for identical assets or liabilities as of the reporting date. Active markets are those in which transactions for the asset or liability occur in sufficient frequency and volume to provide pricing information on an ongoing basis.

Level 2 - Pricing inputs are observable, either directly or indirectly, but are not quoted prices included within Level 1. Level 2 includes those financial instruments that are valued using external inputs within models or other valuation methodologies.

Level 3 - Pricing inputs include significant inputs that are generally less observable from objective sources. These inputs may be used with internally developed methodologies that result in management's best estimate of fair value.

Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.

We determine fair value using a market-based approach that uses observable market inputs where available, and internally developed inputs where observable market data is not readily available. For the unobservable inputs, consideration is given to the assumptions that market participants would use in valuing the asset or liability. These factors include not only the credit standing of the counterparties involved, but also the impact of our nonperformance risk on our liabilities.

We have established a risk oversight committee whose primary responsibility includes directly or indirectly ensuring that all valuation methods are applied in accordance with predefined policies. The development and maintenance of our forward price curves has been assigned to our risk management department, which is part of the corporate treasury function. This group is separate and distinct from the trading function. To validate the reasonableness of our fair value inputs, our risk management department compares changes in valuation and researches any significant differences in order to determine the underlying cause. Changes to the fair value inputs are made if necessary.

The following tables show assets and liabilities that were accounted for at fair value on a recurring basis, categorized by level within the fair value hierarchy:

	September 30, 2013
(Millions)	Level 1		Level 2		Level 3		Total
Risk management assets
Natural gas contracts	$	0.3	$	—	$	—	$	0.3
Financial transmission rights (FTRs)	—		—		2.2		2.2
Coal contracts	—		—		1.5		1.5
Total	$	0.3	$	—	$	3.7	$	4.0
Risk management liabilities
Natural gas contracts	$	0.2	$	—	$	—	$	0.2
FTRs	—		—		0.4		0.4
Petroleum product contracts	0.1		—		—		0.1
Coal contracts	—		—		2.7		2.7
Total	$	0.3	$	—	$	3.1	$	3.4

	December 31, 2012
(Millions)	Level 1		Level 2		Level 3		Total
Risk management assets
Natural gas contracts	$	0.1	$	—	$	—	$	0.1
FTRs	—		—		1.2		1.2
Petroleum product contracts	0.1		—		—		0.1
Coal contracts	—		—		2.5		2.5
Total	$	0.2	$	—	$	3.7	$	3.9
Risk management liabilities
Natural gas contracts	$	0.6	$	—	$	—	$	0.6
FTRs	—		—		0.1		0.1
Coal contracts	—		—		9.0		9.0
Total	$	0.6	$	—	$	9.1	$	9.7

The risk management assets and liabilities listed in the tables above include NYMEX futures and options, as well as financial contracts used to manage transmission congestion costs in the MISO market. NYMEX contracts are valued using the NYMEX end-of-day settlement price, which is a Level 1 input. The valuation for FTRs is derived from historical data from MISO, which is considered a Level 3 input. The valuation for physical coal contracts categorized in Level 3 is based on significant assumptions made to extrapolate prices from the last quoted period through the end of the transaction term. For more information on our derivative instruments, see Note 3, "Risk Management Activities." There were no transfers between the levels of the fair value hierarchy during the three or nine months ended September 30, 2013, and 2012.

The significant unobservable inputs used in the valuation that resulted in categorization within Level 3 were as follows at September 30, 2013. The amounts and percentages listed in the table below represent the range of unobservable inputs that individually had a significant impact on the fair value determination and caused a derivative to be classified as Level 3.

	Fair Value (Millions)
	Assets		Liabilities		Valuation Technique	Unobservable Input	Average or Range
FTRs	$	2.2	$	0.4	Market-based	Forward market prices ($/megawatt-month) (1)	$116.47
Coal contract	1.5		2.7		Market-based	Forward market prices ($/ton) (2)	$12.21 - $14.63

⁽¹⁾  Represents forward market prices developed using historical cleared pricing data from MISO.

⁽²⁾  Represents third-party forward market pricing.

Significant changes in historical settlement prices and forward coal prices would result in a directionally similar significant change in fair value.

The following tables set forth a reconciliation of changes in the fair value of items categorized as Level 3 measurements:

	Three Months Ended September 30, 2013									Nine Months Ended September 30, 2013
(Millions)	FTRs			Coal Contracts			Total			FTRs			Coal Contracts			Total
Balance at the beginning of period	$	2.1		$	(2.3	)	$	(0.2	)	$	1.1		$	(6.5	)	$	(5.4	)
Net realized gains included in earnings	1.5			—			1.5			2.5			—			2.5
Net unrealized gains (losses) recorded as regulatory assets or liabilities	0.8			(4.5		)	(3.7		)	(0.3		)	2.2			1.9
Purchases	—			—			—			3.2			—			3.2
Sales	—			—			—			(0.1		)	—			(0.1		)
Settlements	(2.6		)	5.6			3.0			(4.6		)	3.1			(1.5		)
Balance at the end of period	$	1.8		$	(1.2	)	$	0.6		$	1.8		$	(1.2	)	$	0.6

	Three Months Ended September 30, 2012									Nine Months Ended September 30, 2012
(Millions)	FTRs			Coal Contracts			Total			FTRs			Coal Contracts			Total
Balance at the beginning of period	$	2.5		$	(9.8	)	$	(7.3	)	$	1.2		$	(6.9	)	$	(5.7	)
Net realized (losses) gains included in earnings	(0.6		)	—			(0.6		)	1.4			—			1.4
Net unrealized gains (losses) recorded as regulatory assets or liabilities	—			2.1			2.1			(0.3		)	1.5			1.2
Purchases	—			—			—			2.8			—			2.8
Sales	—			—			—			(0.1		)	—			(0.1		)
Settlements	(0.2		)	(1.6		)	(1.8		)	(3.3		)	(3.9		)	(7.2		)
Balance at the end of period	$	1.7		$	(9.3	)	$	(7.6	)	$	1.7		$	(9.3	)	$	(7.6	)

Unrealized gains and losses on FTRs and coal contracts are deferred as regulatory assets or liabilities. Therefore, these fair value measurements have no impact on earnings. Realized gains and losses on FTRs, as well as the related transmission congestion costs, are recorded in cost of fuel, natural gas, and purchased power on the statements of income.

Fair Value of Financial Instruments

The following table shows the financial instruments included on our balance sheets that are not recorded at fair value.

	September 30, 2013				December 31, 2012
(Millions)	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Long-term debt	$	849.5	$	858.4	$	871.4	$	966.2
Long-term debt to parent	6.6		7.2		7.2		8.2
Preferred stock	51.2		61.8		51.2		52.8

The fair values of long-term debt are estimated based on the quoted market price for the same or similar issues, or on the current rates offered to us for debt of the same remaining maturity. The fair values of preferred stock are estimated based on quoted market prices, when available, or by using a perpetual dividend discount model. The fair values of long-term debt instruments and preferred stock are categorized within Level 2 of the fair value hierarchy.

Due to the short-term nature of cash and cash equivalents, accounts receivable, accounts payable, notes payable, and outstanding commercial paper, the carrying amount for each such item approximates fair value.